A good Q1 innings for Box as WFH sweeps enterprise

Content collaboration vendor Box beat analyst expectations in its Q1 earnings issued yesterday, the first results to show the impact of the COVID-19 pandemic and lockdown. Speaking to Wall St analysts, CEO Aaron Levie summed up the company's progress with a baseball analogy. Its rapid switch to virtual selling as everyone began working from home (WFH) is already in "one of the latter innings," he says. At the same time, enterprise customers are still in "the very early innings" of adapting to "the future of what their workplace looks like." This is a future where Box aims to play a strategic role, says Levie:

We are at the beginning of what will be one of the most transformative periods in business history. Over the past couple of months, I have been speaking with dozens of CIOs and CEOs of Fortune 500 companies and it's very clear that building toward a digital-first workplace will be a key pillar in a much broader 'new normal' for how organizations operate going forward.

Despite acknowledging some softness in the small and mid-size business (SMB) sector due to economic pressures, Levie sees this balanced by a pick-up in enterprise momentum, particularly in expanding usage among existing customers. Less than 10% of the company's revenue comes from the industries hardest hit by COVID-19, while sales to existing customers contributed more than 70% of the quarter's new bookings. Levie cited one example of an enterprise-wide expansion that was closed within the quarter:

In one case, we had a Fortune 500 company that was using Box in one subset of their organization and then they decided to roll us out effectively enterprise-wide. And that turns, you know, what may have been normally a multi-quarter sales cycle into really under a couple months.

Box Q1 numbers in detail

The result was that revenue growth more or less remained on track during the quarter. Meanwhile, earlier steps the company had taken during the previous quarter to keep a lid on costs resulted in a significant drop in sales and marketing expense, to 34% of revenue compared to 43% a year ago. That helped slice total operating expenditure to 64% from 74% a year ago. The result was a significant beat of analyst expectations in the non-GAAP net income per share, diluted, which came in at $0.10, twice the level analysts had been foreseen. Other highlights of the numbers were:

• Q1 revenue came in at $183.6 million, up 13% from the same quarter a year ago.
• 40 deals worth more than $100,000 were closed in the quarter compared to a 33 a year ago, up 21% year-over-year. Larger deals remained at much the same level as last year, with five deals over $500,000 (one less than a year ago) and three deals over $1 million (same as a year ago).
• Net retention rate rose slightly to 107% as customer expansion rates improved, while churn remained at 5%, both on an annualized basis.
• GAAP operating loss was $24.2 million, or 13% of revenue, improved from $35.4 million, or 22% of revenue, a year ago. The non-GAAP equivalent moved into positive territory at $17.2 million, or 9% of revenue, up from a narrow loss of $3.0 million, or 2% of revenue, a year ago.
• Net cash provided by operating activities totaled $61.9 million, compared to $25.5 million in the first quarter of fiscal year 2020.

The company slightly trimmed its guidance for FY21 total revenue by 1% to around $764 million, keeping projected growth for the year just in double-digit territory at 10%. But there was a rise of a couple of percentage points in the guidance for non-GAAP operating margin, to come in at 11-12%. This allowed the important target for FY 2021 of combined revenue growth rate plus free cash flow margin to remain at 25%.

Making the switch to virtual selling

The lockdown meant that Box's sales teams had to quickly adapt to an all-virtual style of selling, as the company's workforce switched to working from home and travel to customer sites became impossible. The transition was completed successfully, says Levie, which is where that baseball analogy comes in:

Our response is probably in one of the latter innings in terms of our ability to go and sell to customers — that virtual sales methodology, doing virtual events, having virtual executive briefings. We were able to move to that model within really, you know, honestly a week or two in this environment ...

Effectively all of the big transactions that we did in the quarter were done post the pandemic kicking off. So they were being done completely remotely, completely virtually, and driving those large deals. So our ability to sell to customers and drive adoption remains very, very resilient right now.

Virtual selling has also accelerated the speed at which deals can be done, he added:

We are very excited about that transition to more virtual selling, that ability to get more and more customers on video right away. It used to be that if we wanted to go have a conversation with a Fortune 500 company, that might be punted by two, three, four weeks out. You had to travel. You had to get the team together. We are having those meetings get scheduled within a day or two of the initial kickoff.

Box will stay a digital-first company even after lockdown ends, says Levie, and employees can work from home until at least the end of the year. In line with this stance, the company announced this week that its annual user conference will go ahead as BoxWorks Digital in September. That will be a big opportunity to reach a category of buyer that was never able to make it to the physical event in San Francisco, he says:

We are going to expect tens of thousands of attendees to that virtual event because it's so much more efficient to be able to have people then dial in and tune in to a virtual conference.

So we can actually broaden the amount of customers that we are able to reach with an event like that and start to reach demographics and customers that maybe we wouldn't have been able to get to fly out to San Francisco to attend.

In the early innings of enabling remote work

Returning to the baseball analogy, the task of helping enterprises make the move to a more distributed form of digitally connected teamwork has just begun, Levie believes:

I think we are in the very early innings of what, to us we are really excited about, which is companies are now starting to realize that they have to re-evaluate what the future of their workplace looks like, what the future of their business processes look like.

The immediate response has been to roll out solutions like Box to help enable remote working, but there are further opportunities for Box to offer add-on products for security, compliance and governance, he explains:

We are going to see a big shift toward the first phase, being how do people work remotely. Then the question starts to emerge, 'How do we keep employees secure in this environment? How do we keep our compliance standards up to the levels that they need to be? How do we ensure data governance in this environment?

The first phase is data security because you don't want people working from home and then accidentally having malicious files on their computers or having malicious actors be able to access data. So Box Shield is a core product area for us to continue to innovate on to help drive threat detection and better security offerings for our customers right now.

My take

A decent quarter for Box, which has been able to keep its revenue growth intact while also doing well on its promised margin improvement. But then it's hardly surprising for a vendor that specializes in enabling digital teamwork — this is one of the few sectors where demand has remained strong, as working from home has been the only way many businesses could keep operating at all.

What's notable is that two thirds of the growth has come from selling more to existing customers. The corollary is that only one third has come from new logos. This was accompanied by a dip in professional services revenues as less work was done on rolling out new implementations. Notice also that the number of big deals remained flat, while smaller six-figure deals continued to grow.

This is evidence that enterprise buyers are looking for more 'quick-hit' implementations at the current time. Box has been able to deliver on those, and so long as it can find enough of them to make up for the slowdown in other segments, its growth remains on track. But this does make predictions difficult as we move into the second half of the year. As well as getting used to virtual selling, Box may need to double down on an incremental approach as enterprise buyers divide up their spending into smaller, more rapid-fire chunks.