Earnings Call: Q1 2016

May 4, 2016

Good day, ladies and gentlemen, and welcome to the Shutterstock First Quarter 2016 Earnings Conference Call. At this time, all participants are in a listen only mode. Later, we will conduct a question and answer session and instructions will follow at that time. As a reminder, this call may be recorded. I would now like to introduce your host for today's conference, Mr. Craig Ellenstein, Senior Vice President, Investor Relations and Strategic Finance. Please go ahead, sir. Thank you, operator. Good morning, everyone, and thank you for joining us for Shutterstock's Q1 2016 earnings call. Joining me today is John Oringer, our Founder, Chief Executive Officer and Chairman and Steven Burns, our Chief Financial Officer. During this call, management may make forward looking statements that are subject to risk and uncertainty, including predictions, expectations, estimates and other information. These include statements relating to the expansion of our addressable market, the success of new product offerings, including products we recently acquired, revenue growth and the predictability of our revenue, adjusted EBITDA, equity based compensation, taxes and capital expenditures. Our actual results may differ materially from the results predicted and reported results should not be considered as an indication of future performance. Please refer to today's press release and the reports and documents we file from time to time with the U. S. Securities and Exchange Commission, including the section entitled Risk Factors in the company's Form 10 ks for discussions of important risk factors that could cause actual results to differ materially from those discussed in any forward looking statements that we may make on this call. On this call, we will refer to adjusted EBITDA, non GAAP net income and free cash flow, which are non GAAP financial measures. You can find a description of these items along with the reconciliation of the most directly comparable GAAP financial measures in today's earnings release, which is posted on the Investor Relations section of our website. We believe that the use of these measures provides important additional insights for investors. However, these non GAAP financial measures should not be considered in isolation from or as a substitute for financial information prepared in accordance with GAAP. With all that out of the way, let me turn it over to John. Thanks, Craig. Thank you all for joining us this morning. Shutterstock is off to a great start in 2016 with the sustained financial and operating momentum we generated throughout 2015 continuing during the Q1. Both sides of our diverse marketplace continue to expand rapidly as we remain laser focused on delivering the best possible user experience for our customers and our contributors. Content matters. It's something you've heard us say consistently and that is without a doubt what we hear the most often from our customers. Knowing that Shutterstock provides the most robust selection of high quality content that can spark the creative process is why existing customers keep coming back and why more and more new customers are using Shutterstock than ever before. With over 100,000 contributors submitting content, we continue to build scale while ensuring our content remains as fresh as possible. During the Q1, we added nearly 10,000,000 high quality images to our royalty free library, twice as many as we added in Q1 of 2015. And Shutterstock now provides over 81,000,000 photos, vectors, illustrations to customers of all types and sizes. We also continue to expand our unique video offering with over 4,000,000 video clips, 62% growth from a year ago. We are capitalizing on the growing demand for stock video content. And similar to images, it's not just the size of the library, but also the quality and diversity of our offering that's being embraced by the or augmenting a scene or augmenting a scene in a major television show or motion picture, we have something for everyone. As the breadth and depth of our content offering expands rapidly, it is more imperative than ever that we continue to innovate on the search experience. Helping our customers find that perfect image quickly removes one of the biggest constraints in the creative process. On the last earnings call, I highlighted how we are beginning to move away from the reliance on keywords by developing computer vision technology. This past quarter, we launched reverse image search, allowing users to upload an image and instantly find similar images on our sites that are ready to be licensed. It's still early days for this innovative technology, but initial indications are very positive with search success rate for reverse image 15% higher than traditional search methods. Product matters. You've heard us say this over and over again as well. While we continue to build our search functionality, we also focus on workflow tools to further increase engagement with our customers and make the creative process more efficient. In January, we launched Shutterstock Editor, our in browser editing tool that simplifies common steps in the creative process and customer adoption is growing steadily, 3 times as many users downloading an image through Shutterstock Editor in March versus when it launched. Overall, Shutterstock Editor users are twice as likely to download an image and we keep expanding its capabilities, most recently adding text functionality to fill another consistent customer need. While innovating from both the product and tools perspective remains priority, as we mentioned on the last call, we're spending a significant amount of time, energy and resources today, migrating our technology platform from our legacy monolithic structure to a fully services oriented architecture. This will enable us to be even more nimble and pioneering in the years ahead. We are well underway in this migration. I expect to have the bulk of this work completed this year. Delivering a superior customer experience by having the best content and unparalleled search experience and powerful workflow tools is attracting more and more users to Shutterstock. Over 1,500,000 customers downloaded content over the past 12 months and we continue to see remarkably high level of revenue retention with rates exceeding 95% over the past year. Customer acquisition and retention remain core priorities and I'm excited to announce that we have just hired a new Chief Marketing Officer, Jeff Weiser, who will be joining us from Beachbody, where he has been a significant contributor to their growth. Jeff's diverse experience and track record in strategy, analytics and marketing optimization make him an ideal fit as we look to capitalize on the many opportunities we see ahead. As the customer base expands, we also continue to convert more and more of our traditional e commerce clients into enterprise accounts with deep relationships who can spend tens of 1,000 or even 100 of 1,000 of dollars annually. We now have nearly 28,000 enterprise customers, up 80% from the same period a year ago, and we continue to grow our content offering to further meet the diverse needs of these businesses. In January, we introduced stock music to our enterprise platform. And just last month we announced an exclusive partnership with The Associated Press to further build out our editorial offering. By offering a broad suite of content and workflow tools, we will continue to attract new enterprise customers while driving additional share of spend from existing relationships. Overall, Shutterstock is off to a great start in 2016. We are delivering sustained financial growth as the network effect of our business remains stronger than ever. Investments we have made over the last several years continue to bear fruit and we are still in the early days of maximizing the opportunity across the creative landscape. As we deliver these strong results, we remain committed to creating new opportunities by expanding our content horizon, building innovative workflow tools and developing unique technology solutions that we can build additional long term value. I will now turn the call over to Steven to walk you through our financial results. Thanks, John, and good morning, everyone. Appreciate you joining us this morning. Before I discuss our performance, I want to let you know that we have posted a brief presentation deck on our website, which contains supporting materials for our quarterly results as well as other items, which we will discuss on today's call. As John highlighted, Shutterstock is off to a great start in 2016 as the powerful network effects of our business model drive significant growth in both our content library and our customer base. The sustained operating momentum we delivered in the Q1 translated into revenue growth on a reported basis of 20% and adjusted EBITDA growth of 28%. Excluding the impact of currency, revenue growth was approximately 24% and adjusted EBITDA increased 36% as we continue to see strong gains from our enterprise offering as well as from our e commerce image and footage products. We continue to see solid trends across key metrics as we attract new customers across multiple content types and build increasing customer lifetime value. This past quarter, our user base expanded to more than 1,500,000 customers, including an 80% increase in our enterprise customer base versus the Q1 a year ago. We also saw a 23% increase in paid downloads, primarily from new subscribers, but also from a higher level of activity across our existing subscriber base in conjunction with the new monthly download limits we introduced during the Q2 of 2015. While this increased engagement is expected to deliver greater lifetime customer value from longer retention as customers further integrate our products into their workflow, in the short term, the increased usage is actually a drag on our revenue per download. On a reported basis, revenue per download declined 3% this past quarter, and excluding currency movements, it was in line with the level of a year ago. Over time, we certainly expect this metric to increase as we further grow enterprise sales and generate increased consumption across our video, editorial and music products, which carry higher average prices than our e commerce image platform. However, given that subscription downloads make up the vast majority of the download activity today, in the short term, the revenue per download trend will primarily be a byproduct of increased customer usage as we anniversary the April 2015 revisions that we made to the monthly limits as well as the 3.50 image plan. As Shutterstock generates strong revenue growth across a diverse set of asset types, we are also benefiting from the geographic diversity in our customer base. Currently, 40% of our revenues are from customers in North America, 34% from European customers and 26% from the rest of the world. Each of these regions is growing at double digit growth rates for us and we continue to see strong momentum in nearly every country and region, including most notably India, Korea and Germany. Shifting to the cost side of the business, we continue to align our spending with the revenue opportunity we see across our platform. Operating expenses increased 19% versus the Q1 a year ago, primarily driven by higher contributor royalty rates associated with our revenue growth. Contributor royalties were approximately 29% of revenue for the Q1, which was consistent with the full year 2015. However, it is slightly higher than the Q1 of 2015 as we did not introduce our monthly download products until April of last year. Sales and marketing expense increased 9% versus the Q1 a year ago, excluding stock based compensation and was approximately 22% of revenue. Total marketing expense was down slightly versus a year ago, primarily due to the timing of certain marketing costs. However, we anticipate marketing as a percentage of revenue for the full year to be similar to 2015 as we further grow our traditional businesses and capitalize on newer opportunities such as music and editorial. Overall, the cost of acquiring a customer remains relatively steady and the return on our marketing investment remains strong as we continue to drive new customers to our platform while keeping retention and repurchase rates high across both subscription and on demand products. Excluding stock based compensation, G and A expenses increased 50% for the Q1 versus the same period a year ago, driven primarily by approximately $1,700,000 from the modification of the terms of the contingent consideration agreement related to our premium beat acquisition. The total cost of this modification was $2,400,000 with the remaining $700,000 included in other income and expense category, which is consistent to prior periods. The change in the agreement, which relates to a broader responsibility for the premium fee team, resulted in the accelerated recognition in the quarter as well as the partial recognition above the operating income line. Product and development costs excluding stock based comp increased 9% in the Q1 versus last year, primarily due to higher personnel and consulting costs related to building a more expansive user experience and transitioning the technology platform, partially offset by increased capitalization of labor of approximately $3,000,000 Overall, our revenue growth in the Q1 along with the controlled cost base translated into solid adjusted EBITDA growth. On a reported basis this past quarter, adjusted EBITDA increased 28% and excluding the impact of currency, our adjusted EBITDA growth was approximately 36 percent. It's important to note that while we are delivering this growth while delivering this growth, we continue to focus on expanding our capabilities by investing in personnel, product development and technology, so we can further strengthen top line results and continue to innovate to build additional long term value. GAAP net income in the quarter was $6,100,000 or $0.17 per share as compared to $3,200,000 or $0.09 per share in the Q1 of 2015 with the improved operating performance and lower stock based compensation expense, partially offset by approximately $2,100,000 in the additional expense related to the premium B contingent consideration I just mentioned. Non GAAP net income, which excludes the after tax impact of non cash equity based compensation as well as excluding the amortization of acquisition related intangibles and changes in the fair value of contingent consideration related to acquisitions, that non GAAP net income amount increased 46% in the first quarter to $13,100,000 or $0.36 per share as compared to $9,000,000 or $0.25 per share in the Q1 of 2015. Turning to our balance sheet, we generated $14,600,000 of free cash flow this quarter and finished the quarter with $275,500,000 of cash and short term investments. This equates to approximately $8 per share of cash. Given the strength of our balance sheet, the sustained operating momentum across the company and our belief that our share price is not reflective of the value of the company as well as our prospects, we continued in the quarter to repurchase shares as part of our $100,000,000 share repurchase program. This past quarter, we repurchased nearly $28,000,000 worth stock, reducing our share count by approximately 881,000 shares. Since the end of the Q1 and through May 2nd this year, during the Q2, once again through May 2nd, we've repurchased an additional 160,000 shares, which takes our total purchases under the plan to date to 1,500,000 shares, expanding approximately $49,800,000 The total number of shares purchased represents 7.6 percent of the non insider owned shares outstanding. It's important to note that our first priority for capital allocation remains unchanged and that is investing in our business and external growth opportunities which enhance our long term profitable growth opportunities. Looking to the remainder of 2016, we remain very encouraged by the operating momentum across the entire business and our full year guidance remains unchanged. For the full year of 2016, our expectations remain revenue of $495,000,000 to $510,000,000 and adjusted EBITDA of $95,000,000 to $100,000,000 These expectations include the impact of our technology platform migration and assume that current foreign exchange rates to the U. S. Dollar hold. At these exchange rates, we still anticipate a headwind of 3 to 4 percentage points on full year revenue growth and 8 to 9 percentage points on EBITDA growth when looking at 20 sixteen's results compared to 20 15. Please remember that we record revenue with the exchange rates at the time a product is sold as opposed to when the actual download by the customer occurs. As a result, the impact of currency movements tends to lag the shift in market currency rates and the ultimate effect this year will depend on the actual exchange rates as well as the timing of downloads. We expect the currency impact in the 2nd quarter will be similar to the Q1 and then begin to abate in the second half of this year. We also expect lower EBITDA margins in the Q2 versus the Q1 with our marketing spend returning to more normal levels while we further invest in newer product lines and upgrading our infrastructure. In addition to the revenue and EBITDA guidance for 20 18, we also expect that in 2016, non cash equity based compensation expense will be approximately $35,000,000 Capital expenditures will be approximately $25,000,000 We thank you for your time this morning and your interest in Shutterstock. John and I are now happy to answer any questions you may have. Operator, please open the lines for questions. Thank you. Our first question comes from the line of Moussa Swalley of Cantor Fitzgerald. Your line is open. Thank you very much and guys congrats on a solid quarter. Two quick ones, maybe starting with you, John. Can you talk just broadly speaking about the competitive environment? By just looking at your sales and marketing, it seems that you're actually showing leverage where we thought you wouldn't necessarily considering what's going on in the broader market. So maybe you can speak to that. And just broadly speaking, with these increased investments that you're calling out or with the increase in sales and marketing that you've mentioned and Stephen mentioned, which areas are you basically going to be spending money on if it's not customer acquisition? And then, Stephen, if I look at your EBITDA guidance, it looks like Q1 of last year was kind of the trough EBITDA period, followed by higher levels of EBITDA Q2, Q3, Q4. If I look at your guidance if I look at Q1 of this year relative to your guidance, even at the higher end of your range, it looks like we're going the other way. So maybe you can kind of call out any one time issues or just why would that actually be happening? Thanks. Okay. I'll start on the competitive environment, talk about our marketing spend and hand it over to Stephen. On the competitive environment, same as usual. The past 13 years, we see the competitive environment change around us. Sometimes there's consolidation, sometimes there's investment, sometimes there are big moves, sometimes there are small moves. It's always changed and every year has been a year of change in our competitive environment. What has not changed is that we continue to be focused on the customer, and we listen to our customer and we build what the customer wants and we've grown every quarter through all of these changes around us. How that affects marketing spend quarter to quarter, I would just say that marketing spend will fluctuate quarter to quarter as we spend in new areas in some quarters get more efficient in other quarters and that marketing spend continues to move around, that doesn't mean we're not going to continue to be aggressive with our marketing spend. We're always looking for new areas. We're always looking to get more efficient in our current areas. Then we're always looking to redeploy the funds that we create efficiency with in the areas that work. So that's the story on the marketing spend. As it relates to guidance, you're correct with regards to the comparison of course, for the Q1 of 'sixteen versus Q1 'fifteen and the cadence throughout 2015. As I mentioned, our marketing spend has become more efficient as well as the timing, so we have done a better job. There's a set of variables that at this point in the year are uncertain as it relates to the market dynamics. And therefore, for us to adjust our guidance after our Q1 results would be premature. And therefore, we expect the Q2, as I mentioned, to be the slowest quarter of the year, but with nice growth during the remaining portion of the year. So I would just say that we're not doing anything different than you would expect, which is 1 quarter of 2016 in, lots of activity both here at Shutterstock and in the marketplace. And we'll address guidance each and every quarter to see what makes the most sense for us to given the landscape we see ahead of us. But right now, as John and I talked about, we want to position ourselves not just for 2016, but for 2017 and beyond and make sure that we continue to invest in the core capabilities which drive profitable growth. So that's our focus. Great. Thank you very much. Thank you. Our next question is from Rob Sheckart of William Blair. Your line is open. Good morning. Just wanted to touch on the strong enterprise growth that you saw in the quarter. Maybe you could give some color just in terms of how much of that growth was from the work and effort you've added and the workflow products, the content that continues to grow, you're focused on converting e comm to enterprise and maybe just sort of how many new enterprise sales customers were there and just sort of broader color on that would be great. So as it relates to the workflow products, it's still early for the workflow products. I think from an attribution standpoint, as it relates to your question and saying, as a result of this thing, this activity, this product or this enhancement that we provided that we are able to attribute our growth to that. I think we've stepped up a lot of our efforts on both innovation, not just workflow, but reverse image search, visually similar, so that it makes it easier for creatives to find the image they're looking for to engage with our library in a very meaningful way. So I think the enterprise. About half the growth from new customers comes from enterprise and about half from increased spending with existing customers. So we're seeing both activity with existing as well as the attraction of new customers and we're increasing our sales team both geographically as well as in those countries and markets in which we currently have people because we see the opportunity for continued growth as well as expansion of growth in some regions. Great. And one more if I could please. I think last call you talked about somewhere in the neighborhood of around sub $10,000,000 impact from some new investments that you were planning in 20 16. Is that still sort of a good range for us to think about? Yes, it is. Okay. Thank you very much. Thank you. Our next question is from Blake Harper of Topeka Capital. Your line is open. Hi, good morning. John, I wanted to ask you about some of the workflow tools, especially the mobile editor and just wanted to see how you've gotten adoption there and how that compares to some of your other workflow tools such as Webdam and how large of a customer base how many of your customers are using that yet and what you see as far as adoption and what else you can get them to use? Sure. Actually, Editor today is not movable. It's through the browser. It's right off of the download. And what Editor allows you to do is to manipulate the image in ways that we know a lot of our users do manipulate the image in some of the tools out there, and we allow all of that for free. The simple resizing, the common format, filtering, to some of the more popular filtering kind of themes, adding text to your image. Those are the kind of things that are all available now in browser, right when you're downloading the image. And these are some of the most common reasons why someone would go to another tool. And we're seeing that users that use these editing tools continue to download our images at faster paces than users that do not. And we're also seeing increased adoption of these tools. One of the things that's holding us back right now that we continue to work on and we will be done with a lot of this year is our tech migration. We're spending a lot of effort right now moving our tech stack to a services based architecture so that all of our properties, all of our products can be within this one tech stack and we can use all of our available technologies across all of our products. So while we're even focused on doing that, we still release some amazing stuff like Editor and like Reverse Image Search. We continue to learn and we're going to continue to innovate from there. Got it. Okay. Thanks, John. And then if I can just follow-up with that. If we can fast forward a year from now and you have the TechFlow platform migrated, what would you say would be some of the most significant things that you would have that's different now for your customers to use either from workflow or from just related to the content for search? And what are some of the things that you would expect to be able to monetize off of that too? There's going to be amazing stuff we'll be able to do internally where we can track customers across all of our products with a single user ID for 1. Externally, we'll be able to customer facing features will be a lot easier. So imagine as our editor product grows, we'll be able to deploy that in multiple different environments on our site, off our site, in Webdam, across all of our different types of products, offset Premier, our enterprise platform, etcetera. So the reason for the migration is that we have a single view of our customer across all of our products. And when we develop a technology, we can develop it once and use it across all of our products within Shutterstock. Okay. Thanks, John. Thank you. Our next question is from Lloyd Walmsley of Deutsche Bank. Your line is open. Thanks guys. Just wanted to turn it back to the marketing. I guess, it looked like you saw a lot of leverage there. Can you just elaborate a bit more on the timing differences? What exactly were those? Was some of that hiring in the enterprise group or something or just timing of ad spend? And then are you actually seeing leverage just come out of the enterprise side as your sales force gets more efficient? Is that are you kind of seeing that continue in numbers that would be helpful? Yes. So appreciate the question. I mean, what we're seeing is really nothing that is specific to any one area. The marketing spend is the outcome of the activity. We had some related to timing. There are things that occur, both product launches and releases and activity that we have. Our cost per acquisition is growing more predictably year over year. We've gotten more efficient and better in our SCO and SCM work that we're doing. There's some events that are pushed to later in the year, the actual event themselves that we had expended some money in the Q1 and prior years. So there's nothing that it wasn't like, oh, we were trying to we weren't saying, oh, we want to spend less marketing dollars. I think it's a summation of a number of activities that happened to occur in the quarter. And of course, we're looking to obviously have the highest return on investment we can over multiple periods. And so we're focused on continuing to be able to manage our spend across all of our categories, but we will also lean in and spend on marketing as and when appropriate to drive profitable growth that has high cash return on investment. So it's like I say, I think it's there's nothing unique that you're missing or that we're not telling you. I think it's just the activity within the quarter. But once again, we expect that will pick up in the Q2. We have a number of both events and we also have a product activity in the Q2, which we will be supporting aggressively. One thing I just want to add is that over the past 13 years, we have clearly been in our space the most aggressive market and we've learned a ton. There's no one in the space that spend more money marketing than we have, especially on the performance side and we have all this data and we know exactly how to reach our customers. Some quarters will get more efficient than others and we won't spend that money, if it doesn't make sense. And, during that pullback, you can see some of the stuff that you see this quarter with those numbers. Okay. And just as a quick housekeeping question, forgive me if I missed it. Did you all give enterprise as a percent of overall revenue or could you? What we said in the past was it was in the low to mid-20s. It's accelerated from there to be between slightly over 25%. And we certainly expect it to continue to grow given the opportunities we see both with existing and new customers. Thanks, guys. Thank you. Our next question is from Brian Fitzgerald of Jefferies. Your line is open. Hi, guys. This is John on for Brian. Thanks for taking my question. You noted in your commentary that around 6% or so is coming of revenues coming from outside of North America, especially some growth coming from India and Germany and Korea. And maybe if you could just talk a little bit about the dynamics of international versus North America and what you see from the customer base and also maybe from the contributor side as well? Thank you. Yes. Yes. I don't have any specifics on the countries you mentioned, but we continue to grow around the world across all of our regions and across the many different countries that we do business in. We continue to get more local. We continue to learn more about our customers around the world and that causes us to sell more images and products and video to all of our customers. So as it relates to some of the markets in which we're expanding, Korea and India and other not necessarily emerging markets, but developing further developing markets are ones where there's great amounts of advertising and communication, especially when you think about markets like India. We have not historically been had a large business there. And so our growth rates have been significant. We're just hitting a great user base in terms of both larger size enterprises as well as small and medium sized businesses in those markets. We have been relatively strong in Germany, and we continue to see strength. We have an office in Berlin, aggressively pursue the European market with our team there and continue to see opportunities across both Western and Eastern Europe to further expand. Asia Pacific remains a significant opportunity and we're focused on continuing to expand not just in India but in other markets in the Asia Pac region, especially given, as John said, our ability to be more local, to provide both content as well to the customers and the customers in those markets. So we feel really strong about it. Enterprise is now growing fast internationally And as we talked about in past quarters, we're seeing greater consistency in Europe as well versus some of the fluctuations during the maybe economic crisis that they were going through. So overall, we're seeing good stabilization, but I think being local in markets and having that network effect is really important for us. And we'll continue to do everything we can to continue to grow those opportunities. Great. Thank you. Thank you. And that does conclude our Q and A session for today. I would now like to turn the call back over to Mr. Craig Sallenstein for any closing remarks. Thank you everybody for joining us today. If you have any follow-up questions, please let me know here in New York. We're happy to help. Thanks. Ladies and gentlemen, thank you for participating in today's conference. This does conclude today's program. You may all disconnect. Everyone, have a great day.