day, and welcome to the Perion Third Quarter 2017 Earnings Conference Call. Today's conference is being recorded. The press release detailing the financial results is available on the company's website at perion.com. Before we begin, I'd like to read the following Safe Harbor statement. Today's discussion will include forward looking statements.
These statements will reflect the company's current views with respect to future events. These forward looking statements involve known and unknown risks, uncertainties and other factors, including those discussed under the heading Risk Factors and elsewhere in the company's annual report on Form 20 F that may cause actual results, performance or achievements to be materially different from any future results. Performances or achievements anticipated or implied by these forward looking statements. The company does not undertake to update any forward looking statements to reflect future events or circumstances. In addition, as in prior quarters, the results reported today will be analyzed by both on a GAAP and non GAAP basis.
We will be referring to the adjusted EBITDA when mentioning EBITDA in our comments. We have provided a detailed reconciliation of non GAAP measures to their comparable GAAP measures in our earnings release, which is available on our website and also has been filed on Form 6 ks. With me on the call today are Doron Goertzel, Perion's Chief Executive Officer and Ophir Yakovian, Chief Financial Officer Mike Pallad, President of Undertone and Mike Glover, General Manager of Our Search Business. I would like to now turn the conference over to Doron Goetzle. Please go ahead, sir.
Thank you, operator.
Good morning, everyone. When I joined Perion as CEO in April of this year, we began to formulate and implement a turnaround strategy that focused on supporting 3 overarching priorities. These priorities were: 1, to drive our long term organic growth second, to maximize our technology asset to differentiate and enhance our solution offering and third, to optimize our cost structure. As you may remember, one of my first action as CEO was to appoint Ofer Yakovian as Perion's CFO to lead an effort to optimize Perion cost. During the Q3, we made meaningful progress to advance this effort and rapidly implemented targeted expense reduction.
I'm pleased to report that we have already achieved the $6,000,000 reduction in our annual corporate expense run rate that we targeted and announced in the Q2 earnings call. As a result, we are now pursuing efforts to further reduce our fixed expenses and streamline our cost structure in the Q4 and into 2018. Ophir will discuss this initiative in more detail shortly. We are executing on a clearly defined roadmap and advancing key initiatives ahead of schedule. As a result, I'm increasingly confident that the action we're taking today are necessary to introduce a more scalable and profitable offering and position Perion for renewed growth.
In addition, we continue to redirect resources towards our technology development to advance effort to strengthen Perm's core technology and enhance our suite of solution, which is the key of our transition strategy. The extension we announced with Microsoft Bing through 2020 subsequent to the end of Q3 meaningfully extend and strengthen Perion reach with the search ecosystem providing us a longer runway to advance our technology investment. Increasingly, Bing is strengthening its position in search and today they commend 1 third of all desktop searches in the United States. Giving Perion a large and increasingly important partner, the extension of our agreement ensures that Perion will continue to provide its publisher partner and their consumer a leading search and monetization solution. Moreover, the extension of our agreement allow us to continue to grow and evolve our business as Bing continues to enhance its search business.
We continue to be excited about leveraging technology in partnership with Bing to provide new and exciting partners with excellent monetization and consumer search experience. Looking forward, we are now working to further align our business with Bing, our largest partner and adding new publisher to expand our revenue base. Mike Glover, who is on the call, played a key role in advancing the extension with Bing, and I can't stress enough the strategic value that this extension provides as well as the opportunities that it opens for us. On the advertising side of the business, Undertone is well positioned as an industry leading reach media brand digital solution provider and we are working to leverage our technology and expertise to maintain this position. Today, we see 2 distinct addressable opportunities.
The first is a strategic and long term. We are working to develop an innovative technology that will enable advertisers to manage their brand awareness campaigns with a more holistic, scalable and profitable solution offering. They will position Perion for renewed growth. In the near term, we have accelerated our development efforts to introduce high impact ads into unreserved programmatic word. During the quarter, we made significant progress enhancing our programmatic technology that will enable to diversify the partners that we can transact with and will allow Undertone to capture a large share of our clients' ad budget, mainly in the unreserved programmatic arena.
We can expect to introduce this solution in early 2018, which will address the expected impact of the new ad blocking feature that will be included as the default setting in the newest version of Chrome that Google has announced. In addition, the continued integration with Make Me Reach, Perion's social media platform, continues to expand our offering to advertisers with enhanced social solution across platform. Another area of opportunity that we identified to help expand Undertone's addressable market and drive incremental revenues are initiatives to enhance our cost, culture advertising capability. During the quarter, we appoint 2 senior hires who specialize in multicultural advertising. Ad spending to reach Hispanic consumer is approaching a $10,000,000,000 annually in the United States and we believe our new hires, we are now better equipped to help our clients better understand this audience segment, their consumption preference and can now better help brands deliver advertising that is effective and meaningful.
I will now turn the call over to Ophir to discuss our Q3 2017 financial performance in a more detail. Ophir? Thank you, Doron.
Before I begin my detailed review of the Q3 financial results, I'd like to spend a moment reviewing the cost optimization initiatives that Doron highlighted at the start of this call. Since joining Perion in June, we
have rapidly
implemented targeted expense reductions focused on corporate expenses affecting mainly G and A and back office functions. We focused on identifying redundant and inefficient functions and processes to create a lean and effective corporate to support the business rather than a holding company corporate structure that was in place. We already implemented a $6,000,000 reduction in our annual corporate expense run rate that we targeted just 3 months ago. We have also successfully been able to efficiently redirect resources into the key areas that will fuel our long term growth and we are now pursuing additional initiative to further streamline our cost structure in the Q4 and into 2018. I remain confident that these initiatives will be significant and provide us a cost structure that is properly aligned with our business.
Revenue for Permian in the Q3 of 2017 was $65,000,000 comprised of $31,800,000 of advertising revenues and $33,300,000 of search and other revenues. Revenues were down 13% from $74,500,000 in the Q3 last year. This decrease was mainly due to search and other revenues declining 21% and advertising revenue declining a modest 2%. The decline in search and other revenue is mainly due to the network cleanup efforts that the majority of were successfully completed in addition to the expected natural churn of legacy search products. Search and other revenue represented 51% of revenues for the Q3 of 2017 with advertising contributing 49% of revenue.
This is compared to the Q2 of 2016 when search contributed 57% and advertising contributed 33 percent. Customer acquisition costs and media buy in the Q3 of 2017 were $32,000,000 or 49 percent of revenue compared to $33,000,000 or 44 percent of revenue in the Q3 of 2016. The increase in customer acquisition cost and media buy as a percentage of revenue is attributed to both of our business lines. In our advertising business, we have been affected by the increased volume of programmatic transactions, which we expect to mitigate with the launch of new high impact ads into the unresevitable programmatic world. In addition, during the Q3, we have implemented new technological tools that will improve our media buying and delivery capabilities.
In the search business, traffic acquisition cost as a percentage of revenue increased mainly as our legacy product continues to return. On a GAAP basis, in the Q3 of 2017, we reported net income from continuing operation of $2,600,000 or $0.03 per diluted share compared to $2,900,000 or $0.04 per diluted share in the Q3 of 2016. Varian's non GAAP net income in the Q3 of 2017 was $4,100,000 or $0.05 per share compared to $7,700,000 or $0.10 per share in the Q3 of 2016. Adjusted EBITDA in the Q3 of 2017 was $6,500,000 compared to $12,400,000 in the Q3 of 2016. Cash flow from continuing operation in the Q3 of 2017 was $17,100,000 compared to $9,600,000 in the Q3 of 2016.
For the 1st 9 months of 2017, cash flow from continuing operation was $28,900,000 compared to $21,700,000 for the 1st 9 months of 2016. Cash generation in the Q3 of 2017 was positively impacted by the timing of certain accounts receivable collection. As of September 30, 2017, we had cash, cash equivalent and short term deposit of $35,500,000 and total debt of $62,300,000 and a net debt of $26,800,000 This concludes my financial overview for the Q3 of 2017. With that, I will now turn the call back to Doron for closing comments.
Thank you, Ophir. In summary, we remain focused on a clearly defined turnaround strategy announced 6 months ago aimed to accelerate Perion's growth over the next several years. I'm encouraged by the early progress of our cost optimization efforts, which we are advancing ahead of schedule and believe the extension with Bing is a significant achievement that will have a meaningful impact on our business. We have the right team in place and remain committed to drive long term organic growth. I would now like to open the call for questions.
Operator?
Thank you, sir. The question and answer session will be conducted electronically. We'll go first to Carey Wright with Needham and Company.
Thanks a lot. Maybe a couple of questions here. First on the Bing contract, can you talk about if there's any changes to relationship, if there's any changes maybe in the monetization area of that contract with Perion, any puts and takes, does that enable search to maybe be a little more stable or return to growth in 2018? And then the second question is, while you're rolling out some high impact ads for unreserved programmatic in 2018, Can you talk a little bit about Undertone's position for Q4? Obviously, that's a big quarter for advertising.
And should we see kind of a normal seasonality there? And then the final question is just on the ongoing cost optimization. It sounds like you're embarking on some new initiatives. What do you think the annualized savings of those initiatives will be as we look out into next year? Thank you.
Thank you. So, for the first question, which is the Bing agreement and search, I would like to ask our GM, Mike Glover, to take this question. Mike? Mike, you there?
Sorry, I was on mute. Hi, Carrie. We don't typically talk about the actual terms of the agreement, but
I would say that the agreement allows us to grow the business going forward, that there are some sort of strategic and economic benefits within the agreement that we think set us up very well for the next 3 years and beyond.
So I
just want to add because I think that the major decision that the company took was close to 5 months ago before it was when we discussed the extension and the enhancement of the agreement was very much to a point, Mike, to lead this operation and in a way open a new page in our relationship with Bing. I can tell you from meeting with the Bing executive, I think that that did the largest impact on
our relationship
that first lead into signing this extension. But more than that, it has to do with discussion on mutual effort between our strategic partner, Bing and ourselves, that I have no doubt that will lead into potential revenue growth of our business. Any question on the search side?
Do we answer? No. Well,
I don't know if there's any more detail you can provide. I know that other kind of third party search businesses, not necessarily with Bing, but have had to give up maybe some of their take rate if it was mobile. And so while they got an extension, there's been some changes in take rates. And so I just want to try to confirm. Do you believe
Yes. I can tell you that if we are when we are talking about a business which is around $130,000,000 of search business. And if you look at it for, let's say, 3 years, our analysis was that the hit is if we're talking about 130x3, it's at 420 $1,000,000 The hit is not more than $15,000,000 So I don't think it's significant.
Okay. Okay. Thanks. And then on Undertone?
Sure. Yes, of course. And then on the Undertone side, Mike, Pallett, you want to talk more about the high impact adds in the programmatic world?
Sure, Jerome. Carrie, over the last Q3 and which will continue through Q4, we've increased our programmatic deal capacity and scale through enhanced programmatic setups that will continue to take place into 2018, where we believe there's a great opportunity for us, obviously, through some of the programmatic challenges, industry challenges that exist around quality and transparency and performance, more on the standard unit side, our ability to bring engaging high impact formats at scale and allow that to be transacted programmatically specifically in a reserved environment, we believe is an exciting competitive advantage for us. On top of that, we've successfully completed certifications on 3 new GSPs, which furthers our extensions in allowing partners to transact to us through a multitude of partners today.
Thank you. Now part of your question, what has to do with Q4? We're not providing guidance. But as far as we know right now, we're definitely on track and we are satisfied with what we have already, which is, let's say, beginning of November. So all positive.
And maybe as a question that you I was just going to
say, as it relates to undertone and maybe not giving necessarily guidance for Q4, but you would
we would I guess, maybe
the right way to say it or phrase it would be, would we expect to see normal seasonality, Q4 seasonality in the undertone business?
Yes. Yes, for sure. Q4 is our strongest quarter, and we are expecting as far as we can what we have so far on hand in our pipeline, it's definitely going to be our strongest quarter in the year.
Okay. Thank you. Your last question was to do with
yes, it was on the cost optimization. So when it comes to cost optimization, we definitely we decided in purpose to start with what Ophir described as corporate expenses. So that was the first wave. I must say that there is definitely a huge effort from our side and the business units to look on other areas that we can cut expenses, mainly to doing a lot of efficiencies effort. So this is I think it's we're very much encouraged by what we're able to achieve in 3 months and we are continuing in this sense.
Okay. Thank you. You're welcome.
We'll go next to Michael Potter with Monarch Capital Group.
Hi, guys. Thanks for taking the call. And I know we're off to a pretty good start in a short amount of time here. My question is, you mentioned in the beginning of your remarks a clearly defined roadmap and that we are kind of ahead of plan. Obviously, the equity price of our stock doesn't reflect that.
And I think there's a disconnect from being especially myself being a long term shareholder of really the specifics of this roadmap. What are we trying to achieve here And what are the kind of catalysts along the way to show that we are on plan? Again, I feel as if I really don't know what the ultimate objective here of the company is, obviously, to cut operating expenses and then what?
Okay. First of all, that's a fair question. Since I joined, I mean, that was the number one agenda. I know on my agenda is definitely allocating as much as we can technology resources, looking inside and finding, okay, so what's next? How this market is involved into what?
I'm glad to say that we are investing a lot and we are at this point in our roadmap when it comes to our new solution where we are working closely with our design partners into this solution. We are cautious on disclosing it for obvious reason. But I believe that beginning of 2018, which is like 3 months away, we're able to show something and we're able to show something also from the customer side. And we're taking this approach to a market which is trying very much, in my opinion, to invent itself. And that's why we need to be cautious as far as what we are sharing with the public.
What is the budget for the development of this new technology? How much are we spending and how much more do you anticipate that we will spend in order to have, I guess, a marketable product?
Right. So, the majority so we have our engineering expense. That's the research and development that we have here is around that's something around 20 $1,000,000 on an annual basis. That includes the R and D and the product. That's a significant investment.
And I definitely can say that good 40% to 45% of it is going towards the new technology.
So the total R and D budget for the company is $20,000,000 and 40% to 45% is for this new technology?
Yes.
Okay. Okay. So I have that correct. And then how much longer do you anticipate that we will continue to spend to spend to approximately $10,000,000 a year?
Right. So let me put it this way. I think that part of the turnaround that we are doing in the company and that's something that we announced 6 months ago, was very much turning the company to be more known for its technology. And that has to do for the Undertone side and has to do with the search as well. But mainly for the Undertone, that's quite a turnaround.
And when I'm talking about technology, we need to distinguish it to what is a back end technology and what is a front end technology. And the whole concept of bringing to market an ad management solution that will be a holistic solution require effort. Keep in mind that currently we are focusing on an MVP solution that's going to be our version 1 solution. And we have a huge roadmap ahead of us afterwards. So I'm not expecting that this number of $20,000,000 investment on technology will be reduced.
Okay. And can you give us a little color? Are we developing this technology on our own? Or are we doing it in conjunction with some of our customers?
So first of all, we're doing it definitely in conjunction with our customer. We have a huge customer base. Most of them are Fortune 500 customer that are doing business with us and that we've funded on for years. And they are definitely providing us significant input as far as the current pain in today's market, what they would like to see. Keep in mind that we are focusing on a brand awareness campaign and not anything else.
And there is a lot of aggravation from our customer from the brand side that definitely they would like to fix and they would like to see in the new solution. That was one input for us. The second thing that has to do with our solution, we're trying as much as we can to develop our solution in an open architecture way, which means that the essence of this solution was very much based on transparency with our customer and based off huge integration play and an open architecture with other player on the ad network that has to do allow our customer really to get in some areas a best of breed solution, which we are in our solution orchestrating. I hope it's clear.
Okay. But clearly here, I mean, listen, the stock is write off of a 52 week low and a multi year low. So there seems to be a communications disconnect. It's not an indictment on what you're doing. It's just clearly here, I mean, you're saying we're doing well.
We're ahead of plan, but I'm not sure the shareholders are in the same place that you are as management.
No. First of all, it's a fair point. And we as management took a decision. And the decision is that we shouldn't by all means share promises and things which are not having the right proof point. The only thing that we very much did and we're able to share again after we did it was the cost optimization, which I think was expected from new management that is doing turnaround is 1st and foremost taking care on changing, as Ofir was saying, the structure from being a holding company and there was a lot of spend here on the corporate level that we took care of.
And we are continuing with this trend. That was very important element on our three main efforts that we disclosed. The second one was again very crucial for our strategy was very much to renew the agreement with Bing. Why is this important? Because the search business for us is a profitable business that definitely support other initiative of the company.
So we view it as a strategic milestone for us to ensure that we can extend this agreement and we talk about something that can take us till the end of 2020. And what is more important is the type of relationship that we established in a very short period of time. That was the second thing. Now out of the saving and out of the fact that we ensure a stream of a very profitable business on the search, what we're doing with it? And we are allocating more and more of the savings side and the profit from the search into investing in technology.
This investment is going into a new platform that we are developing. I think that I will feel quite comfortable to come and announce on this platform when we are going to have 3 to 5 paid customer that can talk about the value that this platform brings to them and not before. And I understand that currently, the fact that we are satisfied with our plan is not being reflected by the price of the share. But I can tell you that we remain confident. We're not changing course of our activities and we are here for the long haul.
So nobody would expect that in 6 months to see any movement in the stock. I must say that we are continuing as we basically announced 6 months ago and not changing it. And I'm glad that we're able to show some evidence and we will show more once we will have it.
Hello? Yes, I got your answer. I mean, again, it's I appreciate your answer. I don't think we need to continue to drill down any further.
Very good. Thank you so much.
We'll go next to Don Kurnos with Benchmark.
Don, there's a new one. So let me just ask you, guys, Doron, O'Fir, just on Undertone, what we've seen lately in the marketplace has been a pretty big pullback in the CPG space, which
I
think you guys have pretty good exposure to as a lot of guys have been looking to make their year end numbers. But there's also a lot of hesitancy in how they're going to attack the digital marketplace on a go forward basis. National digital dollars have come in pretty heavily across most of the media platforms we follow. And I assume that's probably some of the reason for the sequential step down in Q3. So I'd like to hear number 1, and I apologize if you didn't mention this in prepared remarks because I joined a couple of minutes late.
But if 1, if you think sort of the national softness is in fact transitory and 2, you talked a lot about sort of ramping programmatic and I know that you're kind of working on other offerings. We know that there's been a real big push towards blockchain technology in sort of enhancing security and a lot of those guys are trying to rewrite the agency playbook as to how ads are distributed more on the programmatic side, but also even how they're digitally coded. And I'd just love to get your opinion on kind of those trends and how you're seeing that in the marketplaces that you serve.
Yes. We just discussed it. Mike, you want to something here for what's happening?
Sure, Doron. As it pertains to CPG, I think what we've heard in the news over the last several months is kind of a call to action to clean up some of the noise in the marketplace, primarily around quality and being having more transparency and the focus on establishing brand safe environments. So we obviously support that and that is part of our core offering. So as it pertains to CPG, a lot of the moves that we're seeing on that side of our business are in favor for us as we take the market our narrative around creativity and quality and transparency. As for ramping up programmatic and some of the concerns around the ad blocking technology, especially the recent announcement around Google and Chrome moving into 2018, we've been working closely with all of our publishing partners over the last several months doing several things.
Number 1, making sure where we feel that some of our formats might not be in compliant or at risk for being blocked. We're making modifications to some of those larger Canvas formats to ensure going into the New Year, it will be in line and compliant with the Coalition of Better Ads. The second thing that we're doing is making sure that we're looking at additional inventory sources that aren't impacted by ad blocking, primarily in a much more aggressive launch in the in app space that we took to market and took to our sales organization just this past September. And finally, we're going to be launching a handful of new formats in early Q1 that will be more not only in line and compliant with the Coalition of Better Ads, but also allow us as there are more in line units to tackle and tap into more scale that will actually benefit our programmatic offerings in the unreserved market.
Yes, Mike, I didn't mean I didn't say ad blocking. I meant actual blockchain technology, meaning the tech behind Bitcoin, which is effectively being translated into a lot of these OTT streaming environments and being incorporated as incremental security within the ad inventory marketplace. And I'm wondering if you guys are either working on that or dealing with coding issues that are related to some of these guys that are trying to rewrite the playbook as they serve the ad market in different more secure ways and if you have kind of the underlying technology to adapt to what is clearly becoming a rapidly evolving marketplace?
Yes. And I think one of the things that Jerome pointed out earlier, we're fortunate now to have really brought our engineering product team together, which historically was siloed across several different business assets to really be aligned with the Undertone business on the advertising side to ensure when control changes or shifts in the marketplace are taking place, we have a large resource of engineers that are going to stay on top of that. And today, we're not concerned with those changes.
Can you
guys just talk about possibly serving the OTT and streaming marketplaces more effectively? Obviously, undertone is high impact and with kind of viewer habits shifting away, you've got to get more creative in sort of your social and mobile campaigns. But a lot of the time, you've got sort of you've got some binge watching has become more prevalent in the marketplace. User viewer or customer viewer habits have changed a lot. And so how and when they're served ads has obviously changed to a degree.
So can you just talk about addressing the hotter areas of the marketplace and how Undertone is able to or can possibly fit into some of those developing niches?
Absolutely. If you look at some of our recent announcements over the past 8 months, we've already shifted from being essentially a cross screen ad solution to cross screen and cross platform ad solution with our ability to tap into our assets such as MakeMeReach. We brought new partnerships to the table from a social content and social influencer side of our business, which has been an exciting marketplace for us with our new relationships with the associated products as well as cycle. And then as we look at the video space or the OTT space, that is something that remains of interest to us and we're going to continue to look on new screens and different screens to add to our portfolio offerings for our clients moving into 2018.
And then last one for me. Doron, high level just obviously the company has gone through a lot. It's like you said, it's only been 6 months. You've
talked about some
of these new offerings that you're launching organically. Do you need to go out and fill certain holes at this point? I know you've talked about this in the past, but the longer you have to evaluate the portfolio, are there certain tech holes that you need to fill in order to fully serve your market? Or is there something that's adjacent or an add on that might make some sense to put some more capital to work in order to get the scale you probably need to really appropriately service the market?
Yes. So that's a good question. So our focus at this point, and I think we mentioned it in the previous call, was very much consolidate all tech units under one umbrella. That by itself was, I think, quite an effort. And once we did it, we find very much the synergy between the different business unit technology that were working in silo before and now they're working under 1 unit.
That by itself gave us a huge boost in terms of our capability to deliver technology on time and on quality and also from the innovation perspective. So that was one. Yes, there are areas which we are very much focusing around AI and machine learning, which is very much the engine behind our solution. We were hiring some key experts in this domain to be part of our solution to help us bring our solution to market. And yes, we are continuing and in a way unfortunately enjoy the fact that a lot of technology start up with some brilliant technology are facing some difficult times.
And I think their only hope at this point is very much merged, acquired by a larger company. And we're definitely looking on expanding in some areas. And the whole notion is expedite our time to market.
Got it.
All right. Thanks for all the color. Appreciate it.
Thank you.
And we have no other questions at this time. I'd like to turn the conference to Mr. Goetzfeld for closing remarks.
All right. Thank you. Thank you for joining us on today's call and for the continued interest and support in Perion. We remain focused, as I mentioned, on the strategic initiatives we've laid out and I look forward to providing an update on our progress when we announce our year end results in March. Thanks again for joining.
That does conclude our conference for today. Thank you for your participation. You may now disconnect.