Greetings, and welcome to Vonage Second Quarter 2021 Earnings. [Operator Instructions] As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Hunter Blankenbaker, Vice President, Investor Relations. Thank you. You may begin..

Okay. Thank you, operator, and good morning, and welcome to our second quarter 2021 earnings conference call. Speaking on the call this morning is Rory Read, Chief Executive Officer; and Steve Lasher, Chief Financial Officer; also joining us is Jay Bellissimo, our Chief Operating Officer.

Rory will discuss our strategy and second quarter results, and Steve will provide a more detailed view on our second quarter results, third quarter guidance and updated full year 2021 guidance. Slides that accompany today's discussion are available on the IR website. At the conclusion of our prepared remarks, we'll be happy to take your questions.

As referenced on Slide 2, I would like to remind everyone that statements made during this call may be forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995.

These forward-looking statements are based on management's expectations, depend on assumptions that may be incorrect or imprecise, and are subject to risks and uncertainties that could cause actual results to differ materially.

More information about these risks and uncertainties is highlighted on the second page of the slides and contained in our SEC filings. We caution listeners not to rely unduly on these statements and disclaim any intent or obligation to update. During this call, we will be referring to non-GAAP financial measures.

A reconciliation to GAAP is available in the second quarter earnings press release or the second quarter earnings slides posted on the IR website. So with that, I'll turn the call over to Rory..

Thanks, Hunter, and hello, everyone. Thank you for joining us today. I hope you and your families are safe and healthy. It's been just over a year since I became CEO of Vonage, and we are delivering significant progress against our strategic transformation plan and committed business results.

Over the past year, we have implemented important changes to strengthen our Vonage Communications Platform business to drive faster growth and better capture the major market opportunities across our product portfolio.

We started executing this transformation by optimizing our business for improved operational efficiency, and we are on track to reduce operating expenses by $50 million in 2021, net our strategic investment.

The strategic investments we have made are focused on driving growth through product innovation and a stronger go-to-market in areas where our products bring the greatest value to our customers and where we can win a disproportional share of the market. Our world-class leadership team is now in place.

And our new culture, the Vonage Way, has every Vonage team member focused on driving execution through accountability, collaboration and a customer-first mentality.

Today, I'll focus my comments on our strong second quarter Vonage Communications Platform results, reflecting improving momentum driven by good execution and on the progress we're making on our strategic investment. Steve Lasher will follow with a more detailed review of the quarter and updated guidance.

Vonage Communications Platform services revenue were $260 million, driven by accelerating growth rate of 23%, up from 18% a year ago. Second quarter VCP adjusted EBITDA improved $19 million year-over-year. And we reached positive VCP adjusted EBITDA of $1 million earlier than planned.

As a software technology company, our results are being measured through a progressive improvement of our Rule of 40. This quarter, our Rule of 40 result was 23%, up from 10% in the second quarter a year ago. This is ahead of the schedule we covered with you during our Investor Day in March.

API revenues increased 40% year-over-year to $144 million in the quarter. Our strong growth was driven by broad-based demand across geographies, verticals and customer size. We saw particular strength in the messaging areas as economies and industries continue to reopen and accelerate demand.

Whether it's receiving medical attention through telehealth, tracking a package or food delivery, booking a ride-sharing service, providing fraud protection, connecting with the right customer support agent or enabling video and voice communications across thousands of office locations, Vonage does that.

Our global scale and diversity remain key differentiators. We delivered strong growth across each of our geographies and we are continuing to invest in new markets and industries to further expand our addressable market.

Additionally, our API product breadth and deep industry expertise provided a significant advantage in these high-growth API markets today and well into the future. One industry I'd like to highlight is the emerging social media platform space where Vonage provides services to 8 of the top 13 global social media platforms.

Our growth from existing customers was also strong. Dollar-based net expansion was 125% in the quarter, driven by accelerating usage growth in e-commerce, social media, gaming, with travel and hospitality showing particular strength. A great land and expand example this quarter is AmeriSave Mortgage company.

AmeriSave selected our messaging product in early 2021 to enhance their customer engagement and support in order to simplify the loan process. After a smooth implementation and scaling to meet their business needs, AmeriSave has now also implemented our Verify API to help them protect against fraud.

Additional expanded relationships across our API products include, among others, a major international audio streaming and digital media services provider, a leading online travel booking platform and a major China-based data center and cloud computing provider.

Our investments in go-to-market also drove strong new customer growth, where Kry and Krafton are good examples.

Kry, a European-based digital health care platform that provides services to more than 3 million patients across Europe chose Vonage's video API to power its platform to enable patients to consult with clinicians digitally from anywhere at any time.

This added functionality for Kry will remove barriers to patient care such as long wait times, busy phone lines to help those in need of essential health care. Krafton Incorporated, a South Korean video game holding company known for player unknown battlegrounds, often referred to as PUBG, wanted to prevent excessive game addiction among minors.

They chose Vonage's Verify API authentication services to differentiate adults from minors to monitor minors' playing time. The importance of security and compliance is critical to our customers, and we will continue to invest in HIPAA, PCI, SOC 2 compliance to increase our market opportunity.

In the second quarter, we enhanced compliance certifications for our messaging API with the addition of HIPAA compliance and added regional media zones to our video API. Our API products continued their strong momentum in the second quarter, and we expect this to continue for the balance of the year.

Now moving to Unified Communications and Contact Center products. Service revenues grew 7%, ahead of expectations. Our go-to-market and product initiatives drove solid positive year-over-year bookings growth for the quarter, as we expected. Our revenue growth increased to mid-single digits in the second quarter.

And based on our pipeline, bookings and improved execution, we are well positioned to accelerate revenue growth to the high single digits in the fourth quarter and double digits growth in 2022. 10 of our top 15 wins this quarter included an integrated Unified Communications and Contact Center solution.

We believe this will be an important driver moving forward. I'll highlight 2 examples.

The London Borough of Hackney selected Vonage's UC and CC solution to move more than 3,500 UC seats and 170 contact center seats to the cloud from an on-prem solution to modernize employee collaboration and provide better experiences for the borough's more than 300,000 residents.

Another key win was a Fortune 1000 global consumer goods company that needed to integrate its Salesforce CRM with its internal business communication solutions and contact center.

Vonage's deep integration with Salesforce and our ability to provide an integrated UC and CC solution with advanced features, reporting, analytics and AI capabilities were key differentiators in this win.

Within the channel, the additional resources, support and training we have implemented through Vonage Accelerate are driving early positive results. Channel bookings increased sequentially. And 5 of our top 10 deals, including our 2 largest deals in the quarter, came from the channel. We will continue to invest in this critical route to market.

In the Contact Center product space, we will continue to partner with Salesforce to drive growth, where I believe we are a leading early partner in Salesforce Service Cloud Voice Partner Telephony Program. This represents an important opportunity for us.

Vonage Contact Center brings automation, intelligence and global calling capability to service cloud voice, combining voice, digital channel and CRM data into one central view for a unified agent and digital channel experience. Vonage Contact Center has a 4.9 out of 5 rating based on more than 800 reviews on the Salesforce App Exchange.

Salesforce also recently named Vonage the 2021 Cross-Industry Independent Software Vendor Partner of the Year in EMEA for the second consecutive year. We will invest and execute to capture this unique opportunity for Vonage with our powerful partner, Salesforce. In summary, second quarter results were strong and continued to improve.

This is demonstrating our operational execution and delivery against our strategic transformation plan over the past year. We are showing material progress on our go-to-market initiatives and we are innovating faster to provide differentiated experiences and solutions for our customers.

We are clearly operating in a very large and growing market, which is expected to reach $80 billion in 2024, driven by secular tailwinds like cloud migration, digital transformation and more recently, hybrid working models.

We believe Vonage is in a unique position to offer comprehensive Unified Communications, Contact Center and programmable APIs through our Vonage Communications Platform. Customers' needs are rapidly growing across their communication and engagement platforms.

And we will continue to see an increased need for combined UC and CC solutions and the continued strong growth of embedded API programmable communications markets. We are encouraged by our momentum and are confident in our ability to grow and gain scale in this rapidly expanding cloud communications market.

I would like to thank our talented team members around the world for their support over the past year and for their passion and commitment to our customers. We are building a culture of execution, and we will continue to deliver. This year marks Vonage's 20th year in business, and we believe the best is yet to come.

With that, I'll turn it over to Steve..

Thank you, Rory, and good morning, everyone. I'll start with a review of the second quarter results and then discuss the third quarter and updated full year 2021 guidance. Beginning on Slide 8. Our team executed well in the second quarter, delivering strong results as companies continue to move to the cloud for their digital transformation initiatives.

Each of our product areas, including API, UC and CC, delivered on our commitments while we continue to improve on the Rule of 40. Turning to Slide 9. Consolidated revenues increased 13% to $351 million, driven by a 22% increase in Vonage Communications Platform revenues.

VCP revenues now represent 79% of consolidated revenue, up from 73% in the second quarter of the prior year. Consolidated second quarter adjusted EBITDA of $49 million was up $7 million year-over-year due to higher revenue and improving operating structure within VCP. Moving to Vonage Communications Platform on Slide 10.

VCP service revenues increased 23% to $260 million, ahead of expectations. VCP revenue churn was 1% in the second quarter, basically flat from a year ago. Monthly service revenues per customer increased 24% to $632 from $509 over the prior year.

VCP gross margin in the second quarter was 46%, down year-over-year due to the higher growth of our API products. We expect VCP gross margins will be in the mid-40s range for the full year. VCP adjusted EBITDA was positive $1 million, representing VCP's first profitable quarter and an improvement of $19 million from the second quarter of 2020.

Slide 11. API revenues were $144 million in the second quarter, up 40%, driven by continued growth across all product areas and geographies. Unified Communications and Contact Center service revenues were $116 million in the second quarter, up 7% year-over-year. Let's move to Slide 12.

VCP operating expenses totaled $167 million, which represents 60% of total VCP revenue, an improvement of 12 points year-over-year. VCP sales and marketing expenses, which are 30% of total VCP revenue, was $82 million, down $6 million year-over-year as a result of our business optimization efforts from last year.

Sequentially, sales and marketing was up $4 million due to investments in sales headcount and targeted demand generation. VCP engineering and development expenses, which represents 8% of total VCP revenue, was $22 million.

This is up $4 million year-over-year, reflecting an increased investment on the VCP platform, including voice and messaging features, market expansion and BBC and BCC functionality. VCP E&D expenses plus capitalized software totaled $32 million, which represents 12% of VCP service revenue.

VCP general and administrative expenses, which is 15% of total VCP revenue, was $41 million, up $2 million from the prior year. On Slide 13. Consumer segment revenues were $75 million in the second quarter, an 11% decrease from the prior year. Consumer adjusted EBITDA was $48 million in the second quarter, down from $59 million in the prior year.

On Slide 14. We ended the second quarter with $476 million of net debt, down $67 million from the prior year and down $28 million from the first quarter. As of June 30, net debt was 2.5x last 12 months adjusted EBITDA.

We look to reduce our leverage ratio to approximately 2.25x by year-end as we continue to pay down debt in 2021 and generate higher adjusted EBITDA. Moving to guidance on Slide 15. For the third quarter, we expect Vonage Communications Platform revenues in the range of $276 million to $280 million.

We expect Vonage Communications Platform service revenue growth in the low 20% range. Embedded in this guidance are the following trends. In API, we expect third quarter year-over-year growth to be in the 35% to 37% range. With regard to Unified Communications and Contact Center, we expect service revenue growth to be in the mid to high single digits.

We expect third quarter VCP adjusted EBITDA to be positive in the range of $1 million to $3 million. Within Consumer, we expect revenues in the $69 million area and adjusted EBITDA of approximately $45 million. On a consolidated basis, we expect total revenues of $345 million to $349 million and adjusted EBITDA in the $46 million to $48 million range.

For the full year 2021, we are raising our revenue and adjusted EBITDA guidance to reflect our second quarter performance and stronger second half outlook. We expect VCP revenues to be in the range of $1.095 billion to $1.106 billion.

VCP service revenues are expected to be in the range of $1.038 billion to $1.049 billion, representing growth in the low 20s. We expect API revenue growth for the full year to be in the high 30s, and we expect full year UC/CC service revenue growth in the mid-single digits.

We continue to expect fourth quarter UC/CC service revenue growth to exit in the high single digits. We expect VCP adjusted EBITDA to be in the $4 million to $9 million range.

For the full year, we expect our VCP Rule of 40 results to be in the low 20s, up from our original guidance of 16% to 18%, driven by stronger-than-expected growth in our API and UC/CC products. For Consumer, we expect full year revenue in the $288 million area and adjusted EBITDA in the $185 million area.

We expect total consolidated revenues to be in the range of $1.383 billion to $1.394 billion, and adjusted EBITDA in the $189 million to $194 million range. With that, I'll turn the call over to the operator to start the Q&A..

[Operator Instructions] Our first question comes from the line of George Sutton with Craig-Hallum..

Nice results. Rory, I have to give you credit. Back at your Analyst Day, we pushed you to explain your extreme confidence in a turnaround. And frankly, at the time, it wasn't clear. Looking back at that, you were spot on.

So now you're suggesting an acceleration of service growth from this mid-single-digit level to exit the year high single digits and double digits next year.

Can you kind of walk through what you're seeing in the pipe to come to that conclusion?.

Yes. Thanks, George. There's no question that business in the UC/CC space is a traditional waterfall business. That software portfolio, you can see the trajectory of it.

There's no question we've seen a building pipeline over the past several quarters that began last year with the work that Rodolpho and his team did to really generate and focus the go-to-market in a tailored way, where does the product best fit. We targeted tactics by customer segment, and we saw that pipeline build.

As the pipeline built, we saw the leads turn into actually qualified leads. And then we saw them turn into bookings. And now we see them into installs and revenue. As we talked about last time, last quarter, we thought that we'd go positive on bookings growth in this quarter. We did. We absolutely did. And we see that for the balance of the year.

Based on that, we can see the flow of installs. We can see the flow of revenue. Through the end of the year, that will get us to high single digits and double digits in 2022. Just so you know, the cloud-based products are already in double-digit growth. And our strength really is in that small, mid-market and multi-location enterprise.

That's where we're really getting the lift. And as we build out next year, 2022 is what we call the year of the product. We're making investments. We've increased our investments over 20% overall in engineering and product, at the same time, improving our profitability. And in our high-growth areas, we've actually increased it more than 50%.

That's going to enable us to deliver more functionality, more product next year. Even in the second half of this year, that will open up more TAM. We're going to see the same thing in UC/CC. And the way we're going to double down on the work that we're doing with Salesforce and Service Cloud Voice, I think we have a real chance to lead there.

I mean lead. And if we can lead, that will create even more opportunity. So I'm pretty bullish on the trajectory. We can see it. Things change always, but there's no question. You can see it in terms of pipeline progression. You can see it in terms of leads, you can see it in terms of bookings and obviously, installs and revenue.

So that's what we're seeing..

Super. One other thing you mentioned in your prepared comments, that you continue to invest in the channel and mentioned that bookings had increased sequentially. I just wondered if you can give us a little bit more detail on both those statements..

Yes, channel is an important strategy for us. There's no question that if you think of how we tailored the go-to-market for UC/CC, we basically looked at the groupings. In the history of Vonage, what had been done was all our direct sellers covered all customer segments. That's not efficient.

That's why the cost structure was out of whack and there was a lot of competition. What we did is we created e-commerce, e-support solutions for micro and small.

We leveraged and built out a better channel program with Vonage Accelerate that we continue to invest in over the next several quarters, better training, better portal, better solutions, better incentives. That will then allow us to win in that small, mid and beginning of enterprise.

And then we're going to put all our direct sellers on the top of mid and on top of enterprise. That's definitely translating into better results. We saw growth across all those segments, which is really important. And we made sure that we did the analytics on all our demand gen and marketing tactics.

We've then been much more efficient on our CAC and in terms of our return on investment. Channel is a big deal for us. There's no question. It's been an untapped and kind of a several false starts. Let's watch that over a 4-, 6-quarter trend. I think we can really make sure that, that's really powerful. We're seeing that progression in terms of pipeline.

We're seeing that progression in terms of volume. And we saw some of our fastest growth in terms of the channel, no question about it. But we'll continue to invest to support it..

Our next question comes from the line of Samad Samana with Jefferies..

This is Mason Marion on for Samad. So I want to go to the API segment. Growth is obviously very impressive. But on a competitive environment, I wanted to ask what you're seeing here.

How is pricing trending? And then if you could cover any specific geographies that are perhaps doing better than others?.

Sure. So Mason, thanks for the question. I'll have Jay give a little bit of color in a second. We're in a secular change here. There's no question. This communication revolution is at the beginning. It's why I came to Vonage. We're going to see kind of an increasing penetration in this market space over the next 3, 5, 7 years, $80 billion by 2024.

APIs and the way they're used by every industry, every app, every workflow, we're going to see it everywhere. And that's going to continue to drive growth. It's a huge market, lots of opportunity. One of our strengths is the diversity of our geographic footprint, our industry footprint. So we were strong and grew in every industry.

We were strong and grew in every geography. And I think this is going to be an important kind of technology wave, as I mentioned, for the next 3, 5, even 7 years. This is a fundamental shift in the way people will interact with their team members, with their customers and with their partners. I think we're really uniquely positioned in this space.

It's a big market, so there's more than enough to go around. And I think we can grow at a disproportional rate here.

I mean maybe, Jay, you want to add a little color about why we win in this API space and why you're seeing some of the progress we're seeing, particularly in messaging and across the API?.

Sure. Mason, the way we look at it is we've got a set of programmable APIs. And as Rory alluded to, our growth was largely driven by the broad-based demand across the geographies verticals. I don't think there's a vertical we don't touch. And the customer size, we play in all sizes, right? As you know, there's an incredible push. It started before COVID.

But with COVID, it was a very different market, but now we're seeing this new hybrid working environment. But it doesn't matter. The diversification for us is going to continue to help us balance the business and ultimately always be in a position to meet our customers where they are now and where they need to be moving forward.

In particular, as Rory said, messaging, we saw particular strength by this accelerating usage, specifically to -- in e-commerce, social media, gaming. And we start to see travel and hospitality coming back a bit. And we're hopeful that, that will happen in the second half. As we all know, with the new variant, we don't know what's going to happen.

But again, we've got that balance. And the last point I'd make is just on the growth across each of these geographies. Though it's been strong, I want to reiterate that we're continuing to invest in new markets and industries to further expand our addressable market and the value we can drive to our customers.

So in particular, since January, we've established presence in Brazil, Malaysia and Mexico, and we're going to continue to go deep in Indonesia and some of these other key geographies. So all said and done, it's the balance and diversification that will continue to propel our growth..

Understood. And then I just wanted to touch on your churn a bit. Your VCP churn, specifically, is healthy at 1%.

Can you provide any context here around [indiscernible] between your UC, your Contact Center customers and your API customers? Is there any divergence between those?.

So I didn't hear that perfectly clearly.

Steve, did you hear that one perfectly clearly?.

I think you're just asking, how does our churn represent based off of what we've seen previously. And I think that when we take a look at our churn, we think it has improved as we've moved forward to the quarter.

And I think that's representative of us having quality products that are resonating in the marketplace, and we think that's at a stable level for us going forward..

Yes. I'll break it down. I mean in UC/CC we've seen churn at the lowest levels we've seen in a long time. I think that's reflecting the kind of solution that we're delivering to the customer. And we see that consistent kind of performance. It's been trending down in terms of improving churn.

And the DBNE at 125%, I think it's we want to run that DBNE in that 120% to 130%, 135% range. That's a great spot. I think it's really important that we keep that focus on DBNE. And that -- with that 125%, I think that's reflecting the strength that we're seeing in terms of the customer buy-in and the value we're creating for them..

Our next question comes from the line of Will Power with Robert W. Baird..

Congratulations on the nice results and great to see the improving trends. I wanted to ask you on the UC/CC side of things. It feels like you're seeing nice traction on Contact Center overall. But I'd love to understand really kind of 2 parts.

I mean, A, what do you still need to invest in there to kind of make it fully enterprise-grade? Are there other features, omnichannel capabilities? I mean you still need to add and clearly already making progress there. And I guess, B, I know a lot of the success has been driven in tandem with Salesforce, the integration, go to market there.

What are you seeing beyond that? And is there an intention to continue to invest in other Contact Center -- broader Contact Center capabilities beyond that Salesforce integration?.

Yes. Thanks, Will. There's no question that our contact center and the partnership that we've built with the powerhouse Salesforce has played out very well over the past years. And with Service Cloud Voice and us being, in my opinion, a real early leader in that space, I see the pipeline there. There's a big opportunity.

I think we can do important leadership-type growth rate, leveraging that partnership. At the same time, there's definite opportunities across integrations with other productivity solutions, Teams, et cetera. These -- this is really a space where with a targeted focus where we best play, there's no reason we can't grow at better-than-market rates.

We're already in that space doing very well. And with these kind of focus and partnerships, we're going to see that continue. We see that through the first half. We have pretty good visibility through the early part of next year based on pipeline, installs and trajectory. I like that.

In terms of investment, Savinay Berry and his team are working across Rodolpho's team with the customers. And we're building out further capability to enhance billing, to enhance scaling, to build out additional omnichannel capabilities.

We are definitely going to move from just one-trick pony in terms of sub productivity to continue to move up that scale. But that's going to occur over the next 3, 6, 8 quarters, and we're continuing to invest there. In the meantime, make hay, leverage where the product fits well, use that tailored go-to-market to capture more than our fair share.

And we're seeing good trajectory there. We're going to build on it, Will..

Yes. That sounds great. Okay. And maybe just one follow-up, perhaps maybe for Steve.

Just as we look at the Q3 guidance, any seasonal impacts to be aware of or think about? I mean it'd be incorporated in the guidance, but I guess particularly with respect to the API business as you move into Q3 from Q2?.

Yes. Thanks, Will. As far as what's baked in the guidance, look, we had really strong performance for the first half of the year. We expect that to continue.

But as the variants start to corpus, I guess, as you come through, where we feel that we have areas that are wrapping on a really strong market from last year, especially when we look at our video product.

But when we also get into other opportunities opening, as Jay mentioned earlier, our travel and hospitality continues to start to see that come back, I believe it's baked in. So again, I think from a seasonality perspective, we have it baked in. API is a usage-based business, as you know.

And really, for us, it's continuing to make sure we put a quality product out there. As Rory mentioned, our DBNE at 125%, it's showing that we're continuing to grow with our customers. As well as they build new use cases, we continue to expand on them, and we're seeing it in our results.

So again, as we look at the guidance for next quarter, we did raise it from 3Q, and we feel pretty confident that we're going to be able to hit that on the back end..

Yes. And when you think about it, when we talked about at the Analyst Day in terms of transforming the business, right now, we're ahead of that track. There's no question. But the real power of our portfolio is the diversity of it, both geography-based, industry-based and product-based.

We'll see variance -- variations, not variance -- variations from quarter-to-quarter in different products. For example, this quarter, we had a lot of messaging growth. Other quarters, we'll see video growth. Other quarters, we'll see voice growth.

But it's the diversity of our portfolio that allows us to participate as the industries ebb and flow as we go kind of through this unprecedented time as economies and industries reopen, kind of moderate and then reopen again. I like the diversity of the portfolio, and that gives us some protection against seasonality or one particular tower..

Our next question comes from the line of Meta Marshall with Morgan Stanley..

This is Erik on for Meta. Congrats on the quarter. Maybe touching specifically on the health care vertical. You noted another health care win, and video APIs clearly benefited from telehealth usage over the past year. I think we see that as a vertical where you do pretty well.

But wondering what do you see as the opportunity to extend beyond video APIs? And how does HIPAA compliance and messaging and kind of that announcement have any impact on that?.

Thanks, Erik, and thanks, Meta. No question that health care is an important segment. Again, it's the diversity of the product set that gives us that strength. When you look across that portfolio, as we were in the depth of the pandemic, we saw video usage kind of explode through that telehealth scenario.

What we're going to see now is an opportunity for us to expand those APIs. And that's why we really are tracking that net dollar-based expansion rate because that's saying, hey, we have an opportunity with more than 50% of our customers to add more APIs to them, just on cross-sell. That's a great opportunity for us. We already have a relationship.

I mentioned the one about AmeriSave. That's a big deal where we implemented the messaging to help with the loan process, and immediately then, because of a great implementation and scaling, they took on Verify. We have that opportunity in probably almost better than 50% of our customers where we can expand on the current base.

That's a really important segment or opportunity that we can leverage. In the health care space, with improved -- with innovations around HIPAA compliance and then in fintech around SOC 2, we can open up whole new swaths of TAM for us to attack.

That's what we've been trying to systematically do, look at the market, look where we play well, tailor our go-to-market and then systematically look for those big TAM spots where we can innovate through Savinay's team and our engineers, which as mentioned earlier, we've significantly invested in that area so that '22 is the year of the product, that we can capture it.

That's what we're doing in health care. We've started and we've already started seeing the beginning wins appear already in the third quarter, where because of HIPAA compliance, we can capture more messaging. It's just the idea. There's lots of communication modes and lots of opportunity for us to expand. Thanks, Erik's..

That's helpful. And if I could just -- touching on that, the dollar-based net expansion rate.

When we think about the 125%, how much of that is just scaling usage of existing installations you have versus some of the newer expansion opportunities? And then is it more scaling today, but expansion moving forward? Or are you already seeing some of it being impacted by kind of the cross-sell?.

It's a combination, no question, and I'll have Jay give some overview in terms of what he's seeing with each of the customers and some ideas and examples about how that's driving. Of course, we're seeing usage in terms of our current customers expand, but also expanding into other APIs. I think that's a huge opportunity.

When you already have a relationship with a customer, and over 50% of our customers, we have identified opportunity to sell additional APIs, that's a really good target. We should yield at a much higher percentage with existing customers than just out in the wild customers. I think that's going to be a big driver for us over the next 4, 6 quarters.

But anyway, Jay, do you want to give a little feel for what you're seeing in terms of our usage patterns, particularly around API?.

Two additional points I'd make. The first is just on the messaging, DBNE. It was particularly strong given the increase in travel and hospitality, as we spoke about earlier. Obviously, we've seen some moderation of usage in health care and education.

But all said and done, I would come back to the bigger point, and that is the diversification of the business. So as you'd appreciate, we're always looking to grow and expand. As you know, we announced earlier in the year our go-to-market transformation.

A big part of that is how we service those customers in that whole CSM function, right, that customer success. So we're going to continue to do that with their existing base, but there's so much opportunity to cross-sell our APIs, and we're seeing more and more of that. We talked about AmeriSave Mortgage earlier.

We're seeing -- we saw in second quarter more and more of our customers coming back to us as they continue their digital transformation. Some are accelerating their move to the cloud. So that serves us well.

That's really in our sweet spot in terms of being able to land those clients and then have that wide range of programmable APIs where we can move with them. Because in a lot of cases, just use video as an example, we talked about that in the prior question, we still see that being a major driver in communications.

But as we look at a lot of our customers, they are going deeper in that customer journey. And so they're using video in different ways. And furthermore, as they go through those customer journeys, when you think of those workflows end-to-end, we're starting pulling Verify messaging in other key areas that are going to complement that.

Because in the end, we need to continue to deliver the value our customers have grown to expect from us. And we're very, very positioned in terms of where we want to be..

Thanks, Jay. Thanks, Erik..

Our next question comes from the line of James Breen with William Blair..

Just as we've seen things open up a little bit here from a pandemic perspective, any changes you're seeing in terms of the size of companies coming into the sales channel? Are larger companies starting to move now, whereas 8 months ago, 12 months ago, they were sort of frozen?.

Yes, James, we've really seen, particularly in the API space, just a very diverse set of customer sizes, geographies, regions. I think that's -- again, as we've talked about, I think one of the powerful advantages that Vonage has is that we're basically 1/3, 1/3, 1/3 across the 3 big geographies and then really 12, 15 really strong industries.

Customer size, we saw growth, as Steve mentioned, across every segment. Definitely, definitely a lot of energy out there. There's some momentum in the market, and we're seeing a fundamental shift in the way APIs and communication modes are used across productivity and customer engagement applications and workflows.

So now we're seeing it across the board. Obviously, some of our products fit better in UC/CC in that small, mid- and multi-location enterprise. But no, we're seeing it across the board.

And that's good because the diversity says, if one gets a little bit slow or choppy for one industry, we have really good flexibility to kind of give us some insulation across any of those smaller variations..

Great.

And then just any thoughts on competition given Zoom, Five9's -- with what's going on in the market?.

Yes. I think that acquisition kind of validates what we're trying to do with the Vonage Communications Platform. We've been on this strategy for 5, 6 years. We put the right assets together for where the market is going. And I think that acquisition, in particular, kind of validates this idea that we're on.

I think we have been a first mover in the space to put these together in a platform that allows our customers to get these broad-based of an API-first kind of engagement platform and then to build purpose-built applications in Contact Center and then Unified Communications on top of that API flow.

Now competition, I've been in this industry for 38 years. There's always competition. I've heard about everybody. So and so is going to do this, and they've already won and this whatever. I think where we are is this is an amazing market.

We're seeing a fundamental technology shift around how communications are used to engage customers, partners and team members on a broad basis. And the pandemic, as awful as it was, clearly accelerated that and proved it out.

The next 3 to 5, 7 years, it's the culmination of Internet, cloud and mobility all coming together to create this kind of perfect storm for communications embedded in all those activities. It's a huge market. I don't care what all the competition does. We're going to focus on our customers.

This is a customer first-based culture, but we understand our customers and give them the best care nobody else can. So take care of those customers and they'll tell their friends, and that will open up more opportunities. That's our opportunity. Sure, there'll be competitors, and there'll be this one this quarter and the next one next year.

It doesn't matter. This market is huge. It's a fundamental change in how the technology is used and being implemented. It's going to go on for several years. And for us, focus on our customer. You got 2 ears and 1 mouth, listen more than you talk, and listen to that customer and create them value.

If you take care of them better than anyone, nobody can get in there, and you can expand that base. That's our future..

Our next question comes from the line of Sterling Auty with JP Morgan..

This is Drew on for Sterling.

Could you provide some more color on gross margins in the quarter? And how do you anticipate those to trend as the API product mix continues to change?.

Thanks, Drew. Great question. I'm really proud of the fact that we improved adjusted EBITDA in the VCP. VCP is basically Vonage at this point. And we saw adjusted EBITDA improve $19 million year-over-year and our first positive quarter ever. We're going to run that adjusted EBITDA in that low single-digit range. We don't want to stretch it out.

We want to use that margin and that EBITDA to invest in growth. This market is going to grow rapidly for the next 3, 5, 7 years. We need to participate in that growth and use that acceleration in a virtuous cycle that allows us to acquire more selling power, more engineers, more product innovation.

We are definitely going to make sure, and we've told this on every one of these calls, that if we have an opportunity for growth, we'll always attack for that growth. Well, we make sure we're profitable. This is a long way from where we were a year ago, when it had a $19 million improvement in 1 quarter in adjusted EBITDA.

But we're going to leverage that capability going forward. And from quarter-to-quarter, you're going to see variations in mix. We're particularly strong in messaging this quarter. Next quarter, it could be particularly strong in another area. But it's that diversity of portfolio.

Steve, do you want to add a little color around gross margin for Drew?.

Yes, sure. Great. Thanks, Drew. As we look at it, as Rory mentioned, look, we've said all along, we're going to try and capture the opportunity. We know where we are in the market. The opportunity is large. We'll continue to go after it.

And if you look at the results from an API perspective, 40% growth driven across all product areas, geographies, we're capturing that. And again, as messaging becomes a larger part, we're going to continue to satisfy the need of those customers. So as the mix of our business, the margin may fluctuate as we go forward.

But the other thing that we look at is we're really managing the portfolio across the board. The goal was to improve on our Rule of 40, and we've done that. As Rory mentioned, 23% in the second quarter is a really solid number, especially when you think of where we came from a year ago at 10%. So the team is doing a nice job.

We'll continue to look for opportunities to improve on the margin and optimize as we go forward. But right now, we feel that the opportunity in the marketplace for us to continue to capture and grow the business is where we are at.

And achieving the first quarter of VCP profitability, look, we're operating up and down the P&L, and we'll continue to do so as we go forward..

Our next question comes from the line of Mike Latimore with Northland Capital Markets..

Just on the API business, it sounds like all regions did well, but were any of the regions particularly strong in the quarter for your API business?.

I think we saw strength across the board in API, no question about it. Maybe, Jay, you want to add a little bit of color. But I think we were a bit stronger -- even stronger in Asia. Europe looked good as well. Americas looked good, but probably a little bit stronger in Asia.

But Jay, why don't you add a little color?.

Sure, Rory. You said it right. If we look, Mike, at the 3 regions, again, good balance. I'd say Asia had some good growth, Indonesia and some of the other regions. Some of those industries like e-commerce, social media, gaming were a particular strength in that region as well.

So it's balanced across all 3, but we're seeing a little -- probably a little more growth there in the messaging. But overall, we're pleased with where we are right now. And as we look to the second half, again, because of that diversification of geography, we're going to continue to see, I think, similar touch of growth.

Next quarter, it could be one of the other regions, but we're playing all 3 regions, and we've got a good balanced approach to it. The last thing I would add is if you look at a country, Rory alluded to products and some of the enhancements we're making. And he mentioned HIPAA, PCI, SOC 2, which will play well in all the regions.

In particular, in something like HIPAA, obviously, we'll see some hopeful opportunities in the second half in the U.S., but also regional media zones. We launched RMZ in Japan in the second quarter, and we're going to continue to make those strategic investments from a product perspective, targeted at the requirements and needs.

Security and compliance is such a hot button these days for all the geos. And we're going to continue to make those investments in the product where we'll benefit all 3 of those geos..

Got it.

And then on the Unified Communications suite, I guess how are you feeling about your video conferencing, video collaboration capabilities? And any color on adoption of that?.

Yes. Obviously, our video capability is particularly strong. I think it's a leadership product in embedded video. We continue to invest heavily in that space to extend and maintain our lead. I think a great acquisition several years ago that really has paid off. Jay, any comments? I mean we've made that part of the centerpiece around UC.

We've embedded video now in CC. We've made it more of an API. I think that was a bit of an area years ago where they just did it as an embedded function. Always build every functionality as an API first.

But Jay, a little color for Mike?.

Sure. Rory, I would just come back to our customer-first approach. And when you look at whether it be the UC or CC, more and more of our customers, as they navigate this digital transformation, obviously, over the last 18 months, it's been a very difficult period for all of us.

But early on, we were helping our customers deal with those critical priority one issues. But over time now, everyone is adjusting and adapting to the new way of working. So video will continue to be a pillar across all of our solutions, whether it be the UC/CC or even on the API. We're starting to see more APIs be pulled into those solutions.

And I would also come back to an earlier point around just the combination. A majority of our business, new business, is that UC/CC combination. And occasionally, with some of those APIs, we see that increasing over time.

So I think as we move forward, we'll see more of that video as the centerpiece, but there's so much more value we can derive with our customers as they continue their digital transformation initiatives..

Our next question comes from the line of Catharine Trebnick with Colliers..

Good quarter. I have 2. One, Steve, you're putting out a lot more metrics and they are very good metrics.

Have you made any people changes in your organization that we're seeing better input from you all? And then the follow-up question is, similar to the sales organization, have you added more or changed out some of your CAM relationships to improve the channel growth there?.

Steve, you take the first one..

Yes. I'll hit at it. As far as the metrics that we're putting out, we're continuing to embed all of our analytics and use the data to help us make better business decisions. And that's really come with the function of the existing team.

Coming in, we're just really focused on building out our business insights and using that information to make better business decisions as we go forward, whether that's on where we're going to invest, where we're going to be able to capture the opportunities.

And then when we capture that opportunity, how do we make sure they realize into revenues faster. And it's really going through, looking at the data and then making the investments where we find the opportunity is and we know we can continue to grow.

And you're starting to see that, as we mentioned, through the results across all geographies, across all products. So again, it's -- the team is in place, and they're doing a great job, really now, which is down to the execution and continuing to improve our processes and the data flow, and you're starting to see the results..

Yes. And Catharine, I love the question, and I'll pass it to Jay in just a second. My experience in 38 years, the best talent wins. If you're passionate about customers, you're passionate about technology innovation and enabling the world's ability to connect and you really want to be part of the next technology wave, you want to be part of Vonage.

And we -- I think we've built out a really strong leadership team of combining some of the talent and leaders that were here with some new players.

There's additional skills that have been brought in at every level of the organization that are passionate about metrics and understanding the customer and what they're trying to do, and they're leaders in their particular segments.

And we've seen people be promoted inside of our organization that are ready to step up and take on new responsibilities. We're seeing it across, I don't care if it's in Jay's sales organization, Savinay's product and engineering, Joy's marketing area, Steve's financial area, we're building a better team, and we're seeing that kind of momentum build.

But Jay, maybe you add a little bit of color because you're definitely adding skills both in the channel and across key regions like America. But then again, like Sunny Rao coming in and taking on a big, big responsibility, that's how you do it.

Get the right people that are passionate about our customer and passionate about innovation, that's how you change the game. Go ahead, Jay..

I fully agree, Rory, with your point about the talent. But Catharine, to close out on this topic or question, I'd say in the end, we've made considerable investments in the first half in our go-to-market in both businesses, the API and the UCC business, and we're going to continue to do that in the second half.

For example, as part of our transformation, we added sales capacity and solutions engineer resources in our key geos and verticals as well as in our demand gen and branding areas. So this has been critical.

We started up back in January in terms of this new approach, and we're going to continue to put that sales capacity in those engineers in those regions across those products where it's going to make a difference, helping our customers create the value from our products.

And additionally, we spoke about our investments in the channel and the portal as we accelerate that whole self-service and onboarding of partners. So end-to-end, it starts with the people, but we're excited about our process and the additional investments we've made, as Steve pointed out earlier, in sales and marketing.

And we're going to continue to do that in the second half because we've already seen the return..

Our next question comes from the line of Steve Enders with KeyBanc..

I just wanted to talk a little bit about the product portfolio. It sounds like there's quite a bit of innovation coming, but wondering kind of what the big focus areas are for you and what the big areas are on the product road map..

Yes. Thanks, Steve. That's a great question. We're about halfway through this transformation. We're executing better. We're seeing some strength and momentum, but this is a work in progress, there's no question, and we're making good progress on the journey.

We have to take advantage of the next 12 to 18 months to continue to build out this transformation. And product becomes increasingly important, particularly around innovation.

The addition of Savinay and the build-out of the team there in terms of our capability, you're going to see a set of focus around a differentiated developer experience, a differentiated channel experience. You're going to see continued investment across all APIs and building an integrated common capability.

So it's easier for our customers to run 2, 3, 4, 5 APIs at once and get all common analytics and billing. We call that project Magneto. [Ph] I mean from a standpoint of UC, the product, it fits super well in that small, mid and multi-location enterprise. Make hay there, build out that capability.

At the same time, move up market with more enterprise-level billing, more multi enterprise kind of reporting that they're going to expect, and build out that capability. In Contact Center, really leverage that Salesforce opportunity in front of us. I think that one is an important one for the next 2 or 3 years.

I think they're a great partner, and they're obviously just a powerful, powerful player in the industry and a long history there. So -- And then at the same time, invest in that capability to really link other automation together.

I think this idea of a Vonage Communications Platform that people can come to, to get their communication assets for all those communication needs, I think that's one that everyone's kind of touched on, but with some of the recent acquisitions, I mean that was a big acquisition. They did that because they want to build out some of that capability.

They don't have all the pieces. We do, and we're going to continue to be a first mover in that space. Again, we're about halfway through this transformation, much more work to do. But the next 12 to 18 months, it's going to be about product. We've done good work in terms of becoming more efficient.

We've done more good work in terms of tailoring the go-to-market. This is a software technology company. Product. Product is the ultimate gauge in the value it creates for the customer.

That's why in the high-growth areas, we increased our engineering expense by almost 50%, and at the same time, improved our growth rate and improved our bottom line by efficiently managing it across the board and 20% overall. That's important. But those are some of the key areas, Steve, that Savinay and his team are really tackling.

Does that help?.

Yes, that's perfect. That's great to hear. And then I just want to touch on the gross margin front.

And wondering if there's things that you can either -- you can do on the API business to help boost margins there, either with a different product mix or some of the innovations there could help on that front? Or is it just about scale at this point? Just how do you kind of think about the opportunities to drive margin?.

Steve, it's both. There's no question. Scale is your friend in a technology industry, and we're going to go for scale. We definitely need it.

But definitely, you're going to see work around more intelligent routing, more feature function in terms of how we do messaging and opening up with better compliance and security, other regions and like expansion in the U.S. There are certain countries where we have better margin profiles.

How can we grow faster in those by targeting certain innovation? I think it's a combination. You always want to manage your cost effectively on the cost side. And we're kind of relentless on that and making sure that we're grinding that.

Scale is your friend in a technology industry, particularly in one that's growing like this over a multiyear period, and we're -- we haven't reached the knee of the curve here yet. I mean this is going to be a fundamental kind of impact in the industry for, like I said, 3, 5 years, in my opinion.

I think then a combination of target, and we do this, we have specific priority projects underway in API, even in UC and CC, to improve our cost structure and make us more efficient, but also open up more profitable TAM opportunities that build out our capability. That's why we're so focused over the next 18 months on product..

Our next question comes from the line of Timothy Horan with Oppenheimer..

This is Noah Herman on for Tim.

Do you see Twilio as a major competitor? And how would you characterize your growth compared to them?.

Sure. As I talked about competitors always, and Jay can add a little bit of color because he's always in the field, but I spend a lot of time with customers and partners to get feedback. Sure, there's the set of usual suspects that are out there that pop up here and there. And they're important, and we need to understand what they're doing.

But it's such a big market, the key for us is to really focus on that customer. If we understand that customer better than anyone else -- and when companies get bigger and to get more diverse, they tend to have trouble focusing. I think we have an opportunity to be laser-focused on this opportunity in front of us.

And with this customer-first mentality, I think understanding it out, we can find the seams, the veins where we can grow at a disproportional rate. We're not going to try and be everything to everyone. We're going to try and create differentiated value in those areas that really create our ability to gain more share.

And I think that's a really key concept when you think about our transformation. About halfway through it, we've made a lot of progress. I think this market is very big. The winners and losers aren't set. Sure, there's competitors out there in all areas, and there'll be different ones next year and the year after.

For us, it's about really understanding how we can build it. And we've basically gotten the business pretty much back in balance now. And now it can scale more efficiently because it's got the right structure, the right set of capabilities, and we're moving in the right direction.

Hey, it's a work in progress, but we like where we've gotten to in 12 months. Let's see where we get to in the next 12 months. We want a culture that does what it says and owns what it does. And that's fundamental. I think competitors, interesting. Customers, way more important.

Jay, any thoughts you want to add on that one?.

Rory, just two quick points I would add in terms of, Noah, what's the differentiator. It's all about the customer experience, right? We know many of these customers are on their digital transformation journeys. And in the end, there are 2 things. One is that industry and domain expertise.

Knowing those industries, we talked earlier about health care, education, financial services. Having that industry insight is valuable. And to combine that also from a country and regional perspective, we know the countries.

We have great diversity, as we've talked throughout the call, and we know what it takes to be successful in these countries, whether it be regional compliance, security, I mentioned RMZ in Japan earlier.

And those are 2 differentiating qualities, and there's more, but those are 2 I would just highlight as to how we compete against our competitors and why we win..

There are no further questions in the queue. I'd like to hand the call back to management for closing remarks..

I want to thank everyone for joining today. As I mentioned, we're on a journey here. We've made good progress over the first 12 months and on the strategic pivot. This is a work in progress. We're going to listen to our customers. We're going to focus on their success. And I just want to thank again our passionate Vonage team members around the world.

You're making a huge difference for our customers, and I truly appreciate it. We have work to do, so we're going to end the call with that and get on to the work in front of us.

So Hunter, any final comments?.

That's it, Rory. Thank you, and we look forward to seeing many of you out on the road this summer..

Great. Thank you, everyone. Have a great day..

Ladies and gentlemen, this does conclude today's teleconference. Thank you for your participation. You may disconnect your lines at this time, and have a wonderful day..