Inuvo Inc (INUV) 2015 Q3 法說會逐字稿

Good day, and welcome to the Inuvo 2015 third-quarter earnings conference call. Today's conference is being recorded. At this time, I would like to turn the conference over to Alan Sheinwald, Capital Markets Group, LLC. Please go ahead, sir.

Thank you, operator, and good afternoon. I would like to thank everyone for joining us today for the Inuvo third-quarter 2015 shareholders update conference call. Today, Mr. Richard Howell, Chief Executive Officer, and Mr. Wally Ruiz, Chief Financial Officer of Inuvo, will be your presenters on the call.

Before we begin, I am going to review the Company's Safe Harbor statement. Statements in this conference call that are not descriptions of historical facts are forward-looking statements relating to future events. And, as such, all forward-looking statements made pursuant to Securities Litigation Reform Act of 1995. These forward-looking statements are subject to risks and uncertainties, and actual results may differ materially.

When using this call, the words anticipate, could, enable, estimate, intent, expect, believe, potential, will, should, project and similar expressions as they relate to Inuvo, Inc., are, as such, a forward-looking statement. Investors are cautioned that all forward-looking statements involve risks and uncertainties which may cause actual results to differ from those anticipated by Inuvo at this time. In addition, other risks are more fully described in Inuvo's public filings with the US Securities and Exchange Commission, which can be viewed at www.SEC.gov.

With that out of the way, now I would like to congratulate management on another outstanding quarter in growth, free cash flow in the third quarter, and turn the call over to Mr. Richard How, CEO of Inuvo. Rich, the floor is yours.

Thank you, Alan, and thanks, everyone, for joining us here today. Since the first quarter of 2014, Inuvo has had a compelling quarterly growth rate. Through the first nine months of 2015 alone, revenue was up 45% year over year. This growth rate has resulted in a record third-quarter revenue number for the Company of $19.3 million, up 48% year on year.

Now, equally impressive over that same period of time is that growth has been accompanied by strong earnings and free cash flow. Strong enough, in fact, to not only make the investment necessary to grow the Company and position for future success, but also to reduce bank debt from over $6 million going into 2014 to zero as of the end of the third quarter here in 2015.

Our GAAP-based earnings in the quarter at $0.03 represents a 62% improvement year over year. But perhaps more importantly, we had free cash flow of $1.7 million in the quarter.

Now, on a cash flow basis per share, the business has actually delivered $0.17 through the first nine months of the year compared to $0.07 per share on a GAAP income basis. Wally will be talking more about the strong cash generation in his remarks later. But suffice it to say, it is this cash flow in the business that has allowed us to grow our cash balance while eliminating our bank debt.

Let me share with you what we have been up to within each segment of the business, starting first with the partner segment. The partner segment grew modestly 2% year over year to $7.2 million in the quarter. It is important to note as we look at this segment of the business that we actually acquired some sites from partners whose revenue now gets counted within the owned-and-operated segment. We made that change in Q2 and, at that time, it was approximately $1 million a quarter in contribution. It has grown since then as part of our (inaudible) segment. If we adjust the partner revenues for this $1 million, we would be looking at about a 15% year over year growth rate for the segment.

We had also mentioned in Q2 that we were expecting a slowdown in revenue in Q3 associated with the sales of automotive clicks. As expected, we did have some weakness in this area, due primarily to a change in the implementation associated with one distribution partner, which was a consequence of certain policy changes that were implemented by our advertising partner. However, we have now reengineered this implementation and, in fact, have redesigned the solution around SearchLinks. And we think the new implementation is actually a better solution for all, and we expect to grow this distribution partner modestly over the coming quarters.

As we have continued to message, this segment of our business is now made up of what we call the Partner ads business and the SearchLinks business. For partner adds, we expect to be opportunistic in our sales efforts. We will be strategic about accounts we sign, thinking about them in the context of SearchLinks, as was the case for the automotive example I cited earlier.

Recently, the new partner adds clients we have signed up have been mobile app publishers, and they are already delivering hundreds of thousands of highly targeted mobile clicks to advertisers monthly. Overall, this business has been a solid cash flow generator for us, and we have had only very minor issues following the shift we made about two years ago to higher-quality partners and purging those who didn't meet our quality thresholds. We remain focused and committed within the segment of our business to delivering on the promise of SearchLinks. As we have previously mentioned, we are entering the native advertising market with this product. It is already a multibillion-dollar and growing marketplace. But, more importantly, it is a market in which we believe we can be competitive, both from a technical perspective and a core competency perspective.

Since we officially launched in July, we have been exceptionally busy focusing on a small set of in-market new accounts to assure we could deliver and perform for these new partners prior to making additional investments in sales and account management that will be required to scale the offering. With the multitude of operating systems, phones, browsers, tablets and other assorted environments available to consumers, this product launch is exceptionally challenging and, of course, as a result, subject to a high level of competitive differentiation for Inuvo. This barrier to entry was one of the reasons we entered this market.

We have purposely managed the scale of SearchLinks through August and September at about the same rate we reported in the July launch, which was about $10,000 a day. This has allowed us to make product and operating decisions built around the learnings from this set of smaller publishers, where, if things didn't work out, we wouldn't be at risk of potentially larger relationships in the future. This approach identified a number of important features that have subsequently been completed in October. We think we are now ready to scale, beginning slowly for the rest of Q4 and accelerating into 2016. We have a solid pipeline, and we are routinely setting up several new sites weekly. We also believe we can now move our sales efforts upstream to larger publishers.

The majority of our focus within the partner segment will remain targeted at making SearchLinks successful. We will be hiring more engineers, data scientists, account management, people -- and salespeople in this segment as we scale the business.

We had an outstanding quarter within the owned-and-operated segment of the business. Revenue there grew over 100% year over year, the result of additional content, additional sites and new marketing channels. The business did $12 million of revenue in the third quarter.

Within this business, we have continued to improve the efficiency of our content teams. In Q3, our team produced 50% more content than they did in Q2. We are also launching several new forms of content including in-house-produced videos and image gallery. Within the quarter, we also began our efforts to build out our own in-house photography and video production capability. This effort underscores our dedication to and understanding of the importance of creating high-quality, original photography and video in an effort to improve the experience for our users. This in-house-produced image and video library will be a valuable asset in the development of additional and unique content as well as enabling additional advertising and social marketing activity.

Speaking of marketing efforts, this increase in content and content (inaudible) type has supported extensive testing of no less than five native advertising platforms which we could use as a new sources of traffic to all of our aloft websites within the o-and-o segment. We worked extensively on our living and travel sites in Q3 and plan to continue to do so throughout Q4.

With the industry-wide growth in social sharing generally, you shouldn't be too surprised to be hearing that we are also introducing additional social sharing functionality within the site that will make it just that much easier to share content with family and friends.

From a technology perspective, Q3 was an important quarter. We continued to improve the marketing technology we have developed that supports our efforts to attract an audience. Collectively, all of these new changes resulted in a 30% increase to users and a 25% increase in the average time spent on our site for each user quarter over quarter. Our continued growth in both users and page views, has also allowed us to attract premium advertising, which, in turn, is leading to an increase in the revenue we generate on the sites from display advertising. This increased viewership has also resulted in more advertising clicks, which were up 60% quarter over quarter.

Now, this is all very encouraging and aligns with our overall initiative to increase revenue without proportionally increasing marketing expense. We, of course, continue to expand within our own sites the use of SearchLinks and the development of new SearchLinks ad units that will ultimately be offered more generally. This remains a significant differentiator for Inuvo. We continue to experience click-through rates for SearchLinks on our own sites that are better than alternative products we could place in the same location. And the revenue we generate from SearchLinks on our o-and-o sites will continue to rise over time.

I would like to now turn the call over to Wally.

Thank you, Rich. Good afternoon, everyone. Today we reported another consecutive quarter of strong revenue growth, profitability and cash flow. Inuvo reported revenue of $19.3 million in the third quarter of 2015 compared to $13 million in the same quarter last year, a 48% increase. The Partner Network, which delivers advertisements to our partners' websites and application, reported $7.2 million in the third quarter of this year compared to $7.1 million in the same quarter last year, a 2% increase.

As mentioned at last quarter's teleconference, the high volume of automotive advertising we experienced in the second quarter was not expected, and it didn't materialize in the third quarter. In addition, the sites we acquired from a partner earlier this year now have this revenue recorded in the owned-and-operated segment, which had the effect of lowering the partner segment revenue and increasing the revenue in the owned-and-operated segment. Revenue, as Rich mentioned, shifted about $1 million per quarter when we acquired the sites earlier this year and has since grown quickly under Inuvo's ownership.

The owned-and-operated network, which is made up of a collection of websites and apps we own and where income is derived from advertisements, represented 62% of the Company's total revenue in the current-year quarter. The owned-and-operated network reported $12 million of revenue in the third quarter of 2015, which is 102% increase over the same quarter last year. The growth in this business segment is largely due to the investment made in proprietary content, effective marketing campaign and the acquisition of additional sites.

Gross profit in the third quarter of 2015 was $13.4 million compared to $7.1 million last year, an 88% improvement. Gross profit as a percent of revenue was 69% in the third quarter of 2015 compared to 55% in the same quarter last year. The increase in this percentage is largely due to the mix between partner and owned-and-operated revenue, where there was a shift towards the higher margin owned-and-operated network.

Partner Network gross profit in the third quarter of 2015 was approximately $1.4 million compared to $1.2 million last year. The improved gross profit in this year's quarter was primarily due to higher revenue associated with 13% more clicks on ads than during the same quarter last year, partially offset by somewhat lower RPC, or revenue per click, this year compared to the same quarter last year.

Gross profit in the owned-and-operated segment in the third quarter of 2015 was $12 million compared to $5.9 million last year. The higher gross profit in this year's quarter compared to last year is primarily due to higher revenue.

Operating expense, which is comprised of marketing cost, compensation expense, and selling, general, and administrative expense, was $12.7 million in the third quarter of 2015 compared to $6.7 million in the same quarter last year. Marketing costs are the primary costs associated with the owned-and-operated network where dollars are spent to build an audience for the various sites and apps that we own.

Marketing costs were $10.2 million in the third quarter of this year compared to 5.2 -- with a $5.9 million increase over last year's quarter. The higher marketing expense allows us to build an audience while also driving rates like the 102% increase we saw in o-and-o revenue that we experienced in the third quarter.

Compensation expense increased by $348,000 to $1.5 million in the third quarter of 2015 compared to the same quarter of last year. The higher expense in the current quarter is primarily due to higher payroll associated with additional hiring and Company incentive plan. At September 30, 2015, we had 61 full-time and part-time employees. That compares to 50 full-time and part-time employees at the same time last year.

SG&A expense -- selling, general, and administration expense -- was $1 million in the third quarter of 2015 compared to $1.2 million in the same quarter last year.

For the remainder of the year, we will continue to invest in growth, recognizing that scale in our business model provides future opportunities for margin enhancement. We will continue to expand our Web properties and market our native advertising product, SearchLinks. We therefore expect marketing costs to increase in coming quarters, to measure it with growing revenue in the owned-and-operated network. We expect compensation expense to increase as we step up hiring, particularly to support the rollout of SearchLinks, and we expect SG&A expense to remain relatively flat.

Net interest expense was $23,000 in the third quarter of this year, $62,000 less than last year's quarter, and it is due to lower loan balances this year.

The net income from discontinued operations was $32,000 in the third quarter of this year compared to $23,000 net income last year -- the same quarter last year. The income was due to foreign-exchange translation adjustment, a favorable adjustment, and the extinguishing of very old publisher liabilities in the UK.

The Company reported a net income in the third quarter of this year of $651,000, or $0.03 per diluted share, compared to $304,000, or $0.02 per diluted share, in the prior-year quarter, an increase of 61% year over year. EBITDA, adjusted for stock-based compensation expense, was $1.3 million in the quarter that ended September 30 of this year, compared to $1.2 million in the same quarter of last year.

Over the past several years, Inuvo has been able to generate an increase in cash flow. In the nine months of 2015, we have generated $4.1 million of free cash flow, which, as Rich pointed out earlier, equates to $0.17 per diluted share. This has more than doubled the approximately $2 million of free cash flow we generated in the nine months of 2014. The results being, by September 30 we reached a milestone at Inuvo: the full repayment of all of the outstanding bank debt. Also at September 30, 2015, we had on our balance sheet cash and cash equivalents of $3.9 million.

So with that, I would like to turn it back to Rich.

Thanks, Wally. In summary, we have had an exceptional third quarter and the first three quarters of 2015. On a trailing 12-month basis, we now have a bank-debt-free business that has delivered $65 million in revenue, $2.4 million in net income, $4.9 million in adjusted EBITDA and $5.1 million in free cash flow.

The focus for the foreseeable future remains to expand the content within the o-and-o segment and broadly distribute SearchLinks within the Partner segment, and we have exciting plans in place to accomplish both. We continue to be vigilant to potential acquisitions we might make, favoring the o-and-o business, where evaluations are currently attractive.

October revenue has been solid, and, as a result, we are currently forecasting annual revenue for 2015 between $66 million and $68.5 million. The low end of this range implies a 33% year-over-year growth rate in 2015, and the high end implies a 38%.

With that, I would like to now turn the call over to the operator for questions. Operator?

(Operator Instructions) William Gibson, Roth Capital Partners.

You talked about a number of users being up 30% and time spent up 25%. Can you share with us roughly what that number is in terms of users and time spent?

I don't have the time spent directly with me, Bill. But we have said -- I think we said as recently as last quarter or the quarter before, Wally, that we are running around 4 million uniques, and then I think we told everybody we were running 5 million uniques. And what I can tell you is we are running about 6.5 million unique visitors a month now. And that is your 30-odd percentage points.

Oh, good. And do you measure stickiness at o-and-o? In other words, as you increase marketing and someone comes to your site, do you have measurements of how often they return or what percent becomes a regular?

We do track that. It is not a -- you can't track it perfectly because the technological methods used to track expire. But, yes, we track everything and anything we can about our users. And that is why we give those two metrics we just gave, which was the growth in the number of people we see coming uniquely and then the amount of time they spend on the site, the latter being a measure of what we call the engagement. We want people to not just show up, but hang around. And, obviously, we want them to hang around because the longer they spend with us, the greater the opportunity we have to make money while giving them what they want.

Yes. And just one last one, and then I will turn it over to someone else. Could you maybe give us a little more detail on the penetration of SearchLinks at the Partner Networks? I know it was relatively just introduced, but --.

Yes. We are pretty -- we are very pleased with the progress we have already made with a product that is, quite frankly, brand-new. So you can just do the math on it yourselves. We are doing about $10,000 a day. That is roughly $1 million a quarter. The partner business is doing $7 million. So it is a product that didn't exist nine months ago that is already -- whatever that is, Wally -- 15% of revenue in that segment.

And, of course, we believe that, over time, that SearchLinks business is going to be the business for our partner business. So we are excited about it. And, as a result, we are being calculated with regard to how we go to market with the product. We are being diligent in making sure that we don't make missteps because many of us here have introduced products in the past. And we know that if you make a mistake and missteps early on, you can cause yourself some grief down the road. So we are being very calculated about it, and I am pleased right now.

Amit Dayal, HC Wainwright and Company.

Congratulations on the traction you guys are seeing. My main question is around growth in marketing spend versus growth in revenues. Is there a level where we cap or the management looks to cap the marketing spend as a percentage of (inaudible) revenues?

Hi, Amit. We don't look at it that way in terms of capping it out. We look at it a different way. We think about our marketing activity in regards to our efforts to build a world-class audience for our digital publishing business. And that is no small thing to do. At the 6.5 million or so unique visitors we have right now, which we kind of look at as being our audience, which it is, that is a significant audience relative to anybody else's audience that you might think about.

The key to being successful and making that audience to be 2, 3 or 4 times that size, is, in part, marketing, particularly early on when you are building a digital publishing business -- frankly, because you are trying to also build a brand. So the old thought process that you could build a site like we have with ALOT, populate it with great content like we have and great technology, and then just let it sit there and hope that you're going to build an audience is, I think, not practical in today's day and age. So the key to being successful in the digital publishing business is doing the kinds of things we are doing, which is having an extreme competency in marketing, having an extreme competency in ad delivery and being good at delivering content. Wally, do you want to add something?

Yes. I think if you are -- if there is a ceiling here, the ceiling is that we will remain -- we will expend marketing just like Rich said, but we will remain profitable and still generate cash. So if there is a ceiling, that is it.

I think it is not something to fear, Amit. It is something to look at when you look at Inuvo and say, wow, clearly they have a core competency in this area. Otherwise, they wouldn't be making any money. And I think it is a differentiator for us because many other companies don't have that competency and, as a result, can't build a digital publishing business as fast or as big as we have and still have the room to make it even bigger.

Right. I think just dive into the previous caller's question about stickiness. If we could see a little bit more leverage coming out of this spend, I think we would probably see a lot stronger bottom line. That is what I am trying to get at in terms of revenues are growing really fast, especially on the o-and-o side, which has higher margins for you. But don't those margins sort of go away on the marketing spend? What do we do to increase stickiness? Can you please (inaudible) uniques growing so that we start seeing a stronger bottom line as well?

Yes. I think you are right. You're clearly right about the way you are looking at it. And I guess the answer I would say to you is, in our business model scale has efficiency. And so the bigger we get, the better we are attracting large advertisers. The more we can better negotiate deals with them for higher revenues on the advertising we place -- the more we do video, for example, it gives us the ability to introduce a new type of advertising. These are all techniques and tactics and features that we are embedding in the site that, upon scale, should translate at scale to more leverage.

Right. I have a question from my side on the SearchLinks product. On the strategy -- and I agree with you, you are taking your time to make sure you have the right product for the customers. But from ad tech industrial point of view, we always see something new come to the market and things change fast. Is there a risk that the time we are taking to put this product out in the market and leverage revenues from it would hurt us in the sense that there could be other technology, other offerings come into the market -- users could veer towards other options? So in terms of accelerating the process to bring this to the market, could we be doing things faster? Is there any risk around the approach you are taking?

I think the question is a good question. And there is always risk, particularly in an ad tech market that we are playing in that does, as you pointed out, move very, very rapidly. I don't think, with this particular product and the market we are entering, that there is a large risk associated with what you have described. That's point one.

Point two is I don't think we could possibly have moved any faster with the development testing and deployment of this product. And I believe that, in large part, because our business model was built around being able to test this, of course, within our own properties, which is an advantage we have that other ad tech companies do not possess.

So I feel really good about the length of time it has taken us to get here. And I think at this point we are feeling pretty comfortable that we have got the product that we wanted, and we should start at this point to scale. And I will give you an example just for everybody's benefit who is on the phone because maybe it will give you some insight. But I will give you one example of something we learned in the third quarter as part of our in-market test.

We had a number of publishers that launched the product who, themselves, had relationships with certain advertisers that would want them to have us actually exclude advertisers from the results. So basically, they are already doing business with one person, and they don't want to see the competitors of that person show up in any ad that gets shown. This was not a feature that we had placed in the product. We knew it might exist, but we just didn't think it was going to be that important, but it was coming up over and over again. So we had to put it in there because we knew that if it is showing up in quite a few of the people, then it would probably show up in many of the bigger ones. And, quite frankly, it is something the bigger publishers will want more than the smaller publishers will. But there is an example for you, Amit, of one thing that happened that we learned that is part of our process.

I think you guys are doing a great job on all these products. Just one final question, I guess. Now that the debt has been paid off and a really good job on generating the cash in order to do this, should we eliminate all interest expenses that we have, particularly in our model going forward?

I wouldn't say eliminate all, but it would be pretty insignificant.

Lisa Thompson, Zacks Investment.

Rich and Wally, I am fascinated by the fact that you have managed to increase content 50%, but yet only add 11 employees. Is there some sort of magic going on, or how does that work and how is that going forward?

I don't think it is magic, Lisa. It is more we're just -- the team that we have got that writes this content is now getting very, very efficient, both in the writing and in the integration of that writing with the marketing and ad technologies that we have. So I would chalk it up to efficiency.

This is not a very expensive part of our business, as a side note. A lot of people ask us a lot of times, boy, it must be expensive to produce as much content as you do at the scale that you are producing it at. And we remind everybody that one of the reasons why we actually moved to Arkansas was, in part, because we have a pretty healthy university system that surrounds where our headquarters are located. And, as a result, we have the ability to tap into a lot of college students who are either still in college and work on a part-time basis with us as interns, or a graduate immediately out of college who are now working for us full time in various writing professions. So I think it is just by design we kind of set it up right and we are seeing the efficiencies.

That's great. Going back to SearchLinks, is there any place we can go to see it live, or are you not letting anybody know who the customers are yet?

We are pretty careful about giving out publishers that are not our own sites, but we are happy to show you a plethora of examples where it is running on the ALOT site. We will -- at some point we will start disclosing some publishers who are using it. But we are just trying to be very, very cautious right now, as you can imagine -- the competitive environment, and we are sort of militant about our competition and wanting to win.

Lisa, we would be happy to walk you through it, but if you go to health.ALOT.com, you will probably see it yourself on the bottom of the page.

Right. I was just wondering when we were going to see some outside customers be visible.

Hang in there. We will throw you some bones here.

All right. Anytime soon. And then, I am curious to go back to the competitive pitch you made with SearchLinks. You said that you had success on your own site where you have had better results than using competitors' products.

That's right.

Can you talk about that a little quantitatively? Or how do you go in and pitch this when you are going up against Taboola or someone?

Well, we don't have to pitch them. We have everybody on the planet because we have 6.5 million uniques now wanting to be an advertiser on our sites. These people are all coming to us, so we don't have to pitch them at all. As a result, because the woman that runs this P&L for us is a digital publisher, she wants to make the most money possible. So, SearchLinks has to compete with her or anything else that she could put in that spot, which makes it very interesting because we have got two P&Ls. Right? We have got the partner P&L and o-and-o P&L. And the partner P&L is responsible for SearchLinks, and they are there trying to sell that P&L owner this product. And she wouldn't put it there if it wasn't beating all the alternatives.

Lisa, are you talking about how we compete with a competitor for a publisher spot or our own?

Our own.

Our own. Okay.

Yes. But she is making a decision, right, whether it is you or the other two or three people that she could use? And you say you are getting better results (multiple speakers).

Exactly the same way it is in the market for us, Lisa, which is why the model works really well. Now, of course, we could force it on her. Right?

Right.

But she -- we kind of like the way it is set up to have to compete because she is going to act exactly like every other publisher that we are going to sell this product to, which she does.

Right. So is there anything -- you said you get better results. Quantitatively, what does that mean?

It means that the click-through rates on the ad unit is better than the alternatives. And, as a result, it is generating more revenue for us in that spot, which is exactly one of a number of the pitches that we have when we go out and sell publishers. The other one being the alignment with the content, which we think is better than anybody else's product in the marketplace.

How do you measure that? Or how do they measure it when they look at it?

They see it. They can't measure it. But they look at the product and the page it is on. Let's say, you wrote an article about sunscreens and you have ads showing that have nothing to do with sunscreen. Well, that is a pretty good indication that you don't have a good match. So, of course, our approach to that is technological. We read the page, we extract the essence of the page and then we pick from a library of ads that are aligned.

And that is all automated.

All automated.

Cool. Great. Well, that sounds great. Look forward to seeing the progress on this. Thank you.

(Operator Instructions) It appears there are no further questions at this time.

That's great. I would like to thank everyone who joined us on today's call. We appreciate your continued interest in Inuvo, and we look forward to reporting our progress over the coming quarters.

That does conclude today's conference. We would like to thank you for your participation.