Ziff Davis, Inc. (NASDAQ:ZD) Q3 2023 Earnings Call Transcript

Ziff Davis, Inc. (NASDAQ:ZD) Q3 2023 Earnings Call Transcript November 9, 2023

Operator: Good day, ladies and gentlemen, and welcome to the Ziff Davis Third Quarter 2023 Earnings Call. My name is Paul, and I will be the operator assisting you today. [Operator Instructions] On this call will be Vivek Shah, CEO of Ziff Davis; and Bret Richter, Chief Financial Officer of Ziff Davis. I will now turn the call over to Bret Richter, Chief Financial Officer of Ziff Davis. Thank you. You may begin.

Bret Richter : Thank you. Good morning, and welcome to the Ziff Davis Investor Conference Call for Q3 2023. As the operator mentioned, I am Bret Richter, Chief Financial Officer of Ziff Davis, and I am joined by our Chief Executive Officer, Vivek Shah. A presentation is available for today’s call. A copy of this presentation is available on our website. When you launch the webcast, there is a button on the viewer on the right-hand side, which will allow you to expand the slides. If you have not received a copy of the press release, you may access it through our corporate website at www.ziffdavis.com. In addition, you’ll be able to access the webcast from this site. After completing the formal presentation, we’ll be conducting a Q&A.

The operator will instruct you at that time regarding the procedure for asking questions. In addition, you can e-mail questions to investor@ziffdavis.com. Before we begin our prepared remarks, allow me to read the safe harbor language. As you know, this call and the webcast will include forward-looking statements. Such statements may involve risks and uncertainties that would cause actual results to differ materially from the anticipated results. Some of those risks and uncertainties include, but are not limited to, the risk factors that we have disclosed in our SEC filings, including our 10-K filings, recent 10-Q filings, various proxy statements and 8-K filings as well as additional risk factors that we have included as part of the slide show for the webcast.

We refer you to discussions in those documents regarding safe harbor language as well as forward-looking statements. Now let me turn the call over to Vivek for his remarks.

Vivek Shah : Thank you, Bret, and good morning, everyone. Our third quarter financial results reflect solid and encouraging improvement in a number of parts of our business. Most notably, our organic growth rate was flat in the quarter after 6 consecutive quarters of low to mid-single-digit decline. We believe our business is turning the corner and is set up for positive organic growth in 2024. Let’s begin with our Digital Media segment. where our organic growth rate in Q3 was positive, led by the connectivity business, which grew high single digits in the quarter and continues to be amongst our most consistent performers. Our Speedtest app continues to be popular with users having reached an all-time high in monthly iOS installs in the U.S. Ookla also claimed the top spot in CC Group’s list of most cited sources by telecom industry analysts.

Our WiFi planning tools at Ekahau continue to be market leaders, and we’re proud that they’re being used for WiFi deployment at the 2024 Summer Olympics. In our health and wellness vertical, we grew mid-single digits, with continued strength in both consumer and professional-focused pharma advertising and strong subscription growth at our Lose It! weight management and nutritional wellness app. We just passed the 1-year anniversary of our Lose It! acquisition and we are very pleased with its financial results and exciting near-term product development road map. In gaming, we grew high single digits as IGN is experiencing very strong traffic growth, particularly on social and video-based platforms. While Humble also grew in the quarter, we didn’t see the expected benefit from new game releases as we experienced delays with some launches and underperformance in others.

In shopping, RetailMeNot was stable with year-over-year increases in usage of loyalty products such as cash back and our browser extension, and we’re still working on traffic recovery at Offers.com. Our tech vertical continues to be the outsized drag on revenue, down high teens organically. That’s an improvement over the first 2 quarters of the year, which is a reminder of the headwind that it’s been for us. And while it will continue to be a drag on revenue growth for the remainder of the year, we believe it can join the rest of our businesses on the path back to positive organic growth. I’ll point out that when excluding Tech, our advertising revenues grew in Q3. In Cybersecurity and Martech, Q3 revenue declined mid-single digits year-over-year and was almost flat to Q2.

Our e-mail marketing business continued to grow organically, driven by increased usage by customers and strong new business. Our largest decline continues to be in VPN but we are encouraged by the trends in this business. For the third quarter in a row, we grew our VPN customer adds, and these gains should flow through the VPN revenue in the coming quarters. Now let me shift to an update on AI. We are actively leveraging our AI partnership with Xyla to fast-track opportunities within our connectivity division. Utilizing proprietary Ookla data, we have made fast progress on our now casting capabilities, which use machine learning to showcase the value potential of Ookla’s insight for the financial services industry. For instance, we are working on a model capable of estimating key financial performance metrics of telecom market participants based on Ookla’s unique data sets.

We’ve also launched Ookla’s first AI-copilot, which uses a large language model with global real-time telecommunications knowledge to support our analyst teams in developing customer insights and thought leadership content from Ookla’s proprietary data and knowledge base. We are making steady progress integrating AI applications across our Everyday Health Group portfolio, including from our Xyla partnership, an editorial workflow efficiency, new product features and content personalization. Our cybersecurity business, VIPRE, developed a conversational experience for their endpoint detection and response incident management product. We expect VIPRE users to be able to utilize an AI-chatbot to swiftly analyze and clarify the actions of potentially malicious scripts, thereby enhancing the detection of actual threats to individuals and organizations.

We anticipating deploying the beta of this feature by the end of the year. Last quarter, we announced that we launched a new AI-driven chatbot for game help. Starting first with the hit game, The Legend of Zelda: Tears of the Kingdom. This chatbot was solely trained on IGN’s expert content and enabled us to engage users in a new way by allowing logged-in members to ask very specific game help questions. IGN has now rolled out the AI-chatbot for game help across 9 game titles, and the early results have been encouraging. These are just a few of the examples of AI-enablement taking place at the company. At the same time, we continue to closely monitor the role of AI in search. Last quarter, we shared that our organic traffic referral from Bing, which is still the only at-scale search experience incorporating Gen AI was up, and that continues.

This time, we sought to understand the prevalence of AI-generated responses to search queries. To do this, we sampled keywords across our top domain that drive the majority of our search traffic. Within this set, just 20% of keywords prompted an AI-generated response from Bing, meaning that for 80% of the highest value keywords, an AI response was not even generated. Similarly, we sampled keywords in Google’s SGE, which is still in Google Labs and found that only 23% of our most valuable keywords prompted an AI-generated response. Our key takeaway is that AI-generated responses are currently prompted at a much lower rate than some might have contemplated. We also wanted to understand the click-through rates when our keywords return an AI-generated response versus those that do not.

On Bing, AI-generated responses had a higher click-through rate compared to those that did not. We currently cannot measure click-through rates in Google SGE but don’t have any reason to expect a different outcome. We believe this important analysis confirms our view that fears about AI-enabled search have been overdone. Our SEO experts at Moz share similar views based on their experience and expertise in the space. We believe that search operators continue to understand the importance of the value exchange between search providers and publishers access to content for traffic and that they will protect this exchange. However, we strongly believe that non-search AI platforms will need to compensate rights holders for their content. We are committed to upholding the rights of content creators and demonstrate this through proactive involvement in industry efforts.

Our participation in the News Media Alliance, including holding a seat on the NMA Board, an endorsement of their white paper, as well as our contributions to their comments to the U.S. copyright office, reflect our stance on preventing unauthorized and uncompensated use of publisher content. Now just a few words about M&A. The overall deal market continues to hover around 10-year lows in terms of volume and value. And this has certainly shown up in our own M&A activity, where we have closed just 2 acquisitions this year. We attribute the M&A slowdown to a persistent gap in the valuation expectations of buyers and sellers. However, our philosophy on M&A has not changed, and we are optimistic that as new realities settle in for many businesses in our sector, we will be very well positioned to create shareholder value through M&A.

We remain very eager to deploy capital for acquisitions at a time when our powder is especially dry, and continue to believe our patience will be rewarded. Let me provide you with an update on our ESG efforts. As mentioned on our last call, our emissions reduction targets were recently validated by the Science Based Targets Initiative. SBTi defines and promotes best practices in near-term science-based target setting. And we now have comprehensive Scope 1, 2 and 3 emission reduction targets in place, effectively committing to cut our emissions in half by 2030. We have already been working with our major suppliers, facilities, teams, and building managers and will continue to do so over the next several years to ensure we meet these targets.

It’s also worth noting that Ziff Davis has obtained independent third-party verification of our 2022 greenhouse gas inventory and will do so moving forward. Next week, we’ll host our third Annual Purpose Summit, a company-wide event where employees hear from colleagues throughout Ziff Davis, who are making a difference through their work and effect change within their communities. It’s a highlight on my calendar. With that, I’ll hand the call back to Bret to discuss our financial results in greater detail.

Bret Richter : Thank you, Vivek. Let’s discuss our financial results. Our earnings release reflects both our GAAP and adjusted financial results for Q3 2023. We will focus our discussion today and my commentary will primarily relate to our Q3 2023 adjusted financial results and comparisons to prior periods. Slide 4 reflects the summary of our third quarter financial results. We reported revenue of $341 million for the third quarter of 2023 as compared with revenue of $341.9 million for the 2022 comparable period, reflecting a decline of 0.3%. FX was slightly favorable as compared with the prior year period. Q3 2023 adjusted EBITDA was $113.7 million as compared with $120.1 million for the prior year period, reflecting a decline of 5.3%.

Our adjusted EBITDA margin for the quarter was 33.3%, which is an improvement as compared with Q2 2023’s margin of 32.7%. We reported third quarter adjusted diluted EPS of $1.50. As Vivek noted, many of our businesses reflect significant year-over-year performance improvements. In our Digital Media segment, our gaming, connectivity and health and wellness businesses each grew organically in the third quarter. RetailMeNot was essentially flat year-over-year, but shopping was down. Collectively, our Digital Media businesses contributed positive Q3 organic growth. And while our Cyber and Martech businesses declined year-over-year, the quarterly rate of decline decelerated compared with the first half of 2023. Again, our technology businesses and in particular, our B2B technology business, had a disproportionately negative impact on our overall performance.

Excluding our technology vertical, Ziff Davis revenue would have increased by nearly 2% during the third quarter as compared with our prior year. Adjusted EBITDA margins were up sequentially but down year-over-year, reflecting our continued commitment to investing in the head count that we believe is required to pursue opportunities for growth. The year-over-year margin decline of approximately 180 basis points equals about $6 million, which, while reflecting a number of factors, is equivalent to our year-over-year increase in staff costs and investment in our growth initiatives. Slides 5 and 6 reflect performance summaries for our 2 primary sources of revenue; advertising and subscription. Slide 5 reflects the company’s advertising revenue performance.

Advertising revenue declined by 2% in Q3 2023 as compared with the prior year period. This represents a significant improvement as compared with the first half 2023 decline of 8%. This performance was also heavily impacted by the challenges within Tech. Excluding Tech, the year-over-year advertising revenue growth would have been more than 1%. Trailing 12-month advertising revenue declined by 7% compared with the prior year. As noted, a number of our non-tech businesses reflect Q3 growth, including Gaming and Health. Last quarter, we noted that we expected our second half advertising revenue to meaningfully improve as compared with the first half in Q3 is consistent with these expectations. Our net advertising revenue retention and annual trailing 12-month statistic measured quarterly was 89%, primarily reflecting the year-over-year decline in advertising revenue.

As defined in the slide, during the third quarter, Ziff Davis served nearly 1,800 advertisers with an average quarterly revenue per advertiser of more than $100,000. These metrics reflect a slightly more consolidated set of advertisers as compared with the prior year period with a higher average revenue contribution per advertiser. Slide 6 depicts our subscription revenue performance. Q3 2023 subscription revenue grew 1% as compared with the prior year period and 3% during the last 12 months. The table on the bottom of Slide 6 includes subscription metrics for the last 7 quarters. We had more than 3.2 million subscribers in Q3 2023, reflecting a modest sequential increase. There were sequential gains within Humble Bundle and Lose It! offset in part by a modest reduction in cybersecurity subscribers.

Our Q3 2023 average quarterly revenue per subscriber was $44.84 again, a modest sequential increase. Churn also declined sequentially from 3.51% to 3.22%. The company’s Q3 2023 other revenues increased approximately 7% and year-over-year, primarily reflecting higher revenue from Humble Bundle publishing, DailyOM and Ekahau sidekick sales. Slide 7 provides quarterly organic and total revenue growth rates for the last 11 quarters. Revenues from businesses owned for at least a full 12 months are included in organic revenue, while acquired revenue relates to businesses we’ve owned for less than 12 months. Third quarter 2023 organic revenue was flat and as expected, reflected a significant improvement as compared with the 6% organic decline during the first half of 2023.

Turning to our balance sheet, please refer to Slide 8. As of the end of Q3 2023, we had $661 million of cash and cash equivalents and $170 million of short- and long-term investments. We also have significant leverage capacity both on a gross and net leverage basis. Our increase in long-term investments reflects our recent investment in Xyla, which as discussed on our second quarter earnings call occurred early in the third quarter. During the quarter, we repurchased 605,000 shares of our common stock for a cost of approximately $41 million. This increased our year-to-date stock repurchases to nearly 1.6 million shares. We have approximately 4.7 million remaining shares authorized under our stock repurchase program, and we will continue to be opportunistic with regards to future stock repurchases.

Our third quarter net leverage ratios reflect our recent stock repurchase activity. As of the end of the third quarter, gross leverage was 2.1x trailing 12 months adjusted EBITDA, and our net leverage was 0.7x and 0.4x, including the value of our financial investments. We did not have any acquisitions during the third quarter. Still, we remain very active in sourcing and evaluating transactions and sense that the gap between buyer and seller expectations in the current M&A environment may well be on a path to narrowing. Earlier this year, we shared that we were exploring strategic alternatives for our B2B business. We engaged in active dialogue with numerous third parties that ultimately determined not to pursue a transaction with any of those parties at this time.

As we discussed on our prior call, portfolio rationalization is an important and healthy exercise for any company, not all announced pursuits result in a transaction. We appreciate the contributions of so many of our colleagues during this exploration. Going forward, we will continue to work to align B2B’s activities and priorities to maximize its potential. Turning to Slide 10. We are reaffirming the fiscal year 2023 guidance range that we originally presented in February 2023, and as our Q3 results largely reflect the second half 2023 economic stabilization that we were hoping for. Of course, as noted, certain of our businesses continue to be challenged by the macroeconomic environment as well as industry-specific factors, including our technology business and our game publishing business.

We currently expect our full year revenue to be between the low and midpoint of our guidance range with adjusted EBITDA and adjusted diluted EPS closer to the bottom end of our guidance range. This reflects the fact that certain of our businesses typically exhibit fourth quarter seasonal strength and that we are still cautiously optimistic that the macro environment will remain stable for the balance of 2023. Following our business outlook slides, are certain supplemental materials, including reconciliation statements for the various non-GAAP measures to their nearest GAAP equivalent. This section includes a reconciliation on Slide 14 that reflects free cash flow. Year-to-date 2023 free cash flow was approximately $145 million. Changes in working capital negatively impacted year-to-date free cash flow in 2023 as compared with 2022 when the change in working capital contributed to free cash flow.

We continue to work to return to our normal cadence of working capital. Overall, we are pleased with our Q3 2023 results. Our businesses are focused on a strong finish for 2023 and we are pleased with the revenue stabilization we saw this quarter as we begin to plan for 2024. With that, I will now ask the operator to rejoin us to instruct you on how to queue for questions.

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Q&A Session

Operator: [Operator Instructions] The first question today is coming from Shweta Khajuria from Evercore.

Shweta Khajuria : I’ve got 2, please. One for Vivek and one for Bret. So the first one, Vivek, could you please talk about general ad demand trends that you saw through the third quarter and then the fourth quarter so far as the quarters progressed? And then did you see any impact from the war — from the geopolitical issues going on starting in October? And then a question for Bret is on M&A. Vivek talked about the M&A environment. It seems like there’s not a lot of change. But at a high level, could you please remind us some of the opportunities and verticals that you think — you are thinking about or could be incremental to the Ziff Davis portfolio?

Vivek Shah : Thank you, Shweta. So I’ll start with your question around the advertising market and some of the trends that we’re seeing. So again, I think always helpful to unpack this by category. And so our single largest category, as you know, about 40-plus percent of our overall advertising business is health and wellness. And that continues to be very strong for the reasons I outlined earlier in the call. So we feel very bullish about where the pharma ad market is in particular, and where our assets and how we’re positioned within that market near and long term. The second biggest vertical is our retail and shopping vertical, which again, I think the challenges we have are not really macro there. It’s really just some of the issues we’ve had with Offers.com, which is this much smaller of our shopping properties, but where we’re really focused on some recovery.

But we tell me not, it’s holding up really nicely. And obviously, the all-important holiday season, which it’s hard to answer now what we’re going to see in the holiday shopping season, but we’re cautiously optimistic. And then the next largest category is gaming. And again, I think gaming has been an area of strength for us from an advertising point of view. So I would say that of the 4 categories, main categories we’re in, we’re feeling reasonably good about 3 of them. The tech category continues to be a challenge. It is, as I said, sort of a mid- to high-teens, problem for us in Q3. It is narrowing from a decline point of view as we go through the year and we anticipate it to narrow into Q4, but that’s going to continue to be a headwind.

But as I’ve said in the past, I view that as largely cyclical. And I think it’s not uncommon from the other media and advertising players who have large concentrations of tech advertising. Bret?

Bret Richter : Thanks for the question, Shweta. I think I’d answer it in 2 ways. I think the first way is sort of the macro view, which is, when we think about M&A across the company and our investable resources and liquidity to deploy, we’re actually looking at all 7 of our platforms for growth and recognizing the markets that they’re in and the specific dynamics. Since I’ve been with the company, which is nearly 2 years, the concentration of our M&A has been in connectivity and health and wellness, which have been to — continue to be 2 of our strongest performing segments. So we could look at acquisitions like Lose It!, and Emma’s Diary in the U.K. for our health business. We’ve done several acquisitions in our connectivity business, including CellRebel last summer, where we picked up new data capabilities to round out our portfolio and make our overall proposition for our customers stronger.

So to some degree, we play to our strengths and there are opportunities in the market for our strong businesses. But we’ve also fortified our gaming business, which has an incredible platform through IGN and we’ve supplemented that platform with acquisitions like Map Genie, which extends our game help and our ability to serve that vertical and customer base. But surprisingly, if you look back and we haven’t done a lot of M&A, obviously, in 2023, 1 of our 2 acquisitions was in our tech vertical. The why factor? Because we saw a platform there that we believe that, in the current weakened market protect, there was opportunity there to supplement its growth. And similarly, as we continue to see stability in our cyber and martech businesses, we can turn and start to look at those businesses to find opportunities for further M&A.

So while immediately, I’ll use the word, we’re frustrated by the current environment to a degree, we know how to do these deals. I think that we are going to ultimately be rewarded for our patients and our pipeline continues to be robust, and it’s just a matter of time before we start closing transactions.

Shweta Khajuria : Vivek, did you see any impact from the Israel war on the advertising business?

Vivek Shah : No, no, no.

Operator: The next question is coming from Ross Sandler from Barclays.

Ross Sandler : Vivek, 2 questions. I know it’s early to be talking about guidance for next year, but maybe just the framework for thinking about how you guys can grow above or below the premium display market, let’s say, the ad market grows 5% next year, what’s the equation for your advertising business to be above or below that now that we’re kind of lapping the tech issue and the Offers.com issue this year. So how do we think about that? And then the second question is, have you guys looked at how AI service is embedded within RetailMeNot and Everyday Health might improve kind of the user interface or any opportunity that you see to kind of infuse chatbots or other AI like services in those websites. Any thoughts there?