UTStarcom Holdings Corp (UTSI) 2002 Q3 法說會逐字稿

Ladies and gentlemen, thank you for standing by and welcome to the UTStarcom's third quarter 2002 earnings conference call. At this time all participants are in a listen-only mode.

Later we will conduct a question and answer session. Instructions will be given at that time. If you should require assistance during the call, please press zero then star. As a reminder, this conference is being recorded. I would now like to turn the conference over to our host, Chief Financial Officer, Mike Sophie. Please go ahead.

Thank you. Good afternoon and welcome to UTStarcom's third quarter 2002 earnings conference call. Once again, Hong Lu, our CEO, and I are delighted with the company's record quarterly results.

We are pleased to update you on the business and strategic initiatives during the call. Before I begin, let me remind you that some of the information discussed during this call constitutes forward-looking statements. Actual results could differ materially from our current expectations.

To understand the risks that could cause results to differ, please refer to the risk factors identified in our annual reports on form 10K and quarterly reports on form 10Q as filed with the Securities and Exchange Commission.

During the third quarter we realized a number of major accomplishments with regards to the goals we have outlined in our communications reinvestment community. These include our most important goal of achieving unmatched financial performance. Q3 is our 11th consecutive quarter of exceeding street estimates and we are again raising guidance for the fourth quarter and full year 2002.

In fact, these 3rd quarter financial results again represent record revenues and profits for the company. In addition, our balance sheet is equally impressive and we set an all time record in terms of positive cash flow and accounts receivable collections. Finally, our bookings both inside and outside managed side continued to be extremely strong and we now have excellent visibility and are fully booked for Q4 and are 40 to 75 percent for Q1 of 2003.

Our second major goal of becoming a leading global telecommunications provider. We signed contracts in the United States to deploy our systems in several rural cities. We also announced the establishment of a North American and European sales offices in support of anticipated future contracts in these regions.

India has continued to gain momentum. We have booked several significant contracts and now have relationships with every major operator in India and feel very strongly that this market will become our second largest market over the next couple of years.

Our third major goal is being a technology leader. We were named number two in worldwide market share for DSLAM product by , and number one in worldwide soft switch deployment by . Our 3G developments continue on schedule, with excellent results in our 3G field trials in Shanghai and . We believe we have established a strong track record of delivering our stated goals, and ask you to be conscience of further benchmarks going forward. On this call, I will talk about our third quarter financial results; provide guidance for Q4, 2002, and full year 2003. I will then turn the call over to Hong, who will discuss the business and some of the company's strategic objectives. After that we will open the call for questions.

Starting with the income statement. Sales for the third quarter increased to $265.5 million, compared with $170.5 million in the third quarter of 2001, an increase of 56% year-over-year, and 15% sequentially over Q2 of this year. Year-to-date sales increased to $680.7 million, as compared to $429.7 million in the same period of 2001, an increase of 58% year-over-year. Revenue growth was driven broadly across our product line, including the continued strong demand for our wireless PAS, and IP based PAS products, and our wireline IT-DSLAM. Subscriber growth in PAS systems remains very strong in Q3. For this quarter, PAS and IT based PAS equipment counted for 44% of our sales. And PAS handsets accounted for 38% of our sales. The balance of 18% consisted primarily of wireline products. Revenues from inside Mainland China represent approximately 82% of total revenues for the quarter, while international revenues were approximately 18% of our total revenue for the quarter. Gross margin dollars for the third quarter were $92.8 million, and at 35% of sales.

While gross margins as a percentage of sales have declined slightly from 37% in Q2, the absolute dollars and our level of profitability has significantly increased. The changes in gross margin as a percentage of revenue are primary driven by the following: one, handsets increased from 36% of revenue in Q2 to 38% in Q3. The balance of the decline in gross margin as a percentage of sales was driven by changes and mixed between international and China, wireline and wireless, and market pricing pressure. SG&A expenses, excluding stock compensation expense for the quarter, were $28.3 million, or 11% of sales consistent with our target model. Research and development spending excluding stock compensation expense for the quarter, was $22.7 million, or 9% of sales, which is also right on target with our business model. Approximately 50% of our R&D staffing continues to be directed at development of next generation products, focused around our IT softswitch platform.

The balance is directed to continuing development upgrades to our PAS systems and handsets, and our broadband wireline wireless products. Our operating margins increases percentage of sales and came in at $40.6 million, or 15.3% of sales for the third quarter, as compared to $33.7 million, or 14.6% of sales in the second quarter of this year. We believe this increase in operating margin percentages is especially meaningful. To be successful on a global basis, we believe companies target operating models need to reflect today's realities, and company has to be very efficient, as our customers, the carriers, are not going to survive and make money if suppliers have excessive pricing.

Therefore, operating expenses must be managed efficiently and we - our major focus for us. As a result, we have been able to increase our operating margins, and at the same time allow our customers to realize quick returns on their investments and profits on our equipment. This, in turn, leads to a sustainable model with repeat orders that are good for us and our customers. Income tax expense for the third quarter totalled $7.7 million for an effective tax rate of 20%, consistent with our guidance and business model. Proforma net income for the quarter, excluding noncash charged for stock compensation, amortization of intangible assets, and process research and development, and investment impairment and investment impairment losses was 33.6 million or 30 cents per share fully diluted compared with 21.7 million or 20 cents per share fully diluted for the third quarter of 2001.

This represents a 55% increase year over year in net income. Continuing strong customer demand drove higher revenues in profits versus last year results. Year to date, pro forma net income was 81.6 million, or 71 cents per share fully diluted, as compared with 47.5 million, or 44 cents per share fully diluted for the same period in 2001, representing a 72% increase in net income. While we continue to be very pleased with our profitability and revenue growth, I would like to mention that we also are extremely happy with the strength of our balance sheet and positive cash flow from operations. Cash flow from operations was positive 83.2 million in Q3 and 136.3 million year to date. As of September 30, our cash and short-term investment balances were 366.2 million, as compared with 402.8 million as of June 30. The decrease in cash balance can primarily be attributed to the common stock repurchase at a cost of 72 million, which occurred in August, as well as a pay down of 22.7 million from our short-term lines of credit and long-term debt. As of September 30th, we have no debt on the balance sheet.

Accounts receivable day sales outstanding have also improved both sequentially and year over year to an all time low of 61 days for the quarter, as compared to 111 days at the end of Q3, 2001, and 89 days at the end of Q2 this year. The team has done an excellent job in focusing on collecting cash and we are very pleased with our DSOs as we believe these combined with strong balance sheet metrics speak to the health of the business. Forward-looking, we anticipate the DSOs will see year over year improvement in Q4 this year and should continue below 80 days.

In Q3 our inventory turns improved to 2.5 and our inventory balance came in at 285.6 million, as compared to turns of 2.3 at the end of the second quarter. At the end of the third quarter, approximately 55% of our inventory is at customer locations. We continue to recognize revenue and convert inventory into cost as goods sold when we obtain a final acceptance certificate for our products from the customer. Therefore, the product at our customer locations for which we have not yet received final acceptance remains in our inventory and provides better visibility into future quarter's revenues and profits. Inventory turns are targeted to continue to improve over time.

Guidance going forward, we see strength and growing demand for our products both inside mainland China and on a global basis and our visibility continues to increase. We now have approximately 100% of Q4 in backlog and are 50 to 70% booked for Q1, 2003. Guidance for the fourth quarter of 2002 as follows: we anticipate revenues to be in the range of 280 million, which increases our guidance for total 2002 to range between 955 and 960 million, up from the 900 to 925 million given on the Q2 conference call.

Gross margins for Q4, 2002 should range between 33 and 35% due to slightly higher handset mix, a ramp up of expenses in India, and reflective of continuing worldwide pricing trends in telecomm. There'll be a slight increase in operating expenses in the fourth quarter. We are also raising our guidance for earnings for Q4 and the balance of 2002. Pro forma earnings per share guides for Q4 is targeted between 33 and 34 cents. Full year 2002 earnings should be approximately $1.02 to $1.03, up from our previous guidance range of 99 cents to $1.01.

As we mentioned in the last call, starting in 2003 we will no longer provide pro forma results, but only reported results. To help with the comparison we are also providing guidance on reported results from Q4 and total year 2002. Our guidance for reported Q4 earnings per share is in the range of 29 to 30 cents and total year reported earnings per share of 93 and 94 cents.

For 2003 guidance to adjust between pro forma and reported results, the impact is approximately 12 to 14 cents. The difference between pro forma and reported is driven primarily by deferred income stock charges, amortization of intangibles and impairment of adjustments.

As a comparison the difference between pro forma and reported on our Q3 and Q4 this year is estimated around seven cents. Forward looking, I'm pleased to announce that toward our goal of becoming a leading global communications supplier, we are in the process of finalizing our largest wire line contract to date. Valued in excess of 100 million with a major telecommunications operator in India.

At this time we are not at liberty to disclose the name of the operator, but feel it is material enough that we are building it into the guidance for 2003. We look forward to discussing the details of the contract with you in the near future. We believe both our wire line and wireless business will be major drivers of our long-term growth and are very enthusiastic about the worldwide opportunity.

In support of this $100 million plus contract, in 2003 we see a short-term ramp in our R&D and operations spending as it relates to our ramp up costs in India. These costs and revenues are built into our guidance and reflect in the gross margins and spending guidance we are now providing. We believe as we ramp the India business, not only are we gaining more diversity and long term growth opportunities but also our results will move back toward the upper range of our target model.

As always, with our guidance we want to be conservative and reflect the market conditions and opportunities we see. Q1 2003 should range between 255 and 265 million with sequential growth of 10 to 12 percent from Q2 to Q4. Q1 reported earnings per share should range between 22 and 23 cents.

Full year 2003 guidance is as follows. Revenue should be in the range of 1 billion, 275 million, a growth rate of approximately 31 percent. Earnings per share should range between $1.18 and $1.22 as compared to our recorded earnings per share of 93 to 94 cents in 2002. A growth of 28 percent.

Revenues from Mainland China will be approximately 75 percent of total revenues in 2003, as compared to 85 percent in 2002 with a growth rate of approximately 20 percent over the current year. Revenues outside Mainland China are anticipated to be approximately 25 percent of our total revenues, with a growth rate of approximately 90 percent over 2002 as UTStarcom continues to expand as a global supplier.

Key markets will include Japan, India, Vietnam and Latin America. By product type, the revenue breakdown is targeted as follows. Wire line system between 20 and 25 percent, reflecting growth in both narrow bad, DLS and broadband IPD slam and a growth rate of approximately 50 percent over the current year.

Handsets should run between 35 and 40 percent, reflecting increasing subscriber demands throughout China and on a global basis and the success of our internally designed and China manufactured family of handsets representing a growth rate of approximately 35 percent over 2002.

On wireless systems, those should range between 40 and 45 percent of our sales reflecting continued expansion and new deployment of past and IP based path networks both inside and outside of Mainland China representing a growth rate of approximately 20 percent over 2002.

Gross margins for 2003 should range between 33 percent and 35 percent due to a slightly higher handset mix, a significant ramp on the expenses in India and reflected of the continuing world wide pricing trends in telecom. have turned up slightly in absolute dollars each quarter.

Our target model is drawing SG&A at 11 to 13 percent for 2003 and R&D should turn up slightly match the dollars as well as quarter. Our target model R&D at 79% for 2003. Interest net and income expense, we are guiding to a net gain of approximately 3 to 4 million per quarter, reflecting lower bank borrowings and a company's strong cash flow. On tax, our proforma tax rate for 2003 should be approximately 20%. Our long-term tax rate should continue at 20% to 25%, the tax are expiring in China, but we are still only taxed at 15% of the profits allocated China. And at a US rate of approximately 40% on all other profits. On a blended basis, this allows us to continue to enjoy a rate of 20% to 25% in the long-term. To close the discussion, once again, we are extremely pleased with our financial performance. We had an outstanding third quarter with record revenue, profits and bookings. We have continued to add new customers, deploy new products globally, and the balance sheet is also showing record strength reflecting our ability to generate positive cash flow the company. Forward-looking, we anticipate continued top line and bottom line growth. Now I would like to turn the call over to Hong to discuss the business and strategic developments.

Thank you Mike. I would like to echo Mike's positive sentiments and welcome every one to our third quarter earnings conference call. As Mike mentioned, this quarter marked another record for UTStarcom in terms of financial performance, and what's extremely strong in growth in our overall business in mainland China and globally. I am pleased to give you the update on our business. As you know, UTStarcom is the leading provider of wireline, wireless and broadband access equipment. While historically we have rightly focused on China market, we are quickly and effectively becoming a global leader in telecommunication solutions. Before I get into the update on our business, I would like to take a moment and address what we believe are some common misconceptions about the company. these include the belief of - that we are one market, one product company and that our past product is an interim and less advanced technologies and that PAS could be discontinued at any time by the Chinese government. There is a perception that China is UTStarcom's only market, and that China Telecom is our only customer. That is not true. Based on the tremendous growth of opportunity, China has been historically, and will continue to be, strategic and important market focus for us, we certainly don't feel that our presence in China is in anyway limited factor. Because, China continues to enjoy a healthy GDP growth rate, between 7% to 8%, more importantly, China is the largest and fasted growing telecommunication market in the world. Moreover, China will add up to 40 million fixed line phones and million mobile phones by the end of 2002. China is also largest market for major operators such as Motorola and . In summary, China is the market in which companies can obtain critical volume and deploy the most advanced technologies, thereby using it as a platform for successful . Furthermore, we now have three major operators as PAS customers. China Telecom, China Netcom and China Railcom. 20% to 30% of this year's total fixed line subscriber addition in China will be on PAS systems. In addition, larger cities, such as continue to be approved and are growing our PAS as it is most cost effective method to offer basic voice and also allow for migration to data and modem media. China Railcom just signed another contract with us for $1.6 million. China Telecom identified PAS as a significant driver of their revenue growth in their IPO documents. Completing our success in China and our ability to very quickly and effectively become the global leaders. To that end, we promise and achieve 10% of the revenue in 2001 outside of mainland China and have projected 15 to 20% in 2002 and 50% by 2007 outside of mainland China. As an example of our worldwide success, we have had signed sales in Japan, Taiwan and India, as well as significant customer wins and a business potential in Vietnam, Latin America, and North America. In addition, we believe India will be our second largest market within the next two years, Vietnam should generate revenue over 100 million in the next couple of years. While we continue to increase our market position in Japan and gain traction in North America and Latin America and Asia.

There also continues to be the perception that PAS is the only product in our portfolio. In truth, UTStarcom core technology was its AN-2000 digital loop carrier and narrow band wire line access product. Today, we offer a full product portfolio that includes PAS and AN 2000 both in narrow band and in broadband IB DSLAM, mSwitch, our soft switch product line, and class 4 and class 5 replacement that can be configured in a fixed or wireless environment. In our 3G cellular platform, to address next generation needs, we have a significant product deployment program in place.

As reported recently, according to two leading research organizations, in the second quarter we were number one worldwide soft switch market share, number two DSLAM worldwide DLSAM market share with the sales in Japan and China and Taiwan.

Finally, contrary to the belief of some, PAS is very much stable. It's a state of the art technology that represents a long-term solution for carriers and their customers. PAS is a cost effective robust technology that bridges the gap between traditional wire line, which limits the customer to the home, and full wireless who's turf are beyond the means of a significant portion of the world's population. PAS is positioned as a complement to the fixed line service and less expensive and quicker to deploy than . PAS is capable of being used in a car going up to 100 kilometers per hour and can achieve 64k data rates around the short messaging, web-surfing, email, mp3 downloads and etc.

Finally, PAS is quickly becoming the third most widely adopted wireless in the world. In summary, we clearly believe that UTStarcom has the right technology service serving the right market that represents both near and long-term growth opportunities. Now I would like to move on the update on the worldwide operations beginning with China.

With regards to economy and market trends in China, according to a national bureau of statistics, China has gross domestic product is expected to reach 10 trillion by the end of 2002. Or it's 1.3 trillion US dollars for the first time in their history. China is also predicted to maintain at least 7% GDP growth for the next several years. This clearly turned itself into increase in purchasing power by consumers such as the purchasing power increases so will the demand for the telecommunication services. UTStarcom's technology, functionality's, the cost-effective price will continue to be very compelling for the consumer and will provide the companies with the critical momentum for the long-term growth.

The telecom industry has remained equally strong in China. As of August 31st, the total number of telecom subscribers in China reached 388 million, a net addition of 63 million for the first eight months this year. With a steady growth for the six and the mobile services, fixed line subscriber reached 203 million with additional of 23 million of a new subscribers.

Mobile subscribers reached 185 million with additional of 40 million new subscribers. This continue robust growth shows that China telecommunication market still has much potential. And as the consumer demand for more mature and diversified product offering grows it will provide an even larger market opportunities for all segment of the mobile, fixed line and the wireless services.

As most of you know, one of our major customers, China Telecom, has announced their plan to go public on both the Hong Kong and the New York Stock Exchanges. In fact, they begin their formal row show on October 8. This is expected to be the largest public offering in the industry this year and one of the biggest overall. China Telecom is going to be listed in the business in one of the four territories, Shanghai's, , and province.

We believe this is a positive development for UTStarcom for several reasons. First, China Telecom already substantial amount of the cash from this IPO allow it to focus its spending on high growth product that generate profits. Second, as a public company, China Telecom will have the ability and the flexibility as well as financial resources to leverage their business strategy and benefit from being a market driven company.

Third, it will provide enhanced credibility and a visibility for China's market, particularly around U.S. investors. Finally, we think their successful IPO will facilitate further deregulation and transparency for China's telecommunication industries.

In short, we see this as a very positive move for both China Telecom and UTStarcom. Now I will give an update on our past success in China. growth remained very strong in China during the quarter. On September 30 this year, the total number of our past subscriber in China reached 10 million and making China the largest deployed country in the world.

UTStarcom network increased to six million users, affirming our 55 to 50 percent market shares. The number of the cities in which UTStarcom system has been deployed, increased to 306 cities in Q3 as compared to 268 cities in Q2 and in install system capacity increased to 10 million compared to 8.1 million at the end of the Q2 this year.

In addition, we announced over 200 million in past contract in the Mainland China in the third quarter. Our effort to promote the value added services over the past systems platform are in line with our plan and many cities have finished their system installation of value added systems.

We are now working with a more than 30 content providers to offer more than 100 different type of application on our value added service systems. We believe that data and a value added service will be a key factor to continue to drive new growth.

Our 3G R&D system continues run well in and Shanghai's. On September 23 we participated in the third annual 3G Mobile China International Summit in Beijing and share our insight in 3G development with the industry leaders from and the major operators. Based on the feedback from this forum, we believe that Chinese operators and the government are still very optimistic about 3G deployments in the next few years.

The key reason for this being that China current 2G systems cannot fully satisfy the demand due to technology upgrades a frequency limitations. Therefore, 3G will provide an opportunity for added capacity and a functionality as well as allow all operators to join in competition in 3G area as well. As the Beijing Telecom tradeshow from October 29 to November 2 this year, we will again demonstrate our complete 3G offerings with a multiple data and voice applications. The application will include videophone calls, 384k data application, and 3G data cards for PDA, and a web browsing with a commercial grade 3G handsets.

With regards to our broadband engine initiatives, in this third quarter, we also announced a contract with a China Telecom for 80,000 lines of IP-DSLAM in the province. This is our first major access - major success in China for our industry leading IP DSL platform, and indicates important access to China broadband market. Besides the commercial contract for the China Telecom, we are also actively bidding for the multiple broadband projects with China Netcom and China Unicom and IP-DSLAM systems, and are doing the technical trials for the in different locations. We have found that China operators are now quickly adopting the most advanced technologies, such as IP based broadband solutions, and their investments are shifting from Legacy ATM base system to IP solutions.

The feedback for the market tells us the new ADSL contract next year were mostly based on IP protocol. As one of our most competitive and fast growing broadband market in the world, China's major broadband operator are now pushing hard for the of the broadband services. China Telecom and China Netcom are now conducting promotional campaigns to cultivate the broadband market. industry experts, installed capacity of ADSL in China will reach 6 million by the end of 2003, we believe our large scale manufacturing and market leadership in IP DSL products worldwide will help us capture significant share in the market in China. Now I will like to turn the focus to our international sales and development. As you know, we are continue to our planned focus on growing our business outside of Mainland China, and believe we are our stated goals, achieving between 15% to 20% of our sales outside of Mainland China in 2002.

As evidenced by our recent and appending announcement, our list of customers continue to grow. In India, we are in the process of finalizing our largest wireline contract today, that in excess of $100 million to deploy our wireline platform. We will be able to provide further details of this contract as we begin shipping in the next few quarters. We also expected announce additional sizable contract in Q4 and 2003, where India is becoming our number 2 market in terms of revenue, behind Mainland China in the coming years. We are now have established working relationship with all of the major operators in India, and believe that there is a significant growth and opportunity in both wire and wireless applications. We did an update in the third quarter conference call, discussing upcoming regulatory policy decisions regarding a limited mobility service in India.

Today, the Supreme Court has not yet ruled out - ruled on legality and a pricing structure of a limited mobility service in India. And there is still no definitive day for that ruling. However, as we noted on the Q2 call, the ruling will not have any effect on UTStarcom's ability to deploy our PAS system in India, as we can deploy our system either in limited mobility or extended cordless capabilities. Extended cordless is not being challenged in the court system and is illegal for deployment. In tier one our customer feature now has over 360 thousand subscribers using PAS systems. We have also recently received an order of 7 million to expand the network in Tai Pai. Going forward, we expect further expansion, which will encompass more cities on the island as well as increase in capacities.

Also in Taiwan our customer, Eastman Broadband Telecom has continued deployment of our wire line AN-2000 product offering both voice and ADSL service. We have also placed additional incremental expansion orders from them.

In Japan, in the third quarter, we made shipment of, and recognized 37 million of our revenue of our IPDSL platform from Technology to support the BB Japan service under the original contract announced in September 2001. We have also received expansion order from technologies.

In Vietnam, we have currently installed PAS systems in the two largest cities, Hanoi and Ho Chi Min and plan to launch service in Q4. We further believe that there are significant expansion opportunities both in Ho Chi Min and Hanoi as well as in new cities throughout the country. With the revenue potential of 100 million in the next couple of years, we also believe that there is a huge handset opportunity in Vietnam.

In the United States, we recently announced that we signed a contract with an interstellar communications to deploy PAS in several small cities throughout the country and we expect to launch the first city in the first quarter of 2003. Anticipated revenue from these initial contracts can reach up to 50 million dollars. We further believe that these contracts are examples of a deployment opportunity for PAS throughout the US and we are very pleased about that future contracts for PAS as well as our ADSL and softswitch offerings.

In the Central America and Latin America region, we will be launching PAS trial in the three different countries and see additional significant opportunity in our IP DSLAM products. The rest of the world in terms of expansions into the rest of the world, we expect to make more announcements during the fourth quarter regarding the significant contract in new countries and with a new customers who have decided to deploy the wireless and the wire line solutions. We are currently adding staff to expand into some new markets in Indonesia, Thailand, and region. We see some great opportunity in those geographical regions for each of our products.

Moving on to our R&D initiatives, we have continued to grow our R&D resources. At the end of Q3 we had 1,230 people in R&D. we are continuing to invest in the deployment of our new wire line and the wireless products, which are designed to meet the demands for the latest telecommunication and technologies in the market around the world. Our design effort has been focused on emerging trends such as migration from narrow band to the broadband in wire line. CDM or circuit switch to IP base packet network and from wire line telephony to wireless access and 3G mobile communication networks.

As an indication, during this quarter, we have seen much broad acceptance by operator in China, of our soft switch platform in both wire line and wireless application. We also continue to invest in our broadband product lines.

For example, we expected to enter a trial this month in China for our new VDSL offering. We feel we extremely competitive in this areas. This does conclude our discussion. I would like to reiterate that we have very strong and productive third quarters and I'm extremely pleased with both our progress and our outlook.

We once again exceed estimate in revenue and profit and are raising our guidance. We are 80.3 million cash flow position from operation from a quarter and record booking and subscriber growth continues.

Progress continuing our objective of becoming a leading global provider of a telecommunications solutions. Our R&D initiatives continue to pace and position as a global technology leaders. Now I like to open for the call to the questions. Operator? Operator?

Yes. Ladies and Gentlemen, if you wish to ask a question please depress the one on your touchtone phone. You will hear a tone indicating that you have been placed in queue. You may remove yourself from queue at any time by pressing the pound key.

If you are using a speakerphone, please pick up your handset before pressing the numbers. One moment please for our first question. And our first question comes line of of Merrill Lynch. Please go ahead.

Hi Hong. Hi Mike.

Hi. How are you?

Congratulations on a great set of numbers. I guess I was wondering if you could update us on ASP trends and also how that's impacting the economics for the carriers?

OK. I think I'd like not to comment specifically on ASP by our product line for competitive reasons but I think historically what we said is we see on annual basis about a 20 percent price erosion.

More recently we've seen the pricing on annual basis declining maybe twice that. You know, reflective of, you know, the increasing opportunity that people are seeing for as well as, I think it's no secret that on a global basis, you know, people are looking very much for telecom opportunities to sell equipment.

In response to that, what we're doing is we're, you know, very much focused on cost reduction across all our product lines, wire line our handsets as well as our wireless. I know we continue to take significant costs out of our products so that we can maintain our margins along the guidance that I've given you.

Now clearly we think that the continuing downward moving in prices is very advantageous for the operators that it allows them to get, you know, quicker return on their investments. And again, we think this is very key to being successful is that they need to make money. We need to make money and the consumers need to be able to afford the services.

So you can get all three things lined up it's very repeatable and you get a lot of repeat business, which we do.

Right. And has that started to factor into the decision making in places like India and Vietnam in terms of improving the outlook? Because I guess the rate of ASP decline is probably greater than some of the carriers we have expected or budgeted in their initial plans.

Yes. Generally we see this trend is a very challenging but it is very rewarding to us. In fact, we have seen much broad acceptance by operator in China, of our soft switch platform in both wire line and wireless application. We also continue to invest in our broadband product lines.

For example, we expected to enter a trial this month in China for our new VDSL offering. We feel we extremely competitive in this areas. This does conclude our discussion. I would like to reiterate that we have very strong and productive third quarters and I'm extremely pleased with both our progress and our outlook.

We once again exceed estimate in revenue and profit and are raising our guidance. We are 80.3 million cash flow position from operation from a quarter and record booking and subscriber growth continues.

Progress continuing our objective of becoming a leading global provider of a telecommunications solutions. Our R&D initiatives continue to pace and position as a global technology leaders. Now I like to open for the call to the questions. Operator? Operator?

Yes. Ladies and Gentlemen, if you wish to ask a question please depress the one on your touchtone phone. You will hear a tone indicating that you have been placed in queue. You may remove yourself from queue at any time by pressing the pound key.

If you are using a speakerphone, please pick up your handset before pressing the numbers. One moment please for our first question. And our first question comes line of of Merrill Lynch. Please go ahead.

Hi Hong. Hi Mike.

Hi. How are you?

Congratulations on a great set of numbers. I guess I was wondering if you could update us on ASP trends and also how that's impacting the economics for the carriers?

OK. I think I'd like not to comment specifically on ASP by our product line for competitive reasons but I think historically what we said is we see on annual basis about a 20 percent price erosion.

More recently we've seen the pricing on annual basis declining maybe twice that. You know, reflective of, you know, the increasing opportunity that people are seeing for as well as, I think it's no secret that on a global basis, you know, people are looking very much for telecom opportunities to sell equipment.

In response to that, what we're doing is we're, you know, very much focused on cost reduction across all our product lines, wire line our handsets as well as our wireless. I know we continue to take significant costs out of our products so that we can maintain our margins along the guidance that I've given you.

Now clearly we think that the continuing downward moving in prices is very advantageous for the operators that it allows them to get, you know, quicker return on their investments. And again, we think this is very key to being successful is that they need to make money. We need to make money and the consumers need to be able to afford the services.

So you can get all three things lined up it's very repeatable and you get a lot of repeat business, which we do.

Right. And has that started to factor into the decision making in places like India and Vietnam in terms of improving the outlook? Because I guess the rate of ASP decline is probably greater than some of the carriers we have expected or budgeted in their initial plans.

Yes. Generally we see this trend is a very challenging but it is very rewarding to us. In fact, we see our product compared to five years ago in China - we can deliver our equipment at 20th or one-fifth of the cost that we had been offering five years ago. And those product has been really - has been able to deliver deliver to both Vietnam and also to India, and we believe that the current country's capability to buy those kind of equipment is meeting our product capability. In other words, our pricing is really giving them a lot more affordability attractive to their market segment. That's why we all of a sudden really realize there is a tremendous opportunity ahead of us in those regions.

Thanks.

Thank you, our next question comes from the line of Please go a head.

Hi. Good afternoon everybody. Mike, first of all a question for you. Cash-flow, very good during the quarter in accounts receivable down. You've always struggled with the long-term before, and you haven't grown revenues outside of China Telecom affiliates that much. Can you comment a little bit more about why we have seen - we are seeing so much improvement and why you think you can keep it below 80 days?

Well, again, I think - we have already said that we felt that DSOs would continue to improve within a year sequentially, each quarter, and also year-over-year. Yes, I will be honest. You know, we did better this quarter than we thought we were going to do, as we ended the quarter. And I think what this is reflective of is that products are very popular, so we can always ask for payments more quickly, and we can get it. But also, I think what you are seeing is that as China opens up, the DSO cycle is shrinking in China compared to what it was historically. So again, that is why I think we are very comfortable that we will be able to keep it below 80.

that China Telecom and many other operators are going to be - in the future become a public companies, and that they will also much more alert about making their accounts current. So that's also have been giving us a tremendous help as well.

And so that would be a situation that will continue into the future?

We do believe that it will be improved, but 61 days is something that we do not expect to continue to do that, but we saying that we are targeting around 80 days.

Right. Understood. On PAS handsets, can you comment on how many PAS handsets you expect to sell into the market place to date, or for the total of 2002, and where those handsets stand competitively to handsets.

Well, the number of handsets, we are not really releasing it, but I can give you the overall compared to last year's, that we are growing about 3 times more than our last year's, so you can see that - the acceptance of the market is actually have quite significant, and as far as the compared to GSM, we always has been a very close to - or similar pricing with GSM, and we are probably slightly less expensive. But a reason that we are doing well is really not the cost of the handsets, but the PAS, a lot of people can afford to pay the and that's why it is a very important strategy to work with the fixed line operator. They have - and the key challenge is, how can we offer a system that they will be able to get their investment back, even with the fixed line tariff. And we have been able to find a formula for our operator to make a profit. And by using our equipment, and still charging the same tariff, that's why we have been seeing such a success.

And Hong, in India, would this large contract for , you are going to - are you - is it fair is it fair to characterize that you're giving some margin on that product for initial volume shipment and where will that product be manufactured and will that be controlled by UTStarcom?

It is going to be managed by us in China and yes, it is very challenging for us but we also see it's a tremendous opportunity as well. We do, for our long-term basis on our margin we would like to be able to maintain our, as a company, overall margin to stay around our target number. So this is going to make us a lot more competitive throughout the world. In fact, it will give us a much stronger position to compete, not only in India, but the rest of the world.

OK. And final question for Mike, in the difference between the pro forma and GAAP, it's been, amortization and stock compensation, is there an impairment charge that's there in Q3 that was not there earlier and will that continue going forward in Q4?

We have an impairment charge in the current quarter, about 1.7 million dollars. I think for the 9 months, our impairment charge is about 2.8 million dollars. I think with the current stock market and it's obviously up this week, but I think in general, yes, valuations on investments have gone down so we're reflecting that in our impairment charge. We built in some assumptions on continued potential for impairment charges as we go forward as well, but we're hoping they are not significant.

OK. Thank you and great job.

Thanks.

Thank you. Our next question comes from the line of Dale Pfau of CIBS World Markets. Please go ahead.

Yes, good afternoon gentleman, it's Earl Lung calling in for Dale. Congratulations on a nice quarter. Mike, I had a couple of questions with regards to the ASP that you had talked about. Are you expecting that to continue at that rate for the next several quarters, or is this kind of a, what do you see things trending in terms of that ASP decline?

Well, I think that what I was talking about was on an annual basis. So I think that we've got some assumptions built in that they come down maybe a little bit more as we go into Q4, first part of Q1. But we're kind of seeing a bottoming of our gross margins here, Q4, Q1 of next year and that's reflective of not only what we're seeing in the industry but it's you know, Hong mentioned on India, the ramp up cost associated with India is a large volume opportunity there. So we do see that, that bottoming. We do anticipate over the next several years though, that pricing will continue down. Over time, that's just the nature of telecom. And so we'll continue to focus on cost reductions.

Earl, now as I said earlier, compared to 5 years ago, we were selling in China. Today we're selling the same equipment at 1/5 of the price. I mean, this is a true reality and we continue to see that kind of a pressure is coming. Now during those 5 years, our company has grown not only from a top line also the bottom line, too. And this is a continuation of our company's challenges as well and we always anticipate the price will come down every year.

Right. And if you look at the split, are you seeing that roughly across the same for your 3 different product lines or are you seeing some exaggeration there that maybe skewing that a little bit across your different product lines?

I think we see pricing across the product lines. You know, some quarters it's more pronounced on, it just depends on the quarter, which one is more pronounced, but I think it levels out pretty much across the product lines.

And then, as we go on a longer term rate, Mike, on your tax, are we expecting that we're going to continue to see roughly in the 20 to 25% range as you continue to have this 15 percent tax in China only, or is there a limited time frame on when that when end but that spike up to a new rate?

We see the 20 to 25 percent sustainable for the multiple years into the future and so we'll continue to use that as our model. The 15 percent rates should hold. We also have opportunities for additional tax incentives that we've not built into the tax guidance.

OK. And Hong, if you look at where is now on a cumulative basis, I think you mentioned that total install capacity was 10 million lines but you were also looking at 10 million subscribers at the end of Q3. So can you talk a little bit about what is the current situation with the network and are we expecting as we're - are we to assume we're at capacity right now with what's installed out there?

I believe I said we have a 10 million capacity but we have six million total subscriber. We exceeded six million capacity at the end of Q3. So it is not full. In some area we do see that the system has been full and someone has just deployed. So overall we're about 60 percent full.

OK. And so the 10 million was just for UTStarcom deployment then?

That's right. Yes. That's right. About 10 million capacity is only for us, six million is the UTStarcom's. I guess I understand your question now. Overall we do have the 10 million in China. It is not only UTStarcom but with other suppliers put together.

OK. And do we see some type of seasonality in the second quarter with the big jump that we had or can you explain, you know, we had a huge ramp from Q1 to Q2 in terms of subs. Now we're kind of leveling off a little bit into Q3 and would we expect another ramp in Q4?

Would it continue to grow at a same rate from Q3 over Q2?

Well actually the ramp is actually coming in in the Q3 rather than in Q2. The - obviously there's a seasonality's. The big ramp would be in - normally the Q4 and Q1 is the faster growing and Q2 and Q3 is relatively slow because of the seasonality and just the nature of how they shop.

And it's very similar to U.S.'s Christmas seasons. And China in Q1 is their New Year's and during the Q4 generally speaking they are in a more of a spending mood towards the Q4.

Are you finding that - last quarter you had talked a little bit about the higher power equipment. Can you tell us from a competitive perspective how that seems to be playing out as your operator customers look at the higher power versions that can offer more capacity versus the original version that you had 12 to 18 months ago?

Yes. We had actually been switching every system from 10 milliwatts and 200 milliwatts to all 500 milliwatts. So, today, we only offer 500 milliwatts.

So we have been seeing them as improved significantly and our acceptance in the market has been very, very positive.

Do you see that as being able to continue to capture more share than what you would have normally had at the lower power level?

No. We don't have more lower power. We, actually, we don't sell anymore lower power other than the indoor. And our market share - we are continue to see around 55 to 60 percent market share percentage. And maybe a slightly higher percentage in the .

OK. I just - one final question. If we shipped over to India. Could you talk a little bit - even without the Supreme Court ruling and - is it on an indefinite hold at this perspective at this point in time in terms of unlimited mobility, or where are we expecting any type of a ruling before the end of 2002 right now?

Well, I think that some braver operators are still going to continue to deploy and we have seen some of them are continuing to do that. And so, but there is a sort of risk. And we cannot tell when the regulatory, the result will come out officially, but we had seen our customer has been requiring our information from our PAS and we are continuing to do our trial with our in New Delhi.

And, as you look into '03, do you see significant competition in the India market for Pas versus what you see in China right now, or do you think you're kind of in the lead there?

India we had just started. We really don't have any, the leading position, or there's really nobody has any leading position in that respect. But we think we are not going to see a lot of PAS type of product in India. We will start with a wire line business. And I think we need to move on, too.

Thank you.

Sure.

Thank you. Our next question comes from the line of Jeff with Lehman Brothers. Please go ahead.

Thanks. Hi. I have 2 questions for you folks. The first is I wanted to know if you would mind reviewing the competitive landscape in the non-PAS products and which companies you find yourself bumping up against and also given that infrastructure, wireless infrastructure was a bit lower as a percentage of sales this quarter. Was that actually down on a sequential basis from June and if so, if you could discuss the dynamics there, I would appreciate it.

OK. I'll answer the first, who's our competitor in the wire line or the broadband side. In China, we are looking at the and the Huawei, ZTE and the is our competitive, competitors and, in China. But outside of the region, outside of China, we do see in certain regions have different competitors, such as in Japan we don't see but we see and . But anything outside of Japan we see and Lucent and that's our major competitors for the wire line business.

Regarding the wire line shipments as to a dollar point of view, yes, they were down slightly in Q3 versus Q2. For the year we've always projected 15 to 20% is going to come in right on target. You know, we had some very large contracts and so the deployments are somewhat lumpy. So it'll swing from quarter to quarter. What we would tell you, though is it is growing very rapidly and next year it'll be between 20 and 25% of our total revenues for the year.

Great, thank you both very much.

Sure.

Thank you. Our next question comes from the line of of Securities. Please go ahead.

Thank you very much. A couple of questions here. With respect to Japan and the Tech contract, how much is left on that to ship? It was originally 100 million and I think you shipped 37 million in this quarter and I noticed you had some large shipments in the prior quarters.

Yeah, Andy, in regards to TC, we've actually exceeded the 100 million. We cumulatively shipped close to 120 million dollars in revenue recognition. As we've mentioned on the last call, we have got significant expansion contracts and we do see the business continuing in Japan next year, not only with them but with other customers in Japan. Our customers asked us not to go into too much specifics into how much more business we've gotten from there and the dynamics. They want to release that to the market. But the business is very healthy.

So that's why you haven't had any additional follow on press releases in connection with this?

Correct.

Hong, I'm curious to ask you, in how many cities, new cities has PAS been rolled out in mainland China this year?

We have, we need to...

I've got the quarter off the top of my head, but give me a few minutes and I will help you with the total here.

I'm sorry that we don't have exact number of cities now. We may be able to let you know, or you can call us back and we can give you more information.

Sure, can you give any guidance at all in terms of your expectations for roll outs in new cities in the year ahead and whether there is any material difference between China telecom and China netcom in terms of south and north regions?

I'm sorry, I think...

We're seeing on typical between 20 and 40 new cities on a quarterly basis. I couldn't find the number of new cities for the year to date, just did the three quarters off the top of my head so I'll have to get you that number later. But we do see new cities on a basis of 20 to 40 per quarter is typically what they've been running. And I think your second part of that question was in the north versus the south?

Yeah. In terms of the year ahead whether there is any material difference in terms of where you see roll outs occurring?

We're seeing strong roll outs in both the north and the south and you have to understand the relative size of the operators. China telecom, which is the south, has about 70% of the market and China netcom in the north is about 30%. So on a relative basis, there is going to be more with China telecom than with China netcom. However, with the split they both now have the ability to compete with each other in their respective territories. So whereas to date, everything has been in each person's own geography, where they are rolling out PAS. There is the opportunity that they will roll PAS out in the other person's geography on a going forward basis.

One final question for you, Mike, in terms of doing business outside mainland China, and perhaps even within mainland China, are you seeing any real changes or any concerns in just underlying credit conditions in terms of how you anticipate doing business in the year ahead and what's happening in the financial markets?

Well, I think we want to continue to be very conservative in how we do business and so we're primarily using and advanced payments outside of China. You know, I think we would consider credit terms if it's a you know, a very strong reputable customer as any other company would. But we're not going, we don't want to be exposed on our receivables.

And as far as in China, we haven't seen any credit issues and we have a historically have never run into that issue. So it's a very, very good place to do business.

Great. Thanks.

Sure.

Thank you. Our next question comes from T.C. Robillard with Salomon Smith and Barney. Please go ahead.

Thank you. Mike, I'm sorry, I didn't catch it. What is the rationale that you're going to go to a non pro forma earnings reporting as we go into 2003?

Well, there is two things driving it. One is, I think, clearly, you know the press over the summer and the general sentiment, you know, questions a lot of company's pro forma and why use pro forma versus reported? I think when we first went public there were some more larger differences between pro forma results versus reported. You know, they were all non-chaos deferred stock compensation was an example, you know, typically, in process R&D could be another example. Now, if you take a look at our results, you know, we are very profitable and there is just, on an absolute basis there is not huge difference between pro forma and reported and we think in this spirit of transparency and simplicity it makes a lot more sense just to go straight to reported results and not do re pro forma.

OK. So if we wanted to get the gist on models to kind of get an apples to apples kind of historically to look at trend lines and growth rates, we should - we can just go back on a GAP basis and just use reported ...

Exactly.

... and not restate.

Exactly. Because we've always put out both sets up numbers with a very clear reconciliation between the two.

OK. OK. I just wanted to make sure there was nothing else that was going to fall in there. I did have a question, though, and I'm kind of looking at, you know, your tax rate for the quarter for example. Unless I'm missing something, I'm coming up with about 18.5 percent on a pro forma tax rate.

And I thought you guys had said it was 20 percent. And I'm just wondering - because that effects - to me that's about a penny a share. So I'm just wondering if I missed something?

It is 20, . I'd be happy to go through the model with you, you know, off line but you might - there might be something backed out or something that's throwing it off the percent between what your looking at versus the way we calculate the 20 percent.

Yes. That would be great because I was just using your pro forma income statement. That's all.

Yes. We've used 20 percent every quarter. I think maybe that the 20 percent is best calculated off the reported and we use the same tax because that is a cash line item, the reported. So we just, we calculate the 20 percent on the reported, you know, the reported release.

And we use the same tax number for pro forma as well.

OK. Yes. Because then maybe there's an error because there's 7.7 on the income tax over the 41.3 for the income before taxes on your pro forma statement comes out to less than 20. So, we can go over that later.

But can we expect further share buy backs going forward or is the share rate that you've got right now, the 113, 114 million, kind of what we should be modeling going forward?

Well, you asked two questions there. At this point, we're not contemplating a share buy back. However, you know, that rate drawing cash flow from operations and I think we just have to kind of see what happens over time.

The second question regarding the absolute share number. We did do the buy back of six million shares in August, at the very end of August. There was only one month for the quarter in which those shares were retired.

And so, you know, use a weighted average methodology on your share count. So we'd actually have the full three months reflected in the fourth quarter.

OK. OK. And if I'm looking going forward, I mean, it seems to me obviously you're gross margin expectations have come down pretty substantially on a go forward basis. This doesn't look like a one or two quarter thing. I mean, is it fair to assume then as you guys continue to grow outside of Mainland China that it's actually going to be less profitable growth because of, you know, things like what you're witnessing in India in terms of just kind of a lot of additional expense kind of having to kind of get a new market up and running?

Well, typically - and I'll let Hong comment as well. Typically, the business outside of Mainland China has had a higher gross margins than inside Mainland China. I think what we're trying to do on this new guidance, is we're seeing a couple things.

One is, you know, we are seeing, you know, pricing world wide but we're seeing handsets moving up a couple of percentage points in our overall mix but also this India opportunity that's very significant and very large. There are, you know, quite a bit of costs associated with ramping up to support that volume.

I don't think it's any secret that, you know, it's a pretty competitive market there. But, no, I would not want to categorize the international market as being less profitable than China and we fully expect our margins to move back up over time.

OK. But then if I look over the next five quarters or so it looks like that margins still kind of in the 33 and 35 percent range. So then basically what you're telling us is we should expect to see continued really challenging pricing environment?

Well ...

As Mike said, it really depends on the market to market. We do have some market with a lower volume. We do have a higher margin and with some of the market, such as China and India, typically we have seen a more of a price competition than others. But as a whole, we are looking at the top line growth and the bottom line and we feel like we can continue to manage our growth and the bottom line. I think it's probably more important. The gross margin is definitely something we are paying a lot of attention, but we pay a lot more attention to absolute dollars on the bottom and we have been continuing to be able to achieve that so I think that is something we are paying extra attention to.

And too, Steve, just to put some historical context on the gross margins, in 2000 our gross margin was about 35%. In 2001 it was 36% and we ran 35% in the current quarter so 36% year to date. So I think kind of when we're saying 33 to 35, you know, its reflective of not only what we are seeing in the market, we try to be conservative with our guidance and you know, 35 is really not far off of what we historically have run with the mix of products.

OK. And then, I guess, just lastly, Mike, should we be looking anything into, you know historically, your commentary with respect to bookings is usually, you know, 100% booked for the current quarter and then your commentary for out quarter, you made the comment that you are almost 100% booked. I mean, was that just, am I reading too much into that or are you yet to be 100% booked for the fourth quarter.

I think, let me be very clear. We are 100% booked for the fourth quarter and 50 to 70% booked for Q1.

OK.

Now, we typically, you know, there could be some shipping in the back log as well as we get book and ship business and that's why, you know, there's always a little bit of movement between the exact guidance we give and where the results come in.

OK. Great. Thanks.

OK. We are out of time. I'd like to thank everyone for listening to UTStarcom's third quarter 2002 earnings conference call. Once again, we are extremely pleased with both our progress and outlook and if you have additional questions, please give us a call. Operator?

Ladies and gentlemen, this conference will be available for replay after 5 p.m. today until October 24th at midnight. You may access AT&T Executive playback service by dialing 1-800-475-6701 and entering the access code of 655102. International participants may dial 1-320-365-3844. Again these numbers are 1-800-475-6701 and enter the access code of 655102. That does conclude our conference for today. Thank you for your participation and for using AT&T Executive Teleconference service. You may now disconnect.