ADTRAN Holdings Inc (ADTN) 2012 Q4 法說會逐字稿

Ladies and gentlemen, thank you for standing by and welcome to ADTRAN's fourth quarter 2012 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. (Operator Instructions).

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 marketing acceptance of core 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, 2011 and Form 10-Q for the quarter ended September 30, 2012.

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

It is now my pleasure to turn the call over to Mr. Tom Stanton, Chief Executive Officer of ADTRAN. Please go ahead, sir.

Thank you, Lindsay. Good morning everyone. Thank you for joining us for our fourth quarter 2012 conference call. With me this morning is Jim Matthews, Senior Vice President and Chief Financial Officer.

I would like to begin this morning by discussing the details behind our Q4 results before we move on to review of 2012, and I will end with some comments on this year. We will then open the call up for questions.

As stated in our press release, revenues for the quarter were $139.8 million, meeting our expectations and reflecting a spending environment which remain difficult during the quarter. Our domestic tier 1 customers showed some signs of stability in the quarter with all three carriers overcoming normal seasonal trends, ending either flat or up for the third quarter -- compared to the third quarter. The tier 2 and tier 3 US carrier market came in as expected, showing a normal sequential decline from the third quarter.

International revenues for the quarter were sequentially down as expected, and Enterprise Division revenues came in essentially flat for the quarter at $29 million versus $30 million in the third quarter.

Getting into more specifics, in our Carrier business the impact of HDSL on a sequential basis was immaterial although the year-over-year decline was 42%, driven overwhelmingly by a single tier one customer who has instituted an aggressive reuse program.

As mentioned previously, sales to tier 2 accounts, which are predominantly Broadband Access customers, saw an expected sequential decline in the fourth quarter. However, on a year-over-year basis, sales to these accounts were up over 100%.

Enterprise Division revenues came in at $29 million with sequential increases in routers, switches and wireless LAN products overcoming continued softness and IP gateway sales.

As expected, we continue to experience softness in our incumbent and competitive Carrier channels. However, these sequential declines were largely offset by growth in our dealer channel.

Our international performance came in at $29.2 million, largely attributable to project timing of a large customer in Latin America.

As we have said several times over the last year, the markets we serve in general experienced a significant pullback in spending, which affected us in several areas. By far the largest impact occurred in our products, both Enterprise and Carrier, which are sold to carriers. Of course, our Carrier division felt the brunt of this pullback, which manifested itself most strongly in decreased capital expenditures at two substantial broadband access customers.

I would like to reiterate that notwithstanding the revenue performance at these customers, we saw no significant decline in market share in 2012.

The performance of this division was further impacted by a dramatic decline in HDSL at one large Tier 1 carrier, whose reuse program drove a 70% year-over-year decline in HDSL revenues there. For the year HDSL was down $60 million, and on a GAAP basis this represented nearly two-thirds of the total Company's year-over-year revenue decline. Of course, the pullback we so occurred in many regions around the world and impacted our projections in Europe as well as here in the US.

Our Enterprise Division, which is largely driven by or Internetworking product area, was also impacted. Our Internetworking product area was down 6% on an annual basis with growth of our dealer channels being offset by a decline in Carrier spending.

As we look forward into 2013 and beyond, I think it is important to convey a few data points which help clarify last year's activities. As I previously mentioned, Internetworking was down 6% due to slow Carrier demand. Internetworking sales to our US VAR channels, however, increased over 12%, helped with increasing sales of our Bluesocket wireless LAN product.

During the year we increased our VAR base to over 3500 and we continue to increase the quality engagement levels with these important partners.

The Carrier Division entered 2012 with priorities to diversify our revenues by developing international channels to market and growing market share in tier 2 and tier 3 accounts here domestically.

Although the timing of the BBA acquisition unfortunately aligned with a pullback in European spending, we are more convinced than ever that the successful integration of the BBA business, which occurred in 2012, will substantially meet the first priority and will pay dividends well into the future.

As I previously mentioned on other calls, our tier 2 and tier 3 performance was adversely impacted by project delays at a single tier 2 customer. Excluding the impact of that customer, our combined tier 2 and tier 3 revenues grew 22% over the previous year. And I will remind you that this occurred during a period of capital constraint and regulatory unease.

We enter 2013 with cautious optimism. Our caution is driven by the current market environment, where we find our carrier customers tightly managing capital expenditures and delaying upgrade decisions as they look for economic or regulatory clarity. Our optimism is driven by the position we find ourselves in, as carriers both large and small enter a new wave of investment to meet their customers' needs.

Over the last few months carriers in both the US and abroad have announced their intentions to significantly upgrade their capabilities to meet these requirements, and we believe ADTRAN is uniquely positioned to meaningfully participate in this evolution.

Furthermore, our continuing inroads developed here in the US in the tier 2 and tier 3 marketplace will foster meaningful growth as regulatory issues are ultimately resolved.

I would now like to Jim Matthews to review our results for the fourth quarter of 2012 and our comments on the first quarter of 2013. We will then open the conference call up for questions. Jim.

Thank you, Tom, and good morning everyone. Revenue for the fourth quarter was $139.8 million, compared to $175.3 million in Q4 2011. Broadband Access product revenues for Q4 2012 were $70.1 million compared to $74 million for Q4 of 2011.

Internetworking product revenues for Q4 of 2012 were $31.6 million compared to $43.1 million for Q4 of 2011. Optical product revenues for Q4 of 2012 were $12.3 million compared to $17.3 million for Q4 2011.

Carrier systems revenues for Q4 2012 were $90.1 million compared to $101.3 million for Q4 of 2011. Business Networking revenues for Q4 2012 were $33 million compared to $45.2 million for Q4 of 2011. Loop Access revenues for Q4 2012 were $16.7 million compared to $28.8 million for Q4 of 2011.

HDSL product revenues for Q4 2012 were $15.6 million compared to $26.7 million for Q4 of 2011.

As a result of the above, Carrier Networks Division revenues for Q4 of 2012 were $110.8 million compared to $134.2 million for Q4 of 2011.

Enterprise Networks Division revenues for Q4 of 2012 were $29 million compared to $41.1 million for Q4 of 2011.

International revenues for Q4 of 2012 were $29.2 million compared to $26.8 million for Q4 of 2011.

To provide the reporting of each of these categories, we have published them on our investor relations webpage at ADTRAN.com.

Gross margin was 48.2% of revenue for Q4 of 2012 compared to 49.3% for Q3 of 2012 and 56.6% for Q4 of 2011. The lower gross margin compared to Q3 of 2012 was largely attributable to higher than anticipated services related costs in the acquired BBA business. We expect these costs to decrease on a percentage basis over the next two quarters.

The lower gross margin compared to Q4 of 2011 was attributable to lower gross margins related to the recently acquired Broadband Access business, a changing customer mix and lower volumes.

Total operating expenses were $64.5 million for Q4 of 2012 compared to $69.7 million for Q3 of 2012 and $58.1 million for Q4 of 2011. The decrease in operating expenses from Q3 of 2012 to Q4 of 2012 was attributable to a general decline in discretionary spending and integration savings associated with our acquired BBA business.

The decrease in operating expenses from Q4 of 2011 to Q4 2012 -- I'm sorry, the increase in operating expenses from Q4 of 2011 to Q4 of 2012 was primarily attributable to operating expense related to the acquired Broadband Access business, partially offset by a decrease in operating expenses in our organic business.

Amortization costs included in operating expenses totaled $1.2 million for the quarter. Integration and other acquisition-related expenses included in operating expenses were $323,000 for the quarter.

Stock-based compensation expense net of tax was $2.2 million for Q4 of 2012 compared to $2 million for Q3 of 2012 and $2.4 million for Q4 of 2011.

Supplemental information for acquisition-related expenses, amortization and adjustments in connection with recent acquisitions are provided in our operating results disclosure.

All other income, net of interest expense, for Q4 was $3.5 million compared to $3.4 million for Q3 of 2012 and $4.2 million for Q4 of 2011.

The Company's income tax rate was 38.1% for the fourth quarter of 2012 compared to 31.3% for the fourth quarter of 2011. The higher tax rate for the fourth quarter of 2012 relates primarily to a delay in legislation to extend research tax credits and adjustments in the deferred tax asset valuation allowance for the acquired BBA business.

Earnings per share on a GAAP basis, assuming dilution for Q4 of 2012 were $0.06 compared to $0.48 for Q4 of 2011. Non-GAAP earnings per share for the quarter were $0.11 compared to $0.54 for the fourth quarter of 2011.

Non-GAAP earnings-per-share exclude the effect of acquisition-related expenses, amortizations and adjustments related to acquisitions and stock compensation expense. The reconciliation between GAAP earnings per share, diluted and non-GAAP earnings per share is provided in our operating results disclosure.

Inventories declined to $102.6 million at quarter end compared to $107.2 million at the end of Q3 of 2012. Net trade accounts receivable were $81.2 million at quarter end, resulting in DSOs of 53 compared to 58 DSOs at the end of Q3.

Unrestricted cash and marketable securities net of debt total $500 million at quarter end, after paying $5.7 million in dividends and after repurchasing 608,000 common shares for $10.8 million.

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 for the quarter or for the year. However, we would like to give you color to help you formulate your views on our near-term business outlook.

For the first quarter of 2013 we expect Company revenues will be in a range of what we saw in Q4. We expect GAAP gross margins for the first quarter will be in a range of what we saw in Q4 as well. We expect GAAP operating expenses for the first quarter will be flat to slightly down from Q4 levels.

GAAP operating expenses for the quarter we expect will include acquisition-related amortizations of about $1.2 million. We believe the larger factors impacting the total revenue we realized for the first quarter of 2013 will be the following -- the macro spending environment for Carriers and Enterprise; regulatory uncertainty in the domestic carrier market; Professional Services activity levels, both domestic and international; the timing of revenue related to Broadband Stimulus program; and the adoption rate of our broadband access platforms. Tom.

Thank you, Jim. Lindsay, at this point we would like to open it up for questions.

(Operator Instructions). Simona Jankowski, Goldman Sachs.

I just had a couple of questions. The first one pertains to the potential opportunity at AT&T. Can you just give us an update of where that stands in terms of the RFP process and how you think ADTRAN might be positioned for that?

Yes. I really -- it is difficult for me to talk about specific customers, because of their concerns and they like to make their own announcements. But I will talk to you in general.

In general I think we are feeling very good, that we have a very good product fit. I think our relationship with AT&T has historically been very strong. We had previously announced their agreement with Ericsson as the domain supplier in order to be able to sell our products into that opportunity.

They had previously been selected, so I think that there is a very good understanding of what the potential is from a product and feature set perspective. We think it is a very good fit, and we are feeling very good about it.

Okay, appreciate that, and then the second question was pertaining more to your international business, which declined quite a bit sequentially. And, as you mentioned, that was largely in line with your expectations given the wind down there at Telmex. But in the past you talked about some other international opportunities, even in the organic business. And so can you update us on where we stand with those?

And then specifically then to the BBA aspect of that, obviously, as you pointed out, the timing there was a little bit unfortunate. But now that we have seen Deutsche Telekom and potentially others talk about increased spending in 2013, what would you expect directionally to happen in -- in the BBA business? And is there a final update for where those revenues shook out for 2012?

Sure, good question. So, let me start with the Latin American customer which we mentioned was a decrease -- sequential decrease. First of all, I mentioned the fact that that was project timing. And I just want to make sure that you understand where it is, that this customer, because of the installation progress that we will have in any particular quarter, and the ordering activity we will have in any particular quarter will ebb and flow.

We have some visibility to that, because there is a lot of project activity going on, so we can see a little bit ahead of what we normally see in our normal cycle time, which is why mention that we expected that decline.

I do not expect -- for instance, I would expect -- we have some expectations in the Q1 which are actually little stronger than what we saw in Q4, and I would expect that customer -- fully expect that customer to continue on throughout 2013, and we fully expect activity in 2014. So I don't want you to -- when you said the ending of that project, I think we are still very early on to what they want to get done, and we are in a particular phase which is still going to carry on through the rest of 2013.

Okay.

As far as the other activities, and more specifically BBA, we are very much aware -- I mentioned some of the activities regarding announcements towards the tail end of last year in other areas outside of the US, and Deutsche Telekom was one of those. I would say right now we are feeling very similar to the way we feel about AT&T.

The BBA products have been approved into that network for some time. They have been buying our products for some time. I think we are very much aligned with their roadmap, and we're feeling good. So we'll just have to see how that plays out.

Timing on these type of things, when you're talking about large carriers, is also difficult to pinpoint. There are activities outside of that particular customer that we feel good about, both in Latin America, in South America specifically, and in Europe. And those will come in.

I do think we experienced a pullback, which manifested itself in lower sales as well as delays in projects. We are seeing more activity now, real RFP bidding activity in Europe than we have been able to have visibility to, probably ever. But, here again, timing the projects on large carriers is difficult.

But there are other carriers in Europe, specifically, that I think have very large plans to be able to follow suit to what Deutsche Telekom is doing.

Sure, but just so we have the correct starting point, I think when you made the acquisition you had expected about $140 million to $180 million in revenue the first full year. Can you just let us know if you at least came in within the low-end of that? Or how are we tracking relative to that?

We did not come in at the low end of that. That actually -- we saw that -- that pulled back. And I would say predominantly it was a pullback, because we actually had customers -- the customers that we went into the agreement with, and the relationships that we had planned on being able to continue to hold onto, were for the most part exactly what happened. So what we did see, though, was a decrease in spending level versus their historic norm at most customers. But we fully expect that to return.

But to answer your question directly, we didn't meet the low end of that.

Okay, appreciate it. Thank you.

Michael Genovese, MKM Partners.

Just to follow up, a couple of follow-ups from the last question. When we look at the international revenues for the quarter, $29 million, is it safe to assume that -- are we talking about -- would 90% of those revenues, something around there, be ADTRAN Europe?

I will let Jim -- I don't know. I really just don't even have that, but I'll (multiple speakers).

Yes, so we did see an expected sequential downtick in the acquired customer base in Q4, but I -- (multiple speakers)

Well in excess of 50%, I think, is very --.

Well in excess of 50% of the $29 million would be (multiple speakers). Yes, well in excess of 50% of the $29 million in total is where they came in for the quarter. But that number will be more apparent in the 10-K report.

Got it. Okay. But I mean -- so we saw a sequential decline despite typical seasonality. Do you have a view on typical seasonality in that business? Do you think that it was down sequentially because this year is a worse year than normal year for CapEx? Or do you think that the seasonality of that business is similar to the core ADTRAN broadband seasonality?

You're talking about the acquired business?

Yes.

I would say -- I am now a believer that there is a typical seasonal decline, I think similar to what we sometimes see here in the US. I think the customers in general act very similar to the larger carriers that we see here in the US, which is you will see them slow down. Sometimes you will see a little budget push, but it really doesn't affect the overall trend.

But I do think that coming into even the third-quarter comparable was -- we were already seeing that pullback pretty much most of the year, definitely from the second quarter on, and we saw that slower spending in the third quarter. And I think we saw a pullback from the third quarter. I don't think we saw a tightening in the fourth quarter over and above what we would -- on a percentage basis what we would normally expect.

Got it. And then, finally, can we just talk about the two businesses that did well in the fourth quarter? So, in terms of sequential growth, obviously very strong HDSL and other legacy products sequential growth, and also the Optical Access business did fairly well there. So could you just provide more color on what drove that performance?

Well, well, of course, is a relative term. HDSL, what we did see is some increase in spending, and I would say we saw an increase at -- we have that one carrier that pulled back strong pretty much throughout the year. We actually saw that actually come back some. Nowhere near to the rate had been, let's say a year ago, but we actually saw a rebound in that customer.

In general I would say HDSL did -- it just did okay. I wouldn't read too much into that. It's kind of -- I think we are at -- I don't think that customer is going to reinvigorate and be at the levels they were historically.

So I think we are bouncing around what I would tend to consider the bottom. I think we will still continue to tail down from here. But I think a big, big downtick, which I mentioned was 70% or something at that one customer, there is just no possibility of that happening again.

Got it. Okay, and then real final question from me before I cede the floor would be -- there has been some chatter out there just people listening to one of the carriers, Verizon -- talking about potential Hurricane Sandy effects. And so was there any of that in the fourth quarter on that HDSL number?

And, also, what would be your view in the first quarter there? Do you think that particular customer would be pulling any business that may have been expected later in the year, sooner into the fourth quarter and into the first quarter?

Well, we did our best to help Verizon overcome their issues associated with the hurricane. And I think we probably did -- we did see a pickup there. I wouldn't say that it was dramatic.

I think that there were some emergency things that they needed to get up and running, and our real impact with them is going to be over a few quarters. But I don't think it is going to materially move the needle. I think it is incremental to what we are doing with Verizon. But we don't see it substantially changing the profile of our business.

Great. Thanks, Tom.

Simon Leopold, Raymond James.

This is Victor Chiu in for Simon Leopold. Can you give us an update on how the BBA margins are improving towards Europe mid-40s target? I think you have mentioned they were somewhere in the mid-30s last quarter, and just how they were this quarter, and if you still expect to get to that mid-40s range by Q1?

Jim?

Victor, we did comment that we saw higher services-related costs in the quarter related to the BBA business. So that weighed on margins. And as we said in our notes, is that we expect that those higher costs will be -- begin to decline in the next two quarters. Okay?

So that puts us in a position of, we think, potentially seeing some improvement in Q1, but, again, being weighed by the services-related costs that we expect to continue to incur until they abate after the next two quarters.

Let me add one other piece to this, which may -- it may actually confuse things, but it is what it is. As we have gotten into the business with these customers, then shipping customers, there are certain product mixes that will affect margins, and can affect margins enough for them to show up at least in the margin profile of the BBA business.

If you look at the aggregate business over a period of time, I think the [40s] piece is still -- in fact, I think we're well on track to that and definitely have met what our expectations were.

On a quarter by quarter basis, product mix will significantly impact those margins, and they are typically made up over the next couple of quarters. And by that I mean specifically, if I have a quarter where I'm shipping a bunch of empty chassis, our margins in that quarter will be impacted.

That typically will be followed by line cards, but the differential between line cards and chassis in the BBA business is substantially different than what we have in our domestic ADTRAN business. I just want to make sure that you are aware of that.

Okay. And I guess along that line, can you speak some about the broadband stimulus portion (multiple speakers)

Broadband stimulus, actually, and I don't know the -- it was basically --

Basically flat, but --.

Yes, to the third quarter. We had a fairly good third quarter for broadband stimulus. We had a fairly good fourth quarter for broadband stimulus, and we would expect that to continue on, at least through the first half of next year.

Was there any improvement in the gross margin in that portion of the --?

No, that is pretty much -- that is -- no, I don't think we are going to see a significant improvement in gross margins on that from a product perspective before a large percentage of that ships. So that is what it is.

Okay. Actually, just one last quick question. I remember AT&T, in their analyst day conference, they mentioned that they were going to expand broadband access in their non-U-verse footprint by LTE coverage, guess. Was that something that was new for you guys?

Actually, I think they're doing multiple things with their expansion. Some of it is upgrading their existing fixed infrastructure outside of the U-verse footprint.

Right, there was a combination I guess of LTE --.

It is absolutely a combination. And I think it is -- it is a very exciting opportunity for us, and I would love to be able to tell you that we're starting to ship or something. But it is a very exciting opportunity, a very meaningful opportunity for us.

I think we have the right products, and I do think it is -- the amount of dollars that they are actually putting into the fixed pieces would be meaningful for anybody.

Thanks a lot.

Rod Hall, JPMorgan.

Thanks for taking my question. I have got a couple for you. I just wanted to circle back around the gross margins and see if, when you add all the commentary up to you have made about gross margins, are we then looking at -- it sounds like we're looking at some chassis shipments at the Broadband Access business that deplete gross margins for a couple of quarters here. And then they rebound to some more natural level.

So, for the overall business, are we likely to see that -- I want to be clear on the timing too. So, the first two quarters of this year you think are impacted by that, and then they rebound to around say 40% or something like that. Can you just give us some idea of what the trajectory of those gross margins ought to look like in our models?

And then, secondly, we noticed that deferred revenues were up a little bit. I just wanted to see if you guys could comment on that. Is that just normal seasonality? Or is there something specific going on there that you could make some comment on?

And then my third question is on Internetworking. Internetworking business declines accelerated. I just wonder if you could comment on what is going on with spending there and how you think the outlook for that is for 2013. Thanks.

Let me cover the first one and then the second one I will let Jim tackle, and then I will cover the third. But the first one on the chassis shipments, and how that plays into the comments about the six months being -- having service-related charges, those are really two separate events.

So, the service piece that Jim talked about, and his comments were more related to product -- I will say product/warranty type expenses associated with the BBA business. As I mentioned, and I am sure I have mentioned several times on different calls, we are making sure that we keep the customer base highly satisfied as we go through this transition and that we are in a very good position to capitalize on these different carriers' infrastructure upgrades in the next few years.

And in doing so we are taking a very, let's say, aggressive attitude towards solving any issues and being more lax than, let's say, what the warranty statement says on particular things. And in doing that, we are in effect making sure that if customers are dissatisfied somewhere that we are actually addressing the issue head-on. And I think that is more of what Jim was talking about.

My comment on the chassis piece was really more of, I guess, letting you know that the ability to pinpoint gross margins on the BBA business on a quarter by quarter basis is difficult. We will take the best stab at it that we can. We will take the best stab at chassis pieces as we can, but on a quarter by quarter basis, that is going to be a difficult business.

Now, I think once the business actually picks back up, I think the volume will help alleviate some of that. I think the line card piece will actually pick up faster than the chassis piece. But that was really more just talking to you about the variability going forward basis. Jim?

Rod, in terms of the deferred revenue question, we did have a few adjustments as it relates to the purchase accounting of the BBA business. And we will provide more details to that in our 10-K.

Okay, and can you guys -- is there any comment you can give us on the business gross margins -- what you think the natural level is, once you get past this more aggressive product warranty expense period?

I think we had said in the mid-40-ish range and there is nothing at all that makes us not still continue to believe that.

Okay, so you think that by the end of 2013, that once you get through -- like you said, a couple of more quarters of this, you are back in the -- you should be back in the mid-40s range? That is what you would expect?

That is definitely what we would expect. And, in fact, I would say -- he said decreasing over the next couple of quarters. I think we will probably see a decrease from Q2 versus Q1 even in those type of expenses. And then the only thing that you have to watch out for is this variability of chassis shipments.

And we're going to try to factor that into our gross margin color that we give as we go forward and looking into the next quarter. But that is just one that you are going to have to have a bigger window to really see that mid-40s.

Okay, and what about Internetworking? Can you guys make any comment about where you see spending going in that end of the business over time?

Well, I mentioned in my comments, the Internetworking piece was really impacted by the Carrier business. So the Carrier slowdown that we saw on the Carrier side of our business, the Carrier Division, also was by far the issue associated with Internetworking and with the Enterprise business.

If I look at just the Enterprise VAR channel, it actually -- in the environment that we are in, I would say it did okay. It was down slightly. If I look at the VAR business I would say it hung in there actually very well.

But the Carrier piece, which is mainly -- predominantly IP gateways that are sold to CLECs, and to the RBOCs or the ILECs, is really where we saw the impact. I would expect that to actually come in line as we see the Carrier environment improve, and I think we would see improvement there.

We have done an incredible amount of work on verifying marketshare and where we sit, and we don't believe we have lost any meaningful marketshare. We do believe just the volumes of those products are down within the Carrier base, and that they will rebound when things get better.

Great. All right, thanks a lot guys.

Eric Ghernati, Bank of America Merrill Lynch.

Jim, just wanted to clarify a comment that you made to an earlier question. The international revenue, did you say that the acquired business contributed well in excess of 50% of that, so the sequential decline in the acquired business was well in excess of 50%?

No, the decline -- sequential decline in the acquired business was not to the level of 50%.

No, the comment was that more than 50% of the $29 million was -- and I am thinking $29 million; is that the right --?

Right, $29 million.

$29 million was actually BBA business. So --.

Got it, okay, thank you. So the second question I have is with respect to the -- your operating margin targets. A quarter ago you said that you have not changed your target margin per se, but just looking at your -- where you are from a gross margin standpoint, you're at least 10 points below your peak levels, and your expense structure is really at an all-time high versus current sales prospects.

It does seem -- I guess, if you could bridge the gap between what you are seeing right now and the fact you are not really -- you are containing the cost, but you're not really restructuring it, and your expectations for a potential return to the 20% operating margin level over some period of time.

Okay, so, from an operating margin perspective, our longer-term target has not changed. And if you say the in [20-percentange range], I think you are still thinking the right way.

I think it is difficult -- we can say what is our operating margin in the current environment? When you say we are overstaffed for the prospects, that probably takes more analysis. If you say we are overstaffed for the current revenue level, I totally understand that. Totally agree with that.

The question is, is how much restructuring do we do over and above what we have done now, based off of what we are considering to be an effective pullback in the market, which is not indicative of the long-term trajectory of the market. If I were to ever believe that is the long-term of trajectory the market, we would absolutely relook at the operating model by what we are operating under, and we would look at the way the business is structured and restructure it accordingly.

But at this point in time I don't have a good -- I don't have a sense that this is more than what we have -- what we believe it is, which is a pullback in carrier spending. And if I look at the announcements and the language that some of the carriers are using, I would believe that there is really strong potential in the not-too-distant future.

Well -- (multiple speakers) sorry.

After we -- if we were to enter a period of time where we are returning to growth, and we are seeing that the gross margins associated with the businesses that we are in is different than what we had historically seen, at growing or constant or growing revenue levels, then I would agree -- then we would readjust that.

I guess maybe let me probe on that a little bit, because a lot of people are trying to get their arms around what's your ultimate opportunity at AT&T. And they -- I guess there they are gearing $6 billion in CapEx towards their fixed broadband access, but only half of that is going to go through DSL pair bonding and vectoring, and the other half is actually going to go through their U-verse.

I guess the first question is where are you positioned within AT&T? Are you positioned within their U-verse business? Or are you positioned across all their businesses?

Let me say, if half of their $6 billion is going towards the non-U-verse business, I will start by saying that's still a meaningful number to us. Having said that, the RFP that we had talked in the past about was for IP DSLAM and a second source for U-verse. How that plays itself out is yet to be determined.

And by that I mean what marketshare is given to what vendor on what specific piece of the business.

And there are more than two pieces here. There are multiple, I think, moving -- there are multiple initiatives in which we are playing at this point in time, in all of the initiatives on the fixed side. But I think even by your numbers, if we were to do none of U-verse business, which I am not here to tell you that is the case, because like I said, we believe we are very competitive across the board, I think it is still a very meaningful number for us.

And realistically even with Calyx's relationship with Ericsson, you feel like you still have a good shot at garnering some market share within this CapEx from AT&T?

Yes. I guess I am surprised that is still a question, because I don't sense that -- our relationship with Ericsson within AT&T is very strong.

Okay. The final question I have for me is your inventory levels. From an inventory to sales ratio, per my math at least you are at an all-time high. A, what is -- what do you plan or what are your plans for the inventory levels going forward?

I don't know if we have given the specific target. I will leave some comment to that on Jim. Our inventory levels are high. Some of those inventory levels are associated with our BBA business acquisition. Those inventories will work themselves down substantially this year.

We also have inventory associated with broadband stimulus, which is in effect in the field as well as in our Latin American customers, as well as other domestic customers in the US where we are doing services business. And that is, in effect, a new increment to us.

I don't know, Jim, if we actually break that out, but there is a piece of inventory there that is just associated with the services business that is actually shipped product. We just have not yet recognized it.

And in the way that we are to calculating, and the way that we are running the business, we are not really calculating that in our turns, because our turns are in effect in place to make sure that we have a good balance between meeting customer demands and the amount of money that we actually have sitting in inventory. And if it is already shipped, it doesn't help you meet customer demand.

Having said that, you will see both of those numbers go down, both the internal ADTRAN inventory, and I think even more aggressively the BBA inventory.

Thanks for the clarification.

Jeff Kvaal, Barclays.

Tom, could you help us map the qualitative commentary, and quantitative actually, from the tier 1 carriers about where they're spending their money back to which particular products that you think you will be most successful with? Could you also help us understand how big that might be versus your shipments to these carriers in prior years? To the extent that you have any sense of timing, that would be helpful as well.

Timing, of course, is going to be the most difficult one. I will tell you there are a lot of activities that are going on in earnest right now. But timing with carriers, when you're talking about potential IT integration and things, every time I try to put a day out there or a quarter out there I get burnt, so I am going to be cautious about that.

And some of that is the best laid plans -- in fact, almost always the best laid plans get moved, and you're just guessing on the amount agreement. Having said, let me talk a little bit about the product sets that we are talking about.

In the US it is predominantly our broadband access products, which are our 1100 series, our 1200 series and our Total Access 5000 products. Total Access 5000 would be used for larger deployments and for potential fiber-to-the-premise deployments.

In Europe the product is the hiX product, which is the BBA product. And it is very similar to the product that we have been shipping, although there are new vectoring technologies that we are actually integrating into that product for these builds in Europe. Did that answer that question?

Yes, and then the third portion of it was how big of a -- (multiple speakers) yes, relative to where you have been with those carriers in DSL in the past.

The potential with -- for the builds -- it is larger than anything we have done with these carriers in the past.

Okay.

I don't want -- I want to say -- I don't know if we would be in the order of magnitude larger, but it would be a multiple of what we have done in the past.

Okay. And then are these new -- are these greenfield type builds? Do they carry the margin structure of a greenfield build? Or is this following into the existing products that you have shipped, it is more of a capacity expansion play?

In most cases it is -- it is not greenfield in the sense that there may not already be a product there, but if you look at carriers both here and in Europe, a lot of times the products that they have deployed are antiquated. They may even be only ATM, for instance. They may not be IPTV capable.

So, it is not greenfield in that it's -- it is greenfield in that it is literally replacing equipment that is already installed, and that is in most cases. Now having said that, if you look at the -- we have footprint right now at most carriers in the US. They will use some of that footprint.

In Europe we have footprint. They will use that footprint. And, in fact, in some carriers in Europe we have a significant footprint, and there will be upgrades associated with that. In the US I think it is more greenfield.

Okay, so the margin profile, then, it should be similar to existing equipment that you have been shipping them for a while, rather than fighting tooth and nail for new positioning?

Yes, but I will tell you we fight tooth and nail all the time, so -- I guess -- I think -- I guess I am trying to understand when you say the margin profile. In the US we don't see that big differential between chassis and line cards that we see, for instance, in Europe. So, in the US, I think you would expect us to run that the way we normally have, but absolutely competitive pressures, but I don't think there is any difference if we were shipping line cards versus chassis.

In Europe there is definitely that difference. And there is no doubt that we would have a better profile where we are just filling in slots on existing chassis than expanding footprint. The opportunities in Europe that are the most near-term have a mixture of both.

Okay, thank you very much.

Ehud Gelblum, Morgan Stanley.

Can we go back to Latin America? You mentioned that briefly and that was -- I imagine a large part of the decline in international, certainly BBA had part of it as well.

But can you talk to us a little bit and just give us some color on what is going on there? Were those project delays? And what's the timing on picking that back up again? And when it does come back, is that a one-quarter or two-quarter phenomenon, or is that continuous once it comes back?

It is continuous. I think it is going to be -- I hate to use the term, but it is going to be lumpy. I think you're going to see quarters where it is stronger than other quarters.

I mentioned we, at this point in time, expect first quarter to be stronger than the fourth quarter. And when I say continuous, it is literally -- if I were to sell nothing else, which I am still selling more -- product. We sell product in the fourth quarter for additional pieces of work. But if I were to sell nothing else, we have work that is scheduled all the way through the end of 2013. And there is additional work right now that is being planned over and above within the current scope.

So I think it will be lumpy, but this is not one where we are at the end of the build cycle and it is going to go away. Was there -- there was another part of the question?

No, just building on that, so the $29 million in international, it sounds as though it that is sort of a trough level and we should see both sides of that -- the Latin America and the European piece come -- move up on a lumpy basis? But essentially we are seeing a trough?

If I had better visibility, I would talk a lot more confidently. I feel -- I do think the Latin American piece, which is one of the pieces that we have, I don't know if I would call it a trough, like I said, but I would tell you I would expect it to be stronger in Q1. And I think we will just -- we will -- you will just see that vary quarter by quarter. I wouldn't say Q1 is going to be the strongest quarter of next year, for instance, in that particular customer.

The BBA business, which is predominantly the rest of the business, there is a large amount of fluctuation in the order flow of that business, so it is not nearly as deterministic as the Latin American piece that we are talking about. Having said that, I think we are -- we are not expecting a substantial, really even a meaningful decline from where we were in the fourth quarter. And I hope that helps you.

Sure. It sounds like -- I thought you weren't expecting any decline in Q1 and that European piece. I thought you were expecting it to stay relatively flat. Is that the way we should (multiple speakers)

We haven't -- I don't know -- if I commented on that, I didn't mean to. I think what we said is for the overall Company, we expect it to be relatively flat, which gives us -- of course, depending on where Latin America comes in or any other customer comes, it gives us some latitude on the BBA piece. None of these things are deterministic as I would love them to be, but --.

Sure, sure.

We are trying to give ourselves some latitude for just the fluctuation that we may see in the order flow.

Okay, and given -- since we can't really break out the two different pieces anyway, can you give us just a sequential decline for the BBA piece in the Q4?

I think Jim had mentioned that you will see more -- an update on the 10-Q (multiple speakers) you will be able to see the (multiple speakers)

That number -- that detail will be in the 10 (multiple speakers)

You will actually go see the numbers directly.

Okay. That will actually be very helpful. I appreciate that.

Can you -- before we leave this talk on international, can you give us a sense as to -- and Deutsche Telekom is obviously the one customer that everyone mentions because of, I guess, being in Germany and being the largest customer, but they are not as large as I think people think. Can you give us a sense as to how large DT is of the BBA business? Isn't it more like around 20% to 30% as opposed to significantly more?

It depends on the quarter. I think there are times where it is meaningfully larger than that 20% or 30%.

And I would say probably the reason that there is more maybe focused on DT is the fact they had done an announcement towards the tail end of last year and specifically articulated their vectoring plans and things. So I think that is probably driving as much focus as anything else, because it is very similar to what -- kind of in scope, I guess, to what AT&T is doing.

Right, and come again, it is the story of the man who looks like for his keys under the light post, because that is where he can see. They're the ones who are talking to us, but they are not anywhere close to 50% of that business. They are, I guess, generally smaller, I thought, but maybe I'm wrong.

No, no. I think they can be -- like I said, meaningfully larger than the 20 -- depending on the quarter. And, like I said, there is variability there. And we saw a pullback in the second half, which impacted that specific customer as well.

Right.

So, in any particular quarter you could be right, but in general I would say they're probably a little larger than what you are thinking.

Okay. Now, one of the things they did say in their messaging at the end of last year was that they were focusing on US wireless in 2013, and that the build, if I understood them correctly, to their domestic wireline plant was going to be more of a 2014 issue. Is that what you understand as well or do you see more of an immediate build from them?

Immediate, no; not in Q1. I think -- I am trying to make sure I'm not getting in --- divulging anything that -- I think what you are probably talking about is in the scope of the -- I can't remember the exact dollar amount of the announcement -- EUR30 billion piece that they won't get started in earnest, maybe, on the fixed piece next year and this year. But my sense is that they plan doing something this year.

I think their current plans are that they want to get started this year, but having said that, large carriers tend to be a little optimistic. We love them, but they're -- and hopefully they're not, but I think sometimes they're optimistic.

Right. Two other quick ones. One is optical, access; can you just remind us of what the main use cases of it are in your current run rate? And is there any line of sight to improvement there?

We had picked up some Verizon Wireless business last year, actually got approved last year. We saw a pickup because of that. I don't know if it's actually really started in earnest yet, and that is for backhaul of -- sell-side backhaul. And that is using in Ethernet over SONET.

The pickup in that -- in our Optical business is probably going to be more centered on longer-term towards -- we have specific wireless access and devices and we have our O&E product, which actually last quarter was adopted by two more carriers here in the US. I think that number is going to fluctuate until O&E gets traction. You may see some pickup because of the Verizon piece, but I think in general it's still going to just fluctuate around the level that it is at.

Okay, great, and then finally, Jim, I know you don't give specificity on 10% customers anymore, but can you at least tell us how many they were, and geographically perhaps where they were, and potentially even with the total percentage -- when you add them all up?

So, for the quarter, we had one 10% customer, and that particular customer was domestic. And we would not give out the percentage at this point. But in the 10-K we do disclose the year percent.

Great, very helpful. Thank you very much.

Kevin Dennean, Citi.

Just a quick question on Europe. You mentioned that visibility into Europe is the best it has ever been. Just want to delve into it a little bit more.

How much of that comment is driven by what you're hearing or seeing out of Deutsche Telekom? And is it -- visible means the flows of RFPs in the region or visibility into improved spending patterns going forward?

If I used the term visibility, I apologize, because that is probably not the right term to use. I would say it is activity level and meaningful plans associated with Europe. So you're right; if I said visibility it's the fact that we have visibility to projects, and access to RFPs and customer interaction that we have never had really that capability before, and definitely not on this scale. But that is really what I am talking about.

Visibility from an order perspective as I mentioned, I think, on a different question, is problematic. And I think that is just -- that is really just the nature of that business.

It is not substantially different than here in the US. And I think if we weren't in the midst of -- if we hadn't gone through the decline that we went through last year and the pullback last year, I would expect that visibility to be very similar to what we see here in the US. I hope I cleared that up for you.

Right, so I just want to make sure I have it right. So your increase -- your visibility into increased activity in Europe, it is not that you're seeing a general bubbling up of activity in Europe. It is that you now have the BBA part of the business, and that gives you entree into RFP processes that you may not have participated in previously?

No, no; I would say it is both, though. There is no doubt that the amount of activity in Europe associated with broadband deployment, vectoring technology, is without a doubt stronger than it has been -- or just broadband deployment is stronger than it has been in years. So I think there is both of those phenomena happening at the same time.

And when you look at it, what do you think the drivers are there? From our understanding there is a bit of a confused regulatory environment still in Europe, and I think the challenges are well documented. So what do you think is driving this kind of better activity?

I think there are multiple factors. I think one is competition. I think DOCSIS 3.0 is really starting to really impact what these carriers are doing, and I think they're having to rethink about how they actually handle that threat.

And I do think the regulatory environment is coming around. I think it is moving towards a less media agnostic. I think it has historically been more PON-friendly than not PON-friendly, you know, optical friendly than not optical friendly.

And I think that has caused serious concerns from the carriers who did not see the business cases working out. And as the regulatory environment turns to be more IP-centric than layer one centric, copper versus fiber, I think that the two are actually coalescing well. And you'll actually see some movement.

Thank you for that. And last quick question for me, recently there has been some articles coming out of Europe talking about network consolidation or network sharing across borders. From an ADTRAN perspective, how do you think about that? How do you think that would impact your business? Would you see risk of short-term disruptions as people put the pieces together, but longer term it is a positive because a more profitable customer base is a positive for a vendor?

The way I look at it is I think there are still -- we have incumbency. We have strong relationships with certain carriers. And we have competitors that have strong relationships with other carriers. I think it does open the door. Now, it opens the door for them as well as us, but I think the net of that would be positive to us.

And I'm really looking at that as networks that didn't really have any of our products before. I think that the whole competitive environment in Europe is somewhat changing. And I think it will end up being a very positive thing for us.

Terrific, thanks very much.

Lindsey, I think we are out of time now. So I would like to thank all of you for joining us on our call, and we look forward to a great 2013.

This concludes today's program. You may disconnect at this time. Thank you and have a great day.