QNST
#Thank you <UNK>.
Hello everyone.
Thank you for joining us today.
Our strategy to invest in new product and media initiatives that reestablish topline growth and re-expand adjusted EBITDA margin is working.
We grew 10% year-over-year in the March quarter, excluding a one-time item, delivering over $80 million in quarterly revenue for the first time since 2012.
Adjusted EBITDA margin re-expanded to over 4%, the highest adjusted EBITDA margin since 2014, again excluding the one-time item.
Growth was driven by continued strength in Financial Services, our largest client vertical, now approaching 60% of total Company revenue.
Financial Services revenue growth accelerated to about 50% year-over-year on the success of new products and media partnerships.
We delivered strong double-digit revenue growth in insurance, mortgage, and credit cards, our three largest businesses in Financial Services even excluding the effects of the All Web Leads partnership.
We are pleased with progress of the All Web Leads partnership.
While its ramp has been somewhat slower than they or we expected due to difficulties and complexities associated with the integration of their acquired InsuranceQuotes business, it is already contributing significant new revenue and creating new opportunities for both companies to better serve clients and grow revenue together.
Our enthusiasm and expectations for the partnership's potential are stronger than ever.
We also continue to make good progress with initiatives to diversify and transform our education client vertical.
Revenue from not-for-profit schools and international markets has grown at a compound annual rate of 46% over the past two years.
New products also continue to grow as a percentage of revenue and represented almost 50% of total education revenue in the quarter.
Our exposure to US for-profit education continues to decline, and represented less than 20% of Company revenue in Q3, down from almost 40% just two years ago even as total Company revenue has grown this year and is now growing at an accelerated rate.
Our strategy has been and continues to be to invest in successful new product and media initiatives in big markets where we already have considerable scale and competitive advantage, and in so doing, one, diversify our business and offset challenges in US for-profit education, two, reestablish sustainable topline growth, and three, re-expand adjusted EBITDA margin, all while maintaining positive cash flow and a strong balance sheet.
The strategy is working.
Our revenue, excluding US for-profit education, has grown at a compound annual rate of about 17% over the past two years, and we just delivered 10% total Company revenue growth and the highest adjusted EBITDA margin in two years despite significant declines in US for-profit education.
Turning to our outlook, we expect the effects of our strategy to accelerate with revenue and adjusted EBITDA margin momentum continuing through the fourth quarter and into fiscal 2017.
Specifically, Q4 revenue is expected to grow 15% to 16% year-over-year, beating historical sequential seasonality with adjusted EBITDA margin at or above Q3 levels.
We also expect to continue to expand EBITDA margin with topline leverage going forward.
With that, I will turn the call over to <UNK>, who will discuss the financials in more detail.
Thanks <UNK>.
Hello and thanks to everyone for joining us today.
We are pleased with our results for the third quarter, which marks an important inflection point in our business.
Topline growth has accelerated, and we've begun to expand EBITDA margin.
From here, we expect positive trends to continue in Q4.
For the third quarter of fiscal 2016, we reported $81.2 million of revenue and grew 8% compared to the same quarter last year and 25% sequentially.
Revenue grew 10% year-over-year in the quarter, excluding a one-time benefit associated with the collection of a historical receivable in the same period one year ago.
Adjusted net income for fiscal Q3 was $1.2 million, or $0.03 per share on a fully diluted basis.
Adjusted EBITDA was $3.5 million, or a 4% margin.
Turning to revenue by client vertical, our Financial Services client vertical represented 56% of Q3 revenue and grew almost 50% compared to the year-ago quarter to $45.6 million.
We saw strong performance pretty much across the board.
Our insurance business grew 49% year-over-year and now represents 42% of total Company revenue.
Our mortgage business grew 55% year-over-year and our credit cards business grew 196% year-over-year in the quarter.
During the quarter, we successfully integrated with All Web Leads and are already seeing significant revenue and new opportunities for growth from the partnership.
We expect growth in Financial Services to accelerate in Q4 as strategic partnerships like AWL ramp and as mortgage and credit cards continue to scale.
Our education client vertical represented 28% of Q3 revenue, or $22.7 million.
The year-over-year decline was due primarily to the exit from the channel by a large US for-profit education client, as previously discussed.
The decline is also related to the comparison against a one-time benefit of $1.6 million associated with the collection of a historical receivable in the year-ago quarter.
Revenue from US for-profit education was less than 20% of total Company revenue in the third quarter.
Revenue from not-for-profit schools in international markets has grown at 46% over the past two years and is expected to total approximately $30 million in revenue in fiscal 2016.
We believe the not-for-profit and international markets represent big long-term opportunities for QuinStreet.
Revenue from our other client verticals represented the remaining 16% of Q3 revenue, or $13 million.
In these verticals, our Performance Marketing products grew 6% year-over-year.
Display revenue in our B2B technology business was down year-over-year, primarily due to budget shifts to programmatic buying.
B2B technology is the only client vertical where we have significant display revenue, and even there it represents a small share of revenue.
Moving on to EBITDA, adjusted EBITDA was $3.5 million, or a 4% margin.
Excluding the one-time item in the year-ago quarter, this was our highest quarter of adjusted EBITDA since March of 2014.
We expect adjusted EBITDA to expand primarily due to topline leverage in future periods.
Turning to the balance sheet, cash and cash equivalents at quarter end were $55 million.
Total debt was $15 million and our net cash position grew by $4 million in the quarter to $40 million.
Normalized free cash flow was $2.3 million in the quarter, or 3% of revenue.
Most of our adjusted EBITDA drops to normalized free cash flow due to the low capital requirements of our business model.
In summary, we delivered results in the quarter that validate turn in our business with accelerated revenue growth and re-expansion of adjusted EBITDA margin.
Excluding the one-time item, we grew 10% year-over-year in the quarter, and delivered our best quarter of adjusted EBITDA since March of 2014.
Importantly, we expect positive momentum to continue in Q4.
For the fourth quarter of fiscal 2016, we expect to post revenue growth of 15% to 16% year-over-year.
We also expect adjusted EBITDA margin in Q4 to be at or above Q3 levels, and that EBITDA margin will continue to expand with topline leverage going forward.
With that, I'll turn the call over to the operator to open up to Q&A.
Sure.
The complexity or the difficulties relative to expectations ---+ the AWL partnership was really solely related to the acquired InsuranceQuotes business.
That business ---+ AWL has had to be more aggressive in rationalizing that business than they or we expected.
I think, in so doing, they are really setting it up to be much more successful going forward, and setting it up for good, strong, sustainable future growth.
But they have had to be much more aggressive in that rationalization than they and therefore of course we expected them.
It's really related to the fact that the industry itself, as you've heard us say over and over again, in all of these verticals, there's a major shift going from lower quality blended pricing to much higher quality and right pricing.
And that's where AWL has taken their business and that's why they were growing when the acquired business was not.
And they are really repositioning the acquired business to be able to get on that same track, but that is requiring a lot more change, again, than ---+ and rationalization than either of us expected.
Our expectations over time are every bit as big as they ever were, in fact in some ways bigger because we've actually discovered a lot more ways to work together.
We and AWL have been ---+ were anticipated in the original partnership, and we are super excited about those things.
In terms of the effect on the quarter, I would say that the difference ---+ if you look at our current guidance, it puts us in the mid to high single digits for growth for the year.
And the difference between that, whether we end up at 6%, 7% or 8%, which is the most likely range of year-over-year growth, between that and the 10% that we were expecting a few months ago is pretty much 100% associated with the delta from the acquired InsuranceQuotes business with AWL.
Some.
Certainly, we didn't ---+ we had partial ramp in the third quarter because we didn't really integrate with the acquired business until early February.
And so you've got the effects of that working for you.
What you have working against us a little bit is the more aggressive rationalization that AWL has done, again, in order ---+ and I think very pragmatically and in interest of the clients, which is an interest long-term growth.
So but yes, we expect more this quarter than we did last quarter.
And we expect more next quarter than we will get this quarter.
So the business is on a very good ramp.
It's already delivering tens of millions of dollars in revenue to us and doing so in a way that's a strong return on the investment we've made there.
But it's the slope ---+ I would say that our view of the size of the opportunity is as big or bigger than it ever was, given particularly the added business opportunities that we now have, but the slope is definitely a little bit lower, given that the changes that they've needed to make and have decided to make have been a lot more aggressive and significant than they expected.
It's a good question and it's something that we discuss periodically.
I think that our view in the near term is that we've had to undertake a lot of changes in the business, and we've had to face down and address a lot of challenges in the business, particularly in for-profit education.
Our commitment has been to aggressively pursue those changes because we see great market opportunity in front of us, which, as you've heard, we believe we are delivering on but for the for-profit education phenomena that we are growing our way out of.
During that period, we just don't think it's prudent to do anything other than maintain a very conservative posture when it comes to our cash position or cash flow on our balance sheet because we certainly don't want to add to that mix of complexity.
The downside risk of either, best case, not having enough cash to pursue further opportunities like AWL, or worst case, running short of cash generally, obviously we are a long, long way from that with $40 million of net cash.
But we don't want to blend in financial risk with the significant operating risk and challenges and opportunities that we've been facing.
So, it will be something we will continue to discuss.
We have had vigorous discussions already.
I'd say that our position may or may not change on that as we continue to grow and to expand EBITDA margins, start generating significant cash again.
And as you know, we just don't have much, other than deals like AWL or historically acquisitions and we don't see ---+ we really don't see any acquisitions we are very interested in this point in front of us.
We don't really have many other uses of cash, and we are not a cash using business or our capital requirements for the basic business model are insignificant relative to our size.
So it's an absolutely right question, but one that we as a board continue to discuss vigorously.
And right now, the thinking that I outlined is really what's governing our decision.
Sure.
As far as the Google question, we have actually not seen any meaningful effects from the changes in the paid listings positioning.
I'd say that it's been more positive than negative, which was a little bit surprising to us, but certainly great news.
Our pay per click as a source of media for us continues to be very strong and just as strong and effective as it was prior to those changes.
So that's been very good, very good news because, again, nobody really knew exactly what those ---+ what the effect would be.
It's not surprising I guess to me.
We had the hypothesis that we probably do fine because we are able to be pretty aggressive on the highest-ranking terms, and the effect should have been primarily on lower ranking terms.
But the good news is that has played out, has played out that way.
In terms of amortization, it's a straight line amortization, $1 million a year over 10 years, which is the term of the deal.
And it's really a $1 million per year ---+
I's an exclusivity fee.
---+ exclusivity fee.
So it doesn't ---+ the way we amortize it through the P&L does not change by volume.
We are just treating it straight line $1 million a year.
And we do include that in adjusted EBITDA; it is not adjusted out.
We interpret it to be part of cost of services, so that payment is included in cost of services for calculation of adjusted EBITDA.
As far as gross margin, our gross margin outlook remains pretty similar to what it has been.
If you look a year ago to now, if you adjust out the one-time effects of the $1.6 million payment we received from a receivable, there is about a 1 point difference between last year and this year.
We lost some on some of the media margins because of the mix shift in the business, but we regained most of that through topline leverage.
About a third of our cost of services is associated with semi fixed costs, and so as we scale, those ---+ that gross margin actually benefits from that scaling.
So we still expect that to be an effect.
And of course the expenses below the gross margin line are also primarily semi fixed and will scale, continue to scale, with revenue growth as well.
So, <UNK>, I think what we will see, I think as discussed, the biggest portion of our semi fixed cost is headcount.
We carry the same headcount that we did at, or a similar headcount, that we did at over $400 million of revenue.
So although we will continue to remix the headcount to point, our resources at the most ---+ the biggest growth opportunities, we don't need to expand headcount to drive the topline.
So as we drive the topline up, the bulk of that media margin will drop to EBITDA.
And so that's where we will start seeing expansion, both on the gross margin and the EBITDA line.
That's the gross effect.
If you want to get slightly more detailed, it's really what we were describing before, which is about a third of cost of services is semi-fixed costs, and so you actually get the ---+ if you want to divide it up slightly, actually get gross margin benefit from the revenue scaling because that component of cost of services will remain fixed while the media margin ---+ and the media margin shouldn't change much from here.
It's changed quite a bit lately because of the mix shift over to more click-based products, particularly in auto insurance.
But the good news about click-based products is that, while they tend to have a lower media margin so therefore lower gross margin, they tend to have equivalent EBITDA margins even at a lower gross margin because they have a lot fewer costs below the media cost or the gross margin line.
And that's because, quite simply, when you sell a click, the click goes to the client's website.
When you sell a lead, the traffic goes to our own websites and we have to maintain those websites and those technologies and then eventually ship that prospect over the client.
So, you take out a whole chunk of the cost structure when you sell a click.
And it's ---+ primarily you see that below the gross margin line but you see some of it in the gross margin line.
So again, so the main effects are, to <UNK>'s point, revenue coming in at media margin, dropping through the same total fixed cost structure.
The gross margin operating margin components of that are about a third of gross margin is headcount or semi-fixed costs which will not grow generally, and quite specifically over the past couple of years, and we don't expect to over the next year or two with revenue.
So you get a scaling of gross margin with revenue growth for the same reason that you get it overall with the other semi-fixed costs.
And then you have the ---+ of course in the other operating costs, you have the topline leverage.
You have media margin dropping to a fixed cost base.
And then, again, the other way to look at it is, as I said before, it's that just a fixed and variable component of overall cost.
So does that make sense to you.
That's the way we look at the business and that's how it's actually working, and that's how you'll continue to see it working.
That's right.
That's fair to say and that's exactly how we ran the business before.
Back in ---+ four or five years ago before we hit both the product cycle and the auto insurance education, those two businesses have gotten to the point where they are about the same size.
And they had almost the exact same EBITDA margin structure.
But auto insurance and the click business of that did that on a media margin base which was about 33% lower than education, but did not carry the other operating costs associated with maintaining all of the websites and lead gen technologies because, again, that click goes straight to the client, the client's website.
So that's ---+ it's both ---+ it's the way the businesses are structured, it's the way we've seen them operate in the past and it is the way we expect to operate it going forward.
So as you see the mix shift away from leads, which is the dominant product in education, and to clicks, which is the dominant product in auto insurance, you'll see what looks like pressure on the gross margin line but really is not at any ---+ we're getting to the scale already where it's the case ---+ is not ---+ there's not similar pressure.
And in fact, the pressure is offset over time with scale on the EBITDA line.
