NETGEAR Inc (NTGR) 2009 Q4 法說會逐字稿

Greetings and welcome to the Netgear, Inc. fourth quarter 2009 results conference call. At this time, all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. (Operator Instructions). As a reminder, this conference is being recorded.

It is now my pleasure to introduce your host, Joseph Villalta of The Ruth Group. Thank you. Mr. Villalta, you may now begin.

Thank you, Operator. Good afternoon and welcome to Netgear's fourth quarter and full year 2009 financial results conference call.

Joining us from the Company are Mr. Patrick Lo, Chairman and Chief Executive Officer, and Ms. Christine Gorjanc, Chief Financial Officer. The format of the call will be a brief business review by Patrick, followed by Christine providing detail on the financials. We'll then have time for any questions.

If you have not yet received a copy of today's earnings release, please call The Ruth Group at 646-536-7003 or you could go to Netgear's corporate website at www.netgear.com.

Before we begin the formal remarks, the Company's attorneys advise us that today's conference call contains forward-looking statements within the meaning of the US Private Securities Litigation Reform Act of 1995. The words anticipate, expect, believe, will, may, should, estimate, project, outlook, forecast, or other similar words are used to identify such forward-looking statements. However, the absence of these words do not mean that the statements are not forward-looking.

The forward-looking statements represent Netgear, Inc.'s expectations or beliefs concerning future events based on information available at the same time such statements were made, and include statements, among others, regarding Netgear's expected revenue, earnings, growth and operating income; margin and tax rate on both a GAAP and non-GAAP basis; the effect of the global economic environment on the Company's business; our position in the market relative to our competition; the long-term future of Netgear's business; our ability to innovate anticipated new product offerings; current and future demand for the Company's existing and anticipated new products; willingness of consumers to purchase and use the Company's products; and ability to increase distribution and market share for the Company's products domestically and worldwide.

These statements are based on management's current expectations and are subject to certain risks and uncertainties, including without limitation, the following -- future demand for the Company's products may be lower than anticipated; consumers may choose not to adopt the Company's new product offerings or adopt competing products; product performance may be adversely affected by real-world operating conditions; the Company may be unsuccessful or experience delays in manufacturing and distributing its new and existing products; telecommunication service providers may choose to slow their deployment of the Company's products or utilize competing products; the Company may be unable to collect receivables as they become due; the Company may fail to manage costs, including the cost of developing new products, and manufacturing and distribution of its existing offerings, channel inventory information reported is estimated based on the average number of weeks of inventory on-hand on the last Saturday of the quarter, as reported by certain of Netgear's customers; changes in the level of Netgear's cash resources and the Company's planned usage of such resources; changes in the Company's stock price and developments in the business that could increase the Company's cash needs; and fluctuations in foreign exchange rates.

Further, certain forward-looking statements are based on assumptions as to future events that may not prove to be accurate. Therefore, actual outcomes and results may differ materially from what is expressed or forecasted in such forward-looking statements. Further information on potential risk factors are detailed in the Company's periodic filings with the Securities and Exchange Commission, including but not limited to, those risks and uncertainties listed in the section entitled Part 2, Item 1A, Risk Factors, pages 36 through 50 in the Company's quarterly report on Form 10-Q for the quarter ending September 27, 2009, filed with the Securities and Exchange Commission on November 6, 2009.

Netgear undertakes no obligation to release publicly any revisions to any forward-looking statements contained herein to reflect events or circumstances after the date hereof or to reflect the occurrence of unanticipated events. In addition, several non-GAAP financial measures will be mentioned on this call. Information relating to the corresponding GAAP measures and reconciliation of the non-GAAP and GAAP measures can be found in our press release, on the Investor Relations site at Netgear.com.

At this time, I would now like to turn the call over to Mr. Patrick Lo. Please go ahead, sir.

Thank you, Joseph, and thank you, everyone, for joining today's call. We are extremely pleased with our fourth quarter business performance. We exceeded expectations. We recorded net revenue of $218.8 million in the fourth quarter of 2009 -- a new record for net revenue during any quarter since Netgear's inception. Revenue upside was driven by better-than-expected market share gains in the US, year-over-year growth in the European market, and a higher-than-expected revenue contribution from new products.

During the fourth quarter, we increased our non-GAAP operating margin to 11.2%. Thus, we are pleased to be making significant progress in our business during the improving macroeconomic environment. During the fourth quarter, we had very strong shipments, increasing 41% on a unit basis over the prior quarter, which resulted in market share gains globally. We were pleased to be selected to fulfill a one-time $18 million order from a service provider customer.

During the quarter, we generated significant cash from our operations, increasing our cash, cash equivalents and short-term investments by about $13 million, resulting in a quarter-end balance of $247.1 million. Most importantly, we introduced a record 23 new products during the quarter and further strengthened our leadership in all markets.

Our North America net revenue was $104.3 million in Q4, while Europe, the Middle East and Africa, or the EMEA, revenue was $91.2 million. In our Asia-Pacific, or A-Pac region, net revenue was $23.3 million. Compared to Q4 of 2008, our North America net revenue increased approximately 52%; EMEA net revenue increased 19%; while A-Pac net revenue increased 47%.

From a product perspective, as mentioned earlier, we introduced 23 new products in the fourth quarter. Our investment in R&D has resulted in a number of notable product introductions during -- including the exclusive push to TV adapter with Intel, enabling PC viewing of any Internet multimedia content onto an HD TV wireless.

Other notable new products include a set of next generation, high definition audio/video grade powerline network adapters. The 24 terabyte right-now-ready network storage for growing businesses and another new line of DOCSIS 3.0 cable data WiFi gateway.

Our leadership in products for home and small/medium business continues to be recognized by the industry and our customers. In January, at the Consumer Electronics Show in Las Vegas, Netgear was the recipient of two innovation honorary awards for our home media server, the Netgear [store], and our 3G/4G modem router. We remain focused on product development and intend to introduce another 18 to 20 new products in Q1, further positioning us for revenue growth and market share gains worldwide.

In the fourth quarter, our net revenue from service providers accounted for approximately 28% of total net revenue, compared to 18% of total net revenue in the fourth quarter of 2008, and 25% in the third quarter of 2009. We continued to add the service channels throughout 2009, despite the continued challenging economic environment.

By the end of 2009, our products were sold in close to 28,000 retail outlets around the world and our value added reseller account increased to over 39,000. In the coming year, we expect to continue to gain share in all markets worldwide. We are confident that our exciting new product pipeline will allow us to do just that.

We believe that we will return to double-digit year-on-year revenue growth and we will remain focused on investing in innovation, ramping our sales and marketing efforts, operating efficiently, tightly managing our inventory levels, and focusing on generating cash.

Let me now turn the call over to Christine for details on our financials.

Thank you, Patrick. Let me now provide you with a summary of the financials for the fourth quarter and 2009 fiscal year.

As Patrick noted, net revenue for the fourth quarter ended December 31, 2009 was $218.8 million compared to $161.4 million for the fourth quarter ended December 31, 2008, and $171.1 million in the third quarter ended September 27, 2009.

We shipped a total of about 5.5 million units in the fourth quarter, including 4.6 million nodes of wireless product. Both are historic records for Netgear. Shipments of our wired and wireless routers and gateway combined in the fourth quarter were about 3.4 million units -- another record.

Moving to the product category basis, fourth quarter net revenue split between wireless and wired was about 64% and 36%, respectively. The fourth quarter net revenue split between home and small business products was about 68% and 32%, respectively. Products introduced in the last 15 months constituted about 30% of our fourth quarter shipments, while products introduced in the last 12 months constituted about 26% of our fourth quarter shipments.

Non-GAAP gross margins in the fourth quarter of 2009 was 31.1% compared to 31.2% in the year-ago comparable quarter and 33.5% in the third quarter of 2009.

Moving to non-GAAP operating expenses. Total non-GAAP operating expenses increased by 5% compared to the prior-year same quarter, reflecting our increased shipment levels. Total non-GAAP operating expenses came in at $43.5 million for the fourth quarter of 2009. This compares to non-GAAP operating expense of $41.4 million in the fourth quarter of 2008 and $39.1 million in the third quarter of 2009.

We controlled costs as planned in the first three quarters of 2009. However, we made the strategic decision to prudently invest in key areas during the fourth quarter of 2009 in order to support the rapid growth and demand we experienced. As a result, our annual cost reductions were approximately $6.7 million as compared to our earlier projection of $10 million of operating expense reductions, which was based on our annualized fourth quarter's 2008 run rate.

On a GAAP basis, the company recorded net income of $7.9 million or $0.22 per diluted share for the fourth quarter of 2009, compared to a net loss of $7.3 million or $0.21 per diluted for the fourth quarter of 2008, and net income of $8.5 million or $0.24 per diluted share in the third quarter of 2009.

On a non-GAAP basis, the Company recorded net income of $11.8 million for the fourth quarter 2009 as compared to non-GAAP net loss of $2.5 million for the fourth quarter of 2008, and non-GAAP net income of $11 million for the third quarter of 2009. Non-GAAP net income was $0.34 per diluted share in the fourth quarter of 2009 compared to a net loss of $0.07 per diluted share in the fourth quarter of 2008, and net income of $0.31 per diluted share in the third quarter of 2009.

In Q4 2009, we recorded a net foreign currency loss of $466,000 compared to a net $6.6 million loss in the fourth quarter of 2008 and a net $266,000 loss in the prior quarter.

GAAP tax expense was $9.6 million in the fourth quarter of 2009 compared to $2.8 million in Q4 '08 and $5.8 million in Q3 '09. Non-GAAP tax expense was $12.3 million in the fourth quarter of 2009 compared to $5.8 million in the fourth quarter of 2008 and $6.9 million in the third quarter of 2009. The reconciliation of GAAP to non-GAAP is detailed in our financial statements released earlier today.

We continue to maintain a strong balance sheet, ending the fourth quarter with $247.1 million in cash, cash equivalents and short-term investments. DSOs for the fourth quarter were 71 days compared to 81 days in the fourth quarter of 2008 and 66 days in the third quarter of 2009.

Our net inventory ended at $90.6 million compared to $112.2 million at the end of the fourth quarter 2008 and $73.9 million at the end of the third quarter 2009. Ending inventory turns were 6.7, an increase as compared to 4.0 in the fourth quarter of 2008 and 6.2 turns in the prior quarter.

We continue to benefit from our unwavering commitment to research and development during the recession, resulting in unprecedented new product introductions in the last two quarters, with more to come. We entered 2010 with a strong new product lineup, and we remain focused on continually driving growth through new products, leading to gains in our global market share. We expect that this strategy will allow us to stay ahead of our competition.

Specifically, for the first quarter in 2010, we expect net revenue in the range of approximately $195 million to $205 million in non-GAAP operating margin to be in the range of 10% to 11%. We expect our non-GAAP tax expense for the first quarter of 2010 to be in the range of $9 million to $11 million.

Operator, that concludes our comments and we can now take questions.

(Operator Instructions). Jeff Kvaal, Barclays Capital.

Obviously better, Christine -- much higher revenues than we had thought. Should we attribute that to market strength, do you think? Or is it primarily a function of market share gains?

I think it's both. I mean, there is absolutely market strength in demand in all three regions. And we're very happy that on top of that, we're gaining share in all three regions.

Have you seen any challenges in Europe? I know, obviously, that's a very topical questions these days.

Well, certainly, I mean, in Europe, it has been challenges all around until fourth quarter, I think Santa Claus did some wonders.

Well, he might be taking it away, at least in southern Europe anyway at the moment.

Then secondly, can you talk a little bit about your channel inventory? That's obviously very low. I'm wondering is that a function -- should we expect it to stay there? Should we expect it to recover? Does the guidance include a replenishment of the channel or how should we think about that?

Sure. We actually will have been restocking the channel during Q4 and we will be doing that in Q1. We believe it is a bit low and we don't want to leave anything on the table, so we are busy restocking that in Q1. And we believe by the end of Q1, it will be back to the normal levels, which is probably about 10 weeks in retail, four to five in [disty].

Okay. So then if you are including some channel inventory replenishment in the guidance and there's the one-time service provider order, it sounds as though your organically in-demand sell-through guidance is a modest decline then, sequentially, in the first quarter. Is that the right way to think of it?

Remember Jeff, there is a one-time $18 million order that we fulfilled in Q4. We don't expect that to be repeated in Q1.

Right. So taking that out and the effect of channel replenishment, then it's down to the guidance you're trying to set there is on the conservative side.

Yes. I mean, clearly, because there are two reasons -- one, generally, Q1 seasonally is flat to slightly down from Q4. And two, as you just mentioned, that Santa Claus may take it away from southern Europe. And thirdly, there is still pretty tight supply. I mean, we were struggling with the chip supplies in Q4. Now we're struggling with component supplies in Q1. And you wouldn't believe it, now capacitors, inductors, transformers -- all those are in short supply.

Okay. Thank you both very much.

Samuel Wilson, JMP Securities.

I'd just like four or five miscellaneous questions here. I'm sorry there's no big theme to any of them, so I'll just sort of start the first one.

Patrick, can you talk a little bit about how many active service providers you have right now globally? And can you give us a little bit more detail on this $18 million order -- why is it only one time? I understand why it wouldn't repeat, because they've sort of taken chunks, but the customers -- are they still a customer in the future?

Well, there are a total of 42 active service provider customers from around the world. And that particular one $18 million order is actually for a particular promotion to the customer's installed base. It's a one-time promotion. The customer continue to buy goods from us. It's just not at that elevated one-time level.

Got it. That makes total sense, but they're still a customer and --?

Oh, absolutely, yes, absolutely.

And then, Christine, can you give us cash flow from operations in Capex?

Sure. Cash flow from operations were about $16 million for Q4. Capex for Q4 was about $1.4 million.

Okay. And then Christine, help us understand the tax rate as we should think about it for 2010 and if you can, even 2011 a little bit. Are you still running sort of an AMT type of tax rate, where you have a bare minimum that you have to pay? Are you starting to accrue a percentage now that you're much more sustainably profitable? Can you give us some sense in how we should think about that for this year? And then next year, as you run off your previous changes to your tax structure.

Right. So we still are what you would call being in sort of an AMT position this year. That will end in 2010. What we expect at this point in time is all our regions to be profitable and the tax rate will be much more normalized this year. So in dollars, we guided about $9 million to $11 million per quarter.

We would anticipate that number to go down in 2011, barring any other legislative changes that could happen. So that should go down significantly next year. But we do anticipate at this point 2010 to be a relatively normal year for tax.

Perfect. Thank you very much and congratulations on a fantastic quarter.

(Operator Instructions). Hamed Khorsand, BWS Financial.

Just a couple of questions here. Does integrated WiFi into set-top boxes for MSOs reduce your potential service provider revenue?

Actually, we see things going both ends. There are other people -- there are people who are integrating WiFi into set-top box, but there are also some people in the other direction is splitting the WiFi from the set-top boxes. So net-net, we don't see any major changes in the foreseeable future.

Plus there is also a plethora of technology adopted by various service providers for in-home distribution. WiFi is just one of them. There's powerline; there's mocha -- so, because of the proliferation and because of the technology steps that WiFi is taking, actually, we see more and more that they are delineating the set-top box from the in-home distribution.

Okay. And then are you -- with these new product instructions, are you seeing revenue ramp very quickly than you were expecting?

Yes, some of them are. I mean, for example, like 12-bay ReadyNAS; like our ultimate networked machine; like the DOCSIS 3.0 gateway, those are ramping higher than what we expected.

Okay. And then are you taking any special measures, given the circumstances the last couple of quarters with the supply shortages?

Yes, and we are starting to give a longer forecast cycle to our suppliers so they could prepare materials further ahead.

Okay. Does that mean you have better visibility going into 2010?

In terms of supplies, yes.

Okay. All right, thank you.

Woo Jin Ho, Bank of America Merrill Lynch.

Patrick, just a question on the service provider. Prices in this quarter, you've been running around $40 million to $45 million a quarter. You have new DOCSIS 3.0 products coming out for the service provider. How should we think about the revenue run rate for the service provider going forward?

Of course, we would like to get it out every quarter to kind of grow together with the Company. Our objective is to continue to grow about the market. And we think that 2010, the market will at least grow in the low double digits and we should be able to beat that. So, that is the growth requirement both for our carrier and non-carrier.

Got it. In terms of your foray into UTM, there was a nice uptick in deferred revenue -- a sequential uptick in deferred revenue in the quarter. How much of that was UTM subscription revenue? And how should we think about deferred revenue going forward as well?

Well, deferred revenue is a combination of the UTM subscription revenue as well as other shipments that left our warehouse but did not arrive at the customer's warehouse. So we fluctuate from quarter to quarter. And certainly, I mean, this quarter, there is contribution from UTM. But we do not split out our product-specific revenue components. But clearly, I mean, as time goes forward, we're going to continue to build a deferred revenue base on the UTM subscription, yes.

Got it. And one last one on the security channel. Could you provide us an update on building out that security channel? I believe you're trying to recruit more VARs for your UTM products. Thanks.

Well, as a matter of fact, I mean, right now we're gradually gaining some of those competitors' security VARs. But what we have found in the first three months of running our UTM products is our existing channels are actually doing quite well. And in selling our UTMs into our -- first, to our installed base, switches and NAS, and then also into replacing our competitors' dated UTMs.

Thank you.

Maynard Um, UBS.

Patrick, can you talk a little bit more about the component constraints, I guess, specifically whether it's Netgear-specific, industry-specific? And then when you expect constraints to start to ease?

It is industry-wide and it's just not us. You ask any network vendors, they would tell you -- I mean, there's a little transformer sitting behind the switches' ports. The inductors coming from Japan -- they're in short supply.

Okay. And when do you think that those constraints might start to ease?

Beyond Q1, we believe.

Okay. Is there a way to quantify the margin impact? Because presumably, the component costs maybe are higher, given the constraints, as well as air freight?

Actually, it's not so much as component costs. It's more airfreight than anything else. Because we are one of the biggest consumers of all these inductors and transformers because we probably ship the second most ports -- ethernet ports in the world. So we have pretty good steady pricing. However, the lead-time has gone way long. So in order to satisfy our end customers, we have to airfreight. So we would expect that airfreight costs continue to be at elevated levels for Q1.

Okay. And then separately, you talked about service provider growing low double digits in 2010. And I think you said that you expect overall revenues double digit growth in 2010, which implies close to mid-teens growth for the non-service provider channel. Can you just kind of give us, I guess, your thoughts there on that market? It sounds like we're kind of back to a more reasonable economy; should we expect kind of normal seasonality now as we go through the year?

Yes, absolutely, we believe that normal seasonality should return. And based on what we have seen so far this year and with the momentum coming in from Q4, we do believe that the share -- the market should grow at least at the low double-digit range worldwide. And Netgear always beats the market. So we should strive to do better than that.

Okay. And the last question -- now that you're sitting on a little north of $7 in net cash per share, can you just talk about your uses of cash? And more specifically, the time frame of when you might actually start to use that cash? Thank you.

Yes. Again, we continually review that, looking for strategic acquisitions, be that some products, a new channel or entry into a new country. So I would expect to see us execute on something on that early this year. And then again, we'll be buying some equipment and a few things for some of our new product introductions.

Great. Thank you.

Min Park, Goldman Sachs Group.

Just first, apart from the one-time contract or benefit you saw from the service providers, can you just talk about -- tell us, possibly in rank order, the key drivers of upside versus your expectations, either by geography or by product?

I think the number one thing is that the market demand growth came back in all three regions. That really helped the most. And then, secondly, I think the share gain in the US was actually quite a bit higher than we originally planned. And then thirdly, the ramp of those three products that we described before, the 12-bay ReadyNAS, the ultimate network machine, and the DOCSIS 3.0 WiFi gateway. So those are ranked one, two, three.

Okay. And Patrick, I know Netgear's been introducing new products at a pretty frenetic rate lately. Are you at all concerned that the vast majority of your revenue is still coming from more of the older products?

Not really. There's something going -- the halo effect. So, when Apple introduced the iPhone 3GS, the bulk of the growth is still from the old iPhone and from iPods.

Okay. And then lastly, Christine, I was wondering if you can give us your thoughts about operating expense? I know you were very disciplined last year and this quarter, they were up but just mostly on variable comp. How should we think about that in 2010 as revenues come back?

Yes, I mean, I think we'll return to a normal operating expense. So I would anticipate that actual dollars will be up in Q1 and as we move into 2010, and yet still maintaining a double-digit bottom line margin. So I think we will start spending money on salespeople, sales and marketing, and R&D, and continue doing that because it worked well for us last year.

So I would anticipate them to grow slowly throughout 2010. Again, we'll always be disciplined on what we spend and how much, but I would anticipate in absolute dollars, it will increase.

Great. Thank you very much.

Rohit Chopra, Wedbush Morgan Securities.

Hey, guys, that was a pretty good quarter. Patrick, I wanted to ask you a question about N versus G. When we talked, I guess when things were kind of rough in the economy, you said that people were still trading down to G. What did you see this quarter? And are N shipments greater than G shipments?

Well, I mean, actually, our N and G shipments are both doing very well. In this market, they are always people who like to save a dime, and that's why we saw quite a bit of momentum on the G side.

But we also see a lot of popularity on the N side, especially of our high-end N. Our ultimate network machine, which is the best -- probably the best, if not the best -- wireless router on the market, is doing fantastically well worldwide. Everybody is looking for it. I mean, it's always short; always stock-out. So I see both ends moving really well.

Okay. And could you tell us whether N shipments are greater than G? Is that --?

No, I mean, the two are pretty evenly split.

Pretty even? Okay. And then you talked about share gains in the US. And that's obviously a great thing. Is that due to a lack of promotions by your larger competitor? Or a failure by the overseas competitor? What do you think is happening there?

Well, I think, ultimately, is the product. The product is driving everything. The product attracts our customers to buy the Netgear brand and then attract more traffic into our channel. And as a result, our channel gives us more shelf space; gives us more ad space. It all started with the products.

And undoubtedly, if you look at all the reviews out there, our store is getting rave review. Our ultimate network machine is getting rave review. Our ReadyNAS is getting rave review. And if you look at the CES, we got two awards; and actually, at CES, we introduced the push to TV technology jointly with Intel. Intel picked us as exclusive partner to introduce this technology. It all proves that our commitment to R&D, commitment to innovation is paying off.

And I had one other question just on the home media products. We had a conversation, I think, at the analyst day, where you had said that home media products might -- it might take some time to ramp that, only because it's sold in a different part of the store, and you have to get salespeople to sort of push those products versus consumers who just walk into the networking department.

Can you give us a sense of how the consumer media products are doing based on your expectations, what you're seeing right now?

That is exactly what we need, is the store merchandising has to be willing to put the media product in other departments other than networking, in order to make it tick.

For example, the push to TV adapter that we introduced jointly with Intel is now pushed in the Best Buy stores very visibly in the laptop department. And it's doing very well. I encourage you strongly to visit the Best Buy stores and take a look at it. It's selling very, very well.

Can I ask one quick follow-up, just on end chipsets? Are the prices coming down for you guys?

Of course, it's coming down every week.

Of course. Thank you.

(Operator Instructions). Jeff Kvaal, Barclays Capital.

I'm wondering, your revenue is on a higher trajectory now and some share gains. Are you at a position where you might be able to change your operating margin targets over the long-term?

No, we don't intend to. We have always said that -- it's always a balance of maximizing growth versus a normal operating margin. We believe that between 10%, 12% is a reasonable, comfortable operating margin model for us to maximize our growth.

We know -- I mean, we can grow -- in the past, we have grown at best at about 30%. Anything above that would probably hurt our operating margin. But on the other hand, we believe that growing lower than market is not what we want to do. We always want to grow faster than market. So I believe that the 10%, 12% operating margin with about market growth is where we want to be.

Okay. Will there be periods when you might be above that range?

Oh, certainly. I mean, we've done that before. I mean, there might be periods where we have a superior situation that we might be able to do better than that. And we have done 12.3% -- [20.4%] before.

Right. And we want to consistently invest back into the business for future growth in other regions in that too. So that's a little bit of the balancing act also.

Okay. Thank you both.

Thank you. At this time, we have no further questions. I'd like to turn the call back over to the speakers for any closing comments.

Sure. Thank you very much, everyone, once again. We look forward to talking with you again in 2.5 months time. And we're very excited about the product introductions. We're really having very strong product pipelines, both in the switching side, on the storage side, on the security side, and on the wireless WiFi router side, DOCSIS 3.0 gateway.

And now, with the push to TV technology, we are feeling very, very positive about the media adapter side as well. So we're looking forward to a very good year of 2010 and we'll talk to you again in the next quarter's earnings call. Thank you.

Thank you. This does conclude today's teleconference. You may disconnect your lines at this time. Thank you for your participation.