Shutterfly Management Discusses Q4 2012 Results - Earnings Call Transcript

Feb. 5.13 | About: Shutterfly, Inc. (SFLY)

Shutterfly (NASDAQ:SFLY)

Q4 2012 Earnings Call

February 05, 2013 5:00 pm ET

Executives

Michael Look - Vice President of Investor Relations

Jeffrey T. Housenbold - Chief Executive Officer, President and Director

Brian Regan - Chief Financial Officer and Senior Vice President

Analysts

Mark May - Barclays Capital, Research Division

Andrew Marok

Paul Judd Bieber - BofA Merrill Lynch, Research Division

Colin A. Sebastian - Robert W. Baird & Co. Incorporated, Research Division

Youssef H. Squali - Cantor Fitzgerald & Co., Research Division

Shawn C. Milne - Janney Montgomery Scott LLC, Research Division

Aaron M. Kessler - Raymond James & Associates, Inc., Research Division

Andrew Ruud - Morgan Stanley, Research Division

Brian Patrick Fitzgerald - Jefferies & Company, Inc., Research Division

Mitchell O. Bartlett - Craig-Hallum Capital Group LLC, Research Division

Victor B. Anthony - Topeka Capital Markets Inc., Research Division

Operator

Good day, ladies and gentlemen, and welcome to your Shutterfly Incorporated Fourth Quarter 2012 Financial Results Conference. [Operator Instructions] And as a reminder, today's conference is being recorded. And now, I would like to introduce your host for today, Michael Look, Vice President of Investor Relations.

Michael Look

Thank you, operator. Good afternoon, everyone. Welcome to Shutterfly's Fourth Quarter and Fiscal Year 2012 Conference Call.

With us today are Jeff Housenbold, Chief Executive Officer of Shutterfly; and Brian Regan, Chief Financial Officer.

By now, you should have received a copy of our press release, which crossed the wire approximately 1 hour ago. If you need a copy of the press release, you can go to shutterfly.com under the Investor Relations link to find an electronic copy. We've also released a presentation that we will use as we go through this call.

Call participants are advised that the audio of this conference call is being recorded for playback purposes and that a recording of this call will be made available on our website within a few hours. You can access these recordings through the Investor Relations section of our website at shutterfly.com.

Before we begin, I'd like to note that our discussion today will include forward-looking statements within the meaning of the Securities Act of 1933 and the Securities Exchange Act of 1934. These forward-looking statements include statements about our business outlook and strategy, the share repurchase program and statements about historical results that may suggest trends for our business. For more information regarding these and other risks and uncertainties that could cause actual results to differ materially from those expressed or implied in these forward-looking statements as well as risks relating to our business in general, we refer you to the sections entitled Risk Factors in the company's most recent annual report on Form 10-K and its other filings with the SEC.

I would also like to note that any forward-looking statements made on this call reflect information and analyses as of today.

This presentation contains certain financial performance measures that are different from the financial measures calculated in accordance with GAAP and may be different from calculations or measures made by other companies.

A quantitative reconciliation of these non-GAAP financial measures to the most directly comparable GAAP financial measures is available in our fourth quarter fiscal 2012 earnings press release, which is posted on the Investor Relations section of our website at shutterfly.com.

Now I'd like to turn the call over to Shutterfly's CEO, Jeff Housenbold. Jeff?

Jeffrey T. Housenbold

Thanks, Mike. Good afternoon, everyone, and welcome to our fourth quarter earnings call. I'll start today's discussion with an overview of our full year 2012 results, followed by some thoughts on our strategy for the coming year. I will then turn the call over to Brian for a detailed review of our fourth quarter and full year 2012 financial results, as well as our initial financial guidance for 2013. We will then open the call for your questions.

As you can see from our press release issued earlier today, Q4 capped off another highly successful year for Shutterfly. Net revenues for the full year 2012 totaled $641 million, representing a 35% year-over-year increase on a reported basis and approximately 22% on a pro forma organic basis if you normalize the impact of Tiny Prints and exclude the Kodak Gallery acquisition.

Net income for 2012 was $23 million, up $9 million or 64% from last year, resulting in a full year adjusted EBITDA of $128.1 million or an increase of 53% from 2011.

We exited the fiscal year with record results for revenue, net income and free cash flow for both the quarter, as well as the full year.

In addition to our financial success, we extended our market-leading position in 2012, driven by our continued ability to introduce innovative products and services, expand our customer base, improve our operational efficiency and successfully integrate several key technology-related acquisitions.

Let me take a moment to highlight some of these accomplishments and drivers of our 2012 performance.

First, throughout our 13 year of history, Shutterfly has focused on addressing the ever-increasing challenges that consumers face as they endeavor to do more with their photos and memories. It is this singular focus and unwavering commitment to innovation, outstanding product quality, stylish designs, exceptional customer service and overall value that has enabled Shutterfly to establish its market-leading position.

By continuously enhancing and optimizing our products, services and imprint structure, we make it easier for consumers to create, share and preserve their most precious memories. This focus on innovation helps us strengthen our competitive position and increase the barriers to success in our markets.

In our Photo Book category for example, we added more styles and introduced premium content. Our new premium options include enhanced designs, exclusive guided styles, individual backgrounds, embellishments, idea pages, double-thick premium professional paper, genuine leather covers, 2-page spreads and layflat pages for a stunning and seamless display, all of which differentiates us in the marketplace and drives higher average order value and profit per book.

In our Cards & Stationery category, we expanded our offerings to include new form factors, such as our 6x8 flat stationery cards, thousands of new designs and an expanded selection of color and layout choices. We also introduced premium DoubleThick Matte paper and pearl finish options to our Wedding Paper Divas brand.

Lastly, in photo gifts and home decor, we expanded our lineup to include new products such as iPhone cases, water bottles, dimensional wall art and photo cube ornaments.

Second, we continue to meaningfully expand our customer base and increase our market share. In 2012, total unique transacting customers increased by 1.7 million or 31% on a year-over-year basis to more than 7 million transacting customers. The vast majority of our new customer growth was organic, driven by our integrated marketing campaigns. Throughout 2012 and especially in the fourth quarter, we made measurable improvements in our marketing efficiency, which was evidenced by lower cost per acquisition and increased returns on advertising spend. This increased efficiency allowed us to reinvest these savings into new initiatives and expand channels such as social media, mobile, broadcast and print.

Examples of new marketing initiatives launched in 2012 include our first ever national cable TV campaign this past holiday season, a multifaceted partnership with Coca-Cola, a nationwide ship-to-store partnership with Costco and a cause marketing partnership with the Ellen DeGeneres show. The remaining portion of our customer growth came as the result of further consolidation within our industry. Similar to our past customer account migrations, including American Greetings PhotoWorks, Sony's Image Station and Yahoo! Photos, we transferred Kodak Gallery and Fuji SeeHere customers to our cloud-based platform.

Third, our Enterprise business continues to grow, contributing $27 million in revenue in 2012 as we added new clients like UnitedHealth group and expanded existing relationships with Dell and AT&T. We are pleased with our progress in this category, as we've been able to grow the business from $500,000 in 2008 to $27 million in 2012, representing a compound annual growth rate of more than 170%.

And as we continue to scale our Enterprise business, we expect to improve EBITDA margins and increase the utilization of our assets in the off season.

Fourth, as our business continues to expand, we are finding ways to further improve our operational efficiency and convert our top line growth into bottom line gains. Two areas where we're seeing continued improvements are in funnel conversion and manufacturing. Combining our rigorous application of web optimization techniques like multi-barrier testing, customer segmentation and landing page optimization combined with improvements in our data warehouse and CRM platform, we were able to produce higher funnel conversion rates and acquire higher-value customers.

With respect to manufacturing, we made significant investments in additional printing capacity and automation technologies for our Cards & Stationery and Photo Book lines during 2012. These investments enabled us to insource more of our order volume during the holiday season, resulting in higher gross margins. We expect to see further gains in the future as we insource more of our order volume once our new Fort Mill facility is fully functioning.

And fifth, we made several strategic and disciplined acquisitions during 2012. We have made great progress integrating these newly acquired companies into our culture and consumer offerings quickly and efficiently. Let me highlight a few.

In May, we acquired Israeli-based Photoccino. Leveraging Photoccino's powerful set of advanced image analysis and selection technologies, Shutterfly was able to begin offering smart product creation capabilities to a select set of customers during Q4. With consumers taking an ever-increasing amount of photos, we believe the market potential for smart product creation is significant as it reduces the amount of time it takes to curate large numbers of photos.

In September, we acquired New York-based Penguin Digital. Working closely with the Penguin Digital mobile team, we were able to update our Shutterfly iPhone app in about 90 days. Our new app now includes the ability to simply create and purchase photo products using your iPhone, a feature many of our customers have been asking for.

And at the very end of the year, we acquired Palo Alto-based ThisLife. If you aren't familiar with the company, ThisLife has been focusing on automatically aggregating consumers' photos and videos and then helping them intelligently organize and enjoy these moments. The proliferation of digital devices has expanded the problem of organizing photos and videos as the typical consumer has multiple smart phones, tablets and computers both at home and at work. It is a problem I'm experiencing personally as many of our customers are as well. By combining ThisLife with our other acquisitions this year, such as Photoccino and Penguin Digital, we now have the opportunity to revolutionize the way people capture, organize, share and create great memories with their photos and videos as we evolve from a product-based company to a solutions and services ecosystem.

In summary, whether it's as simple as acquiring a talented group of engineers, consolidating a competitor's customer base, adding new features and functionality to our platform or expanding into new products or geographies, disciplined acquisitions that are integrated well are a smart use of our balance sheet, help us grow our business, increase our rate of innovation, reduce our plan to market, deepen our overall market penetration and drive long-term shareholder value.

Now let's turn our attention towards the future. As we look to 2013 and beyond and think about the design of our next-generation platform, we see a new set of challenges facing consumers.

These challenges include the use of multiple devices to capture their moments, the resulting fragmented storage of those memories, the limited sort and search capabilities of stored photos and videos and the limited availability of frictionless product [indiscernible] solutions. This set of challenges all point to the need for a solutions platform that is device, operating system and location agnostic.

Throughout our 13-year history, Shutterfly has been an innovative leader in helping consumers do more with their photos and memories. And with our consumer cloud layer, our sharing earlier and our commerce layer already in place, we believe Shutterfly is uniquely positioned in the industry to address these challenges.

With these thoughts as a backdrop, you can expect our approach for the coming year to encompass the 5 following elements: growth of our core Shutterfly and Tiny Prints business through acquiring new customers, expanding the lifetime value of our existing customers and improving conversion rates; second, investments in early-stage customer-facing initiatives, including wedding, Enterprise, Treat, mobile and our new enhanced cloud service plus improvements in our platform and infrastructure, including Big Data, analytics, HTML5 and manufacturing automation; third, expansion and enhancement of our brand equity through all consumer touch points, including marketing, business development, multi-brand site experiences and customer service; fourth, attracting, retaining and growing our world-class team; and fifth, continued financial discipline with a focus on top and bottom line growth.

In closing, 2012 was another highly successful year for Shutterfly. We delivered outstanding financial results, completed several strategic acquisitions, introduced exciting new innovations in our Cards & Stationery and Photo Book categories, achieved operational efficiencies and extended our market-leading position. We continue to make significant progress towards transforming the multibillion dollar social expression and personal publishing markets and remain confident in our strategy and in the early and large markets in which we operate. I would like to congratulate the entire Shutterfly team for another successful year and extend my sincere thanks to all of our customers and shareholders for their continued support.

With that, I will turn the call over to Brian, to review our financial results in detail. Brian?

Brian Regan

Thanks, Jeff, and good afternoon, everyone. I'll begin my comments today with some observations about our fourth quarter performance, followed by a review of our key metrics and this quarter's operating results. I'll then conclude with an overview of our Q1 and initial 2013 financial guidance. Following that, we'll open the call up for your questions.

As Jeff indicated in earlier, we continue to build upon our leadership position in digital personalized products and services across our family of brands through improvements in our overall brand awareness, innovative tools, premium content and expanded product offerings. Despite the persistent holiday promotional environment and against an uncertain macroeconomic backdrop, we produced strong revenue growth across all of our product groups.

Net revenues for the fourth quarter totaled a record $351.8 million, reflecting 33% year-over-year growth. Net revenues from our consumer category were $343.5 million, also expanding 33% over last Q4, driven by strong customer acquisition and accelerating transaction growth. We produced record revenue and order growth of 33% across all of our brands and products, led by Cards & Stationery, Photo Books and Photo Gifts.

Net revenues from our Enterprise business in the quarter grew 79% over the prior year to more than $8 million. The strong performance of Enterprise in the fourth quarter was largely driven by robust organic orders from existing clients.

For the full year 2012, our Enterprise business delivered revenue of $27 million, more than double our 2011 results and representing more than 4% of our total net revenues for the year.

During Q4, we experienced accelerating double-digit growth in visits, registrations and uploaded images. This strong top-of-the-funnel activity translated into a 30% year-over-year increase in transacting customers and 33% growth in orders or more than 4.2 million unique customers who generated nearly 7 million orders across our 4 lifestyle brands in Q4.

Average Order Value for the fourth quarter was nearly $50 and in line with AOVs during the same period last year. Q4's unchanged AOV reflects the combined benefits of a number of promotional and pricing strategies implemented in Q4, which included providing more premium content options to our consumers than ever before, as well as better-than-expected first time order value by our newly acquired Kodak customers.

Moving to cost of net revenues and gross margins. Gross margin in the fourth quarter was 60.5%, 162 basis points higher than our gross margin last year. Q4's gross margin not only benefited from stable AOVs but also from a number of efficiency initiatives and the scale economics driven by higher revenue and corresponding unit volumes. This was partially offset by higher than expected Enterprise revenues, increased indirect labor costs associated with customer service and overtime pay and acquisition-related amortization expense.

Turning now to operating costs. Operating expenses excluding stock-based compensation totaled $102 million, reflecting the increased cost structure associated with scale and innovation investments, the addition of the Kodak customer base and recently acquired businesses, such as Penguin Digital and Photoccino plus purchase accounting amortization.

Taking a closer look at our operating expense components, technology and development costs were $24.8 million for the quarter or 7% of revenues, up slightly from 6.6% last year. Excluding stock-based compensation and depreciation, our technology spending increased approximately $5.7 million from Q4 of 2011, driven by the incremental acquired costs of Photoccino, Penguin Digital and Kodak Gallery's accounts, plus organic scale and innovation costs such as storage, power, bandwidth and engineering headcount.

Sales and marketing expenses were approximately $62 million in the quarter or 18% of revenues compared to 19% in Q4 of last year. Excluding stock-based compensation and amortization, sales and marketing expense increased 24% or approximately $11 million, representing 16% of revenues down from 17% in Q4 of last year.

Q4 sales and marketing expense was driven by direct response and performance marketing campaigns, as well as brand awareness initiatives, such as our first national cable TV campaign and a new marketing partnership with the Ellen DeGeneres show. The year-over-year decrease in sales and marketing as a percent of total net revenues was largely driven by continued efficiency gains in working marketing spend across most of our customer acquisition channels.

General and administrative expenses for the quarter were $24.5 million or 7% of net revenues. Excluding stock-based comp and credit card processing fees, G&A expenses represented 3% of net revenues in the quarter, in line with Q4 of last year.

Moving to the bottom line. Adjusted EBITDA for Q4 increased nearly $38 million over the prior year to more than $127 million, an all-time high reflecting 42% year-over-year growth. Our strong Q4 performance was driven largely by strong revenue growth and scale efficiencies. For the full year, adjusted EBITDA reached another all-time high of $128 million or 20% of total net revenues, up 53% over 2011.

2012 was an outstanding year for all of our businesses, which have now delivered 48 consecutive quarters of revenue growth. And 2012 marks 6 straight years of solid EBITDA growth since Shutterfly went public, generating adjusted EBITDA profits at a compound annual growth rate of nearly 35%. The effective tax rate for the quarter was 47.6%, bringing our full year rate to 42.7%. The year-over-year increase in our full year effective tax rate is primarily the result of 3 factors: one, fewer disqualifying dispositions related to stock option exercises; two, a delay in the renewal of the federal R&D tax credit until 2013; and three, the effects of a valuation allowance on our California R&D credits based on the passage of California's Prop 39.

On a GAAP basis, our net income for the quarter totaled $53 million or $1.40 per share based on $37.8 million weighted average diluted shares. For the full year 2012, GAAP net income was $23 million or $0.61 per fully diluted share, up from $14 million or $0.40 per fully diluted share in 2011.

Capital expenditures during the quarter were nearly $16 million, including $8 million for technology, equipment and software, approximately $5 million for manufacturing equipment and building improvements and nearly $3 million in capitalized software development.

For the full year, CapEx was just under $61 million or 9.5% of total net revenues.

As we disclosed last quarter, nearly $12 million of this amount was related to our Kodak acquisition and the expansion of our East Coast manufacturing operations, and roughly $9 million were incremental growth investments in additional printing presses and automation technologies for our photo book and greeting cards production lines, all of which enable the company to achieve premium pricing and successfully navigate this year's peak holiday demand. Excluding our 2 largest growth capital investments related to Kodak and our expanded East Coast facility, CapEx in 2012 was approximately $49 million or 7.7% of total net revenues.

Turning to cash for 2012. Shutterfly produced a record $67.4 million in free cash flow, up 34% over 2011. Cash and liquid investments at 12/31/2012 totaled more than $245 million, up from $180 million at the end of 2011. In addition, we continue to have access to up to $200 million in available funds from our untapped revolving credit facility.

Finally, in Q4, we repurchased 137,000 shares of our common stock at an average price of $27.34 for a total of $3.75 million under our previously announced stock repurchase plan.

In summary, 2012 was an exceptional year for Shutterfly, Inc. We strengthened our connection with consumers by enhancing their ability to deepen their personal connections with the people who matter most in their lives through our expanding platform of solutions. We have maintained our strategic focus, leveraging the power of our market-leading scale and scope to invest in a number of key growth and technology initiatives, which we believe will increase the rate of innovation in our product and service offerings and continue to improve our long-term operating efficiency.

In 2012, we clearly demonstrated the strength of our value proposition to consumers and continued to deliver on our commitment to deliver sustained profitable growth and free cash flows.

Let me now turn to our outlook for Q1 and fiscal year 2013. Currently, we expect Q1 net revenues to range from $107.2 million to $110 million, which reflects year-over-year growth of up to 20.5%. We expect our GAAP gross margin to range from 43% to 44% of net revenues and our GAAP operating loss to range from $26.8 million to $27.8 million. We expect our adjusted EBITDA will range between a loss of $2.5 million to a loss of $3.5 million and that our GAAP effective tax rate will range between 45% and 46%.

And finally, we expect the GAAP net loss per share to range from a loss of $0.39 to a loss of $0.42 per share based on approximately 36.8 million weighted average common shares.

Turning now to the full year 2013. We estimate that net revenues will range from $739.7 million to $746 million, which reflects year-over-year growth of up to 16.5%. We expect the full year GAAP gross margin to range from 52% to 53% of net revenues. We expect that our GAAP operating income will range from approximately $25 million to $35 million and that our full year 2013 adjusted EBITDA margin will range from 18% to 19% of net revenues. Keep in mind that our 2013 guidance incorporates the annualized costs of our 5 acquisitions last year, totaling more than $9 million incrementally plus additional investments in Wedding, Enterprise, Treat, mobile and our new cloud service. The full year GAAP effective tax rate is expected to range from 40% to 42%. We expect full year GAAP net income per share to range from $0.38 to $0.51 per share based on 38.4 million weighted average diluted shares.

And finally, we expect that 2013 capital expenditures will range from 9.4% to 10.4% of net revenues. Excluding our previously disclosed $14 million of CapEx related to our new East Coast facility and Kodak, our CapEx range would be 7.5% to 8.5% of net revenues.

So with that, we'll now open up the call for your questions.

Question-and-Answer Session

Operator

[Operator Instructions] So we'll take our first question from Mark May from Barclays.

Mark May - Barclays Capital, Research Division

I know a lot of us were -- seems like waiting all year for this quarter, so it's good that it came out as good as it did. One question on transacting customers. I think in 2011, you added about 1.5 million. And last year as you noted, there were 1.7 million new transacting customers in the year. As you look out to this year, any reason to believe that the new customers that you add this year will be wildly different from that kind of 1.5 million that you've seen the last couple of quarters or years? And then second question on AOV. AOV was stable year-over-year despite the fact that I think you made some adjustments to pricing at Tiny Prints. So can you just clarify if you were to normalize for that adjustment at Tiny Prints, what the AOV looked like on a year-over-year basis? And maybe provide some color in terms of mix of product or brand that might have driven that reported AOV number in the quarter.

Jeffrey T. Housenbold

Sure, Mark. This is Jeff. Couple of things. On the customer front, keep in mind in -- you have 2 things in the base, right? The acquisition of Tiny Prints, and that increased the number of new customers going into 2011 and then the acquisition of the Kodak Gallery customers in 2012. When you normalize that on an organic growth rate, that might have a small impact to kind of that run rate for new customers as you model 2013. But we had for the full year about 7.1 million unique transacting customers doing 16.3 million orders, which was pretty impressive obviously, record volumes for Shutterfly, Tiny Prints and Wedding Paper Divas across the board. As it relates to Average Order Value, there's a bunch of puts and takes here. And so let me try to give a little color because we're going to break down the AOV by the brand. But we were able to despite a continued promotional environment where some of the weaker competitors continue to tweak their prices, we were able on our brands to actually increase the effective rack rate on certain SKUs and also to kind of further differentiate between the low end of the merchandise mix and the high end, and we successfully migrated a larger number of our customers up the merchandising chain from good to better to best where we realize more revenue and more profit. And that was on both the Shutterfly and the Tiny Prints brand, so that helped quite a bit. Our Average Order Value is diluted, if you will, on a full year basis because you now have Treat in that mix, which is a single card at the $2, $2.50 range, and so that brings down the Average Order Value. But the big picture is the equity in our brand, the investments in innovation, in product, in the service delivery and our customer service allowed us to be able to maintain a price umbrella in the industry commensurate with our quality and leadership position. And that was reflective in stable AOVs, increasing customers, increasing transactions, revenue and profit.

Brian Regan

Mark, this is Brian. One more thing I would add would be also as I indicated on the call, the first time Average Order Value from our Kodak customer base was better than we expected, so that also helped stabilize that AOV on kind of a year-over-year basis.

Mark May - Barclays Capital, Research Division

Yes. And that actually is a good segue. Since you did make that comment, I believe going in the average AOV for Kodak Gallery customer was maybe 60% or so of what it is for a typical Shutterfly customer. And that maybe was the basis of your thinking about the revenue contribution for this year from that customer cohort. Have you changed your view based on the behavior that you saw from that group in Q4?

Jeffrey T. Housenbold

This is Jeff again. What we saw from the Kodak customers was less transacting customers than we modeled, but that customers that did transact had a meaningfully higher average order value. So as we put forth our better UI, our higher conversion rate, our assortment and mix, along with our customer service and the ability to get the product to customers in a timely fashion, given our and owned and operated facilities, they started to look like Shutterfly customers. And so that was positive, and we saw a couple of million dollars in the quarter more in contribution from the Kodak customers. So I think $35 million for 2013 is still a good place to model, maybe plus or minus $1 million or $2 million. But I think that's still a good place because you have less transacting customers. But in Q4, they did more. And as we lap Q4, you won't get the same growth rate that you would see on a normalized basis.

Operator

And we'll take our next question from Kevin Kopelman from Cowen & Company.

Andrew Marok

This is Andrew Marok on for Kevin. I just had a couple of quick questions. What are you seeing in terms of uptake of your mobile apps in terms of customers, orders or sales? I know it's early, but if you're seeing any early returns there. And what percentage of your products are made with photos from a mobile device, if you're able to disclose that?

Jeffrey T. Housenbold

Sure. On the mobile front, we just added the ability to purchase in the Shutterfly mobile app and that was part of the Penguin Digital acquisition, where we took there MoPho app and combined that capability into the Shutterfly app. And that launched I think with 10 days left in Q4, so we're maybe 40 days into this. The results are promising. Now obviously on a small scale, but results are promising. We haven't yet done any marketing or promotions around it, so it's kind of organic growth and -- but we believe it's an area that we're going to continue to invest in, provide our existing customers with more modalities in which they can share life's joy. But also, it may be a channel which allows us to attract a different segment or demographic of customers. As it relates to mobile, if you look at -- we have the universal photo picker where you could get your photos from Instagram or Facebook or Picasa. The vast majority is still coming from people's hard drive. It is single digits of what people want to print are coming from their mobile, but we are now starting to create products geared around mobile and Instagram. So we have Photo Book layouts and other things. And as we adapt our offerings to that mobile environment, we're seeing nice uptake. So we're optimistic about the future as people use their smartphones or mobile devices along with their DSLRs and point-and-shoots that they will have an offering from Shutterfly that meets their needs.

Andrew Marok

Great. And if I could ask one more real quick question. Can you comment on Tiny Prints growth in Q4 '12 and full year?

Jeffrey T. Housenbold

Yes, just qualitatively. Both Shutterfly and Tiny Prints growth exceeded our expectations during the fourth quarter, and the fourth quarter is larger for Tiny Prints than it is for Shutterfly since it's only a Cards & Stationery brand predominantly. And so across the board, we saw very healthy pickup in Cards & Stationery across all of our brands during the fourth quarter. I think our assortment, our designs, the number of layouts and choices that you can have all really resonated with our customers and having a multiple brand strategy touching different segments was a winning combination. That, along with our new universal header across the site, we were able to recycle customers who may not have found what they want on one brand over to our sister brand and capture those economic brands versus a competitor having them. So very pleased with the results from Tiny Prints.

Brian Regan

And, Andrew, this is Brian. The most that we'll say on at this point is for the full year, what we indicated -- what Jeff indicated in the script was on a full year basis, the pro forma organic growth excluding the -- normalized for Tiny Prints and excluding Kodak at 22% across the board.

Operator

And we'll take our next question from Paul Bieber from Bank of America Merrill Lynch.

Paul Judd Bieber - BofA Merrill Lynch, Research Division

I was hoping that you could provide a little color on the strong gross margins. How much of it is from the stronger AOV in pricing, and how much of it is from manufacturing efficiencies that you cited? And then I was hoping that you could give us some color on what our -- on what your expectations are of the Kodak customers in terms of revenue and EBITDA contribution for 2013.

Jeffrey T. Housenbold

Sure. Let me provide a couple of comments on gross margin, let Brian add to it. Gross margin was stronger in the quarter because we had higher revenue. And in the fourth quarter, as you know, you get the benefits of capacity utilization and scale. We also saw a nice mix shift as we cross-sell and upsold customers to higher-priced formats. So from the lower 4x8 photo paper cards to our flat cards to our DoubleThick Premium and pearl paper. So the upsell and cross-sells in cards went very nicely. And then also a positive mix shift from smaller Photo Book sizes to larger plus the adoption of our premium content on new leather, layflat, DoubleThick mounted books. And so it's just a consistent part of our merchandising strategy is to make sure we cover the entire spectrum but try to push people towards the higher end through both merchandising promotions and pricing. So very pleased with the gross margin in the quarter.

Brian Regan

Yes. And just add to that, Paul, I would say that the stable AOV and the pricing along with is really equally weighted along with a number of other initiatives and the scale that we saw in the quarter. The other initiatives I'm referring to are shipping-related costs and input costs. So again, it's scale efficiencies that we got. But keep in mind that, that gross margin was still somewhat offset by continued high growth in Enterprise. We still have customer service investments that we've made, and as well, we've had, and you'll see that broken out in the press release, how much was depreciation and acquisition-related amortization. So certainly a bit of an offset from those items but equally benefiting from AOVs and scale efficiency initiatives.

Jeffrey T. Housenbold

Okay. And, Paul, on your second question about Kodak. Similar to my comments to Mark, I think our initial guidance in 2012 in April when we acquired the Kodak customer assets was about $21 million in contribution and revenue for that year and about $35 million for 2013. We saw a little bit more strength in the fourth quarter from the Kodak customers, but less customers, higher AOVs. So $35 million, $36 million, $37 million is probably a good place to model for 2013.

Paul Judd Bieber - BofA Merrill Lynch, Research Division

And then can you just remind us what's the capacity is in terms of revenue for the Enterprise business? How big can it get before you would have to actually spend on incremental CapEx for that business?

Jeffrey T. Housenbold

It depends on which quarter that revenue comes in. So based upon our forecasted seasonality of that business, it could grow over $100 million. But the Consumer business continues to grow at the same pace, so we add some additional capacity each year. And then with the Fort Mill plant opening later this year, it gives us greater flexibility to go from just a pure high-speed kind of standardized SKU facility to creating some additional batch sells to go along with that, that will allow us to be more efficient both in Enterprise and creating new SKUs that maybe lower volume but higher average order value on the Consumer business. So I'm not worried here in the near term about capacity for commercial.

Brian Regan

Yes. And, Paul, our guidance does appropriately incorporate the expected capital needed for 2013 going into 2014, but at least handling 2013's peak period, including Enterprise.

Operator

And we'll take our next question from Colin Sebastian from Robert Baird & Company.

Colin A. Sebastian - Robert W. Baird & Co. Incorporated, Research Division

First off, Jeff, I wonder if your thoughts on potential consolidation in the industry has changed at all, in particular with some comments from the parent company of one of your competitors? And then secondly, I think you guys may have been benefiting from really solid volume in Q4 as evidenced by the website. There were some uptime issues I think. If you could just elaborate a little bit there on what was happening, and any issues you've addressed with that.

Jeffrey T. Housenbold

Sure. As I said in my prepared remarks, I think we've made smart strategic acquisitions over the years, and we did 5 of them in 2012, the Kodak and the Fuji were in the consolidation bucket. Penguin, Photoccino and ThisLife were more in the technology tuck-in area. I think we're going to continue to look at both of those buckets and -- as the scale leader with a healthy balance sheet, and I'm real focused on this area, I think we remain the natural consolidator. But given our strength in our business and as we continue to pull away from online competitors, none of the additional consolidation is must-have. It's really in the opportunistic. If it's at the right price and the right terms, we'll be interested. But I think we're focused on executing on our own strategic plan. As it relates to Q4 volumes and uptime, unfortunately, we had a bad piece of hardware crash kind of in the early parts of the peak season. And it took us about 24 hours to rectify that and another 24 hours of kind of catch-up on the site as customers came back and created some load on CS and stuff. So we lost about 2 days of seamless execution. But many of those customers, given their loyalty to our brand, came back at some point over the ensuing week or so. So it was unfortunate, but hardware failures are going to happen. I was very delighted with the team's ability to do root cause [ph] analysis, swap it out and get us going and deliver on it as [indiscernible] Q4.

Operator

And we'll take our next question from Youssef Squali from Cantor Fitzgerald.

Youssef H. Squali - Cantor Fitzgerald & Co., Research Division

So a couple of questions, please. I guess, Jeff, going back to kind of your comments on the quarter, you cited a whole slew of reasons why it was so strong. But if you had to kind of really highlight 1, 2 or 3 things that really drove the outperformance vis-a-vis your expectations at the beginning of the quarter, be it competitive environment, maybe improving on margin, execution, et cetera, what would those be? And, Brian, your Q1 guidance seems very conservative to us. Number one, what kind of pro forma organic growth have you baked in there, or what kind of pro forma organic growth does that -- do your numbers imply? For us to get to the high end of your guidance, we'd have to affect the material slowdown in your order growth and a material decline in AOVs, which we did not see last year.

Jeffrey T. Housenbold

Youssef, I think Q4 delivery and the success was really about execution. I think on the margin, we saw a little more rationality in the marketplace from the competitive set. I think as they took a look at last year's behavior and early Q4 behavior and looked at the elasticity and the profitability of that, you saw people pull back from that as the data started to support a different strategy there. But it really came down to execution. Last Q4, we got caught off guard by what we've termed irrational pricing, and we had a whole year to readjust our marketing and merchandising mix. And so it was really execution. I'd call out a couple of areas. One, our integrated marketing across all the touchpoints of the customer from our CS, to our packaging, to a new site rebrand, to a television commercial, to our catalogs, to our online marketing, to the strength of our natural search and the linked use that we've been able to create. So all that really fired, and we were able to drive down our acquisition cost and lower sales and marketing as a percentage of revenue, which was fantastic and added to the EBITDA over delivery. Second, I would call out a continued innovation in format and design and user experience. So the customers coming both new and existing are able to convert and transact more easily on the site, and we'll continue to make investments in that area. And then the third I would call out is our operations group, which encompasses both our manufacturing, our customer service and our design -- production design team. And being vertically integrated really helped us at the orders continue to come in, in a more spiky fashion. Consumers, even with 5 more days in the quarter, kept waiting and waiting. By owning our own manufacturing, we get to control our own destiny, and that team did an exceptional job in executing. So that, along with the investments we've been making throughout the years, is allowing us to continue to pull ahead from the competition.

Brian Regan

And, Youssef, on the question on the guidance. So just with context, as we mentioned on the call, the pro forma organic 2012 growth amounted to around 22%, again normalizing for Tiny Prints and excluding Kodak. And as Jeff alluded to, looking at a model that would suggest something around $35 million for Kodak revenues in 2013, there's really a minimal -- about 0.5 percentage point of growth, versus our reported guidance on a full year basis. So 15.5% to 16.5% looks on a pro forma organic basis, something closer to 15% to 16%. And then on the -- and when you look at that growth trajectory, we're talking about roughly about $100 million of incremental revenue. And so you eventually are looking at a law of large numbers in our business, which $100 million is largely most of the revenues generated by much of this industry. So it's a significant absolute growth dollar trajectory that we're talking about. And on the cost side, as we've mentioned, we are also absorbing around $9 million of incremental cost on an annualized basis from our 2012 acquisitions. There's other -- also roughly another $11 million year-over-year that we're also absorbing on -- in non-cash charges, predominantly the amortization from those acquired intangibles. So all in, we're absorbing costs, we're still growing the top line and we feel like the guidance that we've got here is prudent, where we are versus Q4 of next year, which is as far as we can be. So all that in is the context around our guidance.

Youssef H. Squali - Cantor Fitzgerald & Co., Research Division

Is the 15% to 16% organic number, is that true of Q1 as well?

Brian Regan

It'll be -- well, the guidance is 17% to 20% in Q1, so it's a similar -- less than about a -- less than 0.5 percent or less than 1 percentage point of growth that you're looking at on an organic basis there. So it's called 15% to 19% organic.

Operator

And we'll take our next question from Shawn Milne from Janney Capital Markets.

Shawn C. Milne - Janney Montgomery Scott LLC, Research Division

It's Shawn Milne at Janney. A lot of questions have been asked. So just wondering, Jeff, you're well on your way to building a, let's say, $1 billion plus brand. It seems like you had some positive impact from your TV test in the fourth quarter. Maybe if you could just give a little more color on how you think that might progress going forward, and I have one follow-up.

Jeffrey T. Housenbold

Sure. I think we fired on all cylinders across the integrated marketing mix and TV along with catalog, prints, online, affiliates, Facebook, SEO, SEM, all of the things we did, all of them were up and to the right and TV performed quite well. So I think we did a small test last Q4 of about $0.5 million, and we did about a $2.5 million test this Q4 with very positive ROIs. So I think TV will continue to be part of the overall mix. But as an online brand, the vast majority of our spend will continue to be online for the foreseeable future.

Shawn C. Milne - Janney Montgomery Scott LLC, Research Division

Jeff, you mentioned the positive early results on the revamped iOS app. I mean it's truly just a significant step up. What about potentially getting that in front of a younger consumer base and then pushing that a little bit faster in '13?

Jeffrey T. Housenbold

Yes, I think we're focused on, one, is getting adoption from our existing base of 7-plus million customers and then also spending outside of that primary demographic to get other people to adopt it. But the trick is to do it in a cost effective and profitable way. And while I think there is an opportunity to bring in younger on average customers, I don't think it's meaningfully younger because you still have the psychographic component, thinking about mortality and the nature the photos, going from photos to cherished memories and those that you want to preserve along with the per capita disposable income that comes as you get older. So our prime demo today is, I'd call it 28 to 45. So we might be able to go a little bit lower there. But we're not envisioning going into the teens or the young 20s where they don't have a lot of money and they're mostly going to be just printing a couple of 4x6 prints. But I am bullish about mobile, the investments that we have that you can see today but also the investments from an engineering and a innovation standpoint that we're working on that will roll out throughout the rest of 2013.

Operator

And we'll take our next question from Aaron Kessler from Raymond James.

Aaron M. Kessler - Raymond James & Associates, Inc., Research Division

A couple of questions. First on Treat, if you can give us maybe an update on the performance there and maybe the outlook for 2013 in terms of additional investments with the Treat app? Also any updates on international expansion. I think a couple of years ago, you referenced 2013, so if we could get an update there. And just on the model front, depreciation/amortization jumped up about $3 million sequentially. If you can give us maybe some explanation there and what the outlook is for D&A for 2013 as well.

Jeffrey T. Housenbold

Sure. Why don't I take the first 2 on Treat and international, and Brian can talk about depreciation/amortization. So what my comments previously about Treat is that it's early stages. We're trying to get the user experience and the positioning right. Once we get that, we'll start to push more on advertising. And we've been tinkering with both that value proposition and the marketing communications around it. We didn't put a lot of effort into Treat in the fourth quarter because our effort was on the core brands of Tiny Prints and Shutterfly during the holiday season. And Weddings are strong going into -- a lot of people get engaged in the fourth quarter and then married in the first quarter. So I think our focus was appropriate for the fourth quarter. As we look into 2013, we look to continue to invest in both the mobile aspect of Treat, but even though web browser experience on Treat and do a better job of our articulating the value proposition and trying to capture more than an a la carte purchase but more of a subscription prepaid plan and a gifting service around Treat, which has always been the full vision of it. So I would say I'm pleased with the success we've had to date. There's more to go, but it's still early stages and its contribution to 2013 will be modest on the revenue side and dilutive to margins on the expense side. As it relates to international, our ambitions and aspirations continue to be a global company. And we continue to look at both build, buy and partner opportunities throughout the world. As you know, Europe and other parts of -- certain parts of Asia are still experiencing macroeconomic slowdown. And so, there has to be, from an acquisition standpoint, an appropriate valuation relative to the risk, the growth rates and the profitability. But we think with some of the investments we're making, like our new cloud service, that may be able to go international quicker than physical print-based service like Shutterfly. So we're excited about the optionality that we have given the size and scale of the business at this stage.

Brian Regan

Yes. And then on the modeling aspect for depreciation and amortization, the biggest driver in D&A for the fourth quarter when you look at that $3 million increase is driven by the equipment. We talked about $9 million of capital invested in our equipment, and that's coming out in depreciation. You are still seeing -- you've got -- you actually got an amortization impact from a full quarter now from Penguin Digital, and then you also have some cap R&D impacts as well. So on a full year basis, so I think we're largely looking at a fully baked in quarter, so you can take that $16 million run rate in totality for D&A. And then as well, you can the see forward-looking guidance breakdown for $25 million of intangible amortization as part of that overall call it roughly $60 million to $64 million of total D&A looking forward.

Operator

And we'll take our next question from Andrew Ruud from Morgan Stanley.

Andrew Ruud - Morgan Stanley, Research Division

I just wanted to ask a question around ThisLife and Photoccino. You guys have something like 18 billion photos in the cloud right now, and I was just curious what the timing would be like until you can offer some tools and services to help users kind of sort those because I think that's a pretty big area of friction in terms of conversion.

Jeffrey T. Housenbold

Yes, we certainly are excited about our vision and the assets we've been assembling both internally through organic development but augmented by the ThisLife and Photoccino acquisitions. We did deploy some of the Photoccino technology into our photo booking calendar, creation processes for the fourth quarter and exposed those to about 1/4 of the user base to see the adoption rates, which were nice and incremental. And so we continue to prove out and tinker with the algorithms and the technology. With the ThisLife acquisition, I think and you'll note a couple of weeks ago, I think alluded to this is we now have the ability to help people with such a pain point, which is I have pictures on my iPhone, my wife's Android device, my PC, my wife's Mac, my work computer, they're up in Instagram and Flickr and Picasa and Shutterfly and all over the place. And so our vision is to allow for all those pictures to be aggregated up into the Shutterfly cloud, lay on top of that our share capabilities and then our product creation along with our smart intelligent organization so that we go from a static 2-dimensional view of the world where you have albums or just pictures stuck in your film roll on your smartphone to a multidimensional 3D look of those pictures where you're able to interact with them with a number of different technologies, from geotagging to facial recognition to image analysis to who you shared it with it or what you did with those photos in terms of purchasing products. And given our unique set of assets, we think that's a very interesting proposition into the market juxtaposed where many people's cloud services are simply a backup storage service and they're looking to monetize that solely through a storage subscription and often are very focused on SMBs or large enterprise. We're going to be solely focused on the consumer, solely focused on helping them with the pain point of managing their ever-increasing digital array of photos and memories.

Operator

We'll take our next question from Brian Fitzgerald from Jefferies.

Brian Patrick Fitzgerald - Jefferies & Company, Inc., Research Division

A lot of questions answered. One I want to tease out was when you look at your Enterprise offering, who do you think you're primarily taking share from there? And is it resonated around any specific product or products?

Jeffrey T. Housenbold

Yes, when you look at the global printing industry, it's about a $900 billion market that includes packaging and signage. When you kind of -- and the vast majority of that is offset printing. When you get down to digital printing of that, it's approximately $55 billion to $60 billion market related to print on demand, so the equipment that we have. And all the large players in offset also play in that arena, so the Québecors, the RR Donnellys of the world. Our unique aspect is to be able to deliver 4-color on demand with high personalization to a targeted market of one at an economical rate. And so when you think about that market for 4-color, it's about a $6 billion market today of that $60 billion or 10% to 12%. And we're yet only $30 million -- $27 million to $30 million of that against that $6 billion market. So I think there's plenty of room for us to grow. The key for us, though, is to grow in a profitable way where much of the printing industry is at 5% or less EBITDA margins. We're looking at not just selling printing but also overlaying the capabilities that we've developed and acquired through the WMSG acquisition in the data analytics. And because we're a consumer-facing company, we do exactly that segmentation, that RFM and that data analytics on the consumer side of Shutterfly, so that know-how we get to bring to bear to the market. And that's why we're winning work, because we're selling an integrated approach to Fortune 500 companies, where we're selling to the Chief Marketing Officer not to a procurement Vice President but helping them reach their customers, increase their revenue and differentiate them and their marketplaces. And that value proposition has been resonating in the marketplace well.

Operator

Our next question comes from Mitch Bartlett from Craig-Hallum.

Mitchell O. Bartlett - Craig-Hallum Capital Group LLC, Research Division

Jeff, I think you mentioned in the prepared remarks a couple of times that you saw an acceleration of orders from your existing base. Did you mean that the frequency of the reorder kind of accelerated from prior periods, that you're seeing more orders from the existing base than you've seen in cohorts over the -- in past years?

Jeffrey T. Housenbold

No. I think I'm referring to our base of customers just keeps growing every year as we add new ones and we're able to retain with a fairly high loyalty rate and that we saw relatively flat AOVs, so we were getting more revenue from that existing base. And as we're acquiring new customers, the transition over the last few years has been that those new customers look more like existing customers versus in the years past where they were just doing 4x6 prints. Couple that with the Kodak customers actually transacting in a way that looked like a traditional Shutterfly customer to a greater degree than we had forecasted. So that all led to a overdelivery on the top line and the bottom line during the fourth quarter.

Operator

And our final question for today comes from Victor Anthony from Topeka Capital Markets.

Victor B. Anthony - Topeka Capital Markets Inc., Research Division

Just 3 quick questions. The first one, just wanted to press the mobile issue a little bit more. Is it fair to say that you would have a complete mobile footprint, including Android and covering both tablets and mobile phones, sometime this year? And what's the challenges that you have there? Second, how should we think about share repurchases over the next several quarters? And third, as we look out to this year's competitive environment in the fourth quarter of 2013, is there anything that we could take away from this past quarter's promo season that will help us understand what could potentially take place there?

Jeffrey T. Housenbold

Sure. So if you look at our mobile initiative to date, it has involved a Shutterfly app for the iPhone, a Treat app for the iPhone and a Shutterfly Share site app for the iPhone. ThisLife already has a iPhone and iPad app out there. And as we look to integrate and enhance that capability by combining the power of the 2 teams, we will do more in that space as well. We also have other initiatives around other products like Photo Books that we think work really well on a tablet but may not work very well on a small-screen smartphone. So we're being very thoughtful about the user need, the experience, the device and the operating system. And so without locking down on specific time frame, I think what you'll see throughout 2013 is more smartphone, more tablet and beyond just the Apple iOS coming from the combined brand that's Shutterfly, Inc. And so we're excited about that. The other thing that we did late Q3 and into Q4 was we MDOT-enabled [ph] our websites, which was not the case in the past. So if you used a smartphone with HTML5, you couldn't get to our sites and actually interact with it. So we allowed people who lean back with their iPad or their tablet as a second screen, doing other things around the house to now be able to browse and create and do things on our site. So that was I think important as well to enhance the customer experience. But we're very focused on mobile, as I said, on making 6 buckets of investment this year: Wedding, Enterprise, Treat, Mobile, our cloud service and then continued investments in infrastructure both on the manufacturing, the technology, the data warehouse and the analytics side that will allow us to create higher conversion and higher take rates down the road. So mobile, very important, and excited about what we have coming out in 2013. And that will lead into 2014 as well. As it relates to share purchases, Brian indicated in his prepared remarks the number of shares and the dollar amount that we bought. We didn't put in place our 10b5-1 until late into the quarter. And we previously announced authorization from the board of $60 million. And we looked to offset largely the dilution from stock-based compensation, which we think is very shareholder-friendly. And we'll continue to buy back the stock opportunistically, as well as provide a floor should there be any of those moments of disintermediation in the price as we saw when Apple announced iCards or Facebook bought Instagram where the stock moved down 20% and then rebounded in the day. We think those types of dislocations are a great way to reduce the outstanding float. As it relates to promotional environment in Q4 2013, obviously we don't have a crystal ball. But kind of extrapolation, what we saw during '12 was we saw our moderation in discounting from Snapfish largely. A number of the very small players continue to struggle with profitability and drying up of funds and the inability to raise additional rounds from private equity and venture capital. And then we saw continued high levels of discounting, where in 2011 American Greetings was at 70%. They went as far as 90% in Q4 of this year. But our Card business was on fire, and you saw that as part of the results today. So I'm not sure that's having a meaningful impact. So if you carry that forward, where you say Snapfish and the rest of the market are moderating, don't know where American Greetings will be relative to their take private strategy. We are pretty confident and optimistic about 2013. And if there's upside in the model, it's largely will be driven in Q4, which is the furthest away. But if it does happen, it's the period in time in which we would derive the greatest profitability from any incremental dollars of revenue.

Operator

Thank you. So that does conclude our Q&A session for today. I'd like to turn the conference back to your hosts for any concluding remarks.

Jeffrey T. Housenbold

Thank you, everyone, for joining today. As you can see, Q4 was a big success for us. We executed very well across a number of fronts. And we are big believers in people are going to continue to do more and more with their photos and their videos and that the brand equity that we have as a singularly focused company around helping people do more with those memories will allow us to continue to pull away from the competition. We also are not resting on our laurels. We're making meaningful investments in a number of areas I outlined today. We believe those are the right, strategic and disciplined investments that will allow us to grow the ultimate size of the franchise and deliver long-term shareholder returns. So we look forward to catching up with you guys on the road, and thanks for your continued support.

Operator

Okay, ladies and gentlemen, this does conclude your conference. You may now disconnect, and have a great day.

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