Smith Micro Software Inc (SMSI) 2011 Q3 法說會逐字稿

Ladies and gentlemen, thank you for standing by. Welcome to the Smith Micro third-quarter earnings conference call. During today's presentation, all participants will be in a listen-only mode. Following the presentation, the conference will be open for questions. (Operator Instructions) Today's conference is being recorded November 2, 2011.

I would now like to the turn the conference over to Charles Messman of MKR Group. Please go ahead.

Good afternoon and thank you for joining us today to discuss Smith Micro Software's third-quarter ending September 30, 2011 financial results. By now you should have received a copy of the press release discussing our quarterly results. If you do not have a copy and would like one, please visit www.smithmicro.com or call us at 949-362-5800, and we will immediately e-mail one to you.

With me on today's call are Bill Smith, Chairman, President and Chief Executive Officer; Andy Schmidt, Vice President and Chief Financial Officer; and Tom Matthews, Senior Vice President and Chief Strategy Officer.

Before we begin the call, I want to caution that, on the call, the Company will make forward-looking statements that involve risks and uncertainties including, without limitation, forward-looking statements related to the Company's financial prospects and other projections of its performance, the Company's ability to increase its business, and the anticipated timing and financial performance of its new products and potential acquisitions. Among the important factors that could cause actual results to differ materially from those expressed or implied in the forward-looking statements are changes in demand for the Company's products from its customers and their end users, new and changing technologies, customer acceptance of those technologies, new and continuing adverse economic conditions, and the Company's ability to compete effectively with other software companies.

These and other factors discussed in the Company's filings with the Securities and Exchange Commission, including its filings on Forms 10-K, 10-Q, and 8-K, could cause actual results to differ materially from those expressed or implied in any forward-looking statements. The forward-looking statements contained in this conference call are made on the basis of the views and assumptions of Management regarding future events and business performance as of the date of this conference call, and the Company does not undertake any obligation to update these statements to reflect events or circumstances occurring after the date of this release and conference call.

Before I turn the call over to Bill Smith, Chairman, President and CEO of Smith Micro, I want to point out that, in our forthcoming prepared statements, we will refer to certain non-GAAP financial measures. Please refer back to our press release, disseminated earlier today, for a reconciliation of the non-GAAP financial measures.

With that said, I'll now turn the call over to Bill. Bill?

Thanks, Charles. Good afternoon, everyone, and welcome to our third quarter ending September 30, 2011 earnings conference call.

Revenues for the quarter were $12.6 million, with approximately $10.2 million coming from our wireless products and $2.4 million resulting from our productivity and graphics product line. Non-GAAP gross profit was $10.2 million for the quarter, with gross margins of 81%.

As indicated in our preliminary announcement on October 13th, we have recorded a charge for impairment of goodwill and other long-lived assets of $112.9 million and net deferred tax asset allowance of $11.4 million. Excluding these one-time noncash charges, non-GAAP net loss for the third quarter was approximately $9.7 million.

Clearly, we are disappointed in these results. The growing trend to access the mobile internet through smartphones and tablets has affected our connection management software business much quicker than we had anticipated. Consumers are rapidly transitioning to smartphone devices with embedded hot spots or mobile hotspot pucks for accessing mobile broadband services. These form factors have begun to overtake USB and embedded wireless modems as a primary means of connecting to the wireless data networks.

The accelerating rate of change in this technology transition has been the primary driver for the pressure on our revenues. We are delivering new products to capitalize on this transition and I will discuss the initial market response to these products later on this call.

We are also keenly focused on dramatically lowering our cost structure and changing our operational approach to meet new market reality in order to get back to profitability as soon as possible. We have already made good progress with a number of cost reductions, and we are accelerating our efforts to restructure our operations to a significantly leaner and lower-cost organization. I will get into both our restructuring efforts and new product initiatives in greater detail after I turn the call over to Andy, who will take you through the details of the financial results. Andy?

Thank you, Bill.

First let me go over our customary introductory items. As we have in past quarters, we have provided non-GAAP results and a reconciliation of non-GAAP and GAAP results. The non-GAAP results discussed on this call net out amortization of intangibles associated with acquisitions, stock-compensation-related expenses and noncash tax expense to provide comparable operating results. In addition, our non-GAAP results net out goodwill and long-lived asset impairment charge that we took this quarter, and the reserve allowance established for our net deferred tax assets, both of which are noncash items.

For both 2011 and 2010 I will focus on non-GAAP amounts. Our earnings release, which will be furnished to the SEC on Form 8-K, contains a presentation of the most directly comparable GAAP financial measures and a reconciliation of the difference between each non-GAAP financial measure provided in the press release and the most directly comparable GAAP financial measure. The earnings release can also be found in the Investor Relations section of our website at smithmicro.com.

Before I begin with our non-GAAP operating results, I want to talk briefly about goodwill and long-lived asset impairment charges. As a result of our decline in revenues, declining stock price, and other triggering events, as per generally accepted accounting principles, we were required to test for asset impairment in Q3. We engaged a third-party evaluation firm to provide the impairment analysis and, based upon a step one and step two impairment test, concluded that an asset impairment had occurred.

As of the end of Q3 we have impaired all of our goodwill of $94.2 million, all of our intangible assets of $13.4 million, and $5.3 million of our fixed assets, for a total one-time noncash charge of $112.9 million. In addition, the one-time noncash charge to create a reserve allowance against our net deferred tax assets was $11.4 million. Please refer to our upcoming third-quarter 10-Q for a complete accounting discussion of our impairment charges.

Continuing with our operating results, in detailed manner for the financial modelers, let me provide the difference between GAAP and non-GAAP P&L metrics. In terms of stock compensation, stock comp totaled $1.3 million for the current period broken out as follows -- $5,000 for cost of sales; $378,000 selling and marketing; $170,000 R&D; and $748,000 for G&A.

In terms of amortization, the total for the current period was $2 million, broken out as follows -- $1.26 million for cost of sales; $707,000 selling and marketing; and $62,000 for R&D. Going forward there will no longer be amortization of intangibles as these assets have now been 100% impaired.

Moving on, for the third quarter we posted revenues of $12.6 million and a loss of $3.76 per share GAAP and $0.27 per share non-GAAP. Revenue for the quarter compares to $34 million for the same period last year. International revenue was approximately $1.7 million this quarter across all business groups. For 2011 we are reporting revenue as wireless and productivity and graphics. Our wireless segment reported revenues for the quarter of $10.2 million as compared to $31.3 million last year. Our productivity and graphics segment posted revenues of $2.4 million as compared to $2.6 million last year. Total deferred revenue at September 30, 2011 was $642,000.

Switching to gross profit, non-GAAP gross margin dollars of $10.2 million compares with $31.8 million during the same period last year. Non-GAAP gross margin as a percentage of revenue was approximately 80.7% for Q3 2011 compared to 93.5% for Q3 of 2010. The reduction in gross margin is due to lower sales volume covering fixed maintenance and support expense. Non-GAAP gross margins by segment were as follows -- wireless 81%; productivity and graphics 79%.

Switching to operating expenses, non-GAAP operating expenses for the third quarter of 2011 was $21.9 million, which includes restructuring expenses of approximately $1 million. Netting out restructuring expense, total non-GAAP operating expense was flat year over year. Restructuring expense for the period was primarily related to the shutdown of our Chicago facility. From a year-over-year perspective, non-GAAP engineering expense increased 1%, selling and marketing expense decreased 9%, and administrative expense, which includes our cost of facilities, increased 9%.

We expect restructuring expenses in the fourth quarter of 2011 to be approximately $2 million to $2.5 million. These charges will be primarily for severance costs, which are estimated at approximately $1.5 million to $2.0 million. Of the total charges all but approximately $400,000 will be cash expenditures incurred in the fourth quarter.

Non-GAAP operating loss for Q3 was $11.8 million as compared to an operating profit of $10.9 million in Q3 of 2010. Non-GAAP net loss for the third quarter was $9.7 million, or $0.27 per share as compared to $7.9 million, or $0.23 per share profit last year.

From a balance sheet perspective, our cash position closed at $54.1 million at September 30, 2011, a decrease of $18.5 million from the beginning of the year, primarily due to investment in capital equipment to build out our data centers and our operating losses. Net working capital at the end of the quarter was $60.6 million.

In terms of housekeeping, we expect to file our quarter-end 10-Q this week, which will represent our final financial statements for the period.

At this point I'll turn the call back to Bill.

Thanks, Andy.

Our top three carrier customers -- Verizon, AT&T, and Sprint -- collectively contributed 57% of our revenue in Q3. Each of these customers represent 10% or more of our quarterly revenue on an individual basis. While revenue for -- from these key customers is down materially from levels a year ago, we are engaged in several opportunities to help these customers with their own transitions. There will be a long tail on the USB and embedded connectivity business, as technologies and opportunities to support new devices and methods of connecting rapidly emerge.

While we believe that our core connectivity business supporting mobile broadband modems and data services will continue to be around for quite a while to come, it is clear that new innovations and products will be the catalyst for increasing revenues with these customers. And that is where we are placing our effort. We are in various stages of collaboration and discussion with each of these customers on new products such as Mobile Network Director, Experience Manager, application and policy control, SODA, and other initiatives. As a result, we are encouraged by the initial reaction and test results from many of our new product initiatives.

Our Mobile Network product, which enables the carrier or its end users to move data sessions seamlessly across 3G, 4G, and Wi-Fi networks, aims to address a critical market problem of data congestion on certain carrier networks. We are happy to say that we expect to have our Mobile Network Director solution into commercial deployment and generating revenue in the near term. We believe this product has the potential to operate on millions of Android smartphones and handle data offload to Wi-Fi networks based upon policy criteria established by the operator and supported by our software. We anticipate another -- Mobile Network Director trials to begin in Europe, Asia, and the Americas early in 2012. We believe this product offers great value and we're optimistic that these initial wins will become a springboard for additional deployments with other operators as they seek to more effectively handle data volumes and stitch together 3G, 4G, and Wi-Fi network services.

We are also hearing from our customers that there is a need for an improved connected experience for users that are accessing network services from multiple devices, including a smartphone, a tablet, and a PC. Users want a consistent way of connecting across these different devices and have difficulty navigating the many different menus and applications provided by each platform.

Additionally, carriers want to deliver a consistent way of connecting devices while capturing analytical data, providing improved visibility into data usage and presenting users with an easy way of accessing various carrier-branded services. Our Experience Manager product can deliver consistent connectivity, visibility and control across these different form factors while offering the carrier an improved way of marketing their service offerings to the end users in order to increase retention, build loyalty, and drive revenues.

We had our first win with this product last quarter at PT Bakrie and we are already seeing a demand there for added feature support such as hot spot management functions. The work we have done on our product for Bakrie has led to increased proposal activity back in North America and a boost to interest in this product from several Tier 1 carriers around the globe.

Our key customers in North America continue to be a primary focus of our revenue recovery efforts. The overall increasing global trends for mobile internet services has led us to invest resources to participate in the growth opportunities emerging outside of North America. Our traction has been developing over the past few quarters with a number of wins, and we are pleased to say that progress continues with two new wins with large carriers in India. We signed a master service agreement with Reliance Communications, India's largest operator with over 100 million subscribers. We expect to launch our video platform as the first product with them in the first half of 2012.

We have also inked a deal for an enhanced connectivity experience with analytics with MTS India, another large carrier. This should also begin producing revenues in the first half of 2012.

Although our technology platform is flexible and enables improved speed to market, we know that we have long sales cycles, extensive trial periods, and potentially slow ramp times with every customer win. The evolution happening within our core product line, coupled with the slow nature of the growing revenues from embedded software products in the wireless industry, has caused us to execute significant cost reductions and improved efficiency measures. We are restructuring our operation while maintaining the appropriate support for the long tail on our current core connectivity business, and while balancing the need to invest in future products.

We began this process at the beginning of 2011 and accelerated our efforts last quarter, and have been rationalizing headcount, facilities, products, and all expenses within the business. Our quarterly non-GAAP operating expenses in Q3 were down some $1.6 million, excluding restructuring charges, over Q2. And we will continue to drive these numbers down to eliminate the cash burn. Over the course of Q4 we plan to further consolidate facilities, projects, and teams, eliminating overhead and salary expense in a quick and decisive fashion. This process is well underway and we anticipate Q4 operating expense levels to come down slightly from Q3, excluding restructuring charges, with Q1 levels to be well under $20 million.

As we complete this process and our restructuring costs are behind us, the current identified plan should result in quarterly non-GAAP operating expenses in the range of $17 million to $18 million, starting in Q2 2012. Our headcount, which was at a high water mark a few quarters ago of approximately 585 full-time equivalency, including contractors, will likely be under 400 when we have completed this process.

With these ongoing cost containment efforts, along with the revenue opportunities that we believe we can achieve, we intend to get back to profitability within the next 3 to 5 quarters. Of course, as the business economic environment and opportunities arise, we will make the appropriate adjustments and report back on our progress.

In closing, I am pleased to report that the Board of Directors has approved a buyback of up to 5 million shares of Smith Micro common stock in the coming quarters. The Board believed that the repurchase of Company stock represented a positive investment opportunity and confidence in the future recovery of our business pace.

Before I turn the call over for questions, I'd like to close by saying that even though the shift in technology of our core connection manager business has come with a force and speed that no one had -- could have predicted, we definitely see business as having a long tail that is certainly not going away overnight. We recognize that it is often in times of technology transitions like what we are experiencing that new opportunities for innovative and disruptive solutions often surface.

Our primary market, the wireless industry, is evolving and growing at an accelerating pace. We intend to keep evolving along with these changes, serve our customers better, and capitalize on the emerging opportunities unfolding before us.

With that, Operator, I'd like to open the call for questions.

Thank you, sir. (Operator Instructions) Peter Misek; Jefferies & Company.

This is Jason North for Peter Misek. Two questions. The first one is in terms of your new products coming out, how do you tier them in terms of revenue opportunity here in the next two to three quarters?

And secondly, what are you thinking in terms of free cash flow over the next couple quarters? Thank you.

Okay, well, let me take the first one and I'll let Andy try to grab the second one. I mean, as we look at the product lineup, we are looking at basically three strong areas of growth. One would be Mobile Network Director. The other would be Experience Manager, which really is the outgrowth of where connectivity is heading as we move away from the connection management business. And third would be our access control for tethering.

All three of these have great potential. Obviously we can't talk about the revenues right now, but we're hopeful that that's where we can start to really grow our business back. I think that's the best way to answer that.

Sure. And, Jason, as Bill referred to in his prepared remarks, we're looking to be -- get back to profitability in 3 to 5 quarters. That's the limit of the guidance we're going to give in terms of revenue or cash flow or profitability. So we'll kind of pass on the near-term free cash flow.

Okay, thank you.

Scott Sutherland; Wedbush Securities.

First, Andy, couple of housekeeping -- what was your operating cash flow and CapEx in the quarter?

All right. Let me give you that real quickly here. All right, so CapEx in the quarter was about $1.8 million. That's primarily focused around our Visual Voicemail product that's out in the market and Mobile Network Director product that's the server base -- has a server based component that we're preparing. It's ready for market and we're preparing for customer wins in that product.

And cash flow you asked?

Yes, operating cash flow.

Operating cash flow was use of cash of about $5.8 million.

Thanks. What's your guys' strategy going forward with CapEx? I know you've been building some network resources for some of your new (inaudible) services. Is most of that built out or do you have to have some more major investments on the CapEx side?

Most of that's built out at this point. So we don't see significant CapEx. Again, it's going to be product driven. If, in fact, we have some very significant wins again on the Visual Voicemail type products or the MND type products, Mobile Network Director, then we'll build to scale. But at this point we think we're in very good shape for the upcoming quarters.

When you look at some of the new products coming out for connectivity solutions -- I guess we thought about the old USB or dongles in the mid-single dollars per unit. How should we think about the pricing models of these new products per unit?

It's in the single dollars, but obviously at a lower end because you're addressing a much broader market. You're not only talking about PC users, but you're talking about smartphone and tablet users. So volume there is substantially higher and makes a big difference.

Okay. You've got this buyback in place, obviously at the current levels, it's less than $10 million in the next year. How do you balance the buyback with making sure that you have cash to invest in the new products and get back to profitability?

That's a good question. And that's why in my comments I said that the Board, when it considered this, looked at the investment quality of what we were about to do, and also balance that with what we see as the recovery of the business going forward and, based on that, move forward with the buyback.

Okay, guys, my last question. As you look back over the last year, at the start of the year you felt like you had more of an inventory issue. How much do you think that it was still an inventory versus just the new dynamics of the connectivity moving to phones and tablets and other types of devices?

Well, if there was -- if we talked about an inventory issue, that reflected the move to mobile hotspots of different types, so that the sales of USB devices just plain slowed down. We don't see a inventory issue as we sit here right now. What we see is a market that has gotten a lot smaller and -- but will continue for some period of time, and a new market opportunity going forward for different types of software.

Okay. Thank you.

(Operator Instructions) Charlie Anderson; Dougherty & Company.

Thanks for taking my questions. I'm just wondering when you guys are thinking about getting back to profitability? I think I'm doing my math right, you're going to assume you're over $20 million in revenue again to get there. What is your view on sort of the trajectory of the core business which is contributing a huge -- a big chunk of the revenue still, the connection manager business? Does that grow to get back up there? Or does that go down and you need a pretty large contribution from the new products to get there? Any color on that would be helpful.

Yes, I think the way we tried to phrase it is, it's a business with a long tail. It's a business that we believe is in a mode where it's stabilizing at a certain run rate and that that run rate can move out for a few quarters. It will over time decrease. In the meantime, that's why our focus on the new technologies that, frankly, we started to build a few years ago. And these products are now coming to the marketplace. And so where you look at Mobile Network Director where we believe we can see deployment in the very near term. And then we have additional trials around the globe for Mobile Network Director, that this is the type of product that will provide the elevator for us to kind of move us back up.

So, you know, I can't argue with your basic analysis of what the sales level needs to be to return to profitability. Makes a lot of sense to me and that's what we're focused on. That's what it's all about.

What will be the biggest component in that plus-$8 million-or-so from where you are today to get back to profitability? Is that Mobile Network Director? Would that be the nearest-term opportunity to fill that gap?

It's the nearest term, but there are -- the other products, Experience Manager, application control, SODA, video as we talked about with Reliance, are all quality products that will step it up as well.

We also have other products that are in our portfolio that we don't necessarily focus on or talk about, like the Push-to-Talk or maybe more importantly Visual Voicemail, which is a very strong contributor to our business and a part of our business that's getting larger, not smaller. All these products can contribute to recovering from the revenue loss that we've experienced because our core business, that being connection management, has gotten a lot smaller.

Thanks for taking my questions.

Thank you. And I show no further questions in the queue at this time. I'd like to turn the conference back to Management.

Okay, I'd like to thank everyone for joining us today. Should you have any further questions, please feel free to give us a call here at the office. Thank you and have a great day.

Ladies and gentlemen, this concludes the Smith Micro third-quarter earnings conference call. Thank you for your participation. You may now disconnect.