AudioCodes Ltd (AUDC) 2006 Q4 法說會逐字稿

Good morning. My name is Umiki and I will be your conference operator today. At this time I would like to welcome everyone to the AudioCodes fourth quarter 2006 earnings call. [OPERATOR INSTRUCTIONS]. Erik Knettel, you may begin your conference.

Thank you. I would like to welcome everyone to the AudioCodes fourth quarter and full year 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 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, possible disruption from acquisitions, the ability of AudioCodes to successfully integrate the products and operations of acquired companies into AudioCodes' business and other factors related and detailed in AudioCodes' filings with the Securities and Exchange Commission. AudioCodes assumes no obligation to update that information.

Joining us 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 everybody to our fourth quarter 2006 conference call. With me this morning are Nachum Falek, Vice President of Finance and Chief Financial Officer and Ben Rabinowitz, Vice President and General Manager of Session Border Controllers and Media Server Business Lines.

Nachum will start off by presenting a financial overview of the quarter. I will then touch shortly on the highlights and key achievements that we have been able to achieve in 2006, and will further discuss objectives and plans for 2007. Ben will then discuss the fourth quarter 2006 market trends and some of the key achievements in the quarter. We will then turn into the Q&A session.

Nachum?

Thank you, Shabtai, and good morning everyone. Before beginning, I would like to note that the following discussion will include GAAP numbers and pro forma numbers. Our fourth quarter pro forma results reflect adjustments for the following two non-cash items; stock-based compensation expenses, which totaled 2.5m in the fourth quarter of 2006, and amortization expenses relating to the acquisition of Nuera and Netrake which totaled $500,000 net of taxes in the reported quarter.

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

Getting to our quarterly results. In the fourth quarter, revenues were $42.6m, which represents 6.2% increase from the last quarter. As a percentage of revenues, sales in America account for 51%, Europe 26%, Asia Pacific 13% and Israel 10%. We had one customer above 10%. Our top 15 customers accounted for 46% of our revenues, compared to 47% in the previous quarter.

In terms of revenues by business group in the fourth quarter, our Technology business group accounted for 42% of revenues, compared to 48% in the previous quarter. And our Networking business group accounted for 58% of revenues, compared to 52% in the previous quarter.

In the fourth quarter of 2006, pro forma gross margin was 59.5% compared to last quarter's pro forma gross margin of 59.9%. On a GAAP basis, gross margin was 57.5%.

Our total pro forma operating expenses increased from the third quarter level to approximately $22m, primarily due to the consolidation of Network results over the full quarter. On a GAAP basis, operating expenses for the fourth quarter were $24.5m.

As of the end of the year, we had a total of 701 employees, which is unchanged from the third quarter.

Pro forma net income for the fourth quarter was $3.6m, or $0.08 per share. The GAAP net income for the fourth quarter was $700,000, or $0.02 per share. Short-term and long-term cash balances were $134m compared to $136m last quarter. The decrease in cash balances is attributed mainly to a negative cash flow from investing activities.

DSO came in at 65 days compared to last quarter's DSO of 59 days.

Our guidance for the first quarter is as follows. Based on our visibility at this time, we forecast revenues for the first quarter to continue to grow modestly up to a level of 5% compared to the revenues in the fourth quarter of 2006. This guidance is based on an initial backlog of above 45%. We anticipate GAAP net income per share of $0.02 in the first quarter of 2007 based on an estimated 45m shares outstanding.

As a result of the application of FAS 123R, we anticipate that our non-cash stock based compensation expenses will be around $3m in the first quarter of 2007. 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 first quarter of 2007.

Excluding the effect of stock based compensation expenses and amortization of intangible assets, we anticipate our non-GAAP net income per share to be in the range of $0.08 to $0.09 based on an estimated 51m shares outstanding.

On an annual basis, we forecast revenues for 2007 to be in the range of 1.85 to $1.90m, and non-GAAP income per share of $0.45 to $0.48. We also estimate our GAAP earnings per share to be in the range of $0.15 to $0.18.

Moving to the acquisition of CTI, a few financial aspects of the deal are as follows. The purchase price consists of $10m; $5m in cash to be paid by the end of February 2007 and $5m in cash payable by February 2008. Following the transaction, CTI will become A wholly-owned subsidiary of AudioCodes. In terms of headcount, CTI have 33 employees.

We will account for the acquisition as a purchase transaction. We consolidate CTI's financial results starting from the date of the closing. The transaction has been approved by the Board of Directors of both companies and by the stockholders of CTI. The acquisition is expected to close during the first quarter of 2007 and is subject to usual and customary conditions.

CTI had revenues of approximately $1m in 2005 and 2006. Going forward, we believe that revenues will increase to the level of $2m during 2007 on an annual basis.

As for pro forma gross margin, CTI currently are at 80%, and pro forma operating expenses are around 800,000 per quarter and are similar to AudioCodes' structure in terms of allocation between R&D, sales and marketing and G&A. We expect this transaction to break even in terms of earnings by the end of 2007, on a non-GAAP basis, excluding the effect of stock based compensation expenses and amortization of intangible assets related to the acquisition.

Although the final closing date is yet to be determined, the impact of the acquisition on the first quarter results should not change the guidance I previously provided. This outlook may change as the integration progresses and the acquisition accounting is finalized and does not include the effect of stock based compensation expenses and amortization of intangible assets related to the acquisition.

I will now transfer the call to Shabtai.

Thank you, Nachum. We are very pleased to report another strong fourth quarter and record results for the full year 2006. This has been our 21 consecutive quarter of strong revenues, which reflects more than five consecutive years of growth in our business. All in all, our business in 2006 grew more than 27% compared to 2005.

2006 has been very successful, and [quite good] in building a better and stronger position in our Networking business. The Networking business has been growing in 2006 by 40%. The Technology business grew in 2006 close to 15%.

We executed well on our service provider initiatives. Direct sales to service providers grew more than 40% with EMEA, mainly Europe and Latin America, leading this trend.

Most important was that in 2006 we have extended our value to service providers by adding [a few] new growth engines to the Company. We have made two acquisitions. First was Nuera acquisition where we added [several] Media Gateways to our offering. We then acquired Netrake which added Session Border Controller Security Gateways to our offering. That's allowing us to combine offering of IP [trunks] next to and [PSC] and [IP trunks].

We did announce lately, in the last 10 days, two more capability additions to our technologies. One is we have announced media capabilities. We have been working on that for the last 18 months. But we are going to integrate and introduce that capability into the market already in the next coming months. We will be coming out with the unified media service platform, combining the ability to provide audio and video services. And finally we have announced a few days ago, and Nachum provided details about the integration of CTI Squared, an Israeli technology leader in the area of unified messaging and advanced multimedia applications.

Finally, we have regained momentum in 2006 by expanding our reach into the enterprise space. Most notable are the Microsoft collaboration on unified messaging. Later in the year we believe we will be part of the unified communication initiative by Microsoft.

But then we like to say that we have won a very important OEM account on IP-BPX. We will be deploying more equipment on a global basis.

Now for some of the key financial highlights of 2006. As we have said, revenue grew 27%, close to $150 m. Earnings have been growing even faster than that. If I put aside our investment in Netrake and Nuera, organic earnings grew more than 50%. Last year earnings came to around [$13.4m]. This year, organically, putting aside the investment in Netrake and Nuera, our earnings would be about [$20m].

Investment in the future in the areas of cable and Session Border Controller [reduced] the earnings to around 25%. We've been able to maintain high gross margin, about 59%, and we kept our operating income around [10%], again reflecting continued investment in the acquired businesses and investing in future growth engines.

What [inaudible] progress made in 2006 is as follows? In 2006, we started, for the first time, to report our sales in the Media Gateway space. Those are sales -- those are numbers that have been integrated by Synergy Research. According to Synergy Research reported and published in the third quarter of 2006, we've been focusing substantially more in the low and mid domestic markets.

Most notable mentioning is our success and growth of the [medium density] Media Gateway market. We have almost doubled our presence there. According to Synergy we have been able to grow our market share from [3.2%] in the first quarter of 2005, to 9.5% in the third quarter of 2005, ranking number five in that category.

In the fourth quarter of 2006, we have increased our shipments beyond those numbers by about [50%]. I believe that the new numbers from Synergy will be available in a matter of months from today. So we've been very effective, capturing more market share of the Media Gateway market. We are going to introduce shortly some competitive new products in the Media [Security] area, and thus expect further growth in that area.

On the CT side, we have an established and growing CT business. According to Synergy again, we became third in sales of low-density gateway for service providers. And second in the ranking in selling low-density TPE gateways to the enterprise market. Our leading products, the Mediant 1000, is generating a lot of success with very clear [inaudible] codes and rich interfaces, and we're gaining a lot of success in the market with that product.

Guiding for 2007, our vision is that we should be able to continue growth [take up], between 25 and 30% on an annual basis for the next two years. If we are able to do that, we should grow -- should be able to grow the Company to be a $300 or $400m Company and to become a top growth IP [inaudible].

Some new areas for us in 2007. In the media server market we have added two large [NEP] partners. We have announced a few steps designed to [alternate] our presence and effectiveness in that area. The acquisition of CTI Squared will allow us to offer an application-capable platform. That will allow our customers to provide basically to be able to respond to revenue-generating applications.

We have added media in the area of conferencing, messaging, multimedia messaging, trans-coding of images, [translating] of media [streams]. We believe that we should be able to enjoy initial success in the market in 2007 and then grow in the coming years in the media space.

Further investments to that space, we have been investing substantially in Nuera and [Netrake] investments [usually by] other companies. We have invested in [wideband] audio coding that will allow us to offer substantially higher quality product communications on an IT network. We have a very rich [inaudible]. I believe we are leading that space substantially over any other competition in the market.

We will be investing substantially for [transcoding]. Basically the ability to connect different IP networks to themselves, connect cable to wireless connected through CDMA and GSM, the next [various] quarters, we are today in the best position to be a leader in this [transcoding] market.

So we enter 2007 with a larger and much more mature organization. We have a very large service provider customer base that's growing through [substantially] 2007. Just to say again that we have improved in our service to service providers by more than [30%] in 2006. We have grown our product portfolio. We have a larger, more experienced sales force covering more territories. We have stronger brand, stronger industry position. That's the [position] that consolidation [inaudible]some consolidation on the market. And we've got much more efficient cost structure as well.

We believe that the market also provides us with a lot of opportunities to grow. We, according to various market sources, carrier Voice over IP is projected to grow 25% annually in each of the next five years. We do see increased space of deployment of Voice over IP networks. We see more networks and we see larger extended [installments].

All in all, in 2006, the Voice over IP service provider market, Media Gateways, especially the Media Gateway markets, was about 1.2b, out of which we targeted only a third of the low and mid density. We are going to extend our offering also into the low end of the high-density market. All in all, the market has been about [$440m] in 2006. We believe that in 2007, we are looking into substantially larger opportunities, about $600m. Let's not forget that each time a Voice over IP network is being deployed, about 50% of the budget of that network relates to Media Gateways.

You have seen, according to the numbers by Synergy, that AudioCodes has been growing faster than the market and gaining market share. The catalyst for our ability to grow would be the growth in [voice over] broadband, we see fiber taking over DSL cables, deployed in larger numbers. We see WiFi becoming more ubiquitous. WiMAX is coming. All of those presents to us a lot of opportunities in bringing such type of [inaudible] broadband, into the market.

We do see continued investment in IMS and fixed/mobile convergence. Again, we do play in those fields. And we see additional media capabilities. We believe that will be in large opportunities to grow.

And I'll just reiterate what Nachum has been guiding previously, looking at 2007 we plan on increasing growth in our revenues and profit. We currently plan on growing revenues about 25% in 2007. And we believe that by being able to control our expenses and CapEx we believe that we should see [growth rate of] OpEx at around 15 to 20%.

And with that, I conclude my introductions. Ben?

Thanks Shabtai. And good morning to everyone on the call. Today I'll first review our CTI Squared acquisition, give an update on our partnership with Microsoft, and then discuss our video announcement that we released yesterday. First, some background on our CTI Squared acquisition.

CTI Squared is based in Israel and sells its InTouch platform which provides enhanced application, such as messaging to fixed, broadband and mobile service providers. The InTouch platform is a proven scalable platform. For example, [DESAT] in Israel uses CTI Squared to provide messaging to its entire subscriber base.

In addition, FASTWEB, the second largest fixed line operator in Italy, is providing a triple play offering and uses CTI Squared to deploy messaging and enables consumers and business subscribers to view and respond to messages via landline phones, mobile devices, web browser or their TV. FASTWEB is also an example where a combined AudioCodes and CTI Squared offering [led to both] application and Media Server sales.

In our due diligence of CTI Squared, we were particularly impressed with the R&D team and the capabilities of the InTouch platform. Moreover, in addition to its messaging expertise, CTI Squared has an applications team, with a strong competency in converging multiple services on many devices and we will discuss more specifics in the future as we progress with CTI Squared.

At the same time, CTI Squared has struggled due to a lack of sales and marketing infrastructure and financial weakness. Obviously, we can help in these areas. And, from our perspective, this is similar to the situation that we found at Netrake. We are making good progress with Netrake and expect to do the same with CTI Squared.

We also believe this acquisition will open more doors and create more opportunities for us, and service providers want to discuss applications and solutions that have a direct impact on their revenue and churn rate. We are already seeing more momentum in our MSO and Wireless Carrier business. In addition, with this acquisition we will be able to offer more bundled solutions and this will obviously expand the potentials of our Media Server business.

Now I'll move to our Microsoft partnership and discuss unified messaging for enterprises. As we discussed on previous calls, as part of Exchange 2007 offering, Microsoft is now in the unified messaging market. But to enter this market, the Microsoft unified messaging solution needs to connect to legacy PBXs and AudioCodes enables this connectivity with the media and media [pack series of] gateways.

In terms of go-to-market, Exchange 2007 is sold to Microsoft distribution channels such as VARs and systems integrators around the world. We are optimistic since the incremental cost of adding unified messaging, including the license and the cost of the gateway, is reasonable in comparison to the overall price of Exchange 2007.

In addition, we are also partnering with Microsoft on its unified communication server program. In a typical unified communications deployment, there is a need for a gateway to allow connectivity to the PSBN. And, again, AudioCodes is providing the connectivity with a mixture of digital and analogue gateways that are FXS, FXO and ISDN-capable.

We also announced yesterday that we support video applications running on our Media Server or, to use an IMS term, our MRF, or media resource function. Our Media Server will enable service providers the ability to offer services such as video conferencing, video messaging and downloading of video clips and content. It will also enable person-to-person and server-to-person video streaming of content among other potential applications.

We believe the timing is right to step into this market from a device, network and content standpoint. First, nearly 5% of handsets sold today are already video-capable. And we believe that the recent Apple announcement of iPhones will accelerate the realization of easy-to-use and imaginative ways to use video and handsets and then monetize it.

Moreover, to build out a fixed mobile convergence with a support for WiFi, combined with expected DVD, Rev A, UMTS and WiMAX advancement will enable more video applications. From a content perspective, and as just one example, Google is also getting [into games] by enabling YouTube content to be viewed on mobile devices.

We don't believe this will be much of a 2007 revenue story for us, but we also believe the timing is right for product introduction. And service providers and network equipment providers are only now putting in place plans to move ahead and trial IP-based video applications, running on MRF. We obviously bring a lot of strength and leadership on the voice side, and our customers appreciate that we now can couple voice with video.

Moreover, given AudioCodes' strong media processing and, in particular, our high [inaudible] trans-coding heritage, we have the right competencies to become a leader in trans-coding and translating video to many types of end devices over cellular, WiFi and fixed network. This is another step in pushing AudioCodes beyond just Voice over IP, but also Video over IP. Moreover, when combined with our other products, we can now provide security, connectivity and media processing for Voice and Video over IP.

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

[OPERATOR INSTRUCTIONS]. Your first question comes from Ittai Kidron with CIBC World Markets.

Hi guys. A few questions from me. First, Shabtai, can you give us a little bit of an update on Nuera and Netrake specifically in the previous quarter? You mentioned they were off to a slow start. Has that been fixed and now you see the business moving on track in those two companies?

So, yes. Nuera, we basically stabilized the operation and the activity. We have been gaining momentum in the Asia Pacific operations. We have seen more accounts. We increased sales. We see some more, hopefully, [new signs] in North America. We have looked at synergies. We have taken care of that. All in all, we see Nuera of the organization or the organization, that is based in San Diego, very important to the Company, we're putting more initiatives with Microsoft and [fuel] more activity in North America.

Netrake has enjoyed even greater success. Revenues in the fourth quarter climbed substantially, a few times that of the third quarter. We now have better control over the product strategy. We are enjoying a lot of leads and interest from many of our sales force. The fact that we have a sales force that's covering our global markets and have access to those provided on a global basis basically allows them to represent the Netrake products to a much more -- or a larger customer base.

So we have been enjoying quite an increase in our activities in that area. And we are very optimistic regarding Netrake operation in 2007.

Okay. Very good. And Nachum, just a clarification. The EPS guidance you provided for the year on a pro forma basis, $0.45 to $0.48, CTI seems to be a dilutive acquisition. Does your guidance for the year take that into account, or is that excluding CTI?

Hi, Ittai. Yes, the $0.45 to $0.48 takes into account the consolidation of CTI on a non-GAAP basis.

Okay. And Shabtai, did you mention at the end of your speech that you expect OpEx to grow 15 to 20% year over year? Is that -- did I get that right?

Yes, that is the current plan.

Okay. Because it seems like this is the second quarter where your headcount is not increasing. If I remember correctly, CTI has around 30 employees. So are you going to re-accelerate again hiring? What's your plans with regards to that? Why has there been a pause in your employee headcount ramp?

It's a good question. Actually, in the last quarter, we have been investing substantially in 2005 and 2006 in increasing our sales force in order to be able to go after the service provider on a global basis. That process came to saturation by the end of 2006. So, therefore, we have not seen substantial increases in manpower in the fourth quarter.

We've now added about 30 employees from CTI. And that's the main increase. We do believe that we really have the infrastructure in place. We do have the R&D for us in place. All additions in various things will be incremental. Therefore, if we continue to grow at 25 to 30% on the revenue side while additional manpower will be incremental, we believe that earnings will accelerate.

Okay. And lastly with regards to Microsoft, can you tell us how your relationship with Nortel, which also announced a big important relationship with Microsoft, is involved in this, if at all?

Yes. It's Ben. The relationship is not linked. We provide the gateways that provide connectivity. And Nortel and Microsoft have a relationship that has a lot to do with services. And they can certainly speak to that. But our relationships are not linked.

Very good. Good luck guys.

Thank you.

Your next question comes from Vivek Arya with Merrill Lynch.

Thank you. Shabtai, your Company is doing very well in the networking segment, but the technology segment seems to be a drag on the overall growth. Can you give us a sense as to what you'll do to revive growth in that because even though people look at all your quarters, the [pure play] on Voice over IP, your technology segment, it's almost 40% of sales, is growing well at half the rate of the overall Voice over IP market. So how do you revive growth in that segment? And do you think -- are there any synergies to be in that segment at all?

Shabtai Adlersberg Hi. So, Vivek, first of all one needs to acknowledge that market reality is such that networking market is very substantially better than technology market. Give you a good reason for that was five, six years ago, majority of Voice over IP was products from gateways that were built around technology such as [blade]. And then other companies used that to bring a complete product.

Nowadays, we're a few years into the evolution, and we're a larger Company regaining momentum. A lot of products are being built inside the Company. Therefore, we see networking business come in full force while we see technology and [blade sales], to a certain degree, are a lower rate of expansion. So if technology market grows only 15% a year, that's as much as one can do.

We do believe that we are capturing market share from other players. So we are gaining more partnerships with industry leaders. We are in certain discussion with companies leading the market with [total] products. We believe that we have, today, the best [blade] that we can equip their server to respond to requirements for applications in Voice over IP.

So, all in all, we are doing everything we can. But there are limitations to the growth which are imposed by the overall market.

Okay. As you look at, Shabtai, the mix in Media Gateways, obviously the high-density segment is growing the fastest. But as AudioCodes tries to grow in that segment you are bound to compete more with the NEPs that you work with. So how do you balance that trade off there?

Well, essentially in 2006, we are in a transition. I can tell you that while we do cooperate with many OEMs on the Media Server side, whereas these companies do not have adequate products, on the Media Gateways it is common that we come with our own equipment directly to the customers. We see those partners offering their equipment. Those are, I would say, healthy competition situations.

So nobody views us as a competitor that could substantially be a threat to them. So we're really not feeling a lot of push up because of that. So a lot of synergy and cooperation of the Media Server and then healthy competition of the Media Gateway. We do believe, though, that working [inaudible] with one or two NEPs will allow us to work with them and create larger channel into the market.

Okay. And just the last question. As we look at 2007, how should we think about the organic growth versus what you have from acquisition? I'm sorry if you said that before in the call. I didn't catch it.

Right, so AudioCodes grew in 2006 organically about 20%. We believe that we should be able to repeat at least that level of growth in 2007.

And, just the last one. What tax rate function should we use, 2007 and perhaps also for 2008, if you have that kind of visibility now?

Yes, the estimate right now is it should stay at the current level, meaning between 5 to 10%.

Okay. Excellent. Thank you.

Sure.

Your next question comes from Rami Rosen with Oscar Gruss.

Thank you. First question relates to the CTI Squared acquisition. Do you need to make any adjustment to the [Border] and, if so, how long do you expect that to last?

Sure. This is Ben. In the applications space you're always working with customers and adapting and customizing and, obviously, it's a fast-moving space, especially as IP gets into the mobility world. So we anticipate continuing change in terms of their -- their platform. The good news is they have a good foundation to build on and a strong engineering team. But we'll continue to be working on that product roadmap as we go forward.

Now, looking at the gross margin estimate for '07, I think that in the past you've mentioned that it will experience a slight reduction in the future. Is that something we should expect for during this year?

Well, targets didn't change any. And in terms of right now we are enabling to do very close to 60%. Short term, there might be a decrease into the 58% target, but I think that eventually we will get to mid-50s in couple of years. Obviously, it's just an assumption and it's too soon to really forecast exactly there the trend in gross margin.

[I see]. Now, looking into the DSO, it's -- have gone up slightly in the last two quarters actually. So what's driving that?

Yes, when we are working more closely to the service provider, obviously, we need to leverage a little bit more in terms of credit and therefore -- you see this increasing in DSO. I can only estimate that this is probably the range that we will say at this point. I mean 65, maybe a little bit more, but we won't see any other increase in DSO.

Okay. Thank you very much for now.

Thanks, Rami.

Your next question comes from Eric Kainer with ThinkEquity Partners.

Thank you very much for taking my call, folks. I -- first, I'd like to check something that I think I've heard earlier in the call. And that is that the Company could grow 45 to 50% over the next three years. Did I hear that correctly?

No, I think you got it a bit wrong. We are planning to grow between 25 and 30% on an annual basis in the next three years.

25 to 30. Okay, that's makes more sense. Okay.

And the next question that I had is really about the Netrake business, the SBC business. You mentioned that things were going very well there, and I wonder if you could give us a little color around that. Are those new deployments or are those deployments -- expanded deployments, into existing customers? I wonder if you could tell us a little bit about that?

Sure. So, it's mostly driven by new pursuits and new opportunities that we're able to close. We're also seeing, with a much stronger sales team that's covering the globe, we're just finding many good opportunities. We're also working very hard on [interops] and cost reductions and adding features. And I think by focusing R&D correctly, and focusing the sales team correctly, we're seeing some good results.

Thank you. One other question, and this is about maybe a change in the customer base. I don't know that I've ever seen you guys talk about -- talk numerically about what kinds of customers you have, at least on the service provider side. That is what percentage of it comes from cable or from wireless or what have you. I wonder if you might be able to give us a little bit of insight there? And especially how you see that changing going forward.

So we do not break it. Even according to this segment, I think that, obviously, working with [while] we got some more visibility into the cable market. But we usually don't break it down into segments of customers.

Okay. Let's see. Then the last question I have is kind of a follow-on question from an earlier question. And that is you either said or implied that Media Server sales were more of an indirect sale, that is through your NEP partners, as opposed to Media Gateway. And, obviously, the CTI acquisition should absolutely help you on the Media Server sales side.

And I'm wondering, it seems to me that application sales are maybe a little bit more typically direct sales, as opposed to through a channel. Have I got that right, and how might that affect the channel strategy specifically for the Media Server, plus the application products?

Right, so I think you -- [this is right]. Initially, and until today, we are selling Media Server platforms. Those are usually being sold primarily through our partners, NEPs, and that has been the situation until 2007. Since we are selling now directly to service providers using the channels and system integrator, we felt that this would be able to increase the attractiveness still. And, basically, the end customer, the service provider, usually looks at the complete application offered to him. So, through CTI Squared we should be able to expand our sales in a more direct fashion, and that will allow us to increase that part of the business on top of the NEP business.

Thanks. Thank you. And then the last question is also about CTI. Does CTI have any installations beyond the two that -- the two service provider installations that you've mentioned?

Yes, they do.

Okay. So are those potential opportunities for Media Server sales as we forward?

Yes, that gives us additional opportunities for Media Server sales and also, as we look at their trial activity currently, that should also help stimulate Media Server sales.

Excellent. Good luck and thank you.

Thank you.

Your next question comes from Troy Jensen with Piper Jaffray.

Okay. Thanks for taking my question. A quick one for Shabtai. If you think back, Shabtai, '06 we talked a lot about six significant design wins that you'd expected to ramp in the end of the year. Curious to know where are we on our product [life cycles] for those six. And, more importantly, what does the pipeline for the bigger design wins look like for '07?

Okay. So you can expect, Troy, they do develop in different time lines. We feel very strong on several of them in North America. Two -- two of them, one in the Media Server space, the other one in the [medium density] enterprise business developing quite nice. There's one media service provider in Europe that's already in a revenue mode for the last five or six months. And a few more -- forgive me, but I really do not recall exactly the specific [fix of] [opportunity] [that they were discussing about], so hard for me to relate to [more than a standards are really shining over the [odds].

Well then how about just the pipeline for a -- other relatively same-size deals for '07?

I'm sorry. Could you repeat that, Troy?

Do you see a -- do you see a pipeline in front of you of other significant design wins that you guys have some opportunities for?

Yes, definitely. We do have -- actually we think we have said that we won a very [important medium density] gateway accounts. We added an enterprise account, we added the Media Server, a large NEP, very successful in the wireless space that started to use our product. We definitely see opportunities coming up.

Again, the fact that the market is consolidating, there are fewer competitors out there with the larger companies focusing, or larger network and more business [of equipment origin] are just focused on [inaudible] really makes us shine. I think the fact that we went in market share from 3.2 a year ago to 9.5 last year in the [medium density] gateway shows you that our focus really paid in the long run, and we expect to improve that growth in 2007.

And one quick question for Nachum. Just to follow up on the DSO question, could you just help out -- let us know what linearity looks like down the quarters?

Usually [I] start out quarter for us talking about the fourth quarter of 2006, on an average we are doing 30, 30 and 40. That wasn't the factor that changed the DSO. It was more towards different payment terms with different customers, etc. And, as I said, I think that, basically, that's the level you should expect in the future.

Understood. Thanks and good luck in '07.

Thanks. Thank you, Troy.

Your next question comes from Marcus Kupferschmidt with Lehman Brothers.

Hello, everybody.

Hello, [Marc].

Hello, Marcus.

I wanted to ask about the financial model and ask about the revenue outlook. So, in terms of the financial model, your operating expenses were about $22m on a pro forma basis in the fourth quarter of '06. So if you keep expenses flat you'll be a little bit above your guidance for '07 operating expense growth. Is your plan to, therefore, take operating expenses down in dollars over the quarters of 2007?

[By that], Marcus, I mean we did mention that we are planning to increase OpEx since we are recruiting new people. So, basically, in terms of the model, as we mentioned, revenue should be in the range of 185 to 190 and EPS should be 45 to 48. We usually don't break it down into more details, except for saying that gross margin might decrease a little bit towards the 58% range.

Right. But operating expenses, your plan is to keep increasing expenses in dollars, you're saying? I mean I'm just working through the math here of 22m a quarter times a full-year's 88. So if you did [72m] in expenses in '06, that's growth at 21% year-on-year, so I'm just trying to put the math together.

I think that -- I mean if I've got your numbers correct, you're absolutely right. I mean take the 22, multiply by 4, increase it 15 to 20%, that's the range that you should get for '07. That's what we said in general.

Okay. And then in terms of the revenue growth, I assume we still feel that Nuera and Netrake are doing -- the revenue outlook for '07 is similar to what we thought a quarter ago, right? There's no update on that?

[Inaudible]. Yes, at the time of the acquisitions we did forecast growth but, at this point, we are working as one Company and it's very hard to break down the revenues as one sales force and they are selling product coming from all companies. So we are -- we are talking about one number for the consolidated Group.

Okay. Because my, I guess my bigger question is you -- the goal is to get the Company to grow 25 to 30% over the next couple of years. Is this going to be organic with the products that you have today, or would you achieve that 25 to 30% by adding additional products and companies that you do not have today?

Marcus, this is Shabtai. The plan right now is based on our organic growth. We cannot, then -- will not take into account any future acquisitions to support that growth.

Okay.

[We think] that the market [itself will provide us with that experience].

Okay. Because my, as I read into the numbers today, if we look at your organic growth in the business, excluding Nuera and Netrake, '07 organic revenues grow, let's call it 15%. The point is that that organic growth should materially grow over the next couple of years, or you'll just do more and more on Netrake and Nuera while keeping the growth stable on the traditional AudioCodes? How should we think about that?

So I think you got your math wrong a bit, Marcus. I've said that organic growth will be 20%. I've not said 15%, and we do believe that we should be able to sustain that. Add to that the Nuera and Netrake contribution, full year, I think that's the projection we gave of growth in 2007 of about 25%, that is realistic.

Okay. Is -- you said -- I just wanted to ask you if you can clarify 20% organic growth in '07, plus adding another whatever --

[20%]?

I'm just trying to understand how you get to 20% organic growth.

[Inaudible]. Okay, I understand where the confusion comes from. When I said 20% organic, I meant the Organization without the acquisitions we made in 2006, which are Netrake and Nuera. Okay? Maybe that will help you get the number straight. [By the way then] --

[Inaudible].

I would suggest you work it out [Netrake and Nuera].

[It] sounds good, thanks.

Okay.

Your next question comes from Irit Jakoby with Susquehanna.

Hello, everyone. So, with respect to Netrake, I think you had mentioned on the last call that you plan to have more product announcements for Netrake as the product is adjusted to maybe a lower price point than it was before?

Yes, so we continue to make progress and will be making announcements soon in terms of our product portfolio.

So will there be specific Netrake product launches in the near future?

Yes. Yes.

And then is Netrake still on track to be break even for 2007?

Yes, we mentioned that, on a quarterly basis, non-GAAP, by the end of '07, they should break even.

Okay. And I think I may have missed it. What was total headcount at the end of the year?

701.

Okay. So it basically hadn't changed [despite] -- okay, so it basically hadn't changed. And I think you mentioned that if you add it will be only incremental. Does that mean that you will only be adding in sales -- sales and marketing?

We will add new people looking into '07. Obviously, the -- around 30 guys will join us from CTI but, other than that, most of the investment is going into sales, marketing and, obviously, R&D.

In terms of sales and marketing, are there specific geographies in which you will be adding more?

Nothing specific for next year. Should be in same territories that we operate in today.

Okay. Thank you.

Thanks.

Your next question comes from Ted Jackson with Cantor Fitzgerald.

Good morning. Congratulations on the quarter.

[Thanks, Ted].

A lot of my questions have been answered, but maybe a couple on, let's call them softballs, for you. I was wondering if we could get an update relative to the UMA marketplace and your participation within it? And particular attention played to -- paid to where you're seeing traction from a geographic standpoint.

And then a discussion on IMS deployments and what you see in terms of timing and the ability of that market trend to impact your financials?

And then, lastly, maybe some color relative to China. There still seems a lot of people out there talking about China and 3G and the 2008 Olympics, and yada, yada, yada, and what kind of impact you might see from that within your business?

And that's it. Thanks.

Okay. So I'll start answering and then if I -- I didn't get every question and [you can] remind us as we go through it. The UMA market continues to move nicely for us. It was -- kind of got kicked [off] more in Europe, except for one particularly large operator in the U.S., but now we're also seeing some nice trial activity develop in Asia as well.

I think there's a general consensus that with IMS, a good two or three years out, that UMA will continue to have momentum in 2007. But I would also say [we ought to] change the terminology from UMA to fixed mobile convergence because we're also seeing some steps being made [in fixed MA world] as well that leverage some of our similar products. So we're seeing movement overall in fixed mobile convergence, and I think they will be important for us, both from a voice and video perspective.

IMS is obviously an evolutionary play, so we are getting wins, some, for example, on the Media Server for MRF. But, obviously, IMS is going to be an evolutionary story for many years, but it's not going to be a complete rip and replace. It will just move [in step].

Did I answer your questions?

And then I wanted to talk a little bit about China. And then actually I forgot to bring up just the cable market in itself. So, on China, what are your -- do you see China as being something that could provide some additional lift to sales? When and if 3G licenses are granted, could they accelerate in terms of any type of CapEx expenditures?

And then on just the cable market, clearly, if you listen to the [MSOs] in North America, they're pretty bullish about VoIP. And just kind of a little bit of a discussion on those trends as it relates to AudioCodes.

Okay. Well, the China market, obviously, is an important market for telecom and we're going to participate in it. But I don't think there's anything particular that we need to point out in terms of that would cause any particular spike in our business in the short term.

In terms of the cable market, we're seeing a -- more opportunities to sell more types of products in the cable. Before it was much more of a selling Media Gateways to go into their network. Now we're seeing them wanting to get business services. They want to add applications. They're starting to get enough IP traffic that they're interested in Session Border Controllers.

So we're definitely starting to see more of a bundle that we can offer, and we're uniquely positioned because -- [most] because of some of the legacy AudioCodes' relationships that we have but, more importantly, because of the Nuera relationships that we got as part of the acquisition. We are very close with these cable companies and they trust us and they look to us to help them as they evolve their networks. So we're quite well positioned in the MSO market.

Alright, thanks. And congrats on the quarter again.

Thanks, [Ted].

Thanks.

Your next question comes from Carter Driscoll with Stanford Group.

Good afternoon, gentlemen. Could you possibly talk about the direction, and obviously without commenting on where you may be looking, what makes sense in terms of the softswitch opportunity? And whether it would fit in with your current product portfolio? And why you may or may not move in that direction, either internally or externally?

Yes, so our strategy, to a large extent, really relies on partnership with softswitch vendors. We do recognize that we are -- we would like to lead [those fields in product categories. Be among the [faster] [inaudible] [densities] in the Media Gateway market, and Media Server and Session Border Controller.

On the other hand, we do recognize that larger companies have got larger scale and ability to deploy complete networks. Therefore, it isn't for us to partner with them. We don't think, at this stage, that investment in softswitch will allow us to continue to grow or and/or be successful in that market. So we do not have any plans in that regard.

Thanks. And then just following up on the last question, can you talk about where you see which of the products that you just mentioned, in terms of the cable opportunity, as the most near-term opportunity and how you can address that most directly? I mean, obviously, you're using your relationships through the gateway sales to engage the customer, but could you talk about whether it's business services or applications or the SBC that seems to make the most sense for now say the next two to three quarters?

I think in the next two or three quarters it's really all of the above. We have nice progress. If you want -- if an MSO wants to rollout a business service, they need to connect legacy BPXs and IP BPXs. So they need SBCs. They need Media Gateways. They need -- if they want to add some messaging application to leverage our Media Server, [whether it's a CTI Squared application].

So, however we look at it, whether it's business or consumer opportunities or fixed mobile convergence opportunities, what gives companies the value is that our whole bundle of products is appealing to them, and we expect revenues from all those product categories over the next two or three quarters.

How does it change the sales cycle in terms of -- does it lengthen it? Does it get you deeper into, obviously, different product groups and, therefore, maybe you're looking at another quarter or two? Or is it -- does it not really affect that?

So I want [to go from two perspectives]. Number one, number one is it -- your first sale is always the hardest, but then you start to develop a close relationship and you get trusted and you're able to then close opportunities quicker. On the other hand, MSOs are different in terms of how quickly and how much they invest in their various initiatives. So a lot of it will -- depends on just how [important] it is the MSO to deploy its own application, or to go forward with its own initiative. But, again, once you have a close relationship, we can move much faster and close the deal.

Okay. Thanks, gentlemen.

Our last question comes from Frank Marsala with First Albany.

Hello, guys. How are you doing? I had a couple of questions around the cable space, but most of those have been addressed. There's just one question then, on video. You're entering this market now. This had -- are there new competitors there for you? Is the competitive landscape different than what you would have in your -- in normal space with respect to video?

Yes, so the answer is it's both. We have our existing competitors that are also looking at offering an MRF and an MRF would have voice and video. But they're -- we're coming from the strength of voice, some will be entering that are coming more from the strength of video.

So, from that standpoint, we [may be seeing] one or two additional competitors. But we're actually in a good position because the revenue generator at this point is more voice, so that's the more important decision to make for a lot of the pursuits we're in. So we're in a good position.

And, just the last question, the video product then you said probably more of a revenue opportunity in a way, but when do you expect to hit the market with this? And when might we see some kind of signs of momentum in this space?

Yes, I think you'll see the signs of momentum very soon because it's, again, the important job that we have in '07 is getting design wins and getting into trials, and we're well positioned to execute on that.

Thanks very much, guys. Thanks.

[Thanks].

I will now turn the call over to Mr. Adlersberg for closing remarks.

Thank you. I'd like to thank everybody that has been on our conference call this morning, and we look forward to see you on our next conference call. Thank you very much. Goodbye.

This concludes today's AudioCodes fourth quarter 2006 earnings call. You may now disconnect.