Telefonaktiebolaget LM Ericsson (ERIC) 2004 Q1 法說會逐字稿

Good afternoon, ladies and gentlemen. I am Eric Cooney, the President and Chief Executive Officer with Tandberg Television. I am here today with Tim O'Connor, our Chief Financial Officer to present the First Quarter 2004 Results for Tandberg Television.

Moving right into it, the results for first quarter 2004, I would say, we are encouraged by these results, in particular given that first quarter is typically a fairly weak quarter. So, as you can see with revenues top line 314 million NOK for the quarter. That’s up 5% quarter-on-quarter, and up 34% over 2003. The operating margin is pretty healthy at 9.3% or 29.2 million NOK; and a pre-tax profit of 24.3 million NOK. There were some adverse currency effects, which affected that pre-tax profit which Tim will elaborate on in a few minutes. And finally the cash flow from operations, 18.9 million NOK, bringing our total net cash balance to just under 250 million NOK.

Moving on the market update; during the first quarter we announced a number of key contracts in particular Kabel Deutschland in Germany, the single largest cable operator in Germany currently with over 10 million subscribers. We received a contract from Kabel Deutschland for the delivery of a complete digital compression head-end that includes the MPEG-2 encoding, multiplexing, modulation equipment, as well as, a contract for professional services for the integration of the conditional access, the installation, and the commissioning of that system. I've put part of a quotation in here for one of the executives at Kabel Deutschland. We needed a true long term partner for our move to digital and I've put that in here because I think it's indicative of the types of comments that we are seeing and feeling from a number of our customers. It's truly that long term partnership that they are using as part of their buying criteria, buying decision. They are coming to and buying from companies, vendor, suppliers, which they know and trust; and we obviously think we are in a good position in that category.

Next, Fox Network. Fox Network gave us a contract earlier this quarter for high-definition decoders. Fox Network is rolling out a very aggressive high definition network distribution system later this year. It is a 720p/60 high definition network. They are using our decoders at some 200 television affiliates around the U.S. market. Really a very powerful significant contract for Tandberg Television demonstrating our success in the broadcast market in particular.

BSkyB, the largest satellite DTH operator in Europe and, in fact, the third largest worldwide, provided Tandberg Television with a contract for their expansion MPEG-2, standard definition compression systems, which we will commence delivering later this year. And finally Swisscom; Swisscom’s division Bluewin, their broadband division awarded Tandberg Television a contract for Windows Media 9 that is our advanced video compression standard encoders. Bluewin is rolling out a broadband or video-over DSL network and we will be delivering those encoders actually this month.

Continuing with the market update, we've just returned from the Annual National Association of Broadcaster convention held every year in Las Vegas. A very good show, very successful for Tandberg. Overall, the show attendance was up about 10% with something just under a 100,000 attendees worldwide. Tandberg Television judges impart our success at that show, of course, based on the number of sales, leads, or opportunities generated while at the show. And this year those sales leads were up about 45% over the leads we generated in 2003. Also of note, this year’s NAB was somewhat different from the previous several years, in that we were actually closing deals, receiving verbal awards on the stand, at the show indicative that customers are coming to the show not only with the budgets but prepared to make the buying decisions while they are there. So, I felt very good about the show, and also felt very good about the messaging that we had for the customers in the market, in particular, as it relates to high-definition and advance video compression. Those were both very hot topics at the show this year which I’ll elaborate on here in a moment.

Moving on, demonstrating our technology leadership, we received two innovative or rather two industry awards. The first from the SSPI -- the Society of Satellite Professionals. In March of this year, they provided us an award for our digital satellite newsgathering encoder, "The Industry Innovator Award" and awarded that to us at the Satellite 2004 Show in Washington D.C. Second, Broadcast Engineering provided Tandberg Television with one of their NAB 2004 "Hot Pick of the Show" awards for our newly released product the Tandberg Television Intelligent Compression Engine that is essentially a hardware module that enables the advance video compression technologies either Windows Media 9 or MPEG4 part 10. And Broadcast Engineering clearly felt that our implementation of that technology was deserving of this recognition.

Moving on to the market outlook; simply put, there are two, if you will, market trends that we feel are directly impacting or driving our revenues certainly over the next couple of quarters. The first of those is high definition, and as you can see here I’ve listed a number of points that I think really drive home the fact that high definition television on a global basis is truly a compelling consumer proposition with something in excess of 9 million HDTV sets sold in the U.S. market alone as of March of this year; over 700 hours of high definition content available, again in the U.S. market, is clearly beyond that critical mass if you will of available interesting content and apparently reasonably priced receive devices such that the consumers are willing and able to make those investments in their television sets.

Likewise, or rather similarly in Europe, we see Euro1080 is now up and operational. That is the first satellite HDTV service granted. Certainly very early days for Euro1080; I believe or understand they are targeting something on the order of about 100,000 subscribers in this year, but clearly an indication that in Europe high definition is beginning to move.

IMS Research is predicting global HDTV shipments in 2008 in excess of 33 million. And of that 33 million just under 5 million are expected to ship in the European market alone. Not only is demand for HD content in the U.S. and Asia-Pacific markets creating a demand for a high definition encoders and receivers in those markets, but that consumer demand is creating a pull for those broadcast or content creators in Europe to create content that can then be distributed or transmitted in the U.S. or Asia-Pacific. So, it's truly a global phenomenon. And from a vendor or supplier perspective, we are seeing customers on a global basis for a high definition product.

Now final point I wanted to make on high definition is that, that compelling consumer proposition is creating a compelling -- competitive dynamic, if you will, amongst the satellite and cable operators, in particular, in the U.S. market. It really bottles down to, if you are a consumer, making a choice between your local cable operator's offering and your local or satellite DTH operator's offering, the quantity and quality of high definition content that either of those service providers is able to offer you, is a part of the buying decision for you. So, we as a supplier are seeing the cable and satellite operators aggressively deploying, ordering, purchasing high definition equipment, really as part of their answer to the competitive dynamic.

The second market trend I want to mention is the xDSL or broadband growth. You can see the figures, just under 64 million DSL subscribers worldwide, year-on-year that was about a 78% growth. There is clearly a competitive dynamic between the Telco operators and the cable operators as they both move to offer the wanted Triple Play of voice, video, and high-speed data, and of course, Tandberg Television is well positioned to offer, in particular, the Telcos, the video over DSL system with the advanced video coding technologies. As many of you are certainly aware those advanced video compression technologies, MPEG-4 and Windows Media 9 are really the technology that enable that business model, that video over DSL, DSL being a very narrow pipe, they clearly need the optimal video compression. So between high definition and the video over DSL market we are seeing significant growing demand for our products and solutions on a global basis.

So bottom line for our near-term outlook looking at just second quarter of 2004. We are entering Q2 with a very solid backlog and a very strong opportunity pipeline. We are seeing this confluence of market influences that being the high definition and the video over DSL creating a very positive pull for Tandberg Television products and solutions. We do feel pretty comfortable with our technology leadership position receiving some very prestigious industry awards, recognizing those products and those developments. We feel good about that. And we are stating "modest growth" for second quarter of 2004 above and beyond Q1. And, of course, the trademark, continued growth in profitability is where we are and where we continue to stay. With that I’ll turn over to Mr. O'Connor for view on the financials.

Thank you, Eric. As Eric said, I’m Tim O'Connor, CFO of Tandberg Television. And I am going to run through the quarter’s financials, and give you some flavor, if you like, or a bit of extra explanation to hunt some of the numbers, and to help us understand them. So, first of all, I am moving to the income statement. As Eric mentioned, revenue was up some 34% on Q1 of the previous year. In the quarter, there was a small amount of foreign exchange positive, probably a couple of percent was down to foreign exchange, but other than that it was a strong performance, and I’ll come to talk a little bit more about the revenue breakdown in a moment.

Gross margin slightly down in the quarter, again there is foreign exchange impact there, principally, as a result of the strong pound. Operating costs are up, up to 106.6 million NOK. We guided up in Q1 as a result to some of the pay reviews, but again we’ve got foreign exchange. And foreign exchange there, as most of our operating costs are now in the U.K., that has have an effect to 5-6 million NOK on that number this quarter. But overall, we’ve delivered an EBIT of 29.2 million NOK, which is around 9.2% up from -- 9.3% up from around 3% this time last year. So, we continue to deliver an improving set of results.

As you can see the net financial items, we've also suffered there from the strength of the pound, and that has resulted in a negative -- that’s really the translation of the foreign exchange balances held in the countries which we operate in, and is really is a result of the very week U.S. dollar we saw during the quarter, as well as, the strength of the pound against the krona and the U.S. dollar.

We’ve put in a tax line. It's a notional tax line of 30%, which is the expected tax level for the group and that, you will see, has been offset against the deferred tax that we put into the balance sheet. So, there is no cash impact of that. That’s purely a tax impact onto the deferred assets.

Moving on now to the revenue -- revenue by region. We’ve seen a fairly encouraging trend over the last several quarters of increasing revenue. In Q1, we see some particular interesting moves. The Americas has been very strong quarter accounting for around 35% of the overall revenue in the quarter that’s despite the weak U.S. dollar. We delivered two of the large contracts or large parts of the large contracts that we talked about last year and we announced last year being Artel (ph.) and Intelsat. So that accounts for the significant growth there in the Americas.

AMEA stayed fairly flat a little bit down in the quarter and I think that was down due to some of the may be seasonal effects we have talked to you before. And as with Asia Pacific, seasonally it's down on quarter-on-quarter, but we are confident that coming into Q2, both those regions will pick up again. So we are fairly happy with the overall results -- we are very happy with the overall result of the revenue actually being higher in Q4, 2003 which tends to buck the general trend of the industry.

Moving on to there -- from there to gross margin and you can see over the last 4 or 5 quarters a general slow -- very slow downward trend in the margin there just dropping below 45% this quarter; and as I said, a lot of that is to do with the exchange rates but also in the U.S. deals we were talking about. The Artel (ph.) deal had a very significant number of receivers in it which tend to be of lower margin than the encoders and the Intelsat deal also had significant amounts of third party equipment which tends to pass through at slightly lower margins. So there's a number of contributing factors there and I think going forward we are fairly happy that the margin is going to stay around the 45% level going forward.

In terms of pre-tax earnings, again the general trend over the last 6 quarters has been or 5 quarters has been an output one improving the earnings as we start to show the leverage on our operating cost base. We see the -- we see improving returns delivered. Q1 is down slightly on Q4 principally as a result of the operating cost increases but going forward again with more revenue growth we can expect to continue this trend of improving earnings per share.

Moving on from earnings per share to the balance sheet, just pick up a number of quick highlights there the; intangible assets that’s principally the deferred tax asset. If you do the calculations and you take off the 7 million of tax from an intangible asset which was a 120 million NOK at the end of Q4, obviously, it doesn't look like it adds up, but if you consider this foreign exchange again much of that deferred tax asset is in pounds in U.K. so that’s been revaluated to a higher rate. So there's been a very minor adjustment to that in the quarter. In terms of the current assets, I will come back to talk a little bit about those in a moment. But generally there's some encouraging signs there and continuing to demonstrate control on the business and continuing to see an improving cash position.

In terms of provisions the main provisions in there are at general warranty provision that we always carry and then there's also a small amount of provision relating to the properties we have got still in U.K. and overall still had a very strong balance sheet. There is no debt in the balance sheet and we have got -- our equity ratio is up now to 72.6%. So, the balance sheet is looking pretty strong and continues to strengthen as it did during last year. Looking at a little bit more detail some of the current asset trends and developments you can see the cash has continued to rise from Q1 last year, continues on that positive trend as we continue to deliver reasonable results. The receivables, done a bit of good work on those; we're still maintaining it around 65-70 days typically and we have managed to hold that position even though the revenues are rising, which is good news. And inventory, certainly being a good success in Q1, we have continued the good work from Q4 last year and managed to keep our inventory down. So, we are achieving 4 or 5 turns a year among which is fairly good in our industry.

I will now move on to the detail on the cash flow. You see profit before tax there of 24.3 million NOK and then we have got a number of items, items classified as investment or financing. Much of that is the interest, the returns we are getting on that cash. Changes in stock debtors and creditors whilst I said we have had a reasonably good position in terms of stock or inventory in debtors. In terms of creditors we have reduced them in the quarter and that’s why we see a negative there. Investment activities 5.1 million NOK, slightly up I think on some of the previous quarters we have seen, but around a fairly stable level. We have been announcing a lot of new products going out into the market, that number is driven by the amount of test equipment that we are buying and we are tooling up the -- some of our suppliers.

Financing activities, we did a share option issue in -- during the quarter and we got an income of 13.9 million NOK from that share option activity. So there is some income there on that cash -- some cash coming in there. So, overall we have seen our assets go up -- our liquid assets go up from 215-248 million NOK during the quarter.

So, in summary we see continued revenue growth and as I said we maintain that we can foresee modest growth in line with the market movements going forward we're -- whilst we weren’t overly happy with our gross margin we believe, 45% is still very achievable on which the -- some of the new products coming out, we can certainly see that as a list to continuing picture to maintain that level. We are starting to make some internal investments in terms of people and the operational costs have risen slightly due to that and we are going to continue making our focused investments to assure that we get the right -- well we are in a position to actually continue to deliver the revenues. And overall we have continued to maintain our control of our current assets and our cash position. So, we feel fairly strongly that we have got a good solid base here for growth in 2004. And with that I will turn over to any questions.

I was just wondering about the operational cost, how much of the increase is due currency, how much is this is due to increase in the [overall activity].

Okay I mean there is three, actually, one driver I didn’t mention on the operational cost. There are three main drivers on the operational cost. One is the salary reviews at end of the year, which probably accounts for 2 million NOK, 3 million NOK. One is the foreign exchange which accounts for 5-6 million NOK and then there is social security relating to the increase in the share price and the share options gains that we had running, so that's another couple of million NOKs, so that’s the main part.

[Interparties] headcount, the Tim's comment we have added a few heads on a global basis in some very specific positions. In general we are as you might imagine not on any sort of headcount increasing mode, in fact, what we are doing primarily to support the revenue upturns is outsourcing, subcontracting wherever possible so rack build, wiring, and things like that that are usually some of the first areas to reach a pinch point as revenues grow. We have previously identified a number of subcontractors globally that we use for that. Yes sir.

You have a very high equity ratio and you have a lot of cash. It's very nice but that in itself does not increase the stock price. Where is the increase in the stock price going to come from in the next year?

I guess a round about question. If -- to answer that question where I think the increase in the stock price will come from? I, of course, think that will come from increasing our earnings. And I think we are going to increase our earnings by leveraging some of those growth areas I mentioned earlier on. So the high definition and the advanced video compression on a global basis are going to drive our growth. To answer a potentially related question we are not at this point looking to, you know, issue any dividends or anything on those lines as it relates to that cash. I think a lot of cash is a relative comment and I don’t know that particularly given the history of this company and the market and where we have come from, I don’t know that we are feeling on this side of the table like we have "a lot of cash". We think the cash we have is prudent to protect ourselves given long range market conditions.

Just two questions then. Do you see any break through sales that are potentially coming in the next year? And secondly, I have noticed that you had a very substantial increase in receivables?

First question and I'll let Tim address the receivables. Any breakthrough sales in the coming year, I think the best way for me to answer that is to say, that we keep as you might imagine, a very close eye on our sales opportunity pipeline and the total value in that pipeline; and point number 1, that value is and has been increasing rather steadily over the past 2-3 quarters, point number 2, yes there are some what we would characterize as very significant deals, financial line in the sand we draw is 20 million NOK, we give explicit visibility to any deals we close that are above that. And yes there are a number of those deals that will be decided for one vendor or another over the next several quarters. So, obviously, if we win them you'll see about them but the good news at this point is they are in the pipeline; they are real funded projects that will be decided in the next several quarters.

To answer your question about accounts receivable. If you look Q1 last year versus Q1 this year, yes it does look like as a substantial rise but is also a substantial rise in the revenue. So if you look at the ratio, we are actually very similar level in terms of receivable days. So that’s the driver for that.

Your North America and Americas sales were [very strong] sequential up and do you think you are taking share there at all or I mean your competitor came out -- one of your competitors came out last week with numbers, one of their arguments was that international sales were up. Are you seeing -- can you put some flavor on what you are seeing in those geographies?

I would at this point shy away from making any definitive statements about whether we are or have stolen or for that matter lost market share on a global basis. I am feeling very comfortable with the business we have done and are likely to do in the near term. In particular, as it relates to your question about the Americas, it's true that we did close a number of sizeable deals towards the end of 2003 that were really, as Tim mentioned, driving that revenue in the first quarter, but I also point out that those drivers that I highlighted for our business the high definition and the advanced video compression and the customers and the projects in large part are, in fact, in the Americas relative to AMEA or Asia-Pacific. Certainly business opportunities outside in the near term but the majority of the big ticket projects, high growth potential from our perspective is being driven out of the Americas market over the next couple of quarters.

So, you expect Americas sales to really be seasonally strong also in the next couple of quarters?

Yes.

As in terms of the -- your expectation for growth in Q2, modest growth, could you just please tell us whether that’s in constant currency terms or a NOK terms?

Well, I mean -- yeah, our projections we have to do in constant currency terms. So, we’ll compare like -- we’ll try and compare like -- we are not predicting whether any of the currencies are going to [inaudible].

Can you please elaborate a little bit about outlook in Asia and when you expect the contracts in the Chinese market? I read reports of -- you are going to see -- pickup in activity there in 2005, do you see anything this year or how much of your sales in this quarter was from China?

Yes, is the simple, quick answer to your question in that we do see a significant pickup in Asia-Pacific in 2004. From our perspective the regional relative breakdown of growth opportunities in 2004, is U.S. or America is the largest followed by Asia Pacific followed by AMEA. That’s just looking at the opportunity pipeline and the market conditions in those regions. Asia Pacific in particular markets like China, Korea, Japan, and Australia are all very active markets with very active projects, you’ve seen us announce a number of them even in the first quarter and yes we are expecting a significant further growth in 2004 out of Asia Pacific.

Tandberg Television is not a very large company and still you work on the whole world market, how do you see the challenge of actually putting priorities on your resources and using them optimally in view of, you know, this kind of discrepancy?

I don’t view it any sense as a disadvantage that we are a global company, in fact, quite to contrary and from a relative standpoint, I think, Tandberg Television is doing a pretty good job of efficiently utilizing our resources. Now, we all know as a long term successful high technology company we need to continue to drive those operating margins beyond the levels where they are today such that we can afford that continual reinvestment in research and development. That’s what will, of course, secure our long term our future. But in so far as our ability to sell, support, deliver systems on a global basis; I think, we are doing and have demonstrated our ability to do that and we’ll continue to invest in the local infrastructure to be able to grow that business. So, I feel very comfortable and pleased with the fact that we are an international business and looking to grow that globally.

Excuse me, how much is R&D in percent of sales?

R&D obviously varies but is between 12% and 15% of sales. Okay we've got some internet questions here. The first one is, are you expecting OPEX to drop in Q2 due to one of effective Q1? Where are we expecting OPEX in Q2? and the -- the one thing I would point to in Q2 is the broadcast Asia show that Eric Cooney talked about, that's happened in April, tends to give us some additional costs in Q2. So there will be small effect from that. Next question is how will your new product launches impact your pricing power and secondly, your gross margin?

Sure, I think, obviously our new product launches will help our pricing power. The Windows Media 9 encoder, for example, that we just sold to Swisscom and others around the world as the only supplier on the planet today who can provide a professional real time Windows Media 9 encoder that obviously, gives us a bit of pricing power, if you will, and clearly the impact of that pricing power is to help support our gross margins. So, to Tim’s comment earlier, while we are dipped below 45% this quarter we would actually expect to ahead above 45%, going forward.

Second question, what level of sales can you handle with the current fixed cost base? You want me to answer that?

Sure.

Okay, yeah in terms of the current fixed cost base and we’ve often talked before about steps in revenue and step ups in whether there was requirement for step up in operating cost in order to deliver more revenue. And when we were restructuring last year we talked about 300 million NOK was a sort of thing that we could see as we could easily deliver that revenue on our existing operating cost base. We continue to subcontract and we are actually subcontracting more in the cost of sales [van] than we have done previously. So, I still don’t see any step change required to continue to deliver more revenues as to how high we can go, well we want to keep testing the boundaries and see if we can move it on. And as go forward we are continuing to review and look at our resources and see if we need to actually make any additional investments. But to actually move the fixed cost base up, I think -- I don’t think there is going to be a step change. I think there will be some gradual increases to achieve more revenue.

Clearly, we are outsourcing all of our manufacturing. So there is no, no bottleneck there. The first bottlenecks we'll run into -- as I mentioned earlier, are in the system delivery areas. So the project management, project engineering as you might imagine the few select headcount that we have added, we have added a few select headcount in the project management, project engineering categories. So, as Tim said, we'll watch it very carefully. You should not expect any step changes in OPEX but rather some gradual select increases and of course you should expect top-line growth to grow much faster than any OPEX increases.

And now two related questions here, which I’ll take one is, what efforts are you making to mitigate foreign exchange impacts? And second one is have you hedged any of your future revenues in terms of fixed currency levels? I mean, as a general policy we've shied away from hedging up to now and the main reason for that is that the balance of currencies that Tandberg Television operates in is very complex. We have two major impacts, if you will, there is a transaction effects of foreign currency. So what rate was a particular deal taken at; what rate was it invoiced at, what rate was the cash received; and then there is a translation rate and the translation is a lot of the balance sheet is in pounds, when we translate that into Krona what’s the translation effects compared to quarter-on-quarter? So, in terms of the translation effect, I wouldn’t envisage of hedging because I think we -- you’ll be hedging the whole balance sheet. And in terms of the individual deals up to now we haven’t hedged something that we do look at continuously and what we are attempting to do at the moment is change some of that cost price in terms of subcontract and we have an increasing level of subcontracts in U.S. dollars, for example, so we get more of a natural hedge and that’s really the way we are looking to move rather than making specific currency hedges today. Other than that -- that’s the end of this Internet questions.

I am just wondering if Microsoft, are they starting any new pilot projects with new customers within their Windows Media Player 9? And if you could give a brief update on the current status of your Video-on-Demand server how’s the sales going?

On the Microsoft question, Microsoft has come out with a couple of announcements about customers that have told Microsoft they intend to use the Windows Media 9 software. U.S. DTV, a digital terrestrial operator in the State, and Cable Vision in particular are two of those accounts. Those customers have not announced publicly whose video compression they will be using and of course, as you might imagine we are in discussions with them about using Tandberg Television’s video compression systems. And I am sorry, your second question.

That was related to the Video-on-Demand?

Video-on-Demand. As many of you will remember, we had made an investment in Entone, a Video-on-Demand company here, just little over two years ago. At this point, I would say the sales for VOD severs for Tandberg Television have been slow, but it’s picking up rather aggressively or at least the opportunities are picking up. We have sold and shipped our, you know, first Entone systems, if you will, that was done in at the end of 2003. So, we do have contracts where we have delivered and implemented VOD server systems. We are seeing the pipeline grow and expecting significant revenues going forward. To date it’s not being material in its effect.

There is one more supplementary Internet question here; you talked about outsourcing earlier, where is the bulk of your product manufactured? About 60% is manufactured in the U.K. and about 30% in Norway, may be 35% in Norway.

Okay, if there are no other questions, we’ll thank you for your attendance and see you next quarter. Thank you.