Aviat Networks Inc (AVNW) 2012 Q4 法說會逐字稿

Welcome to the Aviat Networks conference call. During today's presentation, all participants will be in a listen-only mode. Following the presentation, the conference will be opened for questions.

(Operator Instructions)

As a reminder, this conference is being recorded for replay purposes. I would like to hand the conference over to Ms. Cindy Johnson, Director of Corporate Communications. Cindy, you may begin.

Thank you, operator. Good afternoon, everybody, and welcome to our fourth quarter and fiscal year 2012 earnings call. This is Cindy Johnson, and I am joined by Mike Pangia, President and Chief Executive Officer, and Ned Hayes, Senior Vice President and Chief Financial Officer.

During this conference call, we may make forward-looking statements regarding our business, including statements relating to projections of earnings and revenues, business drivers, the timing and capabilities of new products, network expansion by mobile and private network operators, and variations of economic recovery in different regions. These and other forward looking statements involve assumptions, risks, and uncertainties that could cause actual results to differ materially from those statements. For more information, please see the press release and filings made by the Company with the SEC. These can be found on the Investor Relations section of our web site, which is www.AviatNetworks.com.

Now I'd like to turn the call over to Mike Pangia, President and CEO of Aviat Networks. Mike?

Thanks, Cindy, and thank you all for joining us today. I'm very pleased to report another solid quarter with several bright spots. We had good top line momentum, we held our spending in check, we had outstanding cash performance, we continued to add new customers, and we are executing on our technology road map. Revenue exceeded our prior guidance at $116 million. And for the fifth consecutive quarter, our book-to-bill was at 1 or above. And most importantly, we generated positive cash flow from our core business, excluding restructuring.

The final mix of products, customers, and timing of shipments led to gross margins below our prior expectations, but as discussed in previous calls, gross margin progression towards our long-term goal will not be linear. We are confident that our gross margin rate will improve steadily in fiscal year 2013, with a more pronounced pick-up in the second half of fiscal year, as driven by the increased contribution from our new products. Ned will provide more color on this later in the call. We added 33 new customers in our fourth quarter, for a total of 119 from fiscal year 2012, including the first order from a new Tier 1 mobile operator that we announced in last quarter's call. We also successfully completed the first route with our leading customer for low-latency market applications, and we received our first WTM 3000 orders.

With that, I would like to provide an update on the microwave transmission market. Mobile Backhaul continues to be our primary addressable market segment, as the demand for increasing backhaul capacity for our customers' networks is ongoing. In North America, the demand is mainly driven by expansion of LTE deployments in our key customers' networks, while internationally, it is a combination of increasing capacity to handle subscriber growth, ongoing build-out of some large 3G deployments, and the emergence of early-stage LTE. The more we support our customers for LTE readiness, the more we see demand for significant increases in microwave backhaul capacity as well as leveraging IP networking for efficiency and future flexibility. We are confident that our technology road map is well-aligned with these evolving market requirements.

The discussion around smaller cell architectures is also gaining momentum, with a lot of interest in millimeter-wave products as one of the possible backhaul solutions. We see the potential for deployments of millimeter wave solutions beginning to grow by mid-2013 calendar year. We continue to see good opportunities in several other market segments, especially utility networks and public safety and security applications. As we stated last quarter, a new emerging segment is in applications for low latency connections. The low latency characteristics of microwave versus fiber optics are leading to strong interest in creating alternative long-distance microwave routes between a number of large metropolitan centers. In addition to the initial system that we have already deployed, at just under 700 route miles, we have uncovered interest in a number of other routes totaling more than 8,000 miles. The combination of long distance and the design modifications we have made in our products gives us a very compelling solution for these low latency applications.

Now I'd like to comment on some specific activities by geographic sector. In Africa we continue to see substantial demand as our key customers invest in network expansions and migration to IP to support their current mobile service offerings. Additionally, we are seeing increasing demand for high capacity long haul solutions within countries, as operators prepare to address the capacity demands of the exploding data market. We see this trend expanding as more under-sea optical systems to both East and West Africa will provide improved bandwidth between the African continent and the rest of the world over the next few years. Our focus on partnerships with our Tier 1 mobile customers and our value-add offerings of turnkey solutions and long-term support positions us well in this region.

In the Middle East, we continue to find opportunities in both mobile and non-mobile applications, and see similar trends on the shift towards IP-based backhaul. Our outlook for the Middle East will remain cautious, based on political uncertainties within the region, that at the minimum, can affect the timing of any opportunity. I would characterize our business in Europe as steady. The overhang of economic pressures in the region has had a slowing effect, although we are continuing with capacity enhancements and the transition to IP in our current customers' networks. As mentioned in our last call, we recently signed an agreement with one of the mobile groups headquartered in the region, which complements our current mobile business and regional strategy, by expanding into eastern European areas.

Interest in our low latency applications have been growing, and may lead to some new revenue opportunities over the next few quarters. In Asia Pacific, we continued in the execution of projects from our Tier 1 mobile customers in the upgrade of their transport networks for capacity expansion and to be 3G and LTE-ready. In this quarter, we saw significant improvement in winning non-mobile business with the area of focus on the public safety segment.

Q4 capped a rewarding year for the North America sector. We saw steady progress in mobile and non-mobile segments that resulted in revenue improvement year over year. The complete product refresh we made for the North American business, backed by our in-country manufacturing and systems integration support at our Texas facilities, have significantly improved our competitive position. Our private network, state and local government, and utility networking opportunities are a major contributor, and now the larger portion of this business. As mentioned earlier, in partnership with our lead customer, we completed the first route, now carrying wide traffic of a long distance, low latency system between two large US metropolitan areas.

We are encouraged by a growing pipeline of opportunities as customers recognize our value proposition as it relates to not only designing the optimal route, but also custom-designed product latency attributes, and deployment expertise. Our relevance across many different North American verticals was again validated by the recently-announced partnership and contract with AT&T Government Solutions as their microwave subcontractor to the US Department of Homeland Security. This strategic partnership, along with significant wins in the utility, local, and state government and high-frequency trading verticals, once again demonstrates our fit for mission-critical applications.

Now, I'd like to provide an update of our products and services. The design release introduction of the new ODU 600 high-performance outdoor unit continues on schedule. The ramp and transition of customers from our legacy products has, however, been slower than originally planned, having been impacted somewhat by adjustments in supply chain and inventory consumption, following the flooding in Thailand earlier in the fiscal year. These issues are behind us now that we have successfully commenced the transition of all of our top 10 key customers to this new version. We have also successfully introduced technology enhancements to the ODU 600 which further improves performance to create path links which is especially useful in the long-distance applications I referenced previously. The higher performance of the product also reduces the required antenna sizes, with an attractive improvement in overall total cost.

We have now shipped additional orders for our WTM 3000 all outdoor, all IP radio, and order backlog is growing in line with our expectations. The WTM 3000 product line is a highly flexible all-outdoor solution with capacity scalability up to one gigabit per second. WTM 3000 complements our overall product line by giving us solutions for all indoor, all outdoor, and split-mount indoor/outdoor applications, all of which can be used in the customer network.

I mentioned in the last call that a millimeter wave version of the WTM 3000, which we call the WTM 3300, targeted toward the 80 gigahertz E-band frequency range is being developed for introduction later in the fiscal year. Interest in this frequency range, and in particular, our implementation of it is encouraging. This product is a unique blend of up to one gigabit performance, with an ultra-compact design targeted at short-range urban links. We are seeing a lot of interest from mobile customers for both macro and small-cell backhaul applications as the distance between cell sites shrinks further. We will provide more insight on progress in the coming quarters.

A recent and significant software release on our Eclipse platform extended the range of carrier ethernet functions and networking capabilities, as we continue to address the migration toward higher microwave capacity with IP networking flexibility. Deployments of these features are taking place in several of our largest customer networks. Our future solutions for microwave networking capabilities are also progressing well, and our next generation Aviat Packet Node platform, which we are branding as the Aviat CTR 8000 family of products, remains on track to start undergoing customer evaluation in the early part of calendar year 2013. The CTR 8000 represents the future of highly-integrated microwave networking, and offers our customers an elegant migration path by reusing much of the network investments that they have already made. We strongly believe that our ability to serve customers with leading edge products and first-class professional services will set us apart from competition and allow us to increase shareholder value in the long run.

Now I'd like to provide a recap of our fiscal year 2012 key objectives and accomplishments. We are very pleased with the progress we have made this past fiscal year. Our key areas of focus in FY '12 were acquiring new customers, focusing on improving costs and operational efficiencies, continuing to accelerate innovation in wireless transmission, and investing in our service capabilities to strengthen our competitive position. In fiscal year 2012, as I mentioned earlier, we acquired our 119 new customers with contracts above $100,000 with the largest number of new customers in North America, which also were heavily weighted toward non-mobile, including four new low latency customers. These are unique customers that were not spending at that level with us previously.

Operationally, we continue to align the organization to ensure our ability to streamline processes and reduce complexity in order to maximize effectiveness and optimize investments. Our efforts to date have yielded significant OpEx improvements as compared to fiscal year 2011. Our technology road map continues to stay on track, as we remain focused on improving our value proposition which we define as total cost of ownership. Our current portfolio, as complemented by the recent addition of our new ODU and outdoor family of products provides us with the compelling TCO proposition, and this will be further enhanced by our pipeline of more new products to be introduced in the balance of the fiscal year. This past fiscal year, we have seen an increasing demand in our services and support business, from our turnkey implementation to managed services. These services have seen growth year over year in orders, revenue, and earnings contribution.

As we look to FY '13, our focus will remain on continuing acquisition of new customers. Fueled by our strengthening value proposition, we are raising our stakes as per our announcement naming Heinz Stumpe as our CSO. Heinz's proven global experience in multiple functional disciplines and established customer relationships will provide additional momentum for our sales organization. We are also increasing our investments in our go-to-market activities to further improve our coverage and skill sets. We will continue to focus on improving costs and operational efficiencies. We will be optimizing our OpEx, and we will have continued focus on our G&A spending by evaluating new opportunities to reduce costs. We will continue to accelerate innovation in the wireless transmission, and we will continue to invest in our service capabilities by leveraging our network operating center and turnkey services.

Now, I'd like to turn the call over to Ned for an overview of our financial results. Ned?

Thanks, Mike. Our GAAP financial statements, along with a reconciliation of non-GAAP financial measures, are included in our press release, issued today following the market's close. I would like to take a few minutes to summarize our non-GAAP financial performance at a high level. As Mike mentioned, we had a solid quarter, with several results above expectations. The key highlights were, book-to-bill was once again above 1.25, in addition to our solid top-line performance. We've been able to deliver a book-to-bill greater to or equal to 1 for eight of the last nine quarters. This performance has certainly supported our ability to meet or exceed our revenue commitments recently.

Revenue for fiscal Q4 came in at $116 million, which was above our guidance range. Sales were particularly strong in our reported Middle East and Africa segment at $46.9 million, and we saw a continued solid performance in North America, with another quarter above $40 million. In terms of product and services revenue mix, we were a little more heavily weighted toward service than in fiscal Q3, with quarterly revenues breaking out at 75% product-related and 25% services-related. Our significant Tier 1 mobile operator in Africa, MTN, was once again a 10% customer in the fourth fiscal quarter. Non-GAAP gross margins for the quarter were 28.6% of revenues, below our guidance range.

In sum, we have consistently cautioned about how the mix and the timing of product deliveries and the proportion of services to total revenues can bring volatility to our quarterly gross margin rates. In our past two quarters' earnings calls, we were quite specific about how product and geographic mix have been favorable for gross margin results. This quarter, unfortunately, we observed the opposite effect in terms of mix. Compared to the previous sequential quarter, we delivered less, higher margin product to certain customers, and one US public safety customer in particular, in North America. In Africa, one of our significant customers, took a large volume delivery that included a disproportionate percentage of a product line that carried lower than average margins.

And likewise, in Asia Pacific, the volume of higher-margin product revenue with a particular Tier 1 operator was substantially lower than in fiscal Q3. While the choppiness of our large customers' buying patterns and delivery requirements is to be expected and anticipated, I will simply reiterate that the effect from these on a single quarter's gross margin rate is difficult to predict. We had a relatively strong quarter for our services business, which contributed revenue and margin, thanks to improved fixed cost absorption that offset some but not all of the observed product mix issues. And finally, but not insignificantly, we experienced a degree of unfavorable foreign exchange effects arising out of a stronger US dollar, versus the currency of many of the countries wherein we conduct our business.

We have a hedging program in place for our forecasted FX exposures. The overall FX loss in the quarter includes the ongoing cost of hedging, which is recurring, plus certain FX losses on balance sheet revaluations, net of their offsetting hedges. And then, there are certain currency exposures in Africa which cannot be hedged at all. Overall, relative to our outlook, this had an unanticipated 44 basis point negative impact on our gross margin rate in fiscal Q4. We do not expect this to be a recurring item, but given the nature of foreign currency fluctuations, there is always the potential for end-of-month foreign currency balances to vary slightly from the amounts that were hedged, based on prior months' forecasts. And regarding currencies that cannot be hedged in the derivatives markets, we continue to work on finding ways to repatriate those cash balances in a tax-optimized manner.

Non-GAAP operating expenses for the quarter totaled $32 million, and were at the mid-point of our range, despite variable expenses that increased with our top-line performance, such as year-end accelerators on sales commissions. Having said that, our focus on optimizing operating spend delivered our fifth consecutive quarter, wherein non-GAAP OpEx decreased in absolute dollar terms. And going forward, we will continue to have deliberate focus on G&A as an opportunity for the Company to improve in the coming quarters, so we may optimize OpEx across all line items. In speaking with a number of fund managers and investors on our [non-heel] road shows and updates, we've been asked about what our non-GAAP EBITDA might be, as it's important to their investment perspective and analysis.

We've listened to this feedback, and incorporated a reconciliation deriving adjusted EBITDA for the relevant periods and the financial tables provided in our press release. The Company generated a positive adjusted EBITDA of $2.9 million in the last fiscal quarter, and $10 million for the full fiscal year. Non-GAAP income earned in the quarter was $1.2 million or $0.02 per fully diluted shares. Our continuing sharp focus on working capital management, as Mike mentioned earlier, delivered outstanding results in the quarter, that were, again, well above expectations.

Our cash and equivalents balance increased $5.5 million during the quarter, and we ended the fiscal year with $96 million in cash. GAAP cash flow from operations was a positive $9.2 million. With CapEx in the quarter of $1.5 million, our free cash flow stood at a positive $7.7 million. Our collections performance in the quarter was very strong, with receivables being reduced by $16 million, and DSOs substantially improving from 87 days to 71 days this quarter. DSOs now stand at historic lows for the quarter, for the Company, post-merger. Inventory turns eroded slightly to 4.4 in the quarter, and days payable ended the quarter at 57 days. With this very strong performance during the quarter, our cash and equivalents balance now amounts to $1.56 per fully-diluted share.

Reflecting back on the fiscal year, we're gratified in observing the following themes. Book-to-bill performance continued strong, and averaged above 1 for the fiscal year. Our top line has stabilized, with the year's revenues totaling $444 million, down from $452.1 million the previous fiscal year, but strengthening in the last half of this year. Non-GAAP gross margins stabilized as well, with fiscal year '12's gross margin of $134.1 million or 30.2% of revenue, compared to $135.8 million last year, or 30.0% of revenue. Non-GAAP operating expenses were reduced substantially year-over-year, from $142 million last year to $129.6 million this year. Non-GAAP basic and diluted income from continuing operations for fiscal year 2012 stood at $0.06 per share versus a non-GAAP loss from continuing operations of $0.11 per share last fiscal year. And lastly, our concentration on cash generation and working capital management certainly bore fruit, with cash flows from operations in fiscal year 2012 totaling a positive $8.4 million versus a use of cash from operations of $41.5 million last fiscal year.

Now let me conclude the financial section of the call with our guidance for our first quarter of our fiscal year 2013. Based upon current trends, our revenue outlook range is $111 million to $116 million. We expect Q1 fiscal year 2013 non-GAAP gross margins to be in the 29% to 30% range. As we've stated on previous calls, we've driven sales of our existing product lines in the last couple of quarters and are phasing in our new cost-reduced products as they become generally available. We continue to caution that as we experienced in the last three sequential quarters, mix can have a significant impact on gross margin rates in one direction or another.

Given variability in product mix, geographic mix, service volumes, carrier choppiness, timing of customer deliveries especially in the large projects, and pricing, this gradual improvement in margin may very well not be linear. But our general trends are the following. In the short term, or first half of our fiscal year, we see non-GAAP gross margins improving, compared to this quarter's performance, in the 29% to 30% range. This will be due to anticipated product mix in certain large products that we have visibility to as of today, wherein customers will be taking delivery of lower-margin products than we have experienced in the past, and one certain project in Europe with a Tier 1 customer that we consciously took at strategic pricing, understanding the upsell opportunity down the road with that customer.

During this timeframe, we'll continue to transition to our ODU 600 radio units and remain highly focused on optimized inventory management of our legacy ODU 300 units to purposely avoid any substantial E&O write-offs. In the intermediate term, or the second half of the fiscal year, we see strengthening non-GAAP gross margin rates at or above 30%, thanks to the continued introduction of our newly-developed low-cost product platforms and the completed transition to ODU 600. And longer term, we continue to see our gross margin targets approaching the mid-30% range, to be obtained primarily through the continuing introduction of our next generation of products that are currently in development, as Mike referred to earlier, including the introduction of our new CTR 8000 Packet Node networking platform.

Given our anticipated gross margin performance in the first fiscal quarter, we're going to deliberately focus on modulating operating expense in the quarter, to deliver on the bottom line. We expect that our non-GAAP operating expense spend will be reduced for the first fiscal quarter, compared to this past quarter, and will be in the range between $31 million and $32 million. The top end of this OpEx range, reflecting any variability arising out of our revenues coming in at the high end of our guided range. On a go-forward basis, opportunities remain to further optimize and better align our spending, especially G&A, and insure that we are investing in those key areas supporting our long-term objectives, which remain profitability and positive cash generation.

We're anticipating solid cash collections again in the first quarter, given the accounts receivable balance and our backlog. Our expectation is that we will modestly increase our cash and equivalents balances in the coming quarter. From a financial model perspective, you should note that starting in Q1 of fiscal year 2013, our reported non-GAAP income from continuing operations will include income tax expense based upon the Company's expected annual cash tax liability, and each quarter's reported results will include income taxes equal to one-fourth of the estimated annual cash tax expense. Accordingly, to simplify the reporting of our income tax obligations, and to measure those taxes in a way that closely resembles the impact to the Company's net assets, we will estimate and expense for non-GAAP purposes, the cash tax liabilities we expect to incur during the 2013 fiscal year.

As a result of operations in certain jurisdictions operating at a profit, we expect cash taxes of approximately $2.5 million in fiscal year 2013, or approximately $600,000 to $700,000 each quarter. We expect to use this estimated cash tax methodology in future periods for non-GAAP reporting purposes, updating the forecast of cash taxes each year, and subjecting the methodology to reassessment as necessary. So with that modeling update, I'll turn the call back over to Mike for his executive summary.

Thanks, Ned. As mentioned earlier, I'm very pleased with the improvements we made in fiscal year 2012. We're now at the inflection point of our business strategy. We have restructured our business successfully. Through the process, we were able to retain current customers, and have restarted our innovation engine. We have an improved financial model, as reflected by our year-over-year performance, and are executing again on our key performance indicators.

With restructuring largely behind us, we are seeing the potential to generate cash on a more consistent basis. We're entering the new geographic and vertical markets. We're adding new customers, and have introduced new products to enhance our competitive position. We will have more new products in the pipeline. Our competitive position, as reflected by our value proposition, will advance further. We are well-positioned for more consistent profitable growth and cash generation, which should result in increased shareholder value. Now I'd like to turn the call over for questions. Operator, you may proceed with the Q&A.

(Operator Instructions)

Our first question comes from the line of Blaine Carroll with Avian Securities. Please go ahead.

Congratulations on the quarter and the outlook. I've got a few questions here, but I'll just buzz through a couple in order. First, Ned, could you talk about the linearity during the quarter? And I guess I'm looking at both orders as well as revenue linearity. It must be a real headache for you to try to do the logistics on shipping all this stuff. The revenue does bounce around from region to region. I'm assuming that's what you mean by timing of products to certain customers that is impacting the gross margins. So that's going to be hard to juggle, isn't it?

I think it speaks to the excellence of our operations group, Blaine, to be perfectly honest with you. To be able to get this done within each quarter. And at the same time, satisfy our customers' requirements, which are indeed choppy. Our operations and manufacturing group is absolutely world-class coming out of the Thailand recovery and now as we product transition to our ODU 600 from our ODU 300 and manage that to an exquisite result, we're very delighted with the quality and caliber of our operations team getting us to where it is we need to be every quarter.

What is linearity, is it more of the orders and more of the shipments able to be done in the beginning part of the quarter?

I think it's fair to say that linearity continues to improve. I think the sales team is doing a much better job getting those forecasts into our system so that we can then, in terms of lead time items and manufacturing, get the product out the door. But I will tell you it continues to be somewhat of a challenge. Again, with our large carrier or our large non-mobile customers, in terms of the demands they're placing for product deliveries. That's tough to forecast.

All right. To get the breakout between mobile applications and the non-mobile because a fair amount of the discussion has been on the non-mobile side.

Yes. I can provide that. In terms of our split between mobile and non-mobile in the fourth quarter. From a North America perspective, we actually had -- there was about 32% of mobile and 68% non-mobile.

North America?

Which -- yes, North America. Q3 was about 34% mobile, 66% non-mobile. So pretty flat. And then on a global basis, because you actually have the inverse effect, internationally. But globally in the fourth quarter, we were 68% mobile, 32% non-mobile. In the third quarter, 66% mobile, 34% non-mobile. We actually finished -- on fiscal year 2012, our mix was 67% mobile and 33% non-mobile. Pretty steady in that 70/30, high 60s range.

Okay. Thanks. And then the low latency radio that you're talking about, is that going into time-sensitive data applications, or is that going into video applications?

That is specifically in the vertical that's known as high-frequency trading.

Yes.

This is literally for key trading houses and resellers trying to build networks between trading desks and exchanges, and have that data transmitted with the lowest latency possible. Believe it or not, microwave provides a lower latency solution than fiber optics for a number of different reasons -- number one, inherent technology; number two, the repeater technology in fiber optics; and number three, you can build a line of sight network with microwave that you don't generally see with a fiber optic network that's somewhat circuitous. And so, the nanoseconds that these low latency networks can provide between trading desks and exchanges, provides investors a significant opportunity to make a lot of money.

Okay. And then last one from me. On the receivable improvement, was any of that the receivable in India?

So the India receivable, Blaine, in the fourth quarter we collected somewhere between $1 million and $2 million. Since the end of the quarter, we've collected another $600,000 or so. And we continue to successfully work the commercial issues and continue to expect to collect substantially all the remaining net receivable balance, gradually over the coming quarters. It was not a significant impact on our overall collections.

What is that, about $6 million left?

We continue to characterize it as single-digit millions.

Greater than $5 million?

Single-digit millions.

Thanks, good luck.

Thank you. Our next question comes from the line of Barry McCarver with Stephens, Incorporated. Please go ahead.

Along the lines of the last questioning, how much of your business falls within the vertical of high frequency trading today? Is it still a pretty small piece?

It's a small piece. And we don't expect it, we characterize this market as an emerging market, difficult to predict how big the market can be. But even in a more mature level, the market would be one of the smaller verticals, albeit highly lucrative, in terms of the quality of the business.

Got you. And then thinking about your guidance for the first quarter coming up, can you give us an idea of the mix of business you're expecting in the quarter, and then any big changes geographically from 4Q that you've got your finger on there?

I think it's steady as she goes in terms of US versus international. I think it's steady as she goes in terms of products and services. Products and services, a breakout of 75/25, I think is something that we're going to continue to see here going forward. That is in stark contrast to last year, fiscal year, where products and services broke out at 80/20.

I think we've been very successful in proving to Tier 1 operators in North America that we can help them with their installation. I think certainly the non-mobile space, our value-added services are absolutely being taken and warmly received. And on added services business, in terms of our NOC capabilities here in the US and now outside the US are starting to be taken advantage of, as well. So I think, all in all, relatively steady state. And gross margins improving from what we saw this quarter.

And it sounds like you're certainly hinting that the fiscal year is going to be a little bit back-end loaded in the last two quarters for revenue expansion, particularly in North America. I guess, just verify that I'm making sense if that is the case, and how confident you are, and to what extent is that key to hitting your intermediate gross margin goals there?

I want to be specific. I think the telegraphing that we're sending is about gross margin improvement. I don't think we're telegraphing anything, to be specific, the guidance that we're providing is only for the next quarter. We did want to give some special color to gross margin, given the performance that we saw this quarter, to make sure that people understood where we were coming from, and the improvements that we saw from the continuing roll-outs of our new lower cost platforms in the second half of the fiscal year.

Yes. And we're referring to gross margin rate improvement, to the extent there is some attribute of gross margin improvement that's volume related.

Correct.

We do have some fixed costs from a manufacturing perspective. But notwithstanding change in mix, everything else we've explained, that's kind of how we're going at it. No indication of what we're telegraphing for revenue, as Ned has indicated.

Okay. Great. that's helpful. Thanks a lot.

Thank you. Our next question comes from the line of Rich Valera with Needham & Company. Please go ahead.

A followup question on the gross margins. It sounds like you're guiding for something slightly north of 30% for the second half of this fiscal year. If you look back to the last fiscal year, the first half you averaged about 31%. So it sounds like maybe under a good case, you'd be roughly flat versus the first half of last year. Yet would presumably have a much higher proportion of your revenue from your new low-cost ODU product. So, understand what's going on under the hood here, presumably there's some sort of pricing declines in the market. Are they at this point pretty much offsetting the lower cost of your ODU? Also is the mix toward service adversely affecting that gross margin mix, as well? Just trying to understand why we're not maybe seeing the improvement we would have hoped to later in this fiscal year versus last year's first half.

Rich, this is Mike here. We're giving an indication of improvement in the second half in gross margins versus the first. And I think we're staying above 30%. We haven't -- we didn't give a range in terms of whether it was 30%,31%, 30%, 32%. So it would be a bit of a stretch to go directly to your assumptions. Take it first as an improvement over the first half, of which we expected to be over 30%.

Okay.

As far as the ability to do -- how good can gross margins get, what we do understand, now that we're in the middle of our product transition rather than at the beginning of it, we now have control over the transition to the ODU 600 from the HP, and we've been managing that along the lines of optimizing inventory, and they've got lead times to deal with, and that management is something that we now understand and we can see the impact that would have. Beyond that, like any major new product introduction, we expect to be on -- there's a startup cost associated with new products. And we expect to be beyond that startup cost as we're into the second part of the fiscal year.

We've got a pretty good handle around the cost side of the equation. Of course, we expect pricing to be an ongoing thing. Net of those factors, we do expect to see an improvement above 30%.

Can you give us a sense of what percent of your product revenue was comprised of the 600 in this most recent quarter? Just so we can get a sense of how that might improve as we work through this year.

Yes. I think we had stated that over 25% of the outdoor radio units that we shipped in the third quarter were the new ODU 600. That metric was actually fairly similar in the fourth quarter. It was slightly up, but not significantly. We would expect that to be in the 70% to 80% range of all outdoor units shipped, by the end of this calendar year.

That's a helpful metric. Appreciate that. Looking a little longer term, you mentioned the planned -- I want to be clear, what exactly you're saying about the packet node product, the CTR. You said something about in the first part of calendar year 2013, was that initial shipments? What are we expecting there?

We expect to start getting customer validation, working with customers in that timeframe, in the 2013 front half of the calendar year.

That doesn't mean revenue. When are we talking initial revenue --

I think as we've been saying consistently is, even though we would expect a shipment of our product before the end of our fiscal year, that we wouldn't expect any material revenue in fact to happen until fiscal year 2014.

Okay. That's helpful. So this year, it's really about getting the 600 being manufactured efficiently, getting rid of those startup costs, and obviously increasing it as a percent of the ODUs shipped, it sounds like.

Yes. This year, we've got the 600 completing that portfolio. We've got a next version of our all-indoor product for North America. We've got the full suite of all outdoor IP radios coming out. And notwithstanding that, we continue to focus even on cost enhancements to our existing Eclipse platform, not to think that we're waiting on something in the far future. We all understand that improving costs, leveraging our supply chain in a better way is also part of the formula to improve gross margins.

Okay. That's helpful. Thank you very much.

Thank you. Our next question comes from the line of Aalok Shah with DA Davidson. Please go ahead.

Just a couple of quick questions. In terms of the gross margins again, by geography I know it also wavers quite a bit. But if you can give me a sense of how you think the bookings start to line up toward, should we start to think about maybe seeing a little bit more of a better margin mix because of geography as well in the second half of the year?

Well, I mean, I think -- I think we stated before from a margin perspective, our highest performing products are in North America. I think North America will continue to be a flagship region for us, as well as Africa. So really the biggest takeaway is we don't expect to see any significant deviation with respect to the Africa and the North American business. Within those geographies, there is mix even within those geographies, so it's very difficult to predict exactly. Too hard to say right now whether or not there is going to be any significant change in the geographic mix, which can have an impact on gross margins.

Okay. Maybe explain it to me because I'm maybe not too clear. When you sell a product, something that requires several quarters of installation and several quarters of bookings, would you necessarily see a strong services contract associated with that? So if you're dealing with a Tier 1, would you see a pretty strong services contract for a couple of years, or is it only at the time of the installation? How do you guys account for that?

Yes. So we've got large turnkey projects that -- Ned can explain how we deal with the accounting on the large projects where you've got services bundled with product. But as far as how we deal with things, we usually take -- when we have a large project, we usually take no more than a year at that project at a time when it comes to our booking. And the services -- there is different types of services. You've got the implementation related services that would be done along with the product being installed. Then we have maintenance services, as well, which has taken over the course of the maintenance-level agreement on a monthly basis. Ned, I don't know if you want to explain a little on how we might do the accounting from a project perspective.

That's pretty much it. In terms of MLAs, maintenance level agreements are over the course of their extended term, to the extent we have installation services or Tier 1s here in North America. We bill as we execute. To the extent that we have percentage of completion contracts for very large turnkey contracts, that obviously comes under percentage of completion accounting.

Okay. Ned, is it fair to assume then the maintenance contract portion of the services line is higher margin generally?

I think generally yes. Having said that, the new value-added services that we are providing in cases like our low latency deals, the value that we're providing and creating there I think is being recognized in our margin rates in those services, as well.

Okay. So netting all that up then, I guess to the -- getting to the major point of my question, do we expect this mix of revenue to stay relatively consistent? I know you have higher-margin products coming to market. You have potentially some stronger business in North America. But do we expect this mix between product and services to remain pretty consistent to where it is today?

I think from the top level perspective, yes. And I think you have the opportunity to improve margins both on the product side and on the services side going forward.

Okay. And then Ned, very good job in the accounts receivable department. I know you talked a little about the collection of cash in some geographies. Was there anything else that stood out to you as to why accounts receivables went down as much as they did?

Again, Aalok, as when I first came on board, Mike and I certainly said one of the key focus points on my watch would be working capital management, cash generation. It's almost a matter of what gets measured gets done. So we had a very exhaustive focus across the Company, including operations, including manufacturing, including logistics, including collections, customer satisfaction, to really get done what we needed to get done, and optimize our shipments and optimize our customer relationships to make sure that we're able to optimize our collections effort and our working capital management.

Okay.

It's a job well done across the Company.

And then last question. In terms of where you are now with the product portfolio, Mike, if you can give us a sense of where you think you stand competitively now? I know you have done a bang-up job the last couple of quarters. Where do you think you still have some holes, and where do you think you might start to -- you think you're starting to take some incremental share at this point?

I'm elated as to where our current portfolio stands today in terms of competitiveness. We have a very compelling proposition today. Of course, that position will continue to strengthen. And of course, the cost side of the equation will improve, as well. I'm very satisfied with where we are today, and very confident in the road map that we've got going forward. That's me.

Having said that, we just came out of our annual sales conference which took place last week. I think I talked, when I first got in the CEO role, I talked about coming out of the first one as being the CEO and how everyone was so pumped up and motivated. The difference between last year and this year is, not only was everyone motivated, they had confidence. They had confidence in what we have today and they have confidence on what's on our road map. That's exciting to see. I'm very energized by it.

Great. Thank you very much.

Ladies and gentlemen, that does conclude the Q&A portion for today's conference. Thank you for participating in the Aviat Networks fourth-quarter FY 2012 financial results conference call. If you would like to listen to today's replay, the number is 1-800-406-7325. Access ID 455-7175. Thank you for your participation. You may now disconnect.