Dolby Laboratories’ contribution to cinema sound is legendary. It is a strong company, with a market cap of $3.74B, and whose stock has suffered only a 27% drop over the past year, compared to the much higher drops suffered by others. But in the cinema space, the company of the past is not the company of today. As the move towards digital cinema began, the company operated as if it were the pace setter for the industry, often arrogantly so, in an attempt to retain its leadership position in cinema. It completely misread the game, however, and let cinema newbie Doremi install 4000 of its servers, over a paltry 200 units by Dolby over the same period.
Dolby deserves credit, however, for learning from its mistakes. The company quietly changed its reporting structure, and put Digital Cinema under a skilled marketing leader, John Carey, formerly with DTS. But not all that ails Dolby can be fixed by one person. Dolby’s engineering department, if now less headstrong, is still slow. In addition, its accounting department developed a strict interpretation of the Sarbanes-Oxley accounting rules, recognizing revenues only when all purchase order requirements are met. The combination of evolving DCI specifications, slow engineering, and strict interpretation of SOX has made it very difficult for Dolby to recognize digital cinema revenue at all.
The revenue recognition problem for Dolby should be helped considerably by DCI compliance testing. DCI’s testing program was only initiated in Q4 of 2008, and it is expected that Dolby is among the first in line. Contract negotiations with companies such as Dolby, however, have delayed any actual testing from taking place. Testing is not cheap, costing $80K for servers, and not fast, taking up to 6 weeks if all things go well.
There are benefits to Dolby for remaining in cinema. In digital cinema, prior to 3-D, there was no crossover. other than brand, between digital cinema and consumer efforts. But 3-D is an area where Dolby can play in both markets. In terms of branding in the 3-D space, Dolby’s competitor is RealD, both in cinema and potentially in the home. It terms of 3-D technology for the cinema, Dolby licensed and improved technology from Infitec, resulting in a presentation quality that is considered superior by many. But Dolby’s technology has challenges. It needs more lamp power than the competition, the high cost of its glasses requires that they be cleaned in between uses, and its system generally requires more capital to install, all of which have not favored strong sales.
Of approximately 1400 3-D screens in the US, Dolby has around 200 3-D sites today, many of which it directly financed. To strengthen its cinema position, it is rumored that Dolby, later in 2009, will introduce 3-D glasses in the $5 range. This is a much better price than today’s $27, but it will still require cleaning in between use. If Dolby makes the investment to achieve this price, it will indicate a very strong intent to strengthen its 3-D brand.
Dolby is not a company to discount. While its current position as a weak #2 in digital cinema is not great, it is also not decisive. Digital cinema equipment only lasts so many years and then has to be replaced. Dolby has come up strongly from the rear before in cinema, and can do so again.