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Earnings call: Zuora reports solid Q1 with subscription revenue up 10%

EditorAhmed Abdulazez Abdulkadir
Published 05/23/2024, 08:52 AM
© Reuters.
ZUO
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Zuora Inc . (NYSE: NYSE:ZUO) has reported its fiscal year 2025 first-quarter earnings, revealing a 10% year-over-year increase in subscription revenue and an all-time high adjusted free cash flow. The company's non-GAAP operating income also exceeded guidance, showcasing a strong financial performance despite challenging macroeconomic conditions.

Zuora's focus on expanding its install base, cross-selling, and regional growth has paid off, although new logo acquisition has slowed due to the same macro headwinds. The acquisition of Togai aims to bolster Zuora's usage-based pricing models, underlining its strategy to become a comprehensive monetization software stack for diverse business models.

Key Takeaways

  • Subscription revenue reached $99 million, a 10% increase year-over-year.
  • Non-GAAP operating income exceeded expectations at $18.6 million, with a 17% operating margin.
  • Adjusted free cash flow hit a record $31.4 million.
  • The acquisition of Togai is expected to enhance Zuora's billing and rating capabilities.
  • Customer churn impacted ARR growth and DBRR, which was factored into Q1 guidance.
  • The company remains on track to achieve a Rule of 30 run rate by year-end.
  • Q2 guidance projects subscription revenue between $101 million and $102 million.
  • Full fiscal year 2025 guidance anticipates subscription revenue of $410 million to $414 million.

Company Outlook

  • ARR growth forecasted between 8% and 10% for the year-end.
  • Q2 expected to have slightly lower ARR growth, with acceleration in the second half.
  • Full year free cash flow guidance maintained at $80 million or more.
  • The company plans to continue driving higher operating income and free cash flow.
  • Zuora aims to leverage acquisitions like Togai to attract new customers.

Bearish Highlights

  • Professional services revenue declined by 19% year-over-year to $10.8 million.
  • New logo business experienced a slowdown due to macroeconomic challenges.
  • Non-GAAP professional services gross margin decreased to negative 14%.

Bullish Highlights

  • Zuora closed two deals with an ACV of $500,000 or more in Q1.
  • Non-GAAP subscription gross margin improved by nearly 100 basis points to 81%.
  • The company ended the quarter with $547 million in cash and cash equivalents.

Misses

  • Despite the overall positive performance, the company saw a decrease in professional services revenue and gross margin.

Q&A Highlights

  • Executives emphasized the stickiness of their product and gross retention rate consistency.
  • A shift towards consumption billing in the industry was acknowledged, with a mix of pricing models expected to continue.
  • The company is seeing big deals within their customer base, indicating strong expansion potential.
  • Zuora is moving towards a more inbound lead generation strategy, utilizing digital technologies and AI tools for efficiency.

Zuora's Q1 earnings call reflected a company navigating macroeconomic headwinds with strategic acquisitions and efficiency initiatives. The company's focus on long-term customer value, product stickiness, and an evolving lead generation strategy using digital and AI tools indicates a commitment to sustainable growth. With a strong balance sheet and a clear path toward profitability, Zuora remains confident in its ability to meet its financial objectives and continue its trajectory in the era of total monetization.

InvestingPro Insights

Zuora Inc.'s (NYSE: ZUO) Q1 earnings report for fiscal year 2025 demonstrates the company's resilience and strategic focus, as highlighted by a robust increase in subscription revenue and record adjusted free cash flow. The company's financial performance is further illuminated by key metrics and insights from InvestingPro.

InvestingPro Data shows that Zuora holds a market capitalization of approximately $1.46 billion, with a notable revenue growth of 8.98% in the last twelve months as of Q4 2024. This growth is a testament to the company's ability to expand its customer base and enhance its product offerings. The company's Price / Book ratio stands at 10.92, reflecting a premium that investors are willing to pay for its book value, possibly due to expectations of future growth.

One of the InvestingPro Tips highlights that Zuora currently holds more cash than debt on its balance sheet, indicating a solid liquidity position that can support strategic moves like the acquisition of Togai. Additionally, analysts are optimistic about Zuora's future profitability, with predictions of net income growth this year and four analysts having revised their earnings upwards for the upcoming period.

For investors interested in a deeper dive into Zuora's financial health and future prospects, InvestingPro offers additional insights. There are over 6 additional tips available on InvestingPro, which can provide valuable context for understanding Zuora's stock performance and potential investment opportunities. To access these insights and more, readers can use the coupon code PRONEWS24 to get an additional 10% off a yearly or biyearly Pro and Pro+ subscription. Discover more about Zuora's financial journey and what lies ahead on https://www.investing.com/pro/ZUO.

Full transcript - Zuora Inc (ZUO) Q1 2025:

Operator: Thank you for standing by. My name is Pam and I will be your conference operator today. At this time, I would like to welcome everyone to the Zuora FY’25 Q1 Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer session. [Operator Instructions] Thank you. I would now like to turn the conference over to Luana Wolk, Head of Investor Relations. You may begin.

Luana Wolk: Good afternoon and welcome to Zuora's First Quarter Fiscal 2025 Earnings Conference Call. On the call we have Tien Tzuo, Zuora's Founder and Chief Executive Officer, and Todd McElhatton, Zuora's Chief Financial Officer. Robbie Traube, our President and Chief Revenue Officer, will be joining us for the Q&A session. During today's call, we'll make statements that represent our expectations and beliefs concerning future events that may be considered forward-looking under Federal Securities Laws. These statements reflect our views only as of today and should not be relied upon as representative of our views as of any subsequent date. We disclaim any obligation to update any forward-looking statements or outlook. These statements are subject to several risks and uncertainties that could cause actual results to differ materially from expectations. So for further discussion of the material risks and all the important factors that could affect our financial results, please refer to our filings with the SEC. And finally, unless otherwise noted, all numbers except revenue mentioned today are non-GAAP. You can find a reconciliation from GAAP to non-GAAP results for both the current and the prior year periods in today's press release. A press release and a replay of today's call can be found on Zuora's Investor Relations website at investor.zuora.com. Now I'll turn the call over to you, Tien.

Tien Tzuo: Thank you, Luana, and thank you everyone for joining Zuora's first quarter fiscal 2025 earnings call. When I look back on the puts and takes of this past quarter, I would say I feel good about the progress we continue to make against the macro environment facing the technology industry. We continue to deliver on our guidance. We continue to benefit from a solid enterprise customer base with strong expansion opportunities. And of course, we remain focused on our strategy to deliver profitable, durable growth. Let's start with the numbers. In Q1 subscription revenue was $99 million up 10% year-over-year at the high end of our range. We exceeded guidance for non-GAAP operating income at $18.6 million, equating to a 17% operating margin, which is a quarterly record. Our adjusted free cash flow was at an all-time high of $31.4 million for this quarter, a significant increase from the $13 million we delivered in Q1 of last year. And finally, against the Rule of 40 framework, which combines growth and profitability, we are on track to exit this fiscal year at 30, up from the 26th level that we hit at the end of last year. One highlight of Q1, I would say, is our install-base expansion. Our stable of large enterprise customers continues to anchor the durability of our business. Our customer satisfaction levels continue to rise as measured by Net Promoter Score. Customers continue to love our new innovations, and this is driving strong expansion opportunities. In fact, in Q1, we saw a year-over-year increase in cross-sells, with customers either adding another Zuora product or adopting our technology in new business units. Some examples. Our customers are adopting additional products like Zephr. The Economist, a leading news magazine with over a million subscribers, is a Zuora billing customer that added Zephr in Q1. Their digital subscriber base continues to grow and they'll be using Zephr to enhance their dynamic paywall experience. Our customers are adopting us in new business units, one of the world's largest automakers expanded with Zuora to power another business units. This time for its software suite that manages connected services and telematics for commercial fleets. Our Zuora Revenue to Zuora Billing cross-sells are working. Last quarter we talked about Toast, as a great example, well this quarter we saw another Zuora revenue customer, a global leader in customer experience and contact-center solutions with over $1.2 billion in annual revenue. They added Zuora Billing with advanced consumption to help them analyze millions of customer usage data point to monetize their AI-powered support offerings. We are supporting our customers to expand into new countries or regions. In Q1 global manufacturing brand, Luxottica, they produce eyewear for brands like Oakley, Gucci and [Prada] (ph) and they expanded with us to support their eyewear subscription service in new countries. So our installed-base business was a highlight in Q1. In Q1 though our new logo business continues to be affected by the macro headwinds as we again saw companies to delay large multimillion dollar projects at the end of the quarter. Now as we mentioned on previous calls, we remain committed to our strategy of doing smaller, faster lands with great companies and brands. A good example in Q1 would be Mitsubishi Electric (OTC:MIELY), one of the world's largest manufacturing companies with over $36 billion of revenue. As Mitsubishi Electric continues to expand beyond hardware and complementary digital services for offering like its air conditioning and factory automation systems, what they needed with a monetization suite that we will build to support recurring revenue. Overall, however, the lack of large transformational deals coupled with the seasonality of the software business meant a lighter overall new logo quarter. That being said, we’re getting more and more efficient in how we generate pipeline. We are switching to more digital and inbound techniques, and we are already seeing positive leading indicators that show improved response rates and lead generation efficiency. And so we believe that our opportunity remains strong as the year progresses. The most exciting news of the quarter, however is our acquisition of Togai. And so I'd like to spend a few minutes talking through why this announcement is so important. Now we've seen an increase in demand for usage based pricing, especially in the SaaS market. Our advanced consumption solution is one of our fastest-growing products in terms of pipeline. As of Q1 we have over 50 customers that have selected our advanced consumption offering and usage-based models continue to accelerate even further with the explosion that we are all seeing of Gen AI-based technologies. But in supporting our customers around consumption strategies, we have also uncovered a huge need that engineering organizations have around capturing and metering their usage information. And this is where Togai comes in. Togai provides a leading metering and rating solution that enables developers to directly convert raw data and to usage metrics through a three step no code configuration builder with flexibility to monetize products in many, many different ways. This is really, really exciting. But the last thing I'll say about Togai is that this isn't just about usage-based models. There is a broader strategy going on, one that I will call total monetization. So what do I mean by that? Well you probably know Zuora as the company that predicted and led the shift to description economy and this shift has happened. Today you and I, we are buying less and less stuff and it sure seems like every week, the CEO of another Fortune 500 company is declaring a target of shifting some meaningful percentage of their business to recurring revenue models. But now at the subscription economy, this new world is a new normal. People are asking what's next? Well we believe what's next is a concept that we call total monetization. This is no longer just about standalone subscription businesses with monthly fees. It is also about onetime transactions like product sales or paid review or professional services revenues or the usage and consumption model that Togai helped us power. Total monetization is about mixing multiple business models in a way that maximizes, the value of your innovations in your target market. And so we see this with companies like the New York Times, which transforms and unbundled how it offers products like games or cooking or news or sports alongside its traditional offering, and they've been able to see their annual digital subscription revenues with this strategy go beyond $1 billion a year. So if you look at the innovations and acquisitions that we have made over the last seven years, revenue recognition, payment orchestration, consolidated billing, Zephr consumption billing and now usage, metering and rating with the acquisition of Togai, we are no longer just a billing company. We’re building what I will call a total monetization software stack for powering any business model. And what's unique about this platform is that it is totally modularized. So you can start with billing or metering or revenue or payments. And so when you look at our customer base, you see us owning the entire billing layer in some companies and for other companies where the entire payments layer or the entire revenue layer. Ultimately our strategy is to be able to land with a new logo where our customers' pain point is greatest and then expand with them over time across the entire order to revenue process. In fact this is our own total monetization strategy. And so in summary, we believe that our bigger opportunity is to power a company's total modernization strategy and not just simply be a billing provider. We believe the innovations and acquisitions that we have made over the last few years, put us in the best position to deliver all the technologies needed to capture this emerging opportunity. And Togai is another key step in that journey, especially around the usage-based models that are exploding due to GenAI and IoT. We believe our modular approach is critical to enabling the broader land and expand strategy within our growing product portfolio that you've heard us talking about in recent quarters. And finally, we are committed to driving sustainable, profitable growth, as we lead in this new era. Finally, we hope you join us as subscribe live on June 26 in the Bay Area to learn more from our customers as we help them monetize every part of their business. With that, let me turn over the call to Todd to review our financials. Todd?

Todd McElhatton: Thank you, Tien and thank you everyone for joining our call. In Q1 our subscription revenue and total revenue were at the high end of our range as we continue to make strides in our profitability. We exceeded the range for our non-GAAP operating income and expanded our adjusted free cash flow by $18.4 million compared to last year. During the quarter, we continued to experience similar buyer behavior, as we've seen in the last several quarters with longer sales cycles and fewer transformational deals. ARR growth and DBRR for the quarter were impacted by customer churn, including those discussed during our last earnings call. As a reminder the customer churn was already factored into our guidance for Q1 and we expect our growth to accelerate in the second half of the year. Despite these headwinds, we are making good progress towards exiting the year at a Rule of 30 run rate, including absorbing the expenses associated with our recent Togai acquisition. We had record quarterly performance for non-GAAP operating margin and adjusted free cash flow. Now I will run through our financial results. Subscription revenue in Q1 was $99 million, growing 10% year-over-year. Professional services revenue came in at $10.8 million which was at the high-end of our outlook, representing a decrease of 19% year-over-year. Professional services revenue was 10% of total revenue. We expect our professional services revenue mix to slightly decrease over time, as we continue to expand our partnerships with SIs. Non-GAAP subscription gross margin in Q1 was 81%, up nearly 100 basis points year-over-year. This improvement is driven by continued efficiency optimization with our hyperscalers. As a reminder in Q3 and Q4 of fiscal '24, we benefited from one-time vendor credits. Non-GAAP professional services gross margin in Q1 was negative 14% and a decline from negative 3% in Q1 of last year. Similar to last quarter this was expected as a result of our continued investment in customers. For the remainder of the year, you can expect margins to improve with professional services margin being in the negative mid-single digit range for the full year. Our Q1 non-GAAP blended gross margin was 72% an increase of over 230 basis points year-over-year. Our Q1 non-GAAP operating income was $18.6 million, exceeding the high end of our guidance by $2.6 million representing a non-GAAP operating margin of 17%. During the quarter, we remained disciplined in our spending, expansion of our operating margin is a key objective toward our goal of exiting the year at a Rule of 30 run rate. Our fully diluted share count at the end of the quarter was approximately 185.1 million shares using both the treasury stock and if converted methods. Let's dive into some of our key metrics for the quarter. Dollar based retention rate ended at 104%, down 2 percentage points quarter-over-quarter and down 4 percentage points year-over-year. The decrease in DBRR was primarily driven by the churn we discussed in our last call and foreign exchange. Without the FX headwind, DBRR would have been 105%. In Q1, total RPO ended at $581 million, growing 15% year-over-year. Non-current RPO was up 23% year-over-year to $256 million. We had a number of multi-year renewals in the quarter as customers continue to grow on our platform. At the end of Q1 we had 451 customers with an Annual Contract Value at or above $250,000. This is up 15 customers year-over-year, but down 10% sequentially. During the quarter, some of the customers in this cohort downsized below the threshold, reflecting the impact of the macro environment on their business. We remain focused on the enterprise space, and this cohort represents 84% of our ARR. In Q1, we closed two deals with ACV of $500,000 or more down from 4 in Q1 of last year. This includes two deals over $1 million, up from one last year. ARR grew 8% in Q1, reaching $404.4 million. Adjusted free cash flow was $31.4 million for the quarter, a significant incremental improvement of over $18 million compared to Q1 of last year. Like other SaaS companies, our Q1 typically benefit from Q4 a higher billing seasonality, and we expect more normalized trends for the rest of the year. As a reminder adjusted free cash flow does not include acquisition related costs and other matters. Turning to the balance sheet. We ended the quarter with $547 million in cash and cash equivalents, a sequential increase of $33 million. Total CapEx for the quarter was $2.7 million. Before we discuss guidance, I'd like to provide some color on our recent tuck-in acquisition. As Tien noted, Togai will bolster our consumption capabilities, and we expect it will broaden our ability to land and expand. From a financial standpoint, Togai's revenue is negligible, and we expect to absorb their operating costs. We are assuming the current macro trends continue, and this is reflected in our guidance. For Q2 we currently expect subscription revenue of $101 million to $102 million professional services revenue of $10.5 million to $11.5 million. Total revenue of $111.5 million to $113.5 million. Non-GAAP operating income of $17.5 million to $19.5 million and non-GAAP net income per share of $0.09 to $0.10, assuming a weighted shares outstanding of approximately $149.4 million. For the full fiscal year 2025, we are maintaining our top-line outlook and raising our non-GAAP operating income range while absorbing the operating expense impact of Togai. We currently expect subscription revenue of $410 million to $414 million. Professional services revenue of $41 million to $45 million, total revenue of $451 million to $459 million. Non-GAAP operating income of $80 million to $82 million and non-GAAP net income per share of $0.41 to $0.43, assuming a weighted average shares outstanding of approximately $151 million. For the fiscal year, we are maintaining our guidance for DBRR of 104% to 106% and ARR growth between 8% and 10%. However, we could slip slightly below the range in Q2 and Q3. You will continue to see us drive our bottom-line leverage and maintain our goal of exiting fiscal 2025 at a Rule of 30 run rate. As a reminder, we define the Rule of 30 as a sum of year-over-year subscription revenue growth plus non-GAAP operating margin. We maintained our guidance of free cash flow to be $80 million or greater for the full year. We continue to expect annual share dilution of approximately 4% for fiscal 2025. For this purpose, dilution is calculated as a number of equity awards granted net of forfeitures during the fiscal year, divided by the total shares outstanding at the end of the fiscal year. We are committed to driving higher operating income and free cash flow. Acquisitions like Togai will allow us to attract new customers and accelerate growth for usage based models across our customer base. We've shown consistent progress in our ability to drive improvements in profitability and adjusted free cash flow, as a market leader in a mission-critical category. With that, Tien, Robbie and I will take your questions, and I'll turn it over to the operator.

Operator: Thank you, we will now begin the question-and-answer session. [Operator Instructions]. And your first question comes from the line of Joshua Reilly with Needham. Please go ahead.

Joshua Reilly: All right. Thanks for taking my questions and nice job on executing on the profitability goals here. In terms of the macro, can you help us understand what's the level of visibility you have right now into demand and has that changed over the last couple of quarters? And then along with that, as partners have sourced more deals, I think you were kind of alluding to this in the script. Has there been any change in your overall visibility into deal flow through partners?

Tien Tzuo: Yes, I'll jump in and Robbie feel free to add any color. Look, we still have good visibility in the pipe. We still feel good about the pipe. There is still demand certainly for shifting the subscription business models. What we really try to highlight though, especially when you look at new logos, as companies are cautious about the large deals. And so you could define large in many different ways, but if we will just say these are seven digit deals, you're seeing companies continue to hesitate to pull the trigger on signing up a new vendor at that seven digit level. And so we are not seeing those deals necessarily go away, but we will -- we're continuing to see companies cautious about those deals. And certainly if you compare where the business has been historically from a multi-year perspective, that does continue to be a drag.

Robert Traube: Yes. I think -- and then Tien to your point, they are a key part of our strategy and we have a great partner first focus. And the other thing is in the same way we closed Toast is a deal, for example in the previous Q4, last quarter we closed an equally sized opportunity again going from revenue and it was co-sold with a partner. So we do see continued traction there.

Tien Tzuo: Yes. Maybe just bridge the two comments there. Given that, what we have done recently is to bring partners more into our installed base. So you're seeing as we focus on driving short-term growth from expanding our installed base, the good news is we have got a solid enterprise customer base that has expansion opportunities. And we found some good success working with our partners in our installed base, where perhaps two, three years ago, the focus there has been primarily around new logos.

Joshua Reilly: Got it. That's helpful. And then just on the sequential change in the customers above $250,000 being down 10% quarter-over-quarter. Can you just give us a sense or should we expect this to continue to decrease throughout the course of the year? And how are you thinking about the importance of this metric, I guess relative to historical?

Todd McElhatton: Hi Josh, this is Todd. So thanks for asking the question. A couple of pieces of color here, I think, are really important to pick out. So I'm glad you asked about it. We did have a small group of customers that in this current -- we had a current -- we had a group of customers in this cohort, small group that has had some challenges, and we've had to meet them where they are. And that was the primary reason that we saw a decrease in that. we might see a few more next quarter happening. But the one thing that we really needed to tease out of this metric that I don't think that you are seeing is if you look at the ACV growth of our cohort of customers over $250,000 year-over-year, that is growing by more than 10%. And that's really important because that's one of the things that we said. We want to land with the right customers. after we land with them that we have the ability to expand, and that's exactly what we are doing with focusing on the best customers that we can really maximize the revenue potential out of them over the lifetime.

Tien Tzuo: Philosophically, just to add to that, when you look at -- look, if there's a company that certainly need to downsell and we're looking at this $250,000 limit. Our goal has to be to [whole] (ph) a longer-term customer right? We've shown again and again that when we hold on to customers for long periods of time, we're able to grow the account. So we're going to be smart about these things. But exactly what Todd said. If you look at the whole group as a cohort, they are expanding.

Todd McElhatton: And the other thing I'd add Josh, as you know, our gross retention rate remains very consistent. It just proves the stickiness and that is the mission critical product that our customers are reliant on.

Joshua Reilly: Very, helpful. Thanks guys.

Tien Tzuo: Thanks Josh.

Operator: Your next question comes from the line of Adam Hotchkiss with Goldman Sachs. Please go ahead.

Adam Hotchkiss: Great. Thanks for taking the question. I guess to start, it would be great to get an update on the business churn. Some of the churn you mentioned last quarter. I know you mentioned two and also on the flip side of that, some multi-year renewals happening this quarter. So when reviewing some of your larger contracts and maybe some of your anticipated renewals for the rest of the year, what gives you confidence in the maintenance of DBRR and some of the other retention metrics versus where we are now?

Tien Tzuo: Well, the number one thing is – it is a sticky product. And when we can certainly see the volume that customers are putting through the system. We know how much they contracted for. We have a sense of, look, are these companies doing well? Are they growing? Are they declining? Usually for these subscription businesses, very few subscription businesses are actually shrinking. They are just not growing as fast as they might have been in previous years. And so that gives us a good strong set of visibility into how the base should be performing for, call it, the next four quarters.

Todd McElhatton: Yes. But I would just kind of reemphasize here, Adam is there was no real change. The expected churn that we talked about at the end of last year is what occurred. We had a few customers that need to do some rightsizing based upon the economics gross retention remains really consistent, and we are comfortable with the 104% to 106% range for the full year.

Tien Tzuo: And look, that's one of the -- what I believe is the strength of our business, the stickiness and the quality of our installed base.

Adam Hotchkiss: Got it. No, that's really helpful. Thanks. And then we have heard a lot from partners and businesses about the fairly rapid shift, a lot of companies are making towards consumption billing. And I'd be curious if you could give us a sense from where we are there maybe versus a year ago. On demand and then what you've seen some of your larger billing competitors that maybe didn't play in the subscription space as a niche do, if at all to address total monetization.

Tien Tzuo: Well, what we are so excited about this total monetization phrase. It is just to remind folks that, hey, consumption is certainly on the upswing. But when you look from a long period of time, especially if you look at more mature industries like the telecom industry, you are going to always see a collection or a hybrid set of different ways of pricing, prepaid models, postpaid models, consumption arrears and advance, all sorts of things. And so look, we are excited really about the capabilities that we have. We talked about how our advanced consumption model has over 50 customers have signed up. One of the big drivers that Robbie talked about with a big call center application company that was Zuora Revenue customer that signed up for Zuora Billing, that was also driven by the need to do consumption usage base. If you look at consumption made models and you look at the call center market, because of AI, it's one of the big areas where you are seeing consumption models explode and we are certainly a beneficiary of that. And of course, the last thing was the Togai acquisition right? When you look at these consumption models, we do a great job on that billing, the rating capabilities. The more and more we are seeing developers hey, how do we even grab the data from our systems put into place that can be metered, can be rated where the salespeople can see it. The customers can see it. And that turns out to be a big, big challenging space. Togai had a fantastic solution for it, and we are pretty excited about adding that company, that capability and that new collection of great folks into our organization.

Adam Hotchkiss: Okay, that’s great to hear. Thanks Tien, thanks Todd.

Operator: Your next question comes from the line of Joseph Vafi with Canaccord. Please go ahead.

Joseph Vafi: Hi, guys. Good afternoon and nice to see continued growth in the user base and some new logs here. Just one on Togai, I know you mentioned that current revenue there is kind of de-minimis. Just wanted to drill down a little bit into how ready for prime time, the solution set is given that they really didn't have much revenue yet. Is it ready to sell and become part of your cross-sell efforts in the base now or is there some more R&D that needs to be done before you roll it out? And then I have a quick follow-up. Thanks.

Tien Tzuo: Yes. Look, this is -- when it comes to usage metering, I'll call it usage capture, metering, rating. It's a fairly new space. You are really seeing two types of companies, you're really seeing young startups that are, call it, under two years old and you're seeing maybe companies come out of the telecom sector that are 20, 30 years old that they really have more dated old technology. We looked at them all. And I got to say, we were most excited about the technology that this group of folks have built. If you dig into their background, they're successful entrepreneurs. They've built successful companies in the past. We think it is a great product. We think it is ready for prime time. Obviously, we are going to take, call it weeks, not quarters to do some integration of the products together. But we've been already obviously showing this to our customer base and getting a lot of good positive response.

Joseph Vafi: Okay. That's helpful Tien. And then I know the large deal activity slowed down, but I think you did sign two in the quarter. Anything to note there on kind of why those customers are moving forward, I guess a critical need or maybe changes in their operating environment that required or whatever you want to add on that? Thanks.

Tien Tzuo: I'll let Todd add some color, but I do want to stress that we are still seeing big deals. What we are seeing big deals is in our customer base. And that really speaks to the quality, durability and expansion potential that we have in our customer base and again, I really do believe that, that is the strength of the business. What we are seeing though is when a company is signing on a new vendor, they are going to be a little bit more cautious in that area.

Todd McElhatton: Yes. I mean adding on to what Ken said Joe, is both of these were installed base customers, and it really plays to the strength of the Zuora product. One of them we are able to monetize as they continue to grow and take advantage of that. And the other one takes advantage of our having a multiproduct portfolio. So they started with Zuora Revenue. Now we are moving them to Zuora Billing. And in fact, that billing is a takeaway from a large competitor.

Joseph Vafi: Great. Nice win on that takeaway and thanks for the color guys. Much appreciated.

Todd McElhatton: Thanks Joe.

Operator: Your next question comes from the line of Brent Thill with Jefferies. Please go ahead.

Luv Sodha: Hi, this is Luv Sodha here for Brent Thill. Thanks you Tien and Todd for taking my question and Robbie as well. Maybe the first one on ARR growth. So the sequential change in ARR was -- it declined pretty meaningfully this quarter. I guess could you help us parse out, how much of the impact was from the churn versus macro? And what gives you confidence that this could rebound in the second half of the year?

Todd McElhatton: Hi Luv, thanks for the questions. So I want to tease this out into three parts. One is our expansion. The second is our new logo and the third is our churn. And so on expansion, we felt we did really well there. We did pretty much as expected, and it really speaks to the quality of our customer installed base. On the new logos, we have a little bit of a slower start, but we always know that Q1 is our lightest quarter, and we are seeing nice acceleration in the pipeline, and that certainly is one of the things that gives us confidence for reaching the range for the full year. And finally the churn is what we talked about onetime events. We talked about that last quarter, and that played out as expected. So look, it is a challenging macro environment. But if I look at the quality of the specialty of our installed base, which I think is going to drive an awful lot of our bookings this year, I look at our product the pipeline, what happens -- what's happening with Togai. We believe we've got the material that we need to exit the year at 8% to 10% ARR growth.

Luv Sodha: Got it. That's super helpful. And then I just wanted to ask a quick follow-up on the efficiency initiatives that you have put in place. Could you just talk to us about what stage of the innings are we in, in terms of driving those efficiency initiatives and is there more room in terms of pushing the inbound motion to deliver further profitability as the year goes on? Thank you.

Todd McElhatton: So thanks a lot Luv for that question also. I feel really good. We've done a lot of hard work on the cost structure. We have in place a very robust business. And frankly, we have got the capacity to deliver a lot more revenue without adding a whole lot of incremental costs. That gives me a lot of confidence on being able to meet our profit objectives. In fact, as you saw, not only absorbing all of the Togai costs. But I raised the midpoint of where our guidance is for profitability for the year. And we are never going to be done. We are constantly taking a look at the -- where we are in the business, where we can sit there and get incremental improvements, and we're working on that. I think if you noticed for example, we actually in absolute dollars down about 10% in our go-to-market spend. So we feel like there is still more room to continue to optimize and get more efficient. And we've also got the capacity to deliver a lot more revenue with the current structure we have in place.

Tien Tzuo: Yes. And let me -- just in case, I'll answer maybe the flip side of the question, which I think is might be what you are asking. I will give you a stat, I mean, we are generating more pipeline with fewer people than we did two quarters ago because we are just getting much more efficient and smart about it.

Luv Sodha: Got it. Perfect. Thank you.

Operator: We have time for one more question, and this comes from the line of Jacob Stephan of Lake Street. Please go ahead.

Jacob Stephan: Hi guys. Thanks for taking my questions here. Tien, I wanted to get some clarity. I think you made a comment about switching to kind of a new sort of lead gen strategy. I just want to get any color that you have on that.

Tien Tzuo: Yes. So I would say it's an evolution not an entire change but if you talk to other companies in the industry, other SaaS companies certainly it feels like at a higher level, right, an industry level, outbound cold calling through business development reps is not paying off, as well as it might have been two, three, four years ago. And if you look at our value prop, we certainly are the leading advantage list of the subscription economy, but you are seeing people really come to us for different needs. You can see we have the need now to serve as a controller. We can service an AR team, we can service a developer. And so we are switching more towards a classic inbound model, and we are finding that to be much more efficient and we're using more digital technologies versus human labor. And as you might suspect AI tools are certainly a big, big part of that as well. So we are just learning to be much more efficient in the current environment and how to generate pipeline and we think it's paying dividends.

Jacob Stephan: Okay. Yes. Understood. That's helpful. And maybe just kind of -- I'll ask the free cash flow question here. You guys kept guidance at $80 million plus. You did 40% of that in Q1 here. You guided up on adjusted operating income. And you've also got a pretty sizable war chest on the balance sheet. So I mean, what are the capital allocation plans look like here in the future?

Todd McElhatton: Yes. So thanks a lot for the question. So Q4 remember we have a tremendous amount of billings, as a lot of enterprise SaaS companies do. So that drives a lot of our collection activity that happens in the first quarter. So you always see a very strong Q1, that will normalize back to normal trends as we move through the year. So we're really comfortable about where the $80 million plus is. So we're going to keep that where it is. We are also absorbing the Togai. Look, we would expect to see from a capital allocation perspective similar probably, let's say, $3 million a quarter of CapEx as we go through the rest of the year. And then obviously you're right, we've got a very nice balance sheet and we will continue to use that where it makes sense for acquisitions, tuck-ins like with Togai that will help us accelerate our growth and accelerate our product road map.

Tien Tzuo: I think that's exactly right. I think the growth in free cash flow in the war chest as you put it, are two big highlights to our story.

Todd McElhatton: It's a great time to have a lot of cash.

Jacob Stephan: Yes. Yes, absolutely. Okay. That's helpful. Maybe just one more here. Todd you kind of mentioned Q2 and Q3 ARR growth might fall slightly below kind of that 8% to 10% range. But just for a clarification that the 8% to 10% will be exiting the year. I guess what kind of gives you confidence in the ramp up in Q4.

Todd McElhatton: Yes. So we expect to exit the year at the 8% to 10%. And as I said, what gives me confidence is extremely strong installed base, what we are seeing from the needs from our customers, how we're seeing the pipeline develop. And so when I look at pipeline development, product installed base customers, that gives us the confidence that we'll be able to exit the year at the 8% to 10% ARR growth.

Tien Tzuo: Including having a new meaningful product in our portfolio that's servicing this consumption filling demand that certainly, we are all seeing in the marketplace.

Jacob Stephan: Okay, got it. That’s helpful. Thanks guys.

Operator: That concludes our Q&A session. I will now turn the conference back over to Tien Tzuo for closing remarks.

Tien Tzuo: Thank you. Well thank you everyone for joining us today. I want to offer up a big thank you to all our CEOs, including the new CEO that have joined us from Togai. Our CEO's commitment really is what powers our future in this new era of total monetization. Thank you all very much.

Operator: Ladies and gentlemen, that concludes today's call. Thank you all for joining. You may now disconnect.

This article was generated with the support of AI and reviewed by an editor. For more information see our T&C.

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