Good day. Welcome to the Perion third quarter 2015 earnings conference call. Today's conference is being recorded. At this time, I'd like to turn the conference over to Stephanie Mazer, Perion Investor Relations. Please go ahead.
Thank you, operator. Good morning, everyone. Thank you for joining us on our third quarter earnings call. The press release detailing the 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 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 for the most part on a non-GAAP basis, which management believes better conveys the operational performance of the business. We will be referring to adjusted EBITDA when mentioning EBITDA in our comments. We provided a detailed reconciliation of non-GAAP measures to their comparable GAAP measures in our earnings release, which is available on our website and has also been filed on Form 6-K. I would now like to turn the call over to Josef Mandelbaum, Chief Executive Officer of Perion. Joseph?
Thank you, Stephanie. Good morning, everyone. Welcome to our third quarter 2015 earnings call. This morning, I will briefly discuss our results, update you on the state of our supply-side monetization business, conclude with an update on our demand-side mobile marketing platform. Yacov will review our financial results in more detail, we will open up the call to your questions. To start, I am very pleased with the third quarter financial results as we exceeded our guidance, delivering $52.6 million in revenue, $9.9 million in EBITDA, $6.7 million in non-GAAP net income, non-GAAP diluted EPS was $0.09. More importantly, the third quarter marks a significant milestone in our company's turnaround as our software monetization business returned to revenue growth for the first time in six quarters.
Our strategy has delivered the results that we expected, validating our long-held view that the software monetization business would remain a good business for Perion, with healthy margins and cash flow. Looking forward, we expect to continue to deliver sequential revenue growth in the fourth quarter. As previously indicated, revenue growth is preceding EBITDA growth by a few quarters as the full impact of our transition to a new revenue model nears completion. Therefore, EBITDA is expected to bottom out in the fourth quarter and return to growth in 2016. Profit margins will stabilize at attractive levels, providing strong cash flow into the future. This growth, a quarter ahead of schedule, is largely due to the decisions we took last year to focus on higher quality publishers as well as changing our business model to reduce our financial risk and align the interest of our publishers with ours.
In addition, we have started to expand our publisher base beyond software publishers. We have launched a number of products geared toward web and mobile publishers and are investing to further enhance this offering in 2016. We believe we are extremely well-positioned to understand and address publisher needs, particularly as they relate to balancing monetization and engagement. Another development that should positively impact the future of the software monetization industry is the formation of the Clean Software Alliance, or CSA, which was formally launched in September. As one of its founding members, Perion has taken a leadership position with the major platform companies, leading antivirus companies, and monetization companies to create a self-regulating body that ensures full compliance with industry best practices.
While it will take time for this to roll out the CSA guideline enforcement, we are committed to ensuring its success and believe that in the long run, this alliance will help to ensure a stable and healthy software publisher monetization industry for the benefit of all. Allow me to discuss our mobile marketing business and the progress we made in the quarter. The integration of our social advertising solution into the Grow Mobile platform is nearly complete, and our focus has turned to aggressively ramping up our investment in sales and marketing to drive revenue growth. We opened up our Barcelona sales office to focus on the Spanish and Portuguese markets and expanded both our New York and San Francisco offices. Spain is one of the fastest-growing European markets for Grow Mobile, and we are excited about our increased presence.
As previously announced, we launched our mobile engagement offering this past quarter to further enhance the Grow Mobile platform and increase our platform's competitive advantage. We have already signed up eight new clients in less than two months. We have one of the only solutions with built-in multivariate testing capabilities, intelligent data tied into a campaign management tool that makes it easy to use, and most importantly, gets results. Overall, we had 168 active advertisers with over $33 million of managed ad spend despite the industry-wide summer slowdown. We expect the fourth quarter to be the strongest of the year. Turning to our balance sheet, our cash balance continues to grow and currently stands at approximately $130 million at quarter end.
As we continue to refine our strategy and focus on high-quality advertising solutions for publishers and brands, we have identified a number of attractive acquisition opportunities to further enhance a differentiated and substantial market opportunity. We are simultaneously considering taking a more active approach in the capital markets. With an eye toward the expiration of the lockup of a large number of shares in January of 2016, we have decided to reevaluate our options for increasing shareholder value. We intend to communicate our plans before year-end. Let me turn the call over to Yacov, who will walk you through our financials. Yacov?
Thank you, Josef. GAAP revenue for Perion this quarter was $52.6 million, compared to $48.6 million in the previous quarter and $86.3 million in the third quarter of last year. The comparative reduction on a year-over-year basis will continue through the fourth quarter as a result of our decision last year to exit certain parts of the download industry, and thus, significantly reduce our customer acquisition costs, or CAC, that drive sales. Importantly, as Josef mentioned, this is the first time in six quarters that we experienced sequential revenue growth, and we expect that to continue going forward. This quarter's revenues reflect gross revenues of $54.4 million, reduced by $1.8 million of our CAC netted from top-line revenues. We continue to transition our business to a lower-risk model with net revenues increasingly closer to gross revenues.
Other revenues in the third quarter of 2015 were $7.1 million, which was made up of $3 million of advertising revenues and $4.1 million of product revenues as compared to $9.5 million and $3.5 million in the third quarter of 2014, respectively. Other advertising revenues are highly correlated with search-generated revenues, as it comes from inventory on the homepage. With the reduction in CAC, there was a corresponding reduction in queries and homepage inventory. In the third quarter of 2015, CAC was $25.3 million, reflecting a gross cost of $27.1 million, reduced by the $1.18 million I mentioned earlier as being netted against revenues. On a gross basis, CAC has started to increase sequentially, providing for our outlook for revenue growth in the next quarter. When comparing this quarter's gross CAC expense to the third quarter of 2014, CAC expense then was $30 million.
The reduction in CAC is attributable to two main causes. Excuse me. The first, as I mentioned above, is our decision to exit certain parts of the download industry and to focus on higher-quality premium partners. The second, as a result of our favoring revenue sharing payments over prepaid price per install, the CAC is spread over time, in parallel with the revenues recognized. As we began in the latter part of 2014, we continued to improve on our cost structure this year. As a result, we continue to reduce non-GAAP operating expenses, excluding CAC, and these were $18.1 million in the past quarter, compared to $24.1 million in the third quarter of 2014. While almost all our expense line items went down, we maintained a high level of investment in future growth.
As we focus on wrapping up the marketing of our Grow Mobile platform, we expect sales and marketing expenses to increase as we go forward. EBITDA in the third quarter of 2015 was $9.9 million or 19% of revenues as compared to $33.9 million or 39% of revenues in the third quarter of 2014. Perion's non-GAAP net income in the third quarter of 2015 was $6.7 million, representing a 13% net profit margin compared to $26.6 million or a 31% net profit margin in the third quarter of 2014. As a result, non-GAAP diluted EPS in this past quarter was $0.09 per share as compared to $0.38 per share in the third quarter of last year. On a GAAP basis, we had this past quarter a net loss of $70.8 million with diluted loss per share coming in at $0.99.
The reason for this net loss is due to a one-time non-cash $74.1 million impairment of acquired goodwill and other intangible assets. Perion's share price and market value have declined, triggering a re-examination of the book value of intangible assets on an ongoing basis. Most of the intangible assets reflected the value of the monetization business according to the market value in the beginning of 2014. Therefore, we have reduced the value of acquired goodwill and intangible assets by $74.1 million so that the current carrying value is $109.3 million. This impairment does not affect Perion's ongoing operations or tangible equity, which has increased to $96 million as compared to $65 million as of year-end and more than double the $43.2 million as of September 30th, 2014.
GAAP cash flow from operations in the third quarter of 2015 was $4.9 million, and as of September 30th, 2015, we had cash equivalents, and short-term deposits of $129.4 million, and working capital was $112.2 million. This concludes my financial review for the third quarter. Let me now share with you our financial outlook for the fourth quarter of 2015. Having turned the corner, we expect revenue to continue to grow in the coming quarter as well. Specifically, our fourth quarter outlook is as follows. Revenue is expected to be in the range of $52 million-$54 million. Adjusted EBITDA is expected to be in the range of $6 million-$7 million, and non-GAAP net income is expected to be in the range of $4 million-$5 million. As we explained last quarter, profit trends lag behind revenue trends.
This is because in 2015, in addition to our focusing on premium relationships, we reduced the risk inherent in our former PPI-based model, transitioning into a revenue sharing relationship. As these revenues churn out, so does the profit from that arrangement. We expect profits to bottom out in the fourth quarter and stabilize in the first quarter of 2016. With that, we will now open the call to questions. Operator?
Thank you. If you would like to ask a question, you can signal by pressing star one on your telephone keypad. If you're using a speakerphone, please make sure your mute function is turned off to allow your signal to reach our equipment. Again, press star one to ask a question, and we'll take our first question from Kerry Rice with Needham.
Thanks a lot. Nice solid quarter, guys. I've got kind of a three-part question, all interrelated. As we think about customer acquisitions ramping up in Q4, it sounds like that sales and marketing is related primarily to the mobile initiatives. Do we expect to see a material boost in Q4 mobile revenue, or is it still primarily search? You mentioned that EBITDA is going to stabilize likely in Q1 of 2016. Can you give us any thoughts on just maybe overall growth that you're thinking about 2016 at this point, or any details or guidance there at all? Thanks.
We'll start with the beginning, and I don't know if I'll answer the end. With regards to the first question, with regards to our CAC expenses, as we explained in the call, the CAC expenses are increasing. That's the result of our transitioning to the revenue sharing model. You're going to continue to see CAC increasing nominally and as a percentage of revenues. With regard to our other marketing and sales expenses, actually, those expenses in general, in total, went down. What we're saying is is that we're expecting the mobile portion within those expenses to increase, and therefore, we could expect some nominal increase as we go forward. We do not expect it to be very significant because, as I said, other marketing expenses have actually gone down somewhat. Finally, with regard to 2016.
Let me just. If I can, Yacov. Let me just add to what Yacov just said, Kerry, on the mobile side. What we're doing is we're basically hiring salespeople and account managers to ramp up. There's a lead time when they get hired before they really produce revenues. As we said before, we expect our mobile revenues to double in 2016. That's a direct result of the hiring we're doing in Q3 and Q4 on the sales and marketing side for mobile. That's where you see it. You won't see a huge spike in 2014. I think you'll see a good increase in mobile revenues in Q4, but it's still going to be a very small amount compared to the other revenues in the business.
We expect 2016 to really be a nice breakout year for the mobile business as we are ramping up sales and marketing in the past two quarters.
Just with regard to the last question, Josef already answered you. With regard to Grow Mobile, we're expecting to double the business. With regard to our other business, it's too early to say. We're saying that we do see a positive trend, we do sequential growth, and we expect that to continue in 2016.
Thank you very much.
I think, Kerry, just to add to that. First of all, thanks for joining the call as usual. To add to that, I'd say, we'll give guidance sometime early next year, but you can take from what we're saying, I think, just to be really transparent. If we're saying the EBITDA, we think in Q4 is going to be the low point, then it stabilizes from that point forward. You can safely assume that we think the revenues obviously will be in line with that because if we're generating that EBITDA as we go forward. We think that next year is going to be a good year for us. We'll give you firm guidance early next year as we kind of finish our planning process for 2016 and beyond.
Okay. Thank you.
We'll take our next question from Daniel Kurnos with The Benchmark Company.
Great, thanks. Good afternoon to you guys. High-level questions on Search for Me.
Hey, Dan.
Hey, Josef. High-level questions on Search Monetization. Start with a nice quarter-over-quarter step-up in this quarter, and sort of congratulations on executing and doing what you said you were going to do. It seems a little bit more moderate on a go-forward basis on the Q4 guide. Can you just maybe give us a sense of how much of the benefit in this quarter was from the Windows 10 tailwind versus, say, new partner growth or monetization improvements? Have any of your publishers been impacted by the recent Google Panda refresh?
Okay. See if we can take that, Dan. First of all, thanks for joining again. On the Windows 10, I'd say, in general, there wasn't a significant impact one way or the other for Windows 10 for us. I think as we mentioned last quarter when it first launched, Windows 10 is actually gaining some nice traction. The Edge browser, which is really the one that would probably help or impact us one way or the other, doesn't have the same traction as Windows 10 does. I think that's what we're seeing from all the reports, the industry reports out there. I'd say right now, neutral.
I think in the future, we hope it will obviously have a benefit, but we still don't know if it's going to be a small benefit or a small loss in terms of what happens as Windows 10 and Edge converge, which may or may not happen in the future. I think from that standpoint, it's been neutral on Windows 10. In terms of the growth we've seen in the business today, it is mostly a reflection of, I'd say, two things.
One is we did go to higher quality premium publishers, and as Yacov mentioned in his remarks, as we basically lap the one year and 15-month anniversary of when we started moving the business to a different model, we're just seeing some of our partnerships really grow and take off in a way which is very beneficial to us, obviously, and to them, and I think to the industry as a whole, as a lot of the players get out ahead of this. I think what you're seeing in general is that we took the hard medicine a little about one and a quarter ago, a year and a quarter ago, and some of our other competitors are just taking to it now. I hope we've executed better, but I think it's just a matter of timing as we go forward on the industry.
I do think that the industry is, as you know, Dan, is certainly many of the companies, especially the private ones, have had trouble. Some have gone out of business, some are being consolidated. We think that puts us in a good situation with our multiple partnerships, whether that's Bing, obviously, Yahoo, or Google. Still one of the only companies that have partnerships with all three, and we think over time that will really benefit us.
To that point, Joseph, obviously, the announcement of the Google Yahoo deal, which I think we all suspect at some point may get destroyed by antitrust. Just curious if that is going to have any impact on your outlook, understanding that Bing still gets 51% of the search queries, I believe, from Yahoo at this point.
Yeah. I'd say for us, actually, it's probably neutral to good news, and I'll explain why. From what I understand, and again, I just know what I've seen in the press as well and what we hear. Most of that Google Yahoo partnership is going to be limited to Yahoo's organic searches on their sites. It will not be available to third-party partners of Yahoo, to my knowledge. Anybody who today is one of our competitors using Yahoo, in addition to ourselves using Yahoo, I don't think you'll get a lift from the Google partnership as far as I know about it today. That may change over time, but I don't think that's over today. Today, I think it remains relatively the same, which if you have a Yahoo deal and it performs for you, that's great.
If you have a Google deal, it performs to you or a Bing deal, it performs to you, that's great. As you know, Bing today is our biggest partner because it performs the best for us.
Okay. You've kind of answered this. Obviously people are going to continue to have questions about the longevity of the business. Can you maybe just talk about the puts and takes between the newly launched CSA, the headwinds from increasing ad block usage, and if your views on potential longer-term return to year-over-year growth has changed at all?
Sure. First of all, we're very bullish on the CSA. Frankly, it's taken us a long time in the industry to kind of get all the actors together. As you can imagine, the browser platform companies, antivirus companies, all the download companies trying to agree on something, I think has been challenging. The people who are working on this have really spent a lot of time developing guidelines and actually actions that we think will be very beneficial to the industry overall. I think that's what we're betting on. We've bet on that since the beginning. Some individual companies have been very instrumental in moving this forward. Not at liberty to say that today who exactly, but they've been very instrumental. We've just been one of them.
I think as that happens, those guidelines are largely in line with what you see from, whether it's the search partners or the antivirus companies and things like that, because they're all part of it, in addition to the download companies. I think you'll see an improved overall consumer experience. We want this to be a consumer advocacy group. We believe that's going to be there, and we think that will obviously help the old industry in terms of longevity. As far as we know today, and Dan, I think you've said this in your research, I don't see the desktop business going away. I don't see downloads going away. I don't think it's a big growth area going forward. I think you're seeing that from, whether it's IAC or Bluecore or ourselves or other public companies out there that publish numbers.
I think all of us are saying the same thing. We don't think it's going away. It's changing. In our case, we think it's going to change for our benefit because we're number 2, I think, in the industry today after IAC, and I think they're showing some good resolve and even growing parts of their business, and we believe the same will be with us. With regards to ad blocking, it really doesn't impact search today because the search is all organic on either Google, Yahoo, or Bing. Ad blocking basically impacts mostly ad injections into or JavaScript injections into the page for ad units, whether it's a ad unit on the page itself or an ad injection that's injected on the page.
As you know, today, most of our revenue in the download space comes from the search revenue, which is directly from Bing or Google or Yahoo. We don't really believe for us it's going to be a major issue for our partners. As we expand into other forms of advertising, I think overall ad blocking, in my personal opinion, this is just personal, I think it's a good thing for the industry in the long term. In the short term, there'll be some pain, but fundamentally, all ad blocking is addressing is the fact that ads suck today in most cases. At the end of the day, advertisers and publishers have to learn better to make better quality advertising. Over time, if that happens, the ad blocking frankly goes away by itself.
I am very confident that will not dictate the industry going forward because too much of the world is built on quality, free content, and I don't see a lot of consumers stepping up to the plate paying for that anytime soon. Eventually there'll be some equilibrium. Dan, if you remember, about 15 years ago, there was pop-ups and pop-unders, that really dominated the industry for a couple of years, everybody complained about it. Eventually, through a lot of things with the IAB and other industry organizations, frankly, like what we hope the CSA will be, they solved the problem and got to an equilibrium where pretty much everybody agreed on how to move forward.
That's good color, Josef. If I could just ask quickly on mobile, just two quick questions. First, you announced a promo-free 15-day trial a couple of months ago for Grow Mobile. Just wondering what prompted that decision, what the uptake has been, and more broadly, how you expect customer growth to trend. Secondly, I don't know if this is relevant or not, but was King a customer? If so, do you expect any impact from the Activision acquisition?
Can you repeat the last question again, Dan?
Was King Mobile a customer of yours?
Okay. I'll start with the first one first. I'll go to the second one. The free trial. Contrary to popular belief, which is kind of funny, we did the free trial not because we were desperate. We just did it because it's a good marketing tool as we start ramping up our sales to get people trying our platform because we have a lot of confidence our platform is that good. I'm pleased to say that we got some good leads from that and some good clients trying our platform. I don't have the exact numbers in front of me. At the next quarter call or offline, we can certainly let you know roughly how many clients tried it and are sticking with it. We actually did it as a pure marketing thing. We did it. We announced it.
Basically, we did it in a lot of different channels. One of them was the press release. It was just a way of just getting the word out. We went to conferences. We did it. We did it on social media. Frankly, again, we're just trying to make sure that advertisers and agencies who are out there know that we are a viable platform, one of the better platforms, and we're telling them, "Hey, we'll give you a free trial for two weeks to try it." It was, I think, just frankly, good block and tackling Marketing 101. From what I understand from my team, it's worked relatively well. With regards to King or everybody else, we don't really comment today on who our partners are.
In general, even if you look at anything, I think, Dan, no matter who the partner is, as long as app installs and/or brand objectives for or marketing objectives for brands on mobile grow. We see this as a great opportunity. Just the consolidation itself doesn't mean they'll have less games as an example. Let's assume they were our partner. The amount of games they produce, I don't think will change, and they still want to get those games and those apps downloaded. We think platforms like ours will be used more and more as you go forward. To that point, yeah, we think fourth quarter will be a very nice growth over the third quarter as.
All right
we've seen that already.
Sorry, go ahead. I'm sorry, what was that, Yacov?
Okay. No. When it comes to sales and marketing, Yacov doesn't do a lot of talking. He usually goes with spending too much money, but that's all he says.
Yeah, I can understand that, Josef. All right. Thanks for walking me through all of that. I appreciate that you taking the time.
No problem. Thanks, Dan.
We'll take our next question from Marc Estigarribia with Chardan Capital Markets.
Thank you much for the question. Congrats on the quarter, guys. In terms of the sales and marketing, can you just update us more with your strategy there in terms of traction going to one platform and what's going on in New York? Also, just on R&D, what is your strategy going through in R&D? I know the customer acquisition cost has been upticking. What is sort of on the innovation side in terms of diversifying a product offering? If you can make comment on that as well, please. Thank you.
Sure. Thanks, Marc, and thanks for joining us today. Our strategy on sales and marketing in particular, and we've said this before, we look at 2016 as another investment year in our mobile business. We believe that there's significant value creation that's available to us. We know there are a lot of private companies, for example, who compete with us in this space, and I would say they're around the same size, maybe slightly bigger, and they're getting a value multiple of, frankly, anywhere from 4 to 6 times net revenue. We think by focusing and building this business, we have some real value creation for shareholders as we go forward. Our strategy here is to ramp up. In New York, we've started, must've been six, seven months ago. We had zero salespeople. I think today we have eight.
In San Francisco, we've increased our salespeople, and obviously in Europe, we've done the same as we really try to focus on growing the global business and frankly, getting out in the street and fighting the good fight with our competitors out there. We believe that we're better positioned than most because as part of the bigger company, we have, obviously, the profits and the cash flow that we've described. We think we'll do that, and I think you'll see us being aggressive on both increasing the sales headcount and the account management headcount, as well as more conferences and frankly, just marketing dollars to help us get the word out over the next year. That's the first answer on the sales and marketing there. I think you can see that on a nominal basis, probably going up next year.
Overall, as we balance our businesses, I don't think you'll see a huge spike in the sales and marketing on an overall basis, but you will see it in the mobile business. With regards to R&D specifically, on the R&D side, I think when you look at combining the two platforms as an example, a lot of the work on the R&D side, as you can imagine, is pre really ramping up the salespeople. It's really investing ahead of the curve to build the platform, to actually do a lot of work now consolidating the platform. We're almost complete. Not quite there yet, but we're almost complete. Hopefully by the end of the year, we'll be, I'd say, pretty much complete with that process. I think our R&D costs will be relatively stable going forward on the mobile side. I don't see huge increases in that.
I think, if anything, there may be slight decreases over time as hopefully sales grow. Certainly, it's a percentage of revenues. On the other side of our business, we are, I wouldn't say increasing R&D, but we are shifting resources, moving some of the R&D away from what would be the more traditional legacy business, which is now a mature business and needs less R&D and focusing it more on developing solutions for the content publishers. We mentioned mobile and web content publishers. For example, what we've been doing with CodeFuel, we talked about last quarter, really trying to reinvent inside search. We have a few other products we'll be launching end of this quarter, early next year, to really focus on how to help publishers balance their engagement needs of their users with the monetization needs of their business.
We're excited about that, and we think we can leverage a lot of the knowledge we have here to really make that, hopefully, a big winner for us over the long term.
Great. Thank you. Just to follow up, so in terms of creating the new run rate in the forward model, I'm sure the next quarter is going to stabilize you in terms of cost. Should we envision next quarter's margins as sort of the new run rate going forward, at least for the first half of the year and trend up into 2017? How would you guide us on the operating margins in the second half into 2017?
I think that's probably a fair assessment, Marc, that Q4 will be a good indicator going for at least the first half of the year, and then it should increase throughout the year on the EBITDA margins from the overall business.
Great. Thank you very much. Great quarter.
Thank you, Marc.
With no further questions at this time, I'd like to turn the call back over to Josef Mandelbaum for any additional or closing remarks.
Thank you. To wrap things up, I am very pleased with our third quarter results. The turnaround in our publisher monetization business, as well as the promising metrics in our mobile marketing business, mark great things to come. As we build a stronger business and create long-term value for shareholders, it is incredibly gratifying to see our proactive strategy successfully gain traction and return Perion to growth. Of course, none of this would be possible without the professional support and hard work of our dedicated employees. Thank you to everyone at Perion, and thank you all for joining us today. Have a nice day.
That does conclude today's conference. Thank you for your participation.