Radware Ltd (RDWR) 2005 Q3 法說會逐字稿

Ladies and gentlemen, thank you for standing by. Welcome to the Radware conference call. [OPERATOR INSTRUCTIONS] I would now like to turn the conference over to our host, President and Chief Executive Officer, Mr. Roy Zisapel. Please go ahead.

Good morning everyone and welcome to the Radware third quarter 2005 conference call. Joining me today is Meir Moshe, our Chief Financial Officer. Today we are reporting revenues of $19 million and a net profit of $1.6 million. These results will represent approximately 9% growth over Q2 revenues and continued profitability. Before I discuss the highlights of this quarter, Meir will review the financial results. After my comments we will open the discussion for Q&A.

Thank you, Roy, and welcome everyone to our conference call. First, I would like to read you the Safe Harbor language. During the course of this conference call we make projections or other forward-looking statements regarding the future events or future financial performance of the Company. We wish to caution you that such statements are just predictions and actual events or results may differ materially, including but not limited to general business conditions and our ability to address changes in our industry, changes in the amount of the --- the timing and amount of orders and other risks detailed from time to time in our Radware's filings. We refer to document the Company files from time to time with the Securities and Exchange Commission, specifically the Company's last filed form 20F files in February 2005.

Now, ladies and gentlemen, for the financials. Our sales quarter results are consistent with our expectation that we would be able to grow revenues sequentially. Revenues for the third quarter of 2005 were up 9% to $19 million. Compared to revenues of $17.5 million in the second quarter this year and then increase of 8% compared to revenues of $17.6 million in third quarter of 2004. The net profit for this quarter was $1.6 million which represents an earning per diluted share of $0.08. Our gross margin for this quarter was 80%, the same in the previous quarter; the highest gross margin in the industry.

Third quarter was a quarter of focusing resources on effective marketing; as a result and we focussed as our operating expenses were $14.9 million. The increase of sales enabled us to return to operating profit. The operating profit for the third quarter was $300,000 compared to a loss of $300,000 in the previous quarter.

The DSOs for third quarter was 70 days compared to 69 days in the second quarter. We continue to have positive operating cash flow. This quarter the Company generated cash in the amount of $2.3 million by [inaudible] increasing cash position including long term deposits to approximately $169 million with no debt. The inventory totalled $4.6 million compared to $4.5 million in the second quarter of 2005. The headcount for this quarter was 408 employees; shareholders' equity was $174 million.

Third quarter results demonstrate an improvement in our short term business fundamentals and we are seeing the results of more effective marketing. Based on this, we can return to give guidance. We anticipate that fourth quarter sales will increase to $21 million. Gross margin is expected to remain at 80%, operating expenses will increase to $15.8 million, and expected earnings per diluted share is $0.11.

As you can see, ladies and gentlemen, in the third quarter revenues increased, we have maintained our high gross margins, we focussed our marketing activities, returned operating profit, increased cash position to approximately $160 million and we are optimistic about the results for the fourth quarter of 2005. And now I would like to return you to Roy.

Thank you, Meir. During our last earnings call we stated that our outlook for remainder of 2005 was for short term business fundamentals to improve. Our third quarter results are consistent with our expectation that we would be able to leverage our competitive advantage and continue to grow revenues sequentially.

In Q3 we began seeing the effect of our new channel partnership program in the U.S. This program enables us to identify focused resellers with the competencies needed to effectively promote and sell our integrated application delivery solutions. Based on proficiencies, business focals and customer influence with 35 -- with sellers, too --- sell either [indiscernible] end solutions for data center and application optimization --- rather occupation access solutions from branch to central office connectivity [indiscernible] application security solutions for protecting against application [indiscernible]. This program improves customer satisfaction, provides resellers with professional installation services for a quick return on engineering training investment and most importantly facilitates channel sales.

I am pleased to report in Q3 we saw dramatic increase in the average quarterly revenues generated by active channel partners. This is a direct result with working with more technically competent and qualified force. In Q3, we had significant business from large customers both new wins as well as repeat business. The important revenue contributors in the quarter were Total, the world fourth largest oil and gas company. The New York Stock Exchange. ADP, Cingular Wireless, E-Bay, Dollar Thrifty Rent-a-Car, Food and Drug Administration, AAA Auto Club, [indiscernible] Daimler-Chrysler and so on.

Q3 was a important quarter for the Company in terms of marketing activities. We restructured our marketing organization and hired Michelle Blank to be our Chief Marketing Officer. In September, we unveiled our next generation APSolute solution for integrated application delivery to media and analysts. APSolute is a unified consolidated product family built around the common hardware and software architecture that was designed to address the full range of availability, performance and security challenges associated with the delivering applications over IP.

APSolute is a line with two key market trends. One trend is using application intelligence to tune the way network handle different access application traffic. We call this application smart networking. The second trend is the emerging of the application security market and application acceleration market which we leave for further use.

We believe our architectural approach to application smart networking and intelligent integration of availability performance and security provides customers with superior integrated application delivery solution that leapfrogs our competition on several fronts. To explain that let me discuss APSolute in a little more details. Our APSolute product for the enterprise include [indiscernible] which are our next generation versions of our [indiscernible] 5100 product. [indiscernible], our application access product and defense [indiscernible], we just announced secure flow security product. So, carriers, in addition to those products, we offer our CID products for very added content and security service delivery.

All APSolute products are viewed around an integrated software and hardware architecture consisting of our new APSolute operating system which is the next generation [indiscernible] architecture. Our unified APSolute Insite management tool and our special purpose intelligent application switches. APSolute OS and APSolute Insite work together to optimize network resources end to end based on what we believe is the industry most expensive and details Layer 4-7 application in intelligence. APSolute goes beyond the packet inspection and gives customers the ability it to use any combination of application, content and user information to optimize network performance and globally enforce security policies. None of our competitors have an architecture that enables the ability across the entire network or can use such granular intelligence to make decisions at every critical point along the network to ensure fast reliable and secure business transactions.

In addition, our modular architecture allows us to custom fit solutions for diverse network environments in changing customer needs. The entire APSolute product family will ship with complete APSolute aware functionality. This includes the APSolute class [indiscernible] fire and slow manager engines. The health monitor and [indiscernible] redirection of the [indiscernible] services. Low balancing, bended management in trusted shaping performance services and intrusion prevention and denial of service security services. Customers can choose what operating system functionality they want activated in any device in purchase of those features. Virtually all of our currently deployed applications switches are software upgradable to APSolute and customers with maintenance agreement will be offered free APSolute OS upgrades. [indiscernible] a simple message allows more clearly articulating [indiscernible] associated with being able to align network behavior [indiscernible] by making network applications smart.

We officially announced APSolute to the market into our [Emea] and U.S. channel partners in the first week of October. In addition to revealing APSolute in Q3, we also announced our next generation 3020 application switching hardware platform. The 3020 platform was designed to fully leverage the power of our new APSolute operating system. And satisfied the demanding performance of the ability and connectivity needs of larger enterprises and carriers. 3020 announcement include 88 gigabyte of switching and a dedicated [indiscernible] processing. Stream net engine for high speed procession of any Layer 4-7 classification. This is a key element for application smart networking. It also includes a powerful networking processor and CPU for realtime health monitoring, accelerated traffic flow management, redirection in application enabled decisions.

To further ensure 24 by 7 availability, the 3020 include drug power supplies both AC and DC for the carrier environment and internal [FiOS] capabilities. In Q3 we announced the availability of [indiscernible] the first product to be released on the 3020 platform running APSolute. The [indiscernible] 3020 protects critical application and infrastructure with high speed application and network security against viruses, malicious intrusions and denial of service attacks. Our other APSolute products will begin shipping at the end of this year.

To summarize our Q3 2005 results, demonstrating improvement in our short term business fundamentals we are seeing the results of a more effective channel and believe we will be able to leverage this traction with more aggressive brand awareness and demand generation marketing activities for APSolute application delivery solution. We are confident that APSolute provides us a strong vehicle to leverage the growing interest and demand for complete application delivery solutions and drive future revenue growth in increased market penetration as well as around the world.

With that I would like to open the discussion for Q&A.

Thank you. [OPERATOR INSTRUCTIONS] Our first question is from William Becklean with Oppenheimer. Please go ahead.

Yes. Thanks. Roy, nice quarter. Can we revisit a little bit what happened in the second quarter? You attributed that at the time to uncertainty on the part of customers related to the acquisition activity that was going on and the traffic management and securities space. But as you look back on that in retrospect, did it have more to do with internal problems at Radware in terms of new products getting out and the U.S. sales organization getting reorganized?

Okay, we first of all we don't think so because also if you look on this quarter and the vast majority of mixed quarter we are not going to enjoy a lot of business on the APSolute product as I mentioned. With the exception of the [indiscernible] 3020 which is the first APSolute ready product that is shipping and the rest we are expecting to ship only by the end of the year. So the contribution to the current results will be limited. On the other end, we feel this is a strong engine for growth for next year and beyond that. So we don't think it's a product issues as well ---- at all.

As far as we understand and analyze and I think it's evident also from this result, we believe the analysis and the [deportation] that we provided you immediately in the immediately in July, first as well as in our earnings release it was accurate. Most of the deals that we were tracking, if not all of them, closed during the quarter. We were seeing much less confusion in the channel obviously with the APSolute messaging and the release of our architecture. I think people are very confident with our competitive advantages. So we see the combination of those two will lead us to sequentially growing our business and getting more market share.

In the U.S., Roy, was there actually a reorganization of the U.S. sales channel? Or have you just refined the go to market strategy and the marketing message?

There was no change or restructuring in the U.S. The information I shared with you with the traction of the channel program, this is the channel program we announced in the first quarter and we are -- and we have not -- in six months we are starting to see the results of that. And basically we didn't do any restructuring of the sale forces or reorganization.

Thanks.

Thank you.

Your next question is from Mark [inaudible] from RBC Capital Markets. Please go ahead.

Can you share with us some commentary from your partners and customers on the overall state of the layer force seven market and maybe if you could give us a sense of the September quarter included some catch-up spending following the June quarter. And do you have a sense the market is growing again and at what rate?

Okay. So there were several questions here. Basically, we know from our partners and I think the feedback, both of our channel and by the way media and industry analysts is extremely positive about the direction and the unified family of APSolute that we announced. I think that both channels, end users as well as the industry analysts are seeing APSolute is a step ahead in its ability to extract any application information and to automatically adapt itself and adapt the network behavior in alignment with your business needs. In addition to that the scalability of the next generation solutions as well as new solutions such as secure flow, I think providing an excellent base for future growth for us.

In terms of the overall market, I think the competitive landscape has not changed. There was a lot of change on the acquisition side but we didn't see a lot of activity following those acquisitions or those announcements. So I don't think people are seeing any change currently in the competitive offering.

Concerning the market growth, I can rely only on the industry analysts. I think the market is expected to grow roughly 10 to 15% this year. And I believe that this can be much more, especially as mission critical application and especially as we are seeing the [indiscernible] around application networking increasing over the last several months. So we are not looking at that as a benchmark at all for our Company performance. We continue to believe this application networking or what we call the next generation of that application smart networking ability to automatically tune your network would be a very critical area in the enterprise as well as in the material market and we would look for accelerated growth rates in the coming year.

Got it. And Meir now that the business has stabilized can we get your operating target for next year and also can you let us know what tax rate we should be using going forward?

We haven't guided the market for '06. Unfortunately, I'm not able to give you now any information. But based on our strategy and as Roy mentioned, we plan to continue to go top and bottom line every quarter. This is what we are going to maintain. The tax rate for next year as I said several times ago is planned to be about 10% for very long term.

Okay. And just on the operating margin, we get back to historical levels? It seems there is some change in terms of your spending on R&D and the sales and marketing. Can we assume then that maybe we can get 10 to 15%?

Yes, first of all you consider first in the next quarter of improvement. But I prefer to talk about next year next call. It will be also after management and board of directors will approve our '06 business plan. It will be the time to speak on that. But you can see the trend, I don't want to put out about for next year before we are sharing our ideas with our board.

Thank you. Fair enough. And best of luck.

Thank you.

Thank you. We will go on to the line of Alex Henderson with Citigroup. Please go ahead.

Thanks. So, I guess a broad general question, you know, the improvement in numbers sequentially is certainly heartening. And it definitely represents an improvement off of the 17.5. I remind you that in a seasonally weak quarter of March you did $20 million. So you are still a million below that and your guidance for the seasonally strongest quarter of the year is only 10% above the seasonally weakest quarter. I guess the question is, to what extent has the damage that was done during the June quarter put you on a trajectory that is now a new lower -- the same trajectory except on a lower base that you were on before? Or alternatively do you see yourself getting back on the original trajectory and continue to play catch-up with where you would have been had you not had the problems in the June time frame?

The way we are looking at that and as we discussed in the conference call is that basically after last quarter we had to build our pipeline back to the level. And it used to be to support the future growth. I think Q3, as discussed, was a very strong step. We believe Q4 will build on top of that. And from that we will continue to discuss with you our future plans.

I think when you --- in your comparison you did to Q1 which was a seasonally weak quarter but as you know for the past four years or so every quarter whether it was seasonally weak or seasonally strong, it prevented sequential growth and we would like you to go back to back and basically that the internal growth of the Company we are not taking into account sequential strong sequential weak quarter. And that's our target to continue to deliver sequential, sustainable growth of the business.

So basically what you are saying is that you do not -- you have been rebuilding that channel, that pipeline of business but you don't see yourself recouping the original trajectory? In other words if I were to take out my model for at the end of March quarter and look at our '06 numbers or '07 numbers and the trajectory that it was on at that point, obviously we step down and now we are on a reramp but it doesn't look like we are on a reramp back to that original trajectory, is that a reasonable statement?

We never give guidance to more than one quarter ahead. So it's hard for me to relate to different business models that we are out. I think the guidance that we are giving speaks for itself. That's how we believe the Company is growing right now. We believe APSolute will -- can be an excellent vehicle to accelerate that growth. We will continue to deliver a guidance quarter after quarter and not for a longer period of time.

Couple of minor questions. I didn't catch a book-to-bill number. Assume it's around one, but --

Yes.

Love to know if that's accurate. And then second, do you think the new product announcement with availability on some of these product or extension to some of the other parts of your product line late in the quarter in the December quarter represents a risk to the fourth quarter in terms of Company customers pushing off orders waiting for the new feature set?

Okay, concerning book-to-bill as we discussed in previous calls, we ship all the orders we were getting within the quarter we don't carry meaningful backlog from one quarter to the other. And concerning the risk, there is always risk the customers will wait, but as I stated in my remarks, all the current switches can be upgraded to the full APSolute operating system and benefit so we believe while there is risk, we have done a lot to mitigate that and to make sure customers can continue. The business with us as planned.

Just a technical question along that same line. So if I put a switch in now and I wanted to do an upgrade in the field, how easy or difficult is it to implement? Can you give us some sense of the complexity of that transition if I'm an -- if I'm a customer that puts it in before the feature set's available?

As I mentioned APSolute is built at the core with integrated hardware and software architecture. Once you have the application switches that support the APSolute -- basically just a software upgrade to enjoy the capabilities. Switches that we sold over the last couple of years to the most part can be with us through upgraded. With a softer upgrade process. A simple one. Done in the field, by the end users. They can enjoy now all the next generation APSolute OS capability.

Okay, thank you.

We will go to the line of Steve Kamman with CIBC World Markets. Please go ahead.

Howdy, guys. Kind of entertaining to be on the back end of the call rather than the front end of the call for once. Wanted a couple of cleanup questions. Application switch 4 just any update on the progress there?

Basically, the 3020 platform is what we called internally [indiscernible] -- so, we have announced it. It's already being released on the first and on the first product line which is DefensePro and all the other products will follow-up with that.

I kind of thought that was the case, but it was a quiet period. And then on the new sort of overall architecture going sort of in the direction some of your competitors have gone. Where do you think you need to partner with other people? What parts of the application aware elements of that do you need outside help on and where are you in terms of process and setting that up?

I think we are in terms of the integration of availability, performance and security, we are far ahead of any other company in the market. Just to remind the audience. Already with our [indiscernible] back in 2001, we already offered those services. I think with APSolute OS we took it into the next level that beyond the tight integration and beyond the growth of the feature of the modules which I can share some sometime in explaining that, we also exposed the classification capability and flow management capabilities to the users so they can take advantage and tune their networks automatically if they wish to their business policies they have.

That allows us on one hand to expose this power to our users while allowing any type of a synergetic technology to take -- to take advantage and tune the way our switches, and as a result the way the network behave to the reason there is many opportunities to -- from management and visibility product to security product, to accelerate --- to specific acceleration product and so on and so on.

Okay. Go ahead.

No, no. Please.

I was going to ask also any news on OEM relationships or new developments in terms of signing up new channel partners?

In channel partners as I mentioned in our call with the new channel program at the U.S. we are seeing a lot of activity in the channel conference that we had in Miami beginning of the fourth quarter. We had over 200 guests. It was a record for us in the U.S. and in Europe as a joint conference. So we are seeing a lot of traction with new channels. Concerning OEM or concerning new OEM deals, we will announce them as we see fit and as we get approval from the other party.

Okay. Also, wanted to ask you, you guys talked about last call increasing the sales and marketing spend. I know you're not giving '06 guidance but is it still fair to expect to ramp up marketing a little bit more aggressively as we look forward?

We think so. But as Meir mentioned, we will give a more accurate guidance in our next call.

Okay. And then the share count came down a little bit just trying to figure out how much of that has to do with the -- where the stock is trading and what you expect share count to be next quarter so there is no confusion. And deferred revenues are up sharply. Any thoughts on that?

First of all about the share count. The share count is based on the share price, of course. In our internal model for next quarter we can own $20 million share count on a fully diluted basis. And I can ---- I cannot approve the deferred revenues are up this quarter but we have a full number on at yearly basis so we do the next quarter.

Good. Good to see. And, then just the last question on the R&D, a lot of new product instructions as we rolled into this new quarter. Do you feel as you roll out this new architecture, there an increase or room for holding that flat? Any thoughts on how much of the R&D spend over the last couple quarters has been driven by new product introductions and how much is more just a sustained effort?

We believe as we have done in the past, our long-term target for R&D is around [15%], as percentage of sales and then you see in this quarter as the revenue went up, the relative portion of R&D expenses went down. Why we continue in absolute terms to increase our R&D investment, we also announced many new products and new APSolute unified family. I can tell you that our product pipeline continues to be strong and we were focussed in addition to product announcement in the next six to 12 months. So we have a lot to do in terms of application smart networking. Big challenges. It's a big challenge and very critical market and we will increase our R&D investment in absolute numbers also going forward.

More products. [expletive] Thanks very much. Much appreciated and great quarter.

Thank you.

We will go to the line of Ryan Hutchinson with W.R. Hambrecht. Please go ahead.

Couple quick questions here. There's not much left, but in terms of the --- I don't think you gave the breakout between International and North America and then enterprise service provider and then all that good stuff.

Okay. Actually, North America was 40% and the International 60% this quarter. And the break down between International --- and between enterprise and carrier is 65, 35, 65% this is enterprise and 35% this is to carriers.

Old customers versus new customers?

This is new customers it was about 42 to 43% and repeat business around 58%.

And then maybe just a follow-up on the competitive landscape. Has that changed in the sense of in terms of who you are seeing out there? Are you beginning to see F-5 and net scaler and red line a bit more than you have in the past? Or is it primarily Cisco?

We were seeing primarily Cisco and F-5. I must say that we don't see a lot of the juniper red line. As a matter of fact I don't think we have seen them at all. I think we are seeing much less activity from the red line part. And also from netscaler, as a whole, we didn't see much following the acquisition. I think the competitive area was quite steady. Last quarter and we didn't see an impact from the acquisition. That may change over the next quarter. But I think we are feeling very strong in terms of our application switching platforms and the APSolute OS and APSolute product family capability.

Great. Roy, just a quick follow-up on the filing here for over 200,000 shares. Can you help me make sense of that?

Basically I think you can go back to the press release we announced. It's not filing to sell. Some kind of an option announcement return and basically you can see from the filing that not only sale -- I bought shares in the recent quarter.

Thank you.

We will go to the line of Troy Jensen with Piper Jaffray. Please go ahead.

Congrats, guys. A quick follow-up on Ryan's question about competition. You didn't mention Altion at all; how frequently do you bump into Nortel nowadays or have they fallen off the map here?

We were seeing Nortel, especially in their existing install base, not beyond that. And especially the carrier market. But I believe they are lagging. I don't like to speak specifically about competitors, but I think we are very strong advantages there and customers especially in the carrier market are looking for next generation platforms and services I think we have a lot to offer versus Nortel and its ability to integrate some of the [inaudible -- microphone inaccessible] to us.

Got it. And then a second question here, and I know you don't want to break out specifically DefensePro versus the traffic management stuff, can you give us a sense if DefensePro's growing more rapidly than the legacy stuff or any color would be helpful.

I think this quarter --- what we've seen is basically a reverse of what we have seen last quarter. [Indiscernible] or our application switching business was the majority of the heat we've seen there and this quarter the majority of the improvement is in that product line. So DefensePro continues to I think enjoy very nice customer wins. But this quarter we seen strong growth in the application switching business.

All right. And then two questions for Meir. Can you talk about DSOs this quarter? Highest it's been in awhile. I understand Q3 seasonality in Europe but 80 days seems like it might have been --

70, not 80. It's 70 And compared to 69 days a quarter ago and this only based on back end loaded quarter.

How much gets done in the third month? Closer to 50% in Q3?

No. About 50% of sales this is in the third month or month of the quarter.

And just last one --

And then in September quarter, quite normal.

Okay. Perfect. Last question, Meir. Historically, you've given the international breakdown between EMEA and Asia-Pac. Can you provide that again?

I actually this is International, the 60% is split between EMEA and Asia pack. And this quarter EMEA [indiscernible] was 28% and Asia-Pac was 32%.

Perfect. Congrats on a good quarter and keep up the good work, guys.

Thank you.

We will go to the line of Matt Robison with Ferris Baker Watts. Please go ahead.

Good morning. [indiscernible] What was the head count?

483.

And secondly, could you give break down direct sales versus channels?

Basically all of our revenues, the vast majority of channel. We don't have direct business in general.

Could you name a few ---- your largest channels?

Our largest channels varied by territory. But in the U.S. we have west cone, which is our largest distributor as well as alternative tech. And then across the world in Europe we have computer links in Asia/Pacific. Digital China. And then [indiscernible] in Japan and so on.

Thank you. And the last question, secure 4, what platform does it run on?

Could you repeat that question?

Secure flow, what type of platform does it use?

Okay. All of the products in the APSolute family is using and sharing the same application switches. The secure flow can run on our application switch one platform, two, three, the new 3020, and so on. All of our products are sharing the same hardware platforms which are the core of the APSolute product family.

And the [indiscernible] split from the 100%? I mean, the same wire speeds as other applications?

Yes, it does. Depends on the amount of services you want to run simultaneously but it allows you secure flow is the new product that allows you to concentrate all of your current security tools, antiviruses from trend, [indiscernible] from web sense and surf control, anti-Spammers and so on into a unified switched architecture with built in acceleration for the security services. So you can overcome the gap or the tradeoff between security and performance through our application switching capabilities, manage better and all of the external security tours and allow for policy based security. You can define for each what we call class or flow of traffic. The class security tools that you want to apply. On them for better managed best of rate security architecture.

And as I mentioned, secure flow is running on top of all of the switches and customers can decide based on their network demands and security requirements the kind of platform they want to use. If they want to run in a more performing environment, they will use the 3020 platform. If they are looking at the low end gateway environment or let's say up to 200 mega bit, they will go with the application switch ----application switch one platform. Security flow run with the same manner with all of the APSolute OS services across all of the platforms.

All right. Thank you very much. And congratulations on a good quarter.

With that I will turn it back to you, Mr. Zisapel. Please go ahead.

Okay, everyone thank you very much for participating in the call and have a good day. Thanks a lot.

Thank you. Ladies and gentlemen, this conference will be available for replay after 12:15 P.M. eastern time today through midnight November 4th, 2005. You may access the AT&T teleconference replay system at any time by dialing 1-800-475-6701. And entering the access code 798546. International participants dial 1-320-365-3844. Those numbers again are 1-800-475-6701. And 1-320-365-3844 And enter the access code 798546. That does conclude our conference for today. Thank you for your participation and for using AT&T executive teleconference. You may now disconnect.