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Operator
Greetings, and welcome to the AudioCodes first quarter 2009 conference call.
(Operator Instructions).
As a reminder, this conference is being recorded.
It is now my pleasure to introduce your host, Erik Knettel, Investor Relations for AudioCodes.
Thank you.
You may begin.
Erik Knettel - IR
Thank you, Diego.
I'd like to welcome everyone to the AudioCodes first quarter 2009 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 US 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 detailed in AudioCodes' filings with the Securities and Exchange Commission.
AudioCodes assumes no obligation to update that information.
In addition, during the call we will refer to non-GAAP net income.
We have provided a reconciliation of non-GAAP net income to our net income according to GAAP in our press release and on our website.
Joining us today from AudioCodes, we have Shabtai Adlersberg, Chairman, President and Chief Executive Officer, and Nachum Falek, Vice President Finance and Chief Financial Officer.
I would now like to turn the call over to Shabtai Adlersberg.
Mr.
Adlersberg, please go ahead.
Shabtai Adlersberg - Chairman, President and CEO
Thank you, Erik.
Good morning and good afternoon, everybody.
I would like to welcome all to our first quarter 2009 conference call.
With me this morning is Nachum Falek, Vice President of Finance and Chief Financial Officer.
Nachum will start off by presenting a financial overview of the quarter.
I will then review the business highlights for the first quarter.
And we will then turn it into the Q&A session.
Nachum?
Nachum Falek - VP Finance and CFO
Thank you, Shabtai.
And good morning, everyone.
Before beginning the financial overview of the quarter, I would like to note that the following discussion will include GAAP numbers and pro forma numbers.
Our first quarter pro forma results reflect adjustments for the following three non-cash items.
Stock-based compensation expenses which totaled $540,000 in the first quarter of 2009 and amortization expenses relating to the acquisitions of Nuera, Netrake and CTI which totaled $400,000 in the reported quarter.
During the first quarter we applied FASB to APB 14 which required us to change the accounting treatment of our convertible note, so that is reflects a non-convertible debt borrowing rate.
As a result of applying APB 14, we recorded additional non-cash interest expense net of $550,000 during the first quarter of 2009.
Full conciliation of the pro forma results discussed on this call to GAAP results is currently available for review on our website and in the press release issued yesterday.
Getting to our quarterly results, in the first quarter revenues were $29.2m (sic - see press release), which represents 24% decrease from the last quarter.
And the percentage of our revenues billed in America accounted for 62%, Europe 17%, Asia Pacific 12% and Israel 9%.
We had one customer above 10%.
Our top 15 customers accounted for 49% of our revenues, similar to the previous quarter.
In terms of revenues by business group, in the first quarter our Technology business group accounted for 24% of revenues, and our Networking business group accounted for 76% of revenues.
In the first quarter of 2009, pro forma gross margin was 57.1% compared to last quarter pro forma gross margin of 55.5%.
On a GAAP basis, gross margin was 56%.
Our total pro forma operating expenses was $18.2m which is 10% less than the fourth quarter of 2008 OpEx level.
Headcount was 595 employees, which is similar to the previous quarter.
Pro forma net loss for the first quarter was $1.6m or $0.04 per share.
Short-term and long-term cash balances were $113m compared to $115m last quarter.
The decrease in cash balances is attributable mainly to a repayment of a loan [bank].
DSO came in at 66 days compared to 69 days last quarter.
Our guidance for the second quarter is as follows.
Based on our visibility at this time, we forecast revenues for the second quarter to be above the first quarter revenues level.
As for our non-GAAP operating expenses, OpEx on the second quarter should be around 5% less than the first quarter OpEx level.
I will now transfer the call to Shabtai.
Shabtai Adlersberg - Chairman, President and CEO
Thank you, Nachum.
What I'd like to do now is provide more color and go into more details about the various activities in the quarter.
Our first quarter of 2009 was another down quarter for AudioCodes.
Similar to other technology companies in our industry, and due to the global economic crisis and tough credit environment, we have had lower revenues.
And for the first time in five years we finished the quarter with a loss that's reported in our financials.
While traditionally the first quarter in the year is usually the weakest, this time our revenues declined by about 25% quarter over quarter, a drop that we have not seen since the previous crisis of 2001 and 2003.
I would like to note though that the purchase order flow in the latter part of the quarter was better than the beginning.
And the buildup of the backlog towards the second quarter of 2009 is better compared to the first quarter of 2009.
While we are disappointed with the results, we are encouraged with the increased levels of activity with customers and partners in the field and have noted good flow of projects and customer wins in the quarter.
On the competition front, that is on project win flow, we have reason to believe we emerged stronger industry player versus other companies, with an edge both in the product and the technology.
And we focused primarily in the low and mid end of the market segment and we believe that we are gradually building towards a much stronger point when we will be emerging this crisis.
Operationally, we exhibited strong operating expense control and cost-cutting measures in order to mitigate some of the effect of the revenue decline.
At the same time I'm happy to say that while cutting costs we kept investments in our next-generation products.
And we plan to announce some of those later in 2009.
And evidence to that is the fact that basically in the first quarter of 2009 we have not changed any of our investment in R&D or in the manpower that was put to work on marketing and sales activities.
Operating expenses in the first quarter of 2009 decreased by 10% compared to the fourth quarter of 2008.
And were a decrease to a level of $18.3m.
As mentioned previously by Nachum, we anticipate further decrease in operating expenses in the second quarter of 2009 of around 5%.
We're glad to say also that we have managed to maintain a relatively high gross margin.
Gross margin was back to the 57% level from a level of 55.5% that we had in the previous quarter.
On the headcount front we, as I've mentioned before, we have the same level of people.
But we do expect to see reduction in headcount in the second quarter as a result of some reduction in activities.
Additionally, I would also emphasize that we continue to evaluate the various business line activities of AudioCodes based on an ongoing basis.
And we try to focus our efforts on activities where we forecast long term growth that's beyond the current crisis.
From a market share perspective, again based on market research input we get from firms in the field, we use Synergy Research Group.
Based on their study for the fourth quarter of 2008, we maintained our second place with the combined low-density and mid-density media gateway market.
And we were second to Cisco.
And on our heels we saw Huawei.
So we are able to maintain our very strong position in that field and we believe that with the addition of resources and products and less focus from other companies in that field, we should be able to build for ourselves a stronger position and larger market share.
To the sales highlights, basically we saw weakness in sales almost in all of our regions.
Our performance was roughly about 80% of what we planned for each of the regions.
There was one single region that exhibited better performance, and that's Latin America.
We did substantially better with that, hit level of sales that's 30% above target.
And we see a similar trend for the rest of the year, good pipeline, and very strong operation both in countries such as Brazil and also in Mexico.
We have seen similar uptick in our sales in our chip business unit, where sales have been better by 15% over target.
One very important point to note is the fact that while we saw 25% decline in our sales, there's a big distinction between decrease in Technology sales and Networking sales.
While we suffered a very steep decrease in Technology sales, our sales in the Networking area was down by only 10%.
So we're very much encouraged that where we put most of our focus in terms of our business, the decline has been much sharper than as seen in the overall Company results.
Going into the specific regions, we saw nice activity in North America on the carrier segment.
And we have increased sales basically from the fourth quarter.
We have been hit in North America in two other segments.
One is the OEM front.
Some of our OEMs have slowed [labs] and therefore we were impacted.
We cannot mention names, of course, but we all know that one big customer of us announced Chapter 11 in January and that has affected some of the drop you see in our sales.
And also we saw weaker sales in the enterprise space.
So those were the weakest points.
Again, on the carrier side we have good market.
In Europe and Middle East, generally we saw a strong impact of the economy on the sales.
We would still like to mention that at the same time, with nice progress with several partners with us which are helping us resell our products.
We focus on media gateway.
We usually sell together with a SoftSwitch partner.
And we've been able to make much better at showing a relationship with several of our SoftSwitch vendors.
So I think we are creating for ourselves an opportunity to increase sales going forward.
In Asia Pacific, China exhibited a low level of sales.
In other two major countries in the area for us, both Korea and India, we saw a nice level of sales.
So there's fluctuation, but we believe that in those countries we are in better shape.
In terms of the outlook for the second quarter, coming back to North America, we believe that we have got good funnel, again on the service provider side and we believe that we should come close to our target.
We still expect difficulties on the OEM front.
So expectation for that segment has been lower.
On the other hand we are putting a lot of emphasis on the enterprise space.
We are rebuilding our team and we are manning it with new players.
And we intend to refocus this operation to have much better and clearer go-to-market strategy.
In EMEA we had some -- in the previous quarters we had some projects being delayed, mainly by -- connected with credit issues.
We do believe that we will see some comeback, mainly in Russia and in other countries.
In Asia Pacific, all in all, we've been announced -- we've been advised that we won a very important expansion project in Southeast Asia.
China should be better this quarter.
Korea should be on track.
And we believe that India should be even better.
So, all in all, Asia Pacific plays for us a better and more [under] control in the second quarter.
And, as I've mentioned before, pipeline and forecasts for Latin America are well within our plan.
Getting to the business plan activities, first I'll talk about the enterprise space.
All in all in terms of the CPE sales, we had basically flat performance equal to that of the fourth quarter of 2008 which is a good sign that sales in the CPE side have not deteriorated.
And we believe that's part of why Networking, as a whole, business line has not suffered during this quarter.
I'd like to mention that we have increased activity with some of our partners, most notably Microsoft.
We are gaining more and more partnerships.
We believe that we are becoming more dominant and stronger in the field.
And we have enjoyed a nice group of wins and pre-deployment with several Fortune 500 names.
In terms of our product focus, we keep investing on our new initiatives, the multi-service business gateway.
That product should be better in the coming months this quarter.
And we believe that that will contribute to a new segment of sales in the coming quarter.
A lot of activity on an area that's called SIP tracking that's basically replacing the legacy TDM trunk lines with IP trunk lines.
And again we are very successful in that with some of our products in the enterprise space.
I'd like also to mention that in the first quarter we have already shipped our first batch of IP phones.
We are receiving very nice and very warm reception from our partners.
We have been able to sign the first large OEM deal with the IP phones.
And we seem to gain a lot of input and queries and interested parties regarding the IP phone activity.
We have initiated another design.
And again I think that's a very important point to note, that despite difficulties, despite decreasing revenues, we feel strong enough to put our resources into developing new products, new features.
And we do intend to come up in the second part of the year with a new product that's targeting residential use full service providers.
And we believe that we should be -- we should present there a very competitive offering.
On the carrier business group line, I will just mention a few points.
First, we have signed a very important OEM, global OEM agreement for us with a very big -- one of the top world integration companies.
And we believe that that signature already shows that we will be gaining a lot of momentum and stream of deals from that partnering with that large new partner.
I mentioned before that we have success partnering with SoftSwitch vendors.
Also one very important thing to know is that we do see some signs of other players starting to invest less in this field, announcing end of life and not investing in new products.
And that allows us to gain some of the replacement projects for us.
There are some large players who've stopped investing.
And we believe that we should be able to capture those opportunities going forward.
There's one such process in place now, and we should see the first signs of it in the second part of the year.
We're putting a lot of efforts in the transcoding area.
I believe that today we have the largest selection of voice compression technologies in the field.
And when one needs to interconnect IP networks coming from different spaces, be it mobile, be it cable, be it wireline, and connected between different service providers, be it AT&T, be it France Telecom, Telefonica or others, you do need flexibility and the ability to interconnect between those networks.
And this is what we provide in our transcoding.
And that would even -- we believe that the gap would be even growing further when we're going to introduce a large selection of the new breed of coder, the wideband coders.
At the same time I would like to note that we have lowered our level of activity in the session border controller area where we felt -- or the security gateway, where we felt that we are not that competitive.
And basically we moved the work in this field to a sustain mode only.
And we're going to invest less in those -- in what we call standalone SBC in our security gateway.
Obviously we are investing in integrating those functions into our multi-service business gateway.
So all in all, I think in spite of what we see in the market, we keep investing and we should be coming out with a few more initiatives.
One of them, for example, a new one is to embed on top of our gateways some applications, among them PBX application, mobility, value-added services applications.
So we are adding value to our products, trying to make them much more competitive.
And we've, as I've mentioned before, a few more -- at least two products that we intend to launch going forward.
One more word on where we stand with our high-definition voice initiative.
We've been receiving very good feedback and response from various market players, most notably service providers.
I think it's becoming a common phenomenon that each time we're going and demonstrate the technology or take the innovation department to the service provider or be it a network running -- network planning department, you always see an impression, good, good end-user experience.
And we believe that that would become a new growth engine for us.
So we're very excited about that.
The industry is going to have a first one such day conference in May, this month.
And we're going to participate in it.
There are a nice group of companies going to participate in that day in New York.
And we do believe that with the push of other people in the field, most notably Jeff Pulver's support, we should see HD voice becoming more and more common in our network.
And, with that, I've basically completed my review of the quarter and will now turn it to the Q&A session.
Operator
Thank you.
(Operator Instructions).
Our first question comes from Ittai Kidron with Oppenheimer.
Please state your question.
Ittai Kidron - Analyst
Thanks.
Shabtai, through your review, you've mentioned a lot of things that "should" get better.
But is there -- how can we assess if things could get worse before they get better?
And I know you talked about the end of the quarter being a little bit better, but I would assume that visibility is still very tough.
So what is it, outside of just how the last few weeks of the quarter have been going, gives you strong confidence that, near term, you're not going to see another step down?
Shabtai Adlersberg - Chairman, President and CEO
Well, that's the $1m question.
I have no crystal ball and I have no visibility beyond what we see in purchases -- purchase orders for the next coming weeks.
All I will tell you is that the comments I'm continuously getting from my sales and my R&D guys is that we have increased work, more and more features.
Now you need to know that we really prioritize those features.
We're not just implementing features for the sake of next generation.
We are much of the time, 80% of the time probably, working on features that are needed to deliver a project and deliver a product.
So the level of activity that we get from service providers is substantially high and is getting better.
I'll tell you again that, based on the fact that Networking sales went down by only 10%, while -- take a look at other players in our field, take a look into enterprise sales of other companies, I have a reason to be confident that -- hard for me to say we've seen the worst, we've seen the bottom, but definitely there's very healthy demand for VoIP gear implementation of very complex.
So very few players in this field with the ability to invest, keep momentum and also have the accumulated investment that we have done in the last five, seven years.
That makes me an optimist that, while the market is -- has reduced gear, all in all VoIP is much less affected than other areas and I think our brand gets stronger and -- so all in all I've got a lot of input that tells me that we can keep investing, not thinking about reducing expenses.
I'll tell you that, while we have laid off about 15 people in the quarter, I'm gradually approving very selective additions in various parts of the Company.
So all in all, I'm -- basically, I have enough reason to be confident that we will not see substantial downward curve from here, but we believe that we should see a growing trend.
I don't know, to tell you we know how steep it is or whether the market is coming back.
I think we should do fairly well from that point on.
Ittai Kidron - Analyst
Very good.
If we focus on the Technology business, that has been a business that now has been declining for a couple of years now, at least, and it seems like sequentially that it contracted by a good 50%.
And so my question is do you think -- what's the future of this?
Does -- do we recover from these levels or we just set a new low bar from which we're again going to continue to be flat to down in the future?
Can you give us a little bit more color as to why is the weakness so strong there and what's your outlook for that business specifically?
Shabtai Adlersberg - Chairman, President and CEO
Yes.
A, we divide Technology sales into sales of chip and blade.
We have not seen any effects on the chip sales.
Although that's not a big part or big chunk of our sales, that has been quite stable and we do believe that, on the sales side of chips, we should continue a similar level of activity.
So no change in there.
On the blade side, I do expect that we will continue to go down.
And the reason is very simple, that, a, one needs to remember that any blade that's being sold is going to be integrated into a system that's larger.
And therefore the end customer would pay for a product where, at least on one component of it, which is the blade, he's going to pay double margin, double gross margin.
Now, obviously, with current pressure on prices and gross margins, you'll have less success with selling products that carry double margins.
And competition will come from low-cost designed to functionality networking gear and you'll see much more gateways and session border controllers replacing those blades.
So therefore, we should expect blades to go away, but we -- in terms of the overall, I think -- even this quarter, I think Technology, if I'm not wrong, was about 25%, roughly 25% of our sales, which means that all in all that portion in the Company revenues is getting smaller and smaller and less important and we cover that with growth in Networking so --.
We've seen that coming two years now.
We have invested less in new blades for two years.
There were some acquisition opportunities in the last two years.
We never -- we didn't touch any of those.
We simply don't believe that one can [fare] selling blades.
So that's the answer.
Ittai Kidron - Analyst
Okay.
And lastly, on the gross margin, you've done a good job at keeping it high.
But if I'm not mistaken, the Technology business has a higher than average margin.
Maybe I'm wrong on this, if you can correct me.
But how should we think about, as your business mix changes between those two units, the Networking and the Technology -- and I would assume the competitive environment gets a little bit more desperate when things are bad.
How are you keeping margins at this level and what's the outlook for that?
Shabtai Adlersberg - Chairman, President and CEO
Right.
So I think that we do plan on lower margins, okay?
We do -- as you said, we do anticipate lower Technology sales and since margin on the Networking side is lower and is very similar to what you can find in other companies.
We had a target of about 55% this year and I think this first quarter was nicely above that target, but all in all I think, long term, we should be -- long term, I don't want that to be understood mistakenly as deteriorating, but I think that long term, meaning a year, two years down the road, we expect gross margin to be in the 55% to 53% or that area.
But I think that's the consequence of growing in volume and stuff.
We do add functionalities, so we are adding value, and we believe that through those we will be able to keep margins pretty high.
Ittai Kidron - Analyst
Very good.
Good luck.
Shabtai Adlersberg - Chairman, President and CEO
Thank you.
Operator
Our next question comes from Ted Jackson with Cantor Fitzgerald.
Please state your question.
Ted Jackson - Analyst
Thanks very much.
Hey, Shabtai.
Hey, Nachum.
How are you?
Shabtai Adlersberg - Chairman, President and CEO
Hey, Ted.
Nachum Falek - VP Finance and CFO
Hey, Ted.
Ted Jackson - Analyst
Couple of questions.
One is I'm curious, looking at the increase in inventories on a sequential basis, if you could provide some guidance relative to where you see inventories shaking out in the second quarter.
Nachum Falek - VP Finance and CFO
Yes.
So it's true that inventory went up a little bit, but I have to say it's -- part of it is due to the orders that we know that are part of the pipeline.
I have to say that -- if I can only estimate, so in the second quarter inventory will probably stay the same.
And obviously we will try to take it down, but it will be toward the second half of the year.
Ted Jackson - Analyst
Okay.
And then, CapEx is down a little bit.
Could you talk a bit about what your outlook is for CapEx in the second quarter and beyond?
Nachum Falek - VP Finance and CFO
I would say it should be the average of the last year or something like that on a quarterly basis.
There isn't any material change.
Ted Jackson - Analyst
And then, on the non-cash interest with the accounting change, are we to assume that we're going to have that non-cash component of interest every quarter going forward?
Nachum Falek - VP Finance and CFO
Yes.
Until November, meaning until the end of the year.
Ted Jackson - Analyst
Okay.
And then, the commentary relative to sales growth, that it will be up on a sequential basis, could you provide a little more, I don't know, color around that?
Bracket in ranges, is it going to be driven more by NBU?
Is TBU going to continue to decline?
Just some bigger guidance, but more specific guidance, to help us with our models.
Nachum Falek - VP Finance and CFO
Yes, obviously, on a quarterly basis, it's very hard to estimate the revenues coming from Networking versus Technology.
I think that that should be the levels between the average year -- that should be the level of going forward.
It's too early for us even to estimate the second quarter.
But as Shabtai mentioned, the driver for AudioCodes is Networking.
It was the majority of the revenues and it will continue to do so.
Ted Jackson - Analyst
In the past, you've looked at your forward quarter and basically made the assumption we have call it 40%, 50% of that quarter within backlog and used that as a basis of driving your guidance for the next quarter.
When you look at your business and you look at, say, having 40% of it in backlog, would that show that you would have growth in your top line in the second quarter, that equation?
Nachum Falek - VP Finance and CFO
So again, we are monitoring all those not only on the day of the conference call.
We are doing it on a daily basis.
I can only say that, at this point, second quarter looks better than the first one, not just by the backlog, but also inputs coming from sales, from customers, etc., and the pipeline that we expect until the end of the quarter.
Ted Jackson - Analyst
Okay.
I'll step out of line for now.
Thanks very much.
Shabtai Adlersberg - Chairman, President and CEO
Thank you, Ted.
Operator
(Operator Instructions).
Our next question comes from Robert Katz with Senvest.
Please state your question.
Robert Katz - Analyst
Hi, Shabtai, Nachum.
I have a question --
Shabtai Adlersberg - Chairman, President and CEO
Hey.
Nachum Falek - VP Finance and CFO
Hello.
Robert Katz - Analyst
Good morning.
I have a question about the revenue growth guidance.
Can you quantify that?
Is that in a range where you feel that could lie this quarter?
Nachum Falek - VP Finance and CFO
Yes, so it's hard to put it inside a range, but we do feel that second quarter should be above the first one.
It's very hard to say whether it will be another $2m less or more.
It's very hard at this point.
Robert Katz - Analyst
Okay.
And is there -- are there specific products or geographies that are leading this or maybe even customer-specific business that's leading the uptick?
Nachum Falek - VP Finance and CFO
We are seeing nice momentum in Latin America, nice opportunities in Asia Pacific, etc.
But on a quarterly basis, taking into account revenue recognition issues and others, it's very hard to forecast which territory will do better in the second quarter.
In general, I can say that we do see nice momentum all over the place and activities, etc.
Robert Katz - Analyst
Is the enterprise business starting to come back in the US?
Shabtai Adlersberg - Chairman, President and CEO
Not in a major way, but we have -- in the enterprise market, we usually do work with partners, so some of them doing well, some of them doing less.
One more thing is that we really are starting to change the way we work in the enterprise in terms of not only being tied up to partners' success, but also trying to be in control of future, building a team that would work with building VAR networks and getting closer to the enterprises.
Still no -- not building or have the intent to build a full-blown enterprise team that will visit enterprises, but we do have larger activity through our mega distributors and the VAR community.
Robert Katz - Analyst
And I believe you mentioned you had some government contract business with the US government.
Is that still on track?
Shabtai Adlersberg - Chairman, President and CEO
Yes.
Robert Katz - Analyst
And when is that supposed to impact revenues?
Is that a second half '09 business?
Shabtai Adlersberg - Chairman, President and CEO
Yes.
We believe that second half of 2009 will see an impact, yes.
Robert Katz - Analyst
And that's through the OEM, that one Chapter 11, right?
Shabtai Adlersberg - Chairman, President and CEO
That's through a partner in the field, yes.
Robert Katz - Analyst
A partner in the field.
So everything is still on track there.
Shabtai Adlersberg - Chairman, President and CEO
Yes.
Robert Katz - Analyst
Okay.
Thank you.
Shabtai Adlersberg - Chairman, President and CEO
Sure.
Operator
Ladies and gentlemen, there are no further questions at this time.
I will now turn the conference back to Shabtai Adlersberg for closing comments.
Thank you.
Shabtai Adlersberg - Chairman, President and CEO
Okay.
Thank you, guys.
I'd like to thank you all for participating and attending our conference call today.
And again, we hope to deliver a better quarter - seems like the markets will allow that - and we look forward to see you all on next conference call.
Thank you very much.
Bye-bye.
Operator
Ladies and gentlemen, this concludes today's teleconference.
You may disconnect your lines at this time.
Thank you all for your participation.