DZS Inc (DZSI) 2015 Q4 法說會逐字稿

Good day and welcome to the fourth-quarter 2015 Zhone Technologies interpreted conference call. My name is Karen and I will be your coordinator for today. (Operator Instructions) As a reminder, this conference is being recorded for replay purposes.

I would now like to introduce Kirk Masako, Chief Financial Officer. Please proceed.

Thank you, operator. Hello and welcome to the fourth-quarter 2015 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 2015 financial results as reported in our earnings release that 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 Jim Norrod, Zhone's Chief Executive Officer. Jim will begin by discussing the key financial results and business developments of the fourth quarter. Following Jim's comments, I will 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.

This conference is being recorded for replay purposes and will be available for approximately one week. The dial-in instructions for 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.

During the course of the conference call, we will make forward-looking statements which reflect management's judgment based on factors currently known. However, these statements involve risks and uncertainties including those related to: projections of financial performance, the anticipated growth and trends in our business, the development of new technologies and market acceptance of new products, and statements that express our plans, objectives, and strategies for future operations.

We will 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, 2014, and our quarterly reports on Form 10-Q for the quarters ended March 31, 2015, June 30, 2015, and September 30, 2015. We would like to caution you that actual results could differ materially from those contemplated by the forward-looking statements and you should not place undue reliance on any forward-looking statements. We also undertake no obligation to update any forward-looking statements.

During the course of this call we will also make reference to adjusted EBITDA and adjusted 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 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 adjusted 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 Jim Norrod, Zhone's Chief Executive Officer.

Thanks, Kirk. Good afternoon thanks for joining us today for our fourth-quarter 2015 earnings call. As you know, 2015 was a year of change for us as we positioned ourselves to be successful in our two key businesses: being a global leader in fiber access transformation for communication service providers and providing the most cost-effective, energy-efficient, and secure alternative to existing copper-based ethernet land infrastructure to businesses and other enterprises.

We fully expect that the changes we made in 2015 will begin to bear fruit in 2016 and will create sustainable revenue growth and profitability for the future. We began to see some of those benefits in the fourth quarter with nearly 9% sequential revenue growth and GAAP profitability. Our fourth-quarter results demonstrate that we can grow revenue profitably, even in very tough act global economic conditions.

For 2016 we see four growth catalysts. First, the official launch of our MXK-F should begin to be deployed by our largest customers. Second, the global economic conditions that caused the downturn in 2015 should improve, or at least stabilize, enough to create an improved spending environment for our international service provider customers.

Third, the second round of Connect America funding should provide some stimulus for our US service provider customers, although the impact of the CAF II funding will not be felt until the latter part of the year. Fourth, our enterprise business continues to grow rapidly, which I will discuss in greater detail in a moment. Kirk will also provide more financial details later, so let me say a few words about our two businesses.

First and foremost, we continue to support our strong and well-established service provider business, serving the most innovative carriers around the world. In order to continue being a global leader in that business, we will maintain the course of investing heavily in R&D to provide the cutting-edge technologies that our customers expect and demand.

In the fourth quarter we officially launched the MXK-F, a new aggregation platform that can support fiber-based triple-play service from one chassis for a large city of up to 0.25 million users. Innovations like the MXK-F are what made us a global leader in fiber access transformation. As I've said before, our service provider business continues to anchor our company, so we are encouraged that our largest service provider customers continue to test the MXK-F in their labs, and we expect them to begin operationalizing MXK-F in their networks soon.

They are uniformly excited about the game-changing nature of this platform and we look forward to helping them migrate to it just as soon as possible. We are certain that the industry-leading platform will also catch the attention of other new service providers around the world, creating an opportunity for us to develop an expanded customer base. Meanwhile, we continue to support and enhance our MXK classic platforms for copper and fiber access deployments for those service providers on a slower migration path or with different network requirements.

As mentioned on our earnings call last quarter, we quickly reduced discretionary spending in other areas to be able to continue making those R&D investments in our service provider business and to create profitability. Our service provider business is thus positioned for profitable growth as global economic conditions improve.

As we have discussed before, growth also leads to increased profitability because we can leverage our operating expenses and our manufacturing capacity. Profitability continues to be our number one financial goal and we fully expect to return to profitability in 2016.

As for our enterprise business, it is growing rapidly due to the compelling value proposition of our fiber LAN product. It is easily the most cost effective, energy efficient, and secure alternative to traditional copper LAN infrastructure. Although fiber LAN revenue is relatively small, 2015 fiber LAN revenue more than doubled over 2014, demonstrating that fiber LAN can be a $100 million annual revenue business in another four to five years.

In addition to growing at a rate which exceeds doubling on an annual basis, we are seeing the total pipeline of opportunities growing even faster than that as the market learns about the fiber LAN value proposition.

As I have said in the past, success breeds success, so key reference wins and numerous market verticals should lead to follow-through success in those verticals. Also, we are just beginning to tap the international markets where our world-class sales team and partners have historically driven our company's greatest growth. I have now assigned our VP of Enterprise Sales to focus on the international market in addition to the existing US to market sales team.

Our strategic partnerships with other players in this market are also key catalysts to the accelerating momentum in our enterprise business. We previously announced a nonexclusive agreement with Corning to co-market an all-fiber network solution capable of deploying passive optical local area networks and cellular distributed antenna systems on a common infrastructure. In the second quarter of 2015 we announced another partnership with TE Connectivity to co-market passive optical LAN solutions to customers in a wide variety of sectors including government, healthcare, hospitality, education, and finance.

In the third quarter of 2015, we announced yet another agreement with Clearfield, the specialist in fiber management and connectivity platforms for communication providers, to co-market GPON solutions for enterprise customers and develop integrated hardware-software solutions that optimize the implementation of Clearfield's fiber-optic products with Zhone's fiber access solutions.

In the fourth quarter of 2015, IBM launched a global consortium to modernize sports venues and to enhance fan experience. We were part of that announcement as we were named a passive optical LAN strategic partner in that effort.

We also released case studies involving two applications of our fiber LAN solution. First, the deployment of fiber LAN at Grace Christian School demonstrates how the technology can foster digital learning and support connected devices, as well as other cloud-based applications. Secondly, the deployment of fiber LAN at Woodlands Retirement Community provides the most reliable and secure access to a multiuse network.

With that brief overview of our business, let me turn the call back to Kirk to provide more details about returning to profitability, our financial results for last quarter, and to discuss our financial guidance for next quarter. Kirk?

Thanks, Jim. Today Zhone announced financial results for the fourth quarter of 2015.

Fourth-quarter revenue of $24 million grew 8.5% sequentially from third-quarter revenue of $22.1 million. As we discussed last quarter, global economic uncertainties continued to cause many service providers to cautiously approach new network investments. And as a result, many of our international customers have reduced their network expansion.

Although the fourth-quarter sequential growth is encouraging, we do not expect continued growth into the first quarter. Instead, we are anticipating normal seasonal weakness in the first quarter and slightly lower revenue. After the first quarter, we would expect normal seasonal growth for the remainder of the year.

For 2016 as a whole, we expect mid single-digit percentage revenue growth over 2015, driven by the four growth catalysts that Jim mentioned. Namely the official launch and deployment of our MXK-F platform by our large service providers, an improved spending environment from our international service providers, some CAF II stimulus in the latter half of the year for our US service providers, and continued strength in our fiber LAN business.

Since the global economic slowdown impacted many of our international markets, revenue from our international customers, which typically produced the vast majority of our business, represented just 58% and 57% of revenue for the third and fourth quarters, respectively, as compared to 63% and 67% of revenue for the first and second quarters, respectively.

We also experienced less customer concentration this quarter, with the top five customers representing approximately 31% of revenue for the fourth quarter as compared to 42% of revenue for the third quarter. And we didn't have any 10% customers in the fourth quarter as compared to two 10% customers in the third quarter.

Gross margins of 40% exceeded our guidance range of 34% to 36% due to stronger domestic margins, stronger enterprise margins, and continued manufacturing efficiencies. We expect our domestic international mix to normalize next quarter, but our better enterprise margins and manufacturing efficiencies should continue. As a result, we expect gross margins for the first quarter of 2016 to range between 36% and 38%.

Total operating expenses of $9.1 million for the fourth quarter were at the low end of our guidance expectations of between $9 million and $9.5 million, but we expect operating expenses next quarter to be closer to the high end of that range. Total operating expenses for the fourth quarter included depreciation of approximately $200,000 and stock-based compensation of approximately $300,000. Finally, our adjusted EBITDA profit for the fourth quarter of 2015 was $990,000 as compared to an adjusted EBITDA loss of $829,000 for the third quarter.

Our net income on a GAAP basis was $403,000 and $0.01 per basic and diluted share in the fourth quarter of 2015, as compared to the net loss of $1.452 million and $0.04 per basic and diluted share in the third quarter. Our goal is to break even on an adjusted EBITDA basis in the first quarter of 2016 and return to profitability in subsequent quarters.

Now let's take a look at the balance sheet. Cash and short-term investments at December 31, 2015, increased to $10.1 million from $9 million at September 30, 2015, largely due to our adjusted EBITDA profit accompanied by minor change in our network and capital balances.

Accounts receivable decreased to $28.2 million at December 31, 2015, from $30.9 million at September 30, 2015, reducing the number of days' sales outstanding on accounts receivable to 106 days as compared 126 days for the third quarter. DSOs have been elevated over the past few quarters, largely due to the pattern of shipments to and collections from our largest customers. We expect those patterns to normalize and DSOs to continue improving in 2016.

We also continued to focus on reducing net inventories, which were $14.8 million at December 31, 2015, as compared to over $19.9 million at December 31, 2014. Our total debt obligations associated with Wells Fargo working capital facility declined slightly from $5.1 million at September 30, 2015, to $5 million at December 31, 2015. Lastly, the weighted average basic and diluted shares outstanding were $33.5 million and $34 million, respectively, for the fourth quarter of 2015.

And with that financial overview, let me turn the call back to Jim for a few final comments before we open the call up to questions and answers.

Thank you, Kirk. As I said, we fully expect that the changes made in 2015 will begin to bear fruit in 2016 and will create sustainable revenue growth and profitability for the future. Our fourth-quarter results, with nearly 9% sequential revenue growth and GAAP profitability, demonstrate that we are on track.

Now I would like to open up the call to questions. Operator, please begin the Q&A portion of the call.

(Operator Instructions) Christian Schwab, Craig-Hallum Group.

Congratulations on a solid quarter. When -- fiber LAN next year, do you think that has the opportunity to become 10% of quarterly revenue at any time during next year?

2017, Christian?

No, 2016, or do you think that's more of a 2017 event?

I thought you said 2017; that would have been an easier answer to say yes. 2016 I'm just not sure yet. Again, we have more than doubled 2015 over 2014 and I expect we will more than double again this year. So it certainly could be close, but no guarantees. But I will tell you 2017 should not be a problem disclosing those numbers.

Great. And then when will we have announcements or greater scale of some of these partners pulling deals through you? Is the pipeline that you talked about, is that what they are helping you build? And what is the length of the sales process, so we can get an idea of that?

And there are other partners that we haven't mentioned in this press release as well that are doing a really bang-up job, doing a great job with building the sales funnel and closing business. But you take as an example IBM, they have dedicated a complete group in this new sports arena, fan experience that they've announced and they see this as a long-term business opportunity for them.

They have won several large deals, but they've not announced the names of those deals yet, so I cannot announce them until they do because they are in charge and I can't jump in front of them on these announcements. But they have won several big sports deals and I think that as they announce those you will see that we are participants in those announcements.

But IBM, I want to reiterate they are making a major worldwide commitment to this whole area and this is not just major league professional sports. We're talking college sports as well as internationally in the soccer area, so this is a big deal. It's significant to them and certainly to us, and I wouldn't doubt it if they become our number one partner here in the future.

Great. When you guys talked about seeing -- I think I heard you say mid single-digit year-over-year revenue growth or mid to high single-digit year-over-year revenue growth. If that's the case then should we assume that the lion's share of the incremental growth on a year-over-year basis is really coming from fiber LAN and CAF II spending and the new product platform family allows that modest growth?

Or if we're going to grow (technical difficulty) I guess is what I'm asking. What is the rank and order of importance of your growth drivers?

Christian, on the service provider side, as a whole we're thinking that it would be low single-digit percentage growth over 2015. Fiber LAN, clearly on the enterprise side, is expected to more than double again, but the impact of that on total revenues is not nearly as significant. But it does drive the percentage up to mid single-digit percentage overall for the business.

Okay. And then as far as CAF II, you are hopeful for some revenue in the second half. But should we be thinking of that as if that goes really well that's more upside and are you seeing any initial signs?

You are not as strong in the United States as, say, ADTRAN is or Calyx is, who you would obviously be competing with for that. Alcatel Lucent isn't going to come down and compete with you for these small little deals. So are you seeing initial signs of success where you think you are going to win some business competitively versus the two people you would obviously run into?

Yes, and as we know, that the US -- CAF II is a US program; we're not going to see internationally any impact, but --. And we are not in the Tier 1s in the United States, as everyone knows. We have a couple Tier 2s and then Tier 3s through 5s, so we will see some of our Tier 2s pick up some of that money and they already told us that they think it will have a positive impact toward the latter part of the year.

So as you know, we are not competing with ADTRAN and Calyx on the Tier 1 business. That is beyond where we are focusing. We're not going to spend the money to go after that business.

But you drop down to the Tier 2 and 3 through 5, we are highly competitive there. We expect to possibly see some new customers coming into the US with that CAF II funding, so we expect to see some positive impact there. But again, we don't really compete with ADTRAN and Calyx, specifically in the Tier 1 space, because we're not going after those companies.

Right, right. But CAF II is more of a real phenomenon anyway, even though AT&T and CenturyLink a little bit, couple bigger customers have taken the lion's share of the money. I will talk to you a little bit later about what's going on there. I don't have any other questions. Thank you.

(Operator Instructions) That concludes our question-and-answer session for today. I would like to turn the conference back over to Jim Norrod for any closing comments.

Thank you, operator. As always, we do appreciate you folks joining us today and your continued support. I know many shareholders are on this phone call and I want you to know we are continuing to be optimistic that we are positioned strong growth opportunities that will lead to success in 2016 and beyond.

And we are also committed to converting that success into profitability and shareholder value because, as we speak to you, I want you to know that this has remained sustainable -- the revenue growth and profitability remain our key goals and key objectives for 2016. And we remain focused on that.

Again, thank you for your support. We will look forward to talking to you again at next quarter's conference call. Thanks, everyone.

Thank you. Ladies and gentlemen, thank you for your participation in today's conference. This does the program and you may now disconnect. Everyone, have a good day.