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Shutterstock Inc (NYSE:SSTK)
Q3 2019 Earnings Call
Nov 5, 2019, 8:30 a.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Ladies and gentlemen, thank you for standing by, and welcome to the Shutterstock Third Quarter 2019 Earnings Conference Call. [Operator Instructions]

I would now like to hand the conference over to your speaker today, Heidi Garfield, Vice President, General Counsel and Corporate Secretary. Thank you. Please go ahead ma'am.

Heidi Garfield -- Vice President, General Counsel, and Corporate Secretary

Thank you, operator. Good morning everyone and thank you for joining us for Shutterstock's third quarter 2019 earnings call. Joining me today is Jon Oringer, our Founder, Chief Executive Officer and Chairman; Stan Pavlovsky, our President and Chief Operating Officer; and Steve Ciardiello, our Interim Chief Financial Officer and Chief Accounting Officer.

Please note that some of the information you will hear during our discussion today will consist of forward-looking statements, including without limitation, the long-term effects of our investments in our business, the future success and financial impact of new and existing product offerings, our future growth, margins and profitability, our long-term strategy and our 2019 guidance. Actual results or trends could differ materially from our forecast. For more information, please refer to today's press release and the reports we file with the SEC from time to time, including the risk factors discussed in our most recently filed Annual Report on Form 10-K, filed with the SEC.

We will be discussing certain non-GAAP financial measures today, including adjusted EBITDA, adjusted EBITDA margin, adjusted net income, revenue growth, including by distribution channel on a constant currency basis and free cash flow. Reconciliations of these non-GAAP measures to the most directly comparable GAAP measure can be found in the financial tables included with today's press release, which is posted on the Investor Relations section of our website.

Finally, please refer to the brief information deck we posted on our website that contains supporting materials for today's call. And now, I will turn the call over to Jon.

Jonathan Oringer -- Founder, Chief Executive Officer and Chairman of the Board

Thanks Heidi. And thank you everyone for joining us today for Shutterstock's third quarter 2019 earnings call. As I mentioned on our last quarter, we are continuing to make operational improvements to further enhance our platform, in order to get ahead of our customers' ever-changing needs. To provide an update on Talent, our search process for our next Chief Financial Officer, is going well, and we are grateful that Steve Ciardiello, our Chief Accounting Officer, has been filling this role in the interim.

During the third quarter, we continued our efforts to best position Shutterstock for sustainable growth. We have been making steady progress including our thoughtful and thorough evaluation of our enterprise channel as well as continued strong growth in our e-commerce business.

Revenue in the third quarter of 2019 grew 5% from 2018 on a reported basis. Revenue from our e-commerce channel grew 8% to $96.2 million as compared to the third quarter of 2018. Our enterprise channel remained flat at $62.8 million. Adjusted EBITDA was $21.6 million, a 14% decline from the third quarter of 2018. This decline is driven by increased marketing and customer acquisition costs and additional investment in our infrastructure. As always, we will invest in marketing, our people and our platform when we see opportunity to drive long-term growth in the business.

With that said, we remain on track to meet our full-year 2019 guidance for both revenue and EBITDA. Over the last 16 years, Shutterstock has built a trustworthy brand and platform. We have Capitalized on the world around us which has become increasingly visual with businesses and people communicating more effectively using images, video and music. We know how to and have created innovative solutions to meet the changing needs of our customers. Our cloud-based platform, which we continuously enhance, is designed to provide our customers the ability to seamlessly get the content they need to be successful in their creative projects and business initiatives.

As we work on our strategic planning for 2020 and beyond, we are confident that we have our finger on the pulse of the ever-changing trends that help our businesses to be more successful in the way that they communicate and work. We remain passionate about our mission to provide sustained value for our users, prioritizing ease of workflow and collaboration, evolving Shutterstock's offering as a creative platform and delivering a range of solutions that best suit the expanding needs of businesses, teams, creatives and marketers around the world.

Before I turn it over to Stan, I'd like to thank our investors and employees for their continued support of the Company. We are excited for what's to come. And now, I'll turn it to Stan.

Stan Pavlovsky -- President and Chief Operating Officer

Thanks, Jon, and good morning, everyone. I've now been at the Company for a little over 7 months and the work that we started when I first joined is moving forward. I'm excited by the progress that we've made thus far, especially considering the ambitious goals that we have as a Company. As I spoke to last quarter, we are focusing on a set of initiatives to drive our future results, specifically focusing on making enterprise sales improvements, including a new go-to-market approach with our largest accounts, rebuilding our SMB pipeline to bring our offerings to the millions of businesses that can benefit from Shutterstock, extending our platform and API solutions into the enterprise, scaling our custom and editorial offerings, continuing the growth in the e-commerce business by focusing on engagement and retention, and we'll do this by increasing the mix of subscription products and services and cross-selling across asset types, and lastly dedicating resources to new business opportunities that take advantage of key digital trends.

We are being thoughtful and thorough as we delve into areas where we can drive meaningful improvements, some of which we feel we can act on fairly quickly and others that we can take more time. We believe taking such a methodical approach to our analysis and execution will help ensure that we are really getting to the heart of improvements that need to be made and that we will be able to drive greater returns on our investment.

In the third quarter, we made progress against the initiatives I just outlined. In enterprise, we began to make structural changes in our corporate verticals and the go-to-market approach. We are seeing revenue traction from a quarter-over-quarter perspective. Additionally, we saw stronger demand with our custom product, which saw quarter-over-quarter growth as well. As we mentioned last quarter, we're working thoughtfully but with urgency and these initial steps will drive results into the future.

Our e-commerce business continues to perform, and in the third quarter, we saw improved results across all asset types. Not only that our image business continue to grow, we also saw strength in video as our clients used our offering to capitalize on video trends. We see strong demand for our content and high renewals of our subscription plans. Additionally, monthly active usage, downloads and average revenue per download, all saw healthy growth.

I would also like to highlight a few notable operational accomplishments and initiatives from the quarter. As we've mentioned previously, our campaign, "It's Not Stock, it's Shutterstock" has evolved and is driving traffic to our platform. Notably, it has won many awards from leading marketing and advertising organizations including DMAD in the UK, The Telly awards in the US, and the W3 awards by the International Academy of Interactive and Visual Arts. These awards demonstrate the positive sentiment the campaign is driving and the conversations it's influencing and generating among our target audience.

We have made a number of technological improvements that consolidate our platforms and enhance our customer experience. For the first time ever, our image, footage, and music self-service offerings are all on one front-end platform, with the plan to get enterprise on this platform as well. On our PremiumBeat platform, we made music tracks search improvements, improved download speed and now offer a single sign-on for customers across Shutterstock and PremiumBeat websites. As part of Shutterstock custom, we introduced the Smart Brief platform, a new streamlined and guided experience to improve the quality and speed of the briefing process. More than 1 million approved contributors made their images, video clips and music tracks available in our collection, which has grown to approximately 297 million images and approximately 16 million video clips, as of September 30th. And finally, we delivered more than a 140 million paid downloads across all of our brands during the 9 months ended September 30th.

While there is more work to be done, we are proud of these results and remain confident in the strength of Shutterstock dynamic and innovative platform. We are laser focused on executing for both the short term and the long term and delivering increased value for our customers and our shareholders.

Now, I will turn over the call to Steve for a more detailed financial review.

Steven Ciardiello -- Interim Chief Financial Officer and Chief Accounting Officer

Thank you, Stan, and thank you, everyone for joining us today. I'd like to start by saying revenue growth in the third quarter of 2019 as compared to the prior-year third quarter was 5%, and excluding the impact of foreign currency movements, revenue growth was approximately 6%. Our e-commerce channel revenue increased 8% to $96.2 million as compared to the third quarter of 2018, and on a constant currency basis, e-commerce revenue grew 10%. The enterprise channel revenue of $62.8 million was comparable to its 2018 revenue and grew 1% on a constant currency basis.

Reviewing some of our key metrics, in the third quarter, on a year-over-year basis, paid downloads grew by 5% to $46.3 million. Revenue per download remained constant at $3.40 per download. Our image library expanded by 34% to approximately 297 million images and our video library increased by 33% to approximately 16 million clips.

Operating income was $3.2 million in the third quarter, a decrease of 52% from $6.7 million in the prior year. And adjusted EBITDA for the quarter declined 14% to $21.6 million, which compares to $25.1 million in the same period a year ago.

As Jon previously mentioned, the declines in operating income and adjusted EBITDA were attributed to increased marketing and customer acquisition costs and additional investment in our infrastructure.

GAAP net income increased or GAAP net income in the third quarter was $4.9 million or $0.14 per diluted share, a decrease from net income of $7.4 million or $0.21 per diluted share in the third quarter of 2018. Adjusted net income was $10.3 million or $0.29 per diluted share for the third quarter of 2019, as compared to $13.4 million or $0.38 per diluted share in 2018, representing a 23% decrease year-over-year.

As I discuss the following operating expenses, amounts and percentages will compare with the third quarter of 2019 to 2018 and will exclude stock-based compensation expense. Total operating expenses increased 8%. This change was driven by increased general and administrative expenses, cost of revenue and direct marketing expenses, partially offset by a slight decline in product development expenses.

Our cost of revenues, which includes contributor royalties, increased 3.4%. The contributor royalty rate remains unchanged at approximately 26% of revenue. As a percentage of revenue, cost of revenues was 43% in 2019, compared to 44% in 2018. Sales and marketing expenses increased 11% primarily due to increased costs in our performance marketing. Sales and marketing expense was 28% of revenue in the third quarter of 2019, as compared to 27% of revenues in the third quarter of 2018.

Product development costs decreased $0.5 million, primarily driven by a reduction in software and other technology costs. As a percentage of revenue, product development costs were 8% in both 2019 and 2018. In addition, during the quarter, the Company capitalized $5.6 million of labor costs related to product development, G&A expense increased 27% from the third quarter of 2018. As a percentage of revenue, G&A expenses were 15% as compared with 13% in the third quarter of 2018. And sequentially, G&A expenses decreased $2 million or 7% from the second quarter of 2019.

We had an income tax benefit of $1.3 million compared to an income tax benefit of $0.5 million in the prior year. The quarterly tax benefit is due to timing and recording of certain discrete income tax benefits. On a year-to-date basis, our effective tax rate is 3.3%. Cash taxes paid in the quarter were negligible as compared to $0.5 million in the third quarter of 2018.

On our balance sheet, our deferred revenue balance as of September 30, 2019 was $137.5 million and was consistent with previous quarters. Approximately 40% of our deferred revenue relates to our e-commerce channel and 60% to our enterprise channel .

We continue to maintain a strong positive working capital position. Our cash and cash equivalents balance was approximately $285 million. For the third quarter, net cash flow from operations was $30.3 million, which is comparable to the $30.5 million in the third quarter of 2018.

Additionally, in the quarter, free cash flow was $23.8 million, an increase of $1.4 million from the third quarter of 2018. This increase was primarily driven by the change in capital expenditures. We continually manage our capex and believe that the levels we are managing to are reasonable for a business of our size and growth.

Our liquidity strategy continues to be to maintain a strong cash position that enables us to fund operations while also providing us with the flexibility to consider operational and strategic growth opportunities. As we have done historically, we will evaluate the appropriate use of cash generated on our business to optimize returns for stockholders .

And finally, we are reaffirming our guidance, which was communicated last quarter. Our expectations for the full-year 2019 continue to be as follows. Revenue of $645 million to $670 million, adjusted EBITDA of $93 million to $107 million, income from operations of between $18 million to $32 million, non-cash equity-based compensation expense of approximately $25 million, capital expenditures including capitalized labor of approximately $32 million, and an effective tax rate in the teens.

We appreciate your time today. And now Jon, Stan, and I will be happy to answer any questions you may have. Shannon, can you please prompt the participants for questions?

Questions and Answers:

Operator

[Operator Instructions] Our first question comes from Youssef Squali with SunTrust. Your line is open.

Nate Mitchell -- SunTrust -- Analyst

Okay, great. This is Nate Mitchell on for Youssef. Two questions from me. Can you help us understand the full-year guidance in the context of 4Q? Full-year guidance currently implies a wide range for 4Q year-over-year reported revenue growth from negative 1% to plus 15% as well as 4Q EBITDA from $21 million to $35 million. And then can you comment on how you expect the growth trajectory to fair free e-commerce versus enterprise? That's for 4Q. And then looking out to 2020, how should we be thinking about the top line and margin trajectory. If you could walk us through the key growth and leverage drivers there. If Stan, you could call it the lowest hanging fruit from your prepared remarks as well as comment on enterprise versus e-commerce. Any qualitative or quantitative color would be very helpful for 2020. Thank you.

Steven Ciardiello -- Interim Chief Financial Officer and Chief Accounting Officer

Okay. Hi, Nate, this is Steve. I'll first address your first question as it relates to full-year guidance. So when we updated our guidance at the end of the second quarter, part of the components that were in and as you would see the top line revenue range was widened from what we historically put out there. And part of that was due to the fact that we weren't quite sure when we're going to see the results from some of the initiatives in the enterprise sales channel and when they were going to materialize. That's -- those are some of the long term -- longer term initiatives. And that's a longer term sales cycle, so because of that, we weren't quite sure when we were going to see the results of that. So what I would say as it relates to 2019 is we're still on target to fall within both the revenue and the EBITDA range.

Jonathan Oringer -- Founder, Chief Executive Officer and Chairman of the Board

And on the enterprise versus e-commerce growth, I could provide some details and Stan can join I'm sure as well. Nate, this is Jon Oringer. Thanks for your question. So on the e-commerce front, you can see that our new platform is delivering, growing year-over-year currency neutral about 10%. So there's a lot more opportunity there, but we believe we're going to continue to build that. What's happened over the past quarter that's interesting is, we have shifted resources from the migration efforts to a more kind of growth path and we believe there is a lot we can do there. There's a long list of items we have on our roadmap to continue to press on and get further growth from that platform, and also increase the efficiency and optimization of our marketing spend as all of those -- as all of that traffic that we buy continues to head toward that platform. We're learning new and new ways to kind of make that more efficient. On the enterprise front, maybe Stan, if you want to jump in?

Stan Pavlovsky -- President and Chief Operating Officer

Sure. So we talked a little bit about this about this on the last call. When you think about our enterprise sales channel, we have large enterprise customers and we have SMB. We are being a lot more thoughtful in how we're thinking about enterprise differently from SMB. So for the SMB segment, we're looking to rebuild the pipeline and that's going to consist of investment in both sort of reorganizing the team as well as investing in marketing tools necessary to develop the pipeline. Our enterprise clients need a higher touch solution to address their needs, and so we're going to be restructuring our sales organization comp plan, our go-to-market strategy and the products that we offer. These are, when you ask about sort of low-hanging fruit, these are all things that serve as a basis for how we're going to go into 2020 and how we're going to goal the team into 2020 and so we're bullish that we can start to see the fruits of the work that we're doing now in 2020.

Jonathan Oringer -- Founder, Chief Executive Officer and Chairman of the Board

If I could add just a couple of more things, this is Jon again. On both editorial and custom, we believe that there are still some really interesting technology and product disruptive opportunities in the market. And as we evolve our enterprise product bringing onto our platform that we've already built and we're starting to learn and we can do it. On the e-commerce side, we can apply some of those same principles over to the enterprise side and kind of build out that channel as well. So we're excited about that for the rest of 2019 and also into 2020.

Nate Mitchell -- SunTrust -- Analyst

Great, thank you.

Jonathan Oringer -- Founder, Chief Executive Officer and Chairman of the Board

Thank you.

Operator

Our next question comes from Brent Thill with Jefferies. Your line is open.

Alex -- Jefferies -- Analyst

Thanks guys. This is Alex on for Brent. Jon, we've been getting a lot of questions recently regarding some comments you made at the Forbes Summit around the fact that being public isn't always the most fun thing. Is there any significant shift in your thinking for the future of the company that we should be aware of? You know, would you consider going private if the opportunity arise? And then lastly, if you can just provide more color around the CFO search, maybe just expectations around timing there? Thanks.

Jonathan Oringer -- Founder, Chief Executive Officer and Chairman of the Board

Yeah, sure. It was great being in Detroit for the Forbes Summi, the 30 Under 30 Conference, with interesting kind of fielding questions from all these entrepreneurs that were thinking about going public. And what I talked about during that panel and after that panel with everyone that was there was kind of difference between being a public company and a private company. And what I believe, and what I told them was there are pros and cons to both, but ultimately, the strongest kind of structure for our company is being public and we continue to believe that with the balance sheet we have, with the opportunities we have, with everything we've built over the past 16 years, that being a public company kind of suits us. And so I went into a lot of details about kind of some of the pitfalls of going through that IPO process with that audience.

Again, it was a 30 Under 30 Conference. So there were some pretty young entrepreneurs there that were looking toward the future as to what to do with their company. I talked about keeping your eye on the product, keeping your eye on the customer and keeping a really strong balance sheet. If you look at kind of how we've operated this company over the past 16 years and how we operated as a public company, we continue to generate cash, we focus on our EBITDA as much as our revenue. We have a strong cash balance at all times that we can use to invest in new products, new services, we have a really strong team. There's a lot of dry powder to make a lot of investments here, and we have no debt on our balance sheet. So we're pretty excited about all of that.

On your second question, as far as the CFO search, we're really far along and we're really excited about some of the candidates we're meeting. So we'll have news in the future on that and we'll be updating you as soon as we possibly can. Thank you.

Alex -- Jefferies -- Analyst

Thanks, Jon, maybe just one more from our side quickly. Adobe recently said that their stock business was growing about 30% in the year. So, just curious if they're doing anything differently recently to gain share? And then just maybe some broader comments on the overall competitive environment would be helpful. Thanks guys.

Jonathan Oringer -- Founder, Chief Executive Officer and Chairman of the Board

Yes, sure. On Adobe, specifically I really, I mean, I can't comment. And we've talked about this before. I've talked to all of our analysts about this over the past couple of quarters. Look, I have no idea how they account for where that 30% growth comes from, I think you'd have to ask them, but what I can tell you is this, as far as the competitive environment, we believe we're the best positioned company in our space to take advantage of the opportunity in front of us. I go back to our team, I go back to our track record over the past 16 years of generating profit every single quarter for all of those 16 years, I go back to the fact that we have the clean balance sheet we have, I go back to the fact that we release and ship product even as we need to go through a really complicated technical migration, we're still ahead of our competition when it comes to product. And you'll see that on our site you can watch it every week, we're pushing code changes constantly, all of those code changes are exactly what our customers want.

So as far as the competitive environment, look, you can -- you'll hear things from our competitors, some of them are private, some of them are public, but there is nobody providing as much detail about our space than we are. And I believe what I've said over and over, we are the best positioned company to take advantage of this opportunity.

Alex -- Jefferies -- Analyst

Thanks, Jon.

Jonathan Oringer -- Founder, Chief Executive Officer and Chairman of the Board

Thank you.

Operator

Thank you. [Operator Instructions] Our next question comes from Lloyd Walmsley with Deutsche Bank. Your line is open.

Seth -- Deutsche Bank -- Analyst

Hey, thanks for the question. This is Seth on for Lloyd. I just wanted to follow up on two comments that you made. One would be on the sales reorganization. Can you talk about how much of this is going to cost. What kind of loss of productivity, if any, and when we should expect the sales force to be at full strength? And then also, as a second question, you mentioned you have a lot of dry powder. Can you just talk about potential for M&A and also shares -- share repurchases, I think you still have a significant amount left in the repurchase authorization, and just curious to hear what your thoughts are there. Thank you.

Stan Pavlovsky -- President and Chief Operating Officer

Yeah. Now, I'll start with the question on enterprise and then turn it over to Jon to give some color on M&A, but we understand the -- and I absolutely understand the ramp that's required as part of any sales reorganization. And so we're -- we are absolutely going to build that into our plans for 2020 and for guidance for 2020. So you'll definitely see that. As far as incremental cost, I think we've taken a good look at the resources that we have and we don't see the sales restructure having a significant impact on EBITDA in the short term or the long term.

Jonathan Oringer -- Founder, Chief Executive Officer and Chairman of the Board

On capital allocation, I'll jump in and talk a little bit about that, and Steve, maybe if you want to join after. I think when I look at our cash position, we've always had a strong cash position, we will continue to have a strong cash position. We look to invest in our business first. We look toward M&A, there is a pipeline of businesses that we look at regularly out there, we know everyone in our space, and we also know kind of the adjacent spaces that we want to look to. So we talk to those businesses as well.

When you look at the platform we're building, there are other products and services that we can integrate into that platform to make sure that our customers are getting kind of the end-to-end workflow need and services and content that they need. So in a way, the new platform we've build kind of opens up the opportunity for us to make further investments in this business and in the platform. And so we plan to continue to do that. That being said, if there is extra capital there, we're not looking to just store it forever. We do look to figure out the most efficient way to return it back to shareholders via either a buyback or dividend as we've done in the past.

Steven Ciardiello -- Interim Chief Financial Officer and Chief Accounting Officer

And Jon, what I would just add to that, and Seth, right, if you've looked at our history, we have utilized all of the above which Jon mentioned, special dividend, buyback and M&A. On a regular basis are the conversations with the executive team and the Board to make sure we ultimately do maximize return to the shareholders.

Operator

Thank you. And our next question, we have a follow-up from Youssef Squali with SunTrust. Your line is open.

Nate Mitchell -- SunTrust -- Analyst

Hi guys, this is Nate again. Just hopping back in. Can you maybe just comment on the performance by geo, we saw a negative growth in North America versus mid-single digit in Europe and low double digits for the rest of the world. So maybe what are you seeing in North America that's driving that? Is it competitive related do you think? And what's within Shutterstock's control to change that? Thanks.

Steven Ciardiello -- Interim Chief Financial Officer and Chief Accounting Officer

Hey Nate, this is Steve. A lot of that is -- on the enterprise side of the house, due to the size of some of the deals and the geos that they're coming in, you can see some variability quarter-to-quarter, but what I would say is, there is nothing in particular with the business or particular segment or client base that is driving that trend for the third quarter.

Jonathan Oringer -- Founder, Chief Executive Officer and Chairman of the Board

On geography, we have a big international opportunity here at Shutterstock and one of the things holding us back was some of the tech debt that we have unraveled out of over the past couple of years. So part of our product plan into the future on the new platform is to continue to optimize by geography and so you'll start to see some changes on the site based on specific geographies and we think there's a lot of opportunity there as well.

Seth -- Deutsche Bank -- Analyst

Got it. Thank you.

Operator

Thank you. And I'm currently showing no further questions at this time. [Operator Closing Remarks]

Duration: 32 minutes

Call participants:

Heidi Garfield -- Vice President, General Counsel, and Corporate Secretary

Jonathan Oringer -- Founder, Chief Executive Officer and Chairman of the Board

Stan Pavlovsky -- President and Chief Operating Officer

Steven Ciardiello -- Interim Chief Financial Officer and Chief Accounting Officer

Nate Mitchell -- SunTrust -- Analyst

Alex -- Jefferies -- Analyst

Seth -- Deutsche Bank -- Analyst

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