AudioCodes Ltd (AUDC) 2017 Q3 法說會逐字稿

Greetings and welcome to the AudioCodes Third Quarter 2017 Earnings Conference Call.

(Operator Instructions) As a reminder, this conference is being recorded.

I would now like to turn the conference over to your host, Ms. Elizabeth Barker, Director of Investor Relations for AudioCodes.

Thank you.

You may begin.

Thank you, [Melissa].

I would like to welcome everyone to the AudioCodes Third Quarter 2017 Earnings Conference Call.

Hosting the call today are Shabtai Adlersberg, President and Chief Executive Officer; and Niran Baruch, Vice President, Finance and Chief Financial Officer.

Before beginning, we'd like to remind you that the information provided during this call may contain forward-looking statements relating to 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 are forward-looking statements as the 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 current global economic conditions and conditions in general and in AudioCodes industry and target markets, in particular, shifts in supply and demand, market acceptance of new products and the demand for existing products, the impact of competitive products and pricing on AudioCodes and its customers, products and markets, timely product and technology developments, upgrade and the ability to manage changes in market conditions as needed, possible need for additional financing, the ability to satisfy covenants in the company's loan agreements, possible disruptions from acquisitions, the ability of AudioCodes to successfully integrate the products and operations from acquired companies into AudioCodes business and other factors detailed in AudioCodes filings with the SEC, the U.S. Securities and Exchange Commission.

AudioCodes assumes no obligation to update information.

In addition, during the call, AudioCodes will refer to non-GAAP net income and net income per share.

AudioCodes has provided a reconciliation of non-GAAP net income and net income per share to its net income and net income per share according to GAAP in its press release and on its website.

Before I turn the call over to management, I'd like to remind everyone that the call is being recorded and an archived webcast will be made available on the Investor Relations section of the company's website at the conclusion of this call.

The call will also be archived on our Investor Relations app, which is available for free from the iTunes App Store and the Google Play market.

With that said, I would now like to turn the call over to Shabtai Adlersberg.

Shabtai, please go ahead.

Thank you, operator.

Good morning, and good afternoon, everybody.

I would like to welcome all to our third quarter 2017 conference call.

With me this morning is Niran Baruch, Chief Financial Officer and Vice President of Finance of AudioCodes.

Niran will start off by presenting a financial overview of the quarter.

I will then review the business highlights and summary for the quarter, discuss trends and developments in our industry and business, and the outlook for the rest of the year.

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

Niran?

Thank you, Shabtai, and hello, everyone.

As usual, we will be referring to both GAAP and non-GAAP numbers on the call.

The non-GAAP P&L metrics exclude recurring noncash items.

Today's earning press release contains a reconciliation of supplemental non-GAAP financial information.

Revenues for the third quarter were $39.2 million, up 1.2% from the prior quarter and up 5.4% compared to the third quarter in 2016.

Services revenues for the third quarter were $12.7 million, accounting for 32.4% of total revenues.

Deferred revenues balance as of September 30, 2017, was $34.8 million compared to $33.8 million as of June 30, 2017.

Revenues by geographical region for the quarter were split as follows: North America, [47%]; Central and Latin America, 8%; EMEA, 30%; and Asia Pacific, 15%.

Our top 15 customers in aggregate represented 57% of revenues in the quarter, of which 44% are attributed to our 10 largest distributors.

Gross margin for the quarter was 62.8% compared to 61% in Q3 2016.

Non-GAAP gross margin for the quarter was 63.2% compared to 61.7% in Q3 2016.

Operating income for the quarter was $2.6 million compared to an operating income of $2 million in Q3 2016.

On a non-GAAP basis, quarterly operating income was $3.4 million or 8.8% of revenues, compared to an operating income of $3.1 million in Q3 2016.

Net income for the quarter was $1 million or $0.03 per share.

On a non-GAAP basis, quarterly net income was $3.4 million or $0.10 per share, compared to net income of $2.9 million or $0.08 per share in Q3 2016.

Our balance sheet remains strong.

At the end of September 2017, cash and cash equivalents, bank deposits and marketable securities totaled $60.1 million.

Day sales outstanding as of September 30 were [57] days.

Operating cash flow generated during the quarter was $6.2 million.

During the quarter, we acquired 940,000 of our ordinary shares for a total configuration of $6.4 million.

As of September 30, 2017, and since we began to repurchase our shares in August 2014, we had acquired an aggregate of 14.5 million shares for an aggregate configuration of approximately $70.7 million.

In May 2017, we received court approval in Israel to purchase up to an aggregate of $15 million of additional ordinary shares, pursuant to our share repurchase program.

The current court approval for share repurchases will expire on November 15, 2017.

On October 24, 2017, our Board of Directors approved filing a new application with the court in Israel requesting approval for an additional repurchase program for $20 million of ordinary shares.

We expect to file a new application shortly and receive a decision from the court in the coming weeks.

Now to provide an update on our guidance, we now expect revenues for 2017 to be in the range of $154 million to $157 million compared to the original range of $152 million to $157 million.

We anticipate non-GAAP diluted earnings per share to be in the range of $0.34 to $0.36 compared to the original range of $0.31 to $0.35.

I will now turn the call back over to Shabtai.

Thank you, Niran.

We're very pleased to report strong financial results and continue the momentum for the third quarter of 2017.

As mentioned earlier in our press release, we experienced good business momentum for several years now and have build a ground for continued growth in coming years.

2017, will be the fifth year in a row, if we grow our new business in the UC-SIP [telephony].

Similar to the first half trends, our two main businesses -- two main business lines, UC-SIP and Gateways, which together comprise above 90% of our revenues continue to exhibit healthy business trends.

As such, it provides strong confidence level in our investment in these areas.

In the UC-SIP area, we grew above 15% year-over-year, and we continued to successfully execute on our enterprise voice strategy to help businesses migrate to a digital workplace in an all-IP world.

Continuing these investments and growing partnerships in collaboration with Unified Communication and SIP trunking market leaders should support extending the success over the coming years.

We will keep pounding on our key message that the world voice networks are in a forced migration era.

The first major part of it is taking place right now between 2015 to 2025.

This is what other players in the market called network transformation projects, transitioning from the all-TDM world to an all-IP world.

This migration process drives the evolution of unified communication and UC as a Service, and prosperity among UC solution makers, such as Microsoft, Cisco, BroadSoft, Vonage and other over the top players.

In the latest announcement by Cisco targeting to acquire BroadSoft close to $2 billion further underlines this trend.

But the other side of this prosperity coin is the fact that most such unified communication and a unified communication as a service solutions need CPE an access gear that complement this UC application and voice [infra] device as a software [in that point] in order to deliver a fully working solution.

And this is exactly where AudioCodes fits the big picture.

We have now become the partner of choice for our CPE products in most of the leading UC application environment, such as Microsoft Skype for business and BroadSoft.

And we are building similar such position with leading service provider worldwide.

In that regard I will mention two announcements we made in the third quarter '17, naming British Telecom and Portugal Telecom as customers.

It is important to note though that these projects are still in the very early stage of deployment, so the potential in the future is big.

We're working many years to secure this industry position, our success going forward is surely granted.

And we will contribute to continue growth in our UC-SIP product lines including the Session Border Controllers, the IP Phones, and products targeting the markets of Skype for business and [teams] solution.

We continue to experience good demand for our Gateway business, which was up 5% compared to the year ago quarter.

But lower in comparison to the first half average in 2017.

So summarizing business highlights for the third quarter of 2017.

UC-SIP continued growing at about 15% year-over-year is on track to grow 15% to 20% on an annual basis.

So the business line is expected to grow from 65 -- to grow to above $65 million this year compared to about $58 million last year, and we believe we will reach a level of $100 million in 2020.

We remain focused on growing and positioning AudioCodes to become the leader in the enterprise voice market and we have made important steps in third quarter '17 to that [regard].

In that respect I would like to know that we have signed a resale agreement with a very successful global war for Skype for Business deployments and projects and already see pickup in activity on that front.

In third quarter, we have been very active announcing new activities and success.

Let me count, and let me mention a few of them.

In the Skype for Business market, we have announced that we're going to enhance our Skype for Business online solutions for Microsoft.

We have launched VocaNOM, a voice dialing solution for IP Phones for the Skype for Business environment, we believe that would be a very important cornerstone in achieving success for [IP Phones] and the voice recognition activity.

We introduced a new mid-market phone the 445, we believe that will contribute to further success of the IP Phone business line.

Next year we have an (inaudible) overall offering for Microsoft 365, and we just lately announced an enterprise voice management suite and upgrading the performance.

So that's on Skype for Business.

In the service provider and all-IP front, we announced two wins in September, early September we announced Portugal Telecom the selected AudioCodes SIP Trunking solution for its all-IP network transformation project.

In October '16, we announced that British Telecom selected our product for their SIP Trunking business.

On the BroadSoft front, we have announced an expanded range of devices that now complement the BroadCloud solution and provide complete interoperability testing with BroadSoft.

We announced a service provider DOTVOX, which is selected to our product for hosted communication service.

And we just announced earlier this week collaboration with a company called RedSky to deliver enhanced E911 solution.

Lastly, we have announced also that we signed up with a very large (inaudible) in Japan that shows you that we are active not only in the U.S., but also in EMEA and APAC going forward.

So to some of our financial highlights this quarter all of the numbers I've mentioned would be non-GAAP.

As provided earlier financial performance was as expected on the revenue side, but substantially better in a row of other parameters.

Service revenues continue to grow this quarter, they reached a level [$12.7] million grew 12.4% year-over-year and it now represents almost third of our business.

A very high gross margin, very strong business going forward.

As we bring more value to our customers through a combination of products and services.

Gross margin was record 63.2 versus 61.9 in the previous quarter.

Operating margin we announced a record 8.8% margin, which is substantially better than what was demonstrated in previous quarters.

Net income rose to $3.4 million versus $2.5 million in the previous quarter, and we continue to generate cash.

We generated $6.2 million in the third quarter, we have generated $9.4 million from the beginning of the year.

On the OpEx front, we have implemented a headcount reduction plan and downsize our mobility activity.

We ended the third quarter with 703 employees, a reduction of 7 employees compared to the second quarter.

However, OpEx did not decline compared to the second quarter as we face and still face headwinds on the FX front, where the average conversion rate for the U.S. dollar versus the Israeli Shekel declined severely.

We believe that we will continue to incur and suffer higher expenses going forward, mainly as a result of these FX issues, which we believe would improve in 2018.

Deferred revenues is another area that can demonstrate the solidity and the strength of our business.

Deferred revenues continue to grow in the third quarter, the level of deferred revenues grew about 3% to $34.8 million.

In terms of our sales, generally sales perform well and over target as expected.

There was only one sub-region South Europe, where we faced weaker conditions, but we believe that few projects with some large service provider will change that going forward.

On the other hand, we enjoyed good business in Russia, which is good progress and an improvement over the last year.

We also saw a very good performance in the DACH region, which counts Germany, Switzerland, Austria.

All other region performed well or very well in context of their performance against the plan.

To note and give you few more this is on some specific deals.

In Russia, we had a very big project [selling] Gateways and Session Border Controls to one of the largest world banks.

North of half a million.

We also had similar level of sales into a contact center deployed by Genesys to one of the worlds largest enterprises that's in the U.S., another activity in the contact center is that we keep selling to one of the very successful mid-market contact center companies and this quarter we have shipped also north of half a million.

In the Skype for Business market, we enjoy good activity.

I want to mention, just mentioned maybe one name where we saw -- again above half a million to a global company.

The important thing about that deal is that the majority of our revenues came from professional services, and that tells you that as we expand our offering from just Gateways to Session Border Controllers, Phones and then services and professional services, we will be able to expand substantially our offering and level of sales going forward.

Third group of companies in the business services, we have done several project with a West European service provider with a cable company in the U.S. with the Top 3 service providers in Asia Pacific, in South Asia Pacific, that all those projects show you that we have very strong and live activity growing or penetration into the markets.

Now let me dwell on what we did on the Microsoft front.

So this was a good quarter all in all.

We grew more than 15% over the quarter a year ago.

And we grew about 7% over the previous quarter.

We have seen a very nice increase in sales of our Microsoft Skype for Business online products, both CloudBond 365 and Cloud Connect, that is supporting growth in our hybrid solution, which is now seem to be the most important product in that space.

And also in Skype for Business online.

So all in all, very solid in deploying our solution, not only in on-prem solutions, but also in implementation that start to utilize the Microsoft Skype for Business online cloud solution.

In September, [during] Ignite, Microsoft announced Teams this is a cloud-based collaboration solution, this combines chat presence, voice, file sharing and more.

This is very new leading application for messaging.

This product is expected to replace Skype for Business online in coming years.

But we expect gradual and slow process in adopting it.

Current offering for customers is based on Skype for Business.

[Server] for on-prem solution, Microsoft announced a new release for next year, vNext which gives a lot of our customer the vision of continuing support for the on-prem solution.

At the same time announcing Teams would provide a solution for the cloud version and the online versions.

I must know that during that conference back in September, we participated in one of the most successful session ever in our history.

Microsoft delivered a session about the deployments of large accounts in the Skype for Business on-prem solution.

Basically Microsoft presented successful deployments of four large companies Cargill, Bosch, ZF, and BNSF.

These four companies combined of more than 600,000 SIPs worldwide, that tells you the potential we face.

Those are only four companies, 600,000 SIPs, we're very proud to be this being discussed with those four giants as a strategic vendor or product names have been mentioned throughout that session.

Through the end of this session, we were called to come up with on stage and present and join the Q&A panel and so [matter of fact] question from the audience also referred to AudioCodes as their vendor of choice.

So by the way, this session audio recording is available online on YouTube for anyone that's interested.

So this allows us to be positioned as a strategic vendor at these fortune 100 and 1,000 companies and successfully [handle] product wise competition.

As I've mentioned before, another note worthy point is the fact that we have signed a global resell agreement with a large very successful VAR in the Skype for Business environment and we made for us with another world leading VAR in that space.

I just mentioned that -- already at the [sales] front, we grew very nicely.

We grew 38% year-over-year and 9.6% quarter-over-quarter.

We are now well on track to fulfill our target of growing 20% from 2016.

Now, let me refer to an announcement that was made three days ago where Cisco announced plans to acquire BroadSoft for an amount of approximately $2 billion.

BroadSoft is an important strategic partner for AudioCodes for many years.

And we've been doing business with them for many years.

Through them, we are entrenched in very long list, tens of operators using BroadSoft application in AudioCodes CPE gear.

When the transaction has been presented on stage, it was clear that BroadSoft, which has over 19 million business subscribers and that has partnership with over 450 service provider in 80 countries, it is a good fit to the Cisco unified communication plans.

BroadSoft solution is complementary to our existing on-premise that was acquired by Cisco.

BroadSoft -- is complementary to our existing on-premises and enterprise centric hosted collaboration solution.

And as this transaction should enhance Cisco overall cloud [enhancement] strategy.

Based on comment that we heard after that announcement and there was a repeating message that BroadSoft strategy of maintaining an open system and using APIs and software development kit that will be help to interface and work in BroadSoft environment that will keep going on.

So we believe like other comments made by analysts and other speakers at an event that Cisco's first and most priority is to get [SaaS] base -- software-as-a-service recurring revenues, more subscriptions and OpEx model.

And this is the main interest and therefore we believe that in order to be successful, we definitely believe that they will work with partners who supports currently BroadSoft to keep supporting them in further deploying their solution.

So that is probably the end of my introduction [phrases].

And I would now turn the call to the Q&A session.

Operator?

(Operator Instructions) Our first question comes from the line of Rich Valera with Needham & Company.

Please proceed with your question.

Hi, Shabtai.

It looks like you took down your growth target for your UC-SIP business you had been looking for 20% for this year, it looks like now it's 15%.

I know last quarter you'd talked about some softness in the Skype for Business part of that business.

Can you just talk us through what's behind that moderated expectations?

Is it in fact kind of a softer near-term outlook for the Skype for Business, business that you guys do?

Not really.

As the business grows, I think everybody should expect that a larger business will demonstrate slower growth.

So while we grew 30% and 25% and 20% in previous years reaching a level of $65 million and growing to $100 million, we are moderating expectation.

We do believe that we will do more than 15%, which we did this quarter.

You may have a point in that the announcement of [Teams] to be provided in combination with Skype for Business may in some areas may be something that may slow the business a bit, but it's not really, when we plan this quarter, the fourth quarter and as we plan next year, I don't see much effect that simply because the UC-SIP business is built out of a lot of activities.

Microsoft is one of them, BroadSoft is another one, Genesys is another one, the service provider PSN (inaudible) is another one.

All in all there are so many different factors that affect the success of that line that we simply want to be more realistic and 50% and above is right growth factor that we want to assign to that business.

I appreciate that the lot of large numbers, I'm just trying to understand kind of what at the margin change from what you were expecting only a quarter ago you'd kind of, I think reiterated the 20% target, and now a quarter later, we're talking about 15%, so it seems like something changed there and I'm just trying to get a better handle on what that was?

Again, really there's no much change, I can tell you, I can just maybe provide you more details that I think in the previous quarter, we grew around 18.x, this quarter we grew 16.7, so listen, it's a quarter-by-quarter fluctuations.

I don't think we should look at such low details.

I think, we're very confident in the strong growth that we have of 15% plus and that is something that we stick to.

And that's how I think we should refer to it.

Fair enough, and it sounds like the Gateway business had another quarter that was probably a little better than you are looking for when you headed into the year, I think you are looking for that business to be, to be down for the year starting the year and you are positive on the third quarter as well as I think for the first half.

So can you kind of give us your updated view on that Gateway business for this year and maybe for longer-term?

Yes, definitely.

As I've mentioned contrary to voice over IP history that's between '96 to 2015, the previous let's say 20 years, when you stepping to the period that's between '15 and '25, it's going to be what I mentioned they forced transition in each country, and we expect there was a leading economy countries such as the U.S. and Germany and France and the U.K. to be in front of that.

It's no longer a choice, the service provider and the communication authorities in this country have set certain date for enforced transition from the all-TDM network to an all-IP.

So that continues to drive the Gateway business.

Just to give you an example on the British Telecom side, we're starting with Gateways in all that activity and the Gateways do provide an interface to a SIP trunking solution, in the future that Gateway business will evolve to become also a Session Border Controller business.

But all those transformation projects that have to connect tens of thousands and millions of businesses.

The element that is needed in most of those transition side by side with the [soft switch] or these application is Gateways.

So we expect Gateways to continue to solve very nicely, actually we are adding features and capability to our Gateway line simply because those are required by customers.

So the Gateway business is very much alive, and we believe that it will maintain a very nice level.

Either flat up or down few percent, but all in all, very solid, by the way also very profitable because our investment is very limited.

So that by the way provides -- cash infusion to be invested by our other activities in the UC-SIP et cetera.

Thank you.

Our next question comes from the line of Dmitry Netis with William Blair.

Please proceed with your question.

Thank you, gentlemen.

Couple of questions from me.

Maybe going back to the Gateway question Rich just asked, can you frame, I think you said it's going to be flat this year.

Do you expect Gateways, given the projects that you on-boarded in the last few quarters, would you expect Gateways to be flat again next year or does that kind of go back to the normal secular decline pattern, and I think it was 10%, 15% decline.

So just kind of, if you could help us understand what to expect for Gateways going into next year?

Right.

I'll try to model it Dmitry.

If you take the new account, so I'm confident we will add more accounts next year.

You're talking about previous accounts, they will expand the solution, we think it's -- that we provide to Verizon in this case.

We work with Comcast, we work with Deutsche Telekom.

Those projects just begun so we can very much -- we can be sure that the activity will go on, so the only I will tell you that we will need another 12 months or so to provide a more sound or analytic backed response, but I'll tell you that in my view next year it could go anywhere between minus 2, 3 points to plus 3 points or either flat, so it's in that range.

And then on the SBC side of the business I think you made a commentary and it kind of makes sense, right, the Microsoft's going through a transition and lumping the Skype, well, killing essentially Skype for Business online and developing its own product within [teams] environment.

Would that essentially spark a pick up in your SBC business in support of the premise environment.

And have you seen any of the Microsoft Skype for Business server premise environment, premise deals rather spiked as a result of this change of this transition that's going on?

Right.

So the way we see it is that at Ignite, I think the on-prem solution got new life, Microsoft announced a new release called vNext to be delivered second half of [2019].

I think that gave a lot of support for the large enterprises, Skype for Business customers who now have assurance that Skype for Business server for on-prem deployments, it will be supported, so that's in place.

Skype for Business online is really not going to be killed, it's going to transition now, most of the investment will go into [teams, teams] will replace it but all in all when you're talking about either Skype for Business online and/or you're talking about teams, when you want to provide PSTN calling you need to connect and usually those are Session Border Controllers that have to connect.

So Session Border Controllers will keep selling in the on-prem solution for the cloud connect solution and another new version for the team solution.

So all in all in an all-IP world or SBCs are used to connect between location and operators, SBCs will keep growing, we enjoy a very strong business in that, and definitely the announcement of teams gives us a new phase of deployment.

And any evidence yet of the Skype for Business, server business being kind of a pick up yet or is that still early?

No.

So I'm telling, our third quarter has been very strong.

We see projects just [yesterday], we mentioned there's a large world leading accounting firm that we signed about five years ago, started the deployment over the past few years is really, has naturally reached even 50% of its deployment.

So all of these large companies and I've mentioned by the way, those four companies in the session that have altogether 630,000 SIP, a very small portion of that has been deployed.

So you can assume that these companies will continue now that they have assurance for continuation of the on-prem, And I think to be realistic, I think, hey guys don't expect large companies to go fully cloud.

Small companies will go cloud immediately, and then you're talking about companies will employ tens of thousand and hundreds of thousand of employees, those companies most of their operation in many cases will remain on-prem when private cloud will be a better solution, maybe some of it will move to cloud.

But fact is that cloud really serves today mostly SMBs and starts to serve also some mid-market companies.

But large companies, majority of them will employ for many years going forward on-prem solutions.

I was just referring to kind of this change that Microsoft just made the debts for additional business or not.

But we could talk about it offline.

What I also wanted to ask a real quick is, is there any way to frame this BT, British Telecom and PT, Portugal Telecom opportunity, as far as maybe number of lines that are transitioning from TDM to IP, any sort of guidance you can provide, potentially how big these projects could be or what it means in terms of the lines?

Thank you.

Okay.

Usually, they do not or we do not expect a firm number, I'll just mentioned that about three years ago we signed with Deutsche Telekom, when we negotiated the contract, the potential discussed was about 10 millions of lines, so that gives you kind of an indication for when you're dealing with a large Tier 1 service provider in a leading western country, those are the numbers, you go to smaller service provider, you talk about few million, so we haven't scratched really yet the potential in that case.

The world, if you use different statistics taking the U.S., the market is more advanced mainly with the micro business and 10, 20 employees, but when you go worldwide, very small penetration, less than probably 10% even, so the potential is huge and it's going to last for the next 10, 15 years.

So BT is probably similar sized as Deutsche Telekom, so we could expect maybe about a similar size 10 million lines -- profits for you?

Yes.

I just want to mention those, so by the way, Dmitry, just reminded me that we haven't mentioned it, but we won -- we were announced this quarter that we won another RFP for a very [large level] service provider, name was not mentioned in that call, but yes, there's another one that we just signed.

Okay.

One last real quick question on services, it's done really nicely this year.

Do you expect that level of growth, maybe high-single digits, low-double digits to continue going forward.

And I think part of it, as you said, maybe predicated on this Microsoft Skype for Business deployments that you're working through in professional services that are attached to that.

So can we expect similar growth next year?

Yes.

Right now we predict, services are growing at about 10% to 12% annually and we do not see any reason that, that trend will change.

Thank you.

Mr. Adlersberg, there are no further questions at this time, I'll turn the floor back to you for any final remarks.

Thank you, operator.

I would like to thank everyone who attended our conference call today.

Relying on good business momentum in the first three quarters of 2017, we believe we are on track to achieve another year of growth and continue to build a growing, profitable business for coming years.

We look forward to your participation in our next quarterly conference call.

Thank you very much.

Have a nice day.

Thank you.

This concludes today's teleconference.

You may disconnect your lines at this time.

Thank you for your participation.