Aware Inc (AWRE) 2005 Q1 法說會逐字稿

Thank you for standing by, everyone, and welcome to the Aware, Inc. first quarter 2005 earnings release conference call. Just a quick reminder, this conference is being recorded. [OPERATOR INSTRUCTIONS]. Now at this time, I'd like to turn the call over to the CFO, Mr. Robert Weiskopf. Please go ahead, sir.

Thank you. Welcome to Aware's first quarter 2005 earnings conference call. I'm Rob Weiskopf, the Company's 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 the 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'd like to point out that various remarks we make about future expectations, plans and prospects for the Company and the DSL market constitute forward-looking statements for purposes of the Safe Harbor provision 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 "Factors That May Affect Future Results" in our annual report on Form 10-K for the year ended December 31st, 2004, which is on file with the SEC. Turning now to the financial results: First quarter 2005 revenue was 4.2 million and EPS was a loss of $0.01 per share.

Last year in Q1, revenue was 3.6 million, and we lost $0.05 per share. Product revenue was 1 million this quarter, which compares to 1.5 million last quarter and 1.2 million a year ago. Product revenue this quarter consisted of software sales for biometrics and medical imaging, as well as hardware sales for ADSL test and diagnostics. Contract revenue was 2.2 million in this quarter, which compares to 2 million last quarter and 1.3 million a year ago. Contract revenue was up this quarter, primarily due to an increase in license fees and engineering services from our StratiPHY 2+ products.

Royalty revenue was 1.1 million this quarter, even with last quarter and last year's first quarter. For the quarter, Analog Devices and Infineon continued to be top customers. Q1 spending was 4.8 million, which compares to 4.3 million last quarter and 4.9 million in last year's first quarter. The sequential increase in spending was predominantly due to higher engineering and product development costs. In addition, in Q4, 2004, general and administrative costs were decreased by a reduction in the provision for bad debts. Lower spending in this quarter compared to last year's Q1 was primarily due to decreased cost of sales on lower hardware product sales and lower depreciation costs.

Interest income was 217,000 for the quarter at a 2.3 annualized interest rate. Our balance sheet is in excellent shape. Cash and short-term investments were 38.8 million at the end of March, receivables were 3.3 million at quarter end, which translates into days sales outstanding of 71 days. Our inventory levels were minimal, and we have no debt. On March 31st, we had 104 full-time employees. 74 of these employees were engineers. And finally, regarding capital stock, there were approximately 23 million shares outstanding at quarter end. This completes my financial commentary, and now I'd liked to turn the call over to Michael.

Thank you, Rob. Aware hit some important milestones this quarter. First of all, in our licensing products, we signed another new StratiPHY 2+ customer. This licensee is a blue chip semiconductor company that has decided to enter the ADSL market through a licensing deal with Aware. This brings our customer list to six: Analog Devices, Infineon, Atmel, Thompson, and now two new customers we haven't yet announced. Our StratiPHY 2+ platform has been a very successful product.

With it, we are able to deliver a high performance silicon level technology platform that supports legacy as well as new ADSL2 and 2+ standards. The financial proposition that we present for our customers today is more attractive than ever before. With StratiPHY 2+ our customers are able to develop chip sets that meet the industry's demanding interoperability and performance requirements without the need for large internal development and support teams. StratiPHY 2+ was the first platform to demonstrate ADSL2+ [INAUDIBLE] and interoperability with Alcatel, the world's leading supplier of DSLAMs. We were also the first to demonstrate Bonded ADSL2+ combining two telephone lines to deliver 45 mega bits per second of data.

Analog Devices [INAUDIBLE] 2+ virtually unchanged in their recently successfully deployed AD6487, ADSL2+ chip, as well as in their Fusiv-AT communications processors. StratiPHY 2+ is also the DSL engine in Infineon's Amazon CPE chip set. This chip set has not been formally announced, but is sampling to select customers. The entrance of Infineon into the CPE market is timely, as the transition to ADSL2+ is getting underway. I'll mention more on this a bit later. We also recently hit an important product development milestone. We've completed our new StratiPHY 3 product.

This is a high performance silicon level technology platform that supports all ADSL, ADSL2, ADSL2+ and new VDSL standards. A StratiPHY 3 chip has also already been fabricated at PSFC. StratiPHY 3 is a very flexible high performance digital solution that supports numerous operational modes and will deliver value to the fiber to the node and fiber to the curb infrastructures. Our StratiPHY 3 will support all of these modes of operation on a single silicon platform, requiring only different software loads for operation. This new addition to our StratiPHY family has been in the works at Aware for several years. We believe it is hitting the market at just the right time, because we expect that a new VDSL2 standard will be consented at the International Telecommunications Union Meeting in Geneva, Switzerland later this month.

We have a solution that will meet that standard today. With VDSL2, service providers now have standard compliance technology that they can rely on for fiber to the node and fiber to the curb deployments. The interest in this standard has peaked over the last several quarters because of the emergence of new network architectures involving deep fiber feeds and the coming of age of IP video and IPTV technologies and services. The new standard will meet the demands of the industry and is likely to propel a new wave of DSL growth. ADSL2+ and VDSL2 are the technologies that, when combined IP video and IPTV enable triple play services over phone lines.

Another important milestone this quarter was the increased amount of royalties coming from ADSL2+ chip set sales by our customers. Both Analog Devices and Infineon have 2+ chip sets in the market and both companies sold a larger amount of 2+ chip sets this quarter when compared to last. The majority of revenue is still ADSL, but the movement toward ADSL2+ is steady. We now believe that by the end of 2006, nearly all deployments of ADSL will involve ADSL2+ technology. This transition is happening quickly, and Aware and our customers should benefit. Infonetics Research recently updated their DSL forecast. They are predicting very rapid growth, especially on the CPE side. I'd like to provide a little bit of detail on the forecast that they recently published.

On the central office side, CO ports will grow from about 58 million ports in 2004, which was last year, to 61 million in 2005, 62 million in 2006, 63 million in 2007 and 65 million in 2008. It's interesting to note that over this time period, VDSL ports will take an increasing percentage of these overall numbers, reaching about 40% in 2008. On the customer premise side, units are forecasted to grow from about 36 million last year in 2004 to over 78 million this year in 2005, 93 million in 2006, 109 million in 2007 and 120 million in 2008. According to Infonetics, in this case, VDSL penetration will only reach about 4% of the customer premise equipment units, and that will be in 2008. These forecasts paint a very positive picture, especially for the DSL-CPE industry.

We believe that this growth is a consequence of the alignment of consumer demands for value-added services through broadband, and telephone companies' ability to now deliver those services by leveraging improvements in DSL technology, as well as other important technologies such as VOIP, Video over IP, and IPTV. Much of the market growth that we are expecting to see is from existing DSL customers upgrading to new flavors of DSL, as well as to new higher value CPE devices. I'd like to take a minute to talk about market share, because we often talk about how that's an important goal for our company. One of our goals is to grow our royalty revenue stream, and we intend to do this by increasing the number of chips sold into the market that use StratiPHY.

For 2004, I just gave estimates on how many CO ports and CPE units were sold based on Infonetics' data. The combination amounted to about 94 million DSL ports -- 68 on the central office side and 36 on the customer premise side. In 2004, we believe that our customers captured between 10 and 15% of that market. If you were to look at royalty revenues in 2004, they were just over $4.1 million, and the majority of those revenues come from DSL chip set sales. Looking at 2005 and beyond, Analog Devices, Infineon -- which I mentioned earlier is now entering the CPE market -- Thompson, Atmel and others, will all be targeting a growing CPE market with StratiPHY 2+ markets -- StratiPHY 2+ products -- sorry.

The combination of a larger group of customers entering a growing market and new products hitting the market in a well-timed fashion make us very optimistic that we'll be able to grow our royalty revenues in the future. We're also excited about opportunities we see in the changing market for Aware to innovate and deliver new products. Our Bonded ADSL technology is a recent example of this. We were first to demonstrate Bonded ADSL last year SuperCom, and we are first to the market this year with a product from Comtrex. Their nexus link Broadband Residential Gateway uses Aware's bonding technology and was announced last April. In general, we're very excited about what we see and we believe is the dawning of a new DSL era. We're eager to address the opportunities we see ahead of us. Our biometrics business also had a very good quarter.

Recall that our strategy here is to grow sales from new products, and we believe that's going very well. ICAOPack, our e-passport product, was launched last fall as part of that strategy. We established our first significant sales of ICAOPack this quarter, while continuing to have a strong quarter in our electronic IP software. The biometrics industry is going through significant growth, as biometrics are increasingly being used in markets other than law enforcement. We intend to continue our aggressive product development in this area, as well as in the areas of medical and digital imaging.

In our test and diagnostics products, we continue to develop both hardware and software solutions to address the testing and maintenance challenges facing service providers. These markets are still emerging, and revenues for Aware have been limited. But just as we are experiencing [INAUDIBLE] DSL licensing and biometrics revenue growth as our products mature, we also expect in this area to see revenue growth as the market and our products mature. Turning now to a moment to guidance for our second quarter. While the longer term prospects for Aware are looking very positive, we're not expecting any significant change in this quarter from last quarter.

As in Q1, our Q2 revenues are expected in the 3 to $5 million range, and our Q2 expenses in the 4.5 to $5 million range. We exit this quarter with a very positive outlook for the future. We saw a new product gain traction in biometrics. An important new customer was added in our DSL licensing, and we are seeing ADSL2+ sales as an increased percentage of our customers' chip set sales. We're excited about the impact that a new VDSL2 standard will have on Aware and on the industry. Our new StratiPHY 3 technology and chip appear to be in the right place at the right time. We'll be announcing more about this as the standard gets consented in Geneva, and expect to have additional news and announcements about SuperCom in June. With that, I'll open up the call to your questions.

Thank you very much. At this time, if you would like to ask a question, please signal by pressing star one on your telephone keypad. If you're using a speaker phone, please make sure your mute function is turned off to allow your signal to reach our equipment. And once again, if you do have a question or a comment, that's star one. And we'll pause for just a moment. And once again, that is star one if you do have a question. Our first question will come from Nathaniel Pulster of Pulster & Associates [PHONETIC].

Yes, good afternoon. My -- a comment earlier. The royalty income was rising. But by my figures, royalty income has been pretty much flat for the last five or six quarters.

That's right.

When do you expect these optimistic forecasts to hit the royalty income line?

Well, I think -- and the reason I gave some of the detail on what we can now estimate for market share of 2004, I think that we've been in that 10 to 15% market share range for some time.

Uh-huh.

And, you know, that's been a combination of both mature products from Analog Devices and Infineon, and then newer products from each of those companies. The trends that are really going in our favor that make us optimistic about our ability to increase the revenues on the royalty line are a combination of other companies entering the market with the new customers that we've added, as well as the fact that we believe our position in the new standards -- ADSL2 and 2+ -- are particularly strong. So as we see those standards catching on in the industry, we're expecting that the customers of ours who have products using StratiPHY 2+ to support those standards, are going to be in a position to pick up market share.

Alcatel isn't asleep on all of this. And don't they have a StratiPHY 2+ equivalent?

No. Alcatel is not asleep at all. Alcatel's an equipment company. And they buy chip sets from Broadcom --

Yes.

That do support ADSL 2+. And they have a number of products that they've already announced, and I believe are deploying in a number of parts of the world. I saw earlier this quarter Swisscom announced that they were going to use an Alcatel product for deployment of triple play services in their country. So they buy chip sets from a number of vendors. Broadcom is one. Infineon is another customer of Alcatel's. And on the customer premise side, Alcatel is no longer in the customer premise business. The opportunity on the customer premise side, we think, is a good one for us.

Great, great. And I'd like to know where Dr. DSL is going, if at all.

Well, we continue to be, despite sort of the time it's taken for that product to really catch on, pretty optimistic about that. You know, we've had, over the past several years, pockets of good sales in there.

Yes.

We're up against some large incumbents who are established, and we're trying to break into that market. But here as well, we see some important trends that favor us. One of them is the deployment of higher value services such as video and triple play services, which we think are going to demand new technology and products on the service assurance side. And that's exactly what we've been developing. And second of all, our technology and our products leverage certain features that are in the ADSL2 and 2+ standards. And so as those standards become more widely deployed, we believe that our products have better traction. So we continue to be optimistic about this. It's one of those product developments, as number of them here at Aware have taken -- take a while. But we think the market is very promising. We think we've got a good road map there.

Wonderful. Will you know more about the Standards Meeting at the time of the Aware annual meeting?

Probably. I think the meeting ends that week. So we'll have a better idea of what's going on.

Well, I'll look forward to a report at the annual meeting. Thank you very much.

Look forward to seeing you there. Bye-bye.

The next question will come from Stanley Cohen of Atrium Advisors.

Hi there, how are you?

Hi, Stanley.

Can you just go over how revenue recognition works for ADSL through royalty revenue?

Yeah. We recognize royalties when our customers report to us and pay us based on the contracts that we've signed with them. So there's typically a one quarter lag.

A one -- a whole one quarter or a couple of months?

It depends on when the customers' quarter ends. So if it's -- if they're on calendar quarters like we are, then it's whole quarter. If they're on staggered quarters, then it's -- depending actually on -- it could be more than a quarter because sometimes we don't get the reports until -- it really depends on how long they have to deliver the reports. But we don't estimate royalties ever. We always do it based on actuals. For example -- I'll give you an example.

Okay.

If a customer's quarter ends one month prior to ours, and they have 35-day royalty reporting and payment terms, we wouldn't recognize that revenue in the next quarter. We would wait a full quarter and a month later.

So the reporting and the payment is not always the same time. They have --

It is at the same time; but in that case, the 35 days would put them outside of our quarter.

Okay.

That's just an example.

I understand. So you may know today, since it's a few weeks after the quarter, of royalties that will be recognized this quarter?

Yes. We don't know yet. We know towards the end of the quarter is when we usually get an idea of what's going on.

Because? They may --

Infineon has certain -- their quarters are calendar and they wire us money somewhere in the last month of our quarter, as does Analog Devices.

Okay. Given that, I mean, from what I read, you know, I've seen a number of large ISPs in Australia and other Asian countries.

Yes.

Supply their ADSL2 [INAUDIBLE] from -- and are customers of Infineon and Thompson. And so why is it still such a small percent -- that ADSL is such a small percentage of your revenue?

Well, I think -- why is it a small percentage?

It seems to be happening a little bit already overseas.

Oh, it is.

So, you know, it seems like it should start being bigger pretty soon. In fact, it should be a little bit bigger now.

Yes, I hope it gets bigger soon, too. But the quarter we're reporting on is really Q4 sales --

Right.

-- by these guys. So, yes, it's true that you see -- you know, it looks like there's a lot of activity in Holland with a number of ISPs, and in Australia. It's hard to know when the real mass deployments are taking place. So we're still seeing -- you know, there's not a lot of publicity, for example, about Verizon's DSL, but they're still deploying a tremendous number of lines of DSL every quarter.

So right. You guys are still behind.

And so I think -- you know, I said on the -- in the remarks we prepared here that by the end of 2006 or sometime in 2006 I think you're going to see pretty much everything going from regular ADSL to 2+. And I think that's pretty good for the telecom industry, to be able to transition over a 18 month, two-year period, to a new standard like that. And I think it's because of all the reasons that, you know, everyone talks about. It's new services over at DSL, it's opportunities for service providers, the ability to compete with the cable company, etc. But it doesn't surprise me that you don't have a much larger percentage of 2+ deployments yet, because phone companies are extremely careful about turning on service in large numbers, and they have a -- they have a technology that works. It's the older flavor ADSL. Having said all that, I don't think it's a question of if ADSL2+ is going to happen; I think it's only a question of when, and I think that when is coming soon.

No, I understand all that. I just wanted to understand overseas. It's hard for me to tell the volume. But it sounds like it is happening. It's just a matter of the timing it'll be -- it will continue to get greater.

That's correct.

Is that -- the results of the present are not false?

No, I don't think so. I think those are reports largely of smaller ISPs. They're not the large incumbent telco in each country. But those are really important -- those are really important market developments, because those are the guys, even in this country, who are pushing IPTS and over video over DSL. It's the smaller independents that are getting on the -- sort of the bleeding edge of this stuff; and shortly following them, I expect to see the larger incumbents in these countries embrace that stuff as well.

I understand totally. Now, from an education point of view, you mentioned something about -- and I've heard this before, I just don't understand it. So we may have to take this off line -- that VDSL is going to be used as -- from fiber -- for fiber to curb deployment, so you use VDSL from the curb to the home, is that correct?

Right.

How does that work?

No, what VDSL2 is going to do is address shorter distance copper wire lines. So shorter distance telephone lines. So you're still going to deploy -- if you're a telephone company deploying DSL out of your central office, you're likely to use ADSL2. If your lines are shorter, you're likely to use ADSL2+. If you deliver fiber to a point in your network where you're within 3,000, 4,000, 6,000 feet --2,000 feet, 1,000 feet. As you get closer and closer into the final destination, the residents that you're trying to deliver service to, this is where the VDSL2 technologies are going to allow you to deliver even higher data rate. That's where you're going get the greater than 100 megabit per second, or 50 megabit per second kinds of data rates.

So there will still have to be a VDSL2 chip or VDSL chip in the DSLAM?

That's right.

Even though it's really not connecting from the CO? It's really connecting --

When you say DSLAM, it will be in the device that's sitting at the end of the fiber. These are often called next generation loop carriers or broadband loop carriers. They have different names. They're not really DSLAM sitting in the central office. They're a remote [INAUDIBLE] piece of equipment set by optics on one side and VDSL or ADSL2+ on the other side.

So will they actually be at the so-called curb?

If it's a fiber to the curb deployment, yes. If you're looking at, you know, what SBC has said they're going to do, it's more of a fiber to the neighborhood or fiber to the node.

I got you.

So it's within 500 homes. BellSouth is talking about a similar fiber to the neighborhood, fiber to the node deployment. So it really depends on the deployment that the phone company decides to use. The point is, the VDSL2 is going to be the technology that allows them to leverage that deployment and deliver higher speeds over the remaining copper wire plan.

I got it. And are VDSL2 chips going to be in the same price range as ADSL2 chips?

Well, I hope not.

They're going to be more?

I hope so. But we haven't -- we haven't really seen that market develop yet. They're much more higher value, higher functionality chip sets. So we hope that we see -- that the whole industry sees premiums. From the industry's perspective, I suppose consumers would like to see everything really cheap, but --

Okay. Now, it appears you guys have pretty good economies of scale, with all the the design wins you're having. Is it possible that some of the current captive ADSL2 chip guys will consider using it for DSL2, or is that out of the question?

I wouldn't be surprised. I mean I think that it's a natural transition for the semiconductor guys to go to the next generation DSL technology. The economies per scale you talk about are indeed true. And, you know, we're hoping that both existing customers and new customers will find the VDSL2 technology that we've discovered interesting, and step up and buy it.

So they wouldn't let religion get in the way of good economics.

What would their religion be?

That they always did it themselves. You know, Broadcom always did it themselves.

Well you know, it really has to do with the economics of the situation. So I think in some cases, you may see religion -- what you're calling religion -- have a strong seat at the table.

Okay. One then quick other education question.

Last one -- last one, Stanley, so we can let someone else ask.

All right. I'll come back though.

Okay.

The new companies -- the two new -- the two new competitors -- when do you expect them to announce the chip?

You mean customers, not competitors?

Right.

Well, what typically happens with our customers is when they have a product that they're ready to either sample or announce, that's when we can announce our relationship.

You have no idea.

I completely understand it and we don't --

No, I don't want you to. I just -- do you have any idea when they --

I can't say just yet.

Okay. I'll come back for some more questions later on.

All right. Thank you.

The next question will come from Lilly Woo with TGRA Capital [PHONETIC].

Yes, hi. Regarding the fifth and sixth licensees that you mentioned which have yet to be named, are they preparing chips for central office applications or for customer prem?

They're using our StratisPHY 2+ product, which is a customer premise equipment solution.

Okay. So --

StratiPHY 2+ is -- targets the CPE side of the -- of the line; and as you know, they're not the same -- the CP and the CO are not the same.

Right, okay. So they are targeting that larger market opportunity, volume-wise?

Right.

And recently, you had a press announcement about Comtrend also a maker of customer prem equipment.

Yes.

They are not directly your licensee, is that correct? They use chips which are your licensees or?

Correct. They purchase chips from Analog Devices, who is our licensee.

I see.

And the product we announced was something I mentioned on the call, which was the -- which is the first Bonded ADSL modem using bonding technology from Aware. What bonding technology does is allow you to use two telephone lines at the same time to the same house to double the data rate. So with bonded ADSL2+, you can deliver 40, 45 megabits per second to that house by using two times ADSL2+.

Oh, okay. So the ADI --

ADI would be the supplier of the silicon [INAUDIBLE].

Right, and they would be your licensee?

That's correct.

Okay. Looking -- the 10% to 15% market share that you estimated based on the 2004 market, when you look out towards 2006 when the market is very substantially transferred over to ADSL2 and 2+, do you have a feeling, you know, your current licensees, what kind of market share we're talking about then?

Well, certainly we have a feeling. It's not something we're really prepared to talk about.

Uh-huh, but --

And, you know, I wanted to paint the opportunity as we see it. We're not at this point giving guidance of that sort or stating opinions of that sort that far into the future.

Okay. But do I -- I kind of sense that it will be more at least, in the sense that with --

We expect it to be more, yes.

Okay. Okay. Because I guess on the ADSL, people like Thompson, for example, were not licensees, whereas they have 20 plus percent market share in the CPE market.

Right. And they will be -- and they are licensees now. And we hope some of that 20% will be using the StratisPHY base product they're developing.

Okay, great. And in terms of in the pipeline -- two questions, actually. The fifth and sixth licensees which are yet to be named, they -- are they already contract customers?

Yes, they are.

Okay. So that they're already developing chip solutions with you?

That's correct.

Okay. And in terms of the pipeline, are there other licensees that you are currently actively working on --

Certainly, yes.

-- getting? Okay. So there's certainly more that's potential?

Yes, there continues to be opportunity. You know, the -- the -- what we're seeing there is the general interest. And it's primarily on the customer premise side.

Okay. Right.

Interest in certain companies, and there's a long list of these companies. We're interested in integrating DSL as part of an existing product offering they have, or as a new product that they may be contemplating.

Okay. So --

And we're also optimistic -- and this is why I spent some time talking about VDSL2. I think VDSL2 is going to present a number of opportunities to the semiconductor industry. And -- and I -- you know, I hope that people will look to us to license technology in order to address those opportunities, you know, most cost effectively and with the highest performance product that we think is out there.

Okay. Okay. Great. And the last thing is, regarding the product sales, the year on year decline, I -- do I -- do I sense that that's primarily due to the decline in test equipment sales?

Right. Yes, you can see the cost of goods associated went down significantly.

Right.

The cost of goods on that line is primarily associated with hardware sales, and not so much with software sales. So that is a correct conclusion.

And software, was that actually up year on year?

I don't think we broke it out.

Okay, okay. And in terms of the test equipment, I guess that decline is primarily because that's more associated with the legacy ADSL testing equipment?

Well, that's -- that has to do with what the first question I was asked today was, you know, what's really going on in that industry. And -- or in that set of products for us. We see trends there going our way. We capitalized on some early deployments of test equipment. That's what the sales were last year.

Okay.

Right now what we're trying to capitalize on are some trends that we see revolving around the higher value services that people are looking at deploying, as well as the new standards -- the 2, 2+ -- and the VDSL2 standards -- which all contain testing capabilities that we believe we can leverage to deliver better service assurance technology to the industry.

Okay. So in that regard, even for the product side, you are kind of preparing for a new product cycle there as well to compare --

Yes, we continue to product develop, both on the biometrics, on the software side, as well as on the test and diagnostic side.

Okay. Great, thanks.

Thank you, Lilly.

We'll next take a question from Ken Lufkin.

Michael, congratulations on signing a new customer, and this VDSL news is -- it looks really promising. I'm a little bit mystified on what the logic is that the VDSL market wouldn't have as much penetration or greater penetration than what in Infonetics is estimating. And I think the reason I'm asking is because it seems like in major cities -- in New York, San Francisco, Chicago, where there's a lot of people living relatively close to central offices and loops and nodes. And so do you have any idea why their estimation is such?

I believe that they're basing it -- and I haven't spoken with them, and actually maybe I'll have our marketing department do that. That's a good question. I believe they're basing it just on sort of historical perspective of how long it takes a standard, a new standard, to end up in mass deployment. And the trend or the pattern that has been followed since the first deployments of DSL in the mid '90s were central office, heavy deployments first to sort of get the network ready, and then a rapid ramp, which is what they're expecting to see now on the 2+ CPE side once several years later, once that network is in place. And I think the only reason that you don't see the penetration in their current forecast of VDSL2 CPE until late is because I wouldn't be surprised if when they wrote this, the knowledge of a standard being done this month wasn't known. It wasn't known.

Ah, there you go. Right. So this could all change -- I mean, their numbers -- in the next 30 days or something. They could change all their numbers dramatically.

Yes, I don't expect them to do that. But I think the point is that, you know, there will be some mix of 2+ and VDSL2. I think we're well positioned for either one.

Right.

You may be right. There may be more VDSL2. It will depend on how much actual sort of service differential a service provider can deliver using VDSL2 versus ADSL2+, because you're talking about going from, you know, 25 megabits to 50 megabits per second. That may in fact not be that big a deal when you talk about the kind of services that are going to be delivered. It may be a tremendously big deal if certain types of value add services emerge where the -- you know, the bandwidth is really critical.

Remember that most of DSL today is delivering 1.5 megabit per second service, even though it's capable of 10 or 15. So, you know, I think the importance of those numbers is that they're looking at significant -- and I think they do a pretty good job of researching this stuff, that's why I'm referencing them. They're looking at pretty significant growth on the CO and CPE side, growth that is quite a bit larger than the number of new lines --

Right.

that they're forecasting, and the reason for that is because, you know, new lines aren't going to -- a replacement of service from ADSL to ADSL2 or 2+ or VDSL isn't going to show up as a new line.

Right.

So it looks like what they're expecting is a lot of upgrading going on, both on the central office side, as well as upgrading by consumers who say, "I want to buy a new box of new fancy stuff for me, even though I'm not buying a new service." And those are all, I think, very positive signs of a market that's, you know, reaching a nice critical mass.

In other words, you have a line coming into your house and you've got multiple phones in your home. It's the same kind of concept, basically, right?

Well, yes. I'm not sure you're going to have multiple DSL modems, because, you know, when you -- you really don't need multiple DSL modems. You need -- but you may upgrade your current modem.

Right.

You know, what it is today to one that combines this and wireless LAN and then later one that combines this, wireless LAN and some sort of video service.

Right, right.

And you know, if you start seeing turnover once a year or once every two years like you do in PCs, you have a very vibrant, you know, after-market or replacement market for DSL CP equipment , which would be very good.

And then the market, what we're talking about here is, is based upon the six that you've signed now, you know, we could conceivably see 50% or more market share versus the 10 or 15% market share that that you're getting with the old DSL. So, there is really potential for real significant increases here. And the numbers that I have seen, or the dates I have seen for the major incumbents, is in the second half. And so, I was prepared to see you guys in the fourth quarter. I figured in the third quarter is when they would really start rolling it out, and then a quarter lag would hit you in the fourth quarter. So we should start to see significant numbers in the fourth quarter. Is that accurate, do you think?

Well, if what you're saying is accurate, we would probably see those royalties in our first quarter, just because of the quarter lag. I -- you know, I think you're probably -- when you look at the U.S. market --

You mean, if numbers come in in their third quarter, they won't hit you in your fourth quarter?

Oh no, if they're in their third, they'll hit us in their fourth.

Right.

I thought you said the fourth was when -- oh, I see what you're saying. The second --

Yes. If they're going to start the rollout really I think in the third quarter. I think it really won't hit speed until, you know, maybe the middle of next year, I think it will be going great guns.

You know, I think you could very well be right. I mean, it's -- we've seen DSL take a lot longer in some cases than we'd like. And in other case,s we've just seen it go straight up and to the right. You know, when something catches on, the number of lines and the number of chips and the number of units that sell just become all of a sudden stratospheric. So, you know, I think you have all the makings of the right combination of things to be optimistic. I wouldn't stake my life on Q3 or Q4 right now, or Q2 or -- you know, and I, fortunately, as a company, we don't have to.

Right.

We can stake our lives on long term success, and I think we're on our way to that. And the sooner the better, without question.

One more question, then I'll let someone else. Can you -- the significant -- what we're looking for here obviously is the royalties long-term. In the mean time, your contract revenues is what is going on here. Can you talk about how -- what percent of your current customers are paying you for StratisPHY 3, and do you expect -- how many of them, you know, do you expect to be paying you for StratiPHY 3 in the upcoming quarters, if, as you're forecasting, the VDSL standard is approved this month?

Yes. I can really answer that. We haven't gotten into any details yet on whether or not we have StratisPHY 3 customers. So I'm not --

Okay.

-- prepared to do that today. We've talked about a lot of things today. That's not something I was ready to talk about. Regarding the future, you know, I hope our customers -- and you know, we have a longer list of them than we've had for a long time -- look at VDSL2 as the kind of opportunity we see it as, and come to us and license it. And so, you know, when we look at the contract revenue over the next quarters going ahead, we're certainly hoping that we see new StratisPHY 3 licensees in them.

Thank you, Michael

All right.

There appear to be no further questions in the queue at this point, gentlemen.

Okay, everybody. Thank you very much. Couple of quick upcoming events. We will be at SuperCom in Chicago in early June. If any of you are there, please come by our booth. We'll have some very good demonstrations as we try to use this trade show as a showcase for a number of our technologies and products. Our shareholders meeting is at the Bedford Renaissance hotel in Bedford, Massachusetts on May 25th. We will be presenting at the Massachusetts Network Communications Council Investor Meeting on June 1st. The location for that is on our website, as are the -- as are details for all of these events. We'll look forward to talking to you next quarter. Thank you.

That does conclude this conference call. Thank you all for joining us, and have a wonderful day.