Cloud communications infrastructure company Twilio (NYSE:TWLO) announced better-than-expected results in the Q3 FY2022 quarter, with revenue up 32.8% year on year to $983 million. However, guidance for the next quarter was less impressive, coming in at $1 billion at the midpoint, being 6.71% below analyst estimates. Twilio made a GAAP loss of $482.3 million, down on its loss of $224.1 million, in the same quarter last year.
Twilio (TWLO) Q3 FY2022 Highlights:
- Revenue: $983 million vs analyst estimates of $972.8 million (1.04% beat)
- EPS (non-GAAP): -$0.27 vs analyst estimates of -$0.35
- Revenue guidance for Q4 2022 is $1 billion at the midpoint, below analyst estimates of $1.07 billion
- Free cash flow was negative $147.1 million, compared to negative free cash flow of $66.3 million in previous quarter
- Net Revenue Retention Rate: 122%, in line with previous quarter
- Customers: 280,000, up from 275,000 in previous quarter
- Gross Margin (GAAP): 47%, down from 49.2% same quarter last year
Founded in 2008 by Jeff Lawson, a former engineer at Amazon, Twilio (NYSE:TWLO) is a software as a service platform that makes it really easy for software developers to use text messaging, voice calls and other forms of communication in their apps.
The company functions as a bridge between the legacy systems of global telecommunications carriers and internet applications, and offers a set of building blocks developers can use to add external messaging to their services.
For example it makes it possible for developers to provide SMS notifications in a food delivery app, the ability to call the driver in a ride-sharing app or two factor account verifications for internet banking without needing to invest in their own infrastructure and routing algorithms.
The first shift towards voice communication over the internet (VOIP), rather than traditional phone networks, happened when the enterprises started replacing business phones with the cheaper VOIP technology. Today, the rise of the consumer internet has increased the need for two way audio and video functionality in applications, driving demand for software tools and platforms that enable this utility.
Competitors include Agora (NASDAQ:API), Vonage, Plivo, and Bandwidth (NASDAQ:BAND).
As you can see below, Twilio's revenue growth has been exceptional over the last two years, growing from quarterly revenue of $447.9 million in Q3 FY2020, to $983 million.
And unsurprisingly, this was another great quarter for Twilio with revenue up 32.8% year on year. But the growth did slow down compared to last quarter, as the revenue increased by just $39.6 million in Q3, compared to $67.9 million in Q2 2022. We'd like to see revenue increase by a greater amount each quarter, but a one-off fluctuation is usually not concerning.
Guidance for the next quarter indicates Twilio is expecting revenue to grow 18.6% year on year to $1 billion, slowing down from the 53.7% year-over-year increase in revenue the company had recorded in the same quarter last year. Ahead of the earnings results the analysts covering the company were estimating sales to grow 26.1% over the next twelve months.
You can see below that Twilio reported 280,000 customers at the end of the quarter, an increase of 5,000 on last quarter. That is a little slower customer growth than what we are used to seeing lately, suggesting that the customer acquisition momentum is slowing a little bit.
One of the best things about software as a service businesses (and a reason why they trade at such high multiples) is that customers tend to spend more with the company over time.
Twilio's net revenue retention rate, an important measure of how much customers from a year ago were spending at the end of the quarter, was at 122% in Q3. That means even if they didn't win any new customers, Twilio would have grown its revenue 22% year on year. Despite it going down over the last year this is still a good retention rate and a proof that Twilio's customers are satisfied with their software and are getting more value from it over time. That is good to see.
What makes the software as a service business so attractive is that once the software is developed, it typically shouldn't cost much to provide it as an ongoing service to customers. Twilio's gross profit margin, an important metric measuring how much money there is left after paying for servers, licenses, technical support and other necessary running expenses was at 47% in Q3.
That means that for every $1 in revenue the company had $0.47 left to spend on developing new products, marketing & sales and the general administrative overhead. This would be considered a low gross margin for a SaaS company and it has been going down over the last year, which is probably the opposite direction shareholders would like to see it go.
Cash Is King
If you follow StockStory for a while, you know that we put an emphasis on cash flow. Why, you ask? We believe that in the end cash is king, as you can't use accounting profits to pay the bills. Twilio burned through $147.1 million in Q3, increasing the cash burn by 117% year on year.
Twilio has burned through $299 million in cash over the last twelve months, resulting in a negative 8.2% free cash flow margin. This below average FCF margin is a result of Twilio's need to invest in the business to continue penetrating its market.
Key Takeaways from Twilio's Q3 Results
Since it has still been burning cash over the last twelve months it is worth keeping an eye on Twilio’s balance sheet, but we note that with a market capitalization of $12.3 billion and more than $4.2 billion in cash, the company has the capacity to continue to prioritise growth over profitability.
It was good to see Twilio deliver strong revenue growth this quarter. And we were also happy to see it topped analysts’ revenue expectations, even if just narrowly. On the other hand, it was unfortunate to see that the revenue guidance for the next quarter missed analysts' expectations and there was a slowdown in customer growth. Overall, it seems to us that this was a complicated quarter for Twilio. The company is down 14.6% on the results and currently trades at $55.76 per share.
Is Now The Time?
Twilio may have had a bad quarter, but investors should also consider its valuation and business qualities, when assessing the investment opportunity. We cheer for everyone who is making the lives of others easier through technology, but in case of Twilio we will be cheering from the sidelines. Its revenue growth has been exceptional, though we don't expect it to maintain historical growth rates. But while its customers are increasing their spending quite quickly, suggesting that they love the product, the downside is that its gross margins show its business model is much less lucrative than the best software businesses and its customer acquisition is less efficient than many comparable companies.
Twilio's price to sales ratio based on the next twelve months is 2.6x, suggesting that the market does have lower expectations of the business, relative to the high growth tech stocks. While we have no doubt one can find things to like about the company, and the price is not completely unreasonable, we think that at the moment there might be better opportunities in the market.
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