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spk16: Good afternoon and welcome to the Backblaze Second Quarter 2023 Earnings Conference Call. All participants will be in a listen-only mode. Should you need assistance, please signal a conference specialist by pressing the star key followed by zero. After today's presentation, there will be an opportunity to ask questions. To ask a question, you may press star then one on your telephone keypad. To withdraw your question, please press star then two. Please note this event is being recorded. I would now like to turn the conference over to James Kistner, Vice President of Investor Relations and Financial Planning. Please go ahead.
spk08: Thank you. Good afternoon and welcome to Backblaze's second quarter fiscal year 2023 earnings call. On the call with me today are Gleb Budman, co-founder, CEO, and chairperson of the board, and Frank Patchell, Chief Financial Officer. Today, Backblaze will discuss the financial results that were distributed earlier this afternoon. Statements on this call include forward-looking statements about our future financial results, use of our IPO proceeds, results from new offerings, partnerships and sales and marketing initiatives, our ability to compete effectively and manage our growth, our strategy to acquire new customers and retain and expand our business with existing customers, and our efforts to hire and retain key personnel. These statements are subject to risks and uncertainties that could cause actual results to differ materially, including those described in our risk factors that are included in our annual report on Form 10-K and other financial filings. 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, not as a substitute for, our GAAP results. Reconciliation of GAAP to non-GAAP results will be found in our earnings release, which was furnished with our Form 8K filed today with the SEC. You can also find a slide presentation related to our comments in the webcast, which will also be posted to our Investor Relations page after the call. Please also see our press release or presentation for definitions of additional metrics such as NRR and gross customer retention rate. Before I turn the call over to Gleb, I'd also like to mention that in the latter portion of our call, as in prior calls, we will be addressing questions from investors that we gathered through the Say Technologies platform. This will be moderated by our new Director of Investor Relations, Mimi Kahn. I would now like to turn the call over to Gleb. Gleb?
spk07: Thank you, James, and thanks to all of you for joining us. We continue to execute on our growth strategy this quarter. Total company revenue grew 19% year on year with strong 39% year on year growth for B2 cloud storage and 7% growth for computer backup. I want to start with two business highlights. First, our increasing success in moving up market. I'm proud of our team for executing on larger customer deals for both computer backup and B2 cloud storage. I'll go into the numbers in more detail later, but we're seeing success in moving up markets both among paying customers and in our sales pipeline. Second, I'm happy to report that we are well on our way to our previously announced goal of approaching adjusted EBITDA breakeven in the fourth quarter. Frank will provide some insight on why we believe the company is well positioned to return to being cash flow positive without needing to access equity capital markets. I'm excited by the cloud storage opportunity ahead by supporting customers in the direction they want to head with the cloud. As leading advocates for the value of an open cloud ecosystem where customers can use the combination of clouds best suited to their needs, we believe customers need to be able to store and use their data any way they see fit. Additional cloud service providers are walled gardens that charge customers egregious fees to move data out of their clouds. And yet, customers' desire for best-of-breed solutions and the high prices of traditional cloud providers are driving customers toward an open cloud ecosystem being enabled by providers like Backblaze. And as these customers discover our ease of use, our openness to other technical platforms, and our low-price leadership, They tend to grow their usage and adoption of open cloud solutions, as is evidenced in the customer story I'll share later. As a reminder, we have two cloud service offerings. The first is our computer backup business, and the second is our B2 cloud storage service. I'd like to first give an update on our computer backup business. Computer backup is our more mature business representing about 56% of revenue this quarter. While the majority of our investments have been focused on our B2 cloud storage service, computer backup continues to be a good business for us. In Q2, we closed our largest computer backup deal in company history with one of the most well-known social media companies in the world. This customer chose Backblaze to protect all of their employees' data because of the speed and ease of deployment of our solution. And as we worked with them, they gave our technical and support teams special recognition for their outstanding service. We see a significant opportunity to address the needs of more businesses with our computer backup solution. For B2 Cloud Storage, we continue to execute on our growth strategy, which includes the following key elements. Number one, optimizing our self-serve go-to-market motion. Two, expanding our sales-assisted go-to-market efforts. Three, leveraging partnerships. And four, cultivating application storage use cases. I'll briefly touch on the progress we are making on these elements of our strategy. Self-serve remains highly efficient for us as we continue to find opportunities to enhance the self-serve funnel. We overhauled our website infrastructure with an entirely new backend that provides a giant step forward in our ability to rapidly test and improve the user experience and to ultimately drive higher conversion rates. Also on the self-serve front, we launched a more targeted and personalized onboarding process to continue our focus on making it easy for customers to use our cloud. We're encouraged by the early results from this more intuitive customer onboarding experience. Moving on to our sales-assisted efforts, the number of customers with ARR greater than $50,000 increased materially to 74 in Q2 versus 48 a year ago. We don't plan on sharing this statistic every quarter, as it may be variable and thus not necessarily meaningful on a quarter-over-quarter basis. But we believe there is a tremendous opportunity for Backblaze to move up market. We also began engagements with a number of large potential customers. While there's no guarantee that these opportunities will all close, we are encouraged that more and more larger customers are bringing us into their consideration sets. Now, let's talk partnerships, the third key element of the growth strategy I mentioned. For B2, partnerships are strategically important. Recall over one-third of our B2 revenue is from customers identifiably using our joint solutions with partners. One recent example of a new joint solution with a partner is the announcement of Cloud Instant Business Recovery, or Cloud IBR, by our partner, Continuity Centers. They built Cloud IBR using Backblaze B2 as the storage cloud to pursue opportunities in the disaster recovery as a service market, which is forecast to be $23.5 billion in 2027. Now, businesses of any size can use this new Cloud IBR service to get enterprise-grade disaster recovery capabilities. Another important aspect supporting our partner and channel efforts is trade shows. This quarter, we exhibited at BMON and NAB major conferences for data backup and the media industry respectively. We are encouraged to see an almost three-fold increase in pipeline from these shows as compared to last year. Finally, a recent win came through our partnership with technology partner Fastly, an edge cloud platform. which resulted in a petabyte scale deal with one of the world's largest video game companies. Together with the Fastly team, we were able to quickly satisfy this customer's requirements. This mutually beneficial arrangement with Fastly is a great example that provides a better solution for the customer and creates opportunities for both open cloud companies. Moving on to the final key aspect of our growth strategy, application storage customers. Recall, we define application storage customers as businesses that use Backblaze V2 as the infrastructure for their SaaS or internet businesses. We've entirely rebuilt and launched a new developer documentation hub on our website to make it even easier for developers to build applications using our storage cloud. This revamped documentation hub makes many aspects of their onboarding easier, especially when working with our API. The new hub is already driving higher user traffic, and we have plans for additional enhancements, including more how-to videos, API test environments, and documentation. Making it easier for developers to onboard facilitates both self-serve and sales-assisted customers to adopt our storage cloud faster. As I mentioned earlier, I'd now like to share a customer story that hits on why Backblaze's low-cost leadership, open cloud partnership program, and ease of use is compelling to SaaS and internet businesses. A rapidly growing consumer video app startup received free AWS credits to start. Once those were used up, they found AWS pricing to be prohibitive for them to scale. They came to us because they recognized that we were dramatically cheaper than AWS, and they were able to switch to Backvoice in just two weeks, in part because Backvoice provides Amazon S3-compatible APIs. The customer initially chose Backvoice for their archival data, but realized that Backvoice would also be ideal for all of their application data, and they migrated the rest of their data to us effectively doubling their storage with us. They also switched their network provider to reduce their infrastructure costs, which was enabled because we don't charge egress fees to customers using our open cloud technology partners. This is just but one of many examples of how transformational the open cloud ecosystem is for a company's business model. Before handing the call over to Frank, I'd like to touch on two topics of note to investors. First, I'd like to talk about Backblaze's move to a single class share structure. On July 6th, all outstanding Class B stock converted to Class A on a one-to-one basis. The elimination of the company's dual class share structure provides all shareholders equal voting rights and underscores Backblaze's commitment to good corporate governance and being a shareholder-friendly company. And second, I'd like to share a personal update with respect to my selling of BackWay shares, which is that I have canceled my 10b51 trading plan. I'll now turn the call over to Frank, who will review the financial results in more detail.
spk06: Frank? Thank you, Gleb, and thanks, everyone, for joining us today. Turning to our Q2 financial results, unless otherwise noted, I will be referring to non-GAAP metrics and the growth rates mentioned are year-on-year. We remain focused on two key metrics, revenue growth and adjusted EBITDA, which is defined in our earnings release. Our Q2 revenue totaled $24.6 million, an increase of 19%. Backblaze B2 contributed sales of $10.8 million, reflecting 39% growth. Computer backup revenue totaled $13.8 million, representing 7% growth. Please note that included in this number is a one-time catch-up payment of approximately $200,000 from one customer that was received ahead of our estimates, which will not reoccur in quarter three. In Q2, B2 Cloud Storage represented 44% of total revenue, continuing its upward trend. We're pleased by the continued strong growth as this highlights the resiliency and predictability of our business model and the appeal of our cost-effective solutions for customers. Turning to retention metrics, we track gross customer retention and net revenue retention, or NRR. Gross customer retention was 91% overall, with 90% for B2 cloud storage and 91% for computer backups. Total company NRR was 110%, with B2 cloud storage at 121%, and computer backup at 103%. Working down the P&L, adjusted gross margin was 75%, down from 77% last year, but an improvement from 72% in quarter one, 23. The primary driver of the decrease in gross margin year-on-year is due to the costs associated with our new and expanded data centers, which we mentioned in Q1. Adjusted EBITDA was a loss of $1.8 million, or negative 7% of revenue, compared to a loss of $1.9 million, or a negative 9% in Q2 of 2022. Turning to the balance sheet, cash and short-term investments, including restricted cash, total $45 million at the end of Q2 2023 versus $57 million at the end of Q1 2023. Both Q1 and Q2 included significant expenditures for severance and other restructuring costs. We expect lower cash usage in Q3 and Q4 since these expenses have substantially concluded. I will elaborate more fully on the cash usage improvements momentarily. Now I'd like to provide our outlook for Q3. For the third quarter, we expect revenue to be in the range of 25 to 25.4 million. We expect Q3 adjusted EBITDA margin between minus eight to minus 4%. For the full year 2023, we are reiterating our full-year revenue guidance of 98 to 102 million. We are improving our full-year adjusted dividend guidance from the prior range of negative 10 to negative 6 percent to a new guidance range of minus 8.5 to minus 4.5 percent. Turning back to cash usage, we have several noteworthy improvements. While we do not guide to cash usage or generation specifically, there are several reasons why we feel comfortable in our cash position. First, our recent restructuring, which included reductions in staff, a consolidation of facilities, and other savings, totals over $6 million in annual savings. Second, in Q3 and Q4-23, we will conclude the principal and interest payments on pandemic error leases commenced in late 2020. These leases, totaling an additional amount of over $6 million in capital expenditures plus interest, previously established an extra buffer to safeguard against supply chain disruptions. We continue to maintain sufficient buffers today, but no longer require elevated levels. Thirdly, due to both our software innovation and greater hardware efficiency from the manufacturers, our capital expenditures for production equipment are lower, both as a percentage of revenue and in total dollars year on year. For example, during the most recent three-year period, capital expenditures as a percentage of revenue is expected to decline from 28% in 2021 to approximately 18% in 2023. This reduction is occurring despite the 2023 data center expansions and openings. Please keep in mind we finance our capital expenditures for production equipment purchases over multiple years. Finally, we remain on track to approach adjusted EBITDA breakeven in Q4-23. This improvement stems from the areas already mentioned, plus lower growth in headcount additions relative to 2022, when many departments stood up brand new teams that were critical to pursue our growth initiatives and support our new public company requirements. We believe this combination of restructuring savings, moderating growth and hit count, and slower capital additions positions us well to reach cash flow break even without accessing equity capital markets. I will now pass the call back to Gleb.
spk07: Gleb? Thanks, Frank. Finally, I would like to recognize the commitment and hard work of the entire Backblaze team for delivering another strong quarter.
spk15: Operator, we're now ready to take questions from the cell site analysts on our call.
spk16: We will now begin the question and answer session. To ask a question, you may press star, then 1 on your telephone keypad. If you are using a speakerphone, please pick up your handset before pressing the keys. To withdraw your question, please press star, then 2. At this time, we will pause momentarily to assemble the roster.
spk13: And our first question will come from Chad Bennett of Craig Hallam.
spk16: Please go ahead.
spk20: Great. Thanks for taking my question. Congrats on the quarter. So just, Gleb, maybe just talk about on the B2Cloud side, you know, a little bit. I didn't hear much on the macro commentary, if there was any. And I think the past few quarters or a couple at least, we've talked about, you know, sales cycles shrinking and win rates improving. Just kind of how that business performed relative to your expectations from a bookings or ARR standpoint would be great.
spk07: Yeah, thanks, Chad, for the question. Good to hear from you. So maybe I'll start, and then if Frank has anything to add to it. I think from the macro perspective, one of the things that we talked about in prior quarters is that The traditional cloud providers have been talking about the headwinds and challenges of customers looking to optimize their spend with them. The customer is basically looking at it and saying, how can I provide the same value to my customers while decreasing my cost of infrastructure? And obviously a great way to do that is to switch to a lower cost provider like BackWise. And so they've been seeing significant optimization challenges to their environment. And we have been, on the one hand, there are some of the headwinds in the past of customers just generally doing less industry-wide. But on the other hand, we get to be the beneficiaries of customers looking to optimize away from some of the traditional clouds. I think we're still seeing customers coming to us for those same reasons, right? Customers are continuing to try to optimize off of the traditional copywriters and continuing to look for high-value choices, and we're the beneficiaries of that. So, you know, we talked about close rates and close cycles in the past. We're not going to report on those quarter on quarter on quarter, but what I'll say is that they've been relatively consistent with what we've said in prior quarters, even improving slightly. So, you know, I think we're enthusiastic about kind of how that's looking overall. Okay.
spk20: And then maybe a follow-up on B2Cloud. Just in any commentary on B2 Reserve bookings and in particular kind of performance through the channel there. And then I believe from a guidance standpoint, you guys have talked about B2Cloud ARR growing rapidly. you know, 40% this year. Are you still comfortable with that growth rate?
spk07: So let me touch on the B2 Reserve, and then I'll hand to Frank for the growth rate for B2. On B2 Reserve, one of the things, just for people who may not remember from prior calls, the reason we are excited about B2 Reserve is that we see it as something that is good for customers, for the channel, and for back boys. B2 Reserve is the packaged version. It's the fixed price version of our B2 offering. So it's good for the customers because they have predictability. It's good for the channel because it's easier for them to sell that. And so we launched that in roughly the middle of last year. So B2 Reserve has continued to grow strongly, sequentially, quarter on quarter. So we're seeing good traction with it. As we talked about last quarter, it was a million in AR. So it's not a dominant portion of the business. It's not super material yet. But we are enthusiastic about the growth. And maybe, Frank, you can talk to the B2 growth numbers.
spk06: Yeah, thank you, Glenn. Hi, Chad. So, recall that B2 grew around 40% in quarter one and in quarter two. And we expect a similar growth rate in quarter four. But specifically in quarter three, we do see a one-quarter dip in that B2 growth to around 30%. And this is due to certain headwinds, including softer data growth recently, some seasonality, And it's really a tough comparison to the quarter three 2022 due to that prior initial ramp of our largest account ever. So, but as I said, we expect that Q3 dip to be temporary and we believe B2 will accelerate back to its Q4 40% or above.
spk20: Got it. And then maybe last one, if I may, for you, Frank, probably just so that it, what, It appears to be you've took out $12 million plus in annual costs out of the business. I guess a couple questions. Does that annualized rate run rate start in Q3 here? And then secondly, can you provide us any color into how that segmentation work looks on the P&L from a cost standpoint and where those costs came out of? Yes.
spk06: It's actually, what's going on is that we've got costs that are moderating in many areas because remember that in 2022, we stood up all of our new departments, right? And that was to, we really pursued that enormous potential for B2 in front of us and to be a public company. So what's happening right now is we're really moderating that growth quite a bit. From a P&L standpoint, we do have savings across all the line items. So in the gross margin, for example, because we have lower lease costs, we're buying less equipment for the reasons I stated. The depreciation does go down. We do have headcount, either reductions or much slower growth in really all the areas. So it's really pretty widespread.
spk20: And evenly spread, would you say? I mean, is there a way to think about magnitude of each line, you know, rough magnitude of the line items?
spk06: Well, the facilities goes into the G&A, but we have other moderating expenses there. And in our restructurings, we reported that it was in sales and marketing areas that were not performing as well as we had hoped. So we did some moderation there.
spk20: Okay. Good. I appreciate it. Nice job on the quarter. Good to see the reiteration of the guide also. Thank you.
spk13: The next question comes from Elle Niebuhr of Lake Street Capital Markets.
spk16: Please go ahead.
spk18: Hey, this is Elle on for Eric Martinuzzi. I'm hoping you could talk a bit more about your expectations on IT spending going into 2024 and what sort of feedback you've received from your channel partners.
spk07: Hi, Elle. Thanks for the question. So by IT spending, I mean general kind of customer spend on IT infrastructure. I'd say we're certainly not guiding 2024 yet, and I don't know that we have a tremendous amount of visibility into what customers are expecting to spend in 2024. I think we've seen some of the traditional cloud providers and some of our peers talking about that they expect customers to continue to be focused on optimization for the near term and possibly slightly longer term future. So just from kind of the industry data that we're seeing, it seems like this trend of customers continuing to look for where to find value so that they can provide the services that they want to provide to their customers while continuing to look for spend optimization doesn't seem to have quite stopped yet. And I think in the AWS announced that their growth still slowed to 12%. year on year and I think that was still driven in large part by customers continuing to look to optimize their infrastructure and so it seems like that has not yet stopped and so as they continue to look to optimize, we'll continue to look to help them.
spk10: Great, thank you.
spk18: And then last question, could you just touch on gross margin a bit more and go into detail Q2 and what you're expecting for the rest of 2023.
spk06: Yes, we always are expecting, I'll do non-GAAP, we're always expecting the non-GAAP gross margin to be in the mid-70% range. What happened was we were lower than that in quarter one. We were at 72. And the reason that we bounced back up in quarter two is that we had cessation of a lot of duplicate expenses as we were moving into our larger data centers. And then we opened up new data centers as well. There's a lot of one-time costs in setting them up. kind of across the board. And once we had all that behind us, which was in quarter two, we had that nice bounce up again. So as we look at the gross margins going forward, we do feel that they're going to be quite, you know, they're going to be in that range continuing because we do invest all the time in the data centers, but we don't have this large increase in either the number of data centers or expansions.
spk13: Great, thank you. The next question comes from Eric Supager of J&P Securities.
spk16: Please go ahead.
spk03: Yes, thanks for taking the questions. First off, I'm just curious, any update on what your hiring plans are for the rest of the year and where you expect headcount to be? at least where did you end with headcount in Q2? And then you had talked about your growth, year-over-year growth going down to 30% Q3 and then back to 40% in Q4. What is the biggest factor for Q3, the tough comp? or what gives you the confidence that we will see the growth rate recover?
spk06: Okay. On headcount, we haven't provided quarterly headcount, but what we did provide was this. Last year, we grew headcount by 45% for the reasons that I stated earlier. It was our first public year, and we needed to stand up groups to go after this enormous opportunity that we have. now what we said also is that it's really moderating where we're filling in here and there for programs and our headcount is and then we did have a reduction staff so our headcount remains low it has a very modest uptick for the rest of the year and that's one of the reasons that we're so quickly heading to if it a break-even as far as our confidence okay as far as our confidence on what is causing that one-time dip. It is for the reasons that we said. They're pretty equal, I would say. When you have your fastest and largest, when you have your largest accounts start as fast as they did in quarter three, they grew the entire quarter and were at their peak within one quarter. That does make a difficult comp because they're so large. We had said before they're a million-dollar account annualized. And the other factors are there as well. But when we look at quarter four, we have much more optimism of the 40%. But it's really returning back to where we've been.
spk03: Okay. Then lastly, have you seen any change from AWS from a pricing perspective?
spk07: We haven't. I mean, I think that from a competitive landscape perspective with them, we continue to see them staying fairly consistent. So we still see a number of customers moving over to us from AWS. We shared another one on the call this time. I think in the last quarter we shared one coming from Amazon, one coming from Google, one coming from Azure, and we continue to see customers moving from those. both for the pricing reason directly, that we're about one-fifth of their price point, but also because of our open ecosystem, the free egress that we provide to our technology partners is something that a lot of our customers appreciate, as well as the ease of use of the service.
spk15: All right, very good. Thank you. Thanks, Eric.
spk13: The next question comes from Simon Leopold of Raymond James.
spk16: Please go ahead.
spk17: Great. Thanks for taking the question. I wanted to see if maybe you could help us understand the sensitivity of your cost of goods sold to essentially the cost in data centers. And really the question sort of rooted in the view that data center space is scarce and therefore there's a lot of people competing for the capacity. And then also just relative to a year or two years ago, cost of electricity has gone way up. And your gross margins have been pretty stable, so I'm trying to get an understanding of sort of how that's affected you and how you think about that within the cost of goods sold. Thanks.
spk06: Yeah, you're right, Eric. The data centers have been, and their expenses have been stable in the sense that we haven't been as affected by what you're doing, by what you're saying. The data centers, when we actually, remember there are co-op sites, and we only contract for what we believe we will use, and if we need more, we can do that. So we're in contracted rates with the major providers, and we so therefore can anticipate, you know, what our costs will be in the future. As to the power, we did anticipate electricity. We did anticipate, you know, large increases, not as large as what we saw in Europe. Europe is a smaller data center. And so we've been comfortable in being able to forecast it and absorb those costs.
spk17: Great. And just as a quick follow-up, sort of rough math suggests that your operating expenses should be maybe just south of $19 million in the next quarter. So you're just putting a number to it would be helpful. I think everybody's sort of asked that question in a couple of different fashions, but maybe just south of $19 makes sense to what you're expecting.
spk06: What we've said before is that we really expect quarter-on-quarter expenses to be relatively flat. They're not exactly flat because we have programs that are in some quarters and out of others, but I think you can continue to see that. What you saw on quarter one to quarter two was only a 1% increase in OPEX expense. So, you know, that's been our trend.
spk13: Great. Thanks for taking the questions. The next question comes from Zach Cummins of the Riley Securities.
spk16: Please go ahead.
spk19: Hi, good afternoon. Thanks for taking my questions. Gleb, I just wanted to ask you about the prospects of moving up market. As you're thinking about getting involved with larger customers, I mean, what's the primary channel that you believe is going to be getting you towards those larger customers? Is it really the outbound channel or through strategic partners?
spk07: Yeah, thanks for the question, Zach. So one of the things we said at the IPO was that while we're focused on the mid-market, our platform can support any size of customer. And so the first part of that is I'm excited that we're seeing larger customers wanting to use the platform and we're successfully winning those deals and having them be happy, satisfied customers on our platform. In terms of where do we find them from, Our outbound sales team that we stood up with some of the proceeds from the IPO has started generating pipeline and bringing in some of those deals. So we're seeing a healthy pipeline of which larger deals are an important part of that pipeline. But we're also seeing deals that come to us inbound. And this is, I think, a function of the... the blog and the content marketing that we have invested into over the years. And some of those customers, they read about us, they learn about us, and then they come to us proactively, directly. So we see it from both. I would say that we expect that we will be getting some from Channel. We mentioned one that came through our technology partner, Fastly. We think that our partners benefit from working with us. So the FAFSA example is any customer that works with one of the edge compute providers, they need to have data and that data needs to be stored somewhere. If that data is locked up inside of one of the traditional cloud providers, it makes it expensive and difficult for the customer to use those other best of breed edge cloud providers. And so it's in the customer's best interest. It's in our partner's best interest to have them move their data to us. And so we had that win from Fastly that they brought to us. And we expect to see more deals coming from technology partners as part of the ecosystem bringing deals to us. Some from the channel, we're already seeing pipeline from outbound and we're already seeing inbound deals as well.
spk13: This concludes our question and answer session.
spk16: I would like to turn the conference over to Mimi Kong, Director of Investor Relations.
spk09: Thank you, Andrea. I want to thank all the analysts for joining the call today, and thank you for all your questions. Next, we will answer questions submitted by retail investors on the SAFE Technologies platform. The first question I have is for both Gleb and Frank. What is management's plan to become a more profitable company?
spk07: So in terms of becoming a more profitable company, there's two obvious pieces to that. We're going to grow revenue and we're going to moderate expenses. On the growing revenue side of it, we talked about the four pillars that we're focused on with our growth initiatives, which is optimizing our self-serve motion, which makes it very efficient for customers to sign up, scaling our sales assisted with Deals like the ones that we talked about over $50,000 that we're seeing traction with and the million dollar deal that we said last year and the largest computer backup deal that we just announced this quarter. So that's on the sales assistant side on the partnerships side and expanding both with technology partners and channel. And then the last one being the application storage use case, where we help customers as a strategic part of their infrastructure. So investing behind the growth of the company so that we grow revenue, and then moderating on the expense side. And maybe, Frank, you can touch on the moderating on the expense side.
spk06: Yeah, we're continuing to drive efficiency, and it's through the discipline headcount additions, And as Gleb said, we're really investing in projects with solid returns. We measure everything so we can see which ones are doing the best where more investment should be and which ones we should pull back on because we're not as happy with those returns. And the other important thing is that we're on track to approaching adjusted EBITDA break even in that fourth quarter.
spk09: Now, next question is for you, Gleb. What are some future projects for the company?
spk07: Future projects, I assume, also includes future products. We have a long history of improving our services, adding value to customers, we don't disclose our product roadmap for competitive reasons. But you can look back at some of the things that we have done. So, for example, we opened the East Coast data region for customers to be able to choose that. We added cloud replication, which enabled customers to store their data in multiple regions by turning on that functionality. We launched B2 Reserve, which we talked about a little bit earlier during the Q&A. A partner API, which helps our partners make it easier for them to integrate our service into their product offerings. extended version history for our computer backup customers. So we've done a lot of things to help customers store their data, protect their data, and also use their data. And that's where we continue to invest in. We also are working with our partners on enabling solution sets. So the solution set that we talked about with our partner continuity centers for disaster recovery is an example of that, as well as some of the other services that we've done with our edge compute partners. So overall, I think you can look back at some of the roadmap items that we have shipped as examples of things that are on our roadmap to ship.
spk09: And Gleb, what do you view as Backblaze's competitive advantage over other companies offering similar services? What is distinct or unique about Backblaze compared to competitors?
spk07: So in terms of distinct and unique, so first of all, we are dramatically easier to use. And I know a lot of people say that. I know a lot of technology companies in particular say that. And one of the things that we've seen is customers that sign up with us and then later come back and say, oh, my God, it was so easy to use your services. And the conversations I've had with some of them was like, well, yes, we've said that it was easy. But the response I often get is, I know you said it was easy. Everybody says their technology is easy, but yours actually was. And I think a lot of times ease of use is an underrated benefit. An analyst found that our customers save 92% of their time because we're so much easier to use. Apple has built a trillion-dollar company by focusing on making products easy to use. So I think ease of use is one very key differentiator for us. We're also dramatically less expensive than other providers. we are supporting the open cloud ecosystem. And we do that by making it easy and inexpensive for customers to use their data in the way they see fit, to use it with other edge compute providers, with other AI services, with other compute providers, et cetera. So by enabling them to have that open ecosystem of data, we make it so that it's easier for them to build their business the way they want to build it. So much easier to use, much less expensive, and supporting the open ecosystem.
spk09: And this next investor would like to know, where do you see growth opportunities in the coming year?
spk07: So growth opportunities in the coming year. I mean, we're pursuing this $50 billion market by 2027. So there are many opportunities. I think that we've talked about the growth initiatives that we're pursuing. We also highlighted that we're seeing momentum and investing behind going after larger customers in the mid-market. And so I see that as an interesting opportunity for us. B2 Reserve, which we talked a little bit about earlier on this call, it's not a very large part of B2, but it is a rapidly growing part of B2. And on the computer backup side, we have... helped both individuals and businesses for a long time. We're continuing to see more businesses specifically come to us looking for us to help them protect all of their employees and all of their employee data with our computer backup service.
spk09: Now this next shareholder asks, how will I benefit with the other shareholders putting my faith and money with your company? I've been optimistically happy and supportive to date. Why should I continue down this path?
spk07: So first of all, I appreciate all investors and shareholders investing and having faith in us and giving us the runway to execute on our growth initiatives. Certainly, I also hope that, as Cheryl said, some of you may choose to become customers, which will both help the growth of the company and also hopefully help you as well. From the investor's side specifically, Since the time we went public, we entered into a market which was facing inflation, recession fears, interest rate hikes. And despite that, we executed, as we said, we have been building the company in a stable and predictable fashion. We executed on our growth initiatives. We grew revenue double digits year on year in every quarter since we went public. We're approaching just a bit of break even, which is a key milestone of our path to profitability. And as Frank talked about, we have taken action on improving our cash flow trajectory as well. Recently, we also eliminated the dual class share structure that we had, which now gives all shareholders equal voting rights. And we saw that as a good step for corporate governance and also just being a shareholder-friendly company. So I think we've executed well, and we're taking actions to be supportive to shareholders overall.
spk09: The next question is a little bit more technical. What strategies are in place to ensure privacy of stored data?
spk07: So privacy and security of data are actually both critically important for us. We have a chief information security officer with a staff in place That team works every day to ensure privacy. And that team also has throughout the organization other partners that work with them across the company to ensure the security and privacy of data. We encrypt data in transit. We offer various levels of encryption at rest. We use third parties to attempt to find vulnerabilities in our systems. Overall, we have a robust and privacy program with physical, digital, and policy safeguards. We recently completed our SOC 2 audit. So overall, we're taking a host of actions and have the teams in place to protect customer data privacy and security.
spk09: I got this next investor ask. Your competitors have raised prices. Are you considering the same? Should you?
spk07: So we certainly believe that we're an excellent value. As we talked about, we're seeing many customers leaving the traditional clouds to continue providing high value to their customers while reducing their infrastructure costs. We believe we're a great value in the current market, and we are always considering ways to both optimize our product offering and ways to grow our business.
spk09: Now this next question is very topical. Is Backblaze going to use AI for future growth?
spk07: So AI is certainly something that's top of mind. It's a very exciting time to run a business that benefits from data growth. When there are new applications constantly that are generating data, certainly generative AI is growing explosively. We are starting to use and looking at additional ways to improve productivity inside of the company using AI. And on the AI front, our customers are using AI. We have dozens of AI customers that are through our sales-assisted motion alone. And you may remember our sales customers are about 20 times larger than our self-serve customers. So there's certainly a lot of growth being generated in data. by AI use cases and we're excited about the opportunities to leverage that for the growth of Backlight School.
spk09: Next question. How are you encouraging employees to seek more responsibilities and leadership roles? Now this investor also notes, I believe this promotes staff to self-promote the company and in part create positive culture and increase ROI.
spk07: So I love the question in part because we all agree with the sentiment, right, which is that at the end of the day, the people make the company, and that happy and successful people in the company lead to happy and successful outcomes for everybody, including for investor ROI. So our culture is very important to us. We certainly believe in promoting from within. I think we have some data points that show that we've been supportive on this front. We were recognized by Great Places to Work. We were recognized for a 2023 Diversity Award. We were recognized by Fortune's Best Workplaces in the Bay Area. Our turnover continues to be low, and we continue to regularly reevaluate how we can help ensure that our employees are happy and successful as as part of the company, and hopefully then also are excited about promoting Backblaze to their customers, their friends, their other partners, et cetera.
spk09: I'm going to give you a rest, Gleb. You did a marathon of questions. Next question will be for Frank. So, how has the management managed or limited possible exchange rate fluctuations?
spk06: You know, it's a good question because we do have customers in 175 countries. But we don't have large foreign currency risk. And the reason for that is that our customers pay us in U.S. dollars. And then as we look at our expense side, we just don't have a lot of international expenses. We have some for our international data centers. We have international taxes. But overall, the foreign currency risk for us is very low.
spk11: And that concludes the portion of questions from SAIT Technologies. Andrea?
spk13: The conference has now concluded. Thank you for attending today's presentation and you may now disconnect. Thank you. Thank you. Thank you. you Thank you. I'm
spk00: Thank you. you
spk16: Good afternoon and welcome to the Backblaze Second Quarter 2023 Earnings Conference Call. All participants will be in a listen-only mode. Should you need assistance, please signal a conference specialist by pressing the star key followed by zero. After today's presentation, there will be an opportunity to ask questions. To ask a question, you may press star then one on your telephone keypad. To withdraw your question, please press star then two. Please note this event is being recorded. I would now like to turn the conference over to James Kistner, Vice President of Investor Relations and Financial Planning. Please go ahead.
spk08: Thank you. Good afternoon and welcome to Backblaze's second quarter fiscal year 2023 earnings call. On the call with me today are Gleb Budman, co-founder, CEO, and chairperson of the board, and Frank Patchell, Chief Financial Officer. Today, Backblaze will discuss the financial results that were distributed earlier this afternoon. Statements on this call include forward-looking statements about our future financial results, use of our IPO proceeds, results from new offerings, partnerships and sales and marketing initiatives, our ability to compete effectively and manage our growth, our strategy to acquire new customers and retain and expand our business with existing customers, and our efforts to hire and retain key personnel. These statements are subject to risks and uncertainties that could cause actual results to differ materially, including those described in our risk factors that are included in our annual report on Form 10-K and other financial violence. 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, not as a substitute for, our GAAP results. Reconciliation of GAAP to non-GAAP results will be found in our earnings release, which was furnished with our Form 8-K filed today with the SEC. You can also find a slide presentation related to our comments in the webcast, which will also be posted to our Investor Relations page after the call. Please also see our press release or presentation for definitions of additional metrics such as NRR and gross customer retention rate. Before I turn the call over to Gleb, I'd also like to mention that in the latter portion of our call, as in prior calls, we will be addressing questions from investors that we gathered through the Say Technologies platform. This will be moderated by our new Director of Investor Relations, Mimi Kahn. I would now like to turn the call over to Gleb. Gleb?
spk07: Thank you, James, and thanks to all of you for joining us. We continue to execute on our growth strategy this quarter. Total company revenue grew 19% year-on-year with strong 39% year-on-year growth for B2 cloud storage and 7% growth for computer backup. I want to start with two business highlights. First, our increasing success in moving upmarket. I'm proud of our team for executing on larger customer deals for both computer backup and B2 cloud storage. I'll go into the numbers in more detail later, but we're seeing success in moving up market both among paying customers and in our sales pipeline. Second, I'm happy to report that we are well on our way to our previously announced goal of approaching adjusted EBITDA breakeven in the fourth quarter. Frank will provide some insight on why we believe the company is well positioned to return to being cash flow positive without needing to access equity capital markets. I'm excited by the cloud storage opportunity ahead by supporting customers in the direction they want to head with the cloud. As leading advocates for the value of an open cloud ecosystem where customers can use the combination of clouds best suited to their needs, we believe customers need to be able to store and use their data any way they see fit. Additional cloud service providers are walled gardens that charge customers egregious fees to move data out of their clouds. And yet, customers' desire for best-of-breed solutions and the high prices of traditional cloud providers are driving customers toward an open cloud ecosystem being enabled by providers like Backblaze. And as these customers discover our ease of use, our openness to other technical platforms, and our low-price leadership, they tend to grow their usage and adoption of open cloud solutions, as is evidenced in the customer story I'll share later. As a reminder, we have two cloud service offerings. The first is our computer backup business, and the second is our B2 cloud storage service. I'd like to first give an update on our computer backup business. Computer backup is our more mature business, representing about 56% of revenue this quarter. While the majority of our investments have been focused on our B2 cloud storage service, computer backup continues to be a good business for us. In Q2, we closed our largest computer backup deal in company history with one of the most well-known social media companies in the world. This customer chose Backblaze to protect all of their employees' data because of the speed and ease of deployment of our solution. And as we worked with them, they gave our technical and support teams special recognition for their outstanding service. We see a significant opportunity to address the needs of more businesses with our computer backup solution. For B2 Cloud Storage, we continue to execute on our growth strategy, which includes the following key elements. Number one, optimizing our self-serve go-to-market motion. Two, expanding our sales-assisted go-to-market efforts. Three, leveraging partnerships. And four, cultivating application storage use cases. I'll briefly touch on the progress we are making on these elements of our strategy. Self-serve remains highly efficient for us as we continue to find opportunities to enhance the self-serve funnel. We overhauled our website infrastructure with an entirely new backend that provides a giant step forward in our ability to rapidly test and improve the user experience and to ultimately drive higher conversion rates. Also on the self-serve front, we launched a more targeted and personalized onboarding process to continue our focus on making it easy for customers to use our cloud. We're encouraged by the early results from this more intuitive customer onboarding experience. Moving on to our sales-assisted efforts, the number of customers with ARR greater than $50,000 increased materially to 74 in Q2 versus 48 a year ago. We don't plan on sharing this statistic every quarter as it may be variable and thus not necessarily meaningful on a quarter-over-quarter basis, but we believe there is a tremendous opportunity for Backblaze to move up market. We also began engagements with a number of large potential customers. While there's no guarantee that these opportunities will all close, we are encouraged that more and more larger customers are bringing us into their consideration set. Now let's talk partnerships, the third key element of the growth strategy I mentioned. For B2, partnerships are strategically important. Recall over one-third of our B2 revenue is from customers identifiably using our joint solutions with partners. One recent example of a new joint solution with a partner is the announcement of Cloud Instant Business Recovery, or Cloud IBR, by our partner, Continuity Centers. They built Cloud IBR using Backblaze B2 as the storage cloud to pursue opportunities in the disaster recovery as a service market, which is forecast to be $23.5 billion in 2027. Now, businesses of any size can use this new Cloud IBR service to get enterprise-grade disaster recovery capabilities. Another important aspect supporting our partner and channel efforts is trade shows. This quarter, we exhibited at BMON and NAB major conferences for data backup and the media industry respectively. We are encouraged to see an almost threefold increase in pipeline from these shows as compared to last year. Finally, a recent win came through our partnership with technology partner Fastly, an edge cloud platform. which resulted in a petabyte scale deal with one of the world's largest video game companies. Together with the Fastly team, we were able to quickly satisfy this customer's requirements. This mutually beneficial arrangement with Fastly is a great example that provides a better solution for the customer and creates opportunities for both open cloud companies. Moving on to the final key aspect of our growth strategy, application storage customers. Recall, we define application storage customers as businesses that use Backblaze V2 as the infrastructure for their SaaS or internet businesses. We've entirely rebuilt and launched a new developer documentation hub on our website to make it even easier for developers to build applications using our storage cloud. This revamped documentation hub makes many aspects of their onboarding easier, especially when working with our API. The new hub is already driving higher user traffic, and we have plans for additional enhancements, including more how-to videos, API test environments, and documentation. Making it easier for developers to onboard facilitates both self-serve and sales-assisted customers to adopt our Storage Cloud faster. As I mentioned earlier, I'd now like to share a customer story that hits on why Backblaze's low cost leadership, open cloud partnership program, and ease of use is compelling to SaaS and internet businesses. A rapidly growing consumer video app startup received free AWS credits to start. Once those were used up, they found AWS pricing to be prohibitive for them to scale. They came to us because they recognized that we were dramatically cheaper than AWS, and they were able to switch to Backvoice in just two weeks, in part because Backvoice provides Amazon S3-compatible APIs. The customer initially chose Backvoice for their archival data, but realized that Backvoice would also be ideal for all of their application data. And they migrated the rest of their data to us effectively doubling their storage with us. They also switched their network provider to reduce their infrastructure costs, which was enabled because we don't charge egress fees to customers using our open cloud technology partners. This is just but one of many examples of how transformational the open cloud ecosystem is for a company's business model. Before handing the call over to Frank, I'd like to touch on two topics of note to investors. First, I'd like to talk about Backblaze's move to a single class share structure. On July 6th, all outstanding Class B stock converted to Class A on a one-to-one basis. The elimination of the company's dual class share structure provides all shareholders equal voting rights and underscores Backblaze's commitment to good corporate governance and being a shareholder-friendly company. And second, I'd like to share a personal update with respect to my selling of Backboy shares, which is that I have canceled my 10b51 trading plan. I'll now turn the call over to Frank, who will review the financial results in more detail. Frank?
spk06: Thank you, Gleb, and thanks, everyone, for joining us today. Turning to our Q2 financial results, unless otherwise noted, I will be referring to non-GAAP metrics and the growth rates mentioned are year-on-year. We remain focused on two key metrics, revenue growth and adjusted EBITDA, which is defined in our earnings release. Our Q2 revenue totaled $24.6 million, an increase of 19%. Backblaze B2 contributed sales of $10.8 million, reflecting 39% growth. Computer backup revenue totaled $13.8 million, representing 7% growth. Please note that included in this number is a one-time catch-up payment of approximately $200,000 from one customer that was received ahead of our estimates, which will not reoccur in quarter three. In Q2, B2 Cloud Storage represented 44% of total revenue, continuing its upward trend. We're pleased by the continued strong growth as this highlights the resiliency and predictability of our business model and the appeal of our cost-effective solutions for customers. Turning to retention metrics, we track gross customer retention and net revenue retention, or NRR. Gross customer retention was 91% overall, with 90% for B2 cloud storage and 91% for computer backups. Total company NRR was 110%, with B2 cloud storage at 121%, and computer backup at 103%. Working down the P&L, adjusted gross margin was 75%, down from 77% last year, but an improvement from 72% in quarter one, 23. The primary driver of the decrease in gross margin year-on-year is due to the costs associated with our new and expanded data centers, which we mentioned in Q1. Adjusted EBITDA was a loss of $1.8 million, or negative 7% of revenue, compared to a loss of $1.9 million, or a negative 9%, in Q2 of 2022. Turning to the balance sheet, cash and short-term investments, including restricted cash, total $45 million at the end of Q2 2023 versus $57 million at the end of Q1 2023. Both Q1 and Q2 included significant expenditures for severance and other restructuring costs. We expect lower cash usage in Q3 and Q4 since these expenses have substantially concluded. I will elaborate more fully on the cash usage improvements momentarily. Now I'd like to provide our outlook for Q3. For the third quarter, we expect revenue to be in the range of 25 to 25.4 million. We expect Q3 adjusted EBITDA margin between minus eight to minus 4%. For the full year 2023, we are reiterating our full-year revenue guidance of 98 to 102 million. We are improving our full-year adjusted dividend guidance from the prior range of negative 10 to negative 6 percent to a new guidance range of minus 8.5 to minus 4.5 percent. Turning back to cash usage, we have several noteworthy improvements. While we do not guide to cash usage or generation specifically, there are several reasons why we feel comfortable in our cash position. First, our recent restructuring, which included reductions in staff, a consolidation of facilities and other savings, totals over $6 million in annual savings. Second, in Q3 and Q4-23, we will conclude the principal and interest payments on pandemic error leases commenced in late 2020. These leases, totaling an additional amount of over $6 million in capital expenditures plus interest, previously established an extra buffer to safeguard against supply chain disruptions. We continue to maintain sufficient buffers today, but no longer require elevated levels. Thirdly, due to both our software innovation and greater hardware efficiency from the manufacturers, our capital expenditures for production equipment are lower, both as a percentage of revenue and in total dollars year on year. For example, during the most recent three-year period, capital expenditures as a percentage of revenue is expected to decline from 28% in 2021 to approximately 18% in 2023. This reduction is occurring despite the 2023 data center expansions and openings. Please keep in mind we finance our capital expenditures for production equipment purchases over multiple years. Finally, we remain on track to approach adjusted EBITDA breakeven in Q4-23. This improvement stems from the areas already mentioned, plus lower growth in headcount additions relative to 2022, when many departments stood up brand new teams that were critical to pursue our growth initiatives and support our new public company requirements. We believe this combination of restructuring savings, moderating growth in headcount, and slower capital additions positions us well to reach cash flow break-even without accessing equity capital markets. I will now pass the call back to Glenn.
spk07: Thanks, Frank. Finally, I would like to recognize the commitment and hard work of the entire Backblaze team for delivering another strong quarter.
spk15: Operator, we're now ready to take questions from the cell site analysts on our call.
spk16: We will now begin the question and answer session. To ask a question, you may press star, then 1 on your telephone keypad. If you are using a speakerphone, please pick up your handset before pressing the keys. To withdraw your question, please press star, then 2.
spk13: At this time, we will pause momentarily to assemble the roster. And our first question will come from Chad Bennett of Craig Hallam.
spk16: Please go ahead.
spk20: Great. Thanks for taking my question. Congrats on the quarter. So just, Gleb, maybe just talk about on the B2Cloud side, you know, a little bit. I didn't hear much on the macro commentary, if there was any. And I think the past few quarters or a couple at least, we've talked about, you know, sales cycles shrinking and win rates improving. Just kind of how that business performed relative to your expectations from a bookings or ARR standpoint would be great.
spk07: Yeah, thanks, Chad, for the question. Good to hear from you. So maybe I'll start, and then if Frank has anything to add to it. I think from the macro perspective, one of the things that we talked about in prior quarters is that The traditional cloud providers have been talking about the headwinds and challenges of customers looking to optimize their spend with them. The customer is basically looking at it and saying, how can I provide the same value to my customers while decreasing my cost of infrastructure? And obviously a great way to do that is to switch to a lower cost provider like BackWise. And so they've been seeing significant optimization challenges to their environment. And we have been, on the one hand, there are some of the headwinds in the past of customers just generally doing less industry-wide. But on the other hand, we get to be the beneficiaries of customers looking to optimize away from some of the traditional clouds. I think we're still seeing customers coming to us for those same reasons, right? Customers are continuing to try to optimize off of the traditional copywriters and continuing to look for high-value choices, and we're the beneficiaries of that. So, you know, we talked about close rates and close cycles in the past. We're not going to report on those quarter on quarter on quarter, but what I'll say is that they've been relatively consistent with what we've said in prior quarters, even improving slightly. So, you know, I think we're enthusiastic about kind of how that's looking overall.
spk20: Okay. And then maybe a follow-up on B2Cloud. Just in any commentary on B2 Reserve bookings and in particular kind of performance through the channel there. And then I believe from a guidance standpoint, you guys have talked about B2Cloud ARR growing you know, 40% this year. Are you still comfortable with that growth rate?
spk07: So let me touch on the B2 Reserve, and then I'll hand to Frank for the growth rate for B2. On B2 Reserve, one of the things, just for people who may not remember from prior calls, the reason we are excited about B2 Reserve is that we see it as something that is good for customers, for the channel, and for back boys. B2 Reserve is the packaged version. It's the fixed price version of our B2 offering. So it's good for the customers because they have predictability. It's good for the channel because it's easier for them to sell that. And so we launched that in roughly the middle of last year. So B2 Reserve has continued to grow strongly, sequentially, quarter on quarter. So we're seeing good traction with it. As we talked about last quarter, it was a million in AR. So it's not a dominant portion of the business. It's not super material yet. But we are enthusiastic about the growth. And maybe, Frank, you can talk to the B2 growth numbers.
spk06: Thank you, Glenn. Hi, Chad. So, recall that B2 grew around 40% in quarter one and in quarter two. And we expect a similar growth rate in quarter four. But specifically in quarter three, we do see a one-quarter dip in that B2 growth to around 30%. And this is due to certain headwinds, including softer data growth recently, some seasonality, And it's really a tough comparison to the quarter three 2022 due to that prior initial ramp of our largest account ever. So, but as I said, we expect that Q3 dip to be temporary and we believe B2 will accelerate back to its Q4 40% or above.
spk20: Got it. And then maybe last one, if I may, for you, Frank, probably just so that it, what, It appears to be you've took out $12 million plus in annual costs out of the business. I guess a couple questions. Does that annualized rate run rate start in Q3 here? And then secondly, can you provide us any color into how that segmentation work looks on the P&L from a cost standpoint and where those costs came out of? Yes.
spk06: It's actually, what's going on is that we've got costs that are moderating in many areas, because remember that in 2022, we stood up all of our new departments, right? And that was to, you know, we really pursued that enormous potential for B2 in front of us and to be a public company. So what's happening right now is we're really moderating that growth quite a bit. From a P&L standpoint, we do have savings across all the line items. So in the gross margin, for example, we have, because we have lower lease costs, we're buying less equipment for the reasons I stated, the depreciation does go down. We do have headcount that either reductions or, you know, much slower growth in really all the areas. So it's really pretty widespread.
spk20: And evenly spread, would you say? I mean, is there a way to think about magnitude of each line, you know, rough magnitude of the line items?
spk06: Well, the facilities goes into the G&A, but we have other moderating expenses there. And in our restructurings, we reported that it was in sales and marketing areas that were not performing as well as we had hoped. So we did some moderation there.
spk20: Okay. Good. I appreciate it. Nice job on the quarter. Good to see the reiteration of the guide also. Thank you.
spk13: The next question comes from Elle Niebuhr of Lake Street Capital Markets.
spk16: Please go ahead.
spk18: Hey, this is Elle on for Eric Martinuzzi. I'm hoping you could talk a bit more about your expectations on IT spending going into 2024 and what sort of feedback you've received from your channel partners.
spk07: Hi Elle, thanks for the question. So by IT spending, I mean general kind of customer spend on IT infrastructure. I'd say, you know, we're certainly not guiding 2024 yet and I don't know that we have a tremendous amount of visibility into what customers are expecting to spend in 2024. I think we've seen some of the traditional cloud providers and some of our peers talking about that they expect customers to continue to be focused on optimization for the near term and possibly slightly longer term future. So just from kind of the industry data that we're seeing, it seems like this trend of customers continuing to look for where to find value so that they can provide the services that they want to provide to their customers while continuing to look for spend optimization doesn't seem to have quite stopped yet. And I think, you know, in the AWS announced that their growth still slowed to 12%. year on year. And I think that was still driven in large part by customers continuing to look to optimize their infrastructure. And so it seems like that has not yet stopped.
spk14: And so as they continue to look to optimize, we'll continue to look to help them.
spk10: Great. Thank you. And then last question.
spk18: Could you just touch on gross margin a bit more and go into detail on Q2 and what you're expecting for the rest of 2023.
spk06: Yes, we always are expecting, I'll do non-GAAP, we're always expecting the non-GAAP gross margin to be in the mid-70% range. What happened was we were lower than that in quarter one. We were at 72. And the reason that we bounced back up in quarter two is that we had a cessation of a lot of duplicate expenses as we were moving into our larger data centers. And then we opened up new data centers as well. There's a lot of one-time costs in setting them up. kind of across the board. And once we had all that behind us, which was in quarter two, we had that nice bounce up again. So as we look at the gross margins going forward, we do feel that they're going to be quite, you know, they're going to be in that range continuing because we do invest all the time in the data centers, but we don't have this large increase in either the number of data centers or expansions.
spk13: Great, thank you. The next question comes from Eric Zupager of J&P Securities.
spk16: Please go ahead.
spk03: Yes, thanks for taking the questions. First off, I'm just curious, any update on what your hiring plans are for the rest of the year and where you expect headcount to be? At least where did you end with headcount in Q2? And then you had talked about your growth, year-over-year growth going down to 30% Q3 and then back to 40% in Q4. What is the biggest factor for Q3, the tough comp? or what gives you the confidence that we will see the growth rate recover?
spk06: Okay. On headcount, we haven't provided quarterly headcount, but what we did provide was this. Last year, we grew headcount by 45% for the reasons that I stated earlier. It was our first public year, and we needed to stand up groups to go after this enormous opportunity that we have. now what we said also is that it's really moderating where we're filling in here and there for programs and our headcount is and then we did have a reduction staff so our headcount remains low it has a very modest uptick for the rest of the year and that's one of the reasons that we're so quickly heading to a bit of breakeven as far as our confidence Okay, as far as our confidence on what is causing that one-time dip, it is for the reasons that we said. They're pretty equal, I would say. When you have your fastest and largest, when you have your largest accounts start as fast as they did in quarter three, they grew the entire quarter and were at their peak within one quarter. That does make a difficult comp. because they're so large. We had said before they're a million-dollar account annualized. And the other factors are there as well. But when we look at quarter four, we have much more optimism of the 40%. But it's really returning back to where we've been.
spk03: Okay. Then lastly, have you seen any change from AWS from a pricing perspective?
spk07: We haven't. I mean, I think that from a competitive landscape perspective with them, we continue to see them staying fairly consistent. So we still see a number of customers moving over to us from AWS. We shared another one on the call this time. I think in the last quarter we shared one coming from Amazon, one coming from Google, one coming from Azure, and we continue to see customers moving from those. both for the pricing reason directly, that we're about one-fifth of their price point, but also because of our open ecosystem, the free egress that we provide to our technology partners is something that a lot of our customers appreciate, as well as the ease of use of the service.
spk15: All right, very good. Thank you. Thanks, Eric.
spk13: The next question comes from Simon Leopold of Raymond James.
spk16: Please go ahead.
spk17: Great. Thanks for taking the question. I wanted to see if maybe you could help us understand the sensitivity of your cost of goods sold to essentially the cost in data centers. And really the question sort of rooted in the view that data center space is scarce and therefore there's a lot of people competing for the capacity. And then also just relative to a year or two years ago, cost of electricity has gone way up. And your gross margins have been pretty stable. So I'm trying to get an understanding of sort of how that's affected you and how you think about that within the cost of goods sold. Thanks.
spk06: Yeah, you're right, Eric. The data centers have been, and their expenses have been stable in the sense that we haven't been as affected by what you're doing, by what you're saying. The data centers, when we actually, remember there are co-op sites, and we only contract for what we believe we will use, and if we need more, we can do that. So we're in contracted rates with the major providers, and we so therefore can anticipate, you know, what our costs will be in the future. As to the power, we did anticipate electricity. We did anticipate, you know, large increases, not as large as what we saw in Europe. Europe is a smaller data center. And so we've been comfortable in being able to forecast it and absorb those costs.
spk17: Great. And just as a quick follow-up, sort of rough math suggests that your operating expenses should be maybe just south of $19 million in the next quarter. So you're just putting a number to it would be helpful. I think everybody's sort of asked that question in a couple of different fashions, but maybe just south of $19 makes sense to what you're expecting.
spk06: What we've said before is that we really expect quarter-on-quarter expenses to be relatively flat. They're not exactly flat because we have programs that are in some quarters and out of others, but I think you can continue to see that. What you saw on quarter one to quarter two was only a 1% increase in OPEX expense. So, you know, that's been our trend.
spk13: Great. Thanks for taking the questions. The next question comes from Zach Cummins of the Riley Securities.
spk16: Please go ahead.
spk19: Hi, good afternoon. Thanks for taking my questions. Gleb, I just wanted to ask you about the prospects of moving up market. As you're thinking about getting involved with larger customers, I mean, what's the primary channel that you believe is going to be getting you towards those larger customers? Is it really the outbound channel or through strategic partners?
spk07: Yeah, thanks for the question, Zach. So one of the things we said at the IPO was that while we're focused on the mid-market, our platform can support any size of customer. And so the first part of that is I'm excited that we're seeing larger customers wanting to use the platform and we're successfully winning those deals and having them be happy, satisfied customers on our platform. In terms of where do we find them from, Our outbound sales team that we stood up with some of the proceeds from the IPO has started generating pipeline and bringing in some of those deals. So we're seeing a healthy pipeline of which larger deals are an important part of that pipeline. But we're also seeing deals that come to us inbound. And this is, I think, a function of the... the blog and the content marketing that we have invested into over the years. And some of those customers, they read about us, they learn about us, and then they come to us proactively directly. So we see it from both. I would say that we expect that we will be getting some from Channel. We mentioned one that came through our technology partner Fastly. We think that our partners... benefit from working with us. So the FAFSA example is any customer that works with one of the edge compute providers, they need to have data and that data needs to be stored somewhere. If that data is locked up inside of one of the traditional cloud providers, it makes it expensive and difficult for the customer to use those other best of breed edge cloud providers. And so it's in the customer's best interest. It's in our partner's best interest to have them move their data to us. And so we had that win from Fastly that they brought to us. And we expect to see more deals coming from technology partners as part of the ecosystem bringing deals to us. Some from the channel, we're already seeing pipeline from outbound and we're already seeing inbound deals as well.
spk13: This concludes our question and answer session.
spk16: I would like to turn the conference over to Mimi Kong, Director of Investor Relations.
spk09: Thank you, Andrea. I want to thank all the analysts for joining the call today, and thank you for all your questions. Next, we will answer questions submitted by retail investors on the Say Technologies platform. The first question I have is for both Gleb and Frank. What is management's plan to become a more profitable company?
spk07: So in terms of becoming a more profitable company, there's two obvious pieces to that. We're going to grow revenue and we're going to moderate expenses. On the growing revenue side of it, we talked about the four pillars that we're focused on with our growth initiatives, which is optimizing our self-serve motion, which makes it very efficient for customers to sign up, scaling our sales assisted with Deals like the ones that we talked about over $50,000 that we're seeing traction with and the million dollar deal that we said last year and the largest computer backup deal that we just announced this quarter. So that's on the sales assistant side on the partnerships side and expanding both with technology partners and channel. And then the last one being the application storage use case, where we help customers as a strategic part of their infrastructure. So investing behind the growth of the company so that we grow revenue, and then moderating on the expense side. And maybe, Frank, you can touch on the moderating on the expense side.
spk06: Yeah, we're continuing to drive efficiency, and it's through the discipline headcount additions, And as Gleb said, we're really investing in projects with solid returns. We measure everything so we can see which ones are doing the best where more investment should be and which ones we should pull back on because we're not as happy with those returns. And the other important thing is that we're on track to approaching adjusted EBITDA break even in that fourth quarter.
spk09: Now, next question is for you, Gleb. What are some future projects for the company?
spk07: So future projects I assume also includes future products. So, you know, we have a long history of improving our services, adding value to customers, we don't disclose our product roadmap for competitive reasons. But you can look back at some of the things that we have done. So, for example, we opened the East Coast data region for customers to be able to choose that. We added cloud replication, which enabled customers to store their data in multiple regions by turning on that functionality. We launched feature reserve, which we talked about a little bit earlier during the Q&A, a partner API, which helps our partners make it easier for them to integrate our service into their product offerings. extended version history for our computer backup customers. So we've done a lot of things to help customers store their data, protect their data, and also use their data. And that's where we continue to invest in. We also are working with our partners on enabling solution sets. So the solution set that we talked about with our partner continuity centers for disaster recovery is an example of that, as well as some of the other services that we've done with our edge compute partners. So overall, I think you can look back at some of the roadmap items that we have shipped as examples of things that are on our roadmap to ship.
spk09: And Gleb, what do you view as Backblaze's competitive advantage over other companies offering similar services? What is distinct or unique about Backblaze compared to competitors?
spk07: So in terms of distinct and unique, so first of all, we are dramatically easier to use. And I know a lot of people say that. I know a lot of technology companies in particular say that. And one of the things that we've seen is customers that sign up with us and then later come back and say, oh, my God, it was so easy to use your services. And the conversations I've had with some of them was like, well, yes, we've said that it was easy. But the response I often get is, I know you said it was easy. Everybody says their technology is easy, but yours actually was. And I think a lot of times ease of use is an underrated benefit. An analyst found that our customers save 92% of their time because we're so much easier to use. Apple has built a trillion-dollar company by focusing on making products easy to use. So I think ease of use is one very key differentiator for us. We're also dramatically less expensive than other providers. we are supporting the open cloud ecosystem. And we do that by making it easy and inexpensive for customers to use their data in the way they see fit, to use it with other edge compute providers, with other AI services, with other compute providers, et cetera. So by enabling them to have that open ecosystem of data, we make it so that it's easier for them to build their business the way they want to build it. So, much easier to use, much less expensive, and supporting the open ecosystem.
spk09: And this next investor would like to know, where do you see growth opportunities in the coming year?
spk07: So, growth opportunities in the coming year. I mean, we're pursuing this $50 billion market by 2027. So, there are many opportunities. I think that we talked about the growth initiatives that we're pursuing. We also highlighted that we're seeing momentum and investing behind going after larger customers in the mid-market. And so I see that as an interesting opportunity for us. B2 Reserve, which we talked a little bit about earlier on this call, it's not a very large part of B2, but it is a rapidly growing part of B2. And on the computer backup side, we have... helped both individuals and businesses for a long time. We're continuing to see more businesses specifically come to us looking for us to help them protect all of their employees and all of their employee data with our computer backup service.
spk09: Now this next shareholder asks, how will I benefit with the other shareholders putting my faith and money with your company? I've been optimistically happy and supportive to date. Why should I continue down this path?
spk07: So first of all, I appreciate all investors and shareholders investing and having faith in us and giving us the runway to execute on our growth initiatives. Certainly, I also hope that, as Cheryl said, some of you may choose to become customers, which will both help the growth of the company and also hopefully help you as well. From the investor side specifically, Since the time we went public, we entered into a market which was facing inflation, recession fears, interest rate hikes. And despite that, we executed, as we said, we have been building the company in a stable and predictable fashion. We executed on our growth initiatives. We grew revenue double digits year on year in every quarter since we went public. We're approaching just a bit of break even, which is a key milestone on our path to profitability. And as Frank talked about, we have taken action on improving our cash flow trajectory as well. Recently, we also eliminated the dual class share structure that we had, which now gives all shareholders equal voting rights. And we saw that as a good step for corporate governance and also just being a shareholder-friendly company. So I think we've executed well and we're taking actions to be supportive to shareholders overall.
spk09: The next question is a little bit more technical. What strategies are in place to ensure privacy of stored data?
spk07: So privacy and security of data are actually both critically important for us. We have a chief information security officer with a staff in place That team works every day to ensure privacy and that team also has throughout the organization other partners that work with them across the company to ensure the security and privacy of data. We encrypt data in transit. We offer various levels of encryption at rest. We use third parties to attempt to find vulnerabilities in our systems. Overall, we have a robust and privacy program with physical, digital, and policy safeguards. We recently completed our SOC 2 audit. So overall, we're taking a host of actions and have the teams in place to protect customer data privacy and security.
spk09: I'll go up this next investor ask. Your competitors have raised prices. Are you considering the same? Should you?
spk07: So we certainly believe that we're an excellent value. As we talked about, we're seeing many customers leaving the traditional clouds to continue providing high value to their customers while reducing their infrastructure costs. We believe we're a great value in the current market, and we are always considering ways to both optimize our product offering and ways to grow our business.
spk09: Now this next question is very topical. Is Backblaze going to use AI for future growth?
spk07: So AI is certainly something that's top of mind. It's a very exciting time to run a business that benefits from data growth. When there are new applications constantly that are generating data, certainly general AI is growing explosively. We are starting to use and looking at additional ways to improve productivity inside of the company using AI. And on the AI front, our customers are using AI. We have dozens of AI customers that are through our sales-assisted motion alone. And you may remember our sales-assisted customers are about 20 times larger than our self-serve customers. So there's certainly a lot of growth being generated in data. by AI use cases, and we're excited about the opportunities to leverage that for the growth of Backway School.
spk09: Next question. How are you encouraging employees to seek more responsibilities and leadership roles? Now this investor also notes, I believe this promotes staff to self-promote the company and in part create positive culture and increase ROI.
spk07: So I love the question in part because we all agree with the sentiment, right, which is that at the end of the day, the people make the company and that happy and successful people in the company lead to happy and successful outcomes for everybody, including for an investor or a wife. So our culture is very important to us. We certainly believe in promoting from within. I think we have some data points that show that we've been supportive on this front. We were recognized by Great Places to Work. We were recognized for a 2023 Diversity Award. We were recognized by Fortune's Best Workplaces in the Bay Area. Our turnover continues to be low, and we continue to regularly reevaluate how we can help ensure that our employees are happy and successful as as part of the company, and hopefully then also are excited about promoting Backblaze to their customers, their friends, their other partners, et cetera.
spk09: I'm going to give you a rest, Gleb. You did a marathon of questions. Next question will be for Frank. So how has the management managed or limited possible exchange rate fluctuations?
spk06: You know, it's a good question because we do have customers in 175 countries. But we don't have large foreign currency risk. And the reason for that is that our customers pay us in U.S. dollars. And then as we look at our expense side, we just don't have a lot of international expenses. We have some for our international data centers. We have international taxes. But overall, the foreign currency risk for us is very low.
spk11: And that concludes the portion of questions from SAIT Technologies. Andrea?
spk13: The conference has now concluded.
spk16: Thank you for attending today's presentation and you may now disconnect.
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