Leaf Group Ltd.
Q3 2013 Earnings Call Transcript

Published: 8 Nov 2013

[Operator:]

Good afternoon. My name is Jeremy, and I will be your conference operator today. At this time, I would like to welcome everyone to the Demand Media Third Quarter 2013 Results Conference Call. [Operator Instructions] I would now like to turn the call over to Ms. Julie MacMedan, Vice President of Investor Relations.

[Julie MacMedan:]

Thank you, operator, and good afternoon, everyone. On behalf of Demand Media, welcome to our third quarter 2013 conference call. You can find our related release along with supplemental materials posted on the Investor Relations section of our corporate website, located at ir.demandmedia.com. On the call with me today are Shawn Colo, our interim Chief Executive Officer; and Mel Tang, our Chief Financial Officer. Following the Safe Harbor statement that I will make, Shawn will update you on our business. Mel will then provide details on our third quarter financial performance and key operating metrics and finish with guidance for the fourth quarter and year ending December 31, 2013. Following the prepared remarks, we will open up the lines for Q&A. Before we get started, we need to make the following Safe Harbor statement. We would like to remind everyone that during today's conference call, management will make certain forward-looking statements, which are subject to various risks and uncertainties, that could cause actual results to differ materially from our current expectations discussed in such forward-looking statements. In particular, comments about our anticipated future revenues, earnings, operating expenses, page views and growth rates, as well as statements regarding our business strategy and objectives, plans, intentions, operating outlook and planned investments, are considered forward-looking statements. Factors that could cause actual results to differ materially from anticipated results are detailed in our press release furnished to the SEC. I would also like to point out that during this call, we will discuss certain non-GAAP financial measures, while talking about the company's financial and operating performance, including revenue ex-TAC, adjusted EBITDA, adjusted EPS and certain free cash flow metrics. A reconciliation of these non-GAAP financial measures to their most directly comparable GAAP measures can be found in the financial tables included at the end of our press release. In addition, unless otherwise noted, all references to traffic-related metrics and our remarks today are based on comScore data. Lastly, before we begin, I'd like to remind everyone that today's conference call is being recorded and it is also available via webcast on the Internet through the Investor Relations section of our corporate website. A replay will be available on our website. And with that, I'd now like to turn the call over to Shawn Colo, our interim CEO. Shawn?

[Shawn J. Colo:]

Thank you, everyone, for joining, and welcome to our 2013 third quarter results call. First, let me say thank you to our employees, executive team and Board of Directors for their continued support and steady focus. As a cofounder of the company and Head of Corporate Development, I've been intimately involved in many aspects of our business for many years. Over the past several weeks, in my current role as interim CEO, I've had the opportunity to spend time with employees across the organization, and I am inspired by the dedication and commitment our teams exhibit day in and day out. I'm also very encouraged by the progress we've made towards our strategic initiatives. The long-term success of our company depends on our ability to build relationships with end users. It's about leveraging our platforms to allow artists, writers, photographers and experts to express themselves and reach their audiences. It's about consumers and businesses creating their Internet identities with new domain extensions, customized site builders and social tools. It's about people, not page views. When we founded Demand Media, we saw the opportunity to build a new kind of media platform that was data-driven and scalable, and we succeeded. But our future success will not be based solely on the number of articles we produce. It will also be based on our ability to engage the consumer in new and innovative ways, and we are confident that this will in turn drive a more stable and diversified business. Engaging the consumer will clearly demand more product innovation on our core media websites. Our team is up to the challenge. Just this past week, we launched a site redesign of LIVESTRONG.COM, putting the community back at the forefront. The new homepage highlights the real-time community activity, with 5 new modules above the fold. Further, we introduced new community features, with topic-specific guides to drive discussions. We've also recently updated our popular MyPlate app with significant enhancements and are planning additional improvements to the desktop experience. Lastly, we've significantly consolidated our article library in order to display only the most unique, engaging content. Throughout this process, this property has remained #3 in the health category in the U.S. and reached more than 21 million unique visitors worldwide in September. These changes are just the beginning of a broader product road map designed to offer consumers a best-in-class healthy living destination with informative content, helpful applications and an active community. On eHow, our product investments have centered mainly around eHow Now. eHow Now is a live expert service, where consumers are able to chat with an expert on-demand and in real-time for a onetime or monthly fee. We are currently supporting 7 topic categories, and we plan to continue to expand the categories offered given the positive reception from our customers. To date, we've had over 3 million questions asked, and 1.4 million users have trusted us with their e-mail address in order to answer their questions. eHow Now is a great example of an organic extension of eHow's content library and audience, which allows us to add even more value to the user, as well as diversify our business. We also see paid learning as a big opportunity and another natural extension of our core eHow property. We started with the craft category and Creativebug. During the quarter, we launched an eHow Crafts channel, and we were able to drive a significant number of these visitors over to our Creativebug site. Similar to eHow Now, these efforts are in their early development and will require great execution for us to make them more meaningful financially. In addition to product extensions, we continue to see geographic expansion opportunities. ehowenespañol.com, our Spanish language version of eHow, has quietly amassed an audience of 25 million unique visitors per our internal data, up nearly 6x from 4 million last year. We will continue to develop additional sites in other languages as well over the coming quarters. In summary, despite declines in Google referrals, eHow remains a top 25 site in the U.S. and is a tremendous platform to extend additional products and services, both domestically and on a global basis. Across all of our sites, Mobile continues to be a significant growth driver. Demand Media ranked as a top 25 mobile property in the U.S. in September, with over 25 million total unique visitors, with ehow.com's mobile audience of over 15 million monthly uniques. The size of this audience is a function of the nature of our content, as well as investments we are making in our underlying platform. For example, one investment we continue to be excited about is the development of original photography assignments within our studio. We architected our studio in a way that allows us to quickly launch new formats with minimal investment. As the web increasingly becomes more visual, our ability to launch new visual formats, such as infographics, Vine videos and animated GIFs, is a strategic competitive advantage. Because of our continued investment in our studio platform, we are well-positioned to capitalize on new content trends as they emerge. We already deliver hosted content solutions to publishers and brands such as USA TODAY and LegalZoom. Collectively, we help our partners attract over 20 million incremental unique visitors per month, and that number is doubling year-over-year. This success positions us very well, as brands increasingly seek to become publishers. Many of these brands lack the expertise to know what to produce, let alone the capability to produce it in a scalable and cost-effective way. This quarter, we created a dedicated team to pursue this opportunity and expect to ramp this business in 2014. We believe the market opportunity to produce content for global brands is a $40 billion market, and we are uniquely positioned to compete. In addition to the stand-alone content offering, we're also pursuing growth opportunities within branded advertising. We are working closely with brands to deliver premium programmatic packages, as these become an increasingly larger portion of advertising budgets. Our sales and support team will be fully trained this quarter, and we expect that our programmatic offering will be very competitive with the market. In summary, our content platform has enabled us to build a relationship with nearly 100 million people every month. And we see a big opportunity to grow our audience, deliver innovative new products and services and quickly capitalize on new trends as they emerge. Our acquisition of Society6 in June of this year is a great example of this. With Society6, we are able to build relationships with artists and provide their fans with products they love. The acquisition significantly expanded our addressable market, while at the same time, diversified our business. As a reminder, Society6 is a growing profitable marketplace business, and we continue to be excited about its momentum and overall direction. In the third quarter, compared to last year, the Society6 artist community increased 100% and image uploads grew 50%. Since the acquisition, we've applied our expertise around page level optimization and audience acquisition. We have also reallocated some of our engineering and product staff to support Society6's continued growth. We've also been doing a lot of work on the platform itself, including a new top navigation layout and an optimized mobile checkout process, which has driven a 10% increase in conversion rates. New product lines, such as our recently launched line of coffee mugs, are also important drivers of revenue growth, and we plan to continue to launch new products each quarter. Lastly, we've spent time developing deeper relationships with key partners like Wanelo, an emerging social shopping platform, where Society6 is very popular and has amassed over 350,000 total followers. Developing relationships with emerging social platforms is core to our customer acquisition strategy going forward. In addition to Society6, we have a number of other commerce initiatives underway, such as eHow Now and Creativebug, which I mentioned previously. To help drive these initiatives, we've made a concerted effort to hire key commerce talent. During the quarter, we made a number of strategic hires who we expect will help shape and drive these initiatives. Our commerce team has been working closely with our media team to seek new ways to leverage our content studio and existing audience to drive more transactional revenue and diversify our business. As I mentioned earlier, our organic commerce initiatives are in their infancy and are not expected to be meaningful financial contributors over the next few quarters. That said, we are confident that the macro trends of online learning and commerce represent exciting growth opportunities for us, and we are positioned to win in this market, given our collection of sites, our content studio and our growing commerce capabilities. Now let's turn to our domain name services business. In Q3, we made significant progress against our new TLD initiative, and we continue to prepare for the separation of our leading end-to-end domain name services business into a pure-play, stand-alone public company. Our mission is to advance the way businesses and consumers define and present themselves online. On Tuesday, we announced the new name for this business, Rightside. The name represents a new way to navigate the web and emphasizes our focus on guiding customers in the right direction. It's everything to the right of the dot and more, encompassing our new registry initiative, as well as our current registrar and premium domain name services. We also announced that upon separation, Rightside will be led by Taryn Naidu, serving as CEO, and Dave Panos as Chairman of the Board. Taryn joined us in 2006 and has been instrumental in building our domain name services business ever since. Dave has been part of the Demand Media executive team since 2008 and has played a key role in developing our new registry business. In addition to solidifying the team and developing a new corporate identity, we also marked a significant milestone with the signing of our first 2 ICANN registry contracts for the .dance and .democrat TLDs. On Tuesday, we also received and signed ICANN registry contracts for 5 more TLDs. Three of these represent the global nature of this opportunity

[Mel Tang:]

Thank you, Shawn. Q3 was a challenging quarter. Results were impacted by 3 main factors

[Operator:]

[Operator Instructions] And your first question comes from the line of Sameet Sinha from B. Riley.

[Sameet Sinha:]

A couple of questions here. So first question will be in terms of Google's traffic referrals. Have you been able to identify what exactly is the reason why the referrals are coming down? And do you think there is a potential -- a way to turn that around? And secondly, in terms of the spinoff, you're moving ahead with it. Your market cap's about $500 million. And you, you end up with 2 companies with probably around, let's say, $200 million, $250 million market cap, substantially reduced liquidity -- well, in terms of share volume traded every day. Wouldn't it be better just to keep the 2 consolidated companies together for a while before some of these initiatives gain traction, gTLDs start accruing, and maybe then proceed with the spinoff?

[Shawn J. Colo:]

Sameet, it's Shawn. So let me just take the first one, on the traffic referrals. I mean, look, we've been spending a lot of time just understanding what consumers are interested in. And obviously, we've spent a lot of time looking at and understanding search patterns, et cetera. But what we've been able to determine is that the best path forward is to make sure that we're creating great content. And so we are and have been investing in our platforms, as I mentioned, talking about investing in original photography and other new formats. And so we're -- we obviously, through the course of the year, have spent a lot of time trying to understand what's going on. I think we've got a good sense of where we're going. And so that's kind of what our focus has been. I think the second question was about the spin, right? So Mel, do you want to take that one?

[Mel Tang:]

Yes, I think just going back to why we announced the spin to begin with, there are significant operational strategic benefits to having these businesses on a standalone basis, and we continue to believe that. So I think there's been some very positive momentum on the Registrar side -- in the registry side, I mean. And on the media side, we continue to look toward our growth initiatives. So I don't think those sentiments have changed.

[Operator:]

Your next question comes from the line of Doug Arthur from Evercore Partners.

[Douglas M. Arthur:]

Two questions. Just on the numbers. First, on page views for owned and operated, up 21%, I believe. What does that look like? I mean, how did Society6 impact that? You broke it out on the revenue side. I'm just interested in the page views aspect of it. That's the first question.

[Mel Tang:]

Doug, it's Mel. What you're seeing on the page view side is much more so a massive momentum from Mobile, which tends to have higher page views. And that's accounting for more than all the growth on page views.

[Douglas M. Arthur:]

Okay. So, all right. So the Society6 impact..

[Mel Tang:]

Yes, the Society6 impact is minimal compared to the Mobile momentum that we're seeing.

[Douglas M. Arthur:]

But nonetheless, you included in your revenue count for content -- for owned and operated content media, the $5.6 million.

[Mel Tang:]

Correct.

[Douglas M. Arthur:]

Okay. And then, I mean, how -- the network business jumps around quite a bit quarter-to-quarter, just to state the obvious. How should we think about that going forward? I mean, as the YouTube impact will roll off at some point in terms of at least the comp, you mentioned, again, that the sales force is more focused on O&O now, you had this onetime adjustment, I mean, how is this business going to look in '14?

[Mel Tang:]

In 2014, and I go back to the additional disclosure provided around Demand Media and Rightside. There is a chunk of the volatility coming from the advertising and the -- on third-party domains, I think. Post-spin, what will continue to be in our network business is going to be primarily Pluck, our social media tools business. We'll be looking to grow partner content through there. But it should be a lot more clean sort of post-spin. As I've sort of said in the past, I tend to think about that business less from a page views and RPM perspective right now, but it's a business that's flat to slightly down, the onetime adjustment notwithstanding.

[Douglas M. Arthur:]

So in that context, how does IndieClick work in -- into it?

[Mel Tang:]

IndieClick was a network where we represent a numbers of sellers. We did a rev share with those sites. So our ex-TAC is relatively small compared there. I think what you're going to see in the network business in the coming quarters is growth from what we do with partner content, publishing white label solutions for other publishers, creating content for them. And so that's going to, I think, hopefully, offset trends in Pluck. And then on the aftermarket services side, that's where you'll see probably flat to -- continued flat to declining growth in the advertisements placed on third-party undeveloped websites.

[Operator:]

[Operator Instructions] And your last question comes from the line of Peter Stabler from Wells Fargo Securities.

[Steve Cho:]

This is Steve, filling in for Peter. I had 2 questions. First, I wanted to touch upon programmatic. I was just wondering how much inventory you guys are selling in your programmatic currently. And what's the strategy there and how has this impacted your direct sales?

[Shawn J. Colo:]

This is Shawn. On the programmatic piece, we do have a sales team that is now fully trained. So we've got packages in market, and we're just getting started. So it's still early days for us on programmatic. But we definitely see a big opportunity there.

[Mel Tang:]

Yes, I mean, I think technically, virtually all of our inventory in the programmatic, I mean, we built this business around exchanges and automated solutions. The branded team is kind of around 8% to 10% of our total revenue. So I think we are getting in front of that shift. We have been aware of it for quite some time. And I think we've been doing a good job of training our sellers to be able to sell directly into more kind of premium programmatic exchanges. But it's not something that is just catching up to us.

[Shawn J. Colo:]

Yes, and obviously, the benefit of programmatic is being able to lift some of the lower-value inventory that's unsold. And so, for us, our branded team is doing a great job on the premium side, but we still have a lot of inventory that is not being monetized at its highest potential. So we see that as a pretty big opportunity for next year.

[Steve Cho:]

Great. My second question, I do want to say thanks for breaking out the Content & Media sales by advertising revenue and commerce. I think you guys mentioned in the past that you're expecting commerce to be about 25% of sales in that segment. I was just wondering if you can give us an update there, given Society6's performance.

[Mel Tang:]

Yes, well, I think that if we execute and do what we think that some of these businesses could do, I think exiting next year at 25% of Content & Media is still very real. But there's a lot of execution, clearly, to get it there. But it's not just S6. I think the way we think about commerce, it also includes the partner content that we do, where we're creating custom content solutions for folks. And we have other content -- commerce initiatives in-house as well, like eHow Now and Creativebug. So there's a number of things that I think that clearly we need to execute on, but exiting next year at 25% is certainly possible.

[Shawn J. Colo:]

Yes, and we -- I think we feel good about where those initiatives are. We've got some of the infrastructure that's being built, basically this quarter, to be able to attract lifetime value of the customer, customer acquisition costs and just be very specific about it. And it does -- as you know, it takes time to build subscription businesses and recurring revenue business. But we are optimistic about those businesses in 2014.

[Operator:]

And we do have additional questions, the first comes from the line of Patrick Walravens from JMP Securities.

[Peter Lowry:]

It's Pete Lowry actually in for Pat. So outside the core Registrar business, and I understand that the gTLD rev is probably a couple of quarters out, but is there some way we can think about quantitatively, and even if it's qualitatively commenting on it, what the upside is created by the new gTLD initiatives?

[Mel Tang:]

Well, I think it's dependent on a number of things, obviously. The timing of the rollouts, which ones we actually end up with, et cetera. One way that you can get some hard data points in how we build up our analysis is if you go to our website and you're not a TLD and you click through -- we would put up there a number of the TLDs that we applied for, and sort of a -- just kind of market-sizing. So if you go in, on some of them you'll see how many folks are part of the trade group associated with that TLD, as well as, I think, a number of other pockets where we think people would register. And I think from there, you can assume sort of reasonable uptake rates and reasonable pricing and come up with what an annual revenue could look like. So we're not -- clearly, we're not at a place where we can provide a range or guidance around what that is. Clearly, we think the market opportunity is very, very large. And I think there's enough data points out there, plus on our website, to just do some quick math, if that's something you want to do.

[Operator:]

And your final question comes from the line of Doug Arthur from Evercore Partners.

[Douglas M. Arthur:]

Yes, just a follow-up on this unfavorable revenue adjustment. Are you -- I mean, a, can you expand on that? And b, are you relatively comfortable that you've cleaned that up and we're not going to see any kind of lingering impact in Q4?

[Mel Tang:]

Yes, so basically it related to a catch-up adjustment that we got notified of quarters after I think the traffic quality was identified. And so it was unexpected in the quarter, it came in, in fact, sort of right as the quarter was closing. And so we put additional processes and communication lines in place with that partner to ensure that we don't get a negative surprise like this in the past, that we try and be very rigorous in terms of who we onboard into that system. But at times, it's hard to see who's -- what people are putting through. But we're working very closely with that partner to ensure again that there isn't sort of such a delayed negative surprise.

[Operator:]

And there are no further questions at this time. I would like to turn the call back over to our presenters.

[Julie MacMedan:]

Thank you, and thanks, everyone, for joining us today. We look forward to reporting out to you next quarter.

[Shawn J. Colo:]

Thanks, everyone.

[Operator:]

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