Allot Ltd (ALLT) 2016 Q3 法說會逐字稿

Good day and welcome to the Q3 2016 Allot Communications Limited earnings conference call. Today's conference is being recorded.

At this time I would like to turn the conference over to Gavriel Frohwein. Please go ahead.

Thank you very much and thank you all for joining us on the third-quarter 2016 conference call. My name is Gavriel Frohwein and joining me today are Allot's President and CEO, Andrei Elefant, as well as our Chief Financial Officer, Shmuel Arvatz.

The press release announcing our third-quarter results is available on the investor relations section of our website at www.Allot.com. All results and expectations we will review on the call our on a non-GAAP basis unless otherwise described as GAAP. Non-GAAP net income, defined as GAAP net income after including deferred revenues related to the fair value adjustment resulting from our purchase accounting and excluding stock-based compensation expenses, amortization of our provision-related to intangible assets, deferred tax asset update, and restructuring expenses and acquisition-related expenses.

Please note that all earnings per share amounts are on a fully-diluted basis. A reconciliation of each non-GAAP measure to its nearest GAAP equivalent is available on the press release containing our third-quarter results.

Before we begin, let me remind you that certain statements made during the call today may be considered forward-looking statements which reflect management's best judgment based on currently available information. I refer specifically to the discussion of our expectations and beliefs regarding our pipeline and final potential future business.

Our actual results may differ materially from those projected in these forward-looking statements. Certain material factors or assumptions are also applied in drawing the conclusions or making the forecasts or projections as reflected in such forward-looking information.

I direct your attention to the risk factors contained in the annual report on Form 20-F filed by Allot with the United States Securities and Exchange Commission and those referenced in today's press release, most of which detail factors which could cause your actual results to be materially different from those projected in the forward-looking statements.

With that I would now like to turn the call over to Andrei.

Thank you, Gavriel, and thank you all for joining us today. In today's call I will highlight Allot's results and share with you some highlights of the third quarter of 2016. After my remarks, I will hand over the call to our CFO, Shmuel Arvatz, for a review of our financial performance for the quarter.

This quarter we have been very busy with continuing the transition together with aligning costs, in line with our long-term strategy to become an important player in the security and monetization domain. Therefore, the financial performance was somewhat below expectations, which was disappointing.

Revenue for the quarter came in at $21 million. The operating expenses improvements that we implemented during the quarter are already showing results as we are ending the quarter with a slight net loss. Going into 2017, the positive impact of the reorganization and additional efficiency measures we took should contribute to better results.

Before drilling down into the quarter, let's review our ongoing strategy and plan, which is gaining traction. Just this week in a Spanish newspaper, El Pais, Vodafone described the benefits of the secure net solution provided by Allot which, among other things, and I quote, "In the first nine months of 2016 this solution blocked 50,000 ransomware attacks to 4 million subscribers who use the service." A typical ransom demanded by an attacker ranges from EUR100 to EUR200.

The benefits of the service, both to the end-user and to the operator is clearly demonstrated in this example. This and other wins provide us with the confidence as we leverage our growth engine security amortization, which is clearly validating our early adopting customers and highly-valued service. We anticipate that other carriers will follow.

In line with this strategy, our strategic partnership agreement with McAfee, which I mentioned in our last call, was signed during the quarter and we are moving forward full steam. Our sales teams are already working together towards promoting the combined solution. Our joint goal is to deliver a unique, comprehensive security offering to the consumer and small business market. The solution is called McAfee Unified Security, Powered by Allot and will be marketed by both companies.

This collaboration enables us to accelerate capture market share, capitalizing on the significant value that Allot provides as a player in the network-based Security-as-a-Service domain, protecting users anywhere, any time. We expect to see revenues from this venture in 2017.

Additionally, a couple of weeks ago we announced the release of our Secure Service Gateway, a product series that combines application-based visibility and control with web security and data protection in a single scalable appliance. With mobility and cloud migration, large enterprises require scalable platforms that provide both network intelligence and security and control capabilities. Our Secure Service Gateway helps businesses meet these needs with all-inclusive solutions.

During the quarter we announced the release of our advanced network analytics tools, which includes new dashboards, retail monitoring capabilities, and new metrics, all managed from a newly-released unified business intelligence interface. This combination of tools enables resale monitoring, self-service analysis, network investigation, and advanced [qualitative] experience analytics. Our actionable analytics have already enabled operators to enhance the offerings they provide to their customers, improve quality of experience, and stop revenue leakage by uncovering and reducing fraud.

Now for the quarter's results. Book to bill for the quarter was below 1. The low booking rate is tied to seasonality, which we typically see. In previous years it was offset by a mega order that generally came in during Q3. As we stated in the last call, we expect this customer to place his order into 2017.

In the past years we had higher dependency on fewer customers that place large orders. Today our revenue mix represents greater diversification of customers. Large deals reached 13 in total: five of which came from mobile operators, six from fixed line service providers, and two from cloud operators. Please note that three of these were seven-digit orders.

Out of these 13, three orders were from new customers: one in Europe, one in Africa, and one in Latin America. Winning new customers continues to be a major focus for us.

As we mentioned at the beginning of the call, revenues came in at $21 million so we have good reason to be confident in our longer-term strategy and results. We believe at this time in the transition process it is important to be conservative and we are, therefore, lowering our guidance to $87 million to $90 million for the year.

Now let's look at the OpEx. During the quarter, we continued to improve efficiencies by consolidating various units and increasing focus on security amortization and reducing expenses in regions that were not profitable, taking better advantage of local resources and economies of scale. These efficiencies contributed to increasing profitability, provide additional leverage with revenue growth.

Together with these efficiencies, we increased our investments in areas that serve our long-term strategy. Case in point, the development investment in the joint effort with McAfee. Moving forward, we expect full-year expenses to be at a yearly run rate of around $60 million to $62 million.

In the value-added service business, value-added services were 31% of bookings during Q3 with security representing about 30% of total buy. Based on our product booking specification breakdown, security bookings for the quarter were about 26 of total product bookings.

Before summing up, I will turn the call over to Shmuel for review of our financial results. Shmuel, please.

Thank you, Andrei. Before I began reviewing the financial results of this quarter, I would like to inform everyone that on this call, unless otherwise noted, I will refer entirely to the non-GAAP financial measures when discussing operating results, which is what we use internally to judge the performance of our business. Non-GAAP financial measures differ in certain respects from the generally accepted accounting principles and exclude share-based compensation expenses, revenue adjustment due to acquisitions, expenses related to M&A activity, amortization of certain intangible assets, restructuring expenses, and changes in deferred tax.

As is clear, the revenue and profitability were below our expectations. However, our operating expenses have now been reduced significantly to a full-year run rate of around $60 million to $62 million, positioning us well going forward.

More specifically, turning to our third-quarter results, revenues for the quarter were $21 million. This is a year-over-year decline of 10%. The decline in revenue was mainly due to the weakness in our APAC region and due to the fact that we had no significant contract in the quarter.

The geographic breakdown of revenues was as follows: Americas $3.9 million, or 18% of revenues; EMEA $10.3 million, or 49% of revenues; and Asia-Pacific with $6.9 million, or 33% of revenues. Product revenues for the quarter accounted for 55% of revenues, while service revenues were 45%. This is compared to 64% and 36% split in the third quarter of last year.

Book-to-bill ratio in the third quarter remained below 1. During the quarter we had 13 large customers, three of which were new customers and three of which were customers with booking greater than $1 million. Gross margin for the quarter was 70% of revenues versus 77% in the third quarter period of last year and 73% in the second quarter this year. The lower level of gross margin this quarter compared to the previous quarter was mostly due to [on-server bulk] product mix.

Operating expenses for the quarter were $15 million compared with $18 million in the third quarter of last year. The reduction in operating expenses was mostly due to lower labor and related costs resulting from the cost reduction measures implemented. As Andrei mentioned, at the beginning of third quarter we implemented a reorganization plan which included, among other measures, an additional reduction in our headcount. These measures were aimed at streamlining our operations and alignment of our cost base with our top line.

On a GAAP basis we recorded a restructuring cost of about $1.3 million, which is connected to our reorganization plan implemented and related mostly to employees' severance and similar expenses. Operating loss for the quarter was $311,000 compared to operating income of $218,000 in the third quarter of 2015. Net loss for the quarter was $474,000, or $0.01 per share, compared to net loss of $741,000, or $0.10 per share, in the same quarter of last year.

Turning to the balance sheet, our cash reserves comprised of cash, cash equivalents, and investments, totaled $110.9 million, down $5.7 million compared to the previous quarter.

During the quarter we recorded a negative operating cash flow of $5 million. The negative cash flow is attributable mostly to delays in collections from two strategic customers amounting to about $5.5 million. Since the beginning of the quarter we collected about $1.5 million of this amount and expect to collect the remaining amount during this month. As a result, DSO was 118 days, up 26 days from the previous quarter.

To conclude, 2016 has been a weak year for us. However, the steps we have taken position us well for the years to come with a significantly lower expenses base. In addition, we are realigning our business to focus on our security amortization growth engine. This step we believe will enable us to profit from the traction we expect to see from our growth engines over the coming quarters and years.

With that, I will turn the call back to Andrei.

Thank you, Shmuel. To sum up, during the past quarter we made significant progress in lowering expenses while continuing to invest in our longer-term strategy, enabling us to maintain profitability to our business transition.

Guidance for the full-year revenue is conservative at between $87 million and $90 million, and our partnership with McAfee, as well as the success of our early-adopting customers, gives both us and our partners great confidence and contributes to our positioning and recognition as a significant player in the Security-as-a-Service domain.

With that I will open the call to Q&A. Operator?

(Operator Instructions) Joseph Wolf, Barclays.

It's Brian Finneran on for Joe. First question I guess you guys had mentioned that orders have been of a smaller scale and a bit more diversified in 2016. Is this because the nature of your new products or has the customer's behavior shifted?

Brian, thank you. I believe it's a combination of both. We typically in previous years during the year have had one or two megaprojects or megadeals that came together with the smaller deals that we see today. So, overall, we used to have also those smaller deals in previous years.

What we are missing this year is many of those megadeals that we still see in the pipeline. However, the timing of these deals haven't fallen into these first three quarters, but we are working closely with these strategic customers and we do have plans to get those big orders going forward.

Now, in parallel, what we are aiming -- and I mentioned that also in my script -- is that we want to win additional customers and we are building some products like the Secure Service Gateway that is targeting large enterprises where we see a need for a technology like ours. And now with the combination of both the visibility, network intelligence, control, and the security aspects that we are adding into this service gateway, we believe that we will be able to capture a greater installed base, also with smaller customers, both in the enterprise area, large enterprises and small service providers.

Great, thanks. Then are more of your sales success-based at this point, meaning determined by individual end-user take rates and not by large box or appliance sales?

Sorry, can you repeat?

Are your sales more determined by individual end-user take-rates and not by sort of large box or appliance sales?

Depends on the type of service. If we look at the Security-as-a-Service, then we are dependent on the take-rate of the service. Meaning that we sell typically our solution to operators that offer Security-as-a-Service to their installed base and, as a result, we get revenues from licenses and subscription to the service.

On top of that we have the business on the traffic management and visibility where we are selling more boxes to the operator and then it is more on a box-level transaction.

Great. Then just one housekeeping. You said VaaS as a percentage of total bookings. Was that 36%?

31%.

31%, all right, thank you.

James Kisner, Jefferies.

Thank you. I was hoping you would talk again more about gross margin. Obviously this is a new lower level.

Was there any pricing pressure at all affecting your gross margin this quarter? What do you think it might look like in the coming quarter? Could it improve?

I think that as I mentioned on the beginning, compared to last quarter we had the product mix which is unfavorable, namely more hardware than software on a sequential basis. However, in order to improve this level of gross margin we need probably to improve the top line. If we go back to the level of revenue at least as we saw last quarter, I believe that we will see or we expect to see some improvement in the gross margins from this level.

So no incremental pricing pressure at all was driving that?

No, I would say again the main reason for the lower gross margin is because of the lower revenues. On the costs, we have the fixed part that is fixed and contributes the same level no matter what is the revenue. And since we had lower revenue this quarter, it impacted also the gross margin.

Okay. So you had nice OpEx control this quarter; have all the benefits of restructuring been realized? Should we think about this as a good near-term level for the next few quarters?

Yes, we expect 15.5% -- $15 million to $15.5 million, this kind of level, in the next quarter.

Just finally, you explain your cash burn, but going into Q4 what are you expecting cash from operations to look like? Are you expecting to get back to positive cash generation? Thank you.

Assuming we collect the overdue amount that I mentioned and all other collections are on track based on past record, I assume that we will turn back to positive cash flow.

Good, thank you.

(Operator Instructions) George Iwanyc, Oppenheimer.

Thank you. Can you give us an idea of the type of visibility you have into 2017 overall, let's say from a regional perspective, and then with regards to the McAfee partnership as well?

Regarding 2017 in general, we are not providing yet guidance for next year. And with regards to McAfee, as stated, we expect to see revenues from this partnership in 2017. We are already working together on some projects. There is a pipeline and we believe that we start to see revenues in 2017.

Okay. And in general, how long do most of the deals in that pipeline take? Are they six to nine months, a little bit longer? And then on the mega-deal pipeline, what type of visibility do you have into that into 2017?

The nature of the deals with McAfee is similar to the other projects that we have and I would say six to nine months would be a good estimate. So that is from the deal with McAfee.

Regarding the mega-deals we have with some of our strategic customers, we are working on projects. Most of them are into 2017, but this is exactly the budget period and we are working with them on these projects. So I believe that once we conclude the process with them we will have better visibility into the type of orders that we expect in 2017 and will report that as part of our general guidance for 2017.

All right. Have you seen stability return in your Americas bookings at this point?

We do see stability in the Americas bookings. It's slightly lower than we expected it to be, but again we have nice pipeline. Some of it is coming from the partnership that I mentioned earlier with McAfee.

Okay. And one last question just on the hardware/software mix. Should we expect it to kind of stay at the current levels for the next quarter or two?

No, if we improve the top-line level and we get some economies of scale in the model, we can expect slight improvement also in the gross margin. This is what we expect right now.

Okay, thank you very much.

(Operator Instructions) Matt Robison, Wunderlich.

First, on the secure gateway and the move towards large enterprise and small service providers, how are you going to accomplish that without disturbing your expense reduction game plan? I noticed your sales in the Americas at 18% doesn't imply a lot of reach in that market for one. How do you expect to address those customers?

In terms of the management of the OpEx, we looked at two areas where we did improvements. One is some consolidation we did on the product side grouping different products together. And one of the results is by teaming both the security and the service gateway teams into one unified team; we got also the benefit of releasing a joint product.

The other area is on the sales side. We looked at the different regions and we more selectively invest in specific regions where we identify the potential to grow. So there were areas that we decided to reduce the investments and we gained some reduction there.

On the other hand, we are investing more in other areas including investments in building channels in areas that we identify the growth potential. So it's more pinpointed to certain geographies where we identify the potential and we believe that with time we will be able to expand to other geographies as well.

On your services revenue, is there a component to that that reflects some of your security and monetization initiatives in terms of term licensing? Or is that -- would that still go into the product category and is services entirely a function of maintenance-type revenue?

Those revenues are still mainly on the CapEx type of revenues. We do have some subscription; however, it's not material enough yet to separate that.

However, going forward, the direction we are taking is definitely in that direction. We are going to more subscription-based type of projects and the projects that we have in the pipeline are built in this model.

Also, the partnership that we are doing with Intel is designed on a subscription model and not on a CapEx model.

As you make that transition and it starts to be meaningful to revenue, will you have a third revenue category? If not, which category would that revenue go into?

I believe that once it's material enough we will separate that and mention that separately as a separate metric.

But for now it goes into products, correct?

Yes.

Okay. So when you look at the services component of -- what is the range of aging of -- those are maintenance contracts, right? The services component?

It's a combination of professional services and maintenance. This is the main contributor.

Has there been a change in the mix towards professional services?

I believe that over the last year not a major change from the services. I would say around 25% to 30% is professional services and the rest is maintenance.

Okay. So if we look at that maintenance revenue, which I guess is about 30% of your sales, is that a little bit more? How old are the oldest -- how is the aging of the products with those contracts addressed? Is the bulk of it for products that are five-plus years old? Is there any way to characterize that?

Typically the contracts that we have is between one to three years. We have some strategic customers that they also buy it for five years. So after that period it's typically either renew the service contract and in some cases there is an upgrade to the newer platforms and then the maintenance starts from the beginning.

Okay, great. One last question. Why did deferred revenue go down in the quarter?

Deferred revenues are mostly maintenance contracts and the timing of renewal and collection are influencing the level of deferred revenues. So it's a matter of timing of renewals and collections.

Do you expect that affect to be reversed in the current quarter?

Not in the third, but maybe in the one because in the first quarter there are more heavy renewals patterned than in the rest of the year.

Okay, thanks for giving me the time on the call.

We have no further questions in the line at this time.

Thank you very much. Thank you, everybody.

Thank you. That concludes today's conference call. Thank you for your participation, ladies and gentlemen. You may now disconnect.