DZS Inc (DZSI) 2008 Q4 法說會逐字稿

Good day, and welcome to the fourth quarter 2008 Zhone Technologies, Inc. conference call. the fourth quarter 2008 Zhone Technologies, Inc. conference call. At this time, all participants are in a listen-only mode. We will be facilitating a question-and-answer session towards the end of the conference. (Operator Instructions). As a reminder, this conference is being recorded for replay purposes. I would now like to introduce Kirk Misaka, Zhone's Chief Financial Officer. Please proceed .

Thank you, operator. Hello, and welcome to the fourth quarter 2008 Zhone Technologies, Inc. conference call. I'm Kirk Misaka, Zhone's Chief Financial Officer. The purpose of this call is to discuss Zhone's fourth 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'm here today with Mory Ejabat, Zhone's Chairman and Chief Executive Officer. Mory will begin by discussing the key financial results of business developments of the fourth quarter. Following Mory's comments I'll discuss Zhone's detailed financial results for the fourth quarter and provide guidance for 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 audiocast replay will also be available online at www.zhone.com following the call.

As you know, during the course of this discussion today, we will make forward-looking statements, including those related to projections of profitability, earnings, revenue, margins, operating expenses or other financial items. The anticipated growth in our business, products lines or key markets, new product introductions and the migrations of customers to newer technologies, Zhone's market position and focus, and statements that express our plans, objectives and strategies for future operations. We'd like to caution you that actual results could differ materially from those contemplated by the forward-looking statements. We refer you to the risks factors contained in our SEC filings available at www.sec.gov, including our annual report on Form 10-K for the year ended December 31st, 2007, and our quarterly reports on Form 10Q, for the quarters ended March 31, 2008, June 30, 2008, and September 30, 2008.

We'd 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 pro-forma EBITDA, and pro-forma operating expenses, non-GAAP measures we believe are 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 operation 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 pro-forma 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.

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

Economy conditions continue to be challenging and cause our revenues to decline slightly to $31 million. At the lower revenue level pro-forma EBITDA and cash flow were also negatively impacted, but we were able to meet our gross margin and operating expenses guidance by continuing to control expenses and improving gross margins, by reducing the cost of our products. Kirk will give you more details on our financial performance guidance later.

Before turning to the business side, let me update you on the status of our NASDAQ listing. As you know we decided to seek shareholder approval of a reverse stock split between one for five and one for 10 shares in order to gain compliance with $1 minimum per share bet price required for continued inclusion on NASDAQ global market. You may recall that the NASDAQ originally gave us until December 8th, 2008, to regain compliance and then to (indiscernible) suspended the minimum debt price requirement until January 16th, 2009. Recently, they have extended the requirement again, and the enforcement of these rules is now scheduled to resume on April 20, 2009. Due to the dramatic deterioration of valuation in the public equity market, and the challenging nature of the NASDAQ's reaction to them, we will continue to monitor the situation to determine whether a reverse stock split if it makes sense for Zhone. If we decide to proceed with the process to complete the reverse split, we'll make a future announcement well in advance of the deadline to regain compliance with the NASDAQ's requirements.

Now let me talk about our business. On contacts and customers this quarter we were excited to receive certification of our map GPON solution from the USDA Rollout Utility Service. Adding to the map's original certification from 2003, this extension to cover GPON is a prerequisite to delivering FTPx solutions to the smaller, independent telephone companies throughout the US. This also position us well to participate in a universal broadband initiative that appear likely to be part of the US government's economic stimulus plan in the balance of 2009.

We were able to announce a number of new customer wins this past quarter. Each of them shows the value of our consistent strategy of providing the most efficient solution for offering multiple services on a converged access network. Cruztelco Telephone Company, one of the most innovative operators in Philippines choose our platform for a strong support of people place services throughout Manila and surrounding markets as they responded to over 200% annual growth in broadband demand there. In the US the efficiency of our platform continues to attract the alternative carrier segment. Birch Communications, one of the largest (indiscernible) in the US, chose us to support their transition to our packet network throughout their 31 state operation. And Excella Communications, a Nevada-based Company selected Zhone to deliver EFM and DSL services in their market.

Now let me turn the call to Kirk to provide more details about our financial results for the last quarter and to discuss our financial guidance for the next quarter. Kirk?

Thanks, Mory.

Today's Zhone announcement and the results for the fourth quarter of 2008. In our press release the traditional comparison of financial results for the fourth quarters of 2008 and 2007 is presented alongside the comparison to the third quarter of 2008. As we have done on previous earnings calls, most of our discussion today will focus on the sequential comparison to third quarter results. As Mory mentioned revenue for the fourth quarter of 2008 was just over $31 million, which was slightly below our financial guidance of being flat to third quarter revenue of approximately $32 million. Global economic weakness continued to affect both our domestic and international businesses, but business from our US customers was particularly weak this quarter.

We continue to serve approximately 700 active customers worldwide and experience minimal customer concentration. We had only one 10% customer, and our top five customers represented approximately 33% of revenue for the fourth quarter as compared to 30% for the third quarter.

Fourth quarter revenue of $31 million declined by 3% when compared to third quarter revenue of $32 million. Until global economies begin to improve, we will continue to have limited visibility. In addition, the first quarter is typically seasonally weaker than the fourth quarter. Therefore, we are forecasting a revenue for the first quarter of 2009 will be flat to slightly down as compared to the fourth quarter.

As for gross margins, they improved to 32% for the fourth quarter despite the lower revenue level because we anticipated the sales weakness earlier in the quarter, and were able to partially but not fully reduce our manufacturing operations. Going forward, we will continue to adjust our variable manufacturing, labor and other costs to the revenue forecast, and therefore, expect margins to continue ranging between 31% and 33% for the first quarter of 2009.

As for operating expenses, total pro-forma operating expenses for the fourth quarter of 2008 were $15.4 million, which excludes the $1.1 million gain on the sale of some of our non-strategic patents, and within our $14.5 million to $15.5 million guidance range. Pro-forma operating expenses included depreciation of approximately $400,000, and stock-based compensation of approximately $500,000.

As Mory mentioned, we will continue to reduce our operating expenses until our revenue outlook improves. Beginning in the first quarter, we reduced Mory's compensation by 20%, reduced the compensation of his Management Team by 15%, and reduced other salaried employee compensation by 5%. With these salary reductions, we anticipate total operating expenses for the first quarter of 2009 to drop by about $500,000 to between $14 million and $15 million, including approximately $1 million of expenses for depreciation and stock-based compensation. Finally, pro-forma EBITDA for the fourth quarter of 2008 was a $4.5 million loss and larger than our estimate of an EBITDA loss of between $3 million and $4 million. We expect the pro-forma EBITDA loss for the first quarter to range between $3 million and $4 million and hope to return to break even quarterly pro-forma EBITDA by the end of 2009 assuming economic conditions begin to improve.

As for the balance sheet, cash and short-term investments at December 31, 2008 were $36.2 million, which declined from $41.3 million at September 30, 2008. Mostly attributable to the EBITDA loss, and other working capital changes occurring during the fourth quarter.

Our total debt obligations remained basically flat, at $34.1 million. On a combined basis, our net cash balance, or cash net of debt obligations decreased, from $7.1 million at the end of the third quarter, to $2.2 million at the end of the fourth quarter, again, as a result of the EBITDA loss and other working capital changes occurring in the fourth quarter.

As for other balance sheet changes, inventory levels decreased from $42.9 million as of September 30, 2008, to $40.7 million as of December 31st, 2008. Also accounts receivable levels decreased by nearly $3 million to $23.7 million at December 31st, 2008, with the number of days sales outstanding on accounts receivable for the fourth quarter improving to 69 days, as compared to 75 days for the third quarter.

Finally, the average basic and diluted EPS shares were 150.6 million for the fourth quarter, increasing only slightly from the 150.4 million in the third quarter. The slight increase resulted primarily from stock-option exercises by Management and employees.

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 answer. Mory?

Thank you, Kirk. Our customer wins and loss certification of our MALC-GPON solutions were unfortunately overshadowed by continued difficult business solutions. The fourth quarter proved to be challenging, as the global credit contraction caused many of our customers to delay or reduce their plans to expand their networks. Until global economies improve, we do not foresee sustainable revenue growth. However, we hope to be able to return to break-even or positive quarterly pro-forma EBITDA by end of the 2009. Until then, we will continue to work hard and reduce operating expenses in order to minimize losses and cash burn. Thank you for joining us today. We will now open the call to questions. Operator, please begin the Q&A portion of the call.

Yes, sir. (Operator instructions). And our first question comes from the line of Greg Mesniaeff with Needham & Company. Go ahead.

Yes, thank you. Good evening. Just a couple of quick housekeeping questions. You mentioned two US [sea light] customers in the quarter, one being Excella. I didn't hear the other one, if you could resay that.

One is Excella, and the other one is Birch, Greg.

Got it. Okay. And you mentioned that there was one 10% customer in the quarter, can you tell us who that is?

Greg, we typically don't disclose the 10% customers.

Okay.

For the full year, they were not a 10% customer.

Okay. Got you. And then if you could just, you know, looking at sort of your worldwide segmentation of sales by region, could you give us a little bit of color where you saw, perhaps, you know, pockets of strengths, and pockets of weakness?

We saw strength in Caribbean, and in Latin America. We are seeing still a strong demand in Middle East. We saw very weakness in the United States. United States this year was -- last quarter, was the biggest region that we had. Asia typically is steady, but and Europe was steady. The main area of weakness was US, but the other areas were strong.

Okay. And just as a follow-up with the softer revenues, and your attempts to maintain your gross margins, at current levels, have you undertaken any changes to your manufacturing or supply-chain management practices?

No, we have not, but we have brought it to a measured discussion with our suppliers to reduce cost and reduce expenses. As Kirk mentioned, we have already reduced our manufacturing expenses, so we believe we are very comparative in the manufacturing sector, and we should be able to maintain or increase our gross margin at this point.

Thank you.

(Operator Instructions) And our next question comes from the line of Chad Smith with Smith Capital. Go ahead.

Hi, gentlemen. Good evening.

Hi.

Just wanted to get a little bit more clarification on a couple of things in the balance sheet. Kirk, can you give me a bit more color on the characteristics of your debt right now? I know your line of credit is kind of right at $15 million, I guess, even. Can you give me some color on that, and then also on your long-term debt, just some of the various covenances you've got there. My question is directed at kind of getting a feel for, if you have another cash burn quarter in Q1 and ten maybe we'll see how things go in Q2, you're going to down to potentially a negative net cash position. Are there any concerns or issues there with respect to covenances on your debt?

Okay, let's start with the components of debt. We have two major lenders. One is with Silicon Valley Bank, that's the $15 million line of credit. It is a $25 million revolving line. And it comes due in March of 2009. We are currently in discussions with them about renewal of that line, and we have consistently renewed over the past few years. The primary financial covenant that exists in that line with Silicon Valley Bank is liquidity covenant in which we need to keep 1.5 X cash and accounts receivable to 1 part of debt. We are in no jeopardy of being in violation of that liquidity requirement.

The other major loan is a $19.1 million loan on our campus. As we've talked about this before, it's due in April of 2011. It originally was a $20 million loan on a 25 year amortization. Our campus has been recently appraised. It's valued significantly in excess of this loan, and we don't anticipate any problems with either renewing that line or finding additional financing to replace that line in 2011.

I think I answered most of your questions with regard to the financial covenants that are in our loans. The ongoing discussions that we have with Silicon Valley Bank, will hopefully result in a renewal of that facility in a manner similar to what it currently is.

Okay. That's helpful. So, and obviously I remember that your long-term debt that you are holding on to is primarily the mortgage. So that's fine.

I just wanted to get some feel for if you do have a couple more quarters of cash burn, if you're going to get in to any kind of problems of with that particular covenant with that debt. So at this point now, not in an issue, would you project, based on what you guys are seeing, unless there is some kind of renegotiation you can get in to with the bank, any potential problems down the road if the cash burn rate continued at the rate that it is right now?

Well, as we said, we have $2 million of net cash, including the $15 million of debt to Silicon Valley Bank. If that had to be paid, we would still have $2 million of net cash.

Okay.

The gross cash is obviously increased by the line of $15 million, and the $19 million on the campus loan.

Right.

So the next major liquidity event would come in April of 2011, when we needed to refinance the campus loan.

Right. Okay. That's helpful. Second question. With respect to wins that you announced this quarter, and, you know, congratulations on some of these wins that you guys were able to announce. That's great. Were there -- could you characterize -- or I'm sorry could you just give me a feel on if there were additional customer wins, and I know some of those you can't announce, but in terms of the number of new customer wins that you had in the quarter, that you were not able to announce, were any of those that you had?

Yes, there were several others that we won that we have not announced, and we will probably announce some of them in this quarter. There have been good reception in our GPON product line. We are doing very well on the GPON, as well as active internet and EFM product line. Those three product lines has been very attractive to our customers, and many customers are deciding to build their infrastructure on those products.

Okay. And then finally, and I'll let you go, with respect to the buzz right now regarding the, you know, stimulus package and some of the potential elements of that being directed at broadband adoption and expansion, et cetera. Obviously you guys need to keep doing what you are doing, blocking and tackling getting business all of the world, but is there any potential that you guys have looked at or are targeting, where you could weasel your way into some of those potential opportunities in the US?

Definitely, definitely. That's a brighter spot for our US business. As you know, we work with a tier 2 to tier 5 carriers and (sea lacks), and broadband has not been mainly distributed in those areas, and we are working with some of them to put in the broadband infrastructure in place, and one of the thing that we did in the past quarter, we got the Ross approval, which required for IOCs or telephone company to go through government for the funding, and that approval will help us a lot, especially on GPON and active internet product line.

Ladies and gentlemen, I show no further questions at that time. I'll turn the call back over to Management for any 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 improved financial performance. Thank you.

That concludes today's conference. Thank you for your participation, you may now disconnect. Have a wonderful day.