Ziff Davis Inc (ZD) 2005 Q4 法說會逐字稿

Greetings, ladies and gentlemen, and welcome to the j2 Global Communications fourth-quarter earnings conference call.

It is my pleasure to introduce your host, Mr. Scott Turicchi, President of j2 Global Communications.

Thank you.

Mr. Turicchi, you may begin.

Thank you very much.

Good afternoon, and welcome to the j2 Global investor conference call for the fourth quarter 2005 and the fiscal year end.

As the operator mentioned, I'm Scott Turicchi, Co-President and Chief Financial Officer.

With me today is Hemi Zucker, Co-President and Chief Operating Officer, and Gregg Kalvin, Chief Accounting Officer.

We will be on this call discussing our Q4 financial results, guidance for Q1 2006 as well as for the full fiscal year 2006.

In addition, we will provide additional information about our international efforts in corporate sales activity.

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

A copy of this presentation is available at our Website.

If you have not received a copy of the press release, you may access it through our corporate Website at j2global.com/press.

In addition, you'll be able to access the Webcast from this site.

After completing the formal presentation, we will be conducting a Q&A session.

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

In addition, you may email questions 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 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 have included as part of the slideshow for the Webcast.

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

I will now turn to the results for the quarter.

This was another strong quarter for j2 Global.

Our revenues were 39.1 million, up 31% from the previous year Q4.

The revenue was at the low end of our range due to seasonally lighter usage base revenue.

As we've discussed previously, Q4 is the most difficult quarter to predict effective business days due to legal and personal holidays.

However, it was a very strong quarter in net paid DID signups and fixed DID revenue growth, which we believe is a good bellwether as we look into '06.

Our gross profit margin for the quarter was 78.9% compared to 78.5% in the prior quarter.

As we expected, the margin was improved this quarter as we absorbed some of the costs that we had in Q3 to expand our network both geographically as well as in terms of its capacity.

We believe that the margin will continue to trend up during 2006.

At some point this year, we will once again be at 80%.

Operating earnings were 16.4 million, representing an operating margin of 42%.

Net earnings were 13.1 million or $0.51 per share.

For the year as a whole, our revenues were $144 million, up 35% over revenues for 2004.

Gross margin for the year was 79.3%.

Operating income was 61 million or 42.7% of revenues.

In both for the quarter and for the fiscal year, free cash flow was very strong, setting a record in the quarter at 16.8 million and for the fiscal year 55.5 million, bringing our total funds available for our business to 144.5 million.

At this time, we would like to go to the investor presentation and talk through some of the highlights that have occurred during the last quarter.

I will not take you slide by slide as many of the slides are familiar to you from previous presentations.

What I would like to highlight though is on slide 5, some of the updated metric numbers.

As of the end of the year, we have 11.2 million subscribed telephone numbers, 14.6 million in our total inventory.

We've increased the number of patents that are part of our portfolio to 25.

It's our 35th consecutive quarter of revenue growth and 16th consecutive quarter of positive and growing operating earnings.

As I mentioned earlier, we have approximately $145 million of funds that are available to grow the business.

I would now like to skip ahead to slide 7, which are paid subscription drivers.

The fixed driver is ranging from direct to Website, free-to-paid upgrade, small-to-medium-sized business sales, direct enterprise and government sales, direct marketing spend for paid subs.

And international marketing spend have not changed in terms of the primary drivers of our business.

However, I want to highlight that as we have stated previously, up to 50% of the monthly gross paid signups come directly to our Website, meaning that they did not come through the free-to-paid program.

There seems to have been some lack of clarity or understanding on that issue in the past.

So, you'll note that on slide 7.

At this time, I want to turn the presentation over to Hemi Zucker, our Chief Operating Officer, who will give you an update and more detailed information about what we've been doing on the international front and on the corporate front.

Good afternoon, everybody.

If you remember last quarter, we have highlighted our effectiveness on cost of acquisition of customers and we also discussed the steady usage of our fax users.

This quarter, we have selected to show share with you our international success.

Up to 2 years ago, most of the international success of j2 was what we called network efforts only, which means we'd [install] serving the country; we were adding to the pull-down menu in our dotcom Website.

For example, we had a site impaired; our customer will have to come to our dotcom Website, read about it in English, pay in US dollars.

And the success was very limited.

At the end of 2004 and most of 2005, we make dramatic changes and we decided to take international in a more serious way.

And the pay DID clause that during the last year -- our international pay base grew over 82% year over year -- 82% growth in the international.

Let's go now to slide number 19 (sic).

On slide number 9, you can see what we have done on the international front.

By the end of 2003, we have only two employees focused on international.

At the end of 2005; we have 26.

We had one office in Hong Kong in 2003.

Now we have offices also in Netherlands, in the UK and in Ireland.

Most of our people are in Ireland.

We are supporting five languages out of Ireland with customer support, telesales.

They are all working out of our Dublin office as I said to increase the languages to five supported languages and seven currencies.

Our area code internationally grew from 60 at the end of 2003 to 340.

Let's move to slide number 10.

At the end of 2003, we had only 29,000 paying customers.

At the end of 2005, we have 71,000 paying customers.

Our free customers grew during this period to 161,000 to almost 1 million.

And as I said, instead of supporting English and US currency only, we now support full Website, meaning we have localized our Website in languages, we have customer support, local telephone number, telesales, in British English, Dutch, French, German, and Spanish.

We also have added a new payment method in order to do business in for example the UK.

You have to support a debit card like Switch, Solo, other payment method like direct debit and box.

We're now proud to announce that we have 340 area codes and 26 employees mostly in Europe.

To give you some example about our success and effort, let's go to slide number 11.

Slide number 11 is covering our United Kingdom effort.

Our largest success outside the US is in the UK.

We offer in the UK all our services, which are including fax, voice, unified messaging.

And we support it from various Websites as you can see in the slide.

Out of the UK, we also manage our networks, and our administration factions are managed out of the UK for the entire Europe.

Today, I'm glad to announce we have hired our first UK Senior Corporate Manager to cover the UK and Europe starting today.

Let's go to the next slide, number 12.

We elected to show you the Netherlands.

In the Netherlands, we have our largest free base with strong calling party revenue.

This is our largest free base outside of the US.

We have over 35 active partnerships with ISPs, and we've partners like Dell that are covering us I think in six to eight countries in Europe.

We also chose to show example of partnership with Chello and [Edhome].

Our Netherlands office is basically focusing on the marketing and sales and the Web efforts in Europe.

Let's go to the next slide.

We elected here to show you strength in Spain.

Both those countries are examples for our recent success by adding area codes that are covering significant part of the countries and with some localized effort, marketing.

We achieved significant growth in the last few months.

We are already very happy with that.

Let's move to page 14.

In 2005, we have grown our paid DID to 71,000; that's an 82% over 2004.

If you can see, our international DID are approximately 10% of our total DID.

Very similar 10% is achieved also on the free DID.

Now, why do we think that opportunity is so big?

In no way do we think that the international market is only 10% of the US market.

There's a lot of place to grow here, and we're very optimistic about it.

They're going to accelerate it in the following year.

In 2006, we're going to continue to penetrate into the Western European countries.

We penetrate via network, via marketing, via localization.

We will add currency, we will add staff and we will add everything that is needed.

We have very high confidence in the success of our European team.

We will also and we already started negotiating on getting phone numbers and network infrastructure and everything that's needed in our Eastern European countries.

And we will start with network localization and get into that.

I just came back 2 weeks ago from Asia.

We just hired at the beginning of the year a manager here to focus in Asia.

I took a trip to Japan; visited six, seven potential partners; talked about all the possibilities there.

And we're taking a serious effort to break into the Japanese market.

I'm hoping that in the next few quarters also, we will explore the opportunities both in Australia and China.

Let's move to the corporate update.

Please go to page 16 on our presentation.

Our enterprise sales, we have now 18 enterprise accounts with more than 1,000 DIDs.

I'm also happy to tell you that in the last week, we added another 1,000 plus DID accounts; this one is in Europe.

We're now having a growing pipeline of 1,000 plus DID opportunities in the corporate, and we have refocused our corporate sales force in confidence with our sales team.

We have added people both in the large enterprise and the mid-market inside sales, and I believe that through the recruiting effort with everything that is going on, we will have close to 25 direct sales people by the end of Q1.

I will now transfer the call to Scott.

Thank you, Hemi.

We'll go to slide 19, which represents pictorially over the last several quarters of the cost trends for the Company at both the gross and the operating level.

As I mentioned previously, the gross margin as we anticipated is trending back to the 80% level, achieving approximately 79% in the quarter just ended.

Our sales and marketing expense continue to be in the band of 15 to 17% of quarterly revenues, almost in the midpoint this quarter at 15.9.

G&A was 16.8%, which is somewhat higher than historical periods for really two reasons.

One, the fourth quarter, it tends to be higher because of Sarbanes-Oxley expenses, which are expensed as incurred.

So the majority of those expenses are in Q4 and in Q1.

Also, we have about $200,000 incremental costs in Q4 due to compensation expense related to restricted stock grants that were awarded to our Vice President in August of this past year.

That of course will roll forward into 123R expense, beginning January of '06.

Our engineering was a little over 4% of revenues in its 4 to 5% band.

All of that rolled up to a 42% operating margin for the quarter and slightly under 43% for the year.

I will now turn your attention to slide 20, which is our financial guidance.

Our financial guidance, let me comment on philosophically.

If you take a look last year, we had a variety of forms of financial guidance for revenue and EPS.

Sometimes, they were ranges; sometimes, they were spot estimates.

We've instituted a policy, which I will articulate for you, the [forette].

But first of all, there will always be ranges for guidance both revenue and EPS.

In the case of annual guidance, the range for revenues and EPS will be approximately 5% from the top to the bottom end and the case of any given quarter approximately 2% between the top and the bottom end.

As a result, our guidance for fiscal year 2006 as a whole is 1.81 to 1.91 of revenues and on an EPS basis, 2.34 to 2.46.

That EPS assumes a 27% tax rate, 25.8 million shares outstanding and is before any stock comp expense associated with 123R.

As you will note in our press release today, we believe that will be on an annual basis somewhere between $0.10 and $0.18 per share for the year.

On the quarter, we're looking for 41.3 to 42.1 million of revenues, $0.53 to $0.55 in earnings once again before the stock comp expense, which would be one-fourth of the annual expense or somewhere between $0.03 and $0.05 for the quarter, probably between $0.03 and $0.04.

Slide 21 is our goal for 2006.

Just to give you a sense of some of the major initiatives that we are working on as we speak for 2006 and which are part of the objective program for the management team, which includes our directors, our vice presidents, and other members of management.

First of all, our core goal continues to be to penetrate the North American marketplace with our DID-based offerings.

Those would be the IP fax offerings, branded eFax and UniFax, the unified messaging brand of jConnect and Onebox and then the emerging voice services brand of eVoice.

As Hemi just mentioned, we've had very strong success over the last 3 years in laying the foundation and beginning to spend marketing dollars in Western Europe and throughout the non-North American marketplace.

Our goal is to continue that trend of greater revenue growth in our international base than even the Company as a whole.

As Hemi also mentioned, we're laying the foundation to begin direct marketing into Asia at some point in the future.

This will be a process that will require not only some additional network expansion in a couple of the areas that we are not currently present in but also various localization efforts so we have Websites and customer service in the various Asian languages.

We are also going to be at some point this year launching a service called Bring Your Own Number.

So, this will allow a customer to bring an existing telephone number and enable it to our eFax service.

That will be initially launched in the US.

The eVoice product continues to undergo product evolution.

As we've spoken previously, the core enhancement is bringing the find me/follow me functionality from Onebox and including it into the eVoice product and creating another grade of service there.

We also intend to enhance the Onebox service.

Onebox is an asset that we acquired in September of 2004 under the name Call Sciences.

It's been under an incubation period for the last 16, 17 months.

It has done quite well.

It has more than doubled its revenue in that time.

It is an area where we think j2 can add a substantial benefit.

If you go to onebox.com, you'll notice its Website is not consistent with the rest of j2's core marketing and selling Website.

So there will be a Website enhancement.

Also, if you happen to explore the Onebox service, it is very feature robust but that also makes it somewhat difficult to immediately use.

There is a set-up period required.

So it will also be undergoing some service or product enhancement.

And then eventually when those are done, we will put marketing dollars behind it, leveraging the j2 Global engine for doing that.

So a couple -- 3 months ago, we hired the former CEO of Data On Call, whose company we acquired in June of last year as our VP of Product.

He has been working with the product and the marketing team to refine the product roadmap, not only to encompass additional features for our core services but also additional services that would be of interest to our customer base, particularly at the SMB level.

So we will be reviewing that over the course of this year.

We have definitely a desire to maintain our M&A efforts and continue them.

We think there's opportunities in the email, the IP fax, and unified messaging spaces.

We've done deals representative of each of those over the last 3 years.

And we expect that there is still a healthy pipeline to continue to do more.

Monetized intellectual property is very important.

As you know, we have developed it internally; we have acquired some through acquisition.

We have various patent licensing programs in place.

We also have pending litigation against those who have not taken a license at this point.

We think there is still a big opportunity to further monetize that intellectual property.

So, we're putting programs together that would enable us to further see either cash dollars or running royalty revenue streams off that intellectual property.

Then finally from a technical standpoint, we've been going through an upgrade and overhaul of our billing systems.

We expect that to be completed later this year as well as bringing online additional systems and modules that work with the billing engine, which will give us more flexibility in how we communicate and how we bill our customers.

So, it's a healthy list of activities to keep everybody here at j2 busy over the next year.

We're very excited about it.

We think that the strong DID growth that we had in Q4 of 50,000 net DIDs is a good launching point going into Q1.

We expect the seasonality to begin to reverse itself in Q1 as we have more business days.

So, we're very enthusiastic about the opportunity.

At this point, we will turn it over to questions.

I would encourage you to look at slide 23, which is our metrics slide.

It's updated for the fourth quarter as well as for the year as a whole.

Thank you.

(Operator Instructions).

Daniel Ives, Friedman, Billings, Ramsey.

First question, in regards to -- I know you guys are expecting some patent infringement royalties in the quarter.

I think you had about 200k in the prior quarter.

What was that amount for Q4?

Actually, it was a little higher in Q3.

It was I want to say order of magnitude, maybe 4 to 500.

And it was a little bit in excess of adding Q4 around 600.

I think we are on a run rate, where we'll probably be at that level.

As you know, that can be lumpy given how those deals settle in the form in which they take.

But we have no shortage of negotiations that are currently pending that -- some of which will close in Q1.

But I'm optimistic even though they don't close in Q1, have a chance of closing throughout the rest of the year.

Second question on the enterprise, good performance this quarter.

Do you feel like that business has really started to turn?

It seems like it's starting to -- you're starting to get some good traction there.

Can you maybe talk to that in regards to--?

We see more deals; you know, we have announced our largest deal is 10,000.

We have now several deals on the 20 to 30,000 side.

Some of them are coming just converting from other systems that they have.

Some of them as you know, those are conservative customers that it takes them longer.

But, we are seeing and we also forecasted for this year increase of the growth rate of our corporate sale.

Then a final question.

You guys came up a little light; you know, it's still hitting guidance.

But yet, you still reiterated your '06 guidance, which was pretty bullish in 3Q.

You could have easily taken this as an opportunity to take down the bar for '06.

So, can you maybe just talk about why you just have such confidence in the business in order to reiterate the pretty aggressive guidance for '06?

I think we're both going to answer this question.

I'll go first.

This is Scott.

I look at Q4 and if you look -- if you dive into the detail, it was our second-best quarter in 2005 in terms of the weight of fixed revenue that we added to the business.

It was number two by a hair in the number of DIDs we added to the business.

I think that's a very strong bellwether going into 2006.

As we've noted before, that Q4 can be difficult to handicap.

People's behaviors change from year-to-year depending upon how good or how bad their business has been for the year.

You'll notice if you go back into our variable revenue 3 years ago in '03, Q3 to Q4 was down 2%.

Then, in '04, it was up 5% in variable revenues.

This year, it was down 3%.

So, it moves around.

I think what it tells us is to be cautious and to put a wide range on the revenues in Q4, it is more difficult to predict.

But, contrary to Q4 is Q2, where you generally get a pickup beyond the number of business days in your usage revenue.

But, the tone of the business I think is very good.

So, as we went through our budget process as we closed it out, we were very comfortable that this range of revenues is achievable.

In fact as is always our goal, we want to do even better than that.

In fact, management's objectives here are set at a higher level than the range of this guidance that we present day.

So, we feel good about the business.

We feel good about the opportunities.

We don't look at the lightness in the Q4 revenue as in any way indicative of the tone of the business.

Literally, if you do the math, you will see that if we had been at even a 2% growth rate in variable revenue, we would've added 700,000 more revenues a quarter.

But, it just didn't play out that way.

Can I just sneak one more question in, and then I will hand it off.

On the enterprise business when you look at the '06 guidance, would you characterize the percent contribution that you are baking in from the enterprise as pretty minimal?

If you mean the major enterprise, it's growing.

But, because the other channels are growing, it's still a modest percentage of our overall business.

I mean it would be smaller say than international.

Now, understand what I'm saying.

When we talk about enterprise, I'm talking about only the very largest corporate accounts.

Our corporate channel really is involved in selling three types of customers.

The SMB, we actually have launched a mid-market sales force and then we've got the enterprise sales force.

So, if you just take the enterprise piece, yes, it continues to be a small but growing piece of the overall pie.

Youssef Squali, Jefferies & Company.

A couple questions.

First, it seems to me that you guys were attacked at a higher rate this time around.

So, by just that 1 incremental percentage increase, that probably cost you guys about 0.5 percentage, maybe $0.01.

And so, just need some confirmation of that.

Second, just going back to the usage issue, can you clarify a little bit more -- can you quantify that for us, either kind of percentage decline in sequential usage and/or where did that hit most?

Was it industry specific, for instance, the mortgage refi business got hit a little harder legal on the enterprise side?

Was it on the Website?

Then, I have a follow-up.

In terms of the first point, yes.

A 1 percentage point variation in our tax rate will impact positively or negatively about three-quarters of $0.01 on EPS.

And it was pretty close to our 27 expected, but Q4 is a true-up quarter.

Sometimes, it works in your benefit; sometimes it works against you.

It was modestly against us in the quarter that just ended.

In terms of your second question --

The usage -- I will take this one.

Our usage was low across the board.

You know, we have hard time forecasting.

I'm here sitting in my 10th year.

Every time you have to focus usage day and the behavior of the market during the holidays, it is very hard to predict.

This year, the usage was down.

The good news are -- in January, we already have the usage results for January.

They are up to record highs, and we've broke already several record of usage during January.

And I want to remind you, January is not the longest month.

August had more business than January and March, so, we're very encouraged.

We cannot focus the usage over the holidays.

There's a lot of dynamics there.

On the other hand, the things that are within our power which is our customer growth, we have done better than we thought in Q4.

And that's why, you know, to answer the previous question, usage is down a little bit out of our control.

Assignments are up and therefore we are coming with bullish guidelines to 2006.

Let me answer maybe numerically.

Usage revenue was down about $350,000 quarter to quarter, so Q3 to Q4 sequentially.

Say last year, it was actually up Q3 to Q4 -- I mean in 2004.

Real estate continues to be -- it's probably the -- you said legal, but real estate is probably what's on people's mind -- continues to be a shrinking piece of our overall base of revenue.

It is a piece of the corporate revenue.

I want to say that its impact in Q4 was probably to the tune of $100,000.

I mean, it's less than 10% of our revenue in our traffic.

As we stated before, it does show some moderation based upon interest rates and housing activity.

But, it's not really a driver today of our business.

When Tom Dolan came in 2004, you know he had a series of objectives as he looked at the business.

One of them was to attack these other industry segments, not to (indiscernible).

It's a very good segment in terms of the profile of the customer.

But to attack these other segments -- like legal, like medical -- and to as a result diversify the traffic flow.

And I think that the team has done a very good job of doing that.

There is a piece of the real estate business we cannot quantify that is in our individual channel because those people might be behind an ISP email address or a Yahoo!.

But, I don't think it's a huge driver.

Just finally on the DID issue, you did report pretty impressive DID growth.

How sustainable is that going forward?

So, one would imagine that in Q1 with more business days, that should really kind of be a base now.

Well, you are right.

We are adding on a business day a positive number of net DIDs.

Obviously, we have growth less canceled.

So, generally, if you go into a quarter that has more business days than the preceding quarter, it works to your benefit.

I can tell you Q1 has more than Q4, and Q2 has yet more than Q1.

So, I think that bodes well.

Also, if you look at our guidance or if you kind of reversed engineer our guidance -- I'm sure you will -- you'll see that we are expecting on average more net DIDs per quarter in '06 than we achieved in '05.

So, we look at this 49,000 -- call it 50,000 level as our launching.

And the goal would be -- and it won't always be perfect and linear -- but to take that up from the 50,000 net DID productivity over the course of '06.

As a result, that means we will add in excess of 200,000 net paying DIDs for the Company hopefully as we are sitting here the same time next year.

Let me add, you know, it is not only business days that impact our growth on net DIDs; it's also Web traffic.

We are already seeing that the Website traffic that we're seeing through the beginning of the year is coming to new high levels, which is really not only how many business days -- also what are people doing during those days.

As I said, we see the traffic is really increasing.

Therefore, we believe in our ability to grow the net DID.

William Benton, William Blair & Company.

Just I guess a maybe more philosophical question.

Do you think with the international and the enterprise kind of starting to become obviously more significant, has the business at all in your view become more difficult to predict?

No.

I don't think because of that.

I think that international, the answer is definitely no because it works very much like our US business in that there is a certain amount of direct traffic we get.

There's a certain amount of marketing spend.

It's reasonably predictable, and it is predominantly focused on the individual SMB customer whose behavior and profile is very similar.

Now in the corporate space, I think as to variable revenue, yes.

Because as we've talked about before, the SME -- the mid-market account and the larger enterprise tend to be more variable driven in their pricing.

So, you have in the large enterprise, you have the lumpiness that deals hit sometimes together in a quarter.

Sometimes, you'll have less productivity in one quarter and more in the next.

And then, the nature of their contracts is generally one that is more variable, which means things like business days which I think is generally a positive for Q1 and Q2 but a negative for Q4 come into play.

So as we evolve our business model, as it takes us into new jurisdictions and new areas, absolutely the sophistication level increases and needs to increase in terms of the predictability.

But I don't think it is creating at this moment in time major variations.

Then, did you have any shifts or mentionable in terms of your marketing/advertising relationships in the quarter?

I will let Hemi comment.

Let me first of all answer or add to Scott.

You asked about the variable and ability to forecast our business.

You see, our Web channel is less impacted by usage rather than our corporate channel.

So, international, our growth international is mostly Web related.

Therefore, it's less subjected to you know changes in usage.

Now, the other question, can you repeat it for me, please?

Just any changes that are of note in terms of your marketing and advertising relationships in the quarter?

No.

Nothing of significance.

Yes, we added some new partnerships.

I mentioned in my presentation that we have a small deal with Dell in Europe.

The things of significance are that we are able to focus on more new technologies on our Website.

Therefore, we are more professional in our approach to conversion rates, monetizing our Website.

And we're becoming much more professional in our ability to make the best out of each dollar that we spend.

But, I don't think that we have significant changes of relationships.

We keep on working with all the major players.

One thing that is, as I mentioned last quarter, we have very good relationships.

We can call major VPN high level in all the big networks and get immediate attention.

That's -- it is a big positive for us.

Then a final quick question -- maybe not a quick question.

But just I noticed not a lot of people are focused on this whole universal service stuff -- and at the end of the month, obviously the Center Commerce Committee.

Is there anything that you have seen out there over the last couple months that's given you any sort of guide in terms of the thinking and maybe which way things are leaning lately?

No.

I think it's still a very fluid issue in that there -- as you can tell from at least the congressional side, there is clearly a lack of consensus.

The House has their own competing bills.

The Senate has a few competing bills -- some vague, some more specific.

You are correct.

Senator Stevens will be holding some hearings actually on broad telecom matters and 0.5 day is related to USF.

Then of course, separately, you've got the FCC that it looks like we will have that fifth commissioner at some point in the not-too-distant future.

But, at this point, as we said before, there is really not an active bill being debated in Congress, nor is there an order from the FCC to be debated.

So, it pretty much continues to be the same as it's been.

We continue to monitor it.

We continue to believe that it is not the seminal issue for j2.

We will put some effort towards it in terms of monitoring and when the time is appropriate making our voice heard on the hill and with the FCC.

So you haven't changed your strategy as it relates to that?

No.

Other than I think that the general perception of the issue in the public marketplace is overblown related to j2.

Our position hasn't changed since March 31st of last year, which this is not a material event for the Company, even if it were to go down, the worst-case scenario, the fixed fee per number.

We're absolutely prepared to either monetize the free base or to pass that through.

Either of which we think brings benefits to j2.

So we know it causes some angst within the public markets every time a senator or a congressmen says something or gives a speech.

But, we don't think there's anything likely to coalesce around today.

I have here a question that came by the email.

It basically asking about -- are we going to be able to allow individuals to pull their fax number over to j2 and a timeline?

Yes.

We're working on enabling people to take a fax number, establish fax line.

The number is known out there to bring in an automated way the number one by one.

We're already doing it today but for quantities for corporations.

But the individual user or the user that wants to move one phone number will be able to do it.

We know still that the barrier to entry is you know when you sign up with us, you get the new fax number from us.

In the future, our guys are telling me that it's supposed to happen during the second quarter.

I believe it will.

It's a complex issue, mostly from the standpoint of many systems and parties involved.

But, yes, we will be launching Bring Your Own Number, which we believe will be a big encouragement to people to bring their fax number to us and make it a very seamless porting and start a relationship from fax to fax machine to fax to email.

Ari Moses, Kaufman Brothers.

I had a question on the -- both international enterprise.

But first of all, I noticed that today's presentation compared to last couple of quarters, you spent a lot more time discussing or at least the team -- a lot more time discussing international efforts.

I was wondering, is this because the expectations for 2006 that that is going to start becoming a real driver of the business?

Really when do you see that kind of kicking in?

Second, on the enterprise side, I just wanted to discuss a little bit about the pipeline, the conversion of the pipeline into actual -- it looks like now you've added about two -- converted two from the pipeline each quarter.

I want to know what drives that process.

As to the first, it's our view particularly now with Hemi participating in the conference call, to take a statement of our business and to really give it some focus on a quarterly basis.

So over the last several quarters, there's been quarters where we've gone into much greater detail on corporate.

Last quarter, it was on the subscriber acquisition costs.

We felt that given the fact that international revenue is not inconsequential to us in terms of the overall stream, that it was deserving, given not only where it's come in the last 2 years but also where we think it is going to give some greater insight.

I think a lot of people may not -- they wouldn't have a reason to go and look at our German or our Dutch Websites.

So we thought it was a good idea to bring that visibility on with the international efforts or philosophical view to the forefront.

Yes, we have very high expectations.

Yes, it grows faster than the Company as a whole in fact by sometimes more than 2x in the growth rate.

And we see major opportunities in the these areas of the world, where we have today no marketing, like Asia.

That's not going to happen tomorrow.

We're not going to suddenly be in Japan or in some of the Asian countries, where today we don't even have Websites in those languages.

But, we do think with the team building here in Los Angeles, there's a team building in Western Europe, there will probably at some point be a team building in Asia to attack those opportunities.

We will stay though focused and disciplined as we've always done, which means we'll test, we will trial, we will refine.

We'll keep what is good.

We will throw out what we don't like, and then we will move from there.

So, that was really the view on why international got its prominence today.

I'll let Hemi take the second question.

Could you repeat it for Hemi?

Sure.

It was related to the enterprise pipeline.

I think press release said the pipeline is now at 68 companies in the pipeline. 18 contracts if I'm not mistaken, it was 16 at the end of last quarter.

So 2 converted;

I think you said 1 converted in January.

But, what -- as far as the conversion process, what does it take to get that to accelerate?

What does the pipeline mean?

The growth obviously over the course of '05 is very strong in the pipeline.

It grew by what looked like by a smaller amount in Q4 certainly then in Q2 and Q3.

What is the status of the pipeline?

How does it look and how is it converting?

Q4 was a relatively slow period for closing a contract.

We're seeing much better best to business during the first quarter already.

We are adding more people, and we are refocusing our teams.

So some of the contracts that were taking a longer time to close, we're trying now to change the time it takes us from the first meeting till we close.

We are now also in the process of hiring and marketing a manager focus on the corporate only in order to accelerate their time to close and to find a way to make those deals faster.

The nature of the corporations are that they are slow to close.

We are in j2 finding everyday and every month new ways of accelerating these through standard contracts, a better understanding of the needs of our customers.

And we're very optimistic about it.

Frank Marsala, First Albany.

First question, Scott, just could you describe for us the competitive environment you're seeing in both of the areas you focus on, in other words, internationally and domestically?

And the question -- where I'm going with this is, you guys have still been able to do 49,000 net adds in the quarter.

Is everybody growing, or are you growing in certain segments that everybody else is not growing?

Let me start with the general answer and then try to get to the specific question, which is going to be hard since we don't know what everyone else is doing and we're not all organized in nice industry associations.

But, in terms of the type of customers or the type of competition, it pretty much is the same on a macro level domestically and internationally, meaning that in our individual SOHO and SMB channel, where we're going after the 1 to 100 DID customer, the competition is predominantly on a service basis smaller entity.

And as you've seen over the course of the last couple years, we've acquired a handful of them -- Data On Call being an example, PumaOne being an example, Call Sciences being an example.

And the characteristics of each of those that we have acquired have been different.

Some of them have been growing at a similar growth rate to us albeit on a much smaller base of revenue.

Some of them have not been growing.

I don't know that we found anybody who is declining.

But we found some that are clearly not growing and are troubled.

So, as we've started to go into Western Europe, we see a similar competitive landscape.

I think it's too early for us to comment definitively on Asia and other parts of the world because we are really focusing the marketing dollars on Western Europe.

In the corporate space, it continues to be -- once you are at an SME or large enterprise, it's really the competition against an incumbent server or a fax form.

And that could be a variety of companies selling in that solution; it's already there.

We have to go in and displace it.

There are we believe advantages to the way our solution works, the way that area codes can be mixed and matched across the 2,000 city network.

And we've been seeing the success as we have noted earlier two of these large deals closed again.

One deal is now closed in Western Europe, just in the month of January.

So, that hasn't from what we can tell in Western Europe, that also is not fundamentally different.

There are occasionally or there are from time to time some other ASP providers at the SME enterprise level that we run into.

But, we find that the real issue and the real opportunity is displacing the incumbent server part.

How should we think of sales and marketing expenses in 2006?

This year, it was between 15 and 17%.

You're going to be more focused on the international enterprise continues -- is that number likely to be at the upper end of that range I just provided or where do we think we come out on that?

First of all, I think it will vary quarter to quarter as it has historically done.

So, you should think of it as a range or a range of percentage of revenues over the four quarters.

I think you could see some upward bias on a 4-quarter basis or an annual basis, given the fact that we're going to do two things -- one, more international spend this year and some of that at least in some of the newer jurisdictions will be initial testing and marketing.

We assume low productivity until we can dial in the right type of vendors and the right type of promotion.

Also, even domestically, we take a portion of our budget and dedicate it to testing and trialing.

We did some of that in Q4.

We took actually a few $100,000 in Q4 and ran with a test.

So, that's something that's going to be part of our ongoing budget.

So, yes, I expect it to generally be in that range.

Probably, you know a little higher in '06 than in '05 on average but on any given quarter, balancing somewhere between that 15 to 17.

Rod Ratliff, Stanford Group.

I have to tell you the truth, Scott, I didn't know if I was in queue or not.

I never heard the notification tone.

So, --

Sorry about that.

We've had nothing but technical problems today.

But, that's okay, at least you got through.

Absolutely.

The ARPU figure, just in a vacuum on this sheet of paper, this looks like a significant decline.

I have to tell you, bears are probably going to snag onto this with tooth and nail.

Can you give me some comfort here with regard to how usage patterns develop with newly added paying DIDs?

And would such a pattern exacerbate the lack of usage from the existing base in Q4?

Let's start with -- I will try to work my way through the answer to that question.

First of all, for those who may have not got to the metric slide or we always get criticized that it's hard to read, the ARPU for the fourth quarter was $16.36.

It is expected that it would normally come down from the Q3 levels.

You will see that last year, it was 16.87, down from 16.95 in the prior quarter.

Most of that deferment from Q3 to Q4 relates directly to the earlier conversation of variable usage.

Something like $0.50 in ARPU came out of the variable.

The fixed ARPU was essentially flat quarter to quarter.

So, we believe that as the business days reverse themselves and as the usage comes back, you should see lift in the aggregate ARPU and lift in the variable component of that ARPU.

Now, do you want to continue with your second part of that question again?

I mean in terms of usage patterns, you've got a record number of paid DID adds here in the fourth quarter.

Correct me if I'm wrong and I'm going back into the memory banks a pretty good bit here, but usage patterns tend to develop as DIDs become seasoned, correct?

That's correct.

So, somebody that's going to come on say at $15 flat fee per month is not going to be getting so much into overage charges, and so that trend in and of itself may exacerbate what looks like in a vacuum a steep decline in ARPU.

You are absolutely correct.

Also, many of the deals we did in the last quarter were first month is free and things like that, which take the ARPU down.

If you could, Scott, quantify Sarb-Ox expense from the fourth quarter.

The delta between Q3 and Q4 was an incremental couple 100,000.

So we probably had -- I would have to take a look -- Sarb-Ox expense in its entirety in Q3 of 300?

We had about 100 in Q3 and then 300 in Q4, so a delta of 200 increase.

We will have some of course continuing Sarb-Ox expense in Q1; then, it falls off almost to nil in Q2 and then it starts to build up a little again in Q3.

That seems to be the cycle of the Sarb-Ox.

Steve Freitas, Harris Nesbitt Gerard.

I was hoping you could give us an update on the patent litigation.

There's been a number of suits outstanding, and it sounds like you've settled a few of them.

So can you give us a sense as to how many have been settled and how many are still outstanding?

I have to take a look.

First of all, I believe there are six pending litigations.

The two longest live litigations are Venali and CallWave.

Venali is actually coming up on its second anniversary this month in February.

CallWave is at about 18 months.

We had a number of suits, I believe four of them that we initiated later last year.

So, they are in the very early stages.

The Venali and the CallWave suits as it relates to certain of the patents has been stayed, pending the outcome of the patent's office review of three of those patents.

Actually, we should be hearing probably within the next several weeks to couple of months on at least the initial review from the patent office on those patents.

And then, there have been settlements in Q3 and Q4.

I think one of them related to litigation that was initiated that was then quickly resolved.

The other one actually, we did not have to sue them.

They paying through part of the patent licensing program and upon becoming aware of the patents that we own and the situation, wanted to enter into negotiations to settle.

And so, there have been I want to say five or six between Q3 and Q4 separate independent settlements; only one of which was all litigation.

(multiple speakers) And the way we think of it is this is now an ongoing program for our portfolio.

We actually have different programs.

There is different licensing programs and fees depending upon which set of patents you're interested in taking a license on.

And it's partly an internal effort and partly an extra effort with an intellectual property firm as well as lawyers because we have to do a lot of mapping of the claims of our patents against a company's set of services.

Are some perpetual and some kind of ongoing royalty stream?

Well, it's not that the perpetual is -- you only take a license through the end of the life of a patent, however long it may be.

And so, there is really two concepts.

There is the fully paid-up license, which seems to be the preferred route that the people have settled with us have gone down.

And then, there is a running royalty rate, which means they pay you nothing historically.

But, I just start paying a percentage of my revenues from this point going forward.

And then there are combo deals, meaning I pay you so much that relates to prior years' infringement.

And then from this moment going forward, I will pay you a royal running royalty rate.

We are fundamentally open to any one of the three.

There seems to have been a preference for fully paid up.

In some of these suits, it seems like you've come to it jointly with a company called Catch Curve.

Can you just describe how those patents are spread among you and that entity?

Well Catch Curve, we have a small -- we have an interest in the Catch Curve entity.

They have their own team that goes out and either search the patents through litigation or attempts to generate royalty revenue through settlement.

So, we have our set of patents; they have their set of patents.

There are instances, where we run into each other.

There's maybe two or three of the litigations, where it's a combination of the patents.

Then, you talk about paid search and your utilization of that method in terms of a customer acquisition and just what the pricing is like there and what your thoughts are in terms of you know usage going forward?

Yes.

We're using paid search in all the -- in our Yahoo!s of the world, Google.

And we're seeing increasing success in chasing away companies that are bidding on our trademark.

We had better success in Yahoo! search.

If you go there, search for you eFax.

Most of the time, you see no longer other companies are challenging our trademark.

They are doing also better in Google, but they're still working on it.

Overall, our search results are showing significant improvement year over year.

We have dedicated team, who are participating in all the training.

I think that j2 is pretty advanced when it comes to search.

How has that pricing trends been and your utilization of it?

Be more specific.

We spend more money on search.

If you are asking me about the cost there -- more effective because we're getting better conversion rates.

Search have increased in some instances when we're competing on general generic terms, it became less expensive.

When we are bidding on our trademark, I would say that generally you know, we've (indiscernible) it out; it's stable.

Tavis McCourt, Morgan Keegan.

A couple of technical questions first.

Scott, were there any tuck-in acquisitions in the quarter?

Yes, we acquired PumaOne, I think it was early November, which is a UK-based company.

They brought in some DIDs, fairly underpriced.

In fact, we are going through a price raise on those DIDs some point this year.

So, that was just part of the ongoing M&A program.

But there were some DIDs that came in from that?

Yes.

Not much revenue but some DID.

Remind me on the legal costs, are those capitalized or expensed or a combination depending on the action?

To the extent we are initiating the litigation, they would be generally capitalized.

Then just kind of more philosophically, as the sub base gets bigger here, the churn number starts to mean a lot more in growing net adds.

And it looks like it's kind of been between 2.5 and 2.8% this year.

Can you give us some detail on kind of what are the reasons for churn, and do you guys have any management programs in place to try to bring that down as the sub base goes up?

Yes.

We divide our churn to the recent customer churn and the method they use to churn.

The reason is mostly we find is lack of use.

So, we are more and more launching programs when we encourage customers in the initial period of their life to increase the usage and to become more aware of the services and focus on better customer support, everything that we can do to increase the usage and support the customer in the initial 3 to 6 months.

Now, this is in regard to the reason of the cancellation.

The way or method of cancellation, most of our cancellation occurs by decline of credit cards.

Now decline of credit cards are not always because the customer is not using or because the customer doesn't want -- not want to continue the service.

It's because of different technology, different codes, different -- in the world of credit cards, we're more and more investing in understanding it.

And j2 is now, there is some kind of tiers of credit card processors.

And since we are now processing more than 6 million a year, we are now entering another -- you can call it another league of corporation with the credit card companies.

And we're able to make improvements in decreasing or having less declines of credit cards mostly due to our focus on the details of the calls and the messaging.

So, yes, we're getting improvements there through the ability to spend more time, energy, system on analyzation relationship in improving that side of the business.

So, that would be a situation where the card is activated.

Service is turned on.

But for whatever reason a couple months into the service, the card is not authorized.

Yes, I'll give you a very benign example.

If you have expiration date, which is March '06 and I try to charge you in March '04, I need to know what is your new expiration date in order to go forward.

So if you are a small player, you have to either chase the customer or guess it.

Or if you are a larger player, you can go and do some corporation with some of the credit cards and they will give you this date -- things like that.

So what percentage of your churn is caused by the credit card issues?

The vast majority.

Oh, is it?

Okay.

Yes.

Then finally, in terms of some color on how these enterprise deals are shaping out, it sounds like you go in there and you are basically trying to get enterprises to move from a fax form to a service-type arrangement.

At that point, is it typically them working with you alone?

Or, do they issue the RFP process and then you end up with three or four competitors you are bidding the business against?

Different cases.

Some of them are aware of the credibility or lack of some of our competitors.

And therefore, they just focus on us.

Many times, we see that they really want to buy from us.

Sometimes they even say, we're going to buy from you.

But they are entering the others in too you know to bring our prices to a better level for them.

Sometimes, they tell us we have those servers and they are about the end of life, and they engage us in a negotiation that takes longer because they have a solution.

That's one of the issues that we have there when we negotiate with companies that have servers and they don't like exactly the pricing or something else, they can basically you know extend it in negotiation period because they are basically having a running service.

We have a couple of questions by email before we go to the next live question.

I think one we can easily dispense, which was a question about hurricanes.

No, the hurricanes did not in any way impact our business or our opportunities in terms of Q4 or Q3.

We really count donations to some --

Hurricane-relief efforts.

Yes, but it has no business impact.

Next question is about our subscriber acquisition costs.

Last quarter, as I mentioned, we highlighted what has been going on in our subscriber acquisition costs in our individual channel.

The question is, how were they in Q4?

They were modestly up in Q4 in part because of the time of the year but more importantly because we did a fairly extensive spend of several $100,000 in a testing mode.

And when that occurs, that generally is not as productive as we -- once we have worked out the bugs in the test and then go live with it.

So if you exclude the one-time testing that was done in Q4, then the SAC costs would have been roughly equivalent with where they were in Q3.

It is our goal and our intention to allow that SAC cost to rise in 2006 modestly.

We believe there are opportunities to bring in additional sets of customers at modestly higher average SAC costs than we experienced last year.

And, while declining SAC cost trends are a good thing, when the starting point is so low as it is for us with payback measured generally in a few weeks, we think there's a little bit of room to be more liberal and to allow the marketing team to go out and to experiment and to bring in subscribers at slightly higher levels.

Of course, we will monitor it.

Of course, we will track it very carefully to make sure that things do not end up in a position that we don't like.

Next live question?

Shyam Patil, Raymond James.

This is Shyam Patil for Michael Latimore.

A couple questions here.

You know, faxed email seems to be a core in-hand service for VoIP providers.

You know, just wondering if you could provide your advantages versus VoIP providers.

Could you repeat the question again?

I missed the first part of it.

Faxed email, it's a core in-hand service for VoIP providers.

I just wanted to get your advantages versus VoIP providers.

Yes, there's a lot of talk about the VoIP providers providing stacks.

We do not see any signs that customers are leaving us.

Stacks over IP is not a great success.

The protocol of fax does not work very well with the traditional Voice over IPs.

And some of the other Voice over IPs' companies basically offer you another line that you can plug your fax machine into it, which is not a competition to our service of fax to email.

We do hear here and there about attempts to come and bring fax over IP.

We really don't see it as you know top concern of ours.

It doesn't really fax out.

If it will, you will see us going after those companies with some of our patents.

But so far, I didn't see customers leaving us to these kind of services.

Is there any chance of a price increase this year?

I know it's been a while since you guys have raised prices?

As Scott said, we're doing price increases outside of the US.

We are expert in doing it.

And, while I cannot tell you that we're doing -- or we are having an official program to announce it, we're constantly testing; j2 is all about testing.

And I will not be shocked to see -- if you go to our Website, you will see this once in a while, we dare to push the price up and test and measure.

And that's as much as I can say.

What I would say is our budget and our guidance is not premised upon any increase in prices other than bringing some of the acquisition target pricing in line with j2, which is not terribly material in the scheme of things.

And another comment I will share with you is our prices relatively to the competition; the competition is a fax machine -- are significantly lower.

So there is a lot of room to increase the price, still providing high value to our customers.

The rank of distribution channels for the quarter, is that -- is the slide in the press -- slide in the slide show rank those in order?

No, it ranks them by the longevity by which we have been gaining paid subs -- the methodology.

But by the longevity that the marketing team has been using that means to gain paid subs, it is not orderly ranked in terms of their importance.

And in fact, as we said last quarter, free to paid, if you rank them orderly would not be number two.

It accounts for a relatively small percentage of our gross paid DIDs.

I want to reemphasize, the number one source of the gross paid DIDs is direct to Website.

It can be upwards of 50% of our monthly gross paid signups.

I cannot emphasize that enough.

That has been the case literally since the Company started marketing online 10 years ago.

Yes, and it is growing.

So as we become more prominent and dominant brand, our strength to size is just increasing and our free decreasing.

Rod Ratliff, Stanford Group.

Sorry for the follow-up call.

Scott, did you -- when I think Youssef asked you earlier about the change in tax rate, did you give some color as to exactly what that was and did I miss it?

Yes, he asked it.

No, we didn't give any color, and so you didn't missed.

The way that the taxes work, we have a very complex tax strategy because it's a worldwide tax structure.

So it encompasses several states in the United States, several countries outside of the United States and then a whole structure that covers many countries in Western Europe.

So the way the tax provision works is we run a model based upon the proportionalities -- this is the very high-level approach -- proportionalities of domestic income to non-domestic income and the various tax rate that would be associated around the world with those incomes.

And that will give us say against a budget a tax provision.

So, over the course of a year, we will monitor how that proportionality of income is tracking.

Now, when you get to the fourth quarter, there is a true-up that has to take place because you might end up with a little bit more or a little bit less domestic or international income than you had previously thought.

Also, you dig in into a much deeper level all of the state taxes as well as any of the other taxes that may come to the table.

So, if you look at Q4 internally, there were probably 20 different items that worked in various directions, some positive, some negative.

It netted all out to being a little bit less than a 1 percentage point increase in the rate for the quarter.

If you look at the tax rate for the year, it's going to be 27.2 or 27.3.

If you look at the tax rate in the fourth quarter, it's a little closer to 28.

There are no further questions at this time.

All right, thank you.

Then, we would like to wrap up the call for the Q4 and for the fiscal year end.

We'd like to note that we have a number of investor presentations coming up over the next 30 or 45 days.

It begins tomorrow with Kaufman Brothers Conference in San Francisco, followed by Credit Suisse First Boston a couple of weeks later in Boston, followed by Jefferies in late February.

Then in early March, we have Raymond James.

We have JPMorgan; we have Citigroup, Montgomery Securities and Deutsche Bank.

All of that between now and March 15th.

You'll be hearing from us quite regularly over the next 35 to 40 days.

We will schedule and announce the Q1 conference call probably in early April.

But I would target between the third and the fourth week of April to discuss Q1 results.

Thank you very much.

Ladies and gentlemen, this concludes today's teleconference.

We thank you for your participation, and you may disconnect your lines at this time.