Zhone Technologies' CEO Discusses F2Q12 Results - Earnings Call Transcript

Jul.18.12 | About: Zhone Technologies, (ZHNE)

Zhone Technologies (NASDAQ:ZHNE)

F2Q12 Earnings Call

July 18, 2012 5:00 p.m. ET

Executives

Kirk Misaka – CFO

Mory Ejabat – Chairman and CEO

Analysts

Wayne Lindemann – Private Investor

Ronald Mullins - Private Investor

Operator

Good day and welcome to the second quarter 2012 Zhone Technologies Incorporated earnings conference call. [Operator instructions.] I would now like to introduce Kirk Misaka, Zhone’s chief financial officer. Please proceed.

Kirk Misaka

Thank you, operator. Hello and welcome to the second quarter 2012 Zhone Technologies, Inc. conference call. I'm Kirk Misaka, Zhone’s chief financial officer.

The purpose of this call is to discuss Zhone’s second quarter 2012 financial results as reported in our earnings release, which was distributed over BusinessWire at the close of market today and has been posted on our website at www.zhone.com.

I'm here today with Mory Ejabat, Zhone’s chairman and chief executive officer. Mory will begin by discussing the key financial results and business developments of the second quarter. Following Mory’s comments, I will discuss Zhone’s detailed financial results for the second quarter of 2012 and provide guidance for next quarter. After our prepared remarks, we will conclude with questions and answers.

As a reminder, this conference is being recorded for replay purposes and will be available for approximately one week. Dial-in instructions for the replay are available on our press release issued today. An audio webcast replay will also be available online at www.zhone.com following the call.

During the course of the conference call we will make forward-looking statements which reflect management’s judgment based on factors currently known. However, these statements involve risks and uncertainties including those related to projections of financial performance, the anticipated growth and trends in our business, the development of new technologies and market acceptance of new products, and statements that express our plans, objectives, and strategies for future operations. We refer you to the risk factors contained in our SEC filings available at www.sec.gov, including our annual report on Form 10-K for the year ended December 31, 2011, and our quarterly report on form 10-Q for the quarter ended March 31, 2012.

We would like to caution you that actual results could differ materially from those contemplated by the forward-looking statements and you should not place undue reliance on any forward-looking statements. We also undertake no obligation to update any forward-looking statements.

During the course of this call, we will also make reference to adjusted EBITDA and adjusted operating expenses, non-GAAP measures we believe are appropriate to enhance an overall understanding of past financial performance and prospects for the future. These adjustments to our GAAP results are made with the intent of providing greater transparency to supplemental information used by management in its financial and operational decision-making.

These non-GAAP results are among the primary indicators management uses as a basis for making operating decisions because they provide meaningful supplemental information regarding our operational performance and they facilitate management’s internal comparisons with the company’s historical operating results and comparisons to competitors’ operating results.

The presentation of this additional information is not meant to be considered in isolation or as a substitute for measures of financial performance prepared in accordance with GAAP. We have provided GAAP reconciliation information for adjusted EBITDA within the press release, which, as previously mentioned, has been posted on our website at www.zhone.com.

With those comments in mind, I would now like to introduce Mory Ejabat, Zhone’s chairman and chief executive officer.

Mory Ejabat

Thanks, Kirk. Good afternoon and thank you for joining us for our second quarter 2012 earnings call. Revenue for the second quarter of 2012 grew by 14% over last quarter to $30.8 million from broad-based demand for our products, both domestically and abroad.

As we mentioned last quarter, we exited the first quarter with a significant backlog of orders which got us off to a great start. Although we expect to continue to see growth over the remainder of the year, that growth should be at a more moderate pace.

Gross margins this quarter were below our original expectations, largely because of a single transaction with one of our 10% customers, where we decided to accommodate their request to provide a temporary deep discount on pricing to offset the effect of significant dollar appreciation against the local currency. We do not anticipate making any further accommodations of this magnitude, and therefore expect gross margins to migrate back toward historical levels.

With the moderate growth in revenue and improving gross margins, we are still hopeful that we can generate positive adjusted EBITDA for the second half of 2012, which remains our primary financial goal.

Also, let me make a few comments about our NASDAQ listing. As you know, we received a notice from NASDAQ that we have until December 18 to get our share price above their $1 minimum price requirement. Last year, we received a similar notice, and we were able to regain compliance by posting a strong fourth quarter earnings. This year, we hope that our strong second half performance will have similar results. Regardless, we continue to evaluate alternatives and develop a contingency plan if necessary.

Since Kirk will give you more details on our financial results later on, let me brief you on the state of our business. In Q2 we launched Zhone FiberLAN, an innovative and exciting new product line. We believe FiberLAN is the most cost effective, efficient, and environmentally friendly alternative to existing copper-based internet switch LAN infrastructure available in the market today.

FiberLAN is a high-performance, high-density, GPON-based optical LAN solution delivering high speed data, voice, and video to multiple level, multi-unit commercial and industrial complexes, including hotel rooms, bandwidth on demand desktops and workstations. FiberLAN can be deployed in a wide range of deployment scenarios, including offices, hotel rooms, factories, or other industrial [unintelligible] while delivering comprehensive connectivity for any local area networking requirement at a fraction of the costs of the copper switch Ethernet.

Zhone products continue to drive new and organic customer growth, also [unintelligible] GPON industrial leadership in each of our served markets for the company’s record 10th consecutive quarter. During the quarter, we won several new customers and expanded our customer base globally with customers such as MNSI, Windsor, Ontario, Canada; Vianet, Ontario, Canada; TE Data, Cairo, Egypt; QualStar, Ohio, United States; and Norvado, Wisconsin, United States.

MXK shipments remain strong. We shipped over 400 units in the quarter, and more than doubled the number of MXKs shipped from the second quarter one year ago, bringing the total unit shipments to over 3,650 units, and well over 27 million ports of MXK GPON subscribers [unintelligible].

I will turn the call over to Kirk to provide more details about our financial results for last quarter and to discuss our financial guidance for next quarter. Kirk?

Kirk Misaka

Thanks Mory. Today Zhone announced financial results for the second quarter of 2012. As expected, second quarter revenue of $30.8 million rebounded strongly and grew by 14% over first quarter revenue of $27.1 million, due to broad-based demand for our products. As Mory mentioned, we carried a significant backlog into this quarter, which also helped boost revenue. With a slightly lower backlog and a seasonally weaker quarter, we expect revenue for the third quarter to be flat or slightly up with slightly stronger improvement in the fourth quarter.

For the second quarter of 2012, our international customers represented 57% of our total revenue, which was nearly identical to the first quarter ratio. Unlike the first quarter, however, we had two 10% customers this quarter, up from one last quarter, and therefore experienced more customer concentration with the top five customers representing approximately 43% of revenue for the second quarter as compared to 39% of revenue for the first quarter.

Gross margin, at 31.1% for the second quarter, was lower than our original expectation of around 34%, primarily as a result of the one-time currency discount that Mory mentioned. As we’ve discussed in the past, we expect margin expansion in our long term model associated with the benefits of the extensive hardware reengineering that we’ve undertaken to cost reduce our product, and from additional manufacturing costs leverage at higher anticipated revenue levels. For the third quarter of 2012, we expect gross margins to begin to improve, and we hope to fully rebound to our historical levels in the fourth quarter of this year.

Operating expenses of $11.4 million for the second quarter was lower than our previous guidance of between $12 million and $12.5 million, due to various cost savings, and we expect those cost savings to continue going forward. We expect operating expenses for the third quarter of 2012 to range between approximately $11.5 million and $12 million.

Operating expenses for the second quarter included depreciation of approximately $100,000 and stock based compensation of approximately $300,000. Going forward, we expect approximately the same amount of depreciation and stock based compensation for the third quarter.

Finally, our adjusted EBITDA loss for the second quarter of 2012 was approximately $1.7 million, an improvement of nearly $1.4 million over the first quarter loss of $3.1 million. Strong revenue growth and continued expense control led to the improvement, as we remained focused on our primary financial goal of generating positive adjusted EBITDA on a quarterly basis before the end of the year.

Now turning to the balance sheet, cash and short-term investments at June 30, 2012 were $13.1 million, which decreased from $15 million at March 31, 2012, or roughly equivalent to the adjusted EBITDA loss for the quarter.

As for the other significant balance sheet changes, the days sales outstanding on accounts receivable continued to improve from 79 days for the first quarter to 74 days for the second quarter, even though accounts receivable actually increased to $25.5 million at June 30, 2012 from $23.7 million at March 31, 2012. DSOs continued to be affected by the shipment and payment cycle with our largest customer, which for this quarter had a positive effect.

Total debt obligations remained at $10 million at June 30, 2012, and the weighted average basic and diluted shares outstanding were $31 million for the second quarter of 2012, up slightly from the $30.9 million for the first quarter.

With that financial overview, I’ll turn the call back to Mory for a few final comments before we open the call up to questions and answers. Mory?

Mory Ejabat

Thank you Kirk. With revenue growth up 14% for the quarter, our product shipments, new customer growth, and demand for our industry leading solutions remain high. We continue to be a market leader for GPON in each of our served markets, and we continue to see global acceptance for our newly launched products in domestic and international markets. With moderate revenue growth and improved gross margins, we remain focused on our primary financial objectives for the second half of 2012.

We would now like to open the call up for questions. Operator, please begin the Q&A portion of the call.

Question-and-Answer Session

Operator

[Operator instructions.] And you have a question from the line of Wayne Lindemann. Please proceed.

Wayne Lindemann

I have a couple of questions. The first one is, are there plans for another reverse split?

Mory Ejabat

At this point, we don’t have any plans for that, but we are looking at all our alternatives, as I mentioned. But we are hoping, with our revenue growth and profitability, that we have plans to be making our $1 minute bet in our stock price.

Wayne Lindemann

Number two, every quarter we keep hearing the MXK numbers keep going up. New customer growth. But we still haven’t seen any profit. Any explanation as to that?

Mory Ejabat

Well, unfortunately, we ship more hardware and our gross margins are being affected by fluctuation in the dollar and also discounts that some of our customers are expecting. So in reality, the gross margins are at the point that we have to focus on and improve on to get back to profitability. We continue getting customers, and we are continually winning deals, and we are introducing new products. So our focus is on improving our gross margin going forward.

Wayne Lindemann

And number three, with the losses every quarter, is there a concern regarding the cash burn?

Mory Ejabat

There is always concern about cash burn, but at this point, we are not totally concerned. We know that we have a good roadmap, and we are planning to execute on our plan. So we don’t have a major concern about our cash burn.

Wayne Lindemann

Number four, are there any thoughts regarding consolidation with some of the other companies, or going private?

Mory Ejabat

We don’t have any plans. We haven’t had any discussion, but if we look around our industry, everybody’s in trouble.

Wayne Lindemann

And the last one, is there any explanation as to why you think the stock price is so low?

Mory Ejabat

I have no idea.

Wayne Lindemann

And the last, when are the insiders going to be able to buy once again, insiders buying shares of the company?

Mory Ejabat

I don’t believe insiders have any restrictions to buy any shares, but there’s no plan.

Wayne Lindemann

No plans for the insiders to buy shares?

Mory Ejabat

I don’t believe so.

Wayne Lindemann

Would you buy shares if there’s no restrictions right now?

Mory Ejabat

I already own 10%.

Wayne Lindemann

Would you not have faith in the company to buy more than 10%?

Mory Ejabat

I don’t want to discuss my financial position with you actually.

Wayne Lindemann

As a shareholder, can you give shareholders any reason to buy shares if the insiders aren’t?

Mory Ejabat

Insiders continuously bought during the year, of the shares. And if they continue to buy or not, I have no idea. And I don’t think you should plan based on your purchase or holding of your shares based on what the insiders are going to do. I assume you’re an astute investor, and you know what to do.

Wayne Lindemann

I think when insiders buy shares, that it’s a vote of confidence for the company. When you see insiders buying shares, it tells other individuals who are outside investors that these insiders have faith in their company and sometimes I base my feeling on buying shares of a company as to whether those insiders are buying or selling.

Mory Ejabat

That’s your strategy, and it probably fits your investment criteria. Thank you.

Operator

[Operator instructions.] You do have a question from the line of Ronald Mullins. Please proceed.

Ronald Mullins

A question regarding the comment that you made that everyone in our business is in trouble. We certainly haven’t done well for the last two or three years, and I wonder, as you work for solutions on this, do you see the business generally improving? Do you see something that gives you some idea that the business can significantly advance?

Mory Ejabat

You know, we are really tied to the economy. Right now the European economy being like that, and U.S., as well as other areas and turmoil in the Middle East. Some of those things have to settle before we really can improve our revenues and gross margins.

Ronald Mullins

That seems somewhat negative in the sense of accepting that you are influenced by what happens outside. I mean, there are a lot of things that a company can do. There are such things as new products.

Mory Ejabat

Actually, if you listened, we just announced a new product that we are very bullish about. And we believe that product can bring in some good revenue to our business.

Ronald Mullins

And does it have some definite competitive advantage?

Mory Ejabat

Yes it does. We don’t know of any competitors at this point.

Ronald Mullins

Okay, the last part of that question is, do you have any kind of feeling as to what that might result as far as sales are concerned?

Mory Ejabat

We do have some forecasts, but I’m not going to discuss that.

Operator

And at this time, there are no further questions in queue.

Mory Ejabat

Once again, thanks for joining us today, and for your continued support. We are looking forward to speaking with you on our next earnings conference call.

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