威瑞信 (VRSN) 2012 Q3 法說會逐字稿

Good afternoon and welcome to the third quarter 2012 earnings call. Today's conference is being recorded. At this time, I would like to turn the presentation over to Mr. David Atchley.

Good afternoon everyone. Thank you for joining us on VeriSign's third quarter 2012 earnings conference call.

I am David Atchley, Director of Investor Relations and Corporate Treasurer. I am here today with Jim Bidzos, Executive Chairman, President and CEO, George Kilguss, Senior Vice President and CFO, and Pat Kane, Senior Vice President and General Manager of Naming Services. Please note that this call and accompanying slide presentation are being webcast from the Investor Relations section of our corporate website www.VeriSignInc.com. Please refer to that website for important information, including the third quarter 2012 earnings press release.

A replay of this call will be available on the website within a few hours. Today's slide presentation will also be available for download after the call. Financial results and today's press release are un-audited and it will be discussing today include forward-looking statements and, as such, are subject to the risks and uncertainties that we discuss in detail in our documents filed with the SEC.

Specifically, the most recent report on forms 10-Q and -- 10-K and 10-Q and any applicable amendments, which identify important risk factors that could cause actual results to differ materially from those contained in the forward-looking statements. I would like to remind you that in light of regulation FD, VeriSign retains it's long-standing policy to not comment on financial performance or guidance during the quarter, unless it is done through a public disclosure.

The financial results in today's press release, and the matters we will be discussing today, include GAAP and non-GAAP measures, used by VeriSign. GAAP to non-GAAP reconciliation information is appended to our press release and the slide presentation as applicable, each of which can be found on the Investor Relations section of our website.

In a moment, Jim and George will provide some prepared remarks, and afterward we will open up the call for your questions. Unauthorized recording of this conference call is not permitted. With that, I would like to turn the call over to Jim.

Thanks, David, and good afternoon everyone. Thanks for joining us on the call today.

As you will have seen from the press release, we have some important news about the status of the renewal of the .com agreement. I will begin with the news on the .com renewal, and then George and I will cover the key highlights of the quarter and then we'll turn to your questions.

By terms in an agreement between the Department of Commerce and VeriSign called the Cooperative Agreement, we submitted our agreement with ICANN to serve as the authoritative registry operator for the .com registry to the Commerce Department for its review on June 26, 2012. As a result of communications beginning on October 2012 with the Commerce Department, we learned that the Commerce Department was conducting a review of pricing with the Department of Justice. We believe this review, which we are participating and, may continue beyond November 30, 2012, in which case a six-month extension of the .com registry agreement would become effective. We want to emphasize that nothing has happened that changes the risk of our running .com. We expect to continue to be the registry operator of .com. Our record on security and stability has been a knowledge by the Commerce Department.

We are involved in discussions with the Commerce and Justice Departments as they review the pricing terms of the .com renewal agreement. These discussions are ongoing and could extend beyond November 30. We will work diligently with them through the review process. Because of our discussions on this matter are ongoing, I'm not going to go into more detail. We will, however, update you when appropriate regarding new information.

I will now review the key highlights of the third quarter. The third quarter was another solid quarter for VeriSign, and we continue to see benefits from our restructuring focus and discipline. In naming, we processed 7.8 million new registrations in the third quarter, while adding 1.37 million .net names, finishing the quarter with 119.9 million names in the Domain Name Base.

Our balance sheet remains strong, with $1.5 billion in cash and marketable securities. During the third quarter, we continued our share repurchase program by repurchasing 1.7 million shares for $77 million. Through the first three quarters of 2012, we have repurchased approximately 5.4 million shares for $221 million, and we have approximately $610 million remaining in our share repurchase program, which has no expiration. We continually evaluate the overall cash and investing needs of the business, and consider the best uses for our cash, including potential share repurchases.

In our naming business, the base of registered names in .com equaled 105 million names, while .net equalled 14.9 million names. The total base of registered names in .com and .net was 119.9 million at the end of September. This represents an increase of 7.1% year-over-year and 1% quarter-over-quarter. In the third quarter, we added 1.37 million .net names to the Domain Name Base and we processed 7.8 million new registrations, down 1% compared with the same period a year ago. In the second quarter of 2012, the overall renewal rate was 72.9%.

While renewal rates are not fully measurable until 45 days after the end of the quarter, we believe that the renewal rate for the third quarter of 2012 will be approximately 72.3%. This rate compares to 73.3% achieved in the third quarter of 2011. Net number of names added to the domain base during the third quarter were below our guidance, primarily driven by two factors.

First, the continuing effects of changes in search algorithms we discussed during last quarter. Search engine adjustments made over the past several months continued to affect the economics which drive domain monetization. As noted in our last earnings call, we have seen the search engine changes in the past, which have impacted our first-time renewing names and our overall renewal rates. Historically, the domain monetization community has adjusted to such changes over several quarters. We have no way of knowing how long they will be impacted by the changes being made in the current environment, but we are now experiencing the second quarter of these effects.

Secondly, we are seeing some signs suggesting that macroeconomic headwinds, particularly in Europe, are also leading to softer international renewal rates. Given these two factors, we expect the fourth quarter .net names added to the base to be between 0.9 million and 1.3 million names. As discussed on the last call, we post updates to the zone on our website at least once per day. With this increased transparency, you'll be able to track how the zone is growing throughout the fourth quarter.

Our NIA business continues to exhibit good year-over-year revenue growth. We continue to focus our efforts to scale the NIA business to achieve quality of revenue and stable growth, while better aligning expenses with revenue.

Now, I'd like to turn the call over to our CFO, George Kilguss.

Thanks, Jim, and good afternoon everyone.

For the three months ended September 30, 2012, the Company generated revenue of $224 million, up 13% from a year ago, and up 4% sequentially. During the quarter, the Company delivered GAAP operating income of $116 million, up 30% from $89 million in the third quarter of 2011. GAAP operating margin in the quarter also improved to 51.9%, compared to 45.2% in the comparable quarter a year ago, which was as a result of both top line growth and stable costs during the quarter.

GAAP net income totaled $78 million, compared to $59 million a year earlier, which produced diluted earnings-per-share of $0.47 in the quarter, on a GAAP basis. As Jim mentioned, our balance sheet remains strong. As of September 30, 2012, the Company maintained total assets of approximately $2 billion, of which $1.5 billion was in cash and marketable securities. Of the $1.5 billion, approximately $250 million was domestic, with the remainder held overseas. Total liabilities remained at approximately $2 billion as of the third quarter, up from $1.9 billion at year-end.

As you may have noticed, during the latter part of the third quarter, the stock price exceeded the convertible debenture conversion trigger of $44.68. Which means holders of the convertible debentures had the option of converting them into common stock during the fourth quarter. Therefore, in accordance with GAAP, the debt component of the convertible debentures, the related embedded derivative, and the deferred tax liability were reclassified from long-term liabilities to current liabilities, while the associated unamortized debt issuance costs will reclassify from long-term assets to current assets as of September 30, 2012.

Total debt on the balance sheet was $703 million at quarter end, consisting of $100 million of outstandings drawn under the $200 million credit facility and $603 million present value of the $1.2 billion in convertible debentures. The convertible debentures continue to be accreted onto our balance sheet up to its $1.25 billion par value over its 25-year remaining term.

I will now review some of our key third-quarter operating metrics, which are revenue, deferred revenue, non-GAAP operating margin, non-GAAP earnings-per-share, operating cash flow, and free cash flow. I will then discuss our 2012 full-year guidance.

As mentioned, revenue totaled $224 million for the third quarter, up 13% year-over-year. Approximately 60% of our revenue was derived from customers in the US and 40% was from foreign customers. Revenue from international sources grew 14.7% in the third quarter, compared to the same quarter a year ago, and slightly faster than our domestic source revenue, which grew 12.7% for the same comparative period. Deferred revenue ended the quarter at $809 million, an $80 million increase from year-end.

Third-quarter non-GAAP operating expense, which excludes $10 million of stock-based compensation, totaled $98 million, and was down 1% sequentially. G&A operating expenses increased in the quarter, primarily driven by an increase in legal and related expenses of $3.9 million, due to efforts supporting the Department of Commerce review of our renewal of .com registry agreement with ICANN and the legal advice related to ICANN's new GTLD program. These increased expenses were expected as part of the .com renewal process and the new GTLD program, and were offset by lower sales and marketing expense in the quarter. Non-GAAP operating margin for the third quarter continued to expand and totaled 56.4%, compared to 54% in the second quarter of 2012.

Our third-quarter operating margin improvement was driven by revenue growth and our ability to obtain operational efficiencies to help offset rising costs, which allowed us to keep total expenses in line with the previous quarter. We will continue to look for further efficiencies in our business model in other ways to benefit our operating margin. Non-GAAP net income for the third quarter was $84 million, resulting in non-GAAP diluted earnings per share of $0.50, compared to $0.39 in the third quarter of 2011, and $0.45 last quarter.

With respect to taxes, as stated on our last earnings call, starting from the third quarter, we are using a non-GAAP tax rate of 28% for our non-GAAP net income and non-GAAP earnings per share copulations. We continue to use a 30% non-GAAP tax rate for prior periods presented. In 2012, we expect to pay cash taxes of about $35 million to $45 million.

We had a weighted average diluted share count of 166.6 million shares in the third quarter, compared to 164.2 million shares in the second quarter of this year. Dilution related to the convertible debentures was approximately 9.2 million shares, based on the average share price during the quarter, an increase of 3.6 million shares from the second quarter. This increase was partially offset by the full impact of Q2 share repurchase activity and the weighted impact of the 1.7 million shares repurchased during the quarter.

Operating cash flow was $122 million for the third quarter, down from $135 million in the second quarter of this year, and up compared to $108 million for the same quarter last year. Free cash flow was $117 million for the third quarter of 2012, including $9 million in excess tax benefits from stock-based compensation and excluding $14 million in capital expenditures in the quarter.

With respect to guidance, we now think revenues for 2012 should be in the range of $870 million to $875 million, representing an annual growth rate of about 13%. We gave a range of $870 million to $880 million on the last call. Non-GAAP gross margin is still expected to be at least 80%. Q4 2012 exit non-GAAP operating margin is still expected to be at least 55%. Non-GAAP interest expense and non-GAAP nonoperating income net is still expected to be an expense of approximately $39 million for 2012. And capital expenditures for the year are now expected to be slightly lower and fall between 6% to 7% of revenue. We gave a range of 6% to 8% on our last call.

Our guidance is based on expectations about the outlook of our Business and increased operating efficiencies, in addition to our financial projections for interest income and expense. In summary, we continue to demonstrate sound financial performance in the third quarter. We have grown non-GAAP operating income and net income. We have maintained a strong balance sheet and expect strong operating cash flow generation to continue as a result of our financial model.

Now, I will turn the call back to Jim for his closing remarks.

Thank you, George.

Before opening the call to your questions, I would like to give you a progress update on our execution against the strategic framework we shared with you during our last call. Our strategic framework is how we are thinking about the Business across four areas of focus that we believe will drive value creation. These four areas are to protect, grow, innovate and manage the business effectively. First, we protect the business by providing unparalleled registry services and network performance while acting as responsible stewards for the infrastructure which we operate. As discussed earlier, we will continue to work with the Department of Commerce towards a renewal of our .com agreement.

Second, with respect to growth, as you may noticed, ICANN has given updates to its timeline and process for their new GTLD program. As you may recall, 12 of our 14 applications were for IDN versions of .com and .net. Third, as evidenced by our continued filing of patent applications, we are focused on innovation and value creation through new services that we can build around the Domain Name System. And fourth, we believe in managing the Business responsibly from a financial perspective. We believe that continuing to deliver on these four areas with the right balance should provide unparalleled performance for our customers, businesses, and consumers that rely on our critical infrastructure, as well as creating value for our shareholders.

We will now take your questions. Operator, we're ready for the first question.

(Operator Instructions)

Walter Pritchard, Citi.

Appreciating there may not be a lot you can say, just wondering, is there anything else you could give us in terms of this process going forward here with DOC and DOJ? And particularly, what type of information have they asked you for, at this point?

Yes, Walter, this is Jim. Yes, we are in that process. So, we -- it would really be inappropriate to say anything about the process itself. But let me just reiterate that the status of our ability to operate .com is not an issue here. The performance, in terms of security and stability, is not an issue. As you recall, in the Cooperative Agreement, the Commerce Department gives its consent to what we negotiated which ICANN. And it approves that agreement based on the public interest, which is defined as security and stability, and registry services on reasonable prices, terms and conditions. It consults with other agencies as necessary in its review. That's the process we are in.

We are engaged with them. There is a possibility that it will not be complete by November 30, as we said in our press release, and as we have reiterated here. And that's -- I wish I could tell you more, but I think that's probably the appropriate amount of information, given that we are in the process. As soon as we can, we will share more information with you.

Okay. George, did you give us a number of names up for renewal? Or if not, could you give us that number?

Sure. I'd be happy to, Walter. The number of names up for renewal in the fourth quarter is 24 million names.

Okay. Great.

Sterling Auty, JP Morgan.

I'm curious if the DOC gave an indication, are they reviewing the level of current pricing or the price increases as indicated in the new contract that's proposed?

Hi Sterling, this is Jim again. Well, they have a review process. They have the right to review and that's what they're doing. We are in that process. I think to provide any level of detail, it's inappropriate. The process isn't complete. I can only tell you that we are participating in it. We'd like it to be done by November 30, but it is possible that it will extend beyond that. And until we are ready to tell you more, I think that's probably all the information we can give you, at this point.

Okay. And one follow-up on the actual business. The number of new names processed was actually down. You mentioned the macroeconomic. Is there any particular countries in Europe, or can you also talk through any programs that you may have done in the quarter or plan to do to try to reinvigorate the new name adoption?

Sterling, this is George. In the quarter, we absolutely saw that -- obviously, .net names are a function of both gross additions, less the deleting names. And we took a look at the additions in the quarter. They totaled about $7.8 million, as compared to about 7.9 million names in the last year. So, it was down about 1% in that comparative period. And when you look at the names deleting out of the zone, we saw those deletions be about 6.4 million this quarter, versus about 5.9 million a year ago.

So, we absolutely have seen an increase in deletions. And when you look at those deletions, we are seeing an increase in them in the international markets. And so our renewal rates internationally have come down a little bit. We are still doing more analysis on it, but we don't have it by country. But it just seems to be related to the European economy in general, is where we are seeing the deletes increase, year-over-year.

Okay.

Phil Winslow, Credit Suisse.

This is [Harris Hire], on behalf of Phil Winslow. We were hoping you could comment a little bit on international domain names and expectations going forward into 2013.

This is Pat, Harris. We take a look at the growth opportunities for international domain names, as George said previously, we do see a little bit of draw down in the European markets. However, we do continue to see growth in India, in China, and other Asia-Pac countries. And so I think that, when you take a look at what our 2013 focus will be in terms of growth opportunities, it really will be China and India. So, I think there is good growth coming from those areas.

Steve Ashley, Robert W. Baird.

So, back to the Department of Commerce. Has the Department of Justice ever been involved with reviewing a contract to before in the past?

Yes. This is Jim. They were involved back in 2006 when the Cooperative Agreement was put together. And the associated amendment -- the Commerce Department is the party with which the -- with which VeriSign has entered into the Cooperative Agreement. And the Commerce Department has the responsibility for review and the obligations to VeriSign to act in the public interest against the two standards in the agreement, security and stability, and registry services. It consults with other government agencies. The Justice Department was involved back in 2006, so this is not the first time that they been involved.

And would you care to handicap the probability of the pricing terms changing possibly, before the agreement is adopted?

I think, given the process, and where it is right now, I thank it would be -- well, under most circumstances it would be inappropriate for me to do that, as much of I may want to. But no, I can't do that. At this point, I think, given the process, which is really the Commerce Department's process, although we are involved in it, that would be inappropriate for me to comment on.

Great. Lastly, you've mentioned the fact that Google had tweaked the search engine last quarter. You called that out for us. I'm just trying to understand exactly -- maybe get more color on what that means. Does that simply mean that certain sites on Google search simply are not ranked high enough? And the reason I ask that is, it seems that a lot of these domineer sites really are not gotten to through Google. They mostly are gotten through native search. So just trying to understand a little bit more color on what's happening and the impact on those sites.

This is Pat. So basically, what happens with -- what they're trying to attempt to do is push those search results down further in the rankings. And so, therefore, Google is trying to push that down to increase -- or any algorithm search engine is trying to increase their own revenue. So basically, these domains end up being further down in the search results and those are clicked on less. That's -- basically, that's the basics.

Okay.

Gray Powell, Wells Fargo.

I hate to belabor the issue, but sticking with the DOC, maybe -- could you just state your case for why you think the pricing for the .com contract should remain unchanged? And then, what do you say to proponents that would potentially argue that you are over-earning on the contracts?

Let's see. This is Jim. I think the first question goes to process, and is probably inappropriate for me to comment on. Your second question about -- is your question about our earnings?

Well, no. If someone looks at your operating margins and says you guys have a 55% operating margin and a very good business, and your potentially earning too much on the .com contract, what you say to them to counter that argument?

I think most of what I would say probably falls under the process that we are currently in. But, I would say to you that, as we say -- as we mentioned earlier during the call, as I talked about and as George talked about, it is the -- to a large extent, the efficiencies that we see in the business, I think, are due to the fact that we have been running the business more efficiently. Recall, of course, that we just completed a major five-year restructuring, going from over 5,000 employees to about 1,000, shedding numerous non-core businesses. Having cash that, as a result of proceeds from the sale of non-core businesses, a long-term, five-year divestiture program, and our focus on managing the business efficiently. And, on operating discipline and on being very focused. So I would say that I think we've done a very good job over the last five years of optimizing the business, running it very efficiently, understanding where we are.

2011 was the first year that we really operated on a full-year basis as the new VeriSign, focused on one particular business, that being the registry services business. Prior to that, we were always something else. It wasn't until past the midpoint of 2010 that we actually completed the sale of the authentication business. So we've just come off in 2011, and now in 2012, the first year and second year of actually being a focused registry business and it takes some time to adjust to that. And as we've adjusted, we've discovered efficiencies because we focus on it. We operate the business efficiently. We target efficient operation. Generally, the result of that is improving margins. So I would say that that's a very important part of VeriSign's margin story and its efficient business.

Okay. That's helpful.

(Operator Instructions)

Gregg Moskowitz, Cowen.

I will move past the DOC questions. I know you are -- obviously, you're restricted, Jim, in terms of what you can say from here. But I do want to follow up an earlier question. There's been a lot of talk around lower renewal rates due to the search algo changes and then also, macro issues related to Europe. But the fact that new name registrations did fall slightly year-over-year, wondering if you had any more insight into that? Is that something that was restricted to Europe, or did you see any of that in the US or some other regions, as well?

So, let me -- this is Jim. I'll -- let me make a couple of comments to address that question, then I will let George and Pat comment as appropriate here. First of all, you'll recall that back in 2009 -- that was really the first time that we saw a major change in search algorithms that targeted the monetization players. So we're essentially trying to exploit the search engine algorithm to get themselves placed higher in the results so that they could drive traffic and monetize it themselves. We saw that, over a period of time after those changes, there was some recovery and the monetization community adapted to it. We saw, in 2012, changes which affected Q2, which we've discussed with you before. I think there is a more serious effort by the search engine algorithm players here to clean up search results and improve the quality, as Pat said, to drive some of the monetization community down further.

So we discussed in the last call the Panda and Penguin programs, for example, that Google utilized, where they were targeting content farms. There were targeting keyword stuffer's. And now they are also targeting exact name matches. Which, typically, are monetization names often. So for example, if you search for purple blue widgets and purplebluewidgets.com happens to be registered domain, that, in the past, would have been likely to score very high in the search results. However, if the search engine algorithm is tweaked to go out and consider other factors -- the age of the domain, how many pages are on it, how fresh is some of the content. And give it a score, essentially, on how likely it is that it's truly quality content that the searcher might be interested in, versus something that has been set up for monetization purposes, I think the search engine algorithms are essentially targeting that kind of traffic to get it out.

You'll also recall that back in 2009, we said that roughly 9% of the zone, as far as we could tell, were so-called advertising names. We are not at a point right now to tell you exactly what that number is today. But I think there might be some developments where other domains have -- other TLD's have targeted, in a sense, this monetization community. And possibly some of that -- some of those names may have been drawn away over the years and moved to other areas which is, in a sense, a good thing. Because it means that these changes, while they are making a difference, and I know you see that every day -- we do too, of course. And while it may take longer to recover, depending on how intense and how sustained these campaigns are, the fact is that there may be fewer of these names to work on in .com because of the move to other TLD's. I know Pat watches this very, very closely. And George does as well. So I will invite them to comment.

So one of the types of models that -- this is Pat. One of the types of models that Jim is referring to is the one that .TK runs. And so, .TK basically gives away domain registrations for a set of criteria which includes an ad revenue share. So we believe there are some data that shows that people are using -- or going to that type of model and registering domain names in .TK to drive pure registration without the initial investment that was required within a .com or .net registration. Those domain names would be up for a while. They develop those names, and the .TK registry itself can take those names back and if certain objectives aren't made with the registrar in the domain name and therefore continues to be a registration that is run by the registry operator itself.

And the only thing I would add, Gregg, is that if you look back historically, we do have a little bit of seasonality in the third quarter. Typically, Q1 and Q2 are always a little heavier from a gross registration perspective than Q3 and Q4 are. This particular year, in 2012, we actually had an extraordinary strong Q1 and Q2. And so, while numerically decline looks a little steeper in Q3, Q3 this year is falling relatively on top of last year's Q3 gross adds from that perspective.

Okay.

Ed Maguire, CLSA.

I was wondering if you could just comment on the upside to the operating margin. Were there any unusual factors that lead you to see incremental cost savings?

This is George Kilguss. In the quarter in general, our total operating costs stayed relatively level with last quarter. We had some movements in the pieces. We saw general administrative expenses increase by about $3.9 million, related to some of the legal costs we had with the DOC and the new GTLD program. And they were offset by some lower spend in our sales and marketing. As you may have known, we had a transition in our leadership in our marketing area, and so we had some under-spend in that area, at least in the third quarter. But we at least managed those costs and they offset one another in the quarter.

So we, again, look for efficiencies, but for example, in the fourth quarter, which we talked about, we will have a change in the ICANN registration fees. Those will go up on a more variable basis instead of a fixed basis. They will go up to about $0.25 per name. Starting December 1, we will see the fees paid to ICANN increase in costs of about $750,000 a month. Costs do vary, but we are doing our best to try to offset those increased costs with efficiencies from the long tail of the restructuring.

Great.

If I can just add to that. I agree entirely with what George said. I just feel that I should add the caveat, of course, as you know, we have just come off the restructuring. We have optimized. We have run the business much more efficiently. But I'm sure a lot of you have seen in the news recently the number of DDoS attacks against financial institutions. Some of them sustain, some of them still continuing today. More sophisticated, larger in scale. I would just say that, given the nature and growth of these attacks, obviously we don't budget for the kinds of things that we might need to do to adapt as some of these attacks grow.

But it is a fact that you are seeing playing out in today's headlines every day. The kind of attacks against infrastructure, against targets for political or other reasons by nation states -- at least it's alleged in some cases. The caveat is, while we run the business very efficiently, events could, of course, always dictate that we do need to make capital investments in order to stay ahead of the curve. That's how we got to where we are today with the uptime record that we have.

Without getting into the process that we are in with DOC and DOJ, the question earlier about what VeriSign's position is. I would just simply point out that VeriSign is -- it has an unparalleled record of performance in the operational availability of .com and .net. And our focus is there, and that's our first job. And that's the primary requirement of the ICANN contract in terms of the SLA's. And that's the first of our four-part strategy framework. So we do focus there a lot. I think VeriSign story sort of speaks for itself. We have supported an infrastructure that has allowed e-commerce to flourish and numerous billions of dollars of economic activities sit and rely on the infrastructure. And I think it's just -- simply speaks for itself that VeriSign is secure and stable provider of that infrastructure. That is job one, and whatever it takes to maintain that, we will.

Great. Any updates on some of the contracts you have for granting of new generic TLD's? I know you'd signed a number of the contracts before the bidding process went out. And I'm just wondering if there have been any update to some of the arrangements you've had with your contracted parties?

Let me just clarify. Are you talking about the applications we've made directly for the IDN's? (multiple speakers)

No. The arrangements to provide backend services.

Okay. For the -- for other brands who might want VeriSign to be their backend service provider?

Yes, precisely.

Okay. Pat, I'll -- go ahead, please.

There's been no change in that from the standpoint of where we are. The application window closed, so we are not able to take on additional partners at this time. But basically, that process is moving ahead as ICANN has planned. And basically, they been able to keep a better target on their current timeline, such that we believe that will transpire in fall of 2013.

Great.

(Operator Instructions)

Fred Ziegal, Topeka Capital Markets.

Pat, to you, a couple of questions. First, on the international side. Has there been a .com-to-ccTLD displacement, as far as you can tell? Second, ICANN apparently, I guess at their last meeting, approved -- or didn't stand in the way of a cross-ownership of registries and registrars. You are probably a bit hamstrung given your market share, but what are your thoughts on that?

Let me address the first one. So you are asking, are people choosing .com -- or choosing the local ccTLD over .com at this point in time?

Correct.

Okay. So there are some markets that certainly -- some of the more established markets that have a preference for the local ccTLD over .com. And if you take a look at Germany, very specifically, DENIC, who runs .de. You've got a country with 83 million people and they've got 14 million or 15 million domain names registered in .de. So there is a preference in markets like that. But there's still strong preference for .com in India. There's a preference for .com in China, as well as other nations that are growing. So it's a market-by-market. But we don't see any major changes, recently. They have been fairly consistent for the last couple of years.

Okay.

Okay. And that second one, when you are talking about where ICANN has announced that if registry operators want to move to the new contract, that vertical integration could be considered. Correct?

Correct.

So, I think that's across the board that they've done that. I think that .com would, of course, be -- it's different. It will always be looked at differently. And so I wouldn't suggest that that's something that we would do if it was thrown out there. But .com is always going to be looked at differently by Commerce and Justice, as Jim has talked about previously. So while it's available, I don't know that it's exactly available to .com.

Given your market share.

I think it's hard to say. That's an assessment that would be made on a case-by-case basis. But, .com is different. So it's really hard to say. We don't -- we haven't done any planning that would have us in a vertical integration scenario as an operating business. Our focus is, really, security and stability first. And quite frankly, I thank it might be awkward to actually be -- act as a register ourselves. It's a very different business, as you may know. We were, at one point, many years ago, in that business, when we first bought network solutions in June of 2000. It was, of course, both the registry and registrar. And it wasn't until a few years later, I believe it was around 2003, when we sold off the retail part of that business, and it was very different.

So given the new single focus that VeriSign is in right now as a registry services provider whose first mission is availability. When you consider, for example, over the last six years through a major restructuring, through the 2007, 2008, 2009 economic downturn, we have been able to maintain a record of security and stability. I'm sure a lot of you saw that just over the last few weeks there were some major outages. I won't mentioning the names, but a large registrar and a large web services company, just over the last few weeks, had extended outages. If that happened to .com, I think there'd be a lot more tension. There would be a lot more people affected. There would be a lot more economic loss. So I like us as a model focused on doing one thing, which is providing absolutely secure and stable infrastructure, because there's just too much that depends on it here.

If -- the question for George. Were 56.4% non-GAAP operating margins in Q3 and you're suggesting -- or guiding to 55%-plus in Q4, are we looking at higher ICANN expenses related to the $3.9 million from Q3?

We absolutely will see increased expenses from ICANN in Q4. Having said that, we will only have about one month of that. We still believe we will be in excess of 55%. But we do have rising costs, and we continue to look for opportunities to offset those rising costs as we move forward.

And don't forget, in the ICANN agreement, in addition to the increased ICANN fees under the new .com registry agreement negotiated with ICANN, there are also far more stringent SLA's. So we need to pay attention to that as well. So paying a higher fees, it has to do a little bit more, but that's what VeriSign does with .com.

This is under .com?

Correct. This is under .com.

Yes, this is under the .com registry agreement.

Under which -- under the new agreement that hasn't been approved?

Under the agreement that was negotiated and approved with ICANN.

Okay.

It contains different ICANN fees that we pay, which George talked about, and it also includes more stringent SLA's. We are actually going to be -- we are already operating, obviously, as you know, given our uptime record, we are already operating beyond any published SLA's. But we are -- the contract itself specifies the service levels that we have to provide, and those have actually been made more stringent for VeriSign in the new agreement. So there's some good benefits for ICANN in that agreement.

Those expenses to you would not begin until the 1st of December? Did I understand you right, or no?

It would commence with the renewal of the agreement, which --

The new agreement takes over, we're paying the higher ICANN fees.

Yes. Okay. Last question, quickly, to Jim. NIA. Any update on what you're doing now?

We are doing what we started saying, I believe, two or three quarters ago, that we were going to optimize NIA. We are going to structure it better for better quality of revenue that, originally, when it was put together, it was focused on bookings growth. We stopped focusing on bookings. We now focus on revenue, and we are aligning expense with revenue. And I will just say that the team has really been working hard there, and we have made really good progress, and we're pleased with the direction that that's moving. So it's more of the same, but we are very happy with the progress that we are making. I think that was the right thing for us to do, and it's going well. I think that probably is helping us contribute to our efficient business, improving margins, increased revenue. It's not, obviously, material large enough that we call it out separately., but it's moving in the right direction and we are very pleased with it.

Do we get to 10% of revenues in 2013 at some point?

I don't want to give any guidance here, but I don't think that's -- I don't think you should expect that to happen. I don't believe it will be material in 2013, let me put that way.

Okay.

Jaimin Soni, Bank of America Merrill Lynch.

Just a couple of quick ones. First, if you look at the domain name [ads] this quarter, is it possible to quantify just how much of the [delta] versus guidance came from search engine changes versus macro? And then, looking at guidance for next quarter. At the midpoint, it's a pretty big down-tick versus what we have seen in prior fourth quarters in the past three or four years. I'm just wondering, is it more macro there? Or, also, similar impact from search engine changes?

This is Jim. Let me just make a general comment, then I'll ask Pat to give you a little bit more color. Yes, there were some macroeconomic headwinds, as we said earlier, particularly in Europe. Certainly the search engine algorithm changes are a very large factor. Every year, and every quarter that the zone grows, we see the law of large numbers, as we refer to it, come into play as well. Clearly, percentage growth will slow as the size of the zone gets larger. So there are a number of different factors. We have some analytics, but we don't break that out separately, but perhaps Pat can give you a little bit of color.

This is Pat. When you take a look at the renewal rate, that's largely where we've seen the shortfalls, and really it's largely coming from monetization-type customers. That's individuals with large portfolios of domains making pennies off of hundreds of thousands of domains, taking a look at what makes sense for their portfolio. So I would attribute the renewal rate more towards monetization than macroeconomic trends right now. Although there's something there. When you take a look at the new units, things that we have coming out of Europe right now, we are seeing registrars position domain names in the purchase flow that benefit local currency. So if they are paying -- if it's a Euro-based country, they're taking Euro-based registrations, and then we of course take all of our registrations in US dollars. So there's some of that, that we see as part of the slight shortfall that we have in new units.

Okay.

I would now like to turn the call over to Mr. David Atchley for concluding remarks.

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This concludes today's call. Have a wonderful day.