Shutterstock, Inc. (SSTK) Q1 2013 Earnings Report, Transcript and Summary

Sure. The quick overview is that our business is licensing images, that can be photography, illustrations, videos to businesses all over the world. All businesses need images to communicate to market and we provide them the ability to access a huge library of images, very quickly and efficiently at an attractive price point. That’s basically what we do. We are the disruptive player in a very large market. The market is growing quickly. And we’re disruptive in the sense that we have a marketplace model in an industry that traditionally was basically acquiring content and making bets on what content would sell. Our marketplace model allows us to basically be indifferent to the changing sort of styles and trends. And we have 40,000 contributors from around the world giving us content. Some of them are professionals but increasingly they are hobbyists and enthusiasts, who are looking for ways to monetize our content – their content, and they are selling on the marketplace to customers that are small businesses all over the world, so over 70 million small businesses around the world. And we are just getting started to penetrate into those businesses. So that’s a kind of a quick overview. In terms of the financial highlights, we’re very happy to have a highly recurring revenue stream, a very predictable business model. Our customer acquisition costs are a small fraction of our lifetime revenue with customers and we see tremendous growth opportunities, so we can get into some of those as we go through. Ross Sandler – Deutsche Bank: We had Angie’s List up here earlier, another kind of customer acquisition subscription type model, but they are just more consumer facing. Have you guys seen any ancillary benefits from being a public company, it’s now about six months into this and there is a kind of a big splashy kind of PR event when you go public? Your core customers, they probably know you guys already, but did you get any tailwind potentially from the IPO or hard to say?

Hard to say. We’ve been growing pretty consistently for the last few years at the sort of 40% level. But what we really value about being a public company, one of the things is that when we’re increasingly doing deals with large enterprises and agencies, the fact that we’re a real player, our finances are transparent, strong balance sheet make us very comforting to large companies and agencies that were increasingly doing larger deals with. So that should give us a lot of benefits over the years to come.

Yes, I can certainly hit home the gap between the larger players. There is only three companies in this business that have ever scaled beyond a $150 million a year, Shutterstock being one of them in the most recent. There is a big gap between us and all the others which really I think solidifies the fact that there is significant barrier to scale. There is not a huge barrier to entry in this business, you can put up a website with some images but getting the network effect working well with a two-sided marketplace at a volume that really works both for contributors earning money, and for customers to get access to great imagery quickly is very difficult, and that’s why there is small group that have made that jump. Ross Sandler – Deutsche Bank: Would you talk about that for a sec, the landscape because we’ve taken a lot of questions about it, as the IPO was happening in the sense, but you guys are now officially that the largest online royalty free inventory business out there. How would you characterize the competitive landscape today versus maybe a year ago, between a few of those bigger guys that you just mentioned and some of the smaller? Which are you more focused on if at all?

So our strategy is really volume leadership and Ross, you’re quite right that in volume terms, we delivered more downloads, paid downloads last year than all of Getty combined. And Getty is certainly continues to be the revenue leader in this space. If Getty is sort of in the $800 million to $1 billion revenue range, we think the market is somewhere in the $4 billion to $6 billion range, just for stock imagery. And given our size, $170 million last year we’re really still a very small player in a large and growing market, and we see opportunity for several big players continuing to dominate in the market. So and obviously we want to be one of them. In terms of changes in competitive dynamics, I’d say in the last year, not significant changes. Getty continues to be a big player. Numbers of years ago they bought iStockPhoto. From everything we can tell, Getty is not growing but they continue to generate lot of cash. It’s a strong business. There are always new players popping up and disappearing because as Tim mentioned barriers to entry are very low in this space but barriers to scale are high and we’re not really seeing – we’re not seeing anybody else anywhere close to where we are. Ross Sandler – Deutsche Bank: If we can just drill into a few of the kind of current goings on in the company and some of the things that are helping drive the growth. So one thing you guys talked about on the last call is this localization effort and you’ve rolled some new local language sites in the beginning of this year, you’ve also improved your local language marketing capabilities, customer acquisition. So what happens when you do localize a market, what you tend to see in terms of growth and in terms of customer adoption when that happens?

So we are already selling images in over 150 countries. And when we do our localization efforts, it’s really about a steady increase in penetration. Adding new languages on our site is a piece of that. Adding new payment forms, whether it’s currencies or payment types is another piece of that. But it’s also about as you mentioned localizing our marketing and localizing the content. All of those things take time and we have to test our way into them. So it’s a pretty ongoing and evolutionary process. The most visible piece of it is new languages on the site, but that by itself is not an immediate driver, it’s really long-term build. Ross Sandler – Deutsche Bank: Okay, got it. And between the local marketing capabilities versus some of the payment in local content, would that be more of a driver in terms of when you start to see not bigger, is it – they just happen kind of in tandem?

They happen – they all have to exist for us to see meaningful gains, which we’re seeing across our markets. And then to me this would explain it as, what customers want is content, search, and value. So the content is not – is a mix of globally relevant content and content that’s specific to their local market. Local people, places, and things and we’re constantly improving along both of those dimensions. And then we have to have an awareness in that marketplace that Shutterstock exists, that’s where the marketing comes in. This year – what’s been changing over the last couple of years is that we’ve gotten a lot better at running multiple campaigns across multiple geographies and having people on our team that are really driving and optimizing those in parallel as opposed to everything going through one tunnel. So it’s really about our capabilities that’s more of the bottleneck and our – and that obviously we’re working on that as quickly as we can. Ross Sandler – Deutsche Bank: Okay. Let’s do with international for a sec, so you guys have said the vast majority of your contributors come from outside the U.S. and that’s for obvious reasons, lower cost to kind of create these images et cetera, but you still – you have a significant percentage of your revenue from international. Can you talk about the opportunity in Europe today and then in ROW, I guess impact and in elsewhere and other competitive dynamics in those regions, similar to what you see in the U.S. a little bit less so and maybe talk about the customer acquisition dynamics in those international?

Yes, so I’ll take care of couple of those. In terms of the revenue breakdown both current revenue run rate and the opportunity, a couple of metrics, we talked about in the conference call recently. Most established market the U.S. actually growing the fastest 48, high 40s plus or minus growth rates. Overall, we grew about 41% year-on-year and quarter-on-quarter. Rest of the world also in the 40s, so rest of world for us is sort of outside of the U.S. and Europe; Asia, Japan, South Asia, all each territory growing at different rates but in aggregate well above 40%. Europe right now is the slowest grower but slow growth for us is 30%, 31% which is still pretty decent. If we do a constant currency adjustment, Europe is growing in sort of the mid 30s. So it’s a pretty narrow range and I think we kind of look at the U.S. as sort of what’s the optimization rate, clearly the high 40% growth rate is doable. We do have contributors in every territory. We’re probably a little stronger, little more concentrated in Eastern Europe just by the nature of the community and talent and where they are located, but we do have contributors pretty evenly distributed. In terms of the opportunity, I think that there is – we kind of look at it regionally and then we look at specific territories and we’re allocating dollars and optimizing in each of those territories. We’re actually fairly sophisticated in terms of how we slice and dice the marketing spend. And there is very few territories with business presence and internet penetration where we don’t see opportunities right now.

And Ross maybe a bit on the competitive dynamics, if you look at Getty images or even Corbis, they tend to be global businesses by the nature of the product that we’re selling which is imagery. If you look at the next 50 players in this space, it gets highly fragmented after us. There is a lot of local players, there is sort of content specialty players. So in any given market we may have a strong local player that we’re dealing with. If you look at Japan or Asian markets in general or even Europe, there is regional players. It’s still highly fragmented. So the competitive situation differs market by market. Ross Sandler – Deutsche Bank: Got it. And part of the reason the U.S. is growing a lot faster is that the product pipeline is little bit different, so when you talk a little bit about the product side you got a strong kind of legacy subscription business, few years ago you guys built out the On Demand piece with Bigstock. And now you’re ramping up video and kind of graphics or alternative formats. So how does the product mix or the product roadmap impact the overall strategy and does that explains some of the faster growth in the U.S. relative to international?

All those products we are selling globally as well. So I think it’s – I wouldn’t say it’s disproportionately affected the U.S. The strategy with launching On Demand, if I go back to the pre On Demand dates for Shutterstock, we were primary selling to very high volume customers, people who need lots of images every day. And the 25-A-Day subscription, you pay $250 per month basically access as many images as you want, that works really well for some – for high volume user. The On Demand is really targeted at lower volume users. It has the same repeat behavior in terms of year-over-year, those customers coming back with us, but it’s at a lower volume level, so a few images per week, per month. So On Demand and Subscription are really covering different user segments globally. And we look at the mix across all of our geos, you see both user types across all of the markets, and both of those combined, that accounts for roughly 85%, 90% of our revenue. Ross Sandler – Deutsche Bank: Yes. One of the product categories outside of I guess video and these new ones that you’re doing would make sense, like is there anything else is kind of on the roadmap that’s untapped that you think could be an opportunity or is it just kind of stick to what you’re working on right now?

Our key focus is really in three areas; increasing penetration around the world in all of our markets. We have a long way to go (inaudible) content types, video is the most important, but there are other content types that we’re not in today that we may get into in the future. Video is the focus right now because we all know online video is exploding and more and video productions that you see online are incorporating stock videos. So that’s really driving our business. And the third area is really large enterprises and agencies where we’ve got a toehold. We have a user in the large companies somewhere in the marketing area, we’re in the design area and we’re trying to go in and up-sell that company to a larger deal, displacing basically share of that company’s imagery spend, trying to increase it. And we’re having great success there. So with those three areas, we are very, very busy. Ross Sandler – Deutsche Bank: Mobile is something that we talk about across all of our companies and it’s a little bit trickier to figure out with you guys.

Yes. Ross Sandler – Deutsche Bank: Because you’re a B2B marketplace model. On one hand you have this massive growth and demand from new digital images that are going to be needed for tablets and smartphones. Some of these environments may not need new images, so may just be the website on a tablet. So can you talk about how you look at mobile as a driver of your business and is it adding significantly to growth today or is it still unclear?

Mobile is great for us because it’s really expanding the market. The way we think about it – we’re agnostic to wherever the end-users are consuming content as long as businesses are using which they are, more and more images to produce their various offerings whether it’s marketing or communications on the various platforms. We benefit and ultimately that’s what companies are doing. Companies are creating mobile apps and communications for mobile and for desktop. And our images are going into both of those channels. So I think in terms of mobile driving being one of the drivers of the growth of the overall market, it’s a big benefit for us. In terms of our customers, who are primarily using Shutterstock in an work setting, we have an iPad app and an iPhone app and we’re increasingly just pushing out our own functionality in mobile as well, but it’s more to supplement their existing usage. It’s probably five years behind what it is on the consumer side, but we are seeing an increase of our own customers using Shutterstock on nights and weekends searching for images, collaborating with their – other people in their workgroup to select what they want to do for marketing or this or that. So we’re there, but its – because it’s a B2B business, it’s probably not affecting us directly there. Does that make sense? Ross Sandler – Deutsche Bank: Yes, that makes sense. I think that’s kind of how we think about it. If we can go back to the marketing and customer acquisition discussion, can you guys talk about just the overall marketing strategy, you’ve got most of it happening online through kind of the usual count [ph] search and this way in affiliate. How is that evolved over the last couple of years and do you think that you’re at peak efficiency in your peak – not far from peak, where do you think you are today?

So a couple of thoughts around in terms of marketing strategy. We have a few nice trades that really give us a lot of confidence and visibility. One is we have a highly recurring customer base in terms of the behavior ratio. So each year for three years plus now, we’ve seen a set of customers in a given year generating x million dollars in revenue, generating that same amount in the following year, so essentially a 100% revenue recurring year-to-year. We see similar recurring revenue behavior, purchase behavior regardless of purchase plan as well. So whether a customer buys Subscription or On Demand, they’re also showing that same recurrent behavior, gives us some marketing dynamics and metrics that I think are pretty strong. We spend about a $100 on average to generate $900 in lifetime value or $400 or $500 in lifetime contribution. These are sort of conservative rounded off numbers but that 5-to-1 ratio of contribution to spend, that’s what really enables us to be confident and we’ve dramatically increased marketing spend each year, but we’ve not yet seen the metrics deteriorate. So you will expect as you could figure and you spend more of that, it gets a little more expensive to acquire that end customer we’ve not yet seen that. And I think you know as, Thilo was mentioning our penetration in this market is still quite small, less than a million registered users out of what we think is 20 million in the U.S., 70 million businesses worldwide. That I think is the main driver of why we’re not seeing those metrics deteriorate. We’re testing new channels all the time, so our assumption is not that spending a $1 at Google will work the same forever. We know it won’t and so we work on other channels, we have affiliate programs and referral programs and other ways that will generate traffic. Word of mouth is very strong, so it’s a titanic [ph] community where it would generate new customers and new contributors just through word of mouth by expanding our customer base. So those are sort of the big pieces that give us confidence and comfort in increasing the spend. Ross Sandler – Deutsche Bank: The word of mouth where I was going to next, so as you get bigger and more penetrated at the base, so you would guess is that piece of it would pick up and at least the mix would probably shift a little bit more towards organic than paid. Is that something that you’ve seen or is it?

Interesting. Ross Sandler – Deutsche Bank: Yes, is it still kind of too early to tell?

We’ve seen a very strong mix between what we call free organic and paid conversions. And that has been the case for the last few years and continues to be the case. So we’re aggressively ramping up our spend but the amount of free conversions is kind of tracking along with it. And we have more free conversions than we have paid, which is a great place to be. And we invest a lot of energy obviously into search engine optimization and making sure we’re doing PR and offline media to sort of fuel that free traffic as well. Ross Sandler – Deutsche Bank: So over half this is organic.

Over half. Ross Sandler – Deutsche Bank: Okay, that’s great. And Tim, another one on the model, so marketing as a percent of revenue has shown a lot of leverage in last couple of quarters, five points or so of leverage year-on-year. And I guess this would explain some of the improved customer acquisition dynamics, some of the organic – your guidance is showing that the leverage kind of flattish out for ‘13, is it that just conservatism? Why would marketing efficiency really change, and what should make the assumption that it does change? How do you guys react with the word of change of CPAs were to go in the wrong direction?

Yes, so in general in our approach to guidance, we don’t assume that everything went right, last year or last quarter is going to replicate, that applies to revenue and margin, and it certainly applies to marketing efficiencies. I think we expanded pretty significantly in 2012 in terms of scope of the marketing efforts in different channels we tried. We learned a lot in both areas that worked well, better than expected. There are couple of areas that didn’t work as well as expected and we’re constantly sort of testing and optimizing those. I think the conservatisms going forward, we want to have the flexibility to test new things and not be kind of managing to one specific number. And overall I think you saw in 2012 a couple of quarters where things worked well, you saw that extra 100, 200, 300 basis points of leverage. So that’s certainly possible. We don’t expect it to happen in every quarter going forward, but there is certainly some leverage I think we could see. We’ll have some quarters this year where we do, do better than expected. Ross Sandler – Deutsche Bank: Got it, okay. While we’re on the numbers, so there is an interesting dynamic going on in the growth between downloads and then revenue per download. So it looks like downloads have accelerated a bit, revenue curve is also growing but it didn’t really changed from prior quarters. So can you just talk about the outputs of what’s happening on the business side, so what’s driving those two lines and kind of how do you expect those to look in the future [ph]?

Yes, so historically if you kind of break the revenue line down into the drivers, we’ve got number of downloads and then revenue per download or effective revenue per download has been just about $2 last year, and fourth quarter $2.23 plus or minus. And we’ve seen that revenue per download increase not in a perfectly straight line but consistently increase overtime. And that’s been driven really by mix shift of what pricing plan our customers are choosing. So On Demand is a newer pricing plan, that’s growing rapidly. If you look at our new revenue, it’s about evenly split between On Demand and Subscription. And so just doing the math, you see a shift towards On Demand and a higher effective price. We’re more aggressively going after direct sales to large enterprises, media agencies, large corporations that has a higher price point that’s also helped to just shift that number up. If you kind of look at the ratios, we grew 40%. Three quarters of that growth was driven by volume growth, a quarter of that growth driven by increasing revenue per download. So that mix, that ratio is probably what you’d expect to see going forward. Two-thirds or three quarters of the growth roughly speaking coming from volume, but a good chunk continuing to come from us raising the effective price. We’ve not actually raised prices, so we’ve not said subscription goes from x to y, for more than four years. It’s a lever we have but right now our strategy is really keep the transparency in the pricing model in place and work to do we’ve done which is raise the effective price by offering these other pricing plans and working our way upstream that way. Ross Sandler – Deutsche Bank: And are the unit economics for the kind of core Subscription versus the On Demand or à la carte versus the direct business? Those are kind of the three different things going on here. Are they roughly the same? Can you talk about like with that differential in growth rates what’s that going to mean in terms of a contribution margin for you?

Yes, they are quite similar and we’ve structured it that way in the pieces where we have really have tight control, so for example royalties that we pay contributors is the primary cost of revenue for the company. So our gross margin is about 60%, cost of goods about 40%. Of that 40%, 30% is essentially going to contributors for the images that we provide. So that’s the same across all the pricing plans. The payout structure is slightly different but we’ve structured it so the net effective rate is roughly the same. Below the line – below the gross margin line you’ve got some shifts between sales costs in a direct sales structure or marketing costs if we’re driving people to the website to convert on their own, but those are roughly in line as well and so which is an overall contribution line that’s pretty comparable across almost every unit, almost every different pricing plan. And we like that. It enables us to be essentially agnostic for customer acquisition whether they buy a Subscription or On Demand, they show similarly current behavior. They show similar margins and so we’re able to kind of optimize without tabling one over the other. Ross Sandler – Deutsche Bank: Let me open up for questions if there are any. No, I’ll keep going if not. So feel free to raise your hands. The direct business – so from what I remember I think this is like approaching 10% of revenue. How big could that be if we go out like five years because it’s the real material part of the business or do you think it’s somewhat kind of contained?

Yes, I think I mean direct sales for us, it’s a real opportunity, its growing rapidly. We’re investing primarily in hiring significantly and growing the direct sales team. We’re able to cover a lot of the market without replicating what other legacy players have created. Getty and the Corbis has teams of hundreds that are out selling. They are typically selling transactions, image by image or sets of images. We’re really selling recurring relationships. So we’re quite efficient at it. And I think overtime it’s growing more than double the way that the overall company today. That won’t continue forever, I hope it does but our assumption is that we’ll start to normalize a little bit, but it could be 20% or 25% of the business in the coming three or four years. Ross Sandler – Deutsche Bank: Got it.

And it makes sense also given that the history of the industry really is more direct sales driven than ecommerce driven. And we’ve started at the market from the other side, from the self help ecommerce perspective and now layering on top of the direct sales side, but if we’re talking about large agencies and large companies, publishers, it’s the history of the industry that those are sales relationships. Ross Sandler – Deutsche Bank: Right. Was there a question?

Yes, do you ever think about kind of a consumer facing side of the business whether that’s using the images you already have as selling those to consumers or photo sharing, leveraging the investment you will have in the platform?

It’s interesting. We’ve gotten that question a few times. It’s not – we see so much growth and runway in our business it really hasn’t been a priority. I think it’s more likely that we might partner with somebody in going after an opportunity like that because we’re not experts at marketing to consumers. And really if you look at our business, sales and marketing is one of the core competencies that we really have. So but I think longer term that’s something interesting to look out. Ross Sandler – Deutsche Bank: I have a question about FX, so I would – we’re far from experts on currency, but I think there are some smart people at Deutsche Bank that study that stuff and are forecasting that the Euro could decline somewhat materially this year. So Tim how does that impact this, because I remember you have some contract. Most of your contracts were priced in dollars in terms of the contributed payout and the revenue generation, but there is some that are not, so how would a decline in the Euro impact the business?

Yes, so we do have the diverse revenue base, you’re kind of somewhat exposed to currency, our cost structure is primarily dollar, so it’s revenue exposure for us. It’s limited to some extent by the fact that about half of our European business is dollar denominated. So Euro swings 35% of our dollars or our revenue let’s call is coming through Europe, only about half of that is Euro exposed. About 10% of the business, little bit less, pound, and then one or two points in the yen. So what we’ve seen even in the past two years which I think we’ve seen two years ago, a positive swing, significant positive swing in most of those currencies. This past year negative swings, on the other way overall the revenue base is diverse enough, we saw a two or three point favorable two years ago, two or three point unfavorable this past year. So we talked to all the clever people pretty frequently to make sure that we’re not missing anything from a hedging perspective, but given that we’re kind of diversifying that way today, we don’t do anything that’s too clever on that front and it feels like we’re reasonable well protected. Ross Sandler – Deutsche Bank: Got it. One other question we often get from investors is that, they love the opportunity, they love what you guys are doing but the stock only trades like 40,000 shares a day. So there isn’t a lot of liquidity in your stock and you have an ownership structure where you have – your CEO has done very well and owns a majority of the company and then you have like one venture back for this there and then management. There isn’t like a lot of potential liquidity that could come off, so how do you guys like manage that situation and what’s the plan for that?

Yes, I mean that will work itself out overtime. I think it is somewhat unique in that the founder CEO ownership is significant relative to most companies. We have one venture investor rather than six or eight which can be more common. But I think it’s something it will work itself out with timing. The venture investor has to run the business and sooner or later they’ll need to show a return. Our focus is really on an orderly transition, the fact that we have to heard two or three people instead of 20 or 30 I think gives us a better chance than average of being able to actually accomplish that. So I think we’re aware of it. We get the same questions like love your company, where is the stock. So it is something that we’re aware of and it will work itself out overtime. Ross Sandler – Deutsche Bank: Yes, all right. I think we’re out of time, so thanks a lot guys.

Okay.

Thanks Ross.

Thank you.