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Executives

Kevin Bisson - Chief Financial Officer

Bill Styslinger - President and Chief Executive Officer

Yvette Kanouff - Chief Strategy Officer

Martha Schaefer - Director of Investor Relations

Analysts

Greg Mesniaeff - Needham & Company

Lawrence Harris - C.L. King

Blair King - Avondale Partners

Johnny Brown - Stevens

SeaChange International Inc. (SEAC) Q4 2009 Earnings Call March 12, 2009 5:00 PM ET

Operator

Good afternoon. My name is Philip and I will be your conference operator today. At this time I would like to welcome everyone to the SeaChange year end fourth quarter fiscal 2009 earnings conference call. All lines have been placed on mute to prevent any background noise. After the speaker’s remarks, there will be a question-and-answer session. (Operator Instructions)

Ms. Schaefer, you may begin your conference.

Martha Schaefer

Thank you, Philip. Good afternoon everyone and thank you for joining us today. As Philip just said we’ll be discussing the financial results for our fourth quarter and fiscal year 2009. The press release went out about an hour ago and is available on our website on the Investor Relations page.

Before we begin, I would like to remind you that the information we’re about to discuss today may include forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995. These forward-looking statements are based on current expectations, but are subject to a number of risks and uncertainties that may cause actual results to differ materially from expectations.

These risks are outlined in our SEC filings including our Annual Report on Form 10-K filed April 14, 2008. Any forward-looking statements should be considered in light of these factors. Any redistribution, retransmission or rebroadcast of this presentation in any form without the express written consent of SeaChange International is prohibited.

Our format today will be as follows; Kevin Bisson, our CFO, will review our financial performance. Then Bill Styslinger our CEO will provide an overview of the quarter. Yvette Kanouff, our Chief Strategy Officer is joining us today with an update on our corporate strategy. Yvette will speak after Bill and she have some slides to help you walk through that strategy. The slides are available on our IR website and we will be left off along with the replay of this call for those who access it later. Following our prepared remarks we will be happy to take your questions.

At this point I’d like to hand this call over to you Kevin.

Kevin Bisson

Thanks Martha and good afternoon everyone. Turning to our fourth quarter financial results for fiscal 2009, revenue for the fourth quarter amounted to $54 million, which was $6.2 million or 13% higher and total revenue were $47.8 million recorded in the fourth quarter of fiscal 2008.

From an operating segment perspective, revenue from our Servers and Storage segment for the fourth quarter was $17.7 million, which was $5.8 million or 49% higher than revenue of $11.9 million for the fourth quarter of fiscal 2008. The increase in Servers and Storage revenue in the fourth quarter of fiscal 2009 compared to the same quarter in fiscal 2008 was driven by increased shipments of VOD servers particularly of our newer flash memory VOD servers to three of our largest North American based cable television customers, as well as VOD server revenue tied to customer acceptance received from a Russian customer during the fourth quarter.

Our software segment generated revenue of $32 million for the fourth quarter, which was $1.1 million or 4% higher than revenue of $30.9 million for the fourth quarter of fiscal 2008. The increase in software revenues between years was principally the result of higher Axiom related software licensing revenue from our largest cable television customer and from the aforementioned Russian customer as well as higher maintenance and software installation revenue partially offset by lower Comcast software subscription revenue.

The Media Services segment total revenue for the fourth quarter of $4.2 million, which was $800,000 lower than revenue of $5 million generated in the fourth quarter of fiscal 2008. The year-over-year increases in revenue from customer contracts secured in Greece and Turkey along with the initial quarter’s revenue from our fourth quarter acquisition of Mobix, where more than offset by the impact of the depreciation of the British pound compared to the U.S. dollar since the fourth quarter of fiscal 2008.

More specifically if the pound versus dollar exchange rate in the fourth quarter of fiscal 2008 had remained the same in the fourth quarter of fiscal 2009, year-over-year dollar denominated revenue would have risen to $5.7 million, which would have represented a 14% increase over the $5 million dollars of revenue generated by the Media Services business unit for the fourth quarter of fiscal 2008.

Geographically, revenue for the fourth quarter of fiscal 2009 included 66% in North America, 25% in Europe, Middle East and Africa, 7% in Asia Pacific and 2% in Latin America. Consistent with previous quarters, Comcast and Virgin Media were 10% for greater customers in the fourth quarter of fiscal 2009.

Revenue for all of fiscal 2009 amounted to $201.8 million, which was just under $22 million or 12% higher than the $179.9 million of revenue generated for all of fiscal 2008. Revenue growth in fiscal 2009 compared to fiscal 2008 derived mainly from higher VOD software licensing and advertising insertion revenue with North American based cable television and telecommunication’s companies along with significantly higher maintenance and field installation revenues tied to increases in the installed base of our VOD and advertising software.

Total gross margin of 51.4% for the fourth quarter was 1.8 points higher than total gross margin of 49.6% for the fourth quarter of fiscal 2008. Looking at gross margins by business segment, Servers and Storage gross margin of just 50% for the fourth quarter of fiscal 2009 were 6.4 points higher than gross margin of 43.5% for the fourth quarter of fiscal 2008, do principally to a greater proportion of VOD flash memory servers shipped in the fourth quarter of fiscal 2009, compared to the same quarter in fiscal 2008, where flash based service generate gross margins accretive to overall servers in storage gross margins.

Software segment gross margin of 57% for the fourth quarter of fiscal 2009 was essentially flat with comparable gross margin in the fourth quarter of fiscal 2008.Higher margins resulting from Axiom related licensing revenue and improved VOD software service margins were effectively offset by lower sales volume related to Comcast software subscription markets.

Media Services gross margin of 15.6% for the fourth quarter of fiscal 2009 was 4.3 points lower than gross margin of 19.9% for the fourth quarter of fiscal 2008. A lower year-over-year gross margin was bur mainly to increased headcount expenses between years and the inclusion of a one time higher margin customer consulting fees in the fourth quarter of fiscal 2008.

Total gross margin for the full year of fiscal 2009 was 51.2%, which was 6.2 points higher than the 45% gross margin generated for all of fiscal 2008. The increase in gross margin in fiscal 2009 compared to fiscal 2008 was due primarily to a larger proportion of higher margin, Axiom related software revenue, improved VOD server margins tied to increase flash memory server shipments and charges taken in the second quarter of fiscal 2008 related to company wide cost reduction actions.

Operating expenses for the fourth quarter amounted to $23.8 million, which was $1.6 million higher than the $22.2 million of operating expenses incurred in the fourth quarter of fiscal 2008. The increase in operating expenses between years reflected higher headcount related R&D expenses in the VOD server and software product lines as well as higher sales commissions due to the year-over-year increase in revenue.

Reported operating expenses for whole of fiscal 2009 of $93.1 million was $4.1 million higher than operating expenses of $89 million for fiscal 2008. Higher selling expenses due to higher sales commissions increased travel and additional headcount were partial offset by lower amortization of intangibles related to the sale of the company’s equity interest in FilmFlex in the fourth quarter of fiscal 2008.

Other expense of $500,000 for the fourth quarter includes $700,000 of foreign exchange translation losses incurred by the company related to its foreign subsidiaries, excluding ODG that utilized the U.S. dollar as its functional currency for financial reporting purposes. These translational losses for the fourth quarter were caused by the strengthening of the dollar compared to the local currencies of these subsidiaries, particularly our non-ODG UK subsidiary. These translation losses were partially offset by interest income earned on our investments in the fourth quarter of fiscal 2009.

The company’s effective tax rate for fiscal 2009 was 5%, which was driven mainly by the reduction in the company’s valuation allowance against its deferred tax assets based on the utilization of foreign tax credits related to the FilmFlex transaction. This foreign tax credit utilization for fiscal 2009 resulted in the recording of a $1.5 million tax benefit for the fourth quarter of fiscal 2009.

Net income for the fourth quarter of fiscal 2009 was $4.8 million, which was $7.2 million lower than the $12 million of net income generated in the fourth quarter of fiscal 2008. To recall that net income for the fourth quarter of fiscal 2008 included the $10 million gain on the FilmFlex transaction.

The corresponding earnings per share on a fully diluted basis for the fourth quarter of fiscal 2009 of $0.16 per share was $0.26 per share lower than the $0.41 per share earned in the fourth quarter of fiscal 2008. Again the gain on the FilmFlex transaction contributed $0.34 per share in earnings for the fourth quarter of fiscal 2008.

For all of fiscal 2009, the company earned $10 million compared to earnings of $2.9 million for all of fiscal 2008. Again as noted earlier, fiscal 2008 net income included the $10 million gain related to the FilmFlex transaction.

Corresponding earnings per share for all of fiscal 2009 was $0.32 per share, compared to earnings of $0.10 per share for fiscal 2008 and as mentioned earlier, the gain related to the FilmFlex transaction contributed $0.34 per share to the reported earnings per share for all of fiscal 2008.

Now turning to the balance sheet, the company ended fiscal 2009 with cash and investments of $85.8 million, which was $6.1 million higher than the $79.7 million of cash and investments at October 31 2008, the end of the company’s third quarter of fiscal 2008.

Cash flow for the fourth quarter of $6.1 million was driven by $8.1 million of cash flow from operations, as measured by the quarter’s net income and adding back $3.4 million of non-cash depreciation, amortization and stock compensation expense.

In addition, improvements in working capital management were partially offset by $2.5 million of capital expenditures and $3.2 million related to the first payment in connection with the Mobix acquisition that was signed in the fourth quarter.

I’ll now turn it over to Bill.

Bill Styslinger

Thank you, Kevin and good afternoon everyone. We had a very good quarter of $54 million. We’re satisfied with net income performance of $4.8 million or 9% of revenue. Even though this was helped by a tax benefit, this was progressed towards our goal of consistently exceeding 10% net income.

Wasn’t for the global economic turmoil and adverse exchange rates are causing international customers to defer capital purchases, we’ve would have done even better. Not a very satisfying accomplishment with exceeding $200 million of revenue in threshold., contribute to our bottom line performance in the fourth quarter where gross margin of 51.4%, this achievement generally resulted in three of the four quarters of fiscal 2009 having gross margins in with the excess of 50%, but also led the gross margins of 51.2% for the year, a record for the company.

Clearly the company’s strategy of focusing on a business, our entire margin software products and services, and complementing these offerings with improved gross margins on the hardware business pay offs. Sequentially, increase in net earnings throughout the year led to a full year net income of $10 million or 5% of revenue or $0.32 per share. You also should be aware that 50% of revenues last year were recurring and that portion will grow in FY’10.

In addition, we strengthened our balance sheet in the fourth quarter by generating over $6 million dollars in cash, leaving the company with nearly $86 million in cash at year-end and of course no debt.

Including investments in our Media Services business through an acquisition and a facility purchase along with investments in our stock to our share buy back programs, the company generated $80 million cash for fiscal 2009.

We expect to be using some of this cash with today’s announcement of the redemption of our $20 million stock buy back program. We believe our stock is the compelling investment at current prices and we intend to act on that conviction and if customary. As it customary I’ll spend the next several moments discussing business segment highlights related to our financial performance in the fourth quarter as well as our financial guidance for fiscal 2010.

I will then turn the call over to Yvette who will discuss SeaChange’s strategy to help our customers with their desire to merge the distribution of television and the Internet.

Our Servers and Storage business driven by flash server shipments saw a substantial growth in the fourth quarter with revenues of $17.7 million up 49% from last years fourth quarter revenue of $1.9 million. Flash server shipments increased dramatically year-over-year to three of our largest North American cable television operators. In addition, the service and storage business benefited in the quarter from VOD service shipments to our largest telecommunication customer and to a new Russian customer.

As a percent of revenue growth were into the fourth quarter this year for the service and storage segments, we were more impressed with the gross margin performance of this business. Note that 50% gross margins in the fourth quarters speak not only to improve into manufacturing service cost, but also to the value proposition of our flash servers to our customers. At this part in achieving margins that are accretive to our overall server and storage gross margins.

Just as important is the reliability of flash servers, we have now approximate 10,000 flash drives in the field and they are exceeding our expectations or reliability. The software business segment by far, our largest operating unit generated $30 million in revenue in the fourth quarter was up 4% from last years fourth quarter.

We increased product revenue for Axiom software particularly with our largest U.S cable television customers. In the case one of these customers Cox Communication, our software businesses benefited from new acting appointments in the fourth quarter.

We converted five sites, in a competitor software product Axiom. Over the last five quarters, we’ve converted 14 Cox sites through Axiom as part of Cox’s plan to standardize as far as software platform with SeaChange.

In fiscal 2010, we expect to license more Axiom’s software to Cox or a combination of site conversions of competitor software and expense. The software business continues to be favorably impacted in the fourth quarter on the strength in the advertising product line. Demand for advertising software during the quarter was driven by the increase in the number of high definition channels for North American cable and telecommunication services.

In fact, a largest telecommunication customer contributed roughly a third of the $9 million benefits in software revenue in the fourth quarter and we expect additional orders from this customer in the first half of 2010.

Our Media Services business units continued its diversification drive in the fourth quarter. With a ramp up of revenue for new contracts of customers located in Greece, Turkey and Germany along with the partial quarters impact of Mobix, results 42% of the Media Services business units revenue in the fourth quarter came from the customers of two years or less with ODG compared to 28% in the fourth quarter of last year.

This development will particularly helpful in recent quarters as the depreciation in the British pound relative to the U.S dollar that had a significant, negative impact on reported revenue for the Media Services business unit. In fact, while Media Services revenue for the fourth quarter was 14% higher on a local currency basis compared to the fourth quarter of last year, the 26% depreciation of the pound compared to dollar caused a decline in revenue on U.S dollar basis.

Regards to currency development we expect Media Services revenue growth in fiscal 2010 to be fueled by increased revenue from these, and new contracts as well as a full year impact from Mobix. The operating leverage within our business is a fundamental strength for SeaChange. We have discussed for a number of quarters, we have been almost religious to our devotion to migrating to a more software based business model and that has produce steady increase in gross margin.

While this product mix shift has been important in contributing to gross margin improvements, it has not been the only contributor. Our Servers and Storage business particularly our flash server product line has enjoyed significant gross margin improvements capped by a gross margin of nearly 50% in the fourth quarter of 2009.

A tow pronged approach of balancing expense growth with new and innovative product offerings such as our first to market flash server has put this business in a position where its gross margin performance is approaching our company wide long term goal of greater than 50% gross margins. We can generate and will generate respective returns for shareholders from our hardware business in addition to our software business.

Turning to our guidance for fiscal 2010, we are concerned about the disarray in a global financial markets crippling to our industry. The impact of the economic turmoil on our customers capital expanded plans for fiscal 2010 is cloudy. This lack of near term visibility forecast the declines in revenues for add and search and related margins, and on favorable impact of the strengthening dollar with our non-US customers, proms us software guidance for the first half of fiscal 2010 to be comparable with revenue levels for the first half of 2009.

As mentioned in our press release we are cautiously optimistic that we will see second half top line growth compared to the first half leading to a top line growth for the year. We are optimistic about growth in a difficult environment for several reasons. First our recurring revenues are surely grown to something in a neighborhood of $120 million, thus setting up the very strong possibility of total revenue growth.

We see continued expansion of VOD, during this tough economic time. People are more likely to look for entertainments at home. We have new products coming in the second half that help operators make better use of their existing resources and help differ other larger capital purchases or reduce operating expenses. These products are already developed in good interest among our exiting customers and our position in our accounts is strengthening versus our competitors.

We also expect to be profitable in the first six months of fiscal 2010, driven by an increased emphasis on VOD software driven margins that are combined with minimal operating expense growth. Before I turn the discussion over to Yvette, I want to point out, that our customers spending plans for fiscal 2010 may be a bit opaque at this juncture.

We feel confident that our new plan become firmer, no company is better suited to exploit these plans in SeaChange. Why? Because the key service providers who have been and will be purchasing VOD service software are in most cases SeaChange customers and our relationships with these customers have never been stronger. For example our Comcast for our hardware and software purchase equipment was renewed for two years.

Recently, we filed a five year purchasing agreement with our largest telecommunications customers for the purchase of VOD and advertising products and services. We also extended a VOD middleware development agreement with our second largest customer through 2011. Pointing to that example in orders to demonstrate not only the statue of our customer base relative to current VOD developments, but their commitment to SeaChange as it plans the VOD infrastructure for the future.

I will now turn the discussion over to Yvette.

Yvette Kanouff

Thanks Bill. We have received a lot of comments and questions on how SeaChange fixed into a landscape of internet video providers, mobile video providers and new content type. So we though it would be valuable to share a little bit of our vision, corporate strategy and product strategy with you on the call today. I have some slides to help us out so if you wouldn’t mind taking a look at slide one on our website we’ll get started.

The first point I’d like to make is that we separate the video world into three categories. The first is represented on the left side of the slide, the Content Creators. Here we have traditional Content Creators like Disney and the Network Providers that have their own content like HBO.

The providers create the content that then has to be distributed which brings us to the middle of the slide which represents the Content Distributors, and as you can see there are so many distribution means from DVD sales at Wal-Mart, to DVD rentals at Block Buster or Netflix, to Media Company, such as Comcast, and more recently various Internet delivery companies such as Hulu and Joost.

So regardless of which means you prefer they all represent a means of getting content to the right side of our slide, the consumer. I want to point out these three categories as they help us shape the landscape of the remaining slides and they’ll help explain our strategy, our partnerships and our various products. So let’s move on to slide two.

What I’d like to do on this slide is focus on the middle of the prior slide, the Content Distributors. Being a Content Distributor or media company isn’t easy, so let’s start with a simply view of a video store, where there is a manual responsibility of hanging posters on the right date, stocking the shelves on the proper release dates, in some cases removing posters on the proper deletion date and most importantly, tracking the proper sales and the rentals for the purpose of providing reports back to the left side, the Content Creators.

So it’s pretty easy to visualize this when movies are sold or rented, but for broadcast channels and multi-channel media companies, the process becomes really complex. Manually loading content on the servers for streaming, manually typing the information such as pricing and actor name, manually adding content to a program guide or a web user interface reviewing, manually deleting the content, creating usage reports, creating streaming reports of usage trends and so much more, all that has to be automated. This is exactly what we do.

So our software handles the movement of content intelligently, locally, as well as across large multi-country stand even. It handles the licensing, metadata, content management and the content life cycle management. It handles billing, it has a reporting with incredible flexibility, it handles regulatory for rental control issues, it manages bandwidth and business rules and the use of such bandwidth, it inserts advertising intelligently and a whole lot more.

Then we have the hardware that allows the content to be stored in high quality and played out by content providers using our broadcast systems. We have hardware that can be centralized and distributed for storage and streaming in support of the distribution component of the slide; and then we have the storage and streaming at the edge of the network close to the subscriber. We license and manage content delivery to help operators with linear and non-linear program offerings through ODT and then we’ve now expanded that offer to deliver advertising and content on mobile platforms as well.

So finally, we have a significant software offering in the home, including sophisticated middleware with our TV product and add on user interface products such as VOD link and gaming. So if you take that whole vision, we continue on top of that, to innovate working on advanced storage management delivery, search and recommendation across new platforms and I’ll talk about that in a little bit.

So we’re up on that slide; I would like to move despite three, four and five. Each of these describes how the left side of the original slide, the middle and the right side, all three of our base categories [Inaudible].

So on slide three, we can see how the content creators are changing. For example, contents no longer are licensed. We now have a world where the consumer is actually the content creator himself or herself. So we have user generated content, studio content, programmer content, sports content and so much more. So this creates additional complexity in storage, bandwidth management, rights management, creating a whole more need to advanced automation solutions and again that’s exactly what we do.

So the second point on this particular slide number three is that we have so many devices that we need to support. So we can’t assume that video’s only going to be watched on the television set or that data is only going to be viewed on a computer. Content isn’t just limited to video and it has to be available to set-top boxes or television, to computers, PDAs and cell phone.

So today, we see a significant amount of distribution duplication to these; in other word the contents deliver in different formats to different devices or with different means and this four screen delivery has a lot of automation work that the industry is looking for us to deliver and develop. So obviously, this is a big part of our strategy, software and hardware both and the opportunity for our strategically can easily be seen.

So if we move on to slide number four, we see yet another change; this time in our content distribution area. Instead of the HBO and Block Buster and instead of the Comcast and Direct TV, we are now seeing new content distributors using the internet delivery mean. We have the store, we have the dedicated networks like satellite and cable networks, we have the internet and we have mobile network. At I’ll add the additional complexity that many times isn’t even seen.

In many cases the networks are combined and you actually have satellite, and cable, and internet, all in delivery pack of your content, and all this additional growth is great for a solutions company like SeaChange because of the delivery complexity, there’s so much content available. Content providers like NBC and ABC now have their own website for content distribution such as Hulu and TV.com.

Apple TV sells their content on iTunes and has a box that you can buy for your home, view it on your own TV, but iTunes and Hulu don’t come close to the content available on your cable service. Other services even have HD and that sometimes take hours to download if you would like to download a piece of HD content, and really HD over cable, super quality with instant gratification. I’m sure you agree that hundreds of channels and thousands of movies with the mixture of SFP and HD via cable remain a great offerings in television today.

The point that I’m trying to make here is that all of these distribution means are important. Contents expanding and that’s fabulous for us, because it means more complexity that needs to be managed with our software and more storage and delivery opportunity. It enables more services for our licensing on ODG, as the licensee becomes more and more complex.

Sometimes there is market confusion about having so many different choices, but keep in mind 40% of internet streaming is to preview movie trailers, 42% is consumed with user generated content. So full length linear and on demands video is primarily watched on the television as the device. Look for example at Comcast offering with standcast, as well as the Comcast video service for television. We need all these devices and we need all these user interface options.

Our society wants and needs more. There will not be [inaudible] and that’s not really the right question to answer. The real question is, I wonder can all of this content be viewed and managed and again that is exactly what we do. With our software we are allowing non-managed networks, such as the internet to interact seamlessly with managed network.

We enabled multiple home devices to communicate and share content and we enabled user interfaces that show content from various sources. This evolution of content delivery types and viewing platforms is a strategic opportunity for us, as it takes advantage of our core competencies and our current market share.

So this brings us to slide five; I’ll touch on this just to show you one big area in which our industry is still evolving, the home. On the prior slide we talked about various new devices, mobile and for the home and how do they all interact. So there’s lot of companies looking to build devices, gateways that allow sharing of the information within the home and listed here are some of the in-home specifications that are actively discussed and evolving and obviously, we stay closely involved with all of these, because we build in-home software and applications to take advantage of media sharing between devices and we plan to continue to do so.

So, let’s continue on to slide six here, where I’d to begin summarizing our strategy. This slide changes the view from our three categories of content distribution in consumer, to instead look at this network centric picture. The content providers are still on the left, consumers are still on the right, with a Content Distribution Network or a CDN and various edge networks in the middle area of the slide.

The CDN might be a part of the internet or it might be managed by cable operator, in many cases there are content distribution services like CMC and the TVN that offered network distribution services to a company at the edge. There is also content distribution and optimization services like Alchemy that offer such services to content providers.

Cable and telephone companies were actively becoming CDN vendors themselves and we are playing a major role in that. So, you can see that the distributor area can have multiple layers even of companies on the network infrastructure side and this is important for us, because the management of content as it flows from place-to-place and from company-to-company is critical.

The other key element here is advertising. When, where, how and with what logic advertisements are inserted into the network. We have software that manages the content all the way through the network, from content provider to the subscriber. This is our fore takes; this is where we have the relationships in market penetration and where we see us having great opportunities for growth as these networks become more tiered and more complex. So, let’s go through some of our product and how they overlay on to this network picture.

If we move to slide seven, we see the products that we offer to the content providers on the left side. We have various software product that enable live and off-line ingest and recording. We have management tool and software that allow content providers to see other content and how their ads are being distributed or used. We also self-storage and play to aero systems that are content providers, programming companies and televisions station.

Then, there of course our service company including the on demand group and Mobix who deal with the content providers all the time to acquire content and license of the media companies throughout the world. Okay so that’s it for the left side.

If we move to slide number eight, we see some of the end user products that we built. We have our middleware products including multiverse, TV navigator and VOD link. We have our application product such as GameNow and DVDNow, and we also have several PC software packages, providing shared services between the various devices and providing applications such as enabling search and recommendation tools on the PC, then enabling these to be viewed on the television set.

I have also listed here several of our mobile applications that you’ve seen; one of my personal favorite demonstrations is where we show the content being managed behind the scenes in this one unified fashion and we show the content on browsing menus and streaming to four or five different devices seamlessly, I don’t know if you’ve seen that one, but maybe a trade show; it’s one of our best ways to display common management across all these different devices.

So, now moving onto slide number nine, you can see how our storage and streaming solutions fit in. In large CDNs, we have very high density storage, time shifting and streaming solutions where we support both reactive and proactive movement of content. Then at the edges of this CDN, we support storage and flash memory based streaming devices, with live or offline ingest capabilities. Here, we also support internet cashing and time shifted solution.

Then finally on slide number 10, you can see our CDN software solution. This goes back to the complexity that we described in a lot of detail on slide number two, managing the content information and life cycle; managing the network landscape and where content needed to go and not there why and when; managing quality banners, business rules, rental controls, digital rights; understanding advertising, both linear advanced insertion, where to place ads throughout the streaming process; and then of course the tracking of all the engineering, business information, which ends up being one of the most valuable additions of our software, is having all of that information.

Our software has grown to represent 50% of the company’s revenue and we’re pleased with our leading market share in this area, with our customer planning discussions and also with our revenue outlook. As you can see from the increased market growth and complexity described here, there’s certainly a lot of opportunity for us.

There is so much that I could cover here; I’ve tried to keep it to a description of how our products fit into the overall market strategy. Last year, we provided you with market growth factors and hopefully this helps to show how mobile and internet trends fit in to that overall vision. We believe in three main factors; first, content continues to grow; second, content distribution continues to grow; third, consumer devices continue to grow. The reason all three of these are important is that we believe that there will be no single winner.

Think about it. Everyone is not going to end up watching only one content provider on the left side, nor is everybody going to get their content from one single source in the middle distribution area and thereby limit what they can access, nor as everybody going to have one all encompassing device to deliver content to, as opposed to moving from device-to-device. So it’s the mixture that causes us to succeed, as companies need software and hardware to manage though the inoperability and automate the complexities.

We strongly continue to believe in this anything-to-anywhere vision and we’re happy to see that this is continuing to involve and of course most excited to be an active part of making it happen.

So with that I’ll turn it back to you Bill.

Bill Styslinger

Thank you, Yvette. I need to mention that Yvette is Chair of this year’s emerging technology conference at the National Cable Show in Washington D.C. in April. Much of what will be discussed there will be the evolution of networks and IP services. She’s also on the CIO panel, the Chief Information Officer panel and she is moderating the advanced advertising session. I think this is a good opportunity for me to thanking you publicly Yvette for your industry leadership and express our appreciation for how well you’ve done.

Also, I’d like to add just something that Yvette said; we iterate the concept that all of these services are good for us and like to add that most of our major customers are at active discussions with us on enabling the management of multiple devices with our software’s and our platform and enabling the support of more and more contents to our products. With the acquisition of Mobix, we are now an active part of the four screen environment and we’ll continue to focus on that throughout the year, so look for more updates on that front from us.

Looking at events, slide number six, we see the opportunities to sell product solutions to the content providers; the CDN cloud; the edge cloud and the consumer devices. As our customers become CDN providers themselves, we are in active planning stages with them to be in all four areas I just mentioned.

We are very fortunate to have the relationships we have, to be so upward in each of these areas of the end-to-end merge network. The economic outlook isn’t too good, but television remains strong and although it might not be a year of big revenue growth, we are looking forward to a good year of revenue profit market share leadership and innovation.

With that, I’d like to open up the line for question.

Question-and-Answer session

Operator

(Operator Instructions) Your first question comes from the line of Greg Mesniaeff - Needham & Company.

Greg Mesniaeff - Needham & Company

Let me start with a real simple house keeping question; what kind of guidance can you give us regarding tax rate for modeling purposes?

Kevin Bisson

Yes, I think obviously from fiscal ’09 it’s unusually low. I wouldn’t anticipate that we would strive towards a normalized rate in the mid 20% range.

Greg Mesniaeff - Needham & Company

And Bill, can you give us some color on Verizon and any recent activities there to the company?

Bill Styslinger

Yes, I’ll tell you with one of our largest customer there we just signed a multi-year agreement. Before that agreement we were represented by our competitors Motorola and Cisco and so it was a bit of challenging environment for us, because it wasn’t in their interest that properly represent our products and I think Verizon discovered that and our relationship now is in very, very good shape for the long time.

Greg Mesniaeff - Needham & Company

Great, also when you look at some of the new business opportunities in front of you, do you find that a lot of your customers tend to buy systems that are bundled both with the NexGen hardware, the flash based hardware, as well as Axiom or are you finding that the percentage of customers choosing Axiom, but maybe going with a third party hardware vendor is higher. I mean, can you give us some directional color on that?

Bill Styslinger

That’s an interesting question from a couple of perspectives. We have universally opened up our software for competitors in our base, but the interesting thing is that our base is hardly moved at all from SeaChange and so our new products are very competitive, advanced and use of flash. Flash is very reliable. There are no moving discs at the edge of the network right, that’s a very important feature. We are very competitive in terms of price. So, in our base there is a variable movement despite it being opened up.

Greg Mesniaeff - Needham & Company

So, in other words you are finding that a very significantly high percentage of your customers are opting to bundle both the hardware and the software, even though they don’t have to?

Yvette Kanouff

Actually I’ll try to answer that a little bit differently. I think what Bill is trying to say is that our customers are making their purchase decisions completely separate. They are not bundled products, because the majority of the time the Axiom software is being purchased completely separate of the video server products, but the same customers choosing both platforms just completely under separate terms, as opposed to as a bundle product.

So, where as the strategy used to be that we would price them together and say buy them as a bundled deal, today they are completely separate and the customers are just selecting each of them on their own. So, it’s a nice situation for us.

Greg Mesniaeff - Needham & Company

Right, and as they select them on their own, you’re still finding that on the percentage of customers that are buying both hardware and software is rather high, right?

Bill Styslinger

Yes, that’s correct. Greg, I’d also point out that the bundle is also a very powerful tool for us right for establishing new accounts. We’ve been partly successful in the year by establishing two important new Telco network camps in Europe and Asia or Middle East and Asia, where we bundled not only our vacuum software in our service, but also our set-top box software, our professional service business units, so that we can offer complete end-to-end solution in selling the media system.

Operator

Your next question comes from the line of Larry Harris with C.L. King.

Lawrence Harris - C.L. King

Perhaps you could provide any sort of commentary in terms of when these new customers would represent 10% or 20% of total revenue, as opposed to say your traditional customer base?

Bill Styslinger

I think the general trend, if we change without really knowing the specific numbers and it will be lumpy quarter-by-quarter or lumpy year-by-year, but the general trend is the weight from the U.S customers as a percentage.

Lawrence Harris - C.L. King

And you would be marketing these products to the Hulu’s and the others of the world?

Bill Styslinger

The products can be sold to Hulu’s and others of the world and we do have an organization that sells to those kinds of firms, that produces the content by and large, right, and that’s doing business for us and doing quite well. Our principal customers in the distribution of content, of course we’re skilled particularly in high end and video, which is the most rapidly growing segment are the service providers and we’ve got a service provider as well. It is a very strong player in the future for content distribution.

Operator

Your next question comes from the line of Blair King - Avondale Partners.

Blair King - Avondale Partners

I have just a couple of quick ones, Bill and Yvette maybe detailing on your discussion at the end there. Given a lot of talk about recently by Comcast and Time Warners, specifically moving video content to an on-line subscriber base, to their personal computers or cell phones or what have you, what in your view would be the ultimate monetization tool on a product like that from the Comcast and Time Warners.

Bill Styslinger

Yes, why don’t you go ahead, because you’re particularly close to those accounts.

Yvette Kanouff

I think I can really appreciate that question, even beyond the two customers that you mentioned, right? It’s what everybody is really looking at. Everybody knows it’s interesting, everybody knows it’s wanted, but at the end of the day what’s that business model going to be.

So if you look at Comcast and you look at the amount of content there, its monetization is really based on being a Comcast video customer and having the television service. So, its monetization is mixed alright. I think that there is a lot of models out there, people are talking about, right. Targeted advertisements and ad supported models, but at the end of the day the ones that we seek that continue to popup are the ones that you have this service and I’m going to allow you to take it with you.

I think that’s where I see the industries looking and where things really stick. It’s not that they are not looking at advertising supported models, because they are and they are looking at advertisement across platforms, but if you follow some of the timelines and some of the CTO comments about when that’s going to happen and what the priorities are for projects like the new ventures, I think the short-term vision is really to be able to have content and have it on many devices, because you are have customer, as opposed to because that have it’s own business model. Does that make sense?

Blair King - Avondale Partners

Yes it does and thanks for the explanation. When you see short-term, is it something we might see towards the end of this year? I guess the whole notion of targeted advertising and the actual services that these guys might roll out; in other word, is it possible for us to be a Comcast subscriber and access video on our cell phone or the computer even this year?

Yvette Kanouff

Well, the computer and the television sets exit today, so that is something that we can do. I think that we’re going to see mobile shortly. I think as far as advertising, we are currently doing separate program, advertising by device as a separate project.

I think it’s been quite up there, the operators have been quite public about fact that they are planning to merge that more, probably not until next year and probably we won’t see that this year; merging across platforms, because there’s just so many priorities as far as infrastructure first more than the advertising merchant there.

With that said, internet content, being able to provide recommendations and share the recommendations across platforms, I think you will definitely see that this year. You will see advertising, may be not merged across devices and then I think you’ll see more and more consolidation in emerging across services even next year.

Blair King - Avondale Partners

Okay, it’s interesting. Thank you very much for the clarification; maybe just a couple of more quick questions if you guys don’t mind, and it’s a sort of a house keeping question as well; I think Kevin you had mentioned that SeaChange had two 10% customers this quarter, Virgin Media and Comcast?

Kevin Bisson

That’s correct.

Blair King - Avondale Partners

Last quarter, I think in the 10-Q there was a third customer in there, that was a 10% customer, and so I’m wondering is anybody close to this quarter outside of those two.

Kevin Bisson

Close, not over the line at this point, but close.

Blair King - Avondale Partners

Okay and then I think Bill on the second quarter call you had talked a lot about telecom and I though may be they might be a 10% customer at some point in fiscal year 2010. Is that something that’s still on the radar or you think they might end up in that category this year?

Bill Styslinger

I’m looking forward to given that to Kevin. There is a matter how we ended the current on the third telecom deal. It’s the only big deal that’s here, but the revenue for one reason maybe spread over the next couple of years, including this year.

Blair King - Avondale Partners

Okay. All right and then just looking through the area, Kevin did you say you think that SeaChange can reach the 15% operating target?

Kevin Bisson

I probably should refer that to Bill, but I think it will be a challenge, but we are certainly striving towards it and obviously as alluded to, the economic environment we will have some impact, but I’ll let Bill.

Bill Styslinger

Yes, I mean I think we have to be very careful here, right, because this is a very difficult economic period. I think we are in a pretty solid position to show some growth right. I think improving the margins, that’s going to be a challenge this year.

Blair King - Avondale Partners

Okay, on the operating side. On the gross margin side then for all of us to kind of assume that gross margins on the hardware PC business that you posted this quarter, can we trend those out or was there something unusual about this quarter, an unusual amount of flash service that was sold. Can we think about the hardware business posting like the fourth quarter through 2009 I guess is the question?

Kevin Bisson

I think it will be close to those gross margins if not all?

Kevin Bisson

Yes, I think that flash will become more and more the norm of our video server offering and obviously that will be helpful from a margin perspective, but again I think we also want to be cognizant not to beat the dead horse, that a lot of this is going to be tied to revenue growth, which arguably we believe we will have revenue growth, but our visibility at this point is still somewhat limited, so I want to caution people on that.

Blair King - Avondale Partners

Yes, is the revenue growth more tied to your operating margin and less your gross margin? Your gross margins are not so much predicated on volume, is it?

Kevin Bisson

Sure.

Blair King - Avondale Partners

But the fourth quarter number is the number you think could continue.

Kevin Bisson

That’s our objective.

Blair King - Avondale Partners

Okay, will it be fair for us to sort of assume at 51% gross margin for 2009 or fiscal year 2010?

Kevin Bisson

That’s up to you.

Operator

Your next question comes from Johnny Brown - Stevens.

Johnny Brown – Stevens

I was wondering if I could just touch back on advertising for a second. How do you account for your advertising software now?

Bill Styslinger

For advertisings we charge based on the number of licenses that we administer or should I say sell to our customers, so it’s on a licensing bases.

Johnny Brown – Stevens

Okay, so licensing based on the number of subscribers?

Bill Styslinger

By and large yes.

Yvette Kanouff

Sometimes its channel based, if it’s linear product based and sometimes its subscribers if its subscriber based; it just depends on what the advertising product itself does.

Johnny Brown – Stevens

Yes. So it perhaps can be viewed on the TV or maybe like the computer or something, is that what you’re saying?

Yvette Kanouff

Well if it’s a linear channel, it’s a time based channel; then its charged based on the number of channels that we have to insert into. On an on demand stream or a targeted advertisement, even if it’s a linear channel for targeted ads then that’s charged at different rate, so logical depending on what it’s inserting into.

Johnny Brown – Stevens

Okay. Then just more in general, I think during the presentation you mentioned that obviously the economic downturn is hurting you guys. You mentioned some order push backs; I was wondering if you could give a little more color on that and maybe magnitude of what you see as push backs relative to just lower demand or lower spending?

Bill Styslinger

Well, it’s hard to separate lower spending from deferrals. Some people have deferral entirely out of the year; like AT&T mentioned a $2 billion capital deferral out of the year, which we are part of that for advertising for us. I think I have to circle back to our general guidance here which is we looked at the four things that allow us to believe we will have some growth in share; in the context of some caution about difficulties of the economic climate and deferrals. So we are fairly confident, particularly because of the large amount of recurring revenue that we’ll have for our growth.

Operator

(Operator Instructions)

Bill Styslinger

Okay. It seems like we’re done with the questions and I appreciate it very much. In closing I would like to thank you for supporting us this past year. It’s been a great year for SeaChange, which its upcoming year has been great again. Content continues to grow, network division options are growing, and devices are expanding if our market share were in a great position to continue to succeed. With that I want you to have a great evening everyone and thanks for being part of our call.

Operator

That concludes today’s conference call. You may now disconnect.

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Source: SeaChange International Inc. Q4 2009 Earnings Call Transcript
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