The following information should be read in conjunction with the accompanying
consolidated financial statements and the associated notes thereto of this
Quarterly Report, and the audited consolidated financial statements and the
notes thereto and our Management's Discussion and Analysis of Financial
Condition and Results of Operations contained in our Annual Report on Form 10-K
for the fiscal year ended July 31, 2019 (the "Form 10-K"), as filed with the
U.S. Securities and Exchange Commission (the "SEC").
As used below, unless the context otherwise requires, the terms "the Company,"
"Zedge," "we," "us," and "our" refer to Zedge, Inc., a Delaware corporation and
its subsidiary Zedge Europe AS, collectively.
Forward-Looking Statements
This Quarterly Report on Form 10-Q contains forward-looking statements within
the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the
Securities Exchange Act of 1934, including statements that contain the words
"believes," "anticipates," "expects," "plans," "intends," and similar words and
phrases. These forward-looking statements are subject to risks and uncertainties
that could cause actual results to differ materially from the results projected
in any forward-looking statement. In addition to the factors specifically noted
in the forward-looking statements, other important factors, risks and
uncertainties that could result in those differences include, but are not
limited to, those discussed under Item 1A to Part I "Risk Factors" in the Form
10-K. The forward-looking statements are made as of the date of this report and
we assume no obligation to update the forward-looking statements, or to update
the reasons why actual results could differ from those projected in the
forward-looking statements. Investors should consult all of the information set
forth in this report and the other information set forth from time to time in
our reports filed with the SEC pursuant to the Securities Act of 1933 and the
Securities Exchange Act of 1934, including the Form 10-K.
Overview
We offer a state-of-the-art digital publishing platform. We use this platform to
power our consumer-facing mobile personalization app, called Zedge, available in
the Google Play store and iTunes, which offers an easy, entertaining and
immersive way for end-users to engage with our rich and diverse catalogue of
wallpapers, video wallpapers, stickers, ringtones, notification sounds on
Android and wallpapers, video wallpapers and ringtones, on iOS. We are evolving
by developing new, entertainment-focused apps, that will run on our publishing
platform. We secure our content from artists, both amateurs and professionals as
well as emerging and major brands. Artists have the ability to easily launch a
virtual storefront in our Zedge app where they can market and sell their content
to our user base.
Our Zedge app has been installed more than 409 million times, and at October 31,
2019, boasted nearly 30 million monthly active users, or MAU. Our Zedge app has
consistently ranked as one of the most popular free apps in the Google Play
store in the United States. MAU is a key performance indicator that captures the
number of unique users that used our Zedge app during the previous 30-day
period. Historically, we have not made a material investment in paid user
acquisition for our Zedge app.
Our Zedge app's success stems from its ability to meet consumer demand for a
rich and diverse catalogue of both long-tail and popular content in a fun,
intuitive and user-friendly fashion that aligns with their interest in
expressing their essence in a bespoke manner, to offer reliable search and
discovery capabilities and to make relevant content recommendations to our
users. To this end, we invest heavily in both product design and development and
the underlying technology required to satisfy both our Zedge app's users' and
content contributors' expectations. Our Zedge app utilizes both user-generated
and licensed, third-party content to achieve these goals.
In March 2018, we launched Zedge Premium, a marketplace within our Zedge app
where professional creators and brands market, distribute and sell their digital
content to our consumers. Since launching Zedge Premium, we have made and
continue making material investments in optimizing our app's homepage design in
order to maximize exposure to premium content with the goal of driving sales.
Over time, we expect that Zedge Premium will contribute to a virtuous cycle
whereby it drives new consumers into our Zedge app resulting in more artist
payouts, which in turn makes the platform more attractive for artists and brands
looking to expand their reach and increase their income. In September 2017, we
closed a transaction with Freeform Development, Inc., or Freeform, and retained
their development personnel in order to accelerate the launch and development of
Zedge Premium.
In January 2019, we started offering freemium Zedge app users the ability to
convert into paying subscribers for amongst other things the ability to remove
unsolicited advertisements from our Zedge app. As of October 31, 2019, we
amassed 198,000 active subscribers. In fiscal 2020, we hope to further optimize
the offer based on user type, geography and price point as well as introduce new
subscription enhancements like content bundles and rewards.
15
As of October 31, 2019, approximately 53% of our Zedge app's user base was
located in North America and Europe, evenly split between the regions. Over the
past several years, we have experienced a shift in our regional customer make-up
with MAU increasing in emerging markets and decreasing in well-developed
markets. In the first quarter of fiscal 2020, users in emerging markets and
well-developed economies declined by 4.6% and 28.4% respectively when compared
to the same period in fiscal 2019. The downward trajectory in MAU was
exacerbated by Google Play temporarily suspending our app from their store in
late September and recommending that users uninstall the app when Google Play
Protect detected buggy code in a standard technology integration with one of our
third-party advertising partners.
This shift has negatively impacted revenue generation because well-developed
markets command materially higher advertising rates when compared to emerging
markets. MAU growth is tightly coupled with securing new users. Historically,
our high ranking in the Google Play store has been one of the primary drivers
for securing new users. Although still an important factor, we have started
dedicating resources to growth initiatives, both organic and paid. With time, we
believe that we can change our growth dynamic in well-developed markets. Aside
from targeted growth initiatives, we need to continually improve the core user
experience, test different mechanisms and content verticals that may spur growth
and capitalize on the role that Zedge Premium artists can have on driving new
users into the platform.
During the most recent quarter ended October 31, 2019, we generated more than
80% of our revenues from selling our Zedge app's advertising inventory to
advertising networks, advertising exchanges, and direct arrangements with
advertisers. Advertising networks and advertising exchanges are third-party
technology platforms that facilitate the buying and selling of media advertising
inventory from multiple ad networks. The price of advertising inventory is fixed
on an advertising network whereas the price for inventory is determined through
real-time bidding on an advertising exchange. Advertisers are attracted to our
Zedge app because of its sizable user base.
The remainder of our revenues were primarily generated from managing and
optimizing the advertising inventory of a third-party mobile application
publisher, as well as overseeing the billing, collections and reporting related
to advertising for this publisher. The agreement with this mobile application
publisher was terminated effective May 31, 2019, and we are no longer providing
these services.
Zedge Premium is our marketplace in the Zedge app where artists and brands can
market, distribute and sell their digital content to our users. The content
owner sets the price and the end user can purchase the content by paying for it
with Zedge Credits, our closed virtual currency. A user can earn Zedge Credits
when taking specific actions such as watching rewarded videos or completing
electronic surveys. Alternatively, users can buy Zedge Credits via an in-app
purchase. If a user purchases Zedge Credits, Google Play or iTunes keeps 30% of
the purchase price with the remaining 70% being paid to us. When a user
purchases Zedge Premium content the artist or brand receives 70% of the actual
value of the Zedge Credits used to buy the content item and we retain the
remaining 30% as our fee, which we recognize as Other Revenue. Some of the Zedge
Premium content is available for print-on-demand merchandise. When a user
purchases a print-on-demand item, the artist or brand is paid 70% of the net
profit, after accounting for cost-of-goods sold, shipping and handling, credit
card processing and related costs, and we recognize Other Revenue from the
remaining 30%. As Zedge Premium matures and expands, we expect it to also
diversify our revenue source mix. The print-on-demand feature is being phased
out in December 2019.
In January 2019, we started testing a subscription-based product on Android,
whereby users of our Zedge app can prepay a monthly or yearly fee to amongst of
things remove unsolicited ads when using our Zedge app. The initial results were
positive and, in the third quarter of fiscal 2019, we scaled the offering for
our entire Android user base. We offer our Zedge users a choice of a monthly or
yearly subscription sold through the Google Play store. For paid subscriptions
sold through the Google Play store, the subscriber executes a clickthrough
agreement with us outlining the terms and conditions between us and the
subscriber upon purchase of the subscription. The Google Play store processes
payments for paid subscriptions, and retain up to 30% as a fee. Subscription
revenue is a series type performance obligation and is recognized net of sales
tax amounts collected from subscribers. Both monthly and yearly paid
subscriptions are nonrefundable after seven days, and are automatically renewed
at expiration date unless cancelled by subscribers. Because of the cancellation
clauses for these paid subscriptions, the duration of these contracts is daily,
and revenue for these contracts is recognized on a daily ratable basis. To date,
cancellation rates have been insignificant. As of October 31, 2019, there were
close to 198,000 active paid subscriptions, consisting of mostly yearly paid
subscriptions. From inception through November 30, 2019, paid subscriptions have
generated more than $1 million in gross revenue.
16
Critical Accounting Policies
Our consolidated financial statements and accompanying notes are prepared in
accordance with accounting principles generally accepted in the United States of
America, or U.S. GAAP. Our significant accounting policies are described in Note
1 to the consolidated financial statements included in the Form 10-K. The
preparation of financial statements requires management to make estimates and
assumptions that affect the reported amounts of assets, liabilities, revenues
and expenses as well as the disclosure of contingent assets and liabilities.
Critical accounting policies are those that require application of management's
most subjective or complex judgments, often as a result of matters that are
inherently uncertain and may change in subsequent periods. Our critical
accounting policies include those related to capitalized software and technology
development costs, revenue recognition and goodwill. Management bases its
estimates and judgments on historical experience and other factors that are
believed to be reasonable under the circumstances. Actual results may differ
from these estimates under different assumptions or conditions. For additional
discussion of our critical accounting policies, see our Management's
Discussion and Analysis of Financial Condition and Results of Operations in the
Form 10-K.
Recently Issued Accounting Standards Not Yet Adopted
Recently issued accounting standards not yet adopted by us are more fully
described in Note 14 to the Consolidated Financial Statements included in Item 1
to Part I of this Quarterly Report on Form 10-Q.
Recent Developments
In late November 2019 we launched 'Shortz - Chat Stories by Zedge' for Android
users in the United States, United Kingdom, and Canada. Shortz is a new
entertainment app offering serialized, short-form fiction delivered in a
text-message format. We expect to launch an iOS version of this app in the next
several weeks. Shortz follows a freemium subscription model where prospective
users will be able to sample the first chapter of a story for free. If they like
the experience, they will be given an opportunity to sign up for a paid weekly,
monthly, or annual subscription.
On December 9, 2019, we filed with the SEC a Registration Statement on Form S-3
registering shares of the Company's Class B common stock and/or warrants to
purchase shares of Class B Common Stock, with an aggregate value of up to $5.0
million.
Results of Operations
Three Months Ended October 31, 2019 Compared to Three Months Ended October 31,
2018
Three months ended
October 31, Change
2019 2018 $ %
(in thousands)
Revenues $ 2,033 $ 2,381 $ (348 ) -14.6 %
Direct cost of revenues 328 350 (22 ) -6.3 %
Selling, general and administrative 1,945 2,309 (364 ) -15.8 %
Depreciation and amortization 505 303 202 66.7 %
Loss from operations (745 ) (581 ) (164 ) 28.2 %
Interest and other income - 7 (7 ) -100.0 %
Net loss resulting from foreign exchange
transactions (56 ) (129 ) 73 -56.6 %
Provision for income taxes - 3 (3 ) -100.0 %
Net loss $ (801 ) $ (706 ) $ (95 ) 13.5 %
nm-not meaningful
Revenues. Revenues declined 14.6% from $2.38 million to $2.03 million in the
three months ended October 31, 2019 compared to the same period in fiscal 2019.
The decline in revenues were primarily due to the combination of a shift in the
makeup of our user base from well-developed markets that command relatively
higher advertising rates to emerging markets, and the loss of service revenue
from managing and optimizing the advertising operation of a third-party mobile
application publisher since June 1, 2019. This decline was partially offset by
increased revenue from Zedge Premium and paid subscriptions, both of which
remain in early stages and will take time to reach their full potential. Revenue
increased 4.3% sequentially from $1.95 million to $2.03 million, primarily
attributable to improving monetization schemes that resulted in higher eCPM
(Effective Cost per Mille), continued focus on driving paid subscription growth
and incremental revenue from forfeiture of expired Zedge Credits.
Our MAU, or unique users that opened our app during the last 30 days of the
quarter, in well-developed markets and emerging markets declined 28.4% and 4.6%
respectively in the three months ended October 31, 2019 compared to the same
period in fiscal 2019. Overall, MAU fell 14.2 % to 29.7 million at October 31,
2019 from 34.6 million at October 31, 2018, primarily as a result of buggy code
in a standard technology integration with one of our third-party advertising
partners resulting in Google Play temporarily suspending our app from their
store in late September and recommending that users uninstall the app.
17
Notwithstanding the geographical shift and the decline in our overall MAU,
revenue per monthly active user or ARPMAU, from our apps remain essentially flat
at $0.0210 in the three months ended October 31, 2019 compared to the same
period in fiscal 2019. This can be attributable to the higher margin
subscription revenue which has been our focus for growth in calendar 2019 as
well as other growth initiatives under way including, among other things,
unlocking more value from our users in emerging markets.
We completed the rollout of Zedge Premium in March 2018 to a certain segment of
our Android user base and we expanded it to 100% of our Android user base in
January 2019. In the three months ended October 31, 2019 gross transaction value
(the total sales volume transacting through the platform, or "GTV") and net
revenue generated from Zedge Premium were $192,000 and $159,000 respectively.
Net revenue included approximately $80,000 of breakage related to expired Zedge
Credits which we recorded for the first time in October 2019. We are likely
going to see a short-term to medium-term decline in GTV and associated Zedge
Premium revenue due to the recent redesign of the app's homepage which
prioritizes Shortz promotion ahead of Zedge Premium. However, we expect to
offset the revenue impact due to an anticipated increase in advertising revenue
resulting from more inventory being available on the new homepage.
In January 2019 we started offering an option by which users can remove
unsolicited advertisements from our Zedge app by paying a fee. Although still in
its early stage, we generated $341,000 in gross subscription sales in the three
months ended October 31, 2019 and recognized $207,000 in revenue in the same
period. We had close to 198,000 active subscription accounts as of October 31,
2019.
We continue to focus on topline growth strategy by testing new monetization
drivers including a variety of ad units, merchandising, coin sales as well as
certain growth initiatives such as improved content recommendations, sharing and
co-creation in order to increase revenues.
Our install count, that is the number of times the Zedge app has been installed
on devices, increased to 409.0 million at October 31, 2019 from 351.3 million a
year ago.
Direct cost of revenues.Direct cost of revenues decreased by $22,000 or 6.3% in
the three months ended October 31, 2019 compared to the same period in fiscal
2019 primarily attributable to the migration of our backend infrastructure to
cloud-based providers. As a percentage of revenue, direct costs in the three
months ended October 31, 2019 were 16.1% compared to 14.7% for the same period
in fiscal 2019. Due to the fixed cost nature of many elements of our direct cost
of revenues, the decline in revenue resulted in the increase in direct cost as a
percentage of revenue.
Selling, general and administrative expense. Selling, general and administrative
expense ("SG&A") consists mainly of payroll, benefits, facilities, marketing,
content acquisition and consulting, professional fees, software licensing
("SaaS") and cost related to being a public company. SG&A expenses decreased by
$364,000 or 15.8% in the three months ended October 31, 2019 compared to the
same period in fiscal 2019. This increase was primarily attributable to
reductions in compensation costs, recruiting fees, legal expense and auditing
fees offset by higher marketing costs associated with the approximately 30% fee
we pay to Google for each paid subscriber, severance payments and content
acquisition expense associated with 'Shortz' which was launched in late November
2019. As the majority of our employees are based in Norway, a stronger U.S.
Dollar against NOK also contributed to the overall decline of SG&A in the three
months ended October 31, 2019 when compared to the same period in fiscal 2019.
Our headcount totaled 45 as of October 31, 2019 compared to 57 as of October 31,
2018. The decrease in headcount can be attributable the workforce reduction plan
we implemented in May 2019.
Stock-based compensation expense was $98,000 and $121,000 for the three months
ended October 31, 2019 and 2018, respectively. Certain stock options, deferred
stock unit and restricted stock grants are more fully described in Note 6 to the
Consolidated Financial Statements included in Item 1 to Part I of this Quarterly
Report on Form 10-Q.
Depreciation and amortization. Depreciation and amortization consist mainly of
amortization of capitalized software and technology development costs of our
internal developers on various projects that we invested in specific to the
various platforms on which we operate our service. The increase in depreciation
and amortization in the three months ended October 31, 2019 compared to the same
period in fiscal 2019 was primarily attributable to the completion of seven
projects with an aggregate value of $1.4 million completed during the
twelve-month period ended October 31, 2019. We started amortizing these
capitalized software and technology development costs once these projects were
completed.
Net loss resulting from foreign exchange transactions. Net loss resulting from
foreign exchange transactions is comprised of gains and losses generated from
movements in NOK relative to the U.S. Dollar, including gains or losses from our
hedging activities. In the three months ended October 31, 2019 and 2018, we had
losses of $56,000 and $129,000 respectively, including losses from hedging
activities.
18
Provision for income taxes.The decrease in the provision for income taxes in the
three months ended October 31, 2019 compared to the corresponding period in
fiscal 2019 was primarily due to the jurisdiction in which the loss was incurred
in the three months ended October 31, 2019 compared to the same period in fiscal
2019 and our ability to utilize net operating losses the Company holds in those
jurisdictions.
As part of the Tax Cuts and Jobs Act of 2017, Global Intangible Low-Taxed Income
inclusion (GILTI) and Foreign Derived Intangible Income (FDII) deduction became
effective on January 1, 2018. There was no impact to income tax expense
resulting from the GILTI and FDII in light of the Company's available NOL carry
forward and its full valuation allowance.
Liquidity and Capital Resources
General
At October 31, 2019, we had cash and cash equivalents of $1.7 million and
working capital (current assets less current liabilities) of $0.5 million,
compared to $1.6 million and $1.2 million, respectively at July 31, 2019. We
currently expect that our cash and cash equivalents on hand, and our cash flow
from operations will be sufficient to meet our anticipated cash requirements for
the twelve months ending October 31, 2020. We also maintain a revolving line of
credit of up to $2.5 million and a foreign exchange contract facility of up to
$6.5 million with Western Alliance Bank, as discussed below in Financing
Activities.
The following tables present selected financial information for the three months
ended October 31, 2019 and 2018:
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ZEDGE, INC. 
