DZS Inc (DZSI) 2003 Q4 法說會逐字稿

Good day ladies and gentlemen, and welcome to the quarter four 2003 Zhone Technologies earnings conference call. My name is Kelly, and I will be your coordinator for today. At this time, all participants are in a listen-only mode. We'll facilitate a question-and-answer session towards the end of this conference. If at any time you require assistance, please press star followed by zero and a coordinator would be happy to assist you. I would now like to turn the presentation over to the host for today's call, Miss Mary Anne Lachey, Please proceed.

Thank you, operator. Good afternoon, everyone and thank you for joining us today. The purpose of this call is to discuss Zhone's fourth quarter 2003 financial results and accomplishments. With us today are Mory Ejabat, Zhone's Chairman and Chief Executive Officer and Kirk Misaka, Zhone's Chief Financial Officer.

Zhone's earnings release was distributed over business wire at approximately 1:30 pm Pacific Time and has been posted on our web site at www.zhone.com. You can log on to our web site now and find the audio webcast of this conference call at the investor relations section of our web site. A replay of this conference call will also be available on our web site later this evening.

Before Mory begins, I need to advise you that during the course of this call, Zhone may make financial projections or other forward-looking statements within the meaning of section 27-A of the Securities Act of 1933 and section 21-E of the Securities Exchange Act of 1934. These forward-looking statements are based on current expectations, forecasts and assumptions that involve risks and uncertainties. Actual results could differ materially from those projected in or contemplated by forward-looking statements.

Factors that could cause actual results to differ include changes in Zhone's current expectations regarding future revenues, gross margins and operating expenses, general economic conditions, the pace of spending and finding of economic recovery in the telecommunications industry, the company's inabilities to sufficiently anticipate market needs and develop products and product enhancements that achieve market acceptance, higher than anticipated expenses that the company may incur in future quarters or the impact of any future acquisitions or any unanticipated charges. For assistance, please refer to the risk factors contained in Zhone's S.E.C. filings available at www.sec.gov for other important factors that could cause actual results to differ materially from those contained in the forward-looking statements.

Stock holders and other readers are cautioned not to place undo reliance on these forward looking statements which speak only as of the date in which they are made. Zhone undertakes no obligation to update publicly or revise any forward-looking statements.

I would now to like introduce Mory Ejabat, Zhone's Chairman and Chief Executive Officer.

Thank you, Mary Anne. Welcome, everyone and thank you for joining us today, as we report our results for the fourth quarter ended December 31, 2003.

The fourth quarter was a strong one for Zhone as we reported our third consecutive quarter of sequential revenue growth. Fourth quarter revenues were $23.3 million, increased 5% over the third quarter revenue of $22.2 million. This increase in revenue reflects a stabilizing demand for our product, and an expanded customer base resulting from both new business and other acquisitions.

Our financial position at the end of 2003 was strong. We had $98.3 million in cash and investment at the end of December 31, 2003. We experienced quarterly sequential revenue growth throughout the year while continuing to carefully manage our expenses in all areas. Kirk Misaka, our CFO, will expand on our financial results later in the call.

Our growth throughout the year was primarily due to three factors; new product introduction, increased customer relationships and acquisitions. I would like to first focus on Zhone's new product introductions that occurred during the past year. In March 2003, Zhone announced its new Raptor DSL Access Multiplexer, a next generation DSLAM. The Raptor ATM offers digital video, high bandwidth Internet access and voice services from a single platform. The Raptor is unique in that it is the only DSLAM operatable to a fully functional voice plus data NGDLC and it is also the only DSLAM to offer in-service software to selectable ATM/IP outlets. Last month, we also introduced a new version of the Raptor product, which allows carriers to double their distance on which they can provide services without compromising bandwidth.

During 2003, Zhone also announced new product additions to the MALC product line which allows carriers to transition TDM voice services to converge packet based for voice and other service offerings. The new MALC 300 series introduced in 2003 is a 3-RU platform that supports broadband and narrow band service subscriber ports. The MAC 300, set scales to 3,584 subscriber ports per 7 [INAUDIBLE]. Offering one of the highest density and scalability options on the market. The MALC platform also allows FTTP and FTTH. With the additional zones, [INAUDIBLE] Each royalty card from one fiber can then service up to 32 end users. Zhone's new products are deployed in networks around the globe, including carriers across the United States, in Germany, Egypt, Argentina, Holland, Spain and other Nordic countries. Recent wins for MALC in 2003 include Wilson Wilco in Argentina, Link Dog Net (phonetic) in Egypt and U.S. based ROCs including SRT, Berline and Consolidated.

In November 2003, there is an enhanced future to our platforms including support for broadcast video, conditional access video on demand and integrated interactive services. Zhone has many products that architecture allowing telephone companies to provide voice, data, video and entertainment services to their subscriber both with carrier existing plan and subscriber existing house wiring. With the introduction of both copper and fiber-based solutions, Zhone's SLMS architecture is both portal and media agnostic. Zhone's SLMS supports TDM, ATM, IP protocols. [INAUDIBLE] and all of these broadband services.

In addition to broad area of narrow band services. They are available across a single range of a hardened platform in cabinets buildings or COs. While continuing to enhance our product portfolio our our SLMS portfolio in 2003, we continued to focus on such relationships and had over 50 new customers in 2003. Zhone products now are installed in over 300 accounts worldwide, including Verizon, Qwest, Bell Canada, Cable and Wireless and Motorola. During 2003, we have increased our international presence by expanding our deployment in Egypt, Japan, Thailand, UA and Bolivia.

The third component of Zhone growth's strategy in 2003 was a focus on acquisition. Zhone successfully completed two acquisition in 2003 which expanded our customer base, broadened our product portfolio and enhanced our financial stability.

In February 2003, we completed acquisition of NEC eLuminant Technologies Inc., a subsidiary of NEC/USA Inc. eLuminant was a leader in access product offering, in proven digital carriers, multiplexer and broadband access product. This acquisition gave Zhone some new product lines including DLC, and multiplexers. This acquisition also expanded Zhone customer base with additional large carriers.

In November 2003, we completed the merger with Tellium, Inc. As a result of this merger, Zhone began trading on NASDAQ national market on November 14, 2003 and has expanded its balance sheet, ending the year with $98.3 million in cash and investment.

Since Tellium's product no longer generate revenues, Zhone substantially reduced the expenses of that business but we continue to support existing customers. The combination of Zhone's revenue, plus the financial restraint and access to the capital market again from this merger have positioned Zhone for growth

Today, we announced that we acquired the asset of Gluon Networks Inc. a leading provider of next generation converge switching systems for telecommunications service providers. This acquisition extends Zhone's carrier product portfolio to include a signaling gateway and switching platform, which is the next generation of VoIP with the electric circuit switch network. This product is is -- this product is currently being tried with several OICs in going through. multiple certifications. We anticipate general availability of the product by 2004.

Overall we have positioned ourselves to be a leader in the access market we have the R&D, sales and marketing, operation on customer support to meet our existing customers and potential new customers needs. Going forward, we believe that Zhone has the right team, product and strategy in place to maintain our leadership, conservative quarter revenue growth driven by increased demand for our product and additional financials to obtain with our merger with Tellium has created positive momentum and a successful 2004 and beyond.

I would like -- I would like now to introduce Zhone's CFO, Kirk Misaka who will provide you with more details on our fourth quarter 2003 financial results. Kirk?

Thanks, Mory. Good afternoon, everyone and thank you for joining our call. As Mory mentioned, we ended 2003 in a nice position and are pleased to announce the fourth quarter results.

First, let's focus on the income statement. Revenue for the quarter was $23.3 million, an increase of $1.1 million or 5% from the third quarter revenue of $22.2 million. This increase was driven primarily by revenue growth in our SLMS platform. The fourth quarter revenue did not result from any sales of products acquired by Tellium. Sales by product line for fourth quarter were as follows: $8.8 million for SLMS products. $5.7 for DLC products and $8.8 million for MALC's product. International sales were approximately 8% of revenue for the fourth quarter and 9% of revenue for the full year.

For the fourth quarter, three customers each accounted for over 10% of revenue. These customers were Motorola, Qwest, and XCL which is an integrator for Verizon. Gross margins were 22% in the fourth quarter and 39% for the year. Included in the fourth quarter gross margin percentage was an unusually large exit inventory charge of approximately $4.7 million which increased costs of revenues. Operating expenses were $15.7 million for the fourth quarter and also $15.7 million in the third quarter.

The fourth quarter included approximately $2.4 million of operating expenses related to winding down the Tellium business, while the third quarter included a $1.6 million litigation settlement charge. Net loss for the fourth quarter was $6.4 million, compared to $3.5 million in the third quarter. Net loss for the fourth quarter was impacted by the inventory charge and the operating expenses related to Tellium. In addition, the fourth quarter included an income tax benefit of $4.9 million, which is not expected to recur, relating to the resolution of a tax contingency.

Now, let's look at the balance sheet and our financial condition at year-end. Our financial condition improved on several fronts. Cash, cash equivalents and investments at the end of 2003 were $98.3 million. Accounts receivable day sales outstanding improved from 49 days for the third quarter, to 41 days for the fourth quarter. Inventory levels declined from $25 million at the end of the third quarter to $24.3 million at year end.

Finally, our long-term debt balance at the end of 2003 remains low, at approximately $32 million, which is the mortgage on our campus. Basic and diluted EPS shares of 43 million for the fourth quarter reflect the closing of the Tellium merger midway through the quarter, which significantly increased the number of shares outstanding. Our total shares outstanding were approximately 77 million at year end.

In summary, the fourth quarter reflects two important trends, first, we achieved sequential revenue growth for the third consecutive quarter. Second, we improved our financial strength and ended the year with substantial liquidity.

Before I turn the call back to Mory, here is our financial guidance for the next quarter: On the top line, we expect first quarter 2004 revenue to increase by over 20%, compared to first quarter 2003 revenue, of $17.1 million. We expect gross margins to range from 43% to 46% during 2004, and we expect first quarter 2004 operating expenses to range from $14 million to $15 million, including stock-based compensation and amortization of intangibles of approximately $2.5 million. This guidance reflects the impact of providing service and support to Tellium's customers and the impact of acquiring the assets of Gluon Networks. By itself, the Gluon acquisition is expected to have minimal dilutive effect on earnings in 2004 and to be accretive in 2005.

With that overview, I will now turn the call back over to Mory.

Thanks, Kirk. Let me be brief. Zhone has worked through tough economic circumstances in 2003 to position the company for future success. We are very pleased with our financial performance in 2003 and are taking the steps necessary to achieve profitability. We will continue to grow through acquisition to develop and diversify our product portfolio and to expand our reach into an emerging growth market. We look forward to 2004 with optimism. Thank you for joining us today, I would now like to open the call for your questions. Operator?

Thank you, sir. Ladies and gentlemen, if you would wish to ask a question, please press star followed by one on your touch-tone telephone. If your question has been answered or you wish to withdrawal your question, please press star followed by two. Questions will be taken in the order received. Please press star one to begin. We'll hold for a moment while we collect questions. Your first question comes from Steve Levy of Lehman Brothers. Please proceed, sir.

Thanks. I just had a few questions. Mory, you talked about 50 new customers in 2003. Could you give us an idea of your annual revenues, how much they contributed, percentage wise or dollars?

On those 50 customers? The majority of those 50 customers were SLMS customers, Steve, and you see SLMS is one-third or probably going up a little bit more than that in our business. So I would say probably, I don't have the exact numbers in front of me. It could be anywhere from 20% to 25% of that one-third business.

Okay. And as you look forward, either into the first quarter, or into 2004, how much of a shift do you expect in your revenues from the MALC and DLC business to the SLMS?

Actually, our anticipation is MALCS and the DLC business, actually, the DLC business is going to stay flat. MALC will probably erode probably 1 or 2% per quarter but the rest is going to be coming through SLMS increase.

Okay. And then if I could just ask you, Kirk, on the operating expenses, if in the guidance of $14 to 15 million, could you give us an apples-to-apples comparison to the fourth quarter, I guess, there is, I think you said $2.4 million in the fourth quarter numbers?

That's correct.

So if we're apples to apples, the fourth quarter was $15 minus the 2.44?

That's right.

And then so you expect the operating expenses to go up? Is that right or --?

We have some additional operating expenses related to the Gluon and the Tellium support. That we -- you know that we would be providing.

Okay. So that is the right -- so that's roughly the right apples-to-apples comparison?

That's right. Other than that, it's roughly flight.

And there are no revenues from Gluon in the --

No, we don't anticipate any revenues on it. If we do ship any product, we don't -- we don't recognize that until the product is fully available.

Okay. Thanks.

Thanks.

Your next comes from Hasan Imam from Thomas Weisel Partners.

Hey, guy, it's actually Mike for Hasan. Two quick questions, one is on the op ex line items if I look at apples-to-apples on an ongoing basis from last quarter to this quarter, it looks like op ex, you know, x DNA or any kind of charges or litigation settlements was actually down about $1.5 million, despite the fact that you consolidated, you know, Tellium and obviously did some cuts there. I'm trying to get a sense of what was driving that. Was that cost cutting out of the Zhone core business as well?

Well, if you also look, we had in the third quarter the litigation settlement of $1.6 million, which as compared to fourth quarter we don't have that. And then in addition we mentioned the $2.4 million of expenses in the fourth quarter related to Tellium, which was up over the third quarter.

So if I do the 5.5 and the 4.5 that's 10 and then the 1.2 is like 11.2 last quarter and then this quarter would be 6.7, 2.7 and 9.4, basically 9.5 with the, 11.5 with the DNA back up at 2, so they were roughly flat, right?

Very close.

So my question is even with consolidating Tellium what is driving that being flat, I mean you must have had some costs in the quarter.

No, we had a facility in Oregon that was doing some of our eLuminant acquisition and we wind that down at the same time.

Okay.

That gives us the flat op ex.

Oh, I see. So on an ongoing basis we should -- next quarter we should op ex tick up from this quarter?

I wouldn't say that because the op ex guidance that we gave you includes the resources that are needed to add on to for Gluon and also for maintaining Tellium customer base.

Okay. Okay. And that's my second question. Could you give us some more more color around Gluon in terms of how many employees you are taking on, it seems somewhere between 1 and 2.5 million a quarter in op ex for them. Any sense of where the revenues could go or what you expect out of that business? Basically the kind of assumptions you were making with the purchase.

If you look at our op ex being up at $1.2, which I have to understand that numbers, that doesn't come with additional Gluon employees here. One thing that we are doing, we are augmenting the Gluon employees that we are going to bring in. We have existing engineering in here and also adding some engineers from Tellium for supporting the customer base that's out there. So we are bringing in some resources from Petaluma to Oakland for working on the switch, but it's not going to be a major expense loss because we are augmenting it with some of the existing R&D personnel that we have in here.

Okay. And then just, you know, expectations in terms of, you know, how does that business -- do you think it will be generating revenues by the end of this year, you know, how big of a business. Where were those guys in terms of their product development?

Well, you know, we have several units that are in trial right now. We are going to certification for several -- several certification that we need. We are going through the certification that we need, we are getting a rollout around certification. By the time we are through all the certification and have it available to be shipped, we are going to probably see a product generating some revenue, not major, in 2004. Our expectation is that product probably will be anywhere between 10 to 15% revenue in 2005.

In '05?

In '05.

Okay. That's helpful. And just on a competitive, you know, standpoint for the Gluon product, you know maybe you could just give us a sense of the landscape there. I imagine you are going up against these big incumbent vendors. What is the Gluon value proposition or competitive advantage?

Actually we are going through some of the new next generation switch suppliers, such as Topqua, Telecom, Centero and Meadow Switch. Those are the main competitors in this area. But can we work and be able to replace existing class 5 switch that some of the big guys have with the next generation voice over IP and we found this product, yes, we could do that also. Now one of the attraction for the Gluon product is, it just fits right into our channel. The channel that we have right now, we maintain about 300 some odd customers under, are the kind of customer that are very attracted to this product.

Okay. Thank you.

Your next question comes from Antoine Waldman of Needham. Please proceed, sir.

Hi, can you hear me?

Yes, Antoine.

Yes, three questions. First of all, two numbers questions for Kirk. In terms of the share count you mentioned that the exit rate shares were about 77 million, if I heard you correctly?

Yes.

Now in the first quarter, when we have a full quarter and there have been some other events, should we -- what should we have for the -- sort of the full first quarter in terms of the share count? Should it be something just slightly greater than 77 million or should it be any particular number resulting from what you just did with Gluon as well and some part of that?

The ending balance of $77 million was increased by 1 million shares related to Gluon. Given that that's happening midway through the quarter, you will see it somewhere between 77 and 78 million for the quarter.

Okay. So we should kind of look at it as being, you know, just, you know, a million or so shares for the --

Yes, a million coming in, mid quarter.

Okay:. All right. Secondly when it comes to your cash balance, you have -- you are paying out the Gluon acquisition this quarter. Are there are any lingering payments that were made on or after January 1st, in relation to Tellium and so forth that would cause us to look at the kind of an ending Q1 cash balance to be meaningfully different than the $98.3 million, apart from, you know, just ongoing, whatever operating loss that your guidance results in?

We expect to settle the lease on the Ocean Port facility. That would be the most significant remaining liability from the Tellium acquisition and for the quarter, we expect to exit at around $90 million.

Okay. Third question is on, you know, your 3 and 10% customers, could you go through a little bit, both for the product that Motorola is taking through you, as well as Qwest and then the integrator that is the main reason for your Verizon sales. Can you go through in each of these cases the products, the main focus of the products going through these three channels?

Yes. Motorola was a 10%. They take our IMACS products and that's used or to two-way radio systems. Qwest is taking our sector 96 product including transport for expansion and replacement. XCL is taking our SLMS product and they offer that to Verizon, who offers to small, medium-sized offices with voice and data services.

Okay. Finally, just heard one thing you mentioned in terms of the op ex guidance, $14 to 15 million, you said included the 2.5 million for intangibles and stock-based compensation. The $2.5 is that intangibles and stock-based compensation, was that inclusive within the 2.5 million or was it just one of the two?

It is inclusive of both.

The $2.5 is combined intangible, amortization and stock based compensation?

That's correct. The $14 to 15 million includes $2.5 million for stock-based comp and the amortization.

Okay. Just final. If I heard you correctly, you say that the revenue guidance of 20% was on top of the Q1 '03 revenue number that you had?

Correct.

Okay. All right. Good to have that clarified. Well, thank you very much.

Thank you, Antoine.

Once again, ladies and gentlemen if you wish to ask a question, please press star one on your touch-tone phone. Your next question comes from David Thom of Whittaker Securities. Please proceed.

Yes, good afternoon. On the Raptor long distance product, can you talk about what the customer reception to that is, and you announced it without a customer name to that. And also I think you said on Gluon, did I hear you correctly that you thought it would represent 10 to 15% of revenue in 2005 and sort of what gives you the confidence that that customer acceptance point of view that you get to that level?

Well, with the Raptor in our announcement, we do have several customers using that at this point. We are not authorized to name them. There is some in South America and we also have a couple in Italy and a couple of IOCs in the U.S. As a whole, we believe that has gotten very, very, good attraction. I believe that's one of the unique products in the market. In respect to the Gluon, when we did this measure, we had to do lots of due diligence about the market and the opportunity of the market for signal and gateway and voice over IP. As you see the forecast for -- the forecast for this type of product is pretty good for the 2005 and beyond. So we took a small portion of that and we assumed that would be -- that portion that can contribute to our sales.

And also you talked about the triple play video over IP. There was a, I think you talked about a box that would set on premises, sort of a multi set top box. Can you talk about what the customer demand is, you know, for deploying, basically the Telco TV?

Actually, we are just going on the trial with that product. We are going to be in several trials by the end of the quarter and majority of them are using the embedded set top box. So our belief, that is going to be one of the drivers for our revenue growth but as a whole, we are just seeing the earliest stage in the deployment of that product, or trial of that product.

Thank you.

You're welcome.

Your next question comes from Christopher Lord of Criterion. Please proceed, sir.

Good afternoon, gentlemen. A little help on the guided Q1, the gross margin to be 43 to 46%. One question there, if you back out the one-time charges, what was the gross margin in this last quarter? And then secondly, you got Q1 revenues up 20% year-over-year and if I'm looking at that correctly that's about $20.5 million in revenues how much the sequential decline is due to normal seasonality versus other factors? Just kind of two questions, there.

Okay, I will address the first question about the margins. The margins without that charge turned out to be about 42.5%.

In the most recent quarter?

For the -- for the quarter without the inventory charge.

Great. Okay. Thanks.

On the guidance that we said over 20%, we believe there is going to be some seasonality in our product line, and that is why we are not expecting any larger increase year over year, but that is what we are seeing at this point.

Okay. Thank you.

As a reminder, ladies and gentlemen, if you wish to ask a question, please press star one on your touch-tone phone. There are no further questions at this time. Mr. Ejabat, please proceed with your closing comments.

Thank you for joining us today. We appreciate your support and look forward to speaking to you on the next earnings call. Thank you very much. Operator?

Ladies and gentlemen, thank you for your participation in today's conference this concludes the program. You may now disconnect. Have a good day.