Aviat Networks Inc (AVNW) 2014 Q3 法說會逐字稿

Good day, ladies and gentlemen, and thank you for standing by. Welcome to the Aviat Networks third quarter of FY14 earnings conference call.

During today's presentation, all parties will be in a listen-only mode. Following the presentation, the conference will be open for questions. (Operator Instructions)

I would now like to turn the conference over to Leslie Phillips of Investor Relations. Please go ahead, ma'am.

Thank you, Operator. Good afternoon, everybody, and welcome to Aviat Networks fiscal third-quarter 2014 earnings call.

I'm joined today by Mike Pangia, President and Chief Executive Officer, and Ned Hayes, Senior Vice President and Chief Financial Officer.

During today's call, management may make forward-looking statements regarding Aviat's business, including statements relating to projections of earnings and revenue, 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. Please note that these forward-looking statements reflect the Company's opinions only as of the date of this call, and the Company undertakes no obligation to revise or publicly release the results of any revision to these forward-looking statements in light of new information or future events.

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 Aviat Networks' website at www.aviatnetworks.com.

In addition, during today's call, management will be referencing both GAAP and non-GAAP financial measures. A copy of the press release and financial tables, which include a GAAP-to-non-GAAP reconciliation and other supplemental financial information is available on the Investor Relations Section of the Company's website.

Now I'll turn the call over to Mike.

Thank you, Leslie. Today we announced our third quarter of FY14 results. Total revenue for the quarter was $81.4 million, resulting in a non-GAAP loss of $0.16 per share. Non-GAAP gross margin came in at 25.8%.

We implemented important components of our restructuring plan in response to the cyclical slowdown that the entire microwave backhaul industry's experienced over the past few quarters. We believe our plan better aligns the Company's cost structure with our near-term outlook.

We are on track to exit the fiscal fourth quarter with non-GAAP operating expenses of approximately $27 million. We are also on track to lower the Company's quarterly breakeven level to approximately $90 million, and expect to see gross margin improvements in FY15.

Moving forward, we are taking steps beyond our restructuring plan to position the Company for profitable growth. While our cash balance is sufficient to run the Company, we see room to improve our liquidity position through further improvements in our cost structure and, in particular, working capital management. Ned will speak to these changes in a few minutes.

As I mentioned, our fiscal third quarter results reflect the cyclical nature of the microwave business, where demand differs greatly by region, customer, and vertical market. The cyclicality is clearly on display in Africa where revenue declined 42% versus the same quarter of the previous fiscal year and was down 44% during the first nine months of FY14 versus the same period in 2013. These declines occurred despite the fact that we've maintained a very strong position in this market.

While operator spending remained weak in Africa, we did start to experience an improving pace of business in our other markets.

Our third quarter book-to-bill ratio was substantially above one, making the third consecutive quarter in which this ratio was above one. As a result, our backlog is improving.

In addition, quoting activity has increased, and, overall, we are encouraged by the potential new business in the pipeline. Our new products have already opened doors to new customers with orders received for both our CTR 8540 and our new WTM3300 millimeter wave solution.

Looking back on the quarter we just reported, I'd now like to provide further details on our customer wins and their respective geographies and how this new business fits into the Company's growth strategy. I will also discuss our new product launches and encouraging signs we see in the market.

Turning to North America, we experienced a sequential uptick in business versus the past couple of quarters. North America revenue included an increase in business within the mobile operator segment, as our customers continued with the build out of what are now the largest global deployments of LTE.

In public safety, while sale cycles have lengthened over the past several quarters, we've seen a growing pipeline of deals. During the quarter, we converted one of these deals into an $8 million contract win for a major California county. For this project, Aviat will provide its Eclipse IRU 600 radio, as well as the planning and professional services to replace the county's microwave backhaul network.

The IRU600 provides the capacity, reliability and security features to integrate into public safety networks like FirstNet, the federal authority charged with deploying the nation's public safety broadband network.

Regarding FirstNet, in March we announced the results of an LTE evaluation in the public safety communications research lab. This lab can be seen as the gatekeeper for products to be used for US public safety broadband rollouts, including FirstNet. We are encouraged by this recent activity and continue to see public safety as a solid and promising market for Aviat.

Moving to the emerging markets, several customer wins came in during the quarter. In the Asia Pacific market, Aviat was selected by Telecom Papua New Guinea, to provide the microwave backbone for the country's first major broadband network rollout.

This is the contract that we mentioned a couple of quarters ago that returned to rebid due to a customer procurement change. In both the initial bid and after the contract was rebid, Aviat successfully secured the business with this new customer, which will be worth around $20 million in the initial phases. To date, we have received most, but not all of these orders and have recognized approximately $6 million in revenue.

Having been in Papua New Guinea only a few weeks back, I can confirm firsthand that the deployment conditions, which involve mountains, thick jungles, and large structures of water, are quite challenging.

Our work with TPNG demonstrates two competitive strengths. First, the reliability and resilience of our equipment in the most strenuous environments, and, second, our end-to-end capabilities which provide the customer with the lowest total cost of ownership and highest return on their investment.

Now looking at Africa, while the third-quarter performance was impacted by cyclical downward trend of CapEx spending by mobile operators in this region, particularly MTN, during the quarter we revealed that the expanded services contract, which we referenced previously, is with them MTN Nigeria.

We are confident that this contract creates an even stronger foundation to expand our footprint with MTN in the longer term.

In addition to strengthening our relationship with our biggest customer, we are taking steps to diversify and grow our business in Africa. During the quarter, we announced a joint venture agreement with Ubuntu Technologies to form a co-branded telecom solutions provider in South Africa.

The JV will serve state-owned enterprises and public companies by offering Aviat's microwave networking solutions, in particular, the newly launched CTR 8540. We see this as an avenue to expand our services to all four South African telecom providers and also help them evolve their infrastructure towards next generation, mobile broadband, and enterprise services.

Now switching to product launches and updates. During the quarter, our successful launch of the CTR platform was accompanied by two important customer wins. The CTR is the industry's first purpose-built microwave router. The CTR fits a land-and-expand strategy where hardware sales lead to software upgrades over time.

The first customer to utilize the CTR is Entel, the largest telecommunications company in Chile. We've also received CTR orders from Osnova, a new customer in Russia, an area of the world where we see a substantial opportunity to grow market share.

Existing customers are also recognizing the improved capabilities of the CTR platform, and we are reflecting this in their requirement specifications.

The CTR enables mobile backhaul enterprise applications without the additional deployment of router devices. As previously stated, we anticipate this to be the most prevalent and emerging markets where customers seek new revenue opportunities by leveraging existing infrastructure to serve enterprise customers. Simply put, fewer boxes mean a more efficient network and a greater savings for our customers.

The CTR is receiving high marks from independent analysts. Infonetics' Richard Webb described the CTR as not just innovative, but potentially disruptive, recognizing the opportunity for mobile operators to reposition the [sell] site as a services hub.

Meanwhile, Emily Johnson, founder of Sky Light Research, names Aviat a mainstay in the microwave market, and validates the CTR's utility by helping customers scale as new applications push network performance.

In addition to the CTR, we recently announced that the WTM 3300 radio has reached general availability status. The WTM 3300 is the smallest and lightest 70 gigahertz to 80 gigahertz radio on the market. It is designed -- its design has been optimized for densified city environments, where we expect small cell deployments will fill critical connectivity and capacity needs.

With the products debut, we also announced that three customers have already placed WTM 3300 orders, including new mobile operator customers in central and Western Europe and an existing full-line telecom provider in South America.

We believe these initial orders speak to the WTM 3300's global app applicability and appeal. With microwave small cell predicted to grow at the fastest rate in the overall market, we are very optimistic about adoption of the WTM 3300 product.

These new products are innovated, yet, competitively priced, leaving the customer with little doubt that they offered the lowest total cost of ownership.

As we continue to actively bid the CTR and WTM platforms, we're drawing an audience of new customers, and customers who we haven't worked with in some time.

While we are aware of our near-term challenges, we are cautiously optimistic about our long-term opportunities, given the recent booking strength, the increased RFP activity, and the enhanced capabilities of our refreshed product portfolio.

As we remain steadfast in our current accounts by providing top-rated equipment and services, we're also confident in our ability to strengthen our position in markets where we currently do not have a large presence.

With that, I would like to turn the call over to Ned. Ned.

Thanks, Mike. Aviat's GAAP financial statements, along with a reconciliation of non-GAAP financial measures are included in the Company's 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. The key figures were the Company's bill-to-bill ratio in the fiscal third quarter was substantially above one, with a consequent improvement in our backlog for the coming quarters.

Revenue for fiscal Q3 came in at $81.4 million, down sequentially from $85.8 million in fiscal Q2 of this fiscal year, as we continue to observe weakness in both bookings and revenue in our Africa region.

Africa and the Middle East region revenues declined sequentially from $26 million in fiscal Q2 to $21.7 million in this fiscal quarter. This region's revenues have declined from $150.6 million in the first nine months of the last fiscal year to $84.7 million in the first nine months of this fiscal year, demonstrating the cyclicality we are facing in the region.

Still, MPN, our key account in Africa, was once again a 10 percent-plus customer in the quarter. It should be noted that a reported revenue in the quarter was not impacted by any changes in revenue recognition timing, arising out of our recently announced management services agreement with MTN Nigeria.

Having said that, North America was relatively strong in both orders and revenue, with new wins in the mobile space and continued expansion of our mobile operator customers' LTD networks.

Non-GAAP gross margin for the fiscal third quarter was 25.8% of sales. Gross margin in the quarter was negatively impacted by an increase in our customer services inventory excess and obsolete reserve, of approximately $1.5 million compared with last quarter, reflecting lower returns of legacy products as our customers are transitioning faster than we expected to our new generation of products.

We also had an unusually large freight expense overrun in the quarter as we dealt with a carrier customer facing continuing political upheaval in an African country. Without these anomalies, non-GAAP gross margins would have been closer to 28% of revenues in the quarter.

As we observed in our last fiscal quarter, lower revenue volumes had a significant margin rate impact caused by lower absorption of fixed cost on the product margin side and certain fixed cost on the services margin side.

For the fiscal third quarter, non-GAAP operating expenses totaled $30.9 million, which compares to $30.4 million spent on OpEx in the previous sequential fiscal quarter.

The quarter-over-sequential quarter increase was almost entirely attributable to a sizable increase in bad debt expense and writing off a carrier account in Africa of approximately $600,000.

It should be noted the actions undertaken under [the] 2014-2015 restructuring plan did not significantly impact the quarter's results, as headcounts were carried an additional month or two due to notification period requirements, especially here in the United States. But the majority of planned headcount reductions were completed by the end of the quarter.

Non-GAAP loss from continuing operations for the quarter was a negative $10.2 million dollars, or loss of $0.16 per share. Fiscal third-quarter adjusted EBITDA was a negative $7.8 million.

The company ended the fiscal third quarter with a cash and equivalents balance of $47.5 million. We ended the quarter with net cash, which is cash less debt of approximately $41.5 million.

In addition to the operating losses observed in the quarter and shifts in working capital, cash was impacted by payments on restructured liabilities of $2.3 million in the quarter, mostly relating again to our recently announced 2014-2015 restructuring plan.

Cash used by operating activities was $14.5 million in the fiscal third quarter. CapEx was approximately $2.4 million. Going forward, we expect the CapEx to settle back down to historical norms now that we've completed our ERP implementation and much of the capital activity around new product development.

Free cash flow in the quarter came in at a negative $16.9 million.

Now, on the working capital front, our inventory turns rate was 5.1 turns, DSOs were 89 days of sales, and days payable stood at 59 days.

We understand that we have to address our liquidity position, even though our current cash balance remains strong. We are not depending on a growing top line to improve things. We are vigorously taking steps to reduce operating losses and we already have taken the steps to get quarterly non-GAAP OpEx below $27 million in FY15.

Indeed, we'll be exiting this fiscal year at that level with further expense reductions contemplated for the next fiscal year.

Additionally, to further optimize and improve our cost structure above the gross margin line, we have a number of focused efforts that we believe will bear significant returns. First, our new product platforms have been designed at lower costs, with volume ramp cost reductions yet to come.

Second, we are well underway in consolidating our contract manufacturing, or CM, and warehousing facilities worldwide. And lastly, we have strengthened our procurement team to focus on product cost reductions on a wide variety of materials we use in the deployment of our new and legacy products.

A consolidation of our outsource manufacturing to a single CM will benefit us with a much simplified supply chain, volume discount product pricing, and allow us to do higher levels of product integration with our CM.

Beyond these expense and cost improvement initiatives, we also have significant opportunities to improve our working capital management by transitioning to a buy-to-order model, given significant improvements in our lead times, deploying a merge-and-transit supply chain model here in North America, substantially extending payment terms through renegotiation of supplier agreements and continuing to be diligent with respect to the quality of revenue in terms of accepted Ts and Cs.

Last, but not least, our recently amended Silicon Valley Bank credit facility provides us with adequate liquidity and flexibility as we go through our business transition. As we referenced in our last quarter's earnings call, the quarter just closed depicts the volatility we see in geographic markets, in product and services volumes and mix and the choppiness of the buying patterns of key customers and lengthening sales cycles and in quarter nonlinearity of bookings.

Given this limited near-term visibility and the impact that continuing cyclicality in our key [Africa] accounts have on our results, we will again not be providing specific revenue, margin, or non-GAAP earnings per share guidance for the fourth quarter of FY14.

That said, we do expect to see modest sequential top-line improvement for the fiscal fourth quarter of 2014, and we expect the company to return to quarterly positive cash flow generation in the first half of FY15, due to the financial benefits of our restructuring plan impacting future results along with the other cost and expense reduction and working capital initiatives currently underway.

So with that update, I'll turn the call back over to Mike for his executive summary. Mike.

Thanks, Ned. Our results demonstrate that we're in a tough market, with Africa continuing to be the most challenging. In this region, CapEx spending has been contracting and competition remains fierce.

Even with these challenges, the global backhaul space remains attractive. To maximize our opportunities, we are actively taking steps to position the company to be more agile and efficient. And while we're encouraged by the improving visibility and attraction our new products are receiving, we are very focused on improving our liquidity position to ensure that we can continue with a strong balance sheet and cash position.

As we position the company for profitable growth, we remain cautiously optimistic about our median-to-long-term prospects.

And now, Operator, we'll open the call to questions.

Thank you. Ladies and gentlemen, we will now begin our question-and-answer session. (Operator Instructions) One moment, please. Richard Valera, Needham and Company.

Couple questions on the cash situation. On, Ned, could you say how much domestic cash you have and how comfortable that position is? Secondarily, would you mind sharing the size of the credit line that you discussed and sort of what terms there might be on that? Those are my first two. Thanks.

Sure. So in general, Rich, the disposition of our cash is about a third of it in the US, a third of it in Africa, and a third of it in the rest of the world.

So given our current working capital and operational cash requirements, we feel that we've got sufficient balances right now for us to continue to conduct our business.

The new terms on our Silicon Valley Bank facility are allowing us the liquidity amount of about $40 million on that line. I think the interesting and important things to focus on are the covenants that we're looking at. Certainly, the adjusted quick ratio needs to be greater than 1.1. We report on that monthly. That calculation is unrestricted cash, plus AR, current liabilities less deferred revenue advances, whatever debt we have outstanding and outstanding [line of] credit. So we'll make sure that we abide by that.

We also have created a huge amount of flexibility going forward on our EBITDA covenants. If you take a look at what they are, we're looking at the quarter ending 3/28 is a negative $17 million, two quarters ending 6/27, at negative $27 million, and two quarters ending 9/26/14 at $12 million.

Certainly, those are not our forecast, but we believe we have certainly built up an extraordinary amount of headroom for us to make sure that we're in compliance with those covenants.

Great. That's helpful. And can you say what your rough expectations are for cash usage, if that's the case, in the upcoming quarter?

Yes. I think, in general, we will be, as we've described in the past, will be using cash once again to pay our restructuring liabilities. I think that number could be anywhere between $4 million and $5 million, and probably another couple million dollars being used in terms of operating losses and working capital shifts.

Okay, fair enough. Wanted to ask a few questions about some of the new products. So congratulations on the launch of the CTR and WTM products during the quarter.

Wanted to see if there's any color you could give on your expectations for a bookings ramp associated maybe with these products combined and when you think they'd be contributing, let's say materially to revenue. And I don't know however you want to define that, 5% or 10% of revenue. Just any color on how you think they're going to ramp.

And also, you made reference to the fact that they are lower cost from your existing products. Can you give us a sense of where you would expect the initial gross margins for the new products to be? And it sounds like you would expect them to go up over time with volume. So if you can give any color on the gross margin trajectory of them, that'd be helpful. Thank you.

Yes. So first off, on the new products in terms of the impact on our business. So we are positioning CTR very actively now on all new opportunities. It's intended to be primarily for the international markets. So I would see that over the course of the next fiscal year, you'll see us transitioning towards a CTR.

So I would expect that a fair amount of our business by the end of the next fiscal year will be CTR-driven when it comes to the indoor networking unit for the international markets.

On the 3300 -- and it's -- before I go into 3300, the CTR, given that's our indoor networking unit, that has a significant amount of volume in the business.

The 3300, which is the millimeter wave products, that market size is not significant at this point, but it's an important enabler and entry into many customers that are starting to deploy that technology. And that will be something that I think over time will be very well suited to the small cell segment.

So the 3300 will be a door opener, and I see that being -- growing over time, but nowhere as significant as the CTR. As far as margin impacts concerned, I would say that as we discussed in the script, the impact of CTR with respect to a land-and-expand strategy, I think that it's got a lot of capability from a software upgrade potential. Notwithstanding that, I would expect the CTR to be at least equivalent to the current margins we're getting with some significant upside driven by both the licensing capability as well as the impact on the cost side of the equation as we ramp the volumes.

I just want to make sure I understand what you're saying there, Mike. So initially would we put them at sort of the 30% gross margin where your products have been running prior to the dip in revenue here, and then with upside potentially to low to mid or -- I don't want to put words in your mouth, but.

No, we don't -- I'm only comparing it to the current margins. We don't break down our margins down to that level, Rich.

Sure.

We sell -- obviously, the indoor unit gets sold with outdoor radios and it's much more of a bundled sale. There's services included in several of our offerings. Again, relative to our current products that we're selling, I expect it to be a neutral to positive from the outset with a improvement of margins clearly over time, as results of the licensing capabilities, as well as improvement on product cost.

Okay, that's helpful. And one final one from me just on the Africa outlook. Obviously, you've gone through sort of a long slide here from a -- following a period of very high activity. And one could conclude maybe that there was some sort of burn-off of inventory, if you will, taking place here.

Do you have any sense of where we are in that process? And any view towards when the Africa business might start recovering?

Yes. Clearly the impact of inventory has had an effect, and that has come down significantly. Having said that, our largest customer, MTN, as they recently provided color on their capital requirements for the next fiscal year, they actually identified that their largest market, which is Nigeria, would see about a 23% CapEx reduction in 2014 calendar year.

And clearly, there's a focus by MTN to better manage their cash. I think they're optimizing that to the extreme.

The rest of Africa, in recent reports that we've seen, Africa, in general, most reports have been down. CY13 versus CY12, down into the around 14% based on what we've seen, 12% to 14%, in that range.

So those are all factors that clearly are working against us. We are seeing signs of more visibility and projects coming through with MTN. That's a positive sign. We are seeing budgets being allocated. So I would expect that that recovery will happen, but we're not -- the timing of it is the most difficult thing at this point to estimate, Rich.

We're taking actions outside of MTN in Africa, and I think our -- the activities that we've got going on in South Africa will help us in terms of diversifying our concentration of MTN until such time that they start spending again at a more normal rate.

Okay. Good luck with the turnaround, gentleman. Thank you.

Thank you. (Operator Instructions) One moment, please. And I'm showing we have no further questions in the queue at this time. I would now like to turn it back to Ms. Leslie Phillips for any closing remarks.

Thanks, operator. Before closing the call, I'd like to remind everyone that Mike and Ned will present at the Jefferies Global Technologies Media and Telecom Conference in Miami. Investors are invited to listen to the conference presentation which will take place on May 8th, 2014, at 1100 a.m., Eastern Standard Time. The presentation webcast will be available live and via replay on the Investor Relations site.

I want to thank everyone for your participation today and thank you for your interest in Aviat Network.

This concludes Aviat Networks fiscal third quarter 2014 call. Have a great day.