Freshworks Inc. — Q1 2023 Form 10-Q
Business context and period. Freshworks provides cloud-based SaaS products for customer experience, IT service management, sales, and marketing. This unaudited filing covers the three months ended March 31, 2023, with comparison to the three months ended March 31, 2022. Amounts below are in U.S. dollars.
Financial performance and liquidity
| Metric | Q1 2023 | Q1 2022 | Change |
|---|---|---|---|
| Revenue | $137.7 million | $114.6 million | +20% |
| Gross profit / margin | $112.5 million / 82% | $92.2 million / 80% | Margin +2 percentage points |
| Operating expenses | $160.6 million | $139.4 million | +15% |
| Operating loss | $48.1 million | $47.1 million | Loss widened $1.0 million |
| Net loss | $42.7 million | $49.1 million | Loss narrowed $6.4 million |
| GAAP diluted loss per share | $0.15 | $0.18 | Improved |
| Operating cash flow | $11.5 million | $1.4 million | Improved |
| Free cash flow (non-GAAP) | $9.1 million | $(1.4) million | Improved |
Interest and other income, net increased to $9.5 million from $0.6 million, primarily reflecting higher interest income on the investment portfolio. Non-GAAP operating income was $3.9 million versus a $0.6 million loss; non-GAAP net income was $10.0 million versus a $2.1 million loss. These non-GAAP measures exclude, among other items, stock-based compensation.
At March 31, 2023, cash and cash equivalents were $344.5 million and marketable securities were $806.1 million. Total current assets were $1.291 billion and current liabilities $285.5 million. The balance sheet does not list interest-bearing borrowings; it reports operating lease liabilities with a present value of $33.4 million. Accumulated deficit was $3.5 billion. Stock-based compensation expense was $50.7 million for the quarter.
Material changes and operating indicators
- Subscription revenue rose 20% to $134.0 million; professional services revenue increased 13% to $3.7 million.
- Revenue growth included approximately $15.7 million from customers acquired during the preceding 12 months and $7.4 million from existing customers, net of contraction and churn.
- Customers contributing more than $5,000 in ARR increased to 18,441 from 15,639. Net dollar retention fell to 107% from 115%; management attributed the decline primarily to weaker expansion among existing customers amid macroeconomic pressures.
- Sales and marketing expense increased 21%, chiefly from personnel-related costs. Gross margin improved, which management attributed to scale benefits and cost-structure initiatives.
- Cash flow from financing used $12.4 million, mainly for taxes on net settlement of equity awards, compared with $120.0 million used in Q1 2022, when a large RSU settlement related to expiration of IPO lock-up agreements affected payments.
Outlook, risks, and contingencies
- Liquidity outlook: Management expects existing cash, cash equivalents, and marketable securities to cover working-capital and capital-expenditure needs for at least the next 12 months. No specific quarterly or annual revenue or earnings guidance is provided in the filing.
- Spending outlook: The company expects research and development, sales and marketing, and general and administrative expenses to rise in dollars in the foreseeable future, while generally declining as a percentage of revenue over the longer term.
- Contracted revenue: Remaining performance obligations were $325.6 million, including $220.6 million of deferred revenue and $105.0 million unbilled. The company expects to recognize $253.7 million within 12 months; it cautions that this balance is not necessarily a reliable indicator of future revenue.
- Commitments: Estimated future contractual obligations totaled $126.4 million: $33.4 million of lease commitments and $93.0 million of other commitments, primarily cloud infrastructure and service subscriptions, extending through 2025 for the latter.
- Principal risks: Management cites macroeconomic uncertainty and customer spending, lower retention or expansion, competition, foreign-exchange volatility, security and privacy risks, reliance on AWS for cloud infrastructure, and significant operations and staffing in India. Euro and British pound revenue exposure was approximately 26% in the quarter. The company entered into $22.3 million notional of foreign-exchange forwards to hedge a portion of forecast Indian rupee expenses; reported fair values and quarterly gains or losses were not material.
- Legal matters: A securities class action related to alleged IPO-document misstatements was amended on April 14, 2023; a stockholder derivative action was filed March 20, 2023. Both seek unspecified damages and other relief, and the company says it intends to defend them vigorously. Management said no currently pending legal proceeding was expected to have a material adverse impact, while noting litigation outcomes are uncertain.
- Other notable items: The company intends to issue and donate 2.85 million Class A shares to a newly formed U.S. charitable foundation, which would dilute existing holders. Its dual-class structure gives Class B shares ten votes per share; insiders and certain large holders together held approximately 89% of voting power as of March 31, 2023.
Important facts for investors to verify
- Whether the decline in net dollar retention persists and how customer expansion, churn, and new-customer growth develop.
- Whether improved gross margin and positive operating/free cash flow continue, given the GAAP operating loss and substantial stock-based compensation.
- Investment portfolio composition, liquidity, and exposure to interest-rate or credit-market changes.
- Developments and potential financial effects of the IPO-related class action and derivative litigation.
- The timing and dilution effects of the planned 2.85 million-share charitable donation, alongside equity-award dilution and concentrated voting control.