QuinStreet, Inc. (QNST) Q4 2016 Earnings Report, Transcript and Summary

Good day, and welcome to the QuinStreet Fourth Quarter and Fiscal 2016 Financial Results Conference Call. Today’s conference is being recorded. At this time, I’d like to turn the conference over to Ms. Erica Abrams. Please go ahead, ma’am.

Thank you, Tanisha. Good afternoon, ladies and gentlemen. Thank you for joining us today to report QuinStreet’s fourth quarter and fiscal year 2016 financial results. Joining me on the call today are Doug Valenti, CEO; and Greg Wong, CFO of QuinStreet. This call is being simultaneously webcast on the Investor Relations section of our website at www.quinstreet.com. Before we get started, I’d like to remind you that the following discussion contains forward-looking statements. These statements involve a number of risks and uncertainties that could cause actual results to differ materially. Factors that may cause the results to differ from our forward-looking statements are discussed in our SEC filings including our most recent 10-K filing with the SEC, which will be filed later this month. Forward-looking statements are based on assumptions as of today and the company undertakes no duty to update these statements as a result of new information. Today, we will be discussing both, GAAP and non-GAAP measures. A reconciliation of GAAP to non-GAAP financial measures are included in today’s earnings press release, which is available on our Investor Relations website. Now, I’ll turn the call over to Doug, CEO of QuinStreet. Please go ahead.

Thank you, Erica, and thank you all for joining us today. Our trend line of accelerating revenue growth and re-expanding adjusted EBITDA margin continued in fiscal Q4. Revenue grew 12% year-over-year, the fastest growth rate in five years. Revenue in fiscal 2016 grew 6%, the first full-year of revenue growth since 2011. Improving results are being driven by the new product, market, and media initiatives we have been executing and describing to you the past couple of years. Our strategy has been to invest in new products and operating initiatives that expand our footprint, deepen our relationships with clients and media, and strengthen competitive advantages, all in big markets, where we already have a presence and considerable scale. And in so doing: one, diversify our business and offset challenges in U.S. for-profit education; two, reestablish sustainable top line growth; and three, we expand EBITDA margin. Our strategy has also included a conservative and flexible financial profile, generating positive operating cash flow and maintaining a strong balance sheet, which we have done throughout this period of transformation and turnaround. The strategy is working. Financial services, our largest client vertical grew 58% year-over-year in Q4, driven by strength in all of our large businesses there. Financial services now represents 57% of our total revenue. Revenue from for-profit education continue to fall in the quarter, and represented just 19% of total company revenue in Q4, down from 40% two years ago. We expect the trends of strong revenue growth in financial services to continue, and that the financial services – that financial services will continue to grow as a percentage of total revenue as a result. We also expect that for-profit education will continue to be challenging, but will have less effect on overall results, as it represents a smaller and smaller percentage of total company revenue. Turning to our outlook. In fiscal 2017, net of the trends just described, we expect to grow annual revenue by, at least, 10%, and to generate adjusted EBITDA margin of, at least, 5%. I want to comment briefly on our partnership with All Web Leads or AWL, because of its importance and because of its impact on results versus our expectations in Q4. Overall, the direction and potential of our partnership with AWL are exciting. The partnership is already contributing strongly to our insurance business and delivering an exceptional financial return. Challenges in Q4 with AWL’s transition and integration of their recent acquisition of Bankrate’s insurance business, caused revenue to us from the partnership to be about $5 million lower than we or they expected in the quarter. AWL is working aggressively to restructure the acquired business for improved and more sustainable long-term performance. We and they believe the recent speed bumps on that path are the result of necessary steps to a stronger channel and to an even bigger, better long-term business for us both in insurance. Together, we and AWL are improving the quality, performance, and capacity of the channel for Internet shoppers, agents, and carriers. With that, I’ll turn the call over to Greg, who will report the financials in more detail.

Thanks, Doug. Hello, and thanks to everyone for joining us today. Financial results continued to improve in the fourth quarter. We posted 12% year-over-year revenue growth from adjusted EBITDA margin of 4%. Excluding U.S for-profit education, our business grew 30% year-over-year in the quarter. For the quarter, total revenue was $79.1 million. Adjusted net income was $1.1 million, or $0.02 per share on a fully diluted basis. Adjusted EBITDA was $3 million. The fourth quarter wrapped up an important year for QuinStreet, where our continued strong progress on strategic initiatives resulted in our first full-year revenue growth since 2011. For the year, we reported revenue of $297.7 million, or 6% growth overall. Adjusted net income was $743,000, or $0.02 per share on a fully diluted basis. Adjusted EBITDA was $7.9 million. Excluding U.S. for-profit education, our business grew 18% for the full-year. Turning to revenue by client vertical. Our financial services client vertical represented 57% of Q4 revenue and grew 58% compared to the year-ago quarter to $45.2 million. We saw strong performance pretty much across the Board in financial services. Notably, our insurance business grew 63% year-over-year. Our mortgage business grew 32% year-over-year and our credit cards business grew 270% year-over-year in the quarter. We continue to believe that these are very promising businesses for QuinStreet. And that our financial services client vertical overall has significant potential for continued long-term revenue growth. Our education client vertical represented 25% of Q4 revenue and declined 28% compared to the year-ago quarter to $20 million. This year-over-year decline was primarily related to the previously discussed exit from the channel of a large U.S. for-profit education client. We continue to focus on diversifying our business overall and thereby reducing our reliance on the U.S. for-profit education sector. To that end, revenue from U.S. for-profit education clients was 19% of total company revenue in the fourth quarter, down from 30% in fiscal 2015, and approximately 40% just two years ago. Revenue from not-for-profit schools in the international markets grew 16% year-over-year in fiscal 2016. We continue to believe that the not-for-profit international markets are for large long-term growth opportunities in education for QuinStreet. Revenue from other client verticals represented the remaining 18% of Q4 revenue, and declined 5% compared to the year-ago quarter to $14.2 million. Strong growth in home services, mostly offset previously discussed challenges in our B2B technology business. Moving on to EBITDA, adjusted EBITDA was $3 million or 4% margin. We expect EBITDA margin to expand in fiscal 2017 with top line leverage. Turning to the balance sheet, cash and cash equivalents at year-end were $53.7 million. Total debt was $15 million, bringing our net cash position at quarter end to $38.7 million. Normalized free cash flow in the quarter was $2.3 million. Most of our adjusted EBITDA drops to normalize free cash flow due to the low capital requirements of our business model. In summary, we continue to our positive business trends in fiscal 2016. We experience accelerated year-over-year revenue growth in the second half of year, up 8% in Q3 and up 12% in Q4, leading the full-year revenue growth of 6%. We expect revenue growth to accelerate in fiscal 2017, and that full-year growth will be a least 10%. Growth will be stronger in fiscal Q2 and beyond after we anniversary the prior year’s exit from the channel of the large U.S. for-profit education client, which occurred in Q2 of fiscal 2016. We also expect continued expansion of EBITDA margin to at least 5% in fiscal 2017. We remain focused on driving more growth, expanding margins, managing expenses and maintaining a strong balance sheet. With that, I’ll turn the call over to the operator to open up Q&A.

[Operator Instructions] We’ll go ahead and take our first question from John Campbell with Stephens Inc. Please go ahead. Your line is open.

Hey, guys. This is Hayden Blair, sitting in for John.

Hey, Hayden.

Hey, Hayden.

How is going?

Good.

So what inning are we in the rationalization process for that AWL insurance business. Are we reached a low point there or is there some more work to do? And then maybe if you could just give us some further color on how that ebb and flow along with wrapping of the contract itself is going to impact financial services growth moving forward?

Sure, we’re very close to AWL as you can imagine and have had a lot of discussions on that very topic of their view, and we’ve gone to the details with them. So I think we find their view a quite credible and certainly we have confidence with these guys. That rationalization has bottomed and that they have a pretty clear path to return to good strong growth from here. The issues that they’ve had are a quite explainable. They’ve had to rationalize a lot of lower quality sources in the mix and they’ve also had a lot of integration activities with respect to the two organizations. But again as we follow that with them and talk to them about that in detail, their view in and I didn’t and it makes sense given the – given where they are and what the done, and where they’re going? Is that that has bottomed and it goes up from here. As far as where we – how we think it affects us going forward, of course we will have the positive effects of the – we don’t anniversary of that deal until the second half of the fiscal years. So obviously would be positive effects on growth, particularly in the second quarter. To be a little bit more exaggerated, as Greg noted because in the first quarter, we stopped anniversary, the negative effects of the education can’t pullout. And then we expect and we have a lot of plans together to grow from there considerably. We not only do we think that we can now start taking advantage of the joint synergies that we did the partnership for end and that those can be the main factor rather than the rationalization of facts. But we’ve also expanded quite considerably the footprint of the partnership and we’ve added three or four other major initiatives together not just in insurance, but now and other verticals that we and they both believe are going to be very meaningful in material to our results of the next couple years. Shortsighted and as far as how we think about it for the guide that we’ve given – for the budget that we’ve established, we’ve been quite conservative. We held the partnership pretty flat in terms what we expect from them, from where they were in the fourth quarter, we’re quite hopeful, and bordering on confident that that’s very conservative stance in terms of how we think about the potential of that business.

Thanks. Thanks for that color. And then I wonder if you could give us an update on the QuinStreet Media Platforms impact on the insurance business? Is that continuing to gain traction, are there any more insurers paying over that seven-figure mark in the last update? And then maybe if you could just provide some color on kind of the differences in the gross margin impact between that growth and the impact of the AWL deal ramp?

I’m sorry the last part, Heyden, I didn’t quite get the last part.

Any difference on differences on the growth of the media platforms impacted that continues to scale and how that may or may not defer with AWL contract itself?

As far as QMP or QuinStreet Media Platform as you call it and that is of course the new product platform that we rolled out a couple years ago, initially in insurance that really turned that business around. We continue to see a very positive impact from the product as Greg noted, we are – we grew insurance 62% year-over-year in the fourth quarter that just continued and actually strengthening momentum that business at great – at very good scale of businesses over $100 million a year for us, well over $100 million, I think $120 million a year in revenue. And we’re growing at that rate. And that really is on the backs of the new products set, which we again we refer generically and generally too, as you indicate SQMP or QuinStreet Media Platform. The ability to deliver much finer grain segmentation performance tracking and pricing to clients is something that we’re seeing more and more clients of value and we’re tracking and able to effectively perform for them with more and more budgets. And yes we have, I think we now have more insurance carriers than ever before spending at a seven-figure rate per month with us, as result of that of the product to answer that question. I don’t have the exact number for you, but it’s a much longer listen it’s ever been, and a lot more were told from clients to come because of the performance. We are now in the early stages of rolling QMP to other verticals. We expect then in a couple of the other financial services verticals were one were very early in the other we’re not quite completely rolled out that the effects are going to be pretty dramatic because we’re seeing the same dynamics on those verticals with median clients that we saw in insurance. And then so we’re quite excited about those initiatives and those who were – we should begin to see the effects of those around the second to third quarter this year and a couple of other larger financial services verticals. We already use that product platform in education and it’s made a big difference. Education is that as it has been, it could be a lot worse in for-profit education. If we hadn’t had the abilities that QMP gave us to very quickly rationalize out product and results. We’re not working for the clients and to take the lead on products. It did work for the clients, even under the new regulations. And so that has allowed us to help offset that. As far as margin goes, the investment period in insurance, really ended about a year ago, which was the bottom of our margins at insurance. Our insurance margins today are up on a variable basis, on a variable margin basis about 5X where they were about a year ago. And continuing to claim in our own very close to historic margins, when I say I mean margins free to drop in our insurance business three years ago, and that’s inclusive of AWL deal, which is kind of right in line with kind of averages there. So we’re in – thank goodness because with the loss of education leverage, the big climb in insurance margins enabled by the new product set has really allowed us to continue to invest, but also to maintain and to begin to expand profitability as a revenue has come. So I think that’s the – I think those are the main answers on that one. I’m happy to clarify if any of that did not make sense to you.

Okay, that was great. Thank you.

Thank you Hayden.

Thank you. [Operator Instructions] And it looks like we have a follow-up question from John Campbell’s line with Stephens Inc. Please go ahead. Your line is open.

Hey, guys, it’s Hayden again. Just maybe one quick follow-up on some of the ancillary financial services verticals. Some other guys in the space have seen some pretty strong tailwinds in both mortgages and credit cards.

Yes.

You guys are clearly benefiting from some of that. But I wonder, is a portion of that share taking? And maybe along with that, can you talk about kind of what you’re seeing in those markets that make you guys feel confident that you can continue to take share in those two markets and maybe what are some of the challenges presented in doing so in those verticals?

Sure. We – and again, I’ll try to stay clear of anything that might be more competitively sensitive try to answer more generic – generally, if that’s okay. We do think that we are – there’s two things going on in some of these bigger financial services verticals. One is, there’s more spending by clients, and so there’s certainly growth in the spend or the allocation of spend more accurately to the Internet. I think, because we and others continue to improve the performance of the Internet for those clients. I think we have also been growing faster than that. And so, I think, we have been gaining share. I believe what’s enabled that have been – has been the things that are enabling growth generally in other areas, including a broadening of our product set, recall, we’ve dramatically expanded our footprint in financial services from a business that was driven primarily by clicks just a couple of years ago to now business in which we sell the clicks, leads and in some verticals multiple forms of leads, not just multiple quality tiers of leads, as well as calls and in some cases applications or actual sign-ups or customers. And so the broadening of that product set combined with the broadening of our media footprint, and recall, we’ve added over the past couple of years from a business again that was predominantly couple of years ago in financial services third-party website or publisher driven to a business, where that’s a component of it, but we also have now a much larger business with a major media partnerships with paid media on our own account in various forms, in various places, as well as mobile and social, which are now 36% of total revenue up from gosh, probably high single digits a couple of years ago. So when you combine the effects of those two dimensions of broadening out the footprint in those verticals what you, what you – it adds up to is a lot more revenue-generating power related to the ability to track and serve more types of budgets. But also the ability to better monetize existing media, because you can pull it out in so many different forms or activate it in so many different forms for the clients. So I think those two things combined with a little bit of tailwind from certainly some of the client spend pushing to the Internet for various reasons in the various verticals, which we think we will be able to now accelerate or magnify with the rollout of the – of QMP in the coming quarter or so give us a lot of confidence that we’re still, and by the way, we’re still pretty small in these massive markets. We – If you look at credit cards, where we have now a good scale of business, but still really small relative to certainly some of our competitors and certainly to the market or mortgage, where I think we’re in the top few. But still very small relative to this – the opportunity we see in that market and relative to what we can do as we roll out the full product plan. We’re – and then there are some new verticals like personal loans, where we’re really early, but extraordinarily excited, given the client base we have and the products that we’re rolling, the same products into that new business too over the next couple of quarters. So I think and we feel very, very good about financial services, and we think that the insurance results are certainly indicators of that. But again, we grew overall financial services 57% in the quarter, insurance we grew 63%. So that and as Greg pointed out, mortgage and credit cards are second and third largest financial services verticals grew 32%, 270%, respectively. So there’s – you’ve already seen a lot of good – a good momentum there as you indicate. I think the reasons I talked about, but we see a heck of a lot more runway in both – in both of those, but also a few others in the financial services industry broadly defined.

Got it. Thanks for the follow-up.

Thank you, Hayden.

Thank you. And it looks like we have another question from Stephen Ju with Credit Suisse. Please go ahead. Your line is open.

Okay, so, thanks. So, Doug, there has been some significant changes to search engine results pages both on the desktop and mobile, both on paid as well as the free side. So I’m wondering, if you can address how some of these changes may be affecting or not affecting both you and your competitors from a high-level? Thanks.

Sure. And you’re probably talking about the fact, they moved more paid up to the top and added local, which has kind of pushed a lot of the organic results down?

Yes, among others. Yes.

Yes, and others that’s right. We don’t have that much of an exposure to our owned and operated SEO anymore, it’s a relatives – as you know, it’s a relative small part of our business. We have not been, so therefore, we have not seen a material effect of that on our results. There has been some effects, but it’s kind of been up and down and net pretty immaterial in terms of the changes on our owned and operated. Now the dominant portion of our owned and operated SEO exposure now is in our B2B technology group. And those sites tend to not be affected very much by changes to Google algorithm or to page layouts anyway, because they are driven predominantly and primarily by returning visitors who are coming to these sites frequently to check for updated content and latest news and latest information on technology changes other than sites or say financial services education verticals, which are more transactional and tend to be driven almost exclusively by one-time visitors who come in through SEO or through the – through Google. So but even in that second group what I said is, so on the first group, the technology sites we’ve seen very, very little of any effects. And the second group, we’ve seen more effects, but again, it’s not that bigger part of our business and the effects have been relative and relatively immaterial. I – as far as the effects on competitors, I do know that some of those folks are much more heavily reliant on SEO results and we are and I have only heard the same thing you guys have heard in terms of the effects of layout and other changes in SEO. And I expect that and that makes sense to me based on what we’ve seen. And as I think you guys know, we’ve taken a little bit different direction and our view is that, sites that tend to be more transactional and SEO driven in on a transactional basis, we tend to now shy away from, because as you know, it’s been proven over the past few years that’s just not reliable traffic, because you don’t directly control it and it’s subject to changes, and what we’re seeing is more and more frequent changes on shorter and shorter cycles by the folks that actually do control that traffic, I know, most dominantly Google who has their own objectives in mind as far as what they want to create for their visitors and in their business. And so we have gone really a different path, which is to make sure, we’re focused on the best technologies for delivering the best results for clients on a media wherever it comes from and making sure, we’re applying that quite broadly to media sources on the Internet. So we’re pretty indifferent to who wins the SEO wars, because whoever that is it’s likely if they’re in one of our verticals, to want to work with us, so they can make the most money out of their traffic on – in performance marketing. So that’s we pivoted as you know away from a strategy had much more SEO went into a number of years ago, because it worked great. But once that ecosystem changed dramatically and got what I would consider to be destabilized and it’s kind of destabilized on an ongoing basis now wasn’t a one-time event, it’s a constant, constant challenge. We really turned our attention and our strategy elsewhere and it’s working quite well for us. I mean, again as Greg pointed out, if not for for-profit education, which is – which we all know is a very, very challenged vertical. Our overall business grew 30% year-over-year last quarter and that’s really driven by the new product set and new product strategy, snd the broadening of the footprint that I just talked about.

Thank you.

You bet.

Thank you. And it does appear we have no further questions at this time. So we’d like to thank you for your participation. Have a wonderful day, and you may disconnect at any time.