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Executives

Brian Denyeau - ICR

Jeremy Allaire - Chairman & CEO

David Mendels - President & COO

Chris Menard - CFO & EVP

Analysts

Tom Roderick – Stifel

Terry Tillman - Raymond James

Brendan Barnicle - Pacific Crest Securities

Sameet Sinha - B. Riley & Co.

Steve Frankel - Dougherty & Company

Robert Breza - RBC Capital Markets

Jon Parker – Morgan Stanley

Brightcove (BCOV) Q4 2012 Earnings Call January 31, 2013 5:00 PM ET

Operator

Greetings, and welcome to the Brightcove Fourth Quarter 2012 Earnings Conference Call. (Operator Instructions) As a reminder, this conference is being recorded.

It is now my pleasure to introduce your host, Brian Denyeau of ICR. Thank you. Mr. Denyeau, you may begin.

Brian Denyeau

Good afternoon, and welcome to Brightcove's fourth quarter 2012 earnings call. Here to discuss our fourth quarter and full year performance are Jeremy Allaire, Brightcove's Chairman and Chief Executive Officer; David Mendels, President and Chief Operating Officer; and Chris Menard, Brightcove's Chief Financial Officer.

Jeremy, David and Chris will be making a few comments, and then we'll open up things to your questions.

Now let me cover the Safe Harbor.

During the call, we will make statements related to our business that may be considered forward-looking, including statements concerning our financial guidance for the first fiscal quarter of 2013 and the full-year 2013, our position to execute on our growth strategy, our ability to expand our leadership position and our ability to maintain existing and acquire new customers and our ability to execute and executive transition plans. These statements reflect our views only as of today and should not be seen as representing our views as of any subsequent date. These statements are subject to a variety of risks and uncertainties that could cause actual results to differ materially from expectations.

For discussion of material risks and on other important factors that could affect our actual results, please refer to the more detailed discussions contained in our SEC filings, including our most recent quarterly report, particularly under the headline Risk Factors.

Also, during the course of today's call, we'll refer to certain non-GAAP financial measures. There's a reconciliation schedule showing GAAP versus non-GAAP results and guidelines currently available in our press release issued after the market closed today.

With that, let me turn the call over to Jeremy.

Jeremy Allaire

Thanks Brian and thanks all of you for joining us today to review our fourth quarter results which were highlighted by revenue of $24.3 million, aggressive 31% on a year over year basis. In addition, we achieved our goal of generating positive quarterly free cash flow for the first time in Brightcove’s history. We’re pleased that the company exceeded our top and bottom line guidance for the third consecutive quarter as a public company which is a solid performance in light of the global economy.

2012 was an exciting year for Brightcove starting with our IPO in February. We added over a thousand video cloud customers over the course of the year spanning a wide range of verticals and customer sizes including some of the world's largest media organizations. We also expanded our value proposition with the acquisition of Zencoder which has dramatically improved video cloud encoding functionality and also represents Brightcove’s initial move into selling discrete functional utilities. We have been extremely happy with customers’ reaction to this acquisition and we’re seeing good sales activity for the standalones and (inaudible) including multiple six-figure transactions since the deal closed.

2012 also saw a continuation of the trend Brightcove has focused on since the company was founded in 2004, including the continued proliferation of digital content consumption on its ever increasing number of form factors across ever improving internet and mobile data connection. For example, according to the well known internet analyst Mary Meeker, mobile devices now account for 13% of worldwide internet traffic, more than tripling from 4% in 2010. In addition, her research shows that 29% of U.S. adults own a tablet or e-reader, form factors that did not exist five years ago.

We believe the rapidly increasing complexity of the consumer technology market represents a tremendous opportunities for Brightcove and organizations of all sizes and across all vertical markets recognize that they must change the way they engage with their customers to reflect the new ways in which they are consuming information. And the data from Mary Meeker and other industry analysts demonstrate the shift to our mobile devices is more rapid than any other technology shift we’ve ever seen before. Companies are increasingly recognizing that utilizing third-party cloud content services provider is the fastest, most cost effective way to navigate this quickly evolving technology environment as they scramble to catch up.

We believe that Brightcove is uniquely positioned to benefit from this migration to third party cloud content service providers based on the fact that we are the inventor of the online video platform market and we offer the most complete solution. Our market leading technology was recently recognized by two of the industry’s leading third party research firms, Frost and Sullivan and ABI Research for having the most innovative and advanced OVP on the market. In particular, both Frost and Sullivan and ABI recognized Brightcove’s combination of innovation and ability to execute which is essential when you are helping some of the world’s largest media companies and brands manage their online digital content presence.

Before I turn the call over, I want to also note that we announced the 2013 execution transition plan as part of our overall news release today. At the conclusion of the first quarter, David Mendels will transition into the role of Brightcove’s CEO after which I will assume the role for executive chairman. Most of you have already gotten to know David over the past year as our president and COO and he has done an extraordinary job overseeing our sales, marketing and product development functions since he joined Brightcove in 2010. His impressive category (ph), including running a $1 billion round of business, and he is part (ph) of Adobe, more than 10 years of experience before that at Macromedia, where he had successive executive roles including in Sales, Marketing, Business Development/Corporate Strategy and as General Manager and Executive Vice President of Product for the company's Web Publishing business unit.

As we look to cross the $100 million in revenue mark during 2013, David has the perfect skill set to take Brightcove to the next level, and I’d like to congratulate him on this well earned promotion. As for me, I will be committed to Brightcove and plan on remaining active within the organization as executive chairman. I will continue to be involved with strategic planning and product development as well as certain key customer relationships. Given the close personal and working relationship David and I have and his deep familiarity with the company, I fully expect a seamless leadership transition over the coming months.

We also announced today that Jim Breyer has stepped down from our board of directors to pursue other activities. Jim has been a great broad member for the past eight years and like to thank him for his contribution. David Orfao will be taking over the role of nominating core governance committee chair and we’ve started to search for a new board member.

I am extremely proud of the company that we have built over the past eight years and I am highly confident that the company’s best days lie ahead.

With that, let me turn the call over to David.

David Mendels

Thanks for those kind words. I am excited to follow in Jeremy’s footsteps as CEO and to lead Brightcove as we capitalize on the tremendous opportunity that is within our sight. We made significant progress against our long term growth strategy during 2012 and we are focused on building on that success in 2013 and beyond. I look forward to working with Jeremy during this transition process and continuing to leverage his knowledge as he becomes our executive chairman.

I would like to take a few minutes to review some highlights in the fourth quarter as well as some additional recent product announcements. In the fourth quarter, we continued to expand our customer base ending the fourth quarter with 6367 customers, a 64% increase compared to the end of 2011. Breaking this down further, we ended the quarter with 1625 premium customers, an increase of 52 customers from the end of last quarter, and 4742 volume customers, up 172 sequentially. As a reminder, premium consists of our traditional premium video cloud customers, the enterprise edition of app cloud and Zencoder customers on annual contracts and volumes include the video cloud express customers, the professional edition of app cloud and all month to month pay-as-you-go Zencoder customers.

During the quarter, we added new customers across a wide variety of industries and verticals. For example, we sell (ph) to insurance industry, Allstate, Aflac. We also continue to have success in the life sciences segment adding Bristol Meyers Squibb, Johnson & Johnson and Merck Sharp & Dohme. In addition, great educational institutions such as Georgetown University and Shahid (ph) School of Business at Oxford University also became customers.

From a new build perspective, we were pleased to see larger transaction sizes during the quarter, including some of the largest in the history of Brightcove. It is also worth pointing out that we start to sign large media organizations like Viacom and NBC. The signing of additional properties inside those companies which requires a significant sales effort are not reflected in our net customer add metrics.

That being said, going forward we expect to see improvements in our premium customer add metric as the sales resources we add in the second half of 2012 become productive. In addition to growing the number of gross adds, we believe that we have the opportunity to improve our retention rates at the low end of the premium market where customers are smaller and tend to have less sophisticated internal IT resources. In order to realize this potential, we are adding resources to further improve our customer onboarding experience and help customers integrate best practices to ensure they are successful with their video cloud deployments.

In the volume business, our net adds were lower than recent quarter but similar to the trends we saw last year during the fourth quarter. Also, as part of our strategic planning process for 2013, we made the decision to reallocate some of our market investment into the premium side of the business. At the end of the day, the primary purpose of video cloud express is to serve with a feeder for our premium business. We are looking at the best way to invest money into various sales and marketing programs to get the best return on our investment, and at the moment, we believe we can get the best return through our premium sales force and related marketing efforts but we will continue to have a diversified go to market strategy (inaudible) over time based on market opportunity.

We still see significant opportunity in upgrading volume customers to premium, and we had more than 40 of these upgrades in the fourth quarter and little over 160 for the full year. This is a 25% increase year over year. With Zencoder, we are pleased with the market reaction we are seeing and the traction we are getting with premium customers. The pipeline of five and six figure deal is growing nicely, and we signed several larger deals during the quarter. The ability to cost effectively encode large quantities of digital content is a growing problem across a number of verticals and new cases (ph) and we believe there is a meaningful market opportunity for the Zencoder app solution.

The fourth quarter also saw some exciting product announcements that highlight the benefits customers realize by leveraging our substantial R&D investments. The Windows 8 Internet Explorer 10 began shipping in the fourth quarter, it included significant changes in the way video is handled by Windows. By default, where videos are worked perfectly on prior versions of Windows stopped working on Windows 8 unless the website owner made code changes for web for (inaudible) process to have their site white listed by Microsoft. However, Brightcove video cloud customers generally do not have to make any changes to make the sites work with Windows 8. We were able to make back end changes that automatically updated the video players embedded in millions of web pages in advance. So everything works flawlessly on day one of the Windows 8 launch. Customers who relied on home-grown video technology were not supported. They found themselves unexpected (inaudible) and complex IT process on their head.

During the quarter, we also released support for mid-roll advertising within our HTML5 player enabling us to support pre-roll, mid-roll, and post-roll ads on mobile devices. This new technology is important for customers looking to monetize long-horn content. In addition, we released support for DoubleClick new version of their video advertising FDK. According to Google site, we are the only OVP to support it across all three platforms and no other OVP supports (inaudible).

As we enter 2013, we believe the investments we’ve made in our product offerings have positioned Brightcove as the clear leader and strategic vendor of choice in the cloud content delivery market. We believe Brightcove is very well positioned to be one of the primary beneficiaries of the secular shift to digital content.

With that, let me turn the call over to Chris to walk you through the numbers.

Chris Menard

Thanks David. As Jeremy mentioned, we are pleased with our fourth quarter revenue and operating results which exceeded our guidance in both the top and bottom line. For the fourth quarter, total revenue was $24.3 million, a 31% increase from $18.5 million in the fourth quarter of 2011 and ahead of our guidance of $22.8 million to $23.3 million.

Subscription and support revenue of $23.2 million was up 34% year-over-year and drove the upside in the quarter. Professional services and other revenue was $1.1 million and slightly less than fourth quarter of 2011.

Turning to revenue mix. Our premium offerings generated $21.8 million of total revenue, representing a 29% year-over-year increase, while our volume offerings generated $2.5 million in revenue, a 53% increase from the fourth quarter of 2011.

On a geographic basis, we generated $15.6 million of revenue in North America for the quarter, which was up 29% year-over-year and representing 64% of our total revenue. Europe recorded $5.6 million, a 33% increase and 23% of total revenue, while Japan and Asia-Pac generated $3.1 million of revenue for the quarter, up 35% year-over-year and representing 13% of total revenue.

From the vertical perspective, non-media customers represent 60% of our fourth quarter revenue and grew 43% on a year-over-year basis while our media customers represent 40% of our revenue and grew 17% on a year-over-year basis. We continue to see a very broad, horizontal market opportunity and expect our industry mix to become increasingly diverse over time.

Our year-to-date average monthly video streams as of December 31 were 699 million which was up from 651 million at the end of the third quarter. Excluding the impact of AOL as we've done throughout 2012, our average monthly video streams was up 14% on a year-over-year basis. We saw a strong stream activity in the fourth quarter due to a number of significant news events during the quarter, including the U.S. presidential election and the hurricane Sandy. As a reminder, video streams have not historically been a very good predictor of revenue and we do not expect them to be in the future.

Our recurring dollar retention rate was 89% for the quarter, which was lower than we have seen in recent quarters. There were two new events in the quarter that led to lower performance. First, the couple of large customers that was schedule to renew in December actually did so in January. That represents 3 percentage points of retention for the fourth quarter. Second, we had a media company customer in Asia Pacific region who had trouble securing funding and could no longer afford their contract resulting in a 2% reduction in the retention rate. We anticipate our recurring dollar retention rate to return to above 90% going forward.

Moving down to P&L. Our non-GAAP gross profit in the fourth quarter was $17.1 million, a 32% increase from the year-ago and a gross margin of 70%. Subscription and support revenue represented approximately 95% of our total revenue and had a 74% gross margin. While services revenue represented 5% of our total revenue and a negative of 11% gross margin. We expect to realize additional gross margin expansion over time due to the inherent leverage in our lateral subscription model.

Non-GAAP loss from operations was $1.4 million in the fourth quarter, an improvement compared to a loss of $2.2 million in the fourth quarter of 2011 and better than our guidance of a non-GAAP operating loss of $1.9 million to $2.2 million.

Non-GAAP net loss per share was $0.05 based on 27.9 million of weighted average shares outstanding, that’s in our guidance of a loss of $0.07 to $0.08 per share. This also compares to a per share loss of $0.53 on 5.1 million weighted average shares in the year ago period.

On a GAAP basis, our gross profit was $16.7 million. Operating loss was $4.6 million and our net loss per share was $0.17.

Quickly reviewing our full year of 2012 results, total revenue was $88 million which grew 38% year over year. Non-GAAP gross profit was $61.2 million. Non-GAAP loss from operations was $7.1 million and non-GAAP loss per share was $0.34 on 24.6 million of weighted average shares outstanding.

Turning to the balance sheet. We ended the quarter with cash, cash equivalents and investments of $33 million, which was an increase from $30.8 million on December 30. Subsequent to the end of the quarter, we spent $1.1 million to purchase the remaining 37% of our Japanese joint venture.

From a cash flow perspective, we generated $2.7 million in cash from operations and invested $200,000 in capital expenditures during the quarter, which equates to a positive free cash flow of $2.5 million for the quarter. This compares to a negative $100,000 in the year-ago period. We are pleased with our ability to meet our target for generating free cash flow in the fourth quarter. For the full year, free cash flow was negative $7.5 million, a significant improvement from the negative $11.6 million in 2011. Our deferred revenue balance at quarter-end was $19.2 million, up 40% year-over-year.

Finally, I'd like to provide our financial outlook for fiscal year 2013 and the first quarter. For the full year 2013, we're targeting revenue in the range of $102 million to $105 million which represents a year over year growth of 16% to 19%. We are targeting a non-GAAP loss of $4.5 million to $6.5 million. We continue to expect that we will generate a non-GAAP operating profit from the fourth quarter of 2013.

Non-GAAP net loss per share is forecasted to be between $0.18 to $0.25 for the full year 2013 based on 28.4 million weighted average shares outstanding. We are targeting free cash flow of between $1 million and $3 million for the full year. While we expect to generate free cash flow for the full year, free cash flow will be negative in the first quarter due to timing of bonus and nearing commission payments as well as the timing of capital purchases.

For the first quarter, we are targeting revenue of $23.5 million to $24 million or 18% to 21% growth on a year over year basis. We expect professional services to contribute approximately $700,000 of revenue within the quarter.

From a profitability perspective, we expect a non-GAAP operating loss of $2 million to $2.3 million in the first quarter. We expect a non-GAAP net loss per share of $0.08 to $0.10 based on 28 million weighted average shares outstanding.

In summary, we are pleased with our fourth quarter and fiscal year 2012 results, and we believe we are well positioned as we head into 2013. Brightcove has well-positioned itself to be the market leader in emerging multi-billion dollar market opportunity and we are focused on capitalizing on the opportunity in 2013 and beyond.

Operator, we are now ready to begin the Q&A session.

Question-and-Answer Session

Operator

(Operator Instructions) Our first question comes from the line of Tom Roderick with Stifel Nicolaus.

Tom Roderick – Stifel

I will start there, maybe in conjunction with that, for the question of both of you. As you look at how to sort of take this company to the next step and where you want to sort of deploy resources, can you talk a little bit more in-depth regarding how do you want to build that sales force, it seems like that was one where the sales hires have been flattish for a while, and what you think sort of needs to happen to reinvigorate that on the premium side?

David Mendels

This is David. So first of all, thank you very much. It’s a very exciting time and thank you too very much for your kind words. We are continuing to invest at knowing sales and marketing. We are adding about 15% to 20% more on quota carrying sales heads for next year. We’re very excited about that, that’s going to be a mix of people that are focused on installed base, so the account managers continue to go to our existing customers and also go after new customers. As we look at focusing the business and reinvigorating growth, a key theme for us is going after some of the larger opportunities in the market. As we have been talking about some time we do see a bit of a turning point as more and more of the largest companies in the world that might have started with, DIY strategy, do it yourself strategy, building their own technology stack in the space, five to 10 years ago, are starting to realize, my god, with all the fragmentation in the market and the new devices it’s really hard to do that. And it’s a great opportunity to outsource and come to a company like Brightcove.

So we are seeing a lot of opportunity at the high end of the market. We are investing more in our media vertical sales team, and more in going after those large deals and we think there still is a ton of opportunity in part of us, we are as excited as we’ve ever been about the market.

Jeremy Allaire

This is Jeremy and thanks for the kind words as well. I just want to layer on top of that, just I think when I and we look at the market opportunity here we know we’re still very early in the long-term and development of this market. We talked about the percentage of time that people consume video through traditional television distribution and percentage of time that they are spending with online video today and it’s still in the low single digits, the amount of time people are spending online. We are right on the cusp of a transformation where online video reaches over the top directly into living room through smart TV platform. And we think that as that takes place, every major broadcasting company in the world and premium media company in the world is going to need to be part of that shift, and that shift to viewership from offline broadcast to online is going to take place in the coming years and underscore David, we’re very focused on ensuring that we remain the clear market leader in the top tier of the premium media space.

Tom Roderick – Stifel

Let me follow up, Chris, a follow up for you if you don’t mind. Just in looking at the EPS guidance, it came in a bit below relative to the full year in the first quarter below where we had modelled, I think treated model. I am curious though relative to the full year guidance, do you still think that it’s possible to sort of see the company turning the corners toward EPS profitability by the end of the year, is that target kind of pushed that to 2014, how should we think about when do you turn the corner, and what type of linearity we ought to see in that profitability realm?

Chris Menard

We’re targeting to be non-GAAP op income positive in the fourth quarter. And so you’re going to see a steady path of profitability throughout the year.

Operator

Our next question comes from the line of Terry Tillman with Raymond James Financial.

Terry Tillman - Raymond James

Question actually, Chris, relates to the revenue outlook for the year, it looks a little lower than my model as well as I guess the street. You talked about some puts and takes in terms of a couple of delays in renewals, it sounds like maybe some larger customer renewals. And also you’re talking about a little bit of a targeted shift more towards allocating dollars to premium investments. Are those some of the drivers for the top line you're talking about or do they impact some of your top line expectations for ’13? Or is there anything in your guidance that speaks of macro economic challenges flat or maybe more challenging?

Chris Menard

You had a lot of questions in this. So I am going to do one by one. First one in regard to the revenue retention rate, we had a couple large customers who were up for renewal in December and they just slipped by a couple of weeks. So at this point they have renewed, they renewed in January, so that has no effect on the guidance at all. It was just timing in terms of the revenue retention rate.

The second question I think had to do with the allocation of marketing spend, we’re going to put more money into marketing on the premium side of the business just because of the bigger customers and bigger dollars. It’s not a huge switch or a big change. To put it in perspective we are moving a couple hundred thousand per quarter out of the volume side of marketing into the premium side. Again I don’t think it’s a big change in terms of the overall marketing plan per se, and it’s not going to make a big change in the guidance. We are using the same methodology we have used throughout 2012 in terms of our forecasting methodology and it’s the guidance that we have today. As you know we call what we think we can hit and what we can see and we are sticking with that.

Terry Tillman - Raymond James

And I guess on the Zencoder front, I know it’s part of your product portfolio now, so trying to delineate it’s not as easy but you did say exiting 2012 that I think the belief was that you could probably at least double that business to four odd million dollar run rate, is that still on the table?

Chris Menard

Yeah absolutely. We are still really excited about Zencoder, we’re doing really well. We have said in the opening remarks we’ve had multiple six figure deals, more than a couple handfuls of five figure deals, and we are on track with the number that we presented when we announced the deal back in July. It does get it harder over time to delineate between video cloud and Zencoder because we are starting to sell joint deals until it becomes a gamut allocation. And because some of the deals that we are selling now, the Zencoder they probably wouldn’t be able to sell on their own, just because they are getting tied to video cloud and tied into our sales engine that we are winning those deals. But overall we are really excited.

Terry Tillman - Raymond James

And my last question just relates to, for you Jeremy or David, talking about the do it yourself or DIY market, it seems like that’s really key element for sustained growth going forward. Are you seeing – it sounds like you are feeling more comfortable about the opportunity there and it’s exciting but are you actually seeing where yes, they are adopting tools but it’s not necessarily the entire video cloud platform, they are just more willing to buy pieces of your technology, so going forward we’re going to see more of this modular type sale, where it’s either DRM or advertising or analytics, could you maybe talk about exactly what you’re seeing with the DIY?

Jeremy Allaire

Sure, that’s a great question and it shows a lot of insight into really where the market is. I think you hit upon the key themes for us. Certainly we do see opportunity for the full video cloud suite and that we’ve had a lot of success with that with some of the media companies. We’ve announced in last year companies like Viacom, companies like NBC, we see new divisions of those companies join us over the last quarter as well, it’s exciting. But your point is a good one which ties into the strategy we rolled out around the time that we announced the acquisition of Zencoder, which is that – these customers have very broad and diverse needs and a wide range of access of the online publishing space. And so being able to offer what we would call platform as a service, so enabling customers to adopt access of the product. For example, through Zencoder transporting functionality on the utility basis is very, very compelling and so we see a lot of opportunity for that. It’s definitely something you will see more from us, it’s not something that is a material part of anything we are announcing today. But it’s a general trend that we would like to able to expose more and more of the functionality video cloud on a a la carte basis in order to have new ways of customers adopting it and fitting it into different kinds of workloads.

Operator

Our next question comes from the line of Jennifer Swanson with Morgan Stanley.

Jon Parker – Morgan Stanley

Hi guys, this is actually Jon Parker calling in for Jennifer. I will echo my congratulations on some of the new roles and opportunities as well going forward. First, I just wanted to dig in a little bit to the customer add number again, you sort of alluded to that premium adds might have come in a little bit lighter than we have seen in recent quarter and I am trying to wonder how much of that is related to some of the sales transitions that you guys discussed last quarter or other factors in the market like competitive environment macro or something else. Then maybe along those lines, where do you think we are in the productivity curve for some of those hires as well as the sort of vertically focused media team you guys talked a little bit about last year and how should we think about that ramping into calendar ’13?

David Mendels

Sure, good question, it’s Dave Mendels. Thank you as well. First of all, please keep in mind that number is a net number, not a gross number, that’s important to keep in mind that there were more gross adds during the quarter but there is also some turn as it always did during the quarter. We’re not seeing any fundamental trend on the competitive side. We continue to have competition from a number of different companies but not one competitor or any fundamental competitive trend that is different from previous quarter. We’re also not seeing any fundamental change in the macro economic condition although certainly there are some countries maybe in southern Europe for example, that are doing worse than in other countries.

I think we have seen a couple of things, one is we did have more larger deals. If you look year on year our average license revenue for premium customers did increase year on year by 4% but some of those big deals did come in Q4, in fact, some of the larger deals in the company’s history, so you do have a good of a trade-off there with larger deals but smaller number of deals. And similar to that, as you know a lot of our sales and marketing activity goes against existing customers. So for example, we mentioned in previous quarters doing business with parts of NBC Universal. Last quarter we did business with Telemundo which is part of NBC Universal. But that was still up as the new customer adds, that although it is a significant important customer for us and quite a bit of work to go after. So there are some variable there that helped us masked some of what’s going on.

In terms of the new sales reps, I think it’s a valid question and I think we are still ramping some sales people. We will see continued productivity, especially as we go after larger deals and deals in the media sector, some of those deals take a longer time and it can take a longer time when you are ramping a new sales rep but there is some of that factor in here, and I think we will see continued improvement in that regard over the year.

Jon Parker – Morgan Stanley

And Chris, maybe for you on the guide again, it does seem to imply a sequential decline which you really haven’t seen before. And I am wondering obviously eventually I am guessing to the customer loss in Asia, but even adjusting for that, it seems like the guide to be about flat growth. So I am wondering is there anything else that we should be thinking about, how much that’s tied to the customer adds in the quarter versus you may be higher than normal over its levels from Q4, is there anything else that we should be aware of in the guide in Q1?

Chris Menard

Yeah I think one of the things I tried to put in the prepared remarks and maybe it wasn't clear, is I am expecting the professional services revenue to dip in the first quarter. So I am expecting about 700K of professional services down just over 1.1 million in Q4.

Jon Parker – Morgan Stanley

And then maybe my last question either for Dave or Jeremy, on the competitive front, what I am wondering about is Amazon is a competitor, they have been in the end market for a little while on the cloud front, they just announced their own elastic transcoder, so it seemed to be competitive with Zencoder on the surface. So on the one hand it seems like potential opportunity for you guys given their ability to broaden the increased awareness for this product and on the other obviously they are pretty aggressive with price. So I am kind of curious as to how do you think about any potential impact to Zencoder in the near term and maybe your broader platform longer term?

David Mendels

We do believe that when you see large companies enter a market, it helps validate that there is a large market. And so we have always said that we anticipate in the long germ we will compete with larger companies because we’re going after a large market. And so we view that as validation. It’s important to note that the new Amazon offering is indeed competitive with Zencoder and I will talk about in a second but it is not broadly competitive with our core business which is a video cloud offering which is a complete end to end suite for video publishing. And so while there has been diagram overlap with us, they are not sort of a direct head to head competitor for us for most of our business by any means.

As it relates to Zencoder, we think we have an incredibly competitive offering, we have done an initial review of what Amazon has released and we don’t believe that today it is competitive from a feature and quality and quality standpoint. That doesn't mean that we don't take it very seriously, Amazon track record of releasing products and then improving over time and so we will continue to improve ours over time. But we feel very good about our position. From a pricing perspective we feel like our pricing turns out to be very competitive as well. And so we think we are in a very strong position still, they are validating the need to look at cloud solutions for transcoding, and that’s a really fundamental transformation because the primary competition in this space is people that are buying hardware and software and installing and managing that on premise. And so I think all in all represents an opportunity.

Operator

Our next question comes from the line of Brendan Barnicle with Pacific Crest Securities.

Brendan Barnicle - Pacific Crest Securities

Dave, I was just going to follow up on two products (ph) answers that you guys made last quarter and you’ve alluded to some, Zencoder generally but specifically Zencoder live transcoding which I think is captured in some of your last answer as well as Zencoder instant play, if there is any update on those new products and how those releases are going?

David Mendels

Sure, let me focus in for a second on the Zencoder live plus transcoding, we’re really excited about this offering. It is tying back to the previous questions, one more point of differentiation where we are out ahead of the market, we are out ahead of folks like Amazon that are trying to enter the market, for example, we feel really good about it, we venture what we call would it be commercial availability which is a brief precursor to general availability which would be this quarter. We feel really good about the product itself, that really fundamental business and economic problems of customers that want to distribute really high quality live broadcast of events around the world to multiple devices in multiple formats over live streaming.

We’ve got very good feedback on the availability program. We do have early customers of that commercial program. In fact, we mentioned one of larger deals in the company’s history last quarter, this was one of the products that they bought from us, and we are very excited about the early pick up and feedback and we expect to have a good launch this quarter and continue to go to customers there. On the instant play side that’s still very early. We have some customers using it, it’s not fully integrated through as a video cloud product yet, that’s something we are still working on. It’s available standalone but as part of the video cloud service we think there will be a lot of uptick especially among our many news customers, newspapers and mini-broadcasters and weather companies that use video cloud, and we see a lot of interest in that high-performance instant delivery that’s awful now. And so over the course of year we think that will be a very important part of how we differentiate.

Brendan Barnicle - Pacific Crest Securities

That leads to my second question around the media side where we saw the media business increased as a percentage of business during the quarter, it was kind of surprising to me given the move to more diversification. Any other color around why you have that sort of a change?

David Mendels

Well, let’s just start by saying we continue to believe in a horizontal diversified market, and there are more non-media companies in the world than media companies. So we continue to expect that the success across the broad, we believe that video is a first class citizen if you will on the web in that every major company, every major brand, major media company needs to solve this problem of how do they distribute their content across all of these devices to their audiences and their stakeholders and their employees and their citizens and the like. So that continues to be the case. I think you will see some lumpiness in that some of the media companies tend to be very large. They do have more video. And so they tend to be larger deal. They also went through a cycle where many of them invested very heavily in DIY, building engineering team and software sacks on their own to try and solve this problem, and now some of them are – and many of them in fact are hitting that tipping point and they are saying why we are doing this on our own. And so we do think there is a big opportunity to get some of those larger customers and we are looking very hard on that. And we’ve had some success. And so you will see some swings because of that and overall your long-term trends, you will see us continue to be very, very diversified.

Chris Menard

This is Chris. Brendan, what you saw in the percentages for the fourth quarter some of the big media names we announced in the last conference call tried to generate revenue, and so it shifted those percentages a little bit.

Brendan Barnicle - Pacific Crest Securities

And then Chris just one for you, as we think about free cash flow and you talked about sort of past profitability continuing through the year. Should we be thinking about free cash flow the same way and could you give any more color on maybe what quarter we might expect to see another return to profitable free cash flow?

Chris Menard

I do think we won’t generate free cash flow in the first quarter, I think all the other quarters after that we will generate free cash flow. As I said in the remarks it’s somewhere between 1 and 3 million for the year, so there is couple of quarters where it’s going to kind of hover but we should be in the foresight. CapEx next year should be similar between 5 million and 6 million for the year as you’re thinking about your models.

Operator

Our next question comes from Sameet Sinha with B. Riley & Co.

Sameet Sinha - B. Riley & Co.

(inaudible) the larger media companies, the larger media wins, professional services should continue to grow accordingly. And my second question was in terms of growth for your 2013 guidance, that’s half of what you did in 2012, does that indicate any sort of – has it changed the visibility you have into your revenues? Obviously we are seeing different trends between premium and social volume customers. And the final question is these two new renewals that you had in January, to the extent you can talk about the renewal economics in terms of unit pricing, did the contract side go up, what about unit pricing, did they buy any additional products, that would be really helpful.

Chris Menard

So the first question was in regard to pro service, just a reminder pro service revenue can be very lumpy, it depends on the timing of the projects on when we complete or the percent complete in any given quarter. As I look at the 2013 I think the percentage of revenue is going to come from pro service – in the neightborhood of about 5%.

The second question I think had to do with the visibility. Our visibility is unchanged compared to what we’ve seen in previous years. If I look at the combination of our backlog and the renewals we always take the renewals in kind of haircut and back to historical rates. We still have visibility into just over 70% of the revenue that we are targeting for 2013 and over 90% visibility into the first quarter, and I think your third question had to do with the two renewals, that kind of fell out of December and we closed them in early January. I really can't comment on the pricing of two individual deals. They are both premium customers and while they were important deals, there are two of over 1600 premium customers, and they are just normal renewals that closed little bit too late.

Operator

Our next question comes from the line of Steve Frankel with Dougherty & Company.

Steve Frankel - Dougherty & Company

Could you start by giving us some color on app cloud, how it did in the quarter and how you see that position for 2013?

David Mendels

This is David. I think that it’s probably the best way to characterize it is we are still on a learning mode here. As you know we released this and in the middle of last year we did a bit of app cloud– we changed the model and we’re continuing to learn and work with customers. There is a fundamental problem in the market that isn’t just a problem, that’s on the video cloud platform problem on how the people deliver the great content experiences across all of these different devices and run time as form factors in the market. And so this is really an important area for the company but specifically as it pertains to app cloud I think I would best characterize it as we continue to be in a learning mode. We continue to be in experimental mode trying to figure out the best approach here. But at the same time it’s a material part of our guidance of 2013.

Steve Frankel - Dougherty & Company

And for Chris, you characterized what averages were and how we should think about it for Q1?

Chris Menard

Averages have been really steady, Q2, 3 and 4, so we didn't see a big blip in the fourth quarter compared to the third quarter and I think we are finally at a stage where I feel like we hit this new normal as I said throughout last year, I was little concerned we were hitting the spike and we were going to come back down. So as I look at 2013, I am just assuming the same level as we saw in the back half of 2012.

Steve Frankel - Dougherty & Company

And maybe David, some color on penetration of these real accounts, you talked about Telemundo, can you (inaudible) what’s going on in some of these very large accounts?

David Mendels

I think we will continue to make announcements, as we could make them certainly. So I am not sure there is much material insight I can give you. I think the general trend is when we have tried to talk about in the past which is what we see is a lot companies that have hit a wall, if you will, where they invested in building out systems and then in many markets didn’t get easier over time. This is a class of technology that’s actually gotten harder over time as people have to figure out how to target video to all of these different devices and runtime and the like. And there is a lot of layers to that from security protocol fragmenting to streaming protocol fragmenting and so on. And so we’ve invested very heavily in solving those problems and I think that makes us so much more attractive option than these larger companies. And so we have a great team of people that’s focused on that and we have been having some good traction. We have mentioned some great brands in the last year, like NBC and Viacom and Telemundo, I think you will see more in 2013.

Operator

Our next question comes from the line of Robert Breza with RBC Capital Markets.

Robert Breza - RBC Capital Markets

Chris, just as you look at your revenue guidance out there and maybe a follow up to the prior question, what may be changed from the low end of the guidance range to the high end and how it will be affected in your guidance relative to the new sales force contract?

Chris Menard

It’s a hard question to answer but I can tell you that we haven’t changed the methodology that we used in 2012 as we come into 2013. I think we’ve got a track record of coming in within the ranges we give are really performing. So no change in terms of methodology, I think just have to continue to execute.

Operator

There are no further questions at this time. I would like to turn the floor back over to Jeremy Allaire for closing comments.

Jeremy Allaire

Thanks everyone. Appreciate the questions and I hope that was valuable. Obviously we’re pleased with the results in Q4. We’re very excited about 2013, we continue to see great product and market leadership for the company. I am personally very excited about David’s promotion and think that we’re in a great place to continue to be the market leader here and continue to grow. And we look forward to further discussion throughout the quarter. Thank you.

Operator

This concludes today's teleconference. You may disconnect your lines this time. Thank you for your participation.

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