Digital Turbine Inc (APPS) 2018 Q2 法說會逐字稿

Good day, and welcome to the Digital Turbine reports fiscal Q2 results conference call. (Operator Instructions) Please note, this event is being recorded.

I would now like to turn the conference over to Brian Bartholomew, Senior Vice President of Capital Markets and Strategy. Please go ahead.

Thank you. Good afternoon, and welcome to the Digital Turbine Fiscal Second Quarter 2018 Earnings Conference Call. Joining me on the call today to discuss our results are: Bill Stone, CEO; and Barrett Garrison, our CFO.

Before we get started, I'd like to take this opportunity to remind you that our remarks today will include forward-looking statements. These forward-looking statements are based on our current assumptions, expectations and beliefs, including projected operating metrics, future products and services, anticipated market demand and other forward-looking topics. Although we believe that our assumptions are reasonable, they are not guarantees of future performance and some will inevitably prove to be incorrect. Except as required by law, we undertake no obligation to update any forward-looking statements.

For a discussion of the risk factors that could cause our actual results to differ materially from those contemplated by our forward-looking statements, please refer to the documents we filed with the Securities and Exchange Commission.

Also, during this call, we will discuss certain non-GAAP measures of our performance. Non-GAAP measures are not substitutes for GAAP measures. Please refer to today's press release for important information about the limitations of using non-GAAP measures, as well as reconciliations of these non-GAAP financial results to the most comparable GAAP measures.

Now it is my pleasure to turn the call over to Mr. Bill Stone.

Thanks, Brian, and thanks to all for joining us today. I want to start my prepared remarks with our progress against our stated goal. Our goal has been to build a sustainable and profitable business, while demonstrating solid execution against our strategy. I'm pleased to report that we continue our momentum in the September quarter, which was more profitable than the June quarter. We expect the December quarter to continue this favorable trend.

I'll break out my remarks into an operational review of the September quarter, some customer and partner updates and finally, some strategic comments about the future direction of our business.

First, on the operational performance. Our overall revenues were $27.9 million, which compares to $26.1 million in the June quarter and $22.8 million in September, a year ago. In particular, our operator in OEM or O&O business, finished at $15.9 million for the quarter, which was up 61% from the September quarter last year. This was primarily driven by success with our North American operators and a successful launch of the Samsung Galaxy Note 8. We have very good momentum with our O&O business and expect that momentum to continue in the current quarter.

Our Advertiser and Publisher or A&P business, finished at $2.2 million. As I said on prior calls, there's been an intentional refocusing of our resources away from A&P to the higher-margin O&O business combined with structural issues that we need to address. Despite the revenue declines, margins have grown from 15% last September to 26% this past quarter.

Our Content business was up 23% sequentially. This represents our third consecutive quarter of double-digit sequential growth.

Our Australian merchants continue to have success driving new revenues. We do expect some modest negative revenue impact in 2018, as the Australian mobile operators’ transition away from subscription services for traditional content types, such as games, videos and music and migrate those services to event-based charging. This change has already been in effect at Vodafone for most of 2017, and will go into effect in the December quarter for Telstra, and we expect the March quarter for Singtel's Australian subsidiary office.

We expect to see new types of content, such as parking, tolls, magazines, newspapers and so on become a future driver of pay growth in Australia, and while still a small percentage of total revenues when compared to Australia, we continue to expand new connections in the broader Asia-Pacific region and our revenues sequentially more than doubled outside of Australia.

Next, let me shift to some customer updates. First, I want to discuss our advertisers. I've been pleased with the diversification of our advertisers. Our advertisers are comprised of 4 main groups: first, are brands, such as Starbucks, Bank of America and McDonald's; secondly, our commerce players, such as Amazon, eBay and Yelp; and third, our gaming providers, such as EA, Zynga, King, Machine Zone; and the final category are utilities, like weathers, stocks, flashlights and so on. And while O&O advertising growth increased by more than 60%, our gaming providers' contribution actually declined from 69% of revenues a year ago to 39% today. In other words, gaming revenues were approximately the same last year and this year. Thus, one can attribute 100% of our O&O advertising increase to nongaming revenues. This was highlighted in the most recent AppsFflyer Performance Index. Digital Turbine was ranked in the top 5 in North America for the largest distributors of android nongaming applications, just behind companies such as Facebook and Twitter.

Our revenue per slot, or RPS, on high-end devices continues positive momentum as we continue to have strong demand for those devices. The RPS for the Note8 in the first month in North America was $0.44. This compares to the first month of the Galaxy S8 launch at $0.42 and the first month of the Galaxy S7 launch being $0.35.

We still have work to do to improve our RPS performance, both outside the U.S. and on some lower-end devices, but I'm optimistic that the combination of regional salespeople, additional third-party relationships and improved global campaigns will drive results.

Next, I want to make some comments about our operator and OEM partners.

I continue to be pleased at the overall advertising revenue growth of our largest North American operator, which grew revenues over 30% annually, but what is also encouraging is that operators' percentage of our overall O&O gross profit is declining. Last year, it was more than half of our gross profit. This year, it was less than 40%, as higher-margin partners have begun to ramp. We've seen a major ramp of our other large North American partner revenues and expect that to continue.

As many longer-term investors know, this relationship took many years to bear fruit, but is now a material part of our O&O story. I feel the same about T-Mobile and TracFone, as both accounts have taken longer expected time to get to market, but I'm enthusiastic about our future prospects with them.

Our Indian footprint continues to expand. We continue to do expand advertising relationships with Geo, Micromax and Indus. Geo's device volumes have slowed from prior quarters, as they are focused on a lower-end feature phone. We expect to see additional smartphones from them in 2018. Also, in the Asia-Pacific region, we also anticipate launching Ignite with Telenor in Thailand later this quarter, as our first market to launch with them. Telenor is one of the top 10 largest global mobile operators with over 175 million subscribers in 12 markets, including approximately 25 million in Thailand.

Our Latin America revenues have nearly doubled annually. The pipeline in the region is very strong, and we expect to add scale in the region in 2018 with both new relationships and the launch of our apk with American Movil.

We've also seen some increased pipeline traction in Europe, as our platform story is resonating well with many potential partners.

And finally, our OEM growth continues. And while still a small percentage of our overall O&O revenues, our OEM revenues more than tripled annually, driven by improved performance with companies such as Motorola, Acer, BLU and Archos. We are making a major business development push to improve our OEM footprint to take advantage of the broader trend towards open market or unlock devices.

And this leads to final section of my prepared remarks. The platform story has really generated traction in the marketplace. We are now at scale with over 110 million devices with Ignite and are growing that number each quarter in a material way. This is the key to get the flywheel going, and in our view, a key metric for investors to look at our future business into 2018 and beyond.

When investors ask me, how big can Digital Turbine be in a few years? My response is that we are here to build a meaningful business that is much, much larger than today's results. And to accomplish this, building scale with devices and adding new revenue streams off the platform are the catalyst for that potential step-function growth. The key is not just having a single revenue stream from a product, but how do we get multiple revenue streams from the same platform on not just 100 million devices, but on hundreds of millions of devices.

We're seeing a few major macro trends that we're extremely well positioned for to capture these. First is a trend of overall smartphone growth of 1.5 billion smartphones to be sold this year and growing from there; and secondly is application growth, as the application market is now at $88 billion, growing at a 22% compound annual growth rate. Delivery of those applications on our Ignite platform via our DT Media business today, is one avenue of growth. But a much larger opportunity is through our Delivers product that can provide one-click access to consumers from any advertising platform, whether that is Facebook, Snap, Twitter, Oath or any advertising company. We've trialed this earlier this year, and while not at scale, the results were encouraging.

We've been working with one of our large North American partners and another large advertising partner to trial this capability with them exclusively. We need the remainder of the fiscal year on the tech side to get the tech launch to scale across all of our partners, but this is a major internal priority of the business and an opportunity we're excited about as part of the growth story in the future.

Next is the trend of the open market. Today, many operators don't have the ability to get their applications to the device, as customers just buy sim cards from the operator versus the device itself. With Ignite on the device from the OEM, this solves that problem. This is why we are now changing our open-market focus to embrace the operator versus dealing in it as an independent approach. We believe this is a better longer-term approach, as operators pay us a license fee for open-market devices to deliver their experience to these customers that are hard to reach today.

So for illustrative purposes, we envision a future where device that could have $0.50 of gross profit today, to be able to accrete to multiples above that current run rate. And multiplying all these different revenue streams of the platform by multiples more of device yield some very large potential numbers. And this is why we're very excited about the future and our strategy.

We anticipate having an Investor and Analyst Day in early 2018, where we can spend some dedicated and focused time on how we will build this additional shareholder value.

I want to conclude my remarks by saying that September was another solid profitable quarter that beat our internal expectations. So the short term's in good shape, but the long term is what I'm really enthusiastic and optimistic about.

And with that, I'll turn it over to Barrett to take you through the numbers.

Thanks, Bill, and good afternoon, everyone. I'm pleased with the solid performance in Q2. We delivered the company second consecutive profitable adjusted EBITDA quarter and experienced an accelerated rate of revenue growth. We continue to make progress toward our objectives in delivering sustainable profitability and generating positive free cash flow.

Turning now to the financials. All of our comparisons are on a year-on-year basis unless otherwise noted.

Total Q2 revenue of $27.9 million was up 22%. Advertising revenue of $18.1 million grew 19% and within advertising, our O&O revenue of $15.9 million was up 61%. O&O revenue growth in the quarter stemmed from continued revenue traction from recently launched partners ramping on the platform combined with the successful launch of the new Samsung Note8. Inside our advertising, our A&P revenue was $2.2 million in the quarter, down 59% and now represents less than 8% of total revenue mix.

Content revenue of $9.8 million in the quarter, grew 28%. Q2 marks the third consecutive sequential revenue growth period from this business. In the quarter, our adjusted EBITDA was positive $0.4 million as compared to a loss of $3 million in the second fiscal quarter of 2017. This improvement of $3.4 million year-on-year in the quarter on an -- an additional $5 million in revenue during the same time period, is a testament to the embedded operating leverage of our business.

Non-GAAP gross margin expanded to 29% in the second fiscal quarter of 2018, as compared to 22% for the same quarter in the prior year. This year-on-year margin expansion is largely driven by continued mix shift toward our higher margin O&O business, combined with improving gross margins across all of our business units versus prior year.

Expanded margins enabled non-GAAP gross profit dollars to increase by $3 million year-on-year to $8 million in the quarter.

Let me leave the discussion on gross margin by noting that, while we are pleased with our continued improvement in this area and encouraged about our opportunity expand margins overall, our gross margin rates can be sensitive to changes in partner mix and revenue type between advertising, licensing or content, and these fluctuations can be accentuated during seasonally high periods and may vary from quarter-to-quarter.

Now turning to expenses. Total operating expenses for the second quarter were $8.6 million, down 10% year-over-year. Expenses, excluding stock compensation and depreciation or our cash operating expenses in the quarter, totaled $7.6 million, down $100,000 from the same quarter prior year. Overall, the reduction in cash expenses is driven largely from realizing continued efficiencies in hosting technology costs and lower G&A expenses. These reductions are partially offset by an accrued expense for the company's annual employee bonus plan tied to the company's financial performance through the first half year -- through the first half of the year. It's important to point out, this type of expense was not earned or recorded in the prior fiscal year. We continue to experience impressive expense scale on the platform, delivering 60% growth in the quarter in gross profit dollars, while holding cash expenses constant during the same time.

Non-GAAP adjusted net loss was $0.6 million or $0.01 per share this quarter, as compared to a net loss of $0.9 million or $0.01 loss in the first quarter of 2018.

Our GAAP net loss for the first quarter was $6.5 million or $0.10 per, based on 66.8 million weighted shares outstanding compared to a net loss of $7.3 million or $0.11 per share for the fiscal second quarter of 2017.

Included in our GAAP net loss for the quarter is a recorded loss of $4.5 million from the impact of the change in fair value of derivative liabilities resulting from our convertible note, which is highly sensitive to the company stock price, which increased almost 50% from $1.30 at the end of June to $1.51 at the end of the September quarter.

As a reminder, the derivative liability on our balance sheet will fluctuate as our stock price moves and may have a material impact on our reporting GAAP financials.

Moving on to the balance sheet. We finished the quarter with $5.9 million in cash, a decrease of $400,000 from the first quarter. Cash from operations generated modest positive cash during the quarter, inclusive of a semiannual $700,000 interest payment, which was offset by capital expenditures of $400,000 in the quarter.

6 million of convertible notes were converted by noteholders at the end of the quarter, resulting in a reduction in the gross principal amount of these notes from $16 million at June 30, down to $10 million as of September 30. Associated with these conversions, approximately 5 million shares of common stock were issued to these noteholders.

Within our short-term debt, at quarter-end, our balance drawn was $2.5 million of the total $5 million revolving facility.

Now let me turn to our outlook on fiscal 2018.

We currently expect Q3 revenues of approximately $31 million, representing a projected year-on-year growth of 39%. We expect continued sequential improvement in adjusted EBITDA, and we reaffirm our expectations to generate positive full year adjusted EBITDA in fiscal year 2018.

In summary, Q2 was a strong quarter. We delivered another quarter of profitable EBITDA growth and continue to strengthen our financial profile. With that, let me hand it back to the operator to open the call for questions. Operator?

(Operator Instructions) Our first question comes from Brian Alger with Roth Capital Partners.

I want to get some clarity on what's going on within the Content business in Australia. I mean, it sounds as though we should be expecting a bit of a pause there after the past couple of quarters of growth?

Yes. So, Brian, we've seen a nice ramp up of growth over the past few quarters, and we're really in a transition as the Australian operators and us are working with new content merchants. So -- and I touch on things like parking, tolls, small businesses, magazines, newspapers, et cetera. So I really see that being something that we're going to be focused more in 2018. And some of the traditional subscription activities will get migrated over to events. So we anticipate this -- not in a kind of modest impact in 2018, but nothing at this phase that we want materially affect our guidance or direction to you guys.

Well, obviously, the O&O business has become a bigger percentage of revenue, and that's masking, obviously, the Content fluctuations as well as A&P. Just curious, within the $9.8 million reported for Content, how much of it is tied to Australia?

The vast majority of it is tied to Australia.

Just making sure. Great. And then as we look forward, and we're looking at that Delivers, it sounds as though you've had some trials, but were not quite ready to go at scale yet. Can you, maybe, walk us through the next, maybe, milestone steps that you need to do before you'd be ready to go at scale?

Yes. So we, basically, earlier this year trialed it, had some nice encouraging results, albeit not at scale. We just recently been working with one advertising partner and one of our larger North American partners to trial it. And so again, results are encouraging. But the key here is to be able to do it across all of our partners all over the world and with any advertising partner. We've still have a little bit of work on the tech side to do. I anticipate, at the end of December quarter, kind of early in the March quarter to have some material progress against that. But I think in terms of moving the needle this fiscal year from a results perspective, I wouldn't anticipate anything and expect much more of the story for next fiscal year. But there's some technical, just timing material things that we've got to do to operate this thing at scale.

Okay. And is that something that's going to be tied business-wise into your focus on the open market? You talked about working with the carriers more from the aspect of licensing from a open device, is that tied into the same thing, or are they separate?

Yes. So they're separate. But they're -- I would think of them as different revenue streams. So one revenue stream would be from an advertising partner. So you can think of a Facebook, a Snap, a Twitter, an Oath or a whole long field of advertising partners that really want to deliver one-click access to their customers. So we'll go out and work with those advertising partners to deliver that capability through Ignite, and I would view that as one revenue stream. The second revenue stream is really a pain point we hear from every operator all over the globe, which is, hey, we got all these phones coming on our networks. The sim cards don't have the capability to get our experience to these customers. How can we get our experience to our customers? So if you have an AT&T phone that comes under Verizon or vice versa, goes into, same analogy to 2 other geographies, how can the operator deliver their experience out to these customers to get a better sticky relationship? We view having Ignite on those open-market devices as a licensing opportunity back to those operators, they would want to pay us to be able to do that. And it's solving a big pain point in the marketplace right now. So something we're really excited about.

Yes. It's funny. It's one of the original pain points that -- going back several years that we've been involved that you guys were looking at targeting way back when. So it's great to see that moving along. And you mentioned 100 -- was it 116 million devices with Ignite in the marketplace today? I would assume that most of those are domestically here in the United States. Do you have a rough geographic breakdown in terms of where those might be located?

Yes. Yes. So we didn't break them out by geography. I think it's -- as we go forward in time, we get to our Investor and Analyst Day, and when can brought in lot more context and texture around it, you'll -- we'll do that going into the future. But for today, I wouldn't conclude that they're all in North America. I mean, we've made a lot of progress in Latin America, India and a lot of other geographies. But yes, we haven't -- we're not breaking it out today. But it's something we want to really plant the seed, investors to think about this as a metric of our business, because once we can get the platform on the device, then it's the opportunity to get multiple revenue streams off that device. So you're looking at the device metric on a go-forward basis will be something we think is important. So yes, stay tuned for more on that.

So sounds like we should be thinking about Delivers, not so much as just going on new phones when it's ready to go at scale but also, at that -- potentially, at that installed base?

That's right.

Our next question comes from Mike Malouf with Craig-Hallum Capital Group.

If we could just focus a little bit more on Latin America, can you just talk a little bit about the timing with the apk? And as you look out to calendar 2018, we always thought that American Movil was going to be a big contribution and a big impact, and because of the software, we had a little bit of a delay in that. And I'm wondering if you can talk about the traction that you expect there as we go into next year.

Yes, sure. So let me talk about Latin America more broadly versus just one partner. And I'll double click a little bit on that, Mike, in a second. We've got a pretty nice pipeline in Latin America right now. And so a lot of good things are happening around our footprint. And I'm excited about that because that will help us in terms of scaling some of the advertisers demand as well. So you stay tuned for that as well. And so a lot of the OEM traction that we're seeing right now in Latin America, that's one of the fastest-growing smartphones markets in the world. So some of the OEM deals I referenced in my prepared remarks, I think, will be another nice catalyst in Latin America. Regarding American Movil, specifically, yes, you're correct. We hit -- launched with them with the SDK solution that had some limitations with it. We're -- anticipate in 2018, migrating them over to an apk solution. But that will be on their new devices. They won't be out to the embedded base. So that's an important distinction there. But that apk solution will deliver much better install rates, much better performance, much better data, and that will all yield improved results. So we're extremely bullish in Latin America and our relationship with American Movil and that apk, as expected, kind of, seen the marketplace, the first half of next calendar year.

Do you think it will be out before the S8 or the S9 or whatever the new Samsung is?

Yes. No comment on that.

Okay. And then just a follow-up on your comments with regards to T-Mobile and TracFone. Can you talk a little bit about when do you expect that to start to ramp?

Yes, sure. So as I said in my prepared remarks, some of these relationships for those investors that have been following the story for a long time. They've taken a long time to bear fruit, and we're finally seeing them bear some fruit, which is rewarding. That's why I'm so excited about the TracFone and T-Mobile relationships, because I think, it's just the opportunity it can bring to the business. But they've been -- but both relationships have taken longer than we've liked with it. As we've said in earlier prepared remarks, we expect to see some traction on that this fiscal year with both of them. But they've taken longer -- for different reasons, but they've taken longer than we've liked to get going.

So is that sustained or are you sort of moving that to next...

No, I think -- yes, they're all sustained.

Our next question comes from Sameet Sinha with B. Riley.

This is actually Lee Krowl filling in for Sameet. Could I just get some more commentary on RPS? It seems like you guys are making great progress, the new product launches in the U.S. But just wanted to dig in to, kind of, GM profile differences between domestic and international and, kind of, maybe, the margin opportunities there in terms of growing international and, kind of, what steps you guys are taking?

Yes, sure. Yes, so I think -- when I think about growing International, I think about it not just in the context of RPS, I think about it in the context of all the revenue streams we've talked about. So we talked about, RPS as one, but Licensing business, for example, we do internationally with operator partners such as Millicom and then Reliance Jio today. As additional one, Delivers, from Brian's earlier question, would be another example of that. And then there's some life-cycle services, things are on notifications and folders, and other things that we think will be additive to that. So when I think about the revenue streams on international devices, I think about it a little bit broader than just RPS. But just double clicking on RPS specifically, yes, the key challenge there is, we've got to get scale in these markets. And so, as I said in my prepared remarks, we're going to do that through 3 primary avenues: Number one is, we're hiring additional local sales people on the ground to bring those local, popular campaigns, and we've done that in Latin America and India and Europe specifically. That's number one. Number two is, really, helping drive RPS through third-party relationships, so those can be local advertising agencies or other local third-party major distributors of applications in those markets. And then third is, just through improved global demand. As we get scale, I talked about a lot of companies that we're driving RPS here in North America. As we get global scale, then we'll be available to bring some of that global scale to some of these international markets. So those are really the 3 areas to focus for us to improve RPS internationally. But I don't want to get -- I don't want to leave with international RPS is the only way to drive value on these devices. We see additional revenues streams coming off of them.

Got it. And then just second, last quarter you'd spoke about the large banking institution kind of increasing spend. More broadly on that sense, can you just talk about how you're reaching kind of beyond these gaming, social and consumer opportunities? Is that through agency relationships? Or is that a direct sales effort?

Yes. It's a combination of both. So our direct sales team's done a fantastic job, bringing new brands and not just, continuing the gaming phase the gaming activities but also the non-gaming. So yes, they've done a nice job ramping, but we brought in a lot of different agency relationships and those have starting to bear some fruit with us.

Got it. And then just, kind of I know you guys mentioned that you guys were able to grow revenue on a fairly fixed expense base. What kind of leverage can you continue to drive on the top line in regards to that as a fixed-cost basis? Because I would have to assume, as you guys grow, you're going to have to invest a little bit. I'm just kind of curious what kind the leverage you can drive with this sales growth.

Yes. We've been -- as you would have concluded from our remarks, we've been very impressed with the scale from the business. We are -- we have been making investments in the technology teams, in our sales force, both domestically and globally. But we expect to continue to have large amount of scale and operating leverage here. I think about where our expense increases will be. We will -- we do have some variable cost related to the hosting environments. Those will increase. And we will continue to make investments in our technology, as we deploy some of the things like Delivers. But overall, we -- we're optimistic about the scale, we'll continue to achieve.

(Operator Instructions) Our next question comes from Ilya Grozovsky with National Securities.

So I just had a couple of questions. I think, Bill, you had mentioned in your prepared remarks about September. Did you mean October, while you gave some additional color on the month? Or was that supposed to be September?

Yes. It was September. I didn't really provide any color on the current quarter.

Okay. And then given the sequential growth in Ignite of 25 million devices in the quarter. Can you just kind of give me a little bit color on the sequential growth in the O&O business or kind of how that correlates?

Yes. So you would think about our growth coming in, Ignite from a number of different regions, right. And at different stages, and each of these regions. But as Bill alluded, our device growth, while we're not breaking it out, came across all regions, and all areas, and both in our legacy partners as well as new partners we launched over the last several quarters. But we're seeing growth, fortunately, in our large North American partners as well as Latin America and India and other rest of the world. So I'd say, we've seen in a sequential growth across most all areas.

My question refers to the sequential revenue growth, because if I look at what you did in 7 -- in June quarter, you're about $15 million in O&O and now you're $15.9 million. I just would've thought it would've been a larger sequential growth, given that your unit growth was probably 20% sequential growth. And just kind of how that -- how you -- how that translates to revenue growth?

Yes. One thing to recall. We had the S8 launch in the June quarter, which contribute, kind of, a unusually high lift in our Ignite revenues. And then the Note 8 launched in the September quarter, which gave some lift, but as -- just as a reminder, that was late in the September quarter. But I don't want to -- I don't want the fact that the O&O revenue grew over 60% year-on-year to be missed here. So while the sequential was modest growth, year-on-year is substantial obviously.

This concludes our question-and-answer session. I would like to turn the conference back over to Bill Stone for any closing remarks.

All right. Thank you. And that's everyone for joining the call today. We look forward to reporting on our progress against all the points made on the call today. And we'll talk to you again on our fiscal third quarter call. Thanks, and have a great night.

The conference is now concluded. Thank you for attending today's presentation. You may now disconnect.