Polycom's CEO Discusses Q4 2012 Results - Earnings Call Transcript

| About: Polycom, Inc. (PLCM)

Polycom, Inc. (NASDAQ:PLCM)

Q4 2012 Results Earnings Call

January 23, 2013 5:00 PM ET


Laura Graves - Vice President, Investor Relations

Andy Miller - President and CEO

Eric Brown - Chief Operating Officer and CFO


Jason Ader - William Blair

Kent Schofield - Goldman

Jeff Kvaall - Barclays

Joanna Makris - Mizuho Securities

Mike Lattimore - Northland Capital

Bill Choi - Janney

Jess Lubert - Wells Fargo Securities

Sanjiv Wadhwani - Stifel

Ari Klein - BMO Capital Markets


… will be in a listen-only mode. Afterwards, we will conduct a question-and-answer session. (Operator Instructions)

As a reminder, this conference call is being recorded, Wednesday, January 23, 2013. I would like to turn the conference call over to Laura Graves, Vice President of Investor Relations. Please go ahead, ma’am.

Laura Graves

Thank you very much, Operator. Good afternoon, everyone. And welcome to the Polycom Fourth Quarter 2012 Financial Results Conference Call. I’m Laura Graves, Polycom’s Vice President of Investor Relations, and here with me today are Andy Miller, President and CEO; and Eric Brown, Chief Operating Officer and Chief Financial Officer.

As with previous quarterly calls, Polycom is augmenting today’s voice conference call with a video webcast. If you would like to receive the full webcast, please open your web browser at this time and enter Polycom’s Homepage, which is polycom.com, and click on the Q4 2012 Earnings Call link.

The Q&A session will be hosted via audio stream. For the analysts participating in the Q&A session, please leave your voice call live, so you can use your conference call connection for the Q&A session at the end of our call. We welcome all others to listen to the Q&A session. This webcast and a transcript of the prepared remarks will be maintained on Polycom’s website for up to three months.

We will be making forward-looking statements on this call including statements related to new and future product offerings, future financial and other trends and expectations, and guidance regarding expectations of future financial performance, which are subject to risks and uncertainties that could cause actual results to differ materially from our expectations.

We discuss a number of the business risks that may cause our actual results to differ materially in Polycom’s SEC reports, including our most recently filed quarterly report on Form 10-Q for the quarter ended September 30, 2012. Any forward-looking statements must be considered in the context of such risks and uncertainties.

Please note that any financial guidance that we provide on the call is valid as of today only, and we do not assume any responsibility to provide any updates of this guidance, regardless of changes that may occur in the future.

We will be presenting both GAAP and non-GAAP financial measures today. Please refer to our reconciliation of GAAP to non-GAAP financial measures in today’s earnings release, which is posted on our website.

Polycom’s application of U.S. GAAP requires disclosure that availability of new products, planned features and upgrades discussed during this call are subject to change or cancellation. Products and related specifications referenced herein are not guaranteed, and will be delivered on a when, and if, available basis.

Now to begin our commentary on our Q4 financial results, please let me turn the call over to Polycom’s President and CEO, Mr. Andy Miller. Andy?

Andy Miller

Thank you, Laura. Thank you. Thank you, Laura, and good afternoon, everyone. Q4 was a very good quarter for Polycom. Our company continued to perform well on both financial and strategic measures. Polycom reported revenue of $353 million in the fourth quarter of 2012, up 5% on a sequential basis and toward the upper end of our guidance of $345 million to $355 million.

Non-GAAP earnings per share in Q4 were $0.17. EPS was within our guidance range as well, net of a one-time tax benefit of $0.02. We are very proud of these results as they reflect a series of successful product launches and strong sales execution in each of our three theaters.

At Polycom, we have an aggressive vision to make video collaboration truly ubiquitous. To deliver on our vision, our strategy is to make video collaboration simple to use and available to everyone through open standards-based software, delivered through private and public clouds that connect people securely across any network, protocol, application, or device they want to use regardless of whether if it’s a traditional or in a virtualized environment.

From a product category standpoint, UC Platform grew 6% quarter-over-quarter in Q4. UC Group grew 5% and UC Personal Devices grew 2%. Although, quarterly revenue remain lower on a year-over-year basis as a result of the overall market.

We believe that our strategy is working and our business becoming much more predictable. It is particularly gratifying to see that the UC Platform has grown to over [$1.25] billion per year run rate despite what has been a challenging 2012.

On a sequential basis, both the Americas and EMEA theaters grew in Q4. Americas theater grew 2% sequentially. Our North America sales team is performing very well. We have strengthened theater sales leadership. We also saw strength in the U.S. enterprise again in Q4.

EMEA posted sequential revenue growth of 19%, which is especially gratifying given the difficult European environment and ongoing government mandated budget constraints in the region. We are very proud of our team in EMEA and we believe we’re doing better than any vendor in our space.

In Asia-Pacific, the sequential revenue decline of 2% was as expected primarily due to the temporary slowdown in China that we predicted last quarter. As a reminder, China generally accounts for almost 50% of our APAC revenue.

On October 8th at our Strategy Day in New York City, Polycom announced a comprehensive set of breakthrough innovations, which extend our best-in-class portfolio, to quickly recap our Q4 product announcements and to give you an update on each.

We announced the Polycom RealPresence CloudAXIS Suite as an extension to the Polycom RealPresence Platform to let customers extend secure enterprise grade video collaboration to users of Skype, Facebook, Google Talk, and other business video applications via a browser.

We believe this is a bold move for Polycom and a much-anticipated solution for our customers. We expect to bring this suite -- we expect to bring this solution to market at the end of Q1 2013.

Second, we announced RealPresence Platform enhancements, which include open standards-based SVC, providing three times the high definition multipoint video capacity. A version of SVC is the standard from Microsoft and is available to other vendors royalty-free. This software upgrade began shipping in November of 2012.

Third, we announced a superior user interface, updated software clients and next-generation room system end points. The majority of these products began shipping in November and December of 2012, with the remaining products to ship in mid Q1.

We also announced a new portfolio of mid-market solutions, including the RealPresence Collaboration Server 800s, Virtual Edition. The industry’s first multi-protocol software MCU, that runs on industry standard servers.

We believe this product, which began shipping in December of 2012 will be a key product for us as we continue to evolve the RealPresence Platform as a software that can run on industry-standard X86 servers in a virtualized environment and deliver cloud-based video collaboration from the data center.

We shipped an impressive array of new products in Q4 2012 with more to come this quarter and throughout 2013. I believe that our new solutions will fuel new growth opportunities for Polycom and for our partners. I’d like to thank our customers and our partner community for their continued support of these new products, following their very favorable reaction at the launch in October.

In terms of customer wins in Q4, Adobe Systems was one of our first customers to purchase the Group Series 300 and 500 units following our October 2012 product announcements. These win supplements and expands Adobe’s existing UC environment including numerous HDX’s and the RealPresence Platform.

In terms of our hosted business with service providers, we were pleased to provide thousands of voice units through a Tier 1 financial institution and association with the AT&T Managed Service. This customer also deployed a number of HDX systems with EagleEye Director for high-end conference rooms in their mix vendor video environment.

Another major financial institution purchased the entire RealPresence Platform suite and intends to integrate our technology with existing Microsoft solutions in several phases throughout 2013.

This second customer had acquired multiple organizations overtime, with many having different video technology solutions, they chose Polycom for our ability to integrate varying solutions and to deliver seamless interoperability along with enterprise-grade security that they can trust, an organizations of any real size and scale, we believe a low cost peer-to-peer application is not a substitute for enterprise UC solution. These wins are two of several key accounts for us in the financial vertical and our traction here is truly gratifying.

Alberta Health Systems continues to use video technology to define leading edge healthcare. Again this quarter, Alberta repurchased specific customized HDX solutions for their clinical environments, including our Practitioner Carts, Wall-Mount Systems for patient rooms and HDX’s for their stroke and chemotherapy projects. Alberta Health is also deploying a multi-thousand seat Lync license.

Our strategic relationship and deep integration with Microsoft were pivotal in securing this multi-year sole source contract for both core infrastructure and end point environments against our largest competitor.

And finally, in terms of specialized public sector wins. We believe that we continue to build share in the U.S. Federal Government space, including several multi-million dollar projects in Q4 with the Department of Defense, Finance and Security Protection agencies, many of which are projects in conjunction with Microsoft.

Turning to strategic alliances, our relationship with Microsoft continues to be a true sales differentiator for our company. Consistent with recent Microsoft Lync market momentum we experienced very strong double-digit growth in Microsoft related bookings in 2012 versus 2011.

Desktop and mobile video are becoming increasingly important UC components that must connect the established landscape of voice and video solutions in the enterprise. We continue to work closely with Microsoft to make voice and video communications a pervasive seamless experience of complementary solutions in the enterprise, driven by Skype-Lync federation and combined with Lync to Polycom interoperability.

On the carrier side, we announced the expansion of our strategic relationship with AT&T, whereby AT&T has chosen Polycom’s RealPresence Platform as part of the AT&T telepresence solution video infrastructure to provide interoperability within the AT&T business exchange will be used by AT&T telepresence solutions to build their next-generation video as a service offerings.

In addition, AT&T telepresence solution customers will now have access to a wide range of Polycom RealPresence Video Solutions, including immersive and multi-purpose rooms and personal systems as part of AT&T Telepresence Solutions Managed Service Bundle.

While AT&T has been a reseller of our products for sometime, this announcement places the RealPresence Platform at the core of AT&T’s video business exchange infrastructure. This enables us to deliver on our joint vision of video and video interoperability, and true ubiquity. This is a key win for Polycom and we look forward to working with AT&T to drive revenue.

We also expanded our relationships to IBM to develop joint offerings for unified communications and managed video services, as well as cloud-based videoconferencing, social collaboration and healthcare applications.

While we have partner with IBM on joint development solutions in the past, I’m personally very excited about the expansion of the go-to-market and joint selling initiatives between us, which we believe should be beneficial later in 2013.

We believe these initiatives with our strategic alliances evidenced the Polycom’s partnership profile is evolving from the more traditional distribution-only partnerships to now include larger service provider and system integrated relationships that are truly focused on solutions, cloud and virtualization with very exciting implications for Polycom. Again, I believe Polycom performed very well on both the strategic and financial measures in Q4 and we are very proud of these results.

I’d now like to turn the call over to Eric to review our detailed Q3 results and guidance. I will return following Eric’s sections to outline our strategic priorities for 2013 and to lead the Q&A session. Eric?

Eric Brown

Thank you very much Andy. For financial reporting purposes, the results of our enterprise wireless solutions business or EWS are considered discontinued operations for all periods presented. Accordingly, results discussed on this call are based on our continuing operations only, and exclude the EWS results unless otherwise indicated.

Polycom generated revenues of $353 million in Q4 2012, which was above consensus and towards the high end of our guidance range of $345 million to $355 million. Q4 non-GAAP earnings per share were $0.17. Please note that $0.02 of non-GAAP EPS was attributable to lower than planned tax rate in Q4. We had good performance at both the topline and bottom line and managed our operating expenses.

Looking at revenue by geography. Americas revenues were up 2% sequentially and down 3% compared to the same period last year. As Andy noted, the North America sales team is aligned and performing well. We continue to see strength in North America enterprise in Q4. EMEA revenues were very strong, posting 19% sequential growth although still down 10% compared to last year, largely as result of the ongoing macroeconomic situation in Europe.

EMEA performed slightly ahead of our internal expectations. Asia Pacific revenues were down 2% sequentially as expected and down 18% compared to last year. Within the APAC theater, China was down 25% year-over-year but in line with our expectations for a temporary slowdown in Q4 and Q1, 2013 due to the government transition. We expect to see an improvement in China overall in 2013, beginning in Q2.

All product categories grew sequentially in Q4. Revenue by product category including the services attached to each was as follows. UC Group Systems, which includes immersive telepresence, group video and group voice systems was up 5% sequentially to $238 million, or 67% of revenues.

This product category is down 8% year-over-year as a result of the pullback in the overall market from 2011 levels. UC Personal Devices, which includes all desktop video devices and desktop voice, was up 2% sequentially to $47 million, representing 13% of revenues in Q4. This product category was also up 2% year-over-year.

UC platform revenue, which includes the Polycom RealPresence platform was up 6% sequentially to $68 million, comprising 19% of revenues in Q4. UC platform was down 15% on a year-over-year basis as a result of the strong prior-year Q4 result which followed the September 2011 launch of the RealPresence platform. UC platform has grown throughout 2012 to over a $0.25 billion per year revenue run rate and is approaching 20% of overall revenue.

Our Q4 revenue mix was 74% product and 26% services. Product revenue grew 6% quarter-over-quarter but declined 14% year-over-year, again as a result of the pullback in the overall market. Services revenue was up 3% sequentially and up 10% year-over-year in line with our increased focus on this area of the business.

From a channel standpoint, the revenue breakdown for the quarter was as follows, 28% through value-added resellers, 62% through distributors, 9% through service providers and 1% direct. Please note that approximately four percentage points of our distribution business in Q4 was driven by the ITSPs and other service providers fulfilled through distribution, making service provider revenue 13% of the Q4 total.

With recent announcements, including our partnership with AT&T, we expect that that service providers will be an increasingly important channel for us in 2013.

Now, I would like provide information on deal metrics. The following is based on information reported by the field. Please note that this information is not complete in terms of our total transaction volume and is based on a bookings view of transactions closed in our salesforce.com system, not GAAP revenue. This is intended to provide the basis for a representative view of the quarter.

We had a total of 14 transactions greater than $1 million this quarter, compared to $19 in Q4 last year. The number of transactions ranging from $500,000 to $1,000,000 is $41 million in Q4 2012 versus $47 million. Midsized transactions in the $250,000 to $500,000 range were 124, compared to 158 in Q4 last year. We had a total of 656 transactions greater than $100,000 this quarter, compared to 692 in Q4 last year. In terms of linearity, we recorded 47% of revenues in the third month of the quarter compared to 50% in Q4 last year.

Moving to the P&L, non-GAAP gross profit margins for the fourth quarter were 59.9%, down 1.6 percentage points from Q4 last year, primarily as a result of the lower UC platform mix. There is no change in the competitive pricing environment in Q4 versus Q3.

We did, however, implement a planned Q4 marketing promotion on the HDX product line in connection with our new product announcements. This resulted in slightly higher overall discounts in Q4, which is included in our Q4 gross margin.

Q4 non-GAAP operating expense line items were as follows, sales and marketing expense represented 30.2% of revenues for the period, up from 27.3% in Q4 last year. R&D expense was 14.1% of revenues, up compared to 12.2% in Q4 last year. And G&A was 5.6% of revenues versus 4.2% in Q4 last year.

These increased percentages are a function of lower total revenue versus the prior period and this semi-fixed investment, we’re making for the engineering and marketing launch of our new product portfolio. Q4 non-GAAP operating income was $35 million, or 10% of net revenues. This compares to $69 million in non-GAAP operating income or 17.8% of net revenues in Q4 of 2011.

Other income and expense in Q4 was a net expense of approximately point $0.9 million comprised of $0.1 million of net interest income and approximately $1 million of other expenses, including the impact of foreign currency, equipment disposals, and non-income related taxes in certain geographies.

Our Q4 non-GAAP effective tax rate was 10.7% and our GAAP effective tax rate for continuing operations was 6.7% before inclusion of a significant one-time tax charge of $38.8 million related to a capital gain associated with the plan of tax restructuring. This capital gain substantially offsets the capital loss incurred with the divestiture of EWS.

Our non-GAAP tax rate had an unplanned one-time benefit of 10 percentage points on the rate which translated into a $0.02 non-GAAP EPS benefit in Q4. Q4 GAAP diluted EPS was $0.01 per share, compared to $0.28 per share in Q4 of last year. Q4 non-GAAP diluted EPS was $0.17, down compared to $0.38 in Q4 last year.

Turning to the balance sheet, we exited the fourth quarter with cash investments of $725 million. We have just over $4 per share in cash and investments. Polycom’s deferred revenues grew to $250 million in the fourth quarter, growing 2% sequentially and 13% versus last year.

Deferred revenue grew on a year-over-year basis as a result of an increase in software maintenance agreements associated with UC Group and UC platform products. We purchased $5 million of common stock under our share repurchase program in Q4.

We completed the divestiture of our enterprise wireless service business in early December for immediate net cash proceeds of $49.7 million. These onshore cash proceeds increased our share repurchase authorization, bringing our total outstanding repurchase authorization to $73 million as of December 31, 2012.

Moving to accounts receivable, we ended the quarter with total AR of $195 million, resulting in a DSO of 50 days versus 51 days last quarter and 49 days in Q4 last year. Inventory turns in Q4 were 5.7 times compared to 5.2 times in Q3 2012 and 6.4 times in Q4 last year.

We generated $66 million in operating cash flow in the quarter. On a trailing 12-month basis, our operating cash flow was $187 million, with just over $4 in cash per share as of the end of Q4. Our current enterprise value is approximately six times or trailing 12-month operating cash flow.

Moving to headcount, Polycom had 3747 employees at the end of Q4, essentially flat from the end of Q3. By expense area, we have the following number of employees. Cost of goods 765, sales and marketing 1286, research and development 1107 and G&A, 589.

Moving onto guidance for Q1 2013. The following key assumptions are reflected in our Q1 guidance. We just announced a very broad range in set of new products that will supplement and extend our existing portfolio. We strongly believe that our new solutions will accelerate mass adoption of video collaboration and fuel new growth opportunities for Polycom and our partners, manifesting itself in revenue growth in the latter half of 2013.

We plan to position our company accordingly while being mindful of normal revenue seasonality along with our Q1 expectations for China. Based upon these factors are Q1 guidance is as follows, revenue ranging from $330 million to $340 million with a key variable in our view, been revenue levels in APAC.

Non-GAAP gross profit margins ranging from 60% to 60.5% of revenue. Total non-gap operating expenses ranging from 53.4% to 52.1% of revenues. We will continue to invest in product development and sales and marketing activities in Q1 as we bring products to market in the early part of 2013 and completes certifications for regions and customer segments.

We will also incur Q1 expenses associated with our annual team Polycom worldwide sales in partner event, which occurs in Q1 this year versus Q2 in 2012. Costs associated with this annual sales event are roughly $4.5 million, which is equivalent to approximately $0.02 of EPS in Q1.

Non-GAAP operating income for Q1 is expected to range from 6.9% to 8.3% of revenues. We expect a GAAP tax rate of 21% and a non-GAAP tax rate of 20%. Please note that for guidance purposes starting in Q1 and continuing for the balance of the year in 2013, we will be using a constant Non-GAAP tax rate of 20% which we believe reflects the long-term average based on our tax structure and geographic distribution of revenue and profits.

Share count is an estimated 179 million diluted shares, exclusive of share repurchases. We expect GAAP EPS ranging from a loss of $0.01 to a loss of $0.03 and we expect non-GAAP EPS ranging from $0.10 to $0.12. Again, please note that this includes a $0.02 EPS cost in Q1 related to our annual team Polycom sales kickoff event, which occurred in Q2 last year.

I would not like to provide some directional information regards to full year 2013 expectations. For the overall industry, we expect that total revenues products or services will grow at mid-single digits for 2013 versus 2012. For Polycom, we have the following expectations.

We believe revenue will grow by mid to upper single digits overall in 2013, as we built share and benefit from participation in high growth segments of the overall market. We’re expecting a return to year-over-year revenue growth in the second half of 2013.

In terms of operating expenses in 2013, we’re currently modeling approximately similar dollars levels in Q1 as in Q4 with a step up in Q2 to allow for full funding of our employee bonus pool which we only partially funded in the first half of 2012 due to lower revenue. We expect operating expenses to decline as a percentage of revenue beginning in Q2.

On a full year basis, we currently expect single-digit non-GAAP EPS growth in 2013 versus 2012 with acceleration of profits coming in the second half of the year. As we ramp our new product releases, expect to see improved demand in North America and China, and as we anticipate expanded gross profit margins through software mix and higher maintenance renewal rates.

Now, let me turn the call back over to Andy for closing comments.

Andy Miller

Okay. Thank you, Eric. Thank you, Eric. Our strategic priorities for 2013 are as follows. Number one, we strive to increase both product and service revenue. We believe there is a continued opportunity to increase market share versus our other competitors.

Polycom is executed well in a tough market in 2012. We continued to be a destination for top talent and have improved our global sales leadership capabilities, include expertise around selling into new business models such as software, cloud and virtualized data centers.

In terms of R&D, our cloud related development efforts continue as we bring new cloud ready software products to market like the RealPresence Collaboration Server 800s, Virtual Edition that launched this past quarter.

In 2013, our plan objective is to virtualized core components of the RealPresence Platform for customers who choose to deploy virtualized solutions in the software defined data center environment.

Secondly, we continue to believe that there is ample opportunity to expand margins given the continued evolution to products with a higher proportion of software such as CloudAXIS.

We have initiatives that will attach additional service revenue with each product that we sell. We plan to bring new advanced services and network managed services offerings to the market in the later part of 2013.

Number three, we expect partner related revenue to grow in 2013, especially in the later half of the year, driven in part by the strategically significant alliances such as Microsoft, the latest announcement with AT&T and an extended commercial relationship with IBM.

Polycom is leading the evolution to new forms of video deployment to deliver growth, including business models that include software and cloud-based delivery of enterprise-grade video collaboration to anyone, anywhere, on any device whether deployed in a traditional or virtualized environment.

We are encouraged by the trends evidenced the back half of 2012 and look for to an exciting year in 2013 based upon our market and technology leadership, our improved position with service providers and system integrators, as well as a product portfolio that we believe is the most comprehensive in the industry.

Now, we would like to switch to the audio portion of our call for Q&A. As we discussed earlier in the call, many of the statements we’ve made and will make during the Q&A period are forward looking statements which are subject to many risks and uncertainties.

Is the conference call operator available at this time?

Question-and-Answer Session


Certainly. (Operator Instructions)

Andy Miller

First question please.


Our first question at this time comes from Jason Ader with William Blair. Please go ahead.

Jason Ader - William Blair

Thank you. Andy, I was just thinking about the pullback in the industry that you guys have talked about and certainly called last year. I guess, as customers sort to take a step back and look at their alternatives, what makes you confident that they are going to not choose kind of an overall different architecture that is more focused on, kind of, I don’t want to say free, but more kind of products that are integrated already, like a Webex or and even a Skype. I know Skype may not be considered business quality yeah. I know businesses are using Skype and more and more businesses are seeing the value of using kind of more let’s say software client focused solution?

And how does that impact, if that occurs, how do you guys address that, how do you deal with that, given that preponderance of your revenue and your business is in the room systems market?

Andy Miller

Well, I think, Jason, we try to make it not only very clear on the call we just have but also through anecdotal and empirical evidence from Q4, and most importantly from our customers that these -- the peer-to-peer "free software are fine for ad hoc calls.”

But from a true enterprise experience, I think customers are voting with their wallet on Polycom. And I believe that products like our cloud technology, our virtualized technology such as the 800s, Virtual Edition, our commitment on the earnings call to take the RealPresence Platform provide Virtual Edition for that in the second half of the year.

And I think most importantly, the CloudAXIS technology that will be available at the end of Q1 satisfies all the elements of either cloud, virtualized or the ability to bridge B2C and B2B.

So we think that we have the entire application continuing covered with the applications that we have already delivered or will deliver at the later part of the first half of 2012, and I believe that’s evidenced by the take rate of CloudAXIS, the take rate of the 800, Virtual Edition and sentiment from our customers. So we feel very confident. That’s why Eric and I wanted to talk about how we see the full year, because we see this evolving quite nicely.

Jason Ader - William Blair

And Eric, have you guys given a metric on new customers versus existing customers revenue?

Eric Brown

No. We have not, traditionally reported that metric, I don’t anticipate that we would. But I think it’s fair to say that we’re doing well. The -- some of the key wins, the callouts were indeed from existing customers, Adobe, a long-time customer stepped up very, very quickly for the new Group Series. We’re encouraged to see that.

And we’re expecting to really open up a broader set of net new customer adds as we reach lower into the SMB portion of the marketplace, the Group 300 in particular is well-suited for that.

Okay, we are going to have to move forward, Jason, thank you for the question. Next question please?


Our next question comes from the line Kent Schofield with Goldman. Please go ahead, sir.

Kent Schofield - Goldman

Great. Thank you. I was wondering if you could touch a little bit on some of the carrier partnerships. I know you did that on the call little bit earlier. But in terms of some of the announcements that you made recently, some of the traction that you are getting there thus far?

Eric Brown

I think we have a plethora of carrier customers both on the sell-to and on the sell-through. In prior calls, we’ve talked about relationships with carriers such as Telstra, OBS, BT. We chose to highlight the AT&T example, because this was a project that was three years in the making that was focused on our largest competitor that had an embedded solution with insight AT&T.

I believe with their vote of deploying the Polycom infrastructures to support their next-generation cloud technology was, not only vote with the wallet but vote more importantly with a solution.

So we think that the relationships now in place with the larger carrier just OBS, BT, AT&T as an example will enable us to have the referencability. But more importantly a really extended global reach into customer bases, CI relationships that we’ve never had before.

So we’re very bullish on our carrier focus. We’ve invested quite a bit from an R&D and from a go-to-market perspective. I think that’s a -- again the AT&T transaction was I think the first of others and many to come.

Kent Schofield - Goldman

And when we think about some of the new products especially going after the mid-market, what sort of channel development have you done thus far and what else needs to be done there in 2013?

Andy Miller

So the Group 300 and the Group 500, and the Virtual Edition, 800s were aimed specifically at the mid-market. We’ve done I think some very good work early on with our VARs and our distis around, not only our infiltration into the competitive environment in the SMB to mid-market, but our positioning as a cost-effective but highly focused solution that provides kind of an all-in-one approach to these types of customers.

So a good channel investment across the global theaters as relates to the position doctrine of end-to-end solution whether it’s SMB, mid-market, high-end enterprise, public cloud versus private cloud, premise-based or data center virtualized.

So I think you’ll start seeing some good metrics myself and Eric as we go through each quarter as relates to our continued proliferation of the mid-market. Thank you. Next question please?


Our next question comes from a line of Jeff Kvaall with Barclays. Please go ahead.

Jeff Kvaall - Barclays

Yeah. Thank you all very much. I have two questions if I may and I think one Andy is very macro one on the overall industry that I’m hoping you can help with and that is very focused on this transition from the hardware model to the software model. When you are talking about the industry returning -- you returning year-over-year growth rate in the second half. Does that also apply to the industry and what gets you confident that the buyer, the CIO, the IT manager has gotten themselves through the transition of migrating from a hardware-centric model to a software centric one?

Andy Miller

Right. So let me split that up. Let me take the macro then I’m going to turn over to Eric for some of the other follow-up as it relates to the quantitative aspects. So what I think transitions are not fair to be defined in a one-year period. I think it’s a marathon, not a race.

There will be CIOs that have data centers that are ready to be virtualized. There are CIOs that prefer to look at deployments of this technology over public clouds, such as we mentioned with AT&T. But I think we’re in the early days of that transition. I believe that customers for the first time have a choice, a choice of platform-based versus software.

They have a choice between a private cloud or public cloud. They have a choice between platform-based or virtual. So I think that it really depends on the environment. It depends on the solution deployment. But we feel confident because we now have the solutions in place, plural, to allow the CIO to make that call.

And some will be early adopters, some will be laggards but as we said before, in the mid-year we have all the solutions in place, our sales team is going to be and is today very articulate in terms of the word choice, in terms of what’s right for the customer. And I believe that we’re the only vendor that has both solutions that can articulate and be delivered to provide that CIO of choice.

Eric, I will let you pick up on the second part.

Eric Brown

Sure. In regards to the outlook for the industry and specifically, how we view our second half of the year. We do expect return to growth in the second half and again that’s defined as expected year-over-year growth in each of Q3 and Q4. So that’s what we’re expecting.

And the rationale underlying that is the following, number one, we’re at the midst of a very exciting product cycle. Those of you that attended the Strategy Day in October last year in New York, you would have seen us enhance and augment basically the entire product portfolio from infrastructure to endpoints and soft clients.

So we’re at the -- in the midst of a pretty exciting product cycle transformation with all the products being sold through existing channels. So, the degree of difficulty there is low because a group series could be marketed like in HDX series. We will be launching new products. CloudAXIS will be shipped at the end of March and so that’s something new where we’ll get sales leverage and opportunities in the back half of the year. And by then, we’ll have full momentum on the new group series of soft clients, 800s and mixed mode SVC, AVC enhancements.

So it’s really a combination of five or six major new product innovations falling into the second half of the year that that gives us the confidence to assert the expectations for year-over-year growth.

Andy Miller

Thank you for the question. Next question, please.


Our next question comes from the line of Joanna Makris with Mizuho Securities. Please go ahead.

Joanna Makris - Mizuho Securities

Hi. Good afternoon. So just looking at some of the changes in deal metrics, obviously, there was a significant drop-off kind of that low and mid range. You talked about a lot of new product introduction. When can we see some stabilization and reversal of those year-over-year transactional trends?

Andy Miller

Well, let me take the first part, I’ll turn over to Eric again. So the products we just introduced in Q4, it does take time as we’ve talked about the past couple quarters to get those products tested, certified into the market, into the channel and deployed by customers. And that’s why Eric had talked about the back half of 2013 in terms of returning to year-over-year growth.

But we tried to articulate in the call that there is some very prominent customers that have voted with the wallet early as relates to the transition to the group series 300 and 500. So we feel confident that as we’ve talked about that we’re starting to see these products being seated into these type of accounts, new channels and distribution methodologies to market, carrying these products. And we’re very, very pleased with the feedback today from our disti, our channel and our partner community. Eric?

Eric Brown

Yeah. I’d also add on that. Again, we’re launching the new products targeted at the SMB and in some cases slightly at the lower end of SMB. So the average ASP may be a bit lower for net new customers. But the important point here is net new. So the Group 300, for example, is an opportunity to go after a net new and also we’re going to have coverage through joined go-to market with AT&T in the latter half of the year.

That’s going to bring us into a much broader base of the potential customer accounts that we don’t see today through our existing disti and reseller network. And so here the mix of activity will be a bit different. We expect transaction count will be up as a result but in some cases, the starting ASP’s in new accounts maybe a bit lower.

Andy Miller

I’d just like to add one point Eric. When we talk about software technologies like CloudAXIS as an example, some may feel that it cannibalizes. It’s actually the inverse. CloudAXIS which frankly as I most talked about solution with CIOs today is completely a pull through because it resides in the RealPresence platform.

So it pulls through. The RealPresence platform, infrastructure, it pulls through endpoints and it provides industry first connectivity opportunities. So while software is a very important point as it relates to standalone category, it actually is a friend, not a foe of hardware and platform as well. So thank you for the question. Next question please.


(Operator Instructions) Our next question comes from the line of Mike Lattimore with Northland Capital. Please go ahead.

Mike Lattimore - Northland Capital

Thanks. In terms of the new product, how do you think about them contributing in the second half of the year. Should we expect them to be under 5% of revenue, 10%, let me kind of arrange new products, how you see new products contributing as a percent of total revenue?

Eric Brown

In regards to the principal product transition that we have occurring or augmentation I should say, HDX versus the Group Series. HDX line is very well seasoned. It’s doing well. We recently updated with new software to enhance capabilities. It performed in a quite strong fashion in Q4. It was a launch quarter. We had a partial quarter for Group Series.

By the end of Q1, we will have the Group Series 700 and a China specific SKU as well in the marketplace. And so it’s the start of a bit of a ramp. We certainly would expect that we’ll get well over 10%, 15% of revenues to move through the year -- moving into the Group Series versus the HDX.

And then in the back half of the year, it would be an opportunity on the federal side which -- it’s a bit too early to call that. So net a more gradual transition, not a one for one transition over the next 12 months.

Andy Miller

Good. Thank you, Eric. I think we have time for one more question.


Our next question comes from the line of Bill Choi with Janney. Please go ahead.

Bill Choi - Janney

Okay. Thanks. I want to understand the linearity here. I think the final month you said was 47% versus maybe 50% a year ago. Normally, it’s about 50%. You did have a pretty busy launch quarter, mainly the new products in November, December. Did that help or hurt the linearity? Just trying to understand the dynamics of the new product and linearity and what might have been going on with your customer decision making?

And then the other one is, Andy, on your prepared comments, you talked about the business becoming more predictable. I’m curious, I mean everything I have heard so far seems to be marketed towards new products and the new model helping. How does that necessarily help predictability of being able to call the revenue and I’m just curious a bit. There was something else to that.

Eric Brown

HI. This is Eric. I’ll take the first part of the question regards to linearity. And so again just to confirm the stat, final month 47% of revenue versus 50% in the final month in Q4 in the prior year. So a slight improvement in linearity.

In regards to managing the transition, we spent a lot of time thinking about this in advance because it is a tricky opportunity. I think that we are pretty good, effective messaging at our strategy day in October and we provided a clear statement of the benefits of the new Group Series versus the very well seasoned and proven HDX series.

I think we’re able to position the new 800s properly side by side, the core RealPresence Platform as well. So I think that it ended up more or less as we had hoped in terms of linearity. But it did require a fair amount of detail plan, evidence of which again, you would have had a chance to see at the Strategy Day presentation.

Andy Miller

Bill, I would add on. So I define predictability as it relates to a few metrics that we look at internally. First is in pipeline. I look at pipeline in salesalesforce.com. We look at our demand generation programs and that tends to be a single view of the truth.

But I also look at the sentiment of CIOs whether it comes from Gartner and Forester or if it comes from our own sales team in terms of what the sentiment is in the market now. I also look at our partners. If you go back three years ago, we had seven key Polycom Open Collaboration Network Partners.

Today, we’re really focused on the relationship with Microsoft around length. We focused now very significantly on IBM and as we just talked about in the earnings calls with AT&T. So our partner profile in terms of predictability, pipeline, pipeline conversion is very good. And I think the final point around predictability is our sales team.

We have a fully staffed leadership team from sales perspective that we’re very pleased within all three theaters. We’ve already rolled out our quarters, our compensation plans. We’ve rationalized the growth rate to allow our sales team to exceed and to stretch and to over perform. So I think we’re at that stability platform. So pipeline, sentiment, partnerships, compensation and morale in the sales force, all adds up to predictability. And that gave Eric and I the confidence to use the choices awards that we’ve used today.

I have been told by Laura Graves that we do have time for several more questions. So if there are more questions, our conference operator will be more than happy to accommodate.


Certainly. Our next question comes from the line of Jess Lubert with Wells Fargo Securities. Please go ahead.

Jess Lubert - Wells Fargo Securities

Hi, guys. I wanted to follow-up on that last question, specifically with respect to what’s giving you visibility beyond the March quarter, it seems like, near-term that things are still in a pause.

So are you seeing any signs that the industry pause is coming to an end and then, I’d be curious to understand to what degree your forecast assumes a better micro environment in the second half, and what’s giving you confidence that the Federal outlook and that business in China improve as we work through the year?

Andy Miller

So let me take the pause question and the China question, and then I’ll turn it over to Eric for some of the quantitative aspects. So I think the word pause is, I like to use the word transition.

And we’re not mind readers in terms of how long this transition will last, but we are very clear in terms of, as a leader, you have to be able to impact the transition and the way that you impact it, is to be able to bring out a multitude of solutions to give the CIOs a choice.

If you look at last year, we had pretty much a hardware and software platform choice. This year, we have a choice CloudAXIS, B2B and B2C. We have mid-range solutions and SMB solutions. We have software solutions in terms of soft MCU.

So our focus is, how do we get the transition to ramp and get through faster, in the way that we intend to do it is through a multitude of choice, solutions for our customers and our partners, and we’re now a week away from our team Polycom event in Vancouver.

We have several thousand people attending who are our partners of our company and a sentiment coming into it, we’ve done quiet a bit of work, I think is align to with the sentiment on the call as we list to how we’re going to work through this transition with these new solutions.

As relates to China, we made a call last quarter, around we saw China slowdown. We made it very clear that we were not losing market share, 53.7% market share that is not changed in China, against competitors such as Cisco and Huawei.

But with the seating of the new government that’s now in place and I think some of the macro figures that have come out of China just in the last several weeks, point to clearly a rebound in the China market.

So I think we called it with some of these other metrics around challenging Q4, challenging Q1 and as Eric talked on the call, a return to growth in Q2. So it’s not a competitive dynamic in China, it’s as we expected and that follows the talk track from Eric. Eric?

Eric Brown

Yeah. I would just say that, it’s not as there are a micro view has changed significantly other than the -- this specific forecasting that you’ve taken on China that’s played out as predicted. So we’re pretty -- feeling pretty good about our assumptions there and a better second half in that market specifically.

Other things that have, that played into the pause that we see clearing up a bit, the question of Lync deployment, how organizations deploy, what rate and what is the strategy for interop -- and interconnectivity.

We look at our Microsoft-influenced revenue and we cited the statistic that, it is growing at a very strong rate, healthy double-digit year-over-year growth in Microsoft-influenced revenues. So that’s a partnership founded on not just go-to-market, but on core technology. So we think that’s certainly helpful for us.

The second thing is that, we have a sales team fully staffed, fully -- and fully ramped. So I was looking at the back half of the year, we think that, we feel good about the quarter assignment.

And the third thing is that, again back to the product cycle, we have a whole series of product launches in the December quarter of last year and upcoming in the March quarter this year, CloudAXIS being the most notable one.

We move into the back half of the year hitting our stride with a full new set of solutions, high-end enterprise all the way down to the lower portion of mid-market moving through the channel. So, that give us bit more confidence on the second half.

Andy Miller

Excellent. Thank you. Our next question please.


Our next question comes from the line of Sanjiv Wadhwani with Stifel. Please go ahead.

Sanjiv Wadhwani - Stifel

Great. Thank so much. Andy, I just wanted to ask a quick question on the AT&T agreement and also sort of on the service provider side. Obviously, the AT&T agreement is important that kind of opens up an important revenue stream and business opportunity for both of you?

But are there any metrics we should be looking at going forward with regard to the AT&T, like you kind of just cited with Microsoft where you have sort of “Microsoft-influenced revenues?”

And then, any other meaningful service provider relationship we should be expecting over the course of the next 12 months or so? Thanks.

Andy Miller

So a couple of things, first, yeah, clearly going forward we’ll be providing metrics as relates to AT&T, there will be attach rates to their cloud clearly with end points, there will be software attach rates in terms of advance services like CloudAXIS and there will be attach rates like service revenue. So those will definitely be forthcoming over the coming quarter as we ramp up this relationship. Eric, any other feedback on AT&T?

Eric Brown

Yeah. I would say that the other thing to consider before we get to the revenue metrics or influence metrics with the AT&T, but we’ll need to work with them for on the technical side to make sure that the RealPresence Platform in their network is operating exactly as they intend.

So the indications you’d see for us in the first half might be along lines of how that is progressing and in the back half that’s when we’d have an opportunity to be talking about revenue influenced indicators.

Andy Miller

And I think just second part of your question was what other service providers will come on to Polycom network in 2013. I think I can’t give you that in advance. What I can tell you is, traditionally our relationships with carries has been sell-through where they have acted as a channel.

I think now we have a platform that’s been established to sell-to to basically illuminate that private and public cloud. I think that’s big and very important mark to understand around the difference between sell-to and sell-through.

With the references that we have now specifically AT&T and Telstra, and many others, I think we’ve now established a reputation of a provider that we can sell equipment too to enable that private or public cloud and we intend to, we set up a specific sales team, a specific engineering team, a specific service team, a specific marketing team across our company to solely go after that carrier community. So thank you for that, we have time for one more question.


Our last question comes from the line of Tim Long with BMO Capital Markets. Please go ahead.

Ari Klein - BMO Capital Markets

Hi. This is actually Ari Klein on for Tim. Thanks for taking the question.

Andy Miller


Ari Klein - BMO Capital Markets

I was just wondering, can you talk maybe a little bit about the strength in EMEA and how repeatable do you think that is and then maybe you can touch on the Federal business, what you’re seeing there?

Andy Miller

Sure. I’ll tag team with Eric, I mean, as we said on the call, we’re just really pleased with EMEA business. I think that they have the micro challenges and the geopolitical challenges in Europe affect all companies across the Board. I think we definitely -- as we’ve said on the last several calls, I think early on we focused on areas such as the Nordics and Russia, and Germany, and we were able to rise above the tied as it relates to our performance. And now as things seem to be at least stabilized in EMEA we are returning to our investments in other areas such as France and Middle East as an example.

So we’re very satisfied that we operate in what seems to be a stable environment for Polycom in the macro conditions of EMEA. On the federal side, we had a good federal year in 2012. Like everyone, we’re cautious around our federal spend. We’ve done a really good job with certifications, JITC genetic certifications and the investments that we’re making in terms of certifying the new products that we talked about today to be ready for the federal buying season at the latter half of ‘13.

So I think cautious like everyone in terms of civilian DOD and Intel spend. But I think we have the right plan in place to be able to achieve those goals.

Eric Brown

And this is Eric. What I would add on in terms of EMEA again, we’ve talked about this before but that team relatively to other theater teams has had in place a solution signed approach for a longer period of time. So they certainly entered the quarter with more experience in that regard.

And so look at some of the countries, where we saw strong sequential growth. We did very well in Germany, a quarter-over-quarter U.K., Ireland, other Nordics, Benelux as well and you did reasonably well in Southern Europe versus seeing a falloff.

So like we noted stronger than expected in the performance up for EMEA versus our internal forecast going into the fourth quarter such a stay, we attribute to the great execution by the team there.

Andy Miller

Okay. I think we’re about out of time. We appreciate everybody joining us for the earnings call. We look forward to see you same time, same place next quarter and again thank you very much for attending. Have a great day.


This does conclude the conference call for today. We thank you for your participation and ask that you please disconnect your line.

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