Harmonic Inc (HLIT) 2014 Q3 法說會逐字稿

Welcome to the third quarter 2014 Harmonic earnings conference call. My name is Jeanette and I'll be your Operator for today's call. At this time all participants are in a listen-only mode. Later we will conduct a question-and-answer session. Please note that this conference is being recorded. I will now turn the call over to Blair King. Mr. King, you may begin.

Thank you, Jeanette. Hello, everybody. With me in our headquarters today in San Jose, California, is Patrick Harshman, our CEO, and Carolyn Aver, our CFO. I'd like to point out that in addition to the audio portion of this call, we have also Provided slides that you can see by going to the Investor Relations page on harmonic.com and clicking on the third quarter 2014 preliminary results call button.

Now turning to slide two, let me remind you that during this call, we will Provide projections and other forward-looking statements regarding future events or the future financial performance of the Company. 50/50 we refer to documents that Harmonic files with the SEC, including our most recent 10-Q and 10-K report. And the forward-looking statements section of today's preliminary results press release.

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 unless otherwise indicated, the financial metrics we provide you on this call are determined on a non-GAAP basis. These items, together with corresponding GAAP numbers, and a reconciliation to GAAP are contained in today's press release, which we have posted on our web site and filed with the SEC on a form. 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 the information will be available in a recorded version of this call on our web site. With that, let me turn the call back over to you, Patrick.

Thanks, Blair. Thank you, everyone, for joining us today. Turning now to our slide three, today we reported our results for the third quarter of 2014. Reflecting a continuation of the external market turbulence we discussed last quarter, but also the margin trajectory we expected as we entered the year.

With this in mind, I'll first review our results for the quarter and then take a step back to discuss overall market dynamics, why we believe much of the market turbulence is, in fact, an encouraging sign, pending new infrastructure investments and why Harmonic is positioned with significant earnings upside as we look ahead to 2015. So revenue in the third quarter was just over $108 million, down 1% sequentially, and slightly above the mid-point of our guidance range.

Our video business improved modestly, up $3.5 million from the prior quarter, while as expected our Cable Edge business declined a little over $5 million, off of a record second quarter. In terms of customer verticals, business from our service provider customers represented 62% of revenue, our broadcast to media grew to 38%, reflecting the modest improvement in our video product business. Our third quarter bookings of $97.8 million were down 14% sequentially. Now, some of you may recall our third quarter has been, and was again, our seasonally lowest service renewal quarter.

As a result, we typically exit the third quarter with a book-to-bill slightly below one as we did again this quarter. Nonetheless, year-to-date book-to-bill remains above one. Backlogged and deferred revenue is consequently $116.6 million, down from last quarter again, due largely to the seasonality in our service bookings. Gross margin for the quarter was a very solid 53.6%, reflecting healthy margin trends in both our video and Cable Edge businesses. Earnings were $0.06 per share, aided not only by our gross margins, but also by our continued focus on operating income.

Cash from operations was just under $1 million, due to the unusual timing of some payments, which are not expected to repeat in the fourth quarter. Significantly, we purchased just under $5 million shares in the quarter or nearly $32 million. In total, we've reduced our share count by over 30% since we began the share buyback program in the second quarter of 2012. Let Carolyn provide further details and commentary on these operating results in just a few minutes. Turning now to slide four, let's take a closer look at our business and the market color that we saw in the fourth quarter.

A service provider revenue remains up 4% for the year, led by 50%, a little over 50% growth in our Cable Edge business, although service provider revenue for the quarter as a whole was down 10% when compared to the prior quarter. In the third quarter turbulence in our video business, caused by both macro economic issues and technology transition driven (inaudible), is compounded by the anticipated reduction in cable edge sales off of a record Q2 as I just mentioned. Additionally, we did begin to see certain service provider customers slow some investment spending in connection with consolidation activities.

We anticipate these activities may intensify in the coming months, and this, therefore, factors into our conscious outlook for the fourth quarter. Turning to broadcast to media vertical, in the third quarter we were pleased to see revenue advance from the prior quarter, up 17%. Primarily due to stronger demand from several of the world's largest media companies.

And here we were encouraged by a sharp rebound in the associated production play of product orders. Finally, from a geographical perspective, the Asia-pacific region was clear bright spot to the quarter, growing by 15%, further reflecting improved revenue contributions from our broadcasting (inaudible). Revenue from the Americas was flat against the second quarter, as improved video revenue, again led by broadcast to media, offset the decline in our Cable Edge business which has again for the year driven the year-to-date growth we've seen in the Americas, about 3%. While the EMEA region again remained very challenging, revenues were down about 13% sequentially, our broadcasting media vertical here too performed relatively well in the quarter.

We also saw a modest improvement from our cable customers in the geography. Importantly, we exited the quarter with slightly better bookings in the region and strong customer engagement following the sales organization in Europe, Middle East and Africa that we conducted in June. Nevertheless, Russia, Africa and the Middle East remain a big concern for us. Year-to-date we're down more than $20 million from 2013 in these three sub-regions.

So, we remain cautious of a softening macro economic and geo-political climates in the broader EMEA region. Now, despite these choppy business conditions, we believe our strategy remains sound. Our technology and competitive fundamentals are positive, our margin structure continues to improve, our cost structure is aligned and improving, generated cash and use this to significantly reduce our share count, and consequently we're very solidly positioned to accelerate earnings growth in 2015. So, let's turn to slide five and I'll update you on what we're seeing going on in our related, but distinct, video and Cable Edge businesses.

As many of you will recall, the video business was our problem child in the second quarter. And while we experienced minor sequential improvement throughout the third quarter, the overall market dynamics were largely unchanged. Domestically we continue to see an industry coming off of the hi-definition and MPEG-4 tape to file waves.

And a pause before investing in HEVC, Ultra-HD, 4K, and data center based video delivery infrastructure. The past quarter we've grown incrementally more confident that Ultra-HD, or 4K services, will become real starting in 2015 and that these will be delivered through the adoption of HEVC compression. We have seen continued industry momentum toward network function virtualization based on core video chain functions being re-engineered and collapse to run on Intel processors. Leveraging industry standard servers and virtualized data center best practices. Inspired by the vision of virtualized video infrastructure and very often their own IT network experiences, our customers around the globe are now grappling with the very real operational transition and technical staff training issues associated with making this video virtualization move a reality.

We see this work in associated investment pause as very much the calm before the storm. Let me be clear, we are a real driver here. Very focused on pushing the market forward. Related to this dynamic, over the top services are also a clear area of focus for our industry. In recent months we've seen our vision of integrated over the top taking hold.

As the initial silo' d over the top infrastructures start to give way to unified head ends, that enable simultaneous origination and delivery, with linear broadcast and multi-screen services. Now, it's been a long road to hoe with relatively minus revenue contributions to date in the over the top area for us.

We're encouraged by the over-the-top business and architectural trends we're seeing. And the significant operational efficiency gains we're positioned to enable in the marketplace. And growing focus on operational efficiencies, is also driving more customers to broadly turn their attention to the notion of total cost of ownership of their entire video workplace.

And we see this reaffirmed in our long held strategy of end to end solutions and horizontal function collapse, which we have enabled for both internal R&D and acquisitions leaning to our VOS announcement at NAB in April of this year. And now, finally, regarding the third quarter video market dynamics. Again, customer demand continues to be sluggish throughout much of the Europe, Middle East and Africa region.

Although we saw some improvement in pockets of Europe, other regions were geo-political or weakening macro-economic conditions prevail remain soft. What we anticipate these conditions to weigh on our near-term results, we remain actively engaged with our customers, and believe we're well positioned to capitalize on pent-up demand as circumstances begin to normalize. So, with this in mind, let's now turn to our video business execution.

The marketplace challenges have not slowed our focus on strategic partners. First, I'd like to take to moment to introduce you to Bart Spriester. Bart joined our team in September as Senior Vice President of our video business. Previously, Bart was the Executive Vice President and General Manager for North America and before that Chief Technology Officer for Encompass, a long-time Harmonic customer and partner. He's also served in a number of capacities for Cisco, most recently as its Vice President to GM of Digital Media Networks.

Bart comes to us with a deep understanding of our industry, inclusive of managed services, extensive customer relationships, and a solid track record of translating strategic vision with intangible results. Bart has already made tremendous strides in charting a strong course toward executing our strategy in the two months he's been with us. I look forward to taking our video business to the next level through Bart's leadership. From a go to market perspective, Bart joins us at a time when our video business is reaching a key inflection point.

Some of you might recall the first orderable instantiation of VOS was Electra XVM. Electra XVM is also the latest iteration of our market-leading electro series of video encoders and contains our pure compression engine as well as differentiated graphics, branding and playoff capabilities. And here we've made tremendous, and now demonstrable video quality and compression gains, evidenced by a recent string of high profile shoot-out wins, expanding MPEG-4, MPEG-2, and HEVC compression against all of our key competitors, setting a new benchmark of capability and performance in the marketplace.

Additionally, at IBC in Amsterdam last month, we announced the second orderable instantiation of VOS functionality, which we call ProMedia X. This integrates our market-leading packaging and origin server capabilities, to over the top, into the VOS platform. As a result, VOS is now uniquely capable of enabling linear broadcast and over-the-top media processing with production, playoff capabilities lending in soft ware on virtual machines. And, also, for those of us our customers a little bit slow in their respective transition to data center operations pre installed on servers by us for those more traditional deployment opportunities. Now, adding, or underlining, this progress I'm quite pleased to say we were able to announce Sky Italia as our first customer adopting VOS for its new Internet TV service leveraging the scale and total cost of ownership advantages of VOS as well as our powerful services support capability.

While Sky Italia is our only publicly announced customer on VOS, I can tell you we're actively driving the pace of adoption across the industry. While we still have much work to do, we do see customer adoption momentum accelerating throughout the balance of this year and into next year.

Also at IBC earlier this month, in alignment with our strategic vision and increasingly important industry trend towards integrated systems and solution, we announced the Polaris suite of play out management tools for our Production and playoff business. Providing the first elements of the media orchestration that will be needed for dramatically simplified work flows in the future. Through Polaris, we need aim to enhance the completeness, differentiation and growth of our production and playoff suite of products.

As part of this initiative, we announced a minority investment in Vislink, a key technology ingredient and go to market partner in the sourceful control and orchestration area. Along these same lines, we've also recently made two other modest strategic investments in partner companies VJU and encoding.com who are both leveraging our VOS technologies to offer innovative cloud-based services. We're pleased to see our technology being leveraged by these innovative businesses as we advance our thought leadership into cloud based managed services, and as we advanced the scope of our addressable market. So, with that on video, let's now pivot to our Cable Edge business.

We really have driven strong growth for the first nine months of this year. Today, we remain in the very early innings of a multi-year investment cycle by cable operators worldwide, to unleash much more powerful and user-friendly content navigation guides for accessing their own content, driving accelerated consumption of traditional video on demand services, and by extension demand for narrow cast edge comps.

With the advent of cooperative agreements between cable companies and over-the-top service providers, paired with the delivery of new 4-K streaming services by the likes of Netflix, Amazon and others. Extreme quality and bit rates are increasing, creating further demand for scalable downstream edge bandwidth. These trends continue to accelerate the shift to CCAP enabled architecture. As many of you know, CCAP is a term used by the industry to describe a flexible, all IP converged video and cable network.

And here Harmonic remains the forefront of this multi-year investment cycle, representing an eventual addressable market of roughly $1.8 billion a year. More than six times the traditional market which we historically addressed. Now, as the shift to CCAP occurs, we're also seeing growing momentum for distributed CCAP-based solutions, as cable operators extend their fiber access networks. Further enhancing the theme of enabling flexible, cost effective network capacity.

In light of this momentum, we continue to find ourselves well positioned in the industry, particularly with our recently announced NSGXO. Specifically architected to leverage the virtues of deep fiber networks by simplifying operations and reducing cost for cable operators. So, all of that is background. Let's talk more specifically about our progress executing in our Cable Edge plan and our outlook for continued growth in this area.

Over the past two years, we have strategically executed a well defined road map to penetrate the centralized and distributed market opportunities inherent within the CCAP frame work. Today we are uniquely addressing these architectures with substantive new platforms developed in close collaboration with our customers. From a centralized perspective, we've successfully been seeding the market with our powerful new platform in the NSG Probe, which we started shipping late last year.

Here, our momentum in the market is strong. Our product is unique, and the demand trends associated with both VOD and over the top streaming service continue to fuel sustainable investments in our (inaudible). Specifically, I'm very pleased to report our NSG per revenue was again strong in the quarter. It continues to contribute meaningfully to the over 50% year-over-year growth in the Cable Edge business.

Our platforms unique marriage of density and flexibility, clearly delivering value to cable operators, as they balance the cost of adding network capacity with unabated increases in the consumption of bandwidth injected services. Of equal technical operational importance, this is industry-leading capability of integrating downstream VOD and DOC SIS narrow cast services, in a single unified CCAP platform.

So, again, I'm very pleased with the early footprint we have established in this market, remain quite optimistic about our centralized CCAP opportunity in this regard. Equally encouraging in the third quarter, is the fact that we sold our first software licenses on this platform, to activate previously deployed hardware.

It's the razor blade analogy we have discussed with you previously. Consequently, we saw our Cable Edge gross margins improve in the quarter. Turning now to 2ACAP, for those of you who didn't attend the SAT show in Denver last month, I'm also very pleased to inform you we successfully demonstrated DOC SIS upstream capability within our NSG Pro platform. And we remain on track to deliver this functionality to customer labs this year. On the other hand, as I noted earlier, our new NSG XO is a distributed CCAP platform equipped from initial deployment with full two-way DOC SIS capability.

This (inaudible) approach to CCAP extends our ability to penetrate the CCAP market. In doing so, the product provides the means for cable operators to cost effectively add network capacity, or further reducing operational complexities of more traditional DOC SIS deployment scenarios, Today we're actively engaged in trial activity with tier one operators, and we're seeing mounting customer interest and limited involvement from competing technology companies, resulting in a real opportunity to drive incremental share gain in the overall CCAP space.

In recent months, we've increased focus in the still small, but fast-growing segment of the CCAP market and now anticipate incremental revenue to ensue over the coming months. So in summary here, as I look across our video and Cable Edge businesses, I think it's clear that we're really raising the bar in innovation. We're crisply focused on executing a road map strategically defined to extend Harmonic's technology leadership even further in advance of the powerful market transitions we've discussed in both our video and cable edge businesses.

I freely acknowledge there's still plenty of work ahead of us but I think we're encouraged by early new innovation successes and we continue to see meaningful progress being made every day. On that note, and moving to slide six, I'd like to briefly review some of the tangible validations of our latest innovations that we saw exiting the IBC show in Amsterdam, and the SET cable show in Denver, both held in September.

I'm not going to go through all of this but importantly, VOS and it's associate Electra XVM were recognized at both IBC and SET as best of show, CSI, and broadcast product of the year awards. VNSCX also received a CSI award and a multi-channel news innovator award. So while these products are yet to hill the full ramp, the industry recognition they received serves as a strong leading indicator of our innovation, and competitive positioning. And really a positioning for future success. So, on that note, let's turn to slide seven. I'll conclude my comments by stepping back and highlighting for you my view of the fundamental value of our business.

In my view, Harmonic is better positioned strategically than any other time in the Company's history. We stand tall with commanding share leads in nearly every market we serve. Within video, new and existing customers are increasingly eager to embrace our virtualized video processing platform which uniquely encompasses media network functions from production all the way through distribution and thereby enables network elasticity, new service philosophy for our customers, we're also representing the industry's lowest total cost of ownership proposition. From the cable side, we're also uniquely armed with fresh, innovative, centralized and distributed CCAP solutions and the ultimate conversion to full IP based service delivery.

In total, following several years of investment and close collaboration with both our media and service provider customers, we purposefully find ourselves on solid technology and strategic ground. And we believe we're merely scratching the surface of monetizing the full potential of these investments. And as we continue to unleash our unparalleled intellectual property and strategic focus to further collapse video processing functions, and also further develop features and functionality on our CCAP platforms our overall value proposition and competitive position, becomes even stronger in the marketplace.

Perhaps of the most significant importance, bring all of this to bear under the umbrella of an exceptionally well-respected brand, and deep customer relationships with, uniquely, both the worlds leading media and service provider company. And look, as we reflect on 2014, particularly our financial performance, it's certainly not lost on us, that our video business is down over $40 million so far. That said, roughly half of this decline is attributable to specific market geographies experiencing extraordinary economic geo-political unrest. As these conditions improve, and we do believe they will, over time, we're well positioned to capitalize on the underlying demand trends and more specific geographies.

On the other hand, technology driven transitions account for the balance of the video business declines. And here it is my view that the shifts in technology historically amplify (inaudible) growth and economic gain. Let's just look back 18 months ago, when we first announced our CCAP enabled product to the market. As a result, our cable customers paused purchases of (inaudible), and many of you will remember that our Cable Edge business was depressed for most of 2013.

Well, today our Cable Edge business is back on track, and we're in the very early innings of a multi-year investment cycle in the IP data network conversions. Despite the turbulence in our video business, as we lead our customers through planning cycles and operational adaptations to incorporate our VOS, Ultra HD and HEVC technologies, we have a clear view to ensuing success and strong demand trends ahead in the video business. Our strategic direction remains focused and intact and we're leading the marketplace with competitively advantaged, new and powerfully disruptive technologies that are paired with a now growing and real pipeline, compelling business opportunities.

So, therefore, looking ahead, we maintain a view for both our video and Cable Edge businesses to contribute meaningfully to our future success. And we see a clear path to deliver strong earnings growth in 2015 and beyond. With that, Carolyn, let me now turn the call over to you to talk about the results of the quarter and our financial outlook.

Thank you, Patrick. Let's move to slide eight. Our net revenues for the third quarter was $108.1 million, in line with our expectation. Net revenue was down from $122.9 million for the third quarter of 2013, and from $109.6 million for the second quarter of this year.

Our video business was up $3.5 million sequentially, led by a rebound in our production and play out products. This was offset by an expected decrease in our Cable Edge business of $5.4 million, which had a record quarter in the second quarter of this year. Services were up modestly. Our bookings for the third quarter were $97.8 million, down 16% from a year ago, and down 14% sequentially.

Virtually the entire sequential decrease is due to a reduction in service and support bookings. Again, I'd like to remind you that the third quarter is always our seasonally lowest quarter for support renewal contracts and it was again this quarter. Our book-to-bill ratio was .9 in Q3 as it has been and for each of the last two years.

Our year-to-date book-to-bill remains above one at 1.04. Backlog and deferred revenue was $116.6 million at the end of Q3, compared to $123.6 million at the end of Q3 at 2013. Gross margin was 53.6% this quarter, an increase from 50.1% in the previous quarter and from 50.8% in the third quarter of 2013.

The increase in gross margin on the sequential basis is principally due to a greater portion of our revenues coming from our video business in general, and more specifically an increase in revenue from our production and play out products. Additionally, we had continued improvement in the gross margin of our Cable Edge business, led primarily by the NSG Pro, which has now reached its targeted standard cost.

As well as our first firm ware licenses into the NSG Pro footprint to enable new capacity in previously deployed hardware. Operating expenses for this quarter were $51.2 million, down from $53.7 million in the third quarter of 2013, and $52.5 million in the second quarter of this year. We continue to prudently manage expenses in the quarter, and came in slightly below the low end of our guidance range.

From a year-over-year perspective, the decline reflects a nearly $2 million reduction in R&D expenses, as we have moved through two major platform transitions over the last year. Our headcounts was 1,040 in Q3, matching the prior quarter and down from 1063 in the third quarter of last year. On a non-GAAP basis, net income for the quarter was $5.1 million or $0.06 per diluted share, compared to $1.8 million or $0.02 per through the share in the prior quarter and $7.1 million or $0.07 per diluted share for the third quarter of 2013.

Now moving to slide nine, let's take a deeper look into our revenue. There were really three major trends that are impacting revenue for us this year. One positively and two negatively. First, as Patrick mentioned in cable, the worldwide demand for narrow cap com continues to gain momentum, driven by strong increases in VOD usage and increasingly higher bit rates applied to OTT video services resulting from the cooperative agreement between carriers and over-the-top service providers.

This, paired with our new NSG Pro, has driven 52% year-to-date to growth in our Cable Edge business. The strength in our edge business drives our service provider revenue, which is up 4% year-to-date.

The second trend is a decline in our newer revenues of 21% for the first nine months of this year, compared to the same period a year ago. As emerging markets have driven substantial growth for us over the last few years. And while Latin America and APEC have performed in line with our expectations this year, Africa, the Middle East, and broad Eastern Europe have been challenged.

Each of these regions has experienced macro economic and geo-political issues and their revenue has fallen significantly over the course of this year. Having said that we're at a point now where we believe we're skipping along the bottom in each of these regions.

The EMEA revenue declined significantly contributes to the 20% year-to-date decline in our video business revenue and it's split almost evenly between video processing and production and play out on a percentage basis. Also affected by Europe, is revenue from our broadcast to media customers, which has declined 18% from the record highs set in the same nine months a year ago.

As a result, through the first nine months of this year, the broadcast and media vertical accounts for 34% of revenue, down from 40% through the first nine months of 2013. The last factor impacting our revenue is a spending pause ahead of the industry's move to Ultra HD and HEVC compression. And this is undoubtedly compounded by our customers' transition to next-generation video processing.

We're responding with the launch of our software-based VOS platform in April of this year. Here, we've seen both new and existing media and service provider customers delay projects to rethink their video processing architecture on a global scale. Further aggravating the year-to-date decline in our broadcast to media revenue, which, while largely offsetting the success we've exhibited with our Cable Edge product and our service provider vertical.

Now, turning to slide ten, you can see we continue to drive a strong balance sheet. We ended the quarter with a cash balance of $97.2 million, down $37.2 million from the previous quarter, reflecting $31.7 million used for share repurchases, which I'll discuss in more detail momentarily. We generated just under $1 million of cash from operations in the quarter, as we had the unusual timing of a number of payments.

Our receivable balance was $75.6 million and our DSOs were very low, 64 days, down from last quarter's 67 days. Inventory was $32.5 million, up by $2.3 million from the prior quarter. As a result, our inventory turns were 6.2 times in Q3, compared to 7.2 times in the second quarter.

Now, moving to slide 11, I'd like to update you on our share repurchase activities. In the quarter, we repurchased 4.9 million shares. This brings our total shares repurchased from the second quarter of 2012, when the program began, to 36.3 million shares, for a total of $225 million. At the end of Q3, we had $75 million available from our board-authorized program for continuing repurchases.

While we expect to continue our repurchase trend, we do anticipate our purchases will moderate in the fourth quarter. Significantly, we've returned approximately 150% of cash from operations to shareholders in the form of stock repurchases, since the second quarter of 2012, bringing our shares outstanding at the end of the third quarter to $88.4 million.

Now, turning to slide 12, we believe the trends impacting our revenue this year will likely continue into Q4. We continue to see both customer verticals pausing investment as they carefully evaluate transitioning to the next generation of video processing network, and the prevailing macro economic and geo-political climate within the EMEA region remain a concern. We've also grown incrementally more cautious of customer consolidation activities. So, as we look into the fourth quarter of 2014, we expect our revenue to be in a range of $96 million to $106 million.

Gross margin in the fourth quarter is expected to be in the range of 52.5% to 53.5%, based on the similar product mix to Q3. And for the fourth quarter of this year, we have targeted our operating expenses to be within the range of $50 million to $51 million, as we continue to manage our expense levels.

Finally, we anticipate our non-GAAP tax rate for the fourth quarter to be 21%, subject to our domestic versus international splits. While this represents a disappointing disruption to our 2014 financial growth agenda, we want to provide a framework for you to think about 2015.

It's too early, especially with the current turbulent market conditions to give specific guidance beyond our usual one quarter. However, I will say we see 2015 as an up year for revenue. In fact, we anticipate each of our product categories to show revenue growth for 2015.

From a gross margin perspective, the NSG Pro margin has improved since we began shipping the product in late fourth quarter of 2014. Given a full year at the current gross margin and our expectation for our software-based VOS platform to contribute to our revenue mix next year, we continue to anticipate gross margin improvements in 2015.

We have and will continue to balance the needs of our business with market opportunity and will continue this activity into 2015. Therefore, we anticipate operating expenses to be $10 million to $15 million lower for the full year 2015, than they will be for 2014.

That said, while these operating adjustments will drive improvements to the Company's overall operating performance, they are largely geared to accelerate and expand our leadership in next-generation video and Cable Edge networking and we look forward to bearing the fruits of these changes in the quarters ahead.

Finally, we anticipate our non-tax rate for next year to remain at 21%. We believe that this framework will enable to us provide meaningful year-over-year earnings growth on even modest revenue growth for 2015. With that, I'll turn the call back over to Patrick for his closing remarks before we open to Q&A.

Thank you, Carolyn. Just summarizing, as you just said, it's true the technology transitions in macro disruptions impacting our top-line performance. And near-term outlook for the fourth quarter are disappointing. While we can't control the macro economic environment around us, we can control our competitive position and cost structure and that's exactly what we're doing.

And I can tell you our internal execution and focused determination will ratchet up even higher in the months ahead as we exploit our competitive advantages to drive top and bottom line growth. What remains undoubtedly clear is that Harmonic stands on solid strategic ground. We're equipped with innovative and competitively differentiated new technologies, positioned in areas where customers plan to invest, and are actively engaged with us.

And internally we're driving an operational framework that balances market opportunity with investments in support of the earnings growth we expect in 2015. We very much appreciate your support, and we're looking forward to continuing to deliver and to continue to talk to you. And on that note, let's open it up to your questions.

Thank you. (Operator Instructions). Our first question comes from James Kisner. Please go ahead.

All right. Thank you. So I guess the first question I had was just on the European weakness. Just kind of wondering if this could be partially related or amplified by the historical exposures. If I recall, you had good business in Russia and Germany, two areas sort of highlighted as weak, but just the macro indicators and just the news. Is that fair? Is that the areas you're seeing more weakness?

Certainly, yes, is the short answer, James. Certainly Russia has been the most acute for us. We call that Russia, Africa and the Middle East. And a little bit more broadly Eastern Europe. And Russia has been the areas most acute year-over-year decline.

Okay. Great. And I was hoping I could probe a little bit. You said you're more cautious on customer consolidation activities. Just wondering if that's a function of just your own judgment or are customers saying to you that you should perhaps be ready for some disruption. Just any kind of texture around that, and perhaps how long that particular component might persist?

We've got a big customer base worldwide. And we're exposed to several in-process mergers or acquisitions between different service provider customers, James. I wouldn't call the impact significant in the third quarter.

We were exposed to certain delays on certain projects. So more than anything else is what we observed. Prior to that we didn't observe anything. To be fair, we haven't seen any impact specifically in our Cable Edge business. But in the video area, we have seen a couple of things, situations play out that give us cause to be cautious as we head into the fourth quarter.

I guess I'm wondering as follow-up there. What do you think the prospects are post the consolidation activities for there to either be a snap back or a heightened level of investment? Is it fair to say the acquisition targets perhaps are going to be receiving incremental investments by their better funded parents? Is this something that you view as possible? Thanks.

We view it as possible, probable and we see it as a real opportunity. I mean, let's face. A lot of these deals are around scale and consolidation very much related to content and who can negotiate, who can deliver the most compelling content packages and who can negotiate the best deal. A lot of this activity we see both in the US and in Europe revolves very much around video content and we're well positioned. And I'll note that we're fortunate in a number of the situations that play out that we're incumbent with players on both sides of the equation. And so we often in our history have sold to the consolidators as they up their ANTE and the competitiveness of the combined entity. So I would say that we're optimistic about the other side of the valley on this particular issue.

Okay. Thank you very much.

Our next question comes from Simon Leopold. Please go ahead.

Hi, guys. This is Victor Chu in for Simon Leopold. Last quarter you noted that the transition to virtualization was driving a slowdown in video. Can you just give us an update regarding that trend and is this still a factor driving weakness? I know, Patrick, you mentioned that the environment hasn't changed too much and that was an issue for you in Q2. Can you give us maybe an update on what the impact is there?

Yes. It's difficult to it quantify, Victor. But it certainly is impacting us and the overall situation hasn't changed. You talk to most Chief Financial Officers and Chief Technology Officers, our customers, they believe in the marriage of virtualization. I think how it plays out kind of on the ground is a little bit more complex. In most discussions, depending on the customer, take more or less time. We've got certain sophisticated customers, who are ready to roll and we're very pleased to announce that Sky Italia and we think we're going to be seeing more wins in the near future.

On the other hand, there is some other customers who are intrigued, they kind of get it. But they want to steady it. They want to figure it out. It's a process. I would point out, though, that through that process we are developing capability, intellectual property, around not only the core video technology, but the operationalization of that technology, which I think is pretty important, pretty powerful, pretty valuable in the context of a broader communications landscape that is moving towards virtualized infrastructures over the next several years.

I'm sorry.

Go ahead.

Is the virtualization, is that more prevalent within certain geographies?

To some extent. It's more of a developed market phenomenon, or advanced market. Definitely the US is number one and I'd say Western Europe is number two. But that's not to say that there isn't interest in other geographies. But proportionately it's strongest US and Western Europe.

Okay. And maybe just a general sense of how the transition impacts gross margin going forward?

Certainly a positive for gross margin. And we exposed in our Analyst Day, where we really unveiled the strategy for the investor community, that we saw a great opportunity to really capture more value and continue what's been a good track record of gross margin improvement over time. We don't expect the entire product line to flip 100% to virtual machines overnight. We expect it to be a migratory process and through that process we expect our gross margins to expand.

Okay. But that wasn't really a factor that drove upside in gross margin this quarter, right?

That's right. That's right.

All right. Great. Thank you.

All right. Thank you.

(Operator Instructions).

All right. It seems that there's no more questions. We know it's a busy day. We do very much appreciate everyone spending the time with us today. Oh, I guess I'm hearing that there is one more. We've got Brian?

Yes, wave question from Brian Coyne. Please go ahead.

Sorry. I thought I queued up earlier. Surprised not to hear myself in the queue. I apologize. Thanks for sneaking me in just the same. Just a couple of ones. Patrick, I'm hoping you can clarify and your response to James earlier with regard to some of the softness you're seeing from potential M&A activity. Did you say that you haven't really seen a change in the order trend on the Cable Edge side? And maybe, just preface a little bit more detail, if it, in fact, the delays or sort of the hold-ups seem to be coming more in the medium broadcast segment of your business? If I've got that right?

Yes. I do need to clarify. I was referring to the Cable Edge product area. In the Cable Edge product area, Brian, we've seen pretty healthy demand. And no visible one way or another impact to demand for our Cable Edge products. In our video product category, which we sell into all service procedures, cable operators, satellite, Telco operators, we're exposed to a number of different deals.

And I don't want to overstate it by any means. I don't even want to suggest a meaningful impact to Q3. But we saw a couple of instances across a couple of these pending mergers, where deals were put on ice in the video domain, in particular. And observing that, seeing that play out in Q3, has caused us to be incrementally more cautious as we head into Q4.

Got it. That helps. I appreciate it. Looking ahead a little bit farther, if you could take out your crystal ball let's say for the first half of 2015, I understand your view about revenue growth for the full year. But, say, assuming that perhaps some of the delays from consolidation resolve, if, in fact, those might end up being more of a binary event in the first part of next year, do you think your business might be able to be flat year-over-year in the first half of 2015?

Absolutely. I mean, you're right. We don't have a crystal ball. But, we're hope to see growth in the first half of the year, Brian. I mean, look, we've been battered around by the degradation of business in the certain geographies we talked. As Carolyn said in her remarks, we think we hit bottom there. We don't think there's any further deterioration possible there. And, frankly, we see much more upside or opportunity than downside elsewhere.

Cable Edge business is on a roll. Our service and support businesses continue to grow. And on the video side we're making strides every day technologically and around the discussion process, the readiness of around virtualization. Every single day brings more announcements about smart TVs that are capable of supporting UltraHD.

We're actively engaged in a number of HEVC trials and the like. I don't want to overstate it for you. I think it's an evolution recovery here. But I think it is a recovery that we'll show demonstrable progress sequentially over the next three quarters. So, yes, we can imagine and quite, in fact, we're hopeful to see growth in the first half of 2015.

Got it. That's great. A couple, if I could. Sort of along the same lines. On VOS. If you could make talk a bit more about your sales cycles there? It's obviously an important part of your view toward 2015 and I know it's early. But how does that compare to maybe more traditional hardware, software solution sales? And then, how is VOS over time? I mean, do you think it can move the business toward being more recurring in nature and less project or build-out dependent?

Okay. So let's take those two things, separately. I mean, that's just stating the obvious. It very much depends on the customer. Just forgetting our specific underlying technology, Brian. When we engaged on a video opportunity with a new customer, we see deals get closed in weeks and we see them get closed in nine months. And it's everything in between.

In that context, it's a little bit hard to suss out to what kind of additional delay is the move to virtualization introducing? Certainly we're not seeing any virtualization deals get closed in a matter of weeks. That being said, we see the increasingly sophisticated customers who are doing virtualization in other realms and they're ready. So I think we'll see some fast-moving customers and I think we'll see the number of customers ready to move more quickly, expand over the next couple of quarters.

That being said, it's undoubtedly also true, that a number of customers are really figuring it out. And I commented a couple of moments ago, I think that's creating an opportunity for us to bring additional value and we're really developing intellectual property there, the operationalization of this technology in addition to just the deployment of it. It caught the market by surprise when we came out and said we could do what we could do at the NAB show in April.

It's been a process since then. Last quarter we said, listen, for a number of reasons, not the least of which is that we expect a couple of choppy video demand quarters. We're very much in the midst of that. We don't see it lasting forever. And we're hopeful we're going to punch out the other side here in a quarter or two.

To the second part of your question, we've not communicated a broader model or plan for getting into recurring revenue. I would point out that part of our overarching strategy of moving to integrated, functionally collapsed software, virtual machine platforms, it does open the door to a number of new business models.

And, whether that's us delivering a service or whether it's with a strategic partner, it creates the opportunity to participate in the market, to expand the addressable market and to exchange, interact with customers with different commercial approaches. We have got to walk before we run here. And I put that in a little bit more of the run category. But make no mistake. We're positioning ourselves to grow the business and to change the business for the positive in some very fundamental ways by engineering this overarching technology transition.

So, we're focused on nailing the technology transition, getting that out in the field with the current business model today. But you'll see us going forward, I think getting more creative and responding to our customers in the way they want to do business.

Great. That's very helpful. And then, Carolyn, if I could, it's really sort of a question on cash and your share buyback, if I heard you right. I think you said you have $75 million remaining on the availability. I believe you've got just under $100 million in cash on the balance sheet and net, of course, of expected positive cash flow. Can you talk maybe briefly about your strategy around cash management in 2015?

Yes. I think to your point, we certainly expect that we'll continue to be strong generators of cash and so we think that will be a growth there. We have $75 million left. We anticipate that we'll consume that $75 million over the next many quarters. So we think both of those things will happen. This quarter, given the investments that we made and where our cash balance is, we expect it to be more moderate. But we certainly think as we go into a cash generation over the next several quarters, we'll continue to buy.

Great. That's all I had. Thanks, guys.

All right. Well, Thank you very much, Brian. And we'll end it there. Thank you very much, everyone, for joining us. Please know that we're very focused on executing the business, both in the fourth quarter and in 2015. We do think we're on very solid strategic ground. We're excited by the strategic progress. Balance that versus the very real challenges in the market place. But on balance, this business has got a lot of growth capability, put real leverage into the model from an earnings perspective, and we're committed and excited about getting after that. So thanks very much for joining us today. And we look forward to our next opportunity to update you on our progress. Good afternoon.

Thank you, ladies and gentlemen. This concludes today's conference. Thank you for participating. You may now disconnect.