Q2 2019 Earnings Call
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I will now hand, the call over to guarantee yet.
Dropbox head of Investor Relations. Please go ahead.
Thank you.
Good afternoon, and welcome to Dropbox is second quarter 2019 earnings call today, Dropbox will discuss the quarterly financial results that were distributed earlier.
Statements on this call include forward looking statements, including statements relating to the expected performance of our business future financial results strategy.
Long term growth and overall future prospects.
These statements are subject to known and unknown risks and uncertainties that could cause actual results to differ materially from those projected or implied during this call.
In particular those described in our risk factors included in our Form 10-Q for the quarter ended March 30, Onest 2019.
And the risk factors that will be included in our Form 10-Q for the quarter ended June Thirtyth 2019.
You should not rely on our forward looking statements as predictions of future events.
All forward looking statements that we make on this call are based on assumptions and beliefs as of today.
And we undertake no obligation to update them, except as required by law.
Our discussion today will include non-GAAP financial measures.
These non-GAAP measures should be considered in addition to and not as a substitute for or in isolation from our GAAP results.
A reconciliation of GAAP to non-GAAP results may be found in our earnings release, which was furnished with our form 8-K filed today with the SEC and May also be found in the supplemental investor materials posted on our Investor Relations website at investors day Dropbox Dotcom.
I would now like to turn the call over to Dropbox is co founder and Chief Executive Officer through Houston.
Drew.
Thanks Darren.
Good afternoon, everyone and welcome to our earnings call.
On the call with me is RJ BACE, our Chief Financial Officer.
Yes, many wrong in our chief customer Officer will also join us during Q and a.
Today, I'll talk about our business and product highlights and the continued expansion of our ecosystem.
Hi, Jay will review, our Q2 financial results touch on our go to market strategy and provide guidance for Q3 in fiscal 2019.
In Q2, we delivered strong results across our business revenue grew 18% year over year, driven by paying user growth in ARPU expansion.
We also generated robust margins as we continue to deliver a balance of both growth and profitability.
These results continue to demonstrate the strength of our global collaboration platform, our efficient go to market strategy and our operational discipline.
So let's begin with our product update where we've had a number of exciting announcements.
In Q2, we unveiled the new Dropbox, we believe that there is a lot of room for improvement and the experience of using technology at work.
And we think the new Dropbox can help make that experience a lot better for our users.
Because while there new tools and productivity apps are meant to help us work better together the reality is that they're creating new problems too.
Having all these new tools means our content is now scattered and all these different places.
We have to keep toggling back and forth between the different apps and teams have a hard time stand coordinated and it's hard to figure out what we should be doing what.
And while we have a bunch of new tools, a bunch of the old ones are using havent really changed.
The way, we interact with files on our computers today hasn't really changed in 30 years. The file browser on your desktop is still the static view of files and folders and there are no people no teams no activity.
And that's where the new Dropbox comes in.
For over a decade Dropbox has been a magic folder that lets you have all your stuff in one place.
And the new Dropbox evolves, a magic folder into a magic workspace, where you can have all your work in one place.
The new Dropbox is a unified workspace to organize users' content connect their tools and bring everyone together wherever they are.
This includes an all new desktop App that offers our users of foreground experience they've never had with Dropbox before.
First this new workspace springs users' content together, the new Dropbox builds on our history of keeping people organize by bringing both cloud content and traditional files together. So everything is in one place.
And now users can create access and share cloud content like Google Docs, she's in slides as well as traditional office PDF and image files within Dropbox.
In addition, they can create in store shortcuts to web assets news articles wiki pages and online project management and productivity tools together with the rest of their work and Dropbox.
And with everything in one place, it's a lot easier to navigate users will have one search box not 10 to search across all their stuff.
Second the new Dropbox Springs as users tools together.
We're making sure the apps heavily used throughout the day are an integral part of the new Dropbox experience.
Building on our existing integrations with tools from companies like Salesforce, Adobe and Autodesk, we're introducing several new ones.
They'll work seamlessly with Dropbox to help bring users content into context.
Starting with our new strategic partnership with slack.
The newest Dropbox and slack imaged integration helps bridge the gap between content and communication letting users collaborate seamlessly on shared items.
Users will be able to start slack conversations and send files to slack channels directly from Dropbox.
And easily share Dropbox files within slack conversations.
We also plan to facilitate cross customer discovery of one another's products similar to our go to market relationship of Xoom.
And speaking of resume partnership we went live with our integration in June enabling users to bring their work into video conferences.
From Dropbox, there'll be able to add and join zoom meetings and during meetings users will be able to share and collaborate on content that lives in dropbox.
We also announced the partnership with the laughing.
We're in the process of building enhanced integration with it last season to help teams more effectively manage their projects and content and we'll have more to share on this dimension soon.
All of these partnerships expand our robust ecosystem and put dropbox at the center of our users workflows.
We are firm believers in the power of integrations and our open and interoperable platform as one of our most important differentiators.
And finally, the new Dropbox brings people together it isn't just about content and tools.
At the heart of all that work is the people, making it happen. So we've built new features to help team, saying think.
We've transformed shared folders into rich work spaces now teams can get coordinated by adding descriptions to folders to help collaborators understand more about the work they're doing.
Key content can be highlighted by pinning it to the top of a workspace and users can even at mentioned people and assigned to dues. So everyone knows what happens next.
Teams can also gain visibility into the latest progress on shared work the new Dropbox lets users see file activity, including viewer info and team collaboration on Dropbox content and slacken Xoom.
And keep tabs with a new team activity feet.
To close loops teams can also share feedback by creating comments right alongside their content across desktop web and mobile.
With the new Dropbox all of your content tools and teamwork lived together in one collaborative work space.
In addition to our new desktop App, we made improvements to our individual plans last quarter to help users work more efficiently.
First we had a dropbox smart sync two our plus skew.
Smart sync frees up hard drive space on users' computers by moving their content the cloud, while still giving them the ability to view and access files right from the desktop.
In addition, we brought machine learning and able to full text search to plus users, allowing them to search for pharmacies and keywords instead of just a file name.
We also introduced Dropbox rewind to the plan, which has an account rollback capability that can quickly undo accidental edits or restore deleted work by taking folders or even entire account back to a point in time.
Next to enhance our professional plan, we launched an even more powerful version of smart sync, which automates the process of moving less frequently access items off users' computers and added an extended history version of Dropbox Rewind.
In addition, professional users now have access to premium rich previews.
Which includes an expanded list of newly supported file types.
Our professional plan also includes a new watermarking tool that overlays ownership and the information on to files, allowing customers to protect their work on sharing with clients.
And finally, we're increasing storage limits across both our individual and team skews help us further differentiate our plans.
Turning to Dropbox paper.
While the new Dropbox is a powerful workspace to organize content and bring teams together paper continues to play an important role as our first party experience for content creation and collaboration.
Over the past few months, we've added a handful of new features to paper tables.
These enhancements help team simplify project management with task assignments color coded progress markers and data and image organization.
Tables are a key part of how teams stay organized.
And the updates we've rolled out will help to further improve coordination and alignment so everyone working on a project can stay focused.
Paper is also helping to drive customer wins.
In Q2. This included a dropbox business deployment was show Bond holdings Japanese firms specializing in contracting civil engineering and construction.
Show Bond is partnering with Dropbox to drive its digital transformation efforts and plans to use paper to facilitate more efficient workflows for its field workers.
In addition to improving productivity and efficiency show bond will leverage papers native image imbed capabilities to eliminate the need for physical whiteboards and enable workers to more effectively share critical information with their colleagues.
Next is the admin experience.
Earlier this year, we launch activity pages to our business teams, providing admins with visibility controls and deployment tools to monitor how their users are engaging with dropbox.
Adding to these capabilities in Q2, we recently launched a quick actions, which is a feature unique to dropbox.
This feature allows admins to quickly remediate issues they've identified in their team activity page through one click actions saving time and processes that would have previously taken multiple steps quick actions enables admins unlinked gas removing wiped devices restore files and much more.
Now lets move onto the infrastructure that powers our platform.
I'm pleased to announce that our new Oregon data Center went live at the end of July .
The Oregon facility is our fourth data center in the U.S. and will provide a more cost efficient footprint for our west coast traffic.
As our user base continues to grow we're managing our global infrastructure footprint with an eye towards maintaining best in class performance reliability and cost efficiency.
In summary, it's been an exceptional quarter for us on the product front.
We've re imagined how dropbox works and design, all new foreground experience and desktop app.
We're also thrilled to be partnering with slack zoom in that last season to bring the tools that our users love into our ecosystem.
With the new Dropbox, we're evolving the way we work together and we're excited about its potential.
I'll now turn it over to Ajay our CFO to walk through our financial results.
Thank you drew.
Our Q2 results demonstrate our strong execution and focus on delivering a healthy balance of topline growth and profitability.
Total revenue for the quarter was up 18% year over year to $402 million.
Driven by an increase in total paying users and ARPU expansion.
We ended Q2 with 13.6 million paying users.
ARPU was $120.48 in Q2.
Up 3% from $116.66 a year ago.
The year over year ARPU expansion was primarily driven by strong adoption of our premium professional and advance plans by new paying users.
There was a modest sequential headwind to ARPU in Q2, driven by the timing of some large outbound deals.
I would note that given the investments we are making in the business from both a product and go to market perspective, we remain confident in our ability to drive continued ARPU growth for the remainder of 2019.
Let me highlight a few ways, we're executing on this strategy.
First we continue to optimize our plans and pricing to ensure we deliver the best value proposition for our users and our business.
As drew mentioned in his prepared remarks.
We recently announced a number of new product features across our subscription plans and with the additions we made to our plus plan, we raised the price of that skew by approximately 20%.
We remain committed to generating value, where we are delivering value to our users and believe that via expanded feature set across our individual plans will enable our customers to continue doing their best work with Dropbox.
Moving on to Hello, sine, we've made great progress in integrating the company into our go to market efforts.
In Q2, we began offering 24 by seven supports for all of Hello signs enterprise skew customers globally.
We also began testing a series of INAP marketing campaigns designed to drive awareness of Hell assigns product capabilities and functionality to our large global installed base.
And finally, our data science team has been experimenting with a model that identifies which dropbox customers are most likely to use hello sign.
Going forward. We believe this data will help to inform our targeting efforts and drive higher adoption of Hell assigns E signature and workflow products suite.
While it's still early we're pleased with the progress of our collective teams and are excited about the opportunity ahead of us.
In Q2, we also had a number of customer wins and team expansions across a range of verticals.
Including healthcare construction education and retail.
To highlight a few of these deals were excited to share that partners healthcare meaningfully increased its commitment to dropbox in Q2.
Partners is the largest private employer in the state of Massachusetts and has been a dropbox customers since 2016.
When they started with an initial deployment of 20000 users.
Since then partners has leveraged Dropbox enterprise features like account capture and domain verification to manage dropbox usage across dozens of domains.
With their most recent upsell partners has entered into a formal enterprise license agreement with Dropbox.
Enabling continued user expansion over the next three years.
In addition, the city University of New York recently selected Dropbox as the collaboration platform to connected 20, plus campuses, creating a unified home for information and making research and coursework more accessible to its faculty and students.
Qt is the nation's leading urban public University, and Dropbox integrations with tools that the institution already uses like Blackboard and office 365 were key factors in their decision to work with us.
Before I move on to the rest of the piano.
I wanted to note that unless otherwise indicated all income statement measures that follow our non-GAAP .
And excludes stock based compensation.
Amortization of purchased intangibles and certain expenses related to the acquisition of Hello sign.
Our non-GAAP net income also excludes net gains on equity investments.
A reconciliation of GAAP to non-GAAP results may be found in our earnings release, which was furnished with our form 8-K filed today with the SEC.
And in the supplemental investor materials posted on our Investor Relations website.
Moving to the piano gross margin for the quarter was 76%.
An increase of two percentage points compared to the second quarter of 2018.
The increase in gross margin was primarily driven by continued unit cost efficiency gains with our infrastructure hardware, which was partially offset by the investments we've made in our customer support teams.
We expect gross margins in the second half of the year to be roughly consistent with Q2.
Moving to operating expenses Q2 was the first quarter in which we recognized a full period of expenses related to Halozyme.
And as a reminder, we are also temporarily incurring overlapping facilities related expenses for both our existing and new headquarters across all of our Opex categories.
Second quarter, R&D expense was $121 million or 30% of revenue compared to 27% in Q2 a year ago.
The increase as a percentage of revenue was primarily driven by higher head count and investments in new product development and testing.
SLM expense was $97 million in the second quarter or 24% of revenue compared to 23% in Q2 a year ago.
The modest increase was due to higher head count as well as a slight uptick in app store fees.
DNA expense was $46 million or 11% of revenue and one point higher than our DNA expense as a percentage of revenue in the prior year.
The increase as a percentage of revenue was due to higher non income based taxes and outside services spend.
Taken together, we earned $40 million in operating profit in Q2 of 2019.
This translates to a 10% operating margin, which is four percentage points lower than Q2 of 2018.
As I noted earlier operating margin in the second quarter of 2019 included are overlapping facilities related expenses as well as the impact from the integration of Hello sign and the associated purchase accounting write down of its deferred revenue.
Net income for the quarter was $42 million down from $48 million a year ago.
Diluted EPS was 10 cents per share based on 419 million diluted weighted average shares outstanding.
Down from 11 cents in Q2, a year ago.
Moving on to cash balance and cash flow.
We ended Q2 with cash and short term investments of $973 million.
Cash flow from operations was $129 million in the quarter.
Capital expenditures were $34 million, yielding free cash flow of $95 million or 24% of revenue.
Capex in Q2 included $29 million of spend on our new headquarters of which $15 million was offset by tenant improvement allowances.
Excluding the headquarters spend net of Tia is free cash flow would have been $109 million or 27% of revenue.
In Q2, we also added $36 million to our capital lease lines for datacenter equipment.
We continue to expect additions to our capital lease lines to be high single digits as a percentage of revenue on an annual basis going forward.
Now, let's turn to our guidance.
For the third quarter of 2019.
We expect.
Revenue to be in the range of $421 million to $424 million.
non-GAAP operating margin to be in the range of 11% to 12%.
This range includes nonrecurring expenses related to our new headquarters and Hell assign integration of approximately 2.5% of revenue.
And diluted weighted average shares outstanding to be in the range of 421 million to 426 million based on our trailing 30 day average share price.
For the full year 2019.
We are raising our revenue guidance, which was previously $1.634 billion to $1.646 billion.
So $1.648 billion to $1.654 billion.
I would note that similar to last quarter. This range continues to reflect the impact of currency headwinds.
We continue to expect non-GAAP operating margin to be in the range of 11% to 12%.
And this range includes nonrecurring expenses related to our new headquarters and Hell assigned integration of approximately 2.5% of revenue.
We continue to expect free cash flow to be in the range of $375 million to $385 million.
This range includes onetime spend related to the build out of our new corporate headquarters.
Excluding this spend free cash flow would be $445 million to $465 million.
We expect to generate approximately 25% of F.Y. 19 free cash flow in the third quarter.
Finally, we expect 2019 fully diluted weighted average shares outstanding.
To be in the range of 419 million to 424 million based on our trailing 30 day average share price.
In conclusion, the investments we've made in our business from both a product and go to market perspective are performing well and we believe were well positioned to deliver consistent year over year revenue growth across Q3, and Q4 of fiscal 2019.
We've continued to innovate and deliver more value to our users enabling them to do their best work.
I'm excited about the trajectory of our business and the opportunities we have ahead of us.
I'll now turn it back to drew for closing remarks.
Thank you I'd say, we're operating in a new best of breed ecosystem, where people bring the tools they want to work.
It's a world that's fragmented not just across tools, but across content and teams, we see an opportunity to bring everything together and with the new Dropbox, that's what we've done.
We are committed to our mission of designing them worn lightened way of working and I'm really excited about the future we're building.
I also invite you to hear more about that future drop boxes first analyst day as a public company on September 25th here in San Francisco.
Details will be available soon on our IR website.
And with that I'd like to invite Yemeni, our chief customer officer to join Jay and me for Q and a.
Operator.
Thank you ladies and gentlemen, if you have a question at this time, Please press star and one.
If your question has been answered you wish to remove yourself from the queue. Please press the pound key.
Due to the essence of time, we ask that you. Please limit yourself to one question and one follow up.
Our first question comes from John Difucci from Jefferies. Please go ahead.
Hi, This is Howard Mike on for John Thanks for taking the question.
True. So you mentioned a lot of neat features that are part of this new Dropbox box experience is this including like smart sync and risk the ability to restore deleted work I guess you call. It quick actions.
So im just wondering what are these functionalities do you think will become really table stakes over time in the near term because a lot of these features are things that were increasingly use too.
Our mobile in our daily lives and within the grid a philosophy of spend.
The R&D has been inflated over time, if they would come down so how do you how do you think about how do you manage.
Spend in R&D versus <unk> go to market for example, thank you.
Thanks.
Well first I'd say, probably the highlight from a product standpoint was we launched an entirely new desktop apps. So what we call the new Dropbox.
Which is the biggest change we've ever made to our product and so.
I mean smart sync has been a great feature we've had for a while it's something that drives.
And guess what drives conversion to our to our pay plans and it's something that we moved into our plus plan.
Last quarter.
I would say the highlights are much more about how weve turn dropbox from.
This.
Our metaphor from magic folder to more of a magic workspace and the big improvements on the product front, which I think are important a lot of questions you're asking are.
Resolving a much bigger problem for our customers because we found that people are really all of us are suffering from information overload at work in that area.
The the experience is incredibly fragmented.
And we re imagine the dropbox experience to be this to become a living work space with the couple of advantages of first is moving beyond files.
To any kind of cloud content. So you can have Google Docs next year Powerpoints next year Charla boards really everything.
You need with their project and were were definitely the only company.
That does this in a native experience and second is turning dropbox from a place where you put content when it's done to the workspace you're living out of all day, and so being able to not to see the content and the files and cloud content, but be able to see other people and activity. She was going on people to slack people from the Dropbox SAP being able to started zoom meeting.
It's just a much more engaging experience and it's still an early access, but but we're really excited about and so I'd say this is pretty transformative.
Product change because what we find.
Maybe where we started it was the problem you're solving as people forgetting the thumb drives or things like that but now the problem. We see at work has a much higher value one which has helped me organize my working life across different ecosystems and tools and so.
It's actually been a great product and great quarter on the product front I think that reflects some of the investment we've been making on NRT and R&D front, we don't expect our levels proportionally to change very much.
Yes, and this is Roger I can give a little bit more color on the second part of your question at a high level, we certainly remain committed to driving efficiency across the business.
And that includes R&D.
Our R&D spend in Q2 I would just remind you includes additional expenses from the integration of helo side as well as overlapping facilities related expenses for both our existing and new corporate headquarters. Neither of those were included in our financials, a year ago and at a high level, we invest across three major categories. In R&D. One is a new product experiences like the new desktop App that drew just talked to we also invest in a whole lot of machine learning and intelligence initiatives that we called Dxi. We also invest in our conversion engine or self serve conversion engine that spend that team sits in R&D for us. So a lot of data science initiatives and optimizations of conversion and Onboarding flows and then finally, we're also investing in infrastructure and this is an area, where we're focused on driving continuous innovation and announcements that we made around SFR and our cold storage tier are examples there.
And.
Okay.
Sorry, yes.
Just sorry, a follow up on which parts will become table Stakes I mean, I'd say we are.
Very differentiated from other products in our space at this point I mean, you're not going to see Google Docs support and one drive anytime soon on thing.
Okay, great. Thank you guys so much for the additional color.
Thank you.
Our next question comes from Heather Bellini from Goldman Sachs. Please go ahead.
Hi, This is Dan turret on for Heather Bellini. Thanks for taking my question I was wondering if.
A couple of quick questions for you that with respect to the price increase in May can you give us some color on how churn has been relative to your expectations and then with respect to ARPU growth can you help us unpack the drivers a little bit and would help us understand that the magnitude of.
What's the ARPU for a new customer adds relative.
And our individual plans as a quick reminder, for those on the call. We recently announced a number of new product features across our subscription plans and with the additions that we made to our plus plan, we raise the price of that skew by approximately 20% and we really want to expose more of our users to our platforms capabilities and the repackaging of our individual paid plans is a way for us to do this the changes at a high level are being received really well. The features of our plus plan were upgraded in June and existing subscribers began renewing at the higher price point in July that process will continue for the next few quarters based on the rebuild cycles of our annual subscribers and I will say as it pertains to the numbers and our guidance the baseline forecast around our pricing and packaging efforts was included in our guidance last quarter and our latest outlook. Further incorporates positive early signals related to both conversion and churn in fact, we saw churn improve across our business.
In Q2.
And then to answer the second part of your question around ARPU growth going forward. We do continue to see a wide variance between gross new ASP and ARPU. So certainly a lot of headroom there in this most recent pricing and packaging initiative will also increase the variance there between gross new ASP and ARPU.
So we have a ways to go there I think part of that question probably indirectly was just around the sequential ARPU that we delivered in Q2 relative to Q1.
And I'll just make a quick note on that that that modest sequential headwind to ARPU that we saw in Q2 really driven by the timing of some larger outbound deals as well as some FX headwinds.
In the period net of those two items, we would have seen ARPU expansion in Q2 and looking ahead just to reiterate we are very confident in our ability to continue to expand ARPU over the course severe tailwinds from strong adoption of our premium professional advance skews by new paying users and early success from our plus two repricing and Repackaging initiative and then the final part of your question around price increases a little early for us to comment on future initiatives, though I will say that we will continue to evaluate and refine our pricing and packaging approach in the future just like we have in the past.
Very helpful. Thanks, and then I just had a really quick follow up.
Deferred revenue growth was it was I think 11% in the quarter behind by revenue growth of 18% anything to call out there or is it just the mix of monthly billings.
Versus annual.
That's a large part of it and as I've mentioned previously while billings and deferred revenue are related to revenue growth. They are not consistently predictive of revenue for us and I think thats actually pretty apparent with the revenue guidance that we issued for Q3 and just as a reminder, in a given quarter. There can be various items that can drive billings growth higher or lower that don't directly correlate to revenue for example additions to our deferred revenue balance as you noted are highly sensitive to the mix between monthly and annual subscribers. So small changes in mix shift can skew deferred revenue and that results in deviations between billings and revenue FX can also impact billings in a meaningful way as buildings are more sensitive to FX movements relative to revenue. So normalized for FX billings growth in Q2 would have been about two percentage points higher and I would note that going forward, we expect to see billings growth accelerate in Q3 as a result of the success, we've driven with our recent growth initiatives.
Great. Thank you very much.
Thank you.
Our next question comes from Richard Davis from Canaccord. Please go ahead.
Hey, thanks very much.
Good to see the whatever forward looking metrics looking interesting that good quick question for you.
Partnered with like some of that really.
Great collaboration tools, obviously, the slack from assumes and things like that.
Talk to us a little bit or just fill us in unlike your viewpoint, if you're using other tools whether using teams are using other systems and how do you think about that in terms of your product road map and how you make that that part of the experience.
Those who don't use the cool stuff yet thanks.
Yes.
Thanks for the question so.
Finally, we cede dropbox and communication tools or the other tools that are.
We integrate with us as complimentary use cases, and we see from our customers where they struggle with is the need to toggle back and forth between all these different apps.
Or that the state of.
Their work or a project is scattered in all these different places and so, particularly the new Dropbox, we see our role as bringing it all together.
And so the and then in these deep integrations in many ways make dropbox more useful and they make slack more useful because he contends among a slack message from Dropbox or you can start resuming from dropbox and that wasn't possible.
Before before than before we launch in June .
And Oh yeah.
To the second part of the question about.
What about folks haven't adopted these yet we see dropbox as being a potential onramp.
For use of these tools and that team since.
Dropbox extensions launched in Q4, that's sort of our broader.
Platform.
The new Dropbox both offers.
More surface area to engage with those kinds of integrations and extensions and already dropbox extensions have driven use.
Driven an adoption of a lot of those partner apps. So.
We broadly see the experience of the new Dropbox and desktop App as an opportunity to drive a lot more engagement generally and drive engagement of our partner apps and solve a problem that we see no one really selling which is how do you pull all this together.
Thank you so much.
Thank you.
Our next question comes from Mark Murphy from JP Morgan. Please go ahead.
Yes, Thank you coming off of Q2, and given that you're increasing the 2019 revenue guidance and you're increasing it by more than you did last quarter.
Directionally how is your confidence moving in your ability to.
Curb the rate of revenue distilleries in by Q4 or by the end of year and then.
You try to stabilize that.
And head into 2020 with.
Kind of this structure for consistent compound growth.
As I think you.
Commented on in the last couple of quarters.
Yes, great questions. Marc This is I'd be happy to answer them I would say at a high level. We continue to have a very large opportunity ahead of us and we're doing more and more to unlock that opportunity through investments in product and our ecosystem conversion engine as well as through M&A and longer term. Our philosophy is consistent with what we've talked to in the past and that's that we will continue to be focused on delivering leading growth and profitability. We're certainly structuring the business for consistent growth and continued margin expansion at scale, you've seen us guide to that now with respect to Q3, and Q4 guidance and we'll have more specifics to share on 2020, when we formally issue guidance on our call in Q1.
Hi, Thank you I mean, just as a quick follow up is it possible to quantify the sequential ARPU impact.
From what I think you described some large outbound deal, which I'm assuming most to close later in Q2.
We had some large deals that close later in the corner. We also saw some FX headwinds in the period and what I can say is net of those two items. We would have driven ARPU expansion in Q2. The second thing I can say is if you look at gross new ASV effectively ARPU for new paying users that metric grew in the period as it has been every prior period since we've gone public and that continues to lead ARPU by meaningful margin. So certainly the headroom is there and continues to be there for us to continue to drive ARPU expansion.
Thank you.
Thank you.
Our next question comes from Jason Adler from William Blair. Please go ahead.
Yes. Thank you.
Yes, I'm curious as to.
When drew we might know about whether the new Dropbox is really.
Making a big difference moving the needle on your business. How long you think will take before you guys know and that we know.
Well we.
And then second we're really happy with the with the new Dropbox itself, we think it solves a lot of new problems, but more to your question how will move the needle on now our focus has turned to driving adoption. So in June we launched new Dropbox is in early access or and so its not broadly rolled out to our audience yet.
You'll hear a lot more about that throughout the rest of the year.
And we certainly want to roll it out to as many people as possible, but we have to be thoughtful about how we do that I mean, it's a major change to the experience.
And.
And when you make major changes your product you need to be ready to communicate well.
And do that respectfully so that that's what we'll be focused on in the coming quarters and for sure we will be making the new dropbox much more broadly available.
And in terms of the adoption.
Are there some specific things that you can talk to and.
How you are going to.
It's going to roll this out is it going to be for Swift.
The team side of the business is that how you're thinking about it.
So we're I mean, we're already lending in new cohorts of users and so people can opt into it.
On our website.
But as far as broader rollout.
Very striking a balance obviously, we want to get it out to as many people as possible.
But as but it's really important to do that migration, while because again whenever you massively changed the experience of a product and technology like people.
Initially or kind of taken aback by that and so we want to.
Help introduce the new functionality of people in the right way.
Importantly also.
Anyone who is using dropbox, a certain way yesterday will still be a visa that way tomorrow. So.
For continuity, we're not taking anything away or anything or it's not a gamble on that dimension, but we just want to make sure that we do some onetime work to educate people as to.
As to what we're offering and then it's a bit of a mindset shift were thinking about dropbox again, not just for a place for files would place for all your cloud content and a living workspace. It's that we hope is one of the first apps you have in the morning last ones you closed at night.
And.
And what we're paying attention to right now is just that really signal from customers has been positive so both qualitative.
Response from early users and then also metrics, we look at like engagement per user those things are all trending in the right direction. So.
You'll hear a lot more about that in coming quarters.
All right one quick housekeeping for Jay what was the FX impact to revenue in the quarter and then is there any impact to this full year guide from FX.
Yes.
Good questions. So the impact to revenue in the quarter from FX, roughly a one and a half point headwind in the quarter.
And that's about the same for our Q3 guide so constant currency would add about 1.5% to the growth rate in Q3 and for the year about 1%. So constant currency would add 1% to what the growth rate guide for the year.
Thank you.
Thank you.
Our next question comes from Justin Post from Bank of America. Please go ahead.
Hey, this is Sean enter Halo for Justin.
Wondering a little bit if you could unpack the subscriber net adds in Q2, and they said well it enterprise deals at the end of the quarter, but.
Are you guys seeing higher win rates on the enterprise side, and how could you compare that through to the consumer side.
And individuals here.
Sure. This is Jay I can take the first part of your question then I'll pass it over to Yamani I will say in any given quarter. We always closed a number of larger deals. In addition to a large volume of licenses through our self serve growth engine, which is the primary growth engine for Dropbox and this quarter was really consistent on that dimension in aggregate and then you. How many are you going to probably more color I think in the outbound side, we had another quarter of really solid performance and a number of notable wins that I talked about earlier during his remarks. What is critical here is that our motion is very efficient and continues to be efficient and this quarter. We saw wins in health care and education in Tech and broadcasting the land and expand motion is something that we are paying particular attention to and is working well. So we won a thousand feet enterprise deal, but in European Broadcasting Company, which originally began as organic adoption and then partners healthcare, which I talked to.
About that started as a smaller 20000 seat deal and now they are expanding their usage with the enterprise skew and with significantly larger number of domains. So the investments, we're making in scalable efficient data driven model with an outbound is working and the land and expansion motion is also really working well and so we continue to see that good performance in Q2.
Great. Thank you and then.
Next question I guess would be just want to re ask that question on leap plus tiers churn I think the street is really looking for sort of consistent net adds in the second half.
I want to get a better sense of what you guys are seeing in the posture and I think that makes up the majority of your subs. So anything you can give us there would be greatly appreciated.
Yes, I'll just reiterate this is Jay a couple of points. There. One we did include a baseline forecast around what we expected from a pricing and packaging efforts last quarter in our guidance our latest outlook.
Incorporate some some really positive early signals related to both conversion and churn that we're seeing and the second thing I will say, we provided some color on churn back when we were when we went public last year.
You know Directionally churn has been very stable for us since then.
It did in fact improve across the business in Q2, so those rates have improved.
Okay, and one last one if I can just want to get a bit of a signal on the enterprise side. It seems like there's a little more closer this quarter on what the pricing looks like relative to the other tiers and teams advance standard on a per subscriber basis.
I can say it so it's negotiated pricing for our enterprise skew and so it depends on the customer and the kind of deployment that were targeting with that customer. We are very disciplined about how we manage margins with these larger deals and so my team works closely with Yamana his team.
I'm not sure yet if you want to add any additional color I think on the enterprise side like we mentioned there are a number of verticals, where we have seen momentum we talked about kuni. This is.
Again, a vertical in terms of education, where we are seeing good momentum. We've had a number of use cases for faculty staff and we are seeing adoption on the student side as well and University of Sydney Kuni University of Florida. These are all examples where.
Yes education vertical is actually adopting dropbox and again in terms of ARPU. It is pretty similar to what Jay said it is negotiated it really depends on the deal but overall it is reflected in the comments that I made in terms of ARPU growth in the future.
Awesome. Thanks, guys appreciate it.
Thank you.
Our next question comes from Karl Keirstead from Deutsche Bank. Please go ahead.
Yes, hi, Thanks question fraud, Jay ill jump back on the plus price change could you give us a little bit of color. Maybe you will elaborate at the analyst day, but what does the conversion.
Timing look like over the next 12 months, maybe just in broad strokes.
What's the mix of conversion that's likely in the second half a 19 versus first half 20, I guess the context here, maybe you could figure out I'm just trying to understand if if we do see a change in churn or ARPU as a result of the plus price change just trying to.
Be a little bit more specific as to when we would see that.
Yes, it's a good question and we can certainly provide more detail at the analyst day in September but at a high level. The features of our plus plan were upgraded in June .
And so conversions new conversions to the plus plan, we're converting at a higher price point beginning in June .
Existing subscribers began renewing at the higher price point in July so last month and that process will continue for a 12 month period for the next few quarters and that's based on the rebuild cycles of our annual subscribers and we can provide a little bit more color on the ins and outs and how that flows into the numbers that at our analyst day.
Got it and then maybe secondly, just on the margins I remember a couple of quarters ago. When you set the.
Margin arc four.
This calendar year, it sounded like the first half a little bit weaker.
Second half stronger so the Threeq guide of 11 to 12 is a little bit better.
Then you put up but not a not a big jump it looks like it's a little bit more for Q skewed is there anything occurring in in Threeq, you that might have been weighing operating margins a little bit versus the guide that.
You are thinking about a quarter or two ago or.
Quite similar.
Quite consistent and similar just from the internal perspective here and what we have been driving towards I can say at a high level, what we're absolutely focused on balancing growth and profitability and remain committed to driving margin expansion as it relates to your question. Specifically in Q3, we are reserving some flexibility to spend on product adoption and marketing initiatives related to the new desktop application that drew is talking to and that includes our upcoming user conference in late September but I would note that for fiscal 19, the midpoint of our operating margin guidance would be about 14%. That's net of nonrecurring facilities and hell assign related expenses. So thats up about two points year over year and our implied guide for Q4 as you noted signals that we plan to drive pretty meaningful sequential and year over year margin expansion as we exit the year and that's that's consistent with what we previously indicated.
Yes, you got it okay. Thanks a lot.
Thank you.
Our next question comes from Rishi Jaluria from da Davidson. Please go ahead.
Hi, guys. This is he went on to receive thank you for taking my questions first off I was wondering if you could talk about how the communities algorithm performed in the quarter.
Quantitatively speak to the success.
As seen with selling to Chris you've identified.
Yes, Thanks, a lot for the question.
Yes for folks that don't know we use communities algorithm, we use data science in general to drive adoption as well as the identified a propensity off our users to buy so typically that motion works that landing 5200 seat deals and when we look at those 50 to 180 deals it is driven a little bit by the conversion.
Algorithms as well as the algorithms that identified the community. So it continues to do well.
That is how we have such a scalable efficient and data driven outbound sales motion now from there what we really are focused on is driving.
Broader adoption within those teams and that's the success that you have seen in Q2 with partners health care, but other.
No outbound wins that we mentioned so.
Starts with the communities type algorithm there are multiple of those algorithms that we used to look at the propensity off our teams and then we leverage our outbound salespeople to go target those and then we continue to drive adoption through engagement. So that overall motion. The overall system off different algorithms are working well and we are pleased with the progress.
Okay. That's good to hear and then could you talk about the effect you've seen from that three device limit on Dropbox basic and if you've seen a lot of conversion from free to paid in the quarter.
Sure. This is Jay so so we don't break down the impact of a specific initiatives certainly the three device limit initiative that we launched earlier. This year is a good example of how we drive investment in product driven conversion and our upsell engine through ml and data science.
And it certainly is a driver of conversions for us, but we manage our growth initiatives as a basket and as a pipeline and so that is one of many initiatives that we've launched over the course of the year, that's having an impact on the business.
Oh, great. Thank you.
Thank you.
Our next question comes from Chris heavily from Nomura Instinet. Please go ahead.
Hey, guys.
Could you give us.
Some idea of what the implied ARPU impact on from that price increases for Q3 and Q4.
Yes. This is Jay so we'll have some more color we can share as part of our analyst day in September .
I can say at a high level, we do expect a tailwind to ARPU from the plus repackaging and pricing initiative. The primary driver of ARPU expansion for us over the last few quarters has been higher adoption of our premium plans by new paying users. So folks that are converting to our professional plan and folks that are converting to our advanced teams skew at higher and higher rates than that tailwind is going to continue based on the visibility that we have for the remainder of 2019 as well so you'll see both of those factors driving some pretty significant ARPU expansion for us across Q3 and Q4.
Got it and.
Just one other one that.
When you guys think about your balanced growth.
Throughout the year or even into next year.
You know I think theres been is theres been a pretty big disconnect between the number of paid subscribers and where the street that I think industry does come down to 200 to 250000 in you guys consistently keep putting up that 400000 number how should we think about the balance between those two is there a I mean is there just a miscommunication between what what balances here or is there something more to that.
They're both important as RJ, they're both important levers to us and you will see us lean into both in varying degrees based on the initiatives that we're shipping in a given quarter and how we're managing those initiatives.
There has been a fair amount of consistency in the net you paying user adds that we've driven over the last few quarters. That's certainly not been something that's been intentional and it's been a results of the basket of growth initiatives that we funded and we launched.
Theres been some variability in the expansion rate of ARPU as well.
And that really depends on what were what's in the pipeline and what were graduating out of the experiment pipeline into a live initiative and so I think you'll see both levers be important for us going forward, you will see us execute against both.
But you will see that rate of expansion vary quarter to quarter based on what's happening with the business.
Got it thank you.
Thank you.
Our next question comes from Mark Mahaney from RBC capital markets. Please go ahead.
Great. Thanks, it's actually it's been on for Mark Drew can you talk a little about the difference between rolling out and improve product towards the consumer or less tech savvy market versus I guess, a developer market part of the reason why Dropbox has become so successful today was the ease of use for the everyday in individual original Dropbox do you think this change product change could have as much natural virality as the original Dropbox and what type of headwinds do you foresee.
And do you think of ways to proactively effect engagement of this new you x. Thanks.
Thanks Mark.
Well I'd say first we're focused on the end user.
And I make that distinction because.
We have we certainly want consumer type ease of use that is certainly what has gotten us here.
But importantly, we're not focus per se on consumer use cases compared to.
These cases the folks at work.
And and folks collaborating and teams like that certainly our sweet spot that's 480% of our subs are using dropbox at work.
And.
We think the best experience is when you're using dropbox and the team when you're using it at work so.
And we've made good progress in terms of that strategic focus over the last few years, which reflect and all the numbers.
And so the new new Dropbox is kind of the product. We we would have built if we had been focused on this use case in the beginning.
So.
Historically, we've been kind of Dropbox is operated behind the scenes, it's been sort of.
In the background in the file system or you know you just now getting folders on your desktop.
Whereas with the new Dropbox, you have a dedicated app.
Again as I said, it's much more of a workspace instead of just a static list of files you see people uneasy comments and you see activity and all the things you to expect in the real time collaborative app.
We think it's a very different kind of generationally different experience from.
What other folks have so.
And then as you're alluding to this is a new foundation for engagement for morality for all the kinds of metrics that we want to drive and for conversion because because now that we have this foreground surface that we entirely control as opposed to being.
Limited by the operating system.
So it's a lot easier for us to drive adoption of things like paper or Hello sign when we can have a button that says send out for signature.
Within Dropbox natively as whereas we couldn't really do that in the operating system.
And so the ability to drive adoption generally of the new Dropbox, and especially encouraged viral adoption of the new Dropbox, we think there's much more powerful levers there overtime.
We think there's much more powerful level it levers to drive distribution of of apps like ours and our partners apps.
And we think there is a much better surface to drive conversion, so when you're actually sharing something being able to highlight inline the benefits of having a paid plan.
We think the new Dropbox has a potential to drive monetization, even though we're rolling it out you need. So that's not something you have to explicitly pay for or or basic users will be able to use the new dropbox as well. So I mean, Oliver I described will take place over time.
But its a new foundation, we are really excited about.
Great. Thank you.
Thank you.
We have time for one last question.
Our last question comes from Pat Walravens from JMP Securities. Please go ahead.
Oh, great. Thank you.
You know Joe maybe this is for you but.
What is the ideal customer look like for the new Dropbox I mean, they're they're at work and they work in teams, but that's a lot of people. So what what do you think is the best profile.
Customers for you guys for this new product.
Sure I mean, I think it's the it's it's in any way as the same sweet spot as we've had in the past and <unk> and in many ways. We're also following customer and that customer demand and then a lot of the ideas. We had for the new Dropbox came from observing how are customers work and the pain points. They experience in this new environment, which is.
On the one hand, there's there are all these new tools or the experience is a lot better on some dimensions, but.
There's also this new problem, which are things that a lot more cluttered and fragmented and there's this information overload and distraction that people are dealing with so we have a different philosophy.
In terms of where we see our role as organizing your working life across all these different tools and ecosystems, and we think thats something that every information worker needs.
More granularly, we focus on.
Both you personally as an information worker in your personal productivity.
We also focus on the manager or the owner of a team.
So if you're if you have a group and people you're working with we certainly think about that.
And importantly, even in 10000 person company that is composed of a lot of little work groups and units.
And even executives or as CEO still manages a small team and is an information marker themselves. So we think that it.
From the Ics.
So we think that our sweet spot remains the same I mean, we're really targeting information workers generally.
The value prop.
To the end user might really be about collaboration and personal productivity for a team manager and might be more alignment and how do you get your team on the same page and executing well and for an executive the value prop might be more like how do I get a better return on my cognitive capital how do I free up my from my My my employees from having to do all this busy worker toggle between the different apps and help them focus so.
And there's a whole bunch of stuff on the IP side as well to help people wrangle all the complexity that's happening on the backend too so.
But we think all of this is the beginning of really addressing so much bigger problems and collaboration some new problems of collaboration that we didn't see our industry focused on.
Awesome. Thank you.
Thanks.
All right well. Thank you everyone for joining us today, we really appreciate your support and look forward to speaking with you at our analyst day in September .
Thank you ladies and gentlemen for attending today's conference. This concludes our call you may all disconnect good day.