AudioCodes Ltd (AUDC) 2009 Q2 法說會逐字稿

Greetings and welcome to the AudioCodes second quarter earnings conference call.

At this time, all participants are in a listen-only mode.

A brief question and answer session will follow the formal presentation.

(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.

Mr.

Knettel, you may begin.

Thank you, Diego.

I'd like to welcome everyone to the AudioCodes second quarter 2009 earnings conference call.

Let me begin the call today with a brief Safe Harbor statement concerning AudioCodes' business outlook, 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 current global economic conditions and conditions in AudioCodes' industry and target markets; the bankruptcy of AudioCodes' largest customer; our ability to raise additional financing; the likelihood that we may be required to repay our senior convertible subordinated notes in November 2009; 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 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.

Thank you, Erik.

Good morning and good afternoon, everybody.

I would like to welcome all to our second 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 of the second quarter.

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

Nachum?

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 second quarter pro forma results reflect adjustments for the following three non-cash items - stock-based compensation expenses, which totaled $500,000, amortization expenses relating to the acquisition of Nuera, Netrake and CTI, which totaled $400,000, and non-cash interest expenses relating to FASB to APB 14 of $600,000.

Full reconciliation 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 second quarter revenues were $30.4m, which represents 4% increase from the last quarter.

As a percentage of our revenues, sales in America accounted for 53%, Europe 25%, Asia Pacific 14% and Israel 8%.

We did not have a customer above 10%.

Our top 15 customers accounted for 46% of our revenues, compared to 49% in the previous quarter.

In terms of revenues by business group, in the second quarter our Technology business group accounted for 25% of revenues and our Networking business group accounted for 75% of revenues.

In the second quarter of 2009 pro forma gross margin was 56.2%, compared to last quarter's pro forma gross margin of 57.1%.

On a GAAP basis, gross margin was 55%.

Our total pro forma operating expenses were $16.3m, which is 10% less than the first quarter of 2009 OpEx level.

Headcount decreased this quarter by 21 employees, which brings us to a total of 574 employees.

Pro forma net income for the second quarter was $600,000 or $0.02 per share.

Short-term and long-term cash balances were $115m compared to $113m last quarter.

The increase in cash balances is attributed mainly to a positive cash flow from operating activities, which was offset by a repayment of a loan bank.

DSO came in at 62 days, compared to 66 days last quarter.

Our guidance for the third quarter is as follows.

Based on our visibility at this time, we forecast revenues for the third quarter to be above the second quarter revenues level.

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

The third quarter backlog is also higher percentage-wise than the backlog we had at the second quarter, which was below 40%.

As for our non-GAAP operating expenses, OpEx on the third quarter should be in line with the second quarter OpEx level.

I will now transfer the call to Shabtai.

Thank you, Nachum.

With sequential growth in revenues in the second quarter, the two consecutive quarters of revenue declined due to the global economic crisis, and with return to profitability after a single quarter of loss, we are very pleased to report a return to what we believe is a reversal of the past two quarter trend and a consistent pattern of return to growing revenues and earnings.

Performance in the financial parameters was coupled with quite healthy Voice over IP market activity.

During the second quarter we have witnessed quite active customer activity and projects, and we saw that continuing well into the beginning of the third quarter at this time.

As in previous quarters, our focus remains on growing our Networking business, which now consists 75% of revenues and shows a strong growth potential.

In spite of the severe downturn in the global economy, Networking business in the second quarter of 2009, as compared to the second quarter of 2008, excluding our largest customer, declined only 15% compared to the overall sales decline of the overall Company, which was 35%.

That speaks for itself.

I think a decline of about 15% in our Networking business year over year after such a crisis really speaks for the strength of our Networking business.

On the competition front, just like the previous quarter, based on project win flow, we have reason to believe that we are emerging a very strong industry player versus other companies.

And we do feel an advantage with our product features, our technology and our ability to service customers on a global basis.

At the same time, a lot of emphasis was put this second quarter on the continued process of controlling our operating expenses, while keeping almost all of our important investments in new product development and launch in the market intact.

Operating expenses in the second quarter of 2009 decreased about 10% compared to the first quarter, as Nachum mentioned before, and reached a new level of $16.3m.

Our plan going forward in this quarter and the next coming one is to keep operating expenses at a similar level, in order to enable any future growth in revenues to translate towards the bottom line.

Good work was also accomplished on the supply side, where inventory went down by more than 10%.

That is part of the reason for increasing the positive cash flow from operations.

As a result, we had a very strong performance on the cash flow side.

The cash flow from operations generated $3.5m, compared to almost zero in the first quarter of 2009.

And cash reserves grew above -- about $1.5m.

Gross margin has declined slightly, from 57.1% to 56.2%.

We believe that this is a good sign of our ability to keep our prices quite strong in the market.

As Nachum mentioned, on the headcount front, we ended the quarter with 574 employees, a decline of 21 employees.

Most encouraging is the backlog picture for this second -- for this third quarter.

We do see a change in the trend of the past few quarters.

While the current one is about 50%, comparing that to the previous quarters, we have not seen more than 40% in those previous quarters.

And thus, based on better backlog trend at this time, better visibility in the market, good customer activity and good handle on expenses, we believe we should continue the trend of growing in revenues and earnings.

As to the market share, there was not a big change in the market between the first quarter of 2009 and the second one.

We hold steady at roughly 40% market share.

We do see some of the larger players losing market share, and we believe that may be due to a lower focus of these companies in that specific market segment.

We should be able to take advantage of that going forward.

So we believe that we will be gaining market share going forward.

Going into the details on the sales front, we saw basically a recovery in sales in most of the regions compared to the first quarter of 2009, and performance in sales was relatively average, as planned, for the quarter.

Out of all regions we note Latin America, which did substantially better for the second quarter in a row, hitting more than 30% increase over target.

Again, sales were very strong both in Brazil and Mexico and we do see a good pipeline for the rest of the year.

Turning to other regions, in North America we've seen quite healthy activity in the carrier segment, which was roughly similar to that in the first quarter.

We did see an improvement on the OEM front, where we grew more than 10%.

I should note also that that was in spite of the decline in our largest customer purchases from us in the first and the second quarter.

We saw a better performance on the enterprise side.

All in all, North America was quite to our expectations.

In EMEA, which we will look into Europe and Western and Eastern Europe, we saw an improved quarter, better than the previous one.

We've seen progress with a very important partner in Europe, with a service provider, a large service provider.

And then we had another big win of a tier one service provider.

In APAC, we had good activity in two countries, mainly India and Korea, and mild performance in China.

As to the outlook for the third quarter by region, we do believe that in North America we would see good funnel on the service provider side and we believe that we should continue to grow.

On the enterprise side, we did a lot of steps intended to revamp our activity in that field and refocus our go-to-market, and we believe that in the enterprise space we will grow in coming quarters.

We do have in EMEA a few large projects, most notably this is Russia.

We hope it will not be delayed.

And we do expect, as I mentioned before, good sales activity in Latin America.

We do hope that APAC will come back.

In terms of our business unit the enterprise and carrier business unit, enterprise sales today, CPE sales amount to about 40% of our sales.

We have witnessed good activity on the OEM front.

We also have some very good activity with our ISP, some partners of us in the market, most notably Microsoft and Genesis.

We have been able to develop a new OEM for us.

All in all, we do see good activity in that area.

A lot of investment is going these days into current products and new products.

I'm not going into detail.

But as we've mentioned before, the multi-service business gateway is scheduled to go through beta stage this coming month.

We had a lot of good reception for our IP phone activity.

We witnessed high demand.

And at this time, we are embedded in more than 20 different beta projects and [GA] for the product which is planned for early Q4 2009.

We do believe that that product alone would contribute to our sales a few millions in 2010.

We do intend to launch two more products, but we will give more details in the coming months.

All in all, I just want to mention that while we reduced expenses we really did not decrease any of our investment in R&D.

We have kept almost the same level of R&D employees that we had.

And I am glad to say that, assuming we will emerge from this crisis in good shape, I think we will be in good shape compared to the competition in terms of our ability to deliver more advanced products with more features and end-market abilities.

On the carrier business side of the business, we saw a good quarter.

We grew more than 20% in our mid-density gateways and some identity gateway projects.

Very important to notice that in the second quarter we have strengthened our relationship with a very large global system integrator.

We have signed an OEM agreement.

We do see already a few enquiries arising from a few countries around the world.

And we do believe that in coming years this specific relationship will develop and be a very strong and very important one to growing our revenues.

Beyond that, we also are investing efforts in migrating our business from being just a voice media gateway to a voice-and-IP-to-IP media gateway and session border controller capability.

I would like to put emphasis also on one specific area where we feel we are very strong.

This is related to our projects in the government area.

As you know, we do have one project that is close to completion in terms of development, and we believe that in coming years, in three years from today, that project alone should contribute to AudioCodes about $20m of sales.

We do see another two new opportunities, one which is very similar in size to this one.

That one is being discussed these days.

There is another opportunity.

And all in all, we believe that due to the very broad offering we have of gateways that range from a very low number of ports, two ports, eight ports up to a few thousands of ports, and being able to apply very specific, very unique features and requirements which are specific to the government space, we do believe that we are securing for ourselves a very important and lucrative market segment.

To give you an update on the high-definition voice activity, we saw a lot of progress in the second quarter.

A first HD VoIP summit was basically -- was adjourned in New York in May.

We saw a few companies gathering there, people from Orange, from Avaya, from Cablelabs and from many countries.

We do see an alliance being built up in the form of an HD Connect organization.

We seem to get very good reception from many potential partners.

I should mention that going into a large service provider, which otherwise would be quite difficult, being a rather small company compared to the large global system integrators, by presenting and following with HD VoIP we do get the attention.

We do get a lot of respect.

And I think in coming years high definition VoIP will become a very important differentiation for us.

We are active in various countries, most notably in Europe.

We have already one or two trials, installments, and we do believe that in coming months we'll be able to report more success in this area.

And with that, basically, I have concluded my part on working on the highlights of the quarter, and I'll now turn it on to the Q&A session.

Thank you.

(Operator Instructions).

Our first question comes from Ittai Kidron with Oppenheimer.

Please state your question.

Thank you very much and good results.

Shabtai, can you give us a little more color on why at this point you still feel somewhat reluctant to give more specific guidance for the next quarter?

I think it's for almost two years now that we decided not to give sequential quarter by quarter projections.

So we do believe we will have a good one.

And with these days rough or a bit unstable days, I don't think we should give those.

All in all, we do feel confident that we will continue to grow in revenues and profit.

Okay.

Can you give us an update on Nortel?

What's the situation, what's the level of business activity between you two and are there still payment hurdles that you need to go through with them?

Right.

Relationship is very good.

We continue to work as partners in the market, although the level of activity has declined substantially.

As we have mentioned, Nortel is no longer an above 10% customer.

All in all, just to give you a color, since we went down from -- the record quarter for us was third quarter of 2008, where we sold about $45m.

This quarter we reported about $30m.

So, all in all, $15m decline.

A lot of that is attributed to basically the fact that our largest customer basically went into Chapter 11.

We do -- we have seen a good second quarter, that the level of purchases, although low, became more stable and basically were almost flat compared with the first quarter.

So we do believe that we will not see anymore meaningful decline in that.

So, all in all, good relationship, lower level of revenues, large part of the decline is really attributed to that one specific customer.

Very good.

Nachum, I believe you mentioned in your press release in November you have your convert due and you'll have to pay that.

Can you tell us, do you think you'll need to secure some other financing or you feel comfortable staying, I guess, at that point with finding another $20m, $30m in cash?

Is that good enough for you or do you think you'll have to use other financing measures at that timeframe?

Sure.

So, as we mentioned, at the end of the quarter we had $115m.

Taking the converted minority pay, we will have $40m on our balance sheet.

Looking at the last quarter, we were profitable on a non-GAAP basis; we generated more than $3m from operating activities.

So, so far, it looks fine.

Obviously, when time goes by, we will do what we will feel is best for AudioCodes, but it's not that there is any need immediately to do something until November or so.

Okay.

And with regard to the operating expenses, great job, you've reduced it $2m sequentially, very aggressively.

How much of that do you think you can still maintain and -- or asked differently, what is the business activity level that you'll need to start reinvesting again in your OpEx?

Yes.

So, at this level of revenues, from $30m to $35m, I believe that we will be able to maintain this level of OpEx.

I know we have the exchange rate effect, etc., but we want to keep it on this level, between $16m or $16.5m per quarter.

Very good.

Good luck, guys.

Thank you.

Thank you, Ittai.

Thank you.

(Operator Instructions).

Our next question comes from Edward Jackson with Cantor Fitzgerald.

Please state your question.

Thanks.

Congratulations on the quarter, Nachum, Shabtai.

Thanks, Ed.

I have a few questions.

First of all, Nachum, on the cash flow, a lot of it came from receivables and inventory reductions which were quite substantial.

And I'm curious, relative to each of those line items, what your outlook for them is in the third quarter.

So it should be probably in line with what we had in the second quarter.

Take into account that if you look a year back we had the same inventory level while selling $15m more.

So it's true that inventory went down from the first quarter but, all in all, $19m to $20m of inventory level we had even when we sold $45m per quarter.

So it's very hard to predict exactly the inventory level at the end of the third quarter.

It depends on what we will sell during this quarter and obviously the outlook for the fourth one, but I believe that it should be mostly probably on the same level that we have today.

And it might be nice to get it in my model, but you would expect to be operating cash flow positive in the third quarter, with those levels?

Yes.

It depends on linearity within the quarter, etc.

Should be -- yes, it should be that we will be cash positive.

But, as I said, it's too soon to really say and it's very tough to estimate.

Yes.

Then, on gross margin, the gross margin did decline a bit more than I would have expected and I was curious if you could give some color relative to that.

Yes.

So, again, if you look a year back, it's between 57% to 55% that we had on the fourth quarter of 2008, and I think that right now it depends on the mix of revenues, Networking, Technology, and within those product line.

I believe that the target for us should be the 55% to 57%.

That's the range, and it really depends on the mix and on the volume.

Remember, when volume will be higher, we will have the same fixed expenses as part of the cost of goods sold.

They will spread and margins should be a little bit better.

Okay.

And then, Shabtai, you commented, maybe it was last quarter or the quarter before, about rebuilding the enterprise sales team.

And then you made another comment relative to realigning the North American sales efforts, I guess in your prepared comments.

Could you give an update in terms of what you're doing on the enterprise front in terms of your sales organization and where you want to go with it?

Right.

So I think we are focusing on improving our go-to-market strategy.

And we have a new VP of Sales dedicated to the enterprise space growth, coming into the Company three months ago.

We have been working on a plan.

We are in the first phase of implementing it.

This is set up to getting a new (inaudible) and re-strategizing the methodology of building enterprise sales.

I think we will be doing -- well, we see -- as I've mentioned before, we do see an increase, slight increase, in enterprise sales.

But I believe that most of the investment and ramp-up will go through the second half of 2009, and then I think we will see the result of that selling activity more in 2010.

But we're very confident that we're building a high-class team and that should pay itself.

I think we're seeing a lot of activity in the market through our partners.

As I've mentioned, we have good and strong relationships with companies such as Avaya and Genesis and Microsoft.

And together with a very strong channel, a multi-tier distribution channel, I think we will see the result of that coming through, in fact, in about six months from today.

Okay.

And then you had said, I guess it was last quarter, that you'd had some Russian projects delayed and you'd hoped they might come back.

You made a comment in your prepared remarks that you were hoping to see those, I assume, same Russian deals roll through.

They didn't come through, obviously, in the second quarter, but I kind of inferred you had hoped that they would come through in the third quarter.

So my question is, is that indeed what you had stated?

And then, do you need that business to be recognized in the third quarter to show revenue growth?

Actually, we've seen come back already in the second quarter.

We have seen the environment in the Russian market improving, a better credit environment, more activity, more willingness of service providers to invest.

So we saw some of that already in the second quarter.

We will probably see that going further in the third quarter.

We don't need any significant up-tick in the third quarter to see that coming.

So it's not a question, it's happening, and it's gradually and it's positive.

And then, my last question about (inaudible).

You made a comment in your prepared remarks regarding the integration of media gateway and session border capability at the carrier level, and I know that has been a key effort for you with the enterprise product, particularly the MSBG.

And I wondered if you could spend a little time outlining that strategy, how far along you are in it relative to the carrier front and what prompted you to make that move.

Right.

So I'm afraid that I've been -- probably been misunderstood.

We never meant, and we do not have any strategy of going into the carrier market segment.

Actually, with our decision to basically go out of that market and basically reduce network operations, we'd a bit decided, basically, that we want to focus more on the enterprise space.

We also decided that we will put much more focus on integrated media gateway and session border controller functionality, rather than have a pure standalone enterprise effort.

So that is what's going on.

We are investing substantially in that on the low end and mid end we are in good shape.

We are gradually building more capability to deal with higher end or mid end abilities.

But, again, it's all now directed into the enterprise space and not the carrier space.

Okay, I misunderstood.

Thanks very much.

I'll step out of line.

Okay.

Thanks, Ed.

Thank you.

Our next question comes from Vivek Arya with Merrill Lynch.

Please state your question.

Hello, Shabtai.

Hello, Nachum.

Hi, Vivek.

Hi, Vivek.

Hello.

A couple of questions.

Now that Nortel is becoming less relevant for you, which other partners are taking Nortel's place?

And if you carry that question through over the next few quarters, how do you see your mix of direct sales versus sales through these kind of partners?

Okay.

So, as a strategy, you know we changed our go-to-market about two, three years ago, when we decided that rather than focusing on an OEM approach we would go and try to sell through a distribution channel network direct, meaning we will rely upon local strong distributors in the region.

So Nortel was important but not that important in the new strategy.

And as I've mentioned before, in the enterprise space I've mentioned a few names - Avaya, Genesis, Microsoft.

We do have two very important partners on the carrier space, which I cannot name at this time.

But, again, we do believe that with those two partners we will be able to recover our ability in the carrier space.

I should also say that as a strategy we basically put a lot of emphasis in being able to interact with almost all of the different softswitch vendors in the market.

And therefore, beyond partnering with two specific large system integrators, we are, through the channels, responding to many projects, and in those projects we basically are operating with any softswitch.

So we basically did say that we are capable of working with Cirrus, with Alcatel, with NSN and all of the big players.

So, all in all, we have a very balanced go-to-market strategy here and we believe that it's time to [fly].

And some of the companies competing in that space are getting weaker.

We are becoming a more preferable partner to some of those large system integrators.

So, all in all, I think I'm sorry to lose Nortel as a partner, but we definitely built for ourselves a very strong, capable group of partners that will replace it.

Got it.

Secondly, Shabtai, you mentioned improved activity levels and it's good to see the improvement in visibility and backlog.

My question is that, when you say improved activity levels, are these more at the level of design wins or are you actually seeing purchase orders come through that were being delayed from before?

Like how tangible and how sustainable are this growth in activity that you are seeing?

So, much of the activity is really coming these days from the field itself, from our projects that are being basically targeted by our partners, distributors in the market, local system integrators.

Take Latin America as a good example.

We've got a large number of partners in the market and any time there's a big project arising at a service provider and/or a large enterprise, that project has been coming to us and with partners we've been answering that.

So a lot of this is coming through from the channels, from the field, and I think that creates a very solid demand base for us going forward.

Right.

And one last question.

Do you expect to be cash flow positive in the second half?

And just guiding that through and back to the balance sheet, once the convertible notes are paid, do you think that you have a comfortable level of cash to execute your business plan and assure your customers and partners that you have adequate balance sheet?

Thank you.

Yes, I think we are -- basically, the fact that we turned cash flow positive and we do expect in coming quarters to be profitable means that we will continue to generate cash.

We have a very strong ability, basically, to be -- to have access to funds if and when they will be needed.

But at this stage I think we are (inaudible) any question on that ability.

Okay.

Perfect.

Thanks and good luck.

Thank you.

Our next question comes from Robert Katz with Senvest.

Please state your question.

Hi, Shabtai and Nachum.

A very nice quarter.

Thanks.

I have a few questions.

It sounds like your backlog has improved quite significantly and if you look at it staying below 40% to about 50% that would be at least a 10% increase in your backlog, quarter over quarter.

And, historically, your guidance has been doubling your backlog going into a quarter, which if we did that this quarter it sounds like that would put you at the high end of the, I guess, $30m to $35m range that you said you were able to maintain, with OpEx not going anywhere.

So are we looking at the higher end of that range as where this quarter could end up?

Not necessarily.

And, quite frankly, trying to manage the operation on a more solid base, I -- unless we will get that upswing from the market sales, from the revenue, through the sales, then we will end up -- at this stage, we do plan on continuing to grow on a very steady basis in a few coming quarters.

And, therefore, I don't think we'll get to the high end of that range.

Sure.

And do you plan on growing your backlog this quarter?

Is that part of the equation, in terms of rebuilding the Company?

No.

Again, the very strong backlog we have these days is a reflection of the good reversal of trend in the market and the fact that we are left as one of the few players.

So I think we are -- and this is, frankly, a two, three-month experience, so we still need to get more months of experience before we can claim anything else.

But at least we do enjoy a very solid -- a very active market.

(Multiple speakers).

Right.

And the linearity in this quarter, you expect it to be a little more linear than past quarters?

Yes.

The second quarter has been better than the previous two ones, substantially different from the fourth quarter of 2008 and the first one in 2009.

Okay.

And can you talk a little bit more about some of the new product opportunities?

I think you've mentioned the high def VoIP phone.

You've talked about a CPE product a while back and that was focused on cable at one point.

And there's the Microsoft opportunity.

When do you expect these new opportunities to start impacting revenues?

Okay.

So, basically, there are a few products which are in various stages of introduction to the market in the second half of 2009.

I think we will definitely see contribution for all of these in 2010 and I think it's going to be quite substantial.

In my -- I would assume at least a contribution of about $10m fresh, new, $10m in 2010 from these devices.

So, all in all, again, it's a lot of work.

We need to go through penetration, ramp-up, getting the first few customers, getting the feedback, improving.

It's a process that will take a few months.

But 2010 will definitely show increasing revenues through that new product generation.

Thank you very much and good luck.

Thank you, Robert.

Ladies and gentlemen, there are no further questions at this time.

I will now turn the conference back over to Mr.

Adlersberg for some concluding remarks.

Thank you.

Thank you, operator.

Thanks, everybody.

I would like to, indeed, thank you all for attending our conference call today and we do look forward to have you on our next call in three months from today.

Thank you very much.

Bye, bye.

This concludes today's teleconference.

You may disconnect your lines at this time.

Thank you all for your participation.