IDT Corp (IDT) 2005 Q2 法說會逐字稿

Good morning, ladies and gentlemen, and welcome to the IDT Corporation second-quarter 2005 earnings release conference call. (OPERATOR INSTRUCTIONS). It is now my pleasure to hand the floor over to Jim Courter, Chief Executive Officer. Sir, the floor is yours.

Good morning and welcome to IDT Corporation's earnings call for the second quarter of our fiscal year 2005, which ended on January 31st. I'm Jim Courter, CEO and Vice Chairman of IDT.

Before we begin, I must caution all those listeners today about any forward-looking statements that you may hear during the course of the conference call. During both the prepared remarks and the question-and-answer period that follows, we may 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 certainly not limited to, the sensitivity of our telecommunications businesses and declining prices, our reliance on the success in the prepaid calling card market, our ability to obtain cost-effective termination capacity worldwide, our reliance on the financial health of others telecommunications companies that are our customers, the impact of the changes to U.S. and foreign regulations, increases in competition in the consumer phone service market, our ability to integrate and manage acquisitions and our ability to effectively develop, produce and market animated films, and of course our ability to protect our proprietary rights, general economic conditions in the global telecommunications market, the general conditions of the economy in the United States and internationally, and any of the other specific risks or uncertainties discussed in our reports filed with the SEC. We assume, as you know, no obligation to update any forward-looking statement that we have made or may make or to update you on the factors that may cause actual results to differ from those that we have forecasted.

And now to our most recent completed fiscal quarter. In the second quarter of fiscal 2005, we recorded our eighth straight quarter of record gross profits on revenue growth in excess of 15 percent. We continue to maintain our strong balance sheet. We continue to profitability build a world-class entertainment company, and we also successfully negotiated the early termination of most of our Winstar-related connectivity contracts in this quarter, a big step in ending the losses from our IDT Solutions business.

Going now to Telecom, Telecom revenues were strong. Telecom remains on track to deliver another fiscal year of double-digit growth with revenues for the first half of the fiscal year 2005 up 18 percent from the first half of last year. Importantly, this revenue growth has not come at the expense of margins as it had in certain points in the past. Telecom gross margins are at the highest level we have seen in six years, and gross profit dollars are at an all-time high, providing conclusively that demand for our services worldwide remains very strong. Specifically we saw solid margin performance in our calling card operations with our European card operation posting solid results.

Several quarters ago we decided to reinvest some of our profits into new businesses and new geographic areas of operations in order to lay the foundation for tomorrow's growth. We are developing both Telecom and non-Telecom products and services that will be marketed to our existing customer base, including wireless products in both the U.S. and Europe and financial services products. We have signed an agreement with a major network operator in the United States to provide us with access to the cellular network. We plan a full launch of our prepaid wireless business in fiscal 2006 focused primarily on the Hispanic market where we will be selling services under the IDT brand-name acting as a mobile virtual network operator. We are also launching our newly developed English as a second language product, which will address a critical need of our well-established immigrant customer base.

About three years ago we talked about our dream of turning IDT into a global telecommunications power. At that time, we had operations in just 10 countries. Today we generate revenues in over 30 conference. Beyond that, there are probably another dozen companies or more where IDT has the presence and the opportunity to develop new businesses. Without a doubt, our dream of establishing a global presence has become a reality.

An exciting development in our international consumer phone service businesses is the progress of our Toucan offering in the UK. As of January, we had about 114,000 customers for this telecommunication service, and we have added complementary offerings including dial-up and broadband Internet access. We have also recently signed an agreement with T-Mobile, which will allow us to offer Toucan branded cellular services to our customer base. In Toucan we are building a powerful brand which we plan to expand to other European markets such as Belgium, Germany and the Netherlands over the next 12 months.

As many of you know, our consumer phone service business has had to deal with some regulatory changes in the United States. Given the FCC December rulemaking decision on the ILECs obligation to make their networks available to other telecommunications operators, we have drastically scaled back our advertising for America Unlimited, our flat rate all distance phone plan.

Our customer account is consequentially little changed from last quarter. We are currently negotiating with the ILECs with the intent of signing long-term commercial arrangements.

Finally, on the telecommunications front there has been a lot of speculation regarding the recent FCC ruling on AT&T's Universal Services fee calling card petition, the USF as we know it and the impact that that ruling may have on IDT.

In addressing that issue, I would like to make the following statement. The FCC's denial of AT&T's calling card proceeding is limited to the prepaid calling card services described in AT&T's original petition to the FCC. IDT does not rely and has not relied on such services for any aspect of its regulatory compliance. And the FCC's rejection of AT&T's position has no impact whatsoever on the way IDT has in the past or currently conducts its calling card operations. We are very confident that our calling card business complies with every aspect of rules and regulations, including the USF regime.

We are, of course, reviewing the recent notice of proposed rulemaking by the FCC, which will begin the process of restructuring the USF system in its entirety, not only as it pertains to calling cards.

In the bigger picture, we anticipate that soon the USF system will change significantly, although the specific manner in which it changes is still to be decided. On the one hand, there are those lawmakers who would like to see the USF system abolished altogether. On the other end of the Spectrum, there are those who would like to expand the system to include the wireless carriers who are currently exempt from payments to the fund.

Importantly to know, either of these scenarios would work to the benefit of companies like IDT, either by doing away with the payments altogether or by allowing us to share the USF burden with more companies. We obviously will pay close attention to the proceedings and decide whether or not we want to weigh in on these matters with the FCC.

On entertainment, IDT entertainment continues to build its franchise both by distributing third-party content and investing in the development of our own proprietary content, all the while maintaining our profitability. Our distribution businesses had another strong quarter. We continue to invest in licenses for new content to grow this business. We will be releasing a number of new titles for distribution in the upcoming months, including TV shows such as the Great American Hero, Doogie Howser MD, Mr. Rogers Neighborhood, 3rd Rock From the Sun. The children's category will have two new Thomas the Tank releases. The horror category will benefit from the releases of the Entity and Malevolence, which will open in limited theatrical release.

We will also release a work by John Grisham called Nicki (ph) and a number of DVDs based on the best-selling novels of Danielle Steel. We are also developing proprietary content for a number of products that will be released through our previously announced New Arc Entertainment subsidiary. These projects are primarily live-action and horror films that will have relatively small budgets and will be distributed both on home video through Anchor Bay and on broadcast television.

We continue production on our first animated feature film, Yankee Irving, which we expect to release in 2006. We are at various stages of production on two other proprietary feature film projects. In addition, Vanguard Animation, a company in which we own a minority equity stake, will soon release its first animated feature film called Valiant. Valiant is scheduled to be released this month in the UK and France, and Walt Disney Company is planning to release the film over the summer here in the United States. We are excited about the prospects for our entertainment business as it moves ever closer towards its goal of being a fully integrated company capable of creating, producing and distributing content worldwide.

Thank you very much, and I would like to turn the call over now to our Chief Financial Officer, Steve Brown. Steve?

Thank you, Jim. We continue to be clearly excited about the trends of our businesses, especially the financial performance of our two main businesses, Telecom and entertainment, and we clearly continue to be optimistic about the economic opportunities available from both our Spectrum businesses and our VoIP businesses, especially on the cable telephony side.

Interestingly enough, Telecom revenues remained unchanged at $541 million for the third quarter in a row. What are the chances of that ever happening again? It is extremely unlikely that we will have a grand slam as Telecom revenues next quarter should be lower as they typically are due to seasonal fluctuations that we incur in our third quarters.

Telecom gross margins were a robust 24.8 percent, a level a few years ago that we thought was unattainable. This was achieved by our continual discipline of concentrating on gross margins, as well as a slight increase in the mix of revenues toward our consumer phone service revenues, and also a strong performance in our foreign prepaid card margins, a trend that we expect to continue.

SG&A costs of our Telecom division increased $2.5 million quarter to quarter, but this included a non-recurring charge of approximately $9 million due to the anticipated cost of certain litigation against our prepaid calling card business. This charge was realized in the second quarter as required by general accepted accounting principles because they became quantifiable and probable during the quarter. If we had not incurred this non-recurring charge, our Telecom SG&A costs would have decreased by approximately $6 million, which was mostly due to our decision to stop investing money into customer acquisition for our U.S. consumer phone service product. This decision, of course, is due to the FCC's ruling favoring the bells and not requiring them to lease their local network beyond March 11, 2006.

As this ruling was not made until halfway through our Q2, the full effect of this scale back was not realized during this quarter, but accordingly SG&A expenses should continue to decline next quarter. But, of course, as a result of not marketing for new customers, related revenue should also start decreasing.

On the other hand, our consumer phone services business in the UK continues to perform above expectations. Our customer base reached 114,000 consumers, and we recently announced our plan to launch this business into both the Netherlands and Belgium.

As a sidenote, if we would make the decision to stop investing into new customer acquisition for the UK consumer phone services, this business would become instantly profitable. We continue to be extremely optimistic about its growth and the potential returns of the foreign business, and accordingly we will continue to aggressively market our international services.

IDT entertainment continues to perform admirably with its revenue run-rate of approximately $200 million and this quarter with an operating profit of $2 million. Of course, entertainment revenues today is derived only from our retail distribution businesses and our animation contract service work. This model will significantly change over the next two years as we release our CG animated theatrical films in fiscal '07, as well as our vast series of director, broadcast and video live-action and animated features starting in fiscal Q4. We continue to be optimistic that we will be able to successfully exploit Winstar's substantial portfolio of license Spectrum in today's market, as well as our VoIP and cable telephony opportunities.

This past quarter we reached a settlement regarding the remaining connectivity contractual obligation of our Winstar business. This resulted in a restructuring charge of $8 million. This clears up most of our contingencies, leaving only the unsettled contingencies with the landlords and the GSA as the open issues for Winstar. Clearly our worst is behind us. Of course, our balance sheet and cash positions remain very strong as indicated on the balance sheet and cash flow that we have released today.

At this point, I would like to turn the call over for Q&A.

(OPERATOR INSTRUCTIONS). Peter Gorg (ph), Carcap (ph).

Good morning, guys. Can you just comment a little more on your plans after the FCC ruling on UNE-P, a little more there? And can you also just comment -- it looks like you teamed to with a Tier 1 player on the sell-side in Toucan overseas. Will you be doing that here in the states, also?

Norm Rosenberg will answer those questions, but before we do, let me just mention who is in the room here this morning. Sam Abraham is here. He is the CFO of Entertainment. Norm Rosenberg, of course, CFO of Telecom. Marcelo Fischer, Chief Accounting Officer and Controller of IDT Corp. Ira Greenstein is our President. Bill Pereira, CFO of Winstar, also known as IDT Solutions, and Steve Brown, our CFO and Chairman of Entertainment. Norm, why don't you handle that question?

Yes, sure. Peter, I'm going to take your questions in turn. As everybody knows, a couple of -- on December 15, which was just a few days after our last conference call, the FCC came down with their expected ruling saying that the UNE-P regime whereby the ILECs have to or the RBOCs have to make open access to their local lines to CLECs like IDT for a regulated fee, regulated wholesale fee would be done away with, and that we would technically officially move to a total resale price, which is a much higher price. And in fact beyond a year after the effective date, which would be March of 2006, the RBOCs, in fact, would not be required to least their lines at all.

So I want to break down our response to that in terms of what we did on the immediate term, which is when that ruling first came down, where we are up to today and what that means for us in the future. Our immediate response to it was that we immediately curtailed our customer acquisition activities. We believe that when we looked at the payback period on those customers, even if we were going to be able to bring in customers but facing the prospect of having to get our return on investment between now and March of 2006 and between then and March of 2006, it did not pay for us. The economics were not there for us to continue to advertise. So in that respect we immediately shifted into what you might call a harvest mode.

Now what we have been doing since then has been sort of a dual track. On the one hand, we have been looking at developing other parts of our consumer phone service business, including the long distance business, which today remains $100 million annual run-rate type of business, and at the same time, we got to work working on our long-term commercial arrangements or discussions and negotiations for long-term commercial arrangements with Verizon and SBC and the other bells as many other companies have attempted to do.

The idea there is trying to come up with a common ground whereby we will have somewhat higher pricing than we had up until now, of course, but something where the returns on investment still allow us to continue investing in that business via the advertising.

To date, we do not have any signed and announceable types of agreements. I will say that with a couple of carriers that account for today most of our base, nearly all of our base, we have what I would call the general framework of an agreement, and it is really a matter of going back and forth on the last couple of details and us running the numbers to determine if, in fact, it gives us a proper return on our investment.

As far as how we are going to do things going forward, the thing that I have to stress that I have stressed on these calls for many many quarters is that we don't have any kind of sentimental or nostalgic feelings towards any particular businesses, and for us, it really comes down to the numbers game. And much as we do with our capital expenditures and with our expenditures to grow or maintain any other business, we have to look at what the returns on investment are.

And so as we negotiate with the RBOCs and as we get different types of parameters surrounding what the increase in price would be or other economic parameters of the commercial arrangements are concerned, we continue to plug it back into our model and determine where do we get the best bang for our buck. Is it by harvesting the business, or is that by moving on?

Unfortunately I cannot tell you specifically what that is going to mean for us as we go into fiscal '06. As Steve Brown alluded to in his comments, what the investor could expect is lower revenues from that business sequentially in Q3 and Q4 will also be a little bit lower than that level. Lower expenditures on advertising for now, and obviously that means that we are going to continue to throw off a lot of cash from that business.

Once we are able to specifically say what direction we are going to go in, whether we are continuing to be a bungled local and long distance company, or if we're going to shift to more of a long distance only mode, we will be able to disclose that. But we can definitely -- we will continue to work on maintaining and then growing a business that can throw off the types of returns that we have become accustomed to.

To your second question about the wireless business, as you pointed out, we did talk about how we have signed an agreement, an MBNO, Mobile Virtual Network Operator agreement with T-Mobile in the UK to be able to offer that to our Toucan customers.

We have, in fact -- the first point is we have, in fact, come to an agreement with the carrier in the U.S., a top tier GSM carrier who I cannot name, but that kind of narrows it down, in the U.S. to provide that kind of service at this point. Even though we do have a signed agreement, we are not able to disclose the specific name of the carrier that will be -- or network operator that will be forthcoming. Suffice it to say, it is a major network. It is a carrier. It is unlike Sprint who has gone into the wholesale business and has made that a part of their business to become the backup for all the MBNOs. This is someone with whom very few carriers have the deals, so we're very excited.

We're working on a business plan now which is mostly complete. We expect limited launches over the next few months, full launches in major markets during fiscal '06, and it is going to be an almost exclusively prepaid model we are going after in that specific niche of the market. We're going after mostly the Hispanic or recent immigrant market, the very same customers who are currently -- or the very same type of customer who is currently buying our calling cards from us. It will allow us obviously to leverage upon or existing brand-name. It will allow us to leverage upon our unparalleled distribution to that marketplace, as well as going through some of the big box retailers that we now have access to, the (inaudible) prepaid solutions business and perhaps a couple of other avenues.

So we're very excited. Right now it is something that is a blip on the screen as far as our P&Ls are concerned, but in terms of the strategic focus, that is probably our biggest story for fiscal 2006.

Just one quick follow-up. Can we just talk about IT Solutions here for a minute and what the Company's plans are there.

Yes. Bill will follow-up. This is Jim Courter. First, our proposal and our effort and our focus is going to be on exploiting the strength of the Spectrum that we purchased when we purchased the Solutions product. That is the most important thing when we purchased Winstar.

It is important to note that the Federal Communications Commission sometime ago allowed companies that own Spectrum to lease Spectrum, so we intend on focusing on the leasing of Spectrum and the utilization of Spectrum.

There are a couple of other things that are occurring on a federal level. One, as I mentioned before, there was legislation that was passed in Congress, this time not only in the Senate but the House, and I think it has been signed by the President, one of the major bills dealing with lots of federal programs. It basically required that the President signed an executive order that would mandate redundancy separate backup communication system for voice and data in certain federal buildings. So we think this would be a perfect sweet spot for IDT Solutions or IDT Spectrum.

Also, there's tremendous backhall opportunities we think in leasing Spectrum to the wireless carriers. It is important to note that in Europe about 70 to 75 percent of the backhall is wireless. In the United States, it is almost nothing. So we think with the proliferation of cellphones, picture cellphones, handheld data devices, 2G, 2.5G, 3G capability and cellphones. Backhall will be another business for IDT Solutions, which we now call IDT Spectrum. Bill, did you want to add to that?

No, I think that covers it. I would just make the distinction that as opposed to the old Winstar business model, this is more of a point-to-point transfer model and is not a switch base model that relied or relies heavily on the infrastructure that is trying to be a local telephone company bid. So it will not impede our progress in terms of restructuring the old Winstar business and continuing to get rid of the fixed costs that inhibited the old Winstar model.

Let me answer that, also. It is important to IDT and we are looking at various ways to set the value of the Spectrum business, IDT Spectrum and also to monetize if we can the Spectrum assets. All of you know there is a company called First Avenue, which we believe has less Spectrum and less important Spectrum than we and has a market capitalization you can look it up. So we think there is value in the Spectrum that was Winstar, and we are looking at the setting net value and also monetizing that value during the next number of quarters.

Reg King, WR Hambrecht.

Thank you. Jim, I was hoping that you can talk a little bit about Net2Phone. I think there has been some change in the ownership here as of earlier this month, I think that took place. Can you talk about the outlook for Net2Phone and the impact on the P&L?

Yes. Net2Phone continues to have what we think is the very best VoIP technology. And you know their -- perhaps in the public mind, their effort has been a eclipsed by Vonage and other companies becoming involved. But we think by virtue of the fact that IDT has increased its interest, its equity position in Net2Phone, we think that Net2Phone has the very best voice-over to Internet vertical technology, number one.

We would also believe, as everybody, every analyst every report from every analyst I've read, is saying that the cable companies whether they be very large cable companies like Cablevision, Time Warner and others that have tens of millions of dollars of subscribers and customers, all of those, including the very small cable companies and there's dozens and dozens of small cable companies, which eventually perhaps will be consolidated with the large ones, they are all going to get into the voice business. They are obviously in video and data, and they are going to go to voiceover-IP. We believe that Net2Phone has the technology to beat their solution with respect to the voice products solutions that they would like to offer to the existing tens of millions of consumers that they now have. So although Net2Phone has -- is going through a period of time that some would say is more difficult than anticipated, we feel that there is a great future for Net2Phone by virtue of the fact that we sincerely believe it has the very best VoIP technology.

Jim, can you talk a little bit about what is the impact on the P&L now. I think you all had 40 percent as of the beginning of the month. Is that correct?

I will have CFO Steve Brown answer that.

Yes, that is correct, and the general impact on the P&L at least on operations we have consolidated Net2Phone (technical difficulty)--

So past few years. So the only real impact is going to be in the minority interest line where there will be less -- less of the countercharge against the P&L hit would go against the minority interest. But you know Net2Phone's quarterly loss, which is fairly consistent in the $6 to $8 million range is somewhat insignificant compared to IDT, and we are very strong believers that eventually this is going to payoff with a fairly robust and successful cable telephony business in the future. So it's a short term effect to take now for the potential upside a couple of years down the road.

Thank you. Sam, I was hoping maybe you can comment a little bit on the entertainment business, and we saw some seasonality this quarter which was expected. Can you talk a little bit, maybe give us a little feel for what we should expect going forward as we see a lot of new products that you have coming to market in that business. How should we think about the seasonality going forward?

As mentioned last quarter, the first quarter of our fiscal year is the strongest for entertainment, mostly because of our distribution business, Anchor Bay and Mango, which has kind of a seasonal retail factor to it where we have a large horror catalog, which really plays well in the Halloween season. And so the first quarter is typically the strongest, as well as a load in for the Christmas season.

The second quarter is actually the lowest quarter from a seasonal perspective in our overall business, and so I think what you can see, what you're going to see over the course of the next couple of quarters is an increase from the current level from a revenue perspective. It is not going to quite make it to where we were in the first quarter, but it will be somewhere in between. The third quarter is typically our second strongest quarter for the year.

So I think you're going to end up seeing pretty much the way we laid it out last quarter. It is following out exactly as we had predicted. So I think you're going to see that overall through the course of the year we are going to end up at a revenue rate at approximately $200 million, so you can expect something like in the range of a little bit less than 50 next quarter.

All right. Thank you. And then, Sam, I think --

Go ahead.

I just wanted to add to that, you know, we're extremely proud. You know in a very short period of time we were able to build an entertainment business at the same time (technical difficulty)-- which typically takes many many years to actually build up this business, and we're at that point where we have a $200 million run-rate, and we expect income from operations to be in the $10 million range. And this is while we are really actually building out the business. But this is still a business in its infancy, and we hope two years from now is really where we take this business to a whole new level.

(technical difficulty)-- another category of business, which really doesn't -- is not appearing at all in our financial results at the moment, and that is our live-action category under our New Arc efforts. We are now starting to complete pictures under that particular line, and that is starting -- is going to generate revenue in the course of the next couple of quarters. That is going to actually have an impact, a strong positive impact on our financial results going forward.

Right. Thank you. And, Sam, I think Jim mentioned the film, Valiant, in his prepared remarks. Can you just clarify for me what was your participation in that? What impact does that have on your entertainment business?

The impact actually is intangible. We do have a minority investment in and Vanguard Animation. The investment right now was under 20 percent, but probably will exceed 20 percent sometime within the next 12 months.

Valiant is the first theatrically distributed film by Vanguard Animation. It is produced by John Williams. The last two films that have been produced by John Williams combined have grossed over $1 billion worldwide, which is Shrek 1 and Shrek 2. So now we have an equity ownership through (inaudible) in Vanguard Animation of the third John Williams feature film. We have a close relationship with him, and we're talking about the possibilities of producing one of his follow-up films, though. You won't see the effect on our P&L so quickly, but it really enhances our -- it really enhances -- it enhances our long-term value of our entertainment business.

Alexandra Jennings (ph), Greenmont Capital.

Actually, it's David Ionhorn (ph). Good morning. I actually have a few questions.

First of all, you stated that the movie, Yankee Irving, is scheduled for 2006. Is it still scheduled for early 2006, or has it slipped into a later part of the year?

Is it still scheduled for early 2006? I don't think we ever mentioned anytime that we plan on releasing it. (multiple speakers) -- is that we want to get a major studio behind us to theatrically distribute it, and based on whatever deal we can reach with a major theatrical, you know, studio, we would do it according to their timetable.

Right. The notion that it would be ready for like opening-day of the baseball season, that is kind of out the window at the moment?

Again, the schedule of time -- you know we could -- we will have this film available to be delivered at that time. But the -- (multiple speakers)

Okay. I get the idea. (multiple speakers)

It is not out of our hands. We can hit into theaters, but getting into theaters without a major studio behind it, is not the same thing as doing it with a major studio behind it. We're going to do what is in the best economic interest of IDT. You know since we do not have a deal on the table right now, but we're extremely optimistic we will have a deal, the second we have a deal we will announce it.

Okay. Next topic. The $9 million legal charge in the SG&A, could you describe what that lawsuit was, and is this just for lawyer expense, or is this a settlement or -- what is the $9 million?

This -- this -- okay, Norm why don't you --

A couple of things I will point out. First of all, not all of the details have been completed, and so I cannot get into breakdown of specifically what related to which particular suit. But if you look at our -- I refer everybody to our 10-Ks and 10-Qs and the 10-Q that we are going to file on Monday and our legal section. As is customary for every filer, you'll see a bunch of different things in there.

This is really a matter of having finally cleaned up a bunch of meddlesome suits, a combination of a lot of meddlesome suits that have been brought against us which to this day I believe are frivolous, if I'm allowed to say that. But you know some things that have been going on for two and half, three some-odd years, and they reflect for us our costs -- all of our costs related to this point related to those particular suits. So there is a combination of -- there is a combination of the things that you had mentioned.

I guess I'm confused. It refers in the press release to a class-action suit. Is that what this is, or is there multiple suits, and which ones are we actually talking about here? Are these finally resolved, or is this just an ongoing kind of legal accrual?

(multiple speakers). Okay, they are, number one, finally resolved. It is a multiple number of complainants that retained counsel and filed class-action.

One of the benefits of the settlement is that all of the allegations that could possibly have been made from day one when we started the calling cards to the day of the settlement are now wiped off. There can be no more -- it is settled. It is over. There are no more class-actions, no more complainants, no more plaintiffs, and it is over. The disclosure statements on prepaid calling cards, you know, it is always an issue because every state regulates it differently. And you can't -- and we cannot have one card for the Dominican Republic, and that card has different disclosures in all 50 states. You have to kind of standardize it. So when you standardize it, you over disclose for some jurisdictions, under disclose for other jurisdictions. So we thought it was in the best long-term interest of the business and of IDT to sweep this whole meddlesome affair behind us by a onetime payment of $9 million. So it is over.

David, you point out correctly, the press release technically should have read a group of class-action lawsuits in the plural as opposed to singular.

Very good. One last question. When you talk about the SG&A then falling sequentially in the next quarter, is it falling from the stated number that includes the 9 million, or is it falling from an adjusted number that excludes the 9 million?

I guess it depends on who is sending my (multiple speakers). David, actually it's falling from the adjusted number. Just to give you a couple of ideas on the moving parts, obviously marketing will go down a little bit. Not as much as might be otherwise indicated by a harvesting or a cooling off of our advertising efforts here in the U.S. because we will continue to aggressively market our consumer phone service business in the UK. So there will be a little bit of a netting effect, but on balance that number is going to go down. We will have a full quarter of lower advertising, as opposed to this past quarter where effectively it was only one month out of the quarter, which was the month of January.

On the headcount side, I can say that we are probably going to continue to add some heads specifically in non-U.S. operations, and I can give you my best efforts to guarantee or assurance that we are doing what we can to continue to put more SG&A out.

Let me add, we are here to inform our shareholders and investors. We are not here to spin numbers. So you know, we're not going to say anything in our call that we think is deceitful. Clearly we will -- as Norm just said, you know, we planned the number to be lower, not counting the onetime hit just to reiterate.

Donna Jaegers, Janco Partners.

Thanks for taking my questions. I just had a few quick questions for Norm. On the consumer business, it would help us get a better idea on the U.S. consumer business, what sort of churn are you guys seeing there?

Donna, it is actually interesting because when we first modeled out the business and when we put it into harvest mode and ran our models, we assumed a certain churn number, and we had been pleasantly surprised as to the customer base numbers. People have not been leaving as quickly as we thought they would be absent advertising. You always have some natural churn in the business in the past that had been running at a 6 or 7 percent rate. I would say it is probably below a 4 percent rate, even on the local business right now. Things are kind of quiet there.

The LD side also is very very quiet in terms of the churn. We have seen monthly churn numbers in some cases -- over the past three of four months, we've had a couple of months where that number has been maybe in the 2 to 3 percent range. We do not dilute ourselves, however, into thinking that that is going to persist.

Meaning if we do decide that we are not going to continue to advertise in that business, then we have to assume a natural churn is going to result in a lower customer base and lower revenues as we pointed out and as Steve Brown pointed out earlier in the call.

In fact, one thing that I will point out, in terms of our numbers came in at $540 million of revenue overall for the quarter. One which I will mention was a good 10 million or so above our internal plan, and I think that one of the biggest drivers there for that difference was that consumer phone service revenues in the U.S. did not come down as quickly as we had pessimistically perhaps assumed when this first happened.

So churn is something that is going to continue to happen. It is a way of life. And if you are not adding new customers, then obviously that is going to have an impact. On the other hand, we think that the churn is at a pretty manageable level. So when we get to a point hopefully where we can continue to add customers, where its economical for us to do so, we will be doing it off a pretty good base.

Okay. And then just to follow-up on that, if you could give us some idea of how you are balancing. I know on operating profit and Telecom now, just to clarify, you said it would be down from the adjusted number without the 8.7 million charge in there for next quarter. Right?

In the SG&A?

You were talking about -- yes, I guess SG&A will be -- SG&A will be down from where it was this quarter.

That is our plan, yes.

Okay. How do you balance it? Obviously you're pulling back on marketing in the U.S. somewhat, and that could be a big drop in SG&A. But then you are spending more on headcount internationally and you are ramping up the wireless business. So how do you think about operating profits in general from the retail telephone business?

As far as headcount is concerned, I would like to think that most of the headcount increases that will have -- when we look back at the end of fiscal '05, hopefully we will be able to say that most of the headcount increases that took place at least internationally were done through the first six months. The key wild-card there is going to be the wireless business that is going to involve adding -- getting some warheads and doing some more marketing.

Even so relative to the number in terms of pulling back on SG&A advertising, the advertising SG&A for the phone service business, the net effect would be a lower SG&A. I think the other factor there is going to be what we decide to do in terms of our marketing budget and saying, well, now if we were to continue to spend less on advertising and marketing to build up our local customer base in the U.S., do we then shift those dollars of spending to Europe, for example, where we have numerous opportunities to really fast-track some of the growth in the Toucan product, or do we not do that? That is something that we kind of struggle with and decide from time to time.

That having been said, in the name of guidance I will say that I would expect that on balance if we were to continue to put this business into harvest mode, that we would see lower sequential SG&A. What that does not involve is, if we were to come to an agreement as we expect to, and if we come to a very good agreement with Verizon or with one of the other RBOCs, and then that means that we can begin advertising anew under a somewhat different set of economic parameters, that obviously is going to change the whole equation.

So I hate to say this, but there's just a lot of moving parts here, and it's a bit difficult for me to tell you exactly what is going to happen.

We have time for two more questions.

Okay. Can I just add one quick follow-up then. On your West Coast expansion of the calling card business, can you give us a quick update on that?

Yes, sure. It's going well. I mean one thing that we have pointed out was at the beginning of fiscal '05 we had started to raise some rates on the calling cards, and we have seen the the consequent increases in gross margin, so we are pleased with that. And I would say that West Coast is probably now, as we sit here early in the third quarter, a higher percentage of the overall mix because of the fact that it has been growing or has been stable even as we have been stricter on our rates, and we have seen the subsequent revenue drop.

Again, we have continued to put a lot of effort into it, a lot of travel time between our Long Island office and our office in Los Angeles for example and in the Southwest, and we are happy with what we have seen so far. Definitely not satisfied. But we're getting there, so I think we're executing on that part of it.

Great. I will let somebody else ask some questions.

Andy Baker, Cathay Financial.

A couple of quick questions. First, I was wondering if you could break out where the CapEx is being spent for the first half of the year, and also if you can detail the level of capitalized film expenses for year-to-date?

And second, I'm still a little unclear on the Universal Service Fund contribution and the way it was explained this morning at the beginning of the call. Can you just start with what exactly about your business, whether it is structural, legal or actually physical, is different than AT&T such that you would not be subject to the same requirements there?

Let me answer the second question. This is Jim Courter, and Norm will answer the first. You know basically a lot of what we do is proprietary, so we cannot really get into the details of it. But we have high confidence in the fact that where we do pay Universal Service payments, we're paying them correctly. Where we don't pay, we don't have to pay based on the way we do business.

So it is difficult for me because of the proprietary nature of our products to get into it. But suffice it to say, we feel that we -- and we have high high confidence that we are in 100 percent compliance with all rules and regulations of the Federal Communications Commission as it applies to USF.

This is Norm. Let me just add a very small follow-up to that. I will point out that the FCC's ruling applied specifically -- the FCC's ruling was not a broad general comment related to Universal Service fee's payment on calling cards or any other telecom services.

To give you some background in terms of what had happened, AT&T actually approached the Universal Service administration and the FCC and said, look, this is what we are doing. It is different from what others -- by the way, I will say it is different from what others are doing, and we believe that this particular strategy that we have should not be subject to Universal Service fees.

What the FCC said was, again not talking about Universal Service fees in general or IDT or any other company, they said what you and AT&T are doing does not change anything and that you are to continue to be subject to Universal Service's fees.

So what happened there, as Jim mentioned in his original comments and his recent answer to your question, is that the ruling has no impact on IDT whatsoever. I think the way to phrase the question as you put it is not so much a matter of what IDT is doing that AT&T is not doing. It is really what AT&T was doing that AT&T only was doing, and that was really the entire scope of that particular ruling.

And I guess the second -- take the second question (multiple speakers)

Your first question regarding capital expenditures and capitalized production costs. For the six months ended January 31st, capital expenditures were approximately $40 million. Significantly most of that -- that is redundant -- is telecom CapEx regarding capitalized film costs both for the low-budget live-action and the feature film -- the theatric, the CGI animated feature films for the six months within the range of about $15 to $20 million, I don't have the hard numbers available.

And just to reiterate, that will increase, and to that extent, we are optimistic we will over the next quarter or two close on two financing deals that would encumber only the intellectual property and not -- obviously not IDT and IDT's cash, but also probably not the IDT entertainment parent, also.

So right now you're basically spending all the cost right now. You don't have financing in place for that?

Right now the financing is coming from the cash flow of our distribution business. So we're not using the parents' money on this. But the idea is as this amount starts increasing to get the resources elsewhere. You know we are fairly confident that we will close these loans within the next three to six months.

Okay. Very quickly, Starpoint Academy, is that still scheduled for a 2006 release?

Starpoint Academy is still in development. Whether it is going to be our second new film we release after Yankee Irving or not, we still have not decided contingent on a number of factors, including the pending deal that we hope to make with a major studio.

Kevin Preloger, Perkins Wolf.

A couple of questions, first of all, on the USF again. You're saying your 100 percent compliant. I'm sure AT&T thought the same thing. But yet when their number was called and the USF cookie jar is empty and there are a lot of hands with one in it, what did they do that made them pay that you guys are not doing that hopefully you won't have to pay?

And then secondly, if you could talk a little bit about about the wireless reselling agreements, what your point of distribution will be for those phones, and kind of what are the economics versus the calling cards? I assume they would be a little bit better.

This is Jim Courter. Once again, Norm will handle the second part of the question. I will once again just go very briefly over the first part of the question.

I don't think AT&T had a high degree of confidence that their regime, that the way they were advancing their prepaid calling cards was in compliance with the USF, and I think that is the reason that they filed a petition for a declaratory ruling. We are not going to file a petition because we believe that we are total compliant with all rules and regulations. We can't go beyond that because obviously we will be just highlighting to competitors the way we do business.

So I emphasize the fact that that ruling was only with respect to the way AT&T did business. It applied only to AT&T's cards. It does not apply to IDT's cards, and we are in complete compliance with all rules and regulations, and this decision will have no impact on our business. Norm?

Okay, Kevin, I will take your second question. In terms of the points of distribution, there are going to be a few of them. The quick no-brainer option obviously is to use our -- we had several odd points of distribution that we have throughout the United States that we were able to reach either directly or indirectly via our Union TeleCard Alliance distribution channel that is an incredible strength for us to have when we go into this business.

I don't need to tell anybody there are a lot of people who are looking to go into the wireless business, but I think that when you come -- when you bring to the table that kind of distribution network that obviously is a starting point.

On the other hand, it is not the only matter in which we expect to get that stuff out there. We're going to go through wireless -- there are groups of wireless stores. There are big box retailers. I think it is going to be something of a carpet bombing approach in terms of getting our product out there. But in terms of hitting the sweet spot on our target market, which is the same type of Hispanic or other ethnic customer that uses our calling cards today, I think that our biggest ace in the whole is going to be our ability to use our existing calling card distribution network.

In terms of the economics, the economics are obviously something that we thought quite a bit about because on the wireless side, we have seen on some level, although it's difficult to quantify, we have seen some of our customers potentially who having had gone away looking at other wireless offerings, there have been other smaller wireless offerings out there that have not stayed in the market. They did not have the proper economics. We think that we will be able to do that for a couple of reasons.

Number one, what was very important to us and the reason why it took us awhile to get such a deal and to get such an agreement is that we want to be able to terminate our own international traffic. We're going to be a reseller, but as it pertains to the actual carriage of international traffic from the U.S. to other destinations, which, of course, is a big piece of our plan, that is something that we can use our own lease cross-routing matrix and our ability and our experience in routing and our existing low-cost to termination for those particular countries to help us out there. So on the cost side, I think we will have better economics than most, if not all.

In terms of the economics as far as a card user versus a mobile call user, I think that ultimately what it is going to come down to is that we have a basic marketing/economic belief that the same calling card user who is spending, say, 5 cents a minute to call Mexico would probably spend a premium 6 cents, 7 cents or something above that, if you will, to be able to call Mexico using a mobile phone. And

so the way we are going to set this up is that even if we do sell it to the same base, it's almost like trying to market a premium minute to that same user who was using a card today thinking that there is really a premium that we can charge to be able -- the ability to use a mobile phone. So on a pure price basis, we are not going to have it compete with our existing business. We think that is going to be a way to upsell the customer to add some more customers to be able to get more bang out of the same kind of mix.

Thank you all, and we will talk to you all at the next call.

Thank you. This does conclude today's teleconference. You may now disconnect your lines and have a wonderful day.