Legalzoom.Com, Inc. Q3 FY2022 Earnings Call

Good day and thank you for joining us. Welcome to LegalZoom’s Third Quarter 2022 Earnings Conference Call. All participants are currently in listen-only mode. Following the presentations, we will have a question-and-answer session. Please note that this conference is being recorded. I will now turn the call over to our speaker today, Sarah, Securities Counsel. Please proceed.

Thank you, operator. Hello and welcome to LegalZoom’s third quarter 2022 earnings conference call. Joining me today is Dan Wernikoff, our Chief Executive Officer and Noel Watson, our Chief Financial Officer. As a reminder, we will be making forward-looking statements on this call. These forward-looking statements can be identified by the use of words such as believe, expect, plan, anticipate, will, intend, and similar expressions and are not and should not be relied upon as a guarantee of future performance or results. Such forward-looking statements are based on management's assumptions and expectations and information available to us as of today's date and are subject to risk and uncertainties that could cause actual results to differ materially from such statements. These risks and uncertainties are referred to in a press release we issued today and in the Risk Factors section of our most recent quarterly reports on Form 10-Q filed with the Securities and Exchange Commission. Except as required by law, we do not plan to publicly update or revise any forward-looking statements whether as a result of any new information, future events or otherwise. In addition, we will also discuss certain non-GAAP financial measures. Our CEO and CFO use these measures to make decisions regarding our business and we believe these measures provide helpful information to investors. Reconciliations of all non-GAAP measures to the most directly comparable GAAP measures are set forth in the Investor Relations section of our website at investors.legalzoom.com. The non-GAAP financial measures are not intended to be considered in isolation or as a substitute for results prepared in accordance with GAAP. Now, I will turn the call over to Dan.

Thanks Sarah and good afternoon, everyone. In Q2, we outlined a path forward that leverages the brand leadership established over the last few years, while better capturing the demand we already have through increased product innovation. As a result, we committed to a 15% EBITDA margin and a 15% share improvement in 2023. I'm happy to say we've made progress against both of these stated goals. But more importantly, some of the larger product and platform investments we've been making over the past few years are beginning to bear fruit. To be clear, it's still very early innings for our product transformation, but the momentum is there, and you should continue to see our product output accelerate over time. Before getting into more details on progress against priorities, I'll give a brief overview of our third quarter results. Q3 revenue came in at $154 million, up 4% year-over-year. Transaction revenue was down 14% in the period, while subscription revenue offset this weakness, growing 25%. LegalZoom business formations grew 3% in the third quarter, while US Census formations were down 2%. The share gain in Q3 is both a result of increased testing of our freemium lineup and increased acquisition through channel partnerships. Adjusted EBITDA was $17.5 million in the third quarter. Given the quick expense actions we've taken; we expect to realize improvements in margin for the remainder of the year. To remind you, this is a result of multiple reductions in force over the past six months, while restricting primarily to product and technology; progress automating our core formation and tax fulfillment processes, which will continue to drive down variable costs. And in Q3, we began to reduce our brand spending, rotating our focus to higher intent, lower funnel, and earned channels. Moving on to some operational highlights. We continue to focus on progress against our three growth vectors; scaling the core business, building an SMB ecosystem, and integrating experts into our core experience. Those three priorities will translate into us forming more businesses, solving more compliance problems in an integrated way, and providing efficient and affordable access to the two most important advisers a small business needs to succeed, their attorney and their accountants. In Q3 and heading into Q4, we're ramping lineup testing and incorporating different variations of free with the goal of making our product more accessible to cost-sensitive SMBs. We've learned quite a bit and are applying these learnings into new variants. And as a result, we're accelerating the number of tests as we enter Q4. In addition to reaching new businesses through lower-cost entry points, we've also expanded our distribution through partners. We hope to have more partners looking to bundle our formations product with their own services, which include FinTech, website, and brand identity solutions, among others. It's important to note that as we bring our marketing spend down and begin to focus more on product conversion as a result of premium offerings and distribution through partners, overall traffic to our site will show declines year-over-year. Despite this reduction, our overall traffic per month remains at roughly 10 times the number of businesses being formed in any given month as measured by census data. And our product starts, how we measure high intent purchases, are also materially greater than the whole of formations in a given month. To be clear, we've never had a traffic issue. Our biggest opportunities have been evolving from a consumer to an SMB brand, driving high-intent traffic to our product pages, and improving conversion rates. The largest of those opportunities is to improve conversion. And finally, as we expand distribution through lower-cost offerings, we're accelerating our automation efforts. Our speed to deliver our core formation products continues to improve and our error rates that drive customer calls continue to decline. This is a win-win as speed of delivery is a core driver of Net Promoter Score improvements, and automation leads to lower COGS. Moving to our ecosystem investments, we continue to both build and buy into a unique SMB ecosystem, designed to get businesses off the ground and keep them operationally compliant. In Q3, we began ramping the integration of Earth Class Mail, soon to be renamed LZ Virtual Mail into our formation flow and early results look promising. As a reminder, the majority of small businesses are home-based, and virtual mail offered right at the time of declaring your business address is resonating with our customers. In October, we closed on the acquisition of Revv. Revv is an online forms that need signature service. This acquisition will help us accelerate two critical areas of product investment; updating our forms library while enabling expert collaborations directly on the form itself and providing the ability to send these forms out for e-signature and have them stored and managed through our document solution. Our research shows 40% of SMBs have paid for an e-signature solution. So, there are opportunities to commercialize this product as a standalone or potentially added as a bundled capability to drive better retention in existing subscriptions. The acquisition of Revv also establishes a talent beachhead in Bangalore, further enabling us to grow our product organization. These capabilities are being integrated into our new application experience called myLZ, where you will begin to see a cohesive product strategy to integrate our formations capabilities and ecosystem subscriptions into a single experience. Think of it as the place SMBs interact with their experts, find the right business solutions, and the key destination for all their compliance activities. It's also the place where we integrate strategic partnerships, and we are now live with both Wix and Next Insurance through this experience. Finally, we continue to evolve our third priority, integrating experts. Experts remain critical to our strategy. In LZ Tax, we are testing a new lineup with a newly launched advisory-only solution for free revenue customers. This is similar to our legal advisory subscription. As a result, as we enter tax season this year, we expect to have a product built to support businesses at different sizes and stages, better optimized pricing, and an improved first-use experience with streamlined onboarding of clients and intake during tax season, all of which we also intend to deliver through myLZ. We continue to include attorney bundles in some of our line testing, but the early read hasn't been strong. So our focus has become much more concentrated on introducing a free or lower-cost DIY alternatives, while sequencing a deeper integration of attorneys after we deploy a new lineup. Overall, it was a very busy quarter with significant progress made against our product roadmap. Stepping back for a second, we began adjusting to a deteriorating macro early in the second quarter of this year. While we have yet to see a significant near-term deterioration in the macro, we remain vigilant in controlling expense actions and view many of the changes as natural in the course of shifting our focus more towards the product experience, which we anticipate will be the driver of future growth. The efforts we've made to reduce costs are funding our efforts to build out our platform and ecosystem. Formations have declined this year, and for calendar year 2023, we expect formations to decline again. It's clearly a tougher environment for all businesses, including small businesses, which is why it's even more important to make our products more accessible with lower lead-in pricing. Our goal is to help more of these businesses now with the expectation that we will be able to monetize in the future. And we can do that while improving our profitability today through the actions we've already taken. Given our low fixed cost structure, strong cash position, and past generation, and the leverage we expect to get from product improvements, we believe we are in the best position in our competitive set to not only weather the storm but in the long-term benefit from it. With that, I'll turn it over to Noel to go through the details.

Thanks, Dan, and good afternoon, everyone. I'll start today with a review of our performance in the third quarter and end with our outlook for the remainder of the year. Total GAAP revenue in the period came in at $154 million, up 4% year-over-year and above the top end of our guidance range. Transactional revenue was 14% year-over-year and $58 million due to a 1% decline in total transaction units and a 12% reduction in average order value. We completed 117,000 business formations in Q3, up 3% compared to the same period last year and up from a 16% decline year-over-year in Q2 as comparisons normalize. Transaction units were 226,000 in Q3, down 1% year-over-year as the increase in business formations was offset by a decline in intellectual property transactions, resulting from the discontinuation of our DIY trademark product and a continued reduction in state planning and other consumer transactions. Average order value came in at $255 in the third quarter, down sequentially from the second quarter and down 12% year-over-year. As noted on our prior call, we expected a year-over-year decline in AOV in the second half of the year due to testing of our new lower-priced lineup as well as growth in our partner channel where we provide wholesale rates. In the quarter, we also experienced a temporary impact on fulfillment productivity as the team adjusted to a mid-quarter reduction in headcount. Looking forward, we expect a similar year-over-year decline in AOV in the fourth quarter as we saw in Q3, again, driven by partner channel growth and continued testing of our freemium offering. As we previously noted, we expect the introduction of a lower price or free SKU to drive significant volume and market share growth, but at a cost to our current transaction revenue. Subscription revenue was 25% year-over-year and $91 million. We expect a slight sequential decline in subscription revenue in Q4 with the year-over-year growth slowing materially in the third quarter and into 2023. The primary driver is the impact of the slowing macro environment and recent formation volumes, which in turn reduces the number of gross subscription unit additions, particularly within our registered agent and compliance-related subscription offerings. ARPU was $259 in the third quarter, up 12% year-over-year. In the fourth quarter, we expect ARPU to grow year-over-year but flatten sequentially as growth in our higher ARPU LZ Tax service flows, and we have introduced a new tax lineup for the lower-priced advisory-only SKU and now have an integrated ECM offering in our formations cloud, which is also at a lower price point. Partnership revenue was down 29% year-over-year in the third quarter to $5.5 million as we continue to lap legacy partnerships no longer aligned with our strategic direction. We expect partner revenue to remain steady on an absolute dollar basis in the fourth quarter and to be accretive to overall revenue growth moving forward as we now have fully lapped any significant impacts from legacy partnerships. Now, turning to expenses and margins, where all of the following metrics are on a non-GAAP basis. Gross margin came in at approximately 69% of revenue in the third quarter, down slightly from 70% in Q3 of last year. A slight decline in margin was largely due to higher fulfillment costs relating to our expanded capacity to support growth in LZ Tax and added costs from our acquisition of Earth Class Mail. Sales and marketing costs were $61 million in the quarter or 40% of revenue, down 5% from Q3 of last year. Customer acquisition marketing came in at $44 million, down 12% year-over-year as we reduced our brand media spend and tightened the guardrails on our lower funnel direct response channels. We plan to further reduce our marketing spend in Q4 and therefore, expect a significant sequential reduction given seasonality, but also as we continue to favor conservatism and flexibility in this uncertain macro environment. Technology and development expenses were $13 million in Q3, up $1 million year-over-year. We expect an increase in this expense in Q4, largely due to our continued focus on hiring talented engineers as well as the addition of headcount from our recent acquisition of Revv. General and administrative expenses were $15 million in Q3, up $4 million year-over-year due to higher headcount and professional fees. We expect G&A expenses to decline sequentially in Q4 as we realize the benefit of recent headcount reductions. Adjusted EBITDA was at the top end of our guidance range of $17.5 million for the quarter compared to $15 million for the third quarter of 2021, and our base deferred revenue increased $5 million in the period. In the third quarter, we continued to execute on our $150 million share repurchase authorization. We repurchased a total of 2.6 million shares of our common stock at an average price per share of $9.48 for a total repurchase of $25 million, including commissions. Through the third quarter, we have completed $64 million in buybacks with a total of 5.7 million shares repurchased, which represents a reduction of approximately 3% of our prior year-end fully diluted share count. We have continued to repurchase shares in the fourth quarter. As of September 30th, 2022, we had cash and cash equivalents of $212 million and no debt outstanding. I'll now provide guidance for the fourth quarter and full year 2022. For the fourth quarter of 2022, we expect total revenue of $145 million to $147 million or 3% year-over-year growth at the midpoint. We expect subscription revenue growth to decelerate in Q4 driven by lower formation volumes in the first half of the year and a slight impact from LZ Tax seasonality as tax revenues skew toward the first half of the year when tax revenues are graded. We expect adjusted EBITDA of $23 million or 16% of revenue at the midpoint. For the full year of 2022, we are increasing our guidance for both total revenue and adjusted EBITDA. We now expect total revenue of $617 million to $619 million or 7% growth at the midpoint. We now expect adjusted EBITDA of $60 million or 10% of revenue at the midpoint. And with that, let's open the call for questions.

And our first question comes from Andrew Boone with JMP Securities. Your line is open.

Hi. Good afternoon. Thank you so much for taking my questions. You talked last quarter about 20% of traffic being dedicated to premium testing. Can you just talk about where you're at right now in terms of flowing traffic over freemium? And then what are you seeing so far from tests? How do you feel about the product and conversion and everything else? And then secondly, with the funding environment changing in 2022 with higher rates, are you seeing any change in terms of the competitive assets from other prior private, excuse me. Can you just talk about competition overall? Thanks so much.

Yes. Thanks for the questions, Andrew. Yes. On the traffic side, it's hard at any given time to say what the specific traffic level we have is because there are lots of different tests that we have going, and we turn them on and off at different times based off of what we're reading into the tests themselves. But at this point, you'll see us pretty consistently in Q4 be above that 20% level. And we're really just beginning to ramp up lots of the different variants, where in the past we were testing very broad concepts. We'll start to test a narrower set of concepts that have been refined and we'll do many variations of those with different pricing options. So that's a pretty dynamic environment. And so it's hard to say specifically what the traffic will be because it kind of depends on what's happening with the tests themselves. As it relates to the dynamics with competition and kind of what's been happening with the macro, I mean, I think what I would say is that, first off, we just want to focus on what we need to do in this environment as a starting point, which is get to the right cost structure. And so you've seen us kind of bringing our cost down, whether it relates to automating fulfillment or right-sizing some of the OpEx and headcount and even thinking about some of that last dollar spent on the marketing side, that's enabling us to go after share while still increasing profitability. And so that's really important. When we're in a bad environment, this is a chance to really consolidate and go after more customer growth, knowing that you can be confident later to monetize those customers down the road. So that's what we're really focused on, on our side. Now in parallel, we also have a really strong balance sheet. We're still cash generative. And we have a brand that's really well known. And we have the ability to sort of draft off of that knowledge of our brand. So I do think it puts us in a better position than anybody that was spending into negative profitability because they, at some point, would have to go out and get funding and this obviously isn't the best environment for funding. But again, it's really more about what we're trying to do, which is we want to be aggressive during a time like this. We feel like this is when people win and really set themselves up for long-term growth. And so that's what our strategy is.

Thanks.

Thank you. One moment for our next question. Our next question comes from Mario Lu with Barclays. Your line is open.

Great. Thanks for taking the question. The first one is on your comment in terms of expecting formations declined again next year. I'm just curious if you could share any data points that led to this estimate. Obviously, those macros are very soft right now. I remember last quarter, you guys talked about the solution trends in your data. I was curious if that was one of the factors.

Yes, thanks for the question, Mario. Dissolutions have begun to recover, and we are observing them returning to a normalized path, which is a positive development. This is partly due to the overabundance of businesses being created without equivalent failures during the stimulus period in 2021. Post-pandemic, there was a natural correction that led to increased dissolutions, but now it has stabilized a bit, resembling historical trends. When considering business formations for next year, we remain cautious. The current trend in the fourth quarter, along with the previous quarter, suggests that the macro environment is relatively flat. However, looking ahead, it is apparent that macro conditions are deteriorating. Therefore, we anticipate a decline in 2023, although we are not ready to specify the extent of that decline at this time.

Great. Makes sense. And then in your acquisition of Revv, I’m just wondering if you could highlight the main factors that led to this acquisition. Any other areas in particular that you're targeting to build out your capabilities?

Yes. I am incredibly excited about Revv. If you consider the foundation of LegalZoom, it was all about making legal forms more accessible online. However, over the past 10 to 15 years, those forms have not been as modern as we had hoped. Therefore, we are initiating a substantial investment to make our forms more collaborative, enabling them to be easily accessed by customers, and rethinking how we manage them. As we examined the external landscape, Revv stood out as a perfect match. They offer a strong library of forms that we can continually enhance thanks to their flexible platform. The design is impressive, allowing small businesses to easily modify and personalize these forms, which is crucial for them. Their collaborative nature is vital for us because we want attorneys to work with their clients through the forms. We have also integrated e-signature capabilities, which are essential for getting documents signed and stored conveniently. This solution is not only ready to use but is also API-driven, enabling varied distribution and excellent SEO potential for forms. Overall, I believe this is a significant acquisition and aligns perfectly with our goals within our ecosystem. To reiterate about the ecosystem, our objective is to support small businesses from their inception and help them manage operations while ensuring compliance. We see many other areas where we can contribute and where partnerships can thrive, which will remain a key focus for us moving forward.

Yes. The one thing, I'd add there as well is on the Revv transaction that gets us excited is it comes with a really strong leadership team there with really talented engineers, and it gives us a bit of a foothold in that location to continue to build out from that piece of engineers and add quality talent there and help to overall blend down our cost structure on the engineering side. So that's another aspect of the deal that gets us really excited.

Great. Thank you, both.

Thanks, Mario.

Thank you. One moment for our next question. Our next question comes from Ron Josey with Citi. Your line is open.

Thank you. I want to revisit the macro trends and the freemium model. I understand your comments about the broader macro environment being more fluid and the outlook for 2023. However, we've previously discussed the possibility of trends returning to seasonality or at least stabilizing. Are you observing this stabilization in the current macro environment? If so, is it improving the operating conditions due to this increased stability? My second question relates to the freemium model, which I find fascinating. Can you share what you've noticed in the early tests? It seems the results have been positive as more traffic is being directed to it. What has worked well, what has surprised you, and do you have any insights on conversion trends? Thank you.

Thank you for the question, Ron. In Q3, we observed a decline of about 2%, but the October figures have shown a 1% increase. This indicates that we're not experiencing a significant downturn, and it appears to align with seasonal trends. When we look ahead, our projections are based on current economic observations, and at this stage, we aren't providing any detailed guidance beyond that. As we approach 2023, we'll likely have a clearer view on how to communicate our expectations regarding the macro environment, which may be more detailed. Regarding testing, we're hesitant to disclose too much information on the tests since they are still ongoing, and there are competitive reasons for keeping insights confidential. However, we are very confident in the anticipated 15% market share increase for next year, and you can already begin to see the effects. In Q3, there was a 4.5% rise in market share attributed to this traffic, but we don’t anticipate a full rollout in Q4. Considering our current position and the number of variants we want to test, as well as the traffic limitations and the overall implications of the rollout, our main focus is on quality. We want to ensure that the complete experience aligns with our premium offerings. Thus, it will likely be deployed in phases, but we are quite confident in our current status.

Thank you, Dan.

Thank you. And our next question comes from Elizabeth Porter with Morgan Stanley. Your line is open.

Great. Thank you so much. I had a question on the subscription units. Net adds kind of came down again and I was wondering if you could help parse out the impact between just this overall slower new business formations and the associated attach versus churn. It felt like the dissolution headwind may be motoring. So, any sort of insight into how we should think about net subscription adds going forward would be very helpful? Thank you.

Yes. Thanks for the question, Elizabeth. Yes, 13-month retention at this point has actually stabilized. Again, it's the relationship between dissolutions that we now have also stabilized, and our churn rates are probably getting to our normalized level of even a couple of years ago. What I'd say is more of the impact on our subscription business is exactly what you pointed out, which is you start to lap multiple years of either flat or down macro growth, that is the main channel for our most significant subscriptions, which are a registered agent subscription and our compliance subscription. And so that's just the compounding effect, and we do think that's going to continue to be a bit of a headwind as we go into 2023. But again, it's the core subscriptions that we have are doing much better from a retention standpoint than they were last we talked.

Great. And then looking out ahead, Q4 guidance suggests about a 3% revenue growth exiting the year. And Street is looking at about 8% growth for fiscal 2023. And I know it's probably a little bit too early for guidance, but any sort of color you could put on what we could see as potential accelerators to revenue or some of the headwinds as we think about 2023 would be helpful relative to that forecast? Thanks.

Yes. Thank you. Well, I think at this point, we're not ready to come out with any revenue guidance for next year. And we're really, again, focused on how do we make sure we manage our expenses and how can we accelerate our customer growth. We'll be ready to do that in the next quarter for sure. Anything you'd add, Noel?

No, I think we're still in our planning process. There's a lot we still need to learn in the coming months about the macro environment. We've discussed various initiatives we have in place, and a focus on free is significant. Dan just mentioned some new capabilities from the Revv transaction that we'll implement. We've now integrated Earth Class Mail into our formations flow. There are many initiatives we're working on that will drive growth next year, but it's too early for us to provide specific guidance for 2023.

Got it. Thank you.

Thanks, Elizabeth.

Thank you. And our next question comes from Matt Pfau with William Blair. Your line is open.

Hey thanks for taking my questions guys. Wanted to ask on the increase in revenue per subscription unit. What drove that specifically? I assume a lot of that's LZ Tax, but anything else to call out?

Thank you for the question, Matt. This is Noel. We have consistently discussed our progress with ARPU over several quarters. A significant factor is the LZ Tax, which has a higher average revenue per SKU and is increasing its overall share. Additionally, the integration of ECM is contributing to our growth, both organically and through our formations flow. These are the primary drivers. We mentioned that we expect ARPU to continue growing in Q4, but we anticipate it to remain flat in terms of absolute dollar value sequentially. This is partly due to a lower price point in our LZ Tax lineup that is now live, and Q4 tends to be quieter for LZ Tax regarding revenue recognition. Furthermore, the integration of Earth Class Mail with our formations flow is also at a lower price point. Thus, while we expect ARPU growth, it is likely to plateau sequentially in absolute dollar terms.

Just to build on that, the LZ Tax piece is something we talked about on the last call, where last season, we did not have a good product for pre-revenue customers. And so we've deployed what is more of an advisory subscription for those pre-revenue customers going forward. It's a much lower price SKU. But our objective here is much more around retention and making sure that we're getting the right solution to the right customers and retaining them longer versus the higher ARPU product going forward.

Great. I want to follow-up on the share gains and business formation. So, the premium product is not out to a majority of your traffic yet, but I assume that contributed somewhat to the share gains. Anything else you'd call out that helped you out on the share gains that you saw in the quarter?

Yes. Yes. I think that was a big component because we continue to test free SKUs and different variants. And some of them do very well. Some of them obviously don't do all that well, and there's all different types of price points. So, the aggregate of that gave us a little bit of a tailwind. Also, our partner channel, we have some newer partners that are distributing the product through their own solutions. And the way that works is we have an API, and any service provider can actually leverage our API and bundle a formation with their own service or product, and we're seeing some uptick with that with a couple of our partners as well, which we are really quite happy with. And I'd say we're more in the testing mode at this point, but we see that as a potential very large channel down the road where any small business enabler could essentially offer our solution either through their brand or our brand in a way that's bundled with their core subscription. So, those are probably the two biggest factors.

Perfect. Thank you.

Thanks.

Thank you. And our next question is from John Byun with Jefferies. Your line is open.

Hi, this is John in for Brent Thill. Thank you. Two questions. Maybe this might be related to the previous one, but I just wanted to get an update on the Wix partnership. It looks like you said you went live, but wondering when they might have started and how that's going? And then second, on the Revv acquisition, I don't know if you could discuss more in terms of how it could show up in terms of products, whether it's bundled or distinct SKUs. If you could give more color on what was in the prepared remarks. Thank you.

We have been in the market with Wix for about a quarter, primarily marketing it through our myLZ offering. Our goals are to integrate closely and utilize our data to enhance the initial experience with Wix. So far, it has performed as expected during this initial phase, and we are slightly ahead of schedule in gathering insights and preparing for scaling, which you will start to notice in the upcoming quarter. This aligns with our broader strategy of identifying partner solutions that meet our customers' needs right from the start. This quarter, we also added Next Insurance, which assists small businesses in obtaining necessary insurance during formation, often before they realize they need it. This exemplifies how we support them through our ecosystem and myLZ specifically. Regarding Revv, we already have a forms library, and we plan to modernize it, likely integrating it with our legal subscriptions. Whenever there’s a legal interaction with clients, it may occur via a form, which will be incorporated in the upcoming versions of our assisted solutions. Lastly, on the e-signature front, we have various options. We could offer it as a standalone subscription, similar to DocuSign, which charges around $15 a month for small businesses, or bundle it within our core subscriptions to potentially enhance retention. We are exploring different strategies for market entry and have not yet decided which approach will be the most effective.

Thank you.

Thank you.

Thank you. And our next question is from Stephen Ju with Credit Suisse. Your line is open.

Hi, thank you. So Dan, I guess to ask the freemium and the marketing spend question in another way, do you feel like with the current conversion funnel that you have in place, maybe it makes sense to lay off the paid acquisition channel then as you refine, iterate and hopefully inevitably improve conversion rates, then maybe you can think about playing a greater level of offense? And I guess, do you think this is an appropriate strategy for all of your legal products or only a subset? Thanks.

Okay. Yes. On the first one, I think you're right over the target of what we're trying to do. I mean we know that we've had an overreliance on marketing as we caught all this COVID traffic and there was so much demand, and yet our product wasn't necessarily ready for that demand. And so now that we've done the infrastructure work, we've automated a lot of the orders, and we have the ability to go out to market with a lower-cost product, we think of that almost as a trade-off to the marketing spend that we used to have. So, I anticipate this will bring down the marketing spend considerably. And I think what we're trying to do is show a conversion improvement that even can offset the AOV. So, like we're trying to get this to be a model that's highly optimized, more product-driven and less dependent on our marketing spend. On the second question, when you're asking kind of apply to the new lineup and other formations and products, are you saying the freemium model?

Yes.

Okay. Yes. I mean I think free plays a role in almost every product and most business models do have like some offering, which is a sort of a lower-cost entry point offering. And so when we start to think about things like getting access to an attorney or an accountant, as an example, there are ways to consider that being a benefit to conversion and then building a relationship and then over time augmenting that relationship with more of a paid one or transactional if it's a return or if it's some transaction you're doing from a legal perspective. So, the first step though is proving it out on our core product. I mean, we're really singularly focused on making the changes that we are to our formations lineup. But there's no reason that it couldn't be extended into other parts of our product portfolio.

Got you. As a follow-up, your top of funnel should significantly expand with a free version of a product available, which would benefit conversion and help build a relationship. Over time, that relationship could evolve into a paid or transactional one, especially for returns or legal transactions. The initial step is to validate this with our core product. We are primarily focused on the changes we are making to our formations lineup, but there is no reason this strategy couldn't be applied to other areas of our product portfolio.

That's right. I mean, Well, I think the key thing too is all of our freemium testing to date has been sort of in our product experience. It has not been aggressively testing the top-of-the-funnel messaging. So, the moment that we get the lineup optimized for free is the moment that you'll start to see us really focus on making this more ubiquitous and starting to help people understand that this is a great alternative to both the secretary of state directly or to going to an attorney or even going to an accountant when we start talking about things like tax advice and having advisory services and making that lower cost as a starting point into the ecosystem. So, free is a really important strategy. We feel like it can be ubiquitous. We feel like it's just another cost of acquisition, but probably a more effective one. And so we're thinking about how do we trade that off from our CAM spend. One last thing I'll say, too, is the way this all comes together, too, is through myLZ and again, you'll start to see a pretty significant acceleration in development in miles. But the more services that we offer and the more that we help customers understand that, that's where they go to understand their formation process, the more touches we have with the customer, the more likely we are to continue to build the relationship and extend it. And so that's a part of the product experience that never existed before. And now we're starting to really make momentum. Things like LZ Tax are going to be provided through that experience. You can schedule an attorney appointment through that experience. You can see your virtual mail. You can get your documents, you can do e-signature and know that someone's read that document is signing it. And so all of that kind of comes back to this ongoing engagement that we're trying to drive, which should help all of the subscriptions with retention over time.

Thank you.

Thank you, Stephen.

Thank you. And our question comes from Jackson Ader with MoffettNathanson. Your line is open.

Thank you for taking my question. My first inquiry is about share gains and the macro environment. Do you see any scenario in 2023 where LegalZoom might experience share gains, particularly if the economic situation worsens, or should we be considering the possibility that LegalZoom could perform worse instead?

Thanks for the question, Jackson. I believe that as the macro environment worsens, we likely perform better compared to our competitors, although that doesn't necessarily guarantee an absolute improvement in our performance. There is a relationship here; having a strong balance sheet and generating cash flow, along with a well-established brand that doesn’t require us to invest in awareness, positions us uniquely against competitors that are less recognized and primarily funded by venture capital. The environment for those alternatives is shifting significantly. However, in a strong market, we can still achieve considerable share gains, particularly if we launch a competitive free offering that our rivals can't match, given that they lack an integrated ecosystem. We can afford to invest in customer acquisition through free solutions thanks to our various offerings like LZ Tax, legal services, e-signature, and virtual mail. We have a range of products that we control directly, unlike many competitors who rely on partnerships, resulting in less stable relationships. Therefore, regardless of the market conditions, we are in a good position, but in a healthier macro environment, our performance will be significantly better, while in a challenging macro situation, we are likely to gain even more market share.

Okay. All right. That makes sense. And then a quick follow-up on the LZ Tax side. The shift in SKUs going a little bit down in price. Is any of that in either a response to increased competition in the space? Or does it signal something about how you guys are thinking about differentiating yourselves in the kind of increased competitive market?

Not really. This is more about the uniqueness of our channel. We're reaching businesses before they generate revenue, and they don't need to file taxes yet. In our previous setup, they would have needed to purchase a tax filing SKU that included tax advisory. We found that many people were leaving within the first 60 days, which is the refund period, because they received the advice they sought but didn't actually plan to file. This approach is a reaction to what we've observed and learned from our customers, and it is tailored to what I believe is an amazing channel. Most tax providers race to acquire customers within a narrow timeframe. In contrast, we start building a relationship the moment a business is formed by giving them the tax advice they need to establish their company correctly, which allows us to create a longer-term relationship. This isn't really a competitive response; we believe our prices are still lower than those of typical neighborhood accountants, making it rather disruptive.

Okay. Makes a ton of sense. Thank you.

Thanks, Jackson.

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