Perion Network Ltd (PERI) 2018 Q2 法說會逐字稿

Good day, and welcome to the Perion Second Quarter 2018 Earnings Conference Call. Today's conference is being recorded. The press release detailing the financial results is available on the company's website at perion.com.

Before we begin, I would like to read the following safe harbor statement. Today's discussion will include forward-looking statements. These statements reflect the company's current views with respect to future events. These forward-looking statements involve known and unknown risks, uncertainties and other factors, including those discussed under the heading Risk Factors and elsewhere in the company's annual report on Form 20-F that may cause actual results, performance or achievements to be materially different from any future results, performances or achievements anticipated or implied by these forward-looking statements. The company does not undertake or update any forward-looking statements to reflect future events or circumstances. As in prior quarters, the results reported today will be analyzed both on a GAAP and a non-GAAP basis. When mentioning EBITDA, we will be referring to adjusted EBITDA. We have provided a detailed reconciliation of non-GAAP measures to their comparable GAAP measures in our earnings release, which is available on our website and has also been filed on Form 6-K. Hosting the call today are Doron Gerste, Perion's Chief Executive Officer; Maoz Sigron, Perion's Chief Financial Officer; Mike Pallad, President of Undertone; and Mike Glover, GM of Search division.

I would now like to turn the call over to Doron Gerste. Please go ahead, sir.

Thank you. Thank you, and good morning. Perion continues to demonstrate momentum, largely driven by Undertone's proprietary and increasingly recognized advertising business. The investment we have been making in Undertone's technology platform, enabled by the cost-reduction initiatives put in place in the second half of 2017, are continuing to materially differentiate Undertone in the marketplace. The core of this differentiation is the platform we introduced at the beginning of 2018, which we call synchronized digital branding.

The market reception has been strong as witnessed by the fact that during the first half of 2018, 5 premium brands have increased the critical metric of spend per brand to over the $1 million threshold. Obviously, the earliest form of growth is organic and the performance results we've generated convince those customer to spend even more with us.

At the same time, we are attracting an increasing number of brand-conscious brands. In the first half of 2018, 1/3 of our top customers were known for being Fortune 500 companies, as to benefit from our synchronized digital branding platform in order to increase their ad coherency. While brands increasingly see value from social ad expanding, they are especially intrigued by our new offering, which integrate MakeMeReach, our social tech offering into our synchronized digital branding platform. As a result of this integration, our customer can now launch and monitor their sequential advertising campaign in a single management platform, which combines display advertising with social ad campaigns to achieve unprecedented ROI.

MMR was acquired in 2015 and has become a significant partner of Facebook, Instagram, Snapchat and Twitter. In 2018, MMR will deliver close to $0.5 billion of social ad spend, with an impressive amount of international brands going through its platform, such as Disney, Toyota, Sephora and PayPal.

For the first half of the year, advertising revenue increased 4.7%. The slight decline in the second quarter compared to the second quarter last year was related to a temporary lack of supply to meet our growing demand. Having too much demand is certainly a good problem to have, but we are working to address the supply/demand imbalance with an aggressive pipeline of innovative new product that will appeal to brand-conscious brands and meet all current industry quality guidance -- guidelines.

In the short term, this imbalance did hamper our growth, but we are encouraged by the accelerating demand for Undertone's differentiated advertising solution, which triggered the shortfall. This demand is just one reason why we will continue to invest in technology side of Undertone, including machine learning, AI and other initiatives to further differentiate Undertone and to improve operational efficiency.

We believe that the combination of our creative resources, which is a central piece of Undertone's DNA. And our effective synchronized platform is the ideal combination of art and science, meeting industry trends, both today and tomorrow. Creative agency lack the tax deck needed in today's world and this shortcoming is reflected in their current challenge.

Pure tech plays, on the other hand, are largely commodity business that don't deliver on the comprehensive solution that the best brands -- brands that put their reputation care about. Undertone is bridging the GAAP between these silos by creating something new and different.

We start with our Undertone creative platform, which thoroughly focuses on delivering results, design and build with creative -- with performance in mind. We then integrate that with our reach curated delivery network, creating a full system under a single roof as opposed to a piecework approach that fails to deliver what brands need.

The reaction of the market demonstrates that we are on the right track. Our search business continue to generate significant free cash flow and strengthen Perion's balance sheet. As of June 30, 2018, cash and cash equivalents were $34.7 million, and we generated cash flow from operation of $17.5 million since the beginning of the year. During this period, we reduced our net debt from $23.2 million to $6.1 million. Perion's improved balance sheet is giving us the ability to further invest in our technology, enhance Undertone as our revenue growth engine, and most importantly, to create sustainable shareholder value.

Now I'll turn it over to our CFO, Maoz, to break down the quarter. Maoz?

Thank you, Doron. In the second quarter of 2018, revenue for Perion totaled $62.8 million, comprised of $33.2 million of advertising revenue and $29.6 million of search and other revenue. Revenue was down 10% from $69.7 million in the second quarter last year. This decrease was due to advertising revenue declining 6% and search and other revenue declining 14%. The decline in search and other revenue is largely attributable to the 2017 pathetically planned cleanup of our network and churn from our legacy product.

Ad revenue was down primarily as a result of supply/demand challenges as -- search and other revenue represented a 47% of revenues for the second quarter of 2018, with advertising contributing 53%. This compares to the first quarter of 2018 when search and other revenue contributed 52% and advertising contributed 48%.

Customer acquisition cost and media buy in the second quarter of 2018 were $31.1 million or 50% of revenue compared to $33.8 million or 48% of revenue in the second quarter of 2017. We reported net income of $1 million or $0.01 per diluted share for the second quarter of 2018 compared to a net loss of $36 million or $0.46 per diluted share in the second quarter of 2017. The loss in the second quarter of 2017 was impacted by a $43.8 million noncash impairment of goodwill and intangible assets related to the Undertone business.

Perion's non-GAAP net income in the second quarter of 2018 was $4.7 million or $0.06 per share compared to $4.2 million or $0.05 per share in the second quarter of 2017. Adjusted EBITDA in the second quarter of 2018 was $7.1 million compared to $7 million in the second quarter of 2017. Cash flow from operations -- from operating activities for the first 6 month of 2018 was $17.5 million compared to $11.8 million for the first 6 months of 2017, an increase of $5.7 million year-over-year. The increase in cash generated was primarily the result of better collection during the first 6 months and improved profitability due to the cost reduction effort. As of June 30, 2018, we have cash, cash equivalents and short-term deposit of $34.7 million compared to $37.5 million as of December 31, 2017. This concludes my financial overview for the second quarter of 2018.

I will now turn the call over to the President of Undertone, Mike Pallad for details of the business.

Great. Thank you, Maoz. I would like to take a few minutes to enforce some of what Doron had to say, and share with you some of our recent experiences directly from the field. Just about every major brand is under tremendous pressure these days as it pertains to understanding the effectiveness of their advertising, CEOs and CFOs continue to push more of their advertising spend into digital media. But there is a growing concern around not only the effectiveness of this increase investment, but also the challenge of creating the cohesive message across all screens and platforms and safe in premium environment. This is exactly what Undertone's synchronized digital branding platform accomplishes. The feedback from brands received directly by me and my team has been overwhelmingly positive to say the least and this is how we explained it.

We are further integrating this unique model of our engaging creative, powered by our technology platform across our network of premium and brand safe side. This includes our bespoke media network, our social integration of MakeMeReach and our growing content-marketing capabilities. We demonstrate how our accretive platform works, and most importantly, how flexible and feasible it is for brands and agencies to achieve any metric or KPI when utilizing this platform. This includes from growth awareness to communication of a new product or service or turning digital engagement into foot traffic.

We also showed them our roadmap as our biggest brand partners are in it with us for the long haul. They want to see both where Undertone and our partnership is heading. Our future roadmap includes additions with inventories of compelling and new ad units and our investment in technology that will further enable brands to recognize consumers by intent and behavior. The combination of where the industry is headed, the challenges that both agencies and brands are experiencing, and where we are headed as Undertone, leaves me optimistic, not only about the balance of this year but also our future. Thank you so much.

I'll now turn the call over to Mike Glover, GM of our Search division. Mike?

Thank you, Mike. The search team had a busy quarter as part of our efforts to improve and renew our search offering's publishers. At the end of the first quarter, we launched the new customer service solution for our publishers. Custom search, which began to roll out in Q2, allows us to address a whole new group of small- to medium-sized publishers. These publishers require unique search monetization and content solutions, which this new platform addresses. Although it's still in the early stages, we are encouraged about the market depth of our new offering and expect it will be an important contributor to our search revenue. Custom search allows us to diversify our publisher base and be more competitive in the constantly changing search marketplace, and we look forward to sharing more about our progress in the following quarters.

I'll now turn the call back to Doron.

Thank you, Mike. Before opening the call to questions, I want to point out that in today's press release, we increased the lower end of our EBITDA with the adjusted range now at $29 million to $32 million for 2018. Our year-to-date trajectory is well on pace to hit these numbers. These numbers reflect our strong and increasingly robust operational profitability, which give us the capital flexibility to continue investing in Undertone, our core growth engine. I believe, we are at the tipping point, where our growing cash from continuing operation will enable Undertone to become an essential player in today's digital, media ecosystem.

I would now like to open the call to questions. Operator?

(Operator Instructions) We will now take our first question by John Nobile, Taglich Brothers.

The first half levels from these levels, do you expect to be growth in your search business? And if so, what do you believe will drive this growth?

Yes, so thanks for the question. First and foremost, what we already discussed in previous call -- calls in the past, that we're experiencing a decline of what we consider our legacy search business. We call it internally the tail business of the search. And we're very much doing a lot of effort and that need to overcome this decline with new product. And I think, that -- that's what we are demonstrating in this call with the new owned and operating -- operated product that we launched in Q1. And we are very encouraging on the results on the second quarter with this launch. It's a tough battle, and we are -- remain optimistic that we will be able to bend the curve in the short future.

And do you anticipate paying down a significant portion of your debt with the amount of cash on your balance sheet? I know you've done that in the past, I just want to see if you continue to plan to do this or do you have other plans for your money?

Yes. We definitely would have other plans with our money or at least we are looking for other plans in the, money. There is tremendous opportunity out there to strengthen our offering, accelerate our plans, which are quite aggressive and doing some acquisitions. So at this point in time, with the very strong cash -- incoming cash and a strong balance sheet, we prefer to use it for opportunities that are out there, rather than reduce the debt. FYI, by the end -- we are now at $6 million net debt.

$6 million net debt.

Yes, hold on let's see, total debt right now, 2018 short term is -- short-term loans, $13.5 million, you have long-term of $19 million. So you have -- you've paid down debt, but you still have a decent amount of debt, I just wanted to make sure we can anticipate a good portion of that debt being paid down.

Not at this point. We're looking at the cash on hand, and we believe that we are able to generate better outcome, if this will be allocated for potential acquisition, and as I said, strengthen our offerings to our customer.

Okay. And I noticed looking at the cash flow statement, your capital expenditures, it's down from last year. And I'm just curious to get your expectations for CapEx for this year.

Actually, there is $5 million -- $5.4 million of cap in 2017. As you can see from the first half of the year, it reduced dramatically. We launched 2 new platforms at the end of 2017 so we're expecting actually to keep the same level at the second half of the year than at the first half of the 2018. So if you take the CapEx that's not related to total cap from 2017 and add the total cap from H1, you can get, more or less, our estimation for 2018 investment.

All right. So reduced CapEx in this year. And another question, what is the focus of your increased investment in R&D? And how long do you believe it would take for this to drive further increases in your advertising business?

So basically, being and -- have an offering which differentiate us from others, it's a race. And we believe that investing in tax definitely pays off as we start seeing in our hunt advertisement business. We have a lot on our plate, and our roadmap is full and our clients are aggressive in terms of how technology can impact. At the end of the day, Undertone revenue and Undertone growth. So we will continue with this trend in mind to invest more on nontechnology.

And the restructuring cost, it was a little over the $2 million in the first half of the year. I was hoping you could talk a little about this. And what do you expect going forward though? Should we still see restructuring cost? What is this all about in the first half of the year?

The first half restructuring cost related to restructuring that manages the end of 2017, the part of them paid at the beginning of 2018. After the second quarter, I can say that this is behind us. It's actually summarized to almost $2 million. We are not expecting additional restructuring cost for the second half of the year.

Okay. Great. And just one final question. I know that seasonality affects your advertising business. But I was hoping you could talk a little bit about any impact that the seasonality might have on your search business.

Yes, Mike Pallad, would you like to address this question?

Sure. I believe the question was specific to search though, so, Glover, do you want to take it? But I can add to Undertone.

Sure. There is always some seasonality in it. Yes, can you hear me?

Yes, yes.

Okay, Yes, so search has some level of seasonality. I mean, obviously, the fourth quarter is always very strong from the hierarchy end and the advertiser's spend engage if they have it at this point of the year in Q4, that typically comes off a little bit in Q1, Q2 and then Q3 start to build back into Q4. It's very similar to the advertising business.

Okay. So Q4 -- if I could just -- if I open this up for other people, Q4 is the strongest, Q3 -- Q1 is the weakest then in seasonality?

Yes, early Q1 is weakest. Yes.

Okay. And then it starts to build sequentially back into the strongest quarter being Q4?

Yes.

Okay, great. I just wanted to make sure I have the seasonality part of that business down. All right.

One addition, John, to your, I think, earlier question that has to do with our plan of reducing our debt. Important to mention that as we go due to our cash from operation, we are reducing the debt. And I referred to in my statement. We basically reduced it substantially from beginning of the year, and we are planning to do so. Just to say that during this period, we should talk about at first we reduced the debt from $23 million -- net debt from $23.2 million to $6.1 million. And this trend will continue, especially since we know that it relate very much to the revenue and the cash and the seasonality is very much play a major factor in this sense.

Thanks for giving me that insight there because I noticed there was a pretty big decrease in your debt that and I just wanted to make sure that, that trend was going to continue, but you will be letting the possibility of potential acquisitions in the future. So obviously, you want to leave some cash on the table for that.

Absolutely.

And our next question comes from Fertilemind, Aram Fuchs.

It's Aram Fuchs. Doron, I noticed, you didn't -- I noticed in your talk about cash you didn't mentioned share buybacks. If the EBITDA estimate you have there is accurate, you're at a very low multiples, so no acquisitions can be accretive unless you can somehow through synergy, extract a lot more cash flow, so I was wondering, why you didn't mention share buybacks?

I didn't mention it in -- and the reason for it is that currently, the priorities are the following: We are very much looking in any time possibility on the M&A route. This is priority number one. Priority number two is reducing the debt. And then the third one is the cash buyback and the other things. And we are working according to this priority. With our very much mind and has to find opportunities in the market, as I mentioned before, for possible acquisition.

Okay. And then, Mike Glover, in your talk, you didn't mention the issue with Perion search business has always been, you're aligned with Bing and Microsoft, of course. And Google still has a monopoly and as the world moves towards mobile, their monopoly has even -- has strengthened. What has changed in the last quarter or 6 months to make Microsoft's position stronger in your eyes, and therefore, your position?

Well, I think that the technology, the platform Microsoft's search platform and their continued focus on AI makes the Microsoft platform better and better. And I think you're seeing more and more users choose Microsoft at least domestically in the U.S. as an alternative to Google. And if you think about search as a product and the input that go into search, obviously, tech, image, voice, video, all these components are now a huge portion of how people are developing and evolving their AI. And so search has become an important place for Microsoft to get its signals for search or for AI -- their AI projects going forward. And so I think, we're going to invest more and more in that area and that makes it a better and better search product. Our relationship, as you and I talked about, we've invested a lot in the relationship with Bing. And I think it's been slowly paying off dividends for us. And I think they'll start to see that benefit us and as we try to create new products with features going forward, that really creates synergies off of that platform.

Okay. But specifically, is there any -- their mobile business, though, is very small, right? Is there anything to change that, that you see?

I think it's -- well, I mean, it's not compared to Google, but I think it's getting better. I mean, I think that one of the area we're probably seeing a dramatic improvement in the quality of the product. Scale brings in more advertisers, but ultimately, that will benefit them. But I think, step one, you have to improve the product particular to that.

By improving the product, you mean specifically mean the search results given to consumers is better than before?

Yes. Especially on the mobile.

Okay. And Mike Pallad, I have a question on Undertone. You mentioned that there wasn't enough supply. Can you get a little more specific on how you get supply now? Is this just taking more space on programmatics? Or this sort of an old school, building an ad network, getting feet on the street and getting publisher clients?

It's numerous things. So we've launched quite a new ad formats, some of which were in response to the coalition to better assets, which being compliant, which we are, and we're part of the coalition. So when new formats are taken out into the marketplace, it takes time to scale those new formats. But on top of that, we're also being helped by new technologies. So as we continue to roll out our ability to be in header bidding, that allows us to see more impressions within our publisher partner sites. And then to your last point, it's also business treatment and knocking on new doors with the publishers that currently are not part of our network. And we're having a lot of success there, and that will continue to ramp especially as some of our new in-line formats are commonly excessive by some of the larger publishers that were previously missed on our network.

Our next question comes from [David Williamson], a private investor.

In the comments, it was discussed that demand higher than supply in the quarter. What would the ad revenue had been in the quarter if the company had enough supply to meet the demand?

Right. So we are -- we can say for sure that it was $2 million to $3 million.

Okay. And if the demand is higher than the supply, was pricing too low? Or is there now an ability to raise price?

No, I mean, it's nothing to do with the pricing being too low. I mean, we are trying to keep the margin, the question is, when it comes to the specific format, as Mike Pallad mentioned, so we are taking an order from the demand side, which has some criteria that we need to meet on the supply side. It has do with audience targeting, it has to do with some condition, it has to do with some formats. This is very much the restriction, that it comes with the order with the demand. And you need to meet those restrictions from the supply, so it's nothing to do with price, it has to do with us delivering as promised. And this is something that we don't want to very much degredate our reputation, that has to do with the quality of the publisher and the quality of the ads and do it according to the format that's we obligated to our advertisers.

Okay. Moving to Undertone, does Undertone rely on the search division in order to give the Undertone results? Or can the search division be divested and then 100% focus can be on Undertone?

So it's a very good question. And we are once -- we -- now we are coming with this new approach of the synchronized branding. And the idea is -- yes, we are looking for ways to sync between the 2 and developing a use case, where one can rely on the other. And somehow, currently, that's not the case. And 2 businesses are running separately.

Okay. The company paid $180 million for Undertone a few years ago. Is Undertone still worth that much to management today?

So first of all, from the economic side, yes. Undertone paid, in December 2015, $180 million. Last year in 2017, we did an impairment of $48 million -- for $84 million. And so that's on the books side, what's left of it. And that's the economics. When it comes to work, I think that I'm here as a CEO since the April 2017, I think that how much they paid is irrelevant from a decision. But I think it was the right strategic decision to acquire Undertone, and as a result, we are definitely defining it as our growth engine for the future.

Okay. Two more quick questions. The peers for Undertone, public peers, would those include trade desk and a company called Rubicon. Or are there some private companies that have recently been acquired? And what were their valuations in the private sector, that could be more apples-to-apples comparison for Undertone?

Mike, you want to take it?

Yes. Sure, I'll take that. I think as you look at our competitive set, although not identical to where Undertone is today, but it's probably more in line with companies like Kargo and GumGum, Viant, some of what Sizmek offers -- offerings are. Those are probably more in line type of competitors rather than some of the DSPs that you referenced. The Trade Desks of the world, the Rubicons of the world.

Okay. And the last question was, with the guidance of $29 million to $32 million adjusted EBITDA, what does the translate into for free cash flow per year without working capital adjustments? With just the pure cash flow, without any changes to working capital?

So for the first half, I think we are reporting a free cash flow.

Operational cash flow.

Operation cash flow of around $17 million. So that's for the first half. I think that...

I will take it. As a software company, we are not -- and this all the answer previously, we are not expecting major changes in our CapEx investment. So the main operational cash flow will actually improve and keep improve our free cash flow and the gate is clear. We're actually expecting that if you're looking on the guidance for the entire year EBITDA, I will say that the figures will not be far from our estimation for the entire year 2018 EBITDA.

Okay. If I understood that correctly, the free cash flow for the year would almost be the same as the adjusted EBITDA?

Not far from it, yes.

Would you repeat that? I didn't hear.

Yes. It’s not -- as a software company, it wouldn't be so far from the adjusted guidance EBITDA for 2018.

(Operator Instructions) We'll take our next question from [Peter Merkel] with Magnus Management.

If the future use of the cash is mainly done for acquisition. I'm just trying to get an understanding of how long-term investors can be confident that, that's going to be a better return than paying down the debt or doing the buyback given in last few years, we've seen about $185 million in write-offs that have occurred as a result of previous acquisition.

Yes. So for one, I understand where your concern is coming from. Looking at the past acquisition of the company. And we try to do different mistakes this time, but definitely, I can tell you that our board are very cautious on every business plan that we are putting in place. And they are making sure that when it comes, that the return is clear, there is an aeronaut element into those kind of deals. And we are cautious on what we plan acquiring, and making sure that the return will be high. So we are very cautious on executing those deals just because we need to prove otherwise.

Okay. And my next question is on the reverse, where that's going to occur. I guess, why was the board so focused on doing something along those lines instead of just approving a buyback or some dividends or something that would actually get investors more interested in the fact instead of just doing a simple kind of financial engineering and maths trick to raise the price?

Yes, so I think you could take away the price. I don't think you can revert split this, it's completely in a different bucket than the other things that you are mentioned. It has to do, first and foremost, of what we are hearing. The sentiment of our stock is good. And then we are delivering, and we are definitely delivering it a positive outcome for our shareholders. And we are doing it in a back-to-back way. And the lower, I think, the lower price prevent some of our institutional investment -- investors to trade with our stock just because it's very low. And we are technically trying to correct it. That's the idea behind the reverse split.

Okay. And as you saw that all about cutting the cost and just getting rid of the dual risk thing. Or is there some advantage of spending that extra capital for the dual work then?

Yes. So first of all, currently, due to the fact that we have bonds here or each 2 bonds here in the Israeli market, we cannot do it. But once we will pay off these bonds, we definitely need to look at this option and eliminate being least in clearing it largely.

Okay. And what would that cost savings roughly be? Do you have an estimate?

Yes, the estimate is that the fact that we are dual listing, we'll probably be able to save between $1 million to $2 million.

And we have a follow-up question from [David Williamson].

Yes, the advertising division organic top line growth, is that able to grow 10% to 15% the next 12 months?

So we are not providing any, of course, guidance that has to do with the revenue. But I can tell you that all efforts, from technology and other parts of the organization, is definitely to achieve this type of growth. I think that we are well positioned with our offerings and what we have in place. And the way the market responds to our continued platform, that's definitely the plan.

Okay. And regarding Undertone, last question. On the peer group for Undertone, what are the valuations for those companies that were mentioned in terms of the M&A valuations on the time sales or the times EBITDA? What are the -- what kind of valuations are those comparable companies getting that are similar to Undertone?

Right. Most of them are private companies. So we don't have much clarity on the valuation. We will begin, and we'll try to collect some information, and we will follow up with you on this topic.

And there are no further phone questions at this time. And sir, do we have any closing remarks?

No. At this time, I would like to thank everyone for joining, and we'll talk to you again 3 months from now. Thanks so much.

This concludes today's conference. Thank you so much for your participation. You may now disconnect.