IDT Corp (IDT) 2004 Q3 法說會逐字稿

Welcome to the IDT Corporation third-quarter earnings release conference call. At this time all participants have been placed on a listen-only mode and the floor will be open for questions following the presentation. It is now my pleasure to turn the floor over to your host, Jim Courter. Sir, you may begin.

Hi. This is Jim Courter; good afternoon. I would like to welcome you to our earnings call for the third quarter of fiscal year 2004 that ended April 30.

Before we begin, I have to go through the statement; I apologize. I must caution all those listening today about any forward-looking statements that you may hear during the course of the call. During both the prepared remarks and the question-and-answer period that follows, we may make, and probably will make forward-looking statements, either general or specific in nature. These statements are subject to risks and uncertainties that may cause actual results to differ materially from results that we anticipate. These risks and uncertainties include, but are not limited to -- the sensitivity of our telecommunications businesses to declining prices; our reliance on the prepaid calling card market; our ability to obtain cost-effective termination capacity worldwide; the impact of changes to the UNI-P regulations; increasing competition; our ability to manage Winstar-related restructuring costs -- and I'll talk further about that; our ability to integrate and manage acquisitions; external factors in the motion picture and television industries; general economic conditions in the global telecommunications market; the general condition of the economy of the United States and internationally, which looks like it is in pretty good shape; the disruption of our facilities and operations due to a variety of causes, including terrorism, war, acts of God; and any of the other specific risks or uncertainties discussed in our reports filed with the SEC. We assume no obligation to update any forward-looking statement that we have made or may make or to update you about the factors that may cause actual results to differ materially from those that are forecasted.

For the 11th consecutive quarter, our consolidated revenues set record levels, increasing better than 7 percent sequentially and better than 24 percent year-over-year to a total of a bit more than $565 million. We set our fifth consecutive all-time gross profit record this past quarter. We also took steps, some exciting steps to stay in front of the technology curve in our various businesses.

Let me be somewhat dramatic, I suppose; most people I know have a picture phone. Most people I know have blackberries. High bandwidth communication is growing fast. Features are proliferating. I have a brand new WiFi phone. It uses the same sort of wireless network card that is installed in my PC to connect to the Internet. It works wherever there's a wireless Internet signal, and those signals and those hotspots are growing like crazy, and it directs my call to the Net2Phone switching and interface for completion of the call.

How important is WiFi telephony? The potential, I believe, is enormous. There are already thousands of hotspots, as I mentioned a few moments ago, or WiFi service areas around the world, with new announcements about large-scale WiFi deployments being made almost every day. And we intend to be at the forefront of the WiFi VoIP voice revolution. We intend to deliver WiFi phone packages focusing initially on our immigrants who may not have their own phones -- a market we understand, as you know, better than anybody else.

While we're very excited about our technological innovations and WiFi phones, which you'll hear a lot more about in the coming weeks, we are proud of our continued success in our core telecommunications businesses. With IDT Telecom revenues of $481 million-plus and gross profits of more than (technical difficulty), this past quarter was the 11th consecutive quarter of sequential revenue growth and the fifth consecutive quarter of record gross profits.

Gains in our consumer phone service were the highlight of Q3 telecom performances. Revenues increased better than $21 million over Q2, a stunning, I believe, 49, almost 50 percent increase. Customer count increased 9 percent to 675,000 customers. We are investing heavily in this business with aggressive marketing campaigns and investment that will continue in the coming quarters as we roll out this service in additional states and new areas. Our wholesale telecom business also reported record high revenues of better than $138 million, an increase of 5.4 percent from the prior quarter. And we expect further growth in this business as well.

As we discussed last quarter, during Q3 we introduced several new aggressively-priced prepaid calling cards. And during this past quarter we incurred marketing and other costs related to the rollout. In Q4, we are already reaping the benefits from our investment in these new cards in the form of increased calling card revenues.

On May 9th, Mother's Day, we recorded a record daily number of telecommunications minutes-of-use, approximately 91 million. I remember a few months after I started with IDT, which I guess after about three quarters it was 1997 Mother's Day -- I remember it well -- for the very first time, and it was a big deal at that time; we hit one million minutes. So from '97 to today, '04, we went from one million minutes on Mother's Day to 91 million minutes on Mother's Day. That's the type of growth we are experiencing. Overall, the month of May was our biggest month ever for our U.S.-based calling card business, both in terms of minutes-of-use as well as revenues.

Also as we reported on May 12, we are reorganizing Winstar/IDT Solutions. Despite tremendous efforts and some success by our Winstar team, we ultimately determined that providing telecommunications services to businesses would not yield the greatest return on the Winstar assets. As part of the reorganization, we are discontinuing services to our retail customers. Instead, we intend to use Winstar's assets to play a critical role in the shift from fixed to wireless technologies by offering, for example, WiFi and cellular backlog (ph). We continue to explore other methods of exploiting the Winstar spectrum, which we intend to exploit and use. And we're looking at other Winstar assets as well.

As we predicted last quarter, IDT Entertainment continues to have a strong positive impact on our company and reported its first quarterly operating profit. Just as exciting as IDT Entertainment's financial results are the products that we're introducing. Late last month at the Cannes International Film Festival, the film world was treated to a viewing of the first trailer of an IDT Entertainment animated feature film called Happily Never After. Our own feature films will have the same quality as Happily Ever After, and we certainly don't plan to stop with two films that we're working on right now. We're not only demonstrating our quality with Happily Never After but also the cost advantage in our production model.

Third-quarter financial results for IDT Entertainment were ahead of target. Revenues reached $40.7 million, reflecting a full quarter for both Anchor Bay and Mainframe Entertainment. Just as important, the division reported solid operating profits. And keeping in mind, this was a division that did not exist a year and a half ago.

As pleased as I am to see the division's current results, what really excites me is the prospects for future quarters. In May we took important steps toward building a lineup of superheroes for whom we will develop animated projects. We concluded an agreement with Stanley Lee, the famous Stanley Lee -- well known as the co-creator of Spider Man, the Hulk, the Fantastic Four, X-Men and Daredevil -- to create original characters for six new animated productions in a series entitled Stanley Lee presents.

We also agreed to animate the return of Todd McFarlane's Spawn, the animated series. The first Spawn series, as you may know, aired on HBO from 1997 through 1999 and won two Emmy awards. In addition to Spawn, Todd McFarlane will create two new additional animated properties with IDT Entertainment.

Our VoIP division, which is Net2Phone, a company we control, has announced that cable operators in five countries with more than 2.3 million homes passed have selected Net2Phone to provide cable telephony services. The results of our Voice over IP component were reported at length in Net2Phone's quarterly conference call June 9.

To summarize, we recorded, once again, record revenues and gross profit in Q3 while at the same time making significant investments and taking sometimes difficult and painful steps to ensure our continued growth and our success in the future.

As you may know -- some of you do -- eight of my twelve years in Congress was during the presidency of Ronald Reagan. I knew him and I worked with him. I believe personally that he was one of our greatest presidents. Above the portal, the main portal as you enter our building in Newark, his name appears with one of his most famous quotes. America is too great for small dreams. I look at it every morning when I walk in. President Reagan also said something that I believe applies to this company, IDT. He said there are no limits to growth because there are no limits to human intelligence, wonder and imagination. And that could be said, I think, about IDT.

I would now like to turn the call over to our Chief Financial Officer, Steve Brown. Steve?

Thank you, Jim. For purposes of best understanding the financial results for this quarter I will start my discussion with an analysis of each business segment, followed by comments of the entire consolidated group. For further detailed information, I once again advise investors to review our comprehensive press release as well as the forthcoming 10-Q to be filed on Monday.

One more important item -- in this presentation, I will present certain non-GAAP financial measures. A reconciliation of these non-GAAP financial measures to the more directly comparable GAAP measures can be found on the investor relations page of our Website at www.IDT.com net/IR, by clicking on the word financial. Finally, for comparative purposes I will compare this quarter, Q3 '04, to last quarter, Q2 '04. Now the discussion.

As always, I will start with our bread-and-butter, the telecommunications division. This quarter overall telecom revenues grew 4.6 percent quarter-to-quarter to $481.9 million. Driving this growth is a 49.3 percent increase in our consumer phone services revenue to $65.4 million. This is a direct correlation to our aggressive marketing and advertising campaign for our flat fee combined local and long distance package, as well as entering new regional markets for this bundled product. We will continue to aggressively market and use methods to expand our customer acquisition for this product.

Wholesale telecommunications revenues continued to grow, albeit at a slower pace, and increased 5.4 percent to $138.5 million this quarter. Finally, debit card revenues decreased slightly by 2.5 percent to $277.9 million this quarter. It should be noted that as we have discussed in the past, Q3 is traditionally our weakest quarter for debit card sales.

Gross margins for overall telecom revenues increased by 50 basis points. The increase is solely due to a 130 basis point improvement in our consumer phone services gross margins to 51.8 percent, offset by a 100 basis point drop in debit card gross margins to 23.2 percent and a 30 basis point drop in carrier sale gross margins to an even 11 percent. SG&A costs for our telecom division grew 13.1 percent to $76 million, or as a percentage of telecom revenues, increased 120 basis points to 15.8 percent. This is a direct result of increased marketing and advertising costs relating to our consumer phone services bundled product rollout and increased bad debt which is typical of the business in this sector. We continue to expect to be aggressive in our marketing and advertising costs for this product over the next couple of quarters.

As a result of these additional costs for which we should receive future benefit, EBITDA for our telecom division decreased slightly by 3.4 percent but was still a robust $37.7 million this quarter. Telecom's depreciation expense remained relatively unchanged at $16.4 million. Noncash compensation charges for our telecom division, which represent awards of restricted stock to key employees, resulted in a $2.2 million charge this quarter. We also incurred an impairment charge of $1 million this quarter, and as a result, income from telecom operations stood at $19 million this quarter.

Now that I've talked about our bread-and-butter, let's talk about how our gravy -- our fast-growing entertainment division. Revenues increased 75.7 percent to $40.7 million this quarter. This, obviously, was mainly due to consolidating Anchor Bay's revenues for a full quarter. Similarly, direct costs of our entertainment division increased in dollars by 76.8 percent, but as a percentage of revenues it remained fairly constant decreasing 40 basis points to 30.5 percent. Again, SG&A costs increased 24.2 percent to $8.3 million. Most importantly, EBITDA mushroomed to $4.1 million and for the first time ever -- and, God willing, hopefully going forward -- IDT entertainment recorded net income from operations to the tune of $2.4 million.

Over the next couple of years, we expect robust growth from all our entertainment subsidiaries. We continue to invest in new licenses and properties for Anchor Bay, and to that extent we announced this quarter our intention to acquire Manga Entertainment, which we hope to close very shortly, as well as strategic agreements with Stephen Cannell Productions and hopefully Fox Entertainment, to license new valuable properties.

We also intend to develop in-house properties such as Stan Lee presents and Spawn. Our intention is that within six months from today, our revenue run rate of Anchor Bay should be double of what it was at the time of acquisition. In addition, now that they are part of the IDT umbrella, Film Roman, Mainframe and DKP Effects are inundated with projects and offers and are closing new deals as we speak for new revenue sources.

On the animated feature film front, we continued to be on budget and on schedule for each and all of our three films to be completed at various points during fiscal '06. We are currently in early stages of development of our next slate of films to fill the pipes once these films are completed. We have identified two major studios to be the best resources for our theatrical distribution and have commenced negotiations.

Now, the Winstar front. Winstar continues to be the one trouble spot. In our continued effort to downsize the business we have incurred an additional charge this quarter of $28.1 million, consisting of $3.6 million for a workforce reduction charge and an impairment charge of $24.5 million. This downsizing also resulted in and 11.4 percent reduction in revenues, down to $17.2 million. Gross margins shrunk to a negative 2.9 million and SG&A costs increased by 5.8 million to 20.9 million; EBITDA, therefore, was a -23.8 million and loss from operations were $55.4 million.

Financial results for the rest of the IDT group -- which consists of Media, also known as Menlo Park, Net2Phone and General Corporate -- remained relatively constant with two exceptions. On the media businesses which we have renamed as the Menlo Park division, the impaired remaining value of our Tycom undersea fiber assets were $10.4 million. As a result, we are once again weighing our legal options on this matter.

Secondly, Net2Phone, as a reminder, uses variable accounting in determining noncash compensation charges incurred through the repricing of our options that had taken place several years ago. This measurement tool results in a reverse charge of expenses taken in prior quarters in the event the average price of the stock drops during the quarter. The net effect this quarter for Net2Phone was a reduction of $7.1 million of noncash compensation charges taken in prior quarters. For further details of the results of these divisions, please refer to our earnings release and 10-Q.

IDT consolidated this quarter had a 7.3 percent increase in overall revenues, to $566 million, or a $2.3 billion run rate. EBITDA this quarter was 4.9 million, and net loss from operations this quarter was $58.3 million. But most importantly, as an indication of our rosy future, EBITDA not including losses from Net2Phone and Winstar rose 8.5 percent to 31.8 million, and net income from operations not including Net2Phone Winstar and impairment charges were $7.5 million.

Rounding out the rest, interest income for the quarter was 5.1 million, investment losses totaled 1.8 million, our minority interest expense this quarter was 18 million -- but that included a onetime charge of 12.2 million caused by the exchange of Hicks, Muse's preferred subsidiary stock into IDT B (ph) shares.

Provision for income taxes were $3.8 million and our net loss was $76.8 million this quarter, or based on our basic share count of 91.1 million shares, it was 84 cents per share. Cash, cash equivalents and marketable securities continued to be in excess of $1 billion.

And at this point I would like to open up the call to questions.

(OPERATOR INSTRUCTIONS). Brian Hayward, Janco Partners.

Several questions. First, you had great success with your consumer phone business, especially with the bundles, increasing 49 percent in revenue versus last quarter. And we just had change in the UNI-P outlook this week. And I'm wondering what impact that will have on how aggressive and your desire to be aggressive marketing America Unlimited.

Norm Rosenberg, the CFO of IDT Telecom, will answer that question.

That's a question we've, obviously, been dealing with quite a bit even in just the past 24 hours or so. The first thing I should point out really to everybody is that I think that you've got to take the articles that you read with a grain of salt. What happened does not mean that UNI-P is going away. And from our standpoint what it does mean is a couple of things, and we're following two or three different tracks.

The first thing is to understand that even if UNI-P continues to exist, it's going to happen, from our standpoint, at a higher cost, whether that's a negotiated cost or that's a regulated cost. Our assumption is that the line cost will go up over time. The second things to factor in is that perhaps one day -- and our counsel tells us it's probably not until sometime in calendar '06 at least -- but somewhere down the road in the intermediate to long-term, UNI-P might cease to exist, in which there will be more of a UNI-L structure, for example, where a carrier such as IDT would have to use its own switches but would still have access to the phone company lines.

In terms of how we're dealing with those two possibilities -- and I'll take them out of order. We have a team that's been in place for several months now that has been looking at the possibility of engineering our network in such a way that we could go to a UNI-L model. And if you do it right, a UNI-L model could actually be as profitable or more profitable than UNI-P, based on scale. What you're doing is you're replacing a completely variable cost model with a mixture of a variable and a fixed cost model. The implication for our business on that side would be that we would pursue a strategy more of depth than of breadth in terms of marketing, meaning I could add 100,000 customers in 10 or 20 states or I could add them in two or three states so I get the critical mass that I would I need to profitably be able to do UNI-L; and that's one consideration.

The other thing is, even today we model out on a per state basis what it is that we can afford to pay for a customer. And that's what we use as our guidepost to tell us how much money we should be spending. Now, all that a UNI-P increase means is that we need to model out a potential increase. We've done that today. We've already -- we've been doing that for months, where we look at our cost and we just build in a probability of 10 percent, 20 percent, 30 percent -- whatever it might be; the cost could go up 5, 10 or 20 or 30 percent, and we just run the model again and again and again.

The implication of that will be ultimately that we will make less money per customer going forward down the road, but if we have enough extra customers compared to what we have now, and as long as we're meeting our return on investment criteria (indiscernible) the business (indiscernible) can continue.

So to sum up, we're going to continue to spend money. We might get a little bit more targeted, we might spend a little but less money. But the same equation that we had or the same equation that we used to determine how to spend money is in tact; it's just that some of the inputs have changed.

Thank you, Norm. I would like to just add to that a couple of things. One is that we have a relationship with the RBOCs now where we do business with them. We terminate some of their international traffic, so we're dealing with people that we have a business relationship with at the wholesale level. Secondly -- and I'm sure they want to have good termination at favorable rates there; so it's not just a one-way street. Secondly, if the rates they charge us for termination go up exponentially, it's not a guarantee that those customers therefore go to that. They're faced with a lot of competition themselves with regard to the residential customer. There's wireless; that's expanding. Voice over cable. So they have to play that very gingerly, and we think it's not going to be a precipitous problem.

A couple of other questions if I may. The calling card revenues dropped again; can you give us the percent of revenue from the states of California, Texas, Illinois and Florida versus last quarter and the growth that you saw in the Northeast corridor?

Sure. Let me talk about -- I look at that as a two-part question. Just to address where we think calling card revenues are going and what's happened the last quarter or two. But to get to your second point, I will say that the proportion remains about the same. California moved -- well, I guess (indiscernible) went up a little bit because California and those other states that you mentioned were somewhat flat to slightly lower, whereas it was in our core business that we've seen a bit more of a decline. So the proportion did not increase to the extent that I would have liked.

What I'll say about the total number is, and we alluded to it in the press release, is that as you know -- we mentioned it three months ago on the conference call -- what we did was we spent a lot of time during Q2 raising rates, harvesting if you will, trying to drive our profitability higher. Then it became time to lower rates and try to generate more business. The effect of that was not seen to a great extent in the third quarter.

Now, that having been said, we sit here a couple of weeks or a week or so into June -- so we have half of the fourth quarter done -- and I can say that May, the month of May was a record month for us, both in terms of revenues and in terms of minutes, in our U.S. calling card business. And there the gains were also pretty much across the board. So there wasn't a huge shift, and probably will not be a huge shift in Q4 versus Q3 in terms of the geographic mix. Obviously, we've targeted that. And so our hope is that most of the incremental growth beyond that in fiscal '05 will come from those regions, but we still have not seen -- those regions are still not making up enough of a percentage of our overall business for us to be satisfied. But we will see in Q4 a nice increase in our revenues on the calling card side.

What are the hurdles in those states to get ramping as well as you did in the Northeast?

I look at the Northeast as our home turf, and when you go on the road it's always a little bit more difficult. Credit is an issue to us; we've been very strict. We are tempted on a frequent basis to take on some distributors who can probably give us some of that scale pretty quickly and give us the distribution that we need, but either I -- I take the blame for some of this, or some of the people who do that work within our distributor on the finance side, say that there are certain credit risks or credit limits that we need to put in. So that -- our strict credit policy will always slow us down a little bit in terms of entering the marketplace. Beyond that, it's really a matter of choosing the right partner, having the right rates to the right destination. Again, I wish we were further along than we are, but I am not at all discouraged. And I think the numbers will play out in that regard over the next few quarters.

Could you give us an update on the release dates and the production of those feature films?

The product that we are working on (indiscernible) that we own a little equity is the Happily Never After project. That's to be completed June 30 of '05, and hopefully would be distributed to movie theaters within a few months from that. But there's no distribution deal yet on that. The second project is the Christopher Reeve project. That is scheduled to be complete in September of '05, and again, subject to when we can find a distribution date, but hopefully sometime in '05. And the final project is Star Point Academy; that is scheduled to be finished in December of '05. And we're probably looking for a spring '06 release on that one.

And last -- how many shares underlie the noncash compensation?

About 1.3 million shares.

I'll let somebody ask a question, and then I may come back. Thanks.

That is all the time we have for questions today. This does conclude today's teleconference. You may disconnect you lines at this time and have a wonderful day.