Avalara, Inc.

Ladies and gentlemen, thank you for standing by, and welcome to the Avalara Third Quarter 2021 Earnings Conference Call. All participant lines are in a listen-only mode. After the speaker's remarks, there will be a question and answer session. If you would like to ask a question during this time, simply press star, then the number 1 on your telephone keypad. To withdraw yourself from the queue, press star 1 again. Thank you. I would now like to turn the call over to Jennifer Gianella, Vice President, Investor Relations. Please go ahead.

Good afternoon, and welcome to Avalara's third quarter 2021 earnings call. We will be discussing the results announced in our press release issued after market closed today. With me are Avalara CEO, Scott McFarland, and CFO, Ross Tenenbaum. Today's call will contain forward-looking statements. which are made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. Forward-looking statements include statements concerning financial and business trends, the impacts of COVID-19 on our business and global economic conditions, expectations regarding the integration of acquisitions into our business, and growth opportunities and synergies arising from such acquisition. Our expected future business and financial performance and financial condition and our guidance for the fourth quarter and fiscal year 2021, and can be identified by words such as expect, anticipate, intend, plan, believe, seek, or will. These statements reflect our views as of today only, should not be relied upon as representing our views at any subsequent date, and we do not undertake any duty to update these statements. Forward-looking statements by their nature address matters that are subject to risks and uncertainties that could cause actual results to differ materially from expectations. For a discussion of the material risks and other important factors that could affect our actual results, please refer to the risks discussed in today's press release, our annual report on Form 10-K filed with the Securities and Exchange Commission on February 25, 2021, and our other periodic filings with the SEC. During the call, we will also discuss non-GAAP financial measures which are not prepared in accordance with generally accepted accounting principles. A reconciliation of the GAAP and non-GAAP results is included in our earnings press release, which has been filed with the SEC and is also available on our website at investor.avalera.com. With that, let me turn the call over to Scott.

Thanks, Jennifer, and welcome to everyone joining our Q3 2021 earnings call. Q3 was another great quarter for Avalara, demonstrating the strength and durability of our business model. we reported Q3 total revenue of 181 million, representing an increase of 42% year over year, one of our strongest quarters in history. When combined with the first half, this was the best fiscal year-to-date performance in terms of revenue growth rate since going public. Our strong growth was driven by solid performance across the business and the addition of strategic acquisitions that we closed since Q4 2020. Even excluding acquisitions, organic revenue growth in the third quarter increased 29% year over year. Once again, I'm excited to see a very balanced quarter with success points coming from many key initiatives. Our success in attracting new customers across a wide range of industries, segments, and geographies is very exciting. We are winning large, multi-product deals and cross-sell wins from our acquisition. We also experienced strong customer retention and solid upsell activity. A great proof point is our revised net retention rate of 116% and our legacy net retention rate of 112%, which was the second highest since our IPO. As part of our growth strategy to expand our international reach, we are very pleased with the attendance and the excitement at our annual international flagship event Virtual Inspire 2021 in October. The event was a big success with more than 4,000 registrations from around the world, the largest in our history. The theme this year was Powering Global Commerce and was focused on empowering leaders with the knowledge they need to grow their business internationally. We believe that to dominate the future of global compliance and distance ourselves even further from the competition, We must have the best content powered by AI and machine learning, the largest number of partner integrations, and the most robust technology platform, not to mention best-in-class onboarding. As you can see from our year-to-date results, customers are choosing Avalara to streamline their tax compliance at a brisk pace, and our value proposition has never been more relevant. As further validation, we are honored to win significant independent third-party recognition from IDC, demonstrating the impact we are making in the industry. IDC recognized Avalara as a leader in three reports covering worldwide SaaS and cloud-enabled tax automation software for small and mid-sized businesses, enterprise, and value-added tax. Being recognized as a leader across all three IDC MarketScape categories further validates the pioneering innovation our teams are delivering to best serve our customers around the globe. Stepping back, we started our journey in the SMB market with aspirations to dominate all segments. Today, we are a leader in SMB, a massive greenfield opportunity, and minimally penetrated. And over the past few years, we have successfully invested in expanding our reach into the enterprise, small, and international segments. As I've said before, it's a long-term journey, and we have a bold vision to be part of every transaction in the world. Our leadership recognition validates what we've been saying over the past few years, and we fully expect that our position in these industry analyst reports will continue to grow our vision as i've mentioned before avalera is in a unique position to benefit from four major trends we are seeing impacting businesses of all sizes including the fundamental shifts in the fabric of commerce and regulatory obligations along with rising adoption of cloud-based infrastructure and roi expectations in the market the growth of omni-channel commerce is a generational opportunity for avalera Businesses adopting or expanding e-commerce and marketplaces selling are excellent prospects for us as their omni-channel complexity and compliance exposure grows. As more businesses of all sizes continue to replace on-premise applications with cloud services, the concept of cloud compliance has shifted from a novel approach to an expectation in the market. One of the drivers of this shift is the economic efficiency delivered by cloud services and automation. Even beyond COVID, we expect our cost efficiency and ROI messaging to continue to resonate and be a key driver for purchasing decisions with our prospects. Against this encouraging backdrop, growth remains our top priority. So we intend to increase our investments in problem and solution awareness. We know how this story ends. compliance will be automated our goal and our obligation as a leader is to accelerate the process of helping companies around the world understand their exposure and how they can address it with the leading cloud compliance solution status quo has always been our most powerful competitor and we intend to harness these catalytic trends and capture the future our customer wins our proof points that we are executing our strategy, including expanding our moats and building out our portfolio of offerings organically and through M&A. Here are just a few examples. We won a large enterprise deal with an iron products company for a deal value of $224,000, which includes annual recurring revenue, one-time software and services. We won the deal due to our pre-built integrations with several disparate systems, including a leading erp application a leading finance and operations application an accounting software package and a business process management application we also won an iconic american snack brand for a deal value of seventy five thousand dollars due to our ability to integrate through their entire quote to cash process including our integration with a leading finance and operations application and two separate commerce platforms next We won a large international multi-product deal with a UK-based sporting e-tailer for a deal value of $295,000, including cross-border duty classification, sales tax determination in 40 states, VAT, GST determination for the new European Union VAT regime called Import One Stop Shop, or IA, and the UK government's making tax digital, as well as access to our SST program. We continue to see success winning deals with our Avalara and TTR go-to-market strategy. As one example, we won an auto services company for a deal value of $48,000, including AvaTax, CertCapture, and our battery and tire content from TTR Tax Research. The competition under-delivered, so we brought in our TTR experts and took the deal away. additionally we won several competitive wins and takeaways first we won a competitive takeaway for a screen company for a deal value of 143 000 replacing an on-premise vendor we won this deal by having all the required products including avatax ptr research registrations cert capture and consumer use tax next We want an e-commerce platform for a deal value of $97,000, including AvaTax, CertCapture, and SST. The competition did not have an exemption solution, and the company had audit exposure for not being registered yet in any states. We want a nail products distributor for a deal value of $86,000, including AvaTax, Returns, and SST. We won this deal due to our pre-built integration with an e-commerce platform and our AvaTax integration with SAP ERP. We want a digital design company for a deal value of $154,000, including AvaTax, VAT calculation and cert capture. We won the deal due to our integrations with Shopify and our AvaTax integration with SAP ERP. Finally, We want a parking technology company for a deal value of $134,000, including AVA tax, TTR, and a future requirement for our SST program. The customer had a complex manual process for tax determination and couldn't find a vendor to fit until they met with Avalara and TTR. Among our cross-border successes was a deal with a commerce as a services company for a deal value of $133,000, including our AvaTax cross-border and our Avalara managed tariff classification offering. We won this deal by leveraging our strong partnerships with Shopify and one of the largest online marketplaces in the world. One of my favorite deals is with a vitamin company for a deal value of $78,000, including AvaTax, TTR Research, and SST in 23 states. The company was established only nine months ago and experienced rapid growth, but was managing the process manually and for only one state. This is a great example where economic nexus thresholds were broached quickly and a complex product with state-to-state nuances of taxability created the trigger to call Avalara to keep them compliant. We believe we've built one of the most defensible moats in all of software with over 1,000 signed partner integrations and growing. In fact, a recent IDC report highlighted our moat by stating, and I quote, Avalara's experience gained from thousands of customers using these integrations for years has made it a no-brainer for buyers to pick Avalara in competitive situations. That's why our strategy from day one has been to offer far more integrations with business applications than any other tax software provider. And we never stopped working to add more. We are continuing to expand and deepen our relationships with partners at all levels of our ecosystem. We have put ourselves in a leading position to expand our partner relationships across industries and tax types, and we are seeing new opportunities. As one example, We are excited to announce that we recently signed a partnership with a leader in enterprise management software for convenience retail and petroleum wholesale markets. This is a major win for Avalara. The company has agreed to rip and replace their own native reporting and returns module with Avalara's returns for excise as their OEM reporting solution and be jointly named, marketed, and sold to their enterprise customers in oil and gas. The company also intends to build a connector into our calculation and determination engine with initial plans to make this available to enterprise customers next year, giving us a brand new channel in which to sell our entire technology stack for energy into some of the largest enterprises in oil and gas. Also, on our analyst day in May, we announced that we entered into an agreement to assist Shopify in supporting their cross-border duties and tax solutions. I'm excited to share that as part of Shopify's recent Shopify markets launch, the duties and tax solutions are now available in early access. This is scaling nicely with targeted plans to be generally available to all Shopify merchants in the coming months. This solution enables Shopify merchants to classify their product catalogs with international tax codes and calculate cross-border customs duties and taxes at the time of sale. Recently, Shopify declared that now every merchant is global by default, and we are excited to help Shopify enable the future of global commerce. This new relationship is a great example of what I call the second wave of partnership deals for Avalara. These deals are with providers like e-commerce platforms, marketplaces, and payment processors, and they're being accelerated by the generational shift in e-commerce adoptions. It's really an exciting time for us because we've been building towards this watershed moment for years. It reminds me of when we were going after ERP vendors during the early days of the company. We knew we had to win those deals to solidify our position and lock out competitors. We are witnessing the same thing now in a second wave, where e-commerce, payment processing, and compliance converge. We saw this coming a long time ago, strategically prepared for this moment by building a track record of success and credibility over 17 years. We have used this strategy to get ahead and stay ahead of our competitors in the past. And we believe we are going to win with it again. We also continue to advance our acquisition strategy. We are driving hard organically and through M&A to continue building our global cloud compliance platform and future-proof our leadership in this space. We leverage M&A to expand our tax content repository, add new capabilities and technology, inject talented new personnel into our business, and extend our geographic expansion. At our May Analyst Day, we highlighted potential additions to our product family to expand our offerings. I'm pleased to announce that we've entered new areas of compliance automation, including 1099s, W-9s, and property tax. We started with our roots in sales tax calculation and added returns and continue to expand into other indirect tax types over the last few years. Today, we are moving beyond indirect tax into areas of direct tax, such as 1099s and property tax, increasing our TAMs as we build the most robust compliance platform in the market. To expand our range of compliance solutions, we acquired Track 1099, a provider of online software and services for cost-effectively managing, e-filing, and e-delivering IRS forms, including 1099s, W-2s, W-9s, and more. Track 1099 supported more than 40,000 customers with their filing needs in tax year 2020. By acquiring Track 1099, we are adding technology, content, and expertise to our platform and team. We are delighted to welcome founder Lindsay West and the team at Track 1099 to the Avalara family. Next, we acquired the assets of Crowd Reason, a developer of SaaS-based property tax compliance applications, as well as a related property valuation and advisory service business to help solve property tax challenges. According to the US Census Bureau data from 2018, state and local governments collected a combined $547 billion in revenue from property tax, or 17% of general revenue. Property tax revenue as a percentage of state and local general revenue was higher than each of the general sales tax revenue, individual income tax revenue, and corporate income tax revenue in 2018. We are delighted to welcome founder Carl Hemke and the team at Crowd Reason to the Avalara family. Adding property tax content and software to our global compliant portfolio extends Avalara's footprint into a large and exciting new tax type. We believe our customers and partners will value our platform for end-to-end compliance automation and the consolidation of today's fragmented landscape of compliance products. We will continue to look for and close opportunities that we believe will improve and sustain Avalara and our growth objectives. We continue to bring talented leaders with diverse backgrounds onto Avalara's board of directors. I would like to welcome global finance leader, Marcella Martin, to our board. Marcella is the chief financial officer of Squarespace, where she oversees the company's finance and corporate development functions. Marcella brings more than 25 years of global finance and leadership experience across consumer technology, software, SaaS verticals with high growth companies to Avalara's board. Her expertise in streamlining operations and M&A integration combined with her experience guiding strategic operations during periods of growth will add tremendous value to Avalara's board of directors. I am proud that Avalara's board is quite diverse. Today, more than a third of Avalara's board is made up of women. In addition, two out of three Avalara's board committees are led by chairwomen. As we've always said, we believe we are a long and strong business with low penetration in a large addressable market and a long-term play based on automating statutorily required functions. We believe we are outpacing the competition and driving the future of global compliance, and we believe we can grow and scale Avalara into a multi-product, multi-billion dollar revenue company over time. Thank you. And with that, I'll turn it over to Ross.

Thanks, Scott. Avalara posted another great performance in Q3 that exceeded our guided metrics and was again driven by balanced execution across the business. Q3 total revenue was $181.2 million, up 42% year-over-year, or up 29% after excluding revenue from acquisitions since Q4 2020. Subscription and returns revenue grew 38% year over year to $164.2 million, or up 30% excluding acquisitions, and represented 91% of our total revenue. Professional services revenue was $16.9 million, up 95% year over year. The high growth rate in services revenue was largely driven inorganically by the Q4 2020 acquisitions of business licenses and TTR. As a reminder, during the second quarter of 2021, we revised our core customer calculation methodology to include revenue from our SST customers resulting in additional customers being included in reported core customers. We also revised our net revenue retention rate calculation methodology to include revenue from SST that previously was not included and to exclude professional services revenue as these services tend to be more one-time in nature. We have included both the revised and previous key metrics methodologies for core customers and net revenue retention rate in a table at the end of our earnings press release. Our revised core customer count increased by 830 from the previous quarter to approximately 17,400 at the end of Q3 2021, a year-over-year increase of 22%. Our core customer count under our previous definition increased by 820. Our revised net revenue retention rate was 116%, unchanged compared to 116% last quarter, resulting in a 115% four-quarter average. Our NRR under our previous definition increased to 112%, up from 110% last quarter, resulting in a 108% four-quarter average. We are very pleased with our NRR rates, which indicate strong sales execution among our existing customers coupled with improving customer retention dynamics. Q3 revenue from revised core customers grew 27% year-over-year to $145.2 million. Q3 revenue from non-core customers grew 40% year-over-year to $19.3 million, primarily driven by strong growth in EMEA. Q3 revenue from acquisitions since Q4-20 was $16.7 million. In discussing the remainder of the income statement, please note that unless otherwise stated, all references to our expenses, operating results, and share count are on a non-GAAP basis and are reconciled to our GAAP results in the earnings press release that was issued just before this call. Gross profit was $133.2 million in Q3, representing a 74% gross margin. This compares with gross profit of $95.5 million and a 75% gross margin in the same period last year. Subscription gross margins were 75%, down from 76% in the same period last year. We continue to focus on increasing our subscription gross margin over time through our ongoing investments in automation. However, any improvement in subscription gross margin may be offset by lower gross margins on some of our acquisitions and less mature products. Our total gross margin will also be impacted by the mix of subscription and professional services revenue. Sales and marketing expense was $67.3 million in Q3, or 37% of total revenue, compared to 36% last year. As we discussed last quarter, this reflects our intention to increase our investment in sales and marketing in the second half of 2021. Q3 research and development expense was $36.3 million, or 20% of revenue, down from 23% of revenue in Q3 2020, but included a higher benefit from capitalized software in the current quarter. Absent the increased capitalization, Q3 R&D expense would be roughly in line with the year-ago comparable period. Q3 general and administrative expense was $26.1 million, or 14% of revenue, down from 15% of revenue in Q3-20. Q3 operating income was $3.5 million, which was better than our guidance, largely as a result of strong revenue and gross margin and some expense favorability from capitalized software, and slower hiring than forecasted. Q3 net loss per share was $0.03 in the quarter, based on 86.5 million shares outstanding. Total deferred revenue at the end of Q3 21 was $257.9 million, up 43% from $180.6 million at the end of Q3 20, and up 22% year-over-year, excluding acquisitions in Q4 20. Calculated billings is a non-GAAP metric that takes into consideration revenue and the change in deferred revenue, as well as the change in contract liabilities. Calculated billings was $196.4 million in Q3 2021, up 38% year-over-year. We also produced 26% year-over-year organic calculated billings growth, which was impacted by a couple growth points from lower new customer billings in the EU with our largest marketplace partner. As a reminder, We are a backend compliance platform for VAT registrations and filings for this partner's marketplace, and the partner controls the flow of customers to our service. In addition, in Q4, we expect to enter into a new contract and pricing rate card with this partner that we believe will result in higher volumes at lower prices for existing and new customers serviced through this partner's platform. As a result of these changes, we expect to realize a small headwind on total company billings and revenue growth in 2022. We remain excited about the global opportunity with this important partner and believe there are additional opportunities to expand our relationship by supporting them with a broader range of compliance offerings and in more jurisdictions. Revenues from this partner accounted for approximately half of Q3 international revenues, with the remainder coming from our EU direct business as well as international sales efforts in other regions, including Brazil and India. Free cash flow was $6.4 million in the third quarter, compared to $25.9 million in the same quarter last year. As we have stated on past calls, our free cash flow will fluctuate from quarter to quarter, caused by many factors, including the timing of working capital, the seasonality and levels of our billings and expenses, as well as our overall level of investment in the business. Our cash and cash equivalents were $1.5 billion at the end of Q3 2021, an increase of $472 million from $1.1 billion at the end of Q3-20. During Q3-21, we closed a convertible debt offering and raised $959.9 million in net proceeds after deducting fees and expenses. I will now conclude the call by providing guidance on revenue and non-GAAP operating loss for Q4 and for the full year 2021. We continue to expect the mix of professional services revenue in the range of 9% to 10% of total 2021 revenues. For Q4 2021, we expect total revenue between $183 and $185 million, which represents a 27% year-over-year growth rate at the midpoint of the range, or 23% year-over-year excluding revenue from acquisitions closed since Q4 2020. We expect our Q4 non-GAAP operating loss to be in the range of $5 to $7 million, reflecting a more aggressive ramp in second-half spending, especially in sales and marketing. For the full year 2021, we expect total revenue between $687 and $689 million, which represents a 37% year-over-year growth rate at the midpoint of the range, or 28% year-over-year, excluding an expected $57 million in revenue from acquisitions closed since Q4 2020. We expect our full year 2021 non-GAAP operating loss to be in the range of $1 to $3 million. We expect to produce positive free cash flow for 2021. We are in the early stages of our 2022 budget process and plan to provide detailed guidance on our fourth quarter conference call. That said, I would like to share some early thoughts regarding 2022. Our thesis and vision have not changed. We are addressing a large, low-penetrated market and believe that Avalara is well-positioned to deliver durable, long-term, top-line organic growth of 20 to 25% as we continue to pursue building a multi-billion dollar business. Please note that beginning next year, we don't expect to break out organic and inorganic revenue contribution as we will have lapped the closing dates of our two largest acquisitions, TTR and business licenses. We believe 2022 revenue from our other 2021 acquisitions will not make a material contribution to next year's revenue growth. We are currently at the center of four powerful forces driving our long-term opportunity and continue to believe the solutions we provide are in the early innings of market penetration. Beyond opportunities to expand our core business, we see new growth drivers from our partner ecosystem, international, and our expanded platform story. The acceleration of e-commerce coupled with favorable regulatory changes has increased awareness of the importance and complexity of tax compliance for businesses, marketplaces, and e-commerce platform providers. For us, this is fueling an exciting wave of significant expansion opportunities with a number of industry-leading partners and is gaining the attention of businesses grappling with the complexities of both national and global e-commerce compliance requirements. The international landscape is also changing fast. We believe new regulations aim to make calculating and reporting transactional taxes more real-time, which will require software automation solutions. We also believe e-commerce is increasingly enabling even small businesses to be global merchants and thereby having to face a wide range of tax compliance complexities that also require our software solutions. And finally, our recent organic and inorganic product additions will help us transition to a platform company where we can offer a broader range of compliance solutions, thereby expanding the value we can provide our customers. As we consider these great opportunities for additional investment, efficient growth remains important to us. We have demonstrated our ability to drive leverage in non-GAAP operating loss and, based on our 2021 guidance, expect to produce positive pre-cash flow for the third year in a row to complement our 36% three-year revenue growth CAGR. However, we believe the momentum in our business, compelling customer economics, and unique positioning in large markets all support more aggressive investment in 2022. Again, we plan to provide detailed guidance on our fourth quarter conference call in February, but our early 2022 investment plans result in a modest non-GAAP operating loss margin of just a couple percentage points of 2022 expected total revenues. In closing, We have an exciting opportunity to continue building a durable growth compounding company. We believe we are a leader in a large market that is still early to adopt tax compliance automation technology. We are seeing a demand transformation as businesses become omnichannel, operate in many jurisdictions, and shift their business to e-commerce in the cloud. These changes, coupled with an ever-shifting regulatory environment, make it even more difficult to maintain tax compliance without automation. And at the same time, we are beginning to evolve to a platform company, driving an increased supply of products and capabilities to increase the value we deliver to our customers. We also continue to invest to win additional segments and geographies so that we can continue to compound growth for the long term. Please note, we will participate in upcoming conferences, including Barenburg and Stevens in the fourth quarter. Thank you for participating in today's call.

At this point, we would like to open up the call for your questions.

The floor is now open for your questions. Again, to ask a question, please press star one on your telephone keypad. Your first question comes from Brad Sills of Bank of America.

Oh, great. Hey, guys. Thanks for taking my question. Congratulations on a real nice quarter. I wanted to ask about the ERP end of the business. Obviously, a key trigger. E-commerce has been really strong for you all, and that's clear. But we're seeing some evidence that ERP upgrades are starting to turn from some, you know, headwinds that we saw during the pandemic. What are you seeing in that end of the business and what impact could that have, you know, going forward?

Hey, Brad, this is Scott. I would say that we're seeing, you know, the ERP world rebounding a bit. But having said that, and I think we're seeing that, you know, across all of our different ERPs, But I think sort of more important than that is it's just a reminder that for us, new ERPs, it's a great trigger, but there just aren't that many, you know, businesses that upgrade, you know, during the year and pick new ERPs. Where Avalara really has a lot of headroom in greenfields, it's in all those ones that are that have already, you know, in NetSuite or already in Sage or already in Microsoft and that one of the other triggers are pushing them to say, okay, now's the time to adopt, you know, adopt sales tax because we're low penetrated throughout the, you know, throughout the channel. So I know it's important to, you know, to focus on the new ERPs because it's such a great trigger for us and that's happening today. But, you know, the real challenge, the real road ahead of us is how do we go deeper, you know, into, you know, the existing channels that aren't, you know, upgrading, but they're having one of the other triggers like, you know, they're moving into a different state or they're going global, you know, or, you know, they've had a change in their accounting department and the new CFO or controller comes in. So, you know, that's really, that's what I'm really looking for is how do we expand out into the base. But we're seeing a nice trend with the new ERPs as well.

Great to hear, Scott. One more, if I may, please. Just on the international side of the business, obviously you're starting to see some real success there. It looks like it's outpacing the business overall. Could you remind us what it takes to address international from a content standpoint and Are you there? Do you feel like you have that footprint already in place to really go after it in a material way? Are there still some gaps there? Any color on that effort? Thank you so much.

Sure, Brad. I remind everybody in our company this, you know, all the time. I mean, when we enter a market, you know, you need certain things, right? You have to be able to do calculation. You have to be able to do returns. And then you've got special services, you know, like exemption certificate in the United States. You know, it could be fiscal rep, you know, in the EU. So it's not just one thing. It's all of those things combined, and they all have their aspect of content, right? So, you know, you have to do the deep research around how calculations are done, how reports are filed, what returns, you know, return forms are used, how that information gets onto the forms, and then all of those different, you know, special areas. So, I mean, wherever we go, content is the basis of how you enter. I mean, Brad, you and I have talked about this a bunch, where, you know, to be part of every transaction in the world, you need two things to take place. I mean, you've got to execute really well, but two main things. First of all, you have to be connected in with all of the major ERPs and e-commerce and all the people who are creating invoices around the world. The second thing you have to do is have all the right content. So when you do those calculations and when you are entering that information on forms and when you're doing the remittances, it's accurate. And so those are really the two combinations that Avalara focuses on the most. And we've always talked about those are two of our strongest You know, those are two of our strongest moats that we have. And Avalara has, you know, a content team around the world. You know, our content team is on four continents. You know, we take that really, really seriously. And now we're adding, you know, AI and machine learning in order to be able to do that. So it's a real important aspect.

Great to hear. Thanks so much, Scott. Thanks, Brad.

Your next question comes from Sidi Tanegrahi of Mizuho.

Hey, guys. Congratulations. So, Scott, when I'm looking at your acquisition strategy and even organic development, you're expanding your platform even now from tax direct to indirect. even business license and even e-invoicing, it appears like you're becoming a platform where you're intermediary between government agency and businesses. So when you think that approach, where do you see the remaining opportunity? How big is that opportunity? Help us like the area you could expand. And then as you're expanding, How do you see, is it more displacing smaller solutions there, or is it more greenfield? Businesses are managing manually, and you can come in and bring automation. Help us understand that opportunity.

Sure. You know, early on, we'd always had this vision about being a compliance, you know, about a compliance platform. And we focused, you know, our beachhead was on, you know, sales tasks. knowing that it wasn't just sales tax because it was VAT. And, you know, if you want to, you know, service the Internet, anything, anywhere, any place, any time, you know, you have to be able to do that in, you know, 208, you know, NATO countries. I mean, that's just, you know, table stakes for being in the, you know, in the business. So, I mean, it's a big, you know, that's a big TAM in and of itself. And it's largely greenfields. But having said that, the basic strategy that I've always had and that we have in the business today is you've got to take care of the here and now. And sales tax, VAT, all the expansions that we've done into the international and it's doing well is fantastic. But you need to lay the groundwork for future proofing the business. I mean, and the way I see expanding our TAM, expanding our, you know, our reach is using our really dynamic moat with partners and how we interconnect specially with ERPs and the like to allow us to expand into other areas. Other areas where you become a trusted resource of them in, you know, indirect tax, in this case, you know, sales tax and VAT. and all of the other services that we do, you can then take that trusted relationship and solve other enormously complex areas of compliance for your customers. I mean, it's just a natural extension. And much of the information that you need for one is information that you need for the other. So there's a synergy that is developing the further we go with the platform. And it really is a powerful tool for, you know, making the customers sticky, adding more revenue to the business, you know, and driving penetration, you know, throughout the market.

That's great. And a quick follow-up, Ross. When you think of 2022 investment, areas of investment, could you help us understand your priorities? Is it more on R&D side, integration, or more talking acquisition, or even like go-to-market, you know, enterprise sales? Could you help us a little bit on that?

Yeah. Yeah. Hi, Siddhi. If anyone missed the prepared remarks, we gave some color in 2022 when we talked about just the great investment opportunities we see and that we were thinking early thoughts and we're still in the budget process around a couple percentage points non-GAAP operating loss as a percent of revenue. Where does that investment go is the question. The first area I think about is research and development. We've been running uh you know in the low 20s as a percent of revenue rd we expect that to remain you know in a similar area for next year so continue to invest heavily in that area as we look to build out the platform that talk that scott talked about expanding you know in the indirect and beyond there's new products we've been launching there's new m a that we're integrating and really just uh uh we've always said we think we can outrun the competition and build a really special platform in indirect and beyond. So continuing to make those investments are important to us. Second, in sales and marketing, I think we'll see a little bit of deleveraging in the sales and marketing percent of revenue next year. Since IPO, we've been bringing sales and marketing percent of revenue down and getting some really good efficiencies around there. Long term, there's plenty of opportunity for efficiencies, but as we find ourselves at the center of these four forces that are really putting tax as one of the front and center things in that magic moment of commerce, we just see a lot of opportunity. And we've got new M&A to market and sell with and just a lot of good opportunities on the sales and marketing side. So we'd like to deleverage a little bit there, invest a little more in sales and marketing. G&A, we still have a lot of infrastructure things to put in place. I'd hope to see a little bit of improvement in G&A as a percent of revenue. And then on gross margin, we'll build that out a little more in February, as well as all of these when we provide formal 2022 guidance. Gross margin, as we've been saying, we're getting improvements in gross margin through automation. You've seen that over the last couple of years. But we've also talked about new products in M&A as they come in or start at a little bit sub our corporate margins. And so they put some weight on that. So we've got to figure out how the mix will play forward. and how that will affect 2022 gross margins. So we'll provide more color on that, but same commentary on gross margins I've given in the prior calls.

Thanks for that, Carlos. Great. Yep.

Your next question comes from Brent Bracelon of Piper Sandler.

Thank you, and good afternoon. I guess maybe we'll start with Ross and finish with Scott, if I could. Can you remind us what the SST kind of revenue mix is in the quarter? And I know that that contract was renegotiated in or in the year. And just remind us what the potential headwind from that contract renegotiation was in the quarter.

Yeah, so SST and, you know, we were trying to get away from calling it out because we've, I think, done a nice job of talking about it since last year to give everyone a a true understanding of what was going to happen and walking you guys through what did happen and how it's affected the year. And I think it's been a great year overall, even with that. So I think we managed through it quite nicely. You'll see in the 10Q, it'll talk about SST, Q3 SST increased by 2.7 million. So you guys can do the math and you'll see it's slightly below corporate revenue growth. So consistent with our commentary over the last several quarters, We said coming into this year, it's going to grow fast. It's going to start to come down throughout the year because of the pricing change, which is offset by volume additions. And as we go into next year, we won't have that pricing headwind anymore. So things will normalize next year.

Yeah, great. Well, good to see that business still growing healthily, even with the price adjustment there that you talked about before. I mean, I should be gears to Scott here. I'd love to get your view on Stripe TaxJar. Curious to see if you've seen them in the low end of the market at all with the Calculme solution. I would love to also get you to address kind of Shopify, the partnership there. It seems like you're strengthening the partnership with some new functionality announced this week as well. So walk us through that Stripe TaxJar relationship and some of the new developments that you're winning some new business at Shopify as well. Thanks.

Sure. I don't really see the Stripe, you know, text jar acquisition, you know, playing out in the marketplace. At least anything that we can see that changes differently from, you know, what was happening in the past. You know, I understand, you know, I may not say it's the same thing I've always said. I understand that. you know, what they're thinking. They want to, you know, they would love to build out, you know, that platform. I think it takes a lot in order to make that, in order to make that happen. You know, a lot of connectors, you know, a lot of content, you know, a lot of, you know, a lot of, you know, expertise in upmarket, and you have to be able to serve customers of all sizes. I'll say it again. I fundamentally believe that, you know, tax is, you know, complicated. It's it needs to in compliance in general needs to be centralized and, you know, Avalara will be that sort of backend for, you know, many, many of the different, you know, larger, larger, larger vendors. And I think you're starting to see that, you know, as I called it out in my prepared remarks, you know, the second wave of, of, you know, these players coming along, whether it be eBay square or, you know, Shopify, you know, some of those. And I just think, you know, for 17 years, we've put ourselves in a place where, you know, you have SST, you have cross border, you have the ability to, you know, take care of all their customers across, you know, their entire markets. You know, you have all the connectors in place. I think it's a formidable, you know, moat. as as to you know how those how those play out i think um in our press release uh yesterday you know with our explaining our you know new shopify relationship i think that's a portion of it um we build out cross-border which i think is a natural um for e-commerce providers i love what shopify said you know, um, it's, it's, uh, you know, every business is global. I've always believed that. I think it's, you know, people need to deal with, with, uh, duties and, and, and, uh, uh, you know, I mean, all of that at the, at the front end, not down the road. So, you know, right at checkout. So I, I think it's a natural play and it tightens our relationship with, with, with, uh, with Shopify. And I think it, you know, shows, you know, shows off our, our strengths. I mean, you know, I think, you know, the IDC, you know, report, I think it really captured the way I'm thinking about it. You know, we put ourselves in a position with our, with our deep partnerships and all the customers that we have in those that we become a no brainer, you know, when people go to choose a solution and we're the easy one to, to do where we've got all the modern capabilities. And so it's a natural for us. And that's just the way we think about it. How do we improve our position to be able to take on these larger and larger customers and earn the ability to do that? We did that with ERPs. We did that with the ecosystem. And now with this second wave, we're in the process of doing it. And I like where we're standing in it.

It's great to see the partners validating the strategy here. Thank you so much.

Again, as a reminder, to ask a question, please press star one. Also, in consideration of time, please limit to one question. Your next question comes from Matt Stotler of William Blair.

Hey, guys. Thanks for taking the question. So I guess just one in the interest of time. So we'd love to get an update on the accounting firm channel specifically, and how that kind of partner ecosystem is building out both in terms of kind of the interest you're seeing in the investments you've made and products specific to that channel and any kind of early traction there, as well as thoughts on kind of the roadmap for continuing to enable that channel going forward.

Sure. You know, I've always been an enormous fan of this initiative. I mean, I think it's really important just to remind everybody that what we've done is, I mean, in Avalara's history, when we started doing returns in 2006, we've built out a fantastic platform for ingesting information and getting it onto tax forms and getting those tax forms filed and have the ability to follow that up with the payments. And we always thought that, back in the day, we always thought that we would be able to just, you know, build it and they will come. And as we became more mature in our thinking of this space, it's why should we fight with, you know, the big four? Why should we fight with accounting firms? Let's just take what we have and provide that to, you know, to the accounting firms and allow them to use what we've already built and charge that as a revenue source. So rather than competing with the accounting channel, let's use the accounting channel and help them make money and build them. It's just part of our strategy of how do you always look to partner first and do that. And so with that in mind, I'm pretty pleased with where we are. I mean, we started out with a group of beta users already built in. I mean, I think we're proving out the concept every single day. And we're starting to see the uptake. These are big changes for many of these firms. So it's not something that happens overnight. But I know that this is an area that will pay huge dividends for Avalara

you know, next year and the year going forward.

Your next question comes from Scott Berg of Needham.

Hey, everyone. This is Michael Rackers. I'm on for Scott Berg. Thanks so much for taking my question and congrats on the quarter. Just one quick one for me. It sounded like content was really picking up a lot of steam for you guys. And I'm just kind of curious on that side, you know, are there any other areas of content that you think you might need or, you know, would be beneficial to really excel in the enterprise market if there are any? Thank you. Sure.

I mean, I wouldn't characterize it as content is heating up. I mean, because the way I would say it is, is the minute we started this company, you know, content was on the forefront, on the front burner. Because the reality is, is right, right. If you don't have the right content, you, it doesn't matter how many partnerships you have. It doesn't matter what you do. You cannot calculate for them. And so, you know, we've, you know, we've made a, I mean, a real effort over the years to build out what I would consider a world-class, you know, content team that, spans many, many areas from cross border to, you know, to, uh, to, to sales, to VAT, I mean, all, all over the world. So, I mean, we're on a long-term journey of content. So having said that, I mean, you know, content does play a, you know, a huge role for us, but not so much. I would say, you know, is it in, is it in enterprise or is it in, you know, mid market? Because I mean, you can be, I mean, if you're doing candles, I've always said this, if you're doing candles, you can do it, you know, out of your home and the taxability and all the content is the same if you're, you know, a big producer that's selling candles all over the world. So the content has to be there for big and small. I mean, that's just a general statement. But content for us, right, and where it does play with multinationals, And where it does play throughout the world is when we want to go international, the biggest thing that we have to solve is content. You move into Asia, you have to have all of the appropriate content. You move from Brazil, which we're entrenched in, and you want to go to Mexico or Argentina, it's all about content. And so content plays an important role for us. You know, all your acquisitions are really acquisitions about, you know, doing, you know, getting bigger and better and the right content. So, I mean, you know, as we look at M&A, as we look at all sorts of things, content is always at the fore of what we do.

Your next question comes from Stan Zlotsky of Morgan Stanley.

Hi, guys. This is Ben Nadon for Stan. Thank you so much for taking my question. Can you please provide details around FX impact on the quarter?

Hey, I didn't get to the name, but FX, very minimal, very minimal right now. I don't think FX, given international 8% of revenue, there is a little bit of impact, but it hasn't been enough to be calling it out. So I would just say it's a minimal thing that doesn't boil up to call out at this point.

Your next question comes from Peter Levine of Evercore ISI. Great.

Thanks for taking my question. Congrats on a good quarter. Maybe just the first one, actually the only one. Within the Shopify BigCommerce channel, I mean, are you seeing an uptick in conversions of sales? You know, I think the trends you've seen with e-commerce, I would assume usage would pick up. So, I mean, maybe help us understand what does it take for these customers kind of trigger a certain threshold of usage for you all to kind of be able to go back to them direct upsell them to really just want to understand you know how the conversions upsells among that channel um have been trending thanks sure i'll i'll i'll address it at the front end and i'll let ross you know jump in and and and and talk a little bit about the you know the numbers and trends and things like that what what i would say is is that

our relationships with these partners are always strengthening. And we've been seeing, I would say, I would characterize it as we are seeing really good progress in our ability to work with them and get the messaging out to their partners. And I'll just refer to Shopify and how they've jumped on the bandwagon and started to tell their customers that, you know, they need to deal with this threshold. They need to, you know, take, you know, sales tax, I mean, you know, very upfront and they need to, you know, deal with it, you know, in their own right. And it really, the minute they do that, the minute they do that, it generates an enormous amount of calls and how do I, where do I go to and, know being on their platform being the you know the provider that's that that that's there i mean you know we've we've seen a a nice you know a nice uptick so you know i'm pleased with that you know and and um you know but our conversion has been improving as well. And so I'm pleased with the direction that we're going. I'm pleased that we're able to add cross-border to it as well, because I think that that's an important aspect of it. So I just remind everybody, the way you win this market, I mean, it's just so important. The way that you deal with it is you must win that partner first. And so getting in there and dealing with calculation and being their back-end support for that allows you then to come along and work with them to monetize things like returns, to do cross-border, and to expand the relationship with all of these. And so the first thing to do is win the deal. You just must win the deal. And Avalara has been doing that in a significant fashion. Ross, got anything to add to that one?

No, I mean, I think you covered it. I just think I was going to say what you said at the end, which is it's all about winning the partners that are aggregators of these e-commerce merchants. And these e-commerce merchants, they're omnichannel. They've got e-com. They often have ERPs. Sometimes they have stores. So they have multiple systems. They're doing business in multiple channels. And we tie into all those. And if you can do that, And if you can box out other competitors, you're built in. And now you've got that private hunting ground to go target them and sell them other things over time. And so what I've been saying is like last year you had this surge of e-com and everyone was like, well, you know, Shopify is growing faster. Why aren't you going faster? It's like all these people that just became e-commerce providers in 2020, Some of them expanded and used more of our services. They needed returns. They needed certs. They needed other things. And we convert them to core customers of ours and we sell them more. But there's many of them that haven't bought anymore, that they just have Calc in the Shopify cart or another partner's cart. And they haven't yet fully realized the complexity and the destiny of their tax complexities. And over time, we have the opportunity to sell them returns and certs. And if they're doing cross-border, now they can do it natively on Shopify. and many other products that we license things, registration, TTR content subscriptions, all the stuff that we brought to bear, we can now sell them. So that's the key. That seeds this consistent, long, and strong growth picture that we have is just own the partners, have those people calculating on your platform, and then have the opportunity to sell much more over time. That's the strategy and I think that that's what we're trying to do very consistently.

Your next question comes from DJ Hines of Canaccord.

Hey guys, this is Luke on for DJ. Thanks for squeezing me in here. So you mentioned last quarter that you had maybe turned the dial a little bit too far on efficiency around sales and marketing and that you were looking to find a better balance in the second half this year. Sounds like this is playing out based on your commentary. Maybe you could just double-click for me there just to discuss sort of how that shift is going and maybe expand on some of the initiatives you're making within your sales org to accomplish that.

You know, I do – I mean, it's really true. I mean, I think we demonstrated that we can really – you know, turn the dials and really make, you know, sales and marketing extremely efficient. I think that, you know, for me personally, as the leader, you know, as the leader in the space or, you know, one of the leaders in the space, I mean, we have an obligation, I think, to really talk about the problem, you know, and bring more people together to the party, if you will. And our CMO, Jay Lee, he gave me the greatest analogy at one of our meetings was, he said, today, Avalara has been aspirin for sales tax or transactional tax problems, right? I've got a problem. I'm being audited or I'm one of the trigger events. So therefore, I'm going to go take aspirin and I'm going to go solve that problem with Avalara. What I think we're trying to signal to everybody is that we don't any longer want to be aspirin. We think we have an opportunity and sort of an obligation as in our position to be able to teach people that, you know, be like vitamins or preventative medicine for them. So moving out of, I have a problem right now, take the pill and solve the problem. Let's get everybody going. Let's get everybody to understand the problem. Let's get everybody, you know, focused on what we can do to prevent, you know, the medical emergency. And I think that that's what we're going to do. So I think you'll see us dial up awareness spend. You know, I think we're going to double down on what we're doing with our partners and, you know, really, you know, engage with them to, you know, get to the next level. um i you know i think we'll you know work with our our cam team our you know customer account managers you know to to really sell the multiple you know uh you know the multiple products that we have and i think we'll organize around you know being able to do that both domestically and inter and and internationally so i mean i i think it's a i think it's a you know a a challenge for us i think you know stepping up into that role um will be will be very very exciting for the you know for the company and i think it's a real opportunity for us to grow your next question comes from alex sclar of raymond james

Great, thanks. Scott, as we think about the broader compliance platform, do you see any opportunity to expand into ESG reporting compliance at all? I know in the past you've kind of talked about environmental compliance as a potential expansion area. I'm just curious what that vision looks like. Thanks.

Hey, you know, I don't – I mean, I love that concept, right? I mean, you know, being able to – you know, and we do it to a degree, right? You know, today, and I've said this before, when we move – when we tax fuel – and fuel moves from one state to another state, there's lots of compliance documents that have nothing to do with tax. They're just compliance documents that have to be filed when you move goods around. I mean, having that experience, there are lots of environmental documents that we can get involved in. And Although it's not something that's on my radar screen right now, it's something that is there and we continue to think about how we can build that out. Because in our platform, in my platform vision and the platform vision that we have for the company, being able to deal with documents, and environmental documents in particular,

It's just a fantastic way to prove that out.

Your next question comes from Andrew Degasteri of Barenberg Capital Market Management.

Thanks for that. I just have one in particular. I know you're still finalizing your 2022 guidance and you're giving that out on Q4. earnings, but I was just wondering, you brought up the couple percentage points and wins in next year in terms of the new marketplace contract. I was just wondering if that is just a function of you being conservative, given that the price will probably apply on day one and the volume benefits don't come until later on. And so we could see some improvement for that number.

Yeah, Andrew, it's Ross. So I just want to correct, didn't say couple percentage point headwind next year. We said when we're talking about op loss, we talked about a couple percentage points of revenue non-GAAP op loss. What we were explaining is on the organic billings growth for Q3, it was 26%. When you unpack that, you look at the U.S. first, and that was close to 30% in the U.S., so it feels like where we all want it to be. and then there was some, when you go, then you look international, and within international, you look at one specific, very important partner. We had, you know, that's what caused the delta between that U.S. number and the 26%, and that is just, I was reminding everyone that there's, it's a very important large partner. We've got many opportunities with them over time to expand geographies, expand what we sell with them, and I think, you know, it's just a, Great partner to have, and there's a lot of future opportunities, and we're diversifying beyond that partner. But we're the VAT registration and filing solution on their marketplace, and they're the front end, we're the back end, so they control the flow of customers. So in Q3, there were less customers flowing into us than prior quarters. It's been growing really fast. And I just wanted to call out that we're going through a revised contract. And with that contract, you know, there's going to be, we're going to go from annual billing to monthly next year, so there'll be a little bit of duration change, and there'll be a bit of a pricing change. But I don't want people to over-index on it. I mean, this is smaller than SST. Again, it's contained to a partner in international. It's really the spirit of transparency. We called out organic and organic growth rates. We called out SST. I think we did a really good job with navigating all that. And so this is a smaller than SST thing that we just wanted to give some transparent color. But we said it may have a small headwind on 2022. We'll talk more about it in the Q4 call if need be. But again, I would put it in that context and not over index on it.

Yeah, it's a small headwind for that particular park.

This concludes the question and answer session for today's call. I will now turn the floor back over to Scott McFarland for any additional or closing remarks.

Thanks. You know, I'd like to take this opportunity to thank all of our employees, customers, partners for all of their hard work and support during, you know, trying times for certain. You know, we look forward to talking to you on the next call.

Thanks, everybody. Take care. Be safe.

Ladies and gentlemen, this concludes today's event. Thank you for your participation. You may now disconnect.