ADTRAN Holdings Inc (ADTN) 2009 Q3 法說會逐字稿

Good morning. My name is Vanessa and I will be your conference operator today. At this time, I would like to welcome everyone to the ADTRAN third quarter earnings release conference call. All lines have been placed on mute to prevent any background noise.

After the speaker's prepared remarks, there will be a question-and-answer period. (Operator Instructions). As a reminder, ladies and gentlemen, this conference is being recorded today, Wednesday, October 14, 2009.

During the course of the conference call, ADTRAN representatives expect to make forward-looking statements which reflect management's best judgment 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 31, 2008, and Form 10-Q for the quarter ended June 30, 2009.

These risks and uncertainties could cause actual results to differ materially from those in the forward-looking statements, which may be made during the call.

At this time, I would like to turn the call over to Mr. Tom Stanton, CEO. Mr. Stanton, you may begin your conference.

Thank you, Vanessa, and good morning, everyone. Thank you for joining us for our third quarter 2009 conference call. With me this morning is Jim Matthews, Senior Vice President and Chief Financial Officer.

During the quarter, we benefited from increasing customer investment in carrier ethernet and broadband service deployments, and their migration towards packet based technologies. We also benefited from carriers' increasing focus on wireless infrastructure upgrades as a result of growing mobile bandwidth demand.

Although spending delays with our IOC customers persisted, we saw continual activity around stimulus planning. Also during the quarter, the SMB environment remained relatively stable; however, we continue to see the positive effects of share gains.

From a product perspective, our growth areas delivered a solid revenue performance for the quarter. Combined, these areas grew an impressive 20% year-over-year. Specifically, broadband access revenue grew 29% over the prior year as a result of continuing deployment of fiber to the x products and the record revenue achieved by our Total Access 5000 service platforms. Revenues for these areas grew across all customer categories.

Optical access revenue was up, coming in at a record $20 million and growing at a rate of 49% sequentially, and 20% year-over-year. This strength was due to continued market share gains and increasing shipments to all major market segments, as carriers invested to increase bandwidth for wireless infrastructure.

Internetworking revenue was up both sequentially and year-over-year, setting another record at $21.3 million. We continue to see growth in both our carrier distribution channels and our VAR dealer base.

HDSL revenues increased sequentially in the quarter; however, it followed an exceptionally weak second quarter. We believe HDSL revenues will continue to see fluctuations quarter-to-quarter as a result of the sluggish economic environment, the sporadic nature of wireless infrastructure upgrades, and the longer-term migration to ethernet-based technologies.

Moving onto items that will affect our future. Activity for our fiber to the x and Total Access 5000 products remain very strong, driven by GPON, carrier ethernet and higher speed DSL. We expect our fiber to the node and GPON products will benefit from a reemerging interest in bandwidth expansion to deliver new services, as well as a re-emerging interest in footprint expansion, resulting from the broadband stimulus package and service provider consolidation.

Our Carrier Ethernet products should continue to benefit from expanding ethernet conversion initiatives spanning across all carrier customer segments. We anticipate these expanding deployments and the addition of new applications will contribute meaningfully to the growth of these platforms well into the future.

For optical access, we believe that we are in the early stages of conversion to fiber access technologies, and that the increasing demand for bandwidth -- both wireline and wireless -- will provide meaningful growth opportunities.

As mentioned before, previous market share gains in optical access have translated to revenue growth as carriers have increased their focus on adding bandwidth to urban cell sites. It is our belief this type of incremental bandwidth expansion will continue for some time, although we expect quarter-to-quarter revenue fluctuations and typical seasonal variations will occur.

We expect Internetworking revenues will continue to grow over the long term as we benefit from continuing market share gains and focus on new product offerings to expand our product portfolio.

Looking forward, although we continue to participate in a large number of opportunities related to the broadband stimulus plans, we do not anticipate revenue contributions from these opportunities in the fourth quarter. Also, our plans do not anticipate a change in the fourth quarter spending environment due to our customers' management of year-end capital expense budgets. Therefore, we expect to see a seasonal revenue decline in our fiber to the node enterprise and traditional product categories.

For optical access, we expect to see a retreat from the historical third quarter level but anticipate seeing momentum continuing for the longer-term. For our Total Access 5000 platform, we witnessed increasing activities as we exited the third quarter, and we expect to see a sequential increase in this category into the fourth.

I would now like Jim Matthews to review our results for the third quarter 2009 and our comments on the fourth quarter. We will then open the conference call up for questions. Jim?

Thank you, Tom. Revenue for the third quarter was $128.1 million compared to $137.2 million in Q3 of '08. Broadband access product revenues for Q3 of '09 increased 29% to $29.5 million compared to $23 million for Q3 of '08. Optical access product revenues for Q3 of '09 increased 20% to a record $20.1 million compared to $16.7 million in Q3 of '08.

Internetworking product revenues for Q3 of '09 increased to a record $21.3 million compared to $19.2 million for Q3 of '08. Carrier systems revenues for Q3 of '09 increased to $59.9 million compared to $53.9 million for Q3 of '08. Business Networking revenues for Q3 of '09 increased to $26.1 million compared to $25.4 million for Q3 of '08.

Loop access revenues were $42.1 million for Q3 of '09 compared to $57.9 million for Q3 of '08. HDSL product revenues were $37.6 million for Q3 of '09 compared to $50.8 million for Q3 of '08.

The decline in HDSL revenues is primarily the result of variations of demand as a customer continued to balance their wireless backhaul focus between urban and non-urban areas. As a result of the above, Carrier Networks division revenues were $98.6 million and Enterprise Networks division revenues were $29.4 million for Q3 of '09.

International revenue was $6.7 million for Q3 of '09 compared to $7.8 million for Q3 of '08. To provide the reporting of each of these categories, we have published them on our Investor Relations page at ADTRAN.com.

Gross margin was 58.1% of revenue for Q3 of '09 compared to 59.5% for Q3 of '08. The decrease in gross margin is primarily attributable to an increase in demand of certain products, as we progress through the quarter.

Research and development expenses were $20.5 million for Q3 of '09 compared to $21.7 million for Q3 of '08. Selling, general, and administrative expenses were $25 million for Q3 of '09 compared to $26.3 million for Q3 of '08.

Stock-based compensation expense net of tax was $1.4 million for Q3 of '09 compared to $1.8 million for Q3 of '08. Other income net of interest expense for Q3 of '09 was $2.1 million compared to $1.8 million for Q3 of '08.

The Company's income tax rate provision was 30.4% for the third quarter of 2009 compared to 36.8% for the third quarter of 2008. During the third quarter of 2009, the Company recognized FIN 48 and R&D tax credit adjustments netting to approximately $1 million. These adjustments reduced the tax provision rate for the quarter by 3.2%. During the same period the prior year, legislation providing the benefit for research tax credits was not in effect, causing the tax provisions to be unusually high for that period.

Earnings per share assuming dilution for Q3 of '09 were $0.34 compared to $0.35 for Q3 of '08. Inventories were $44.7 million at quarter end. Net trade accounts receivable were $65.3 million at quarter end, resulting in DSOs of 47 days for the third quarter of 2009, compared to 40 days for the third quarter of 2008. As you will recall, in the third quarter last year, revenues declined as we progressed through that quarter due to a slowing economy, causing our DSOs to decline.

Unrestricted cash and marketable securities totaled $299 million at quarter end. Due to the book and ship nature of our business and the timing of near-term revenues associated with large projects, it is our policy not to give specific guidance. We would like to give color to help you formulate your views on our near-term business outlook.

As is typical, we expect to see a seasonal decrease in activity in the fourth quarter. We expect revenues for the fourth quarter will decrease in the range of mid to high single-digit percentage points. For the fourth quarter, we believe we will execute in a range consistent with our historic operating model at the achieved revenue level.

We believe the larger factors impacting the revenue we realize in the fourth quarter will be the following -- spending levels at our Tier 1 and Tier 2 carrier customers; the adoption rate of our Total Access 5000 platform; the rate of fiber and copper upgrades for wireless infrastructure; the continuing negative impact of the economy on our traditional product revenues.

Tom, back to you.

All right. Thanks, Jim. Vanessa, at this point, we're ready to open it up to questions.

(Operator Instructions). George Notter, Jefferies.

I guess I wanted to ask about the timing of the broadband stimulus plan. I guess I'm trying to get a better sense for when you think that might start to benefit your business next year.

Well, I hate to say it but the timing of the broadband stimulus plan is still a little uncertain. There was -- where we are as far as the first stage is concerned is the notices to actually who actually achieved or is going to receive the funds is supposed to be November -- early November, I think November 7. I think that's still the official date, but I think there's a chance that that actually may move out. And the extent of that move-out we don't know. We're still very hopeful that it would happen this year.

Now after that notice of receipt or being awarded funds, it's another 30 days, up to another 30 days or so for those funds to actually make it into the customers' hands, and then you would see the turnaround making it into orders and then shipments. So, as of right now, it's still a late -- it's still a kind of a December-ish potential, but I think there's a, as I mentioned, a likelihood that that would actually move out, which is why in my comments I mentioned we really weren't planning for that in the fourth quarter, although we would expect to start seeing some benefit in the first quarter.

The other two phases, they're -- as of the record right now, three phases, it looks like there's a good chance that Phase 2 and Phase 3 will be collapsed into a single phase, which would be awarded sometime mid-next year with the real finished date, which is at this point in time, set in stone, September 30 being when all the money has to be used up, [the] $7.2 billion.

So it's definitely a 2010 event in a potentially early 2010. We're not expecting anything in the fourth quarter.

So if I were to try to, I guess, pin you down a little bit more precisely, I mean, do you think then Q1 is when you really start to see the bulk of the money kind of flowing through to your customers, and you'll start seeing that spend? Or do you think it would be maybe more like Q2? When do you really start to see the ramp?

We'll know -- we tend to be a little cautious on trying to time carrier and definitely carrier plus government funding. But as of right now, it looks like we would start seeing the funds, at least to the customers, either at the end of this year or early next year.

And so potentially, we would see something in the -- kind of towards the tail end of the first quarter. We'll know more, of course, as we get through the fourth quarter and we'll be glad to give color on that. Right now my guess would be late first quarter for the first phase, and then the second and third phase would probably be third quarter.

Got it. Okay. And then one separate question on gross margins -- the 58.1% this quarter. I guess -- I think I heard you say that it had to do with the timing of certain product shipments to customers during the quarter. Did that mean you incurred expedite fees as you were shipping product? Or what exactly was that?

Jim, you want to --?

Yes. And the demand did pick up as we went through the quarter and it did cost a little margin to pull on certain of the components for our optical products, for example.

(multiple speakers) Got it. And how long -- how much margin impact was that then?

George, we haven't quantified that, but it did weigh on margins a little bit. But we haven't quantified that at this point.

Got it. Okay. Thank you very much.

Michael Genovese, Soleil Securities.

So the guidance for the fourth quarter of down mid to high single-digits, that seems like a pretty typical seasonal pattern for you guys. So is there really no budget flush at all this year? Or any reason why we think the business should be slightly better than seasonal? Maybe with some stimulus money coming at the end of the quarter?

Well, I mean, there are things that we have pointed out that would affect the fourth quarter, both positively and negatively from what we are today looking at. And I guess our -- what we wanted to get across to you is we're not planning on a budget flush. And if we were -- if we had some certainty that one of those -- that something meaningful would occur, then we would project that to you.

But we have no certainty around that and our guess would be at this point in time -- there's always or there has, historically, more times than not been talk this time of year of a budget flush. We do see customers that do that but they're typically small amounts and they don't really move the needle one way or the other.

We also see sometimes contractions where people have kind of got themselves ahead of them, of where they planned on being. So the net of that has been negligible to us and that's kind of the environment we're expecting this year. I know there's a lot of talk about that, but it seems to me there typically is a lot of talk about that this time of year.

As far as the broadband stimulus, yes, if that comes in and everything works itself out, then we would see potentially an impact as to whether or not it would move the number meaningfully, that would be question number one.

And number two, we're pointing at the fact that it seems to us that the timing has actually -- is starting to move out a little from what we were projecting last quarter. And even last quarter, we were saying it would be tough for that to come into the fourth quarter.

Okay, thanks for that. One other question. We're starting to hear about maybe a new distribution agreement with Ericsson forming around the AT&T account. Wondering if you can comment on that in general, and maybe talk about the possibility of taking that outside of just AT&T and also the international accounts as well.

Sure. I'm limited what I can say about that because we have two other parties involved. But what I can say is, yes, there is an agreement in place to sell equipment to AT&T for their -- for an award that they had just previously made to Ericsson.

We're, of course, at this point in time focused on delivering on what it is that we've agreed to deliver and finishing up any R&D that's required for that. And then going through the normal, unfortunately-extended integration process that's typical of this type of award.

It is -- there are areas where we believe -- and I don't want to speak for Ericsson, but there definitely are areas where we believe that our products would add value outside of the AT&T footprint and probably outside of North America. But there's nothing to really talk about at this point in those type of areas.

All right. Thanks a lot.

Jim Suva, Citi.

A quick question about the new agreement with Ericsson and the vendor domain with AT&T. Can you comment and confirm -- is the DSLAM product actually incremental in addition to the typical work that you're doing for AT&T? Is that an additional layer? Is that already included in it? If so, can you help us maybe quantify so people don't get numbers too aggressive about what that type of opportunity is?

It's much easier for me to answer the first question than the second, but let me give it a stab.

First of all, the relationship with Ericsson for the AT&T award is incremental to everything that we have talked about prior to this conference call. So all of the TA5000 awards, some of which, I'll just remind people, don't deliver until at this point in time -- and you know how dates are with big projects like that -- but at this point in time, they don't deliver until -- some of them don't start delivering until middle of 2010. Those are all in a separate bucket between us and AT&T.

This new piece is a different product set. There's a lot of potential there. We went after it aggressively early on. We've been working with AT&T for quite some time on what the potential of our products -- other products could be into their network. So there's a lot of potential there, but I really can't give you much more granularity on that at this point in time, especially with the fact there's still an awful lot of IT work to be done. And people -- the scope of projects can change during the course of that IT work.

Great. And then maybe just a quick housekeeping follow-up question. With revenues seasonally being down, which is pretty typical the range that you gave, can you comment a little bit on what we should expect for the margins, because of your product mix can really change margins a little bit as well as expediting shipping costs.

And then finally on tax rates, should we expect a kind of more normalized tax rate into the 34% to 35% range? Or does the R&D credit continue to play out for the foreseeable future?

Hi, Jim, this is Jim Matthews. In terms of the tax rate, I'll hit that one first. So we anticipate Q4 will be a more normalized tax rate, something close to the 34%. Okay?

In terms of the gross margin, we're anticipating high 50s, but we do at this point believe that gross margins will be slightly up from Q3 levels. That is what we anticipate at this point.

Great. Thank you very much and congratulations, gentlemen.

Paul Silverstein, Credit Suisse.

Jim, can you give us a 10% customer breakdown?

Sure, Paul. AT&T is 24%; Verizon, 10%; and Qwest, 20%.

And a lot of the Qwest is the fiber rollout?

Yes.

Okay, thank you. Secondly, going back to Ericsson for a second, Tom, is the Ericsson one project or is it multiple projects? And I understand the revenue won't hit for awhile, but when it does, because you're selling through Ericsson, does it change the margin structure?

When you say it's one project, it was one RFP, which covers a need which -- it's broadband related, so I'm not sure how you would characterize it any different than that, so.

My understanding it's for the -- in the Hurricane Katrina type situation. I was just wondering if there was multiple -- if there was, under that IP, if there were other projects beyond the hermetically sealed platform you have?

Yes. I haven't heard it being -- it's not a Hurricane Katrina type situation; it's actually for specific line counts for DDSL broadband deployment. So it's not -- hermetically sealed really doesn't play into what it's for. But -- although it does change the cost profile of deployments in those -- in particular line counts.

As far as the margins question, we're expecting to be able to ship at kind of corporate average type margins by the time all is said and done.

Ken Muth, Robert Baird.

It's James Falkoff calling for Ken. Just observing the strength in optical and the softness in HDSL, I wanted to dig into the comments, Jim, you made on customer balancing urban versus non-urban areas for backhaul. And I guess I want to get a sense, are you indicating it would be incorrect to kind of infer from the product mix that there is any sort of accelerated transition away from HDSL and toward Next Gen backhaul? Maybe it's more a function of which markets are being targeted? Or how should we think about that?

Well, we do think it's a part of what markets are being targeted, but we certainly do acknowledge that over the longer term, HDSL will be replaced by different technologies.

But I guess, have you seen -- is there an accelerated shift or was there anything that changed in Q3?

I don't think so at this point.

Okay, great. Thanks.

Let me just -- let me add my color to that, if you don't mind.

Sure.

We saw them actually build out HDSL pretty aggressively, whatever customer we're talking about, pretty aggressively in the third quarter of last year; really kind of carrying into the first quarter of this year. And those sale sites were specific line numbers and they were trying to increase the bandwidth to those.

We then have subsequently seen them shift to higher line cell sites or higher line count cell sites. And you saw pickup in our optical access business due to that.

I do think that they are still looking at trying to add more bandwidth. And that means as they add more bandwidth, some cell sites that were traditionally HDSL will flip that switch, that bandwidth switch over to fiber. So to the extent that they accelerate the bandwidth demand, that does accelerate that flip of the switch; but we don't see a change in overall fundamental deployment on what they're trying to accomplish.

Great. I see. Thank you.

Sanjiv Wadhwani, Stifel Nicolaus.

Quick question on Qwest. The sequential decline from June to September was actually fairly minimal; in fact, it was almost flat sequentially. What are sort of expectations in Q4? I'm expecting it's going to be down, but just any magnitude would be helpful.

I think if you -- at this point in time -- and they can change -- but at this point in time, I would say if you look at the profile of last year, that may not be a bad profile to look at.

Got it, okay. Was the Qwest strength a little bit better than you had expected in September?

No, it was about what we expected.

Okay. And then HDSL, what are you expecting that to be in Q4?

Well, we had two mild quarters in the last two quarters. And at this point in time, we're kind of expecting it to be about the same. So we may be surprised to the upside. I think we'd be really surprised to see any significant downside to the last two quarters, so we're kind of thinking flattish.

Okay, sounds good. Thanks so much.

Nikos Theodosopoulos, UBS.

A couple of questions here. So, I might have missed it but did you give any sense of what operating expenses will do next quarter as revenues decline? Do you expect to manage them or keep them flat or expanding them?

Nikos, this is Jim. We're actually expecting OpEx to be slightly up for the fourth quarter as we begin new customer projects.

Okay. And a question on the comments regarding Ericsson and international. I think, historically, the Company has tended to shy away from deals with larger equipment companies in expanding its international business. It's been more of a direct approach and probably with limited success.

Do you view this as a change in strategy now, where you will look to do more of these type of deals internationally? Or do you see this as a one-off? And are you just going to look for Ericsson to drive it? Or how should we look at this?

First of all, we have -- although it's maybe not been as public as normal information -- we have historically actually done business with OEMs. If you name the top five OEMs in our space, they all either have or do OEM products from us today.

So, in some of our international, early international success, for instance, some of the -- our early entries into Telstra were with Lucent, we've -- back when it was just Siemens, we used to sell gear to Siemens. So we have, but never really have had a product set that wasn't a relatively small niche. So we never really saw a big impact from that.

We do think that the products that we're talking about today have a broader appeal than what we've done in the past. And we're just as open as we ever have been to just trying to find the right channels to market, whether they're direct or indirect. So, I think the products are different. I think our openness really hasn't changed and I do believe we have been open to that. The potential here is different, though.

Okay. And just one last question. I know historically, you've found it difficult to give a percentage, but as time goes on here and it seems like you have a better feel for what's happening in these cell site deployments, do you have a rough estimate, if we look at your entire revenue base, what percentage of your business is actually tied to these wireless deployments?

Unfortunately not, although I can -- we have traditionally said kind of mid to high 20s in HDSL, and that was going back maybe two to three years ago. No doubt that when we saw the uptick in the back half of last year and earlier this year, that that percentage went up but I can't tell you how much, because we don't have access to that information ourselves.

I will tell you that a lot of the upside, probably the majority of the upside that we saw in optical access without a doubt was going to cell site. I can tell you that percentage has grown substantially over the last three years but it's -- I would just be guessing if I tried to put a real figure on it.

Vivek Arya, Banc of America.

A couple of questions. First, Qwest has been a very important customer for you in the past two years. How much life do you see left in that project? Maybe if you can give us a sense for how much of the project is completed. Are you halfway done? Are you three-quarters done, or is it still very early in that project?

I think that's a tough question for me to answer without me getting in trouble with my customer. If I step back a little bit, if you allow me, and say, fiber to the x products, the 1100 series products in North America, say that we are -- we're less than a quarter through. So we're definitely not to the halfway point of where we think those products will be built out in North America.

But do you see the same base of buildout as you saw in 2009? For instance, Qwest this year was I think over 20% of sales and I think last year, it was more like 15%. The year before, it was more like 10%. So do you see this growth from this point? Or do you see some sort of stability at these levels?

We see growth at this point. Now that growth -- try not to gravitate towards a specific, what's going to happen at Qwest -- but we see growth at this point not just from our current customer base, but we also see growth because other customers are intrigued with the way that Qwest has been able to build out an incredibly cost-effective network that has an awful lot of capability.

So the net answer is we expect the 1100 series products to continue to grow -- not just in the customer base that it has today, but also in the customer base that we have maybe some penetration but they really haven't put the gas on, on really trying to upgrade their networks yet.

Understand. One question on operating expenses. Some of your competitors, I think [CNN], ABC, et cetera, have spoken about increasing operating expenses as they start looking at growing topline next year. I'm curious what your plans are as you look at a lot of new activity heading into next year.

Well, in heading -- first of all, we were able to manage our expense lines going through this downturn without really -- without doing any headcount reductions. So our R&D staff remained intact and, in fact, if I look year-over-year, we were actually able to grow our R&D staff in a meaningful manner through this downturn and be able to maintain our expenses.

So we're probably -- we may not be in the same position as everybody else out there in this space. If I look at Q4 -- in the near-term, we're still looking for or making sure that that the ground is solid. I think that we feel much better this quarter than we did last. And if you recall, we felt better last quarter than the previous quarter.

The slight uptick that Jim was talking about is more in relation to project-oriented things like Telcordia, where we've got some work to do for some customer wins that you'll see an uptick in expense on that particular line. And to the extent the other pieces may offset that, we'll just see. So it's not a big increase at this point in R&D. Continually adding on as we need to add on, and then as we move into next year, we'll talk about it then.

And one last question, if I may. Your pretax margins are around 24%. And I think in the past, you have signaled a target of around 25%, if I'm not mistaken. I'm just wondering if those are still the right assumptions to make as we look at the business model? Thank you.

Sure, Vivek. This is Jim. The mid-20s remains our target, our long-term target.

Got it. Okay, thanks a lot.

Greg Mesniaeff, Needham & Company.

Looking at your large customers, they totaled, I guess, 54% of revenues, the Tier 1's. You've obviously made a significant attempt to move into the Tier 2 and 3 markets. Can you talk about how that -- assuming that continues -- how that should alter your sales and marketing strategy and organization?

Sure. Some of it is going to be a little bit historical because we actually had made that move some time ago. So we geared up our Tier 2 and Tier 3 sales force -- my guess is probably three to four years ago, and really starting seeing some incremental wins.

Now, in recessionary periods with revenue still being down, it's hard to kind of just highlight those, but we really made a good splash into that space over a long period of time. And a lot of the 5000 noise that you're hearing about is because of that.

So we have a separate sales force now that calls on them. We've substantially increased our marketing efforts geared specifically toward that Tier 2 and Tier 3 market. If you go on our website, for instance, today, you'll see an awful lot of information. Probably the best website available on the stimulus package and what needs to be done and how we can help.

So I think we've gone through a lot of the heavy lifting at this point in time. We may incrementally add over time as that space continues to have good momentum, but (multiple speakers) --

I guess my question was, are you seeing an increase, a continued increase, in that non-Tier 1 base? And as that happens, what changes can we expect?

We expect a continued positive movement there. So as far as changes, I'm not sure what change you're talking about -- if you're talking about it from an expense side?

Yes.

I would say that it would incrementally grow with that revenue base growing, but probably at a slower rate because we've already made an awful lot of investment there.

Got you. And just one quick follow-up. On a topic of component costs, you've mentioned -- you made some comments about optical component pricing as your product mix shifts into that direction. What about some of your more traditional silicon costs related to HDSL -- any commentary there?

Yes. I don't think Jim specifically said opticals pricing was up. I think he talked about the fact we had to do an awful lot in a short period of time, which means we expedited an awful lot.

Got you.

In general, our commodity pricing is stable.

Great. Thank you.

[Chadon Sakar, Arida]

My question is regarding the backhaul congestion that's going on from some of the wireless carriers in the United States. And I'm guessing this means it should give you a lift on your HDSL business. I know that's been weak for other reasons. And I'm just kind of curious if most of that benefit is already behind you or if most of it is ahead. And if it's ahead of you, is this like a multi-quarter thing? A multi-year thing? Or is it just fairly compressed into the next few months?

This is Jim. Let me take a shot at that. We think we're still on the front end of wireless capacity expansion, whether it be fiber or copper and ethernet over copper as well. So we think it's a multi-quarter sort of thing. There's going to continue to be fluctuations from quarter-to-quarter as there normally are.

Yes, specifically in my comments, I talked about the fact that optical, we expect -- this is -- what we're seeing right now in -- what we saw in Q3 was kind of the relatively early phase of deployment on some things that people are doing with optical access to cell sites. So we'd expect it to last. It's definitely in the quarters, if not the years.

Okay. And just as a follow-up to that -- you guys have nearly 100% market share now, I guess, in HDSL. Can you sort of give us a rough ballpark if AT&T or Verizon choose to go more of a fiber route in any particular area on their backhaul, what kind of market share do you have there versus, obviously, the monopoly you have on HDSL?

That's a tricky one to answer because there's an awful lot of competitive wrangling that's going on. I would say in certain areas we have an excess of 50%; in some areas, we have less than 50%.

Do you think that's going to be mostly ethernet over SONET? Or you think it will be some other architecture?

In the near-term, you're going to see TDM over SONET, ethernet over SONET, and then longer-term, you're liable to see -- different carriers are doing different things.

Ari Bensinger, Standard & Poor's.

Besides for the direct benefit from the broadband stimulus package during 2010, do you see the potential for the release of some pent-up demand from carriers that maybe held up spending projects in the hopes of funds, but did not qualify?

There's -- yes. The answer is yes, because I think that that market, that Tier 2, Tier 3 market, some of the players in that market kind of went on a diet going into this year and definitely the first half of this year, trying to see how they would position themselves for broadband spend.

Some of those carriers have no intent at this point in time -- they may not qualify or whatever rational reason they have as to not going after it. And those carriers that we're in discussions with are talking about how they're going to move forward with broadband expansion outside of the stimulus plan. So the short answer to your question is yes.

Larry Harris, CL King.

I know this may be a difficult question to answer, but what do you think your addressable market in terms of the broadband stimulus could be? Obviously, none of the winners have been announced; there could be a number of different approaches used. But how much do you think you could see in the way of revenues from this, say, over the next three years or so?

Larry, this is Jim. And that's a hard -- very difficult question to answer, as you suggested.

We believe that over the years, particularly over recent years, we've built awareness in that group of customers. You've seen several announcements over the last few months, in terms of awards that we've had with that group of carriers, as evidence of us building awareness. We think that our market share in that group will continue.

Broadband stimulus related projects or non-broadband stimulus related projects, we continue to build awareness specifically for broadband project funds as we sit here today. We will continue to do that through next year.

Let me add one other little point that I mentioned prior to this but I may not have gotten completely across. And that is that the broadband stimulus funds that we're talking about today, which were the $7.2 billion, they have to be spent by September 30 of next year.

So that piece will be done, although once you get chassis installed, there's incremental pieces on top of that. And whether the government decides to do something beyond that is (inaudible). But -- so a large chunk of that kind of spending that will happen next year.

That's very helpful. Thank you for that. And any comments regarding share repurchase? It's been running, I guess, at a level below last year's rate.

Right, last quarter, we -- as you point out, we purchased about 60,000 shares at an average price of $22.39. We will continue to be opportunistic. We continue to have about 3.3 million shares remaining in the program.

Are you still continuing -- see it continuing at the current pace?

Yes, yes, but again, we continue to be optimistic. I mean, the pace may vary from quarter-to-quarter but we expect that the program will continue.

Understood. All right, thank you.

Simon Leopold, Morgan Keegan.

This is Paul Bonenfant calling in for Simon today. A couple of questions on the TA5000. I'm wondering if it's crossed 10% of sales yet. I believe you mentioned it was above 5% last quarter. And how dependent is the fourth quarter level -- I believe you called for TA5000 revenues to be up sequentially, but maybe you can clarify that for me. How dependent is that on revenue recognition versus new shipments?

Revenue recognition -- I think all of the TA5000 (multiple speakers).

Right, right. The vast majority of TA5000 shipments are recognized as revenue upon shipment. In terms of the level of revenue, we are sequentially up in Q3. We have not yet passed the 10% mark, but we're very close to it.

And could you clarify -- did you call for an increase in Q4?

Yes.

Okay. And in 2010, what proportion of the TA5000 opportunity comes from -- and again, this is just trying to get your sense -- from enterprise ethernet versus wireless backhaul versus FTTN or FTTP? And are there other material applications we should be thinking about?

Well, I think all the applications that you mentioned are applications that we're shipping today. And those should grow over time. Does that answer your question? I'm not --?

Yes, that helps. And one last one, if I may, and I apologize if you addressed this earlier -- calling on the Ericsson discussion earlier. If you sell products through a partner, how should we think about assessing the impact on your gross margin?

Yes, this is Tom. We did address that earlier. And the answer was, we expect over the long-term -- and I don't mean by long-term, three or four years; I mean relatively -- we do typically have some costs right out of the gate that impact significant projects like this -- but over the long-term, we expect it to be at the corporate average.

All right. Thanks for taking my questions.

Ehud Gelblum, Morgan Stanley.

Two quick questions. First on markets and then a little more insight with the Ericsson process, if we could.

Markets -- if we look at Internetworking and NetVanta, and then we look at optical access, Tom, I think you said on the optical access side that there was some market share gains; that market itself clearly growing a lot.

And on the NetVanta side, if you could -- for both of them, if you could parse out how quickly you think each of those markets is growing versus how much gain are you getting from market share gains. Interested in the optical access side to see how fast the market is growing, as well as on the NetVanta side to see -- is there any market growth there or are you achieving more from market share gains versus growth?

Yes, I'm probably, unfortunately, not going to give you as much insight as you'd like, but that has to do with the situation we're in. So, we are a -- to the Tier 1 customer -- and I say Tier 1's because we have a couple of Tier 1's that we're selling optical access to -- we're a relatively new entrant. So, we will go into an area and many of these sales are region by region.

So I can take a look at a region and say, a quarter ago, I had 20% market share; this quarter, I have 55% market share. And I can look at it from that perspective. You may look at that as, well, I was already into that Tier 1 anyway.

So it's -- and I don't have that granularity across all the markets. We are confident we've gained market share in each of those regions. We're also fairly certain that the market itself has grown in each of those regions, but I don't know if I can be much more granular than that.

So in the places where your market share has not grown, you haven't taken new footprint? You've still been increasing --?

Well, in all of the cases in Tier 1's, we have gained market share. If I take those aside and then look at the Tier 2's and Tier 3's -- mainly the Tier 2's; Tier 3's, there's just not an awful lot of optical that happens there. It's hit or miss. Some of the markets are growing; some, there are people still doing some studying. So I would say that the market share growth that we have seen has been by far predominantly in the Tier 1's.

What about the Internetworking side?

Internetworking side, it's predominantly market share gains. I would say we haven't seen a real kind of inflection point or change in the overall environment. It does continually get better. We've got new products that have come online that have allowed us to grow market share in areas that we weren't necessarily the approved product or approved in that particular application. So I would say it was predominantly market share gains.

So enterprise spending has not really picked up that much -- from what you've seen?

You know, it's -- it really hasn't picked up that much for us. I won't say that's true for everybody. But I would say the environment continues to get better. So, I mean, it probably is better but I would say it's marginally better.

Okay, thanks. And then finally on Ericsson, if you can just give us a little insight into how that process sort of evolved. Did you go into this RFP alongside them in AT&T? Or did they go into the process, win it, and then either on the suggestion of AT&T themselves or from Ericsson, come find you and say, we need to fulfill this particular part of the RFP; we'd like you to do it.

And in addition to this, are you some form of a preferred partner? Is there a preferred partner list there that you are now on that could potentially lead to additional joint projects?

Those are really specific questions. I'd answered before that we had been selling the -- proposing the capabilities of our product line to AT&T for some time, and have been working with them for some time on what we thought our products could do.

And so the RFP and the requirements for the RFP, we were hopeful that they would include some of the thought processes that we had; and therefore, that would make the domain strategy impact, in this particular instance, negligible. And I'd like to just kind of leave it at that.

That's very helpful. Thank you.

Bill Desellum, Titan Capital.

You had referenced that there was a difference in terms of your HDSL success, whether the carriers were expanding their cell site capacity in urban versus non-urban environments. I apologize for the rudimentary level of the question, but would you please discuss what and why the impact is different with the urban versus non-urban?

The language there is not as crisp as we'd like. I think the way to look at it is dense populations are dense cell site areas versus non-dense cell site areas. So where there's an awful lot of density, the bandwidth requirement to that particular cell site necessitate higher speeds and fiber connectivity.

So we saw an increase in fiber connectivity, which you can tie directly back to a focus on trying to increase the capacity of dense cell sites, which are typically in urban areas. Does that answer your question?

Yes, I believe so. And therefore, in the urban areas, as that capacity expansion is taking place, that tends to be where you get your HDSL revenue increases from?

Well, that would be for fiber optics. So in urban areas where, let's say, downtown New York, those cell sites are probably not connected up with HDSL. So where they're going and adding capacity, and that may be swapping products out or maybe they just kind of flip the switch over to wanting to add from [8T1's to 12T1's] or whatever, they say, okay, at this point in time, I need to go ahead and add fiber to that particular site.

So see, they're adding incremental bandwidth, which may be more fiber, or converting to fiber, or upgrading the speeds of the existing fiber, but those typically handle in -- happen in more urban or denser cell sites. For less dense cell sites, you would still see the [not] HDSL.

That is helpful. Thank you.

Andy Schopick, Nutmeg Securities.

Tom, I'm going to ask you if you would care to comment on the current situation regarding Telstra and the Australian government. As you know, Telstra is not very happy with the proposed changes that the Australia government is trying to make to their telecommunications laws. And there's a very large national broadband network buildout that planned.

I wonder how this is affecting your business, your current business, with Telstra, whether you care to issue any just general commentary on what you see playing out there.

I think you'd have to have an incredibly good crystal ball to be able to say what's going to happen there, because that's been a very fluid situation for almost four years now.

The -- I will say that we've seen some positive things come from it. And that is, if you'll recall -- and it may be roughly four years ago -- we had another vendor, a very large vendor, that had come in and, in effect, was going to sole-source their entire network. That, of course, put some of the business that we had there at jeopardy.

That hasn't come to fruition. There's been an awful lot of ins and outs, both from a vendor perspective and from a management perspective, within the various organizations. And at this point in time, we're actually more hopeful -- in fact, we're very hopeful of being able to get our ethernet products, our business ethernet products into the network. And I think some of that is a result of what's going on there and the fact that the delays of this process have forced -- or really pushed some of the parties to go ahead and do something. So that's been a positive.

As to how it's going to turn out, I mean, it's a -- there's an awful lot of political and business motives that are going on there that I wouldn't try to speculate on.

Tom, is there any -- can you comment at all about the current level of anticipated product sales to Telstra and what you might anticipate in 2010, based on the current situation?

If you ask the question on the fourth quarter and we're talking about next year, I'll try to address it. I'd rather not do that today. I'll talk to you about our current revenues there. Our current revenues there are basically flat. They vary from quarter to quarter.

But if you look at it from a longer-term snapshot, they're basically flat. We think the things that are going on there are incrementally positive. So one is they add life to our product, because at this point in time, we're selling a broadband service that's ATM based.

Our mission has been for some period of time to move that service and to start selling them an ethernet-based product. And I think we're very close to success there. And that will play itself out; but as far as the incremental add to their revenue next year, I would rather wait until the (multiple speakers) --.

Fair enough. Thank you.

Vanessa, I think -- one more question.

Yes, sir. Your next question comes from the line of Brian Coyne, Wedge Partners.

Thanks for taking my call. A lot of good questions, so I'll just -- a quick one to follow up on the gross margin outlook for the fourth quarter. Again, just -- would you say that that's prominently or predominantly because some of the expedite costs that you experienced in 3Q won't recur?

And then looking ahead, could you hazard a view perhaps in the next year, particularly with the impact of the broadband stimulus?

Well, in regards to the fourth quarter, we do believe that a slight increase in gross margin would be the result of less expedite.

In regards to 2010, we're still anticipating high 50s range in terms of gross margins with the broadband stimulus. Hopefully, that answers your question.

Yes, that's great. Thanks.

Well, thank you, Vanessa. And thank you, everybody, for joining us on our call and we look forward to talking to you next quarter.

This concludes today's conference call. Thank you for your participation. You may now disconnect.