UTStarcom Holdings Corp (UTSI) 2003 Q2 法說會逐字稿

Ladies and gentlemen, thank you for standing by, and welcome to the UTStarcom second-quarter 2003 earnings conference call. (CALLER INSTRUCTIONS). I would now like to turn the or conference over to our host Chesha Kamieniecki.

Thank you very much. Good afternoon and welcome to UTStarcom's second-quarter 2003 earnings conference call. I am pleased to introduce our CEO Hong Lu and our CFO Mike Sophie who will host today's call. Hong will begin the call the afternoon and by providing an overview and key highlights for the quarter. Then he will turn the call over to Mike who will give a detailed financial review of the Company. Afterwards, we will turn the call over for Q&A.

Before we begin the call, I would like to remind everyone that some of the information we will discuss today 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 latest annual report on form 10-K and quarterly reports on form 10-Q which are filed with the Securities and Exchange Commission. With that, I will turn the call over to Hong.

Thank you. Thanks for joining us today. I would like to begin with the call by saying how pleased I am to share with you and our shareholders another quarter of the record results for UTStarcom. A key factor for long-term sustainable success includes four milestones. One, consistently strong financial performance. Two, continued broad growth in mainland China. Third, significant global expansion and opportunities, and number four, sustain market leadership in key technologies.

First, our financial success. Once again, UTStarcom delivered a record quarter in both revenue and profit based on continues strong demand for our products. Second-quarter revenue came in at 405.8 million, and EPS was 33 cents exceeding both guidance and the street estimates. Accordingly, UTStarcom collected more than 750 million in cash, an all-time record. We believe this reflects a tremendous amount of demand and commitment we have from our customers.

Finally, our booking continues to be strong for the quarter, and as such, our visibility now extends into Q1 of 2004, an achievement we believe is unmatched in the industry. Because of this increased visibility, UTStarcom is again raising guidance for the year. Mike will discuss the details of the guidance later in the call.

I would like to highlight some examples of UTStarcom's continued strength in China as well as discuss the significant momentum and opportunity we see on a global basis. China remains the largest and one of the fastest-growing telecom markets in the world. GDP growth is expected to remain about 7 % for the next several years, and spending and telecommunication will continue to be a major focus.

During the quarter, we added record 3.2 million subscribers to UTStarcom's PAS networks bringing our total numbers of subscribers to 12.5 million at the end of Q2. This represents around 60 % of a total approximately 20 million PAS subscribers in China at the end of the quarter as well as overall 43 % of a total fixed line ads in all China. Currently in China, it is estimated that there will be between 25 and 30 million PAS subscribers by the end of 2003. This compares to 12 million at the end of 2002.

UTStarcom also successfully moved into the Metro PAS market with Beijing China Netcom, who launched their service on May 17th. Initial targets were large corporate users such as government institutions, hospitals and universities. Once deployment is complete, PAS will be available to be everybody's consumers in all (inaudible), a proper as well as (inaudible) county level cities.

UTStarcom also expanded on our first major shipment of IP DSLAM equipment throughout China signing expansion contracts with both China Telecom and China Netcom. We firmly believe that DSLAM will be a significant driver of the revenue growth for both China Telecom and China Netcom over the next several years, which means tremendous opportunity for UTStarcom.

According to MII statistics, DSL subscribers in China will grow from 2 million at the end of 2002 to more than 6 million at the end of 2003 and over 40 million by 2006.

Outside of mainland China, UTStarcom also continued to make a significant progress. Revenue from the markets outside of mainland China were 75 million in Q2, an increase of 50 % as compared to 49.4 million in the last year's second quarter. In Japan, our customer Yahoo! BB reached more than 22.8 million subscribers as of June and holds the number one market share in Japan. In addition, Yahoo! BB will begin to offer premium 26 DSL service using the UTStarcom DSLAM and other key syste

(technical difficulty) was approximately 1.4. This (inaudible) our strong backlog coming into the year and our fantastic Q1 results. All of these factors lead to a more remarkable amount of visibility, and we are now putting backlog in place for Q1 of 2004.

Increasing demand continues to drive UTStarcom's strong revenue growth. This strong revenue growth was led by a tremendous increase in past subscribers in China. There was broad acceptance of our products worldwide, and business continues to be strong. In Q2, PAS and IP-based PAS system accounted for approximately 35 % of sales. (inaudible ) handsets accounted for another 46 % of sales, while 19 % of sales came from our wireline products.

On a global basis, revenues from outside of mainland China represented approximately 18 % of total revenues for the second quarter. Gross margins came in at 34 % of sales, which is in line with the guidance we gave in Q1. Despite the fact that handsets are even a larger percent of sales than previous quarters, we have been able to maintain our margins. This can be attributed to ongoing cost-saving initiatives.

Our operating expenses for the quarter were in line with growth and guidance for the quarter and were 81.9 million for the second quarter. Some specific operating items include SG&A expenses as a percentage of sales was 9 % for the quarter as compared to 11 % of sales for Q1 2003. There was a decrease of approximately 2 million in expenses versus Q1.

In Q2, due to SARS, we traveled much less than we had anticipated to within China. In addition, our sales team was very efficient in closing contracts and collections. Also, worth noting is that our earnings per share was negatively impacted by 9 cents due to the effects of the in process R&D of 9.3 million and other acquisition related charges in the quarter. Going forward, (inaudible) impacted these acquisitions are built into our guidance.

Income tax expenses for the second quarter totaled 13.1 million compared to 6.6 million in last year's second quarter and our effective income tax rate is 25 %. Net income for the second-quarter was 39.4 million or 33 cents per share versus our guidance of 29 to 30 cents. UTStarcom's earnings per share also reflects the 16.9 million share dilution associated with the convertible bond issued in March of this year. We are clearly pleased with our level of profitability as is driven by demand for our products and significantly higher revenues.

To transition to the balance sheet, I would once again like to point out that UTStarcom views the rise in inventory and corresponding increase in deferred revenues as a powerful indicator and is a direct reflection of the extraordinary strong demand we are seeing for our products and translates into increased visibility, revenues and profits.

Although I discussed this on the Q1 conference call, I would like to remind everyone that I understand our balance sheet is extremely important to understand UTStarcom's business cycle because this is what drives the metrics on the balance sheet. When we receive an order from a customer and announce contracts, we do not recognize revenue on these contracts until we receive a final acceptance certificate signed by the customer. It can take between 90 to 100 days after we deploy the network to complete the revenue recognition cycle.

To that end, 72 % of our inventory is already deployed in the field of customer locations pending final acceptance. The inventory of customer locations gives us tremendous visibility into future quarters, revenues and profits. In addition, we have a history of no inventory being returned, and we have already received final acceptance on our deployments.

Our cash and short-term investment balance at the end of Q2 was 281.3 million. That is compared to 604.1 million at the end of the first-quarter of 2003. This difference can be attributed to three factors. One, operating cash flow for the quarter was -83 million due to the (inaudible) of the business levels, reflecting increased demand for our products. Two, 139.6 million inclusive of fees was used for the repurchase and retirement of 8 million shares of Softbank at a price of $17.39 per share. We closed the (inaudible) acquisition also in the amount of $100 million.

During the quarter, we collected a record 751 million in cash, which is reflected in both receivables and deferred revenues and compares to our forecast of 600 million in collections. UTStarcom is especially pleased with this accomplishment as we believe it's indicative of the strength of the partnerships we have with our customers. For Q3 and the balance of the year, we are projecting to be cash flow positive from operations.

Accounts Receivable days sales outstanding continued to improve and set an all-time record of 58 days for the second quarter of 2003. That is compared to 80 million for the second quarter in 2002 and compared with 70 days at the end of Q1 2003.

Our first quarter conference call when I gave inventory guidance for Q2, I said that if business continued to stay strong and inventory increased, there would also be a corresponding increase in the revenue and earnings guidance. Q2 inventories and guidance have come in consistently with that statement.

In Q2, our inventory increased to 1.1 billion as a result of the continued strong growth in our business and customer demand for the products. Inventory turns came in at 1.1. As I mentioned, our book-to-bill ratio was partially 1.4 for the quarter. The vast majority of our net inventory, approximately 72 %, is deployed in the field of the customer locations waiting final acceptance.

Going forward, we anticipate the following with our inventory. The majority of our inventory that is currently at customer locations will achieve final acceptance in Q3 and Q4 driving revenues and profits. Inventories will remain level in Q3 and Q4, and inventory turns will improve significantly as our revenues continue to ramp. In 2004, we plan to continue to improve inventory turnover and will continue to focus on inventory efficiencies.

Prepaid expenses increased 139.4 million compared with 87.1 million at the end of Q1. The increase in prepaid expenses was mainly the result of an increase in VAT tax receivable incentives associated with our purchases of inventory. Customer advances reflected in deferred revenue increased to 518.6 million compared to 243.6 million at the end of Q1. These balances represent cash the Company has collected from our customers but not yet recognized as revenue. The increase in customer advances can be viewed as an offset to the inventory (inaudible) financial statements. The cash we are collecting continues to fund our inventory growth. As you can see by looking at the balance sheet, UTStarcom has been able to successfully manage the growth of the business and effectively collect cash from our customers.

Guidance going forward. We continue to see the strength and growing demand across all product lines, both in mainland China and globally. UTStarcom is again raising revenue guidance for both Q3 and the full year 2003. For the third quarter 2003, we estimate our revenues will be in the range of 495 to 505 million. For the full year, we are also raising our revenue guidance to approximately 1.8 to 1.82 billion, an increase of approximately 85 % over 2002 and compared to the 1.65 to 1.7 billion guidance we gave in April.

In 2003, we expected about 75 to 80 % of revenues will come from mainland China, and 20 to 25 % will come from our global markets. Major markets outside of mainland China include Japan, India, Southeast Asia and Latin America. We have also broken out anticipated 2003 revenues per product type. Wireline systems, for example, will represent about 20 % of sales. This reflects extremely strong growth in our broadband ADSL, Next Generation (inaudible) carriers, Metro applications, voiceover IP gateways and Class 4 and 5 switches. Handsets will account for approximately 45 to 50 % of revenues, reflecting extremely strong subscriber demand throughout China.

Due to the continued expansion and performance of PAS networks in China and in global markets, total revenue from wireless systems will be around 35 %. Each of these (inaudible) metrics can fluctuate plus or minus 5 %. Our gross margins as a percentage of revenue for Q2 was approximately 34 %. Given the anticipated mix shift to handsets, increased ramp-up cost activities in global markets in (inaudible) and competitive landscape, we are targeting gross margin as a percentage of revenue for the full year 2003 continue to stay at the current levels, plus or minus a few tenths of a percent.

Throughout the balance of the year, we anticipate expanding SG&A to capitalize on global markets and increase the dollars each quarter in line with revenue growth, and we want to run SG&A at about 12 % of revenues for Q3 and Q4. On our R&D as with SG&A, we expect to increase the dollars sequentially throughout the year and run between 8 and 9 percent of sales for Q3 and Q4.

Other income and expense should be a few hundred thousand per quarter reflecting current lower interest rates. With our joint ventures and minority interest, that should run approximately 10 million in expense for each of Q3 and Q4. Our tax rate, effective rate for 2003, should continue to be approximately 25 %.

Based on the continued strength of our core business, we are also raising earnings per share guidance for Q3 and for the full year 2003. Q3 earnings per share of 42 cents to 43 cents and full year 2003 earnings per share of $1.55 to $1.56 cents. Both of these numbers assume the addition of 16.9 million shares of the total shares outstanding calculation, (inaudible) the bond offering on a converted basis and are reflected in 124 million shares outstanding for Q2.

We will give our first time guidance for 2004 on our Q3 2003 earnings conference call which will be scheduled for October 23rd. The Q3 call will be held a week later than usual due to the IT tradeshow in Geneva which takes place every 40 years. We continue to believe we can achieve 20 to 25 % long-term revenue and earnings growth for the Company. This is driven by a strong economy and strong customer demand in China, increasing recognition and footprint in other key global markets and continuing evolution of our technology solutions to meet the needs of the Next Generation networks.

I would to close the financial discussion by saying once again how extremely pleased we are with the financial results. We had another outstanding quarter with record revenues, profit and with visibility narrowing to Q1 2004. We have continued to add new customers, deploy new products worldwide. Our balance sheet remains strong as we continue to grow our company, and going forward, we anticipate the continued topline growth and profitability with positive business indicators in our markets.

Finally, before I turn the call over to Q&A, I would like to take a moment to address some recent investor questions. As well know, the SARS situation has been resolved in China, and business and retail activities are back to normal levels throughout the country. While UTStarcom did have some limited impact on operations, specifically travel, there has been no negative impact to our financial guidance. In fact, we shipped approximately 30 % more handsets in Q2 than we shipped in Q1.

With handset competition, UTStarcom continues to be the dominant supplier of handsets to the market with over 70 % market share. (inaudible) the past experience in the past few quarters has attracted the attention of several handset manufacturers in the market. Currently the rest of the market share is dominated by ZTE (ph), Lucent and (inaudible). A handful of companies are also talking about entering the space. Most local vendors such as (inaudible) among others. We anticipate the introduction of new handsets into the market in Q3 and Q4. As such, we believe the following will occur.

One, a greater variety of handsets will make PAS services more attractive to end-users, driving continued strong subscriber growth which will in turn drive system expansions which will benefit UTStarcom. Two, handset ASPs make come down. We have built this assumption into our guidance and believe we can maintain handset margins at targeted levels.

We further believe that UTStarcom will continue to be the dominant provider of handsets for the following reasons. Handsets are sold directly to the operator, and we typically leverage handset sales with infrastructure contracts. We are currently the largest supplier of both China Telecom and China Netcom and, therefore, enjoy significant income status. We have better margins on our handsets since we leveraged supply chain management and economies of scale and find that technology ownership, leadership and in-house design and R&D capability.

As PAS service moves into largest cities and becomes more popular among consumers, the mobile operators have stepped up their incentive plans to customers. Most of these plans are offered for a limited time period when new cities are rolling out PAS. These plans feature certain (inaudible) family and friends as same network users.

Other programs offers savings for high ARPU mobile users by offering fixed cost plans for fixed minute usage. The purpose of such plans is mainly to prevent user churn. Despite this environment, PAS continues to fare well in both new and existing cities. In (inaudible), its neighboring cities where mobile competition is most fierce, PAS has added hundreds of thousands of users per month since its launch in early May.

We believe the reasons for PAS resilience in the face of mobile incentive plans are one, PAS' strong branding as the inexpensive calling party pay in citywide mobility on the services stands out among all the mobile incentive plans. Two, we can sell $50 low-end handsets without any incentives or subsidies due to low entry cost for consumers. Third, the surging economy in China fuels subscriber growth in the wireless telecom markets, and PAS' low spending plan attracts lower (inaudible) users who are just entering the market. Fourth, the UTStarcom brand handset family, a new value-added service, gives consumers more choices.

Now let's turn the call over to the question-and-answer period.

(CALLER INSTRUCTIONS). Tim Long, CSFB.

Thank you. If I could just ask a few questions of you. First of all, could you just give us a sense of what CommWorks revenue and profitability was in the quarter as a whole and then contributions to UTStarcom since the deal closed.

And secondly, if you could just give us a sense on the inventory or the backlog, if you will, by product. Has there been any shift maybe towards more handsets in that number?

And then, Hong, if you could just touch on what you're hearing from the operator community on CDMA in China. It seems to be in the press a decent amount recently as far as some second network launches by either China Telecom or China Netcom?

I will take the first part on the CommWorks question about the financials. We will let Hong talk a little bit about the synergies of CommWorks, and then I will start inventory and let Hong do the (inaudible) questions as well.

Regarding CommWorks and other acquisitions that we make, those are really are not running separate businesses and (inaudible) segment reporting on those. So the impact of the total acquisitions for the quarter, we actually did have a little over $4 million of revenue because CommWorks closed earlier than we had anticipated. But the operating expenses and total in process R&D charges came in as we had anticipated, and the total impact on the acquisitions for the quarter was a 9 cent charge to earnings as we broke it out.

Going forward, there is no reason to change our anticipated guidance from CommWorks. We are still looking about 25 million of revenue a quarter in Q3 and Q4, which is built into our guidance, and we anticipated it would be about breakeven performance in Q3 and maybe 1 cent to 2 cents accretive in the fourth quarter. So nothing has changed regarding that thought process.

With regards to inventory, the mix really has not changed from the last several quarters. As you know, 72 % of the inventory is deployed at customer locations. We broke that out in the earnings release, and obviously almost all the inventory is finished goods.

As far as our strategy between the CommWorks and the current UTStarcom, we have been enjoying a great deal of synergy between both of those. First of all, we have been adding so-called (inaudible), which is the wireless rack in our PAS. Now we are integrating their wireless rack into our systems, and it will be ready in Q3. So we will be taking a great deal of advantage on that.

And second is we are now realizing our SoftSwitch based mSwitch can be a great deal of the solution for the current customer bases to offer our trucking gateways, in which we have already been deploying in both Japan and in China. Now we are very looking forward to be able to do the synergistic cross-selling and also starting from Q3, so that is very very exciting.

Your second question about (inaudible) CDMA. This is something that we have been always -- as a company, we have always been ready to deploy both at WCDMA as well as (inaudible) CDMA. And from our Company's point of view, that both RNC, which is a radio network controller, it is very similar, and we have been working. With very little change, we will be able to adapt it.

Now we're also working with (inaudible), and in some cases there, we have been some discussion with the other companies to jointly develop (inaudible) CDMA. But from a customer opinion, although our company is ready -- if the product is ready to announce, there is a great deal of deficiency in the number of the companies who are working on it. In other words, we are still seeing a tremendous shortage in the handset solutions. So I think the biggest risk in the (inaudible) CDMA is the handset, and several companies are working at the chip level, but it is really slow coming. That is going to be my biggest concern.

From the systems side, it is very similar to again WCDMA. We are ready and many other companies are ready, and the base station we are very confident several companies are working on that. They also will be ready as well. So despite the handset situation, the Chinese government very much wanted to deploy this type of system, and I think that there are several companies that still continue to work on, and from a company's point of view, we are ready when they are ready.

Sam May (ph), Piper Jaffray.

Good afternoon and thank you very much for some nice results at the end of a rough day. Mike, first question for you. You said that you anticipate operating cash flow to be positive in the third quarter. Can you just talk about free cash flow, add the CapEx onto that, and maybe tell us how you are going to get there? Where do you think the biggest deltas will be in calculating free cash flow?

Yes, the cash flow -- again, as I mentioned, the biggest use of cash has been our inventory build (inaudible), and we are protecting that the inventories will level at this point with inventory turns coming up. So we do not need use any cash to drive that. So if you just take a look at the strong revenue profitability and the fact we are not building inventory, it is very clear operating cash flow would be quite nice in Q3 and Q4.

The CapEx I think year-to-date we spent roughly about $50 million. That includes for both our normal equipment needs as well as the (inaudible) factory we are building. We are not looking at an acceleration in CapEx as we go forward. So from a free cash flow point of view, we are looking at that being positive as well.

On that (inaudible), are you getting tax breaks that will bring back some or recovery from some of that cash outlay over time?

Yes. We do anticipate tax breaks over the next several years. We are hiring a tremendous number of employees. They very much want us to stay in the city. I think it is a very positive relationship.

Okay. Great. Handset mix in '04, do you anticipate the handset mix changing much from what it has reached? What do you think will happen to the margins on the handsets as a result of competition in Q4?

I think your question is in calendar year '04 handset mix -- no, we do not anticipate handset mix to continue to go up. We are anticipating continued strong growth in PAS in China in calendar year '04. We are looking at the DSL, and wireline systems continue to accelerate not only in China but globally. As you know, our next generation carrier business is doing extremely well in other markets as well.

So I think -- certainly we think the handset as a mix has peaked this year. At this point in time, I cannot give you anymore details on the guidance. It would probably be where it is at or lower. We will give that detail on the October call.

Final question. Can you just talk about some of the features that you anticipate bringing to your handset product in Q3, Q4 this year that might be able to help you send up some competition? Do you have anything up your sleeve that you think would keep you ahead?

I have to be careful not to leak out too many very competitive secrets. But I think we have mentioned earlier that we have a dual band coming out. During the Q3, Q4 timeframe, we do plan to come out with those features. And also, we have a lot of cost-cutting handsets that are coming out as well, which I think it is going to benefit to compete against many other newcomers.

And finally, there is a trend of handsets of really moving towards more of a picture taking and such, so that we are also looking into the built-in camera, so it would be ready. It is becoming a fashion. I think everybody knows in Japan there is more than 80 % of the new handsets where with the camera with the color screen as well. So those are the directions I think we're moving towards, and we will be working toward that. As to where we also are building more of a browser capability building handsets as well, so all of that put together, there is a lot of busywork for us to work on those handsets market.

What is the situation on components shortages?

We see the component shortages disappearing, and in fact, we are not getting since the Q3 shortage has been resolved.

Tim Luke, Lehman Brothers.

I was wondering if you could clarify what your culture was with respect to the inventory level in the third and fourth quarters, and then how you would expect deferred revenue to trend given that I think you said you expect it to be flat with the absolute dollars with where it is now?

Specifically on the inventory level, yes. We believe the inventory will level with these dollar points, and the inventory turns will be improving because if you take a look at the guidance we are giving for the revenues, revenues are ramping significantly in Q3 and Q4. So inventory turns will come up nicely.

Do you think will be level in the fourth quarter, too, with that?

Yes.

And the gross margin given the heightened competition in the handset area, you are suggesting is flat with the 34 % for the second half of the year?

Yes and very specifically no, and we are looking what we are doing globally, but we are anticipating competition, and that is all built into the guidance that we are giving. So we believe we can maintain gross margins at this level plus or minus a few tenths of a percent.

And if you frame the expectation that you talked about being a company growing 20 to 25 % on the topline, is it your framework for expectation that your earnings growth would, therefore, be in line with that kind of rate?

Yes. Very clearly we want to grow both topline and bottom line with that 20 to 25 % rate. We believe in our size company we ought to be able to operate our business model, and so if we ramp up the revenues, the expenses will stay in line in delivering operating margin and corresponding net income to earnings per share.

Dale Pfau, CIBC World Markets.

Congratulations. Nice outlook. Nice quarter, gentlemen. The handsets being the big percentage in the quarter, could you talk a little bit about the impact of SARS? Did that allow you to ship more handsets, and maybe we saw a little bit slower deployment of PAS equipment? Is that going to change substantially in the third and fourth quarters? And then back to Tim's question about the deferred revenue, will we see deferred revenues at the same levels, or will we see that begin to decrease or increase in the third and fourth quarters?

I will take the first question. The handsets versus during the SARS impact in Q1 and Q2 and Q1. Indeed, we did have a little bit of impact for several reasons that we have been seeing some of this impact took place, so therefore, when the travel ban was taking place in some areas, it was indeed (inaudible) hotel was closed and also restaurants were closed, and we could not do any of the installations during the period.

That had a negative impact during those quarters, and between Q2, we did not see any slowdown in our operation. In fact, we have been seeing a very strong demand for our headsets coming in. During the Q3 and Q4, looking forward in the future, there were first building a lot more infrastructure in Q1 and Q2, so that is a lot of infrastructure will be ready. So we will be seeing where more of the handsets will be coming in, and then we will wait until those handsets will fill up our current infrastructure, then we will see more expansion contracts coming in towards Q4.

I will take your question on the deferred revenues, and we would expect those to stay consistent with inventory at this point. Our business is extremely strong. We may get more cash up front which could affect those balances, but I anticipate it to stay pretty consistent with where it is at now with inventory.

On a dollar basis or percentage of revenue basis?

Dollar basis.

Then, could you talk just a little bit about where you see China right now in issuing the 3G licenses and how quickly we would move to procurement or the next set of trials?

Okay. The 3G license, we do not see it coming out anytime soon. Probably the soonest will be the first half of next year. But we do anticipate that the operator will be getting some field trial towards the second half of this year, and as we speak, we are already negotiating with operators to see how we are going to be able to do the operational trial in China. We don't anticipate any commercialized product toward the second half of next year or maybe even towards the beginning of the 2005 where the commercialized event takes place for 3G.

Are you including your SoftSwitch also?

Absolutely. We are very much participating in 3G with SoftSwitches. We feel extremely positive about that, and with other recent so-called empty net test and everything else, we have been turned against other competitors very very well.

Joseph Noel, Pacific Growth.

Congratulations on a fantastic quarter. A question for you. I saw a statistic come out of the MII a few weeks back. I believe it said something to the effect that 43 % of all LANLines being sold in China are on THS services. I was wondering if you could comment on that? If you agree with that, and where you might see that out a year from now, and also I am just wondering if we could get a quick update on Shanghai? I haven't heard anything on that lately.

I think that the statistics that we have concurred with studies. In fact, we have been seeing the new ads are more and more toward the PAS network. There are a couple of reasons. One very obvious reason is our (inaudible) extension of the wireline. So if you were to install the dial tone solutions, there is really no other system that is more cost effective than the PAS system. This also what we have been seeing not only happening in China but we have been demonstrating in other markets as well. So this is something we feel very strong, a positive note about that.

Now with other lines where they have to add more wireline is to fulfill their future broadband solutions, which I think without any doubt the DSLAM or broadband solution, including ADSL and DDSL, with the wire solutions, they don't have anywhere else to compete. So they wanted to expand their directions, and statistics also show by year 2006, China will have a 40 million broadband solutions, so they are adding both.

So we will see a continued (inaudible) solution will be more towards PAS, and then broadband solutions will continue to remain their (inaudible). So I believe that China will continue and maybe in the range of 40 to 50 % range, that will be a very good number for our PAS future extension.

On Shanghai, a quick update there?

Shanghai, we have started from just a suburb of the metropolitan Shanghai. Shanghai itself has not decided to deploy the system yet. Simply they wanted to -- every operator has the (inaudible) decision-making process to see if how they are going to promote that one. I would say Shanghai is the only major city that is currently has not decided to get into the PAS, and we are very hopeful that they are going to make a decision soon.

Hasan Imam.

A couple of questions, the first one on backlog. Given that you report the number once a year, could you give an update even if it is (inaudible)? If you look at your deferred revenue numbers and then inventory customer location and after that contract announcements, would it be right to assume that backlog is now well over a billion? Is that in the right ballpark?

And then the second question has to do with handsets, given the numbers you are posting, it looks like you are in market share gain mode. Could you update us on that, please?

I will take the backlog questions. We do report backlog once a year (inaudible) year-end results. These last couple of quarters we have tried to be not only quantitative and a little bit quantitative on the business, it has been so strong, we had (inaudible). I think we were quite open with our book-to-bill was around 2 in Q1. As I said earlier on the call, it is 1.4 here in quarter two. So I think if you run the numbers, you would come in with a number that is above a billion, you are in the ballpark.

The other quantitative comment on the backlog is that we have our backlog in place through the balance of the year, and we are starting to schedule backlog now for Q1 2004. So, again, we are very excited about that. It gives us a tremendous amount of visibility we think is unmatched in the industry, and hopefully the business will continue to be as strong as it has been.

Your question about the handsets is will we be able to continue to be able to maintain our market share?

Are you in market share gain mode at this point or in this quarter because the numbers look like you have might have gained some market share?

I think our market share fluctuates almost every month and maybe by quarter to quarter. Anywhere between what we said earlier is about 70 %. So that has not changed, though occasionally we shoot up more towards 80 % and maybe even exceeding 80 %. But from a conservative point, we have been saying that we have about 70 % market share.

But in the future, if you are going towards -- there is a lot more companies coming in, which I think is a very healthy environment. That means more companies feel this is a more significant market, everybody wants to come in. What is that really going to translate to? It's going to have a lot more competition coming in, and there is a lot more handsets, a variety of choices. That would really from our point of view is going to stimulate the market, which we welcome that because we are both in the system and the handsets market.

From a handset perspective, also you have to be very careful on how can you stay ahead of other competitors? You cannot win everything, but you want always be the leading position to give users the main choices. So we continue to do that. So in Q3 forward, we really see a lot more companies coming in. It is very difficult to maintain 70 % market share above that if there is additional companies coming in. But I think in essence we still wanted to be able to dominate the market, and as a whole, market will grow. So we will be befitting from that. So I think forward into future, I think our handsets we will be still dominating, but we don't know if we will continue to be at a 70 % plus or not.

On your handset sales, what percentage of it was outside China?

If anything, at this moment, we see very few coming in from Vietnam and some of Latin America, and probably towards the Q3, Q4, we hope we will be able to make more announcements that will increase those handsets outside of mainland China.

One last question. In India, how do you see the PAS market developing given that the same favorable regulatory pricing scheme advantages in China is absent there?

I think obviously the fastest way the Indian market will be gaining their (inaudible) densities has to come from wireless, without any doubt. Now the question is, what is the best solution to it? And there's a lot of investment in the Indian market as (inaudible) and another one is CDMA, and now we have a much later comer.

We are introducing our PAS, and with the Chinese market success, there is a lot more interest that has building it up for that as well. But we see there market in India, it is a potential for them to grow into our PAS market also exists. But on the other hand, we really see the true potential market for us is the working with (inaudible) of the building to really solving the more lucrative business sectors of the market, which will be about our wireline or our (inaudible) to the building type of a solution, which that is going to be more of a major growth.

But in the meantime, we do see some positive activities coming out from India with those PAS applications as well. In the future, again, in India, if we can really produce the very low-cost headphone, that would really drive the market, and I think that PAS at this moment has the best position to address that low-cost handset than anything else at this moment.

Thank you and congratulations on a great quarter.

William Bean, Deutsche Bank.

I was wondering whether you could give us a sense of the gross margin international versus China sales or products if you could?

Generically what I would tell you is typically the gross margins are higher outside of China than inside China. Now we want to caveat that with one exception. We are seeing the huge potential with the Indian market, and we think India is going to be a very aggressive pricing market as well. So we think the margins in India will be comparable to what we are seeing in China.

Thank you. There have been a number of reports that you are going to see another four or five providers come in on top of the four, and then an additional ten or twelve are looking at the market. Can you give us a sense of how many people you are going to introduce over the next six or twelve months versus what the competition is prepared to introduce in terms of number of your models?

We already having probably five to six new handsets in our pipeline that we will be ready to introduce in the next quarter or two and versus other companies that we see. So for the breadth of our total solution as a company we have the low-end to the high-end to (inaudible), to the camera, to the color and everything else. So we have a very wide variety of choices versus our competitor is just about ready to come in, so we would tell them maybe one or maybe. But everybody else is designing and using the same platforms, so they all look very similar (inaudible) versus ours is a totally different design and totally different target market.

So if a buyer can only choose one, I think that is going to be very difficult to come into the market versus UTStarcom's product, we will have a lot more choices to choose, and you can satisfy all the range of the users.

Because your sales is linked to your sales and infrastructure you get paid for the handsets right away, or is that deferred?

We typically get paid quicker on the handsets than on the infrastructure. If we are shipping handsets into a brand-new city where we have not yet got the final acceptance of the infrastructure, we will defer the revenue on those handsets until get final acceptance on the infrastructure. So, yes, you can see those dollars in the deferred revenue item.

Do you expect new chip players to come in addition to Sony and Toshiba?

Yes. We know there is a lot more companies that are coming into the market.

And then another couple of questions. Did you see in terms of CapEx, CapEx remaining flat even though you will be finishing up your factories? Is that because you intend on putting up a manufacturing facility outside of China and India?

No, we don't have any plans for additional manufacturing facilities at this point. I think the reason we are saying flat is we are finishing the construction of the building this year, and then we would expect our CapEx on an annual basis to decline.

And just finally, any change in the total available market for PAS in China (inaudible) in the PAS throughout the number about 200 million?

We still think it's a very large growing market in China, so, no, we are not changing our thought process on the adjustable market. And I think if you look at the growth that has been achieved this year, there is already 20 million subs versus 12 at the end of the year. I think the projections we are forecasting for the year are right on target.

We are pushing an hour, so maybe we can take two more callers.

Alan Hellawell.

Just a few quick questions. What percent of PAS infrastructure lines sold on handsets? I have heard in the past 20 % on a bundled handset. Is that the case, and where do you think that will go going forward?

Maybe I will go through the other two questions. In terms of the -- maybe this was answered earlier -- how many AN (ph ) 2000 lines have you now shipped to Reliance over the past quarter, and where are you cumulatively? Once again, maybe you did this, but can you add any more quantitative framing in terms of what the opportunity is there going forward?

And then finally, if I am not mistaken, I thought I came across numbers suggesting that PAS capacity utilization at the end of May was roughly 40 % throughout China. Is that accurate, and where do you think that is going to go going forward looking at your business on the infrastructure side?

I think your first question was on PAS infrastructure bundled with handsets. You know that does happen on new cities to some extent, but it is certainly probably nowhere close to 20 %. I am not sure where that number came from. So again, I just have to tell you that is not an accurate number.

However, there is a strong linkage with infrastructure and handset sales in relationship with the carriers. But the sales themselves are not actually bundled.

I think your next question was how many lines have we shipped to Reliance, and we have not given out an exact number with Reliance. I think that based on a release earlier this quarter that talked about them wanting to connect 1.8 million buildings over the next three years. So we have started shipping in Q4. We are ramping up. It is not significant at this point in time, but we're looking to achieve the final acceptance on our first shipments in Q3 and start recognizing revenues. We will probably be a little more quantitative on the next call on exactly what we're doing with Reliance.

I think your next question was overall opportunities size with Reliance in India, and so maybe I can have Hong comment about on one as well as your capacity question. About India's potential, it is going to be very large. First of all, India has been known as the second fastest-growing economy in the world next to China. So we see that momentum has been coming up very fast, and naturally there are tele-densities (ph) are still at the 4 % range, so with business picking up, I think it is very natural that we would see the tele-density would continue to pick up.

But always the first time that (inaudible) money would be spent by the business side, so our strategy is very prudent is to work with the focus on business side of the market, which Reliance has been very much focused on that particular market. And other companies that we are also working very closely with including (inaudible) and (inaudible) and (inaudible) and MTNL (ph), and also we have been getting a lot of attention, so, therefore, we continue to believe that India is going to give us huge potential growth. We wanted to be able to duplicate the success that we had in China.

As far as the capacity side, we see there is that huge number of capacity has been built in Q1 and Q2, so I believe the total capacity number in entire China is a little less than 50 %. I think it is more than 40 % but lower than 50 %, and now they are adding a lot more towards. And we see a very naturally -- when you do that kind of calculation, it is overall capacity. So some cities we will be building in earlier, and then there may have already been about the 70 or 80 %, so they are in the edge due to expansion or maybe they are in 65 or so, and then they are ready for the expansion. Some of them have just started, so maybe another 10 or 20 % of capacities.

So we see the overall mix is going to be quite different from one area to the others, but a very natural one is that we will see right now is going to be built more subscriber bases. So towards the Q3 and Q4, we will believe that capacity will be filling up, and then Q4 we will see more capacity repeat orders coming out.

Excellent. Thanks a lot.

Earl Lum, CIBC World Markets.

Good afternoon, gentlemen. One quick questions. With regards to the (inaudible) server you said you were going to be able to integrate now into your PAS offering, how much of savings do you expect to get from that for the integration? And then I have a couple of other questions related to the metropolitan area for PAS as a follow-up.

Well, I think the savings probably I cannot be very sure, so it will probably be not fair for me. So I would like to get back to you for that. I think more important is the we are now realizing our own versus that we have been buying other solutions, and I believe that we will have somewhat of a savings, but, again, the (inaudible) savings amount I will have to get back to you.

When you look at Beijing and Shanghai, obviously as the potential starts to get more concrete with regards to PAS, do you see those cities going to a sole source model like you have see in other cities, or will they will be dual forcing because of the size? What is your quantitative take on that? Could you give us any idea as to what the total potential is for these cities in terms of any type of number of lines installed or dollar value?

No. At this moment, I think almost all the cities there is no more single source. Everybody wants to have more choices, so it is to keep everybody honest. So I think Beijing is no exception, and more of the people are participating in that market.

As far as the size of the market in Beijing, we believe it is one of the larger capacities we have built. So it could be easily going to 500,000 to 1 million opportunity in the next year or so.

And then if you look at your competition and as the number of lines continues to scale, at this point, it seems like China Netcom of the 20 million, roughly has only about 4 million lines or 4 million subscribers of the 20 million out there. Are you seeing them trying to make a bigger push now as we get into the second half to try to get more subscribers on to their network relative to the China Telecom, who obviously has a much bigger subscriber base?

Yes. Because of China Netcom, obviously they have 30 % of the total market size in entire China versus 70 % in China Telecom. So I think total number is going to be less, but we see some of the numbers that they are very active in the northern part of China, particularly in the HeiLongJiang Province. We see that very active growth.

Really from a province to province, their strategy and everything is quite different, but each leader will have different result as well. We think it is very obviously some of the provinces that we see, most of the gain of the new subscribers are coming from PAS, so I hope more people will be recognizing it and start putting more emphasis on that.

One final question. If you look at the productions earlier in the year versus where things are now for subscribers, where are we at in terms of the potential? Do you think we are going to exceed the projections given the run-rate that we have seen so far through the first half of the year relative to the demand you see into the second half?

I think it is always somewhat of a seasonal case. Like in China, the Q4 will have much more buying season, and Q1 is equally as high, or maybe Q4 is number one, and Q1 is number two buying season. Actually Q3 is a relatively slower quarter. Just average every year that you will see that kind of a turn, and Q2 is slightly better.

So I think after we have gone into the Q4, then we have two good quarters coming in in both Q4 and Q1 is coming, and then Q3 we will see some of the seasonal slowdown because of the summer season and everything else that they have a slower trade that is coming in. I don't know if I answered that question.

Yes, you did. Thank you very much.

We want to thank everybody for joining the call today, and I will turn it back over to Colin to give everybody dial-in information if they want to get a replay.

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