UTStarcom Holdings Corp (UTSI) 2010 Q2 法說會逐字稿

Good morning. Welcome to UT Starcom's second quarter 2010 earnings call. Earlier today we issued a press release announcing our financial results for the second quarter. This press release is available on the Company's website at UTstar.com. On today's call we have Peter Blackmore, Chief Executive Officer, Jack Lu, Chief Operating Officer, and Edmond Cheng, Chief Financial Officer.

This call will include forward-looking statements relating to, among other things, the Company's restructuring initiatives, projected business model and the closing of the BDA investment. Forward-looking statements are generally indicated by such words as will, expects, estimates, plans, or similar words. These statements are forward-looking in nature and subject to risks and uncertainties that may cause actual results to differ materially. These risks include the ability of the Company to realize anticipated results from operational improvements, increased bookings, successfully transition to a new management team and headquarter location, execute on its business plan, manage regulatory matters. As well as risk factors identified in its latest annual report on Form 10-K, quarterly reports on Form 10-Q, and current reports on Form 8-K as filed with the Securities and Exchange Commission. The Company assumes no obligation to update any forward-looking statements.

In addition, today's call will include certain non-GAAP financial measures. The most directly comparable GAAP information, and a reconciliation between the non-GAAP and GAAP figures, is attached to the earnings release issued earlier today and filed in a Form 8-K. With that, I will turn the call over to Peter.

Thank you. Hello, everybody. And thank you very much for joining our call today. I am in the US and Edmond and Jack are in China, so please bear with us if there are any slight delays during the call. I would like to start with summarizing our second quarter 2010 financial results which were released earlier today. And then I will turn the call over to Edmond who will provide greater detail around our financial results for the quarter. So let's start with quarter two. As you will have seen, revenue was $73 million for the second quarter, this is slightly down $8 million from the $81 million in the first quarter. The revenues were in line with our expectations.

I also want to remind you about two transactions that occurred during the quarter. We sold our Latin America, IP messaging and US PDSN assets in the quarter. You will also recall we announced the sale of China PDSN in quarter one, which will benefit from the one time gain from the China PDSN divestitures in quarter three. As that transaction is also now closed but the final signatures were received early in July.

Gross margins. Gross margins were 31% for the second quarter which reflects healthy margins for both IPTV and the broadband businesses. And I'm pleased we have managed to deliver solid gross margins for three consecutive quarters. Operating expenses were $28 million for the second quarter. This included two one-time benefits. A small benefit from restructuring reversal of $216,000, and a net gain of $2.1 million related to the divestiture of IP messaging and US PDSN assets. On the overall cost structure, we continue to reduce it. We shut down all our locations in Latin America, and two locations in the US during the quarter.

In conjunction in this, we have signed partnerships and have moved to an indirect sales approach in Latin America and the overall Americas. We are also in conversations with potential partners in Europe to establish a reseller operation there as well. These partnerships not only provide what we believe to be a more effective and successful go-to market strategy for certain regions, but they also enable the management team to be even more focused on China, India, and Japan, which are our primary market focus. Although we have not completely transitioned our outsourcing for manufacturing, we are now very close to achieving our target of $100 million in annualized operating expenses. As a final note on costs, we should be closing our elevator office which is the last building open in the US and we should be closing that this month in August.

We continue to reduce our operating loss. For this quarter, the operating loss of $5.1 million is a solid improvement from the operating loss of $19 million in the prior quarter. So cash, importantly, we increased our cash position by $73 million from the prior quarter. We had $308 million in cash and short-term investments at the end of the quarter. And this includes net proceeds of approximately $130 million related to the sale of our Hangzhou building in China.

I would now like to update you on the BDA pending transaction. The BDA has informed us that they have received all of the approvals from NDRC, Mosscom, and S-a-f-e Safe, and that is good news. And they are now establishing their Hong Kong investment entity, through which they will complete their investment. This final step is expected to be completed shortly and we shall then expect to close following the completion of that step. Once the deal closes, Jack Lu, who you remember, joined the Company on March the 1st, the COO will transition at an agreed time to the CEO role. We also will add three new Board members who all have significant China expertise. Additionally, as you will recall, we have added a number of key appointments in May, including Edmund Cheng as Senior Vice President and Chief Financial Officer, and Henry Lee as Senior Vice President, General Counsel, and Secretary. We have made a lot of changes to the management team in the last few months, and we shall have a stronger Board for China once this transition is complete. This will position the Company well to grow the business in China. We continue to have a strong international team leading India and Japan.

I'd now like to move to the business segment highlights. Starting with multi-media communications. In our multimedia communications business we continue to have the leading market share in IPTV in China and India. We believe that IPTV market represents a meaningful growth opportunity in these regions. Especially in China, where we have the opportunity to lead the future trends of triple network convergence. So notable wins in the quarter include an IPTV expansion from Beijing education committee. We also won set-top box orders from China Telecom, Jinjiang, in Fujian, and also the Asian network in Hainan and in Shanghai. We continue to expand IPTV of India and won a new set-top box order from [Barty] during the quarter. Another notable achievement for the quarter is that our mobile IPTV in India is now supporting Nokia handsets in that region which are the dominant handset player in India. Our strategy to innovate and go after cable operators is continuing to work well. In IDTV, we won an expansion with [Imperial] Cable. We also received new IDTV orders from Szechuan cable and an order from [Dubai Hangswang] cable. These are all good pilot orders.

Let me now move to broadband. Our focus on broadband is primarily in India and also with SoftBank in China, where we see the best growth opportunities. In both of these countries, we expect to participate in the expansion of the mobile market with our optical TN product that we launched last winter. In July, we won a 10 million order from SoftBank for the TN product. This is an important win for us, because it validates the TN technology, and is further evidence that testing for the new network there continues to go well. We are pleased to report that software testing was recently successfully completed with SoftBank, and we are confident this will enable significant business for us and SoftBank going forward. We also have new broadband wins in partnership with NEC, the PTN, with Mexico Telecom, and T-Mobile. We are in trials for PTN and DCTC and with Soft in China, which is also encouraging. For our EPON products we have new wins in [Grijou], Guangdong, and Hunan provinces. We also won expanded awards for EPON from Hunan, Tianjin, Shandong, Jinjiang and Hunan, and Hubai provinces during the quarter. We are having very good encouraging conversations with Soft, for our EPON plus EOC applications. And, in addition, we won our first order from MSTP from CHT in Taiwan.

Moving on to our important broadband business in India. With regards to Phase III for the BSL multi-play contract, we expect a significant order in India for Phase III. The very positive news is that management committee of BS&L approved this business last week. This transaction is now proceeding to official PO and also to the department of Telecom Security Clearance. The size of the transaction is significant, at approximately $50 million. And includes both RPR and DSLAM technology. This additional multi-play Phase III transaction will consolidate our leading market position in India.

We are working with the carriers who use our products to ensure we satisfy security and supply chain standards to the satisfaction of the Indian authorities. We have successfully gone through this process with multiple products and carriers, and also exploring partnering with an Indian-based outsource manufacturing to ensure our competitiveness in the Indian market. We see great opportunity for our broadband products in India, given the India government and telecom carriers are pushing hard to expand the number of broadband pipes in India over the next five years, and also with the TN product in the mobile market in India.

An overall comment on bookings. In the absence of the BS&L order in quarter two, book to bill for the second quarter was below 1. However, the news from BS&L and SoftBank position us much better for quarter three. And we're also working hard on ramping bookings for the rest of the year in both broadband and IPTV. In particular, we recognize we need to ramp bookings in China. Jack and the team have spent the last several months evaluating our sales strategy and meeting with China customers. They have had many conversations with local governments, and believe UTStarcom is well positioned to become a significant supplier in China's triple network convergence.

In addition, we continue to see good opportunity in the cable IPTV market in China. It is apparent that we need to make some significant changes to our sales team in China to drive IPTV growth. Particularly as we target the cable opportunity and explore new business models. I'm pleased to say we are close to hiring two new senior sales people, one as head of sales, and the other as head of business development, both with excellent experience. As you will also remember, we recently announced an agreement with the China Merchants Bank, CMB, to provide strong credit support to UTStarcom for major products to drive product research development production and sales in the field of communications. This is an important strategic cooperation for us. So overall, the team is making progress in China, which is very important to our future growth. I would like to hand the call over to Edmond to provide more details around our fourth quarter 2010 results. Edmond?

Yes, Peter, thank you, Peter. Good morning, everyone. Before discussing the key business unit performance, I will start by highlighting the Company-wide numbers. Presented on both a GAAP and a non-GAAP basis. In the second quarter of 2010, GAAP revenues were $73.2 million, compared with $80.2 million for the same period a year ago. The year-over-year decrease was primarily due to the wind down of our handset business and partially offset by an increase in the sales of broadband infrastructure segment. The GAAP gross profit in Q2 was $22.9 million, or 31.3% of revenues. This compares to gross profit of negative $15.8 million, or negative 19.8%, in the same period a year ago when we recorded inventory reserves and our pay settlement related to certain handsets sold to PCD, LLC.

Our GAAP operating expenses were $28 million, a decrease of $41.6 million from the same period a year ago. As a result of restructuring and other cost reduction initiatives. The total operating expenses of $28 million includes the following significant items. First, we have $0.2 million of restructuring reversals, primarily related to the 2009 restructuring plan. Total restructuring costs in 2010 recorded through June 30, related to the 2009 restructuring plan, was $6.9 million. Second, we recognized a net gain of $2.1 million, related to the sale of our IP messaging and US PDSN assets in the quarter. Our run rate operating expenses also have declined from the first quarter and we believe we are well on our way to achieve a run rate of close to $100 million in OpEx. Our plans to outsource our manufacturing operations are still in progress. The GAAP operating loss in Q2 was $5.1 million, a significant improvement from a loss of $85.4 million in Q2 of '09, reflecting a better margin profile and dramatically improved cost structure. Including other income expense of $4.8 million, which mainly consists of foreign currency losses, our second quarter 2010 net loss was $9 million, or a loss of $0.07 per share. Sorry, a loss of $0.077 per share.

Next, I want to take a moment to discuss the non-GAAP numbers that were issued with the press release. I would like to remind you that the non-GAAP results only adjust for the divestiture of our PCD, and the wind down of our Korea-based handset operations, but they do not adjust for the restructuring charges, or any other special charges or noncash items. The non-GAAP revenues and gross margin for the second quarter of 2010 were $73 million and 30%, respectively. This compares to the long debt revenue and gross margin of $83 million, and 14% in Q2 of 2009. Our non-GAAP operating expense was $28 million in the second quarter of 2010. This compares favorably to the $69 million -- $58 million in non-GAAP operating expense a year ago, due to the Company's cost-cutting initiatives. Finally, the non-GAAP operating loss in the second quarter of 2010 was $6 million, compared to a loss of $55 million a year ago. We have clearly made significant progress compared with the second quarter of 2009.

Next, moving on to the performance of our various business units using GAAP numbers. In the second quarter, our multimedia communications segment had revenues and gross margin of $47 million and 27%, respectively. This compares to Q2 2009, results of $48 million and 33%, respectively. Multimedia communication revenues was approximately flat compared to the same period a year ago. Gross profit was lower year-over-year, due to higher inventory reserve for NGN products in Q2 2010, compared to a reversal of loss under provision in Q2 of 2009. Gross margins associated with the PAS deferred revenue approximately 35%. As a reminder, we are amortizing the deferred revenue related to PAS through the end of 2011. And the balance to be amortized was $141.7 million as of June 30, 2010.

Next, for broadband infrastructure, our revenue for Q2 was $34.7 million, which was up from $19 million a year ago. The increase was mainly due to increased sales across our broadband product portfolio. The gross margins in the second quarter were 33%, a significant improvement from 13% a year ago, due primarily to lower provisions for inventory, and loss orders in 2010, compared to 2009. As a reminder, during the fourth quarter of 2009, we began recognizing revenue for the BS&L phase one contract over a seven-year period. We recognize revenue of $3.2 million in the quarter, and a material gross profit on this contract.

In the second quarter, the handset business unit recorded $1.5 million of revenue at 140% gross margin, which compares with $13.2 million and negative 260% gross margin in the year-ago period. The decline in the revenue was due to the wind down of our Korea handset business, and to our exiting from the handset business in China. We do not expect our handset segment to make any material contribution to our revenue, nor gross margin in 2010 and beyond. Any handset revenue going forward will be from sales related to inventory clearing.

Turning now to our balance sheet, operating cash flow for the quarter was negative $23.8 million, which includes cash collection of $58.3 million, payments made to inventory purchase of $51 million, and payment for operating expenses of $31.1 million. Q2 operating cash flow is an improvement from Q1 of negative $31.3 million. Cash provided by investment activities for the quarter was $112.2 million, which included $117 million from the sale of the Hunter Building for quarter two. We end the quarter with a strong balance sheet and with a cash balance of $308 million. And with zero debt. At this point, I would like to give the call back to Peter.

Thank you, Edmond. I'd like now to look to our outlook for 2010. And, we need to reiterate that we are not providing specific guidance for the full year at this time as we undergo this management team transition. However, the management team remains committed to achieving the target business model we have shared with you over the last several quarters. But given the delay in achieving some orders, such as BS&L, we are now targeting annualized revenue of $325 million. Revenues for the first half of 2010 were $154 million.

We are very focused on ramping bookings, as I hope you've heard from the call. We are encouraged by the positive news from BS&L regarding Phase III, and also by the momentum building at SoftBank, now that the software testing is complete. A lot of good work is going into building our bookings and revenue in China. We also have the benefit of over $100 million in deferred revenues, which we shall recognize in 2010 as we get the final customer acceptance. We continue to expect gross margins in the high 20s given our focus on IP-based products. Our margin performance from the last three quarters testifies to our ability to achieve that. We expect annualized operating expenses to be close to $100 million, and we are well on our way to achieving this target as the last quarter results illustrate.

In summary, we have made significant progress towards restructuring and simplifying the Company as well as improving the financial model. We will have a strong management team and Board in place to drive the future strategic direction of the Company. We remain focused on ramping bookings for IPTV and optical broadband technologies in our target markets of China, India, and Japan. At this point, I would like to ask the operator to prepare for Q&A. Operator, please.

Yes, sir.

(Operator Instructions)

We'll pause for a moment to compile the Q& A roster. The first question is from [Gene Lu].

Hey, good morning. Just one question on your income statement. What is -- [ Inaudible ] You had (inaudible) of $4.8 million. So, what does that $4.8 million include?

Edmond, could take that, please.

Yes, Gene, on that $4.8 million loss in other income, $4.6 million was due to ForEx losses. And that is due to our long position in India rupee, which has depreciated about 4%, and which is partially offset by our nonposition in Japanese yen. We have an appreciation of 5%. As of June end, we have Indian rupee exposure of $107 million, and Japanese yen exposure of $44 million.

All in terms of US dollars, right?

All in terms of US dollars, right.

Okay. All right. Maybe one more, India. I have heard that the Indian government has imposed a fairly stringent requirement for Chinese telecom equipment vendors to enter the market. Could you just share with us more color on the requirements that we have to meet and how you are doing to meet them?

Yes, I will handle that. These requirements have been clarified most recently as last week, so that we really have up to date news. The telecom's security clearance is now much simpler to understand, for all vendors, whether they're a manufacturer in China or elsewhere. For China manufacturing, obviously you now need to manufacture in India. That's why we specified on the call that we've - are in the process of establishing that, and you need to do final software testing in India. So we clearly understand the requirements, and are positioned to work with the Indian authorities to get the security clearance.

Okay. Alright. Okay. Perhaps just a last question. Regarding the approval of the BDA deal, do you think you can close the deal? I know you probably have surmounted the biggest hurdle, but do you think you can close the deal, say by the end of the third quarter? Or sooner than that?

Yes, certainly, we would like to do it much faster than that, if possible, because we have now got the government approvals. Obviously, we're dealing with the BDA. So the timing is very much up to them, versus us. We have little ability to influence it. But now, their approvals are there, we feel confident we can close it quite fast.

Okay. That's great. Thank you.

Thank you.

(Operator Instructions)

Next question is from Ari Bensinger.

Yes, hi. From Standard and Poor's. I may have missed it, but what was the total past deferred revenue in the quarter and what was its impact on gross margin?

Edmond, can you take that, please?

Yes, certainly. Total past deferred revenue for the quarter is $23.2 million. What -- what was the second question again, Ari?

And what -- how much did it benefit gross margin?

It carries an average gross margin percentage of 35%.

Okay. So, if we're looking at a truer revenue run rate, I know you're recognizing revenue through 2011, is it fair to say that -- because I think last quarter was also around $20 million, $23 million -- is it fair to say that your run rate is running between $50 million and $60 million currently? Absent the orders that you are going to receive.

That's correct.

Okay. And then what was the percentage of your revenue that relates to IPTV, given that's your primary growth driver?

Almost all of the MCB revenue is IPTV, as Edmond was talking about.

Okay. And can you give a percentage of your customer SoftBank, what it represented in the quarter?

Edmond, I don't have the details of revenue from SoftBank. Do you?

No, we probably don't have any SoftBank revenue for Q2, but we will be expecting some in Q3.

Okay.

We'll get back to you with the clarification on Q2. But the order, which I commented on in the call, the $10 million order, that came in July, so we would ship that in this quarter.

All right. That's good. And the new BMSL order, the $50 million for Phase III. What time period do you expect that to cover? I know you still have to go through security clearance, but once it begins?

Once it begins, we would ship quickly, because typically they have a 90-day requirement to complete all shipments. In other words, a three month requirement to complete all shipments.

Okay. Wow. That's good. And on your optical TN product, it certainly looks promising. Can you give us some color on how it did in the quarter? And your growth outlook for it, given how the wireless market seems to be, one of the fairly promising markets out there?

No, I agree with you. You're absolutely right. And this is why the SoftBank order is very important, because SoftBank have a reputation, as a mobile carrier, to be an early adopter. And they typically are quite aggressive on picking technology and moving forward, and they've had this product in test for effectively a year, so they've really stress-tested it in a lot of environments.

And then we talked about, on the call, having tests in China and a number of other orders which we're getting through our partner NEC. I mentioned Mexico telecom and T-Mobile. And then, obviously, we're looking to take advantage of this product in India as well, with the mobile operators. So we're excited about TN. Obviously, we've got to continue to push it hard, but we believe we have a leading product.

All right. Last quarter, I think you mentioned in the 10-Q that it was -- I don't know if this number is accurate, a 14% of revenue, is it -- has it stayed steady or is that --

We'll get back to you with that number, because unless Edmond knows it, I can't quote it off the top of my head.

Is it growing sequentially?

Let's get back to you with that specific number, because obviously revenue is dependent on FAC, and certainly the orders are growing, yes, which is the key indicator.

And last question. You are making progress in your cost structure, but you're still burning cash. Do you have any -- any internal forecasts for your cash burn for the rest of the year? And, at what level do you expect to be break even in terms of revenue, given the operating targets you gave in the low 20% gross margins, and under $100 million in OpEx? On an annual basis.

We're getting very close to break-even, as I think you can see, so I'll leave you to work that calculation yourself. But if you look at the next two quarters, clearly we can get into that territory with the right performance. So I think we're absolutely moving in the right direction. And, then, Edmond, can you comment on the cash, please?

Yes, we are also working on improving on the working capital management as well, too. In terms of the operating cash flow, we are looking at continuing on the improvement from Q1, and we are looking at continuous improvement into Q3 as well. At this moment, I do not want to provide any specific number, but Q3 operating cash flow will definitely be showing an improvement over Q2.

All right. That's good. Thank you.

Thank you.

(Operator Instructions)

There are no further questions at this time. There are no further questions at this time. Are there any closing remarks?

I'd just like to thank everybody for joining the call and for the people who asked the questions. Appreciate it very much, and operator, let's close the call.

Thank you for participating in today's conference call. You may now disconnect.