Mitel Networks Management Discusses Q4 2013 Results - Earnings Call Transcript

Jun.24.13 | About: Mitel Networks (MITL)

Mitel Networks (NASDAQ:MITL)

Q4 2013 Earnings Call

June 24, 2013 5:00 pm ET

Executives

Cynthia Hiponia - Managing Director

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

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

Analysts

Ron Shuttleworth - M Partners Inc., Research Division

Paul Treiber - RBC Capital Markets, LLC, Research Division

Richard Tse - Cormark Securities Inc., Research Division

Prabh Gowrisankaran

Operator

Good day, and welcome to the Mitel Networks Fourth Quarter Fiscal Earnings Conference Call. As a reminder, today's conference is being recorded. At this time, I'd like to turn the conference over to Ms. Cynthia Hiponia. Please go ahead, Ms. Hiponia.

Cynthia Hiponia

Thanks, Luna. This is Cynthia Hiponia, Mitel Investor Relations, and I'm pleased to welcome you to Mitel Networks Fourth Quarter and Full Year Fiscal 2013 Earnings Results Conference Call.

At 4:05 Eastern Time, Mitel published its earnings release through the GlobeNewswire. The release is also available on Mitel's Investor Relations website at mitel.com. A replay of the conference call will be available through Saturday, June 29. To access the replay, please dial (888) 203-1112 and enter passcode 2171897. Callers outside the U.S. and Canada should dial (647) 436-0148 and enter passcode 2171897. The webcast will also be all archived on Mitel's IR website for 3 months.

Some of the statements made in this presentation, including the information regarding our financial performance targets for the first quarter of fiscal 2014, 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 global 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 risks -- 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 the 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 24, 2013, 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, Cynthia. With me this afternoon is Steve Spooner, Mitel's Chief Financial Officer. Steve and I are joining you today from Hollywood, Florida, where, this week, we'll be hosting more than 1,000 people, including channel partners, customers, communication consultants and industry analysts at our annual Mitel Business Partner Conference.

I'm pleased to report revenue of $150.9 million in the fourth quarter, with Mitel posting solid sequential growth of 6%. In addition, we had healthy gross margins in the quarter of 56.1% and EBITDA margins of 16.9%. In the quarter, we paid down $28 million in debt and achieved record sales of our Mitel AnyWare cloud services.

In FY '13, our recurring revenue grew and now comprises more than 26% of our total revenues. I would like to thank all the Mitel employees who rallied back after a rough start this past year and consistently improved results quarter-over-quarter, ultimately delivering the strong results we experienced in the fourth quarter. Our continued focus on our 3+1 Strategy to simplify the business, keep our portfolio focused, improve our channels and exploit our leadership of virtualization, created a focused discipline for Mitel and it remains a core operating principle of our business.

As we entered fiscal 2014, we began implementing the strategy to put together a singular focus on delivering profitable growth. This strategy leverages the strength of our traditional premise-based business, where we are positioned to provide ongoing sales and services to a large and growing worldwide installed base, while also focusing on growth in the cloud market. Mitel serves the fastest growing cloud market in 3 ways: as a retail cloud provider with Mitel AnyWare, through a wholesale offering that enables others to provide cloud services, and through the deployment of private cloud to larger enterprises who basically host their own cloud.

Mitel's competitive advantage is the ability to seamlessly move between premise and cloud on a single product platform versus the competitors, who may address both markets but do so with disjointed solutions. We have defined 3 strategic objectives to address both markets simultaneously, and I'm happy to report we have are already made significant progress in each area.

The first strategic objective is to leverage the strength of Mitel's core IP telephony and UC products. To drive towards this objective, we conducted an exhaustive study to understand customer buying trends, to improve our sales processes and to create a consistent customer engagement experience. To lead these efforts, we announced the appointment of Joe Vitalone as EVP of Sales in the Americas, which includes North Americas, the Caribbean and Latin America. Joe joined us from ShoreTel, where he was VP of Channel Management.

Under Joe's leadership, we have recently announced 2 additional key hires: Tim Gaines as Vice President of Sales for the Americas; and Sandra Hill, as Vice President of Channel Management and Distribution for the U.S. and CALA. Tim will be responsible for driving channel revenues, while Sandra will focus on the recruitment, on-boarding and management of our channel partners. We also promoted Joe Ward to Vice President of Sales for our VIP customers, and Josh Haslett to Vice President of Sales Engineering. These are all great adds to the leadership team, and they are very excited to take our superior product portfolio to market.

In addition to these changes, we introduced a new product-naming architecture based on the straightforward language customers use to identify and discuss solutions. The simplified naming architecture takes a customer-driven approach to -- designed to align with the customer needs and buying behavior. The new product-naming architecture puts emphasis on Mitel's 3 core solution areas, with distinct product segments: MiCollab, which brings together Mitel's UC offerings; MiVoice, which includes our voice platforms and phones; MiContactCenter, which comprises the Mitel's contact center technologies. In addition to providing end-user customers with solution clarity, Mitel's product naming architecture aims to increase awareness and understanding of Mitel's overall product offering.

The second strategic objective is to maximize Mitel's growth in the cloud. As I outlined earlier, Mitel approaches the cloud in 3 ways. We ended this year with over 260,000 private and public cloud users. As we hear from our customers, Mitel's leadership of virtualization continues to differentiate us in the marketplace. In our fourth quarter, 24% of our MCD shipments were virtualized and over 44% of our UC applications were virtualized. We have a strategic partnership with more than 30 service providers worldwide for preparing to roll out cloud services, including a major new partnership with Sprint in the U.S.

We had several notable customer deployments of our cloud services in our fourth quarter. These include, in North America, Global Premier Benefits deployed a Mitel AnyWare Cloud Contact Center solution to provide critical benefit services and support to seniors at the precise moment that they are needed. Customer satisfaction and retention is key to the company's success. The solution is fully managed by Mitel in highly secure and reliable data centers. The benefit to the customer is offloading the customer's IT team from the design, deployment and day-to-day management of their contact center infrastructure.

Internationally, we are seeing growing interest in our cloud capabilities. The University Medical Center of Utrecht, the largest public health care institution in The Netherlands, is replacing its communication platform with a Mitel Private Cloud solution. The new solution, designed, implemented and managed by Mitel partner, Zetacom, integrates Mitel's solutions with health care applications, including custom-designed applications for smartphones intended to optimize communication between the 11,000 doctors, nurses and health care employees.

The third strategic objective was to establish a beachhead in the contact center market, a market which is estimated to be over $3 billion in revenues annually. We achieved this last week with the acquisition of prairieFyre, a global provider of contact center, business analytics and workforce optimization software and services. We will now focus on rapidly expanding our footprint and cloud capabilities.

Already an OEM provider to Mitel for our existing contact center solution, the prairieFyre acquisition provides us with a cornerstone development platform to address the growing demand for cloud-based contact center solutions. This also creates strong pull-through opportunities for associated sales of our core IP, telephony and UC solutions. We are very pleased to welcome prairieFyre's CEO, Chris Courneya, in his new role as Vice President and General Manager, Mitel Contact Centers. I would also like to welcome all of the prairieFyre employees to the Mitel family. They bring an incredibly strong set of skills and capabilities that will help us drive growth in this market.

In summary, while at the beginning of this fiscal year we felt the impact of the weak macroeconomic environment on our business, with continued fiscal discipline and a relentless focus on maintaining the leveraged business model, we were able to end the year with strong margins, substantial improvement to operating cash flow, a favorable new credit facility enhancing our operating flexibility, and a stable and profitable revenue run rate.

Let me now turn the call over to Steve to detail the financial results of the fourth quarter and the fiscal year, followed by our outlook for the first quarter for 2014.

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 fourth quarter. We exceeded consensus for revenue and non-GAAP EPS in the quarter, and for the fiscal year, we posted record annual gross margins. In addition, last week, we were very pleased to complete the acquisition of prairieFyre, which provides us with the opportunity to expand the margins, capitalize on immediate market demand and enhance channel sales. We are excited about the acquisition and anticipate the deal being accretive within this fiscal year.

Let me now turn to our results for the fourth quarter and fiscal year ended April 30, 2013. Total revenues were $150.9 million, down 4.3% compared to Q4 of last year and up 6.3% sequentially. Mitel Communications Solutions, or MCS revenues were $125.9 million, down 5.8% compared to Q4 last year and up 6.8% sequentially. The year-over-year decrease was primarily a result of a challenging macroeconomic environment, which has negatively impacted revenue in our U.K., European and Asia Pacific markets. The sequential increase was a result of improved execution across geographies, but particular strong performance in North America.

Mitel NetSolutions revenues, or MNS, were $21.6 million, up 5.9% compared to Q4 of last year and up 2.9% versus the preceding quarter. The increase in our NetSolutions revenues was driven primarily by growth in our Mitel AnyWare cloud service offering.

For the full year, revenues were $576.9 million compared to $611.8 million last year, with MCS revenues down 6.7% year-over-year to $480.3 million. The decrease in MCS revenue was a result of lower revenues across most geographies and, in part, due to unfavorable movements in foreign exchange rates. NetSolutions revenues increased 4% year-over-year to $84.2 million as a result of increased revenue from our cloud-based Mitel AnyWare offering.

Looking now at our fourth quarter revenues on a geographic basis. In the U.S., our total revenue of $96.2 million was essentially flat with the prior-year quarter and up $5.7 million or 6.3% sequentially. Europe, Middle East and Africa revenue of $38.9 million was down $5.2 million over the prior-year quarter and up $2 million sequentially. Canada and Central America/Latin America revenue of $12.1 million was down $0.8 million over the prior-year quarter and up $0.8 million sequentially. Revenue in Asia Pacific of $3.7 million was down $0.6 million versus the prior-year quarter and up $0.4 million sequentially.

Our gross margin for the fourth quarter was 56.1%, an absolute increase of 50 basis points from Q4 of last year and 60 basis points from Q3. For the full year, Mitel's gross margin, at 55.6%, was a company record and an increase of 170 basis points from fiscal year 2012. The improvement in gross margins was the 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, and we also continue to benefit from product cost reductions across the entire product portfolio. Gross margin in our NetSolutions business for fiscal 2013 was consistent with fiscal 2012.

GAAP operating expenses for the fourth quarter of fiscal 2013 were $71.1 million. Non-GAAP operating expenses for the fourth quarter of fiscal 2013 were $63 million or 41.7% of revenue. As a percentage of revenue, non-GAAP operating expenses were up 120 basis points from fourth quarter of fiscal 2012 and had a 40-basis-point improvement over Q3. R&D for the quarter represented 8.9% of revenues, down from 9.4% in the prior year and 9.7% in the third quarter. In absolute dollars, we saw a decrease in R&D spend as a result of the restructuring actions taken.

Non-GAAP SG&A as a percentage of revenue was 32.8%, up from 31.2% in Q4 last year and up slightly from 32.5% in the prior quarter. The increase year-over-year reflects profit share expenses triggered by our strong fourth quarter performance. For the full year, operating expenses were $298.5 million, and non-GAAP operating expenses were $250.2 million with non-GAAP operating expenses decreasing by 2% for fiscal 2012. The decrease was driven by prior restructuring actions.

Stock-based compensation expense for the fourth quarter was $0.9 million, down from $1 million in the prior year and $1.1 million in the prior quarter. We recorded special charges and restructuring costs of $1.7 million in the quarter.

Included in depreciation and amortization expense for the quarter, consistent with the prior year and prior quarter, was $5.5 million associated with the amortization of intangible assets acquired with the purchase of Intratel in fiscal 2008. Interest expense for Q4 was $5.8 million, up from $4.7 million in the prior year and prior quarter. The higher interest expense reflects the interest rate on the new credit facility that was in place during the final 2 months of Q4.

For the April quarter, we recorded a tax recovery of $2.7 million compared to a tax recovery of $38.5 million in Q4 of last year and a tax recovery of $4.9 million last quarter. In fiscal 2012, the significant tax recovery was primarily due to the release of a valuation allowance of approximately $35 million, primarily relating to Mitel's deferred tax assets in Canada.

Mitel reported non-GAAP net income from continuing operations for the fourth quarter of $14.1 million or $0.25 per share compared with non-GAAP net income of $17.1 million or $0.30 per share in the fourth quarter of last year and $12.8 million or $0.23 per share in Q3. The sequential increase was due to higher revenue and improved gross margins being partially offset by the higher SG&A spend in the quarter.

For fiscal 2013, our non-GAAP net income was $45.6 million or $0.81 per share. This compares with the non-GAAP net income of $50.2 million or $0.89 per share for fiscal 2012. Our GAAP-based net income from continuing operations for the fourth quarter of fiscal 2013 was $8.3 million or $0.14 per diluted share. This compares with the net income of $49.8 million or $0.89 per diluted share in the fourth quarter of last year and net income of $5.1 million or $0.09 per diluted share in Q3.

For fiscal 2013, our net income from continuing operations was $9.9 million or $0.18 per diluted share. This compares to net income of $49.2 million or $0.88 for fiscal 2012. The lower net income this fiscal quarter and fiscal year was due primarily to the significant tax recovery that we recorded in fiscal 2012, which I mentioned earlier.

Adjusted EBITDA from continuing operations for the quarter was $25.5 million compared to $27.3 million in Q4 of last year and $22.6 million in the previous quarter. Adjusted EBITDA from continuing operations for fiscal 2013 was $85 million, down from $86.9 million in fiscal 2012 due to lower revenues, but partially offset by improved gross margins and lower operating expenses. Our adjusted EBITDA margin from continuing operations for the quarter was 16.9%, down from 17.3% in Q4 of last year and up from 15.9% in the prior quarter. For the full year, adjusted EBITDA margin was 14.7%, an increase of 50 basis points year-over-year.

As we announced in February, we completed the refinancing of our previous credit facilities. Under our new credit facilities, for the quarter ended April 30, 2013, our leverage ratio was 3.0, which compares very favorably to a maximum leverage ratio of 4.0 permitted by the covenants in our first lien credit agreement. We have included the covenant and the maximum leverage ratios going forward in our 10-K, which was filed today.

Let me now discuss quarterly metrics for each of our business units. Revenue from MCS consists of hardware and software sales. For fiscal year 2013, software comprised 79% of our MCS enterprise platforms and applications revenue, up from 75% in fiscal year 2012. As Rich indicated, virtualized MCD solutions represented 25% of total MCD software shipments in Q4, up from 12% in the prior year, however, down from 27% in the prior quarter. On the applications front, of our UC applications licensed in the fourth quarter, 46% were virtualized, up from 36% in the prior year and 41% in Q3. In our Mitel NetSolutions business unit, we had approximately 8,900 customers for the quarter. In the fourth quarter, our monthly recurring revenue in the Mitel NetSolutions segment represented approximately 75% of our total NetSolutions revenue for the quarter.

Moving now to the balance sheet. We ended the quarter with $69 million in cash and cash equivalents, supplemented by an available undrawn $40 million line of credit, providing $109 million of liquidity. In the fourth quarter, we used $28 million of cash to reduce our debt in conjunction with our successful debt refinancing. We generated $6.6 million in cash flow from operations, an increase from the $3.4 million generated in Q4 of last year, however, down from $17.3 million last quarter, reflecting changes in noncash working capital balances.

Our DSO for Q4 was 74 days, essentially flat to prior year and prior quarter. Inventory turns were 9 for Q4, down from 10 in the prior year, but up from 8 in the previous quarter. Excluding headcount from our DataNet/CommSource business for the quarter and prior periods, we ended the fourth quarter with total headcount of 1,652, down from 1,913 in the prior year and 1,677 in the prior quarter.

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 the first quarter of fiscal 2014: We currently expect revenues to be in the range of $140 million to $145 million; gross margin percentage to be 55% to 56%; non-GAAP operating expenses as a percentage of revenue to be approximately 45% to 46%. This excludes estimated amortization of $5.6 million for the acquisition-related intangible assets and estimated stock-based compensation expense of $1.1 million.

Our Q1 guidance reflects the typical seasonality in our business and our revenues, margins and spending. I'd also like to highlight that this guidance reflects an estimated impact in the quarter from our prairieFyre acquisition effective June 17, 2013, as follows: minimal revenue impact, given that Mitel represented approximately 95% of prairieFyre's revenue prior to the acquisition; approximately 75 basis points of improvement in our consolidated gross margins; and a 100-basis-point increase in non-GAAP operating expenses, reflecting the addition of approximately 130 prairieFyre personnel.

So to recap, while it was a challenging year for our industry, we reported strong operating profitability, driven by record gross margins for the year and effective cost management. In addition, the successful refinancing of our credit facilities provides us a solid financial footing to invest in key growth initiatives, such as our recent acquisition of prairieFyre, which strengthens both our premise and cloud-based offerings.

With that, Rich and I will now take your questions.

Question-and-Answer Session

Operator

[Operator Instructions] Our first question comes from Ron Shuttleworth from M Partners.

Ron Shuttleworth - M Partners Inc., Research Division

Just a real quick question on sort of the regional sales breakdown. It's understandable that your North American operations were outperforming your European operations last quarter. Are you seeing -- looking out sort of after -- post credit crisis, are you seeing -- starting to see a pickup in performance and in the pipeline in Europe -- well, in the EMEA region?

Richard D. McBee

So we're -- this is Rich. We're seeing 2 things. One is -- I'll start with the Americas. We're seeing strong funnels in the Americas. And actually in Europe, we're actually seeing strong funnels as well, but we're seeing that the timing in Europe is taking a lot longer. There's a lot more caution. So our solutions are, and especially our cloud solutions, are really resonating very well with the marketplace, but there is still a tremendous amount of caution in Europe right now. So that's what we're seeing on a global basis, specifically in Europe. But once again, the Americas, which was basically flat year-over-year in the quarter, is showing good momentum, and I think that we'll start to see better momentum in Europe. But it's still -- there's a lot of confusion in that marketplace.

Ron Shuttleworth - M Partners Inc., Research Division

Okay. And is the confusion around the type of buying, like, are the people worried about [indiscernible].

Richard D. McBee

Not so much about the type of buying as just the economic uncertainty. So we're working with our customers very closely. They have real needs. They're just being very cautious crossing the line and starting to spend the money.

Ron Shuttleworth - M Partners Inc., Research Division

Okay. And then my last question really is going to be about the prairieFyre acquisition. So do you see any uptick in the last half of 2014 fiscal in revenue due to sort of the integration and sort of the, I don't know what you would call it, I mean, the cross sell or upsell into that customer base?

Steven E. Spooner

Yes, go ahead.

Richard D. McBee

We obviously don't give guidance beyond the quarter, but I'll talk directionally about it. So what we do see is there were several different opportunities that we competed in, where having the contact center as a separate company was a problem for us. Our competitors use fear, uncertainly and doubt against us and saying, "Hey, this is 2 companies. This is a mission-critical application for you." Although we had a very good OEM relationship and our engineering groups worked very closely together, the fact of the matter is there was quite a bit of thought [ph] against us, specifically in the fact that we were 2 separate companies. And the other thing is that we like this market space. We think there's great opportunities. We'll be investing in it. As a smaller company, they didn't necessarily have the ability to invest for scale and to really round out the next generation of cloud-based services. And this will mirror our MiVoice and MiCollab, where we'll have a single software stream that will allow both cloud and premise-based solutions for our customers. So we're really excited about this -- them coming and being a part of the company.

Operator

[Operator Instructions] Our next question comes from Paul Treiber from RBC Capital Markets.

Paul Treiber - RBC Capital Markets, LLC, Research Division

In regards to Q4 exceeding guidance, was there anything unusual this quarter that you didn't foresee when you initially outlined guidance?

Steven E. Spooner

I think -- Paul, it's Steve. I think more than anything else, Q4 is a quarter that folks are pushing hard. The sales organization is pushing hard to make their annual targets. It's always difficult to call just how strong the fourth quarter will be. But I would just say that probably better execution in the U.S. We had a lot of change going on, a lot of new people. So we were cautious in our guidance for the fourth quarter amidst all that change, and I think a little bit more, perhaps, signs of confidence. We don't want to say it's easy out there, but Rich commented on the strong funnels and we were able to get some deals across the line.

Paul Treiber - RBC Capital Markets, LLC, Research Division

On that point, in regards to the new leadership, are they -- do they have the same mandate as what you had for the prior leadership? Or has there been any sort of changes in your channel or sales go-to-market strategy with those changes?

Richard D. McBee

Yes, we did make some changes. We did a pretty exhaustive review. We used a third-party to do the analysis of our channels. We started right with the customer and started working back. And so we enhanced our channel model fairly significantly as a matter of the fact, and the gentleman and lady that we brought on board really kind of fit with where we want to take the channel in the future, and more importantly, how customers are going to buy in the future. So probably the biggest change was that, obviously, we really upgraded the talent that we have. They love the product portfolio that we've got. They're very excited. They're very aggressive kind of sales leaders. And then we also took a part of the business, which was our direct VIP accounts, and we put that under a separate leadership, still under Joe Vitalone, but under a second leadership, so that we can really concentrate on that piece of the business while growing our channel. And we think that that's going to really serve us well into the future.

Paul Treiber - RBC Capital Markets, LLC, Research Division

And then in regards to the strong funnel that you're seeing, is that related more to a recovery in the traditional on-premise business? Or is it more around the opportunity with the cloud and maybe some of the changes you're making in go to market, such as going through resellers? Or is it just across the board?

Richard D. McBee

It's literally across the board. We're seeing a great uptake in cloud business down at the lower end of the market. And in the upper end of the market, we're seeing a lot of interest in cloud, but purchasing premise-based systems. And you have to fundamentally remember, I think sometimes when we talk about premise-based systems, we think of kind of a hardware box. Premise-based systems today are software that rides on a server. Almost -- I think it's 79% of our enterprise PBXs are shipped software. So this is a very software-oriented business that we're in.

Paul Treiber - RBC Capital Markets, LLC, Research Division

Okay. And then just lastly, in regards to the Q1 OpEx guidance, it was useful to see how much prairieFyre was a contribution. Just looking out beyond for the year, should we -- I think OpEx is 43% of revenue in 2013. Should we expect -- if you exclude prairieFyre, should we expect that relatively stable in 2014?

Steven E. Spooner

Well, again, Paul, we don't give guidance beyond the quarter, but I'll speak to it more kind of directionally as opposed to giving you a specific target for the year. The -- we mentioned that we expect the prairieFyre acquisition to be accretive within the fiscal year, and that's really going to drive -- it's really driven by a couple of moving parts. We ultimately think that we're going to win more contact center business as a result of owning the technology, as Rich mentioned. So we're -- we believe it will be a driver of top line growth, as well as bringing along core product sales to complement the contact center. At the gross margin line, it -- this is pure software. So our software mix overall for the business is enhanced. So that's directionally going to move our gross margins up. And from an OpEx perspective, we're -- we are looking kind of directionally not to grow OpEx as a -- if you ignore the prairieFyre acquisition, we're really looking to not expand OpEx as a percent of revenue. We've been looking to continue to improve the leverage in our operating model, but bringing on 130-odd people will drive up the overall OpEx as a percentage of revenue. We do see some opportunities on the integration front, but the primary driver for this acquisition was all about getting the people and the technology to get this leadership. So we're not anticipating any sort of big cost synergies with this acquisition.

Operator

[Operator Instructions] Our next question comes from Richard Tse from Cormark.

Richard Tse - Cormark Securities Inc., Research Division

Post this prairieFyre acquisition, are there other pieces, I guess, in your product stack that you think you need to fortify a bit more? Or is this just kind of what you have here for the next 6 months that you're going to work with?

Richard D. McBee

Well, I think there is an ecosystem of product capabilities that surround the prairieFyre acquisition that we did. None of them would probably be as big as prairieFyre. That was really kind of a cornerstone, and there's small bolt-ons that we could add that are specific feature sets that we'd want to advance our contact center solution.

Richard Tse - Cormark Securities Inc., Research Division

Okay. And then in regards to, I guess, the upsell on the prairieFyre acquisition down the road, along with other products, how long do you think that typically sort of takes to kind of get that momentum? I'm guessing here that you're already being asked for this, which is why you're kind of bringing this into the house, but...

Richard D. McBee

Yes, very much. That's what's happened. And I think that portion of it will be, like, very soon to have hit you [ph] .

Steven E. Spooner

Oh, yes.

Richard D. McBee

I mean, so one of the issues is, is that obviously, anything that's mission-critical for our customers and is customer facing for them is -- gets funded first. And so the contact center for most customers is a mission-critical capability. It touches their customers. It impacts revenue and cost for them, and so they're very, very interested in doing that. As soon as they standardize on your contact center, it's enormously easier to push the PBX and UC applications in that back into the company. And so by owning it ourselves, we think that we'll see immediate benefit.

Richard Tse - Cormark Securities Inc., Research Division

And like the challenge of before, I'm still not clear. Like, you said there was bit of an obstacle because you didn't really own the technology. Is it -- can you kind of give us a bit more color in terms of why that was the case?

Richard D. McBee

Yes, sure, because what would happen would be, in the marketplace, some of our competitors would -- it's classic fear, uncertainty and doubt, saying that, "Look, these are 2 separate companies. This company could go left and one company goes right, and you're stuck holding a capability that's not supported between 2 companies," or various fear, uncertainty and doubt. And what they would really say is like, "Look, we have the whole solution. It's one place, one throat to choke. There's an implied integration of the products when you have them yourself. Ours is real," at the end of the day. So that created a lot of, like I say, fear, uncertainty and doubt in our customer's mind. We've still been very successful. We've been able to grow contact center. But really, to move to the next level, it was very important that we had total control of the roadmaps, of the customer support, because at the end of the day, we were starting to out scale the size of those business that it could handle. They needed the next level of support for their customer base, for the selling -- the solution selling that was required and we were kind of at a -- we knew that we were at a major decision point, that we had to own our own contact center for, basically, the technology, for the support and for the sales integration. And any -- every one of those kind of various had a seam when we were OEMing in the product, and that was used against us in the marketplace.

Richard Tse - Cormark Securities Inc., Research Division

Okay. And just one last question on, obviously, getting some momentum on the cloud side. Can you give us some color as to, I guess, the split between new and existing customers buying these solutions? I'm trying to get a feel for how that's resonating with the existing base versus a new base of customer share.

Steven E. Spooner

Yes, I think it'll be more anecdotal terms in terms of our comments, Richard. I don't think we've got specific data that we can cite for you. But I think we would say that for much of the Mitel AnyWare direct cloud offerings, a lot of that are new customer wins. We certainly had some cases where an existing long-time Mitel customer might have had a 8- or 10-year-old system and was evaluating how it'd move forward, and the cloud offering brought to them by us was a nice transition forward for them. I think on the -- kind of the wholesale side of things, Rich mentioned, it's early days. But we've got some 30 service providers, some of which were existing service providers and some of which are new to us, who are looking at the cloud offerings that we can provide them to take to their customers using -- typically using their brand and oftentimes their infrastructure. So that's a long-winded, it's a mix.

Richard D. McBee

I mean, for example, Sprint, that would all be greenfield for us. It's -- the service providers are providing incremental reach for us. So Mitel AnyWare is predominantly greenfield. There's a couple customers who have converted, from the long term, 12 years ago or 10 years ago systems. But most of the cloud stuff that we're seeing today are new customers.

Steven E. Spooner

From a channel perspective though, Rich, it would be a mix, right?

Richard D. McBee

Yes, absolutely.

Operator

Our next question comes from Prabh Gowrisankaran from Canaccord.

Prabh Gowrisankaran

Quick question on the software mix. I know it is -- last quarter was 79%. And I -- would you -- what was it this quarter and where do you expect it to go to with the prairieFyre acquisition?

Steven E. Spooner

Yes, so I think the -- hold on a minute. I'm looking for our software mix number. We hit -- well, for the -- I have the stats here for the year, at 79%, up from 75% last fiscal year. And I think we were in the mid-80s, I want to say, in the fourth quarter. So it continues to grow. We haven't specifically guided in terms of software mix, the impact on software mix as a result of the prairieFyre acquisition. But I think logic would suggest that we just acquired a business that's a pure software business, so you would expect it to grow.

Prabh Gowrisankaran

Following up on that, do you expect to cross to the 90%, and do you see a big pickup in margins? Or how should we be thinking about once your software business crosses the 85% to 90% threshold?

Steven E. Spooner

Well, I think that we need -- we'll need to update our target model, but we typically talk to you at our annual analyst conference. So we'll give -- we will update our kind of 2- to 3-year target model. We are already generating gross margins that reflected what, last year, we said would take 2 to 3 years to achieve. So we're clearly outpacing, and we're very pleased to see that we're outpacing what our expectations were. I think directionally, we should expect blended margins to, over the next 1 to 2 years, to probably expand a couple hundred basis points, would be my guess. But that's not formal guidance. That's just kind of directionally how I would expect to see prairieFyre and -- primarily, and some other moving parts affect our blended margins. I mean, Software Assurance continues to grow. That's certainly been accretive to our margins, and that's -- as we've seen legacy maintenance revenues decline as they have been across the industry, we've been enjoying a higher-margin, growing Software Assurance revenue stream. So that's a factor as well. So there's a number of moving parts, as I say. But directionally, we'd expect to continue gross margin expansion.

Prabh Gowrisankaran

And one question on the debt repayment. I know the prior focus was all the cash flow from operations go towards paying down the debt, which you did last quarter. Is that still the focus? Or are you looking to expand into more -- other software applications, other areas in the UC space?

Steven E. Spooner

Sure. So I think we've certainly indicated that, in a way, we -- our priority is to continue to reduce the debt. We're spinning off nice cash and have been for several quarters now. We have strong cash flow in fiscal year '13. We don't need a lot of cash to run the business. So you should expect to see us continuing to pay down debt as a priority. Having said that, we balance that with our desire for profitable growth, and prairieFyre was a terrific example of a strategic acquisition that would be accretive to the business, an engine of growth for us, and we think it made a lot of sense to drive shareholder value. So we'll keep the door open to similar deals like that, but in the absence of seeing something really attractive, we'll be focusing on paying down the debt.

Operator

There are no further questions at this time. Mr. McBee, you may proceed with your closing remarks.

Richard D. McBee

Well, thank you for joining us this afternoon. We are encouraged by the positive momentum we saw in the fourth quarter. While the first quarter is typically down sequentially, we have a strong funnel of opportunities ahead, and our first quarter revenue guidance we've -- does reflect year-over-year growth.

We are excited about the competitive advantage the recent addition of our contact center development platform provides Mitel. We're operating in a very dynamic market with 2 primary segments, premise-based and cloud, each changing at its own speed. Both create market opportunity for Mitel, and we are confident that we can capitalize on these opportunities to drive profitable growth and to create value for our shareholders. We look forward to updating you again on our next earnings call.

Operator

Thank you. Ladies and gentlemen, this concludes the conference call for today. We thank you very much for your participation. You may now disconnect your line, and have a great day.

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