Zillow Group, Inc. Class C
Q1 2013 Earnings Call Transcript

Published: 8 May 2013

[Operator:]

Good day, ladies and gentlemen, and thank you for standing by and welcome to the Zillow First Quarter 2013 Earnings Conference Call. [Operator Instructions] As a reminder, today's conference may be recorded. Now my pleasure to turn the floor to RJ Jones. Sir, the floor is yours.

[Raymond Jones:]

Thank you. Good afternoon and welcome to Zillow's First Quarter 2013 Earnings Conference Call. Joining me today to talk about our results are Spencer Rascoff, Chief Executive Officer; and Chad Cohen, Chief Financial Officer. Before we get started, as a reminder, during the course of this call, we will make forward-looking statements regarding the future events and the future financial performance of the company. We caution you to consider the important risk factors that could cause actual results to differ materially from those in the forward-looking statements made in the press release and on this conference call. These risk factors are described in our press release and are more fully detailed under the caption Risk Factors in our Annual Report on Form 10-K for the year ended December 31, 2012 and in our other filings with the SEC. In addition, please note that the date of this conference call is May 7, 2013, and any forward-looking statements that we make today are based on the assumptions as of this date. We undertake no obligation to update the statements as a result of new information or future events. During this call, we will present both GAAP and non-GAAP financial measures. A reconciliation of GAAP to non-GAAP measures is included in today's earnings press release. In our remarks, the non-GAAP financial measure, adjusted EBITDA, will be referred to simply as EBITDA, which excludes share-based compensation. This call is being broadcast on the Internet and is available on the Investor Relations section of the Zillow website at investors.zillow.com. A recording of this call will be available after 8

[Spencer M. Rascoff:]

Welcome. Today, we'll be discussing our first quarter 2013 performance. I'd also like to extend our thanks to those of you who joined our first ever Investor Day in March. We were grateful for the opportunity to speak at length with you about Zillow's strategy and results. To start off, I will briefly cover a few highlights from the quarter. Next, I'll give an update on our priorities for 2013, which consists of

[Chad M. Cohen:]

Thank you, Spencer. First quarter traffic grew 47% year-over-year to 46.7 million average monthly unique users and peaked in March at 50 million. As Spencer mentioned, traffic continued to grow even more into April, with year-over-year growth accelerating to 63% during that month. We posted Q1 total revenue of $39 million, a record, and up 71% year-over-year. One modeling note

[Operator:]

[Operator Instructions] And it looks like our first question will come from the line of Heath Terry with Goldman Sachs.

[Heath P. Terry:]

Great. I appreciate the -- taking the question. I was wondering if you could give us a sense of what you're seeing, how much of the traffic acceleration you feel like you're seeing is from the increase in marketing spend. Obviously, with the plan to set things up further from here, would suggest that it's a significant contributor. And as you think about the sustainability of -- or where you want margins to go longer-term, whether you expect this to be kind of permanent shift in what you see the target model for Zillow being, or is this an investment phase that has more of a limited time horizon to it?

[Spencer M. Rascoff:]

So we've been testing advertising now for 2 quarters. And I can say, unequivocally, it has near-term advantages and long-term advantages. So the near-term advantages are, we've proven in a statistically significant way, to our satisfaction, that it grows audience, it grows shoppers, so a specific types of audience. It also grows lead volumes to Premier Agents. And it increases the affinity that Premier Agents have for Zillow because these agents can't afford a TV advertising on their own and so they view Zillow's ad spend as a way for them to get leverage from their own marketing investment in us. The longer-term advantages, we believe, are brand awareness, which will drive revenue growth acceleration and margin expansion down the road. The question of why do it now, why double-down now, why step on the gas now is clearly, because of the brand white space, because there's just this huge amount of running room in front of us and we think that there's an opportunity now to chase it quickly. We also feel that we have the P&L to support it. We are taking profit and reinvesting in order to push out margin expansion. So even with this stepping on the gas, we're still looking at around $20 million in full year EBITDA, still quite profitable, but in the near-term, we have a P&L to support this type of investment. Your -- the second part of your question is how much of the near-term traffic acceleration is from advertising versus something else in the business? I'll give you 4 numbers here

[Operator:]

And our next question in queue comes from the line of Mark Mahaney with RBC.

[Mark S. Mahaney:]

Let me ask 3 questions, please. First, how much of the growth, do you think, is there a way to attribute to the recovering housing market? In other words, can you see in those geographic areas where housing prices seem to be building up that you're seeing greater traffic growth? Second, how much of your increase spend this year is due to a sales force buildout, or is it really all primarily driven by advertising ramp up? And then third, any new thoughts on your ability or willingness to charge a premium for mobile solutions for real estate professionals?

[Spencer M. Rascoff:]

Thanks, Mark. I'll take macro housing and Chad will take the second 2. I think of macro housing as a nice gravy for us. It's a tailwind. So we grew incredibly quickly through the downturn. We're growing incredibly quickly through the upturn. And it's -- we're benefiting from it because Asians are feeling more bullish about their prospects and choosing to invest more in advertising, but I don't think it's what's driving the business. I think it's gravy, is the way I would describe it. Chad, on sales headcount and marketplace revenue?

[Chad M. Cohen:]

Yes. So if you back out the assumptions that we gave you on our prepared remarks with respect to the investments we're making in advertising, we're continuing to also step on the gas in terms of building out the sales platform, adding sales heads, sales support, account management across both our teams here in Seattle and in Orange County as well. So there's a significant number of sales heads that we'll continue to add through the year in the third and fourth quarters. So we're in no means stepping off on our investments there. And then with respect to your last question, in terms of charging a premium for mobile. Well, I think that's really already baked into the pricing that we charge for our Premier Agents subscriptions. We take into consideration housing values, local market dynamics, contact rates, submissions and everything we know about mobile in our pricing. And all our agents, in fact, are part of our mobile platform. So we're the one platform out there where we can say 100% of our agents are mobile.

[Spencer M. Rascoff:]

So we'll take 2 questions from Twitter now. One, first one, from Michael Graham at Canaccord Genuity, which is at CG_Internet. Michael asked

[Operator:]

And our next question on the phone line comes from the line of Dan Kurnos with Benchmark Company.

[Daniel L. Kurnos:]

Just a point of clarification. Does the guidance that you've now provided include all of the benefits of that increase in spend? And if so, it kind of seems to imply sort of a declining ROI, at least initially, on your marketing spend since you seem to get some pretty good operating efficiencies in Q1. So we maybe your thoughts there. And then secondly, is there any concern that as you continue to add all of these traffic that conversion rates might decline and that might ultimately put pressure on pricing?

[Spencer M. Rascoff:]

I'll take the first one and then I may need a clarification on the second on. So the short answer is yes. The updated revenue guidance of $180 million at the midpoint assumes our increase in advertising. It's important to understand that this is not an eCommerce funnel in terms of advertising. An eCommerce company spends out -- spends on advertising, it grows traffic and then there are transactions at the bottom of the funnel and they have some profit from it. For us, when we advertise, we get more impressions in a given zip code. Well, now there's more inventory to sell, the sales team have to go sell those impressions either to new Premier Agents or existing Premier Agents, that's on a 6-month contract and then the revenue kind of flows through on a subscription basis. So it's not quite as dramatic, the flow through -- or no, as a media flow through, I'd say. The reason that we're -- the primary reason that we're advertising is to grow brand awareness for the company over the medium-term and the long-term. And we think that will make Zillow a must-buy for real estate agents and mortgage lenders, 1, 2, 3, 10 years from now. So it's terrific to have near-term benefits from increased audience, increased shoppers, increased contact volumes and better affinity between advertisers and Zillow, but it's really more about the medium-term and long-term and that's why it's not a dollar-for-dollar increase between ad spend and revenue, for example. On the second question, Chad, did you...

[Chad M. Cohen:]

Yes. I think what you're trying to get at is what we see -- is there going to be any compressions in terms of conversion rate. I would just say that conversion is really a function of how well these Premier Agent work the contact that we send them. It's about developing a systemized approach to the platform that we give them in terms of their subscription, what they do with their Premier Agent website, how they use the CRM features. And we're continuing to invest very heavily in Pro Tools, and Spencer outlined some of those investments and features that we laid out and released in the quarter, to help Premier Agents do a better job in converting those contacts to closes transactions. So no, we don't expect that conversion rates will decline as a function of the increased advertising. Next question, operator?

[Operator:]

Our next question comes from the line of James Cakmak with Telsey Advisory Group.

[James Cakmak:]

Could you comment on the broader strategy, on the advertising, in terms of the markets that you want to target? Is this going after -- is this across-the-board, essentially, in every market, or are you trying to raise awareness in certain strategic geographic areas where relative traffic may be lower? And then, perhaps, if you can comment on the quality of that traffic. Are you seeing the engagement rates are equal or higher than the traffic that you were getting before the campaign began?

[Spencer M. Rascoff:]

It's national advertising and it is because there's a huge opportunity to for -- to raise brand awareness. Yes, we're measuring and pleased, very pleased, with not just the traffic that advertising is driving to us, but the type of traffic

[Chad M. Cohen:]

Yes. I think I'll take that one, Spencer. So as I mentioned in my prepared remarks, increased traffic from the investments that we're making, from organic investments that we're making in the product, increase our impression inventory. It increases our capacity. We then have to go out and actually sell that inventory to existing or new Premier Agents. So the revenue recognized, as a result of growing the traffic, you won't see until outer quarters. So in a near term, in the short term, you will potentially see growth in traffic as we continue to grow our feature set, grow our emerging marketplaces, investing our audience, outpace near-term revenue growth. But as we continue to grow out the Premier Agent platform, as we start to monetize some of these emerging marketplaces further out, you will definitely see monetization start to keep pace with or outpace, traffic growth over the long-term.

[Spencer M. Rascoff:]

Next question, operator, from the phone, please?

[Operator:]

Our next question comes from the line of Ron Josey with JMP Securities.

[Ronald V. Josey:]

I wanted to ask about -- a little bit about ARPU, which at $2.59, as you pointed out, was slightly lower year-over-year. I understand it's an output and newer Premier Agents typically start at lower impressions and more agents are actually added later in the quarter. So I'm wondering if this lower ARPU is a direct result of a shift to impressions as we trade off market share gains with pricing, and as newer agents come on, maybe there might not be sufficient impressions for specific zip codes. I guess the question is, wondering if this is sort of a new level set for pricing. And then just the second one on 2Q, wondering if there, historically, is any sort of one month that's stronger than the other in terms of net adds and wonder if we see a similar sort of pattern here as we did in 1Q.

[Chad M. Cohen:]

So Ron, this is Chad. We've got plenty of inventory. Moving to the impression-based pricing model, lifted the ceiling over our head quite a bit with being able to realign our capacity with our traffic growth. So it's definitely not a function of that. And ARPU to us is not a proxy for pricing. Pricing is set at the local market level, it's based on local market dynamics. And really, it was simply a function of adding a lot of more Premier Agents towards the end of the quarter. Where you have these agents in the denominator for the quarter, but the revenue related to those agents, you aren't going to see until you get further into the contracts, in the second and third quarters.

[Ronald V. Josey:]

And in 2Q, is this sort of linear -- if you -- if there's been enough history to know that or something that is...

[Chad M. Cohen:]

Yes. There's not enough history to know that at this stage. And we're not providing any sort of guidance with respect for ARPU for Q2.

[Spencer M. Rascoff:]

Operator, next question, please.

[Operator:]

Our next question comes from Chad Bartley with Pacific Crest.

[Chad Bartley:]

Just a follow-up to the previous questions. Because I know you don't focus on ARPU, but given the strength in the market, the successful model transition, accelerating user growth and, obviously, strong impression, how do you think about pricing power and managing pricing and potentially raising those prices during future renewal periods? How should we think about that longer-term?

[Chad M. Cohen:]

I'd say, it's -- so we price all newly sold impressions at what we believe market price to be. When agents come off contract, we don't necessarily move them to the new pricing right away. And you've seen that in the past quarters because the team's focus is on selling new impression, either to new PAs or existing PAs. But so, I guess, I'd say now that we're on a fixed impression model, we don't -- we won't end up again with the huge disconnect that we once had, where the ROI that someone is getting 6 months later, 6 months after buying the initial package of inventory, is dramatically different than the way that we had priced it initially because traffic is growing. But I'd say -- your question was kind of where is the strategy at with respect to price changes and I would say, if faced with a strategic choice between selling new impressions to a new PA and letting an existing PA kind of sort of drive-by on historical pricing on a CPM basis, I would accept that trade-off for sure. Said another way, we walked through ROI at Investor Day and we showed that we believe that most PAs who convert our leads are getting around a 10x ROI. And I've said that, I think, long-term, that could probably be in the 1x to 2x ROI; i.e. choose pricing power over the long-term. But that is not a priority, closing that ROI gap, if you will, increasing pricing on [indiscernible] basis in order to lower their ROI, that is not the priority. The priority is growing Premier Agents count and selling more impressions rather than dramatically changing the ROI.

[Chad Bartley:]

Okay. That's very helpful. And just a quick follow-up. Are you still offering the, I think, $50, the Gold plan? Is that also in there and kind of skewing the reported ARPU?

[Spencer M. Rascoff:]

Yes, we are. The mix of the Premier Agents, in terms of the Silver, Gold and Platinum level, still represent -- they're roughly comparable to prior quarters. So we haven't seen any huge mix changes there in terms of what we're selling. The sales team is still very focused on selling the premium Platinum product from which they -- which is our subscription product, which has the most benefits. So no real changes there.

[Chad M. Cohen:]

We'll do 1 or 2 quick Twitter questions. [indiscernible] asked

[Operator:]

[Operator Instructions] Our next question in queue comes from the line of Brad Safalow from with PAA research.

[Bradley G. Safalow:]

I just wanted to walk through the calculus again on the marketing expense side. Chad, I think you said that 8% -- or assuming without the marketing increase, OpEx would have been up 80% year-over-year. Is that cash OpEx or total?

[Chad M. Cohen:]

That's total OpEx.

[Bradley G. Safalow:]

Okay. And then from that spend, you're talking the another $5million-plus per quarter throughout the year?

[Chad M. Cohen:]

Well, not exactly. We haven't really given you the seasoning of that spend. But the strategy is generally to spend when shoppers are more engaged. So you should have that baked into your model. And typically, we see the shopping season peak between the second and third quarters.

[Bradley G. Safalow:]

Okay. And then in terms of creative, is it going to be totally focused on the purchase market?

[Chad M. Cohen:]

Yes.

[Bradley G. Safalow:]

Okay. And what has been the reaction from the brokerage community? I'm not talking about the agents, the brokers.

[Spencer M. Rascoff:]

I think the reaction from the brokers community has been -- I don't know. I'm not sure there's been much reaction from the real estate industry, from the real estate brokerage community. I think individual agents love it. I haven't -- I don't think there there's been much.

[Bradley G. Safalow:]

Okay. And I don't know how you guys think about this, but I'm curious to hear your thoughts. You're spending quite a bit of money to drive traffic growth. Given the velocity of home sales in the country and you have 52 million uniques, I don't know how many actual individuals that is, but what is the upper bound, in your view, on traffic, and how do you think about it in terms of that upward bound, what your peers might be getting in terms of their own uniques and how you think about your ad spend?

[Spencer M. Rascoff:]

So I don't know what the upward bound is, to be perfectly candid. I -- when I look internationally -- I guess, there are 3 ways that I'll try to answer that

[Bradley G. Safalow:]

Okay. So your thought process is not around, okay, here is the adjustable market and audience. It's more I'm pushing on the spend and I'm getting a favorable ROI. And until that changes, you'll continue to increase marketing?

[Spencer M. Rascoff:]

Yes. I would -- I'd mostly agree with that. I guess, I would -- let me just make one sort of clarifying point, which is, we control this on a near-weekly basis. I think sometimes there's an impression that when you do TV advertising, for example, it's this kind of lump sum that you spend on January 1 and you kind of can't change anything during the course of the year. So yes, I agree with the way you've just characterized it, but it's much more near-term control. We're looking at metrics constantly, both metrics that are near-term, as well as metrics that we think are leading indicators for longer-term result. And we'll increase, decrease or stay the same as we go. So, let's see. We'll do a quick Twitter call from @classifiedtiger

[Operator:]

[Operator Instructions] Presenters, at this time, I'm showing no additional phone line questions. I'd like to turn the program back over to Spencer Rascoff.

[Spencer M. Rascoff:]

Okay. I'll end with the last question from Twitter, which is [indiscernible] from Add Intangible Value

[Operator:]

Thank you, presenters. Again, ladies and gentlemen, this does conclude today's conference. Thank you for your participation and have a wonderful day. Attendees, you may disconnect at this time.