SEMrush Holdings Inc

NYSE:SEMR

Earnings Call Analysis

Tech Company Earnings Update

The tech company reported a strong quarter with a revenue increase of 25%, driven by growth in both hardware and software services. The company's margins also improved due to cost-saving initiatives. Guidance for the next quarter includes a projected 20% revenue growth, supported by an expansion of their customer base and new product launches in the pipeline.

Strong Performance and Positive Outlook

The company delivered robust fourth-quarter revenue of $83.4 million, a 21% increase year-over-year, surpassing their expectations and guidance. Simultaneously, the full year's revenue also ascended by 21% to $307.7 million, coupled with a substantial profitability rise, with non-GAAP net income reaching $11.4 million for the quarter and a yearly total of $16.3 million. Moving forward into 2024, they aim to maintain this momentum, focusing on margin improvement, sustainable revenue growth, and enhanced profitability.

Guidance and Metrics Adjustments

The company revised its guidance measures to better represent financial performance and synchronize with internal management metrics. These changes include the exclusion of amortization of acquired intangible assets and certain non-recurring expenses from non-GAAP operating margin calculations. This transition intends to offer investors clearer insights into the company’s operations.

Growth Strategy and Market Opportunity

The company credits its success to employing its own Semrush tools, which support organic marketing solutions. They see their platform of choice for businesses to enhance online visibility as a key differentiator in the market and believe that the potential for growth is significantly rooted in their control and less in competitors' actions. Their product suite assists businesses in various digital marketing aspects and creates a network effect by sharing actionable insights with customers.

Focused on Three Pillars for Growth

The initiatives for growth rest upon three pillars: increasing new user growth, driving expansion revenue via cross-selling and upselling, and launching new products to enhance their portfolio. These efforts contribute to an increase in the average ARR per customer, which has exceeded $3,100, and demonstrate higher net revenue retention within their more advanced accounts.

Operating Efficiencies and Customer Growth

To optimize the long-term value to customer acquisition cost (LTV to CAC) ratio, the company has reallocated resources, primarily shifting its focus toward the higher-value enterprise segment while maintaining strong results in new customer growth, upselling, and cross-selling.

Financial Performance and Prospects

With a 23% year-over-year growth in annual recurring revenue, attaining $337.1 million, and a gross margin that improved by 100 basis points to 83.6%, the company showcases a robust gross profitability and a scalable, efficiently engineered platform. These factors provide the foundation to drive investments back into the business. For the first quarter of 2024, they project revenue growth of approximately 20%, with full-year revenue anticipated to be in the $364 to $368 million range, representing an 18% to 20% growth.

Guidance for Profitability and Investment Strategy

Addressing the balance between growth and profitability, the company is committed to an 'efficient frontier,' aiming to invest in areas that yield results while maintaining a disciplined approach to spending. With a strong outlook on the extensive market opportunity, they ensure a priority on growth, holding over 108,000 paying customers and more than 1 million free users. They also underline continued investments to propel the business forward into enterprise offerings, aiming to scale up the foundation laid for these new growth paths.

Anticipated Margins and Scaling Up

The company aims for full-year 2024 non-GAAP operating margins between 10% and 11% and anticipates free cash flow margins to range from 7% to 8%. This financial forecasting confirms the company's confidence in its growth strategy and readiness for scaling up operations to capture future opportunities.

Earnings Call Transcript 2023-Q4

[Operator]

Hello, and welcome to the Semrush Fourth Quarter and Full Year 2023 Earnings Call. My name is Alex, and I'll be operating the call today. [Operator Instructions]. I'll now hand over to your host, Brinlea Johnson of Investor Relations. Please go ahead.

[Brinlea Johnson, executive]

Good morning, and welcome to the Semrush Holdings Fourth Quarter and Full Year 2023 Conference Call. We'll be discussing the results announced in our press release issued after market close on Monday, March 4. With me on the call is our CEO, Oleg Shchegolev; our President, Eugene Levin; and our CFO, Brian Mulroy.

Today's call will contain forward-looking statements, which are made pursuant to the safe harbor provision of the Private Securities Litigation Reform Act of 1995. Forward-looking statements include, but are not limited to, statements concerning our expected future business and financial performance and financial conditions, expected growth, adoption and demand for our existing NNA products and features, our App Center expansion, industry market trends, our competitive position, market opportunities, sales and marketing activities, the sufficiency of our staffing levels, our guidance for the first quarter of 2024 and the full year 2024 and statements about future pricing and operating results, including margin improvement, revenue growth and profitability. Forward-looking statements are statements other than statements of fact, it can identify by words such as expect, can, anticipate, intend, plan, believe, seek or will.

These statements reflect our views as of today only and should not be relied upon as representing our views at any subsequent date, and we do not undertake any duty to update these statements. Forward-looking statements address matters that are subject to risks and uncertainties that could cause actual results to differ materially from these forward-looking statements. For a discussion of the risks and important factors that could cause our actual results, please refer to our most recent quarterly report on Form 10-Q and our annual report on Form 10-K filed with the Securities and Exchange Commission as well as other filings with the SEC. During the course of today's call, we refer to certain non-GAAP financial measures. There is a reconciliation schedule showing GAAP versus non-GAAP results currently available in our press release issued yesterday after market close, which can be found at investors.semrush.com.

I also want to highlight that starting with our guidance for the first quarter and full year 2024, we are updating our guidance measures and non-GAAP definition. We will no longer provide guidance for the non-GAAP net income and a several guide to both non-GAAP operating margin and free cash flow margin. Definitions for these are presented in our earnings release. We are also updating our definition of non-GAAP income from operations, how much GAAP operating margin is calculated to exclude amortization of acquired intangible assets, acquisition-related costs, restructuring costs and other onetime expenses outside the ordinary course of business. For example, our exit costs incurred primarily in 2022, in addition to the current exclusion of stock-based compensation.

To be clear, all currently and previously reported historical actuals reflects our prior definition, which only excludes stock-based compensation. The updated definitions reflected when we report our first quarter 2024 financials. With our year-ended earnings release, we are also providing a reconciliation from the old definition to the new definition for the period presented. In anticipation of this change, we are now providing guidance using this updated definition. We believe this update will allow investors to better understand our financial performance, better align with the measures used internally by management and operating our business and permit a better evaluation of the efficacy of the methodology and information used by management to evaluate and measure our performance. And with that, let me turn it over to Oleg.

[Oleg Shchegolev, executive]

Thank you, and good morning to everyone on the call. I am pleased with our team's ability to execute in 2023. We succeeded in accelerating ARR growth, increasing our pipeline of new customers and expanding our platform as we continue to drive towards sustained profitability. In the fourth quarter, we delivered revenue of $83.4 million, up 21% year-over-year. And for the full year, revenue grew 21% to $307.7 million. Importantly, we also generated strong profitability, exceeding our guidance, reporting non-GAAP net income of $11.4 million in the fourth quarter, while closing out the full year with $16.3 million in non-GAAP net income. As demonstrated by our 2024 guidance, our business is focused on driving strong sustainable growth, expanding profitability and generating free cash flow.

Before handing it over to Eugene and Brian to talk about the quarter in more detail, I would like to touch upon a few highlights about our strategy to continue to scale the business and capture our significant market opportunity. On our last call, I talked about our strong competitive positioning as the platform of choice for businesses to improve their online visibility. I also discussed our differentiation in the market due to our unique data assets and positive industry dynamics. We firmly believe our success and ability to grow is more about the factors that are within our control and less of our competitors. We have a significant greenfield market opportunity ahead of us, and we continue to focus on educating our customers about the value of our unique data assets and diverse portfolio of products.

To put it simple, businesses need to be seen online and in places where consumers are. We have customers in a number of ways. We help them organize their websites in order in order to rank highly for search engines to find them and to be moved in the conversations in social media. We assist them with their keyword strategies to achieve higher ratings. Also, we help businesses optimize their location-specific elements about their site so that they show up in the local listings. Clients also need to gather intelligence about consumers and competitors and our platform provides them with those capabilities. To illustrate our solutions consider how a potential customers' journey might look, a customer would come to Semrush seeking to innovate the digital presence with higher rankings on search engines, higher levels of customer engagement and more visibility across several marketing channels. We will start by researching the competitors' ads and selected keywords to figure out which ones have a better ROI potential. They would then use our ad launch assistant to round campaigns using those keywords.

As they begin to understand the limitations of relying only on pain media, we would then use our platform to make the physical store more easily discoverable on Google Maps. Their subscription to Semrush Local would automate the online listing updates in over 70 directories and when the platform would take the rankings in maps for keywords. Of course, they would also want to use our social tool and leverage our AI features to respond to reviews quickly while at the same time, generating content is high-value keywords included. As a result of the engagement with our tools, they could choose to share valuable data with us, which we could then use to further increase the accuracy and predictability of our algorithms.

To complete with hypothetical example and to demonstrate the breadth of our platform, they would also likely want to use our tools to find niche influencers, which we can collaborate with to better enhance the brand visibility and credibility. With the help of AI social content generator, they then create reels and videos in seconds for Instagram and TikTok, to capitalize on organic promotion opportunities. These hypothetical customer journey highlights with growing trend of businesses of all sizes investing more time, effort and resources into enhancing their online visibility, which is a trend Semrush will continue to benefit greatly from. We believe businesses are best able to analyze, plan and execute where digital marketing activities will have a potential for exceptional results. And as you can see, our platform provides all the tools in one place where they can do this. We have also created a network effect as we share highly actionable insights with our customers and we in return share the proprietary data with us. This dynamic makes our algorithms stronger and even more predictive, enabling a flywheel effect. The stronger and more predictive our algorithms are, the happier our customers are, which fills new ARR growth.

Looking ahead to 2024, we are focused on continuing to grow our core business, upselling and cross-selling our offerings, expanding our platform and exploring new acquisition opportunities. In conclusion, I'm very optimistic about 2024. And I am excited about our strong capacity market position and ability to capitalize on future growth opportunities. I will now turn the call over to Eugene Levin to discuss the results of the quarter and our outlook in more detail.

[Eugene Levin, executive]

Thank you, Oleg. We delivered another solid quarter and continue to focus on our 3 main growth pillars that set us up for long-term durable growth. And we're making progress in each front. To review, we are focused on: one, increasing new user growth with our existing offerings; two, driving expansion revenue by delivering higher value to our customers by cross-selling and upselling within our base; and three, adding new products to our portfolio.

Let me provide updates for this quarter. First, we continued increasing new user growth. We have nearly 108,000 paying customers, but there are tens of millions of marketers and small business owners that we believe will benefit from our platform and product offerings. In Q4, we achieved solid net new customer additions and registrations with a more efficient sales and marketing engine than we've seen in prior quarters. Looking at this further, organic marketing is one of many channels, companies leverage to enhance their online presence. It has multiple benefits, and our tools provide the data and technology that allows customers to fine tune, analyze and measure the impact of various organic marketing initiatives. Over the past year, we have seen some considerable improvements in optimizing our sales and marketing spend where we pivoted towards our organic efforts to boost our own online presence. Much of our success can be attributed to leveraging our own Semrush tools and following recommendations to deliver very successful results. While every marketing channel has its place in the effective marketing strategy, organic marketing can be more cost effective in the long run and importantly, it is trustworthy. You are more likely to trust an organic search result for relevance and quality than a paid ad that anyone can place based on your search needs. Organic marketing is like owning a house where you're building equity, whereas paid media can be like renting a house where you get to live there, but when you're done paying, you don't own any real estate. As Oleg highlighted, Semrush's tools are focused on boosting company's organic presence in contrast to the focus that companies like Google and Facebook have on paid advertising. This is one of Semrush's key competitive differentiators and something that we believe provides us with a clear path in the ecosystem. The efficiency with which we generated our results this quarter demonstrate the power of organic strategy.

Turning to the second growth pillar, we have a strategy to cross-sell and upsell our customers in an effort to expand our average ARR per customer, which, as reported today is over $3,100. Our cross-sell focus is on search engine optimization, search engine advertising, social media, local markets and digital PR content marketing and competitive intelligence. These are our core competencies where we believe Semrush clearly differentiates itself in the marketplace, and we saw continued success in Q4. Before we talk about our third growth pillar, which is adding new products to our portfolio, I'd like to take a few moments to discuss the segment of our customer base that we believe represents a significant growth engine for us. Companies that fall into this broad segment are businesses that tend to have multiple marketing team members that are each Semrush users, and they generally have significantly higher ARPU or average revenue per user than our average customer. While this is a reasonably broad description, the point I'm trying to demonstrate is that they are different from our solo-preneur and small business customers.

What's exciting about this more sophisticated accounts is that they add additional products to their subscriptions at a healthier clip than our average customer. So their ARPU grows rapidly as they leverage more Semrush tools to achieve their business goals. And two, their net revenue retention is meaningfully higher than our average. This cohort of accounts already comprises a meaningful double-digit percentage of our ARR, and we expect that this will grow significantly as time goes on. We believe that this high-level metrics covering ARPU growth and net revenue retention demonstrate that the adoption of our products within this more sophisticated accounts points to a bright future for this customer segment and will help support strong sustainable growth for Semrush overall. We also believe that the relative strength of this customer set gives us increased confidence that our new enterprise product will be met with a strong adoption, further supporting our goal of driving strong durable growth on both top line and bottom line.

This leads me to our third growth pillar, expanding our product portfolio. During 2023, we launched numerous AI apps and tools and added multiple apps to the App Center. We officially launched an enterprise SEO product into the market, although we are in early stages, and this will take time to be a material contributor to our overall revenue. The early signs we're seeing are very encouraging. Our enterprise offering has the opportunity to create a meaningful inflection of our ARPU as this product carries ARPUs that tend to be 10 to 15x our client average. We believe our early adopter customers are experiencing significant returns on their investments after migrating to the platform. Features like automated workflows, corporate level, access controls, customizable dashboards and building professional services are helping our customers drive meaningful improvements in efficiency while also delivering significant time and cost savings. To support this anticipated growth in our enterprise product, we spent the last several months analyzing our go-to-market infrastructure and sales motion and making the requisite adjustments. As a result of this very detailed exercise, we reallocated the head count of several SMB-focused sales teams into more enterprise-facing roles. We believe this will result in optimized LTV to CAC ratio as we leverage our product led low-touch sales strategy down market, while we ship more of our investment focus to the high-value enterprise area.

In summary, I'm very pleased with our success driving new customer growth, our success upselling and cross-selling and our ability to expand our product portfolio and move up market. I will now turn the call over to Brian, who will provide a more detailed discussion of our financial performance and guidance. Go ahead, Brian.

[Brian Mulroy, executive]

Thanks, Eugene. Before I discuss our results in more detail, I'd like to remind you what I highlighted last quarter on my plans for the finance organization. As I sit here 1 quarter later, my confidence has only gone stronger in our ability to drive durable growth over the next several years as we further penetrate our served markets. Evidenced by our recent results and guidance, I see an opportunity for us to do this while also making significant improvements to our profitability.

To bring this to fruition, our finance team focuses on data metrics for decision-making throughout the organization. Because Semrush has such a valuable customer data set, we have the ability to segment our user base to understand their buying patterns, retention dynamics and interest in new products among many other things. You heard Eugene talk about this a moment ago. And taking that example of how our corporate accounts has extremely robust characteristics for growth, retention and ARPU, we rigorously analyze this data and allocate our investments in sales, marketing and product accordingly. We expect the outcome of doing this on a regular basis to result in a disciplined approach that enables us to capitalize on our biggest opportunities while simultaneously driving operating efficiencies. We expect this ROI framework will apply to our capital allocation decisions, whether that is for internal projects, external M&A or the optimization of our capital structure.

With that, I'd like to turn to our fourth quarter results in more detail. We had a very strong quarter across the board. Our revenue in the fourth quarter was $83.4 million, growing 21% year-over-year. For the full year, revenue increased 21% to $307.7 million. Growth was driven by new customer additions and expansion of our average revenue per customer as we continue to execute on our cross-sell and upsell strategy. Our dollar-based net revenue retention for the fourth quarter was 107%. We expect our dollar-based net revenue retention to trough within the next quarter or two as we increase adoption of our full portfolio of products, tools and add-ons within our installed base. Annual recurring revenue for the quarter grew 23% to $337.1 million compared to a year ago. We reported significant improvements in our operating margin, which is up approximately 2,500 basis points year-over-year. This improvement is a result of a number of factors.

First, our gross margin improved 100 basis points year-over-year to 83.6%. Gross margin benefited from higher revenue and our continued ability to gain scale and leverage from our efficiently engineered platform. We continue to expect strong gross margins above 80% in the near term and view the way in which our stack is engineered as a key competitive differentiator. Our healthy gross margins also provides us the flexibility to invest below the gross profit line, which gives us a structural advantage in the market. Second, we continue to execute on our commitment to drive efficiencies, carefully manage expenses and further expand our profitability. In the short time I've been here, I have implemented policies and programs to objectively examine spending initiatives, and I believe there are additional opportunities to drive durable growth while also expanding our profit margins through focus and discipline.

During 2023, across the company, we carefully managed expenses and maintained our headcount. Moving down the income statement. During the fourth quarter, we had positive non-GAAP net income of $11.4 million and $16.3 million for the full year, both surpassing the high end of our guidance range. The strong non-GAAP net income relative with our guidance was a result of the flow-through of our operating performance and the accounting treatment for gains on investments we made in 2021 and 2022.

Turning to the balance sheet. We ended the quarter with cash and cash equivalents and short-term investments of $238.6 million, up from $230.1 million in the previous quarter. Our cash flow from operations in the fourth quarter was $11.6 million. Turning to guidance. We're very confident in the underlying trends in the business and the capabilities of our team that continue on the path to deliver strong growth and profitability. Our business is very strong, and we are encouraged not only by what we've accomplished so far, but we are optimistic about what we see as the opportunities in front of us. Looking at the first quarter, we were off to a strong start with respect to net customer additions as we're seeing a similar seasonal pattern to previous years were customers that paused their subscriptions in the fourth quarter returned to the platform in Q1, a trend we attribute to the holidays. As mentioned in the forward-looking statements, we are now guiding to revenue, non-GAAP operating margin and free cash flow margin.

For the first quarter of 2024, we expect revenue in the range of $84.7 million to $85.3 million, which translates into a growth of approximately 20%. Because we are already 2 months into the first quarter, this range is a bit narrower than what we expect to normally provide during the remainder of the year. We expect a first quarter non-GAAP operating margin to be approximately 8%. For the full year 2024, we expect revenue in the range of $364 million to $368 million, which translates into growth of 18% to 20%. We expect full year 2024 non-GAAP operating margins to be between 10% and 11% and full year free cash flow margins to be in the range of 7% to 8%. To help you with your modeling, the difference between our non-GAAP operating margin and our free cash flow margin is a result of interest income offset by capital expenditures and cash taxes. Finally, our guidance assumes a euro exchange rate of 1.08. As a reminder, approximately 30% of our expenses are denominated in euros. In closing, we are confident in our ability to grow and scale our business and remain committed to a disciplined and balanced approach to spending in 2024. We are focused on driving improved efficiency and profitability even while we invest in future growth opportunities that we expect will deliver long-term value to our shareholders.

With that, we are happy to take any of your questions. Operator, please open the line for questions.

[Operator]

[Operator Instructions]. Our first question for today comes from Surinder Thind of Jefferies.

[Surinder Thind, analyst]

So Brian, just starting with the margin part of the story here, can you maybe walk us through the thought process of how you're balancing the growth of the profitability. It looks like the margin trajectory for us to be well ahead of expectations of, I think, where everybody was. Just any color or commentary there.

[Brian Mulroy, executive]

Yes. Thanks for the question. Look, the trade-off between growth and profitability is something that we think about every day, and it's a really extremely important question. It's something we need to get right. So our goal at Semrush is to achieve what we call an efficient frontier. So essentially, we're going to continue to invest in the business so long as that investment drives results and growth. But we don't want to spend past that where the incremental return doesn't justify that incremental investment. And for '23, '24 and for the foreseeable future, we do see opportunities to invest in the business and drive durable growth. Oleg and Eugene mentioned this in the prepared remarks, where we have an extensive market opportunity, and we've been able to deliver really good durable growth over the last few quarters. We're uniquely positioned to capitalize on that opportunity. We have 108,000 paying customers, over 1 million free users.

We're expanding our portfolio, and it's creating a really good compelling cross-sell and upsell growth vector for us. So as we said, our business is very strong. We're encouraged by what we've seen, and we're really optimistic about what the business has in store for us going forward. So I say this to say, look, growth is our priority. We're going to be investing in the business and efficiency and profitability is really important to us. This framework we outlined in '23, and we're continuing to operate with a framework in '24. We're after efficient growth. So we committed to sustained profitability in the last year. We originally guided 0 to $3 million of non-GAAP net income and ended up landing the year at $16.3 million, which was a $40-plus million increase in net income. So we're really pleased to see the results. We're going to continue with that framework in mind, being disciplined and balanced and making sure that we have the appropriate trade-off between investing in the business, driving growth, but also doing that in an efficient way.

[Surinder Thind, analyst]

That's helpful. And then in terms of just the new enterprise platform, getting it to general availability, any insights at this point from the initial set of users? And then how are you thinking about given it's an enterprise sale customer acquisition costs and maybe the payback period for something like that?

[Eugene Levin, executive]

All right. Thank you for the question. So early traction is very good. We are really working hard every day to scale our ability to onboard customers and delight them. But first batch of customers that we brought into the product, they're all very happy. A lot of them see great ROI, especially some of the early customers who use our link recommender workflows. So they will see already seen good results in terms of traffic improvements. So yes, we expect general availability in the first half of this year, working really hard, a lot of very positive traction. In terms of sales motion really, we just trained several sales reps. We made a couple of new hires. People have experience selling upmarket. But also when you go to, let's say, $50,000 per year range, you don't need entirely new sales team. So we really have a lot of players, and we just reallocated resources effectively from our SMB selling team to our enterprise selling team. We've built several new workflows in our CRM systems like adding a lot of CPQ components and other standard components for enterprise selling. But it's really just a normal course of business. Everything is relatively straightforward, and we're seeing very good [ ROI ]. If anything, we're actually seeing much better ROI when we use enterprise sales reps versus what you've seen historically with SMB sales reps. And even in the SMB segment we're making tons of money through our sales teams and then enterprise within efficiencies even much better.

[Brian Mulroy, executive]

Let me just add on the financial side. But just a few things to add on the financial side. We're really excited about the opportunity that enterprise provides for us. As Eugene and Oleg mentioned that it presents an ARPU inflection for us where the price point is about 10 to 15x what our average ARR is per paying customer. And of course, the customer acquisition costs are going to be higher, but we're preparing for that. And I'd say 2 things. One is, we're not going to see a significant change to our expense to revenue ratio on sales. As Eugene mentioned, we're driving efficiencies in our SMB selling motion and able to reinvest that back into enterprise. And we've already started making the investments in building a foundation for enterprise focused on 3 main things. First is bringing people and talent into the organization that are able to build relationships with senior level executives and move on from a transaction to more of a partnership with the customers we serve. We're building out a deal desk and have a deal that's already started to be able to navigate through the negotiation and procurement dynamics that come with an enterprise deal. And of course, we're building out an enterprise selling motion and process within our CRM system that facilitates the process from demand generation through the negotiation and close of the deal. So yes, enterprise is different. The cost structure is different, but we have the foundation in place and we're now starting to scale it up to be able to prepare for future growth. I appreciate the additional color.

[Operator]

Our next question comes from Scott Berg of Needham & Company.

[Robert Morelli, analyst]

This is Rob Morelli on for Scott. So customer distance were lighter than expected, but net new ARR added in the quarter versus that customer count was quite high. Is this a result of signing larger customers this quarter? Or are you seeing better cross-sell activity to existing customers to drive that net new ARR added?

[Brian Mulroy, executive]

Rob, thanks for the question. Really good question. So I think we should step back and just talk about our growth vectors, and then I'll sit again with the fourth quarter. So we've been very focused on 3 main growth vectors. One is to continue to expand our net new adds. We're at nearly 100,000 paying customers, and we believe we're in the early innings of adoption. There's millions of marketers and business owners out there who will gain value from our platform, and we're going to continue on that path in executing that strategy and extending out the number of net new adds. In 2023, we did add 12,000 net new paying customers. So we're really pleased with that progress. The second growth vector is around cross-selling and upselling. We do have a very extensive platform and portfolio of products, and we continue to invest in that. And to your point, yes, that is creating an inflection point in ARPU. We're able to increase our cross-sell and expansion and then drive ARR up. And then finally, we have very strong gross profitability. Our gross margin is at 83.6% in the fourth quarter, and that's up 100 basis points and it creates a structural advantage for us to be able to reinvest back into the business to enable strong partnerships and develop products that continue on that trajectory. For the fourth quarter specifically, not one thing. It is a seasonally low quarter for us. So because we have so many customers, nearly 108,000 paying and we extend from solo-preneurs all the way up to Fortune 500, there is a cohort of smaller customers that tend to pause their subscriptions during the holidays and then they returned in the first quarter. We're actually seeing very good traction in January and February and seeing that trend play out. So it's 1 quarter and something we just attribute to a seasonality dynamic.

[Robert Morelli, analyst]

Got it. It's helpful. And then, Oleg, you mentioned acquisitions in 2024. How should we think about that opportunity here, small tuck-ins? Or are you looking to execute on something more strategic?

[Oleg Shchegolev, executive]

All the time, a lot of attention to strategic reasons. And I would say we will be focused more on shares related to digital [indiscernible] and content marketing. And of course, we will give more attention to all these opportunities that we have in front of us.

[Brian Mulroy, executive]

And financially, we're well positioned to engage in M&A. So we have nearly $250 million on the balance sheet. We're projecting 7% to 8% free cash flow margin in '24 and starting to see private valuations get much more in line. So our appetite for M&A is something that we'll keep everybody updated, but for sure, something we'll look at in 2024.

[Operator]

Our next question comes from Adam Hotchkiss of Goldman Sachs.

[Adam Hotchkiss, analyst]

How would you characterize what the competitive environment looks like for you in the enterprise for those businesses that aren't using some rest today in the multi-user category, what are they typically doing in online visibility? And then how does your view on that inform the enterprise sales measurement that you're going after?

[Oleg Shchegolev, executive]

Thank you. If you talk about competitive environment, look, in our core business, we don't see any significant activities from our competitors. And at the same time, the enterprise now we are very, very optimistic about productivity lines and we see a very good projection and we see very positive feedback from our customers. And it is a little bit hard to talk about our competitors here. We can talk about it just from point of view of our customers. And once again, we see very positive feedback, and we don't see any significant activity from our customers. We see it like a greenfield opportunity, and we built many different integrated solution if you compare it to other players, what [indiscernible].

[Eugene Levin, executive]

Just to add a couple of points. We already have 5,000 clients who are large corporations, and they are perfect targets for us to sell our upmarket products. And those customers don't really use any else, usually, even some of them do, but most of those deals, like Oleg said, there are greenfield deals where you're not really competing with anyone. And in general, even when deals are competitive, we see very good win rates. So I think that's market dynamics that is very favorable for leading brands like Semrush, where our product is so much better than there is a lot of greenfield opportunity for us in existing user base, but also even when we have go head-to-head with other, let's say, enterprise SEO players, our product portfolio is very, very strong. In terms of adoption rates for other products, there's definitely going to be a big factor in product portfolio that we bring up market. So the first candidates for enterprise-level products would be those categories where we already have a strong traction, which is, for example, competitive intelligence or our local marketing products for our digital PR products. So again, there's quite a lot of traction already across the board, and those will be good products for us to add to the portfolio of enterprise products.

[Adam Hotchkiss, analyst]

Okay. Great. That's really helpful. And then what are your updated thoughts on free to paid conversion. Any changes in the way you're approaching free customers either through the product additions that you're making are in platform marketing that's giving you a little bit more visibility into what the opportunity there looks like?

[Brian Mulroy, executive]

Adam, I can take that. The way we think about free users, and we're really pleased to see it grew 30%. So we're now over $1 million. We think of about free users in 3 ways. First is we're training the next generation of marketers. So we're in over 60 universities as a core part of the curriculum and investing in that next generation and ensure that we can sustain durable growth when that next generation comes into the workforce and looks to Semrush to be able to facilitate and add value to the work they're doing every day. We also use it to test products that we often put free products into the marketplace, and we get a lot of free user adoption. And then over time, as we get traction and we get feedback and we fine-tune that technology, we monetize it. And we did that with the social media platform that we launched a while ago and then monetize it in the third quarter. So you'll often see products being pushed in and expansion of our free user base and then them coming back out when we convert them to paid. And then finally, there are a cohort of users who are small customers who are very early in their journey and can leverage the free version to start training their marketing capabilities and ultimately converting into a paying customer in the future. So we don't look at free users as a near-term metric to convert directly into a customer. It's more of a longer-term source of developing a foundation and building our business in the long run.

[Operator]

Our next question comes from Clarke Jeffries of Piper Sandler.

[Wayne Trinh, analyst]

This is Wayne Trinh on for Clarke. I want to go back to the pricing you announced back in Q3. I believe of 8% to new customers. Have you tested this existing? And how much of it is factored into guidance?

[Brian Mulroy, executive]

I can start with the guidance, and then Eugene can add some color on pricing in general. But yes, we did do about an 8% price increase in the third quarter. So we got about half a year of the revenue. We did mention at the time that it was about $3 million to $4 million of incremental ARR. So half of that in '23 and the other half coming through in '24. We're really pleased with the results we saw there. And Eugene, you should talk through more on our pricing. We have a very strong pricing asset and something that we're looking at all the time. But for now, in our guidance, we've, of course, baked in the impact from the pricing changes that we made in 2023.

[Eugene Levin, executive]

Yes. So there was part of the question about increasing prices for existing customers. So we did that as well. But for a very, very small cohort of existing customers. And when you do those kind of pricing changes you do like different scenarios and reality was much better than we expected. So I think it's a really good proof that our product provides so much value that people are willing to buy at higher prices. And of course, we use this information as we think about the future. I think the real question is when exactly we do more changes. But even right now, we are already monetization in several of our add-on products. For example, social media product prices have changed recently. And we will keep doing those changes when it makes sense. We're also doing big pricing research for core plants to finalize our thoughts about price elasticity and willingness to pay. And again, when the time is right, we'll do more, but there is unfortunately nothing to report right now, but we're very, very optimistic about our ability to improve monetization.

[Wayne Trinh, analyst]

Great. And I guess I saw net retention dip down a bit more this quarter. Is the pricing the main factor in that? And I guess, 2 months into Q1, what are you seeing so far? And what are you looking for in terms of a sign of a trough and recovery?

[Brian Mulroy, executive]

That's a great question. Our NRR, net retention rate is very strong, and we're really pleased to see the traction we're making on retaining customers, renewing them and of course, expanding them as they adopt more and more of our expanding portfolio. The net retention rate metric is actually a bit of a lagging indicator. So we have seen ARR and revenue reaccelerate. We did deliver 23% growth on ARR and then 20% and 21% growth, respectively, in Q3 and Q4 for revenue growth. NRR lags are behind about 2 to 3 quarters just because it's measuring over a 24-month period. So we'll see that trough in the next quarter or so. And then as we continue to execute on our strategy to cross-sell and upsell, which is a very important and successful growth sector for us and then move upmarket and start to see the advantage of our 10 to 15x average ARPU on enterprise, we'll start to see that flow through that metric.

[Operator]

Our next question comes from Elizabeth Porter of Morgan Stanley.

[Elizabeth Elliott, analyst]

I wanted to hit on macro quickly. Do you see any changes in Q4 as it relates to Q3? And any initial observations as we head into 2024? And also, if there's any differences you're seeing between smaller or larger customers? I know you're moving up market with that opportunity. But just if there was any differences to call out between those 2 customer cohorts, that would be very helpful.

[Oleg Shchegolev, executive]

Thank you for the question. We already mentioned [indiscernible] not every year and probably this year was a little bit stronger. At the same time, our first quarter looks very strong. And if you think about environment, it's very stable. It's a good demand for all our products for our core products and for new things that we launched last year and even for for things like local leasing and AI features and content marketing and so on, it's good demand. I would say, environment is very stable.

[Brian Mulroy, executive]

And welcome back, Elizabeth. Just on the question on the segmentation, Eugene mentioned earlier that we do have a cohort of more sophisticated enterprise accounts that are growing faster, they do adopt our expanding portfolio at a faster clip, the retention rate and expansion rates are higher. We are going to share a bit more about that and the stability it provides to the business and the ability to upsell with our enterprise platform. We'll talk more about that in the next couple of quarters.

[Elizabeth Elliott, analyst]

Great. And then just as a follow-up, your tools are able to drive a lot of efficiency for customers and their sales and marketing spend. You mentioned obviously using some of your tools internally. So I was just hoping to double-click to hear about how you are integrating your own tools, particularly some of the AI initiatives into your business? And what types of improvement you're seeing within sales and marketing and where that could go? Thank you.

[Eugene Levin, executive]

Using a lot of our own products. It's really, for us, almost a benchmark. Our products need to be so good that our own teams would use it, and our teams are very, very picky and they can buy anything. And most of the time, they choose Semrush for almost everything they do. But to like double click on this particular question, once AI improved in terms of content creation, we very, very quickly decided to scale up our content production operation. And we're not just producing more content now, but we are also making content of a higher quality, both in terms of how it trends and in terms of how people read it and engage with it. So really just different volumes of content production, different quality. And the tools that we use, of course, we use, for example, our organic and keyword research to understand topics that are relevant for our audience, but maybe not covered yet through our content. And then, of course, we use our content pricing tools such as right in the system, content shake to really put our content production on steroids and just ship a lot of great content very efficiently. We also, of course, use our products and especially competitive intelligence to find audience overlaps to improve our affiliate marketing partnerships. We use the same tools to identify good digital asset acquisition. So sometimes we buy content instead we're just building our self. So tons and tons of applications. Of course, our social media teams use our social media poster. Of course, our influencer marketing team uses our influencer marketing tools. Our PR team is using our PR tools. But like I said, that's pretty much given. Because like I said, one of the success criteria for us in products in terms of how we measure quality of all products is that our own teams use it.

[Operator]

Final question for today comes from Mark Murphy of JPMorgan.

[Arti Vula, analyst]

This is Arti on for Mark Murphy. You guys talked about this shift of resources from the SMB upmarket. And I think that makes a lot of sense. So do you guys expect any headwinds as you guys are shifting those resources away from the SMB and as you get those fires one in the aftermarket.

[Eugene Levin, executive]

Thank you for the question. So no, we actually see both sides of the market being great. It's more of a just number of customers that we already have that are large enterprises reached a certain point where we just couldn't ignore that. When you have thousands of customers who come to you on a regular basis and they say, "I'm willing to pay more money, but you have to build this and this and this for me." As volume of those conversations increases, we started to realize how big is the opportunity there. It doesn't mean we're unhappy with what we see on SMB front. On SMB front, we're adding a lot of great products, especially with our recent focus on AI capabilities. We're seeing a lot of traction in all those products. We've recently launched monetization of our social media tools that is doing great. We have very good protection with our local marketing products with a lot of SMBs using it on a regular basis, pretty much daily. So yes, I don't think there is any headwind. We're very excited about both sides of the market. At the end of the day, small companies need more traction in big companies need with traffic and we're there to help.

[Brian Mulroy, executive]

And one thing I'd add, just building on Elizabeth's question, Elizabeth was asking about our use of AI. That's a big contributor to the efficiencies we're seeing in the business. So we're now automating over 40% of the customer interactions. And the use and continued expansion of that is giving us a lot more efficiency on the SMB side and giving us the capability to be able to reinvest that into enterprise, which is why we're saying our [ EDR ] for sales won't expand overall despite the investment.

[Operator]

At this time, we chase no further questions. So I'll hand back to Oleg for any further remarks.

[Oleg Shchegolev, executive]

Thank you very support. We are now very pleased with our results and our execution in 2023, and we are very optimistic about our future. Once again, I thank you all for your support and look forward to keep you updated on our progress.

[Operator]

Thank you for joining today's call. You may now disconnect your lines.