SeaChange International Management Discusses Q2 2014 Results - Earnings Call Transcript

SeaChange International (NASDAQ:SEAC)

Q2 2014 Earnings Call

September 05, 2013 5:00 pm ET

Executives

Monica Gould

Raghavendra Rau - Chief Executive Officer and Director

Anthony C. Dias - Chief Financial Officer, Chief Accounting Officer, Senior Vice President of Finance & Administration and Treasurer

Analysts

Todd T. Mitchell - Brean Capital LLC, Research Division

Richard Ingrassia - Roth Capital Partners, LLC, Research Division

Juan Bejarano

Operator

Greetings, and welcome to the SeaChange Fiscal 2014 Second Quarter Results Conference Call. [Operator Instructions] As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Ms. Monica Gould, Investor Relations for SeaChange International. Thank you, Ms. Gould. You may begin.

Monica Gould

Thank you, Manny. Good afternoon, everyone, and thank you for joining us. SeaChange released results for the second quarter of fiscal 2014 ended July 31, 2013, today after the market closed. If you would like a copy of the release, you can access it on the IR section of our website at www.schange.com/ir.

With me on today's call are Raghu Rau, Chief Executive Officer; and Tony Dias, Chief Financial Officer.

This call is being webcast and will be archived on the Investor Relations section of our website.

Before Raghu begins, I'd 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 that 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, which was filed on April 10, 2013. Any forward-looking statements should be considered in light of these factors.

Additionally, this presentation contains certain non-GAAP or adjusted financial measures as defined by the SEC. Per SEC requirements, we have provided a reconciliation of these measures to the most directly comparable GAAP measures and tables attached to the press release. Any redistribution, retransmission or rebroadcast of this presentation in any form without the expressed written consent of SeaChange International is prohibited.

And with that, I'd like to turn the call over to Raghu.

Raghavendra Rau

Thank you, Monica, and good afternoon, everyone. Welcome to the SeaChange earnings call for the second quarter of fiscal 2014. On today's call, we will cover our second quarter performance, provide an update on the company's strategic plan and discuss our outlook for the rest of fiscal 2014.

During the second quarter, SeaChange achieved sequential and year-over-year increases in revenue and substantial growth in gross margins and operating income. Revenue of $37.4 million rose 5% from the first quarter and about 2% from a year ago. Non-GAAP gross margins rose by 350 basis points sequentially and exceeded 58%. Non-GAAP operating earnings of $0.10 per share were at the top of our guidance range, reflecting a higher mix of product licensing revenues.

While we are pleased with our second quarter performance, our results would have been even better if not for delays in receiving timely acceptance within the quarter for some of our new-generation software products. These delays were primarily related to custom integrations with third-party platforms, and we have already received acceptance for at least one of these deployments during the current third quarter.

I will now provide an update on some of our strategic initiatives. First, we continue to make significant progress on our next-generation software products globally.

Second, we are expanding our customer base in the Telco and IPTV services space and continuing our efforts in mobile operators.

Lastly, we have developed and secured design wins for adjacent businesses, including content management. Some examples of our recent successes in these areas include: One of the largest U.S. cable operators began deploying our Adrenalin platform to enable the rollout of multiscreen capabilities. We received acceptance on our Adrenalin and VOD, Video on Demand advertising rollouts by a large European Telco. We doubled our Nucleus gateway design wins with the addition of 2 new customers, including one in Latin America. Additionally, we are in active discussions with multiple service providers and original equipment manufacturers.

Lastly, we announced that we have now 11 service provider wins, including 5 of the largest North American cable, Telco and satellite providers for our AssetFlow and AdFlow content management solutions.

In conclusion, we continue to execute on our strategy and are seeing strong market adoption and demand for our next-generation products.

Also, as announced earlier today, we are delighted to welcome Tony Dias to the role of permanent Chief Financial Officer of SeaChange. Tony has been instrumental in the execution of our transformation strategy, and we believe his financial leadership will be critical as we embark on the next phase of our growth and continue to deliver superior financial performance.

Tony will now walk you through some of the financial details of the quarter and provide our outlook for the rest of the fiscal year. Tony, please go ahead.

Anthony C. Dias

Thank you, Raghu. I'm very excited to formalize my expanded role with the company. I look forward to updating all of you on our progress as we continue to execute on our transformation strategy.

I'll start by reviewing our second quarter results before providing an outlook for the remainder of the year.

For the second quarter of fiscal 2014, revenues rose 5% sequentially to $37.4 million. This was within our guidance range, though at the lower end due to delays in new product acceptance that Raghu mentioned earlier. New product revenue accounted for 37% of total product revenue in the quarter, and we continue to expect this to increase nearly 50% by the end of the fiscal year.

Total product revenue rose 20% year-over-year to $16.2 million or 43% of total revenue, up from 42% in the first quarter and 37% a year ago, led by increased sales on growing multi-screen video platforms and our new AssetFlow content management platform. The strong growth is partially offset by a 9% year-over-year decline in service revenue, partially driven by reduced service revenue associated with some of our legacy products.

During the second quarter, international sales rose 22% year-over-year and accounted for 45% of total revenues, up from 38% a year ago.

Our blended gross margins grew substantially to 58% on a non-GAAP basis, up from 55% in the first quarter and 52% a year ago, reflecting the higher mix of product licensing revenues. As a result, we achieved non-GAAP operating margins of 9%, up sequentially from 3% in both the first quarter and a year ago.

Non-GAAP operating earnings per share equaled to $0.10, topping our revenue guidance of $0.07 to $0.10 per share.

Our balance sheet continues to be very strong. We ended the quarter with cash balance of $126.5 million, an increase of $4.2 million over the previous quarter.

We are pleased to announce that our Board of Directors has authorized the repurchase of up to 25 million of the outstanding shares of SeaChange common stock through January 31, 2015, the end of our next fiscal year. The timing and the amount of share repurchases will be determined based on market conditions, share price and other factors.

Now I'd like to turn to the outlook for the remainder of fiscal 2014. We expect third quarter revenues to be sequentially higher than the second quarter and fourth quarter revenues to be sequentially higher than the third quarter. Due to the uncertainty of timing in customer acceptance of new products, we anticipate full year revenue to be in the lower end of our previously guided range of $165 million to $175 million. However, due to anticipated gross margins and cost containment efforts, we continue to expect to achieve non-GAAP operating income on a fully diluted share basis in the range of $0.53 to $0.71 before accounting for any potential share repurchases.

Thank you. With that, I'd like to hand the call back to Monica.

Monica Gould

Thank you, Tony. Manny, could you please provide instructions for the Q&A session?

Question-and-Answer Session

Operator

[Operator Instructions] Our first question comes from Todd Mitchell of Brean Capital.

Todd T. Mitchell - Brean Capital LLC, Research Division

Can you talk to us a little bit about sales cycles and also in terms of implementation cycles and both for the NexGen back office and for the home gateway products? Like how long does it take you -- I know they're all over the board, but how long does it take you to typically get a deal and then how long does it at implementation and kind of what are the big variables there?

Raghavendra Rau

Right. Okay, let me answer this -- your question this way. And I'll talk about a typical operator that we've been going after, because as you rightly mentioned, I mean, it can vary between a small service provider and a large service provider. For the back office, we've already launched a large number of systems. So if the configuration of some of the third parties that are involved, let's say the set-top box, the DRM system, the encoders, are similar, then the implementation cycle is relatively less. It could be within 2 or 3 months. However, if those custom integrations haven't happened, it can take as much as 5 to 6 months. The sales cycle is typically, for the larger operators, you have an RFP process for which we bid, and then go ahead and win, compete and win. That can take as much as 2 to 4 months. However, if it's an incumbent operator, that is significantly less because very often, they don't even go for an RFP and decide to upgrade with SeaChange, and that could be relatively quick. For the Nucleus gateway software, the sales cycle there is -- we've been working with these 2 new design wins. We've been working with these customers for potentially 4 or 5 months. The implementation cycles can vary depending on what they would like us to achieve. In some cases, it's initially limited proof of concept or limited production, whereas in some cases, it's much larger rollouts. So it can vary anywhere between 2 or 3 months to about 6 to 9 months. Their other revenue was in the Nucleus gateway software because we do bought our software to other platforms, including the chip vendors and some of the set-top box vendor boxes as well. That's a much shorter cycle, just a few months, at best.

Todd T. Mitchell - Brean Capital LLC, Research Division

Okay, that's very helpful. And then, can you also talk to me, just a little bit, if you have, sort of, I guess, go back backstream or up, what are you seeing in terms of the level of RFP activity? Is it picking up? And I mean, just within the context of -- [indiscernible] is making a decision to go to a multiscreen TV Everywhere offering? Are you seeing an acceleration there? And is there any sort of other qualitative characteristics you could give it -- is Europe was ahead, now U.S. was lagging, picking up? Can you kind of talk us around that a little bit too?

Raghavendra Rau

Yes, the U.S. -- certainly almost -- and North America for that matter. And almost all of the operators have decided that they are going to offer multiscreen services and provide those capabilities. In Europe, we see a lot of RFP activity going on now. And similarly, in Latin America, we're working with a number of operators and Telcos there. In some cases, we've already started out with the lab trials. But that's where we're seeing a lot of activity.

Todd T. Mitchell - Brean Capital LLC, Research Division

And is the CPE component tied to the back office? Or it seems like the back office is a precursor to the CPE component? And if so, can you give us some idea about the lagging? What's the lag there?

Raghavendra Rau

It doesn't have to be sold together. We can work -- the Nucleus can work with other back offices. Similarly, Adrenalin can support and does support other user experiences, other than [indiscernible], as well as working with TiVo for instance and Virgin Media and so and so.

Todd T. Mitchell - Brean Capital LLC, Research Division

Right. So are these decisions continually made at the same time by operators? Or does one precursor to the other?

Raghavendra Rau

What we're seeing now, Todd, is that those who want to go to an open-sourced product like the Nucleus Gateway software, they're looking at, saying that okay, you're already integrated into Adrenalin. You're already integrated into these 2 set-top box manufacturers. And so what they're trying to do is minimize the risk and time-to-market for launch of their services by saying that, "Let's use the existing setup." So we're seeing some of that, but it's very early on. And so I'm not sure whether that's necessarily going to be the norm.

Todd T. Mitchell - Brean Capital LLC, Research Division

What do you mean by "use the existing setup?"

Raghavendra Rau

Of integrations. For instance, we're already -- our Nucleus is working with the base set-top box. And so to minimize any delays in introduction, there are some operators who are looking at this combination.

Todd T. Mitchell - Brean Capital LLC, Research Division

Okay, last question, I apologize. Are you still -- are you aware of any other commercially available RDK solutions right now?

Raghavendra Rau

Commercially available, we haven't seen any in the marketplace yet.

Operator

[Operator Instructions] The next question is from Richard Ingrassia of Roth Capital Partners.

Richard Ingrassia - Roth Capital Partners, LLC, Research Division

Raghu, can you give us just a little bit more detail as much as you can on the delays that were caused by those integration issues in the quarter? You touched on it there for a second, but maybe the name -- I don't expect you'd give the name, but the nature of the third parties and if you expect this, yes, this type of integration delay to occur going forward.

Raghavendra Rau

Right. Let me give you one example. And this typically happens with incumbents who are not customers of SeaChange, previously. I'll give you this example of a fairly major Telco, I won't mention the name. And what we had to do there is work with new DRM. We had to work with a different set-top box, we had to work with encoders from third party. So if we hadn't done all those integrations before -- to getting all of them to work together with Adrenalin is a challenge. And we did get acceptance. But unfortunately, it did not come within the quarter. Similarly, there are other, let's say, even in advertising, you've got to work with the content provider and be able to do some integrations with that. So wherever there's a complexity in terms of these custom integrations, that tends sometimes to delay because even though our product will work well and we can show that in the lab, our product worked really well and is working well in the field. Unless they see the full ecosystem working in harmony, they tend not to give acceptance. And so that's some of the reasons for the delays. But this is not something that will continue for an extended period, maybe the next, a few quarters. And the reason for that is we'll have completed most of the custom integrations of Adrenalin with different watt servers, different UIs, different DRMs, different encoding solutions and so on.

Richard Ingrassia - Roth Capital Partners, LLC, Research Division

Okay. So are you finding that the issues go as deep as coding or is it interoperability? And does it go both ways?

Raghavendra Rau

It's probably interoperability. And in some cases, it's also the customers because of the huge requirements for multiscreen -- for all the activity, a number of sessions that are being set up. I mean, the customer, its network bandwidth is also sometimes an issue. But we have had to trouble shoot a lot of this and being in the heart of the network.

Richard Ingrassia - Roth Capital Partners, LLC, Research Division

Okay. I appreciate the detail. On the obviously higher, much higher gross margins there than expected. Can you -- I mean, are we tapping out here, if you will, from a product mix standpoint on the product line?

Raghavendra Rau

Yes. We do -- this reflects -- the increasing gross margin reflects our continuing transition towards a software company. And the long-term model will see us at pushing 60% margins, but that's not going to happen in this financial year or maybe until the latter part of the next financial year.

Richard Ingrassia - Roth Capital Partners, LLC, Research Division

Okay. And then lastly, higher, slightly higher R&D than I expected, but actually your stock comp accruals are lower. Is that indication of where you expect them to be, those lines going forward?

Raghavendra Rau

Yes. So the R&D is an area where we have increased by adding some flexible workforce, contractors and other things to get all these deployments, integrations that are done in time so that we can get acceptances and recognize revenue. We're hopeful that next year we will get some dividend, R&D dividend, by being able to reduce some of the incremental cost that we have been incurring this year, as we get the code complete.

Operator

[Operator Instructions] We do have a question from the line of Michael Kupinski from Noble Financial.

[Audio Gap]

Juan Bejarano

It's actually Juan Bejarano calling in for Michael Kupinski. I just have one question, Raghu. On the last call, you have mentioned a number of potential targets as far as tuck-in acquisitions. Do you have any update on that front? Do you still see any prospects from tuck-in acquisitions?

Raghavendra Rau

Yes, we have been looking at potential tuck-in acquisitions. We haven't finalized any as yet. We're in the midst of a strategic review, and we expect we will be able to make some decisions, nothing large contemplated at this time.

Operator

[Operator Instructions] We have no further questions at this time. I'd like to turn the floor back over to management for any additional remarks.

Raghavendra Rau

All right. Thank you, everyone. Appreciate your time on this call, and we look forward to continuing to dialogue with you. Thanks.

Operator

Thank you. Ladies and gentlemen, this does conclude today's teleconference. You may disconnect your lines at this time, and thank you for your participation.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!