Zuora gets stickier as Q2 results show growth on all fronts

By Phil Wainewright

August 26, 2021

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The undoubted highlight of Zuora's Q2 results, announced yesterday after market close, was a rise in net dollar retention rate to a record 108%. One of the most important metrics for a SaaS business, this measures the total subscription revenues from existing customers as a percentage of the total a year ago. In Q2 last year, it had sunk to a disappointing 99% as pandemic-inspired churn saw a number of contracts fall away, while other customers put expansion plans on hold. A year later, it has bounced back above expectations, with churn dialed back to a historic low, while Zuora's land-and-expand strategy bears fruit through an expanding product footprint at many customers. Speaking to Wall St analysts last night, CEO Tien Tzuo opened his remarks with the news:

We set a goal at the start of the year to exceed 105% dollar-based retention rate by the end of our fiscal year.

I am happy to report that we exceeded that goal two quarters early.

The measure reflects the success of the company's multi-product strategy, he believes, which in recent years has seen Zuora deliver revenue management and collections alongside its core subscription billings product, all built on the same microservices-based platform. These additional products have opened up nearly a half-billion-dollar opportunity in the existing customer base, the company estimates, through up-selling and cross-selling. At the same time, they reduce its dependence on driving up transaction volumes to increase revenues, with fixed-price subscriptions now making up more than half of most customers' bills.

Fast-scaling disruptors and enterprise incumbents

The markets responded well to the results today, with Zuora's stock price opening almost 10% up. Total revenue for the quarter was up 15% year-over-year at $86.5 million, of which $71.5 million was subscription revenue, up 23%. Margins remained flat, with GAAP net loss static at 27% of revenue, while the non-GAAP net loss was $4.6 million, compared to a small net income of $0.8 million in the same quarter a year prior. Free cash flow worsened slightly but is expected to recover in later quarters.

Annual Recurring Revenue (ARR) growth was slightly above target at 18%, and the company edged up its total revenue outlook for the fiscal year to a range of $340-342 million, with $280-282 million of that being subscription revenue.

That ongoing growth reflects Zuora's success in winning business from both "fast-scaling disruptors and enterprise incumbents," says Tzuo. The company called out new customer wins in the quarter at Daihatsu, Rev.com and Thales, reflecting the spread across both categories. Manufacturers in particular want to join the subscription economy, says Tzuo, who explains:

When every single physical product is connected to the internet, the same revolution that you found in the software sector, where software became Software-as-a-Service, the same revolution you found in, say, entertainment and media, it's happening in the physical product world.

The manufacturing companies we work with, the common thread is they spent the last four/five/six years investing in IoT infrastructure, connecting all their products to the Internet. Now their imagination is just bursting with new revenue streams that they could get. And some of these could be additional launches even. We're able to help them launch a brand new, IoT-driven service, in 90 days or less, and grow from there.

At the same time as expanding the breadth of its product range, Zuora has been making changes in how it goes to market, in particular building up relationships with leading systems integrators, who were involved in bringing in three quarters of Q2's new accounts, says Tzuo. Coupled with Zuora's own investments in customer success and an uptick in the numbers of certified SI consultants, implementation timespans have been shortening too.

Subscription success strategies

Zuora's position as an experienced pureplay vendor means it's able to advise customers on success strategies as they adopt the subscription model. The complexity of managing subscriptions is often not appreciated until you dig into it, as CFO Todd McElhatton explains:

[When] you have a change in your subscription, that might impact 16 different business processes. Those business processes may all be on different systems — think about fulfilment, think about revenue recognition, think about collection — so every time there's a change, you have all those things that have to come together.

This is not something that's easy to achieve with systems that aren't purpose-built in the way Zuora has engineered its platform. He continues:

Do-it-yourself continues to be the biggest competition that we have. Or it's something that is a CRM or ERP system that's been kind of klujed together to build something. But again, that's really highly dependent on a lot of services, and it's not very agile, there's nothing out of the box for it.

Zuora's expertise in subscriptions and its specialist focus bodes well for the future, he believes:

What I've seen in my career is, best-of-breed always tends to win. I think that's one of the reasons that we feel really confident about our strategy. I get up and I think about subscription experience. We think about, how do we bill? How to recognize revenue? How do we collect? How do we enable that to be a great experience? ...

Here at Zuora, we know exactly what pays the bills and what feeds us, what our customers expect from us, and we've stayed really focused on that.

My take

A good set of numbers that appear to validate Zuora's product and go-to-market strategies of the past few years as these now start delivering results, entrenching the company's position across its customer base. The shift to Everything-as-a-Service (XaaS) is an ongoing trend that we've tracked in detail at diginomica, and in our view it's only going to accelerate. Zuora has built up a strong track record at the high end of the enterprise market for subscription economy solutions, one that positions it well to prosper in an XaaS world.