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China Digital TV Holding Co., Ltd. (NYSE:STV)

Q3 2013 Earnings Conference Call

November 19, 2013 07:00 PM ET

Executives

Nan Hao - Investor Relations Manager

Josh Gartner - Brunswick Group LLC

Dong Li - President

Analysts

Operator

Good evening and thank you for standing by for China Digital TV’s Third Quarter 2013 Earnings Conference Call. At this time, all participants are in listen-only mode. After management’s prepared remarks, there will be a question-and-answer session. Today’s conference is being recorded. If you have any objections, you may disconnect at this time.

I would now like to turn the meeting over to your host for today’s conference, Mr. Josh Gartner.

Josh Gartner

Good evening and thank you for standing by for China Digital TV’s third quarter 2013 earnings conference call. At this time, all participants are in listen-only mode. After management’s prepared remarks, there will be a question-and-answer session. Today’s conference is being recorded. If you have any objections you may disconnect at this time.

The company’s earnings results were released earlier today, and are available on the company’s IR website at ir.chinadtv.cn, as well as on newswire services.

Today, you will hear from Mr. Dong Li, China Digital TV’s president, who will give an overview of the quarter, followed by the Company’s investor relations manager, Mr. Nan Hao, who will discuss financial results. After the company’s prepared remarks, China Digital TV’s chief financial officer, Mr. Zhenwen Liang will be available to answer your questions.

Before we continue, please note that the discussion today will contain certain forward-looking statements made under the “safe harbor” provisions of the U.S. Private Securities Litigation Reform Act of 1995. Forward-looking statements involve inherent risks and uncertainties. As such, the company’s results may be materially different from the views expressed today.

Further information regarding these and other risks and uncertainties is included in the company’s registration statement on Form 20-F and other documents filed with the U.S. Securities and Exchange Commission. China Digital TV does not assume any obligation to update any forward-looking statements except as required under applicable law.

As a reminder, this conference is being recorded. In addition, a webcast of this conference call will be available on China Digital TV’s investor relations website. I will now turn the call over to China Digital TV’s president, Mr. Dong Li.

Dong Li

Thank you. Hello everyone and welcome.

Let’s begin today’s call with an overview of the development of China’s Cable TV market during the third quarter.

During Q3, China’s cable TV users increased by seven and a half million to reach 163 million, marking a digital conversion rate of 77.6%, according to Zhongguang Luoda, a third-party research firm.

At the same time as digital conversion is approaching completion in China, we are seeing a trend toward households with multiple set top boxes. There were more than 1.07 million such households, as of the end of Q3, up 70,000 from the prior quarter. And we expect to see demand for multiple set top boxes in households with more than one TV continue to grow, further driving demand for smart cards. This trend should expand as the country moves away from analogue broadcasts.

We expect the ongoing digitalization push, combined with increasing demand for high-definition set top boxes and OTT+DVB, to trigger stronger competition among IPTV, cable operators and OTT service providers in the market for households with more than one set top box. We believe that the OTT+DVB trend may create greater demand for China Digital TV’s CA cards over the long term in this multi-TV household market, although we have limited visibility in the short term.

Turning now to China Digital TV’s quarterly performance…

We experienced improved shipment volumes and revenue increases during the third quarter. In Q3, China Digital TV shipped a total of 4.7 million smart cards, which exceeded our guidance. We saw an increase in demand for smart cards during Q3, largely driven by our major customers, including those in Jiangsu, Zhejiang and Guangdong provinces.

The continued strong performance by our sales team, the trend toward digitalization in third and fourth tier cities, and solid demand for smart cards from our key customers helped us maintain our leading market position. In the third quarter we controlled 53% of smart card shipments in China, according to Zhongguang Luoda.

Although factors in the market, including the effects of consolidation and increased competition, continued to impact the ASP of smart cards, we saw good overall revenue numbers as a result of solid card shipments. Over the long-term, we expect this decline of ASP to continue.

Looking ahead to the fourth quarter of 2013, we expect to see relatively stable card shipments, driven by demand in Jiangxi, Guangxi, Henan, Sichuan and Heilongjiang provinces. We also expect to benefit from a push into new markets like Hainan Province and Tibet and greater demand in provinces where we already have operations like Fujian.

Turning now to International Markets…

We continue to make good overall progress developing markets abroad with total cards shipped to overseas markets more than doubling quarter on quarter. In Q3, international markets grew both sequentially and year-on-year as a proportion of China Digital TV’s overall revenue and we expect to see this trend continue.

Taiwan and Thailand are among the markets showing particularly solid progress. We are optimistic about the future of these markets over the next few quarters and will continue to explore new markets for additional opportunities.

Looking now at value added services…

During the third quarter, we made good progress in the VAS market, as consumers showed growing appreciation of our value added services. Our Dalian and Shijiazhuang cloud computing systems have both started operations, mainly providing cloud games, with our Shijiazhuang system also offering educational apps. In addition, we have signed cloud computing contracts in Xinjiang. We expect to continue this positive momentum in the cloud computing area in the months ahead.

Video on demand also showed promising development in Q3.We reached an agreement with Heilongjiang Broadcast Television Network Co., Ltd. to deploy our Super VOD system in Heilongjiang, beginning in Harbin. Our platform enables cable operators to offer interactive TV coverage without the need for heavy investment in two-way network reconstruction or the replacement of set-top boxes, significantly increasing its competitiveness.

Our Network Broadcast Platform, or NBP, also continued to do well, driven by consumer demand to view content across multiple terminals. Following the contracts we signed with Jinzhong, Zibo and Dandong during Q2, in the third quarter we signed contracts to begin deploying head-end systems for NBP in Taiyuan, Ningxia and Liaocheng.

Overall we are seeing good progress domestically, strong overseas smart card sales growth and steady development of our value added services offering.

I will now hand the call over to Nan Hao, our investor relations manager, to discuss our financial management.

Nan Hao

Thank you. Hello everyone.

During the third quarter, China Digital TV exceeded our revenue guidance largely as a result of solid smart card sales both in China and internationally. Good demand from several of our largest customers and the trend toward high definition TV and multi-set top box households helped drive overall revenue during the quarter.

Turning to the financial highlights for Q3. Please note that, unless otherwise stated, all amounts are in US dollars.

In Q3 2013, China Digital TV shipped approximately 4.76 million smart cards, compared to 3.84 million for the same period in 2012and 3.58 million in Q2 2013, for reasons already discussed.

Net revenues in Q3 2013 were 23.1 million, an increase of 13.5% from the same period in 2012 and a 26.9% increase from Q2 2013. The year-over-year and quarter-over-quarter increases were mainly due to increases in smart cards shipment volumes.

Now let me go through the major revenue components for the quarter.

Revenues from smart card and other products were 22.3 million, accounting for 95.2% of total revenue, compared to 94.7% in Q2 2013.

Revenues from other products were 1.0 million, accounting for 4.3% of total revenue, a 10.2 % decrease quarter-over-quarter.

Revenues from our top five customers accounted for 26.2% of total revenues, compared to 23.3% in Q2 2013.

Revenues from services were US$1.1 million in the third quarter of 2013, an increase of 5.5% from the same period in 2012 and an increase of 15.4% from the second quarter of 2013. Service revenues accounted for4.8%of total revenues in the third quarter of 2013.

Gross profit in Q3 2013 was 17.1 million, an increase of 10.8% from last year and an increase of 22.4% from Q2 2013. Gross margin was 74.0% in Q32013, compared to 75.8% in Q32012 and 76.7% last quarter. The year-over-year and quarter-over-quarter decreases in gross margin were primarily due to an increase in cost of revenues related to inventory write-downs with respect to integrated chips and multimedia home entertainment boxes.

ASP of smart cards in Q3 2013 decreased by 2.3% sequentially, while unit costs decreased by 7.0%.

Operating expenses in Q3 2013 were US$11.2 million, an increase of 7.1% from the same period in 2012 and an increase of 5.2% from Q22013. The year-over-year and quarter-over-quarter increases were mainly attributable to increases in R&D expenses.

Income from operations in Q32013 was 5.9 million, an 18.7% increase from last year and a 77.5% increase from last quarter. Operating margin in Q3was 25.6%, compared to 24.5% during the same period in 2012 and 18.3% in Q2 2013. The year-over-year and quarter-over-quarter increases were primarily due to an increase in net revenue.

Income tax expenses in the third quarter of 2013 were US$2.1 million, compared to US$13.6 million in the same period of 2012 and US$2.1 million in the second quarter of 2013.The year-over-year decrease in income tax expenses was mainly attributable to a decrease in withholding taxes for undistributed retained earnings. In the third quarter of 2012, the Company management decided to distribute part of the retained earnings of the Company’s PRC subsidiaries. The Company accrued and recorded 12.1 million in withholding taxes for such undistributed retained earnings in the third quarter of 2012. In the second quarter of 2013, the Company accrued additional withholding taxes for undistributed retained earnings as a result of the partially reversed income tax expenses after the Company’s PRC operating subsidiary, Beijing Super TV Co., Ltd., was designated a “key software enterprise” for the tax years of 2011 and 2012.

Net income attributable to China Digital TV Holding Co., Ltd. in the third quarter of 2013 was US$4.7 million, an increase of 166.8% from the second quarter of 2013.

Non-GAAP net income attributable to China Digital TV Holding Co., Ltd. defined as net income excluding certain one time or non-cash expenses, such as impairment loss on long-term investments, share-based compensation expenses, amortization of acquired intangible assets from business acquisitions and equity method investments, in Q3 2013 was 5.2 million, an increase of 120.5% from second quarter of 2013.

Turning to our balance sheet...

As of September 30, 2013, China Digital TV had cash and cash equivalents and restricted cash totaling 69.4 million. In Q3 2013, cash flow generated from operations was approximately 8.4 million

In Q3, our accounts receivable net was 41.0 million, compared with 38.3 million at the end of 2012. This resulted from the increased bargaining power of cable operators following the completion of the provincial network consolidation.

Now, let me provide you our business outlook.

Based on information available as of November 19, 2013, China Digital TV expects smart card shipments for Q4 2013 to be in the range of 3.9 million and 4.2 million. Net revenues for Q4 2013 are expected to be in the range of 17.6 million and 18.9 million.

Thank you for listening; we will now take your questions.

Question-and-Answer Session

Operator

(Operator Instructions) We are now approaching the end of the conference call. I will now turn the call over to China Digital TV’s Nan Hao for closing remarks.

Nan Hao

Once again, thank you for joining us today. Please don’t hesitate to contact us if you have any further questions. Thank you for your continued support and we’re looking forward to talking with you in the coming quarters.

Operator

Thank you for your participation in today’s conference. This concludes the presentation. You may now disconnect. Good day.

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