Zedge, Inc.
Q3 2020 Earnings Call Transcript

Published: 11 Jun 2020

[Operator:]

Good afternoon, and welcome to Zedge's Third Quarter 2020 Earnings Conference Call. [Operator Instructions]. In today's presentation, Elliot Gibber, Zedge's Interim Chief Executive Officer; and Jonathan Reich, Zedge's Chief Financial Officer and Chief Operating Officer will discuss Zedge's financial and operational results for the 3-month period that ended on April 30, 2020. Any forward-looking statements made during this conference call, either in the prepared remarks or in the question-and-answer session whether general or specific in nature are subject to risks and uncertainties that may cause actual results to differ materially from those which the company anticipates. These risks and uncertainties include, but are not limited to, specific risks and uncertainties disclosed in the reports that Zedge files periodically with the U.S. Securities and Exchange Commission. Zedge assumes no obligation either to update any forward-looking statements that have been made or may make or to update the factors that may cause actual results to differ materially from those that they forecast. Please note that the Zedge earnings release is available on the Investor Relations page of the Zedge website. The earnings release has also been filed on a Form 8-K with the SEC. I would now like to turn the conference over to Mr. Elliot Gibber.

[Elliot Gibber:]

Thank you, operator, and thank you all for joining us today. Welcome to Zedge's Third Quarter Fiscal 2020 Earnings Conference Call, recapping the 3 months ending April 30, 2020. Joining me today is Jonathan Reich, our Chief Financial and Chief Operating Officer, who'll provide additional insight into the numbers that we reported earlier this afternoon. For those of you who are now new to Zedge, I'll take a moment to tell you a little about the company. We're one of the leading providers of mobile personalization content focused on offering consumers a rich array of high-quality wallpapers, video wallpapers, ring tones and notification sounds. Our flagship app, ZEDGE Wallpapers & Ringtones, has more than 436 million organic installs and 29 million monthly active users. We monetize by selling in-app advertising, offering paid subscriptions through Zedge Premium, our marketplace which enables license holders to sell their digital content to our consumers. Our user base consists mostly of Android users and approximately 31% of our users are located in well-developed economy. In December 2019, we completed the rollout of new stand-alone entertainment focused app, Shortz - Chat Stories, by Zedge, which we expect to help us and extend our presence in the world of entertainment. Today, Shortz provides serialized short-form fiction stories rendered in a text messaging like format. It goes without saying that fiscal Q3 was atypical in many ways. We started the quarter in a great note with improving metrics and steady progress in several areas, including the rollout of Shortz beta. In early March, the impact of the pandemic and the related restrictions grew, our business started facing many challenges. Initially, advertising rates dropped precipitously as budgets were cut. At the same time, a rapid decline in new handset sales fueled a decrease in MAU. Furthermore, Shortz, whose KPIs were improving week-over-week, also suffered with prospective subscribers pulling back, likely due to the financial uncertainty. In response to those -- these challenges, we instituted a hiring freeze, started negotiating with vendors for concessions and materially reduced discretionary spend. We also prioritized projects focusing on revenue expansion and cost reduction with the recognition that this would push our various product initiatives for both our flagship app and Shortz beta. Recalling that one of our key goals for the year is being cash flow positive, I think it's commendable that even in an exceptionally difficult market, we reported our third sequential quarter of positive cash flow. Aside from the tactical efforts described, we have also been exploring ways to adapt and capitalize on new market reality. To this end, we are innovating across our current product portfolio as well as exploring new opportunities that can help in further diversifying our business. We accelerated the development of our messaging platform in order to more effectively market and to convert freemium ZEDGE Wallpaper & Ringtones using -- users into paying subscribers. We've also been looking at ways in which we can partner with the aspiring musicians and bands to promote and produce virtual concert that not only allow these artists to make a living but also benefit those suffering from COVID misfortune. When it comes to Shortz, we've initiated testing of various marketing strategies that we believe can expand acquisition funnels and maximize paid conversion. Suffice it to say that we are monitoring market conditions and trends examining different opportunities weighing the risks and acting on those that we can test with relative ease while still doing our best to maintain positive cash flow. I would like to provide a brief update about Shortz. As mentioned earlier, the key performance indicators we've been using to measure the success of this beta, mainly conversion, average revenue per subscriber and churn were either on track to meet or ahead of those minimum thresholds that we set prior to the onset of the pandemic. Following the breakout, churn increased to an unacceptable level. Aside from testing new marketing programs that may change this dynamic, we also accelerated the development of new monetization mechanisms, including in-app purchases in order to improve this critical metric. From a product development perspective, we expected to introduce Shortcastz, the additions of the short stories on podcast in May, but due to the pandemic, we haven't been able to enter recording studio. As of now, our best guess is that this initiative will be rolled out in the fall. Furthermore, in light of current conditions and short-term outlook, we slowed down the pace of which we release new stories in order to better maintain our cash position. All in all, this means that we will need until the end of calendar 2020 to access the long-term viability of this beta. Before handing the call Jonathan, who will provide an overview of the quarter's financial results, I want to compliment the team for doing an excellent job despite the virus-related challenges. Recall that with little warning employees working in 3 different countries seamlessly adapted to work-from-home scheme, addressing a multitude of challenges, including downward pressure and revenue and active users' engagement and still were able to generate positive cash flow. We did this all with the total of the head count of 39 compared to 61 at the same time last year, which speaks to the dedication and commitment that our team has to the business. I am very impressed. Now I'm going to turn the call over to Jonathan. Thank you.

[Jonathan Reich:]

Thank you, Elliot. My remarks today will focus on our key operational and financial results for the third quarter of our fiscal year 2020. For a comprehensive and detailed discussion of our results, please read our earnings release, which we issued earlier today and our Form 10-Q, which we expect to file with the SEC tomorrow. Following my comments, we will open the call to any questions that you may have. Throughout my remarks, the third quarter refers to February through April 2020, and comparisons are to the corresponding period in 2019 or our second quarter, which was November 2019 through January 2020. Monthly active users or MAU, that is the number of unique users that opened our app during the last 30 days of the quarter, decreased 15.4% to 28.8 million during April 2020 from 34 million in the corresponding period a year ago. We believe that part of this decline is directly correlated to the drop in smartphone sales resulting from COVID-19. It is common for consumers to install and engage with Zedge after purchasing a new handset. This accelerated the drop of MAU in well-developed and emerging markets by 28.7% and 7.6% in Q3 of fiscal 2020, respectively. Total revenue in the third quarter increased 8.7% to $2.1 million compared to the year ago quarter and declined 21.4% when compared to the prior quarter. The sequential drop was primarily impacted by advertising budgets being pulled due to the pandemic, partially offset by growth in paid subscriptions. Zedge Premium's gross transaction volume or GTV, that is the total sales volume transacted through the platform was $150,000 in Q3 compared to $159,000 a year ago and $197,000 last quarter. GTV fell by 5.7% on a year-over-year basis and declined by 24% on a sequential quarter basis. As mentioned last quarter, this decline is likely a result of both allocating promotional inventory to marketing Shortz and the redesign of our app's homepage, which will enable improvements in content discovery and recommendations, social and community features and the potential for new content and genres. Until this effort is completed, Zedge Premium GTV and revenue will likely face pressure. I should add that due to our hiring freeze, the anticipated completion date for this project may be delayed. Paid subscriptions also grew materially, approaching close to $400,000 at the end of the quarter, a fivefold increase of 567% year-over-year and a growth of 31% on a sequential quarter basis. Paid subscriptions have generated cumulative gross revenue of $2 million since their introduction in January 2019. As you recall, when a freemium user converts into a paid subscriber, Google takes around 30%, which shows up in SG&A. However, if a subscriber renews their subscription from and after the 13th month, Google lowers it fees 15%. Currently, we are seeing annual renewal rates surpassing 40%. Overall, average revenue per monthly active user generated from our apps, or ARPMAU, increased 32.8% and to $0.022 year-over-year while falling 16% sequentially. The year-over-year improvement is primarily attributable to growth in paid subscriptions, whereas the sequential quarterly decline is due to a combination of COVID-related challenges, coupled with seasonality relating to lower ad budgets in the first 3 months of the year. Direct cost of revenue in Q3 was $289,000 or 13.9% of revenue, representing an 18.2% decrease from $353,000, which represented 18.4% of revenue in the year ago quarter and 11.6% of revenue in the previous quarter. We expect absolute direct cost of revenue to decline as we complete the platform migration project mentioned earlier. SG&A in the third quarter was $1.6 million, a 31.5% decrease compared to the year ago quarter and a 17.2% decrease compared to the prior quarter. The decrease primarily relates to lower compensation costs and discretionary spend, offset by increases in the Google fee on paid subscriptions and Shortz content acquisition expense. The U.S. dollar surged to historical highs against the Norwegian kroner this quarter, which also contributed in part to the overall decline in SG&A as the majority of the company's employees are based in Norway. Loss from operations in the third quarter was $127,000 compared to a loss of $1.1 million in the year ago period and income of $80,000 in the prior quarter. Net loss per share improved to $0.03 and from a loss of $0.12 in the year ago quarter but fell compared to income of $0.01 in the prior quarter. At April 30, we reported $4.6 million in cash and cash equivalents compared to $2.2 million a year earlier and $2.3 million at January 31, 2020. The increase in cash over the prior quarter was driven primarily by net proceeds of $1.9 million from our registered direct offering in early February and positive operating cash flow. We generated cash flow from operations of $658,000 in the third quarter compared to a loss of $65,000 in the year ago quarter and $573,000 last quarter. I would like to add that this is our third consecutive quarter of positive cash flow. Zedge has no outstanding debt. We have access to a revolving credit facility of up to $2.5 million from Western Alliance Bank, if needed. In conclusion, while we faced many challenges and uncertainties this quarter as a result of the global pandemic, we were able to manage the business to generate positive operating cash flow, which was an improvement over the prior quarter and also the year ago period. Major key performance indicators during the quarter were mixed. We experienced downward pressure in our number of MAU and revenue. Our ARPMAU saw a material improvement in the quarter, and we were able to lower our SG&A costs. The Shortz beta was curtailed because of the pandemic, although we remain excited by the opportunity. Generally, we are optimistic about where the business can go when we get through the other side of the COVID tunnel. Our team's performance in the wake of a once in a lifetime black swan event is noteworthy. Some innovative opportunities are being analyzed, and we hope to report back to you about new paths to expand our business in the upcoming quarter. I hope that each of you remains safe and enjoy the summer. Operator, back to you for Q&A.

[Operator:]

[Operator Instructions]. The first question comes from Allen Klee with National Securities Corporation.

[Allen Klee:]

Yes. So obviously, we're in unprecedented times. But with the opening of the economy, I don't know if you're comfortable just saying if you've seen anything subsequent to the quarter end in terms of anything different in terms of advertising and monthly average users?

[Jonathan Reich:]

Allen, thanks for the question. Yes, so the opening economy at this point has not been something that we have been able to measure specific to our business. As I indicated in my comments, one of the user patterns for Zedge is that when a consumer purchases a new phone, that one of the early things that they do is download the app. And with retail sales down, those new phone purchases have been pushed out into the future. Having said that, what we are seeing early into Q4, which we're in the middle of right now, is that there has been a shift in advertising. Clearly, there has been a significant pullback from brand advertisers whether it be from travel, hospitality, all the normal ones that you would expect are going to pull back because of the travel restrictions and the like and the impact on retail. Having said that, we've seen an uptick in terms of performance-based advertisers. These are essentially direct marketers that are focused on acquiring customers that will download apps. And we have to see whether or not that holds up through the summer accordingly. In terms of monthly active users, really hard to say at this point because part of that equation relates to new phone sales. So as the economy opens up, in a more tangible way with respect to retail shopping, we'll have greater clarity around that.

[Allen Klee:]

Shortz seems like it could be a very good opportunity long term. We understand that some of the temporary delays. Have you ever said anything? Or are you comfortable saying anything about kind of the measure -- how it was tracking? What performance indicators you were looking at? And maybe how you think about what the opportunity could be?

[Jonathan Reich:]

Sure. So we haven't gone into that in the past. Having said that, we're looking at conversions, we're looking at revenue per user, and we're looking at churn as those are the sort of three key performance indicators that will help us in terms of measuring the health of the business. In terms of what we see with the business, we're really trying to build a comprehensive ecosystem here, focused around short-form content. And I guess, the best metaphor would be to look at this as being a 3-legged stool. Leg 1 is short-form content delivered in-app via text. And the implementation that we have today is through a chat interface, but we're not limited to that. It could be just regular written pros, but again, serialized short form, fictional and the like. Leg 2 will be taking this content and availing it in an audio format, what we call Shortcastz. And we will avail that content, both in-app as well as syndicate across third-party platforms. And obviously, if you've been watching the world of podcasting, it has experienced some very, very healthy growth over the course of the last year. And the notion of short-form fictional podcasting is in its very, very early stages. So we think that if we have some great content that could position us in a really, really good spot for both consumption as well as user growth. And then leg 3 of that 3-legged stool metaphor is availing this content as short-form video. And that will be something that we will talk about and move forward with presumably in 2021. But the least common denominator is ultimately providing ubiquity so that a user can consume this content independent of where they are and what they're doing. So if they get up in the morning and read an episode and then they hop on their bike to ride to work, well, they've got their headset on, they can listen to the second episode in that series. And if they're enjoying lunch or a drink after work and want to watch the next episode, we avail it to them accordingly. So we're pretty excited about where we think this can go. And then there are other opportunities in the event that this content begins to trend, that opens up the door potentially for further exploitation, whether it be a television, movie, book, game, whatever the case may be. But again, that sort of forward thinking and we're working right now on really making sure that the next leg is the podcasting piece for what we call the Shortcastz.

[Allen Klee:]

No. That's great. I'm a big fan of podcasts. My last question, you've been doing very well with your subscription offerings. How do you think about what penetration -- what's a reasonable assumption of the penetration of your users that might take up subscription?

[Jonathan Reich:]

It's a good question. We haven't shared that number yet. And we have several product initiatives underway that we expect will improve our position from where we are today, even though we're really happy about where we are. But I would say, later this year, we can begin to get more specific about where that goes and how the numbers sort of back into that from a modeling perspective.

[Operator:]

[Operator Instructions]. This concludes our question-and-answer session and conference call. Thank you for attending today's presentation. We thank you for your participation. You may disconnect your lines at this time, and have a great day.