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Executives

Brian Norris – Director, Investor Relations

Andy Ory – President and Chief Executive Officer

Peter Minihane – Chief Financial Officer

Seamus Hourihan – Senior Vice President, Corporate Strategy

Analysts

Paul Silverstein – Credit Suisse

Brian Modoff – Deutsche Bank

Alex Henderson – Miller Tabak

Ehud Gelblum – Morgan Stanley

Rod Hall – JPMorgan

Catharine Trebnick – Northland Investments

Simona Jankowski – Goldman Sachs

James Kisner – Jefferies & Company

Dmitry Netis – William Blair

Simon Leopold – Morgan Keegan

Jess Lubert – Wells Fargo

Rich Valera – Needham & Company

Brent Bracelin – Pacific Crest

Jeff Kvaal – Barclays

Sanjiv Wadhwani – Stifel Nicolaus

Acme Packet, Inc. (APKT) Q4 2011 Earnings Conference Call February 2, 2012 4:30 PM ET

Operator

Ladies and gentlemen, thank you very much for standing by. Good afternoon, and welcome to Acme Packet’s Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will follow at that time. During that time, we ask participants to limit themselves to one question and one follow-up question. (Operator Instructions) As a reminder, pardon me ladies and gentlemen, this conference call is being recorded.

I’d now like to introduce your host for today’s call, Mr. Brian Norris, Director of Investor Relations for Acme Packet. Please go ahead, sir.

Brian Norris – Director, Investor Relations

Thank you, Dave. Good afternoon, everyone and welcome to our 22nd quarterly earnings results conference call. I am joined today by Andy Ory, our President and CEO; Peter Minihane, our Chief Financial Officer; and Seamus Hourihan, our Senior Vice President of Corporate Strategy. The press release announcing our fourth quarter results as well as a reconciliation of management’s outlook for 2012 using non-GAAP financial measures are available on the Investor Relations section of our website at www.acmepacket.com.

All results and expectations we review are on a non-GAAP basis unless otherwise described as GAAP. Non-GAAP net income and non-GAAP net income per share are non-GAAP financial measures, which excludes stock-based compensation and related payable taxes as well as amortization of intangible assets and merger and integration related expenses associated with the company’s acquisition activities. Again, this reconciliation can be found at www.ir.acmepacket.com.

Please note that statements made during this call that are not historical facts may be forward-looking statements within the meaning of the Securities Act of 1933 and the Securities Exchange Act of 1934. These forward-looking statements do not constitute guarantees of future performance and are subject to a variety of risks and uncertainties that could cause our actual results to differ materially from those anticipated.

A discussion of these risks and uncertainties can be found in our recent filings with the SEC. Investors should not place undue reliance on these statements, which are current only as of the day they are made and we disclaim any obligation to update them.

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

Peter Minihane – Chief Financial Officer

Thank you, Brian. As a reminder, all financial information reviewed this afternoon historic and forecasted related to our statements of income are in a non-GAAP basis unless otherwise described as GAAP. Our discussion of sequential changes in our financial results compares the fourth quarter of 2011 to the third quarter of 2011. Finally, all earnings per share amounts are on a fully diluted basis.

Total revenue in the fourth quarter was $83 million, which compares to $64.3 million in product revenue, I’m sorry – which include $64.3 million in product revenue and $18.7 million in maintenance, support, and service revenue. Total revenue in 2011 was $307.3 million, an increase of 33% over 2010. Geographically, 60% of our fourth quarter revenue came from the United States and Canada while 40% came from the rest of the world. The distribution of our fourth quarter revenue was 35% direct and 65% indirect. One customer accounted for at least 10% of our fourth quarter revenue and that was Nokia Siemens Networks at 21%.

Gross margin was 83% in the fourth quarter and 84% for the full year. Total operating expenses were $40.6 million in the fourth quarter, an increase of 12% sequentially. This reflected a slight increase in headcount in the fourth quarter as well as the full quarterly impact of employees hired in the third quarter. Operating margin was 34% in the fourth quarter consistent with the third quarter.

Net income in the fourth quarter was $18.3 million or $0.26 per share. We ended the fourth quarter with 752 employees compared to 741 at the end of the third quarter and 570 at the end of 2010. We ended the year with $372 million in cash and investments, an increase of approximately $34 million sequentially and $96 million for the year.

Cash provided by operations was $18.7 million in the fourth quarter, while total capital expenditures were $4.2 million. Accounts receivable net was $59.7 million at the end of the fourth quarter, while DSOs were 65 days at December 31, 2011 unchanged from September 30, 2011. Inventory at the end of the fourth quarter decreased to $10.2 million compared to $11.8 million at the end of the third quarter.

Finally, deferred revenue was $24.3 million at the end of the fourth quarter compared to $30.7 million at the end of the third quarter. This reflects a $1.4 million decrease in deferred product revenue and a $5 million decrease in deferred service revenue reflecting the amortization of customer service contracts. As we have discussed on previous calls, deferred revenues can fluctuate from period to period based on the timing of shipments and revenue recognition. And we do not believe it should be lied upon as an indicator of the health of the business.

With that I will turn the call over to Andy.

Andy Ory – President and Chief Executive Officer

Thank you Peter and good afternoon everyone. I will focus my comment on the actions and investments we are taking to improve our positioning for 2012 and beyond. While 33% revenue growth, strong customer acquisition activity and significant product innovation are all positives for the company, we did not deliver on the even higher expectations that we had set for ourselves in 2011. This was in large part due to underperformance in the North American service provider market reflecting a slowdown in the capital expenditures in the second half of the year and delays caused by consolidation activity among various service providers.

We don’t expect the North American CapEx environment to improve in the first half. Further, we believe there is some uncertainty globally around the timing of voice over LTE deployments. For these reasons, we are taking a more conservative view for 2012. We will use this opportunity to focus on improving our position for sustained long-term growth. In order to do this, we are implementing a two part plan. The first part is related to driving increased visibility, predictability and overall operational effectiveness into the business.

While we expect demand for our solutions to grow at a compound annual growth rate of 25% to 30% over the next three to five years, we expect it to be closer to 20% in 2012. We expect to maintain our win rate in both the enterprise market and the service provider market in 2012. That said, we have put in place a more conservative plan, which calls for top line revenue growth of approximately 10% in 2012. Again, this plan will enable us to increase visibility and predictability.

We expect our revenue to be distributed roughly 42% in the first half and 58% in the second half, consistent with our bookings activity in two of the last three years. Due to the timing of one very large opportunity in the second half of 2011, we would encourage you to normalize our Q3 and Q4 revenues, as you think about modeling Q1. We expect to deliver sequential revenue growth in the second, third and fourth quarters.

Our plan for 2012 is built around increasing the resiliency of our business and does not require the closure of any one single transaction. We expect full year growth margin to be in the low-to-mid 80s. We expect full year operating margins will range between 32% and 34%. We expect this plan will to earn $0.96 to $1 in non-GAAP EPS and to generate approximately $80 million in cash. The second part of our plan includes making strategic investments to support the two most significant growth drivers over the next few years, enterprise and wireless. Specifically, we’ll continue to make investments in product development, sales and marketing and channel enablement for these two high growth areas.

Enterprise is a rapidly embracing SIP trunking to reduce costs and set the foundation for end-to-end IP unified communication. Researchers expect that the number of SIP trunks deployed worldwide will grow from about $4 million at the end of 2011 to more than $22 million by 2015. Our solutions are deployed at 550 enterprise customers globally including 320 here in North America. What’s exciting is that there are over 40,000 enterprises in the United States with at least 250 employees, all of whom are candidates for our solution. We are already the leading provider of SBCs enterprises with 35% market share.

Our enterprise business represents a 21% of our business in 2011 compared to just 3% in 2008. With this type of growth profile, 2012 will be a year of continuing investment in people, programs, and product innovations for the global enterprise market. We’ve just started to tap into the second major growth driver for our business, the wireless market. Only 1% of the 300 plus million mobile subscribers in North America today use IP voice or video communication.

As LTE networks begin to take hold, we believe that a whole new world of communications known as voice over LTE will be assured in. We expect that significant growth in the number of smartphones and in the percentage of these that are IP-enabled will drive a significant growth opportunity for us. While we have already secured a number of major architectural wins in voice over LTE networks. We believe that material investments in VoLTE, voice over LTE may not begin until 2013. We believe we are very well-positioned as the major service providers when this migration takes hold and then accelerate.

In advance of this transition, we will continue to make the required investments in areas like VoLTE access and interconnect, Diameter signaling, security gateways, and session routers. We look forward to executing on this plan in 2012. I am confident that it will enable us to improve our position for sustained, more predictable long-term growth. We will provide updates on future calls as to our progress.

With that, I’ll turn the call back over to Brian.

Brian Norris – Director, Investor Relations

Thank you, Andy. At this time, I’d like to open the call up for Q&A. Again, we ask participants to limit themselves to one question and one follow-up.

Question-and-Answer Session

Operator

(Operator Instructions) Thank you and our first question comes from the line of Paul Silverstein with Credit Suisse.

Paul Silverstein – Credit Suisse

Andy, your visibility clearly isn’t what it once was. You think the market is growing 20, but you’re guiding 10, two related questions. One when did you first – in terms of tracking visibility, it seems like there is a deficiency in your systems, when did you first become aware of the change in the market? Why didn’t you see it earlier and why weren’t you able to communicate it? And the related question is what makes you think the market is growing 20%? And I'm debating the long-term growth, but you’re guiding to 10% growth internally and I respect and understand the fact that you’re trying to be conservative and I assume hit marks that you could actually get to. Why do you think other than sliding industry numbers? Why do you think the growth rate is 20% relative to the 10% guidance you’re giving?

Andy Ory

Paul we can look at all of our booking activities over the last five years, we can look at our performance throughout 2011 and that gives us a pretty good sense of what we think their trajectory is of the market. So, that’s how we think about how to balance what we’re seeing versus what the analysts are saying. As it relates to when did we have a sense that there will be a material difference in terms of our expected business rate in 2011, I think that we were looking at – at the end of the first half of 2011, we’re still on a 40 to 58 steady as she goes based upon the data that we had in terms of our bookings way. And I think it’s fair to say that 5.59% or 6% service provider growth in North America, which is a large part of our business really did underwhelm us. The majority of that business tends to come in the back half of the year. So, we really were disappointed later on in the back half of the year from really is the largest compound of our business.

Paul Silverstein – Credit Suisse

Where are the bookings – where is the bookings data look like over the last couple of weeks versus – in terms of trend, what does bookings look like?

Andy Ory

The business is performing in line with our expectations. And we did talk about activity period, specifically talked about some activity in Q4 that wasn’t realized in Q4 and we’re starting to realize that in Q1 as well. So we’re happy with that.

Peter Minihane

For example, Paul, I think we mentioned various sets and subsets of the numbers and the single largest issue that we had at the end of the year was approximately $2 million deal from a North American service provider, which subsequently came in here in the first couple of weeks of 2012. So, it wasn’t like we didn’t have continued activity.

Paul Silverstein – Credit Suisse

Okay. I’ll pass it on. Thank you.

Andy Ory

Right, thanks.

Peter Minihane

Thanks, Paul.

Operator

Thank you very much. And next we’ll hear from the line of Brian Modoff with Deutsche Bank. Go ahead please.

Brian Modoff – Deutsche Bank

Hi guys, can you talk a little bit about what you see on the competitive environment, is some of this kind of your view of 10% versus the market at 20 competitive issue? And Andy can you talk a little bit about kind of looking out into VoLTE, we’d agree with your timing issue around 2013. But can you talk about what you see out there from the standpoint or from that point on, and how do you see that the funds occurring for yourselves. Do you see architecturally more of your wins being like AT&T and how they’re going to use you or more of your wins being like Verizon and how they’re planning to use you.

Andy Ory

Okay, sure Brian. I’m going to take the first part and I’ll have Seamus take the second part. No, we actually don’t see a competitive disposition change. We were very careful to note in our prepared remarks that we expect our win loss rates to be the same in 2012 as they were in 2011.

Seamus Hourihan

Okay. On the VoLTE side, then I think there are, its back above it’s – about 40 LTE networks around the world that are in production today. And we’re currently on the VoLTE side alone we’re involved in 25 different opportunities today, of those 25, one is either right in production or going about to production or part of that’s MetroPCS. We also have in addition to that nine architectural wins that were part of in three major geographies, North America, Europe and Asia-Pacific. So, we think we’re doing very well relative to again the early movers in terms of voice over LTE.

Brian Modoff – Deutsche Bank

Okay. So, and then can you talk a little bit about enterprise, you see there so, and what are your drivers going to be that you’re obviously 10% is kind of a disappointed guide. What are your main drivers going to be this year in terms of not going to be wireless, and how do you see enterprise and there been a shift in the carrier spending patterns beyond what you talked about on the call that is concerning you?

Andy Ory

Well, we do expect that enterprise and SIP trunking are going to be two significant growth areas for the company. Enterprise grew 52% globally last year in terms of our business. We do expect to see continued robust growth rates. Additionally, we expect to see the synergistic spending that the service provider customers of ours need to make for SIP trunking. So we do think that both enterprise and carrier based investments in SIP trunking are going to continue to be very strong.

Brian Modoff – Deutsche Bank

Okay. I will pass it on to the next person. Thank you.

Andy Ory

Yeah, thanks Brian.

Seamus Hourihan

Thanks Brian.

Operator

Thank you. Next, we will hear from the line of Alex Henderson with Miller Tabak. Go ahead.

Alex Henderson – Miller Tabak

Hey guys, can you give us a little bit more granularity on the magnitude of the decline you’re talking about here in 1Q. And the sequential trajectory that that implies looks pretty hard to model, I mean to get 42% in the first half of the year given the trajectory of what you did during 2012, you had to fall off the table in 1Q, and then have huge quarter gains into the following three quarters, which is little awkward model. So can you talk a little bit about sort of the sequential, and when you talk about 40 to 58, is that product sales because I assume that the service is not going to follow that pattern and is already a bigger piece of the lower quarters revenues. So, you still feel for within the numbers what that looks like?

Peter Minihane

Again we do not usually comment on quarterly numbers. We do see a consistent, I think as Andy mentioned in his portion of the prepared remarks that in two of our previous three years we had a 42%, 58% mix from a booking side. We envision that being consistent this year with the two year’s reference. And from your maintenance question, I would envision maintenance continuing to grow quarter-over-quarter, as our installed base continues to grow and our service and maintenance organization as continues to have success in signing customers up for the various programs.

Andy Ory

Right and in the past we’ve talked about 42% first half 58% second half bookings activity, which was separate from the revenue activity and we’re going to carefully, we expect to see more alignment of the revenue activity with the bookings activity.

Alex Henderson – Miller Tabak

Still a lot of change in the pattern there, well just to press the point a little bit on the quarter-to-quarter and I know you don’t want to give guide, but obviously you had indicated you’re going to do $16 million, $18 million kind of number out of a particular customer in a lump in 4Q and presumably that falls out 1Q. So, is that the primary driver of that sequential change into the upcoming quarter, the lack of that sale in a seasonally weak quarter and therefore more than normal seasonal declines there?

Andy Ory

Well, I think it’s a combination of a number of factors. And again I think we did receive as we mentioned on our earlier conference call that we did receive that deal from a distributor, which is now 21% customer here in Q4. But again, there was a portion of that that is product and maintenance, service and support, as generally speaking occurs with virtually every one of our purchase orders.

Alex Henderson – Miller Tabak

But presumably that doesn’t reoccur in 1Q and therefore the sequential variance is much greater than normal in what is a seasonally weak quarter, so it’s harder to make-up?

Peter Minihane

Exactly right.

Alex Henderson – Miller Tabak

Are we assuming that there is going to be second rounds off of that sale or is that a – now you are now looking at it and saying, “Gee, that may be one time in nature, I’m not going to do to repeat it or are you still thinking that you’ll see similar slugs at varying points at some juncture during the year?

Peter Minihane

We’re expecting that our significant customers will continue to order from us, but we’re not building into any of our numbers for the year from a revenue point of view, any single transaction reliance.

Alex Henderson – Miller Tabak

Okay, thanks. I’ll cede the floor.

Peter Minihane

Sure.

Andy Ory

Thanks very much.

Operator

Thank you. Next we will go to the line of Ehud Gelblum with Morgan Stanley. Go ahead, please.

Ehud Gelblum – Morgan Stanley

Hi, guys. Thank you. I appreciate it.

Andy Ory

Hi Ehud.

Ehud Gelblum – Morgan Stanley

A couple of things, can you walk us through a typical voice over LTE deployment for a pick your carrier that you want to work with. Pick a fictitious one with, say 10 million subscribers. As they deploy, how many years do they deploy over. How much they buy it once? You mentioned your in and was involved in 25 project, nine architectural. For one of these, what should we look for? If we see a press release sometime next year that you won wireless carrier XYZ. What is that mean in terms of how much revenue you get in the first quarter, second quarter and how long does that last?

Seamus Hourihan

All right, so first of all there’s wide range of how aggressive service providers are in their deployment plan. There are some service providers from a Voice over LTE perspective that will try to offer services across their entire market, all their market as soon as possible, okay. And then it’s a matter of getting subscribers again over time migrated to that LTE, Voice over LTE environment, okay. So service provider won’t buy lots of product right off the bat for their entire subscriber population. It’s a matter of phasing, okay. So it’s a matter of again what their strategy is? How aggressively we’re going to offer and implement it as part of it.

Ehud Gelblum – Morgan Stanley

Right.

Andy Ory

The most significant impact in terms of purchasing requirements are based on timing.

Ehud Gelblum – Morgan Stanley

And of course the second thing is if they have wire line or other assets over the top cable fiber the home asset.

Andy Ory

Correct.

Ehud Gelblum – Morgan Stanley

Architecturally are they going to fold in services overly.

Andy Ory

Right. There’s some service providers they just approach LTE as a separate service environment. There are others that are truly addressing this architecturally to use common infrastructure not only for LTE, but SIP trunking, they’re consumer, residential services and so that’s another dynamic. The other dynamic is how many Acme Packet products of different types they plan to use. Okay. So there’s access SBC, there’s load balancers that are part of that there’s interconnect SBCs, session routing proxies, there is a diameter signaling controllers, okay, so that’s another dimension to potential purchases on timing.

Seamus Hourihan

My guess – is that the phasing of a moderate size LTE network and perhaps folding in their other access subscriber services is a three to four year migration not a one shot…

Andy Ory

Even with some of our – one of our major 3G wireless service provider that phasing, it took exactly that time period.

Ehud Gelblum – Morgan Stanley

So if we were to take one of the large wireless carriers in the U.S. and they are going to start and sort of offering and both of them have decent type of SBC networks built out already. They could probably leverage their existing assets for a little while and then over the next three to five years kind of phase in maybe a few million per quarter is that about kind of right?

Andy Ory

Yeah, that’s reasonable expectation.

Ehud Gelblum – Morgan Stanley

Okay, that’s actually very helpful. Now how much in advance would you know will they just order it when they needed it or would you know six to nine months ahead of time that this was coming?

Andy Ory

Again, you will get by in phases based upon their perceived capacity requirements. We will definitely usually that they go to need products at least three months before they need right capacity in the network.

Seamus Hourihan

And if this follows other service provider buying opportunities, we will be involved in the architecture, the design, the interop testing and probably be required to do some tweets and twiddles to make it all work. So that gets us involved pretty early on in the budgeting cycle.

Andy Ory

Well, I have talked about architectural design wins. Okay, lot of the tweaks and twiddles Handy referenced to think about that the requirements come out of that those architectural designs that in process.

Ehud Gelblum – Morgan Stanley

Okay. That’s actually very helpful. In your guidance for 10% you are planning for 10% for this year, enterprise obviously has grown a lot over the last few years. Can you just talk about Infonetics numbers that the enterprise grows I think 30% to 35% of there about. Is that still growing that much in 2012 and 2013, and if so does that mean the carriers are actually falling off pretty substantially to make up for that?

Andy Ory

No. Well first of all yes enterprise is going to continue to grow at a robust fashion from our point of view. You’re going to see us invest in technologies, channel enablement, partnerships and even direct selling opportunities globally, because it has grown over the last couple of years significantly. It doesn’t mean that the service provider business, particularly North American service provider business is going to be down significantly. We’re just not willing to count on it to a large extend. We think being conservative is important on several levels and so we’re just not counting on any kind of robust service provider growth in North America in 2012. And again it’s very hard to see the back half at 2012, but that’s the way we’re looking at it here on February 2.

Ehud Gelblum – Morgan Stanley

Okay. Could you basically get – I mean that you got your 10% growth so depending on how you define it with enterprise growing 35% that can be taken, so basically the assumption right now is carrier is kind of flat to the numbers.

Andy Ory

Yeah. I mean I do think that some of the things that we’ve said while we felt that this has been a 25% to 30% compound annual growth rate market over the past and over the next three to five years. Even if you take what we’re saying and expected to be closer to 20%, we do expect to maintain our win rate in both the enterprise and service provider market in 2012.

Ehud Gelblum – Morgan Stanley

Okay. That’s helpful. Let’s – I will let it go. I appreciate it.

Andy Ory

Thanks, (Ehud).

Operator

Thank you. Next we’ll go to the line of Rod Hall with JPMorgan. Your line is open.

Rod Hall – JPMorgan

Hi guys. Thanks for taking my question. Just got a couple for you. The first one is on the 2013 outlook, I mean, I think originally you guys probably you did expect some royalty rollout in 2012 and now it’s looked like it’s probably pushed to 2013 or at least that’s what you’re assuming now. What’s the probability that could pushed even further, I mean do you think that the service providers may decide to move it on out to 2014, when there is actually more mass market both the devices and in more sense economically for them to deploy in a bigger way then. So that’s the first question.

And the second question is just on the guidance for your operating margin and what’s embedded in that from an OpEx point of view. If I take your 10% revenue growth and I assume gross margins are roughly flat on this last year. Again OpEx up a little bit maybe $170 million something like that, that’s about 50% of revenue. So I just wonder it’s a pretty big increase as a percent of revenue. So I just wonder if there is any scope for reduction of that OpEx number, maybe trying to hold it flat or something like that. Thanks.

Andy Ory

Peter, do you want to take the second one first and I’ll talk about the first.

Peter Minihane

So from an OpEx side, I think we’ve always said that we’re trying to build a great standalone business. I think our third and fourth quarters of 2011 clearly demonstrate that we’ve strength within our enterprise portion of that business and we’re going to continue to invest substantially the sales and marketing opportunities from people and programs in both of those organizations.

So, we don’t see this as a year in which we’re going to attempt to cutback operating expenses at all. We have approximately $40.6 million in non-GAAP operating expenses in Q4. We think your number of about, I think you said approximately $170 million rather is in line with, where our estimates are. So we don’t really view it as where can we go and cut expenses, but rather we’ve spent the past 30 days trying to figure out, where is the best places for us to invest?

Andy Ory

From our point of view Rod, the market is growing. Our business is growing. At the same time, we want to make sure that we really invest in increasing our predictability and our visibility. And so if you look at growing markets and growing business, we wanted to be very careful not to under invest. We’ve seen growth globally in the enterprise space and in the service provider’s space, while North America was only at 5% or 6%. The rest of the world was still pretty robust and there are new technologies and new platforms. There are additional relationships and applications.

So, it’s important if we believe in this market not to under invest. At the same time, it’s also important that we focus on the right kind of business model and it seems like a 30% operating margin is really splitting the difference between maximizing the short term revenue opportunities balanced with investing in a growth market in business and so that’s show how we look at. We did that debate internally, how much to invest? Some people feel that we should be investing more. Others feel the way your question was asked.

As it relates to the VoLTE, a year ago we were saying that VoLTE was 2013 opportunity and I was saying that I think we’ll see some revenue in the back half of 2012 and I think it’s entirely possible we will see some business in the back half of 2012. But given the difficulty and the complexity of driving up the connection speeds and bringing on these devices and making it work in the business models, where the LTE networks need to be deployed the successful fashion before services like voiceover LTE can be rolled on it and so we really are a second phase in that.

And given some of the uncertainty that we are seeing in the CapEx environment and given the complexities of deploying these kinds of connection-oriented services, we think this question is a better part of valor and that’s why we are pushing it to 2013. We will be at Mobile World Congress and we are happy to talk with anybody there, but I think it’s going to be pretty clear that people are racing to get to VoLTE as soon as they can.

Seamus Hourihan

Yeah, I mean anecdotally we have seen--

Rod Hall – JPMorgan

Are the carriers expressing you like some sort of uncertainty with the technology now or I mean what kind of message you’re getting back from them in terms of deployment that’s causing you to go ahead, to push it on out?

Andy Ory

I think the market is mixed in terms of their plans. I mean anecdotally I have to tell you one large Tier 1 has accelerated their plans by six months. Another one has sort of deferred things by three or four months, okay. So, they’re still – they’re working through the issues.

Ron Hall – JPMorgan

Okay, great. Thanks a lot guys.

Andy Ory

Sure. Thanks Ron.

Operator

Thank you very much. Next, we’ll hear from the line of Catharine Trebnick with Northland Investments. Go ahead please.

Catharine Trebnick – Northland Investments

Thanks for taking my question. Mine has to do with your conservative guide, is there any residual impact effect that you are doing without a VP of sales now that Dino is running as the COO?

Andy Ory

I’m not sure I understand that question, Catharine.

Catharine Trebnick – Northland Investments

Okay. In the last conference call, Dino was promoted to Chief Operating Officer.

Andy Ory

Yeah.

Catharine Trebnick – Northland Investments

(Show that recent) opening in the VP of Sales position?

Andy Ory

Okay. No, let me help you. Because we are continuing to grow the business and grow our investments, we’ve promoted Tim Ziemer, who is running all of North America to run North America and Asia-Pac and Mario Oliveira who is running all of EMEA to run all of EMEA and CALA. We still have assets obviously, management assets in each of those two other regions but this is the way that we can get some leverage and scale on the sales operations and execution.

Catharine Trebnick – Northland Investments

Alright, thanks.

Andy Ory

Sure.

Operator

Thank you. And we will go next to the line of Simona Jankowski with Goldman Sachs. Go ahead please.

Simona Jankowski – Goldman Sachs

Hi, thanks so much. Just curious in terms of the VoLTE deployments. If you have any visibility on the per session pricing and if you think it will be similar or higher or lower versus that in your wireline deployments? And then the second question is when you talk about maintaining your win rate in 2012, maybe when you look a little further outing to kind of the VoLTE win rate. Now arguably, there is some more meaningful competitors than there were five years ago, whether it’s Alcatel or maybe some others. Would you not expect them to participate to a somewhat larger degree in the wireless deployments than they did in wireline?

Andy Ory

Well, alright. So, let’s take them in reverse order. Seamus, how about I take the back, when you take the front one? Actually, I think as you move into things like VoLTE there are fewer competitors rather than more, because the scale to really support these network wide deployments and bring all these technologies to bear. In these VoLTE deployments, it’s no longer just an access session board of controller at things like security gateways and a diameter signaling controller, a session router. It becomes a much broader suite of products and I think that’s going to drive down the number of potential competitors, but nonetheless you are correct that company’s like Alcatel and Ericsson and Huawei will be ones that we would think of. But when we think of our traditional wireline business, there is probably 20 or 30 different competitors that you can run across if you think of all the different regions. Seamus, on the first part per session price?

Seamus Hourihan

Yeah, I mean, the other part is performance and capacity at the access and interconnect quarters. I mean, you just think about wireless networks there, hundreds of millions of subscribers in some cases or more if you think about Asia. And so, the capacity and performance of a single element or a family of elements that can act as one in terms of servers or clusters is very important as well. From a pricing perspective, I don’t think we are changing the pricing points in terms of specific – at prices for certain levels of subscribers or certain number of sessions with voice over LTE in a larger subscriber base, our pricing per subscriber if you will or per session will go down just because the performance – or capacity requirements that we are getting to in terms to our price points are much higher subscriber levels, therefore, lower prices per subscriber.

Simona Jankowski – Goldman Sachs

Great. Thank you.

Andy Ory

Sure.

Seamus Hourihan

Thank you.

Andy Ory

Thank you, Simona.

Operator

Thank you. Next, we’ll hear from the line of James Kisner with Jefferies & Company. And your line is open.

James Kisner – Jefferies & Company

Hi guys. Thanks for taking my question. So, I just wanted to understand a little bit again, I mean you are saying that you don’t expect North America to come back for an entire half, I mean that suggests a fair amount of visibility of having no visibility. I mean, why do you think that it’s going to be so prolonged period? Is it conversation with customers? Is it just a current business activity is not strong and therefore, you are shuffling that in the future? Could you give me some color on why you think it will be slow in North America for so long? And just relatedly, how should we expect DSOs to evolve from here, should they, I mean, (still the) 55 I think here for this last quarter, should we see a pretty material downtick as you run the business less harder?

Andy Ory

No, that is quite fair. We were surprised by how North America performed in the back half of the year. And I think that there were many data points, not just from Acme Packet, but there are market data points that people are concerned about North America in the first half of 2012. So that’s where we are building in our plan. I mean we really don’t know and we will not that large in enterprise there could be some material orders that make a big difference. But we just decided that being conservative was really the right way for us to think about the run rate and our investment rate and also making sure that even with that taken into account. We could continue to invested and improving the predictability of the business. So that’s how we are thinking about it.

Andy Ory

And if I think of DSOs, I think DSOs are related to all the areas of the balance sheet that as we continue to try to increase our visibility would only help day sales outstanding new reference is one, another would be our ability to continue to drive inventory down as we did from Q3 to Q4 as well as the day-to-day operations of our business that goes from preparing quotes for customers to accepting orders to shipping products, whether its product for revenue, product on an eVal opportunity. It just helps the entire aspect of the operations of the business day in and day out.

James Kisner – Jefferies & Company

Just a follow-up on that, I mean could you give us some hint just to be clear would you expect DSOs to be down materially in Q1?

Andy Ory

No, I don’t. I would expect all aspects of our operations to improve during the course of 2012.

James Kisner – Jefferies & Company

Okay. Thanks guys.

Andy Ory

Sure, you’re welcome.

Seamus Hourihan

Thank you.

Operator

Thank you. Next, we will hear from the line of Dmitry Netis with William Blair. Go ahead.

Dmitry Netis – William Blair

Hey guys, I was wondering if you could give me a little bit of – if you kind of separate the clouds fine replacement projects that were you – how you positioned there as well as on the mobile IMS side, how are you positioned there. If you could talk through that and more specifically maybe touch on some of your partnerships with traditional distribution partners such as Erickson, Alcatel, Lucent, and MSN and if you could talk about that on each side of the equation classified as well as mobile that would be great.

Andy Ory

Okay. In terms of again service provider side of business, I’m going to speak in terms of bookings percentage is that – on this – in terms of answering this question that is the only data I have but some 66% of our business okay, was on the fixed line side of service provider networks in 2011 and 33% for either in wireless only or converge. In other words, service providers that use our products for both fixed and wireless or mobile services. Okay. So, the converge – the mobile piece, if you will converge in mobile only was up 5% year-over-year. Okay, so it’s growing, but again this little opportunity for us on the access side of 3G network essentially none. So, it’s all on the interconnect side and again we’re the big opportunities for Acme Packet. It is an all IT access network in the form of LTE that allows us to sell our complete portfolio of products that we now have under the umbrella of our session delivery network solutions.

Dmitry Netis – William Blair

And the partnerships?

Andy Ory

Dmitry, what do you mean in terms of the partnerships?

Dmitry Netis – William Blair

Well, I mean you have Erickson, Alcatel, Lucent, MSN, those were your historical distribution partners. As you go into the mobile world, let’s say, how you’re positioned there? Are you still working with those partners? Are you trying to go independently win those projects, just trying to get more perspective if you will?

Andy Ory

So we continue to sell aggressively across all the Tier-1’s in the world on a direct touch basis. And we leverage our existing position and relationship with our service providers especially in the converged ones as they move to LTE and Voice over LTE. All of our architectural wins is basically an example of where we have been able to successfully leverage our existing presence in those service providers.

Seamus Hourihan

Right. And we continue to work with NSN, Alcatel, Lucent, and Ericsson in the service providers. Sometimes, it’s on a market unit by market unit basis as opposed to corporate.

Andy Ory

Correct.

Seamus Hourihan

It’s almost all these driven out of direct touch model where we leverage our relationship and the thought leadership that we are able to cultivate. And then they say to the first to the larger supplier that’s going to do systems integration, I want the Acme Packet products doing the following set of functions. And we are also working with systems integrators that aren’t manufactures. Folks like Hewlett Packard that really want to get into this space that will be a bit more agnostic and you will see us (indiscernible).

Dmitry Netis – William Blair

Okay. So, basically in mobile IMS, when you go in that type of deployment you don’t necessarily see or you may see both kind of the end-to-end where there is just one provider or one vendor supplying all the pieces of the puzzle or some providers maybe be more selective where they choose Acme Packet being the best of breed in the SBC world and then all the other components of that network would go with the big vendor such as Ericsson, Alcatel, or NSN?

Andy Ory

That what you just said is no different than our core historic wireline business over the last five years.

Seamus Hourihan

Yeah, the model that you didn’t really itemize if you will is the model, where sell direct touch and the end user service provider tells their integrator to please substitute Acme Packet with the SBC.

Dmitry Netis – William Blair

Right.

Seamus Hourihan

In place of their own product.

Andy Ory

Right. And whether it's Ericsson, Alcatel, NSN, Huawei, Italtel, NEC, these are examples of people we called network equipment vendors who make their own complete solutions, but are often times requested to include and integrate Acme Packet as part of the solution. And I don’t see that changing.

Dmitry Netis – William Blair

Okay, that’s very helpful. Thank you very much.

Brian Norris

Thank you, Dmitry.

Operator

Thank you. Next we’ll go to the line of Simon Leopold with Morgan Keegan. Go ahead please.

Simon Leopold – Morgan Keegan

Thank you. I wanted to see if we could drill down a little bit on the wireless market, in particular, you sold into a wireless carrier in the past without it being a voice over LTE project and you stand at optimistic, I think in the prepared remarks noting wireless and enterprise. So, if you could talk a little bit about the application in wireless prior to voice over LTE projects, how big that is, what it is? A little bit of color around why you are optimistic about wireless as a vertical?

And then the second thing I wanted to touch on was, there is a large wireless Tier 1 carrier that has publicly talked about voice over LTE launching in the second half of 2012. And I want to understand whether you are suggesting that you are not involved in that project or whether you are just trying to be conservative in terms of your thoughts and the timing of that particular project? Thank you.

Andy Ory

On the last question, we’ve been publicly identified by that service provider as part of their – as a vendor to that project on the interconnect or peering side of that network.

Simon Leopold – Morgan Keegan

And are you suggesting that they’ve changed schedule?

Andy Ory

No, so let me back up. So, we have been selling to that service provider for a long period of time, for core session routing in interconnect on their 3G – in their 3G network. Okay, in other words, traffic is coming in over their 3G RAN to their mobile switching center. From there, it's converted to IP….

Simon Leopold – Morgan Keegan

(indiscernible) for a free operation.

Andy Ory

Right.

Simon Leopold – Morgan Keegan

When we do the routing.

Andy Ory

Yeah, but they are winning them.

Simon Leopold – Morgan Keegan

They wouldn’t even know. So, I know we pressure on that accident.

Andy Ory

Converted to SIP in the core of their network and we do all the skip routing within that core that 3G network today. They also use our interconnect SBCs, okay, on the border to other service providers. And that purchasing event should continue throughout 2012.

Simon Leopold – Morgan Keegan

Correct. Now, they will leverage that infrastructure and some more when they move to LTE. Okay. So, additional purchases for us with the service provider like that would happen if and when we were to be part of the access side of that kind of LTE network or if they were to try a different type of architectural deployment, but you know again we are not prognosticating how we are being used or what the deployment rates going to be, we are just taking a very conservative view of 2012 and if service provider like that buy more, hallelujah.

Andy Ory

The other areas, the use of our products on the interconnect border of 3G sources today is not limited to the U.S. that’s occurring in smaller mobile service providers in the U.S. today already as well as some internationally, especially in sort of the developing countries in Eastern Europe in those areas and elsewhere.

Simon Leopold – Morgan Keegan

So just to make sure I understand what you’re just describing is that there is an opportunity in 3G networks that in your prepared remarks, when you talked about wireless being a good market, but that application should grow in 2012?

Andy Ory

That’s correct.

Simon Leopold – Morgan Keegan

Thank you.

Andy Ory

Thank you, Simon.

Brian Norris

Thank you, Simon.

Operator

Thank you. We will go next to the line of Jess Lubert with Wells Fargo. Go ahead please.

Jess Lubert – Wells Fargo

Hi guys. Thanks for taking my question. I had two questions actually. Can you talk about your expectations surrounding the remaining business had slipped out of Q4, is any of this business has been lost. And do you expect the remaining $12 million that hasn’t closed yet to close in Q1? And then second on the gross margin side it looks like product gross margins declined more than 200 basis points sequentially. Can you discuss to what extent there was a change in the pricing environment? And can you talk about the gross margins on the large deal and how they are compared the rest of the business? Thanks.

Andy Ory

Sure. And Jess, I want to hand it over to Peter, but this is a very high level of the business that Peter identified on the call in early January about activity that slipped out of Q4, now I don’t think that we’re going to lose any of it. They were very, very little if any, it’s just a lot of deals. It’s hard to track them all in my head, but we are going to close the overwhelming majority of them in the first 90 days of the quarter – of the year, Peter is it right?

Peter Minihane

So if I reference the top ten, Andy.

Andy Ory

Go ahead, yeah.

Peter Minihane

Close to top 6 to go through top 10.

Andy Ory

Sure.

Peter Minihane

We have 25% on that amount in house already. I think we have looked at in anticipation of this call – in anticipation of this question have we lost any of those top 10 deals, and the answer is no.

Andy Ory

Right.

Peter Minihane

We expect all but two to close in Q1 with the other expected to close in Q2.

Andy Ory

Okay.

Jess Lubert – Wells Fargo

All but two of the top ten or two in the second?

Andy Ory

We did not drill down to the 57th opportunity.

Peter Minihane

Yeah.

Jess Lubert – Wells Fargo

Okay. And on the gross margin side?

Andy Ory

The gross margin side, I think we have done a review of the margins obviously, from a product side. We have always given the guidance, always for the – virtually, the past two years that – it’s low 80s. However, we have always overachieved that to be in the 83%, 84% range. We enjoy that also in Q4 and I think that speaks to our uniqueness and our competitive advantage from our products. We don’t see that slipping as we head into 2012 at all. As a matter of the fact we think it will be probably more in the mid-80s as we continue our shift to a software based product along with our higher gross margin product.

Peter Minihane

Yeah, and it is also product mix, right, I mean.

Andy Ory

There’s always mix within a mix.

Peter Minihane

Right. It is a mix within a mix and we sold them to very large hardware intensive platform, but more probably in the fourth quarter than we have in quite some time.

Andy Ory

Yes.

Jess Lubert – Wells Fargo

And was the margin on the large deal was that above or below the corporate average, who is driving material difference there?

Andy Ory

There was no material difference there at all.

Jess Lubert – Wells Fargo

All right, great. Thanks.

Andy Ory

Thank you.

Peter Minihane

You are welcome.

Operator

Thank you. And we will now go to the line of Rich Valera with Needham & Company. Go ahead please.

Rich Valera – Needham & Company

Thank you. Good evening gentlemen. I was wondering, if you – willing to give us any help on the quarterly progression. Should we think of that as a fairly linear progression from the Q1 starting point relatively similar quarter-over-quarter increases as we move through the year?

Andy Ory

So again, Rich, I think historically, we have never commented on quarters. I think just based on the 42/58 split and taking into consideration the large deal that did close in Q4 that will not be repeated in Q1. They may be awarded, but to the best of my knowledge we’ve not banked on any large deals in all of 2012 well alone in Q1. So, I think based on that I think you should probably look at how you would model the first half of the year.

Rich Valera – Needham & Company

Okay. And just wanted to make sure was clear on the operating margin you’re expecting, I think you mentioned 32% to 34% in your prepared remarks is that right Peter?

Peter Minihane

That’s correct. And that’s for the year. It 30, 32% to 34%.

Rich Valera – Needham & Company

Of course right. Now in the past I think you’ve talked about a mid to upper 30s operating margin and obviously you hit north of 40 on occasion. So, just wondering when we start looking at to 2013 when presumably they’ll return to something higher revenue growth perhaps 20% or better, how we should think about up margins and operating leverage we might see in 2013?

Andy Ory

Well, again I think we’ve always mentioned on a longer term basis and I would think that’s probably at the end of 2013 and to 2014 as we get through 2012, I think we’ve always said that we anticipate margins to be in the low 80s and operating gross margins and operating margins to be in the mid to high 30s. I don’t think we changed that outlook at all.

Andy Ory

It’s purely depended upon the top line. You’re correct, Rich.

Rich Valera – Needham & Company

Okay. That’s helpful. And just wanted sort to revisit I think the question that was before, but about what should give us confidence, as we move through the first couple of quarters here. Clearly you’ve lowered the bar a lot and sort of de-risk the numbers, but you’ve got much more challenging numbers in the back half obviously. What should we be looking for to give us confidence you’re going to hit them. I think we talked about DSOs as one thing we can look out and maybe lower inventory. Anything else in terms of metrics you might be able to give us in terms I don’t know backlog coverage or anything with respect to your pipeline that would give us confidence as we move into that big back half ramp?

Andy Ory

That’s a fair question. I mean we do provide annual guidance in every quarter, we get on the call and we give an update about that annual guidance. And I think that, we need to work with you over the next four quarters because we do the journey in 2012 to help you all get some visibility into how we are progressing along this journey. We’ve used in the past visibility, euphemistically to mean RFP activity, bookings, backlog, customer engagements and so forth. But we don’t have the answer for you on this call nor if even we did, we don’t have any data for you on this call. But I think it is a fair question and it is something that we are going to have to work through over the next 91 days and call for you. Absolutely, we will try and provide a more meaningful quarterly update for you as it relates to this.

Rich Valera – Needham & Company

Okay, that’s helpful. Thank you.

Brian Norris

Thank you, Rich. We have a couple of more questions please.

Operator

Certainly, next we will hear from the line of Brent Bracelin with Pacific Crest. Go ahead please.

Brent Bracelin – Pacific Crest

Thank you. Andy, I really wanted to kind of touch on because the drivers behind the moving parts of the business and the slowdown. We clearly are seeing external pressures on overall CapEx budgets impacting, routing, and wireless infrastructure and obviously you’re seeing an impact as well. How much do you think is just overall pressure on CapEx that’s driving a slowdown in the business versus more company specific slowdown issues tied to either excess capacity at current customers, obviously the 3G mobile interconnect opportunity that slowed meaningfully is that tied to excess capacity at a couple of customers, has there been a change in spending priority for SPCs. Any color you could provide relative to insights that your customers are providing you. How much of the slowdown tied to connect external pressures on budgets versus some company specific things?

Andy Ory

It’s an excellent question. So, as we started this journey back on in early January to try and understand what the business ought to do and how we ought to run it and subsequently communicate it with you. There was some data points that stick out that are just I think frame the issue. From an enterprise point of view North America grew 53.4% and the rest of the world grew 48.8%, that’s enterprise, a blended growth of 52%. And that’s very robust and actually we think with channel enablement, with demand generation we think with more sales people, better partnerships, technology development and just growing demand for the product. I don’t see why that market doesn’t continue to grow significantly.

On the service provider side, the rest of the world grew at 34.8%. Its North America service provider that grew at 5.6% and a 60% of our business is in North America roughly defined as the United States and Canada and a large portion of that is service provider business. If that region that underperformed and you all have as many data points as we do. It feels much more like a market and region than it does company or products specific. That being said, it caused us to say wow, we don’t want to be single deal focused or single deal at risk, and we really also want to get every single opportunity that’s on the table, we want to be careful that we’re not counting on first half 2012 North American service provider growth.

I don’t know what the issues would be. We’ve had a number of our different customers that were related in merger activities. That slow something down, I don’t know. But we’ve also had people that we sell alongside, who have recently talked about the challenged CapEx environment in the North American service provider community and presumably their visibility with a lot of these customers is at least as good as ours. So, it’s discretion. It’s a better of part of valor on groundhog day here well obviously no more than six weeks.

Brent Bracelin – Pacific Crest

And within that service provider environment, do you think there has been a change relative to spending priority around SBCs or excess capacity that play here or again you just don’t know at this time?

Andy Ory

No. I don’t think the spending environment is ever predicated on SBCs. I think it’s focused on to what extent they want to move their connecting transport from TDM to IP and subsequently what their service and application involvement is in those IP flows that they originate trends and terminate. So, it’s a fancy of saying, do they want to be involved in trusted first class enterprise and consumer VoIP and video over IP and when do they want to do it.

How quickly do they want to cannibalize their TDM trunks with SIP trunks? And you’ve got one Tier 1 that’s really hard to try. You’ve got another one that’s more reactive. You’ve got others that are in the middle. And we are starting to see signs of SIP trunking picking up internationally in three large countries in Europe, in a couple of large countries in Asia, and one or two large countries in CALA. Those are signs that cause us to be more excited rather than less excited, but again, it has very little to do with an architectural element as much more to do with market and business proposition and how those service providers and when they want to invest in them.

Brent Bracelin – Pacific Crest

Helpful. Thank you.

Andy Ory

Sure.

Operator

Alright, thank you. And I believe our final question then will come from the line of Jeff Kvaal with Barclays. Go ahead please.

Jeff Kvaal – Barclays

Yes, gentlemen. Thanks very much. I was wondering if you could talk a little bit about the conservative nature of the guidance that you've given us here and to what extent would you compare the discount rate or the haircut that you’ve given that your current 2012 view to may be what you’ve given your 2011 view a year ago at this time?

Andy Ory

Well, I feel we are being much more conservative with our 2012 view with the data we have the business in the market opportunity versus where we were on 2011.

Jeff Kvaal – Barclays

And 2011 again we initially came into the year?

Andy Ory

At 280.

Jeff Kvaal – Barclays

At a 30% growth rate, which translated to $287 million?

Andy Ory

Yeah, we originally came into the year with $286 million, $287 million and we slowly stepped it up due in large part to the 40 to 58 nature that we were relying on. And I think that we’re going to more conservative here in 2012.

Peter Minihane

That’s all it is.

Jeff Kvaal – Barclays

Okay. So, it’s fair to say that the pipeline that you might see in a loose conversation with the carrier is materially above that 10% growth, but you are giving particularly the North American business fairly sizable haircut to that?

Andy Ory

I think that’s very fair. And if you reference our prepared remarks, while we expect 25% to 30% CAGR 3 to 5 years, over the next 3 years to 5 years, we expect to be closer to 20% in 2012 and we expect to maintain our win rate in both the enterprise and service provider markets throughout the year.

Jeff Kvaal – Barclays

Okay, excellent. Thank you very much.

Andy Ory

Okay, thank you.

Operator

Okay, alright. Thank you. And actually I believe we are going to go to the line of Sanjiv Wadhwani with Stifel Nicolaus. Go ahead please.

Sanjiv Wadhwani – Stifel Nicolaus

Thanks so much for squeezing me in. Any high level and sort of broad level question, I know you’ve talked about a bunch of market opportunities that you see with SBCs. And obviously we’ve been focused in talking about VoLTE on this call. I am just curious whether you see any of these other market opportunities that you kind of have broadly defined as “your B market opportunities evolving in 2012” if not, is that sort of 2013 and beyond, any color there?

Seamus Hourihan

I mean, one opportunity that is starting to emerge is the opportunity for voice over IP interconnect, so it's between SEC regulation and the U.S. regulation, Canada, Italy, even India all regulation is fostering additional voice-over-IP interconnects, not only internationally, but domestically. And then in India as well hopefully by mid year, they will be in a position to offer voice over IP services to their subscribers both consumers, residences, as well as business, okay. So, that’s something that, okay, how much of impact it will have exactly in terms of our business in 2012 is a little bit uncertain, but it’s definitely a positive sign.

Andy Ory

Does that answer your question, Sanjiv?

Sanjiv Wadhwani – Stifel Nicolaus

That does, but just some of the other markets that Andy was talking about through the course of 2011, any color on those Andy that you might think might evolve or you think that’s sort of further out maybe a 2013, maybe 2014 opportunity?

Andy Ory

Well, I mean, I think that enterprise and wireless have really been the two horses in the barn that we have talked about. We believe we’re going to continue to see robust growth in both of those businesses, we really do.

Sanjiv Wadhwani – Stifel Nicolaus

Got it. Thanks a lot.

Andy Ory

Sanjiv, thank you.

Andy Ory – President and Chief Executive Officer

And thank you everyone for joining us this evening. We look forward to seeing as many of you as possible during this outreach period and updating you on our continuing progress during our next conference call. Thank you and good night.

Operator

Thank you very much. And as you heard ladies and gentlemen, that concludes your conference this evening. We appreciate your participation and for using AT&T Executive Teleconference. And you may now disconnect.

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