Ziff Davis Inc (ZD) 2005 Q1 法說會逐字稿

Good afternoon ladies and gentlemen, and welcome to the j2 Global Communications first-quarter 2005 earnings conference call.

It is now my pleasure to introduce your host, Mr. Scott Turicchi, Chief Financial Officer of j2 Global Communications, and Mr. Scott Jarus, President of j2 Global Communications.

Thank you, gentlemen.

You may begin.

Thank you.

Good afternoon, and welcome to j2 Global investor conference call for Q1 2005.

As the operator just mentioned, I am Scott Turicchi, the Company's Chief Financial Officer.

And joining me today is Scott Jarus, our President, and Gregg Kalvin, our Chief Accounting Officer.

We will be discussing our Q1 financial results as well as discussing the progress of our three major initiatives -- our large enterprise sales activities, our international sales efforts, and our new product development.

We have made some stylistic changes to our presentation to better emphasize the operational aspects of our business.

All of our metrics are now included in the exhibit at the back of the presentation.

In addition, we have provided financial data for the second quarter of 2005 and the fiscal year of 2005.

We will use the IR presentation as a roadmap for today's call.

A copy of this presentation is available at our website.

If you're trying to access this presentation, make sure that you have turned off your pop-up blocker.

If you have not received a copy of the press release, you may access it through our corporate website at www.j2Global.com/press.

After completing the formal presentation, we will be conducting a question-and-answer session.

The operator will instruct you at that time regarding the procedures for asking a question.

In addition, you may email questions at any time to investor@j2Global.com.

Before we begin our prepared remarks, allow me to read the Safe Harbor language.

As you know, this call and the webcast will include forward-looking statements.

Such statements may involve risks and uncertainties that would cause actual results to differ materially from the anticipated results.

Some of those risks and uncertainties include but are not limited to the risk factors that we have disclosed in our SEC filings including our 10-K filings, recent 10-Q filings, various proxy statements and 8-K filings, as well as additional risk factors that we've included as part of the slide show for the webcast.

We refer you to discussions in those documents regarding both Safe Harbor language as well as forward-looking statements.

I would now like to turn to the results for the quarter.

This was another banner quarter for j2 Global.

Our revenues were 32.2 million, up approximately 40% from the first quarter of 2004.

Our gross profit margin was approximately 80% compared to 79.1% in the year-ago period.

As you will note, we have reallocated certain depreciation and network operating costs to cost of goods sold from general and administrative expense and have provided you with comparative data in our presentation.

Earnings before taxes rose to 14 million and was approximately 43.3% of revenue.

Net earnings were 10.2 million for the first quarter of 2005 compared to 6.4 million in 2004.

On a per share basis, net earnings were $0.40 for the first quarter of '05 versus $.25 cents for the first quarter of '04.

Funds available to grow our business rose to 98.2 million.

At this time, Scott Jarus will take us through some of the highlights contained in the current IR presentation.

Thank you, Scott.

As you have heard so far and as you'll see in this presentation and will read through our financial results, we had a very good first quarter, both on a financial and operational results basis, which continues the trend from last year.

Several of the initiatives, which we've spoken about in previous earning calls and conference presentations are now bearing fruit.

These include recent successes by our enterprise sales team in landing very large accounts, meaning the deployment of more than 1,000 telephone numbers or DIDs per account.

It also includes the continued geographic and marketing expansion of our international offerings, including the addition of an additional country and several new cities in France.

And finally, the paid subscriber growth this quarter came very close to reaching our all-time high.

I would encourage you now to turn to slide number 4, which is our mission statement.

And I will just make the comment that we continue to fill out our mission statement.

During the first quarter this year, our Electric Mail division introduced its new premier -- parameter protect virus prevention and spam detection services, including Quarantine Central, its robust management and notification interface.

And our Onebox division introduced its virtual receptionist service for small to mid-size businesses, all flowing into our mission of delivering business critical communication and messaging services to individuals and companies around the world.

On slide number 5, I would only remind everyone that the brand in the oval, in the orange oval that you see there, represent our DID or telephone number-based businesses, which will be discussed with more financial detail later in this presentation.

Turning to slide 6, which is the first of our metrics, which detail the unique assets of the Company.

We ended the quarter with 9 million subscribed telephone numbers.

During the quarter, we increased our subscriber base by approximately 300,000 DID's, or telephone numbers, and our inventory of telephone numbers by a more than 600,000, primarily through the addition of international numbers for our free offerings.

As previously stated, during Q1, we added a new country to our geographic coverage in which we can now offer local telephone numbers.

In addition to the 1,500 cities in 22 countries that we were offering last quarter, we are now offering an additional country in Malaysia through service offerings in Kuala Lumpur.

We also anticipate adding services in Spain very, very shortly.

With regard to our patent portfolio and in anticipation of a question regarding our current litigation against Venali and CallWave for patent infringement, I will just tell you that we remain in the discovery phase with both and can offer no additional comments on either action.

As previously stated, in Q4's call, we did amend each of the complaints to include additional patents.

Our cash and investment position continued to grow in Q1, now totaling more than $98 million, an increase of more than $4 million dollars over last quarter.

This is in spite of the fact that we spent almost 6.4 million to increase our patent portfolio, acquire a small European fax-to-email provider, and increase our core CapEx.

The increase in our core CapEx was primarily result of our international expansion and the infrastructure growth of our send system, that is the ability for customers to send faxes from their computer.

This was our 32nd consecutive quarter of revenue growth and our 13th consecutive quarter of positive and growing operating earnings and represents a 40.5% year-over-year revenue growth.

Turning to slide number 7, in addition to the continued strong penetration in the vertical markets, which are listed on this slide within the individual NSME (ph) or SMB segments, our enterprise sales organization continues to win very large corporate accounts -- resulting in many cases in the deployment of thousands of telephone numbers per account.

And as you will hear in one of the color slides that I will be giving shortly, one of the new impetuses of sales, particularly in the large corporate accounts is the requirement to meet certain regulatory compliance features and functionality.

Turning to slide number 8, as we have stated in the past, our business, marketing and pricing are defined as a continuum of customers and selling opportunities -- ranging from individual subscribers who typically engage us through us for our various websites, such as eFax.com, j2.com, Onebox.com, ElectricMail.com, etc. and pay via credit card -- or in the case of our international customers, utilize our calling party paid service.

We also have small to mid-size businesses looking for simple, efficient and cost-effective messaging solutions.

And lastly, we have large enterprises and government agencies looking to improve their processes, eliminate costly infrastructure, meet their regulatory compliance needs, and enhance their internal communications.

Our number of domestic U.S. marketing partnerships, particularly as it relates to the individual sales, is now at 59 during the quarter.

This number includes 33 international marketing partnerships, many of which includes some of the very large international ISPs and portals.

Turning to slide number 9, these are our paid subscription drivers.

And they are ranked by the longevity of how we have acquired paying customers in the past.

Historically, the direct-to-website driver is the number one way the Company acquires paid customers.

The order of the remaining five drivers changes from week-to-week, month-to-month and quarter-to-quarter depending upon which programs we have in place at any particular time.

As a marketing goal, we are working to expand the number of ways in which we acquire paying customers.

In this regard and as a result of our successes in the past few quarters, we have added the acquisition of international customers, particularly in Western Europe as a significant driver for our future paid subscriber growth.

Turning to slide number 10, I would highlight now that we now have 58 Points of Presence worldwide with 31 of them in the United States.

That is similar to what we had last quarter, which are now supporting the more than 1,500 cities where we can offer our local fax, email, voicemail to email, and our other messaging service telephone numbers around the world.

As previously stated, we added Malaysia to our footprint of countries where we are now offering local telephone numbers service and anticipate having Spain on our network sometime during this quarter.

Slide number 11 is the color slide that I was talking about earlier.

During past earning conference calls, we have included a slide, which highlights a particular area of interest for our investors.

This quarter I'd like to get some color on our large enterprise sales, some of which I have already alluded to in this presentation.

Over the past 6 to 9 months, we've seen a significant increase in interest by large enterprises for our outsourced fax-to-email service.

This interest appears to be generated by -- first, the concern over the security and privacy of their internal fax infrastructure; second, concerns or interest in regulatory compliance issues; and lastly, a general interest in providing a higher level of fax services within the enterprise at a lower cost.

I want to point out a couple of the bullets on this particular slide.

We have increased our direct sales focus over the past 12 months -- the focus on these very large enterprise accounts.

In addition, we have been successful -- we currently have 13 enterprise accounts with more than 1,000 telephone numbers each, all of them under annual or multi-year contracts.

And of the 13, 5 are Fortune 100 companies under contract with another 17 highly qualified companies in the current sales pipeline.

We are also seeing significant traction on the international side in attracting large enterprises.

And lastly, our outbound or our send usage from enterprise customers has more than doubled in the past 6 months.

It is important to recognize that the revenues and usage profile of our enterprise customers is different than of our typical individual subscribers.

The individual subscribers' revenue profile is heavily weighted toward the fixed or subscription fee component of their average revenue per user, or ARPU, with a smaller contribution by their actual usage.

Conversely, our enterprise customers typically have a smaller revenues contribution from the fixed component of their ARPU.

And you can think of that as a fee or usage charge and a much larger contribution from the usage they generate typically on both inbound and outbound usage.

Turning to slide number 12, during the first quarter, we introduced eVoice Plus, the first in a series of services expanding our eVoice product suite. eVoice Plus is our enhanced voicemail offering, which includes voicemail to email, traditional telephone access to a subscriber's voicemail, local telephone numbers in any of the U.S. cities currently on the j2 Global network, and text messaging notification to cell phones and PDAs.

As I mentioned, this is the first in a series of services within the eVoice product suite, and we anticipate rolling out many more in the future.

I'm now going to turn this back over to Scott Turicchi, who will walk you through the financial highlights.

But I want to just restate what Scott Turicchi had mentioned in the beginning that there is a slide in the back in the appendix, which has a more fuller description of our metrics, both financial and operational.

I would tell you that if you're trying to look at it on the screen, you are going to a hard time seeing it.

And I would encourage you to print it out.

It contains all the metrics, which were contained in previous presentations, updated for the current quarter.

Scott?

Thank you, Scott.

If you go to slide 14, this continuous the 32 consecutive quarters of revenue growth and now the 13 consecutive quarters of positive and growing operating earnings.

Slide 15 gives you the pictorial format of our cost and our operating margin.

As I mentioned at the beginning of the presentation, we determined at the beginning of this year to reclassify certain of our depreciation and network operations expense, as they are really now focused more externally in support of the network up into cost of goods sold.

As a result, you have seen the gross margin here normalize on a consistent basis, making that same change in the prior periods.

Gross margin was down slightly from the fourth quarter of 2004.

This has to do primarily with increased depreciation and amortization expense in the case of the gross margin.

As Scott Jarus mentioned, we had CapEx that was at the high end of our range for Q1 of '05 as well as Q4 of '04.

So we had more depreciation expense coming through in the first quarter of '05.

Sales and marketing remained roughly consistent with historical periods at about 17% revenues.

R&D or engineering was up a bit as a percent of revs as we had previously mentioned.

And G&A came in at 16%, as it absorbed the other increase of amortizations, specifically for intellectual property and other assets that we purchased the amortization of that expense, bringing our operating margin in at 41.5%.

On slide 16, we have our guidance for the second quarter that we are in.

We are estimating revenues of between 34.5 million and 34.8 million.

We are expecting EPS of $0.42 to $0.43 per share.

That assumes a tax rate of between 25% and 28% of pre-tax earnings.

And in the quarter, approximately 25.4 million shares in the fully diluted.

For the fiscal year as a whole, we are reaffirming the 145 to 148 of revenues we previously discussed and $1.70 to $1.75 per share in EPS -- with a range of shares being between 25.4 and 26 million for the fiscal year.

Scott?

Good.

Before I recap some of the recent events for Q1, I want to talk a bit on the current status of the universal service fund, since it's been a topic of discussion.

And some of this will be just in the form of color, so the people who are not familiar with the universal service fund will understand what we're talking about.

The universal service fund was established by the SEC in the 1930s to ensure that all Americans, particular those living in rural areas or with low incomes would have access to affordable telephone service.

Since then, there have been very universal service fund or USF funding methods used, ranging from a surcharge on long distance calls to a flat surcharge for telephone, cellular or DSL lines.

In 1996, the sources and uses of USF funds and the definition of the services covered under USF were significantly broadened.

As a result, there has been a long running discussion regarding a possible shortfall in the funding of USF.

And it remains unclear if or when any actions will be taken in the foreseeable future to resolve that.

A couple of weeks ago, a congressional budget officer or CBO report regarding new funding methodologies for the USF was distributed.

In this report, four proposals were outlined.

These proposals include -- maintaining the current funding methodology; expanding the current revenue base system to include revenues which are currently excluded, such as high-speed Internet service delivered through cable modems; imposing a monthly $1.00 per telephone number tax on all U.S. telephone numbers; or using some combination of the three funding proposals.

On March 29th, j2 Global responded to the news of the CBO report by sending an email to the research analysts who cover our Company.

A copy of this email can be found on the j2 Global website at www.j2Global.com or through the usual SEC 8-K sources.

It is important to note that the USF funding issue has been under discussion around Washington D.C. for more than 3 years.

And as a CBO report was only a research report outlining possible solutions.

According to our sources and the lobbyists in Washington, D.C. that we've retained, this matter is highly unlikely to be formally debated this year.

And that even when the issue has formal congressional attention, it will probably be quite some time at least more than a year and likely longer before any action, whatever that might be, will take effect.

Frankly, they don't call the USF funding issue the "third rail" of telecommunications policy for nothing.

It is very, very tricky in Washington.

And just so there is no confusion, with current activities within Congress, there is a rewrite of the 1996 Telecommunications Act underway in the House, Energy and Commerce Subcommittee on telecommunications and the Internet.

Subcommittee Chairman Fred Upton, a Republican from Michigan, has told the “National Journal's Technology Daily” that the package being debated before the House will not include legislation to revamp the USF.

He said that efforts to address concerns with the program would be quote, "A separate legislative exercise."

In a nutshell, j2 Global does not believe this is an immediate issue.

However, we are remaining thoroughly a breast (ph) and aggressively engaged in the industry discussion in any legislative debate.

In addition, should a change to the USF funding methods be made, which would negatively impact a segment of our customer base, you can be assured that j2 Global has several alternatives to both minimize the impact on our cost structure and to capitalize on the opportunity such a change would necessitate.

Now let's move on to back to the recent events in the presentation.

As I mentioned before, we added Kuala Lumpur, Malaysia to our network of cities.

In addition, we added 11 additional cities throughout France, covering such cities as Marseille, Lyon, Nice, and Cannes to our network in France.

As I mentioned before, we introduced eVoice Plus to our suite of services, and we have added one additional analyst covering the Company through Kaufman Brothers.

Lastly, I want to talk about an organizational change we are making.

It has become apparent to us that j2 Global has reached a point in its development that there needs to be some additional horsepower brought in within the very top management of the Company.

I would like to announce that Hemi Zucker, the Company's Chief Marketing Officer, has been promoted to President and will be responsible for the day-to-day operations of j2 Global's revenue generation and service activities.

This will enable me to spend more time focused on strategic planning, public Company matters, M&A activities, continued development of our intellectual properties, corporate business development, and regulatory and legislative issues.

And with that being said, we concluded the presentation.

As I noted previously and as Scott had noted previously, there is a slide number 19 -- number 18 in your packet, which contains all the metrics, operational and financial that we've given the past.

So at this point, I would like to turn it back over to the operator for questions which you may have.

Thank you.

(OPERATOR INSTRUCTIONS).

William Benton, William Blair.

It is actually Ed Lipman (ph).

Bill is actually circling over Chicago right now in an airplane.

But congratulations on the good quarter.

I was wondering if you could give us a little sense of what the sales cycle looks like for some of your corporate channel deals.

And I guess specifically, how the channel kind of develops -- were there -- at the entering this quarter, were there 30 kind of deals in the pipeline?

And you closed 13 with the 17 remaining?

Or how does that kind of look for us?

Well, I don't have the breakdown of how many deals were in the pipeline when we closed these.

But I think if I give you some color on how the process works, you will get an understanding of the scale of which we're talking about.

We started this channel as you'll recall, about 2 years ago with a real emphasis on these large accounts in the last 12 months.

And one of the things that we've discovered is that the process of first getting before a large account can take a great deal of time, to find the right person within an organization who is handling the fax infrastructure for a corporation.

It is not something where you can just point to it and say, this is the person or the department.

Many times it is the IT department.

Sometimes it is the CFO.

Sometimes it is the administrative offices, etc.

We have been very successful in kind of decoding where this responsibility lies in many large organizations.

And in addition, we are being sought out now by more and more large organizations, who are coming to us to help them with primarily their regulatory compliance issues as well as the security and privacy issues that they have uncovered with regard to their fax structure.

So, in the form of a timeline, I can tell you that the process of introduction, the process of making the pitch, and the process of getting to a point where they are willing to consider and to take a proposal from us on service, typically takes anywhere from 5 to 7 months on the very, very large corporations and anywhere from 4 to 6 months on more of the medium to large companies.

Once we get to the point where they have made a decision to go with an outsourced provider for their fax infrastructure, it really then depends on the nature of the company.

We have some large enterprises, which spend a great deal of time vetting (ph) out j2 Global as it relates to our ability to maintain security, privacy, customer information, etc.

And we have actually had a couple of the recent customers send in their directors or VPs of security to visit us and go through a very extensive audit of our internal security processes to make sure that we have all the bases covered and can protect their information.

And that can obviously take some time.

In addition, because we are dealing with large corporations, who are under multi-year contracts, there is a need for a legal department, both the company and of j2 Global to engage, and that can take some time.

And lastly, once we have gotten past the sales pitch and we've gotten them to the buy end of the solution and we have actually gotten them to accept the pricing and the service offering -- in many of these companies, there is also an extensive period by which they need to internally begin to roll out the service to their employees, which can take several months in some cases.

So what you're hearing from me is that for these very large opportunities as they can gestate until they finally come to fruition for somewhere between 9 and 10 months before we sometimes see their service actually come onto the network.

That being said, I can tell you that over the course of the last 12 months and we've been focusing on this, we have built up a very significant pipeline of opportunities.

Many of which, as I mentioned earlier in the presentation, are highly qualified, meaning that they've gone well past the point of decision making.

They are now in negotiation for contract and terms.

And that pipeline should continue to come to fruition as time goes on, and our goal now is to continue to fill it.

In terms of your sales force, I think in the past you say you had 16 dedicated salespeople?

I was going to ask just how their capacity was in terms of the handle the current level of interest and whether you see that needing to expand anytime soon or if you have adequate capacity there?

Well, I don't think we have adequate capacity.

We are adding a couple of people as we speak.

We have a couple of open requisitions to hire some additional salespeople.

We currently have nine, what we call outside "outside," or people out of the headquarters' corporate sales account managers selling with another four inside people who handle the people who call in, who could be dealt with over the telephone on large opportunities.

There is a need for additional capacity there.

What I would tell you is, is that because these large opportunities have such a large gestation period, there is time to have many, many more opportunities in the mill by single account managers, since they are not having to rush, rush, rush to get these things done on a one-off basis.

So yes, we are increasing our capacity.

We've actually looking at increasing our capacity both domestically and internationally for that matter in Western Europe.

And we think we are doing okay right now.

But there is an opportunity for additional growth.

That is great news, guys.

Have a good quarter.

Mike Latimore, Raymond James Associates.

Nice quarter as well.

Just on the two large enterprise deals that you landed in the last whatever 3 or 4 months here -- how many of those subscribers showed up in the subscriber count this quarter?

Of the two large ones that we had previously announced, the first one which we actually I think closed in January -- the majority of their telephone numbers are now embedded in the Q1 numbers.

Of the second one, which was the largest of the two, we only have the benefit of a few hundred.

They came in at March, early March.

And as I mentioned just a minute ago, it takes a month or two for the company itself, not us, but the company itself to distribute these numbers to the appropriate people within their firm and get them out.

So I do not think you are going to see the full benefits of the second opportunity until this quarter as it matures.

And then on just the number of subscribers converting out of the free base into paid -- was the conversion rate similar to previous quarters?

Well, we don't release the conversion rate.

What I can tell you is that we have -- it continued to experiment with a lot of marketing programs.

And I think as an example, in this particular last quarter of Q1, I think we threw out, if you will, five of the marketing partnerships we've had in the past and replaced them with other ones.

And so the conversion rate for our free to paid is certainly within the range that we have anticipated historically.

So that hasn't changed.

However, if you were to look at it as a snapshot, depending on the marketing program, some are better than others and some are not, which is why we are very conservative in the numbers we release of our subscribers.

And then just lastly, in terms of the international market, which countries or cities seem to have the most near-term potential in your mind?

Well, our biggest market is frankly in Western Europe right now.

London continues to be a very strong market for us.

Germany as a country is a very strong market for us.

The Netherlands, believe it or not as small as it is, is a very good market for us in Western Europe.

Those are the primary ones.

We have good growth occurring, though not anywhere near the same scale, in Ireland, France.

But I think the big ones to focus on are the U.K., Germany, and the Netherlands.

Youssef Squali, Jefferies & Co.

A few questions first -- Scott, I cannot read, make out any numbers out of this table, so I was wondering if you could just walk me through your net DIDs for the quarter and then your free DIDs.

Sure.

The free DIDs to start off with were 8,448,517.

So that was up about 260,000 over the Q4 quarter-end of 8,180,000.

And in terms of paid DIDs, it was slightly under 600,000, 598,490 to be precise or up about 40 -- a little under 45,000 from Q4 of 2004.

Okay, so the 45,000 is a bit shy of your all-time (multiple speakers) 46,000 in the third quarter.

Correct.

It was near our record high, but I think off by about 1,000 or so.

And is that due to maybe better conversion, or just we are seeing more of the millions and millions -- you get a 3 million freeze last year.

Are we seeing just the mess of those come out?

Or is it just these new corporate customers that you're adding that are kind of contributing to that?

I think it is really a combination of factors.

I think you've got -- although clearly not including those numbers are the single largest corporate win the Company has ever had.

Only very few of those DIDs actually made it into the count for Q1.

But clearly, you have the large enterprise contributing at a faster pace than it did historically in 2004.

I think you've got a consistency within the conversion and the amount of free-to-paid in terms of that factor.

And then you have got other of our channels that also in varying degrees are impacting the gross adds as well as the net adds.

You know, we are starting to see albeit I'd say it is still relatively small, some coming internationally, which is a relatively new driver for us.

The small-business channel under eFaxCorporate.com continues to perform well.

So it is I'd say improvement in a couple of the channels, as well as continued contributions from the others.

And just a clarification -- I thought from an earlier question you guys said that the first deal closed in January.

So there's a fair amount of that in the --?

Yes, the first deal was for about 3,000 DIDs.

I think all of which are including from all the revenue and a DID standpoint in the Q1 numbers.

The second contract --

And by the way, it is revenue in DID, but usage remember takes time to ramp up.

So the usage component of that will, if you will, bleed in through the latter half of Q1 and into Q2, as people begin to use the service.

Right.

Right.

And the second deal, which is 7,000 or more DIDs, only a few hundred of which are included in terms of the DID account -- and the revenue would only be the fixed portion in our Q1 numbers with the vast majority rolling forward into Q2.

So I think, assuming nothing changes in the core business, we should see a nice pick up from the number of net DIDs we saw in Q1 in Q2.

I think you've got a range that yes, you could see some upward bias from the 44,000 that we've got just reported.

That's great.

And then you talked a fair amount about your CapEx, but you didn't quantify what was your CapEx in Q1?

What kind of number should we use for the year?

It was a bit higher than -- as you know, our CapEx is never evenly distributed over the 4 quarters.

So our CapEx was about 2.5 million in Q1.

That is predominantly equipment-related in terms of rolling out a new POPS.

I think there were three new POPS this quarter, as well as typically enhancing the amount of capacity of what we call our send system.

So these are for our customers ranging from small to large enterprise, who are using the desktop faxing portion in terms of sending a document from their desktop to a distant fax machine.

So that 2.5 million investment went in this quarter.

I think that it is still safe to assume though that over the course of the year, depreciation, amortization and CapEx will be roughly equal, which is closer to about 7, 7.5 million for the year.

And as I say, we don't spend proportionally, so the fact that we spent arguably a third of the CapEx in Q1 is actually relatively typical, but 1 quarter would be disproportionate.

Okay, so that has not changed from prior guidance?

No.

Lastly, when you go and pay for these corporate deals and for those that do not close -- who do you lose them to?

Typically, we lose them to in-house solution.

They decide they don't want to outsource and they instead either continue an existing fax server implementation, or they go out and purchase a fax server implementation.

So you're not seeing any new entrants coming into the space?

None that I am aware.

Ari Moses, Kaufman Brothers.

A couple things.

First I just want to echo the comment, the metrics page is pretty illegible, the printing of the picture.

If there's any way to maybe post it on the site would be helpful.

It is actually already filed as an 8-K, so you can actually pull it down.

And I think we will take that comment too and also post on the website.

So people will have an additional means of access.

I wanted to ask -- back to the -- looking at the numbers, I know you're talking about how you changed the -- you shift around line items this quarter.

Obviously, you are shifting some depreciation costs into the cost of goods sold.

But looking on the aggregate, the operating margin, which is at a -- if I've got it correctly at 41.5%.

It looks like it was slightly down.

I know you commented that part of that was a result of higher depreciation costs due to the higher CapEx spend.

Is that -- were there other items in there?

Because looking at any one line item, it is tough to tell given that you've kind of shifted them all around.

But looking at that margin, what else is in there pushed it down, and is that closer -- that run rate obviously is lower than last year's run rate.

Is that going to be more indicative of the year?

Or is it as the CapEx falls, it is going come more in line future quarters?

How would that play out?

Well, we state in our guidance a quarter ago for the year that we expected our operating margin to probably be a couple points lower than the operating margin experienced in 2004, which is a little over 43%.

So, this is we think a comfortable range for us.

Now specifically as it relates to the quarter, almost all of the decline in margin, basically 2 percentage points comes from an increase in depreciation amortization.

Those are two separate buckets.

There is a depreciation expense, which relates to basically infrastructure, hardware, hard assets.

And then there is an amortization expense, which comes from particularly intellectual property that we buy.

So as we buy patents, as we did last year and as we did again in the first quarter this year, there is an amortization of that purchase price over the remaining useful life of the patent.

So that increases our amortization expense.

And (technical difficulty) it'll see it there was a swing in depreciation and amortization of about $600,000 from Q4 to Q1, which translates into about 2 percentage points of margin.

So that would take you back up to 43.5%, which would be right in line with where we were for the year.

On most of the other alions (ph) or aspects of the Company behaved in line.

As I mentioned, sales and marketing which does move around, was around 17%.

R&D and engineering was up about 0.05 point from Q4.

But as we stated previously, we expected it would go up, as there was a concerted effort to increase particularly the staff associated with the R&D and engineering group.

And then of course you have little mitts (ph) that go one way or the other.

But in general, I would say that everything was pretty much as expected.

And the other one I'm sure is on this metrics page.

What was the ARPU in the quarter?

The ARPU was $16.85.

And just as a benchmark, it was $16.87 for a paid customer at Q4.

Okay.

And how about the fixed versus variable mix?

It once again stayed in line with the historical trends.

It was I think up slightly to 72% fixed and 28% variable.

But as we have stated before, it has hovered fairly consistently around 70/30, and you can see a 1 or 2 point swing above that or around that mean for a whole variety of reasons.

And is it safe to assume that as corporate becomes a bigger contributor that that you are almost strategically shifting that number where the usage will become more meaningful?

Not more meaningful, upgrade a portion of the --?

Well, the mix change?

The answer is that could happen.

However, we do have, right now I would say no, it is not impacting the relative mix of fixed and variable because it is too small a piece of the overall revenue stream of the Company.

However, going forward, taking what Scott Jarus said, yes, if the corporate in its entirety, not just a large enterprise but the whole non-individual piece of our business became an increasingly larger share -- given that that ARPU tends to be more variable, you could see a shift in the fixed variable mix.

However, we have done things and experimented with our contracts where we have played around internally with how we might actually bring the greater portion of that total ARPU back into the fixed realm.

So there are things we have looked at vis-à-vis our contracts, such that on average, you would still have a roughly 70/30 mix fixed to variable.

Do you want to have that mix?

You like the 70/30 mix?

We like it only because it has been what it has been, and it has been very fairly consistent for a number of quarters.

So I think probably everybody's gotten used to it, both internally as well as externally.

Though I should add here -- and it is actually dovetails on a question that we have been e-mailed, so I might as well hit them both at the same time.

And that was, there was a question about a change to our pricing for eFax Plus customers, those are our individuals.

And the question really had to do with -- how did this change?

And how is it going to affect your ARPU?

And the change that I think the question deals with is that we had as we introduced a couple of quarters ago, a new service called eFax Pro, which is intended for those individuals who are heavy users of our individual service through their credit cards.

So where we will build them a higher fixed portion of the ARPU, and they get more pages included, because they are anticipating a higher level of usage.

Now, the counter to that is those customers who don't choose the eFax Pro service on the individual side are being charged for incremental pages over and above 130 pages.

And so that will positively buy us the usage component of it.

We are obviously hoping that more customers, who are heavy users, will choose our eFax Pro service and therefore pay a higher fixed than usage.

Rod Ratliff, Stanford Group.

I was slow at the draw pressing the button here, so everything has pretty much been answered.

But with regard to the Asian markets, you may have touched on this and I just missed it -- but are you satisfied with the traction that you're getting so far?

I realize it's very early in the game, but are we beginning to see any revenue pick up over there at all?

The Asian markets are a bit of a unique animal because those are not localized markets for us.

Localized meaning we are not selling the service in local language, local currency and local marketing programs.

It is really pretty much expanding into those markets the way we had historically in the past of the Company.

So they're English markets.

You can pay in a multiple of currencies around the world, but again it's not marketed in anything but in English and serviced in English.

So the growth of those Asian markets pretty much trends with the historical growth of English-only services in foreign markets.

So I would tell you that we are getting the pick-up from those markets, as we expect for a non-localized market.

But they are not growing at the level at which our localized markets are growing.

And we didn't expect them to until we do localize them.

Joe Noel, Pacific Growth.

A couple of quick questions.

You broke the trend on G&A.

The past couple of years, you had Q1 above Q4.

And this year, Q1 is down considerably on G&A.

Can you talk a little bit about the trend there?

Is that a trend going forward or just that is just the way things fell in the quarter?

I think it's probably more the way things fell in the quarter.

But say, I actually expected -- I was hoping G&A would be a little bit lower but we had some amortization expense flow through on some patents that actually had a bit higher than I would have liked, let's put it that way.

But I think that as we have said historically, G&A as a percent of revenues, is on a general downward trend.

A number of the components that comprise G&A are, if you will, fixed or quasi-fixed.

So as revenues grow, we wouldn't expect G&A to grow at the same rate.

And the share count was down?

Why was that down with the stock price seemed to be generally up in the quarter.

It has to do with the way the treasury stock method is utilized.

Our shares outstanding have not changed, nor has the number of warrants or options that go into, if you will, the gross amount of shares outstanding.

However, in reviewing the methodology of the treasury stock method, there is a tax benefit on a pro forma basis that you get to take in on non-qualified stock options.

They don't have anything to do with ISOs.

And that we had not included in historical periods.

And so, it had a benefit of about 400,000.

It can range 300, 400,000 shares to the positive in terms of that theoretical buyback you do in the treasury stock method.

We did not buy stock in if that was the implication.

I want to look at the gross margin issue one more time, actually two issues.

One is, that you changed the methodology for some of the depreciation and amortization out of SG&A and into the cost of goods sold line.

That is correct.

But then you also said that there is another delta in that in Q1, you had some additional depreciation that brought the gross margin down if you compared it apples-to-apples between Q1 to Q4.

Is there any way to quantify that?

First of all, on slide 19, I'm sure we're going to say they cannot read this either, but we would encourage you to print it out.

There is actually a reconciliation for the 4 quarters of 2004 between the previously stated gross margin and our current gross margin.

So first of all, the shift was a combination of two elements.

There was certain depreciation and amortization that moved from G&A to cost of goods sold.

But actually the larger portion that moved up had to do with the vast majority of our network operations expense.

Network operations expense, as it implies, it is the people who are managing the network 24x7.

And overtime, the shift of their management of the network and the relative benefit has shifted from primarily an internal j2 benefit to now primarily external for the benefit of our customers.

As a result of that, substantially all of the costs that we absorb for our network operations is now charged to cost goods sold and removed from depreciation amortization.

So that explains just the shift in terms of where the cost fell in our income statements in Q1 of '05 versus any of the historical periods.

Now separate from that, we had depreciation expense probably in the order of magnitude of about 250, maybe $300,000 incremental in Q1 related, as I mentioned earlier, to the increased level off of the CapEx spend.

Right.

Now would that be somewhat of a one-time event for Q1?

Or is that repeat for Q2?

Well, no.

In terms of a level of depreciation amortization of 1.7 million, now this is both in COGS and in D&A, I think that is now a stabilized run rate for us.

Obviously, if we buy more equipment, it goes up a little bit.

Equipment becomes fully depreciated, it goes down.

And certainly, if we do any M&A activity that can influence the D&A going forward.

But right now, with no additional M&A on the table, I would tell you that is a stabilized run rate.

Why don't we jump in here with another email question.

We were asked, in general, what would net paid DID growth be if the pre to pay channel were to no longer be pursued?

I think that is referring again to the -- if the USF issue were resolved with a negative impact on us, such as the $1.00 tax, the regressive tax, on all telephone numbers in the U.S. and what would be the impact on our net DID growth.

We obviously don't have an answer on a quantitative basis of what it would be.

But what we can say is that it affords us an opportunity as well as it makes a change in the way we do our marketing.

First of all, you need to understand that the free-to-paid driver is only one of five, and it is not the biggest or even the number two way we get paid customers.

So it would certainly have an impact but a much less impact than if it were the number one or two driver for our pay growth.

Second of all, it provides us an opportunity perhaps to, if you will, monetize the freebase in a very positive way.

If you think about it, we currently do not collect any money or have any significant profile information other than a little bit demographics from our free customers in the United States.

If we were forced to pass along a tax to the end user of our free services, it would give us the ability to collect credit card information, personal information, that is a major obstacle, frankly in getting people over the hump of buying in the service.

Now granted, many of those people would simply opt in to give us the credit card or check or whatever and pay the pass-through of the tax and no more, and that would be fine with us because then they would remain a "free" user, though their service would now be taxed.

But there are many, many other customers who would now get over that hump of giving out credit card information who we believe would ultimately upgrade to a paid service offering.

So that's a pretty big opportunity for us.

In addition, if we took a draconian approach, there is even the ability to simply eliminate our free service offering entirely and go to a more tiered approach to our paid to where instead of just having a $12.95 price point for our eFax plus customers with 130 pages included, we might go to something we actually used to have many years ago -- which is a eFax Light, if you will, product, where we will charge something less than the $12.95 with less pages included.

And again it gives us an opportunity to monetize that freebase customers to our benefit.

Clearly though, our preference is not to play with that, the funding method of USF in the form of a regressive tax -- and for us to be able to maintain our free base of customers.

We think it is good for the consumer.

It is good for us.

It's good for the -- frankly, for the use of telephone numbers and faxing in general.

And we would much prefer that we not have to get into that position.

But if we do, we think we have ways of taking advantage of that opportunity.

Again, as I stated during my brief discussion on USF, regardless of what happens, it is a long way off before this issue comes to resolution.

Next call?

Steven Freitas, Harris Nesbitt.

I was wondering if you can give us a sense as to what the average life is for free user.

So how long is it before they either convert to becoming a paid user or disconnect the service?

Well, generally speaking, the sweet spot for our conversion from a free-to-paid begins in month 4 of their life as a free.

And we give it about a year of intense marketing to that customer.

So month 4 to month 16 of their life as a free is the sweet spot for conversion.

Having said that though, we don't throw them out at the end of month 16 if they do not convert, provided they maintain compliance with all of their terms of service.

So as a result, we do have customers that have been free in some cases for years.

And then in other cases, we have a shorter average life because a free customer becomes non-compliant for a variety of reasons, and we throw them out.

If you think of examples and also throw in how many people sign up for the free service and then disconnect by their own choice, is there (multiple speakers) some average number that you can throw out there?

I'm sorry.

The disconnect by their own choice is very small.

Most of the cancel in the free base is self-imposed by j2.

Very little comes from the customer itself.

Okay.

And if you'll indulge me, a couple of questions on the enterprise business, the large enterprise business.

I was hoping you'd give us a sense as to what the margins are and how they compare to what the consolidated gross margins are for the firm.

And then I guess secondly, once you get one of these large enterprise to adopt your solution, does the actual number of fax numbers that they use go up compared to what they had before they adopted your solution?

Okay.

As to the first question, I think it's important note here, Scott pointed out in this slide that we had in the presentation -- these larger contracts are usually for multiple years, 2 or 3 years.

And that is important to understand because it is true that given the long gestation time, 9, 10, 11 months to get one of these customers -- and given the fact that it is done through a commission sales force who gets the benefit of that revenue stream in their commission for about a year, we will experience in the first year of the life of that customer, a slightly lower operating margin than say for the Company as a whole.

But that will reverse itself out in years 2 and 3, as those commissions diminish.

And as a result, the cost of acquisition changes in year 2 or 3 for that customer.

So I look at the sort of lifetime value of the customer or the margin on the customer over the life of the contract and believe that we're talking about something that is consistent with the Company's current operate margins.

As your second question, I would say, generally, the larger enterprise customers are already coming from a server-based solution where it is usual that most of their users already have a unique bid.

So there's a one-for-one exchange.

However, in both of the two larger deals that we have referenced, we have seen not only those bids come over to us but actually an increase intake of bids for additional employees.

So we've actually supplemented the base number of bids that they were currently using.

But they were using more than one number -- that that's answer your question.

Right, that's it.

And then you have answered it in the latter part, in terms of them actually deploying more numbers when they deploy your solutions (multiple speakers)

But actually deploying more.

But they're starting off of a substantial base.

So they might have 1,500 deploy bids and then through our service.

Take those same 1,500 but then add another 1,000 or 1,500 to get up to 2,500 or 3,000.

Sure.

So better that than the other way.

Yes, right.

Rick Perry (ph), Langer & Company.

Congratulations.

I have a similar question on the enterprise sales.

Could you tell us how the ARPU for the enterprise sales relates to the overall ARPU?

Yes, we still contractually sell the large enterprise customer on a revenue per bid per month.

And then there are the applicable usage charges beyond that.

But however, what I would tell you -- and obviously we get volume discounts so the fixed revenue per bid is lower.

It could be anywhere from $4 to $6, $7 a month in fixed revenue.

And then depending on their usage, there can be overages.

However, I would tell you that in looking at -- we've only got about 13 of them, but looking at the way those contracts really work, what is effectively happening is not so much a revenue per bid as it is a revenue per minute or revenue per page.

There's really a transfer of traffic.

One of those 13 customers is somewhat unique in that they actually take all their traffic over a single phone number.

And to some extent, it is irrelevant to us where they choose to push that traffic over one number, a small set of phone numbers, or thousands of numbers.

Obviously, the revenue per DID will change depending upon how many DIDs you are distributing that revenue stream and that payment stream over.

So we have been looking at that.

And we have made that comment in various forums that it may be the case -- it is not the case today, but it may be the case that overtime, if the large enterprise segment becomes a substantial portion of j2's overall business, that we will have separate metrics to analyze it.

Right now, today, with the 13 contracts and the revenue it generates, it's not materially impacting the 16.85 or $17.00 monthly ARPU that we experience per DID per month.

Okay?

Gentlemen, there are no further questions at this time.

Well, we don't have any additional email questions either.

So I thank everyone for your participation.

And we will talk with you again in mid-July when we come out with our Q2 2005 earnings.

Thank you very much.

Ladies and gentlemen, this concludes today's teleconference.

Thank you for your time and participation.

You may disconnect your lines at this time.