Avantax Inc (AVTA) 2006 Q3 法說會逐字稿

Good day everyone, and welcome to the InfoSpace Q3 2006 earnings release conference call. Today's call is being recorded.

At this time for opening remarks and introductions I would like the turn the call over to Stacy Ybarra, Director of Investor Relations for InfoSpace. Please go ahead, Stacy.

Good afternoon and welcome to InfoSpace's third quarter 2006 earnings conference call.

I am Stacy Ybarra, Director of Investor Relations. With me on the call today is Jim Voelker, Chairman and CEO, and Allen Hsieh, Chief Financial Officer.

Before we get started I want to remind you of two things. First, this is an investor 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 actual results of operations include but are not limited to the progress and costs related to the development of the products and services, the timing of the market acceptance of those products and services, our dependence on company's to distribute our products and services, the performance of our systems, 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 acquired businesses.

A more detailed description of certain factors that could affect actual results of operations is contained in the Company's most recent annual report on Form 10K and quarterly report on Form 10Q as filed from time to time with the Securities & Exchange Commission in the section entitled "Factors affecting our operating results, business prospects and market price as well."

Listeners are cautioned not to rely on these forward-looking statements which speak to the Company's prospect only as of the date of this 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 will turn the call over to Jim. Following his comments Allen will review the third quarter financial results and fourth quarter outlook. Then we'll open up the call to your questions.

Thank you, Stacy and welcome to the call today.

While third quarter results were in line with our projections, the main development of the quarter was the pending loss of significant revenue from one of our carrier partners and our consequent restructuring efforts. Over the last three years our mobile strategy has focused on driving growth through the licensing, production, programming and delivery of content, the development of mobile applications and discovery tools and the development and hosting of portals and Store Fronts for our carrier partners.

The goals have been to create an end-to-end eco system that serves both carriers and content owner and to build a substantial audience for content and further out for advertising. This yielded a business model that allowed us to grow in a linear fashion with our partners as the audience and content types expanded.

Since 2003 this model worked quite well, delivering a five fold increase in revenues and substantial margins along the way. That success encouraged us to invest in a broader set of content in anticipation of higher speed networks and more capable devices and a direct to consumer portal that leveraged the scale of our mobile content business with the carriers. However, rather than broadening content sales consolidated around label tones.

When we were informed by our largest carrier partner that they intend to form direct relationships with the major record labels beginning in early 2007. We determined that our content business would quickly become subscale and support scant investment going forward. Therefore, we made the decision to align costs with expected revenues as quickly as possible.

During the quarter we announced plans to reduce head count by approximately 250 or roughly 30% of our workforce to absorb the impact of the revenue loss in 2007. As part of the restructuring, we've also suspended investment in Moviso our direct to consumer site as well as new content initiatives.

Our remaining media business is expected to generate positive cash flow. We intend to fulfill all of our contractual obligations and maintain and update our current catalog of ringtones and graphics in the ordinary course of business. As a result of these cost cutting measures, in the third quarter we incurred a $58 million restructuring charge of which $45 million are non-cash charges. This was a very difficult decision but an important one in our effort to achieve long-term profitability.

Entering the fourth quarter we are focused on completing the restructuring and transitioning this portion of our carrier relationship as seamlessly as possible. Our mobile portal, Store Front and search services are largely unaffected by this restructuring.

Now to our results. Despite the challenges we faced during the quarter, we posted strong revenues. Revenue in the third quarter was $96.3 million, up 16% year-over-year driven by strength in both our online and mobile segments. We added $4 million to our balance sheet to end the quarter with $411 million or more than $13.00 per share of cash.

Our first task now is to execute through the transition and continue to build upon the strength and success of our mobile technology and online discovery products. Our online business continues to generate strong cash flow. Dogpile our signature Meta Search site was recently ranked highest in overall customer satisfaction among search engines according to a survey by J D Powers & Associates. This recognition illustrates the value of our Meta Search technology.

Our online directory capabilities have been extended to mobile via InfoSpace Find It where we added spoken turn by turn directions and integrated performance based advertising along with 15 million points of interest to enhance the search experience. InfoSpace is the first to integrate performance based advertising to a mobile local search product providing increased exposure to thousands of business.

Our mobile services are in high demand and growing as well. We currently provide portal and/or search services it three of the top four carriers in the U.S. and we recently signed Virgin Mobile U.K. to a long-term contract. More than 15 million users accessed our portal and search services in the third quarter, and that's an increase of over 60% from one year ago.

Going forward, we remain on solid financial ground with a strong balance sheet and a profitable business. As search and advertising moved to mobile devices, we're well positioned to capture value in the chain.

Our goal is to continue providing the best tools and technologies to help users discover and enjoy content and information, whether on a mobile device or online. We will achieve these goals by sharpening our focus on search and mobile infrastructure services and putting the right cost structure in place for future growth.

With that, I will turn the call over to Allen to give you more details on our quarterly financial results and outlook. Allen?

Thanks, Jim, and welcome to our call today.

I will started with a review of our third quarter results and then turn to our fourth quarter outlook. Revenues for the third quarter of '06 were $96.3 million, an increase of $13.1 million from the third quarter of '05 and sequentially up by $452,000 from the second quarter. As we previously discussed, as a result of the loss of pending revenue from Label Tone business with a major carrier partner we recorded a restructuring charge of $57.8 million in the third quarter which I will discuss in greater detail later.

As a result, for the third quarter of '06 our adjusted EBITDA was a negative $51.3 million, excluding restructuring costs our adjusted EBITDA was $66.5 million. On a comparative basis, third quarter adjusted EBITDA excluding the restructuring charge decreased $7.5 million compared to the third quarter '05 and was sequentially down by $2.4 million from the second quarter. We had a net loss of $46.7 million for the third quarter of '06 or $1.49 per share.

In addition to the restructuring charge, please keep in mind that starting in 2006 we record stock compensation costs and also provide for GAAP income taxes. Excluding the restructuring charge, and stock compensation costs of $4.8 million and the related income taxes, net income in the third quarter of '06 would have been $3.4 million compared with third quarter '05 net income of $11.3 million. Weighted average fully diluted shares were 31.3 million for the third quarter of '06.

Now, let me turn to our segments. Starting with mobile, revenues in the third quarter of '06 were $47.7 million, up $8.7 million from the third quarter of '05 and up $2.3 million from the second quarter. Our gross profit was $18.2 million, a decrease of $617,000 from the third quarter of '05 and an increase of $770,000 from the second quarter. Our gross profit margin was 38%, down compared to third quarter '05 gross profit margin of 48% but in line with our second quarter gross profit margin.

Turning to online, in the third quarter of '06 revenues were $48.6 million, up $4.4 million from the third quarter of '05 and down $1.8 million sequentially from the second quarter. Segment gross profit was $30.4 million, gross profit increased by $3.7 million from the third quarter of '05 and was down by $1.9 million sequentially from the second quarter. Our gross profit margin was 62%, up compared to the third quarter of '05 gross profit margin of 60% and down 2% sequentially. In the third quarter of '06 search distribution revenues continue to account for approximately 60% of the portion of our online revenues coming from search.

Now I will provide more detail on our restructuring charges. We implemented a restructuring to align our cost structure in anticipation of the loss of revenue from Label Tone sales starting in the first quarter of '07. As a result, we recorded restructuring charge of $57.8 million.

The cash portion of the restructuring charge totals $13.3 million which includes severance related costs of $6.3 million, charges related to certain content agreements of $5.6 million and lease termination charges related to excess facilities of $1.4 million. The non-cash portion of the restructuring charge includes a write off of $44.5 million of intangible assets which includes goodwill. In addition to the charge recognized in the third quarter of '06, we expect to record additional charges in the future ranging from $3 to $4 million for severance stock compensation and lease termination costs as we exit certain excess facilities.

Looking to the balance sheet, we ended the quarter with cash and marketable investments of $411 million, up $4 million from the end of the second quarter and we have zero debt. In May, we renewed our stock repurchase program and authorized to spend up to $100 million. To date we have not purchased any shares under this renewed program.

Now turning to the fourth quarter outlook, given our restructuring plans and the uncertainty surrounding the short term effects of that plan, for example, timing of the employee departures, we are only providing revenue guidance for the fourth quarter. We are currently experiencing reduced activity in monetization trends in both mobile and online businesses. As a result we expect revenues in the fourth quarter to be down compared to the third quarter and range between $91 and $93 million.

This concludes our prepared remarks. I will now turn the call over to the operator and we'll be happy to take your questions.

Certainly.

[OPERATOR INSTRUCTIONS] We'll take our first question from Imran Kahn with J.P. Morgan.

Hey, guys, this is [Joe Gobarian] for Imran, he is multi-tasking right now on another call. I had a question about your search distribution business. I wanted to know first off if you're adding more distribution partners than you're losing on a year-over-year basis or a quarter-over-quarter, and also I wanted to know how the renewal process goes for those. Are you seeing pressure on TAC, are you having to be more aggressive in those deals? Just some more color there.

I will take the last part that first on TAC. TAC has been--relatively very stable across the last three years, and, Allen, if you disagree say so, but very, very stable. TAC depends on volume, so there are some situations when you are reupping with a customer, and by the way our numbers have been very, very good in that regard.

We have over 100 some partners. We've had less than five that haven't renewed, so very, very good on renewals, but if someone's volume has grown substantially through the period, you would see some adjustment there, but it is more volume related rather than market related and market shifts.

We do continue to add partners and as I said our renewal rates have been very, very high. We had them at a much stronger clip than we lose them.

One quick follow-up if I may.

Sure.

What's the key driver behind the wins that you guys do get in your distribution partners versus competitors product out there?

We monetize extremely well. The fact of the matter is that we have such great--we really--our Meta Search technology has just gotten better and better and better over the last few years, and for a variety of reasons, there is--as we look at the different search engines, whether you're talking about algorithmic results or paid results, there is a real divergence in the types of results that we get from different search engines, and so the overlap is very, very small on any given query between a Google, a Yahoo, an Ask or about About.com or an MSN.

So we have--and having frankly from a monetization point of view where that comes into play is just having the breadth of advertisers we have, we have a much higher chance of returning a really good relevant ad result than any other engine because we have a much broader set of advertisers to draw from. That and really our monetization scheme in terms of the way we rank and display paid results, just that yields the highest click-through rates, frankly and the highest monetization rates in the industry, and that's how we win.

Thanks.

Thank you.

We'll take our next question from Gordon Hodge with Thomas Weisel partners.

Good afternoon. Just a couple questions. On the--mentioned that monetization dropped a little bit in the fourth quarter. Can you just comment on that? Is it pricing or click through or clicks or maybe give a little color there and then I guess the bigger question is you've got $411 million of cash and it sounds like you're not inclined in the near term to invest heavily in the mobile business. Just curious what kind of things you might be mulling over for the use of that cash? Thanks.

Hi, Gordon, this is Allen. On terms of the sequential decline in the fourth quarter, just to be clear, it is really the transactions are going down or have been suppressed both in the mobile media business and in our search distribution, and so really it's not--it's really a function of lower activity that we've seen in both the media and the mobile distribution partners, I'm sorry, the mobile media product and our search distribution partners exiting the third quarter and going into the fourth quarter.

Okay.

In terms of the cash situation it is one of the-- it's certainly one of the substantial assets that the Company has, and one of the things the board and the management are always cognizant of is how to use our assets in the best way to enhance value, but that being said,we don't comment on any specific kinds of transactions we would be looking at.

I wouldn't cross anything--cross mobile totally off the page yet. Remember we still have a really good thriving services business here in mobile, and so it is possible there would be things out there that could enhance it, but if you're thinking about the mobile content side, Gordon, you're right, it is highly unlikely we would be investing there.

And in terms of investing in your content, would you consider getting back to a level of scale by looking at acquisitions or is that just not--

I really wouldn't comment on that at this time.

And then a question just on your non-ringtone business, how should we think about margins there? It looks like they're substantially higher than on the ringtones and obviously if you lose most of the ringtone business next year what--and then you've got some costs obviously, what should we be looking at in terms of a run rate revenues maybe and--

Gordon, one of the things that you look at here is that two (inaudible) give you some insight, as we mentioned before, 80% of our mobile revenues come from the mobile media business, so the inference is that the other 20% comes from our portal and service business.

In terms of the gross profit margin with respect to that, that type of cost, when you go down our line, most of the content distribution costs that we have for that particular business really relates to the ringtones down those businesses, so that does have a higher profit margin, a much higher profit margin because it has very little variable cost on a-- from a third party stand point.

Okay. Thanks.

Our next question will come from Jeff Shelton with Deutsche.

Thanks, Jim, you have about 1.2 billion of NOLs. Is there any way you can realize value from them in the near term either through the acquisition of a tax paying entity or otherwise?

Allen, I will let you.

Jeff, the utilization of an NOL is highly dependent upon obviously by being a profitable company. It is hard to imagine something very near term to utilize the entire 1.2 billion of NOLs in the near term.

The options are kind of as you outline them, Jeff, one is create your own profit. We're doing that, but to Allen's point, we have--at the rate we're profitable no matter what here, the size of our company basically, it would take quite a while to do that, and there are other options, but nothing that we would comment on.

And secondly, could you provide an update on distribution for your mobile search product?

Sure. There is a variety of them. Let's see, you might be thinking about InfoSpace Find It which is the mobile local search product. Distribution there we have it on Sprint right now, and just released the 1.2 version of that, and so excited about that.

Growth there has been slower than we would like, and--but still steady, and we continue to get subscribers. I think for us in that product it has been quite a learning experience in terms of how you manage to deliver a downloadable app. It is the first downloadable app we've done and how do you manage to get that placed in the right spots on the decks of the phone and get the marketing materials associated, etc., but I would say that the users who download it continue to use it, and the usage has been god there.

We have a WAP version out there as well of info Spacefindit.com, we have not put substantial marketing dollars behind that as of yet and as we're continuing to perfect the product and when we think it is ready for primetime we'll do it. We also have some other search products in place that are more portal search if you will or a little bit broader, and we're in place on Cingular there and happy with the results as well, and I would say that this is a very hot topic across almost every carrier and between here and Western Europe, and we are actively in on just every pitch there is out there, so I think over the course of the next six months or so, you will start to see carriers choose directions there, and we think we're very well position and have done a good job in the early ones that we have been implemented on.

Thank you.

We'll take our next question from Clay Moran with Stanford Group.

Thanks. This is James filling in for Clay.

I have two questions. I guess first trying to get an understanding behind the idea to stop the Moviso investment. My understanding was that wasn't really carrier related.

Also, was it with the related confidence in search it seems that I guess the online assets, it seems like they haven't had a tremendous amount of growth in the last year. What is the resurgence in confidence in those assets? Thanks.

Well, I will take the second or the first one first there, James. Moviso was--you're right, it wasn't directly related to carriers in the sense that it was its own independent distribution channel, but for us it was a matter of scale overall of the business. Did we have--and the carrier--having the carrier channel produce well over 100 million a year of revenue on media gave us a scale, an operational scale, that we could invest in Moviso with incremental dollars if you will.

Once that business became subscale, that advantage was no longer there, and so at least at this point in time we've suspended the work on that, and, I think that that kind of sums it up. We always felt that was something we could build off of the advantage of scale, and when that advantage went away, it was--it became subscale.

In terms of the online business, the online business has several different kinds of revenue generators within there, and we've been really pleased with the growth in our O&O business, that's our owned and operated. We've seen again in some levels of our distribution really strong growth, and in some levels of our distribution not growth at all, in fact, declines.

That's kind of been something that we've seen over the last number of years, just in terms of particularly on the distribution around, we might call it opportunistic kinds of search applications out there that kind of come in, do pretty well, and then move away, so if we look at the vast majority of our traffic, about 40% of our search traffic is our owned and operated sites, that's solid. We don't grow users a great deal, we do manage to grow queries from the users we have pretty solidly, and rates continue to grow and all of those accrue very well for us, and our distribution--much of our distribution traffic and I kind of look at it as contributing to gross margin, all but about 15% of our total gross margin we think is very solid traffic, and that just continues to grow pretty well, too.

You do have these opportunistic things that come and go, and that happens for all of us for us, for Google and for Yahoo. It just has a slightly more noticeable impact with us.

Great. Thanks, guys.

[OPERATOR INSTRUCTIONS]

Next we'll go to Derrick Wood with Pacific Growth Equities.

Hi, I was hoping to get a little bit more color on your exit of the mobile content business and where the contracts are at, can you give us a sense of the linearity in the stepdown of the mobile content revenue so you did indicate that one customer was going to terminate the contract at the beginning of next year. What about the other contracts with some of the other carriers?

Okay, Derrick, what we reported was that it would be a substantial amount of our revenue, and I am not sure if we put it into a percentage at that time, but the number we reported was around 50--55 million for the first year, first half of the year, so a pretty substantial amount, so that one customer was a significant amount of that business, and as we said it is going to start in the beginning of the year and then it's going to transition off, and we've been notified by that customer that that transition time should take around six months, but we don't know the firm start date yet, so that's what makes it a little bit foggy for us to do.

But again, this is a substantial amount of revenue. In terms of the other customers, it doesn't really have a huge effect on the other customers, and so we will continue to be--to maintain our contractual obligations there or we intend to do that, and we just kind of to some degree have to play this out by ear as we go and see how this transition works.

So you're going to continue to have some sort of infrastructure for the ringtone business for the foreseeable future, that's not going to go on way.

No, that's correct.

Okay. And what about the mobile games? Can we get an update on what --

Same thing with games, we'll maintain the structure with games and with graphics as well.

Okay. And a little bit more color on the guidance for Q4, first of all, should we expect a decline in ringtone because of the changes that are going on and also--what is the historic seasonality of the online business in Q4? I had thought it was up sequentially.

Is there something going on in the industry for you to believe that transaction volumes are going to be down in Q4? Can you just give me a little more color on that?

A little bit of color first on the mobile media side. The decrease in activity is not the result of the whole Label Tone business. It is just that we've seen the decline here exiting the third quarter, entering the fourth quarter.

Very similar to last year where there is a number of additional factors out there, none of which are in our control, number of when new song releases, new handset releases, carrier promotions, so we're not exactly sure the pinpoint--exact reason why the decline, but there is that decline that we've seen right now, and that's why we are providing lower guidance for the fourth quarter.

In terms of the search side of the business, or the online side of the business, it really is related to some of the decreases in our search distribution partners, our owned and operated sites which Jim mentioned earlier is doing well and has the same increase and same seasonal up lift. It is just that some of our--the activity from a few of our distribution partners is going down that we saw in the exiting the third quarter and entering the fourth quarter.

Okay. One final question. You guys are obviously the mobile content media business was a big part of your revenue and a big part of your growth initiatives going forward. This is the first time you've talked publicly about the change in the business strategy.

Is there anything you can give us in terms of what is your next new strategic growth focus that was different from before? Are you going to put more emphasis on search? Could there be new technologies or areas that you could purchase and plug in and leverage your relationships with the carriers? How else can you leverage your mobile position going forward?

That's the question in front of us. At this point we've been very focused on getting through this transition. As you might imagine, it has been--it has been not only difficult but time-consuming, and even though these things don't--even though these things are not pleasant, there is good ways to do them and bad ways to do them and we have been focused on trying to do this in as good a way as possible for our employees and for our shareholders and for our customers.

Our focus has been there, and our focus right now is to really continue to execute on the businesses we're in. Again, we are in a great cash position here, and so we do have assets to work with.

We create cash, and we'll be looking to see what kinds of things we can add onto these businesses to generate more growth, but your earlier point is correct, this was a lot of our plan around growth and around growing audience, and I mentioned that number of audience of about 15 million people who used our portal services and search services on a mobile side, and there was pretty close to an equal amount or maybe even larger that used it on a download side, we just didn't talk about it because it won't be ongoing, but we were building a substantial audience there, and now we have to back off and say how do we take it from here.

Thanks.

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

Our final question will come from Safa Rashtchy with Piper Jaffray & Co.

Hi, Allen, and Jim, this is Paul Beaver for Safa, most of my questions have been answered, but can you just give some color on the monetization trends? I think you have spoken a bit about the volume but I might have missed what you said about the monetization trends.

Secondly, just a housekeeping question. I think you mentioned--I didn't see the pro forma net income number in the press release. What was that number?

Let me start back on the last question on the net income and just going back, if you exclude the restructuring charge and the stock compensation charge that we took, it was roughly around 3.4 million.

Okay.

Okay, in terms of the monetization comment, that really actually feeds in on both the reduction in activity, and so as a result we have lower monetization. In particular on the search distribution side we have tiers going on there, so what happens is with lower monetizations we don't get some of the same volume rates that we usually get.

Okay. Thank you.

At this time we have no further questions coming in. That does conclude our conference for today. On behalf of InfoSpace we would like to thank you all four your participation and we hope you enjoy the rest of your day.