Ciena Corp (CIEN) 2009 Q4 法說會逐字稿

Good day, everyone. Welcome to Ciena Corporation unaudited fiscal fourth quarter 2009 and year-end results conference call. This conference is being recorded.

At this time, for opening remarks and introductions I'd like to turn the conference over to Ciena's Chief Communications Officer, Ms. Suzanne DuLong. Please go ahead.

Thanks, Katie. Good morning, and welcome, everyone. I'm pleased to have with me Gary Smith, Ciena's CEO and President, and Jim Moylan, our CFO. In addition, Steve Alexander, our Chief Technology Officer, and Tom Mock, our Senior Vice President of Strategic Planning will be with us for the Q & A portion of today's call. This morning's prepared remarks will be presented in two segments. Gary will review our fourth quarter performance and discuss our outlook including commentary on our pending Nortel MEN transaction. Jim will review the financial results, for the fourth quarter and provide our guidance for Q1. We'll then open the call for questions from the sell-side analysts. This morning's press release is available on National Business Wire and on Ciena's website at Ciena.com.

Before I turn the call over to Gary, I'll remind you during this call, we will be making some forward-looking statements. Such statements are based on current expectations, forecasts and assumptions of the Company that include risks and uncertainties that could cause actual results to differ materially from the statements discussed today. These statements should be viewed in the context of the risk factors detailed in our 10-Q filed with the SEC on September 3, 2009. We have until December 30 to file our 10K and we expect to do so by then or before. Ciena assumes no obligation to update the information discussed in this conference call whether as a result of new information, future events or otherwise.

Today's discussions includes certain adjusted or non-GAAP measures of Ciena's results of operation. A detailed reconciliation of these non-GAAP measures to our GAAP results is included in today's results release available on our website. Lastly as a reminder, this call is being recorded and will be available for replay in the investor portion of our website. Gary?

Thanks, Suzanne and good morning, everyone. It's been an eventful several months since we last spoke to you about our Q3 results. From Ciena's perspective, we delivered a solid fourth quarter with stronger than expected revenue growth. We also launched significant products such as our CoreDirector FS and 5400 family. In addition, we've made considerable progress in connection with our pending acquisition of the optical networking and carrier ethernet assets of Nortel's MEN business unit.

From an industry perspective, we continued to see some signs of stability, though it's unclear yet the extent to which our customers' 2010 CapEx budgets will increase from 2009. We do believe, however the percentage of CapEx allocated to next generation platforms will increase year on year. I'll talk to each of these topics in my remarks this morning before turning call over to Jim to discuss the details of our fiscal Q4 results and our guidance for Q1 2010.

Firstly, we're pleased to deliver strong sequential revenue growth in the quarter, outperforming our expectations that revenue would be roughly flat with Q3. Our 7% sequential revenue increase was driven by growth from our Carrier Ethernet Service Delivery, or CESD, portfolio and our CM4200 platform as well as a sequential increase in core switching related revenues. CESD revenue increased more than 30% sequentially, contributing $30 million or 17% of the quarters total revenue. In this product group, we're starting to see solid traction with our ethernet service delivery and aggregation products, with nearly 100% of this quarters CESD revenue coming from these platforms.

In addition to business ethernet service applications as we mentioned last quarter, we're also seeing demand for these platforms in support of wireless backhaul, and of particular note this quarter, we recognized initial revenue from wireless backhaul related deployments at AT&T, and while this marks an important milestone with this customer, the majority of this quarter's CESD revenue came from deployments in support of other customers, including but not limited a different 4G WiMAX related build as well as from a Tier 1 US MSO. Revenue from our CM4200 platform was also up sequentially 15%, and revenue from our core switching platforms also increased 9%.

At 45%, our non-GAAP gross margin in Q4 was down slightly from Q3 but within our mid to high 40s target gross margin range. Q4's non-GAAP gross margin was affected by charges of $2.7 million related to modules approaching the end of their life cycle. Our non-GAAP operating expenses were approximately $90 million. The sequential increase comes on the heels of Q3's 8% sequential decline and is up only slightly from Q2's $87 million. The increase was due almost equally to a combination of increased commission related expenses due to a strong order flow in the quarter, as well as higher prototype related expenses, largely associated with a market introduction of our 5400 family. Overall, we continue to carefully prioritize investments we believe are critical to our future. We know there's a lot of interest about our progress with the Nortel transaction, and ultimate integration of those assets, and I want to be sure that I address that.

First on our progress. Last Wednesday, at the final sale hearing, we received approval on our agreement with Nortel from the United States Bankruptcy Court for the District of Delaware and the Ontario Superior Court of Justice. At this point, the transaction only requires one additional regional regulatory clearance, and is subject to customary closing conditions. We believe we are on track to close the transaction as planned in the first calendar quarter of 2010, and at this point we continue to expect the transaction to be significantly accretive as we get into 2011.

Most importantly, I'm also pleased to say that customer response thus far has been overwhelmingly positive. While we acknowledge that the parts in Nortel's business we're acquiring have been subject to uncertainty for some time now, customers are telling us they feel many of their major concerns are alleviated with Ciena taking these assets. They truly feel, as do we, that we provide the best home for Nortel's people and technology. On integration. We recognized the scale of this integration and the scope of work we face in the coming months, and of course, we're aware of and are taking steps to mitigate the associated risks, so while I believe it's fair to expect a few bumps along the way, we are confident in our ability to conduct our integration activities decisively and with clarity.

We've been intensely engaged with Nortel in connection with these assets for more than a year, an elongated process that provided us the opportunity to do extensive due diligence from which to develop a comprehensive and aggressive integration plan. That plan has now been executed by a dedicated and experienced team comprised of internal resources from both Ciena and Nortel and augmented by experts with experience in integrations of this nature and size.

This integration team is being lead by Arthur Smith in a dedicated role as Chief Integration Officer and I think Arthur is ideally suited to lead these efforts. In addition to his 12 years of Ciena experience in a variety of roles, Smith is also a former Nortel employee. We intend to provide a specific integration framework and an associated timeline once we get to closure on the deal. I can tell you today, however, that at closing we expect to is achieved several important milestones including identifying the leadership team of our combined entity, setting our long term combined portfolio vision with short-term priorities, establishing our go to market strategy, and confirming our revised target operating model. In addition, we expect to have all Nortel employees up and running on Ciena systems, including such things as payroll and e-mail on day one after closing.

The bottom line is that we firmly believe Ciena is the best fit for these assets. We know the customers, we know the technology, and we share a common expertise among our teams. While that natural alignment doesn't alleviate every risk, I think it certainly positions us well for successful integration. In addition, given the carve out nature of this acquisition, Nortel will be providing some transition services in the near term. We believe the structure of these transition service agreements have enabled us to substantially mitigate many of the more significant risks generally associated with an acquisition, including continuity of supply and service for our customers. Our complimentary portfolios, strong support from the combined customer base, and enthusiasm of our employees will advance us along the successful integration path even faster and more effectively.

Finally, before I ask Jim to review the details of the quarter and our guidance for Q1, let me spend a few minutes discussing the environment and what we're seeing and hearing from our customers. While we would of course welcome it, we aren't operating with the belief we will see any budget flush as it were as we approach the end of calendar 2009, and as I mentioned earlier, it's unclear yet the extent to which our customers 2010 CapEx budgets will increase from 2009. We continue to believe the current depressed levels of spending are unsustainable over time, particularly given the combination of traffic growth and new service demands on the networks.

In general, we continue to design that customers intend to prioritize Next Generation spend, and those are the definitive issues for Ciena, but particularly the spend that is directly tied to new revenue generation or which can be directly tied to enhancing network and operations efficiently. More so than even a year ago, many of our customers are facing multiple critical network and business priorities, from capacity crunches in the core and wireless backhaul to the need to deliver more cost effective, high bandwidth enterprise services. We believe Ciena as a standalone Company is well positioned to address these demands; however, we believe the combination of Ciena and Nortel's MEN assets as the leading global equipment provider, exclusively focused on converged ethernet, is even better position to make these customer requirements.

In summary, our goal remains as it has for the last 12 months, balancing strategic and sustainable operating performance over time with the disciplined approach to strategic investment longer term. The Nortel transaction prevents a meaningful integration challenge. It's not a challenge we take lightly, but we have made significant preparations and we will be focused on executing our plan and insuring customer engagement and satisfaction throughout the integration process. Overall, I believe we are seeing early signs of market recovery, but I won't attempt to predict the shape or timeline of that recovery.

Jim, will you talk to the details of our Q4 results please?

Thanks, Gary. Good morning, everyone. We reported fourth quarter revenue of $176.3 million, representing a 7% sequential improvement. For the year, our revenue totaled $652.6 million. We had one 10% plus customer in the quarter that represented 19% of total sales. That same North American based customer was also our only 10% plus customer for the year, representing 20% of annual sales. Sales from international customers represented 29% of total revenue in the quarter and 36% for the year.

I'll focus the majority of my remaining comments on our fiscal Fourth Quarter results as described in our Press Release. We break out our revenue by three major product groups. The first group, Optical Service Delivery, which includes transported switching platforms as well as legacy data networking products and related software, accounted for $120 million in revenue, representing 68% of total revenue for the quarter. Within Optical Service Delivery, our CN4200 advanced services platform was the largest contributor in the quarter at $50 million, up 15% from $43 million in Q3. Core switching contributed $41 million in the quarter, up 9% from $38 million in the last quarter. Long haul transport added $21 million, down sequentially from $27 million in Q3.

Our second product group, Carrier Ethernet Service Delivery or CESD, includes service delivery in aggregation switches, Broadband Access products, and the related software. As Gary noted, CESD had a strong quarter, increasing more than 30% sequentially in Q3, contributed $30 million or 17% of total revenue, and almost all of this quarter's CESD revenue came from our ethernet service delivery, aggregation and access platforms. Finally, our Ciena Specialist Services Group, which includes all of our services related offerings, was $27 million in revenue, up slightly from $25 million in Q3. In the remainder of my comments today, I'll speak both to the GAAP results and to what the results would have been if we excluded those items detailed in our press release.

With respect to gross margins, Q4's GAAP gross margin was 44%, adjusted for share based compensation and amortization of intangibles, Q4's gross margin was 45%, which is generally consistent with the last several quarters normalized gross margin. And as Gary noted that 45% is after a $2.7 million charge related to modules approaching the end of their product life cycle. That represented 1.5 points of gross margin. Our GAAP product gross margin for the quarter was 45%. Our services gross margin was 37%, once again better than our target mid 20s range as a result of the mix of services revenues in the quarter.

On a GAAP basis, Q4's operating expenses totaled $104.2 million and included stock based compensation as well as $6 million in amortization of intangibles. It also includes $1 million in restructuring related costs. Excluding those items, our adjusted operating expenses totaled $90 million. While this is up sequentially from the last quarter, it is down 6% from the same period a year ago. Our Q4 GAAP net loss was $26.6 million, representing $0.29 per share. Adjusted for the unusual and/or non-operating items discussed previously, our fourth quarter net loss would have been $10.7 million, which represents $0.12 per share.

Turning now to cash flow and the balance sheet. We have been focused on our working capital management and the disciplined approach we've taken has yielded good results. We generated $1.9 million in cash from operations in the quarter and successfully achieved our goal of being cash flow positive for the year. For Q4, our accounts receivable balance was $118 million, down slightly from $120 million in Q3. Day Sales Outstanding were 60 days, down from 66 days at the end of Q3.

Given ongoing revenue uncertainties, we continue to closely manage our inventory position. Inventories totaled $88 million in Q4, down from $90 million in Q3. Product inventory turns improved, were up to 3.7 times in the quarter, up from 3.2 times in Q3. The revenue break down for the quarter was similar to Q3 as well. Raw materials represented $20 million in inventory, work in progress $1.5 million, and finished goods were $91 million. After that, we have a balance in the reserve for excess and obsolescence of $24 million. With respect to headcount, at October 31, 2009, our worldwide headcount was 2163, an increase of 53 over fiscal Q3.

I'll conclude our prepared remarks today by talking to guidance for Q1 of 2010. As we noted in the press release, our guidance comments today are limited our expectations of Ciena's performance as a standalone Company. They do not reflect the addition of any revenue or expense associated with the acquisition of Nortel's optical networking and carrier ethernet assets. We currently expect a sequential increase in our fiscal first quarter revenue of up to 5%. We also believe, based on current expectations about product mix that gross margin will be in our mid to high 40s target range. We believe our Q1 non-GAAP operating expenses will be roughly flat with Q4. We expect other income expense net in the first quarter will be an expense of roughly $1 million.

As for taxes, we expect our tax obligation for Q1 will be solely related to foreign taxes. Depending upon your assumptions, you may need either our diluted share count or our basic share count. We estimate Q1's diluted share count at approximately 113 million total shares. We estimate Q1's basic share count at approximately 92 million total shares. Katie, we'll now take questions from the sell-side analysts.

(Operator Instructions). We'll take our first question from Kevin Denney with Citi.

Good morning, everybody. Just wondering if you could talk a little bit about the increase in OpEx this quarter. If I recall correctly, I think you had guided OpEx in the quarter to come in low to mid $80 million range. Looks like it came in a touch higher. Just wondering if you could talk about were there any NREs in R & D that we should think about or just a little bit more color on that front?

Yes. We did get operating expenses up from last quarter. They actually came in at the high end of our range and the biggest single chunk of that related to the fact that Commissions were up significantly from Q3 and since we accrue and pay commissions on orders, that actually is a good news story. It represents the fact that we did have a very strong order flow in the quarter. Another piece of the increase relates to prototype expenses and again, that's a good news story. As we bring products to market, as we ready products to go into customers' laps, we do tend to spend more on prototypes. This relates to our 5400 family. To some extent to our 100 gig program, so we did spend more, we think we spent it for the right reasons, as we're seeing a bit of turn up in the market, we want to be prepared to meet that market on both the sell-side and our R & D side.

Great. Thanks, and maybe if I could sneak one more in for Gary. Kind of a higher level question. If you could talk a little bit about your conversations with carriers, maybe give us a sense for are you seeing a big variance towards 2010 across geographies or across the different types of carriers, Tier 1s versus non-tier 1s?

Yes, I'd say certainly as you talk to the Tier 1s and some of the larger tier 2s as well, I'd describe it as when we first went into this economic downturn, I think folks generally just put on the brakes across-the-board, and that was the quickest way they could address their capital expenditures. I think as we've seen things in the economy generally stabilize a little, I think as they reflect on 2010, what I'm hearing from the major Tier 1s and to your point, Kevin, around is there different geographic spread or whatever, as I think about that, I really don't think there is. We got a very consistent view around European, Latin America and some of the Asian large carriers, to much of North America, they're looking I think to prioritize their spend and I think we'll see a shift towards Next Generation spending rather than legacy, because I think they've now got some time to adapt to that and carefully prioritize their spending and I think from a Ciena perspective if you look at our portfolio, the defining issue for us, the much more critical issue of this CapEx overall go up or not is really what they're spending it on, and so we're encouraged by what we're hearing around the sort of 2010 priorities because I think it fits from a portfolio alignment with us.

Great. Thanks and good luck guys.

Thank you.

We'll go next to Paul Silverstein, Credit Suisse.

Hi. Gary, Jim, two questions if I might. First, with respect to the OpEx if I can revisit the issue, your revenues, your guidance was roughly flat. Your revenues ended up being up $11.5 million and your OpEx was up relative to your guidance by $5 million to $8 million, depending upon how one interprets the guidance you gave last quarter. The prototypes I assume were a known issue. Can you help us understand relative to the missions, it seems like OpEx was about 50% of that revenue increase. It seems like a high number and again I trust the prototypes were a known issue going into the quarter?

Yes, let me take the prototypes. I mean the prototypes, we knew that it was going to be up for the quarter and we guided on the operating expenses. We thought it would come into the sort of mid 80s. We knew it was down last quarter sequentially so we anticipated some of the timing of the prototypes but we were able in fact to be slightly ahead of plan on some of that, so depending on which way your perspective is, that's good news.

I would also say that the platforms that we're rolling out now are very large platforms. You look at 5400, sort of six times the capacity of existing platforms, got a great deal of density. These ASICs are expensive, we've got a lot of customer interest that we're putting into their labs, you've got the 100 G components which are also expensive so I'd add that by way of a bit of color but it did come in hotter than we anticipated. The other part of the operating expenses, Paul, pretty simply and as you say about 50/50 in terms of the up which related to sales commissions, we had a stronger order quarter than we had anticipated in Q4, and that bodes well for the future and that resulted in the increased commissions.

Gary, going forward if your revenues were to come in $5 million to $10 million higher relative to the guidance, should we similarly expect about half of that amount to end up in the higher OpEx?

No. We would expect operating leverage. I think it's particularly a function of first of all most of the commission payments are related to orders, so it's the future growth to that but there's not necessarily a linear relationship there. I think we've been very disciplined about our operating expenses in the downturn. We've reduced our operating expenses overall considerably. We have been constrained by what we want to spend on and now we're seeing some signs of stability and opportunity and we want to make sure that we fund that accordingly, particularly on the sales side and on the R & D side. We're also able to spend more in R & D than we did last year as well, so we do have operating leverage in the model, so we would anticipate as things recover and as revenues go up, we would anticipate some of that dropping to the bottom line obviously.

Okay, and Jim, quickly. The $180 million projection you gave on restructuring costs, I think a couple months back, in connection with the MEN deal, the cash restructuring item, what's the potential upside and potential risk to that number?

I don't believe there's a lot of upside to the number, we took a very disciplined and conservative approach to developing that number. We went about it from a bottoms up size function approach and we tried to cover every single item that we could think of, so I don't believe there's going to be a great opportunity to overspend that. We are working with MEN, developing another look at that and we'll see where it comes out but I don't expect it to go up from where we estimated it.

Is there opportunity for it to be lower?

We're going to make that estimate and we'll be able to tell you a better number soon, Paul.

Thank you.

Thanks, Paul.

We'll go next to George Notter, Jefferies.

Hi guys. Thanks very much. I was hoping to get an update on CoreDirector and the transition to the Next Generation platform, the CoreDirector II. Were you guys able to deliver the CoreDirector II to carriers, specifically AT&T this quarter?

Steve, do you want to?

Sure, so we're making very good progress with it. It's in trials both where people are coming into our labs to see it as well as the beginnings of getting the chassis and the modules out into the individual customer sites, so we're on track with that. We've seen very good customer interest in the transition that it represents, kind of away from the TDM world over to OTN and the Flexi Force and ethernet so we're very happy with the results so far.

Got it and then a follow-up on that. When could we expect customers could deploy that commercially and thinking ahead, when do you think you could get that through initially for revenue recognition?

Well so the spectrum of the cycles out there is quite broad, right? We're going to have some customers that would be looking to put that out into the network sort of in the middle of the year. We've got others that would be putting it through in acceptance cycle that may take up to nine months to a year, so it's quite a broad spectrum of opportunities for it.

Got it. I'm sorry and then rev rec would that follow immediately or would there be a lag from commercial deployment to you guys taking it for revenue?

This is Gary. It depends on the customer. I wouldn't anticipate meaningful revenues, given the acceptance cycles very large switch and to very large tier 1s. By the time it gets through various cycles we would clearly expect to recognize revenues in 2010 for this platform.

Got it and last question here, same line of questioning here. The margin structure as you transition from CoreDirector to CoreDirector II, how would that look? Would it be same, better or equal to lower? What's the thought there?

It would be very similar. It's a very software intensive platform.

Got it. Thanks very much.

Thanks George.

We'll go next to Jeffrey Kvaal, Barclays Capital.

Yes, thanks very much. I was wondering if you could talk a little bit more about the end of life charges in the gross margin which products those were for and if we should be on the watch for further.

We don't plan to get into the details but we have had some modules that are limited in their customer coverage and are nearing the end of their life given that they've been in market for a while. We look at this every quarter. It just happened that we had a little higher amount in this quarter but as I said I don't want to get into the specifics of that. Going forward, I guess we will have some decisions to take with respect to our portfolio. We're not prepared to talk about that now. You'll hear about that within the next couple of quarters.

Okay, thank you. And then I guess just to follow on to that OpEx commentary, if orders were particularly good this quarter and make sense to spend on the Commissions of course, one might expect that the operating leverage would come relatively quickly quickly on the basis of that or would we not?

The Commissions are normally aligned to our plan for the year and that starts out from Q1. I think we had a particular mix and a very strong end to the financial year which is good news and as we go forward, we start with a new plan and we have I think it's fair to say more ambitious plan for 2010 than we had for 2009 so the targets and payments are commensurate with that, and when you look back to 2007 and 2009, in more normalized environments, you can see a more linear dropping of the operating leverage to the bottom line.

Okay, maybe another angle at that is how long until the orders received in the prior quarter that you're paying OpEx for translate to revenues?

It varies, Jeff. You've got some customers where it takes longer for revenue recognition, so some can be in the quarter, some can be the following quarter. Some can actually be 12 months from that, as we build up backlog or put upside inventory as we put some of these large networks in place, pending full recognition of the system. So it varies.

Okay, thank you.

Thanks, Jeff.

We'll go next to Tal Liani, Banc of America-Merrill Lynch.

Thank you, it's Vivek Arya on Tal's behalf. Couple of questions. On the roughly $90 million non-GAAP OpEx should we assume that is sort of the base assuming that sales stay flat or go up over the next several quarters just on their organic basis?

I think that's a fair assumption. What we said is that we expect OpEx will be roughly flat and we guided up on revenue.

Got it, and secondly, on the 180 million restructuring or integration expense costs, will that be part of your non-GAAP OpEx or will those only be part of the GAAP and it will be considered sort of one-time and we should not model them as part of an ongoing non-GAAP type OpEx?

Certain of those costs will clearly be as adjusted out. Some of those costs we are actually trying to figure out the appropriate accounting treatment, but whether or not we break them out for as adjusted, we will clearly identify them so that if I were modeling the Company, I would model the Company without these integration costs. The way that at least I think about these costs, is it's a cost of the acquisition. We're taking on a Company that's more than our size in terms of revenue. It's about our size in terms of people. It's a significant undertaking. We've known from the beginning that we were going to have a large integration expense associated with this deal, and at least my thinking about it, I've thought of it as a cost of the acquisition. We're going to be very disciplined as we move through this integration. We're going to be smart about it and we've already put into place the team to make it happen, but I would consider it part of the acquisition cost.

Got it, and then finally on the product side, your CN4200 platform is doing very well but I assume that's also where you potentially have a lot of perhaps a lot of overlap with the Nortel products and I think you also announced 100 G recently and 4800 G also where Nortel has been putting a lot of R & D. My question is how are your customers responding in terms of what they would like to see in terms of an integrated road map, what kind of questions are they asking and how are you thinking about them, thank you.

Yes, I think one of the things that our customers are looking for here is a transition path if one should be required and the transition path that's graceful. I think one of the things though that's important to think about here is that when you looked at where we positioned 4200 when we've had most of the success, it's largely been in metro and shorter distance regional networks. If you look at where Nortel has had most of their success, it's really been with longer distance networks particularly being able to take long distance networks from fiber and upgrade those very easily to higher capacities so there's probably a bit less overlap there than you might think, but while it's too early at this point to say exactly how the portfolios are going to be architected moving forward, it is something that we recognize, we have to be pretty decisive about and that is something that we're going to be working toward as we said before as we closed the deal and moved forward.

Great. Thanks and good luck.

We'll go next to Blair King, Avondale Partners.

Thank you for the question. Just a couple here. One would be just to follow-up on the line of questioning around operating expenses. Gary, you'd mentioned the leverage in the model and ultimately that would play out. I guess what I'm trying to figure out is if the OpEx is flat in the first quarter relative to the fourth quarter, then that would obviously also imply a fairly strong top line in the Second quarter? Can I think of it that way?

Well, I'd certainly like to think about it that way. You know, I think what we're seeing is some stability in the marketplace and we've been constrained for the last year or so in terms of our spending so we've been very disciplined around letting some of those additional investments happen now, particularly who bring these new platforms to market I think it's important we do that properly, so I think that overall we're dealing with a better environment in 2010 than we're dealing within 2009. I think it's fair to say that most folks still don't have great visibility to that and we would include ourselves in that but I think we feel a little bit better about the world than we did certainly this time last year and so we're behaving in a disciplined way, but appropriate with that perspective. We've got a lot of platforms coming to market. We want to make sure we do that properly. We want to make sure we've got enough fuel in the tank, because as we step back from this, we feel very encouraged around what we see the opportunity going forward, once we can work through these broader economic issues, because there's tremendous demand in the overall industry as they move towards wireless and video and we want to make sure we're well positioned for that.

The one thing I'd add to that is outside of the two things that we have highlighted today, meaning sales commissions and R & D prototype expenses, we've done a very good job of holding OpEx flat, and so I would say that the focus in terms of controlling OpEx has been on those areas which we've done a very good job with. With respect to Commissions and prototypes, we think that that's indicative of revenue to come, and so I would take from that that the areas of OpEx which are sort of steady as you go, those things which indicate hopefully some revenue along the way, we've been willing to spend and we think you want us to spend there.

But the other thing I would add is we beat our own expectations for revenue in Q4 and we're also forecasting, we believe higher revenues than we would anticipated in Q1 as well, so I think that's as far as we are prepared to go right now but I think it's testament to the environment that Jim's describing.

Okay, thanks. One last question. You alluded in your prepared remarks about the integration effort and the milestones and plans you have in place for building the combined Company at close and I guess there's two parts of the question. One would be what are the key focused areas that you believe will ultimately determine success on the integration and the second one obviously is your plan for communicating the combined outlook from a financial perspective?

When I take certainly the first part of that I think it starts with the customers and making sure that customer experience is first and foremost in all of our thinking both in terms of continuity with them in terms of their portfolio needs going forward, and what kind of organization and Resource we need around that so the starting point is the customer and we're looking to be very decisive around rolling out a day one when we do close the organization, I think from a portfolio point of view, we will be ready day one to rollout our portfolio because of the combined entity both in terms of the portfolio vision and the short-term priorities, and the organization around that, so those are the things that we're focused on. In addition as Jim said, it's to all of the back office elements to that and making sure we're mitigating all of those integration risks. I think the relationship that we have with the residual Nortel entity I think is incredibly helpful at mitigating those risks, certainly in the short-term, so I think we're going into this with our eyes open. I would also say that because it's a business that we're very familiar with, it's not an adjacent space. I think that also bodes well for our ability to make the right kind of decisions.

And then just to follow-up, you mentioned at closing you'd have I think you'd mentioned you'd have some sort of financial outlook prepared or--

Yes, I think lessons learned from other integrations and talking to other folks who have done things of this scale. I think it's important that we communicate our plan as best we can externally as well as internally with some milestones around that both in terms of the financial model that we're heading towards, how much we're spending for example, as Jim was saying on the integration costs we want to call those out separately, so people can see what we're doing there and so frankly, we can measure our own progress as we work through this integration plan, so we're moving very quickly and decisively with this, but we hope to by the time we get to closure here be able to communicate so you can see a clear road map in terms of the overall integration of the business, and the financial performance of the business going forward.

That's really helpful. Thank you very much.

We'll go next to Michael Genovese, Soleil Securities.

Great. Thanks a lot. On the gross margins, you had very positive product mix with worldwide packets up, CoreDirector up, 4200 up, and long haul down, so given all those factors, I think gross margins came in below what a lot of us were expecting. Can you comment on that? Was there any pricing in the quarter or any reasons for the 45% gross margins?

Well, the first thing I'd point to is we did have about 1.5 points of margin decrement related to the charges to the product life cycle component or platforms that we talked about so it was really a bit better than we reported but it is all mix. We have a range of margins per our products. We have in some cases a range of products of margins within products, so we're comfortable that we have sort of mid 40s range margin currently, as we've said in the past, the Ciena business is headed toward higher margins as we improve the software content of our products, so we think that over time, that goes up, we're guiding roughly flat for Q1.

Okay, and then there's been a lot of talk about OpEx and I'm not sure if this question was asked but within that 90 million of OpEx, can you identify any piece that was due to maybe lawyers, consultants, other people around this deal?

Well, actually, there's probably not a lot in there. Most of that cost we have captured separately and we will account for it when we begin to account for the acquisition. I'm sure there's some cost related to the MEN transaction. We've been working hard on this for a year. We've got a lot of people flying all over the world frankly and we didn't capture all those costs and integrations, so yes, there's probably some upward pressure but not a huge amount.

Okay, thanks a lot.

Thanks, Mike.

We'll go next to Alex Henderson, Miller Tabak.

Thanks. Just to follow-up on Mike's question on the mix, if it's not a mix within the products is there a mix between new boxes and blades that maybe accounted for some of their various?

That certainly seems to be the case in the sort of days where you'd have chassis and cars, it's less the case as you get into the CSD portfolio, that's not particularly profiled, so it's more mix around the kind of platforms, the kind of applications, how much software intensity is on some applications as opposed to others, which is also similar with CoreDirector and there is a mix within a mix, and if you just look at it as Mike said, you have the three generally higher margin, higher software content platforms do well, you would expect gross margin perhaps higher than that but really it's just one or two skews within the platforms.

Just a clarification on the gross margins, I thought I heard you say that you were guiding to flat gross margins, your guidance I thought was mid to high 40s. Just to clarify whether you meant sequentially flat or whether you meant mid to high 40s?

They're roughly the same. Remember we reported 45, we said that that had 1.5 points related to charges, so we're basically saying it's going to be about flat, mid to high 40s.

Okay, going into your commentary earlier, you said you were seeing a nice pick up in the wireless backhaul space. Can you give us some sense of what percentage of your revenue base is coming from that segment generally focusing on stuff that's more in line than further downstream?

Yes. If you look, because you can look at a lot of the portfolio being involved in modest backhaul but specifically front and center you'd say virtually all of the CESD revenues that we took, the vast majority of the wireless backhaul. If you take AT&T as an example, the initial deployments and they're very small this quarter but the orders are ramping up, they're really primarily all for wireless backhaul. You're only just starting to, we're starting to receive orders for the ethernet business services on it, so the vast majority of that revenue is wireless backhaul now, Alex.

And then just another detail, the inventory level was down sequentially on up revenues and up sequential guidance. Are you planning to build some inventory over the next couple of quarters to fill in the demand side of the equation? Are you seeing tightness in supply on components or changes in pricing on components?

So far we haven't really seen any significant tightening or price increases. Our inventory situation is a rather complicated picture. In some cases, we ship to customers awaiting acceptance and recognize revenue when they accept the revenue and that sometimes contributes to inventory build almost independent of the way our revenue trajectory is going. In some other cases, what we have seen frankly is a higher demand than we had expected and so it's possible that we might build some inventory to make sure that our Supply Chain is robust enough to handle a better than expected inventory projection, so our revenue projection, excuse me.

It's a complicated question. We're going to go about it in a disciplined manner. We're going to make sure we make the right decisions and we're going to hold down inventory increases. On the other hand we'll make sure we have the material that we need to support what we expect to be revenue growth.

One last question and I'll cede the floor. Can you give us any commentary on the linearity of orders and particularly the linearity of orders relative to what you were expecting? Did it accelerate through the quarter? Was it a little bit ahead of target all the way through the quarter? How should we think about the trajectory there?

I'd describe it as we began in sort of I think it was sort of September to see reasonably good flow. That frankly has continued and our Q4 is normally very good relative to the other quarters order intake for us because our Q4 ends at the end of October, but we're actually continuing to see reasonably steady flow up-to-date including the first month of Q1. So it's been fairly regular.

Actually I lied. I wanted to ask one more question and then I prop us, this is a really quick one. Is it reasonable to think you were on a track excluding the acquisition of Nortel to hit profitability during FY2010? I'm just trying to get a handle on what base to think about the accretion on.

I would say this. Clearly, we don't have a huge amount of visibility coming out from where we are but I would personally have been disappointed if we weren't showing operating leverage and profitability certainly in the second half of the year.

Thank you.

We'll go next to Samuel Wilson, JMP Securities.

Just one question. Can you give us sort of what you think the balance sheet will look like in the capital structure of the Company post transaction, how you think about that over FY2010 and 2011?

Well the immediate at close, we will pay $530 million in cash, we will, per the deal issue a convert for $239 million. What will happen during 2010, is likely we will spend a significant chunk of the integration money. Some of that is capital in nature and we may do some leasing and things like that with that regard. I've said in the past that about a third of the integration expense is capital and we expect to be for the outside of the integration expenses, and we should not be burning cash. We should be generating some amount of cash.

Okay. Thank you very much.

We'll go next to John Marchetti, Cowen & Co.

Thanks very much. Two quick questions. First on the CSD side, Gary you mentioned obviously the majority of the business right now still coming from wireless backhaul. Can you just give us sort of your view as we're going into 2010 of maybe the business services side, and then just as a follow-up to Sam's last question, Jim as you look at sort of the numbers you just laid out on the cash side, do you feel comfortable as you're going through 2010 then with that kind of an expected cash balance on the balance sheet or do you envision maybe having to come back to the capital markets next year in some fashion to raise a little bit more cash? Thanks.

So John, on the CSD side of things, I would, my perspective is that I think you'll continue to see wireless backhaul be strong and some of the new platforms we've begun to deliver there are very targeted in that area, so I would expect that to continue to ramp. We've got some large Tier 1s that we've secured and I'd expect that to continue to ramp. We're also seeing good take up in some of the Tier 2s now, although it's very small from a revenue right now, I think that will continue to escalate. On the ethernet business services as I said, AT&T we haven't really started yet so I'm very encouraged by the potential upside that we're going to see through that. We would actually anticipate frankly the ethernet business services starting before wireless so I think we've got that to come. We're engaged with a number of Tier 1 and tier 2 carriers of where we secured the platform and they're just beginning to rollout the business services and I think some of that is also linked into the enterprise part of the economy so I think those business services as you see improvement in the general economy, I think you'll see some pull through on those services as well and I think we've placed for that. Jim?

With respect to the capital position, as you can imagine, we've looked very hard at the cash requirements for this transaction. It's been a focus for all of us. I'm comfortable with where we are now and with respect to future capital market activity, you know I can't comment on that but we have the right and the ability to affect such a transaction that any time that we want to do it and we'll watch to see what the terms of such a deal could be and make decisions appropriately.

Thank you.

Thanks, John.

We'll go next to Simon Leopold, Morgan Keegan.

Hi, Simon.

Thank you very much, sorry. Still had the mute button down. Just wanted to revisit real quick one aspect of the gross margin profile. I think the services gross margin was pretty good this quarter relative to history and if you could drill down a little bit of what might have contributed this quarter and how to think about that within the overall model going forward?

We've had very good margins in our services business now for several quarters. That is frankly an area that we focused on in terms of trying to get higher value-added services to customers and in terms of focusing on areas where we had less than good results in that business. We're not prepared to change our target at this time but we're very encouraged by the fact that we've done very well on services margin. The other thing I'd say Simon as I've said before, just as we do in products we have a range of services in terms of gross margin. The less value-added services tend to be lower margin. The higher valued more professional services are consulting in nature tend to be higher margin. We've intentionally focused on trying to move toward the higher end of that scale and you can see the results.

And so what's sort of your target for services gross margin then?

What we've said is mid to high 20s and not prepared to change it at this time.

Okay, and I think you may have made a comment earlier regarding some of what's driven the higher R & D than expected and included in that list, spending on 100 G. Now, in light of the fact that it looks like you're going to get the Nortel assets and their 100 G technology, do you lighten up on that investment particularly in terms of what's contributing to the January quarter expenses?

Steve?

Sure, so I think what you've touched on is one of the areas where potentially you could see some synergies going forward. We've done a very good job getting 100 gig out in what you might call the enterprise side, data center extensions and such and I think Nortel MENs did an exceedingly good job with 100 gig for long haul and kind of the upgrade of existing fiber plan, so there's clearly opportunity as we combine these two. We've had as Gary alluded to earlier, a lot of customer interest in that as a going forward position but clearly you combine arguably the best solution and when you combine that with the best solution long haul, I think we can have an excellent position in the marketplace as a result.

Okay, and a couple quarters ago, you highlighted a couple of long haul wins, I believe European carriers, one in Europe, one outside Europe. Were those contributing yet?

One is maybe a small contributor to the quarter. The other is not yet contributing.

Okay, and just one last clarification. Jim, when you first talked about the MEN acquisition and the $180 million of integration charges, it seemed pretty clear at that point that you looked at it as these are investments in the business and should be included when one thinks about the expenses and then in your response to Vivek's question earlier it sounds like you're changing that and suggesting we're backing out most of it in terms of pro forma. I want to clarify first of all is that a change in your view and if you could give us a little bit deeper explanation of what lead you to change your thinking?

I'm not sure what you're referring to in terms of my past comments, Simon. We have always thought that this $180 million is a cost of the deal and so in terms of the investment entailed in getting to the integrated Company I've always thought of it as money we have to spend to bring the companies together. Now, let's get to the accounting issue. We have, some of these things and let me back up and say that the $180 million is really an all in number. It includes transaction costs, it includes the integration costs and it includes capital to upgrade and strengthen our IT infrastructure, so it's really an all in cost related to the transaction. The accounting for it clearly some of those items by virtue of their very nature, we would exclude from as adjusted results.

Some of them it's less clear exactly how to handle them. We have talked about that internally. We have not reached a final decision on how to handle it in an accounting sense, but we will make it clear to you that what the spend is and where it's being reported, we're not going to in any way force you to look hard for these things. We'll show you the numbers and you could deal with them the way that you think is appropriate. My feeling is this is a cost of the transaction, not a part of ongoing business.

So if we just sort of step back without hard and fast numbers, and I understand sort of the fiscal 2011 accretive potential but if we look at fiscal 2010, it sounds like there's some in, some out, so is the deal dilutive or accretive to fiscal 2010?

The deal without, if you could ignore all of the integration costs, the deal is slightly accretive to 2010. If you include those integration costs as part of your reported results, then the deal is dilutive in 2010.

Right, but reality is somewhere in between?

We're talking about accounting here, not economics, and I think that it's a cost of the deal, Simon.

Okay, appreciate it, thank you.

I mean, I think that's the point, Simon, is we're going to serve this up in a way you can decide how you want to treat that. Clearly we'll treat it how we have to from an accounting point of view and that's what we're going to do but we're going to serve it up in a way that you can make the decision how you want to play that.

Well I guess my concern is I'm not the only one making that decision. It will be a wide range of interested parties making judgments and therefore, I think it could create some confusion up until the point you're able to clarify it.

We will attempt to clarify and be decisive around that and we will serve it up in the way that we think it's appropriate. We'll serve it up in the way that the accounting is appropriate to it and in a very disciplined way, so that you'll get to see what our view of it is, the accounting, and then clearly as you say Simon, people will then make their own interpretations of that, but I think we'll provide the information.

Okay, thank you.

We'll go next to Todd Koffman, Raymond James.

Thank you very much. The one area on this call you haven't spoken about too much is the long haul transport area. It's continuing to hit a new low watermark. As Simon mentioned, you had called out some customer wins a couple quarters ago. What's the outlook for that segment? I think you said it's doing $21 million in the just reported quarter as you look forward, thank you.

Sure. So we have had some wins in the long haul space. I think it's important to realize depending upon geography, one person's long haul is another person's ultra long haul and another is regional, I'd go back to some of the points Tom made earlier when he looked, going forward, what the 4200 has been focused on has been the metro space predominantly. You look at the opportunity presented to us with the MEN assets which has been focused on long haul through ultra long haul and in particular the 40 and 100 gig upgrades, and then you factor in the fact all of the core stream routes, I mean all of the routes going back to multi-wave, our original product are now available to us to go back and upgrade to 40 and 100 gig over the next few years. That's where we see the real opportunity in terms of the long haul kind of point to point transport market.

So that all said coming off the $21 million new quarterly low watermark, would you say that likely would be a new low and it's steady to rising from these levels or it's impossible to tell?

Well, I think that the bandwidth demand is going to remember and flow, right? The traffic patterns and networks are shifting a little bit to kind of metro aggregation side. As that shows up it will put demands back on to the core. It's been that way for the last 15 or 20 years or so, and so I would hate to say this is the low watermark. I think you're going to see variations, you'll see regional variations as different carriers build out. I think the thing you want to keep in mind is theres a tremendous amount of demand for capacity and a lot of the infrastructure is in need of an upgrade and the technologies that we're bringing to market allow that to be transitioned over to a carrier ethernet and transitioned to both 40 and ultimately 100 gigabit ethernet.

Thank you.

We'll go next to Sanjiv Wadhwani with Stifel Nicolaus.

Thanks so much. Two quick questions. Looking at the guidance for the January quarter, should we expect the growth to continue to come from ethernet and CN4200 or any color over there and then Jim, just in terms of the OpEx guidance flat sequentially, should we assume that the elements remain sort of flattish or maybe there's growth in R & D but sales commissions coming down slightly, sort of any color there, thanks.

Let me take the first one. I would anticipate that the carrier ethernet would certainly be robust in Q1. I would also anticipate the 4200 including long haul, as Steve said would actually be up in Q1 as well.

And I wouldn't make any major shifts in the mix. I'm sure there's going to be some movement plus or minus in some of the categories but I wouldn't make any major changes.

Got it. All right, thank you.

That concludes our question and answer session. I'd like to turn the conference back over to our speakers for any additional or closing remarks.

Thank you, Katie, and thank you everyone for your time this morning. I appreciate it, and for your continued support, and we wish everyone a Happy Holiday season. Thank you.

This concludes today's conference. We appreciate your participation. You may now disconnect.