China internet

April 04, 2011

The following report is excerpted from THE WALL STREET TRANSCRIPT

04-04-2011 INTERNET SERVICES REPORT

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E-Commerce & Social Networking Drive Chinese Internet Growth W E N D Y

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WENDY HUANG joined the Royal Bank of Scotland Group plc — then ABN AMRO Bank N.V.— in July 2008. Ms. Huang previously worked for Bear Stearns Companies, Inc., as a Senior Analyst covering the Asian Internet sector, and she also covered Chinese Internet

Limited, an online gaming company, where she worked in various capacities, including investor relations. Ms. Huang earned a MSc in finance from Lancaster University in the U.K.

SECTOR — INTERNET advertising revenues. This is something they learned from the U.S. (ACG800) TWST: Where do you focus your attention in the Internet portals. On the other hand we are actually seeing some Chinese Internet services space these days?

Chinese Internet companies that are quite innovative on the revenue Ms. Huang: There are always new things emerging in the models. They actually found their own ways to monetize Chinese Internet space from year to year. This year my focus will be on eInternet users and massive Internet traffic. This is not an overnight commerce and social networking. wonder. The China Internet sector TWST: Would you give has been developing for more than Highlights us a little overview of the sector?

11 years so far. So it is quite underRecent reports have characterized standable that we are seeing the Wendy Huang covers the Chinese Internet it as both a source of enthusiasm healthy cash flow coming out from services space, with a focus on e-commerce and and uncertainty. the sector now. social networking, which she says will be the Ms. Huang: I don’t think TWST: Would you give major trends in 2011 and 2012. She divides the that’s 100% true. If you look at the us a sense of the size of the market space into two groups, the platform-driven and Chinese Internet sector, the majority and the potential for growth in it? content-driven models. Ms. Huang favors the of the Chinese Internet companies It has been widely reported that platform-driven companies, as they have have concrete earnings growth and China has more Internet users emerged as clear leaders with more than 50% very healthy cash flow. This is a very than any other country. market share. She also favors nascent companies different from the picture that we Ms. Huang: Yes, if you with strong management teams and execution saw in the U.S. Internet sector back look at the fundamental drivers of skills that can achieve growth over the next three in 2000. These days China’s Internet the Chinese Internet industries, it’s years. Looking forward, Ms. Huang says growth sector is backed up by the high visialways been either user growth, the in China is in the early stages, as the Internet bility of their earnings growth, and increasing monetization or new penetration rate is half of that of countries like sitting on a large user base and also business models. As of the end of South Korea or the U.S., and Chinese government has very solid business models. So 2010 the Chinese Internet populapolicies have historically benefited Chinese it’s not really driven by the enthusition has surpassed 457 million. This Internet services companies. asm and uncertainties. already ranks China as number one Companies include: Tencent Holdings Ltd. TWST: Why is that? Did in terms of Internet population. In (0700.HK); Alibaba.com Limited (1688.HK); they learn lessons from what hapfact the Chinese Internet population Kingsoft Corporation Ltd. (3888.HK); Perfect pened in the past Internet bubbles? surpassed the U.S. back in 2008.

World Co., Ltd. (PWRD); Baidu (BIDU); Google Ms. Huang: I would say TWST: Could that pop(GOOG) and Sina Corp. (SINA). that in the very beginning of the deulation increase significantly velopment of the Chinese Internet over time? sector, these companies spent a lot of time finding good business Ms. Huang: The Internet population growth in China models. On one hand they did learn from the U.S. Internet compaalways came ahead of my estimates. And the Internet penetration in nies. For example, the leading online portals in China, they generate China went above the global average level in 2010 for the first time.

Copyrighted material: For reproduction permission contact Kenneth Wolfrath (212) 952-7400

and media stocks for Evolutions Securities Ltd. Prior to that she spent two years with The9

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But still we are below the developed country level. It’s just 34%, so TWST: So if not those two, what do you see as some still way below what we have seen in Korea, the U.S. and also risks in the space?

Japan. Those countries tend to have around 70% or even higher Ms. Huang: I think it more comes down to execution Internet penetration. risk, and management quality risk or corporate governance issues.

TWST: What are some important trends and developBecause most of the management teams of the Chinese companies ments you are following this year and looking into next year, are quite young, they are not as experienced as management teams understanding that this is a fastat U.S. Internet companies. In some moving, fast-changing area? sense they haven’t been gone through “On one hand social networking can be Ms. Huang: I think there too much up and down in the past few a very effective marketing tool for are a lot of moving parts in the Chiyears. Some companies tend to have e-commerce companies. On the other nese Internet space. As I just mengood business models, but they don’t hand social networking also needs to tioned, social networking and have a good management team to exleverage e-commerce to realize revenue e-commerce will be the major trends ecute it. Oftentimes execution risk and to get a concrete business model. in 2011 and in 2012. But you can’t turned out to be the biggest risk for So I think these two are the major really segregate these two. On one Internet companies. Also some of trends in the Internet space right now.” hand social networking can be a very them also raise the risk by directly effective marketing tool for e-comcopycatting the U.S. model into merce companies. On the other hand China. Usually that didn’t work out social networking also needs to leverage e-commerce to realize because in order to succeed in Internet market, you have to do a lot revenue and to get a concrete business model. So I think these two of localization. are the major trends in the Internet space right now. Many big social TWST: That somewhat speaks to the number of comnetworking companies in China are currently not making a profit panies in the space, and in the future there could be some conyet, and they are still trying to explore solid business models. This solidation. Broadly speaking, how do your favorite companies is also the case for the e-commerce companies in China. Both are differentiate from other companies in the space? still at the nascent stage of growth.

Ms. Huang: My top picks for this year are Tencent TWST: Is that why you focus on those two, because (0700.HK) and Alibaba (1688.HK). Tencent has been differentiatthey are so young? ing itself as the largest social networking company in China. And I Ms. Huang: Yes, the more nascent stage they are, the think their competitive strengths actually were built up over the past higher growth they can achieve over the next three years. And one 10 years, not just in one or two years. The company was established key thing to look at as Internet sector investor is to focus on the actually before 2000, and then they spent many years building the medium-term or even longer-term earnings growth. I think if you user base. I think the management team is quite smart in taking a follow this methodology, then what you need to identify first is long-term strategy. They built the user base and a very solid platwhich subsectors in the Internet space will enjoy the highest growth form, and then started to cross sell different Internet services and over the next three years — then you try to identify the leaders of products to a massive user base. Currently Tencent has penetrated those respective high-growth sectors. more than 90% of the home PC users in China.

TWST: What about risk in the space? There are occasional reports about piracy, and tighter government regula1-Year Daily Chart of Tencent Holdings Ltd. tions. What are some of the risks in this area?

Ms. Huang: First of all I think the two risks that you just mentioned are not really the top risks for the Chinese Internet sector. In terms of government regulations I think you can always find different types of government regulations on the Internet space in any country. Even in the U.S. you have antimonopoly laws toward the largest Internet companies, and also there will be the anti-spam laws toward the U.S. companies as well. In China the government has been quite cautious about content censorship and tight on the content control.

I think in some sense the regulations actually will favor the bigger Chinese Internet companies’ development, because it’s always easier to control the content through regulating a small number Chart provided by www.BigCharts.com of big companies than controlling thousands of small Chinese Internet operators. On the other hand I never think it is in the government’s best interest to crack down the Chinese Internet sector. The Alibaba is another interesting company. They are the Chinese government has always given a lot of government subsidies leader in the e-commerce space, and this year you will probably see and preferential tax rates to these Chinese Internet companies. This a major business model shift and platform transition for this comshows that the government is actually supportive of the sector. pany. One way that they are trying to differentiate themselves is

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trying to integrate various elements on the e-com value chain and TWST: Generally speaking, what is your sense of valudevelop multiple revenue models. They have a fixed annual memations for the space right now? bership fee, a transaction-based fee and they also place charges on Ms. Huang: Actually part of the reason I have split the VS products. On the other hand they’re still working on building the whole sector into two categories is because the different valuations platforms and increasing the synergies with online retail platforms demand two categories. On one hand some Internet companies are in China. That’s how they are trying to cement their leading position trading above 30 times 2011 p/e. On the other hand online gaming in the e-commerce space. companies are trading below 10 times TWST: Where do we go or single-digit 2011 p/e. That’s actufrom here? What’s your broad ally because of the macro reason I outlook for the sector? mentioned earlier. The platform“We expect Chinese Internet revenue to Ms. Huang: I think the driven Internet stocks, they tend to grow 27% CAGR over the next three whole Chinese Internet market is still trade at or above 25 times in the longyears. In other words, to double from a high-growing sector. Even if we term time frame. The trading range the $20 billion where we are now to have seen the aging of certain busihas always been between 25 and 40 probably around $40 billion in three years’ time.” ness models, such as online advertistimes. Recently I think some of these ing and online gaming, we are seeing platform-driven Internet stocks had a lot of new business models emerghit the high end of the historical ing these days. We expect Chinese range. By comparison, for the conInternet revenue to grow 27% CAGR tent-driven Internet stocks like the over the next three years. In other words, to double from the $20 online gaming stocks, the trading range has always been between billion where we are now to probably around $40 billion in three seven times current p/e and 15 times current p/e. years’ time. For investors it’s very important to try to come up TWST: Have you been steady over time in both of with certain criteria when you consider which company to invest these groups? in. The first criteria I would look at is the subsectors you are focusMs. Huang: In terms of the broad trading range, the valuing on. You have to focus on nascent sectors with high growth over ation gap has been constantly wide. the next three years.

Secondly, I would focus on the platform-driven business 1-Year Daily Chart of Baidu models versus content-driven business models. We can usually divide these different business models into these two categories. The traditional online advertising or online gaming business models are content-driven models, where the market is always fragmented and you can never identify a clear leader. But in a platform-driven market — the instant-messaging market, the online travel market, in ecommerce market and others — you can always identify a clear leader with more than 50% revenue share. The platform-driven business model tends to have higher growth visibility than those content-driven business models. You want to choose the leader in those platform-driven markets.

The third criteria comes down to a very company-specific level. I just mentioned that management quality and execution abilChart provided by www.BigCharts.com ity is very important for the Chinese Internet companies. So you want a strong management team, not a one-person company. You want management that tends to be quite patient building the userTWST: Where do you stand on Baidu these days? base platform and tends to have more than three years long-term You’ve been quoted as bullish on it for a long time. Are you strategy. If a company can meet all three criteria, I think you should concerned about its current valuation? definitely invest in that company.

Ms. Huang: We had a “buy” rating on Baidu (BIDU) for TWST: You mentioned Tencent and Alibaba. Are there a long, long time until last year. Our concern on Baidu is not really other companies you like right now? just about valuation — for Internet stock investing, valuation in Ms. Huang: Those are the two favorites in the platformsome sense is meaningless because Internet stocks always trade on driven market. In the content-driven market I think it actually really the growth, not on the pure p/e basis. My concern for Baidu is more depends on valuation. We saw the online gaming sector lagging behind about growth sustainability. If this company can deliver more than the other Internet stocks by more than 30% last year. So this year I 50% earnings growth over the next three to five years, then I’m think there are some value picks in the online gaming space. We’ve comfortable to pay 50 times to own them. But my concern is that in actually initiated coverage on some gaming names last December, and 2011 their earnings growth may come down dramatically. In 2010 stocks like Kingsoft (3888.HK), like Perfect World (PWRD) pose for Baidu’s earnings growth was more than 140%. I think this year the turnaround in 2011, and they are trading at below 10 times p/e. earnings growth will be around 52%, and the three-year medium-

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term earnings growth will come down to 31% over the three-year period ending with fiscal 2014.

A few reasons for this — first, if you look at what drove last year’s revenue growth, it was actually partly due to Google’s (GOOG) exit and Baidu’s market share expansion. But by the end of last year Baidu’s traffic share already exceeded 80% and revenue share also reached 76%. So at this high level, how much more can you gain? I think their market share gain already kind of hit a ceiling there. The incremental benefit they can get from the market share expansion in 2011 will be very limited. Another driver of their earnings growth last year was the low TAC ratio, or the traffic acquisition cost. All search engines, they have certain traffic directly from thirdparty Web sites, so they have to share the revenue with those third parties. In Baidu’s case, last year, the TAC ratio declined from 16% to 8%. This is not only at the historical low end of Baidu’s TAC ratio range, but is also less than one third of what Google pays to partners in the U.S. I think this kind of low TAC ratio is not sustainable.

And that leads to my third argument for lower growth in 2011. Baidu launched their new open platform called box computing. But they are not the only one doing open platform. In the last six months other Chinese Internet giants like Tencent, like Sina (SINA) are also launching their open platforms. So in some sense Baidu is facing increasing competition from other type of open platforms, and they have to be more generous in paying out to their partners. So for that reason I also see the TAC ratio bottoming out.

In other words the cost for Baidu will go up in 2011.

TWST: Are you concerned about any other segments, subsectors or companies at this point?

Ms. Huang: As I mentioned, the two Internet business models are aging these days. One is the online advertising model.

That actually explains why Sina recently became so aggressive in promoting their miniblog services. They realized their content or

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advertising model has already started aging, so they’re desperate to find new growth drivers. On the other hand online gaming model is also aging. There is increasing competition among Chinese online gaming companies, many of which got listed and raised a lot of cash from the capital market. They are competing aggressively for game engineers and also for sales marketing resources. But the hit ratio, or success rate, of the new games launched in China is actually trending lower. The whole market is becoming tougher. But again, it’s very important to choose the leader in the market, and I think Tencent probably stands out as the winner in the gaming space, benefiting from their largest social networking platform. Social networking actually is becoming the most effective way to market any Internet product, including online games. And also I think another bottleneck Internet gaming companies are facing is gamer growth. But in Tencent’s case they have more than one billion registered users and more than 650 million active accounts. So they have a large user base to cross sell and to grow their gamer base.

TWST: We’ve covered a lot. Is there anything else we should cover?

Ms. Huang: There’s always more to cover in the Internet space.

TWST: Thank you. (MJW) Note: Opinions and recommendations are as of 03/15/11.

WENDY HUANG Analyst Royal Bank of Scotland Group plc 600 Washington Blvd.

Stamford, CT 06901 (203) 897-2700 www.rbs.com

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Internet Interactivity Trends in 2011 B R I A N

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BRIAN J. PITZ is an Executive Director and a Senior Research Analyst in equity research at UBS Investment Bank, where he covers the Internet and interactive entertainment. Previously, he was a Principal and a Senior Research Analyst covering the Internet at Banc of America Securities LLC. Prior to that Mr. Pitz was a Vice President at Morgan

sector. Mr. Pitz commenced his professional career as a Consultant in the business consulting practice of Arthur Andersen LLP in New York City.

SECTOR — INTERNET — at least, what I hear from the bears — one would be the exit (ACG808) TWST: Where do you focus your attention in the from China last January. I think it was the beginning of the issues Internet services space these days? for the company. In addition, I think the Street perceives excessive Mr. Pitz: We cover Internet companies, including online spending with the company announcing that it will start paying advertising and marketing services, e-commerce, mobile, mobile their employees 10% more. Obviously there is a war for Silicon Internet, as well as interactive entertainValley talent these days, and so no one is ment, which includes video game compaimmune, especially the better companies Highlights nies such as Electronic Arts (ERTS) and like Google. I think the final concern is Activision (ATVI). investment in other initiatives, whether Brian J. Pitz discusses the Internet TWST: How would you it’s continuing to build out for the cloud, and interactive entertainment sector. characterize the sector over the last build out for e-mail or the recent purHe shares insights into e-commerce 12 months? chase of their headquarters in New York. and online advertising trends, and Mr. Pitz: I think if you look All these things have had an impact on the proliferation of mobile devices. back at 2010, e-commerce was the outthe expense lines.

He sees much growth in the space performer. Companies like Amazon But other companies are looking ahead, and he shares his (AMZN) and even eBay (EBAY) in the spending too, and the Street is essenfavorite stocks, including a big latter half of the year definitely pertially giving them a pass, whereas with underperformer in 2010 that appears formed better than the market and better Google they are not. For example, when poised for a comeback. than some of the marketing services or we look at Amazon we see they are Companies include: Electronic Arts advertising-related names. spending on new distribution centers.

(ERTS); Activision Blizzard (ATVI); Google (GOOG) was probably They are spending on fulfillment. They Amazon.com (AMZN); eBay (EBAY); the biggest laggard of the group despite are spending on Amazon Web Services, Google (GOOG); Netflix (NFLX); what we believe is a pretty significant which are their cloud-based service, and Apple (AAPL); Microsoft Corporation opportunity ahead of the company. As now with the launch of the Prime video (MSFT); Procter & Gamble Co. (PG); we saw in the last two quarters of the subscription offering they are also going Yahoo! (YHOO); AOL (AOL) and year, the company put up very signifito be investing in both content as well as QuinStreet (QNST). cant earnings results both on the top line distribution for that product. On this and on EPS. But it seems like the stock stock, AMZN, our long-term thesis is not really getting credit for its growth initiatives, whether it’s hasn’t changed. We still think they are the dominant e-commerce the core search business which accelerated in Q4, but also the new players. But near term we think investors need to factor in this businesses, such as mobile and display advertising. We believe new spend. In our view Amazon is not going to launch a product that stock is undervalued. It’s around 15 times 2012 earnings, and and offer a less than satisfactory experience. Much like the we are just still trying to get our head around why investors seem launch of the Kindle and other things that they have pursued, we to not be interested in owning this name. think they are going to go full bore and really be competitive, and I think if I were to come up with a couple of reasons it will cost to build out a compelling content offering.

Copyrighted material: For reproduction permission contact Kenneth Wolfrath (212) 952-7400

Stanley, where he co-covered Internet & PC applications software, and led coverage of the interactive entertainment

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It’s worth mentioning recent developments in online Where do we go from here? content too. Content companies are saying they want to get paid Mr. Pitz: We still think the Internet is underpenetrated, for their content, so we think the cost of content is going up while whether you’re talking about e-commerce or online advertising. exclusivity is going down. We think everyone — Netflix (NFLX), The secular growth thesis is still very much in place and even the Amazon, Google, Apple (AAPL) and Microsoft (MSFT) as well companies that have the bulk of the online share right now can — will be bidding on content, and so still grow substantially as the offlinethe P&Ls, basically the earnings for to-online transition continues. We “We still think the Internet is these companies, will be pressured. think online continues to steal share, underpenetrated, whether you’re We think Microsoft has the least and so we like to back the best of talking about e-commerce or online amount of potential to be impacted breed companies. We prefer Google advertising. The secular growth thesis just given the size of their income as our top pick in the ad space. We is still very much in place and even the statement and balance sheet, and the also like eBay — we think they have companies that have the bulk of the inherent margin in their businesses. done a nice job of turning around the online share right now can still grow But if Amazon is going to spend an marketplace business, and also like substantially as the offline-to-online incremental $100 million, $200 milthe PayPal business and their mobile transition continues.” lion or $500 million, it’s going to initiatives. We think you are going to impact the bottom line. And when see tremendous growth on the paywe looked at the Street’s expectations for the second half of the ment side from eBay. And as we said before, we believe Amazon year, our numbers included, the Street was expecting margins to will significantly outperform revenue over the long run too. expand. We believe they are going into content-acquisition mode, TWST: Is mobile one of the next big things? and that our prior expectation of 2H11 margin expansion is not Mr. Pitz: Yes, we think mobile in a lot of different shapes likely. So on Amazon our call is that Street EPS numbers are too and forms is a huge opportunity for all of these companies, and with high in the back half of the year, and that expenses will rise as the Google in particular because they are leading the charge in terms of company continues to build out this subscription-based video building out the Android platform worldwide. service, which is associated with the $79-per-year Amazon TWST: Is social networking the “next” mobile?

Prime offering. Basically if you’re already a Prime subscriber Mr. Pitz: Yes, we think social continues to proliferate in receiving free two-day shipping, streaming video is now availa variety of ways. We think you’ll see all of our companies get able to you at no additional cost. more social, and think Google has a few things they are working TWST: Generally speaking, what are some of the on. But social and mobile will be growing hand in hand, and we trends and developments in the space for the rest of 2011? would throw local there as well. Private companies like Groupon, Mr. Pitz: I think general trends include the proliferation www.groupon.com, or foursquare, www.foursquare.com, are of mobile devices. We have seen Google is now activating making a pretty big difference in the local world, especially as 350,000 Android devices daily. That’s up from 300,000 several more and more consumers are accessing these new products months ago and roughly 60,000 a year ago, so a significant acthrough their mobile devices. celeration in mobile. We are seeing Google also serve over two 1-Year Daily Chart of Google billion ad impressions a day through AdMob, which serves display advertising into applications on mobile devices. We are seeing Google post over $1 billion in revenue from mobile alone, over $2.5 billion in display, so we think display advertising is also at a big inflection point as companies like Procter & Gamble (PG) and other consumer products companies are opening up their budgets and spending more online. Twelve years ago that money may have gone to Yahoo! (YHOO) or AOL (AOL). I think it’s now being focused on social media platforms too, on sites such as Facebook or Twitter, as well as Google, which offers some performance-based display advertising products.

TWST: Generally speaking, where are valuations in the space?

Chart provided by www.BigCharts.com Mr. Pitz: We think there is a divergence between the private-company valuations that we are seeing versus the current public-company valuations, and we would highlight Google as one TWST: Generally speaking, have companies figured of the cheapest names in technology right now across the board. So out how to monetize the social media sites? as more of these private companies come to market, we think it Mr. Pitz: We think they are trying to get their arms could actually bring the multiples up for some of the higher-growth around it, but the return on investment/spend on social has been public players that have been around for a while. very good for a lot of advertisers. We would point to the “Old TWST: Broadly speaking, what is your outlook?

Spice Guy” campaign, which has a significant social component

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to it. We think that one represents a good benchmark case in they’ve got a $1.5 billion buyback outstanding, so we think that stock terms of how you can successfully drive appeal for an old prodhas a pretty good floor on it. Finally, to some extent we believe invesuct, make it fun and cool by creating a quirky, social marketing tors have not been focusing on the video gaming space recently, so campaign around it. So we expect bigger brand advertisers to it’s somewhat underowned relative to the Internet names. start becoming a bit more creative in their approach to how they TWST: Are you concerned about any of the segments try to leverage their social medium. or individual companies you cover?

TWST: If there’s traffic, then there is going to be Mr. Pitz: The one company we have a “sell” on is Netfmoney eventually. Is that how it works? lix. We agree that the company has executed exceptionally well. But Mr. Pitz: Yes, we think generally it’s like that. But when similar to the Amazon thesis that the cost of content is going up, we you get 500 million people on a platthink the company is not as differentiform spending a lot of time there, ated from a technology standpoint. clearly there’s going to be an opportuThey do have a very good and differ“There is still a lot of great growth we nity to monetize that platform in some entiated content offering. But as conbelieve left in the Internet, and it’s still way, shape or form if it’s that sticky. tent deals get signed nonexclusively, early innings in terms of the TWST: As you talk with the value proposition today of $9.99 addressable market opportunity still investors, do you see a lot interest in or $7.99 a month for Netflix may be out there that hasn’t been converted to the space and has that changed in reduced — and thus churn might go online via e-commerce or online advertising.” the past few months? up and subscribers may not grow as Mr. Pitz: We think invesfast as the Street expects over next tors appreciate the growth opportunity couple of years. And that’s what we in the space. We’ve been a little surworry about on that name. The stock prised that some of the bigger names like Google have underperis also pretty expensive, and we believe that there is opportunity for formed, and again we would underscore that Google is our favorite more downside as these other competitors’ video ramp up. name of all the names that we cover as we head into the back half TWST: This is an industry where the landscape of this year, as well as for the next several years. We think some changes quickly, isn’t it? investors worry about what Facebook could do in terms of competMr. Pitz: Yes. ing with Google. But we think from a search perspective, Google TWST: Is there anything else we should discuss, has a significant lead, and Facebook may have to spend a fair anything else people should know about the sector or the amount of money — or partner closer with Microsoft — to really names you cover? be a major player in search.

Mr. Pitz: No, that’s pretty much our calls in a nutshell.

TWST: Besides Google, where are you pointing invesThere is still a lot of great growth we believe left in the Internet, tors now? What are some of your other favorite stories? and it’s still early innings in terms of the addressable market opMr. Pitz: We like eBay, as a larger-cap play on eportunity still out there that hasn’t been converted to online via commerce. We also like a company called QuinStreet (QNST). e-commerce or online advertising.

It’s a smaller-cap name, the ticker is QNST. That’s an online lead 1-Year Daily Chart of QuinStreet provider. They are mainly focused on the paid education and financial services verticals. We like the quality of their leads that they have delivered for years. We’ve known this company for a while, and it recently went public last year. The stock has performed well year to date, but we think it still has a lot of growth opportunity in the long run.

TWST: Are there any others you focus on?

Mr. Pitz: Yes, we focus on interactive entertainment side.

We like both Electronic Arts and Activision. We think those companies are cheap relative to historic multiples. There have definitely been some changes in the video game industry as more and more people are playing casual and social games online. Clearly the revenue model is evolving, but we think Electronic Arts is in a good Chart provided by www.BigCharts.com position to benefit from this transition. They’ve also got a game coming out in the back half of the year. “Star Wars: The Old Republic” is a new MMO, massive multiplayer online, title that could compete TWST: Are the big names the best positioned to take with World of Warcraft — potentially the first legitimate competitor, advantage of developing markets since they are already in we believe. When you look at Activision, they own World of Waroverseas markets? craft, the current MMO leader, but they also have the Call of Duty Mr. Pitz: Yes, through either direct entry or partnerships franchise, which is pretty unstoppable right now. That stock also and JVs in the respective markets. Obviously in places like China looks relatively cheap on a multiple basis, especially considering you can’t just enter. You almost have to do a JV with a local com-

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pany. But we think the global opportunity is big. Latin America, Europe, Eastern Europe — in particular Poland, as well as Russia — and parts of Asia still have tremendous growth potential. It’s similar to the development we have seen domestically in the U.S. Internet for the last 10 years or so in some of those countries, so we think there is a long growth trajectory ahead of us.

TWST: Thank you. (MJW) Note: Opinions and recommendations are as of 03/02/11.

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BRIAN J. PITZ Executive Director & Senior Research Analyst UBS Investment Bank 1285 Avenue Of The Americas 12th Floor New York NY 10019 (212) 821-3000 (212) 882-5892 — FAX www.ibb.ubs.com

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Private Equity: The Vehicle of Choice for the Second Internet L O U

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LOU KERNER is a Managing Director of the private shares group at Wedbush Securities, where some of his responsibilities include coverage of social media companies. For the previous 10 years, Mr. Kerner was a serial entrepreneur with previous ventures that

million monthly unique visitors in its suite of youth-focused Web sites, and The .tv Corporation International, which licensed the top-level domain .tv from the tiny island nation of Tuvalu. Mr. Kerner spent the first seven years of his career on Wall Street as an Equity Analyst following media companies at Merrill Lynch & Co., Inc., and Goldman Sachs.

SECTOR — INTERNET marketplace. There is just too much value being created today in the (ACG805) TWST: Where do you focus your attention in the private markets to ignore, just like it became impossible for funds Internet services space these days? who were investing in bonds to ignore the junk bond market.

Mr. Kerner: I’m now focusing 100% of my time on TWST: How do people actually invest in these names? private companies in the social media space that are scaling. While Mr. Kerner: The same way they invest in public securimost people are very familiar with the leaders in that space, like ties. They buy them on exchanges — exchanges for private shares Facebook and Twitter, that have achieved instead of public shares. massive scale already, we are also seeing TWST: How would you charHighlights dozens of other companies across many acterize the niche’s performance over verticals that are also scaling rapidly. the past year or so?

Lou Kerner says he’s one of the TWST: Are you keeping an eye Mr. Kerner: Since the signifionly analysts spending most of his on these companies, waiting for them to cant majority of transactions in the private time on private companies in social go public? equity markets have been in the marquee media, but that in a week, “there Mr. Kerner: While many of names — like Facebook, Twitter, Linkewill be 100 people like us.” Mr. these companies will go public, a very acdIn and Zynga — that have done remarkKerner says the space is like the tive private marketplace is emerging that ably well, investors in the private market junk bond market in the early is becoming an increasingly viable option have generally done very well to date.

1980s, with potential opportunities for companies to raise capital or for invesTWST: What are some of the for all players involved. He shares tors, founders and employees to get liquidkey trends and developments you are his thoughts on valuations, on the ity before an IPO or sale. We believe it’s following for 2011? titans and smaller firms where he very much like the junk bond market was Mr. Kerner: We think that we’re sees opportunities, and he shares in 1982, 1983, when a new asset class was in the very beginning stages of what we’re his favorite stock picks. emerging, poised for dramatic growth. In calling the “second Internet” or the “social Companies include: Google (GOOG); those early days fixed income investors Internet,” and that the value created will Wal-Mart Stores (WMT); VeriSign were intrigued by the high yields, but most surpass the value created in the 1996-1999 (VRSN) and Amazon.com (AMZN). were prevented from participating because time period. In the second Internet everytheir charter only enabled investment in body is interconnected, so the value creinvestment-grade bonds. ation possibilities are more significant. In A lot of equity investors are saying today that they’re inaddition, the monetization systems are also far more mature today trigued by the private market, but it’s not in their charter. But as than in the 1990s. Like the 1996 to 1999 period, there will also be charter’s changed to enable high-yield investing, charters will change significant technological disruption from the second Internet. to enable a far broader number of institutions to invest in the private TWST: What’s your broad-brush outlook for the space?

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include Bolt Media Inc., one of the original social networks, which grew to more than 20

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Mr. Kerner: We are very positive broadly on the space, Mr. Kerner: We used to live in an offline world, and like we would be if we were transported back to 1996 with the first companies dominated verticals in the offline world. Wal-Mart Internet. We think that things are moving more rapidly than ever (WMT) dominated the offline retail world. Then the Internet came before, Facebook being the poster child for this new pace of innoalong and almost none of the companies that dominated a vertical vation. Other companies like Google (GOOG) need to pick it up to offline came to dominate that vertical online in the first Internet. keep pace. We think that’s why Eric Schmidt stepped down at That’s because there’s a competency in running a Web site. Just Google, to enable a faster pace of decision making. because you slap a “.com” at the end of Wal-Mart didn’t make it TWST: What’s your sense an Internet company. The Internet about valuations in the space? was not in Wal-Mart’s DNA, the InMr. Kerner: We think that ternet did not get management focus, “We believe that integrating with valuations metrics in this space are the they didn’t take the risks online necFacebook is just one element of being same as valuations in any other space. essary to learn and iterate rapidly. social. Slapping a Facebook connect It all comes down to a company’s abilThat’s why we got Amazon (AMZN). button on your Web site does not make ity to generate free cash flow. The Success in the first Internet took a difyour Web site social anymore than issue that investors are struggling with ferent set of competencies than sucputting .com at the end of Wal-Mart in social media is the fact that you’re cess offline. We think that the made them an Internet company.” forecasting at an earlier point in a competencies to succeed in the seccompany’s growth cycle, with expecond Internet, in the social Internet, are tations for hyper growth. As a result almost as different from the compevaluation becomes more art than science, but that doesn’t mean that tencies of the first Internet as the first Internet was from offline. you shouldn’t do it. I just think if that means that those who are TWST: What are some of the key competencies you better at the art will end up making more money. look for?

TWST: You’ve been quoted, as people ask you how much Mr. Kerner: Companies need to understand that in the you think Facebook is worth. How do you place a value on it? second Internet, at the core, it’s no longer about the brand. Its not all Mr. Kerner: We take a very macro view when valuing about what the customer is going to buy from me. The social Internet Facebook, focusing on the Internet advertising market, which is is about the customer and getting customers to engage with the well defined. Looking out to 2015, where we project the global Inbrand. Brands need to stand for something to give customers a reaternet advertising will be $105 billion, we project Facebook will son to engage with the brand. The companies that get that in their capture 15% of that market. We actually think that may prove concore DNA and are willing to test and willing to make mistakes and servative given Facebook’s 20%-plus share of total Internet page willing to take a step backwards to take two steps forwards, and willviews today. That yields $15.5 billion in ad revenue. Other revenue ing to be authentic and willing to not have everyone love them — — most notably Facebook Credits, from the sale of virtual goods those are the companies that are going to win in the second Internet.

— provides about 30% of revenue today, and we assume that percentage stays constant. That gets us to $22 billion in revenue in 1-Year Daily Chart of Amazon.com 2015. We estimate that margins are about 50% today, and we conservatively assume they’ll remain constant. Put a 20-times multiple on that, less than half our anticipated growth rate in 2015, and you can get to a $200 billion-plus value pretty quickly.

TWST: What are some of the other companies you cover other than the ones that everybody has heard of?

Mr. Kerner: There’s a laundry list of rapidly growing companies that few people outside of social media have heard of that we’re spending our time getting to know. You can pick almost any vertical. You can pick recruiting. LinkedIn is obviously very social, but there is a company on Facebook called BranchOut that we think could be the LinkedIn of the second Internet. There is a shoe and accessory company called ShoeDazzle that we think is Chart provided by www.BigCharts.com the Zappos of the second Internet. There is an enterprise software company called Jive Software that we think is the Windows of the TWST: Is that what you mean when you say “getsecond Internet, or the Google Docs. Every vertical has a second ting social?”

Internet company poised to disrupt the status quo. We think The Mr. Kerner: Correct. Today a lot of people think social Huffington Post is going to be the largest Internet news organizais Facebook, and that putting a Facebook connect button on your tion in the country because they get social; it’s in their DNA. We site and getting a Facebook fan page makes you social. We believe can go on and on and on. that integrating with Facebook is just one element of being social.

TWST: Generally speaking, how do companies differenSlapping a Facebook connect button on your Web site does not tiate themselves to be the “such and such” of the second Internet? make your Web site social anymore than putting .com at the end of

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Wal-Mart made them an Internet company. companies, but recently dropped coverage of them because there is TWST: As you talk with investors, are you seeing a lot just too much going on in the private market. of interest in the space?

TWST: Where are you pointing investors now? What Mr. Kerner: Interest has been steadily building over the are your favorite stories? eight months we’ve been providing research on social media, and Mr. Kerner: Among the larger well-known actively it has meaningfully accelerated since Goldman’s involvement in traded names we continue to be bullish on Facebook, but we think Facebook. But it still feels very early. Most institutions still don’t that there’s probably more upside in Twitter now. But we believe get it, and most institutions that do appreciate how big social is are there is even greater upside in the dozens of other, lesser-known still trying to understand how to capitalize on that view. names that are positioning themselves to disrupt incumbent fist InTWST: You compared ternet companies. The problem at this the space to junk bonds in the point is that the market is not very 1980s. Are people struggling to liquid for those names, but that’s the “If you take a look at who the buyers figure out how to include this in same problem that Milken had with are, they generally tend to be some of their investments? the junk bond market in the early the smartest investors on the planet.

Mr. Kerner: Even if an indays. I think we’re still in the top half Our general experience is the smarter stitution appreciates how big social is, of the first inning, and that there are the investor, the more aggressively and even if they do find a company win-win opportunities for companies, they’re going after trying to understand how to participate in this market.” they want to invest in, oftentimes buyfor investors, for employees and for ing shares in private companies is not VCs to facilitate the growth of the in their charter. So they are working private marketplace and create a more through changing their charters. Much liquid environment. Things don’t haplike fixed income investors needed to adjust their charters in the pen overnight. And so we’re working closely with the other players 1980s to buy non-investment-grade paper. Then the next question is in the marketplace. In particular the charge is being lead by Secondvaluing these rapidly growing companies. Smart investors who Market. They are doing an amazing job of educating the markethave been around longer than me will tell you that when it’s hard to place and putting the appropriate systems in place to enable this value something, that’s when the smart people can make some serimarket to scale. So we’re working very closely with them and really ous hay. If it’s really easier to value something, everybody can do it trying to facilitate the great work that they are doing. and what advantage do you have? So a number of really smart TWST: What’s your advice for investors who want to people are trying to figure it out and trying to develop their own check this out? competencies in valuing these things. If you take a look at who the Mr. Kerner: The number one thing that we’re telling to buyers are, they generally tend to be some of the smartest investors investors is educate themselves about the macro environment with on the planet. Our general experience is the smarter the investor, the regards to social media and the private marketplace. We’re then more aggressively they’re going after trying to understand how to advising investors to look for companies that are scaling rapidly, participate in this market. that have sustainable business models, that are trading at reasonTWST: How long have you’ve been focused on this? able levels relative to their opportunities and that have some liHow does this focus come about for you? quidity in their shares.

Mr. Kerner: I was an Equity Analyst in the 1990s at TWST: Looking ahead, do you think this is a truly Goldman following cable and satellite stocks when Bill Gross from 1-Year Daily Chart of VeriSign Idealab recruited me to run one of The .tv Corp. — he had acquired the top-level domain .tv from the nation of Tuvalu. After VeriSign (VRSN) acquired .tv, I acquired one of the leading early social networks called Bolt.com, which had a half a million kids. I spent a lot of my time acquiring other youth-focused sites that were scaling, and we talked to over 100 kids in three years about acquiring their sites, including Mark Zuckerberg in the early days of Facebook. So I’ve been in the space for a while, and I came to the view that Facebook was going to be the most important Web site the world ever knew in October of 2009. I tried to raise some money to buy shares and was met with a lot of skepticism. So I felt compelled to write my first research report in 10-plus years saying Facebook would be worth a $100 billion by 2015, and published it on a blog I started on Tumblr in February 2010. Because it was Chart provided by www.BigCharts.com written by a former Goldman Analyst, the research got a lot of press, and a friend who has been building the equity group at Wedrevolutionary segment? bush for 10-plus years asked me to join the team. I joined Wedbush Mr. Kerner: Yes, if you think the Internet was revoluin June, started publishing in August. I had picked up three public tionary, then the second Internet is revolutionary. If you think that

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the junk bond market was revolutionary, then you think that the private market for equities is revolutionary.

TWST: Are there any segments within your niche that you are concerned about?

Mr. Kerner: There are two things that we’re concerned about. The major one is the government, because the government tends to over-regulate markets. We’re in a period where we really need job creation in the U.S., so hopefully the SEC and the federal government will focus on the opportunity to facilitate job creation by fostering the liquidity provided by the private market. The fact that Goldman Sachs was not able to sell Facebook shares to Americans highlights a problem with the current regulatory framework. So we hope the SEC puts in place a new set of rules that foster the appropriate market dynamics that are going to enable this market to fuel job growth.

TWST: What is your second concern?

Mr. Kerner: Our second concern is the tendency for markets to become overheated. While there’s a lot of talk of a bubble today, it’s our view that we’re not in a bubble yet. But we worry about the markets getting overvalued, worried about getting to the points that we got in 1999 — but that’s all part of capitalism.

When we think the markets are overvalued, we will be making that

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call. But the call we’re making now is that it’s early in the cycle.

TWST: Is there anything else we should touch on?

Mr. Kerner: It’s an amazing time. As big as social is, the mobile revolution is even bigger. Things are moving so fast that everybody is learning together.

TWST: Are there a lot of people doing what you do or are you fairly unique?

Mr. Kerner: I think what we’re doing at Wedbush is pretty unique on Wall Street today, but there will be a 100 people like us next week. That’s why we’re running so fast.

TWST: Thank you. (MJW) Note: Opinions and recommendations are as of 03/19/11.

LOU KERNER Managing Director Wedbush Securities 1000 Wilshire Blvd.

Los Angeles, CA 90017 (213) 688-8000 www.wedbush.com

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Technology Enablers Monetize Platform Shifts K E R R Y

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KERRY RICE is an Analyst with Wedbush Securities, where he covers the Internet infrastructure industry. Mr. Rice’s previous experience includes positions at JPMorgan Chase and Pacific Growth Property Acquisition and Development, Inc. He also worked in accounting at PricewaterhouseCoopers and Alcatel-Lucent. Mr. Rice earned

SECTOR — INTERNET videos, there were certainly better trends for online advertising (ACG803) TWST: Where do you focus your attention in the and e-commerce. I think the recession in 2009 really conditioned Internet services space? consumers to move towards the Internet to look for discounts, Mr. Rice: First, the convergence between traditional bargains, coupons and the lowest price. I think we even see that media and the Internet, where we have more and more people today, so I think that’s helping driving e-commerce. So 2010 was viewing traditional media online and on mobile devices. And a very good year. then also e-commerce. There is a transition of dollars online as As we moved into 2011, it’s been a little more shaky. I more consumers shift spending online. And maybe a third area don’t know that it’s necessarily the companies. We have had would be online advertising as well. some political unrest throughout the In fact each of these trends are conworld. Oil prices have started to inverging. If you watch video today crease, and so we’ve seen, I think, a Highlights online, you also are probably getting more volatile market — and as such my some advertising to go along with stocks have either moved down or have Kerry Rice paints a picture of that. People try to figure out how to been at least more volatile than they opportunity in the Internet services monetize online videos, and there is have been in 2010. space. After a very strong 2010 for the probably an opportunity to purchase TWST: What are some of the sector, 2011 has proven to be a more that video or other goods related to key trends and developments you foldifficult environment. Mr. Rice covers the content that you are viewing. So low and monitor in the space? “technology enablers,” and he explains I think those are three things that are Mr. Rice: Again, if we go back the opportunities he sees in converging into one. That’s what to the whole movement online in general e-commerce platform providers, a consumers are experiencing more and move from analog to digital content, content delivery provider and the and more online. online video viewing is certainly growcompany that creates a cable television TWST: What types of ing. More and more people are watching, on-screen guide. companies do you cover? whether it’s traditional media that is now Companies include: Netflix (NFLX); Mr. Rice: I cover compaonline through a Hulu or Netflix Google (GOOG); Microsoft Corporation nies that are really technology en(NFLX), or if it’s new content such as a (MSFT); Yahoo!

(YHOO); Rovi ablers. I think it’s probably the best Webisodic. A lot more people are watchCorporation (ROVI); GSI Commerce way to put it. I cover companies that ing videos online today. And then gener(GSIC); Apple, Inc. (AAPL); Akamai help deliver the video online, proally speaking, e-commerce is a fairly Technologies (AKAM) and Dolby vide e-commerce platforms, as well small percentage of consumer spending, Laboratories (DLB). as deliver online advertising. and we are seeing more dollars move TWST: How would you online. So we are watching the trend of categorize the overall performance of the niche you cover over the enterprises enhancing their presence on the Web in order to atlast six to 12 months? tract more consumers online.

Mr. Rice: Certainly 2010 was a very good year for We believe there is a constant search for how to monemany of these kinds of companies. We were coming off a low tize the content that we see on the Internet. A lot of times the exiting 2009, so we had some nice growth in 2010. I think we monetization has been through online advertising. The search really saw the consumers embrace online video more, and that market has played out and the winners have been determined: drove a lot of traffic. As more people moved online to watch Google (GOOG) and the combination of Microsoft (MSFT)/

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his undergraduate degree and his MBA at the Southern Methodist University.

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Yahoo! (YHOO). But display advertising is still a very highly for a lot of people at this point. fragmented market and kind of got left behind with the elegance Mr. Rice: Yes, I think, across the board. It’s not really and the rise of search. Now that the search game is played out, we a vertical market anymore to me. It’s a horizontal market, and it have a refocus on display advertising. And I think video, again, cuts through almost everything we do. Apple (AAPL) certainly has been a driver of that as compahad a lot to do with this with the nies have figured out how to monepopularity of their iPhone and now tize video — by providing advertising with the iPad. The device you take “It’s still a fairly small market when you in those videos. So we are seeing a with you can now consume content think about how much is spent offline resurgence of that. That’s another everywhere. And well, a tablet is versus online. And then, like I said, trend that we are watching that really better suited for media consumption. maybe we are at the mid-single-digits as impacts our companies.

More people are consuming content a percentage of e-commerce as total consumer spending. So we have a long TWST: Where do we go with their smartphones. way to go there as more people move from here? What’s your broadThe demand for content online to buy their goods.” brush outlook for the space? anywhere at any time necessitates Mr. Rice: I think in general the optimization of the delivery of we are still in the early stages of all content to portable devices. You the trends I have mentioned. Most of the dollars on video or media need to enable consumers to purchase goods through these deare still offline, and they are trying to figure out how to better vices, and except for subscription-based services, most of the monetize that online. But it’s still a fairly small market when you revenue is derived from advertising. Therefore it’s necessary to think about how much is spent offline versus online. And then, figure out how to get advertising onto these devices. So mobile is like I said, maybe we are at the mid-single-digits as a percentage — I don’t want to say the wave of the future — but it’s the next of e-commerce as total consumer spending. So we have a long focus for most companies. Many companies are trying to deterway to go there as more people move online to buy their goods. mine the best way take advantage of the growth in mobile given And then online advertising, again, we spend a lot more money the volume of units. offline advertising compared to how much time we spend online.

There is a pretty big discrepancy there. So I’d expect that to grow 1-Year Daily Chart of Rovi Corporation over time. I think that we have a long road ahead of us, a long positive road for companies that help enable and take advantage of these kinds of trends on to the Internet.

TWST: What’s your sense, generally speaking, on valuations in the space?

Mr. Rice: I think as we moved into 2011 we’ve seen more choppiness and a decline in valuations. I think that the values right now — except for the high-flying private companies — have compressed somewhat over the last month or so, and I think there is actually some fairly good opportunities out there on a valuation perspective.

TWST: There are a lot of companies in the space. How are companies differentiating themselves in a crowded market?

Chart provided by www.BigCharts.com Mr. Rice: I think it’s by expanding into new markets, exploiting niches or being first to the market in a lot of these areas. Companies like Rovi Corp. (ROVI), they have been TWST: As you talk with investors, do you see a lot of around a long time providing a guide to your digital television, interest in this space? the grid consumers see when they hit the guide button on their Mr. Rice: Yes, even more so lately because of the exremote control; however, the company is moving into the online citement around Facebook and Twitter and Groupon. There has and mobile space. With the fragmentation of media both on and been more excitement over the past six months than for several offline content, we believe there is a need for a tool to search, years. A lot of people are calling it a bubble again on some level, discover and consume content. So by providing a guide for onbut it’s hard to determine at this point. I mean we’ve got really line and mobile environments would be the expansion of their only a handful of companies that have very lofty valuations on current business model. We have also seen companies like the private side. I think on the public side valuations have cerGroupon and GSI Commerce (GSIC) exploiting new markets tainly crept up over the years, but so has EPS. I don’t think the that pop up by targeting local businesses with daily deals and valuations that we are looking at today are where the valuations retailers with private sales. These e-commerce sites weren’t were during the technology bubble of the late 1990s and into around really much even last year and have really gotten a big 2000. There is a lot more interest, there is a lot more excitement push as we exited 2010 into 2011. around this industry than there has been in the last five years for TWST: I imagine the whole mobile idea is a big focus sure. My perspective is there are a handful of private companies

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with lofty valuations that everybody wants a piece of, but there online advertising, Akamai benefits from all of those trends. are also very good solid companies with a long track record that The other one I would highlight is Rovi Corp., which are public. For the people who can’t get involved in the valuaagain has a very high penetration here in the United States, betions of the private companies, there are certainly opportunities cause most digital cable offerings utilize the guide that Rovi on the public side. patented. They are getting ready to roll out a next-generation TWST: You mentioned social media. How does soguide, which will help give them pricing power. They are focial media fit into the broader cused on penetrating Western Europe “You find companies dipping their picture financially? more deeply going forward and layertoes, so to speak, in social media to Mr. Rice: Similar to moing on some additional e-commerce try to leverage the tremendous amount bile I’d say that social media is and advertising solutions into that of traffic, particularly with Facebook possibly one step further beyond guide and leveraging social media. and Twitter, but haven’t quite figured mobile. I think mobile, because of So you can get reviews from your out how to monetize that traffic. So I the proliferation of Internet-confriends for movies and pull them in would say it’s kind of one step beyond nected devices, is a market that has through the guide. So they are doing where mobile is today. Certainly been proven out and just needs to a lot of very innovative things, and as companies are looking at ways to take be taken advantage of; whereas I devices become more connected to advantage of that.” think on the social media side, Internet, I think you will see more people are very interested in it and two-way activity through this guide. has shown early success in driving traffic to various content and And so Rovi is really in a strong position to benefit from the traffic to e-commerce sites. But the question is how do they really trends online and mobile. make money from that? I think that’s a question that has yet to be TWST: Anybody else? answered, and so you find companies dipping their toes, so to Mr. Rice: I’m going to stick with those three for now. speak, in social media to try to leverage the tremendous amount TWST: Are there segments or specific companies you of traffic, particularly with Facebook and Twitter, but haven’t are really concerned about at this point? quite figured out how to monetize that traffic. So I would say it’s Mr. Rice: Not as much segments, particularly in my kind of one step beyond where mobile is today. Certainly compaspace, because the Internet has been fairly buoyant through the nies are looking at ways to take advantage of that. downturn. We are not seeing fewer people log on to the Internet.

TWST: Does Internet traffic lead to monetization at We are not seeing people spend less time on the Internet. It’s resome point? ally about how do companies take advantage of that. For the most Mr. Rice: Right. Again, if I think about someone like part, most of my companies are benefiting from the trends such an Akamai Technologies (AKAM), which is a content-delivery as e-commerce, online advertising and online videos, which are network that optimizes the delivery of traffic to various sites, still in the early stages. someone like a Hulu would use Akamai to make sure that when 1-Year Daily Chart of Akamai Technologies somebody is viewing a video they don’t get a buffer. So what would happen is Hulu would maybe want to have a “like” button or interconnect with Twitter or Facebook. That’s going to bring more traffic to Hulu, which in turn is going to require more optimization and more delivery from Akamai. So the more traffic that you would get to a site, the more important it is to make sure that that content doesn’t get interrupted and consumers have a bad experience on those sites. So in that sense Akamai gets monetization because more traffic is going to Hulu, and Hulu needs to pay to get a better consumer experience for their viewers. Most of my companies benefit indirectly as they provide their technology platforms to consumer-focused Internet companies, such as social media companies.

TWST: Where are you pointing investors now? What Chart provided by www.BigCharts.com are some of your favorite stories?

Mr. Rice: Some of my favorite stories are GSI ComThe things that I worry about are maybe companies that merce, which is a hosted e-commerce platform for retailers. And on the fringe haven’t moved quickly to establish an online presI would say the biggest piece of their revenue comes from apparel ence, like Dolby Laboratories (DLB). Dolby is a great company and maybe toy retailers like Toys “R” Us. The other companies with great management, but the majority of their revenue is rethat I would highlight are Akamai Technologies, which really is lated to enhancing the audio experience for PCs or DVD and the dominant leader in the content-delivery space, and on a valuBlu-ray players, as well as digital television. We’ve seen strong ation perspective is less expensive than it’s been in a long time. demand trends over the last couple of years for PCs, the demand When we talk about cloud computing, or videos, or e-commerce, for digital televisions, LCDs, plasma televisions and Blu-ray

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players, but we are now seeing a slowdown in more mature markets in many of those areas. So with the move online to streaming and the increasing demand for tablets, Dolby has not quite made that switchover. They are certainly involved in that and they are benefiting on some level from those things, but the majority of their revenue is still related to its traditional markets, which are now experiencing a slowdown. So Dolby needs to make sure that they penetrate these new markets to sustain the growth that it experienced over the last couple of years.

TWST: Is there anything else we should touch on, anything else we should know about this niche and the companies you cover?

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Mr. Rice: No, I think that probably covers it actually.

TWST: Thank you. (MJW) Note: Opinions and recommendations are as of 03/02/11.

KERRY RICE Analyst Wedbush Securities 1000 Wilshire Blvd.

Los Angeles, CA 90017 (213) 688-8000 www.wedbush.com

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The Burgeoning Social Sphere in Chinese Internet A L A N

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ALAN HELLAWELL joined Deutsche Bank in March 2007 after more than five years at Lehman Brothers, where he was most recently Co-Head of Research for Asia, leading coverage of the technology and telecom sectors. He subsequently spent a year in New

Technologies & Zaffire Communications, where he was in charge of marketing and business development, mergers and acquisitions, and optical networking product management; and at Netscape Communications, where he was in charge of China business development. Mr. Hellawell received his B.A. from Princeton University and his MBA from Stanford University.

SECTOR — INTERNET sharp contrast to the 1999-2000 period in which a lot of companies (ACG804) TWST: Where are you focusing your attention in the that were successfully raising large venture capital rounds or atInternet services space these days? tempting IPOs were significantly loss making. These are bona fide Mr. Hellawell: It’s difficult not to focus everywhere, but businesses with bottom lines, which I find to be pretty exciting.

I think in addition to some of the areas that are coming of age in any TWST: Would you give us a sense of the size of the other markets, such as social networking, micro-blogs, etc., I find market and its growth potential? of particular interest the shifting landscape of China’s digital adverMr. Hellawell: It’s constantly growing. China’s burtising space. That is to say, as recently as a geoning Internet scene leaves little time for year ago, a media agency or an advertising one to absorb all of its growth and innovaHighlights agency would refer to areas such as what tion, both imported from other markets, and we now call social advertising or video adthat emerging natively. As of last June, Alan Hellawell discusses the vertising as channels that carry only potenthere were 420 million users, nearly 3% Chinese Internet space, from the tial interest. Now there are very significant more than the at the end of 2009. We bebiggest trends — such as an amounts of brand advertising being delivlieve China’s consumer e-commerce marincreasing number of advertisers ered — as pre-rolls and post-rolls to videos, ket, specifically, business-to-consumer and using more channels on the Web on social networking Web sites, etc. So we consumer-to-consumer, should continue to — to the increasing growth of find that advertisers are definitely looking enjoy impressive growth, with CAGR of the world’s largest Internet at a multiplicity of channels to their custom42% from 2009 to 2014, by which point it audience. He expects China’s ers on the brand side, on channels that will make up about 7.2% of total sales in e-commerce market will have a simply didn’t exist a couple of years ago. the next three to five years.

42% CAGR from 2009 to 2014.

TWST: Would you give us an TWST: You mentioned the digiMr. Hellawell shares his favorite overview of the Chinese Internet sector? tal advertising space. What are some of segments and the reasons The Wall Street Journal recently said it’s the other important trends and developinvestors should take a close been characterized by both enthusiasm ments you are watching in 2011? look at China’s Internet space. and uncertainty.

Mr. Hellawell: Social networking, Companies include: Tencent Mr. Hellawell: I would argue that not unlike markets outside of China, is growHoldings Ltd. (0700.HK). the enthusiasm is justified to the extent that ing very rapidly. Not only are subscriber acwe all know that China is the largest market counts surging month after month, but as I in terms of Internet subscribers, and as a part of that we’re seeing mentioned earlier, it’s becoming an increasingly bona fide, and in scores of companies that are demonstrating profitable business some cases, preferred means of brand advertising. It can often be far models across the Internet landscape. It’s what I would claim a more targeted than a basic portal banner ad. When you know the

Copyrighted material: For reproduction permission contact Kenneth Wolfrath (212) 952-7400

York in charge of global IT services research. Mr. Hellawell also worked at Lucent

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anonymous specifics of a user, you can obviously get closer to the TWST: What about piracy? Alibaba and Baidu have users’ interest and affect click-through more readily. So social netbeen called “notorious markets” for piracy. working is definitely on the come.

Mr. Hellawell: These two platforms are two of the largest As I mentioned, China has a burgeoning video segment. platforms in China. While the U.S., in looking at a snapshot, may We have easily a half-dozen very promising YouTube-like models regard them as notorious markets, we do definitely see an improvethat are in various stages of growth, and which I believe to that ment in guards against fraudulence, counterfeiting and piracy. extent are unique to China. With the China is very intent on developing the video sites — if you paint with too same level of leadership and import in broad a brush you would think that software and services and Internet as “The leaders in the Chinese Internet space by and large have long memories. they are not economically viable — it has in the manufacturing sector.

They were able to look back through and China seems to be proving the You clearly need to create a robust set the first couple of years of the opposite. E-commerce is also growing of incentives to make progress there. millennium and undertake some in leaps and bounds. For instance, So an increasing number of constitulearning there. So a lot of these IPO total general merchandise value in ents around the table are all making it aspirants have realized a solid P&L 2010 roughly doubled year-on-year, very clear that piracy needs to be comes before anything else. I think that and we envision a period of strong driven out of the system. I think dithey’ve learned a tremendous amount.” sustained growth over the next four, rectionally, we’re making progress. five years. We’re seeing the Chinese Not only are the U.S. and other govoftentimes leapfrog traditional means ernments likely interested in seeing of retail to perform a wide range of transactions online. that rooted out, China itself from almost any angle is finding benefit I think another area that everyone is talking about surin developing legit software, legit applications, etc. rounds mobile application and mobile advertising, and I think it’s TWST: You mentioned earlier that unlike the boom in just a matter of time before China shows some very impressive the U.S. in 1999, 2000, these are a lot of bona fide companies development and growth there. I think the factors that have conwith strong bottom lines. What is driving that difference? Is it strained growth and development in mobile application and adverthat it’s happened before? tising relate to China’s only recently having deployed 3G networks.

Mr. Hellawell: Yes, I think the leaders in the Chinese The fact that by the end of 2010, less than 6% of subscribers were Internet space by and large have long memories. They were able to on 3G networks, coupled with a relatively low smartphone penetralook back through the first couple of years of the millennium and tion, has delayed this kind of progress. But all of the aforemenundertake some learning there. So a lot of these IPO aspirants have tioned factors are rapidly improving. The arrival of the iPhone and realized a solid P&L comes before anything else. I think that the propagation of the global handset names, in addition to quite a they’ve learned a tremendous amount. The issue of scale of the few domestic ones, is driving up smartphone ownership. The 3G Chinese Internet, the accelerated pace at which the Chinese are networks meanwhile are continuously being optimized, and people adopting the Internet — whether it’s through watching movies and are starting to understand what benefits fast mobile data speeds can TV programs more readily than their peers in the West or undertakdeliver. I think 2011 and 2012 will see some significant progress in ing a wider array of day-to-day transactions — I think also explains the mobile Internet space. why we’re seeing such a rapid emergence of successful companies.

TWST: What types of risk are there in that space?

What are you concerned about?

1-Year Daily Chart of Baidu Mr. Hellawell: One of the most significant risks that occasionally arises relates to government regulation. And whereas the Chinese government has made it clear that it sees the Internet as an expedient to economic development, on the other hand, to the extent that this can accelerate and further drive communication beyond the usual channels, they can sometimes get a bit concerned about the “speed” of information. Even given that concern in an area such as microblog — basically the product or service that Twitter embraces — China has its own versions of that, and from one perspective, they are being closely monitored by the government. On the other hand, the government is itself using these microblog tools to appeal to the public on certain fronts, to gather richer local social input, etc. So we’ve been tracking that very Chart provided by www.BigCharts.com closely, but given the sheer popularity of these microblogs, we no longer are as fearful of them being shut down and would, at worst, expect maybe a slight impairment of the service. But now with TWST: What’s your broad outlook on this space? I well over 100 million users on a couple of these platforms, it would think you are pretty optimistic. seem pretty risky to merely turn them off.

Mr. Hellawell: By and large. I think that we’re in the

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middle of a secular growth story here. I think what is also quite inture is very different. At one point in time, we had close to 2,000 teresting is that China has been derided on the Internet side as a group-buying companies that have reduced significantly as the more community of copycats, but with every passing day we come across dominant players expand their dominance. We anticipate that the new applications, new business plans, leaders in the field will leverage their new behaviors that can be unique to respective strengths — whether it’s a China, and moreover applications that leading social networking platform “We are seeing a real growth in portals may be very profitably mimicked by using that social cohesion to achieve a that cater to specific verticals, whether other markets. Specific examples meaningful place in this space, or it’s various areas of finance or real would be the very wide array of uses companies a that have generally strong estate, autos or other interest areas. And so while we have the same structure for microblogging in China, which local connectivity — given that group with dominant search, and SNS and has developed a much more extensive buying is significantly dependent on other types of players, we’re also seeing social networking overlay than in your local links, commercial links. So an impressive array of these verticals.” other markets. We also see a pretty from that perspective, we’ll see a lot novel set of e-commerce practices, of the big getting bigger and more from same-day delivery to social dominant, and possibly the more marcommerce. These are some areas in which China is demonstrating ginal pure-play getting pressurized or marginalized. to the rest of the world that it’s a growing source of innovation. And TWST: As you talk with investors, are you seeing a lot then the other area that we discussed briefly is how China has of interest in this space? proven to the world that online delivery of video can be profitable.

Mr. Hellawell: Yes, we’ve definitely seen nothing short TWST: Are there any subsectors you really like looking of a sea change in the level of interest in China Internet, specifically forward? Do you have some that really stand out above the rest? the commitment of resources on the buy side to follow the space.

Mr. Hellawell: In addition to the few subsectors I’ve The Chinese Internet, by virtue of it being significantly listed on the discussed earlier, e-commerce and others, we are seeing a real Nasdaq, has historically been covered out of New York and Congrowth in portals that cater to specific verticals, whether it’s varinecticut, but we’re now finding that there’s been an appreciable ous areas of finance or real estate, autos or other interest areas. growth in the number of Internet analysts that we service out here And so while we have the same structure with dominant search, in Asia proper. And so it’s become a truly global area of interest and SNS and other types of players, we’re also seeing an impresfrom a buy-side perspective. sive array of these verticals. The other area we expect to gain far TWST: How recently has that occurred? greater insight into, and whose industry formation will become Mr. Hellawell: We’ve seen a significant number of longmuch clearer in the second half of this year, is likely to be online onlys create full-time Internet-focused positions out here in Asia payment. The government is widely expected to issue a finite over the past two to three years. number of licenses, and in so doing, create clear leaders in a space that has arguably a couple of dozen solutions providers. So I think 1-Year Daily Chart of Tencent Holdings Ltd. that that’s going to be an interesting space to watch.

TWST: What is your general sense on valuations in the space these days?

Mr. Hellawell: It cuts both ways. I think that the longlisted industry stalwarts are likely to continue to deliver pretty strong growth. 2011 is likely to see a lot of IPOs out of the Chinese Internet space. I think we will see a pretty wide array of offerings, some of which should do quite well and lend themselves to the valuations we’re seeing in the market. Others may not be received as well. So I think that the IPO market could have some bearing on valuations as they stand right now. But generally speaking, we find that even the higher p/e names seem to be in a very robust growth cycle, which should render them more reasonChart provided by www.BigCharts.com able over the longer periods of time. So broadly speaking, we’re not too concerned about Internet valuations. Obviously, we have a TWST: I know you can’t talk in detail about specific wide array of recommendations, but I guess my point is that we companies, but where are you pointing investors these days? are not cautious on the overall segment.

Mr. Hellawell: Broadly speaking, we like the search TWST: There are a lot of companies in a lot of differspace. We also like companies who are following the “leverage your ent areas. Again, generally speaking, how are the best compastrengths” model, such as businesses built around Internet messagnies differentiating themselves in a crowded marketplace? ing that have moved into social networking and gaming. And then, Mr. Hellawell: A lot of them are making best use of their we see a couple of these very focused verticals with the opportunity greatest strengths. Take Tencent (0700.HK) and Groupon. In the of expanding their dominance, for instance, the real estate vertical. area of group buying in China, it’s widely known that market strucTWST: Are there any segments or subsectors you are

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concerned about?

Mr. Hellawell: I think the growth seems to be present across almost all the subsegments. One concern is the growth in funding that has followed that. I think that there are particular spaces, maybe in the e-commerce segment, that may see very intense competition as the winners are sorted out over the next year or two. I think that there’s going to be an opportunity for consolidation in areas such as online video. Although, as I mentioned, there is a very healthy amount of ad dollars going into it, given the sheer number of portals and sites offering video, there is probably a good opportunity for consolidation there.

TWST: Is there anything else we should touch on?

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Mr. Hellawell: I can’t think of anything.

TWST: Thank you. (MJW) Note: Opinions and recommendations are as of 03/14/11.

ALAN HELLAWELL Analyst Deutsche Bank 60 Wall St. New York, NY 10005 (212) 250-2500 www.db.com

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Virtualization Trends in Advertising & Marketing D A N I E L

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DANIEL SALMON is an Analyst in the BMO Capital Markets Corp. equity research group in New York, where he covers marketing and advertising services. Previously, Mr. Salmon was a Research Associate supporting the equity research group’s coverage of

worked on the media and entertainment research team at Jefferies & Company, Inc., and he spent four years at Citigroup’s Smith Barney, where he covered the lodging and gaming industries. Mr. Salmon started his career in the private client group at CIBC World Markets Inc. He joined BMO Capital Markets in 2004.

SECTOR — INTERNET Today you see both media company and services provider (ACG801) TWST: Where do you focus your attention in the housed under the same roof in many cases, and no place is that more Internet services space? I understand you have your own niche. so than at Google. Certainly the company earns the majority of its Mr. Salmon: My focus is on the advertising and marrevenue from its media properties, such as google.com and Youketing services world, unlike a tradiTube, but it also has a really robust tional Internet analyst who focuses on business in advertiser services, most business models such as e-commerce prominently licensing the DoubleClick Highlights or video games. I focus across the technology and also in its ad network range of traditional marketing services business AdSense, where it sells ads Daniel Salmon provides a rundown of like ad agencies and direct marketing on behalf of smaller publishers. So Internet stocks in the advertising and companies, but also the major adverhow does that get reconciled over the marketing services space. From Google to tising-supported Internet services next decade or two, where they are acttraditional advertising agencies adapting companies, such as Google (GOOG). ing both as adviser and also have a their business models to the Web, he Qpg" qh" vjg" ctgcu" vjcv" KÔo" hqstrong interest in collecting many of covers a niche where ad revenues are up cused on today is watching how the adthose advertising dollars themselves? I and stocks are performing well. He vertising and media ecosystem is shifting vjkpm" vjcvÔu" c" tgcnn{" kpvgtguvkpi" swgudescribes the opportunities in the space, from traditional analog broadcast modtion for companies like Google over headwinds caused by inflation, and he els, like traditional broadcasting, radio the next few years. shares his favorite stocks. and newspapers, to a technology infraTWST: When you talk Companies include: Google (GOOG); uvtwevwtg" vjcvÔu" tgcnn{" vjg" ucog" v{rg" qh" about straddling media and technolValueClick (VCLK); WPP plc (WPPGY); technology that underpins IP-based ogy, other than Google, what comOmnicom Group (OMC); Publicis Groupe communication. For example, where panies fit into advertising-supported SA (PUBGY.PK); Interpublic Group of television advertising was typically Internet services?

Companies (IPG); Amazon.com (AMZN); broadcasted to every single home and Mr. Salmon: The other Yahoo! (YHOO); AOL (AOL); Netflix (NFLX); everyone saw generally the same ad, companies you might typically see for Walt Disney Co. (DIS); News Corp. (NWS); more and more now we are seeing the an Internet analyst on the sort of tech Microsoft Corp. (MSFT) and Valassis technology to target individual ads to side would include, for example, ValCommunications (VCI). individual television homes, just as we ueClick (VCLK), which is an ad netsee on the Internet today, where advertiswork company; does own a few of its kpi" vgpfu" vq" dg" hct" oqtg" vctigvgf" cpf" kpfkxkfwcnk|gf0"Yjgtg" vjcvÔu" own properties that it sells advertising against, but for the most part really interesting from a 30,000-foot view is in understanding how kvÔu"ugnnkpi"cfxgtvkukpi"qp"dgjcnh"qh"qvjgt"eqorcpkgu0"Vjgp"vjgtg"ku" conflicts of interest will be managed as that ecosystem develops. this sort of blurring of the lines with what we may consider tradi-

Copyrighted material: For reproduction permission contact Kenneth Wolfrath (212) 952-7400

broadcasting and Internet media. Before joining BMO Capital Markets, Mr. Salmon

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tional media companies, but that are really truly reinventing themthese large Internet services companies like Google and Amazon selves to be much more technology enabled. I think it highlights the *CO¥P+"cnkmg"yknn"tgkpxguv"uqog"qh"vjgug"fqnnctu"vjg{Ôxg"iqv"ukvvkpi" large ad agency holding companies like WPP (WPPGY), Omnion their balance sheets, which is obviously something people are com (OMC), Publicis (PUBGY.PK) and Interpublic (IPG), which watching very closely. are all revamping their strategies and their techniques to serve their TWST: Looking ahead, what are some important clients much better as the media and advertising world does become trends and developments you are watching?

— the entire world becomes — a lot more like what we understand Mr. Salmon: Certainly there has been the big picture the Internet to be today, a two-way communication system where topic like social marketing and mobile marketing, which are really you get feedback from your audience the sort of next frontiers for both adeither from a click or a sign-up or vertisers and the Internet services “Advertising spending has been qvjgt" ogvjqfu0" KvÔu" tgcnn{" vjg" gxqnwproviders that tend to be the leaders in incredibly strong over the last year and tion of what you would call closedthat area. But one of the, I think, a half, since everyone became fairly loop marketing that was born and bred smaller out-of-the-way areas that I convinced that the economy had on the Internet, or if not even before take a great interest in is understandbottomed out in sort of the early to that in the direct-mail business, but ing how advertising is bought and mid part of 2009. So we’ve seen in really came to maturity on the Intersold. Traditionally that was a very 2010 and here in early 2011, a large pgv0"VjcvÔu"dgeqokpi"c"dki"rctv"qh"cnn" relationship-driven business. The old surge of advertising money coming advertising channels today. cliche is the lunch at the Four Seasons back into the marketplace.”

TWST: How is the busibetween the media buyer and televiness for these companies? sion network. Today that world is Mr. Salmon: Advertising spending has been incredibly changing dramatically, and as more and more advertising is placed strong over the last year and a half, since everyone became fairly over IP-enabled communications networks, you can place it using convinced that the economy had bottomed out in sort of the early to software. So some of the tools that were sort of born and bred in the okf"rctv"qh"422;0"Uq"ygÔxg"uggp"kp"4232"cpf"jgtg"kp"gctn{"4233."c" Internet world, like demand-side platforms, are evolving to be used large surge of advertising money coming back into the marketplace. to buy television advertising on IPTV networks. They are evolving Certainly a lot of that is shifting more to the Internet and more digivq"dw{"fkikvcn"qwv/qh/jqog"cfxgtvkugogpvu"kp"gngxcvqtu"cpf"fqevqtuÔ" tally enabled techniques. Obviously we hear a lot today about social offices. Typically that was a business that was sold weeks ahead of networks and mobile marketing, which are both really for the first time and executed by putting up a poster with a bucket of glue. So time getting real traction with marketers. Obviously search remains to see how the technology that manages the buying and the execueqtg"vq"cp{"octmgvgtÔu"qpnkpg"dwfigv0"Dwv"vjgp"oqtg"cpf"oqtg."cpf" tion of an ad buy, and how its infiltrating what we consider tradikvÔu"tgcnn{"qpn{"ukpeg"vjg"gpf"qh"vjg"tgeguukqp."ygÔxg"uggp"tgcn"ukipu" vkqpcn"cfxgtvkukpi"ejcppgnu."vjcv"K"vjkpm"ku"cp"qxgtnqqmgf"ctgc"vjcvÔu" of momentum in these IP-enabled channels that are typically more very important to both Internet and marketing services companies. traditional. Television is seeing targeted IPTV ad campaigns being 1-Year Daily Chart of Google vguvgf"cetquu"vjg"eqwpvt{"tkijv"pqy0"KvÔu"pqv"kp"ukipkhkecpv"vcmg/wr"lwuv" yet, but marketers are watching these things very closely to see how they can maximize their return on marketing investment. And a lot of these things are starting to bear fruit for the first time, because the systems and infrastructure is in place through faster networks, more capacity and a better opportunity to serve consumers with a good customer experience, more so than ever.

TWST: How have the stocks within this niche performed over the last six to 12 months?

Mr. Salmon: Cnn" hcktn{" uvtqpi0" Vjg{Ôxg" egtvckpn{" tghngevgf" vjg" uwtigu" kp" tgxgpwg" ygÔxg" uggp" cpf" cnuq" gzrgtkgpegf" considerable margin expansion in most cases. So depending on the stock, we have seen moves everywhere from 50% to be being up Chart provided by www.BigCharts.com well into double and almost triple territory. For example, Interpublic Group is a stock that has been very strong pick lately in more than doubling over the last year. Companies like Google — which TWST: You mentioned there are a lot of different are a little bit larger and a little bit more well understood, and cercompanies in traditional media evolving their businesses in this tainly have some different challenges from large incumbent players direction. Are certain players doing a better job? like both Microsoft (MSFT) and then also up-and-comers like Mr. Salmon: I would say there are two ways to look at Facebook — have a bit of a different dynamic going on there, parvjcv" swguvkqp0" Qpg." vjgtgÔu" vjg" vtcfkvkqpcn" ogfkc" xkgy" yjgtg" c" vkewnct"kp"vgtou"qh"xcnwcvkqp0"Dwv"hwpfcogpvcnn{"vjg{Ôxg"uggp"vjgkt" eqorcp{Ôu" ockp" hqewu" ku" ugtxkpi" eqpvgpv" qt" kphqtocvkqp" vq" eqprevenues come back very strong and have been able to convert a sumers, gathering an audience and then selling advertising against great deal of that as free cash. Now we wait and see how many of it. Certainly all of the big media companies have very significant

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operations to help diversify them away from the sort of traditional ucngu."kh"kv"jcupÔv"cntgcf{0"Uq"vjgtg"ku"egtvckpn{"vjg"rqvgpvkcn"vq"ugg"dki" advertising media that they have built their companies on. They marketers continue to push. Ultimately it comes down to the conface strong challenges from companies like Google, Yahoo! sumer, and the consumer must be out there spending money to jus(YHOO), Facebook and AOL (AOL), which are all building their vkh{"cfxgtvkukpi0"Uq"vjcvÔu"yj{"yg"ycvej"ogvtkeu"nkmg"wpgornq{ogpv" own audiences. Watching traditional media companies, for examvery closely, and look at consumer balance sheets to see if consumple, manage the delivery of their content through channels like ers really are getting back to the point where they will go shopping.

Netflix (NFLX) — what we would consider more Internet-enabled VYUV<"YjcvÔu"{qwt"dtqcf"dtwuj"qwvnqqmA distribution channels rather than good old-fashioned broadcast Mr. Salmon: On one hand ad spend is very strong at the vqygtu"cpf"ecdng"pgvyqtmu"Ð"vjcvÔu"tgcnn{"kpvgtguvkpi"vq"ycvej0 moment. But for the first time we are starting to see a potential Then the other half of the downward inflection point if comequation gets back to the players that modity costs continue to rise. The are the go-betweens here: advertising second big theme is this acceleration agencies and database marketing comof the transition to new technologies panies which are taking advantage of over which we send marketing mes“Lately investors have looked to rotate vjg" hnqqf" qh" fcvc" vjcvÔu" etgcvgf" d{" KR" sages to consumers everyday. Almost into cyclical stocks, and advertising is a communications to better target ads, every day there is a new technology, a key cyclical area of the economy.” better measure their effectiveness and new startup out there with a new and to be able to go back to a chief marketfkhhgtgpv"yc{"vq"fq"vjku."cpf"vjcvÔu"vjg" ing officer and say, “Hey, look. This ejcnngpig0" KvÔu" pqv" qpn{" vtcfkvkqpcn" works better and here are the numbers media companies like the Disneys to prove that.” There is a great old say(DIS) and News Corps (NWS) of the ing in the advertising world, “I know half my budget is being world, but also what we think of as the younger companies, such as ycuvgf." K" lwuv" fqpÔv" mpqy" yjkej" jcnh0Ò" Eqorcpkgu" ctg" ckokpi" vq" Google, that are being challenged every single day to innovate. uqnxg"vjcv"rtqdngo"vqfc{"oqtg"cpf"oqtg0"YgÔtg"nqqmkpi"cv"vjg"rnc{VjcvÔu"c"mg{"vjgog"kp"vjku"ctgc"cu"yjcv"yg"dgnkgxg"vqfc{"eqwnf"dg" ers that work around the edges and provide the services that make quite different six months from now if a particularly interesting and the media ecosystem go, are adapting and being much more technolstrong business model comes along. Groupon is a perfect example ogy enabled and data driven overall. qh" vjcv." c" eqorcp{" vjcvÔu" uqtv" qh" tgxqnwvkqpk|gf" nqecn" eqwrqpu" hqt" TWST: You mentioned one of these stocks performed dwukpguugu"cpf"vcmgp"qhh"nkmg"yknf"hktg0"VjcvÔu"tgcnn{"lwuv"jcrrgpgf" well. How are valuations in this space? kp"vjg"ncuv"34"vq"46"oqpvju."cpf"kvÔu"dgeqog"c"dknnkqp/fqnnct/tgxgpwg" Mr. Salmon: Valuations are still fairly reasonable. No one eqorcp{0" VjcvÔu" cnyc{u" c" mg{" vjgog" kp" vjku" ctgc" Ð" FqpÔv" iq" vq" is truly pushing up against historical highs just yet. At the same sleep thinking that you have got the world figured out, because it time, we are seeing commodity costs increase considerably. That almost certainly will change in the morning. rwvu" c" nqv" qh" rtguuwtg" qp" uqog" qh" vjg" yqtnfÔu" nctiguv" octmgvgtu0" 1-Year Daily Chart of Yahoo!

Consumer packaged goods companies, food and beverage companies all are very sensitive to commodity costs. So that is a looming fctm" enqwf" hqt" cfxgtvkukpi" urgpfkpi0" Kv" jcupÔv" chhgevgf" cf" dwfigvu" ftcocvkecnn{"lwuv"{gv."dwv"nqqmkpi"qwv"vq"4234"cpf"4235."vjcvÔu"c"mg{" hcevqt" vjcvÔu" iqkpi" vq" nkokv" xcnwcvkqp" cpf" ownvkrng" gzrcpukqp." cu" people question whether or not the catalysts are still there to justify kv0" Dwv" cv" vjku" uvcig." nqqmkpi" cv" o{" wpkxgtug." K" egtvckpn{" fqpÔv" ugg" cp{vjkpi"vjcvÔu"vtwn{"qxgtxcnwgf0"KvÔu"lwuv"ukorn{"vjcv"ygÔxg"yqtmgf" through a lot of the catalysts already, and we need a new set of them in order to push valuations further.

TWST: The big question is identifying what those catalysts are going to be in a fast-moving, fast-changing business, right?

Chart provided by www.BigCharts.com Mr. Salmon: VjcvÔu"tkijv0"Yg"ctg."hqt"gzcorng."nqqmkpi" out today at the auto category, which is one of the more important spenders in advertising. They are spending an incredible amount of TWST: As you talk to investors, do you see a lot of money right now, as they return from some well-documented turinterest in this space? moil in the industry and launch a whole series of new models. So Mr. Salmon: Yes, lately investors have looked to rotate vjcvÔu"cp" ctgc" yjgtg" vjgtg" ecp" egtvckpn{" dg" hwtvjgt" wrukfg" cu"vjgug" into cyclical stocks, and advertising is a key cyclical area of the companies are not just refreshing their traditional auto models, but economy. Today caution is starting to re-enter the picture, both bethey are also bringing along green models as well, more fuel-efficause of the commodity-costs element that I mentioned earlier, but cient cars. They are also incredibly focused on penetrating emerging cnuq"dgecwug"xcnwcvkqpu"jcxg"oqxgf"wr0"Vjg{"ctgpÔv"vqwejkpi"jkumarkets. China will pass the United States this year in terms of auto torical peaks yet, but we are starting to get back to average levels

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cickp0"KvÔu"ujkhvgf"dcem"c"nkvvng"dkv"oqtg"vq"c"uvqem"rkemgtÔu"v{rg"qh" environment, where you try to pick the winners and losers rather than just riding the group. You are seeing certain stocks move a little out of favor, not because their business has turned, but simply vjcv"vjg"uvqemu"jcxg"jcf"iqqf"twp0"Vjcv"KÔf"uc{"jcu"dggp"vjg"dtqcf" theme here recently.

TWST: Where are you pointing investors now? What are some of your favorite stories at the moment?

Mr. Salmon: KvÔu"d{"pq"ogcpu"cp"qwv/qh/eqpugpuwu"xkgy." but I do like Google a great deal. I think that their multiple has been pushed down considerably due to a lot of hype around Facebook and the potential threat that it poses to Google0"Egtvckpn{"kvÔu"cp"koportant up-and-coming company, but in GoogleÔu"eqtg"dwukpguu"Ð" ugctej"Ð"kvÔu"pqv"tgcnn{"c"rnc{gt0"Kv"eqwnf"egtvckpn{"rwnn"cyc{"uqog" of the usage that search gets, but the company is still very much the fqokpcpv"rnc{gt"kp"vjcv"ctgc0"KvÔu"GoogleÔu"oqxgu"kpvq"fkurnc{"cfxgttising in particular where it starts to come into competition with a company like Facebook more. Today Microsoft remains a key competitor for them in both search, as well as in advertising technology more broadly. But I do think it has been a little beaten down sentiment-wise, and I expect good performance there.

Vjg" ugeqpf" qpg" K" yqwnf" ecnn" qwv" ku" cpqvjgt" qpg" vjcvÔu" rgthqtogf"xgt{"uvtqpin{"qxgt"vjg"rcuv"34"oqpvju."cpf"vjcvÔu"Interpublic Group, IPG. It is a midsized advertising holding company, but one that is not only riding the wave of ad spending but is itself coming out of a turnaround after some turbulence in the first half of last decade. IPG has the opportunity to raise margins a greater amount than its peers, and I expect it to outperform the group of ad agencies as it continues to push towards the finish line of its turnctqwpf0"Vjg{Ôxg"jcf"c"eqwrng"qh"mg{"oknguvqpgu"tgegpvn{"yjgp"vjg{" announced the re-initiation of a dividend payment, as well as the share repurchase program.

TWST: Anybody else? Maybe a company on the small-cap side?

Mr. Salmon:"Qp"vjg"uocnn/ecr"ukfg."kvÔu"pqv"ugz{"dwv"kv" yqtmu"Ð"cpf"vjcvÔu"eqwrqpu0"C"uocnn"ecr"K"eqxgt"ecnngf"Valassis, VCI is their ticker, has some company-specific catalysts to it.

They settled some litigation with News Corp. in 2010 and have a variety of opportunities to execute on to keep driving cash flow itqyvj"vjgtg0"KvÔu"pqv"c"dki"vqr/nkpg"itqygt0"Pgyurcrgt"cpf"ocknbox coupons are not the next wave of the future, but they plan to evolve into the world of digital coupons as well. The key focus there is a strong return of capital to shareholders. I expect them to repurchase about 8% to 10% of their float this year. Their intent is vq"eqpvkpwg"fqkpi"vjcv"kpvq"4234"cpf"dg{qpf0"VjcvÔu"c"tgcn"uvtqpi" return-of-capital-to-shareholders story, and one that tends to get a bit of sideways look when you say that one of your best picks is a

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good, old-fashioned, paper-coupon company.

TWST: Are you concerned about any specific segments or areas of your coverage space?

Mr. Salmon: There is definitely a “rising tide lifts all boats” situation going on with anyone in advertising right now. As that starts to moderate we get back to that idea sort of constant innovation going on in the space as you move more to IP-based technology. Obviously print models have been in focus for some time. I do believe that we will gradually use paper media less and less, but at the same time those different models will break down at different points depending on when the new technology matures to replace them. Obviously iPads and tablet computers are new innovations that bring some challenges to the newspaper and magazine industry.

How they fare in that transition will be very interesting to watch as there are a variety of young up-and-coming players who want to take the eyeballs that are forming around those devices right now. So continuing to watch when certain print models become legitimately ejcnngpigf"d{"cp"KR"oqfgn."vjcvÔu"cnyc{u"xgt{"kpvgtguvkpi"vq"nqqm"cv0 And then the traditional marketing services like, for example, in the media-buying business, which as I mentioned earlier are sort of transitioning from being more relationship driven to dgkpi"oqtg"vgejpqnqi{"ftkxgp"Ð"vjcvÔu"c"ukipkhkecpv"ejcnngpig"vq"cf" cigpekgu0"Wr"wpvkn"pqy"vjg{Ôxg"fqpg"c"dgvvgt"lqd"vjcp"K"vjkpm"oquv" people would have expected in evolving, but they also have a whole new breed of technology companies that are creating tools that they hope will serve for the traditional position of the media buyer. So those are two areas to definitely watch for disruption.

TWST: Is there anything else we should discuss?

Mr. Salmon: Like I said, the key themes here that there is always innovation going on, number one. Number two, the advervkukpi"tgeqxgt{."ygÔxg"iqv"vq"uvctv"nqqmkpi"cv"kv"uc{kpi."ÑQmc{."yjgp" the growth rate starts to moderate here and when is our snapback position over?” And that constant battle of incumbent media and octmgvkpi"eqorcpkgu"xgtuwu"vjg"wr/cpf/eqogtu."vjcvÔu"cnyc{u"c"mg{" dynamic, constantly.

TWST: Thank you. (MJW) Note: Opinions and recommendations are as of 03/01/11.

DANIEL SALMON Analyst BMO Capital Markets Corp.

3 Times Sq. New York, NY 10036 (212) 702-1969 www.bmocm.com e-mail: research@bmo.com

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BILL LAPERCH is the President, CEO and a member of the board for AboveNet, Inc. A telecommunications industry veteran with more than 20 years experience, Mr. LaPerch is responsible for guiding AboveNet from Chapter 11 to a recognized leader in providing optical connectivity solutions for businesses. Under Mr. LaPerch’s leadership, AboveNet has transformed itself into a leading provider of high-bandwidth private solutions for Fortune 1000 companies in the U.S. and London. This effort included a sale of nonstrategic assets and focused investments in customer-related network opportunities. Prior to joining AboveNet, Mr. LaPerch served as Vice President of Network Services for MCI, where he managed the local, long distance, data and Internet networks. Previously, Mr. LaPerch held executive positions at NYNEX Corporation. Mr. LaPerch earned a B.S. in engineering from the United States Military Academy at West Point and an MBA from Columbia University.

SECTOR — HIGH BANDWIDTH CONNECTIVITY SERVICES (ATW609) TWST: Please give us an overview of AboveNet’s products and services.

Mr. LaPerch: AboveNet provides high-bandwidth connectivity solutions to enterprises and carriers. Our private optical networks deliver key network and IP services in and between the top U.S. and European cities. Our typical customers are in bandwidth-hungry markets, such as financial services, social media, education, health care and government. We see tremendous growth in the demand for high-bandwidth services. In fact, by 2014 over 80% of that demand will likely be for greater than or equal to 100 Mbps connections. We are also looking forward to serving 40 gig and 100 gig-type needs.

We have positioned the company to benefit from this growth, and you will continue to see progress from us related to our metro expansions in the U.S. and Europe. We provide quite a large amount of bandwidth that has great latency characteristics. Our networks are private networks that are built on a pointto-point basis. For example, in today’s world, where high-frequency traders and media companies and health care companies are concerned with the latency of the network, our connectivity solutions are an ideal fit.

Most of the products that we sell require us to install a dedicated private fiber route. As you know, in today’s world we are always concerned about data security, about encryption, about software encryption, and that plays well with many of our customers.

TWST: What drives your customers in verticals such as education and health care to look at these types of products and services? Are there trends that push them into realizing further service needs?

Mr. LaPerch: Yes, there are many trends out there. For example, let’s look at education. I recall my daughter going to the

University of Maryland and seeing firsthand how things had changed. The old-fashioned idea of just sitting in the class and taking notes doesn’t exist anymore. People now use iPads, or they watch the class remotely over a video connection. Most of the homework is done over some type of data network. The research at these education institutions is done over the Internet as well.

The bottom line is there are many things driving people towards a data-intensive environment. The education institutions are smart, and they are leveraging this capability into more effective education.

TWST: What questions do clients ask you? What questions should they be asking?

Mr. LaPerch: It’s a bit of a dichotomy here. Our customers are asking two questions. The CFOs are asking, “How can I spend my money more effectively?” And the CIOs and CTOs are saying, “How can I get more bandwidth?” While these two questions seem to be at odds with one another, for us they’re really not.

Our position as a fiber-based next-generation Ethernet protocol network really gives us some powerful differentiation in the marketplace. We can look at a legacy embedded network, or more specifically an older network that is primarily SONET or TDM based, and we can tell the potential customer that for about two thirds of what they are spending today AboveNet can provide two, three or four times the capacity.

TWST: What does the competitive landscape look like today? How will that landscape evolve over the next two to three years?

Mr. LaPerch: The primary competition we see is from those legacy network providers that I just referred to. That is the vast majority of what is out there today. It points to the huge opportunity that we have in front of us. We also compete against companies that provide Ethernet-based services similar to ours, but we do that on a

Copyrighted material: For reproduction permission contact Kenneth Wolfrath (212) 952-7400

AboveNet, Inc. (ABVT)

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regional or a local basis. There are no companies that have the footprint that AboveNet has in terms of the number of markets we’re in and the size and scope of our network

“We don’t have an ultimate objective of being ubiquitous. We have an ultimate objective of being in the Tier I markets where there is a lot of data demand, there is a great data center footprint and being successful in those markets.”

TWST: When you look at growth opportunities, how do you assess the internal organic growth opportunities versus the strategic opportunities? How does AboveNet mix those two types of strategies?

Mr. LaPerch: We have a fantastic organic growth plan in place. We believe that just by executing on this strategy that we will be successful going forward. With that said, we will continue to look at companies that may help extend our footprint and market reach.

TWST: What are some of the limitations you will address over the next two to three years? Do they relate to capital, people or technology?

Mr. LaPerch: The number one thing I have on my list is discipline. I’m excited about the bandwidth explosion all around us. I think that the company has to maintain the discipline it has shown in the last 10 years in terms of how we do business, what kind of deals we do and what kind of opportunities we pursue. We don’t have an ultimate objective of being ubiquitous. We have an ultimate objective of being in the Tier I markets where there is a lot of data demand, there is a great data center footprint and being successful in those markets.

As we go forward we’ll maintain the discipline that has made us successful so far, and not get trapped in some of the things that happened back in the Internet boom when all sorts of speculative investments and huge spends of capital really did harm to a lot of companies.

TWST: Are there any issues or questions with respect to customer retention at this point?

Mr. LaPerch: We’re in a very fortunate position. We pride ourselves on our nimbleness, our ability to listen to customers and to deliver on our customers’ needs. We take a great deal of pride in that. That is going to remain a focus of our company — to be able to stand in front of our customers, understand their needs and then exceed their expectations in terms of how we implement and provide services to them.

TWST: What are the specific accomplishments you feel will make the next 12 to 24 months successful?

Mr. LaPerch: I think about the discipline and the consistent performance that we’ve had over the past five years and ways to keep that going. Last year we expanded to five new markets. How do we use that expansion to build up the types of

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businesses we have in our existing new markets? That is the challenge in front of us. We need to continue to listen to our customers. We need to continue to execute, and we need to continue to have the discipline to believe in the model that has made us successful so far.

TWST: Please give us a frank assessment of your top management. What are the skill sets and strengths you rely on?

Are you looking for changes or additions in any areas?

Mr. LaPerch: Some people look at our company and the first thing they want to talk about is the great fiber assets that we have in place. The thing that is most important to me is the great team that we have in place. We have a team that has the right mix of entrepreneurism and experience. I’m proud to be associated with them.

TWST: What is your management philosophy? Would you distill that philosophy for us and provide highlights of the way you set the goals and standards for this company?

Mr. LaPerch: My approach is simple. It’s take care of the people. People are your most important asset. And then understand what business you’re in and have the discipline to stick to that business model. It doesn’t come easy. There is a lot of hard work and determination required. You have to be able to navigate the nuclear winters and the storms that come your way. But if you have the discipline, you understand your model and you work hard, I think that you can be successful. I think I have a group of people around me that subscribe to that theory.

TWST: At this point, how could the investment community improve its perception or understanding of AboveNet? Are there any misperceptions?

Mr. LaPerch: For some, they look at AboveNet and think we’re some kind of telephone company, which we’re absolutely not. Some analysts group us in with the CLEC segment, which is a competitive local provider. We are not that either. We’re part of the IT infrastructure.

If you look at IT today, it needs two things. It needs a place to live, which the data centers fulfill, and then all of that data that companies need to operate needs to get back to the trading floor or the billing center or the hospital or the school hall. We provide that transport infrastructure. So in many ways, customers will feel really good about what we provide, because they feel it’s an important part of their solution that allows them to efficiently operate their IT infrastructure.

TWST: What is your vision for this company? What will it look like in 2013?

Mr. LaPerch: The vision for the company is to continue to evolve as the premier bandwidth infrastructure provider for companies that need big bandwidth connectivity, and the excitement I have is that that addressable market is expanding literally month by month as many more segments and enterprise customers start to come into our field of vision and into our strong spot. As that happens AboveNet will continue to evolve using the great metro and WAN assets we have and the great team we have to execute according to our growth plan.

TWST: What is the essential summary statement for investors? What are the strengths and highlights that would convince an investor to buy in today?

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Mr. LaPerch: As you look at the bandwidth explosion around you, and you see bandwidth continue to expand, we are positioned as a company that has the MAN and WAN capabilities to provide those big bandwidth solutions.

TWST: Have we overlooked anything? Would you like to add anything else?

Mr. LaPerch: I hope you can sense the excitement and optimism I have for the future of AboveNet. TWST: Thank you. (KL)

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BILL LAPERCH President, CEO & Director AboveNet, Inc. 360 Hamilton Ave. White Plains, NY 10601 (914) 421-6700 (866) 859-6971 â&#x20AC;&#x201D; TOLL FREE www.above.net e-mail: enquiries@above.net

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IDO HADARI, the CEO of Commtouch Software Ltd., joined the company in 2008 as the Vice President of International Sales & Business Development.

He was appointed Chief Operating Officer in November 2009, and became CEO in January 2011. Mr. Hadari has more than a decade of business management and sales experience, most recently at Interwise, an enterprise voice and Web conferencing provider that was acquired by AT&T. At Interwise, where he worked for eight years, he held various senior business development and channel management positions with responsibilities for regional sales in Europe and Asia, and global strategic alliances. Mr. Hadari earned a B.A. magna cum laude in business administration and economics from The Hebrew University of Jerusalem.

SECTOR — INTERNET (ATW606) TWST: Let’s begin with a brief history and a quick overview of Commtouch Software.

Mr. Hadari: Commtouch is celebrating its 20th anniversary this year, although the company has changed significantly and there is little resemblance between Commtouch 20 years ago and Commtouch today. Commtouch today is an Internet security company. We are part of the market that Gartner and IDC define as between $10 and $15 billion. And within this market we have an award-winning, cloud-based Internet security portfolio that has been expanding significantly over the past couple of years.

Commtouch has a unique business model. Commtouch is focused on indirect channels, namely OEMs and service providers. Within that space Commtouch is a security powerhouse with proven execution capabilities in over 150 partners around the world, including the likes of Google, Microsoft, McAfee, Check Point Software and WatchGuard.

Within Internet security we offer three product lines. One is messaging security, namely protecting users against spam and phishing and other unwanted e-mails. The second one is Web security that is a technology for categorizing the Internet in order to protect users, enhance their productivity and enable organizations to comply with legislation. The third one, which is a recent acquisition, is antivirus. In September 2010 Commtouch acquired the Command Antivirus division of Authentium, a well-established antivirus company based in West Palm Beach, Fla. We have been integrating Command Antivirus into our business ever since the acquisition, and we’ve been pleased with that integration to date.

TWST: Who are some of the early adopters of your unified Internet security solution?

Mr. Hadari: The only ones that can protect your inbox and secure your browsing, as well as protect you from malicious code, are the giants of the security industry, such as Symantec and McAfee. So Commtouch is unique in the sense that we offer the same broad range of security technologies in an indirect model.

The first and natural target market for our unified solutions is our existing customer base. As I mentioned, our customer base comprises some of the world’s leading security and networking vendors as well as service providers. These three offerings — e-mail security, Web security and antivirus — usually go hand in hand and are offered together in a bundled product. Our existing customers can get the benefits of consolidating on a single provider for these technologies, leading to operational simplicity and reduced total cost of ownership.

In addition, our product lines are not only complementary, they actually cross-enhance one another. For example, if we catch a spam outbreak or phishing outbreak through our messaging products, we will not only block that outbreak but we will also extract the spam or phishing URL and feed it to our Web security product. In essence each of our products is better as a stand-alone service by virtue of all residing together on our GlobalView cloud or being a part of our broader protection suite, and this is what users are looking for today. They are looking for a broad protection suite. We have been getting excellent traction from our existing customer base with this proposition.

We also speak with new potential customers, telling them that exact same story of complete Internet security solutions. In the past it was good enough to offer great point products. That is no longer the case. Customers are looking for a more complete suite.

They want the vendor to solve all the problems that are relevant to this specific domain, to reduce the number of vendors and benefit from consolidation. We continue to expand our customer base with our consolidated Internet security solutions.

TWST: What is the dollar size of the global Internet security marketplace today?

Mr. Hadari: Consensus among industry analysts is that overall Internet security is roughly a $30 billion market. The relevant portion for us today, which is content and threat management, is a little over $10 billion if you look at IDC. And Gartner states a roughly similar number. This includes areas like endpoint protection

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Commtouch Software Ltd. (CTCH)

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and anti-malware, Web security, network security and messaging security. These are some of the segments that are included in this market, and they all grow at different rates.

“Security is an interesting area since it’s a mandatory set of services. Even during the economic downturn of 2008 and 2009 many business areas have decreased in size and their growth slowed, but security is something that users simply cannot compromise.”

Security is an interesting area since it’s a mandatory set of services. Even during the economic downturn of 2008 and 2009 many business areas have decreased in size and their growth slowed, but security is something that users simply cannot compromise.

Users are now more and more exposed, as individuals and as businesses, to threats in the cyber world. There are 30 billion to 40 billion Web sites altogether. Some of them are good, many are not. There are multiple threats on the Web, trying for example to compromise your machine, sell false products or steal your credit card details or bank account details. The Web includes inappropriate content, such as child pornography, hate sites, violent sites, sites teaching users to produce bombs or even sites that provide instructions for committing suicide. Our analysts have measured the creation of tens of thousands of new porn sites every day. We see phishing sites that are being put up and then taken down in a span of just a few hours. So the whole Web environment is extremely dynamic. It is growing exponentially and is becoming increasingly complicated. If there is a $10 billion market on this side of the fence, which is the good guys’ side, there is another $10 billion market on the bad guys’ side of the fence. It is a kind of cat and mouse race. A lot of money is on the line, and it is growing quickly. These are some of the challenges that the security industry has to cope with.

TWST: What will be the next round of evolution for your products over the next year or two?

Mr. Hadari: If you look at some of the large leading security vendors — for example, Symantec, the world’s largest security vendor — there is a large number of segments or product lines in the market today. Any company that wants to become a significant Internet security player is going to have to look at how to expand its product portfolio, as well as how to expand its addressable markets.

A brief story about Commtouch’s evolution over recent years will highlight what I mean. Two years ago Commtouch was a company with one product line and one market segment. The company sold messaging security to OEM vendors only. In that business the company expanded its sales, became profitable, generated cash and reached nearly $15 million in revenue, with about a 30% net margin. Over the past couple of years, however, we have grown the company to offering three product lines, targeting two main market segments. We have added Web security and antivirus, and we have added the service provider market, all of which has significantly

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impacted our business. And this has happened within a relatively short time frame, including for the first time in Commtouch’s history growth via an acquisition.

So looking forward into what Commtouch could offer, it is possible to draw a trend line expanding the offering, expanding the target markets and not necessarily doing this from only internal resources, but also looking to expand at a quicker pace. In today’s economy businesses that want to grow quickly and move to the next level need to look at how they can leverage external activities such as acquisitions and mergers, and strategic partnerships in order to expedite that growth.

TWST: Let’s talk about GlobalView URL Filtering. Is that product strong enough today to keep you ahead of the pack?

Mr. Hadari: We believe that GlobalView URL Filtering is far ahead of other Web categorization solutions. It is a fourthgeneration solution. Earlier generations of Web URL filtering technology have been around since the mid-1990s; however, in the mid-1990s there were many fewer threats out there and fewer Web sites. We sometimes joke that back then when you purchased your ISP subscription, you received your account details together with a list of all the Web sites on the Internet. The Internet was very, very small and dealing with its threats was much simpler. Over the years, however, that business has evolved, first into whitelists and blocklists, and then into databases.

Currently the third generation of URL filtering, which is the most common out there today, is basically creating a preset onesize-fits-all database and then distributing it to all endpoints, followed by periodic updates. That is what most Web security solutions look like today. When we entered this market we knew that the only way to cope with today’s dynamic Internet threat landscape is to work in the cloud, and that is how we developed the fourth generation of URL filtering. When you categorize in the cloud, which is the fashionable term for big databases and data centers around the world, you have the luxury of virtually unlimited CPU, memory and storage. You can run multiple filtering and other engines, and you can bring in multiple external resources. We are not trying to cope with the very complex and vast world of the Internet by ourselves. We have established the Commtouch Security Alliance that brings together more than 200 different sources from around the world that are all integrated into our cloud to provide better protection to our customers.

Another important element that differentiates this fourthgeneration technology from earlier Web security technologies is that we have an intelligent way of delivering only the relevant subset of that cloud to the endpoint, as opposed to packaging a onesize-fits-all, 50-million-URL database and pushing it to each and every endpoint. Understand that other Web security solutions do this, regardless of where the customer is located in the world or the type of endpoint. The cloud approach also means that we see threats as they occur, keeping track of what’s going on in the world and adjusting our categorization in real time. These are some of the unique properties of that fourth-generation URL filtering solution.

TWST: Is that the reasoning behind Hostway, a major hosting provider buying into your outbound spamprotection solutions?

Mr. Hadari: Absolutely. We take a similar approach for

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messaging and e-mail as well, in addition to the URL filtering, which is basically monitoring a significant portion of the world’s Internet traffic in real time and filtering it through our technology. Today our data centers see between three to four billion Internet transactions every day. Internet transactions could be an e-mail message or could be a URL that a user wants to browse to. We have our own GlobalView network around the world that collects those transactions every day, and then we use our proprietary patented software algorithm known as RPD, or Recurrent Pattern Detection technology.

RPD technology has several advantages. It’s completely automatic, there’s no human intervention in the process. If it happens on the weekend it doesn’t matter. It’s in real time. It will usually take Commtouch just a few seconds to pick up on an outbreak.

We see about two million different outbreaks of e-mail spam and phishing every day. That’s a huge number. The solution is completely language agnostic, which gives us an advantage in Asia where the languages are double byte, which makes detection more complicated for other types of solutions. RPD is future proof since it works based on data patterns and not based on specific text. So companies like Hostway that you mentioned appreciate the benefits of providing them with very quick protection, both protecting against inbound threats as well as outbound ones.

Outbound spam poses some unique challenges since service providers are in a situation where spammers are taking advantage of their networks to distribute spam. This can cost the service provider a lot of resources like bandwidth and servers for illegitimate mail. And it can also cause serious operational problems, like getting the ISP blacklisted, so legitimate customers will not be able to send e-mail. Commtouch brought to market a dedicated solution for protecting against outbound spam abuse since this is one of the biggest problems that service providers are faced with today. It costs them money, it causes them legal exposure and creates some very unhappy customers.

TWST: You’ve recently replaced Gideon Mantel as CEO. He served as CEO for a very long time and left some pretty big shoes to fill. As you look out over the next year or two, what are some of goals that you have set for Commtouch?

Mr. Hadari: Gideon Mantel co-founded the company 20 years ago and served as CEO for 14 years, and also was Chairman of the board. Gideon was a true leader and a source of inspiration.

Commtouch has done very well to date. The company is growing, profitable, generating cash and has very nice margins. It is a strong business boasting an impressive customer base, and Gideon and his co-founders can take credit for a remarkable achievement. Our challenge now is to take the company to the next level. This is going to be the goal and the focus of today’s leadership team.

We are looking to accelerate growth, both organically and nonorganically. This is key for Commtouch. One challenge that we face is executing on our recent acquisition of the Command Antivirus division of Authentium. The acquisition has been an excellent fit for Commtouch, both from an operational perspective as well as strategically, and we now have to execute on that proposition and bring in the benefit and the value into the company. If we focus on execution, do it well and execute on our growth plans, I think we will be able to take the company to the next level, which will of course benefit our shareholders and investors.

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TWST: Do you have the management team in place to support accelerated growth?

Mr. Hadari: Yes, we do.

“Commtouch has a strong balance sheet. We don’t have any debt. We finished 2010 with $13.5 million in cash, and that is a very strong starting point. From here it really depends on what we want to do.”

TWST: What about from a technical point of view? Do you have the engineers that you need or can you find the engineers that you need?

Mr. Hadari: We have strong technical talent in-house.

First of all one of the three Co-Founders, Amir Lev, is still the CTO of the company leading the technology organization. He is an inspirational and experienced technology leader. Within the technology organization we also have highly experienced developers and researchers, analysts and product specialists, and there are interesting things that we can do based on these talented people.

TWST: Do you have the balance sheet in place to carry through with your plans?

Mr. Hadari: Commtouch has a strong balance sheet. We don’t have any debt. We finished 2010 with $13.5 million in cash, and that is a very strong starting point. From here it really depends on what we want to do. The balance sheet is definitely a good start and one of the important assets that we have working for us.

TWST: Is your message getting through to the financial markets? Does the investor community understand the Commtouch story?

Mr. Hadari: We are doing our best to communicate a solid story. And it is a proven story, not some fairy tale or theory. I think we can always do a better job at communicating to the financial markets. One of the things that is important to understand about Commtouch is that there is an inherent delay to recognized revenue.

It takes time for our revenue to ramp up, but we have high visibility into that expected revenue and the respective risk is low. As a matter of fact, we know for the most part what the organic business will look like for 2011 today.

TWST: What type of investor relations program do you have in place to send your message to current and potential shareholders?

Mr. Hadari: We do have an I.R. program. We employ I.R. firms to take us on road shows. We speak to the market. We speak to potential investors that look at small- and micro-cap, and we currently are being covered by two analyst firms, Chardan and Zacks.

We participate several times a year in financial events. The most recent one was AGC, America’s Growth Capital event, in February in San Francisco. I think one of the biggest challenges for small- and micro-cap companies is really getting that traction, getting on the

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radar screen. For companies that are less than $250 million in market cap it’s always a challenge to get on investors’ radar screens and to increase liquidity. We are taking a few steps to cope with that.

TWST: Please give us what you consider to be the two or three compelling reasons why a long-term investor should be buying shares of Commtouch Software.

Mr. Hadari: First, the security market is the right market to be in. It’s a very dynamic market with lots of growth potential. It has been going through significant consolidation recently with big players, not necessarily traditional security players, coming into the industry. This was highlighted very well by the acquisition of McAfee by Intel, and by major financial investments in private companies like avast! and Kaspersky. So I think security is a very hot space to be in, and it is just going to get hotter with trends like SaaS and mobility that simply need security in order for them to continue and expand.

The second is our business basics. The company grew by 20% in 2010 over 2009. And we have forecasted the company to grow by more than that, by 25% to 30% if you look at our guidance for 2011. The company has an 85% gross margin and about 30% net margin, and it generates cash. The fundamentals are very good, and they are accompanied by a strong customer base of more than 150 of the world’s leading providers, such as Google, Microsoft, McAfee, Check Point and HP. The company has new products and

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an expanded proposition that it has started executing on.

And for the third point I would say that the risk is very low. Just going back to my earlier point, we have strong revenue visibility, and we have new product lines that are still not fully reflected in the numbers. I believe that combined, some investors may think that this could be an interesting investment opportunity for them, but of course that is for them to judge.

TWST: Have we overlooked or missed anything?

Mr. Hadari: These are exciting times at Commtouch. We are determined to take the company to the next level, and we are looking forward to what lies ahead.

TWST: Thank you. (KL) IDO HADARI CEO Commtouch Software Ltd. 4A Hatzoran St. P.O. Box 8511 Netanya 42504 Israel (972) 9 863 6888 (972) 9 863 6863 — FAX www.commtouch.com e-mail: ir@commtouch.com

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GARY GUSEINOV is Chairman and CEO of CyberDefender Corporation. A seasoned technology-marketing executive, he founded the Web development and e-commerce firm Digital Media in 1994, where he served as the Chief Executive Officer. In 1998 he co-founded Synergy, a performance-based online marketing firm, where Mr. Guseinov served as the President/CTO. During his tenure at Synergy, he generated more than $2 billion in revenues for its clients, including GoToMyPC/Citrix, Oracle, Chase, Nortel, HP, Bank of America and CitiBank.

SECTOR — INTERNET (ATW610) TWST: Please begin with an overview of CyberDefender and its products and services.

Mr. Guseinov: CyberDefender provides consumer and small-business Internet security, PC optimization, remote PC repair services. Our primary focus is on LiveTech, our remote PC repair service, which provides consumers and small businesses with remote PC repair services with 24/7 technical support available to address virtually any computer problem. In terms of products, CyberDefender develops and markets anti-malware software PC optimization software, online backup and the remote LiveTech services, which I just mentioned.

TWST: Give us an idea of what the customer space looks like. More specifically, who are you targeting and what acceptance level have you achieved?

Mr. Guseinov: Our products are primarily designed for consumers and small businesses that are experiencing immediate and ongoing computer problems. With the evolution of new operating systems, increased dependency on mobile connectivity and increasing value of personal digital data, consumers and small businesses are becoming increasingly dependent on data security, like products and services we offer. In fact, the biggest cause for a nqv" qh" rtqdngou" vqfc{" ku" vjcv" oquv" wugtu" fqpÔv" jcxg" rtqrgt" kpuvcnncvkqp"qh"vjgkt"ugewtkv{"u{uvgou0"Yjgvjgt"vjg{Ôtg"wukpi"qwtu" qt" uqogqpg" gnugÔu." oquv" qh" vjg" fcvc" ku" pqv" ugewtg" cpf" kvÔu" pqv" backed up in the cloud, and the number of different operating systems and the high dependency on computers today have created this opportunity for companies like ours to basically be the managed outsourced services provider that can tie it all together and make sure that all these technologies are working correctly.

This has created a big opportunity for us.

There are several competitors like Geek Squad, iYogi and Support.com that have been in the space for sometime, but I think vjcv"ygÔxg"tgcejgf"c"rqkpv"pqy"kp"vjku"ecvgiqt{"yjgtg"vjg"fgocpf" for these services is going to continue to increase due to the previously mentioned problems. The competitive landscape is very healthy and there is plenty of opportunity for everyone.

VYUV<"YjcvÔu"vjg"jwtfng"hqt"vjg"ewuvqogt"vq"fgekfg" they need to contact CyberDefender or that CyberDefender has

an appropriate set of solutions?

Mr. Guseinov: We think that giving consumers an opportunity to self-diagnose their computers is an effective way to reach our customers without creating an obligation on the consumer side. We target our customers through our direct response advertising programs, and we currently market heavily in TV and radio. What we offer is a free diagnostic that allows the consumer a very simple computer diagnostic to find out what problems lie inside, and then get an opportunity to either fix it on their own, by purchasing our DIY software, or if they need the assistance of a trained technician to fix the problem, they can contact our LiveTech service, where an agent will remotely dial into their computer and fix whatever hardware, software or configuration issues the user is having. So vjcvÔu"jqy"yg"octmgv"ewttgpvn{0" TWST: What is the competitive landscape, and what are the dynamics as far as companies looking at this space, entering this space, companies that already have some exposure and clients in this space? How does that impact your own uvtcvgikgu"cpf"itqyvj"qrrqtvwpkvkguA"YjcvÔu"vjg"fkhhgtgpvkcvqt" for CyberDefender?

Mr. Guseinov: CyberDefender is fundamentally different htqo"qwt"eqorgvkvqtu"kp"ocp{"yc{u0"Kp"vjg"ugewtkv{"ecvgiqt{."ygÔtg" probably the only company that has made technical services a priority. Software is quickly becoming a commodity, and the real opportunity lies in services. By nature, the technology that we use requires human assistance. This is where we make the greatest impact. Currently, over 60% of our revenue comes from our LiveTech service, where all of our technicians are based in the U.S., and the rest comes from software sales.

In contrast, many companies that focus solely on the security space are focused on the enterprise category, with around 30% of their revenue coming from the consumer segment. Most security companies in this category are actually software companies, not service providers. CyberDefender is both. Software is typically only 5% of the problem and the rest is installing and updating the software correctly, regardless of what operating system you use. A Best Buy/Geek Squad sells primarily through their retail locations.

Support.com primarily sells to consumers through its retail partners on a private-label basis. iYogi is an offshore organization, most of

Copyrighted material: For reproduction permission contact Kenneth Wolfrath (212) 952-7400

CyberDefender Corporation (CYDE)

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their agents, if not all of their agents, sit outside United States despite servicing U.S. consumers. By having the advantage being eqpuwogt/hcekpi."fktgev"tgurqpug"octmgvkpi"cpf"jcxkpi"uecng."ygÔtg" growing rapidly and integrating the necessary components to become a leader in the space.

TWST: What end-user demand is the industry seeing?

Within your targeted market segments, is one segment performing better than the other?

Mr. Guseinov: The security segment as a whole is a big category today. That is, literally every computer, every networkeqppgevgf"fgxkeg"pggfu"uqog"hqto"qh"ugewtkv{0"Yjgvjgt"kvÔu"ugewtkv{" embedded in the chip, a software application or a suite of services, every device needs some form of security. The consumer typically takes security seriously once there is a problem, the small business is a little more forward looking, and at the enterprise level, security is an obvious consideration. On the consumer side, what we are seeing is that an average consumer today has multiple computers and connected devices that have the same exact issues as a small business, where the data is not centralized or synchronized.

Essentially, the data security is not being properly managed.

An average household with two or three computers typically includes multiple cell phones and mobile devices, televisions and printers, wireless networks and wired networks.

With the complexity and interconnection no one in the house is keeping up with the maintenance of these devices. So the consumer relies on us to maintain their computer security and even perform basic computer maintenance.

Vjg"uocnn"dwukpguugu"ctg"kp"c"ukoknct"ukvwcvkqp0"Vjg{"ecpÔv" afford to hire a full-time IT person, but have the same exact productivity problems that consumers and large businesses will have. We fit that niche where small businesses can use our products, or our services, and increase or at least maintain their productivity.

And the consumer can simply stay protected and make sure that they have access to their IRS records or their contacts, which are all sitting in one computer.

Uq"vjcv"ku"yjcvÔu"ocmkpi"E{dgtFghgpfgt"itqy."cpf"K"vjkpm" as we continue to see the evolution of new technologies, iPads and other new tablets, new operating systems for mobile devices, etc., ygÔtg" iqkpi" vq" ugg" oqtg" cpf" oqtg" tgnkcpeg" qp" vjgug" fgxkegu." creating more and more need for what we do, which is very exciting for us and gives us great confidence that our growth will continue.

TWST: CyberDefender recently launched an online backup service. How similar or dissimilar will this product be to the Carbonite product?

Mr. Guseinov:"KvÔu"cevwcnn{"xgt{"ukoknct0"Qpnkpg"dcemwr." or cloud-based storage, is a relatively simple in concept. Data goes htqo"qpg"fgxkeg"vq"cpqvjgt"fgxkeg."qt"c"enqwf."cpf"kvÔu"uvqtgf"vjgtg" securely to ensure that if your computer, your USB drive or portable hard drive gets lost or your localized data becomes corrupted or kpceeguukdng."{qwÔxg"iqv"vjg"cdknkv{"vq"tguvqtg"kv0"Vjg"hwpfcogpvcnu" qh"qwt"qpnkpg"dcemwr"dwukpguu"cpf"vjg"vgejpqnqi{"ygÔtg"wukpi"ctg" relatively the same. Our differentiating factor is that on top of all our software, we provide a services component, LiveTech. So that when you buy online backup, in many instances, consumers and uocnn"dwukpguugu"fqpÔv"cevwcnn{"ugv"kv"wr"eqttgevn{0"Uq"{qw"oc{"jcxg" a subscription to online backup, but you may not be using it

C O R P O R AT I O N

eqttgevn{" qt" pqv" dcemkpi" wr" vjg" tkijv" hkngu0" Kh" {qw" fqpÔv" wug" {qwt" software correctly, the value of it diminishes over time.

”Our number one priority is to improve our customer experience. Our goal is to make sure our customers are 100% happy with our services, get access to our techs quickly, have a good experience with our techs once connected, and are satisfied with our products and services.”

So what we decided to do is add a premium to this online backup by having our techs actually set it up for you and make sure kvÔu" yqtmkpi" eqttgevn{" cpf" hqt" vjcv." yg" ctg" ejctikpi" unkijvn{" oqtg" than what our competition like Mozy or Carbonite does. So if you look at their retail prices, and I think they are somewhere in range of $5 to $6 a month; ours are at $9.99 and up on a monthly basis.

We are very confident that our target customer, who likes to have everything taken care of, is going to be very receptive to the idea of paying a premium over the “do-it-yourself” solutions.

TWST: What are your priorities for the next 12 to 24 months?

Mr. Guseinov: Our number one priority is to improve our customer experience. Our goal is to make sure our customers are 100% happy with our services, get access to our techs quickly, have a good experience with our techs once connected, and are satisfied with our products and services. So we continue to invest heavily in the training of our staff, putting new systems in place to track customer satisfaction and quality control, implementing new policies and infrastructure to streamline operations, all of which are aimed at improving the customer experience.

The second priority for the company is to do all of this profitably. So from a financial perspective, we are looking to continue delivering top-line growth and doing so in a responsible, profitable way. Third is to develop new products and services that eqorngogpv"vjg"octmgvu"vjcv"ygÔtg"kp0"Qwt"uvtcvgi{"ku"vq"hqewu"qp" a few core competencies, which means a dedicated portfolio of products that work, rather than a huge portfolio of OK software.

YgÔnn" cnuq" nqqm" vq" igv" kpvq" vjg" UOD" urceg" cpf" uvctv" ugnnkpi" qwt" products directly to small businesses, pretty much through the same channels that we reach our consumers. We have a great partnership with Guthy-Renker, who is also an investor in the eqorcp{0"Nqpigt"vgto."ygÔnn"nqqm"vq"gzrcpf"qwt"ghhqtvu"vq"cfftguu" international market opportunities.

TWST: The company recently announced the appointment of Deepa Miglani as VP of Customer Retention.

Mr. Miglani is a former executive of eHarmony. What does he bring to the position that was not there before?

Mr. Guseinov: Deepa is heavily focused on building programs to create opportunities for the company to sell our products, LiveTech services in particular, on a proactive subscription basis, rather than as a reactive break-fix solution. Consumers still look at this category as a whole as a kind of reactive break-fix

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solution, where if they have an immediate problem, they use the ugtxkeg"cpf"kh"vjg{"fqpÔv"jcxg"c"rtqdngo."vjg{"ukorn{"kipqtg"kv"cpf" fqpÔv" tgurqpf" vq" kv0" Uq" yjcv" yg" ctg" vt{kpi" vq" fq" ku" gfwecvg" consumers to think of us as a proactive solution, the same way they would think about an alarm in their home or an insurance policy. So vjcvÔu"xgt{"ejcnngpikpi."dgecwug"{qw"jcxg"vq"uqogyjcv"ejcpig"vjg" behavior and mindset of your customer. We believe that we have the tkijv"u{uvgou"cpf"rtqitcou"kp"rnceg."ykvj"FggrcÔu"jgnr."vq"dg"cdng" to change behavior and at the same time, increase revenue for the company by allowing our customers to renew these services in a way where it makes sense to them and to create a platform for a better life-cycle management of our customers.

TWST: Introduce us to your top-level management team, two or three of the key individuals. And provide us with your assessment of the company, its bench strengths and skill sets.

Mr. Guseinov: We have a terrific leadership team. Our management team is comprised of people from diverse backgrounds, including Internet security, call center management cpf" fktgev" tgurqpug" octmgvkpi0" Uq" ygÔtg" rtqdcdn{" vjg" qpn{" company in this category that has this diverse set of skills. In terms of call center experience, we have Jeff Gove, who joined the company about a year ago, and he was formerly an executive at Nautilus or Bowflex, which is a direct marketer of consumer gzgtekug"gswkrogpv0"Cpf"ygÔxg"cnuq"tgegpvn{"cffgf"Uctcj"Jkemu." who was the Senior VP or actually a VP at Symantec and managed their billion-dollar consumer product portfolio. She recently joined the company. Then we brought on Neil Evans, who was formerly SVP at Beachbody or Product Partners, where they were pretty substantial player in the direct to consumer health and fitness category, and he was responsible for their operations.

We also have Sam Shimanovsky, who heads up our sales organization and has been instrumental in building our LiveTech business from literally zero to approaching $60 million, $70 million a year in a relatively short amount of time.

Yg" tgegpvn{" cffgf" Jqyctf" Dckp" vq" qwt" dqctf." yjq" ycu" vjg" former CFO of Symantec. We added two other Directors — Tom Connerty, who was the former CMO at NutriSystem and VP of Direct Marketing at Nautilus, and Tom Patterson, who heads up the security business at Dell. These are all highly experienced individuals who have held C-level or SVP-level positions at other companies, and we are very confident that with this board and management team, we will continue our growth and will show better results quarter-over-quarter.

KÔxg" nqqmgf" cv" c" nqv" qh" vjg" eqorcpkgu" vjcv" yg" eqorgvg" against and they are heavily weighted towards technology or security, but there is not a lot of expertise in the direct marketing ecvgiqt{" qt" vjg" ecnn" egpvgt" ecvgiqt{0" YgÔtg" xgt{" dwnnkuj" qp" vjg" hybrid model, which includes service-as-a-software versus software only or services only, and believe that that unique hybrid of individuals is going to make us very successful in the near future.

TWST: How strongly positioned are you financially?

Do you have the balance sheet strength to accomplish your goals?

Mr. Guseinov: YgÔtg"tgncvkxgn{"ngcp"tkijv"pqy0"Wvknk|kpi" qwt" nkpgu" qh" etgfkv." ygÔtg" cdng" vq" hkpcpeg" qwt" ewttgpv" itqyvj" cpf" cfxgtvkukpi0"YgÔtg"itqykpi"cv"vjg"rceg"vjcv"ygÔtg"eqohqtvcdng"ykvj." with the balance sheet that can support the growth and not looking

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to do anything outside of that, that will make it challenging for the company to absorb.

“We sell through direct response television and radio, and there is hardly any competition; in fact none right now in that category. We also have the strength of our partner Guthy-Renker to leverage effective media buying capabilities, and we have a sales organization that is capable of growing, capable of sustaining this continued growth.”

TWST: What are potential hurdles you could face over the next year or so?

Mr. Guseinov: I think there is always the possibility that the competitive landscape can change. Many companies in this ecvgiqt{." yjgvjgt" kvÔu" uqhvyctg" eqorcpkgu" qt" ugtxkegu" eqorcpkgu." they can take on a larger market share and invest more into this category. I think that CyberDefender has a relatively unique position in this market though. What sets us apart is the fact that we are the only marketer through television and radio that has any kind of size or leverage. There is no competition for us there, although most of our peers compete in highly competitive category. In other words, if they sell primarily on the Internet, there is lots of competition online; if they sell through retailers, there is lots of competition in retail.

We sell through direct response television and radio, and there is hardly any competition; in fact none right now in that category. We also have the strength of our partner Guthy-Renker to leverage effective media buying capabilities, and we have a sales organization that is capable of growing, capable of sustaining this continued growth. So for our competitors to come in and to fwrnkecvg"vjku."K"vjkpm"kvÔu"tgncvkxgn{"eqorngz0"KvÔu"pqv"lwuv"c"ecrkvcn/ intensive business, but it requires the know-how of running a technology company with a call center through direct marketing channels. All of those pieces have to be worked in symphony, otherwise it will simply not work. We are very bullish on the prospect of CyberDefender to continue to be leader in this space, and I doubt that there are competitors out there that can duplicate what we do at scale in the near term.

TWST: How is CYDE received by the investment community. Is the story understood?

Mr. Guseinov: As a relatively new public company, we jcxg"c"vgttkhke"qrrqtvwpkv{"vq"vgnn"vjg"Uvtggv"c"pgy"uvqt{0"Yg"jcxgpÔv" ciitguukxgn{" octmgvgf" vjg" uvqem." uq" vjgtgÔu" cp" qrrqtvwpkv{" vq" igv" kpuvkvwvkqpu" kpxqnxgf" vjcv" oc{dg" fqpÔv" mpqy" yjq" yg" ctg" {gv0" Yg" generated over $60 million in sales last year, and our stock is trading below that. In 2011 we expect to generate gross sales of over $100 million, revenues before returns and deferred revenue, and be cash flow positive for the year. We have a large retail base right now, but believe we are ready to start communicating and meeting institutions now that we a clear path to profitability and a great xcnwg"rtqrqukvkqp"vq"ujctg0"YgÔtg"kp"vjg"tkijv"rnceg"cv"vjg"tkijv"vkog" with the right people and strategy to succeed. This is a new category

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C Y B E R D E F E N D E R

where there is going to be a lot of growth, and CyberDefender is rqukvkqpgf"vq"dg"qpg"qh"vjg"nctigt"rnc{gtu0"YgÔxg"cntgcf{"uwtrcuugf" many of our competitors in terms of company size and revenues, and I think the market is yet to recognize that.

TWST: What key metrics should investors monitor in order to effectively gauge your progress?

Mr. Guseinov: I think investors need to look at couple of things. One is that they need to look at mix of products, and see that services are going to continue to be a big percentage of our total revenue and the biggest driver of growth for CyberDefender.

I think investors should also look at our online backup, as it becomes a vital component of our overall product offering. We ctg." nkmg" K" uckf" gctnkgt" kp" vjg" kpvgtxkgy." ygÔtg" nqqmkpi" vq" dwknf" c" perception with the consumer that this is a proactive solution that needs to be maintained at all times, therefore creating a higher renewal rate for our LiveTech products. Again, this is not something that is common in the industry. Most consumers and businesses treat this as a break fix, but we think we have an opportunity to create awareness to get the consumer to think differently about these products and more as an insurance policy than anything else. Positive cash flow and deferred revenue are also core signs of our business. As we recognize revenue on a subscription-based model, deferred revenue and receipts or sales ku" c" yc{" vq" icwig" yjgtg" vjg" eqorcp{" ku" iqkpi." cpf" ygÔxg" consistently delivered. We have achieved 11 consecutive quarters of growth in terms of revenue and gross sales. So I would encourage people to pay close attention to those two numbers.

TWST: Is there anything you would like to add?

C O R P O R AT I O N

Mr. Guseinov:" YgÔtg" qrgtcvkpi" kp" c" wpkswg" ecvgiqt{" yjgtg"yg"fqpÔv"hkv"cu"c"rwtg"vgejpqnqi{"rnc{."cpf"ygÔtg"pqv"c"rwtg" services play. I think the market has yet to define what we are, and yg"jqrg"vjcv"jcrrgp"uqqp0"Cu"ygnn"cu"twppkpi"vjg"dwukpguu."ygÔtg" focused on getting more eyes on the company. At our valuation and with our growth expectations, we have a great value proposition for institutional investors who can get behind the story. At the end of vjg"fc{."vjgtg"ku"jwig"fgocpf"hqt"yjcv"ygÔtg"ugnnkpi0"Eqpuwogtu"ctg" dw{kpi"qwt"rtqfwevu"cpf"ugtxkegu"dgecwug"vjg{"yqtm0"YgÔtg"igvvkpi" better at communicating our strategy, increasing our traction in the octmgv."cpf"ygÔtg"fgoqpuvtcvkpi"kortguukxg"itqyvj0"YgÔtg"qp"vtcem" to meet our near- and long-term goals and expect that the best is yet to come. With that in mind we think CyberDefender is a great opportunity from an investment perspective and for consumers nqqmkpi"vq"qrvkok|g"vjgkt"RE"ugewtkv{"cpf"mpqy"vjg{"fqpÔv"jcxg"vq" fq"kv"cnqpg0"Qwt"iqcn"ku"vq"eqpvkpwg"vq"dwknf"c"eqorcp{"vjcvÔu"xkcdng." profitable, delivers good products to consumers and businesses while simultaneously building value for our shareholders.

TWST: Thank you. (KL) GARY GUSEINOV Chairman & CEO CyberDefender Corporation 617 West 7th Street Los Angeles, CA 90017 (213) 689-8631 (213) 689-8639 — FAX www.cyberdefendercorp.com

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MERLE A. HINRICHS is the Chairman and CEO of Global Sources, Asia’s leading B2B media company focused on global trade. He co-founded the company in 1970 with the firm conviction that free and mutually beneficial trade between the East and the West would help drive global economic prosperity — and ultimately world peace. Mr. Hinrichs earned a B.A. in business administration and mathematics from the University of Nebraska and a master’s degree in international trade from the Thunderbird School of Global Management. In 1996 the University of Nebraska awarded Mr. Hinrichs an honorary doctorate degree, and in 2010 the Thunderbird School of Global Management conferred upon Mr. Hinrichs the honorary degree of Doctor of International Law, in recognition of his global mindset and his role as a true global entrepreneur.

SECTOR — INTERNET *CVY822+"VYUV<"NgvÔu"dgikp"ykvj"c"dtkgh"fguetkrvkqp"qh"Inqdcn" Uqwtegu0"Rngcug"vgnn"wu"yjcv"{qw"ugg"cu"{qwt"dwukpguu"cpf"yjcv" vjg"gpvgtrtkug"ku"vqfc{0 Ot0"Jkptkeju< Global Sources is a leading business-tobusiness media company and a primary facilitator of trade with Greater China. The core business uses English-language media to facilitate trade from Greater China to the world. The other business segment utilizes Chinese-language media to enable companies to sell to and within Greater China. Basically we cover and focus on the Greater China market.

Our company provides sourcing information to volume buyers and integrated marketing services to suppliers. It helps a community of over one million active buyers source more profitably from complex overseas supply markets. With the goal of providing the most effective ways possible to advertise, market and sell, Global Sources enables suppliers to sell to hard-to-reach buyers in over 240 countries. The company offers the most extensive range of media and export marketing services in the industries it serves. It delivers information on over 5.5 million products and more than 262,000 suppliers annually through 14 online marketplaces, 13 monthly print and 18 digital magazines, over 80 sourcing research reports and 73 specialized trade shows a year across nine cities.

VYUV<"Yjq" ctg" vjg" cevwcn" rc{kpi" ewuvqogtuA" Jqy" ku" vjcv"ewuvqogt"rtqhkng"ejcpikpi"qt"gxqnxkpi"htqo"{qwt"rgturgevkxgA Ot0"Jkptkeju< Our primary target market is the professional market comprised of both medium- and large-sized buyers and suppliers. We help the professional exporters with lead generation, sales generation and branding. The 80-20 rule generally applies to importing, whereby 80% of the trade is accounted for by 42'"qh"vjg"dw{gtu."cpf"KÔo"tghgttkpi"vq"vjg"xgt{"nctig"korqtvgtu" like Wal-Mart and Dollar Stores, for example. 2011 is likely to be notable for the growth in the number of ways that buyers access sourcing content. Buyers using tablets to access our online and

magazine content is a significant development, but changes in the trade show business are even more exciting and relevant to us. We believe that the trade show business model is set to enter a new era of growth based on the Internet acting as an enabling and complementary technology that can significantly increase the value of the face-to-face events that we run. These are some of the changes which are taking place in the market.

VYUV<"Yjcv"ctg"vjg"mg{"vtgpfu"cpf"kuuwgu"korcevkpi" vjku"kpfwuvt{"vqfc{A"Yjcv"korcev"yknn"vjg{"jcxg"qp"{qwt"eqorcp{"qxgt"vjg"pgzv"{gct"qt"vyqA Ot0" Jkptkeju< Recent developments have highlighted vjg" octmgvÔu" cyctgpguu" qh" vjg" korqtvcpeg" qh" swcnkv{" uqwtekpi" content and trusted content providers. Fraudulent practices by suppliers — and apparently by some of the marketplace sales staff who serve them — heightened the importance and the value of us having adequate systems and processes and internal controls in place. There are inherent risks in international trade and Global Sources has always worked diligently to minimize those tkumu"hqt"qwt"ewuvqogtu0"KvÔu"cnyc{u"dggp"qwt"qdlgevkxg"vq"rtqxkfg" buyers with comprehensive, accurate and verified information about our suppliers and their products. For example, we pioneered the concept of “verified suppliers” in our industry in 2007, and we believe we offer the market the most secure content and the most trusted environment. We continue to lead the marmgv"kp"vjku"tgictf."cpf"kvÔu"nkmgn{"vq"dg"gxgp"oqtg"korqtvcpv"kp"vjg" coming year. I think that we cannot overemphasize this point as an area of our service development.

VYUV<"Ctg"{qw"guugpvkcnn{"c"vgejpqnqi{"fgxgnqrogpv" cpf"ewuvqogt"ugtxkeg"qticpk|cvkqpA Ot0"Jkptkeju< We provide an integrated suite of media to connect global buyers and suppliers by providing the right information and at the right time in the right format. When you say customer service organization, we use the appropriate technology to match what a buyer wishes to achieve and the technology that a buyer wishes to use. This sounds relatively simple, but

Copyrighted material: For reproduction permission contact Kenneth Wolfrath (212) 952-7400

Global Sources Ltd. (GSOL)

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kvÔu"pqv."dgecwug"gxgt{"ukping"dw{gt"jcu"fkhhgtgpv"rtghgtgpegu"cpf" fkhhgtgpv"wucig"rcvvgtpu."cpf"uq"vjku"ku"yjcv"yg"hqewu"qp0"KvÔu"pqv" just about the media. It is how to mix and match that media that makes the difference.

“We are finding an increasing number of our Chinese suppliers that are actively engaged with our trade shows and are looking at new and developing markets — new developing markets being in Africa, Latin America — to extend their franchise, to extend their product sales and to learn from buyers what is required in both product and product quality to meet those particular needs.”

VYUV<"YjcvÔu"qp"vjg"cigpfc"hqt"Inqdcn"Uqwtegu"qxgt" vjg"pgzv"34"oqpvjuA"Yjcv"yqwnf"ocmg"vjcv"vkog"htcog"c"uweeguuA Ot0" Jkptkeju< First of all, it is continuing to do even the job that we already do better. But we are also involved in the acquisitions and strategic alliances that are certainly a very important part of our growth strategy. Last year our joint venture subsidiary, eMedia Asia Limited, acquired the China International Qrvqgngevtqpke" Gzrq." yjkej" ku" EjkpcÔu" nctiguv" qrvqgngevtqpkeu" show. Also in early March we established a cooperative joint venture with C&D Tourism and Hotels Inc. — a subsidiary of the Zkcogp"E(F"Eqtrqtcvkqp"Nvf0."qpg"qh"EjkpcÔu"vqr"722"eqtrqtctions — and together we plan to launch a sports and leisure show this coming November in Xiamen, China, with a sales target for as many as 1,000 booths.

YgÔnn"eqpvkpwg"vq"nqqm"hqt"uvtcvgike"qrrqtvwpkvkgu"iqkpi" forward. I think that it is important to always recognize that it is the customer that drives what we should be doing. And in our markets today the customer is not only looking for more accutce{." dwv" vjg{Ôtg" nqqmkpi" hqt" uwkvcdng" rtqfwevu" vjcv" ctg" rtkegf" crrtqrtkcvgn{" kp" vjgkt" octmgvu." cpf" vjcvÔu" tgcnn{" c" xgt{" f{pcoke" set of circumstances and situations to deal in.

VYUV<" Vjg" rcuv" vyq" {gctu" vjg" inqdcn" geqpqo{" jcu" dggp"uqogyjcv"unqy0"YjcvÔu"dggp"vjg"korcev"qp"{qwt"enkgpvu"qp" vjg"dw{"ukfg"cpf"jqy"ygnn"jcxg"vjg{"hctgf"kp"vjku"gpxktqpogpvA" YjcvÔu"dggp"vjg"tkrrng"ghhgev"qp"Inqdcn"UqwteguA Ot0"Jkptkeju< Interestingly enough the changes and the oqtg"vjcv"vjkpiu"fq"ejcpig"ku"kp"qwt"cfxcpvcig"kp"vjcv"vjgtgÔu"c" need for new solutions. The reason for that is through 2008, 2009 and 2010 there has been a wholesale change in what merchandisers are looking for, what price points they are looking for and what size orders they are prepared to commit to. An example in the developing markets, and specifically in the United States, most merchandisers had substantial inventory in 2007. They needed and felt comfort in the levels of inventory to ensure that their shelves were full and that they had no doubt about the buyer.

Through the last few years the buyers have become far more cost conscious, and they are far more utilitarian in their product selection. They will not buy in the same volume that they once bought, and so merchandisers have to respond to those kinds of patterns.

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When a merchandiser from a large retail importer like Wal-Mart or Sears, or a wholesale importer makes that change, which is definitely essential they make those changes, all of that goes back to the supplier. Therefore the suppliers need to adjust their systems, their manufacturing, their processes and their marketing to be able to reflect that they can achieve what this new cpf" ejcpikpi" inqdcn" ogtejcpfkug" octmgvu" tgrtgugpv0" Uq" kvÔu" c" rtgvv{"gzekvkpi"vjkpi0"Pggfnguu"vq"uc{"kvÔu"c"dkv"fcwpvkpi"kp"uqog" ecugu." dgecwug" ykvj" vjg" ejcpig" yg" fqpÔv" cnyc{u" igv" kv" tkijv0" Ogtejcpfkugtu"fqpÔv"cnyc{u"igv"kv"tkijv."dwv"yjcv"yg"ctg"jgtg"hqt" is to help those merchandisers land on their feet.

VYUV<" Nqqmkpi" hqtyctf" cv" vjg" wvknk|cvkqp" qh" {qwt" ewuvqogt" dcug." yjcv" rtqfwevu" qt" ugtxkeg" nkpgu" ctg" cpeknnct{" {gv"pgeguuct{"cu"hct"cu"dtkpikpi"ewuvqogtu"kp."itqykpi"vjgo" qt"nqqmkpi"vjtqwij"cnnkcpegu"qt"ceswckpvcpegu"vq"gzvgpf"{qwt" ewttgpv"qrgtcvkqpuA Ot0"Jkptkeju< A very good question. We are finding an increasing number of our Chinese suppliers that are actively engaged with our trade shows and are looking at new and developing markets — new developing markets being in Africa, Latin America — to extend their franchise, to extend their product sales and to learn from buyers what is required in both product and product quality to meet those particular needs. That landscape is changing. So we are doing that now in mirroring all of our physical trade shows with online trade shows, which will make their products available for a longer period of time both before and after the shows. This helps them keep their products in front of the buyers, but also encourages the buyers — those buyers that need to see those products, and they at some point need to see the products as to which shows that they are attending, which suppliers will be at those shows and a reminder that these suppliers are available for their merchandising needs. So that is the focus, but we are realigning a lot of our print activity to match these changes. With print there is always a need for their usage for those buyers that are not purchasing products at trade shows or from online or they are not comfortable with that, so we provide also the print support. And we do that in directories and magazines and also all sorts of marketing brochures.

VYUV<"Vcmkpi"kpvq"ceeqwpv"cnn"vjgug"ejcpigu."{qwt"ocpcigogpv" vgco" cpf" {qwt" kpvgtpcn" qrgtcvkqpu" Ð" ctg" vjgtg" cp{" rncppgf"ejcpigu"qt"urgekhke"ctgcu"qh"hqewu"hqt"vjg"pgzv"{gct"qt"vyqA Ot0" Jkptkeju<" Egtvckpn{." cu" KÔxg" lwuv" kpfkecvgf." cnn" qh" the trade shows we will be expanding both in terms of product extension, market extension, online services and then we will also be upgrading our Web sites to match some changes in the market, extending those product ranges as well. But we are very focused upon consumer products, and we are very focused upon vjg" gngevtqpkeu" kpfwuvt{" kp" rctvkewnct0" Cu" {qw" mpqy." EjkpcÔu" manufacturing probably represents 80%-85% of all consumer electronics which are manufactured in the world today, and so that is really a core part of our business.

VYUV<"Ctg" vjgtg" cp{" rncppgf" ejcpigu." cflwuvogpvu" qt"urgekhke"ctgcu"qh"hqewu"kp"{qwt"ocpcigogpv"vgcoA Ot0"Jkptkeju< We are very focused upon ensuring succession planning throughout the organization, and twice a year each one of the senior management team members and middle

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management need to provide us some planning or some indication on how they are planning for succession. Mr. Peter Zapf was our Deputy COO and has now assumed the role of the COO position.

We have a Deputy CEO, Spenser Au, who will be assuming more of the CEO role over this particular year. We are constantly looking at how to enhance and improve the training of our middle management and all management levels and of our support teams throughout the organization. Currently we have 3,000 people in the organization, and a big percentage of those are in China, and we provide a very substantial infrastructure of training facilities.

“Margin dynamics are totally predicated on revenue and the growth in sales. As you can look at our P&L in 2008 and 2009, the company was quite able to shrink costs, reduce costs to reflect the diminution in revenue.”

VYUV<" Nqqmkpi" cv" {qwt" dqctf." yjcv" ctg" vjg" urgekcn" vcngpv"cuugvu"cpf"tguqwtegu"vjcv"vjg"ogodgtu"dtkpi"vq"vjg"eqorcp{A"Qxgt"vjg"pgzv"{gct"qt"vyq."ctg"{qw"nqqmkpi"vq"ocmg"cp{" ejcpigu"qt"cffkvkqpu"qt"tgfghkpg"vjgkt"hqewuA Ot0"Jkptkeju< On our board we have some of the most qualified individuals that any board could possibly wish for.

Roderick Chalmers is Senior on the audit committee. Roderick worked in Asia for some 30 years, is currently the Chairman and CEO of the Valletta bank in Malta and is very knowledgeable of the SEC regulations, and has been truly of incredible value to Global Sources in making sure that things are monitored from an accounting governance point of view.

We have James Watkins here in Hong Kong who is an Attorney and provides a lot of local knowledge on the legal aspects of our operations and on corporate governance. We have also Sarah Benecke. Sarah was a past CEO of Global Sources and knows the organization extremely well. Eddie Heng, who was our previous CFO, and he too is very engaged with the company and provides excellent leadership. David Jones from Australia is also a Board Member, and he is in merchant banking and provides us the financial vision of the company. Robert Lees, who worked with the Pacific Basin Economic Council, PBEC, in Asia is very well connected in Asia and has served the board very well.

VYUV<" Yjcv" ujqwnf" c" nqpi/vgto" kpxguvqt" hqewu" qp" yjgp" nqqmkpi" cv" {qwt" hkpcpekcn" uvcvgogpvu." cpf" swctvgtn{" cpf" cppwcn"tgrqtvuA"Yjcv"mg{"rkgegu"qh"kphqtocvkqp"yqwnf"ikxg"uwej" cp"kpxguvqt"kpukijv"kpvq"yjcv"Inqdcn"Uqwtegu"ku"fqkpi."jqy"kv"ku" ejcpikpi"cpf"yjgtg"kv"ku"iqkpiA Ot0"Jkptkeju<"First of all, the balance sheet. We carry no debt on our balance sheet, a very strong asset base and a great deal of flexibility covering all of our operating costs. As we announced at our last Web cast that we have a very large understated real estate value that is not reflected on that balance, so the balance sheet as a whole is, I think, an exceptionally strong balance

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sheet. For the P&L, I think that if you look at it over a historical period, you will see that it is a very carefully managed company, vjcv"yg"fq"pqv"jcxg"jwig"uykpiu"kp"qwt"equvu."vjcv"ygÔtg"enqugn{" budgeted. The deferred income that we carry on the balance sheet is some indication as to sales growth. It is cyclical because of the trade shows, but it is very indicative. So investors may wish to look at that and look at it not only at the current balance sheet, but look at it from a historical point of view and put it into some type of context. But I think that what is unique about our P&L and our balance sheet is both the consistency and the transparency and the visibility that we provide our investors.

VYUV<"Yjcv"ujqwnf"kpxguvqtu"wpfgtuvcpf"cdqwv"{qwt" octikp"f{pcokeuA"Yjcv"ctg"vjg"mg{uA Ot0" Jkptkeju<" Margin dynamics are totally predicated on revenue and the growth in sales. As you can look at our P&L in 2008 and 2009, the company was quite able to shrink costs, reduce costs to reflect the diminution in revenue. On the upside you will see an improvement in the return as the revenues are reinstated. I think that as a service industry you gain a lot by an increase in revenue. Needless to say, if you can sustain or minimize your cost increase, and this drops — then you have an improved bottom line. Overall I think this business is very dependent wrqp" vjg" inqdcn" vtcfg0" KvÔu" fgrgpfgpv" wrqp" ogtejcpfkukpi." kvÔu" dependent upon retailing worldwide, and we are in an upswing.

China is certainly the largest provider of those type of products in vjg"eqpuwogt"kpfwuvt{0"Uq"K"vjkpm"vjcv"ygÔtg"kp"cp"gzegnngpv"ukvwation and that investors can feel quite confident that Global Sources is a mature, growing and very well-positioned company with which they can have substantial confidence in its future and in the margins that we have provided historically.

VYUV<" Jqy" eqwnf" vjg" kpxguvogpv" eqoowpkv{" kortqxg" kvu" rgtegrvkqp" qt" kvu" wpfgtuvcpfkpi" qh" {qwt" eqorcp{A" Ctg" vjgtg" ctgcu" vjcv" ctg" okuwpfgtuvqqf" qt" okurgtegkxgf" cdqwv"{qwt"eqorcp{A Ot0" Jkptkeju< I think that it is critical that investors, when they are looking at our particular industry, understand that it is a service industry and understand how important that integrity and honesty and accuracy and validity is. It is like in any media business. It is the content that you provide to your user, the important of that accuracy, the importance of keeping it green, the importance of being proactive is really quite critical.

Now there are competitors which do not have that demonstrated ability. With Global Sources you can look over 40 years, and that is what we have successfully done year after year, and we will continue to do that. I think this is sometimes obscure or it is not something that is taken into full consideration by investors, and companies like ours possibly can get by without providing that for a few months or a few years, but eventually it will catch up with them. So I think the hidden benefit of a company like ours is the continuity of that service.

Certainly our buyers, and we service three types of buyers — wholesale importers, retail importers and manufacture importers. They have come to rely upon our services; they have come to rely upon what we can provide and the consistency of that. So I think investors, if they understand that this is not a business that simply is going to rocket up or rocket down, but it is

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going to continue to grow with the growing international trade, the global trade, global merchandising — that is really a basic component of the value of investing in Global Sources, and as much as anything it is the consistency of solid management.

VYUV<"[qwÔtg"vjg"Ejcktocp."EGQ"cpf"c"ogodgt"qh" vjg" gzgewvkxg" eqookvvgg0" Yjcv" ctg" {qwt" dcuke" dwukpguu" rtkpekrnguA"Yjcv"ctg"vjg"wpfgtn{kpi"vgpgvu"vjcv"{qw"jcxg"wugf"cpf"vjcv" {qw"tgn{"wrqp"qp"c"fc{/vq/fc{"cpf"qp"c"nqpi/vgto"dcuku"vq"ugv"vjg" iqcnu."uvcpfctfu"cpf"vjg"eqwtug"qh"eqpfwev"hqt"{qwt"dwukpguuA Ot0"Jkptkeju< This is best summed up with a few simple words: transparency, accuracy, consistency and good governance.

This is what we aspire to, and we aspire in doing this on a quarterly or on a continued basis.

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Cpf"kv"ku"cp"guugpvkcn"rctv"qh"gxgt{"EGQÔu"tqng"vq"mggr"vjqug"dcnanced. If we do not adequately focus on our customers we are iqkpi" vq" nqug" vjgkt" vtwuv." cpf" ygÔtg" iqkpi" vq" nqug" vjgkt" eqookvogpv0"Kh"yg"fqpÔv"tgyctf"qwt"gornq{ggu"kp"cp"cfgswcvg"yc{."dqvj" from the terms of financial return and from opportunities of growing their careers, we will be less successful with our employees. If we do not provide a continued return, if we do not provide a robust development for our investors, that they will too lose confidence in our company. So the CEO is conflicted only to vjg"gzvgpv"vjcv"jg"ku"wpcdng"qt"fqgupÔv"jcxg"vjg"qrrqtvwpkv{"qt"vjg" environment with which he can keep a balance between these three elements within a company.

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are, as I said before, certainly at the right place for the business that we provide or the service that we provide — that we have an excellent team, the product is good, the management is mature, the management is experienced, the management is very capable.

So unless there is some form of cataclysmic event with which every firm would be affected by, I really do not see red flags. I only see opportunities for the company to grow and to continue to serve its customers.

VYUV<"YjcvÔu" vjg" guugpvkcn" oguucig" {qw" yqwnf" ikxg" vq" nqpi/vgto" kpxguvqtuA" Yjcv" ctg" vjg" hqwt" qt" hkxg" uvtgpivju." cfxcpvcigu" qt" jkijnkijvu" vjcv" fkuvkpiwkuj" Inqdcn" Uqwtegu" qxgt" vjg"pgzv"vyq"vq"vjtgg"{gctu"cu"cp"kpxguvogpv"vqfc{A Ot0"Jkptkeju<"First of all we are in an industry that has excellent growth opportunities. We provide a variety of solutions vq"vjg"ejcnngpigu"hcegf"d{"qwt"eqoowpkv{0"YgÔtg"pqv"nqemgf"kpvq" any one particular media, so that it gives our company a great deal of flexibility in how we serve our customers. The third is that we have been doing this for some time. We are very experienced. The market is growing. We have demonstrated our ability to grow with the market. We have demonstrated our consistency of providing return on the investments for our investors, and we have proven through several investor relations and corporate governance awards that probably we meet the highest of governance standards of any company certainly in our industry. I think kv"ku"c"xgt{"uqnkf"kpxguvogpv0"KvÔu"c"xgt{"yqtvjyjkng"kpxguvogpv" in any portfolio that is focused upon China, that is focused upon global trade and that is focused upon investing in companies that are solid, that they are focused and that they can deliver results.

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GREGORY SWAYNE is CEO of HSW International, Inc. Mr. Swayne was previously HSW International’s President and COO. Prior to joining HSW International in 2006 Mr. Swayne led HowStuffWorks, Inc., as President and COO and was a member of the management teams of The Convex Group and N2 Broadband. Prior to Convex, Mr. Swayne co-founded and was President of publicly listed A.D.A.M., Inc., and its predecessor Medical Legal Illustrations, Inc. A.D.A.M. provided health information services and benefit management solutions to health care organizations, employers, benefit brokers, consumers and the educational market through its online offerings of health information, decision support applications, benefits management solutions and enrollment services. Mr. Swayne earned a B.A. from the University of South Carolina and a master’s degree in medical illustration from the Medical College of Georgia.

SECTOR — INTERNET (ATW608) TWST: Let’s begin with a background summary of HSW International.

Mr. Swayne: The company was founded in 2006 and initially it was formed as a subsidiary of a U.S.-based company called HowStuffWorks, which is now a unit of Discovery Communications. HSW International was spun out to pursue the same basic business model for HowStuffWorks in the BRIC countries. HSWI began trading on Nasdaq in 2007. In 2008 we launched localized versions of HowStuffWorks for the Brazil and China markets. In 2009 we were offered an opportunity to participate in the development of a brand new platform, which we refer to as the 3.0 platform, in conjunction with the launch of a new TV show that Discovery was spinning out with Dr. Oz and Harpo Productions. We developed in partnership with Discovery, Harpo, Sony and Dr. Oz the Web 3.0 platform, which is called Sharecare and which was launched in September 2010.

TWST: What are the key trends and issues Internet information providers face today? What impact will these issues have on your business over the next two to three years?

Mr. Swayne: I think the general theme is traditional Web publishing is changing dramatically, and that’s being driven primarily by the explosion of social media sites. A lot of the traditional publishing companies are struggling with what’s the right way for them to grab hold of the social media train. You can see that when you go to Facebook, where you see a lot of companies trying to carve out a presence within the Facebook ecosystem, which is a good indication that people recognize they are going to need to figure out how to harness social networks like Facebook.

Our strategy is to come to the market with a platform that was designed specifically to allow publishers that have very specific vertical content to create or participate in a vertically oriented, Facebook-like site. For example, personal finance is an area where people generally are not prone to sharing information with their friends, and yet they’re seeking answers to questions, they are

seeking experts, they are seeking lots and lots of the things that draw people to a social media site. So our goal and our strategy is to make that an easy thing for publishers to adopt.

TWST: Do you agree with the premise that the walled garden environment of Facebook reduces online publishers to “digital sharecroppers?”

Mr. Swayne: Our belief is that the Facebook platform is legitimate in terms of what it does to bring together people with like interests and make it easy for the average person to participate in the conversation, which is, Facebook has effectively trained an entire generation of people to quickly and easily set up a profile page and begin to participate in that ecosystem. What’s missing is adding the ingredients of vertically oriented content and vertically oriented experts that specifically answer questions and provide expertise around areas that consumers seek out.

TWST: What’s the purpose of the information HSW creates, generates and stores? Is it for marketing? Is it better planning tools for the end user?

Mr. Swayne: We started off as a publishing company to create the content for HowStuffWorks that was widely used and consumed. We now believe that there is a better model. Our platform provides a turnkey solution for experts to come in and create long-form articles, as well as answer specific questions around a particular vertical. We enable and allow experts to author content that consumers are seeking, providing them a platform that then allows for quality content to rise to the top and poorly authored content to fall to the bottom, ultimately resulting in the kind of content consumers want. So we’ve started in two verticals, health, and now we are moving into a personal finance vertical, which has many of the same characteristics of health — you have a large addressable audience that is seeking answers to questions from experts. This is the basic concept that drives utilization of the platform by the consumer. The tools allow the local expert who is trying to market to local clients to come into the ecosystem and answer questions and provide information,

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HSW International, Inc. (HSWI)

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leading the consumer to connect with the specific expert on a local basis. Think of it as Facebook with a purpose, and that purpose being specific to the particular vertical market.

“The primary focus of HSW is now the expansion of our next-generation Web 3.0 platform in the U.S. You can see how it works on the first platform we launched called Sharecare, which competes with WebMD. Sharecare is the next generation of what Web publishing will look like, a new type of publishing platform that provides benefits in a way that is more suitable to what consumers are looking for in health information.”

TWST: Regarding China and Brazil, how do you induce these end users to visit your sites? What are the key elements of your marketing strategy?

Mr. Swayne: China and Brazil are no longer HSW’s primary focus. The primary focus of HSW is now the expansion of our next-generation Web 3.0 platform in the U.S. You can see how it works on the first platform we launched called Sharecare, which competes with WebMD. Sharecare is the next generation of what Web publishing will look like, a new type of publishing platform that provides benefits in a way that is more suitable to what consumers are looking for in health information.

What we do is bring in significant volumes of experts through partnerships with companies, which in the case of the health market includes the Cleveland Clinic, Johns Hopkins and a whole host of other large health providing organizations. They participate as content providers and experts and are now generating most of the content within the site. Consumers are finding their way to the site by a combination of both the media partnership that we have with Discovery, Harpo and Dr. Oz, who markets the site to his audience.

In addition, all the content is architected such that it does well on organic search. So consumers that are looking up health information will see content from Sharecare rising to the top within organic searches and are finding their way into the site through that mechanism. That is the same strategy that we will be deploying for the personal finance vertical, which is now in the early stages of development and will include partnerships with media companies, as well as with the large financial companies that can provide a number of experts.

TWST: Would you provide insight into the revenue model for the Web platform services, as well as the advertising sponsorship aspects of the business?

Mr. Swayne: Our revenue model is a hybrid model, a combination of service revenues from licensing fees paid to HSW for the platform and the solution that we create for a customer.

The other revenue stream is where we partner and participate in a particular vertical like personal finance, and we would share in the revenue of the core business as it matures, including sponsorships and other fees.

TWST: Are you setting any specific financial targets that you can share with the investment community?

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Mr. Swayne: I think it’s a bit early to do that. The company is still in transition from its original business model, which was launching and publishing HowStuffWorks for Brazil and China into our next opportunity, which although significant is still in its early stages. I will say that right now the pipeline of new opportunities is developing on track for where we hoped it would be.

TWST: What’s the business sentiment like for Internet projects today and what do you anticipate will happen over the next six to 12 months?

Mr. Swayne: I think that companies have begun to realize that the next wave of publishing is here, and they have to start formulating a digital strategy. The challenge becomes, how do you position yourself so that you’re in front of the curve? The way to get in front of the curve is to create a presence around a Facebook-type of concept. Facebook is great for things like sharing music content or entertainment content or things that generally social people share, but less conducive to facilitating the sharing of specific information, such as health information, financial information and other areas that are extremely important. Those categories have huge revenue opportunities when you consider how much money is being spent in advertising to reach those two buckets. So I think those two particular verticals lend themselves well to what we’re doing and there’s a whole host of others as well that will use our platform to create a new kind of publishing platform for their digital strategy aimed at a very niche market.

TWST: How would you describe the current condition of online advertising and how do you see it being impacted by Web 3.0?

Mr. Swayne: I think that what you’re seeing now on social network advertising sites is the transition from a UGC environment, which advertisers have been very wary of because commentary on that page is not necessarily what the brand wants to associate with. What you’re beginning to see evolve now are tools that can determine whether or not the content on that page is safe for the brand, so as to allow that brand to begin to advertise on that page, so the efficacy of these systems I think will improve.

The opportunity for us is to evolve the advertising to be much more focused within verticals and our Q&A platform. I think a simple way of saying it is, HSW is combining the traditional broadcast model — which I refer to as a narrowcast model, because it’s very specific to a content vertical — with the same basic trend that you see evolving on social media sites that allows advertisers to listen in on the conversation and serve up advertising that’s based on someone’s stated likes or habits.

TWST: Let’s turn back to the Brazil and China efforts. What’s going on there and what are your thoughts on the Internet space in Brazil and China?

Mr. Swayne: They’re both very dynamic and very exciting markets that we’re established in. The challenge has been and continues to be one of the growth of the ad market. We’re very comfortable with what we’ve been able to achieve in terms of page views in China and Brazil, as we’re at about half the size of HowStuffWorks U.S. was in 2006 when we sold it to Discovery.

So I think we’re right on track in terms of page view growth. The markets themselves don’t monetize at the same effective CPMs that we saw in the U.S., and that’s primarily because they don’t

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have two important components. One is they don’t have a Googletype ad model that works the way it works in the U.S. They haven’t been able to get the level of participation from the advertisers competing against each other to drive the cost of the keywords up sufficiently to create the kind of effective CPMs that we saw in the U.S., that’s one issue.

“Our business model, because it’s based on niche content across multiple categories, really depends on getting higher CPMs that are reflective of a very specific demographic looking up very specific types of content.”

The second issue is that display advertising in China is still very much of a broadcast mentality, where they pay very low CPMs to reach significant numbers of people. So the challenge is your effective CPMs are not based on a targeted impression as much as a very broad impression. Our business model, because it’s based on niche content across multiple categories, really depends on getting higher CPMs that are reflective of a very specific demographic looking up very specific types of content. So we’re committed to the long-term opportunities in both Brazil and in China, but the monetization is catching up. This is one of the drivers that led us to focus on developing a brand new opportunity in the U.S. that would be substantial, while we wait for the China and Brazil markets to mature.

TWST: What are the company’s limitations right now? Is cash or capital an issue at this point?

Mr. Swayne: We’re fortunate to have customers that are paying us licensing fees, which are helping to meet our current needs; however, we also believe that this platform is in a unique position to be a first-mover platform, and so in order to exploit that opportunity we’ve got to be willing to go broad and aggressive in terms of getting it deployed. Our investors do seem to be very receptive to the changes we’ve made in the business and the direction we’re heading in.

TWST: Please give us a frank assessment of your top management. At this point, what are the skill sets you’re relying on, and what are your bench strengths? As you look ahead, what are the changes or additions you anticipate?

Mr. Swayne: The top management consists of me, my CTO Eric Orme, and our General Counsel and CFO. Right now we’re quickly assembling a business development team to aggressively attack the U.S. market opportunity. I’ve been a successful digital entrepreneur since the early 1990s. I founded a company called A.D.A.M. — that stands for Animated Dissection of Anatomy for Medicine. A.D.A.M. became the first real multimedia publisher that essentially allowed you to dissect the human body on the computer. The product was distributed in 72 countries and translated into 14 languages. I took the company public in 1995, where it traded on Nasdaq up until about a month ago, when the company

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was acquired by Ebix. I left in 1999 to work closely with Jeff Arnold on the development of WebMD. So I have significant experience in Web publishing and developing large scalable solutions that support fairly large Web sites — i.e. WebMD, HowStuffWorks.

My CTO comes from the Web services industry and has been very, very involved in development of the platform. The next generation of people coming into the company over the next couple of months will be people that will bring a lot of partnership development skill sets into the company. The need to bring that part of the business is clearly on my radar right now and that’s my number one priority.

TWST: As a CEO, where do you find yourself focusing most of your attention lately?

Mr. Swayne: My primary focus right now is developing the personal finance vertical business, which includes putting in place the management team and bringing together the right partners and sponsors, and building the expert network and raising the capital. I also do a lot of the education and what I call the “evangelical work,” which is basically what I’ve always done. If you look at my resume and my career, almost every position I’ve had I’ve always been on the very leading edge of change. So whether I’m speaking internally to employees, externally to potential partners, sponsors, investors or journalists, it all falls into the same bucket from my point of view, which is being out there leading the charge. I’ve got a great team behind me that can take it all the way.

TWST: Please give us a sense of your personal management philosophy. What principles do you implement when setting goals and strategies for the organization?

Mr. Swayne: My philosophy has always been to hire people who are smart and have complementary skill sets to mine. I make sure that they are clear on their area of responsibility and the reporting structure. Other than that I really try to incentivize and align my people with shareholder interests. I definitely reward innovation. I believe that in a new technology industry you have to be innovative. You have to look for that innovation internally, and you can’t get too stuck on what you think the end game might be because you’ve got to be able to be flexible.

So at this stage you’ll see a fairly flat organization, without too many layers of decision making. Also at an early stage company it’s important that you have people that are really bright, that can perform several functions, and are hardworking and aggressive. I want people that get up in the middle of the night like I do and start figuring out what they’re going to do the next day.

These are basic values that I look for. In my career I’ve been very fortunate to have some great people that have been part of my successes. Hopefully that will happen again, and I’m confident we’re well on our way to that.

TWST: How could the investment community improve its perception and understanding of HSW? As you speak with analysts, current shareholders and potential investors, what are the misperceptions you’ve had to deal with?

Mr. Swayne: I think the biggest misperception is probably that we’re a company that’s publishing Web sites in China and Brazil. Yes, those are key assets that we have, but we are now transitioning the company and focusing on the next-generation Web platform that’s going to take full advantage of the new trends in the

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U.S. market. We’re looking at this as a fresh start, a brand new story, and we will be reintroducing HSWI to the investment community. We’ve got very impressive partners in Sharecare and Discovery Communications that we’ve already established on the 3.0 platform, and that list of deals will make clear the kinds of brands that we’re interested in partnering with. We’re confident our platform will be successful in satisfying a significant need that’s been developing in the market with large brands that frankly are frustrated with their current digital strategy.

TWST: In what group are your peers?

Mr. Swayne: I would put us in a category with SaaS model providers that bolt on social media to an existing platform. I don’t think that there is a comp in the market yet that provides the complete turnkey solution that our platform does. The HSW platform is differentiated by the entire environment being surrounded by expert content providing the core user experience.

TWST: From an investor’s perspective, are there any issues or concerns with respect to your stock, liquidity, closely held shares or incentives that can be discussed?

Mr. Swayne: We’re aware of the liquidity issue clearly, but we believe that’s a function of having been fairly low profile while we retrofit the company around a new business opportunity and new business model. That will begin to change starting this year. We are making a conscious effort to get back out into the marketplace to tell our story, and that will begin to become more apparent in the quarters ahead. We’re hopeful that re-engaging with the investment community through a very proactive I.R. strategy will begin to bring improvements in that liquidity.

TWST: What is your summary statement, the essential message, for an investor that shortlists the highlights and strengths of your company?

Mr. Swayne: HSW is pioneering a very innovative Web

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publishing strategy and platform that represents the next-generation in Web publishing. Our customers, Discovery and Sharecare, are validating that platform by demonstrating significant page view growth. We do have a first-mover advantage in the market that we think is defensible and sustainable long term to the extent that we tie up other verticals quickly, which is essentially the thrust of our strategy. We have diversified revenue stream opportunities with significant margins that will result from providing our platform to multiple customers spread across multiple verticals.

In addition to the services revenues, we also have the opportunity to participate in back-end revenue opportunities that will result from partnering in several of these new verticals like personal finance. We also have strong assets in Brazil and China that we believe are undervalued, and that will ultimately create significant value. Lastly, we have a proven management team with a track record for building substantial companies and creating shareholder value.

TWST: Is there anything we haven’t touched on?

Would you like to add anything else?

Mr. Swayne: I think we’ve covered everything.

TWST: Thank you. (KL) GREGORY SWAYNE CEO HSW International, Inc. 3280 Peachtree Rd. NE Suite 600 Atlanta, GA 30305 (404) 926-0660 (800) 777-3674 — TOLL FREE www.hswinternational.com e-mail: businessdevelopment@hswint.com

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RAJU VEGESNA is the Chairman, CEO and Managing Director of Sify Technologies Limited, a publicly traded Internet and e-commerce services company based in India. After purchasing a major stake in Sify in 2005, Mr. Vegesna took up the executive duties in 2006 and has transformed Sify into the premier IT services company in India with a significantly expanded global reach. In recognition of his entrepreneurial achievements, Mr. Vegesna was honored at the India Splendor award event at UCLA in 2007. As an Executive and an Entrepreneur, Mr. Vegesna has leveraged his technology vision and leadership skills into a multidecade career in different technology industries. Most recently, Mr. Vegesna was the Founder and CEO of ServerEngines Corporation, an industry leader in network and storage convergence products that grew rapidly from its inception in 2003, with significant operations in California, Texas and India.

ServerEngines was acquired in August 2010 by Emulex, and Mr. Vegesna joined Emulex as Chief Strategist, responsible for the company’s strategic direction and proselytizing for the adoption of Emulex products to key customers and partners. In 1994, prior to his involvement with ServerEngines and Sify, he founded ServerWorks Corporation. As Chairman and CEO, he led ServerWorks to become the world leader in computer chipsets, commanding a 90% market share in the x86 server chipset market. In 2001 ServerWorks was acquired by Broadcom Corporation for $1.8 billion. Before founding ServerWorks Corporation, Mr. Vegesna co-founded and served as Chief Architect of Ross Technology, Inc., where he spearheaded the creation of the HyperSPARC processor, a CPU that was used by Sun Microsystems to create its first multiprocessor computer servers. Prior to joining Ross Technology, Mr. Vegesna worked as an Engineer for Motorola Inc., where he created the microcode for Motorola’s 68030 processor and the specification for the 68040 microprocessor. Mr. Vegesna engages in philanthropy, and through his personal initiatives in the U.S. and India — The Raju Vegesna Foundation and the Raju Vegesna Foundation (India) — have undertaken programs to address the availability of clean water and education for communities in need. Mr. Vegesna earned a master’s degree in computer engineering from Wayne State University and a bachelor’s degree in electronics engineering from Bangalore University in India, and he holds several patents and publications on microprocessors and multiprocessor technologies.

SECTOR — INTERNET (ATW607) TWST: Please give us a background summary of Sify Technologies. Tell us what you see as your business and company today.

Mr. Vegesna: Sify is one of the pioneer Internet services providers. It was the first private Internet service provider in India.

It started in the late 1990s, and it has evolved since then. We’re the first MPLS network where you connect most cities and towns across the country. We’re the first people to introduce Tier III data centers in India, that is in the year 2000. So the way we look at Sify is, Sify is one of the pioneers of Internet penetration in India, and still India’s Internet penetration and IP usage is very small in size. So we’re growing with India’s growth. So the way I look at it is, our opportunity is information technology usage either in a corporation or an enterprise, or on a consumer side — there’s a long way to go. So that is where we are positioning Sify, that is where Sify has focused so far.

But the way we’re trying to take Sify to the next level, instead of focusing just on the infrastructure — meaning building connectivity and the data centers — we’re trying to create a convergence between information technology and communication technology that is called ICT. And that is where Sify is uniquely positioned.

Sify has a network that reaches more than 625 cities and towns across India, and we have five data centers across India. These are Tier III data centers. And we have half a dozen Tier II data centers, and then we’re invested in a consortium that is building undersea cables. We are the first ICT company building undersea cables in India that should be operational this year. So if you look at were we are trying to take Sify, the growth story of India is our backbone.

That is basically we are riding on the growth of India. As the GDP grows, and more and more people and organizations use the Internet, that’s where we’re going to get our share of the market.

That is India’s story. What is the future? What we want to do is take this experience, this knowledge, and make Sify a global

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organization, meaning not just only Indian-centric but global. So we have offices on both sides of the U.S., West Coast and East Coast, and we opened up an office in U.K. We opened up an office in Dubai. We’re opening an office in Singapore. Our strategy is to take these technologies, services and practices for the Indian market to the markets outside of India, which means global.

How do we participate in the global market? Maybe not all developed countries, but at least in the developing countries.

The question is with the India cost structure, how do we build these practices, how can it be applicable for the rest of world?

That is global.

Second strategy is we put lot of investments over the time, building the infrastructure, be it network, be it data centers.

Yes, we build enough — it still is going to grow, but the way we’re trying to do is, we’re trying to make ourselves go one layer up. That means we want to play in the managed services, software as a service, cloud as a platform. So that is where we’re building practices inside our organization with software talent and the solutions talent.

So the mantra is, we’ll transform our company from being India centric to being global, infrastructure centric to being services centric. Does that give you a picture?

TWST: What’s driving your U.S., Singapore or even your Dubai customers to look at Sify products and services? Are there particular trends or services that are pushing them into realizing certain needs and abilities that they don’t have?

Mr. Vegesna: Over the years Sify focused mainly in India. But with the knowledge of building our own network and infrastructure, we developed certain practices. So that is like building a network like a WAN, LAN or wireless. That is a good knowledge and a practice, and delivering these things at the price point of Indian cost structure. Similarly with data centers. We built five of our own data centers, and we’re also building five state data centers across India. We got a piece of our practices building for the government project. Having this knowledge, what we’re exploring is how these services can be utilized, where we can deliver these things most cost effectively and at the same time maintain quality of the service, because managing this kind of network and this kind of a data center, that puts us in an unique position compared to some of the people who are doing just a service business. They don’t have hands-on experience. Our differentiation is what services we’re providing outside of India.

We’re already doing that in India for our own business.

TWST: What does the competitive landscape look like today from Sify’s perspective, and how do you see that competitive landscape changing or evolving over the next two to three years?

Mr. Vegesna: I’m not saying that I’m going to be only one guy doing this. India, when it comes to the services, is the land of services businesses built across India. But the uniqueness of Sify is when it comes to managing the infrastructure — be it a network, or a data center — we’re uniquely positioned. So when it comes to WAN, LAN, wireless, server storage, and network and securities, having that knowledge to build these things in India is putting us in unique position compared to the competition. So that is the edge we have, and also we’re the first mover towards going to the ICT concept. ICT, that means a convergence between information technol-

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ogy and the communication technology. We have in India some big telecom operators and big IT companies. But from the convergence point of view, we’re a company best placed to make convergence happen and set a standard, and drive this in a much accelerated form.

“We are always looking at strategic partnership.

In the technologies what we’re adopting we’re approaching problems in a maybe different angle. But some of these technologies are already available or are being developed, so there is no point duplicating. And so we’re partnering strategically.”

TWST: When you look at growth opportunities, how do you assess the internal organic growth opportunities versus the strategic opportunities, mergers and acquisitions, that would add to your company? What mix do you see in those two types of strategies for Sify?

Mr. Vegesna: I think any organization, Sify is not different. We are always looking at strategic partnership. In the technologies what we’re adopting we’re approaching problems in a maybe different angle. But some of these technologies are already available or are being developed, so there is no point duplicating. And so we’re partnering strategically. So the important strategy going forward for Sify is not just going from India centric to global centric, and also from infrastructure centric to the managed-services centric, but also strategic partnership to enable us to run faster. So we’re looking at several strategic partnerships, which I cannot disclose at this point, but we’re looking to take these partnerships to get on into the leading position. At the same time we have these strategic partnerships, and India’s unique offer is a lot of talent in software development. So taking advantage of this, since we are an India-headquartered company we have an opportunity to build the teams, to provide the tools and to provide the services to match our vision at a cost-effective price point. We will look at organic growth, partnerships and knowledge-based usage models — with those we’ll partner the world leaders.

TWST: What may be some of the limitations you will have to address over the next two to three years?

Mr. Vegesna: India has a lot of talented people. But when we’re going global, people need to have a global perspective. So we’re going to attract that kind of talent available across the globe. So that way, and we’re putting together a plan for going from India centric to global centric, we need to attract a different talent. So we’re prepared to do that. Similarly the products you said, there are the products. I think the technology is available, and the main thing is scaling. How fast we can scale? And when you look at the capital — money is important, and there are people who are interested in helping us raise capital, because as you know a lot of money is available on the market. Everybody is looking for smart deals. So we have access to that being in the Silicon Valley, and there are so many venture capitalists.

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TWST: Are there any issues with respect to customer retention at this point?

Mr. Vegesna: Regarding customer retention we don’t see any issues because we’re dealing mostly with enterprise customers.

Enterprise customers are very loyal, but we always have to give better services at better price. Is the treatment right? It is always innovate technologies to service the customer, better service. Like you take a microprocessor, each generation Intel comes up with it gives you better features and better price. So it’s like a service. It’s the same thing. We’re going to offer better service at a better price.

So ultimately the customer or an organization can see how the IT provides benefits. The way I look at is information technology is not as a product. It is more of a tool. How I can make, how we can make an organization more productive, with a more productive tool? How can we help that organization to grow with our IT services?

TWST: What are the specific accomplishments you feel will make the next 12 to 24 months a success for your company?

Mr. Vegesna: We have laid out our plans for the next three years. The important thing is going from India centric to global centric and having a partner associated with that. Second is, going from the infrastructure centric to the managed services.

Those are the key areas we’re going to focus in next three years, and we will execute on that. At the end of the day execution is important. That is our focus. So our strategy is very clear. Now we have to execute.

TWST: Please give us a frank assessment of your top management. At this point, what are the skill sets and strengths you’re relying on, and what areas are you looking at for changes or additions?

Mr. Vegesna: So at Sify we have an excellent management team, but going forward from India centric to the global centric we’re going to bring practices, processes and the people who are familiar with that. So that is one thing we’re going to add to the current management. Second, when it comes to change from infrastructure orientation to the services, again we need to have different kind of people beyond what we have to move to the managed services. So at the end of the day, any organization’s key is the people, strategies, products. We can put the plans. People-execution alignment is the key. So that is my philosophy. So we’re going to augment the current management with new talent, global orientation and managed services orientation rather than infrastructure services. This is the way we’re going to complement the current management team, and today we have excellent management team. But we’re going forward, we’re going to have more global and service orientation.

TWST: Please describe your personal management philosophy. Would you distill that philosophy into a few points of business that highlight the way you set the goals and standards for Sify?

Mr. Vegesna: For any organization I believe people are number one talent, the number one asset. People can build technology, people can build services and people can build an organization.

The most important thing is having an excellent aligned team. I believe this is the most important thing for an organization to be successful. You can challenge anybody on the earth with the smart aligned team play, and those are the things in my focus. Bringing top-notch people on board, and augment with the current people and

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set the goals and empower them with execution plans, provide the information technology, information on how the businesses are doing, what kind of corrections are to be made. So the way I believe is people are the biggest asset for an organization. I want to empower them with all the modern tools to make them successful.

“We have laid out our plans for the next three years. The important thing is going from India centric to global centric and having a partner associated with that. Second is, going from the infrastructure centric to the managed services.”

TWST: How could the investment community improve its perceptions or understanding of Sify? Do you feel that there are any misperceptions out there?

Mr. Vegesna: The way I look at is Sify has evolved in the last 10 years. Sify today is different from what it was 10 years ago.

Sify started as an Indian Internet company and went public in the Nasdaq in 1999 during the Internet boom. Then it had its ups and downs, those kinds of things. I took the majority stake of Sify in 2006. Since then, I’m managing Sify, setting the direction. So we over time have changed, and we became more enterprise centric than consumer centric, and today our business is about 80% enterprise, consumer is less than 10%; a little more than 10% is international services. So I don’t think Sify’s investors understand the current model of how this thing is evolving, what I’m trying to put into the market. But overall Sify’s strategy is bigger than what the market thinks. We have MPLS network. It’s a big network, one of the biggest networks in India, and we have a lot of funds tied up in this technology. And we’re changing the game going from India centric to global centric, and also we’re changing from an infrastructure company to managed services. So I want our investors look at it. This company is completely different from what it was 10 years ago.

TWST: What is your vision for this company? What will it look like by the end of 2012 and how will that company be different?

Mr. Vegesna: So again, same thing. Today we’re India centric, today we’re infrastructure centric. We laid out our plan. In the next three years we want to be global, we want to focus on managed services. So we’re going to make progress in those two directions year after year, from now onwards. Our goal is by the next three years we will be changing to execute our vision of global and managed services. And we’re going to continuously invest in India, we’re going to continuously invest on our infrastructure. But our point is when we’re saying globalization, we’re going to put a practice as what is attractive beyond India. When it comes to infrastructure we’re looking at a different stack point to talk to the customer for providing a solution. So that is the road map for three years.

TWST: What is the essential summary statement for investors? What would you suggest as the strengths and highlights that would convince an investor to buy in today?

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Mr. Vegesna: Sify evolved in the last 10 years, and now the growth story is still India’s big growth, and we’re going to ride on the back of India’s growth. So we’re going to continuously invest in that. And the second is taking those investments, how can we maximize and win global markets, and similarly how do we improve our stack of services instead of just infrastructure into the managed services. So that is the path we’re taking Sify, and this is the long-term play, and that’s where we’re going. As India grows, you’re going to see that Sify is growing.

TWST: Have we overlooked anything? Would you like to add anything else?

Mr. Vegesna: I think I have covered everything I would

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like to say. Globalization and the managed services and the focus on people — and I think I have said all that I want to.

TWST: Thank you. (KL) RAJU VEGESNA Chairman, CEO & Managing Director Sify Technologies Limited 1525 McCarthy Blvd.

Milpitas, CA 95035 (408) 792-7524 (408) 748-1009 — FAX www.sifycorp.com