Marchex, Inc. (NASDAQ:MCHX)
Q2 2016 Results Earnings Conference Call
August 09, 2016, 5:00 pm ET
Ethan Caldwell - General Counsel and Chief Administrative Officer
Pete Christothoulou - Chief Executive Officer
Michael Arends - Chief Financial Officer, Principal Accounting Officer
Aki Aggarwal - Deutsche Bank Securities
Gene Munster - Piper Jaffray
Brett Huff - Stephens Inc.
Nolan Palmer - ROTH Capital Partners
Good afternoon. My name is Nicole and I will be your conference operator today. At this time, I would like to welcome everyone to the Marchex second quarter conference call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. [Operator Instructions].
Thank you. Ethan Caldwell, you may begin your conference.
Good afternoon everyone and welcome to Marchex's business update and second quarter 2016 conference call. Joining us today are Pete Christothoulou, Michael Arends and Gary Nafus.
Before we get started, I would like to take this opportunity to remind you that our remarks today will include forward-looking statements, including with respect to our financial and operational performance and actual results may differ materially from those contemplated by these forward-looking statements. Risks and uncertainties that could cause these results to differ materially are set forth in today's earnings press release and in our most recent Annual or Quarterly Report filed with the Securities and Exchange Commission. Any forward-looking statements that we make on this call are based on assumptions as of today and we undertake no obligation to update these statements for subsequent events.
During this call, we will present both GAAP and non-GAAP financial measures. A reconciliation of GAAP to non-GAAP measures is included in today's earnings press release. The earnings press release is available on the Investor Relations section of our website at marchex.com.
At this time, I would like to turn the call over to Pete Christothoulou.
Thanks Ethan and thank you everyone for joining us for our first quarter conference call. Let me start by saying that we are disappointed with our Q2 financial results and revised 2016 outlook, which are driven by a combination of factors. Most significantly, a small number of large clients made adjustments to their marketing budgets, changes which unfortunately reduced that they will likely spend our call marketplace this year.
These changes affected us in Q2 and also limit the growth we expected and in the second half of the year. This is the principal reason for our revised 2016 outlook. We have historically relied on a small number of large multimillion dollar clients to generate a significant portion of our revenue. As a result, we are susceptible to marketing budget fluctuations from a handful of clients, which is what impacted our call marketplace.
Another contributing factor to our results is that two of these large clients were recently acquired. They remain significant customers, especially of our analytics products and although they have new owners, we work closely with both of them for more than three years and believe we will continue developing our relationships with them.
So that's the bad news. Now, we are certainly dissatisfied with the short term setback, it does not impact our belief in the online to offline opportunity we have in front of us or confidence in our ability to help the world's largest brands sell the challenge of connecting and measuring the interaction between the physical and digital worlds. In fact, when you look at the three strategic initiatives we laid out the start of this year, I can confidently say that we have made progress on all fronts.
Specifically, we said that during 2016 we would increase enterprise client growth, develop global strategic partnerships and accelerate our product innovation. We are seeing early signs that our sales and product investments are paying off. For example, in the first half of the year, our estimated new customer bookings has grown more than 50% from the fourth quarter 2015 run rate. Additionally, we have integrated more than 40 mobile publishers into our display analytics product. We are eager to ensure these and other leading indicators translate into further customer adoption and are ultimately reflected in our P&L.
Connecting the physical and digital worlds is one of the largest marketing technology opportunities. We know this because we hear constantly from leading global brands across our top categories. Their two main issues are cross channel attribution and connecting offline and online events into one complete picture. Consumers are spending more time than ever on their phones. It's second nature to research on a mobile device and then interact with a business offline, either over the phone or in a store.
In fact, consumers in the U.S. alone are expected to make more than 169 billion calls to businesses from smartphones by 2020, nearly double today's volume. Phones are now a vital extension of us and we make purchases from these devices 24 hours a day. With U.S. mobile ad spend projected to grow nearly three times to $62 billion by 2019, we believe these digitally influenced offline interactions will only grow.
Yet marketers lack visibility into which mobile ads drive consumers to make purchases offline. They struggle to understand how to drive more transactions, improve ROI, enhance the mobile consumer experience. They recognize that online desktop centric methodologies applied to mobile use cases simply don't work. This is why our focus is squarely on building powerful analytics tools to allow enterprise marketers to deeply understand the online to offline path to purchase. Our assets, expertise and scale uniquely position us to solve this problem and we are seeing greater engagement in client and prospect conversations as we move along.
For example, let me highlight the specific progress our three strategic initiatives. One, enterprise client growth. Investing in sales and marketing is a core part of a strategy to increase market share. At mid-year we expected to have more fully ramped sales representatives. But this effort is taking longer than we anticipated and our fully ramped headcount is lower than planned. Despite this, we have made substantial progress in building the pipeline this year and we have increased our penetration of leading global brands in the verticals we are targeting.
For instance, in the travel vertical we now work with four of the largest global hotel brands. Three of these clients were signed in the first half of 2016. And we expect to add more top 10 clients this year. These clients represent the biggest brands in the business and even though they aren't meaningful financial contributors, we are proud to call them our clients and confident that they will be part of the next set of large brands that power our future growth. Our travel vertical wins aren't limited to just hotels, Marchex now works with four the largest cruise brands in the world, two of whom were signed in 2016.
In the communications vertical, we now work with 6 of the largest U.S. brands, including Verizon, T-Mobile, DirecTV and Charter Communications. In financial services, we have expanding relations with insurance companies like State Farm and Traveler's Insurance. Taken together, our new client opportunities have grown by more than 25% since the beginning of the year and our estimated annual new client bookings has grown by more than 50% from our fourth quarter 2015 run rate, which speak to the value we provide. We expect our new client pipeline to continue to scale as we fully ramp our enterprise sales force.
Two, global strategic partnerships. In the first half of the year, we expanded strategic integrations with three leading technology partners, including Salesforce, Google's DoubleClick and most recently, Adobe's Marketing Cloud. Adobe has integrated our search analytics product into their offering to make it easier for clients to leverage data and insights directly within their existing workflows. Additionally, we have integrated more than 40 of the world's leading mobile publishers, including more than half of comScore's Top 10 digital media properties into our display analytics product. This is up from three integrations at the start of the year. These new integrations allow us to highlight which publishers and which display campaigns ultimately lead to a call conversion.
Three, accelerated product innovation. Leading brands are working with Marchex because we are providing unique value. In fact, our omnichannel analytics product roadmap will be the first to holistically measure the online to offline mobile caller customer journey from lead generation through to conversion. In the second quarter, we announced major enhancements to our proprietary call DNA feature, including transcription technology as well as security enhancements.
We are also scheduled to launch display analytics in the near term. This product allows clients to measure the effectiveness of display media in ultimately driving call conversions. Importantly, we are finding that display advertising is part of the consumer path to purchase and marketers have misunderstood its impact on conversions. With display launched, we will also measure the consumer journey and interplay between display and search marketing tactics.
By entering the display market with an analytics product, we are expanding our ability to measure the effectiveness of brand advertising and bring visibility and accountability to this digital channel. With a total addressable market equal to search, we are positioning Marchex to become a leading mobile advertising analytics company that solves the omnichannel attribution problem.
Our goal this year were ambitious. Nobody here is satisfied of where we are today. I hope you can see why, despite our second quarter financial results and outlook, the team and I are confident about what lies ahead. We have a collective urgency to overcome our short term disruptions and translate progress from the first half of 2016 into stronger future financial results and ultimately category leadership and the creation of a great company.
With that, I will hand the call to Mike for more details on our financial results. Then he and I will be happy to take any questions you may have.
Thanks Pete. For the second quarter, call driven revenues were $34.4 million. We know some investors track our growth without YP, so to help their models with this framework in mind, call driven revenue in the second quarter excluding YP were $26.3 million compared to $24.1 million in the year-ago period.
In the second quarter, we saw the benefits of expanding existing enterprise-client relationships in key focus verticals such as financial services and communications, which positively impacted growth on a year-over-year basis. On a sequential basis, our growth rate was primarily influenced by the financial services vertical, a category that is disproportionately weighted to the first quarter versus other periods.
Additionally, looking at our strategic initiatives, we continue to build our sales team and feel good about the quality of the team we are building to support our long term growth initiatives. We are just half-a-year into our new sales approach and expect our initiatives to take time to ramp. We are pleased with the quality and experience of our new sales team and they have been successful at adding new clients early in their tenure.
Furthermore, the pipeline also continues to quickly build. While we believe these new relationships and an expanded pipeline will ultimately have a meaningful impact on our long term growth, they are not yet at a scale that is impacting our profile. Over time, we expect the investment in our sales initiatives and our continued product momentum to support a larger, faster growing business.
Looking further down the P&L for the second quarter. Excluding stock-based compensation and acquisition and disposition related costs, total operating costs for the second quarter were $36 million. Sales and marketing was $5.1 million, which was up year-over-year as we continue to invest in our sales organization. As we have previously communicated, this is an area where we haven't increased investment in 2016 as we are expanding our sales and channel footprint to accommodate new growth initiatives and support a growing product portfolio. Product development was $6.9 million, flat quarter-over-quarter.
Moving to adjusted operating income before amortization and EBITDA for the second quarter. Call driven adjusted OIBA and EBITDA were a loss of $1.6 million and $800,000, respectively. GAAP net loss from continuing operations was $68.8 million for the second quarter of 2016 or $1.65 per diluted share, which includes the effect of an estimated pretax $63.3 million or $1.52 per diluted share non-cash impairment charge based on the preliminary results of the company's goodwill impairment tests. This compares to GAAP net loss from continuing operations of $1.3 million or $0.03 per diluted share for the same period of 2015. Adjusted non-GAAP loss per share, an estimate some Wall Street investors utilize as a supplemental measure of our operating progress, was $0.02 per share compared to income of $0.02 per share for the same period in 2015. We ended the second quarter with more than $105 million in cash on hand.
Now turning to our outlook for the third quarter and full year 2016. First, let's discuss revenue. We are evolving our annual guidance to include total call driven revenue. This figure includes our expected contribution of YP. Our reasons for the new approach are due largely to a few factors. One, we have increased visibility in the outlook from YP for this year. And two, we are discussing a longer term extension of the relationship. With these factors in mind, today we are releasing annual call driven revenue guidance of $128 million or more.
For the third quarter, we expect call driven revenue of $30 million or more. This revenue guidance is based on the following trends. First with respect to YP, as I mentioned earlier, we are discussing a long term renewal which has increased our visibility for the remainder of the year. Regarding our enterprise revenue streams, as Pete mentioned, client budgets can change and we may experience period-to-period variability based on a variety of factors.
Most notably, we have had changes in the 2016 outlook from a small number of clients relative to prior expectations. As a result, we are revising our expectations for growth in the back half of the year. We have seen some budget allocations shift as well as some overall cuts to total second half budgets of ad dollars from large advertisers.
Two of our larger clients, for example, were recently acquired. One in the home services vertical and another in the communications vertical, whose new parent companies had prioritized media initiatives that favored combined company branding for the balance of 2016. We expect them to be several million dollars lower this year than originally anticipated.
This is something we are actively working to address through our client development and sales initiatives, though that may take some time. I would note that all customers are remaining with us, including leveraging many of our products and each is remaining a seven figure customer this year. Furthermore, despite the revised outlooks, we believe there is a path for long term growth with each.
Earlier this year, we reorganized the sales leadership structure and have built momentum within our sales organization to support our expanding product portfolio. Our investment has led to early wins with global brands. Our new customer wins, while not contributing meaningfully to the near term financial picture, show that we are building our long term pipeline. We believe that we have significant untapped opportunity in our core verticals and expect that new customer momentum to continue as our new sales hires ramp.
As Pete noted, this will take time but we believe our long term growth profile outlook continues to improve as a result of our sales investments. Additionally, as we launch new products, we believe we are developing the path for multiple integrations and raising the prospects of a faster ramp window over the long term.
Next, looking at call driven adjusted OIBA and EBITDA. For the third quarter, we are forecasting call driven adjusted OIBA at a range of a loss of $2 million to a loss of $4 million. For call driven adjusted EBITDA, we are forecasting a range of loss of $1 million to a loss of $3 million for the third quarter.
Our guidance takes into consideration our updated revenue outlook and our previously announced investment in sales and marketing and related investments. It's important we align our cost structure with our current revenue levels to ensure that our future growth drives greater efficiency and operating leverage and we are looking at opportunities to do that quickly. Additionally, as we gain customer traction from sales and marketing initiatives and grow our enterprise base, we believe we will see flow-through to contribution that results in financial leverage over time.
I would like to thank all of our employees for their hard work. Thank you for joining us today and we look forward to reporting on our progress as we move forward.
I will hand the call back to the operator to take questions.
[Operator Instructions]. Your first question comes from the line of Ross Sandler, Research Analyst. Your line is open.
This is [indiscernible], dialing in for Ross. Thanks for taking the question. So I guess two high-level questions for Pete and then one for Mike. So the first thing is, there's been a big uptick in the analytics around tracking online to offline in-store purchases, especially with something like Google and Facebook using mobile. So when do you think this kind of visibility starts to move the needle on click-to-call spending allocations? So that's number one. And then number two would be, regarding AdBlock, because there's been a lot of chatter in the last few months. So how are ad blockers impacting your business? Are they cutting your display ads that drive click-to-call? Or are they just moving ad budgets altogether? So how does that work? If you can just give us some updates there? Thanks.
Sure, I will answer reverse order. So the first is on ad blockers. We are not seeing really any impact from ad blockers. That tends to have to do more with display and viewability. And our products particularly as you think about calls are really directly attributed to direct response mechanisms today. So ad blockers and viewability aren't really a part of what we are experiencing.
As it relates to visibility and analytics, we are in the very early stages of what we think is a tremendous market when you talk about online-to-offline. And we believe that because the customers that we are talking to across all of our core categories, many of which are just the leading global brands in the world, have these specific problems of connecting mobile ads to these offline interactions, whether you are clicking to call or walking into the store. And they are really thinking about how do they tie together a complete picture that gives them a clear understanding of what's happening in each channel and how each media channel impacts ultimately an offline conversion.
When you think about how that translates to visibility, we really are looking at the progress that we have with existing clients within our analytics products and our sales, our progress of new sales and the metrics that we are seeing in terms of driving new pipeline development that tells us that we will continue to have increasing analytics visibility as we look out over the next couple of years. So we think that we are in the early stages of market and we are seeing good penetration as it relates to new client development for analytics products specifically.
Okay. Great. And then one question for Mark. Mike, I was wondering if you could talk about how the pricing in unit economics works when you introduce all these new products to Call DNA?
It's a very good question. When we think about the benefits being provided to the customer, we are focused on customer value. Very much value is attributable to the phone calls where the action is that the consumer is taking. So the goal for us is to align the pricing specifically with the value that we are providing to the advertisers. So in this case, if it's on a pay-for call basis, that is the specifics of the incremental charge that we will be providing to the customers. So for the Call DNA Premium, it is based on a unit transactional basis or a pay-for-call basis.
Okay. Great. Thank you.
Your next question comes from the line of Gene Munster, analyst. Your line is open.
Hi. Good afternoon. It's for Pete or Mike. If we look at the YP business in the back half of the year, I guess, Mike you mentioned that that was part of the guidance. Is that basically an add-back from previous guidance? And if so, how much is that add-back? And then second question for Pete is, the sales team goal will still take some time. Is that kind of time through the end of this year or beginning of next year? And then will this increased investment be going to continue into next year? And last question is, you have $105 million in cash and you have investment in the product. Is that the best way to think about use of cash and investment in products? Thanks.
Hi, Gene. This is Mike. I will take the first part of the question related to YP. And I think from a guidance perspective, what we did is we updated the model to include both the enterprise revenue streams and the YP revenue streams for the annual period. And part of the reason we did that was because we are having discussions about extending the relationship with YP into 2017 and potentially beyond. And as part of that, we have been able to get better visibility and a higher level of comfort over the remainder of 2016.
So we included YP as part of the overall updated annual forecast that we put in there. The enterprise amounts are included as well. We also believe for both of those particular streams, we do have a range of possible outcomes. And how we built the updated forecast that we put out today, we believe that it is the lower part of the range that the numbers reflect today and we will see how it plays out.
Hi, Gene. This is Pete. I will answer to the cash question and then I will turn it over to Gary to answer the sales question. In regard to the $106 million on the balance sheet, I would say that we are obviously comfortable with that cash position. We like the flexibility it brings us. And we are heads down on investing in our business and building the right products for our clients. And we think we have a very good handle on what that is based on feedback directly from our clients. To the extent we see something that accelerates our position, drives higher market share with our clients, we will certainly take a look at that. But right now, there's nothing on the table.
Hi, Gene. This is Gary. Just to talk about the sales ramp. So we have been rebuilding the sales force. That has been a continuous process since January. And so we have hired continually month-by-month through the year and expect the ramp to take some time as we are hiring in a tight labor market as well as need to bring folks up to speed on our products and value propositions.
Okay. So it would be does it safe to say that as we think about the investment that you made in 2016 that equal amount of investment will be in 2017? Or is this a more robust investment year?
Gene, this is Mike again. I do think this is a more robust investment year. And I also think just with our updated profile and outlook, we are looking at different ways to find efficiencies and we are working on those quickly in the relatively near term.
Okay. Great. Thank you.
Your next question comes from the line of Brett Huff, Equity Research. Your line is open.
Good afternoon and thanks for taking my call. A quick question on the budget. I think you sort of talked about the revenue issue that you guys are seeing in two different buckets. Bucket number one is a couple of clients that got bought and then it sounds like there's some budget things going on there. But then also there some other clients that didn't get bought, it just sounds like they either shifted their budget into something another kind of marketing or it got cut. Can you give us a sense of what they are shifting to if you have that insight? And what the rationale is for cutting in the non-purchased large clients.
Sure, Brett. This is Pete. The first thing is, just to reiterate, this is a small number of clients that are primarily focused on our marketplace. As you highlighted, two of them were acquired and are going through the process in evolving their own media tactics and as a result have slowed down materially to focus on some of the combined company initiatives that they have. Both of which, as we said, we remain close with and they are still our live and operating and they have integrated several of our other products, including analytics.
The others I would attribute to back half of the year planning and internal business initiatives and priority adjustments from those clients. And in a couple of cases, there are some reduced budgets predominantly as well as revising media tactics generally for the back half of the year based on their own internal priorities. And it's really, I think is, as much as we know we can communicate. Again we have good relationships with all of them. We continue to find opportunities to integrate other analytics products and they remain in close relationships of ours.
Great. That's helpful. And then in terms of, Mike, an opportunity for cost cuts. Can you just give us a flavor for what those might be? I know you guys are probably going through the process of determining those now. But is it real estate? Is it that kind of thing? Or any sort of high level color end that?
I think it's really too early to say at this point. It could be some minor efficiencies that we look to. We do think there's viability in some of the forecasts that we have put out today. And I will reiterate that we do think that those forecasts are the lower end of the range. So we will see how it plays out. But we are planning on taking some initiatives and looking at things in the relatively near term.
Those were the two questions I had. Thanks for your help.
[Operator Instructions]. Your next question comes from the line of Darren Aftahi, Equity Research. Your line is open.
Hi guys. This is Nolan, on for Darren. Thanks for taking my questions. First, how is the YP G relationship going? Are you seeing any traction with new accounts in the quarter? And second, what verticals are you seeing over index growth?
Nolan, this is Mike. Let me take the first part of the question. And Pete, maybe you can dovetail on with the verticals. In terms of YP, there's a couple of things we are seeing. From discussions and extending the relationship, we think that there's an opportunity for account volumes based on certain initiatives that can potentially stabilize as we move into the 2017 period. At this point in time, we still think there's going to be a sequential decline in the YP revenues in the next quarter of this year and we will see how that plays out. We don't have a lot more information to provide at this time.
And regarding the traction of verticals, we mentioned a couple on our call today, particularly travel where we are now working with many of the world's largest brands in the hotel category as well as predominantly all the top cruise lines. So that's a very strong category for us. We think one that will be a big driver in the future. Other categories that we are seeing good traction include communications. For example, Vonage is a recent customer addition. And auto, we are very excited about as well, particularly with the new client development we see there. Those are three that we are really focused on right now.
[Operator Instructions]. There are no further questions at this time.
Thank you everybody for joining us today. We are excited to keep pushing forward here. We feel good about our business and look forward to updating you in the coming quarter on our progress. Thank you.
This concludes today's conference. You may now disconnect.
Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.
THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.
If you have any additional questions about our online transcripts, please contact us at: email@example.com. Thank you!