Ceragon Networks Ltd (CRNT) 2011 Q4 法說會逐字稿

Good day, everyone. Welcome to the Ceragon Networks Ltd. fourth-quarter and full-year 2011 results conference call. Today's call is being recorded and will be hosted by Mr. Ira Palti, President and CEO of Ceragon Networks, and Mr. Aviram Steinhart, CFO of Ceragon.

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 risk 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 the forward-looking statements in this include the risk of significant expenses in connection with the potential contingent tax liability associated with NERA's prior operations and core facilities, the risk that the combined Ceragon and 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.

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

Thank you for joining us today. We are joining you from Mobile World Congress in Barcelona.

With me on the call is Aviram Steinhart, our CFO, who joined us in December from Lumenis where he had been Chief Financial Officer since 2007.

I'm pleased to officially welcome him today. Aviram has already made an important contribution to the Company by leading the process to accelerate the development of new infrastructure and systems to support larger, more complex business as it evolves. He has managed to build this while also handling the first full audits of the combined company since the NERA acquisition.

In addition to being a highly experienced financial and administrative executive, he has a great deal of relevant wireless industry experience. You'll hear his report in a moment.

Turning to the results we reported earlier today, we continue to be pleased with our execution as reflected in the fourth-quarter results. As planned, we reported sequential improvement in revenue, gross margin, and operating profit.

Book to bill was under one, which was not a surprise. We took the booking pattern into account when we discussed the outlook for 2012 on our last call. Still, we are entering the year with about two quarters of backlog, which is typical. We see tangible reasons to expect bookings to improve and we continue to believe the indication that we gave last quarter, 10% to 12% topline growth, 8% to 9% operating margins by year-end, is the right level to think about.

I want to focus for a moment on the major milestones we have reached. We have completed the integration of the NERA business. We migrated key customers from the Evolution short-haul product to the fiber product line. Customers continue to buy the Evolution long-haul product. By operating as a single company, we have realigned the product lines and we are on track on the cost reduction of the Evolution.

This is significant for several reasons. We are now in a position to fully exploit our first-mover advantage. By taking the lead as a consolidator in the latest round of industry consolidations, we created the number one wireless backhaul specialist with global reach, local support, a complete product offering, and significant market share. Now, others are beginning to react to our move.

We are positioned to win more than our share of business as some of our competitors are facing the challenges of the complicated business combination, a major shift in product cycle, of completing internal priorities. We are completely on track to achieve our gross margin targets as we have six years of continuous cost reduction and product innovation behind our roadmap and we believe it will be difficult for others to replicate our cost structure.

Finally, we are expecting to generate cash from operating this year, building our cash balance after debt service, particularly during the second half of the year.

Having lowered our risk profile, our main concerns relate to things over which we have less control, such as our competitors' political and macroeconomic issues. So let's view the outlook on a regional basis.

We expect that in 2012, growth will come mainly from Latin America and Africa. Growth is expected to come from a combination of further penetration of large accounts, as well as from expanding within these regions.

As you recall, in Q3 we secured a long-term agreement with a leading operator for replacement upgrades and expansion across six of the largest countries in Africa. In December, we announced additional orders from a large mobile operator in the southern cone of Latin America. And last week, we announced that we have been selected as a primary global backhaul vendor by Telefonica beginning in Chile, Panama, and Venezuela.

We are assuming that Europe will be relatively stable despite the overhang of the macroeconomy. This assumption is based on ongoing upgrades from low- to high-capacity links. Some possible pockets of strength include places like Russia. We've recently announced a deal with Tele2 to provide additional high-capacity links in support of their ongoing network expansion.

We are encouraged by recent reports from India that some of the obstacles are being removed. The 2G license auction dispute resulted in the cancellation of 122 licenses by the India Supreme Court, allowing for new spectrum allocations. An eagerly-awaited new telecom policy, which is expected to take effect in the coming months, will also clear the way for a return to normal business. Bookings are expected to begin gradually improving, but revenue improvement will only come later this year and into 2013.

But meanwhile, we are continuing to gain share in India, both directly and through our OEMs. We are pleased to see customers specifying Ceragon and telling our OEM partners that they want the Ceragon solution.

We are looking for modest improvement in the rest of APAC, mostly driven by the southeast Asia region, and in North America from penetration of new customers and some market-share gains.

As we are in Barcelona, Mobile World Congress, there's a lot of talk about technology perspective. Healthy small cells and hetnets are on discussion here as operators struggle to cope with the stress on the networks for mobile data demands.

We believe there will be multiple complementary new technologies and architectures deployed over the next several years. We are broadening our own portfolio to meet any network requirements and any standard, with solutions ranging from hybrid systems, all-IP systems, additional frequencies, compact outdoor solutions tailored to small cell and hetnet architectures.

On the long-haul side, we announced yesterday a significant enhancement to our long-haul platform that provides more capacity by increasing spectral efficiency to 1024 QAM. This solution is already in the air and being installed by a specialized carrier in the United States.

The fact remains, as of today additional network capacity is coming largely from 3G expansions worldwide. This means customers require hybrid microwave backhaul products to support their expansion, migration, and modernization plans. As we have mentioned before, nearly 100% of our customers are specifying very high capacity and IP capabilities in their RFPs, but only a portion are using IP only at this stage.

The major portion of the global 4G rollout is still ahead and will fuel our growth for years to come.

High-capacity microwave backhaul will have an important role to play, solving capacity bottlenecks and building next-generation [net organist] network. And we are the number one specialist in this area.

Something else that's a safe bet, particularly at this stage, is that operators want to avoid the need to rip and replace. Operators are considering the total cost of an upgrade, and we are responding with unique solutions to provide smooth upgrade quickly and problem-free. For example, we provide a mechanism to attach to any existing antenna that saves equipment cost, as well as the down time and hassle of changing and aligning antennas.

With the largest telecom equipment providers under increasing pressure to focus on their own core competencies, there's a stronger need for a large wireless backhaul specialist with locally-based professional turnkey services. We are that large specialist for our customers.

Now, I'd like to turn the call over to Aviram and discuss the financials. Aviram?

Thank you, Ira. I'm pleased to participate in my first quarterly call as CFO, and I look forward to getting to know all of you.

As Ira mentioned, this has been a very busy few months since I joined. Major acquisitions always bring their own set of challenges in terms of information, reporting, and decision support systems. And I'm pleased to say that we are meeting those challenges.

We are also completing our first full audit of the combined company. With all this behind us, we have strong confidence level.

You will all have seen the results announced this morning, so I'll just take a minute to elaborate on a few items. I won't spend a lot of time on the full-year results as historical comparisons are not relevant because of the acquisitions.

Geographically, Latin America and Africa increased the most with the acquisition. Increases in other regions more than offset the decline in India, and total revenue reached a record $445.3 million. Both long-haul and short-haul product lines contributed.

As expected, with the addition of NERA, gross margin declined temporarily. Our GAAP gross margin of 24 -- 27.4% in 2011 reflects approximately $22 million of acquisition-related items in cost of goods sold, primarily a $16.4 million inventory step up related to the acquisition.

On a non-GAAP basis, gross margin for 2011 was 32.4%, compared with 35.9% in 2010. Gross margin improved during the year as we migrated short-haul Evolution customers to the fiber product, and we expect further improvement during 2012.

GAAP operating expenses of $171.4 million included approximately $32 million of acquisition-related expenses, restructuring, and other related costs to the integration plan, as well as amortization of purchased intangibles and stock-based compensation expenses. The acquisition-related expenses resulted in a GAAP operating loss of $49.4 million.

Non-GAAP operating expenses were $139.6 million and an operating profit of $4.7 million on a non-GAAP basis. After $2 million each of finance expenses and income tax expenses, we were at breakeven for non-GAAP net income and earnings per share in 2011. Without acquisition-related charges, the GAAP net loss was $53.7 million, or $1.49 per share.

Taking a look at the fourth quarter, revenue increased sequentially to $118.5 million, within the range of our guidance. Our GAAP gross margin of 29% reflects about $4.6 million costs related to the acquisition. Excluding those acquisition-related costs and $100,000 of stock-based compensation, non-GAAP gross margin improved to 33% from 32.3% in Q3.

Fourth-quarter GAAP operating expenses were $41.4 million. Excluding $3.8 million acquisition-related expenses and $1.9 million of stock-based compensation, our non-GAAP operating expenses were $35.7 million, compared with $35.9 million in Q3. We expect to be able to hold quarterly non-GAAP operating expenses at about $36 million to $37 million for 2012. On a GAAP basis, we reported an operating loss of $7 million.

Our non-GAAP operating profit for the fourth quarter was $3.4 million, or [2.9%] operating margin (sic - see Press Release). We expect to improve operating margins during 2012 as gross margins improve and we hold operating expenses steady.

Finance expenses in Q4 were about $1 million. The increase was related to exchange-rate differences. Tax expenses were $123,000.

In 2012, you should assume annual financial expenses will be around $2.5 million and tax expenses will be about $3 million for the year.

On a GAAP basis, we reported a net loss of $8.2 million, or $0.23 per share. On a non-GAAP basis, we reported a net profit in Q4 of $2.3 million, or $0.06 per share.

The geographical breakdown of revenue is given in the press release. Europe came back a little stronger in Q4; Africa continued to grow; Latin America continues to be strong, but not quite as much as revenue in the year. India reflects ongoing issues there. North America was a bit slower. And Asia-Pacific grew sequentially.

On a combined basis, our OEM accounted for 3% of total revenue and we had no 10% customers in Q4.

Turning to the balance sheet, trade receivables increased by a few million and inventory decreased slightly. DSOs increased to 109.

When some of you update your models, you will see changes in certain balance-sheet items from Q3 to Q4. This results from the finalization of the purchase price allocation in Q4 reflecting new information we received and actually experienced during the year.

Turning to our cash position, we had a positive cash flow from operation of $7.4 million, and we added $3.6 million of net cash and cash investment at year end. Cash and cash investments totaled $49.5 million as of December 31, 2011. We expect to continue to generate cash during 2012.

Looking ahead to Q1, we are expecting revenue to be similar to Q4 and we think a range of $115 million to $120 million looks realistic. We expect gross margin improvement, too, mainly in the second half of the year, and continue to see our goal of mid-30s gross margin by the end of 2012 as attainable.

With gradual topline growth during the year and holding operating expenses relatively steady, we believe that the goal of 8% to 9% non-GAAP operating margin exiting 2012 is realistic. The timeline to achieve our target of 10% non-GAAP operating margin at a $150 million quarterly run rate depends on the state of improvements in the macroenvironment and how quickly business returns to normal in India. But we currently believe we can reach this goal by the end of next year.

Now, I turn the call back to Ira.

Thank you, Aviram.

To sum up, we are positioned to excel in the areas most important to customers -- advanced product features for high-capacity solutions; lower total cost of ownership through reuse of equipment, less power requirement, higher modulation, software-based upgrades, et cetera; and direct contact with strong, local service capabilities.

By taking a long-term view and as we approach the $500 million in revenues, we are positioning the Company for the next growth milestone.

Exponential growth in mobile data is driving demand for our products, and we are well positioned to gain market share, even so from a much larger revenue base than we had a year ago. We think we can grow at an average of 10% to 15% per year, depending on macro factors. We expect to reach and maintain gross margin in the mid-30%s, while targeting a 10% non-GAAP operating margin as a suitable level longer term. This is our target financial model, and the rest is about continuing to execute while the other players struggle with business models.

Now, we would be happy to take your questions. Operator?

(Operator Instructions). George Iwanyc, Oppenheimer.

Ira, when you look at the growth expectations for Latin America and Africa, can you give us a sense of the visibility you have there and the number of large contracts that you still need to start contributing to get that growth?

We have in those regions reasonable to very good visibility with some of the customers. I think I mentioned, in Latin America, that we got contracts and we are getting contracts with a large operator in both south cone and other regions there. And I think I mentioned Telefonica.

We have good visibility. Let's remember that the growth comes still from expansion within those operators and into additional regions. I think the win in Telefonica will allow us to go and expand within the region.

Similarly in Africa. I think I have good visibility, but like all businesses, I don't think I have all the orders in hand for the end of the year. We mentioned we have about two quarters of backlog, and it's ongoing execution which we believe, based on the relationship with the customer, the products, being on the ground, and the teams, we can see the growth coming.

If India was to return to normal, would that be in addition to the growth profile that you are currently looking at for 2012?

Probably yes, but not significant on the revenues. I think we'll see that mostly in the bookings. Revenues, like always, takes -- there's a delay of six to nine months until we see it back into the revenue numbers.

Okay, and just one last question. Can you give us a sense of how the OEM business looks right now with the competitive changes in the market?

I think we mentioned that overall, our OEM share of our business is now small. It's about -- it was last quarter 3%, a little bit higher on the yearly basis on the mix.

I don't think there is a significant change in the way it looks right now. If you referred to [anisam] planning on diversifying or divesting their business as OEM, that's a different story.

Thank you very much.

Peter Misek, Jefferies & Company.

A couple of questions for you, firstly on the geographic split sequentially. Obviously, we saw some reasonably big shifts here, Europe 17 to 24; Africa 17 to 21; North America 13 to 8. Now that the NERA acquisition is complete, should we expect any more fluctuation here, or any other big changes? That's my first question.

And then, second question, I'd love an update and more color on how Ceragon products are selling into the former NERA markets and how that cross-selling process is working. Thank you.

I will let Aviram refer a little bit to the geographic split numbers, but I'll say again and I think that's important on a lot of the numbers -- quarter-over-quarter shifts are usually insignificant.

It's usually -- if we see trends across the year, and usually you have to look at the average over a year because quarter over quarter, because of large deals going in and out of certain geographies, there might be shifts internally, revenue recognitions and others. And the law of small numbers plays there into variability.

I would not read anything into those shifts. I think we said, very clearly, we see ongoing growth in Latin America, in Africa; Europe about flat or growing slightly; and the other regions lower the revenues and moving forward. We can discuss a little bit the shifts into this quarter.

You asked about (multiple speakers).

Ex-NERA customers.

I think I said on the call very clearly from our perspective that the business integration of NERA is complete, and that means, very basic, we do not see a dividing line at this point.

Now, if I want to go back and look at some of those, almost all of those customers are currently buying for short haul, the fiber product line, which comes from Tel Aviv. And all our customer base worldwide is buying the Evolution IP Long-Haul product line which comes from Bergen.

And you can see my language in there, it's Tel Aviv, it's Bergen, it's product solution groups which push product. We have realigned the product line, and I don't see a dividing line at this point. And I think I mentioned (multiple speakers) -- the point I mentioned on the call, I think we didn't lose almost -- almost none of the customers left us. Very, very few.

Perfect. Thank you.

Alex Henderson, Miller Tabak.

First off, just a minor issue. Can you explain to me again what the interest line did? Why that jumped so much? And do you expect that to go back into a more normalized level in 1Q?

Yes, what happened this quarter is we had a one-time, I would call it, exchange-rate differences in one of the locations in Latin America. I gave -- going forward, I gave on the discussion an indication which would be going forward our finance expenses, as well as the tax. And you should stick to those guidance going forward, which (multiple speakers).

I'm sorry, you're breaking up a little bit. Your expenses are expected to do what, again?

Again, we have this $1 million in the finance expenses that associated with (multiple speakers) exchange-rate differences.

So if I drop the $1 million out, is that the ongoing rate?

And going forward, I gave an indication of tax and finance expenses together to be $5.5 million annually with the break that I gave in the call.

Thank you. Second question, given what you've done -- first off, congratulations on being able to offset that much of a decline in India. Obviously, going from 35% to 10% is pretty impressive, and the fall-off in the non-direct channel.

So, given that, if you were to look out to 2013, do you think, given what you know about traffic growth in India and the profitability of the companies in India, or the lack thereof, that they'll be forced at some juncture to come back into the market? It seems unlikely that they can continue to grow traffic without backhaul. So when do you think the bottleneck finally breaks on that?

I think I indicated on the call that we see positive movement in there. Although it's very, very, I would say, hurting and ugly for some of the operators, the cancellation of 122 licenses there, from all discussions we have it's really -- at the end of the day, it's a good move.

It will open up the bottleneck of people really sitting on their hands and not doing anything because now the 2G spectrum will be re-allocated, a new telecom policy.

But being -- working in India for many years, telling you it will be tomorrow morning, that's not there. I think the expectations are -- is within the next few months, the bottlenecks will open up. It moves in the right direction. And I guess it will move to a more normal levels later.

Just a mention on that, as you can see, we have not lost market share, although -- and I think we gained market share in India along the way on a smaller market basis. And we are working with the operators that are the leading ones, the larger ones which are profitable. We continue to work with a very strong basis and expanding within their territories.

So, last time you and I talked about this issue, the biggest concern you had was a lack of profitability in most of the suppliers -- or most of the service providers, and the inability to buy or consolidate the market because of the laws that you can't buy and sell companies that have licenses. If you have a license, you can't buy a company that has a license (multiple speakers).

The big operators, and I think you are 100% right. The big operators do make money. Those are the ones that continue to run the bases. The new telecom policy in place will allow for mergers and acquisitions of licenses and will allow the market to continue and develop.

So that ultimately (multiple speakers).

(Multiple speakers) and probably like in all markets, consolidations comes from the more successful players taking in some of the less successful ones and growing based on that.

So is that a 12- to 18-month window where that really accelerates, and then the market really takes off and you get back to 30%-plus business from India?

A, I don't expect to get to 30% [growth] of business from India because we are doing it on a much larger basis. Let's remember that with the integration we did, we increased significantly our market share in Latin America and Africa in places we were not there. So I don't expect India to come back to those numbers.

But if you look on absolute numbers, my expectation is to see India at 2, 2.5 times the levels it is right now.

Thank you very much. I'll cede the floor.

Larry Harris, CL King.

Right now you're at 33% gross margin, and you mentioned that the integration, the business integration, is complete and it appears as if most of the customers have migrated to the new platforms or in the process of doing so. So, what will take you from 33% to, say, another 200 basis points or more that would get you to the mid-30s? Is it additional volume? What is going to drive you to a higher gross margin level?

Okay, let's go back to the basics. We have two quarters, or almost two quarters, of backlog in our pipeline. That backlog represents a mixture of both the fiber and the old Evolution short-haul within it still. While we recognize it and bring the fiber online, there is a shift in the cost of goods sold within that.

Let's remember, there is a delay. There's a business delay on the revenue recognition which has nothing to do with the business integration.

More so, we said we are on track into significantly doing cost reduction on the Evolution long-haul platform. This will take time. Assuming that we did that and the first products were out the door today, by the time we recognize them it's Q3 and Q4 of this year.

So, the integration is -- business integration is complete. Show up on the gross margin will take time as we continue the shift in the product mix, in the revenue, and we bring in cost-reduced products in line, and other things within the [realm] that we do the work with.

I understand (multiple speakers).

Does that help, Larry?

Yes, it does. And in terms of the various adjustments, say, from GAAP to non-GAAP in terms of various adjustments related to the NERA transaction, are those going to be winding down now or should we expect those for a few more quarters?

There are certainly different items that comprise the GAAP, non-GAAP adjustments. I would say that the integration plan related costs this quarter were about $4.1 million. We expect them to be the last time in Q1 at a much, much lesser extent.

Relating to all the rest, non-cash amortization of purchased intangibles, inventory step-up, and stock-based compensation, those will stay with us for a -- the amortization of purchase (inaudible) stays with us, the amortization of purchased intangibles will stay for us for long. The stock inventory probably will be cleaned up by the end of this year with major portion in the first half.

Understood. Thank you.

Alex Henderson, Miller Tabak.

One other subject that we haven't heard or breached at all in this call is your chipset designs. And it's been a while since the last chipset design, and by my calculation 2012 ought to be a new chip deployment window. Can you talk a little bit about where you are on the technology development around your next generation of chips?

Alex, you're putting me in a tough spot. You know I don't talk about future products until we put them on the table.

Well, how about just the general timing of when you'd expect the next chipset?

I'll refer some of it to that, okay? Like we introduced the 1024 product two days ago. We announce the product when it's up in the air, it's already shipping.

Some of our -- both competitors, both large and small, sometimes have a tendency to announce very early in the product cycle some stuff. We usually do that in announcing when we are shipping products.

I think you're building right assumptions into your statement, which I would not refer to specific dates. But as we do, and we believe that being totally vertically integrated from chipsets all the way to systems and all the way to the field of installing and providing working solutions in the field is very important for a specialist, both on the service points of the customer and from the point of view of cost.

Yes, we are working. And we have quite a few R&D guys which work on a lot of stuff. And you can assume also chipsets, I think.

Just conceptually, it's been two, 2.5 years since you really revolutionized the chipset design with your last major change. If that is the major event that gives you a huge competitive advantage by shrinking radio sizes and the like, when that happens you get an advantage that is particularly pronounced initially, but then, gradually, the other guys try to catch up and narrow the difference over time.

So, is it conceptually reasonable to think that at the point when you launch your next-generation chip that the period six to 12 months after that is when the window of maximum benefit from that competitive advantage would kick in? Is that the right way to think through the -- without going into the specifics of what you're doing?

I know what you're looking for, okay? The business is -- yes, I think you are right, but the business is a little more complex.

Because, for example, we still today maintain competitive advantage versus competitors on chipsets we have done 3.5 to four years ago. Because if you looked at the business cycle, yes, they have to do with technology, but they also have to do with relationship, installation cycles, and others.

And being a specialist, I think the important piece for us is that we always have to be a small step, not a large step, ahead of our mainly large competitors. And that's where the gains come in from.

So conceptually, I'm in the general ballpark, but there are some complexities around the timeline.

Yes.

Thank you very much.

(Operator Instructions). And allowing time for participants to queue up, there are no further questioners in the queue. Please continue.

I would like to thank everyone that is on the call today. I know some of you are here in Barcelona as this is the big show in our industry worldwide. And I hope to see, with Aviram, all of you face to face over -- between now and the end of the quarter for further questions and further discussions. Thank you for being with us this morning.

Thank you.

Thank you, Aviram, and have a good day.

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