Marchex, Inc. 2014 Q3 Form 10-Q Summary
Business context and reporting period
Marchex is a mobile and call advertising technology company providing pay-for-call advertising, call analytics, local-leads services, performance-based online advertising, and domain-name marketplace services through its Call-driven and Archeo segments. This unaudited Form 10-Q covers the three and nine months ended September 30, 2014, compared with the corresponding 2013 periods.
Key financial metrics
| Metric | Three months ended September 30, 2014 | Three months ended September 30, 2013 | Nine months ended September 30, 2014 | Nine months ended September 30, 2013 |
|---|---|---|---|---|
| Revenue | $49.2 million | $40.6 million | $149.4 million | $112.9 million |
| Income from operations | $1.2 million | $1.0 million | $4.4 million | $1.2 million |
| Income before taxes | $1.2 million | $1.0 million | $4.3 million | $1.2 million |
| Net income (loss) applicable to common stockholders | $(21.5) million | $1.5 million | $(19.8) million | $1.2 million |
| Basic and diluted EPS | $(0.52) | $0.04 | $(0.50) | $0.03 |
| Cash flow from operating activities | Not separately provided for the quarter | Not separately provided for the quarter | $18.1 million | $7.5 million |
Revenue increased 21% year over year in the quarter and 32% for the nine-month period. Call-driven revenue increased 30% to $46.4 million in the quarter and 37% to $137.7 million for the nine months. Archeo revenue declined 42% to $2.8 million in the quarter and 5% to $11.6 million for the nine months.
Total operating expenses were 97% of revenue in both the quarter and nine-month period of 2014, compared with 100% and 102%, respectively, in the comparable 2013 periods. Income from operations represented approximately 2.5% of quarterly revenue and 2.9% of nine-month revenue. Service costs increased to 65% of revenue in both 2014 periods from 62% in the quarter and 60% for the nine months in 2013, primarily because of higher distribution-partner payments.
The company recorded income tax expense of $23.0 million in the quarter and $24.3 million for the nine months, including a $22.3 million increase in the valuation allowance against deferred tax assets. This non-cash tax charge drove the reported net loss despite positive operating income.
Balance sheet, cash flow, debt and liquidity
- Cash and cash equivalents were $80.7 million at September 30, 2014, compared with $30.9 million at December 31, 2013.
- Total assets were $188.7 million, including $65.7 million of goodwill. Stockholders’ equity was $156.6 million and accumulated deficit was $190.8 million.
- Total liabilities were $32.1 million, including $30.8 million of current liabilities. The filing reports no borrowings under the $30 million senior secured revolving credit facility, which was extended to April 1, 2017.
- Nine-month operating cash flow was $18.1 million. Investing activities used $2.2 million, principally for $2.3 million of property and equipment purchases. Financing activities provided $33.8 million, primarily from $32.5 million of net proceeds from an April 2014 equity offering.
- Contractual obligations totaled approximately $12.6 million, consisting of $8.1 million of facility leases and $4.5 million of other contractual obligations. Management stated that existing cash, credit availability and operating cash flow should fund operations for at least twelve months, while noting that additional financing may be required for acquisitions or longer-term needs.
Material changes versus the prior comparable period
- Call-driven growth was the principal driver of consolidated revenue and segment profit. Call-driven segment profit increased 94% in the quarter to $3.3 million and 89% for the nine months to $8.6 million.
- Archeo segment profit declined to $1.0 million in the quarter and $5.2 million for the nine months, compared with $2.7 million and $7.0 million, respectively, primarily because of weaker cost-per-action, pay-per-click and presence-management activity.
- Domain-name transactions totaled $1.6 million in the quarter and $5.7 million for the nine months and were recognized as revenue following the September 2013 launch of the Domains Marketplace. Comparable 2013 domain transactions were partly recognized as gains on disposals rather than revenue.
- Stock-based compensation increased to $3.0 million in the quarter and $9.0 million for the nine months, compared with $2.4 million and $6.9 million, respectively.
- Amortization of acquired intangible assets declined to zero in the quarter and $0.4 million for the nine months, compared with $0.7 million and $2.5 million, respectively, as certain Jingle-related assets became fully amortized.
- The company completed a follow-on offering of 3.4 million Class B shares at $10.50 per share and received $32.5 million of net proceeds. It paid approximately $2.5 million of dividends during the nine months.
Guidance, outlook, risks and unusual items
The filing does not provide formal numerical revenue or earnings guidance. Management expects near-term sales and marketing and general and administrative expenses to remain relatively stable, with product development spending expected to be stable or modestly lower. Management expects service costs to decline as a percentage of revenue in the near term as Allstate-related partner revenue falls, but distribution-partner costs may increase with future growth.
- Allstate termination: Allstate represented 31% of third-quarter revenue and 33% of nine-month revenue in 2014, but ceased purchasing pay-for-call services in September and reduced fourth-quarter planned spend to zero. Management expects a material adverse effect on future operating results, with any continuing call-analytics relationship expected to be small.
- Customer concentration: YP represented 23% of third-quarter revenue and 22% of nine-month revenue. YP contracts expire in June 2015 and may not be renewed or may be renewed on less favorable terms. The five largest customers represented 66% of nine-month revenue.
- Tax valuation allowance: The company established a full valuation allowance against $45.4 million of deferred tax assets and recorded a $22.3 million quarterly tax expense because projected taxable losses and customer losses reduced confidence in future realization.
- Goodwill impairment: No impairment was recorded after third-quarter testing, but the Call-driven reporting unit had approximately 40% excess fair value over carrying value. Management warned that lower forecasts, continued customer losses or a sustained stock price below book value could result in future impairment charges.
- Other risks: Results depend on distribution partners, advertiser spending, mobile and online traffic quality, competition, seasonality, technology providers, telecommunications and privacy regulation, intellectual-property claims, customer creditworthiness and the ability to retain key personnel.
- The company reported no material legal proceedings and stated that disclosure controls and procedures were effective as of September 30, 2014.
Investor verification points
- Verify the pace and profitability of revenue replacement after Allstate’s withdrawal, including the expected effect on fourth-quarter 2014 and subsequent periods.
- Monitor renewal and economic terms of the YP arrangements expiring in June 2015 and the resulting customer concentration.
- Reconcile reported operating cash flow with the substantial non-cash deferred-tax valuation allowance and stock-based compensation.
- Assess future realizability of the $45.4 million deferred tax asset balance and the potential for additional tax charges or reversals.
- Review goodwill headroom and impairment sensitivity, particularly for the Call-driven reporting unit.
- Evaluate service-cost trends and distribution-partner economics as the revenue mix changes.
- Confirm the continuation of quarterly dividends and the impact of the November 2014 share-repurchase authorization on liquidity and share count.