RingCentral, Inc. (RNG) Q2 2015 Earnings Report, Transcript and Summary

Welcome to the RingCentral Second Quarter 2015 Earnings Conference Call. [Operator Instructions]. I would now like to turn the conference over to your host, Mr. Clyde Hosein, Chief Financial Officer for RingCentral. Thank you, Mr. Hosein. You may begin.

Good afternoon and welcome to RingCentral's second quarter 2015 earnings conference call. I am Clyde Hosein, RingCentral's Chief Financial Officer. Joining me on today's call is Vlad Schmunis, Founder Chairman and CEO. Our format today will include prepared remarks by Vlad and me, followed by Q&A. The primary purpose of today's call is to provide you with information regarding our performance for the second quarter of 2015, along with our financial outlook for third quarter and full year 2015. Some of our discussions and responses to your questions may contain forward-looking statements, including statements regarding our expected financial results for the third quarter and full year of 2015, our future plans, prospects and opportunities, trends in the business communications market, our expectations regarding our expansion upmarket and our carrier and other reseller relationships, the expected benefits of the Glip acquisition, our growth strategies, current and future market position and expected growth. These statements are subject to risk and uncertainties. Actual results may differ materially from our forward-looking statements and projections for a variety of reasons, including but not limited to general economic and market conditions, the effects of competition and technological change, the success of our marketing, sales and retention efforts and customer demand for and acceptance of our products and services. A discussion of the risks and uncertainties related to our business is contained in our 10-Q for the quarter ended March 31, 2015 and filed with the Securities and Exchange Commission and is incorporated by reference into today's discussion. We disclaim any obligation to update information contained in our forward-looking statements, whether as the result of new information, future events or otherwise. I encourage you to visit our Investor Relations website at ir.ringcentral.com to access our second quarter 2015 earnings press release, our non-GAAP to GAAP reconciliation, our period SEC reports, a webcast replay of today's call and to learn more about RingCentral. With that, let me turn the call over to Vlad.

Thanks, Clyde. Welcome everyone and thank you for joining us today. In the second quarter we continued to extend our market leadership and capitalize on the strong and growing demand for our cloud-based business communication software. In addition to reviewing our financial results, on today's call we will, one, give you an overview of how our software solution has evolved over the past year. Two, provide an update on our progress against our strategic growth initiatives. And three, share some details about a few recent success stories from the field. But first, let me thank our customers and our great team of innovators and customer-facing professionals at RingCentral for making our solution the leading cloud business-focused communications platform. Our dedication to innovation through software as a service technology enables us to address the very large global greenfield and replacement business communications market with a total tens of billions of dollars annually. RingCentral's cloud-based software solutions are easy to use, easy to deploy and manage and are designed to address needs of modern distributed and model workforces. Our multi-tenant platform scale from small business all the way to a multi-thousand employee enterprise. We're a truly disruptive force in the market, as evidenced by our continued industry-leading growth and the solid roster of customers and partners leveraging our integrated cloud solution. We were also the only scaled-up SaaS business communications provider with three major carriers reselling our solutions in multiple geographies. Let me expand on the term, integrated solution. Our software tightly integrates core communications applications like voice, text, fax and audio, video and web conferencing and messaging. Additionally, our open platform couples these capabilities with best-of-breed business applications for sales, support, analytics and storage. Over the past several quarters we have done the following. We opened up our RingCentral Connect platform to enable custom integrations. We delivered out-of-the-box integrations with leading applications like Office 365, Salesforce and Google At Work. We introduced RingCentral Conference Center throughout our capabilities, particularly for larger customers. Last but not least, we acquired Glip, a business messaging and calibration platform for teams. By connecting the enterprise across all these dimensions, we empower the modern workforce to be more connected, more collaborative, more mobile and more productive across all applications and devices. Here are some more color and proof points. First, with RingCentral Connect open platform, customers and independent software vendors can create custom workflows by combining our communications solution with their business applications. For example, in Q2 we signed up a large provider of cloud-based human capital management solutions including HR, payroll and benefits. The customer needed to integrate a communications solution with their multiple beacon systems to automatically manage sales territory reassignments with no impact to customer-facing interactions. Our developer-centric approach also enables ISVs such as is Oho to build workflow integrations [indiscernible] in as little as three weeks. The success of the RingCentral Connect platform is being validated by strong traction with third-party apps. You can check out our app gallery at developer.RingCentral.com. Second, we offer numerous prebuilt integrations with best-of-breed applications such as Google At Work. Salesforce, Zendesk, Dropbox, Box and Oracle Sales Cloud. In particular, our integrations with Salesforce.com and Google At Work continue to drive several large wins. Additionally, just last week we announced the integration with Microsoft Office 365, turning it into a powerful communications and productivity hub. With a staff of millions of paid users for Office 365, this is a tremendous new potential growth vector for RingCentral. Third, last quarter we announced RingCentral Contact Center. Similar to our other products, it offers simplified and transparent pricing and packaging that could prove disruptive in the space. I am pleased to announce that we already won several deals with existing as well as new customers. Importantly, in Q2 we acquired Glip, a cloud business messaging and collaboration applications for teams. Glip is currently differentiated by its built-in task and project management and enterprise security capabilities, like encryption address. Some of Glip's current customers include companies like IBM, CBS Interactive, The Economist and Harvard University. By integrating Glip with RingCentral Office we deliver the industry's first integrated cloud business communication and team collaboration solution which will empower teams to work across all locations, devices and modes of communication. We see this as a potential game-changer. I would also like to give you an update on our go-to-market initiatives. Our indirect channel continue to perform. Through resellers we're [indiscernible] well-known brands such as PGA of America, a new customer for us with more than 250 hits. This excellent win also leveraged our Microsoft Office 365 integration. On the new carrier front, we're seeing solid traction with BT and Dell, both of which launched at the beginning of the year. In Q2 [indiscernible] partners grow hundreds of new customers and thousands of seats for us. For example, BT has a customer win of over 200 seats with the leading enterprise recruitment company in the UK with the potential to add more than 1000 additional seats over time. This win leveraged our Google At Work integration. AT&T continues to be a great partnership for us and Q2 was one of the strongest quarters. One of the key wins was with a large transportation group in North America which has over 5000 employees spread across hundreds of location. We're currently 10% to 15% deployed and expect the rollout to complete in the next few quarters. We're also seeing steady success with other [indiscernible] and in particular with our expansion upmarket. Annualized MRS for customers with at least 50 users grew by over 100% year over year yet again for the fifth consecutive quarter and once again accounted for over 20% of RingCentral's Office bookings. One of our key wins in the quarter was an 800-seat deal with the leading enterprise mobile infrastructure vendor. This strategic deal is a complete replacement of large on-premise fiscal deployment across multiple locations and across multiple geographies, both domestically and internationally. Contributing to this win were our integration capabilities, including our recent integration with Microsoft Office 365. Another key win in Q2 included a 700-seat win at Medallion, a leading cloud provider to improve customer experience. This was another example of a complete replacement of a legacy on-premise system to support Medallion's rapid [indiscernible] growth. Given our track record, momentum and strong commitment to innovation, I'm confident that we will continue to execute and will remain at the forefront of the powerful and continuing shifts in how business people communicate worldwide. I will now turn the call over to Clyde for a review of our financials and guidance.

Thanks, Vlad, for your update on our product and market initiatives. Very exciting. Now let me provide some color on our financial results and forecast. We continue to generate strong top-line growth and significant margin expansion in the second quarter. Total revenue for the second quarter was $70.7 million, up 34% year over year and 8% sequentially. This was above our guidance of $68 million to $69 million. Subscription revenue grew to $64.4 million, up 35% year over year and 7% sequentially. On a constant currency basis our year-over-year growth would have been 36%. Product revenues grew to $6.3 million and contributing 9% of revenue in the quarter. Total annualized exit monthly recurrence subscriptions or ARR, grew to approximately $275 million, up 35% year over year and 8% sequentially. The ARR for our RingCentral Office product grew to approximately $205 million, up 40% year over year and 11% sequentially. This growth continues to be driven by a combination of user and ARPU growth, as larger customers continue to adopt higher-priced premium and enterprise editions. Our overall net monthly subscription dollar retention rate remained over 99% in the second quarter. Office net monthly suspicion dollar retention was once again over 100%. Before I move further down the income statement, I want to remind you that my commentary will be focused on non-GAAP results. A reconciliation of all non-GAAP to GAAP results is provided with our earnings press release issued earlier today. Subscription gross margin improved to a record 75.1% in the quarter and for the first time is within our previously announced target range of 75% to 80%. Subscription gross margin was up over 5% from 69.8% in Q2 of last year and 90 basis points from 74.2% in Q1 of this year. This represents our ninth consecutive quarter of improvement. We believe we can continue to reap the benefits of scale in our infrastructure and to achieve lower transport costs. For the full year 2015 we now expect subscription gross margin to improve over 3.5 points compared to 2014, up from my previous outlook of 3 points. We reiterate our view that a higher subscription gross margin is an important indicator of the benefits customer get from a multi-tenet cloud-based model. Our subscription gross margin is now on par with those of other leading SaaS companies. Product gross margins was 19.6% in the quarter, a 16-point increase over Q2 of last year, driven primarily through efficiencies in the supply chain. Although we may see some variable in quarter to quarter based on product mix, we continue to expect product gross margins of about 10%. Consolidated gross margin which includes subscriptions and product, was 70.2%, up from 63.6% in Q2 of last year and 69.2% in the previous quarter. Sales and marketing expenses were $32.9 million for the quarter or 47% of revenues, compared to 46% from Q2 of last year. We continue to see attractive unit economics in the model as we experience strong growth with customers of all sizes. Each $1 of sales and marketing invested continues to contribute $8 of revenue and $5 of contribution margin over the projected life of an office customer. R&D expenses were $10.9 million in the second quarter or 15% of revenues, improving from 19% of revenues in Q2 of 2014. G&A expenses were $9.2 million in Q2 or 13% of revenues, improvement from 15% of revenues in Q2 of 2014. We had an operating loss of $3.4 million which equates to an operating margin of negative 4.8%. This is an improvement of 12 points from Q2 of last year and 260 basis points from the previous quarter. This was better than our guidance of negative 6% to negative 8% for the quarter. We continue to target to be at or near breakeven in the fourth quarter of this year. Non-GAAP net loss improved to $3.5 million compared to a net loss of $9.4 million in Q2 of last year. Non-GAAP net loss per share was $0.05 based on 69 million diluted shares. This is better than our Q2 guidance range of a loss of $0.07 to $0.09 per share. Our earnings per share in the second were positively impacted by roughly $0.01 due to currency remeasurement effects on our foreign balance sheet. This amount is embedded in our other income line. On a GAAP basis our Q2 net loss was $8.2 million or $0.12 per share. The difference between our GAAP and non-GAAP results includes $5.3 million or $0.08 per share, in stock-based compensation and a net benefit of about $0.01 from the combination of the tax credit offset by one-time expenses from our Glip acquisition, both of which were excluded from our non-GAAP results. We ended Q2 with cash and short-term investments of $133 million compared to $136 million at the end of Q1. Deferred revenue was $31 million as of June 30, growing 10% sequentially and 54% year over year as we have been experiencing continued year-over-year increases in both upfront payment terms and longer-term contracts. Through the quarter cash flow from operations was a positive $900,000 compared to negative $8.5 million for Q2 of last year and negative $700,000 for Q1 of this year. Now turning to our guidance for the third quarter and full year 2015. For the third quarter we're expecting revenue of $74 million to $75 million or growth of about 30% to 32% year over year. We expect non-GAAP operating margin of negative 3% to negative 4%. This should lead to a non-GAAP loss per share of $0.03 to $0.05 based on 70 million weighted average shares outstanding. For the full year 2015 we expect revenue of $280 million to $292 million or growth of 31% to 33% year over year which is an increase from our prior guidance of $283 million to $289 million. Non-GAAP operated margin of negative 3% to negative 4%, an improvement of one point our prior guidance of negative 4% to negative 5%. This should lead to non-GAAP net loss per share of $0.16 to $0.20 based on 70 million weighted shares outstanding, an improvement from our prior guidance of a loss of $0.20 to $0.24. In summary, our results in the second quarter and the progress we have made in the last year demonstrates our ability to do a number of things concurrently. First, we continued to deliver a high revenue growth rate, amongst of the highest in our industry. Second, we have meaningfully added large customers and new functionality to our platform. And third, our profit margin improvements demonstrate our successful business model. Our strong Q2 performance and Q3 guidance further demonstrate the leverage of our business and moves RingCentral closer to our target to be at or near operating profit breakeven by the fourth quarter of this year. We believe that we're the leader in a large and underpenetrated market and have a significant opportunity ahead of us. With that, I will turn the call over to the operator for Q&A.

[Operator Instructions] Our first question comes from the line of Nikolay Beliov from Bank of America. Please proceed with your question.

I had one question for Vlad and one for Clyde. Vlad, if you could maybe comment a little bit more on how Glip fits in the overall strategy and how you will monetize Glip going forward? And Clyde, maybe if you can comment qualitatively how you think about - how we should think about marketing trajectory going forward after 2015 and the leverage you have here. Thank you.

To address your question on Glip and how it fits into the overall strategy. Basically the way that we like to drive our roadmap is by addressing customer demands. What we feel is that there is a way to augment traditional ways in which businesses communicate and those traditional ways being email, of course, voice, text, fax with the new emergent technologies which have to do with team-wise group messaging, with rich content quickly and seamlessly shared between the groups. We feel that this new approach is going to be, as I say, complimentary to everything else that is out there. And with Glip we found an asset which implemented very cleanly a very good robust team-wise messaging and collaboration system. Our plans in general are to leverage its which means that we will be integrating Glip's collaboration with RingCentral communication technologies. We believe that we're well on our way of releasing industry's first fully integrated communications and collaboration suite. Hasn't been done before. We see quite a bit of interest from customers. And have a number of people that frankly cannot wait to improve their employees' productivity by being able to leverage this new technology.

Nikolay, I think your question was margin beyond 2015. First, I'll say we're not providing guidance beyond 2015 today. We have done an impressive track record of improving profitability over the last couple of years. As everyone know, our target has been and continues to be breakeven in Q4 of this year which means for the last two years we've had eight points of margin improvement in Q4 of 2014 and 2015. That is as a result of the great unit economics we have. I mentioned earlier in the prepared remarks that each $1 of revenue brings in - $8 invested in sales and marketing brings in $8 of lifetime revenue and $5 of lifetime profit. The benefit of which you seen - in significant improvement in profitability, that will continue. That's not going to change in 2016. And whilst we aren't providing guidance, in 2016 we will continue to improve, but now we can trade off with even faster growth. We've been growing the company, rough numbers, in the mid-30%s and still punch in very good profitability. 2016 could give us some more latitude in terms of the trade-off of profitability and improve profitability with even more revenue growth.

Our next question comes from the line of Brad Zelnick from Jefferies. Please proceed with your question.

Two questions, first for Vlad. Vlad, Office 365, it's a fantastic opportunity and was hoping you could provide some more color. Clearly this is the leading office suite out there that every knowledge worker in the world is using. But if you could speak a bit to how you take that to market and how you actually monetize and how unique that is. And then my question for Clyde. Clyde, the gross margin progression is fantastic. If we look at the first half of this year, you are up about 500 basis points year on year. And your guide for the back half, I just want to make sure that there's some conservatism is in there or is there anything seasonal that we should be thinking about? And along the lines on long term, a year ago I wouldn't have thought that just a year later, today, we would already be in that long-term range. What's the reason why this company can't see 85% gross margin?

I guess I will take the first question on Office 365. Look, you're absolutely right. It is a fantastic opportunity. We feel very, very good about our ability to work closely with Microsoft. I wouldn't say that every knowledge worker in the world is using Office 365, but certainly vast majority of them do. And what it is, is almost going back to my last answer, is this all is really truly driven by customer demand. Especially upmarket, of course most companies are Microsoft customers. Many of them are choosing to get off Exchange and into Office 365. Office 365 is the leading productivity suite in the cloud, but there's not a business communications component that is available for it natively from Microsoft through the cloud. What Microsoft and I can't speak for them, but I believe their basic strategy is to be an open platform and to enable industry's leaders to offer complimentary services for closed and tight integration with Office 365. That's exactly what was done. Again, the underlying principle here is employee productivity. So we have a deep integration which allows people to stay within the Office 365 environment and the dashboard while enjoying all the power of RingCentral. We don't think from what we know that other integrations at this level of integration and this [indiscernible] that they currently exist. We've had fantastic reception in the field. And in my prepared remarks, I believe was highlighted a few cases to where major accounts were secured basically based on our ability to work so closely with Microsoft. We're pretty excited about this, what's been done and extremely excited about the opportunity moving forward to leverage Microsoft's huge installed base and whatever else they are doing in cloud-based productivity.

Back to your question on gross margin. Absolutely the team has done a fantastic job on gross margin, particularly to our ops team. So I want to - I know they're listening. I want to do a shout-out to Curtis and the ops team for doing a terrific job and all of the RingCentral team for doing that. It's a spectacular job. I've always believed in wherever I work that gross margin is a reflection of the value of the product. The value of the product to the customer and I think you see in that here what customers are willing to pay. We've done a great job. Yes, to your question about conservative. Yes, I think we've always been conservative, but I don't want to get - We already in the range of our targets. I guess we can start defining what is long term for you and for us. Less than two years certainly seemed long term. We're in the range today. So in terms of getting to 85%, I would say we just entered the range. I think there's room to improve within the range. So I would stay with our conservative posture and continue with that and not get too carried away. But this, I think as we move up market, I think there's opportunity where people buy higher-margin edition. I would track it from here beyond a range as to our progress in upmarket and that should yield even better margins.

Our next question comes from the line of Bhavan Suri from William Blair. Please proceed with your question.

Just a couple of quick questions here. First, it feels like the business, especially at the high end, seems to be accelerating a little bit. And it would great to see a little color on what's driving that. Is it the sales force segmentation that you had a few quarters ago? Is it the partnership? Is it a combination? Sort of obviously the RingCentral Office business, the number of customers over 50 continue to grow at 100%. Just some color on what's driving that outperformance there?

Look, we've been very clear from day one, basically from our IPO road show that going up market and penetrating the enterprise is one of our growth factors and frankly one of our major growth factors. It's really a matter of us putting wood behind the arrow, really gearing up. Putting the right processes and people and teams together. And of course also generating awareness and generating reference cases to our upmarket companies and we're talking hundreds of seats and even thousands of seats at this point, to where they are taking us seriously. Those effects are taking place. Now, additionally of course, we're pushing the roadmap forward to yet better address their needs. And I really want to highlight our platform initiative here which is a huge differentiator for us. The fact that we're able to not only offer a very nice number of out-of-box integrations that just come with the product and this is with major products like Salesforce, like Office 365 we just talked about, Google At Work, a number of others. But very importantly we opened up our platform so that people can do their own integrations and can generate their custom workflows without us having to do anything custom for them. That's a big differentiator. That's what the enterprise needs, is flexibility and full access and control of their data. And by enabling that, we really think that the roads - future's big and bright for us moving upmarket.

Just a little bit, I always ask the question on partners. How are things going with BT? And do we see any revenue from the guys in Canada, I guess? And how's the traction going with potentially adding a partner in Asia, Australia, wherever it might be?

So things are going very well. And we're seeing very good traction with BT and Telus and I think I mentioned a little bit to go, also with AT&T.

Yes, sure.

Yes, absolutely there are revenues. Both companies, meaning BT and Telus are, as well as AT&T, all right, so don't [indiscernible] me not mentioning AT&T, but all of them at this point are accelerating. I believe that all of our carrier partners are quite happy with the relationship and as are we. And we see more of this to come.

If you look at the early trajectory with BT and Telus, does it look like AT&T? Does it look better than AT&T? How should we think about, again, early days for both of those? And you had a lot of history with AT&T, but how should we think of that early trajectory? What are you seeing that gives you comfort that it's going to look like AT&T or maybe they're small and they don't look like AT&T? How should we think about that?

Look, look. All these [indiscernible] different markets and they are smaller countries. But what I can say is that it actually looks very, very good. And I would say maybe better than with AT&T in the early days, because remember we started out with very small businesses with AT&T. With both Telus and BT we're seeing accounts across spectrum. With BT, we mentioned there's a 200-seat win already. And it wasn't the case with AT&T, certainly not in the first quarter that we were doing business. And there is more to come. And also, look, we're better at it. We have a number of years of experience dealing with a Tier 1 carrier like AT&T. And of course we're able to provide and leverage this learnings to have a faster out of the gate. Things are well.

Our next question comes from the line of Terry Tillman from Raymond James. Please proceed with your question.

I would be remiss if I didn't also say nice job on the quarter. Clyde, I guess the first question, just trying to pin you down a little bit more on this balance between investing for growth and showing operating leverage. You've got a good problem on your hand in terms of there's a lot of different investment areas you could invest in. But are you suggesting, though, nothing's changed in terms of on a go-forward basis? Each year there will be margin expansion, it's just the question of how much is really up to you all as you enter a new year?

I think that's fair. We haven't finished our plans for 2016 yet and certainly don't want to get too far reaching out there. I do think we'll continue to expand, but we'll have some degrees of freedom of more margin or invest in for the growth. The opportunities for us is huge, Terry, as you know. We have only scratched the surface internationally. So there are lot of opportunities there for us that requires investment, certainly in infrastructure and certain marketing and we're beginning to do more of that beyond the countries we have. That's going to require investment and as if you know with a SaaS model the returns trail, particularly for sales and marketing. We have had good success in moving upmarket, but the market is huge, right? The U.S. alone, the non-SFV space is about $15 billion a year and so we've just scratched the surface. These are a lot of opportunities for us to grow. The upmarket requires investments in certain marketing now that will pay back on average nine months for very, very large customers. To pull that back altogether is, I think, obviously we'll continue to grow in this large and underpenetrated market. I think margin will improve. The extent by which those happen, I think we will need to figure out. And we'll provide guidance to you guys at the beginning of the year.

And I have one follow-up financial question and maybe one for Vlad after that. In terms of the deferred revenue, we were probably light in the quarter, but it does seem like maybe there is an ongoing positive shift towards annual terms or prepayments. Could you give us a sense on how much of the business is annual prepay now and what you assume going forward in terms of do you assume that that continues apace or is it more of a, you consider more status quo? Because it has cash flow implications, obviously.

Yes. So Terry, our primary objective here is to drive revenue and profit. Customers, especially as we move upmarket, tend to be more apt to pay - prepay. It's just in things we're replacing isn't an annual pay. I think you'll continue to grow. By the way, our deferred revenue was consistent with last quarter. I think it will increase over time for the reasons I described and I think that's a good reflection for investors to see the stickiness of it. In terms of numbers. I believe customers under contract is still about 50% or just over 50%. And it's probably about in the low teens in terms of the paying contract. So there's a lot of opportunity here. But as we move upmarket, I think you'll see this increasing.

Vlad, this is maybe going to be the toughest question, but I saved the best for you, then. You guys have had a lot of success now over the last couple years in terms of getting these wins that are 50 seats and now you even seem to be indicating 100-seat-plus wins. So I think that's interesting that you're calling that out in the press release. But lots of examples of having a couple hundred seats, but then there's an opportunity for another 1000, 2000. It seems like I've heard a lot of that over really the last four to eight quarters. I'm just curious, is there any gating factor on the product side that would disallow you from really becoming that corporate standard, maybe in their main home office, if you will, where maybe there's thousands of users? Are you in a position now to win that business or are there still some things on the product side or go-to-market side you have to take care of before that can happen? Thank you.

Sure. Look, we absolutely think it is ours to win. Obviously, there is no barrier that we couldn't scale, given that we do have customers with thousands of lines deployed, with thousands of seats. It's just a matter of - so these are longer sales cycles and we've been very clear about that from day one. These sales cycles can take many months, six months is not necessarily out of the ordinary. They do have more specific requirements, but we're addressing those. So as an example, Office 365 integration was one of the gating items and we're now seeing major account being much more open to consider us now that that hurdle has been removed. We have continue and high-level investment into R&D and technology. So obviously people are busy doing quite a few things. But in general and again this is maybe this is just [indiscernible] but in general what we see at this point is not so much a feature gap, but our ability to integrate quickly and seamlessly with their custom systems and custom workflows. And I can't stress enough how important our platform initiative is to that. We feel that the more robust our platform becomes, the easier it is for people to integrate and run custom workflows, custom analytics. It's - we believe it's just a matter of time before we will be seeing a steady stream of 1000-plus wins.

Our next question comes from the line of Jonathan Kees from Summit Research Partners. Please proceed with your question.

I just have a couple questions. One, I guess this is more with the gross margins. In regards to how that's improved by going upmarket, I heard that as well as the scale and with the multitenant. I guess I'm more curious in terms of how is the pricing environment? Are you finding there's a lot of discounting that's out there or are you having some pricing power out there? And then second, I have a question about the balance sheet. But we will go the first one first, please.

In my prepared remarks we talked about our ARPU increasing year over year. That should be a good indication of it, but a fair amount of that is as we extend upmarket and people buy more premium additions. From time to time there may be a deal here or there that you'd have competitive pricing on, but by and large - and for the most part, I see most if not all of those deals, but by and large I would not say it's a tough pricing environment. It's competitive, but it's not a big area of concern for us.

Okay. Great. I guess it's part of the value of what customers are willing to pay for your products. That's good to hear. Second question is more with the balance sheet. I'm just curious about DSOs and even days inventory at 12 months highs. Is that continuing to be elevated for the time being? Or are these the new norms? Or any color on that, please?

Yes. I just want to add one thing to the last thing. The other thing to keep in mind is the value proposition, right which is on the pricing question. The value proposition, we bring people a lot new function and a lot new features, easy to use, easy to implement. And it's a much cheaper than what the solutions they have today. That is one reason why you don't see the pricing. On the question on the DSOs, as you move upmarket you'll find bigger customers tend to take longer. In Q2 in particular we had some - a couple of timing payments which have been resolved in the July quarter. But in the aggregate there's nothing that I'm worried about. Trend-wise I think you'll see that creeping up. The smaller customers today, Jonathan, paid mostly on credit card and they prepaid. So there's no DSO per se. DSO in absolute terms and obviously as an absolute dollar terms on a DSO, will increase as we move upmarket. Think of that as a good surrogate. As you move upmarket, you'll see ARR increasing and DSO likely increasing too because you get into these longer agreements.

[Operator Instructions]. Our next question goes to Mike Latimore from Northland Capital. Please proceed with your question.

Just on the contact center wins in the quarter, it sounds like several thousand seats. How does the pipeline look for that? Do you see some additional acceleration here, just as a flavor for the outlook around the contact center at?

So pipeline looks good. As I mentioned, it is the upmarket and enterprise in particular is an area of focus for us. Again, these are longer cycles. But we have a number of programs in place that we think position us well to penetrate in a meaningful way the 100 and above segment. All systems go and all indications are positive. But those accounts do take quite some time to close. So it's hard to predict the results for this quarter or even for the next one. All I can say is the pipeline is looking quite healthy and we don't see any insurmountable barriers to entry for us at this point.

Our next question comes from the line of Brian Schwartz from Oppenheimer and Company. Please proceed with your question.

This is Julian Serafini in for Brian Schwartz. I had a question on international and expansion. You had announced that you're going to be moving into Asia Pacific a month ago. Can you update us on how that's going? And do you expect that to be a material contributor to your numbers for this year? Is that more of a 2016 type of thing?

Yes, certainly not for this year. Again, just like with the rest of our business and any size business, it's always takes some time to meaningfully move the needle in a subscription-based recurrent revenue business. However, these businesses tend to be - these revenues tend to be quite sticky and quite valuable which is - and we're seeing very, very good retention and improving retention. Anyway short answer is, not for this year. We haven't disclosed our specific international expansion plans beyond the region that we're in. I do want to reiterate, though, that one of our main growth vectors was enterprise. Another one was international. We tend to follow through. We've already talked quite a bit about enterprise successes that we've having. One international front, our first foot forward was UK and with the BT partnership. I believe we mentioned before that we have infrastructure in place in Europe to cover pretty much all of Western Europe. So you can expect for that to come ahead of other parts of the world. But getting back to the theme of satisfying customer demand, we do have a number of customers and a number of prospects with international operations, including Asia Pacific of course. We're quite attuned to that and we absolutely expect to meet those requirements in the - not too far into the future. Definite [indiscernible].

Our next question comes from the line of Heather Bellini from Goldman Sachs. Please proceed with your question.

This is Jack [indiscernible] filling in for Heather. Thanks for taking the question. Just going back to the messaging acquisition. I was wondering if there are other areas like you feel that it makes more sense to bring in-house as opposed to just integrating with third-party solutions via the platform? Or I guess just how do you think about that?

So look, I think we've demonstrated our ability and willingness to do what makes sense. With the Glip acquisition. With collaboration, to be clear. Not messaging but collaboration, it made perfect sense to bring in-house. We found a company that was already in the market that had a meaningful number of traction and some very interesting customers like IBM, like CBS Interactive, as I mentioned in the prepared comments. And there was a team that made sense for us to integrate. So we've pulled the trigger on that. In some other cases, for example with the contact center, as you know we chose is to partner because in that particular case we were interested in getting to market quickly with a best-of-breed solution. And we chose to partner with the industry leader in that space. I think in answer to your question, we intend to stay opportunistic. We do take pride in our own in-house development and development capabilities. But as we find pockets of technology which we think makes sense to bring in, we certainly are open to doing that, just like we did with Glip.

Our next question comes from the line of Ken Talanian from JPMorgan. Please proceed with your question.

You've landed a number of large customers over the past year or so. And again mentioned seeing and upmarket growth rate above 100%. I was wondering if you could talk about what you're seeing in terms of the breakdown of that 100% between new customer growth and expansion of existing customers?

We're extremely laser focused on improving retention and holding onto the customer base which is quite meaningful. And of course we're huge believers and we've seen great success with the land-and-expand strategy whereby we're getting into an account with maybe a few seats or a few dozen seats and then see it growing into hundreds, if not thousands. That is very much part of our strategy is to continue delighting our customers and earning their trust whereby they would be willing to take us across their entire organizations, even if they started out with a partial deployment. Having said that, we're still in the very, very early stages of the market. The market size [indiscernible] is easily measured in multiple tens of billions of dollars. Overall penetration of all cloud players combined is still seems to be in single digits. There's a huge amount of greenfield. And of course we're trying to get as much new business as we can as well. All I can say is that we're putting together the best people and the best teams we can. And we do believe we have world-class talent on both new customer acquisition, the land-and-expand strategy, as well as customer care and retention efforts. We will see more of that continuing.

Our next question comes from the line of Mike Cikos from Macquarie Capital. Please proceed with your question.

This is Mike Cikos with Macquarie here. Just had a question for you on the Glip acquisition that you guys have made. Regarding the integration that you guys are planning for later this year, if you could just comment on how you think about that product being rolled into Office? Is that going to be something that's automatically given into your existing customer base or is that going to be treated as an upsell initiative? And the reason I ask, I guess, is to come back to an earlier question. Trying to figure out gross margins and the pricing environment. Just trying to see how that pricing environment has changed at all.

So we haven't yet disclosed our specific pricing plans for the integrated product rollout. But I do believe we've mentioned in the original press release that we intend to make this integrated functionality available to all Office customers. That is still the plan. Let's just see. We're not that far away from release. I can tell you that the teams are working diligently on this. We see quite a bit of interest in this combined product. One way or another, it will translate into dollars. I can tell you that.

Our next question comes from the line of Kash Rangan from Merrill Lynch. Please proceed with your question.

Guys, this is a doubles tennis match. Nikolay and I playing against you guys on a nice sunny Thursday afternoon. Congrats on the quarter. Good to see your gross margins look more like SaaS whereas the perception of the marketplace is still very different. Nice to see your model come along very nicely. One question for you on the enterprise side of the business. Do you think that the acquisition cost and the payback periods for the enterprise segment of the market is going to be different versus the not-so-enterprise segment of the market? And how are you planning to build that into your cost structure next year, especially as it feels like and maybe you should correct me, that you can't continue to grow at a - in the 30%s while still increasing your profitability which is very remarkable? How does enterprise and getting a bigger implantation in the enterprise play into that? And if you have time, if you don't have time, don't worry about it. Your thoughts on Skype for business. And how that catalyzes your business or not catalyzes? How do you view them, as a threat or not? Thank you.

Well firstly, hopefully you're not playing against us but with us here. Okay. Look, as far as enterprise and its effect on margins. [indiscernible] that has been the concern all along, is whether we'll be able to maintain our margins as we're moving upmarkets, because presumably people are concerned with pricing power of larger accounts. The funny thing is, though, is we're moving upmarket and we're accelerating there and our margins are improving overall. And there actually is good reasons for that. While enterprises certainly negotiate rather hard, they also tend to want to go with best-in-class. They tend to take our not lowest tier but our mid or even the enterprise tier and that's moving pricing up. Also the usage patterns are much more predictable. So in many cases we're able to just offer a true win/win scenario. Short answer is, we do not expect deterioration in business fundamentals as we move upmarket. We believe that our chosen path which is let's differentiate by technology and experience and the values that we provide as opposed to competing on price, we believe it's a good strategy that we're going to stay with for the foreseeable future.

And if I may put a couple more specifics on that, Kash, is as I indicated earlier in prepared remarks as well as earlier Q&A, on a gross margin basis it's actually accretive because they tend - larger customers tend to buy higher priced editions. It's a multi-SaaS model and the like. The LTV is much longer. The time to turn this into - the time to revenue is longer and the LTV is much longer. Because you are making these investments earlier might have an near-term impact on your operating margin, but on gross margin it should be accretive. We don't have time today to talk about the Skype thing, but I think, Vlad?

Let me just quickly do that because I think it's a really good question. A very short answer to that, Kash, is here we're working closely with Office 365 which is the primary cloud property that Microsoft has. Here is what we understand about Skype for business. It still seems to be much more of a messaging product When you're considering it's cloud version, to be clear. Strictly speaking, as we sit here today, it doesn't have anything that RingCentral has to offer which is a complete business communication system in the cloud. They do have an on-prem version through Lync, but it's quite a bit different. And we've seen many people struggle. And no one really succeed with taking an on-prem solution and taking it into the cloud. It's just different technology, different DNA, different channels, et cetera, et cetera. We're working with Microsoft. We're working with Microsoft's customers with Microsoft's support. And we expect this to continue. I would not rule out some type of an integration between us and Skype for business in the messaging and collaboration space. I can tell you that there is interest from the customer community in having that type of capability available. But for the time being, we really see them as much more complementary than competitive.

Ladies and gentlemen, that is all the time we have for questions. I would like to turn call back over to Clyde Hosein for closing comments.

Thanks again for your attention this afternoon. Want to remind you we'll be presenting at Oppenheimer and Canaccord Genuity conferences in August. And we look forward to further discussions with you in the coming weeks. Have a nice evening.

Ladies and gentlemen, this does conclude today's teleconference. Thank you for your participation. You may disconnect your lines at this time and have a wonderful day.