Limelight Networks, Inc.
Q1 2017 Earnings Call Transcript

Published: 24 Apr 2017

[Operator:]

Good day, ladies and gentlemen. Welcome to the Limelight Networks 2017 First Quarter Financial Results Conference Call. At this time, all participants are in a listen-only-mode. At the end of the prepared remarks, we will provide instructions for those interested in entering the queue for the question-and-answer session. I will now turn the call over to Dan Boncel, Limelight’s Chief Accounting Officer. Please go ahead.

[Dan Boncel:]

Good afternoon and thank you for joining Limelight Networks first quarter 2017 financial results conference call. This call is being recorded on April 24, 2017 and will be achieved on our website for approximately 10 days. Let me start by quickly covering the safe harbor. We’d like to remind everyone that we will be making forward-looking statements on this call. Forward-looking statements are all statements that are not strictly statements of historical fact, such as our outlook for 2017 and beyond, our priorities, our expectations and our operational plans, business strategies and future functionality announcements. Actual results could differ materially from those contemplated by our forward-looking statements and reported results should not be considered as an indication of future performance. Where we discuss the changes in cash and cash equivalents, we are excluding the impact of the first three of 12 $4.5 million payments made to Akamai in each of the last three quarters under the 703 patent settlement. For more information, please refer to the risk factors discussed in our periodic filings including our most recent annual report on Form 10-K. The forward-looking statements on this call are based on information available to us as of today’s date and we disclaim any obligation to update any forward-looking statements, except as required by law. Joining me on the call today are Bob Lento, our Chief Executive Officer; and Sajid Malhotra, our Chief Financial Officer. We will be available during the Q&A session at the end of the prepared remarks from Bob and Sajid. I would now like to turn the call over to Bob Lento.

[Bob Lento:]

Thanks, Dan, and good afternoon. I am pleased to say, this was a great quarter. We exited 2016 with our strongest quarter in our history and we performed even better this quarter. We are confident we will continue to demonstrate year-over-year improvement in our financial and operating performance as the year progresses. Revenue in the quarter was $44.7 million, up 8% from the first quarter of 2016 and up 2% from our strong seasonally higher revenue in the fourth quarter of 2016. This was our highest quarterly revenue in 16 quarters. Our GAAP gross margin expanded to 47.3% this quarter, a record for us and up 710 basis points from 40.2% in the year ago quarter. Our performance in Q1 resulted in non-GAAP earnings of $0.02 per share, a 300% improvement from our loss of $0.01 per share in the year ago quarter. Adjusted EBITDA was $6.7 million, up 70% year-over-year. We have turned this Company from one that used significant amounts of cash to one that over the last 12 months has actually generated cash, all while expanding capacity and our geographic reach. I am pleased with these results which I believe should position us well to achieve our financial goals in 2017. We have built a strong foundation and we are working hard to meet the expectations we have set for 2017. Customer and employee satisfaction have also continued to improve. The revenue loss from churn customers in the first quarter was at the lowest level in many years and we generated meaningful revenue growth, and operational metrics continue to improve. We delivered a record level of traffic that was up over 20% from the first quarter of 2016 while reducing incident tickets by 16%. We continue to make progress on our co-location savings efforts this quarter while expanding our capacity geographically into key markets like India. I am particularly pleased with the continued declined in employee turnover in the first quarter to the lowest level in years and in a range that we believe is sustainable. This has been a high priority of mine since joining Limelight. High employee turnover is a multi-dimensional problem affecting morale, institutional knowledge, customers and financial performance given the cost of recruiting and training. Over the past few years, we have made many organizational and process-related changes to implement new technologies and instill discipline and focus throughout the Company. We knew this effort could lead to turnover, but it was the right action for the business. We have moved through a number of those changes and now see stability in the employee base. I view this as a very positive leading indicator of continued improvements in our operating and financial performance. We believe this solid performance puts us on track to deliver the goals we have established for 2017. We have been in recent developments with respect to our ongoing litigation with Akamai. As you know, we filed a claim of patent infringement against Akamai and XO Communications in the Eastern District of Virginia in late November 2015. The judge recently took the May 1st trial date off the calendar pending institution decisions on a inter partes review applications for many of the patents. We don’t know when the judge will schedule a new trial date. We continue to believe that we are net plaintiffs in this case and we’ll update our stakeholders on our future earnings call as material events unfold. During the quarter, we had a few successes that I’d like to share. In March, we introduced Intelligent Ingest, a unique capability for Limelight Origin Storage that automates and accelerates content upload and help boost CDN performance for customers. Recent public data from Cedexis shows Limelight Origin Storage is 92% faster on average than other leading cloud storage offerings. We also delivered on our commitment to maintain one of the most-energy efficient and greenest CDNs on the plant. In the first quarter, we reported that server efficiency has improved over 600% year-over-year through software innovation, the use of new server technology, and consolidating data centers. The resulting reduction in power consumption has reduced Limelight’s overall carbon footprint by 15% year-over-year, even as traffic and capacity increased significantly. We added new customers to our roster across all regions during the first quarter, including MultiTV, one of India’s fastest growing OTT solution providers with over 40 million viewers across India. We continue to add capacity and innovate to enable customers to do business online with greater speed and reliability in key markets around the globe. Looking ahead at the rest of 2017 and beyond, we continue to focus on our long-term strategic priorities, creating customers for life, growing profitable revenue while generate cash, and improving our position as employer of choice. I’m very encouraged by our solid momentum on these priorities over the past few quarters and I expect this trend to continue. This was a very good quarter and it demonstrates that our strategy, focus and discipline is working. We are focused on customer satisfaction, listening to the needs of our customers, helping to expand their business through our investments in new feature functionality and operational excellence. Quality has improved dramatically and there is more we plan to do to further enhance the customer experience. Increased customer satisfaction has led to improved financial performance. With better network quality and reliability, we posted record traffic levels while revenue churn declined resulting in solid revenue growth this quarter. By actively managing our pricing and cost of goods sold, we continue to see strong margin expansion. With this dynamic and with our discipline around operating expenses and balance sheet management, we believe we are on track to profitability and cash generation for this year. Our successful customer satisfaction and improved financial performance are supporting our efforts to stabilize our employee base and develop talent. We are providing our employees with effective tools, better compensation, opportunities for promotion and increased training which has resulted in higher employee satisfaction, lower attrition and better morale. Pride is building Limelight. I’m happy to see this progress and we will continue to invest in these important efforts throughout 2017. We plan to continue to communicate our progress on our priorities often and clearly with customers, employees and shareholders. We remain focused on building trust and enhancing our reputation. As these priorities take hold, we believe these actions should translate into sustained and superior shareholder growth. With that I’ll turn the call over to Sajid to discuss this quarter’s financial performance in greater detail and our guidance for the rest of 2017.

[Sajid Malhotra:]

Thanks, Bob, and good afternoon. As Dan mentioned earlier when we discussed changes in cash and cash equivalents, we’re excluding the impact of the first three of 12 $4.5 million payments made to Akamai in each of the last three quarters under the 703 patent settlement. We’re delighted with the performance in the quarter. This quarter was our best ever on many financial and operational metrics and one that be builds on the momentum from the strong fourth quarter with accelerating revenue and margin. For the first quarter 2017, we reported the highest revenue in the past 16 quarters. GAAP gross margin is the highest Limelight has ever achieved. GAAP loss is the lowest since the third quarter of 2012, and this is our fourth consecutive quarter of breakeven or better non-GAAP earnings per share. All of this is reflected in our improving, strong and consistent EBITDA performance. The hard work and dedication of each and every one of our employees has identified areas for operational, developmental and financial efficiencies over the last several years. Implementing these improvements has led to our excellent results this quarter and has helped generate cash, which I believe to be the most important financial metric. Over that last 12 months we’re cash flow positive. This includes all litigation related expenses as well as capital expenditures and all other operating activities. Cash generation is the goal we have been working towards, and we’re extremely pleased to report this accomplishment to our shareholders. Let’s look at how we got here starting with the top line. Revenue in the quarter of $44.7 million increased to strong 8% year-over-year. We experienced foreign exchange headwinds in the quarter of approximately $300,000 or almost 1%, primarily due to the devaluation of the British pound. International customers accounted for 37% of total revenue in Q1, compared to 42% a year ago, and approximately 17% of our first quarter revenue was in non-U.S. dollar denominated currencies. Our top 20 customers accounted for approximately 66% of total revenue in Q1. Delivered revenue with our top 20 customers in the first quarter of 2017 grew an extremely strong 28% compared to the prior year period. Included in this growth rate is revenue from customers such as Amazon, Apple, Microsoft and Google, who as group, grew even faster than the average of the top 40. And Amazon was a top 10% customer in the quarter. These are good customers that are growing fast. We’re capturing this growth even as they build in-house capabilities. I think we’ve made the point enough times to debunk the potential do-it-yourself impact from these customers and will stop calling it out in the future. We remain focused on the largest customers, and this focus is being well-rewarded. We continue to win market share in the CDN segment we serve. This separation from our competitors is increasingly based on quality, feature functionality, account management and total costs. We’re maintaining price discipline and are confident in our competitive position. Moving to gross margin. We have a great story to share on margin expansion. GAAP gross margin was 47.3% in the first quarter, an increase of 710 basis points year-over-year. Cash gross margin was 58.3%, an increase of 570 basis points year-over-year. This is our sixth consecutive quarter of year-over-year gross margin expansion and our biggest increase ever. As we have mentioned on previous calls, we devoted a significant amount of time and resources to consolidating our co-location facilities over the last two years. These cost reductions have gradually worked their way into our results. Eliminating excess data center capacity as well as the improved server efficiency and throughput have allowed us to decrease our footprint in third-party data centers and have significant contribution margin flow through. In addition, there was some high-margin seasonal business that extended from Q4 into Q1. This was anticipated and included in our guidance. Excluding that, the remaining business performed exceptionally well, reinforcing our confidence in the margin improvement opportunity. We expect year-over-year margins to improve in 2017 and we are increasing our gross margin guidance for the full year. I will cover this in our guidance section. Total GAAP operating expenses were $24.6 million, which is an increase of $1.9 million from the first quarter of 2016; G&A expense increased by $1.7 million. Excluding the $700,000 increase in litigation expenses, G&A expense increased $1 million. Sales and marketing expense increased by $400,000 versus the year ago quarter. These increases are largely due to payroll-related expenses and advertising and marketing promotions consistent with our guidance of increasing spending in sales and marketing. R&D expense was lower by $100,000 year-over-year, continuing our trend of increased employee productivity. We had net interest income of $100,000 in the first quarter of 2017 compared to $200,000 of net interest expense last year. We have other income of $100,000 in the first quarter of 2017 compared to $400,000 of income last year. This change was primarily due to foreign currency fluctuations in 2016. GAAP net loss was $0.03 per share in the first quarter of 2017. We achieved positive $0.02 of non-GAAP earnings per share in the first quarter of 2017. In the first quarter of 2016, we reported a $0.06 GAAP net loss and a $0.01 per share non-GAAP loss. Adjusted EBITDA was approximately $6.7 million in the first quarter of 2017, up from $4 million in the first quarter of 2016, an increase of 70%. Moving to the balance sheet and cash flow, we had cash and marketable securities of $60.9 million at the end of the first quarter. Driven by improved profitability, cash flows provided from operations would have been $5.6 million excluding the $4.5 million payment under our settlement agreement with Akamai. This compares to $3.2 million in the first quarter last year. We spent $5.7 million in capital expenditures during the quarter. We ramped up capital expenditures in the second half of 2016 and in the first quarter of this year in anticipation of increased traffic requirements and for further expansion in growing geographies. DSO as of March 31, 2017 was 55 days, consistent with the end of the fourth quarter of 2016. We typically expect DSO in the range of 50 to 55 days, based on our global revenue distribution. As you recall, we ended the first quarter of 2016 with $74 million in net cash. Since then, we have paid $13.5 million in three of 12 quarterly payments of $4.5 million each related to the 703 patent settlement. That will leave $60.5 million and we ended the quarter with approximately $61 million in cash and cash equivalents. Included in the 12 months period is impact from performance-based bonus payments in the first quarter of this year and heavy capital expenditure outlay over the last several quarters. This detail catalogs how over a short period of time, there has been a massive shift from cash usage to cash generation for the Company. We had approximately 108 million shares outstanding as of March 31st. Total headcount at the end of the quarter was 528, up 18 from the end of last year and up 27 from the year ago quarter. We have said we intend to increase headcount to support our sales and marketing efforts in addition to overall operational support. Based on current conditions, for the full year 2017, we are increasing our revenue guidance to between $177 million and $181 million, up from the previous guidance provided last quarter of between $175 million and $180 million. We now expect gross margins to increase by more than 200 basis points over 2016 compared to prior guidance of 150 basis-point improvement. By comparisons, based on recent public statements, our primary competitor and proxy for the industry is projecting revenue and gross margin decline for the comparable business. We are also raising the lower end of the non-GAAP earnings per share to $0.03 per share and leaving the top-end unchanged at $0.06 per share. Adjusted EBITDA range is also raised to $23 million to $27 million from previous guidance of $22 million to $26 million. Capital expenditures will be approximately $20 million, unchanged from previous guidance. In summary, we just reported the best quarter in Limelight’s industry. At $44.7 million, this was our highest revenue in 16 quarters. The year-over-year increase in revenue of $3.3 million was the highest in 23 quarters. GAAP gross margin of 47.3% and the 710 basis-point gross margin expansion year-over-year were both the highest ever. Cash gross margin of 58.3% is the highest in 33 quarters. Our quarterly GAAP net loss of $3.3 million is the lowest GAAP loss in 19 quarters. Non-GAAP net income of $1.6 million is the best Q1 non-GAAP net income in Company’s history. Adjusted EBITDA of $6.7 million is the second highest in our history and the highest ever for the first quarter. We operate in a healthy industry and are focused on serving its needs, no distractions. By our assessment, our revenue is growing as fast or faster than our competitors. We’re taking share and believe it is based on our differentiated performance, reliability and service. Our recent track record of triple digit gross margin expansion has very few analogs in our industry or any industries. Cross-functional expense discipline has been extraordinary. We recognize the significant valuation disparity between our current valuation and the opportunity based on the progress we are making. We will drive hard to communicate fairly, set aggressive targets and report results that speak for themselves and require little explanations. Our reconciliation between GAAP and non-GAAP reporting is limited to stock-based compensation and litigation expense tied to Akamai. We just reported our best quarter in our history and look forward to building on that performance throughout the remainder of 2017 and beyond. Plenty to be very pleased with as this is a very different Limelight. And with that we’ll open the call up for your questions.

[Operator:]

We will now begin the question-and-answer session. [Operator Instructions] The first question comes from Michael Turits with Raymond James. Please go ahead.

[Michael Turits:]

Hey, Bob and Sajid. Obviously nice upside in quarter one. Can you specify any particular areas of upside for example, was it in gaming, was it in video, was it in software download, and was it primarily with new or existing customers?

[Bob Lento:]

We can give you a little bit of color on that. We’re seeing good growth across software and video, I would probably say more towards video this quarter. So, the trend towards OTT that we talked about last quarter, we’re starting to see some of that play through. And then I would say, a lot of the growth is more with, if you define a new customer as new in the last two quarters, I would say the growth came from existing versus new, but would also that we’re pleased with how we are competing in the market and new customers that we have added.

[Sajid Malhotra:]

Michael, when we talk about the growth rate in our top 20, and then within that we talked about the breakout with the Microsoft and Amazons of the world, that growth is higher than the corporate average and these are large customers. So, these are the drivers of the growth rate for the Company.

[Michael Turits:]

And then, you guys have sometimes commented about the competitive environment and how some of the larger competitors have been more or less aggressive at different times on pricing. Where are we in terms of that?

[Bob Lento:]

I think we’re seeing much of a change either to the players who the players are themselves or the level of aggressiveness. I think you know from one deal to the next, you may see some rational, I would view as rational pricing, but in general, I don’t think the competitive landscape has changed in a material way.

[Operator:]

The next question comes from Mark Kelleher with D.A. Davidson. Please go ahead.

[Mark Kelleher:]

I want to look at the gross margins. You mentioned that there were some seasonal revenue, high-margin seasonal revenue that came in from Q4. Can you quantify that, what effect that had?

[Sajid Malhotra:]

No, Mark. We would not be breaking that out but suffice to say that there was a portion of that that was in the fourth quarter and some of that trailed over into the first quarter this year. And it was absolutely anticipated in the guidance that we gave. So, when we’re raising the full year guidance by 50 basis points on gross margin for the full year, it is because of the base business and what’s happening with the rest of the business, and we clearly see margins -- strong margin performance from the company.

[Mark Kelleher:]

On the server optimization that you’ve been doing, getting a great gross margin bump on that, how much is left, how much can you still optimize that aspect, how much is that still to play?

[Bob Lento:]

So, there is still work to be done. I think it would be fair to say that most of the low-hanging fruit has been taken care of. But, as we go forward, we’re going forward with software that is much more efficient and effective at delivering, and the servers themselves or the new servers that we’re buying are way more efficient than the servers they are replacing. So, there is still a fair amount of taking out kind of old servers and putting one new one in to replace that. So, there is still work to be done. The big games that we have seen over the last year or two, probably not there going forward, but still work that could be done.

[Sajid Malhotra:]

Yes. I would add one other dimension. In the past, we have been talking about the margin opportunity from our hardware. I think last quarter, we also talked about the fact that this year we intend to focus more on bandwidth as an expense. And so, we will be addressing that. We are trying to bring that down -- to bring it more in line with what we think is the right number. And we are working on multiple dimensions, and there are still some big bucket items that we have to continue to address and therefore the confidence that we can continue to get triple-digit margin improvement and get closer and closer to what we believe is the right number.

[Operator:]

The next question comes from Jon Charbonneau with Cowen. Please go ahead.

[Jon Charbonneau:]

Along the same lines in terms of gross margin expansion, how would you recommend we think about further expansion this year? Do you recommend we think about it as fairly consistent over the next three quarters or is there any one quarter you would point to being potentially higher than any other ones? Thank you.

[Sajid Malhotra:]

Jon, here is what I would say. First is kind of the performance last year. So, last year, if you recall, our revenue compared to what we started off the year with was quite a bit lighter than that we ended up. And even in the face of that, we were able to go ahead and keep attacking margin and hold the margin line and deliver fairly strong margin performance. This year, I think it’s a blended answer, where I do need some revenue for the margins but we still have a lot of margin opportunity outside of just the revenue answer and the flow through from incremental revenue. That’s one. Second is if you look at last year, you would see quite a wide range in terms of the margin performance from a low in the Q -- in the first quarter of 40 and change to a high at the yearend, 45% almost, right? So that’s kind of what happens. Now, there are two different measures, one is how did you do against last year. So, Q1 was the lowest number, I think performance against that looks extremely rich and high. On the other hand when we get to the yearend, if you are looking for the change, I think it will be smallest in Q4 versus Q1, which was the largest, just based on what the underline comparison was there. And then, we have seasonality. Our Q1 is strong, Q4 is the strongest, Q2, Q3 are seasonally the lesser quarters out of the four. And so, I think that should kind of get reflected in the margin and the revenue and in the operating performance of the business.

[Operator:]

The next question is from Sameet Sinha with B. Riley. Please go ahead.

[Sameet Sinha:]

Couple of questions. So, you pointed out international expansion is going to be area of focus this year and of course going forward. Can you talk about kind of the payback period in those geographies, and how should we think about as you invest in them, what sort of payback are we getting in terms of revenue as well as from a margin profile perspective? Then, I have a follow-up question.

[Sajid Malhotra:]

We go ahead and get into geographies for a variety of reasons. Some of it is to serve the customers that we have here to begin with, right? So, if you take some of our larger customers, they are trying to serve across the world. And if we don’t have physical presence there, we will end up serving them from the nearest geography that’s available. And we can improve the efficiency, we can reduce our bandwidth by being physically present closer to some of the points where we don’t have direct presence. That’s number one. Then, you get to markets that in themselves are starting to grow and show signs of maturity, and there are catalysts in those markets that is causing business opportunities that are local, and so we pursue those. If I look at the CapEx portion, the return on that is fairly -- wait, by that, I mean it’s not a three-year payback on those kind of items. And then, the bandwidth is a variable component. We do go ahead and sign multi-year deals, but we try to be very judicious in terms of how we sign them, looking for dollar portability in case business isn’t there or the ability to move contracts or look for paying by the bits delivered as opposed to for the line itself and make it as much variable as possible so that we can deal the fluctuations. Again, the markets that we are after, we talked about India; Latin America; we want to increase our presence there. And then I think once we get done there, Middle East and Africa clearly are next on the horizon, and we continue to -- we want a global footprint. I mean, if you are the second or the second largest CDN provider in the world, we don’t want to leave markets that are untapped.

[Sameet Sinha:]

Second question on the cash OpEx side. So, G&A increased about $1 million, understandably that’s -- part of it is probably compensation, performance-based compensation. How should we think about the trajectory going forward? Is that a number to you that you think that’s something that should go down as the year progresses?

[Sajid Malhotra:]

I think what will go down -- if performance based compensation goes down, you know what is going up is the steady additions to our employee base. So, we’ve said we could add another 20-25 people between now and the year end. And so that’s a slow creep up. As that happens, this goes down. You should see a number that is relatively flat and definitely flat as a percentage of revenue. I’ve said this before that we have the capacity in G&A to add $15 million to $25 million of revenue without really increasing the cost.

[Operator:]

[Operator Instructions] The next question is from Rishi Jaluria with JMP Securities. Please go ahead.

[Rishi Jaluria:]

Hey, guys. Thanks for taking my questions. It’s nice to see the continued momentum in the business. Two quick ones; first off on Amazon, I mean since you’ve called that out. I mean not only are they building out their own internal CDN capabilities, but they do also sell their own CDN service CloudFront to customers on AWS. I guess just given this dynamic, can you help us understand some potential use cases or sample use cases that Amazon is using Limelight with and growing their usage with you?

[Bob Lento:]

So, obviously Amazon’s got a lot of different businesses rolled into the one name. Clearly, there is a part of Amazon that we compete with; you mentioned CloudFront. And they’re certainly making progress in the market. But then, there are other parts of Amazon that are our customers; and in all cases, we’re not the exclusive provider. So, we would see alongside CloudFront and maybe others as well. But their presence is growing pretty rapidly, especially in the area of video. And I don’t think from a risk mitigation standpoint or just a sort of capacity standpoint that any customers can put all of their eggs in one basket. I don’t think Amazon will be any different. And so, our view is that if we provide a high quality of service, differentiated feature functionality and a fair and reasonable price that there will be room for us, alongside others whether that other provider is their own in-house capability or one of our other competitors.

[Rishi Jaluria:]

And Sajid you’ve talked about in the past, there is target operating model of hitting 16% to 20% adjusted EBITDA margins. I mean just looking at the numbers where you’ve right now, midpoint of your full year guidance is at 14%, you were about 15% this quarter; so, you’re getting close. Is this still the target operating model or do you think there is potential for further upside to margins is here?

[Sajid Malhotra:]

What we’ve done is provided guidance for this year but we are very clear that that is not the target for the Company long-term.

[Bob Lento:]

That’s a near-term target, not a long-term target.

[Sajid Malhotra:]

So, we absolutely see opportunity across the P&L for increases beyond, whatever we accomplish this year. And that’s -- I haven’t said out what optimum or what final target looks like but we have ways to go to get there.

[Rishi Jaluria:]

Okay, got it. And last one from me, just on seasonality, I know Sajid you touched on seasonality of revenue and kind of the flow through to margin. Should we see a similar seasonality on the cash flow side and excluding the Akamai lawsuit or is there a different way we should be thinking about seasonality of cash flow?

[Sajid Malhotra:]

Our cash flow range is quite tight, and I think that you should see some fluctuation that’s consistent with that but not wide ranges.

[Bob Lento:]

Yes. Some of it depends on quarter-end payments with receivables and swing it a little bit, but other than receiving payments, the first week of the next quarter versus the last week of the current quarter, it is pretty steady.

[Operator:]

This concludes our question-and-answer session and the conference is also now concluded. Thank you for attending today’s presentation. You may now disconnect.