Business context and reporting period
This is j2 Global, Inc.’s unaudited Form 10-Q for the quarter ended September 30, 2016, with comparisons to the three and nine months ended September 30, 2015. The filing describes j2 Global as an Internet services company with Business Cloud Services and Digital Media segments. Although the request metadata names Ziff Davis, the filing is for j2 Global; Ziff Davis, LLC is a j2 Global subsidiary and part of its consolidated reporting.
In August 2016, j2 Global reorganized its subsidiaries, distributing its interests in Ziff Davis, LLC and Advanced Messaging Technologies, Inc. to the parent. The filing continues to present consolidated results.
Financial performance and position
Amounts below are in millions of dollars except per-share data. Margin percentages are approximate calculations from reported figures.
| Metric | Q3 2016 | Q3 2015 | Nine months 2016 | Nine months 2015 |
|---|---|---|---|---|
| Revenue | $210.1 | $178.7 | $622.4 | $516.0 |
| Gross profit / margin | $173.1 / 82.4% | $148.0 / 82.8% | $515.5 / 82.8% | $427.6 / 82.9% |
| Operating income / margin | $62.1 / 29.6% | $55.7 / 31.2% | $174.4 / 28.0% | $146.3 / 28.4% |
| Net income | $45.6 | $37.4 | $109.3 | $98.2 |
| Diluted EPS | $0.94 | $0.77 | $2.24 | $2.02 |
| Operating cash flow | Not separately presented | $192.5 | $148.6 |
Q3 revenue increased 18% year over year; nine-month revenue increased 21%. Net income rose 22% in Q3 and 11% for the nine-month period. Nine-month income tax expense was $44.0 million versus $16.3 million, and the effective tax rate increased to 28.7% from 14.3%.
At September 30, 2016, cash and cash equivalents were $285.6 million, short- and long-term investments totaled $93.3 million, and total cash and investments were $378.9 million. Long-term debt, net of issuance costs, was $599.3 million; current liabilities were $180.5 million and current assets were $466.6 million. Total assets were $1.77 billion and stockholders’ equity was $898.2 million. Cash and investments less carrying-value debt equaled approximately $220.4 million of net debt.
Nine-month investing cash outflow was $41.7 million, including $91.4 million for acquisitions and $17.4 million for capital expenditures, partly offset by investment maturities. Financing cash outflow was $118.6 million, including $56.1 million for repurchases and related share purchases and $48.8 million for dividends.
Material changes versus the prior comparable period
- Both segments grew, with Digital Media growing faster. Q3 Business Cloud Services revenue rose 13% to $143.3 million; Digital Media revenue rose 28% to $66.8 million. Nine-month increases were 15% and 36%, respectively.
- Q3 Business Cloud Services operating income declined 7% to $52.9 million, while Digital Media operating income rose 90% to $13.9 million. For nine months, the segments reported operating income of $155.6 million (down slightly) and $33.2 million (up 55%), respectively.
- Higher acquisition-related amortization, personnel costs, bad-debt expense and other costs contributed to expense growth. Consolidated Q3 operating margin was lower year over year.
- Business Cloud Services customer ARPU increased to $15.28 from $14.06, while the reported cancel rate rose to 2.3% from 2.0%. Digital Media visits and page views increased substantially, to 1.448 billion and 5.405 billion in Q3.
- Cash from operations increased by $44.0 million for the nine-month period. Acquisition spending was lower than in 2015, but financing outflows increased, mainly reflecting share repurchases/purchases and deferred acquisition payments.
Outlook, commentary, risks and unusual items
- Management expects Business Cloud Services revenue and profits to continue in a stable or improving economic environment, excluding acquisitions. It expects Digital Media revenue and profits to improve over coming quarters and longer term, and anticipates overall consolidated improvement excluding future acquisitions and variable IP licensing revenue. These are qualitative expectations, not numerical guidance.
- Management said existing cash, operating cash flow and expected additional debt facilities should meet anticipated needs for at least 12 months. This outlook includes financing assumptions relating to the pending Everyday Health acquisition.
- On November 2, 2016, j2 Global and affiliates commenced a tender offer to acquire Everyday Health for $10.50 per share in cash, approximately $465 million net of cash acquired and assumed liabilities. Financing commitments had been received, but a larger credit facility was still being negotiated; completion and financing were not assured. Management noted that unavailable domestic financing could increase the effective tax rate.
- During the first nine months, the company completed seven acquisitions and other smaller transactions for total consideration of $95.6 million, net of cash acquired and assumed liabilities. These businesses contributed $20.1 million in revenue; their net income was not separately identifiable. Purchase accounting for some acquisitions remained provisional.
- Unusual Q3 and year-to-date other income included a $7.5 million Q3/$7.6 million nine-month gain on sale of the Carbonite investment and a $2.5 million breakup fee from a competing bid for Gawker Media Group.
- Risks include acquisition integration and financing, variable IP licensing results, advertising-platform mix and potential margin pressure, foreign exchange, interest-rate exposure, cybersecurity and service continuity, and competition. The filing reports ongoing tax audits and $44.4 million of uncertain tax position liabilities; additional tax expense could be material, though the amount and timing of possible changes were not estimable.
- Legal matters include pending tax assessments/audits, patent-related appeals and other disputes. Management did not consider unfavorable outcomes probable and had not accrued material loss contingencies, but said an unfavorable resolution could affect results in a particular period. A settlement in one California class action was preliminarily approved, with final approval expected in early 2017.
- The company reported compliance with Senior Notes covenants, effective disclosure controls, no material changes in internal control over financial reporting, and no material off-balance-sheet arrangements. A $0.355 quarterly dividend was approved after quarter-end, subject to the stated record and payment dates.
Most important facts for investors to verify
- Confirm the issuer and scope: this is j2 Global’s consolidated 10-Q, not a standalone Ziff Davis filing; review Ziff Davis’s contribution within Digital Media and the subsidiary disclosures.
- Assess whether Digital Media growth and improving segment profit can continue, and whether increased advertising and acquisition costs pressure margins.
- Verify the status, final price, financing, closing conditions and integration risks of the Everyday Health tender offer and merger.
- Track acquisition-related amortization, provisional purchase accounting, goodwill and the cash returns generated by acquisitions.
- Monitor tax audits, uncertain tax positions, potential repatriation taxes and the effect of the higher effective tax rate.
- Review debt maturities, interest burden, covenant headroom and the company’s ability to sustain dividends and other capital returns while financing acquisitions.