Ladies and gentlemen, thank you for standing by, and welcome to Instructure's Second Quarter 2023 Earnings Call. At this time, all participants are in a listen-only mode. After the speakers' presentation, there will be a question-and-answer session. Please be advised that this conference is being recorded.

I would now like to turn the conference over to your first speaker David Banks, Vice President, Investor Relations. David, please go ahead..

Thank you, Josh. Good afternoon and welcome to Instructure's Q2 '23 Earnings Conference Call. We will discuss results announced in our press release issued after market close today. With me are Instructure's Chief Executive Officer, Steve Daly; and Chief Financial Officer, Dale Bowen.

Before we begin, I'd like to remind you that today's conference call will include forward-looking statements based on the company's current expectations. These forward-looking statements are subject to a number of significant risks and uncertainties and our results may differ materially.

For a discussion of factors that could affect our future financial results and business, please refer to the disclosure in today's earnings release and other reports and filings we've made from time to time with the Securities and Exchange Commission.

All our statements are made as of today, July 31 based on information available to us today, and except as required by law, we assume no obligation to update any such statements. During the call, we will also refer to both GAAP and non-GAAP financial measures.

You can find the reconciliation of our GAAP to non-GAAP measures included in our press release, which is posted in the Investor Relations section of our website. With that, let me turn the call over to Steve..

Thanks, David. I'm delighted to welcome everyone to Instructure's Q2 2023 earnings call. During today's call, Dale and I will share the details of our Q2 results and provide guidance for Q3 and the full year of 2023.

Q2 results exceeded our previously committed guidance range for our revenue and adjusted EBITDA fueled by our efficient go to market organization and an unyielding dedication to customer's satisfaction. Q2 revenue was $131.1 million, up 14.4% year-over-year impacted by a constant currency headwind of 160 basis points.

Q2 adjusted EBITDA grew 29% year-over-year to $51.3 million, driving a 39.1% margin. We believe the strength of our Q2 performance demonstrates the effectiveness of our business model. Before we delve into highlights from the second quarter, I want to provide some takeaways from our InstructureCon Conference that took place in Denver a few days ago.

The first such event we held in person since 2019. We had nearly 2,000 customers, over 100 partners and more than 2,300 attendees at this sold-out event. It was gratifying to find the Instructure community is as vibrant as ever.

We unveiled enhanced and expanded Instructure Learning Platform innovation centered around core teaching and learning, advanced analytics, lifelong learning and platform integration. We believe these new solutions will save educators time, personalize learning experiences for students and simplify complex tasks for administrators.

We also previewed some of our AI strategies and are excited by the feedback from our customers as we move forward with that. Now, I will share highlights from the quarter including four key drivers, strong new logo sales, cross-sell uplift, the power of our platform strategy and how we are leveraging our business model.

First, our new logo win rates remained strong across all of our markets. Success there is driven by our ability to solve real-world challenges across the teaching and learning landscape. Our focus on lifelong learning and vocational training resulted in win with Duke University.

Duke made a significant investment in the entire Instructure learning platform with the implementations of Canvas LMS, Impact, Canvas Studio and Canvas Credentials. Duke's Office of Teaching and Learning spearheaded this transition to bolster their ambition of being a frontrunner in lifelong non-traditional education.

We now serve all of the top 10 universities in the United States with Canvas. Also in North American higher ed, we had a significant win with Ohio University. After 20-plus years on a legacy provider, OU chose Canvas for a 10-year contract.

We won because of the strength of that Canvas community, our presence in other flagship institutions in Ohio, our overall market leadership and our ability to deliver a value-based comprehensive solution. In North American K-12, our platform continues to support our market-leading position.

The green shoots we mentioned during our last quarterly call resulted in strong bookings in Q2 as K-12 decision-makers continued to recognize our products as mission-critical. Cincinnati Public Schools joined the Canvas University in the quarter.

A long-time user of a competitive solution, Cincinnati ran a lengthy process seeking feedback from parents, teachers and students. Their strategy was to implement a new LMS that would deliver the best in breed results. Canvas was far and away the winner as our LMS clearly matched the district's innovative approach to education.

Our reputation for consistent uptime, [Indiscernible] feature releases, unmatched service and support and unrivaled student experience allowed to confidently displace an incumbent provider with Canvas.

Among the new international deals in Q2, we secured a direct win with University for Continuing Education Krems in Austria, the leading public university for continuing education in Europe.

Krems serves the changing demographic with an increasing average retirement age and a skilled gap between the workforce and graduates as our Canvas is a way to address the needs of their student population allowing them to serve both traditional and non-traditional students.

Similar to other institutions in Europe, Krems has strict privacy standards that must be met by their partners. Our global privacy strategy centers on safeguarding student data and reducing our customers' regulatory [Indiscernible], allows Krems to comply with rigorous privacy standards in the region.

It's gratifying to see our customers responding positively to our unwavering dedication to privacy. Second, we continue to drive growth with existing customers, both through cross-sell and up-sell where we see a $1 billion-plus opportunity.

Internationally, we secured meaningful up-sell with global growth, one of the largest registered training organizations or RTOs in Europe, making them our largest customer by user number in Europe. This also demonstrates our ability to serve the needs of non-traditional learning institutions.

Cross-sell is fueled by deals such as Charlotte-Mecklenburg Schools, a long-time Canvas and MasteryConnect customers. After multi-vendor evaluation, the district chose our assessment content because of the rigor and accuracy of the solution that gives better insight into student growth.

This further validates our platform strategy and the strength of our suite of products. This platform strategy, our third key driver drives on innovation and partnerships.

During InstructureCon, Shiren Vijiasingam, our Chief Product Officer provided a glimpse into many new product initiatives designed to shift the education paradigm, enhance future efficiency and faster student success.

Among the most important partner-driven deals in the quarter, we won a contract with one of the preeminent technology companies in the world that wanted to conduct research to prove the efficacy of handheld devices. We created a proposal that examined the impact of map intervention of our student outcomes to teacher outcomes.

In addition to expanding a great partnership with the large technology business the win also [Indiscernible] retention of large districts that are looking to participate in research and we are thinking big about partnerships.

Also at InstructureCon, we announced that we are teaming with Khan Academy bringing together our structured learning platform with Khan AI-powered student-tutor teaching assistant Khanmigo.

Through this partnership, we are offering world-class content from Khan Academy with the industry's most widely used commercial LMS, leveraging generative AI to empower educators to meet students where they are in their educational journey. We are committed to bringing AI to the teaching and learning process with [intent, safety and equity] (ph).

To that end, we also announced the emerging AI marketplace last week, which gives the educator visibility and access to the AI solutions that are integrated into the Instructure learning platform.

We are working with our customers to define privacy and security standards to ensure AI solutions are safe and each partner in the marketplace is committed [within standards] (ph). In just the last two years, we have nearly doubled our partner base.

Truly our investment in the Instructure Learning Platform gives our customers access to innovation across the [entire] (ph) landscape.

And finally, our results are indicative of our ability to drive leverage in the business, because of our disciplined investments we've been able to deliver best-in-class margins that in turn allow us to invest in our platform and drive long-term durable growth.

Our business model permits us to continue driving strong top-line results without sacrificing margins and profitability. As evidence of this, we saw record renewals in Q2 as customers that came on during COVID-19 pandemic began to see value in a more normalized environment.

With adjusted gross margins approaching 80% and adjusted EBITDA margin of nearly 40%, we expect to continue to produce free cash flow that will allow us to reinvest both organically and through M&A to drive long-term durable growth.

In conclusion, we believe our impressive future results and expanding impact on education position us as the clear leader in the education technology space, and we look forward to the opportunity to continue to drive value for our customers and shareholders in the months and years ahead.

Now, I will turn it over to Dale to provide further details on our Q2 financial performance and guidance for Q3 and the full year 2023. Dale, please go ahead..

Thank you, Steve, and thanks again to everyone for joining us today. Before discussing our detailed financial results, I'd like to point out that in addition to our GAAP results, I will be discussing certain non-GAAP results.

Our GAAP financial results along with a reconciliation between GAAP and non-GAAP results should be found in our earnings release, which is posted in the Investor Relations section of our website. In Q2, we continue to show the company's strong top-line growth and best-in-class adjusted EBITDA margin.

As Steve mentioned, we generated total GAAP revenue of $131.1 million. Subscription and support accounted for 90% of our Q2 revenue at $118.6 million, up 15% year-over-year driven by healthy growth across all of our key markets with particular emphasis in K-12 and with the cross-sell.

Professional services and other revenue accounted for 10% of our Q2 revenue at $12.5 million, up 7% year-over-year. Deferred revenue at the end of Q2 was $330.7 million up 17% year-over-year. We ended Q2 with Remaining Performance Obligation or RPO up $853.6 billion, up 9% year-over-year.

We expect to recognize revenue on approximately 73% of our RPO over the next 24 months. 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.

Our strong gross profit margin profile was supported by our optimized cloud architecture and flexible support model that scales to meet seasonal customer demand. In Q2, gross profit was $104.1 million representing a 79.5% gross margin, up from 77.6% in Q2 of last year. Turning now to operating expense.

Sales and marketing expenses for Q2 were $27.6 million or 21% of revenue, down slightly from 21.5% of revenue in Q2 of 2022. Research and development expenses for Q2 was $16.6 million or 13% of revenue compared to 14% in Q2 of 2022. General and administrative expenses for Q2 were $9.8 million or 8% of revenue down from 9% in Q2 of last year.

Non-GAAP operating income for Q2 was $50.2 million, representing a 38.3% operating margin, up from 33.7% in Q2 of 2022. Q2 adjusted EBITDA margin was $51.3 million, representing a 39.1% adjusted EBITDA margin, up from 34.6% in Q2 of last year.

Non-GAAP net income was $28 million in Q2 or $0.19 per share compared with $23.8 million or $0.17 per share a year ago. Turning to the balance sheet and cash flow statements.

We ended Q2 with $129.8 million in cash, cash equivalents and restricted cash and $488.4 million of long-term debt, net of discount resulting in a 1.83 times net debt to trailing 12-month adjusted EBITDA ratio. Free cash flow for the quarter was $23.5 million compared to $6.6 million in the prior year, up more than 250%.

Adjusted unlevered free cash flow which adjusts for the impact of transaction costs, sponsor costs, impaired leases and other non-recurring costs paid in cash was $37.1 million, 129% year-over-year from $16.2 million in the year-ago quarter. Note that our free cash flow was quite strong this quarter due chiefly to accelerating collections.

We expect that things will normalize as we move through the balance of the year. I'll now conclude the call by providing guidance for Q3 and the full year of 2023 for revenue and adjusted EBITDA. We have provided additional guidance details to our earnings press -- in our earnings press release.

For the third quarter of fiscal 2023, we expect revenue in the range of $132 million to $133 million. For the full year, we expect revenue to be in the range of $524 million to $528 million, up $2.9 million at the midpoint compared with the annual guidance that we provided in May.

We expect Q3 adjusted EBITDA in the range of $52.5 million to $53.5 million, representing an adjusted EBITDA margin of 38.8% at the midpoint. For the full year, we expect adjusted EBITDA in the range of $203.5 million to $207.5 million, representing an adjusted EBITDA margin of 39% at the midpoint.

For the full year, we expect adjusted unlevered free cash flow to be in the range of $207 million to $211 million. For adjusted unlevered free cash flow margin of 39.7% at the midpoint. In summary, we believe that our first-half results put us in great position to drive an even better 2023 than originally expected.

We executed at a very high level, exceeding our guidance and continuing to deliver a rare combination of double-digit growth and best-in-class margin. We couldn't be more pleased about our momentum in the marketplace and look forward to updating you on our progress throughout 2023. With that, Steve and I are happy to take any of your questions..

[Operator Instructions] Your first question comes from the line of Josh Baer with Morgan Stanley. Your line is open..

Great. Thanks for the question and congrats on a strong quarter. I was hoping to get an updated view on growth expectations across K-12, higher ed and international, sometimes you give kind of ranges there.

And I wanted to ask, just to get also a sense for the gross margins or EBITDA margins or contribution margins across those segments, thinking about how to assess the impacts from mix shift presumably to faster-growing international maybe to K-12 how that could impact margins too? Thanks..

Yes. Thanks, Josh, and appreciate the question. We have provided some growth expectations in general terms for North America K-12 and North America Higher Ed to be in the high single digits, and international to be in the low double digits. And that's how we look at the business moving forward.

Now in terms of margins, we've not broken our margins by any of those different segments that we've talked about. However, I will say that we're very confident in our operating model that we can get very good and positive contribution margins in each of the areas where we're [Indiscernible]..

Josh, we've made investments for instance in our channel program that were negative margins frankly as we began making those investments and we've still been able to improve our margins in the process. So that's the model that we're taking is that we'll continue to see those improvements even as we see the mix shift between those..

Okay, that's helpful. Thanks. And then, any change in the competitive landscape across those end markets or is it the same story? Thank you..

Yes, we're seeing similar competitive dynamics across K-12, higher ed and international. So no change there, Josh..

Your next question comes from the line of Steve Enders with Citi. Your line is open..

Okay, great. Thanks for taking the question here.

I guess I did want to start on asking about takeaways from the conference, and I know there are a lot of product announcements, but I guess what's kind of in the early feedback on some of the AI initiatives from the customers that you've talked to, and I guess how should we be thinking about the potential for that to layer into the model here over the next few years?.

Yes, it was good to see you there, Steve. We are -- well, the feedback was generally very positive. So we had taken time before – [Indiscernible] the last 18 months we've worked with some customer user groups, we were very pragmatic and really spent time with them understanding where were areas that they'd like us to make investments.

And so, investments like using artificial intelligence to help create pages within Canvas that create an experience using AI, use language -- regular language to do that, it was very well received, and some of the stuff that we showed in the last, in the educational moments in the future room, they were very, very excited about, [all the] (ph) search being one of those some of the things we did recognizing sentiment within a remote environment as well as some of the other pieces that we highlighted.

We had a lot of sign-ups, if you will, or customers that want to be part of the early adopter program as we work through some details on these. So, in general, very positive.

I'd say, it's still early days as far as what impact this is going to have on the business model long-term and we're working through those with our customers as we work to understand which of this functionality, the value that is bringing results and changes in pricing or what the cost structure looks like.

So it's a little early to be building anything into the models, Steven..

Perfect. No, that's helpful there. I guess the follow-up -- it's good renewal activity and good bookings here in the quarter.

How are you feeling about the kind of current budget environment and kind of what's the view in to pipeline opportunity going into 3Q?.

Yes, we feel good about where our pipeline sits going into the second half. I would say, you've read all the headlines about some of the challenges that higher ed is facing, what we're finding is, in general, those -- we help them deal with a lot of those challenges so we feel it's a good long-term backdrop for us.

And so, things like better consolidation that we're starting to see happen, customers have told us that they want to standardize around a few strategic platforms, ours being one of those, the work that we've been investing in over the last two years to really ensure that we give solutions to address non-traditional students, the work that we've done to really go after those non-traditional education institutions, all are good backdrops for us for long-term durable growth.

So we feel good about where we're sitting, going into the second half as well as really long-term in the growth perspective..

Okay, perfect. Thanks for taking the questions..

Thanks, Steve..

Your next question comes from the line of Fred Havemeyer with Macquarie. Your line is open..

Thank you very much and congratulations on the quarter. I think I would like to just begin by asking a little bit about international as well too. Just generally -- certainly we saw and you highlighted the Austria win.

Just how do you think about that opportunity going into and throughout the balance of this year of course into next year, just how far along do you feel you are with your international partner go-to-market program and just how confident are you in the international opportunities?.

Yes, I think it's a good question, Fred. We feel really good about our positioning for international.

So as we highlighted in the script, the wins with Krems was in Austria, part of the value proposition that we bring to particularly our European customers, but even across the board is the work that we've done really to put in a very robust privacy and security framework.

And so we feel good that demonstrates the value of those, particularly when you're dealing with some of the regulatory environments, each of the regions this is dealing with. So we feel good about there [Indiscernible] is still 70% of the market there.

We believe in the opportunity to continue to grow, it's our fastest grower, and that we can drive big business over time. So still feel similar to that as we talked about in the past Fred about the opportunity there and particularly about our position to be able to win.

Channel investment is still continuing, and we're starting to see some progress in the channel, but again that's probably something that occurs a little bit later in time as far as having a meaningful impact on the top-line..

Thank you, there. I think as another one, just we've seen Canvas is performing well, your product is absolutely solid, but of course you've been building a broader portfolio of solutions too.

So I'm curious if you could add a little more context also and just where you're seeing adoption outside of core Canvas solutions and how that's trending throughout this year?.

Yes. So we saw particular success in K-12 with assessments, so the Mastery branded products, whether it's the MasteryConnect, the assessment management system or the content that drives along with that.

So good quarter from that perspective, we're seeing a lot of pickup with our catalog and credentials as we help either higher ed institutions, address the non-traditional or as we go to -- we go after some of those non-traditional verse RTO organizations, like we talked about in the script.

So, those two have been particularly successful from a cross-selling perspective, those two areas. And then we are seeing good success with our LearnPlatform acquisition.

So from the ability to sell both sides of the network, either the educational institution as well as selling services to the partners and providers has been -- it's met our expectations and the pipeline has grown nearly doubled since we did the acquisition. So we're feeling good..

Thank you very much..

Thanks, Fred..

Your next question comes from the line of Stephen Sheldon with William Blair. Your line is open..

Hi, guys. Thanks for taking my questions.

First one here, just great to see renewal trends supporting the step up in RPO, so if you went through this heavy renewal period, did anything surprised you either positively or negatively in terms of things like renewal rates, deal lengths, pricing, up-sell and et cetera, are there any trends that you saw consistently such as maybe longer term or longer duration contract renewals.

Just any detail on the renewal activity?.

Yes, thanks for pointing out the RPO, Stephen. We're really pleased with it, what we did call out is simply the historic number for us on our P&L and we're really pleased with the renewables.

So, I would say, the one constant thing we're seeing out of this group is that we have a lot of customers come on board three years ago in the beginning stages of the pandemic and finding value still today with learning platform and they're building around the learning platform.

And so very, very high retention rate, we are seeing some deal length - contract length extending mainly in the higher ed space. And the other thing I would say those renewals are now coming with additional products that we have at our portfolio. So really good things coming out of a strong quarter we just closed..

Good to hear. I appreciate that. As a follow-up, it seems like there's a lot of focus at the user conference last week on credentialing and higher ed, it looks like that was included in the Duke win.

So how frequently are you seeing that being included in conversations with new and existing higher ed customers? Is this going to be something that practically every university will need to be thinking about to be relevant over the medium-term in your view and what could that mean for your financial opportunity with these types of solutions?.

Yes, this is a conversation that we're having with almost every institution, right. They're looking at how do they meet the needs of the workforce in the future and how they demonstrate skills along the way rather than just pointing to a diploma at the end of their educational journey.

So, it is absolutely a point of conversation, it's in almost every conversation that we're having from a selling perspective.

It is my belief that over time, every institution will have to figure out how to deal with this and the customer panels not just the one that we have together, but also others are kind of confirming that this really is an opportunity for higher education to really ensure that enrollments go up and they're addressing the skills-based economy going forward..

Great. Thank you. Nice color..

Your next question comes from the line of Joe Vruwink with Baird. Your line is open..

Great. Hi, everyone.

Maybe I'll go back quickly to the last discussion on RPO, is it possible to translate what you just saw in terms of financial metric like net retention rates and maybe how the recent renewal cohorts are evolving relative to I think you've talked about 105% to 110% in the past, is that changing for better or worse just in terms of your recent activity?.

I would say, Joe, that RPO number is really noisy. And the main driver for that is the multiyear engagement business with our customers. And so I don't know that I would over index on that particular number as it translates to any of the metrics. I would say this though. We have - in this quarter, we saw really good growth in deferred revenue.

We saw good growth in our RPO, and we had really good bookings growth. On the NRR, there's couple of things that you would also probably point to which would be some of the growth that we saw with Duke adding other products to it, the price increase. So that does come through in the NRR number..

I think, Joe, I would - I don't - I think it would be tough to read through on the RPO number to extrapolate what NRR is going to be. We're still holding to our guidance on NRR, where we think that's going to be end of the year..

Okay, that's helpful.

And then I wanted to ask about guidance, so it looks like the forecast for the second half of the year entails revenue growth dipping into the high single digits range, how much of that is just reflecting some of the bookings trends you were discussing in the latter part of last year? And then on the flip side, as I just look at this quarter's RPO number and think about maybe RPO billings, it does seem like there has been an improvement in growth rates kind of back to the low double-digit range, is this all maybe just a matter of the timing of when RPO gets deployed and low-double digits is feasibly a better expectation, but maybe the earlier part of next year?.

Joe, so the second half growth really follows the guidance that we provide, so that really follows the normal seasonal pattern that we see, it aligns to North America's fall start school systems where we have most of the revenues are built into our plan, but we always provide guidance that we're confident in delivering and the stable customer base gives us that confidence that we can get percent of that..

And we'll guide to 2024 numbers in our Q4 call, Joe..

Okay, fair enough. Thank you..

Your next question comes from the line of Brian Peterson with Raymond James. Your line is open..

Hi, gentlemen. Congrats on the quarter, it was great to see you last week. So on Q1, the cross-sell that you guys referenced this quarter.

So just on the cadence, I'd love to understand if that's more of a renewal dynamic and you're seeing that as part of contracts coming up or is that actually happening kind of outside of that traditional negotiation cycle maybe with it outside of the RFPs. I'd love to maybe unpack that a little bit..

Yes, Brian, I mean, it's a little bit tough to kind of break it out because we -- this is our the kind of June, July, August timeframes are our biggest renewal months and we did see good cross-sell motion in this quarter. So, yes, that helps. It's always good to intercept renewal when it comes to cross-sell.

We don't -- while we still do cross-sell outside of renewal cycles. So it isn't tied necessarily to the renewal, but absolutely the renewal helps when it comes to being able to intercept budgets and things like that if that makes sense..

Understood. Maybe just a follow-up. No, it does.

But I guess maybe for Dale, as we're thinking about cross-sell in some of the newer products, how do we think about like a $1 book to $1 going live for revenue, is that much shorter than the LMS or does it matter byproduct, I'd love to just understand as we think about the diversification of the bookings stream, how does that flow into revenue? Thanks guys..

Yes, it's a good question.

What we're finding is that if we're able to capture it with a solution for a customer that has an issue and show them value in our products, they will buy it prior to a contract renewal, and we see that with some of the products we have in like -- with LP products are a good example of that, Impact is a really good example of that.

And then what happens, Brian, is that usually we see ourselves at the time of renewal where they expand that to a large part of their student base. So it happens all the time, and so as far as we can after looking when that's going to start because it just happens all the time based upon the customers' needs..

Understood. Thanks guys..

Your next question comes from the line of Terry Tillman with Truist Securities. Your line is open..

Hi, Steve, Dale and David, not to worry. I've got some questions left. So you're not getting out of the set simple, I know credentials and catalog has been asked like four times, but I thought I'd ask a fifth time. I was -- when I was talking to customers just on an ad hoc basis at the conference.

It actually was coming up regularly and have attended your conferences for many years whether virtually or in person.

And I'm curious the credentials in catalog, how do they stack up now in terms of kind of the mix of new bookings coming from those add-on products versus maybe some of the other products and it's basically just kind of related to that where are we in the adoption cycle for those two modules because it was coming up on a pervasive way? Thank you.

And then I have a follow-up..

Terry, we don't break out between the different products as far as percentage of bookings that kind of thing. But to your point, it is top of mind for most institutions, we are still early days. So a lot of conversations, lot of strategy, some pilot -- our customers rolling out pilots, sounds like Duke that are committing to it right up front.

But from a revenue contribution perspective, it's still pretty small contribution, we're still kind of early innings..

Okay, got it. Understood. And I guess just the follow-up question is, it was striking in terms of the commentary in the narrative around lifelong learning, you all talked about now over a couple of quarters some of these non-traditional kind of educational institutions and where it's kind of like reskilling opportunities.

What I'm curious about is where are we in terms of how much that's starting to kind of shakeout in the pipeline of some of this kind of more emerging kind of business because I'm not suggesting we're going to have a new segmentation and another segment Dale doesn't want to have to deal with that, but how much is this starting to proliferate the new deal activity, these deals that are outside of the traditional for your academic institutions?.

We don't break that out again, Terry, as far as that level of detail, but I mean we've been intentional as we've included these deals in our transcripts for the last several quarters because we are seeing a lot more activity in this RPO further education, those non-traditional education institutions.

So we do believe that's a -- it'll be a long-term driver for growth for us, right, it'll be an important offset for existing customers as far as enrollments go and it will be a driver for upsell or cross-sell over the long-term.

But again on both sides of those, whether it's existing institutions getting traditional institutions or non-traditional, we're still early innings as far as its contribution to our overall results..

Got it.

And I guess though on that kind of emerging part of the business, does crystal ball need to do anything different with go-to-market or do existing sales reps kind of get opportunistically on those deals, anything you can share about like the go-to-market if it needs to be any different?.

Yes, that's a great question. We do believe that we have not -- we can go faster if we put dedicated reps on that non-traditional learner group, it does require a little bit different messaging, positioning, packaging those type of things. So historically we have addressed those with our existing higher-ed sales team.

Over time, we think that'll segment out from a selling perspective..

Thanks for taking my questions..

Thanks, Derek. That was only three questions this time..

Your next question comes from the line of Matt VanVliet with BTIG. Your line is open..

All right, thanks for taking the question guys. Nice job on the quarter.

I guess when you look at some of the conversations with prospective customers, how much, especially, in higher ed is starting maybe to be driven by some of these credentialing or non-traditional components as they are looking at using technology to really kind of jump into that environment and then you're going to follow up on what may be the more traditional canvas LMS deals or is it still almost all driven by at least LMS being a major part of it?.

Yes, it's interesting that because there is the non-traditional is definitely an interest point within the selling process in most institutions that we're talking to.

The other big trend that's kind of related to this is that institutions are recognizing that historically the way they've tried to go after these is with a -- maybe it's continuing education team.

We're just separate from the team that's worried about how does the on-campus experience look, and what they're recognizing is, they want one platform to drive across all modalities, right, and all -- we call it, omnichannel, right, they want one experience whether you come on-campus full time or whether you're fully remote or you're doing this to re-skill or you're coming for a degree or you just have credentials.

So that's the bigger driver of the discussions. And then the use of catalog which is organically built into the Canvas platform with the addition of Credentialing, those things are the natural progression of the sales as far as, okay, you need these in order to address that part of your overall platform strategy, if that makes sense..

That's very helpful. Yes, no, that's great.

And then maybe one more on this topic, obviously it was very, very front and center at the conference and has been for a little while in your commentary, but have you done much work internally or that you'd be willing to share in terms of how much sort of addressable market expansion all of this provides or is some of this may be offsetting potential other declining factors in particularly higher ed and it's a good backfill, but maybe not as additive as it seems at the moment?.

Yes, we think this is a big opportunity for us as far as the number of addressable students and the revenue drivers. So we've sized the non-traditional space, it's about $5 billion market opportunity.

Some of that is included in our calculation of the existing $1 billion cross-sell that we've shared with you in the past, but a lot of that is incremental and much bigger than the kind of traditional LMS market. So we don't -- we believe it will be a grower -- long-term durable growth versus a replacement for declining revenues in other places..

All right, great. Thank you for taking my questions..

Thanks, Matt..

Your next question comes from the line of Devin Au with KeyBanc Capital Markets. Your line is open..

Great. Thanks for taking my question. The first one I have is, congrats on the new lands at Duke and Ohio and definitely encouraged to see, you're adding larger multiple product attached, also I don't think you've provided multiple new wins in U.S. higher ed in the prepared remarks for quite some time.

So just wanted to maybe double-click on the strength in that market specifically, do you attribute the strength there just from overall increasing priority from these institutions looking to add more solutions or would you attribute the strength to just overall better execution from your side?.

Yes, I think we tend to do very well in North American higher ed, particularly in the enterprise segment of that market and so we have had some good big wins over the last several quarters. This is just continuing on that momentum.

And it's been a -- it's a part of the market that we started and it's part of market where we have 44% market share now in terms of enrollments.

And so what we're seeing is in those discussions is our position in the market, our lighthouse accounts and references that we can bring to the table the fact that we have a scalable platform that has scaled up rapidly during the pandemic and that they can rely on it to scale to their needs.

Those are all coming into decision factors in addition to just around a typical feature function sort of discussion.

The other thing that we are seeing is that many of these institutions are either, as I talked about earlier, trying to one a single platform for across all the different opportunities that they have to reach this, but also that they are trying to -- really trying to now that they've gone through that explosion happened during pandemic trying to consolidate around a few strategic vendors, and that's pending in our favor, particularly as we are able to not only offer the LMS but also as was noted in the win to do quick credentialing and catalog and those other consists across those.

So it really is a continuation of the strength that we've seen with our position within North America higher ed..

That's great to hear and thanks for the details.

One quick follow-up I have is just on the gross margin in the quarter, really impressive 79.5%, any additional color you can offer on what drove the higher margin there and should we expect gross margin to go higher end of the year?.

It's a good question. So, Devin, we're really pleased with the gross margin figures that we had in Q2 and this is part of just our regular model of expanding margins over time. However, I would say that Q2, we did see some higher margins driven partly by timing of some revenue.

However, we expect that future quarters normalize back to that steady consistent expansion that we've seen over the last eight quarters. So it will be clear we have set long-term targets to have our gross margin in that percent and we're making progress..

Your next question comes from the line of Ryan MacDonald with Needham and Company. Your line is open..

Hi, thanks for taking my questions. I wanted to start on the K-12 space, last week at the conference, there was quite a bit of interest in demand for the LearnPlatform functionality now that you're rolling that in and integrating that in for customers. Just curious as you think about -- how you think about the cross-sell opportunity there.

And then given the demand in the K-12 funding for more analytical solutions, is there an opportunity to lead with those types of assets and then sort of put your -- get your foot in the door and then sort of cross-sell in LMS over time? Thanks..

Yes. Let me start with the first question about cross-selling LearnPlatform. So LearnPlatform as we did when we did the acquisition earlier this year, right, what we recognized was that K-12 was dealing with a massive ecosystem of ed tech providers. So they're looking for help in rationalizing what's working, what's not working in those environments.

So we really have two sides of the network with LearnPlatform. One is the schools and districts, the state education authorities, they are looking at it as a tool to really drive questions of what's being used, how firms are being used as well as what's being used in the environment doing what they claim to do.

Likewise, on the other side of the network is the providers and they are also wanting to understand it and demonstrate that what they're providing is working, right, and getting the outcomes that they are trying forward.

So we do think that this is going to be a great cross-sell opportunities on both sides of those networks, right, which district and state level we're seeing good pipeline build, we're seeing good integration points with Canvas.

We announced that the overall usage reports will be integrated into Canvas for free so they can start to see some of that data and we expect that to drive a lot of interest and continue generate lead-gen for us to go sell and cross-sell the full-grown product.

We're seeing really rapid pipeline build and great success selling to providers as well that evidence as a service is growing, the pipeline is growing pretty dramatically.

So to your first question, yes, it absolutely is a key driver for us and we believe it's going to -- we're reaching a point where it's going to be really important for districts and we think it will be big growth driver for us in the future.

On the analytics side, we drive with a platform strategy when we dropped -- when we have these conversations with the -- with our customers and our prospects. And so, yes, this is a key part of that landing strategy for us, we think that it's a key differentiator against our competitors in this space and we'll continue to use it like that.

But again with the idea that this is about a platform and a platform for teaching and learning that they're willing to do. So I think the answer to your second part of your question, yes, it can be a good part of our land strategy in addition to the expand part of our cross-sell..

Thanks a lot. And maybe just one follow-up just on the international partner channel, obviously you started to see some success with that and with some deals in Asia Pac, last quarter, just curious how that is progressing as sort of the pipeline builds for the international solutions there? Thanks..

Yes, we are seeing pretty good pipeline build where we're focused on the channel partners that we believe are going to be our best bet in those space, we are training them up, we are helping them with lead generation, we're helping them with deployments. So we're very optimistic about the progress we're making there.

Again, we'll probably see that benefit start to really for next year as those investments pay off and as we ramp those channel partners. But good progress, particularly in some of the Asian geographies. But Latin America is where we see the most success with our partners..

Excellent. Thanks for taking my questions..

Thanks, Ryan..

Your next question comes from the line of Noah Herman with JPMorgan. Your line is open..

Hi, guys. Thanks for taking our questions. For the first one, have you seen any change in the pace of consolidation compared to what maybe you've seen before in the last year or so at the higher ed or K-12 level? Thanks..

Yes, I would say in the last year or year or so more of the conversations have been about how do I get a common platform across each of the modalities. There is some continuing education department versus the in-person traditional campus experience. So, yes, those conversations have been more common.

I would say, the bigger conversations around better consolidation and what can -- how do we reduce the number of suppliers, those are fairly new for us, those are in the last quarter or two is where those started to happen more and more..

Got it. And then just a quick follow-up.

As some of these new features are being layered more into the platform, do you see any reason to change the sales compensation structure going forward as part of the go-to-market strategy?.

We play -- we've changed the comp model -- each year things get tweaked on it, I don't know that we'll see any major comp changes that happened in the coming years as far as how we compensate, for instance, new features and you are really talking about cross-sell and some of the products that layer on top of Canvas I think in that question.

So we do have in the existing structure, we do have tiered comp models depending on which products and so and we do those around occasionally based on what we want to incent, fundamental structure -- there won't be massive change in our cost strategy in the future..

Got it. Thank you..

Our final question comes from the line of Brent Thill with Jefferies. Your line is open..

Hi, thanks for sneaking me in guys, it's David Lustberg on for Brent. I wanted to ask about the drilling on assessments, appreciate some of the commentary earlier. But I think last quarter you guys said it was the fastest-growing product within K-12.

I was just curious if you could provide an update on or maybe if that held true in Q2? And more broadly, how should we be thinking about the durability of growth in this offering, is it more or so with everyone catching up in assessing we're learning loss from the pandemic is, is that why maybe it's harder now and maybe it's not as durable? And on top of that, can you just remind us of the ARPU there, I think in the past you said it's maybe two to three times larger than LMS, but appreciate any color you could add there? Sorry, I know that's a lot..

Yes, no, it's great to hear from you David. This -- whether it was due to be our fastest-growing segment in K-12. From a durability of growth perspective, this is a kind of digital transformation that will happen and it's not -- some of the catalyst is learning loss.

But the idea of being able to provide a teacher with real-time feedback in the classroom of how a student is doing against those standards and there'll be tested against at the end of the year, that's something that's going to endure and having a solution in place to be able to address that is going to be just as important as it is to have a learning management system in place for digital transformation strategy.

So absolutely believe it's going to be -- it is really the driver of growth for us, it's not going to be a flash in the band and it's going to be important part of any digital transformation strategy and the platform that supports it.

You're right, if they buy the whole stack from us in the assessment space, including the content as well as the assessment management system, then it could be 2 to 3 times the average selling price of Canvas implementation.

So it does create for us a long-term growth opportunity, we're still low penetration, low double-digit penetration into the existing base with our assessment solutions. So there's still a lot of room to grow from that perspective there..

Super helpful. And then maybe one follow-up before we let you guys wrap it up.

On the LMS and K-12, obviously, half of the market is still invented by using free lightweight solutions, I wanted to get your view on what's the catalyst that gets that -- these districts to really start paying for the premium LMS, is it may be that some of these just to continue to can always you free lightweight solutions or maybe some of these extra dollar start to get towards the back half of '24 use it or lose it, is that may be a good driver there and maybe again is there any percentage that you think just will forever remain unpaid?.

Yes, it is -- there is an interesting dynamic and a little bit of everything that you talked about, right.

I do think the ESSER funding is it creates a good backdrop as far as making decisions about when to start through a true digital transformation, that's really the driver for a district that wants to make an investment in commercial elements like ours or it really -- it takes time for and it takes maturity within a district to be ready for something like that.

And so, they tend to be very planful, take time, we will drive them if they want more enterprise features, right, they want that more integrations with the ecosystem, they want better visibility across the entire district not just in a classroom or in a school, they'll want better analytics for instance integrated into those solutions, all those would be kind of the drivers where they really want to take that step in their digital transformation.

So I do think, again as I said earlier, ESSER is a good backdrop for this, and we feel good about that pace of conversion from free to paid whether or not there is a portion that does ever move to an enterprise eventually everybody is going to be to at some level.

Maybe that was a school with 30 or 40 kids in it and that might not be but everybody at some point is going to need to digitally transform that experience in the classroom..

There are no further questions. I'd like to turn the call back to CEO, Steve Daly, for closing remarks..

Great, thank you. Thank you again and for the insightful questions as always. As you've heard today, we believe our commitment to innovation, customer success and disciplined investments in our platform will continue to unlock new opportunities and drive value for our customers and shareholders in the dynamic education technology landscape.

We're excited about the future and we look forward to continuing to drive the combination of top-line growth as well as profitability in the months and years to come. So, thank you for your time and participation, and I look forward to speaking with you again..

This concludes today's conference call. You may now disconnect..