NDS (NNDS) 10-Q 2006 Q3 Quarterly report

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark One)

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended March 31, 2006

or

o TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period fromto

Commission File Number: 0-30364

NDS Group plc

(Exact name of registrant as specified in its charter)

England and Wales	Not applicable
(State or other jurisdiction of incorporation or organization)	(I.R.S. Employer Identification No.)
One Heathrow Boulevard, 286 Bath Road, West Drayton,
Middlesex, United Kingdom	UB7 0DQ
(Address of principal executive offices)	(Zip Code)

+44 208 476 8000

(Registrant’s telephone number, including area code)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

    Yes x No o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check one):

 Large accelerated filer o Accelerated filer x Non-accelerated filer o

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

    Yes o No x

As of May 7, 2006, the following shares were outstanding: 14,609,796 Series A ordinary shares of $0.01 par value per share, 42,001,000 Series B ordinary shares of $0.01 par value per share and 42,000,002 deferred shares of £1 par value per share.

NDS Group plc

Table of contents

PART I - Financial Information
Item 1.	Financial Statements
	Unaudited Consolidated Statements of Operations for the three and nine month periods
	ended March 31, 2006 and March 31, 2005	1
	Consolidated Balance Sheets as of March 31, 2006 (unaudited) and June 30, 2005	2
	Unaudited Consolidated Statements of Cash Flows for the nine month periods
	ended March 31, 2006 and March 31, 2005	3
	Notes to the Unaudited Consolidated Financial Statements	4
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	13
Item 3.	Quantitative and Qualitative Disclosures About Market Risk	29
Item 4.	Controls and Procedures	30
PART II - Other Information
Item 1.	Legal Proceedings	31
Item 1A.	Risk Factors	31
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	31
Item 3.	Defaults Upon Senior Securities	31
Item 4.	Submission of Matters to a Vote of Security Holders	31
Item 5.	Other Information	31
Item 6.	Exhibits	31
Signatures		32

PART I - Financial Information

Item 1. Financial Statements

NDS Group plc

Unaudited Consolidated Statements of Operations

(in thousands, except per share amounts)

	For the three months ended March 31,						For the nine months ended March 31,
Revenue:	2006			2005			2006			2005
Conditional access	$	89,458		$	66,712		$	260,222		$	243,755
Integration, development & support		10,393			13,855			36,087			42,680
License fees & royalties		18,994			18,319			70,501			53,157
New technologies		29,193			26,131			73,099			64,641
Other		1,166			1,577			5,993			5,263
Total revenue		149,204			126,594			445,902			409,496
Cost of goods and services sold:
Smart card costs		21,617			22,996			66,324			94,338
Operations		32,679			19,751			101,260			52,360
Royalties		2,727			2,815			8,405			10,573
Other		937			2,399			3,570			2,643
Total cost of goods and services sold		57,960			47,961			179,559			159,914
Gross margin		91,244			78,633			266,343			249,582
Operating expenses:
Research & development		36,608			40,847			103,053			119,501
Sales & marketing		7,762			7,035			21,767			19,154
General & administration		11,371			4,995			29,145			32,280
Amortization of other intangibles		2,242			3,286			7,038			9,576
Other		(2,151	)		(160	)		(127	)		(2,974	)
Total operating expenses		55,832			56,003			160,876			177,537
Operating income		35,412			22,630			105,467			72,045
Other income:
Interest		4,067			2,313			10,451			7,100
Other		─			─			─			46
Total other income		4,067			2,313			10,451			7,146
Income before income tax expense		39,479			24,943			115,918			79,191
Income tax expense		(11,340	)		(8,353	)		(34,714	)		(27,100	)
Net income	$	28,139		$	16,590		$	81,204		$	52,091
Net income per share:
Basic net income per share	$	0.50		$	0.30		$	1.45		$	0.95
Diluted net income per share	$	0.49		$	0.29		$	1.41		$	0.92

The accompanying notes form an integral part of these unaudited consolidated financial statements.

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NDS Group plc

Consolidated Balance Sheets

(in thousands, except share and per share amounts)

ASSETS
Current assets:	As of March 31, 2006 (Unaudted)			As of June 30, 2005 (See Note 2)
Cash and cash equivalents	$	344,625		$	339,791
Short-term investments		101,035			─
Accounts receivable, net		89,941			73,588
Accrued income		48,817			25,391
Inventories		33,626			41,508
Prepaid expenses		12,635			15,795
Other current assets		4,169			3,595
Total current assets		634,848			499,668
Property, plant and equipment, net		42,678			33,962
Goodwill		63,528			64,236
Other intangibles, net		45,389			48,537
Deferred tax assets		5,339			5,121
Other receivables		6,346			─
Other non-current assets		22,319			20,374
Total assets	$	820,447		$	671,898
LIABILITIES AND SHAREHOLDERS’ EQUITY
Current liabilities:
Accounts payable	$	15,311		$	18,336
Deferred income		49,733			47,175
Accrued payroll costs		20,211			25,069
Accrued expenses		16,594			21,097
Income tax liabilities		20,787			4,070
Other current liabilities		11,391			13,498
Total current liabilities		134,027			129,245
Accrued expenses		32,192			28,547
Deferred income		122,700			87,353
Total liabilities		288,919			245,145
Shareholders’ equity:
Series A ordinary shares, par value $0.01 per share: 48,000,000 shares authorized;
14,557,106 and 13,318,546 shares outstanding as of March 31, 2006, and June 30, 2005, respectively		146			133
Series B ordinary shares, par value $0.01 per share: 52,000,000 shares authorized;
42,001,000 shares outstanding as of March 31, 2006, and June 30, 2005, respectively		420			420
Deferred shares, par value £1 per share: 42,000,002 shares authorized
and outstanding as of March 31, 2006, and June 30, 2005, respectively		64,103			64,103
Additional paid-in capital		523,652			498,363
Accumulated deficit		(99,367	)		(180,571	)
Other comprehensive income		42,574			44,305
Total shareholders’ equity		531,528			426,753
Total liabilities and shareholders’ equity	$	820,447		$	671,898

The accompanying notes form an integral part of these unaudited consolidated financial statements.

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NDS Group plc

Unaudited Consolidated Statements of Cash Flows

(in thousands)

	For the nine months ended March 31,
Operating activities:	2006			2005
Net income	$	81,204		$	52,091
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation		12,088			11,621
Amortization of other intangibles		7,038			9,576
Stock-based compensation		3,776			3,957
Other		─			(46	)
Change in operating assets and liabilities, net of acquisitions		7,082			966
Net cash provided by operating activities		111,188			78,165
Investing activities:
Capital expenditure		(21,921	)		(13,287	)
Business acquisitions, net of cash acquired		(3,118	)		(17	)
Short-term investments		(101,035	)		-
Proceeds from sale of investments		─			232
Net cash used in investing activities		(126,074	)		(13,072	)
Financing activities:
Issuance of shares (inclusive of realized excess tax benefits of $4,095 and $─)		20,348			10,543
Net increase in cash and cash equivalents		5,462			75,636
Cash and cash equivalents, beginning of period		339,791			228,620
Exchange movements		(628	)		4,686
Cash and cash equivalents, end of period	$	344,625		$	308,942

The accompanying notes form an integral part of these unaudited consolidated financial statements.

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NDS Group plc

Notes to the Unaudited Consolidated Financial Statements

Note 1. Description of business

NDS Group plc (the “Company”) is incorporated in Great Britain and registered in England and Wales. The Company is engaged in the business of supplying open end-to-end digital technology and services to digital pay-television platform operators and content providers.

There is a common management structure across the Company, which ensures that the various subsidiary entities operate in a coordinated and complementary manner. The business is managed as a single operating unit or segment.

The Company is a majority owned subsidiary of News Corporation and conducts business transactions with a number of affiliates and subsidiaries of News Corporation.

Note 2. Basis of presentation

The accompanying unaudited consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles (“GAAP”) for interim financial statements and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Information and footnote disclosures normally included in annual financial statements prepared in accordance with GAAP have been condensed or omitted pursuant to such rules and regulations. In the opinion of management, the unaudited consolidated financial statements reflect all adjustments (consisting only of normal recurring adjustments) necessary for a fair presentation of the consolidated financial position, the consolidated operating results and the consolidated cash flows as of, and for the periods shown. The unaudited consolidated results of operations for the three and nine month periods ended March 31, 2006 are not necessarily indicative of results that may be expected for any other interim period or for the full fiscal year ending June 30, 2006.

These interim unaudited consolidated financial statements and notes thereto should be read in conjunction with the audited consolidated financial statements and notes thereto for the fiscal year ended June 30, 2005 included in the Company’s Annual Report on Form 10-K as filed with the Securities and Exchange Commission on September 8, 2005. Financial information as of June 30, 2005 has been derived from those audited consolidated financial statements.

These interim consolidated financial statements are unaudited and do not constitute statutory results as defined in Section 240 of the Companies Act 1985 of Great Britain. U.K. statutory accounts for the fiscal year ended June 30, 2005, which were prepared under U.K. generally accepted accounting practice and on which the auditors’ report was unqualified, have been delivered to the Registrar of Companies for England and Wales.

The preparation of financial statements in conformity with GAAP requires that management make estimates and assumptions that affect the reported amounts of assets and liabilities as of the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. Because of the use of estimates inherent in the financial reporting process, actual results could differ from those estimates.

Certain fiscal 2005 amounts have been reclassified to conform to fiscal 2006 presentation.

All amounts are presented in thousands, except share and per share amounts or unless otherwise noted.

Note 3. Summary of revenue accounting policies

Revenue is recognized when persuasive evidence of an arrangement exists, the fees are fixed or determinable, the product or service has been delivered and collectability is assured. The Company considers the terms of each arrangement to determine the appropriate accounting treatment.

Where an arrangement includes more than incidental software elements, the Company follows Statement of Position 97-2: “Software Revenue Recognition” (“SOP 97-2”). Where an arrangement does not involve the supply of software and that arrangement is separate from an arrangement for the supply of software, the Company follows Staff Accounting Bulletin No. 104: “Revenue Recognition,” (“SAB 104”) and Emerging Issues Task Force Issue No. 00-21: “Revenue Arrangements with Multiple Deliverables” (“EITF 00-21”). As the Company’s business develops, other accounting guidance may become applicable.

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Many of the Company’s contracts contain multiple deliverables. Where an arrangement is accounted for under SOP 97-2, revenue from delivered elements is deferred until such time as the Company has vendor specific objective evidence of the value of the undelivered elements. Where the only undelivered element is post-contract support and the Company does not have vendor specific objective evidence of the value of that post-contract support, the revenue from the entire arrangement is recognized over the term of the support period. Where an arrangement is accounted for under SAB 104 and EITF 00-21, the Company considers whether the various deliverables should be considered separate units of accounting. In such circumstances, revenues from these arrangements are recognized based on the relative fair values of all the elements. Where fair value of delivered items cannot be determined, but the fair value of the undelivered elements can be determined, the fair value of the undelivered elements is deferred and the residual revenue is allocated to delivered elements. Where it is not possible to allocate consideration to separate deliverables in the manner prescribed by the accounting literature, revenue is deferred until all items have been delivered.

Smart cards and security maintenance revenue

Most of the arrangements under which the Company generates revenue from the sale of smart cards and the provision of security maintenance services are accounted for under SAB 104 and EITF 00-21. Revenue derived from sales of smart cards is recognized upon delivery of the smart cards in accordance with contractual terms. Appropriate provision is made for warranty and similar arrangements agreed with customers. For some contracts, the Company receives fees from platform operators for the maintenance of security of the conditional access system for a specified duration. These revenues are recognized over the term of the security contract in the period in which the security maintenance activities are performed. In some instances, the maintenance of security includes a requirement to replace a population of smart cards with a supply of “changeover cards” which is considered a separate unit of accounting. In such instances, an amount of the maintenance income is deferred and is recognized when the changeover cards are delivered. The amount of such maintenance revenue to be deferred is based on the fair value of the undelivered future changeover cards.

Software revenue

Apart from the arrangements for the supply of smart cards and security maintenance services referred to above, most of the other arrangements under which the Company generates revenue involve the supply of software and are accounted for under SOP 97-2. Revenue is deferred until all elements have been delivered or until the Company has vendor specific objective evidence of the fair value of the undelivered elements. Set-top box royalty income may continue to arise after all elements of an arrangement have been delivered. Such revenue is recognized when it is fixed or determinable, and this is typically when the Company receives reports from the platform operator or the set-top box manufacturer of the number of units manufactured or deployed.

Deferred income

Revenue billed but not recognized is recorded in the Company’s consolidated balance sheet as deferred income. Where the revenue is expected to be recognized within one year of the balance sheet date, the deferred income is classified as a current liability; otherwise it is classified as a non-current liability.

Note 4. Comprehensive income

Comprehensive income comprises net income, foreign currency translation adjustments, certain pension adjustments and unrealized holding gains and losses on investments available for sale. The components of comprehensive income were as follows:

		For the three months ended March 31,					For the nine months ended March 31,
		2006		2005			2006			2005
Net income	$	28,139	$	16,590		$	81,204		$	52,091
Currency translation differences (no tax effect)		697		(9,209	)		(1,731	)		6,724
Other		─		6			─			(19	)
Comprehensive income	$	28,836	$	7,387		$	79,473		$	58,796

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Note 5. Net income per share

Net income per share is calculated as net income divided by the weighted average number of ordinary shares in issue in each period. The interests of ordinary shareholders may be diluted due to the existence of stock options granted to employees. The dilutive effect of potential shares has been calculated using the treasury stock method and as such, is a function of the average share price in each period. The Series A ordinary shares and Series B ordinary shares have equal rights except in respect of voting and as such have equal weighting in the calculation of net income per share and equal net income per share.

The numerator for the calculations of net income per share is net income. The denominator for the calculations is the weighted average numbers of ordinary shares, as follows:

	For the three months ended March 31,		For the nine months ended March 31,
	2006	2005	2006	2005
Weighted average number of ordinary shares in issue	56,305,882	54,994,616	55,863,709	54,611,396
Effect of dilutive stock options	1,438,071	2,313,859	1,750,084	2,163,612
Denominator for dilutive net income per share	57,743,953	57,308,475	57,613,793	56,775,008

Note 6. Short-term investments

The short-term investment balance at March 31, 2006 is comprised of cash deposits at banks with an original term of six months.

Note 7. Inventories

Inventories are categorized as work-in-progress and are stated net of reserves of $2.6 million and $3.4 million as of March 31, 2006, and June 30, 2005, respectively.

Note 8. Accounts receivable

Accounts receivable are stated net of valuation reserves of $1.3 million and $1.4 million as of March 31, 2006, and June 30, 2005, respectively.

Note 9. Related party transactions

The Company conducts business transactions with News Corporation and its subsidiaries and affiliates. These entities are considered to be related parties. Agreements covering arrangements between News Corporation or its subsidiaries or affiliates and the Company are entered into in the context of two entities over which a third entity exercises significant influence or control. There can be no assurance, therefore, that each of the agreements, or the transactions provided for therein, or any amendments thereof will be effected on terms at least as favorable to the Company as could have been obtained from unaffiliated third parties. Any new contracts with related parties or significant amendments to such contracts are approved by the Audit Committee of the Company’s Board of Directors.

These transactions are of three main types: the provision by the Company of technology and services for digital pay-television systems; the payment by the Company of royalties for the use of certain intellectual property rights; and the receipt by the Company of some administration and finance services.

a) Provision of technology and services

Technology and services for digital pay-television platform operators are supplied to affiliates and subsidiaries of News Corporation. The principal related parties supplied by the Company are BSkyB, DIRECTV, DIRECTV Latin America, Sky Brasil, Sky Mexico, DTH TechCo, Sky Colombia, Sky Chile, FOXTEL, Sky Network Television and Tata Sky (all of which are affiliates of News Corporation), and Sky Italia and STAR TV (both of which are subsidiaries of News Corporation).

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Revenue recognized from such related parties was as follows:

		For the three months ended March 31,				For the nine months ended March 31,
(in thousands)		2006		2005		2006		2005
Revenue from related parties	$	114,233	$	86,534	$	343,632	$	294,180

Included within accounts receivable are amounts of $68.4 million and $51.9 million as of March 31, 2006, and June 30, 2005, respectively, which are due from related parties in respect of normal sales transactions. Accrued income includes revenue recognized from related parties but not invoiced as of the balance sheet date, in the amounts of $38.2 million and $18.8 million as of March 31, 2006, and June 30, 2005, respectively. Deferred income includes $152.0 million and $109.6 million as of March 31, 2006, and June 30, 2005, respectively, in respect of normal sales transactions with related parties.

b) Royalty payments

A royalty is payable to a related party in respect of certain intellectual property rights which the Company has licensed for use in certain applications supplied to customers. The royalty expense payable to the related party was as follows:

		For the three months ended March 31,				For the nine months ended March 31,
(in thousands)		2006		2005		2006		2005
Royalty expense payable to related party	$	225	$	1,341	$	1,609	$	2,617

c) Administration and finance services

News Corporation provides services under a Master Intercompany Agreement which provides, among other things, for arrangements governing the relationship between the Company and News Corporation. The consideration for each of the services and other arrangements set forth in the Master Intercompany Agreement is mutually agreed and based upon allocated costs. All such consideration and any material arrangements are subject to the approval of the Audit Committee of the Company’s Board of Directors. The services covered by the Master Intercompany Agreement include cash management and financing, services of News Corporation employees, facility arrangements, and employee matters, including pensions and certain other services. Administration fees charged in respect of these services were as follows:

		For the three months ended March 31,				For the nine months ended March 31,
(in thousands)		2006		2005		2006		2005
Administration fees payable to related parties	$	43	$	68	$	129	$	198

As part of these administration and finance services, News Corporation pays certain costs (principally certain payroll, legal and property expenses) on behalf of the Company. The Company reimburses News Corporation for such payments, typically the month following that in which the payment was made by News Corporation. Included within accounts payable are amounts of $6.4 million and $3.1 million as of March 31, 2006, and June 30, 2005, respectively, which were owed to News Corporation in respect of administrative services and other costs paid by News Corporation on behalf of the Company.

d) Other

The Company has a short-term loan facility of £30 million (approximately $52 million) from News Corporation. The facility has no expiry date and no amounts were drawn down as of March 31, 2006 or June 30, 2005. The facility is considered to be adequate for the Company’s needs.

The Company has entered into cross-guarantees with HSBC Bank plc providing mutual guarantees with other subsidiaries of News Corporation for amounts owed to the bank under a collective overdraft facility of £20 million (approximately $35 million). News Corporation has indemnified the Company against any liabilities which the Company may be required to pay under these cross-guarantees. Management has been informed by News Corporation that no amounts were owed to HSBC Bank plc as of March 31, 2006 or June 30, 2005 which would be covered by these guarantees.

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Note 10. Contingencies and commitments

a) Litigation

The International Electronic Technology Corp. Litigation

On April 18, 1997, International Electronic Technology Corp. (“IETC”) filed suit in the United States District Court for the Central District of California against the Company’s customers, Hughes, DIRECTV, Inc. and Thomson Consumer Electronics, Inc., alleging infringement of one U.S. patent and seeking unspecified damages and injunction.

Although not a party to this case, the Company has assumed the defense and agreed to indemnify the named defendants. The defendants have raised defenses, including non-infringement and invalidity. On September 22, 2005, the court issued an order construing certain terms in the patent as a matter of law, after an extensive delay due to the death of two judges previously assigned to the case. Following receipt of the claim construction order, defendants notified IETC that they intended to file a motion for summary judgment of non-infringement based on the claim construction. During a status conference with the court on January 9, 2006, IETC requested that defendants’ motion be deferred to permit it to seek additional document discovery. The court denied this request, and ordered IETC to make its request in response to defendants’ summary judgment motion. Defendants’ motion for summary judgment was filed on January 30, 2006. On March 9, 2006, the court granted defendants’ motion, and judgment for defendants was entered on March 24, 2006. IETC has filed a notice of appeal to the United States Court of Appeals for the Federal Circuit.

b) Guarantees

In the normal course of business, the Company provides indemnification agreements of varying scopes, including limited product warranties and indemnification of customers against claims of intellectual property infringement made by other parties arising from the use of the Company’s products or services. The nature of these commitments has been considered in determining the revenues and costs recognized in these financial statements. Costs are accrued for known warranty and indemnification issues if a loss is probable and can be reasonably estimated. Historically, costs related to these warranties and indemnification agreements have not been significant, but because potential future costs are highly variable, the Company’s management is unable to estimate the maximum potential impact of these guarantees on the Company’s future results of operations.

c) Other

The nature of the Company’s business is such that it may be subject to claims by other parties alleging infringements of various intellectual property rights. Such claims are vigorously defended. Where a liability arising from these claims is probable, an accrual is made based on management’s best estimate. It is not considered that any resulting liability in excess of amounts recognized in these financial statements would materially affect the Company’s financial position.

Note 11. Stock option schemes

The Company has three executive stock option schemes under which stock options have been granted to certain Directors, Executive Officers and employees: The NDS 1997 Executive Share Option Scheme (the “1997 scheme”), The NDS 1999 Executive Share Option Scheme (the “1999 unapproved scheme”) and The NDS UK Approved Share Option Scheme (the “1999 approved scheme”). The provisions of each scheme are substantially the same, except that the 1999 approved scheme is approved by the U.K. Inland Revenue for the purposes of granting U.K. employees options over shares in the Company which are free from income tax in the hands of the employee under certain circumstances. Following the creation of the 1999 unapproved scheme, no further options have been granted under the 1997 scheme. The schemes provide for the grant of options to purchase Series A ordinary shares in the Company with a maximum term of ten years. Options granted under the schemes vest in equal portions over a four-year period. The schemes authorize options to be granted subject to a maximum of 10% of the ordinary shares of the Company in issue at the date of grant.

In addition, the Company has operated employee share ownership schemes in the United Kingdom, Israel and the United States. These enabled employees to enter into a fixed-term savings contract with independent financial institutions linked to an option to subscribe for Series A ordinary shares in the Company. The option price was set at a discount of between 15% and 20% of the quoted closing price of the Series A ordinary shares on The NASDAQ Stock Market (“NASDAQ”) on the last trading day before the announcement of the schemes. These schemes have now matured and there are currently no options outstanding under these employee share ownership schemes.

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All employees are entitled to participate in the plans, however (with the exception of the employee share ownership schemes which are open to all), management determines to whom and how many options are granted. The Company’s obligations under all stock option schemes have been settled by issuing new Series A ordinary shares.

The following table summarizes information about the Company’s stock option transactions:

	Number			Weighted Average Exercise Price	Remaining Contractual Term (in years)		Aggregate Intrinsic Value (in thousands)
Outstanding at July 1, 2005	4,337,513		$	18.17
Granted	941,666		$	43.13
Exercised	(1,238,560	)	$	13.05
Forfeited	(28,211	)	$	18.44
Expired	─			─
Outstanding at March 31, 2006	4,012,408		$	25.61	7.0	$	106,168
Vested or expected to vest at March 31, 2006	3,982,234		$	25.55	6.9	$	105,589
Exercisable at March 31, 2006	2,460,734		$	20.59	5.7	$	77,527

	For the three months ended March 31,						For the nine months ended March 31,
	2006			2005			2006			2005
Weighted average fair value of stock options granted
in period using the assumptions set out below	$	29.42		$	24.13		$	29.42		$	23.57
Total intrinsic value of options exercised	$	14,415		$	6,387		$	34,806		$	17,880
Stock-based compensation cost included within the statement of operations:
Operating expenses	$	2,064		$	567		$	3,776		$	3,957
Tax benefit		(400	)		(223	)		(678	)		(1,556	)
Net of tax amount	$	1,664		$	344		$	3,098		$	2,401
Cash received from exercise of stock options	$	6,466		$	6,070		$	16,253		$	6,850
Excess tax benefit from exercise of stock options	$	695		$	─		$	5,273		$	─

As of March 31, 2006, the total compensation cost related to non-vested awards not yet recognized was approximately $28.7 million and the period over which it is expected to be recognized is 3.8 years. The Board of Directors may grant additional stock options or other equity-based compensation, which would result in additional operating expenses being recorded in future periods.

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The fair value of each stock option grant is estimated on the date of grant using the Black-Scholes option-pricing model. The fair value of stock options granted during the nine month periods ended March 31, 2006 and 2005, were estimated using the following assumptions

	Nine months ended March 31,
		2006		2005
Risk free interest rate		4.5	%	4.2	%
Dividend yield		─		─
Expected volatility		72	%	80	%
Expected life of stock options		6.3 years		6.3 years

The weighted average risk-free rate is the average interest rates of U.S. government bonds of comparable term to the stock options on the dates of the stock option grants. The dividend yield is assumed to be nil because the Company has not paid, and management does not currently expect to pay, a dividend. Expected volatility is derived from historical volatility of the Company’s American Depositary Shares as quoted on NASDAQ. The expected life of stock options granted is derived from the historical activity of the Company’s stock options and represents the period of time that stock options granted are expected to be outstanding. The stock options were granted at an exercise price equal to the closing market price on the last trading day before the date of grant.

The terms of certain stock options were modified during the fiscal year ended June 30, 2005, as described below.

In December 2004, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards (“SFAS”) No. 123 (R), “Share-Based Payment” (“SFAS No. 123 (R)”). This standard requires the cost of employee compensation paid with equity instruments to be measured based on grant date fair values. That cost is recognized over the vesting period. SFAS No. 123 (R) became effective for the Company on July 1, 2005. The Company has adopted the modified prospective method to transition to SFAS No. 123 (R). The compensation cost attributable to awards which were unvested as of July 1, 2005 is recognized in the income statement using the accelerated attribution method and the same estimates of grant date fair value had previously been disclosed in the Company’s financial statements. For awards granted after July 1, 2005, the compensation cost is recognized ratably over the vesting period using estimates of fair value made as of the grant date.

For all periods ending prior to July 1, 2005, stock-based compensation was accounted for by using the intrinsic value-based method in accordance with APB No. 25, “Accounting for Stock Issued to Employees” (“APB25”) and the Company followed the disclosure-only provisions of SFAS No. 123, “Accounting for Stock-Based Compensation.” As a result of adopting SFAS No. 123 (R) on July 1, 2005, the Company’s income before income taxes and net income for the three and nine month periods ended March 31, 2006 was approximately $0.7 million and $0.7 million lower, respectively, than if it had continued to account for stock-based compensation under APB25.

The following table reflects the effect on net income and earnings per share as if the Company had applied the fair value recognition provisions for stock option-based employee compensation using a Black-Scholes option valuation methodology, for periods prior to the adoption of SFAS No. 123 (R). These pro forma effects may not be representative of future stock option-based compensation expense since the estimated fair value of stock options on the date of grant is amortized to expense over the vesting period and additional stock options may be granted in future years. Additionally, the terms of certain stock options held by the Company’s previous Chief Financial Officer were modified on his departure, and the vesting of certain stock options was accelerated on June 27, 2005 (as discussed below).

	For the three			For the nine
	months ended			months ended
(in thousands, except per share amounts)	March 31, 2005			March 31, 2005
Net income, as reported	$	16,590		$	52,091
Add: Stock option-based compensation cost included in the determination
of net income as reported (net of tax benefits of $223 and $1,556)		344			2,401
Deduct: Total stock option-based compensation determined under
fair value based method for all awards, (net of tax benefits of $510 and $1,100)		(3,013	)		(6,497	)
Pro-forma net income	$	13,921		$	47,995

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	For the three		For the nine
	months ended		months ended
(in thousands, except per share amounts)	March 31, 2005		March 31, 2005
Net income per share
Basic net income per share, as reported	$	0.30	$	0.95
Diluted net income per share, as reported	$	0.29	$	0.92
Pro-forma basic net income per share	$	0.25	$	0.88
Pro-forma diluted net income per share	$	0.24	$	0.85

In recognition of his contribution to the Company, the Remuneration Committee of the Company’s Board of Directors (“the Remuneration Committee”) modified the terms of certain vested stock options held by the previous Chief Financial Officer such that those stock options could have been exercised at any time prior to September 20, 2005 rather than lapsing on his departure in October 2004. The additional charge recorded in the statement of operations in the nine months ended March 31, 2005 was $1.3 million, net of tax of $0.6 million.

On June 27, 2005, the Remuneration Committee approved the acceleration of vesting of unvested out-of-the-money stock options granted under the Company’s stock option plans. The affected stock options were those with exercise prices greater than $32.50 per share, which was the closing price of the Company’s Series A ordinary shares (as traded on NASDAQ in the form of American Depositary Shares) on June 21, 2005. As a result of this action, the vesting of approximately 551,000 previously unvested stock options was accelerated and those stock options became immediately exercisable. The action did not accelerate the vesting of any of the unvested stock options held by Directors, the Chief Executive Officer or the Chief Financial Officer.

The Remuneration Committee’s decision to accelerate the vesting of these stock options was in anticipation of compensation expense to be recorded subsequent to the effective date of SFAS No. 123 (R) on July 1, 2005. Incremental expense of approximately $9.6 million ($8.8 million, net of tax) associated with the acceleration was recorded in the fourth quarter fiscal 2005 pro forma disclosure.

Note 12.Abandoned property leases

In fiscal 2001, the Company decided to abandon its leased premises at Heathrow, England which the Company vacated in September 2000. Additional accruals were made in fiscal 2003, in fiscal 2004, and again in the three months ended December 31, 2004, as the Company was unable to assign the lease back to a former tenant. During the three months ended March 31, 2005, the Company committed to reoccupy most of the premises and the Company reversed a part of the accrual previously made in that period; a further reversal was made in the three months ended September 30, 2005. The Company reoccupied part of the premises in October 2005; there are no plans to re-occupy the remaining part of the premises. All amounts accrued and reversed have been included within general and administrative expenses in the consolidated statement of operations and within accrued expenses in the consolidated balance sheet. Additionally, in November 2005, the Company consolidated its U.S. operations at a single facility at Costa Mesa, California and abandoned its two previous premises in California. An accrual for obligations from the cease use date until the termination of the leases of those two abandoned properties was recorded during the three months ended December 31, 2005 in the consolidated statement of operations within cost of goods and services sold ─ operations.

	For the three months						For the nine months
	ended March 31,						ended March 31,
(in thousands)	2006			2005			2006			2005
Beginning of period	$	510		$	11,132		$	1,141		$	8,727
Additions		─			─			652			2,973
Reversals		─			(8,056	)		(226	)		(8,056	)
Used		(303	)		(497	)		(1,352	)		(1,588	)
Foreign exchange movements		3			(337	)		(5	)		186
End of period	$	210		$	2,242		$	210		$	2,242

Page 11

The cumulative amount paid through March 31, 2006 was $10.7 million and the total amount charged to the profit and loss net of releases up to March 31, 2006 was $10.9 million. The accrual as of March 31, 2006 of $0.2 million is expected to be used by June 30, 2006.

Note 13.Pension expense

The elements of expense related to the defined benefit scheme which the Company operates are as follows:

	For the three months						For the nine months
	ended March 31,						ended March 31,
(in thousands)	2006			2005			2006			2005
Service cost	$	44		$	44		$	132		$	129
Interest cost		241			229			727			672
Expected return on plan assets		(203	)		(171	)		(613	)		(501	)
Amortization of unrecognized net loss		143			115			433			336
	$	225		$	217		$	679		$	636

During the nine months ended March 31, 2006, the Company made an additional voluntary cash contribution of $0.9 million into the defined benefit scheme.

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Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

This document contains statements that constitute “forward-looking statements” within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended, and Section 27A of the Securities Act of 1933, as amended. The words “expect,” “estimate,” “anticipate,” “predict,” “believe” and similar expressions and variations thereof are intended to identify forward-looking statements. These statements appear in a number of places in this document and include statements regarding the intent, belief or current expectations of NDS Group plc (the “Company”), its directors or its officers with respect to, among other things, trends affecting the Company’s financial condition or results of operations. Readers of this document are cautioned that any such forward-looking statements are not guarantees of future performance and involve risks and uncertainties. Those risks and uncertainties are discussed under the heading “Risk Factors” below, in the Company’s Annual Report on Form 10-K as filed with the Securities and Exchange Commission (“SEC”) on September 8, 2005 (SEC file no. 0-30364), as well as the information set forth elsewhere in this Quarterly Report. The Company does not ordinarily make projections of its future operating results and undertakes no obligation (and expressly disclaims any obligation) to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise, except as required by law. Readers should carefully review other documents filed by the Company with the SEC. This section should be read in conjunction with the unaudited consolidated financial statements of the Company and related notes set forth elsewhere herein.

Introduction

Management’s discussion and analysis of financial condition and results of operations is intended to help provide an understanding of the Company’s financial condition, changes in financial condition and results of operations, and is organized as follows:

·   Overview of our business ─ This section provides a general description of our business, as well as recent developments that have occurred during fiscal 2006 that we believe are important in understanding the results of operations and financial condition or to disclose known future trends.

·   Critical accounting policies and estimates─ This section discusses our revenue accounting policies which we consider important to an understanding of our results of operations, and which require significant judgment and estimates on the part of management in application.

·   Results of operations ─ This section provides an analysis of our results of operations for the three and nine month periods ended March 31, 2006 and 2005. In addition, a brief description is provided of significant transactions and events that impact the comparability of the results being analyzed.

·   Liquidity and capital resources ─ This section provides an analysis of our cash flows for the nine month periods ended March 31, 2006 and 2005. It includes a discussion of the financial capacity available to fund our future commitments and obligations, as well as a discussion of other financing arrangements.

Overview of our Business

We supply open end-to-end digital technology and services to digital pay-television platform operators and content providers. Our technologies include conditional access and microprocessor security, broadcast stream management, set-top box middleware, electronic program guides (“EPGs”), digital video recording (“DVR”) technologies and interactive infrastructure and applications. We provide technologies and services supporting both standard definition and high definition television and support a variety of industry standards. Our software systems, consultancy and systems integration services are focused on providing platform operators and content providers with technology to help them profit from the secure distribution of digital information and entertainment to consumer devices which incorporate various technologies supplied by us.

Our main customers are the digital pay-television platform operators who invest in a broadcast infrastructure to deliver video and data to multiple subscribers. A broadcast distribution infrastructure consists of three main elements:

1)   a broadcast head-end, which includes technologies which encrypt and package the video and other data into a broadcast stream;

2)   a distribution system which transmits the broadcast stream to an end-user (e.g. via satellite, broadband, cable, terrestrial). The distribution system may contain a “return path”, that is, a means for communications to be sent securely from the subscriber back to the broadcaster; and

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3)   a set-top box which converts the broadcast signal into television video. Conditional access technologies (which include a smart card inserted into the set-top box) ensure that subscribers can only decrypt content for which they have been authorized by the platform operator. The set-top box also contains the technologies, including middleware, which enable the consumer to use features such as EPGs, DVRs and interactive applications.

We supply technologies which provide components within the broadcast head-end and in the set-top box. We supply smart cards and security maintenance services to maintain the security of the broadcast platform. Our technologies have been implemented to be used on a variety of distribution systems.

A platform operator can broadcast to an increasing number of subscribers by adding additional set-top boxes and the associated smart cards, without the need to add additional components to the head-end. Therefore, a broadcast platform is scalable within the design parameters. Accordingly, we charge fees that are dependent on the number of subscribers to the platform and the extent to which our technologies are actually used by subscribers. A part of our revenue growth derives from subscribers increasing the number of set-top boxes in their homes and upgrading their set-top boxes to newer models which contain additional functionality.

In addition to selling to platform operators, we may sell interactive applications to content providers. Such customers usually do not operate a broadcast platform, but provide content for transmission over a platform operator’s network. The applications we sell to content providers make use of the functions and capabilities of the broadcast infrastructure.

We work with suppliers of other components of a broadcast platform, such as broadcast equipment and set-top box manufacturers. A particular platform operator may purchase some components from our competitors. We integrate our technologies with those of other suppliers to provide a platform operator with the functionality required.

Our customers consist of a limited number of large digital pay-television platform operators who are introducing, marketing and promoting products and services that utilize our technology. We currently derive, and we expect to continue to derive, a significant portion of our revenues from a limited number of large customers. Our three largest customers are DIRECTV in the United States, BSkyB in the United Kingdom and Sky Italia in Italy. Together, these three customers contributed, directly and indirectly, approximately 70% of our revenues in the nine months ended March 31, 2006. We expect that a limited number of customers will continue to contribute a significant portion of our revenues. If a large customer purchases significantly less of our products or services, defers or cancels orders or terminates its relationship with us, our revenues could decline significantly and as a result, our business, operating results and financial condition could be materially adversely affected.

We compete primarily with technologies such as NagraVision (developed by Kudelski SA), DigiCypher (developed by Motorola, Inc.), Power Key (developed by Scientific-Atlanta, Inc.), OpenTV (developed by OpenTV Corp.) and MSTV (developed by Microsoft Corporation) both to attract new customers and to retain our existing customers. In addition, some of the companies that currently operate in the software business, but which have not historically been active competitors of ours, may, through acquisitions or the development of their own resources, seek to enter and obtain significant market share in our current or planned business areas.

A significant portion of our revenues is dependent upon our customers’ subscriber base, the growth in their subscriber base and the related quantities of set-top boxes deployed. If our customers’ subscriber numbers decline or do not continue to increase, we are unlikely to be able to generate substantial revenue growth or sustain our current revenue levels and, as a consequence, our business, operating results and financial condition could be materially adversely affected.

Unauthorized viewing and use of content may be accomplished by counterfeiting our technology or otherwise circumventing its security features. A significant incidence of signal theft could require the replacement of a platform operator’s smart cards sooner than otherwise planned. In those cases where we have accepted specific responsibilities for maintaining the security of a platform operator’s conditional access system, significant costs could be imposed on us if a security breach requires an accelerated replacement of smart cards.

Revenues can vary from period to period as our revenues reflect a small number of relatively large orders for our technology and services. These generally have long sales and order cycles, and delivery and acceptance of our products and services fluctuate over the course of these cycles. Our accounting policies frequently require us to defer revenue until after our technologies have been deployed by our customers.

We consider that we operate as a single segment and our business is managed as such. There are no separate divisions or profit centers. We assess the financial performance of our business by reviewing specific revenue streams in the aggregate and by customer. We assess our costs by considering individual cost centers and their aggregation into the general cost categories as described below.

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Revenues

We derive revenues from:

1)   Fees for the supply of an initial system and subsequent additional functionality and maintenance services. These fees are typically based on the amount of manpower required to customize, integrate and install the system components and subsequently to maintain those components. We refer to such fees as “integration, development and support revenues.”

2)   Fees from the sale of smart cards and the provision of security maintenance services. These fees are typically based on the number of smart cards supplied and the number of subscribers and/or smart cards authorized for a particular platform. Our fees may be reduced if the security of the system is compromised. We refer to fees from the sales of smart cards and the provision of security maintenance services as “conditional access revenues.”

3)   Fees linked to the deployment and use of our technologies. These fees are typically based on the number of set-top boxes manufactured or deployed which contain the relevant technologies. Other fees may be based on the extent to which the technologies are used by subscribers. For example, we may receive a share of incremental revenues generated by a platform operator or content provider from an application which incorporates our technologies. We refer to such fees as “license fees and royalties.”

These different types of fees are presented as three separate revenue streams in our statement of operations because they are influenced by different external factors.

We distinguish between revenues from “established technologies” and revenues from “new technologies”. We categorize as revenues from established technologies our revenue from conditional access, middleware and program guide technologies and fees from the customization and integration of those technologies into head-end systems and set-top boxes. Revenues from these technologies are allocated between the three different revenue streams identified above. We aggregate under our separate new technologies revenue stream all revenues which we derive from DVR technologies, technologies involving the distribution of video content over broadband networks (“IP-TV”), interactive infrastructure and applications, and games and gaming. As our business develops, we will consider whether these groupings of revenue remain appropriate.

Costs and expenses

Our costs and expenses consist of the physical and processing costs of smart cards, personnel, travel and facilities costs, royalties paid for the right to use and sub-license certain intellectual property rights owned by third parties and the amortization of intangible assets, being intellectual property rights which we have acquired for incorporation within our technologies.

The physical costs of smart cards include the costs of the integrated circuits manufactured by third party suppliers, the micro-module which houses the computer chips and the plastic body of the smart cards. We do not manufacture smart cards, but our engineers design computer chips embedded in the smart cards. We arrange for the chips to be manufactured and assembled by third party suppliers. Smart card costs are dependent upon the costs of raw materials, including the cost of computer chips, plastic and assembly, and the quantity of smart cards purchased and processed in any period.

Personnel and facilities costs are allocated to four categories: operations, research and development, sales and marketing, and general and administration. We have employees and facilities in the United Kingdom, the United States, Israel, India, France, Denmark, Korea, China, Hong Kong and Australia.

We classify operations costs as part of cost of goods and services sold. Operations costs include the costs of personnel and related costs, including an allocation of facilities costs, associated with our customer support and with integration and development activities undertaken under a customer contract. Operations costs include the costs of operating our two smart card processing plants, including the depreciation of our smart card processing equipment. Our operations costs have increased during the three and nine month periods ended March 31, 2006 as a result of a greater proportion of our total technical employees being deployed on customer projects, as well as an increase in the total number of our technical employees.

Research and development costs consist mainly of personnel and related costs, including an allocation of facilities costs, attributable to our technical employees who are developing our technology and adapting it for specific customer requirements. These costs also include consumables and the depreciation of equipment used in development and test activities and are net of the benefit of grants and other incentives. Our research and development costs have declined during the three and nine month periods ended March 31, 2006. As a result of a greater proportion of our technical employees being deployed on customer projects (and the cost therefore being included within operations), a corresponding lower proportion of our technical employees have been deployed on developing our technology and adapting it for specific customer requirements.

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Sales and marketing costs mainly consist of personnel and related costs, including an allocation of facilities costs, of our sales and marketing staff in the United Kingdom, Europe and the Middle East, the United States and the Asia-Pacific region. Marketing costs also include advertising, exhibitions, marketing communications and demonstration activities.

General and administration costs consist primarily of executives and other personnel, facilities, legal and administration costs.

Critical accounting policies and estimates

Our discussion and analysis of our financial condition and results of operations is based upon our consolidated financial statements, which have been prepared in accordance with U.S. generally accepted accounting principles (“GAAP”). The arrangements under which we supply technologies and services to our customers are complex and require us to make an assessment as to the most appropriate way to recognize revenue in accordance with GAAP.

Where an arrangement includes more than incidental software elements, we follow Statement of Position 97-2: “Software Revenue Recognition” (“SOP 97-2”). Where an arrangement does not involve the supply of software and that arrangement is separate from an arrangement for the supply of software, we follow Staff Accounting Bulletin No. 104: “Revenue Recognition,” (“SAB 104”) and Emerging Issues Task Force Issue No. 00-21: “Revenue Arrangements with Multiple Deliverables” (“EITF 00-21”). Many of our arrangements cover the supply of multiple deliverables. We have to make an assessment of the value of any undelivered elements of an arrangement in the manner required by GAAP and to defer revenue unless and until the criteria specified by GAAP have been met. As our business develops, other accounting guidance may become applicable. A summary of our revenue recognition accounting policies is set out in Note 3 to the accompanying unaudited consolidated financial statements. We set out below how we apply the policies to our different types of commercial arrangements:

Conditional access revenues

Our conditional access revenue stream comprises revenues from the sale of smart cards and the provision of security maintenance services to customers using our established technologies. Most of the arrangements for the supply of smart cards and the provision of security services are separate from arrangements for the supply of the initial broadcast platform and do not involve the supply of software. Accordingly, they are accounted for under the principles of SAB 104 and EITF 00-21.

Conditional access ─ Smart cards

Smart cards are hardware devices which we sell to platform operators for distribution to and use by their subscribers. Revenue derived from sales of smart cards is recognized upon delivery of the smart cards in accordance with contractual terms. Appropriate provision is made for warranty and similar arrangements agreed with customers.

Conditional access ─ Security services

For some contracts, we receive fees from platform operators for the maintenance of security of conditional access systems for a specified duration which is typically between 24 and 48 months. Such services provide the platform operator with a greater level of security than would be obtained by simply relying on the security features contained within the smart card. Fees are received over the duration of the agreed service period and are related to the number of subscribers or authorized smart cards of the relevant broadcast platform. These revenues are recognized over the term of the security contract in the period in which the security maintenance activities are performed. In some instances, the maintenance of security includes a requirement to replace a population of smart cards with a supply of “changeover cards” which is considered a separate unit of accounting. In such instances, an amount of maintenance income is deferred and recognized when the changeover cards are delivered. The amount of revenue to be deferred is based on the fair value of the undelivered future changeover cards. The estimate of the amount of revenue to be deferred requires management to make assessments of the timing of the card changeover, the volume of changeover cards to be supplied and the fair unit revenue for those changeover cards.

There were no card changeovers during the three and nine month periods ended March 31, 2006 or 2005, however, we have obligations to supply changeover cards in future periods. Accordingly the amount of revenue deferred under this type of arrangement has increased from $87.9 million as of June 30, 2005 to $122.7 million as of March 31, 2006.

Integration, development and support revenues

The arrangements under which we generate integration, development and support revenues typically involve the supply of software and are therefore accounted for in accordance with SOP 97-2. Such arrangements may involve multiple deliverables. In order to determine when we can recognize revenue under these arrangements, we have to assess whether we have delivered all the elements contained within the arrangement. If there are undelivered elements, we have to consider whether we have vendor specific objective evidence of the value of the undelivered elements. Where no such vendor specific objective evidence is available, we defer recognizing revenue until all items have been delivered. Where the only undelivered element relates to post-contract support, we recognize all revenue arising from the arrangement over the period over which post-contract support is provided. Revenue recognized is allocated to the appropriate revenue stream within our statement of operations. The assessment of these matters is complex and requires management to assess whether the value attributed to undelivered elements is supported by adequate vendor specific objective evidence. As a result of applying GAAP, revenue may be recognized after the technology has been deployed commercially by the platform operator or content owner.

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License fees and royalty revenues

License fee and royalty revenue is earned from the supply of software and accordingly is accounted for in accordance with SOP 97-2. Royalties are generally a function of the quantity of set-top boxes manufactured or deployed, which in turn is dependent upon the ability of the platform operator or service provider to generate new subscribers. The arrangements under which we earn royalty income and the application of SOP 97-2 to those arrangements typically result in revenues being recognized over a period of several years after the underlying software has been delivered. Subject to the other criteria of SOP 97-2 having been met, revenues are recognized when we have sufficiently reliable evidence of the volumes of set-top boxes manufactured or deployed. This is typically one to three months after actual manufacture or deployment.

Results of operations

Commentary on three and nine month periods ended March 31, 2006

Revenue

Revenue for the periods under review was as follows:

	For the three months
	ended March 31,
(in thousands)	2006		2005		Change			% Change
Conditional access	$	89,458	$	66,712	$	22,746			+34	%
Integration, development & support		10,393		13,855		(3,462	)		-25	%
License fees & royalties		18,994		18,319		675			+4	%
New technologies		29,193		26,131		3,062			+12	%
Other		1,166		1,577		(411	)		-26	%
Total revenue	$	149,204	$	126,594	$	22,610			+18	%

	For the nine months
	ended March 31,
(in thousands)	2006		2005		Change			% Change
Conditional access	$	260,222	$	243,755	$	16,467			+7	%
Integration, development & support		36,087		42,680		(6,593	)		-15	%
License fees & royalties		70,501		53,157		17,344			+33	%
New technologies		73,099		64,641		8,458			+13	%
Other		5,993		5,263		730			+14	%
Total revenue	$	445,902	$	409,496	$	36,406			+9	%

The increase in conditional access revenues in the three months ended March 31, 2006 compared to the corresponding period in fiscal 2005 was due to higher security fees and higher deliveries of smart cards. For the nine months ended March 31, 2006, the increase in conditional access revenues was due to an increase in security fees which was partially offset by lower deliveries of smart cards than in the corresponding period in fiscal 2005.

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Higher security fees arise from increases in the number of authorized smart cards in use at our broadcast platform customers, which have grown as follows:

	For the three months				For the nine months
	ended March 31,				ended March 31,
(in millions)	2006		2005		2006		2005
Number of authorized cards, beginning of period		61.4		51.8		56.7		44.0
Net additions		2.6		2.9		7.3		10.7
Number of authorized cards, end of period		64.0		54.7		64.0		54.7

There has been growth in authorized cards in use across most of our broadcast platform customers. However, the increases in the three and nine month periods ended March 31, 2006 were less than the increases in the corresponding respective periods of the previous fiscal year, which were favorably impacted by the migration of Sky Italia subscribers to NDS technology.

The increase in the number of smart cards delivered in the three month period ended March 31, 2006, compared to the corresponding period in fiscal 2005, was due to higher deliveries, principally to DIRECTV, Cablevision and customers in China. The decrease in the number of smart cards delivered in the nine month period ended March 31, 2006, compared to the corresponding period in fiscal 2005, reflects lower year-to-date demand from DIRECTV and Sky Italia offset in part by higher shipments to customers in China. The quantity of smart cards delivered in each period was as follows:

	For the three months				For the nine months
	ended March 31,				ended March 31,
(in millions)	2006		2005		2006		2005
Number of smart cards delivered		6.8		5.1		18.4		22.0

Revenues from integration, development and support decreased by 25% and 15% in the three and nine month periods ended March 31, 2006, respectively, compared to the corresponding periods of the previous fiscal year. Revenue in the first nine months of fiscal 2006 from integration, development and support reflects the delivery of a series of enhancements to our customers and middleware technology development revenue. The corresponding prior year period included higher revenue from the migration of Sky Italia subscribers to NDS technology.

Revenues from license fees and royalties increased by 4% and 33% in the three and nine month periods ended March 31, 2006, respectively, compared to the corresponding periods of the previous fiscal year. The increase was mainly due to middleware and program guide technology supplied to DIRECTV, who, in early summer 2005, commenced the download of our MediaHighway middleware and related technologies to certain models of set-top boxes in use by their subscribers. The increase in the cumulative number of MediaHighway-enabled set-top boxes in each period was as follows:

	For the three months				For the nine months
	ended March 31,				ended March 31,
(in millions)	2006		2005		2006		2005
Number of MediaHighway-enabled set-top boxes,
beginning of period		34.1		19.3		20.4		18.4
Additions		4.3		0.4		18.0		1.3
Number of MediaHighway-enabled set-top boxes, end of period		38.4		19.7		38.4		19.7

The increase in revenues from new technologies of 12% and 13% in the three and nine month periods ended March 31, 2006, respectively, compared to the corresponding periods of the previous fiscal year, was due to the increase in revenue from our Synamedia IP-TV technologies, interactive infrastructure and gaming applications. This was due to the higher number of subscribers using this technology and the addition of our technology on new platforms. We also received higher development and royalty income related to the deployment of our advanced DVR technologies by several of our customers.

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The increase in the cumulative number of DVR-enabled set-top boxes in each period was as follows:

	For the three months				For the nine months
	ended March 31,				ended March 31,
(in millions)	2006		2005		2006		2005
Number of DVR-enabled set-top boxes, beginning of period		2.0		0.9		1.4		0.4
Additions		0.7		0.1		1.3		0.6
Number of DVR-enabled set-top boxes, end of period		2.7		1.0		2.7		1.0

The increase in the number of DVR-enabled set-top boxes using our technology is primarily due to DIRECTV, which commenced deployment of our DVR technology within their new generation set-top box in November 2005. Our revenues under our set-top box technology contract with DIRECTV are significantly influenced by the number of set-top boxes manufactured and deployed which use our DVR technologies.

In addition to the matters referred to above, comparisons of revenues for the three and nine month periods ended March 31, 2006 to the corresponding periods of the previous fiscal year were also affected by the relative strength of the U.S. dollar in the first nine months of fiscal 2006 compared to the first nine months of fiscal 2005. Approximately 47% of our revenues are denominated in currencies other than the U.S. dollar (principally pounds sterling and euros). We estimate that the stronger U.S. dollar has adversely impacted our total reported revenues by approximately 3%.

Cost of goods and services sold and gross margin

Cost of goods and services sold and gross margin for the periods under review were as follows:

	For the three months
	ended March 31,
(in thousands)	2006			2005			Change			% Change
Smart card costs	$	21,617		$	22,996		$	(1,379	)		-6	%
Operations		32,679			19,751			12,928			+65	%
Royalties		2,727			2,815			(88	)		-3	%
Other		937			2,399			(1,462	)		-61	%
Total cost of goods and services sold	$	57,960		$	47,961		$	9,999			+21	%
Gross margin	$	91,244		$	78,633		$	12,611			+16	%
Gross margin as a percentage of revenues		61.2	%		62.1	%		-0.9	%

	For the nine months
	ended March 31,
(in thousands)	2006			2005			Change			% Change
Smart card costs	$	66,324		$	94,338		$	(28,014	)		-30	%
Operations		101,260			52,360			48,900			+93	%
Royalties		8,405			10,573			(2,168	)		-21	%
Other		3,570			2,643			927			+35	%
Total cost of goods and services sold	$	179,559		$	159,914		$	19,645			+12	%
Gross margin	$	266,343		$	249,582		$	16,761			+7	%
Gross margin as a percentage of revenues		59.7	%		60.9	%		-1.2	%

Page 19

We consider that gross margin, defined as revenues less costs and expenses associated with those revenues (i.e., cost of goods and services sold), is an important measure for our management and investors. We consider that it gives a measure of profitability that distinguishes between those costs which are broadly a function of direct revenue-earning activities and costs which are of a general nature or which are incurred in the expectation of being able to earn future revenues. Cost of goods and services sold exclude charges in respect of the amortization of intellectual property rights and other finite-lived intangibles which we have acquired.

The decrease in smart card costs in the three month period ended March 31, 2006, compared to the corresponding period of the previous fiscal year, was due to the lower unit costs. Lower deliveries of smart cards supplied in the nine month period ended March 31, 2006, compared to the corresponding period of the previous fiscal year, also reduced smart card costs. Operations costs include employee and facilities costs related to smart card processing, customer support and development projects undertaken under customer contracts. The increase in operations costs over the corresponding period of the prior fiscal year was due to an increase in the number of our employees working on development, integration and support activities for our customers. Royalty costs are a function of particular revenue items and the changes in royalty expense for the three and nine months ended March 31, 2006 were due to changes in the mix of revenues.

As a consequence of these factors, gross margin as a percentage of revenues was 61.2% for the three months ended March 31, 2006, compared to 62.1% for the corresponding period of the prior fiscal year. For the nine months ended March 31, 2006, gross margin as a percentage of revenues was 59.7%, compared to 60.9% for the corresponding period of the prior fiscal year.

Operating expenses

Operating expenses for the periods under review may be analyzed as follows:

	For the three months
	ended March 31,
(in thousands)		2006			2005			Change		% Change
Research & development	$	36,608		$	40,847		$	(4,239	)	-10	%
Sales & marketing		7,762			7,035			727		+10	%
General & administration		11,371			4,995			6,376		+128	%
Amortization of intangibles		2,242			3,286			(1,044	)	-32	%
Other		(2,151	)		(160	)		(1,991	)	**
Total operating expenses	$	55,832		$	56,003		$	(171	)	─	%
**: Not meaningful.

	For the nine months
	ended March 31,
(in thousands)	2006			2005			Change			% Change
Research & development	$	103,053		$	119,501		$	(16,448	)		-14	%
Sales & marketing		21,767			19,154			2,613			+14	%
General & administration		29,145			32,280			(3,135	)		-10	%
Amortization of intangibles		7,0389,576			(2,538	)		-27	%
Other		(127	)		(2,974	)		2,847			**
Total operating expenses	$	160,876		$	177,537		$	(16,661	)		-9	%
**: Not meaningful.

Our main operating costs are employee costs, facilities costs, depreciation and travel costs.

Page 20

Our employee numbers (including contractors) have increased over the period under review, as follows:

	For the three months				For the nine months
	ended March 31,				ended March 31,
	2005		2006		2005		2006
Number of employees, beginning of period		2,725		2,234		2,508		2,004
Additions		182		147		399		377
Number of employees, end of period		2,907		2,381		2,907		2,381
Average number of employees during period		2,806		2,303		2,701		2,181

We have continued to recruit software development engineers and staff supporting customers. As a consequence of higher employee numbers, we have occupied additional facilities in the United Kingdom, the United States and India, and increased our infrastructure costs. Accordingly, our total operating costs (including that portion reported within cost of goods and services sold) have increased.

A higher proportion of our engineering activities have been involved in revenue-generating projects for our customers and this has resulted in a higher amount and proportion of the total costs of our technical employees being classified as cost of goods and services sold. The residual costs of our technical employees represent research and development expenses, being the cost of employees and related items associated with research activities and development activities undertaken at our risk. Such activities involve a mixture of internal research and software development projects focused on the digital broadcasting industry and projects focused on improving functionality to our existing product portfolio. Research and development expenses decreased by 10% and 14% for the three and nine month periods ended March 31, 2006, respectively, compared to the corresponding periods of the prior fiscal year, as a result of a lower proportion of development projects being undertaken at our risk. In addition, in the nine months ended March 31, 2006, we received a $5.3 million grant from the French government as a consequence of being engaged in eligible research projects.

During the three and nine month periods ended March 31, 2006, sales and marketing expenses increased by 10% and 14%, respectively, as a result of increased activity, particularly in Europe and Asia.

General and administrative expenses increased by $6.4 million and decreased by $3.1 million for the three and nine months ended March 31, 2006, respectively, as compared to the corresponding periods of the prior fiscal year. During the three months ended March 31, 2005, our management committed to reoccupy part of a property in Heathrow, England which we had abandoned in 2000 resulting in a reversal of the abandoned property lease accrual of $8.1 million which was no longer needed. The decrease relating to the nine months ended March 31, 2006, was offset by an increase of $3.0 million in the abandoned property accrual that had been recorded for this property during the three months ended December 31, 2004. Excluding the effect of the abandoned property lease accruals noted above, general and administrative expenses decreased by $1.7 million and $8.3 million in the three and nine months ended March 31, 2006, respectively as compared to the corresponding periods of the prior fiscal year. Part of the decrease is a consequence of a lower proportion of the total number of our employees being engaged in general and administrative functions, which in turn, resulted in a reduction in the facilities and infrastructure costs included within general and administrative expenses. Additionally, legal expenses and that element of stock-based compensation expenses which is classified as general and administrative expense were both lower in the three and nine month periods ended March 31, 2006 than in the corresponding periods of the prior fiscal year.

Amortization of finite-lived intangible assets decreased by 32% and 27% in the three and nine month periods ended March 31, 2006, respectively, compared to the corresponding periods of the prior fiscal year. This is as a consequence of certain intellectual property rights becoming fully amortized in May 2005.

Other income credited to operating expenses represents gains on the revaluation of cash and certain other monetary assets and liabilities which are denominated in currencies other than the functional currencies of the entities which hold them.

In addition to the matters referred to above, comparisons of expenses for the three and nine month periods ended March 31, 2006 to the corresponding periods of the previous fiscal year were also affected by the relative strength of the U.S. dollar in the first nine months of fiscal 2006 compared to the first nine months of fiscal 2005. Approximately 50% of our total expenses are denominated in currencies other than the U.S. dollar (principally pounds sterling and euros). We estimate that the stronger U.S. dollar has favorably impacted our total reported expenses by approximately 3%.

Page 21

Operating income and other items

As a result of the factors outlined above, operating income was $35.4 million (or 23.7% of revenue) for the three months ended March 31, 2006, compared to $22.6 million (or 17.9% of revenue) for the corresponding period of the previous fiscal year. For the nine months ended March 31, 2006, operating income was $105.5 million (or 23.7% of revenue) compared to $72.0 million (or 17.6% of revenue) for the corresponding period of the previous fiscal year.

Interest income earned on cash deposits was $4.1 million and $10.5 million for the three and nine month periods ended March 31, 2006, respectively, compared to $2.3 million and $7.1 million, respectively, for the corresponding periods of the previous fiscal year. The increases were due to higher average cash balances and higher interest rates.

Our effective tax rate was 28.7% and 29.9% for the three and nine month periods ended March 31, 2006, respectively, compared to 33.5% and 34.2%, respectively, for the corresponding periods of the previous fiscal year. The decrease in the tax rates was due to lower effective tax rates in our non-U.K. operations.

As a consequence of all these factors, net income for the three months ended March 31, 2006 was $28.1 million, or $0.50 per share ($0.49 per share on a diluted basis), compared to $16.6 million, or $0.30 per share ($0.29 per share on a diluted basis), for the three months ended March 31, 2005. For the nine months ended March 31, 2006, the factors described above resulted in net income of $81.2 million, or $1.45 per share ($1.41 on a diluted basis), compared to $52.1 million, or $0.95 per share ($0.92 per share on a diluted basis), for the corresponding period of the prior fiscal year.

Recent accounting pronouncements

Total operating expenses for the three and nine month periods ended March 31, 2006 include a charge before income tax in respect of stock option expenses of $2.1 million and $3.8 million, respectively. The equivalent charges in the corresponding period of the prior fiscal year amounted to $0.6 million and $4.0 million, respectively. We have adopted the modified prospective method to transition to SFAS No. 123 (R), effective July 1, 2005. The charge recorded in the corresponding periods of the prior fiscal year arose only in respect of stock options whose terms had been modified because stock option compensation was accounted for by using the intrinsic value-based method in accordance with APB No. 25, “Accounting for Stock Issued to Employees” (“APB25”). As a result of adopting SFAS No. 123 (R) on July 1, 2005, our income before income taxes and net income for the three and nine month periods ended March 31, 2006 was lower by approximately $0.7 million and $0.7 million, respectively, than if we had continued to account for stock-based compensation under APB25.

Additionally, in June 2005, the Remuneration Committee of our Board of Directors modified the terms of certain unvested out-of-the-money stock options granted under our stock option plans. The Remuneration Committee’s decision to accelerate the vesting of these stock options was in anticipation of compensation expense to be recorded subsequent to the effective date of SFAS No. 123 (R) on July 1, 2005. The acceleration eliminated approximately $0.9 million ($0.8 million net of tax) which would otherwise have been recorded as an operating expense in the three months ended March 31, 2006. For the nine months ended March 31, 2006, the acceleration eliminated approximately $4.3 million ($3.9 million net of tax) which would otherwise have been recorded as an operating expense.

SFAS No. 123 (R) also requires excess tax benefits realized on the exercise of stock options to be shown as a financing cash inflow rather then as part of cash provided by operating activities. The amount so recorded in the nine months ended March 31, 2006 was $4.1 million.

As of March 31, 2006, the total compensation cost related to non vested awards not yet recognized was approximately $28.7 million and the period over which it is expected to be recognized is 3.8 years. The Directors may grant additional stock options in the future, which would result in additional operating expenses being recorded. Further information about the effect of adopting SFAS No. 123 (R) is provided in Note 11 to the accompanying unaudited consolidated financial statements.

Page 22

Liquidity and capital resources

Current financial condition

Our principal source of liquidity is internally generated funds. We also have access to the worldwide capital markets.

As of March 31, 2006, we had cash, cash equivalents and short-term investments totaling $445.7 million. Our accumulated cash is being held with the intention of using it for the future development of the business and there are currently no plans to pay any dividends to shareholders. We believe that we have sufficient working capital resources for our present requirements. Our internally generated funds are dependent on the continued profitability of our business. As of March 31, 2006, we have an unused credit facility to borrow up to £30 million (equivalent to approximately $52 million) from a subsidiary of News Corporation. No amounts were drawn under this facility during the nine month period ended March 31, 2006.

The principal uses of cash that affect the Company’s liquidity position include purchases of smart cards, operational expenditures, capital expenditures, acquisitions and income tax payments.

Sources and uses of cash

We had a net inflow of cash of $5.5 million in the nine months ended March 31, 2006, compared to a net cash inflow of $75.6 million in the nine months ended March 31, 2005.

Net cash provided by operating activities was as follows:

	For the nine months
(in thousands)	ended March 31,
	2006		2005
Net cash provided by operating activities	$	111,188	$	78,165

The increase in net cash provided by operating activities in the nine months ended March 31, 2006 reflects higher receipts from customers, lower payments for the purchase of smart cards and lower tax payments. These factors were offset in part by higher payments of payroll costs, travel expenses and facilities costs, compared to the corresponding period of the previous fiscal year, as a result of an increase in the number of employees.

Net cash used in investing activities was as follows:

	For the nine months
	ended March 31,
(in thousands)	2006		2005
Capital expenditure	$	21,921	$	13,287
Business acquisitions, net of cash acquired		3,118		17
Proceeds from sale of investments		─		(232	)
Increase in short-term investments		101,035		─
Net cash used in investing activities	$	126,074	$	13,072

The increase in capital expenditure was due to investment in new facilities in the United Kingdom, India and the United States, and higher purchases of technical equipment required to support our customers. In addition, during the nine months ended March 31, 2006, we acquired NT Media Limited for initial cash consideration and costs totaling $3.1 million. Further payments may be made under the terms of the acquisition agreement up to a maximum of approximately $4.2 million over the next three years. During the nine months ended March 31, 2006, we invested a portion of our cash with a bank on deposit for a six month term.

Page 23

Net cash generated by financing activities was as follows:

	For the nine months
	ended March 31,
(in thousands)	2006		2005
Issuance of shares	$	16,253	$	10,543
Excess tax benefits realized on exercise of stock options		4,095		─
Net cash generated by financing activities	$	20,348	$	10,543

Higher numbers of stock options were exercised by employees during the nine months ended March 31, 2006 than in the corresponding period of the prior fiscal year. Certain stock option exercises result in a tax benefit higher than the amounts recorded in the consolidated statement of operations. Following the adoption of SFAS No. 123 (R) which became effective for us on July 1, 2005, such benefits are shown as a financing cash flow to the extent that they are realized, rather than as part of cash provided by operating activities as previously required.

We have evaluated, and expect to continue to evaluate, possible acquisitions and dispositions of certain businesses. Such transactions may be material and may involve cash, our securities and/or the assumption of indebtedness.

Commitments and contractual obligations

Apart from the contingent payments related to the acquisition of NT Media Limited referred to above, there has been no material change to our commitments since June 30, 2005.

Risk Factors

Prospective investors should consider carefully the risk factors set out below before making an investment in the Company’s securities.

Our business will suffer if we do not respond to commercial and technological changes affecting the broadcasting industry.

Our business and the market in which we operate are characterized by rapid commercial and technological change, evolving industry standards and frequent product enhancements. Many digital broadcasters are seeking more sophisticated software which will afford them greater flexibility in delivering content such as news, films and sports. They are also seeking to offer additional services, such as middleware, EPGs, games, gaming and other interactive applications, DVR functionality, home networks services and other services.

Our continued success will depend, in part, upon our ability to develop and market products and services that respond to technological changes and evolving industry standards in a timely and cost-effective manner. If the market in which we operate develops more slowly than we anticipate, or if we should fail to develop and introduce products and services that are compatible with industry standards, satisfy customer requirements and compete effectively with products and services offered by our competitors, our business, operating results and financial condition could be materially adversely affected.

Our business may suffer if we and our customers do not respond to commercial and technological changes affecting the business of delivering information and entertainment, especially the threat of the internet and IP-TV technologies.

Our customers are mainly pay-television platform operators. As technologies develop, other means of delivering information and entertainment to consumers’ televisions are evolving. In particular, telecommunication companies and internet service providers are seeking ways to compete with traditional television companies. As a result, our largest customers may face increased competition which could affect their ability to attract and retain subscribers. If we and our customers do not respond to these commercial and technological changes, our business, operating results and financial condition could be materially adversely affected.

Page 24

Our operating results and growth could decline if our customers’ subscriber bases do not continue to increase.

A significant portion of our revenues is derived from the sale of smart cards to our customers and ongoing fees paid by our customers on a monthly basis based on the number of active subscribers or authorized smart cards. We also receive royalties based on each set-top box manufactured or deployed which incorporates our technology. Therefore, a significant portion of our revenues is dependent upon our customers’ subscriber numbers, the growth in those numbers, the degree to which set-top boxes are replaced with enhanced models and the number of set-top boxes in each subscriber’s home. If our customers’ subscriber numbers do not continue to increase, we may be unable to generate substantial revenue growth or sustain our current revenue levels and, as a consequence, our business, operating results and financial condition could be materially adversely affected.

Our business could be harmed if the security provided by our conditional access systems and products is compromised.

We face risks relating to the failure of our conditional access systems to protect platform operators and content providers from signal theft. An important component of our conditional access systems is the smart cards we provide for the platform operators’ individual subscribers. Unauthorized viewing and use of content may be accomplished by counterfeiting the smart card or otherwise thwarting its security features. Any significant increase in the incidence of signal theft could require the replacement of a platform operator’s smart cards sooner than otherwise planned. In those cases where we have accepted specific responsibilities for maintaining the security of a platform operator’s conditional access system, significant costs could be imposed on us if a security breach requires an accelerated replacement of smart cards. To the extent that signal theft may result in the cessation of all, or some portion of, the per-subscriber fees paid to us by a broadcaster while the security breach is being remedied or, in the event of termination by the broadcaster of our agreement if the breach is not satisfactorily remedied, the resultant loss of revenues could have a material adverse effect on our business, operating results and financial condition. A significant increase in the level of signal theft, whether or not resulting from a failure of our conditional access systems, could also injure the reputation of our conditional access systems among our customers and potential customers and as a consequence, our business, operating results and financial condition could be materially adversely affected.

A substantial part of our expected future revenue and income growth is based on our aim to sell advanced technologies and services to our existing customers and to sell end-to-end systems to new customers.

We expect over the next several years to sell advanced technology solutions for the television market, including DVR functionality, games, gaming and other interactive applications, home networks services and other services. The market for advanced television technology solutions is still new and evolving. Historically, we have derived only a relatively small percentage of our total revenue from these offerings. We cannot be certain that the demand for or the market acceptance of these technologies will develop as we anticipate, and even if they do, we cannot be certain that we will be able to market these solutions effectively and successfully respond to changes in consumer preferences. In addition, our ability to market those solutions will be affected to a large degree by platform operators. If platform operators determine that our solutions do not meet their business or operational expectations, they may choose not to offer our applications to their customers. To the extent that platform operators and content providers fail to renew or enter into new or expanded contracts with us for provision of advanced technologies, we will be unable to maintain or increase the associated revenue from those offerings. Moreover, due to global economic conditions, platform operators may slow the pace of their deployment of these advanced services and such action would negatively impact our revenues. Accordingly, our ability to generate substantial revenues from our advanced technology solutions offerings is uncertain.

Our business could be harmed if a defect in our software or technology interferes with, or causes any failure in, our customers’ systems.

Our software and technology are integrated into the broadcast infrastructure of our customers. Accordingly, a defect, error or performance problem with our software or technology could interfere with, or cause a critical component of, one or more of our customers’ systems to fail for a period of time. This could result in claims for substantial damages against us, regardless of whether we are responsible for such failure. Any claim brought against us could be expensive to defend and require the expenditure of a significant amount of resources, regardless of whether we prevail. Although we have not experienced any such material interference or failure in the past, any future problem could cause severe customer service and public relations problems for our customers and as a consequence, our business, operating results and financial condition could be materially adversely affected.

We depend upon key personnel, including our senior executives and technical and engineering staff, to operate our business effectively, and we may be unable to attract or retain such personnel.

Our future success depends largely upon the continued service of our senior executive officers and other key management and technical personnel. If certain of our senior executives were to leave the Company, we may be placed at a competitive disadvantage. In addition, we may also need to increase the number of our technical, consulting and support employees to support new customers and the expanding needs of our existing customers. We have, in the past, experienced difficulty in recruiting sufficient numbers of qualified personnel. If we are not successful in these recruiting efforts, our business may be adversely affected.

Page 25

Intense competition could reduce our market share and harm our financial performance.

We compete with numerous companies both to attract new customers and to retain our existing customers. Such competition may cause us to lose market share and may result in reduced profit margins. It may also hinder our ability to develop our business in areas such as DVRs, middleware, interactive television services and IP-TV. In addition, some of the companies that currently operate in the software business, but which have not historically been active competitors of ours may, in the future, through acquisitions or the development of their own resources, seek to enter and obtain significant market share in our current or planned business areas. Increased competition from existing or new competitors could result in price reductions, reduced margins or loss of market share, any of which could materially and adversely affect our business, operating results and financial condition.

We derive a significant portion of our revenues from a limited number of large customers. Our revenues could decline significantly if any of these customers significantly reduces its purchases of our technology or services or terminates its relationship with us.

Our growth has depended historically on large digital satellite broadcasters introducing, marketing and promoting products and services that utilize our technology. We currently derive, and we expect to continue to derive, a significant portion of our revenues from a limited number of large customers. Our three largest customers are DIRECTV in the United States, BSkyB in the United Kingdom and Sky Italia in Italy. In the nine months ended March 31, 2006, these three customers accounted directly and indirectly for approximately 70% of our total revenues. We expect that we will continue to be dependent upon a limited number of customers for a significant portion of our revenues, although the particular customers may vary from period to period. If a large customer purchases significantly less of our products or services, defers or cancels orders, or terminates its relationship with us, our revenues could decline significantly and as a result, our business, operating results and financial condition could be materially adversely affected.

The adoption of industry-wide standards for interactive television could adversely affect our ability to sell our products and services or place downward pressure on our pricing.

Ongoing efforts to establish industry-wide standards for interactive television software include a commitment by cable network operators in the United States to deploy a uniform platform for interactive television based on a jointly developed specification known as the OpenCable Applications Platform and an initiative by European television industry participants to create a similar platform called Multimedia Home Platform. The establishment of these standards or other similar standards could adversely affect the pricing of our products and services, significantly reduce the value of our intellectual property and the competitive advantage our proprietary technology provides, cause us to incur substantial expenditures to adapt our products or services to respond to these developments or otherwise harm our business, particularly if our products require significant redevelopment in order to conform to the newly established standards.

We are not currently a member of CableLabs, the research and development consortium managing the OpenCable initiative, or certain other standards setting organizations. While we are involved in the activity of CableLabs and while we continually assess our position with respect to any relevant standards setting organizations, and have joined several of them, our failure to participate in certain organizations may affect the willingness of their respective members to conduct business with us and this may adversely affect our ability to sell products or services to cable network operators or other potential customers that are members of those organizations. If that were to be the case, our ability to continue to grow our business might be adversely affected.

The nature of our business is such that our operating results may fluctuate from period to period.

Our operating results have varied in the past from quarter to quarter and from year to year and are likely to vary from period to period in the future. Historically, our revenues have reflected a small number of relatively large orders for our technology and services, which generally have long sales and order cycles. Additionally, our customers may replace their subscribers’ smart cards from time to time to maintain the security of their conditional access systems and this significantly affects our revenue in periods when we supply such replacement smart cards. As a result, we believe that period-to-period comparisons of our operating results may not be a good indication of our future performance. Our actual results may differ from analyst expectations, which could adversely affect the price of our securities.

Page 26

Changes to current accounting policies or in how such policies are interpreted or applied to our business could have a significant effect on our reported financial results.

New accounting pronouncements or a change in how GAAP is interpreted or applied to our business could have a significant effect on our reported results. Our accounting policies that recently have been or may in the future be affected by changes in the accounting rules include revenue recognition, accounting for stock-based compensation and accounting for goodwill and other intangible assets.

Our revenue recognition policy, in particular, is a key component of our results of operations and is based on complex rules that require us to make judgments and estimates. In applying our revenue recognition policy, we must determine what portions of our revenue are recognized currently and which portions must be deferred. Because different contracts may require different accounting treatment, it may be difficult for investors to properly assess our financial condition or operating results unless they carefully review all of our financial information, including our consolidated financial statements and notes thereto.

Failure to protect the intellectual property rights upon which we depend could harm our business.

We rely primarily on a combination of patent, trademark and copyright laws, trade secrets, confidentiality procedures and contractual provisions to protect our intellectual property rights and the obligations we have to third parties from whom we license intellectual property rights. However, we may not be able to detect unauthorized use of, or take appropriate steps to enforce, our intellectual property rights and this could have a material adverse effect on our business, operating results and financial condition.

Defending against intellectual property infringement claims could harm our business.

We may be subject to an increased risk of infringement claims as the number of products and competitors grows and the functionality of products in different industry segments overlaps. It may be alleged that products that we have developed or technology that we have licensed from third parties infringes the rights of others. Intellectual property claims could be time consuming to defend, result in costly litigation, divert management’s attention and resources and cause product shipment delays. Such claims could also require us to seek to enter into royalty or license agreements, redesign our products or potentially cease using aspects of technology, which could have a material adverse effect on our business, operating results and financial condition.

We grant certain indemnification rights to our customers when we license our software technologies. We may, therefore, become subject to third party infringement claims through those commercial arrangements. In addition, the damages to which we are subject may be increased by the use of our technologies in our customers’ products.

Many of our agreements with customers contain an indemnification obligation, which could be triggered in the event that a customer is named in an infringement suit involving their products or involving the customer’s products or services that incorporate or use our products. If it is determined that our products infringe any of the asserted claims in such a suit, we may be prevented from distributing certain of our products and we may incur significant indemnification liabilities, which may adversely affect our business, operating results and financial condition.

In addition, while damage claims in respect of an alleged infringement may, in many cases, be based upon a presumed royalty rate that the patent holder would have otherwise been entitled to, it is possible that our liability may increase as a result of the incorporation of our technology with our customer’s products. In some cases, potential damages against us could be based on the profits derived from a product that infringes through the use of our software even though we receive a relatively moderate economic benefit from the licensing arrangement.

Any significant disruption in our processing of smart cards could adversely affect our business.

We process all of our smart cards at two facilities, one located in England and the other in California. A significant disruption in the processing of smart cards at either facility could result in delays in the delivery of smart cards to our customers. The sale of smart cards which we have processed is a material portion of our business. Although our smart card processing facilities are designed to provide sufficient capacity to meet expected demand if one facility becomes inoperable for a limited period of time, any significant disruption to our smart card processing facilities could result in the loss of revenues, customers and future sales.

We may be unable to process sufficient quantities of smart cards because we obtain certain components from, and depend upon, a limited number of suppliers.

We currently obtain the chips used in our smart cards from a limited number of suppliers. In the event of a disruption of supply, including a shortage of manufacturing capacity, we may be unable to develop an alternative source in a timely manner or at favorable prices. Such failure could harm our ability to deliver smart cards to our customers or could negatively affect our operating margins. This could have a material adverse effect on our business, operating results and financial condition.

Page 27

Political, regulatory and economic risks associated with our international customers could harm our business.

Our customers are located throughout the world. Inherent risks of doing business in international markets include changes in legal and regulatory requirements, export restrictions, exchange controls, tariffs and other trade barriers, longer payment cycles, political disruption, wars, acts of terrorism and civil unrest. We may incur substantial expense as a result of the imposition of new restrictions or changes in the existing legal and regulatory environments in the territories where we conduct our business or due to political and economic instability in these territories.

The telecommunications, media, broadcast and cable television industries are subject to extensive regulation by governmental agencies. These governmental agencies continue to oversee and adopt legislation and regulation over these industries, particularly in the areas of user privacy, consumer protection, online content distribution and the characteristics and quality of online products and services, which may affect our business, the development of our products, the decisions by market participants to adopt our products and services or the acceptance of interactive television by the marketplace in general. In particular, governmental laws or regulations restricting or burdening the exchange of personally identifiable information could delay the implementation of interactive services or create liability for us or any other manufacturer of software that facilitates information exchange. These governmental agencies may also seek to regulate interactive television directly. Future developments relating to any of these regulatory matters may adversely affect our business.

Fluctuations in foreign exchange rates could harm our financial condition.

A risk inherent in our international operations is the exposure to fluctuations in currency exchange rates. Certain of our customer contracts denominate prices in pounds sterling or in euros. During the nine months ended March 31, 2006, approximately 28% of our revenues were denominated in pounds sterling and a further 19% were denominated in euros. Some of our smart card costs and our operating expenses are denominated in pounds sterling and euros. During the nine months ended March 31, 2006, we estimate that approximately 27% of our total cost of sales and operating expenses were denominated in pounds sterling and a further 23% were denominated in euros. As a result, we are exposed to fluctuations in exchange rates which may have a material adverse effect on our business, operating results and financial condition.

Additionally, although most of our contracts with customers in Latin America and the Asia-Pacific region are denominated in U.S. dollars, those customers are affected by fluctuations in their local currencies and by exchange control regulations which may restrict their ability to remit payments to us.

We are subject to certain risks relating to our operations in Israel.

We have research and development facilities in Israel and we have customers in Israel. Therefore, we are directly influenced by the political, economic and security conditions affecting Israel. Any major hostilities involving Israel, or the interruption or curtailment of trade or the movement of people within Israel or between Israel and other countries, could significantly harm our business, operating results and financial condition. Additionally, certain of our employees are currently required to perform annual reserve duty in the Israeli Defense Force and are subject to being called for active military duty at any time. We have, in the past, operated effectively under these requirements. We cannot predict the effect of these obligations on us in the future.

We are controlled by, and are dependent upon our relationship with, News Corporation.

We are controlled by News Corporation. As of the date hereof, News Corporation beneficially owns approximately 74.2% of our total issued and outstanding share capital. Because News Corporation beneficially owns 100% of our Series B ordinary shares, which have ten votes per share (as opposed to our Series A ordinary shares which have one vote per share), it controls approximately 96.6% of our voting power. By reason of such ownership, News Corporation is able to control the composition of our entire Board of Directors and to control the votes on all other matters submitted to a vote of our shareholders. Four of our eight current Directors have been appointed by News Corporation. Additionally, Dr. Abe Peled, our Chairman and Chief Executive Officer, is a member of News Corporation’s Executive Management Committee and from time to time is involved in matters pertaining to News Corporation’s wider business interests.

Businesses in which News Corporation has an interest currently account for, and are expected to continue to account for, a significant portion of our revenues. During the nine months ended March 31, 2006, approximately 77% of our total revenues were derived directly from businesses in which News Corporation has an interest. Those businesses include our three largest customers. Although we believe the terms of our contracts with such related parties are no less favorable to us than those that we could obtain from unrelated third parties, we cannot assure you that this is the case.

In addition, because a number of major broadcasters around the world are owned or controlled by entities that compete with News Corporation or entities in which News Corporation has an interest, our ability to attract customers in which News Corporation does not have an interest may be affected by their perception of our relationship with News Corporation.

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Because we are controlled by News Corporation, we are exempt from certain listing requirements of The NASDAQ Stock Market relating to corporate governance matters.

Over the past several years, the National Association of Securities Dealers has adopted certain listing requirements for companies listed on The NASDAQ Stock Market. As a result of News Corporation’s beneficial ownership of our Series B ordinary shares, we are deemed to be a “controlled company” and accordingly are not subject to some of these requirements, including the requirement that a majority of our board of directors be “independent” under the guidelines established by the National Association of Securities Dealers and certain requirements regarding the determination of our Chief Executive Officer’s compensation and our director nominees. While we do not believe that our exemption from those requirements affects the manner and method by which we manage and operate the Company, investors should be aware that we are not subject to those provisions and may have no obligation to comply with those requirements in the future unless our ownership profile changes.

Since we are a public limited company organized under the laws of England and Wales, your rights as a shareholder differ from the rights of shareholders under U.S. law.

NDS Group plc is a public limited company organized under the laws of England and Wales. The rights of holders of our ordinary shares and, indirectly, many of the rights of holders of our American Depositary Shares (“ADSs”) are governed by English law and by our Memorandum and Articles of Association. These rights differ from the rights of shareholders in U.S. companies. In particular, English law significantly limits the circumstances under which shareholders of English companies may bring derivative actions. Under English law generally, only the Company can be the proper plaintiff in proceedings in respect of wrongful acts committed against us. In addition, it may be difficult for you to enforce liabilities predicated upon U.S. securities laws.

Our share price could be affected by our ordinary shares becoming available for sale in the future or by the dilutive effect of the issue of new shares.

If investors or News Corporation sell substantial amounts of our ADSs or ordinary shares in the public market, the market price of our ADSs could fall. The negative effect of such sales on the market price of our ADSs could be more pronounced given the relatively small number of our ordinary shares in ADS form relative to the total number of shares outstanding. In addition, such sales could create the public perception of difficulties or problems with our technologies and services. These sales may also make it more difficult for us to sell equity or equity-related securities in the future at a time and price that we deem appropriate if we require additional financing.

Interests of existing shareholders may also be diluted due to the existence of stock options granted to certain employees. We may grant further stock options to our Directors, executive officers and employees.

At our annual general meeting held on October 31, 2005, shareholders authorized our Board of Directors, pursuant to Section 80 of the Companies Act 1985 of Great Britain, to allot relevant securities (including ordinary shares, other equity securities and the right to subscribe for or convert securities) for further issuance for a period expiring November 1, 2010. At the same time, our Board of Directors were empowered, pursuant to Section 95 of the Companies Act 1985 of Great Britain, to allot equity securities for cash on a non-pre-emptive basis without first being required to offer them to existing shareholders.

We may issue equity securities in connection with possible future business acquisitions.

Item 3. Quantitative and Qualitative Disclosures About Market Risk

The only significant financial market risk to which we are exposed is to changes in foreign exchange rates. We operate in international markets and have operational presence in several countries. Accordingly, our costs and revenues are denominated in a mixture of U.S. dollars, pounds sterling and euros. Historically, we have not entered into free-standing derivative contracts to hedge foreign exchange exposure arising from operating activities. We expect to review this policy from time to time as circumstances change. No derivative instruments were outstanding as of March 31, 2006.

In certain countries in which we have operations, we are required to make severance payments to employees leaving employment in certain circumstances, on the basis of the latest monthly salary for each year of service. This liability is provided for by payments of premiums to insurance companies under approved plans. The obligation as of March 31, 2006 included within our consolidated balance sheet as non-current accrued expenses was $28.3 million. The value of insurance policies which substantially fund this obligation as of March 31, 2006 was $22.3 million and is included within our consolidated balance sheet as other non-current assets. The bulk of the arrangements relates to our Israeli employees. Because the gross liability reflects the contracts of employment, it is denominated in U.S. dollars, whereas the amount funded by insurance policies is regulated by the government of the State of Israel and is denominated in Israeli shekels. Accordingly, the difference between the gross liability and the amount funded by insurance policies is subject to fluctuations depending on the relative values of the U.S. dollar and Israeli shekel.

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As of March 31, 2006, approximately 80% of our cash was held in U.S. dollars and 13% in pounds sterling, with the remainder being held primarily in euros.

Item 4. Controls and Procedures

a)Disclosure controls and procedures

The Company’s management, with the participation of the Company’s Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of the Company’s disclosure controls and procedures (as such term is defined in Rules 13a-15(e) and 15(d)-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”)) as of the end of the period covered by this quarterly report. Based on such evaluation, the Company’s Chief Executive Officer and Chief Financial Officer have concluded that, as of the end of such period, the Company’s disclosure controls and procedures are effective in recording, processing, summarizing and reporting, on a timely basis, information required to be disclosed by the Company in the reports that it files or submits under the Exchange Act and are effective in ensuring that information required to be disclosed by the Company in the reports it files or submits under the Exchange Act is accumulated and communicated to the Company’s management, including the Company’s Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosure.

b)Internal control over financial reporting

There have not been any changes in the Company’s internal control over financial reporting (as such term is defined in Rules 13a-15(f) and 15(d)-15(f) under the Exchange Act) during the Company’s third quarter of fiscal 2006 that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.

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PART II - Other Information

Item 1. Legal Proceedings

See Note 10a to the accompanying unaudited consolidated financial statements, which is incorporated herein by reference.

Item 1A. Risk Factors

See “Risk Factors” beginning on page 24, which is incorporated herein by reference.

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

Not applicable.

Item 3. Defaults Upon Senior Securities

Not applicable.

Item 4. Submission of Matters to a Vote of Security Holders

Not applicable.

Item 5. Other Information

Not applicable.

Item 6. Exhibits

10.1Non-Executive Director Compensation Summary Sheet. ⁽¹⁾

10.2Letter Agreement dated October 20, 2002 between Raffi Kesten and NDS Technologies Israel Limited. ⁽²⁾

10.3Letter Agreement dated June 22, 2004 between Raffi Kesten and NDS Group plc. ⁽³⁾

12Computation of Ratio of Earnings to Fixed Charges. ⁽¹⁾

31.1Chairman and Chief Executive Officer Certification required by Rules 13a-14 and 15d-14 under the Securities Exchange Act of 1934, as amended. ⁽¹⁾

31.2Chief Financial Officer Certification required by Rules 13a-14 and 15d-14 under the Securities Exchange Act of 1934, as amended. ⁽¹⁾

32Certification of Chairman and Chief Executive Officer and Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of Sarbanes Oxley Act of 2002. ⁽¹⁾

──────────

(1)	Filed herewith.
(2)	Incorporated by reference to Exhibit 10.1 to the Current Report on Form 8K, filed by NDS Group plc with the Securities and Exchange Commission (File No. 0-30364) on April 10, 2006.
(3)	Incorporated by reference to Exhibit 10.2 to the Current Report on Form 8K, filed by NDS Group plc with the Securities and Exchange Commission (File No. 0-30364) on April 10, 2006.

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Signatures

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on

its behalf by the undersigned thereunto duly authorized.

NDS GROUP PLC

(Registrant)

By:/s/ Alexander Gersh

Alexander Gersh

Chief Financial Officer

(Principal Financial Officer)

Date:May 8, 2006

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