Digimarc Corp (DMRC) 2010 Q4 法說會逐字稿

Good afternoon, and thank you for participating in today's conference call. Now I will turn the call over to Chairman and CEO of Digimarc, Mr. Bruce Davis. Sir, please proceed.

Thank you.

Good afternoon and welcome to our conference call. Mike McConnell, our CFO, is with me. The objectives of this call are to review and discuss 2010 financial results, talk about significant business developments and market conditions, and provide an update on our strategy and operations. This webcast will be archived in the Investor Relations of our website.

Please note that during the call, we will be making certain forward-looking statements, including those regarding revenue recognition matters, results of operations, investments, initiatives and growth strategies. These statements are subject to many assumptions, risks, uncertainties and changes in circumstances. Any assumptions we offer about future performance represent a point in time estimate. Actual results may vary materially from those expressed or implied by such statements. We expressly disclaim any obligation to revise or update any assumptions, projections or other forward-looking statements to reflect events or circumstances that may arise after the date of this call. For more information on risk factors that may cause actual results to differ from expectations, please see the Company's filings with the SEC, including our latest Form 10-Q.

Mike will begin by commenting on our financial results. I will then discuss our outlook and execution of strategy. Mike?

Thanks, Bruce, and good afternoon, everyone.

With extraordinary success in our licensing activities in 2010, we saw revenues growth 63% to $31.2 million, resulting in $4 million of net income. The revenue increase was driven primarily with our licenses with Arbitron in the first quarter and with Intellectual Ventures in the last quarter. We generated significant positive operating cash flow, ending the year with a strong balance sheet, with more than $45 million in cash and related investments, and no debt. During the year we continued to make significant investments in growth initiatives, including the marketing of our intellectual property, our joint venture with Nielsen, development of additional intellectual property and Digimarc Discover, all centered on our vision of enhancing computers, networks and other digital devices to see, hear, understand, and respond to their surroundings.

Our Q4 2010 financial highlights include a record revenues of $10.5 million thatwere 89% higher than the prior year, with the majority of the increase due to our new license arrangement with IV, where we received two of 12 expected quarterly payments, aggregating $5.3 million for the $36 million minimum license fee. Gross margins at 82% reflected the impact of higher licensing revenues as a percent of the total revenues, higher operating expenses that reflected increased investments in new product initiatives and IP marketing initiatives, as well as litigation and transaction-related expenses. An operating profit of $3.1 million, or 30% of revenues, and a $700,000 capital contribution to our joint ventures with Nielsen where our share of the net losses was $600,000.

Our observations and current planning assumptions regarding potential 2011 financial performance, include the following. Double-digit revenue growth for the year, with nearly $30 million coming from our beginning backlog. A license to services revenues ratio of approximately 60% to 40%, resulting in gross margins above 70%. Revenues and operating income should be more consistent on a quarter-to-quarter basis in 2010, with the first quarter being the smallest of the four. Continuing investment in growth initiatives, particularly in the areas of directed research and IP development, and product development and marketing associated with both Digimarc Discover and our joint ventures with Nielsen. Operating cash flow that's greater than GAAP earnings due primarily to approximately $5 million of non-cash charges associated with stock compensation and appreciation.

As a reminder, these highlights of financial assumptions and operating plans represent our current view of expected values, based on our assumptions of the most likely unfolding events. As is our general practice, we intend to update you each quarter regarding strategy execution, but do not plan to provide detail financial guidance. For further discussion of Q4 2010 results, our business and financial models, and risks and prospects of our business, please see the Form 10-K that we expect to file later this week.

Bruce will now provide his comments on our outlook and execution.

Thanks, Mike.

We had a terrific year in 2010. Our accomplishments and investments during the year significantly increased our baseline financial performance and laid a foundation for the next level growth per our strategy. We believe there are opportunities for growth in all areas of our business. Key areas of focus in 2011 include fostering success of our new licensing partner, Intellectual Ventures; developing a market for Digimarc Discover; and working with another important partner, the Nielsen Company, to continue development and foster adoption of Media Sync for social interactive television.

Maximizing the success of our new relationship is an obvious top priority. Things are going well so far. We entered in to the relationship with IV to facility large-scale licensing and accelerate brood-scale adoption of our proprietary technologies in various product markets. The key goal of the collaboration is to create network effects, wherein freedom to operate via Intellectual Ventures licensing for some large companies fosters demand for our software and services, creating a competitive advantage for early adopters that disadvantages competitors, who in turn will seek licenses from IV, and services and support from Digimarc to remain competitive. Our strategy is to create a [virtuous] cycle of demand creation through licensing and software and services.

In parallel to the IV activities, we are dedicating substantial resources to the lunch of Digimarc Discover, our platform for the seeing/hearing device. We believe that the market is moving rapidly toward increasing enablement of pervasive intuitive computing. We launched our platform at Mobile World Congress and are in the early stages of a beta period scheduled to run for the next few months. During this time, we are encouraging free trials of the platform so that we can refine our offering, study demand, and prepare for active marketing in the second half of the year. As we begin commercialization of Digimarc Discover, we are increasing research and development of subsequent phases, which include improving our digital watermarking performance, broadening and integrating various means of object recognition, and innovating a higher order task of sensor fusion and inference. As you know, our ultimate goal is to teach these devices to see, hear, understand and respond with optimized network services when instructed by users to look or listen. By doing so, we believe we can contribute significantly to a momentous step in the evolution of computing towards pervasive intuitive computing.

In television we are anticipating considerable progress in our Media Sync joint venture with Nielsen. ABC has followed on from the fall pilot project to use the platform to enhance the viewer experience for Grey's Anatomy, and we anticipate other programmers coming on board shortly. There are many signs of transformation of the television viewing experience along the lines we anticipated. A more engaging, more social television paradigm is developing rapidly, with many suppliers jockeying for position. We believe that we have sufficient competitive advantages to be a leader in the space.

Lastly, in the government sector we expect to enjoy good growth, both in our anti-counterfeiting program and military and intelligence applications. All in all we anticipate a very exciting and rewarding year ahead.

In closing, I would like to thank our partners, clients, and employees for their continued support and commitment to Digimarc's progress toward making our vision a reality. Now we'll open the call to questions.

(Operator Instructions). You have a question from [Kevin Hanrahan] of [KMH] Capital Advisors.

Hello, Bruce. Hello, Mike. Congratulations on a good year -- or a great year, I guess. I had a question about share buyback. Based on your press release that you put out in January regarding the shares you bought back from Royal Philips, it looked to me you bought those at a price of about $26.97. But I also see from the cash flow statement it looks like you bought back some shares earlier than that in Q4, just under $5.8 million. Mike, can you tell us how many thousands of shares you bought back in Q4?

Sure. What that amount relates to in the statements that you saw is our stock exchange for taxes program, where restricted stock vest options that are exercised, we use the Company's cash to buy back shares to pay taxes. So effectively it's reducing the amount of shares in the marketplace.

So would it be fair to say you bought back no shares on the open market in Q4?

That's correct.

Okay. Congratulations on the share buyback that you did in January.

Thanks.

Thanks, Kevin.

You're welcome, Bruce. Bruce, can you talk about the recent launch you did with Discover -- Digimarc Discover, and just give us a 20,000 foot view on that?It's hard to understand some of this stuff, and how that could apply to mobile computing going forward.

Sure. We launched the platform at Mobile World Congress in Barcelona, Spain, almost two weeks ago.

Right.

And it's in an open beta period, so actually you or anyone can go to digimarc.com, go -- enter the beta program on the online services portal, which will allow you to encode digital watermarking in to some kind of print object, an image typically. When you print it out, you can then use an application downloaded from iTunes or Android on your mobile device to read the watermark and connect to whatever network service you chose in the portal. So that's the simple overview of how the system works, and it's available to everybody right now.

Okay.

Is that -- does that answer your question?

Well, can you give us -- I mean, where do you think that -- how would that benefit Digimarc over the long haul? Where do you think this product can take us?

Well, it's all part of facilitating the ability of the users to point their mobile devices at things and have the device recognize what it is being pointed out. So the target for the first version of Discover embodied in the public beta is magazines and newspapers. So the publishers would use the portal to encode their publications and connect the publications to network services of any kind. Anything they are interested in providing to their readers. That then facilitates an engaged -- more engaged advertising, where you can have a full sales cycling or additional marketing or passed-on marketing, and additional editorial opportunities where you can create continuity, add multimedia, and enjoy the benefits of the Internet through the publication.

And we get paid for each link established. That's how it benefits Digimarc. So we benefit the marketplace by providing the network attributes for printed publications, and we get paid for doing that.

Okay, thanks a lot, Bruce.

You are welcome.

Your next question comes from Corey Barrett of Pacific securities.

Hi, this is Corey in for Andy. Just a couple quick questions. First, in thinking about services revenue in 2011, can you talk about opportunities or momentum you are seeing in services as a direct result of the IV deal?

The -- as I said, I think all areas of our business have the potential to show good growth. So in the services area, we have our government business, and we have an approved budget for anti-counterfeiting activity, which would indicate there will be some growth. And then we have the defense/intelligence business, which is more difficult to predict, but we hope, likewise, will show good growth. And then in the software area, of course, we're going to begin marketing the online services portal in the Digimarc Discover platform in the second half of the year. So we'll see how that goes.

Okay. And how are you impacted by just general federal budget squeezes?

We're not.

You're not?

No.

Okay. Great. And then, we have been seeing online and application services that provide media recognition, albeit not through watermarking. How does your IP relate to such services?

In complicated ways.

Yes.

So a lot of what you are seeing we think has some overlap with our IP, and some of it may not. It's all dependant on detailed legal analysis, but we are working with Intellectual Ventures to study all of the opportunities for licensing, and then they will determine how to approach those opportunities.

Okay. Perfect. And then lastly, you commented on a general outlook for R&D and IP expenses in 2011. Could you repeat that just briefly?

Yes. We're -- we increased our run rate 2011 -- or 2010 in order to invest in growth initiatives. And those growth initiatives are focused on a couple of areas. One is basic research -- we call it directed research, because it's not just general research, but directed towards some application areas -- and the associated IP development, so that we can facilitate the development of the second wave portfolio. And then the other area of increased investment is in Digimarc Discover, as we are launching the new service and begin marketing it.

Perfect. Congratulations on the quarter. Thank you.

Thank you.

Your next question comes from Paul Sonz of Sonz Partners.

Good afternoon. I have a question -- several questions. First, after buying back the stock, it would seem like you have $31 million on the balance sheet, and -- but that is expected to go up over the course of the year. Any further thoughts on what you are going to do with that cash?

Nothing different than what we have said in the past. Each quarter at our Board meetings we talk about how to optimize the return for shareholders across the spectrum of investment activities, and so we look at all things all the time in trying to optimize the return.

Okay.

Nothing in particular.

All right. What is the fully diluted share count at this point after the buyback?

The outstanding shares are right about 6.9 million. If you wanted to then add the dilutive impact of the restrictive stock and options, I believe it's about another 0.5 million on top of that.

Okay. Perfect. As some of you may know, Shazam has an application out there for synching with a TV show called "White Collar," which brings me to the question,how are the negotiations -- are there any -- going on with Shazam right now for licensing the technology?

There are ongoing discussions, and I would prefer not to get in to detailed characterization in the interim about them, but we're still having productivity discussions with them. The discussions now include Intellectual Ventures. given their role as exclusive sub-licensor of our portfolio that we alleged earlier was infringed by Shazam.

Right. Next question, the -- this may seem a little odd, but is it possible to watermark sounds that are above the level of the human ear that we hear easily but could be perceived by smartphone? Is that possible?

Leaving aside where in the spectrum it occurs, yes. Audio watermarking is very common. It's not used in the mobile detection environment yet, but the answer to the general question is, yes, but not necessarily above the -- where people hear, but outside the normal realm of audio perception of humans.

Okay.

It's a complicated signal processing task. It's not just high frequencies, in other words.

Right. The thought just being that information could be transmitted not just by having the camera look at things, but could just be ambient in an environment that the phone would pick up, but wouldn't annoy the person holding the phone --

Yes, that's how Media Sync works. It's already deployed.

I see. All right.

Media Sync does just what you say. It happens to be a television audio steam rather than a radio audio stream, butsame difference.

Got it. And then lastly, in terms of the intelligence work, is there any additional information on this, or is it still up in the air that the general contractor has worked with the government and you haven't heard anything come from them? Is more information on that?

Although I wouldn't agree with your characterization, I would say there isn't any information I can share. The -- that space is difficult to talk about, so what we will most likely be the only way that we talk about it is explaining some revenue growth when we get it. It's a complicated space and difficult to talk about publicly.

And if it were to be broadly adopted in the intelligence community, would this be a meaningful increase in your revenues?

Sure.

Okay. Thank you very much.

You're welcome.

(Operator Instructions). Your next question comes from Nick Zamparelli of Chartwell Investment Partners.

Hi, guys, thanks for taking the question. Just a quick one on Digimarc Discover. I'm curious as to how the technology is different -- or is the technology meaningfully different from apps that we're seeing out there now from Microsoft, for example, I think offers a free app called Microsoft Tag. Is the technology that you have meaningfully different?

Yes, there are a couple of bookends, if you like, in the market conceptually on our visual search technology. Let's use Microsoft Tag as one end. What they have is referred to as a 3D bar code, and it's kind of a intricate design with color, and the color is the third dimension, so it has horizontal, vertical, and color dimension to data storage. So that's one competitor. On the other bookend is Google Goggles, which does image analysis and matches it up against characteristics of various things they have in their database. And so that's a space we operate in. Well, we're conceptually in between them in that Google relies on estimation, something called interpolation, where they are trying to figure out from a bunch of characteristics what the thing is that the device is looking at, and sometimes they guess right, and sometimes they guess wrong. And Microsoft has a specific identifier embodied in their symbology, which is a bunch of data akin to what we use.

So we are more reliable than Google Goggles, because we have a specific identifier like Microsoft Tag. And we consider ourselves to be advantageous over Microsoft Tag, because we're not visible and we don't take up real estate. And in the world the world of publishing both aesthetics and space are very significant issues generally, space costing money and aesthetics affecting the reader's perception of the publication. So we think we complete effectively with both ends of the book, and yet they're obviously companies of substantial means, so we don't take them lightly. But we'll see how things go during the remainder of this year. We think we'll do fine against those guys for those reasons.

Okay. And just a quick follow-up on the commercialization plan of the technology, what -- how exactly are you going to market this?How are you going to differentiate it on the marketing side from those two, for example?

Well, we -- we're refining our marketing plans using the beta period. That's one of the reasons we have the beta period, is to test some assumptions. But our assumption is that we'll be preferred over Microsoft Tag because we're invisible, and over Google Goggles because we're more reliable. So simple -- that's a simple marketing message. It's quite straightforward. We're very economical in the pricing model that we are entering with, and so I don't think price is going to be an issue, even if they are free, because we offer other advantages that they don't, which is that in the case of Google Goggles, that's meant to feed the Google Engine. And lots of brands don't want to concede their customer interface and their marketing to Google. We offer a private marketing channel to brands akin to what Microsoft could do with Microsoft Tag. But Microsoft Tag is big and ugly, and it is Microsoft, which also carries with it some baggage.

So we think as an independent small company with an imperceptible symbology that provides for reliable identification of the print publication and allows for publication of the private marketing channel from the publisher and the associated brands to audiences and qualified prospects for purchases that we have got a good marketing proposition. We'll see. We have got to test it. And we'll go out and do our best, and I'm feeling pretty good that we have got a good, clear, competitive differentiation that we can market.

Okay. And other than the two book ends there, are there other smaller companies kind of competing in this space that you know of that are posing a threat?

Yes, there's a little company called Amazon, and another one called eBay. So those are the little guys. They are using 1D barcode or 2D barcode symbologies in their efforts to build a market. Amazon also has something in their search, which they have referred to by an odd name called Mechanical Turk, and that is using crowd sourcing to try to identify ambiguous objects. Again, they use estimation techniques. They -- ifthey can't figure it out to out, they send it out to the world and pay micro payments to people in developing nations to try to identify things by aggregating the identification as a statistic process.

So, yes, there's a bunch of efforts to do this kind of thing. Most of them relate to visible symbologies' one, two, and 3D bar codes. Google is the most prominent initiative on image analysis and estimation, and and because of our strong IP position, and our investments over the years, and our unwavering vision, we are the primary advocate of this imperceptible digital data that allows for reliable indication.

Okay.

So we have a pretty clear position in the marketplace. Are a bunch of guys in the barcode space, and there's Google Goggles and a few small players trying to move into the image analysis space, and you have got Amazon sort of in both spaces.

Great. Thanks, guys.

Yes.

(Operator Instructions). You have a follow-up question from Paul Sonz, of Sonz partners.

Gentlemen, how is the other JV going, with Nielsen?

The TV [or] JV is focused on building and enabling technologies that relate object identification through watermarking to the various data capacities of Nielsen, so that's what it is doing.

And any interest on the horizon there, or is it -- it's still a technology in search of a market?

Well, it's being used to support JV2, and we have a pilot going with one video video distributor on the Internet. And we are in conversations with a bunch of people about possibilities in Connected TV. So those are the actual and potential uses of JV1 technology so far.

Good. Excellent. Thank you.

All right.

You also have a follow-up question from Kevin Hanrahan of KMH Capital Advisors.

Yes, Bruce, I just had a follow-up question, if you can give us -- if there's any update to the Verance situation or not?

Yes. We have been engaged in what is called motion practice in Delaware and Oregon, and so we filed a motion to dismiss the case in Delaware, and we filed a contract -- breach of contract action in Oregon, and there are some services where you can get access to the filings that are not under seal. So the best one I think, or the one I'm familiar with, is called Pacer. P-A-C-E-R. In this case, unfortunately for you, many of the pleadings are under seal because of non-disclosure agreements that cover a lot of the allegedly relevant facts and positions of parties. So you will find some stuff, but not as much as you would like.

Okay. And that relates to your Blu-ray royalties that you would receive?

Yes.

Okay. All right. Thanks, Bruce.

You are welcome, Kevin.

At this time, there are no further questions. I will now hand the call back over for any closing remarks.

All right. Thank you very much, everyone, for your support and confidence. We'll look forward to talking to you again in a month or two, I guess, when we do the Q1 call. Thanks and good-bye.

Thank you. This concludes your conference. You may now disconnect.