Avantax, Inc.
Q1 2017 Earnings Call Transcript

Published: 6 May 2017

[Executives:]

Bill Michalek - VP, IR John Clendening - President and CEO Eric Emans - CFO Stacy Ybarra - VP, IR

[Analysts:]

Dan Kurnos - The Benchmark Company

[Operator:]

Good day, ladies and gentlemen. And welcome to the Blucora Incorporated First Quarter 2017 Earnings Conference Call. At this time, all participant lines are in a listen-only mode to reduce background noise. But later we will be holding a question-and-answer session after the prepared remarks and instructions will follow at that time. [Operator Instructions] As a reminder, today’s call -- conference call is being recorded. I’d now like to introduce your first speaker for today, Bill Michalek, Vice President Investor Relations. You have the floor sir.

[Bill Michalek:]

Thank you and welcome, everyone to Blucora’s first quarter 2017 earnings conference call. By now, you should've had the opportunity to review a copy of our earnings release, supplemental information and prepared remarks. If you have not reviewed all these documents, all three are available on the Investor Relations section of our Web site at Blucora.com. I'm joined today by John Clendening, Chief Executive Officer and Eric Emans, Chief Financial Officer. In a moment, we'll hear brief remarks from both of them, followed by Q&A. Before we begin, let me remind everyone that today's discussion contains forward-looking statements based on the environment as we currently see it and speak only as of the current date. As such, they include risks and uncertainties, and actual results and events could differ materially from our current expectations. Please refer to our press release and other SEC filings, including our Forms 10-K, 10-Q and other reports, for more information on the specific risk factors. We assume no obligation to update our forward-looking statements. We will discuss both GAAP and non-GAAP financial measures today, and the earnings release on blucora.com includes the full GAAP and non-GAAP reconciliations. With that, let me hand it over to John.

[John Clendening:]

Thanks, Bill, and good morning, everyone. Before I get us rolling, I’d like to warmly welcome Bill Michalek, who has recently joined the IR team at Blucora. We are delighted to have him. He has big shoes to fill as Stacy Ybarra, who has been with Blucora since 2005, has elected to not make the move to Irving, and so this is her last earnings call. I know you join me in thanking Stacy for her fine work over the years. I’m pleased to report that Blucora had a very strong start to the year, exceeding our -- the high-end of our range on all guidance metrics

[Eric Emans:]

Thanks John. Lots to cover today including first quarter results, tax season expectations, and outlook for the second quarter and full-year. Additionally, we will provide some detail on our debt refinancing and update our estimates on our restructuring expenses. Let’s begin with a summary of our first quarter results and year-on-year growth rates, which finished ahead our expectations. Consolidated revenue of $182.4 million, up 10%, adjusted EBITDA of $58.2 million, up 8%, non-GAAP net income of $47.4 million, up 21%, or $1.04 per diluted share which is up 11%, and GAAP net income attributable to Blucora of $30.6 million, up 35%, or $0.67 per diluted share, which is up 24%. GAAP net income attributable to Blucora included a benefit of $7.4 million or $0.16 per diluted share primarily related to the reversal of valuation allowance. This reflects the impact of the beginning of the year adoption of the new stock-based compensation rule, ASU 2016-09, which now requires the release of valuation allowance on equity NOLs to flow thru tax expense versus APIC which was the prior practice. Turning to the balance sheet, we’ve cash, cash equivalents and short-term investments of $74.8 million. During the quarter, we paid down debt of $38 million and we exited the quarter with net debt of $323.3 million for a net leverage ratio of 3.3x. We expect to make an additional debt pay down of at least $25 million in the second quarter and expect to achieve our stated goal of 3x times net leverage by June 30th. As John mentioned, we expect to complete a refinancing of our debt in the second quarter. It has been our explicit goal to refinance our existing term loan and redeem our convertible notes upon the completion of tax season and in doing so we will optimize the refinancing costs while taking advantage of a favorable credit market. I’m happy to report that we expect to close a $425 million credit facility comprised of $375 million of term loan and $50 million of revolver in May. The new term loan will have a maturity of seven-years and be priced at LIBOR plus 375 basis points with a LIBOR floor of 1%, which will drive cash interest savings of approximately $3.4 million annually. This result exceeded our expectations and speaks to our strong execution since the HD Vest acquisition. Shifting to segment performance, beginning with Tax Prep. TaxAct revenue for the quarter was $99.7 million, up 13% versus prior year and segment income of $53.1 million, up 12% year-on-year. Both revenue and segment income exceeded the high-end of our guidance expectations. Let me provide a bit more color on our tax results in the context of our tax season expectations, which include second quarter. For the first half of 2017, we expect revenue growth of approximately 15% and segment income growth of approximately 14%. These results are driven by an approximate 35% increase in DDIY consumer average revenue per user, primarily from software revenue. We expect these ARPU gains will translate into approximately 16% growth in consumer revenue for the first half of 2017 and be more than sufficient to offset the DDIY consumer e-file decline of 14% for this tax season as compared to the last year’s tax season. Additionally, we expect growth of our professional software revenue for the first half of 2017 of approximately 5% driven by a 4% increase in units sold to preparers who drove a 5% increase in e-files this year. First half 2017 segment income is expected to grow approximately 14% as operating expenses are expected to increase approximately 18%. Higher operating expenses reflect increased marketing, in part driven by early season inefficiency, increased in-season customer service costs and increased personnel and professional service costs focused on growth initiatives beginning in the second quarter and are expected to continue into the second half of the year. Let me touch on these initiatives in the context of our TaxAct outlook. Starting with the second quarter, we expect TaxAct revenue of $52.5 to $53 million and segment income of $34.5 to $35 million. For the full-year, we expect revenue growth of 13.5% to 14.5% and segment margin of 45% to 45.5%. On the revenue side, we expect revenue to be flat in the second half of 2017. This reflects the impact of no longer charging for data archive service, or DAS. DAS revenue is recognized ratably over a three-year period and will phase out over the next two years. The full-year segment margin step down from 2016, reflects the impact of planned investments and while we're not going to get into a lot of detail on these investments, I’m confident that these investments will further improve customer experience and service, enable new revenue opportunities, provide flexibility in our go-to-market strategies and will benefit not just TaxAct for 2017 and beyond, but Blucora as a whole. In order to provide a bit of context, one of these initiatives involves taking TaxAct to the cloud for next season and while we will take on some transition costs this year the long-term benefits are clear, and include increased innovation, added speed and agility, enhanced information security and processing scale that will better support TaxAct’s seasonality. The other initiatives are squarely focused on driving revenue growth. Transitioning to our Wealth Management segment. HD Vest first quarter revenue was $82.7 million, up 7% versus the prior year and segment income was $11.9 million, up 9 %. Revenue came in just above the high-end of our guidance range on the strength of transactional revenue which was up 9% versus first quarter 2016, driven in large part by mutual fund and insurance sales. Both fee based advisory revenue and trailers were up 6%. Other revenue was up 7% year-on-year driven by sweep product revenue which has benefited from two federal fund rate increases over the past twelve months. I do want to point out that our clearing firm contract does contain an interest rate cap and given where interest rates sit today, we will only partially benefit from the next raise and then be capped. We will be seeking to renegotiate the cap with our clearing partner. Fee-based AUM net flows were again the highlight of the quarter as we brought in net inflows of $298 million. While these inflows provide minimal benefit within the quarter, they will benefit us in the second quarter and beyond. As John called out, this marks the third quarter of net fee-based inflows representing an increase of fee-based AUM of approximately $580 million over the past nine months. Additionally, a strong equity market produced an approximate $400 million increase in our fee-based AUM in the first quarter, enabling us to crest the $11 billion mark. Fee-based AUM is up 16% year-on-year and 7% sequentially. Touching quickly on total AUA, which includes fee-based AUM, we exceeded $40 billion for the first quarter, up 11% year-on-year and 5% sequentially. HD Vest segment income came in at the high-end of our guidance range. The 9% growth can be attributed to revenue growth coupled with operating expense leverage. Turning to outlook, we expect second quarter HD Vest revenue of $82.5 to $85.5 million and segment income of $11 to $12.5 million. For the full-year, we expect revenue to grow approximately 6% to 9% with segment margin of 13.8% to 14.7%. In determining our second quarter and full-year ranges, we considered several factors including but not limited to the following

[Operator:]

[Operator Instructions] We will be taking our first question from the line of Dan Kurnos from The Benchmark. Your line is open.

[Dan Kurnos:]

Yes, good morning. First off, congratulations on the strong results. John, the stories come a long way over the last 12 months and I think you should be commended for that. I think everyone will probably revolt if I start with questions on HD Vest. So I guess I got to ask about tax first. I don't think we’re getting, we can quibble with the results, so let's just touch on a couple of the high-level pieces here. So I guess John, maybe can you just start with the obvious questions about filers and product mix. Maybe just talk a little bit more about given the transition you're undergoing and strategy, can you focus a little bit on how comfortable you’re with your current SKUs? How we should view the balance going forward between the total filer number, paid filer growth and may be the pace of normalization we should see on the unit front as you work through some of these disruptive changes?

[John Clendening:]

Dan, thank you. Good morning. Great to hear you again. So, a couple of things on your question. Big picture, we’re encouraged by the developments that we saw in the quarter. Our sense is that they reinforce the soundness of the strategy that we are on. I won't repeat the metric since we’ve just shared them, but again, big picture, we are convinced that the strategy has us on the right track. Relative to SKUs and do we’ve the right lineup, a couple of thoughts there. First is, we continue to innovate around the client experience. We made more improvements in the client experience in the last tax season than the couple previously combined. And the team is already looking at and in development on additional experience improvements for next year. So I’ve done a lineup against each of the SKUs, right, that’s a core experiential benefit. On top of things like adding chat, live chat, adding increased coverage on the phone centers and those sorts of things that round out the sort of experience that people typically actually don’t get in this environment. So we are looking for world-class in terms of those customer contact experiences. Now as we shared before, we believe that critical to our strategy is picking our spot. One big sort of vector on that is going after the part of the market that is looking for great value, looking for a great experience, they are savvy, so they know, at the end of some process, they’re going to end up paying something. So why not find the player they can trust around working with that right experience and understanding their prices as they had in that experience. On top of that, it's such a big market that we do see opportunities to more finally segment the market around consumer needs underneath that umbrella of that savvy tax filer who is looking for a good value and a brand that they can trust. It's too early to share what the specifics of that are. We look to be more disclosive towards the end of the year as we put the sort of final and finer touches on those strategies. Relative to balance between paid versus free filers, so as we began sharing last year this time, we really look at the most important metric in terms of units and unit share, as paid share and paid units. And for us, that means people who are paying upfront as part of the process as opposed to having a bunch of free filers who we find a way to nickel and dime later on after the process has concluded. We don’t want any surprises like that in our brand. Admittedly, that’s quite counter to what the industry practices are in this business. And so I want to target that by saying, yes, we are looking for paid filers, but not people that we sort of trip into paying us. We want people who are going to be paying us up front and know what they’re getting. So as far as that balance goes, while we are open for business with those that file with us for free, some small percentage of those folks get more complex in their situation sort of end up being -- becoming paid filers later, but it's really around that paid filer that we are primarily focused upon. Dan, did I get all the questions?

[Dan Kurnos:]

Yes, I think you mostly hit it. Just maybe to quickly follow-up, because I’ve a couple more here, just on that kind of balance, John, I guess, that is also looking a little bit more for, over the next several years as you kind of work through the product portfolio and I’m assuming you haven't changed your long-term guide for TaxAct, just kind of how we should think about, if you are focusing on paid filers, do we get more of a normalization of total units, understanding that that may be a less relevant metric for you on a go-forward?

[John Clendening:]

So I think from a -- I think what I’m sensing is kind of look around what's the sort of the timing and how are we thinking about unit share and paid versus free over time. I think the main thing to share there is look when we embarked upon this strategy beginning last year, much more forcefully this year, we knew that we would be looking at a couple of year process, a couple of season process to do things like reset the current paid filer base, we walked with some basic SKU, which I think was exactly the right thing to do. And we had in mind that it's going to take a couple of seasons to begin to see the growth that we want to see in terms of, again, primarily paid units. Internally, I got to tell you, we don’t look at the total aggressively. We don’t look at free near as much as we look at paid. And so over time, and we recognize that from the outside looking end, you don’t see anything really, but total units, and even those numbers are quite confusing sometimes from some of the players. But that -- from our standpoint, it's -- you'd expect to see a greater balance over time in all likelihood toward paid in the mix of our total units. And the other thing around the products that I do want to round out on though, Dan, is, as you know, we’ve launched BluVest offering this year. We are looking to extend the tax business beyond just a one-year transaction and given that we’ve got access to this risk data set, with the client's permission, we are offering a financial health scorecard check and then getting a -- getting that client also into a retirement account or even a brokerage account. And that’s another way we see evolving the product set and the experience over time.

[Dan Kurnos:]

Got it. Yes, that’s helpful, John. Thanks. And then, kind of just leveraging on some of your other comments in your initial response to me here. Obviously, marketing has been an area of focus. I don’t know you kind of said that maybe some of your initiatives you might give more color on later, but can you give us, at least, a little bit of sense of some of the channel mix testings you did in this period? And maybe just talk about any improvements in brand awareness and your thoughts on kind of driving that metric higher and what’s clearly a more targeted audience?

[John Clendening:]

You bet. So, just to sort of double-click in that general topic, for us, it started with transparency in the marketing message itself, giving customers a lot more clarity, in fact full clarity on cost to users upfront getting people into the right product at the outset. And so that’s why we shared, lower f-sales is actually a good thing for us, because it means that our clients are going to be happier. Channel mix, we did a ton of experimentation here around television versus digital, as an example, within paid search a variety of messages, also looking at micro targeting. So a good example would be, looking around display and video, targeting married homeowners. Obvious reason, we feel like they’re far more likely to have complex returns. They will have an experience around paying to get their taxes done. Some large percentage would be ticked off, that they thought they’re kind of do that for free, but didn’t. And so we looked at a lot of examples like that -- opportunities like that to fine tune the places that TaxAct showed up, combined with that better message along with the first time being very clear on the price advantage that you have when it comes to TaxAct. And so we did a lot of experimentation. Eric referenced that when the season got off to a slow start and we did pull the marketing lever, not been fully clear those first couple two, three weeks around what the situation was, and as a consequence, we kind of blew some of our marketing money and it was quite inefficient for us upfront. And so there is learning around all those elements. And another learning, of course, is around price elasticity. Given our situation, we’ve got to be really smart around what's the best way to price each of these SKUs in the overall business and so we did a lot of experimentation on that front. And what that did was it's -- it did create some less than optimal results, but the benefit is because of the breadth of the testing. And again, we had a ton of it, we are far smarter heading into next year.

[Dan Kurnos:]

Great. And then just one more, I guess, if I can ask kind of a quick one on HD Vest, although I don’t how much of an answer I’m going to get on this, but if you are sure about the market benefits and the strong tailwind that you are getting from that $300 million fee-based AUM inflow in Q1, given that total adviser count is kind of flat to down-ish, it seems clear to us that you’re already getting some productivity gains out of your overall advisor group. So I know there is always some noise as it relates to underperforming advisors, you called out a ton in your prepared remarks about focusing on advisor recruitment efficiency. Can you kind of just give us a sense of how long, I guess, it will take to optimize your advisor group? And with the understanding that you did say you talk about it more in the future, maybe like a flavor of how you’re thinking about investing in either product offerings or analytics tools for the advisors themselves to further drive gains -- productivity gains outside of your own sort of predictive improvements to improve recruitment efficiency?

[John Clendening:]

So a couple of things there. On the -- and I think you are wise, by the way, to separate this into how we are thinking about attracting that next new advisor versus what to do about the existing advisor base. Relative to the next new advisor, to amplify just a little bit on the comments that we shared. And this is pretty similar to TaxAct, right, where we are focused not just on the headline number, we are focused on long-term value creation here at Blucora. And so what that means is we want to be bringing in advisors who have a far greater likelihood of becoming not just a modest producer, but becoming a difference maker in terms of their outcomes that they're driving economically for themselves as well as for us. So we've picked apart that entire process. We are in motion on essentially reinstalling that process. So it's something that we are doing as we go, right? We don’t want to stop and then wait 12 months and restart something. And so we are in motion on that and it's around every aspect of this including the targeting, which we already referenced in the comments previously. And again, that’s all around. Let's bring in advisors that may be -- lets face it, right, you bring in 500 advisors, and in -- if in 5 years you’ve got 25 left that are economic, what’s the point of that? I would rather bring in 150 and have 125 that are producing for us. Relative to existing advisors, this is an area where Bob brings -- Bob Oras brings a track record and significant experience. And we look at our existing advisor base, no surprise, you will have a distribution right? You will have a skew, EW, around effectiveness of advisors in terms of their outcomes and economics. And so we want to make sure that while we do all we can to have those largest advisors stay with us and happy and still growing, we see a massive opportunity in what we’ve called the movable middle. And so that’s around realigning our service approach. It's around education and continued training. It's around ensuring the people advisors are being offered the very best of back office solutions that make it very easy for them to do their business. It's around gaining adoption of a best vision. There is a series of things that we can do, but this is the part where we are going to need to give us some time to get more specific on what those focus areas might be and we are excited, because this is a huge opportunity for us. We like what we’ve in our advisor base. And certainly, when you talk to our largest and more successful advisors, they too would make the same point that hey, you guys ought to really focus on those folks that can become like us. If you spent just a bit more time cultivating this movable middle, you would have a whole bunch more advisers that are as successful as we are and we've taken that advice to heart and we are acting on it.

[Dan Kurnos:]

Got it. Great. Thanks for all the color, John. I will step back into the queue. Congratulations again guys on the strong quarter and Stacy all the best on wherever life takes you next.

[Stacy Ybarra:]

Thank you, Dan.

[Operator:]

[Operator Instructions] We have no other questioners in the queue at this time, but we will hold for one moment for further questions. Looks like Dan Kurnos from Benchmark would like to ask another question. Your line is back open, sir.

[Dan Kurnos:]

If there is no one else asking questions, I guess I will pick your brain a little bit more, John, if you don’t mind.

[John Clendening:]

[Indiscernible]. Thank you, Dan.

[Dan Kurnos:]

So, I guess -- so let's shift back to tax then. Can you just talk about the prepared side of the equation? I think that was a little bit of a pleasant surprise in the quarter. Software hasn’t been necessarily a major push, but -- and obviously there are some potential cross pollination efforts further down the road with HD Vest. So, maybe if you can just kind of talk about some of the success in that area and how you are thinking about that market opportunity in general?

[John Clendening:]

Yes, thanks. So, let's do the success part first. The main driver around the improvements that we’ve seen there, which have been terrific and frankly without a lot of resource behind it yet given our prioritization on the consumer side of the business has been around sales tactics and sales approach. The team took a step back around how they’re lining up against opportunities, around the sort of support model, around the small sales team that we have, and so there is essentially just some teasing apart of roles. So we had some folks more aggressively focused on hunting and a larger group of folks being able to be there around support for that sales function. We saw a very nice response, 4% or 5% response there in terms of growth. As far as the long-term, those around this part of the business, a couple things. First is we know we’ve got an opportunity over time to build that integrated suite of Tax Prep and Wealth Management. Part of what we’re doing is exposing more of the HD Vest advisers to the TaxAct preparation software, so we can get input from them specifically around, hey, what do you need for this to be something better than what you are getting today. On the tax side alone, not just because of the integration. Now within the tax preparer business itself, we are doing some work this off-season, and I am really excited about how quickly the team has turned their attention, whether it's consumer or the preparers market, turn their attention to focusing already around next year. And the work there is to identify, like we’ve already done on the consumer side, hey what’s the best target market? Where do we want to best focus inside that large market so that we are tuning up our product development and our experience roadmaps to match that target. We see a good opportunity. When you’ve got a business that’s really not been the one you’ve focused on as an organization where our people have had to use sort of their guile and their sort of personal energy on a very small team, focus on a business and you get that sort of growth rate, it's exciting. And so, we are looking to put more into that business, but net-net we still have to put the lion's share of our focus at consumer, because of the opportunities that are on that side of the business.

[Dan Kurnos:]

And then just two -- just, I guess, maybe just two more. Just one on -- this is not probably a large portion, but just can you talk a little bit about if you are seeing any traction on sort of the mobile side as it relates to tax? I know that obviously if you tend to shift more towards complicated returns, it's more likely to be a desktop type solution, but I don’t know if you are thinking about product simplification, and if it's whether it's a branding towards mobile or kind of the cross device, if you are seeing any of that shift, and how that is impacting your thinking about either advertising or where you are placing your products?

[John Clendening:]

So, yes, it's -- mobile clearly is an opportunity for us. We need to up our game in mobile. It is a question of segmentation, right? So there will be some filers who can use mobile alone and get what they need done, get in and out, no problem. For other filers, it can be like other industries, I think, where it's part of a front-end experience, where they may begin on mobile, finish up on desktop. Mobile becomes more of an alert sort of feature for those sorts of clients. And as a referenced a bit ago, we are looking to make the tax experience a full-year experience, so that people can instead of being focused on maximizing their refund, focus on minimizing your taxes. That implies a connectivity with clients over time during the course of the season. Much more to come on that at the end of the -- more toward the end of this year, but that’s where mobile can play a role. So for, again, segmentation for paid filers, more complex filers, we think mobile has a role to play. We don’t think it's going to be a deal and end all, whereas for some very simple filers, it can be the entirety of the experience. Either way, we’ve got a significant opportunity to modernize that experience and it's something that you are going to see from us in tax year '17.

[Dan Kurnos:]

And then just the last one on the cloud migration. If you can just kind of talk about -- it sounds like the expenses are embedded in kind of your outlook, although I don’t know if you want to quantify a little bit more kind of what that might run over, I don’t know, if it takes you 12- or 24 month period to migrate fully to the cloud. But it sounds like it certainly will give you the ability to increase your agility with pushing new products, kind of rightsizing the consumer facing offering, and then ultimately, I'd assume, and John, of course, correct me if I’m wrong, that there is probably some back-end benefits to you guys as well as it translates to synergy opportunities between HD Vest and TaxAct, whether there is -- whether it's actual, specific cross-sell of products, a la BluVest, or learnings that you can kind of quickly import stuff from tax and put it into sort of the HD Vest profile for the investor.

[Eric Emans:]

Hey, Dan, it's Eric. Starting with just with the expense part of your question, and just maybe just a finer point on it. Look, our goal is to be into the cloud for next year's tax season. It's starting off as a TaxAct initiative, you can imagine that we will broaden that to the rest of the firm. Cost wise, yes, there is some upfront costs that are set up in nature, some of which will be capitalized, but all built into the guidance. And then obviously, we look at the cost on an ongoing basis versus our operating costs of running two data centers right now as well as the hardware costs to support that. So ultimately, I think it's the right financial decision for us long-term. And this is the year to make the investments and then you are absolutely right on all the benefits that you touched on. It's going to enable so much more, as well as just enhancements to things like information security. They’re best-in-breed when you go to the cloud and you get all the benefit of that by partnering with one of the best-in-breed. So we are excited about it, and we think it's definitely something we can accomplish and be up and running in next tax season.

[John Clendening:]

Yes, and that’s exactly right. The only thing I would add is that, on top of information security, as we go to the cloud and ultimately go to the cloud for Blucora, we are going to find that as we re-architect the data as we go to the cloud, our ability to unleash the power of the data that’s inherent in both of our businesses in a way that’s great for clients and great for us will be far enhanced. So we are not just going to the cloud, right, we are looking for ways to go to the cloud that enable technology improvements, client experience improvements, all the benefits that Eric has shared. And on top of that, we will have this other benefit, it won't be easy to see from the outside, but this benefit of re-architecting our data, so we can far better capitalize on it. It's a very, very big opportunity for us.

[Dan Kurnos:]

All right. Perfect. Thanks again for all the additional color and Eric, also good to hear from you. Nice work with the balance sheet. Thanks, guys.

[Eric Emans:]

Thanks.

[John Clendening:]

Thanks, Dan.

[Operator:]

Ladies and gentlemen, I see no other questioners in the queue at this time. So I would like to turn the call back over to John for closing comments.

[John Clendening:]

So thanks everybody for joining today. We are certainly pleased to report such a strong start to the year and look forward to continuing to update you all on our progress as the year continues. Take care, everybody.

[Operator:]

Ladies and gentlemen, thank you again for your participation in today's conference call. This now concludes the program and you may now disconnect at this time. Everyone, have a great day.