We're on. My name is Josh Baer, software analyst at Morgan Stanley. We have the pleasure of the Instructure team, Steve Daly, CEO, Dale Bowen, CFO, and Mitch Benson, Chief Strategy Officer. Thank you all for joining us. Some disclosures first. For important disclosures, please see the Morgan Stanley Research Disclosure website at www.morganstanley.com/researchdisclosures. If you have any questions, please reach out to your Morgan Stanley sales representative. Steve, wanted to kick it off with you. When you look across K–12, higher ed, international, cross-sell opportunity, what is it that gets you most excited looking ahead to 202? There are a couple things, and each one of them is a little bit different. When I think about K-12, you know, K-12 there is a. Over the last couple years, there's been this explosion of apps in the environment, right? We really in earnest started a true digital transformation kind of because of the pandemic. Now it's kind of the pendulum's probably swung a little bit far to one side, where our latest research shows that districts have an average of about 1,400 apps in their environment. What they're looking for is to consolidate around a few key strategic vendors. We see a lot of opportunity in our assessment solutions. We just bought a company called LearnPlatform that really is about how to. How does a district consolidate? You know, are the apps they're using, getting the outcomes that they want, and how often are they being used? In K–12, there's a lot of runway as far as cross-selling some of our existing products. In higher ed, the higher ed institutions are really worried about, you know, the number of students coming to a university to get a four-year degree has been kind of, you know, flat to slightly down for the last decade. There is this massive population of students that still wanna learn, but they, you know, it's not gonna be in the traditional way. We have a set of solutions that allows them to extend what they do on campus to a remote, online non-traditional student. We're seeing a lot of pickup in with the existing institutions, but we're also starting to see a new customer for us, which is a retraining organization, a further education organization, vocational schools that are starting to pick up on our products. For those two markets, a lot of tailwinds, a lot of opportunity for growth into the future. On the international side, there's a lot of greenfield for us to go after, a lot of old premise software that's, that makes up 70% of the market that we can go win. Great overview. A lot to dig in there. First I wanna come back to the core, to Canvas. You're a market share leader, and you're still gaining share. Mm-hmm. Can we talk about the actual product, the platform, the technology? Like what is it that is differentiated versus peers, and, you know, how are you still able to gain share? Yeah, maybe Mitch, you wanna? Yeah, for sure. I mean, I think there's core tenets that are true regardless of whether you're talking about K–12 or higher ed or international, and probably some that are specific by market. I think those things that are universally true is that, you know, we've been doing this for the for a little longer than a decade, right? It's cloud-native software. It's highly secure. It's scalable. Its design principles from the outset, speaking specifically about Canvas, were to focus on the teacher, and the student, the instructor and the student, the professor and the student, and build as simple an experience as possible, and that still rings true today. In K–12, we certainly have focused on building an environment where Canvas sits at the center of teaching and learning, where a wide variety of products can plug into that environment, so that teachers still have a lot of flexibility given the diversity of their classrooms, and have the ability to sort of scale an environment that meets their needs. In higher education, we've got a framework, right? An application, a set of services that meets a professor's needs to build the kind of experience that he or she wants for the discipline, for the kind of course that they want to teach. Internationally, right, those core principles still hold very true when we're competing largely with that on-premise software that's dated, that's not modern. I think you bring all of those things together and, you know, you point a bit at the scoreboard. We're still winning seven out of 10 of those deals on a global scale when you blend them all together. People are really big fans, in addition to just the technology to the business that we've built, right? We've got a great, great view of customer satisfaction, right? Our customers are raving fans. They like the organization that we've built that deals with them on a day-to-day basis. Now we've got 40% market share in U.S. higher ed, 30% market share in U.S. K–12. When you look to the left or you look to the right, you see people who are using Canvas and using Canvas well, and that referential sale just sort of builds that flywheel. More and more people are using it, more and more people are choosing it. Great. I think that's a little underappreciated is the value of network effects within the education market is that they are very much a referential sale, right? They will look at what their peers are using. As we have every Ivy League school, we have all of the California higher ed systems, whether it's UC, whether it's CSU, California community colleges are all standardized on Canvas. We have entire countries that have standardized in the Nordics on Canvas. As we gain that kind of referenceable base, it becomes stronger. We have over 700 partners that have built onto our platform. We have very strategic relationships with Google and Microsoft and Zoom, and it creates a network effect that others can't match very simply. We have 1.5 million users on our community, and so they can come in and be part of a bigger community than any other vendors. all those network effects really do get that flywheel going. Yeah. It's a good point. In my experience, when I talk to school districts, high school, what they wanna do is put their students in the best position to succeed in higher ed. They look around to the universities. Yep ... odd perspective, they're using Canvas. That's right. You, you've talked about some of different market shares in these different markets and international. The competitive landscape is different across each. Could you lay that out, and you know, talk a little bit about the competitive environment in each of your segments? Sure. You know, within the K–12 space, there's about 40% of the market that is using free tools that's unvended. Some of those tools may be Google Classroom, it may be tools that the publishers give away with their curriculum, it may be things like free Zoom or those types of things in their environment. When somebody decides that they wanna be part of an enterprise LMS, where they want central control, where they want the visibility across the district about what's going on, how students are doing, then it will usually be us or Schoology, which is part of the PowerSchool family of products in the K–12 space. In the higher ed space, Blackboard has been the main share leader. They have about 20% of the market still. Moodle has another 20% of the market, which is an open source, free and open source product. Those are the primary... D2L, Desire2Learn, has about 15% market share. It will usually be one of those players from a competitive perspective. The same players we play in higher ed internationally, it's the same players there that we see on a regular basis. Okay. Really helpful. Wanna touch on macro. I mean, for you, Well, I wanna dig into how the macro can impact Instructure, maybe from a customer demand perspective, if there is any impact there, as well as from an enrollments perspective as, you know, tied to unemployment and student enrollments. Yeah. What we see, it's traditionally, you know, the number of students in K–12 is really unaffected by the macro, right? And budgets there are usually tied to property tax receipts. And that's usually a better predictor of overall budgets. We've got a unique situation for the next couple of years, where there's also $100 billion of stimulus funding that's in the system that has yet to be spent, that has to be spent in the next two years. They're kind of flush with cash for the next, at least through 2024. In the higher ed space, what we see is typically, traditionally, what has happened during a recession is that enrollments go up. People lose their job, they decide to go back to school. We think that's going to play out. It may not, it may not play out with degree seekers, but for sure, retraining, further education, continuing education, those vocational, will, you know, that's what we would typically expect should we go into kind of a recession. In thinking about 2023 guidance, what type of macro outlook is embedded in that guidance? Does it matter? You know, for 2023, I don't know that it necessarily matters. We haven't assumed, for instance, an increase in enrollments in our guidance. You know, it's not a, you know. It won't be a knife-edge rollover anyways. You know, we feel pretty good regardless of what happens from a macro perspective, that we're very confident in our guidance for 2023. Great. You referenced the stimulus and K–12, you know, having that from a demand perspective. Could you lay out, like what does a school district or state, like, need to do in order to access those funds? It seems like there's a long list, and just wanted to check in on the reality of benefiting from stimulus. Yeah. Mitch, you wanna? Yeah. I mean, I think the first thing that had to happen was that those federal stimulus dollars needed to make their way through the system and into the state, into the state budgets, right? The state departments of education put together plans in conjunction with those districts. Those plans were sent to the U.S. Department of Education. They were approved, distribution began to happen. We think, you know, part of what happened last year was that it took some time for those funds to actually flow. Once the states had them and then could put them into everybody's budget, for the budget year that began in July of 2022, what we find is ourselves in the midst of now a selling and buying season that is really the first one where the lion's share of those dollars have been made available. There are strings, so to speak, as it relates to those dollars that have to be spent. Clearly, they need to be aligned with those plans, and those plans vary state by state and district by district. They have to be allocated, right, as part of the state budgeting process into the district budgets, and then the districts have to begin to procure. Those dollars have to be spent by September. They have to be allocated by September of 2024, and they have to be aligned with the objectives or the priorities that were set out in those plans. Our sellers are busy, now that they understand where all of those things are, aligning the solutions in our environment with the problems that were identified that those districts wanted to solve. Things like assessment to account for learning loss, right? Digitization so that they can get scale of quality teachers. You know, the list goes on. We're in the process of aligning, again, those resources that we have with the demands in the system, and then the competitive procurements, right, that we hope eventually land or break our way, which we'll then begin implementation for. Great. That's helpful. Last year you talked about, sticking with K–12, you talked about some longer sales cycles and challenges, just thinking about teacher and administrative shortages and turnover. Has there been any stabilization there? Like what is the health of the K–12 pipeline? Yeah, we definitely saw kinda second half of last year, the deals weren't closing. They were just taking longer to close. They were pushing out, not going away per se. As we kinda drilled into that with our customers, they were saying two things. One is, we've got a shortage of teachers, so I've got a teacher that's got 50 kids in their class, right? Because I only have two 5th grade teachers this year, I don't wanna introduce new technology into the classroom now. Or we just saw a lot of turnover at the superintendent level, just getting those projects off the ground was a challenge. We did, you know, see a change of that once we kinda turned the year. And we, you know, our customers are now telling us, "Look, you know, we paused last year, just because we couldn't do this but we can't have another gap year, right? We've gotta get on with our digital transformations." Budget, you know, budgets have to be spent by the end of June. We also heard, you know, that they recognize maybe this is the new normal, right? Maybe my teacher load is gonna look like it is. Now they're starting to think about how can technology help in solving some of these problems for us. They recognize that, for instance, the LMS takes a lot of those manual tasks off a teacher's plate, or it creates a lesson plan that if a substitute has to come in, they're not just watching movies the whole day, right? They've actually got a lesson plan online that they can share with the children. We're really starting to see that pick up. The feedback from the K–12 sales teams is much more positive this year in the last, you know, eight weeks than it was at all in the second half last year. Okay, good to hear. Wanted to ask about the opportunity more broadly in K–12 from a skeptical standpoint. You know, like I think there's some investors that might think about the competitive landscape and the paid versus non-paid dynamics in K–12. The ultimate question is, if a school hasn't adopted an LMS over the last three years in K–12, you know, why would they adopt now? Like, what's the response to that line of thinking? Yeah. It's, it's a, it's a question of maturing, right? It's like it's a question of, where is that district in their, you know, from a student outcome person focused on student outcomes, focused on teacher productivities, where are they on that maturity curve? In a lot of cases, you know, the less mature districts will just go with a free tool. They'll say, "Here, let's use this." They don't care about having central control, right? They don't want central curriculum distributed. They don't want it teachers to be able to share across the... I mean, it's not that they don't want to, but they're not, they're not looking at how do I facilitate that or how do I roll up and understand where are we being more effective. Those free tools just don't allow you to have that kind of district level visibility. There's a lot of reasons that could be happening. It could be not that they don't want to, but it may be just that the culture of that district is one that's very distributed autonomy, right? Those types of things. What we're seeing is that those districts that had those free tools and had a fairly rich mix during the pandemic, they just said, "We're just gonna go with it," right? "We're not gonna try to whip everything out at this point." The ones that during the pandemic that had nothing did make that jump to your point, right? Because they had to have something. Now we're seeing those ones that kinda stuck with those free tools. They're saying, "Okay, now I gotta think about what am I gonna do for the next two decades," right? What is that? What is this digital infrastructure gonna look like? This infrastructure that got me through this pandemic is not gonna be the one that gives me the foundation for a digital transformation into the next, you know, 10-20 years. That's where a lot of the discussions have been: how do I, how do I, you know, how do I automate a lot more of this? And what is that foundation? It's gotta be an enterprise platform. It can't be these cobbled together solutions. Can I add something to that, Steve? We've got teachers today that have been trained and educated and spent their whole life on Canvas, and they're just entering the workforce. From a long-term perspective, I've got no concerns about this. The digital transformation in K–12 will follow the same path as higher education, you're gonna see this groundswell of new teachers entering these districts where there are no enterprise opportunities or enterprise systems, they are gonna push for it because they know how effective it is. Longer term, no concerns about that. That's a good point. Dale, wanted to ask you about growth. sometimes you lay out the algorithm or the way to think about growth between these different segments. Are you able to give an update on how you're thinking about the growth outlook for K–12, higher ed, and international? Sure. We've got strong growth in each of our segments. We break it out North America, high ed, North America K–12, and then as Steve mentioned, international is really higher education. In the North America segments we have, we expect high single-digit growth. Consistent, it's durable, it's been there in the past, it'll be there in the future. International is our highest growing segment. We're expecting high single digits. High double. Excuse me. We're expecting high teens% there. On a constant currency basis in the next three to five years. It'll be a little bit lower. We've got some headwinds related to currency fluctuations, it'll remain the highest growing part of our business. Sorry, the high singles was the combination of North America or U.S.- Yeah ... higher ed and K–12? That's correct. Okay. Between the two, I mean, it sounds like there's such a big opportunity in K–12. Maybe another way to put it, when thinking about 2023 guidance, what assumptions are there around the traction in K–12? Are you relating to like stimulus or this, the longer sales cycles that we had talked about? Right. We have incorporated regular stabilized growth in all of our segments. We haven't assumed in the guidance that we've provided that there is going to be an outflow of these, the ESSER funds or larger upticks in any of those markets. Okay. you know, Josh, we provide guidance. We're gonna hit our guidance, so we have great confidence in those numbers that we've shared. Great. I wanna focus on the cross-sell opportunity and maybe get like pretty specific by different segment. What are the number one or two products that you're able to sell back into your campus base across these different markets? What's most impactful for you? Yeah. We have, you know, if you think about the value proposition with the cross-sell, we have a product that's called Studio. It's all about helping teachers create content, grabbing YouTube videos, you know, adding quizzes to it, those types of things. That's our highest attached product because it's really close to the core functionality of the LMS. It provides value quickly. The other pieces is in K–12, our assessment business is the next highest attached. It's a set of technologies that automates the whole process of getting feedback through quizzes or tests or, you know, what the industry calls assessments. In higher ed, the next highest attached product today is around our catalog product, which is the one that allows them to extend out to the non-traditional student. Those are the kind of the bundles that we kinda go with when we go through a cross-sell. Got it. The way I phrased the question, it was about selling back into the base, but wanted to ask, are you able to land the customers with any of the non-campus products? Yeah. In fact, 60% of all of our new logo deals have more than one product on them. Yeah, we are, this is a, this is a motion that's probably, you know, in the making. It's, it's fairly new for us 'cause we were just Canvas for so many years. The last two- three years, we really have kind of retooled the sales organization to sell the platform strategy, that this is bigger than just Canvas LMS. The, the, you know, the proof, you know, the evidence of that is that 60% of those deals have more than one product. Great. We're able to expand that on the cross-sell side. Currently, we've got 43% of all of our customers have more than one product at this point. We mentioned in our last earnings call that we have a $1 billion opportunity to cross-sell back against our current Canvas base. A lot of opportunity there. That's helpful. Dale, you mentioned guidance. wanted to talk about the Rule of 50 for you that you've been consistently maintaining in recent years. When we do look at FY 2023 guidance, I think we're just a little bit short, with that combination of growth and margin. How should we think about that? What are the trends that are bringing that below? Is a return to Rule of 50 sustainably in the cards? It is. We've got this wonderful combination of durable, strong top-line growth and this great profitability. We expect to continue to operate at that level. We bought a company at the end of 2022, LearnPlatform, that was not operating as a Rule of 50 company at this moment. It will be as we put our arms around it and bring it in. Some of what you're seeing, Josh, and this will happen from time to time as we acquire companies that don't fit that same profile. We may dip for a couple of quarters and then bring it back up. We're a Rule of 50 company, and we expect to operate that way in the future. Great. I'll ask another one. Then we'll poll the audience for questions. When thinking about the margin side of that equation, you've improved margins so drastically over the last three, four years. Where is there more leverage? Is there more room to go on the margin side? There is. We've talked about our gross margins to start as being able to scale up to the upper seventies, and we're close there, but we still have some room to expand. We'll do that through some of the things we've already talked about in previous conversations. Value engineering our platform against our hosting provider. In that COGS area, we have our customer support team that is largely domestic. We've kept it intact from the point that we took the company private and then back public. We've got some room to grow there. As you work through the rest of the P&L below the gross margins, we will continue to do the same things that we've done in the past. We've been able to outsource a lot of our R&D to low-cost regions, which has created additional capacity for our teams. We've got more engineers working on our education products than at any time in the history of the company. We'll be able to continue to scale in R&D, excuse me, in G&A. We'll be investing back in to sales and marketing and R&D here in the future. We'll do that by creating efficiencies and still be able to expand the EBITDA margins. Okay, great. Any questions in the audience? Not yet. Still think. Wanted to cover your M&A strategy. You mentioned M&A. It's a big part of your strategy. Could you help review the key criteria that you use in evaluating potential M&A? Sure. I mean, I think there are a couple of top-level criteria that we think about. First is, you know, the strategic alignment to the businesses that we might wanna add. So as we think about the kinda concentric circles that work their way out from that core, value proposition around teaching and learning, what areas, right, are of most value. And so we've got a rich M&A pipeline that is focused strategically. Obviously, the second set of filters have to do with the financial considerations, right? We wanna buy businesses that are gonna be accretive, that allow us to, you know, buy at a multiple lower than we currently trade and benefit from those sorts of relationships. We add those two things together, with, you know, what is either available to us that we can go unlock or that it's actually on the market, and we do our work. I think at its very core, the agenda around M&A is to continue to build out the Instructure Learning Platform vision. You've seen a number of our acquisitions focused on kind of tech tuck-ins, as they might traditionally be called, that are adding capabilities that allow that platform to materialize in the schools and universities, as well as then sort of vertical assets that ride on top of it, the applications that are directly useful for end users. You know, we think about an acquisition like Concentric Sky, which has turned into Canvas Credentials, is one of both of those things, a platform capability that individual institutions are gonna need, that partners are going to need, and that we can, you know, also sell as an application in its own right in a solution to this problem of addressing non-traditional learners. Those areas where we can find assets that so-solve multiple of those problems, right? Connect the providers and the consumers, help us with platform technology to draw everything together and represent a real sales opportunity are really high on the list. Great. What should investors expect from cadence or size looking ahead in the next few years? Yeah. The pipeline is, I think, it's big and it's, you know, from everything over $100 million to those hovering around the $10 million in ARR mark. I think we'd like to do two or three of those on an average basis. Of course, the number is gonna be, you know, it's gonna be limited, right, by the size of those that we actually do. We do fewer on the higher end or maybe a few more on the lower end. Dale will tell you that, I mean, the business is, the balance sheet is very supportive of continuing to do M&A transactions, whether that's in cash on hand or the debt facilities that we have access to. It's certainly a part of a expansion strategy for the business here. Great. Are there any, sort of areas to help us think about, you know, what that could potentially-? Yeah, for sure. ... look like. Let me talk about four of them quickly. I mean, I think it's obvious, it should be obvious from looking at the business that we think assessments represents a huge opportunity in K–12, both from technology and from content. In higher education, we think that there are two real opportunities, ones that, you know, we've dipped into so far as it relates to this online and non-traditional learning opportunity. We think there are additional assets that are there that can be very helpful in equipping the institutions to drive their agendas forward. One that we've talked less about has to do with student success. As more and more of these students come in a variety of ways into the institutions, how do institutions support them along their learning journey? There are a lot of niche players in that market, and we think could, you know, the institutions could benefit from a consolidated provider who helps solve a number of those challenges. We will continue on the sort of tech tuck-in platform expansion strategy as well, where we add capabilities that solidify this as an industry platform, not just as a, an, a conglomeration of products. Great. Thank you. We are out of time. Steve, Dale, Mitch, thank you very much. Of course. Really appreciate the conversation. Thank you.