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Executives

Brian Norris - President Elect

Andrew D. Ory - Co-Founder, Chief Executive Officer, President and Director

Peter J. Minihane - Chief Financial Officer, Principal Accounting Officer and Treasurer

James J. Hourihan - Senior Vice President of Corporate Strategy

Analysts

Paul Silverstein - Crédit Suisse AG, Research Division

Vijay Bhagavath - Deutsche Bank AG, Research Division

Ehud Gelblum - Morgan Stanley, Research Division

James Kisner - Jefferies & Company, Inc., Research Division

Mark Sue - RBC Capital Markets, LLC, Research Division

Catharine Anne Trebnick - Northland Capital Markets, Research Division

AjayKumar P. Kasargod - Cornerstone Capital Management, Inc.

Rod B. Hall - JP Morgan Chase & Co, Research Division

Simon M. Leopold - Raymond James & Associates, Inc., Research Division

Simona Jankowski - Goldman Sachs Group Inc., Research Division

Brent A. Bracelin - Pacific Crest Securities, Inc., Research Division

Acme Packet (APKT) Q2 2012 Earnings Call July 26, 2012 4:30 PM ET

Operator

Good afternoon, and welcome to Acme Packet's Conference Call. [Operator Instructions] As a reminder, ladies and gentlemen, this conference call is being recorded. I would now like to turn the conference over to our host for today, Mr. Brian Norris, Director of Investor Relations for Acme Packet. Please go ahead.

Brian Norris

Thank you, Stacy. Good afternoon, everyone, and welcome to the conference call. I'm joined by Andy Ory, our President and CEO; Peter Minihane, our Chief Financial Officer and Treasurer; and James Hourihan, our Senior Vice President of Corporate Strategy.

The press release announcing our second quarter results, as well as the reconciliation of management business outlook for 2012, using non-GAAP financial measures as compared to the most applicable GAAP measures, are available on the Investor Relations section of our website at www.ir.acmepacket.com.

All results and expectations we review are on a non-GAAP basis unless otherwise described as GAAP. Our Non-GAAP financial measures exclude stock-based compensation and related payroll tax expenses, amortization of the tangible assets and merger-related expenses associated with the company's acquisition activities. Also please note that our earnings per share amounts are on a fully-diluted basis.

Please note that statements made during this call that are not historical facts may be forward-looking statements within the meaning of Securities Act of 1933 and the Securities and 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 date they are made, and we disclaim any obligation to update them.

With that, I'd like to turn the call over to Andy.

Andrew D. Ory

Thank you, Brian, and good afternoon, everyone.

I'll briefly review the results for the quarter and then share some thoughts on what's happening with our business and what we see as the most significant drivers for our growth.

Revenue in the second quarter were $67.6 million. Gross margin was 83%, unchanged from last quarter. Operating margin was 21%, and non-GAAP EPS was $0.13 per share. Cash from operations was $23.6 million, and we ended the quarter with $401 million in cash, unchanged sequentially, despite utilizing approximately $21 million in cash to acquire IPTEGO during the quarter.

We added 93 new customers in the second quarter, including 37 service providers and 56 enterprise. Our solutions are now deployed at 89 of the Top 100 service providers and 45 of the Fortune 100 companies. Upon detailed review of our core SBC markets with our global sales organization, our win rate in the first half of 2012 appears to be in line with the last 12 quarters.

I want to share a more detailed look at what is happening in our markets and the trends that are impacting our business. The North American service provider business continues to be impacted by an overall pause in spending. Our original plan for 2012 assumes no growth from our top 2 North American Tier 1 service provider customers. We now estimate that our bookings for our top 2 North American Tier 1 service provider businesses will be down approximately 25% in 2012.

Looking at the North American service provider market as a whole, while many of our customers are engaged in projects related to Voice over LTE, or VoLTE, we believe that it will be 2013 before it has any meaningful impact on our business.

Second, we believe that various M&A activities in North America in 2011 are continuing to have an impact on our market. In contrast, our North American enterprise business performed well in the first half of the year, building off of strong growth in 2011. It grew 28% in the first half of 2012 compared to the first half of 2011, primarily reflecting increased demand for SIP trunking.

Moving beyond North America, I want to share a few observations in the rest of the world. In EMEA, we are seeing cautious spending fueled by the region's uncertain economic environment. Additionally, some of our service provider customers in EMEA are telling us that traditional IMS as it relates to VoLTE is just too expensive to expand current networks or deploy new ones in developing markets.

In the short term, this negatively impacts demand for our access and interconnect SBC solutions. However, on the positive side, this has provided us opportunity to market and sell a broad or more strategic solution for this VoLTE network, namely our SMX and associated session delivery network element. Our SMX solution dramatically eases implementations and lower cost.

Finally, SIP trunking in the region has been slow to start. We believe the growth trajectory of the EMEA SIP trunking market will be different from that of North America due to the sheer number of Tier 1s operating in the region.

Our APAC and CALA regions both performed well in the first half of 2012. In APAC, we continue to pursue major Tier 1 service providers and are starting to see plans for SIP trunking in several markets, including China, Japan and Southeast Asia. In CALA, we are effectively leveraging our already strong position with the region's Tier 1.

Looking forward, we believe there are 3 major opportunities, which will drive Acme Packet's future growth globally. The first is SIP trunking. SIP trunking is expected to continue to be a major and steady contributor to our future success. A SIP trunk provides the IP link from an enterprise, using its own IP PBX or unified communications infrastructure to its service provider with PSCN or IP connectivity to the rest of the world. Today, SIP trunking is driving nearly all of our enterprise business.

This quarter, Forrester Research released the results of a study we commissioned to measure the benefits associated with Acme Packet's SBCs in a SIP trunking environment. Through independent interviews and analysis of 6 customers, Forrester concluded that a typical large enterprise could cut their voice cost by more than 50% on average and achieve a 401% ROI over a 3-year period on our Net-Net session border controls. The payback period for a typical large enterprise could average just 3 months. We have seen that enterprises are rapidly embracing SIP trunking to reduce costs and enable end-to-end IP unified communications.

According to Infonetics Research, the number of SIP trunks is expected to grow from approximately 7 million in 2012 to nearly 29 million in 2016. Every one of these SIP trunk ad drives demand for SBCs in both the enterprise premise and any service provider network.

The second major opportunity is LTE and Voice over LTE or VoLTE. We continue to see tremendous opportunities ahead of us in the delivery of both LTE data and VoLTE services. In terms of LTE data, we are engaged in 27 opportunities for our diameter signaling controller. This includes 4 architectural wins.

Earlier this week, we announced that Telefónica Germany is deploying Acme Packet's Net-Net Session Director -- Diameter Director in addition to our Net-Net Session Router for its next-generation signaling core to support LTE services.

Our recently announced Net-Net 7000 platform was key in Telefónica's selection of our Net-Net Diameter Director. The high-performance diameter signaling capabilities of this platform has significantly improved our competitive position in the diameter signaling controller product category.

While in the first half of 2012, there have been publicly announced schedule delays for early VoLTE rollouts, we continue to remain bullish on our opportunity in this area. Beyond the 10 architectural wins we have already secured, we are actively pursuing 26 additional opportunities.

VoLTE provides deployment opportunities for every one of Acme Packet's session delivery network products, including access and interconnect SBCs for controlling borders; core session manager in the form of SIP multimedia express solution, which integrates 8-core IMS functions with our Access SBC; session routing proxy for routing sessions to and from Access and interconnect borders; multiservice security gateway for offloading LTE and 3G data and voice services to Wi-Fi and small cell access point; and Session-aware Load Balancer to scale session control at borders.

The third major opportunity we see is IP Interconnect. IP Interconnects represent about 1/3 of our service provider business today. These relationships have been primarily among Tier 2 and Tier 3 retail service providers and IP transit network providers that provide PSCN connectivity and/or IP connectivity to other small retail service providers.

WIND Mobile in Canada and MTN business in South Africa are 2 recently announced customers that are using our Interconnect SBC and session-routing proxy in this way. We believe there is a tremendous untapped opportunity to Interconnect Tier 1 service providers around the world with one another bilaterally into smaller and more distant service providers through IPX transit carriers.

Rich Communication Suite or RCS for 3G networks is also accelerating interconnects among both mobile and fixed line providers. RCS integrates circuit- switched voice providers and IP-based presence instant messaging, video and image-sharing capability. A subscriber's identity is simply their telephone number, an identity that is already a resident in the phonebook of their colleagues, friends and family.

Acme Packet has secured 11 RCSC wins, including 8 of the 10 Western European service providers launching the Joyn-branded RCS service in 2012. We see these opportunities starting to take shape in 2013. In addition, we expect additional regulation, such as that enacted in Italy and Canada to foster IP interconnect relationships.

We remain confident in our positioning. Our confidence is validated by strong gross margins, continued customer acquisition activity, key architectural wins and expanding market opportunity.

For a closer look at our second quarter results and our 2012 outlook, let me turn the call over to Peter.

Peter J. Minihane

Thank you, Andy. As a reminder, all financial information reviewed this afternoon, both historic and forecasted, related to our statements and income are on a non-GAAP basis unless otherwise described as GAAP.

Total revenue in the second quarter was $67.6 million, which included $49.6 million in product revenue and $18 million in maintenance, support and service revenue. Geographically, 55% of our revenue in the second quarter came from the United States and Canada, while 45% came from the rest of the world. The distribution of our second quarter revenue was 48% direct and 52% indirect.

Verizon Business accounted for 13% of revenue in the second quarter, the only customer that represented at least 10% of our revenue.

Gross margin was 83% in the second quarter, unchanged sequentially. Total operating expenses were $41.5 million in the second quarter. Non-GAAP net income in the second quarter was $9.5 million or $0.13 per share, and our GAAP net loss was approximately $100,000.

We ended the second quarter with approximately $401 million in cash and investments, unchanged sequentially. Cash provided by operations was $23.4 million in the second quarter, while total capital expenditures were $6.6 million. Accounts receivable net was $49.8 million at the end of the second quarter compared to $60.6 million at the end of the first quarter.

DSOs decreased to 66 days at June 30 from 77 days at March 31. Inventory at the end of the second quarter increased to $12 million compared to $11 million at the end of the first quarter. Deferred revenue was $31.9 million at the end of the second quarter compared to $37.1 million at the end of the first quarter. The sequential decline reflects amortization of annual maintenance contracts during the quarter.

As we've discussed on previous calls, deferred revenues can fluctuate from period to period based on the timing of shipments and maintenance renewals, along with the associated revenue recognition, and we do not believe it should be relied upon as an indicator of the health of our business.

I will close with a few forward-looking statements to help you better understand how we are thinking about the remainder of the year. The plan we shared back in February assumed that our top 2 North American Tier 1 service providers would be flat in 2012. It also assumed full year global bookings growth of approximately 20% and full year revenue growth of approximately 10%.

As Andy mentioned in his remarks, we expect the second half of 2012 to be more challenging than the first with regard to the top 2 North American Tier 1 service providers. As such, we now estimate full year bookings for these 2 service providers will decrease by approximately 25%.

Our Enterprise business grew by 10% and 24% year-over-year in the first and second quarters, respectively. We are taking a more conservative view in the near term and are lowering our full year bookings growth rate estimated to approximately 20%.

Finally, on an annual basis, we now expect revenues of $270 million to $275 million, non-GAAP EPS of $0.43 to $0.47 per share, and a GAAP loss of $0.11 to $0.07 per share.

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

Brian Norris

Thank you, Peter. Stacy, at this time we'd like to open the call up for Q&A. [Operator Instructions]

Question-and-Answer Session

Operator

[Operator Instructions] Our first question comes from the line of Paul Silverstein with Crédit Suisse.

Paul Silverstein - Crédit Suisse AG, Research Division

It's a clarification question. Peter, did you say that full year bookings growth, all in, is now estimated 20%, or is that just for Enterprise?

Brian Norris

Stacy, it was near the very end.

Peter J. Minihane

I'm sorry, Paul, I don't...

Andrew D. Ory

Yes, 20% question, Paul. Is 20% enterprise bookings growth for the full year is our new estimate.

Paul Silverstein - Crédit Suisse AG, Research Division

20% Enterprise bookings growth.

Andrew D. Ory

Enterprise. That's right. Correct.

Paul Silverstein - Crédit Suisse AG, Research Division

So would your top 2 customers estimates be down 25% year-over-year? If we looked at the rest of the organization, not just Enterprise, but the rest of your service provider, what would bookings look like? I assume it would be consistent with the revenue guidance you're giving.

Peter J. Minihane

If I think about the total North American version of it, Paul, I think we will see that the top 2 will be down 25% for the year. It'll also be down in Q3 and 4 from approximately $30 million in Q1 and 2, down to approximately $23 million in Q3 and 4.

Paul Silverstein - Crédit Suisse AG, Research Division

All right. So here's the question, beyond the macroeconomic that you're attributing this pause to -- from a competitive standpoint, your gross margins would suggest that you're not losing competitively. But is there something going on beyond the positive macro in terms of -- you mentioned your run rate. What is that run rate, Andy? And what are you seeing competitively from others?

Andrew D. Ory

So what we did, Paul, is we got the entire sales organization for North America and the sales organization for EMEA and CALA. We will be in front of the APAC sales organizations in August. So I've talked with the management of the sales organization for APAC. So you can take a less pretty exhausted in front of 90% of the quarter carrying sales folks. Where -- I'm anticipating that the deals we don't see are probably roughly the same amount only because we continue to grow our sales organization direct and our channel organization and partners. So I'm just anticipating that because what you don't know, you don't know. But I would factor it the same way. And then I'd look at the win rate and loss rate from our sales guys, and we replaced and beat our competitors in many, many deals. And there were, really, only a -- like a handful, 1, 2, 3, 4, 5 a small number of identified losses out of like 100 different transactions that were highlighted.

Paul Silverstein - Crédit Suisse AG, Research Division

So you're win rate you're telling me is 95%?

Andrew D. Ory

I mean, I think if you were to look at the data we saw, you'd walk away with 90%, that's probably pretty accurate, plus or minus. That's the way we've always thought about it. It really hasn't changed. Whatever that percentage is, it has not changed. So Paul, here's how we process it. In North America, we are heavily weighted towards 2 of the Tier 1 service providers. And for a few different reasons, they just have -- in a number of projects, they've just been delayed. You can see that in SIP trunking with one of our service providers, they continue to buy, and we're very excited about the SIP trunking. But as it relates to things like LTE or Voice over LTE, it just appears that either there are CapEx issues and money is being vectored not exclusively but to a very large extent, towards the radio access and the build-out of LTE or the other thing is that LTE has proven to be complex from a business model. We saw one of the Tier 1s change their business model pretty dramatically, or it's been very complex from a technological point of view. And those things have served to slow down some of the buying cycle. And so, I mean, that's what we're seeing. As far as its inevitability, LTE is cheaper to operate than 3G, has more spectrum and is the future. So we're continuing to increase our investment and to focus our coverage on supplying LTE solutions or Voice over LTE solutions.

Paul Silverstein - Crédit Suisse AG, Research Division

If one of those Tier 1s would go in with one of your competitors and committed to one or more of your competitors for one or more of those projects, would you necessarily know about it?

Andrew D. Ory

Yes. I think we would. Each one of the very largest Tier 1s -- I don't know, there's 100,000 folks. There is always going to be stuff going on that we don't know about. But as it relates to IMS and IMS core and solutions, service build out for voice and video and session border control elements and session and delivery networks, we'd have a pretty good handle on what's going on. And we don't really see lost opportunity as contributing in any way to the results.

Operator

And our next question comes from the line of Brian Modoff with Deutsche Bank.

Vijay Bhagavath - Deutsche Bank AG, Research Division

It's Vijay Bhagavath on behalf of Brian. Andy, a question and a follow-up. The question is that on the OpEx, I mean, in the most recent quarter, you had, I think, 81% of revenues as OpEx. Would that be an artifact of you know a lot of the recent hires versus slow growth in the second half? And then a follow up.

Peter J. Minihane

Well, I think the increase in OpEx in the second half, again, you have to remember 70% to 75% of our operating expenses are people and people-related costs. So we went from approximately $39.7 million in Q1 up to about $41.5 million in Q2. We would anticipate, Vijay, that, that will continue to grow in Q3 and Q4 because our assumption is that we're attempting to build a great stand-alone business. And we currently have approximately 40 to 50 REX open as of June 30, and we've finalized our second half plan, obviously, as we gave an indication for the ranges that we expect for Q3 and Q4 or the rest of the year. So we anticipate continued hiring. And we also think that the expenses will go up $3 million to $4 million in Q2 to Q3 as another -- to approximately $2 million in Q3 to Q4.

Vijay Bhagavath - Deutsche Bank AG, Research Division

And then a follow up for Andy in terms of how should we look at the growth rate of the business heading into next year? I mean, we had the assumption all along that you had Enterprise SIP trunking growing maybe 25%, 30% year-over-year. Service provider business more recently growing in the mid-single-digit. How would you view that heading into next year?

Andrew D. Ory

Well, I think on the service -- on the enterprise space, there isn't much change between our analysis and your analysis for 2012 in the sense that for the first half of the year, I believe -- did Enterprise grow 28%, Peter, is that the right number?

Peter J. Minihane

Yes.

Andrew D. Ory

And so I think as we modulated down a little bit, I think we're just being a little bit cautious and probably appropriately so, given what we're seeing in the 2 main tiers in North American and EMEA. We're seeing different things in each of those. In particular, EMEA is -- there is some impact by the macroeconomics and the willingness of some of these carriers to invest in converting their business line trunking from TDM to IP. They want to, but the urgency and the amount of money that the incumbents put into it could serve to slow it down a little bit. So we're proceeding with a little bit of caution. On the Enterprise side, the CALA and APAC are actually doing very well, and EMEA is doing pretty well, all things considered. In North America, we're really being adversely impacted by our 2 largest customers. And so I think it's pretty binary when our largest customers are taking the pause that's going to impact us. And when they start buying again, that will have the same kind of impact just on the other side.

Vijay Bhagavath - Deutsche Bank AG, Research Division

Andy, I mean, just a final talk here, if you don't mind, which is a lot of -- I mean, honestly, Andy, the slowdown you've kind of just discussed in the second half, did that catch you and the management team by surprise? You saw this coming and proactively anticipated for it? How would you view that?

Andrew D. Ory

That's an excellent question. I mean, when we were out and about in the second quarter, we characterized the second quarter as being similar to the first quarter, and that we really didn't expect much upside in terms of any backlog. The first quarter was pretty effortful, and we saw that the second quarter would be as well. We ran the second quarter -- in the first quarter, we did eat into a little backlog. In the second quarter, we did not. We ran it pretty much even from a booking-to-bill point of view, just to provide that visibility. What really caused us to think a little bit differently is that as we finished up the second quarter, we spent an awful lot of time in the first few weeks of July, the first 3 weeks of July, digging into the business at the individual salesperson's level. And we became somewhat concerned that we did not think that the North American service provider business was going to rebound. And I think that's what's tempered some of our thinking about the back half of 2012.

Operator

Our next question comes from Ehud Gelblum, Morgan Stanley.

Ehud Gelblum - Morgan Stanley, Research Division

I hate to admit it, but I'm a little confused. There's a lot of numbers flying around, I just want to make sure I got some of them right. So Andy and Peter, when you guys were saying that Verizon and your 2 largest customers, bookings growth with 2 largest customers are going to be down 25% this year, what does that translate into on the revenue side for them? And what are we expecting in the second half on revenue?

Andrew D. Ory

It's approximately the same. I think generally speaking, we had -- in 2011, we had $70 million of bookings; we had $69 million in revenues. It's almost dollar-for-dollar, whatever the book is, is generally speaking in revenue.

Ehud Gelblum - Morgan Stanley, Research Division

Okay. And so we'd just assume 25% down from that number?

Andrew D. Ory

Yes, I think something along those lines is probably the most prudent thing to do.

Ehud Gelblum - Morgan Stanley, Research Division

Now how much we know what one of them was. We don't know the other -- how -- what were those in the first half?

Andrew D. Ory

Well, the one that you know about is Verizon Business. When we talk of the 2 largest, we actually combine Verizon Business with Wireless to call it Verizon.

Ehud Gelblum - Morgan Stanley, Research Division

Correct. Correct. And so it was actually 3 different numbers, 2 of which we don't know. I'm just curious as to how much of that 25% down from 69% do we already see? I'm just trying to understand the second half over first half. What is in your assumption now?

Andrew D. Ory

So what he's asking is combined our 2 largest Tier 1s in North America, what would their first half or a second half be? So we're expecting, I think, a decline of the numbers.

Peter J. Minihane

But I told him expect a decline from approximately $33 million down to about $20 million, $21 million in the second half to about a $53 million number for the year.

Ehud Gelblum - Morgan Stanley, Research Division

Terrific. That actually is very, very helpful. So...

Andrew D. Ory

I'm not sure it's terrific.

Ehud Gelblum - Morgan Stanley, Research Division

I would agree. I have to watch my words. So as we understand and we look at the -- that's going to be moving down against you and the second half now that get into your guidance range, you -- which is essentially flat second half over first half, there's growth on the enterprise side to make up for that? Because we're losing around $10 million, $12 million from those 2 large customers. So there's essentially going to be growth from first half to the second half, and that's essentially Enterprise?

Andrew D. Ory

Yes, I mean there are areas where we do expect some growth. The MSO business has been growing. The Tier 2 mobile providers in North America have been growing, and Enterprise is growing. So that would be making up some of the difference in North America.

Ehud Gelblum - Morgan Stanley, Research Division

Okay. And then, again, to understand the Enterprise bookings growth number of 20% this year, that is comparable to what you've previously been saying was 40%?

Andrew D. Ory

Yes. So it's grown 28% in the first half of the year, and I think Peter handicapped it down to 20% total for the year.

Ehud Gelblum - Morgan Stanley, Research Division

So again, that means that the second of the year is probably somewhere around 12% to 15% so that full year ends up being 20%?

Andrew D. Ory

That particular number, we are -- I think that we've looked at an awful lot of data and funnel, and I think there's room to be somewhere closer to the 25% for the year as opposed to 20%, but 20% is probably the reasonable number for us to put down on the sheet.

Operator

And our next question comes from James Kisner, Jefferies and Company.

James Kisner - Jefferies & Company, Inc., Research Division

So just a couple of clarifications then a real question. I was going to sort of confirm how much your guidance implies, like basically a couple of quarters similar to this one, there's a revenue level, I want to confirm that, that's -- there's no sequential uptick or downtick in Q3 and Q4, we should be assuming sort of flat revenues and then just really quick sort of percent of revenue that is Enterprise in this last quarter?

Peter J. Minihane

So I think, James, we have never given out any quarterly guidance. I think it's our view that the range that we gave in our press release is approximately what we obviously expect to do in the second half of the year. I don't see any material difference from a range of -- if you do the math, just say it's about $135 million. It would appear to be a $60 million to $65 million in Q3, and a $65 million to $70 million in Q4, roughly from a range side.

James Kisner - Jefferies & Company, Inc., Research Division

And then first then percent of your business that's Enterprise's last quarter revenue-wise?

Peter J. Minihane

Let me just make sure I gave the right number here, James, and so many numbers in front of us right now. About -- it's about 23%.

James Kisner - Jefferies & Company, Inc., Research Division

Okay. So it's up a little bit sequentially perhaps. So my real question here is, I'm just curious, on your -- on VoLTE, I guess I'm -- if you said in the past, and I guess we always thought that one of your major customers that does not have a switch pullback would pretty much have to install SBC capacity in front of their launch of VoLTE. And I think they're still on track unless I'm mistaken for a half launch of VoLTE. Is there a chance here that there's adequate capacity to support initial VoLTE launches that perhaps there just wasn't an oversupply issue and that's going to be worked off? Is that part of the issue, or am I just way off there?

Andrew D. Ory

Well James, I don't know what you're talking about only because I suspect that a number of the initial VoLTE launches are going to have 1x on the on the voice channel, which means it will be 3G, CDM, voice and LTE data. And in that case -- that's a stopgap measure where you don't need any session technology in your LTE deployment. But it's very expensive and voice is segregated. And so I think that they're going to try and get away from that as soon as they can. But my guess is that's what initial implementations would look like.

James Kisner - Jefferies & Company, Inc., Research Division

I'm talking about CDMA. CDMA operators like Verizon, you don't have a fallback mechanism and ultimately want to go to VoLTE. I just thought they were planning on doing a national launch here soon, and that would suggest you'd need some capacity from of them at some point.

Andrew D. Ory

Our account teams talked about technology that did provide them fallback mechanism. But you know what, we would be very happy to talk with you offline. Technically speaking, when we talk about voice over LTE, that is SIP-based, IMS-based in the context of the service provider you're talking about, they're talking about late next year around that.

Operator

Our next question comes from Mark Sue, RBC Capital Markets.

Mark Sue - RBC Capital Markets, LLC, Research Division

One of the Tier 1 carriers that changed their business model, does that mean they're broadly reconsidering Acme Packet or...

Andrew D. Ory

No, no. I'm sorry. I got excited for a minute, Mark. Go ahead. I do apologize for interrupting.

Mark Sue - RBC Capital Markets, LLC, Research Division

So is it just -- are they reconsidering the need or the purpose. And Andy, if there's a sequence of things when we come to your wireless deployments, first, we did the towers, the radio access to mobile switch stations and then everything that follows. Is it possible that we can see further delays and maybe this is a late 2013 event? Or what's your best guess on when things actually pick up?

Andrew D. Ory

Okay, Mark, I think taking them in reverse order, anything is possible. We -- our folks feel that 2013 -- there was some hope late in 2012, but I think they feel in 2013 is when they're going to see material investments from our Tier 1 service providers into Voice over LTE. I don't have the data at a level of granularity where I have any comfort whether it would be in the beginning or the end of 2013. I really don't know. I do know that there are a lot of subs that people expect in 2014. And the initial implementation, testing and deployment of LTE -- of service-enabled LTE network takes -- could take as long as 9 months. So these folks don't really -- it's going to be hard for them to wait to deep into 2013 and be part of 2014 opportunities. But we'll have more -- I think we'll know more on our October call. As it relates to the repricing, we're in this maelstrom where people are questioning what kind of technologies and business models and the carriers even have any value, particularly with over-the-top services like Google Talk and Skype and FaceTime. When you look at the outage that happened in France with Orange Telecom, and for 9 hours how that impacted everything, even down to the GDP of the country, these communication networks are incredibly important. And these folks are going to invest, and they're going to have business models where they can make money. And what this one carrier that we're talking about did is they came up with a business model where they defend their own services, they can fund the investment in their own services, they can enable people to use over-the-top services, but they're going to pay as they use them. And that actually is a really good thing because carriers will invest in branded communication services. They're not going to want them to be really expensive. And so lower cost to IMS-compliant technologies, like our SMX, provide an Internet or Google-like approach to them offering these kinds of services. At the same time, they're charging for LTE data, provides opportunities for us to sessionize data as well. And if I were to make up a service on toll-free over-the-top communications requires carrier involvement, not to go up to the data plan of the end-users. And so we see this as a really good news in 2 fronts. We see there's a way where the carrier can recoupe investments for people there are using their communication networks, but not using their services, which makes the carrier actually economically viable. At the same time, the carriers looking for services to compete with the over-the-top, and they need to have the kind of price points and flexibility that feel like their competitors, and those are our solutions. And so we think -- we actually are really excited about that business model, and we would love to see other LTE providers globally start to do similar things.

Mark Sue - RBC Capital Markets, LLC, Research Division

Andy, when you look at your 3 end customers: The enterprise, the carriers and also, I think, the over-the-top, who also are supposed to be a target audience, when do we see that activity pickup for you? Is that also delayed? Or is that picking up? Or can that start to -- can we see some traction there?

Andrew D. Ory

Yes. I mean, we're starting -- we're making 2 announcements last quarter around over-the-top providers. The first one is Telefónica Digital, which is using our SMX product, our low balancers to offer over-the-top services all playing at world-wide basis. Another one is Mike [ph] out of Hong Kong, which again, is using our products in a similar way.

Mark Sue - RBC Capital Markets, LLC, Research Division

On the 800 or a different one?

Andrew D. Ory

No, different one, okay. And previously, we had -- and we're also working with all of the -- or not all of them -- -- many, many of the Tier 1 providers to offer their own services over other people's network over-the-top as well. So we're using our -- using some of the technology that we have in the form of our SBCs with TLS tunneling capabilities for both data and interactive communication services.

Operator

And our next question comes from Catharine Trebnick, Northland Securities.

Catharine Anne Trebnick - Northland Capital Markets, Research Division

Two questions. One would be around the launch of your software-based SBC that you did in May. And if you believe in some of the carrier pause in CapEx spending and moving to different architectures, do you -- how do you see this play out, both in terms of your opportunity and then in terms of any impact on near-term and midterm revenue?

Andrew D. Ory

Sure. Let me answer the second one, and then Seamus, if you want to take the first one, the launch of the software SBCs. The fact that -- if the carriers had not paused, if IMS were deployed and VoLTE services were being invested in today, we would likely play the role of an access SBC and appearing SBC and maybe or maybe not the proxy CSCF. And we would be complementing all of the other core CSCF functionality. And we're probably deployed in a 150 of those kinds of environments globally, it's my guess. And what's happening is that they'll say, "Wow, this is really expensive." It's really -- it's capital intensive. It's hard to operate on. It has technological risks as we've seen. There've been a number of LTE-type outages using these kind of the technologies in the initial phases that people have been trying to experiment with. And so -- and then there's uncertain services and how do we put the services in. And that kind of thinking has opened the door for us to come in with a much more Internet-like fully IMS compliant solution, where we take aid of the core CSCF IMS functions, and we put them into our access SBC, and it is simpler and lower cost. And we've already won, I think, Seamus, 4 different SMX opportunities, and there's 20 active engagements at this point.

James J. Hourihan

Correct.

Andrew D. Ory

It is one of the most exciting areas of our business. And the reason is that many people think of us as an SBC company. But when you look at rearchitect -- architecting your core routing and your implementation of services, you'll look at many different elements. You look at the routing proxy, you look at the MSG for data, you look at the load balancer, you look at your SMX for routing, your IMS functionality, you look at the diameter director. So what happens is Acme Packet is the only pure play and the only company that can bring all of these elements to bear to solve that problem. And so I think that the pause is opening up an opportunity for us to project a much more powerful message. And ultimately, I think we will win more LTE service deployments for voice and other services, and get a bigger portion of the pie i.e, be more strategic. So when do I think we see that revenue? I was hoping to see it later in 2012. As we've sat down in with our sales organizations for July. It's not impossible, but we're not counting on it, and we push it to 2013. And Seamus, the launch of the software SBCs -- Catharine, what was your question around the launch of the software SBCs?

Catharine Anne Trebnick - Northland Capital Markets, Research Division

Well, right now, 2questions. How much revenue have you installed the software SBCs? And then what part -- in moving to this software-based SBC deployment, obviously, I think, down the road, you're going to have to curtail some of your OpEx spending. You won't need as many hardware engineers. So where are you on this adoption curve with the carriers?

Andrew D. Ory

So the software SBC complements our core market. It doesn't replace our market. The medium- and low-end enterprises, which really aren't the markets for a large complex solutions, are going to either want things from the cloud, of they're going to want software they can download and run on general-purpose hardware. This is not a market that traditionally, we've really been able to go after. We have developed technology in conjunction with our large SIP trunking providers that enables our SIP trunking providers to push down pre-configured templates to software that you could download and run as a software SBC on a general-purpose computer. We see that as highly augmentative in terms of accelerating revenue to high-margin purpose-built technology ports on the access edge of our SIP trunking providers, and providing us some additional software revenue in the form of low-dollar volume -- not a lot of money, but the people will still pay for small SBCs as all software.

Peter J. Minihane

We have announced our first customer for our enterprise software SBC earlier this month, that was the University of Vigo in Spain, and...

Catharine Anne Trebnick - Northland Capital Markets, Research Division

Yes, I did see that. I'll take this question offline. It's more directed toward the carriers and their cloud deployment, and we can catch up offline.

Andrew D. Ory

Sure, let's do that.

Operator

Our next question comes from Ajay Kasargod, Cornerstone Capital Management.

AjayKumar P. Kasargod - Cornerstone Capital Management, Inc.

A couple of questions. First, when you were talking, Andy, about the RCSC opportunity, what's the manner in which you collect revenue in that opportunity? Is it based on a box? Is it based on an IPO royalty revenue? I want to get a better understanding of that first, and then I have a couple of follow-ups.

Peter J. Minihane

It continues to be the same way with sole SBCs since the beginning of the company. It's all first per active session, and active RCSC session.

AjayKumar P. Kasargod - Cornerstone Capital Management, Inc.

So per active session, which includes, obviously, selling a box, correct?

Peter J. Minihane

In the current pipeline, that's correct, yes. Again, this is -- we were selling both access and interconnect SBCs into this opportunity. The value of RCSC services is exponentially related to the number of people you can reach. And so inter-carrier inter-service provider interconnects are critical to maximizing the value of an RCSC service.

AjayKumar P. Kasargod - Cornerstone Capital Management, Inc.

Okay. And then, Seamus, Just as a follow-up item is on CapEx and the inventory. Just on CapEx, give us some perspective, what exactly are you spending on? And then with the inventory, it's up of again sequentially. It's a nominal number, but it is this whip [ph] or is this final product because then you custom-build the product for the customer.

James J. Hourihan

So generally speaking, our inventory that resides in our books and records really is finished goods inventory. We subcontract the bulk of our manufacturing, either in New Hampshire or in Wisconsin so that many times, when we ship that product direct to order fulfillment that is an order will come in and we will ship it out of the Wisconsin facility. And so the inventory turns on that is infinite. Because we just -- we own it for a second, and off it goes. So most of our inventory, if not all of our inventory, would be finished goods inventory.

AjayKumar P. Kasargod - Cornerstone Capital Management, Inc.

Okay. And then there's one point of clarification when it comes to VoLTE and the opportunity. So you currently do have one project that's being deployed, correct, on VoLTE? And I just wanted to make I understand that scope of which how Acme is participating and maybe you can just give us some perspectives since VoLTE continues to get delayed, I wanted to understand how you're doing in your current project, how you're shipping, and why you have confidence that in future of VoLTE rollouts, Acme won't be left out.

Peter J. Minihane

Just to that, the publicly announced -- MetroPCS platform announced their partners in Voice over LTE and Acme Packet with playing the role of the access SBC and proxy CSCF. They originally hoped for production services to be available early in 2012. Subsequent to that date passing was now middle of 2012. It is now in the second half, okay, in terms of production services. There are -- the primary issues, again, according to publicly stated comments by Metro are related to LTE handsets and availability in terms of the appropriate chips that they need.

And as it relates to our position with these service providers, I think that almost everyone of these VoLTE service providers that we've either won or engaged in, we have been a valued supplier and partner to them for the better part of the decade. I mean, at least half a decade with many of them. So we've designed, developed, implemented, trained and engineered networks with them. These aren't fly-by-night relationships. So we can't say that everyone is going to be good to their word in terms of who they select. But we have a long relationship, and we have a very high degree of confidence with the folks who have been working with us and have selected us, as they implement VoLTE are going to continue to rely on Acme Packet as a valuable technology partner.

AjayKumar P. Kasargod - Cornerstone Capital Management, Inc.

Peter, I might have missed the answer to this, but what exactly are you spending CapEx on?

Peter J. Minihane

Just to say, that I'm going to jump in because I didn't answer to that.

Andrew D. Ory

Sure, yes.

Peter J. Minihane

If you take a look at the CapEx spend in the third -- in the second quarter, I'm sorry, it's approximately $6.6 million. Half of that directly relates to lab equipment and engineering or eval equipment that we ship out to customers. The other 50% is made up of a combination, furniture fixtures. We are expanding our existing facility here in Bedford, Massachusetts. So we have some of those costs capitalized as well. If you look at the rest of the year, we anticipate spending approximately $8 million in Q3 and Q4 on capital expenditure.

AjayKumar P. Kasargod - Cornerstone Capital Management, Inc.

And is that per quarter?

Peter J. Minihane

No, I'm sorry, about $4.6 million in Q3, $3.5 million in Q4, for a total of approximately $8 million for the year.

Operator

Our next question comes from Rod Hall, JPMorgan.

Rod B. Hall - JP Morgan Chase & Co, Research Division

I just got, I guess, one big question and a clarification. The big question is, when I look at what's been happening to you guys the last couple of quarters, it seems to me that you're lacking in visibility from these major Tier 1 carriers that you deal with in North America. And these guys tend to plan things out longer than that just a quarter in advance when they're -- when you're talking about changes to the network, usually and typically, a year to 18 months in advance, and yet you seem to be getting the news that they're making major cuts on pretty short order. And so I'm just trying to understand what's going on with visibility. Is there any hope to get a better look into what their plans are so that you're not getting surprised by things like 25% order cuts in the back end of the year because I can't imagine if you knew that before this quarter, you wouldn't have shared it with us and adjusted your business planning accordingly. And of course, it's a major problem for you guys, too, I'm sure, because you have to plan your business around what they're going to do. So That were first question, and I have more short one.

Peter J. Minihane

Sure. Let me just jump in, Andy, from the clarification point. I think what we're saying is that we anticipate that our top 2 North American service providers will be down 25% year-over-year, not just 25% in the second half of the year. So I didn't know what exactly...

Rod B. Hall - JP Morgan Chase & Co, Research Division

That's fine. I just -- I think that, that definitely wasn't the expectation last quarter and so....

Peter J. Minihane

No. So I'll let Andy talk about this one, a point of clarification.

Andrew D. Ory

Right. Your point is really a good one. I mean, I think, that one of the things that surprised us is the delay in LTE as it impacted other projects. And the spending -- there were 2 things. There was a complexity of LTE causing the delay, which impacted other projects and then there was also the notion of some M&A activity that adversely impacted CapEx. And I think that we had expected to see a tough first half of the year, which we did. And we expected to see a better second half of the year, and we're just not seeing a better second half of the year. Visibility will come 2 ways to us. One way is obviously having a significantly higher book-to-bill rate where we build backlog, and we are working on that. We know that, that's a problem, we need to deal with. And secondly, it's being part of a strategic program that's underway with a multiyear conversion. That will make a difference because that will provide us predictability as well. And that's what we hope to gain with a precision supplying technology to their LTE or their Voice over LTE deployment.

Rod B. Hall - JP Morgan Chase & Co, Research Division

Andy, just to clarify that, do you think that what's going on right now then, I mean, it -- I guess our piece anyway, most of the spending is related to enterprise adoption with SIP trunking and that sort of thing, and VoLTE really hasn't really started as a project yet.

Andrew D. Ory

Right.

Rod B. Hall - JP Morgan Chase & Co, Research Division

So the fluctuation from one quarter to the next is related to enterprise activity, which is kind of a macro-driven thing. And I guess the question I got though is when do you think you can get some visibility around VoLTE? We think that these guys already -- they have a plan, they know when they're going to deploy, they know how much they're going to deploy and when they're going to deploy, and you don't seem to be getting that visibility. So I'm just trying to understand, is there -- is it just that they don't know themselves? Or is it that you -- they're not telling you?

Andrew D. Ory

No, no. I mean, it's -- when you say they, right, it sounds like there's 3 or 4 people that own the consciousness. I mean, I think that -- well, we're seeing with the Tier 1s globally this schism between traditional IMS technologies and next gen or more Internet-like IMS technologies with our SMX that we're putting forth. And so, you'll find that these folks have a couple of different initiatives, and I don't think that there is clarity 4 years from now what their architecture or business models really going to look like. And when you're playing for all the marbles that these folks are because their wireless subscribers and their market position over time is all that's going to matter to their value proposition, that kind of uncertainty is difficult, and it does adversely impact our ability to have visibility. So we think that you're going to continue to see throughout the back-half of 2012 and into 2013 a hybrid notion where some of these service providers are going to pursue, at the same time, a very large, big iron traditional IMS deployment, and also, either a cloud-based or over-the-top IMS software deployment with SMX-like technology. So I think there's still a lot of confusion.

Peter J. Minihane

But in the context of some of the service providers that made public announcements. One of the public announcements is basically moved out of Voice over LTE almost a full year. And that was a statement that came out just in Q2, so...

Andrew D. Ory

So [indiscernible] that they're spending on SIP trunking and the projects of LTE have begun on the radio access and transport side, but it's unclear on the services side.

Rod B. Hall - JP Morgan Chase & Co, Research Division

Okay. And then my short one was just you guys have the inclination of reduce costs here, given all this volatility.

Andrew D. Ory

What we've discovered -- it's a fair question, what we have discovered throughout all of July, is that the opportunity for us to be involved in delivering these services over these LTE networks and solving enterprise issues for session board control connectivity or SIP trunking activity, Microsoft Lync integration and bring your own device is just such a large opportunity we're the only pure play and we're so well positioned, that it would be a mistake to not continue to invest. There are 850 people or so right now that are working. We are all very busy, and we're working with great existing or future prospect customers. And I think that unlike other folks that are either hybrid or are legacy providers that are going to have challenged business models, we can use our cash flow, and we can even use our profit to continue to invest. And we feel that if you come out of this period of tremendous uncertainty in communications, we're going to be in a much stronger position relative to everyone else than when we entered it. And so now, you're going to continue to see us invest.

Operator

Our next question comes from Simon Leopold, Raymond James.

Simon M. Leopold - Raymond James & Associates, Inc., Research Division

I wanted to get a quick qualification on -- you did talk about your operating expense trends for the balance of the year. And I guess, what's implied out of this is that the gross margin comes down, perhaps in the neighborhood of 80%. And I just want to make sure I'm thinking about that in the right way.

Andrew D. Ory

So the gross margin, Simon, I think we have enjoyed gross margins at 83% of both Q1 and Q2. We don't see that coming back -- coming down in the second half of the year. If it does, it's coming down by 0.1% or 0.2% There's nothing that would move the needle. The operating margin, on the other hand, are at about 27% in Q1 and 21% in Q2. We think they will come down, obviously, as we continue to invest in building a great company. I think I had mentioned the increase from Q1 -- I'm sorry, Q2 to Q3 at approximately $40 million. And then another $2 million or so from Q3 to Q4. Again, most of those expenses are -- 70% to 75% of our expenses are employee, employee-related costs. We will have some additional depreciation and some additional noncash expenses as it relates to our expansion to our existing headquarters here in Bedford, Massachusetts, and implementation of a new Oracle system that we have scheduled for October 1. So there's a combination of a little bit of everything as opposed to any one item.

Simon M. Leopold - Raymond James & Associates, Inc., Research Division

Okay, that's very helpful. Now if we think about the trends in terms of the weakness from the top 2 North American customers, I guess -- sort of following up on some of the other questions -- is the weaker trend reflective of sort of run rate business where they're absorbing capacity? Or is it more reflective of projects, newer projects like VoLTE that you had been anticipating in the second half of '12 sliding out in time?

Andrew D. Ory

I'd say it's mostly the latter. It's -- the sense that we got and the data that we uncovered as we talk with our sales organization is that is the projects that were funded that people are spending on, you can certainly see SIP trunking as an example. They're continuing to invest in it. Other projects that relate to unifying a service core or providing services to their subscribers, they're not really putting as much money into that as they are to their getting LTE networks up and going.

Simon M. Leopold - Raymond James & Associates, Inc., Research Division

And then in light of the shifting mix, I'm just wondering if you've got other customers that get close to or that you think of showing up in terms of 10% customer kind of range. You had made some public announcements at Telefónica. I'm just wondering if we can we expect to see maybe some new entrants in to the category.

Andrew D. Ory

You mean at the 10% level?

Simon M. Leopold - Raymond James & Associates, Inc., Research Division

Well, 10% or even within spitting distance of 10%. That would at least become close.

Andrew D. Ory

There are a couple of European Tier 1s that we have done an awful lot of business with that have significant wireless properties, one that has maybe 25 or 30 wireless properties globally that -- and both of these are looking at our SMX technology. They purchased an awful lot of SBCs, and they care an awful lot about VoLTE. Yes, their spend could be very significant, but it's not something that I am counting on for the second half of 2012.

James J. Hourihan

So I think if you look back in the end of 2011, we really had 3 customers: Verizon Wireless, Verizon Business and Nokia Siemens, each individually in a distinct quarter. But we didn't have anybody multiple 10% customers in any quarter for a 1.5 years now.

Andrew D. Ory

Right, right. That's right.

Simon M. Leopold - Raymond James & Associates, Inc., Research Division

And really, my question is in terms of the outlook over the next several quarters whether you have these Tier 1 Europeans in that neighborhood now.

Andrew D. Ory

It's hard, Simon. You can understand, it's hard for us to see beyond December 31, with any objectivity, and feel comfortable making statements on this call about that. I would say that if you look at 2 of our largest customers, they've each purchased well over $100 million a year each. And they're -- at the very beginning of their journey converting their subscribers from TDM to IP, there's an awful lot to go. And I would say that every one at the top 25 service providers, almost all of which are our customers, have the same buying potential and will purchase the same amount of technology from somebody, technologies required for them to convert that kind of large network.

Operator

And our next question is Simona Jankowski with Goldman Sachs.

Simona Jankowski - Goldman Sachs Group Inc., Research Division

I just had a handful of questions around the VoLTE, maybe...

Andrew D. Ory

Simona, it's great to hear you, I can barely hear you though.

[Technical Difficulty]

Simona Jankowski - Goldman Sachs Group Inc., Research Division

So just a couple of questions around VoLTE. Number 1, Andy, who do you most often see in the VoLTE bake-off? And how do you expect this to develop as you guys start getting some of these design wins? In the 6 line opportunities, you often were the single source. Do you think this will be similar? Or do you think it's more often than not that you're competing for 1 of 2 slots?

Andrew D. Ory

It doesn't feel like we're competing for 1 of 2 slots. It feels like they're trying to make an architectural decision. I would say that in the traditional IMS technology providers for VoLTE, it would be Huawei, Ericsson and ALU is who we would see most often. And would you -- we're you saying this?

Peter J. Minihane

Absolutely.

Andrew D. Ory

And probably, everyone else added together is almost 0. Those really are the 3. And so when those 3 are in there trying to offer or competing for a VoLTE solution...

Peter J. Minihane

And NSN.

Andrew D. Ory

And NSN, to some extent, that would be right.

Peter J. Minihane

Yes.

Andrew D. Ory

And so when they're in there competing for an IMS solution, we end up competing on the access SBC, the peering SBC and the P-CSCF. And we do very well, but those are our main competitors. What we -- what's happening is that their people are seeing how expensive it is to implement. In fact, I met with one African carrier that had recently -- a service provider rather -- that had recently purchased Ericsson IMS technology and it just -- it's beside themselves and had decided they came to Acme and they said, "You know, I want something that's much more Google-like," and we showed them our SMX. And I'm starting to see globally we're getting a lot of traction with that message. And in that message, we're really competing directly for the core routing and all the associated session delivery elements against the ALU, Huawei and Ericsson and NSN.

Peter J. Minihane

The service providers spent 4 years trying to get it to work, and it doesn't.

Andrew D. Ory

Right. So I -- so when I actually think that it's a battle between the edge and the core, and we make very smart edge technology and they make staple core signaling technologies, and many, many things that move into the edge. And we can augment it with the core at much lower costs, and you still need the edge anyway for normalization, security, the quality of experience. And so I think we have a much better position to actually attack a larger opportunity for these VoLTE deployments.

Peter J. Minihane

And my inclusion of NSN is only in the context of core, not the FTCs.

Andrew D. Ory

Right, where the ALU and Ericsson and Huawei would have SBCs too.

Peter J. Minihane

Correct. That's correct.

Simona Jankowski - Goldman Sachs Group Inc., Research Division

Okay. So just to make sure I understand all of that correctly, so when you say that you're usually competing just for one architectural choice as opposed to 1 of 2, I think you might have been just referring to the core because it sounds like there's also kind of this other really way of looking at it, in which case, they -- even if they were to choose one of these IMS vendors for the core, you will still then have an opportunity in the access of the network? Is that right?

Andrew D. Ory

Yes, the way to think about it is old IMS we compete with traditional SBC technology. We may not be the only one. Our goal would be to be that single source, if not, then to be the primary source. New IMS that tends to be us going for all the marbles, and there's very few people that actually, if anybody, that can offer that kind of a solution.

Simona Jankowski - Goldman Sachs Group Inc., Research Division

Okay, got you. Now, can you also just quickly recap take for us how many VoLTE discussions are kind of bake-offs you're involved in currently? And how many have already been decided? I think you obviously met with PCS, that's one. But have any actually been decided? And of those that have, what has your win rate been? I know you talked about 90% plus overall, but how does that compare to what you're seeing early on in the VoLTE discussions?

Andrew D. Ory

Right. So we've secured 10 architectural wins. They span -- again, from a product perspective, they range everything from access SBC, interconnect, in some cases, the SMX. It varies by service provider, quite frankly. We are engaged in 26 other projects, if you will, or opportunities that are in the process of either they're pre-RFX in terms of actual testing of products prior to RFX activity, RFX or post-RFX testing for final selection, okay?

Simona Jankowski - Goldman Sachs Group Inc., Research Division

And of the 10 that you won, I mean, are there any that did not go your way? So can we kind of get a sense of the win-loss ratio this early?

Andrew D. Ory

By definition, all 10, we won.

Simona Jankowski - Goldman Sachs Group Inc., Research Division

But I mean are there, say, 2 or 5 or 10 that you didn't?

Andrew D. Ory

There's probably 2 or 3 that we can identify that either were not completed at all or were...

Peter J. Minihane

Right. There's 2 in Asia that we know about, one of which looks like, we think we're getting more data, looks like they're trying to use some of their own technology, and one of which is initially launching with no real SBC technology that we can see. We're going to get more data. I would say, Simona, that when we look at the top 25 carriers, Seamus, I don't know if there's any that would go in the lost column yet.

James J. Hourihan

I haven't done that analysis. I don't think any of those are in the moment, I don't think so.

Peter J. Minihane

Simona, we have to leave it there.

Operator

Our last question comes from Brent Bracelin with Pacific Crest.

Brent A. Bracelin - Pacific Crest Securities, Inc., Research Division

I guess, Andy, I'm sorry we hear a little bit with the decision not to kind of rightsize the cost structure. Obviously, you've seen a material unexpected change in demand at the top 2 North America customers, the international environment clearly has become more challenging. You now have some architectural debates going on, on how to rollout Voice over LTE. As we talked to kind of Juniper, they're actually a little more optimistic on the North America operator spend that they believe will pick up for them in the second half of the year. And then I guess, if I look at the outlook here, the midpoint suggests revenue could be down 3% yet profits could be cut in half. And my model off -- margins fall to 15% in the second half of the year. So my specific question is what would it take for you to pause or reduce your internal spending plans? And then secondarily, as we think about this 15% off margin in the second half of the year. If you don't reduce spending, how should we think about your longer-term profit margin? Is this an environment where you're just going to continue to have to invest to compete? And we should rethink that longer-term off margin profile in the 30% range?

Peter J. Minihane

Okay, Brent, that's a very fair question. Seamus wanted -- when you mentioned the Juniper part, you jumped up, you wanted to say something [indiscernible] the rest...

James J. Hourihan

Yes. I mean, Juniper's selling different types of products than we are. So Juniper is selling the net IP transport equipment called the Evolved Packet Core, which needs to go in to enable LTE data service, okay? Now we have a product like our diameters signaling controllers that would go in to that environment at the same time in large initial LTE deployments, okay? But that else -- that would precede purchases and deployments of Voice over LTE infrastructure, like our SBCs and our SMX products. That's the relationship to the sort of timing issues.

Andrew D. Ory

So Brent, you raised a very fair and valid question about what should we do, how we should we look at our disposition of spending, investment versus -- I think, you said rightsizing the company. You talked about architectural debate. Actually, the architecture debates that are emerging all play to our advantage, every single one of them. And so as we look around and see our market opportunity and market positon, we believe the right thing is to continue to invest. Now if we were investing equity dollars, if we were impelling the viability of the company, or we thought this was an 18 to 36 months kind of thing, I think we'd have to process it differently. But the message from the North American sales organization was, hold on. Hold on, stay focused because every one of our customers needs this technology, and they all want it. We're getting 110% of what the market will bear. We know that's not enough. But hold on, and keep invested. The same thing is what we heard from EMEA and from CALA. And as we go talk with customers, the confusion at some point is going to have to clear, and we're going to be in a much better position than everybody else. So the folks that have to de-invest because they're burning equity dollars are just going to be disadvantaged. So it's our opinion that we will continue to invest. We sat down and discussed it with Board. We're maintaining our investment plan for the duration of 2012. We certainly will begin a planning process in 2013, and that time, we'll have a better sense of what we think the timing is to return to the kind of operating margins you're talking about. Because the gross margins ought to stay in the low-80s, consistent where they've been for the last 6, 8, 10 or 12 quarters, it puts a lot of leverage in our business. So instead of doing $67 million this particular quarter, if we had done $74 million or $75 million, the difference in terms of EPS and operating margin would be very, very significant. And so, there isn't a lot of additional revenue that would make a -- required to make a meaningful difference. And we believe that, that revenue is there. And that's why we want to continue to invest. But it's a very, very fair question.

All right. Well, so I'd like to thank everyone for joining us this evening. And 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 very much, and good night.

Operator

Thank you, ladies and gentlemen. This concludes our conference for today, and thank you for using AT&T Executive Teleconference Services. You may now disconnect.

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