Allot Ltd (ALLT) 2008 Q2 法說會逐字稿

Good afternoon, ladies and gentlemen, and welcome to the Allot Communications second quarter 2008 earnings results conference call. My name is [Stephie] and I will be your coordinator for today's conference. For the duration of the call, you will be on listen-only. However, at the end of the call, you will have the opportunity to ask questions. (OPERATOR INSTRUCTIONS). I am now handing you over to Jay Kalish, Executive Director Investor Relations, to begin today's conference.

Thank you very much and thank you all for joining us today. During this call, we will discuss Allot's financial results for the second quarter of 2008. With us on today's call are Allot's President and CEO, Mr. Rami Hadar, as well as Mr. Doron Arazi, the Chief Financial Officer. On the call, Rami will provide his perspective on the quarter and our business drivers going forward, and then Doron will provide some color on the financial results. Following all of this, we will take your questions.

Before we begin, let me remind you that certain statements made on the call today may be considered forward-looking statements, which reflect management's best judgments, based on currently available information. I direct your attention to the risk factors contained in today's press release and in the annual report on form 20-F, filed by Allot with the US Securities and Exchange Commission on June 27, 2008.

I would now like to turn the call over to Rami.

Thanks, Jay. And I would like also to welcome everyone who has joined us on the call today.

We are pleased with the quarter's results, which are in line with our internal plan. Revenues totaled $9.5m, representing 14.5% growth over the last quarter and over 10% year over year growth. Gross margins remained at a healthy 74%. And our balance sheet continues to be strong, with cash, cash equivalent deposits and marketable securities at $62m and no debt.

We believe that the growth that we are seeing in the business is due to several factors. From an industry standpoint, we are seeing early success in the wireless market, where data traffic continues to grow at a rate of 200% to 300% per year. A large part of this increase is being driven by the deployment of HSPA networks and the growing popularity of data-capable handsets.

While this is still a market in very early stages of Internet and DPI solutions, we have already penetrated three tier one operators, including two of the world's largest international operators, and feel that our Service Gateway positions us well for additional opportunities in this expanding market.

From the customer standpoint, a significant portion of revenues during the quarter came from larger deals from nine existing and new tier one and tier two operators.

From a product standpoint, the Service Gateway Omega continues to gain momentum in the market, particularly among many of our tier two customers. This need is fuelled by the migration from 1 gig to 10 gig networks, a trend that we have begun to see at the end of last year. Our installed base of the Service Gateway continues to increase and for the second running quarter it represented over 10% of orders we received.

In addition, our sales channel for the product continues to deliver. Last month, we announced that the Service Gateway Omega platform achieved outstanding results in independent validation testing, performed by Isocore. Isocore, a leader in carrier class technology validation, reported exceptional results for the Allot Service Gateway in all categories - throughput measurements, session scalability, application recognition and high availability. The Allot Service Gateway is the industry's first 10 gig DPI platform ever to undergo independent testing. The results clearly validate the carrier class nature of this exciting product.

During NXTcomm in June, we introduced the first set of value-added services that we will be including in the Service Gateway in the near future and we received healthy interest from potential customers for these at the show. We unveiled a partnership with PeerApp to deliver video optimization, Qosmos to deliver Voice over IP optimization and NebuAd for targeted web advertising, as well as our own DDos and spam detection service based on the Esphion acquisition.

These are merely examples of the power and flexibility of the Service Gateway and how it's designed for our customers to both optimize and monetize their networks.

As I have mentioned in the past, over-the-top video traffic is growing at some 80% per year. And I'm not speaking only of user-generated video content, such as YouTube and Joost. Network TV is broadcasting and rebroadcasting selected shows over the website, such as cbs.com, nbc.com and BBC online service, to name a few. Recent reports indicate tens of millions of viewers on these websites monthly.

This content is driving a new and large wave of growth in data traffic over both fixed and mobile networks. We expect to further drive the operators' need to optimize their networks by implementing DPI solutions. We continue to believe that tier one opportunities in the wireline space are in front of us and are actively engaged in a number of these opportunities.

We anticipate that, as a result of the above factors, revenues for the second half of 2008 will exceed revenues for the first half of the year.

Regarding the network policy debate in the US, the issue is definitely causing delays in decision processes for service providers there. However, our Service Gateway is actually designed to be network policy friendly. For example, our traffic-shaping engine can kick in only when there is natural congestion. The product is designed to identify numerous types and categories of applications and not to target one particular application.

In addition, our new subscriber management platform and quota management provides operators with tools that can empower those subscribers to set their own priorities and independently monitor their own bandwidth consumption. On top of all of these, keep in mind that the majority of Allot's revenues are generated in EMEA and APAC, meaning that we have limited exposure as a result of this issue.

To sum up, I'm encouraged about our (inaudible) now and about the growing pipeline for the Service Gateway. The optimized and monetized value proposition resonates well in my tier one targets, and the scalability and future proofing has found a number of new opportunities among tier two operators as well.

I would now like to hand over the call to Doron for a quick financial overview. Doron.

Thanks, Rami. Let me take a few minutes to analyze the results we published earlier today. I will be discussing non-GAAP numbers, which exclude the expensing of stock options required by FAS 123(R), legal expenses, amortization of intangible assets that were acquired from Esphion and an impairment charge with respect to certain auction rate securities. We provided reconciliation between the GAAP and non-GAAP numbers in a table accompanying the press release that was issued earlier today.

Now, let's take a look at the second quarter results. Revenues for the second quarter totaled $9.5m, up 14.5% from the first quarter's $8.3m result and a 10.5% increase in the revenues reported in the second quarter of 2007.

On a geographical basis, revenues for the second quarter broke down as follows - EMEA 49%, America 27% and APAC 24%. The EMEA percentage went up during the quarter, primarily due to a number of Service Gateway sales from this region. Out of total revenue during the quarter, products comprised 73% and services 27%. For the long term, we continue to assume that services will be around 20% to 25% of quarterly revenues.

Gross margin for the second quarter was 74%, slightly lower than the last quarter's level. We continue to believe that our long-term model for gross margin will be around 75%.

Net R&D expenses in the second quarter totaled $3m, the same as the first quarter level, and were 32% and 37% of revenues, respectively. Sales and marketing expenses totaled $5.3m in the second quarter, higher than the $4.9m in the previous quarter, 56% and 60% of revenues, respectively. Part of the increase was due to changes in our sales and marketing force, which led to a non-recurring expense of approximately $300,000.

G&A expenses totaled $1.4m in the second quarter, slightly ahead of the $1.3m level of the previous quarter, 14% and 15% of revenues, respectively. We continue to anticipate that the G&A level is indicative of the expense level for 2008.

Due to the continuing weakness of the US dollar, primarily against the shekel, our operating expenses during the second quarter increased by approximately $400,000 if compared with the first quarter. As a result of all this, our operating loss for the first quarter was $2.7m, as compared with a $3m loss in the first quarter.

Financial and other income for the second quarter was $800,000, as compared with $1.1b in the first quarter. This decrease was primarily due to a decline in foreign exchange rate gains.

Our net loss for the second quarter totaled $1.9m, or $0.09 per share, similar to our net loss and net loss per share in the first quarter. For this year, we continue to believe in the market opportunities and we'll continue to invest in R&D and our tier one sales force.

On the balance sheet side, total cash, cash equivalents, deposits and marketable securities totaled $62m, a slight decline from $63.2m at the end of last quarter. The decrease in this item is due to the further devaluation of certain auction rate securities in our portfolio, which I described in detail over previous quarters. It is encouraging to note that no cash was burned during the quarter, primarily due to the collection of a grant receivable from the Israeli Office of the Chief Scientist.

There is additional good news on the ARS front. During July, we recovered $5.8m for one of the ARS in our portfolio. The recovery was for 100% par value plus accrued interest. In addition, I would also point out that our entire ARS portfolio continues to be current on its interest payments.

Accounts receivable totaled $6.4m at the end of the quarter. Our day sales outstanding were 61 days, in line with the 60 to 70 days range I have discussed as the target level for 2008. Deferred revenues at the end of the quarter amounted to $5.9m, of which $4.5m were short term, up from $5.4m at the end of the first quarter.

That concludes my remarks and we will now open the call for questions.

Thank you. (OPERATOR INSTRUCTIONS). The first question comes through from the line of Dan Meron from RBC Capital Markets. Please go ahead.

Thank you. Hi, Doron, Jay and Rami. Congrats on the continued execution here. Rami, can you just give us a sense, a little bit more, on the demand that you see out there and the impact from the macro, and then also provide us with a little bit more color on the prospects that you have within the Service Gateway platform? Thank you.

Okay. Regarding demand in general in Asia Pacific, as I mentioned on my talk, the demand, at least for the SG-Omega, which I am assuming is what you are referring to, is driven on one hand by our penetration into the mobile market, which seems to be getting -- it's very early, but still it seems they are positively embracing our DPI technology.

The second element is, as I mentioned, and this has been long anticipated by us, the migration from 1 gig to 10 gig systems. If you remember, last year we've actually seen delays in decision making, waiting for 10 gig products, which worked against us and now it's helping us catch up.

Specifically in Asia, again, we are pretty nicely distributed over the three main areas. The one thing in favor of Asia is that the business case for the optimized part of DPI, given the bandwidth costs and the backhaul costs, are most attractive compared to EMEA and the US. And therefore, we've seen a lot of take-up in the Asian market. But, again, specifically in this quarter, roughly 50% of our revenues actually came from EMEA. So, again, mobile, 1 gig to 10 gig migration and an attractive ROI.

Okay. And, Doron, can you give us a little bit more color on the impact of the foreign exchange this quarter? You said $400,000 that was up directly because of the foreign exchange, or does it include the impact of that?

The $400,000 I've mentioned are as compared to our Q1 number. That means that we had additional $400,000 on our operational expenses relative to Q1. If you analyze the further weakness of the US dollar, comparing Q1 to Q2, you will probably understand the impact.

So, just to clarify, so the $0.5m increase, sequentially, about $400,000 of that was directly related to the changes in the foreign exchange, right?

That's right. And that's relative to Q1.

Okay. And then, on the ARS front, I understand that you wrote down a little bit more. I've seen several investment banks buying back some of their priorly issued ARS. Is that something that you think will help your ARS portfolio? Are you looking to trim down that portfolio further?

And then, how should we think about your net cash level that is available to you right now?

Well, basically, we are looking at the market and see what is going on. And we are going to make selective decisions, based on the market trends and the other actions we are actually taking. Currently, as I see the situation, I think there is no real need for cash and we have sufficient cash to handle our operations. I don't think that there's a reason to be too quick on that and we're trying to make a cautious decision.

Okay. And then, just a last one from you, before you have the floor, can you give us a little bit more color on the guidelines that you expect for the balance of the year? Do you still think that somewhere along (inaudible) per quarter or so in the back half of the year is feasible?

We are trying to be careful here. We are seeing some positive signs. We feel satisfied with Q2. Nevertheless, we want to remain cautious. Therefore, we are just stating that, as I said on the talk, that we expect the second half to be slower than the first half. I, right now, would prefer not to provide any predictions, even on when we will give further predictions.

Okay, very good. Good luck going forward. Thank you.

Thank you, Daniel.

Thank you. The next question comes through from the line of Stephen Silk from C. Silk & Sons. Please go ahead.

Good morning and thank you for taking my call. I'd be interested to know, on the revenue line, how much revenue came from the Omega product?

Basically, we mentioned on the call that the orders we have received are over 10%. In terms of revenues, the numbers are quite similar.

I missed what you wrote. Could you repeat that, please?

Yes. We said in the conference that the orders coming in from SG-Omega this quarter were over 10%. In terms of revenues, the percentage is quite similar.

Okay. And do you expect to start seeing, over time, that that increases as a percentage of revenue? How quickly do you think that could happen, as far as the growth on that?

This is Rami. You know, it's the second full quarter for the SG-Omega to be out, so it's early in the introduction cycle. Nevertheless, definitely we expect to see growth in the Service Gateway. Also, to remind everyone, the Service Gateway as a platform is the first incarnation, Omega, of a series of Service Gateway products. After the Omega, there will be a Sigma and so on and gradually will become the majority portion of our product offering.

Okay. And then, moving down a little bit on the income statement, there were large increases in R&D and sales and marketing. Should we see that starting to level off a little bit, so that -- well, let me ask it this way. Where do you think that you need the revenue to be, to be breakeven?

Our contention is that at the $12m dollars level, or something around this number, we'll be -- we'll get breakeven.

Okay. Then, I did have a question on the auction rate securities. Were any of the securities that you were able to redeem have a write-down? Will there be a -- is there any corresponding benefit, since you got it at par?

No. These specific auction rate securities were not devaluated in the past and this is why there is no upside in terms of financial income from them.

Okay. And just driving back to the new Omega, what are you seeing as far as the sales cycle on that? Is it much longer than the traditional product?

Yes, it is longer than our traditional AC-25 and AC-1000 1 gig products. This is essentially, on one hand, a more expensive product, so buying decisions obviously are more cautious. Second, it's a much more complicated product. It's essentially a solution more than just a box, which means that the selection process, our fee process and even implementation process is more elaborate and complicated. So, definitely the sales cycles are longer.

Having said that, this is where we actually develop a funnel and have a little bit more longer visibility on what's developing out there. But the product is definitely more strategic. The deals are larger on average and therefore the sales cycles are longer.

Okay. Do you have any new customers that produced revenue in the second quarter? And what are your prospects as far as sales to new customers in the third quarter and to the end of the year?

So, yes, we have -- we don't break it down in terms of numbers and names, but we do have numerous new customers in the past quarter, like we have every quarter. I did mention that we had nine large deals based on tier one and tier two service providers, among them a new one. Specifically, the announcement we made about winning a tier one mobile operator that definitely is a new customer for us.

In terms of next quarter, again, in the funnel I'm seeing, there are numerous new prospects. But to level things off, during 2007 about 50% of our revenues always came from existing customers, with follow-on deals which are just as important.

All right. Well, good luck going forward. Thank you very much for taking my call.

Thank you. Thank you for the questions.

Thank you. The next question comes through from the line of Walt Sosnowski from SRC Capital. Please go ahead.

Thank you for taking my call. Could you please give us some color on how you monetize the $5.8m ARS securities at par value after the quarter ended, just some details on how you did that?

As you probably know, at least for some types of ARS there is a trend in which the issuers started working to redeem the auction rate. So, basically, this specific one was one of those in which the issuer has decided to redeem.

Okay. So the issuer redeemed, as opposed to selling it to a third party?

That's correct.

Okay. And you got the full par value, $5.8m, for it. Congratulations on that. So, I'd like some more details on the remaining ARSs in the portfolio. I think, if I'm doing my math right here, at the end of June you had $31.9m, or if you take into consideration the $5.8m sale after the quarter ended you'd have about $26.1m in ARSs. Could you just walk through, either on a percentage basis or a dollar basis, what percentage of these remaining ARSs are with municipalities, what percentage or dollar amount are with corporates, what percentage or dollar amount are with CDOs, etc., just so we can get a sense of what's left in the portfolio?

Actually, we have all of these guides that you were -- almost all of these guides that you were mentioning. I think the major portion is the life insurance and financial going forward. The smaller portion is CDOs and corporates.

Okay. With -- I think CDOs is really the most -- the least good of all of these. Let's start with that first. CDOs, is it $5m, is it $10m, is it $3m? If I could just get a ballpark number.

It's less than $5m.

Okay. It's less than $5m. In corporate, is it less than $5m, is it $10m? Approximately what is corporate?

Corporate is also at the same levels of the CDOs.

Okay. So, less than $5m?

That's correct.

So -- and do you have any municipal ARSs?

No.

Okay. And then so, is it safe to assume that the balance is life insurance and financial guarantors?

Most of it.

Okay. So we're talking about $20m is either life insurance companies or financial guarantors, something in that ballpark range?

Yes. Roughly, you're correct.

Okay. Thank you. Thanks for that detail. I appreciate it.

Thank you. We've got a follow-up question from the line of Daniel Meron from RBC Capital Markets. Please go ahead.

Thank you. I just wanted to get the breakdown of the enterprise revenue that you had in the quarter and if you can give us a little bit more color on the trends in this segment. Thank you.

Yes. Thank you, Daniel. We've been discussing this point many times in the past and we haven't really broken down between the two segments. We strongly believe that we provide a DPI solution. Most of our enterprise customers are very high-end enterprise customers, like universities, data centers, large organizations, which almost behave as private service providers, with tens of thousands of users. This is where we scale and offer the best compared to competition. Many times, we might use the same channels to go after large enterprises or small service providers.

So we really -- even internally, believe it or not, we don't break down these numbers. So, sorry, I can't give you any further insight at this point, Daniel.

Okay. That's fair. And then, on the competitive landscape, can you give us a little bit more color on the changes in the last quarter, if you've seen anybody new? Also, as far as partnerships, if you can just give us a little bit more color on where you are right now, and lastly if you have 10% customers.

So, starting from the last point, no, we don't have 10% customers, so we remain very well balanced among geographies and different customers.

In terms of the competition, I have not seen any major shifts from our competitors. Obviously, we are watching to see the effect of the merger between DPI and security, our acquisition of Esphion countered by the merger between [Elacoria] and [Aldorg]. So we have to see how that merger turns out. So, nothing major.

We are seeing pretty good performance from the Omega. And in trials where we do participate, where our sales force has done a good job in penetrating and positioning us, the Omega in [beta] does pretty well. To make everybody aware of that, we actually subject -- we put the product through testing by Isocore, mainly to prove its carrier class capabilities, which we feel are quite unique. So, we feel pretty positive about how the Omega fares with the competition. But other than that, no major shift.

Okay. So, you haven't seen more of Cisco or Sandvine in the -- Sandvine now, with the issues in North America, have you seen them more in the international markets? And also, how do you see Cisco at this time?

You do have a point that's valid. We are seeing a little bit more of Sandvine outside the US. I think, in the other direction, they are seeing more of us in the US in the larger accounts. So, I think both companies realize that, to scale in the DPI market, I think there's plenty of space for us and them to succeed. You centralize just on a few large customers. You can't just rely on the smaller customers as well. So we're pretty much headed in the same direction.

On the Cisco side, we're kind of cautious because I've yet to see any formal announcements on general availability announcements on the 7 gig product. We haven't seen that in a formal way. But that's the only difference compared to last year.

Okay. And then, last one, how long of a -- or how wide of a competitive advantage do you think you have within your service gateway functionality? Is it a matter of quotas? Is it something that has to do with the functionality of several items? If you can just give us a little bit more edge on where is the competitive advantage that you have with your service gateway.

That's a tough call. At no given point do I know what's cooking in my competitors' labs, so I remain always paranoid and try to drive our R&D team as fast as possible. Having said that, what's unique about the service gateway is not just the speed and -- or certain features, but the point is it's a completely new open platform, very scalable, very friendly to engage and internalize the value-added services. That is quite unique and I do not see that with our competitors. I think some of them are talking about it. How long will it take them to catch up? Frankly, I have no idea.

Okay. Very good. Thank you.

Thank you, Daniel.

Thank you. We've got a follow-up question from the line of Stephen Silk from C. Silk & Sons. Please go ahead.

Just to harp on the marketable rates one more time. So the -- you're showing $32m on the balance sheet at this point, down from $35m at the end of the year. Those -- that hasn't changed other than the write-off of the value. So the face value of the long-term marketable securities is really $35m, not including what you sold?

No, the face value is not $35m. This is the value of the auction rates after the valuation as of March '08.

Right. Okay. So my question is, how this works its way out, you still had $30m plus the close to $6m that you've redeemed since the end of the quarter. So your $36m in cash, your total marketable securities is well above your cash per share, your stock price at this point. So would you look to -- and your burn is coming down somewhat, so you're not really going through a whole lot of cash. What is your long-term goal for the cash that you need and would it benefit the shareholders if you were to institute some form of buyback to retire shares, with the environment and the current price of the stock?

First of all, the cash amount we currently have that is available for us is, like I said, we feel there's a sufficient amount to enable us to handle our operations, not only in the near future but also long term. Having said that, we need that cash for the business. However, on a quarterly basis, we usually consider the option of doing some buybacks and that's something for us and the Board to decide.

But right now, there's no plan in place as far as authorization for a share repurchase, or is there?

As of now, that's correct.

All right. Thank you very much.

Thank you. We've got a follow-up question from the line of Walt Sosnowski from SRC Capital. Please go ahead.

Yes. Up until this quarter, the Company has been burning cash at a rate of about $2m per quarter, and then this quarter it sounds like it was breakeven on a cash burn basis, and congratulations, by the way. In terms of the second half of the year, should we expect you to continue to burn cash at a rate of about $2m per quarter?

We need to understand that in this quarter we actually collected a receivable from -- actually, an old receivable from the government of Israel regarding some grants. Now, looking forward to the second half of the quarter (sic), we believe that our cash burn is going to get lower than the level that you've seen in 2007.

Okay. So, a slight improvement from the $2m per quarter cash burn that we've seen up to this point?

Yes, I believe so. Bear in mind that in Q1 we burned approximately $1.5m and I think we can improve on that in -- during the second half.

Okay. Great. Congratulations. Thank you.

Thank you. (OPERATOR INSTRUCTIONS). We've got no further questions in queue, so I'll hand back to the host to conclude today's conference.

Thank you all for joining us today. Allot will be participating in two investor conferences during next month. I will be at the Kaufman Brothers Conference in the beginning of September in New York, and Rami Hadar will be at the CIBC Conference in Montreal during the third week of September. We look forward to meeting you then and on future calls. Thanks for being with us today.

Thank you for joining today's call. You may now replace your handsets.