Fluent, Inc. Q2 FY2024 Earnings Call

Good afternoon and welcome. Thank you for joining us to discuss our Second Quarter 2024 Earnings Results. With me today are Fluent's CEO, Don Patrick; Interim CFO, Ryan Perfit and Chief Strategy Officer, Ryan Schulke. Our call today will begin with comments from Dan and Ryan Perfit, followed by a question-and-answer session. I would like to remind you that this call is being recorded, live recorded in webcast. A replay of the event will be available following the call on our website. To access the website, please visit our Investor Relations page on our website at www.fluentco.com. Before we begin, I would like to advise the listeners that certain information discussed by management during this conference call will contain forward-looking statements covered under the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. Any forward-looking statements made during this call speak only as of the date hereof. Actual results could differ materially from those stated or implied by our forward-looking statements due to risks and uncertainties associated with the company business. These statements may be identified by words such as expect, plan, project, could, will, estimates, and other words of similar meaning. The company undertakes no obligation to update the information provided on this call. For a discussion of the risks and uncertainties associated with Fluent's business, we encourage you to review the company's filings with the Securities and Exchange Commission, including the company's most recent Annual Report on Form 10-K and Quarterly Reports on Form 10-Q. During the call, management will also present certain non-GAAP financial information relating to media margin, adjusted EBITDA and adjusted net income. Management evaluates the financial performance of our business on a variety of indicators, including these non-GAAP metrics. The definition of these metrics and reconciliations to the most directly comparable GAAP financial measures are provided in the earnings press release issued earlier today. With that I am pleased to introduce Fluent’s CEO, Don Patrick. You may begin.

Good afternoon. Thank you all for joining our call today. I'm here together with Ryan Schulke, our Chief Strategy Officer and Company Co-Founder, and Ryan Perfit, our Interim Chief Financial Officer. I'll start today with some brief comments regarding our strategic initiatives and progress in the second quarter. On the strategic front, we are highly energized by the progress we've continued to make in our strategic growth plan with the continued stabilization of our owned and operated marketplace, and business pivot to our new higher margin syndicated performance marketplaces. We believe we've reached an inflection point in our transition, which is exciting as this progress provides a clear strategic and financial validation of our longer-term growth agenda with our early second half performance metrics. Since the launch of our syndicated performance marketplace in late 2022, our strategy and investments have been focused on shifting our business mix into long-term growth markets, where our differentiated position will allow us to deliver Fluent’s margins that are accretive to the core. And we've successfully delivered sequential improvements in both revenue and gross profit in our performance marketplaces each and every quarter since. Our momentum is accelerating, and we remain confident that we've reached the real stage of Fluent's financial rebound. To that end we expect to deliver single-digit consolidated year-over-year growth in Q3 and then accelerate with consolidated double-digit year-over-year growth in Q4. And in 2025, as our business mix continues to shift into the performance marketplaces, the momentum should build and we anticipate a strong year of consolidated year-over-year double-digit growth. While we see our performance marketplace platform as stickier, it tends to have a longer and more sophisticated sales cycle than our owned and operated marketplace. But once we sign a new partner, there's a corresponding positive predictability of the business as we can project the impact on our growth agenda and our financials with a higher level of certainty based on the mutually agreed-upon execution timelines. We'll detail this further next quarter when we're at liberty to speak more about the specific brand partners. Bottom line, we have major brands enthusiastically endorsing our performance marketplace strategies, and those new partnerships will go live and hit the stats page in subsequent quarters, Q3, Q4 and into fiscal year 2025, as we align against executional tactics and timelines. So let's talk about the tough news regarding our Q2 financial performance. Revenue of $58.7 million represents an 11% decline versus Q1 2024. Our media margin of $15.7 million was a decrease of 29.3% versus Q1 2024. And adjusted EBITDA of negative $4.5 million represents a negative 7.7% of revenue. Our lower than expected Q2 quarterly results were primarily driven by two underlying financial trends and an increase in unauthorized third-party activity in our ACA business that necessitated a Q2 adjustment. The results generated from our owned and operated marketplace reflect the lingering impact of our post-FTC settlement transition, including our exiting businesses, we felt were no longer strategically relevant. Although Q2 results in our owned and operated marketplaces showed continued revenue and margin declines. Importantly, we saw marketplace stabilization by the end of the second quarter that has continued into Q3. We indicated we are beginning to fully cycle the businesses we've exited and should have finalized this transition in the second half. Owned and operated marketplace revenue and media margin declines were partially offset by the continued acceleration of our new syndicated performance marketplaces. Performance marketplace growth year-over-year continues to shift the mix into our strategic growth agenda and establish a differentiated market position. Our results were exacerbated by unauthorized third-party activity impacting our ACA vertical in our call solutions business. Recently, unauthorized switching of the agency of record, AOR, in our insurance policies dramatically increased adversely affecting the entire ACA industry. Once the Centers for Medicare and Medicaid Services, CMS, became aware, they changed their system for switching AORs, largely eliminating the practice. However, the new system did not penalize the prior unauthorized activity, hampering our ability to recover our losses or cost-effectively operate the business in the short term. This also necessitated a $3.1 million write-down of accounts receivable with an equal offset to revenue, media margin and adjusted EBITDA in Q2. While this non-recurring write-down had a negative impact on our Q2 results, we see this as having no additional negative impact on our financials or our future growth agenda. Absent the write-down, our overall financial performance remains consistent with the roadmap we've laid out in previous calls. However, somewhat masked in our financials is that we are on plan in growing our performance marketplaces. That momentum combined with the stabilization of our owned and operated marketplaces is a reflection of our evolving market mix. We remain confident in our ability to accelerate revenue and profit growth in the second half of 2024 when compared to last year's numbers. I would like to now take the time to provide some deeper insight into our growth agenda, so you can get a clear picture on why we are so excited about the differentiated market position we are creating. Our syndicated performance marketplaces represent the tip of the spear in our strategic growth agenda. As we accelerate the Fluent brand into very large, high-growth dynamic markets, we can unleash our core owned-and-operated grounded capabilities, providing us with a unique competitive advantage in the marketplace. Our performance marketplaces revenue growth is on plan. And as we continue to build on that momentum, we anticipate accelerating year-over-year growth through the end of 2024 and beyond. Equally exciting is that our gross margin in that business is growing faster than revenue with ample room for additional improvement. So you can see why we're so enthusiastic about our performance marketplace growth strategy as we lean into this opportunity and drive enhanced operating efficiencies across the Fluent Enterprise. In Q3 our focus is on expanding our market share through continued growth in our syndicated performance marketplaces while positioning the Fluent Enterprise to return consolidated year-over-year growth that we believe will accelerate sequentially through the back half of the year. Now some additional insight regarding our Adflow business, the anchor of our syndicated performance marketplace platform, where proof-of-concept results leave us with even more strategic optimism. Adflow is our media solution we launched in the large and rapidly growing commerce media market. The market is currently valued at over $50 billion and expected to reach $150 billion by 2030. Presently, 43% of US brands have commerce media budgets, and that's expected to increase to 5% by 2025. Our foundational Adflow strategies continue to show year-over-year revenue growth as planned, driven by new partner wins, which are enabled by leveraging our proprietary technology, machine learning and data platform capabilities that have yielded excellent results. Furthermore, since May, we've added new brand partners that will increase our growth trend line markedly as we're expanding into very attractive grocery, quick-service restaurant and travel verticals. We are excited by these results, along with the increasing momentum as the Adflow platform represents a new growth opportunity for world-class brands to reach consumers seeking high-quality engagements at the optimal purchase moment. We will speak more to this in future quarters, but we also see a significant leading-edge loyalty-based opportunity to expand and enhance Adflow's strategic impact in adjacent marketplaces that we believe will further differentiate Fluent from our competitive set. Our partners are already validating our unique market position based on their enthusiastic feedback. Headlining, we are now working with commerce partners beyond post-transaction to enhance consumer engagement, retention and loyalty across our partners' commerce platforms. In Q2, we launched our innovative loyalty solution with select partners, leveraging our deep knowledge of our owned and operated marketplaces and Adflow's commerce media, in order to provide next-generation loyalty solutions with comparable economic value propositions to advertisers and partners alike. This is a powerful and unique strategic combination, a marriage of our owned and operated leader position coupled with insights that are proprietary to Fluent, while leveraging our credibility we are earning with our Adflow platform, as a launching point into a relevant early-stage marketplace. Based on what our partners are sharing with us and as they aggressively lean in, we believe this is another large growth opportunity that is right in our sweet spot. Both Adflow and loyalty and retention solutions provide Fluent a unique brand position and a significant growth opportunity in the large and growing commerce media industry. More importantly, it expands our strategic value proposition to world-class partners, beyond customer acquisition, as we expand quality consumer engagement across the entire marketing funnel. We are excited by our progress here, and we'll provide more detail in future earnings releases. In our call solutions business, after consistent historical growth, our Q2 revenue declined year-over-year due mostly to current and future regulatory changes. By the end of Q2, we adjusted to the upcoming regulatory changes by proactively building the compliance solution that we believe offers better quality for our partners. We believe we’re now positioned well for our partners' second-half call solutions demand and future growth remains on the horizon. In our ACA business, although it is a high sequential growth opportunity, we are closely evaluating the ongoing changes to the Centers for Medicare and Medicaid Services, in pausing this initiative to ensure that Fluent can continue to differentiate ourselves within a highly fragmented market, more so given all the growth opportunities available to us. Despite headwinds in the call solutions business during the quarter, our performance marketplaces had a solid first half of 2024, evidenced by Adflow's strategic and financial market acceptance and execution, and we anticipate revenue growth in this market and accelerating momentum heading into the later half of this year. By the end of Q2, we achieved two critically important milestones in our strategic pivot. First, we stabilized our owned and operated marketplace. Second, stability in our owned and operated marketplace provides a springboard into higher quality consumer engagement, syndicated performance marketplaces, where we are building our competitive advantages and where we continue to accelerate based on the very positive results in these parts of the business. We are quite enthusiastic regarding the strategic and financial roles that our performance marketplaces are playing in our long-term growth agenda as they already are delivering higher margins than our owned and operated marketplaces. Moving forward, we're confident that we will continue to accelerate revenue growth from our performance marketplaces. We believe the corresponding impact should have Fluent achieving year-over-year consolidated single-digit growth in Q3, and double-digit growth in Q4. Importantly, and in parallel, as we enhance our market position, we are confident that we'll be growing our total gross profit more rapidly than our revenue over time. And with the strategic and financial year-end momentum, we believe Fluent is well on course to deliver consolidated double-digit revenue and gross profit growth in fiscal year 2025. And with that, I'll turn to Ryan Perfit to provide more detail on our financial results.

Thank you, Don and thanks to everyone for joining us today. I'll now provide some additional color on our Q2 earnings. We generated revenue of $58.7 million in the second quarter of 2024, down 28.5% from the prior year and down 11.1% sequentially from Q1. While we had success driving key long-term strategic initiatives during the quarter, macro headwinds and competitive challenges related to the FTC order continued to impact our performance of our owned and operated marketplaces, contributing to decreased margin performance overall. Moreover, we chose to exit a non-strategic business during the quarter, and our call solutions business was faced with regulatory changes in Medicare and ACA marketplaces, and we took an accounts receivable write-down of ACA policies in the quarter totaling approximately $3.1 million with an equal offset to Q2 revenue, which equally affected media margin and adjusted EBITDA. Absent this write-down, our overall financial performance for the quarter was largely consistent with the roadmap we had laid out last quarter. We are optimistic about the growth of our syndicated marketplaces and coupled with our continued expense discipline, we anticipate revenue growth and improved adjusted EBITDA performance in the back half of 2024 compared with the comparable quarters of 2023. Media margin in the second quarter was $15.7 million which represented 26.7% of revenue compared with $25.9 million or 31.5% of revenue last year. As we continue to scale our performance marketplaces, we expect media margin as a percentage of revenue to improve over time. On a GAAP basis, total operating expense in the second quarter of 2024 totaled $18.2 million, an increase of $5.4 million compared to the second quarter of 2023. But of note, G&A during the quarter was $8.9 million which was down sequentially from the first quarter G&A of $10.4 million. G&A in the second quarter of last year was only $3.9 million, due primarily to net credits totaling $5.7 million related to the FTC settlement, including insurance reimbursements for previously incurred legal fees and a lower than expected regulatory settlement. Excluding these credits last year, G&A decreased by approximately 8% compared to Q2 2023. Also during the quarter, we realized goodwill and intangible asset impairment of $2.2 million related to customer relationships in the AdParlor reporting unit and internally developed software related to a business unit that was exited subsequent to the close of the quarter. Notably, our operating expenses in Q2 of 2024 and Q2 of 2023 include restructuring and other severance costs of $661,000 and 0, respectively. For Q2 2024, this includes severance related to a reduction in force during the quarter to better align our cost structure. G&A in the quarter also includes accrued compensation expenses related to the Winopoly, True North and TAP acquisitions of $25,000 for the three months ended June 30, 2024, and $562,000 for the three months ended June 30, 2023. Q2 2023 also included the previously mentioned credit of $5.7 million of litigation and other related costs. All of these costs fall outside of the normal course of business and are thus excluded from our adjusted EBITDA calculation. Adjusted EBITDA in the second quarter of 2024 was negative $4.5 million, largely in effect of the previously mentioned $3.1 million write-down of ACA policies. As stated on our first quarter call, we expect revenue and media margin growth in the second half driven by our new performance marketplaces to drive adjusted EBITDA as a percentage of revenue into low-single digits in Q3 and high-single digits in Q4. The company cannot provide a reconciliation to expected net income or net loss as a percentage of revenue for 2024, due to the unknown effect, timing and potential significance of certain operating costs and expenses, share-based compensation expense and the provision for or benefit from income taxes. Interest expense in the second quarter increased to $1 million from $795,000 due to higher average interest rates on our SLR facility and as an effect of increased amortization of debt financing costs related to the SLR facility. For the quarter, our income tax benefit was $775,000 and an effective tax rate of 6.5% which differed from the statutory federal income tax rate of 21%, primarily due to state and local tax expense and losses for which no tax benefit is recognized. This is compared to an income tax expense of $1.7 million and an effective tax rate of 29.2% in the second quarter of 2023. We reported a net loss of $11.6 million and an adjusted net loss, a non-GAAP measure of $7.3 million, equivalent to a loss of $0.47 per share. Shifting now to our balance sheet. We ended the quarter with $6.4 million in cash and cash equivalents, including restricted cash. Total debt as reflected on the balance sheet as of June 30, 2024, was $33.3 million, an increase of approximately $28 million from $30.5 million at December 31, 2023. As of June 30, 2024, we had an outstanding balance of $32.3 million on our credit facility with SLR credit solutions. This facility provides us with a $20 million term loan and the revolving credit facility of up to $30 million that matures on April 2, 2029. In Q2, we invested $1.7 million in the capitalized product development and technology, largely disappoint the growth of our performance marketplaces. This compares to $1.2 million invested in Q2 2023. Now halfway through the third quarter of 2024, we believe that the company is well-positioned for year-over-year and quarter-over-quarter revenue growth, as well as a return to positive adjusted EBITDA in the back half of the year. We remain focused on both the fortification of our legacy owned and operated products and growth of our new syndicated performance marketplaces, which we expect will drive strength and margin profile as they scale. We would like to thank everyone for their continued support and look forward to driving enhanced results through the balance of 2024. We'll be happy to take questions at this time.

Thank you. Our first question comes from Maria Ripps with Canaccord. Your line is open.

Great. Good afternoon, and thanks for taking my questions. First, can you maybe talk a little bit more about the unauthorized activity for the ACA policies this quarter so that impacted you? Was there something that sort of impacted the industry more broadly or sort of your platform more so? And I guess, what are some measures or initiatives that you may have added to prevent maybe limit this going forward?

Hi Maria, thanks for the question. I'll provide a bit of detail. The short answer is that it affected the entire industry, specifically everyone involved with ACA. In Q4 '23, our call solutions business initiated the ACA Agency, allowing Fluent licensed agents to sell ACA policies for top health insurance companies. We were already offering quality ACA consumer prospects to partners, and we created the ACA agency as a natural extension to bring consumers further down the sales funnel. In this business, when we sell an ACA policy to a qualified consumer, we become the agency of record, with all relevant policy information managed in a government database controlled by the Centers for Medicare and Medicaid Services (CMS). Each ACA policy is in the consumer's name with the designated healthcare company, and as the agency of record, Fluent earns a monthly commission for every policy we manage as long as the consumer holds that policy. Typically, this commission lasts between 17 to 24 months. However, in Q2 2024, we noticed a lack of controls in CMS's ACA database that allowed unauthorized agents to access the database and illegally change the agency of record without consumer approval. This meant that Fluent could sell an ACA policy, but an unauthorized agent could modify the record to receive the commissions instead of us. A class action suit was filed in Q2 involving numerous companies, with Fluent among them, but we did not collaborate with any of those parties. This situation highlights the significant rise in unauthorized and illegal activity in 2024. Once CMS became aware of these unauthorized changes in July, they revised their system and procedures for switching the agency of record, effectively eliminating this practice. To directly answer your question, Maria, the government addressed this issue by implementing strict rules. The challenge was that they did not penalize any unauthorized activity that had occurred prior to this change, which hindered Fluent's ability to recover losses from policies that were switched illegally. Consequently, this resulted in a $3.1 million write-down of receivables associated with those unauthorized changes. The monitoring process established by the government post-July 19 has greatly reduced illegal activity. However, as outlined in our earnings statement, we are pausing this area for a year to ensure we have the right internal processes, along with protocols with various vendors and the government, to differentiate our business and prevent similar issues in the future. I hope this answers your question in more detail than you were expecting.

No, that's great. Thank you so much for the color. And then maybe secondly, could you maybe talk about sort of any potential liquidity needs and maybe just how should investors think about some of the options that are available to you on that front?

Yes, we have a favorable credit facility with SLR that is based on receivables. As we continue to grow, it provides us with the liquidity needed to advance our operations. Recently, we allocated a small amount, about $2 million, to ensure we maintain adequate liquidity. However, we believe that with the SLR facility and the revenue acceleration we've discussed in our performance marketplaces, we have sufficient liquidity to not only follow our business plan but also exceed our goals.

Got it. That’s very helpful. Thank you so much.

Thanks Maria.

Our next question comes from the line of James Goss with Barrington Research. Your line is open.

Okay, first, I want to follow up on the liquidity issue. You've experienced a few quarters with certain financially related challenges, and while one may have been more related to ACA, it has impacted your reporting timeline. Are there any other specific issues we should be aware of or concerned about as we look ahead to the next few quarters?

Hi Jim, thanks for the question. We do not have anything that we're aware of around our ability to execute on our plan and to grow. As I said, we have a very favorable facility with our debt partner that allows us to continue to access cash as we grow and against receivables. And I think that was put in place, as you know, back in April and is going to serve us well in the back half of '24 and into 2025.

Okay. Another question. You mentioned the syndicated access performance marketplaces, we are the tip of the spear and that Adflow platform was your way to enable access. I wonder if you could talk a little more about exactly how that works? And also, if you could talk about the mix of the syndicated platforms versus your owned and operated places?

I'll specifically discuss Adflow in relation to the syndicated marketplaces, which focus on post-event monetization in the commerce media space. Adflow is our proprietary platform designed for the post-transaction environment. For example, when you make a purchase on a ticketing site, before reaching the confirmation page, an ad is displayed tailored to your identity, purchasing behavior, and interests. We use data both from our partners, with their permission, and from Fluent, our first-party data accumulated over the years. This allows us to present relevant ads right at the moment of purchase, enabling monetization and enhancing consumer engagement. Revenue from this model is shared between us and the commerce partners. This business is crucial for us, as it boosts monetization for our Commerce Media while also improving consumer engagement. We've seen significant growth and acceleration in this area in Q2. Although we don't break down the segments, we have ventured into new verticals like grocery, quick-service restaurants, and travel, in addition to ticketing. The growth in these areas is particularly noteworthy compared to our core marketplace operations because it is highly predictable. While onboarding can take time from a technical perspective, once established, we achieve predictable sessions and revenue, allowing us to forecast better for Q3 and Q4. Numerous partners have joined since June, with more expected through September and October, positioning us to anticipate single-digit growth in Q3 and double-digit consolidated growth in Q4 and into 2025.

Okay. And one last thing. I believe media and entertainment was, say, a primary vertical in the own-operated area not mistaken. And has that been minimized at all? Or is that being supplemented by the Adflow incursion into retail and ticketing verticals and travel some of the other things you mentioned?

It is being supplemented, Jim. It's always been a strong vertical for us and it remains a very strong vertical in the owned and operated. Obviously, we are looking to grow that media and entertainment, and grow it consistently, but we are also bringing on other verticals with the new solutions that we have and our ability to drive more solutions for our partners.

So would you try to find owned and operated platforms to serve the new verticals you are serving through the syndicated access right now?

No, the owned and operated marketplaces provide us with a significant competitive edge. Although we faced challenges in recent years while focusing on quality improvements and compliance, these marketplaces enable us to effectively purchase media, understand consumer engagement, and interact with customers in a way that maximizes their lifetime value. This expertise allows us to successfully launch initiatives like Adflow and syndicated marketplaces. Our proprietary third-party data also gives us a competitive advantage in the market. We aim to maintain the stability and health of this business, and we believe we achieved stability in the latter part of Q2 and have continued that into Q3. Our strategy will focus on leveraging these assets for higher growth businesses with better margins, and we do not plan to pursue growth in the owned and operated verticals.

All right. Thanks very much.

Thanks, Jim.

Our next question comes from the line of Bill Dezellem with Tieton Capital Management. Your line is open.

Thank you. Relative to Adflow and the addition of grocery, QSR travel, these businesses sound less cyclical to us. So is that the correct way to look at this and that strong cyclicality that this business has had should be mitigated to some degree with some of these new partners coming on?

Yes, hi Bill, thanks for the question. Absolutely. We launched Adflow and focused significantly on retail and ticketing, particularly in the sports sector and other seasonal areas. The quick-service restaurants, grocery, and travel sectors have their own unique cycles. We're aiming to create more balance throughout the year. While we will still have a strong presence in Q4, the addition of these new verticals will lessen our reliance compared to last quarter when we discussed this with you.

That's helpful. And then would you anticipate that the absolute rate of growth in Q1 will be greater than Q4 and the rate of growth in Q2 then greater than Q1. So basically, we now have four quarters coming where the rate of growth will be accelerating?

Yes, it's a great question. There is still some falloff from Q4 in our core business, our owned and operated business and in Adflow, Bill. So we will continue to see double digits. There might be a slight dip in Q1, but we will be able to continue to show sequential growth after that.

Yes, I wasn't really focused on the total revenue figure as much as the growth percentage and whether in Q1 that growth rate would exceed the double-digit rate you mentioned.

Yes, we will see a small drop in percentage, but we'll continue to see double-digit in Q1.

Okay. That’s helpful. Thank you.

Thank you Bill.

Ladies and gentlemen, I'm showing no further questions in the queue. I would now like to turn the call back over to Don for closing remarks.

Thank you for joining our Q2 2024 earnings. We believe we’ve reached an inflection point on our strategic pivot, which is exciting, and this progress provides clear strategic and financial validation of our long-term growth agenda with our early second half performance metrics. We are very focused on returning to consolidated growth in Q3 and accelerating in Q4 and into 2025 in delivering on our numbers. Thank you for your continued support. We look forward to updating you on our progress after Q3.

Ladies and gentlemen, this concludes today's conference call. Thank you for your participation. You may now disconnect.