Shutterfly CEO Discusses Q3 2010 Results - Earnings Call Transcript

Oct.28.10 | About: Shutterfly, Inc. (SFLY)

Shutterfly, Inc. (NASDAQ:SFLY)

Q3 2010 Earnings Call

October 27, 2010 5:00 pm ET

Executives

John Kale - VP of Finance

Jeffrey Housenbold - CEO

Mark Rubash - CFO

Analysts

Imran Khan - JPMorgan

Youssef Squali - Jefferies & Company

Mitchell Bartlett - Craig-Hallum Capital

Kevin Koppleman - Cowen & Company

Colin Sebastian - Lazard

James Cakmak - Sidoti & Company

Mitch Bartlett - Craig Hallum

Operator

Welcome everyone to Shutterfly’s third quarter 2010 earnings conference call. This call is being recorded. I would now like to turn the call over to John Kaelle, Vice President of Finance for Shutterfly.

John Kaelle

Welcome to Shutterfly’s third quarter 2010 conference call. With us today are Jeff Housenbold, Chief Executive Officer of Shutterfly and Mark Rubash, Chief Financial Officer.

A press release detailing our results is available on Shutterfly.com and an archived copy will be kept on our site. We have also released some visuals that we will use as we go through the call. Additionally, within a few hours we will release a recording of this call both in a streaming online format and through a downloadable podcast. You can access all of these through the investor relations section of our website at Shutterfly.com.

Before we begin, I’d like to note that our discussions 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 and statements about historical results that may suggest trends for our business.

For more information regarding these risks and uncertainties that could 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 section entitled Risk Factors in the company’s last annual report on Form 10-K and its other filings with the SEC. I’d also like to note that any forward-looking statements made on this call reflect analysis as of today.

This presentation contains certain financial performance measures that are different from financial measures calculated in accordance with GAAP and may be different from calculations and measures made by other companies. The quantitative reconciliation of these non-GAAP financial measures to the most comparable GAAP financial measures is available on our third quarter Q3 2010 earnings press release, which is posted on the investor relations section of our website at Shutterfly.com.

Before we begin, I’d like to note that our discussions 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 and statements about historical results that may suggest trends for our business.

For more information regarding these risks and uncertainties that could 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 section entitled Risk Factors in the company’s last 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 analysis as of today. This presentation contains certain financial performance measures that are different from 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 third quarter 2010 earnings press release which is posted on the Investor Relations section of our website at shutterfly.com.

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

Jeff Housenbold

Thanks John and welcome everyone. I’ll start today discussion with an overview of our Q3 performance, follow by summary about progress and key initiative and then highlight our focus as we head in Q4 RSP. Following my remarks, Mark will review our Q3 financial results in detail and provide our updated guidance for Q4 and full year 2010. We’ll then open the call to your questions.

As you listen to our remarks today, I’d like you to keep in mind two key messages. First, we continue to see very solid growth rate and increasing contributions from our award winning line of Photo Books, cards and stationery and for our private personalized shutterfly shared website.]

Revenue growth we had throughout the year and the accelerated growth we seek from our core personalized product. We live in doubt that our strategy on target and that we are continuing to delight our customers with unique, stylist and in creative ways to share life joy and to stay connected to the people that matter in there lives.

Second, throughout 2010, we’ve been making important investments in key areas of our business. We believe these investments position us well for this years Q4 holiday season and will enable accelerated product innovation and operational efficiencies in 2011 and beyond. Getting these investments are centered on improving our platform and storage architectures and our image writing and e-commerce capabilities.

In addition, we have released many new products, features and design improvements during the year. These improvements have provided our customers with an elegant user experience and on trend design forward products while further differentiating our brand and improving out competitive position.

With these messages in mind I will now summarize our third quarter headline financial results. Shutterfly delivered solid third quarter result that clearly reflect our continued focus on key strategic initiative, our relentless goal of satisfying very customer and our goal of increasing shareholder value. This quarter marked our 39 consecutive quarter of year-over-year revenue growth and we delivered the top-line with better than expected margin.

During Q3 we delivered $49 million of net revenues, representing the 21% year-to-year increase and 25% for our excluding referral fees. Our strong performance was once again fueled by continued growth in our line of personalized products and services which grew 38% year-over-year or 47% excluding referral fees.

Now I will briefly highlight recent progress on our key strategic initiatives starting with our products. Photo Books continued to gain momentum and popularity and its featuring we have added excess of a corporate images from Photo Book creation experience as part of ongoing effort to make it easy for customers to create Photo Books with their images, regardless where they are stored.

In our Simple Path creation experience we enhanced the voice control options and added new style including travel, vacation and holiday. We also improved the profits of collecting photos, using these photos gathering them. Gathering then provides uses within easier way to review the photos that selected from various sources like my Shutterfly share sites, their computer, Picasa and Facebook.

Turning now to cards and stationery, we continue to streamline the customer shopping experience and expand the breadth and depth of our cards and stationery collection. We have lost nearly 1400 new holiday designs across all form factors including our new 5x5 flat stationery cards. With new occasions story cards and target and designs that are classic, modern and fun our collection offer something for everyone. We make it easier for customers to stay connected during the busy holiday season. We have added 5x5 stationery cards to our distant direct mail service.

As part of our Q4 holiday season preparation, we will design our calendar offering and expanded our photo gift collections. We introduced a new sophisticated depth calendar and added new features in plug-ins and new designs to our calendar collection.

On our wall calendars, unique incorporated design and personal relation on to the lower grid adding the ability to customize specific gadgets, text and photos. We also added enhancement to our total gift collection with the introduction of elevated design options for interesting Photo gifts like mugs and mouse pads and added features like 3D preview.

New addition we undoubted our home décor collection that helps consumers to turn their table images into personalized artwork for the home. The collection includes mounted wall art and desktop plaques, as well as expanded canvas print choices.

In addition to our Q3 product enhancement we launched many new capabilities and improvements to our key service offerings including share sites upload tools, mobile applications and resale pickup.

Our share sites provide a unique, secure and mail box solution attracts customer acquisition product sales and user loyalty. Adoption of Shutterfly share site with the expanding demand family announces sites across many vertical news pages including new sports, classroom and personalized groups with more than 2.5 million sites created, Shutterfly share sites have become one of the premium providers of secure, personalized, color rich and engaging websites for families and groups.

In august we partnered with AYSO, the largest parent orientation in the US to provide the team members with personalized team websites. The caption that interest and excitement schemes we create and easy to use custom site wizard that needed purchased equipment to be in their site chose 13 color validate their roster and schedule there calendar their events. Each prize secure website on members own and endorsed by the AYSO's Safe Haven program. Our share sites provides clients with central location to access integrating gain in profit schedules with automatic email reminders, sign up for Snack duty, update player availability, share and post the linked photos and creating sites from team by photographing keep posters.

The early response from administrative taking and parent has been very positive. The part of share some strategy we are providing powerful solutions to customers across different vertical news cases, for example we added features to Classroom share sites and comment for the back to school season. Shutterfly Classroom website are private and offer a variety of features that save time for teachers and clients and remove the halfway of paper sign outs and numerous back and forth emails to members and post contact information for teachers and more in parents and other key volunteers and can create a list create class list with each childs current contact information and status for everyone knows who’s who.

The new volunteer section makes it easy to match up parents with the needs of the classroom neighboring online sign up for things like teachers wish list, top left field trip shop rooms and teachers parent conferences , the classrooms calendar helps keep everyone in the loop by sending electronic reminders of how important upcoming class events. Shutterfly website also makes it easy for teachers to post photos, videos, class news, homework, handouts and links to form information.

Our share sites are help us to create sites for teachers and parents , benefiting the students learning experience, inefficient making share folders central place for public sharing we want the consumers the authority to take their photos with them where ever they go and therefore we continue to build applications for desktops, laptops, and mobile devices.

In July we introduced our [photo] operator to give customers the choice of uploading photos at unique different resolution, and speed up to four times faster. The [photo] operator has become one of the fasted adopted teachers.

Lat week we launched a Shutterfly portal in response to users who can use the free applications to access and purchase photos from iPad to personalized share price for friends and families to see. We are constantly looking for ways to make it easier and more convenient for our customers to store share, corporate photos where ever they want and when they want.

To support their efforts we have increased our preference that we just in time for the harvest season. Last week we went up for our cell phone customers more options for in store pickup. And 14000 additional locations to the current nation wide options of target stores. In effort to drive a wireless controller we continued to offer rich valuable offered through our site.

In September we partnered with and offered their second ever national deal for more that 10 millions group on members that offers customer as free, when they purchase a qualifying digital camera or a camp corner. On the source media funds our efforts continued to be of high level of customer engagement, since launching up our facebook for customers who have responded positively in content on our page.

The opportunity we can gage and share with others for user to provide key and record or to share a point. We continue to explore new way to integrates our marketing programs with social media throughout the social sphere, some of our recent introductions include the availability to use facebook photos and based on the earlier adoption we believe facebook will continue to represent important distribution opportunities as more people share photos online and look to create lasting with those images, At the end of Q3 our facebook feature has grown from more that 105 thousand.

And finally the teenage Shutterfly is a company that comprises of innovative action oriented people, who have a fashion program.

In September Shutterfly is being on of the 25 peer who work in America , great place to work, an institute. We also remained Arizona’s most admired companies in like Arizona business magazines and business journal include Shutterfly in list of best places to work later this year.

As we head in to the holiday shopping season I believe we are prepared to out executive the competition, because of our differentiate offering, inventible site experience, innovative product disrobement, where actual design, choice and efficient manufacturing capability. This focus will enable us to maintain our track record of the increase revenue, free cash flows and long term share holder value with that I turn over the call to Mark to review our financial in details. Mark.

Mark Rubash

Thanks Jeff. I’ll start my discussion today with some observation on the economic environment as we had in the Q4 followed by review of key methods and then a walk through this quarter operating results, I will conclude my comments with an overview of our update 2010 financial guidance following that discussion we will open the call for your questions.

Over the course of last nine months we have seen signs where consumer spending levels are stabilizing and in some areas beginning to show some improvements. As we look forward to this years holiday season most economic forecast are calling for a modest year –over-year increase in overall retails spending and a continued consumer spending into our line channel.

More specifically due to the unemployment and historically low consumer sentiment is fairly stable revenue growth throughout the year and healthy growth in our top level matrix in Q3 during the quarter has visited a trafficconsistent with both Q2 and the prior year level and our immediate registration accelerated for double visit year over year growth.

The number of unique up loaders and uploaded images also accelerated and the growth rate for transacting customers and was the highest since Q1 of 2008 while it is all difficult to forgets the volume and quality for each transaction in Q4 were pleased with out result today and believe we are prepared with a solid customer foundation for the seasonally strong fourth quarter.

Lets go to results starting with net revenues , net revenues for the quarter from 49 million reflecting 21 % year over year growth and 25% growth excluding each, the allocation of net revenues between new and existing customers was 23 and 76 % respectively with continued accelerating year over growth with new customers.

In terms of product, personalized products and services represented 67% of total net revenue and total prints represented 32% net revenues from 4/6 or 18% of total net revenue, down from 24% in prior year and our commercial initiative added 570,000 in terms of net revenue growth rates personalized products and services increased 38% year over year and 47% excluding rates.

Q3 mark four consecutive quarter of accelerating year-over-year revenue growth for personalized products and services. their solid revenue performance led by continued strong growth as low as significant contribution from cars and stationary collection so will be roughly flat compared to the prior year and improvement from the 6% decline we saw in Q3 of last year,.

With respect to commercial print while we are not progressing as quickly as planned. We continue to refund strategy to differentiate our solutions for variable marketing and continue to believe that this opportunity is an important alternative use for our non seasonal manufacturing capacity.

The cost revenues in Goss margin we reported a gross margin of 49% during Q3 exceeding our guidance of well affairs of the 47% margin reported in the prior year.

This strong margin performance result in some circular factors including continued improvement and product legal efficiencies and lower material cost, offset promotional discounts. Technology in development cost total 11.6 million for the quarter and increase of approximately 2% over the prior year excluding the base compensation and appreciation.

Our technology has development spending increased to approximately 1.3 million net of amt capitalized As we discussed earlier this year of substantial majority of this is distributed to the engineering and other products development investments. We are making to improve the debts and quality of products and services offering continual income statement sale the marketing cost level of 11.5 million in the quarter representing 23% of net revenue consistence with Q3 of last year

Excluding stock rate compensation with 2.2 million dollar year over year cost increase is associated with primarily with expanded online direct response and partner marketing campaigns

During Q3 our total sales and marketing expense per transacting customer excluding stock rate compensation decreased about 1% in the prior year and remain below $9.00

General administrative expenses for quarter probably 10.9 million or 18% of net revenue consistence with Q3 of last year, excluding start compensation and credit fees which very on revenue environment GNA expenses approximated of 11% of net revenues in the quarter again consistence with Q3 of last year.

Adjusted EBITDA for the quarter for 2.2 million extreme the higher over guidance are 3.2 million this continue growth and EBITDA profitability resulted primarily from increase demand for our product and services improvement and product mix and consistence efforts the manager cost structure in the line with our revenue growth.

Effected cash rate for the quarter was 40% reflecting Q3 this street items have a full year estimated tax rate on a GAAP basis our net loss for the quarter total 4.8 million or $0.17 per shares based on 27.3 million outstanding shares.

Now I’d like provide some additionally on our capital expenditure and liquidity. Capital expenditure during the quarter total 5.3 million including 1.8 million for technology equipment on software, 936000 for manufacturing equipment and building improvement and 2.5 million in capitalize software development cost.

Cash in cash equivalents at quarter end total 168.5 million to complete by discursion today I would now like summarize our revise outlook for the full year 2010 together with some inside on a under line assumptions, consistence across each month in Q3 and continuing into this week we have change stable level in our sire traffic and order volume.

Well Q4 growth rate or currently our performing with lower level from 2009 we expect that the combination of a weak economy and challenging 22% prior year revenue comparison or likely contribute to sequential decline on March [ph] Q3 revenue growth rate.

And terms of the components of net revenues we continue to expect some improvement in not holyday growth rate with more hell waited increases around the traditional holyday and gifted. We have expected consistent mix of revenue between new and existing customers with modest growth in order value.

And finally we’ve expected continue shift of revenues from 4.6 and other sprint category for award wining a line of personalize product and services, with respects to commercial price imitative well we have made some progress on our plan to expend our customer very and the quality of commercial sprint transactions we now believe that revenue will improve only modestly on Q3 levels and that’s a full year revenue will now approximate 4 million.

In terms of our cost structure for the balance of 2010 will remain strongly committed to our strategy of carefully balancing investments for growth with also lot of year increase profitability and pretty cash flows and this philosophy has been reflected in today’s increase revenue and profitability type.

Or these comments is contacts are now summarizer updated guidance for Q4 and the full year 2010 starting with Q4 we’re expects net revenue to range from 148.5 to 153.5 million with year-over-year growth rate are up Q 17% excluding resources this guidance reflex net revenue growth rate of up Q 19% we expect our GAAP gross margin to range from 16 to 62% of net revenues and our GAAP operating income to range from 40 million to 44 million.

Excluding resources this guidance reflex year-over-year gross margin improvement about to 1% point we expect our adjusted EBITDA will range between 49.5 million and 53.5 million under a GAAP effected tax rate will range between 36 and 38% and finally we expect a GAAP net income first year to range from $0.86 to $ 0.09 Q based on approximately 22 million 0.5 million waited average common shares.

Turning now to full year 2010 we now estimate that net revenues will total between 290 and 295 million with year-over-year growth rate ranging from 18 to 20% excluding this guidance reflex year-over-year revenue increases ranking from 20 to 22% verses 16% growth rate in 2009.

We now expect for full year GAAP gross margin to range from 55 to 56% of net revenues excluding our this guidance represent a gross margin improvement about to 2% point over 2009. We expected our GAAP operating income will range from approximately 14 million to 18 million and this full 2010 EBITDA margin will now range from 19.5% to 20.5 % of net revenue.

Excluding our this revive guidance reflected year-over-year improvement about to 2% point in our annual EBITDA profitability the full year GAAP affected tax rate as expected to a range from 32 to 37% also as a reminder we expect to our crew taxes payable for several purchases during 2010 and will be ginnery cash taxes in early 2011.

We continue to maintain net operating loss carry forward a California accesses and do not expect to generate insignificant California cash liability during 2010 we now expect the full GAAP net income for share we a range from 34 to $0.40 per share based on 29 million waited average diluted share and finally we now expect that full 2010 capital expenditure including capitalized software development cost will range from 22 million to $24 million

Further summery we believe we are well positioned for the 2010 Q4 holiday season yet continue to maintain a level of caution given a casual economic environment and challenges facing all consumer. We believe we were updated Q4 and full year 2010 net revenue and profitability guidance for almost recent operating performance and there is a profit ready given current market conditions.

So with that I thank you for your time today and look forward to speaking with many of you in days and weeks ahead we will now open the call for your caution.

Question-and-Answer Session

Operator

(Operator Instructions) Our first question in the queue comes for Imran Khan with JPMorgan.

Imran Khan - JPMorgan

A couple of questions one on a group rate seams like accelerate and I think it has got the fastest growth rate in couple of years I was trying to yet understand what drove the order acceleration if you can give us some inside what percentage of the orders are coming from new customers verses recurring order that customer somebody bought something over the last 12 months and secondly more of long term picture questions just you and I talked in the past that.

And I think you roll out this icon application that has consumers are uploading pictures for social networking sites and different areas and how you can sort of I can become app to actually take pictures from anywhere and you can predict some sense like what percentage of your printing revenue coming form people are uploading something on shutterfly.com site verses people taking it from somewhere else any kind of color on that will be really helpful thank you.

Jeff Housenbold

Thanks very much in terms of this autograph site for very stratified with the momentum that we have been experiencing during in the first three quarters has been year firstly hoppy increasing in customer growth rate and three quarter and best over consecutives three quarter since we had some 2005 in terms new growth in a in growth rates in terms of new customers.

We’ve also seen those new customers as we talked about on last few calls looking just like existing customer and terms of purchase behavior in average order value so divine sort of stationary on FB first order where couple years ago that first order which 4/6 print and the lower average order value their average order value over collapse three quarters and slightly higher than existing customer which is a nice track so well we are not compare to break out this specific percentage of order from new verses existing but new is growing and it nice clip.

And I think that’s some combination of two things one is we are just moving up the adoption and in terms of total awareness in the market place and second I think we are still in customers formally [ph] competitors as we continue to invest in the platform in the product design and our customer funding policy.

In terms of I phone applications social networking and how we think of it I think talked on last call is continue to invest so that we take set of destinations returning in both the destination and in application and that application can sit wherever our customers.

So from last three quarters we opened up our platform where in our simple platform sort of creation for example you can now four pictures from Shutterfly, Shutterfly’s share site your hard drive, facebook and those recent mail over the last few weeks.

So our intension is to continues the open up the platform and allow people wherever there allow them to use there award winning creation in the past and hours saved to improved product quality and so it still relatively small percentage of the total photos and from any orders coming from non Shutterfly base products today but we think overtime as we continue to invest the differentiating out sales that the creation and a manufacturing capability that one would be able to address a larger market than those selling on Shutterfly.com

Operator

Thank you our next question in queue with Youssef Squali with Jefferies & Company.

Youssef Squali - Jefferies & Company

Thank you very much and John, Jeffrey, Mark congratulation on the good quarter. Mark I wanted just a little bit on the second lower on the apex and margin and second of the [welcome expense] it shows nice scale of positive scalability this quarter that it looks like if double-digit capitalize suffers expense Q2 to Q3 which we try and understand.

Did you reallocate the cost some other are historically there and its not why did you do that it is sustainable and then on the margin side for Q4 it looks like the implied EBITDA margin is ramped 34% versus 36% last year and one would seems that we scale and a lot of development behind you we see improvement margin not since you can provide some influence that we there helpful.

Mark Rubash

Sure on the first point on second, as we have mentioned and in the list of last couple of calls we have been making some pretty sizable investments in that second day of organization that are touching some pretty major parts of our platform everything from rendering it forward to a number of new consumer facing applications that demands this year and more to come next year the nature of the development this year is much more oriented toward significant and new feature functionality and capability and under the accounting roles are requires that we capitalize a larger proportion of the developments and so if you go through the press release, we capitalize our 2.5 of leverage $2.5 million in second debt corpus quarter compared to.

On an ongoing bases its really a more dependent on the nature of the development efforts generally small features and functionalities are not capitalize of the same extent and major new features functionality capabilities are at the greater capitalization raise and so its not change in nature of what we are working on this quarter and so,

Youssef Squali – Jefferies & Company

Q4 is going to be in Q3 second half versus capitalized just that.

Mark Rubash

Yeah I think it will probably be surely stable as you know we don’t release a lot of new customer facing feature functionality and Q4 because of the volume of business but that doesn’t come or continue to work on a number of the platform related technologies in Q4 but I really expect to see this type of rates certainly in Q4 and probably into the early part of next year and then the rates following that will be more dependent on where we land on our 2011.

In terms of, could you remind me the second part of your question on EBITDA I think the main thing that may not be in your number this is the impact of web royalty [ph] in last years EBITDA Q4, I think that number will develop $2.4 million which is the 100% margin that isn’t in this years Q4 in terms of product make year-over-year.

We expect to see fairly consistent mix in this year versus last year and certainly the one in share of the 90 months growth as in focused on our book low fonts and cartoon stationary category and we will expect that the greater year-over-year growth will continue to come from those categories in Q4 but we will also has significant contribution from total cards and calendar.

Youssef Squali – Jefferies & Company

Thanks. I just may ask one last question Jeff as well as you can give us a little more caller and the CBS [ph] will agree in capital relationship, can you just describe the nature of he products still offerings to that channel affordable expenses, offer see that channel is adjust the 4/6 ad 5/7 and where is the where those products actually locally but do you if people can actually shift into this stores.

Jeff Housenbold

The relationship that we announce last week with both CBS to that in the early days its simply a from pickup option for a customers on 4/6 brands so if the difference today or the next day now, are 14000 more locations in addition to our nearly 1200 targets stores that have that capability as well those trends are locally in the store and that allows for the immediate turn around and we hope this time there and as we continued to invest in an expand our retails strategy that will be able to offer more options to our customers but today you can last as little as one hour our customers can have that 4/6.

Operator

Thank you sir our next question here in queue with Mitchell Bartlett with Craig-Hallum Capital.

Mitchell Bartlett - Craig-Hallum Capital

Hi good afternoon. Then Jeffrey will talk to each one of the nature product categories there was expansion of this at that time and just I know this is hard percentage come up with probably but one of the hallmarks of this year is been just the total growth in the customer bases and presenting them so many more products lets how many more products this year versus last.

Jeff Housenbold

Yes, to think about it and next one is what do you see product that perform factor so a 8.5/11, 7/9, 12/12 of form factors I mean in soft cover hard cover, leather cover books encouragingly offer a 4/8, 5/7 flat dictionary card 5/7 folded and we just introduced new 5/5 a stationary card. So the total numbers used is due to laminate that the card in there is five or six package. We know then launch 1400 new holiday designed for this Q4 on Christmas other Q4 holiday

And so we think about keeping the number of physical font factors and get efficiency in manufacturing but also in the diversity of layouts and design templates and augment so that there is something for everybody in the group and if you think about I talked about calendars on in my remarks we traditionally had a one size calendar we are meant to that base from customer feedback that they want to put the folder on the individual date and we have to put text that is grammar, birthday or the wedding anniversary.

And that we heard someone will love these calendars they can in the home but we also led something for that, so we wants the desktop calendar as the great gift for mom or dad that they should be please and actually fairly seem but it’s the design towards this what we are focused and also that we can expand the adjustable market.

Mitchell Bartlett - Craig-Hallum Capital

On a percentage base this the number of design for us significantly or ?

Jeff Housenbold

That we had roughly 900 holiday branches this time last year so the meaningful increase on the number of design from last year and customer feedback and our focused on the cartoons stationary industry understanding what is on trend and what is the designs that we think we’ll resonate with our con customers and new perspective customers.

Mitchell Bartlett - Craig-Hallum Capital

And, my second question would be on the average order value, which had been trending up this year, pretty meaningfully and then it’s flat in the Q3. Would Photo Books more and more part of the mix, you would expect that to go up. Was there anything in the quarter that you did promotionally that your cost ALV to be somewhat flat?

Jeff Housenbold

Yes. I think there were two things. One was, we’ve been testing new emergence on flat sales sides. Such as . As I mentioned in my remarks, and so that drags down a little bit of the average order value because you’re offering a kind of a premium discount and try to acquire new customers in some of that revenue you don’t recognized until on purchases.

But the largest impact was, we went out through our best customers and we said thanks for being a Photo Books customer and we offered them a free Photo Book in a quarter. Now, some of them came, they paid for shipping, some came and added pages, some shows up sale auction on covered and habit or later.

So, that direct it down and then equally if not a little more important is a mind last year in the dates we had wet loyalty in our in the days with average order value and for Q3, we didn’t have it in Q2 either. But in Q1 it was in the average order value.

Mitchell Bartlett - Craig-Hallum Capital

Probably it’s my last question, what was Web Loyalty in Q4, last year?

Mark Rubash

I believe it was about $2.4 million.

Mitchell Bartlett - Craig-Hallum Capital

A $2.4 million in Q3 and then again $2.4 million in Q4?

Mark Rubash

No. sorry, in Q4 of last year, it was about 2.5 in Q4 and 1.3 in Q3.

Operator

Thank you, so your next question in queue is Jim Friedland with Cowen and Company.

Kevin Koppleman - Cowen & Company

Hi, Jeff [ph] it’s Kevin Koppleman for Jim. We see with a digit from them are pretty strong here and the consumer demand stable. What so likely were they you guys are looking to international expansion next year and who am I that look like?

Jeff Housenbold

We don’t have hard timeline on international expansion. I think primarily what we’ve been trying to do is make sure on investing in a wining formula its here in the United States and continue to extend that our leading position from the market shares standpoint. And then we look at international expansion from the top-line growth perspective, we look at what’s its going to do in the near term, mid term and long term margins structure.

If you look at the macro economic trends that are happening in Europe for example, or in Japan, we’re just having a little bit of inflation in Europe and then now in little bit in trouble. We look and feel by acquired rent partner kind of an out season to.

We’re having those dialogue and we’ve been having those and we wait that again with the others strategic priorities that we have and when we moved international we put me like you guys know we’ve been, it is in the future shall applied and but we’re not at the point we having commit to our hard date at this time.

Kevin Koppleman - Cowen & Company

Okay, thanks. And then on shares side, did you guys give a metrics for how many shares at the end of the quarter and also if you could give us an update on the advertising service?

Mark Rubash

Sure. I think we had about 2.5 million share site at the end of the quarter. We’re pleased with the progress there. Many of their other players in the industry who had been offering a similar service had recently changed their model from three to P [ph] and that had benefited because we have the build in our invasion of selling physical products. And we’re offering the secured private photo visual engaged and rich environment that is very different in what the Facebook is offering from their groups.

So I think we’re very well position and we continue to expand into a vertical used cases with more and more functionality that it telling to that contextually relevant activity and that is driving customer registration, customer purchases at increase differentiation around the and then stricken it. So really pleased with the share side.

On the advertising experiments that we’ve been conducting on primarily on the shares side with on that amount inventory which is nice but not the size of inventory that’s a major contempt either as I’d like the job to with fees with the progress that we’re making, we plan this to become a page that you’re going steady and we’re not expecting a hockey stick here. So, it is based upon adding more and more inventory which will come along with more and more shares I think they are credit.

So, I think the experiment is the minimal expectations at this point. And we’re looking forward to you increasing the revenue from that sources over the next few years.

Operator

Thank you. Our next questionnaire in queue is Colin Sebastian with Lazard. Please go ahead.

Colin Sebastian - Lazard

Thanks very much. Can you point a bit on briefly advertising expenses going to Q4, and what you’re thinking there customer acquisition costs or online advertising pricing. That’s my first question.

Jeff Housenbold

I think I have read in a couple of buckets. So, we see an increase in TPP on page is search going into the half fourth quarter anticipating those to rise again this fourth quarter like I have done season like. I think if I had to give you a range, my guess is to more between 12 and 18% higher than 15 costs on this year over the last year primarily driven by increased demand and companies spending a little more on sales and marketing than the last year. When I think they were more fund up. Then I think about the bucket of display advertising across major networks. And we’re seeing with all of the ads changes and the increasing volumes of inventory and the ability to retarget were actually a fee deficiency and in the display advertising.

Moderated those efficiency to moderate it that we are now more focus on bringing higher value customers into total government card dictionary which there cost to do so its higher than a 4X6 print customer but the average order value and the gross margin to higher as well. So, it’s a good worldwide based in correct view.

And then lastly, we look at historically we have done direct mail now in catalog in the fourth quarter and be in the printer we’re able to understand a cost of doing that and those cost should be relatively flat and slightly improve in year-over-year.

Colin Sebastian - Lazard

Okay. That’s helpful. Thanks. And then just a follow up on the average order value in the commercial environment. Are you making additional initiative either with the flash sales slide or free books that might also depress that number in Q4 or is that more on a Q3 specific events. Thanks.

Jeff Housenbold

Yeah. I think keep force on business quarter in terms of if I think having the right promotion at the right time to get the customer in the store and make sure that they actually takes out their credit card. We’ve seen over the recessionary period at Q4 ’08 and ’09 that retailers all the way in fact add a new down to cold are doing more and more promotion.

So I think that is consisting across the broad e-commerce landscape for anticipating that behavior that can be relatively stable Q4 2010 over the last year and through out, our key selling season are going to make sure, we’re optimizing our marketing advertising and promotional strategy that we could drive on both top line as well as bottom line, not for the current quarter and for the year.

Operator

Our next questionnaire in queue is James Cakmak with Sidoti & Company.

James Cakmak - Sidoti & Company

Alright, thanks for taking my question. Looking at net shares very specific obviously in the important component of the longer term growth. Can you just talk to you how that’s trending relative your expectations and provide any kind of the quantitative feedback on how much of the new customer growth came from that, you talked interrogation are those going to picking up?

Jeff Housenbold

Sure. We’re very pleased with our share and progress. I think we put out a generally differentiated offering into the market place, differentiate would come out core competitors but differentiate it from what other companies are offering in different from what you could get on Facebook, we think its complementary to what we’re doing with Facebook, other with Facebook is doing. We think the robust features and specific future functionality for a different use cases make us unique. So, we’re very pleased with the progress.

We’ve talked in the past about registrations versus customers and mostly for competitive reasons the share sides are now the single largest sources of new resistance for us, its something that you’re getting them into registered than the outlook and they purchase and so we think it a good indicator and a partial of the some of the accelerating growth and the customers that we’ve had throughout the year.

In terms of sales, this is the first year of a multi year agreement and very-very good partnership with the feedback from there administrator, there as well coaches around the country and clients has been phenomenal that is making coaches unlike easier managing and that’s helping client share, picture and be able to please our simple staffing custom staff [total books] as well as posters and other product so we think we’re well positioned to continue to penetrate further in to new exports. Our recent launches our class wanted another key focus in addition to families. So we’re excited about share sides and we’ll continue investing additional feature functionality on business partnership.

James Cakmak - Sidoti & Company

Okay. And you have to drill few months on the ALV but I guess can you, on a higher level on how you think about discount on promotions and then balancing that with the new company because it seems like you’re willing to give up some order value in order to drive new traffic it was giving right sort of books on your best like ownership to group what’s really, how do you balance that?

Jeff Housenbold

Yes, so we don’t selling to the quarter, so we record breaking metrics due in the creating customers’ orders and average order value. We internally don’t go in to the quarter with a specific target, we want to have this customer growth, and order growth of ALV.

The reason we provide through that, they are going to fluctuate from quarter-to-quarter depending on new product launches, depending on marketing initiatives comparative landscape macro economics, what we do as we look at what is the given marketing program that we have and what our short-term and long-term goals are and so what we want to do given that were so early in for example the total book market

And what we want to do is increased awareness and try on legally wants someone tried our fantastic order books, then we have the much higher likely that is been coming back and purchasing more frequently when they purchase that given a just send them electronically they posting on facebook on their blog and will get bio benefits that’s go beyond just the initial purchase and the initial discount that we may offer a customer.

So, we’re comfortable tricking and testing and optimizing and finding were that collateral front year in terms of lot fiscal years and we target to expand our customer base as far as possible going in to fourth quarter because we have a relationship with them or more likely to be able to grab other products.

James Cakmak - Sidoti & Company

Okay and lastly you talked about the stabilization of the capital base when did you exactly begin to loose was that certainly just count about late in the quarter or hoping that extra revenue throughout the quarter?

Jeff Housenbold

For instance, on our last earnings call, Mark had talked little bit about on some moderation in July. As we look back in the versatility of the quarter, I think that seem to be a uplift.

I think we saw a nice acceleration in a few, look in to and you can see that some of the marketing initiatives and partnerships that we had seen increased litigation across that and the other metrics that were required, so we saw little softness in July and August and September work better than July.

Mark Rubash

Yeah, I think I have to add if you look at our total customer counts going back, a number of quarters to some extend there is a pretty high co-relation with the data of the economy if growth rates were declining as it went across 2008 and I think Q1 of ’09 was probably the low point in growth rate of customers and since then its really been several quarters in a row where we seen a continued improvement in the growth rates and this quarter was one of the highest being in the long time.

James Cakmak - Sidoti & Company

One last, if I may, on the retail partnership, what do your expectations I mean do you think something bigger than your target relationship and the economy has designing with the same as target?

Jeff Housenbold

So, hardly, a target were up from more than four by six and pick up the offer four by eight and part by seven so it’s a little bit more expensive in terms of the products offering and [CDS and wide range]. With CDS and wide range you have 14,000 point of presence top to bottom verses target 11,050.

So we way that off and then keeping mind Q4 is not a heavy four by six client season for us, its predominantly books so we take as a nice modest increment to what we’re doing and develop the relationship with some of the larger retailers in the eco system that we can build on in 2011 beyond but we’re not anticipating in meaningful contribution in Q4.

In terms of economics what break out specifically as obviously that confidential but relatively the industry has for the most part stable comment economic revenue shares on those types of relationship.

Operator

Okay, thank you. [Operator Instruction] Our next question in queue is Mitch Bartlett with Craig Hallum. Please go ahead.

Mitch Bartlett - Craig Hallum

Wondering if you press the curve on the marketing to Facebook or Picasso unlike with regard on that core?

Jeff Housenbold

When you say marketing to Picasso Mitch can you give me a little bit more?

Mitch Bartlett - Craig Hallum

Well, how are you engaging customers on Facebook or Picasso? How they finding you? You talked about the webpage of Facebook over 150,000 and so are those your existing customers or those, Facebook customers that are finding you? How are you? How you marketing to them?

Jeff Housenbold

Great, so it’s a combination of couple of thing. Obviously we have a webpage and with no marketing dollars some company, some of the competitors are spending 10s of million marketing their Facebook page, we haven’t done any of that. We have in the Q3 157,000 client, so certainly about some nice base because who tend to the at present net dialogue tend to be key influence there in there respective community and superior thoughts of clients.

The second way that we reach Facebook customers as would you some advertising on Facebook there platform allows you to target people based upon self describe interacts, gender and other parts of the social graph so you could say, you think wanting 25 to 55 people who stay there interacted the target base and who say they have said. And entering to US and so you could target your advertising on your display advertising on Facebook.

Those two what I call nice to have, I think the mean while that we interact and attract Facebook customers improve and actually reduce our experience so our share strikes are integrated to the Facebooks and acting allow me to lead comments and worries and post pictures, our photo books after you have done creating one.

You could post that add to your Facebook page and so set when users were actually crossing the platform then using it and bringing there social network, their influence to be exposed so they are acting as powerful events, so we will continue to increase the messages that we have with Facebook based up on customer demand and give our customer a choice on how they want to share that pictures between private means like our share sites are more open social graph as Facebook offers.

In terms of Picasso, Picasso is primarily an editing tool and when you done editing, they offer due the ability through there viva and when you click on there viva and they have list of 15 or a 20 people on a global basis that they focus like that and that allow you to turn your memory in to physical products.

And one of those, and they don’t differentiate so it’s a alphabetical, lift that randomly changes but it does remember who you want to laugh, and it shows the last one first so our customers can are continue to equip for there is no way from markets in the Picasso users first day, outside as a broad base integrated marketing campaigns for you across online partners in half one.

Operator

Thank you, ladies and gentlemen this concludes our time for questions-and-answers. I would like to turn the program back over to Jeff Housenbold for closing remarks. Sir.

Jeff Housenbold

Thank you everyone for joining us on the Q3 call hopefully, take away from the callers that we continue to invest in differentiation and user experience on in designs, in quality and in our employees and in the customers retention and loyalty that have served us well for the last 11 years.

The second point is we’ve seen increasing momentum through the first three quarters in the year, I think that helps us nicely for the fourth quarter, which reflected in our increased guidance and which would now taken up for a last three quarters and our scale and our efficiency is allowing us to deliver the top line with increasing EBITDA margins, which should derive long-term shareholder value. So we’re busy here at Shutterfly getting ready for he fourth quarter.

We’re excited about on the line up for products and designs and capabilities that we’re putting of course in the market place this year and we look forward to updating you guys in early 2011 on quarter. Well, thanks once again for joining us and have a great holiday season.

Operator

Thank you, sir, ladies and gentlemen this does conclude today’s program. Thank you for your participation and have a wonderful day. You may now disconnect.

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