BIDZ.com Q3 2007 Earnings Call Transcript

BIDZ.com (BIDZ)

Q3 2007 Earnings Call

November 12, 2007 4:30 pm ET

Executives

Andrew Greenebaum - IR

David Zinberg - President, CEO

Lawrence Kong - CFO

Analysts

Mark Argento - Craig-Hallum

Liz Pierce - Roth Capital Partners

[Abhishek Hatari] - SDL Capital

Sam Steinman - Cedar Creek

Ryan Randall - Randall Capital

Presentation

Operator

Good day and welcome to the BIDZ.com third quarter 2007 conference call. As a reminder, this call is being recorded. It is now my pleasure to turn the floor over to your host, Andrew Greenebaum of ICR. Please go ahead, sir.

Andrew Greenebaum

Good afternoon, everyone and thank you for joining us today to discuss BIDZ.com third quarter financial results. With us on today's call are David Zinberg, the company's President and Chief Executive Officer; and Lawrence Kong, the company's Chief Financial Officer. By now, everyone should have access to the press release which went out at 4:00 Eastern time today. If you have not received it, it's available on the investor relations portion of BIDZ.com's website.

Before we can begin today, we would like to remind everyone of the Safe Harbor statement under the Private Securities Litigation Reform Act of 1995. The following prepared remarks contain forward-looking statements and management may make additional forward-looking statements in response to your questions. These statements do not guarantee future performance and therefore, undue reliance should not be placed upon them.

For a more detailed discussion of the factors that could cause actual results to differ materially from those projected in any forward-looking statements, we refer you to BIDZ.com's filings with the Securities and Exchange Commission, including the most recent annual report filed on Form 10-K, quarterly report filed on Form 10-Q, as well as current reports filed on Form 8-K.

With that, I would like to turn the call over to David.

David Zinberg

Thank you, Andrew and welcome to our third quarter conference call and our second earnings call as a publicly traded company. I will provide some highlights from our very strong third quarter, and then give a brief overview of our business and key initiatives. Then Lawrence Kong, our Chief Financial Officer, will provide more detail on numbers and discuss our fourth quarter and 2008 outlook.

Our third quarter revenues were $40.1 million, exceeding our previous guidance of $37 million to $39 million, and represents a year-over-year growth of 48%. Pre-tax income was $5.2 million versus our guidance of $3 million to $3.2 million and represent year-over-year growth of 409%. We are very pleased with this strong performance and as a result, we are raising our previous 2007 guidance substantially.

From an execution standpoint, we continue to make significant progress in terms of key transaction metrics such as value, visitor traffic, customer acquisition costs and market share. Specifically, we are averaging over 8,800 paid items per day, $173 average order size, 2,700 average orders per day, 3.3 items purchased per transaction. As per Compete.com, our traffic has increased 169% year over year.

We believe the reason for our success is our continued focus on being simply the best online auctioneer of jewelry. We provide a unique value proposition for both our buyers and suppliers. Our prices are determined by customers, with auctions starting at $1. We have short auction time and provide immediate gratification.

Additionally, we have an excellent and constantly fresh assortment of jewelry with over 50,000 SKUs. The global jewelry market is approximately $160 billion. BIDZ.com currently purchases inventory from over 300 suppliers. Approximately 30% of items we now purchase have been specifically manufactured for us.

Historically, our growth has been somewhat impacted as closeouts are primarily a cash business and we had limited availability of cash to make purchases. Now, with a revolving credit line of $15 million and positive cash flow, this is no longer an issue.

Additionally, we continue to further diversify our vendor relationships. As an example, our largest supplier accounted for 29% of our inventory purchased in the third quarter a year ago; and in the third quarter of 2007, represented less than 12% of our purchases.

We believe this continuous progress to increase supplier diversification is good, and allows us to provide a broad assortment of product our customers want and expect from BIDZ.com. We are already well-known as the best purchaser in the closeout market and we are constantly evaluating new suppliers who can help us grow our business and deliver value to our consumers.

We have also recently begun to buy loose diamonds, primarily from Israel and India, and have manufacturers cut gemstones to our specification. This business tends to include engagement rings and higher-priced items in the range of $1,000. Consistent with the rest of our business, these items are auctioned off at a great value for our customers and significant margins for us. While this is a relatively new part of the business, it's already off to a very successful start and leverages our existing expertise across the board.

We have been in business for over eight-and-a-half years and now have an established name and track record and critical mass; the relationships and employees needed to continue our profitable growth. We are often asked about how the market economy impacts our business. While we do not necessarily claim to be recession-proof, we do believe that a weak economy creates significant opportunities for BIDZ in the form of additional closeouts.

With an average order size of $173 and an average item of approximately $52, we're priced around the same cost as an article of clothing, a pair of shoes or a video game. In other words, we are not high-priced items and our products provide enormous value and do not depreciate -- and in fact typically appreciate, unlike other similar-priced items.

Our customers include individuals who purchase for themselves, those who intend to resell the product and those who intend to give it as a gift. We are not particularly focused on any one of these, as we know from experience that if we continue to deliver excellent value and broad assortment, we will continue to grow profitably.

We believe a soft economy can and does provide us with more opportunities to successfully execute our business. During the quarter, we achieved record gross margin of 31.7%. We believe this is due to a combination of recent initiatives we have implemented. However, the primary factor in maintaining strong gross margin is controlling the flow of auctions and inventory for supply, and then adjust it accordingly.

Our customers' sales and actions are reviewed hourly through real-time proprietary [data flow] report. It is important to note that BIDZ.com's inventory is a good thing as a part of our value proposition in the constant supply of quality jewelry at a great price. The experience we have in controlling the flow of product available for sale allows us to control gross margins to a large degree.

Over the coming months and in 2008, we plan to continue to do what we have been doing profitably: to grow and execute our business. In addition, we have some additional strong strategic initiatives that we are working on that are not assumed in 2008 guidance that Lawrence will provide in a few minutes.

Specifically, we are beginning to translate BIDZ.com into foreign languages. International revenues, which grew 53% in the third quarter of 2007 compared to prior year, already represents almost 25% of revenues and BIDZ.com's site is only available in English. We expect the first language will be available in the first quarter of 2008, and from there we will roll out additional languages.

Additionally, we plan to open an online jewelry store in early 2008 and already own a URL, BUYZ.com. The technical and operational capabilities and inventory already existing in-house and this will further leverage our core competencies. The site will allow customers to make fixed-price purchases and will include such features as diamond search and the ability to make your own ring or design your own jewelry.

This will also drive significant incremental traffic to the BIDZ.com site, as well as the comparative shopping network sites, such as BizRate, ShopZero, Froogle and Amazon will now list us.

Like any public company, we are eager to have long-term institutional investors own our stock and want to see strong liquidity for our shareholders. To that end, during the third quarter, we attended three conferences, had approximately 50 one-on-one meetings with institutions and three analysts are covering us.

Since listing on May 1 and becoming a NASDAQ capital market company on June 6, we have had over 16 million shares trade and seen our average daily value increase from approximately 50,000 shares a day to 250,000 shares a day. We intend to continue to undertake those kinds of initiatives to further develop relationships and increase BIDZ.com's visibility in the investment community.

We understand the importance of under-promising and over-delivering and we intend to continue to communicate actively and deliver strong results.

With that, I will turn the call to our Chief Financial Officer Lawrence Kong.

Lawrence Kong

Thank you, David. As David said, we had a very strong third quarter. Net revenues were $40.1 million, a 48% increase compared to the same period of 2006. The increase in revenue was due mainly to the growth in demand for our jewelry products and the increase in average order value. We have also implemented three initiatives that David discussed earlier which drove customer demand.

Income before tax in the third quarter was $5.2 million compared to $1 million a year ago. The $5.2 million, which is substantially above our original guidance of $3 million to $3.2 million, is due to higher gross profit margins on increased revenues from continued growth in demand for our jewelry products and the increase in average order value.

Net income for the third quarter of 2007 increased to $3.6 million or $0.14 per fully diluted share compared to $1 million or $0.04 per diluted share in the same period of 2006. We are pleased with these results and remain very focused on continuing to meet and exceed investor expectations as well as our own profit goals.

Gross profit dollars in the third quarter of 2007 increased by 19.6% to $12.7 million compared to $6.7 million in the prior year. Our gross margin percentage increased to 31.7% compared to 24.6% a year ago.

Gross profit margins in the third quarter benefited from the co-op marketing contributions from our vendors that reduced our cost of sales by $833,000 or 2.1% of net revenue. The co-op marketing contributions are amortized as a reduction to cost of sales over an estimated inventory turnover period. We expect gross margins for the fourth quarter to continue to improve over the corresponding prior year as a result of continued receipt of co-op marketing dollars and continued elimination of any major free shipping promotions.

Total operating expenses in the third quarter of 2007 increased to $7.5 million from $5.7 million reported in the same period of 2006. General and administrative expenses increased by 62% to $4.9 million in the third quarter of 2007 from $3.1 million in the same period of 2006. The increase was mainly due to expenditures to support our overall growth, SOX compliance and the necessary investments to build out our infrastructure.

General and administrative expenses as a percentage of net revenues increased slightly to 12.3% in the third quarter of 2007 compared to 11.3% in the same period of 2006. Sales and marketing expenses decreased to $2.4 million in the third quarter of 2007 compared to $2.5 million in the same period last year.

Our focused efforts to control sales and marketing expense and the improved effectiveness of our marketing campaigns have been extremely successful in lowering these costs while driving higher growth in revenues. As a result, our acquisition costs for new buyers decreased again this quarter to $43 from $51 in the third quarter a year ago. This is a significant improvement and a key metric that we will continue to focus on.

Additionally, we typically budget for less marketing spending in the second and third quarters as they are seasonally weaker periods. As such, we expect to increase our marketing spending during the fourth quarter. Sales and marketing expenses as a percentage of net revenue decreased to 6% in the third quarter 2007 from 9.4% in the same period of 2006. On an annual basis, we believe marketing costs of 6% to 8% of net revenues is an appropriate level.

Our average order value in the third quarter increased 39.5% year over year to $173 from $124 a year ago, and the number of items sold per day increased 30.9% to 8,814. The increase in average order value is due to the increase in the number of items per order to 3.3 compared to 2.8 in the prior year and an increase in the average selling price per item. This increase is due to the continued improvements in our site's increased traffic which creates more demand for our items, our compelling auction format and a significantly increased selection of products that also includes higher-priced items.

As of September 30, 2007, we had cash of $1.1 million and no long-term debt. Cash flow from operations decreased to $2.8 million from $3.2 million in the first nine months of 2006 due to changes in inventories, accounts payable and deferred revenue.

Now turning to guidance. For the fourth quarter of 2007, we expect revenue to be in the range of $56 million to $58 million, a 52% year-over-year revenue growth at the midpoint, and expect pre-tax income of $5.6 million to $6 million and GAAP earnings per share of $0.15 to $0.16 on approximately 29.3 million shares outstanding.

For the full year of 2007, we are increasing our revenue guidance range to $180 million to $182 million and anticipate gross margin of approximately 27% to 28%. We are projecting pre-tax income of $18 million to $18.5 million. We expect GAAP earnings per share to be in the range of $0.55 to $0.56, based on an effective tax rate of 20.2% on 26.4 million shares outstanding.

Additionally, we are introducing our 2008 guidance. For 2008, we expect revenue to be in the range of the $225 million to $230 million, or approximately a 25% to 30% increase, and anticipate gross margin of approximately 27% to 28%. We expect income before tax of $23.5 million to $25.5 million, representing a year-over-year increase of approximately 27% to 42%. We expect our effective tax rate for the full year to be 40% and to end the year with an average of approximately 30 million fully diluted shares outstanding. Fully taxed, we expect GAAP earnings per share to be in the range of $0.47 to $0.51.

In summary, we are exceptionally pleased with our third quarter results and the overall performance. BIDZ.com has become a recognizable brand and is one of the leading online jewelry sites and we're very optimistic about our growth prospects for the remainder of 2007 and beyond.

With that, I would like to turn the call back to the operator so we can take your questions.

Question-and-Answer Session

Operator

Your first question comes from Mark Argento - Craig-Hallum Capital Group.

Mark Argento - Craig-Hallum

Thank you. A couple of questions. First off, could you just talk a little bit about the mix of your business, in the quarter particularly? I know that I definitely saw a lot more diamond jewelry, diamond merchandise up on the site. Can you talk about the sell-through of those products and what that did for your average selling price? Are you happy with the performance that you've seen in terms of amping up your diamond business?

David Zinberg

Yes, Mark, we are very happy with the performance of our diamond business, but it is too early for us to separate it from the rest of the business. We are in the beginning of it and we see great results. As a result, you can see that the average order value did increase and so did the profit margins.

Mark Argento - Craig-Hallum

I know you had mentioned Israel as a second source now; I know India you had been over there and spent some time buying there. Could you just talk a little bit about Israel? Does that really open up more inventory for you guys to sell?

David Zinberg

Yes. Israel tends to have a little bit better quality of diamonds, and we just started working with them and they're very receptive and we're getting great deals from Israel also.

Mark Argento - Craig-Hallum

Lawrence, do you know what shipping and handling was as a percentage of sales in the quarter?

Lawrence Kong

I believe it is around 12%, thereabouts.

Mark Argento - Craig-Hallum

In terms of your typical seasonality you see in the business in Q4, is it post-Thanksgiving when you see the pickup in the business? How do you typically see your Q4 shape up? Has it changed at all this year?

David Zinberg

We are increasing our guidance, so that must tell you that we are seeing great results in the fourth quarter.

Mark Argento - Craig-Hallum

Fair enough. I know you have a big diamond out on the site right now, a 40 carat or 50 carat ring. Do you guys have any assumptions on what that would sell for relative to your guidance for the quarter?

David Zinberg

No. We did not factor that diamond in when we were providing the guidance.

Mark Argento - Craig-Hallum

Good work. Nice quarter, guys. Thanks.

Operator

Your next question comes from Liz Pierce - Roth Capital Partners.

Liz Pierce - Roth Capital Partners

Good afternoon. Can you hear me?

David Zinberg

Yes.

Liz Pierce - Roth Capital Partners

I was having a little bit of trouble hearing you guys in the beginning, so if I ask something, that is why. David, it sounds like what you're saying is you are going to stay away from the free shipping, right?

David Zinberg

Correct, yes.

Liz Pierce - Roth Capital Partners

It just seems to me that we've already seen an influx of emails -- and not necessarily in the jewelry area -- but other categories of merchandise offering free shipping. Do you think it's possible to hold the line on that, and that the customer isn't going to, as we get into the thick of the holiday season, going to expect some free shipping?

Lawrence Kong

No, we don't expect an impact and if you look at our guidance for the fourth quarter, we are expecting 52% revenue growth. Based on what we see for this quarter, it's strong and the lack of free shipping is not affecting that growth in revenues.

Liz Pierce - Roth Capital Partners

I understand that and I think that's great. My concern is as the environment heats up and gets even more promotional than it is, are you willing to change your position on that, if need be?

David Zinberg

We are a month-and-a-half into fourth quarter. We do not see any indications that that might happen.

Liz Pierce - Roth Capital Partners

Well I understand that it didn't help at all last year and I'm not suggesting that you do, I'm concerned about the greater promotional environment that we're all seeing and if the consumer expects to have it and if they don't want to pay shipping… but moving on then in terms of your suppliers, now that your cash balance has moved up, well I guess it will come out in the Q. But the two big vendors, are they still the two big vendors and has their percent of total changed at all?

David Zinberg

Yes, it changed a lot. The biggest vendor was 29% in the same quarter last year, and this year he's 12%.

Liz Pierce - Roth Capital Partners

Aren't there two, if I'm not mistaken?

Lawrence Kong

Well, the second one represents roughly 5% of purchases.

Liz Pierce - Roth Capital Partners

On the guidance, and this is where I missed it, I couldn’t hear it. I think in the beginning, you were talking about the co-op advertising so obviously that has been highly effective. Did I understand that you were using that in the cost of goods, right?

David Zinberg

Yes.

Liz Pierce - Roth Capital Partners

But that is really why you're talking about gross margin for next year, being in that 27% to 28%, that's where the lift is coming from?

David Zinberg

Exactly.

Liz Pierce - Roth Capital Partners

As well as just maybe your improved cash position, et cetera?

David Zinberg

Yes, better buying because now we are able to buy for cash.

Liz Pierce - Roth Capital Partners

On the tax rate, you said 40% for next year. For the fourth quarter, what should we be looking at?

Lawrence Kong

Well, I mentioned that for this year based on the current profit guidance, it's going to be 20.2%.

Liz Pierce - Roth Capital Partners

I can back into that, okay. David, were there any categories that stood out for you? I know the third quarter isn't necessarily the biggest quarter, but anything that allowed you to change the mix as you are headed into the most important part of the year?

David Zinberg

We're becoming better known and more brand-name merchandise is available to us. So we'll have more of the same, plus we'll have more brand names.

Liz Pierce - Roth Capital Partners

I will let somebody else go. I have a few more, but I get back in the queue. Congratulations, guys, nice job.

Operator

Your next question comes from [Abhishek Hatari] - SDL Capital.

Abhishek Hatari - SDL Capital

Thanks. My question was answered, but I was wondering if you guys are presenting at any of the upcoming conferences?

Lawrence Kong

Yes. We plan to present in December at the Wedbush Morgan conference.

David Zinberg

After that, the ICR conference in January of next year.

Operator

Your next question comes from Sam Steinman - Cedar Creek.

Sam Steinman - Cedar Creek

Hi, guys, congratulations by the way. Could you explain the co-op advertising program in a little more detail, what it involves and how many of your vendors are participating and so forth?

David Zinberg

Almost all of our vendors are participating, and if a vendor wants to sell to us more merchandise then we want to take, he would have to participate in the markets so we can market his product better.

Sam Steinman - Cedar Creek

Does this also include the closeout guys?

David Zinberg

Yes.

Sam Steinman - Cedar Creek

Okay, thank you very much.

Operator

Your next question comes from Liz Pierce - Roth Capital Partners.

Liz Pierce - Roth Capital Partners

In terms of the online store, you said that's projected for next year?

David Zinberg

Yes, the first quarter of next year.

Liz Pierce - Roth Capital Partners

Did you just want to wait until after the holiday and just come out, and not distract yourselves?

David Zinberg

We do not want to do any changes to the site right now when we're in our busy quarter and our time will be when it slows down a little bit and when we can make a switch.

Liz Pierce - Roth Capital Partners

Would that even be after Valentine's Day, or do you think you could get it out before Valentine's Day?

David Zinberg

We are going to try to do it when it slows down between Christmas and New Year.

Liz Pierce - Roth Capital Partners

How is the campaign for the second chance kind of thing? I can't remember the name of it off the top of my head. How effective has that been where you send out the email to those that didn't win at auction?

David Zinberg

All of those initiatives are working very well and we're not going to break them apart, but they are all working very well and we are very happy.

Liz Pierce - Roth Capital Partners

Are there other things that you have got lined up for the holiday? I realize you probably don't want to share those things for competitive reasons, but just curious.

David Zinberg

For the holidays, that is it. Everything that we have done is working very well and we do not want to implement any new technology because it might cause a strain to what we're doing already. So we just want to continuously do what we're doing right now.

Liz Pierce - Roth Capital Partners

In terms of the merchandise, basically, I know you're not designing it, but that you are having made for you, do have a percent of the total of that merchandise?

David Zinberg

It is about 30%.

Liz Pierce - Roth Capital Partners

Compared to last year, it wouldn’t hardly be anything, right?

David Zinberg

Yes.

Liz Pierce - Roth Capital Partners

How much was it second quarter? I presume it has been a sequential increase.

Lawrence Kong

We didn't mention anything about second quarter. We are not breaking down those numbers.

Liz Pierce - Roth Capital Partners

But it's about 30% now?

David Zinberg

Yes.

Liz Pierce - Roth Capital Partners

Is that a number that you are comfortable with, or do you plan on having that grow as business would dictate?

David Zinberg

If we find closeouts, then both numbers grow together.

Operator

Your next question comes from Mark Argento - Craig-Hallum.

Mark Argento - Craig-Hallum

David, could you just elaborate a little more on the international opportunity, specifically? I know you had mentioned a couple stats in the quarter. Could you just refresh us again on the growth rates and how much of the business is international?

Then a little bit more specifically on I think you said in Q1 you're going to be launching a new site. I wasn't exactly clear. Is that in another language, or could you just touch on that again quick?

David Zinberg

Right now, about 25% of the business is coming from international buyers, and it's an increase. I believe it was about 20% in the last quarter, somewhere around that. We believe that maybe a weak dollar is helping, and also we're getting more popular in English-speaking countries like the UK, Australia and Canada. The first language we're planning to do would be Spanish.

Mark Argento - Craig-Hallum

Is that something you can do for relatively little money I would assume? A pretty decent return you expect on that?

David Zinberg

Yes. Only 30% of the search on Google is in English. So we're looking at 70% that comes through all the rest of the languages and we'll go one by one and we'll go to the biggest first.

Mark Argento - Craig-Hallum

So you will buy keywords in the other languages, essentially?

David Zinberg

Correct.

Operator

Your next question comes from Ryan Randall - Randall Capital.

Ryan Randall - Randall Capital

A clarification on the EPS guidance, which is pretty impressive; your 2008 EPS, you say the range is $0.47 to $0.51. Should we compare that to the $0.53 that is current consensus this year? Do you think that's appropriate, or should we use more of a fully taxed number?

Lawrence Kong

Well the guidance for '08 that you just mentioned of $0.47 to $0.51 is based on the fully taxed scenario of a 40% tax rate. So it's not really the same comparison as this year where the tax rate is about 20%. In addition to that, next year's EPS assumes a fully diluted share count of about 30 million, and this year it's about 26.3 million. So these are numbers that should be taken into account.

Ryan Randall - Randall Capital

What is causing the 4 million share increase?

Lawrence Kong

Well, we are using the Treasury method to calculate the diluted effect of stock options, and the average share price for this year is lower than projected for next year.

Ryan Randall - Randall Capital

You talked a little bit about inventory. I'm just curious to know with the balance of the inventory you have now, if that has changed at all now that you're doing a lot more on the diamond side?

Also, can you just clarify your comment you made about how your merchants have to pay in more into the marketing fund if they want to sell you more inventory than you're willing to take?

David Zinberg

I will give you an example. We can sell maybe ten Corum watches a month, and if a vendor wants to sell us 100 Corum watches a month we would take a marketing fee, buy keywords and use those Corum keywords to sell the watches.

What was the first question?

Ryan Randall - Randall Capital

But why would you take the inventory risk if you only want ten?

David Zinberg

Because if we would get enough advertising dollars, we can sell more. If they're willing to pay for advertising, we can sell more.

Ryan Randall - Randall Capital

If you look at your balance sheet, the $46 million of inventory, has that changed at all due to the increase of diamond sales relative to where you were last year at this time?

Lawrence Kong

Yes, it includes some of the diamonds that David purchased recently, but that balance is more a reflection of building up the inventory for our fourth quarter.

David Zinberg

And the first quarter. First quarter is also a busy season for us.

Ryan Randall - Randall Capital

I see. So the overall mix is the same, it's just increased?

David Zinberg

Yes, if you put it in perspective, we need to sell $20 million plus a month, having $40 million on hand is not a lot.

Operator

We have no additional questions at this time. I would like to turn the call back over to our speakers for any closing remarks.

David Zinberg

As you can hear and see, we have a uniquely positioned, highly profitable and growing company with many existing opportunities ahead of us. We look forward to continuing to update you on our progress. Thank you very much.

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