TiVo Tastes Financial Success -- for Now

There's no question that people like TiVo (TIVO). The issue is whether they like TiVo enough.

The digital video-recording system company surprised analysts Friday with revenue and subscriber gains well ahead of expectations and losses smaller than those estimated by Wall Street. Its stock surged more than 10%, though it pulled back Monday amid a late tech-led selloff.

But while TiVo has bolstered investors' confidence that it can achieve cash-flow break-even before its treasury runs dry, the company still faces competition from other companies that don't do exactly what TiVo does -- but might be close enough to chip away at the company's critical mass of customers. It's this growing sense of economic unease that has the stock down more than a third this year, even as the company continues to clear its self-imposed financial hurdles.

"I don't think that they have quite communicated why they're so unique, and why you have to have them," says Tracy Swedlow, editor-in-chief of the InteractiveTV Today email newsletter.

New Challenges

TiVo's improving situation illustrates consumers' unquenchable thirst for enjoying entertainment on their own terms and schedules, with TiVo being the latest stop on a journey that has brought us VCRs, online file-trading, recordable CDs and video-on-demand. But it also shows how a successful technology is not necessarily synonymous with a successful company, and how new challenges can arise for a tech firm as older threats diminish.

First the good news: TiVo, which operates a service using hard-disk drives in set-top boxes to enable easy recording and playback of television programming, did better in recent months than both its boosters and skeptics had expected.

For the first quarter ended April 30, TiVo reported $9.9 million in revenue, three times the corresponding figure from one year earlier and 46% better than the immediately prior quarter. Thanks in part to earlier-than-expected introduction of the company's next-generation digital video recorder, retailed exclusively at Best Buy (BBY), the company added 42,000 subscribers in the quarter, better than the 30,000 that analysts expected and bringing the company's subscriber count to 422,000.

Equally encouraging, the company has been cutting costs enough to improve its chances for survival. TiVo's "adjusted EBITDA" -- that is, its calculation of the common bottom-line yardstick of earnings before interest, taxes, depreciation and amortization -- amounted to a $9.7 million loss in the first quarter, compared with a $40.4 million loss one year earlier. (That number, which the company says is an approximation for cash flow from operations, excludes items such as a one-time noncash charge related to the amendment of a deal with AOL Time Warner's (AOL) America Online, and it includes an increase in revenue deferred until future quarters.)

Encouraging for TiVo in these times of difficult money-raising for money-losing companies, the company says it's now on schedule to reach cash-flow break-even by the end of its Jan. 1 fiscal year, meaning that it won't have to raise money to stay alive.

Challenges

So much for the good news. Other challenges nip away.

In the latest quarter, 45% of new subscribers came from subscribers to Hughes Electronics' (GMH) DirecTV home satellite service, which uses a combination DirecTV/TiVo receiver.

That makes the prospect of DirecTV's pending merger with EchoStar Communications (DISH) a "key risk" for the stock, according to Deutsche Bank analyst Peter Ausnit. That's because EchoStar is already offering its own digital video recorder for free to its Dish Network satellite subscribers. Ausnit rates TiVo a market perform, saying the risk of the yet-to-be-approved merger outweighs, for now, TiVo's operational improvements.

Ausnit also notes that cable TV equipment operators Scientific-Atlanta (SFA) and Motorola (MOT) are building new set-top boxes incorporating DVRs.

Swedlow says that to succeed, TiVo must experiment more aggressively with using the service to deliver new types of programming and new applications -- such as a recent venture in the U.K. in which the company delivered a preview of a new TV show, unannounced, to TiVo owners. That, she says, will help defend the company from other developments in the TV industry, such as cable TV operators' developing no-name DVRs for themselves or offering subscribers video on demand service as an alternative.

But David Miller, an analyst at Sanders Morris Harris with a buy rating on TiVo, says the quality and the proven appeal of the TiVo product (the company instituted a price increase for a subscription to the service in the latest quarter, suffering minimal churn) will make it attractive as a name-brand service for both cable operators and satellite service providers to offer.

"We believe the service is value-added enough to the consumer and price-inelastic," says Miller, whose former employer was an underwriter for TiVo.

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