Checking the pulse of Audinate

A company that our Growth Fund and Small Companies Fund has been invested in for some time, is an audio company called Audinate. 

Today we have the CEO, Lee Ellison, on the line from the US.

Thanks very much, Lee, it’s Sunday your time, so thanks very much for giving us your time on the weekend.  For our listeners who haven’t heard of Audinate before, could you please just provide a little bit of background about yourself and explain, without jargon as much as possible, what Audinate does.

Yes, so I’m Lee Ellison, I’m the CEO of Audinate and I joined the company a little over 10 years ago back in the days when we were just really starting to have a product and starting to have revenue.  My background really comes from about 30 years in the telecom and IT space and in a lot of respects, those experiences are quite useful when you look at Audinate, because Audinate at the end of the day is really a networking company.

Audinate is the leading provider of digital audio networking technologies and our technology is used to distribute audio signals and now, going forward, we’ll talk a little bit about our new capabilities for video, and distributing them across an IT network.  Today, what traditional professional audio-visual systems and by that, I guess, audio and video makes up a great part of people’s daily lives that they don’t realise.  From the time you get up in the morning, you might have a broadcast that transmits audio to the time you get on a train.  You go to Sydney trains and you hear the announcements over the platform, to the time you might get to a conference or a school and there’s different lectures going on to the time you go to a lunch and you hear background music or go shopping at night or have entertainment. 

All of those things require high quality audio and today that’s traditional analogue.  What Audinate does is do those over a computer network and really reduces the overall cost of ownership by displacing legacy analogue technology.

Okay, so for someone who doesn’t have any experience in this industry, what is it exactly that you sell and what do you actually earn revenue from?

Our business model is we provide a networking technology that is the most complete solution in the market.  We call it Dante and Dante is delivered in the form of chips or modules or cards that might go into the leading manufacturers’ products who make products like powered loudspeakers or microphones or digital signal processors or mixers.  Those companies would include the who’s who in the professional audio industry.  Brands like Yamaha or Shaw or Bosch or Bose or Sony, take advantage of our technology, put it inside their products and as a result, all of these products can talk to each other making this large ecosystem of interoperable products.  At the end of the day what we’re trying to do is make it very easy for these customers to implement digital networking technology while providing the most interoperable solution out there.

I’m sure you’ve heard of Sirius XM, a digital radio service in America, I was wondering whether it had similarities to that, with actually having to have the transponder built into the car before people actually buy it so they can get a signal?

I guess there are some similarities and in some cases, those signals once they get into a facility have to be moved around the facility.  An example of that might be in a retail shopping centre or in theme parks, our technology is often used to take those signals that come over the satellite broadcaster and distribute those over the whole system.  Traditionally what may have required multiple feeds is easier to do with a single feed that can be distributed over an IP network.

Can you give us a sense of the size of Audinate’s market opportunity today and how you expect that to grow over time?

Today’s Audinate’s primary competition is in the world of analogue technology.  But we’ve become the de facto standard for digital audio networking technologies.  This is still in a very early stage of penetration but we see this as an overall addressable market of $400 million according to Frost and Sullivan who did some work to take a look at the market prior to our IPO a couple of years ago.  We analysed if our technology was embedded in products that could use digital audio networking technology, it would be about a $400 million addressable market.  We’re entering the video market by developing a technology that transmits HDMI signals over an IP network which we estimate to be an additional $400 million, plus our software and adapter product market that we are involved in is another $1-200 million addressable market.  So overall a $1 billion addressable market.

What are the key things that influence the speed of Audinate sales?

Initially, it was working and selling to the original equipment manufacturer, the brands I talked about earlier, and to get them to adopt our technology.  Once they adopted the technology they would integrate it into their products and that may take anywhere from 12 months to 24 months to integrate that into their products.  That’s one of the aspects.  The other thing, though, as a result of the growth that we had, we now have about 460 manufacturers who have adopted our technology and are at various stages of implementation in their product portfolio and now there are over 1800 products from various manufacturers that are available.  So product availability was the key thing to drive growth.

The other thing was changing and education of how easy it is to use a network.  Historically a professional AV system integrator would take a cable from one room, connect it up to a central location and everything would have to be wired from point A to point B.  Using our Dante media networking technology all of that is just handled on the same network infrastructure that the IT system is already run on.  Today they have data on that system and we can certainly transmit high quality perfectly synchronised audio on that.  Part of the thing that we need to do to drive the adoption in the industry is just education to the system integrator how easy it is to deploy an audio network system using the IT infrastructure that’s already there.

How do you think about the pricing for your hardware and software?

Today there are various implementations that we have for both hardware and software that have different channel count implementations.  We have implementations for low-cost devices, for things like powered speakers and microphones that range from 2-4 channels and they’re priced at a lower cost and so one of the things we want to do is at some stage right now some of the products have both analogue and digital.  In the past, you looked at digital technologies as burdening the cost of the audio product.  Going forward, we see that analogue actually burdens the cost of the product.

For medium-sized implementations we have a different product solution we call our Broadway product for higher channel count implementations that would go into products like digital signal processors or mixing consoles, we have our Brooklyn product and then we have various software implementations.  Software that goes as a reference design that is on a per licence basis and a per channel basis and software that goes inside of Macs or PCs to allow you to do things like we’re doing now, recording applications directly into the Mac or PC without any other hardware interface.  Those are priced as low as $30.

Going forward how do we see it?  I think it’s important with any mass adoption to drive the overall cost of the implementation down, and we’re doing various things in our development to improve the incremental cost of adding Dante to the network.

At least where the audio is concerned a lot of the large upfront investment that took many, many years is behind you.  What do you need to do now to remain the market leader and what sort of marketing do you do?

In the past, years ago we’d sell to the equipment manufacturer.  Today, most of our sales and marketing dollars are marketing to the end customer in that education and awareness that I talked about.  One of the things that we have done is development of a curriculum based on what we call our Dante certification which is an online or face to face programs that educate the system integrator or the end customer on the ease of use of Dante.  We invest a lot in those types of marketing applications just to proliferate the adoption of Dante.

Another thing that we’ve taken advantage of is really leveraged our brand and so when you look at our technology like Dante, I guess you can think of it as Intel inside, or a Dolby inside type approach and our customers recognise that our brand has value.  They recognise that if they buy any product they want, so they can pick a best of breed solution, they can plug any product into any other and it’s going to work, that every device will discover itself and automictically proliferate the channels and allow them to connect anywhere to anywhere at the click of a mouse.

Going forward we’ll continue to invest in that education, but we’ll also develop new software capabilities that improve the overall management of the system to fit more in IT like management solutions.

Audinate has around five times as many adopted devices, I believe, compared to your nearest competitor, which is CobraNet, which seems to have been really struggling in recent years to grow – not that you want to give away Audinate secrets.  But if you had the unfortunate role of being the CEO of CobraNet is there anything they can do to catch up and what stops some bigger players to splash a whole bunch of cash to upset the economics and compete with Audinate?

CobraNet is, in the past I guess, if you look at the other audio networking technologies CobraNet was a technology that was limited to its bandwidth of 100 megabits per second and it could have invested more and done more things to go beyond that but it really hasn’t evolved.  As a result of that, the latency or delay of a system going through from point A to point B was typically a little over 5 milliseconds delay.  There used to be another technology called EtherSound that was a competitive technology, it was low latency but it really wasn’t a scalable solution.

There are some technologies we have that have competed that are maybe more broadcast focussed.  But what Audinate and Dante did from the beginning is focussed on one, making it easy to use and so the other legacy technologies were complex.  Two, ensuring that the latency was very low but it scaled on an IT network.  Three, that it was truly an IP and some of the technologies were not real IP even though they used computer networks.  Four, is continued to add layers on top of the solution to add value-added services for the end customer like our new Dante Domain Manager which really makes it much easier to manage.  Then going forward we’ll have development invested as we have Dante Domain Manager and as a platform to give people other value-added servicers that they need to better understand what’s happening with the network.

Audinate has several patents on its technology which roll off progressively, is that something that long-term investors need to be concerned about?

I think that’s to our benefit that the patent portfolio that we have, we understand that patents give you some defensible position in terms of IP.  The other defensible position that we have is just the ecosystem that we discussed earlier, having so many products in the marketplace, it really doesn’t make sense for a manufacturer, when they build their next product why would they choose a CobraNet or another technology that only has a limited amount of connection options and interoperable options.  But we have continued to, when we develop new technology take a look at is there a good reason to have a patent, and so far we have about nine patent families.

It seems rare for computing standards like Ethernet, USB and Firewire, for example, to be owned by a single for-profit entity.  I was just wondering why have few people successfully commercialised standards in the past and what makes Audinate different?

Yeah, standards – I mean, there’s a lot of them and actually, Dante is built on a standard.  So when you talked about some of the things, for time synchronisation we use what’s called an IEEE1588 time synchronisation protocol, we use various things in the standards bodies.  But I guess some of the things when you’re putting all of these things together, what has been beneficial to Audinate is that we are a company that not only takes standards, but we put a complete solution together.  Just because you incorporate a standard, doesn’t make it easier to use.  I guess an example I like to refer to a lot is when I look at the enterprise network switch market, if you actually look at that, Cisco has been and continues to be the dominant supplier in that particular space for enterprise class network switches.  There are other manufacturers out there like Netgear and Juniper and others. 

But I think one of the things that they provide is a complete network monitoring system that the network manager and system administrator counts on, and so having those tools that are at the higher layers of the protocol stack are really essential for development of a solution more so than development of a standard.  As you go up the stack that’s where it becomes more and more complex.  From the beginning, Audinate went up the stack and so as we look at the standards that are coming out into the market they’re limited at providing the solution to how do I manage and control and configure the network?  How do I discover the devices that are on the network?  How do I have health and network monitoring information that’s on the device?  That’s the areas that we’ve continued to innovate and differentiate our product.

Technology moves very quickly – CDs disrupted tapes, MP3s disrupted CDs, Audinate’s technology has been a step change for the industry.  Is there anything far out on the horizon that’s another big step change in your industry?

Well, those are things that keep me up awake and I’m sure the rest of the management team up awake at night.

As well as investors like us calling you on the weekend!

[Laughs] Yeah, we just had a strategy offsite literally last week where everybody flew in from Sydney to Portland and analysed where we’re at, what kind of products we need to be working on in three to five years, what are potential threats in the market?  When you talk about my background, lessons learned, I think those are some of the lessons learned that I had is that while you may have a great market and a good technology, there’s always threats that may come in from different avenues.  One of the things that’s been core to Audinate’s culture from the beginning is innovation.  That innovation is really essential and to continue to develop new technologies and recognise that there’s always threats out there and just having the best solutions, the best relationship with our customers, listen to what those needs are, are going to be essential.

Originally at Audinate it was a bunch of tech-heads so to speak, who come in to solve an engineering problem and now you’re moving into a different stage of the business where you’re actually about to produce a lot more cash and profit and I was just wondering what’s your process about thinking about what to do with the profits?

I think in line with what I said earlier, we are investing into the business and that doesn’t mean we won’t turn profits going forward, and in fact, we recognise the importance to the shareholders.  But the bigger importance right now is we’re dealing with a network effect and so it’s really about a land grab.  Growth is what’s at the forefront of our strategy and so historically Audinate has delivered growth rates in the area of 26-30% annual growth rates.  We’re going to continue to invest in new technologies and new capabilities to continue to drive similar type of growth rates based off historical performance if we can.

In Australia, we’ve recently seen a number of Chief Executive departures without any internal replacements.  You’ve been in the business for 10 years, and as shareholders, we don’t want you to go anywhere, but is there a succession plan if you get hit by the proverbial bus?

Yeah, that’s one of the things that the board has discussed and we, as a management team, discussed.  In fact, in the offsites, it’s not just succession planning about the CEO, it’s succession planning about growing as a company.  How do we fill the various management gaps that we’re going to open up just by growing the number of people in the organisation?  That is important to the organisation, that is important to the board and that goes beyond just the CEO.

You deal with a lot of different companies and you just mentioned off air that you’ve got a trade show tomorrow.  I assume you know a lot about the end users and I’m sure you’ve interacted with lots of different businesses through other avenues as well.  Are there any other listed companies that have really impressed you?

In our industry?

Yeah, or sideways, just other companies you’ve dealt with?

So we have in our industry there’s some limited amount of public traded companies.  One of our customers, Focusrite, has done a great job in growing their business and really building it from a low cost device to building an IP based business, selling it to the enterprise markets, so they’ve done a great job.  One of our suppliers that we use, it’s people like Atlassian, obviously, have done an amazing job and that’s who we utilise as some of our tools for development.  Also, Altium is another company that we use as a supplier for our hardware development tools and they’ve done a great job transforming their business really.   I think that’s really important going forward, it’s not just about the technology transformation, it’s not just about the customer transformation, it’s also about looking at different business models that need to transform in a business.

Lee, it’s Sunday night there.  We’re very happy shareholders here at the Intelligent Investor, and I just want to say, thank you for the good job and thank you for giving us your time on a Sunday evening and hopefully, we can catch up with you later in the year.

All right, that sounds terrific.

Thanks a lot, Lee.

Disclaimer: Please note that Audinate is held in the Intelligent Investor Growth Fund and InvestSMART Small Companies Fund.