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Intrinsic Value is all-important and is the only logical way to evaluate the relative attractiveness of investments and businesses.
Hello, everyone, and welcome to Zoom's Second Quarter Fiscal Year 2021 Earnings Release. This call will be recorded. At this time, I'll hand it over to Tom McCallum, Head of Investor Relations.
Thank you, Matt. Hello, everyone, and welcome to Zoom's earnings video webinar for the second quarter of fiscal 2021. Joining me today will be Zoom's Founder and CEO, Eric Yuan; and Zoom's CFO, Kelly Steckelberg.
Our earnings press release was issued today after the market closed and may be downloaded from the Investor Relations page on the zoom.com Web site. Also, on this page, you'll be able to find a copy of today's prepared remarks and a slide deck with financial highlights that along with our earnings release, including a reconciliation of GAAP to non-GAAP financial results.
During this call, we will make forward-looking statements about market size and growth strategy, our estimated and projected cost, margins, revenue, expenditures, investments, growth rates, our future financial performance, and other future events or trends, including guidance for the third quarter 2021 and full fiscal year 2021, our plans and objectives for future operations, growth initiative strategies and the impact to our business from the COVID-19 pandemic.
These statements are only predictions that are based on what we believe today and actual results may differ materially. These forward-looking statements are subject to the risks and other factors that could affect our performance and financial results, which we discussed in detail in our filings with the SEC, including today's earnings press release and our latest 10-Q. Zoom assumes no obligation to update any forward-looking statement we may make on today's webinar.
And with that, let me turn the discussion over to Eric.
Hey, Tom, thank you. Hello. I hope you are all doing well. I want to thank our customers, investors and community for their support of Zoom. Their care, feedback and trust of Zoom make a huge difference, and we grew our business from being a start-up to a [non start-up] [ph] public company to be a long-term sustainable company. We might be facing all kinds of challenges, but no matter how busy we are, no matter what challenges we are facing, we are always recharged when we think about our customers' support and become even more motivated to serve them better.
With the pandemic persisting, we are very committed to work hard and are humbled by our role of enabling communications worldwide during this challenging time. As remote work trends have accelerated during the pandemic, organizations have moved beyond addressing immediate business continuity needs to actively redefining and embracing new approaches to support a future of working anywhere, learning anywhere and connecting anywhere, and we continued to see meaningful adoption of Zoom's video-first unified communication platform across industries and geographies.
So, let me share with you just a few key metrics that reflect this. Revenue grew 355% year-over-year in Q2. Customers with more than 10 employees grew 458% year-over-year as new customers chose Zoom to be their preferred communication and collaboration solutions, and we had over 35,000 educators, school administrators, and IT professionals from around the world join our free virtual Zoom Summer Academy. The successful two-day Zoom event was our biggest educational event to date, bringing together thought leadership in remote learning, practical training and networking opportunities, and we remain committed to helping our education customers, including the more than 100,000 K-12 schools who have signed up to use the platform for free during the pandemic.
Moving on to a few recent business highlights. We completed our 90-day plan on security and privacy. A comprehensive summary of accomplishment is available on our Web site. I'm very proud of our team's swift and transparent response as well as the resulting improvements we made to our platform. Although the 90-day initiative is over, security and privacy matters will remain an important part of Zoom's strategy and DNA moving forward as we strive to maintain our customers' and other stakeholders' trust.
We also made two exciting hardware announcement in the quarter. First is the launch of Zoom Hardware as a Service, which offers customers a variety of subscription opportunities for phone and meeting room hardware from leading hardware manufacturers. This offering makes Zoom Phone and Zoom Rooms more accessible by minimizing friction around hardware procurement. Second is Zoom for Home, our new innovative category of software experience and hardware device partnerships to support remote work use cases. We launched this program with our partner DTEN in July, and this month, we announced its expansion to Amazon, Facebook and Google devices.
We also achieved significant accomplishments for Zoom Phone. In mid-June, Zoom Phone was authorized under the FedRAMP, enabling federal agencies to consolidate their costly, legacy telephony systems onto our unified modern cloud solutions. This month, we expanded the availability of Zoom Phone service to 25 additional countries and territories. Zoom now provides local telephone service and domestic calling in more than 40 countries and territories.
On a final note, we welcome our new CISO, Jason Lee, former SVP of Security Operations at Salesforce, and our new General Counsel, Jeff True, former EVP and General Counsel at Palo Alto Networks. We are very excited to have them.
Now let's talk about some exciting wins in the quarter. Let me start with a couple of new customers that represent some of the largest companies in their industry. First, we are thrilled to welcome ExxonMobil, one of the largest publicly traded international energy companies, to the Zoom family. ExxonMobil develops and applies next-generation technologies to help safely and responsibly meet the world's growing needs for energy and chemical products. They recently used their scale and capabilities to ramp up production to make medical-grade masks, shields and hand sanitizers.
We are grateful that ExxonMobil chose Zoom as their unified communications platform. ExxonMobil wanted a solution that would enable them to collaborate reliably and securely with their teams, customers and partners around the world. ExxonMobil employees are now using Zoom video communications across their global business. Second, Activision Blizzard, a member of the Fortune 500, had chosen Zoom to modernize and consolidate onto a single communication platform across their business units and gaming franchises. As a leading interactive entertainment company, connecting and engaging the world through epic entertainment, Activision committed to a full enterprise rollout of Zoom Meeting and Zoom Rooms to increase their mix of legacy video conferencing products.
Our ability to expand with existing customers also helped drive our results this quarter. One of the highlights this quarter was the expansion with ServiceNow, who has been a Zoom customer since 2018, using Zoom Meetings for its 11,000 global employees. Since the global pandemic, ServiceNow employees working from home have relied heavily on Zoom's easy-to-use interface to stay productive and connected with our customers. As the Zoom platform has become a core piece of ServiceNow's technology ecosystem, this past quarter, the company chose to replace its legacy hardware PBX system with Zoom Phone across their organization, further elevating their teams' work-anywhere experience with seamless, one-touch communication and collaboration. Thank you, ExxonMobil, Activision Blizzard, ServiceNow and all our wonderful customers for trusting Zoom. I love you. All Zoom employees love you. Thank you.
In summary, we continued to scale and expand our business to meet the need of our customers and the global community. I'm very proud of our achievements and thank our more than 3,400 employees for another exceptional quarter. Let's remain focused on delivering happiness to our customers and community.
With that, let me turn things over to Kelly.
Thank you, Eric, and hello, everyone. Q2 was a remarkable quarter for Zoom as we continued to rapidly grow and invest in our business to meet the demands of our customers and communities.
Let me start by reviewing our financial results for Q2, then discuss our outlook for Q3 and the increased view of our full-year FY'21. Total revenue grew 355% year-over-year to $664 million in Q2. This top line results significantly exceeded the high end of our guidance range of $500 million as demand remained at heightened levels, combined with lower-than-expected churn and exceptional sales execution.
For the quarter, the year-over-year growth in revenue was primarily due to subscription provided to new customers, which accounted for approximately 81% of the increase, while subscriptions provided to existing customers accounted for approximately 19% of the increase. This demand was broad-based across industry verticals, geographies and customer cohorts.
Let's take a look at the key customer metrics for Q2. We continue to see expansion in the upmarket as we ended Q2 at 988 customers generating more than $100,000 in trailing 12 months revenue, up 112% year-over-year. This is an increase of 219 customers over Q1, the highest number of adds in a quarter. We exited the quarter with a total of approximately 370,000 customers with more than 10 employees. We added approximately 105,000 of these customers in Q2, the second highest number of adds in any quarter. Year-over-year, we added approximately 304,000 new customers with more than 10 employees for 458% growth. We have continued to benefit from significant growth in our customer segment with 10 or fewer employees as small businesses and individuals adopted and maintained their Zoom licenses for various uses during the pandemic.
In Q2, customers with 10 or fewer employees represented 36% of revenue, up from 30% in Q1 and 20% in Q4 of last year. The increase in customers with 10 or fewer employees continues to shift our billing mix as these customers generally pay monthly rather than annually as do most enterprise customers. This shift is an important point for our outlook, which I will discuss in just a moment.
Our net dollar expansion for customers with more than 10 employees was over 130% for the ninth consecutive quarter as existing customers continue to support and trust Zoom to be their video communications platform of choice. Both domestic and international markets had strong growth during the quarter. Americas grew at a rate of 288% year-over-year. Our combined APAC and EMEA revenue accelerated to 629% year-over-year and represented approximately 31% of revenue. We will continue to invest in international expansion to capitalize on our brand awareness and the increased global opportunity.
Now turning to profitability, the increase in demand and strong execution drove net income profitability from both GAAP and non-GAAP perspectives. I will focus on our non-GAAP results, which exclude stock-based compensation expense and associated payroll taxes, charitable donation of common stock and acquisition-related expenses. Non-GAAP gross margin in the second quarter was 72.3% compared to 82.2% in Q2 last year and 69.4% last quarter. The incremental improvement from Q1 reflects our strategy to increase our co-located data center capacity while leveraging the public cloud as needed. We expect gross margin for the rest of the year to be consistent with Q2. However, actual results may vary as gross margin is contingent upon the percentage of free users and the utilization of public cloud during the pandemic.
R&D expense in Q2 was approximately $29 million, up 128% year-over-year. As a percentage of total revenue, R&D was approximately 4%, which was lower than Q2 last year, mainly due to the strong top line growth. In FY'21, we will continue to invest in R&D to drive innovation across all aspects of our platform. We also plan to diversify our engineering talent as reflected by our expansion in the U.S. and India.
Sales and marketing expense for Q2 was $123 million. This reflects an increase of 78% or $54 million over last year with investments to drive future growth. As a percentage of total revenue, sales and marketing was approximately 19%, a decrease from Q2 last year, due mainly to strong top line growth and marketing efficiencies from our increased global awareness.
Overall, we plan to add sales capacity quickly over the next several quarters. The swift ramping of our sales organization to further capitalize on market opportunities is a priority. G&A expense in Q2 was $51 million, up 189% on a year-over-year basis due to higher accruals for telco taxes correlated to higher billings, professional services and additional hiring to meet the functions of a public company of this scale. As a percentage of total revenue, G&A expense was approximately 8%, a decrease from Q2 last year as we gained leverage on our investments with a rapid growth in revenue.
The substantial revenue upside in the quarter carried over to the bottom line with non-GAAP operating income of $277 million, far exceeding our guidance, translating to a 41.7% non-GAAP operating margin for the second quarter. This compares to Q2 last year's result of $21 million and 14.2% margin. The significant margin expansion year-over-year is due to the steep increase in revenue in Q2, which outpaced the rate of investment even as we added over 500 employees in Q2, a 20% increase from last quarter and a 53% growth year-over-year. Non-GAAP earnings per share in Q2 was $0.92 on approximately 297 million of non-GAAP weighted average shares outstanding and adjusted for undistributed earnings. This result is $0.46 higher than the high end of our guidance and $0.84 higher than Q2 of last year.
Turning to the balance sheet, deferred revenue at the end of the quarter was $743 million, up 309% year-over-year. Looking at both our billed and unbilled contracts, our RPO totaled approximately $1.4 billion, up 209% from $458 million year-over-year. The increase in RPO is consistent with the strong demand and execution in the quarter.
We expect to recognize approximately 72% or $1 billion of the total RPO as revenue over the next 12 months as compared to 62% or $285 million in Q2 last year. This indicates a shift in our renewal seasonality, which was historically weighted towards Q2 and Q4 and has now shifted to Q1 due to the strength of last quarter's performance.
As a reminder, we do not focus on calculated billings as a metric for our business. We have a diverse business that spans from enterprises to individuals. With the changing mix of our business, annual billing terms and the growing level of monthly billing terms, such calculations have become less meaningful, especially now that we have a full quarter of monthly billings making up a bigger part of our revenue. We ended Q2 with approximately $1.5 billion in cash, cash equivalents and marketable securities, excluding restricted cash. Similar to Q1, we had exceptional operating cash flow in Q2 of $401 million, up from $31 million in Q2 last year.
Free cash flow was $373 million, up from $17 million in Q2 last year. The increase is attributable to strong collections from the large increase in top line growth and higher percentage of monthly contracts throughout the quarter. For the second-half of the fiscal year, we expect to increase capital expenditures for additional data center infrastructure. As a reminder, we will see the semi-annual cadence of net cash inflows from ESPP purchases to occur in Q3.
Now turning to guidance, we are pleased to raise our outlook for FY'21 for both revenue and non-GAAP profitability. Although we remain optimistic on Zoom's outlook, please note that the impact and extent of the COVID-19 prices and its associated economic concerns remain largely unknown. Our higher outlook for FY'21 is based on our view of the current business environment. For the third quarter, we expect revenue in the range of $685 million to $690 million. We expect non-GAAP operating income to be in the range of $225 million to $230 million. Our outlook for non-GAAP earnings per share is $0.73 to $0.74 based on approximately 300 million shares outstanding.
Before giving you the full-year outlook, let me provide some context on our assumptions. While better-than-expected churn was one of the drivers to our Q2 outperformance, we did experience a significantly higher level of overall churn in Q2 as compared to historical rates. As customers with 10 or fewer employees have increased to 36% of our revenue, we are assuming a higher rate of churn due to this mix shift.
From an expense perspective, we continue to focus on investing for growth, targeting investments that are appropriate for our market opportunity and the size of the business that we have become. Looking ahead, we expect operating margins to decrease from the peak in Q2 over the balance of this year as our hiring and spending catch up was a much greater scale of our business. It is prudent to expect margins to normalize to lower levels over the next several quarters.
For the full-year of FY'21, we expect revenue to be in the range of $2.37 billion to $2.39 billion, which will be approximately 281% to 284% year-over-year growth. This implies that Q3 and Q4 revenue will be only modestly higher than Q2, indicating a decline in quarter-over-quarter growth. For the full-year of FY'21, non-GAAP operating income is expected to be in the range of $730 million to $750 million. We expect to deliver non-GAAP earnings per share of $2.40 to $2.47 for the full-year FY'21 based on approximately 300 million shares outstanding.
In closing, we executed well in the first-half of our fiscal year. With our commitment to delivering customer happiness, we believe we will grow to over $2 billion in total revenue this fiscal year, which will be a remarkable milestone considering our guidance was below $1 billion in revenue at the start of this fiscal year. We are proud of how our team continued to perform in support of our customers and global community. Thank you to the entire Zoom team.
Before we move to our Q&A session, let me turn it back to Eric.
Hey, thank you, Kelly. By the way, I wanted to invite you all to our virtual Zoomtopia event on October 14 and 15 with too many cool features like video filter. We hope to see you all there at Zoomtopia. Now let me turn it back to Tom. Tom?
Thank you, Eric. And with that, let's open it up for questions. If you have not enabled your video, please do so now for the interactive portion of this meeting. [Operator Instructions] And Matt, please queue up the first question.
First question is from Alex Zukin with RBC.
Thank you. Thanks, Matt, and Eric, first, I want to say thank you from the analyst community and as a parent, as a husband. Yes, you've made a substantive difference in all our lives. So I guess the question I get most frequently, Eric, is most people are now staring at their Zoom screens probably more than watching any kind of content globally. So, outside of starting to show commercials in between your relevant Zoom calls, talk about the biggest opportunity for continued bookings growth, whether it's Zoom Phones, opening up to the APIs, monetizing consumers filters that you just showed, but can you tell us you know, the more -- the better you do this year, the harder it is for us to know and understand what's the durable growth rate, how do you comp this amazing spectacular performance. So I'll stop there. I could go on for a bit.
Yes. Alex, first of all, I surely appreciate for your continued support for many years. I think you're fully right. It looks like there are so many opportunities here and there, all kinds of use cases, right, my kids also use Zoom and telemedicine, telehealth. I think it's clearer to define now our top priority is to help people stay connected and make sure our service always up. Quickly, based on the customer feedback, add some features, and make sure when you have multiple meetings, you do not have a meeting fatigue, right? I think that's our top priority. So we would like you to maybe leave for the future for how to further monetize that. Again, that's not our top priority. We got to laser-focus on one thing, how to truly make a customer happy rather than stay negative, especially during this pandemic time.
Perfect, and then maybe if I could squeeze one in for Kelly; Kelly, you talked about the differences in churn that you're experiencing from the new customer cohort that you onboarded through the pandemic, and we've talked previously about what your historical churn looked like for monthly customers, and we know, I think, a little bit about how it looked in guidance before. Can you level set at a high level, what did you experience with that cohort versus where it's been historically, and at a high-level, what are you assuming in your guidance for that churn, for that monthly cohort of new users?
So, remember going all the way back to the S-1, we talked about that the monthly customers churn on average about 4% per month. Their monthly rate is about 4%, and we did see an increase against that in Q2, and we have modeled at that same level going forward with all the uncertainty with how long this pandemic will last and what other potential economic uncertainty there is, we've modeled at that same rate going forward.
Our next question is from Meta Marshall with Morgan Stanley.
All right, great. Thanks and congratulations. Just wanted to get a sense of where you think you are kind of innings or percentage-wise on working with organizations that may have kind of adopted you in a department or adopted you in part of having multiple services, of displacing those solutions or kind of having a more full organization discussion as well as having a follow-up discussion as well of attacking on phone or rooms or webinar type services, and do you have the sales teams in place to just start having those conversations on broader organization and deployments?
Kelly, do you want to take it?
Sure. So we continue to see growth in the period from both new customers as well as existing customers and tremendous opportunity with webinar, especially as well as Zoom Phone. We actually signed our largest Zoom Phone deal to date in Q2. So exciting to see that continued momentum. We also saw customers that were doubling one of them that quadrupled their existing deployment. So we are still in early stages, and when we look at penetration, like we look at it in the Global 2000, like there's a small percentage that have a significant spend with us, so there's tremendous opportunity still ahead, Meta. Meta, I'm sorry, you went back on mute.
Oh, sorry. Just whether you have the kind of sales organization in place to kind of have that gather, or gather conversation?
So, as I said earlier, we are hiring very quickly to keep up with all of the demand that's potential. The team, thank you to our amazing Zoom team, which are really working around the clock to keep up with the demand today and to support and serve our customers and the community, but we are hiring; absolutely. This is one of the biggest priorities for the rest of this year.
Great. Thanks and congrats.
Our next question is from Nikolay Beliov with Bank of America.
Hi, thanks for taking my question. Just wanted to continue on the topic from the last question, Eric and Kelly, as the business grows at unprecedented rates, can you help us understand what's happening internally, your customer support organization, your sales organization, your ERP system, HCM system, onboarding like hyper growth scenarios, so many people and maybe putting pressure on the systems, and also culturally, what's happening inside the organization?
Yes. That's a great question. So, prior to pandemic crisis, we maintain a steady growth and make sure our internal systems, processes, procedures, everything is doing well, and however, due to this pandemic crisis, I think the business growth is just unprecedented. The good news, on the one hand, we had a very solid company culture. Nobody complained. We all worked very hard. Looked at are there any other holes in terms of procedure, process, and also we hired a lot of employees, double down our support resources and customer success management team, to further help because there's so many new use cases, new customers. That's why we hired lots of employees.
On the other hand, we also wanted to leverage opportunities that could transform our business to next level. In terms of privacy, security and internal process and systems, I think, again, we are very committed, right? Every day, we work so hard, what kind of new issues, like even the free calls or online paid subscribers, when they try to come for service, we would like to respond in a timely manner. I am not saying, well, we are perfect, but we are very committed to really double down on our execution to make sure truly they're all happening to all the users.
And Eric, which use cases, new use cases you're most excited about and surprised you the most? That's it for me.
My golly, if I talk about new use cases, probably I can speak for four or five minutes. I'll give you several. Like you see the PropNex uses Zoom for their virtual property tour. During the last 10 weeks, they have closed over 50% of the newly launched properties in Singapore over Zoom, and also the CSK, first law firm in Florida to have virtual trial by jury, and also, like South Coast Community Services, which is largest mental health service provider in California also use Zoom to offer mental health being mental health is becoming a very big problem. A lot of new use cases like that. So every day, I feel very, very excited to see so many new use cases, not to mention, like we just announced the partnership with the United States Tennis Association to offer the virtual experience is very cool.
Our next question is from Taz Koujalgi with Guggenheim.
Hey, guys, can you hear me? Can you guys hear me?
Yes, we hear you, Taz.
A question for you, Eric, I think you mentioned that one of the customers that you signed this year was with ServiceNow and replace the legacy PBX system with Zoom, does that mean that you're offering video and phone to ServiceNow that they base all their collaboration tools with one product, Zoom?
Yes. So, you know, first of all, ServiceNow has been a customer since 2018. They deployed Zoom to replace other video conferencing, web conferencing service with Zoom video conferencing. Over the past several years, we already established a great trust. We also announced the partnership. When they looked at their entire usage rate, they also deployed legacy, very costly, very complex, on-prem PBX system, why not consolidate into one system with a very consistent product front end experience, same back end architecture and in terms of total costs, much lower, user experience also much better? So that's why they decided to replace their legacy PBX system with one safety, standardized on Zoom unified communication solution.
That's very helpful. Just one follow-up, Kelly, I think you mentioned that you signed your largest phone deal this quarter. Was that also an upsell to an existing video customer, or was that a new customer who signed up with Zoom Phone?
No, it was already a meetings customer as well, a video customer as well.
Thank you.
Thank you.
Our next question is from Sterling Auty with JPMorgan.
Yes, thanks. Hi, guys. So, now that the 90-day feature freeze is complete, Eric, I'm kind of curious, where is the focus of R&D going forward? And you mentioned diversifying into India and the U.S. How are you structurally changing your R&D effort? And is that in relation to any type of geopolitical pressure?
Yes. First of all -- and we accomplished a lot over the past 90 days, but I can tell you that we take privacy and security extremely seriously. I'm not seeing we are going to give any of that. I would say the journey just starts, right? We are going to double down on privacy and security, and inside that, we also have a big R&D team, and our core technology, engineered leadership team here in San Jose. We also have an offshore team. Look at a lot of new use cases not only for enterprise, but also the kids' education, K-12 schools and telemedicine, there are so many use cases. I think this R&D team, I do not think that is -- we can really handle that in terms of scalability. We have to find more talents in a timely manner, and that's why we opened up 2 R&D offices in Phoenix and in Pittsburgh, and also, we would -- we like this onshore/offshore R&D model. That's why India have also opened up a big office. We hired our President of Product and Engineering for China, right, great leader, right? With that, we really want to hire engineers and not only here, but also other site, also even including remote engineers, right, because there are so many features and tasks, and that's why I want to invite you to join our Zoomtopia, which is our annual user conference. We'd like to service you very good product road map.
Thank you.
Thank you.
The next question is from Richard Valera with Needham.
Thank you. Let me add my congratulations on another incredible quarter, team. So, the question is on pipeline. Kelly, you were sort of on the record saying that you entered Q2 with a bigger pipeline than you had entering Q1. I'm wondering if you could give any similar color on how you entered Q3 from a pipeline perspective and if there's been any change in the composition of that pipeline in terms of product or geography.
So, certainly, coming into the quarter, our pipeline is still strong, and we're continuing to see demand, but based on our guidance, you can see that the demand for the year was front-end loaded, and we saw that in the performance in Q1, the benefit of which we saw in Q2, and that's why the guidance is highlighting that we expect revenue for the back half of the year to be effectively consistent with Q2.
Got it. Just in terms of the contribution of phone in the pipeline, has that changed much? Any color at all on how you're thinking about the magnitude of phone in the balance of the year?
No, it's performing as we expected, and as I said, we're really excited to see our largest deal to date and ongoing upsell. So, really still can see strong demand for Zoom Phone, and we see a lot of potential there for the future.
Got it, thank you.
Our next question is from Tom Roderick with Stifel.
Great, thank you guys, great job on another outstanding quarter. Eric, this is going to kind of go in conjunction with the question on Zoom Phone and kind of was thinking about it as a unified communications platform, not just a communications tool for video. I'd love to hear about some of the strategic conversations you're having in the context of digital transformation and what else these customers want you to do, and if you can elaborate in there in conjunction with how your customers are thinking about your next game plan in security, that would be great.
Yes, that's a great question. So, I would say this pandemic crisis completely accelerated every enterprise, every business customer's digital transformation, because you want to support employees no matter where they are, right, where the traditional on-prem system really is not applicable anymore, right? That's why you look at all the cloud with these software service companies doing very well.
With respect to Zoom Phone, I think, overall, that's a part of our video conferencing offering. We truly believe video is the new voice. There's no reason for any business to deploy two separate systems, totally different experience. Hindsight of that, when customers who still deploy on-prem, legacy PBX system, when they migrate to cloud, they want to understand who has the better architecture. They want to consolidate into one system. That's the reason why we're positioned very well, and some other SMB customers already deploy maybe some other cloud with the PBX systems, they also want to consolidate into one system to further solidify their experience. So, overall, we even do not think that's two separate markets. It is just one thing. Video conferencing and cloud-based PBX are converged into one service. So that's our story when we talk with customers. The customer really likes that.
And Kelly, a quick one for you in terms of the conversation around security, but as you've agreed to enable end-to-end security for not just paying customers but for all customers, which is a recent pronouncement, I think, what does that do to the cost structure? Is that meaningful? Will we have noticed that? Can you just talk about that a little bit?
Yes. No, you won't see a meaningful impact. We certainly have been investing in both our security team. We're thrilled to have Jason Lee have joined us, and you'll continue to see some ongoing investments there, but it doesn't really have a meaningful impact on the margins.
Got it, thank you. Great job, appreciate it.
Thank you.
Our next question is from Heather Bellini with Goldman Sachs, who's joined in by phone. [Operator Instructions]
Great, yes. Yes, great, thank you so much, and congratulations, and I think as Alex started out by saying, Eric and team, just thank you for keeping everybody connected. We're so appreciative that school started today on Zoom. So my kids were app users today. For the question I had, was really just a little bit on Zoom Phone, and I know, Kelly, you've just answered a handful of questions, but Eric or Kelly, I'm just wondering if you could share with us how fast do you think you can see these kind of legacy phone systems. Like how fast do you think this work-from-home benefit can drive displacement of legacy PBXs, which we've all been waiting for, for quite a long time, and I know this is only sold to new customers, but you have so many of those -- or to existing customers, but you have so many of those at this point, and is there any kind of typical competition sphere that you're seeing as you're talking to customers and they're making the migration? Thank you so much.
Yes. Heather, that's a very great question. So I think prior to this pandemic crisis, if you look at enterprise, a very high percentage of customers is still deployed with the traditional on-prem legacy, costly PBX systems. However, I think this pandemic crisis, I think, is sort of like a wake-up call. You got to think about how to and focus, embrace digital transformation. Having cited that, in the cloud-based PBX, for sure, it's one of the things we've got to look into that. Another thing that's top priority as compared to the video conferencing, but for sure, it's on -- a lot of enterprise customers read that script. At the same time, I think they have a lot of other systems, not only for PBX, but also a lot of other systems. They also look at the cloud-based solution. I think this crisis just accelerated that migration from a traditional PBX and into the cloud-based system, and also Zoom is very well positioned. With a customer, they do not want to -- oh, I migrated to the cloud, and they also want to look at the new user experience, like a Zoom solution because this is the one existing. I think in the next 12 to 18 months, I would say you will see a little bit higher acceleration rate for enterprise customers to migrate to unified collaboration and communication solutions as Zoom. In terms of -- yes, just quickly in terms of competition, right, still the traditional legacy system and some other cloud-based PBX, but again, Zoom is much better positioned because we have one unified solution. Thank you, Heather.
Thank you, again.
Our next question is from Will Power with Robert W. Baird.
Great, thank you. I want to ask a question on the rest of world strength. You saw a surge in activity there. Usage revenue obviously grew significantly as a percentage of the total. I wonder if you could speak to how broad-based that was. Were there any particular regions or countries that stood out? I know you talked a bit about India, and how do we think that progressing from here? Do you expect that to continue to grow as a percent of revenue? And what might that mean for the margin impact of the business, if any?
Yes. So, if you look at…
Go ahead, Eric.
Yes. Yes. So if you look at our free users or paid online subscriptions, right, it's coming almost everywhere. However, if you look at the number of visitors to our Web site, top countries like, for sure, U.S. obviously number one; and India number two; Japan number three; Canada, U.K. number four and number five. I think users are almost from every country, right? They try to use Zoom because it's very easy. It's free, and if 40 minutes are not enough, they would like to pay, and some SMB customers, they also try our webinar service, and also the enterprise customer might try the phone service. I think organic growth because of the brand awareness, I think, really helped us. So for now, we just say, no matter where the users come from, we would like to take a step back to see where we can do differently to serve them better in terms of having a local data center, like we just announced a data center in Singapore, and also that we double down our India presence, and we are going to have a team to capture the growth from international expansions. Kelly, sorry, feel free to chime in.
No, that's okay. I was just going to say that the strength in the growth outside the world was really consistent between EMEA and APAC. So, we're very pleased with that, and overall, the market -- the pricing is adjusted for the market, so you shouldn't see significant impact on the long-term margins based on the structure that we have in place for our pricing today.
Great, thank you.
Our next question is from Rishi Jaluria with D.A. Davidson.
Hey, everyone. Thank you so much for taking my question, and I'll echo a truly outstanding quarter I think beyond what any of us could have imagined. I wanted to follow up a little bit on an earlier question, which is some of the moves in China, right? I mean stopped free trials, recently stopped direct sales there, at the same time, expanding R&D efforts in India and in the U.S. as well. Just what's kind of the impetus for this move? Is this a signal of kind of distancing a little bit away from China, maybe in response to geopolitical pressure? And then for Kelly, what sort of impact would this have from a model perspective, both on the top line and margins? Thank you.
Yes. So, we don't have any current plans to move our engineering talent out of China. We are focusing on diversifying it by adding talent in the U.S. and India. That's really the goal, and our leadership team is currently based in San Jose, so there's no change in that overall structure. For the long term, if there were -- something were to change, there would be no immediate impact on our service or our ability to provide services to our customers -- sorry, in the short term and the medium term. Over the long-term, there could be a potential impact on the margins as we would need to replace those talents 8somewhere else potentially.
Yes, just to add on to what Kelly said, revenue-wise is very small, no impact. Previously, if you look at almost every country, we have online subscription. We have a direct sales out of China, but in China, the overall revenue were small, the online subscription, you need to have a special license, we already sold that before. So we would like to simplify our go-to-market because actually the support and sales associates, a lot of resources, right, why not simplify that just to leverage our third-party partners with a white labeling solution. I think that that's very sustainable and is good from our side.
Wonderful. Thank you, Kelly and Eric.
Thank you.
Our next question is from Phil Winslow with Wells Fargo.
Hey, thanks guys for taking my question, and congratulations on another phenomenal quarter. I wanted to talk about converting monthly users to annual users; Kelly, that was one of the things you talked about on the last call. I wonder if you can give us an update on sort of what you saw from the, call it, the Q1 cohort during Q2 in terms of your ability to convert those, and how should we think about any sort of the promotions, sort of initiatives changing going forward? Thanks.
Yes, of course. So, our marketing team is really focused on this, running campaigns and reaching out to these customers to provide them the opportunity to convert from monthly to annual, and we were happy with the success that we saw in Q2 and are continuing to focus on this, and we've also made some changes to our online buy flow to make it easier for the customers as well to self-serve and upgrade if they're so inclined. So, we expect to see this to continue to be a focus for us as we move through Q3.
Got it, thanks.
Our next question is from Shebly Seyrafi with FBN Securities.
Yes, thank you very much. A question for Kelly, you're guiding revenue to be up around 3% sequentially, but if I assume that your customer count is at least flattish Q-to-Q, your average customer count is going to be up around 16% Q-to-Q, which implies that your ARPU is implicitly guided to be down 13% Q-to-Q, and so my question is I've never seen a double-digit decline in your ARPU before, what would drive that?
Well, as we're sitting here right now, looking forward, I think it's more around the uncertainty around churn and what's going to happen with the overall economy. That's really the uncertainty there and why we're guiding flat for Q3 to -- Q3 and Q4 revenue will be flat, modestly up from Q2, and we've had a significant increase in our mass market customers, where there just remains limited visibility in terms of the long-term contribution for those customers. So, I don't think that we necessarily expect that dramatic increase in ARPU that you're pointing out. It's more around the uncertainty in churn and what does that mean for the top line growth.
Okay, thank you.
Our next question is from Brad Zelnick with Credit Suisse.
Great. Thank you so much, and I echo my congratulations and gratitude all around, and it's nice to see everybody. My question is for Eric. Eric, from a product perspective, how might Zoom in the future be able to go deeper into the context in which communications is happening? I'm thinking about human behavior or human intent, for example, to help make the experience even more valuable.
Yes. That's a great question. That's why please join our Zoomtopia. I think, first of all, you're absolutely right. Zoom is not only a communications tool, go deep, right, because our mission is to develop a better service, better online video conferencing service, even better than face-to-face meeting, how to lever AI functionality, like not only have you the meeting transcription, but also how to analyze that in a timely manner. Let's say, if you change a topic, give you a quick reminder, hey, please slow down, right? So, based on face detection or something like that, all those AI features, and for us, look at it in the long run, right, language translation real time, and also how to shake hand remotely, a lot of cool features like that, and in the past, you look at the inflow of video and perspective, right, how to add some of the fun features like video filter and how to make the 3D video, leverage AR. I think a lot of technologies, right, not to mention 5G and in the future, I think that if you look at the future, a lot of those good technologies can truly make the video conferencing experience much better.
Thank you so much.
Thank you. Please join us on -- at Zoomtopia. Thank you.
I wouldn't miss it.
Thank you.
Our next question is from Ryan Koontz with Rosenblatt Securities.
Hi, great, thanks for the question. With regards to the sales and marketing investment, it came in a little light there, and obviously, have a really strong customer pull for the product. How are you thinking about your go-to-market motion, how you might change your sales strategy relative to your prolific success to date, and are you looking at reseller channels or other technology platform partners to take you to market into the enterprise? Thank you.
So the decline in sales and marketing was partly due to just the strong top line performance as well as efficiencies that we're seeing in marketing. When we expect that as a percentage of revenue, sales and marketing to increase through the back half of the year, as we're really focused on continuing to hire globally, we did -- if you remember, we announced the master agent program for Zoom Phone in Q2 and are really excited about that program and expect it to go -- continue to contribute more significantly as we move through the year, and on the meeting side, continuing our mostly direct model, which has been very successful for us to date.
So, just to briefly add on to what Kelly said, if you look at the marketing efficiency, you look at our marketplace, we already have more than 700 third-party applications. That's another way for us, right, to promote our brand awareness, right? More and more integrations certainly can help our marketing efficiency.
Okay, thank you.
Thank you.
The next question is from Bhavan Suri with William Blair.
Great, thanks for taking my questions, and congrats, I guess I want to touch on something a little more probably high level and strategic. Obviously asked you in the past about the convergence and where does Slack and collaboration fit in. So, let's turn this a little bit differently. You're going to host Zoomtopia, and this whole event planning space is a huge market, and it feels like it would be an obvious fit for you, and you have partners there, but the natural extension of this into events and meeting seems to make a lot of sense. How do you think about that market, and then do you think about sort of maybe using the stock as a way to buy, but you could also build. I mean Kelly has got it to R&D coming up. You've got a lot of points between 40 and 30 to spend on R&D, and not all it is going to go to support the existing platform. So just some sense on the event space, how you think about it. Is that a build versus buy decision or a partner decision? Thank you.
First of all, I think you have a great question. So you have our vision right down. It looks like you have some great ideas. Actually, maybe after the call, I'd like to connect you with our product managers. I think you're absolutely right. If you look at our Zoomtopia, right, not only do we have webinar, but also we need to look at our entire online event management experience, right? It's not only to the real-time part, pre event and planning and marketing and promotion, marketing content and materials, every event, right, a lot of, I think, the content, right? I think having cited that, I think we believe this service has a strategic value to help further expand our webinar reach. Having cited that, I think in terms of sort of we do that everything by ourselves or bring a partner, maybe acquire somebody, I think it's too early to tell, but strategy-wise, you're absolutely right. That's got to be our focus, our priority. It's low-hanging fruits, right?
Thank you.
Thank you.
Our next question is from Walter Pritchard with Citi.
Hi, thanks. I'm curious this quarter just as it related to the really strong new customer adds and the revenue that came from that channel. Are you seeing an uptick in customers that are coming in through sort of displacements that had maybe not an older-generation solution but had tried something in the last three to six months and weren't happy with it and has switched over?
Kelly, do you want to take it?
I don't think that we saw as much of that. I mean it's definitely -- customers have been using something. I think that what has happened over the last 4 to 5 months is people have realized that the solution they had in place just wasn't up for -- up to the strength of what it needed to be in this pandemic, and so, we've continued to see amazing brands move over from some of the competitors as they're really looking for something to ensure that they can keep their employees really effectively [technical difficulty] keeping them safe as well, and then, of course, we're super excited about some of the school districts that we've seen sign up. We have the top two school districts in the U.S. as our customers today. So that really highlights the scalability of the platform and then wanting to ensure that they have a really reliable solution as they went back to school.
And then when do you think you can give phone customer count, any horizon on that?
That's one of the things we're considering, Walter, that we'll talk about. We've said that for Zoom Phone, we'll give milestone updates. We'll look at it at Zoomtopia and see if that makes sense. The last update we gave was actually at the anniversary date of Zoom Phone, so we might wait until then.
Okay, thank you.
Thank you.
Our next question is from Matthew VanVliet with BTIG.
Hey, guys. Thanks for taking the question, a great quarter there. You talked a little bit about channel partners still remains a fairly low portion of your overall sales, but curious what the uptake is in total partners registering as part of the program. Is it something that you're proactively doing? Or is it just the demand for the product sort of pulling them in? And then on sort of a related note from an international market perspective, do you feel like you can hire aggressively enough from a sales head count internationally? Or do you need to look at partnerships in specific markets that could be smaller growth areas, but growth areas nonetheless?
So, from the hiring side, we definitely believe we can hire everything that we need internationally. We've really invested in our talent acquisition team and are doing that on a broad base around the globe to ensure that we are able to hire as quickly as possible. As you know, there's a little bit of a longer lead time for notice periods internationally, but we're hiring as quickly as we can, and then in terms of the uptick kind of the partners in the channel, we don't give out those specifics, but we are continuously looking at our channel programs to ensure that they are not only competitive but driving the results that we want. So it's something we evaluate on a constant basis.
Okay, thank you.
Our next question is from Quinton Gabrielli with Piper Sandler.
Hey, guys. Thanks for taking my question, and congrats on a great quarter. Really just one quick question from our end, obviously, you guys saw some really strong enterprise traction for Q2. Just wondering if we could get some idea of the percentage of revenues from enterprise customers compared to the 23% we saw in the last quarter. Thanks.
We are sharing that the revenue -- we don't call out specifically customers, but we -- I'm sorry, enterprise customers, but that the revenue from effectively customers with fewer than 10 was 20% in Q2, which is consistent with previous quarters in that same range.
Got it, all right, thank you.
Our next question is from Ittai Kidron with Oppenheimer. Ittai?
Okay, we'll come back. Our next question is from Alex Kurtz with KeyBanc.
Yes, thanks for taking the question. Actually, someone at Zoom did a good job because we just switched our school district from Google meeting over to Zoom for the start of the fall semester. So someone deserves a raise. So, Kelly, as you think about OpEx trending into next fiscal year, I know you don't -- aren't going to talk explicitly to it yet, but a lot of churn to assume, especially in that Q1 of next year, and you have a lot of investments that you're making as far as R&D and sales and marketing. So as we're working through our models and looking into OpEx levels from Q4 to Q1, how should we be -- what's the framework for that?
Yes. So, you should expect the operating margins to decrease incrementally each quarter going forward as we are continuing to, as you said, invest in R&D and invest more in our sales and marketing teams as well and getting towards that longer-term margin that we've talked about historically. We're going to talk in more detail around this at Analyst Day, but the last time we updated you on this, we still said that our long-term margins were around 20%. So I think you should assume we're getting more in that range, nearer to that than the 41.7%.
Okay.
Alex, by the way, if your kid's school district had any questions or any feedback to Zoom, please let them know you know Zoom's CEO and can be there.
I will send them right to you, Eric.
Thank you, Alex.
Our next question is from Ryan MacWilliams with Stephens.
Thanks, guys for the question. So, for Zoom Phone, pretty unbelievable rate of achieving global service coverage, so congrats on the expansion there; Kelly, when you mentioned doubling or tripling the Zoom Phone seats and various deployments, is that a part of this expanding global service coverage, and have you seen more enterprises trialing Zoom Phone as a result of this additional coverage? Thanks.
All right. So, certainly, international expansion, I think we've said historically, that was the biggest opportunity for us, and I think a perfect example of that is the 2 largest Zoom Phone deals in Q2 were outside the U.S. So that really shows the strength and what the international coverage is bringing to Zoom Phone, and sorry, what was the other one -- oh, enterprise customers trialing Zoom. Yes, absolutely. There are some amazing names that we can't talk about yet, but we're excited about the traction that we're seeing in the enterprise customer base as well.
Best of luck. Thanks, guys.
Our next question is from Pat Walravens with JMP Securities.
Oh, great, thank you. If she comes in on time, I'm going to give you some real feedback from one of your customers. Here she is.
Hello.
Okay. [Gigi], [ph] what -- so Gigi's school also just switched from Google to Zoom, and Gigi, what is it that you like best about Zoom?
The breakout rooms, I thought they were really convenient because my teacher -- we have a lot of students in our cohort, our group, and it's really hard for all of us to talk at once. So she put us in 6 breakout rooms, and I have 4 or 5 students with me, and it's really nice to talk to them, to work with them, check answers instead of having 40 kids, like wide, huge group, and you can never get to talk. That's why I love breakout rooms so much, and I think it's really convenient.
Thank you, Gigi.
Great, thanks for the feedback, Gigi.
So, my question is, so Eric, when everyone's working from home, how do you make where you work an attractive place to work?
Well, first of all, your daughter Gigi's comments made my day today. I would like to talk to her. So speaking workplace, I think for now, I think for the foreseeable future, we all need to work from home, but we've got to think about the long-term planning. So, meaning, after the pandemic crisis is over, what the new workplace look like. We talk with many customers, partners. We believe, in terms of the working from home, this trend will stay. I'm not saying all of us will keep working from home. It's very, very likely it's a hybrid, meaning twice a week or three days a week, you can send all employees back at home, and some other time, we all keep working in the office, and also you can further consolidate a lot of the small offices, right? You do not need to have offices everywhere anymore. You also can hire talent almost everywhere, and for us, even for the workplace today, if you look at a lot of the companies, it is a very big open space. I think that may not work anymore in the future. Good news, we do have target for the next 10, maybe 12 months, we can optimize what the future workplace look like, but again, no matter what, I think tools like this continue can help.
Okay. Thank you.
Thank you.
And we have time for one more question, and the last question is from Jonathan Kees with Summit Insights Group.
Great, guys, you snuck me here. I add my congratulations to the quarter. So I guess I have my one question as well as, if I can, a clarification. The clarification first, maybe it's more for Kelly. Kelly, you had said last quarter, you were modeling in the assumption that your sales teams would start being more a moderate or more normalized level of business activity. I didn't -- I noticed that wasn't in the guidance in the commentary this quarter. Is that still the case then that carried over from last quarter? That's a clarification, and then my real question is can you tell me about the discounting, on the pricing that you have for the enterprise RFPs? Are you seeing a lot of that? Are you seeing a good amount of that? Thanks.
So, in terms of our sales rep productivity, as you can imagine, it was an extreme high level in Q1 and also extremely elevated in Q2. As we look forward to Q3 and Q4, we have modeled it certainly to be lower than that but still higher than what we saw last year. So, it's kind of somewhere in between what we saw for the first-half of this year but where it was exiting FY'20, and then in terms of enterprise discounting, we don't disclose specifics around that, but we haven't really seen a significant change in the buying patterns of our enterprise customers.
Great. Keep up the good work. Thanks.
Thank you.
Okay. That wraps up our Q&A.
Great, and I think we'll turn it over to Eric for any final comments. Eric?
Is Ittai still available? It looks like he has a question, right? No?
No, I don't think Ittai is going to be asking a question today.
Yes. So, thank you all for joining us today, and we're truly appreciative for your time. It has been a memorable first-half to our investors and analysts. We appreciate your continued support for Zoom. Thank you all. See you next quarter. Thank you.
Bye. Thank you.
Thank you.
Thank you everybody.