Business context and reporting period
The filing is j2 Global, Inc.’s unaudited Form 10-Q for the quarter and nine months ended September 30, 2017. Although the request metadata names Ziff Davis, the registrant identified in the filing is j2 Global, Inc. The company reports two segments: Business Cloud Services, including cloud communications and IP licensing, and Digital Media, including advertising and lead generation. Financial amounts below are in U.S. dollars.
Financial performance and position
| Metric | Q3 2017 | Q3 2016 | Nine months 2017 | Nine months 2016 |
|---|---|---|---|---|
| Revenue | $273.6 million | $210.1 million | $801.5 million | $622.4 million |
| Gross profit | $231.2 million | $173.1 million | $675.1 million | $515.5 million |
| Operating income | $63.0 million | $62.1 million | $169.5 million | $174.4 million |
| Net income | $32.4 million | $45.6 million | $89.6 million | $109.3 million |
| Diluted earnings per share | $0.66 | $0.94 | $1.81 | $2.24 |
Revenue increased 30% in Q3 and 29% for the nine-month period, primarily from acquisitions and organic growth. Gross margin was approximately 84.5% in Q3 versus 82.4% a year earlier; operating margin was approximately 23.0% versus 29.6%. The nine-month operating margin was approximately 21.1%, versus 28.0% in 2016. Lower net income reflected higher operating expenses and interest costs, among other items.
Q3 segment revenue was $145.8 million for Business Cloud Services, up 1.7%, and $127.9 million for Digital Media, up 91.4%, primarily due to the December 2016 Everyday Health acquisition. Segment operating income was $56.1 million for Business Cloud Services, up 6.2%, and $12.4 million for Digital Media, down 11.2%. For the nine months, Digital Media operating income fell 42.8% to $19.0 million, while Business Cloud Services operating income rose 9.6% to $170.5 million.
For the nine months, operating cash flow was $179.0 million, down from $192.5 million. Investing activities used $44.6 million and financing activities provided $135.6 million. Cash and cash equivalents were $402.5 million at September 30, 2017, compared with $124.0 million at December 31, 2016. The company reported total debt of $999.2 million, compared with $601.7 million at year-end 2016. Current assets were $630.2 million and current liabilities $225.9 million. Cash dividends paid in the nine-month period were $54.3 million.
Material changes versus prior comparable periods
- Everyday Health materially expanded Digital Media revenue and costs. Management noted the acquired business had lower margins than historical company results, with integration and substantial acquired-intangible amortization affecting profitability.
- Sales and marketing expense rose 71% in Q3 and 66% for the nine months; general and administrative expense rose 37% and 36%, respectively. Management attributed increases largely to Everyday Health and other acquisitions, marketing, personnel, and amortization.
- Interest expense was $25.3 million in Q3 versus $10.4 million, and $51.4 million for nine months versus $31.0 million. In June, the company issued $650 million of 6.0% senior notes due 2025; proceeds funded redemption of its 8.0% notes and repayment of its credit facility. Redeeming the $250 million 8.0% notes resulted in an $8.0 million extinguishment loss.
- Cash from operations declined, partly reflecting lower accounts payable and accrued expenses, including contingent compensation and acquisition-related payments. Capital expenditures increased to $29.5 million from $17.4 million.
Outlook, commentary, risks and unusual items
Management expected Business Cloud Services revenue and profits to remain broadly stable, excluding acquisitions, subject to economic conditions and risks. It expected Digital Media revenue and profit to improve over coming quarters as acquisitions were integrated, while warning of lower near-term margins, pressure from mobile and newer advertising formats, and the risk that acquisitions may alter margins. Consolidated revenue and profits were expected to improve excluding future acquisitions and variable IP-licensing revenue. Management anticipated operating profit as a percentage of revenue would generally decline as Digital Media grew as a share of the company.
Management stated existing cash, operating cash generation, and available financing were expected to meet working-capital, capital expenditure, repurchase, and dividend needs for at least 12 months. Future dividends remained subject to board approval; a $0.395-per-share dividend was approved after quarter-end.
In Q3 the company classified Tea Leaves Health, a Digital Media subsidiary, as held for sale. It completed the sale on October 5 for approximately $90 million, subject to valuation, in cash and equity securities, and expected to record a gain in Q4; the amount of the gain was not yet determined. The company also sold Cambridge BioMarketing and Web24 during Q3, recording gains of $3.2 million and $1.6 million. It acquired Humble Bundle on October 12.
Risks include acquisition integration and execution, reliance on advertising and customer retention, debt service and restrictive covenants, tax examinations and uncertain tax positions, foreign currency exposure, competition, cybersecurity and system reliability, regulation, and litigation. The company reported $48.7 million of liabilities for uncertain income tax positions and said audits could lead to material changes in tax expense, though the amount could not be estimated. It considered the disclosed legal matters not likely to have a material adverse effect after reserves, but an unfavorable outcome could affect a particular period. Management reported disclosure controls were effective and no material change in internal control over financial reporting during the quarter.
The company planned to adopt the new revenue standard, ASC 606, in Q1 2018 using the modified retrospective method. It expected changes primarily in the timing of revenue recognition, particularly for licensing and patents, but had not quantified the impact.
Important facts for investors to verify
- Confirm the issuer identity: the supplied filing is for j2 Global, Inc., not a registrant named Ziff Davis.
- Track Digital Media margins and integration progress, particularly the contribution of Everyday Health and the effect of amortization and advertising costs.
- Review leverage, interest expense, debt maturities and covenants following the 2017 refinancing; reported debt fair value was approximately $1.2 billion, above its $999.2 million carrying amount.
- Check the final Tea Leaves sale accounting and gain, as well as the operating impact of subsequent acquisitions.
- Monitor tax audits, the $48.7 million uncertain-tax-position liability, and the eventual quantified impact of adopting ASC 606.