Dropbox, Inc.

Good afternoon, ladies and gentlemen. Thank you for joining Dropbox's fourth quarter 2021 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. As a reminder, this conference call is being recorded and will be available for replay from the investor relations section of Dropbox's website following this call. I will now turn it over to Karan Kapoor, head of investor relations for Dropbox. Mr. Kapoor, please go ahead.

Thank you. Good afternoon, and welcome to Dropbox's fourth quarter 2021 earnings call. Today, Dropbox will discuss the quarterly financial results that were distributed earlier. Statements on this call include forward-looking statements including future financial results, including our goals and expectations regarding future revenue growth, profitability, and our ability to generate and sustain positive free cash flow, our expectations regarding anticipated benefits to our business, and the impact to our financial results, including estimated impairment charges as a result of our shift to a virtual-first work model, our expectations regarding the future performance of our business, operational efficiencies we may achieve as a result of changes to our organizational structure, our expectations regarding remote work trends, related market opportunities, and our ability to capitalize on those opportunities, our capital allocation plans, including expected timing and volume of share repurchases, future M&A opportunities, and other investments, our ability to drive user growth and retention by enhancing our products, developing and offering new products or features, and through strategic partnerships, Our strategy, as well as the ability of our key employees to execute our strategy and our overall future prospects and ability to generate shareholder value. 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 the risk factors included in our form 10Q for the quarter ended September 30th, 2021. and the risk factors that will be included in our Form 10-K for the year ended December 31st, 2021. 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 8K filed today with the SEC, and may also be found in the supplemental investor materials posted on our investor relations website at investors.dropbox.com. I would now like to turn the call over to Dropbox's co-founder and chief executive officer, Drew Houston. Drew? Thanks, Kern, and good afternoon, everyone. Welcome to our Q4 2021 earnings call. Joining me today is Tim Regan, our Chief Financial Officer. I'll start with a recap of 2021 and provide an overview of our strategy for 2022. Then Tim will go over for our results for Q4 and fiscal year 2021, give guidance for Q1 and full year 2022, and provide an update on our long-term financial targets. So let's get started. To recap, 2021 was a strong year for drop-off. We ended with over 2.2 billion in ARR, significantly increased our profitability, grew free cash flow by over 40%, and reached approximately 600,000 paid teams. And throughout the year, we stayed focused on our three strategic objectives and delivered even more value to our customers as we work towards our long-term vision to organize all your cloud content and the workflows around it. Our first objective for 2021 was to evolve the Dropbox core offering. We made investments to simplify and remove friction from the experience to drive customer satisfaction and gains in long-term retention, while also improving high-value actions like sharing content and previews and mobile and team onboarding flows. I'm pleased to see these investments pay off. We've seen retention improve with churn coming down each quarter in 2021, and our rebuild of the mobile experience, which we began in 2020 and continued in 2021, was one of the biggest drivers of churn improvements. Last year, we also made improvements to quality, performance, and sharing to drive mobile user acquisition and retention at the basic level. And these are crucial investments because nearly half of our basic sign-ups come from mobile, and over 40% of mobile sign-ups come from users receiving shared content. We also reduced the friction in the onboarding experience for mobile and self-serve Teams users. We made it easier for basic users with a corporate domain to find a team after signing up, which drove a 15% increase in the request to join rate. And we also saw a nearly 20% increase in the invites sent per team by encouraging existing team users to invite their collaborators to the team within the sharing flow. Our second objective for 2021 was to invest in our product pipeline beyond the core experience. In early 2021, we acquired Docsend, a secure sharing and document analytics company. With Docsend, we added to our suite of document workflow capabilities, and I'm pleased to say it has outperformed our expectations each quarter. We're excited about DocSend's strength and our plans to further integrate it into Dropbox along with HelloSign. We also launched our newest products into beta, Capture, Replay, and Shop, which are designed to better support creative workflows and distributed teams. And lastly, in Q4, we closed our acquisition of Commandee, a universal search company that we believe will help bring our vision to life as we work to make it easier to find and organize all your cloud content. I'm really excited for our plans to build universal search into our roadmap and offer this capability to our users, which I'll share a bit more on later. Our last objective of 2021 was driving operational excellence and executing against our long-term financial targets. I'm proud of our progress here as we expanded our non-GAAP operating margins nearly nine points year over year, consistent with our improvements in 2020. And we increased free cash flow by over $200 million while delivering significant capital back to shareholders in the form of share purchases, which Tim will discuss in more detail. And finally, we completed a full year in our virtual first operating model. And though we're still early in the transition, we're already realizing some of the benefits. Employees report that they value the flexibility that our model offers, are more productive, and we're also seeing positive trends in the taxing and hiring diverse and distributed talent. I'm excited to build on all the great work from 2021 this year. As I've shared before, there's never been a better time in history to be building software to improve the experience of modern work. And Dropbox is uniquely positioned to support our customers as they transition to new ways of working. To help frame our strategy, I want to reiterate some of the key macro trends we continue to see in this environment. First, over the last year, we've continued to see companies accelerate their shifts to the cloud as they adapt to more flexible or hybrid working models. We also see the ongoing growth of the creator economy, as new tools and platforms offer more seamless ways to create, publish, and monetize content. And more broadly, it's clear to us that the shift from working primarily in physical offices to working primarily in digital screens is a permanent one. We continue to see a huge opportunity to improve that experience and help organize the digital lives of our customers. So with these themes in mind, this year we remain focused on three important pieces of our strategy, much of which is consistent with the work we began in 2021. First, we'll continue to evolve our core FSS business to improve retention and drive monetization. Second, we're expanding workflows beyond FSS around documents with HelloSign and Docsend, while also investing in rich media workflows to better serve creators. Finally, we'll stay focused on operational excellence as we continue to do balance growth and profitability. I'll go deeper into each piece of that strategy, starting with evolving our core business. In order to drive monetization, we're focused on improving retention, strengthening the top of our funnel, and leveraging pricing and packaging. Let's start with retention. While we steadily reduced our churn rate over the past year, there's still more room for improvement in usability and speed in our mobile and sharing capabilities. Investments we're making here include updating our web architecture, which enables much faster web loading, improving mobile visuals when browsing and organizing, and enhancing our search capabilities so users can find their content faster. Virality and network effects are another key driver of retention, as users who share tend to retain at higher rates. We've simplified the sharing experience so it's easier for mobile users to access shared content, and we're also making it easier for work users, whether solo professionals or small teams, to quickly share and receive content across all of our services. Teams will be easily able to see who has access to the content they've shared and any actions taken by recipients. Finally, we're enhancing the recipient experience for teams, making it more efficient for them to immediately engage with shared content, to reshare it, add more content to a shared folder, or begin a related workflow like eSignature. And while reducing churn is one component of improving monetization, we're also focused on our top of funnel and on conversion. We've increased our marketing investments to drive product awareness of the new value that we provide beyond FSS, and we're making improvements to our web surfaces and our CRM to deliver more personalized and relevant product experiences along with building a more seamless onboarding process overall. These investments also support our efforts to convert basic users, particularly on mobile, where we can easily surface some more of our high-value mobile features, such as camera uploads and scanning, and use mobile prompts and promotions to surface the right plan to users at the right time. Building on conversions, we're also experimenting with upsell opportunities through self-serve add-ons to drive more value from existing users. For example, in Q4, we rolled out our extended version history add-on to Plus users to allow them to extend deleted file recovery and version history from 30 days to a year. We'll continue iterating on this approach with adjacent products in the pipeline, and I'll have more to share on that in the coming quarters. In the past, we've also had success leveraging effective pricing and packaging to drive growth. And it's always been tied to high-value capabilities that we see demand for from our customers. And two areas we're especially focused on this year are security and automation. As more and more companies shift their workloads to the cloud, we continue to see security rank as a top spending priority for IT decision makers of every kind, from CIOs down to solo professionals. And this year, we plan to expand our offerings to include both lightweight capabilities like advanced alerts and insights and controls, as well as more robust protection against today's most critical threats like ransomware and phishing. We'll also be building on our existing functionality, like passwords, to provide easy access to identity monitoring and manage shared accounts for teams and freelancers. And most recently, we updated passwords into a browser-first product and enabled password sharing, and we'll continue to iterate on this experience. In addition, we're committed to investing in automation and machine intelligence to help our users organize their content and search and discover content more easily. We've learned from our most passionate, creative customers that they need more than folders to collect and organize their content, which tends to be large format and rich media. And they're used to targeted search to find what they're looking for, and they don't want to waste time browsing, especially since most of them live in a hybrid world of traditional media and cloud content. So this year, we plan to improve the ways that users can view and manage their content through better suggestions and surfacing-assisted and automated controls and search and performance. As always, we improve our products, we add new functionality like security and automation, and we increase the value for our customers. And as we do that, we'll also iterate on pricing and packaging that best reflects that value. Now on to the second pillar of our strategy, which is expanding into adjacent workflows beyond FSS. In 2021, we saw the number of PDF files shared on Dropbox grow by nearly 40%, and the number of videos shared grew by over 25%. This kind of demand is why we're committed to driving workflows around documents with HelloSign and Docsend and around rich media like videos to better serve creatives and teams. HelloSign and Docsend were our fastest growing businesses in 2021, and we're excited about the opportunity to expand their customer reach. An important part of this is bringing these products under the Dropbox umbrella, both through our backend technology and brand. And this month, we relaunched Docsend as a Dropbox product with Dropbox Docsend and went live with an updated marketing website and more consistent user experience. In addition, we went to market with our first Dropbox and Docsend bundle, where we applied key learnings from our e-signature and pro bundle, which has also seen increasing adoption. We continue to integrate HelloSign and Docsend to enable a true multi-product experience that makes it easier for our customers to build the best plans for them in one checkout across both web and mobile. And we see more opportunity to further integrate these workflows into our core functionality so that users can see e-signature and analytics, for example, side by side with their FSS solution. And in late Q3 and Q4, we also took our newest product experiences, Dropbox Capture, Shop, and Replay, to market to support creative professionals and teams around rich media. We've seen strong adoption and engagement from beta users who appreciate the ease of use of Shop and the time savings from Capture and Replay. Supporting creative professionals is an important part of our growth strategy, as these are a passionate and expanding base who are looking for more seamless ways to share digital content with their collaborators and their customers. For example, Dropbox was integral to the Sundance Film Festival's ability to seamlessly go virtual in 2021 and 2022. Sundance's team used Dropbox to request and share video content throughout the festival and collect, organize, and share all the new assets that they needed to create a dynamic and more accessible experience for the filmmakers and the attendees. And then finally, we'll continue to focus on operational excellence. Our technology infrastructure team has done a great job strengthening our supply chain relationships to stay ahead of any constraints. We'll also roll out Kubernetes this year to improve our infrastructure utilization, which we expect to drive efficiency and reduce costs, while allowing us to maintain a more flexible footprint between public and private cloud. This is a great example of how we're increasing efficiency and making progress towards our long-term financial goals, which Tim will outline. And I'm really grateful to our employees who keep our business running and bring our culture to life. I'm pleased to share that once again, Dropbox has been included on the Forbes Best Employers list for 2022. And for the seventh year in a row, Dropbox received a perfect score on the Corporate Equality Index. We're proud to stand alongside many of our peers as we support diversity, equity, and inclusion across all industries. We'll also continue to expand our geographic footprint and diversify our talent pool through virtual first. To close, I'm really excited about our strategy and our opportunity this year. And I'm really proud of all the progress we made in 2021 to lay the groundwork for the important work we have ahead. As I think about the future, what I'm most motivated by is the universal problem that we're solving for our customers and helping to organize their working lives in the new remote and hybrid world. As I shared earlier, we see the shift from physical offices to digital screens as a permanent one. And we see a lot of room for improvement in the chaotic and overwhelming experience of those screens today. Most knowledge workers are caught between the file and browser-based world, juggling a sea of web-based productivity apps. The 100 files we used to see on our desktops are now 100 tabs in our browsers. So in many ways, we're solving today's version of the same problem we saw back in 2007. Our foundational work in 2021 was an important step towards a long-term vision of building one organized place for your cloud content and all the workflows around it, and I'm looking forward to the year ahead. With that, I'll hand it over to Tim to walk through our financial results.

Thank you, Drew. On today's call, I'll walk through our fourth quarter and full year 2021 results, our 2022 guidance, along with some context underlying this guidance, And then I will close with an update on our long-term targets. Starting with our fourth quarter and full year 2021 results, total revenue for the fourth quarter increased 12.2% year over year to $565 million, beating our guidance range of $556 million to $559 million. Our revenue outperformance was driven by strength in our higher ASP offerings, such as our professional SKU, our team's plans, and DocSend. Foreign exchange rates provided approximately a 150 basis point tailwind to growth. Total ARR for the quarter grew 11.8% year-over-year for a total of $2.261 billion. On a constant currency basis, ARR grew by $43 million sequentially and 10.2% year-over-year As Drew highlighted, our continued growth in ARR reflects our efforts to attract new users to our premium SKUs and to drive better retention by improving the user experience with a specific emphasis on mobile, work, and Teams users. We exited the quarter with 16.79 million paying users and added approximately 300,000 net new paying users in the fourth quarter, driven by strength in our team's plans and the continued adoption of our family plan. Average revenue per paying user was $134.78 in Q4. Before we continue with further discussion of our P&L, I would like to note that unless otherwise indicated, all income statement figures mentioned are non-GAAP and exclude stock-based compensation, amortization of purchased intangibles, certain acquisition-related expenses, impairments of our real estate assets, expenses related to our reduction in force, and net gains on our lease termination. Our non-GAAP net income also excludes net gains and losses on equity investments, the income tax benefit from the release of a valuation allowance on deferred tax assets, and includes the income tax effect of the aforementioned adjustments. I'll now provide a brief update on our real estate strategy, where we are taking steps to decost our real estate portfolio as part of our transition to a virtual first model. We continue to make progress against our goals, executing subleases in Seattle and Ireland in the fourth quarter. As we anticipated during our previous earnings call, in the fourth quarter we also successfully reached an agreement with our landlord to buy out a portion of our San Francisco lease where we had an existing subtenant in Q4. This resulted in a one-time payment of $32 million, which is reflected within our cash flow from operations, and a $14 million gain on lease termination, which is reflected within our GAAP results. As a reminder, this lease termination agreement will drive significant savings, as the amount of rent payments avoided exceeds the amounts we otherwise would have generated from our previous sublease. In the future, we may enter into similar buyouts with our landlords, should the economics make sense for us, though there are no other pending deals at this time. Separately, during the fourth quarter, we incurred impairment charges of $14 million on our remaining facilities footprint, as continued pandemic restrictions translated to slower than expected subleasing. This brings our cumulative impairment incurred to date to $430 million. We continue to estimate that our total impairment charges will be up to $450 million. Additionally, in Q4, our GAAP net income was favorably impacted by a $38 million increase one-time income tax benefit from the release of a valuation allowance on Irish deferred tax assets. This event is a result of our improved profitability, leading us to conclude that our valuation allowance on these deferred tax assets is no longer necessary. I would also note that there is no cash impact associated with this one-time benefit. With that, let's continue with the P&L. I'd note that all expense categories continue to benefit from lower facilities-related costs driven by pandemic restrictions and a reduction in depreciation as a result of the write-down in our real estate assets stemming from the aforementioned impairment. Gross margin was 81% for the quarter, representing an increase of one percentage point on a year-over-year basis. The improvement in our gross margin is primarily a result of the continued rollout of hardware efficiencies across our internally managed storage and data infrastructure. Fourth quarter R&D expense was $148 million, or 26% of revenue, which is slightly increased as a percent of revenue compared to the fourth quarter of 2020. Sales and marketing expense was $99 million, or 17% of revenue, which decreased compared to 20% of revenue in the fourth quarter of 2020. G&A expense was $43 million, or 8% of revenue, which decreased compared to 9% of revenue in the fourth quarter of 2020. In total, we earned an operating profit of $168 million in the fourth quarter, which represents an operating margin of 30%, or a four percentage point improvement compared to the fourth quarter of 2020. Net income for the fourth quarter was $160 million, which is a 36% improvement over the fourth quarter of 2020. Diluted EPS was a record $0.41 per share based on 386 million diluted weighted average shares outstanding, up from $0.28 per share based on 416 million diluted weighted average shares outstanding for the fourth quarter of 2020. Moving on to our cash balance and cash flow. We ended the quarter with cash and short-term investments of $1.718 billion. Cash flow from operations was $163 million in the fourth quarter and included the impact of the aforementioned lease buyout of our headquarters in San Francisco. Capital expenditures were $1 million during the quarter. This resulted in quarterly free cash flow of $161 million compared to $158 million in Q4 of 2020. In the fourth quarter, we added $16 million to our finance leases for data center equipment. Let's turn to our share repurchase activity. In Q4, we repurchased 11.2 million shares, spending approximately $295 million, nearly doubling the number of shares purchased from Q3. As a reminder, our buyback program is structured to buy more shares at lower price points. At the end of Q4, we had approximately $344 million remaining on our $1 billion share repurchase authorization. Additionally, as we will discuss in greater detail later on this call, we're pleased to announce that earlier this month, our board authorized an additional $1.2 billion share repurchase program. Now let's turn to our full year 2021 results. Total revenue for 2021 was $2.158 billion, representing 12.7% year-over-year growth, beating our updated guidance range. On a constant currency basis, relative to the average rates across 2020, year-over-year growth would have been 11.1%. Reflecting on this for a moment, our 2021 total revenue beat our initial constant currency revenue guidance of approximately 8% by over 300 basis points as we executed against our strategic pillars and outperformed throughout the year. Gross margin was 81% for the year, which was up one percentage point from 2020. Operating margin was 30% for 2021, which was up nine percentage points from 2020. This significant year-over-year improvement demonstrates our continued commitment to and ability to execute against our long-term financial targets. Net income was $609 million for the year, a 56% improvement over last year. Diluted EPS was $1.54 per share, based on 396 million diluted weighted average shares outstanding. up from $0.93 per share for the full year 2020. Cash flow from operations for 2021 was $730 million. Capital expenditures for the full year totaled $22 million, which resulted in free cash flow of $708 million, or 33% of revenue. Free cash flow grew by over 40% year over year. In 2021, we also added $127 million to our finance lease lines for data center equipment. Net of repayments, our finance lease balance increased by $17 million. Finally, we repurchased approximately 41 billion shares, spending over $1 billion in 2021. I'd now like to share our 2022 first quarter and full year guidance, where I will also provide some context on the thinking behind this guidance. For the first quarter, we expect revenue to be in the range of $557 million to $560 million. We are assuming a minimal currency tailwind of approximately $1 million in the first quarter. Additionally, and as a reminder, there are fewer subscription days in the first quarter of each year. We expect non-GAAP operating margin to be in the range of 27.5% to 28%. As a reminder, there is some seasonality with first quarter operating margins as payroll taxes reset at the start of each year. Finally, we expect diluted weighted average shares outstanding to be in the range of $375 million to $380 million shares based on our trailing 30-day average share price. For the full year, we expect revenue to be in the range of $2.320 million billion to $2.330 billion. This range is inclusive of an approximate $16 million currency headwind. We expect gross margin to be approximately 81%. We expect non-GAAP operating margin to be approximately 29%. We expect free cash flow to be in the range of $760 million to $790 million. This includes $17 million in cash outflows for the 2022 installments of acquisition-related deal consideration holdbacks. Additionally, our free cash flow guidance is inclusive of an estimated $30 million headwind as a result of pending R&D tax legislation which I will elaborate on shortly. As related to capital expenditures, we expect our additions to finance leases to be approximately 5% of revenue. And we expect cash capex to be in the range of $25 million to $35 million in 2022. We expect 2022 diluted weighted average shares outstanding to be in the range of $368 million to $373 million shares. In addition to this formal guidance, I wanted to share some further context behind our expectations for 2022. As related to revenue and as Drew shared, we've been investing across the business as we grow our product portfolio. Specifically, we have increased our investment in R&D and marketing initiatives in recent quarters in a targeted way to address key opportunities, including efforts aimed towards improving our retention trends, fueling growth areas such as DocSend and HelloSign through both product innovation and foundational improvements that help us capture the synergies inherent in these deals, and launching new features and capabilities aimed at improving conversion. We also continue to invest in ensuring a seamless experience for our customers as we adapt our desktop client to operating system updates and changes, most recently related to a new version of macOS. And we're also building out our capabilities in security and automation to address customer demand in an increasingly complex environment. As we continue to add value with these features and other investments in the user experience this year, we envision updates to our pricing and packaging approach for a subset of our customers to reflect this value. We expect the cumulative impact of these efforts to translate to monetization momentum, culminating in accelerating revenue growth in the back half of the year. Any changes we are considering on pricing and packaging in the second half of the year have been factored into this guidance. As related to operating margins, we are facing a few exogenous headwinds this year that are playing a role in our guidance. In 2021, we benefited from approximate two-point FX tailwind, whereas in 2022, we are currently expecting roughly a 50 basis point headwind. We also expect to incur incremental T&E, event, and overhead expenses in 2022 as pandemic restrictions soften and company travel and employee gatherings resume. Additionally, we will continue to invest in R&D and sales and marketing initiatives that carry a compelling ROI. As related to free cash flow, our guidance includes a $30 million cash tax headwind as a result of pending tax legislation that would defer recently effective laws that now require R&D costs to be capitalized for tax purposes. There is a possibility that the current legislation may be amended or repealed. However, until such time, we are including this impact in our guidance. Furthermore, I'll now share an update on our long-term targets. which we plan to achieve by 2024. Our infrastructure team continues to drive innovation and efficiency as we manage our storage footprint. As a result, we are now above the top end of our previous long-term gross margin target range, and we continue to see incremental room to drive efficiencies. As such, we are raising our long-term gross margin target to a range of 80% to 82%, up from our previous range of 78%, to 80%. As related to operating margins, and despite the exogenous headwinds mentioned earlier, we are confident in our ability to drive leverage in our business. As a result, we are increasing our long-term operating margin target to a range of 30% to 32%, up from our previous range of 28% to 30%. It is important to note that even with raising our operating margin targets, we maintain flexibility to invest in high ROI initiatives as top-line growth remains a key priority for us. Additionally, despite the aforementioned cash tax headwinds, we are reiterating our goal of annual free cash flow of $1 billion by 2024. Lastly, I want to share an update on our plan to return capital to shareholders in the form of share repurchases. We plan to exhaust our previously authorized $1 billion share repurchase program in the first half of this year. Furthermore, as previously mentioned, our board has authorized an additional $1.2 billion share repurchase program consistent with our strategy to allocate a significant portion of our annual free cash flow to share repurchases with the goal of reducing our share count. In conclusion, our financial objectives remain intact. We continue to focus on balancing growth and profitability in a thoughtful, disciplined way. And we continue to allocate capital to initiatives that carry a compelling return while also returning cash to shareholders in the form of share repurchases. This strong Rule of 40 financial profile enables us to invest in the biggest opportunities that we may see to enhance the value of our product offerings, to drive long-term sustainable top-line growth, and to create shareholder value. We will continue to assess these opportunities, which could range from additional strategies to monetize our free user base, inorganic opportunities to enter into product adjacencies, or organic initiatives as we aim to solve the challenges that our customers are facing. In short, we continue to have many opportunities to win, and we are very excited about the road ahead. With that, I'll now turn it over to the operator for Q&A.