China Digital TV Holdings Q1 2010 Earnings Call Transcript (Q&A Session)

| About: China Digital (STV)

China Digital TV Holdings (NYSE:STV)

Q1 2010 Earnings Call

May 11, 2010 20:00 pm ET

Executives

Eric Yuan - Senior Manager of Investor Relations

Jianhua Zhu - Chairman and Chief Executive Officer

Dong Li - President and Chief Marketing Officer

Mason Xu - Chief Financial Officer

Analysts

Jie Liu - Auriga USA

Wallace Cheung - Credit Suisse

Mike Olson - Piper Jaffray

Philip Won [ph] - Morgan Stanley

Question-and-Answer Session

Operator

(Operator Instructions). Our first question will come from the line Jie Liu with Auriga USA. Please proceed with your question.

Jie Liu - Auriga USA

Good morning guys. Congratulations on good results on the guidance. I have a couple of questions yes. First of all, could you give us a quick update on the competitive landscape and what contributed to the better than expected pricing environment?

Mason Xu

I'll invite our president, Mr. Li to comment on the committed landscape.

Dong Li

Okay. Starting from 2009, our competition has been coming mainly from domestic competitors and we attribute the 2% in price decline in Q1 mainly to the fact that the second placeholder which assume a vision was planning to go public in Q1 this year. And actually, it happened just a couple of weeks ago. And because of the IPO on Asia market, they had to manage their financials more prudently instead of compete extremely aggressively and that is the main reason for the stabilized ASP in Q1 but that does not say that the price would keep stabilizing in the quarters to come.

Jie Liu - Auriga USA

But in your press release, you kind of said that your ASP, you were saying in the last, in the remaining three quarters on the year will be waiving 10% right?

Mason Xu

Yes.

Jie Liu - Auriga USA

So that’s not very large right? So in other words, you guys expect that your local competitors to refrain from a price war basically.

Mason Xu

Yes. They would compete in a more prudent way.

Jie Liu - Auriga USA

Okay, I see. All right, just another quick question on your tax rate. You said your tax rate for the year will be 15%? I’m just wondering if that’s the worst case or that’s the best case? If it’s not the best case, what can be the best case?

Mason Xu

That should be the worst case for China Digital TV. As you might be aware, last year China Digital TV qualified as a so called key software company in China. And with that, China Digital TV would be entitled to a 10% tax rate and this qualification would be evaluated on an annual basis. So we have to re-apply and get approval again in 2010. And because of the uncertainty associated with the qualification for that, we are using 15% as our tax rate but if we can qualify as a key software company in China again, we would be able to enjoy a 10% tax rate.

Jie Liu - Auriga USA

Great. Thank you guys.

Mason Xu

Thank you Jie.

Operator

Our next question comes from the line of Wallace Cheung with Credit Suisse. Please proceed with your question.

Wallace Cheung - Credit Suisse

Just quickly on the quite exciting shipments and guidance in second quarter and also the first quarter number as well. How much is actually can be attributed by a free network version policy so far? In particular the second quarter guidance like if we taken out the technology factor, how much is actually you think about -- a lot of like cable T.V. carriers are now following the instructions or the swap policy on the French government and they are trying to speed up the digitalization process. And that may lead to even further faster growth in the third and fourth quarter.

The second question is just want to get an update about the overseas business. Have we factored in to any overseas treatment so far in the second quarter guidance? Thank you.

Unidentified Company Representative

[Foreign Language]

Unidentified Company Representative

[Foreign Language]

Unidentified Company Representative

[Foreign Language]

Unidentified Company Representative

[Foreign Language]

Mason Xu

We've been at least 30% of the fact that we gave the guidance in Q1 was attributed to the three network convergence.

Unidentified Analyst

[Foreign Language]

Unidentified Company Representative

[Foreign Language] We started shipping smartcards to overseas market in 2009 and because of the relatively small volume, in the guidance we gave to the market place both annually and for the second quarter. That number didn’t include the expected numbers to the overseas market

Unidentified Analyst

Just quick two follow-up, one is regarding the first quarter shipment number hasn’t included these overseas shipment, second is though on the annual basis in 2010 how do we expand the overseas shipment numbers?

Mason Xu

Yeah, first question is the guidance for the second quarter, right?

Unidentified Analyst

Its first quarter, have we include the overseas shipment?

Mason Xu

Oh, yes, of course. Yes, we have. And your second question is does our guidance…

Unidentified Analyst

No, on the full year basis how do we expand these overseas guidance, how much will it ship?

Unidentified Company Representative

[Foreign Language]

Unidentified Company Representative

[Foreign Language] We expect to ship a incremental 200,000 smart cards to the overseas market in 2010.

Operator

Our next comes from the line of Mike Olson with Piper Jaffray. You may proceed with your question.

Mike Olson - Piper Jaffray

Couple of quick ones here. So, when you said ASP declines will be contained within 10%, does that mean you expect a sequential decline will not be more than 10% in any given quarter or that ASPs won’t be down 10% from where they are now for the remainder of the year?

Mason Xu

We were actually talking about the year-over-year, by the end of 2010 compared with Q4 ‘09 level the ASP decline wouldn’t be higher than 10%.

Mike Olson - Piper Jaffray

Okay, got it. And then for gross margin, I think Q1 was the highest that has been four quarters because of the ASP’s and lower materials cost but what should we expect for the next few quarters how should we expect those marginal trend?

Mason Xu

We expect our gross margin remain very stable in the quarters to come. We have this confidence because if you look at the cost structure of our smart card. Almost two thirds of the smart card comp were actually associated with computer chips. And as you might be aware in the past few quarters we have been able to effectively drive down the computer chips was related comps almost in proportion to our (inaudible) decline and we will foresee that we will be able to do, keep doing that in the quarters to come.

Mike Olson - Piper Jaffray

Okay and then the last one is you talked about the government more aggressively pushing transition to Digital TV in China. Can you talk specifically about just what does that mean what is the government doing to push from more at option to digital?

Mason Xu

Right, basically at this moment our Chinese government is pushing for the three network conversion in China and for that means basically the telecom players to enter into the so-called basic businesses of the cable operators meaning they could start producing content. And Vice-versa the cable operators would be able enter into the so called basic services of telecom players meaning they would be able to offer internet service maybe could serve as a internet service providers.

And because of the lack of competitiveness on the cable side they are really very eager. The operators are really very eager to finish digitization first and then they believe they would have better capabilities to compete effectively within the telco players. So that’s why the three network convergence is driving the digitization process in China and on the other hand it is worth noting that the provisional level of consolidation is also a driving force.

This consolidation has started to accelerate the smart card shipment process because a lot of the fragmented cable operators would like to finish digitization process before they hand the level of -- the control to someone else, okay. In the meantime, we’re not saying the consolidation is a 100% in a booster.

It could be a impediment to some cable operators because we have already seen this in certain provinces, the provisional network cable operator has mandated that everything should stop and before the consolidation is completed and in that case that would actually prevent the -- certain customers from shipping smart cards smoothly.

So all in all, the digitization process has accelerated in the past few quarters and we expect that to keep going in Q2.

Operator

(Operator Instructions). Our next question comes from the line of Philip Won [ph] with Morgan Stanley.

Philip Won - Morgan Stanley

I have a quick follow-up on the network conversion. Actually I saw in the news that there has been some delay for the finalizing the proposal or trial runs in the city. So has there been impact due to the overall consolidation process for the cable operators? On the other hand, how those cable operators look at the new free conversion initiatives versus the (inaudible). Has there been concern about the increasing competitiveness from the telecom when they are allowed to enter into content provider industry. Basically has there been any impact for the digitization process due to the recent delays of finalizing the proposal for current [ph] in selected cities.

Unidentified Company Representative

On a few customers, they delayed their purchasing decisions because their digitization trend was put on hold, mandatorily by the provisional level government or provisional level operator. But overall we believe the accelerating factor actually overpowers the decelerating factor. So that’s why we see overall the aggregate number of shipment is actually increased quarter-over-quarter and year-over-year.

Philip Won - Morgan Stanley

My next question is regarding your business strategy and first of all what is the reason for this continuing digital TV based advertising services and going forward what is the incremental investment that you expected in the following years and how many years do you expect to breakeven for this part of the business?

Unidentified Company Representative

You are talking specifically about the digital TV based advertising business or other?

Philip Won - Morgan Stanley

The reason discontinuing the advertising business and also your overall strategy going forward.

Unidentified Company Representative

Yes we discontinued our digital TV based advertising business because in the past few quarters China Digital TV has been trying hard to find how our core competency in condition access meaning content protection business in our long standing relationship with the cable operators would enable us to hold a strategic position in value added services value chain and along the way we actually did not find too much synergy between China Digital TV and the other two key stakeholders meaning the cable carriers and the advertisement players, meaning the other word, China Digital TV has come to the conclusion that the advertising business I mean not the best revenue generator, long-term revenue generator for us.

And that’s why we discontinued that and it is worth noting and also irresponsive for second question China Digital TV has decided that apart from the core condition of access business is two other things, maybe the strategic focus going forward. Lot of the two problem would be the content aggregation or content operations. The content could be diversified from gaining applications to movie titles and we are building a distribution channel as well as the connect aggregation business using the cable paddle and the other plough would be the innovative terminals, it would be a intelligent process that we shift to the marketplace and that would allow China Digital TV to serve the customers directly.

Contacting certain middle channel, that’s one part of the strategy and the other part, is we are looking at the tens of millions of existing volume of FTV that has been shift to the marketplace in the past five years. We are talking about over 70 million set-top boxes already shift to the marketplace and their quality; their capabilities are ranging from very poor quality to very high-end.

And we are trying to use our computing based infrastructure to put those process into use so that the cable carriers would be able to offer very competitive services to the end users and that would allow the cable carriers to compete more effectively with telecom payers and that would allow China Digital TV to generate more revenue to share revenue. Sorry for the long answer but basically in a nut shell we are looking at content operations and innovative terminals as two key focuses going forward.

Operator

(Operator Instructions) We have no additional questions at this time. I would now like to turn the call back over to Mr. Eric Yuan for closing remarks.

Eric Yuan

Again thank you for joining us today. If you have any further questions please do not hesitate to contact our IR team by sending a email to ir@chindtv.cn. Thank you.

Operator

Thank you for attending today’s conference. This concludes the presentation you may now disconnect.

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