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AsiaInfo Holdings, Inc. (NASDAQ:ASIA)

Q4 2007 Earnings Call

February 14, 2008 7:00 pm ET

Executives

Charles Zhang - Manager, Investor Relations

Steve Zhang - Chief Executive Officer, President, Director

Eileen Chu - Chief Financial Officer, Vice President

Analysts

Brendan Barnicle - Pacific Crest Securities

Donald Lu - Goldman Sachs

Howard Wong

Operator

Welcome to today’s AsiaInfo fourth quarter and full year 2007 results announcement event call. I am pleased to present Mr. Charles Zhang. (Operator Instructions) Mr. Zhang, please begin.

Charles Zhang

Thanks, Wendy. Hello, everyone and welcome to AsiaInfo's fourth quarter and full year 2007 earnings conference call. Today, Steve Zhang, President and Chief Executive Officer of AsiaInfo, will review business highlights achieved during the fourth quarter and full year 2007; Eileen Chu, our CFO, will further discuss financial results and give first quarter 2008 guidance. Mr. Zhang will then provide a few closing remarks and open the call to questions.

Before we continue, please allow me to read you AsiaInfo's Safe Harbor statement: some information we will discuss during this conference call is forward-looking in nature and subject to risks and uncertainties that may cause actual results to differ materially from our current expectations. To understand the factors that could cause results to materially differ from those in forward-looking statements, please refer to our annual report on Form 10-K for the fiscal year ended December 31, 2007, and other reports as filed with the Securities and Exchange Commission.

Also, please know that some of the information we will discuss includes non-GAAP financial measures. A reconciliation of the non-GAAP financial measures to the nearest GAAP financial measures can be found in our earnings release available on our website.

Finally, please note that unless otherwise stated, all figures mentioned during this conference call are in U.S. dollars.

I will now turn the call over to AsiaInfo's President and CEO, Steve Zhang. Steve.

Steve Zhang

Hello and thank --

[Technical Difficulties]

I am pleased to report solid top and bottom line growth for the fourth quarter, with net revenue growing 38% and net income growing over 305% year over year. Also important, we are very excited to see continued improvement in our operating efficiency, reflected by the expanding operating margins.

Operating margin of net revenue for the fourth quarter was 14%, as compared with 6% in the year-ago period and 11% in the previous quarter. On a full-year basis operating margin of net revenue also expanded to 11% in 2007 from 2% in 2006. This performance is a result of the continued execution of our strategy to deliver industry leading telecom software solutions that help improve our customers’ business performance. It also reflects continued strong recovery in our IT security business.

During the quarter, we continued to see strong demand for our leading telecom software solutions. Our commitment to focusing on high margin software solutions and the significant turnaround in our Lenovo-AsiaInfo IT security business unit helped increase gross margin for the fourth quarter and the full year.

In the fourth quarter, we also announced several significant contracts for our flagship BOSS and BI solutions. These included agreements to expand China Mobile's Business Operation Support Systems in Zhejiang, Gansu and Shanghai; expand and upgrade Business Intelligence systems for China Mobile in Qinghai and Beijing; and expand China Netcom's CRM system in Jiangsu.

We also continued to sign contracts that allow us to capitalize on new opportunities. For example, during the fourth quarter, we signed our first CRM contract with the world’s largest fixed line operator, China Telecom in Xinjiang Province. In fact, 2007 was a year of new geographical markets for us with new projects for China Mobile subsidiaries in Hunan and Tibet, as well as the China Mobile subsidiary in Pakistan, our first international assignment.

Disciplined investment in R&D resulted in innovative, dependable products is one of the cornerstones of AsiaInfo's success is our commitment in the telecom software area, coupled with the understanding of China’s leading telecom operators that we have gained over many years. This is what allows us to develop leading solutions that best anticipate and satisfy the needs of the world’s largest telecom market.

As an example, we launched our mobile e-commerce solution in the fourth quarter and signed a contract with China Mobile. We are the first mover in China in this area.

Looking back at 2007, I am encouraged by our ability to execute on our core competencies and pleased to see our relationships with China’s leading telecom operators deepen. We are excited by the many opportunities we see across China’s rapidly evolving telecom industry and we will continue to execute against our strategy to grow our business in the year ahead.

I will now turn the call over to Eileen Chu, our CFO, to walk you through the financials for the fourth quarter and the full year 2007. Eileen.

Eileen Chu

Thank you, Steve and hello to everyone on the call. Fourth quarter telecom software products and solutions revenue increased 31% year over year and 17% sequentially. The growth was driven by a strong market demand for our industry leading telecom software solutions, which enable telecom operators to differentiate service offerings and improve service quality in the face of ever intensified competition.

Sequentially, the increase also reflects market seasonality, which is the strongest in the fourth quarter. Fourth quarter net revenue for our telecom business increased 28% year over year and 13% sequentially.

Lenovo-AsiaInfo’s net revenue increased 97% year over year and 44% sequentially. The significant increase reflects continued strong recovery of this division. Sequentially, it also reflects market seasonality of China’s IT security market, which is stronger at the end of the year.

Gross margins of Lenovo-AsiaInfo also increased from 52% in the year-ago period to 53% in the fourth quarter, as revenue growth outpaced that of costs.

Gross margin of the group increased 6% year over year and decreased 2% sequentially. The year-over-year and sequentially fluctuation in gross margin primarily reflects changes in the percentage of revenue generated from third-party hardware sales. On a year-over-year basis, the increase also reflects improving gross margin of the Lenovo-AsiaInfo division.

As a result of our focus on our core business of high margin software solutions, third-party hardware sales have been generally decreasing over the past few years. However, from time to time, we do offer third-party hardware as part of our total solutions in response to our customers’ requests.

Gross profit as a percentage of net revenue was 56% as compared to 54% in the year-ago period and 55% in the previous quarter.

Total operating expenses for the quarter were up 20% year over year and 12% sequentially. The year-on-year increase was primarily driven by increased sales and marketing and R&D expenses, and partially offset by a decrease in G&A expenses. Sequentially, this reflects increased R&D, sales and marketing, and G&A expenses that I will explain below.

R&D expenses increased 31% year over year and 8% sequentially. Sales and marketing expenses increased 21% year over year and 13% sequentially. The increase in R&D and marketing expenses was partially driven by expenses such as traveling expenses and sales commission as revenue grew. It also reflects our [efforts] into new customer accounts and initiatives to capitalize on growing opportunities in China’s telecom software and IT security market.

G&A expenses decreased 6% year over year and increased 17% sequentially. The year-over-year decrease of G&A expenses reflects our improvement in operating efficiency. Sequentially, the increase of G&A expenses was due to recognition of a government fund in the third quarter of 2007, which lowered G&A expenses.

During the quarter, our telecom business posted a contribution profit before corporate G&A expenses of $5.7 million, an increase of 65% year over year and 39% sequentially. Lenovo-AsiaInfo posted a contribution profit before corporate G&A expenses of $1.4 million, as compared to a loss of $0.1 million in the year-ago period and a profit of $0.2 million in the previous quarter.

Total group operating income increased by 253% year over year and 60% sequentially, reflecting strong revenue growth and continued improvement of operating margins in both telecom and IT security division.

During the fourth quarter, operating margin of net revenue for our telecom business division increased to 14% from 8% in the year-ago period and 13% in the previous quarter. Operating margin of net revenue for the Lenovo-AsiaInfo division was 14%, as compared with 11% in the year-ago period and 0.2% in the previous quarter.

Net income excluding share-based compensation expenses, amortization and impairment charges, after tax division income and gain on discontinued operation, which is our non-GAAP net income, was $8.1 million in the fourth quarter of 2007, or $0.18 per basic share.

Non-GAAP net income in the year-ago period was $2.8 million, or $0.07 per basic share. Non-GAAP net income in the previous quarter was $4.6 million, or $0.10 per basic share.

Operating cash flow for the quarter was approximately $33 million, reflecting strong year-end collection efforts.

Moving to our balance sheet, our total cash position, including cash and cash equivalents, restricted cash and short-term investments increased to $215 million from $175 million, reflecting the large positive cash flow during the quarter.

Looking at the fiscal year 2007, net revenue was $115 million, an increase of 32% year over year, reflecting continuous steady growth in the telecom business and improvement in the Lenovo-AsiaInfo business.

Gross margin for the full year 2007 was 47% compared to 40% for the full year 2006. The improvement in gross margins reflects execution of the company’s long-term strategy to focus on high margin software solutions, as well as the improving operating results of the company’s Lenovo-AsiaInfo business unit.

Gross profit as a percentage of net revenue for full year 2007 was 55% compared to 51% in 2006. The increase was mainly due to the improving operating results of the company’s Lenovo-AsiaInfo business unit.

Full year 2007 revenue from telecom software products and solutions grew by 26% from 2006, leading to a 24% increase in telecom net revenue for the year.

Lenovo-AsiaInfo contributed 16% to net revenue for 2007 as compared with 10% for 2006, reflecting the higher growth of the division from a lower base.

Operating income for 2007 was $12.9 million, with an increase of 585% from 2006. The increase was driven by our revenue growth and improving operating margins in both our telecom and IT security division.

Operating margin of net revenue for the telecom division was 11% for 2007 as compared to 8% in 2006. Operating margin of net revenue for Lenovo-AsiaInfo division also increased to 13% from minus 50% in 2006.

Net income for 2007 was $23.6 million, an increase of 307% from $5.8 million in 2006. Non-GAAP net income was $20 million for 2007, an increase of 186% from $7 million in 2006.

DSO for full year 2007 was 108 days versus 120 days for 2006.

Operating cash flow for full year 2007 was approximately $28 million, driven by strong year-end collection efforts.

I will now read you AsiaInfo's financial guidance for the first quarter 2008. Please note that the following outlook statements are based on our current expectations. These statements are forward-looking and actual results may differ materially.

Net revenue for the first quarter of 2007 is expected to be $29 million to $31 million, representing 23% to 32% year-over-year growth, and we expect first quarter earnings per basic share from continuing operations to be $0.07 to $0.08.

Net income from continuing operations per basic share in the first quarter of 2007 was $0.12, which included a positive impact of $0.07 from other operating income. Excluding this impact, the company’s first quarter 2008 EPS guidance would represent 40% to 60% year-over-year increase.

Now let me turn the call back to Steve for his closing remarks.

Steve Zhang

Thank you, Eileen. We are optimistic about the levels of telecom spending in the quarters ahead. We are seeing a trend towards increasing budget for traditional operating percent expansion and enhancements, as well as for innovative billing CRM and value-added service solutions to meet the changing nature of the telecommunication market. With our expertise and the focus on our core business lines, we are confident that we are well-positioned to benefit from this trend.

Thank you for your continued support of AsiaInfo. I will now open the call to questions.

Question-and-Answer Session

Operator

(Operator Instructions) Brendan Barnicle, Pacific Crest Securities.

Brendan Barnicle - Pacific Crest Securities

Thank you very much. I was interested in the CRM contract with China Telecom this past quarter. You know, you’ve got that -- [inaudible] is in one province. Is that likely to roll out to other provinces like you’ve seen with your other China Telecom transactions?

Steve Zhang

Our effort for China Telecom account is to looking ahead to focus on the wireless side. That particular CRM contract, we went into Xinjiang and that’s supporting for both fixed line and broadband access. And we will -- probably our target for this year in 2008 is to expand into other two provinces in China Telecom.

But our other main effort for this particular customer account is to work with them for their future wireless billing and CRM deployment when they get their mobile license.

Brendan Barnicle - Pacific Crest Securities

Great. And then also, good to see the international expansion this past year in Pakistan and other markets. What are the prospects for international expansion in 2008?

Steve Zhang

We are still cautious with our international expansion because it requires a lot of marketing and sales dollars. For 2008, we are focusing on two international markets. One is in Southeast Asia. Right now, we are participating in several billing contracts in the process in Vietnam and we are also focusing on work with China Mobile when they making further international expansion, we’ll go with them. That’s a much low-risk approach for us.

Brendan Barnicle - Pacific Crest Securities

Great, and then nice improvement in the margins again this quarter. As we look through last year, you had margins improve throughout the year, as well as EPS. Would you expect that same sort of trajectory where we see continued improvement quarter to quarter?

Steve Zhang

Margin, operating margin improvement has been a focus and will continue to be a focus for us. Our long-term operating margin target is -- of net revenue is 12% to 15% for the longer term. That’s about -- that’s the company average in this business segment.

Brendan Barnicle - Pacific Crest Securities

That was 12% to 16%, is the target margins?

Steve Zhang

12% to 15%, sorry.

Brendan Barnicle - Pacific Crest Securities

Okay. Very good. Thank you.

Operator

Donald Lu, Goldman Sachs.

Donald Lu - Goldman Sachs

Thank you. Good morning, Steve, Eileen, and Charles. I have a few questions. First is on your Q1 guidance, how much is from the telecom business revenue? I mean, what’s the trend for telecom and the Lenovo business?

Steve Zhang

For Q1 guidance, you want a breakdown of our guidance?

Donald Lu - Goldman Sachs

Yeah, yeah -- I just want to find the seasonality of the two separate businesses.

Steve Zhang

Probably I would say 90% are telecom and 10% -- even less than 10% for IT security business. Typically quarter one is -- our security business has a strong seasonality. It tends to have a very slow quarter one and a very strong quarter four.

Donald Lu - Goldman Sachs

And I saw your deferred revenue is about $29 million at the end of Q4 and your Q1 guidance is only $29 million to $31 million. I just want to find out, what is the nature of your backlog at this point? Do you -- like, for your backlog and deferred revenue, if you take like two, three quarters to collect the cash?

Steve Zhang

For our backlog, it takes three quarters to realize them into revenue and we normally don’t disclose our backlog numbers because the fluctuation on the quarters [orders] coming in, and we -- tends to fluctuate. So for the deferred revenue, it also tends to fluctuate. It depends on when we sign the contract, when we got the prepayment on those contracts. But it’s a good indication also of our sales effort.

Donald Lu - Goldman Sachs

You mean the deferred revenue?

Steve Zhang

Yeah, you can -- yeah.

Donald Lu - Goldman Sachs

I see. What does your backlog look like at this time? Do you see basically 60% or 70% of your revenues in Q1, maybe 50% revenues in Q2, et cetera?

Steve Zhang

Yeah, you can say that. We think probably 60% of our 2008 revenue will be derived from our backlog.

Donald Lu - Goldman Sachs

Okay, great. My second question is on the operating margins. I think earlier, Eileen had quickly read through for the whole year 2007, the telecom operating margin was 11%, Lenovo was 13% -- is that correct?

Eileen Chu

Sorry, can you -- for the whole year?

Donald Lu - Goldman Sachs

Yes.

Eileen Chu

For the whole year, Lenovo operating margin was about 13% of our net revenue.

Donald Lu - Goldman Sachs

13%?

Eileen Chu

Yeah.

Donald Lu - Goldman Sachs

Lenovo was 13 -- Lenovo’s operating margin was 13%?

Eileen Chu

Yes.

Donald Lu - Goldman Sachs

And telecom was 11%?

Eileen Chu

Eleven, yes.

Donald Lu - Goldman Sachs

Okay.

Eileen Chu

Okay.

Donald Lu - Goldman Sachs

That is in 2007?

Eileen Chu

Yes.

Donald Lu - Goldman Sachs

Okay, so what is --

Steve Zhang

Donald, we probably need to get back to you on that, on the Lenovo operating margin.

Donald Lu - Goldman Sachs

Okay. And also, the long-term margin targets, operating margin target of 13% to 15% for the entire company --

Eileen Chu

That’s for the entire group, yes.

Donald Lu - Goldman Sachs

The entire group, okay. Great.

Eileen Chu

Donald, just now, the numbers that I gave you for Lenovo-AsiaInfo is inclusive of the other operating income that was included in Q1. Remember that in Q1 we had other operating income of $2.7 million, so if you take that out of the whole year, Lenovo-AsiaInfo operating margin of net revenue would be lower.

Donald Lu - Goldman Sachs

I see. So that’s -- the $2.7 million you get from [Hans]?

Steve Zhang

No, from Lenovo.

Donald Lu - Goldman Sachs

From Lenovo?

Eileen Chu

Yes.

Donald Lu - Goldman Sachs

Okay. So the $2.7 million is in the Q1 of --

Eileen Chu

If you look at our financials, actually if you look at the P&L for the whole year, there is a -- in the underlying other operating income, that is the --

Donald Lu - Goldman Sachs

Oh, right, right. Got it.

Eileen Chu

Actually, we have talked about -- yeah.

Donald Lu - Goldman Sachs

Go ahead. Sorry, I’m not as familiar -- that was Q1 2007?

Eileen Chu

Yes.

Donald Lu - Goldman Sachs

Okay. I thought it was Q108. Okay, great. And can we just quickly go through what is the outlook for other income for 2008? Because I remember you have a very good result for investment income in 2007, but apparently the China stock market has been a little bit challenging these days. What should we model?

Eileen Chu

Well, first of all -- well, I agree that we have been doing [quite well in the] investment area. While that is not our focus, I think going forward, this year our other, our investment is about $9 million. I think going forward, it might not be as good as that. For example, in 2006 you -- our investment, our return from our investment is about more or less around $4 million, so -- because I can’t really give you a prediction on one particular number, especially on investments. But I think you can use that as a reference or a ballpark number.

Donald Lu - Goldman Sachs

What, for this year?

Eileen Chu

Yeah, for -- I can’t give you a particular prediction on our investment return. You can use that as a ballpark number. Say, for example, in 2006, our return on our investment, from our short-term investment is around $4 million. And in 2007, it is an especially good year, we got $9 million. So I think you can use these two numbers as a reference.

Donald Lu - Goldman Sachs

I see, great. And how about tax? Is there any change?

Eileen Chu

Actually, if you look at our -- this year, our tax -- our effective tax rate is lower than normal. Our effective tax for our group for the whole year is about 9%. Actually, I think a lot of Chinese companies are also having this issue because I think we have spoken about this regarding the China new tax law. All MMC going to -- subject to a 25% tax rate from 2008 onward.

Even though the government has already said that there are going to be some grandfather rules for high tech companies, because our company has also been granted a special tax status as a high tech company in the past, but they haven’t got other stated rules how this is going to be implemented.

So if you go by the accounting standards, since the actual rules have not been finalized or crystallized, you have to use the 25% in accounting your default tax. So that’s why we are using a higher tax rate in recognizing our deferred tax asset. In such a way, we have recognized certain income tax benefits and that’s how we lower -- that’s why our effective tax rate is lower.

So when the Chinese Government come out with an actual tax ruling on high tech companies like us, the effective tax rate will change. But I will be expecting something like 15% to 20%, and that really depends on --

Donald Lu - Goldman Sachs

15% to 20%?

Eileen Chu

Yeah, because actually we have been successful in getting the high tech software enterprise basis in the past few years. So I think it’s a special case this year. I think -- I won’t be surprised to see quite a number of Chinese companies also having this default tax issue.

Donald Lu - Goldman Sachs

Okay, so we should be modeling maybe around 15% tax rate for 2008?

Eileen Chu

Yeah.

Donald Lu - Goldman Sachs

Okay, great. And also, is the potential U.S. dollar depreciation versus RMB will have any impact on your revenue and margins? I mean, if most of your revenue is denominated in RMB?

Eileen Chu

Yes, actually as Steve has mentioned, our Pakistan contract is our first and only international contract right now, so all our other contracts and expenses are actually in RMB.

Donald Lu - Goldman Sachs

So actually, if the U.S. dollar depreciates, actually it is beneficial to AsiaInfo's EPS?

Eileen Chu

Yes, you can say that.

Donald Lu - Goldman Sachs

Okay. And how about labor costs? China is going through a pretty hefty inflation right now. Have your costs --

Eileen Chu

Well, our salaries I believe are very competitive to -- compared to other high tech companies in China and on top of salaries, we believe that other employee benefits are also very important in order to retain our employees. And as explained earlier, we have carried out a lot of corporate culture promotions in our companies to promote that too.

Donald Lu - Goldman Sachs

Okay, so the costs of employees on average have not increased?

Eileen Chu

It has -- well, definitely our staff will get a salary increment but I think it is just part of our two markets. It is normal to -- every year, we will have just normal salary adjustments.

Donald Lu - Goldman Sachs

Okay, so basically on a rule of thumb, how should we model the employee -- average cost per employee? Because I know it is a complicated question, your employee structure might change, you might hire more low-end engineers, et cetera. So just for our modeling purpose, should we just say there is a 10% increase every year?

Eileen Chu

I wouldn’t say our salary costs will increase 10% per year. Our salary increment is about 5% to 7%, which is actually more or less around the industry norm. But I think our -- if you look at our revenue and our costs, actually our revenue growth is faster than our cost growth. Actually, it is reflected in our gross margin. If you look at our gross margin for the last few quarters or even back in 2006, it has more or less run in the range of 54% to 56%.

Donald Lu - Goldman Sachs

I see.

Eileen Chu

Because actually I think -- well, you can also say that part of the [inaudible] -- part of it will also be factored in.

Donald Lu - Goldman Sachs

I see. So you can pass some of the cost increase to your billing rate?

Eileen Chu

That will be included in our pricing, yes.

Donald Lu - Goldman Sachs

In the pricing. Okay, great. Okay, my next question is on the business side -- Steve, have you seen any slow down of your customers in terms of upgrade, new contract because of this U.S. economic problems or anything like that? I know it’s probably remote.

Steve Zhang

No, actually we don’t see any slow down in China. I think on the contrary, we see a pick-up in the telecom spending, actually.

Donald Lu - Goldman Sachs

Okay, and this restructuring apparently will be potentially very beneficial for AsiaInfo and -- can we have a -- can you give me just a hypothetical kind of scenario; let’s say if the restructure is announced today, how many months later will be -- what is the scenario that will happen over the next six to 12 months in terms of you get new contracts and new revenue coming in?

Steve Zhang

Donald, that’s a very complicated question without a very simple answer. First of all, we really don’t know when the China Telecom restructuring will happen but let’s hypothetically assume it happens in March. I mean, we will see some positive impact on our revenue. We are working very hard right now with both the two fixed operators, China Telecom and China Netcom, to work with them to plan for the day when they get their mobile license. But when that will happen, we really don’t know. It is up to the government to decide.

Donald Lu - Goldman Sachs

I see. And usually for those operators, if they get a wireless license, how fast do you think they will sign a contract and update their billing system? Is there a rough estimate?

Steve Zhang

I think they realize the urgent need for them to be real competitive in their customer services in their product rollout, so they definitely need to make a quick investment in their CRM and the billing system to support a very competitive mobile market. As far as we know from our communication with the operators, they are making all the plans to roll out new products, new value-added services, and we see the real competition among the mobile market will be coming.

Donald Lu - Goldman Sachs

Sure. Okay, great. Thank you very much.

Operator

There are currently no more questions in queue. (Operator Instructions) [Howard Wong], [inaudible] Capital.

Howard Wong

Congratulations on a very good set of results. I wanted to ask you -- one of the things we have spoken about in the past is that you have added a lot of expense in SG&A and R&D in order to prepare for the future new products that will be required by your customers and also to increase the number of customers. But now that that infrastructure is built, we were expecting that going ahead in 2008, 2009, and so forth, the growth in SG&A in absolute terms will be limited, and similarly for R&D will be limited. Is that true? And what kind of limits do you think one can expect in absolute terms?

And the second is, is there a seasonality in the business in terms of the 4Q costs being higher? Because we can see the SG&A in 4Q is 10% higher than in 3Q. Is that seasonality or is there any particular reason?

Steve Zhang

I will first answer the last question. There is a seasonality for our business, especially the seasonality is very evident in our IT security business. And the higher SG&A expense for Q4, one is we accrue more sales commission when our sales teams sign more contracts.

Also, for Q3, SG&A was lowered by our special government tax refund, so compared with Q3, the Q4 number is much higher, it was the reason -- there were two reasons. One, we do accrue more sales costs because of the strong sales contract turnover in Q4. Also, the Q3 number was lowered by a special tax refund.

Howard Wong

Okay.

Steve Zhang

Going to your first question, we expect our R&D growth will be lower -- the growth rate for our R&D expense definitely will be -- looking into the future will be lower than our revenue growth and actually, right now we don’t give out the numbers for our 2008, how do we break down our R&D expense growth. But we definitely expect our R&D investment we made over the last two years will enable us not only to have the new solution, new product but will -- since we already made the investment, we don’t plan to make the -- the R&D growth rate definitely will be lower than our revenue growth rate.

Howard Wong

Thanks for the clarification, but what I wanted to understand was in absolute terms, because R&D is quite predictable, in absolute terms do you think it will be below 10%?

Steve Zhang

The growth rate?

Howard Wong

Yes.

Steve Zhang

I wouldn’t say that. I would say probably between 10% to 20% still, because we think China is still a fast-growing market. We don’t want to under-invest in our R&D efforts.

Howard Wong

Okay, on SG&A, I understand a little bit more that basically, some component is fixed and some component is variable, right, based on how many sales you are booking? So can you give us an idea of what percentage of the SG&A would be variable with sales, based on whatever, commissions or et cetera, and what component would be fixed?

And for the fixed component, what kind of growth can we expect? It will be similar to R&D, like 10% to 20%?

Steve Zhang

For our SG&A, and our G&A excluding the sales is roughly $8 million to $9 million a year, and that’s the fixed part. The rest of them are the variable parts, variable components. I would also expect our sales component to grow between 10% to 20%.

Howard Wong

G&A, which is $8 million to $9 million, is fixed and you expect that to grow 10% to 20%?

Steve Zhang

We expect our G&A to remain constant.

Howard Wong

$8 million to $9 million?

Steve Zhang

Yeah, and our sales component will probably grow -- I would say probably 15% to 20% because we are pushing our sales to grow our top line very aggressively.

Howard Wong

So even the selling expense as a percentage of sales, you expect to decline?

Steve Zhang

The sales as a percentage of total revenue should decline, yes.

Eileen Chu

I want to add one point. Actually, if you look at our -- even though our numbers, like our sales and marketing expenses, our R&D expenses seems to be increasing, but actually if you look at it as a percentage of our net revenue, it has been decreasing. Say, for example, in Q4 2007, our sales and marketing is up 22% and in Q1 2007, it is about 26%. So actually even the numbers might be increasing but actually as a percentage of our net revenue, it is decreasing. And the same applies for R&D expenses as well and G&A expenses and that’s how we have been able to increase our operating margins.

Howard Wong

Okay, and the thing in this business, from what I understand, is that you have to incur some of the costs before the revenue actually comes in. So now do you have a better visibility based on the order pipeline that even though you have built up the infrastructure, the revenue growth will definitely come?

Steve Zhang

Can you repeat your question?

Howard Wong

In this business, because you are dealing with such large customers who also have a long position cycle, it makes -- sometimes it’s not predictable when the revenue will come. But now, based on your order pipeline or what you are discussing with your customers, do you feel that the infrastructure you’ve built, you’ll actually deliver the sales growth over the next year or two?

Steve Zhang

We are confident that for 2008, we can continue our past growth rate. And our revenue, we have a strong backlog that supports our revenue growth and for the sales pipeline, normally we can see up to nine months. So the pipeline visibility is okay.

Howard Wong

Can you talk about any progress in any of your new initiatives or M&A or anything in that direction?

Steve Zhang

We continue to see M&A activity as a component for our future growth but right now, we are actively working on several deals but we cannot disclose any specific details.

Howard Wong

What about other business initiatives? New business initiatives like the wireless or mobile application platform or other things? Has that had any progress?

Steve Zhang

Right now, we don’t want to disclose that at this moment because we are in the negotiation stage with our customers.

Howard Wong

All right. And this -- I mean, it’s a good thing that you guys have been able to collect a lot of cash in 4Q. Is that going to be a trend going forward as you see the accounts receivable coming down, or again it’s just the seasonality thing?

Steve Zhang

Our DSO has been in the range of 120 days and in Q4, it’s always a strong quarter for us to collect cash. But normally, we collect roughly $25 million to $30 million a quarter. Just in the fourth quarter, normally we collect more than the $30 million average range, so resulting in the fourth quarter, we have a pretty strong cash flow. That’s also the same pattern in 2006.

Howard Wong

Right, right. And I’m just wondering, out of the $200 million plus cash, how much of it is in RMB or is it U.S. dollars or other currencies?

Eileen Chu

About 50% in RMB and the remaining in U.S.D.

Howard Wong

And then, I don’t know whether you disclosed this, I’m not sure of your investments in the Asia market still or --

Eileen Chu

Sorry?

Howard Wong

How much of your total investment is in the Asia equity market in the last year?

Eileen Chu

Actually, our investments are also 50% -- more or less around 50% in U.S. and the remaining 50% in Asia. We don’t really break down by region but actually, if you look at our quarterly filing and also our annual filing, you can see our investment breakdown by different types of investment, like whether it is [bond signs] or [inaudible] or what company that we have invested in.

Howard Wong

Right.

Eileen Chu

Actually, we have quite a mix.

Howard Wong

Right, so as of the end of last year, you have cash plus restricted cash, about $170 million, and you said half of it is in RMB and half of it is in U.S. dollars?

Eileen Chu

Yes.

Howard Wong

And of the $50 million short-term investment, it’s half of it in Asia equities, half of it in U.S. equities?

Eileen Chu

Yes, more or less around that.

Howard Wong

All right. Thank you very much.

Operator

There are currently no more questions in queue. (Operator Instructions) As there are no further questions, we will now begin our closing comments. Please go ahead, Mr. Zhang.

Steve Zhang

Again, thank you for joining us today. If you have any further questions, please do not hesitate to contact myself, Eileen, or any of our investor relations representatives. Bye-bye.

Operator

Ladies and gentlemen, this concludes our conference call. Thank you all for attending.

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Source: AsiaInfo Q4 2007 Earnings Call Transcript
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