Like almost every enterprise software company, Cloudflare (NET -3.01%) is finding it more difficult to sell its existing customer base on additional products. An uncertain economic environment has many companies focused on keeping costs in check.
During the first quarter, Cloudflare saw overall sales cycles get about 27% longer than in the previous 12 months. More concerningly, sales cycles for expansion deals with existing customers were 49% longer. Close rates also declined, hurting the company's growth in the quarter.
Some of this is unavoidable. The economy is the economy, and there's nothing Cloudflare can do about it. But Cloudflare is in an enviable position. Many of its products, ultimately, save customers money -- and that should be a strong pitch during tough economic times. The core content delivery network product, for example, can shift bandwidth off cloud platforms like Amazon Web Services and save customers a small fortune in egress fees.
No longer selling itself
While Cloudflare's product suite did a good job selling itself when the economic picture was brighter, that's not happening anymore. Customers now need convincing, and Cloudflare's sales team has been revealed to be less productive than originally thought.
During the first-quarter earnings call, CEO Matthew Prince spoke about enterprise customers flocking to Cloudflare's platform over the past few years: "That allowed many on our sales team to succeed largely by just taking orders. When the fish are jumping right in the boat, you don't need to be a very good fisherman."
Cloudflare has identified more than 100 members of its sales team that have chronically fallen short of expectations as the sales environment got tougher. Those members are responsible for about 4% of annualized new business sold over the past year, so the process of replacing them with more effective salespeople may temporarily hurt growth. However, once the sales team has been fully refreshed, growth could reaccelerate as more deals are closed.
Part of the problem for Cloudflare is that its platform has become complicated. While the pitch for content delivery network services or web application firewalls is simple enough, Cloudflare has grown its product catalog to many dozens of services. While a particular customer may benefit greatly from any number of those services, they would never know it without a competent sales team able to understand that customer's business and pitch the right products.
Things won't get better this year
Cloudflare is rightly focused on fixing its sales productivity problem, but it will take a while for any changes to bear fruit. The company expects to grow revenue by 31% to 32% this year, far slower than the 49% growth rate in 2022.
The economy is partly to blame, and it's hard to know how much of the slowdown is due to the issues in the sales organization. The good news is that Cloudflare has no shortage of long-term growth opportunities. Beyond its core businesses, Cloudflare is becoming a force in the zero-trust security industry, and its serverless computing platform grows more capable with each product launch.
Cloudflare pegs its total addressable market at $125 billion today, and more than half of that opportunity is comprised of businesses that didn't exist in 2018. Innovation is not a problem for Cloudflare, and the company will likely find more ways to expand its market opportunity in the coming years. But to take full advantage, Cloudflare will need to effectively sell those new products to its customers.
Warren Buffett once said: "You only find out who is swimming naked when the tide goes out." Cloudflare has been swimming naked, but that was masked by the pandemic-era boom in demand for its products. For the stock to be a long-term winner, it will take more than rampant innovation. Cloudflare must put in the work to build a sales organization that can sell its increasingly complicated platform.
