Aware Inc (AWRE) 2003 Q4 法說會逐字稿

Good evening, everyone, and thank you for joining this Aware, Inc., Fourth Quarter Earnings Release Conference Call. A reminder that today's call is being recorded. At this time, for opening remarks, I'll turn things over to the interim CFO, Mr. Dave Martin. Please go ahead, sir.

Welcome to Aware's Fourth Quarter 2003 Earnings Conference Call. I'm Dave Martin, the company's interim CFO. With me is Michael Tzannes, Aware's CEO. Thank you for joining us today. The agenda for the call will be as follows. I'll review financial results for the quarter. Next, Michael will talk about the business. And finally, we'll take questions.

A recording of this call will be available on our website, at Aware.com, after the call is completed. First, I would like to point out that various remarks we may make about future expectations, plans, and prospects for the company in the DSL market constitute forward-looking statements for the purposes of the safe harbor provisions under the Private Securities Litigation Reform Act of 1995. Actual results may differ materially from those indicated by these forward-looking statements. As a result of various important factors, including those discussed in the section titled ``Risk Factors'' in our quarterly report on form 10Q for the quarter ended September 30, 2003, which is on file with the SEC.

Turning now to financial results. Fourth quarter, 2003, revenue was $3.2m, and EPS was a loss of six cents a share. Last year, in Q4, revenue was $2.3m, with a loss of 19 cents per share. These results are presented in accordance with GAAP. Royalty revenue was $815,000 this quarter, which compares to $933,000 last quarter, and $552,000 in last year's fourth quarter. The sequential decrease in royalties was primarily due to lower sales of ADSL chipsets by Analog Devices. Contract revenue was $826,000 this quarter, which compares to $691,000 last quarter, and $620,000 a year ago. Contract revenue was up this quarter, primarily due to new business involving the licensing of our stratified products. Product revenue was $1.6m this quarter, which compares to $1.4m last quarter, and $1.1m a year ago. Product revenue consists of hardware solutions for ADSL applications, and software toolkits for biometrics applications.

For the quarter, we had three 10% customers -- Analog Devices, Infineon, and Spirant.

Q4 spending was $4.7m, which compares to $4.9m last quarter and $6.8m in last year's fourth quarter. Lower spending in Q4 compared to last year was primarily due to the effect of a reduction in force in Q4 last year, salary reductions that were implemented on January 1st of this year, and a charge for doubtful accounts last year that did not occur this year.

Our balance sheet is in good shape. Cash and investments were $39m at the end of December. Receivables were $2.6m at quarter-end, which translates into DSOs of 76 days. Our inventory levels were minimal, and we have no debt. On December 31st, we had 111 full-time employees. 80 of these employees were engineers. There were 22.8 million shares outstanding at quarter-end. And now, I'd like to turn the call over to Michael.

Thank you, Dave. I'm going to start today by giving a general update of our business. We've been working for several years now to develop a leadership position as a supplier of intellectual property to the ADSL industry. We invested in the development of an intellectual property offering that is a complete digital implementation of all required international ADSL standards. We call the resulting products our Stratify family of intellectual property, and they include complete digital chips as well as source code licenses for chip designs and software. These products implement the full suite of ITU ADSL standards and include the new ADSL 2 and ADSL 2+ standards. As a general industry comment, I'd like to point out that these new standards continue to gain momentum in the market because they provide capabilities that service providers need, like higher data rates, longer reach, and better diagnostics functions. Our belief is that the next wave of ADSL deployments will be based upon these new standards. A consequence of this primary strategy to develop a leadership position in ADSL intellectual property has been our ability to also establish a growing business in the test and diagnostics industry. This opportunity leverages our ADSL technology development as well as our Dr. DSL technology, which is for the most part outside the scope of industry standards. Today this opportunity is primarily served through hardware sales to test equipment manufacturers.

Our contract revenues for Q4 were up compared to last quarter. That is good, in and of itself. But the reason behind it is even more important. It's because we have more chips under development with customers than we have had in the recent past. These developments are the result of signing licensing contracts for our Stratify products. These contracts are with existing customers for new chipsets, as well as with new customers. The chips being developed use Stratify products and will address the ADSL 2 and ADSL 2+marketplace.

Turning to royalty revenues, which are for the most part made up of ADSL royalties, we see that from last quarter to this quarter, these were down, mainly because ADI sales were lower this quarter than last. This decline was partially offset from an improvement in royalties from Infineon. Pricing continues to be challenging in the ADSL chipset industry, and that's part of the reason for the overall decline. Another reason is that many of ADI's ADSL products don't support ADSL 2 and ADSL 2+yet.

Our Dr. DSL test and diagnostics business grew this quarter, and this was, again, for all the right reasons. The increase was the result of sales of hardware modules into the test and diagnostics infrastructure that provides pre-qualification, maintenance, and diagnostics for ADSL networks. Our largest customer for these products is Spirant.

Looking to the future now, I'll speak first qualitatively and then provide specific guidance for next quarter, starting with a discussion on royalties. I general, we expect royalty revenues to improve, as Analog Devices, Infineon, and other Aware customers expand their presence in the industry, with solutions that support all the required standards, including the new ADSL 2 and II-plus standards. As these new standards continue to gain momentum, and all indications are that they are doing so steadily, products from our customers should gain share. Analog Devices and Infineon are offering products today that support these standards, and as I mentioned earlier, there are other chipsets from these customers and other new customers that are under development. When these chipsets enter the market, they have the potential to improving our market share and thereby increasing our royalty revenues.

On the contract line, the goal is to continue to add new chipset developments that use our Stratify intellectual property. The value proposition of Stratify has validated itself, as evidenced by recent revenue improvements from licensing contracts. As the demand for new ADSL standards continues to gain momentum, we're optimistic that we will see a growing number of licensing contracts for our Stratify products.

To summarize on our ADSL business, we've spent a number of years developing a comprehensive intellectual property offering that supports all the required ADSL standards. This intellectual property is well-positioned to capitalize on a growing demand for these standards. Evidence for this is our ability to grow revenues by signing new licensing contracts. We believe this is a consequence of the quality of the intellectual property itself, as well as the industry requirements that it meets.

In our Dr. DSL test and diagnostics business, the rollout of the test infrastructure is still in its early stages, and we've established some solid initial product positions. We believe that we're well-positioned to capitalize on the growth in the test and diagnostics infrastructure that is accompanying the ADSL service rollouts that are taking place around the world.

Looking specifically at the first quarter, business looks better for Aware than it has for a long time. Our guidance for Q1 is for revenue to be between $3.2m and $4m. Our near-term visibility, which at the current time relates to Q1 revenues, is better than it has been for some time, and we expect that this situation will continue.

I'll turn for a moment to spending. Spending this quarter was $4.7m, and was $4.9m last quarter. Most of this spending goes towards salaries, and most of our employees are engineers. The remainder of it is primarily our cost of goods associated with the hardware element of our product revenue. We expect spending to stay in the $5m range for this coming quarter.

Looking forward, first from a qualitative viewpoint, here are some important milestones for Aware. The deployment of new ADSL services based upon ADSL 2 and ADSL 2+standards, existing and new customers getting to the market with new products for ADSL, ADSL 2, and ADSL 2 +. Analog Devices and Infineon are already doing this, and we're optimistic that other products from these customers as well as new products from new customers will follow. The longer-term consequence of these products getting into the market will be increased Aware market share in ADSL deployments, which will improve royalty revenues.

Another important milestone for the industry will be the standardization of VDSL, a technology that will enable 100 megabit speeds over the copper wires and fiber to the building and fiber to the network-- fiber to the neighborhood networks. We expect that a standard will be completed for VDSL in the next 12 to 15 months, and we intend to supply solutions for this exciting new opportunity.

For our test and diagnostics business, ADSL 2 deployments are also important, since some of our Dr. DSL technology leverages certain new tests and diagnostic features that are present in these new standards.

In the biometrics area, our goal is to continue to provide off-the-shelf software solutions that implement the various biometric standards of our OEM and system integrator customer base. This customer base is changing significantly, as biometrics is penetrating a variety of new marketplaces.

In closing, our business looks better than it has for a long time. Our belief is that it is the result of having developed the right solutions at the right time. It is still too early to predict when this turns Aware back to profitability, but we are confident that we're on the right path. With that, I'd like to turn the call over to your questions.

[Operator Instructions] We do have some questions. Our first question will be from Ted Moreau with Robert W. Baird.

Hi, Mike, good afternoon.

Good afternoon, Ted.

Just wanted to-- first of all, looks like momentum is moving forward here on the DSL front. I guess my general question is a little bit longer term in scope. With some of the new developments among the RBOCs primarily, especially their fiber-to-the-home initiatives now that they're talking about and even, you know, really the increasing investment in wireless, I just wonder what thoughts you have on what that ultimately might be on, impact on copper broadband and what is your thinking of maybe moving into some of these markets with some of your IP capability?

Well, I think for the foreseeable future, for the next three to five years, the primary vehicle for broadband deployments, and it could be very well be more than just that, more than just three to five years, but I think for that period of time, my confidence level is pretty high that the primary vehicle for broadband service deployment on a worldwide basis is going to be ADSL and moving in ADSL plus, II plus, and VDSL, eventually. And you know, I think fiber-to-the-neighborhood and to the building are certainly complemented by VDSL capabilities. Fiber-to-the-home is a very exciting thing, but I believe it also is something that will be complemented, and actually, in that case, it probably more complements what's going on in the ADSL world. I think there will be a lot smaller penetration of fiber-to-the-home lines deployed probably in our lifetime than of ADSL or cable.

From a wireless perspective, I continue to believe that wireless is also a complementary technology when it comes to the access network, so when it comes to delivering broadband services over the access network, not within a local are network, but over longer, wide area networks, that it also is going to have a tough time competing on a cost and quality basis with DSL on a worldwide basis. Within the home, or within an enterprise or within a smaller area, a more confined area, I think ADSL and wireless and this is typically known as wireless LAN kind of things, are very complementary to each other, and that's one of the big drivers that we see for broadband around the world -- broadband to the house, and then wireless LAN around the house. That's an area we've been doing some development in on a relatively small scale and we're not prepared to really talk about anything in detail yet there, but that's an area where we think we can leverage over time some of our expertise and technology, that area being the wireless LAN area.

So there are some other initiatives that could conceivably complement your ADSL--

Certainly. I think that, you know, nearest term, it's going to be VDSL, and I talked about that a little bit. You know, that's sort of the next stop. You know, I don't want to give the impression that ADSL 2 and II plus are- have lost their legs by any means. They haven't even really gotten going, but I think it's inevitable that they will, and I think we're in a terrific spot when they do, because we've really established a good leadership position in those standards.

Right. And Mike, that would be the other follow-up point here, that I-- where exactly are we on ADSL 2 and II plus, from a carrier, primarily, RBOC standard-- aren't they still in trial mode here?

Oh, sure, yeah. So, you know, the standard--

What's the timetable?

Right-- standards were finalized in '02 and early '03. The first-- so there's two of them, the ADSL 2 standard and the ADSL 2 plus standard. We started seeing requests for proposals from carriers during the latter part of '03, there was a deployment in-- or a reward for one of these RFPs made in Taiwan, in Chungwa [ph] for 800,000 lines that did have-- ADSL 2 was a requirement. There are several RFPs that are now in various stages of decision-making in Europe that have ADSL 2, in some cases, ADSL 2 +, as requirements. In the U.S., you're right, most of what's going on is still in the trial-- in trials, inside laboratories, but it looks, as I said earlier, that it's just an inevitability that phone companies are going to embrace these standards, and it's for reasons that are very easy to understand. In the case of the U.S. market, it seems right now to be primarily driven by the extended reach, the fact that ADSL 2 has a mode that allows it to go further and old ADSL, and that's a big driver for some of the U.S. phone companies. But ADSL 2+enables video and we're seeing a big push for that, all over the world. So you know, I think that time-wise, I would expect we'd start seeing some real deployments in certain pockets of the world this year, and then by next year, '05, pretty much everything that rolls out will be based on these new standards.

And Mike, on the U.S. timing, you know, Supercom is always the-- sometimes the inflection point for some of these things, and I just wondered whether these trials might get completed and some contract announcements on the ADSL 2 by mid-year or so?

Yeah, I wouldn't be surprised. I mean, there's a number of-- we've been very active in one important aspect of this industry, which is inter-operability, which is, you know, making sure that the modems on the CP side and the equipment on the CO side talk to each other, and a lot of these are done in public forums at the University of New Hampshire and other places, but a lot of this also is going on in more private settings, and we're very involved in those as well. And important equipment companies and important phone companies in the United States are very actively kicking the tires for these new standards, and I wouldn't be at all surprised to see some, you know, significant announcements of either new services or new capabilities that are enabled by these standards and certainly new equipment because we know that that is under development in lots of different places around the Supercom timeframe.

Right. So would it be fair to say that we might see some U.S. RBOC services might even be introduced by the second half of the year?

You know, you'd probably be a better guess at that than me, because you know these guys so well.

I'm just guessing that there-- I mean, that there is an emphasis now--

Yeah, I don't think--

--greater level of confidence.

So here's-- from my perspective, you know, I look at the kind of things that, having been in the ADSL industry for many years now, we know a phone company has to go through in order to turn on a service, and they are going through those things now. It's no guarantee that that means they'll turn on the service, but if they hadn't even started looking at the various capabilities that these standards offer, and working on things like inter-operability, I can tell, it just couldn't happen, even if they wanted to. But they are doing those things.

Right, right, OK. Thanks, Mike.

[Operator Instructions] We'll now take a question from Nathaniel Pulsifer with Pulsifer and Associates.

Thank you very much. Mike, several years ago, in the middle of the year, you published a sheet updating the ADSL connections around the world.

Right.

I don't recall seeing one last year, in 2003, and I wonder if you have any plans to put that together and to distribute it? Or if not, is there another source?

Yes, there is. There's a-- so we have been doing that, and internally we continue to do that. But what we've found is there is a source that was doing probably a slightly better job than we were, although in some cases we were digging a little deeper than they, but this source is called Point Topic.

OK.

And it's two words, Point and Topic, together. The website is PointTopic.com.

OK.

And they actually do a very comprehensive, periodic, at least quarterly, and sometimes more frequent, update of the DSL deployments and generally broadband deployments, so I think they also cover cable modem activity. And so I believe we've started deferring to those guys, and sometimes we'll post some of their stuff on our website. I'll check and see whether there's something from them that we could post on their website that would be, you know, up to date.

That would be very helpful. That would be very helpful.

And you know, to summarize what happened, I think at the end of '03, the number for subscribers around the world is just about 60 million, so you know, there was some 25 million or so added during of '03--

With the bulk of that in Asia?

Yeah, I think the bulk of that in Asia, a good chunk of it in Europe, France had a very strong couple of quarters, I know for sure. I don't actually have these numbers in front of me today, I often do bring them. I didn't this time. And you know, the U.S. has continued to steadily ramp and it looks like they may be getting ready to really turn it on a little more. But--

Which raises the question about cable -- there's been some discussion that cable is on the march and to the phone companies' rue. You did mention cable as a competitor, but how do you see that now, particularly with the ADSL 2 and II plus being apparently near at hand?

Right. Well, I think one of the things that is very important to the phone companies is to be able to compete on all service levels with cable, and the thing they haven't been able to do to date is video, and that is something that these new standards are going to make easier for phone companies to do. There's still a lot of challenges in terms of video. It's not just delivering the bits that represent the video, it's getting access to content, it's billing, it's all these other things. But you know, I have developed a very-- not a combative attitude towards cable. You know, I think when we look at the DSL market, we look at it as a worldwide market. I think the choice that consumers are going to make in various parts of the world over time are not going to be technology-based, they're going to be service provider based. Some service providers are going to be more aggressive or better at marketing and selling their services and in some cases, that's going to be cable. But I think in the majority of cases, it's going to continue to be DSL.

That's very, very comforting. And thank you for the reference to Dr. DSL. If I may put one more question to you, Spirant is the largest customer now. How many units did they have out in the field?

Yeah, we're not going to disclose that number. It's-- what we're deploying into this network is a piece of hardware that sits next to the infrastructure that's being rolled out for the service itself, this is the test and diagnostics infrastructure. Spirant is very strong in this infrastructure. It's generally true that as the number of service lines get turned up, so do the number of these types of equipment that needs to monitor them and provision them and maintain them. And we've established a direct link between rollout of DSL and some of the success of these products, so as these products, or as DSL starts ramping in other parts of the world, because most of our business right now is in the United States, for the Dr. DSL test and diagnostic stuff, as it ramps to other parts of the world, as video becomes more prevalent as a service that gets deployed, that's going to put an increased sort of demand on the test and diagnostics infrastructure, because video has a more demanding rate and quality set of requirements, it's-- it's, to date, has been tracking sort of the rollout of the services. And if we can build a business that does that over time, I think it'll be a successful business.

I, too. Thank you very much.

Thank you.

[Operator Instructions] And there are no further questions. I'll turn the conference back over to our speakers for any further or closing comments.

All right, thank you very much. We look forward to speaking with you again at the end of the first quarter. Have a nice evening.

And this will conclude Aware's Fourth Quarter Earnings Conference Call. Thank you everyone for joining us today.