Avid Technology Inc (AVID) 2003 Q1 法說會逐字稿

Good day and welcome everyone to the Avid Technology First Quarter Earnings Results Conference Call. (Caller instructions). For opening remarks and introductions I'd like to turn the call over to the President and Chief Executive Officer, Mr. David Krall. Please go ahead, sir.

Good morning. I'm David Krall, President and CEO of Avid Technology, and I'd like to welcome you to our First Quarter 2003 Results Conference Call. In a moment I'll turn the call over to Paul Milbury, our CFO, who will provide a detailed discussion of this quarter's financial results. Then I'll discuss some of the highlights from our participation in this year's National Association of Broadcasters Convention that concluded last week, including a review of the significant new products we introduced and how they fit in to our overall strategy. Finally, Paul will come back and provide you with our financial outlook for the second quarter and balance of 2003. Following our prepared remarks we will be happy to take your questions.

Before we begin, please note that the information discussed today is current as of April 17, 2003. Remarks made on this call may include forward-looking statements, including statements about new product releases and functionality, projected growth of existing or new markets and anticipated results of operations during 2003. There are a number of factors that could cause actual events or results to differ materially from those indicated by such statements such as delays in product shipments, the competitive markets in which Avid operates, market acceptance of Avid's existing and new products and other factors set forth under the caption "certain factors that may affect future results" in the Company's quarterly report on Form 10-K for the year ended December 31, 2002 and other documents filed with the Securities and Exchange Commission.

In addition, any forward-looking statements in our remarks represent our estimates only as of today and should not be relied upon as representing our estimates as of any subsequent date. While we may elect to update forward-looking statements at some point in the future, we specifically disclaim any obligation to do so even if our estimates change and, therefore, you should not rely on these forward-looking statements as representing our views as of any date subsequent to today.

During this call we will be referring to non-GAAP financial measures. These non-GAAP measures are not prepared in accordance with generally accepted accounting principles. A reconciliation of the non-GAAP financial measures to the most directly comparable GAAP measures will be provided during the call. This information will also be available in the investor relations section of our Web site at www.avid.com under the heading "Audio Archives."

With that said, for the quarter ended March 31, 2003, we are pleased to report revenues of $112.2m, an increase of more than 20 percent over the first quarter of 2002. At the bottom line we reported net income of $5.5m or $0.18 per diluted share. Included in net income were charges of $1.2m for restructuring activities and $600,000.00 for vacating certain real estate. Excluding these charges and acquisition-related amortization of $293,000.00, first quarter earnings per share would have been $7.6m or $0.25 per diluted share.

Paul will now review these results in more detail.

Thank you, David, and good morning everyone. We had a very solid quarter in Q1. Lots of hard work by Avid employees in all business units, functions and geographies is clearly beginning to pay off. In the next few minutes I will review the financial results for the quarter. Later I will update our guidance for the rest of the year.

Let me start with a high-level overview of the results and then I will get into the details. Our revenues typically decline from Q4 to Q1 so we are pleased that our Q1 revenues were essentially the same as in Q4. Our gross margins were expected to decline slightly in Q1, but they, in fact, increased a full percentage point. Operating income, excluding charges for restructuring and amortization was $7.6m, giving us more than $15m of operating income over the last two quarters. We generated more than $17m of cash in the quarter and we finished the quarter with a cash balance of $106.2m, almost double our cash balance of one year ago.

I want to first review a couple of unusual charges we took during the quarter before getting into the detail of our ongoing operations. Our GAAP EPS was $0.18 a share on 29.9 million fully diluted shares. Included in the GAAP EPS were charges of $1.2m for personnel related restructuring and $600,000.00 for exiting certain real estate. In addition, we had acquisition-related amortization of 300,000. Collectively, these charges reduced our GAAP EPS by $0.07. So excluding these charges, our EPS would have been $0.25 per share. When I talk about operating expenses later on, please keep in mind that I will be referring to our on-going operating expenses, excluding these restructuring and other charges.

Now let's go back to the details of our revenue. Revenues were $112.2m, almost level with the prior quarter and slightly higher than our previous guidance of $110m. Video revenue was 79.4 million and audio was $32.8m. Stronger local currency translation rates added about $2m to the top line on a sequential basis.

Gross margins improved sequentially by one percentage point from 52.4 percent to 53.4 percent. On a year-over-year basis, gross margins were up by more than five points and were the highest since the second quarter of 1999. Substantially all of the contribution to the sequential gross margin improvement and most of the year-over-year improvement came from the video segment of our business. Video gross margins have improved due to a variety of factors, including favorable currency translation and product mix.

Operating expenses, excluding the restructuring and other charges I explained earlier, increased to $52.3m, roughly in line with where they have been since the second quarter of last year and in line with our previous guidance of $52m. Operating income was $7.6m, roughly the same as in Q4, giving us $15.3m of operating profit over the last two quarters combined. From Q1 of a year ago, operating profit improved by more than $10m. And in the quarter, both of our segments were profitable.

Our tax accrual and other income offset each other, giving us net income of $7.6m or $0.25 a share before the restructuring and other charges previously explained.

As I said earlier, we ended the quarter with a cash balance of $106.2m, up more than $17m from the prior quarter. Of the total cash increase, more than $10m was from operations, while 6.8 million was from a combination of employee stock purchases -- stock plan purchases and stock option exercises.

DSOs at 55 days remained in the mid-50s and we reduced our inventory by more than $3m during the quarter. Stock room inventory actually declined by more than eight million, but this was partially offset by an increase in inventory at broadcast customer sites awaiting installation and revenue recognition.

Capital spending was about two million for the quarter, while depreciation was approximately three million.

Accounts payable were reduced by almost $7m during the quarter. Conversely, our deferred revenues increased by more than $11m. Approximately two-thirds of the increase in deferred revenue was as a result of increases related to our broadcast solution and most of the balance was related to annual maintenance contract renewal.

I'll now turn the call back to David for a discussion of our participation at this year's National Association of Broadcasters Convention and the solutions we introduced at the show.

Thank you, Paul. We're extremely pleased with our results this quarter and the continuation of the momentum we generated throughout 2002. In what is typically Avid's slowest quarter, we increased our gross margins, net income and cash balance. This puts Avid in a solid position to further grow our business and improve our profitability as we begin preparations to ship the brand new revolutionary product line we announced last week at NAB. The product launch at this year's show was the culmination of two and a half years of intense product development and represents the largest launch in Avid's history. You may have seen the news releases we issued about these products, but I'd like to spend the next few minutes giving you a sense of what's beneath this tremendous accomplishment for our Company.

For years, Avid has built great hardware-based products with guaranteed real time performance -- products like Avid Xpress, Media Composer and Symphony. But these products don't use the host processor for media processing and, therefore, don't increase their performance with faster host processor speeds. We've also been building great software-based systems which do harness the power of the host CPU to perform media processing -- products like DS and Avid Xpress DV. These systems provide our customers with more real time performance than any other host-based systems on the market today, but that real time performance is not guaranteed like you get on our hardware-based systems. And the rest of the industry is generally found in one of these camps -- either hardware-based or software-based, real time versus rendering.

But the question that many customers have been asking is "why can't we have both?" "Why can't somebody build a great product that delivers the real time performance of a hardware-based system and delivers the platform flexibility and performance scalability of a software-based system?" Well, we've invested heavily over the last two and a half years working on an answer. And last week we unveiled it at NAB.

Here's an overview. By genetically splicing host-based software and hardware-based acceleration, we've designed a revolutionary hybrid architecture that leverages a completely new family of digital nonlinear accelerators called Avid DNA. This purpose build hardware offloads the host CPU from those media processing tasks, which are much more efficiently performed with dedicated hardware, and it's completely scalable. At the entry level of our family, Avid Mojo, accelerates time consuming media IO and conversion operations. In the mid-range of our family, Adrenaline, does that as well, while also offering expandability to HD resolutions at unmatched IO quality, including eight and ten-bit resolutions. And at the high-end of our family, Nitris enhances the processing capability of the host CPU with the equivalent media processing power of over 30 of today's fastest Pentium Four processors. That's what it takes to do guaranteed real time, multi-stream, professional quality, ten-bit HD.

And at each step in the Avid DNA family, the power of the accelerator expands and enhances the power of the host. So the answer to the software versus hardware question isn't "either/or." Our customers can now have the best of both worlds. What set Avid DNA apart from the other systems on the market is its ability to scale as the performance of the host computer increases. That means as host CPUs get faster, all of Avid's new next generation nonlinear systems will get faster. No other nonlinear editing system out there offers the same kind of hardware acceleration, scalable performance and investment protection.

Over the past year we've been talking about the trends that are driving the future of our core video business, including the explosion of DV, the growing value of incorporating HD into video post production and the efficiencies and cost savings associated with adopting tapeless, end-to-end digital workflows in news production. The combination of Avid's next generation nonlinear editing software and [inaudible] DNA family empowers professionals to embrace the demands of these important trends.

For film and video professionals seeking a portable, affordable solution that offers true real time editing for DV media, we've launched Avid Xpress Pro with Avid Mojo. The system delivers extraordinary picture and sound quality, including a new automatic color corrector and has the revolutionary ability to send uncompressed video over a standard firewire cable. The Avid Mojo hardware effectively doubles the media processing power of the host computer by eliminating the need to render when outputting to tape. Avid Xpress Pro with Avid Mojo is the first true real time DV out solution available for laptop computers.

We also launched Media Composer Adrenaline, the fastest, most powerful, compatible and highest quality media composer system ever. It's designed for time-sensitive production environments and offers unparallel features, performance and conactivity with the ability to expand to support HD media. Our customers have been asking Avid to deliver a product that would work with every media format they use today, expand to support HD and offer new features and higher quality output. They also told us to make it faster, more open and more affordable. With Media Composer Adrenaline we did all that.

The DS Nitris family is designed for advanced editors and artists who want the ultimate in quality, performance, creative flexibility and interoperability and offers guaranteed real time editing and effects from DV 25 to multi-stream ten-bit HD. These systems enable editors to work in real time with the best quality, highest bandwidth digital media formats available and will help Avid to capitalize on the increasing use of high-definition media.

That's an overview of the major news we announced for our core video business at NAB.

Of course, we also took the opportunity to introduce several new solutions to our broadcast news customers. Two of these announcements leveraged the power and performance of our new Avid DNA family. Avid Newscutter Adrenaline FX, which uses the Adrenaline DNA hardware, combines news editing with real time 3-D effects and titling. And with the expandability to support HD, it allows broadcasters to plan for the future as HD broadcasting demands grow over time. Avid Newscutter XP, our mobile news editing software, can now also be paired with Avid Mojo, bringing real time functionality to news editors working in the field.

And last, but not least, we introduced two media asset management solutions at the show, Avid Nearchive and MEDIArray ZX. Avid Nearchive is a first-of-its-kind common media repository that simplifies the process of finding and accessing infrequently used media that would otherwise be stored on analog tapes in library archives. MEDIArray ZX is a high-performance, cost effective, 2.88 terabyte disk storage sub-system. As the newest building block in the Avid unity media network family of shared storage and media management solutions, users can connect up to six MEDIArray ZX systems together to achieve more than 17 terabytes of storage. This extreme -- this is extremely valuable for broadcasters and post-production professionals enabling them to store and manage up to 260 hours of Avid's production quality compressed HD media or more than 1,500 of DV25 media.

Broadcasters around the world continue to come to us looking for scalable solutions when they're ready to make the transition from tape-based production methods to digital nonlinear workflow. Through the end of the first quarter we had sold a total of 87 end-to-end digital news production environments. Significant broadcast news orders during the first quarter, included NBC, which will be expanding the use of our award-winning iNEWS newsroom computer system across its operations, including its owned and operated U.S.-based news stations and its recently acquired Telemundo facilities. We also received our first order from a station in the journal broadcast group, WSYM, a Fox affiliate in Lansing, Michigan. This order shows the scalability of Avid nonlinear news solutions for broadcasters in markets of virtually any size.

Just prior to NAB we announced the acquisition of the assets of privately held software company, Rocket Network, Inc., a San Francisco-based developer of Internet media collaboration and delivery products for audio and video media. By integrating the Rocket Network technology into our current offerings, we plan to provide customers of Digidesign, our audio division, the means to take advantage of smooth, collaborative workflow between Pro Tools systems over local area networks or the Internet. With powerful tools for easy and secured digital delivery of large media files of any type, including audio or video, this new technology will help our customers move vast amounts of media over the Web at high speed.

During NAP Digidesign also previewed Version 6.1 of its Pro Tool software, which adds the features already released on the [Mac OSX] [ph] platform to the Windows XP platform and full compatibility with Avid workgroups, including Avid Unity MediaNetwork and AV Option XL Support. Digidesign also announced plans to support the new Avid DNA hardware, further tightening the workflow between video and audio post-production. SOFTIMAGE, our 3D animation and effects group, announced Version 3.5 of its SOFTIMAGE XSI software, which includes hundreds of new tools designed to increase creativity, productivity and reliability in any animation production environment. SOFTIMAGE also showcased Version 1.1 of its revolutionary behavior animation tool, featuring support for [Linux] [ph] and numerous enhancements to the API.

That's a lot of information to digest, but I hope it gives you a sense of the magnitude of Avid's presence at this year's NAB. All of our resellers, press, customers and prospects greeted the news with great enthusiasm and we are absolutely energized about the future of Avid and the many opportunities that lie ahead.

With that, I'd like to hand it back to Paul to discuss our outlook for the balance of 2003.

Thanks, David. As you've just heard from David, we introduced a large number of major new products at NAB. Hopefully, you've developed an appreciation for the scope of the new product transition facing the Company as well as the opportunity that these new products represent.

In late May we expect to begin Media Composer Adrenaline. We are planning to begin DS Nitris, Avid Xpress Pro, and Avid Mojo during the third quarter. As a result, we expect Q2 to be a transitional quarter for our video business. More specifically, the Q2 video product transition is expected to constrain our top line and modestly reduce our gross margin. A major driver here is our Avid DS HD promotion. This promotion provides our customers the opportunity to buy DS HD at a promotional price of $140,000.00 with a free upgrade to DS Nitris when available. This promotion will result in the deferral of several million dollars of revenue out of Q2.

As a result of the DS promotion and the timing of the first customer shipments of Media Composer Adrenaline, we expect Q2 revenues to be relatively level with the first quarter, in line with our operating plan. For the full year, we are increasing the low end of our revenue range to $450m, making the full-year revenue range, $450m to $460m. With the new mid-point of our revenue range at $455m, we still feel that there is more upside opportunity than downside risk.

Gross margins in the second quarter are expected to be approximately 52.5 percent, down from the Q1 level. The decline is related to the promotions associated with the video product transition, such as the DS promotion I discussed earlier. The new products are expected to favorably impact gross margins in the third quarter, pushing them up to the area of 53.5 percent and then to around 54 percent or more in the fourth quarter.

Operating expenses will increase in Q2 primarily as a result of costs associated with the National Association of Broadcasters Trade Show. I would expect operating expenses of approximately 54 million for the second quarter. For the full year, operating expenses should be in the range of $213m. For Q2, assuming revenue of 112 million, gross margin of 52.5 percent and operating expenses of 54 million, operating profit would be approximately $4.8m.

With other income and taxes offsetting each other at approximately $300,000.00, net income would also be approximately $4.8m or $0.15 per diluted share prior to acquisition-related amortization. We expect acquisition-related amortization to increase to approximately $400,000.00 in Q3, up from 300,000 as a result of the Company's acquisition of the assets of Rocket Network. Including acquisition-related amortization, I would expect earnings per share of $0.14 on 31 million diluted shares in Q2. Acquisition-related amortization is expected to remain at $400,000.00 per quarter for the rest of the year. Other income and tax expense are expected to remain at $300,000.00 per quarter each.

Assuming the midpoint of our full year revenue range or $455m, I would expect earnings per diluted share of approximately $0.97 for 2003, excluding restructuring and other charges and acquisition-related amortization. Including the restructuring and all other charges, I would expect earnings per share of approximately $0.87 on 31 million average diluted shares for the year.

Cash rose by 17 million during Q1 to over $106m. I would expect cash to increase by roughly $10m to $12m per quarter for the rest of the year, barring any unusual expenditures.

These conclude my remarks and David and I would now be pleased to take your questions.

Thank you. (Caller instructions). And we'll go to Paul Coster, J.P. Morgan.

Gentlemen, first of all, congratulations on a great quarter again. A couple of quick questions for Paul really. First one is what do you intend to do with all of this cash? Is there any chance of us seeing a share buyback or some other activity at some point in the future?

There are no current plans to do that and we, as the management, currently don't have any authority to do that. Obviously, that's a Board decision. It's something that's discussed at the Board from time to time. And, as I said, there are no current plans, but it continues to be an item for discussion.

Okay. Second question, just in terms of the tax rates, looking further a field -- or further forward, can you just give us a sense of what you see your long-term tax rate being and why?

Well, as we've said in the past, we have a significant amount of NOLs and tax credits and other things that will prevent us from having to pay or accrue for U.S. taxes going forward for the next several years. When we get beyond that, given that the Company has engineering operations and R&D operations in the U.S., Canada, and then manufacturing operations in Ireland, where the tax rate is low, I would expect when we get beyond the NOL period for the Company to have a tax rate in the 25 to 30 percent area.

Thank you. And one last question for David. David, have we -- have you seen some orders over and above the one that was publicized immediately out of NAB? If not, what kind of timeframe do you believe the business prospects turn into reality?

Well, specifically, there are different timings for each of the new products in the DNA family. As Paul mentioned, we're expecting Adrenaline to ship in late May. We have received additional orders from our dealers for demo units of the Adrenaline system that have already come in, both domestically and internationally, and we expect a pretty steady order flow for those and, obviously, we will be fulfilling those as soon as possible. On the Nitris system, we've got a promotion underway right now that let's a DS customer safely buy DS HD and actually get a discount on their purchase and then upgrade to a Nitris system when that ships as planned in Q3. We are expecting that the order flow, based on these promotions, will be steady and continuing throughout the quarter.

Okay. Great. Thank you very much.

Our next question, Steve Frankel -- Adams, Harkness & Hill.

David and Paul, congratulations.

Thanks, Steve.

Couple bookkeeping questions. If you could go through the domestic/international revenue split and the operating margin by audio and video, and then reconcile the 87 -- all digital news customers with what it was in the fourth quarter.

Okay. The geographic split of our business on a worldwide basis was about 55 percent of revenue in the Americas, 32 percent in Europe, and about 13 percent for the Asia-Pacific region, which has been the weakest area recently for the Company. And just expanding up on that, about 80 percent of the business overall was indirect and 20 percent direct. While in the video business, about 70 percent of the business was indirect and 30 percent direct. With respect to the segment profitability in the first quarter, the video segment earned about 5.1 million. The audio segment earned about 2.5 million.

And then, Steve, just on your question of where we were at the end of last quarter, I believe the number was 71 complete systems and ten digital newsroom solutions. So now at 87, we're up another 16.

Great. Thank you very much.

All right.

You're welcome.

Our next question; Rich Ingrassia, Roth Capital.

Good morning, every one. Can you-I know you don't break out specific numbers. But, can you give us any sense of how video breaks down, DS versus Composers, versus Express?

No. I guess what I can say is, on a sequential basis, we had good improvements in DS, Symphony, and Unity and then, you know, a fall-off in Media Composer as we were entering NAB and announcing the new Media Composer Adrenaline product.

I'll add a little bit to that. We had our best revenue quarters for both DS and Symphony in four years. So, it's showing some real strengthening in the high-end of our post business. And then from a Unity perspective, if we compare our Q1 numbers to Q1 of a year ago, they were up 79 percent, year-over-year. So, very strong performance in our shared storage, which includes full-blown Unity media network as well as Unity land share.

And obviously, with respect to Media Composer, we were sort of clearing things out in anticipation of Adrenaline announcement and we completed the Media Composer upgrade program.

Right. Okay. And then any sense you can give us on Express, what percent that is of the total video number these days-just a range or anything?

Express is a relatively small percentage of our overall revenue these days. However, it's a pretty stable product, moving forward. And we expect to continue to sell Express.

Do you mean Express CD?

Yes, actually, just to be clear, we have Express Media Composer and Symphony, which are in our Meridian line, so they are hardware based solutions. We also have Express DV, which is a software only solution. Paul was asking if that's what your question is about.

Right, it's DV.

Okay. Well, Express DV is down slightly, quarter-on-quarter from Q4 to Q1, but up slightly over last year. We also, with Express DV, were preparing for the introduction of Express Pro, as well as the price reduction in Express DV. So, the overall revenue from Express DV was affected a little bit like that, or by that. But we expect Express DV to continue to be a strong product for us.

Yes, the slight decline in Express DV was in line with our plan as we sort of tried to minimize the units in the channel approaching the announcement of the new product.

Okay. And then just lastly, on the R and D line, how much can we expect to see that trending down, now that D and A is out there?

I think for the full year, we're actually going to be looking at maybe a little bit of an increase overall, in R and D. So, flattish to a little bit of an increase. And that's because the audio segment of the business has been growing its R and D in line with the growth of its business, and in conjunction with significant new areas of investment. And on the video side of the business, there's very little growth at all in R and D. But, we have had to make some incremental investments in the video R and D area, or video engineering area, in line with the success and growth of the broadcast business, to support certain custom engineering efforts and other technical support requirements for that customer base.

Okay, thanks. And thanks for a great show.

Our next question; Gene Munster, Piper Jaffray.

Hey, guys. Congratulations. I just wanted to take a step back and look at the bigger picture here. You had half your business has been sideways for the past couple of years. You guys have substantial product coming out in Adrenaline, and I don't want to get to a point where there's whisper numbers out here, but I just look at the revenue ramp and think about some of the comments from resourcing customers at NAB, and it seems like the guidance is pretty conservative. Can you give us any sort of methodology in terms of how you're mapping out Adrenaline? And maybe I'm perceiving this as being potentially a bigger product than it actually is or just any thoughts on that perspective.

Well, hey Gene. As Paul was talking about, Adrenaline is part of what is making Q2 a transitional quarter for us from a video revenue point of view. Just simply, because we're not shipping the product at the moment. And so, as a consequence of that, we're being careful in our estimates of what the revenue would be for this quarter, just as we work our way through that transition. We also expect that there's a slight delay in information flow throughout the market and into our customer base, as people fully understand the magnitude of this architectural enhancement that we've done and realize what the full benefits are. And what's very exciting to us is, not only is this a great product of its own right, but it also, because of the fact that we've reached backwards and provided media support for our ABVB customers - customers who haven't bought product from Avid in perhaps five years, and there's almost 10,000 systems out there, actively being used. We've got a huge install base that we can now tap into. So, these are things that we expect to transition over time. We do expect Adrenaline to be a very successful product for Avid. So, we're excited about it moving forward. But for those reasons, we're just being careful about how we estimate it.

That's a good strategy. And in terms of the number of systems that are out there, is that kind of the target, is that potentially 10,000 systems, I guess the upgrade side and obviously, here's the new system side as well, which is a little bit of a wild card. But in terms of the upgrade side, is that kind of a number that we should look at as the addressable market is 10,000 systems could be upgraded?

Good question. The way we categorize it is there's almost 10,000 Express Meridian customers who may see good reason to upgrade at some point in the future. There's slightly over 10,000 active ABVB systems. These are systems that we sold prior to 1998. We also look at some of our competitor's systems, for example, Discreet no longer sells Edit. So, there's about 4,600 Discreet Edit system owners out there, as well as other competitive system owners who may look at the benefits of an Avid Adrenaline system and say hey, why not upgrade to the system that is not only offering fantastic performance today, but also gives you the protection of being host scalable, so that its performance only improves over time. Just to give you a sense of it, we're able to get five streams of uncompressed video on the system today and have even seen performance up to eight simultaneous streams, which is really just incredible performance that I think is going to be very enticing for people who have Legacy systems.

And maybe going to a level of detail here, deeper, in terms of the typical ASP - I know it's around 27,000 for Adrenaline. What's your price on that? A lot of this, obviously, is through the dealer, so what are you guys getting per system?

Well, our list price is slightly under 25,000 and then of course, the dealer has a margin in that.

Okay, so it's 25,000 to the dealer?

Yes, not including CPU.

25,000 to the end customer.

25,000 list price.

But, what's it to you to the end of the - you probably don't want to break that out.

Yes, we don't specify that.

And then, how about gross margin, in terms of - I assume it's slightly higher gross margin; Adrenaline?

Correct. Then, if you're saying then a comparable Meridian based system, the answer's correct, that our standard margin is better.

Okay. And is it by a couple of hundred basis points or more or any sort of color on that?

I'll say more, but not more color than more.

Okay. And then lastly, the DS HD promotion, you said several million, so should we kind of think about that as 3-6 million? I need more color on what several million is for the push-out in the June quarter.

You can read several as around 3.

Okay, perfect. Great. Congratulations and thanks.

Our next question; Louie [Fykes] [ph], [Pennant] [ph] Capital.

Hi, good morning and congrats on another excellent quarter. I had a couple of questions. First, on the currency, you mentioned that currency contributed about 2 million in sales sequentially. What is the comparison if you do it on an annual basis, compared to last year?

The impact of currency on a year-over-year basis on the top line was about $5 million out of the $20 million year-over-year increase in revenue. And as I said earlier, obviously, the bottom-line impact is not the same, given that we incur some of our expenses also, in local currencies.

Right, but the majority of expenses is USA, and with the low tax rate on the majority would flow through to net income?

Just as a rough rule of thumb, if the top line currency benefit was 5 million, the benefit to the bottom-line is offset by 25-30 percent, local expense offset.

Okay, great. Then the second question I had, did the prepaid expenses and other current assets line on the balance sheet increase by 2.9 million sequentially? Can you give us some color on what accounted for the majority of that increase?

Actually, most of the increase in the prepaid expenses in the first quarter relates to the NAB tradeshow and prepaid expenses related to that show, which will be booked as expenses this quarter.

Okay, those were just capitalized expenses leading up to the show?

Right.

Got it. Okay, thank you.

Our next question; Brian Gagnon, Gagnon Securities.

Good morning, gentlemen. Congratulations. Can you give a little more color on this host versus hardware? Because, I guess at the show you were showing some Apple systems and some PC based systems, obviously with different processor types, one ran substantially faster than the other. I guess my question is, as the host processor gets tremendously faster in the future, will you then be able to do additional things with the software?

Yes, that's exactly right, Brian. So, when we look at what we're able to do in terms of stream count on one system, versus another, we find that as you crank up the processor speed, we are able to, inherently, without changing our software at all, get better performance. As might be measured by number of simultaneous streams of uncompressed video. So, that is one of the primary differences we see today, when we look at the difference between a Mac platform and a Windows platform. But we do expect that as the Mac continues to increase its processor speed, it's performance will increase as well.

Okay, good. Two other questions. The charges that you took, can you give a little more color on what they were for and whether or not we should expect to see any charges going forward?

Yes. The restructuring charge was approximately 1.2 million. And that was for personnel related actions, impacting about 45 people. And then the other charge was $600,000 for exiting a facility in California, where we consolidated some personnel into another Avid facility and had to take a write-off for the remaining lease expense and the lease [holder] [ph] improvements in that facility. Certainly at this point we don't anticipate any additional restructuring charges.

So, you've gotten all the real estate stuff taken care of at this point?

Well, there are always going to be adjustments in the business over time. At this point, we're not anticipating any other, either people related charges or real estate related charges.

Okay. Can you tell me where the employee count is now?

The employee count at the end of the quarter was 1,539, which was down 17 from the end of the year [indecipherable].

Good. Gentlemen, thank you very much.

Our next question; Lavon von Redden, Hake Capital.

Yes, sorry if I ask a couple of questions, I had to hop off the call. One of the questions I had was, the DSO was up a little bit, yet your bad debt as a percent of growth AR was kind of moving downward. Could you kind of explain what's kind of happening there in terms of DSO and why the bad debt expense to percent of gross is going down?

Okay. Let me first clarify that when you look at our balance sheet, the item called allowances, that's approximately 10 million, that I think you're referring to, is not just bad debt allowances, it's several categories of allowance. It's a little over 6 million for allowance for doubtful accounts. And then addition to that, there is an allowance for reseller rebates of a little over a million. And then sales returns and allowances of a little over 3 million, that's primarily for our audio business. So, the bad debt allowance of a little over 6 million did decline, I think, slightly in the first quarter. The allowance for bad debts is calculated based upon the aging of our receivables. And the aging of our receivables has continued to get better over the last several quarters. And then finally, our historical experience for bad debts typically runs at less than 1 percent of sales.

Okay, and the DSO issue?

What's the question about DSO? Why did it go up three days?

Yes.

No specific reason, I think, just related to the timing of shipments and that sort of thing. But, as I just said earlier, the actual aging of our receivables improved, so we had a little bit higher level sales in the third month of the quarter this quarter.

I just want to make a comment also, related to, I think it was the first caller, in the use of cash. You guys, obviously, are having a fair amount of dilution from some of the stock options that the company's been granting. If I'm not mistaken, we were looking at a 28 million share count and now we're talking full dividend, something like 31. You had a pretty good opportunity to buy the stock in the teens, which would have offset some of that dilution. So, I would encourage you to go back to your Board and discuss that with them in terms of the use of the cash. Coming back to questions and trying to get away from the lecturing, if I go back and I look at my notes from the last quarter, I guess since the end of the third quarter, we've generated roughly $28 million of cash, or so, but a large portion of that seems to have come mostly from stock options exercises. Could you explain or just give me a sense of how much is from stock option exercises and how much is from actually the company generating cash? It would seem to me with the sales and the numbers you guys have been putting up, that the company should have been able to generate better cash flow from its own operations.

Well, I really can't go back to the third quarter and pull up the specifics at this point in time. I can just talk about this current quarter, where we generated over 17 million in cash and over 10 million of that came from operations. Whereas, I think it was 5.8 million from stock option exercises and about 1 million from employee stock plan purchases. Going forward, I said we expected the company to continue to generate cash at the rate of 10-12 million per quarter.

Is that all from company operations?

No, I would expect to continue to get some amount of cash inflow from both the employee stock purchase plan and stock option exercises.

Can you quantify that, please?

You know, obviously, it depends on a whole variety of factors, but maybe 4.25 million from the stock plans and the balance from operations.

Okay. And I know you guys were just talking a little bit about Media Composer. If I kind of look at - obviously, we're going to try to minimize, I guess, the cutback in so me of the sales of the Media Composer, but if I look at the base price of the product today, versus its successor product, could you just talk about the different price points?

Sure. Where Media Composer was sold previously was anywhere in the $40-$60,000 range, where Adrenaline is priced is in the 24,995 price point. So, we think that that will be a very attractive price point, while at the same time providing improved performance. So, one of the things that we've been very clear about in all of our public communication to the investor community has been, one of the objectives was to turn around the performance of the Media Composer product, which had previously been a declining revenue stream for the company. We felt that a dramatic improvement in price performance was exactly what was needed to really supercharge that product. So, that's exactly what we've targeted to do. And based on the response that we've seen at NAB, we think we're going to achieve that.

Could you furthermore just kind of talk a little bit about, maybe, the gross margins? Because I guess what I'm somewhat fearful of is, you know, we have a product that in essence could - that you're selling for somewhat twice as much as what the new product is and therefore, in essence, you almost have to sell twice as many products, so to speak, to kind of keep -

Yes, it's a better story on that. I'll let Paul walk you through the numbers on it.

Yes, let me clarify that. If you look at the Media Composer Adrenaline product at 24,995, and the gross margin per unit for that product, and then compare it against the combination of the Media Composer new system sale that David was referring to a moment ago, Media Composer upgrades, which were in terms of numbers of units, substantially higher than new system sales last year. And the Meridian Express system that we would expect, over time, to be replaced with the Media Composer Adrenaline, the ASP decline is not nearly half. It's relatively small. And the gross margin per unit, on average, for the Media Composer Adrenaline, versus the average for Media Composer systems upgrades and Express units in '02, is a pretty good improvement on a per unit basis.

Yes, gross margin dollars will be higher for an average Adrenaline sale than the composite average that Paul discussed.

Okay. I'll probably follow-up with you guys offline on that one. You talked about the segment piece. You talked about the Effects, and I have some others, but I can follow-up later, I guess.

And again, that's *1 for questions. Our next question; Gary [Linoff] [ph], with [Vicola] [ph].

Hi, guys. I guess it's technically a good quarter that the short sellers could only pick on you for your DSOs going up three days and generating only $10 million of free cash when the business is growing as rapidly as it is. That's just my comment as well. I have a question, I was struck at NAB, by the fact that, if I am correct, you kept most of the resellers or all of the resellers in the dark about the breadth of the product upgrades and expansions, and yet by the time they hit the floor on Monday, they were - it's a pretty sophisticated group and they were pretty jazzed up and ready to go. I guess my question is, I know you don't want to talk about this, but how conservative have you been in your assumptions about how quickly resellers and more importantly, the end-users, are going to want to upgrade on the various products? And more importantly, understanding that the pricing discount that you're offering and its impact on margins - this is a long-term upgrade cycle. What is the ultimate gross margin opportunity with what you've just come out with at NAB?

Well, I'll take the first two components of that while Paul thinks about the gross margin opportunity. Specifically regarding the fact that the resellers were kept in the dark, as you said, you could understand how with any major new product introduction you want to make sure that word doesn't leak out about that and as a consequence, hurt your results in the preceeding quarter. That was the reason for us being pretty quiet about what we were doing. And we were actually extremely pleased with the fact that our resellers didn't anticipate it and maybe even better, our competitors didn't anticipate it. But we spent a full day of reseller training on Saturday, before NAB began, which was the following Monday, and our reseller reaction, as you correctly gauged, was very, very excited about what we were delivering to the marketplace. In terms of how we communicate it now, NAB is just actually the first step. We actually now have road tours that we go out on, both domestically and internationally. I believe that the domestic tour includes visiting 62 cities in the US and there's a similar tour - not as many cities, but a similar tour that's also going to be taking place in Europe. So, we will be doing all of our efforts to get the word out on all of our new products.

David, on that tour, I'm not familiar if you've done anything to that extent in the past, but is that something -

Last year was actually the first year where we did a similar tour. It was called the Start to Finish Tour in the US and it was called the Avid Experience Tour in Europe. We'll be having an Avid Experience Tour - that name, Avid Experience, both domestically and internationally this year.

Okay. And that starts, I believe in May, is that correct?

Yes, it may even start in April - no, actually, the first one is, I believe, in Dallas on May 12th or May 13th. So, right in May.

And then just regarding the gross margin question, I guess I'll stick to the story, we've just given the guidance of a gross margin increasing to 54 percent or more in the fourth quarter. And obviously, what's driving the increase in gross margins is the gross margins on the kind of products you're talking about in the video segment. The gross margins in our audio business are not rising to the same extent. So, the gross margins in video are actually coming in - expected to come in above that 54 percent number.

Sure. No, Paul, appreciate that. I'm looking a little bit longer-term and looking at the returns on capital, which I think are considerable that you guys can generate on the investment in R and Ds made over the last few years. And if this is a 3, 5, 7-year kind of cycle, and you're trying to very roughly model out the returns over that kind of long timeframe, what is the margin opportunity, you know, going out maybe even 18, 24, 36 months? What should we be thinking about in terms of the sustainability of margins, at least as you guys have looked at it, when you've made the decisions to invest the capital?

Well, when you talk about margins, you're talking now about operating margins as opposed to the gross margins?

Correct.

You know, the company's, sort of, financial model is to try to get to double-digit operating profit as quickly as we can. I think if you take the guidance that we just gave - although we didn't give quarterized guidance for the rest of the year, when you fill in your model for revenue in the fourth quarter, I would think you would be approaching a double-digit operating profit margin at that point in time. And at this point, I would say that our goal is to get to double-digits as quickly as we can and then, sort of, reassess.

Okay. Thanks a lot, guys. Congratulations.

Due to time constraints, we have time for one more question. We'll go to Phillip Leigh, Raymond James.

Hi. Let me just add my congratulations. I'm certainly pleased to see these results. I'd like to just clarify a couple of things. One is, if I understand what you said correctly, the revenue gain in the quarter from the currency translation was $2 million. And if I heard what you said in response to a later question, we should assume that about 70 percent of that flows directly to the bottom line. Is that correct or incorrect?

Yes, that's basically correct. If you just look at the rates used to translate revenue in the first quarter, versus the fourth quarter, there's a net, approximately $2 million benefit on the top line that would be offset before it gets to the bottom line. So, 70-75 percent of that gets to the bottom line.

Okay. Now, it's certainly a matter of coincidence, but the extraordinary charges that you had in the quarter seem to just approximate that figure, so that 10 takes us to an 18 cents of the baseline number, right?

The externally reported GAAP EPS was 18 cents for the quarter.

Okay. And then finally, you indicated, just to refresh my notes here, you said 31 million shares outstanding in the second quarter would be the fully diluted number?

Yes.

Okay. And then you also indicated about $4 million in cash flow from purchases and stock option exercises, so can you kind of give us a feel for how that marches forward, from 31 million?

At this point our estimate for fully diluted shares is 31 million per quarter for the rest of the year. In addition to the basic shares outstanding, which are impacted by stock option exercises, we also have common stock equivalents in the fully diluted shares. So, in many cases, you're just moving a share from common stock equivalent to outstanding and not necessarily changing the total.

Okay, that's helpful. So, if I understand what you're saying correctly, then 31 million in the second quarter, we should just kind of assume that stays flat in the second half as well?

Right.

Okay, thank you. Appreciate it.

At this point, Mr. Krall, I'd like to turn the conference back over to you for any additional or closing comments.

Okay, thanks, Steve. And thank you all for joining us today. Should you have any further questions, please feel free to contact us. To any Avid employees listening in on this call, most of whom are also shareholders, I want to say thank you for a job well done. And we'll look forward to speaking with you all next quarter. Thanks.

This does conclude today's conference. Thank you for your participation. You may now disconnect.