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Dolby Laboratories, Inc. (NYSE:DLB)

F2Q09 (Qtr End 03/27/09) Earnings Call Transcript

April 30, 2009 5:00 pm ET

Executives

Alex Hughes – IR

Kevin Yeaman – President and CEO

Mike Novelly – VP and Interim CFO

Ramzi Haidamus – EVP, Sales and Marketing

Analysts

John Vinh – Collins Stewart

Ralph Schackart – William Blair

Mike Olson – Piper Jaffray

Andy Hargreaves – Pacific Crest Securities

Steven Frankel – Brigantine Advisors

Paul Coster – J.P. Morgan

Brian Thackray – Deutsche Bank

John Bright – Avondale Partners

Mike Rudell [ph] – Goldman Sachs

Daniel Ernst – Hudson Square Research

Operator

Ladies and gentlemen, thank you for standing by and welcome to the Dolby Laboratories conference call discussing second quarter fiscal 2009 financial results. During the presentation, all participants will be in a listen-only mode. Afterwards you will be invited to participate in a question-and-answer session. (Operator instructions) As a reminder, this call is being recorded today, Thursday, April 30, 2009. And now I would like to turn the conference over to Mr. Alex Hughes, Director of Investor Relations for Dolby Laboratories. Please go ahead, sir.

Alex Hughes

Good afternoon, everybody. Welcome to Dolby Laboratories second quarter fiscal 2009 earnings conference call. Joining me today are Kevin Yeaman, Dolby Laboratories' President and CEO, and Mike Novelly, Interim Chief Financial Officer. In addition, Ramzi Haidamus, Executive Vice President of Sales and Marketing is here to participate in today's Q&A.

On this conference call, we will be making forward-looking statements that include projections of future operating results for our fiscal year ending September 25, 2009; market trends for industries in which we compete, and our expectations and beliefs concerning how those trends will affect our operating results; the capabilities and market acceptance of our products and technologies; and our strategic and operational plans and objectives.

Important factors such as macroeconomic conditions could cause actual results to differ materially from those in our forward-looking statements. These factors are detailed under our section captioned Risk Factors and elsewhere in our most recent quarterly report on Form 10-Q available at www.sec.gov and our website www.dolby.com under the Investor Relations section. Dolby disclaims any obligation to update information contained in these forward-looking statements, whether as a result of new information, future events, or otherwise.

As for the structure of this call, Kevin will begin with an overview of the business and Mike will follow with a rundown of Dolby's financial results. With that introduction behind us, I will now turn the call over to Kevin.

Kevin Yeaman

Thank you, Alex. Good afternoon, everybody. I’m pleased to report strong second quarter results with revenue of $204 million and net income of $69.5 million. Looking at the second quarter overall, we continued to see improved revenue diversification and benefit from our presence in a wide range of entertainment devices. We also showed good progress with new customer wins and achievements. On today’s call, I would like to review these accomplishments and discuss how they fit into our long-term growth objective to increase the adoption of our multi-channel audio formats globally and to pursue new technologies and markets.

Let me start by briefly covering some highlights from the second quarter. In our broadcast market, we saw more European countries adopt Dolby Digital Plus and HE AAC, as they establish their digital TV and high definition TV standards. The Digital TV Group of the UK, the European Broadcast Union, and Slovenia, our first country in Eastern Europe, all announced specifications that call for Dolby Digital Plus and HE AAC in HD devices. This comes on top of recent and similar decisions by France, Italy and Spain.

We are pleased to see countries adopt both Dolby Digital Plus and the HE AAC audio formats into their standards. We believe that each of these technologies offers a unique value proposition. Broadcasters find Dolby Digital Plus attractive for delivering a high-quality home theater experience, while HE AAC enables them to also maximize bandwidth efficiency.

We also offer tools that enable broadcasters to switch smoothly between both formats. At this month’s National Association of Broadcasters Conference, we announced that we will offer Dolby Pulse, the Dolby-certified implementation of HE AAC, which provides enhanced functionality and a consistent multi-channel user experience in the broadcast market. This will also be attractive in other markets such as mobile.

In our gaming market, Kingsoft, a provider of online gaming based in China, incorporated Dolby Axon in its recently released Mission Against Terror. Dolby Axon is a voice technology that enables gamers to perceive where others are in the game so that their voices move with their characters, all in surround sound, making online gaming more real and immersive.

In our mobile market, both Sharp and LG introduced new handset models incorporating Dolby Mobile, with Sharp now up to ten handset models on the NTT DoCoMo network and LG with two handsets shipping internationally.

In our cinema market, we have shipped more than 2,500 Dolby Digital Cinema Servers and 1,000 Dolby 3D systems across 41 countries to date. And in the second quarter, we delivered on our obligation to make these systems compliant with DCI specifications. As a result, we recognized approximately $24 million in deferred revenue related to Digital Cinema in the second quarter.

Moreover, on the operations side, we are improving our efficiency and flexibility in manufacturing by consolidating facilities and moving to the hybrid model. This reduces our cost structure while maintaining our focus on high quality products backed by our strong and trusted brand.

With that, let me turn to discussing how these accomplishments fit into our long-term growth objectives. Our wins in the European broadcast market are examples of how we can continue to drive the adoption of Dolby multi-channel audio formats globally. These wins are important to Dolby for two reasons. First, it is increasing the attach rate of our technologies to global digital TV and set-top box shipments.

While we currently benefit from a very high penetration of the TV and set-top box market in the United States, given Dolby Digital’s adoption and the US digital TV standard, we are focused on increasing our penetration of these devices in Europe. We exited last fiscal year with just under 20% of European television shipments containing our technology. To the extent that we see more countries standardize on Dolby Digital Plus and HE AAC for terrestrial television standards, we would expect to see this attach rate rise over time.

Second, with countries standardizing on Dolby Digital Plus and HE AAC, we are increasing the amount of our technologies and devices such as TVs and set-top boxes. As we continue to grow our adoption in the European market, we are also focused on extending these technologies into the Asian broadcast market and into new delivery platforms such as IPTV, the Internet, and mobile.

Beyond the adoption of our multi-channel audio formats, we are also delivering new technologies to new and existing markets. Dolby Axon is an exciting example of our ability to leverage expertise in brand to bring new technologies to market. With over 300 million players in the online gaming market globally and increasing every year, we are excited about this market. In addition, Dolby Axon represents our first usage-based licensing model.

Similarly, in our mobile market, we are pleased with our progress at NTT DoCoMo, Sharp and LG, and we believe the desire of each to increase the number of handsets incorporating Dolby Mobile is a continued validation of our technology and brand. As we look forward, we are focused on our objective of gaining future Dolby Mobile wins with additional tier one handset makers.

We believe that Dolby Mobile complements the strong position of our HE AAC format in the mobile market. Today, HE AAC is being used by carriers and mobile services such as Vodafone, KDDI, Sprint, Omnifone, and Orange to deliver audio for multimedia files at substantially reduced bit rates. Enabling the delivery of mobile media files at reduced bit rates is a critical value proportion because it translates into reduced network cost for carriers and softer file delivery for consumers.

As I said earlier, we plan to offer our certified implementation of HE AAC, Dolby Pulse. Dolby Pulse will enable operators deliver media files more efficiently. Dolby Mobile enables users to experience more immersive entertainment on their mobile handsets. Finally, we are focused on leveraging our brand, expertise, and industry position to deliver other technologies such as PCEE, Dolby Volume, and High Dynamic Range across new and existing markets.

These accomplishments and activities demonstrate Dolby’s position across the wide range of markets. Looking forward, we expect to face end market headwinds in the second half of our fiscal year, given the economic slowdown and the fact that we typically receive royalties on a quarter lag. It is difficult to say how long this economic slowdown will last or how severe it can ultimately be. But we remain focused on what we can control, and that is leveraging our industry position, brand and relationships to drive the adoption of our multi-channel formats and new technologies globally.

Finally, before I hand the call over to Mike Novelly, I would like to thank him for stepping up and serving as Dolby Interim CFO while we conducted our search on a replacement. He has done a terrific job. As you know, last week we announced that Murray Demo will join us as Dolby’s new CFO. Murray brings a strong track record of accomplishments and leadership in the software industry as an executive and CFO. His experience and background will be invaluable as we focus on continuing to pursue the opportunities that I have outlined today.

With that, I will turn it over to Mike, who will walk you through the financial results for the second quarter.

Mike Novelly

Thanks, Kevin. I’d like to discuss Dolby’s overall financial performance, highlight some of the major drivers for the quarter, and finish with a recap of our fiscal 2009 outlook. Revenue for the second quarter was $204 million, up 18% year-over-year. Second quarter licensing revenue was $160 million, an increase of 7% year-over-year and 4% sequentially. Year-over-year growth was primarily driven by our broadcast market and to a lesser extent our mobile and PC markets, partially offset by a decline in our CE market. Sequential growth was primarily driven by our PC and broadcast markets, partially offset by a decline in our CE market.

In the second quarter, our broadcast market experienced strong growth, both year-over-year and sequentially. We continue to benefit from our technologies being included in the larger percentage of European TVs and set-top boxes. In the US, we benefited from strong shipments of NTIA converter boxes and the initial shipments of digital transport adaptors or DTA devices, as certain cable operators migrate analog customers to digital TV. Television stations nationwide will begin broadcasting solely in the digital format by June 12.

We believe that we have already recognized most of the revenue from the NTIA coupon program. And accordingly, we expect that revenue from NTIA converter boxes will significantly decline during the second half of the year. In the second quarter, our PC market experienced slight year-over-year growth and a strong sequential increase. Year-over-year growth resulted from increased reported shipments of third-party DVD playback software, while the sequential increase was driven by higher third-party DVD playback software shipments as well as increased revenues from Microsoft Vista.

In the second quarter, our consumer electronics market declined both year-over-year and sequentially. Year-over-year and sequential declines were primarily due to lower revenue from standard definition DVD. In the second quarter, our other markets category, which includes mobile, gaming, automotive and Via [ph], experienced solid year-over-year growth and slight sequential growth. Both year-over-year and sequential growth were led by growth in the mobile market.

Second quarter product sales revenues were $36 million, up 130% year-over-year and 101% sequentially. Year-over-year and sequential increases were driven primarily by the recognition of approximately $22 million of deferred revenue related to our Digital Cinema systems as we delivered on our obligation to make these systems compliant with DCI specifications.

Second quarter services revenue was $8.2 million, up 13% year-over-year and flat sequentially. Services revenue increased year-over-year primarily due to the recognition of deferred virtual print fee revenue of approximately $1 million related to the aforementioned completion of the DCI specifications.

Turning to margins, total gross margin was 84%. Our licensing gross margin was 97% in the second quarter. Products gross margin was just under 33% in the second quarter of fiscal 2009. As expected, margins were down sequentially from Q1, primarily due to the recognition of approximately $22 million of lower margin Digital Cinema product revenue and associated cost of sales during the quarter. Services gross margin was 62% in the second quarter, up just over 1% sequentially.

Operating expenses were approximately $67 million in the second quarter of fiscal 2009. This was significantly lower than we expected, primarily due to a gain on settlement from an implementation licensee of approximately $5 million in Q2 ’09. In addition, stock-based compensation was lower than anticipated due to increased forfeitures as a result of the management changes announced during the quarter.

We believe our run rate entering our fiscal third quarter is approximately $74 million. While we have achieved cost savings in many areas during the first half of the year, we expect our R&D expenses to increase in the second half of the year. In addition, some G&A expenses we had planned to incur during the first half of the year have shifted to the second half.

Total restructuring charges in Q2 ’09 were $1.9 million, primarily related to the consolidation of our manufacturing operations. Year-to-date restructuring charges totaled $2.7 million and included approximately $1.8 million related to the consolidation of our manufacturing operations. We expect total restructuring charges to be approximately $6 million for fiscal 2009, which includes approximately $5 million related to the consolidation of our manufacturing operations.

Turning to tax, our tax rate for the second quarter of fiscal 2009 was 35.5%, up 2.5 points sequentially as the first quarter tax rate benefited from the reinstatement of the Federal R&D credit. We continue to expect our tax rate for the remainder of fiscal 2009 to range from 34% to 35%.

Second quarter net income was $69.5 million or $0.60 per diluted share compared to $56.8 million or $0.49 per diluted share for the second quarter of fiscal 2008. Net income reflects stock-based compensation charges of $4.8 million for the second quarter of fiscal 2009 compared to $6.1 million for the second quarter a year ago. Net income also reflects charges related to the amortization of intangibles of $4.7 million for the second quarter of fiscal 2009 compared to $4.1 million for the second quarter a year ago.

Turning to the balance sheet, Dolby finished the second quarter with approximately $810 million in cash, cash equivalents and marketable securities. From operations, we added approximately $33 million of cash and cash equivalents during the second quarter and $130 million for the fiscal year-to-date. Year-to-date cash flow from operations trailed year-to-date net income of approximately $148 million, largely due to a $20 million non-cash gain from an amendment to a licensing agreement in the quarter.

With that, let me turn to discussing our outlook. While we are pleased with our financial performance in the first half of fiscal 2009, we expect our revenue to decline in the second half of the year. As you know, the majority of our licensing revenue is recognized one quarter after licensees ship product to their customers, which means our second half licensing revenue should reflect customer shipments primarily taking place after December 2008, which is when retail sales further declined following the weak holiday season.

In addition, as previously discussed, the first half of our fiscal year benefited from the recognition of deferred Digital Cinema revenue as well as strength in NTIA converter boxes, which we expect will decline during the second half of fiscal 2009.

That being said, we are reaffirming our previous revenue, net income, and earnings per share guidance on the high end, while increasing our guidance on the low end to reflect the strength we experienced during the first half of our fiscal year. Starting with licensing, we anticipate revenue of between $530 million and $570 million in fiscal 2009, with growth coming primarily from our broadcast and other markets, primarily mobile. For products and services we now anticipate revenue of between $120 million and $130 million.

Turning to margins, we continue to expect licensing margins to be approximately 97% for fiscal 2009. We continue to expect product margins for fiscal 2009 to be in the high 30s. We continue to expect services margins for fiscal 2009 to be approximately 60%. We continue to expect overall gross margins for the fiscal year to range from 90% to 91%, which reflects a 3 percentage point benefit due to a $20 million one-time gain, which we recognized in Q1.

Turning to operating expenses, we now anticipate fiscal 2009 operating expense to be between $285 million and $300 million, including approximately $6 million in restructuring charges to be taken in fiscal 2009. In summary, we now expect fiscal 2009 revenue to be approximately $650 million to $700 million. We now expect net income for fiscal 2009 to be approximately $204 million to $222 million and earnings per diluted share to be approximately $1.76 to $1.91.

Reflected in Dolby’s fiscal 2009 earnings guidance is a $20 million gain in the first quarter, resulting from an amendment to a license agreement with an unrelated patent licensor and $6 million in estimated restructuring charges, primarily related to the consolidation of our manufacturing operations.

The $20 million gain results in a $13 million impact to net income or $0.11 per diluted share. The $6 million of restructuring results in about $4 million impact to net income or $0.03 per diluted share. In addition, we now expect stock-based compensation expense for the full year to be approximately $23 million and amortization of intangibles to be approximately $16 million.

And with that, I’ll turn the call over to the operator for questions.

Question-and-Answer Session

Operator

Thank you, sir. (Operator instructions) We’ll go first to John Vinh, Collins Stewart.

John Vinh – Collins Stewart

Hi, good afternoon. Thanks for taking my questions. The first question I had was relative to your full year guidance, how do we think about seasonality in the back half of the year? Can you maybe just talk about June quarter seasonality? And are you potentially seeing a little bit more seasonality circuit revenues for the second half to be a little bit more backend loaded? Thank you.

Kevin Yeaman

Well, first of all, the first thing I would say when we look at our second half of the year is the predominant dynamic in our thinking in formulating the second half guidance is the effects of the economy. The second half of the year will reflect spending after the holiday quarter. So it will be on large in June quarters. It will be reflected in the second half of our year. And those were the quarters that we think have been affected most by the economy.

As it relates to seasonality, it really depends on the market. There are markets like the consumer electronics market, which tend to be very influenced by seasonality. There are markets like broadcast where the primary driver for us is the increasing attach rate to televisions and increasing amount of technologies in the televisions in Europe with Dolby Digital Plus and HE AAC being adopted. And so seasonality doesn’t tend to be as much of a factor because we are more driven by the attach rate than the unit shipments.

So when you net it all out, we see for the second half, we see gaming and PC being down on lower unit volumes. We see CE being down year-over-year on lower shipments of standard def DVD. It will be partially offset by Blu-ray shipments, especially because we had some delays in reporting. It will benefit us in the second half. And then we still expect to see growth in broadcast and mobile, and that’s all about higher attach rates.

John Vinh – Collins Stewart

And then so far a question on broadcast, you talked about kind of the opportunities in Europe. Couple of questions related to that. One is on Dolby Digital Plus and HE AAC, can you talk about how we should be thinking about the ASPs on Dolby Digital Plus versus Dolby Picture [ph]? Are you getting your premium there? And in situations where you have markets where you are adopting both HE AAC and Dolby Digital Plus, are you getting essentially close to kind of 2X ASPs there? Maybe just help us think about that. And then I’d add on to that is, how do we think about kind of the adoption curve in Europe of Dolby Digital Plus and HE AAC? You talked about kind of less than 20% in tax rate existing last year. Do we think about that going to kind of 50% by the end of fiscal ’09? Thank you.

Ramzi Haidamus

As far as the ASPs concerned, the ASP for HE AAC is actually listed publicly on the Via Licensing website. So I encourage you to take a look at the vialicensing.com for the official list and you can appropriately list there for the – you can match the pricing with the volume. As far as Dolby Digital Plus, the ASP – I can only share with you that we have essentially the same pricing as Dolby Digital. So whatever you have modeled for Dolby Digital should work for Dolby Digital Plus. Other than that, we have not spoken publicly about Dolby Digital Plus.

As far as the way to look at Europe and the broader adoption, we are seeing a parallel adoption of both HE AAC and Dolby Digital Plus in several countries. As we have announced before, we are seeing that countries such as Spain, Italy, France, Eastern Europe such as Slovenia and now probably a broader adoption looking at adopting both technologies. So we should continue to see an increase in attach rate on television, but more importantly in the tax rate of both technologies, which generate two independent streams. So that’s how we look at Europe. We also foresee some additional countries adopting and announcing the HE AAC, Dolby Digital Plus codecs, moving forward both in the Eastern European regions such as Poland as well as in Western Europe.

John Vinh – Collins Stewart

Okay. And the adoption curve over the course of the rest of the year, is that more gradual or is that more exponential at this point at some figures? Trying to get some critical mass there.

Kevin Yeaman

We said that we came into the year attached to about 20% of televisions in Europe. And we expect we will exit the year probably at around 33%. So I would call that gradual. We expect that we then continue to increase that attach rate into the future.

Operator

We’ll go next to Ralph Schackart with William Blair.

Ralph Schackart – William Blair

Good afternoon. A couple of questions if I could. First, on the PC market side, just curious how the attachment rates for third-party playback had held up since last quarter. And are you seeing any material changes with respect to this licensing?

Ramzi Haidamus

I’m sorry, what was the second question?

Ralph Schackart – William Blair

It was just one question, Ramzi. Is the ISV attach rate still holding up since the last quarter and you will be seeing any changes?

Kevin Yeaman

We continue to see strong reported shipments of ISV players that was one of the things that grew the revenue sequentially and slight growth we saw year-over-year. So we did not particularly see the effect of the slowdown in this quarter. Having said that, we are cautious on PC shipments going forward. We haven’t seen any signs of a lower attach rate of ISV players at this point. Ramzi, do you –?

Ramzi Haidamus

That’s correct.

Ralph Schackart – William Blair

Great. And then I’m not sure if it’s Ramzi or Kevin. Can you just give us the rundown, if you could, please, of the Europe markets that you have currently? I think you had mentioned UK and I’m not sure if that would include countries there now [ph].

Ramzi Haidamus

Sure. Like I said earlier, mostly it’s Dolby Digital Plus and HE AAC in tandem. We are right now officially included in France, Italy, Spain and the UK. The first country to officially adopt in Eastern Europe is Slovenia. We are making a great – so that ends in terms of the official approved specifications. In terms of outlook, we are looking at Poland, Russia, and some other countries that we are working with closely.

Ralph Schackart – William Blair

Great, that’s helpful. And one last, Kevin, I know (inaudible) roughly a month now and you’ve got what 27 years ago or so here. But any observations you could share on any changes you are making now at Dolby, be it on business step side, licensing opportunity, cost side, et cetera?

Kevin Yeaman

Well, I guess the first thing I would say is I’ve, of course, been at Dolby for about four years. And I’d been involved across the board and in areas of operations and strategy. And so the biggest difference is I’m spending all of my time on that now. And I don’t have any major changes to report. I’m very pleased that we have a great team in place. We have a great group of employees. I think this quarter not just the results, but the wins that put us in good steps for the future show that the team just kept executing. And I’m very pleased with that. So I’m really just focused on making sure we are striking the right balance for future opportunities that we are investing in the right ones and that we continue to look to leverage our IP, our brand, and our relationships to keep driving technologies into the market.

Ralph Schackart – William Blair

Thanks, guys.

Operator

We’ll take our next question from Mike Olson with Piper Jaffray.

Mike Olson – Piper Jaffray

All right, thanks. I don’t want to get ahead ourselves, but would it makes sense so we just start to see TV makers incorporating Dolby for all TVs in Europe to just simplify their distribution? I would imagine it could be painful for some of them to ship one version to Slovenia and another version to Poland or whatever their case may be.

Ramzi Haidamus

That’s a fair assumption. This is going to take in a pragmatic approach. It’s much more difficult in having [ph] to keep different stocks for different countries, where in reality there is a benefit from adding our technologies to all SKUs given that you end up with benefiting from volume discounts, whether it’s HE AAC or Dolby Digital Plus. So there is actually an upside in having higher volume. Plus, your comment about Slovenia, a country such as Slovenia where they are surrounded by multiple countries that receive the same terrestrial broadcast since [ph] that these folks listen to each others broadcast, and there is an assumption there that this is just a first in many countries to adopt the same technology such that you have compatibility across border.

Kevin Yeaman

I would just add that’s of course not baked into our forecast, we haven’t seen that yet. And we aren’t taking anything for granted. The team continues to work on a country-by-country basis to work with broadcasters to make sure that we understand their needs and that we are meeting those needs.

Mike Olson – Piper Jaffray

Okay. And then are there any changes to your unit assumptions that go into your guidance that you have given us on the last couple calls?

Kevin Yeaman

On the PC side, we did bring down our unit assumptions from where we last reported to you. So we now see a fiscal year unit decline of about 5% to 7%. Our CE and CV assumptions are relatively unchanged. And offsetting the PC unit assumptions, that was generally offset by gains in other areas such as broadcast. And the broadcast gains were largely because of European attach rate, but also strong set-top box shipments, both NTIA and the DTA boxes for the cable operators.

Mike Olson – Piper Jaffray

Okay. Thanks a lot.

Operator

We’ll go next to Andy Hargreaves with Pacific Crest Securities.

Andy Hargreaves – Pacific Crest Securities

Hi. I’m just wondering on the DTA converter boxes, if you recognize revenue from all of the boxes that you thought you were going to or if it was more of that [ph]?

Kevin Yeaman

We recognized revenue on all those that were reported to us in the quarter. There were more DTA boxes reported to us in the quarter than we had expected. We are then cautious that our guidance on that area. We thought that perhaps caution around capital spending would suppress DTA shipments. But in fact, it was pretty robust in the second quarter.

Andy Hargreaves – Pacific Crest Securities

Okay. And then kind of a social question I guess. But is the move to lower end PCs, notebooks and net-books, does that limit the opportunity for PCEE?

Ramzi Haidamus

Not necessarily. It depends on the type of net-book. It depends on the capabilities. Most of these net-books that we have seen have multimedia capabilities. So where they are, we tend to be fairly aggressive with our sales force and increasing the attach rate on PCEE. So really the short answer is, (inaudible) multimedia net-book and ultra-thin or is it just for productivity, and that’s really what determines if we qualify to be in there or not.

Andy Hargreaves – Pacific Crest Securities

And just a last thing, (inaudible) license holders for Blu-ray have formed a single licensing body. Does that impact your royalties at all?

Ramzi Haidamus

No, it doesn’t. We are not part of that licensing body. We continue – as with DVD, we continue to license our technologies separately and independently. And we are not actually with a licensing body at all.

Andy Hargreaves – Pacific Crest Securities

Okay, thanks.

Operator

Next to Steven Frankel with Brigantine Advisors.

Steven Frankel – Brigantine Advisors

Good afternoon. There has been some chatter about Chinese manufacturers being aggressive around Blu-ray for Christmas and talk about $99 player coming to the US. So what are you hearing along those lines? What do you see in your pipeline?

Ramzi Haidamus

What we’ve seen on the market is essentially what other consumers see. That is up to $100 players right now. So the aggressive pricing had been under $200. Under $100, it sounds fairly aggressively. We haven’t seen that. Obviously we welcome it since we are – our ASPs do not change related to the fight of a player. But frankly we haven’t really heard that kind of aggressive pricing yet.

Steven Frankel – Brigantine Advisors

And could you give us an update on the entertainment experience? Do you have any material new wins in the PC space?

Ramzi Haidamus

We continue to make design wins within the companies that we operate. So we have more SKUs and so on. But I’ve to say that we have a significant uptick from the last quarter. I would not say that. I’d say, we are happy with the results as they are in terms of the linear growth in our design wins.

Steven Frankel – Brigantine Advisors

And how about an update on volume – Dolby Volume? Sorry.

Ramzi Haidamus

Dolby Volume, it’s still – the plan is still as we mentioned last quarter, and that is we continue to see products shipping such as the Toshiba REGZA, the LCD TV, AVR models such as the Harman Kardon and Arcam. And as far as the higher – a more ubiquitous approach, this is – we already mentioned that we’re launching a low complexity version or a lower mix version of Dolby Volume towards the end of the calendar year. And that’s where we meet see a lighter adoption.

Steven Frankel – Brigantine Advisors

Thank you so much.

Ramzi Haidamus

Yes.

Operator

We’ll go next to Paul Coster with J.P. Morgan.

Paul Coster – J.P. Morgan

Thanks. Kevin, (inaudible) 107 more quarterly conference calls you got to do.

Kevin Yeaman

Is that all?

Paul Coster – J.P. Morgan

Can you just kind of give your latest thoughts regarding Blu-ray and Windows 7 product cycles and the degree of materiality you expect from those two product cycles?

Kevin Yeaman

I think on Blu-ray it’s early days for Blu-ray. And I think that it’s an exciting category for us. Our ASPs are substantially higher than they are on standard def players. And so I think that could be a good category for us as we move into 2010 across both standalone devices, obviously gaming devices and PC playbacks. In terms of Windows 7, we are pleased that we have put ourselves in a position where we are in more SKUs in Windows 7 than we were in Vista Premium. It’s still early for us to try to predict what that means for 2010, but except to say that that could be a growth driver for that. It’s really going to depend on a lot of factors. We don’t know what the rate of business adoption would be yet. We don’t know what effect having this in operating system will have on ISV attached to the business adopters. But we are very pleased to be in the position we are in.

Paul Coster – J.P. Morgan

Can you confirm the deferred revenue recognition associated to DCI compliance is now downwards and more to come in the fiscal third quarter?

Kevin Yeaman

There is some more to come. We are still recognizing the units now ratably over the course of the year. So our deferred revenue dropped a lot for having recognized $22 million of product revenue. But we also added some from shipments during the quarter. So we have about $18 million still in deferred revenue, much of which will be recognized by the end of the year.

Paul Coster – J.P. Morgan

And lastly, the manufacturing consolidation that you have told off, how was it going to yield benefit? Is it in gross margins or orders that we should expect?

Kevin Yeaman

Primarily it’s in gross margins. And it’s also the fact that we are coming out with what we think is a very competitive product on a cost basis. And that combined with the fact that we think we have the high quality product on the market and then the fact that we have a strong and trusted brand puts us in a position we think to do well in the market as well.

Paul Coster – J.P. Morgan

Great, thank you.

Operator

We’ll go next to Brian Thackray with Deutsche Bank.

Brian Thackray – Deutsche Bank

Hi, guys, thanks for taking my question. I guess, first, can you quantify or help us understand what the revenue from the first half of the year from the NTIA and the DTA boxes. Can you put some numbers softly around that for us?

Kevin Yeaman

I don’t have the detail in front of me on the DTA boxes. Obviously all of our assumptions were baked into our guidance for the rest of the year. As it relates to NTIA, for we believe that about three quarters of the revenue we are going to get has already come in. And the rest of it will be through the remainder of this fiscal year. The thing to remember about DTA is that is not over. We don’t know the pace at which Comcast and any other cable operators will roll them out, but we do expect they will continue to roll them out over not just the rest of this year's but well into next year.

Brian Thackray – Deutsche Bank

Thanks. And then Ramzi, there seems to be an effort within some in the PC initiative move, the audio processing down on the chipset layer permanently. Can you just talk about kind of what you foresee there and how that impacts Dolby longer term?

Ramzi Haidamus

Well, there are a couple of solutions that we see right now that are needed to increase the immersive experience on the laptop. One is the DVD playback and Blu-ray playback. For those clearly need the Dolby solution, whether that comes on a chip or not, is really a subsequent point and immaterial as far as we are concerned. As far as the processing solution, it’s the PCEE solution and obviously whether you decide to buy it, buy a software from Dolby or to incur few dollars to buy it from a chip manufacturer that comes down to the purchasers decision. And of course, we believe that we are the higher quality and lower cost solution in this case. So we are very happy with our offering.

Brian Thackray – Deutsche Bank

Okay, fair enough. And then last question, you guys seemed to mention Dolby Mobile and the mobile opportunity a little bit more this quarter than you have in the past quarters. Is there anything new there in terms of momentum this quarter versus last quarter?

Ramzi Haidamus

The momentum, I’d say, is associated with volumes. We have revenue coming in from Sharp and LG. LG phones are being received quite well in areas that are launching. We have very good uptick with Sharp. And of course, we have the piece of revenue coming in from Via. That’s the HE AAC revenue. When you combine it all, mobile (inaudible) has been quite a nice uptick for us. But we still look forward to announcing new models from LG and Sharp and the NTT DoCoMo network, and that’s yet to come in in the future quarters.

Brian Thackray – Deutsche Bank

Thanks, guys.

Operator

We’ll go next to John Bright with Avondale Partners.

John Bright – Avondale Partners

Thank you. Any change in the direction of Blu-ray ASPs that Dolby is receiving?

Mike Novelly

There is no change in – compared to what we’ve been getting for Blu-ray, but we do get a higher ASP for Blu-ray than for standard def parts.

John Bright – Avondale Partners

Okay. And then, Kevin, a follow-up. Anything that you could draw from the quarter? How did the quarter perform? What’s the linearity look like in this quarter? Recognizing licenses is recognized quarter rate monthly? But particularly in the PC and the CE licensing side of the equation, a lot of people think that the market may have dropped and some retailers maybe stocking inventory – about to stock inventory. Again, any sign that you are pulling from the market at this juncture?

Kevin Yeaman

No, what we are going to be getting this quarter are reporting on the March quarter shipments. And we, of course, expect that that was the quarter that was very much affected by the slowdown in units. And that’s what we factored into our guidance. So I don’t think we are seeing anything yet that we could try to extrapolate beyond into the back half of calendar ’09 and beyond.

John Bright – Avondale Partners

Okay. And then lastly, on the Digital Cinema revenues, any additional deferred revenue that we should expect?

Kevin Yeaman

Yes. So we came into the quarter with just over $30 million. We recognized about $22 million, which would leave you at just under $10 million. But we added another $9 million to deferred revenue because we’re recognizing the revenue ratably over a year. So we have $18 million in deferred revenue. Most of that revenue is going to be recognized in the second half of this fiscal year.

John Bright – Avondale Partners

Thank you.

Operator

Our next question comes from Mike Rudell [ph], Goldman Sachs.

Mike Rudell – Goldman Sachs

Hey, good afternoon. Just a quick follow-up on Digital Cinema. Have you seen a pickup in interest for the 3D products given the success of the recent films? And also, if so, are customers moving ahead or are they hoarding off to the second generation products?

Ramzi Haidamus

We do see an uptick in the 3D, mostly around the launch of upcoming movies such as Up and of course Monsters versus Aliens and more upcoming next year. So that’s a natural progression that we saw. But as always, the 3D conversion is very much attached to the usual cinema conversion. And as the funding continues to be slow, albeit it is coming, but slower than anyone has expected. I wouldn’t say it’s significantly large. So we are continuing to wait for the Digital Cinema conversion and the funding to come in before we see a significant uptick either on the next generation server or the 3D installations.

Kevin Yeaman

To reiterate a point I made earlier is that we’ve used this relatively slow time in the Digital Cinema Server rollout to consolidate our manufacturing operations to use a hybrid internal and external manufacturing model to get our cost down. So we feel like as spending begins to flow in that area, we are in a much better position than we entered the space.

Mike Rudell – Goldman Sachs

Great, thank you.

Operator

(Operator instructions) We’ll go next to Daniel Ernst with Hudson Square Research.

Daniel Ernst – Hudson Square Research

Yes, thanks. Good evening. Thanks for taking the call. Two questions if I may. On the licensing side, revenue up 7% year-over-year in the quarter, but this quarter last year that number was 40% annual growth rate. So as we move past the current economic headwinds, as you noted in your prepared remarks, do you think that you have the technology impact on your other product cycles outside of standard definition DVD to go down that you could return back to a double-digit growth rate that is going to be normalized for the economy? Are product cycles continuing to head back up in that double-digit range? And then secondly, in the quarter, where there any either notable catch-ups or (inaudible) some additional royalty?

Kevin Yeaman

To your first question, I guess I would start with our existing technologies and point out that we think there is still room for growth in our existing technology portfolio. We are still at the early stages of high definition and digital television adoption outside of North America. We’ve talked a lot about Europe. We are also focused on getting wins in Asia. And we are focused on making sure that we are a part of – however it is the consumers are going to consume media in the future, we want to be part of that delivery format.

I would just add that NAB last week, it seems certainly up [ph] with a number of customer meetings and I was really pleased to see the level of engagement we have with the people who are getting ready to distribute all this content and confident that we can help to meet their needs. Beyond that, I do believe that we are investing in a number of technologies that we can drive into the market. And I’m pleased that we have some good data points this quarter with wins in areas like Dolby Axon that show that we can take, we can innovate new technologies, bring them into market using our existing set our relationships and our brand.

So I feel very good about the balance in our portfolio. On the other hand, we can’t be complacent. We have a very good business model, but it’s essential that we are not complacent. We have to stay focused. We have to keep executing. And we are really focused – the entire team and I are really focused on speed of execution. So that’s what we’ve been thinking about.

In terms of your second question, there were no notable catch-ups. I guess the notable item to be aware of, we did mention that one, is the NTIA boxes were stronger in the first half. And we think that those will be weaker in the second half and then tail off. And of course, on the products side, there was a large piece of deferred revenue. And while we have some going into the future, this was a very large chunk here in the second quarter.

Daniel Ernst – Hudson Square Research

Understood, thanks.

Operator

And at this time, there appears to be no further questions. I would like to turn things back over to Mr. Kevin Yeaman for additional or closing comments.

Kevin Yeaman

Well, thank you, everybody, for joining today. We very much look forward to keeping you apprised of our progress in the future. And we will talk to you then. Thank you.

Operator

Again, that does conclude today’s conference call. Thank you for your participation.

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Source: Dolby Laboratories, Inc. F2Q09 (Qtr End 03/27/09) Earnings Call Transcript

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