AudioCodes Ltd (AUDC) 2006 Q3 法說會逐字稿

Good morning, my name is Luanne and I'll be your conference operator today.

At this time I'd like to welcome everyone to the AudioCodes third quarter 2006 earnings conference call.

All lines have been placed on mute to prevent any background noise.

After the speaker's remarks there will be a question and answer session. [OPERATOR INSTRUCTIONS].

I'll now turn the call over to Mr. Erik Knettel of Investor Relations for AudioCodes.

Sir, you may begin your conference.

Thank you Luanne.

I'd like to welcome everyone to the AudioCodes third 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 and 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 economic conditions in general and conditions in AudioCodes’ industry and target markets in particular, shifts in supply and demand, market acceptance of new products and 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 successfully integrate recently acquired companies, 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 and General Manager of Session Border Controllers and Media Server Business Lines.

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 all to our third quarter 2006 conference call.

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

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

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

Right after that Ben will take over and will discuss the development in more detail and will focus on key market trends and the progress that we have made in our networking business.

We will then turn into the Q&A session.

Nachum?

Thank you Shabtai and good morning everyone.

Before beginning I would like to emphasize that the following discussion will include GAAP numbers and pro forma numbers.

On the third quarter pro forma results reflect adjustment for the following two non-cash items, total debt from concession expenses, which total $2.4m in the third quarter and amortization expenses relating to the acquisition of Nuera and Netrake, which total $560,000 net of taxes in the third quarter.

Total conciliation of the pro forma results discussed on this call to GAAP result is currently available for review on our website and in the press release issued yesterday.

Getting to our quarterly results, in the third quarter revenues were $40.1m, which represent a 20% increase from the last quarter.

As a percentage of our revenue, sales in America accounted for 60%, Europe 21%, Asia Pacific 13% and Israel 6%.

We had one customer above 10%.

Our top 15 customers accounted for 47% of our revenues compared to 56% in the previous quarter.

In terms of revenues by business group, in the third quarter our Technology business group accounted for 48% of revenues and our Networking business group accounted for 52% of revenues.

In the third quarter of 2006 pro forma gross margin was 59.9% compared to last quarter's pro forma gross margin of 59.6%.

On a GAAP basis gross margin was 58%.

Our total pro forma operating expenses increased from the second quarter levels to approximately $20.5m, primarily as a result of the inclusion of the operation of Nuera and Netrake in the third quarter.

On a GAAP basis operating expenses for the third quarter were $23m.

Headcount increased this quarter by 146 employees, mostly due to the inclusion of Nuera and Netrake employees which bring us to a total of 701 employees.

Pro forma net income for the third quarter was $3.6m, or $0.08 per share.

GAAP net income for the third quarter was $700,000 or $0.02 per share.

Short term and long term cash balances were $136m compared to $233m last quarter.

The decrease in cash balances is attributed mainly to payments on account of Nuera and Netrake acquisition.

DSO came in at 59 days compared to last quarter DSO of 55 days.

Our guidance for the fourth quarter is as follows.

Based on our visibility at this time, we forecast revenues for the fourth quarter to increase above 5% compared to our third quarter of 2006 revenue.

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

We anticipate GAAP net income per share of $0.02 in the fourth quarter of '06 based on an estimated 45m shares outstanding.

As a result of the application of FAS123R, we anticipate that our non-cash stock based compensation expenses will be around $3m in the fourth quarter of '06.

We also estimate that the effect of amortization of intangible assets related to the acquisition of Nuera and Netrake will be around $1m in the fourth 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 $0.08 in the fourth quarter of '06, based on an estimated 51m shares outstanding.

I will now transfer the call to Shabtai.

Thank you Nachum.

We're very pleased to report another record revenue for us.

This has been our twentieth consecutive quarter of continued growth and that we're able to announce and proud to say that we have concluded five consecutive years of growth.

So, we grow our business, technology and networking.

We emerge as one of the leading few play players in the evolving Voice over IP networking world.

In the third quarter we have enjoyed growth in two -- from the two of our businesses.

The Technology business, mainly the Blades business has rebounded very nicely mainly in the U.S.

I'll get to that later on.

And we had a nice increase in our Chip business.

On the Networking business we have enjoyed growth again, mainly in the media gateway.

We continued to enjoy more design wins both with leading OEM and service providers in next gen Voice over IP network.

As we continue to build our name and gain recognition, becoming a viable and more credible supplier associated with high quality and performance support further.

Based on the results of this quarter and the funnels created with our customer base, we see this trend continuing in coming quarters and getting stronger in 2007.

You'll see more service providers issuing our scale, deploying initially small capacity network in small markets and increased purchasing volume of media gateway.

Synergy research reports all that trend and higher growth in 2007 in low and mid density gateways.

And then we have growth -- predicted growth for the media server and the session border controller market.

So, 2007 should be a high growth year.

We will touch this market sales projection later in the discussion.

Now to some of the financial highlights and why we view this quarter as a very successful one.

Well, going forward we do not intend to provide a breakdown of our business into our own organic growth and the acquisitions that we've made.

We feel that this quarter we would like to provide that visibility just to provide continuity of our business -- the organic business.

So, this quarter we have been able to grow our organic operation better than we grew in the second quarter.

And just to remind everybody in the second quarter of 2006 we grew 6.3% sequentially, which means that this quarter we've grown faster.

And that indicates the strength of our business.

Actually, comparing quarter to quarter versus a year ago organically we grew more than 20%.

This further indicates the strength of our business, the product lines and our brand amongst those providers in OEM, which will pay back nicely we believe when the market grows in 2007 and 2008.

With further consolidation of the market and exits of some of the players, we believe that the overall competitive situation in the market will improve substantially.

With the acquired businesses revenues from those businesses was on the low side of our expectation.

Relating to gross margins, as Nachum has mentioned, we have been able to maintain very high gross margin about 6%.

We believe that's another indication of our strength.

We've continued to exhibit good control on the expense side.

And being able to grow revenues and controlling the expense we have kept our operating income at the 13 to 15 range where we wanted it to be initially.

As to perspective on our growing Networking business, we have seen good flow of new RFCs and opportunities in the service providers market.

On a quarter to quarter basis comparing to last year, our Media Gateway business grew almost 40%.

That's a good indication of the growth we will enjoy going further.

We have a greater focus on networking.

We have captured a strong position in the low and mid density media gateway market.

Based on synergy research report from second quarter we believe to quote about 8% of the market and believe to be in this place right up to some of the leading players in that market, among which we count [Disco] and ourselves, [Dinners] and [Lupin].

We have a renewed service on the service provider market and now we have an increased portfolio of products compromised of gateways, media service and session border controllers.

Now to some of the business lines.

On the mid density gateway we have enjoyed uptick in our revenue.

We have been selling goods to [NATs] and service providers.

We believe in 2007 we will add at least one big customer that has already completed an initial testing and [exploration] this year.

So, we believe that account will come live early next year.

We have been focusing with the media -- the mid density media gateway involved in the service provider enterprise market.

We also believe that with products that we were announced 12 to 18 months, the Mediant 3000, we believe we're going to be one of the leaders in that market, simply because that product is an advantage in right performance.

We are still in investment mood in that product line and we believe we will catch up really nicely in 2007.

On the CTE side we have been very successful.

We have one large enterprise account with our Mediant 1000 product and the application in IP-PBX platform.

We have enjoyed a further cooperation with Microsoft, which we have announced some time ago and also certified our gateway suite area.

We have been focusing on cost reduction process earning to releasing new product.

On the Media Server business we gained a meaningful account [Nexamotel].

That account has produced for us about $1m of work for this -- for us, about $1m of partners in 2006.

This quarter we have managed to win a fixed NSP and we believe that starting 2007 we'll have three active large NSPs sign that product format.

As before that business side has been profitable.

We are increasing partnerships and inter-op, including our vendors in the market and application servers.

On the Blades business we have seen a recovery in our North American market.

We have been able to recover nicely from the dip we witnessed earlier in the year.

That is now mostly [edge of it is].

It is the reorganization that we made in North America.

All in all, we see that markets are in a place where several players either advancing and/or declining.

And we believe holding the leadership position will enjoy continued leadership in that market.

Going to the integration part of our business in the third quarter.

We have started integration of both Nuera and Netrake in the third quarter and believe that process will take a few more quarters down the road.

As I have mentioned before, the financial performance, mainly revenues, are seen on the low side of expectation.

At Nuera we continue to evaluate synergies between our product lines and gain some synergies going forward.

We have been meeting with the North America cable customer base to further the relationship and try to expand our product bases sold to them.

We've got very good start on our Asia Pacific sales process integration and we have seen already revenues coming from that region.

And most notably, we have combined our service provider sales team in North America.

And now we have one team that goes and calls on scale one service providers in that region.

At Netrake we have seen slow start on the sales front.

We are investing substantially in building the sales infrastructure and opening new opportunities in the international market in North America.

We do expect in this quarter, in the fourth quarter of 2006, recovery of sales.

We have seen good market opportunities and we believe that with better focus on product size and the sales side will be successful. 2007 planning is underway and we believe sales will grow about $10m.

All in all, in North America we now sell around 100m.

We have three sales teams focused on different market segments.

We have a team that is focusing on the large NSP headed by Ben Rabinowitz from Chicago.

We have a team that targets the service provider segment and that's led by Bill Ingram, who joined us from Nuera.

And we have Moshe Tal leading the blades business in the area of [logic].

Now, a bit as to how is the communication market evolving, what's our strategy and why we are so optimistic going forward.

In coming years while the communication equipment market will experience only single digit growth, area Voice over IP will present enough of a growth, around 25% on an annual average basis.

I'm saying 25% I'm counting gateways, SubSwitch and [IP4s].

We believe growth on media gateways will be larger.

We keep executing on our strategy, meaning we want to be among the top three players and lead in niche markets, such as the media server and session border control market.

And be among the five top players in larger markets, namely the low and mid density media gateway.

According to synergy reports of December 2005 which put the evolution of those markets, growth in media gateway sales in low density and mid density in 2007 will outpace that of 2006.

In addition, since declining margins and profits drive consolidation among the leading service provider and equipments vendors, we see that affecting our sales as well.

We expect even gross margin, as we believe that fewer market players will maintain better price discipline, less pressure on price and the gross margin.

In the new evolving world of communication equipment we see two main viable business model [viable].

One would be the large NSPs, as well as some integrators, the likes of Ericsson, Marconi, [inaudible], and [inaudible] and Siemens network.

On the other hand, we believe that there are plenty of room for leading few play, better [inaudible].

This is where we intend to be.

This is where we intend to focus.

This is where we intend to become leaders in media gateways and session border controls and media server.

Our go to market strategy builds upon direct sales to service providers and cooperation and sales through the large global system integrators and working through this channel.

And with that I have concluded my part.

Ben?

Thanks Shabtai and good morning to everyone on the call.

As Shabtai just said, in the past three months we continued to move the Company forward.

We have worked hard on integrating both Nuera and Netrake, while continuing to stay close to conserve our customers.

We mentioned in the past that we not only strengthened our position in cable in Asia with Nuera, and we gained entry into the session border controller and security gateway market with Netrake, but we also gained good people.

In the last couple of months we have integrated these teams and given their management more responsibility.

As a result we have the structure and people in place to grow the Company, especially in selling to service providers.

We also stated previously that the Netrake team that recently joined AudioCodes had a small sales infrastructure.

So, we are very pleased with how the sales and marketing teams within AudioCodes are collaborating.

And more importantly, our customer base is showing interest and impressed with our SPC scalability and functionality.

The sales cycle on contra revenue does take a while and we're making good progress.

This should be felt in 2007.

We believe that there are nice market trends that will serve AudioCodes.

First, we continue to see progress in UMA and perhaps more importantly, we have started to see service providers deploy EVDO Rev. A, CDMA network.

As an example, Sprint recently stated that they plan to cover 40m people with Rev. A by the end of this year.

While Voice over IP over Rev. A has not yet started, this is a significant step in that direction.

We are also seeing progress with WiMAX, although we expect it to be further out than Rev. A.

We believe these trends are very positive for AudioCodes in the sense it will mean more voice compression, more complex types of voice compression and other coder features like policy management that will play to our strength and our competitive advantage in transcoding over other gateway and media server vendors.

We have also secured another high density gateway win at a Tier I service provider.

This is one of a number of recent wins where we front an application with a media gateway either support CDM customers obviously not by peak service, or support Voice over IP customers in the access CDM server.

This is an important place to be in networks.

And service providers want customers to have access to a combination of SIP and legacy applications for many years into the future.

We are also seeing that that’s a great [comfort take hold] in more and more networks.

For example, we announced more interoperability partnerships and certification for MP, Mediant 1000 and 2000 products.

These inter-ops with application TP expanders enables ourselves and the service provider in enterprise As an example, broad [inaudible] and AudioCodes are already deployed in service provider networks.

We are seeing some more progress from our certification with Nortel CMPK and CS1K servers.

In addition, value added resellers of ours are asking for and deploying our products based on recent announcements to the buyer, as well as the previously discussed Microsoft Vista.

An immediate [server], we are seeing healthy RFC activity for MRF.

MRF are media resource functions in IMS.

We do believe that IMS will be rolled out in stages.

However, given the activity with the MRF, we do see service providers trying to collect their platform, so enabling services and transcoding.

Indeed, in collaboration with an NAD we did secure a significant media server win to provide transcoding functionality to a Tier I service provider that will deploy in the second half of 2007.

Our Blades business continues to grab market share by benefiting from the transition of CDM platforms to IP solutions and from proprietary APIs to SIPs.

We believe that the blade market will increasingly want open solutions and this will benefit AudioCodes.

As a result of these successes and trends, we continue to invest significantly in transcoding and SIPs for our blades, media servers, media gateways and session border controllers.

This will position us well to enable device network server convergence per service provider.

Indeed, service providers are gaining appreciation for the value that AudioCodes offers and we find ourselves not only selling, but helping these service providers by telling them the best way to deploy or at least start to evolve in IMS networks.

So in summary, we are making progress with the integration of the Nuera network acquisition.

We continue to execute in winning and serving service providers.

And we have more inter-op partners and more effective channels.

We are also becoming a more important enabler of device network servers and securities convergence, which will enable IMS and, more importantly, enable service providers to increase revenue and profitability.

We believe that the progress we made in the third quarter will fuel our growth going forward.

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

[OPERATOR INSTRUCTIONS].

Your first question comes from Ted Jackson with Cantor Fitzgerald.

Morning.

Morning Ted.

I have a few questions for you.

First of all if, Nachum, you could provide an outlook relative to what the amortization level for the Company will be in the fourth quarter and on a quarterly basis going forward, and then a breakdown of that between cost of goods and OpEX?

I take it you are referring to the amortization related to the new acquisitions.

So, it will probably be very similar to what we had on the last quarter.

A little bit more than that, which is the inclusion of Netrake on third quarter.

Right.

So, what would that take it up to?

The numbers -- and again, the numbers from the press release, which were total $600,000 in COGS and close to $300,000 in selling and marketing.

Secondly, I'm just jumping over to the fourth quarter guidance and some of your comments relative to Nuera and Netrake, Shabtai.

The guidance is modestly below the consensus expectation.

It sounds like you're -- organically things are going fine, but that you've seen some slippage in business coming out of some of the acquisitions.

I was wondering if you could take a little bit of time and talk about what's going on with the acquisitions and where the issues might be, and what you've done to resolve them.

Simply, Netrake we need some time in order to ramp the business up.

The business has been taking the present point where the product has been too expensive and the sales process and infrastructure was not good enough.

We believe that that will pick up very quickly.

As a matter of fact, we're doing our planning for 2007 right now and from what we have in hand we expect in 2007 a very substantial increase from what we have witnessed.

It doesn't mean that in the third quarter 2006, already as I've mentioned in the fourth quarter of this year we will more than double what we had in the first quarter.

With Nuera we are refocusing our efforts in several areas.

We are combining teams.

We are basically combining efforts in North America, trying to access service providers.

We believe that process of getting the teams to be trained to go to the new customer base will take a bit more time.

All in all, Nuera has been fully flat in terms of profit or loss, so we did not have any surprises on that front.

It was simply lower revenue.

Going forward we don't see any problem here.

So, all in all, the lower side was at Netrake.

We believe that will be picked up very nicely going forward.

Just jumping over to Netrake because it's probably the lesser of the -- lesser understood of the two acquisitions.

T-Mobile announced a week or two ago their deployment of UMA services within North America.

And my understanding is that as part of that service offering that they actually are using the Netrake as a security gateway.

And what I was hoping you might be able to do is take us through an example how and where the security gateway is deployed and the growth model, if you would, in terms of how revenue for that product might grow within an account once you had that initial feature.

So, Ted, this is Ben.

There really isn't a rule of thumb because we're seeing service providers approach things differently.

Some are more aggressive in initial build out.

And others start slower and then build as they add subscribers.

So, it varies and I can't really give too much on the details of particular service providers.

That's just how they deal with it.

So it's a -- I would say that there are situations where they -- it's rolled out and built out in many cities at the same time and in other's they go city by city.

When you go through a sales process with a carrier on the UMA front, when you're in there say working through Motorola as it relates to the Media Gateway, do you also have an opportunity to sell the Security Gateway in that same sales process or is it handled by a different organization within the carrier generally?

Typically, it's the same organization and typically even the same people.

So -- and then lastly, just on Netrake, when you look at the, I wouldn't call it a rebound, but the healthy improvement in performance in the next quarter, is that UMA driven?

No, it's a mixture of both.

SBC and UMA as well.

Okay.

Thanks.

Your next question comes from Marcus Kupferschmidt with Lehman Brothers.

Hi everyone.

Hi, Marcus.

Hi, Marcus.

I've got a couple of questions.

Could you firstly just clarify what was your specific guidance for the fourth quarter sales?

You said up 5% year over year.

I couldn't hear it.

In terms of the guidance we said above 5% growth quarter over quarter.

Thank you.

Fourth quarter revenues over third quarter revenues of 2006.

Can you help us understand within this guidance here for fourth quarter, what do you assume Netrake and Nuera revenues are for the second half of 2006?

Marcus, as Shabtai mentioned earlier in the call, we do not plan to break down the revenues according to each company meaning AudioCodes, Netrake and Nuera.

We consider all three as one company and the guidance is for all three.

But when you made the acquisitions you told us the two together would be around $12.5m in the second half of the year and we want to be able to think about next year and now the question's why is the acquisitions contributing so much less than we thought.

Why should we have confidence in the growth going forward if the level of sales that you bought it at were sustainable?

How do we know that wasn't accelerated into the channel?

I think we need to kind of understand what's going on here.

I think we have said that clearly, Marcus, but let me repeat that.

The organic [growth] has grown a very substantive [28%] on a quarter by quarter basis.

So here is a good basic growth.

With the Netrake business, as I told you, the first quarter has been [a little down].

The first quarter of 2006 has been very weak.

We expect growth already in the fourth quarter of 2006 and based on this ability into accounts we already have and based on outlines for 2007, we believe that next year we will more than double 2006 revenues.

That's on Netrake.

On Nuera, we also predict that we will continue to grow.

And right now we do predict that we will grow more than 25%.

The numbers in the first quarter suggests lower revenues for Netrake and less than expected revenues on Nuera, but we don't see that as a continuing phenomena going forward.

I should mention also that, due to the full shift [1] project we are doing one of our customer above $1m worth of revenue has been deferred in the fourth quarter.

That may explain some of what you feel as disappointment.

I'm sorry, it's being deferred into the first quarter?

Into the fourth quarter.

Fourth, okay.

Well, let me be clear, you talk about Nuera could grow over 45% in 2007?

I didn't say 45%, Marcus.

I said 25%.

25%.

I'm sorry, I'm having trouble hearing with this phone connection.

Okay.

Greater than 25%.

What would that revenue base be in '06 that we should use for a comparison?

I've mentioned in one of our previous call that that base has been $16m.

Right.

But isn't it something less than that now for -- given fourth -- or are you saying 4Q should be about the same as you would have expected originally for Nuera?

Because the plan is Q3 is a little bit light so I'm wondering if this base for '06 now is noticeably less than what you thought it was.

Well, just to again -- to say again what we said originally a few months ago.

On the Nuera business we expected -- for the second half of 2006 we expect a $10m of revenues and $0.2 in profit.

Now we believe that will be on the lower side of that revenue, below $10m for the second half and we will now do the $0.2 of profit this year.

But it's nothing that you will take substantially.

And, just to further drill into some of the delays, is reorganizing your sales force with Nuera and your U.S. sales force is that a proactive move or is that something you're doing because the business isn't working as well as you wanted right now?

No.

Actually it was a carefully planned step.

We felt that maintaining and having two sales team with both directing service providers doesn't make sense.

We already had a meeting that was planned about a month ago.

That meeting has one team focusing on the whole service provider in North America and therefore I think that should be perceived as a way to increase revenues and profitability going forward just to capitalize on what we did on the Blades business our last quarter.

If you remember, our Blades business dipped in third quarter because we didn't add much focus.

We have reorganized the Blades sales team and in this third quarter we have already showed recovery.

We believe that as we have unified our service providers, North American sales team, we will increased revenues.

Okay, and I guess -- one last question just to clarify it.

So the key reasons why Nuera is less than you wanted for the second half is because of what specifically?

Well, again I -- it's hard for me to count specific reasons.

All I'm telling you is that revenues came lower than expected.

There are many reasons.

One of which I mentioned which is deferring $1m of revenue and that's it.

There's no other reason for that.

But that's just going from 3Q to 4Q, that doesn't change the sum in the second half.

So please help us.

Marcus I'm sorry but it seems like I'm losing you.

If it's okay with you we'll defer that to an offline session with our Chief Financial Officer and I think we can check numbers.

But let's go to other issues.

Right.

That's fine for me now, thanks.

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

Hey guys.

Shabtai, with regards to next year, you expect the acquisitions -- or Netrake, I'm sorry, specifically to be break even by the end of the year?

Is that still the goal or do you think that that will change as well?

No.

That is indeed the goal.

Okay.

And will you need to invest?

You mentioned that the product is very expensive, what needs to change it?

What do you need to do in order to move it down the price tag so you can get more traction in the market place with it?

Well, basically, we have two products selling currently.

We have a new product coming up.

It should be finished early next year, and the whole idea was to get to more density and capacities and thus lowering the costs.

That process is already in place.

It was actually much before we engaged this metric so that should be effective next year.

Early next year.

And as you look into next year, can you give us a little bit more color?

Big picture wise, are you still thinking about 30 to 40% top line growth or given the slowness in Netrake that might be below target?

Well, I think we should wait for -- based on our growth this year, and I believe that this year we will finish growing organically above 20%, we can confidentially say that we will keep that type of growth next year.

If we believe synergy that 2007 indicates the revenues will grow and we still have the additional revenues from Netrake and Nuera.

I think we should expect great growth and 20%.

And with respect to the operating expenses, Nachum, can you give us a little bit more color on how should we think about OpEx given that this quarter kind of makes up, something's happening and what would be a run rate for R&D, sales and marketing, SG&A, for the next quarter?

Without getting into the specifics I can just remind you that we will need to include metric on a full quarter.

The OpEx, the run rate is around $3m so automatically, we will need to add a little bit due to the inclusion of the full quarter.

Other than that it's standard world for AudioCodes, which is relatively something between 2 or 3%.

That's what we did in the history.

I don't see any reason for that to change going forward.

But, again, without getting into specific guidance in the results, the general trend that we can see right now.

Is that then the trend that you should also think about for '07 if we see operating expenses of around 2 or 3% quarter over quarter?

It's too early and without giving any guidance on the revenue side I think it will -- it won't make sense to talk about the OpEx.

Once, when we talk about '07, I can assure that we will discuss OpEx then.

Shabtai, how do you think about expanding your -- where do you think you need to invest in '07?

You have all the pieces in place Gateways, media server, session border controller.

Where are you investing your R&D right now and how should we think about where you're going to add headcount next year?

Well basically we have two key areas.

As you have mentioned correctly, we do have the position in the market, we do have the right products.

And the first priority for us is increasing coverage, adding more sales engineers, adding more customer facing personnel.

And with new service providers entering the deployment of voice over IP we believe that this should pay back very nicely.

The other area is really not developing new products.

It's really working closely with our customers.

Each service provider, be it the largest one we just mentioned yesterday, a new one FastWeb in Italy which is the fastest growing IP services company.

We have [stands] with those customers.

Each such design win requires [personalization] adding features, training and supporting them in the initial phase of installation.

So we believe that much of the R&D would be towards supporting our customers, adding features and no need for us to come up with new products.

We do believe that some of our products and that is recognized by the NATs, by companies such as Nortel and others, are essentially on the state of the art for the product in February and we believe that will show up very nicely in 2007.

Okay.

Good luck, guys.

Sure.

Thanks.

Your next question comes from Eric Kainer with ThinkEquity.

Thank you very much for taking my call.

Just a question that really came out of Sonus Networks call last night.

They mentioned specifically that they're hearing from operators that over the longer term they're really looking for an integrated network border switch as opposed to a standalone capability.

I wonder if you could address that.

Sure.

We basically joined that opinion.

We believe that going forward.

But that's nothing more.

That's probably more two or three years down the road.

There will be a need to integrate the Media Gateway functionality with a session border control functionality.

We do talk about connecting networks and while -- and still today we are talking about connecting the PSP into IP.

Session border control will connect IP networks between themselves.

So it's only natural that we will see the session border control being integrated with Media Gateway.

We will obviously need to integrate the Media server.

I think this is why we have an advantage over all other players in the market in having all those three functionalities.

We believe that Next Generation products for full periods from today will be a combination of all those three elements and we believe we will be among the leaders in that market.

Excellent.

If we say that then that's likely to be two/three years out, which is really when the market starts coming, what do you need to do over the next year or so, if anything, to plan for that evolution?

Well, we have already started that.

We basically architecting on the Next Gen. products.

We're looking into the features it needs to grow.

We will be looking into the different requirements that we believe will require at that time.

And already, by the way, we are working on developing the key elements of that product, which is the Blades.

Any gateway, any media server is based primarily on Blades.

The Blades for the Next Gen. is already in development.

Actually, I can tell you that it will be -- the first generation of that will be ready next year.

So coming up with the Next Gen. products we believe we will be able to get this in about two years from today.

Excellent.

Good luck.

Thank you.

Sure.

Your next question comes from Munjal Shah with Piper Jaffray.

Hey guys.

This is Munjal for Troy Jensen.

A couple of questions.

One on the organic growth.

Should we expect that to continue at the current pace going into Q4?

Is that a fair assumption?

And secondly, on the Nuera front, was that just a market related where carriers slowed down a little bit or was there any kind of market share loss?

Well, on the organic front, we do believe that we should be able to continue to exhibit growth that's above 5% quarter over quarter.

As a matter of fact, again, in 2007 if our forecasts will now happen, we believe that we may be able to out growth that path on the networking business.

With Nuera I think it's simply that while cable is close to growth, we have not seen that growth starting yet.

We have not seen any design losses or any other factor that would affect the acceleration of revenue growth.

So we do believe that the cable market will pick up.

We simply don't know to put a figure on what exact date that will happen or quarter -- in this quarter, we have not seen this quarter that kind of growth but we believe that in coming year, in 2007, we will see pick up there.

Thank you, guys.

Sure.

Your next question comes from Frank Marsala with First Albany.

Good morning.

How you doing?

Hi.

Hi.

I have just two questions.

Number one, on -- a lot of vibes about video, it seems to be a pretty hot topic right now.

How should we think about the delivery of new applications in video over wire and wireless as it relates to your products -- your products in your company?

And then the second question is just on some OEMs -- the OEMs you're consolidating, there's some consolidation going on.

Are you seeing any disruption from that?

Some other companies have touched up that.

I just want to know what you might be seeing.

Thanks.

Okay, let me touch first the consolidation part of this.

We have not seen any change or from any of our customers.

Consolidation will affect winning large network projects and bids, but still trying to fulfill those bids it means terms of different business equipment.

And as other analysts do expect, there's room for less operate players that will provide and focus on certain pieces of equipment.

Our intention, as we have mentioned, is to keep focusing on the Media Gateways which I just mentioned that on the low media density combined market segments we are in fifth place.

We intend to grow there and we are leaders in the media tools business and we intend to become a very strong player in [inaudible] too.

So being best of Brit player in the new emerging consolidated market means better margins and good cooperation with the largest [inaudible] material.

Okay.

Regarding video, we will announce shortly.

Actually our first quarter, we will announce product in that phase.

We have been working on that quietly for more than 12 months.

We already have worked with some of our clients on offering video capabilities.

That is going to be integrated into our products and you should expect announcements and articles on the video front early next year.

And this would be just for telco and cable world where you'd be offering the product?

Yes.

That functionality will be carrier grade and will be offered within our current products.

Okay.

Thanks very much.

Sure.

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Thank you very much.

This concludes today's conference call.

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