Tom Fitzsimmons - Director of IR
Gary Greenfield - Chairman and CEO
Ken Sexton - EVP, CAO and CFO
Paul Coster - JPMorgan
Mike Olson - Piper Jaffray
Ben Hunt - Iridian Asset Management
Avid Technology Inc. (AVID) Q4 2008 Earnings Call January 29, 2009 4:30 PM ET
Good day and welcome everyone to the Avid Technology fourth quarter earnings results conference call. Today's call is being recorded.
For opening remarks and introductions, I'd like to turn the call over to the Director of Investor Relations, Mr. Tom Fitzsimmons. Please go ahead, sir.
Good afternoon. I am Tom Fitzsimmons, Director of Investor Relations for Avid Technologies. I'd like to welcome you to today's call.
With me today are Gary Greenfield, Avid's Chairman and CEO; and Ken Sexton, Executive Vice President, Chief Financial Officer and Chief Administrative Officer.
Before we begin, please note that this call include forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995, including statements about our future performance.
There are a number of factors that could cause actual events or results to differ materially from those indicated by these statements, such as competitive factors and pricing pressures, our ability to anticipate customer needs, our ability to execute our strategic plan, and adverse changes in general economic or market conditions. Other important events and factors appear in our filings with the U.S. Securities and Exchange Commission.
In addition, our forward-looking statements represent our estimates only as of today, January 29, 2009, and should not be relied upon as representing our views as of any subsequent date. We undertake no obligation to review or update these forward-looking statements.
During this call, we will be referring to non-GAAP financial measures. These non-GAAP measures are not prepared in accordance with Generally Accepted Accounting Principles. The most directly comparable financial measures calculated in accordance with GAAP and a reconciliation of GAAP measures to these non-GAAP measures are contained in the press release announcing this quarter's results and are available in the Investor Section of our website, www.avid.com.
For the purposes of understanding our future business models, we will also be filing some forward-looking analysis on this call on a non-GAAP basis. Some of our GAAP financial measures are not, however, accessible on a forward-looking basis and the differences between our future GAAP and non-GAAP financial measures could be substantial.
And now, I'd like to turn the call over to Gary.
Thank you, Tom, and welcome everyone to our conference call for the fourth quarter of 2008. Avid closed out 2008 with a busy and productive Q4. As we discussed in our last call, the economic climate, our product line divestments and our restructuring, all had an impact on the fourth quarter. We believe our results for the quarter were mixed, but we continue to see a number of positive strides being made across the company, which I will share with you in a bit.
Ken will provide you with our financial results, after which I'll provide a more detailed update on our business and transformation efforts. Ken will then wrap up with our 2009 guidance and we will take your questions. Ken?
Thank you, Gary, and good afternoon, everyone. Our revenue for the fourth quarter was $206.7 million, which was down sequentially and year-on-year. I will discuss our revenue changes in a moment, but the major factors impacting fourth quarter revenue were: the economy, unfavorable currency exchange rates and the sale of our non-core product lines.
Our preliminary net loss for the fourth quarter of 2008 was $31.9 million, or $0.86 per share. We performed an impairment analysis in our Consumer Video segment resulting in a $9.6 million impairment charge. As we finalize our analysis for all of our business segments, we might have additional impairment charges. This analysis will be complete prior to filing our 2008 Annual Report on Form 10-K. Our non-GAAP results will not be impacted by any additional non-cash impairment charges.
As in prior quarters, our earnings release provide the table of certain items that are excluded from our fourth quarter non-GAAP results. These items totaled $22.6 million and include impairment charges of $9.6 million, amortization of intangibles of $3.6 million, stock-based compensation of $3.1 million, restructuring cost of $23.9 million, net gain from product line divestments of $13.3 million, and related favorable cash adjustments of $4.3 million. Excluding these items, results in a non-GAAP net loss of $9.3 million for the fourth quarter, or $0.25 per share.
Our GAAP gross margins for the fourth quarter, was 42.9% including 2.9 million of restructuring, amortization of intangibles, and stock-based compensation. Without these charges, gross margins would have been 44.3%.
Our non-GAAP gross margin was down year-on-year and sequentially. Our Q4 2008 gross margin was adversely impacted by about three points, or $7 million related to the performance of our Consumer Video product segment, which I will review in a moment.
The strengthening of the US dollar in the fourth quarter also impacted short-term margins as most cost of goods are valued in dollars.
Our operating expenses for the quarter, excluding impairment charges, amortization, stock-based compensation, net gains from product line divestments and restructuring, was $97.4 million. This was down about $10 million, sequentially and $12 million year-over-year, which is early evidence of cost savings from our restructuring efforts.
Our Q4 operating expenses include $1.7 million of transformation-related cost. Transformation-related cost include third-party consulting severance and recruiting cost related to our 2008 restructuring activity that are not included in our restructuring charge. For the full year of 2008, transformation-related costs were approximately $8.8 million, or $0.24 per share. These type of costs should not be material in 2009.
Our preliminary GAAP operating loss was $32.7 million. Excluding impairment, net gain on product line divestments, amortization, stock-based compensation, and restructuring but including transformation-related costs, our non-GAAP operating loss was $5.7 million for the quarter. As previously noted after-tax and interest, our non-GAAP net loss was $9.3 million.
During the fourth quarter, we finalized the sale of our Softimage 3D and our PCTV product lines. The Softimage transaction closed on November 17th. We received $26.5 million of the $33.5 million purchase price with the remaining balance to be held in escrow with scheduled distribution dates in 2009 and 2010.
We also completed the sale of PCTV for $4.8 million on December 24, 2008. We received $2.3 million in closing and the remainder is scheduled to be collected over the next 12 months. We will also be reimbursed for the cost of existing PCT inventory sold by the buyer over the next 18 months. The PCT inventory on the balance sheet as of December 31, 2008, was $7.5 million.
The sale of these two non-core product lines will allow us to better focus on the core business moving forward.
I would now like to focus on the operating performance of our three business segments. While we now have a single integrated customer facing organization, this will be the final time we will report our businesses in our three traditional segments; Professional Video, Consumer Video and Audio.
Please note that the following items are excluded from the business unit results. The GAAP to non-GAAP adjustments of $22.6 million I reviewed earlier, net interest income, and other expenses of $331,000 plus $21.6 million of corporate operating expenses.
I wanted to highlight that all of our segments were impacted by foreign currency exchange rates in the fourth quarter. While the impact of exchange rates was favorable for the full year, in the fourth quarter we had an unfavorable sequential impact on revenue of about $13 million.
Now, starting with the Professional Video revenue for the fourth quarter were $111.2 million, down 5% sequentially and down 17% year-on-year. Our Softimage 3D animation product line contributed approximately $1.4 million of revenue to this segment in the fourth quarter of 2008 and $2.8 million in the fourth quarter of 2007.
We believe the sequential decline in Professional Video is attributable to slowdown in spending by our customers during this uncertain economic period in addition to the unfavorable impact of currency exchange rates.
The year-on-year decline reflects the fact that the fourth quarter of last year, we're having especially large transaction taken to revenue from our backlog. Professional Video contribution margin was $16.8 million, or 15% of revenue, which was about $2 million higher than the last quarter.
For our Consumer Video segment, revenue for the quarter, were $23.1 million, down 17% sequentially and down over 40% year-on-year. The PCTV product line contributor was up $9 million of revenue in the fourth quarter, down about $7 million from last year.
The fourth quarter was especially difficult for our consumer video business, given the current economic climate combined with the disruption, particularly in Europe to our reseller network caused by our divestment of PCTV.
Consumer Video lost approximately $12 million in the quarter. The Consumer Video business for the fourth quarter was also adversely impacted by the unfavorable ruling related to a duty tax, issues related to royalty cost, and low gross margins on our PCTV and also our video transfer product line. As I mentioned earlier, these factors reduced these business segments gross margins by approximately $7 million.
In Audio, revenue was $72.4 million in the fourth quarter which was flat with the prior quarter, and down 16% year-on-year. The release of Pro Tools 8 had a favorable impact on our business, sequentially on a year-on-year basis both the professional and home markets for our audio businesses were down largely related, we believe, to the current economic climate. Audios contributions margin for the fourth quarter was $11 million, or 15% of revenues which was almost $3 million sequential improvement.
Our balance sheet remained strong. We have no debt and ended the quarter with a $148 million of cash, up $25 million in September 30, 2008, primarily due to $28.8 million of proceeds from the sale of our non-core product lines.
The fourth quarter included a $23.9 million charge for restructuring, the majority related to a reduction in force. Approximately $9 million of cash was used for restructuring activity in the fourth quarter. Inventory was down $27 million compared to last quarter.
Although the sales of PCT contributed significantly to the change, lower inventory levels in our professional video business also helped. Please note that $7.5 million of our PCT inventory was reclassified to other current assets in our December 31, 2008 balance sheet.
Inventory turns were $4.8 million and day sales outstanding were 45 days for the fourth quarter, which are improvements over the prior quarter and the prior year. Our deferred revenue of $73 million was down sequentially and year-on-year. This reduction is related to our non-core product line divestiture; changes in deferred deal backlog; and sell through as well as the timing of maintenance contract bookings.
I'd now like to hand things back over to Gary, who'll provide an update on the business.
Thanks, Ken. 2008, was a year of very significant change for Avid and can be characterized as a year of planning and getting our house in order. We completed a number of organizational changes that will enable us to move towards execution of our goals and strategy, in 2009 and 2010.
While the current economic climate requires us to move forward with a degree of caution, we are now better positioned to execute on our strategy. Back in July, we presented our strategy in a three phase transformational plan. One, get healthy; two, build core momentum lock spending margins; and three, unlock new sources of growth. We also mentioned that we would work these phases in tandem.
During 2008, we made significant progress around these goals. Our senior leadership team was established and these leaders have now rolled out their organizational structures. We made significant progress here on the transformation of our business with a complete reorganization of the company.
As Ken mentioned, our account structures improved significantly in the fourth quarter, as a result of this restructuring. We've now organized Avid to function as a one integrated company, rather than three separate businesses like we have in the past. This enables us to leverage the combined strengths of our core Audio and Video domain expertise and to better serve our customers.
We've already made some great progress on infrastructure projects to demonstrate this integration. For example, we've started to consolidated our web and e-Commerce sites to create a more unified and robust presence online. Our customers can expect to begin experience the benefits of these projects as early as Q2 of this year.
This integration also included looking across our business to ensure that we are focused on our core areas of strength. For example, we've redefined the markets we'll serve as one company, (inaudible) towards how our Audio and Video technology can empower all of our customers, from education, home enthusiasts, artists and creative professionals to small, medium, and larger enterprise businesses.
No matter where our customers are on this continuum, Avid has the ability to be an integrated video and audio solution provider to all of these users. And that is a significant differentiator for many other companies in our industry.
Moving into 2009, customers will start to see a more unified Avid in the marketplace, as we evolve the way we represent our brand if there is industry trade shows, such as NAB. We've decided to exhibit on NAB Show floor in 2009 after a brief absence in 2008, although we'll be much more judicious by using a smaller footprint than we've had in past years.
We feel we were able to have some great conversations with existing customers in Las Vegas last year, but having a presence on the floor enables us to attract a greater number of prospects and folks who may not be as familiar with Avid.
I would now like to switch gears and discuss some highlights from our fourth quarter. In Q4, we had a number of new product introductions. Our customers and products received multiple awards and we achieved a few milestones regarding the holiday season sales of some of our consumer products.
The first thing as the backdrop, I'd like to share some of the details with you now.
In the fourth quarter, we began shipping Pro Tools Version 8, the next evolution of our music creation and audio production software. Pro Tools 8 provides everything users need to create, compose, record, edit, mix, and output, all in one application. We're happy to report that since its release. We've sold approximately 34,000 Pro Tools 8 licenses worldwide, which includes upgrades and new system purchases.
During the same period, we were able to help customers such as broadcasters large space facilities, and educational institutions set new standards for HD Corporation with the launch of Isis 2.0, our storage solution.
(Inaudible) MediaNetwork Solutions sets two benchmarks and system capacity, performance and scalability (inaudible) of 384 terabytes of storage and ability to scale up to 330 real-time clients with full system monitoring.
One of our beta testers films at 59 in the UK. To the system's support for high resolution files is a huge benefit and has the potential to greatly increase our productivity. And while numbers in our consumer space were down overall, the fourth quarter provided the boost to our consumer, audio and video business in terms of milestones.
M-Audio reported that Black Friday sales at Apple stores and products such as key – to 49-Note USB Keyboard, an AV for this speakers were up over 80% from last year. In our global Pinnacle [e-commerce] increased over 30% in 2008. This result was achieved as a result of complete overhaul of our pinnacle website and e-commerce experience along with expansion into Latin America and Asia-Pacific.
During the fourth quarter of the year, we received multiple awards and accolades. These include Videomaker Magazine naming Pinnacle Studio 12 as prestigious 'Product of the Year' award, which will appear in the February 2009 issue of the magazine. And in October, Media Line Magazine reviewed Media Composer 3.0 and called it the preferred choice of editors in feature films and television productions. These are great examples of our continued technological innovation and commitment to our customers and business partners.
Lastly in October, we hosted a broadcast business summit, which we invited several of our top broadcast customers to Tewksbury for a few days. During this time, we had a number of productive two way conversations with these customers discussing topics such as business and technology challenges, a solution roadmap and industry trends.
We look forward to hosting many of these personalized events for our customers. All in all, we're making good progress against our strategy and are delivering on our commitments to our customers and business partners. We still have a fair amount of work to do, but the progress is promising and we look forward to continue to drive this positive change in 2009.
Let me turn this back to Ken to talk about our outlook for 2009.
Thank you, Gary. I'd now like to provide some perspective on our financial outlook. While the current economic client makes it difficult to provide revenue guidance, we'd like to share our profitability targets for 2009. Our intention is to provide clarity regarding our core revenue and our goals for non-GAAP operating profit margins in 2009.
First, I will address core revenues, so investors will understand our continuing revenue base entering 2009. For 2008, our revenues totaled $845 million including $53 million associated with divested product lines. In addition, we discontinued certain other product lines, which are no longer considered core to our go forward strategy.
Revenues relating to these product lines totaled $8 million in 2008. Revenue for our core product areas after adjusting for divested and discontinued products totaled $783 million in 2008. In addition, during the first half of 2009, we plan to continue to fine tune our product offerings, which could negatively impact our revenues from core products by an additional $5 million to $10 million.
In 2008, we took several cost reduction actions intended to return Avid to profitability. These actions were designed to improve our gross margins and reduce our ongoing operating expenses.
For 2009, if you assume, our revenue was relatively flat with our 2008 core revenue. We have a non-GAAP operating margin target of 6% of revenue. This is an annual operating margin target and we would anticipate sequential quarterly improvement throughout the year.
The operating margin target excludes the following GAAP adjustments, approximately $5 million of restructuring charges related to activities initiated in 2008; stock-based compensation of $14 million to $16 million; and amortization of intangibles of about $12 million to $14 million. These adjustments with the same revenue adjustments would result in a GAAP operating margin of about 2%.
Additional items affecting net items include other income of approximately $1 million and income taxes. GAAP income tax expenses anticipated to be in the range of $7 million to $9 million. The non-GAAP tax expense would be about $2 million higher than the GAAP expense.
This concludes our remarks. Now, we would be happy to take your questions.
(Operator Instructions). And we'll take our first question from Paul Coster with JP Morgan. Please go ahead.
Paul Coster – JP Morgan
Yes, thank you. Ken, can you just tell us what sensitive revenues came from international versus domestic, and what the customer concentration numbers might be, if relevant?
Sure. Bear with me for a second. From an overall standpoint, the breakdown would be 58% international and 42% domestic, which is pretty much the same for the full year 56% versus 44% domestic for the full year.
Paul Coster – JP Morgan
Okay. Were there any 10% customers?
There were no 10% customers during the year at all.
Paul Coster – JP Morgan
Okay. So you're going to be reporting in this three segments moving forward, just technically how are we to expect the reporting to be going forward? Is it just products and services?
The anticipation will be that we will be providing audio and video separate, but we are looking at combining Consumer Video and the Professional Video segments. And we may have some changes on how we measure profitability in those segments of which we’ll have further detail, of course, for our first quarter call.
Yes, Paul, that’s a reflection and, of course, the way we're organized and actually the way we're actually building the products with share technology, et cetera. And as you know, it was one of the transformational activities that we embarked upon towards end of the year.
Paul Coster – JP Morgan
That makes sense. So, clearly, it's difficult to issue any kind of guidance at the moment, but can you talk about the pipeline, the close rate, the sales cycle particularly as it relates to the professional side of the business? And are things getting tougher than we think unassumingly are?
What I would say, Paul, is that the pipeline is actually doing pretty well. Martin Zen, who now heads our worldwide sales organization across all of our product lines is really bringing that great form of discipline to the way we take a look at sales and the way we take at our pipeline.
I think the question isn't about the size of the pipeline, it's more about do we see the sale cycles getting longer. Now, I think that uncertainty has -- on the problematic side and certainly is to -- when is that commitment going to be made.
On the other hand, HD, I think we spoken to this before, is further along in the US and overseas. And we see a lot of HD opportunities, particularly in the video space. We're seeing in the United States, that only about 25% of lot of stations have actually changed their internal workflow to HD.
When you hear the HD transition, February, June, whatever side of that you have and beyond, what you're really hearing is about the transmit signal. If you take a look at some of the HD stations that have transition, you still see the small picture. And so, we are seeing that a lot of stations are coming to us and saying, okay look, we've a got to upgrade our infrastructure to get there.
Again, sales cycle, and of course, the other thing is that Pro Tools was released in the last two weeks of the year. Pro Tools 8 was released in the last two weeks of the year. So there is some opportunity there. So, we're cautious. There is no doubt the economy is sitting in front of us. We've tried to build internal plans that reflect that. But there is no doubt that both the consumer side as well as our professional and price sides, there is a little wait and see out there as well.
Paul Coster – JP Morgan
Okay. And then my last question then is that the pipeline is just as big, obviously the closed rate is slower owing to the sales cycle, but what about the win rate? Do you see any change at all there or do you think your competition is actually weakening?
Actually, on the competition side, I'd say we're actually in pretty good shape. I think that not many of the activities that our customer operations organization in Kirk Arnold's leadership has initiated, has said that we're coming out tough against our competition's original Media Composer area.
We talk about Pro Tools, one of the big things that Pro Tools 8 was this composer capability I talked about, which allows you to write in a Pro Tools environment to use the capabilities of the Sibelius, which we had acquired a couple of years ago.
So we were five down in the last year, I think it started saying, "Hey, we are going to not just have the great standalone products, but win some of the interoperability together that we've spoken about and that's made us, I think, a little bit stronger against our competition.
Competition is still quite strong. I don’t want to walk away from that, but we are tuning that momentum. Quite honestly I feel like we had rolled over dead a little bit competitively and we're coming out pretty strong and charging pretty hard.
Paul Coster – JP Morgan
Next, we'll go to Mike Olson with Piper Jaffray.
Mike Olson - Piper Jaffray
Hey, good afternoon. Seems like the Pro Video business is holding in there while audio and any (inaudible) consumer are seeing a bit more difficulties. I understand the consumer issues, but maybe you could just talk more specifically about the primary Audio segment headwinds. Then also, I know you’ve been asked us dozens of times, but would there be any reason to take a look at just simplifying the business and honing in on Pro Video and maybe shutting the consumer in Audio segments.
We've been asked these all questions. We have been asked if we should focus on Audio and get rid of the Pro Video. So I think we've been out for all that mixtures. As we are through it, just to talk a little bit about some of the headwinds that we have there.
In the Audio space, the Audio space is a pretty broad space. So you can’t talk about it in any one segment. Pro Tools was late in the year, well that’s a benefit for 2009. It didn’t give people a chance to do much in the last couple of weeks of the year. And I think that was, that’s just a timing of the delivery that was out there.
I think in the Audio space you do find a, you find pure enterprises than you do in the Pro Video space. As a result, we find fewer enterprises, the small businesses and individual professional as well as in my audience, musical enthusiasts are confronted about the economy a little bit more. Obviously, there was still a pretty robust business for Audio during the course of the core, but that’s how things get reflect with the margin of some of those businesses.
So there is a little bit of consumer at the low-end of the Audio, there is the professionals. And again, I think we have people who are feeling, obviously feeling the effects of the stock markets and also the credit crisis. Not having loans available for small business, so a lot of that suffers. We're starting to see slowdown already in this year.
As far as the focus, I don’t want to really address should we spend something all for us then something out. We've addressed that. And I think instead of focusing on our strategy, which is to take advantage of our unique positioning of our aspirational ladder from the enthusiast to the enterprise. Something we've done very successfully with Audio and we're doing the same thing with our consumer products in the Video space is starting to create the relationship through marketing and through our master sharing of special effects between our high-end product and our low-end product.
We are particularly also trying to, if there was not really an opportunity to do that, both the marketing but also just to have shared R&D, might we feel differently, that we sort of spelled out that strategy during the course of this summer and are making our best. We constantly look at our business. We look at the whole thing. Audio has performed very well for us over the years and we're not going to take a look at one quarter and say, hey, it's time to spin-off the business there.
Mike Olson - Piper Jaffray
Okay, that's helpful. I understand. Second, I realized you had given real specific guidance, but when you talk about the 6% pro forma operating margin and flat revenue in the quarter, revenue side would get you there. Are you implying that you expect flat revenue for the quarter revenue? So basically '09 revenue of around 70, 80 is that or you are implying and saying that?
No, what we are trying to say is that we're not giving any revenue guidance, but we wanted to give enough direction to people on other types of things and they can make their own assumptions. We just felt in this environment, it's just not prudent to give revenue guidance.
Mike Olson - Piper Jaffray
Okay, so you are just saying, if it was flat, it will be 6% pro forma margin.
Yeah, even if it was down a little bit from flat, it would do. We could probably still hold that number. So from a sensitivity standpoint, we can manage so even if it was a down a little bit from that.
Mike Olson - Piper Jaffray
Okay. Thanks very much.
We'll take our next question from Ben Hunt with Iridian Asset Management.
Ben Hunt - Iridian Asset Management
Hey, thanks. How do you intend to get your cost under control and return this company to profitability?
Well, you know, I think it’s a matter of getting them under control. I think we took those substantive efforts and Ken, has provided a little of that bridge although we didn't talk about it. The reduction for Salon, the restructuring we did back in October is an example of the $50 million year saving. And there are several other initiatives with our cost of goods, that we talked about during the year were continuing.
We've centralized our manufacturing operation, which is a significant saving to our manufacturing overhead as an example. But we didn’t have shared manufacturing between the divisions. There are many efforts along the company so, we’re going into this year and as we've chatted about before the restructuring that we announced in October does trail a little bit and Ken quantified that in his comments a little bit into the first part of this year.
But we are waiting to get our cost under control. We found ourselves in the economic headwinds that we are actually better prepared than most because we’ve already entered into, of course, during the first half of the year planning process so that we could execute in a very thoughtful manner and also execute very quickly rather than rein as many company have been doing till the first quarter of this year.
Ken, do you want to provide any additional?
Sure. So to give you an example of some of the things we’ve done to date that if you actually went back to the first quarter of this fiscal year, the run rate on non-GAAP expenses was sitting at a $109 million for that quarter and we brought it to down to $97 million by the end of the fourth or in this most recent quarter that we reported.
And we've previously stated that with the adjustments that we’ve made in the fourth quarter, some of which aren't fully implemented until at the end of the first quarter of next year and into the beginning of 2009 that we expect to get the operating expense run rate down below the levels even that we've reported here for the fourth quarter. So we'd expect that we'd be dropping down into the low $90 million range by the second quarter of this coming year.
So, why don’t we end? I might just thank all of you for joining us today. Should you have any further questions, all of us will be available for follow-up after today’s call. We look forward to speaking with you next quarter. Thank you, all.
Looks like, we have no further questions at this time. Once again, that does conclude today’s conference. Thank you for joining us and have a wonderful day.
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