Seeking Alpha
We cover over 5K calls/quarter
Profile| Send Message| ()  

Executives

Richard D. McBee - Chief Executive Officer, President, Chief Operating Officer and Director

Steven E. Spooner - Chief Financial Officer and Principal Accounting Officer

Analysts

Ashwin Kesireddy - JP Morgan Chase & Co, Research Division

Kiera Kilkowski - BofA Merrill Lynch, Research Division

Ron Shuttleworth - M Partners Inc., Research Division

Todd Coupland - CIBC World Markets Inc., Research Division

Mitel Networks (MITL) Q3 2013 Earnings Call February 28, 2013 5:00 PM ET

Operator

Good day, and welcome to the Mitel Networks Third Quarter Earnings Call. As a reminder, today's conference is being recorded. At this time, I would like to turn the conference over to Monica Gould.

Unknown Executive

Thank you. This is Monica Gould, Mitel Investor Relations, and I'm pleased to welcome you to Mitel Networks Third Quarter Fiscal 2013 Earnings Results Conference Call. At 4:05 p.m. Eastern Time, Mitel published its earnings release to the global newswire. The release is also available on Mitel's Investor Relations website at mitel.com. A replay of the conference call will be available through Tuesday, March 5, 2013. To access the replay, please dial (888) 203-1112 and enter the passcode 6324700. Callers outside the U.S. and Canada should dial (647) 436-0148 and enter passcode 6324700. The webcast will also be archived on Mitel's Investor Relations website for 3 months.

Some of the statements made in this presentation, including the information regarding our financial performance targets for the fourth quarter of fiscal 2013, will be forward-looking statements within the meaning of applicable U.S. and Canadian securities laws. This presentation includes forward-looking statements pertaining to, among other matters, our future economic performance; profitability and financial condition; general global economic conditions; our business strategy, plans and objectives for future operations; our industry and the growth in the markets in which we compete; the cost of operating as a public company; and our ability to implement and achieve our business strategies successfully. These forward-looking statements reflect currently available information or our current views with respect to future events and are based on assumptions and subject to risks and uncertainties.

In making these statements, we have made assumptions regarding, among other things, no unforeseen changes occurring in the competitive landscape that would affect our industry generally or Mitel in particular; a stable or recovering economic environment; no significant event occurring outside the ordinary course of our business; and stable foreign exchange and interest rates. Actual events or Mitel's results, performance, financial position or achievements could differ materially from those contemplated, expressed or implied by such forward-looking statements as a result of various risk factors and uncertainties, including the risk factors described under the heading Risk Factors in Mitel's annual report on Form 10-K, which has been filed with the U.S. Securities and Exchange Commission on June 19, 2012, and filed with Canadian securities authorities. Except as required by law, Mitel is under no obligation to update any forward-looking statement, whether as a result of new information, future events or otherwise.

Let me now turn the call over to Mitel's President and CEO, Richard McBee.

Richard D. McBee

Thank you, Monica. Joining me today on the call is Steve Spooner, Mitel's Chief Financial Officer. Q3 was a busy and a successful quarter. We delivered solid revenue and gross margins, each in line with guidance and we also generated strong cash flows. Subsequent to quarter end, we refinanced our debt at favorable terms and signed a Letter of Intent with the prospective buyer for the sale of our DataNet/CommSource business unit, which we anticipate completing as early as tomorrow. I'd like to thank Mitel employees for their hard work to make this quarter such a success.

We are pleased to report revenue for our fiscal third quarter ending January 31 at $142 million and adjusted EBITDA of $22.6 million or 15.9% from continuing operations. Our solid business performance enabled us to refinance our existing credit facilities with new debt on favorable terms. Steve will speak more to this in his remarks. In addition, we utilized excess cash to reduce our overall debt, further strengthening our financial position and operating flexibility. The economic environment continues to be mixed. We saw some softness in our international market, specifically Europe. For my many discussions with customers and partners, there is a real need for operating or modernizing many companies' communication systems. While the timing of customer order remains the big variable, our funnels continued to be strong. We are very well positioned with our clearly differentiated solutions and our industry-leading virtualization capability. In addition, our unique ability to seamlessly move between premise-based and cloud on a single product platform gives us tremendous competitive advantage.

We continued to achieve success in the market with our industry-leading cloud solutions. During the quarter, we demonstrated continual growth in our virtual solutions, a critical technology that enables cloud-based service delivery, virtualize shipment penetration with 27%, up from 12% in the third quarter of last year. More than 40% of our UC application sold today are configured for deployment on virtual machines and that's in comparison to just over 25% a year ago. Our growth in the cloud was further evidenced by the more than 30,000 new cloud users added in the quarter, bringing our total installed base to approximately 228,000. Our innovation and market leadership was recently recognized by Frost & Sullivan, which honored Mitel with the 2013 North American Award for Product Leadership. This award acknowledges our pioneering product developments and realtime communications software virtualization, a critical enabler for the adoption of cloud services, as well as the rapid acceptance that our product innovations have achieved in the marketplace. I want to echo that -- and take the opportunity to also extend my congratulation to the Mitel R&D team for their ingenuity and their hard work that continues to give Mitel and our customers a competitive advantage.

To further enhance and differentiate our product suite, we've recently introduced the Mitel Communications Director 6.0. The platform location base services throughout calls locally for emergency applications, SIP enhancements for call billing and cloud environments, improved security and reduction installation times, we intend to continue to put increased focus on developing our comprehensive cloud offering to strengthen our market position.

I'd like to briefly walk through a few examples of how our cloud solutions are being implemented around the world to enhance customers' ability to efficiently run their business while reducing total cost of ownership. In the U.S., Comprehensive Women's Health, a practice focused on internal medicine with 2 offices in Washington DC area, utilized different telephone systems in each one in their offices. The company looked to our partner, Black Box, to design a redundant, resilient solution with centralized management, administration and the option to grow. Women's Health chose Mitel AnyWare cloud solution because of the full functionality that's enabled for both offices, but at the same time, lowering cost.

In a recent global example, Publishing House Bill, which has locations in several countries and focuses on those scientific publications, is in the process of replacing its legacy communication system with our cloud-based business Virtual MCD platform. Once the system is fully implemented, the systems that accompanies teleworkers in Germany, Switzerland and United States will be connected and integrated into a single system, centralizing and simplifying management and fostering more efficient communication and collaboration between the firm's 150 employees in the head office and those working in the company's international offices. The new system was designed and implemented and managed by our partner, Detron, located in the Netherlands.

We continue to expand our channel program and rounded out our larger relationships with strategic partners focused on small- and medium-sized businesses. As an example, earlier this week, we announced the addition of rmsource, a North Carolina-based IT consulting company. rmsource will offer Mitel's full suite of UCC solutions to more than 200 of its existing small and medium enterprise customers across the mid-Atlantic.

On the international front, we also added ENO [ph] Networks, a Japan leading sound system installation and maintenance company. As an authorized reseller in Japan and Korea, ENO [ph] has a long track record of supporting airlines, financial institutions and call centers in Japan. It is also known for localizing and introducing North American Unified Communication Products into the Japanese market.

In summary, we are very pleased with our performance in the quarter. Our flexible solutions can address any customer deployment model and need, whether it be premise or cloud, basic or advanced, we can provide it on the same common software stream. We have demonstrated our discipline and execution and our flexibility in providing a solid base of revenues and an increasing mix of recurring revenue. Our ability to pivot and respond quickly to changing macroeconomic conditions, whether they be improving or declining, is a key strength of ours.

Let me turn the call over to Steve to detail the results of our January quarter and provide our outlook for the fourth and fiscal quarter.

Steven E. Spooner

Thank you, Rich. Good afternoon, everyone. Before I begin, please note that I will be discussing the financial results on a U.S. GAAP basis, unless otherwise indicated. A reconciliation of non-GAAP to GAAP measures was included in our earnings release and can also be found in the Investor Relations section of mitel.com.

As Rich stated, we are pleased with our results for the third quarter. We delivered revenue within guidance levels, year-over-year improvements in gross margin, operating spend and adjusted EBITDA and generated strong cash flow from operations. Our operating results reflect our commitment to deliver upon a leveraged financial model, and we believe our ability to deliver upon this model was a key factor in our ability to proactively complete the refinancing of our credit facilities on favorable terms. As in prior periods, due to the proposed sale of DataNet/CommSource, all financial results discussed are for continuing operations, which exclude DataNet/CommSource. I will discuss our financial results of MCS and Mitel NetSolutions at continuing operations for the rest of this call, unless otherwise indicated.

Let me now turn to our results for the third quarter ended January 31, 2013. Total revenues were $142 million, down 5.6% compared to Q3 of last year and down 2.4% sequentially. The sequential decrease reflects the typical seasonality of the January quarter, which for us is essentially a 10-week quarter versus a typical 13-week quarter given that it includes the Thanksgiving and Christmas holidays. Mitel Communications Solutions or MCS revenues were $117.9 million, down 7.3% compared to Q3 last year and 3.4% sequentially. The year-over-year decrease was due to lower revenue across most geographies, reflecting the challenging macroeconomic environment. Mitel NetSolutions revenues were $21 million, up 4% compared to Q3 of last year and in line with the previous quarter. The year-over-year increase in our NetSolutions revenue was primarily driven by growth in our Mitel AnyWare cloud service offerings.

In the U.S., our total revenue of $90.5 million was down $2.8 million from the prior year quarter and down $4.4 million sequentially. Europe, Middle East and Africa revenue of $36.9 million was down $3.7 million over the prior year quarter and down $0.8 million sequentially. Canada and Central America, Latin America revenue of $11.3 million was down $0.6 million over the prior year quarter and up $2.8 million sequentially. Both areas rebounded nicely from disappointing prior quarter performances due to an increase in channel revenue. Revenue in Asia Pacific of $3.3 million was down $1.4 million versus the prior year quarter and down $1.1 million sequentially.

Our gross margin for the third quarter was 55.5%, an absolute increase of 110 basis points from Q3 of last year and a decrease of 70 basis points from Q2. The year-over-year improvement in gross margins was a result of continued growth of product revenue as a proportion of total MCS revenue, as well as improved margins in our MCS service business driven by growth in Software Assurance revenues. We also continued to benefit from product cost reductions across the entire product portfolio. This was partially offset by a slight decline in gross margins for NetSolutions year-over-year. Operating expenses for the third quarter of fiscal 2013 were $74.3 million. Non-GAAP operating expenses for the third quarter of fiscal 2013 were $59.9 million or 42.2% of revenue. As a percentage of revenue, non-GAAP operating expenses were flat to the third quarter of fiscal 2012 and a 10 basis point improvement over Q2.

Research and development spend for the quarter represented 9.7% of revenues, up from 9.5% in the prior year and 9.6% in the second quarter. In absolute dollars, we saw a decrease in R&D year-over-year, driven by the restructuring actions taken during the second quarter of fiscal 2013. In absolute dollars, R&D was essentially flat with the prior quarter. Non-GAAP SG&A as a percentage of revenue was 32.5%, down slightly from 32.7% in Q3 last year and 32.8% in the prior quarter. In absolute dollars, we saw a year-over-year and sequential decrease in SG&A expenses, driven primarily by the restructuring actions taken in August 2012. Stock-based compensation expense for the third quarter was $1.1 million, consistent with the prior quarter and prior year.

We recorded special charges and restructuring costs of $7.3 million in the quarter. $5.7 million of these costs were associated with diligence activities, related to a potential acquisition. We concluded that we would not proceed with the transaction while we continue to be subject to a nondisclosure agreement. The balance of the special charges relates to prior quarter restructuring actions.

Included in depreciation and amortization expense for the quarter, consistent with prior year and prior quarter, was $5.6 million associated with the amortization of intangible assets acquired with the purchase of Intratel in fiscal 2008. Interest expense for Q3 was $4.6 million, down from $4.7 million in the prior year and consistent with the prior quarter.

For the January quarter, we recorded a tax recovery of $4.9 million compared to a tax recovery of $0.7 million in Q3 of last year and a tax expense of $1.4 million last quarter. Mitel reported non-GAAP net income from continuing operations for the third quarter of $12.8 million or $0.23 per share compared with non-GAAP net income of $12 million or $0.21 per share in the third quarter of last year and $14.2 million or $0.25 per share in Q2. The sequential decrease was due to lower revenue and gross margin in the quarter versus the prior quarter which was partially offset by an overall reduction in SG&A expenses. Our GAAP-based net income from continuing operations for the third quarter of fiscal 2013 was $5.1 million or $0.09 per diluted share. This compares with a net income of $4.4 million or $0.08 per diluted share in the third quarter of last year and a net loss of $1.6 million or $0.03 per diluted share in Q2. We recorded a net loss from discontinued operations of $3 million in the current quarter. This compares to a net loss from discontinued operations of $300,000 in the prior quarter and a net income from discontinued operations of $200,000 in the same quarter in the prior year. Our financial results for discontinued operations for the quarter reflect the current status of negotiations for the sale of the a DataNet/CommSource business unit and therefore reflect the net assets of the business unit being recorded at fair value less cost to sell. As a result included in the net loss from discontinued operations for the current quarter, our special charges from restructuring costs was $3.5 million, which consists of $2.6 million in noncash impairments and a $900,000 net charge to record the anticipated loss on the sale.

Adjusted EBITDA from continuing operations for the quarter was $22.6 million compared to $21 million for Q3 of last year and $24.1 million in the prior quarter. This increase year-over-year was driven by expanded gross margins and lowering -- lower operating costs, which I mentioned earlier. The sequential decrease was driven by lower revenue. Our adjusted EBITDA margin from continuing operations for the quarter was 15.9%, up from 14% in Q3 of last year and down from 16.6% in the prior quarter.

Let me now discuss quarterly metrics for each of our business units. Revenue from MCS consists of hardware and software sales. For this quarter, software comprised 79% of our MCS enterprise platforms and applications revenue, up from 75% in fiscal year '12. As Rich spoke to earlier, virtualized MCD solutions represented 27% of total MCD software shipments in Q2, up from 12% in the prior year and 21% in the prior quarter. On the applications front of our UC applications licensed in the second quarter, more than 40% were virtualized, up from just over 25% in the prior year and 38% in Q2.

In our Mitel NetSolutions unit, we had 8,830 customers for the quarter. And our monthly recurring revenue was $5.3 million and represented approximately 76% of our total NetSolutions revenues for the quarter.

Moving now to the balance sheet. We ended the quarter with $100.6 million in cash and cash equivalents. We generated $17.3 million in cash flow from operations, an increase from $15.4 million generated in Q3 of last year and $16.7 million last quarter. Our DSO for Q3 was 74 days, up from 68 days at the end of Q3 of last year and essentially flat with our previous quarter. Inventory turns were 8 for Q3, down from 9 in the prior year and previous quarter. We ended the quarter with total headcount of 1,719, down from 1,970 in the prior year and 1,746 in the previous quarter.

I'd now like to comment on our recently announced debt refinancing. We had several key objectives for pursuing a refinancing at this time. First, we wanted to take advantage of an open debt market and attractive interest rate environment. We sought the turn out maturities for 5 to 7 years to eliminate near-term refinancing risk with the previous facilities which were expiring in 2014. We looked to address investor concerns with the previous covenant structure by establishing a new leveraged covenant structure that has driven up our current plans for the business and provides a significant operational flexibility. We wanted to secure a new revolver to provide additional liquidity. And finally, we wanted to live up to our commitments to investors, namely that we would utilize excess cash to reduce our gross debt level. I am pleased to report that we met all of these objectives in our refinancing. And I would add that it's a testament to all the hard work of the Mitel team and how well the Mitel story and credit was received in the debt markets.

Let me now walk you through the highlights of our new credit facilities as we announced yesterday. An undrawn $40 million revolver at LIBOR plus 5.75% maturing in February 2018; a $200 million first lien term loan at LIBOR plus 5.75% maturing in February 2019; and an $80 million second lien term loan at LIBOR plus 9.75% maturing in February 2020. For both the first and second lien term loan, there is a LIBOR floor of 1.25%. Proceeds from the new credit facilities, along with approximately $35 million in our existing cash, were used to repay the $304 million outstanding under previous credit facilities, as well as fees and expenses related to the refinancing.

Turning now to our business outlook. Please note that statements regarding our future financial performance targets are forward-looking statements. I refer back to the forward-looking information caution we provided to you earlier on this call.

We are providing the following financial outlook for continuing business operations for the fourth quarter of fiscal 2013. We currently expect revenues to be in the range of $143 million to $148 million; gross margin percentage to be 55% to 56%. Non-GAAP operating expenses as a percentage of revenue can be approximately 41.5% to 42.5%. This excludes estimated amortization of $5.5 million for the acquisition-related intangible assets and estimated stock-based compensation expense of $1.1 million.

While we typically do not guide on interest expense, I would like to provide you some color given we now have our new credit facilities in place. Interest expense in the fourth quarter is anticipated to increase by approximately $1.2 million over prior quarter levels, given our new credit facility will be in place for 2 months in the quarter.

So to recap, while we can't control the markets or the macroeconomic environment, we have controlled our execution. This quarter, I am pleased with our delivery on many fronts. We had strong operating performance relative to our peers. We completed the refinancing of our debt. We met or beat our guidance and we are finalizing the sale of our DataNet/CommSource unit.

In closing, I want to thank the members of the Mitel team who were instruments in delivering these results. With that, Rich and I will take your questions.

Question-and-Answer Session

Operator

[Operator Instructions] And our first question comes from Rod Hall from JPMorgan.

Ashwin Kesireddy - JP Morgan Chase & Co, Research Division

This is Ashwin, filling in for Rod. My first question is on your revenues. The return of your revenue guidance is indicating a worsening year-over-year revenue trend in fiscal Q4 and -- and revenue growth has been negative in the last 3 quarters. Now that we saw a challenging fiscal '13, what are your expectations generally about the markets for next year? And in that context, can you provide some color around what do you think Mitel's market share can do, maybe qualitatively if you can, just quantitatively? And following on that, when you see this overall negative revenue growth trend reverse, perhaps do you think your cloud products can help you return to growth?

Steven E. Spooner

There are several questions there, it's Steve here. I'll first talk about the near-term revenue guidance. I think the folks on the call recognize that we don't provide guidance beyond the quarter. We don't intend to do that today. Our guidance for the quarter, I think, really reflects what we continue to see as a challenging macroenvironment. Our performance relative to our peers has actually been quite strong. It's been a challenging environment. Our funnels continue to remain strong, our products are being very well received, but customers are being cautious in their buying habits and our near-term guidance really reflects that caution. Rich, do you want to add anything to that?

Richard D. McBee

Yes. I think in terms of market share, I think market share is fairly consistent. We are seeing a large uptake in our cloud-based services, although that's on a recurring revenue stream, not on a capital stream. So the purchase would be basically 136, where we see 136 of it every month versus typical capital sales. So we're experiencing that transition in our business, especially down in the SMB space, small and medium business, where people are going from their legacy systems, bypassing the premise basis then going straight to the cloud. So we're very confident in terms of the growth that we're seeing there, in terms of macroeconomic conditions. I think it's going to be -- it's going to continue to be cloudy for a while. We've demonstrated and we'll continue to demonstrate that we'll operate a leveraged business model. I think that the range is -- it's pretty much tied to literally the timing of certain orders and we're just not calling it. So if we see the timing of orders that we can bring into the quarter, we'll see good leverage. If we continue to see orders kind of move out a little bit, we'll try to incorporate that into the range that we've provided for this quarter.

Ashwin Kesireddy - JP Morgan Chase & Co, Research Division

[indiscernible] Should we just read into your comments as saying that you don't have a lot of visibility on how the overall market could trend for next year and it is purely dependent on how the overall economy or how the timing of the order goes? Can you provide a little bit color on visibility?

Richard D. McBee

Yes, I think what I tried to communicate was that there are a lot of businesses out there that have old and antiquated technology, and we are getting a lot of inquiries into new systems that these customers want to buy. We've got a good return on investment for them. The timing is the issue. So our -- like I said, our funnels are good. Some of these systems, as we move more upstream into larger enterprises, a larger enterprise and the medium enterprise just take longer sales cycle. So we're seeing a little bit of that and we're seeing a little bit of people that are fairly tentative to move the further up you go into the size of the opportunity. At the low end, we are seeing people, as evidenced by strong cloud performance, people moving very quickly to -- from a premise-based system to a cloud-based system. And the growth rates there show that in seat count, but not necessarily in revenues as that revenue base builds for us, again, that's a recurring revenue stream, not a capital stream like we would see primarily in the medium enterprise space.

Operator

And our next question comes in from Kiera Kilkowski from Bank of America Merrill Lynch.

Kiera Kilkowski - BofA Merrill Lynch, Research Division

I just -- I wanted to ask you a question about the UC360 product. I realize you normally comment on products specifically, but given it's a new sort of product category for you, can you talk about maybe how you're trying to market that and maybe specific channels you're trying to recruit and maybe how that's going overall?

Richard D. McBee

I think that there's 2 pieces to that. There's obviously a piece which is a world-class conferencing unit, and then there's a piece that is a video collaboration, kind of a transformational product. So we're pleased with the interest we see in the product at this time, but we really don't give specific product counts to a targeted product like that UC360. We do it to maybe platforms like the 5000s or 3300s, but not specifically to the product. The feedback that we have gotten from customers is they really like the sleek user interface and it's -- the audio quality is -- we've been -- can be described and has been described by many as unbelievable and really step up from what you get in a typical conferencing unit. So we're using one on this call and we're pretty pleased with the trajectory of the units.

Kiera Kilkowski - BofA Merrill Lynch, Research Division

Got it. And one more if I could. Steve, I think you mentioned favorable terms on the debt in terms of the covenants. Is there any color you can share about what the new covenants are?

Steven E. Spooner

Sure. There is actually detail in the Q that's in healthcare, but just for, for instance, for the next fiscal year, the prime covenant that we've typically spoken to in the past continues. It's a net debt to trailing EBITDA covenant and that threshold in the new facility is 4 for 2014, meaning that our net debt can be 4x our trailing EBITDA. And under the old facility and to be fair, I didn't calculate it exactly the same, but under the old facility, it would have been 2x our net debt -- the covenant require the net debt to be 2x trailing EBITDA. So we have substantial -- substantially increased the covenant [indiscernible] and the operating flexibility with this new facility.

Operator

And our next question comes in from Ron Shuttleworth from M Partners.

Ron Shuttleworth - M Partners Inc., Research Division

I Just wanted to chat a little bit, if we could, about the U.K. and Europe in general. I think in the comments earlier, you were making some comments that make this a little soft in the Eurozone, is that -- am I correct in hearing that?

Richard D. McBee

Yes.

Ron Shuttleworth - M Partners Inc., Research Division

Okay. Are you -- are we seeing any recovery in the next couple of quarters related to the Eurozone, maybe as we are seeing maybe a relaxing of the credit crisis?

Richard D. McBee

Well, I think first of all, we have a very strong footprint in the U.K. whereas in the last quarter we basically became #1 in the U.K. in our targeted markets and so we're seeing the benefits of that. So I think in that particular market, we'll continue to have the best performance in the market and the economy will kind of push us up or push us down. In the broader Europe, we are seeing -- we did see some softening. It's not so much that we're not seeing -- it's very much like that U.S. where it's not that -- first of all, the level is lower than it was, okay, and we've been operating in a difficult macroeconomic environment for a while. So this is kind of a new normal. We do continue to see larger opportunities and good opportunities in our funnels, but the thing that -- it's just hard to get them out. People are a little bit cautious in terms of spending their money, so it's just taking us longer from the sales cycle.

Ron Shuttleworth - M Partners Inc., Research Division

So basically, what we're saying is like the sales cycle has elongated over the last couple of years basically?

Richard D. McBee

Yes. And I think we've seen a little bit of it in the last couple of quarters. We're getting more opportunities in the funnel, but they're just taking longer.

Steven E. Spooner

More sense of buying caution -- buyer caution that we've been seeing in previous quarters. And I think that really is reflected in our guidance that we don't -- and again, while we don't guide beyond the quarter, we really don't see -- we don't have any real signal that suggests that's going to change significantly in the next quarter or so.

Ron Shuttleworth - M Partners Inc., Research Division

Okay. Now with your more headroom on your sort of execution with the new debt covenants in place, what plans do you have in terms of investments to maybe jack up the growth rates by building up maybe increasingly competitive products or making acquisitions as you -- it sounds like you were looking at all that in this quarter.

Steven E. Spooner

So I think a couple of things, Ron. So number one, we'll -- certainly from an investment perspective, we very much are focused on investing in our cloud offerings, so strategically, we think there's great opportunities for growth. We think our cloud story is second to none in terms of being able to -- having that consistent product portfolio, that one software solutions set that customers can buy from us on a premise basis, on a cloud basis or any mix that makes sense for them. So we're continuing to invest heavily in our cloud capabilities. But I think when I say it continues to invest heavily, I still think that we're looking to protect the strong earnings generation in that leveraged operating model, so we wouldn't want to leave an expectation that we're taking our eye off the ball in terms of generating that, frankly, the results that are superior to many of our competitors in the industry. I think from an M&A perspective, we'll continue -- we get a regular funnel of everything from large transformational deals to small tuck-in opportunities, and we will continue to explore opportunities to create shareholder value on the M&A front.

Richard D. McBee

Rich here. I mean I think as we stated before that we have -- we'll have a positive bias to add when it makes sense for our shareholders. And so as we've stated earlier, we're looking very seriously at an opportunity. It didn't meet our shareholder -- we felt that we will return to the right level of share value, so we passed on it. But we continue to, I think, be proactively be in the market.

Ron Shuttleworth - M Partners Inc., Research Division

Okay. And last question, real quickly, one with recurring revenue. Rich mentioned that a lot more of your deals are doing a recurring, which in the long term delivers a lot more strength. What percentage of your revenue right now is recurring? And where do you see recurring revenue going to as a percentage of recovery? That's my last question.

Steven E. Spooner

Well, if you look at the Mitel NetSolutions business, which is roughly at the run rate of about $80 million to $85 million a year, about 75% of that business is recurring. And frankly, the remainder of that business, the other 25%, while not under contract per se, is highly predictable just based on historical usage patterns. Within our MCS business, the $500 million additional, we have about, I would say -- 20% to 25% of that revenue today is recurring, being software and hardware maintenance revenue streams and as our software insurance business grows, there's some opportunity for that to grow as well. We think our Mitel NetSolutions business and our MCS business both have elements of our cloud offering and whether we're equipping service providers to use our virtualized solutions for them to offer cloud services in the marketplace where we're essentially a wholesaler, to them that's one side, if you will, of our cloud business and it's growing quite strongly. We expect that a significant portion of that business, as we sign up more and more service providers, that many of them will look to us for a subscription-type model as an alternative to a capital purchase. And clearly, the retail cloud offering is -- within Mitel NetSolutions are growing -- the fastest growing part of our business that is, for all intents and purposes, the vast majority of those revenues would be recurring. So we won't give you a specific percent, Ron, but we're going to -- we'll start to give some more color to this, probably in our next fiscal year, we'll give some more color to cloud. But directionally, that's where we see the business going.

Ron Shuttleworth - M Partners Inc., Research Division

We would need to model a little bit differently, right, where you would have more -- you should have more EBITDA leverage and gross margin leverage, but lower growth, right?

Steven E. Spooner

Yes. And I think we'll start by many of the -- there are several companies in the cloud space today that could provide some color around the strengths of the order backlog and the monthly recurring revenues and the like and also some of the metrics that we're looking at and we're -- so look for us to start giving some of that color in the quarters ahead.

Operator

[Operator Instructions] And our next question is coming in from Todd Copeland from CIBC.

Todd Coupland - CIBC World Markets Inc., Research Division

I have a debt question and a market question, if I could. So if I take the pro forma $280 million and then your cash position, I should just net the $35 million against that, so basically your net debt would be $280 million, less the $71 million or something like that?

Steven E. Spooner

It would be $280 million growth and then our cash position would be, post using some of the cash in the debt, kind of $60 million, $65 million.

Todd Coupland - CIBC World Markets Inc., Research Division

$60 million, $65 million is the pro forma cash?

Steven E. Spooner

Yes.

Todd Coupland - CIBC World Markets Inc., Research Division

Okay. And at this point, what kind of debt repayment plan would you hope to get on in the fourth quarter and -- yes, talk about the fourth quarter, how much of that debt would you hope to repay in the fourth quarter?

Steven E. Spooner

Well, we haven't set a specific target. The new facility requires 1% amortization per year, and we have consistently said that we will look to aggressively take excess cash and pay down debt. The nature of the debt covenant in the new facility actually in calculating net debt, we can only count $40 million of cash. So we have some built-in motivation to use any cash that we think is surplus of what we need in the business to pay down the debt facility.

Todd Coupland - CIBC World Markets Inc., Research Division

And would you look to take on the 11% before, first, I guess? Is that the way to think about that?

Steven E. Spooner

No, the way the -- yes, the first and second lien structure typically, those are set up in such a way, but the first lien gets -- has to get taken out before the second.

Todd Coupland - CIBC World Markets Inc., Research Division

Completely taken out?

Steven E. Spooner

Yes.

Todd Coupland - CIBC World Markets Inc., Research Division

Okay. So that's the way you pick away at initially whatever cash amount above the $40 million that you decide to put towards it?

Steven E. Spooner

Correct.

Todd Coupland - CIBC World Markets Inc., Research Division

My second question is on the market. So I'm just curious, how do you think your share has done in the U.S. in the last quarter?

Richard D. McBee

Yes, I think we look at share position from multiple different analysts and we triangulate. We think that it basically stayed flat quarter-to-quarter, it didn't go up any, but it didn't go down any.

Todd Coupland - CIBC World Markets Inc., Research Division

Okay. And when you think about your funnel and what you are counting on winning, is it -- are there share gains built into that in the U.S.?

Richard D. McBee

Well, we don't necessarily grow funnel per share gain. We don't look at it from that math perspective. We have a very detailed selling process where we calculate where the opportunity is in the funnel and that's what builds up our guidance for the quarter. So it's got to be a high -- everything from the buyer identified, budget identified, timing identified, all those things have to be identified, verified before we'll put it into our funnel.

Todd Coupland - CIBC World Markets Inc., Research Division

And then the last question on the markets, so Cisco made a big deal about its virtualization. You've obviously done very well with VMware. Maybe talk about -- and one thing that I -- stood out I thought was the application percentage, it's virtualized, it's doubled year-on-year, maybe talk about some of the applications that -- where you're getting the most traction in the market.

Richard D. McBee

Yes, we're -- UC application, obviously, is a very good grower for us. I think that one of the things, backing that just a little bit, there's virtualization and then there's true virtualization. And I think that VMware is obviously, by far, market leader in the world for virtualization. I endorse Mitel as a truly virtualized solution and truly virtualized means any server, any time. Some people have a solution that they consider virtualized as long as you use their infrastructure and their detailed set of servers. So this is one of the areas where Mitel really continues to lead in terms of true virtualization, not a dedicated server for the application, but any server, any time for the application, which I think is very important and it's a thing that the IT professionals catch very quickly in terms of the differentiation between our solution and the other solutions that are available in the market.

Todd Coupland - CIBC World Markets Inc., Research Division

And in terms of the applications that you're driving, what types of applications were people virtualizing the cost have to double?

Richard D. McBee

You see our contact center, you see unifying communications applications, those are the ones that are typical for us and obviously voice as well.

Steven E. Spooner

Messaging, teleworking, hot desking.

Richard D. McBee

Yes, so that whole suite of unified communications applications. And we've had good growth in that space for us. So those, as we recorded, they're been growing year-over-year from a standpoint. And one of the things that's important to understand is for a lot -- as you move up into enterprise-type customers, some customers might want a hybrid solution. So they might want a premise-based solutions for the voice, but they want to use a virtualized solution for the UC applications or even a cloud solution for their UC communications because maybe not everybody in the company is going to be on it. And so we see a lot of applications, specifically the UC applications are what most companies will virtualize first.

Todd Coupland - CIBC World Markets Inc., Research Division

And sorry, one last point on this. With Cisco calling this out as an area of focus specifically, are you seeing more intense focus from them, particular focus, or is it business as usual and then it's more what they're saying to the street?

Richard D. McBee

Well, I mean, Cisco is a big house. They've got a big market share in the space so we bang into them quite frequently. And really, what we like to do is have technical demonstration, and our products, I think, speak for themselves.

Operator

And there are no more questions at this time. Please continue.

Richard D. McBee

Okay. Well, I'd like to thank everyone again for joining us this afternoon. Our achievements in this quarter demonstrate the success of our strategy and the strength of our execution. We are confident that our solution is set, the go-to-market model that we have and our strengthened financial position will position us well for the long term. We look forward to speaking with you again on our next earnings call.

Operator

Ladies and gentlemen, this does conclude your conference call. We thank you for your participation. You may now disconnect your lines, and have a great day.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!

Source: Mitel Networks Management Discusses Q3 2013 Results - Earnings Call Transcript
This Transcript
All Transcripts