ADTRAN Holdings Inc (ADTN) 2003 Q4 法說會逐字稿

Good morning, my name is Jeff, and I will be your conference facilitator. At this time, I would like to welcome everyone to the Adtran fourth quarter earnings release conference call.

All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer period. If you would like to ask a question during that time, simply press star, then the number 1 on your telephone keypad. Questions will be taken in the order they're received. If you would like to withdraw your question, press the pound key.

During the course of this conference call, Adtran representatives expect to make forward-looking statements which reflect management's best judgement based on factors currently known. However, these statements involve risks and uncertainties including: the successful development and market acceptance of new products; the degree of competition in the market for such products; the product and channel mix; component costs; manufacturing efficiencies and other risks detailed in our annual report on form 10-K for the year ended December 31st, 2003. Such risks and uncertainties could cause actual results to differ materially from those in the forward-looking statements which, may be made during this call.

Speaking on today's call from Adtran are Mr. Mark Smith, Chairman and Chief Executive Officer, and Mr. Jim Matthews, Senior Vice President and Chief Financial Officer.

Mr. Smith, you may begin your conference.

Thank you.

I would like to welcome everyone to Adtran's fourth quarter and year-end 2003 conference call. As you can have seen from our press release, 2003 was a very good year for Adtran. Our revenue increased 15% from 2002 while our net income increased 148%.

In our last conference call, we noted the start of an early improvement in IT spending. During the fourth quarter of last year, this improvement accelerated with our Enterprise division customers and also spread to increase the HDSL revenue for our Carrier division. After a three-year period of soft business conditions in our marketplace, it was a pleasure to see our new product and market share gains add to an expanding, rather than a contracting, base of our core business.

At this time, I would like to turn the call over to Jim Matthews, our CFO, who will give you the financial details of 2003 and also our guidance for 2004. Jim.

Thank you, Mark, good morning, everyone.

As disclosed in the press release, revenue for the fourth quarter was $113.8 million sequentially up 7% from $106.2 million in Q3 of 2003 and up 29% from $88.4 million in Q4 of 2002. Enterprise networks division revenues were $39.8 million in Q4, sequentially up 21% from $32.6 million in Q3 of 2003, and up 27% from $31.2 million in Q4 of '02.

We continue to experience a sequential revenue increase for NetVanta internet working products, accompanied by a significant sequential revenue increase in traditional Enterprise network products, which include integrated access devices and DSU/CSUs.

Revenue increases in the Enterprise networks division continued to accrue across multiple customers and all product categories, including continued increases in IED revenue from an incumbent carrier as we continue to see increasing interest among incumbents in using IEDs to reduce the cost of delivering services to their customers. Overall, these trends in Enterprise net works division continued to reflect what we believe to be an improving Enterprise spending environment, accompanied by market share gains in end user markets.

Carrier networks division revenues were $74 million for Q4, sequentially up from $73.6 million in Q3 and up 29% from $57.2 million in Q4 of 2002. Comparing Q4 '03 to Q4 '02, revenue increases in this division occurred across multiple product categories with the larger increases coming from DSLAM, optical access, ace DSL and M13 multiplexor products as we continued to gain market share in these and other areas. On a sequential quarterly basis, HDSL revenues were up significantly, reflecting what we believe to be an improving enterprise spending environment accompanied by market share gains.

Sequential increases in ACSO revenues in the carrier networks division were partially offset by a sequential decrease in DSLAM revenues for the quarter. The sequential decrease in DSLAM revenues for the quarter was due to orders delayed from the fourth quarter of 2003 to the first quarter of 2004. We anticipate revenues for central office DSLAMs, outside plant DSLAMs, optical access and NetVanta products, individually and in total, to increase significantly for year 2004 compared to 2003 as we will discuss in our guidance shortly.

For the total company, HDSL, T-1 product category revenue was $56.4 million for Q4 of '03. Sequentially up 23% from $45.9 million in Q3 of '03 and up 11% from $50.6 million in Q4 of '02. Digital business transport total reach was $8.6 million in Q4, '03, up from $7.1 million in Q3 of '03, and down from $11.2 million in Q4 of '02. Systems were $48.9 million in Q4 of '03, down from $53.3 million in Q3 of '03, but up 83% from $26.6 million in Q4 of '02.

The year-over-year growth in systems revenue was the result of increasing new product revenues comprising NetVanta router and DPM products, Total Access DSLAM products and optical access products. The system's category also includes revenue from Total Access and ATLAS multiplexers, M13 MX's and integrated access devices. Revenue from the international sector approximated 6.1% of total revenue.

Gross margin was 58.2% of revenue during the fourth quarter of 2003, compared to 55.5% for Q3 of '03, and 54.8% for Q4 of '02. The increasing gross margin is the result of continuing improvements in manufacturing efficiencies, product cost reductions and increased revenue from the Enterprise networks division.

Research and development expenses were $15.2 million in Q4 of '03, compared to $15 million in Q3 of '03.

Selling, general and administrative expenses were $22.1 million for Q4 of '03, compared to $20.6 million for Q3 of '03. The $1.5 million sequential increase in SG&A expenses relate to sales and marketing expenses associated with the increase in revenue for the quarter.

Other income, net of interest expense, was $1.4 million in Q4 of 2003, compared to $2.4 million in Q3 of '03. And as we discussed in the last conference call, other income, net of interest expense, for Q3 of '03 included receipt of a settlement payment from a former customer.

Our income tax rate for the quarter was approximately 29%. This puts our tax rate for the year at approximately 31%.

Earnings per share, assuming dilution for Q4 '03, were 26 cents compared to 16 cents for Q4 of '02, and 21 cents for Q3 of '03.

From a balance-sheet perspective, inventories increased $1.7 million from the prior quarter to $40 million roughly on increased revenue. However, trade accounts receivable decreased $1.5 million from the prior quarter to $52.4 million. Even though revenues increased sequentially, DSO's came in at 42 days for the fourth quarter 2003, which was down from 46 days in Q3.

Netcast provided by operating activities came in at a strong $36 million for the three months ended December 31, 2003 and $85 million for the full year. Cash and marketable securities, net of debt, totalled $326 million at December 31, 2003.

Now, we would like to discuss guidance for the year and for the first quarter of 2004.

As most people know, we are a book-and-ship business, therefore, we typically carry very little backlog from quarter-to-quarter. Considering this factor alone makes the process of providing meaningful guidance extremely difficult. However, in recent quarters, we have seen clear indications of increasing activity levels across our customer base and across our product categories resulting in increasing revenue momentum in both core and new products and new markets.

Observing these trends, bouyed by an improving macro environment caused us to believe year 2004 should show continuing revenue growth. For the year 2004, we are guiding revenue to be in the range of $465 million to $485 million. This reflects a year-over-year increase in revenue up 17 to 22%.

During the year, we are anticipating continuing increases in revenue reflecting the positive effect of improvements in enterprise demand due to an improving economic environment. In addition to increasing fraction of new products and new markets and consuming market share gains and established markets. We are guiding new product revenues to expand to approximately 21 to 23% of total revenue compared to 13% of total revenue for the year 2003.

New products comprised outside plant and central office DSLAMs, optical access products in our new NetVanta range of products comprising access routers, ethernet switches and BPM products. We're anticipating DSLAMs will continue to lead new product revenues in 2004 as we anticipate carriers will begin deploying significant quantities of remote DSLAMs in addition to continuing deployments of central office DSLAMs to meet the demand for an increasing DSL subscriber base.

In our established core markets, we're guiding a net increase in revenues of approximately 6 to 8%. We anticipate net core market growth will be led by our HDSL range of products in the Carrier networks division and integrated access devices in the Enterprise networks division.

We're guiding gross margins for the year to be in the area of 55 to 55.5% as they may settle toward this range as we anticipate price reductions in strategic areas to grow market share. We're guiding operating expenses for the total year to be in the area of about 31.5 to 32% of revenue. We're guiding pretax income to be in the area of about 24.5 to 25% of revenue. We are guiding a net tax provision rate of 33% for the year. This results in an earnings per share range of 91 cents to 96 cents, up 20 to 26% from year 2003.

For the first quarter of 2004, we are guiding revenue to range between $107 million and $110 million. This reflects a year-over-year increase in revenue for the first quarter of 24 to 28%.

We're guiding gross margins to be in the 55 1/2 to 56 1/2 range as they begin to settle towards our 55% target gross margin in subsequent quarters. We're guiding operating expenses for the first quarter to range between $36.5 million and $36.7 million. With an anticipated tax rate of approximately 33% for the first quarter, this should result in earnings per share between 20 cents and 22 cents for the quarter.

Mark, back to you.

Thank you.

As most of you know, new product introductions and our market share gains continue to be the keys to Adtran's success. As we go into 2004, if we can be successful in increasing our new product revenue from last year's 13% to, as Jim forecasted, to over 20% of our total revenue, then 2004 will also become an exceptionally strong year for Adtran. I can assure you that all of the employees at Adtran will be working to continue this record of success that we have had over the last year.

At this point, Jeff, I'd like for you to start the question and answer session. Be happy to attempt to answer any of the questions that anyone may have for us. So Jeff, if you would start the Q&A, it would be fine.

Thank you.

At this time, I would like to remind everyone, in order to ask a question, press star and then the number 1 on your telephone keypad. If you're using a speaker phone, please pick up the handset before asking a question. We'll pause for a moment to compile the Q&A roster.

Your first question comes from Richard Church of Wachovia.

Thanks, good morning guys, nice quarter.

Could you talk a little bit about the DSLAM delay you that mentioned in the quarter? And was this a new customer that delayed the order and what was behind that? Thanks.

Really what we have for this market in the DSLAM area is that the orders are coming pretty healthy chunks. And we basically finished up a significant order for a major customer in the third quarter and had anticipated that the next segment of that business would start to be shipped in the last part of the fourth quarter.

As we got into the holiday season, why it just simply slid into the next quarter and so now this is ongoing account that our anticipated fourth quarter, some of the shipments just slid into the first.

We don't look at the -- at the situation with any concern whatever in that this type of thing is normal for our customer base as we increase the breadth of our customer acceptance of our DSLAM product line. We will then see a more randomized nature of the order flow, which should greatly diminish the lumpiness that we're seeing today.

Okay, and can you talk -- you said that you're seeing a pretty broad-based strength on the Enterprise spending side. Can you just talk about what -- are there any -- is it really because the channel partners are strengthening or can you give us any anymore color on what is driving that strength?

The best we can see, the strength is coming from the channel partners that we have on the Enterprise side. First, let's talk about that.

There should be more hardware out the door and needing to replenish that. Our Channel partners have become pretty good at inventory control, and so they just basically don't carry that much inventory, and so the strengthening is probably going out to the end-user.

The other thing that we think is significant about it is that it's across the board. We're seeing this in some of our old legacy-type of products just as well as some of the newer product areas, so it's really across-the-board.

As we have said many times, that when the Enterprise market starts to take hardware to hook up to the communications network, it doesn't take long before the carriers start to see this increased business and then turn around and start ordering from from us the hardware that they need to tie into the increasing Enterprise demand. The fourth quarter we really saw this occurs across the board.

However, it was most significant to the company in the HDSL area where, from the third to the fourth quarter in HDSL, we saw a very significant increase in the revenue going into the HDSL world. So that was a -- one of the major effects that we saw on the Carrier side that was caused by this increase on the Enterprise side of spending.

And the HDSL, is that more than just share gains, correct?

Right. It was both a -- some share gains but also the overall market from the third to the fourth increased significantly.

Great. Thank you.

Your next question comes from Nikos Theodosopoulos of UBS.

Thank you. A couple of questions.

You mentioned that the gross margin guidance was to go back down to the 55, 55 1/2% range. And you talked about pricing to increase market share.

Can you talk about where do you think the pricing will be more focused on? I mean is it across all your products or maybe some of the newer products where you're looking to gain share, some clarity on that?

And second question is what are the prospects for an additional, you know, RBOC customer for the DSLAM product line customer in 2004? Thank you.

Okay, Niko, first off the pricing. We have a couple of contracts, ongoing contracts that have a reprise -- reduction that starts the first of January. That will be some of the reduction that Jim has talked about.

The other is is that we are continually looking at strategic areas, and that certainly includes some of the new product areas. But those areas where we see that aggressive pricing will, in fact, improve our overall revenue and market share gains in areas where the -- the legacy products that our market share has reached a very, very high numbers that, of course is not that elastic at this point. So what we're doing is on a strategic and selective basis, not a across-the-board type of thing, which we don't feel would have a large effect as being aggressive on selected products.

The other question, as far as a second RBOC customer this year, absolutely. I would hope to see not one but two additional RBOC customers for our DSLAM product line during the year.

We -- we may not be able, as our customers do not really want us to discuss their purchasing numbers publicly, we may not be able to disclose to you as you would like as we pick up new RBOC customers for our DSLAM products, but I do think that we will be able to tell you as it occurs that a second and/or a third major customer has been added even if we can't tell you the exact company involved.

Okay. Thank you.

All right, Niko.

Your next question comes from George Notter of Deutsche Banc.

Hi, thank you very much.

On the HDSL front, can you take a shot at, you know, maybe parsing out organic T-1 demand right now, vis a vis, the market share gains you're seeing in the HDSL? Any sense for that?

George, it's a little early to try to do that. The really big gain that we saw and we're talking about in the HDSL activity was from the third to the fourth quarter. Jim, do you have the percentage increase in HDSL/ T1, that combination from the third to the fourth?

Well, on dollar basis, from Q3 it was $45 million to $56 million in Q4. So, over 20%.

Now, that obviously, George is very, very significant sequential quarterly increase. But the increase the quarter before was from 43 something to 45.

Correct.

So what we saw was an acceleration of the growth but when you look at those types of numbers for two quarters, to attempt to divide that out between underlying growth, normal variations from quarter-to-quarter in product shipments, and line growth, obviously it's very, very difficult type of exercise. There is no question in my mind, however, that in the last half of '03 that the continuing decline in HDSL line count ended, and a growth has started and also the growth accelerated from the third to the fourth quarter.

As we go forward, I think that here pretty soon we should have enough of a time frame behind us to start trying to estimate for you what percentage of that revenue growth we think is due to increasing line count and what percent is due to a market share gains.

Got it.

And then just getting down to HDSL market share gains, you have been picking up market share and accounts like Verizon and Qwest in recent quarters. Is it fair to say that in '04, for the entire year or the quarter you felt the full impact of that market share shift in your numbers? Or is that maybe Q1 when we start to finally see the full impact of those market share shifts?

I think we saw the impact of them in the fourth quarter, but I think that -- well, what we're going to so over the coming year is the impact of new and additional market share gains.

Now, granted there are not as many left out there to get as there were this time last year, but we still have market share gains that are possible in the HDSL area, and we think that those are going to add to our revenue base in HDSL. They're going forward in 2004. So, they won't be a very large gain possible because there is not that much left domestically, but there still is market share to be had in 2004, George.

Okay, thank you very much.

All right, sir.

The next question comes from Sanjiv Wadhwani of Piper Jaffray.

Thank you. Just two questions.

First off,contribution from the Opti 3 and the branch office routers, were they up sequentially during the quarter?

And then secondly, Jim, could you just give the 10% customers for the quarter and for the year?

Sure, Sanjiv. The NetVanta products were sequentially up from third to fourth quarter. The 10% customers, I do have an estimate for the year if you would like that.

Sure.

And they're all up versus 2002. SBC at 23%, Verizon at 15%; Sprint at 14%.

How about for the quarter, Jim, do you have that?

I don't have the quarterly breakout.

And then OPTI 3 sequentially, Jim?

OPTI 3, OPTI MX, yes, it was sequentially up, yes, from 3 to 4.

Got it. Thank you.

Your next question comes from Andrew Showpeg of Nutmeg Securities.

Thank you.

For Mark or Jim, I wonder if you could provide some additional color on your channels to market, indirect versus direct channels? I'm wondering if distributors are being used increasingly to sell new products through? And also if you could comment on the revenue recognition policies on sales through distributors, whether it's on sell in or sell out.?

Mark, would you like for me to take that?

Sure, go ahead.

Sure. In terms of selling into a distribution or to the channel, the larger part of our Enterprise division are through distributors and we record revenue on a sell-in basis. We do have basically no right of return into those distributors unless there are some controlled stock balancing requests. And in those cases, we do require offsetting orders so that we do draw the line in the sand, so to speak, in terms of revenue recognition .

Otherwise on a sell-in basis.

Yes.

What are the relative percentages, if you can, of the business that have been derived through sales to distributors?

If you look at the Enterprise division, roughly, say 34% of revenue, probably about 85 to 90% of that will be through the distributors.

About 85 to 90% of that through distributors. And that would be steady through the quarters?

Pretty much. Yes.

Okay, thanks.

Your next question comes from Dena Sockolow (ph) of Buckingham Research.

Can you tell us if can you give us a breakout of the togs between Enterprise and service providers, please?

Dena, I can do that. It's disclosed in our quarterly Q and looking at the nine months into September in the last Q, carrier networks gross margin was 53.9%. Enterprise network was 56.6%.

Thank you and can you give the revenue breakouts between alternative carriers and the RBOC's?

Of total revenue for the fourth quarter, roughly 16 to 17% were to competitive service providers. And, again, that's the total revenue.

Right and RBOC's?

I would say that I don't have that exact number, but the majority of our carrier division revenues are through the RBOC's. It's a pretty high percentage. I don't have that percentage here before me.

Okay.

And can you talk about Q1 line growth during the quarter for the industry in general?

Mark, would you like that one?

As I tried to answer George's question here a bit earlier about trying to break out revenue increases from line growth and market share gains, that's very difficult to do on a quarter-to-quarter basis. The best thing I can tell you is I would think it would be in single digits, maybe mid-single digits, somewhere like that.

Okay.

For line growth.

Okay.

Lastly, our carrier equipment vendor when reporting their quarter said that there was some level of Cap Ex flush at the end of the quarter, at the end of the year for them and that they recognize this quarter and it was significant. Do you have any sense of whether that was a benefit to you also?

In the access area that we sell into the carriers, we just are not seeing that.

Uh-huh.

We -- we looked in the third quarter as we were going into the fourth quarter and we've heard lots of talk in the press and in the communities about there being some of that. But then when we got into the fourth quarter, we didn't see it.

Uh-huh. Thank you. Thank you for the guidance.

All right.

Your next question comes from Timm Bechter of Legg Mason.

Thank you.

Mark and Jim, first of all, congratulations on the strong quarter and the improvements that seem to keep on coming. I want to ask you about where things stand with the Dell catalogue sales? And also how much progress you're making in Europe trying to find some channels for your routing and switching products?

Okay, as we have said a number of times, the Dell catalog is a secondary type of activity both for us and for Dell. And at this point in time, it's not significant to -- from a revenue base to the Enterprise division.

In the international area, Jim sort of jumped over that pretty fast when he was going through the numbers, and I'm glad you asked in regards to our international sales. We increased over the year the revenue, the international revenue from 4% in 2002 up to 6% in 2003. So we had a very significant increase on a percentage bases, even though the overall absolute is low during the year. And, again, primarily, that increase came from the Asian countries as well as especially the increase came from Australia.

We were still in the process of working through our strategy from the European aspect to see exactly what and when we think that we will be in a position to generate a improved sales base in Europe. So far we have not been very effective and hopefully during the year we'll be able to start making some improvements there. As we have over the past year in the Asian countries and also especially in Australia.

All right, thank you, Mark.

Your next question comes from Lavon VonReddon of Hockey Capital.

Good morning. Two quick questions. I think you said that your core, you expected to grow 6 to 8% in '04. Could you talk about the pricing implications related to that and how you got to that 6 to 8%? And I will ask my follow-up after.

Jim, you want me to take that or do you want to?

Sure, there are a number of components to the core markets. We do have a certain legacy products like DSU/CSUs. Even though we had a sequential increase from Q3 to Q4, we're anticipating the longer-term that will continue to be a declining market as functionality of that particular category is integrated into access routers, okay? So that was included in the mix. We are anticipating some sort of continued pricing decreases in HDSL, but they will perhaps be less than in prior years because of our market share position.

Could you kind of characterize what you think those, are we talking single digits? Double digits?

I would think we're looking at -- single digits, as far as the pricing declines in most of the legacy areas.

Then the second question I had, I guess, was related to -- also the '04 guidance talks, I guess, if you run the numbers around, $100 million of new products being sold in the year throughout the year. I think you mentioned remote DSLAMs, you mentioned OA products.

Could you kind of talk about what do you think are the bigger drivers of that hundred-million dollars of sales and who would you be competing against, who is already there?

All right, well, there is three basic product areas we're talking about: DSLAMs, optical access, routers and switches. The DSLAMs, the major competitor there is AKATO. We think that in that area that we should pick up significant market share as we enter.

One of the prior questions, as far as picking up additional RBOC's during the year for our DSLAM products. Also we see that the installations of new customers for DSL continues to improve at most of the -- of our customers. And the net of all of that, we think it's going to be a significant increase for us in the DSLAM area.

In the optical access, the major competitor that we have there is Fujitsu. The same kind of activity is going on there. We think that the largest gains in that area that we will be getting will be in market share gains, more than, let's say, overall market expansion.

The third new product area, the routers and switches, there's the main competitor there is obviously Sysco and we, of course, in that area, we'll be starting with a very low market share. The market share gains that are available to us there are enormous and that's where we anticipate that we will be able to generate the revenue. Of course, in the router and switch areas with the market share capture.

Thank you.

Your next question comes from Tavis McCort Of Morgan Keegan.

Good morning, just a couple of financial questions.

First, Jim, there is a tax receivable there on this quarter that was not there last quarter. Can you run us through what that is? And then also from a cash-flow perspective, you guys really out performed what we were looking for. Can you run us through the DNA or Cap Ex or was there anything unusual from a cash flow perspective this quarter?

As far as the tax receivable, Tavis, that is basically a tax benefit accrued from the exercise of employee stock options and that receivable will be burned in the next couple of quarters as we accrue taxable income. As far as our operating cash flow for the quarter, it was driven primarily by profitability, add back of about $3.8 million in depreciation / amortization, and we continue to run inventories and receivables very, very lean, and the minute details will be out in the K. Does that answer your question, Tavis?

Do you have a Cap Ex number?

Cap Ex number for the quarter was $2.4 million. For the year, it will put us about $6.7 million.

Great. Thank you very much.

Uh-huh.

Your next question comes from Steve Levy of Lehman Brothers.

Good morning, guys, it's Marcus Cooperschmidt. Hi two questions, one on 2004 guidance and one on the 1Q '04 guidance.

For 2004, you talked about gross margins coming down from the current levels, a little over 58% today, towards 55, 55 1/2%. You talked about everything some, you know, pricing concessions and some longer-term contracts, but I'm also confused about the guidance implies that new products grow as a percent of the revenues in '04. Traditionally, that's been something that has been a better-than-average gross margin. I'm hoping you will help me understand the dynamics that will lead to lower-gross margins through the year.

What it amounts to is that as we go into it, the margins that we have over and above the 50, 55% area, we look at those as strategic opportunities and you -- what you're doing is you're simply pointing out the facts is that those opportunities are significant and we have quite a few of them at this point in time.

Because, yes, as the new products which, have higher gross margins, become a larger percentage, that simply will help us generate improving the margins and simply will give us a -- more of a strategic opportunity to forward price to be aggressive and -- and do so when it's possible for us to generate improved market share.

So, what we're saying is we have two things that are working. One is we that have a budget of 55% that, over a long-term period, we think it's not advisable for us to get significantly above that. However, in the short-term, we have a number of things that are working due to our efforts at cost control, that are driving the gross margins well above that. And so it's providing us with one heck of an opportunity here to be very, very aggressive in the marketplace.

Okay, but just along those lines, we should continue to think about now products, continuing to generate better-than-average gross margins for Adtran?

That's correct.

Okay, the question about the 1Q revenue guidance, just to better understand. It sounded like some of the orders for shipments for some of the new products were pushed out from 4Q '03 to 1Q '04. I kind of want to get a sense of, what are you expecting for the core business for the revenues as you look into 1Q '04?

We're looking for the core business to decline straight due to the seasonal nature that we find in the first quarter. The first quarter starts off, it's the one quarter that is the -- the only quarter that is a traditional hockey stick for us. It starts off very slow, due to the holidays and due to the weather, and as we get into March, then it comes on very strong, making the first quarter both seasonal and very, very difficult to predict.

Could you maybe give us a sense of the quantification, what kind of expectations you're baking into your 1Q '04 financial guidance for the base business?

What kind of what are we doing?

For the -- what kind of projections you're assuming, what kind of sequential decline you're assuming for the base business in 1Q '04?

Marcus, I -

Just slightly more than the decline that we have, which, really, quite frankly, isn't very much for the overall. We think in the mix between the legacy and the new product area that the legacy decline will be slightly larger than it will be in some new products in the first quarter.

But we should expect the new to be up sequentially?

Say flat. It's just very, very difficult for us to try to project the first quarter. That's really the most honest answer I can give you.

That's very fair. Thank you very much, Mark.

Okay.

Your next question comes from Joe Noel of Pacific Growth Equities.

Yes, it's been answered. Thank you.

The next question comes from Larry Powell of Raymond James.

My question was answered. Thank you.

Your next question comes from Simon Leopold of Merrill Lynch.

Thank you.

Just a couple of questions maybe to drill down on Marcus' question in a different way.

Trying to get a better understanding of what the sequential decline and guidance would have been for the March quarter had it not been for the DSLAM business that was delayed. If we could sort of look through that.

The other question I had was to drill down a little bit on the NetVanta line. I would like to get an understanding of, one, how big it was in the quarter? Did we break through the 5% of revenue this quarter and I would like to confirm if so, is that the first time that that's happened? If not, when you would expect that?

And second part is I would like to get an understanding a little bit more on the ethernet switch products, where you are in terms of, have you done the hard launch of those products? And what kind of traction have you gotten and what sort of expectations do you have for the ramp of just ethernet switches? Thank you.

Simon, let me take the last one first. We have not reached the 5% run rate for the entire NetVanta line. Yes, we hope to accomplish that during 2004.

On to your question on the switches, it's a very, very early in the introduction of the switches, I think, the first shipments were in November on a preliminary basis and that the -- it's just entirely too early for us to have experienced any significant revenue from a switch standpoint at this time. We're very happy with the results that we're seeing from field tests and the early comments that we're getting from them. But there is very little revenue as the introduction has been only out there for a couple of months.

Simon, I don't remember at this point in time your very first question.

The first question was essentially what would the March sequential revenue look like if we looked through the delayed DSLAM business?

It would be within the margin of error as far as our estimate of what the first quarter would be, quite frankly. Now, I obviously didn't satisfy the folks with my answer. Jim, I'm going to let you try that one.

Well, Simon, if give a little more color on that, you know, from a standpoint, again, we're a book-and-ship business, it's difficult to forecast particularly when you're a book-and-ship business. Typically, our first quarter has been down sequentially. I am afraid we can't offer anymore granularity other than what we already have in regards to core markets. We're anticipating we'll be down in the first quarter with -- with new products essentially flat as we stated.

Okay. Thank you.

Your next question comes from Reg King of WR Hambrecht.

Great, thank you.

Jim, I was wondering if you could just refresh my memory, maybe I missed this on the price reduction. Was that across the board or across product lines?

No, no, no. Only in strategic areas will we pursue price reductions to increase market share.

Right, so the price reductions that Mark indicated at the beginning of the year are strategically placed?

Yes.

Okay, and then this finally here, Jim, the DSLAM business, I have missed this also maybe, is delayed, is that coming or starting, I should say, again in Q1 or -- then what is the confidence you guys have about the DSLAM business coming through in Q1?

Well, the confidence is there. Mark, do you want to address his question?

Well, nothing is 100% there until it ships and bills, but, yes, we have extreme confidence in the growth of the DSLAM business throughout the year. And the business in the first quarter is going to be helped as we have discussed.

By some business that was slid as the business that was slid but not totally significant. And it's just not a strategic or a critical thing as we see the business in any one individual product line such as DSLAMs. We push from one quarter back or just as often be accelerated into a prior quarter. So we really don't see, I don't -- the significance in the well sliding after a order plus or minus a three- or four-week time frame, from which results in moving from one quarter to the the other. In a growing marketplace force like the DSLAM area.

Great. Thanks, Mark.

Your next question comes from Erik Thonk(ph) of YANKO Partners.

Good morning, guys. A couple of questions.

First, just regarding the order that slid, have you, in fact, gotten that order since the close of quarter since we're three weeks passed then?

Secondly, I would like you to elaborate on your optimism regarding the DSLAM, since most of the major RBOC's are talking about having completed their, or will be completing their footprint expansion by the end of '03, or here in the first quarter of '04.

Finally on the uptick in the HDSL, sounds like a lot of that went through the distribution channel. I was wondering if you have visibility on their inventories and can tell what the sell out of that product was during the December quarter?

Okay, let me take that in reverse order. Almost zero of our HDSL goes through our normal distribution channel that goes into the RBOC's and the sell through there is almost immediate. The HDSL and the carrier space is definitely a direct sell. And so that would be that answer to you, Eric.

If you then look at the other two -- what were the other two questions again? I know the first question was in regard to the order, which I think that we -- we never would have mentioned because the thing is so minor. It has no bearing on anything as far as the normal sliding of orders from one quarter to the other, especially in this regard as we are ramping the product up.

The other question was in regard to the footprint expansion?

Correct.

We have gone through this a number of times where the 80% that the RBOC's talk about, as far as footprint, primarily that's in relation to the COs and if is they have a CO with 50, 100,000 lines, they put a single DSLAM that may have a, 200 ports in the DSLAM, then that entire CO is added into the footprint capability, all 100,000 lines, and not just 200. That the footprint capability allows the RBOC's to, in essence, add more new subscribers and is, therefore, very important that they are able to accept orders because their footprint is larger.

It has no bearing whatever in a direct basis as to the hardware that we sell the RBOC's. Because what we sell to the RBOC's is hardware for them to actually hook up new subscribers.

And so when one is looking at our DSLAM orders and -- and trying to project into the future where those orders may accelerate or decelerate, one should look at the trends in new subscribers for DSL with the RBOC's and ignore footprint activities. Because new subscribers with the RBOC's is where the corelation is between the hardware we sell. If the footprint would go to 100% meaning that the RBOC if the footprint would go to 100% meaning that the RBOC would be able to satisfy anyone who called regardless of where they were, that would not decrease the potential for us selling to DSLAMs to the RBOC's. It would, in fact, increase it because more subscribers would be able then to be able to be taken care of.

The last point in regards to the footprint is that the majority of the RBOC's have not spent the effort in the remote terminal area, which is a majority of the area where the footprint still is missing. Those activities are, of course, where our new products are aimed and we think that that activity will give us a significant amount of upside potential as the footprint goes into the remote parallels allowing then for more subscriber growth in that area, which would then accelerate more hardware sales for us. I hope I explained that understandably, Eric.

I understand the issue of the expanding the, or putting line cards into the CO-based DSLAMs, but that's not your business. Your business has been the remote terminals and that's been the expansion of the footprint of --

Wait, whoa, whoa, whoa.

Now, whenever you put in a chasis, it will only take 200 cards or so at the most. You have not been in the future, if you have that in a large CO only sell line cards. That normally what you're going to be doing is you sell these things in a seven-foot rack at a time. And so as you go forward, yes, you will be selling line charts into that last seven-foot rack you that sold them but you will then be selling a new seven-foot rack.

After you have a footprint taken, you don't just sell line cards. You sell new seven-foot rack filled with hardware. It's not just the line card business into a chasis. Because one chasis is only going to hold, maybe only 200 ports. And you may need 20,000. If you see my point.

No, I understand.

Okay.

Thank you.

Your next question comes from Nikos Theosodopolous of UBS.

Yeah, thank you, my question's been answered. Thanks.

Okay.

Your next question comes from Gina Sockolow of Buckingham Research.

Thank you. Jim, could you break out the Enterprise and service provider COGS again? The numbers didn't seem to work.

I'm on a year-to-date basis now, on the Q3 10-Q, which has been disclosed, Gina.

Uh-huh.

Okay. Carrier networks, revenue of $193 million, gross profit, $104. The difference, obviously, the COGS. Enterprise, $89 million, gross profit $51 million. That's in the Q.

That's Q3.

That's from nine months. Nine months for Q3, I have that as well. Carrier is $73 million, gross profit $40 million. Enterprise networks $32.5 million, gross profit, $18.8 million.

And what was Q4?

We don't have that breakout. It will be available in the K. It will be out mid-March.

Oh, thank you.

Overall, Gina, I can tell you that gross margins increased a bit on both sides.

Okay. Thank you.

Particularly in Enterprise.

Jeff, I think our hour is about up, or is up. Will you let us take one more question, okay?

Your last question is from Tim Slevin of Parker/Hunter.

Good morning, congratulations on the quarter. Just two quick questions.

The first would be what would be your effective tax rate or incremental tax rate for 2004 as you're estimating with Federal and State?

And then I have a second follow up just on the market.

Jim, if I understand your question, as far as year 2004 specifically in terms of the effective tax rate, we're probably looking at somewhere north of 34%, but we're anticipating resolving certain contingencies in order to reduce that effective rate in '04 down to about 33%. Net for the year. Hopefully that answers your question.

Yeah, I was thinking about any incremental income, you know, if you have a 34 or 35% Federal tax rate and then the State adds about how much in incremental percent on top of that?

Yeah, from a statutory standpoint, we're probably looking at about 36% overall, Tim.

Okay.

As we get Federal and State remembering that on a State level, we do have certain State incentives that reduce our State tax liabilities. On the Federal level, we have certain R&D credits that reduce that liability. In addition to say tax-free interest income.

Okay.

Okay.

Great.

And the last question is really for Mark, and that's in relation to the RBOC's and the rollout of DSL services and to what extent in the RTs, do you all anticipate competition from, kind of, the imbedded DLC providers in terms of upgrading their equipment to, you know, to provide DSL rather than to, you know, insert a, you know, a relatively small DSLAM? Which I think is the approach you that all are taking.

That's right, Tim. What it amounts to is what hardware is basically out there and can that hardware be upgraded? In the remote terminals, the vast majority of the hardware that is out in the fields across the country can't be upgraded.

Right, the Slick 5 or Slick 96.

And a lot of the other hardware as well.

Okay.

And so if you need, in a remote terminal, a few DSL lines, in other words, it's not a very, very large remote terminal itself. It's just more economical, obviously, to upgrade the product that you have that is already there. And that's what they do and then that -- we're not involved, it's whoever the manufacturer was or the hardware there to begin with. So the -- when we get involved is when the hardware that is out there just simply can't be upgraded, or if the upgrade would be a large enough of a new installation to where it becomes uneconomical and inefficient to do. But primarily, the decision is "Can be upgraded?"

And if it can, it's cheaper.

And if it can, it's typically cheaper. That's what they're going to do, and there's not a competitive battle at that point, it's just a decision that's inherently made.

Great, thank you very much.

Okay, sir.

I really do appreciate everybody calling in and spending the time to ask questions and to follow our company that we're so proud of here and really enjoy very much explaining the details of our business to you. We will be happy to spend time with any of our stockholders that would like to learn more about us and our philosophy and business. We're having fun, great fun at Adtran.

We're enjoying significant success, and it's a pleasure each quarter to have the opportunity to talk with you. And I look forward to having another conference call in mid-April, but so, thank you very much for taking the time to spend with us this morning.

This concludes today's conference call, you may now disconnect.