Skillz Inc.

Good afternoon, all. I would like to welcome you all to Skills Incorporated 2024 First Quarter Results Call. My name is Elliot, and I'll be your moderator for today's call. If you would like to register a question during today's event, please press star followed by one on your telephone keypad. And I'd like to pass the conference over to your host, Jim Leahy, from JCIR, to begin. So, Jim, please go ahead.

Good afternoon, and welcome to the Skills 2024 First Quarter Earnings Conference Call. On the call today are Andrew Paradise, Skillz co-founder and CEO, Casey Chapkin, co-founder and CSO, and Gitano Franceschi, CFO. This afternoon, Skillz issued its earnings release reporting preliminary unaudited first quarter results, which is available on the company's investor relations website. The company is in the process of completing its unaudited interim financial statements and other disclosures for the fiscal quarter ended March 31st, 2024. Accordingly, we are announcing preliminary results for the first quarter, which are based on currently available information, and are subject to revision as management completes its internal review. Our independent registered public accounting firm has not finalized its review of these preliminary financial results. In the event the company determines it will not file its quarterly report on Form 10Q by the prescribed deadline, it will file an extension on Form 12B-25 at the Securities and Exchange Commission. In addition, the company is still in the process of completing its financial statements and other disclosures for the fiscal year ended December 31, 2023. We were not able to file our Form 10-K during a requisite extension period. As a result, we previously announced we received a notice from NYSE that the company was not in compliance with NYSE listing standards. The company is working diligently to complete the necessary work to file the Form 10-K as soon as practicable and currently expects to file the Form 10-K within the six-month period granted by the NYSE notice and intends to take all necessary steps to achieve compliance with applicable NYSE listing standards as soon as practicable. Because the results for the quarter and last year are preliminary and still subject to review and audit by our independent registered public accounting firm, Actual results may differ from these preliminary financial results and other financial information due to the completion of our internal procedures, final adjustments, and other developments that may arise between now and the time the results are finalized. Before I turn the call over to Andrew, please note that some of management's comments today will include forward-looking statements within the meeting of 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 conditions. During the call, management will discuss non-GAP measures, which it believes can be useful in evaluating the company's operating performance. These measures should not be considered in isolation or as a substitute for the company's financial results prepared in accordance with GAP. The reconciliation of these measures to the most directly comparable GAP measures is available in the company's first quarter 2024 earnings release. With that, I'll turn the call over to Andrew for some opening remarks, followed by Gattato for a discussion of the company's financial performance before we open the call for questions.

Before I review the progress we've made on our four strategic pillars, I want to share some comments on the significant strides we're making related to key litigation matters and our Fair Play initiative. As you know, our proprietary platform provides certainty that every player is fairly matched against another real player. That is the foundation of competition and a critical tenant of skill-based gaming. Unfortunately, companies such as ABA Games, and we believe Papaya Gaming, do not follow ethical fairness practices and utilize bots to deceive players, often matching their consumers against bots instead of against real opponents. We previously reported that a jury awarded Skills approximately $43 million in our patent infringement case against ABA Games, Subsequent to this jury award, Skittles and Big Run Studios entered into a settlement agreement with AVA Games for a total of $80 million, which is almost twice the jury award. We received the first cash payment of $50 million for this settlement as of the end of April. Beginning next year, Skittles will receive $7.5 million for licensing royalty payments annually for four years. Let me be absolutely clear. The settlement does not end our fight to eliminate bots that defraud consumers in our industry. The evidence that came out of the Avia Games trial shows what we believe is a willful pattern of deceit by Avia Games and its executives. Avia Games tried to mask the usage of bots in their internal documents by referring to them as cucumbers and guides. But the evidence presented in court clearly showed the presence of bots in their code. In fact, the word bots and robots appeared thousands of times in Adia's documents. More specifically, the evidence revealed different types of bots created to lure players in and keep them playing and paying. Shark robot, comfort robot, induction robot, and cash robot are just a few of the bot types Adia Games engineered and based on evidence to ensure the match outcome they desired. Evidence further indicated that the so-called shark robot is deployed to take a player's money when the player's winning too much. Comfort robot is used to give them a little win to keep them going if they were on a losing streak. The evidence presented at trial shows ABA Games employees knew what they were doing was wrong. Internal emails highlighted, and I quote, quote, on a certain level, it can be said that bad money drives out good money, quote. And that, quote, the skills listed company will not dare to use bots, quote. And, quote, no wonder their stock is down, quote. Aviate Games documents show that even the most senior members of Aviate Games' finance team were unsure how to attribute revenue coming from these bots. We believe this evidence is damning. and is now part of the public record. But perhaps most concerning for our industry, as I address you today, is that Aviagames is still operating as normal in the app stores. They are still using bots this very second to take consumers' hard-earned money. Aviagames is not the only company we understand is using bots in this way, which is why we will do everything in our power to help stop these dishonest practices. While our settlement is in the interest of our shareholders, the $80 million is just a drop in the bucket in comparison to the magnitude of the fraud we believe is being perpetrated on American consumers daily. Winning this first case was a big milestone, but we're far from done in our fight to uphold fair play and protect consumers from what we believe is fraudulent inducement, misrepresentation, and the outright theft of billions of hard-earned dollars. We're 100% committed to this effort and believe that in addition to the trial verdict already won and subsequent settlement, we will prevail in some more circumstances in the future, while at the same time eliminating bad actors from the gaming industry. In addition to AVIA Games, we're in the early stages of the lawsuit we filed in March against Papaya alleging fraudulent use of bots. We also note that class action lawsuits have already been filed against AVIA Games and Papaya, We're hopeful that the government authorities, if they're listening out there, will take note of skills progress in identifying fraudulent use of bots in this industry and take action to protect consumers. As we uncover proof of fraudulent use of bots at any company in this industry, we intend to initiate additional actions to help protect both our company, our industry, and our consumers. Our goal isn't to reduce competition. but rather to ensure a level playing field where all companies in our industry maintain the same level of commitment to providing a transparent and fair player experience. Skills will continue to combat the deceptive usage of bots until systemic fraud in our industry is eliminated. Creating a fairer future in gaming is good for consumers, our industry, as well as for skills. Since we're the leading company that doesn't engage in consumer bought fraud, we anticipate the elimination of this practice will dramatically change LTV to CAC to our benefit, which would greatly accelerate the turnaround of our business. It's also important to note that our expectations for achieving positive adjusted EBITDA by late this year are not contingent on our legal activities. Our path to achieving this goal is in our control and will be determined by the success of our turnaround initiatives. Turning now to the business performance in Q1. Progress continues to be made on our four key pillars for returning skills to consistent top-line growth and positive adjusted EBITDA. Enhancing our platform to improve customer and developer engagement and retention, up-leveling the organization, go-to-market initiatives, and positioning skills for a path to profitability. With that said, we have some near-term challenges in Q1 which mask some of the progress. We know the progress on our turnaround initiatives will take time, and it won't always be linear every quarter, particularly in a period such as Q1 where we implemented several new initiatives. That said, our ability to make further progress in improving retention, engagement, monetization, and increasing our audience was not optimized in Q1. This is evident in our paying users for the quarter, with paying now declining to 121,000 in Q1 2024 from 137,000 in Q4 2023. While this rate of sequential decline is significantly less than the sequential rate of decline from Q3 2023 to Q4 2023, we expected to perform better than we did. In Q1, we saw issues with new customer onboarding, and while we quickly took several actions, these actions did not fix the onboarding issues enough to benefit our performance in Q1. We continue to address new player onboarding issues and believe that as of late April, we've implemented the necessary changes to improve onboarding of new customers and get us back on track to execute our improvement initiatives. While our fixes to onboarding issues are still in the early stages, the data we have so far indicates our audience decline has slowed. At this time, we do not believe the onboarding issues and our execution in Q1 will stop skills from being adjusted, even though positive in Q4 2024. At the same time, we continue to do a good job with expense management with Q1 2024 OpEx in line with Q4 2023, excluding Q4 one-time accrual reversals. Our adjusted EBITDA loss again improved on a year-over-year basis. Our focus remains on optimizing CAC and growing LTB, and when we feel we're at the right levels for those metrics, our intent is to refocus on scaling traffic. In Q1, we were trending towards a six-month payback period on our user acquisition spend. We achieved this through both reducing user acquisition spend while also being focused on spending in the best channels. We're beginning to focus on scaling in areas where we see good returns. As we execute our turnaround initiatives, we continue to believe our unique platform can generate significant returns for our shareholders. With that baseline of expectations, as I think about the first of our four key pillars, enhancing our platform to improve customer and developer engagement and retention. The first quarter reflected some ongoing progress despite our uneven execution. A key initiative for this is new product pipeline we have in place. New updates or features introduced since our 4Q call include Instant Match, which we introduced in Q4 and which we continue to refine to improve performance, including by encouraging players to play and match templates one tier higher. In addition, at GDC, we previewed an exciting new feature which received a strong response, live brackets. We believe live brackets, which is planned to launch on our games later this year, will be a great retention engagement vehicle to help drive new players to the platform. We also continue to refine single sign-on, which is improving the early user experience. As we look over the balance of 2024, we intend to build on the momentum in our pipeline of new features. Our best and most active players are our VIPs, and we continue to focus on improving their experience. In Q1, we introduced VIP exclusive cash events on two of our most popular games with encouraging participation, and we'll continue to host these events going forward. Overall, our VIP programming initiatives help maintain revenue of these players from Q4 to Q1, while also driving an increase in GLPAI. We also continued to enhance our LiveOps capabilities, which allowed us to look at trends in real time and initiate offers to drive engagement and monetization. We expect this will be particularly beneficial to our VIP initiatives. For our second pillar, up-leveling the organization. In Q1, we continued to optimize our product development, marketing, data, and analytics resources. And as we discussed in our Q4 call, we've strengthened our finance team with the addition of our new CFO, a new controller, and a new head of FP&A. The move into our new Las Vegas headquarters in January continues to foster a greater level of collaboration, accountability, and idea generation. Across the board, I can sense a greater sense of optimism from our team for the goals we want to achieve in the near and long term. Reflecting the benefits of the culture and collaboration we've established by being together in one location will continue to reduce our reliance and expense of third party contractors and remote workforce without work being absorbed by our Las Vegas and Bangalore based teams. Moving on to our third pillar, our go-to-market. UA spend in Q1 was consistent with Q4 levels and remains at our lowest level since 2018, and fairly stable, approaching a six-month payback. In Q2, our focus will turn towards scaling spend to facilitate growth as we continue to focus on optimizing UA spend. We continue to spend through ARCI, which provides us with better pricing, pricing transparency, and keeps the margin within the skills family. Going forward, we'll continue to focus on spending in the areas that work well for us to drive profitable growth while maintaining our financial discipline on UA spend. We're continuing to focus on incubating games that are difficult for companies engaging in bought fraud to replicate and to deliver a payback period within our return timeline. The revised share agreements we've discussed previously will continue to open up new opportunities in this area. And we're beginning to seed developers to build games for specific high-value, in-demand genres. We will complement these actions with prioritizing investment and user acquisition to scale the user base. Finally, I'll talk a little bit about our fourth pillar, which is demonstrating a clear path to profitability. Despite the onboarding issues I highlighted earlier that impacted Q1 performance, I'm still encouraged by the progress we've achieved to become profitable. We remain optimistic that we're on pace to achieve our goal of generating positive adjusted EBITDA on a run rate basis in Q4 this year. Our adjusted EBITDA loss was negative 18 million in Q1 2024, and excluding legal expenses related to lawsuits, adjusted EBITDA was negative 14 million. This compares to negative 21 million in Q1 2023. Operating cash flow in Q1 was negative 4 million. Excluding the increase in accounts payable in Q1, Our operating cash flow is negative $14 million, in line with adjusted EBITDA. We ended Q1 with cash and cash equivalents of $301 million. The cash balance as of the end of Q1 does not include the $15 million received in April from Avia. Given this cash position and our continued improvements and our monthly operating cash burn, there is significant runway to return our business to sustainable, profitable growth. I want to reiterate something I highlighted on our Q4 call, and in our view, our current valuation gives no weight to the value of our operating platform. The progress we've made to date on our turnaround plan and our trajectory to generate a positive adjusted EBITDA run rate by late this year. In closing, even with the new customer onboarding setback in Q1, we remain cautiously optimistic that our actions undertaken to date are positioning us to return to profitable growth. We know that we still have significant work ahead of us, but we're confident we're on the right path with the execution against our four strategic pillars. And with that, I'll turn it over to Gaetano.

Thank you, Andrew, and good afternoon, everyone. First quarter revenue was $25 million, down 43% year over year, and down 19% sequentially. Our paid user conversion rate, which is paying mal divided by mal, was 14% in Q1, slightly down from 15% in Q4 due to continued focus in the quarter on new user onboarding. As Andrew indicated, we are confident in our ability to continue to maintain our current payback period and begin to invest to grow sequentially. Turning to OPEX, research and development expense was $5 million, down 48% year-over-year. On a gap basis, R&D was 18% of Q1 revenue. Sales and marketing expense was $21 million, down 40% year-over-year, including $2 million of stock-based compensation. On a GAAP basis, sales and marketing was 83% of Q1 revenue compared to 79% in the year-ago quarter and 75% in Q4. Q1 UA marketing was $5.6 million, a decrease of 33% from Q1 of last year and a 3% decrease quarter-over-quarter, while Q1 engagement marketing was $8.9 million, down 50% from Q1 of last year and down 34% from Q4. General and administrative expense was $23 million, down $5 million, or 18% year-over-year, inclusive of $6.6 million in stock-based compensation. On a gap basis, G&A was 91% of Q1 revenue. The net loss of $27 million compares to a net loss of $36 million in Q1 2023. The adjusted EBITDA loss in the first quarter was $18 million, a 15% improvement year-over-year. Adjusted EBITDA margin was negative 70% in Q1 2024 compared to negative 47% in Q1 2023. We continue to expect our cost structure will benefit this year from lower costs for items including legal, audit and insurance fees, as well as continued prudent management of our cost base. Additionally, interest expense will continue to decline year over year given the reduction in outstanding debt. We ended the first quarter with $301 million of cash comprised of $291 million in cash and cash equivalents and $10 million in restricted cash. As Andrew noted earlier, this does not include the $50 million received from Avia at the end of April. At the end of Q1, we had $129.7 million of total outstanding debt. With our improving cash burn, we have the flexibility to deploy capital to enhance shareholder value. At this time, we'll turn the call to the operator for the Q&A session.

Thank you. If you would like to ask a question, please press star followed by one on your telephone keypad. If you would like to withdraw your question, please press star followed by two. When preparing to ask your question, please ensure your device is unmuted locally. Ladies and gentlemen, this concludes our Q&A and today's conference call. We'd like to thank you for your participation. You may now disconnect your lines.