Q2 2023 Marchex Inc Earnings Call
Participants
Edwin A. Miller; CEO; Marchex, Inc.
Michael A. Arends; Vice Chairman and Principal Financial & Accounting Officer; Marchex, Inc.
Trevor Caldwell; SVP of IR & Strategic Initiatives; Marchex, Inc.
Dillon Griffin Heslin; Research Associate; ROTH MKM Partners, LLC, Research Division
Michael James Latimore; MD & Senior Research Analyst; Northland Capital Markets, Research Division
Presentation
Operator
Welcome to Marchex's Second Quarter Conference Call. My name is Lauren, and I'll be coordinating your call today. (Operator Instructions) I will now hand you over to your host, Trevor Caldwell, Senior Vice President of Investor Relations and Strategic Initiatives to begin. Trevor, please go ahead.
Trevor Caldwell
Thank you, Lauren. Good afternoon, everyone, and welcome to Marchex's Business Update and Second Quarter 2023 Conference Call. Joining us today are Edwin Miller, our CEO; and Michael Arends, our Vice Chairman.
Before we get started, I would like to take this opportunity to remind you that our remarks today will include forward-looking statements, including references to our financial and operational performance, and actual results may differ materially from those contemplated by these forward-looking statements. Risks and uncertainties that could cause these results to differ materially are set forth in today's earnings press release and in our most recent annual and quarterly report filed with the SEC.
Any forward-looking statements that we make on this call are based on assumptions as of today, and we undertake no obligation to long statements in the subsequent events. During the call, we will present both GAAP and non-GAAP financial measures. Reconciliation GAAP to non-GAAP measures is included in today's earnings press release. The earnings press release is available on the Investor Relations section of our website.
At this time, I want to turn the call over to Edwin.
Edwin A. Miller
Thank you, Trevor, and thank you for everyone who's joining. Good afternoon. I would like to thank you all for joining to discuss Marchex and what we consider a very hot topic around AI, or artificial intelligence, which we're in the middle of.
Before we dive into details of the quarter, I will share some thoughts around my journey as CEO of Marchex. We believe we are in a strong market with strong and good tailwinds. I'm in the midst of building relationships with our clients and understanding their problems and how Marchex can provide solutions now and in the future.
Marchex is at a unique moment. Our early investments in artificial intelligence have positioned our business to capitalize on the market's growing demand for a vertical market understanding and products. We believe we are in the right place and at the right time to be a leader in the conversational intelligence market, and that we simply need to continue our path to execute across our talent, process and technology and empower our clients to be smarter each and every day.
It has been a very good amount of time I spent out in person with our clients. It's been a really good set of meetings. We enjoy working with some of the largest businesses in the world. The potential we have with our current clients and in our vertical markets excite me. I continue to focus the bulk of my efforts on our customers and reorganizing the business to take advantage of the opportunity we see in front of us within a multibillion-dollar market.
Over the past 6 months, I've been developing a deep understanding of the challenges and more importantly, the opportunities our customers possess in their industries. It has been exciting to see how our unique understanding of the vertical markets where we operate give us an advantage in mathematically understanding data to shape solutions around a complex set of conversations. This is exciting to create in collaboration with our clients, and I do stress with our clients.
These are very large companies that engage with their customers across multiple communication channels. They care deeply about each step in their processes. They are data-driven, and are aware that many have significant gaps around understanding and engaging customers across their omnichannel communications.
The era we find ourselves in now proves that Marchex was ahead of the curve in using our data to develop our AI capabilities. Our foresight in directing resources toward creating award-winning AI products is a testament to the talent and innovation of our team. In fact, in the second quarter, we received the highly sought after industry honor, the 2023 Artificial Intelligence Breakthrough Award for the best AI Solution for Sales. Say that again. Breakthrough Award for the Best AI Solution for Sales.
This award recognizes excellence, innovation, hard work and success in a range of AI and machine learning related categories, including generative AI, computer vision, AI ops, deep learning, robotics, natural language processing, industry-specific AI applications and much more.
In the second quarter, Marchex also received our second customer success award from APPEALIE. APPEALIE SaaS awards on our customer base obsessed platforms and success stories that deliver extraordinary experiences and results. This represents further recognition that our cutting-edge solutions are highly effective in delivering exceptional results for our clients. We are creating solutions that can help realize tens of millions of incremental sales a year to Fortune 100 brands. Our customers are actively asking more from us. That's a large part of why we are winning new relationships and establishing record contract extensions with certain partners.
There's another reason we expect to lead this space. It is directly correlated to the exceptional relationships we have developed with several of the largest brands in the automotive, auto services, and home services industries, among others. These strategic partnerships have provided us with invaluable insights into customer needs and industry trends. Our team has worked over many years to solidify our position as a trusted and often exclusive provider of conversational intelligence solutions. As the new CEO of Marchex, I'm grateful for the care and consideration of our teams have poured into these relationships over the years.
And what's most exciting is what many of our largest customers want us to do, which is expand now and in the future. To accomplish that, Marchex will continue to organize ourselves to move most quickly and serve our customers and innovate faster as we open new market opportunities. I will stress, I've now met all of our top customers around the globe. I'm now on second and third meetings with them, and it truly is exciting.
I'd like to take a moment now to talk about how, by focusing on 3 key areas, we intend to unlock our future opportunities. The first will be through building enhanced customer experiences for brands. Conversational intelligence holds the potential to revolutionize the way customers interact with brands. By leveraging our strong relationships with enterprise companies in auto, auto services, home services and other verticals, we can tailor conversational solutions to meet their unique needs. We can transform the way our customers interact with their customers and prospects across the phone and in text messaging and beyond.
The second is through our data-driven insights. Our access to billions and billions of anonymized data points from our partners gives us a significant competitive edge. We can extract insights from customer interactions through a granularity that our customers have never accessed for. This, again, is thanks to the power of our AI platform, and I'm going to add math models. We can identify emerging trends, customer preferences and pain points to help our clients make the best and most informed data-driven decisions. We've helped our customers achieve increased sales and improve services, driving loyalty and customer satisfaction.
Now on to my third and final point about what makes Marchex a differentiated competitor. It is our innovation in R&D. Staying ahead in the conversational intelligence market demands continuous innovation and investment in research and development. We've committed ourselves to expanding our team of talent engineers and data scientists, enabling us to develop cutting-edge technology that pushes the boundaries of conversational AI. The work we're doing is shaping the future of the industries we serve.
We are moving fast. We're further aligned. We further aligned the people, process and technology facets of the company in the past few months from the executive team to various other functions within the company. I am proud of the team. Additionally, we plan to continue to drive initiatives to achieve profitability earlier than we previously anticipated and preserve the balance sheet to meet our long-term needs.
In addition, these efforts are focused to enable us to move faster as a company. AI is changing the landscape and software. Over the next several months, you will see new products and new go-to-market strategies unfold. Many of our customers are looking to us to provide much-needed innovation for their businesses. There is much work to do together, but I am excited about our future and I do look forward to updating you on our progress in the coming months.
With that, I'll turn it over to Mike.
Michael A. Arends
Thank you, Edwin. For the second quarter, revenue was $12.5 million versus $13.5 million for the same quarter last year. From a revenue perspective, the quarter was mixed. On the one hand, we saw continued pressure on conversation volumes in certain vertical segments with growth in others. Specifically, there was continued pressure with our small business listing and solution providers that mostly sell marketing services to local businesses. This trend manifested over the latter part of 2022 and has continued into the first half of 2023.
On the other side of the equation, certain verticals like automotive and auto services saw growth on a year-over-year basis. On a sequential basis, our auto dealership-facing products continue to see momentum. This is primarily as a result of the continued expanding support from auto OEM relationships, particularly those we've recently extended into multiyear terms. Over time, as we continue to expand our OEM and brand partnerships, we believe this will provide a continued tailwind for our dealership products. And in addition, we see significant potential to expand some of these products into verticals that have similar characteristics and where we already have relationships with many of the vertical leaders. I'll dive into this in more detail in a moment when I discuss further guidance for 2023.
Turning to the P&L for the second quarter. Excluding stock-based compensation, amortization of intangible assets and acquisition or disposition-related costs, total operating costs for the second quarter were $14 million compared to $13.7 million for the second quarter of 2022. During the quarter, we incurred certain costs associated with reorganizing and modifying operating activities, totaling approximately $500,000. These were spread across functional areas and related primarily to personnel, facilities and system expenditures.
Service costs were $5.5 million for the second quarter, which decreased as a percentage of revenue from the first quarter of 2023, excluding the impact of efficiency initiatives. Service costs increased on a year-over-year basis, in part due to increased data and labor costs associated with customer migrations on to new product platforms and increased staging investment for our AI initiatives which we expect to remain the case through the balance of this year and into next year.
Several of these investments are of a fixed nature and therefore, over time, we believe we will see a positive impact on service costs as a percentage of revenue as we sell through our new conversational intelligence products and advance our new channel initiatives.
Sales and marketing costs were approximately $2.4 million for the second quarter. This was down from the prior comparative periods, in large part as a result of the reorganizing initiatives. Product development costs were $4 million for the second quarter as we continue to invest in our products and in building AI to expand our conversational intelligence capabilities.
Now moving to profitability measures. Adjusted operating loss before amortization for the second quarter was $1.5 million. Corresponding adjusted EBITDA was a loss of approximately $1 million. These amounts include approximately $500,000 for certain costs associated with reorganizing and modifying operating activities. Excluding those amounts, adjusted EBITDA was a loss of $550,000.
GAAP net loss was $2.7 million for the second quarter or $0.06 per diluted share. This compares to a loss of $1.5 million or $0.03 per diluted share for the second quarter of 2022. Adjusted non-GAAP loss was $0.03 per share for the second quarter compared to a loss of $0.01 per share for the second quarter of 2022. Additionally, we ended the second quarter with approximately $14.1 million in cash on hand.
Now turning to our outlook. We believe revenue in the third quarter of 2023 should increase modestly relative to the second quarter of 2023. We continue to see some headwinds in certain verticals, as previously mentioned, that will carry over into the third quarter. However, we believe those factors will be offset by the growth driven by new customer adoption and the onboarding of previously won relationships, including our recent OEM and auto brand wins and by existing customers ramping. In addition, based on that momentum, we continue to believe that we should see revenue growth in our back half of the year versus the first half of 2023, and we continue to believe that our traction within the automotive vertical can lead to double-digit growth on an annualized run rate year-over-year basis by the end of 2023 within that vertical.
With our current progress, we believe we will be at or near breakeven on an adjusted EBITDA basis in the third quarter, including at breakeven or above levels in September. Furthermore, our cost-saving initiatives, in tandem with expected future revenue growth initiatives, should enable greater leverage and consequently, we could see improvement in profitability measures in the future.
The first half of 2023 has seen significant change at the company. Several growth initiatives are just beginning to bear fruit for us and there is significantly more to share on our product and innovation road map. We remain in a unique position where many of our largest customers are asking for more of our products and signing long-term commitments to gain access to our conversational intelligence software and our pipeline of new products.
While we can identify the work needed to unlock that potential, we also recognize there remain many other significant opportunities to expand our relationships with some of the largest companies in the auto, auto services, home services and health care verticals, among others. We believe that several of these relationships should contribute to growth this year with significant growth potential going forward. For example, we are encouraged to see that the progress with our auto OEM partners supports inroads and strategic advantage with our auto dealer sales channel. We expect this will continue in the future.
And in addition, as mentioned, there are several new products and vertical initiatives that we expect to launch with some slated for later this year. Now as Edwin mentioned, we strongly believe that our company has significant untapped potential. We have been realigning the business to go faster and unlock opportunities with our existing customers while looking to open new market opportunities by penetrating verticals where we already have a critical mass of data to innovate from. And at the same time, we are continuing to invest in our innovation engine at a critical time when many industries need to understand how to leverage data science and AI to deliver better customer experiences and sell more.
As we go forward, we expect to see expanded relationships with numerous Fortune 500 customers and other new and significant relationships added to our base.
I want to thank all of our employees again for their continued dedication and effort. And with that, operator, we will hand the call back to you.
Question and Answer Session
Operator
(Operator Instructions) Our first question comes from Dillon Heslin from ROTH Capital Partners.
Dillon Griffin Heslin
First one, when you sort of talk about the volume trends with sort of your other services being down year-over-year still, but then still some momentum sequentially in auto, like if you compare 2Q to 1Q, are the general trends better in terms of a sequential basis where you might have at least reached sort of a trough and are on the way up in just the general volume trends across all the businesses?
Michael A. Arends
Thank you, Dillon, for the question. This is Mike. So as we mentioned in some of the prepared remarks, the small business solution providers that focus on some of their selling to local and the small and medium-sized businesses, they have manifested being down in the latter part of 2022. That trend continued, not just here in the first quarter of the year, but also in the second quarter. And we see that here as we sit in the early part of the third quarter as well.
What we do see though is in automotive, and in auto services and in some of the other verticals that we've referenced today, where we've had not only expanded relationships with some of our customer base that existed already but also some of the new wins and especially with some of the larger OEMs that we have announced previously in the last 6 months, we see things burgeoning. And we have onboarded in some cases, fortuitously, where the ramp has already started, and we saw a little bit of that during the second quarter, but that trend continues.
And so to answer your question, in those areas, especially with the expansion of the relationships, the committed relationships that have extended for several multiyear periods as well as some of the new prospects, we see the momentum as expected which gives us the pause for why we think the back half of the year, again, is going to be incrementally in higher revenue than the first half of the year and why we see the sequential growth as we sit here looking into the third quarter.
Importantly, I think the other part of the remarks we made, which I'll reiterate, we view at the end of 2023, particularly with the sponsorship opportunities we're getting through the OEM relationships in the auto sector, some of our dealer sales direct outreach initiatives and the new products that we brought with features and benefits at the dealer level, to be able to continue to see progress there. And by the end of this year, we expect on a run rate basis still that the revenue in that auto vertical to be double-digit revenue growth on a year-over-year basis by the end of 2023.
What that does in our minds, especially given the nimbleness and some of the organization modifications that have been made to align more to go after certain of these momentum producing areas, we like what that sets us up for, for 2024.
Edwin A. Miller
Yes. Mike, I'll add one thing. This is Edwin. Thanks for the question. Yes. Let me add a little bit to that because on the front lines every day. So when he says nimbleness and movement, we really have structured the business to -- toward vertical market, go-to-markets, and what I'm finding which is really fun is the needs of the clients across our verticals, they're not different. The product offering is not different. The feature set is not different.
It may be different math models with different nomenclature like in auto, you say broncho, it means a truck, not a horse. And when you jump to home services, what they say when they say pans, it's something else, right? So outside of the vernacular nomenclature, our go-to-markets look very similar, even so that our current inside sales group that has been targeting that double-digit growth in auto, which has been great. We now have them let up to start new campaigns in new vertical markets with new scripts that will drive the business and our ability to impact verticals where we already have some stickiness.
Dillon Griffin Heslin
And actually, just to -- sort of as a follow-up on what you mentioned, Edwin. So when you talk about expanding into those new verticals that are somewhat similar, do you think there's a large need for increased R&D to sort of help with training the models on sort of the new data sets? Or it's pretty similar enough where you can get those up and running fast?
Edwin A. Miller
Yes. They're very similar. The only difference I'd say in the math model is like we've got I don't know how many tens of millions of conversations in certain verticals. But understand this, we're already in the verticals. So every -- the 4 verticals we mentioned, I've been with clients in all 4 verticals already, and they're massive clients.
Our ability to position what we're doing in R&D across those verticals is consistent. It would be 1 data stack, 1 pipe. Our ability to build the math models to your problem has just gotten sped up. What we have is vertical dominance. The horizontal, and I was on a panel a couple of weeks ago with start-ups where they had a bunch of AI, everybody's AI now and they're horizontal. We actually have been in vertical for many, many, many, moons. And so the ability to walk in and understand those conversations and help them understand how to create a better relationship, whether it's a marketing or sales motion, we've got that data.
So forming the math models, we've got the people. We are investing in that area. And I'm not worried about that at all. I would not want to be a horizontal AI player right now. I can tell you that.
Operator
Our next question comes from Michael Latimore from Northland Capital Markets.
Michael James Latimore
Edwin, conversational intelligence can mean a lot of different things. I guess what -- can you give a sort of concrete example of a use case that you're particularly excited about and maybe some of the ROI behind it that you're seeing maybe with some of your bigger customers?
Edwin A. Miller
Thanks, Mike, for the question. Certainly. I'm going to give a broad answer and then I'll go deep. I'll go 30,000 feet down to 2,000. Conversational intelligence really and omnichannel intelligence it's hard to do, and we have the platforms to do it, which is awesome. So our ability to collect, trap, analyze, understand and deliver data back in 20 seconds to a client about an experience of a hang-up or nontransfer or a bad conversation is powerful. Like I've not seen anything like it. I'm on my -- I've been on the journey in my career as a CEO. And this is fun.
So like a specific example would be, you want -- you've got 500 dealerships that are using our platform. It's from the OEM, Tier 1, Tier 2, Tier 3. And our ability to say what happened to deliver education very quickly to the people in the field trying to drive performance of dealership or know what happened on a call or a text, we're there.
Now do I think we're only there? No. And this is where I'm going to probably be careful, but we are a data analytics company. We've got more data than any company I've seen in my career as a CEO. So what we do with that data and how we form math models to drive value props for our clients, I mean I'm literally whiteboarding with our clients. I came off vacation, I flew twice last week, got my family located, got on a plane, flew and whiteboarded with clients.
So the needs there, how they expand their use of our platform and our data analytics it's clear to me and a clear path, we've got a lot of work to do. I believe we can do it. We've got the right team in place. But yes, we -- the amount of value, when I say tens of millions of dollars a year to clients, it truly is on, let's call it, a math model with a signal, tens of millions a year that they get to save.
And I will say, AI is going to help us move faster. And our customers want to do more with us, and I'm out there with them. So I actually got my first tugs on the road last week from clients, which is awesome. It was completely PC, by the way. Nothing bad happened.
Michael James Latimore
And then the -- I know you talked about the small business segment being soft. Are there any other verticals that are kind of in a declining mode still? And what percent of revenue would those be?
Michael A. Arends
Mike, this is Mike here. So the small business listing and those solution providers make up the brunt. We do have some other smaller areas. But in terms of those small business solution providers being down on a year-over-year basis, that trend continues. In some cases, it's more than 20% down. They don't make up a significant proportion, but still a meaningful proportion of the aggregate revenues. Each quarter that we go and the automotive progresses, the auto services progresses and the home service progresses, the impact hopefully becomes further muted.
Edwin A. Miller
Yes. And I'll add to that, Mike. The -- it's also -- again, I will stress that having benefit across on taking people that were in just in verticals now to other verticals so they can see just how the same problems exist and our software solves it. But I think our fit is it's not just before verticals we're in. I'm going to include health care in there. There are 3 more verticals I think we can go after with the same data pipe, data stack, data analytics we. Have to tweak the math models. Generative AI is helping with that. But we also have -- we got droves of data where we can build math models going into a market and actually predict what it's going to look like faster than someone who's trying to sell it for the first time.
So -- but I think the complexity of B2B2C is where we live really well. I'm going to be hard to beat on the road on B2B2C. So yes, I'll pause there and probably give it here.
Michael James Latimore
Just one last topic then on generative AI. I guess, do you -- is the idea here that you can feed your data into a large language model and it will accelerate the kind of the customer sentiment to the understanding of the intent of the call faster, maybe just explain how generative AI will help here. And then I mean, do you have a license with like an OpenAI? How does that work?
Edwin A. Miller
So think about generative AI and everything that a ChatGPT or CoPilot or anybody's offering. It will help you accelerate a lot of different things. Like I can write a job description now with -- in seconds. I can feed it prompts. But you actually have to understand the prompts. You can't build the prompts without the vertical data. You can't build the prompts without the math models you already have around the vertical data.
So the speed is going to be -- it's going to make our -- everybody's life -- it is transformative. I was in the Internet in 1993, and I remember getting told by a very large Fortune 100 they'd never used the Internet, they would stay on EDI. I sold them Internet in 1995. So it's going to be the same but faster progression for people leveraging the tools. The question is do you have the data? Can you build the math models? Do you know the clients?
I mean we've got some of the largest clients in the world leveraging our platform. So we just got to keep doing what we've been doing in the past 6 months. We got -- and prior. We got to line up our processes. We've got to line up our talent. We've got a line up our technology, and we got to leverage everything coming at us and be ahead. So we're actually hiring in the data sciences world. I've got 13 people in the team looking at what's next, what's going to happen to us in 6 months with generative AI.
You think 13 is a small number. It's not. Less is more when you're running a company with anything around technology. There are 50 people in a kitchen, you'll never get a dinner. You throw one good chef in dinner with some support staff, maybe 2 or 3, you get a great dinner. So I like to move agile. I like to move fast, but I'm excited about where we are.
Michael James Latimore
And are you going to leverage third-party LLM or is it all internal?
Edwin A. Miller
Good question. I think yes is the answer, short answer. We also have a lot of expertise around it. So I think jury is out for me on full yes without some other stuff internal. But we're certainly leveraging any external partner with expertise because we've got the data. We've got the math models. I've actually -- we've got the client.
So we're in a good spot. It's a mix but we are automating a lot of different things right now that can be automated in a very simple manner with generative AI as an example, or NLP as an example. But more to come on that. Good question.
Operator
We currently have no further questions, so I will now hand back over to the management team for closing remarks.
Edwin A. Miller
All right. Well, thank you so much for everyone attending. We appreciate your time. We know everybody is busy. We're excited about what we're doing. We're excited about our next call. So look forward to the next call. Thank you so much.
Operator
This concludes today's call. Thank you for joining. You may now disconnect your lines.
