Just Eat Takeaway.com N.V.
Q4 2016 Earnings Call Transcript

Published: 8 Feb 2017

[Operator:]

Good morning, my name is Kelly, and I will be your conference operator today. At this time, I would like to welcome everyone to the Grubhub Incorporated Fourth Quarter 2016 Earnings Conference Call. All participants are in a listen-only mode. Thank you and I will now turn the call over to David Zaragoza, Head of Investor Relations. Mr. Zaragoza, you may begin.

[David Zaragoza:]

Good morning, everyone, and welcome to Grubhub's fourth quarter of 2016 earnings call. I'm Dave Zaragoza, Head of Investor Relations, and joining me today to discuss Grubhub's results are our CEO, Matt Maloney, and our CFO, Adam DeWitt. This conference call is available via webcast on the Investor Relations section of our website at investors.grubhub.com. In addition, we'll be referencing our press release which has been filed as an exhibit to a Current Report on Form 8-K filed with the SEC. I would like to take this opportunity to remind you that during the course of this call, we will make forward-looking statements, including guidance as to our future performance. These forward-looking statements are made in reliance on the safe harbor provisions of the Securities & Exchange Act of 1934 as amended, and are subject to substantial risks and uncertainties that may cause actual results to differ materially from those in these forward-looking statements. For additional information concerning factors that could affect our financial results or cause actual results to differ materially, please refer to the cautionary statements included in our filings with the SEC, including the risk factor section of the Annual Report on Form 10-K for the fiscal year ended December 31, 2015, filed with the SEC on February 26, 2016, our Quarterly Reports on Form 10-Q, and our Annual Report on Form 10-K for the year ended December 31, 2016 that will be filed with the SEC. Our SEC filings are available electronically on our Investor website at investors.grubhub.com or the EDGAR portion of the SEC's website at www.sec.gov. Also, I'd like to remind you that during the course of this call, we'll discuss non-GAAP financial measures in talking about our performance. Reconciliations to the most directly comparable GAAP financial measures are provided in the tables in the press release. And now, I'll turn the call over to Matt Maloney, Grubhub's CEO.

[Matthew M. Maloney:]

Good morning, everyone, and thanks for joining the call. 2016 was an incredibly successful year for Grubhub. We made dramatic strides in delivery, growing organic delivery service from $50 million to almost $400 million in annual food sales. We also leveraged data driven product improvement to significantly accelerate our order growth rate beginning in the second quarter. Finally, a refreshed brand image and smarter approach to marketing spend has enabled us to acquire more, higher quality diners. We connected local restaurants and hungry diners more than 100 million times in 2016. We shattered our $500 million target for organic GFS growth for the year. We grew Active Diners by 1.4 million, and we're now generating over 1,000 DAGs in 22 markets, versus only seven markets at the time of our IPO. We added more net restaurants per month in the fourth quarter than we have in two years. And we managed to grow adjusted EBITDA per order by 14% for the year, while many companies in the on-demand economy shut their doors after losing millions of DC dollars. In short, we are firing on all cylinders. More important than our performance in 2016, these efforts have positioned us well for 2017. We intend to press our market-leading position in food delivery in the coming year, and I will talk more about our plans in a bit. After that, I will turn the call over to Adam who will give us a more detailed look at the numbers and how our 2017 strategy will translate to financial results. First, however, some highlights from the fourth quarter and the full year. Grubhub generated $137 million of net revenue in Q4, up 38% year-over-year. Q4 was up 11% sequentially, showing typical seasonal strength coming off the slower summer months. This puts us at $493 million of revenue for 2016, up 36% year-over-year, and above our expectations, even excluding the acquisition of LAbite. Net income was $14 million for the quarter, an increase of 21% from 2015, and adjusted EBITDA was $39 million, growing over 46% year-over-year. Adjusted EBITDA per order increased to $1.46 from $1.21 a year ago. We ended Q4 with nearly 8.2 million Active Diners and generated Gross Food Sales of $818 million for our local restaurant partners, increases of 21% and 27% from the prior year respectively. We are excited with the reacceleration we have seen in our Active Diner growth. Not only were we able to drive an acceleration in new diner growth in Q4, but overall frequency remained healthy as we did so. We added over a $0.5 billion in organic Gross Food Sales in 2016, and I believe we are well positioned to exceed this in 2017. As I said earlier, 2016 was a year of rapid change for Grubhub. I'd like to take a few moments to walk through some of our more significant achievements and how this positions us for the coming year. Foremost, our product has significantly improved since this time last year. Aided by our 2015 platform upgrade and new robust analytics framework, our engineering and product teams have evolved our interfaces and features based on actual diner behavior feedback as measured in lifetime value to our business. All of our platforms have been tuned to match diners with exactly what food they want as fast and efficiently as possible. We are optimizing the user experience for conversion and diner LTV, yielding improved repeat diner frequency across all our major platforms and lower CPAs year-over-year in Q4. Recent examples of new features like Map-Based Search, Preordering, and Express Reorder were all vetted with AB testing before launch, so we know their positive impact. We also made significant enhancements to our sort algorithm, added thousands of food images to the site, and improved new diner conversion on our home page and landing pages. The compounding result of all the product improvements from last year was significantly higher order growth than we initially forecasted, and we exited 2016 growing orders faster than we grew them in Q4 of 2015. Additionally, our diner frequency remained flat despite the underlying headwind from mix shift. This reflects the greater engagement of our diner base across markets, and their positive overall reception to our new features. Our pipeline of product improvements for diners, restaurants and drivers is fuller than it's ever been, and we're confident our product will continue to push our growth initiatives. On a related note, we were opportunistic in bolstering our engineering and operations research teams in January with 30 to 40 engineers and driver analytics experts from Zoomer, a small delivery logistics provider with an exceptional product, but not enough scale to generate positive cash flow. We are excited about these additions to our team because it's very difficult to acquire so much world-class talent with significant domain experience. We believe this talent will greatly reduce our time to market for many of our delivery-focused initiatives, driving efficiency and a better experience for our diners, drivers, and restaurant partners this year. In addition to our dramatic product improvement, we have significantly scaled our delivery operation, while generating better unit level economics every quarter. From the summer of 2015, we've grown from having a few hundred delivery drivers to more than 10,000. As I mentioned earlier, we've grown Grubhub delivery orders by 5x in the last 12 months, excluding those fulfilled by our RDS acquisitions, and we are now active in about 70 markets nationwide. While our team makes this look easy, it has been no small feat. We've learned a lot about how to manage the fulfillment side of the network to support our thousands of restaurant partners and we are continually getting better. This improvement in efficiency has allowed us to steadily reduce our overall investment in delivery, despite growing delivery orders by almost 40% sequentially from Q3. Our delivery effort has also been supported by our restaurant partnership group that is adding more net restaurants to the platform per month than we have in years. Delivery has opened up conversations with both chains and independent restaurants that we could not have before. On the chain side, we reached corporate level agreements with Red Robin Gourmet Burgers, Denny's, Hooters, and Einstein Bros. Bagels in Q4. At the same time, we have continued increasing coverage with existing partners, significantly expanding the number of locations we support for partners such as Buffalo Wild Wings, Subway, and P.F. Chang's. In total, we have over 10,000 Grubhub delivery restaurants live on the site, more than half of which are in Tier 2 and Tier 3 markets. This success has significantly increased the breadth and depth of our network in many markets and given the nature of our two-sided marketplace, improved our ability to attract quality diners in more markets than ever before. Leveraging this improved restaurant density will be an important part of our 2017 growth plans. Finally, our marketing for Grubhub and Seamless was very successful in 2016. Our focus on high-quality diner growth last year has paid off with both healthy order volume and increased profitability. Supporting this, both of our key brands went through significant refreshes last year to underscore our fundamental and singular mission to connect diners and restaurants. We believe that our updated branding, celebrating the special moments we all share during meal time, now resonates more loudly with a wider array of U.S. consumers. We're not the only ones that think so either, as Grubhub was named one of Fast Company Design's best rebrandings for 2016. With a bigger restaurant network that supports our broader brand appeal and a stronger product that is more effective at converting new diners, we intend to be more aggressive with marketing in 2017, unlike last year, when we intentionally slowed our marketing investment to facilitate a brand and product transition. We will be pushing hard into the Tier 2 and Tier 3 markets, where our restaurant network has achieved meaningful scale, and still drive deeper within our larger Tier 1 markets where there's still significant opportunity remaining. We believe the time is right to be more proactive on diner acquisition. Of course, we will continue to grow the channels that were successful for us in 2016, but we will also significantly ramp advertising channels that reach a broader base of consumers. As part of this strategy, we'll begin to invest more in national and local TV advertising in 2017. We've tested the channel over the last few months, and we believe that our restaurant network density can now support this kind of broad scale advertising with high-quality diner acquisition in many of our markets. In short, we pushed every part of Grubhub forward in 2016. We are well-positioned to reap the benefits of this hard work and position ourselves for success for years to come. With an Active Diner base of only 8.2 million people, we believe we still have a massive opportunity in front of us, and we intend to extend our significant leadership advantage. I look forward to updating you throughout the year on our progress. And with that, I will hand it over to Adam, who'll walk you through the financials and guidance.

[Adam J. DeWitt:]

Thanks, Matt. Good morning, everyone. As Matt highlighted in his remarks, we had a strong finish to 2016. We ended the fourth quarter with almost 8.2 million Active Diners, we processed 292,500 Daily Average Grubs, and nearly $818 million in Gross Food Sales during the fourth quarter. Active Diners and DAGs were up 21% year-over-year and Gross Food Sales were up 27%. Prior acquisitions added approximately 1% to DAG growth and 4% to Gross Food Sales growth. Fourth quarter net revenues were $137 million, 38% higher than the year-ago quarter of $100 million. If we exclude impact from acquisitions, revenue growth would have been approximately 31%. Net revenue as a percentage of Gross Food Sales was 16.8% during the fourth quarter. This compares to 15.6% during the fourth quarter of last year. This increase in capture rate is driven by the growth in our delivery efforts, including the restaurant delivery acquisitions we have made, as well as a modest increase in non-delivery capture rates over the past year. On the expense side, total sales and marketing expenses were $29.6 million this quarter, a 19% increase compared to the same quarter last year, and a sequential increase of 12% compared to the third quarter. At the beginning of 2016, we noted that we would be investing in marketing, but with a focus on higher quality diners. As a result, as we expected, our growth in sales and marketing for the year slowed to 21% from 38% in 2015, and diner growth slowed as well. However, the trend in orders per diner improved dramatically. As a reminder, we generally expect the drag on orders per diner as we grow disproportionately outside of corporate in New York, where diners use our product most frequently. We saw this throughout 2015, when orders per diner declined in the double digits year-over-year each quarter. In 2016, however, this same metric improved substantially and was essentially flat in the fourth quarter, indicating that the higher quality of our new diners offset the drag caused by the mix shift away from corporate in New York. Given the significant improvement in our product and our restaurant network in Tier 2 markets, we are comfortable being a little more aggressive on advertising spend in 2017, but still intend to maintain high diner quality. As such, we expect sales and marketing growth to be higher in 2017, in the mid-to high 20%s, instead of the 21% we saw in 2016. Operations and support expenses in the third quarter (sic) [fourth quarter] were $51.7 million, a 59% increase compared to the $32.5 million in the fourth quarter of last year, and sequential increase of 17% compared to the third quarter. This increase is from the aggressive scaling of our delivery infrastructure, the inclusion of Delivered Dish and LAbite, and the organic growth in overall orders. Despite the outsized growth in this line item, we continue to become more and more efficient with our delivery efforts as we scale. You can see this improvement in our per-order economics. Nominally, revenue per order grew somewhat faster than operations and support grew, with the latter line item containing most of our delivery costs. Additionally, EBITDA per order, which we consider the best way to measure our progress on profitability, grew to $1.44 per order for the year from $1.27 in 2015. We continue to expect our delivery investment in 2017 to be below that of 2016 and to approach a de minimis level by the time we finish the year. While our decrease in delivery investment over time should create an upward bias to EBITDA generation per order, it will take some time to maximize the metric, and it may bounce around a little quarter-to-quarter based on seasonality and other factors. Technology expenses, excluding amortization of web development, were $10.7 million for the quarter, increasing 21% from the fourth quarter of 2015, and decreasing 3% from the previous quarter. The recent addition of Zoomer engineers and operations analysts to our workforce in Q1 should modestly accelerate growth in technology expenses, but we are optimistic this team will improve our product and accelerate our efficiency in delivery. Depreciation and amortization was $9.9 million for the quarter, a sequential increase of 9% from the third quarter. The sequential increase was primarily due to a one-time accelerated depreciation charge, as we've decided to retire and refresh our driver gear more quickly than we had planned in the past. G&A costs were $12.3 million, a sequential increase of 4% from the $11.8 million in the third quarter, in line with the growth in the business. Net income was $13.6 million, compared to the prior-year of $11.3 million. Net income per fully diluted common share was $0.16 on approximately 87 million weighted average fully diluted shares. Our tax rate for the fourth quarter was around 41%, which is consistent with our expectation going forward. Non-GAAP net income was $19.8 million or $0.23 per fully diluted common share, compared to the prior year of $16.7 million or $0.19 per fully diluted common share. Non-GAAP net income excludes amortization of acquired intangibles, acquisition and restructuring costs, and stock-based compensation expense, as well as the income tax effects of these non-GAAP adjustments. Adjusted EBITDA for the fourth quarter was $39.2 million, an increase of 46% from $26.8 million in the same quarter of the prior year. Adjusted EBITDA margin was 29%, an improvement relative to the fourth quarter of last year. But as I remarked earlier, we believe EBITDA per order, which was up 21% compared to the fourth quarter of last year, is a more meaningful way to measure our profitability. We continue to have a very strong balance sheet with more than $300 million in cash, and an untapped credit line. We'll continue to use our free cash flow and our balance sheet to complement our organic efforts as opportunities arise. Along those lines, Matt mentioned a new engineering and operations research talent we've brought on board from Zoomer. To clarify, we are not acquiring any assets from the company. We are just adding 30 to 40 developers and engineers from their team, who we believe can accelerate the improvement of our delivery product end to end, including its efficiency. This will drive technology costs modestly higher in the short-term, but we believe will more than pay off in the long term, with better diner retention and lower costs in delivery. At this point, I'd like to share our thoughts on Q1 and full-year 2017 guidance. In terms of revenue, we expect Q1 to be in the range of $148 million to $156 million, and the full year to be in the range of $620 million to $660 million. For EBITDA, we expect adjusted EBITDA to be in the range of $37 million to $42 million in the first quarter, and $165 million to $190 million for the full year. You will notice that we've set our ranges wider than we have in the past. Matt and I have both talked about the opportunity to be more aggressive on the marketing side to take advantage of our more robust network. These ranges have embedded flexibility for us to scale that investment up or down, depending on conditions in the market and results we are seeing. We will only be more aggressive if we see good opportunities for investment. As a result, the top ends of our ranges are not necessarily linked. We may achieve top end revenue without top end EBITDA, or vice versa. All this being said, we believe that our continued product iteration, ability to scale advertising efficiently, and improved restaurant network will continue to generate healthy levels of order growth throughout the year. With that, Matt and I will take your questions. Operator, please open up the lines.

[Operator:]

Your first question comes from the line of Ron Josey from JMP Securities. Your line is open.

[Ronald V. Josey:]

Great, thanks for taking the question and really helpful color. Matt, I wonder if you can just talk a little bit more about the product side. I think you said the pipeline was amongst the fullest it's ever been. Maybe just talk about the improvements you saw in 2016 and then what we can look forward to in terms of how more personalized orders can help for 2017. And any insight on like the new sort order you talked about would be helpful. And then Adam, just real quickly, your commentary on average grubs per Active Diner, you mentioned how it's been stabilizing in the mix shift to Tier 2 markets. Can you just go through that a little bit more in terms of how much bigger Tier 2 markets are? Thank you.

[Matthew M. Maloney:]

Sure, Ron, thanks for the question. So, per the last year's product improvements, there is a whole bunch. I mean, I mentioned a few. There is a lot more than that. There's a ton of improvements we have, between 20 and 15 AB tests going at any given time. So broadly any product change that you see going to general availability has like thoroughly been tested, AB tested ahead of time. And so any change you see us make should have a positive overall impact to diner experience and ultimately order growth. And we actually know what the benefit is for everything we roll out. It's just the way we release software now. In terms of the roadmap for 2017, we mentioned the Zoomer relationship. We were able to bring on a lot of very senior, very experienced talent, and I'm excited to see what insights and experience these guys can bring. I mean, we have a great platform, it's working very well, it's growing aggressively, and we just didn't quite double the engineers on that product, but we brought an incredible amount of very smart senior people onboard. So there is going to be a lot there, and I can't even begin to predict what it's going to be. But it all will result in a better experience for our diners in our restaurants. So like what you were saying about personalization, I think, there is a ton of opportunity remaining in leveraging the data on ratings and reviews. We've talked about that on a few different calls. We are absorbing a tremendous amount of feedback from diners based on the quality of their food, also the quality of the service they experienced, and aggregating these quality signals and potentially down to the dish level and even ideally once and for all clearly being able to define what the best takeout restaurants are across the country, I think, is a real opportunity for us. And then finally, I've said it before, but I think there's a lot of benefit by being more transparent with restaurants, giving them deeper insights into their own business. Helping them be more profitable, helping them compete better on our platform, and ultimately as restaurants compete against each other for the diner that results in a better diner experience, and so as you can see, we continue to invest in products and services that will ultimately result in a better experience for the diner because that's exactly what we're here to do.

[Adam J. DeWitt:]

Yeah, and Ron, in terms of the frequency, so historically, when I talked about the mix, I think a year or so ago when we put out the investor deck, we showed that if you look at the corporate business, you are talking about frequency that's probably five times our average consumer that's not in Manhattan, and then Manhattan frequency, probably 2 to 2.5x what our non-Manhattan customers are at in terms of frequency. And so over time, we're seeing higher growth outside of Manhattan and corporate than we are in those two buckets. And even though the mix isn't shifting dramatically from, in terms of, a multiple or anything like that, even if you move that a few percentage points in terms of the volume that New York or Manhattan and corporate make up, you're still going to see a drag, and that's when we saw those double-digit declines in frequency. This year, starting in the second quarter, we have seen it more flat, and what we're seeing is that overall frequency is increasing, and so the growth in frequency is offsetting the impact from that mix shift.

[Ronald V. Josey:]

Thank you.

[Operator:]

And your next question comes from the line of Brian Nowak from Morgan Stanley. Your line is open.

[Brian Nowak:]

Thanks for taking my questions. I have two. Just to go back to the advertising for 2017, could you talk to us a little bit more about how many markets you plan on rolling out the advertising to, and just kind of talk about the cadence or the pacing of the ad strategy? And then just trying to better understand the guidance a little bit. What types of expectations for faster diner or GFS growth from the advertising is currently in the revenue guidance for the full year? And then secondly, you talked about the faster Active Diner growth in the fourth quarter, can you just talk to what drove that, and is that something we should think about for 2017 as well? Thanks.

[Adam J. DeWitt:]

Yeah. So, I'll take a stab, Brian. So in terms of the market, the advertising is really across the board, right? And so we're going to see more focused personalized local advertising in the markets where we have enough critical mass. In that list, obviously from Matt's comments where he's talking about the number of markets where we have a thousand orders a day, that list of markets where we can effectively localize the market – marketing or advertising is growing all the time. And then even in the outlying markets, the Tier 2s, Tier 3s, we'll be doing a little bit more. Matt talked about TV a little bit. We're not talking about massive $50 million to $100 million TV campaign, but we are increasing the national TV quite a bit, and we're also increasing our support on digital a little bit deeper than we have in the past. In terms of pacing and scope and size, I think, this year – in 2016, we increased sales and marketing. We grew at about 21%. This year, Matt mentioned or I mentioned, I think both of us mentioned in the prepared remarks that we're going to be kind of more mid-to high 20%s is our first stab at that. But obviously that can move up or down based on what we see in the marketplace from an opportunistic standpoint. When you think about the patterning of that, it's likely going to be similar to what we've done in the past where we've focused more on the book end quarters, the first quarter and the fourth quarter. Those are our strongest, in terms of new diner acquisition. But again it's going to be opportunistic. And in terms of what's baked into 2017, I think, you can kind of read into that based on where we are from a guidance standpoint. And I just want to reiterate that we set it a little bit wider than we have in the past, specifically because of this potential to spend more, and drive more revenue or spend a little less, and so the potential outcomes are wider.

[Operator:]

And your next question comes from the line of Ralph Schackart from William Blair. Your line is open.

[Ralph E. Schackart:]

Good morning, On the last call you talked about maybe starting marketing spend earlier in Q1 2017 versus a year ago, when I think it was more back – half way. And Adam I think you said you were going to start marketing on the book end quarters. Just curious have you started that accelerated marketing spend yet in 2017 and any early reads on that?

[Adam J. DeWitt:]

Yeah, absolutely. I'll let Matt give you more color. I'll give you from a number's perspective. Yeah, I mean, absolutely, we were able to jump out of the gate. And part of the reason that we pushed it, well, a little bit last year was we were in the middle of the brand refresh. We feel like we're in a good place January 1, and so we've been spending throughout. I mean, I want to hesitate here. We're not going to double our sales and marketing line in the first quarter, but when we look at the guidance for the quarter, and for the year specifically, I think that's a big contributor to what's happening on the top and bottom lines.

[Matthew M. Maloney:]

Yeah, Ralph, and Adam basically said everything I was going to say, but you nailed it in my comments when I said we pulled back on 2016 marketing because of brand transition. That's exactly what happened at the beginning part of the quarter last year. And clearly, we didn't – like we've been all guns blazing through January, and we didn't have to make up that lost time.

[Ralph E. Schackart:]

Great. Just one more if I could. Adam, I'm not sure if you said it in the remarks, but can you give us the delivery investment in Q4? And it sounded like your delivery investment for 2017 was unchanged, but just wanted to sort of clarify that as well.

[Adam J. DeWitt:]

Yeah, delivery investment for 2017, definitely unchanged. I think we talked last quarter about moving away from a specific dollar investment, but what I will say is we continued to make improvement in the fourth quarter. I think December was our most efficient quarter in terms of getting that incremental revenue close to the incremental cost. And we're still optimistic that by the end of 2017, we'll be talking about a de minimis amount where we're generating less EBITDA per order for delivery orders as opposed to restaurant delivered orders.

[Ralph E. Schackart:]

Okay. Thanks for clarifying.

[Operator:]

Your next question comes from Nat Schindler from Bank of America Merrill Lynch. Your line is open.

[Nat H. Schindler:]

Yeah, hi, guys. Thanks for taking my questions. One, Adam, just quickly on your guidance, your range seems to be bigger than you have given in the past, about $8 million this quarter on revenue versus historical of $2 million to $3 million every quarter. And this is particularly a late reporting, because it's Q4. Is there any change in the predictability of the business? And then I have a secondary question on the overinvestment if I can get it afterwards.

[Adam J. DeWitt:]

Yeah. Hey, Nat. So just to build on my earlier comments, we've set the range a little bit wider than we have in the past, as you pointed out. There's a couple of reasons for that. One is, the potential – or we wanted to leave the flexibility in for spending more on marketing, which would affect both top and bottom line for us. And secondly, you asked about the predictability of the business. We feel really good about our ability to predict the order volumes that we're going to get based on the diners that we have. I think the one thing that impacts revenue and expense that we had – I don't want to say less visibility, but it depends on how much delivery volume we do versus restaurant delivered volume, right, because of the way that the P&L is grossed up with higher revenue and higher expense. And so there's a little bit more baked into the range for that and the advertising.

[Nat H. Schindler:]

Okay. And then just on the gross profit per order changed on a nominal basis only a slight amount, but when you back out the overinvestment, it looks bigger. Was the overinvestment still about $4 million a quarter? Or has that changed a little bit from what you thought at the beginning of the quarter?

[Adam J. DeWitt:]

For the fourth quarter?

[Nat H. Schindler:]

Yes.

[Adam J. DeWitt:]

Yeah. No, it was a little bit lower than it had been in the past. We're not giving the exact amount, but I can tell you that the fourth quarter, we had probably our most efficient quarter. When I look at EBITDA overall, even though – it's a little tough. When you look at the third quarter, you got to remember that we had a lot of one-time benefits in terms of the order volume, and the incremental profit from those orders is really high. And then you head into the fourth quarter, where it was kind of what I would consider a more typical quarter. And so if you're looking at the third quarter versus the fourth quarter, you're going to see a little bit of that impact. But the investment on the delivery side was definitely less.

[Nat H. Schindler:]

And would you expect it to be less in Q1 and every quarter going forward or will it bounce around?

[Adam J. DeWitt:]

What we said in the remarks was we expect it to overall continuing to go down throughout 2017 and get to a de minimis level by the end of the year. We still feel very comfortable with that.

[Nat H. Schindler:]

Great. Thank you.

[Operator:]

Your next question comes from the line of Paul Bieber from Credit Suisse. Your line is open. Paul Bieber - Credit Suisse Securities (USA) LLC (Broker) Good morning, Matt and Adam. Thanks for taking my questions. At the high end of the guidance range, it implies some margin pressure. I was hoping you could give some color on whether delivery or the increased marketing investments is a major driver of the margin headwind at the top end of the guidance range. And then, just given the rollout of delivery, how should we think about the long term EBITDA margins of the business? Has that changed at all over the last six months?

[Adam J. DeWitt:]

Yeah. So we've been trying over the last few quarters to move away from emphasizing the EBITDA margin percentage because the delivery, even when it's generating the same amount of EBITDA per order, is going to look optically lower from an EBITDA margin perspective, because it's got higher revenue and higher expense. And so we're really thinking about the profitability per order more in terms of our EBITDA per order. And if you look at the high end of the range, and at least using our internal model, the EBITDA per order is up double-digits percentage. So we have profitability the way that we think about it actually expanding on a pretty good healthy order growth rate. Paul Bieber - Credit Suisse Securities (USA) LLC (Broker) And then, in the long-term...

[Adam J. DeWitt:]

And in terms of the long-term EBITDA margin, or the margin question, again, we're thinking about this in terms of EBITDA per order as opposed to kind of what that margin percentage looks like. And in the past, we talked about, look, at the high end, if you stripped out 100% of the overhead and just looked at how much do we pay in credit card processing and customer service costs on an order, you're talking about a margin of about $3.40. So obviously, there's a lot of room between $1.46 that we had in the fourth quarter and that $3.40, but we're always going to have some marketing investment, we're always going to have some tech investment. And so it's a long-winded way of saying, it's somewhere between $1.44 and $3.40, but there's going to be a healthy amount of investment in the business for a long time. Paul Bieber - Credit Suisse Securities (USA) LLC (Broker) And one quick follow-up, are there any signs of take-rate pressure in cities with heightened competition?

[Adam J. DeWitt:]

To be honest, we've actually seen the opposite. In the prepared remarks, we hinted that if you look at the capture rate on a year-over-year basis, it's obviously up quite a bit because of delivery, and the additional commissions that the restaurants pay us, and also the delivery fees that the diners pay. But there also was a little bit of improvement from organic take rates going up as restaurants see more value to being on the platform. I mean, Matt talked a lot about the product improvements. The restaurants have really appreciated what we've done in terms of the new sort order and calling out the sponsor listings, and different ways that we're exposing restaurants to diners, and so we think that there's opportunity for that to be – over time, there's some upside there. We're obviously conservative, but we still think that there's upside there. Paul Bieber - Credit Suisse Securities (USA) LLC (Broker) Okay. Thank you for taking my questions. Appreciate it.

[Operator:]

Your next question comes from the line of John Egbert from Stifel. Your line is open.

[John Egbert:]

Great. Thanks for taking the question. I was wondering what the mix of delivery and non-delivery looks like in Tier 2 markets, where the marketplace business wasn't highly developed before you came in with self-delivery? And do you think that looking at that might be instructive in thinking about how the long-term mix of delivery might evolve as your business broadens out across the country?

[Adam J. DeWitt:]

Yeah. I mean, it's a good question. So it's really all over the map, to be honest. We definitely see a higher percentage of delivery in the non-Tier 1 markets, but some of that's a function of us adding restaurants that we're doing delivery for just as aggressively as we're adding restaurants that are doing their own delivery. And so we end up with a mix of restaurants that's more biased that way. But it is all over the map. There's markets where we're more than 50% delivery, and there's markets even outside of New York and Chicago where it's a lot lower, closer to 10% to 20%. I think to your question about long-term where that goes, I think it's hard to say. We've often said when asked the question that ultimately maybe it's 30% to 40%, and the reason there is New York is always going to have a low percentage – or a lower percentage of Grubhub delivery restaurants, because the ecosystem for delivery is so frictionless there, and delivery is growing, but there's such a good ecosystem already in place that in some ways it's almost cheaper and more efficient for the restaurants to deliver for themselves in Manhattan, and then the rest of the markets, it being more balanced.

[John Egbert:]

That's helpful. Thanks.

[Operator:]

Your next question comes from Michael Graham of Canaccord. Your line is open.

[Michael Patrick Graham:]

Hi. Thanks a lot. I just have two. One on the high quality customer comment. Just wondering, I guess high quality means higher order frequency, and just staying with you longer. Have you noticed that that's been driven by a particular marketing strategy, or is it more product improvements? I know other similar companies have said when they started focusing more on brand advertising rather than sort of performance or direct response, that they've seen the quality of customer go up. I'm just wondering how you're thinking about that. And then on the unit economics, Adam, maybe you can possibly characterize for us like the EBITDA per order in, say, New York or Chicago relative to a much smaller market. Like how different are those two? And do you see on the horizon a point where the average unit economics start to improve rather than what I think is happening right now, is getting a little more diluted as you get bigger in the smaller markets?

[Matthew M. Maloney:]

Hey, Michael. It's Matt. I'll take the higher-quality diner question. We definitely started out with a strategy last year of trying to attract a higher quality diner, and yes, it's defined by the diners that are ordering more frequently. So we looked at the different channels. The previous year there was a lot of noise about massive promotions, and what we knew from experience was that if you're doing a lot of promotions, you have a very low-quality diner because they're looking for the free food. Whereas if you get someone on the merits of your product and the values of what you bring, they're much more likely to stay with you for a while. So we've evaluated our marketing channels, obviously, and put more money towards those channels and those markets that we felt we're getting the higher quality diner. And another way to look at this is how can you decrease the one and done rate as much as possible. And so we're really trying to get people that were adopting Grubhub as a way of life and/or coming back very frequently, and that was done clearly through marketing, but also, as you pointed out, product had a lot to do here, too. So as we made the huge investment in the analytics framework to be able to A/B test everything on the front end, that's paid off dividends not only in conversion rate but also frequency. And as we bring in diners that are more likely to be high quality, we're able to nurture that relationship by giving them more of what they came to us for.

[Adam J. DeWitt:]

And then, Mike, just to follow up on the question about EBITDA per order across the markets, the real driver of difference – there's not a big difference in terms of cost per order, right, from a fulfillment perspective, because all of our costs are mostly – almost all of them are centralized. And there's not a big delta in terms of average order size, and so the delta between a New York and a Chicago and a Denver, an Austin, Las Vegas, Portland is really going to be related to the commission rate. And as I said earlier, we're seeing in every market as we get more volume, the restaurants see more value in paying a higher rate, and they see more value for paying for more views or more exposure, because we're getting more exposure. And so we expect to see that to continue to go up, but it's not a case where we're looking at the EBITDA per order in a Las Vegas and it's close to zero and New York's looking like $3 an order, right, and you get to a blended average of $1.46. It's a lot closer than that. And I just wanted to build on what Matt was saying. We're talking about the ability to market and spend up and flex those dollars, and part of that is the restaurant base that we're building in all of these Tier 3 markets, and part of that's related to delivery, which Matt talked about in terms of being able to add more restaurants and a more diverse population.

[Michael Patrick Graham:]

Okay. Thank you very much.

[Operator:]

Your next question comes from Aaron Kessler from Raymond James. Your line is open.

[Aaron M. Kessler:]

Great, thanks. A couple questions. Just if you can talk maybe about conversion rate opportunities as we look into 2017 here, any thoughts on potentially adding voice ordering? I think Amazon has added that recently. And is anything you've learned in terms of diner demographics and kind of which ones stick with you longer in terms of are you able target those specific diners specifically? Thanks.

[Matthew M. Maloney:]

Sure, Aaron. Conversion rate opportunities in 2017, I think we have a few notebooks full of ideas. The way we look at it is we just prioritize what we think will get the most bang for our buck. We roll it out, A/B test it, and leave it if it works and pull it back, obviously, if it doesn't. We're constantly looking at homepage. When you think about a classic product funnel, you have the search, you have the restaurant page, just trying to optimize, get what diners want in front of them faster. Recommendations are going to be important. Sort order is important. I think I mentioned in my remarks that we have an Express Reorder functionality. A lot of our orders are repeat and many times they want to repeat an order, at least from a restaurant, if not the exact same order. So putting that front and center so they see it as soon as they come back, making sure that giving diners what they want. Any signal that we can capture, we keep that in our personalization profile of that diner and try to give them exactly what they want when they want it. And that's what conversion is all about. So in terms of different platforms and conversational commerce, we're definitely experimenting and playing around. I think there's a lot of exciting new technology on the horizon, and as that gets more widely adopted by consumers, you'll definitely see us active where our diners are.

[Aaron M. Kessler:]

Great. And just any insights into the diner demographics in terms of have you been able to find you can target certain demographics better or get better quality diners?

[Matthew M. Maloney:]

Our demographics are really broad. We have the young demographics. We have the middle and the older demographics. Gender is pretty similar. I think we look at it more in terms of marketplace, and which markets do we have a very high quality product and which are we building. So we think more about we have an incredible product in the Tier 1s and the places where we have over a thousand orders a day. How do we continue to get deeper? Our product, it really resonates with all types. It's not like this only works for a specific segment or demo. So just getting the word out, making sure that we're getting a lots of referral traffic, and then pushing hard to build the best product we can through restaurant ads in Tier 2 and Tier 3 in more diffused markets, and that's where our execution and delivery really helps us out.

[Aaron M. Kessler:]

Got it. Great. Thank you.

[Operator:]

Your next question comes from the line of Heath Terry of Goldman Sachs. Your line is open.

[Heath Terry:]

Great, thanks. Just wanted to go back to the topic of quality diners. Can you give us a bit of a sense in terms of how you are quantifying that? Is it average revenue per order? Is it frequency per order? Profitability? Just want to understand a little bit better how the impact of this focus hits the immediate quarter versus future quarters, and whether it's more of a revenue benefit or a profitability benefit.

[Matthew M. Maloney:]

Yeah, Heath, so when we talked about the higher quality diners, I think we're seeing it mostly in that orders per active diner metric. So earlier we talked a little bit about the drag from the higher growth outside of Manhattan and corporate, and if we didn't have improvement in the underlying frequency or orders per active diner, it wouldn't offset the drag from that mix shift. And earlier I talked about a few percent move every year has a big impact. It is helpful to think about those two markets where the frequency is significantly higher. Manhattan, obviously, a market that we've been in longer than realistically any other market, even before 2000. And so we're still seeing good growth in Manhattan, but clearly it's not going to be as strong as our Tier 2 and Tier 3 markets. And then corporate, which is a great business for us, but as we talked about in the past, we have a lot of the low-hanging fruit there, and the growth from those individual customers who are really great customers of Seamless hasn't necessarily been as strong as it has been in the past. So we're seeing outsized growth in Tier 2 and Tier 3, but we're not seeing any drag at all on orders per diner, or anything material. So that's where we see that manifesting.

[Heath Terry:]

Great. Thank you.

[Operator:]

Your next question comes from Mark May of Citi. Your line is open.

[Mark A. May:]

Thanks for taking my questions, appreciate it. First, sorry if this was addressed, but it looks like in the quarter, you had pretty strong diner growth on a sequential basis, I think the highest on a percentage basis since Q3 of 2015. And that's despite continued deceleration and marketing during that period. Just wondering, if you haven't already, could you address what you think drove that? And secondly, I can't recall if you account for promotions on a contra-revenue basis or as advertising. But either way, how much does a step-up in promotions play into your guidance, and into your commentary about stepping up your marketing programs?

[Adam J. DeWitt:]

Yeah, Heath (sic) [Mark], I'll do this backwards. I'll take the promotions question really quickly and I'll let Matt give you a little bit more color on why the fourth quarter was so effective from a diner acquisition perspective. So promotions, they are contra-revenue. What I would say is we haven't materially changed our strategy in terms of more promotions relative to other types of advertising. Strategically, we mostly view it as a supplement and not standing on its own. As Matt talked about earlier, really, low-quality diners for us are diners that try us and never come back. And we're sensitive about depending on large promotions to acquire those diners, right. A lot of it's more in conjunction with some other brand advertising that we're doing. I mean, that's all baked into our guidance for 2017. I wouldn't say there's anything unusual, though, in terms of a strategy shift, in terms of more promotions versus brand advertising or less. I mean, it'll go up and down based on the opportunities we see, but there's nothing materially changing.

[Matthew M. Maloney:]

Hey, Mark. So, yeah, diner growth in the fourth quarter was significantly higher than we've seen in a while. I think a lot of the plans that we put in place earlier in 2016 came to fruition at the end. And that's what we saw and I spoke to it a bit on my prepared remarks, but on one hand, we just had outstanding execution all year. So the delivery teams did a fantastic job expanding the service so that we could then expand the restaurants that we were signing up, and then the sales teams did a fantastic job of signing up record number of new restaurants in the fourth quarter. And so that really set the supply side a new base to be able to have – we had a new brand and so the advertising was more effective bringing more new eyeballs, and then the product was better. So having a year of full AB test optimization meant that when those eyeballs hit the actual products that we have, whether on a mobile platform or web platform, they converted at a higher level. So you had better delivery, better restaurants, better advertising and brand, and better products, and all the net effect, it was just higher new diner adds than we've seen in a very long time, which is a great story. We saw it work. And that's why we're looking at 2017 saying that we want to be much more aggressive at marketing. And as Adam said a couple times, we widened our guidance because we want to give ourselves the flexibility to really go strong if we see this continuing to work throughout 2017.

[Operator:]

And your next question comes from the line of Chris Merwin from Barclays. Your line is open.

[Christopher Merwin:]

Okay. Thank you. So you talked a bit about adding more partnerships with national change, I guess especially now that you've grown your delivery capabilities. Can you just give us a sense of how big that could be as a percentage of your total restaurants, and what difference and any there is in terms of economics for those partners relative to the independents? And then secondly, can you just talk a bit about the M&A environment and how that's changed relative to last year? It seems like VC's investment in the space has slowed quite a bit. And has that impacted private market valuations at all? And could that make some of the smaller regional players look a bit more interesting from an M&A perspective? Thanks.

[Matthew M. Maloney:]

Hey, Chris. So, yes, starting with chains, they're clearly driving volume. They're definitely critical to our efforts to expanding the restaurant base. And as you think about how big they can get, it's not really apples-to-apples, because the majority of our restaurants are all independent restaurants, and each relationship, each contract has a single location, whereas a chain, you can have one relationship like Subway and have thousands of locations across the country. So how big, I haven't really thought about the relative ratio on a per-store basis is, but I would say that the chains are definitely more prevalent in the Tier 2, Tier 3 markets where we see a ton of opportunity to grow in the future. And then on economics, we're not making special price adjustments. For Chains, they're paying the rack rates. Our pricing is all volume based, and so they just compete on our marketplace with anyone else who is competing in those markets. And then in terms of M&A, you're right, it's definitely been an interesting time. It's clearly harder for private companies to get funded in our space, and everyone is kind of looking for profitability, which plays in our favor, because we are so profitable and we see this as a big strategic advantage to kind of compete on our own terms in a way that makes sense for us as a business and investors as shareholders. So I think we're looking around at the space. We're always paying attention. Obviously, the news we just communicated on bringing on a whole bunch of very senior talented individuals. They were at a smaller local player like you're talking about. We ultimately did not need to acquire the company in order to get the talent that we were interested in, which is very good news. I think we're having lots of conversations and we're being opportunistic. A lot of companies have gone out of business, and they weren't interesting, and we didn't make any motions. I'm not sure if I'd say the bottom has dropped out of that environment quite yet, but we're here, and everyone knows we're doing very well, and are interested in opportunities that are accretive to our shareholders.

[Christopher Merwin:]

Okay. Thank you.

[Operator:]

Your next question comes from Neil Doshi of Mizuho. Your line is open.

[Neil A. Doshi:]

Great. Thanks, guys. Just a couple of quick questions. One, on the competitive front, how are you guys viewing competition, especially from UberEATS? We started to see them move kind of into more markets, and their app seems to be trending in the top 100 downloads. And then secondly, on the delivery investments for this year, in general, will you guys be expanding more within existing Tier 1 markets, or moving into new markets, or will it really be for a push into more Tier 2 and Tier 3 markets? And then just finally on the delivery side, at what level, Adam, do you think you guys can get to profitability or breakeven in terms of deliveries per hour once you get to scale? Thanks.

[Matthew M. Maloney:]

Hey, Neil. So in terms of competition, I always like this question, especially as we post record quarterly growth, makes it rather easy. And I kind of mentioned a minute ago that the private environment is harder for companies, but we don't feel like anyone is taking business from us in any market. So others might be growing, but we're growing as well. So we've had a number of markets accelerate following the rollout of our delivery. Competitors in our space have historically had minimal impact on our business, so while they're struggling or even maybe growing, it really hasn't seemed to correlate to improved levels of growth for us. And I don't really have a substantive update on a specific competitor, but I think we can all agree that our space is incredibly attractive, given the repeat user characteristics and the high profit potential. So there's always going to be someone out there, whether it's this current set or someone entirely new in the future. So as I think about competition, I think we're just always going to aggressively compete, and I think we're always going to be very well positioned to win, given our distinct advantages specifically around scale. And no one can run delivery as profitably as us, because we have an efficiency that most people don't have. Our product focus, we only deal with one product and that's food. We understand food delivery better than anyone else. This resonates with our restaurant partners. They don't want their food held up by logistical challenges of delivering iPods and toothpaste. And then lower consumer-facing fees. Cost matters, and we pride ourselves in that transparency. Customer support, we excel at this, we've been doing it for a long time. You can't run a business in food delivery at this scale without a massive workforce dedicated to fixing restaurant consumer issues. Really, the only thing I hear in terms of a potential competitive disadvantage is people claim that other people deliver food faster than us, and that's just bogus. I've seen all the numbers, and in terms of delivery time and our average service levels are at least at market, and they continue to get better. And so I just think that we're incredibly positioned. We have the scale, we have the momentum. We're clearly growing regardless of competition. And we positioned ourselves incredibly well with our delivery, and our restaurant scale, and our product, and our brand, and I'm just confident and excited to see what we can get done next year.

[Adam J. DeWitt:]

So Neil, in terms of the deliveries per hour, and kind of when we get to breakeven, it's kind of a tough question to answer, because we could theoretically get to breakeven on one order per hour. The question comes in really what's the optimal pricing to both the restaurant and the diner in terms of – there's a lot of levers, right? There's minimum order size, there's delivery fee, there's commission to the restaurant. So the question is kind of what level do you need to be at to get to the optimal pricing for the restaurant and the diner, and what through-put do you need as a result. And I think the answer is, look, obviously it's a little bit higher than, or we think it's a little bit higher than where we are today. But we feel good about being able to get there by the end of the year. When I talk about a de minimis investment, I'm not talking about a de minimis investment because we've significantly increased the price to diners and to restaurants, and increased the minimum check size significantly, right? I think, it's more about playing around with those variables, and also driving additional efficiency, which Matt talked a lot about, as a big initiative for us this year, particularly with all the engineers and operations research folks that we've brought on from Zoomer.

[Neil A. Doshi:]

Great. Thanks, Matt. Thanks, Adam.

[Operator:]

And your last question comes from the line of Tom Forte from Maxim Group. Your line is open.

[Tom Forte:]

Great, thanks for taking my question. So one for Matt, and one for Adam. For Matt, and I'll limit this to once a year, what are your thoughts on international expansion? And then for Adam, what do you think about CapEx for 2017, and how should we think about the impact of lapping the leap year on the first quarter guidance? Thank you.

[Matthew M. Maloney:]

Yeah, Tom, thanks for your question – you are keeping it to once a year. No, I think that, look, there's going to be a lot of international growth in the future years. Right now, the opportunity in the states is massive. And I strongly believe it's growing very aggressively. We don't have objective third-party numbers on what the market could be. I haven't seen a good study since the one we went public. But with all the competition with – of the growth in the industry, and how that growth has really not measurably impacted our growth rate and where we wanted to be, I can only assume that it's been extremely additive. And just conversationally with segments and groups and restaurants, it feels like this industry is growing very rapidly, so that only emboldens our domestic perspective on growth. And so I think that we're going to continue growing as fast as we can. Now clearly, we're doing very well on the Tier 1s. There's still a lot of opportunity. We've said that we want to grow aggressively in Tier 2 and Tier 3 markets and beyond, and there's even more opportunity there. So we're just going to do everything we can to grow in the U.S. and make sure that we have the strongest, the best service in the United States. And in the future, if we choose to look into other international markets for growth, we'll be very upfront and clear about those decisions with the Street and our investors.

[Adam J. DeWitt:]

So, Tom, in terms of the CapEx, 2016 had certainly a little higher level than what we would typically expect. We did a lot of internal build-out in terms of the facilities. We hadn't really had an upgrade to our facilities in many years, and we've grown from something like 750 employees to almost double that at the end of December. And so there was a pretty big investment in facilities in 2016, something like $13 million to $15 million. I think the rest of the CapEx for the year is a better indication of, I don't want to call it, run rate because it's going to bounce around, but is a better indication of a more normalized rate. We're going to have CapEx on web development. I expect that to continue to go up as we invest in more engineers, more developers. And the bias of our newer hires is working on more newer products, so you'll probably see even a little bit higher cap rate there. We still have to some degree the expense on the order hubs in there as well. So I think it's going to look more – it'll look like 2016, but you've got to back out $13 million to $15 million for kind of one-time facilities type stuff. And then in terms of the guidance, what we've done is we've looked at – it's one of the reasons that we use DAGs as a driver, because it's looking at the daily average, and that flows through to the GFS and the revenue. So you'll see a little bit lighter revenue growth than you would have if there wasn't the leap year extra day last year.

[Tom Forte:]

Thank you.

[Operator:]

And this concludes the Q&A portion of today's call. I now pass it back to the presenters for closing remarks.

[David Zaragoza:]

All right. Thanks everyone for your questions. We look forward to chatting next quarter. Take care.

[Operator:]

And this concludes today's conference call. You may now disconnect.