Gaia, Inc Q3 FY2022 Earnings Call

Good afternoon, everyone, and thank you for participating in today’s conference call to discuss Gaia Incorporated’s Financial Results for the Third Quarter Ended September 30th, 2022. Joining us today are Gaia’s CEO, Jirka Rysavy, and CFO, Paul Tarell. Following some prepared remarks, we will open the call for your questions. Before we get started, however, I would like to take a minute to read the Safe Harbor language. The following constitutes the Safe Harbor statement under the Private Securities Litigation Reform Act of 1995. The matters discussed today include forward-looking statements that involve numerous assumptions, risks, and uncertainties. These include, but are not limited to general business conditions, future losses, competition, loss of key personnel, price changes, membership growth, brand reputation, changing consumer preferences, customer acquisition costs, member retention rates, acquisitions, and other risks and uncertainties detailed from time to time in our filings with the Securities and Exchange Commission, including our reports on Form 10-K and Form 10-Q. Gaia assumes no obligation to publicly update or revise any forward-looking statements. With that, I would now like to turn the call over to Gaia’s CEO, Jirka Rysavy. Please go ahead, sir.

Thank you, and good afternoon, everyone. Our revenues for the nine months of the year increased 6.3% to $62.5 million from $58.7 million. During the quarter, similar to the previous quarter, because of the challenging market environment and a weaker member acquisition part of the year, we pulled back on our marketing spend to manage better with the increased departures of members who signed up during the COVID lockdown, particularly in July and part of August, which caused a slightly negative quarterly revenue gross. Revenue for the quarter decreased 2.5% to $19.9 million and member count to 776,000. The challenging marketing environment is not subsiding. The COVID lockdown member cleanup this year actually put our member base in a very good place. Now, about half of our direct member base has been with us over two years, where the member retention is about six times higher than for those who joined in the last 90 days. This provides us with much more favorable mathematics for the near future, and it is a very good base for our growth next year. Despite a challenging macro environment, we managed to deliver a positive earnings result, excluding the non-recurring charges, and achieved an adjusted EBITDA of $4.1 million, which is 21% of revenue. During the last two months, our efforts in the French market started to bear fruit, and we expect the German market to follow later this month. We also executed a new agreement to launch Gaia on Amazon Mexico. Gaia was also selected to become part of the new Google subscription initiative, YouTube Primetime, at their launch last week, which will be similar to what we have on Amazon at the same price for the offering. Recently, we achieved technology independence; we are now able to operate our business on Gaia, our own hardware infrastructure, which also makes it easier for us to introduce an additional monetization initiative for our member base, the new Gaia Marketplace initiative we plan to launch next year. As a company, we have noted that the replacement value of the 10,000 titles we fully own and the future cash lifetime value of our member base is over $300 million. And Paul is going to talk more about the results. Go ahead.

Thanks. Revenues were down 2% to $19.9 million for the third quarter of 2022, but up 6% to $62.5 million for the nine months ended September 30th, 2022. Gross margins declined slightly to 86.7% for the quarter compared to 87.1% for the same period in the prior year. The slight decrease is primarily due to additional content amortization compared to the previous period. While our subscriber contraction improved from the prior quarter, we did experience our second consecutive quarter of net subscriber loss, ending the quarter with 776,000 members. The decline in the member base was primarily driven by reduced marketing spend during the quarter because of a challenging marketing environment. We also experienced elevated cancellations from March through July for members that joined us during the peak COVID periods in 2020 and 2021. While these cancellations began to dissipate in the second half of August, the reduced demand during the summer combined with these elevated losses in the first half of the quarter impacted both our revenue and member growth objectives for Q3. Marketing expenses were $7 million, or 35% of revenues during the quarter, which is down from $7.8 million, or 39% of revenues in the year-ago quarter. As part of our focus on improving the returns on our advertising spend, we've begun evaluating the efficacy of our marketing initiatives based on one-month and three-month retention levels, not just initial signup volume and cost per acquisition. While we are implementing this approach, it is allowing us to reduce our overall marketing spending as a percentage of revenues to balance our expenses against revenues to ensure we maintain our financial independence. Our focus remains on attracting high-potential lifetime value members to find Gaia and become a member. The results of this will take some time to be reflected in revenues and cash flows. While this is creating some pressure on near-term revenues and member numbers, we believe the long-term cash flow generation will more than offset the short-term impacts. We have continued to scale up our language marketing efforts and have seen good early traction in both our French and German audiences over the past few months, with both audiences growing over 20% sequentially during the third quarter. During the third quarter of 2022, selling and operating expenses, excluding marketing and member acquisition costs, were $8.6 million, or 43% of revenues, up from $7.7 million, or 38% of revenues in the year-ago quarter. Personnel-related costs have remained flat year-over-year; the increase is driven primarily by increased technology-related operating expenses tied to our business continuity initiative that we commissioned to reduce dependence on third-party service providers that we completed in the second quarter. With the initial phase of this project completed, we are now beginning to optimize these expenses and expect to reduce them as a percentage of revenues over the next few quarters. Corporate and general administrative expenses were $2 million, or 10% of revenues during the quarter, which is up from $1.5 million, or 8% of revenues in the year-ago quarter. The increase is primarily related to elevated legal fees. As you may have seen, we disclosed today in our 10-Q that we anticipate a settlement with the SEC that would resolve an ongoing investigation and eliminate these related legal fees. Under the settlement framework that we've agreed to with the SEC staff, the company would consent without admitting or denying any findings to an administrative SEC order that would find that in our April 29th, 2019 earnings release and earnings call, we misstated the number of plan members as of March 31, 2019 when Gaia extended a free month of service to some members while we were implementing a new billing and subscription management system. The administrative order also would find that we failed to comply with SEC Whistleblower Protection Requirements when we terminated an employee and used incorrect language in our form severance agreements with other employees. Our agreement in principle with the SEC staff would require Gaia to pay a $2 million penalty over the course of a year. The anticipated settlement is based on negligence rather than intentional conduct. There's no guarantee that the settlement will be finalized and approved, but we concluded that our agreement in principle with the SEC staff counseled in favor of disclosing and accruing the anticipated settlement as a loss contingency. Just to be clear at the outset, we won't be saying anything more about the SEC matter at this time. We direct you to the disclosure in the 10-Q filed today, and we will not be answering any questions about it on this call. EBITDA was $1.8 million or 9% of revenues in the quarter and marks yet another consecutive quarter of positive EBITDA. Adjusted EBITDA, which excludes the settlement accrual and share-based compensation expense, was $4.1 million or 21% of revenues. Net loss was $2 million or $0.11 per share compared to net income of $0.6 million or $0.03 per share in the year-ago quarter. Excluding the impact of the settlement accrual and associated legal fees, we would have had slightly positive earnings for the quarter. On August 25th, 2022, Gaia entered into a $10 million revolving credit line facility with KeyBanc. As of September 30th, 2022, our cash balance was $10.8 million. As a closing note, I would like to announce that we launched a new distribution partnership with YouTube last week in connection with their launch of YouTube Primetime channels. This will allow us to seamlessly tap into the large audience that engages with YouTube and Gaia content on a monthly basis. As this new service rolls out to US YouTube consumers during November, we don't expect this to have a meaningful impact on the fourth quarter, but we're excited to be a part of this select group of premium content channels that we were invited to be a part of this program. With that, I would like to open the call up for questions.

Thank you. We'll take our first question from Mark Argento with Lake Street. Please go ahead.

Hey, Jirka. Hey, Paul. Just wanted to dig into the subscriber base a little bit. 776,000 subs, which actually ended up being a little better than what we had in our model. Can you talk a little bit about how much of the COVID cohort, I guess we'll call it, remains in that sub base? And maybe if you could drill down a little bit about the mid-August slowdown in terms of the churn rate there. Could you maybe elaborate on that for us, please?

Sure. So the main impact was from the annual members that signed up during that time period. So now we've been through two renewals with the initial COVID cohort and one renewal with that spring 2021 cohort. So we're not going to give specific numbers. Jirka gave you the number that over 50% of the direct member base is now over a year old.

Two years old.

Two years old now, sorry. So we're starting to get into the stickier retention band. Based on looking at those members now, they are starting to behave more like our regular members who weren't part of the COVID cohort. So I don't know that we would draw the distinction any longer.

Yes. I think the way we try to look at all the different reports from various companies and general wisdom concludes that most subscription companies would lose about half of the people they obtained through COVID. As we look at what actually happened, we lost somewhere around 50,000 to 60,000 members that subsided by the end of August. However, when I look at our week-to-week data now, we seem to be in a growth period again. While it was difficult for the past five months, we believe that trend of member loss has subsided. Many subscription services faced similar situations, and we believe we are past that point.

Got it. So in terms of expectations, if you can start adding subs, it becomes cost-effective. I'm assuming CPMs are coming down, so that should become a little more favorable for acquiring a customer online. But for the time being, are you maintaining course and speed, and then hopefully getting a little more aggressive next year? Is that how we should be thinking about it?

Yes. Just one clarification on that. I wouldn't say that CPMs will be coming down in Q4 with the holiday period coming up. Additionally, there’s the election cycle that spends a lot of money during this time. However, we are seeing better efficacy on our spend. Our focus is now on one-month and three-month retention which allows us to differentiate new members into high-value, high-potential lifetime value segments, rather than just looking at initial signup volume and CPA. This is creating a more predictable growth trajectory as our retention improves.

Yes, in August, following the fallout from the COVID period, we also refocused our efforts on annual subscriptions. Our annual take increased from 20% to about 30% during the summer, and that 10% of people who signed up for a year will provide us with stability in member retention over the first part of the next year. We believe the challenges are behind us, and we look forward to growth in the coming year.

Thanks, guys.

And we'll take our next question from the line of Thierry Wuilloud with Water Tower Research. Please go ahead.

Yes. Thank you. I obviously have questions on the COVID impact, but I think Mark covered that with you guys. So that's great. You mentioned the French and German markets growing nicely. What are those viewers or members consuming? Can you provide us with some flavor on that? Is it existing content, or is it strictly content that comes from their regions?

We have all our bigger shows dubbed. We used to only provide subtitles, but now we dub all the content, which has significantly increased traction. We also create region-specific content, so we have perhaps 1,000 unique titles in each language. It's a combination of both. Approximately 30% of the content drives significant value based on the region. We might have a host who is French for some shows and a host who is Argentinian for Spanish titles. When we launch new shows in Spanish or any language, we can expect an increase in viewership. For instance, we recently acquired a yoga content company that is now available online for marketing.

Okay. I find it interesting that you can expand the value of your content by just dubbing it, so that's encouraging. You mentioned YouTube and Amazon Prime. Can you remind us of the arrangement there or the economics if you get a member through that? Is it as valuable as a member that you get directly or not quite?

Yes. I won't speak to specifics of the contract language just because those are obviously confidential. But generally speaking, we analyze net revenue, so we receive our share of the revenue. The customer-facing prices remain the same, and we have contractual provisions to maintain that. However, the key consideration is net revenue. On an operating margin basis, net members from these partnerships tend to be more advantageous than our direct customers because we don't bear the customer acquisition costs and they handle all customer service and technical delivery. So, while they may offer slightly lower average revenue per user from a net revenue perspective, they provide better operating margins in the short term. These partnerships also help scale our audience as we currently have over one million people engaging with Gaia's content on YouTube.

Okay. You also mentioned the Gaia marketplace initiative. Can you provide us with a bit more detail there?

We prefer not to discuss it too much since we haven't finalized the details. However, you can think of it like an online courses venture where if our customers buy through Gaia, they will receive a discount for being a member, and Gaia will also receive a meaningful revenue share. For instance, if someone purchases a product for $500, our customer might get a 10% discount, and therefore if they buy through Gaia, we could gain an additional $100 net of cost.

Okay, so there will be specific products that Gaia members might purchase through you, and there's a type of revenue share with whoever sells it. That's interesting. Great. That's all for me. Thank you very much.

We'll take our next question from Abba Horwitz with Old School. Please go ahead.

Hey, good afternoon. I was wondering if you could outline what the costs or legal costs were in the quarter, and you mentioned that should dissipate. Can you quantify that number?

Yes. It's approximately $500,000 when rounded to the way we present it. That's why, as noted in my prepared remarks, it almost exactly represents the difference between last year's general and administrative line and this year's.

Okay. So in Q4, will we see that $500,000 come back on?

It's difficult to provide a precise answer. We are currently in discussions regarding the settlement, and the timing for its finalization is uncertain because it will incur some costs. However, our $500,000 estimate includes what we expect will be needed to conclude this matter. As long as expenses remain within that estimate, we should be fine in terms of additional costs.

Do you anticipate any extraordinary costs in Q4? Or should assuming the legal goes away, will there be anything else non-recurring that isn't extraordinary in Q4? Or should it be very similar to Q3?

Unfortunately, I don't have a crystal ball regarding regular trend operating expenses. It should be very similar, but obviously, we have a month and a half of the quarter left. So I can't definitively say there won't be anything that arises that may require future actions. I don't want to commit to anything we can't control.

Okay. Can you share how October went in terms of the business?

I'd say generally, Jirka kind of hit it on its head. We've seen we're starting to shift from declining member bases to moderate growth. However, the election created a significant headwind given the spending around midterm campaigns. Thus, while we are not seeing explosive growth, we're also not in a decline.

Yes. The last week was heavier marketing for the election, and we still managed to grow, but it wasn’t substantial. We expect it to improve, but it remains challenging right now. Nevertheless, it's definitely a significant improvement from the summer.

Okay. Fair enough. And just how is the integration of the acquisition going?

Great question. This was already covered in my prepared remarks. In September, we completed our billing migration, and we are now fully integrated on that front. Next, we are ramping up our efforts to engage the yoga-specific audience now that the billing migration is complete. We've brought in an industry veteran to help lead this initiative, specifically focusing on relationships with yoga teachers from Yoga International's extensive history.

Okay. Wonderful. Is there a chance you guys could consider buying stock in the market given that your company's value, as you mentioned, has $300 million of potential assets and yet it's trading for a fraction of that? I'm curious if management is considering a way to monetize something here to unlock that value which seems highly depressed right now.

You're absolutely correct. The $300 million reflects only the content and member base, not including real estate and technology. At this time, I can't confirm any specific plans; however, you might witness actions in the coming period.

To be honest, Abba, until we were able to disclose the information we provided today, we were constrained from using it to make public moves with the stock. This situation has driven us to pursue the settlement expeditiously, so we can place this behind us.

Okay. Fair enough. Was this mentioned in any of your prior filings that you were being investigated?

No. This is the first time we're disclosing this information. The details tied to it were in the 10-Q, but this is the first time we have openly discussed it.

Yes. I looked at the 10-Q, and it’s there, but I didn’t look back at previous 10-Qs because this situation didn't start now; it started two years ago.

Yes. It was about the quarter ending March 31, 2019.

We have to stick to our commitment not to comment further on the SEC matter.

Okay.

It didn't affect any quarter since 2019.

Okay. I'm just noting that sometimes companies trade at a discount and it's simply not noticed by the market. I'm paying attention to the fundamental value here, especially seeing the company is so cheap. I find it unusual that no one else seems to notice the value and why the stock is priced at a low value.

I don’t think it’s our position to comment extensively on that. However, there are many other companies in similar situations. For example, some companies with substantial subscriber bases are trading similarly. Do you want to add something, Paul?

It's tough to speculate on investor appetite. Jirka and I understand the disconnect between the business value and stock trading. Many macro factors are affecting this, and our focus is on execution to ensure financial discipline and sustainability. Now that we have regained technical independence, we can take steps we’ve been hesitant about over the past years.

Okay. Just last thing, can we expect profitability in Q4, especially given the reduction in large legal expenses and the signs of improved attrition? That would make sense, shouldn’t it?

Yes, that is the plan to remain profitable, with one caveat: if we see a favorable marketing environment where we can efficiently add new members who meet our lifetime value criteria. We don't want to miss any opportunities while maintaining our balance of growth and profitability.

Yes, but generally, I would agree with Paul. We’ve been profitable for several quarters, and we don't plan to change that. We might see opportunities for growth depending on market conditions, but generally, we plan to achieve sustained profitability and growth without burning cash.

Okay. Great. Good luck to you both and to all the shareholders.

Thank you, Abba.

At this time, this concludes our question-and-answer session. I would now like to turn the call back over to Mr. Rysavy for closing remarks.

Thank you, Kerry, and thank you all for joining us. We look forward to speaking with you when we report our full fiscal year 2022 in early March. Thank you very much.

Ladies and gentlemen, this does conclude today's teleconference. You may now disconnect your lines at this time. Thank you for your participation.