ADTRAN Holdings Inc (ADTN) 2014 Q1 法說會逐字稿

Ladies and gentlemen, thank you for standing by, and welcome to ADTRAN's first-quarter 2014 earnings release conference call. (Operator Instructions) Please be advised today's program may be recorded.

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 core products; the degree of competition in the market for such products; the product and channel mix; components cost; manufacturing efficiencies; and other risks detailed in our annual report on Form 10-K for the year ended December 31, 2013. 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.

It is now my pleasure to turn the call over to Mr. Tom Stanton, Chief Executive Officer of ADTRAN. You may begin, sir.

Thank you very much. Good morning, everyone. Thank you for joining us for our first-quarter 2014 conference call. With me this morning is Jim Matthews, Senior Vice President and Chief Financial Officer.

I'd like to begin this morning by discussing the details behind our Q1 results and I'll end with some comments on what we see for the future.

As stated in our press release, revenues for the quarter were $147 million. Our carrier networks division revenues came in at $118.2 million, an increase of 8% over the same period the prior year. The broadband access category grew 13%, bolstered by a strong performance from our international business.

Our enterprise division Q1 sales totaled $28.8 million compared to $33.1 million for the same period last year.

Our internetworking revenue on a combined product basis, including both enterprise and carrier products, was $36.9 million, essentially flat year over year.

Domestic revenue came in at $92.7 million. Carrier-related sales in the US for both enterprise and infrastructure products, started slower than is typical in the first quarter. We did see a meaningful pickup in this activity exiting the quarter.

On a product basis, our core product areas, which include broadband access, internetworking and optical, achieved $131.3 million in revenue, an increase of 11% over the prior year. More specifically, broadband access achieved $81.5 million in revenue, an increase of 13% over the same period of last year, driven by hiX shipments followed by fiber-to-the-node. Product drivers continue to be vectored VDSL, VDSL2 and GPON.

Moving on, our internetworking product category came in at $36.9 million, flat to Q1 of 2013. The softness in IP gateways was offset by growth in carrier Ethernet followed by Ethernet switching.

Our optical revenues saw year-over-year growth of 44%, coming in at $12.8 million in revenues, helped by increasing shipments for broadband access and increasing shipments of our OPTI-6100 products for wireless backhaul to a domestic Tier 1 carrier.

HDSL revenue was down 22%, with total legacy product revenue, including HDSL, down 37%, a greater decline than expected, although I will remind you that our legacy product revenue can be erratic when measured on a quarter-by-quarter basis.

Looking at the sales channels of our enterprise products, a decrease in carrier distribution sales was partially offset by an increase in sales to our value-added reseller channel. Also we had another solid recruitment quarter, adding approximately 70 new partners to our dealer base.

Looking at business on a geographic basis, as compared to the same period last year, strength in international sales overcame the slowness experienced in the US. In particular, we saw significant strength in EMEA and Latin America. As expected, sales in those two regions were substantially bolstered by increased sales of our broadband access products.

US sales were negatively affected by a slow start to carrier spending, as I previously mentioned, which impacted products in both divisions, most notably broadband access and IP gateways. This slowness was more prevalent in Tier 2 and Tier 3 markets, including competitive service providers.

Moving on, as you can surmise from our results in Q1, our vectoring rollout in Europe continues to progress well and our Tier 1 award here in the US continues to track as well, with lab exit forecasted to be in the third quarter this year, and initial revenues commencing shortly thereafter this year.

As I mentioned earlier, US Tier 2 and Tier 3 markets started slow in Q1, but accelerated as we exited the quarter. We continue to believe the US [HEF] to CAF transition holds promise as carriers eventually adjust to the new rulings and we remain encouraged by the enhanced funding for CAF Phase I and the eventual implementation of CAF Phase II, both of which will directly affect our customer base and provide additional incentive for [price cap] carriers to upgrade their infrastructure.

Finally, as I've mentioned on previous calls, we believe our market share and geographic expansion is timed well, with the carrier cycle associated with the rollout of ultra high-speed access. And so far this has proven true despite the slow recovery of the US wireline market. We continue to see accelerating activities, as carriers around the world embrace next-generation access technologies to strengthen their competitive positions and meet their customers' growing demands.

I'd now like Jim Matthews to review our results for the first quarter of 2014 and our comments on the second quarter of 2014. We will then open the conference call up for any questions. Jim?

Thank you, Tom, and good morning, everyone. Revenue for the first quarter increased to $147 million compared to $143 million for Q1 of 2013. Broadband access product revenues for Q1 of 2014 increased to $81.5 million compared to $72.2 million for Q1 of 2013.

Internetworking product revenues for Q1 of 2014 were $36.9 million compared to $36.9 million for Q1 of 2013. Optical product revenues for Q1 of 2014 increased to $12.8 million compared to $8.9 million for Q1 of 2013.

Carrier systems revenues for Q1 of 2014 increased to $99.6 million compared to $92.8 million for Q1 of 2013. Business networking revenues for Q1 of 2014 were $37.9 million compared to $38.1 million for Q1 of 2013.

[New] access revenues for Q1 of 2014 were $9.5 million compared to $12.1 million for Q1 of 2013. HDSL product revenues for Q1 of 2014 were $8.9 million compared to $11.4 million for Q1 of 2013.

As a result of the above, carrier networks division revenues for Q1 of 2014 increased to $118.2 million compared to $109.9 million for Q1 of 2013. Enterprise networks division revenues for Q1 of 2014 were $28.8 million compared to $33.1 million for Q1 of 2013.

International revenues for Q1 of 2014 increased to $54.3 million compared to $34.9 million for Q1 of 2013. To provide the reporting of each of these categories, we have published it in our Investor Relations webpage at ADTRAN.com.

Gross margin was 52.9% for Q1 of 2014 compared to 48.3% for Q4 of 2013 and 48.7% for Q1 of 2013. The sequential and year-over-year improvement in gross margin for the quarter was attributable to improved gross margins in both the acquired broadband access business and the organic business, primarily as a result of lower product costs and a favorable product mix.

Total operating expenses were $66.5 million for Q1 of 2014 compared to $66.2 million for Q4 of 2013 and $63.1 million for Q1 of 2013. The increase in operating expenses from Q1 of 2013 to Q1 of 2014 was primarily attributable to increased sales and marketing expenses. Acquisition-related amortizations totaled $0.7 million for the quarter.

Stock-based compensation expense net of tax was $1.8 million for Q1 of 2014 compared to $2.2 million for Q4 of 2013 and $1.9 million for Q1 of 2013.

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

All other income net of interest expense for Q1 of 2014 was $3.4 million compared to $3.7 million for Q4 of 2013 and $3.2 million for Q1 of 2013.

The Company's income tax provision rate was 34.6% for the first quarter of 2014 compared to 17.3% from the fourth quarter of 2013 and 18.9% for the first quarter of 2013.

The higher tax rate for the first quarter of 2014 compared to the fourth quarter of 2013 largely relates to the anticipated profitability of the acquired broadband access business for 2014 year compared to the remaining NOLs of that business.

The higher rate for the first quarter of 2014 compared to the first quarter of 2013 relates largely to retroactive research tax credits received in Q1 of 2013 for the year 2012 and for the first quarter of 2013. Legislation for extension of research credits for 2014 has not passed as of the end of Q1 2014.

Earnings per share on a GAAP basis assuming dilution from Q1 of 2014 were $0.17 compared to $0.20 for Q4 of 2013 and $0.13 for Q1 of 2013. Non-GAAP earnings per share for the quarter were $0.21 compared to $0.25 for Q4 of 2013 and $0.17 for Q1 of 2013.

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

Inventories were $87.4 million at quarter end compared to $90.1 million at the end of Q4 of 2013 and $95.8 million at the end of Q1 of 2013.

Net trade accounts receivable were $100.5 million at quarter end, resulting in DSOs of 62 compared to 50 DSOs at the end of Q4 2013 and 52 DSOs at the end of Q1 of 2013. The higher DSOs relates largely to the linearity of revenue for the quarter.

Unrestricted cash and marketable securities net of debt totaled $404 million at quarter end after paying $5.1 million in dividends and after repurchasing 375,000 common shares for $9.4 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 color to help you formulate your views on our near-term business outlook.

As stated in our previous press release, we anticipate revenue in the second quarter of 2014 to be in a range of $172 million to $180 million. We expect GAAP gross margins will be in the range of 49% to 50% for the second quarter. We expect GAAP operating expenses for the second quarter will be slightly higher than OpEx levels experienced in the first quarter of 2014. We expect the consolidated tax rate to continue to be in the mid-30s percentage point range to pretax income.

We believe the larger factors impacting the total revenue we realized for the second quarter of 2014 will be the following: the macro spending environment for carriers and enterprises; professional services activity levels, both domestic and international; the timing of revenue related to broadband stimulus and Connect America projects; and the adoption rate of the broadband access platform. Tom?

Thanks, Jim. Aaron, at this point we are ready to open it up for some questions.

(Operator Instructions) Rod Hall, JPMorgan.

Thanks for taking my question. This is Ashwin on behalf of Rod.

My first question is on gross margin. I think you attributed the strength in gross margin to three factors: improving margin from the BBA, lower product cost and mix. If you were to break down the strength between these three different parts, which one contributed the most to gross margin strength?

I don't have the relative numbers before me, but we did see product cost reductions across the entire business as well as a positive product mix here in the US. But in terms of breaking those numbers down specifically, I don't have those numbers before me.

Now as we look at the Q2 view for gross margin, you can see that we are guiding down a bit. Again, we expect our customer mix to be more of what we've seen in recent history in terms of our organic business. And also we expect to see an improvement in revenues, higher revenues in the second quarter in the acquired business. So that will play on gross margins.

And on the acquired business, are we on track or do we [build on] expected gross margins? I think the target was mid 40s, if I am not wrong.

We are certainly on target with that, yes.

So is it fair to say that Q1 was slightly above the target or very close to the target on the BBA?

On the BBA piece?

I would -- yes, we had a bit of a positive product mix on the acquired business side in Q1, so --

I mean -- in Q1 itself, we would be above that target.

It would be, it would be, yes.

Okay, thanks. My last question is on the demand in (inaudible) in general. You said it picked up strongly towards the end of the quarter. Like I am -- I think I'm trying to understand the kind of visibility you have going into Q2. How comfortable do you feel about the current revenue guidance really?

Well, we feel comfortable enough to where on the announcement that we sent out early in the month that we were able to be able to give guidance earlier than we typically would. And that's not typical for us to do. So we definitely -- we're feeling better.

So the order activity picked up coming out in a way that made us feel good that the trajectory was what we had initially planned. Now we still have 2.5 months ago. So I wouldn't -- and we still by and large have a book-and-ship business, but it definitely had crawled out of where it was earlier in the quarter.

All right, great. Thanks, guys.

Amitabh Passi.

Two quick ones for me. Almost the 19% or 20% sequential growth in revenues, Tom, I was curious if you can give us a sense of, do you anticipate both your domestic and international business to grow at the same magnitude?

Do you expect greater strength in international or greater at the US, just given that you had a weak start in the quarter but you exited quite strong?

Yes, so Jim had mentioned, the growth in our international business in Q1 was solid, and the booking rate for the international business definitely exiting the quarter was solid. So right now our view is that the international business will grow at a faster rate than the US business, which is the margin impact that Jim was trying to talk to. If you look at that downtick in margins, a large portion of that has to do with just a stronger European business.

And then maybe just in your domestic business, you highlighted Tier 2, Tier 3 weakness early in the quarter. Curious, what are you seeing with your Tier 1's? And what do you think is going on with Tier 2, Tier 3's? Was it simply budgets just being released later, or do you think there's some other issue causing a bit of a pause?

To be honest I don't know if there's a universal answer, but I can just tell you the things that I hear and things that kind of make sense to me. I do believe and I will tell you early in the quarter I was skeptical but I do believe, because I've heard it from so many places, that there was a weather-related impact.

And the reason I was skeptical is because we have weather every year and over my period of time at ADTRAN, I've seen bad weather, but the impact that we saw and the length of freeze that we saw truly impacted carriers' ability to actually go out and do things like pile fiber. There was definitely a -- and I heard that from multiple places. So I think that had an impact.

I do think there's still also this general uneasiness in the Tier 2 and Tier 3 market, more predominant in the Tier 3 market with CAF funding. And that's one that we haven't been forecasting a dramatic bounceback. We had -- periodically see some upticks but we haven't really seen a bounceback yet to where they were before, and we just didn't see that in Q1.

But I would have to point it to CAF, so kind of a regulatory issue and then the freeze. The freeze of course has taken care of itself. And I think that kind of explains why we started seeing stronger activity exiting the quarter.

Okay, I'll step back in queue. Thank you.

Michael Genovese, MKM Partners.

First of all just as a clarification, do you have any 10% customer information in the quarter?

Yes, we do. We had two 10% customers, and they are similar to recent past in terms of who they are.

Okay, great. And then in terms of this gross margin issue, did you complete any milestones in the quarter in terms of moving production of the European broadband access business to lower-cost locations? Was anything like that actually finished in the quarter?

Well, we had been moving those over time but of course it takes time for them to work themselves through inventory and actually be able to ship. And there's no doubt that the greater shipment had an impact on a larger percentage of those being able to take place with our manufacturing activity.

We also had some cost reductions on a kind of product or let's say material basis that really had been kicking in but really were able to work their way through inventory. And at the beginning of the year, I think we started seeing improvement there as well. So I don't know if it's one major milestone. I would say a lot of things came together and we saw the improvement that we've been forecasting.

Okay, just on that same issue, though, just understand that this is a lower second-quarter guidance sequentially on gross margins. I mean if I'm not mistaken and please correct me if I am, I thought there was a mix shift towards the European broadband access business in the first quarter and we saw pretty good gross margin upside.

You seem to be saying that there's going to be further mix shift towards that business and that's going to actually have a negative impact on gross margins? Can you just help me understand that a little better?

You know we did have some positive product mix shifts within the acquired business in Q1, which contributed to that just a bit. Okay? And again that was the reason for (technical difficulty)

(multiple speakers) Again, I will tell you also that we're not expecting a -- the direct answer on the shift as far as volume: yes, we are expecting a stronger contribution from our international business in Q2 than we saw in Q1.

Now that's basically forecasting in an environment that we're not -- we are, at this point, not expecting a turnaround in the Tier 2/Tier 3 market. We think it will get better, but we're not expecting any type of bounceback from the performance in Q1.

Got it. Last question for me and thanks for these answers.

Just on the domestic Tier 1 business that you're going to have some lab activity in the third quarter; it sounds like you may have some revenue recognition in the third quarter going into the fourth quarter. Now you've previously talked about that project being a multiyear project, I think nine figures of revenue that would kind of grow from 2014 into 2015. And I'm just trying to reconcile that with what I know about the carrier talking about their major access related, both enterprise and residential projects, peaking this year and then starting to decline in 2015 and 2016.

And I'm not exactly sure whether your deal is related to project VIP or not. Maybe it's related to something differently. But can you help me reconcile how they'll be ramping a big residential access project with you as their bigger access bucket is expected to decline into 2015 and 2016? Thank you.

Yes, so I can't talk specifically about any particular project because that would be towards a particular customer, which we will try to shy away from. But there are a couple of things that factor into that.

One is if you think about the costs associated with a particular build, the majority of the costs associated with any build, and by majority I mean far majority of the costs associated with any of the build is actually laying fiber and getting the environment ready to be able to put equipment. Equipment is at best, typically, let's say 10% to 15% of the total cost.

So there's an awful lot of activity that has to go on before you start in earnest on builds. And we're just comfortable in being able to say that our forecasting on that project is staying intact. We are still -- we've got the momentum and we're meeting the timelines that we're hoping we were going to be able to meet. And we haven't seen any degradation on our customers' perspective on what it is that they're trying to do with us and kind of what the opportunity set is.

Thanks, again.

Tim Quillin, Stephens Inc.

Just another question on the gross margin, could you be a little bit more specific what the positive mix was in 1Q or what the mix change you expect would be in 2Q?

Well, we don't have orders for everything in-house but I will tell you we have talked before about card shipments versus chassis shipments or how that may affect gross margins. So there was definitely a positive contribution from just that type of product mix differentiator. But not all of the orders are laid in for Q2 right now and what we're going to be shipping for all of our customers.

I think what Jim was relaying to, and I'll let Jim speak for himself here, was relaying to a more normalization there. But I would say just as big of an impact is the fact that we are shifting from a kind of mid-to high 40's region and going with a strong international content. And assuming at this point no change, no dramatic change in the environment in the US. We saw a pickup but it's still not a bounceback. So we're assuming that there will be less revenue from that region.

So it was I guess a heavy line card shipments with your specific international customer, but you expect it to tilt more heavily towards chassis shipments and more revenue from that big customer in 2Q; is that a recap?

Yes, more things actually affect it than just one customer of course because we've got multiple customers as I'd mentioned before. For instance Latin America actually had picked up. So if you take it broader than that, but that general mindset of saying product mix definitely affects it on a customer by customer basis, you're right.

And then on your large Tier 1 opportunity in the US, I'm trying to get a sense of whether that would be a single specific opportunity with U-verse upgrades or if there's multiple opportunities. And would it all start at once, or how would it perhaps phase in? It sounds like it could get going as early as 3Q, but maybe if you are actually in the lab maybe it's more like 4Q. But I'd be curious in terms of kind of the timing of the ramp and the pace of the ramp and whether it entails -- you're looking at more of a single project or multiple projects?

Sure well first of all you gave me the perfect segue to be able to talk about the risks associated with large carriers and their timing. And I will tell you, until you are out of the lab and actually receiving POs, there's always risk. And the fact that we're not out of the lab tells you that we are still testing. So although our current projection is exiting really early in Q3, things can change.

Now to get more directly to your question, though, it is multiple projects. And I think we've talked in the past before even on the conference call about the fact that there are kind of two big buckets is the way that we characterize it. One is a specific build that is much more finite and has tighter timelines to it and then another that is kind of a broad approval across the entire network that includes fiber-to-the-prem, fiber-to-the-node, IP DSLAMs, so kind of the whole gamut of products.

You're totally correct in saying that they don't all happen at one time. A large piece of that approval is scheduled for the end of -- excuse me, the beginning of the third quarter. And then you will have ongoing approvals all through. And I don't have the exact timeline in front of me, but the way I think about it is let's say over the next 2 to 3 quarters after that. So you'll see additional pieces come online. So a large piece of what we need to get rolling will actually happen right around the half.

Great. And then just one last question, and I know it's kind of dangerous to look at one specific customer and maybe a finite timeline, but with CenturyLink, it looks like they've declined as a percent of revenue from something like 25% in 2011 to 17% in 2013, which would suggest a decline in the absolute dollar revenue from something like $180 million to $110 million. Can you comment on what might of driven that and your outlook within that customer set if you could? Thank you.

That -- and you know I hate talking about particular customers, but I'll tell you we have multiple products that we sell to that customer. And some of them are fiber related products, some of them are kind of fiber-to-the-node products.

I can't speak directly to what the total CapEx -- equipment related CapEx was with that customer and how our percentages actually came in line with that actual percentage. But my sense is that we weren't far off.

So there's probably a little bit -- they did have some focus on some fiber projects, some of which we participated in. There are costs associated with those fiber products outside of the equipment that still may be capitalized. And as you're trying to do that you know if you look at number of homes passed versus total spend, sometimes that changes and that total spend to us sometimes changes.

So I don't think we're out of line from what you would expect. I don't know if you were able to follow everything I was just trying to convey to you there, but I don't think we were out of line there.

Okay, I appreciate it. Thank you.

Rich Valera, Needham & Company.

First a question on gross margins, previously you've discussed cost reductions; that you really expect it to impact both the NSN business and some of the core products in the second half of 2014. Can you say -- have some of those cost reductions, one, come early and it impacted you in the first quarter? And two, do you expect further cost reductions that still should bump gross margins in the second half relative to say the Q2 level, which you've guided to?

Rich, we do expect improvements in the second half in terms of cost reductions. But again we've been talking about product mix shifts from quarter to quarter. We still need to bear those in mind as we think about the second half. But again we do expect cost reductions to continue to cut into the second (multiple speakers).

So to get to your first part of your question, to answer your questions, yes, a lot of those did -- have come in.

I would say if you look at our gross margin profile -- and one way to take a look at this is when we were talking about gross margin improvement. And we did see some in the US, I mean the US actually had a strong gross margin quarter as well.

What is probably the difficult piece to measure is what's the quarter-to-quarter incremental revenue associated with the international business or the US business? And I think if you think about that shift that we saw in the first quarter and you think about the shift that we are trying to talk about here in the second quarter, you'll see that there's still a stronger, albeit both of them are higher, there's still a stronger shift towards a lower gross margin region.

And if you could think about what a normalized shift was or would be then that gives you a sense of where our gross margins would be, which I think by the way would be comfortably in the 50's. So, that kind of gives you a sense of where we are. It's just that we have an international business that is going gangbusters right now.

Right, so that kind of leads to my next question. It sounds to me from your comments that you would probably expect to be seeing revenue from the North American Tier 1 opportunity in Q3 from where you sit today? Is that a fair statement?

Revenue -- say that again?

Revenue from the North America Tier 1 opportunity in Q3 -- do you think you'd actually recognize some?

We've said early after so I would expect some. I think the only thing I'd want to temper you on is we have no idea how much yet. So it's going to have to do with when the exit is and when you think about -- first office application. So we exit the lab, we get to the first office application piece and then we have to work through all those issues. So I just don't know how much yet, but yes, we are expecting some in Q3.

But it sounds like based on your comments there is sort of a large specific order you would expect following those lab trial completions and that would -- if it came late in Q3 you would expect to be a more significant contribution in Q4 related to that particular deployment?

Yes. And I can't sit here and tell you today that there's a big order that's sitting there pending in their queue for that exit. That's not really the way that this has been envisioned.

It's execution. And then depending on when we exit, there are plans right now for a rollout. It's not a single quarter rollout. They're not going to be able to accomplish all of this nor be wanting to with the other things they're doing to accomplish it in one quarter. Even in the first approval that I'm talking about this is a multi-quarter rollout.

Sure. And just one follow-up to that, so once that gets underway, presumably your North American mix will increase again as a percentage and presumably that would have a favorable impact on gross margin relative to say Q2 where you're going to have the very high international mix?

We would expect that. I can't tell you how meaning-- first off, Q3 is getting out there for us, so I can't tell you what the international mix profile will look like in Q3 at this point time. There will be some contribution.

Our belief is also by the way that the US Tier 2 and Tier 3 market should be stronger and you should see that. You'll see the normal ramp up in, albeit at a lower base, in Q2 and Q3. So we would expect the US piece, but I can't sit here and tell you that the international piece won't swap that.

Because if you think about the uptick we've seen since really third quarter of last year, it's been pretty phenomenal. And it's coming at a time when the US market is relatively, for all purposes, stagnant, just kind of sitting there.

Got it, okay. Thanks for taking my questions.

Simona Jankowski, Goldman Sachs.

This is Doug Clark on the team with Simona here. Quick question on another segment, specifically internetworking. Didn't see much growth year on year; just wondering if you could provide a little bit more detail on that. And then similarly, a little bit of insight into your outlook for that portion of the business, the enterprise segment.

Yes, so internetworking was -- you know the slowness we saw was very carrier centric, but if you think about the internetworking segment of the business, there a couple of pieces that are directly affected by carriers, the largest piece being IP gateways.

So the slowness we saw on the Tier 2 Tier 3 space wasn't just the Tier 2 and Tier 3 internetworking. I also mentioned CDEX, which in many cases are Tier 2 carriers. But that slowness was there too. So it was just kind of a just a broad malaise, you can kind of say it. And that definitely impacted the business.

I mentioned also that the VAR business continued to grow, so that was actually a positive thing. If I look outside of the carrier space it was actually pretty good. But the internetworking piece has got a large component that is IP Gateway and that does affect the enterprise business.

So if it wasn't for IP Gateways -- and I'm going to look over to Jim. I think the enterprise business would have grown if it wasn't for the decline in IP Gateway.

That's right.

I think that was the biggest piece.

Yes.

Okay great, thanks. Then another follow-up, more regarding shares at Tier 2/Tier 3 carriers. I think a quarter or two you had mentioned possible share gains at one particular Tier 2 customer. Wondering if that was still the case, if you started to see the benefit of that, or if it was essentially pushed out as a result of some of the lower spending in the first quarter?

We picked up from a few. And I would say yes, that is absolutely still the case. In fact I think I'm going to -- we added approximately 16 new Tier 3 customers by the way this last quarter. But it's still the case in the Tier 2 space too.

We did not see a lot of ordering activity in the Tier 2 space. And I can tell you with much certainty that that wasn't any market share shift. That was just not a lot of activity. So we did see some pickup in some of those Tier 2's, but it wasn't indicative of the award that we've got yet.

Great, thanks.

Paul Silverstein, Cowen and Company.

Not asking about any specific customer, but can you share with us insight in terms of, are there differences in margin structure among the customers, both if we looked within your international business, your [BBI], your key acquired business as well as the traditional business -- are there significant differences from one customer to another? Especially you had the large buildouts relative to the less large buildouts?

When you say acquired and non-acquired business, the answer is yes.

If you look at -- so if I look at the -- and Paul, you are very aware of some of the business that we had prior to the acquisition. And the gross margin profile of that business is different; the product set is different.

So for instance where we are selling our fiber-to-the-node products, which are highly technically differentiated, you'll see a different margin profile than if you're selling a DSLAM, which are less technically differentiated, just harder to do, as far as trying to show some -- enough technical differentiation to drive a different price premium. So the answer to your question directly is, yes, there is a difference.

Within the acquired business, there is some margin differential from account to account, but that margin differentiation falls differently depending on the customer. So we had talked before about chassis versus line cards. The chassis versus line card phenomena doesn't occur across all of the acquired business of the customer base, at least not to the same extent. So if you look at the blended gross margins, I would say they're probably closer I would say. There is some differentiation still, but it's -- and I won't say it's not meaningful but it's definitely understandable. It's not this broad range, if you look at blended gross margins on complete systems. But on a line card versus chassis you will see differentiation from one account to the other that is [meaningful].

So on that score, the benefit that you saw this quarter, was that almost entirely the chassis line card issue or was it also other -- either from customer to customer or product to product as opposed to within broadband access, just chassis (technical difficulty)?

Well, I want to reiterate -- and then I'll answer your particular piece. There was gross margin improvement in a broad set of customers that were just cost reductions on our side. So if I look at my fiber-to-the-node products -- and as you know we do this and have been doing and have been forecasting this -- we do this on a regular basis.

So our hiX products, without a doubt, are cheaper to build today than they were at some period in the past. And that's across the entire spectrum -- well I shouldn't say the entire spectrum. That's across the portfolio. And we saw a meaningful reduction that has continued to build up. And sometimes these come in chunks and sometimes they don't. So that's better. And I would say that's true for a large percentage of our US products as well.

But as far as this line card versus -- I mean, we had a strong Latin American quarter, which is on the international segment more positive because it is non-BBA versus BBA. And as Jim mentioned, we had a strong US quarter too. Some of that was cost reduction; some of that was particular product mix.

I appreciate it. Thank you.

Simon Leopold, Raymond James.

This is Victor Chiu in for Simon Leopold. I just wanted to follow up a little bit on what Paul was speaking about. Previously you guys had guided gross margin kind of flattish to 4Q, so presumably there was some factor there that kind of exceeded your expectation.

It seems like product cost reductions, and that's more of a factor that's kind of within your control so it seems like your visibility should be relatively higher from that perspective. So what changed or what impacted your visibility in that part of the business?

Product mix of course, you don't have all of your orders booked. So if you happen to ship a product that may have benefited from cost reductions and were in inventory and you start moving those things through inventory, then you do get a pickup there that you may not expect.

And then there is just also the customer mix piece to that as well. So we have at this point a much more let's say a broader customer base definitely than we've had in the past. You know, I can remember being on calls where upwards of 50% of our revenue were from a couple of customers or maybe three. We do have a broad set of customers now that can impact our gross margin.

So we don't have all the lower orders locked in, so we don't know how much will be sold to Latin America versus the US versus someplace in Germany or in Europe. So I would say albeit it was greater than we had expected, and we tend to try to be a little conservative because we don't know going into a quarter exactly how it's going to exit. So it was just a lot of things lined up properly, and we were able to move some things out of inventory that allowed us to actually get benefit of some of the work we've been doing.

Right, right. But in respect to your customer mix though, the international portion increased quite a bit in the mix. So that would imply an inverse kind of impact, almost, right?

Yes, but the US margin was fairly rich too. And I would say we probably didn't do as good of a job of -- and I'm going to look at Jim and he's going to want to -- he's not going to be happy about this. We probably didn't do as good of a job of understanding what that US gross margin impact would have been as we would have liked to have. It was a positive piece, but it was probably not as much as -- that was something that we just didn't have nailed down.

Certainly the mix was a positive piece. And again we saw some cost reductions happen too.

Okay. And going forward next quarter you're saying that it should revert back to -- the international portion should continue to grow at this clip, but now it's impacting gross margins negatively?

Yes, negatively to this quarter but I think if you go back it's still even with -- I mean if you think about a year ago or six months ago and if we would've had that high of an international product mix, the impact to our gross margins would've been significantly downward.

So I know that that's easy to say, but if you think about what that mix would've been and the shift, and the fact that we're able to absorb a substantially higher international business component and still keep gross margins kind of in the high 40's, low 50's now and kind of moving that range up, I still think that is actually a positive outcome.

Just a quick question on your Tier 2/3 customers. It seems like even last quarter, you guys noted that the business -- you hadn't seen any extraordinary changes in the spending pattern. You actually mentioned that that group actually increased a bit for you.

So are your expectations more aligned now with Calyx, I guess, regarding that group? And you're expecting a fairly challenging year for that particular group of customers. So is your viewpoint (multiple speakers)?

I don't know what their particular forecast is. But I would hope that we have been signaling a bumpy environment because it is definitely a bumpy environment.

The thing that I don't know, to be honest with you, is how much is weather-related. And what we were picking up is if -- and to the extent that it's stable, the market share gains that we were picking up seemed to -- would bolster the number, so we would see an increase in the number based off the market share in a flat environment. And then what we saw in Q1 was a declining environment. And I just don't know how that is going to recover.

But I would totally agree that this market is still -- and I'm sure we voiced that -- that this market is still not normal. It hasn't returned back to the way that they had been for years and years before then.

That makes sense. And then just really quickly, I know you don't want to speak too much about the third quarter but can you just kind of describe what normal seasonality is for your third quarter, I guess?

Normal seasonality is we see an uptick from second quarter to third quarter, is the normal trend that we would see. In the US business I would still think that is still intact. And so what we would expect in the European business, it's still fairly early, so we'll just see how that rolls out.

Great, thank you.

Sanjiv Wadhwani, Stifel.

Just a couple of questions on my side. Just on the international side, it looks like Latin America was also fairly positive in Q1. Just curious what do you think the trajectory for that geography is going to be for the rest of the year?

And then just on the line card versus chassis situation, I just wanted to confirm that positive impact that you saw in Q1 was related to the large customer in EMEA. And what do you sort of expect that mix will to be over the next 12 months with that customer on the chassis versus line card side? Thanks.

The first one was trajectory of the line card.

So we expect a solid year from that customer this year. Our early expectation is that we probably would see a pickup in Q2 versus Q1 with that customer. We don't try to forecast that customer that far out because it's a very [fluid] customer. But we would just see -- we would expect a good performance at least next quarter.

And I don't want to surmise the third quarter is going to fall off because it's not. We're just not forecasting that far out.

Got it.

As far as the line card mix, and the question was whether or not that was directly --?

In terms of the large European customer. And that -- the relationship between those two components is more impactful with that particular customer because they are the largest customer within the acquired business.

Got it. So I guess the question is, was the Q1 sort of being skewed a little bit more on the chassis side or on the line card side? Was that a little bit of an anomaly? Do you expect sort of continued larger chassis deployments over the next 12 months?

They don't give us a direct line card versus chassis piece because the line card piece of course is driven as much by demand as anything else.

I think what Jim had signaled -- and an here again I'll let him elaborate. But what Jim had signaled is basically a return. All we can do is in effect forecast going out. Unfortunately history is the best guide that we have, so we signal a return to normalization on that. And we forecast, in effect, that, unless we see something that's substantially different.

I don't think the gross margin -- so the gross margins would be impacted and that is offset by any cost reductions that we may have.

Got it. Okay, thanks.

Bill Dezellem, Tieton Capital.

Thanks, a couple of questions. First of all would you discuss your growth in vectoring customers as you experienced in the first quarter, and what you think you might be seeing coming into the second quarter please?

We would expect vectoring shipments to be up in second quarter. Most of the vectoring shipments that we are doing today are outside of the US, and we've had tremendous growth since we launched that product in that space, and we expect that to continue on.

And specific to number of customers, are (multiple speakers)?

You know we have multiple customers doing it and we have one that's launched, as you know, a very large project. But we have multiple customers which really started coming on -- the first one we started shipping in third quarter. And then we picked up some in second -- excuse me in the fourth quarter. I don't have the numbers to say whether or not we started shipping more than what we picked up in the fourth quarter in the first quarter.

My sense is for actual shipments probably not because Q1 is typically slow on that. But my sense would be we would be shipping more this quarter as far as additional customers.

Great, that is helpful. And then one specific balance sheet question -- the other receivables account jumped sequentially. Would you discuss that for us please?

Yes Bill, this is Jim. That is related to the deferred revenue increase that you saw on the other side of the balance sheet, both in terms of the short-term and long-term deferred revenues. And that balance should liquidate or be paid here in the second quarter.

And that deferred revenue specifically came about from what actions or activities?

It resulted in the acquired business, from the signing of a new agreement.

Great. Thank you.

Amitabh Passi, UBS.

Hi, Jim, I just had a quick clarification. Just on the OpEx you said to expect it to be up sequentially in 2Q. Again I don't know if you can help put some sort of a bound -- revenues will be up 20%. Are we talking OpEx up 0% to 5%, maybe 5% to 10%? Any help you can give us there?

The range that you are talking about, 0% to 5%, we don't expect 5%, but certainly in the single digits is the way we think about it.

Low single-digit percentage or absolute dollars?

Call it absolute dollars.

Okay, thank you. That's all I had.

(Operator Instructions) At this time there are no additional questions. I'd like to turn the program back over to our presenters.

Thank you very much, Aaron. And thank you, everyone, for joining us on our call. And we look forward to talking to you again next quarter.

This does conclude today's program. You may disconnect at any time.