Constant Contact's (CTCT) CEO Gail Goodman on Q2 2014 Results - Earnings Call Transcript

Jul.24.14 | About: Constant Contact, (CTCT)

Constant Contact (NASDAQ:CTCT)

Q2 2014 Earnings Call

July 24, 2014 5:00 pm ET

Executives

Jeremiah Sisitsky - Director of Investor Relations

Gail F. Goodman - Chairman of the Board, Chief Executive Officer and President

Harpreet S. Grewal - Chief Financial Officer, Principal Accounting Officer, Executive Vice President and Treasurer

Analysts

Richard H. Davis - Canaccord Genuity, Research Division

Kyle Chen

Koji Ikeda - Oppenheimer & Co. Inc., Research Division

Richard K. Baldry - Roth Capital Partners, LLC, Research Division

Jeffrey L. Houston - Barrington Research Associates, Inc., Research Division

Michael Huang - Needham & Company, LLC, Research Division

Operator

Good day, ladies and gentlemen, and welcome to the Constant Contact Second Quarter 2014 Earnings Results Conference Call. [Operator Instructions] As a reminder, this conference call may be recorded.

I would now like to introduce your host for today's conference, Jerry Sisitsky. You may begin.

Jeremiah Sisitsky

Great. Thank you, Charlotte. Good afternoon, everyone, and welcome to Constant Contact's investor conference call for the second quarter 2014 financial results for the period ended June 30, 2014. With me on the call today is Gail Goodman, Chairman, President and CEO; and Harpreet Grewal, Chief Financial Officer.

During the course of this conference call, we'll make various remarks about the company's future expectations, plans and prospects that constitute forward-looking statements for purposes of the Safe Harbor provisions under the Private Securities Litigation Reform Act of 1995.

Actual results may differ materially from those indicated by these forward-looking statements as a result of various important factors, including those discussed in the Risk Factors section of our most recent Form 10-K and 10-Q, on file with the SEC.

In addition, any forward-looking statements represent our views only as of today, July 24, 2014. While we may elect to update these forward-looking statements at some point in the future, we disclaim any obligation to do so even if our views change.

During this call, we will refer to certain non-GAAP financial measures. These financial measures are not prepared in accordance with Generally Accepted Accounting Principles. A reconciliation of these non-GAAP financial measures to the most directly comparable GAAP financial measure is available in the press release announcing our second quarter 2014 financial results. This press release is available in the Investor Relations section of our website at www.constantcontact.com.

Additionally, available for download on our IR website is an investor presentation, including screenshots and the differentiated packages of the recently released Toolkit offering, our historical financial and operating metrics and a video that Gail will reference later.

With that, I'll now turn the call over to Gail.

Gail F. Goodman

Thanks, Jerry. The second quarter represented another quarter of accelerating revenue growth and increased profitability as we chart a path to deliver sustained revenue growth greater than 20% and profit margins above 20%.

Revenue for the quarter was $81.3 million, representing year-over-year revenue growth of 15.7% and near the high end of guidance. Adjusted EBITDA was $13.3 million, a margin of 16.4%, well ahead of guidance and up 38% year-on-year.

Our performance this quarter and our confidence in our long-term strategy led us to announce a $30 million share repurchase program. We believe we can drive sustained revenue growth, improve profitability and increase cash flow. And as a result, repurchasing our own stock will deliver a strong return on investment and serve as a means to deliver value to long-term shareholders.

This quarter, we continued to make progress with our multiyear initiatives designed to drive top line revenue growth above 20% sustainably. While those efforts are at different levels of maturity, the most significant near-term initiative is the introduction of Toolkit, which we began offering to all new customers in April. We are pleased with the customer response and continue to test and iterate our way into optimizing Toolkit.

Providing value to our customers and ensuring their success is our chief priority. Toolkit provides great value to our small business and nonprofit customers in meeting their varied marketing needs.

The all-in-one Toolkit offering makes it easy for small organizations to use one or multiple campaigns across all the proven marketing channels that matter to get the best results for their marketing efforts. The Toolkit packages, with different price points, product functionality and service levels, give our customers and prospects the flexibility to choose the package that best meets their needs.

As Toolkit evolves, we're working to optimize our sales and marketing process to drive additional revenue growth. In some quarters, that may be driven by ARPU growth; in others, net subscriber adds. We strive to find the right long-term balance and continue to test different strategies that may impact metrics on the margin in the short term. We believe our efforts will drive longer-term sustainable improvements in customer lifetime value and revenue growth.

Not only did we begin offering Toolkit to new customers this quarter, we've also begun planning for the migration of our existing customer base to Toolkit. Starting in Q3, we'll test various segments and migration approaches and learn our way into a great customer migration experience, with the goal of maximizing revenue, retention and customer value.

In addition to Toolkit, we're pleased by the growing success of SinglePlatform as it continues to merge and scale. The franchise or enterprise business had a very strong quarter, adding 11 larger enterprise deals, each with more than 100 individual locations.

Also during the quarter, we were pleased by Facebook's decision to use SinglePlatform data for their new Facebook restaurant pages, which display information including location, hours of operation and menus. SinglePlatform will be the sole provider of data for U.S.- and Canadian-based restaurants, passing menus, products and services and featured specials to Facebook.

Any updates made by SinglePlatform customers to their profile and content will automatically be displayed on the customer's Facebook page to help them get found and ultimately drive increased business. This is further validation of the power of the SinglePlatform data and the strength of their platform.

Our partner organization is also delivering results, again, driving meaningful revenue and customer additions in the quarter. Partners serve an important role in the ecosystem, and we continue to invest in our partners so they can successfully reach, engage and deliver results for tens of thousands of small businesses. We're excited to host hundreds of partners at our second annual partner conference in October.

Q2 also saw continued success in getting local, which has proven to be an effective and productive means for Constant Contact to reach, teach and convert customers.

Our educational efforts, led by our regional development directors partnering with our authorized local experts, achieved several milestones in region engagement during the quarter, including hosting more than 1,500 seminars for more than 60,000 attendees, both company records.

Also, as part of Constant Contact's educational efforts in the small business community, we have taken a leadership role in educating Canadian businesses and other organizations who do business in Canada on the new CASL, Canadian Anti-Spam Legislation, which went into effect on July 1. Through blog posts, webinars, seminars, FAQs and product features, Constant Contact is making sure that small businesses can easily take the steps they need to be compliant when doing Email Marketing in Canada.

During the quarter, we also officially opened the Innovation Launch -- Loft and launched the inaugural class of the Small Business Innovation program.

The innovation program is a 4-month accelerator program designed to support entrepreneurs as passionate about helping small businesses as we are. They are working to scale new products, features and solutions for small businesses and nonprofit organizations.

We support the start-up participants with resources and mentoring from our own marketing and technology experts, as well as help provide them access to the angel and venture financing communities. While early, we couldn't be more pleased with the results and are thrilled to open the doors at Constant Contact headquarters to the small business community.

What makes all this success happen is our ability to attract and retain a world-class team. During the quarter, we welcomed Mitchell Leiman as Vice President of Strategy and Corporate Development, who joined us from Bain & Company's technology practice. Mitchell will be focused on helping drive the strategy for Constant Contact as well as evaluating potential future acquisitions.

Additionally, we hired David McCann [ph] from Google to focus on customer success and retention. And we hired more than 125 other great new team members across the organization to deliver customer success to help Constant Contact achieve our vision.

The entire Constant Contact team is committed to our mission of helping small businesses, nonprofits and associations be successful. This was recently brought to life in our recently launched Constant Contact Promise. This is our promise to our customers to do everything in our power to make them successful because when our customers succeed, we succeed. It is as simple as that.

You can see The Constant Contact Promise in action by visiting investor.constantcontact.com.

Looking ahead, we believe we have the right strategy and resources to deliver for our customers and our company, and we're confident in our ability to further accelerate growth with expanding margins and higher free cash flow.

With that, I'll turn it over to Harp to discuss our financial results for the second quarter in more detail as well as review the outlook for the third quarter and the balance of 2014.

Harpreet S. Grewal

Great. Thank you, Gail. Our second quarter results represented the seventh consecutive quarter of consistently good execution.

Halfway through the year, we are on track to deliver meaningful year-over-year revenue growth, expanding profit margins and higher free cash flow. Our performance to date and expectations for the second half of the year lead us to raise revenue guidance for the full year for the second consecutive quarter.

Revenue for the second quarter totaled $81.3 million, almost 16% year-over-year growth and at the high end of our guidance. We added 50,000 new customers and 10,000 net new customers and ended the quarter with 615,000 total customers.

As in the prior quarter, we saw record gains in ARPU, which increased $3.34 or 8% year-over-year to $44.40, the largest year-on-year ARPU increase in our history.

Profitability for the second quarter significantly exceeded our expectations. Adjusted EBITDA for the quarter totaled $13.3 million, up 38% year-over-year and well ahead of guidance. Adjusted EBITDA margin in the quarter increased from 13.8% a year ago to 16.4%. Our ability to meaningfully accelerate revenue growth while growing profitability by almost 40% speaks to our disciplined approach to driving sustainable long-term growth.

While customer additions and ARPU growth were consistent with expectations, we did experience higher-than-expected attrition rates in the quarter. In large part, this resulted from an increase in credit -- in the credit card failure rate or to put it more simply, not being able to successfully charge a credit card on file after multiple attempts.

While we identified this trend in Q2, the increase in credit card failure rates began in Q1. After speaking to our credit card processor, we believe this to be an industry wide trend, likely related to credit card breaches at large retailers late last year.

These well-publicized events resulted in an abnormally high issuance of replacement credit cards, which appears to be increasing the rate of credit card failure. We are seeing some improvement but remain cautious until we see trends return to historic levels.

From a customer lifetime value perspective, we continue to expect substantive gains for the whole year. Customer lifetime value should increase by about $100 or 10% to about $1,000 -- $1,050. The increase will be driven by improved gross margins and an about 10% growth in ARPU to the $46 to $47 range. These gains will be partially offset by somewhat higher cost of customer acquisition as well as the impact of the credit card failure rate on attrition.

We are in the enviable position to invest in and drive accelerated growth while returning cash to our shareholders. With over $140 million in cash and an expectation that we will deliver north of $30 million in free cash flow for the year, we're putting in place a share repurchase program. We're confident in our ability to execute to our longer-term aspirations and believe repurchasing our stock to be a prudent investment.

Looking ahead to the balance of 2014. We're raising revenue guidance to $331 million, representing 16% growth for the year. We seek to drive top line growth while maintaining our disciplined approach to investing. As such, we expect to meaningfully expand profits and deliver adjusted EBITDA margins of about 18.2%, a 200 basis point year-over-year increase.

For the third quarter of 2014, we're providing revenue guidance in the range of $83.4 million to $83.7 million. Adjusted EBITDA is expected to be in the range of $17.5 million to $18 million, representing adjusted EBITDA margin of 21% to 21.5%.

In ending, I'm pleased with our second quarter results and proud of the team's success in navigating during this transformational time for Constant Contact. We continue to demonstrate our ability to invest in the future of the company while accelerating revenue growth, expanding profit margins and generating higher free cash flow.

We remain confident in our ability to continue delivering and believe we are on path to deliver sustainable revenue growth north of 20%, coupled with margins, also north of 20%.

I'll now turn the call over to the operator to begin the question-and-answer session.

Question-and-Answer Session

Operator

[Operator Instructions] Our first question will be coming from the line of Richard Davis from Canaccord.

Richard H. Davis - Canaccord Genuity, Research Division

Two quick questions. One, do you guys have -- because I know you track just about everything on the planet. Do you have any data that shows the level of engagement that your users, not the end user but the customers, have with Toolkit versus customers who have one module? And the theory behind that is like obviously, they use it more -- as more critical, and you're less likely to turn off. And then the second question for Harp would be -- and then I know there's a bunch of different variables here. But to get to that 20% revenue growth level, what, in your opinion, do you think gross adds would have to be? I mean, because you could also lower your churn, I guess, to get there, too. But how do you think about that? That's it.

Gail F. Goodman

So I'll start with the Toolkit engagement question. You're right, we do have an incredible amount of data and able to see engagement from trial or engagement through customer engagement, from first campaign through ongoing usage. We are really pleased with the Toolkit engagement. At this point, we're seeing -- obviously, most of these guys are in their early life cycles, so we're comparing them to early life cycle for Email Marketing stand-alone. But we're seeing parity or slightly better engagement in log-in, usage, campaigns and contact upload. So obviously, watching the engagement metrics closely and seeing that happen across the package mix.

Harpreet S. Grewal

Yes. And on the -- getting to 20% revenue growth, I think what the focus we have is getting to sustainable 20% revenue growth. And I think if we had fast-forwarded a couple of years, what we would see is meaningful growth in both customer additions, certainly ARPU growth that we're showing and improvements in retention. In the near term, could we get to 20% growth focused on -- based on some of the gains we -- that we think Toolkit will deliver? I think that is a real opportunity for us just based on that one initiative. But we have, as we've talked about in the past, multiple significant initiatives in the pipeline.

Operator

Our next question will be coming from the line of Michael Nemeroff from Crédit Suisse.

Kyle Chen

This is Kyle Chen in for Michael Nemeroff. Just building on the prior question, I was wondering if you can update us on your sort of gross add, net add expectations for the year. Previously, you had indicated sort of flat net adds year-over-year. And given the sort of the higher retention rate dynamics for Toolkit, should we see a higher velocity of net adds exiting this year?

Harpreet S. Grewal

I think for the full year, the most likely scenario is what we indicated in the past quarters, which is gross to net adds being generally consistent with last year, so about 195,000 gross adds and about 40,000 net adds. I do think that there's an opportunity with Toolkit as engagement -- based on engagement for retention rates to be actually better than historical levels. But I'd rather get to those points and then talk about it going forward.

Kyle Chen

Great. And secondly, if you can talk a little bit about gross margin progression through the second half of the year as Toolkit becomes a larger part of your organization, the dynamics between higher ARPU offset by increased costs from personal marketing coaches?

Harpreet S. Grewal

Exactly. I mean, I think for the full year, we've indicated in the past that we think that the gross margins versus 2013 will be about 50 basis points better. Actually, I'm starting to see an opportunity for gross margins to actually improve a little more than the 50 basis points on that end. So I think in Q3, Q4, particularly in Q4, you should see some really nice gains in gross margins flowing through the full year.

Gail F. Goodman

Then I'd add on top of that, that the Ultimate package in Toolkit, which includes that personal marketing coach, still very early in us really understanding how to sell, position and deliver the service component of that. I think we said in the last call, it was in low single-digit penetration. It remains there, so that is not a meaningful driver of cost structure at this point.

Operator

Our next question will be coming from the line of Brian Schwartz from Oppenheimer.

Koji Ikeda - Oppenheimer & Co. Inc., Research Division

This is Koji Ikeda for Brian Schwartz. We recently noticed a new pricing category, Growth being added to the Basic, Essential and Ultimate. I was wondering if you could talk a little bit on the reasoning behind this new category. And given some of your previous commentary on how the new customers are being split amongst those categories, Basic, Essential and Ultimate, could you kind of give us a sense on how that split would have been if this Growth category was around at that time?

Gail F. Goodman

So, Koji, you have stumbled into a test cell. So congratulations because you're now kind of under the tent on one of our tests. That is actually our test of listings in -- with Toolkit. So if you dug in, that growth package was the Essential package plus a SinglePlatform listing, which we removed the brand SinglePlatform and just call listings in that context. That has actually been up to a very small test group for like, less than 10 days, so I'm quite surprised that you saw it. But it's also way, way, way too early to comment on mix, and it's certainly not live to our broader traffic.

Operator

Our next question will be coming from the line of Steve Ashley from Robert W. Baird.

Unknown Analyst

This is Jason Dokovar [ph] sitting in for Steve. I know it's still early. My question is around -- with the Toolkit introduction to all customers with new customers, are you seeing a different profile with those customers or is it the old customers? For instance? Are you seeing growth from some of the larger small and medium businesses?

Gail F. Goodman

Yes. So having launched to the full audience, we are seeing really a very comparable, call it 0 to 100 employee target holding pretty steady. We are seeing some modest gains in larger list penetration. We are taking that to mean that the package mix is offering slightly more sophisticated customers -- are seeing themselves in the range of what we have. But it is -- it's pretty modest on the margin. And we definitely are staying really true to our small to medium business target.

Operator

Our next question will be coming from the line of Richard Baldry from Roth Capital.

Richard K. Baldry - Roth Capital Partners, LLC, Research Division

In what -- seasonally, sales and marketing would be down a little bit as you sort of pull back from some of your broader media, heading into the summer. But with it flat sequentially, can you talk about what you're seeing out there that led to that and whether you think that has any connotation for increased lift throughout the summer for the Q3 period?

Harpreet S. Grewal

Yes, no, absolutely. So it was a very conscious decision that we made over the course of the -- early in the second quarter. We very -- and we saw early on that we had the opportunity to over perform significantly on EBITDA, and with the launch -- and on the profits. And with the launch of Toolkit, we took that as an opportunity to invest a little more in television than we had originally budgeted. So it was a little non sequitur relative to past trend but a really good investment in establishing the platform for Toolkit going forward. In terms of kind of looking ahead in the second half, I would expect that Q2 to be the high point of sales and marketing spend on absolute dollars. And I think you're going to see some very significant leverage in sales and marketing as a percent of revenue and see cost of acquisition coming down nicely in Q3 and Q4.

Operator

Our next question will be coming from the line of Jeff Houston from Barrington Research.

Jeffrey L. Houston - Barrington Research Associates, Inc., Research Division

It seems like growth, at least for the next year or so, should be driven primarily by ARPU gains from Toolkit and the new pricing options. Looking to late 2015 and into 2016, should we think about possibly net customer gains, net customer additions, adding more to growth possibly through international expansion or other initiatives? Any color there would be great.

Harpreet S. Grewal

Yes. So absolutely, I mean, I think obviously we're talking a lot about Toolkit because it's -- we've launched it, and it's playing out and giving us gains in ARPU that we certainly expected. But I think if you fast-forward a couple -- to 2015, we are being more aggressive in testing some things internationally. And I think you'll hear us talk about that, and I look at the international opportunity initially as a net add opportunity and an add opportunity. I think SinglePlatform I wouldn't discount. There's opportunity to not only drive ARPU, which it's doing, but then also customer adds, as Gail pointed out in her prepared remarks. Some really nice gains on the enterprise side in Q2 there that we think we can build on. And on top of that, we have opportunities related to things we've talked about in the past, do-it-for-me opportunities that are both an ARPU and an add place. So we really do, within the 4 walls of Constant Contact, think that we will be showing improvements in ARPU, customer adds and retention in the coming years, which will lead to that sustainable 20% growth.

Operator

[Operator Instructions] Our next question comes from the line of Michael Huang from Needham & Company.

Michael Huang - Needham & Company, LLC, Research Division

A couple of questions for you. So first, on the SinglePlatform win over at Facebook, was wondering if you could share with us if that was a competitive win and then if you could remind us on how this impacts the model. I mean, is Facebook going to be paying any fees? Or are you just monetizing the restaurants? Just remind us how this will drive the model.

Gail F. Goodman

So we don't really comment on deal competition really in the past, and I think we'll resist the temptation to start now. What's the deal -- the deal economics are really more value to our customers. So we are not paying for that distribution. Facebook saw the value of the data, both data we've assembled from our existing customers and the way we are reaching even more businesses and getting owner-verified deep data that enriches the presence of small businesses. So I think it's really just a pure incremental value to SinglePlatform customers that hopefully will translate into better sales of our products.

Michael Huang - Needham & Company, LLC, Research Division

Got you, okay. Now I know it's early here given the fact that you still haven't formalized testing kind of around migrating existing customers to Toolkit. But was wondering if you could speak to how this could have an impact on ARPU. I mean, would you expect that the existing customers that migrate to Toolkit would be seeing some incremental pricing?

Gail F. Goodman

Yes. So as a -- just a reminder of the pricing of the stand-alone products versus Toolkit, for a classic stand-alone Email Marketing customer, about half of them took our MyLibrary Plus add-on. So that puts them exactly in the Basic pricing. So if those folks migrate to Basic, it's flat pricing. We obviously have the expectation that we could get a portion of those folks to move into either Essential or Ultimate. As we are testing our way into migration, one of our most important goals in that migration process is that this is a window of opportunity to educate that installed base on the breadth of value that we have to offer, something we had trouble doing in the stand-alone product cross-sell world. So we'll test the best way for us to do that. We expect to find that, that best way might include personal handholding so that we can give them the opportunity to really understand the breadth of the offering, obviously with the goal of both providing comfort that the product is very similar in some ways. Their contacts, their existing campaigns will all come over. Their business process doesn't need to change. There's just more value available. So we absolutely anticipate it'll be an ARPU lift. What's difficult to guess now is what percent of those folks will take this opportunity to begin using a broader set of campaign types.

Operator

And at this time, I'm not showing any further questions. I would now like to turn the call back over to Gail Goodman for any closing remarks.

Gail F. Goodman

Great. I want to thank everyone for joining us on the call this evening. Our results for the quarter reflect our commitment to delivering success to our customers as well as our continued focus on improving the core drivers of our business and expanding margins. As always, we appreciate your continued interest and support.

Operator

Ladies and gentlemen, thank you for participating in today's conference. This does conclude the program, and you may all disconnect. Everyone, have a great day.

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Constant Contact (NASDAQ:CTCT): Q2 EPS of $0.22 beats by $0.03. Revenue of $81.3M (+15.8% Y/Y) beats by $0.12M.