Aviat Networks Inc (AVNW) 2005 Q2 法說會逐字稿

Welcome to Stratex Networks second-quarter fiscal year 2005 financial results conference call. At this time, all participants are in a listen-only mode. Later, we will open up the call for questions. Instructions for queueing up will be provided at that time. As reminder, this conference call is being recorded for replay purposes. I would now like to turn the conference call over to Mr. Carl Thomsen, Senior Vice President and Chief Financial Officer. Mr. Thomsen, you may begin.

Thank you. And thank you for joining Stratex Networks today, as we discuss the financial results for the second-quarter of fiscal-year 2005. Chuck Kissner, our Chairman and Chief Executive Officer, and I will review the results more the most recent quarter and our current business outlook, and that will be followed by a Q & A session. During this conference call we may make forward-looking statements regarding our business in the wireless industry in general, including statements related to our market share, future revenues, margins, operating expenses, and net income or loss, balance sheet improvements, DSOs and inventory turns, backlog, foreign taxes, anticipated introduction, performance, market acceptance and financial impact of our Eclipse product, break-even and profitability, and future results of operation and cash usage. It is important to note that these forward-looking statements are subject to risks and uncertainties that could cause actual results to differ materially from those results stated in such forward-looking statements.

These risks include the risk of increased competition, continuation or further tightening of global capital markets for telecommunications and mobile cellular projects, economic and political instability in the Middle East and other markets in which we compete upon which our products are manufactured. Further discussion of these risks, as well as risks related to our business in general, we refer you to the disclosures under heading "factors that may affect future finance results"in form 10-Q for the period ending June 30, 2004 on file with the Securities and Exchange Commission. This press release will be furnished to the SEC as part of the form 8-K. We will make this information -- a webcast replay of this presentation available on our investor page. In addition, please note that the date of this conference call is October 25, 2004. Any forward-looking statements that we make today are based on assumption that we believe to be reasonable as of this date. We undertake no obligation to update these statements as a result of future events. Lastly, this conference call is the property of Stratex Networks. Any recording, reproduction, or rebroadcast of this conference call without the express permission of Stratex Networks is strictly prohibited.

Let me go over the quarterly results. First, I would like to provide a summary of our quarterly results for those of you who may not have had a chance to read our press release. Fiscal year 2005 second quarter, ending in September, we had revenue of $43.6 million, which is within the guidance we provided on our quarterly conference call on July 21. Our loss of 8 cents a share is also within the original guidance. Gross margins at 19.3 percent were more than 4 percentage points higher than the 15 percent reported in the prior quarter. Orders at 45.9 million were about the same as the prior quarter. However Eclipse orders were up significantly. Backlog at the end of the quarter was 58.3 million. First, I would like to review the orders received in the quarter. By geographic region, in the Americas, we received 8.8 million of orders, in Europe, Middle East and Africa, 28.5 million, and in Asia Pacific, 8.6 million, for a total of 45.9 million. And by product line, the Eclipse product, we did 18. -- or 12.3 million, excuse me, 12.3 million of orders in Eclipse. On XP4 and Velox, 17 million, and Altium was 5.2 million, DXR 5.0, and services at 6.4 million, for again a total of 45.9.

Orders for the Eclipse product increased 100 percent, as I said, to 12.3 million, compared to 6.1 million we reported in the prior quarter. At this point the majority of new business opportunities we are proposing are for Eclipse product. The order pipeline for Eclipse continues to be very good and gives us confidence that Eclipse orders and revenue will continue to accelerate. We continue to focus on improvements in the Eclipse cost structure, which should allow us to compete even more effectively on the very low capacity end of the markets we address with this product. On revenue, first I will give you by product category. For Eclipse, we did 8.1 million of revenue in the second quarter. On the mid-capacity XP4 and Velox, we did 14.5 million. Altium was 8.4 million, DXR 5.2, and services 7.4 million, for a total of 43.6 million of revenue. And by geographic area, the Americas were 10.1 million, Europe, Middle East and Africa was 29.6 million, and Asia Pacific 3.9 million, again, for a total of 43.6. Eclipse revenue of 8.1 million was an increase of 72 percent from the prior quarter. Based on orders received during the quarter, current backlog and our forecast of new orders, we fully expect revenue for this product line to continue to accelerate over the next several quarters. We are continually expanding features available in this product line as we roll out new software and hardware, such as the Eclipse Quattro that we announced in September. Gross margins in the second quarter were 19.3 percent, a significant improvement compared to the prior 3 quarters. As I mentioned earlier, second-quarter gross margins were 4.3 percentage points higher than gross margins in the prior quarter. While we encountered continued pricing pressures on the older mid-capacity product lines, the increase in Eclipse revenue and improved service margins favorably impacted overall results. As I've said before, we view the first several quarters of fiscal 2005 as part of the production start-up phase for Eclipse. Key to continued gross margin improvement is the ramp of the Eclipse product line and introduction of an additional version of Eclipse later in the fiscal year, to more effectively address the low capacity access market.

Now, let me turn to operating expenses. R&D expenses declined as anticipated to 4.1 million from 4.4 million in the prior quarter. Selling, general, and administrative expenses of 10.7 million were up compared to the 10 million that we reported in the first quarter. This was due to somewhat higher sales expenses as Eclipse continued to roll out, plus the prior quarter as you recall, had a one-time favorable benefit of about $300,000 due to recovery of a fully reserved receivable, that as discussed in last quarter's conference call. Interest and other was a net expense of $440,000 in the second quarter of fiscal 2005, about the same as the prior quarter. Higher interest expense was offset by favorable foreign exchange costs. Going forward, we expect to have about $350,000 per quarter in interest expense related to our long-term borrowings, plus 2 to $300,000 in foreign currency hedging costs. The current quarter, we also paid 1.5 million related to the settlement of Intelligent bankruptcy claim that we have discussed in the past. As this was somewhat less than originally reserved, we recorded a $276,000 credit or benefit on the income statement as a result of of this final settlement. Tax expense for the quarter was $202,000 in line with our expectations, and the net loss for the quarter was 6.8 million or 8 cents a share.

Now let me discuss the balance sheet. Cash balance at the end of the quarter was 63 million. Cash at the end of the second quarter includes the $23 million raised in our previously announced equity offering in September. Excluding these new funds, cash was down about $23 million from the end of the first quarter. Cash utilization can be grouped into 3 categories. First, about $7 million related to losses for the quarter. Second, $3 million due to payment of legal settlement and the repayment of bank borrowings. And three, $16 million due to higher working capital for accounts receivable and inventory, which I will discuss in a few minutes. We will continue to use cash in the third quarter, but I expect usage in the third quarter to be in the range of 7 to 9 million. And cash usage is expected to decline in the future quarters as net losses decline. Accounts receivables total 43.-- 44.3 million, which is an increase of $10 million from the end of the prior quarter. DSOs were 89 days in the second quarter compared to 67 days at the end the first quarter. This increase was a result was a result of shipments during the quarter being more back-end loaded due to the timing of new orders shippable in the quarter, plus a somewhat different customer mix than in the prior quarter. Accounts receivable terms haven't changed significantly. Based on payment terms and customer payment commitments, I expect DSOs will improve in the third quarter to 82 to 86 days, thus benefiting cash usage during the quarter.

Inventory increased from 31 million at the end of the first quarter to 36.8 million at the end of the second quarter. Increase in inventory was almost entirely due to increases in Eclipse inventory as we wrap up this product line, and in part due to higher anticipated shipments planned for the quarter. We don't expect inventory to continue to grow next quarter, and turns should improve over the next several quarters to levels at or above our recent history prior to second quarter. Total liabilities decreased about 2.4 million, compared to the first quarter, primarily due to the legal settlement and reduction of the term loan. Now I'll talk a little bit about the forecast for the third quarter, fiscal year 2005, which ends in December. During a major product transition, forecasting future financial results, of course is challenging. However, we are encouraged by the strong orders booked for Eclipse product line and the product transition from the older products to Eclipse is moving forward rapidly at this point. We expect that Eclipse shipment volume will be up significantly again in the third quarter. We are forecasting total revenue to be between 45 and 48 million, and net loss per share of 6 to 8 cents. Gross margins are expected to continue to improve, increasing 1 to 2 percentage points in fiscal Q3, and operating expenses we expect will increase slightly in the quarter.

We continue to be very optimistic about the Eclipse product offering and believe that margins and overall financial results will steadily improve as Eclipse continues to phase into full production during the balance of fiscal year 2005 and into 2006. In the past, we have forecasted Stratex would break even on the operating income line by the end of fiscal year 2005, which is the March quarter. As I noted previously, this financial result was dependent upon quarterly revenues of 55 to 60 million per quarter. Given the level of orders booked in the second quarter, reaching 55 to 60 million in revenue in Q4 does not look likely. This is primarily due to faster declines in legacy products not related to Eclipse. Nonetheless, we are not losing sight of the near-term break-even objective. We are focusing our efforts on products cost reductions to address a broader range of applications, and we continue to review spending levels throughout the Company to help ensure we reach break-even as soon as possible. In summary, our primary objective near-term, is a successful rollout of the new Eclipse product line and related improvements in gross margin.

I would now like to turn the call over to Chuck Kissner for an operational summary and comments on the Company's plans going forward.

Thanks, Carl. I would like to make -- cover 3 major areas before we go to questions. First, our progress on Eclipse. Secondly, some operational issues I want to talk about with you. And third, our outlook for the Company going forward. On Eclipse progress, as you can see from Carl's financial overview, Eclipse continued to gain momentum in Q2, in both orders and shipments. Eclipse orders increased by 100 percent , shipments by more than 70 percent. Orders on average, for all other products, excluding services, decreased by about 17 percent, a trend that we expect now to accelerate as larger customers start deploying Eclipse. The pace of installation accelerated around the world, especially in Europe, Middle East and Africa, Asia and Latin America. The Eclipse-installed base breakdown right now is about 70 percent Europe, Middle East and Africa, 20 percent in Asia, and 10 percent in the Americas. Our field experience on Eclipse is accumulating quickly. Cumulatively we have shipped over 1,000 Intelligent Node processors and indoor digital units, and over 2,000 radio outdoor units. About 50 percent of the total quantities shipped during the last quarter, Q2.

Our experience continues to validate Eclipse's increased functionality, the higher application integration, and the reduced capital cost for network system operators. Our field experience also indicates that, as we had planned, Eclipse is more robust product than other new systems we have introduced in the past, and further installation now typically takes significantly less time. In terms of some of the field experience, our initial reliability calculations indicate that we have a very good chance to meet our target of tripling the mean time between failure reliability numbers compared to our previous microwave point-to-point radios. In addition to improving functionality with Eclipse, we believe this added reliability is a significant competitive advantage in the marketplace. Manufacturing first pass yields for Eclipse increased significantly in Q2, as expected, as the manufacturing process gained more maturity. This improvement should help sustain a good ramp in Q3 to keep driving gross margin expansion. Gross margins on older products will continue to climb, as Carl mentioned, due to pricing pressure and declines in sales volume, and that will be offset by the increased gross margins from Eclipse. Based on our backlog and order activity, we do expect another significant increase in Eclipse sales volume per Q3, and we are confident we have the manufacturing capacity to meet that demand. In Q2, we did begin the plan with some of our larger customers for the migration to Eclipse. That's another reason why we now expect a significant ramp-up in Q3.

As Carl mentioned, we introduced the Quattro version of Eclipse and that was in September, that is a configuration that allows for speeds up to 622 megabits per second. Quattro is another piece of the strategy to expand our served available markets by entering adjacent markets, and this is our entree into the high-speed trunking market. We expect that Quattro will begin to contribute meaningfully to revenue in calendar 2006. As many of you know, our strategy has been to release new features, mostly software, some hardware-driven, constantly refreshing and expanding Eclipse's functionality. As we talked to potential customers, it is clear that there is significant demand for Eclipse. In our December quarter, we will be releasing additional software and hardware, as we expand the Eclipse market footprint. Specifically, we will introduce a significant upgrade to our network management functionality, and we believe this will become another attractive reason to deploy Eclipse. A very importantly in Q4, to give you some longer-term visibility, we plan to introduce a new radio outdoor unit, or ODU, which will be optimized around lower speed applications. This is a very important product enhancement and it will be a significant milestone for Stratex, as it better adjusts as a very large portion of today's market which is in the lower speed range, commonly referred to as the access market. These new units are software upgradable, as with current Eclipse outdoor units, but not to as high a speed level. Current Eclipse high-capacity outdoor units work fine at the lower end of the market, but the new versions are a more cost-effective solution for installations where operators don't plan to upgrade capacity all the way to the higher end. Importantly for Stratex, we expect to achieve significantly better financial performance with this configuration at the low end, as it will drive the next major step-up in gross margins. This outdoor unit has been under development for some time, and it is absolutely critical to our success in this market. We have very high confidence we are going to be introducing this on schedule. As we have, actually, with almost all other aspects of the Eclipse platform.

I would like to discuss some operational issues. Obviously, while Eclipse is doing very well, one thing we didn't do a good job on Q2 was utilization of cash. Our cash losses from operations were actually right in line with our plans, but due to some shipment and timing issues, our DSOs jumped significantly, and the planned increase in the ramp for Eclipse between Q2 and Q3 create higher inventory than we planned. Credit terms with our customers haven't changed appreciably, and the inventory build-up was mostly in Eclipse, so the receivables in inventory are both quite low-risk items for us, as we expect to recover that cash reasonably quickly. As we have been introducing Eclipse, we made some significant changes in our delivery and logistics model, which takes advantage of the modular nature of Eclipse, using a drop-ship approach from our various suppliers. During Q2, we experienced some logistical issues with our approach. As a result, the various pieces didn't always arrive in a coordinated way, and it compounded with a back-end loaded quarter. Our inventory built up and receivables began building late in the quarter, pushing collections out. However, working closely with our customers and suppliers, we have now taken corrective action, and we are now seeing shipment and delivery schedules improving. This should contribute to Eclipse's continued sales ramp, and at the same time improving receivables in our cash position. Some of these actions will positively impact Q3, and the rest will impact Q4 and beyond.

Now in terms of the outlook, looking at the market and the outlook for Stratex, while wireless infrastructure spending is forecast to grow over the next few years, competition does remain very tough in this market. Looking ahead, we expect market conditions will put even more pricing pressure, but generally on our legacy products. While this pressure on legacy products will moderate our top line, I don't think it will slow the growth of Eclipse. But since we expect sales of the legacy products to drop faster than planned, while we ramp up Eclipse, we are planning to reduce operating costs to ensure a timely return to profitability. We have enough experience now to validate why Eclipse is becoming popular. I just wanted to relate to you what some of the hot buttons are that we believe are driving growth, somewhat in order of relative importance. The network nodal capability is providing savings, flexibility and reliability, especially in complex networks. I'd say that's number one. Second would be the software based scalability, because it helps provide more attractive getting-started costs. The modularity would be third. That provides easy initial ordering, configuration, and additional scalability on hardware. Next would be the routing, the multiplexing and the cross-connect capability built into Eclipse. It's reducing space requirements and producing cost savings by reducing the amount of equipment,and the number of suppliers. And finally this liquid bandwidth Ethernet and self-healing ring architectures is affording operators an easier, more cost-effective data services rollout, especially where there is a mix mode of voice and data.

To summarize, the commercial introduction of Eclipse has been the most ambitious initiative in the history of Stratex Networks. To date, we are pleased with the pace of the ramp, our roadmap to introduce new features to expand its functionality, and third, with a positive response from both current and potential customers. That concludes our formal remarks. And operator, we are now ready to take questions.

(OPERATOR INSTRUCTIONS) George Iwanyc, CIBC World Markets.

It looks like orders were particularly strong in Asia. Could you give a little bit more color on that region, and maybe the overall trends on a worldwide basis?

You know, they were strong in Asia compared to the prior quarter, but they were kind of at the level they have been at for several quarters. In general, the trends from the prior couple of quarters are about the same in terms of overall business. We are seeing fair amount of activity in developing areas especially, but we saw quite a bit of activity in Africa and in Russia. Quite a bit of increased activity, it's way up in Europe compared to the last 3 quarters. But Asia I think, is about the same level that it's been before. And the drivers here particularly, are existing customer relationships and some new network build-outs that are occurring. We also saw some new activity that we hadn't seen for a while out of India, that we hadn't seen for quite a while. So the increase in Asia over the last couple of quarters -- or at least the last quarter, was a delta in India.

Okay. Mentioned that you are seeing a different customer mix. Is that as you are ramping Eclipse with the larger customer? Is that what you traditionally have?

Well, we have seen a different mix with Eclipse, because most -- a large portion of the initial Eclipse rollouts were driven by new customers who were trying Eclipse out. We were -- and some of the existing relationship where we had large networks being deployed, we were slower to deploy Eclipse. We have reviewed that before. We were trying to get more field experience with some the other applications before we rolled it over. I think what you will see now in Q3 and Q4 is the mix will turn a little bit more towards our traditional customer mix. However, the new customer rate is still quite high, but in terms of total volume, I think we're going to start seeing it swing more toward the traditional customers.

Okay. And finally, at the 55 to $60 million break-even level that you mentioned, Carl, what gross margin assumptions and operating expenditure assumptions do you have?

We have said before that was gross margin in the high 20 range, and operating expenses would be a just little bit higher than where they are now.

Matt Robison, Ferris, Baker Watts.

Can you talk about on this mid-range or access version of the Eclipse that you are coming out with, is that going to start this quarter with a full range of spectrum offerings? And is that -- does that need to be shipping in significant volumes to hit the margin objective for the guidance this quarter.

No, it is actually not being -- we said it was introducing in Q4. And because of the way it is being developed, we expect that we will introduce it and have some reasonable revenue in the fourth quarter. But it is not required for Q3 to meet the expectations.

Oh, okay. I guess I did mishear that. In the fourth quarter, will it come with the full range of spectrum offerings?

No, it will be the high runners at the beginning. Probably 2 or 3 bands at the front end of -- of the offering.

Okay.

But that one will ramp up, in terms of the frequency rollout, faster than the original Eclipse outdoor units. Because it is reusing a lot of parts of previous products that we have rolled out, and the software is -- it's using almost all of the same software as the current Eclipse.

And you get -- you also have a big volume market to address for the more cost-effective product there, right?

Yeah, it is a very large market. In today's environment with the rate of 3G deployment, the access market is a more significant portion of the market, I think, than was probably anticipated a couple of years ago. So it does significantly impact our ability to address that market in a cost-effective way.

Okay. So just to be clear, that one will -- will you -- it will not start shipping until the March quarter?

That's correct.

And you will have it introduced from a press standpoint, before then? Or you won't introduce it until you can ship it.

From a press point of view? Is that what you said?

Yeah.

We haven't -- I don't know what the -- what we are going to do in terms of press release. But I -- my guess is because we have planned to ship some reasonable volumes in Q4, we'll be booking some business in Q3 for that. I feel reasonably confident that we'll book business in Q3. So we will probably be inclined, later in the quarter, to say something about it, but there is no guarantee of that.

Kevin Dede, Merriman.

Congrats on the progress you guys have made with Eclipse.

Thank you.

Carl, can give me just a rundown on what your share count would be in the December quarter.

Good question, I should have mentioned that. It'll be around 94.5 million shares for the December quarter.

Okay. Thanks for that, and keep up the hard work, guys.

Once again, if you would like to ask a question, please press star, then the number 1, on you telephone keypad. Rich Valera, Needham & Company.

Carl, I think you mentioned that you were going to actually make some cuts because it looked like your revenue for legacy was trending down faster than you expected. Can you say how big those cuts will be? And I assume that would bring your break-even level below the previous 55 to 60 million level. Is that true?

That's true. We are reviewing that now. We don't have any specific plans concluded at this stage. But yeah, cost reductions plus the better margins from the product Chuck described, both would lower that break-even point. But until we get that, we will be working out that this quarter.

Okay. And with respect to the December quarter, would you be willing to give just any sense of the sequential trends we should look for in OpEx and in gross margin? I would assume that gross margin trends up here, can you give us any sense of is it -- I doubt it is 400 basis points again, but is it a couple hundred basis points, or how should I look at that?

Yeah, I think 1 to 200 basis points, a 1 to 2 percentage, and operating expenses we are expecting will be a little bit higher than the current quarter was. It will trend up. It won't jump like it did last quarter.

Okay. And then just -- it sounds like Eclipse, whether through growing faster, or whether the legacy product is falling off faster, is going to increase its percentage of revenue faster than you'd originally anticipated. Can you give a sense if say, we looked out until -- well, maybe I will leave it this way. When do you think maybe Eclipse is 50 percent of revenue, if you had to guess?

If we had to guess? [ LAUGHTER ] Is that the question? [ LAUGHTER ] It will definitely be some time early -- first half of fiscal '06.

Okay. Appreciate that.

I think based on what we are seeing right now, with the fallout in the legacy products, and just the -- there is a very significant demand for this access portion of the market that we'll be more fully addressing starting in Q4. I would say the acceleration will be faster than what we had originally told people a year and a half ago, or so. Or a year ago. Because I think we said about 40 percent by Q4, is what we have been telling people, and then by the end of '06, we have been telling people about 70 percent. I think it is reasonably consistent, but I think the over 50 percent mark is going to get pushed more toward the early part of next year now.

Okay. That's helpful. Thank you.

Which is absolutely delightful, as you know.

At this time, there are no questions.

Okay. Well, thank you, operator, and thank all of you, for your questions and your continuing interest in Stratex Networks. e look forward to talking to you when we report our third-quarter financial results, which will be in January 2005. In the meantime, we will be at the AeA Classic Financial Conference in Monterey, November 9th and 10th, and we hope to see you there. Thank you very much.

This concludes today's 2004 fiscal year-end conference call. You may now disconnect.