Infinera Corp (INFN) 2013 Q4 法說會逐字稿

Welcome to the fourth quarter, and full year 2013 of Infinera, Corporation.

(Operator Instructions).

I would now like to turn the call over to Jenifer Kirtland of Infinera, Corporation, Investor Relations.

Jenifer, you may begin.

Thank you, Operator.

Today's call will include projections and estimates that constitute forward-looking statements within the meaning of the Private Securities and Litigation Reform Act of 1995.

These statements address the financial conditions, results of operations, business initiatives, views on our market and customers, our products and our competitors' products, and prospects of the Company in the first quarter of fiscal year 2014 and beyond, and are subject to risks and uncertainties that could cause actual results to differ materially from such forward-looking statements.

Please refer to the Company's current press releases and SEC filings including the Company's Annual Report on Form 10-K filed on March 5, 2013, for more information on these risks and uncertainties.

Today's press release includes results of the fourth quarter and fiscal year 2013 and associated financial tables, and Investor Information summary, will be available today in the investor's section of Infinera's website at infinera.com.

The Company under takes no obligation to update or revise any forward-looking statements to reflect events or circumstances that may arise after the date of this call.

This good afternoon's press release and today's conference call also include certain non-GAAP financial measures.

In our earnings release we announced operating results for the fourth quarter and fiscal year 2013 which exclude non-cash stock based compensation expenses and amortization of debt discount on our convertible senior notes.

These non-GAAP financial measures are provided to facilitate meaningful year-over-year comparisons.

Please see the exhibit of the earnings press release for a reconciliation of these non-GAAP financial measures to the most directly comparable GAAP financial measures, and an explanation of why these non-GAAP financial measures are useful in how they are used by management, which will be available today on the investor section of Infinera's website.

On this call we'll also give guidance for the first quarter of fiscal year 2014.

We have excluded non-cash stock-based compensation expenses from this guidance because we cannot readily estimate the impact of our future stock price on future stock-based compensation expenses.

And I will now turn the call over to Infinera's Chief Executive Officer, Tom Fallon.

Thank you.

Good afternoon, and thank you for joining us on our fourth quarter and full year 2013 conference call.

With me today or Chief Financial Officer, Ita Brennan, President Dave Welch.

Also joining us is Brad Feller, our recently appointed SVP of Finance, who will become our CFO effective March 1st.

We welcome Brad to the Infinera team.

I know he looks forward to meeting many of you in the months ahead.

I will touch briefly on Q4, and then I will review our strong performance for 2013.

I will then and the call over to Ita, who will provide a more detailed review of our forth quarter and full year financial results, and our outlook for the first quarter of 2014.

Our fourth quarter revenue was $139 million, at the high end of our guidance range, and a 9% increase over last year's fourth quarter.

Gross margin met our expectations at 41%, and we generated positive free cash flow in the quarter, and for the year.

I am also pleased to say we had another record quarter for 100G port shipments, and we add three new DTN-X customer commitments in the quarter, including one customer that is new to Infinera.

As we look back it is he easy to forget how much we accomplished in 2013.

Let me take you back to December 2012 when we hosted many of you at our analyst day.

The DTN-X platform had only recently started to ship and it remained to be seen whether Infinera would be successful in achieving the financial goals provided at that meeting.

I am pleased to report that for 2013 we successfully met or exceeded each of the targets set that day.

We said we would grow revenues at somewhere between the expected market growth rate for long haul DWDN of 10%, and two times that rate.

Analysts now believe that this market is estimated to have grown 12% at the high-end for 2013.

Our revenues grew 24% in the same period, at least double the estimated market growth.

On profitability, we had targeted expanded gross margins for the year, and made a commitment to disciplined expense control driving to improved profitability.

Gross margin expanded to 41% compared to our target of 38% to 40% while operating expenses increased 5% for the year, significantly less than our top-line growth.

The Analyst Day targets were expected to result in positive EBITDA and cash flow metrics for the second half of 2013.

Our results have exceeded those expectations generating $4 million of net income and $12 million of free cash flow for the full year.

There were also multiple significant operating accomplishments during the year.

We ended 2013 with a total of 42 customer commitments for the DTN-X in just six quarters since its market entry.

Of these, 15 represented new customers for Infinera demonstrating our market expansion and the displacement of competitors.

We saw a number of existing customers expand their capacity with the DTN-X and we recovered market share in accounts we previously lost business due to our lack of sufficiently scalable 40G solution.

We also continue to see new ATN and DTN deployments as customers leverage the full Infinera product portfolio to best meet their needs.

We achieved the number one position in 100G port shipments, excluding China, confirming that we are taking share in this high growth market.

According to the most recent long haul revenue market share report we have a solid command of the number two spot in North America and in Q3 we displaced Alcatel Lucent to become number three word wide.

Based on a rolling four quarters of revenue, (inaudible) declared us a worldwide top ten optical technology provider for the first time in the Company's history.

We expect that we will continue to climb this leader board.

2013 was a year of innovation for Infinera's Intelligent Transport Network solution.

We have successfully taken advantage of this network architecture to accelerate significant architectural changes in the way providers build networks.

We believe these technology innovations continue to demonstrate industry leading optical scale and performance, convergence without compromise for increased efficiency, and intelligent automation to that allows customers to use time as a weapon while simultaneously lowering operational costs.

In 2013 we began shipping [SD Feck?].

Further bolstering our optical performance and expanding our addressable market.

We have shipped 100G [SD Feck?] ports in volume to multiple customers.

We have deployed our [SD Feck?] super channels on links over 9,000 kilometers demonstrating that we perform on some of the longest cables around the globe, and we have demonstrated world word P&D performance.

Allowing us to deploy 100G on poor quality fiber in market where even 10G was a challenge.

We continue to lead the industry as the only company with super channels in production.

While our competitors continue to trial metro reach super channels composed of multiple cards, Infinera has deployed single card, long reach super channels in production across the globe.

We are approaching one petabyte per second of deployed production capacity, and we believe that this commanding lead rests squarely on the competitive advantage provided by our technology.

We ramp the deployment of instant bandwidth in 2013 and have a significant portion of our customers using this feature.

Only Infinera with our PIC based super channels is able to provide 500G of service ready bandwidth that can be activated in 100G slices with one click operation.

Instant bandwidth helps align our business with our customers allowing them to build success based business while delivering services faster, and using time as a weapon.

We unveiled our fast S&P technology, the industry's only hardware accelerated shared protection solution that enables network recovery from multiple fiber cuts.

Fast S&P is a key proof point of the Intelligent Transport Network and offers a new approach to network resiliency that can compete with more expensive approaches previously performed at the (inaudible) . We also completed a successful demonstration of our packet technology and presented this to multiple customers in a week long event in Japan, showcasing our ability to bring new switching capabilities into the converged DTN-X Platform.

We delivered working pick model prototypes to system engineering in Q4, that will used in future systems and through other applications.

While this as key milestone, a pick is only one of many steps to be accomplished in developing a differentiated metro solution.

Finally, we made progress in the development of features to enable SDN ready networks.

We completed a successful demonstration with Brocade in our mutual customer Yes Net, showing how SDN can leverage an intelligent transport network to support multi layer provisioning and router bypass.

While the SDN market develops, we are managing our investments carefully, but making significant progress in terms of defining and validating a solution with carrier customers.

We intend to discuss additional details of our SDN strategy later in 2014.

Turning now to a market update, a 100g has become the standard in long haul optical transport and we believe we are still in an early part of a long investment and technology upgrade cycle.

Looking forward, there is a broad range of expectations about the growth of the long haul DWDM market in 2014.

After considering inputs of several industry analysts, our view is the market will grow approximately 8% for long haul across 10G, 40G, and 100G, with 100G driving all of the growth.

As I stated on our third quarter conference call, we remain confident about the intermediate visibility of our business, and our ability to degree at least as fast as the market.

We are beginning to see this play out as you will hear when Ita provides our Q1 outlook.

OT adoption remains strong.

A survey by Infonetics showed that 86% of customers plan to deploy OTM and of those, 94% prefer a converge solution for the core.

Similarly, (inaudible) says in their latest forecast report that they expect all of the total DWDM market growth to be with optical packet transport systems and integrate a centralized cross-connect, which is an OTN switch, with transmission.

Infinera's is at the forefront of this architectural shift, and we not only see Tier 1 carriers deploying this solution, but also wholesalers, internet content providers, and cable operators.

The competitive landscape changed substantially in 2013.

The Chinese vendors were put in a box while they still had a significant presence.

They are no longer a significant disruptive factor in many developing markets, and they are experiencing headwinds in some emerging economies.

Large multi-nationals burdened with legacy technology and slow to innovate are losing money or exiting the business.

Market share gains are going to the best of innovators with 100G and converged OTN switching capabilities.

We believe this trend will continue and this over served market will continue to consolidate with innovators who develop the best solutions coming out on top.

Our competitive position delivering the industry's best technology reinforces my confidence that Infinera will grow at, or faster, than the market in 2014.

From a geographical perspective in 2013, we have seen increasingly strong traction in Asia-Pacific, an area where Infinera has had a relatively small presence prior to the DTN-X.

We announced wins in Australia, Hong Kong, Japan, New Zealand and South Korea.

Just this month we announced two additional APAC wins.

The first was for an extensive network with Telstra Global where we deployed our super channel technology across multiple submarine routes in Asia.

We also announced a multiple route system with AJC, associated consort ion with of MTT, Verizon, ATT, and we beat out the incumbent vendor.

Revenues in APAC more than doubled year-over-year.

Turning to EMEA.

We have continued to displace incumbent vendors in Western Europe, including those in the wholesale and Tier 1 markets.

We have announced DTN-X wins with TeluSenora International, international carrier, Inter-route, Deutsche Telecom, and Dante.

We have also entered new markets that announced (inaudible) , Russia's largest service provider, and had our first win in South Africa.

EMEA revenues increased 29% year over year.

In North America we experienced significant DTN-X transaction buildouts with much expanded buildouts with Century Link, MSO's, internet content providers and tier two's.

We also recently had a significant win with a major domestic wholesaler who has been a long-term customer of ours and we expect to see healthy growth with our North America wholesale customers.

North America revenues increased 16% year-over-year.

Shifting to verticals we continue to see strong progress in tier one penetration.

We now have 15 tier one domestic and international customers and our total 2013 Tier 1 revenues increased by 43% over 2012.

The DTN-X has clearly enabled us to penetrate this portion of the optical transport market.

As an update on Verizon, we do not currently expect an opportunity for their recent RFP.

We are resolute in our belief that our technology and solution is the best of class and we continue to engage with them for future opportunity.

This is the only commentary I will be making about this situation.

As Ita will discuss, this does not change our views on our growth prospects and financial outlook for 2014.

In 2014 we believe that we will continue to add Tier 1's to our customer list, and that the percentage of our revenues from Tier 1 customers will continue to grow year-over-year.

In addition to Tier 1 expansion, we are also seeing rapid bandwidth growth in business opportunities in the other markets we serve.

Over the past few years, we have seen internet content providers and MSO'sbuild and expand their own long haul optical backbones, and we expect this trend to continue.

Infinera is extremely well-positioned in these market with significant deployments at four of the top five MSO's,and three of the four top internet content providers.

We are also seeing wholesalers to continue to expand their network's internationally both terrestrial and sub C to compete on a global basis.

We believe Infinera is well positioned across all of these growing markets, providing a broad base of customers, from which to grow in 2014 and beyond.

In summary, we had a great 2013 that was marked by strong execution across-the-board.

We are serving a growing market with 100G deployments not anticipated to peak in the market until 2018 or beyond.

We believe we are very well-positioned to continue our growth while remaining focused on enhanced profitability.

Our focus in 2014 remains on winning footprint, gaining share, and taking care of customers.

We will pursue these efforts with a strong eye towards driving increased profitability and I am increasingly optimistic about our short, intermediate and long-term opportunity.

Before I turn the call over to Ita, I would like to personally thank the Infinera employees for their outstanding dedication and hard work that led to our achievements in 2013.

I would also like to thank four customers for their strong support.

Now I'll turn the call over to Ita for a more detailed financial review of the quarter, and the year, and our guidance for Q1.

Thanks, Tom and good afternoon.

This analysis of our Q4 results and our guidance for Q1 2014 is based on non-GAAP.

All references exclude non-cash stock-based compensation expenses and the amortization of non-cash debt discounts amounts related to our convertible notes.

Total GAAP revenues in Q4 were $139 million, at the upper end of our guidance of $130 million to $140 million.

The strong revenue performance is primarily related to the completion of a number of (inaudible) sub C deployments in the fourth quarter that were not fully anticipated in our guidance.

We recognized DTN-X from six additional customers this quarter, three of which were new invoice customers to Infinera.

In addition, we also added two new ATN customers taking our total invoice customary roster to 131.

Note that starting in 2014 we will no longer report DTN-X customer commitment but instead will revert back to reporting DTN-X invoice customers in line with our normal process.

We had one greater than 10% customer in the quarter, an International Tier 1 account, who is also a new customer.

Our top five customers also included a band of wholesales, a domestic Tier 1, a cable MSO customer, and an internet content provider.

Demonstrating good diversification across all of our markets.

International revenues totalled $64 million, or 46% of total revenues.

We had a particularly strong quarter in EMEA and APAC with the completion of key projects in these regions.

EMEA accounted for $48 million, or 34%, with APAC and the other Americas representing 9% and 3% respectively.

While we expect our geographical revenue to fluctuate based on the timing of deployments, overall we are making good progress in expanding our International footprint.

Services revenue for the quarter were $24 million, up from $21 million in Q3.

With gross margins at 59%, down from 69% in the prior quarter.

We experienced an increased level of International deployment activity in Q4, however we expect deployment revenues in Q1 to return to more normalized levels.

Overall gross margin in Q4 was 41%, in line with our guidance of approximately 40%.

Our product mix in the quarter reflected a significant amount of equipment as we continue to win and deploy new network footprints.

Operating expenses for the quarter came in at $56 million, slightly above our guidance which calls for operating expenses of approximately $55 million.

This increase is largely related to increased variable compensation associated with the higher revenue performance.

Overall headcount for the quarter capacity 1,318 versus 1,296 in Q3.

The increase primarily reflects software related additions in R&D, and some success based sales headcount adds.

Our operating income for the quarter was $1.1 million.

Non-GAAP other expense for the quarter was $0.9 million which included $0.8 million of interest expense associated with our convertible debt.

Net loss for the quarter was $0.2 million, or breakeven on a diluted earnings-per-share basis, and at the upper end of our guidance which calls for an EPS range of breakeven to a $0.4 loss.

Now turning to the balance sheet.

Cash and cash equivalent restricted cash and investments ended the quarter at $365 million.

Excluding the proceeds of our debt offering of $145 million this equates to a net cash balance of $220 million, up from $201 million in Q3.

We generated $25.8 million of cash from operations in the December quarter, and $35.2 million for the year.

DSOs came in at 66 days, up from 56 in Q3.

This increase primarily related to the timing of completion of a number of key projects in Q4.

Inventory returns were 2.6 times, up from 2.3 in Q3.

Accounts Payable days were 36 days, up from 29 days in Q3.

Capital expenditures were $7.5 million for the quarter and $21 million for the year.

This is consistent with our previous guidance for capital expenditures of approximately $21 million for the year, and our target for CapEx at approximately 5% of revenue.

Looking at overall cash performance for the year we generated $12 million of free cash flow, exclusive of all proceeds from financing activities.

This is in line with our commitment to exit the year having increased cash resources while continuing to invest in new technologies and capabilities.

Now turning to our outlook for the first quarter and beyond.

We are pleased with our financial performance in 2013 and the progress that it represented.

As we look to 2014, we remain focused on leveraging DTN-X and 100G momentum to further increase our market share, and as Tom mentioned in his remarks, to grow revenues at or faster than the market.

Q1 is typically a down quarter for the industry with customers taking time to finalize their budgets and spending plans.

However, this year we are seeing increased urgency from customers to complete deployments in Q1 and order gear to enable Q2 network turn out.

With this in mind, we expect our revenues for the first quarter to range from $137 million to $143 million.

As we look to gross margin in 2014, we expect margin for the year to remain in the low forties.

In a period when we expect to deploy significant amounts of new footprint while winning new strategic accounts and expanding our share in existing accounts.

We believe further gross margin expansion towards our mid-tier target of 45% would occur as customers begin to consistently add higher margin sales to previously deployed DTN-X network.

We have now completed our operating plan for 2014 and reaffirm our commitment to increase operating expenses at a lower rate than revenue growth to support ongoing profitability and help drive towards our mid-term business models.

In summary, our guidance for Q1 which is based on non-GAAP results and excludes any non-cash stock-based compensation expenses, and the amortization of non-cash debt discounts amounts, is as follows.

Revenues of approximately $137 million to $143 million, gross margin of approximately 40%, operating expenses of approximately $56 million, operating income of approximately $1 million income to $1 million loss, net income of breakeven to approximately $2 million loss.

Based on the estimate average weight of diluted shares outstanding of $125 million, this would lean lead to an EPS range of breakeven to $0.02 loss.

Please note that the basic share count is expected to be $120 million for the quarter.

Now, Operator, would you please open the call up for questions?

Thank you.

Of course.

(Operator Instructions).

Our first question is going to come from George Notter, with Jeffries & Company.

Your line is now open.

Hi, guys.

Thanks, very much.

I guess I want to know if anything has really changed in terms of your visibility looking forward.

You made a number of comments in the monologue about optimism around the short, intermediate, and long term.

If you go back to last quarter you made comments about confidence in the intermediate term.

I am trying to figure out if anything has really changed, in terms of your visibility and the outlook at all, and if you can walk us through that, that would be great, thanks.

Sure.

The big change is, George, last time I was feeling comfortable with the intermediate term and now I remain comfortable with the short, intermediate and long-term.

Quite frankly, the intermediate term we said was kind of the two to four-quarter outlook we've eaten into that window.

What we had anticipated is actually coming to fruition.

The conversations that we had with our customers late in the year have turned into build plans and PO's, and we feel two things.

I think comfortable certainly with Q1.

As Ita said, our industry is typically down about 18% quarter on quarter Q1 over Q4 and we are actually guiding to and up quarter in Q1 and that's pretty unusual for us and the industry.

And I don't think it's a one quarter play.

I see fundamental demand from a number of our customers that I feel very comfortable about the first half of the year and I also feel about the longer-term I still believe as I stated in the call, this as multi-year upgrade in technology cycle.

I think the reports I have recently read said it continues to grow at least through 2018 and I suspect that's a little conservative.

We also have a very robust pipeline of new products that I feel good about so I'm overall pretty comfortable and confident with where we sit both from and industry perspective and our position with within that industry.

Got it.

And then the other one I wanted to ask was just on your development on PIC chips.

You said something in the monologue that I think I missed.

Can you just repeat what you said perhaps it development of a one terabit chip, or a metro chip?

I can't remember.

Yes.

You remember at the beginning of last year we stated one of our deliverables would be a PIC that was designated for specific use within a metro perform.

Not just the metro platform but would be used in our metro platform and would be delivered full working prototypes, or pilot units would be delivered to system engineering by Q4, and it was a reflection that we did, indeed, do that.

We also reflected, and I think this is important, it is one major milestone, but it's only a major milestone in a series of major milestones, on our way for us to deliver a differentiated high capacity metro solution.

So don't over-read and estimate when we will have a metro product out there.

We will make product announcements at the appropriate time, but we continue to make progress on a lot of technology fronts, and that's an important one for us.

Got it.

And then, can you remind us where you are in terms of one terabit capability on the PIC side?

We have demonstrated it.

We have not made any further announcements in regard to that.

I think that certainly the PIC has the capabilities of going one terabit, 2 terabit, probably more than that.

We believe that it is uniquely capable of doing that in an economic fashion.

It will bring that to market when we think that is appropriate for the market at the time.

Coming to market we still get some people saying 500G on a line card is too much, which is funny.

We will bring that to market when we think it's the right time to bring that to market and it's the appropriate priority for our R&D dollars.

Great.

Thank you, very much.

Thanks, George.

Our next question will come from Simona Jankowski, with Goldman Sachs.

Your line is now open.

Hello, Simona.

Simona, your line is open.

Can you check your mute button on your end, Simona?

Maybe we can try to come back to Simona and take somebody else.

Of course.

Our next question will come from Daniel Martins, with FBR.

Your line is now open.

Hi, guys.

This is actually Scott Thompson, I dialed in remotely.

I wanted to ask you a question about the metro opportunity.

I'm starting to hear a little bit of chatter around the industry edges about a lot of traffic staying in the metro and how that may impact the longer hall 100G.

Can you help set our expectations around what to expect around metro?

Not only in the first half but more in the second half, and how it might impact the long haul?

Thanks.

Yes.

I will try and answer that.

This is Dave Welch.

A couple of areas and what the market directions are and how we plan to address that.

There's a couple of questions in there.

First question is, when does the metro market is it ready for 100G deployment in volume.

We think that is something that's probably closer into the late 2015, 2016 type of time frame when 100G becomes a dominant player in the metro space.

There's always been, historically, a variation of cashing, if you will, or content, that stays in the metro or it gets moved around the long haul.

We don't see any real change in strategies there.

The only difference between now and older networks is you do have an overlay of large nationwide networks of data centers to deal with and integrate.

The volume on the long haul market from all of our customers continues to grow consistent with what they have told us in years past where we have seen the slowdown in the volume of data in the long haul.

For Infinera's play in the metro, we do supply our current product for high capacity metros who are deployed in high capacity metros today.

What we will continue to do is build out our capabilities in our future set in order to impact that and we should be in a good position to impact that as 100G becomes a strong player within the metro space.

Okay.

So you are saying 2014 plus then?

Hundred gig will be a significant player in the metro space in the late 2015, beginning of 2016 type of time frame.

Fantastic.

Thank you very much.

If I have other questions but I will get back in the queue and come back.

Thanks, guys.

Thanks, Scott.

Our next he Mike Genovese, MKM Partners.

Your line is now open.

Thanks very much.

Your 1Q guidance is up 12% year-over-year at the mid-point.

Does that seem like a good target to you, or is there a reason to think as we move through the year that would accelerate or decelerate?

Yes.

Mike, we've guided Q1 and then put some guardrail's around what we think for the year.

What we have seen for Q1 this year is obviously a little different than what we have seen historically.

We've got pretty good visibility from customers into what they plan to do certainly in the first half of the year and people are certainly laying out plans around 100G and 100G deployments.

I think that's a vastly better place than where we sat this time last year in terms of just visibility to what was happening.

In terms of what happens through the rest the year we're at this point not laying out a quarterly view of that.

One thing, if I look at what I see in our space, any number of people that we compete with in some way, shape or form, missed their number for Q4 and have reflected that they're going to have a tougher Q1.

I'm personally pretty optimistic about the robust demand that we see both for Q4 that was a good quarter, very good quarter, and for Q1, which I think having and up quarter off of Q4 is outstanding.

Yes, Tom.

I want to congratulate you on a good year and a good 1Q outlook.

On the gross margin, you guys gave us some full year information saying remaining in the low forties.

So you came in at about 41 this year.

Do you think that we can be up year-over-year and then beyond that question, how long can this process of filling channel card take?

Should we think about gross margins being significantly better in 2015 or could it be 2016 before we see something like that?

Yes.

I think we've been pretty consistent in saying, you know, that for 2014 the most important metrics are still around growing share, taking footprint, right?

That's why we're kind of sticking to our view that margins for 2014 will be in the low forties as we move through that, right?

We are starting to see fill into some of the earlier DTN-X networks that we deployed, and we are seeing customers coming back and adding capacity into those networks.

So, I would expect that you will see that kind of expansion of growth margin as you move through into 2015 and you start to balance out that mix.

I mean you think back to Q3 and the margin expansions that we saw there with some product mix shift.

So clearly, that does drive the gross margin.

It's more a matter of when are you going to be shifting more from footprint wins to adding capacity into those networks.

And I would just reiterate, the most important thing for us to do right now is gain footprint, win customers, and grow our market share.

Every platform, every network that we want to franchise on we'll have the opportunity to fill that network for a decade.

It's a great opportunity for us to be able to take advantage of this growing market,our leadership in the market, and to be able to do that with very, very low margin common equipment and still maintain in the forties, I'm pretty delighted with that.

And quite frankly, if margin goes up a lot more than that it's probably because we're not winning enough footprint.

Okay.

Final clarification quickly, do you classify Ross Telecom as a Tier 1 carrier?

Yes, we do.

We are deployed in their regulated portion of their business in Moscow so we kind of view it is it a regulated base, a PTT, and that qualifies within that, yes.

Great thanks a lot.

Our next question will come from Alex Henderson, with Needham and Company.

Your line is now open.

Thank you very much.

Can you hear me?

Yes.

Great.

I wanted to follow up on Mike's good question there,on the gross margins.

Just to pin down the mechanics here.

Just to be clear, the continuation of the low forties gross margin is not a function of a change in pricing conditions or increased competition or alteration of pricing dynamics, but rather it's strictly a function of the mix of customers installations.

Is that correct?

Yes.

Mostly not of customers but of mix of product.

We sell, kind of, three products.

We sell an optical amplification layer, that carries very low margin.

We sell commons that includes sheet metal and some common equipment, that carries fairly low margin.

And we sell the fill the fill, which carries good margin.

So it really is a matter of product mix.

When you win a new customer, when you build a new network, you are putting in an optical infrastructure that will last for the lifetime of the fill of that fiber.

That's an expensive proposition, but you get the opportunity to reap the benefit of that for a very long time.

And we are in a position where 40 plus points of margin, we're creating cash, and growing market share.

I'm pretty happy with that position and I'm going to be willing to grow market share under those conditions for as fast and as long as we can.

And I think if you look at the pricing data that's coming out of the industry analysts, it's pretty much what you would expect to see.

It's in that 15% plus or minus declines.

We anticipate those in our plan, and we need to drive cost reductions that offset those.

That's not newfor this business.

So that's all built that into that view of the world from a gross margin perspective.

Part of the reason why I asked the question in that format is that the events that were widely discussed over the last month or so relative to a Tier 1 in the US combined with announcement of a win at (inaudible) by a competitor that we would not have considered competitive with you guys, does raise the question of is there desperation pricing going on out there or any type of discontinuity or disenfranchisement that might alter the pricing environment?

So you haven't seen any of that?

I think in aggregate the pricing environment is pretty normalized.

We're probably seeing, as Ita mentioned, about 15% reduction.

Having said that, on any given day with any given customer it could be critically important to a supplier to not lose that opportunity.

There's a difference with must win and can't lose.

If it's a capital lose customer, you will see a behaviors that are at times I think are irrational.

We see some of that without question.

We try to act rationally in all of our transactions though I suspect we would be accused of acting irrationally, also.

But I think that is a fairly normalized environment.

I think the competitive landscape is getting better, not worse in general.

I think there are a clear differentiation between innovators, commoditizors, and those that are trying to, quite frankly, stay in business.

I feel very comfortable with our position.

We're winning market share and building a healthy profitable business over time.

One last question.

The comment about urgency from you are customers and urgency on installation is that indication of an acceleration in RFP activity or RFI activity, or is it just a symptom of a couple of your specific customers?

Is that I broader phenomena?

Yes.

I think it's across both of those.

We're definitely seeing RFI activities with accounts that we don't do business with yet, and also with our own customers laying out plans that are more comprehensive because obviously this is a significant upgrade cycle for them.

Very helpful.

Thank you very much.

Thank you.

Our next question will come from Rod Hall, with JPMorgan.

Your line is now open.

Just wanted to ask you a specific question on the speculation about the Tier 1 deal and I guess the first question is more broad, though, and that is we as analyst we always tend to street light in the night but there's a lot of other places we could be looking for the keys and because we've got there deal we've all been focused on so much, there's been a lot happening in optical around the world really, not just in the US.

I just wonder if you could comment on how material that is or isn't to the overall picture as you see it now.

I know that back when we started talking about it might have looked more material than it does now.

I just wondered how things have moved on and how it looks opposed against the rest of your business opportunities and then I have a follow-up to that.

I'm not going it talk about the specific deal.

We signed a non-disclosure agreement that says we don't discuss that deal for a long period of time.

I'm going talk about what I consider important macros in the world.

I have long said that where the industry continues to move from a capacity perspective, who's building the biggest networks, who's putting in the most capacity.

The puck has moved.

Today it is the internet content providers.

It's the wholesalers.

Cable people are putting in gigantic amounts of capacity, and we are extraordinarily well-positioned in those spaces that are growing extraordinarily quickly.

That's not to state that the Tier 1 market isn't relevant to us.

It is relevant to us.

As I stated on call we are up to having 15 Tier 1 customers.

Some of those are relatively large size, some of those are relatively young and have the opportunity to grow.

We're going to continue to go after every place in the market, but I don't believe that our success hinges on any one or two customers.

The market is growing rapidly.

The hundred gig market is growing extra orderly rapidly.

We are exceptionally well-positioned in that, and it's going to be, I think, in a very long healthy cycle, and we're going to grow where that customer base values our simplicity, our quality, our ease-of-use, our time as a weapon, all the attributes that we bring to that market.

And we're going to go after everybody we're going to win some, we're going to win a lot, and we're going to lose a few and I feel very comfortable about our outlook.

Can I just follow up on one comment you made there Tom.

You said you have the NDA, that makes sense.

Indefinitely, or if you lose a deal can you not talk about it still, or can you talk about it once it's over?

Just to understand.

For three years I believe is the term, and I'm going to honor that NDA.

Okay.

Okay.

Great.

Just one more question.

Can you talk about International distribution.

I know that was a topic of conversation last quarter.

Can you give us an update on where you're at with that?

I don't know if you said anything earlier about the regional split of new customers.

Can you give us any idea what that looks like?

In Q4 I think our overall International business was 46%.

Yes.

So we're continuing to grow our International presence and we're doing that both in the direct approach but we're also using a channel partner strategy, a sell with channel strategy.

We've had a couple of channel relationships and partners this last year that have made really, really great progress.

We announced a numbers of key wins that we won with these channel partners.

Channels represented about 8% of our revenue last year and 12% in Q4.

We're going to continue to use these partners to go into places of the world that on our own we either don't have yet the relationships, or there's too much a necessity of having a local presence.

And we're going to find the best partners in the world and we're going to go and use them to sell our product.

We've got, like I said, some very good relationships so we've started this initiative a couple of years ago and I think that it's really beginning to bear fruit, and we anticipate continuing this channel program, investing more in it, and growing it over time.

Great.

All right.

Thanks a lot.

Tom.

Our next question will come from Dmitry Netis, with William Blair and Company.

Your line is now open.

Alright.

Thanks a lot.

Hello, guys.

So I hate to dust off last quarters record but if you could just tell us how much of the slippage last quarter is causing the subside in Q1 outlook?

Well, I'm going to take issue with what you call slippage.

We very specifically try to guide for the quarter with the opportunity that we see.

We said very clearly on the call last time that we saw probably no end of year budget flush.

I think we were correct in comparison to what a lot of people in the industry saw, so I would not consider it slippage.

I consider it Q4 was Q4.

Q1 in the first half of this year our Q1 and the first half of this year.

Okay.

I thought that you had some billing acceptance issues on a couple of purchase orders which didn't come in Q4 which you said you would expect to see in Q1.

No.

Our commentary, if we kind of go back to that, was more given the spending levels that we have seen through the year we didn't think there was necessarily going to be budget left on the table that would cause a budget flush and as a follow-on to that would have been we thought people were very interested in getting bills in place, right out of the shoot at the beginning of 2014.

That's a bit of an academic argument to try to parse it apart the way you are.

I think really what we're seeing is people have upped their budgets.

They have upped their budgets fairly quickly for a Q1 and they are starting to spend money.

What Ita did make a comment on and maybe this is what you're referencing, the mid-point of our guidance for last quarter was 135.

We came in at 139 and she said that the overage was a little bit because some deals that we didn't know would close in Q4 actually did close in Q4.

Customers gave us acceptance of those networks because they wanted to turn them live, which I think is great news.

Very good.

I appreciate that color.

I think that's exactly what I was referring to.

Okay.

But it's good to see intrinsic growth from existing and new customers transpiring here in the first half the year.

I agree.

There's nothing like our customers' demanding more internet capacity.

And the second question on the Geo splits.

We've talked quite a bit on that already, but clearly you are seeing good traction in EMEA, APAC.

You have noted last quarter I believe as well, that you see a lot more opportunity in North America over the next 12 months, and so now excluding this Tier 1 what's left in North America?

Are there pockets of opportunities you think you will win?

Could you give us an update on North America.

Especially given that December quarter was a little weak in terms of your sales in that region.

Sure.

Well, I won't say it was weak in Q4 but I will talk about the opportunity moving forward.

Century Link as we said has had a very strong quarter with us.

I anticipate a lot of opportunity with Century Link moving forward.

I stated and I'm surprised nobody has asked questions on it, that we won a significant North America wholesale in Q1 that's been a long-term customer.

I think that's going to drive a significant portion of business moving forward.

I said we had four of the top cable providers that certainly leaves number one of them to go get and we're going to go after that.

I said we had three of the top four internet content providers.

That leaves one of those to go after.

So if you don't think we're hungry, you don't know us.

We're going to go after all of them.

We're going to grow our business.

We're going to win market share, and we're going to take advantage of our position in this market.

Okay.

And then on Level 3 that's been always your marquis customer over a number of years.

Is that a 2014 opportunity?

I think it was going to be decided in terms of 100G play there.

Replay what I just told you, which is, we won a large North America wholesaler who's been a long-term customer of ours.

Okay.

Very well.

Thank you for that.

And then just maybe last thing on the submarine deals you guys were winning.

Are these competitive bids that you're taking share from someone else and who exactly are you taking share from in those submarine Asia-Pac deals?

Well, the submarine market is extraordinarily competitive now.

Not everybody can play because there is a technology limitation and you have to have cutting-edge technology but they are hyper competitive and each one of those we won.

It was one highly competed for and one in particular we said we displaced an incumbent.

So, assume every time we win a submarine deal it's because we won it both from a technology perspective, a value perspective which includes price, services and support perspective, the whole deal, and I think that we're going to have a lot of opportunity on submarine moving forward.

Okay.

Great.

Thank you very much.

You bet.

Our next question will come from Subu Subrahmanyan, from The Juda Group.

Your line is now open.

Thank you.

Tom, I want to so ask again the trajectory and first quarter being stronger than normal.

When you look at it, is there any particular trend line that geographically customer type wise and when you look at it how much of this is just timing of a couple of deals or is this something more fundamental happening the way you see it?

First off I want to clarify.

We did not pull business into Q4.

We had some very, very big and complicated submarine deals in Q4.

Submarine deals, you have to install it, you have to turn it over and you've got to run traffic on it until they accept it and the acceptance was always going to be borderline Q4, Q1.

To our great pleasure, the install went well, the acceptance went well and our customer wanted to turn their network on and start carrying live revenue generated traffic.

That's why we were at the very high end of our guide.

I wouldn't consider it pulling it in.

I would say that things lined up well and usually if you have ten things that can happen and not all of them do, most of them happened this time.

In Q1, I'm going to ask Ita to give more flavor on where it's coming from but we're seeing fairly strong demand across the board, but I would say it's a little distributed toward North America in Q1.

Yes, but, again, it's a combination of existing customers truing up for their deployment for 2014, and then there's also some new customers in there as well that are starting to ramp some volume with that we would seek in a ramp as we move into the year.

Understood.

And if I could follow up on the 100G.

In general, are you seeing a broadening in North America to international?

Do you expect international to be a bigger percentage of revenue in 2014 and is that part of what's impacting gross margin as you think about it?

International in Q4 it was 46%.

I think that's a very higher end of our, my guess.

I would believe that over time a healthy mix of international is probably 40% to 45% in that range and I think that I would be comfortable with that expectation and that means we have to continue to grow our international business, but we will grow North America faster.

And in terms of the gross margin a bigger driver is going to be products mix than it actually is between the different geographies.

Got it.

Thank you.

(Operator Instructions).

We will take another question from Daniel Martins, with FBR.

Your line is now open.

Hi, guys.

Scott circling back.

A couple of quick ideas here.

You talked about having three of the four top content service providers.

What do you expect out of those guys this year?

They seem to be growing CapEx investment, network investment, at a pretty brisk pace.

Are they sneaking up on some of the larger Tier 2, Tier 1 plays at this point as a group, or will it take another year or two before they get there?

Secondly, the seasonality and the maybe early start to optical deployments in 2014, do you think that's more of an industry thing or is it more a near specific thing?

Thank you.

Well, in regard to internet content providers I don't know how they're networking CapEx spend compares to Tier 1's and Tier 2's.

I can tell they're building big networks, they're building big long haul networks.

I see when I talk to them no slowdown in the growth of internet traffic that they are experiencing.

I continue to see them being very committed to making sure that they have the capacity necessary to grow their businesses so I think that how it compares to other Tiers of industry, I don't know.

All I know is it's a very healthy business it's a growing business and we're well-positioned.

In regard to seasonality.

We're a pure-play optical DWDM company.

I can't talk to how various companies CapEx are going in various areas.

As far as my view on CapEx, here's what I think about CapEx.

I think that one, a CapEx they spend with us is going to grow.

Two, the CapEx they on spend on legacy technologies is going to shrink.

How that balances out on overall CapEx I don't know, but there is no fundamental slowdown in the capacity that I see our customers wanting to put in place in the short and medium term.

Okay.

And then just a follow-up to that you mentioned in your comments earlier in the call about some stabilization around competition and things that might be stabilizing factors for margins.

Can you expand on that a little bit and when we might be able to see potential bit of relief in gross margins?

Anything there?

Well, as Ita pointed out, I mean the relief in gross margins mostly comes as we start getting more fill than we get new footprint.

Right.

I hope that balance doesn't happen for a while I like the balance we're at now where we winning lots and lots of footprint with reasonable amounts of fill so that we are creating the opportunity for an annuity that is margin rich.

I think that what I see in the market, clearly, (inaudible) . I applaud those guys' courage and to go try to build this into independent enterprise, I think that they've got a lot of work cut out for them.

I'm not a believer in private equity companies are going to go into this with a let's lose a lot of money up front getting a lot of footprint so we can make money later.

Maybe I'm naive but that's my view.

I think that Sienna, quite frankly, is doing well and I think that they have a good technology.

I continue to believe that it's going to be more of a two vendor world than the eight or nine vendor world it's been.

I think we're well-positioned, as is Sienna, to be the leaders in that market.

I think some of the large multinational's, you can only lose so much money in this business for so long before you have to take a step back and say what are we going to do differently.

I see that occurring and playing out over the next year.

So I feel very comfortable that the industry, while still over competitive, is in it's beginning phases of getting better.

Okay.

That's interesting.

Thanks, Tom.

And I'm showing we have no further questions.

Well, thank you for joining us this good afternoon, and for your questions.

I would like to thank Ita for her many contributions to the Company, and I wish her the best in her new adventure.

I'm also delighted to welcome Brad as we enter this new phase of our Company's journey.

We look forward to updating you on our progress in the future.

Have a great day.

With that, we will conclude today's conference.

Thank you for your participation.

You may disconnect at this time.