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Verimatrix offers protection from pirates

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As telephone companies worldwide roll out video over telephone lines to compete with cable TV, Hollywood studios are gearing up for a piracy battle akin to the one that rocked the music industry a few years ago.

Many telephone companies will deliver TV over digital networks using Internet protocol - known as IPTV. Hollywood studios tend to view the Internet as a vortex of piracy, where hackers pluck recently released movies off the network with relative ease and post them online for free - essentially vaporizing the way studios make money.

Hoping to ride to the rescue - so to speak - is Verimatrix, a San Diego startup that has raised about $14.3 million in venture funding.

The privately held, 74-employee company develops content security software and forensic watermarking for video delivered over IPTV networks. Its main product encrypts movies and TV shows before they are sent over the network. It then unscrambles the video when it reaches the particular set-top box of a pay TV customer's home - making sure the correct signal is getting to the right subscriber.

Verimatrix's watermarking technology embeds a sophisticated code into the video. The code is invisible to the viewer. But it allows the video - if it ends up being pirated - to be traced back to the set-top box from which it originated.

"Forensic watermarking is kind of a new feature you're seeing," said Gary Schultz, president and founder of Multimedia Research Group in Sunnyvale, Calif. "When a company gets into (providing watermarking) for the high value, real premium content, they have to win approval from the various studios, and I think that is something that Verimatrix has worked very hard on."

Founded in 1999, the company originally tried to create content protection for digital music. But it quickly shifted gears to video. Co-founder Ross Cooper began meeting with studio technical executives in 2001 to see what they wanted in content security.

The company remained small as it developed its software, employing just seven workers in February 2005 when it released its watermarking system, called VideoMark.

Since then, the company has grown quickly. It raised $5 million in 2005 from Siemens Venture Capital and Mission Ventures. Last year, it raised an additional $8 million from Crescendo Ventures.

Today, Verimatrix's products are installed in more than 80 IPTV systems worldwide, and its software is licensed in 1.8 million set-top boxes.

Chief Executive Tom Munro won't reveal revenue. Analysts say the company has a few tough competitors, ranging from venture-funded rival Widevine Technologies of Seattle to software giant Microsoft.

The fate of the company largely depends on whether IPTV catches on, analysts said. Right now, IPTV is still in its early stages - particularly in the United States. About 70% of Verimatrix's customers are overseas, where government telephone companies have been more aggressive in offering TV over phone lines.

"Our most advanced markets are in Asia and Western Europe," Munro said.

But IPTV is expected to grow in the United States as telephone companies seek ways to compete with cable, which is eating into their subscriber base by offering voice services.

Multimedia Research Group, which tracks 575 IPTV providers worldwide, estimated just over 8 million IPTV subscribers last year - and fewer than 1 million in the United States.

By 2010, Multimedia Research expects worldwide IPTV subscribers to reach 51 million.

AT&T is in the process of upgrading its network to offer IPTV. Verizon is building fiber-optic lines to the home of subscribers, also with the aim of offering television.

Although Verizon's TV offering won't technically be an IPTV service, it will provide its video-on-demand service over an IPTV network, analysts said.

The idea of relatively recent movies being delivered over digital IPTV networks makes Hollywood uneasy, Munro said.

A Norwegian teenager alarmed the movie industry a few years ago when he cracked the encryption on DVDs - allowing them to be copied to a computer and posted on the Internet. Microsoft has seen its content security system attacked by hackers.

"It's an arms race," Munro said. "You create a protection scheme and somebody finds a way around it."

Moviemaking is a risky business, he said. In 2005, the average cost to make and market a movie from the major studios was $96.2 million, according to the Motion Picture Association of America, an industry trade group.

Six out of 10 movies never recoup their original investment in their domestic theater run, says the MPAA.

So the industry relies on a carefully planned after-theater distribution strategy to get a return. Films are made available to hotels, cruise ships and airlines immediately after they leave the theaters. Then they find their way to pay-per-view services, DVD rental stores and finally become available for sale on DVD.

When a movie is pirated at any point along this chain, sales downstream are hurt, according to the MPAA.

Since much of the money to make movies comes from investors such as hedge funds, the long-term fear for studios is that funding will dry up because investors decide rampant piracy makes the prospect of earning a return too risky.

While that's a worst-case scenario, it is one that makes protecting content over IPTV networks a high-stakes game for Hollywood.

Questions remain over whether IPTV networks will catch on. Detractors doubt whether telephone companies in the United States will be able to deliver high-definition quality pictures over twisted copper wire in sprawling suburban America.

IPTV works best when the signal travels short distances on copper wires, said Munro. Unlike Europe or Asia, where housing is dense and distances between fiber optic lines and copper wires are short, it will require significant investment by U.S. telephone companies to bring fiber optic lines closer to homes.

Ironically, many of the IPTV services available in the United States today are offered by rural telecommunications companies, which have spent the money to upgrade their networks.

Rural telephone firms have an advantage, said analysts, of favorable regulations and a lack of competition. Verimatrix customers include phone providers in Canby, Ore., Panhandle, Okla., and Bledsoe, Tenn.

"Some of the best phone networks in America are in the shadow of grain elevators," Munro said.

For big phone companies, the promise of IPTV is substantial. A key advantage is the ability to provide video-on-demand - allowing subscribers to watch the shows they want when they want to watch them. It also opens the door for couch potato participation - such as using the TV remote to vote for contestants on reality shows.

And companies including Qualcomm that are working to bring high quality video to mobile phones probably will use Internet Protocol to deliver it.

"If you're looking at getting 'Desperate Housewives' on a handset, Hollywood is going to want an encryption system for that, and Verimatrix is one of the few trusted systems," said Ted Alexander of Mission Ventures, a San Diego venture capital firm that has invested in Verimatrix. Alexander is on the company's board.

"What's nice is if IPTV takes off, the company is positioned to ride the wave," Alexander continued. "The risk is it's a mild wave. It's not the great tidal shift that we all hope and anticipate. But so far, so good."

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