Ziff Davis, Inc. (ZD) Earnings Call Transcript & Summary

All right. Great. Let's go ahead and get started. I'm Cory Carpenter, an Internet analyst at JPMorgan. And joining me this afternoon is Vivek Shah, CEO of J2 Global. For those newer to the story, J2 Global owns a portfolio of over 40 cloud services and digital media brands, including IGN, Mashable, Everyday Health and eFax. Vivek has been the CEO since early 2018. And prior to that, he served as CEO of Ziff Davis, which JCOM acquired in 2012. Vivek, thank you for joining us today.

It's great to be here. Thanks, Cory.

So I'll kick off with questions, but if anyone in the audience would like to ask one, you can click on the Q&A button in Zoom and type in your question, and we'll get to as many as we can. So Vivek, to start off, certainly a lot to discuss given the current environment, but I thought before we dug into that, JCOM has transformed quite significantly since your founding as Jfax 25 years ago. It still often surprises some investors when I mention fax to e-mail is now less than 1/4 of your business. So could you kick off with a quick recap of the JCOM business today and how the company has evolved over the years?

Yes. So sure. So you said it, we're a portfolio of Internet brands. They are advertising and subscription-supported businesses. And so we operate in 2 segments, our Digital Media segment and our Cloud Services segment. We have really, since our inception, but more in the last 10 years, have been a very active and programmatic and systematic acquirer of businesses in the spaces in which we operate. And so when you think back to the founding of the company as Jfax, which later then merged with eFax, that was the primary business until about 2012, when J2 -- and I think at the time, revenues were around $370 million; and right now, on a trailing 12-month basis, we're about $1.4 billion. Between 2012 and now, 2 things happened. The Digital Media segment got established through the acquisition of Ziff Davis, which was my introduction into the company. And I think at that time, the Digital Media business was probably about $50 million of revenues. And today, on a trailing 12-month basis, it's $725 million. So building up the Digital Media portfolio has been a big part of our experience over the last 8 years. And then even on the Cloud Services side, growing from about a $370 million business to $680 million, or thereabouts, in revenue. So a lot happened. We've got -- and I'm sure we'll talk about this, but we've got very much this total growth orientation, where we look for growth, either through investing at the income statement level to drive what you would call organic growth or to leverage our balance sheet and our free cash flow to acquire businesses to drive inorganic growth. And I think over the last 10 years, our revenues have grown at a 21% CAGR. Our EBITDA has grown at a 17% CAGR. We are a very strong free cash-flowing business. So about 62%, 63% of EBITDA converts into free cash flow. So I'll pause there. But a lot, to your point, has changed. And I do still run into some folks who know the old story and are surprised at how much the company has changed.

Great. So fast-forwarding to today, it's certainly been an extraordinary few months, with the business impacting a bit. But maybe just to start off, what have you learned about the business? And could you talk about some of the changes that you've made, whether from an operational perspective?

Well, one of the advantages we've talked about and have always talked about and it has become even bigger -- and a bigger advantage in this environment is, everything we do is digitally delivered, digitally produced, digitally distributed. And so being a digital company, when this pandemic struck, we really had no concerns or any impacts around business continuity, supply chain or operations. It was, in some ways, a fairly seamless change from where we were, which was, I'd say, about 12% remote and the balance in offices to a 100% remote pretty quickly. So being digital in orientation has its advantages even prior to this, but certainly we sense and feel those more today. Portfolio diversification. Being in software and digital media, being in different verticals inside of digital media and different service areas within our software, our Cloud Services business, working across different customer segments and at different price points, I think, has been key to the resilience that we feel we're showing in the business, where I think others in our industries have felt a more profound impact, with not having the same level of diversification. I think from the moment the crisis began, we're like many people examining everything. We're examining all of our practices, all of our projects, all of our investments, all of our costs. I think we're lucky in that a lot of what we're doing, we're not being forced to do. I think it's just good general hygiene, and I think we're far more acute. We've always run a disciplined business, so it's not like we're discovering things we didn't know, but it does give you an opportunity to question some things. I said this, if I had asked for a remote work plan for my organization, I'd probably gotten some hand ringing. And I would have been told in 6 months, I'll see a project. And from the day I said we're doing it, we were out of our offices within a couple of days. So sometimes, necessity is the mother of invention. And then the other thing I would just say is, we're very honed just on -- we've always been focused on free cash flow but very focused right now on cash going out and cash coming in.

Okay. Great. So in terms of business impact, I think you have a pretty unique window into what's going on in the economy given your diversified portfolio. So could you walk through the impact? I know this is a very open-ended question given all the different businesses, but could you kind of at a maybe high-level walk through the impact you've seen over the past couple of months across your portfolio?

So what I thought I might do is talk about some of the positives we're seeing and then some of the challenges that we're seeing. So on the positive side, and I mentioned some of this in the call yesterday, the pharmaceutical marketing part of our business, which is the driver of the Everyday Health Group set of assets inside of Digital Media, is performing well. So pharma as an ad category is probably one of the few categories that is demonstrating growth. And pharma separates their spend in direct-to-consumer and then in direct-to-provider. We're seeing growth in both, but we're seeing a significant amount of growth on the direct-to-provider side. That's pharma marketing to the million physicians in the United States that write prescriptions. I've said this before, it is definitionally the most valuable media audience in the world because the revenue per doctor is off the charts. You have a significant $200 billion industry that can only have its product distributed if one of those million doctors writes a prescription. And so historically, that is -- a lot of doctor marketing was what was called detailing. Detailing is the practice of sending a pharma sales rep into a doctor's office. That obviously isn't happening today, and our thesis is, it won't return. And so our assets that offer e-detailing, electronic detailing, are doing well. So pharma as a category, generally, and then I think our assets inside of that, are doing well. VPN continues to be a growth area. I think it was a growth area prior to this. It continues to be. It's very relevant. Privacy does matter to consumers and to businesses. And as more people are at home with machines and activities that are co-mingling work and home activity, I think it becomes even more important. And what we're trying to develop as a company, most of what our VPN accomplishes our services, accomplishes a privacy goal. But VPN also classically, in a corporate sense, is remote secure access to files and to servers. And so we're building that capability at our Encrypt.me. And that, as you know, a lot of remote secure access VPN is actually on-prem VPN. That needs to move to the cloud. So this is another area where -- by the way, and generally, thematically, anyone who was sitting on the fence about moving to the cloud that had metal in basements, that's over. I think every -- this is the accelerant that says you can't continue to operate in that way. Another positive, I think, we haven't seen churn yet but sober about that, right? Because I do think that you would anticipate that as people start to really examine, either their credit card statements or their AP ledgers, they're going to start looking at everything. And we as a company are doing it. And we always do that, but we're doing it now with a fine-toothed comb and questioning everything. So I think you're going to see that. I think you're going to see -- and that has implications for lots of companies, right? I think lots of companies have sleepers, people who are -- customers who aren't using the product, but for whatever reason haven't gotten around to canceling. So I think you've got to watch for that. We haven't seen it yet. So we're going to knock on wood. And then I would also say that just from an ad point of view, you've got to look at advertising based on who your customers are and what categories they're in. You got to understand, there are companies like ours that really only sell advertising to large companies. So we said we have 1,100 advertisers. There are other advertising sellers who sell to literally millions of advertisers. And when you get into the millions, you're getting into very small advertisers, who have been impacted probably hardest by the pandemic. So there's that exposure question. And then there's ad categories. The pharma category and health is good. We're seeing more challenges in tech and gaming. Gaming was something we were actually expecting because of the console cycle. There are -- there's going to be a new Microsoft and Sony console in the fourth quarter. And whenever we have console cycles, and this is the fifth and fourth, respectively, for those products, games marketers kind of hoard their spend, ready to flood the zone at that time. So we were expecting it already, and then this just added to that. Our B2B lead gen business now just kind of, I guess, segueing a little bit to some of the headwinds, that's also been challenging. I think it's hard to want to purchase leads when you can't make the sales call. And that's a general thing, too, which is whatever business it is in our own portfolio, does it require a physical sale or not? Does it require a site visit? Does it require a site implementation? We have a great business called Ekahau. Ekahau continues to grow, but it was growing at a really nice rate and then slowed down because what does Ekahau do? Ekahau provides software to allow you to design and deploy WiFi within commercial environments. While designing and deploying WiFi isn't happening in most office buildings, though, interestingly, our health care and education business are growing faster, right, where the need to make sure that the WiFi is strong and powerful. And you're seeing this. Everyone's got WiFi stories now, right? But that -- so there are parts of that business that have been affected adversely and then parts that have been favored. And then the other thing I mentioned in the context of our business is, health care is such a big part of not just the Media business through Everyday Health Group but really on the cloud side through cloud fax. The volumes -- so the degree to which we have variable pricing, which we have with our larger customers, the volumes are down. You're not seeing -- then, what do they use fax for? They use fax to move medical records around, right, point to point. You're not seeing that right now. The amount of elective work happening in the United States is very, very low.

Okay. Great. That's very helpful. And then maybe we'll kind of segue to the Digital Media segment, which, I think, as you mentioned, represents just over 50% of your revenue. It has Everyday Health, Ziff Davis within it. On your earnings yesterday, if my math is correct, I think you expect organic revenue in that division to be down roughly about 12% in 2Q, better than that if you include some of the inorganic stuff. But as I think about that, it's pretty resilient as we compare to what we've seen from some other digital advertisers out there. So I guess with that context, could you just help talk about your monetization strategy? What you're seeing? I know you do performance and you do display ads. So what are you seeing in that sector?

Well, Cory, I'm glad you phrased it the way you did because we are very proud of how the Digital Media business is performing. The market's reaction over the last 36 hours has been a little curious to me, because I agree with you. I think anybody that is in the advertising sales business, and that is a lot of the Internet, are seeing reductions far in excess of 12%. And I think -- and by the way, that's adjusted for M&A. You bring the M&A back in, we're essentially flat. And given that we're total growth, we rarely make the difference, but we wanted to share as much as we could as we were talking about what's happening inside the company. And so I think there are a few reasons why we're holding up well. I had mentioned some of them. I think it's the nature of the advertising and the nature of the categories we're in. But you touched on something that I think is really, really important, which is how much of our business is performance-based. And really, I'd argue all of it's performance-based, right? Whether you price it on a click or on a lead or an acquisition or on an impression and the impression being what we call display, all of it has to perform. And so really from our beginning in this -- with these businesses was always, we need to have the best return on ad spend. Because in the end, when you have economic downturns, marketing budgets are the first to go. They're the easiest thing to turn off. Everyone knows it. And the last thing you're going to turn off is the thing that's ROI-positive. Because you know you're then starving some future periods, where a lot of advertising -- it's hard to really know, did the advertising work and where does it work. We need to make it crystal clear. So even in our health business, which is largely CPM, we engage with third-party measurement companies who look at the campaign and then can report prescription lift and adherence to prescriptions based on the marketing that we're doing. So even there, it's price CPM. It's measured on performance. So I think the performance characteristics of what we're doing have been really important. And then I would also say that we're more than an advertising business on the Digital Media side. So we have a $200 million run rate subscription business. We did not have that some years ago, and we understood that all -- really throughout the history of media, you've always had both monetization mechanisms. You had advertising and you had subscription. And we chose not to pursue subscription in the classic sense of, we're going to put up a paywall and charge you for access for the very thing that you've gotten used to getting it for free and probably can get for free in some other places. We instead said, look, where can we find subscription businesses that have a tie to the audiences we're in? So when we bought Humble Bundle, which is one of our leading subscription assets within the Digital Media segment, it was knowing that we had IGN that could support and market and help drive the customer acquisition cost low. When we looked at the Ookla business, which really has a data subscription service, it was an advertising business that we said, "Oh, there's a subscription business inside of here. How do we build that?" And that's been very successful for us. So I think having that -- having those components has also, I think, helped alleviate some of the issues that we're facing. And then another interesting area that is still nascent but where we're leaning in, investing a significant amount of capital into is our Humble Publishing business. So maybe a moment, if you don't mind, if I could talk about Humble Bundle because I get asked a lot about the business.

It's a -- so yes, it's perfect.

Okay. So Humble has a few components. So there's a store, that's the Humble Store. And it's like any other store where you can buy games. We go in. We're a retailer. We take a piece of the sale. We then have Humble Choice. Humble Choice is a subscription business. And there, you pay a monthly fee to get a bundle of games. And there's different tiers. You can pay different amounts to get different tiers of games. Historically, all of those games were games that we had to buy. And we would buy from publishers usually 6 months after their initial launch, where interest in the game has waned, but it's still in the public consciousness. We can get it -- it's almost a second window that we've created for them. They're happy to sell it to us at a discounted price. It's some often redemption-based. And so that becomes our content cost. And we sell subscriptions against that business, and it's been great. Then we realized -- and then by the way, we also have Humble Bundles. Bundles are just bundles of games, it's not the subscription, it's part of the store. Then we realized, wouldn't it be great if in the Humble Choice business, we could actually start to publish our own games. And the reason we were focused on publishing our own games is, one, we understood that the indie market right now doesn't really have a dominant publisher. The markets -- when you think of games, you're typically thinking of either large mobile game companies or AAA publishers that are building these huge franchises. When I think of the indie market, I think of the market where you're selling 0.5 million units at like $30 to $40. The big guys aren't focused there. So that is what the indie game market is, but we see a lot of interest in games in that space from players. We see a second thing happening. As larger platforms look to build gaming subscription businesses, they need library. So where are they going to go to get library? They're going to go to somebody who has a library, and that's what we're trying to build in indie. So we saw an opportunity there. We have a unique view into what people -- what games people play through the store and through Humble Choice. So our ability to choose the right games to develop and to back and to publish, we think, is an advantage. We also have marketing platforms. We have the Humble database and we have the store, and we have IGN to market the games that we create. And then finally, and possibly, most importantly, and what started it was the more I can build into my monthly choice, games that I control, the less I'm paying out for third-party IP. And in some ways, everyone calls themselves the Netflix of, so I'm cautious about that, but it is a little bit of their story where the library was all rented and is now a mixture of rented and originals. And in our own way, we needed originals inside of that business. So yes, no, we're leaning in. We're publishing. We've got about 60 projects in front of us. We're going to publish 19 games this year. So we're optimistic.

Great. Okay. So maybe we'll move to Cloud Services, which just under 50% of revenue but actually a little more than half of EBITDA, given the higher-margin profile. I think we're going to agree on this point, too, because your guide implies -- for 2Q implies -- flat growth in 2Q, which was quite surprising to me, just given -- I think there was a lot of concern with headwinds SMBs are facing in the current environment. So could you talk about maybe what your customer base looks like and why you're seeing demand hold up in the current environment.

Well, I'm glad you said that, too, because again, I look around and I realize the pressure that other businesses, who are serving these markets are facing. And we're able to navigate well. So I think we have a few things. So #1 is, a big part of why people are using our various services is because they're in regulated industries with regulated communications. Health care, finance and law are 3 big verticals for us. All of those continue to need to use our platform to comply with various regulations around the safe and effective way to move information around. So that's one thing. I think we have some nice protection around a concept like that. Also, I think I mentioned this on the call, we have less local retail -- so SMB is a big thing, right, like it can be -- we're a medium-sized business, right? So there is something between J2 Global and a restaurant on the corner, but it's all sort of thrown together and conflated, we're more J2 Globals of the world as customers and not the restaurant on the corner. We don't have a lot of local retail. Therefore, we don't have a lot of travel. So again, I think industry mix, whether we're lucky or good, it sort of doesn't matter. It's been in our favor. Then when you look at some of our other Cloud Services, take e-mail marketing, if you are a seller of anything, a retailer, you've moved completely to being a digital retailer, right, to focus on e-commerce. The cheapest and most cost-effective way to market is through e-mail marketing. So we're seeing send volumes go up, and so this is the thing that they need. And so I think there's a little bit of that. Maybe we have the things that they view as essential. They're not going to cut off their voice. They're not going to cut off their security. In fact, you'd argue that you need security solutions endpoint and privacy more and e-mail security more today than at any other time. We're seeing the number of attacks from a cybersecurity point of view skyrocketing. I mean it's clear, the criminals see opportunities to exploit weaknesses. Remember, it was easier for companies to protect places they control, they were at, that they had physical control over. It's now getting distributed, and people are making choices individually in their homes that may not always be the right security choice for the company. So I think we're relevant in that way. And then the other thing is, we're low ACV. So we're not huge-ticket items that is the first thing that you want to try to cut from the list. From a marketing and sales point of view, we're largely web-based and phone-based, where we have had challenges, we were working on some large enterprise implementations that have been put on hold. I mean, it's just -- it's hard to get those pushed through. So I've said this, it's like if it requires field sales or a site visit, who knows, your guess is as good as mine as to when that will be permissible. But phone, web, which is how we do most of our customer acquisition, have been not only unaffected but I could argue, in some ways, better. I mean we're seeing some less competition on some keywords as a marketer because other people are looking to cut. So we're trying to be opportunistic. As I think I said on the call, our marketing budget, we intend to keep up year-over-year. That's unusual. That is very unusual, which is a good statement for what our future might look like. Because we're not -- a lot of people conduct their marketing budgets, you won't know the problem for a year, right? It doesn't show up. The cost savings is immediate. But in a subscription business, the revenues are obviously amortized. And so that -- you won't see that. And so you're going to see earnings-driven -- or people improving margins through cutting marketing, we're trying not to do that.

Okay. So you have 6 business units, fax, security, privacy, backup, martech, voice. Hope I got that right.

Yes.

I would say -- so when we launched a couple of weeks ago, one of the areas that I'd say we got a fair amount of questions on, and in some ways push back on, was corporate cloud fax, which is an area that you've highlighted as a growth opportunity. So could you talk about the market opportunity you're going after within corporate cloud fax and then also some of the recent product innovations you've launched?

Yes. No. Look, it is a great business, and it's important to separate it from the web fax business. So when we talk about the corporate business, we're really talking about enterprise-level solutions and implementations, often APIs that are built into existing systems. So take health care. You have 300, 400 EMRs, electronic medical record companies that have implementations across all sorts of points of care in hospitals. We are building solutions that allow each of these points to communicate to each other. So that has been -- and by the way, when -- we can see fax volumes. So we're on the send or receive side. We have less than 10% of the fax volume in health care. We have a $130 million corporate fax business, corporate cloud business. It's not all health care. So actually less than -- it's not that includes finance and legal, that's like 70% health care -- 60%, 70% health care. So think about that. I am a tiny player in the corporate fax market. And you could say, "Well, will it move to another protocol?" And the reality is, the beauty of fax is, it's highly interoperable, it works, it's easy to connect points together. And what we're doing is, we've launched something called Consensus. So what Consensus is, is really a rebranding of the corporate fax business. And it's a series of solutions, including cloud fax. So cloud fax is in there, the direct secure messaging is in there and patient record query is in there. That's important. Because one of the big challenges in health care is that if you have a physician that is in the Cerner system, and then you go to see a physician in the Epic system, the Epic system and the Cerner systems don't talk to each other. Consensus pulls from both. So I can look Cory Carpenter up as a provider, not as an individual. There are no HIPAA violations here. I can do that as a provider and get your whole record. That's super powerful. And that, to me, is the big opportunity. So look, if we can get this right, I think it could be a very, very significant part of our business. But right now, it's a great grower. It's an organic grower, or has been. And it's been offsetting the challenges we have on the web fax side, which is a different market. And I think separating the 2 is important.

Yes. Okay. So maybe stepping back outside of the business units for a bit, and you did reference this earlier, J2 -- JCOM has grown revenue 24 straight years. And I think you have a very different way of thinking about growth. So I'd like to spend some time just talking about your total growth strategy and how you think about inorganic versus organic growth, or don't think about it?

Well, we don't make a distinction. I think the market values organic more than inorganic. It, clearly does, and I think it's wrong. Because the underlying belief is that organic growth is somehow more sustainable. That is entirely and patently untrue. The half-life of organic growth for most companies is in -- I can measure it with one hand, right? You reach points of maturation. And then what do they do? They start to spend $1 to make $0.90, and the market applauds the top line growth. And so we don't engage in that. Because in my mind, it's not sustainable. And I think we're seeing some of that as we shake out now. So in my view, growth is growth. Whether you decide to cash flow less, spend more in your income statement to drive profitable top line growth, I don't mean the unprofitable growth, the empty-calorie growth that I was just referring to, we do that. But then there are also opportunities to take the free cash flow from your business and to buy businesses that represent future free cash flow that you can optimize and create value. And I think that difference is lost. I think when people say, "Well, tell me your organic and inorganic." I think what they're trying to get at is, "I value this more than that." And we just don't believe that. We have 24 years of proof that we can sustainably and consistently grow top and bottom line, that's the key: top and bottom line through our system. Now in order to do this, it's not easy. You need to have a real -- it needs to be built into your DNA, your culture. It's got to be what everyone does. And that's what we have at the J2 acquisition system from our general managers, to our presidents, to our corporate staff, everyone is focused on this process of identifying and evaluating and transacting and diligencing and then ultimately integrating and creating value in these various acquisitions that we do. And we've clearly done it across 180 million acquisitions and a few billion dollars. And most of that, by the way, was funded by free cash flow. Yes, we have debt. But remember, for a long period of time, we paid dividends. And obviously, we've done some share buybacks. So for the most part, we've been able to self-finance this. So in my mind, I'm indifferent as to how we grow as long as we grow. And that's, to me, the fundamental goal. And what we choose -- we don't just buy anything, right? We have a very, very clear set of thesis at any given time that we work on and then sort of overarching principle that we will never veer from, highly recurring revenue, very important, great margins, great cash flow, digital and really the most important, where we think we can uniquely create value. That's why us own it -- it can't just be a good business. It has to be a better business because J2 owns it.

And then staying on M&A. So as a -- not to put words in your mouth, but as of -- you've been fairly a disciplined acquirer in terms of, you look at the spend to EBITDA, which is around 5, 5.5x historically across the acquisition. So from that perspective, could you talk about how you're thinking about the M&A pipeline today, as there's some re-ratings going on? And then also, you talked about this some yesterday, but some of the very near-term challenges, just in terms of travel restrictions and what that presents?

Yes. Look, just on the 5, 5.5x, we never buy at that price. We optimize to that price, right? It's -- though, in this environment, you may be buying at that price. But no, we typically find assets that either we can shrink to grow, where they were pursuing unprofitable top line. There was a profitable core in there. We returned them back to that profitable course. So we've got those experiences or it's a business like Humble Bundle or Ookla, a growing business that we think we can accelerate their path. So we do have different ways in which we arrive at that effective price paid over EBITDA. In terms of this current environment, look, I think we're holding our fire right now because we can't visit companies. I think it's hard for us to transact if we can't actually meet the team and we can't see the company in any form or fashion. That's subject to change, depending on how long this current environment goes on. But we're happily building a war chest. And I think we're going to build a war chest at a time where particularly in the industries we're in, where people who haven't shown the same resilience are going to need help. And we are planting a lot of seeds. So I am long-term bullish on the fact that I'm going to have a ton of dry powder against a lot of opportunities.

Okay. Great. Let's squeeze one more in. I know we're running out of time. One thing I also did want to hit on was just, I think, that JCOM has a fairly unique compensation structure for the management team, not a question I typically ask in a fireside chat, but could you talk about your approach to compensation and in particularly how you utilize stock-based comp?

Yes. Look, we're big believers that we -- our job is to increase the per share price of J2 at its simplest level. That is what everyone listening today wants, right? And so we have aligned our compensation largely around that. And so we try to -- when we give out equity, my own equity as well as the leadership team, various amounts. But essentially, we have to hit certain performance price thresholds in order for the stock to vest. So it's less time-based vesting, whereas I said, you just have to stay alive and you get the stock. It's really performance-based. And we think that's important, and we're not going to abandon that. And so we want to be very much aligned with our shareholders. That's what they're looking for. And so in order for me to get the fullness of my package, the stock has to be at $183 or $186 or thereabouts. And so I've got some more years to get there. The current market has been challenging, but at the same time, I'm very confident. I am very confident in -- just the current portfolio is holding its own in a way that I do think it is really compelling. And then we're just going to add on to this as the market allows us to do that.

Great. Well, we'll stop there. Vivek, thanks for joining us, and thanks, everyone.

Thank you. Appreciate it, Cory.

All right. Bye.

Bye.