Shareholder Criticizes Zoran’s DTV Business as ‘Unclear, Misguided’

The “upside down cost structure” of Zoran’s DTV and DVD businesses stems from long-term goals that are “unclear and misguided,” said Jeffrey Smith, a partner in Ramius, which wants to replace the company’s board. Ramius, which owns 8.3 percent of Zoran, is seeking shareholder support to replace six members of the board. Ramius said in an SEC filing that it questioned the board’s oversight in allowing Zoran management to pursue DVD and DTV businesses that are “unprofitable and structurally challenged."

In the 12 months through September, Zoran recorded $54.6 million in gross profit from DTV and DVD, while spending $111 million on R&D and selling, general and administrative expenses, Ramius said. Gross margins are below the corporate average at 37 percent, it said. Zoran’s DTV revenue is expected to fall to $35 million to $50 million in 2011, from $100 million in the 12 months ended Sept. 30, as one of its largest customers adds a second supplier, Ramius said. Among Zoran’s largest customers for its SupraHD processors are Funai and Toshiba. It also markets frame rate conversion chips, the technology for which it acquired in buying Let it Wave.

Based on what is said were recent conversations with management, Ramius maintains that Zoran will continue to spend “heavily” on DTV R&D and marketing as it seeks to recapture lost marketshare. Zoran also is moving to improve gross margins by gaining design wins with tier-one manufacturers, while “de-emphasizing” tier two suppliers, Ramius said. “We believe this is an ill-advised strategy that will not succeed,” it said.

Zoran is “aggressively taking actions” to improve its cost structure and business mix, with a goal of “achieving sustainable and profitable growth,” CEO Levy Gerzberg said in a statement. Zoran is halting investments in DVD and will “harvest” revenue from the existing product line and expects it to turn a profit in 2011, he said. Zoran also is “streamlining and optimizing” its DTV expenses and has set revenue and operating expense goals for the business for 2011, Gerzberg said. The company’s “most competitive” technologies are aimed at “higher margin, higher-growth segments,” he said.

Zoran’s recently bought Microtune, a company that also struggled with the DTV business for its silicon tuners, Ramius said. Microtune invested heavily in DTV and suffered “substantial losses” with “little traction” for revenue growth, Ramius said. Microtune had a strong business supplying silicon tuners for cable modems and multi-tuner set-top boxes, it said. Microtune’s core cable business should produce $18 million in operating income this year, Ramius said. Microtune is “complementary and synergistic” to Zoran’s strategic and growth objectives” for DTV and STBs, Gerzberg said. It will help Zoran’s 2011 earnings, he said. Earlier this year, before its sale to Zoran, Microtune reached an agreement with Ramius on a new slate of nominees for the company’s board.

The acquisition of Microtune coupled with the restructuring of the DVD and DTV businesses will enable Zoran to return to profitability in the second half of 2011, Gerzberg said. In addition to DTV and DVD, Zoran develops CMOS chips for digital cameras and ICs for printers. Zoran’s digital camera business produces 54 percent gross margins and has a 50 percent market share among external chip suppliers to camera companies, Ramius said. The printing business has 80 and 25 percent gross and operating margins, it said.