Marchex, Inc. (MCHX) Q2 2020 Earnings Report, Transcript and Summary

Ladies and gentlemen, thank you for standing by, and welcome to Marchex Second Quarter 2020 Earnings Conference Call. At this time, all participants are in a listen-only mode. After the speaker presentation, there will be a question-and-answer session. [Operator Instructions] I would now like to hand the conference over to your speaker today, Mr. Trevor Caldwell, Senior Vice President of Investor Relations and Strategic Initiatives. Thank you, sir. Please go ahead.

Thank you, Katherine. Good afternoon, everyone, and welcome to Marchex's business update and second quarter 2020 conference call. Joining us today are Michael Arends and Russell Horowitz. Before we get started, I'd like to take this opportunity to remind you that our remarks today will include forward-looking statements, including references to our financial and operating performance, and actual results may differ materially from those contemplated by these forward-looking statements. Risks and uncertainties that could cause these results to differ materially are set forth in today's earnings press release and in our most recent annual and quarterly report filed with the SEC. Any forward-looking statements that we make on this call are based on assumptions as of today, and we take no obligation to update these statements for subsequent events. During this call, we will present both GAAP and non-GAAP financial measures. The reconciliation of GAAP to non-GAAP measures is included in today's earnings press release. The earnings press release is live on the Investor Relations sections of our website. At this time, I'd like to turn the call over to our Mike Arends, our Co-CEO and Chief Financial Officer.

Thank you, Trevor. Good afternoon and thank you everyone for joining us today. With the COVID-19 global pandemic still in full force throughout the second quarter and continuing today, the environment for many of our customers remains fluid. From March through early May, many of our customers were significantly disrupted from shutdowns. This was followed by a rebound in many categories beginning in mid-May that stabilized through the end of June. As States began to reopen COVID-19 remained a threat to businesses across the verticals we service from travel to auto to education. However, as we focused on supporting our customers who were re-emerging from shutdowns, we noticed that pent up consumer demand positively affected sales conversations in the latter half of the quarter. Our conversational data showed patterns of economic activity picking up in critical areas such as Auto Service repair shops and in the dental services industry where appointment volumes rebounded substantially in June. Other categories such as hospitality and senior living, despite still being significantly disrupted, also saw additional increases in sales conversations, although to a lesser extent. While many customers drove more business than anticipated into the end of the second quarter, we view this uptick with caution. In fact, although June is typical -- although July is typically a high seasonal point of the year for us with analytics volumes, in recent weeks, we've seen declines and certain categories more affected by the recent surges in COVID-19 cases. Many customers overall sales conversations remained down on a year-over-year basis. Furthermore, given the prevailing uncertainty for the rest of the year, many customers are adjusting their cost structures, and it will no doubt take an extended period for them to return to normalized operations. As we do everything we can to support our customers through this period, our company remains focused on three key initiatives. The first is making progress with product innovation, including those initiatives that can most help our customers and prospects close more sales. We believe there is a significant long-term opportunity for conversational analytics and sales engagement solutions. Despite the challenges in today's environment, we continue to see strong interest in deploying sales technology to help businesses understand the voice of the customer, across the most important consumer to business communications channels, voice and text. Some of our customers and prospects are using this window of disruption to evolve their operations and operational approach. Auto OEMs, for instance, are asking us to accelerate our long-term product planning. These customers are reimagining the customer selling experience and the relationships they will have with their dealerships. And they are doing this by increasingly leveraging conversational data to help put new programs in place to grow vehicle sales. Many are leaning on Marchex to help give them a better view of sales performance at the dealer level, and on a more granular level performance by individual sales representatives. As part of this initiative, some of our Auto OEM customers are expecting to launch new product pilots this year. We're nurturing these relationships and believe we will see our efforts bear fruit in future periods. And we believe auto as a category will be a key driver of our growth over the long-term. Second, we will continue our focus on infrastructure initiatives. This will help us drive future innovation and support long term cost efficiencies. We're investing significantly in growing our conversational intelligence capabilities. To be more specific, we are upgrading our capabilities to mine conversational data and moving to real time conversational intelligence. All this while supporting more efficient scaling in our cloud based infrastructure. These investments will enable Marchex to take advantage of our industry leading conversational data set. In fact, Opus Research, which is a technology analysis firm recently issued a report showing the conversational intelligence is key to bolstering the lifetime value of each customer. Opus cited Marchex as the leader in our innovation in this area positions us well to help our customers solve an increasing array of critical problems. And finally, we are strategically exploring options to focus the business on conversational analytics and sales engagement solutions. This is part of our evolution to grow and redefine our business. Now let me hand the call over to Russ to talk about this in more detail.

Thanks, Mike. In today's separate 8-K filings, we described how we are pursuing a strategic path to focus the company on conversational analytics, and sales engagement solutions. Over the past three years, we have taken several steps to redefine our opportunity and business model by solving an increasing array of critical problems for businesses that are looking to introduce artificial intelligence solutions into their sales engagement processes. Marchex has a wealth of data to deliver real time insights to help businesses close more of their sales prospects. The transport AI assisted selling is real and Marchex is ideally positioned to be a leader in this market. Despite the disruptive economic climate and all the current uncertainties, we do see a consistent message from our customers and our prospects. They have a strong desire for solutions that provide a unified view of conversations over the phone and via text in a way that empowers them to create better customer experiences and sales outcomes. Third Party industry research firms are seeing how these types of solutions can change the game of growing customer acquisition and loyalty. In the report that Mike mentioned earlier, Opus Research found that call recording and chat transcripts can be aggregated into a single source of truth that informs live or virtual sales representatives as they assist individuals to complete their desired tasks. The report also found that companies that build technology around purpose driven analytics of content and meta data to support their customers business goals have successfully established leadership in this emerging category. Marchex been named a leader is an important forward indicator in this dynamic market. Today Marchex can solve mission critical problems for our customers and focusing on this market is foundational for all of our investments and innovations. And looking at our customer sales processes. Their prospect conversations that occur over time and are omni channel, including email, phone conversation, text interactions and social media. Marchex offers customers a unified way for them to capture these conversations, and their most critical mobile channels, phone and text, recordings and transcripts are a rich source of conversational intelligence. And having more than 1 billion minutes of sales conversational data is another point of significant differentiation for Marchex. Today, the type of intelligence we provide is largely missing in prospects and customer records. Marchex has a significant opportunity to close the loop of prospects engagement, as well as offer rich sales engagement solutions. Today's strategic announcement represents an important step in our process. We continue to evaluate many scenarios, including looking at our cost structure to help ensure long term flexibility. And given the persistence of COVID-19 and its crisis, we will continue to explore initiatives that could potentially help us accelerate our market leadership and capture additional opportunities arising from these turbulent conditions. And with that, I'll hand the call back to Mike.

Thank you, Russ. For the second quarter revenues were $25.8 million similar to the first quarter, the second quarter was characterized largely by the events of the COVID-19 pandemic. New business remains largely disrupted in the quarter as many prospects or customers are putting off deployments of new sales technology, though interest remains active. And as a result, the second quarter was predominantly characterized by trends with existing customer volumes. On that basis, it was largely a tale of two halves with significant call volume disruptions in April, extending the March trends with those disruptions continuing into early May, followed by a rebound in the second half of the quarter. As the country slowly began reopening in May, many of our customers saw progressive increases in call volumes and sales, which steadied in June. Appointment rates in categories like auto services, dental, and even auto car sales, saw meaningful increases from the April period. As car dealerships, dental offices, hotels and small businesses started to reopen, we witness sales calls progressively increasing region-by-region. While each vertical has a different dynamic, and a portion of the volume recovery came as a result of consumers calling to inquire about such things as hours of operation in looking at the conversational data, it is clear that a two month hiatus in business availability for critical services led to some pent up demand that seems to manifest progressively in the second half of the quarter. Other verticals like hospitality and Senior Living saw smaller lift in June, but remain significantly disrupted. It's also worth noting, however that despite the rebound sales call volumes overall for many of our customers remains down on a year-over-year basis, and several have had to adjust their operational and financial planning as a result. Other items of note during the quarter. First, due to the ongoing COVID-19 impact on their business and financial position, a large auto related customer is continuing to adjust their operational framework and cost structure in efforts to remain viable. This was a customer we reserved for in the first quarter. Although we were fortunate to collect balances from them during the second quarter, we believe we will take a similar action for a portion of the third quarter due to the changing dynamics of their business. COVID-19 crisis has severely curtailed the amount of investment they're going to make in their operations in 2020 and 2021, and require them to significantly address their ongoing cost structure, and will result in a different go-to-market approach for future technology deployments. We expect this will reduce our core analytics and solutions revenue stream by approximately $3 million on an annualized basis by the end of the third quarter. Upon successful revitalization, we believe there will be prospective opportunity for us with this customer. However, these COVID related impacts have had an unfortunate near-term impact. Despite this instance, As previously stated, overall, we have seen encouraging engagement from our OEM partners over the last few months and continue to believe the long-term opportunity in auto is robust and it can be a driver of our growth over the long term. Second, included in the second quarter in core analytics and solutions revenue results is the recognition of $800,000 that was reserved for at the end of the first quarter based on COVID-19 impacts. And as noted the vast majority of this, we do not expect to contribute on an ongoing basis beyond the third quarter. Third, as we mentioned on our last earnings call, during the second quarter, we provided a series of options to support our customers, including discounts, payment timing and other relief, and in certain cases waive minimum package limits. We also had additional customers experience bankruptcy or radically curtail their operations. We've had a handful of customers significantly impacted by the pandemic for whom we expect in the third or fourth quarters to provide incentives or credits that could total up to $1 million. These incentives or credits discounts have not been reserved to date. Many of these latter items will have some level of permanent impacts. Although we do not currently believe that the magnitude of these customer initiatives or shutdowns related to the pandemic detracts materially from our long-term opportunity. Today's environment remains highly fluid, and there's still a wide range of outcomes for the year. But we are committed to doing what we can to support our customers while they navigate through this period. And now let's look at the product areas more closely. Core analytics and solutions revenue was $12.5 million for the quarter, which as previously noted, included the benefit of recognized revenues that were reserved at the end of the first quarter. Excluding this benefit, core analytics and solutions revenue would be approximately $11.7 million. Despite the new COVID-19 reality that is inherently driving uncertainty for all of us, including our customers, we continue to see progress with our analytics products and solutions and believe this will benefit Marchex in the long-term. While the sales rescue existing pipeline remains delayed and certain pilots continue to be deferred or extended, various customers are beginning to take steps to bring back furloughed staff, and we're continuing to see engagement with prospective deployments. So, timing is still uncertain given the broader climate. And looking at the marketplace, second quarter revenue was up slightly on a year-over-year basis, offset by the expected decline from the legacy local leads platform. We have a handful of marketplace customers that accelerated spending slated for the latter half of the year into the second quarter. During the quarter we also saw marketplace initiatives with our thrive relationship maintained similar levels on a year-over-year basis, including the continued decline in the legacy local leads product. We continue to anticipate local leads will transition in the near future consistent with our prior commentary. We expect some modest contribution may extend through the next few months. And then looking at the P&L for the second quarter, excluding stock based compensation, amortization of intangible assets, and acquisition and disposition related costs total operating costs for the second quarter were $28.7 million, compared to $25.7 million in the second quarter in 2019. Service costs were $15.2 million, up from $13.9 million in the second quarter of 2019. Service costs as a percentage of revenue increased on a year-over-year basis, largely due to the mix shift and revenues. We continue to anticipate and believe that as we launch our new analytics products and sales engagement solutions, and they begin to contribute, we can see a positive impact on service costs as a percentage of revenue over time. During the quarter, we also made progress on our infrastructure initiatives and believe these investments will provide long term service cost merchant benefits in 2021 and beyond. Sales and marketing costs were $5.1 million. This amount reflects an increase from the second quarter of 2019 on a percentage basis, due to our increased investment in our sales and marketing initiatives and the Sonar acquisition. Product development costs were $5.8 million and were up as a percentage of revenue compared to the second quarter in 2019 reflective of our increased investment in our infrastructure initiatives, as well as the Sonar acquisition. Moving to profitability measures, adjusted operating loss before amortization for the second quarter was $3.1 million. Adjusted EBITDA was a loss of $2.6 million, net loss applicable to common stockholders was $4.5 million for the second quarter of 2020, or $0.09 per diluted share. This compares to a net loss of $1.1 million or $0.02 per diluted share for the second quarter of 2019. Adjusted non-GAAP loss per share was $0.05 per share for the quarter compared to adjusted non-GAAP income of $0.01 per share for the second quarter of 2019. Additionally, we ended the second quarter with approximately $41 million in cash on hand net of current debt obligations. Now, turning to our outlook. The current reality of our business is that the year remains highly fluid. While we saw recovery during the latter part of the second quarter, as noted for many of our customers, their sales conversations volume is down on a year-over-year basis. Furthermore, the current environment remains challenging from a new customer perspective, as many are reticent in the immediate term to start the needed work to deploy new sales technology, though there is still active interest. This is creating an impact on the planned ramps of many of our scheduled sales edge rescue deployments as they adapt. As a result of this uncertainty with many customers due to ongoing COVID-19 impacts at this time, for the third quarter, we are not releasing financial guidance. Though it is difficult to forecast when we will have greater visibility on our growth opportunities. We do believe there are and will be opportunities for Marchex to deliver incremental products and value for our customers, many of which are eager to have these solutions in market as soon as possible. We know that some verticals can recover more quickly, but that others may take longer, which could have a resulting impact on various customers and our future results. Given the wide range of possible outcomes for the year, we're preparing for several scenarios and will continue to act prudently to preserve our balance sheet and financial liquidity. While we are mindful not to compromise on the innovations and opportunities our innovation and AI efforts are bringing to Marchex. We believe there are actions we can take to preserve much of our balance sheet, should circumstances warrant as the year plays out. For example, there are more than $1 million in annualized operational efficiencies that we expect to realize on a run-rate basis once we complete our current infrastructure initiatives. With the planned partial divestiture of the local lead assets, the marketplace and other assets not related to core conversational analytics and sales engagement solutions, further details of which are laid out in today's separate 8-K filing, we are taking steps to increase our focus on the conversational analytics and sales engagement opportunity. The trend toward AI powered sales engagement solutions is a multiyear strategy that we believe represents a significant expansion of Marchex's overall opportunity. As we navigate to the other side of this extraordinary environment, we believe that our investments in conversational analytics and AI driven sales engagement solutions will lay a solid foundation for our future growth. Looking at the sec, looking at the adjusted second quarter on a standalone basis, we believe that core analytics and solutions revenues are currently at an approximate $46 million annualized run rate after factoring in the anticipated $3 million reduction from the COVID impacted auto customer, as well as the other revenue reductions from impacted customers and credits. At these revenue levels, we estimate that inclusive of all corporate overhead and costs, the core analytics and solutions area has a current annualized run rate for adjusted EBITDA of approximately negative $10 million. We believe at these current overhead and cost levels, that we would achieve breakeven adjusted EBITDA at a revenue run rate nominally above $60 million depending on discretionary investment levels. While we believe our future prospects position us to achieve that goal, given the pandemic and resulting uncertainties, the timeliness to get to these revenue levels are currently uncertain. Over the coming months, we expect to have more news to share regarding new products and the overall opportunities we see in the conversational analytics and sales engagement markets. We believe giving this business increased focus and energy is the right course for Marchex and that it will enable us to capitalize on our meaningful long term opportunity to emerge as a leader. And in the meantime, to all of our employees Russ and I are very appreciative of your hard work and dedication. Your ability to keep our focus on solving critical customer problems is a driver of our emerging opportunities and our long-term success and we look forward to our future. And with that, operator, we will hand the call back to you.

[Operator Instructions] And your first question comes from the line of Darren Aftahi with Roth Capital Partners.

Hey, everyone, this is Dillon for Dan. Thanks for taking my questions. I have a few if I may. First on both the tender offer and the intent to divest the marketplace and other business. Could you talk a little about your thought process behind those options and what sort of if there are any other options you were considering?

Thanks Dillon for the questions. This is Russ. As it relates to the tender offer under SEC rules, we're not able to comment beyond the specifics we included as part of that press release. So we need to refer to that for now. And there will be more information forthcoming over the next few weeks. In terms of the rationale or thinking behind the divestiture. This is one where we communicated for a while and it felt strongly that we got this emerging significant transformational opportunity around conversational intelligence and AI driven sales engagement solutions. And, the opportunity to create greater focus and emphasis on that is one of the elements that we felt would position us best going forward. We hired a number of years ago investment bankers to go out and see what options might exist to divest the media and local leads assets although were unsuccessful at that time, given some of the unique components here, which is you got a concentrated business with a couple of customers that represents the majority. And that was at a time where there was more contributions from that business than there is now. And so, as we thought about those options and wanting to create a path of greater clarity, and also looking at some of the other uncertainty sensitive key contracts coming up for renewal with those with those customers, we felt that creating a path and with a greatest degree of certainty around strategic clarity on moving forward, thoughtfully witness with this focus on what we think is the most meaningful opportunity for Marchex was the right step to take and all these components came together.

Thank you. And, Mike, I know you talked about sort of a new product that you've been in the process of developing with some of your auto OEMs that you expect to launch in pilots later this year? What sort of visibility do you have on that timeframe? And then is that solution also applicable to some of your other verticals as well?

Thanks, Dylan. With regard to the auto vertical, we've been fortunate in the last 24-months or so to be able to engage in a number of new pilots new engagements with a variety of these OEMs and related service providers to the auto industry. And I think part of what that's helped us with is definitely create more clarity on the roadmap for a product, a specialized product that's very much applicable for the auto vertical. It is applicable for other verticals that have similar type of sales presence. But those pilots to address your questions directly dealing we have tabled a number of them simply because of the COVID-19 impacts that were slated to roll out even starting near the end of the first quarter. It's been tabled for the time being, in many cases, some of those rollouts. And I would like to say today, that we're in a position to get clarity on exactly when they're going to be reinitiated. But unfortunately, there isn't a lot of clarity even at our customers level with exactly what their plans are. They're working very, very diligently on making sure that their core operations are up and running and that they're going to market in ways that can engage their consumer base. And we think we're going to be a part of that. And we're definitely looking to roll out our technology with them. It's just the timing of that remains uncertain, and it's unclear whether that's going to be in the near-term. We still do believe though that in the long-term, there's robust opportunity for this product offering within the auto vertical. We think because of a matter of selling, that this product as it gets rolled out, won't require massive tweaking to be able to apply to at least two or three other vertical scenarios. And we're looking forward to that, as well. But we don't see that in the near-term either.

Got it. Thank you. Regarding some of the AI product roadmap or analysts product roadmap, into some of the investments you're making there. Could you talk a little bit about some of the test integration via Sonar? How far are you along with sort of that maybe like as a percentage of being, I guess, ready to go to market?

Sure. Yes, this is Russ. So, yes, as we've emphasized, what the kind of the big problem that needs solving and where we see the significant opportunity is the ability to take analytics and intelligence across all critical conversations to surface really what the most successful path forward is for these businesses to close more sales and create better customer experiences, and the consumers to define the channels that they prefer to use. And the common use cases, particularly for the verticals that we emphasize, are around calls with voice as well as text. And so Sonar was a critical piece in accelerating our capabilities. And we're, well into an integration so that the capabilities that we've historically provided on the voice side, are fairly seamlessly being applied across voice and text, both as we finish up this year, and that's going to continue to be an important theme going into 2021. Now, the foundational piece of being integrated with voice and text on analytics gives us the insights we need to be able to create those AI driven sales engagement solutions to impact the sales process and lead to the value impact for our customers with those tools. So it's a critical effort. It's one that we're underway now. And we feel like between the short intermediate term, we're going to see a combination of combined voice text offerings on the analytic side, as well as integrate the text across the sales engagement side as well.

Got it. Thank you. Last one for me. With the sort of projected $46 million annualized run-rate in analytics. Could you talk about maybe the size of the customer base, the number of customers and sort of how the verticals now look first here in August versus maybe what that out, I guess sort of profile looks like maybe December of 2019.

Sure, Dillon, this is Mike. Again, I think from verticalized perspective, we've talked about some examples in the healthcare sector, the dental services, the auto OEM area, auto services, including we have, have had historically some travel and hospitality obviously that from a perspective today would be a big change from 2019 onwards, significantly down. Home Services is another very sizeable and meaningful category for us. We work with a variety of resellers to small and medium sized businesses. And I would say just generically, if you think about their activity in the current environment relative to where they've been in the past, those are areas where they're significantly down. What I would say is there are some areas for instance, the home service, there are pockets within Home Services that have actually increased or are more significant than what they've done in the past. And I would say a few of the emerging areas, we've spent more time with some of the sales efforts in the last 12 months in the auto sector, the auto services sector. Senior Living is a new one for us. Those would be some areas of changes or increases, however, recognizing that auto sales over the last four or five months have just been down in general. So consumer demand has reduced the overall volume in that area.

Got it. Thank you.

[Operator Instructions] And there are no further audio questions at this time.

Thank you everyone for joining us today in our second quarter conference call. We look forward to providing further updates as we progress during the year. Thank you.

Thank you, everyone.

Ladies and gentlemen, this concludes today's conference call. We thank you for your participation. You may now disconnect.