Cloudflare, Inc.

Ladies and gentlemen, thank you for standing by and welcome to the CloudFlare Q3 2020 earnings call. At this time, all participants are in a listen-only mode. After the speaker's presentation, there will be a question and answer session. To ask a question during the session, you will need to press star 1 on your telephone. Please be advised that today's conference is being recorded. If you require any further assistance, please press star 0. I would now like to hand the conference over to your speaker today, Jason Noland, Head of Investor Relations.

Thank you for joining us to discuss CloudFlare's financial results for the third quarter 2020. With me on the call, we have Matthew Prince, co-founder and CEO, Michelle Zatlyn, co-founder and COO, and Thomas Seifert, CFO. By now, everyone should have access to our earnings announcement. This announcement, as well as our supplemental financial information, may be found on our investor relations website. As a reminder, we'll be making forward-looking statements during today's discussion, including, but not limited to, J.D. Non-GAAP gross margin, non-GAAP net loss from operations, non-GAAP net loss per share, shares outstanding, non-GAAP operating expenses, free cash flow, non-GAAP effective tax rate, dollar-based net retention rate, free and paying customers, and large customers. These statements and other comments are not guarantees of future performance, but rather are subject to risks and uncertainty, some of which are beyond our control, including, but not limited to, the extent and duration of the impact of the COVID-19 pandemic and adverse conditions in the general domestic and global economic markets. Our actual results may differ significantly from those projected or suggested in any forward-looking statements. These forward-looking statements apply as of today, and you should not rely on them as representing our views in the future. We undertake no obligation to update these statements after this call. For a more complete discussion of the risks and uncertainties that could impact our future operating results and financial condition, please see our filings with the Securities and Exchange Commission, as well as in today's earnings press release. Unless otherwise noted, all numbers we talk about today, other than revenue, will be on an adjusted non-GAAP basis. All current and prior period financials discussed are reflected under ASC 606. You may find a reconciliation of GAAP to non-GAAP financial measures in our earnings release on our investor relations website. For historical periods, a GAAP to non-GAAP reconciliation can be found in the supplemental financial information referenced a few moments ago. We would also like to inform you that we'll be virtually participating in the RBC TIMT conference on November 18th. The Wells Fargo TMT Summit on December 1st, the Credit Suisse Annual Technology Conference on December 3rd, the Morgan Stanley Future of Application Development Conference on December 9th, and the Jefferies Cybersecurity Conference on December 10th. Now, I'd like to turn the call over to Matthew.

Thank you, Jason. We had an exceptional quarter. In Q3, we crossed a number of significant milestones. First, we blew through $100 million in quarterly revenue, achieving $114 million, up 54% year over year. We crossed 100,000 paying customers, ending the quarter with just shy of 101,000. For large customers, in the quarter we added nearly 100, 99 precisely, and now have 736 spending more than $100,000 per year with us. These large customers accounted for 47% of our total revenue in Q3, and we anticipate they will make up more than half of our revenue going forward. One goal we had at the beginning of 2020 was to win our first $10 million customer on an annual run rate basis. We're proud that we achieved that this quarter. That customer, a Fortune 500 software company, started with us in 2016 because one of their engineering leaders had used the free version of our service on his personal site. He loved the experience and brought us to work, initially signing a $60,000 per year contract. It's grown quite a bit since then. Today, this customer has tightly integrated our network and customized our products deep into their staff. It's been a terrific partnership, and we expect we will continue to grow alongside them. We've had great success with our go-to-market efforts and especially stunning large enterprise customers. About half of our new revenue in the quarter came from new logos and about half from expanding relationships with our existing customers. Even as we continue to sign a record number of large enterprise customers, we remain very happy with the diversity of our customer mix. None of our customers account for more than 5% of revenue, and our top 20 customers remain well under 20% of total revenue. While we're incredibly proud of our financial results and the strength of our business, I wanted to talk about something else we're also really proud of. Our team watched the United States election this week carefully, as I'm sure many of you did as well. While there is still some uncertainty around the ultimate outcome, and there have been and will be stories around who voted and how those votes were counted, one story we worried about a lot going into the election that didn't materialize was the impact of cyberattacks. We played some role in that. In 2016, that wasn't the case. Four years ago at CloudFlare, we watched with deep concern as attackers were able to use various techniques to subvert parts of the election infrastructure and undermine confidence in its results. We decided shortly after it was our duty to provide our technology and expertise to ensure cyber attacks don't disrupt fair elections. We launched the Athenian Project, which provides our enterprise class service for free to any state or local government elections officials. We also partnered with the nonpartisan civil society organization Defending Digital Campaigns to work with the Federal Election Commission so we could provide our services at no cost to national campaigns without violating campaign contribution laws. This year, more than half of U.S. states participated in the Athenian Project. That includes so-called red, blue, and purple states. More than half of the battleground states used Class Flare in order to protect services like voter registration, poll location, precinct reporting, and official results. We worked both presidential campaigns and many of the federal candidates for Congress. We were able to fend off cyberattacks and saw no instances in which they impacted the ability of citizens to learn about candidates or to vote. That's a big step up from 2016. While democracy can be messy, inherently it depends on a process you can trust. We're proud of the small role we played in defending the democratic process. Switching to the other topic that continues to be top of mind for all of us, November will be the ninth month most of the world has been impacted by COVID-19. While it's not in our nature to take victory laps, I wanted to pause to recognize our team and their ability to execute during these difficult times. Early in 2020, we began to see challenges sourcing equipment for our network as the virus hit our Asia-based suppliers. Then, in late March, traffic across our network spiked as the world shifted to working from home. In two weeks, we saw more than 50% growth in traffic, more than we had forecast for 12 months. At the same time, our team had to adjust to working remotely. Product managers and engineers had to figure out how to develop innovative new products without gathering around a physical whiteboard. Our go-to-market teams had to adjust to selling to customers without ever meeting them in person, and we had to learn how to continue to hire and onboard great new members of our team without them ever stepping into an office. It would have been easy for a misstep in any of these areas to cause our business to stall, but our team has executed and our business has thrived. We've been able to continue to build out our network to meet the unprecedented demand for our services while staying within our CapEx budget. Even though we charge almost exclusively on a fixed subscription basis, we are able to meet our gross margin target, hitting 77% Q3 without surprising our customers with burgeoning bills. And we've exceeded our ambitious revenue goals, actually accelerating growth while continuing to sign up larger and larger enterprise customers. We were prudent at the beginning of the pandemic, reserving for potential customer allowances and bad debt, and we've worked with a subset of our customers who have struggled during the pandemic to ensure they always had a reliable network they could afford, knowing that being accommodating today would buy us loyalty over the long term. We've been fortunate that when our customers sort vendors, we've been sorted into the bucket of differentiated, must-have services. As a result, we've not seen pricing pressure, and we've had fewer concessions and less bad debt than we forecast. We've also been able to hire great people. In Q2 we received more than 40,000 applications and extended offers to a mere 0.6%. In Q3 we had over 60,000 and extended offers to only 0.4%. An investor last quarter asked why that was an important statistic for us to mention. Companies are just collections of people, and we believe whatever company is able to attract and retain the best people will win. That we can organically attract so many great candidates means we can save money by not having to hire third-party recruiters. We can source candidates from less expensive geographies in order to achieve operational leverage while still adding headcounts to realize our ambitious plan. And we're more likely to have a diverse team with different outlooks who will come up with solutions to problems that no one had dreamed up before. While COVID has created challenges for our team, it has also made our mission of helping build a better internet resonate with team members and customers more than ever before. The world has never needed a better internet more than it has over the last nine months, and our team wakes up excited every day to deliver exactly that for our customers. In the last four months, we've been on a tear releasing a ton of incredible new products. We announced more than one product per day around CloudFlow Workers, our serverless computing platform, during the week of July 26th. We celebrated our birthday during the week of September 27th with a series of products that are less about directly generating revenue and more about doing the right thing for the Internet. And more recently, we fleshed out our vision for CloudFlare for Teams with a new architecture called CloudFlare One over the week of October 11th, which we dubbed Zero Trust Week. These weeks leverage one of our superpowers, engineering and marketing, and they result in significant spikes in organic inbound interest from potential customers. In fact, during Zero Trust Week, organic inbound leads more than doubled off their already elevated level. Stay tuned. We have one more CloudFlare week before the end of the year focused on privacy and compliance. I wanted to drill into two products I know there's a lot of interest in, CloudFlare for Teams and Workers. First, Teams. We launched CloudFlare for Teams in January, and it happened to be in exactly the right place at exactly the right time as the world shifted to remote work and needed a scalable cloud-based VPN and firewall replacement. Seeing how many businesses were struggling with the shift to remote work, we made the call to make Teams free through September 1st. We had thousands of companies, ranging from small businesses to Fortune 500 corporations, take us up on our offer. Over the course of Q3, we began conversations with all of them to transition from the free offer to becoming paying customers. We are happy with how that went. 75% of customers transitioned from free to paid accounts. That included some great new logos like JetBlue Travel Products, OneTrust, and Delivery Hero. For some customers who are still particularly hard hit by COVID, we've allowed them to continue with the free offering until they can get their feet back under them. J.D. J.D. J.D. The other benefit to running this program is how much it accelerated our learning curve. We had position teams as nearly all our competitors have with an access management product we called Cloudflare Access and an internet gateway product we called Cloudflare Gateway. What we learned since March is that customers wanted a more holistic solution. If you adopt a zero trust networking model, you need an access and gateway component. But you inherently then are exposing more of your infrastructure to the Internet, so you also need products like our web application firewall and DDoS mitigation. We also learned that by leveraging products like Argo Smart Routing and Magic Transit, we can provide a much higher quality of service unmatched by traditional Zero Trust vendors and delivering on the real promise of SD-WAN. These conversations with customers over the last nine months helped us realize there's an opportunity to package our services with the additions of intrusion detection, next-generation firewall, and data loss protection, which we announced during Zero Trust Week, into a comprehensive solution that we believe can help define the future of the corporate network. We've dubbed this Cloudflare One, and we believe it's the suite that is unmatched in the market. Turning to Cloudflare Workers, it's incredibly exciting to see how the platform is taking off. In Q3, more than 27,000 developers wrote and deployed their first Cloudflow worker. That's up from 15,000 a year ago. History proves with new computing platforms, the more developers they have, the more quickly they improve and the more likely they are to win. Looking at GitHub and other sources of data on developer engagement, we believe more developers write and deploy real applications and code on Cloudflow workers every month than every other edge computing platform combined. So what are they building? One of the most viewed publications during the 2020 elections used Chrysler workers to power their elections news platform and ensure it scaled during the unprecedented spike in traffic last Tuesday as well as Wednesday and today. A popular health foods company uses workers to power their online ordering system. An online marketing firm working with major brands uses workers to customize content on a per-visitor basis. A publicly traded electronics testing firm uses workers to bridge their on-premise and cloud-based infrastructure. An innovative startup is using workers to power an online crypto scavenger hunt. And one of the largest online learning platforms uses workers to deliver their customized content during this time of skyrocketing demand. It's great to see more use cases every quarter, but I think we're just scratching the surface. Most use cases today have focused on performance. Over time, I expect those use cases will pale in comparison to what is a much bigger opportunity, helping customers manage the challenges of compliance. As governments around the world increasingly insist on data localization and data residency, sending all your users' data back to AWS needs for processing will become unacceptable. What our largest, most sophisticated, most compliance-sensitive customers are looking to workers for is as a way to manage this increasingly complex regulatory environment. That's why, during CloudBloat's birthday week, our announcement of Durable Objects may have been one of the most important edge computing developments you may have missed. DurableObject allows developers to define a data structure and store it safely on our network close to users that need to access it in order to ensure performance and consistency. It also allows developers to define where that data can move across our network and where it cannot, such as this user's data may never leave the EU or this user's data may never leave Brazil. Given Cloudflare's network spans more than 200 cities in more than 100 countries worldwide, Durable Objects provides fine-grained control over where data is stored and processed. That functionality is critical for the increasingly complex compliance challenges that face every global company today. In other words, the future of edge computing will be defined as much by intelligent edge storage as it is by computing. And while others are still working to launch their edge computing platforms, we have products like Durable Objects in market that are defining that future today. Before I hand it off to Thomas, I wanted to close by talking about three more Fortune 500 large enterprise customers whose business we won in Q3. A Fortune 500 industrial manufacturing company came to us to consolidate multiple vendors and products into a single unified platform. They replaced discrete network optimization, load balancing, and bot management vendors with CloudFlare in order to, in the CISA's words, have a single pane of glass to understand and control what's happening on their network. They signed a $1.4 million annual contract in Q3. A Fortune 500 food and beverage company came to us following a security audit. They replaced their legacy network optimization service with Cloudflare. They used most of Cloudflare's core services, including workers. They were looking to save money over their previous vendor and were able to cut their spend in half while still being a very attractive customer for us. They signed a half-a-million-dollar annual contract with us in Q3. Finally, a Fortune 500 pharmaceutical company adopted the Cloudflare One architecture to protect their employees and global network. They were able to onboard 47,000 employees and contractors and more than 130 applications on the CloudFlare One. They were particularly impressed with the comprehensive solution as well as its ease of use. They called out how much our solution reduced their internal IT support ticket load. They signed a $1.5 million annual contract in Q3. Sometimes you hit on all cylinders. We had one of those quarters. I wanted to take a second to thank the whole Cloudflare team who are working hard to make Thomas and my job easy. With that, I'll turn it over to Thomas.