Digimarc Corp (DMRC) 2016 Q4 法說會逐字稿

Good afternoon and thank you for participating in today's conference call.

I will now turn the call over to Bruce Davis, Chairman and CEO of Digimarc. Mr. Davis, please proceed.

Thanks. Good afternoon. Thank you for participating in today's Conference Call. Charles Beck, our CFO, is with me. On the call today, we'll review Q4 and fiscal year 2016 financial results, discuss significant business developments and market conditions, and provide an update on execution of strategy. This webcast will be archived in the Investor Relations' section of our website.

Please note that during the course of this call, we'll be making certain forward-looking statements, including those regarding revenue recognition matters, results of operations, investments, initiatives, perspectives on business partners, customers and prospects, industry trends and growth strategies. We also will discuss from time to time information provided to us by channel partners and actual and potential customers about their business activities.

Please appreciate that we're providing this information as we understand that it was represented to us by the customers, prospects, and partners and we do not verify nor vouch for such information. Such forward-looking statements and statements of our partners and customers are subject to many assumptions, risks, uncertainties and changes in circumstances. Any assumptions we share 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 about risk factors that may cause actual results to differ from expectations, please see the company's filings with the SEC, including the Form 10-K that we expect to file shortly.

Charles will begin by commenting on our financial results, I'll then discuss significant business developments, market conditions and execution of strategy. Charles?

Thanks, Bruce. Good afternoon, everyone. Revenue for the quarter was $5.2 million, up from $5 million in the fourth quarter of last year. The increase was due to higher service revenue reflecting more program work for Central Banks. License revenue was lower primarily due to lower reported royalties from a large patent licensee which tend to fluctuate quarter-to-quarter.

Subscription revenue was flat, reflecting higher Barcode revenue offset by lower Guardian revenue. Revenue growth from Central Banks has been unusually high in the past two quarters. We expect this increased level of program work to continue through at least the first half of 2017.

Digimarc Discover and Barcode bookings continue at a significantly higher level than a year ago coming in at $600,000 for Q4, twice last year's level. Discover and Barcode bookings for 2016 were $1.8 million, nearly three times 2015 levels. As a reminder, we define bookings as the non-cancelable fixed value of a contract. We expect a lumpy pattern to bookings, as we build out the revenue base in this area of our business.

Gross margin was 60% in the fourth quarter, flat with Q4 of last year. Service margins were essentially flat, while subscription margins were up nine points, reflecting higher Digimarc Barcode revenue and lower operating costs. License margins were down five points reflecting lower license revenue.

Operating expenses were $700,000, or 8% higher than the fourth quarter of last year. The increase reflects previously noted increases in staffing for sales, marketing, engineering, and operations to expand our capabilities and selling and delivering the Digimarc Barcode to retailers and brands. We hired 12 professional staff during the fourth quarter and anticipate hiring an additional 15 to 20 staff in the next six months.

Net loss for the fourth quarter was $5.8 million, or $0.57 per diluted share versus a net loss of $5.3 million, or $0.62 per diluted share in the same quarter last year. We ended the quarter with over $60 million in cash for marketable securities. We invested $5.8 million of our working capital during Q4 including $4.9 million to fund operations and $400,000 for capital expenditures.

Cash usage was higher than previous quarters as we foreshadowed in previous calls, reflecting the timing of a customer payment received earlier than normal and increased staffing.

Revenue for the year was $21.8 million, or 2% lower than 2015. Revenues last year included a service agreement with Intellectual Ventures that expired and completion of revenue recognition on a confidential software license. Excluding these items, revenue grew $1 million, or 5%, reflecting new program requirements with the Central Banks and growth in Digimarc Barcode sales.

Gross margins for the year were 61%, in line with our expectations at the beginning of the year. Margins were up slightly year-over-year, due to lower Guardian operating costs, partially offset by lower software license revenue. Operating expenses were $35.2 million for the year, up 13% from 2015, primarily reflecting increases in staffing. Our professional staff increased from 166 to 180 full-time employees during the year, with most positions focused on the sale and delivery of Digimarc Discover and Barcode.

For the year, we invested $18.4 million of working capital, in line with the level we anticipated at the beginning of 2016. We spent $13.9 million to fund operations and $2.6 million for capital expenditures. We expected the cash usage in Q1 will be lower than in Q4 2016 - - in the range of $4.5 million to $5.5 million. The anticipated improvement in Q1 cash flow is due to the expected receipt of a large annual license fee that is billed in Q4 each year and collected in Q1.

The preliminary views of our 2017 budget assumptions that we shared with you on Q3 call have not materially changed. For further discussion of our financial results and risks and prospects for our business please see our Form 10-K that we expect to file shortly.

Bruce will now provide his comments on significant business developments, market conditions, and execution of strategy.

Thanks Charles. This is a stub period report given that my last update to the financial community was on January 11th, at the Needham Conference. There I provide a review of 2016 performance, outlined 2017 priorities and previewed our exhibition to messaging for NRF. If you missed that presentation, it's available on our website at www.digimarc.com/replay.

My update today then, will focus on what has transpired in the five weeks since then - - my view of market conditions and our plans and expectations going forward. It's been a very busy month in market development. We've seen a significant increase in interest from existing prospects and customers, as well as new prospects. These activities spin retailers, brands and non-core prospects, involving applications across the full spectrum of operations and engagement.

The 2016 financing gave us confidence to increase our marketing and delivery capabilities. As our share voice has been increasing along with our willingness to engage in Europe and Japan, opportunities have multiplied. We have some level of engagement with all of the top 10 retailers in the world and six of the top 10 CPGs. These relationships range from discussion of pilots to contract small volume production.

For those of you who attended NRF, you witnessed first-hand the unfolding of the platform and supportive applications from manufacturing to logistics store operations and consumer engagement.

At NRF, all four leading POS scanner OEMs that had announced support last year demonstrated enabled products in our booth. We showed [the Zorba] of Datalogic support for variable data labels, addressing many shortcomings and current solutions for fresh food labels. Westrock and everything introduced the connected package program, foreshadowing a persistent digital identity for products throughout their lifecycle and the critical role that reliable, efficient identification will play in the Internet of Things.

ASP showcased serialization and track and trade solutions for supply chain management. [Shezably] growing importance to brand activation was evident in campaigns of numerous world-class consumer brands. Digimarc enhanced packaging from Wegmans, New Seasons, Kimberly Clark, Absolut Vodka and Perrigo were on display.

We showed hang tags for apparel and shelf add solutions for the first time and Bossa Nova's Robot for shelf compliance and inventory management drew crowd throughout the Show. Our partners at GS1 in the US had team members on hand to reinforce our strong collaboration in advancing this Barcode innovation.

We followed-up on NRF with participation at the Food Marketing Institute Midwinter Executive Conference at the end of January. These events coalesced with impressive progress concerning GMO - - a smart label initiative to create an uptick in interest in our platform. We have made rapid and significant progress concerning the GMO law that became effective in August and the associated smart label industry initiative.

As of early August, there was a presumption that the Federal government and GMA would require a QR code for compliance. Shortly after completion of our financing, we put together a government [relations] team, drawing upon some proven resources from our ID System days. In December, the Senate Agriculture Committee issued their committee report on the GMO legislation, stating that the agricultural marketing service should be technology neutral when drafting implementation regulations.

The report stated, "Congress intends for the standard to be technology neutral and reflect technology changes over time. It is also Congress' intent that the USDA utilize and recognize other label changes and standards where appropriate, to minimize burdens imposed by the Mandatory Disclosure Program. This legislation is intended to address a consumer demand for marketing information in a manner that creates as little interruption in the value chain as possible."

In January, the GMA followed suit, revising its positions to permit alternative means of implementation clearing the way for Digimarc to educate the industry about more elegant and effective approaches based on our intuitive computing platform. We're finalizing the specification for Digimarc Barcode based implementations of smart label for packaging and several leading CPGs have expressed interest in our own approach.

While we continue focus most of our resources on the domestic market, as promised in our financing, we are increasing our support for key foreign markets. I recently returned from Europe and I'm impressed with the energy and focus of our colleagues at GS1 in Germany. Members of our team will be joining them at the upcoming Euro - - CIS EuroShop Event, in early March in Dusseldorf to meet with prospects and partners.

We are conducting in-depth training for key Japan study group members in preparation for upcoming Digimarc Barcode pilots involving leading retailers and brands in that territory. Several members will be exhibiting at Retailtech Japan 2017, in March. The next plenary session of the group is in May. The group is contemplating a launch of the platform in 2018.

We now believe that we have sufficient evidence of demand to support our 2017 market development objectives. Operational excellence is now at the forefront of execution of strategy. We need to deliver with quality to those accounts who have, those on sales with prospects and grow our share of wallet with all these companies.

We're aggressively adapting our organization to keep pace with the evolution of our growth strategy.

In Q3 we expanded our Board of Directors, adding two accomplished executives from the consumer products industry. Since then we have restructured management, merging product management into engineering to improve efficiency and accountability and creating two new Executive positions, VP of Client Services and VP of Major Account Services. Client Services is headed by Scott Wilcox, a veteran Pre-Media Executive who has joined us in January. He is responsible for all delivery systems including in-house and partners.

Major Account Services is headed by Sean Calhoon, former Head of Product Management. He is in charge of fostering success of Major Accounts, marshalling all relevant corporate and partner resources. Sean reports to Scott. We continue to add expertise and develop and refine our internal business processes to manage these opportunities and associated challenges.

Our engagement with industry-leading retailers, brands, licensing authorities and trade associations, and supply chain partnerships are growing in number and effectiveness.

We have a strong balance sheet, effective working capital management, expanding institutional knowledge and progress and implementation requisite software, training, and support services - - fostering progress in key performance indicators of increased bookings and providing other revenues for growing adoption by industry and the financial markets.

I described our 2107 priorities at Needham. At the top of the list is adding customers and growing bookings. This requires closing more business, shortening sales cycles, and expanding production with undisclosed customers. Improving supply chain support as well as our own internal business processes will foster more speed and scale in accomplishing these goals.

We have key suppliers and industry associations in place. We are going to focus more on improving their effectiveness and less on adding partners for a while. We have enough important relationships in place to get significant business done. Regardless of what we do, we remain cognizant, as should you, of the challenges associated with gaining footholds for our transformational platform, and helping customers to revise business processes to exploit the benefits of platform at scale.

We greatly appreciate the additional working capital from our secondary financing offering in August and the expansion of our shareholder group to include several more very high-quality investors. This investment gives us more discretion to make good judgements about uses of working capital that will advance our progress and execution strategy. The fresh capital should enable more rapid market development.

We understand and appreciate the need to deliver convincing evidence of progress to reward and reassure our expanded ownership of the wisdom of their decision.

The basic building blocks are in place to make progress in and make public relationships with leading brands and retailers.

We continue improving tools, training and technical support for our supply chain partners and expanding awareness and understanding of the platform to customers, business partners and policymakers. We're working hard on all of these things and we thank you very much for your support while we do so.

That's it for the prepared remarks for today. Now, we'll open the floor to questions.

Thank you. Our first question comes from Rob Stone with Cowen & Company.

Hi, guys, thanks for taking my question. I wanted to start, Bruce, with thinking about what controls the pace of adoption? You mentioned you've got a good set of partners. It seems like - - certainly over the last year - - that system is really filled out. And, I know you're not prepared to name names, but you're engaged with some number of major retailers and some are deploying.

So, for those who've decided to deploy, what controls the pace, right now? Is this still a "do a little bit and try," or is it based on how quickly they can convert labels? H how we should we think about the pace of adoption?

Yes, it's good question Rob. The answer varies from company-to-company. So, there is a filter at every company for innovation. And for the largest companies in the world - - particularly the retailers - - those filters don't work particularly well. So, the first gate is getting through that filter.

The filter imposes a lot of conditions that take time and resources, largely revolving around proofs, or proof-of-concept, or feasibility studies, or economic studies or business process reengineering studies. So, that's much of what we've been doing for some time now with some of the major players and we're in early stages with others.

All of that is founded on an industry that's now called custom, of being "fast-followers," is the expression that's used in the industry, [and] well known. It really doesn't mean what it says - - it just means that most of them don't want be first. And so the challenge here has been explicit in my strategy from inception, and that is I've got to get the big guys to move, and I got to get them to move in a way that becomes noticeable to industry and then all of the process changes.

Then they are buying because their competitor has it and they have to have it as oppose to who is going to be first. So, there's a kind of caution, if you like, at this stage of market development revolving around the acquisition technology. And then the conversation I had at FMI, a couple of weeks ago, with the CEO of a large retailer, he said it as follows - "As a matter of strategy I feel like what you're doing is inevitable and important to us. I need to feel comfortable about doing it. So, how can you work with my team to make me comfortable about it, because we're not good at technology?"

And that goes all the way to the top of the chain of retailers. And you've seen statements -- public statements - - and the transformational activities that the largest of retailers having to do with the organization's ability to innovate with technology. So, I think the industry is getting hip to the problem. They are trying to solve it. They have got some dysfunctional structures in place that seem like a good idea at the time they were put in place.

But we're working our way through all of that and again, the process changes once we're established - - established meaning that the competitor is known to be building scale with us. So, in my prepared remarks I noted that we've got some small production going in some very important places and we need to scale it. And getting scale is competition for resources, so it's really passed the point of proof-of-concept and more try to keep everyone focused.

So, specifically with the customers and partners that are passed studies and proof-of-concept and so forth and are starting to put product into the channel, there's a couple that have been named, Wegmans, and New Seasons - - I guess there's a couple or three others that are in some stage of rolling out.

But once they get past studying and start deploying what is it that controls the pace of deployment? Is it meant to be a measured thing or is it their ability to do so many new packages per month or per quarter? I'm thinking about the pace of the race once people leave the starting gate?

Yes, my presumption is that it moves faster at an industry level and a corporate level once there is scale production somewhere. So, Wegmans is at scale. Wegmans is quite far along. But they're an $8 billion, 100-store operator and so they're not enough alone to move the industry I think.

However, within a large enterprise, there are typically many brands and so the way that we would normally begin be with one of the brands. So, then we've got to get that one brand along and then the other brands basically observe that brand and then we build scale within the enterprise brands by having the other brands join up.

Rob Stone: OK. My final question (multiple speakers)...

Yes, it's a business process change, and it affects not only internal processes, but the supply chain, because the big players mostly use what are known as "pre-media companies." That's just [chalk] and their competitors. And, so the change then, is to have us become, if you like, a bill of materials check box on a package design.

And that will not happen until we are conceived as a proven product within the enterprise.

Great. I wanted to ask about something else you said in the script which is that you're seeing - - to paraphrase, "tangential opportunities." And in the past you talked about, for instance, some supply chain opportunities that didn't have to do with front of the house, retailer or consumer engagement. I wonder if you could just shed any more color on that? What are these other opportunities? And are these things that you come across or things that came in over the transom to you?

Yes. And Rob I'll have to ask you that I be able to move onto another questioner after answering this one. So, we don't take up too much of the queue, there are many other people in the queue.

The answer in all cases that I'm referring to here are people coming to us based on an understanding of platform's capabilities. And I stand by my frequent statement that everything you can do with barcode, we can do better. And I think that's increasingly well understood. So, these are, if you like I'll call them "modern barcode notions," because some of them apply in media where a conventional barcode cannot be applied. But it's all the same principle of auto-identification off of structured data that is applied to the media.

Our next question comes from James Ricchiuti with Needham.

Hi, good afternoon. Bruce I just wanted to go back to that last comment you made about - - I think it was FMI where may have been in a discussion with the retailer. The sense you got is that this person felt the technology is inevitable, but how do you get comfortable with it? Is that the same mindset with the CPGs as well? Are they - - are you still having the same issue with them in terms of getting them comfortable with the technology?

I'm trying to get a sense as to how - - since you need to get, it appears to you need to get - - at least one or two of the major brands to move on this, if that's a fair way to characterize it. What are you doing to accomplish that?

One of the important tweaks to strategy that we're midst of is doing more of the work than I had anticipated on some of the most fundamental application. And so if you think about fast checkout with enabled, the infrastructure, which is largely point-of-sale and then the package itself.

In other areas, our model is that there's an application developer community that builds a bunch of stuff. What I'm finding is a desire for us to build some of that. And thus that may change the revenue composition and may be helpful in advancing our financial interest earlier.

But I'll use by way of example, smart label. And so we have, we think, quite elegant means of implementation don't require QR. But, we have to spec that solution and deliver it, because even though it might be obvious how it could be done by someone else, there isn't someone else to build it. And so that's an example of us, that we'll obviously license the solution and add a premium to mere platform access.

And there are others in the queue like that where, I think we have an opportunity here to speed up the pace of growth of the market and also provide a better near-term financial result by some pretty modest investment in the specification of solutions and the testing and refinement of those solutions and then the packaging of them to the marketplace. So, as we move through the year, I think you'll see some movement in that direction in my public communications and our website.

Just to switch gears for a second, on the bookings number that Charles mentioned - - I think it was $600,000 in the quarter. Is that a bookings number that consists of several different customers? And as you look at the pipeline, as you look at retailers you're working with and the CPGs, what is your visibility into potential bookings as we go through 2017?

Well, let me handle the - - at least the last part of that. I continue to not want to rely on statements of intent and timing of new customers and prospects. It's just something can happen and a week can go by or month can go by. It's just the way these enterprises operate and so I would expect that for the foreseeable future that the quarterly bookings number will still be a [slumpy] that won't show a predictable progression.

And so we've moving as quick as we can and close as many deals as we can to make good sense, and those all go into the bookings number when we finish them. But I wouldn't get too far ahead on extrapolation from the patterns here, although they have been quite favorable, both on the annual level for 2016 and the last quarters here. So, we're doing all we can to make those numbers as large as we can.

As to the composition we typically don't breakdown composition in relatively small numbers like $600,000. I don't know if Charles has any comments regarding that?

Yes, it includes multiple contracts and we aren't going to break that down any further. Last quarter we broke it down because we had one contract that accounted for the majority of it and it was a multi-year deal.

Right.

Not the case in Q4.

Got it. And then Charles, anything you can say that operating expense over the next quarter? You're adding staff, your OpEx actually -- at least in my model came in a little lower than expected. How should we think about OpEx over the next couple of quarters?

Yes, so we will be hiring 15 to 20 additional staff in the next six months. So, we expect that there will be a nice uptick in OpEx to account for that, as well as additional support cost for having additional staff.

Q1 always runs a little higher to as we have all the expense related to NRF as well. So, I would expect that there will be an uptick to account for those two factors.

OK, thanks. I'll jump back in the queue.

Our next question comes from Josh Nichols with B. Riley.

Just thinking about adoption taking like 5,000 foot view here. How fast could a major grocery or retailer, one of these CPGs, practically adopt Barcode throughout their entire product offering portfolio if they really decided to take the dive?

It depends on how orderly their management of the package assets is, and there is no standard for that. In general we're finding less order than you might want to believe of enterprises with the sort of scale and sophistication that we're dealing with. So, the answer, unfortunately, is "it depends." It also depends on the management view of the business case.

So, I'll give few examples of that. So, on the consumer product side of things, we're progressing more rapidly there than I had anticipated. And it revolves around largely things that have to do with informing consumers and there are different names. So, there's SmartLabel, which is a program there's digital transparency as consumer engagement. There's a number of different ways of expressing the same concept.

But the retailers are feeling a great deal of pressure to provide an improved engagement with consumers, and they all believe that is going to move toward the smartphone. So, the question becomes, then, how urgent they feel that need .

And, in the public statements of GMA, there are some brands who are saying they are going to do a whole lot of smart label. And whether they did or not, I can't say. This goes foreshowing of risk in the preamble there - - I don't know what pace they are actually going to do, but they commit to big numbers and they want to move quickly.

Then one of the outcomes of participating in the FMI event was a greater appreciation for the enormous competitive pressure on the food marketing business. It's a dogfight out there. It's really intense. And so we need to demonstrate our value within that competitive landscape, and as we do, again, there's nothing like a competitor adoption to inspire somebody.

So, we're pushing hard to get some of these guys going and once we do, I think everybody's going to move pretty fast. How fast can they move? I don't think there's any practical limit. I think the only limit is prioritization. And then with respect to very large private brands of retailers, similarly they can move as fast as they want to move if they get a clear sense of direction.

And so one of our key strategic initiatives of 2017 is to really run things out with Wegmans to make Wegmans a wonderful success. And hopefully use that as a showcase to inspire others. So, they're pretty far along. We need to expedite movement to large volumes on the shelf demonstrate the benefits to the Wegman family and hopefully the industry will take notice.

Thank you, that's helpful. And then my last question. Any detail you could provide on what the company is doing to broaden the adoption of the SDK and progress regarding the GS1 collaboration?

Yes, on the mobile SDK, there's actually a lot of work going on there and I can't share some of it with you unfortunately, but we have been making progress. And we have some collaborations going on that we think will result in broad adoption if we can pull them off. And, so I don't know if there's much more to say right now about that, but we did hire a licensing executive who is focused on it, and so we'll leave at that for now.

In terms of our GS1 relationship, that's obviously a temple of strategy for us, and the team there is very supportive, and were present throughout the NRF Show and also participating with us in account planning for major accounts, and continuing to develop programs that will help to increase awareness in the industry.

And so that continues to be an incredibly important relationship for us, and a developing relationship as the industry gets more involved, obviously, the ways in which GS1 can help its members become clearer. So, there is a bit of a cycle that we undergo together here as we try to discern how to best apply the assets of GS1 for the benefits of its membership. It's obviously important to us.

Thanks guys.

Yes.

Our next question comes from Jeff Van Rhee with Craig-Hallum.

Great, thank you. A couple from me today. First with the deals that are working through the pipeline, you talked about a lot of hoops you've got to jump through to prove and re-prove, and get the customers to the finish line, if you will. Can you talk about the "biggest of the big," and what is at this point you're proving?

You've seemingly been down a lot of these roads and demonstrated a lot of pieces. I'd just be curious if there's any commonality with respect to the late-stage prospects and what it is that they are most focused on having you prove out?

And along those lines if I could add a second question. I'm curious how the value proposition or the activating value proposition has changed for both the CPG and retailers? Namely retailers is a front of store - - is it other? And same for CPGs - - curious how the core driving force has shifted in terms of what they see as the most important value prop?

OK. That's a complicated set of questions within the questions. So, let me see what I can do. In terms of late-stage versus early stage, the early stages are about technical feasibility, if you like - - proof-of-concept. They're also exploratory with respect to effect on business process.

And that effect is not one-directional, it's not just the effect of Digimarc on the business process. But it's actually the surfacing of the intricacies - - or the workings - - of the process at the enterprise, to the enterprise in some cases. Because we are an important step in the late-stage design, but we have implications in the early stages of the design, in that designs can be made to work better with us or not.

So, we then work with the supply chain and in the large enterprises, they have multiple suppliers. So, then we have to make sure that we provide adequate training and oversight quality assurance for the multiple suppliers in the supply chain. So, most of the work in the early stage is how does this thing effect the enterprise.

The later stage work then is embracing the change. Its okay, we're going to do this. So, why are we doing it? And there the motivating force differs from enterprise-to-enterprise, and that's because we're actually pretty economical, but we're not yet fully developed on the application layer. And so there tends to be a [champion] who is driving a particular agenda that moves us along from that early technology study into production.

Then as we go into production, other people go, "Oh, OK, now I can see I've got a platform to work with let me then do it." If you like, overlapping cycle of that technology assessment and adoption. And so the way this unfolds in an enterprise then, I think, will be that entry point can be almost anything. And then the value of the platform begins to blossom within the enterprise.

And this is what we were trying to show at NRF. So, at NRF you could see a year ago, we're talking about fast scanning and mobile engagement and then you walked into our booth this year and you see all of these applications being demonstrated across the full lifecycle of the product. Well, that's the discovery, if you like, that the enterprise undergoes as it's doing the assessment of our platform. So, that's, if you like, the difference between late-stage and early-stage, as we look over it, thus far.

With respect to trying to expedite that, that's where my comment a moment go becomes relevant. That, we're going to do a little more work on spec'ing some early solutions. That then will come back to CEO of the large retailer that I was spending time with in January to say to him, "OK, I've got some well-defined solutions you can adopt that will give you a flavor of the value of the platform," rather than the general platform pitch which was the way that were presenting this in prior periods, right?

"Hey, adopt a platform, you can do a million things,." Right? So, what he is saying is, "Look I'm a little bit frightened by that proposition. How about if we start with some specific things that you guys know you can deliver reliably and efficiently to us at a reasonable price and we'll grow from there."

So, there's -- and both pitches have resonance in different places, but we're now realizing that for a company like his, fits in the platform, he gets it. He goes, "Wow, this is great, feel like I got to do it. When do I need to get started? How do I get started? What are my risk and costs?" And our answer to him will be, "OK, here's a specific solution you can implement and you're going to get a nice ROI and that's just an application built on platform."

Our next question comes (multiple speakers). Our next question comes from Glenn Mattson with Ladenburg Thalmann.

Hi, good afternoon. I'm not sure just building on that same last customer your prior reference in the prior question. In the last call you talked about top 10 retailer where you were just simply at this point discussing price and implementation plans. Perhaps you don't want to put a date on these things obviously because they move around as you said, but can you say if those discussions have advanced, or have they stalled or retreated at all or any color on that?

They appear to be advancing. We obviously don't have any specific announcements, but yes, we're making progress. And not only making progress, where I said we were in the last call, but as I noted in the prepared remarks, we now have some level of engagement with all of the top retailers in the world - - the top 10. So, our moment has expanded significantly since the last call, in early November.

OK. And then with the emergence of Amazon in the physical retail space, have you seen - - has that increased any urgency amongst these other, more traditional retailers for some sort of digital engagement or more faster check out - - that kind of thing? Any color on it, if that's impacted the thought process of your potential customers?

Well, I guess I would clarify they haven't really emerged, they just sent out a vision statement that was targeted beautifully to the financial markets. And I believe that they are a great company and a great retailer, a great innovator. But the importance of that video was grossly overstated, in that -- the technologies that were in play there are available to retailers today from a variety of sources.

They just cobbled it together and pushed it out before NRF. So that they would get the extremely favorable review they got from the financial markets. In industry there was already a sense here of the need for reshaping of those strategies. And, this is a point I alluded to a few minutes ago that Amazon is just one of a wide range of competitive threats to classic retail. They are all trying to reshape their businesses.

And if you run across some research on [one ales, genozees] and so forth, there's a -- it's not as if everyone's going to go to online and there's not going to be any more physical retail. Physical retail needs to be a more enjoyable experience and so there are crosscurrents going on in the industry, now, where some of the retailers are shutting down stores and others are investing in stores. Some are going total low cost, others are trying to upgrade their image.

So, no one has found the silver bullet right now, but Amazon represents the need for change and innovation. I talk about Amazon all the time with everybody else, like you should take a lesson from their playbook. So, I try my best to make a big deal out of what they do because I think that they represent a perspective on the market that should be shared by all retailers, but it's not.

But I do know that a number of very large retailers now that we're getting in better communication with the world leaders are all really wound up about the general subject to transformation of retail. So, not so much that Amazon video, and not so much Amazon, but - - depending on the segment that they are in - - so in food products, for instance, they have worry about restaurants, about prepared meals from [plated] and guys like that, they have to worry about food trucks, and they have a lot of worries.

The answer to the worries is in creating more satisfying shopping experience, which I think we're all over. I think we can do so much for them - - and that's where we need to build the trusted supplier relationship from any toehold that they want to give us to help them to transform their businesses to address the growing competition.

OK, that's insightful, Bruce. Thanks for the color.

Our next question comes from Jeff Bernstein with Cowen Advisors.

Hi, guys, thanks for taking my questions. Just a couple of quick ones. Apparently, I guess a fair amount of the store brands are actually manufactured by the CPGs. Is there any kind of cross-pollination with store brand efforts and the CPGs as a result of that?

Yes. There's also a clearly acknowledged competition between store brands and national brands. And so, if either one of them moves in a direction that's competitive threat in that paradigm that I often talk about of, "Well if they're doing it, I have to do it." So, we can influence from either direction.

Got you. And then just on the changes in nutritional labels, are you seeing any kind of movement as a result of that?

Yes, that's been an ambiguous phenomenon for us. I talked to some of our shareholders and analysts about this. That we have clearly a point of resistance in our strategy around the design teams - - package design teams. I have yet to find one that doesn't feel overworked and underpaid. And so they will try to find reasons not to do more things.

And so in some cases, they - - by the efficiency arguments, "Well, if I'm doing a redesign, let me do as much as I can to be efficient." In other cases, "While I'm doing - - I'm already doing nutrition facts, so I need to do a Digimarc, too." We hear both of those things. So, there isn't any -- it's not a problem for us, but it's also not always a virtue for us. So, it's just a factor if you like.

There are lots of redesigns going on and much of the redesign is around a broader concept than the nutrition facts - - nutrition facts being a symptom of this desire for improving the information flow on the pack. And there just isn't any more room for human discernible information on the pack, so it has to go off-pack, which we think should mean us. And so, nutrition facts is just a symptom, if you like, of a larger phenomenon.

And I was just listening this morning to a discussion on CNBC with a represented from Coca-Cola in Australia talking about sugar taxes. And there's already rumblings in Congress about what are we going to do about sugar. Well, plug another QR code on the package for sugar.

The answer has to be in having an intuitive and reliable interface like we provide to allow the pack to talk to the consumer with up-to-date information about things the consumer cares about. It has to be the answer. The question is pace. So, we're trying to make it happen as quickly as possible.

There are many brands who are feeling pressured to get there, and that's why we have, I think, an unusually robust group of CPGs interested in doing business with us, because they too believe we may be inevitable, and maybe a very important aspect of their entire relationship with their consumer. Ranging from helping to sell competitively, helping to be more satisfied with the product and helping to keep the regulators off their back.

So, all these things flow around in the same general theme of "Can I make the pack more informative?"

OK. And then lastly I just want to follow-up on Rob Stone's question about gating factors. So if a bunch customers decided they wanted to go ahead full bore, right now, what are the gating factors for you, Digimarc, internally at this point to being able to take that business?

It depends on this budget. So, who is their [pre-pressifier] is the first question in the answer to your question. So, and the subsidiary question is what is the state of the inventory of designs? And what is the process for redesign? And what will be the cost of redesign? So, that's the answer. The honest answer to your question is it's most likely not do we internally here at Digimarc have enough capacity.

It's more likely who is their supplier? What's their negotiation with their supplier? And, how prepared is their supplier to do the work? What is the schedule that the client wants to impose? How much are they willing to paying to impose that schedule?

OK. So, that is not on the list of issues for somebody pulling the trigger -- "Can you handle our business?" That's not an issue now?

I don't believe so.

Great. Thanks very much.

You bet.

Our next question comes from John Grimley with TJW Capital.

Hey, Bruce, just two quick questions. One, on pricing, I know in the market there's 600,000 million GTINs, $30 billion market opportunity at $50. On these enterprise deals, should we still be using $50, is that the right number per SKU? Or, how should we be thinking about pricing on the enterprise side?

Yes. It's a good question John. I think where I'm anticipating things will go in the near-term here is that these solutions will add another layer onto the revenue model. And so whereas we've been modeling just sort of access to the platform, I think we're going to do some solution-based pricing, too, which is additive to that.

And so we're building matrices, if you like, of solutions to offer into enterprises. And so when we talk about an enterprise agreement, actually in our world here in the early stages of market development, that's like a Chinese menu. So, it's not all you can eat of everything. It's what do you want to do - - and we'll price that on an annual basis. And so the $50 is a fundamental tenet of that modeling, but it depends on what they want to do.

Got it. And that, those - - the menu will grow over time, obviously, as the ecosystem builds and as you guys start to integrate digital barcodes, with the other opportunities along the way? Is that the right way to think about it?

Yes.

OK.

(Multiple Speakers)

And most of the focus - - and let me just add something, John, to help you out here. So, the most of the focus of the financial markets is, as your premise stated, on packaging. But we do a lot for the enhancement of all media and [Shazam] is enjoying quite a lot of success in support of brands using media, including packaging, but not limited to packaging.

And so when we talk about it, enterprise agreement, it could encompass all of their marketing as well as their supply chain. We have also companies - - big companies - - interested in logistics and manufacturing applications. And so, the $50 per package may not be relevant in those applications, those could be starting points for some of those enterprises. And it could be that they start there in the form of an enterprise agreement that does not encompass a license to do all their packaging at $50 per design.

Got it. So, that's like [meant in] warehouses and things like that?

Yes. So, we've talked vaguely about this suitably, but quality control and manufacturing and inventory management for materials. We can do a better job than a number of existing systems for doing those things. Our goal is to establish a trusted supply relationship with the world leaders, and we'll start wherever they want to start - - because we think once that we've established that relationship that we can grow the share of wallet from that customer, by delivering more applications ourselves than by encouraging the development of the application development community.

Got it. OK. And the other question, at some point, obviously we'll start seeing more stuff on shelves. Can we assume that based on the checks I've been doing over the years, it just seems - - and I didn't appreciate this a couple of years ago - - but these large retailers are really logistics company more than anything else, and their supply chain's really important.

Should we assume once you're on the shelves of some of these large retailers that they've already done that ROI work? Signed-off on the ROI then it makes sense to invest if they're willing to go through the work, to put it through the supply chain and see stuff on shelves?

Yes, I don't know enough to answer that question, John. So, I'll have to pass because I just don't -- I don't know the answer to that from any individual direct experience.

We have a follow-up from the line of James Ricchiuti with Needham.

The staffing increase that you're talking about, is that going to be in split evenly in sales and marketing and engineering or there are going to be more folks in sales and marketing?

Actually, probably - - Charles is here to correct me if I got it wrong in terms of actual open racks - - but, the client services area, we hired a new executive and moved some other executives into it. You can assume there's a lot of stuff going on. So, I think a substantial number of the recruits will go into that area.

And, that's basically delivery systems. Because in order to scale this, we've got to do a really good job of delivering to the early clients, and, if you like, defining best practices, defining the business processes that will work well for them. So, there's a lot of work to do in that area now that we have sufficient interest to get going on the work.

Bruce, is one way to think about this increased resources that you're putting into these areas, is it really geared toward getting you over the finish line, as opposed to getting coverage in areas that you weren't addressing that you should have been?

No. I hinted at this in my prepared remarks. I think we have enough evidence of demand, Jim. So, what do I get done? Well we've got to close sales, deliver well and expand share of wallet. That's very straightforward stuff. And so it's really the evolution of the strategy, it's a different stage of execution that we've reached. And, so we need to modify the organization to accommodate that.

And so I'm not looking to generate a lot more demand. I'm looking to close sales and deliver. So, that's where most of the resources will go.

OK. And Charles, just getting back to the outlook that you I think are reaffirming - - you had talked, I believe, in the Q3 call that you expect some meaningful increase in subscription revenue. Is that still the way we should think about the year - - in mid-single digit growth in service and generally a stable license revenue line? Is that the right way to think about the year?

I think that's fair. We really haven't made any material changes to our 2017 budget assumptions that we went through during the Q3 call.

OK. Thank you.

Thanks, Jim.

This does conclude our question-and-answer session. I would now like to turn the call back over to Bruce Davis. Sir, please proceed.

All right. That's it for today then. Thank you all for your continued support and confidence in Digimarc. We'll report back to you again in April.

This concludes today's conference call. Thank you, ladies and gentlemen for joining us today for our presentation. You may now disconnect.