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Executives

Ken Denman - Chief Executive Officer

Karen Willem - Chief Financial Officer

Mike Bishop - Investor Relations, The Blueshirt Group

Analysts

Mike Abramsky - RBC Capital Markets

Tom Roderick - Thomas Weisel Partners

Scott Sutherland - Wedbush Morgan Securities

Matthew Hoffman - Cowen & Company

Varun Chadha - Raymond James

Scott Zeller - Needham & Company

Openwave Systems Inc. (OPWV) F4Q09 Earnings Call July 30, 2009 5:00 PM ET

Operator

Welcome to the Openwave fourth quarter fiscal year 2009 conference call. During today’s presentation all parties will be in a listen-only mode. Following the presentation, the conference will be opened to questions. (Operator Instructions)

I would now like to turn the conference over to Mr. Mike Bishop. Please go ahead, sir.

Mike Bishop

Thank you. Good afternoon, everyone, and thank you for joining us today to discuss the results of Openwave Systems fourth quarter and fiscal year 2009. Joining me today from Redwood City are Ken Denman, Chief Executive Officer; and Karen Willem, Chief Financial Officer.

Before we discuss the results of the quarter, I want to remind everyone that we are operating under rules of regulation FD. Our first quarter financials results press release was distributed at the close of market today; and if you’ve not yet seen a copy, you can find one at our website at Openwave.com. For your convenience, this call is being recorded and will be available for playback from our website for three months.

Before we begin, I’d like to remind you that any remarks that may be made on this call or in our earnings press release about future expectations, plans or prospects for the company may constitute forward-looking statements for the purposes of the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995.

The actual results may differ materially from those indicated by the forward-looking statements as a result of various important factors. These factors include the specific risk factors discussed in the company’s press release that was distributed today, and in the company’s filings with the SEC, including but not limited to, Openwave’s fiscal 2008 financial results on Form 10-K and any other reports subsequently filed with the SEC.

We intend to make several forward-looking statements during the call that are based on management’s current outlook as of today. We do not intend to update these business outlook statements until the release of Openwave’s next quarterly earnings, announcement and disclaim any obligation to do so prior to that time. However, we reserve the right to update the outlook for any reason during the quarter.

With that, I’d like to turn the call to, Ken.

Ken Denman

Thanks, Mike and good afternoon, everyone. I’m happy to report that revenue increased in the fourth quarter even better. We achieved the bookings level greater than the revenue levels. Last quarter, I reported that the business was getting healthier by the week. In this quarter, we saw our progress move beyond internal operation improvement, and are seeing a positive impact within our sales in customer facing operations.

Revenue was $47.9 million for the quarter, and bookings were $49.1 million. If you recall, the bookings level was helped by the deals we closed early in the quarter. As always, our goal is to have a 1:1 or better book to bill ratio. This was a good quarter for us, so we must maintain bookings above 4:1 for several quarters before I declare a successful rebound. We continue to tightly manage operations, including the expenses. Karen will cover the financial results for the quarter in greater detail later in the call.

We don’t believe the state of the economy has changed much in the last 90 days, nor have our customers’ buying patterns. That is despite very real bandwidth constraints, our customers are buying more incrementally with smaller capacity purchases. In one instance, by the time we completed the deal with a customer, they were already asking for more capacity beyond that purchase. These capacity constraints continue to be driven by what I can only characterize as unprecedented demand for mobile data services.

After more than a decade of initial discussion about ways to grow mobile data adoption rates, our customers are starting to reap the rewards of their marketing labors. We have issued an urgent call to action to our operator customers to ensure their networks are ready to support the dramatic inflexion traffic that we anticipate will only grow. Although network equipment upgrades are inevitable, they are not immediate.

We believe strongly in the ability of Openwave’s software solutions to help our customers derive value from their credit network investments and optimize their credit network capacity while they plan to execute their hardware upgrades. Even the few customers who appear to be technological decisions, don’t appear to be moving fast enough to address the reality of the two substantial surges of the data demand headed towards them.

The first of these tsunami size waves is fueled by the increasing number of smartphone users. Even with a relatively small market penetration, smartphones generate a disproportionately large amount of traffic across networks. By most estimates, data traffic over tier one networks is growing at 10% to 15% per month with 1% to 2% of users generating up to 50% of the total volume.

On the horizon, but approaching quickly is a much bigger second wave of demand from an array of laptops, netbooks and other wireless capable devices, not typically phones by the way. That could easily overwhelm current mobile networks.

According to our recent forecast from Cisco, it’s estimated that a single smartphone generates more data traffic than 30 mass-market feature phones and a 3G tethered laptop generates more data traffic than 15 smartphones. So, every Netbook computer user, who adds 3G or switches to a Netbook creates the data traffic equivalent to 450 feature phones.

At this time, capacity utilization is nearing its high-water mark for many networks. If we are correct in our assessment of where the demand curve for mobile data around the world currently stands, it won’t be long before slim networks experiences significant service disruption. Ultimately, we believe this budding crisis represent significant opportunity for Openwave to help our customers navigate the waves of mobile data demand headed for them.

Moving forward, we’ll characterize Integra as a mobile mediation platform which best speaks to the value of our solution. Mobile mediation allows an operator to manage; shape and smoother data traffic and seamlessly address the bandwidth challenge head-on.

Additionally, our optimization tools are designed to allow an operator to leverage their present network investments and extend the life of their 3G networks. While our analytics tools are designed to help better plan for future investment and capitalize on new revenue opportunities.

As we head into FY ‘10, we believe our mobile mediation platform and services will be core to our success. We continue to witness strong growing demand for our Integra platform. During the quarter, we closed an Integra deal with Rogers Communications, one of Canada’s largest communications companies.

In addition to the several tier-one customers who have already upgraded to Integra, including Rogers, Telstra and Vodafone Spain to name a few; I would also like to note that we are seeing a many of our largest of customers migrating to the most recent versions of MAG, which could easily position them for the transition to our Integra platform.

This quarter, we also announced Guardian, a new service enabler that gives mobile operators the power to protect their networks from viruses and security threats and to protect their subscribers from inappropriate and unwanted content.

One of the critical first steps in managing the mobile data onslaught is better monitoring and management of network resources. During this quarter, we introduced our new mobile analytic platform, which helps operators identify and proactively manage bandwidth allocation, as well as make critical business decisions based on new subscriber behaviors and trends.

On the operations side, mobile analytics enables an operator to control network operations more efficiently by providing operational and traffic reports that could help inform how best to optimize present capacity and manage ongoing bandwidth demand.

The marketing executive, our mobile analytics platform can have a significant impact by offering the ability to generate reports, which aggregate subscriber data and behavioral information across a variety of data sources, including on portal and open internet browsing, mobile e-mail messaging, video and audio streaming, device type, demographics and location.

This aggregated information provides a 360-degree view of an operators mobile subscriber base, which could be used to better target new revenue generating services. I’m pleased to report that this quarter we secured our first win for our new mobile analytics platform with Telstra, Australia’s leading telecommunications and Services Company.

I’m also proud to report that Openwave Mobile Analytics was named as a finalist in the business intelligence category for the Meffys, Mobile Entertainment Awards. Also, the latest version of our Rich Mail dashboard was named as a finalist in the messaging infrastructure and platform category for the sixth annual Global Mobile Messaging Awards.

We are encouraged by the positive industry validation we’re receiving for our product. It’s a reflection of our focus on innovation in the analytics and messaging arenas. In our location business, Sprint signed an agreement this quarter to license location manager emergency edition, which extends an operators ability to rapidly deploy and manage location based emergency services.

We continue to work on integrating location across our mobile mediation and messaging platforms. Now I’d like to provide a brief update on corporate developments. We further strengthened our executive staff with the addition of John Giere, as Senior Vice President of Products and Marketing. John is a seasoned executive with nearly 20 years of experience in the management, marketing and business development areas in telecommunication Space.

John brings highly relevant experience to Openwave, having worked at Alcatel Lucent and Ericsson during their respective times of significant growth and change. His role will be critical in defining how we package and sell our portfolio to new and existing customers through channels and to new territories in emerging markets.

Looking back on the quarter, I’m pleased with Openwave’s performance. The company is well-positioned to capitalize on the trends we’re seeing in user demand. Our customers are also showing renewed interest and genuine excitement about our product portfolio.

We still have work to do for sure. We know we need to improve execution in Europe to drive more bookings and revenues from that geography, and I’m taking steps to bolster our customer relationships in that region. Also growing our customer base in the emerging markets is a key growth strategy for FY10.

We intend to continue to leverage our relationships with Alcatel Lucent as well as work with smaller regional partners as a way to penetrate these new markets. Notwithstanding our need to improve execution in Europe, we have made tremendous progress over the past year.

I believe we have the right business fundamentals in place to move forward, we have stabilized the management team, significantly decreased the in spec expense structure and improves the bottom line to achieve operating profit. We drove efficiencies in our R&D efforts consolidating eight despaired R&D centers to four synergistic facilities. We’re moving with tremendous momentum into our fiscal 2010. As a company, we look forward to driving bookings and further improving the business.

Now I’d like to turn the call over to Karen to provide more details on our financial results.

Karen Willem

Thank you, Ken. Good afternoon, everyone. Before I begin discussing the numbers, I would like to note that unless otherwise indicated, gross margin expense and earnings-related items are reported on a non-GAAP basis, which excludes stock-based compensation, impairments on investments and goodwill, amortization of intangibles and other acquisition-related costs, restructuring expenses and professional expenses related to unusual events.

In addition, all comparisons with previous periods exclude the clients business, which we solid in the second calendar quarter of 2008. Please access our financial metrics summary, which is available on the investor section of www.openwave.com. To review Openwave’s historical financial performance, as well as for reconciliations of the non-GAAP measures we report to the corresponding GAAP measures.

Openwave’s financial progress continued this quarter. We achieved the important metrics of improving revenue and bookings, while at the same time continuing to manage expenses within our target range. We need sustained strong bookings to improve revenues, and this quarter was a great start. Overall, for the quarter ended June 30, 2009, Openwave posted a GAAP loss of $0.04 per share. On a non-GAAP basis, net income was breakeven. Reconciliation from GAAP to non-GAAP income or a loss can be found on our press release.

I will now turn your attention to the detailed results for the June quarter. Revenue for the quarter was $47.9 million, an increase of $3.3 million or 7.4% quarter-over-quarter, and a decrease of $5.6 million or 10.4% year-over-year. The quarter-over-quarter increase was primarily due to increased services revenue. The year-over-year decrease was primarily attributable to lower than forecasted year-to-date bookings.

License revenue was $13.1 million, down $3.6 million or $21.6% sequentially, which comprised 27.3% of total revenue. This variance is due to a large service management licensed revenue deal from the major carrier, which occurred in the March quarter. Maintenance and support revenue was $16.2 million, up $800,000, or 5.2% sequentially, and comprised $33.8% of total revenue.

Services revenue was $18.6 million, up $6.1 million or 48.5% sequentially, which comprised 38.8% of total revenue. Services revenue now reflects historical trends, as fiscal quarter three was impacted by delays in customer delivery schedules. The regional breakdown of revenue in the June quarter shows 69% of our revenue originated from customers based in the Americas, 12% from EMEA and 19% from Asia.

This compares to last quarter’s breakdown of 67%, 14% and 18% for the Americas, EMEA and Asia respectively and last year’s June quarter breakdown of 57%, 19% and 24% respectively. The fiscal quarter four, Sprint accounted for 34% of revenue. No other customer represented greater than 10% of our revenue for the quarter.

Turning now to our gross margins, which I’ll only discuss on a non-GAAP basis; we achieved 62.1% blended gross margin for the quarter, a decrease of 4.4 points compared to last quarter and 1.8 points lower than the same period last year. Reduction in gross margin quarter-over-quarter is due to proportionally higher licensed revenue in fiscal quarter three.

The year over year decrease is attributed to fiscal quarter three 2008, maintenance and support purchase orders, which were not received until fiscal quarter four 2008. This resulted in higher gross margins in that quarter.

Gross margin on license revenue decreased 0.7 points to 97.5% compared to 98.2% for the March quarter and increased 3.6 points, compared to 93.9% for the same period last year. The year-over-year increase in license gross margin is attributed to lower third-party royalties.

The maintenance support gross margins of 75.1% increased 2.1 points from 73% last quarter and decreased 2.6 points, compared to 77.7% for last year’s June quarter. The quarter-over-quarter increase was primarily a result of deferred revenue being triggered on one of our major contracts when delivery was confirmed. The year over year decrease is a result of higher revenue in the same quarter last year.

Services margins of 25.8% increased 9.4 points from 16.4% last quarter and decreased 3.5 points from 29.3% last year. The fiscal quarter three, gross margin was low due to customer delays to delivery schedules. Fiscal quarter four brings us back into our target range. The year-over-year decrease was primarily due to lower revenue from higher margin projects in the same period last year.

Turning now to our operating expenses, which again I’ll only discuss on a non-GAAP basis; research and development expense of $10.9 million was flat quarter-over-quarter. Research and development expenses decreased $1.3 million or 10.5% over the same period last year, primarily as a result of lower headcount and labor costs.

The fiscal quarter four, sales and marketing expenses of $11.6 million increased $1.9 million or 19.1% from $9.8 million in the prior quarter and decreased by $2.2 million or 16.1% from $13.9 million in the fourth quarter of last year. Quarter-over-quarter expense increases are primarily driven by higher commissions due to higher bookings.

We also incurred an expense of approximately $700,000 for a sales agency related to one of our EMEA customers who paid earlier than anticipated. Year-over-year savings are primarily attributed to lower headcount and lower commission expense as a result of lower bookings year-to-date.

Fiscal quarter four general and administrative expenses of $6.4 million decreased by $1 million or 13.1% from $7.4 million in the prior quarter and decreased year-over-year by $2.6 million or 28.5% from $9 million. Both the quarter-over-quarter and year-over-year decreases were attributable both to lower legal fees, bad debt expense and personnel costs.

Our headcount decreased by 40 employees from 630 at the end of March to 509 at the end of June, mainly attributable to R&D and G&A. The primary drivers for this reduction relate to our fiscal quarter three restructuring and consolidation of our development centers. As we transition employees to our R&D centers and continue to hire, we expect our R&D headcount to increase over the next several quarters.

On a GAAP basis, stock-based compensation expense for fiscal quarter four was $550,000 compared to $700,000 in the prior quarter and $1 million in the same period prior year. The year-over-year decrease was due to the decline in the fair value of options granted and the reduction in the number of options vesting.

Also on a GAAP basis, in the June quarter, interest and other income was a charge of $172,000, which, compared to a charge of $2.3 million and a charge of $651,000 in the March 2009, and June 2008 quarters respectively. The improvement quarter-over-quarter and year-over-year is primarily a result of the impairments on option rate securities, which occurred in fiscal quarter three. We also had lower foreign exchange losses in fiscal quarter four compared to the prior quarter.

As we previously disclosed the original cost of our option rate securities was $29.4 million, which now compares to a written-down value of $14 million, of which 77% is covered by insurance.

Also on a GAAP basis, income taxes increased to $907,000 in the June quarter, compared to $950,000 last quarter, and $1.5 million in the June quarter last year. The quarter-over-quarter increase is primarily related to incremental tax provisions for our overseas entities. The year-over-year decrease is due to higher withholding taxes in the same period last year.

In the June quarter, Openwave’s bookings were $49.4 million. Our current backlog is $197 million compared to $198 million last quarter, and $242 million in fiscal quarter four of last year. The reduction from the prior year is due to lower year-to-date bookings.

Deferred revenues decreased to $53 million as of June 30, 2009, as compared to $51 million in the March quarter and $65.9 million in the fourth quarter of the prior year. The year-over-year decrease of $15.6 million is due primarily to several transactions recognized in the Americas.

Accounts receivable decreased to $31.1 million in June, from $31.67 million at the end of March and decreased from $78.6 million at the end of the fourth quarter last year. Our overall DSOs decreased by six days sequentially from 64 days at the end of March, and by 58 days from a 116 days at the end of June last year, to 58 days at the end of June this year. The decrease is primarily attributable to better than anticipated collections in the quarter. Our overall target is now less than 80 days.

Now turning to our cash and investment balances, we ended the quarter with $126.7 million in cash, cash equivalence and short and long term investments. This balance includes less than $1 million of restricted cash. Cash generated from operations was $4.5 million, which compares with $6 million in the previous quarter.

The decrease in cash from operations is primarily attributable to an increase in severance payments relating to the restructuring, which was accrued for in fiscal quarter three. We also received a $5.5 million customer payment in fiscal quarter four earlier than anticipated, which will negatively impact operating cash flow in fiscal quarter one.

Depreciation and amortization totaled $2 million, of which $1.5 million was depreciation. From a high level, we saw the company’s financial model work well this quarter. Revenue and bookings increased and expenses were well managed. There will continue to be fluctuations in the cash flow, primarily due to variations in both revenue and expense levels. However, on average we expect to be cash flow neutral to positive from continuing operations and maintain non-GAAP breakeven.

Our expectations for non-GAAP quarterly operating expenses continue to be in the range of the mid-to-high $20 million. We continue to expect fluctuations quarter-to-quarter as major events occur. Looking back on our fiscal year, we saw book-to-bill levels significantly lower than one for most of the year. However, the impact to revenue was muted, because we recognized revenue over several quarters. The effect works both ways, however.

We are seeing data demands driving purchasing decisions, and we are hopeful this will lead to improved bookings for 2010. However, as we begin to build backlog through strong bookings, the impact to revenue won’t be immediately apparent. We think looking at 2010, there are some tremendous opportunities for new deals and business, but the revenue increases won’t be seen for several quarters.

As a result, we expect the aggregate 2010 revenue profile to be much like 2009. I would like to remind everyone that our revenue is often contingent on large deals and we have seen significant swings quarter-over-quarter in the past. We expect this to continue in the future.

Operator, we’d now like to open up the call for questions.

Questions-and-Answer Session

Operator

(Operator Instructions) Your next question comes from Mike Abramsky - RBC Capital Markets.

Mike Abramsky - RBC Capital Markets

Could you just give us a little bit more color on your expectations for F’10 with regard to bookings? Are you suggesting that right now, you’re sort of in a mix of where some of the business that has perhaps been delayed for a while, the purchasing patterns are starting to flow again and you’re also seeing maybe some traction in demand for some of your forward business, but you’re still not necessarily got strong visibility to sustainability of those bookings for a while? Could you just give us a bit of color on whether that’s what you’re seeing or maybe a different characterization is appropriate?

Ken Denman

In broad strokes, we’re targeting growth for 2010. Based on the trends we’re seeing, although the purchases still tend to be more bite-size, compared to the overall project that we scope. So, we scope a project and then for whatever reason, maybe an edict comes down and they buy less than the full project, but we are moving forward.

We are seeing purchasing happen and deals closing at a better rhythm. So, of course we do always target a book to bill of one-to-one. The comment earlier relate to the fact that we need to see on an aggregate year-over-year. We need to see a solid growth in bookings for 2010.

We do think that’s possible based on the trends that we’re seeing in the market. There will be fluctuations quarter-over-quarter, but in aggregate we hope to, we expect to and we believe, we’re going to see nice solid bookings growth year-over-year.

Mike Abramsky - RBC Capital Markets

What about Q1 seasonality for bookings?

Ken Denman

That’s been historical pattern that we have seen. You’re correct. Typically, Q1 has been a lighter quarter for us. I won’t speak to the quarter specifically, but I will say that just to reiterate my last comment that we do expect to see kind of one-to-one book to bill on average.

That’s our goal, so I’m not going to make excuses about seasonality. We’re really trying to discipline ourselves in the business by getting our pipelines large enough that we can get there. Will we get there, we’ll see, but I do believe that we need to push through the seasonality in this case, so that we can deliver a full year.

Mike Abramsky - RBC Capital Markets

What’s the reason for the higher OpEx despite the lower headcount? How do you see OpEx trending going forward?

Ken Denman

Yes. I’ll let Karen get to some of the details.

Karen Willem

Yes, we had a couple of unusual items this quarter. One of them was a sales agent expense of $700,000 that was also related to an early payment by a customer for $5.5 million. So, the good news was they paid a quarter earlier than I anticipated. The bad news is it kicked in an expense of $700,000 a quarter earlier, so both those things had to be recognized in the quarter. So, that’s one little piece of it.

The other was, we did have some higher commissions due to the quick selling of some of our sales folks and we did hire engineering people here at headquarters faster than we anticipated also. So, while we were still closing Burlington, we were able to hire more folks here and at the same time still had our ODCs working in India.

So, mostly some one-time things, I’m still targeting the same area we’ve been at, in kind of the mid-to-high, the lower and the mid-to-high $20 millions and so that my expectation there hasn’t changed overall.

Mike Abramsky - RBC Capital Markets

Would you anticipate or does your guidance contemplate the same proportion of Sprint in your guidance? So, it was probably fairly high proportion of revenue, so does your guidance sort of contemplate that being similar or different?

Ken Denman

So, we haven’t provided any guidance. Let me start-off by saying that.

Mike Abramsky - RBC Capital Markets

Your comments regarding, flat outlook for F ‘10?

Ken Denman

Sure. So obviously, Sprint remains a significant customer along with AT&T and we expect that to continue. The wave or the customer concentration to improve is to really execute very, very well in Europe, and then to a lesser extent in Asia. We’re doing pretty well in Japan, but there are parts of Asia where we can improve, but fundamentally we’ve got to crack the code in Europe.

We’ve opportunity out there. I’m going to be spending and am spending more of my time, as we improve and rebuild some of the relationships with some of the major groups out there in Europe. It’s a market that’s larger than the Americas in many respects, and we just have to deliver more than we’ve delivered in that very rich market.

So I do recognize the customer concentration issue. At the same time, we’re doing everything we can to make sure that we maintain a great reputation and a great relationship with those couple of larger America’s customers. Having said that, the path to lower concentration is more growth than the other regions, and we think that’s possible.

Operator

Your next question comes from Tom Roderick - Thomas Weisel Partners.

Tom Roderick - Thomas Weisel Partners

So I guess I’m hearing a message that’s really refining the focus here on enabling data traffic for your customers. I guess, to get to the point, smartphones are driving a lot of that traffic, maybe a disproportionate amount of that traffic. So I guess, Ken to get to the point of my question, how confident are you Ken, that the Integra product itself is solving the traffic problem on a sustainable basis for your customers versus just providing temporary capacity relief?

Thinking about the smartphone, I guess historically, that model might have been a threat to the old Openwave model with the gateway and the client. I understand the model has changed, but maybe just help educate us on the benefits that Integra is providing and what gives you confidence that this is a sustainable strategy with your key customers?

Ken Denman

I would be happy to do that actually. So the punch line here is that we have made that nice transition in terms of being able to represent to our customers that Openwave is much more than MAG and much more than sort of lap one and lap two. I think we have done a good job of being ahead of the curve, and rolling out Integra a year and a half ago or a year ago was a nice testament to the fact that we recognize that as smartphones began to deliver more mobile data traffic.

The real challenge for operators was going to be to have the visibility both on deck and off, but particularly off deck, have the visibility to the traffic, and have sort of a 360 degree. To be able to characterize the devices, be able to characterize where the users were going in terms of the URLs and just a number of other things that we could do. So that dashboard was a nice Segway and a very valuable position; and when you combine that with the service enablers like Accelerator, which we’re all about and are about compression and optimization, those were sort of key thoughts.

We have been articulating sort of where we walk from here, and it’s really resonating over the last six months with the customer base. We’re getting great feedback and great body language. As we talk about how the next legs, in addition to the Guardian and Passport and the other things we do, is to walk into the bandwidth management and not sort of classic BPI, but traffic shaping, being able to support traffic shaping, traffic offloading, and some of the techniques that are desperately need.

Again, frankly being able to do that and more increasingly in real time, how they define it, whether that’s four hours or 24 hours or whatever it is. Then migrating from there into policy management and being that decision sciences software effectively, that overtime as we handshake with the major low balancers and enforcement tools, really becomes the heart and soul of the tools that operators will use for managing their business going forward.

Tom Roderick - Thomas Weisel Partners

Maybe turning to look at the messaging side of the equation, can you give us a sense of how you feel the messaging pipeline looks for the coming few quarters, particularly which regions you might think have some opportunities there? Also just a little bit of a backdrop in terms of what type of pricing pressure you’re facing in the messaging market would be helpful. Thank you.

Ken Denman

So, on the messaging side, we’re seeing good solid pipeline and I think, in general the market has declared sort of the death meal of messaging in one form or another for a long time and even we at Openwave, I think at various times have sort of pushed it into sort of the cash cow space.

But what we are seeing as the market morphs and changes is that, messaging continues to be an incredible and important enabler to help people work and live, because we’ve had social networks come into play and just other, the lifestyle of users is migrating, particularly with younger users, where they communicate differently.

So, this has caused our customers to look for other solutions to allow them to continue to grow, vis-a-vis other players who are coming into the social network arena, and it’s presented different challenges.

What we’re finding is, we actually have some pretty good tools to help with the challenges and we’re spending a lot of time right now trying to look around two corners to think about the next problem set that the market will be dealing with at the end of FY ‘10 and FY ‘11. I’m actually pretty excited about some of the things that we see.

So, to sort of put a bow on this, what I would say is, in terms of regions, we’re seeing nice uptake in the Americas on the messaging side. We’re seeing opportunities in some emerging markets, as they’re sort of leapfrogging some of the older messaging technologies and going to newer messaging technologies.

By newer, I mean more dependent on mobile, as opposed to fix line and so, the emerging markets are a nice place for us and we have a couple opportunities in Asia that we like a lot including, specifically in the Japan market.

Again, people are reinvesting in messaging and that was maybe a surprise to the market, how steep the reinvestment cycle has been. It’s primarily driven though by the two major phenomena that we talked about, smartphone traffic and then all things non-phone, because all of this data transversing the network ultimately ends up being images, ends up being mixed media of some kind and ultimately it’s about storing forward.

So, that’s why we’re seeing what appears to be, I think renewed growth in messaging. It’s really a continuation of the core theme around what’s happening on the mediation platform.

Operator

Your next question comes from Scott Sutherland - Wedbush Morgan Securities.

Scott Sutherland - Wedbush Morgan Securities

Let’s build on Tom’s question. You had a pretty good quarter here in messaging and as you said people might have forgotten about that. Are you seeing areas of interest in mobile messaging, like multimedia and mobile email or is it more on the broadband side?

Ken Denman

We’re seeing it on both sides to be frank with you, but certainly on the former as well, and I think there are deeper challenges on the mobile side because of the just the general nature of bandwidth and spectrum. As you start to get other more capable devices in the mix and these players want to be positioned to handle the next generation of competition.

For most of the mobile players, the next generation of competition is coming from people like Yahoo and Google and others of that ilk, who are in some cases giving away capability in order to get proximity to advertising revenues, but may not have what the operators perceive to be as carrier grade resiliency.

So, some folks have sort of backed away from the free kind of offers and deals and are now looking to invest in capability, because ultimately they want to have that relationship with the subscriber.

Scott Sutherland - Wedbush Morgan Securities

Historically, you guys had something over like 70 customers with some version of MAG in their network. You’ve talked about some upgrade in Integra, but some are still upgrading to MAG six. Can you talk about why going to MAG six instead of going directly to Integra and what that may mean for you guys?

Ken Denman

Yes, absolutely. That’s an important distinction. While Integra is a backward compatible plug-in to MAG, the bridge really is only available at MAG 6.6. So if you want to make the transition to Integra without doing a forklift, then if we peg them up to 6.6, from say me to one of the five series of lower six series, we take them up to 6.6.

We can keep some of that infrastructure in place and leverage it, and really look at Integra as additional capacity. So it’s really a transition or bridge issue, Scott. So, bringing people and we’ve seen actually quite a bit of that, where candidly, over the last three years, we didn’t have as many of our customers following our upgrade pattern as we would have liked.

Whether that’s the customers’ issue or our issue in terms of execution, that’s the fact. So we’ve had an opportunity to go in, talk to our customers about the value of Integra. They see that, but they don’t want to sort of do a complete data center change-out, for a myriad of reasons, and we’ve been able to offer a path, which is, okay let’s get you to 6.6 and simultaneously plan the Integra insertion as the next stage, and away we go.

Scott Sutherland - Wedbush Morgan Securities

Maybe another question on that, if they upgrade on MAG 6.6, does that mean if I have all the intentions to go to Integra, and financially, are you getting paid for an upgraded as MAG 6.6 and then another capacity sell for Integra, so you’re making more that way? Maybe I don’t understand the financial side.

Ken Denman

I certainly think, it’s very difficult to be absolutely 100% definitive; but when I look at the numbers, and of course, when I look at the way we sell and the value proposition that we’re putting in front of people, to me it makes a lot of sense and most sense, and maybe it only makes sense to go to kind of 6.6 if that’s the path you’re going to take.

So, there’s also an issue of support coverage as well. We mean, but the focus here, if the customers that we’ve worked with, the reason to go to 6.6 is to make that transition to Integra. I’m sorry. I think I might have missed the second part of your question, Scott.

Scott Sutherland - Wedbush Morgan Securities

I’m just wondering the financial impact. You get paid for an upgraded MAG 6.6 and then another upgrade Integra, just more capacity on Integra?

Ken Denman

Yes. So the upgrade certainly involves additional license. So that’s for sure we get paid for that. The upgrade to Integra also involves additional license, but we don’t get the full capacity on Integra. So it’s not as much licensing, because they’re still leveraging some of the capacity from the MAG at 6.6. So we will get that additional capacity upgrade over time as it makes sense.

Now remember, Integra is very, very efficient from a footprint standpoint, from a data center standpoint, from a hardware standpoint. So, we can often make the case that you ought to do the forklift, but sometimes that just feels much more risky to customers. So they’ll actually take a slower migration path, which can cost more that’s the reality. We do end up charging more as a result. So that’s the punch line.

Scott Sutherland - Wedbush Morgan Securities

Just last few questions, how is the overall pipeline look now and versus a quarter or going how is Alcatel Lucent doing within that pipeline?

Ken Denman

The overall pipeline continues to grow. So that will be my canned statement there. We’re seeing anyhow Alan and team are making very nice progress in growing the pipeline and that’s important, because the way to consistently be above the 1:1 is to have the pipeline coverage of many multiples as you go into each quarter, and that’s the goal.

So you’ll slip, whatever we have an opportunity to fill the gap and make our numbers, and that’s what Alan has been focused on with his team over the last nine months is driving us to that point, where we have a richness in the pipeline that we can have more predictable results and more visibility, as I think Mike has put it in his first question.

Within that pipeline, we’re seeing continued interest, continued enthusiasm around the Alcatel Lucent relationship. We’re not yet getting the throughput. That is I’m not having deals come out. We’ve got there are a couple of deals in there in the pipeline, where we believe we’ve been selected, have not yet closed.

So I can’t sort of undo the beat pattern of new deals to talk about, nothing to announce, but we feel confident we’re going to have some new deals to talk about going forward. So more work to do, slower than I’d like, but we still see tons of opportunity in that relationship. Once again, particularly in emerging markets.

Operator

Your next question comes from Matthew Hoffman - Cowen and Company.

Matthew Hoffman - Cowen & Company

Gross margins ticketed down slightly. Was that a mix for services alone, and is there any part of that services revenue, which really is tied to new project then it was might drive those licenses backup?

Karen Willem

The margins are pretty much in the kind of ranges that we have been running overtime. Last quarter if you remember, we had an increase in license revenue and a decrease in services revenue. So it changed the margins a bit and they were skewed a little differently. Now we’re kind of more into our typical range, in the low 60s, where I expect us to stay for the next 12 months. As we continue to grow the bookings and grow out the revenue from our backlog.

Matthew Hoffman - Cowen & Company

So the gross margins have stayed stable in both services and licenses basically with the reason in despite the macro downturn?

Karen Willem

Yes. They’re holding pretty steady. In any given quarter, we’ll have ups and down as you know. Matt, because an occasionally we’ll have a little bit of hardware going through, but generally they’re holding pretty stable.

Matthew Hoffman - Cowen & Company

One last question for me, I think you took the first question. You answered part of this, but you guided or Ken, you spoke about the year-on-year revenue for F ‘10 being somewhat consistent or similar to the ‘09 profile. Would you extend that to the mix as well? Do you think licenses and services would be about the same percentage of the mix next year as you look forward to ‘10?

Karen Willem

In my comments in the script, I did mention that. Yes, we did, because much of our revenue is going to come out of the backlog, the vast majority. We can see the backlog, we can see what’s in there, and yes we expect the margins in the mix to be pretty consistent with what we’re seeing on average over 2009.

Now, as new deals come in, we expect in the bookings that we’re now seeing right now. We’re starting to see an increased mix of license, but it’s just coming now, and it won’t rollout into revenue for awhile yet. As we typically rollout four to six quarters.

Ken Denman

So Matt, as we continue to execute through this year along the lines that I’ve described, you’d sort of see that impact more towards the back end of the year in terms of the mix moving in the right direction.

Matthew Hoffman - Cowen & Company

If I was going to tie that altogether with your commentary Ken, it’s your international emerging markets where you think that you have your greatest opportunity right now on the bookings side, or where the bookings are coming from? Is that fair?

Ken Denman

We have a nice opportunity there, but I would also say that, there’s a kind of pressure in the western markets. If you look at where smartphones tend to be, having the most goodness if you will, and where netbooks and all things had a non-phone are beginning to really put pressure. I guess I don’t want to say that the majority of the growth is going to come in the emerging markets.

I think we’re going to set a nice platform for emerging markets. They’re going to have a nice upside as we get into ‘11 and ‘12, a lot of growth there, but I see very nice opportunity in the western markets. It’s sort of right in front of us. We have to go get it. Our western market prospects and customers are under a lot of pressure right now.

Operator

Your next question comes from Varun Chadha - Raymond James.

Varun Chadha - Raymond James

I just have a few questions here. Historically, your backlog has been tough into convert into revenue. What gives you confidence that you can convert it on time, and what are your assumptions there?

Ken Denman

One of the things, what I would comment, I’ll may turn over to Karen, probably she’s in best position to speak this, but my observation is that over the last 12 months. As we’ve scrubbed this business hard, we’re driving an increased level of visibility, and it may not be where we want it to be yet.

I have much more confidence today as we sit here, with Karen having been in the seat for 12 months and the team sort of coalesced around it and Alan having done the work, so I know I have some knowledge of the quality of the deals that have come into the pipeline in the last three quarters. So, those things we need to more confidence than I might have exhibited maybe 12 months ago. Karen, I’ll let you go from there.

Karen Willem

Yes. We have historically; the backlog does roll out of reported six quarters. It’s not really because of difficulty. It’s rather because most of our software is integrated into very complex systems that are customers, it just takes a while. We’re the ones who do the integration.

It just takes a while to get all of their systems integrated. The other thing is last quarter; we face delays from the customers. In this difficult economic time, they put off doing some of their installing and integrating, as well as purchasing of some of their orders. So, at this point we’re seeing very consistent services integration and things are looking better.

So, we review the backlog constantly, and that’s why you see changes in the backlog from time-to-time, because we’re always scrubbing, evaluating, adjusting for FX changes and also adjusting as deals may actually come in lower than what was originally booked on some of the services deal. So, the backlog can even go down slightly as it did this quarter. But generally we’re constantly watching it and I’m very comfortable.

Ken Denman

I would just close this question by saying, we’re seeing more urgency and that is a result the PS team as under pressure from an implementation standpoint, because increasingly, if you follow our core themes, operators are telling us we really can’t miss our timeframes.

We can’t miss our deadlines. They need this stuff. They need it to be on time. So that’s a good message. That’s a lot better than what we were seeing late last year, when folks were really gating projects to kind of manage OpEx and CapEx.

Varun Chadha - Raymond James

How should we think about your maintenance and professional services revenue going forward? Will we start seeing any consistent sequential increases and what would drive that?

Karen Willem

As I said a bit earlier, because the maintenance and services, all of the core components of revenue are coming out of the backlog; you’re going to see in the near term. We had prior to this quarter, where we did get a larger than one book-to-bill. We had lower bookings than we would have liked and that has to roll through out of the backlog.

So, we’re seeing a profile on revenues very similar to last year, not bookings, but revenues. So, we already can see that mix. We can see what’s out there and I would say for at least the first part of next year, it’s going to be pretty much the same as this past year.

Varun Chadha - Raymond James

Looking ahead, what are the main drivers for license revenue? What has to happen for this revenue stream to eventually be sustainable year-over-year and sequential growth?

Ken Denman

The main drivers are going to be the fact that operators need to really have a mobile data story and platform from an architectural standpoint that allows them to deliver a great user experience. You don’t have to go very far in the mobile space, for instance to find operators who are challenged from a reputation standpoint or from a potentially from a churning standpoint, because they’re not delivering a great user experience and that the backdrop of that is they don’t have the visibility.

They don’t have the capability to compress and to manage data. So, the driver here is that the market is moving towards us, if I may be so bold. I really do believe that operators are looking for solutions. They have to make decisions. This is not an environment which they can put off making decisions, and that’s a primary driver.

Again, just putting in more equipment doesn’t solve the problem. Just putting in more hardware does not solve the problem. If the operators don’t have the advantage and the leverage of software, it’s a far more expensive for them.

So, I think the driver to having more license sales is absolute demand and need and the operators’ desire to get leverage from their investment and hardware alone won’t do it. It has to be on the software side. So that gives me a level of optimism.

Varun Chadha - Raymond James

How should we think about gross margins going forward? Is there any room for expansion there? What are the puts and takes?

Karen Willem

Once again, going back to my comments about the revenues for a while here yet, maintaining that kind of favorable levels that we’ve seen recently, so will the gross margins. We’ve averaged 61% to 62% in the past four quarters. I think we’ll stay there for a while yet, until the bookings roll forward and our new bookings with the higher percent license has come out. So in the near term, it’s going to be fairly stable.

Varun Chadha - Raymond James

Last question here, I think you mentioned that, you guys expect to stay neutral to positive with regard to your cash flows. Will that be in a quarterly basis or was that on a yearly basis?

Karen Willem

That’s on average. Every quarter there are some, our revenues were lumpy. They just are, as we deliver things or as a customer, might have a large license deal like we had last quarter. So they go up and down; but on average that is our goal and we’ve shown this past year, we ended up for the year as it had from operations cash flow breakeven, which was a good win for us. So we continue to see that kind of a level on average.

Ken Denman

If you look at in the last three quarters, I think we’re starting to deliver a pattern of results in performance that would be kind of indicative of what’s possible and what you can expect. Again some opportunities for a little bit of lumpiness, but as Karen and I told you, I think that starting back in January, when I said certainly soon after we came here, we’re managing this business to be cash flow positive, and ideal.

The goal is to get to profitable growth. The baseline is to be operational cash flow positive, and that’s how we’re driving the business. That’s how we built our expense structure to walk forward. Yes, could we have a blip here and there? Yes, possibly, but I think take a look at the last three quarters, and I think you can draw a lot of conclusions from those set of results.

Operator

Your last question comes from Scott Zeller with Needham & Company.

Scott Zeller - Needham & Company

I know there was an earlier question about Integra, but I wanted to ask specifically about the immediate usage or the pinpoint that people are taking care of with Integra. Is it more of the analysis of traffic, as we’ve discussed, or is it the shaping? Specifically on the shaping, are you seeing bite mobile competitively?

Ken Denman

I think it’s in this order. It’s capacity, it’s analytics, and it’s compression, and I’ll tell you, in the last four months compression and/or optimization, acceleration, however you want to characterize it, which ultimately will lead to a focus on traffic shaping and traffic allocation those that’s sort of the order.

As it regards bite, we see them in deals. The intensity, I would say, has not changed. The competitive dynamic is not really different. It’s sort of the usual suspects, and we continue to feel really good about our competitive position and our ability to close business against all of the competitors, including them. So I’m not seeing a fundamentally different dynamic out there. We like our position a lot.

Operator

Thank you. At this time I like to turn the conference over to Mr. Denman for any closing comments.

Ken Denman

Okay. Thanks. Sorry for talking over you. Thanks for participating today. We appreciate your interest in the company, and thanks for your continued support. I look forward to updating you on our progress next quarter. Have a good evening. Take care.

Operator

Thank you. Ladies and gentlemen, that does conclude today’s Openwave fourth quarter fiscal year 2009 conference call. If you like to listen to a replay of today’s conference, please dial 303-590-3030 or 1-800-406-7325. Enter the passcode 4112173. Once again those numbers are 303-590-3030 or 1-800-406-7325. Enter the passcode 4112173. ATT would like to thank you for your participation. You may now disconnect.

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Source: Openwave Systems Inc. F4Q09 (Qtr End 30/06/09) Earnings Call Transcript
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