AudioCodes Ltd (AUDC) 2006 Q2 法說會逐字稿

Good morning.

My name is Gina and I will be your conference operator today.

At this time I would like to welcome everyone to the AudioCodes second quarter 2006 earnings call. [OPERATOR INSTRUCTIONS].

Thank you.

Mr. Knettel, you may begin your conference.

Thank you, Gina.

I would like to welcome everyone to the AudioCodes second quarter 2006 earnings conference call.

Let me begin the call today with a brief Safe Harbor statement concerning AudioCodes' business outlook or future economic performance, product introductions and plans and objectives related thereto, and statements concerning assumptions made or expectations as to any future events, conditions, performance or other matters.

These are forward-looking statements as that term is defined under U.S.

Federal Securities law.

Forward-looking statements are subject to various risks, uncertainties and other factors that could cause actual results to differ materially from those stated in such statements.

These risks, uncertainties and factors include, but are not limited to, the effect of global economic conditions in general, and conditions in AudioCodes' industry and target markets in particular, shifts in supply and demand, market acceptance of new products, continuing product demand, the impact of competitive products and pricing on AudioCodes and its customers, products and markets, timely product and technology development, upgrades, and the ability to manage changes in the market conditions as needed, the ability of AudioCodes to consummate the proposed transaction with Netrake and to successfully integrate the acquired company's products and operations into AudioCodes' business, and other factors detailed in AudioCodes' filings with the Securities and Exchange Commission.

AudioCodes assumes no obligation to update that information.

Joining us today from AudioCodes we have Shabtai Adlersberg, Chairman, President and Chief Executive Officer, Nachum Falek, Vice President Finance and Chief Financial Officer, and Ben Rabinowitz, Vice President Marketing and Sales, North America.

I would now like to turn the call over to Shabtai Adlersberg.

Mr. Adlersberg, please go ahead.

Thank you, Erik.

Good morning and good afternoon, everybody.

I would like to welcome everybody to our second quarter 2006 conference call.

With me this morning are Nachum Falek, our VP of Finance and Chief Financial Officer, and Ben Rabinowitz, our Vice President of Marketing and Sales, North America.

Nachum will start by presenting a financial overview of the quarter.

I will then review the key highlights for the second quarter.

Right after then, we'll discuss the key developments in more detail and we'll focus on the key market trends and the progress that we have made in our Networking business.

We will then turn it into the Q&A session.

Nachum?

Thank you, Shabtai.

In the second quarter revenues were $33.3m, which represents 6.3% increase on the last quarter.

Getting into geographical and product mix, then America accounts for 57%, Europe 22%, Asia-Pacific 12% and Israel 9%.

We had one customer above 10%.

Our top 15 customer accounts to 56% of revenues compared to last quarter of 52%.

In terms of revenues by business group, then in the second quarter of 2006 the Technology business group revenues consisted 46% of sales, and the Networking business group revenues accounted to 54%.

As I begin the overview of our income statement, I would like to remind you that we are including the impact of SFAS 123R, or employees’ stock option expensing in our GAAP financial statement.

The stock option expenses for the second quarter of '06 was $1.8m or $0.04 per share.

Please note that our GAAP income statement included in our press release.

In the second quarter of '06, pro forma gross margin was 59.6% compared to last quarter, 59.9%.

On a GAAP basis, total gross margin was 59.3%.

The decrease in gross margin is due mainly to different product mix in the quarter.

Our total pro forma operating expenses increased from the first quarter levels to approximately $15.5m.

On a GAAP basis, with the effect of SFAS 123R, operating expenses for the second quarter were $17.2m.

Headcount increased this quarter by 12 employees, which brings us to a total of 555 employees.

Pro forma net income for the second quarter was $5.1m, or $0.11 per share.

GAAP net income for the second quarter was $3.2m or $0.07 per share.

Short-term and long-term cash balances were $233m compared to $228m last quarter.

The increase in cash balances is attributed mainly to a positive cash flow from operations and financing, which were offset by a negative cash flow related to investment activity.

DSO came in at 55 days compared to last quarter’s DSO of 52 days.

Our third quarter guidance will include the consolidation of Nuera's financial results into AudioCodes, starting July 6.

Our guidance for the third quarter is as follows.

Based on our visibility at this time, we forecast revenues for the third quarter to be around $40m.

This guidance is based on an initial backlog that's above 50%.

Including the application of SFAS 123R and amortization of intangible assets, we anticipate net income per share of $0.04 in the third quarter of '06, based on an estimated 44m shares outstanding.

As a result of the application of SFAS 123R, we anticipate that our non-cash stock-based compensation expenses will be around $2.5m in the third quarter of '06.

We also estimate that the effect of amortization of intangible assets related to the acquisition of Nuera will be around $1m in the third quarter of '06.

Excluding the effect of stock-based compensation expenses and amortization of intangible assets, we anticipate a non-GAAP net income per share of $0.11 in the third quarter of '06, based on an estimated 51m shares outstanding.

This guidance does not include the impact of the Netrake acquisition.

I will now transfer the call to Shabtai.

Thank you, Nachum.

We are very pleased to report another record revenues in the quarter.

This has been our 19th consecutive quarter of continuous growth.

The second quarter of 2006 has been also a record quarter in terms of growth in our Networking business, both in our Media Gateway and our Media Server.

This represents increased adoption and recognition of the quality and performance of our products by service providers supplying next generation Voice over IP network.

Based on the results of this quarter and the channels that we have created with our customer base, we see this trend continuing the coming quarter.

Now to some of the financial highlights.

Revenue grew 6.3% sequentially, which indicates nice pick-up from the trend of declining revenue growth rates during past quarter.

Key encouraging phenomena in this momentum in sales is the growth of about 20 to 25% in our Networking business sequentially in all of the product categories.

This further indicates the strength of our product lines in all brands among service providers and OEMs.

Additionally, we have been able to maintain a high gross margin in the high 50s.

Operating expenses grew only 2% in the quarter and that reflects very good control of our expense side.

Operating income increased to 13%, while net income reached 15% of revenues, which has been our stated target for many years now.

We consider this an important performance milestone for the Company.

In view of the continued investments throughout the past year in R&D, product development and expansion of our global processing [and sales], we reached 15% net income of sales.

Year-over-year, comparing with the second quarter of 2005, operating income grew 48% and net income grew 65%.

This is well above our stated goal of growing revenues –- I'm sorry, of growing earnings about 40% annually, which we have now demonstrated for more than three years in a row.

In terms of the performance that we have witnessed in the business lines, in the Technology business we have witnessed a nice pick-up in the sales of the chip business.

We see this as a continuing trend into 2007.

On the other hand, we faced weakness in our blades product line, mainly in North America.

We attribute it to lack of design wins in the previous 12-month period and the result of reorganization of our North America sales team and transitioning of accounts from one sales team to another one.

We believe, however, that this is a sporadic event and we feel that we can recover fairly shortly into our leading position in this blades business line and [in this space] has not been affected at all.

In addition, we see prospects [inaudible] including design wins with the leading OEMs in this space, one of which has already been achieved and we'll look for more in the second half of 2006.

Now to the Networking business.

We have seen good flow of new [inaudible] and new opportunities developing for us in the service provider market.

TPE and Low Density Media Gateway sales grew about 30% in the quarter.

Notably, there was one big large service provider account representing above $1m in the quarter.

We have seen nice pick-up in other service provider accounts and, all in all, good prospects with both service providers and OEMs going forward.

We have also seen good progress on the Mid and High Density Media Gateways, where we grew more than 15% sequentially from the previous quarter.

We continued to solidify positioning in current accounts and we have created prospects for new accounts, both on the OEM front and on the service providers front.

On the Media Server side, we grew about 20% and we continue to see new opportunities to expand the customer base.

Last, on the M&A front, we closed the Nuera deal early July, and we see good starting to operations in the sales teams from both companies in North America, even more than that in Asia-Pacific.

We have announced the Network transaction, where we look to add a new leg to our future growth with new Session Border Controller product offering as this market segment picks up.

All in all, when we compare our growth in the Media Gateways and the market, we're coming fairly close to what we see in the market, an overall increase this year, up about 25%.

We also believe that growth of the Media Server market this year more than doubled to [140m] based on Infonetics Research.

We believe that we are growing at least that.

Basically, when we look -- summarize our initial -– our outlook into 2006, just as we have performed in the second quarter, we look for a sequential growth of between 5 and 10% in each of the remaining quarters.

And so, given it was a slow start in the first quarter of 2006 where we grew only 2%, we now look to grow organically above 20 and close to 25%.

If we close each quarter on the upper side of the 5 to 10% growth range in Q4 and Q3, we will reach 25%.

Combining Nuera sales, we [expect] around 30% revenue growth and above in 2006.

On the OpEx side, we are on track with our original plan to control expense to grow organically in 2006 by no more than 15%.

Coming to the bottom line, on the earnings side we plan this year an organic growth of around 50%, and combining Nuera, we should achieve even above that.

And with that, I will move the call to Ben.

Thanks, Shabtai, and good morning everyone on the call.

As Shabtai just said, in the past few months we have moved the Company forward, and believe that strategically we have what we need to grow long term and are now focused on execution and prioritizing our resources.

With our recent move, we are now even more focused on service providers and are more capable to serve operators both directly and indirectly.

We have also added more into our facility partners and are building more effective channels.

We are also accessing more market segments, gaining strength in all of our three regions, providing more value to our customers and offering more products for future IMS networks.

In terms of being more service provider focused, first, as we have mentioned in previous calls, the Nuera integration brings additional service providers, such as [Pop, Rogers], and Reliant, among others.

Netrake has secured T-Mobile in North America and Telefonica in South America, among others.

Second, we are continuing to build a stronger and stronger service provider sales force around the world and believe this team will turn out to be one of our competitive advantages going forward.

Another important [inaudible] for us this quarter was our commitment and profitability and integration, to enable stronger partnering and more effective channels.

We are integrating with many of the leading PBX and messaging vendors, such as Nortel CS1K, Avaya’s [Definity] program, Microsoft, among others.

We are also integrating with carrier [hosting vendors] such as Broadsoft, [Hawantro], and [Netcenter].

When combined, our variety of inter-op partners matched with our superior voice quality and features, this motivates and enables channels and network equipment providers to incorporate and push more of our products into service providers and enterprises.

We also have more access today in market segments, such as voice over broadband, fixed mobile convergence and with the pending acquisition of Netrake we will soon have better penetration into conferencing service providers and instant messaging service providers.

In voice over broadband, we have secured another Tier 1 cable operator in Latin America.

I know we have discussed fixed mobile convergence in the past call, but it's worth mentioning that Audiocodes and Netrake are now live with two Tier 1 networks in Europe, and have secured a third Tier 1 design win in Europe.

Netrake is also of course in T-Mobile.

In terms of SIP applications, we successfully launched our HA – highly available - SIP-based Mediant 5000 with a Tier 1 operator last quarter, and the product is running in a live network in multiple locations.

While Netrake gets us deeper into fixed mobile convergence, they also give us access to the instant messaging market and, based on our latest tests, our future SBC, or Session Border Controller, customers are seeing voice subscribers grow at a nice rate.

In terms of regions, in the last two years we have seen our EMEA team, our team in Europe, step up and contribute significantly to the Company's growth.

We continue to invest in this team as it builds on its success in winning Tier 1, 2 and 3 carriers, as well as securing more channels and new OEM wins.

Most significantly, at the end of the second quarter we've just started shipping our Media Gateways and [supplying] directly a Tier 1 operator in Europe as using AudioCodes for voice over broadband and international conference, and down the road will also use us in wireless applications.

What is also new is that with a combination of internal moves, coupled with a strong Nuera team, we now also expect our A-Pac region, our Asia region, to be a strong contributor in supporting the North America and EMEA regions and growing the Company going forward.

Indeed, in the last couple of months, we have secured multiple wins, including a win with a Tier 2 operator in China using our blades.

We also now offer more value to our customers.

Nuera has already strengthened our North America and A-Pac teams by adding [bench] strength in serving customers and this is quickly becoming a differentiator.

We are also finding that within their customer base we are able to sell more AudioCodes products and address needs that Nuera was not able to meet as it [inaudible] some things.

In addition, AudioCodes is in a strong position in playing multiple roles in future IMS networks.

We offer Media Gateways with blades, CPE and carrier-grade products connecting TDM ICs.

With the Netrake acquisition, we will be able to offer Session Border Controllers and Security Gateways to enable real-time voice and video sessions in IP-to-IP networks.

And with Media Servers, we enable value-added applications and features that run on top of voice over IP and future IMS networks to drive service provider revenue and differentiation.

Overall, we are now providing products that help enterprises and service providers to connect their legacy voice networks to voice over IP, or connect IP to IP networks and enable value-added applications.

So, in summary, we are now more capable of pursuing and serving service providers, have more inter-op partners and more effective channels.

We are also in more market segments, gaining strength in all three regions, providing more value to our customers and offering more products for future IMS networks.

We believe that the progress we made in the second quarter, in particular on the M&A front, will fuel our growth going forward.

And now I'll turn the call back to the Operator for Q&A.

Operator?

[OPERATOR INSTRUCTIONS].

And your first question comes from Alex Henderson with Citigroup.

Hi.

This is Nigel Frankson calling in for Alex.

I'd like to talk a little bit about the Netrake acquisition.

Could you clear something up for me?

I believe you said the venture capital -– capitalists invested something on the order of $70m into that business.

Is that correct?

It is.

That's correct.

And you were able to have purchased it for $11m.

Was there any issues with the technology that was purchased, anything on the R&D front, any issues there that need to be resolved that would account for the substantial discount?

Actually, we were very impressed with the product and technology and doing our due diligence we got good feedback from some customers, so we feel good about the products.

Then if you could help us reconcile why the substantial discount.

Why would they sell such a great technology for such a steep discount?

Sure.

The market is still young and developing and as we say that we're going to be investing in the coming quarters, and so part of the issue was finding a home and finding a place that will continue to invest in the product as the market develops over time.

Is it fair to assume Netrake was under financial distress when you bought it?

There were certainly financial difficulties that led to their decision to come to an agreement about it, but --

Okay.

And the last question; have you seen the -– their relatively new Sonus box in any competitive bids of late, the [TFX 4000], I believe it is?

We haven't seen it significantly in -– it comes up from time to time but it's not -- in general, we don't see [inaudible].

Alright, thank you.

Your next question comes from Vivek Arya with Merrill Lynch.

Thank you.

Hello, guys.

Shabtai, when the year started I think you were expecting organic growth of 20 to 25%, and I think on the call today you said close to 15%.

I want to make sure I got that right.

And if I did, I'm just interested in knowing why are you expecting lower organic growth for AudioCodes?

Are there -– is there pricing pressure in the market?

Are certain segments, like you mentioned blade servers not doing so well, if you could give us some insight into that?

Right.

Initially, entering into 2006, we believed -- we forecasted a growth of 25% and above.

In view of the slower first quarter of 2006, where we grew only 2%, we now believe that, growing at the rate of 5 to 10% in Q2 and in each of the remaining quarters of 2006, we should be able to end the year somewhere between 20 and 25%.

We don't attribute that at all to competition and –- or to any pressure on prices.

We believe that this is simply the attributes of the market.

I think, entering into 2006, as like other players in the market, felt that IMS would come into play faster.

It's not happening that fast.

On the other hand, we do see much more increased activity with service providers, mainly on the Wi-LAN and broadband access.

So, all in all, taking all of this into account, we expect to see well with the market behavior, and think when you'll be looking into some of the analysts covering the [inaudible] space, I think you will see a small number.

So that growth represents simply the market growth and we feel very confident that the market will keep picking up in coming quarters, and in 2007 and 8 we will see increased rates.

I would also like to note that we really are paying much more attention to the bottom line performance.

We have planned for earning growth of about 40% and will definitely be able to do that, and even above.

If we would not have had the Netrake deal, which is going to be dilutive, we would have ended up 2006 with earnings growth of more than 50% - five, zero – which is, at the second year or full year, such phenomenal growth in earning.

With Netrake, I think we'll get only to around 40%, but think, all in all, we're very pleased with the performance and we do not feel that we have failed in the market in any way.

But just to clarify, organic growth in '06 of 20 to 25, and then including Nuera and Netrake it's more than 30%, right?

I just want to make sure I got it.

Yes, absolutely.

If you add Nuera, we've announced Nuera is to contribute somewhere around $10m this year.

With just Nuera, we’ll be close to 30%.

If you add Netrake, we’ll be above 30%.

I see.

And the $10m from Nuera, is it fair to assume that it's, for example, $5m in 3Q and 4Q?

It's sort of evenly distributed or is there some seasonality?

Well, [inaudible] growth in our operations, so we may assume that it's less than 5 in Q3.

I see.

And just the last thing is Netrake acquisition, what's your assumption on when it will close?

And -– because I think, from your guidance, it looks like it may not close early enough in the third quarter to have any dilutive impact to EPS, so can you give us a sense for the timing of that acquisition, the closure?

It really depends on regulators, where we have no control on timing.

If everything goes fine the deal should close mid-August.

In case of some delays, then it's hard for us to say.

At this stage we do not have any information that would tell us that there is any such ability [to get there], but I think we're not seeing any reason not to be able to close the deal somewhere in August, but it still pretty much depends on the Regulator.

But your third quarter outlook does not include Netrake, right?

I just want to --

Yes, that is correct.

At this stage, we have not included any of that.

Should the deal close in the third quarter, we will announce it and we will provide updated forecast for the third quarter.

Okay, great.

Thank you.

Yes.

Your next question comes from Ittai Kidron with CIBC World Markets.

Hi, guys.

Congratulations on a good quarter.

Nachum, can you give us a little bit more color on what is the Nuera contribution you're assuming in the $40m revenue guidance?

Ittai, as we have stated before, we are not going to detail the revenues between Nuera and AudioCodes.

We are working as one Group, doing the integration, and so we look at AudioCodes as one company.

But, as we mentioned in the past, we think that Nuera should contribute around $10m in 2006, second half of 2006.

And we do expect some kind of growth between the fourth quarter and third quarter.

But there is mid-single-digit sequential growth in your core business excluding Nuera, right?

Can you repeat, Ittai?

You do see, though, growth in your core business in the third quarter in the mid-single-digit range?

Yes, yes, yes.

Okay, very good.

As I said, we are at this point producing growth 5 to 10% quarter-over-quarter, getting into the third quarter, and if you're looking at AudioCodes as standalone Company, even at this point into the fourth quarter.

Very good.

Now, Shabtai, with regards to the weakness in blades, does that have anything to do with Ai-Logix?

Not at all.

Ai-Logix are -- that's functioning well.

It's really more on the original AudioCodes blade organization, which has been moving between sales teams.

And there was last [half], as we have mentioned before, previously in the past 12 months there's been less focus on design wins in blades, while we place more of that on the Networking side.

So that explains it.

But I think we, as a Group, we are focusing on that and we're confident that we will see recovery somewhere in Q4 and going forward.

Okay.

And with regards to the Gateway business, could you give us a little bit more color on what is mix right now between service providers and direct and OEMs, roughly?

I do not have that number with me.

I would still assume that at this stage OEMs do represent a substantial part of our business.

We’re working currently on the Media Gateway primarily through large OEMs.

And then we’ve got between three and four service provider accounts.

We all need to take into account that this is a very young business plan for us.

We just entered with a complete product in 2006.

We do see more opportunities developing for us with service providers.

And all in all, I think in 2006 we will grow that business line by more than 50%, even 60%.

So over time the OEM portion -- I’m sorry, the service provider portion should, as a percentage of your total Gateway business, should increase?

Our belief is that at this stage it is hard to win more OEM accounts since gross margin pressure will be developing on any such opportunity.

So, we believe that indeed growth would come more from direct sales to service providers.

And does that have any implications from you -- when you compare to [a deal] service provider versus OEM side by side on an operating basis, would you say that service provider business has lower margins?

Do you need to provide more support, kind of hand-holding in a sense, more so to service providers rather than OEMs?

Well, none of it -- well, not necessarily, simply because whenever we sell through an OEM the pressure on prices is substantially larger.

The other side of the equation is that we have still the large sales force that sells directly to service providers in selling PC devices and mid-density gateways and high-density gateways and media [servers].

So, by basically building that force then on all sides of gateways, we do not believe that there will be a need for any extra investment in specifically selling high-density gateways to service providers.

Very good.

Congratulations, good luck, guys.

Thanks.

Thanks.

Your next question comes from Rami Rosen with Oscar Gruss.

Thank you.

Congratulations for nice results.

First question is regarding if you can provide the breakdown of customers between Wi-LAN, wireless and cable.

Rami, we don’t -- we do not break it down into that kind.

The only breakdown that we’ll provide is, as I mentioned, in terms of the business groups, i.e. Technology and Network.

So, just one more question, regarding Netrake, if you can estimate now the one-time expense that you will record on that acquisition.

One-time expense;

I don’t think we will have any one-time expense.

The guidance that we gave for Netrake, when we said that that would probably -- that would be $0.07 in ’06 and $0.07 in ’07, was non-GAAP, meaning it wasn’t including any option expensing and any amortization of intangible assets.

Okay, good.

Thank you very much.

Thank you.

Your next question comes from Troy Jensen with Piper Jaffray.

Hi, gentlemen, a quick question.

You’ve talked previously about six significant design wins in the pipeline, that they’re going to hit in the back half of the year.

Did any of those six come in the second quarter here?

Yes.

So, like -- this is Ben.

If you listen -- in terms of the parts that I covered in my part of the discussion, I talked about the fact that we are shipping to a Tier 1 operator in Europe.

I’ve seen multiple Tier 1 operators in Europe that are part of that.

And we started also shipping to some of the -- to some of the OEM customers.

So, again, these are initial shipments, but they are [inaudible] [and we have started].

Okay.

And then with respect to Nuera, was that a company that had a lot of backlog coming in any quarter?

Nothing which is not ordinary to our business and nothing [unusual].

Okay, and then any seasonality in that business, Nachum?

I think that’s probably close to what we’re seeing in AudioCodes, maybe a little bit more work you can’t find regular in the telecom industry.

But I don’t think it will affect immediately, let’s say, AudioCodes’ growth or something that relates to our historic growth.

Got it.

Keep up the good work, guys.

Thank you.

Your next question comes from Marcus Kupferschmidt with Lehman Brothers.

Good afternoon, guys.

Hi, Marcus.

I want to spend a minute just going into the Technology business unit again.

The down-tick in terms of dollars is a pretty meaningful dollar amount in the June quarter on a sequential basis.

I would think this is more than one customer; it’s a few things.

Are you seeing projects where you’re working with partners and they are just not getting their business?

They’re not getting orders?

Or is that they’ve designed you out and that’s the down-tick here?

Help us understand what we’re seeing.

Marcus, this is Shabtai.

Again, we -- there’s no way that loss of an account would result in one quarter in such a big drop.

Again, think of -- as I’ve mentioned before, it’s really more and it’s in relation of sometimes of greater [closes] that North America team has [done], meaning OEM accounts and service providers and, therefore, a lack of [closing funds] of late.

Also, there could be some shift in revenues between quarters here.

I wouldn’t place too much importance on the drop.

The drop indeed is significant, but again I think going forward, and we already see that in the backlog of the current quarter, we don’t think that we will find ourselves in the same position going forward.

That’s currently our working assumption.

Okay, great.

And then in terms of -- just speaking about business by geography, my sense is you’ve had a bunch of key OEM wins with some North American centric -- some North American OEMs.

So, should we expect to see your North American sales grow nicely in the second half, as you start to generate more meaningful revenues from some of those key OEM wins that you guys have talked about that have been building up?

Marcus, this is Ben.

I would expect that -- we’re having growth in actually all the regions now and I would expect the balance to still be roughly the same.

We may be gaining in OEMs in North America, but certainly we’re gaining service providers in other parts of the world.

So, we wouldn’t expect a material change from how the break out has been.

Okay.

And should we expect the gross margin to continue to trickle lower going forward, Nachum, given the mix shift?

Or the Technology group comes back a bit, then they have been better gross margin that offsets some of the pressure on the mix?

Yes, obviously it depends on the mix.

But you have to remember the gross margin is the total [inaudible] mix within the Group, meaning with new technology and with new networking.

We are always saying that we are targeting 58 and, as you know, in the last couple of quarters we are coming higher than 59.

So, looking at the short term, I think we will be able to maintain this balance.

Thank you.

Thank you.

Your next question comes from Eric Kainer with ThinkEquity

Thank you very much for taking my question.

My first question is about the gross margin in each business.

It sounds like the gross margin on the Networking side is certainly continuing to be strong, yet on the Technology side it’s softer.

Is that largely a factor of the lower sales volume there?

Have we seen any changes in the competitive environment there?

And why are you relatively more optimistic about the design win activity in the second half?

I will start -- it’s Nachum.

I’ll start [inaudible] the gross margins.

So I think, as we mentioned, there is difference in average between different [work parts], between Technology and Networking.

But you have to take into account that within this mix there is a shift within each product group, meaning looking into Technology.

So, there’s difference between high-density boards and chips, etc.

On the average we are [having] to maintain the above 59% gross margin.

But again, it may be fair to assume that eventually it will go down a little bit within a few years from now, or it will go down.

Ben will touch on --

Your question was regarding design wins and in particular from the Technology side, is that correct or [inaudible]?

Specifically on the Technology side, yes.

Yes.

So again, I think, as Shabtai mentioned, with additional focus we think there’ll be additional design wins.

I would also say without -- this is a general comment, that we think AudioCodes is getting stronger and our competitors in the blade business, like [inaudible], are not matching our strength and some are not sure in terms of the future of being in that market.

And I think that enables us -- gives us lots of nice opportunities to pick up customers and give them a stable supplier that’s [in this] business.

So, I think it’s easy to look at the market and come up with being optimistic in terms of getting new design wins on board.

Excellent.

Thank you very much and good luck.

Thank you.

Your next question comes from Ted Jackson with Cantor Fitzgerald.

Shabtai, Ben, Nachum, congratulations for the quarter.

Thanks, Ted.

I’ve got a couple of questions for you.

Nachum, can you tell me what CapEx and the split up depreciation and amortization for me in the quarter [fell to]?

I didn’t get the first part.

You asked about amortization for the quarter?

Yes.

Yes, the amortization as separate from depreciation and net CapEx.

Okay.

By the way, you can find it in our press release, Ted, but I’ll look it up for you.

It’s part of the cash flow, so again, CapEx was a little bit above $0.5m.

And depreciation and amortization for this quarter was 850.

And of that, what was the amortization alone?

I don’t have the breakdown, sorry about that.

Number two, on the Technology side of your business, how much pressure do you see happening within that market with the rise of a lot of these open source products, where people are basically just selling blades with a lot of open source software on it, is my first question.

Then also, are you seeing a fair amount of pressure on the lower end of your business as you’re seeing a rise in media processing being handled by the CPU?

And then lastly, are you seeing much of maybe self-cannibalization as -- at the higher end instead of OEM customers taking blades and building their own solutions and they’re just taking your Networking [profits]?

Ted, hi, this is Ben.

In terms of the open source, we haven’t seen impact in terms of software running on a CPU.

I think what you’re referring to is the Sonus NHMC-based solution.

We do see some uses for that in some market segments.

It is still a very small market in terms of builds and on the overall board business globally it would be a very small percentage.

But it is something that we’re monitoring, but it certainly was not a factor in terms of what we’re expecting in the second half of this year.

Is it -- do you find that within your own business, using it as a [inaudible] to the market as a whole, that there has been -- maybe some of the business that historically would have gone through your board is now going through your [inaudible] based products now?

Yes, I’d say there’s -- that is a trend that’s occurring on one hand.

On the other hand, the overall market is growing, as it were, in general.

So, there may be some business that migrates from some of our blades to some of our gateway and media server business.

But there’s also new opportunities for the blade business and there is market share to grab as well.

So, we see growth in both of the business lines.

And then my last question on the wireless front, something that’s come up in conversations between you and I in the past, Ben, the impact of the 35 networks, [Playcom, Ravy], and such.

I’m just wondering, now that you’re starting to see at least announcements with regards to some of the deployment activities coming out of Sprint and Verizon and KDDI and others, are you moving into any dialogue with some of your OEM customers towards supplying infrastructure into those networks?

Yes.

So one is we’re definitely in discussions with our customers in terms of some extensions to network [point] providers and also service providers.

We’re very excited about migration to those networks.

Those require more [inaudible] coding and play to a lot of the strengths of AudioCodes in terms of signaling as well.

We also discussed in our previous call our collaboration with a telcom.

We announced that we did some [smart thinking] with them.

And we’re working with them in various ways to make the [inaudible] switches through their [CDMA] networks to make this even more efficient and higher quality, so that we can do voice over IP and wireless networks.

So, this -- these are -- the migration to these networks will be very good for AudioCodes.

And what do you see in terms of timing for that activity to begin to show itself to you financially?

Well, you know timing has -- there’s so many factors.

First, being integrated into an overall network solution and then working with the service provider as they test it and then eventually start to roll it out.

So, it’s somewhat of a moving target.

So, what I will say is that we are moving into some last trial activity, but I don’t want to get into forecasting exactly when it’s going to occur in terms of getting [product deployment].

Okay.

Thanks, great quarter.

Thanks.

[OPERATOR INSTRUCTIONS].

And your next question comes from Frank Marsala with First Albany.

Hi, good morning, gentlemen, how are you doing?

Just one question, a few of mine have been answered already, but one that I wanted to ask is a couple of your OEMs, Alcatel and Lucent, are merging.

Some of the consolidation service providers, a little going on, for example Nokia, Siemens.

Could you generally talk about what is impacting you, if it’s going to impact you, the kind of conversations you’re having with those OEMs today, as they prepare to close their deal?

We haven’t felt too much from these deals.

We -- our customers are still operating their business as normal.

We’ll just have to keep monitoring it.

But we think that we’re well-placed with our customers, in terms of the groups that we believe will play the key roles in the future merged company.

So, we feel comfortable that we will come through these -- as these mergers take place with the business that we currently have in hand.

And can you just clarify, Ben, the division of Siemens that’s being joint ventured with Nokia, is that the part of Siemens that does business with you?

Is that your OEM partner?

Yes, we have a relationship with Siemens, but that is -- that’s not a group that we’re doing any significant business with.

Okay, thanks very much, Ben.

Your next question comes from Reginal King with Nollenberger Capital Partners.

Right, thank you.

Congrats on the quarter, guys.

Nachum, first I was hoping I could just look a little more closely at the G&A expense, maybe you can help me?

You had a little bit of a down-tick in G&A last quarter and then somewhat more immediate growth than I would have expected this quarter.

Can you help me understand, is the current trend line what we should expect going forward?

Or is there something that was an unusual effect on this quarter’s containment of the G&A expense?

Hi, Reg.

So, nothing unusual, just regular growth coming from day-to-day stuff.

Obviously we have [stock] projects this year and [we have that], etc.

So, all in all, nothing was unusual and I don’t think it will change looking into the next couple of quarters.

Okay, great.

Thank you.

And then, Shabtai or Ben, you mentioned that you had one large service provider deal during the quarter.

Was that a direct deal or was that done with one of your OEM partners or customers?

Usually, so our sales in the quarter directly with those service providers.

We’re very active.

Actually we see a very nice panel of [Nuera’s] growth in this year, in Latin America and in other places.

And, Shabtai, outside of the business that you’ve done with Nuera, should we expect that we’ll see more direct to service provider business going forward?

Yes.

My belief is that, as we increase our portfolio of products and our products get to be much more mature, we will see more sales being made directly to service providers.

Great, thank you very much.

Yes.

You have a follow-up question from Marcus Kupferschmidt with Lehman Brothers.

Hi.

I don’t want to be a dead horse, but I just wanted to clarify, going back to the Technology group discussion, in prior quarters we said this business could grow 20% a year.

Are we back on track to start that?

And should we be thinking about that for going forward central opportunity?

Marcus, this is Shabtai.

I don’t look yet into the overall effect of 2006 but of course we look forward in the second quarter.

I wouldn’t expect that I would be able to track what we have said before.

We’ll see that we get this number and get it [inaudible].

Okay.

And then on a separate topic, I think it would be helpful just to give us a little update on the state of the Israeli operations today.

You have some manufacturing operations in the north.

Are you still doing a lot of your manufacturing up there?

Are you moving to any other locations in light of the current conflict?

And are you shipping everything out of the south?

And is that fine for you now, or?

Thanks.

Yes, Marcus.

Essentially this was no change at all, not today and nothing in the past 20 days in any of our -- any aspect of our operations.

We continue to operate as usual, both here in the headquarters and in our manufacturing facility up in the north.

It’s a matter of fact that our facility is in an area that has not been hit almost at all and we have been in contact with them on a continuous basis.

They keep manufacturing.

People show up to work and a very high percentage of attendance, and there was no disruption at all of any delivery and/or shipping of products [inaudible] into Israel and/or out of Israel.

Wonderful.

Thank you for the update.

Yes.

At this time you have no further questions.

Do you have any closing remarks?

Yes, this is Shabtai again.

I’d like to thank everybody that joined our conference call today.

And we look forward to see you all on our next conference call, summary -- summarizing the third quarter of 2006.

Thank you.

Thank you for participating in today’s conference call.

This does conclude your call for today.

You may now disconnect.