DZS Inc (DZSI) 2008 Q1 法說會逐字稿

Good day, and welcome to the first quarter 2008 Zhone Technologies, Inc. conference call. I'm Nikita, and I will be your coordinator for today. At this time, all participants are in a listen-only mode. We will be facilitating a question-and-answer session towards the end of this conference.

(OPERATOR INSTRUCTIONS)

As a reminder, this conference is being recorded for replay purposes.

I would now like to introduce Susie Choy, Director of Investor Relations. Please proceed.

Hello, and welcome to the first quarter 2008 Zhone Technologies, Inc. conference call. I am Susie Choy, Zhone's Director of Investor Relations. The purpose of this call is to discuss Zhone's first quarter 2008 financial results as reported in our earnings release, which was distributed over Business Wire at the close of market today, and has been posted on our website at www.zhone.com. I am here today with Mory Ejabat, Zhone's Chairman and Chief Executive Officer, as well as Kirk Misaka, Zhone's Chief Financial Officer. Mory will begin by discussing the key financial results and business developments of the first quarter. Following Mory's comments, Kirk will discuss Zhone's detailed financial results for the first quarter, the financial impact of recent product divestitures and provide guidance for the next quarter. After our prepared remarks, we will conclude with questions and answers. As a reminder, this conference is being recorded for replay purposes and will be available for approximately one week. The dial-in instructions for the replay are available on our press release issued today. An audio webcast replay will also be available online at www.zhone.com following the call

As you know, during the course of the discussion today, we will make forward-looking statements, including those relating to projections of profitability, earnings, revenue, margins, operating expenses or other financial items; the anticipated growth and trends in our business, product lines or key markets; new product introductions, and the migration of customers to newer technologies; Zhone's market position and focus; and statements that express our plans, objectives and strategies for future operations.

We would like to caution you that actual results could differ materially from those contemplated by the forward-looking statements. We refer you to the risk factors contained in our SEC filings available at www.sec.gov, including our annual report on Form 10-K for the year ended December 31, 2007. We would like to caution you not to place undue reliance on any forward-looking statements, which speak only as of the date on which they are made, and we undertake no obligation to update any forward-looking statements.

During the course of this call, we will also make reference to proforma EBITDA, a non-GAAP measure we believe is appropriate to enhance an overall understanding of past financial performance and prospects for the future. These adjustments to our GAAP results are made with the intent of providing greater transparency to supplemental information used by management in its financial and operational decision-making. These non-GAAP results are among the primary indicators that management uses as a basis for making operating decisions because they provide meaningful supplemental information regarding our operational performance, and they facilitate management's internal comparisons to the company's historical operating results and comparisons to competitors' operating results. The presentation of this additional information is not meant to be considered in isolation or as a substitute for measures of financial performance prepared in accordance with GAAP. We have provided GAAP reconciliation information for proforma EBITDA within the press release, which as previously mentioned has been posted on our website at www.zhone.com.

With those comments in mind, I would now like to introduce Mory Ejabat, Zhone's Chairman and Chief Executive Officer. Mory?

Thank you Susie. Good afternoon and thank you for joining us today for our first quarter 2008 earnings call. Let me briefly discuss the financial results before providing an update on the business.

Our financial results for the first quarter were stronger than expected for what is normally a seasonally weak quarter. Revenue was $43 million and exceeded our previous financial guidance of between $41 and $42 million. As expected, we saw strength in our international markets, particularly the Middle East and Central and Latin America where, as I've mentioned before, we maintain a leadership position among some of the largest incumbent carriers in the regions. We were also encouraged by better than expected activity in the U.S., where we hope to see stronger recovery later in 2008.

Although gross margins and operating expenses were within our previous financial guidance, our proforma EBITDA loss was slightly larger than anticipated, primarily due to the residual effects of the divestiture of certain legacy products at the end of last year and the beginning of the first quarter. Kirk will provide more details about these financial results, so let me focus on other business developments during the quarter.

Continued growth in our SLMS revenue reflects our core accomplishments this quarter in the multi-service access marketplace. These include continued share leadership, key customer wins, product launches, and recognition of the value of our US manufacturing strategy.

On market share, Infonetics Research, who tracks the multi-service access platform (or MSAP) category most closely among the industry analysts, reported in February that we continue to hold the #1 position - by a wide margin - in MSAP port shipments in the Caribbean and Latin American markets. We remain in the top 5 in MSAP shipments globally, keeping pace with the largest vendors in this very competitive category (such as Alcatel-Lucent, Huawei, and Fujitsu) while leaving smaller regional players well behind.

Our market share reflects our ability to win big opportunities against the larger players through responsiveness and innovation. Our recent announcement of our work with Telebec in Canada is a good example -- Telebec is Quebec's largest telecommunication service provider, covering more than 300 municipalities and 750,000 square kilometers of the territory. We are providing MSAP platforms throughout their network in support of their advanced Voice over IP services deployment, as part of Telebec's transition to an IP multimedia subsystems (or IMS) services architecture. We were chosen to work with Telebec on this MSAP project over larger incumbent equipment providers because of our unique ability to meet Telebec's specific requirements.

Our R&D team's leadership in innovation has also been recognized by SRT Communications in North Dakota, one of the larger independent telephone operating companies in the US. As we announced this past quarter, we have launched a significant extension to our support for fiber-based access applications (or FTTx), through an end-to-end solution for Active Ethernet. This solution includes both indoor and outdoor customer premises equipment as well as MSAP cards for the CO that support up to 1 Gbps Ethernet data rates on point to point, dedicated fiber over distances up to 80 kilometers. In keeping with our "any service, any slot" architecture, Active Ethernet can be operated side-by-side with GPON, any of the DSL varieties, and TDM interfaces in the same MALC chassis. These products are all fully integrated into Zhone management systems. These advantages were key to supporting SRT's current project to enhance their service offerings to their rural customers, where distance limitations of GPON and copper solutions make Active Ethernet the ideal technology. SRT has been using Zhone's MALC for copper-based services throughout their network, so our integration of Active Ethernet into our MSAP architecture made it easy for SRT to add the right fiber services into their existing mix of technologies.

Finally, our manufacturing team in Largo, Florida, was recognized in a recent report by Quality Magazine as among the leaders in product and process quality. Based on the metrics of warranty costs, defect rates, registration to standards, and quality programs in place, Zhone ranked #15 out of their top 100 manufacturers - a position that put us in league with many brands well-known for their quality focus such as Toyota and Motorola. Our US manufacturing strategy is key to our responsiveness, and it is great to see public recognition of our investment in that operation.

Now I would like to turn the call to Kirk to take you through our financial results for last quarter and to discuss our financial guidance for next quarter. Kirk?

Thanks, Mory.

Today, Zhone announced financial results for the first quarter of 2008. In our press release, the traditional comparison of financial results for the first quarters of 2008 and 2007 is presented alongside a comparison to the fourth quarter of 2007. As we have done on previous earnings calls, most of our discussion today will focus on the sequential comparison to fourth quarter results. Remember that this sequential comparison will be impacted by the divestiture of the AccessNode product line at the end of last year and the GigaMux product line at the beginning of this year, so I will provide additional information to help make a meaningful sequential comparison.

With that in mind, let's start with revenue. Revenue for the first quarter of 2008 was $43.0 million, which exceeded our previous financial guidance of between $41 and $42 million. Once again, very strong results from the Middle East and Central and Latin America regions led the better than expected performance. As a result, international revenue increased to approximately 59% of total revenue in the first quarter as compared to 54% of total revenue for the fourth quarter. As has been the trend for the past several years, international revenue continues to grow at a faster rate than domestic revenue. Thus our focus on emerging markets around the world has buffered us against domestic economic weakness and continues to position us to take advantage of the growth of access networks occurring in other parts of the world.

We still serve approximately 600 active customers worldwide but experienced slightly more customer concentration this quarter as compared to the past. We had one 10% customer, with Etisalat representing about 14% of first quarter revenue, and our top five customers represented approximately 38% of revenue for the first quarter as compared to 30% for the fourth quarter.

Before comparing total revenue of the first quarter to that of the fourth quarter, let me repeat what we covered on the last conference call regarding the two product lines that were recently divested. The AccessNode transaction closed on December 28th and the Gigamux transaction on January 16th, so the fourth quarter results reflected a full quarter of revenue from these divested product lines, whereas the first quarter has virtually no revenue from the divested products. For the fourth quarter, revenue attributable to the AccessNode and Gigamux product lines was $7.3 million. Fourth quarter revenue, excluding the impact of product divestitures, was therefore $39.3 million, or reported revenue of $46.6 million less the $7.3 million of revenue attributable to the divested product lines.

First quarter revenue of $43 million grew by 9.4% when compared to the fourth quarter revenue adjusted for divestitures of $39.3 million, which is why we're so pleased with the better than expected revenue growth in what otherwise is normally a seasonally weak quarter. For the second quarter, we expect revenue to continue growing and expect it to range between $44 and $45 million for the quarter.

Now, let's turn to gross margins. Gross margins were 32.1% for the first quarter of 2008, and within our 32 to 34 percent guidance range. As you will recall, we expected margins to decline from the 34.5% margins in the fourth quarter because of the lower Q1 revenue volume. With the anticipated quarterly revenue growth, we expect gross margins to rebound slightly and should range between 32 and 33% for the second quarter.

As for operating expenses, total operating expenses for the first quarter of 2008 were $14.7 million, including the benefit of a gain on the sale of intangible assets of $3.2 million related to the GigaMux product divestiture. Proforma operating expenses excluding this gain were $17.9 million and within our 17 to $18 million guidance range. Operating expenses included depreciation of approximately $400,000, and stock-based compensation of approximately $600,000. Going forward, we anticipate total operating expenses for the second quarter of 2008 to continue to range between $17 and $18 million, including approximately $1 million of expenses for depreciation and stock-based compensation.

Finally, proforma EBITDA for the first quarter of 2008 was a $2.8 million loss and slightly larger than our guidance range of a loss between 1 and $2 million. We expect a smaller proforma EBITDA loss for the second quarter of about $2 million, with the goal of returning to breakeven quarterly proforma EBITDA in the second half of 2008. As the year develops, we hope to be able to provide more detail on the level of profitability that can be achieved.

As for the balance sheet, cash and short-term investments at March 31, 2008 were $57.3 million, which is up from $50.2 million at December 31, 2007, attributable to the proceeds from the divestitures less the EBITDA loss and other working capital changes occurring in the first quarter.

Our total debt obligations declined slightly to $34.3 million at March 31, 2008, as compared to $34.4 million at December 31, 2007. On a combined basis, our net cash balance, or cash net of debt obligations, increased from $15.8 million to $23.0 million at the end of the first quarter, again as a result of the proceeds from the divestitures less the EBITDA loss and other working capital changes occurring in the first quarter.

As for other balance sheet changes, inventory levels decreased by $7.6 million to $37.1 million at March 31, 2008, mostly due to the inventory sold as part of the product divestitures. Accounts receivable decreased by $1.2 million to $32.1 million at March 31, 2008, with the number of day sales outstanding on accounts receivable for the first quarter coming in at 67 days as compared to 64 days for the fourth quarter.

Finally, the average basic and diluted EPS shares were $150.1 million for the first quarter, increasing only slightly from the $149.9 million in the fourth quarter. The slight increase resulted primarily from stock option exercises by management and employees.

Before turning the call back to Mory, let me summarize the financial results for the first quarter and recap our guidance for next quarter. Revenue for the first quarter exceeded guidance and grew 9.4% over the prior quarter, excluding the revenue associated with the divested products. Once again, strength in our international markets, particularly the Middle East and Central and Latin America, led the strong top line performance. Gross margins and operating expenses were within our guidance but our proforma EBITDA loss was slightly larger than expected, due to the residual effects of streamlining our business after the product divestitures.

Gross margin and operating expenses were within our guidance, but our proforma EBITDA loss was slightly larger than expected due to the residual effects of streamlining our business after the product divest tours. The significant new customer wins and the strong backlog, we hope to carry the momentum into the second quarter.

With significant new customer wins and a strong backlog, we hope to carry the momentum into the second quarter. For the second quarter, we expect revenue to range between 44 and $45 million, gross margins to range between 32 and 33%, operating expenses to remain stable between 17 and $18 million, resulting in a proforma EBITDA loss of approximately $2 million.

With that financial overview, I'll turn the call back to Mory for a few final comments before we open the call up to questions and answers. Mory?

Thank you, Kirk.

The first quarter showed continued growth in our SLMS revenue demonstrating our success in the multi-service access marketplace - including continued share leadership, key customer wins, new product launches, and the recognition of the quality of our US manufacturing strategy.

These results confirm that service providers around the world are adopting our market-leading access technologies at increasing rates. As a global company focused on pure play access technologies, we are positioned to benefit from the expansion of access networks in emerging markets around the world and hope to continue the momentum into the second quarter.

Thank you for joining us today. We would now open the call to questions. Operator, please begin the Q&A portion of the call.

(OPERATOR INSTRUCTIONS)

Your first question comes from the line of Anton Wahlman of ThinkEquity. Please proceed, sir.

Hi, Mory and Kirk. Who was your largest customer this quarter?

It was [Iticelot] in [Combant] in the UAE or Dubai.

Okay, thank you. Could you discuss the extent to which you are seeing your access technologies being used in innovative ways, perhaps for back-hauling of various wireless technologies, be they - be they unlicensed wireless technologies or wireless license holders that might be using some aspect of your - of your wired access technologies to sort of merge the two for back-haul?

Well, you know, Anton, we have technology that is called EFM. That's for bonding pairs of copper and providing up to about 40 meg of bandwidth from point to point. Right now, some of these applications are used for business services and some areas, we don't know where exactly in the world they are using it for a back-haul to back haul their cell tower traffic over these EFM product line.

And are you seeing any of your customers who might not have been involved in wireless, or at least not currently involved intra additional cellular license, GSM-type services, looking to get into various [levers] of unlicensed wireless offerings? Is that something that you are seeing that could - that plays into your offerings?

Yes, we see some people are going more and more towards unlicensed offering, because license offering is becoming very, very expensive, and WiMAX has now taken off as much as they like it to see, so they are going more and more towards unlicensed, some sort of a Wi-Fi transmission. We see that happening.

And in terms of the overall transition from ADSL to VDSL 2, could you give maybe a flavor of what are the hurdles at this point, if any, in terms of carriers moving forward from, you know, basic ADSL that is well-proven and works over long distances, to VDSL, where the distance limitations might still be there perhaps, or was there any other issues?

Well, there are several phenomenon happening. One is on the ADSL. Our customers are asking for bonded ADSL. That's when you bond, or combine, two ADSL cords and provide up to 25 and more of bandwidth for - for two pairs of coppers. We see that more and more happening. On the VDSL the issue is the interoperability with the CPEs, or customer premise equipment. There are not that many of them available, and the chipset manufacturers are not working with other manufacturers on that - the availability of the CPE, so that caused a major bottom [line] for that. But the trends that we are seeing really is VDSL are used mainly on the MDU or various small subdivision type of areas, where the distance is not an issue being deployed. People that want a higher bandwidth, they are migrating into GPON in several areas where densities are high, or where the distance is long, they go to Active Ethernet. Now, the beauty of our solution is no matter what sort of a customer you have and what sort of offering you have, you can use the same product with different [inaudible] to offer that [areas].

And finally, in terms of television over DSL, I mean would you say that at this point, this is looking more like it's pretty much a de rigeur standard for any TELCO, or are there still TELCOs who just decide not to go down that path?

Well, there are -- they are a mix. You know, there are some that are going aggressively on providing, providing IPTV, especially what we are seeing is the emerging countries, when they're competing with satellite providers, and that is happening fairly frequently. And also domestically, we are seeing - I see they are still going aggressively offering IPTV, and they are getting away from their traditional [head end] and MSO-type operations.

Finally, perhaps, Kirk, maybe I missed it. I probably did. But did you give an employee count or any change in the employee count? Maybe where you are at the end of the March quarter, and if that should be considered sort of the - the cruising altitude at this point?

Head count was relatively stable through the quarter. We have a little over 110 in R&D, 100 in sales and marketing function, and 40 in G&A. And then we have, in addition to that, our manufacturing employees as well, roughly 200 employees in Largo.

So the total is about 450 employees, and that has been stable.

Okay, thank you very much.

Sure.

(OPERATOR INSTRUCTIONS)

Your next question comes from the line of Greg Mesniaeff of Needham & Company. Please proceed.

Yes, thank you, and nice job on the top line in the quarter.

Thank you.

Question on -- you know, you mentioned the percentage of overseas being, you know, north of 50%. What was --

59%.

59%, okay. Any chance you can give us any more geographic granularity on that as far as which regions were, you know, the strongest and showed the most increase?

Yes, the strongest region for us last quarter was Middle East.

Okay.

Followed by South America and Caribbean.

Okay, and in those markets, typically do you win the business on your own or in partnership with a larger vendor or group of vendors?

No, actually, actually we are - we are going as stand-alone. Actually, we are well known in those regions as the top tier provider of this type of product, MSAP product, and they feel very comfortable to just go with us rather than asking us to partner with someone else.

Okay, and in that capacity, you're not being asked to act as a systems integrator or anything like that, you're just basically, you know, an a la carte vendor to them?

Yes, we are providing equipment and majority of our customers are incumbents, and they do provide their own installation services.

Got you. That would be all for me for now. Thanks.

Great, thanks, Greg.

This concludes our Q&A session for today. I would now turn the call over now for closing remarks.

Thank you again for joining us today. We appreciate your continued support and look forward to speaking with you on our next conference call, when we hope to announce another good quarter. Thank you.

That concludes today's conference. Thank you for your participation.