Seeking Alpha
We cover over 5K calls/quarter
Profile| Send Message|
( followers)  

InfoSpace, Inc., (INSP)

Q1 2006 Earnings Conference Call

April 26, 2006, 5:00 p.m. EST

Executives:

Jim Voelker, Chairman, President, and CEO

Allen Hsieh, Chief Financial Officer

Analysts:

Mark May, Needham & Company

Gordon Hodge, Thomas Weisel Partners

Imran Khan, JP Morgan

Richard Fetyko, Merriman Curhan Ford & Co

Safa Rashtchy, Piper Jaffray

William Power, Robert W. Baird & Co

Scott Sutherland, Wedbush Morgan

Jeffrey Shelton, Natexis Bleichroeder

Operator

Good day and welcome to the InfoSpace First Quarter 2006 Earnings Release Conference Call. Today’s call is being recorded. At this time for opening remarks and introduction, I’d like to turn the call over to Ms. Stacy Ybarra, please go ahead mam.

Stacy Ybarra, Investor Relations

Thanks. Good afternoon and welcome to InfoSpace’s First Quarter 2006 Earnings Conference Call. I’m Stacy Ybarra, Investor Relations for InfoSpace. With me on the call today is Jim Voelker, Chairman and CEO, and Allen Hsieh, Interim CFO.

Before we get started, I want to remind you of a few things. First, this is an investor conference call. Accordingly, we will only be taking questions from the investment community. Second, this conference call contains forward-looking statements relating to the development of the company’s products and services and anticipated future operating results. These statements are subject to certain risks and uncertainties that could cause actual results to differ materially from those projected. Factors that could affect the company’s actual result of operations include but are not limited to the progress and cost related to the development of our products and services, the timing of market acceptance of those product and services, our dependence on companies to distribute our products and services, the performance of our system, the effectiveness of the development and implementation of our strategy, possible changes to that strategy, the ability to retain key contracts and personnel, and the ability to successfully integrate the product businesses. A more detailed description of certain factors that could affect actual results of operations is contained on the company’s most recent annual report on Form 10-K and quarterly reported on Form 10-Q as filed from time to time with the Securities and Exchange Commission in the section entitled “Factors Effecting Our Operating Results, Business Prospects, and Market Price of Stock.” Listeners are cautioned not to rely on these forward-looking statements which speak to the company’s prospects only as of the date of the conference call. The company undertakes no obligation to update publicly any forward-looking statements due to new information, events or circumstances after the date of this conference call or to reflect the occurrence of unanticipated events.

Now, I’ll turn the call over to Jim. Following his comments, Allen will review the first quarter financial results and then we’ll open up the call to your questions.

Jim Voelker, Chairman, President, and CEO

Thanks Stacy and welcome to the call today. We’re pleased to report another strong quarter at InfoSpace. We posted record revenues and solid EBITDA and just as important we achieved several milestones towards our long-term goal of solidifying our leadership position in mobile search, personalization, and entertainment.

First the financial results. Revenue for the first quarter was $90.3 million, up 4% over the seasonally strong fourth quarter with a 14% adjusted EBITDA margin. This was driven by strength in mobile media downloads and online volume increases. Mobile revenue was $44 million and our online segment posted revenues of $46 million. We further strengthened our balance sheet adding $20 million to end the quarter with $396 million or more than $12 per share in cash. These results underscore the strong position we’re building in mobile media where a massive new market is developing right before our eyes. Mobile devices have transformed from voice communications to text communication to media consumption in a very short time. In North America, we’re beginning to experience the effects of broadband speed as Verizon, Sprint Nextel, and Cingular complete their higher speed networks. Broadband will have the same effect on mobility as it did on the net, a larger audience yielding more use with richer content and applications delivering better experiences.

For consumers, this is an exciting time as they begin to realize the capabilities of this evolving device and for InfoSpace it’s a time of unprecedented opportunity as we are in front and center for most of the critical activities that bring users and content together. We have the broadest mobile distribution platform in North America. Let me give you some data to illustrate that fact. We lead the industry in portal services. We’ve developed and powered a mobile web for Cingular’s MediaNet, T-Mobile’s T-Zones and Verizon’s portal Verizon Today, among a host of others. These carriers comprise over 60% of the market.

We lead the industry in mobile media downloads. Last year, we delivered over 150 million mobile content downloads through our carrier relationships comprising an estimated 45% of the market, and in this quarter we firmly established leadership in mobile search, a critical position to occupy. All of the substantial value created on the web at Amazon, EBay, Expedia, Yahoo, and Google has centered on Discovery, and we believe that mobile search will soon be the starting point for most mobile media consumption. More on this in a moment.

Our goal is to continue to build a large and diverse mobile audience that accesses personalization, entertainment, and information content through our portals, our applications, and our content relationships, and we’re doing just that. We estimate that more than 25 million mobile users access our content or utilized our applications in the first quarter. This is up by more than 40% year over year and represents approximately 13% of all mobile users in North America.

Last quarter, we discussed our strategy for growth and the three pillars we are building upon -- technology, content, and distribution. Aligned with those themes, we announced three key initiatives for 2006 -- mobile search, content acquisition, and a direct-to-consumer offering. I’d like to take a moment to update you on these initiatives and share some of our progress to date. I’ll begin with Mobile Search.

In the first quarter, we deployed two new search products. Along with our fourth quarter MediaNet launch with Cingular, we now have search applications enabled on three of the four major U.S. carriers. Carriers are choosing InfoSpace because we offer the industry’s most comprehensive and customizable mobile search platform. Two of our deployments are geared towards searching for mobile content and local information through the carrier portals and have resulted in an instantaneous lift in content sales. Users know what to do when they encounter a search box, and the number of queries are substantial and growing.

At Spring Nextel, our InfoSpace “Find It” product is a downloadable application focussed on mobile local search categories including dinning, shopping, and movies to give users quick and easy access to highly relevant information, direction, and maps all in one integrated package. It features an important additional element, location-based technology, leveraging the user’s exact location to center the search. For years now, pundits have speculated on the power of location as an added element for mobile applications and InfoSpace and Sprint Nextel have combined to make it real. In each of these deployments, users now have an intuitive tool that provides easier access to the content and information they desire. Providing this discovery mechanism is a very important role to occupy and InfoSpace is leading the mobile industry.

Discovery alone does not yield much without content behind it, which leads me to our second initiative. Mobile content takes several forms, information, personalization, and entertainment being our focus, and we gained significant ground in all three areas in the first quarter. Regarding information, we’re extending our online content expertise in relationships to mobile. One of the keys to our success in mobile search has been the extensive search information we’ve developed through our online properties such as Switchboard and InfoSpace.com. We search over 30 resources to yield the best user experience in the market and now with the addition of location information we refine the results even further. And the same monetization relationships we enjoy on the web with Super Pages, Yellowpages.com, City Search, Pickup Master and many more are being leveraged for our mobile services.

We are the leading provider and publisher of mobile content in North America. We have licensed and acquired a deep library of mobile content in music, graphics, games, and a variety of other personalization and entertainment products. In the quarter, we closed approximately 20 new licensing deals to bring us to more than 600 licensing agreements and over 2.5 million items in our content catalogue.

We’ve partnered with Cingular Wireless and Fox to offer live idol ringtones from the songs performed on the number one rated TV show, American Idol. The live idol ringtones are made available hours after the songs have been performed on the show, a breakthrough in terms of turnaround time. We also announced a partnership with Cingular in the popular social networking portal MySpace to create Cingular’s mobile music studio. The studio is a first of its kind platform that allows emerging artists on MySpace to create and market their music as ringtones.

We improved our games catalogue by launching Cubis, Skee-Ball for prizes, Marvel Galaxy and many others through multiple carriers including Cingular and Verizon. Now, at the end of the first quarter, label tones accounted for approximately 80% of our total content sales and the resulting margin compression will only be offset by driving sales of a broader set of content. To that end, we’re building on our leadership position by securing an extensive range of content that appeals to a much wider mobile audience. We will continue to expand our demographics and focus around five key verticals -- faith, family, Latino, action sports, and urban. In addition, our video-based application will launch with a major carrier in the third quarter.

Finally, the distribution. For the past few years, our growth has been fueled by more than 40 mobile carrier relationships and our 100 plus online distribution partners. We continue to deepen our carrier penetration as evidenced by the search launch on Sprint Nextel and the content initiatives at Cingular. Online we added strong partners such as RCN, ALLTELL, and TEAMTalk. Our private label capabilities have been extended further with the launch of the Fuse TV Mobile content portal earlier this month. And more and more we’re seeing the value in the combination of online and mobile capabilities as brands and carriers look across platforms and consumers. And speaking of consumers, our directive to consumer offering is on track to launch this quarter. We’ve invested in significant research to grab the consumer-friendly, value oriented set of offerings that will feature our unique applications and a variety of content. We plan to launch on all four major carriers with what we believe will be the broadest and deepest content catalogue in North America. Our skills and content acquisition in delivery and our close working relationships with the carriers gives us an advantage in developing this offset channel.

This has been a very eventful start to the year with a number of important product deployments. As we move forward, we’ll continue those initiatives to facilitate bringing our search capabilities to mobile, expand our content portfolio, and support our direct-to-consumer offering. This is an incredibly exciting time in the industry and particularly here at InfoSpace, because we are truly defining the future of mobile media.

Before I turn the call over, I’m pleased that Allen Hsieh has agreed to step up and serve as interim CFO. Allen’s done a terrific job here over the last three years as chief accounting officer and his deep understanding of the business will help to ensure a smooth transition. With that, I’ll turn the call over to Allen.

Allen Hsieh, Chief Financial Officer

Thanks Jim, and welcome to our call today. I will start with a review of our first quarter results and then turn to our second quarter outlook. We are pleased with our revenue growth from the seasonally strong fourth quarter. Our revenues for the first quarter were $90.3 million, an increase of $3.3 million from the first quarter of 2005 and sequentially up $3.7 million from the fourth quarter. For the first quarter of 2006, our adjusted EBITDA was $12.7 million or 14%. We are investing significant resources in our three major growth initiatives -- mobile search, content acquisition, and a direct consumer offering. As previously discussed on our last call, we have targeted to spend $5 million on those initiatives in the first quarter. However, due to timing, our spend was just over $3 million. The timing of our initiative spend combined with the strength in our revenues with gross profit resulted in adjusted EBITDA being ahead of plans.

On a comparative basis, first quarter adjusted EBITDA decreased $9.2 million compared to the first quarter of 2005 and was also sequentially down by $3 million from the fourth quarter. Net income for the first quarter of 2006 was $3 million or $0.09 per share. Please keep in mind, in our 2006 net income results to 2005, starting the first quarter of 2006, we adopted FAS 123R and began expensing stock compensation cost, and we also started to report full GAAP income taxes. Additionally, in 2005, we recognized a significant gain from a litigation settlement. Excluding the stock compensation of $4.1 million and the related taxes, net income in the first quarter of 2006 was $5.3 million compared with the first quarter net income of $16.6 million after excluding the net gain from a litigation settlement of $77.3 million. Weighted average full diluted shares were $32.9 million for the first quarter of 2006.

Now, let me turn to our segments. As we discussed in the last earnings call, in early January we combined the operations of our two businesses -- Mobile and Search & Directory. We will continue to break out revenues as we have done in the past. However, starting this quarter, we also break out segment gross profit which represents Mobile and online revenues net of content and distribution costs. For comparative purposes, included as an attachment to the earnings release, you will find a table showing our segment gross profits in prior quarters.

Starting with Mobile, revenues in the first quarter of 2006 were $44.1 million, up $5.1 million from the first quarter of 2005 and up $1.9 million from the seasonally strong fourth quarter. Segment gross profit was $18.8 million or 43%, a decrease of $2.8 million compared to the first quarter of 2005. Sequentially, gross profit decreased by $1.5 million compared to the fourth quarter. As Jim mentioned, approximately 80% of our total media sales are label tones. Consistent with the trend over the last several quarters, our segment gross margin has been impacted by this as well as increases in our content cost. Additionally, a portion of the decline is a result of an exploration of a legacy professional services agreement at the end of 2005.

Turning to online, in the first quarter of 2006, revenues were $46.1 million, down $1.8 million from the first quarter of 2005 and up 1.8 million sequentially from the seasonally strong fourth quarter. Segment gross profit was $29.9 million or 65%. Gross profit decreased by 700,000 from the first quarter of 2005 and sequentially gross profit was up by $1.6 million compared to the fourth quarter. We are pleased that our segment gross profit increased and our margin remained inline sequentially reflecting the progress we made during the second half of 2005 towards improving the quality of our distribution traffic network. In the first quarter of 2006, search distribution revenues in North America continued to account for approximately 60% of the portion of our online revenues coming from search.

Now, I will go into detail on some of our other expenses. Other operating expenses are $47.1 million, increased by $11 million from the first quarter of 2005 and increased $7.7 million sequentially. In 2005, we did not report stock compensation cost, and starting the first quarter of 2006 we recorded stock compensation cost of $4.1 million. Also, in first quarter of 2006, we started to report full GAAP income taxes, which amounted to $2.4 million, representing an estimated tax rate of 45%. However, it is important to remember that the majority of our income tax expense is non-cash due to our significant net operating loss carried forward, and for the first quarter of 2006 our cash taxes were less than $400,000. The amount of income tax expense we recognized in any particular quarter is driven by our estimates for the year, which is sensitive to mix of earnings in different tax jurisdictions. Our effective tax rate is also impacted by the recording of stock compensation expense. These estimates are complex and are adjusted from time to time.

Looking at the balance sheet, the end of the quarter with cash and marketing investments of $395.6 million, up $20.2 million from the end of 2005, and we have billed that. As you may recall, we are authorized to spend up to $100 million on our stock repurchase program. To date, we’ve spent $70.2 million and repurchased 2.6 million shares of common stock.

Now, let me turn to our second quarter outlook. The second quarter has historically been a slow quarter for online search due to decreased internet usage going into the summer month. On the mobile side, last year, we saw the effect of a seasonal decline starting the middle of the first quarter, continuing into the second quarter. However, this year, we are not seeing that same pattern. As a result, we are cautiously optimistic entering into the second quarter. Therefore, we expect revenues to be inline with our first quarter ranging between $90 million and $92 million. We expect adjusted EBITDA to be between $5 million and $6 million in the second quarter. This is a very important year for us. The mobile market is very fast growing and an evolving business opportunity, and we plan to continue investing significant resources in our three major growth initiatives. These initiatives will account for approximately $6-$7 million of operating expenses in the second quarter.

We expect the net loss of $2 million and $3 million or $0.06 to $0.10 per share in the second quarter. This will include approximately $6.5 million in stock compensation expense and reflects an estimated income tax rate of 45%. This concludes our prepared remarks. I will now turn the call over to the operator and we’ll be happy to take your questions.

Question-and-Answer Session

Operator

Thank you. The question and answer session will be conducted electronically. If you’d like to ask a question please do so by pressing the “*” key followed by the digit “1” on your touchtone telephone. If you’re using a speaker phone, please make sure your mute function is turned off to allow your signal to reach our equipment. We’ll proceed in the order that is signaled to us and we’ll take as many question as time permits. Once again, please press “*” and “1” on your touchtone telephone to ask a question. At any time if you find your question has been answered, you may remove yourself from the queue by pressing the “#” key. Again, that’s “*” and “1” if you’d like to ask a question.

Stacy Ybarra, Investor Relations

Okay, thanks operator if we have no calls…

Operator

We do have some questions in the queue, I was just giving them time. We’ll take our first question from Mark May with Needham & Company.

Mark May, Needham & Company

Okay thanks for taking my question. I apologize I was not able to listen into the entire call, but you have announced a number of very interesting new initiatives in partnership and I’m just wondering, is there any way you can sort of frame the size of how big some of these things could be for you from MediaNet to MySpace, etc., maybe frame just how big these opportunities will be for you over the next 12-24 months? Thanks.

Jim Voelker, Chairman, President, and CEO

Mark, this is Jim. I wish we could frame some of this. It’s a brand new market, we’re trying some of interesting things. I think you highlighted a couple of them. MediaNet, we know that there are two ways that that can benefit us, one is just in adding users and users are steadily added there, but the big lift comes off really in this early stage over the time period you’re talking about, at least for 12 months, what kind of list do we see on content sales through the search there. So, that’s probably what’s happened for us. As Allen mentioned, we did not see a drop off this year in the middle…kind of towards the end of the first quarter that we saw last year, and we think we attribute quite a bit of that probably to the advent of having search and getting deeper into the catalogues. So, in that case, with MySpace, I got to tell you, we just don’t know. We’ll see what the participation will be from bands, we’ll see how much interest people on MySpace have in buying material, and I guess we’ll find out how many MySpace users are actually Cingular users still.

Operator

We’ll now go to Gordon Hodge with Thomas Weisel and Partners.

Gordon Hodge, Thomas Weisel Partners

Good afternoon…anyway, I don’t know what more you can tell us about the direct-to-consumer strategy, but if I heard right, you’re referred to $6 million to $7 million more expenses; will that be in marketing initiative or is it going to be in some other form, and I assume there’ll be a brand launch and so forth? Any chance you can tell us when we can look forward to that?

Jim Voelker, Chairman, President, and CEO

Well, Gordon, a couple of things there. One is on the $6 million to $7 million, that’s really across three initiatives, it’s across the direct-to-consumer, it’s across Mobile Search as well it covers some of the content acquisition. So, it’s across all three of those. And the direct-to-consumer will go out this quarter, we’re already at the end of April and it hasn’t happened yet, and it’s not going to be in the next couple of weeks. So, that will be also a factor of how much of that money gets spent there. In terms of giving you any more color on that, obviously we want to be a little bit circumspect about this so that we can have some power around the launch, but we’ve been working real hard. I think some of the key things for you to take away is we’ve been working very hard on making sure that we have a very expansive catalogue, that large catalogue that we talked about in the call, but that’s applicable in getting that license across this platform as well, that’s been key for us. The second has been to get arrangements with all four carriers. Some of that is just fortunate timing for us, but now Verizon is finally joining on and Sprint are joining on to allow some objects, I guess 80%-85% of the users out there, so that’s positive for us. And in terms of the kind of marketing we’re going to do in the beginning, we’ll do the launch here, but we do not anticipate doing television or anything quite like that until we’ve been out there for a while understanding; let’s just call it the operational mechanics of the business and getting a feel for what it’s going to be really like in that business and tweaking some things, but we’ll utilize and obviously leverage our search capabilities to drive traffic for the site and we’re excited about it.

Gordon Hodge, Thomas Weisel Partners

Great, and any early read on usage on “Find It” on Sprint?

Jim Voelker, Chairman, President, and CEO

It’s too early to tell. Hopefully, we’ll know more next quarter.

Gordon Hodge, Thomas Weisel Partners

Okay, terrific, thanks.

Jim Voelker, Chairman, President, and CEO

Thank you.

Operator

Now, we’ll hear from Imran Khan with JP Morgan.

Imran Khan, JP Morgan

How you’re doing?

Jim Voelker, Chairman, President, and CEO

Sounds like you’re doing okay there Imran?

Imran Khan, JP Morgan

I’m doing. A couple of questions; first, you talked about the seasonality in the business that you were cautiously optimistic about in the second quarter. So, I was wondering if you can give some more color what you saw in terms of giving you the confidence or making you more cautiously optimistic about the seasonality. And in terms of the seasonality are you seeing an improved seasonality in search and mobile, both areas, or just only in mobile? And then I have a followup.

Jim Voelker, Chairman, President, and CEO

Well, what we’re referring to there was the mobile side of the business. I think we’ve been in the search business long enough now to feel fairly good about the forecasting capability on the search side absent…some unusual things that could happen, but we feel pretty confident about how that cycle runs. As you recall last year, as I said before, kind of in the late part of the first quarter, we saw some drop-offs and we thought that was seasonal at the time. We thought it might be related to music sales, to phone sales. There is some impact from the spike in phone sales at Christmas, but it carries through part of the quarter and that kind of thing. But as Allen said earlier, Imran, we just haven’t seen that kind of an adjustment this year. So, we feel cautiously optimistic that we’re going to be able to have a relatively better quarter in the second quarter this year than we did in the second quarter last year. And as to some of the issues around that, once again, I call it two and a half years of experience on this, so you don’t have a lot of experience, but we do know search lifts the boats, there’s no doubt about that. We saw improvements in the carriers as soon as we launched search; the people can get into the catalogue much quicker and deeper. The second thing is I think that all of the systems, delivery systems, whether it’s us or some of the billing players or even some of the gateway issues that the carries have and had last year are getting smoothed out of the process, so the process is better, and we just have a much larger core group of users out there than we did a year ago. I mentioned the number here that we had in the quarter about 25 million unique users, and that’s up about 40% year over year. So, we have a bigger core of people using the products, and I think those are the factors.

Imran Khan, JP Morgan

Okay, and last question is, in terms of the $6 million marketing expenses for three marketing areas, I was wondering is that’s more of a one-time nature, what should we think about the second half of the year. I know, you’re not giving guidance, but just to get a sense, if we should expect any kind of major marketing initiative during the second half of this year?

Allen Hsieh, Chief Financial Officer

Imran, this is Allen Hsieh. In terms of it, it’s $6 million or $7 million that we’re expecting for the second quarter. It’s not all just marketing cost. It’s going to be attributable to a number of our initiatives that we have here, as well as the fact it includes our own resources from the head count standpoint. So, I think it’s safe to say that that amount is not going to be a one-time item and it depends on how fast we grow out of our initiatives here.

Imran Khan, JP Morgan

Okay, thank you.

Operator

Once again, it’s “*” and “1” on your touchtone telephone if you’d like to ask a question. If you find your question has been answered, you may remove yourself from the queue by pressing the “*” and 2” on your touchtone telephone. We’ll now hear from Richard Fetyko with Merriman Curhan Ford.

Richard Fetyko, Merriman Curhan Ford & Co

Thanks for taking my question guys. I was just curious about the state of business on the Search & Directory side that still represents 50% of the revenues and close to 70% of the operating profits. You haven’t spent much time talking about it, I was curious what the trends are on the proprietary search side in terms of traffic growth and also on the distribution side, your efforts to groom the distribution network. Where are you in that process? And then I have a followup question on the mobile side.

Jim Voelker, Chairman, President, and CEO

Richard, I guess I’ll start with the second one first. We went through a process last year with ourselves and our partners, specifically Google and Yahoo, all of this basically to try and make sure that our distribution network is bringing the kind of quality traffic that really converts well for advertisers. And I think we’ve made a tremendous amount of progress there, not just in the fact of eliminating some partners who were, let’s just call it operating at the edge of the envelope out there; you know, this a very lucrative business and so there are people that are willing to push the limits to try and capitalize on these businesses. But the thing that we’ve really improved on is kind on the other side, the side in terms of getting partners much better and managing that in concert with our partners. So, I think we’ve had a tremendous amount of success. I think if you asked the question to Google and Yahoo they would echo that and feel very confident about the position that all of us are in that space. So, that’s going on very, very well. In terms of growth on the O&O side, this is a difficult market to grow in. Our own sites have stayed pretty flat. Actually, we have had user growth on the directory side of the business, on Switchboard.com in particular, but pretty flat in terms of number of users year over year on the O&O side, and that’s kind of what we think we can expect. We can expect to grow there slightly perhaps, but we want to just kind of hold our own in that space and hope to find growth in directory and then of course moving those advertisers eventually to mobile.

Richard Fetyko, Merriman Curhan Ford & Co

You don’t feel like you have another sort of cleaning up to do on the sort of distribution side, you feel like you’ve done all you needed to do and the more continued focus is on quality as you bring on more partners?

Jim Voelker, Chairman, President, and CEO

Yeah, quality is a continuous focus, and again it definitely was an issue for us last year, but it’s been an issue for the industry. Again, I think the industry working as closely as we do with Google and Yahoo, we’ve managed to put processes in place now that people aren’t quite bluntly able to slip stuff past us as they may been able to do in the past. So, we do feel very confident about that, and I think you can see the kind of distribution partners we talked about are ALLTEL, RCN, TEAMTalk, these are high quality. This is not the kind of issue, and we’re not going to have any issues with those kinds of partners, and that’s the vast majority of our partners.

Richard Fetyko, Merriman Curhan Ford & Co

Then, on the mobile side, the cue is about what the margin profile of the direct consumer business you would expect to be relative to your current mobile margins perhaps, any color on that?

Allen Hsieh, Chief Financial Officer

Well, I think it’s still too early to tell right now. We haven’t launched yet and that’s something that we’ll see in the future. We’re going to do a measured approach and looking at trying to drive a profit on there, but that’s too early to tell.

Richard Fetyko, Merriman Curhan Ford & Co

Okay, thanks.

Operator

Our next question comes from Safa Rashtchy with Piper Jaffray.

Safa Rashtchy, Piper Jaffray

Good afternoon and congratulations, great quarter. Hi, how are you doing Jim?

Jim Voelker, Chairman, President, and CEO

I’m doing well, thanks.

Safa Rashtchy, Piper Jaffray

Can you give us your assessment of the competitive landscape in the mobile area, both in terms of your direct competitors, private companies that might be there, but also what you see from the major companies, major portals, for instance Google as we see is a fairly visible player now on the MediaNet on Cingular. So, I’m wondering if you see any traffic patterns that tell how things are going, and also beyond in terms of partnerships what you see from others and formal partnerships with the carriers, and I have a quick followup.

Jim Voelker, Chairman, President, and CEO

Well, I think there are two separate things there. If you talk about the major players, the Yahoo’s and Google’s, and clearly both these guys are going to have a presence in the mobile world; there’s no question about that. As we talked before Safa, this is not the Internet, this is a closed network, it’s a closed device. The carrier both pays for the network and in a large part pays for the device it gives you. So they have a tremendous amount of influence. In fact, they have all the influence quite bluntly on what appears on that device and how it appears there, and clearly Google and Yahoo will have a presence on that device. However, compared to the fourth quarter and what we were seeing in the pattern and what we hear from the carriers is, the carriers want to make sure that they are front and center here. So when you open the page at Cingular, it’s something that’s a Cingular product and it has a Cingular search box on it. It’s the same with some of the other carriers, and it will be across the board we think, and that’s the place where we’ll play. We want to do the private label support that we’re doing and we have that exact kind of arrangement with two of the four major carriers now, and then we have the specialized product that we put on Sprint Nextel, the “Find It” product. In terms of some of the smaller private guys, as you know there’s a whole list of people that are out there in small companies, in different kinds of niches in this business, but really, there’s nobody that we see that goes across the kind of platform that we do. When we talk about portal…you give me a good opportunity to quote, in portal we have better than 60% of the market. In downloads last year through the carriers, we had around 45% of the market. In search right now, we’ve got three of the four major carriers. So, there are some niche players out there and there are some good ones who have some interesting things, but right now we feel like we’re pretty broad and we’re pretty deep.

Safa Rashtchy, Piper Jaffray

Thanks. Jim, I don’t know if we talked about this, I might have missed it, but can you give us an update on how you’re doing with games, the Java games and other mobile games. Also, maybe kind of related to that, I think this is maybe relating to the question that was asked earlier too, can you give us some sort of broad categorization or quantification of the initiatives you have over the next two or three quarters, where should we expect the majority of growth in mobile to come from? You’re obviously working on your private label and you have the search and find product with Sprint and you work on a number of other initiatives, you’re going beyond the label ringtones, so it seems to me that your product mix is changing quite noticeably. So, I’m trying to see if you can give us a sense of where the growth will come from in the near year or so.

Jim Voelker, Chairman, President, and CEO

Well, I think you named all the areas…and how to quantify those, that’s the trick for us as well. As we said, it’s a brand new market and we’re trying to move a lot of things through the channel. I think what makes us optimistic is that we continue to see more and more users adopt and start to use things on the phones. We know that the 3G is quite helpful in terms of just like it was on the Internet, just the speed of response and the quickness you can get a screen to refresh back and have people utilize a search function. If you haven’t been able to use our “Find It” product on Sprint yet, I would tell you would be very, very impressed with the speed at which the results come back. I mean, it’s very quick. It’s not high speed at your desk, but it’s not far away. So, we’re encouraged by those kinds of things and by the advent of search in the fact that…one thing that we’re seeing that I haven’t talked about, Safa, a little bit is the kinds of queries we’re seeing go into the search box are really different than the kinds of content that we sell through our merchandising. Largely, we’ve been seeing to…call it the hip-hop audience through our merchandizing and yet the queries that we see coming through the search box reflect a much broader interest in different kinds of content, so we feel positive about that. In terms of the spending and the dollars, I think you were asking about on the initiatives, as Allen detailed here a minute ago, it’s going to be $6 million to $7 million in this quarter. I don’t expect this and we certainly wouldn’t without notification, though we’re launching a $20 million a quarter television ad campaign here anytime soon. We’re going to take a measured approach to this. We think we know some ways to drive traffic through search engines and we know a little about that so that we can drive some good traffic and test the waters on our B-to-C this year, and then we’ll kind of take it from there.

Safa Rashtchy, Piper Jaffray

Jim, anything on games?

Jim Voelker, Chairman, President, and CEO

Oh, sorry about that. You know, the game business is going to be in line kind of with where we’ve been before, around that 5%, 7% to 8% of the overall business, and that’s something again that needs a boost from higher speeds so that we can get more of the interactive stuff happening and higher resolution screens, things of that nature. We’re waiting I think for the second level, if you will, of technology capability to really start to see some significant growth in games, and that’s just not here yet.

Safa Rashtchy, Piper Jaffray

Okay thanks Jim, great quarter.

Jim Voelker, Chairman, President, and CEO

Thank you Safa, good talking to you.

Operator

And our next question will come from Will Power with Robert Baird.

William Power, Robert W. Baird & Co

Thanks and good afternoon. I’ve got a couple of questions. First on mobile gross margins, I guess it’s 43% in the quarter. I know there’s been a trend in label tones which has impacted that. Do you sense that margins should start to stabilize around this level or do you think there’s some sort of pressure there? Secondly, I know you’ve had some success, you talked about the Mobile Search with some of the major U.S. carriers, how are you thinking about the international opportunity there, what is that opportunity look like? Thanks.

Jim Voelker, Chairman, President, and CEO

I’ll take the second part, Will, and then we’ll let Allen chat about the first part. We’re working in Western Europe pretty hard and we definitely think there’s an opportunity for the search products over there. We just haven’t had anything to announce yet, but we definitely think there’s an opportunity there for us. Carriers there have the same issues that they have over here. There is nobody who is embedded at all in terms of competition over there in Europe. I think one thing that we have in this country, Bill, is that inferiority complex when it comes to where our mobile business is, in terms of where the European mobile business is. But when you talk about the data businesses, and we’re involved in Europe all the time, they’re not further ahead in most areas at all really, and in fact in some areas they’re behind. I mean they don’t have preponderance in 3G phones in the market either yet; we don’t either, we’re pretty much lined on that. Search over there has not really been started yet either, so it’s pretty much a green field, but we have work to do to get a couple of carriers on board over there and then spread from there. Allen…

Allen Hsieh, Chief Financial Officer

In terms of the mobile margins, yes, they’ve declined and we are experiencing a lot of shifting here in our product mix to higher cost content and also experiencing pricing pressure on that front. So, that’s why Jim had talked about earlier the fact that we need to bring in a new set of content here, and we are on that path as part of one of initiatives for this year, is to create and grow our own content here. So, you will continue to see some of shift mix and pricing pressure, but that’s one of our initiatives we’re focusing on this present year.

Jim Voelker, Chairman, President, and CEO

I would just say, maybe to lace more color on that, the ringtone business is great and the volumes are terrific and continue to improve, and that’s fine. The margins, we never expected them to be what they were in the early stages of this business when it was polyphonic. But, we’re kind of at a period where, as we’ve said before, 80% of what we’re selling is label tones. I think if we look out a couple of years, it’s not going to be anywhere near that kind of percentage, because we’re going to have video capability, we’re going to have much faster and more intricate gaming capabilities on the phone and deeper applications that we can do to integrate video and other kinds of things…the devices aren’t there yet but coming, but they’re not there yet. This is just a period that we’ll go through, but we are at 80% penetration already, so it won’t go too much further down that line, and music is the one type of entertainment content where there is an oligopoly in place. You essentially have three companies that control the price, etc. The other ones aren’t like that, so we’re anxious to see a broadening of content consumption out there, but there’s no question about that.

William Power, Robert W. Baird & Co

Thanks.

Operator

Once again, it’s “*” and “1” on your touchtone telephone, if you’d like to ask a question. Scott Sutherland with Wedbush Morgan Securities has our next question.

Scott Sutherland, Wedbush Morgan Securities

Great thank you, good afternoon. A couple of questions; first, I didn’t see, I didn’t hear that you had any search query numbers or pricing on that, can you talk about any trends you saw there in the first quarter?

Jim Voelker, Chairman, President, and CEO

Well, we didn’t give any numbers, but they’re out.

Scott Sutherland, Wedbush Morgan Securities

Okay. On the Verizon, you now said today and I believe you mentioned before earlier in the quarter, it was $4.5 million when you guys lost it for a quarter or approximately that. How much did you get back for the full quarter, is that more of a second quarter impact?

Jim Voelker, Chairman, President, and CEO

Actually it started end of last year…

Allen Hsieh, Chief Financial Officer

It actually started December last year and we have a full quarter impact, it’s a longer term arrangement.

Jim Voelker, Chairman, President, and CEO

It’s not at the level it was before…

Scott Sutherland, Wedbush Morgan Securities

A couple of questions on the mobile side; as you go with your D-to-C launch, do you think there could be anymore delays from Verizon, will that go back if there’s a consumer launch this quarter?

Jim Voelker, Chairman, President, and CEO

Could there be a delay from Verizon? Yeah, sure, there could be. We don’t control what they do, but right now everything is on track, but it wouldn’t delay our launch. We’d be happy to go with three out of four if we had to, but so far so good.

Scott Sutherland, Wedbush Morgan Securities

Okay, and some of the bigger media companies are coming out there in the direct-to-consumer, definitely we’ve seen some marketing on their television stations and they definitely have much bigger budgets, so it seems like you’re trying to find a way by not paying too much, but how much do you have to spend to compete effectively with those guys?

Jim Voelker, Chairman, President, and CEO

That’s a good question, but I think that there are different ways to compete and one is to have a pretty robust and superior offering. I think the kinds of things we can do with applications, and you’ve seen the “Find It“ app and it’s pretty unique, and believe me that’s just the structure that we can build a lot of interesting things off of that are not necessarily related to finding restaurants, etc., they’re much more related to media. So, we think we have some really interesting things that we can do that will attract the consumers, but this is a long-term gain, Scott, for us. So, what we’re saying this year is, we’re going to learn what it’s like to be in that D-to-C business on a day-to-day basis. We’re going to develop the internal skills and operational sets. In order to do a really good job for our carrier partners, our content partners, and the consumers that we get in, we don’t want to have a runway up and then crash way down scenario in this market. We want to grow this business steadily and long term. So, we’ll see. What you say is a genuinely good question. We’re going to have to feel that out and find out, but we do look at it as a long-term business.

Scott Sutherland, Wedbush Morgan Securities

Okay and lastly, I’ve seen recently some music services, sometimes the content providers decide to go direct paying a net-net fee to the guys in the middle. Do you see it in your business where you might get a net fee that’s higher margin below revenue, and also what happens with the buyback in the quarter. I didn’t see anything on the cash flow payment there?

Jim Voelker, Chairman, President, and CEO

We’re involved in agreements right now that are direct, so those are possible. It kind of depends on how the carrier views this and what kinds of services they want us to perform versus others, and carriers have different opinions on those kinds of things. The labels have one opinion but the carriers are the ones who make the decisions. So, not much has changed in that for us over the last year when we had been hearing this question. In terms of the buyback, of the $100 million we spent or invested if you will $70 million over the course of this quarter. We didn’t purchase much stock, and we’ll just see. As a matter of fact, we didn’t purchase any stock in this quarter, and we’ll see what we do going forward.

Scott Sutherland, Wedbush Morgan Securities

Great, thank you.

Stacy Ybarra, Investor Relations

Operator, I think we have time for one last question.

Operator

Very good, and our last question will come from Jeff Shelton with Bleichroeder.

Jeffrey Shelton, Natexis Bleichroeder

Thanks, I was hoping you could talk a bit about the economic model on Mobile Search, are you getting a cut of subscriptions, and I’m sure the carriers want a revenue share, is the revenue share on the same terms, should we thinking about them as your online affiliates?

Jim Voelker, Chairman, President, and CEO

I think the answer is kind of yes and a qualified yes on the second one. On subscription fees, as “Find It” is structured, it’s a revenue share on that. On the other kinds of things as we see going forward, I think you’re kind of referring to a tack fee. I think that will be the similar kind of a structure that we see developing. That’s fine with us. Our main issue here is to develop enough eyeballs, if you will, enough people searching, etc. Remember this is a little bit different market in the sense that people are not really looking in large part for web links. Mainly what the queries are telling us is…we analyze the queries that we’re getting in, and again the numbers are big enough to be a real sample here. What we’re seeing primarily are people looking for content they can consume right now on this device and looking for things that are local in nature, if you will, a restaurant, directions, something like that, a phone number, things of that nature, that’s a large part. It’s a much, much different kind of query profile than what we see on the web everyday.

Jeffrey Shelton, Natexis Bleichroeder

But it seems to be very scalable.

Jim Voelker, Chairman, President, and CEO

Oh yeah, it’s tremendously scalable. Like it was in the early days of search here, it’s a matter of getting people acclimated to using the tool, making the tool really intuitive and easy and simple for people to use, and driving the number of queries. The number of queries will define how many advertisers you can bring to the party. But, we’re obviously very bullish on this; we have 200 million users out there in North America alone, and so it’s a huge opportunity.

Jeffrey Shelton, Natexis Bleichroeder

The second question I have is back to the mobile gross margins. I believe you said in the fourth quarter you were about 75% label tones, first quarter you were about 80%, gross margins went down by 50-100 basis points. If you go from 80 to 85, should we expect a similar compression? You also mentioned something about a legacy contract rolling off, so I’m wondering how much that contributed to the first quarter.

Allen Hsieh, Chief Financial Officer

Unfortunately, I don’t want to get too specific into the detail for competitive reasons, but it’s not that a linear relationship you see, because the legacy contract we did was fairly significant in the fourth quarter. So, it’s not linear, it’s going to be within a range, if you will, but nothing more than what you’ve seen in the quarter over quarters on a sequential basis.

Operator

Although your questions are important to us, our time is limited too. I’ll turn the call back over to our host for any closing remarks or comments.

Stacy Ybarra, Investor Relations

Thanks for joining us for our call today. Bye.

Operator

And that does conclude our conference call. Thank you everyone for your participation and we wish you a great day.

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: transcripts@seekingalpha.com. Thank you!

Source: InfoSpace, Inc. Q1 2006 Earnings Conference Call Transcript (INSP)
This Transcript
All Transcripts