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Matthew Hunt - The Blueshirt Group

Peter Leparulo - Chairman and CEO

Kenneth Leddon - SVP and CFO


Sid Sinha - Canaccord Genuity

Bryan Prohm - Cowen and Company

Novatel Wireless, Inc. (NVTL) Q1 2014 Earnings Conference Call May 7, 2014 5:00 PM ET


Good day and welcome to the Novatel Wireless Inc. First Quarter 2014 Earnings Conference Call. All participants will be in a listen-only mode. (Operator Instructions) After today's presentation, there will be an opportunity to ask questions. (Operator Instructions) Please note, this event is being recorded.

I would now like to turn the conference call over to Mr. Matthew Hunt, the Blueshirt Group for Investor Relations. Mr. Hunt, the floor is yours sir.

Matthew Hunt

Good afternoon and thank you for joining us on our first quarter fiscal 2014 conference call. We will begin with a business overview and outlook from CEO, Peter Leparulo followed by financial overview and guidance from Chief Financial Officer, Ken Leddon. We'll then open the call for questions.

As a reminder, this conference call is being broadcast on Wednesday, May 7, 2014 over the phone and Internet to all interested parties. Information shared in this call is effective as of today's date and will not be updated.

During this call, non-GAAP financial measures will be discussed. A reconciliation to the most directly comparable GAAP financial measures is included in the earnings release, which is available on the Investors' section of our web site. An audio replay of this call will also be archived there.

Please also be advised, that today's discussion will contain forward-looking statements. These forward-looking statements are not historical facts, but rather are based on the company's current expectations and beliefs. For a discussion of factors that could cause actual results to differ materially from expectations, please refer to the Risk Factors described in our Forms 10-K, 10-Q and other SEC filings which are available on our web site.

Now, I would like to introduce Peter Leparulo, Chief Executive Officer of Novatel Wireless.

Peter Leparulo

Good afternoon and thank you for joining our call today. We closed the first quarter with total revenue of $48.3 million, of which M2M represented $12.1 million, an increase in M2M of app 45% sequentially. Adjusted EBITDA was a loss of $5.2 million.

I spent a good amount of time on our last call, setting forth in detail, how we were transforming the business, reviewing our strategy in M2M. The steps we are taking to transform mobile computing for a more profitable approach, and providing targets on our progress. Today I will update our progress against that plan.

Overall in the quarter, we continue to make significant progress in M2M, integrating with our lead partners in each of our targeted verticals, on what we believe are high impact growth initiatives, as well as launching with new customers.

More importantly, our strategy of penetrating anchor tenants in each vertical is working. In each vertical, our dual pipeline expansion has been dramatic. In Mobile Computing, we were executing on our acquisition [ph] strategy to a more targeted approach to our channels.

Operationally, we remained laser focused on controlling expenses in the first quarter, and we took steps to further our restructuring initiatives. These reductions are expected to yield annualized cost savings of approximately $10 million beginning in Q2.

The restructuring initiatives we have undertaken are aimed to align our expenses with revenue and opportunities and are consistent with the skill sets and the business model we are targeting, as we transform the company. Accordingly, we will continue to valuate our cost structure.

In M2M, our targeted vertical approach, our investments in product innovation, sales and integrations, are beginning to surface into our results. We meaningfully grew our total backlog and contract commitments on a sequential basis, and based on our progress, we continue to target growing at or above 30% in fiscal 2014.

As we have said in the past, many of the deals we are working on, have long cell cycles, and involved integrations. So quarter-to-quarter, we may see some lumpiness and the implementation time variation.

In each of our targeted verticals, we continue to engage with and convert major growth players into customers. Let me provide a more detailed update on our traction in each of these verticals.

In Commercial Telematics, we continue to engaging with leading fleet and asset management providers, shipping to new customers, onboarding prospects and expanding our reach into new potential partners.

During the quarter, Teleges became a substantial customer, deploying our SA 2100 Telematics device, which is now fully integrated into the Teleges application platform. Teleges provides a comprehensive cloud based location intelligence platform, for companies that require route optimization, real time work order management, telematics and mobile integration services for their work forces on the route. Teleges was a top 10 M2M customer and a meaningful contributor to our growth in the first quarter.

FleetMatics, a provider of fleet management solutions delivered as a software-as-a-service to 22,000 customers with over 445,000 subscribed vehicles worldwide, recently gave its customer acceptance for an MT 4100 device, which supports advanced driving styles, for better driver behavior analytics. We expect to begin shipments of this newly architected device to FleetMatics in Q2, and currently expect them to be a top 10 M2M customer in the second quarter.

AirIQ became another customer this quarter. AirIQ enables their fleet and car rental customers to locate, manage, monitor, control, protect and communicate with monitor vehicles in real time. We began shipping our MT 4100 device to them this quarter.

Also in Q1, we received initial orders for Vehicle Tracking Solutions, a premier fleet management service provider. VTS offers a wide range of products for fleet efficiency. They will launch our MT 3050 and MT 4100 to support their Silent Passenger Application. A fleet management program for fuel efficiency, work force management, increased employee productivity and attrition [ph] dispatching.

Additionally, last quarter, we discussed our long term supply agreement with DigiCore, a world leading provider of advanced M2M telematic solutions, through its Ctrack service platform. We continue to integrate our telematics devices into their platform, and are targeting a mid-2014 launch for initial contributions.

On the international front, we shipped our MT 4100 new device to a Beijing [indiscernible] for tracking government vehicles in China. And in Europe, we are pleased to announce our partnership with Simple Solutions, as our technical competent center in that region.

Across the M2M business, we are seeing a wide range of opportunities internationally, and in fact, today, about one-third of our business in M2M comes from international customers.

In after-market telematics, which includes insurance telematics, pay as you drive and vehicle recovery; we are pursuing a high growth market, with a very expansive ecosystem, including telematic service providers, automotive suppliers, aftermarket service providers, and application service providers.

During Q1, we had our first quarter of revenue contributions from our efforts in usage-based insurance. We are very focused on insurance telematics opportunities, and believe we are laying the groundwork for meaningful growth in this emerging segment.

One of our lead projects in this space to-date has been integrating our MT 3060 device with the RAC in the U.K., which provides roadside assistance, insurance, vehicle inspections and checks, and up to the minute traffic and travel information to its over 7 million subscribers.

We have begun initial shipments to the RAC. We expect to begin ramping in volume with the RAC in the second quarter, and for the RAC to be a top 10 M2M customer in Q2. We are also continuing to integrate additional advanced features into their platform.

During the quarter, we also announced that we are now working with HIMEX, a leading provider of usage-based insurance and smart fleet management platforms. We are integrating our family of MT 3060 telematic devices into the HIMEX 3D World platform for virtual renderings of telematics information.

Relatedly, we have been working to integrate our devices into Quindell's platform, the parent company of HIMEX. The RAC-Quindell and Quindell recently announced a joint venture creating a new business, Connected Car Solutions Ltd., to distribute their world leading telematics technology. The joint venture was announced as the worlds largest global telematics rollout.

We are pleased to be a partner of the RAC, part of the Connected Car Solutions, and we expect this initiative to provide us with a broader reach, into multiple telematics applications; including usage based insurance, roadside assistance, and fleet services programs.

In the quarter, we also announced a supply agreement with Chipin B.V. for our MT 3060 and N4A Device Manager, to support their insurance telematics programs in Belgium, The Netherlands and Luxembourg. We have begun shipments of our MT 3060 and N4A Device Manager cloud platform, as part of this program. And we continue to make progress with Modus, a leading full service provider of insurance telematics, integrating with their UBI platform.

Also internationally, we have completed integration of the Position Logic platform with our MT 2500. The Position Logic platform, which serves as a one-stop shop, that includes GPS tracking service and airtime will couple with our devices to address the Latin American market.

We are also working on several new opportunities in Latin America, primarily for stolen vehicle recovery and fleet management services, and now have extended our direct sales coverage in that regions. We are beginning to see a healthy pipeline of opportunities in Latin America, and expect it to contribute to revenue growth in the coming year.

Turning to RMAC Security and Home Automation; this vertical continues to be dynamic and quickly evolving, which is creating a broad range of opportunities for us. In security, we see the space migrating from basic monitoring services to interactive services for home automation, including power management, energy management and light control [ph].

Our ability to deploy system level solutions and bring these services together, through our forthcoming M2M gateway, provides us with a unique position to capture this market. Particularly more data intensive services, such as central intelligence and the video transmissions.

We are beginning to penetrate the top tiers of these markets. During the quarter, we also converted another tier-1 customer and have already received meaningful orders. We look forward to discussing further details, as we get closer to these official launches.

Our M2M cloud offering is becoming an increasingly differentiated component of our M2M sales, and a number of the new customer deals we are working on, include bundled solutions, with our N4A value added software licenses attached to them.

We are looking at our CMS and device manager software platforms as currently being in a first stage level license. What we are working to do now, particularly wit some of our newer customers, is to build higher levels of functionality on top of those platforms, so that our embedded software becomes a higher value chair proposition for our customers.

For example, as we share our customer's applications in commercial telematics, [indiscernible] from driver ID and driver behavior, to work force management and vehicle diagnostics, we are developing our N4A cloud platform to support these new vertical market applications by our customers, as we layer on new functionality.

We believe our software is also creating higher barriers to entry and deeper stickiness with our customers. To provide the sense of scale to the reach and the traction of our N4A software, we currently have about 123,000 devices under management.

Lastly, we received certification of our SA 2100 device for Verizon Wireless' network, along with other global networks. We expect to see the expansion of our opportunities for this high value product with additional customers. As a reminder, the MiFi powered SA 2100 is a programmable M2M gateway solution for commercial and consumer telematics, as well as fixed telemetry markets.

In summary, we are very optimistic about our long term gross prospects in M2M. First, we are at the center of what we believe are high growth markets. Second, we are continuing to convert market share leaders in each of those verticals; Teleges, FleetMatics, DigiCore, RAC, HIMEX, ALJ and others. Our sales pipeline is increasing dramatically, as we capitalize on the deep domain expertise and credentials we established, while launching with these anchor tenants.

Third, we are executing on each of these new initiatives, that we believe will drive revenue and significant operational improvements over long term; and fourth, we believe our rapid innovation and growing expertise in these verticals, along with the custom vertical functionality, we are adding to our cloud platform, is creating a virtuous cycle of customer wins, stickier relationships and higher barriers to entry. We look forward to growing our pipeline throughout the year and continuing to execute on customer conversions and program roll outs.

Turning to Mobile Computing; revenue in this segment was $36.2 million, largely driven by our MiFi 5510 at Verizon, which was the largest contribution to MiFi revenues in the quarter. This product would have been a larger contributor, it was impacted by supply chain component shortage, which constrained sales in the quarter.

Products to AT&T, Bell and Sprint, also continue to contribute, albeit at lower levels. While MiFi home has not yet become a more meaningful contributor, we continue to see high value used cases for this product, and are encouraged by the long term vision that we and Verizon share for this product.

In Q1, we saw the targeted strategy that we mapped out last quarter begin to play out, as some of our products in channel have entered the end or the long tail of their sales lifecycles. As we move into Q2, we will continue to see this effect, as certain products like the MiFi Liberate to AT&T come to the end of their lifecycles.

Our MiFi 5510 at Verizon is at a similar stage, although we currently believe, it will continue to contribute meaningfully, until our next generation carrier aggregation product arrives in the second half. While we are working to resolve them, we believe supply chain issues impacting MiFi 5510 will persist in Q2, which will sum up its contribution.

We discussed the marketplace dynamic and rationale for our decision to move to a more targeted strategy in Mobile Computing at length last quarter. We are facing multi-faceted challenges of dual sourcing, pricing compression and high development costs to support unique bandwidth requirements for each of the carriers.

Accordingly, as we take this more targeted approach to channel participation, we have established rigid guidelines and criteria for return on our development investments for these channels.

As we look beyond Q2, we have our carrier aggregation product planned for launch in the second half, which will have a well established channel position, and we are confident that we will achieve our targeted return on our development investment. We also have a number of other design opportunities we are currently pursuing for 2015.

And with that, I will now turn the call over to Ken, for a discussion of our financial results and our outlook.

Kenneth Leddon

Thank you, Peter. I will begin with a financial overview of the first quarter, and then we will provide details regarding our outlook.

For the first quarter, revenue was $48.3 million, breaking that revenue performance down by business segment, our Mobile Computing revenue in the quarter was $36.2 million. This includes $33.5 million of MiFi revenues, $1.2 million of USB modems, combination cards and related products, and $1.5 million from our PC OEM and other business. Our M2M products and solutions revenue totaled $12.1 million and were up 17.3% from the same quarter last year.

From a geographic perspective, sales in North America accounted for approximately 92% of total revenue. Net operating loss for the first quarter was $8.9 million and our net loss was $9 million, or a $0.26 loss per share. GAAP operating loss in the quarter includes $477,000 in share based compensation expense, $224,000 in amortization of intangibles, and $1.2 million in restructuring charges. From here on, I will discuss our results on a non-GAAP basis, unless otherwise noted. Please see our earnings release for a reconciliation of our GAAP to non-GAAP first quarter results.

Non-GAAP gross margin in the first quarter was 21%. Non-GAAP operating expenses totaled $17.2 million, down from $17.5 million in the prior quarter, and $24.3 million in the same quarter last year. This reduction was driven primarily by our restructuring efforts, which we initiated in September. We implemented further restructuring initiatives in the quarter, that will be reflected in our second quarter financials. We expect these initiatives to provide $10 million of annualized cost savings.

Looking at operating expense by category; R&D expenses were $8.6 million compared to prior quarter of $8.8 million. Sales and marketing expenses were $3.9 million, compared to $4.1 million in the prior quarter. Our G&A expenses were $4.7 million, roughly flat with the prior quarter.

Our non-GAAP operating loss in the first quarter was $7.1 million and net loss was $7.1 million or $0.21 loss per share. Adjusted EBITDA in the first quarter was a loss of $5.2 million. Weighted average shares for the quarter were $34.2 million.

Now turning to the balance sheet, we closed the quarter with cash and marketable securities, including restricted cash and restricted marketable securities of $27.9 million, up from $25.5 million last quarter. This increase was primarily due to reductions in accounts receivable and inventory, somewhat offset by operating losses. Accounts receivable at quarter end was $30 million, down from $40 million the last quarter. Inventory totaled $25.1 million, down from $27.8 million last quarter, and first quarter capital expenditures were $513,000.

Now turning to our outlook; for the second quarter, we expect total revenue to be in the range of $37 million to $43 million. We estimate Mobile Computing will represent $27 million to $32 million. As Peter discussed, certain products currently in the channel will come through the end or the long tail of their planned lifecycle.

Revenue in the second quarter is being affected by this dynamic, as well as supply constraints, impacting our MiFi 5510. We are focusing our development investments in mobile computing on products in channels that we are confident, we will achieve our required returns.

e continue to see opportunities in Mobile Computing, that we will evaluate for selection in accordance with our targeted channel strategy, while utilizing a more variable cost structure for development. We are also planning for the launch of our career aggregation product in the second half of the year, which we expect to drive substantial and new revenue. In M2M, we expect $10 million to $11 million of revenue in the second quarter. We continue to target M2M growth at or above 30% for fiscal year 2014.

We expect non-GAAP gross margins in the total business in the second quarter will be in the range of 21% to 23% of sales, and we expect non-GAAP EPS to be in the range of $0.22 to $0.15 loss per share. These estimates are based on approximately 34.3 million shares outstanding.

With that, we will now be happy to take your questions.

Question-and-Answer Session


Thank you, sir. We will now begin the question-and-answer session. (Operator Instructions). The first question we have comes from Sid Sinha of Canaccord Genuity. Please go ahead.

Sid Sinha - Canaccord Genuity

Hi. Thanks for taking my question. Solid results in the M2M business segment in the first quarter. Just with respect to the Q2 guide Peter, it seems down a bit. I mean, do you see how that had solid customer wins across all the key verticals? So just perhaps an indication of some of the lumpiness in the order patterns for some of these contracts?

Peter Leparulo

Sid, are you talking about on the M2M side or consolidated on M2M?

Sid Sinha - Canaccord Genuity

On the M2M side, yeah.

Peter Leparulo

Sure. That really reflects two things. First, there is a little seasonality in our core security business that tends to favor Q1, and naturally on the embedded module side. But I think, more importantly, on the new programs. It's really the ramp trajectory of the new programs. Some of these were at the end of the quarter, so we are waiting to see what the trajectory is with new customers, and with what, really our new programs in fleet and insurance telematics.

Sid Sinha - Canaccord Genuity

Okay, great. And then just based on the first half guidance for the M2M business, to get to that 30% plus of year-on-year growth, this would imply a very -- a much stronger second half versus the first half. I mean, just wanted your take on what gives you confidence for this stronger second half? Is it just the deals and the sales orders that are already in the bank, or potential deals in the pipeline?

Peter Leparulo

Yes. We are in a very-very different place in M2M where we were last year, which gives us that confidence. If you look at things like backlog on the first day of each quarter, last year versus this year. If you look at contractual commitments, volume commitments and contracts, the first day of each quarter, last year versus this year, it’s a dramatic change. I agree with you, there is an underlying assumption that these are new rollouts, sometimes new programs like RAC, which is a brand new program that is going to be in North America, as well as Europe. Some of these new programs, they can shift, and we can't entirely predict the ramp trajectory. But overall, if you look at our backlog, our contractual commitments, the forecast that are much more capable of being qualified and our customer and design wins and conversions of those. Again, we are in a dramatically different place this year from last year.

Sid Sinha - Canaccord Genuity

Thanks. And just one last from me and I will pass it on. On the Mobile Computing side, I mean, you're moving to a variable cost model and good job on cutting the OpEx on to a more streamlined investment philosophy. Just given the Q2 guidance and the end of life commentary, my question is, how do you get the top line of the segment to grow in the second half when you launch new products? And you have talked about dual sourcing and short product lifecycles being a challenge. So I mean, in the second half of this year, do you target particular channels in the enterprise where you don't face these challenges, or may be get better contracts from some of the carriers or channel partners you're supplying to?

Peter Leparulo

I think it’s the first one. We have been in Mobile Computing for a long time, and we have seen which channels really get greater uptake, have more stability associated with them. So those are the channels that we are selecting to target our products, and in fact, those are the channels that we have our design wins in. These channels tend to be ones, where there is a more predictable uptake, where there are more barriers to entry created by branding, where there is higher level of reliability and performance of our products is more meaningful. There are also channels where the downstream business model, such as whole subsidies, we are highly confident that those elements that create challenge stability, as well as uptake of those products, that's where we are spending our R&D dollars.

Kenneth Leddon

So I think we can anticipate that that will not have the same volatility that we have seen in other channels, in the mobile computing space, and that's where we are managing the business too and spending the R&D dollars on.

Peter Leparulo

And just to finish that out Sid, with a more variable model, we can react to changes in any revenue volatility fairly quickly now because of that.

Sid Sinha - Canaccord Genuity

Great. Thanks for taking my question. I will pass the line.

Peter Leparulo

Thank you.


Next, we have Bryan Prohm of Cowen.

Bryan Prohm - Cowen and Company

Hey good afternoon Peter and Ken. How are you doing? Thanks for taking my questions.

Peter Leparulo

Our pleasure Bryan.

Bryan Prohm - Cowen and Company

So first, on the business transition in Mobile Computing, how much further can this business retrench ahead of the next product cycle? Is there any risk may be in the shelf space shrinking, given how critical the next product cycle is going to be, in order to grow the business, 2H over 1H?

Peter Leparulo

The channels that we have selected Bryan, we are pretty comfortable with what the volumes that those channels historically have produced. So what you are getting at is, do we see the possibility of a shrinkage in those channels, we don't right now. We think that those channels will provide the ROI that we are targeting, and provide them with a higher level of confidence, because the business -- the ROIs for those channels have a lot less sensitivity around them, both in the R&D dollars, as well as the revenue dollars.

Bryan Prohm - Cowen and Company

Okay. So, just a couple of follow-ons to that then; what's your current view on VoLTE implementation in the U.S.? Have timelines moved up, or have they slipped since we last spoke?

Peter Leparulo

So we see VoLTE in the U.S. as around Q3, and with something as important as VoLTE, you want to make sure that the user experience is really high caliber, when we roll it out. So we see it taking place in Q3 right now, is what we are benchmarking.

Bryan Prohm - Cowen and Company

Okay. So that's largely unchanged from last time we spoke?

Peter Leparulo

That's right.

Bryan Prohm - Cowen and Company

So then following on then -- so the $10 million in annualized cost savings you announced today, is that going to impact breakeven run-rate in Mobile Computing? Is it going to bring it lower? I think last quarter it was somewhere in the $57 million range?

Kenneth Leddon

Yeah Bryan this is Ken. Yeah we will bring it lower, [indiscernible] lower. We were let's say, breakeven on this business as a whole, because they are so integrated now, its kind of hard to come up with a Mobile Computing breakeven, versus a M2M breakeven. So right now, based upon the Q2 cost structure that we are guiding to the breakeven EBITDA, it leaves about $62 million for all product lines.

Bryan Prohm - Cowen and Company

Okay, interesting. And then can you quantify, Ken, the revenue impact of the supply constraints on the 5510 in the quarter?

Kenneth Leddon

Yeah, you know, we estimate it was over $5 million in Q1, given what we felt were the sell-through opportunities we have we just couldn't take advantage of. I mean, that's -- I think that's our best estimate of it.

Bryan Prohm - Cowen and Company

No. But that would have put you in the midpoint in guidance on revenue --

Kenneth Leddon

Yeah exactly.

Bryan Prohm - Cowen and Company

So it's mid to above. Is that revenue lost or could it come back in the quarter, current quarter, as those constraints abate somewhat?

Kenneth Leddon

It's generally difficult Bryan to recoup [ph] that revenue unfortunately, because of the challenge that it goes into.

Bryan Prohm - Cowen and Company

That's fair. Last question; based on your comments previously on the M2M pipeline. I think you previously have cited expectations or growth objectives of 30% plus basically in line and better than the overall market and a breakeven run rate in that business by year end. Is that still the plan?

Kenneth Leddon


Bryan Prohm - Cowen and Company

Okay. Very good. That's all my questions. I will pass it on. Thanks guys. Good luck.

Peter Leparulo

Thanks Bryan.


(Operator Instructions) At this time, we will conclude the teleconference. To access the digital replay of this conference, you may dial 877-344-7529 or area code 412-317-0088 beginning at about 6:30 PM Eastern Time today. You will be prompted to enter a conference number, which will be 10045257. You will then be prompted to record your name and company when joining. We thank you for attending today's presentation. At this time you may disconnect. Thank you and have a great day everyone.

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