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IDT Corporation (NYSE:IDT)

F3Q08 Earnings Call

June 4, 2008 5:00 pm ET

Executives

James A. Courter - Chief Executive Officer

Stephen R. Brown – Chief Financial Officer

Liore Alroy – CEO IDT Telecom

Analysts

Hal Weber

Clayton Moran – Stanford Group Company

Operator

Welcome to IDT Corporation’s third quarter 2008 earnings report conference call. (Operator Instructions) I will now turn the call over to the company.

James A. Courter

I am here with IDT’s CFO, Steve Brown, to discuss IDT’s earnings for its third fiscal quarter which ended April 30, 2008. Thank you for joining us.

Steve and I will begin by making some general observations on the quarter’s results and then we will take your questions. For those of you on tight schedules, we plan to wrap this call up in about an hour.

Before we begin please recall that any forward-looking statements we may make during the course of this call, either in our prepared remarks or in the Q&A period that follows, whether general or specific in nature, are subject to risks and uncertainties that may cause actual results to differ materially from those which we anticipate. These risks and uncertainties include, but are not limited to, specific risks and uncertainties discussed in the reports that we file periodically with the SEC. We assume no obligation to update any forward-looking statements that we have made or may make, or to update you on the factors that may cause actual results to differ materially from those that we forecast.

Now let’s get started.

During the third quarter of 2008 IDT cut costs and restructured operations at an accelerated pace. Although none of us are pleased with an $82 million loss, we made significant progress during the quarter, executing a comprehensive plan to produce positive cash flow from operations for the corporation during fiscal 2009.

The direction of that line is functional with and consists of four basic strategies: one, selling, spinning off, or shutting down nearly all businesses that won’t help us meet our goal; two, reducing our corporate overhead; three, streamlining our core businesses; and four, making modest investments in very limited number of closely managed opportunities.

We are selling, spinning off, or shutting down underperforming assets. During this quarter we terminated our Depot USA initiative and we began to spin off several smaller businesses, including our call center businesses. We have also liquidated some minority holdings and are putting several of our real estate properties up for sale.

Second, we continue to cut our corporate overhead. At the IDT corporate level we are also eliminating executive positions, including the position of COL in our Corporate Development Department. We are cutting the size of our administrative staff as well. We announced a change in auditors this quarter, which will also lower costs. In all, we expect to reduce ongoing IDT corporate expenses, excluding such items as severance, by more than $10 million over the next year. More than half of the savings will come from staff reductions, some of which have already occurred. The rest have been identified and scheduled.

The third leg of our strategy is to streamline our core operating businesses. Let me start with telecom. As we said on numerous previous calls, competitors who misrepresent the number of minutes attainable on the calling cards they sell are primarily responsible for the decline in our US retail calling card revenue. However, a few recent governmental actions demonstrate that various levels of government are now intervening, to protect consumers. And in so doing they are leveling the playing field, finally.

Both federal and state legislatures and regulators have recently taken notable steps to protect consumers and clean up the calling card industry. In January New Jersey Governor, John Corzine, signed into law comprehensive legislation aimed at stopping prepaid calling card fraud by requiring honest voice comps and other advertisements. The New Jersey Attorney General’s Division of Consumer Affairs subsequently proposed comprehensive regulations pursuant to this legislation. Comparable legislation has since been introduced in New York and Florida legislatures.

In March the Federal Trade Commission sought and obtained a temporary restraining order in federal courts in New Jersey preventing a large New Jersey-based distributor from marketing and distributing defective calling cards. A similar action was recently brought by the FTC in federal court in Florida against several large distributors of prepaid calling cards, and again, the Court issued the requested temporary restraining order. In May federal legislation aimed at stopping prepaid calling card fraud was introduced in the United States Senate by Senator Bill Wilson of Florida and complimenting a similar bill introduced in the House of Representative by Eliot Engle of New York. And just days ago, the Texas Attorney General filed suit against a large, Texas-based prepaid calling provider, seeking to halt that company’s deceptive marketing practices.

In their totality, these measures, in conjunction with the lawsuits that we have brought against competitors, may begin to stabilize our US calling card revenues. I think that has started. Nevertheless, we cannot assume that conditions will improve and we are proceeding to streamline the business aggressively. We have saved almost $30 million in connectivity and network costs during the first nine months of fiscal 2008, on top of considerable savings in fiscal 2007. Overall gross profits permitted for Q3 are up modestly year-over-year. There are more meaningful savings to come. We are encouraged by the success of our integration with [inaudible] and we expect further sequential declines in connectivity costs and network expenditures well into fiscal 2009.

In addition, during the third quarter, IDT Telecom recorded $12 million in restructuring charges to cover management changes and downsizing of its workforce.

I would like to highlight our cable [inaudible] for the year end, which is a relatively young and very promising business. It now supports over 170,000 retail subscribers throughout the United States, up from 130,000 at the end of fiscal 2007. This unit generated almost $7 million in revenue this quarter with solid and sustainable net contributions. As many of you know, server operators are well-poised to compete in the local telephony market. Our significant investment of time and money in this business is now finally beginning to pay off.

As you know, IDT Telecom has a capable new CEO, Liore Alroy. Among other things, Liore and his team are focused on building value from our telecom assets, which will include spinning off some non-core telecom initiatives and completely and totally shutting down others. We will keep you posted on our progress.

Turning to other operating units, another streamlining target is our debt collection business. IDT Carmel did not add to its debt portfolio this quarter. We have an adequate portfolio currently to supply our collection operations and we are determined to enhance both our analytical capabilities and the efficiency of our collection operations before expanding our holdings again.

Carmel has a new management team with extensive industry experience. And under their direction we are rapidly bringing state of the art technologies in performance metrics on line. With rich and enhanced infrastructures in place, we will look carefully at opportunities to re-enter the debt purchasing market. In the meantime, IDT Carmel is generating cash flow and operating profits and we expect continued improvements in near-term performance.

While I’m on the topic of profit generation, I should mention that IDT Energy is consistently performing on target, contributing earnings and cash flow. We continue to see opportunities to expand our energy business in New York by adding profitable customers who meet a rigid set of criteria. In fact, during the quarter we added customers at nearly twice the rate of the same quarter a year ago and revenue is up 15%.

Additionally, we monitor other deregulating markets very closely. As interstates move closer to New York’s low-risk ethical model, we will initiate the licensing process, which can take quite a period of time.

Management’s fourth task is to look to the future and modestly fund a few businesses which, in our judgment, represent a truly extraordinary opportunity. Our mobile content and networking site, Zedge, is one. Our oil shale investment, AMSO, is another. And the defense of our intellectual property, which we believe is quite valuable, is the third.

We’re spending about $5 million a quarter on these opportunities in aggregate. These three ventures, in our judgment, represent limited downside risks and offer potentially extraordinary gains.

During this quarter, Zedge, our mobile content business, overhauled it’s website, to the apparent delight of almost 10 million registered Zedgers, that’s what they call themselves, who responded by increasing the pace of uploads to the site some 45%. Currently the site averages 10 million page views and 1 million downloads per day. Zedge’s 10% month-to-month growth remains entirely vital with no significant marketing expenditures whatsoever. That’s especially noteworthy because the US mobile content market, which trails much of Europe and Asia by about 18 months, is poised for explosive growth and Zedge is well positioned to grow with it.

During the coming quarters, Zedge will roll out several enhancements designed specifically to grow its customer base in the United States and the UK, a particularly appealing demographic for advertisers.

We are also focused on initiatives to translate Zedge’s substantially rapidly-growing customer base into ad revenue. We believe we’ve achieved the critical mass for direct advertising sales and we are exploring ways to aggregate with other content providers to provide an appealing global demographic. All indications are that Zedge is on track to become a powerful force within the mobile content space.

We discussed another new business initiative, our oil shale venture at length on the last call. With gas prices headed north to $4.00 a gallon this summer, the global oil supply proving to be inelastic; it’s becoming clear that oil shale will be a very important component of a national energy debate. The cogent will have to decide and under what conditions commercial oil shale development should proceed. In the meantime, AMSO has submitted its plans for operations for our 160-acre research and development site in Colorado.

Conditional upon its approval by the Bureau of Land Management AMSO’s operating expenses will rise from $700,000 in the third quarter to approach $2 million during the fourth quarter, as we begin drilling to obtain site characterization data. I should also note that we invested an additional $3 million this quarter to increase our stake in EGL Oil Shale. We call it now, of course, AMSO.

Finally, we are aggressively defending our IP, intellectual property. We continue to pursue the cases we’ve commented on in previous quarters but have no new material developments to report at this time.

This concludes by discussion of the four elements of our strategic plan. Disclosing of unprofitable businesses, reducing our corporate overhead, streamlining our core businesses, and making modest investments in a very small number of closely managed opportunities. Together, they constitute a straight-forward path for a positive cash flow from operations in fiscal 2009. We are executing it in an uncompromising and expeditious way.

I would like now to turn the call over to our Chief Financial Officer, Steve Brown.

Stephen R. Brown

I will update you on IDT’s financial performance for the third quarter of fiscal 2008 and then we will move on to questions.

On a consolidated basis we lost $82.2 million in our third quarter. In light of the size of this loss, and particularly on the heels of last quarter’s $62.5 million loss, I would like to start by discussing our cash position.

Our consolidated cash, cash equivalents, cash equivalents multiple securities and investments, were at the end of the quarter $393.9 million, down by %16.7 million compared with the balance at the end of last quarter.

Here is an overview of the key sources and uses of cash. Operating cash flow was positive $6 million, including our collection of about $43 million from the previously announced Altese One arbitration award. This was offset by approximately $50 million in expenditures, which included $22 million used to purchase our building at 520 Broad Street, $15 million which was used to pay down capital leases and borrowings, $4 million of CapEx, $4 million for acquisitions, and about $1 million spent on our stock repurchase program, and in addition also about $4 million of combined realized and realized net losses.

So offsetting this $50 million of expenditures, our cash balance was enhanced by a $15 million repayment to us of the note receivable and $8 million of positive cash flow from our debt collection business.

Now to the income statement. I will go segment by segment, quarter-over-quarter, which is Q3, this quarter, versus Q2, last quarter.

Retail telecommunications revenues decreased quarter-by-quarter by 10% to $183 million this quarter from $203 million last quarter, mostly due to a decline in usage revenues in the US prepaid calling card business. This, of course, was the result of our continual lost market share mostly caused by the unfair practices of our competitors, as well, to a lesser degree, as the usual decline in our third quarter because of seasonality. We are cautiously optimistic that this downward trend is starting to moderate and we hope the business will slowly stabilize for the reasons Jim discussed earlier.

Wholesale telecommunications revenues were relatively flat, decreasing by 2% from $160.5 million to $157.4 million. Realize also that this quarter had less days than last quarter.

Consumer phone service revenues decreased 10% to $20.8 million, which is typical for this business, which as you know, we are harvesting.

Blended gross margins for the telecommunications businesses were down 20 basis points from 22% last quarter to 21.8% this quarter. Retail gross margins decreased 50 basis points but still remain strong with an 18.3% rate.

Wholesale margins also remain strong at 12.8% this quarter, despite an 80 basis points decrease quarter-over-quarter.

Consumer phone service margins this quarter were enhanced by a $3 million carrier settlement in our favor.

Telecom SG&A costs, including [inaudible] charges, remained relatively flat at $77.1 million. Included in this quarter’s costs were $4 million of one-time nonrecurring costs paid this quarter related to the Altese One settlement. We also incurred a $2.6 million charge of telecom research and development expenses relating to our IPTV initiative, of which most of that expense was a write down of our investment and acquisition of Fibrix, the IPTV company, saying that the investment was considered as a research and development asset.

Our telecom unit also incurred a restructuring charge of approximately $12 million this quarter related to the severance of certain of its executives and the elimination of certain positions. Telecom management, while on the most part optimistic that its core businesses can be growth businesses once again, continues to evaluate whether certain non-core, non-profitable initiatives should be shut down, harvested, or down sized.

On to IDT Energy. IDT Energy had, in my view, a surprisingly good quarter. That it is was a positive $900,000 was not what I mean by being surprising, but the surprise was that it’s added 25,000 new customers this quarter. Of course, since the energy business model entails the customer acquisition model at it’s success pace, SG&A costs were higher than expected and they increased $700,000 quarter-over-quarter, but that is a healthy increase and of course we expect the profits from these customers will enhance the profitability of the enterprise over the life of the business.

It is still too early to evaluate if this trend of increased customer acquisition is sustainable and as we have talked about in the past; of course, energy’s management is continuing to evaluate whether to expand to other geographical locations.

The next business, IDT Carmel, this quarter collected on its existing portfolios fairly close to expectations. It’s focus was on integrating new members of the department’s management team, improving its information systems, and improving its collections engine. The focus this quarter was not on evaluating new opportunities for portfolio acquisitions and no new portfolios were purchased this quarter. We continue to believe in the long-term potential of this business.

IDT Capital’s EBITDA was a loss of $15 million and was generated from several components. Firstly, we incurred a $6.2 million research and development expense on our oil shale, or AMSO, initiative. This was the result of purchasing a majority stake in EGL for $5.5 million, which consisted of the R&D lease between the U.S. Bureau of Land Management of the Interior and EGL. Since the R&D lease is considered a research and development asset, it was charged to research and development expense in accordance with generally accepted accounting principals. In addition, during the quarter, we incurred an additional $700,000 in research and development expenses in funding operations of alternative energy.

Also in IDT Capital there were EBITDA losses for [inaudible] ventures of $4 million consisting mostly of legal fees incurred in the legal litigation; the $2.8 million loss in our call center business as we began the process of closing down the call center businesses; a $1.3 million loss from our Internet mobile group, or more specifically, the Zedge business; and approximately $1 million from our local media business.

Going forward we hope to reduce the Internet phone venture costs to close to $2 million a quarter and hopefully within the next few months we will have exited the call center business in entirety. In addition, within the next couple of quarters we hope to see improvement in the P&Ls on both our Internet mobile group and the local media businesses.

The final component is our corporate overhead. Our corporate overhead expense can be categorized into four groups. Three of them I would call non-recurring and the fourth is the general recurring expense. In reference to non-recurring items we incurred a $10.5 million one-time charge on the lawsuit we are appealing. We also incurred an additional $4 million of non-recurring SG&A expenses this quarter related to expediting our corporate overhead reduction program. We also eliminated several corporate positions, leading to a $4.5 million severance related corporate restructuring charge this quarter. And finally, our recurring corporate SG&A charges this quarter were $8.8 million, which is a good base to use in the current model, but we still hope to continue to reduce that run rate.

In summary, IDT’s balance sheet remains strong. In addition to our cash, marketable securities, and investments, the company has significant upside potential, in Zedge, our oil shale AMSO business, and in our ongoing litigation. Nevertheless, it is imperative that we continue to execute on our plan to slash corporate overhead; spin off, harvest, or close unprofitable businesses; and streamline the remaining operation.

At this point I would like to turn the call over to questions and answers.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from Hal Weber.

Hal Weber

A couple of questions in regards to the cash position. Based on where your stock is, our stock, unfortunately the current cash position appears to be twice the market value of the company. I’m not very convinced about where we’re going with this. After being a long-term shareholder and continuing to be, for myself and for many of my clients, I’m hoping to see some more aggressive, positive behavior here, to help bring credibility back to our situation. I was hoping you could add something to that.

And the second question is in regards to previously had these issues about the ocean rate securities, where are you standing with that, have there been adjustments made to that, how much of the stuff has been called out, are you there, where are you in this area, could you elaborate on that as well.

James A. Courter

Yes. I will have Steve go the substance of both those two questions. Liore Alroy who is the new CEO is here to answer questions so if people have questions with regards to telecommunications, he’s here, and he’s the new CEO, we’re happy to have him. So with regard to the cash, that equates to the price share, Steve, and also the second part of the question.

Stephen R. Brown

Well, as you didn’t ask a question I guess you are commenting that some of the pieces of the company seem to be worth a whole lot more than the value of the stock price. I think that’s a fair comment. The company, right now, is extremely focused. I think one of the overhangs on the stock is people, some investors or Wall Street may be afraid that we have been reckless with our money, which I would disagree with.

But there is concern that those cash balances will continue to go down. And I will give assurance there’s been several concentrations on bringing this company to hopefully, in the short term, back to a cash-positive situation. But there has been a tremendous emphasis on getting rid of speculative businesses that are unprofitable, that are not bringing shareholders value, and downsizing corporate costs, which we have done significantly. And that has been a major focus, will continue to be a major focus. And I think the financial results we certainly hope that they start showing up starting next quarter.

Obviously Rome wasn’t built in one day. But I think the results of what we are doing will show and I think investor confidence will come back and hopefully they will see the same thing that you do, is that the sum of the pieces are worth a whole lot more, that some number of the pieces, the potential of our telecom business, the potential of our oil shale business coming back. And I think Liore would like to add to that.

Liore Alroy

The point is well taken and it has occurred to us as well and it’s occurred to third parties as well. A number of which we are talking with about if we can’t get the value at the shareholder level, can we get it in transactions for parts of the businesses, at least the parts that I’m focusing on, and there are a number of those conversations going on as we speak. So we’re clearly aware of the disparity.

Stephen R. Brown

To go to your second question. Are we free to, the balance sheet, cash equivalents and multiple securities, we have a little market risk over there and not subject to the securities. Long term investments of approximately $124 million. We put $43 million of those into current assets so it was a very good cause we invested in but we have to liquidate those funds to lower the amount of long-term investments. The remaining $81 million are all performing funds that we continue to have tremendous confidence in, that have performed even in this market and anything that we considered risky we divested of long ago.

Hal Weber

I’m sorry but I’m not really clear on that. You had had a very large amount of ARS before.

Stephen R. Brown

We have pretty much exited those positions.

Hal Weber

So this 393 number is a current asset cash value number?

Stephen R. Brown

Correct and liquidable.

Hal Weber

Well, when we say marketable it means available for, a marketable, liquidable.

Stephen R. Brown

It depends on exactly what the marketable securities are. But they are in securities that are low risk and protecting our principal is the most important part of our decision.

Hal Weber

So let me ask you. The stock is now trading right at the moment at $2.40. I don’t know if you’re aware of that or not. At the very moment we are speaking. Are you guys going to commit some more money to buying back the stock at these ridiculous prices?

James A. Courter

That’s something we always think about and talk about. We have the Board authorization for significant buy back but on the other hand we want to look at the cash situation because we have had two quarters that spent a lot of money. So we’re not in the situation as we were a few years ago with a billion dollars in cash. So we are going to look at it very, very carefully and if in our judgment it’s appropriate to spend some of our cash resources for buy back, we will.

Hal Weber

It would seem to me that watching the stock go down 90% that if the cash in hand is double the price of the stock we should be, where can you get 100% return on your money today? Based on previous results of the past years it would seem quite the contrary. I think shareholders, you guys included.

James A. Courter

Yes, we are. Indeed we are significant shareholders.

Hal Weber

I’m aware of that. I mean, we’re out here in the trenches dying with this and people say what’s going on.

James A. Courter

We appreciate your patience. We think we have a turn around. These things can’t happen over night. With regards to the buy back, it’s something we discuss almost on a weekly basis.

Operator

Your next question comes from Clayton Moran - Stanford Group.

Clayton Moran – Stanford Group Company

I was hoping you could comment some more on the telecom assets. Steve had mentioned evaluating a bunch of options, none of which included selling any assets, but then Liore seemed to imply that the sale of assets is possible. What are you exploring in regards to the telecom assets? Is there a potential liquidating event?

Liore Alroy

I don’t know that I want to go into too much detail, but we have a number of conversations going on. Some of them are fairly narrow with respect to specific initiatives, some of them are significantly broader and they are all things we are working on in tandem with the cost cutting, streamlining.

Stephen R. Brown

IDT has a long history of always looking at opportunities to modify its assets. If we think the money we would receive would be in excess of the long-term cash flow from the business. It has never been a business that IDT is so married to that it doesn’t look at those opportunities and I think that’s pretty much always going to be our strategy.

Clayton Moran – Stanford Group Company

One thing I could use some help understanding is some of the recent bonuses, the severance and retention payments. Some seem rather large. For instance, a $3.3 million severance to the former CEO of Telecom. That doesn’t include an extra $400,000 from consulting. Why are these large bonus and severance payments in a situation where you obviously see nothing but deteriorating results?

James A. Courter

A number of months ago, probably about two years ago, we were in conversations between the former CEO of Telecom and myself and Howard Jonas the chairman of the company and what we wanted to do was work out an agreement with the Telecom group and incentivize them similar to a private equity firm. In other words it would be based on their success [inaudible] and the executive management team would receive a percentage of that. Or if they sold assets, and that was primarily put together to do that, they would receive a benefit by the sale.

That agreement basically preordained the termination pages when we unwound it. We looked at where we were we realized that there was a greater upside than a down side going forward. Some of our perspective purchasers stock went down and therefore they didn’t want to sell a greater percentage of their company than they anticipated and so that particular sale was not achieved.

Then as Howard and I looked at the Telecommunications and where we were, we thought very seriously that this was an undivided asset that the calling card business could only go up. That the carrier business would continue to improve and that we had basically hit the bottom when it came to computations and we were going to be profitable as we went forward, decided to put in a new team that were more operationally oriented. And therefore we made a management change and the packages that were given as I mentioned before, were dictated by the agreements that we entered into about 18 months ago.

Clayton Moran – Stanford Group Company

So the old team was more focused on building the asset value and the new team is more focused on operating results?

James A. Courter

No. The new team is certainly focused on profitability. The old team was more focused, in my mind; they were particularly focused on monetization.

Stephen R. Brown

Members of the old team have been very successful in many of our transactions. If you look at their employment history, at least the ones that have been officers, their severance was tied into their prior compensation, as a company policy.

James A. Courter

They’re highly skilled people that contributed a lot to the company. But their skill sets were different than the skill sets we wanted as we go forward.

Operator

There are no further questions.

James A. Courter

Thank you very much. We will talk to you next quarter.

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