RealNetworks, Inc.
Q3 2016 Earnings Call Transcript

Published: 6 Nov 2016

[Operator:]

Welcome to the RealNetworks Third Quarter 2016 Earnings Call. [Operator Instructions] I would like to introduce your first speaker, Drew Markham. Please begin.

[Drew Markham:]

Thank you, Kate. And welcome to the RealNetworks third quarter 2016 conference call. Before we begin, I remind you that the some matters discussed today are forward-looking, including statements regarding RealNetworks future revenue, adjusted EBITDA and operating expenses and trends affecting its businesses and prospects for future growth and profitability. Other forward-looking statements include the Company’s plans to implement its strategy and invest in its product and initiatives, as well as the expected growth, profitability and other benefits from those activities. All statements other than statements of historical fact are forward-looking and involve a number of risks and uncertainties that could cause actual results to differ materially from these forward-looking statements. We describe these and other risks in our SEC filings. A copy of those filings can be obtained from the SEC or from the Investor Relations section of our corporate website. These forward-looking statements reflect RealNetworks’ expectations as of today, November 3. The Company undertakes no duty to update or revise any forward-looking statements made during this call whether as a result of new information, future events or any other reason. We will present certain financial measures on this call that will be considered non-GAAP under the SEC’s Regulation G. For a reconciliation of each non-GAAP financial measure to the most directly comparable GAAP financial measure, please refer to the information included in our press release and in our Form 8-K dated and submitted to the SEC today, both of which can be found on our corporate website at investor.RealNetworks.com under the tab Financial Information. With me today are Rob Glaser, Chairman and CEO, and Marjorie Thomas, our CFO. Rob will discuss Company’s strategy and the progress the Company has made in recent months. Then Marj will provide a financial review of the third quarter of 2016 and the outlook for the fourth quarter. After their prepared remarks, they will be pleased to answer questions. Now I will turn the call over to Rob.

[Rob Glaser:]

Thanks Drew and good afternoon, everyone. Thanks for joining us today. Today, I’ll review and discuss our results for the third quarter 2016 and I want to cover five major topics. One, our progress towards achieving our financial goals for the year. Two, the strong performance of our games business. Three, the continued roll out and integration of our mobile products for carriers. Four, progress in our Consumer Media business. Five, an update on Rhapsody’s progress. We have three major financial goals for 2016, stabilizing our business, returning to growth and returning to profitability. As we enter the fourth quarter, we see that we are going to achieve two of these three objectives. Over the past year, our top line has stabilized and now we’re beginning to see growth. For five quarters in a row, we’ve seen stable revenue. Now we’re starting to grow our top line. Indeed our revenue grew 4% in the third quarter, but quarter-over-quarter and year-over-year excluding the social casino games business we sold last year. Our third financial goal was to return to profitability by the end of this year. We’ve made progress towards this goal and getting close, but we haven’t quite achieved it yet. At the same time, we stabilized and started growing revenue. We’ve reduced our operating expenses by $6.3 million or 24% since Q3 of last year. As a result of these cost reductions, we continue to see improvements in our bottom line, with an EBITDA loss of $4.4 million, a 59% improvement from the third quarter of last year, again not including social games business. While we’re pleased to have significantly reduced our cost and cash consumption this year, we do not currently expect to return to profitability in 2016 and are today providing guidance that we expect a small EBITDA loss in Q4. We take the guidance we provide seriously. Having said that, in this case, we think we’re making the right mid-to-long-term trade off by deferring profitability incurring a small loss. We have few important growth initiatives we very much believe in, and we think continuing to make measured investments in and out is the right way to create value. Additionally, while EBITDA profitability is important goal, it isn’t the only measure of financial discipline. We’re also focused on cash. I’m pleased to note that through a series of initiatives, our cash position in Q3 increased by $2 million sequentially. We’ve undertaken additional initiatives in Q4 that will further strengthen our cash position. In the context of a return to financial stability and growth, I want to note that today we’re announcing our roll out of the option exchange program approved by our shareholders at our recent annual meeting. The program which launches today, offers eligible employees and certain other service providers an opportunity to exchange certain outstanding options that have a per share exercise price in excess of $4.33, which was yesterday’s close, for new awards. Note that neither I nor the Board are eligible to participate in this program. I think this program is good for all stakeholders because it focuses our team on the bright future ahead of us. In sum, I’m pleased with the fact that we achieved two of three main financial objectives. And while I’m disappointed that our third initiative is delayed, I don’t think the delays returning profitability will be long or will affect our overall strategy in any meaningful way. Next, I’d like to turn the operating progress we’ve made in our specific businesses starting with our GameHouse business. Overall our games revenue excluding the social casino games business we sold in Q3, 2015 was up 14% sequentially and we’re expecting continued growth in Q4. The growth is being driven by our studio operations. As you’ll recall, GameHouse launched two new first party titles in Q2, Heart’s Medicine - Time to Heal, and Heart’s Medicine - Time to Heal. Both games had strong sales in Q3 and are maintaining strong demand moving into Q4. GameHouse has also recently released two new games from its popular Delicious franchise, Emily’s Message in a Bottle in August, and Emily’s Christmas Carol in October. Both are off to good starts. We’ve clearly demonstrated that GameHouse can maintain high games quality and wrapping up title production. Our games business will release six GameHouse original titles this year compared to two last year. All these games embody the GameHouse original approach of combining fun and exciting gameplay with compelling storytelling to create a new genre of entertainment experience. We now have 14 GameHouse original stories in our portfolio. We think we’re on a promising path to scale this business up and to unlock additional value in the quarters ahead. Next I want to talk about our progress in Mobile Services. We’re continuing to integrate on mobile products with major carriers such as Vivo in Brazil, Verizon in United States and Vodafone in Europe. All these carrier partners are integrating RealTimes into their own suite of cloud-based services. In fact, just this week our latest partner, Telefonica Vivo, began shipping Vivo Sync Momentos, which is powered by RealTimes. We continue to win Ringback tones business as well. In fact, today, Vodafone Portugal announced it selected RealNetworks to provide Ringback tones services to its subscribers. RealNetworks now supplies Ringback tones services to all three national mobile phone providers in Portugal. It’s fair to say that new deployments can take time and sometimes even take longer for carriers to rollout than we had hoped. Nonetheless, these new deployments provide us a healthy foundation upon which to grow. We’re continuing to pursue new carrier relationships worldwide, as well as other types of partnerships. Finally, let me provide an update on the Consumer Media business. Our most notable progress in the quarter was to add two senior leaders to the business. In late September, Bill Patrizio joined the Company as President of Consumer Media. Bill is responsible for setting our strategy and execution for Real’s Consumer Media business included our RealMedia HD codec technology. Bill’s extensive background at the intersection of media and technology, his track record for creating value and his personal past with digital media make him a great addition to our senior leadership team. Second, in the beginning of September, we appointed Morris [indiscernible] to be our VP and General Manager of China in charge of our China-based IP licensing business and other operations we may build in China. Morris [ph] has a very deep background in the tech, telecom and IT industries spanning over 30 years. Morris’s [ph] distinguished career includes extensive stints at great companies in our industry including Ericsson, Motorola, Nagravision, Technicolor and Cisco. These two appointments epitomize our dual strategy and continue to focus on the roll out of our next-generation RMHD codec in China, while paving the way for global launch in 2017, leveraging our RealPlayer platform as a foundation for this global launch. We’ll have more to say about these efforts in the months ahead. My final steps of the topic is Rhapsody. Rhapsody continued to make progress on several dimensions. Rhapsody rolled out a series of new product initiatives, including several personalization features and reintroduced the Napster brand into the US market. We were very pleased that the J.D. Power rated Rhapsody the Number 2 music service in the US in terms of customer satisfaction, ahead of both Pandora and Spotify. Rhapsody has also been continued to sign up new business partners, most notably Sprint in United States and Lufthansa [ph] in Europe. While the digital music space remains competitive, Rhapsody’s strategically realigned with the fundamental trends of the music industry. As one of the biggest pure play companies in this space, Rhapsody is well positioned to continue to ride those trends. In sum, I’m very pleased we’d begun to grow Real’s top line revenue as well as dramatically cutting our loss in cash consumption. While I’m disappointed that we are not able to accomplish our third goal of returning to profitability in 2016, I feel that we are fundamentally on the right track. With that, let me turn the call over to Marj to review the financials.

[Marj Thomas:]

Thanks, Rob. Let’s go through the results for the third quarter, 2016. For the third quarter, revenue was $31.1 million, up 4% from the previous quarter and from the third quarter, 2015, excluding revenue from the social casino games business, which was sold in August, 2015. Our revenue stability in recent quarters and now growth in Q3 along with our significant cost reduction steps is reflected in the year-over-year improvement in EBITDA. Our total adjusted EBITDA for the third quarter of 2016 was a loss of $4.4 million, which improved by 59% compared to a loss of $10.9 million for the third quarter, 2015, excluding the results of the social casino games business. We reduced our operating expenses by $6.3 million or 24% in the third quarter, 2016 compared to the third quarter, 2015, excluding stock compensation, restructuring charges and the social casino games business. Our headcount net of increases in the games business has decreased by 85 or 13% since a year ago. These reductions along with a number of other initiatives have helped us move toward rightsizing the business. Let’s look at our quarterly results by our business segments starting with Mobile Services. Our Mobile Services business combines our former Mobile Entertainment product portfolio and Mobile RealTimes products that are sold primarily through mobile carriers and related partners. For the third quarter, 2016, Mobile Services revenue was $17.7 million, up 2% sequentially from the prior quarter and up 7% from the third quarter, 2015. The sequential increase in revenue was due to an increase in our music-on-demand business in Korea and RealTimes. As we explained in our last earnings release, our wins with Telefonica Vivo in Brazil do not start producing revenue until Q4. We have lowered operating expenses related to Mobile Services by $3 million or 27% year-over-year. The segment had a negative contribution margin in the third quarter of $2.8 million. Our plan is to continue to win carrier deals, grow our base of subscribers and drive profitability in this business. Our Consumer Media segment combines the RealPlayer products and the IP video codec, including our new RMHD codec technology. Our Consumer Media revenue was $6.5 million, up 1% sequentially from the prior quarter and comparable to the third quarter, 2015. At the same time, we have reduced the operating expenses related to Consumer Media by $2.2 million or 33% year-over-year. The segment had a positive contribution margin in the third quarter of $1 million. Our casual games revenue was up $6.9 million, up 14% from the prior quarter and comparable to the third quarter, 2015, excluding the results of the social casino games business. Sequentially, the strong growth was driven by our new games released in Q2 and Q3. New releases in Q3 have done well and we have just released the latest Delicious title in time for the holidays. While the segment had a small contribution margin in the third quarter of $167,000, we continue to invest in this segment in order to build our capability to produce even more GameHouse original titles. The remaining unallocated corporate operating expenses decreased by $5 million or 47% in the third quarter, 2016 compared to the same period of 2015. The decrease was primarily due to $3.5 million of lower restructuring charges in 2016 compared to 2015, and reductions in people related and professional services expenses as part of our ongoing cost reduction effort. As to our cash balance, we had $80.7 million in unrestricted cash, cash equivalents and short-term investments at the end of the third quarter. This is an increase of $2 million from our position at the end of Q2. Our cash consumption from our EBITDA loss for the quarter of $4.4 million was offset by $4 million payment received from the sale of the social casino games business. You will recall that $4 million of the $18 million in total proceeds for the business was not due until August, 2016. We also have a remaining $4 million due in August, 2017. In addition to this $4 million in proceeds, we also received an additional of $2.1 million from the sale of a non-strategic asset. And in the fourth quarter, our cash balance will benefit from a recent sale of our remaining investment in [indiscernible] for $3.3 million. As Rob said, we are happy with the stability and recent growth on our top line. While we’ll continue to see seasonal shifts in our gains in our Consumer Media businesses and large carrier deals can take longer than expected at times, we do see a path to sustained long-term growth for the Company. We can see that our efforts to rebalance resources, reduce costs and optimize our investments are also paying off with smaller losses and lower cash consumptions. For the fourth quarter, we expect total revenue of $29 million to $32 million with an adjusted EBITDA loss in the range of $3 million to $5 million. Please note that due to the option exchange programs, we currently expect to incur additional non-cash non-EBITDA impacting stock-based compensation in the range of about $2 million to $3 million. This compensation will be amortized over the next few years. Approximately $3.4 million options are eligible to participate. So for the remainder of 2016 and into 2017, each business unit has a clear agenda driving growth that will lead to sustainable profitability for the Company. Those are our prepared remarks. Rob and I would be pleased to answer any questions now. Operator?

[Operator:]

[Operator Instructions]

[Drew Markham:]

Sorry, operator, are there no questions?

[Operator:]

As of now, speakers, we don’t have questions in queue yet.

[Rob Glaser:]

Operator, would you please repeat the instructions for questions one more time. At least I couldn’t hear you, and I’m not sure if participants could hear you as well. [Operator Instructions]

[Drew Markham:]

If there are no questions, then we will go ahead and end the call.

[Rob Glaser:]

Thanks everybody for participating. Look forward to talking to you in the days and weeks ahead.

[Operator:]

Thank you. And that concludes today’s conference.