Earnings Call Transcript - SKLZ Q1 2023

Operator, Operator

Good afternoon. Welcome to Skillz First Quarter 2023 Conference Call. I will now turn the call over to Susan Swanson for opening remarks. Please go ahead.

Operator, Operator

Good afternoon, and welcome to the Skillz First Quarter Earnings Conference Call. With me today are Andrew Paradise, Skillz CEO; Casey Chafkin, CSO; and Jason Roswig, President and CFO. Note, our full financial results will be published tomorrow and will be available on our Investor Relations website. Before I turn the call over to Andrew, please note that some of our management's comments today will include forward-looking statements within the meaning of the Federal Securities Laws. Forward-looking statements, which are usually identified by the use of words such as will, expect, should, or other similar phrases are subject to numerous risks and uncertainties that could cause actual results to differ materially from what we expect. Therefore, you should exercise caution in interpreting and relying on them. We refer you to the company's SEC filings for a more detailed discussion of the risks that could impact future operating results and financial condition. During the call, management will discuss non-GAAP measures, which we believe can be useful in evaluating the company's operating performance. These measures should not be considered in isolation or as a substitute for financial results prepared in accordance with GAAP. A reconciliation of these measures and the most directly comparable GAAP measures is available in our first quarter 2023 earnings release. With that, I'll turn the call over to Andrew for some brief opening remarks before we open the call for questions. Andrew?

Andrew Paradise, CEO

Thank you, Susan, and to all of you for joining the call. In the first quarter, we continued to make progress on the four strategic pillars that we laid out last year, while we continue to navigate difficult demand and macro environments. We're cautiously optimistic about the progress we're making. I also want to be honest with our shareholders and ourselves that we're in the midst of tremendous change and it’d be premature to say we're out of the woods. To briefly review the quarter before I turn the call to Jason, let me begin with the first pillar, enhancing our platform to improve customer and developer engagement and retention. Our product team continues to grow and mature, and we're seeing positive changes regarding the rigor and discipline, and perhaps, most importantly, our customers' stickiness and engagement as seen in our payback improvements. To this end, to name a few of the product initiatives we achieved over the quarter, we launched and scaled new limited-time challenges which have driven improvements in paying user behavior. We also launched a new play screen user interface resulting in positive trends in pro tournaments engagement, as well as pro retention. For developers, we rolled out the Skillz Discord server to enhance community support. We updated the SDK release process to provide greater clarity to all releases including OTA, and we added site instrumentation to enhance usage in sites inside our developer console. This brings me to our second pillar, upleveling our organization. We made significant progress in reshaping the organization to fuel growth and innovation. We're really excited to welcome Elly Ryu, our new Controller and Global Head of Accounting. She's joining our staff and has already made a significant impact in upgrading our accounting team's talent. It has been challenging, and in some cases, we found that we don't have the right talent to get through the hurdles ahead and back to the growth we believe we can achieve. In these cases, we're taking quick action to ensure the organization is not further taxed and that we can place the right people into the right roles. A majority of the Skillz employees that joined last fall are now fully up to speed, which is really exciting to report, and it's gratifying to see. As you'd expect, it's making a huge difference in the morale and productivity of our team. We're continuing to add more key hires and multiple experienced engineering directors to support our product initiatives along with two new experienced board members among others that I won't name now for the sake of brevity. We still have some hiring to do to round out our organization, but we're feeling good about the changes we've made and the future of the team. Third, let me talk about our pillar of improving our go-to-market. In the quarter, our payback period continued to improve and our user acquisition cost was the lowest it’s been since 2020, reinforcing that our strategic focus is working. As such, we began scaling marketing; we are ensuring optimal ROI and continued improvement in payback. This improvement in payback has been significant over the last three quarters, and we have a line of sight to get payback back to best-in-class of six months or less within the next three quarters. Having said that, PMAU or paying monthly active users continue to decline quarter-over-quarter as we've reported. In terms of our developer community, our team focused our energy in the first quarter in preparing for a transition to our new developer revenue share model. As planned, the new model launched at the beginning of May, and we'll provide more details during our second-quarter earnings call about the impact of that on our business. We believe this is the first part of meaningful steps forward to build our relations with the developer community. That said, we're very excited about the opportunity for existing developers to increase their revenue share by driving more traffic to the platform. Last but not least, our fourth pillar is demonstrating a clear path to profitability. I'll let Jason talk more about our numbers, but I'll share that we continue to make progress here and intend to continue progressing through 2023. As we thoughtfully consider each and every investment with the goal of adjusted EBITDA positive by the end of 2024. As expected, our losses in the first quarter were greater than Q4. Historically, we've always increased spend in our business in Q1 over Q4. However, I do want to note two specific variances that we do not anticipate we’ll incur in future quarters. Specifically, we spent $3.2 million on operational consulting services for turning around our business and we spent $3 million for accounting advisory services in preparation for our 10-K filing. We anticipate being able to handle these functions in-house going forward. Finally, we recorded $2.8 million more for our bonus accruals in Q1 compared to Q4 as we didn't achieve our bonus targets for 2022. In short, there are many reasons to be cautiously optimistic about what's happening in our company. However, we need to acknowledge that there's still a lot of work ahead of us. We have to remain cautiously optimistic about our direction, to keep putting one foot in front of the other as we make the changes that are necessary to drive the achievements we want to see in the future of our business. We're intensely focused on the four pillars that I've named, and we are committed to returning shareholder value over the long term. We'll continue to be transparent with you to build shareholder trust. And with that, I'll turn the call over to Jason to discuss our numbers.

Jason Roswig, CFO

Thanks, Andrew. Revenue in the first quarter was $44.4 million, down 52% year-over-year and down 5% sequentially. Our payer conversion rate, which is our paying MAU divided by our MAU, was 18% in the quarter. First-quarter user acquisition marketing was $8.4 million, a decrease of 86% year-over-year and down 11% sequentially as we continue to improve, lower our payback period and user acquisition cost. Q1 engagement marketing was $17.6 million, down 59% year-over-year and down 11% quarter-over-quarter. Research and development was $8.9 million in the quarter, down 52% year-over-year. On a non-GAAP basis, R&D was 17% of quarterly revenue. Q1 sales and marketing was $34.9 million, down 70% year-over-year. This includes $1.9 million of stock-based compensation. On a non-GAAP basis, sales and marketing was 74% of Q1 revenue, down 50 percentage points year-over-year and up 4 percentage points quarter-over-quarter. Q1 general and administrative expense was $28 million, down 70% year-over-year. This includes $7.4 million in stock-based compensation. On a non-GAAP basis, Q1 G&A was 46% of revenue, up 25 percentage points year-over-year. On a sequential basis, G&A was up 13 percentage points as a percent of revenue. The net loss of $35.6 million decreased $114 million year-over-year and decreased $107.4 million, or 75% sequentially for the first quarter. Q1 adjusted EBITDA was negative $20.9 million, down 67% year-over-year and up 121% sequentially. Q1 adjusted EBITDA margin of negative 47% was down 21 percentage points year-over-year and up 27 percentage points sequentially. We ended the quarter with $521 million of cash, cash equivalents, and marketable securities and $273.6 million of debt outstanding. With that, I'll turn it over to Andrew for closing comments.

Andrew Paradise, CEO

Thanks, Jason. To note, as we've disclosed in April, we repurchased approximately $160 million of our outstanding debt obligations. This will have a nearly $16 million positive impact for us over the next 3.5 years. It's an incredibly material development to extending our runway, to fix our business, to revert it to the growth engine that 2017 caused us to win the Inc. 5000 as America's fastest-growing private company. Thank you all, again, for taking the time to join us today. We look forward to providing updates throughout the year on our progress of returning Skillz to sustained profitable growth.

Operator, Operator

We will now start the question-and-answer session. The first question comes from Jason Tilchen at Canaccord Genuity. Please go ahead.

Jason Tilchen, Analyst

Great. Thanks for taking the question. Two, if I can. The first, just wondering if you could maybe just talk for a minute about the concentration of the user base around some of the top games in the platform today versus where it was prior to the strategy to sort of reduce marketing and engagement spend? And then I have a follow-up from here. Thanks.

Andrew Paradise, CEO

Thanks, Jason. This is Andrew Paradise. I was going to turn it over to Jason Roswig, who I think would be best to comment on that.

Jason Roswig, CFO

Thanks, Jason. I would mention that our concentration has been relatively consistent over time. It has been about 80% now consistently for this quarter and last quarter. I would note that our intent with our new standardized developer revenue share model is to bring new content onto the platform over time and continue to diversify that number.

Jason Tilchen, Analyst

Great. And just sort of on the same topic, as it relates to sort of ongoing efforts to sort of expand the genres on the platform, can you talk about some of the initiatives that are in place there and where that stands and maybe any updates on sort of the engagement with the NFL games and other recent partnerships that you've had over the past few quarters? Thanks.

Andrew Paradise, CEO

Sure. I wanted to mention that we have always observed some concentration in the most popular games, similar to other media platforms. For example, HBO experienced significant viewer engagement when Game of Thrones was at its height. I believe we will continue to see a certain level of concentration in the top content on our platform. Regarding genre expansion, we partnered with Legacy games to incorporate the photon multiplayer engine, allowing us to develop more advanced multiplayer games and move beyond asynchronous games like Solitaire or Blackout Bingo into more complex ones. We now have turn-based games like Dominoes Gold, and we envision introducing more turn-based games in the future. We recognized a notable difference in our monetization approach between skill-based gaming and traditional models relying on ads and IP revenue. Our unique model provides developers real-time revenue reporting for both ads and in-app purchases. We built our business around this payment structure: we take deposits from users but only recognize revenue when they participate in competitions using those funds. Users might receive promotional currency or withdraw their deposits, neither of which counts as revenue for us. Revenue is only recognized when users pay entrance fees for competitions, from which we take a portion. Historically, our revenue sharing with developers was more like a net profit share, making it challenging to calculate their earnings monthly due to payment processing and user incentive systems surrounding non-revenue account balances. However, since launching a new revenue share model on May 1, we now offer a percentage of gross revenue, starting at 3.75% of entry fees and increasing as developers attract more traffic. One major advantage of this new model is the introduction of developer analytics that provide real-time revenue data, putting us on equal footing with other monetization methods like in-app purchases or ads. This will empower developers to utilize data for effective advertising strategies. Additionally, it encourages larger developers to join our platform, fostering increased traffic and enabling us to diversify our game offerings across various genres.

Jason Tilchen, Analyst

Great. That was really helpful. And maybe just one more quick one if I can. Last year, the conversion rate of paying users from the total MAU peaked in the low 19% range and it sort of flattened out here around 18%. I was curious with a new strategy with lower engagement marketing spend and focus on more efficient programs there, where you see that conversion rate trending over time?

Andrew Paradise, CEO

Sure. This is Andrew speaking again. I would like to hand it over to Casey Chafkin, our Chief Strategy Officer, to discuss that further.

Casey Chafkin, CSO

Sure. And thank you for the continued engagement, Jason. From a conversion perspective, lowering engagement marketing decreases the incentive for potentially new users to convert into paying users, but increases the profitability on those users that we generate. And so, in terms of our paying DAU versus our playing DAU, we expect that to remain relatively stable and potentially increase a little bit as we continue to decrease marketing spend and have more mature users on the platform.

Jason Tilchen, Analyst

Great. Thank you.

Operator, Operator

There are no further questions. So I will turn the call back to Andrew Paradise.

Andrew Paradise, CEO

Okay. Well, thank you everyone for tuning in today to listen to our earnings call. I look forward to reporting on progress with the next quarter. I think we are not out of the woods yet in terms of turning around and really rebooting the operations for our business. But I think I would message, as I said earlier, cautious optimism that we're making headway. Thank you for the time, and we'll talk to you then.

Operator, Operator

That concludes the conference call. Thank you for your participation and enjoy the rest of your day. You may now disconnect your line.