Support.com's (SPRT) CEO Elizabeth Cholawsky on Q2 2014 Results - Earnings Call Transcript

Jul.30.14 | About: Support.com, Inc. (SPRT)

Support.com (NASDAQ:SPRT)

Q2 2014 Earnings Call

July 30, 2014 4:30 pm ET

Executives

Gregory J. Wrenn - Senior Vice President of Business Affairs, General Counsel, Corporate Secretary and Member of Ethics Committee

Elizabeth Cholawsky - Chief Executive Officer, President and Director

Roop K. Lakkaraju - Chief Financial Officer, Chief Operating Officer, Principal Accounting Officer and Executive Vice President

Analysts

Chad M. Bennett - Craig-Hallum Capital Group LLC, Research Division

John Campbell - Stephens Inc., Research Division

Ryan MacDonald - Northland Capital Markets, Research Division

Operator

Good day, ladies and gentlemen, and welcome to the Support.com Second Quarter 2014 Earnings Conference Call. [Operator Instructions] I would now like to introduce the host for today's conference, Mr. Greg Wrenn, General Counsel. You may begin.

Gregory J. Wrenn

Thank you, operator. Good afternoon, everyone. Joining me here today is Elizabeth Cholawsky, our President and Chief Executive Officer; and Roop Lakkaraju, our Chief Financial Officer and Chief Operating Officer.

Before we begin, I would like to remind everyone that our remarks today will include forward-looking statements about our future financial results and other matters. There are number of risks and uncertainties that could cause our actual results to differ materially from expectations. These risks are detailed in today's press release and the reports we filed with the SEC, all of which can be found through the Investor Relations page of our website at www.support.com.

I would also like to point out that we will present certain non-GAAP information on this call. All numbers presented today are non-GAAP unless otherwise stated. The reconciliation of GAAP to non-GAAP financial measures is included with today's press release and also on our Investor Relations webpage. The statements we'll make in this conference call are based on information we know of as of today, and we assume no obligation to update any of these statements. With that, I'll turn it over to our President and Chief Executive Officer, Elizabeth Cholawsky.

Elizabeth Cholawsky

Thanks, Greg. Good afternoon, everyone. I've now been at Support.com a little over 2 months, and it's been a great experience. Today, I'm pleased to report that our financial results for the second quarter of 2014 were strong, with revenue coming in at $20.2 million at the high-end of our revenue guidance.

Non-GAAP income from continuing operations for the quarter came in at $0.01 per share, well ahead of guidance of a loss of $0.02 to $0.04 per share. Later, Roop will take you through the financial details for the quarter. But first, I'd like to spend a few moments talking about why I joined Support.com, some of my early observations and our plans looking ahead. By way of background, I've built my career in product development and customer support. These are areas that are near and dear to my heart. I spent the last 7 years at Citrix, first, leading the services teams in product management for the SaaS division, and then, as VP and general management for the IT support and access lines of business. I'm passionate about delivering great customer experiences across the board and bringing products to market that solve a customers' problem and helps them to be successful.

Based on my background and experience, the opportunity to lead Support.com was very attractive to me. Support.com possesses many strengths and assets from which to leverage. It has a unique interesting and stable services area. And the company has created a fundamental technology offering that can add value to a wide variety of technical support operations. Importantly, the company's financial position is strong, with cash on hand to drive both organic and inorganic growth.

Another key attraction is the window of opportunity that's created in the support market by major trends such as the consumerization of IT, the Internet of Things, and big data and analytics. These trends are dramatically changing the customer support marketplace, allowing for innovation in the $2-billion customer interaction management ecosystem. Our Nexus products and our services offerings are well positioned to take advantage of this opportunity. After having been at Support.com for 2 months, I can say with confidence that the company is well run with a strong team. We do need to enhance our product capabilities, and we are adding talent, resources and experience to support our product initiatives.

Looking at the company's services area, it's impressed me out of the gate. We have strong relationships with some of the blue chip brands in the marketplace to see value in our differentiated delivery model. I have seen few companies with such a large highly skilled work-from-home population that can effectively grow to meet the demands of customers while still delivering high-quality service and customer satisfaction. As an example, we've recruited, hired and trained hundreds of agents in the time I've been here. Also impressive is our experience with Comcast Home Networking bundle, the XFINITY Home pilot and all our other tech support programs, which make us a leader in supporting the Internet of Things. Based on my background and experience, the opportunity -- our relationship with Office Depot is healthy. Over the past several years, we've developed a strong partnership between the 2 teams with the consultative approach that drives benefits to both companies. As a result, we recently signed a 2-year extension to our contract. We continue to pursue new opportunities with our services area, and I'm encouraged by future prospects. Part of what drew me to Support.com was our unique capabilities in the services area, and I am committed to extending this leadership position going forward.

Turning to the SaaS initiative. Our next-generation Nexus product has been architected with modern technology stack that can be scaled to meet today's complex customer support market. After having time to assess Nexus, this is a high-quality, highly reliable and secure platform. It possesses unique automated workflow and analytics gleaned from our sophisticated knowledge of years of providing technical support services to our clients. Based on my experience in creating successful SaaS products in today's environment, we will increase our focus on rapidly incorporating even more direct customer feedback from our target markets into our development cycle. This is critical for widespread commercial success as we grow Nexus. By combining stellar software with a deep understanding of our customers' needs, I believe that overtime, Nexus can become a critical component in the resolution of technical support incidents across the globe. Nexus is rapidly evolving based on strong product feedback we've received so far. Our immediate mission is to open the black box of technical support. That's from the time that the agent says, "Hello." until the time the call is complete. In one our programs, our customer decided they need to urgently and significantly change their services delivery process. Nexus allowed us to rapidly modify the guided workflows to incorporate the required changes, and we rolled them out to a team about 100 agents with no loss of productivity or additional training of the agents. We did this in less than 24 hours, which is virtually unheard of in the support world.

Now as many of you know, building a successful SaaS offering takes time. I believe that Support.com has the technology, experience, products and team in place to create a valuable fast product that will meet real customer needs in the large and growing customer interaction market. Based on my own experience in building SaaS to scale, I know that we need to follow a disciplined development process with careful strategic investments in order to create a long-term leadership position in this market. And I look forward to updating you quarterly on our progress.

So in summary, Support.com services are well-differentiated and tell a long list of high-profile customers and partners. We look forward to expanding our relationships with both new and current services customers. And while we're at the early stages of bringing Nexus to market, I'm encouraged by what I've seen in my first couple of months at the company. We will continue to evolve Nexus and execute in our services area to drive success in both. I found the executive team, the board and everyone at the company as committed and excited to pursue these goals. It gives me great confidence for our future success.

With that, I'd like to turn the call over to Roop to discuss our financials. Roop?

Roop K. Lakkaraju

Thank you, Elizabeth. Total revenue for Q2 was $20.2 million compared to $20.1 million in Q2 of 2013 and $18.6 million in Q1 of 2014. In Q2 2014, revenue was relatively flat year-over-year and up 8% sequentially.

Services revenue for the quarter came in at $18.3 million compared to $16.1 million in Q2 of 2013 and $16.7 million in Q1 of 2014. Services revenue grew year-over-year due to the topline growth of Comcast overall as a customer. Sequentially, revenue increased in Q2 2014, as expected, primarily due to continued growth on Comcast Home Networking bundle and the launch of Comcast XFINITY Home pilot.

Software and other revenue declined year-over-year unsequentially to $1.8 million in Q2 2014 from $4 million in Q2 2013 and $1.9 million in Q1 2014. The year-over-year decline is due to our previously discussed decision to discontinue unprofitable advertising arrangements for our end-user software products.

The Q2 2014 revenue mix was 91% services and 9% software compared to 80% and 20% in Q2 of 2013 and 90% and 10% in Q1 of 2014. In Q2 2014, both Comcast and Office Depot contributed more than 10% of total revenue.

Overall, non-GAAP gross margin for Q2 of 2014 was 28% compared to 55% in Q2 2013 and 30% in Q1 of 2014. In Q2, non-GAAP services gross margin was 22% compared to 46% in the Q2 of 2013 and 23% in Q1 of 2014. The non-GAAP services gross margin declined year-over-year and sequentially due to the change in mix of our programs. Non-GAAP software gross margin was 88% in Q2 of 2014, down from 93% in Q2 2013 and slightly up from 87% in Q1 2014. Total non-GAAP operating expenses in Q2 2014 came in at $5.1 million, a decrease from $7.3 million in Q2 2013 and consistent with $5 million in Q1 2014.

On a non-GAAP basis, income from continuing operations for Q2 was $478,000 or $0.01 per share. This was higher than our second quarter guidance, which was a loss of between $0.02 and $0.04 per share. We do not anticipate incurring meaningful federal or state income taxes for the foreseeable future as a result of our net operating loss carryforwards. However, to the extent that we have future taxable income, the company will be subject to alternative minimum taxes in certain taxpaying jurisdictions.

Turning now to the balance sheet. Total cash, cash equivalents and investments were $75.6 million at June 30 compared to $75.5 million at March 31. DSOs for the quarter were 59 days as compared to 58 days in Q1 2014. At June 30, less than 1% of our outstanding receivables were greater than 90 days old. Deferred revenue was $2.9 million at June 30 compared to $3 million at March 31.

Total headcount at June 30, 2014 was 1,766, consisting of 149 corporate employees and 1,617 work-from-home technicians. This compares to a March 31, 2014 headcount of 1,489, consisting of 155 corporate employees and 1,334 work-from-home technicians. In addition to our work-from-home technicians, we use contract labor in our operations.

Turning to guidance. For the third quarter of 2014, we expect our revenue range to be between $20.5 million to $22 million with a revenue mix similar to Q2 2014 of 91% services and 9% software. We expect overall non-GAAP gross margin to be in the low 20s. We expect our non-GAAP software gross margin to be approximately 86% and non-GAAP operating expenses to increase sequentially by approximately 10% as we invest in Nexus. Based on the foregoing, our outlook for Q3 non-GAAP results from continuing operations is breakeven to a loss of $0.03 per share.

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

Elizabeth Cholawsky

Thank you, Roop. Thanks, everybody, on the call today for their time. And I'll turn it over to questions now.

Question-and-Answer Session

Operator

[Operator Instructions] Our first question comes from Chad Bennett with Craig-Hallum.

Chad M. Bennett - Craig-Hallum Capital Group LLC, Research Division

So I guess, a couple of questions for me. Can you give us a sense for how we should think about the growth in the service business going forward, both from a existing program standpoint and the prospects of maybe new service partners coming on board, at least as much as you can tell? And then, within that service revenue line, as you much as you can say, should we expect the Comcast run rate to continue to increase on a sequential basis throughout the year, as much as you can say?

Roop K. Lakkaraju

Clearly, you got a few things in there, Chad. So we'll try and break it down here. Maybe starting with Comcast and the run rates. I think, as you know, we provide 1 quarter out guidance. With that said, we -- you can see from our revenue guidance range, taking it up sequentially into Q3. From a Comcast standpoint, they manage us based on the forecast they give us. We don't have visibility beyond those forecasts and we work closely with them on updating those forecasts on a regular basis. With the visibility we have, that's reflected in our Q3 guidance. In terms of our -- the growth within our services areas and programs today, we've got strong relationships with our various partners. We've had growth in various programs including Comcast, as we've indicated. And as we look forward, growth in our programs overall are reflected in our Q3 guidance. Lastly, in terms of the pipeline, we feel very good about our services pipeline, both in terms of the types of opportunities and the range of opportunities, if you will. And what I mean by that is we see -- are seeing opportunities that are warranty-oriented opportunities, as well as referral opportunities of other tech-support opportunities. And so we're very excited by that. And I think what we're doing with Comcast XFINITY Home pilot and around home automation and security, we think there's other opportunities within the pipeline from a broader Internet of Things standpoint. So we're pleased with the pipeline looking forward, and we feel good about our existing programs.

Chad M. Bennett - Craig-Hallum Capital Group LLC, Research Division

Okay. And then, can you talk a little bit on Office Depot renewal? Can you talk about kind of relative pricing there and competition and if you're aware of it? And then, are there prospects for growth based on the renewal within ODP, did you add any more SKUs or services or do you expect that business to grow based on the renewal?

Roop K. Lakkaraju

Yes. I mean, I would say that, overall, we're very happy with our relationship with Office Depot. And I think that's reflected in the renewal that we received for another 2 years. Included in that renewal is price reductions around certain SKUs. That's reflected in our guidance in Q3, so that is there. Now I would say based on the strong relationship and how closely we're working in, as Elizabeth indicated in her prepared remarks, it's very much a consultative approach and relationship with them, and we look forward to growing that relationship with them.

Chad M. Bennett - Craig-Hallum Capital Group LLC, Research Division

Okay. And then last one for me, maybe for Elizabeth. Just on the Nexus investment that I think you spoke to in the prepared remarks. Can you give us some type of idea of where the investment is going to be focused? I know you talked about kind of product investments, but from a sales and marketing standpoint, like what you think you need to do there over the next several quarters to get that business to start to ramp? And then, how you think about organic investment versus kind of something outside of the business that you need to do to get that product in that business to where you want it?

Elizabeth Cholawsky

Thanks, Chad. So as you've heard, we're committed to growing Nexus as a long-term sustainable SaaS-based business, right? And that takes time and we're at the very early stages. We just released the product out in early Q2, and we're just starting to get real traction and trials and pilots and customers. We're focused right now on customer growth and taking that customer feedback and enhancing the product so that we're absolutely certain that Nexus meets a broad market need and doesn't become just a niche product or just a select product for a few customers. We're really going after a broad market here. So that being said, the initial investments and where we're at now, as you said, are around the product investment, product developments and to get the iterative cycle from customer feedback through to product functionality out to the market as rapid as possible. The process that I'll use to grow the SaaS product is really as we see traction in that customer growth, then we'll start wrapping up the go-to-market. So it will be an iterative, and we'll pump more go-to-market funds into the product as we see more traction and as we see broader market adoption. So right now, we're at the early stages, as I said, of just getting the baseline of customers, getting our baseline around both in trials and conversions. So you'll see us make investments as their appropriate as the product begins to grow. The last comment, it's is always interesting, particularly the SaaS products, to increase your footprint in the market through inorganic activities, but we'll look at both more investment organically as well as inorganic growth for the product --

Chad M. Bennett - Craig-Hallum Capital Group LLC, Research Division

Okay. What -- just last one for me on that. What functionality do you think the product -- and maybe you're just learning this, but what do you think the product needs to become more broad-based?

Elizabeth Cholawsky

So, the product right now has 3 main components. So it has a great remote control area, and that's really been perfected over the many years that we've been working with device connectivity and certainly, now, with the Internet of Things and the position that we've taken with supporting the Internet of Things. So that's one component. The productivity component, which is where we're getting really great feedback and good validation from the market, is around the guided workflows for agents. That's what I meant earlier in the call when I said it's from the time the agent picks up the phone until the time they complete the call. That guided workflows is really what enhances the productivity in that part of the agent's day. And then, on with that are the data and analytics that allow you to run a good contact center operation. And actually figure out whether you're getting productivity for the agents and where you need to enhance those workflows and be able to do the quick turnaround processes that I referred to in the examples that I explained during the comments earlier. So that's the product and the main functionality today. The technology that we're working on, one of the things that I really evaluated over the last couple of months is just the technology itself, and I found that it's very reliable, very well architected. It's scalable and secure. So we've got this really great foundation of product functionality. The investment now, if you look at that, is both to extend now amongst those functionality the kinds of things that our customers are now telling us that they need for the greater ecosystem of customer support management. And that one thing is creating a totally open platform. So any modern SaaS product has to work and a constellation of other products that are out there and that's particularly true of the support marketplace. So you'll see us really investing in really opening up the platform and building out APIs and creating integrations with other players, particularly the CRM players, first of all. That's one area. The other area is product design and ease-of-use. So even in corporate use products, the consumer view of how easy something needs to be to use has been adopted by business products. So we've got to take the Nexus product and make it as simple to use as the simplest app on your iPhone. And that's an area you'll see us invest in, in the future going forward. But there are a couple of big areas. But the -- I think the message I want to leave you with is that the core functionality that we've got out there today is really needing -- a need in the market. It's getting traction. It's getting validation and the kind of investments are more in terms of long-term sustainability of Nexus as a big leader in this area and also, driving it so that it's just dead simple to use.

Operator

Our next question comes from John Campbell with Stephens Incorporated.

John Campbell - Stephens Inc., Research Division

Just -- how should we be thinking about gross margin? Or maybe more specifically, the services gross margin over the next few quarters? Roop, I know you said I believe low 20s or so for 3Q, but how should we be thinking about some of the moving pieces or seasonality going forward? You guys -- I mean, you guys came in pretty well ahead of us for Q2, so just trying to get our arms wrapped around that.

Roop K. Lakkaraju

Yes, I guess there's a couple of different things I'll mentioned about our Q2 performance and as we look into Q3 in the guidance that we provided. From a Q2 standpoint, I think our operational efficiencies that we drove in Q1, we were able to sustain through Q2. And as we thought about Q3, we've considered those and those we believe will carry forward into Q3 as well, and so the operational efficiencies from that standpoint carryforward. Really the margin change from Q2 to Q3 is being driven by the price reductions that we're providing at Office Depot primarily, and so that's kind of -- that piece of it and addresses that fluctuation that you see from Q2 to Q3, which is reflected in our Q3 guidance. And then from there, I think, that's probably a normalized view as we think about it.

John Campbell - Stephens Inc., Research Division

Got it. Thanks for that color. And then I might have missed this. What percent of rev is SaaS now?

Roop K. Lakkaraju

SaaS is not something we've disclosed in these forums but -- and we've got a couple of instances or a couple of customers of Nexus' old generation out there. Nexus, the new generation, as Elizabeth has spoken of it, is coming to market now and has been commercialized. But from our filings in the past, we've -- it's 2%. It will be in our next quarter 10-Q -- or this quarter's 10-Q, excuse me and in there, it will also be approximately 2%.

John Campbell - Stephens Inc., Research Division

Got it. Okay, and just one more just kind of higher-level question, just on the Internet of Things. I mean, it's still, obviously, early stages in the development. I think there's, obviously, some naysayers out there still but I think just doing a quick scan of the market, you can see some very large companies that have been around for hundreds of years that are starting to get more and more into the space, so it does seem like a very real opportunity for you guys. So how could we -- what are the signs and indications that you guys are starting to see more traction? I know there's probably opportunities with Comcast, but what other companies are out there that you guys maybe have talked to or that you potentially partner with? Just give us some ideas of some of the developments you have.

Elizabeth Cholawsky

Yes, I mean we referenced the pipeline on the services area. And some of that is being driven by process coming to us because we are recognized as having expertise in the support of the Internet of Things. So we're seeing some uptick there that we haven't before, which is great. And I think that we've established ourselves as, really, the leader in supporting the Internet of Things. But I think of it from 2 ways: one, the services operation we have where it's kind of directly going out and supporting, say, a home automation instance, and that's part of the Internet of Things. But the other part of the Internet of Things is just the explosion of devices and applications that are out in the marketplace today. And what's that driving is just general need for technical product support. So if you look at our market, both on the services side and on the product side, as going after the customers who have to do technical product support, whether they're doing it themselves in their contact centers or doing it with a third party, that wind behind our sales from the devices that are in that Internet of Things is just going to provide for uptick in the opportunities for us across the board whether it has to do with Nexus or whether it has to do with our services operations.

Roop K. Lakkaraju

And John, let me just add one additional comment there. Comcast with the XFINITY Home pilot is obviously one opportunity we have currently. But we're not putting all our chips there. We have, as we've indicated, a broader services pipeline and the Internet of Things is part of that. And we believe it's -- there's a lot of additional opportunity.

Operator

Our next question comes from Mike Latimore with Northland Security Markets.

Ryan MacDonald - Northland Capital Markets, Research Division

Hi, this is Ryan MacDonald on for Mike Latimore. First off, in terms of headcount, it looks like you had a quite few hundred at least to the headcount during the quarter. Was that all Comcast related, or does that reflect some of the investments that you're starting to make into the new SaaS offering?

Roop K. Lakkaraju

Ryan, good to talk to you. We don't talk about our program level agent headcount as you know from a historical standpoint. Were not going to start doing that here. However, we did see growth across our services area. Comcast is one piece of that. And in terms of the Nexus headcount that we may add, that's more associated with our corporate employees and not our work-from-home technicians.

Ryan MacDonald - Northland Capital Markets, Research Division

Okay, got you. And then in terms of looking at the second half of the year here, where do you see -- what part of, I guess, the business with Comcast do you see is more material? I mean, is that the home automation piece? Could that really ramp in the second half year? Or potentially, the small business opportunity?

Roop K. Lakkaraju

Yes. I mean, again, we don't comment on whether it's Comcast and it's -- and our individual programs there, and we do have this first slide portfolio with Comcast, which we're happy about. But as we think about Comcast overall, as well as our services programs overall, we anticipate seeing growth as reflected in our guidance. The one thing I'll say about the SMB, it is a very limited pilot as indicated in the 8-K filing that we had. And I think that's important to understand.

Ryan MacDonald - Northland Capital Markets, Research Division

Okay, okay. And then, switching to the relationship with Office Depot. Are you still seeing some effects from the store closures from Office Depot? Or is that basically completed now?

Roop K. Lakkaraju

Yes. I mean, we can't speak to Office Depot and their store closures necessarily. What you see in the marketplace is what we see in the marketplace, if you will. They've indicated that there will be store closures. What I can tell you is we've contemplated store closures within, as we've run the business up through the second quarter, and it has been considered within our Q3 guidance as well.

Operator

I am showing no further questions at this time. I would like to turn the call back to Elizabeth Cholawsky, CEO, for further remarks.

Elizabeth Cholawsky

Thank you, and thanks, everyone, for attending the call today, and we look forward to talking to you in follow-ups. Good afternoon.

Operator

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

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