Marchex, Inc. Q3 2008 Earnings Call Transcript

| About: Marchex, Inc. (MCHX)

Marchex, Inc. (NASDAQ:MCHX)

Q3 2008 Earnings Call Transcript

November 5, 2008 5:00 pm ET


Ethan Caldwell - Chief Administrative Officer and General Counsel

Russell Horowitz - Chairman and CEO

John Keister - President and Chief Operating Officer

Michael Arends - Chief Financial Officer

Peter Christothoulou - Chief Strategy Officer


Ross Sandler - RBC Capital Markets

Gene Munster - Piper Jaffray & Co.

Eric Martinuzzi - Craig-Hallum Capital Group

James Leahy - Morgan Joseph & Co., Inc.

Sameet Sinha - JMP Securities

Dan Salmon - BMO Capital Markets

Clay Moran - Stanford Financial Group


Good afternoon ladies and gentlemen, and welcome to the Marchex Q3 2008 earnings conference call. At this time, all participants have been placed on listen-only mode and we’ll turn the floor for questions and comments after the presentation.

It is now my pleasure to turn the floor over to your host, Ethan Caldwell, General Counsel and Chief Administrative Officer.

Ethan Caldwell

Good afternoon everyone, and welcome to Marchex's business update and third quarter 2008 conference call. Joining us today are Russell Horowitz, Chairman and Chief Executive Officer; John Keister, President and Chief Operating Officer; Michael Arends, Chief Financial Officer; and Peter Christothoulou, Chief Strategy Officer.

During the course of this conference call we will make forward-looking statements that involve substantial risks and uncertainties. All statements other than statements of historical facts included on this call regarding our strategy, future operations, future financial position, future revenues, and other financial guidance, acquisitions, projected costs, prospects, plans and objectives of management are forward-looking statements.

We may not actually achieve the planned intentions or expectations disclosed in our forward-looking statements and you should not place undue reliance on our forward-looking statements. Actual results or events could differ materially from the plans, intentions, and expectations disclosed in the forward-looking statements we make.

There are a number of important factors that could cause Marchex's actual results to differ materially from those indicated by such forward-looking statements as are described in the Risk Factors section of our most recent periodic report and registration statement filed with the Securities and Exchange Commission. All of the information provided on this conference call is as of today's date, and we undertake no duty to update the information provided herein.

During the course of this conference call, we will also reference certain non-GAAP measures of financial performance and liquidity including OIBA, adjusted OIBA, adjusted EBITDA, and adjusted non-GAAP EPS. A reconciliation of these non-GAAP financial measures to the comparable GAAP financial measures is contained in today's earnings press release, which is available on the Investor Relations section on our website and definitions of these measures as used by us and the reasons why we believe these measures provide useful information are also contained in today's earnings press release.

At this time, I would like to turn the call over to Russell Horowitz, our Chairman and Chief Executive Officer.

Russell Horowitz

On today's call, I'll give an update on the progress Marchex made in the third quarter. John will cover our operational progress in more detail and Mike will walk through our financial performance and outlook for the remainder of the year.

Let me begin by saying that Marchex's focus on the local opportunity is as clear as ever. Because of the investments we have made over the past year and our focus throughout the company, we continue to hit the major operational milestones we laid out at the beginning of 2008.

While the unprecedented fluidity in the economy makes it more difficult than ever to predict the future, we believe that the local online opportunity is still on track to outpace the growth of overall internet advertising and we are therefore well positioned in one of the most important markets within internet advertising over the next several years.

One of the reasons for this belief is the fact that advertising from the millions of local businesses is transitioning to performance-based online advertising and therefore is more resilient in the face of economic pressure.

According to Borrell Associates, the transition of local advertising dollars online from offline may actually be accelerating because in this economic climate local advertisers are moving their dollars to the channels that provide the most control, measurability, and efficiency. As a result, Borrell is forecasting growth in local online ad spending over the next year while anticipating a decrease in national online advertising dollars. Furthermore, Marchex continues to add local merchants to our local partnerships at an impressive rate even in the current environment. These local advertisers are focusing their dollars on highly measurable, locally targeted online channels and solutions, the kinds of solutions that Marchex excels in delivering at scale.

We are realistic about the impact economic conditions will have on overall national advertising dollars including from some of the national companies that market locally. However, we believe that compared to traditional media and display advertising, online performance-based advertising will be less impacted by these conditions on a relative basis because it delivers accountability and more transparent return on investment.

Additionally, while forward visibility is over for nearly every company including Marchex, because of our product progress throughout the year, we are now at a place in our business where we believe that incremental growth can lead to incremental margin expansion. Furthermore, just as we did in the third quarter, we are keeping a very close eye on both business trends and costs as this is the right thing to do given the uncertain economic environment.

Let me move now to our business update starting with the advertiser side of our business. In the third quarter, we continued to experience strong local advertiser growth adding more than 5000 new advertisers to our direct sales channel and local partnerships. The number of local advertisers using Marchex's products and services is now more than 80,000.

On the product side, in the quarter we launched a new version of our local advertising platform, Marchex Connect. This innovative product release furthers Marchex's position as a leading partner for resellers and advertisers who want to generate local leads at scale through clicks, calls, emails, and more. Through the click-and-call tracking capabilities and highly tractable business profile pages that Marchex Connect delivers we are providing our partners the proof of return on investment that advertisers are increasingly demanding. The response to our new version of Marchex Connect from our partners, prospects, and the industry at large has been very positive. In August, Marchex Connect was recognized as the best advertising platform in the industry for small to medium-sized businesses by an independent panel of online advertising experts.

In addition to fueling our advertiser growth and increasing our market share, the investments and innovations we have made in Marchex Connect are enabling us to continue building on our base of more than 110 local partner relationships. In the third quarter, we continue to deepen our relationships with key existing partners such as AT&T and Idearc and add new partnerships including with Mitchell 1, the leading provider of marketing solutions to auto part suppliers nationwide, and Barrington Broadcasting Group, an owner of local television stations and one of the fastest growing media companies in the United States. Our partnership with Barrington marks Marchex's expansion into local broadcast media and we expect it to be the first of many more local and vertical media partnerships to come.

We have a number of exciting new partnership opportunities in the pipeline that are well-positioned to move forward because of the unique performance-based products that Marchex Connect enables for partners.

While the economic environment is very challenging, we believe that Marchex can capture additional market share over the coming months and quarters and if we do so, we will be well positioned to outperform in the long term.

To that end, when it comes to gaining market share, we are also making solid progress with Marchex Adhere, our performance-based advertising marketplace for premium publishers and advertisers that we launched in June as part of our brand consolidation effort.

In the third quarter, we added 23 new premium publishers to Marchex Adhere, including Wireless Week,, and 1105 Government Media, who is the publisher of leading websites such as Federal Computer Week and Government Computer News.

Marchex Adhere is a clear alternative solution for the many publishers who are seeking more control over their inventory, brand and online revenue streams. In part because of the changing competitive dynamics in the market, we see a significant opportunity to take additional market share with premium publishers as Marchex Adhere gives them control over their inventory and eliminates the risk of having the value of their inventory diluted by lower-quality sites, which is most often the case with other solutions.

Increasing the vertical distribution footprint of Marchex Adhere is a key component in fulfilling local advertiser budgets as well as in further penetrating national accounts and up-selling them additional Marchex services such as call-based offerings.

Let me now turn to the local search side of our business where we also continued to experience solid growth in the third quarter. In September, more than 33 million unique users visited our local search network, up from 32 million in June 2008. Traffic growth was again particularly strong in our local reference websites, which are those sites in our network including, and geo-vertical sites such as that help consumers find local businesses and services. We continue to see growth in repeat business, page views, and click-throughs as consumers continue to increasingly utilize our site as primary source of local information.

Additionally, in the third quarter we continued to experience high demand for our proprietary local traffic from our partners and direct advertisers. Again this quarter, we increased the amount of inventory available to Marchex advertisers on a proprietary local search network in order to meet this demand. Our continued growth in traffic, consumer and merchant engagement, and demand for our traffic is a good indicator that our investments in our local search network are continuing to pay off even in the face of the current economic conditions.

To quickly touch on some non-operational highlights; in the third quarter we sold a small number of non-strategic domains that yielded approximately $1.6 million in cash. This brings the total yielded from sales of select domains to approximately $4 million over the last two quarters. This contribution is excluded from adjusted OIBA and EBITDA, but provides additional cash flow and liquidity to support stock repurchases and other strategic objectives.

The market for quality domains with organic traffic continues to be good and Marchex has substantial unlocked value in non-strategic domains in our portfolio. We will continue to be opportunistic with selective sales of these domains moving forward and believe it can be a meaningful supplement to our ongoing free cash flow generation.

We also continue to be active with our stock repurchase program, which Mike will detail in a few minutes. Our continued commitment to our share repurchase program is a reflection of our ongoing commitment to the Marchex opportunity and belief that our shares continue to represent a compelling value in the market.

With that, I'd like to turn the call over to John to provide more details on our operational progress in the quarter.

John Keister

As Russ mentioned, as a result of our product and operational progress throughout 2008 and Q3, we believe Marchex is in a particularly good position to deliver value for our advertisers and partners who are focused on performance-based solutions that deliver highly qualified local leads through clicks and calls.

We achieved a major product milestone in Q3 with the ahead-of-schedule release of the new version of our Marchex Connect platform. This release integrated three major local advertising capabilities.

One, online marketing campaign management; two, call-based advertising and analytics; and three, business profile pages which are highly tractable, search-engine optimized web pages for local businesses.

Marchex Connect 2.0 enables us to provide our local partners with the innovative performance-based advertising products they need to migrate more of their advertiser spends online and improve return on investment. We believe the capabilities offered by Marchex Connect will further our lead over other companies trying to serve the local market opportunity. No other provider has a platform supporting more than 80,000 active advertisers, campaign fulfillment levels that are consistently over 90%, access to a high-quality traffic base such as the one we have with Adhere, ownership of call-tracking technology, and finally the ability to deliver click, call, and lead-based programs. These differentiators are absolutely key to acquiring new partners including the new partners we are targeting for launch in the next number of months.

Since its launch in August we have already been gaining traction with Marchex Connect 2.0. Since the release, we have launched more than 1500 business profile pages and they are already producing measurable results for our advertisers. In the majority of cases, the profile pages began driving meaningful, qualified organic traffic very quickly after launching. This is very significant because not only is organic traffic highly qualified, but it is also a critical element for maximizing return on investment and profit margins for our partners. This ability to drive organic traffic at scale is a key differentiator for Marchex compared to others in the marketplace. This capability is beginning to open doors to new relationships with partners.

Our partnership with Barrington Broadcasting Group is another good example of our ability to provide local aggregators in all segments of the local market with products and services best suited for their advertisers. Marchex is enabling Barrington's network affiliated television stations to sell local online lead packages and business profile pages through their advertising customers on a budget basis. This means we manage the online advertising spends for Barrington's advertisers across our wide range of distribution sources such as Google, Yahoo, and Marchex Adhere as opposed to delivering a fixed number of clicks only.

Since its launch in June, Marchex Adhere has also been gaining momentum with premium vertical publishers in the key categories that are a prime source of distribution for local and national advertisers. Marchex Adhere has an anti-network approach, meaning we offer every premium publisher the opportunity to have advertisers by placement on their specific website. Premium publishers want transparency into the strength of their brand and the true value of their inventory. This is not possible in a network model, which forces advertisers to take all publishers in the system thereby diluting the value recognized by the most premium publishers. Marchex Adhere provides the control the publisher need and this is leading to many wins on the publisher front. Marchex Adhere, which is bringing together vertical, local, search, and mobile traffic sources is also a key differentiator for us in the local marketplace where effectively utilizing these in-demand, but fragmented distribution sources, has to this point been a challenge for advertisers seeking to reach local consumers.

Expanding our local distribution and publisher relationships across additional verticals while deepening our already significant coverage in our existing verticals is a priority for Marchex in the coming year. A broad distribution footprint in key verticals is an important factor in Marchex winning new partnerships like the one we have with Barrington.

Coming on the heels of the Marchex Adhere launch, we achieved another key brand consolidation milestone with the Q3 launch of the Marchex Digital Platform Group. The Digital Platform Group unites our performance-based private label local lead generation products and services for resellers and national advertisers with local interests, all under a single brand with the Marchex Connect platform at its core. This initiative is a key part of driving further efficiencies in our business.

And now I'd like to turn the call over to Mike to walk through our financial performance.

Michael Arends

Revenue for the third quarter was $37.2 million compared to $33.5 million in the third quarter of 2007. Revenue from proprietary traffic sources was $19.7 million. Revenue from local advertising services was $17.5 million. Similar to the first and second quarters this year, the third quarter was characterized by our efforts to continue taking more of our own advertising inventory and making it available to Marchex advertisers. As we have previously communicated, taking over more direct inventory has been one of our most important 2008 initiatives as we seek to improve yield across our network. I'm pleased to note these initiatives are on track and have had a favorable impact this year.

As a reminder, a dynamic associated with these efforts that is important to understand is as follows. As Marchex takes more of our own direct advertisers budgets and fulfills these spends on our proprietary websites, like with, more of these dollars are recognized as proprietary revenue rather than third-party advertising services revenue. As a result, the mix shift between our sources of revenue may change quarter to quarter as we continue to sell more of our direct advertising inventory.

It is important to note that consistent with previous communications we are likely to slow our efforts to take additional inventory going forward as our emphasis turns to focusing on better sell through as well as improving relevancy of advertisements placed across our network. We expect this second phase to be an ongoing initiative that will last through 2009.

Looking at the principle factors that contributed to our revenue in the third quarter; first, the positives, we had strong growth in revenue from our proprietary traffic sources on a sequential and year-over-year basis. This was driven by increased traffic on our local reference websites where our product progress has generated increased user retention and repeat traffic which we have complemented with our strategic marketing initiatives. We also had a significant increase in paid events generating more than $180 million in the third quarter, up from more than $125 million in the second quarter of 2008. The sequential increase in paid events was largely driven by increased traffic relative to the second quarter, driven by organic traction, increased repeat usage, and strategic marketing initiatives.

We also had better execution in fulfilling against growing advertiser demand for our traffic. During the quarter, we continued to experience strong demand from local advertising partners for traffic from our local website due to their quality and conversion rates.

Additionally, we expanded inventory on our sites as we increased the amount of inventory we were selling directly to advertisers. This is an initiative that we had previously communicated was disproportionately weighted to the first half of the year, and would slow as we enter into the fourth quarter and into 2009.

And finally, we saw continued growth in our small and medium-sized local advertisers, which as Russ mentioned, grew by 5000 advertisers in the third quarter. Going forward, we expect advertiser additions could be lumpy as it is difficult to predict the timing of when certain resellers decide to expand their sales efforts or go from limited to full implementations of the different services offered by Marchex Connect in particular.

And now, the items that adversely impacted the quarter; we saw sequential revenue decrease of more than $1 million in the third quarter from our Sitebox product, which offers website monetization to third-party domain name owners. During the quarter, certain partners were acquired and others were removed based on their not being aligned with our local strategy. We expect the contribution of Sitebox to our operating results to be lower in our current quarter based on our reduced focus on this non-strategic area versus Marchex's other strategic opportunities. This is something I will address more in a moment.

Additionally, we saw continuation of trends from the second quarter with lower budgets in spending from certain large national advertisers in the retail and shopping categories who we believe were and continue to be disproportionally impacted by macroeconomic conditions.

In the fourth quarter so far we continue to see weakness with a variety of large national advertisers including those in the retail and shopping categories as well as in other verticals such as autos, technology, and financial services.

Furthermore, a legacy customer of voice services last quarter started migrating out of voice services. We expect the migration, which negatively impacts our operating results and total advertiser numbers net of local advertiser additions, to be complete in the fourth quarter and is factored into our forward financial guidance.

Based on our pipeline and continued customer wins, we still expect to meet our 100,000 advertiser target by the end of 2009.

Total operating costs, excluding stock-based compensation and amortization of intangible assets for the third quarter of 2008 were $30.6 million compared to $28.7 million in the third quarter of 2007. In looking at the mix in operating costs for the third quarter, our service costs excluding stock-based compensation decreased as a percentage of revenue on a year-over-year basis largely due to the shift in revenue mix which led to a larger mix in revenue coming from proprietary traffic sources.

Excluding stock compensation expense, sales, and marketing was $7.9 million. In the third quarter, sales and marketing included added costs for our re-branding initiative which we previously announced would largely be spread between the second and third quarters as well as increased marketing initiatives to increase brand visibility as well as to acquire direct advertiser relationships. We also increased marketing for our local websites as we continued to experience strong demand from advertisers for traffic from this channel. As our marketing execution improves on these sites we may increase our marketing over time.

Other operating costs for the third quarter included additional investment in our local initiatives including additional investment in product development, increased technology infrastructure costs, and additional profession fees including intellectual property initiatives. We believe these investments are critical to Marchex achieving leadership in the local market over the long term.

Adjusted operating income before amortization for the third quarter was $6.6 million. Adjusted EBITDA for the third quarter was $8.9 million. Adjusted operating income before amortization and adjusted EBITDA are two of the principle metrics we use to measure the progress of our business, liquidity, and our ability to generate cash.

GAAP net income applicable to common stockholders was $1.3 million or $0.04 per diluted share for the third quarter 2008. This compares to a GAAP net loss applicable to common stockholders of $1.5 million or $0.04 per diluted share for the same period of 2007. Adjusted non-GAAP earnings per share, an estimate some Wall Street investors utilize as a supplemental measure of our operating progress, was $0.11 per share for the third quarter.

Now turning to the balance sheet; we had approximately $29 million cash on hand as of September 30, 2008. During the third quarter, we used approximately $8.5 million to acquire 745,000 shares, bringing our total shares acquired under our repurchase program to 4.6 million shares or 12% of our common shares outstanding.

Importantly, Marchex will continue to generate significant cash flow in the fourth quarter and into 2009. We believe cash provided from existing operations along with the incremental cash we expect to generate from the sale of non-strategic domains puts Marchex in a strong position to have significant financial flexibility going forward.

We will continue to use some of our cash to fund our existing share repurchase plan as well invest in our long-term growth initiatives. Additionally, we remain focused on our expense structure in the current economic environment and will monitor business trends closely to ensure we maintain an efficient operating structure.

I would now like to discuss our guidance for 2008 including guidance for the fourth quarter. Today, based on the net impacts of all the various factors we have discussed today we are adjusting our 2008 revenue guidance to a range of $146.5 million to $148 million, which implies a fourth quarter revenue range of between $35 million to $36.5 million.

To reiterate, the principle factors impacting our guidance are; one, our ongoing initiatives to narrow our business focus around our long-term strategic growth initiatives in the local arena has led us to a decision to deemphasize our Sitebox products for third-party domain owners. We expect this initiative will reduce Sitebox revenues from its prior contribution level of approximately $2.5 million in each of the first and second quarters of 2008 to less than $1.5 million in the third quarter and down to approximately $500,000 in the fourth quarter.

And two, we expect lower budgets from advertisers in the fourth quarter on a year-over-year basis. As other companies in our industry have recently noted, the challenging macroeconomic environment has led to decreased visibility on marketing commitments as well as lower overall budgets from advertisers compared to prior periods.

We continue to operate in an economic environment that is fluid and unpredictable for many of our advertising partners. As a result of this environment and the items I just mentioned; for the fourth quarter we anticipate we may see a sequentially lower quarter in our local advertising services line with a modest impact to our local search network as we slow the rate in which we expand our direct inventory while we focus on product initiatives to continue improving relevancy. As a reminder, we also typically see some seasonal decrease in traffic levels late in the fourth quarter.

Despite some of the headwinds in the fourth quarter, for adjusted operating income before amortization for the full year 2008 based on our progress and growth with our high-margin strategic revenue streams such as local search and agency fees from Marchex Connect combined with our cost management discipline, we are raising our guidance for 2008 to a range of $22.4 million to $23.2 million. This annual range implies a fourth quarter 2008 adjusted operating income before amortization range of $5.3 million to $6.1 million. We are on track with the investments and operational milestones in our business and as a result continue to believe we will see strong cash flow generation and operating contributions going forward.

For 2008 adjusted EBITDA, we expect to add back $9.5 million to our adjusted operating income before amortization implying a range for adjusted EBITDA of $31.9 million to $32.7 million. For the fourth quarter, we anticipate adjusted EBITDA of approximately $7.3 million to $8.1 million.

Despite today's macroeconomic challenges our business remains well positioned to gain market share as local advertising dollars migrate to performance-based models and as we continue to make progress with our partnerships and products. Additionally, we continue to manage our cost structure effectively. In the months ahead, we will keep a close watch on business trends and our costs.

We continue to believe the local online opportunity is in its early phases for advertisers and consumers alike and that our business is better levered to this trend than ever before. As we continue to make progress with our business we look forward to updating you on our outlook.

With that, I'd like to turn the call back to Russ.

Russell Horowitz

Let me conclude by emphasizing a few key points. In a macro environment as challenging as the one we're all facing we feel very fortunate that Marchex is well positioned with the local opportunity as we believe local will outperform compared to other segments in the advertising industry. Because of our continuing focus on local, our consistent operational progress, and the investments we have made in the local opportunity, Marchex is on the right track and in the right category. As a result, Marchex's foundation is solid and the most strategic and local parts of our business should continue to outperform on a relative basis despite the overall economic climate.

While we are realistic about the impact the challenging economic environment is having particularly on national advertising dollars we believe that Marchex is in a very good position to continue capturing local market share. We intend to build our market share by creating the advertiser and publisher relationships and the strategic partnerships that will position Marchex for long-term leadership in the local advertising arena. We are confident that we can continue to build these relationships during the current economic environment. We're excited by the challenge and we believe we can come out in a better relative position as the economy recovers.

Also, with Marchex's strong operating cash flow characteristics, the ability to supplement cash flow with sales of non-strategic domains, relatively low capital needs, and a cash-rich, debt-free balance sheet, Marchex has the capacity to be opportunistic in the current environment. If we can continue to support our partners, build great products for advertisers and consumers, and grow Marchex's market share while continuing to maintain financial discipline, we feel Marchex will be well positioned to create real differential long-term value for our shareholders.

With that, we'd like to open it up for questions.

Question-and-Answer Session


(Operator Instructions). Our first question is coming from Ross Sandler – RBC Capital Markets.

Ross Sandler - RBC Capital Markets

Just a couple of questions; first one is just a nit-picking question for Mike. Of the network revenue, the $17.5 million in the quarter, how much of that would you characterize as national type advertisers? I'm trying to figure out as we're obviously in a tough environment, what do you think that you're at a stable run rate or could that potentially step down again in '09? And then, on the local side, I think we had talked in the past in terms of the total advertising mix of slightly over 50% of your revenue is coming from local advertisers or local aggregator partners; has that mix increased and what's the growth rate on the local piece, and can you talk about in the third quarter, how things trended from July versus August versus September? Did you see things tail off at the end of the quarter and particularly as it relates to the local business?

Russell Horowitz

The way we characterize the revenue is really looking at that local and strategic revenue and to benchmark where we are, how we got here, and where we think it goes, at the end of 2007, about half of our revenue was local and strategic. When you look at where we currently are, that's grown to about 80%. And if you think about the trajectory of how that is going forward, we think it's consistent, and you'll see that percentage continue to grow. And that factors in that we support small and medium-sized businesses through resellers, national advertisers who market locally; both of which we think are a better position, although not immune to the current environment as well as national advertisers who may focus more vertically where as we noted there has been some softness, but we believe that there are some fundamentals in place that at least give us encouragement on why it's the right thing to continue building and supporting our local mission. So hopefully that can directionally give you a sense for where we are and where we think it goes from here.

Michael Arends

And just to answer the last part of your questions, the trend, as Russ has mentioned, for the local and strategic has been growing since the end of '07 to now and that trend is consistent when you look at the months of July, August, and September. So, as a percentage, those amounts have been increasing and there has been more relative weakness in the other areas.

Ross Sandler - RBC Capital Markets

Okay. And then just one quick follow-up. You mentioned this new Digital Platform Group launched in the third quarter; so how is that strategically different than Connect and Adhere as two separate groups? Is it just kind of integrating the two of them? Can you explain that a little bit more?

John Keister

Essentially what the Digital Platform Group does is bring together the Connect platform that you mentioned with our voice business and with also the national agency business, which is focused on national businesses that target locally versus the Adhere business which is focused on direct advertiser relationships and the traffic side of our business.


Our next question is from Gene Munster – Piper Jaffray & Co.

Gene Munster - Piper Jaffray & Co.

On the local side, it sounds like you're shifting away from some of the businesses that aren't as focused longer term in the key areas like Sitebox, but you mentioned you want to focus on product initiatives to approve relevancy. Is there anything in particular that we should be focused on or is this just a general shift or are there some new initiatives that are going on on that front that will do just that to improve relevancy?

Russell Horowitz

The way I would look at that is we recognize that one of the key value propositions we have to drive for both our own traffic and for premium publishers is around targeting and really solving the local problem in terms of how we target and drive relevance in yield. And so when we talk about de-emphasis of Sitebox as the monetization solution for third-party domain owners, we see our greatest relevance to advertisers delivered through our premium publisher partnerships and our own websites and traffic sources versus those third-party domain sources. And so we want to shift resources to accelerate our product initiatives around driving new relevance and yield which we think is the way we create the most equity value for Marchex.

Gene Munster - Piper Jaffray & Co.

And on the side of some of the domain names you have been actually selling, is that going to be a continued trend or how should we think about that going forward?

Russell Horowitz

We expect to do that indefinitely. When you look at having only sold a small handful of names to date and knowing that we've got thousands of domains that we view as non-strategic and saleable.

Gene Munster - Piper Jaffray & Co.

And then lastly on the side of the cost; it seems that that's becoming more of a focus, and is this something where we're going to continue to see expense control or is this going to be kind of a more-or-less a one time a quarter event?

Michael Arends

No, I think fiscal discipline definitely is a theme. I think it will be dependent in terms of our progress and growth initiatives from our revenue streams, but at the same time, we're definitely focused on the cost structure and making sure that we align the cost structure with the revenue stream.


Our next question is from Eric Martinuzzi – Craig-Hallum Capital Group.

Eric Martinuzzi - Craig-Hallum Capital Group

You talked about a legacy customer discontinuing their use of your voice services. Could you talk about some of the reasons why that happened?

Russell Horowitz

Yes. There was a customer that came on board when we acquired Voice Star which became Marchex Voice Services and they made a decision to move to an alternative solution and that had nothing to do with the quality of our product, service, or price. So it was for reasons beyond our providing that service as the leader in the marketplace, which means there is not much we can do. We understand why they made the transition and we messaged today what that means in the context of the business to provide as much transparency as possible. Voice Services, within Marchex's Digital Platform Group, has grown at very healthy rates this year and we forecast that it will continue to be a source of growth going forward.

Eric Martinuzzi - Craig-Hallum Capital Group

I'm concerned that this particular customer might have their own in-house solution and therefore they needed to, once they had that ramped up, they needed to port that traffic over to their own service. Is there a risk that they come after other customers in the base with bundling?

John Keister

Just real quickly, it's tough for us to provide a lot of detail around strategic decisions of our partners, but I think as Russ indicated, this was something where they moved to another solution, it was not an in-house solution, and again, it was not based on price or the quality of service that we've been delivering them for the last period of time.

Michael Arends

And just to add onto that Eric, about the last part of your question; we still see the Voice Services as an area of healthy growth in 2009.

Eric Martinuzzi - Craig-Hallum Capital Group

The 200 premium publishers you've got now inside of Adhere; you talked about adding 23 new. Is there anything we could pick up as far as trends in traffic acquisition costs, the contracts that you've nailed down with those folks; do we see stability, do we see erosion in the rev shares there?

Michael Arends

I think when you look at traffic, obviously traffic from a premium publisher is something that comes at a premium price, but at the same time when you think about our shares that we're paying out to our distribution partners, I think we could forecast even with some of the additions of the premium publishers a stable to a nominally increased rate on the revenue share, but stable rates going into 2009.


Our next question comes from Jim Leahy – Morgan Joseph & Co., Inc.

James Leahy - Morgan Joseph & Co., Inc.

A couple of questions; first is just a housekeeping question; if you would go over or just indicate cash flow in the quarter; and second, with the number of advertiser additions, you said 5000 in the quarter and it looks like you need to do about 20,000 by the end of next year, if you could give us a sense of how you see that tracking, is there a chance that that number could be a negative number at some point over the next five quarters? Just some color on that would be great?

Michael Arends

To answer the first part of your question Jim, operating cash for the quarter was $8.2 million and purchases of property and equipment for the quarter again were around $900,000, and we've been tracking a little under a million dollars for the last few quarters and we would propose and expect that we're going to still be in that range of about a million dollars a quarter on a go forward basis for CapEx. In terms of the other part of the question about advertiser additions or changes, we do have the One Voice services partner that we talked about in the accounts and the impact of that. That is one area where it could be lumpy, but again, we could make significant strides in a given quarter and add many thousands of accounts in any given quarter. Our focus is on, by the end of 2009, the numbers that we've previously talked about and talked about again today, getting to 100,000 advertisers in the system.


Our next question is coming from Sameet Sinha – JMP Securities.

Sameet Sinha - JMP Securities

Could you qualify what sort of growth you're seeing, I mean you're seeing new advertisers coming onto your system, could you tell us, are they the major drivers of growth or are existing advertisers also growing and if you could quantify, that would be very helpful. And I have a couple of follow-up questions.

Russell Horowitz

Both the advertisers coming to Marchex through our reseller partners is driving positive results and the direct advertisers. We continue to add a lot of high-value advertisers on a direct basis and those transactions are favorable. Where we have seen the offset which we messaged today is short-term weakness based on the macroeconomic environment. So unfortunately, some of what we think is real progress in high-value advertisers through our direct and indirect channels, is being offset by some of those short-term lower spending or elimination of marketing budgets in some of the verticals that have been most susceptible to date. We believe that adding the premium publishers we are, knowing that premium advertisers value those brands and audiences significantly, can be a driver of growth going into next year, but like other companies, we lack the same kind of visibility that folks did a few months back and so we're taking a cautious outlook although we have a favorable view on the opportunity of Marchex as we move forward into 2009.

Sameet Sinha - JMP Securities

Okay. And the second question, you mentioned that you're slowing the rate of direct inventory that you'd want to take under control, wouldn't that be a positive for your revenues because you're monetizing it, the inventory that you were taking under control, you'd be monetizing it at a slow rate than some of your partners were?

Michael Arends

So in terms of the inventory, our focus and part of the reason we're just going to slow down the amount of direct inventory that we're taking, is to continue and refocus on relevancy and relevancy ultimately can be part of driving yield as well, but that's where making sure that we're yield targeting and that we're vertically targeting the things for our customers that they're looking for, that's the relevancy focus that we're going to be working through over the next number of months.


Our next question comes from Dan Salmon BMO Capital Markets.

Dan Salmon - BMO Capital Markets

Two quick ones; in your sales and marketing spend, can you give us some color on how that breaks out between page search and other sources, whether that's buying from networks and some of the dynamics that may be going on there and the differences between the two. And then as a follow-up, it sounds as if margin lift continues to happen and I know obviously a big part of that is the shift to the proprietary sites and then also dynamics with the search spending, but is there anything going on with initiatives with G&A spending; some of the more core fixed costs that we may call them?

Michael Arends

There are a few parts to that, and I'll start with the first part which is the sales and marketing. We have that bucketed out. Personnel, is a key part of that. There is a variable component, commission bonus element, there are initiatives from a rebranding, marketing initiatives related to the rebrand and the launch of the Digital Platform Group brand, as well as Marchex Adhere, and then there are a lot of the paid search or the customer acquisition, the advertiser acquisition amounts. In terms of the relative change on a sequential basis over the second quarter compared to the third quarter, we did have more amounts for commissions and bonuses in the third quarter. We did have more amounts from the rebranding initiatives and the sum of those changes is probably a few hundred thousand dollars. The remainder, which is another few hundred thousand dollars, would be the increase in the customer acquisition and the paid search, the strategic marketing initiative.

The second part of your question I think related to the margin shift when we moved more to the proprietary traffic sources. And yes, I think when we do move more of the volume of the revenue streams to the proprietary traffic sources, you are going to see a fairly significant margin shift and that's exemplified in the third quarter movement. I think the other thing when you're talking about from a cost structure perspective and just reflecting fiscal discipline, I think we'll look at all areas. So whether that would be in G&A, whether it would be in service costs as well as the sales and marketing, those are areas that we would look at and make sure that we're healthy and that we're consistent with the framework of our revenues. The one thing I would want to add is that with incremental growth in the revenues from where we are today we do see increasing leverage and incremental margin contribution that can come from that.


Our next question is coming from Clay Moran – Stanford Financial Group.

Clay Moran - Stanford Financial Group

A couple questions; can you update us on which advertising categories are now the largest contributors to revenue? Can you also give some detail around what percentage of traffic is direct type-in and what percentage of users are repeat users?

Russell Horowitz

As it relates to the largest revenue contributions, it's far and away local. Local drives the business and has been a primary driver of our strategic focuses and priorities, and as we mentioned, local and strategic currently is at about 80% and going up. As it relates to type-in traffic, there are a variety of organic sources and we don't specifically break out type-in traffic, but the vast majority or super majority of our traffic comes from those organic sources.

Michael Arends

Just to follow up on that, in terms of the mix of the growth in some of the proprietary traffic from the second quarter sequentially into the third, it's a fairly even mix; there was organic growth, there was repeat visit growth, and there was also growth coming from strategic marketing activities.

Clay Moran - Stanford Financial Group

Okay, so local is the biggest category, I get that, but can you give us the verticals, finance, travel, retail; which areas are now contributing the most to revenues?

Russell Horowitz

When you look at local being driven, in terms of being the largest and that's growing revenue source, that's driven through our horizontal initiatives, which we described as products like and, which provide access to consumers and advertisers across the entire local spectrum. And then we supplement that with premium partner relationships in categories like finance, technology, as examples, and even real estate, and so those areas have a combination of local and vertical advertisers, but those tend to be our strongest verticals.

Clay Moran - Stanford Financial Group

Okay. And any sense of the percentage of users that are repeat users at this point?

Russell Horowitz

It's not a specific metric we've broken out although we have messaged that we've seen positive trends as it relates to the volume of users, the consumption of pages by users when they come, and the frequency of repeat visits by those users as well. So while it's not quantified, the trend is favorable.

Clay Moran - Stanford Financial Group

Okay. One more question if I could? You talked about deemphasizing Sitebox. I think it was a year ago you decided to deemphasize, if I remember correctly, a bunch of the different sites and I guess focus on the referenced sites. Is there anything else out there that's sizeable that you might decide to deemphasize in the future?

Russell Horowitz

We don't see anything today that we believe represents that and we think we are focusing on all the parts of our business being local and strategic. With Sitebox, we viewed that as a potential opportunity to focus on third-party geo domain owners. What we have found is working with premium publishers and our own traffic sources and websites gives us a greater degree of ensuring relevance to advertisers, and so that transition didn't necessarily happen in the manner that we thought it might. And with that in mind, recognizing we've got no shortages of opportunities that we think can drive real equity value creation, we went ahead and made the decision to focus those resources in these other areas. We have greater control for these relationships.


Our final question is a follow-up coming from Ross Sandler – RBC Capital Markets.

Ross Sandler - RBC Capital Markets

Two quick follow-ups. If we just try to simplify the proprietary business down to price and volume and then you provide the metrics around paid events and revenue from paid events you can back into, when do we think that yield metric, and I think you can control the volume side fairly well internally, when do we think the yield metric might trough out? I know we had talked previously about this quarter, potentially next quarter; do you think given the macro weakness it's an early '09 trough or how do you think about that? And then the last question, what did Yahoo contribute in the quarter on the domain side?

Michael Arends

This is a similar question to what we had last quarter as well and a similar type of outlook. So the context is we have been for the last number of months and the last few quarters been seeding the market and focusing on relevancy and ultimately on yield. And I think where your question was getting at was more rate; when we think about yield, we actually don't just think about rate, we think about ultimately revenue growth and contribution growth. So I think in your context, you're focused more on the rate; and specifically the outlook is similar to what we said. It's the same context. We said last quarter that over the next few quarters we did expect to see a trough. I think that outlook is consistent today and whether we're there or not yet, if we aren't there, we're certainly close to it.

The second part of your question, I think with the Yahoo contribution for the quarter; and Yahoo total contribution for the quarter was approximately 8% of revenue.


There are no further questions. Do you have any closing comments you'd like to finish with?

Russell Horowitz

We appreciate everyone participating today and we look forward to reporting to you on progress as we move forward. Thank you very much.


Thank you, ladies and gentlemen. This does conclude today's conference. You may disconnect your lines at this time and have a wonderful day.

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