Ceragon Networks Ltd (CRNT) 2011 Q3 法說會逐字稿

Good day everyone. Welcome to the Ceragon Networks Limited third-quarter 2011 results conference call. Today's call is being recorded and will be hosted by Ira Palti, President and CEO of Ceragon Networks, and Ms. Tsipi Kagan, CFO of Ceragon Networks.

Today's call will include forward-looking statements under the Private Securities Litigation Reform Act of 1995. These statements are based on current expectations and projections that involve a number of risks and uncertainties. There can be no assurance that future results will be achieved and actual results could differ materially from forecasts and estimates. These are important factors that could cause actual results to differ materially from forecasts and estimates. Some of the factors that could significantly impact forward-looking statements in this include the risks that NERA and Ceragon's businesses will not be integrated successfully; the risk that any synergies from the transactions may not be fully realized or may take longer to realize than expected; disruption from the NERA transaction, making it more difficult to maintain relationships with customers, employees, or suppliers; the risk that NERA business may not perform as expected; and other risks and uncertainties which are discussed in greater detail in Ceragon's annual report on Form 20-F and Ceragon's other filings with the Securities and Exchange Commission. Forward-looking statements speak only as of the date on which they are made and Ceragon undertakes no commitment to revise or update any forward-looking statement in order to reflect events or circumstances after the date any such statement is made. Ceragon's public filings are available from the Securities and Exchange Commission's website at www.SEC.gov, or may be obtained on Ceragon's website at www.Ceragon.com.

During the question-and-answer session, please limit yourself to one question. We will poll for follow-up questions as time permits.

I will now turn the call over to Mr. Ira Palti, President and CEO of Ceragon. Please go ahead sir.

Good afternoon or good morning. Thank you for joining us today. With me on the call is Tsipi Kagan, Ceragon's CFO.

We continue to be pleased with our execution and results for Q3. Here are some highlights. Q3 revenues were at the high end of our guidance. Business continues to be good. Book-to-bill was below 1 for the quarter but above 1 for the nine-month period. Operating profit is starting to come back as part of the rapid progress of the integration and customer migration.

As we told you on our last call, we are very happy with the record focus integrating former Evolution short-haul customers to the FibeAir product line. Similarly, the Evolution long-haul products are proving very popular.

We continue to see the evidence of integration success in our booking trends. FibeAir short-haul bookings are increasing from all customers with the same pattern for Evolution long-haul. We believe this is a mark of successful business combination. The customers [we enlist] specify the Ceragon short-haul product and their continued loyalty for the Evolution long-haul.

As we mentioned previously, the lag between ordering and revenue recognition means a few quarters of delay for the full impact of the gross margin improvement. We are moving according to expectation, and we are confident it will happen as planned.

One of the main trends we see in our business is customers expecting more feature, higher capacity for the same or slightly lower price. This means the backhaul vendor must pursue twin goals of relentless innovation combined with relentless product cost reduction. It takes both to be successful.

During Q3, we released two new products in our successful IP-10 product family. The fiber IP-10 [feed], our new Compact All-Outdoor Solution offer as much as 1 gigabyte of capacity and can be easily mounted on rooftops and poles. This product is suitable for small sell-side as well as advanced mobile applications.

Our new FibeAir IP-10 is a high density system with capabilities of scale up to 4 gigabits. Operators of both public and private networks that require a very powerful all IP system for everyday classic for multiple locations and (inaudible) deeper into their network find this an ideal solution.

One of the benefits to our new scale of reach is that we have a very good handle on what is happening in each geographic region. So here is a summary of what we are seeing is each major area. Business in Europe remained healthy in Q3. We saw Russia and Nordic countries expanding and upgrading from old PDH to new high-capacity hybrid TDM IP-based networks. They're also focusing on trends in some high-growth vertical markets, and we see increased demand for a customized solution to serve the growth in offshore oil and gas activity in the North Sea.

Africa remains a bright spot with dramatic growth in data services, rising demand for both our short and long-haul solutions. In Q3, we secured a long-term agreement with one of the region's leading operators for replacement upgrade and expansion across six of the largest countries in Africa. Customers are finding the flexibility and future proof nature of our products very appealing and the low power consumption for long-haul is especially important.

India has not yet returned to normal due to the delays in resolving the 2G related corruption charges and the release of the new telecom policy. The overall environment is affecting all vendors equally. However, on the positive side, we have been selected by a leading Indian operator as the preferred microwave vendor for their upcoming 4G LTE rollout. We are participating in this project via one of our OEM partners. This will be one of the first LTE networks to be deployed in India. Because it will be overlaid with our 2G/3G network, this customer will [assume] a hybrid microwave backhaul product to support the rollout. This is consistent with what we see in the market generally. Nearly 100% of our customers order IT capabilities, but only a relatively small percent that are greenfield operators building new networks use only IP capabilities at this stage.

The balance of the APAC region is a little soft with some improvement in booking from Southeast Asia.

Latin America continues to be a source of strong demand with a lot of activity throughout the region. We are seeing particular strength in Brazil, Argentina, Venezuela, and Mexico, as they are rapidly expanding their 3G networks.

We saw no major change in North America with continuing orders from the Tier 1 operator as well as ongoing business from smaller mobile operators, [carrier] carriers, and private network operators.

The large equipment vendors have been signaling weakness in demand due to macroeconomic headwinds. Looking to the rest of the year and into 2012, we see the same thing and expect macro conditions to affect us but to a lesser extent. We also don't see a quick resolution to the issues in India that are holding back orders there.

Even in this environment, we will continue to grow, although not at the same pace we originally expected. As a result, we will need to modify our expectations for Q4 and 2012. We remain on track to achieve the gross margin improvement coming from migrating customers to lower-cost products. Therefore, we are still targeting mid 30s% gross margins by the end of 2012. We also believe we can hold non-GAAP operating expense flat next year, which means a non-GAAP operating margin of 8% to 9% now looks like a realistic goal.

We continue to believe the appropriate model to target is 10%-plus operating margins, $150 million quarterly revenue run rate. However, we see the [macro] uncertainty pushing out the timing a little.

I'm not at full Liberty to discuss [Anacel's] sale of its Microwave division, but it's no surprise to us to see this additional consolidation. We expect minimal impact from the combination of DragonWave and NSN. We've been competing successfully with both organizations in the past and expect to compete even more effectively as DragonWave becomes the de facto microwave product division of NSN.

With our own integration progressing on track, the advantages of scale already in place and six years of continuous cost reduction, and we continue and are confident of our position in the market where direct contact services, product innovation features, capacity, and cost will all be important.

To summarize, business is good. We'll continue to grow the top line perhaps at a somewhat slower pace. Integration is going extremely well. We are operating a single unified organization with balanced global exposure and driving the growth in the bottom line. We are making excellent progress towards our financial targets which remain valid and attainable with a time line that is a little pushed out due to the macro outlook.

Now I would like to turn the call over to Tsipi to discuss the financials. Tsipi?

(technical difficulty) -- Ira. Revenues in Q3 reached a record of $116.1 million, representing a 5% sequential growth. Our GAAP gross margin was 29.7%. Excluding $2.9 million of expenses related to NERA acquisition and integration plan and $92,000 of stock-based compensation, non-GAAP gross margin was 32.3%.

Our GAAP operating expenses were $40.2 million. Excluding $2.8 million of expenses related to NERA acquisition and integration plan and $1.7 million of stock-based compensation, non-GAAP operating expenses were $35.9 million. We're planning to hold expenses at this level going forward. On a GAAP basis, we reported an operating loss of $5.8 million and our non-GAAP operating profit for the third quarter was $1.6 million.

Finance expenses in Q3 were $241,000, and tax expense was $724,000. On a GAAP basis, we reported a net loss of $6.7 million, or $0.19 per share. On a non-GAAP basis, we reported a net profit in Q3 of $595,000, or $0.02 per share.

The geographic breakout of revenues appears in the press release. Latin America continued to be very strong in Q3 and Africa grew as well. Europe continued to be a large contributor to revenues, and India improved in Q3 even though the (inaudible) has not returned to normal. North America grew sequentially while Asia-Pacific was a bit lower than Q2.

On a combined basis, our OEMs together accounted for only 9% of the total revenue. We had no 10% customers in Q3.

Turning to the balance sheet, receivables increased to $135.8 million and inventory decreased to $96 million. The increase in receivables reflects some payments that were pushed out beyond the end of the quarter but we're not experiencing any collection issues.

We had negative operating cash flow of $16.2 million in Q3. The working capital needs were anticipated and we expect operating cash flow to be breakeven for Q4.

Cash and cash investments totaled $45.9 million as of September 30, 2011. Looking ahead to Q4, our guidance for revenue is to range between $116 million and $121 million. We feel a goal of mid 30s% gross margin by the end of 2012 is attainable. With no gradual topline growth due to the macro climate and holding operating expenses flat, we believe that a goal of 8% to 9% nonprofit operating margin by end of 2012 is realistic. The time line to achieve our target of 10% non-GAAP operating margin at a $150 million quarterly run rate depends on the pace of improvements in the microenvironment and the situation in India.

Now we would be pleased to take your questions.

(Operator Instructions). Mike Walkley, Canaccord Genuity.

Yes, thank you for taking my questions. This is Matt Ramsay on for Mike Walkley today. Congrats first of all on the solid quarter. I guess the crux of my questions will be around your new Q4 '12 operating targets. I guess could you help us walk through the model about how we get to those targets? I guess it sounds like it's just going to be revenue coming down from that $150 million target. What would be the revenue level that would get you to the 8% to 9% operating margin in that quarter? Thanks.

You're talking about the end of 2012 numbers. We do expect to continue growing original plans around the 20%, 25% on top of the numbers that we had in 2011. We do expect somewhere about half that rate for the growth.

Peter Misek, Jefferies.

Thank you. Can you just comment very quickly on what you think of the acquisition or consolidation of Nokia Siemens Networks and DragonWave? Then I'd like a little bit of understanding of how we should expect -- and you mentioned this, Tsipi, on the call on cash flow, but how should we model for cash flow for next year? Great, thanks.

I'll pick up the first piece and I'll let Tsipi answer the second piece. For the first piece, I think I said on the call I'm a little bit constrained in my ability to refer to the deal. The only thing I will say is that we have been competing with each one of them separately. We've been cooperating with NSN and my belief that at the end of the day nothing has changed, given we have a greater competitive position at this point.

Joseph Wolf, Barclays Capital.

Operator, you're cutting short the people. Please, when we answer, I think I answered only half -- there were two pieces to the question. Tsipi was supposed to answer another piece. Please let the people, the person finish and then we'll reach over. Thank you.

I'll let Tsipi answer the previous question around the cash flow and then we'll get to the -- whoever is on the line at this point. Tsipi?

So as I mentioned on the call regarding Q4, we expect to have the same level of cash as we had in Q3, even generate some cash in Q4, generate cash from operations.

Regarding 2012, we're now working on the budget for next year in the plan and I expect it to be flat, but we'll give you better color once we come out with the Q4 results.

Who is on the line?

George Iwanyc, Oppenheimer.

Good morning. Just following up on the NSN question, do you see any of the other wireless infrastructure vendors changing the way they approach microwave backhaul at this point?

As I said on the script, we expect this consolidation in the market. I believe, over time, we'll see further consolidation.

Do you see any other microwave -- internal microwave production and design spun out?

I don't know. There's probably, what, four candidates to look (inaudible). That's Ericsson, NEC, Huawei, [Biti], Alcatel Lucent. Those are five. I don't know. It's a hard decision. Maybe, maybe not. You'll have to ask them.

Just looking at the pace of the NERA acquisition -- or the NERA integration, can you give us a sense of how that margin improvement has been going on just specifically on those product lines?

I think, it's the mix of the improvement, the gradual improvement in the gross margins from quarter-to-quarter as we progress -- it's very, very hard to do the analysis like you're talking about specifically because we know what the gross margins are on the FibeAir product line and the Evolution product line and (inaudible). As we see the integration, we believe we'll be in the mid 30s%-plus towards the end of next year. The mix will become more stable.

Thank you very much.

Alex Henderson, Miller Tabak.

Yes, I just wanted to clarify because you broke up a little bit when you were talking earlier. Did you say that you had been growing in the 20% vicinity and now you're expecting to grow at about half that in '12? Is that what I heard you say?

That's what you heard me say. That was the market -- or the guidance we gave towards the end of Q4 of next year. We believe there are (inaudible) headwinds and a little bit of slowness and then they forced to grow at a little bit slower pace.

Relative to that growth pace, do you think the long-haul or the short-haul piece grows faster?

Both of them will continue to grow in different markets. It's not any one of those pieces [particularly].

Then back to the NSN, as you understand the spin-out, does that leave NSN open to buy from other players, or does it lock them into buying from DragonWave for a period of time? Is there a standstill agreement with other supply or how do we think about that?

The only thing I can refer you to is go back to the DragonWave statement. They are a strategic preferred partner.

Okay. So to the extent that they're strategic and preferred, that would imply that they have an edge, but it doesn't lock anybody out.

That's my reading as well.

So theoretically you could strengthen your position in there now that they no longer have an internal manufacturing position. Isn't your cost lower than the cost it costs them to make it internally? In other words, your sale price to them is below their internal production cost?

That's why we have been continuing to do business with NSN, although at lower volumes all over through 2011. We continue to do business with them. My expectation, we'll continue to do business with them.

I'll cede the floor. Thanks.

Daniel Meron, RBC Capital Markets.

Can you guys hear me now?

Yes, good afternoon Daniel.

So first of all, congrats on the third-quarter execution. My question really is trying to dig a bit deeper into the outlook. To what extent is the lowered outlook as far as the margins, and to some extent also on the revenue into 2012 related to the macro and how much of that is India? Can you quantify that a little bit and maybe provide a little bit more color on the dynamics in India and how it impacts your plan into 2012?

Hard to quantify, but if I need to give a [top] estimation, half-and-half. Level of business in India is about half of what we expected. Look at the numbers, so you can assume what we are missing there. The other half is probably from the macro headwinds.

On the India dynamics, can you provide a little bit more color on that, and also what kind of milestones should we be looking to to see some recovery there? Could there be a potential for pent-up demand once these -- I guess some issues in that market open up, could that (inaudible) open up the floodgates for you guys?

I'll put it in two ways because it's two separate issues. If I look at India, all of the signals directly from India for probably most of the leading (inaudible) vendors, including us when the market opened again. You'll see order cycles inflate because I think it's more of a localized, On the macro headwinds, do as I do. Read the papers. That's the (multiple speakers)

Or not. Okay, thank you. I'll cede the floor.

Matt Thornton, Avian Securities.

Good morning. Thanks for taking my question. Maybe first, Ira, on the book-to-bill in the third quarter, I know it was below 1. Are there any other markets that drove it below 1? Obviously I'm assuming India was a big headwind in the quarter. Any other markets that you saw material weakness?

We haven't seen material weakness in any of the markets except at this point in India. Now -- and that's not saying that all markets were above 1 or below 1, because bookings usually have a little bit of a tendency around fluctuation from market to market and are not as I would say consistent with flatness of revenues. But I haven't seen any market which is significantly down at this point.

So in terms of the macro caution, I think I understand that India issue, but in terms of the macro caution, it's not necessarily that you're seeing any material evidence yet but obviously, like you said, you're reading the papers and it's probably prudent to expect some headwind as we go forward here. Is that a fair characterization?

That's a fair characterization.

Great. Then secondly, this might be a question for Tsipi. The cash position is down again. You know, cash flow continues to be a bit of a sore spot. But I guess how comfortable are you with the cash position at current? You're obviously well below what some of your other pure-play peers are. What's your level of comfort there?

We are still comfortable with our cash position. We did expect it to go down, so it was no surprise except for some collections that were pushed out or for the quarter. There was the -- we expected the cash flow to go down significantly in Q3. We expect to be at this level going forward and we're comfortable with around $40 million cash position in the bank. So we're fine with that.

Great. Then just one more, if I could, on gross margin. Any directional comments here for the fourth quarter? I think previously when we spoke three months ago, the thinking was gross margin would be up more than it was up in the third quarter. I just want to make sure that's still reasonable.

Then for the fourth quarter 2012 target, you guys continue to talk about mid 30% but I think in various forums you've talked about 36% to 37% specifically, I guess. It's probably nitpicking but can you help us understand better what targets we should use there?

First of all, we are going to be -- third question, we do expect improvement in Q4, especially since, as Ira mentioned, the migration is going very well, so that [sale] continues to improve our margins.

Regarding Q4 of next year, we discussed the mid 30s% and I can say we can be 34% [either] 36% gross margin, and that depends really on the portion of Evolution versus IP-10 in the Q4 of next year. It's very difficult to forecast. I feel that being in the range from 35% to 37% gross margin is something that is reasonable. And any fluctuations in this product -- product within the sales that we're going to have will affect the margin. So that's where -- how we look at it.

That's helpful. Thanks guys. Good luck.

Joseph Wolf, Barclays Capital.

Hi. This might just be me, but the quality of the line is bad, so I apologize if I've missed some of the comments. I wanted to just go back to the macro and the cash a little bit. That is what kind of change are you feeling? Because a month I guess into the fourth quarter, sales were very strong, book-to-bill was low but at what point did you kind of get a sense around the macro, excluding India? Do you think there's a difference between different geographies, or is this kind of a blanket caution based on other inputs that you guys are getting?

Then on the cash, I just want come back to the uses last and the sources. Last quarter, I think $55 million was talked about as the base case that you were comfortable with. Now it's $46 million, I guess, and there's also some I guess deferred payments supposed to come in next quarter. Are you talking about cash flow breakeven? Can you just go into some detail about what that cash flow breakeven is with the receivables that are coming in from last quarter? Will cash be up, or is it even with those receivables coming in, cash will be down a little bit and there's a bit of burn rate left in the fourth quarter?

Let's start with the macro. With the macro, we are not seeing any specific indications, but we are trying to be cautious moving into next year where the numbers are separate from India. That's based on prior experience and things we are (inaudible) in the market. I don't think it's being reflected in our actual numbers for this quarter yet. I'm not sure what will happen, by the way, but I think we need to be -- look carefully as we move into next year.

On the cash flow, I'll let Tsipi answer you.

Yes, (inaudible) cash flow, so we are at the level of $46 million, and we expect that Q4 to be a little bit better than $46 million after the need for working capital and also the capital expenditures. So all together, that includes the receivables that were pushed out into Q4. We expect our cash flow position to go up a little bit in the quarter, but not by that much. As we said, we're comfortable with this cash position.

Just as a quick follow-up to that, I think that there's a loan from a local bank that starts to require payment in early 2012. Could you tell us what the net interest expense will start to look like in next year?

The interest expense is reflected in the book. It's just principal that we're going to start seeing next year, so it will not affect the interest expense. We got -- the terms of the deal is that the -- the loan is that, in the first year, we don't pay the principal; we only pay the interest. It's reflected in our books and starting next year, we also pay back the principal.

Okay. I think I got that. The line is terrible, so I am going to -- I'll hang up now.

Larry Harris, CL King.

Thank you. Good morning. I was wondering if you had seen any changes in terms of pricing trends in the market with growth being now slower than previously anticipated.

No. We have not seen any pricing changes. The market is always very, very competitive. We continue to compete within that market environment. I don't think the market environment will change.

I apologize if this was asked previously, but in terms of long-haul versus short-haul radios, as you look to maybe a 10% growth rate rather than 20%, do you anticipate maybe a slower rate in one of those two categories?

No. We expect both categories to go grow at about the same rate. I don't think the business is differentiated between the two of them because it overall is a [tougher] environment.

Understood. All right, thank you very much.

Kevin Dede, Brigantine Advisors.

Ira, Tsipi, great job on the quarter. Tsipi, I was wondering if you could tell me your headcount at the end of the third quarter and how it was different from the second quarter.

Headcount is 1200 people. Again, there are people that are still on the payroll that are part of the restructuring plan, and they're the ones who are -- what we pay is reclassified to ongoing restructuring for the non-GAAP reporting.

Okay. So what you're saying is the 1200 was consistent with the end of June?

Yes, the 1200 is what in fact we're going to have eventually after we finish the whole plan, restructuring plan.

Okay. Ira, can you give us an update on the progress you're making on the new iteration of the Evolution and when you think you might get that to market at some -- what point that was for next year and whether or not that's baked into your mid 30s% gross margin target?

I think all of it is baked in into the mid 30s%-plus gross margin, which is really the cost reduction on Evolution which is on long-haul, which is on target, and the change in the mix.

Okay. When do you think you'll have that new Evolution product on the market?

Gradually hoping fourth quarter.

Fourth quarter this quarter, or fourth quarter next year?

Fourth quarter this year.

Thanks. Again, great job.

James Faucette, Pacific Crest.

Thank you very much. A couple of questions for me. First, can you give us a sense of how much of your business right now is going through Nokia Siemens and then as a percent of overall revenue, and what your total business through OEMs is?

Secondly, when you look at your outlook for 2012 -- and it sounds like, Ira, you're looking at about half of the change being related to India-- are you building in any expectation of improvement in India for next year, or are you anticipating in that outlook that India will continue at about current run rate levels? Thank you.

I'll take them one by one. Total OEM business was below 10%, all OEMs. Nokia, NSN's business was in the low single digits at this point out of that number.

The second question that you asked is what happens if India comes back next year? If India comes back, my expectation it will grow faster.

That's great. Thank you very much.

Aalok Shah, D.A. Davidson.

Good morning. A quick question for you, just to follow up on James' question. In terms of the OEM relationships that you have, are there any of them that are formal contracts that you have at this point?

All the OEM relations are formal contracts.

(multiple speakers)

We work with formal contracts in all our OEM relations.

Okay, so is there an exclusive with any of these or are they open for bids from other companies as well?

None of the OEM contracts are exclusive with any one of those. They never have been, by the way.

Great, thank you very much.

Alex Henderson, Miller Tabak.

Thanks. I was hoping you could clarify your comment about the OpEx. I think you said you expect to hold the OpEx flat. I'm assuming that you mean at the $36 million quarterly run rate that you're currently at, as opposed to the average for the year. So that would imply $144 million flat, assuming a couple low single digits, $144 million to, say, $149 million range. Is that -- am I thinking about it correctly, when you say flat you mean at the September levels?

Yes, think you're thinking about it correctly.

And so am I in the right ballpark? I'm talking about the parameters being flat to up $5 million kind of thing? How should we think about it?

Think about what?

The spending, when you say flat, what -- are you meaning dead flat, or are you meaning modest growth?

We are meaning modest growth is modest growth. Flat is flat.

I just wanted to make sure I was clear on it.

(inaudible)

Is there any display between the individual line items we should be looking at, mix between R&D, sales and marketing, and G&A? I assume you're probably working to bring the G&A down and maybe kick R&D up a little bit. Also along the same lines, is there some cost associated with getting those new products ramped that fall back out of R&D?

There will be small changes at this point. We'll probably (inaudible) those as we talk about more specifics about 2012 on our end of the year call. We'll probably talk more specifics on those numbers.

Thank you.

(Operator Instructions). Matt Thornton, Avian Securities.

A couple of quick follow-ups. I guess first, do you see any disruption anywhere from some of the flooding in Thailand? I know some competitors have been marginally impacted. I guess number one, are you seeing any impact there?

No, we don't see an impact from the flooding in Thailand. We do not have manufacturing operations in Thailand at this point and none of our suppliers come from Thailand.

Perfect. Just a couple of housekeeping once for Tsipi. On OpEx in the fourth quarter, I'm assuming it's in line with the recent commentaries of flat sequentially, and then financial income is running at about $200,000 -- excuse me, financial expense, and then tax rate, I guess any color you can give us there on how we can think about those line items going forward?

I think they're more or less going to stay the same level. Regarding the taxes, it's taxes that we pay in different subsidiaries locally; it's not taxes we pay on a corporate level. The same goes for interest expenses for next year.

So we can kind of flatline those on an absolute basis going forward, at least for the intermediate term. OpEx in the fourth quarter, I'm sorry, that was also hold that flat sequentially?

Yes, yes.

Terrific. Thanks again guys. Good luck.

Speakers, I'll turn it back to you for closing comments.

I'd like to thank everyone for being on the call with us. I a little bit apologize on the quality of the line at this point. I think we had an issue here involving one of the lines. As we progress, I would love to speak with each and every one of you tonight or over the next few days with follow-on questions. Thank you very much and have a good day. Thank you.

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