Video services

SeaChange Sees VOD Surge

Continuing on its recent roll, SeaChange International Inc. (Nasdaq: SEAC) recorded its second straight quarter of strong year-over-year revenue growth, thanks to decidedly higher video-on-demand (VOD) system and software receipts.

Still the leading player in the young but growing VOD market, SeaChange reported late Wednesday that its overall revenues for the third quarter, ended Oct. 31, rose to $42.3 million. That's up nearly 20 percent from $35.3 million in the year-ago period, although down a bit from the company's record-high $45.4 million in revenues for the second quarter.

With the revenue gain, SeaChange trimmed its net loss to $1.0 million in the quarter. That's smaller than the company's $2.1 million net loss in the year-earlier period, although a reversal from its slight profit of $643,000 in the second quarter.

"We've had another good quarter," Bill Styslinger, president and CEO of SeaChange, boasted to analysts on the company's earnings call late yesterday. "We're confident that our top-line performance will continue."

But, even with the revenue surge, SeaChange's long-term outlook remains cloudy because of the rapidly changing on-demand market, which has seen the entry of telecom gear heavyweights Motorola Inc. (NYSE: MOT) and Cisco Systems Inc. (Nasdaq: CSCO) over the last few months. Pressed by their big cable and telco customers, both Motorola and Cisco plunged into the VOD market over the summer by buying smaller startups that compete directly with SeaChange.

While cheered by the latest results, financial analysts also foresee a tough transition period for SeaChange as it tries to shift from its old hardware-heavy business model to a new software-oriented model. Analysts note that software sales generally produce higher profit margins but lower revenues.

"I think it's going to be a painful transition going from one model to the next," says Brian Coyne, an analyst with Friedman Billings Ramsey & Co. Inc. In a fresh report on the company issued earlier today, Coyne also argues that the company's cost structure is too high for it to translate revenue growth into healthy profits.

Breaking down the vendor's earnings by division, SeaChange's largest unit, known as the broadband segment, led the way in the third quarter. The unit, which covers both VOD and ad insertion equipment and software, boosted its revenues to $24.5 million, up 35 percent from the year-ago total.

In particular, SeaChange's VOD system revenues jumped to $15.0 million, up 74 percent from $8.6 million a year ago. The company credited the increase to strong across-the-board demand from North American cable companies, as well as increased orders from select customers in Europe, the Middle East, and Africa.

At the same time, SeaChange's Services segment revenues rose to $16.2 million, up $3 million from the comparable period a year earlier. The company attributed the rise to a greater installed base of VOD systems, as well as higher revenues from its On Demand Group (ODG) subsidiary.

Finally, SeaChange's on-demand software revenues nearly doubled to $6.1 million, largely due to $3 million in recurring software development fees from long-time major cable customer Comcast Corp. (Nasdaq: CMCSA, CMCSK). Both Comcast and British cable giant ntl group ltd. (Nasdaq: NTLI), another prime software customer, contributed at least 10 percent apiece to the equipment supplier's overall revenues.

The software development revenues from Comcast are part of a two-year contract sealed with the giant MSO on July 31 that is worth at least $45 million through December 31, 2007. In an early August Securities and Exchange Commission (SEC) filing, SeaChange reported a Master Purchase License and Services Agreement with Comcast for a minimum of $30 million in 2006, including products and services already acquired since January 1, and a further $15 million in 2007 related to maintenance and software subscription services.

"We are particularly well positioned in the larger economies of the world," Styslinger declared. He said the company commands more than 50 percent of the U.S. VOD business, bigger chunks of the Canadian and Mexican VOD markets, and 100 percent of the British and Israeli on-demand markets, among others.

In the company's conference call with analysts, Styslinger projected that SeaChange will turn in a better financial performance during the second half of the current fiscal year than in the first half. Looking out further, he predicted that the first half of the next fiscal year will outperform the second half of this year.

But analysts aren't so bullish on the company's financial prospects, at least in the short-term. They contend that greater competition among VOD server manufacturers will lead to lower prices and narrower profit margins, making it tricky for SeaChange to execute its strategic change while saddled with high operating costs.

"Over time, we think the business model can evolve to a state whereby it can deliver meaningful earnings power as well," Coyne writes. "However, we believe that would require a much greater contribution from its emerging businesses (ad insertion and broadcast revenue) and/or significant cutbacks in opex, neither of which we expect in the near future." As a result, he concludes, "we are not hopeful that SeaChange can demonstrate consistent earnings growth, at least over the next year or so."

— Alan Breznick, Site Editor, Cable Digital News

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