TMCnet News
SYNACOR, INC. - 10-Q - Management's Discussion and Analysis of Financial Condition and Results of Operations(Edgar Glimpses Via Acquire Media NewsEdge) This quarterly report on Form 10-Q contains "forward-looking statements" within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended. In addition, we may make other written and oral communications from time to time that contain such statements. Forward-looking statements include statements as to industry trends and future expectations of ours and other matters that do not relate strictly to historical facts. These statements are often identified by the use of words such as "may," "expect," "believe," "anticipate," "intend," "could," "estimate," or "continue," and similar expressions or variations. These statements are based on the beliefs and assumptions of our management based on information currently available to management. Such forward-looking statements are subject to risks, uncertainties and other factors that could cause actual results and the timing of certain events to differ materially from future results expressed or implied by such forward-looking statements. These forward-looking statements include statements in this Item 2, "Management's Discussion and Analysis of Financial Condition and Results of Operations." Factors that could cause or contribute to such differences include, but are not limited to, those identified below, and those discussed in the section titled "Risk Factors" included elsewhere in this Form 10-Q and in our other Securities and Exchange Commission filings, including our Annual Report on Form 10-K for the fiscal year ended December 31, 2012. Furthermore, such forward-looking statements speak only as of the date of this report. We undertake no obligation to update any forward-looking statements to reflect events or circumstances after the date of such statements. The following discussion and analysis of our financial condition and results of operations should be read in conjunction with the condensed consolidated financial statements and related notes thereto appearing elsewhere in this Form 10-Q and with the consolidated financial statements and notes thereto and management's discussion and analysis of financial condition and results of operation appearing in our Annual Report on Form 10-K for the fiscal year ended December 31, 2012. Overview We are a leading provider of startpages, TV Everywhere solutions, Identity Management, or IDM, and various cloud-based services across multiple devices for cable, satellite, telecom and consumer electronics companies. We are also a leading provider of authentication and aggregation solutions for delivery of online content. Our technology allows our customers to package a wide array of online content and cloud-based services with their high-speed Internet, communications, television and other offerings. Our customers offer our services under their own brands on Internet-enabled devices such as PCs, tablets, smartphones and connected TVs. We generate revenue from search and display advertising and by charging subscriber-based fees for services and products delivered through our startpages. Our results are driven primarily by our customer mix, the product and service mix preferences of those customers and the pricing of those products and services. We generate the majority of our revenue from search and display advertising on our startpages, which comprise consumer-facing components of our technology. Adding new customers with large consumer bases and expansion of our relationships with existing customers have resulted in an increasing shift in our revenue mix towards search and display advertising revenue. In addition, as new customers adopt our solutions, and as their respective consumers' use of our startpages ramps up as described below, our growth is increasingly driven by search and display advertising revenue. These increases are largely driven by our model of sharing a portion of this search and advertising revenue with our customers. As we expand our cloud-based and value added services offerings, we expect to generate increased subscriber-based revenue from our customers. For the three months ended March 31, 2013, search and display advertising revenue was $24.1 million, a decrease of 7% compared to $25.8 million for the three months ended March 31, 2012. Over the same period, our unique visitors decreased by 5%, our search queries decreased by 22% and our advertising impressions increased by 35%. Search revenue decreased by $3.0 million. We believe a material portion of the decrease was due to the placement of our startpages on the second tab of the default Windows 8 Internet browser by our consumer electronics customers. In addition, and to a lesser extent, we believe the decrease was due to lower search activity associated with the increased usage of other devices such as tablets and smartphones generally across the consumer base. Display revenue increased by $1.3 million as advertising impressions increased across our startpages. For the reasons described above, during the remainder of 2013, we may continue to experience decreases in our search revenue from our existing customer base, but anticipate that the signing and launching of new customers will help to offset this decrease. Our subscriber-based revenue consists of fees charged for the use of our proprietary technology and for the use of, or access to, services, such as e-mail, security, TV Everywhere, online games, music and other value added services and paid content. During the three months ended March 31, 2013, subscriber-based revenue was $5.1 million, an increase of 3% from $4.9 million during the three months ended March 31, 2012. We believe there are opportunities to generate new sources of subscriber-based revenue, such as the introduction of new value added services, including those delivered cross-device and on 11 -------------------------------------------------------------------------------- Table of Contents touchscreen-enabled devices. We believe that the variety of value added services and the introduction of new value added services will also drive increased search and display advertising revenue. As new customers introduce our startpages to their consumers, usage of our solutions and our revenue from our startpages tends to increase over time. There are a variety of reasons for this ramp-up period. For example, a new customer may migrate its consumers from its existing technology to our technology over a period of time. Moreover, a new customer may initially launch a selection of our services and products, rather than our entire suite of offerings, and subsequently broaden their service and product offerings over time. When a customer launches a new service or product, marketing and promotional activities may be required to generate awareness and interest among consumers. Search and display advertising revenue typically grows significantly during the first one to three years after a customer launch, although there can be notable variances from customer to customer. Thereafter, changes in revenue tend to mirror changes in the consumer base of the applicable customer. For the three months ended March 31, 2013, we derived revenue from over 45 customers, with revenue attributable to four customers, CenturyLink, Inc. or CenturyLink (including revenue attributable to Qwest Communications International, Inc., or Qwest, which merged with CenturyLink in April 2011), Charter Communications Inc., or Charter, Verizon Corporate Services Group, Inc., or Verizon, and Toshiba America Information Systems, Inc., or Toshiba, together accounting for approximately 70% of our revenue for the three months ended March 31, 2013, or $20.3 million. One of these customers accounted for 20% or more of revenue in such period, and revenue attributable to each of the other three customers accounted for more than 10% in such period. Revenue attributable to our customers includes the subscriber-based revenue earned directly from them, as well as the search and display advertising revenue generated through our relationships with our search and display advertising partners (such as Google Inc., or Google, for search advertising and advertising networks, advertising agencies and advertisers for display advertising). This revenue is attributable to our customers because it is produced from the traffic on our startpages. These partners provide us with advertisements that we then deliver with search results and other content on our startpages. Since our search advertising partner, Google, and our advertising network partners generate their revenue by selling those advertisements, we create a revenue stream for these partners. In the three months ended March 31, 2013, search advertising through our relationship with Google generated approximately 54% of our revenue, or $15.8 million (all of which was attributable to our customers). The initiatives described below under "Key Initiatives" are expected to contribute to our ability to maintain and grow profitability via increases in advertising revenue, increases in customers and our consumer reach, and increases in availability of products across more devices. We expect the period in which we experience a return on future investments in each of these initiatives to differ. For example, more direct advertising at higher cost per thousand impressions (referred to as cost per mille, or CPM) would be expected to have an immediate and direct impact on profitability while expansion into international markets may require an investment that involves a longer term return. We intend to utilize some of the proceeds of our initial public offering to improve our ability to achieve consistent profitability in the future by enhancing our technology and our systems capabilities to more efficiently support our customers, develop new products and features and report upon, analyze and manage the financial performance of the business. Key Initiatives We are focused on several key initiatives to drive our business: • add new, and expand our existing offerings with current, cable, telecom, satellite and consumer electronics customers to increase our consumer reach; • continue to expand our offerings of, and invest in, cloud-based services such as e-mail and TV Everywhere and increase the number of customers using our TV Everywhere technology; • enhance our direct advertising sales effort to increase the CPMs derived from advertising; • extend the availability of our existing and new products and services to additional devices including tablets and smartphones; • expand our presence into international markets; and • invest in and acquire new technologies and products. 12 -------------------------------------------------------------------------------- Table of Contents Key Business Metrics In addition to the line items in our financial statements, we regularly review a number of business metrics related to Internet traffic and search and display advertising to evaluate our business, determine the allocation of resources and make decisions regarding business strategies. We believe disclosing these metrics is useful for investors and analysts to understand the underlying trends in our business. The following table summarizes our key business metrics, which are unaudited, for the three months ended March 31, 2012 and 2013: Three Months Ended March 31, 2012 2013 Key Business Metrics: Unique Visitors (1) 21,293,075 20,260,966 Search Queries (2) 270,777,789 211,644,797Advertising Impressions (3) 8,485,227,382 11,483,034,070 Notes: (1) Reflects the number of unique visitors to our startpages computed on an average monthly basis during the applicable period. (2) Reflects the total number of search queries during the applicable period. (3) Reflects the total number of advertising impressions during the applicable period. Unique Visitors We define unique visitors as consumers who have visited one of our startpages at least once during a particular time period. We rely on comScore to provide this data. comScore estimates this data based on the U.S. portion of the Internet activity of its worldwide panel of consumers and its proprietary data collection method. Search Queries We define search queries as the number of instances in which a consumer entered a query into a search bar on our startpages during a particular time period. We rely on reports from our search partner, Google, to measure the number of such instances. Advertising Impressions We define advertising impressions as graphical, textual or video paid advertisements displayed to consumers on our startpages during a particular time period. We rely on reports from technology and advertising partners, including DoubleClick (a division of Google), to measure the number of advertising impressions delivered on our platform. Components of our Results of Operations Revenue We derive our revenue from two categories: revenue generated from search and display advertising activities and subscriber-based revenue, each of which is described below. We record our search and display advertising revenue on a gross basis, which includes the net amount received from Google under our agreement with them. The following table shows the revenue in each category, both in amount and as a percentage of revenue, for the three months ended March 31, 2012 and 2013. Three Months Ended March 31, 2012 2013 (in thousands) Revenue: Search and display advertising $ 25,780 $ 24,086 Subscriber-based 4,890 5,057 Total revenue $ 30,670 $ 29,143 Percentage of revenue: Search and display advertising 84 % 83 % Subscriber-based 16 17 Total revenue 100 % 100 % 13-------------------------------------------------------------------------------- Table of Contents Search and Display Advertising Revenue We use Internet search and display advertising to generate revenue from the traffic on our startpages. • In the case of search advertising, we have a revenue-sharing relationship with Google, pursuant to which we include a Google-branded search tool on our startpages. When a consumer makes a search query using this tool, we deliver the query to Google and they return search results to consumers that include advertiser-sponsored links. If the consumer clicks on a sponsored link, Google receives payment from the sponsor of that link and shares a portion of that payment with us, which we in turn share with the applicable customer. The net payment we receive from Google is recognized as revenue. • We generate display advertising revenue when consumers view or click on a text, graphic or video advertisement that was delivered on a Synacor-operated startpage. We fill our advertising inventory with advertisements sourced by our direct salesforce, independent advertising sales representatives and advertising network partners. Revenue may be calculated differently depending on our agreements with our advertisers or the agreements between our advertising network partners and their advertisers. It may be calculated on a cost per impression basis, which means the advertiser pays based on the number of times its advertisements appear, or a cost per action basis, which means that an advertiser pays when a consumer performs an action after engaging one of its advertisements. Historically only a small percentage of our display advertising revenue has been calculated on a cost per action basis. Subscriber-Based Revenue We define subscriber-based revenue as subscription fees and other fees that we receive from our customers for the use of our proprietary technology platform and the use of, or access to, e-mail, TV Everywhere, security, games and other services, including value added services and paid content. Monthly subscriber levels typically form the basis for calculating and generating subscriber-based revenue. They are generally determined by multiplying a per-subscriber per-month fee by the number of subscribers using the particular services being offered or consumed. In other cases, the fee is fixed. We recognize revenue from our customers as the service is delivered. Costs and Expenses Cost of Revenue Cost of revenue consists of revenue sharing, content acquisition costs and co-location facility costs. Revenue sharing consists of amounts accrued and paid to our customers for the traffic on the startpages we operate for them that results in the generation of search and display advertising revenue. The revenue-sharing agreements with our customers are primarily variable payments based on a percentage of the search and display advertising revenue. Content acquisition agreements may be based on a fixed payment schedule, on the number of subscribers per month, or a combination of both. Fixed-payment agreements are expensed over the term defined in the agreement. Agreements based on the number of subscribers are expensed on a monthly basis. Co-location facility costs consist of rent and operating costs for our data center facilities. Research and Development Research and development expenses consist primarily of compensation-related expenses incurred for the development of, enhancements to, and maintenance and operation of our technology and related infrastructure. Sales and Marketing Sales and marketing expenses consist primarily of compensation-related expenses to our direct sales and marketing personnel, as well as costs related to advertising, industry conferences, promotional materials, and other sales and marketing programs. Advertising cost is expensed as incurred. General and Administrative General and administrative expenses consist primarily of compensation-related expenses for executive management, finance, accounting, human resources and other administrative functions. Depreciation Depreciation includes depreciation of our computer hardware and software, furniture and fixtures, leasehold improvements, and other property, and depreciation on capital leased assets. 14 -------------------------------------------------------------------------------- Table of Contents Other Expense Other expense consists primarily of foreign exchange gains and losses. Interest Expense Interest expense primarily consists of expenses associated with our capital leases. Provision for Income Taxes Income tax expense consists of federal and state income taxes in the United States and taxes in certain foreign jurisdictions. Critical Accounting Policies and Estimates Our discussion and analysis of our financial condition and results of operations is based upon our condensed consolidated financial statements, which have been prepared in accordance with U.S. GAAP. The preparation of these condensed consolidated financial statements requires us to make estimates, judgments and assumptions that affect the reported amounts of assets, liabilities, revenue and expenses, and the related disclosure of contingent assets and liabilities. We base our estimates on historical experience and on various other assumptions that we believe are reasonable under the circumstances. Our estimates form the basis for our judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates. An accounting policy is considered to be critical if it requires an accounting estimate to be made based on assumptions about matters that are highly uncertain at the time the estimate is made, and if different estimates that reasonably could have been used, or changes in the accounting estimate that are reasonably likely to occur, could materially impact the condensed consolidated financial statements. We believe that our critical accounting policies reflect the more significant estimates and assumptions used in the preparation of the condensed consolidated financial statements. For a discussion of our critical accounting policies and estimates, see "Critical Accounting Policies and Estimates" included in our Annual Report on Form 10-K for the year ended December 31, 2012 under the caption Management's Discussion and Analysis of Financial Condition and Results of Operations. We have made no significant changes to our critical accounting policies and estimates from those described in our Annual Report on Form 10-K for the year ended December 31, 2012. Adjusted EBITDA To provide investors with additional information regarding our financial results, we have disclosed within this Quarterly Report on Form 10-Q adjusted EBITDA, a non-GAAP financial measure. We have provided a reconciliation below of adjusted EBITDA to net income, the most directly comparable GAAP financial measure. We have included adjusted EBITDA in this Quarterly Report on Form 10-Q because it is a key measure used by our management and board of directors to understand and evaluate our core operating performance and trends, to prepare and approve our annual budget and to develop short- and long-term operational plans. In particular, the exclusion of certain expenses in calculating adjusted EBITDA can provide a useful measure for period-to-period comparisons of our core business. Additionally, adjusted EBITDA is a key financial measure used by the compensation committee of our board of directors in connection with the payment of bonuses to our executive officers. Accordingly, we believe that adjusted EBITDA provides useful information to investors and others in understanding and evaluating our operating results in the same manner as our management and board of directors. Our use of adjusted EBITDA has limitations as an analytical tool, and you should not consider it in isolation or as a substitute for analysis of our results as reported under GAAP. Some of these limitations are: • although depreciation is a non-cash charge, the assets being depreciated may have to be replaced in the future, and adjusted EBITDA does not reflect capital expenditure requirements for such replacements or for new capital expenditure requirements; • adjusted EBITDA does not reflect changes in, or cash requirements for, our working capital needs; • adjusted EBITDA does not consider the potentially dilutive impact of equity-based compensation; • adjusted EBITDA does not reflect tax payments that may represent a reduction in cash available to us; and 15-------------------------------------------------------------------------------- Table of Contents • other companies, including companies in our industry, may calculate adjusted EBITDA differently, which reduces its usefulness as a comparative measure. Because of these limitations, you should consider adjusted EBITDA alongside other financial performance measures, including various cash flow metrics, net income and our other GAAP results. The following table presents a reconciliation of adjusted EBITDA to net income for each of the periods indicated: Three Months Ended March 31, 2012 2013 (in thousands) Reconciliation of Adjusted EBITDA: Net income $ 1,174 $ 27 Provision for income taxes 399 18 Interest expense 47 58 Other expense - 7 Depreciation 781 1,130 Stock-based compensation 558 562 Adjusted EBITDA $ 2,959 $ 1,802 Results of Operations The following tables set forth our results of operations for the periods presented in amount and as a percentage of revenue for those periods. The period to period comparison of financial results is not necessarily indicative of future results. Three Months Ended March 31, 2012 2013 (in thousands) Revenue $ 30,670 $ 29,143 Costs and operating expenses: Cost of revenue (1) 16,764 15,764 Research and development (1)(2) 6,288 6,865 Sales and marketing (2) 2,377 2,130 General and administrative (1)(2) 2,840 3,144 Depreciation 781 1,130 Total costs and operating expenses 29,050 29,033 Income from operations 1,620 110 Other expense - (7 ) Interest expense (47 ) (58 ) Income before income taxes 1,573 45 Provision for income taxes 399 18 Net income $ 1,174 $ 27 Notes:(1) Exclusive of depreciation shown separately. (2) Includes stock-based compensation as follows: Three Months Ended March 31, 2012 2013 (in thousands) Research and development $ 107 $ 261 Sales and marketing 74 76 General and administrative 377 225 $ 558 $ 562 16-------------------------------------------------------------------------------- Table of Contents Three Months Ended March 31, 2012 2013 Revenue 100 % 100 % Costs and operating expenses: Cost of revenue (1) 55 54 Research and development (1) 21 24 Sales and marketing 8 7 General and administrative (1) 9 11 Depreciation 3 4 Total costs and operating expenses 95 % 100 % Income from operations 5 % - % Other expense - - Interest expense - - Income before income taxes 5 - Provision for income taxes 1 - Net income 4 % - % Note:(1) Exclusive of depreciation shown separately. Comparison of the Three Months ended March 31, 2012 and 2013 Revenue Three Months Ended March 31, 2012 2013 % Change (in thousands) Revenue:Search and display advertising $ 25,780 $ 24,086 (7 )% Subscriber-based 4,890 5,057 3 Total revenue $ 30,670 $ 29,143 (5 ) Percentage of revenue: Search and display advertising 84 % 83 % Subscriber-based 16 17 Total revenue 100 % 100 % Three months ended 2012 compared to 2013. Revenue decreased by $1.5 million, or 5%, compared to the same period in 2012. Search revenue decreased by $3.0 million. We believe a material portion of the decrease was due to the placement of our startpages on the second tab of the default Windows 8 Internet browser by our consumer electronics customers. In addition, and to a lesser extent, we believe the decrease was due to lower search activity associated with the increased usage of other devices such as tablets and smartphones generally across the consumer base. Display revenue increased by $1.3 million as advertising impressions increased across our startpages. Subscriber-based revenue remained relatively constant, increasing $0.2 million, or 3% compared to the same period in 2012. Cost of Revenue Three Months Ended March 31, 2012 2013 % Change (in thousands) Cost of revenue $ 16,764 $ 15,764 (6 )% Percentage of revenue 55 % 54 % Three months ended 2012 compared to 2013. Our cost of revenue decreased by $1.0 million, or 6%, compared to 2012. The decrease in our cost of revenue was driven by a decrease in revenue-sharing costs due to decreased search and display advertising. Cost of revenue as a percentage of revenue decreased slightly to 54% of revenue from 55% of revenue. 17 -------------------------------------------------------------------------------- Table of Contents Research and Development Expenses Three Months Ended March 31, 2012 2013 % Change (in thousands) Research and development $ 6,288 $ 6,865 9 % Percentage of revenue 21 % 24 % Three months ended 2012 compared to 2013. Research and development expenses increased by $0.6 million, or 9%, compared to 2012. The increase was primarily due to increases in employee-related costs as a result of the increase in headcount to support new product initiatives. Sales and Marketing Expenses Three Months Ended March 31, 2012 2013 % Change (in thousands) Sales and marketing $ 2,377 $ 2,130 (10 )% Percentage of revenue 8 % 7 % Three months ended 2012 compared to 2013. Sales and marketing expenses decreased by $0.2 million, or 10%, compared to 2012. The decrease was primarily due to a decrease in compensation related expenses. General and Administrative Expenses Three Months Ended March 31, 2012 2013 % Change (in thousands) General and administrative $ 2,840 $ 3,144 11 % Percentage of revenue 9 % 11 % Three months ended 2012 compared to 2013. General and administrative expenses increased by $0.3 million, or 11%, compared to 2012. The increase was primarily due to an increase in legal fees in connection with the formation of the JV Company and other administrative fees associated with being a publicly traded company. Depreciation Three Months Ended March 31, 2012 2013 % Change (in thousands) Depreciation $ 781 $ 1,130 45 % Percentage of revenue 3 % 4 % Three months ended 2012 compared to 2013. Depreciation increased by $0.3 million, or 45%, compared to 2012. This increase was driven by the purchase of assets during 2012 to support the high availability requirements of our customers.. Interest Expense Three Months Ended March 31, 2012 2013 (in thousands) Interest expense $ 47 $ 58 Our interest expense consists mainly of interest due on our capital lease obligations. 18 -------------------------------------------------------------------------------- Table of Contents Provision for Income Taxes Three Months Ended March 31, 2012 2013 (in thousands) Provision for income taxes $ 399 $ 18 Our income tax expense for the three months ended March 31, 2012 included $0.7 million of deferred income tax expense, partially offset by a tax benefit of $0.3 million relating to a research and development credit. Our income tax expense for the three months ended March 31, 2013 was nominal as our net income was nominal. Liquidity and Capital Resources Our primary liquidity and capital resource requirements are for financing working capital, investing in capital expenditures such as computer hardware and software, supporting research and development efforts, introducing new technology, enhancing existing technology, and marketing our services and products to new and existing customers. To the extent that existing cash and cash equivalents, cash from operations, cash from short-term borrowings and the net proceeds from our initial public offering are insufficient to fund our future activities, we may need to raise additional funds through public or private equity offerings or debt financings. In connection with our initial public offering in February 2012, we received aggregate gross proceeds of $27.3 million. The net proceeds to Synacor from the offering were approximately $22.4 million after deducting underwriting discounts of $1.9 million and offering costs of $3.0 million. In July 2011 we entered into an amended and restated loan and security agreement with a commercial bank. As of March 31, 2013, there was no outstanding principal amount. The amended and restated loan and security agreement also provides us with a revolving credit line of $6.0 million, which we can draw on at any time before July 2013, subject to a borrowing base calculation. Borrowings under the revolving credit line accrue interest at a per annum rate equal to the bank's prime rate plus 0.25%, subject to a minimum rate of 4.0% per annum, and must be repaid by July 2013. As of March 31, 2013, $6.0 million was fully available under the revolving credit line, with no outstanding borrowings. The amended and restated loan and security agreement contains provisions that allow the bank to accelerate repayment of the balance of the new term loan, if any, and the revolving credit line upon a material adverse change, as defined in the agreement, as well as other events of default. Our obligations under the agreement are secured by a blanket lien on all of our assets in favor of the bank. The agreement contains certain financial performance, reporting and other covenants, including restrictions on paying dividends and making distributions to our stockholders. As of March 31, 2013, we were in compliance with the covenants. As of March 31, 2013, we had approximately $40.2 million of cash and cash equivalents. We did not have any short-term or long-term investments. We believe that our existing cash and cash equivalents, along with cash flows from operations and availability under our term loan and revolving credit line, will be sufficient to meet our anticipated working capital and capital expenditure requirements for at least the next 12 months. |