Blend Labs, Inc.

Good afternoon and welcome to Blend's second quarter 2022 earnings conference call. My name is Crystal Sumner, head of legal compliance and risk for the company. With me today are Nima Gamsari, co-founder and head of Blend, Tim Miopoulos, president, and Mark Greenberg, head of finance. After Nima and Mark deliver their prepared remarks, the team will take questions. You can find the supplemental slides on our investor relations webpage at investor.blend.com. During the call, we will refer to certain non-GAAP measures which are reconciled to GAAP results in today's earnings release and in the appendix to our supplemental slides. Non-GAAP measures are not intended to be a substitute for GAAP results. Also, certain statements made during today's conference call regarding Blend and its operations may be considered forward-looking statements under federal securities laws. The company cautions you that forward-looking statements involve substantial risk and uncertainties, and a number of factors, many of which are beyond the company's control, could cause actual results, events, or circumstances to differ materially from those described in these statements. Please see the risk factors we've identified in our most recent 10-K, 10-Q, and other SEC filings. We are not undertaking any commitment to update these statements if conditions change except as required by law. I'll now turn the call over to Nima.

Thank you, Crystal, and good afternoon, everyone. Thank you for joining us. I'll cover three things today. First, I'll highlight our Q2 results and business trends, which are reinforcing Blend's underlying growth thesis. Second, I'll lay out our plan for realigning our cost structure and positioning Blend for future profitability. And third, I'll speak to key trends in our business and how we'll continue to win going forward. Starting with Q2 results, we continue to see strong top-line performance, with revenue at $65.5 million for the quarter. We grew our blend platform revenue by approximately 5% year-over-year against a 37% mortgage market volume decline in the same period. we're continuing to increase our share of funded loan volume even during the current market reset. Additionally, within our consumer banking and marketplace segment, we saw revenue grow by over 50% this quarter as opposed to the same period last year, and we have seen an increase in the number of banking transactions every quarter since we launched. On the title front, we are making progress by migrating customers from traditional title to our software-enabled blend title solution. Notably, we went live with Mr. Cooper and our blend title solution this quarter, I want to quickly call out the impairment charge we recognize on Title 365 in our results today. While this is a non-cash charge, it is clearly a significant number. This business was purchased during a much more robust economic and mortgage refinance environment. In light of current market challenges, we performed an assessment of goodwill and intangible assets within the Title 365 reporting unit and have recognized an impairment charge. Title 365 has strategic value to Blend and remains a leader in its business. Having Title on the Blend platform enables us to deliver vertically integrated mortgage and home equity solutions. Title 365 is filling that role and accelerating our path to this objective. Overall, our second quarter revenue and metrics represent continued progress against transforming this industry. I want to be clear that I'm very confident in Blend's long-term opportunity as a result of this progress. That being said, we know there are many things we can do better as a business, starting with our cost structure. As we said last time, we have undertaken a comprehensive view of our P&L in light of the change in market conditions. Today, we'll share our plans, our targets for cost alignment, and what the long-term operating model for the company will look like. The headlines are, first, we are operating the company prudently as if mortgage industry unit volumes will remain at or near historic lows through 2025. Despite this, we expect to achieve positive free cash flow during that time. Second, along the way, we plan to reduce our non-GAAP net operating loss by 50% from current levels by the end of 2023. And third, we believe we can achieve these goals with our current capital base, which includes $475 million in liquidity at quarter end, inclusive of our $25 million on drawn line of credit, while reserving options to manage our capital structure opportunistically going forward. Our plans include specific targeted ranges for gross margin and for the primary components of operating expenses. I'll let Mark walk through those details shortly. But first, I'd like to give an overview of the key initiatives we're undertaking. Our first and most immediate lever is our cost of labor. Since April, we have eliminated over 400 positions, or 25% of our workforce, including the elimination of backfills. We should see the full impact of these actions by Q1 2023. In aggregate, both actions are expected to reduce our annualized expenses by approximately $60 million. We will continue to monitor and adjust this cost base as market conditions warrant. We have also significantly limited hiring, focusing on the most important positions for the company. Our second lever is offshoring. Through our acquisition of Title365, we expanded our geographic reach to India, home to two full-scale operational hubs that currently support our title business. We believe our India operations provide a foundation that can support the entirety of Blend, and work is already underway to streamline our corporate support functions and shift work where we historically relied on third-party vendors. Third, we are taking decisive steps to achieve near-term cost efficiencies in non-personnel spending across our products and corporate functions. These steps include consolidating third-party vendor spend across tools, services, and partnerships, as well as driving down deployment costs and shortening deployment windows through bundling, moves which can drive efficiencies for both Blend and our customers. Our fourth lever, and one of the big long-term ones, is product prioritization and increased rigor around return on investment. We are prioritizing product lines that we believe can deliver ROI on a relatively short time horizon. We are emphasizing solutions that are high value to our customers and that reflect our assessment of customer needs and demands over the next 12 months. We will be disciplined in measuring success and flexible in allocating capital as return potential dictates. While I fully anticipate this initiative will make us more disciplined in our R&D programs, I also want to be clear that we will continue to invest in sustaining and adding value to our key products to ensure we are growing and deepening our customer relationships for the long term. Our goal across all of these cost reduction efforts and investment initiatives is to make blend stronger for the long term to not only sustain us during this tough period, but well into the market rebound. The benefits of the changes we are making will not arrive in a linear fashion, but we commit to keeping you posted on progress towards the headline goals I shared earlier. In addition to our cost structure plan, we are focused on top line growth. Our growth is inextricably linked to that of our customers, and I think about our growth drivers parallel to the customer journey with Blend as we deploy, deepen, and broaden our suite of products. In Q2, we reported gross revenue retention of 99%, roughly in line with 98% in Q1, and market adjusted net revenue retention of 164%, up from 159% in Q1. Additionally, we have a healthy pipeline of customers who have signed but have yet to deploy, so there are built-in revenue opportunities that we have good visibility on. Our differentiated mortgage product allows us to win customers in this tight margin environment. One recent example is PNC Bank, one of the largest diversified financial institutions in the U.S., which went live with our mortgage solution in Q2 in under six months from signing, and work is underway to launch our closed product as well. In addition, because we continue to add value to our platform on a regular basis, we are able to responsibly raise prices with our customers. We're seeing consistent quarterly uplifts in pricing per transaction. Specifically, we've seen more than half of our renewals in Q2 at higher rates because of the value we continue to add to our platform on a regular basis, which adds value to our customer base. Within our consumer banking marketplace segment, we grew revenue 53% year-over-year in Q2 and remain on pace with our plans to double this business in 2022 as compared to 2021. We are seeing customers start with mortgage but stay for our end-to-end platform solution. At the end of the second quarter, 71% of customers used multiple blend solutions, reflecting an increase from 59% in the prior year. Notably, our income verification and closed solutions are in high demand, and we're seeing significant growth in our home equity suite as that market heats up. Putting this all together, we are making progress, and we are strengthening Blend for the long term. However, 2022 forecasted mortgage industry volumes have come down materially since we released our initial guidance in March. Despite that, we've only brought down our blend platform outlook modestly, reflecting both our outperformance relative to industry declines and the growth we are seeing in our home equity offering. Overall, this guidance change for blend platform is offset by a like-for-like increase in title revenue in light of better-than-expected performance on that side due to home equity and default business. Mark will provide more details on our guidance update in a few minutes. To summarize, we remain optimistic in our ability to execute and deliver another solid revenue quarter as we continue to grow market share. We plan to continue to optimize our cost structure, streamline our support functions, and prioritize products that generate near-term ROI, such that we can generate free cash flow under a prolonged market reset. And we are positioning ourselves as a category creator as we continue to drive innovation through our software solution for digital banking. I want to end by saying that at Blend, we're playing to win and we're playing to win big. We are not playing to avoid losing. There's a once-in-a-lifetime industry transformation happening right now. Most banking products are still analog and processed in a manual way by humans. They lack a modern software stack that works across the bank to deepen relationships with their customers at a lower cost. We believe the lenders and banks who adopt our technology will come out the other side winners. That's our role in the industry as a trusted partner to hundreds of financial institutions across the country. And so we're going to continue to play to win. Thanks. And now let me turn it over to Mark.

Thanks, Nima. Good afternoon, everyone. I'll walk through our financial results and provide context in the following order. First, I'll start with a recap, including how we're performing in this mortgage cycle. Second, I'll provide more color in our recent plan and future efforts to reduce our cost structure as part of our broader capital management strategy. And last, I'll provide context around our guidance revision and how we expect to see trends unfolding for the rest of the year. Then we'll open up for questions. Let's start with the highlights from Q2. Our results reflect continued outperformance in mortgage banking relative to the industry and solid growth in our consumer banking and marketplace offerings offset by declines in the legacy title business. Total revenues for the quarter were $65.5 million. Blend platform segment revenue was $33.6 million, notably up about 5% year-on-year, despite a 37% decline in mortgage originations volume in the same period. Title III 65 segment revenue was $31.9 million. Shifting to consumer banking and marketplace, we achieved revenue of $8.5 million this quarter, up from $5.6 million or 53% as compared to the prior year period. Year on year, total consumer banking transactions grew by approximately $138,000 to approximately $215,000 in Q2, supporting in particular the increase we observed in our home equity revenue as compared to the prior quarter. Closing up the revenue discussion, we recognize $1.2 million in professional services revenue. Moving to gross profit, Q2 non-GAAP gross profit was approximately $25.8 million, up from $19.9 million in the prior year period. Current period non-GAAP gross profit includes $20.6 million attributable to Blend Platform and $5.2 million to Title 365. Products like Blend Income, Blend Close, and Blend Title are lower margin than some of our other product lines, and as those products ramp up, but before they get to scale, our aggregate margins will be diluted. We expect our medium-term non-gap Blend Platform gross margins to be in the low 60% range. Non-GAAP operating expenses for the second quarter totaled $65.3 million compared with $46.2 million in the prior year, which is primarily attributed to increased costs associated with Title 365. Keep in mind when comparing year over year that last year's Q2 was our final quarter without many expenses associated with operating as a public company. As you can see in our financial supplement, our non-GAAP loss from operations was $39.5 million versus $26.3 million in the prior year. This quarter, we also recognized approximately $392 million non-cash charge to reflect impairment of Title 365 goodwill and intangible assets driven by a decline in the fair value of the Title 365 reporting unit. Now turning to our balance sheet. Our cash, cash equivalents, and marketable securities on June 30th totaled $450 million. Our $25 million revolving line of credit remains undrawn. We believe we have ample runway and liquidity in light of the cost reduction efforts we've outlined today, noting that our $225 million term loan does not come due until 2026. Further, as Nima noted, we have additional cost levers to pull depending on the depth and severity of the mortgage banking downturn, and we will be opportunistic when it comes to improving our capital position. As Nima highlighted at the top of the call, we're introducing a number of operating improvement initiatives with clear objectives that define our path to positive free cashflow and ultimately profitability. That plan has started with our two announced workforce reductions. The second in August included approximately 220 positions, which when taken together with our actions in April affected over 400 positions and approximately 25% of our pre-reduction workforce. Layering in the April reduction, These eliminated positions represent annualized compensation expenses of over $60 million. While a majority of the reductions were in Title 365, where our needs are reduced both due to anticipated lower refi volumes near term and our migration of legacy Title 365 customers to BlendTitle, we also undertook significant reductions in parts of our general and administrative operations. We expect cost savings associated with the RIFs to materialize starting in Q1 2023. As Nima mentioned, we're also undertaking a transition of business processes and corporate support to India, and that work is already underway. As we expand our capabilities in India, we'll be able to share more detail on future calls. What I can share today, however, is the progress we've been making on reducing our vendor expenses. We are reducing our vendor spend by at least $6 million per quarter in 2023. We're achieving this through the continued maturation of processes in G&A, commercial operations, and cloud operations. we're also moving some work in-house and moving it offshore. And we're reducing the number of vendors we have and simplifying where we can, and we're undertaking more robust negotiations with those we decide to retain. When complete, we believe the steps we're taking will significantly impact our current model as we move towards profitability. As we execute towards profitability in the medium term, this is directionally where we expect costs as a percent of revenue to land. We expect G&A expense to be reduced a further 20% in 2023 with a medium-term operating goal to get G&A to the low teens as a percentage of annual revenue. We're also targeting sales and marketing expense to land in the 20s as a percentage of revenue in the medium term, though there is a wider range of outcomes here depending on the pace of and opportunity for revenue growth, noting that commission sales fall into this bucket. And finally, we expect R&D expense to be in the high teens to low 20s on our road to profitability. I want to emphasize what Nima said earlier, and that is we are operating the company to achieve positive free cash flow under the assumption that mortgage industry unit volumes will remain at or near historic lows through 2025. We're in the early stages of executing on this plan, so the composition within our operating expense lines may shift over time and may not be linear. I also want to touch on gross margins. Especially in challenging and uncertain markets like this, our product offers customers a cost-competitive advantage to in-house development that is best in class. As our product matures and we continuously enhance our offering, our incremental value has outpaced the price we charge. In addition to applying discipline and increasing scale to drive our cost to deliver even lower, we are taking steps to ensure our pricing is reflective of the full cycle value we offer to our customers. As Neha mentioned, we've seen more than half of our renewals in Q2 at higher rates. we expect this trend to persist. As a result, we're targeting medium-term blend platform gross margin in the mid 60% range. This may seem below some of the current targets of our software peers. However, our platform gross margins will be determined by shifting mix across our growing product suite. We have some very high gross margin products and some that will carry lower margins, like income verification. These products are strategically important and a reliable source of significant incremental gross profit dollars at scale. Of course, cost reduction is only half of the margin equation. As Nima highlighted, we continue to see growth drivers that reinforce market share gains within mortgage, ongoing revenue diversification led by consumer banking and marketplace, and the opportunity to responsibly increase prices as we deliver greater value to our customers. To summarize, we're taking immediate steps to reduce and manage our personnel spend. We're taking immediate steps to reduce and manage our third-party vendor spend. We are planning further efficiencies through offshoring, and we are taking concrete steps to prioritize profitable revenue growth. NEMA shared a goal of exiting 2023 with our non-GAAP net operating loss reduced to 50% of current levels. This is how we plan to achieve it. I'll wrap up now with 2022 guidance and our near-term outlook. In light of prevailing market conditions, we have adjusted our 2022 revenue guidance for the Blend platform down by $5 million, while raising the 2022 revenue guidance for the Title 365 segment up by $5 million. We are affirming our full year guidance range of between $230 and $250 million in consolidated revenue in 2022 with between $135 and $145 million in the blend platform segment. On the Title 365 side, we're raising our guidance range of $90 to $100 million to $95 to $105 million largely attributed to the outperformance of our default and home equity products within that segment, which is expected to offset the decline in origination title volume. While this inflationary environment and market reset presents challenges, we remain focused on things that are within our control. This includes meaningfully reducing our cash burn through aligning our operating structure with current market volume, streamlining processes, increasing our operational efficiency across the company, and adopting a capital efficient growth model for the near term. This also means narrowing the scope of our strategic priorities while continuing to grow penetration of our platform in the market. Wrapping up, the first half of 2022 has been a challenging one for the industry, but we remain optimistic about our cost, revenue, and growth drivers that are within our control. With that, I'd like to thank you for joining us. Crystal, we are now ready for questions.