Customer service software provider Zendesk (NYSE:ZEN) reported its third-quarter results after the market closed on Oct. 30. It was more of the same for Zendesk -- rapid revenue growth coupled with growing losses on a GAAP basis. Here's what investors need to know.

Zendesk results: The raw numbers

Metric

Q3 2018

Q3 2017*

Year-Over-Year Change

Revenue

$154.8 million

$112.3 million

37.8%

Net income

($34.1 million)

($25.9 million)

N/A

Non-GAAP earnings per share

$0.09

($0.01)

N/A

Q3 2017 numbers adjusted for ASC 606. Data source: Zendesk.

What happened with Zendesk this quarter?

  • Zendesk's paid customer accounts totaled 133,700 at the end of the third quarter, up from 130,300 at the end of the second quarter, and up from 113,900 one year ago.
  • Zendesk Support now has 72,100 paid customer accounts, adding 1,600 during the third quarter; Zendesk Chat has 46,800 paid customer accounts, losing 800 during the third quarter; and other Zendesk products have 14,800 paid customer accounts, adding 2,600 during the third quarter.
  • The percentage of Zendesk Support monthly recurring revenue that came from customers with 100 or more Support agents reached 40% in the third quarter, up from 38% in the second quarter, and up from 37% in the prior-year period.
  • The number of contracts with annual values of $50,000 or more rose 15% year over year, and the average contract value increased.
  • Zendesk's dollar-based net expansion rate, which measures annual expansion for existing customers, was 118%, down from 119% in the second quarter.
  • Zendesk generated $7.3 million of free cash flow in the third quarter, up from $1.4 million in the prior-year period.

Zendesk provided the following guidance for the fourth quarter:

  • Revenue between $164 million and $166 million, up 33.7% year over year at the midpoint.
  • GAAP operating loss between $39 million and $41 million, and non-GAAP operating income between a loss of $1 million and a profit of $1 million.

Zendesk provided the following guidance for the full year:

  • Revenue between $591 million and $593 million, up 37.5% from 2017.
  • GAAP operating loss between $141 million and $143 million, and non-GAAP operating income between a loss of $2 million and break even.
  • Free cash flow between $28 million and $30 million.
The Zendesk logo.

Image source: Zendesk.

What management had to say

Zendesk CFO Elena Gomez explained how the recent acquisition of FutureSimple would affect the company's results during the earnings call:

Our acquisition of FutureSimple, the company behind Base, impacts our results as it has lower margins than Zendesk. Additionally, consistent with the standard practice of purchase accounting, we will account FutureSimple's deferred revenues to fair value. Therefore, the gross margin contribution from FutureSimple will have a negative impact on our consolidated gross margin in the fourth quarter of 2018 and in 2019.

CEO Mikkel Svane reiterated the company's revenue goals: "Our progress continues to increase our confidence in meeting our 2020 goal of being a billion-dollar revenue company, and our long-term objective of being a company with multi-billion dollar sales."

Looking forward

Zendesk lowered its guidance for full-year operating loss. On top of the FutureSimple acquisition hurting gross margins, Gomez said that the company has been pulling forward some investments that it believes will drive revenue growth and market share higher. Zendesk will be close to break-even on a non-GAAP operating basis this year, but its GAAP operating loss will now come in at nearly 25% of revenue.

Zendesk continues to invest in growth at the expense of profits. With revenue still growing at a nearly 40% rate, that spending is producing results.

Timothy Green has no position in any of the stocks mentioned. The Motley Fool recommends Zendesk. The Motley Fool has a disclosure policy.