A major source of growth for Cloudflare (NET +1.75%) comes from its existing customer base. By convincing customers to increase usage and pay for additional products, the company can grow relationships while lowering the likelihood those customers will consider switching providers.
The dollar-based net retention rate is a key metric that measures how much existing customers are growing spending over time. A retention rate of 100% means that spending has remained the same, while anything above 100% indicates customers are increasing their spending on average.
Cloudflare's dollar-based net retention rate dipped to 122% in the fourth quarter of 2022, marking the third consecutive quarter that rate has declined on a sequential basis. This isn't a bad number in absolute terms, but the company aims to increase it to 130% over time. Here's its plan.
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Key Data Points
Usage- and seat-based products
Cloudflare's core subscription plans have fixed monthly prices, limiting a customer's potential to expand spending. A customer could opt for a pricier plan or pay for a variety of add-ons, such as additional page rules or load balancing, but because Cloudflare doesn't charge for bandwidth directly, it doesn't benefit financially from a customer running more traffic through its content delivery network.
Some of Cloudflare's newer products are priced by usage or by seat, opening the door for significant growth in customer spending. Cybersecurity is one example. Cloudflare offers a suite of Zero Trust security products aimed at securely connecting a company's employees with applications and data, with pricing based on the number of users.
Beyond security, Cloudflare offers a developer platform that supports serverless applications. Cloudflare Workers, the company's version of serverless functions, are priced per request, and its R2 object storage product is priced based on data storage and the number of operations.
Cloudflare CEO Matthew Prince called the Zero Trust platform the company's "second act" and its developer platform its "third act" during the fourth-quarter earnings call. As Cloudflare ramps up these products, they have the potential to boost the company's dollar-based retention rate.
Improving sales and marketing
Even the best products in the world don't sell themselves. Prince sees massive room for improvement in Cloudflare's sales and marketing organizations. "As our products become more complicated and we are selling to larger and larger customers, it's increasingly clear that we need to step up our game in marketing and sales," Prince said during the earnings call.
Cloudflare has brought on two executives to lead the charge. Marc Boroditsky, who joined from Twilio, is now heading the sales organization, while Brent Remai, who's served as chief marketing officer for various companies, will lead the marketing organization.
While Cloudflare expects its revamped sales and marketing teams to accelerate growth eventually, the company is not banking on any improvements this year. Given the state of the economy and the cautious nature of many of its customers, Cloudflare's guidance assumes no improvement in the economy and no boost to sales or marketing efficiency. The company sees revenue growing by 37% in 2023.
Shooting for $5 billion
Cloudflare's goal is to reach $5 billion in annualized revenue within five years. That's a near quadrupling of its 2023 revenue guidance. To hit that goal, the company needs to get better at selling its customers on an increasingly complex set of offerings.
Prince pointed out during the earnings call that brand awareness was a big problem: "The frustration that I still have is when I meet with the customer and oftentimes, they'll literally say, you should build something that is in the Zero Trust space, competing with a Zscaler or Palo Alto Networks." Cloudflare has the right products, but it's failing to put itself in the running.
Cloudflare will surpass $1 billion of annual revenue this year, thanks to its long history and relentless focus on building great products. To get to $5 billion, the company must pour the same vigor into effectively telling its story to customers.
