Harmonic Inc (HLIT) 2007 Q3 法說會逐字稿

Good afternoon.

My name is Marvin, and I will be your conference operator today.

At this time, I would like to welcome everyone to the third quarter 2007 Harmonic earnings conference call.

All line have been placed on mute to prevent any background noise.

After the speaker's remarks, there will be a question and answer session.

(OPERATOR INSTRUCTIONS) Thank you.

I would now like to turn the call over to Mr.

Patrick Harshman, President and CEO of Harmonic, Inc.

Sir, you may begin your conference.

Well, thank you very much, and good afternoon, everyone.

I'm Patrick Harshman, President and CEO of Harmonic.

With me in our headquarters in Sunnyvale, California, are Robin Dickson, our Chief Financial Officer and Michael Newman, our Investor Relations spokesman.

Thank you, all, very much for joining us today.

Today we announced our results for the third quarter of 2007.

We're very pleased with our strong sales and earnings growth as well as our improved gross margins and operating efficiencies.

In the quarter, our strong satellite underscores the significant strides we have been making in winning business and increasing our market share among domestic and international satellite operators, the strong overall growth in both domestic and international geographies, solid orders from our cable customers and continuing success with new and existing Telco IPTV customers worldwide.

We remain encouraged by our strengthening market position.

Strategically, we continue to be focused on the major trends in the video delivery marketplace, the move from standard to high definition, the move from broadcast television to on-demand video delivery to any device, and enabling intensifying competition between video service providers.

Our strong business momentum is being driven by taking full advantage of these fundamental market drivers, spearheaded by our innovative high definition encoding and video (on edge) and optical access solutions and supported by growing world-wide interests in our powerful new solution encompassing switch digital video, time [shipped] to television, video on-demand content preparation, transcoding, streaming and management, video-rich navigation and higher speed Internet data delivery.

Now I'll ask Robin to cover the financial aspects of the quarter.

And I will then review some of our recent business developments and strategic initiatives in more detail.

Robin?

Thank you, Patrick.

And good afternoon, everyone.

During this call, we may make projections or other forward-looking statements regarding future events or financial performance of the company.

We must caution you that such statements are only predictions and that actual events or results may differ materially.

We refer you to documents that the company files with the SEC including our most recent 10K and 10Q reports.

These documents identify important risk factors that could cause actual results to differ materially from those contained in our projections or forward-looking statements.

Please note that on this call we will provide with you financial metrics determined on a nonGAAP or pro forma basis.

These items together with the corresponding GAAP numbers and the reconciliation to GAAP are contained in today's earnings press release, which we have posted on our website and filed with the SEC on Form 8K.

We will also discuss historical financial and other statistical information regarding our business and operations.

Some of this information is included in the press release and the remainder of it will be available in a recorded version of in call on our website.

Today we announced our results of the third quarter ending September 28, 2007.

We reported net sales of $82.3 million, up 31% from $62.9 million in the third quarter of 2006.

For the first nine months of 2007, net sales were $223.8 million, up 30% from 130 -- $172.3 million in the same period of 2006.

In the third quarter of 2007, domestic sales represented 54% of revenue.

This was identical to the second quarter, showing that our sequential revenue growth in Q3 was geographically broad-based.

Our two largest customers in the third quarter were Comcast and EchoStar, representing 16% and 15% respectively of our total revenue.

By market in the third quarter, cable accounted for 51% of total revenue, satellite customers represented 32% and Telcos and others 17%.

As we had anticipated, our results for the third quarter of 2007 included significant revenue contributions from both domestic and international satellite customers.

We're very pleased to see our resurgent position in satellite this year, which Patrick will speak to in more detail later.

We did see a sequential drop in the revenue from cable customers in the third quarter, but our cable bookings and indeed our total bookings were very strong in the third quarter.

Our total backlog in deferred revenue was approximately $90 million at the end of Q3, up from the mid $70 millions at the end of June.

Our Q3 revenue did not include any contribution from the switch digital video rollout that we're expecting in future periods from Comcast.

By product category, video processing products represented 47% of revenue in the third quarter, Edge and Access 35% and software services and another 18%.

This make reflects the last portion of satellite business during the quarter with a higher concentration of video processing product shipments.

We're also pleased to see an increase in our services and software product lines with Rhozet making a small but immediate contribution to revenue since August.

NonGAAP gross margins in the third quarter of 2007 were 45%, and increased slightly on a sequential basis from the second quarter of '07.

Our product margins were very much improved due to the larger proportion of revenue from the higher margin video processing solutions and software and services.

Although the overall margin was reduced by a charge of approximately $1.8 million, per excess inventory of two older product lines.

The success of our new ProStream platform in particular has accelerated the wind down of these older products and we've decided that it was prudent to take a reserve for them.

As we anticipated on our second quarter call, our nonGAAP operating expenses in the third quarter were up on a sequential basis.

The increase was around $2 million, much of it driven by higher head count in part from the Rhozet acquisition, as well as the catch up of some third party R&D work, which we had discussed on the second quarter call.

In addition, the higher revenue and profitability level led to higher expense accruals for incentive compensation across the company.

On a year-to-date basis, our nonGAAP operating expenses grew by 4% compared to a 30% increase in sales in the same period year-to-date.

Our total head count at the end of September was 644, up by 40 from 604 at the end of June which includes the addition of approximately 15 Rhozet employees.

GAAP net income for the third quarter of 2007 was $9.4 million or $0.12 per diluted share.

up from $4 million or .5 -- $0.05 per share for the same period of 2006.

The GAAP results from the third quarter include a net credit to our excess facilities reserve of approximately $1.4 million, mainly from extending a sublease of the Harmonic facility.

Excluding this lease benefit and noncash accounting charges for stock-based compensation, the amortization of intangibles, and one-time charge for acquired in-processed technology, the nonGAAP for the third quarter was $11.9 million or $0.15 per share, up from $7.5 million or $0.10 per share for the same period of 2006.

For the nine-month period, GAAP net income was $16.8 million or $0.21 per diluted share compared to a loss of $4 million or $0.05 per share for the same period of 2006.

For the first nine months of '07, nonGAAP income was $26.2 million or $0.32 per diluted share, compared to net income of $4 million and $0.05 per share for the same period in 2006.

Our operating performance is considerably strengthened our balance sheet as of September 28, the company had cash, cash equivalence and short-term investments of $99 million, up from $82.2 million at the end of June.

During the third quarter we paid out $2.5 million, as the last portion of the Mtone acquisition, as well as $2 million for the initial cash portion of the Rhozet purchase.

Our receivables were $69.3 million, but DSOs of 76 days, that's down from 79 days in the previous quarter.

The DSOs are are still running higher than historical levels and again in large part due to the complex and often extended nature of many of our large satellite and Telco projects, particularly those in international markets.

Net inventory was $36.3 million down from $42.5 million at the end of June.

This reduction reflects in part the writedown I spoke to earlier, but more importantly our success for selling the new products for which we invested earlier this year.

However, at the same time, I should caution you that it's possible that we could see an increase in inventories in the next couple of quarters.

Depending to some extent on the pace of the switch digital video rollout.

We simply don't have as much information as we would like on the specific timing and support requirements and so it's possible we could see some inventory build in the edgeQAM product line.

Our capital spending was $1.7 million in the third quarter and we still expect it not to exceed $6 million for the full year.

Effective on July 31, we completed the significance of the Rhozet Corporation.

The $15.5 million purchase price was comprised of approximately $5.3 million in cash.

The remainder in stock, and of that cash, $3.2 million remains to be paid.

As you may have seen, we issued another press release this afternoon as well related to an offering of our stock.

For securities law purposes, we will not be addressing the information in that release on this call.

We go into the next six months with a strong backlog and good sales momentum, although we do expect some normal seasonal slowdown in the first quarter of next year.

We anticipate combined net sales for the fourth quarter of '07 and the first quarter of '08 will be in a range of $155 million to $165 million, with gross margins 45% to 47% on a nonGAAP basis, excluding stock-based compensation and the amortization of intangibles.

GAAP gross margins for the same period are expected to be in the range of 41% to 43%.

We expect to see our nonGAAP operating expenses trend modestly upward from the Q3 level.

In summary, we are very pleased with our result for the in first nine months of 2007, and we continue to focus on revenue growth opportunities and consistent profitability.

That's all for me.

Patrick?

Well, thanks, Robin.

And, yes, we are very pleased with the results in the third quarter and the fundamental strength of our business, as well as the continued diversification of our business across a broadening range of products and solutions, customers and geographies.

Let's look at some of the key developments and activities in our different customer segments.

Perhaps the biggest story in the quarter was the progress we've made in winning new business with leading domestic and international operators in the satellite direct-to-home market.

The cornerstone of our competitive success in this market continues to be our Electra MPEG-4 AVC high definition encoder.

We've had significant wins with key satellite customers around the world.

During the third quarter, we announced that DirectTV in the U.S., SKY Perfect to Japan and Canal Digital in the Netherlands we're deploying our Electra high definition encoders for major new deployments.

In PT Indonesia Telemedia, Indonesia has implemented our new multichannel standard definition encoders for its new direct-to-home service.

All of these satellite deployments include our latest stream processing and network management solutions.

We're also seeing our solutions driving new kinds of videos services and business models for satellite operators.

Wave Entertainment Network is deploying our MPEG-4 encoders, content ingest and creation software and StreamLiner video servers to enable its broadcast, time shipped to TV and on-demand video service to cruise ships.

YesTV in Israel is using our high definition and standard definition encoders for its broadcast over satellite service and our new Rhozet carbon coder video transcoding solution for its new Internet-based broadband video on-demand service.

Turning now to the cable market, our technology leadership position and long standing customer relationships continue to grow stronger.

Cable operators continue to focus on very strategic transitions to more definition and on-demand offerings and the associated bandwidth management technologies needed to enable the expansion of these services.

Correspondingly, we continue to see strong momentum for our traditional products including high quality MPEG-2 high definition and standard definition encoders, our edgeQAM for video on-demand expansion and our optical Access solutions for network segmentation and bandwidth expansion.

We also continue to see growing momentum for our expanding range of new cable solutions.

Our switch digital capability, encompassing IP distribution, stream processing, encryption, targeting ad insertion and edgeQAM processing continues to garner significant interest and Comcast's selection of our NSG9000 Universal edgeQAM to power their planned switched digital video deployments confirms our strong position here.

Beyond switch video and VOD, our universal edgeQAM is also gaining interest for our new DOCSIS 3.0 high speed data and innovative video over DOCSIS services.

Our recent work in the video over DOCSIS area was selected as the best new idea by cable operators at the cable [lab summer] conference in August.

We see these new DOCSIS capabilities driving additional growth opportunities and competitive differentiation.

We're also very encouraged by our continuing progress with several leading cable operators involving our new software-based asset creation ingest and distribution solution for video on-demand, time shipped to TV and network personal video recording.

During the quarter, we also announced noteworthy projects outside of the mainstream of the large cable MSOs, including an exciting MPEG-4 project with Red Intercable in Argentina.

A video head end and edgeQAM project with [Manson] Broadband Services in India, another edgeQAM project with Service Electric Cablevision here in the U.S., a commercial services and residential access project with WAVE division in the Pacific northwest and IP-based digital head end, an HFC access project together with General Dynamics for the Pentagon.

With large and small operator alike, we're very pleased to be at the center of so many cable initiatives involving our growing portfolio of innovative solutions.

In the emerging IPTV market, we've continue to strength in our leadership position with new customer wins around the world, as well as significant follow-on orders from established customers who are beginning to expand their video services.

During the quarter, we announced the Portugal Telecom has deployed our MPEG-4 high and standard definition encoders to power its new nationwide IPTV service.

And just this morning we announced that SES AMERICOM is adding video on-demand capability to its innovation IP-PRIME IPTV service using our new suite of software-based video on-demand products, including our StreamLiner video service, CLEARcut storage and coding solution and ingest Gateway workflow software.

This powerful solution will enable IP-PRIME's telco customers throughout the U.S.

to offer high quality cost effective VOD service and will enable Harmonic to further penetrate the U.S.

Telco IPTV market.

To remain at the forefront of video delivery, our internal research and development team continues to roll out great new products.

During the quarter we introduced MediaPrism, a powerful new suite of integrated software tools ideal for the creation of on-demand video assets from any source, tape, DVD, live broadcast, web and user-generated content.

The combination of MediaPrism with our armada intelligent content management application and StreamLiner video servers provides a comprehensive solution for high quality VOD, and is generating strong market interest among new and existing customers.

We also recently introduced the latest version of Rhozet carbon coder, our universal video [transerver] solution with new support for Adobe flash and VC1 formats and faster distributed transcoding across multiple machines.

We also introduced our new ion ABC encoder that can deliver four simultaneous MPEG-4 ABC and standard definition channels in high and low resolution formats.

And at the September IBC show in Amsterdam we demonstrated fantastic high definition 1080P encoding at 50 or 60 frames per second on our market-leading Electra platform.

We've also continued to strength in our organization with recent -- with the recent appointment of Matt Adden as Vice President of Worldwide Sales and Service.

And the expansion of our Board of Directors with the appointment of Patrick Gallagher.

Matt brings a wealth of industry experience and relationships and demonstrated success in managing and growing a global sales and service organization.

And Patrick is a former executive committee member of British Telecom and former CEO of FLAG telecom brings a unique understanding and powerful background in the global telecommunications market.

In summary, we continue to grow our sales and improve our operating performance as we significantly strengthen our leadership position across different video delivery markets.

Moreover, our growing global customer base is steadily gaining a deeper understanding of how to fully leverage the breadth and power of our new products and solutions, which provides them and us with exciting opportunities for future growth.

Our strategy remains focused on the key market drivers: transforming the business of video service delivery, the transition from broadcast to on-demand, the transition to more high definition programming, the transition towards video delivery of our IP and new IPTV services and the more intelligent use of network bandwidth to support these new services.

We're very excited about our progress this year and our potential on-coming periods.

And this concludes the formal part of our presentation.

Robin and I will be pleased to entertain any questions you may have now.

(OPERATOR INSTRUCTIONS) Our first question comes from the line of Jason Ader with Thomas Weisel.

Yes, thanks, guys.

The question on the switch digital video market and the edgeQAM opportunity.

Universal edgeQAMs, how much did you, again, really build in for the next six months for that particular opportunity?

And what type of impact do you think that might have on margins?

Jason, on our last call, we called the second half of 2007 as having very modest contribution from switch digital video.

And that's really still the way we see it.

As Robin commented, we saw zero revenue in Q3, and our expectation is still nothing more than let's call it modest revenue contribution in the fourth quarter.

Our view on Q1 is still a little bit hazier than we would like so it's something stepped up.

Our current guidance has something stepped up I would say from a modest contribution.

But we still don't see the deployments being in what I would call full swing.

And the guidance we've given and both are on revenue as well as margin really contemplate that kind of gradual step up over the next two quarters.

If you were to outperform on that gradual step up would it have a negative impact on the gross margins?

How should we think about that?

Well, I think the lower end of our margin range, Jason, pretty much accounts for some variability around our revenue assumption.

Clearly if there was a very substantial step up, possibly, but I think the fact we've given the relatively wide range of 45% to 47% should accommodate most of the outcomes that we see as likely.

Do you see that -- and that's largely do you view that business as largely incremental?

The switch digital video, yes.

Okay.

So just trying to think about your guidance.

You did like $82 million in Q4 -- Q3 and you're guiding, roughly on average $80 million for the next two quarters although obviously Q4's higher than Q1.

And with switch digital being incremental, just trying to understand is there a piece of the business that you expect to be a little less strong over the next couple quarters?

Maybe, I don't know, maybe satellite, you had sort of a particular pop in satellite this quarter and maybe that moderates a little bit?

How should we be thinking about that?

Well, I think that the real point is really around Q1, which is historically at this time of year we don't have great visibility.

And I think historically it's also true that that's been a somewhat slower quarter.

This really boils down to us trying as best we can to handicap where exactly Q1 falls out.

And you may -- you're right, there may very well be upside in terms of the way we're currently looking at the beginning of 2008.

Okay.

Last question is on the cable side.

You said bookings were strong.

Is there any particular product there or was it more broad?

I think it's fairly broad based across the different products and solutions solutions that we're currently delivering into cable.

Okay.

Thanks, guys.

Thanks.

Our next question comes from the line of Marcus Kupferschmidt with Lehman Brothers.

Hi, guys.

This is Jack [Montene] for Marcus.

A couple quick questions.

I guess the first one would be on OpEx, if you guys still see it kind of running in the future at about 30% of sales.

Or where exactly do you see that going, going forward?

Well, we've been bringing it down, Jack, most recent quarter was 31%.

We've been in kind of the lower to mid-30% range and it's certainly come down and obviously because we had a pretty good sequential growth quarter.

I think we'd like to keep it around that range.

I think actually over the next couple quarters, though as Jason pointed out and as we've tried to reinforce with some degree of uncertainty where the first quarter's going to be from a seasonal perspective, that might actually tick up a little bit.

Because as I said in the script, we do expect to see a little bit higher operating expenses over the next couple quarters.

So I think you can see some growth in operating expenses.

However, over the longer term and maybe looking out say through the rest of next year, it's very much our goal to get the operating expenses close to if not at about 30%.

Okay.

And with regard to kind of this uptick in gross margins, by kind of product type and maybe by service providers really being driven largely by cable and switch digital, or what are the other moving pieces in there that I'm missing and not really thinking about?

Well, Jack and Dave, we've been saying gross margin is a strong function of mix.

As you know, our encoding and new software and service solutions are generally higher than the corporate average.

While our optical agency access and edgeQAM solutions including those needed to push switch digital video are somewhat lower than the corporate average.

I think the consistent strengthenings that we're seeing in gross margins is really in line with our strategy of first establishing a strong global leadership position in high end encoding which we clearly are doing, and also by steadily and surely strengthening the depth and breadth of our software product line.

And it's great to see both of those things contributing to steadily improving gross margins.

Now that being said, any quarter we could see slight shifts in mix, and pursuant to the last question, certainly to the extent to which edgeQAM volume jumps significantly simply around the potential switch digital video deployment.

You may see some moderation of the overall gross margins and that's revenue upside scenario.

And from our point of view, that's a good thing.

Okay.

And one more.

Maybe you can kind of comment on the company and the size of the company you think was appropriate to compete.

Do you guys think you guys can be more competitive as a bigger company?

Or how do you feel about the competition out there in the market and how do you see yourselves fitting in right now?

We've not felt this good competitively in quite a long time.

We're winning our successes quite broad based geographically and across different customer segments.

And, yes, the dynamics we're seeing in the market is that it's really less about scale in and of itself and it's really about the technology, the focus of the company, the agility of the company.

And right now we think we have all of those things, great technology, very deep focus on video delivery and really the agility to move and to skate to where the puck is going in this video -- this fast moving video marketplace.

It is all really coming together for us.

And we think we've got a leg up on some of our larger competitors.

So from a competitive position and where we want to go, we -- look for us to broaden and deepen our solutions to take on more, but it's -- that's driven more, I would say, from a vision of broader and technical solutions that can bring even more advantages and capabilities for our customers rather than a scale-driven strategy.

Okay.

Thanks a lot, guys.

Thank you.

Our next question comes from the line of Brian Coyne with Friedman, Billings and Ramsey.

Hey, good afternoon, guys.

Hey, Brian.

Hi.

Just a couple.

First of all, you guys had a really nice quarter on the satellite front.

Sounds like a combination of the impact from new wins and just an accelerating demand curve.

Do you think that -- how sustainable do you think this might be?

And do you think it will really require sort of new customer wins or do you think it can get there fulfilling the business you feel like you've got more or less in hand right now?

Well, we feel very good about the business and the footprint that we have in hand.

As you point out this isn't just about two large guys in the U.S., but it's about the addition of a significant list of customers both announced and unannounced outside of the U.S.

as well as a couple new players in the U.S.

like WAVE Broadband and SES, who I mentioned.

So, I think that the significant expansion and footprint and market share that we have around the world is -- [portends] very well for continuing revenue growth as well as where we are on the technology cycles.

So most of what we've been doing is around HD, our view of the global satellite market is we're still in the relatively early days of this massive transformation from standard definition to high definition.

And we're also encouraged by the other revenue opportunities that we're seeing in stream processing and video on-demand, etc., outside of the traditional just encoding picture.

So I think there's no doubt that still there's a limited number of large satellite operators of scale around the world, but from both a number of customers who are now house accounts for us and also the breadth of the solutions that we're bringing as well as where we under the investment curve, for all those reasons, we see a pretty good runway in front of us in the satellite space.

And then, I guess looking at cable then, just a couple of questions.

First of all, your cable doesn't looks like it's down a smidge in the quarter just sequentially.

Did you happen to see more of that on the compression side or maybe on the transition side?

And then, sort of following from that, I want to ask about the transcoder opportunity.

If you think cable is going to need transcoding equipment in many of its systems, all of its systems for sort of the HBO phenomena that we see going on, the MPEG-4?

Yes.

So, yes.

Cable revenue was down a little bit from the first two quarters, but as I think Robin mentioned, the bookings were actually substantially above the revenue level and really in line with what we've seen earlier in the year.

So I'd say that dip down in revenue was, I can't point to any specific area.

I think maybe there was a little bit of industry wide slowness as we've headed into the second year relative to perhaps what we were expecting six months before, but I think as our bookings number showed the market at least in the investments around products and solutions we're delivering is remaining quite healthy.

Regarding your question about transcoding, it's clear that there's more and more content, providers are serving up their content exclusively in high definition and over MPEG-4.

It becomes a requirement at the cable-head end to transcode that, either from MPEG-4 or MPEG-2, or in the case that that content is going to be delivered also in standard definition to do that transformation.

So that's one example of I'd say a growing world-wide phenomena of more and more opportunities around what we generally call stream processing.

And that is manipulation -- the transformation of already digitized and compressed content.

So we see that specific application that you mentioned as an important opportunity in cable.

And more generally, the transformation of video from one format to the other.

It's what our Rhozet acquisition about in terms of dealing with file-based video.

It's was really from one format to the other.

So generally we see transcoding as a very important growth area and opportunity for us across customer segments.

That's great.

And then I guess to drill one more level if I could.

Do you see that as something that cable's going to need, just generally like sort of spotty on the networks or does that go in each head end?

I think it goes in each head end or at least each head end where video is being encoded or originated, which is most large head ends in the United States.

I kind of hesitate a little bit, Brian, because as you know, there's a lot of different architectures that are out there.

And sometimes you see one large regional head ends that feeds several other slight head ends.

And so in that scenario, you might see that just at the large regional head end.

But the original transcoding happens before the video is moved around.

But I think it's still somewhat early days in terms of how cable operators are going to be adapting their architectures and taking on new technologies to deal with these substantial changes that we're seeing in video contribution technology.

Good.

That's great.

Thanks again.

Thank you.

Our next question comes from the line of Greg Mesniaeff with Needham.

Yes, thank you.

I just have a couple of follow-on questions here.

I was wondering if you could comment on the pricing environment you've seen in the last quarter in the satellite high-def encoder space, particularly vis-a-vis some of your competitors, Tamberg and Thompson.

And I'm wondering the recent -- the success you've had really is a technology-driven one, or is a combination of just pricing dynamics and technology?

Greg, we strongly believe that it's really about technology.

For satellite operators in particular, with such a large investment in very precious satellite bandwidth, the relative incremental capital expenditure associated with the video compression equipment is relatively light, so really the main driver of the competitive decisions that combine decisions that get made in the satellite world is really around video quality and quality that can be delivered within a minimal bandwidth.

And these decisions are routinely made, taking a -- utilizing a shoot-out where they look at different -- the video that can be delivered by Harmonic and our competitors, and we feel great about our technology and feel strongly that it's the power of the technology that's really driving these decisions.

Has there been more of a dual vendor strategy put in place recently given the success that some of your competitors had earlier on a couple of quarters ago?

Well, Greg, I think it's all over the map.

There's no doubt while we've had tremendous success, I would also tell you it's not like we own every single bit of encoding business that's out there.

And from my perspective, that means there's a lot more market opportunity and market share to scoop up.

So, yes, we still see to varying degrees our key competitors deployed for select legacy or even some case new applications at different operators.

Great.

And just finally on the MPEG-2 front, any color on business with the MSOs this past quarter?

Well, MPEG-2 high definition continues to be a main theme of our business with the MSOs.

As you know, DirectTV launching 100 HD channels by the end of the year certainly puts a lot of pressure on the HD offerings of all competitors whether they be Telco or cable here in the U.S.

And we've started to see the early benefits of that.

And that we expect high definition encoding and stream processing to be a theme for us throughout 2008 as well.

Okay.

Thank you.

I'll stop here for now.

Thanks.

Thanks.

(OPERATOR INSTRUCTIONS) Our next question comes from the line Amitabh Passi with UBS.

Hi, guys.

Can you hear me?

Yes.

Yes.

Thanks.

Robin, my first question was for you.

The gross margin guidance for the fourth quarter, what are you assuming for the amortization of intangibles?

Is it similar to this quarter or do you have a different number in there?

Well, first of all, the gross margin guidance we gave is consistent with the revenues really for the six-month period as we've been doing recently is giving guidance for six months for the gross margins that we've spoken to covers the six months.

We gave two numbers.

We gave a nonGAAP number of 45% to 47%, which is certainly what most analysts loop to.

That does not include any amortization of intangibles.

In the GAAP gross margin guidance which we gave which was 41% to 43%, that does include amortization of intangibles from both the recent Mtone and now the Rhozet acquisitions.

We recorded, I believe, $1.5 million or there abouts in the third quarter.

Let me just -- yes, but $1.5 million, excluding the one-time acquired technology write-off.

So about $1.5 million.

And we think that's probably going to be around $1.7 million with a full quarter of Rhozet.

We just did two months of Rhozet in the third quarter, so that particular number we're getting -- is probably going to be in that range $1.7 million, $1.8 million, thereabouts.

That was the assumption we made in stepping from GAAP to nonGAAP.

That $1.7 million, $1.8 million also includes option expense, right?

No, it does not.

Okay.

There's a similar kind of number that we're assuming for stock option expense which for the third quarter was around -- was actually was $1.7 million.

We don't spend a lot of time trying to forecast that number, but I wouldn't expect it to change dramatically in the next couple of quarters.

Okay.

Yes, I was just trying to get to the gross margin guidance including option expense, but excluding the amortization.

So, okay.

I think you've given me enough there, I can work with that.

And then I guess, Patrick, just for you, if I look at this quarter almost 50% of your satellite revenues came from EchoStar.

Just trying to get a sense, the performance you saw from EchoStar, is this sort of a multi-quarter level we should expect or, again, could this be lumpy quarter to quarter?

I know people have asked just trying to access the gain, like how should we think about sustainability of particularly EchoStar in your satellite segment?

I'd say with any given customer, in particular on initiatives, I think in this business, the revenue is inherently, as you called it, lumpy.

I think there is not a flat revenue curve at least -- well, for with any given operator.

For us, the stabilization or the flattening out of that comes through having multiple different customers and I think we really demonstrated that that we can bring on multiple different customers, and I expect different customers to contribute different amounts in different quarters.

Specifically around EchoStar, I wouldn't expect a similarly strong quarter multiple quarters in a row from EchoStar.

That being said, we have a great relationship with them.

We continue -- we expect they will continue to be an important customer for us and we've got relationships -- increasingly strong relationships with a number of other suppliers, excuse me, operators -- service operators as we've mentioned.

So we do expect the combination of more customers, more activity, different kinds of activity, not just in coding but the video on-demand, stream processing work, to give us more than ever before a somewhat smooth runway on satellite business.

Okay.

And then on switch digital video.

Can you provide a sense of I guess, are you seeing -- what sort of pipeline are you seeing with respect to additional opportunities, and is there still plenty of scope in the U.S.

market or would you say most of the vendor decisions have been pretty much made for -- to large MSOs in the U.S.?

I think that there's still open space in the U.S.

market.

It's still a relatively new technology, I think operators large and small are still in some cases experimenting with it and finding out how and when it works and what scenarios.

And from our perspective it's still relatively early days.

Certainly some decisions and deployments have already been made over the past year or 18 months, but we still we see a fairly good market for this in the U.S.

and outside of the U.S.

and Canada and internationally as well.

So, we wouldn't -- we don't hang our hat on when switch digital video as alone driving our cable business.

But we see it as an important and valuable component complimenting all of the encoding work we're doing.

The other edgeQAM drivers that I mentioned in VOD and DOCSIS work or the HFC access, as well as the new video on-demand software work, so we see it as one of six or seven important initiatives that we have going with the cable industry now.

Okay.

And then last question is around the Telco operators, I haven't really seen any sort of meaningful movement there with respect to your revenue per quarter run rate.

Just any sort of an update you have in terms of what sort of impending issues when might we see some sort of an acceleration in revenue trends there?

It's still an emerging market that we're still trying to get our arms around.

That being said, the revenue, the contribution does seem to -- it's been somewhat stable over the last couple of quarters.

One of the interesting things that we note is this past quarter is we see more of that revenue coming out of some increasing investment from existing deployments, existing customers.

And we actually view that positively.

I mean, it's telling us that some of the early deployments that happened a year ago, the operators are starting to get comfortable with the business model, starting to see some subscribers, starting to see some business justification for expanding the footprint.

You'll recall that a lot of the early IPTV deployments were relatively modest in terms of the number of channels, almost no HD out there, none or limited VOD capability.

So the fact that we're seeing some of the early guys come back and start to expand the footprint, we think, is a positive development.

At the same time, we are excited about the new business that we're securing.

I mentioned Portugal Telecom, a key win for us again with Microsoft and Alcatel Lucent we had a number of winnings with those couple of partners.

And also, I'm -- we're really excited about this SES deal that I talked about.

We think the IP-PRIME is a great product and a great way to go after the medium and smaller Telco operators in the U.S., that's not a market space that we previously participated much in.

And not only participating from a stream processing point of view as we've previously announced, but now having a piece of our solution which will go in every single IPTV customer central office and will scale with video on-demand content is definitely exciting from our perspective and gives us yet another lever for the future growth of this business, which fundamentally, we're very excited about strategically over the long term.

Okay.

Sorry, just one last one.

Robin, I don't know if you can say anything of this, but any sense of the timing with respect to your stock offering once you reach the debt to close?

No, I'm sorry, we're just not in a position to talk about it on the call.

Okay.

Thanks.

Our next question comes from the line of Paul McWilliams with Indie Research.

Hi, guys.

Congratulations on a good nine months.

Good progress this year.

Thank you.

A couple of things to start off with here.

How have your lead times trended through this year?

I think good, Paul.

To maybe the detriment of our inventory position as Robin mentioned.

We made a couple of bets early in the year to make sure we had a strong position on particular the encoding products.

We had a hunch we were really going to take this year.

And I think that decision has served us well.

And that decision, as well as, I think, fairly good visibility on the projects and the deals that we've been winning have allowed us to do a good job of managing our supply chain and our lead time situation.

So you don't see any upcoming problems on capacity issues that might constrain your ability to sell new deals?

Not in the near term.

We work hard on our forecasting and getting visibility.

There always is uncertainty.

We brought our new Vice President of Operations, Charlie Bonasera, almost a year ago and he's been doing I think a great job for us, trying to create more flexibility than we've had in the past, making our supply chain more agile.

And while certainly big up or down movements could catch us a flat-footed, we're a combination of trying to improve that visibility as well as having a more agile supply chain leaves us feeling that we're in a pretty good place.

Good.

I'm asking those questions because I'm optimistic for next year.

What source of solutions do you feel as though you're currently lacking?

It sounds from a recent interview that Dave Price did that you're really focused on the mobile side as well as your more traditional markets.

Then with Mtone, that brings you into a bunch of new markets.

What little holes do you feel like you need to fill at this point?

I think there's two dimensions that you just touched on.

They all go to the customer side first historically and I think for a good sense, our big customers customers and the leading global satellite operators and of course they are the leaders in global video delivery.

And as we've seen new operators get into the video game, I think the company's done an excellent job of really anticipating being in front of that curve and hence our very strong position with the leading telecoms around the world rolling out video.

And with the Rhozet acquisition, let me back up -- and I think Mtone, the Mtone acquisition not only from the technology point of view, but from a deployment with IPTV operator's point of view really helped accelerate that and consolidate that strong position IPTV.

And Mtone has further broad Internet players Amazon -- I'm sorry, Rhozet Internet players in the mix and indeed as we look out at customer segments, mobile operators both the wireline telecom working with today as well as other mobile operators who are eyeing video delivery to mobile devices.

That's an interesting area that we are keeping our eye on as I think Dave Price mentioned.

From a technology perspective, we've continuing to look at all range of new solutions both from an internal development point of view as well as potential acquisition point of view that could complement these new directions that we're going.

We keep talking about the importance of on-demand delivery both from a hardware product as well as software solution point of view.

And while I think we've made tremendous strides there, those are areas where I think that there probably are additional things we could do to further broaden our solution and deliver even more value to our customers across all these different segments that I'd mentioned.

Okay.

Are you seeing legacy opportunities, legacy Harmonic product opportunities within the traditional Rhozet customer base yet?

It's still only days, Paul.

Certainly that is part of the strategic thinking.

While the main focus has been Internet players, they're also quite well positioned with broadcasters, letter stations, etc.

And that is an area where we've started to see some good synergy.

And equally, I have to tell you our core cable satellites and IPTV customers have also responded very positively to the Rhozet capability.

I think, for example, operators offering video on-demand services are looking at user-generated content as a must-have incremental service, to really keep the VOD service relevant and fresh and compelling for their subscribers.

The announcement we made with YesTV and their use of Rhozet around their new video on-demand over internet broadband connections I think is very interesting and a very interesting from a service direction point of view as well as from an early synergy point of view.

Thank you.

I've got just a couple of quick housekeepers here.

You'd mentioned that you expect your OpEx to go up somewhat in the next two quarters.

Is that up a little bit in Q4 and then up a little bit more in Q1?

And is that as a percent of revenue or in dollars?

Paul, I was really speaking in dollars, and I apologize if I didn't make that clear.

Yes, in absolute dollars I would expect to see some increase over in the next six months.

We have as we pointed out, we have done some hiring in Q3, both adding the Rhozet employees as well as some hiring of our own.

And I -- we will see the effect of that in the fourth and first quarters.

Okay.

And then first quarter we get a little seasonal bump there from -- getting back to full FICA, I guess.

Yes.

You're absolutely right.

There are some sort of technical factors like FICA and vacations and so on that generally do tend to push Q1 expenses up as well.

So while you might from a sort of business perspective maybe expect to see a little lighter Q1, it usually doesn't work that way on the operating expense front, so I think it's wise to think about higher OpEx in both quarters.

Well, you helped us on the GP model.

Can you give us just a range or a clue on your operating profit pro forma model for six months?

Yes, well we were around $26 million, a little shy of $26 million on the nonGAAP basis in the third quarter.

I mean, I could certainly see that closer to $27 million on a quarter for each of the two quarters for some of the reasons you mentioned.

Okay.

That helps me tremendously.

I just try to get my expectations in line.

And this one you want -- you might want to get back to me on, Robin if you don't have it in front of you, but you've gone to listing your intangibles, good will and other assets all on one line.

I would like to somehow to delineate what is good will and intangible on that line?

I leave that that is broken out -- it will be broken out in our 10Q when we file that in the next week or two.

You don't have that number handy?

I don't -- I'm sorry, I don't have it in front of me.

Okay.

Is it something we can get back together on?

I'd like to put it in my chart and my initial report as to what your net tangible assets are.

Yes.

With the caveat it's probably subject to some review, but I can provide a number.

Yes, absolutely.

Okay.

I think that's really -- I'll let somebody else take the floor.

Thank you very much for your time.

Alright.

Thank you.

Our next question comes from the line of Michael [Neilman] with Ridgecrest.

Hi, gentlemen, I noticed that you said that you couldn't talk about the deal, but have you talked at all about what the proceeds are going to be used for?

Again, I'm sorry, I hate to be so negative about it, but we simply can't talk about the deal.

I think --

Because I came on late and pardon me, what was your cash flow generation in the quarter?

We generated $17 million.

We -- our cash increase from $82 million to $99 million in the three months.

And like the rest of our business, I mean quarter-to-quarter fluctuations are not that unusual, and in fact, we've seen cash decline since the beginning of the year and in the first half of the year by about $10 million, so we're certainly seeing that now bounce back the other way.

And I think you answered a question that we asked earlier, but let me ask it, if you look and you said looking at your business you could see the first quarter down sequentially based upon what you see now.

Do you have approximately about what you expect that sequential down to be if you looked at your business now and you kind of said that looking at it now would be down sequentially?

No.

The first quarter as I think Patrick indicated in his commentary is still a little bit cloudy.

The -- our major customers have not announced or even to my knowledge completed their budgeting processes for next year.

We're going through the same exercise ourselves.

And as always, we certainly look to history as a guide for what happens in the first quarter.

And certainly, the majority of quarters that I've seen, and that's a lot, the majority of first quarters do tend to be down somewhat from the previous fourth quarter.

And wwe've seen variations over the map and we've certainly seen some increases, but in general, we've seen reductions and those, I'd say generally, could be anywhere from 5% to 15%, again just sort of looking back over the course of history.

So I don't really want to be more specific than that because simply I don't think we're in a position.

Thank you.

Our next question comes from the line of Brian Horey with Aurelian.

Hi.

Can you just refresh me on what the CapEx needs are for this year and what you see for next year?

We said that this year we expected to be around probably not more than $6 million of CapEx.

And that has been fairly steady level over the last few years.

That's been a little higher in some years, a little lower in others, but that's been the general level that supports principally R&D lab equipment, the company's IT needs, and some amount of manufacturing.

You probably know we were mostly on a contract manufacturing model.

So we wouldn't expect a step function in a dramatic sense from that in '08?

No.

I think our business model with respect to capital expenditure requirements is going to remain fairly steady as it goes, so, no, I don't foresee any particular -- any major changes in how we look at CapEx.

Okay.

So barring a decision to embark on some kind of buyback plan then any kind of big use of cash would be for some opportunistic basis from a strategic standpoint?

Again, I'm under some pretty strict instructions not to discuss elements of the offerings.

I don't want to --

I wasn't referring to the offering.

I was just talking in general.

Well, I think again with respect to CapEx, I don't expect any particular changes in the model that would drive CapEx dramatically up or down either way.

Okay.

Thanks very much.

(OPERATOR INSTRUCTIONS) Our next question comes from the line of Marcus Kupferschmidt with Lehman Brothers.

Hi, guys.

Just jumping in a little bit late.

Just wanted to ask a little about Telco which I get the sense you guys didn't spend a lot of time in terms of help us understand what you're seeing in Telco and how your assessing the market growth in opportunity and the pace of improvement that you can see going forward.

Well, Marcus, the overriding comment is that it's still an emerging market and still one that we have somewhat of a difficult time forecasting or predicting how fast it's going to grow.

There's no doubt in my mind that it's going to be a major factor in our business and more generally on the global video delivery stage.

However, in the near term, we kind of look at two real dimensions.

One is the addition of new customers and the other is, is how our existing customers are doing and if and how and when they are augmenting their usually modest initial investments -- modest video delivery footprints.

This past quarter, we saw good progress in both dimensions.

Perhaps slightly more from a mix perspective in terms of the investment of existing customers in expanding their footprint than we've seen in the past two periods.

So we did see progress both in Asia and in Europe as well as in the Americans here of customers we helped set up over the past 18 months, start to get back and expand the geographical or channel footprint of their services.

And for us that's a very encouraging sign.

It really says that they're starting from a business perspective to get they're arms around the business.

They're feeling comfortable in the way they're handling the content issues as well as subscriber issues and ready to start to expand their service.

But at the same time, we do continue to pick up new customers.

I think that's very important.

In particular here we announce during the quarter for me a fairly significant deal with Portugal Telecom, a leading telecom in Europe, and also the deal with SES AMERICOM that we announced this morning is also we see as quite strategically important and valuable because we have a lot of confidence in this business model of their IP-PRIME service which delivers broadcast video services to small and medium telcos across North America.

And the opportunity to continue to participate in that delivery as well as we announced this morning be part of the solution for video on-demand at the central office reception sites is pretty exciting.

It's a new product for to us get into telcos in a significant way or VOD products, VOD software products.

And it's also an opportunity for more significant penetration of telco customers in the U.S.

here.

Okay.

And if I could just quickly ask about, I guess feeling better about shipments.

And one of the things that's tough for you guys to predict is converting and understanding when shipments would convert to revenues.

Are you feeling better about that side of the revenue recognition?

You mean, Marcus, with respect to telco specifically?

Right.

If I remember, that's been the difficulty of that business segment?

Yes, it has been difficult.

It's a bit like the market in general.

It's still a mix of -- as long as it remains a mix of new customers and expansions, as Patrick was talking about, I think there's always -- there remains some risk of just in the difficulty of predicting when specific revenue is going to be recognized.

I would say slowly perhaps it is improving as our -- as we ourselves and also many of our large partners get more experience and just more exposure to this world in general.

But in -- we are still dealing largely with the customer base and to some extent a major supplier or major partner base too, that it's still relatively unfamiliar with, again what is an emerging technology in an emerging market.

Okay.

Thank you.

Thank you.

There seem to be no further questions at this time.

Okay.

Well, then I'd just like to close by thanking everybody for participating in the conference call today, and we look forward to speaking with you again soon.

Good day.

This concludes today's third quarter 2007 Harmonic earnings conference call.

You may now disconnect.