Cloudflare, Inc. Q1 FY2023 earnings

Cloudflare opened fiscal 2023 with first quarter revenue of $290.2 million, up 36.8% from $212.2 million a year earlier. New paying customers and expansion within existing accounts drove the gain. Gross profit rose 33.1% to $219.7 million, but gross margin slipped to 75.7% from 77.8%. Cost of revenue climbed on co-location and bandwidth expenses, depreciation of network equipment, and amortization of acquired developed technology and capitalized internal-use software.

The GAAP operating loss widened to $47.3 million from $40.0 million, even as operating margin improved to -16.3% from -18.9%. Net loss narrowed to $38.1 million from $41.4 million, and diluted loss per share narrowed to -$0.12 from -$0.13. Non-GAAP income from operations was $19.4 million, or 6.7% of revenue, compared with $4.9 million, or 2.3%, a year earlier. Non-GAAP net income was $27.2 million, or $0.08 per diluted share, against $3.5 million, or $0.01. Stock-based compensation and related employer payroll taxes, the largest non-GAAP adjustment, totaled $61.75 million, up from $41.8 million. That gap explains most of the difference between the GAAP and non-GAAP results.

Cash generation improved sharply. Operating cash flow was $36.4 million, up from -$35.5 million in the prior-year quarter. Capital expenditures fell 28.3% to $17.5 million. Free cash flow, a non-GAAP measure, was $13.9 million, or 5% of revenue, compared with negative $64.4 million, or 30% of revenue, a year earlier. Cash, cash equivalents, and available-for-sale securities stood at $1,715.6 million as of March 31, 2023. Deferred revenue rose 81.4% to $238.8 million, and remaining performance obligations rose 39.3% to $958.9 million. The accumulated deficit reached $878.0 million. Management said existing cash, cash equivalents, and available-for-sale securities will cover working capital and capital expenditure needs for at least the next 12 months.

Customer metrics show both expansion and strain. Paying customers totaled 168,159 as of March 31, 2023, up from a corrected 148,184 a year earlier. Customers generating more than $100,000 in annualized revenue reached 2,156, up from 1,537. Dollar-based net retention was 117%, down from 127%. International markets produced 47% of revenue, unchanged from the prior-year quarter. Management pointed to a significant lengthening of the average sales cycle, especially for expansion sales to existing customers, a significant decline in converting pipeline opportunities into new sales, and a significant increase in average days sales outstanding. The company also reported higher churn in its paying customer base and longer payment timing from some customers. Headcount grew 32% in sales and marketing, 20% in research and development, and 15% in general and administrative.

For the second quarter of fiscal 2023, Cloudflare guides to non-GAAP income from operations of $14.0 million to $15.0 million and non-GAAP net income per share of $0.07 to $0.08 on roughly 345 million weighted average shares. For the full fiscal year 2023, the company expects non-GAAP income from operations of $73.0 million to $77.0 million and non-GAAP net income per share of $0.34 to $0.35. Management said the guidance assumes the external headwinds persist through the end of the fiscal year. The risk list is long: macroeconomic uncertainty, inflation, changes in interest rates, actual or potential bank failures, recessionary concerns, the Russia-Ukraine conflict, a stronger dollar that makes products sold in U.S. dollars more expensive for non-U.S. customers, customer requests for concessions, and potential losses of paying customers. Cloudflare also carries a history of net losses and expects to keep investing heavily in its network, sales force, and product development.