Seeking Alpha
We cover over 5K calls/quarter
Profile| Send Message|
( followers)  

Dragonwave, Inc. (NASDAQ:DRWI)

F2Q12 Earnings Call

October 11, 2012 8:30 am ET

Executives

John Lawlor – Vice President of Investor Relations

Peter Allen – President, Chief Executive Officer & Director

Russell Frederick – Chief Financial Officer, Vice President Finance, Secretary & Director

Analyst

Eyal Ofir – Canaccord Genuity

Blaine Carroll – Avian Securities

Maher Yaghi – Desjardins Securities

Paul McWilliams – Next Inning Technology

Brad Erickson – Pacific Crest Securities

Steven Li – Raymond James

Kris Thompson – National Bank Financial

Scott Penner – TD Newcrest

Operator

Welcome to the Dragonwave second quarter fiscal year 2013 results conference call. At this time all participants are in a listen only mode. Later we will conduct a question and answer session and instructions will follow at that time. As a reminder, this conference call is being recorded for replay purposes. I would now like to turn the call over to your host for today Mr. John Lawlor, Vice President of Investor Relations. Mr. Lawlor, please go ahead sir.

JJ

I would like to welcome you to our second quarter fiscal year 2013 financial results conference call. With me today are Dragonware’s Chief Executive Officer Peter Allen and the company’s Chief Financial Officer, Russell Frederick. As a reminder, today’s call is being webcast live on the Dragonwave investor relations website at www.DragonwaveInc.com. You can access presentation slides from the same site. The webcast will be archived on our site and available for replay shortly after we conclude the call.

I hope you’ve had an opportunity to read the earnings press release we issued after the close of markets in North America yesterday which provides detailed financial information on Dragonwave’s second quarter results. Slide Two please. Before I begin I would like to remind everyone that today’s call contains forward-looking statements or information. Actual results could differ materially from the conclusions, forecasts, or projections in the forward-looking information.

The forward-looking information reflects certain material factors or assumptions. Factors which could cause our actual results to differ materially or that were applied in drawing such conclusions or making such forecasts or projections are contained in the risks factors section of our annual information form dated May 11, 2012 which has been filed on SEDAR and EDGAR. Material risks factors and assumptions related to our revenue forecast for the upcoming quarter include our expectations regarding our customers’ plans and requirements and volume and timing of orders, shipments, and revenue recognition.

Material risk factors and assumptions relating to our expectations for the Microwave Transport Business acquired from Nokia Siemens Networks and our relationship with NSN include our beliefs regarding the growing prospects in our industry and markets, our ability to successfully integrate the product lines acquired from Nokia Siemens Networks, our expectations regarding potential synergies and prospects for the business, and our expectations regarding end customer demand.

Slide Three please. Russell will now revenue the company’s financial results and then Peter will provide a business update and discussion. Following Peter’s remarks we will open the call for questions. We plan to finish the call by 9:30 a.m. Eastern Time.

Russell Frederick

I would also like to welcome everyone to the call this morning. On Slide Four please. I would like to remind everyone that all currency figures are in US dollars and were prepared in accordance to US Generally Accepted Accounting Principles unless we specifically state otherwise.

On Slide Four you can see that total revenue for the second quarter of fiscal year 2013 was $44.2 million compared to $13 million in the first quarter of fiscal year 2013 and $13.6 million in the second quarter of fiscal year 2012. Dragonwave had one customer, namely Nokia Siemens Networks which generated more than 10% of revenue in the second quarter. Revenues for our new NSN OEM channel partner totaled $33.6 million or 76% of total revenues in the quarter.

On Slide Five please. Gross margin for the second quarter of fiscal year 2013 was 15% compared to 32% in the first quarter fiscal year 2013 and 42% in the second quarter of fiscal year 2012. The gross margin in the second quarter reflects the inclusion of an inventory impairment provision of $2.6 million. Without the inventory provision the gross margin in the second quarter was 21%.

Total expenses in the second quarter of fiscal year 2013 were $25 million compared to $13.3 million in the first quarter of fiscal year 2013 and $13.4 million in the second quarter of fiscal year 2012. We have taken actions to actualize and reduce our expenses. We expect that expenses will reduce to approximately $19 million in our third quarter before restructuring charges associated with actions we currently have in place.

Comprehensible loss applicable to shareholders in the second quarter of fiscal year 2013 was $1.1 million or $0.03 per basic and diluted share compared to a loss of $2.2 million or $0.06 per basic and diluted share in the second quarter of fiscal year 2012. These results include a one-time gain of $19.4 million associated with the purchase price accounting treatment for the NSN acquisition.

Please move to Slide Six which highlights some of the key balance sheet metrics. Days sales outstanding for the second quarter of fiscal year 2013 was 46 days based on ending balance. This compares to 102 days in the first quarter of fiscal year 2013 and 49 days in the second quarter of fiscal year 2012. Inventory at the end of the second quarter of 2013 stood at $31.1 million compared to $25.6 million at the end of the first quarter. Inventory turns in the second quarter were 3.4 compared to .6 turns in the first quarter.

Total cash, cash equivalents and restricted cash was $44 million at the end of the second quarter of fiscal year 2013 compared to $42.6 million at the end of the first quarter. In the quarter we drew $15 million from our debt facility to complete the purchase of NSN’s Microwave Transport Business for $12.7 million. We incurred a cash adjusted loss of $13.2 million which was offset by a change in working capital of $13.3 million and we purchased $1.1 million in long term assets. [On] balance cash increased by $1.4 million during the quarter.

This concludes my remarks. I will now turn it over to Peter Allen.

PP

You have seen from our press release yesterday that our Chairman Gerry Spencer has stepped down from our board of directors for family reasons and Claude Haw has assumed the Chairman’s responsibilities. I want to acknowledge the service that Gerry has provided to Dragonwave and I wholeheartedly thank him for his contribution. Claude has been a Dragonwave director for many years and we know he will serve us well in this new role for him.

We’re now one quarter into the post closing relation with NSN and I thought today it would be appropriate to provide greater detail into the breadth of activities that we are involved in connected with the integration of the Microwave Transport Business we purchased from Nokia Siemens Network. First, we continue to connect with the Nokia Siemens Network sales force in a wide expanse of regions globally.

In each case we’re working to ensure that Dragonwave’s regionally based employees in Europe, Dubai, India, Singapore and here in the Americas are closely connected to Nokia Siemens Networks and are working closely with them to support them in bringing our products to those markets as part of NSN’s mobile broadband solutions. As you can imagine at this still early stage this is working well in may geographies throughout the world and in some regions we still have work to do to ensure that the right support is available.

To this point in time I personally have visited with Nokia Siemens staff in Europe, Dubai, Doha, Deli, Mumbai, Singapore, Malaysia and Indonesia and with them I have had the opportunity to visit with many mobile operator end customers. This has reinforced for me that NSN has the solid long standing relationships to leverage their world class carrier grade solutions. We are working diligently alongside NSN to add value through our world class microwave solutions in these major accounts.

At the moment we have manufacturing taking place in four countries. Our supply chain people are fully engaged to ensure we have the right products in the right places to serve customers who are accessing our broader portfolio following the acquisition. Simultaneously we are also managing the migration plans to reduce the number of future manufacturing sites. There are daily challenges associated with this, less in number than a month ago but still sufficient to keep us fully occupied.

We are preparing for the transfer of the R&D employees in Shanghai from NSN to Dragonwave and are executing all the tasks necessary to make this happen. Our service agreement with NSN covering R&D in Italy also continues. In both cases our goal is to build integrated technology and development programs along with our existing capabilities in order to maximize R&D productivity, technology reuse and the earliest possible market introduction of innovative products.

Our strategic supply and technology agreement is a comprehensive framework covering all of the aspects of the supply of our broader portfolio range from forecast to lifetime support. There is a considerable footprint of historically supplied products and ongoing support services are being deployed here. There are numerous transitional service agreements covering all of the activities that support the business which naturally take some time to transition from Nokia Siemens Network to Dragonwave. These transitions are in advanced stage and most of them will wind down by the end of this calendar year.

I hope this gives you some appreciation of the breadth of the transition and the integration phase that we are going through. Of course, our work with Nokia Siemens Network is all against the backdrop of NSN’s publically announced global restructuring of its resource space that they are in the process of executing along with the business process reengineering that goes hand in hand with such a restructuring.

I’m pleased that we can provide a range of guidance that is higher than the one we provided last quarter. Our business is truly global now and we see all regions contributing to what we anticipate will be growth in Q3. The quality of the mobile broadband operator base served by this unique combination is very strong and we see strong deployments in all regions the Americas, Europe, Middle East, India and in Asia. We look forward to completing our integration tasks and advancing the opportunity of building our market globally.

In conclusion, let me emphasize that our overarching objective is a targeted return to the profitability of our business. We have guided higher for our fiscal third quarter and we have adjusted our expenses base towards achieving this objective. We will continue to monitor our progress as we move towards this key objective and respond appropriately.

Thank you and I’d like to return the call to the operator to begin the question and answer session.

Question-and-Answer Session

Operator

Your first question comes from Eyal Ofir – Canaccord Genuity.

Eyal Ofir – Canaccord Genuity

Peter, maybe you can give us a little bit of a view in terms of the integration process? Obviously, it’s been three months and you’ve given us a lot of high levels here but when you actually get down to it and you speak to customers what’s kind of the reaction and what kind of things are you starting to see in your pipeline because of this transaction?

PP

Firstly, as I go around the world I see good activity in every region and as a result of that our business is now truly global and geographically diverse with strong revenues coming in-in all regions. Clearly there’s been a need as we are going through this initial phase to explain the transaction to customers, to explain the nature of the relationship to customers, how it’s all going to work. One of the most important things that customers ask me almost in every case is are the products that I’m buying today going to be discontinued in the future or is my investments going to be stranded?

The good news is we’re in a very good position to allay their fears because the similarity between the products that we had in our portfolio before and the products that we have acquired are on a very, very almost identical technology base and therefore evolving them together and being able to merge future products to the high standard, if you like, of commonality rather than having to throw something overboard means that we can present a very strong continuity and innovation story to the customers that we meet and therefore their current investments are perfectly secure.

That’s been one of the strongest elements of the dialogs that have gone on with customers. I think the other questions have been about, “Well does this mean anything differently about who I deal with?” And they want to know that their existing contracts and relationships with Nokia Siemens remain the ones that will form the relationship with them. Thirdly, is, “How will Dragonwave support me in the region?” So I’ve always gone along, met these customers with the Dragonwave regional staff, we’re pretty strongly aligned geographically with the locations of Nokia Siemens so there is a local person on the ground for that market who can provide immediate support for Nokia Siemens and the end customer.

Those have been the kinds of dialogs that have been going on in the last period. Of course then it bridges to, “Okay, that’s great. Tell me about your future roadmap.” And that’s always pleasing when you get to talk to customers about the future.

Eyal Ofir – Canaccord Genuity

When you look at the opportunity global where are you seeing from a regional standpoint, the largest opportunities coming out of? What does it look like from a pipeline standpoint? Do you see potentially larger network deployments happening over the next six to 12 months or is this still kind of upgrades and potential deployments a ways away?

PP

No, I would say in every region there are – not every customer but certainly enough customers who are modernizing their networks and doing major rollouts. To give you some sense, and I cannot be absolutely precise in this early phase when there’s still some information kind of glitches but to give you some sense last quarter, Europe was about 30% overall of the revenue, Middle East was about 20%, India was about 20%, Asia was about 15% and Africa was about 15%. I hope you can see from that the business is, as I indicated in my prepared remarks, truly global.

In each of those regions there are customers who are doing exciting modernization rollouts. We’re very pleased to have now that global spread and wider customer base than we had previously.

Eyal Ofir – Canaccord Genuity

I’d like to ask you also about the gross margin levels. You talked about how you have manufacturing in four countries and you’re going to reduce that to have a lower number of facilities. Obviously 21% is not a great number to have from the gross margin standpoint so is your margin still in the 30% range and how long do you think it will take you to get there?

PP

Absolutely, more is better. The start point here in particular, and of course because with the model we’re operating here is we’re working through and getting advantage of the great spread of channel coverage that Nokia Siemens brings to us, that means that the market margin that is available has to be shared between both the channel and the product. As a result, we won’t see the same margins that we would see if we were selling exclusively directly. At the same time, the expense basis associated with selling directly in this spread of activity across so many of our countries globally would put an incredible pressure and strain on the need to increase our operating expenses.

So the model is different. We do still however, see that there are opportunities to strengthen our gross margin at this stage. I wouldn’t be able to give you some projection as to the rate at which we could increase that but it is certainly part of our target model that that will be increased.

Operator

Your next question comes from Blaine Carroll – Avian Securities.

Blaine Carroll – Avian Securities

A few questions if I can. Peter, first of all on the NSN business is there a way of knowing how much of the revenue came from new contracts that NSN had won were they were putting in the Dragonwave radios or whether it was expansion of existing network?

PP

I’m not sure I fully understand the distinction.

Blaine Carroll – Avian Securities

I guess what I am trying to get at is as the NSN sales force is going into a new opportunity are they positioning the Dragonwave radio or are they looking at others? Whereas if it is an existing deployment where they’re the incumbent there, the customer getting back to your question about are these products going to go to end of life, the customer is probably more likely to continue to order the radios that they’re familiar with.

PP

I think there are a great many reasons that go into why customers select certain products and part of it of course is what they’ve used in the past and part of it is the network management environment that is provided so they can manage the product. But of course, the other thing is the upgrade and the innovation in terms of capabilities that are being brought towards them. I think some of these networks represent expansion where the operator themselves is going into a new area and putting capabilities into a new market in their operating domain.

In other areas it’s an upgrade that’s for example from maybe 2G to 3G or even to 4G. In both instances I would describe them as the operator certainly has freedom because even a modernization means often the previous equipment has to be taken out and new equipment put in. The operator certainly has the freedom to have that part of his network competed for and in those competition, Nokia Siemens is positioning the Dragonwave product.

Blaine Carroll – Avian Securities

A question on T-Mobile, my understanding is that NSN and Ericsson are building out the LTE network for T-Mobile and if you look at the FCC website and look at the microwave lengths that T-Mobile has registered they registered a ton of lengths with tons of competitors, but you don’t see any microwave lengths with NSN. Are you in bidding on the T-Mobile microwave backlog lengths or is NSN in there bidding on them? And why aren’t there any filings or very few filings on the FCC website, do you know?

PP

I can’t get into too many details about an individual customer situation because of non-disclosure obligations but what I would say is I do believe T-Mobile had some inventory of microwave lengths associated with a purchase some years ago and its quite understandable they are working off that inventory before they make decisions about future sourcing.

Blaine Carroll – Avian Securities

I probably don’t expect you to comment on this but right before your call started there was news out there about Softbank taking an investment in Sprint and that they’re actually looking at Clearwire and this could be a positive for Dragonwave because Clearwire could start spending again. Any thoughts on that? I really don’t expect you to comment on it but I figure I’d throw it out there.

PP

Obviously I have no information about such a piece of news. I’m always pleased if there’s going to be a merger, that each of the parties already use Dragonwave’s products.

Blaine Carroll – Avian Securities

Russell, did you say that op ex would be $19 million in the third quarter?

Russell Frederick

Yes, I did.

Blaine Carroll – Avian Securities

As Shanghai employees come on what would that move up to in fourth quarter? Does it trend back up or are these two $6 million restructurings still working through?

Russell Frederick

It’s important to understand the expenses associated with R&D in both Shanghai and Italy are already in the $25 million for Q2. I think we explained earlier we have services arrangements in place so those expenses will not be an increment in Q3 they’re already in.

Blaine Carroll – Avian Securities

Just getting back to the previous question on gross margin, how should we look at that over the next couple of quarters? Do we step it up 200 basis points or leave it sort of at the run rate that it’s at now?

PP

As I said before, I don’t think I want to give you any guidance around the trajectory beyond our target is return to profitability that we already indicated.

Operator

Your next question comes from Maher Yaghi – Desjardins Securities.

Maher Yaghi – Desjardins Securities

I wanted to maybe go back to some of the discussions or assumptions you’ve given us to work with when you did the NSN transaction. If we looked forward a few quarters what is your expected run rate? Has it changed, has it gone up or down? And for the whole company’s revenue top line? The second question I had is when you look at the funnel of potential contracts you have right now with NSN and with your own products that you had before the transaction can you maybe tell us where the predominate activity is happening right now in terms of geography?

PP

Firstly, let me say broadly speaking I think the targeted that we indicated to you all at the time of the acquisition after four full quarters it remains our target. More importantly than the specific numbers I would say the intention to be profitable by that time remains our strong objective. We continue to look at the pipeline and we’ll adjust our actions appropriately as we see that pipeline mature.

What I would say today, largely from accounts that are already existing customers, the pipeline is one that represents very broad activity globally. The sort of percentages that I indicated for last quarter I would say remains the case. The forward pipeline in each of those areas has strong opportunities that will contribute to that objective and we’ll continue to monitor that. This business has lead times modulated in less than 10 weeks and so therefore we have an order profile that reflects that so whatever is going to happen is going to happen quickly. But at this stage I would say the pipeline geographically is very diverse and would be consistent I would say with us being able to achieve objectives.

Maher Yaghi – Desjardins Securities

So profitability four quarters into the transaction?

PP

After four quarters so in the fifth full quarter.

Maher Yaghi – Desjardins Securities

Just a quick question for Russell. In terms of cash flow use, can you maybe help us in some guidance in terms of what type of cash use we will have before we reach that profitability mark? How much more is required in working capital we will see you guys need until that profitability threshold?

Russell Frederick

It think the way to think about it is we expected the first two quarters, so Q2 and Q3 to be kind of fully into very heavy transition and integration activities paying for the transaction and financing working capital. In the second quarter we actually got quite a significant benefit from the working capital in terms of cash and you saw that our cash actually improved slightly rather than being a consumption of cash. But because working capital is kind of a timing driven thing we would not expect to see those same benefits in our third quarter and so we do expect cash consumption in the third quarter probably in a range around $15 million.

Now after that we would expect much less cash usage. I’m not going to get into it by quarter because we will be through the integration phase and the transition phase and as we said earlier, we’ve taken actions that are bringing our expense basis down quite significantly. So that’s how I’m thinking about cash right now.

Maher Yaghi – Desjardins Securities

When you look at it maybe longer term, your comfort level in terms of having enough cash currently to go through these couple of quarters of heavy cash use, how is your coverage in terms of having the cash to supply to continue to grow the revenue line, your comfort level in terms of that?

Russell Frederick

My comfort level is actually quite high. I come from a treasury background so I think about and worry about honestly, cash every day. That’s what I do and based on actions that we have in place and the facilities we have in place my confidence is actually quite high.

Maher Yaghi – Desjardins Securities

One last question, when you see the activity out there are there contracts that you’re bidding on right now that could be of significant size? When we look at the funnel, the size of the contracts that you’re bidding on, are they of similar size or is there one particular contract if you get it we could see really a step up in your revenue run rate?

PP

As I indicated previously, being geographically more diverse we see really interesting activity in every region. So no, there isn’t one single contract in one place that would have the effect that you indicated. In each region I see some operators whose business suggest to me that it’s going to be run rate and flat. There are some projects ending in particular customers and other customers we see major expansion projects where they’re taking this moment to invest in what I would describe as a significant upgrade of their networks. So our view on the pipeline is that there are a sufficient number of - and what I labeled in order to provide the guidance we gave, is that there are sufficient picture from all of that to support what we said today.

Operator

Your next question comes from Paul McWilliams – Next Inning Technology.

Paul McWilliams – Next Inning Technology

It would be the August quarter of 2013 or your fiscal Q2 2014 where you envision profitability?

PP

That’s correct.

Paul McWilliams – Next Inning Technology

Would that be profitability on a free cash flow basis as well as GAAP and traditional non-GAAP measure?

PP

Yes.

Paul McWilliams – Next Inning Technology

What is your longer term operating model GP or operating profit?

PP

I have nothing to say beyond what we’ve said previously on previous calls which is at our return to profitability we were targeting I think a 5% operating margin but the principle focus we have at the moment is getting to that profitability.

Paul McWilliams – Next Inning Technology

What would be the revenue level that would be required for profitable operations in fiscal Q2 2014?

PP

At the moment we’re targeting as I said before on the call, broadly speaking we’re targeting that what we’ve talked about previously which was $75 million of revenue. But we will continue to monitor our pipeline against this objective and adjust the business accordingly to the actual opportunities that are maturing along the way.

Paul McWilliams – Next Inning Technology

What percentage of your business in the last quarter was in the hybrid radios versus pure IP?

PP

I couldn’t tell you that just as I sit here. I would say the majority of that was taking place in India and Asia but we could give you some better percentage later on today if you wish.

Paul McWilliams – Next Inning Technology

How far through the deployment are you with your major US wireless carrier that’s contributed so heavily during the last quarters?

PP

Again, I would hazard a guess around maybe two thirds but I could give you a more precise answer later if you wish.

Paul McWilliams – Next Inning Technology

It appears that the business from that carrier dropped off noticeably during Fiscal Q2 in spite of the fact that there was quite a large amount of FCC licenses granted during July. Possibly that FCC notification is a long trailing indicator of something that happened during the previous quarter? I’m trying to rationalize that big bump in FCC registrations versus the decline in North American Dragonwave sales.

PP

In any one deployment there will be ebbs and flows as customers deal with the totality of a deployment in a market. It may be that the microwave was put in place but they were gated for something else. It could be just the ebb and flow between the completion of one market and the start of other markets that they are deploying in. I don’t think there’s anything in particular associated with a quarter-to-quarter impact.

Paul McWilliams – Next Inning Technology

In July there were quite a number of registrations in the Illinois area. Would that have been recognized or in the prior quarter most likely on your revenue?

PP

Very possibly.

Operator

Your next question comes from Brad Erickson – Pacific Crest Securities.

Brad Erickson – Pacific Crest Securities

Back to the op ex, in the quarter just reported you guys touched on it somewhat earlier but I just wanted to clarify you guys dropped down to that $19 million run rate in op ex in Q3. Can you kind of give us a little bit more color on of the three op ex segments what’s moving the most? It sounds like R&D is obviously taking a pretty big step down, but any color you could provide there again, that would be great.

Russell Frederick

I think you’re right you’ll see step down in R&D, step down in G&A but sales and marketing being relatively constant.

Brad Erickson – Pacific Crest Securities

Going forward, is that a reasonable run rate to be thinking about? I understand you guys have mentioned sort of the trek towards profitability and everything over the next four quarters and understand how the revenue run rate obviously would imply certain things but how should we be thinking about that op ex run rate going forward?

Russell Frederick

As we go on that journey to hit that profitability point that Peter described, I think there’ll be three elements. There will be the revenue growth that is inherent in that model, there’ll be the gross margin actions that hopefully we can match that up and there’ll be also further expense rationalization and reduction. I think you’re going to see all three elements at work and I think what we’re going to do as management is get the right [inaudible] those.

PP

I’d like to just come in with a point here. During my prepared remarks and in response to some earlier questions I talked about where we are, the breadth of the integration phase that we’re in and I also indicated we’re still in that early phase of that integration. As we are able to completely fully the integration we certainly would expect to see further benefits in our expense basis associated with that.

Brad Erickson – Pacific Crest Securities

One follow up, just from a high level carrier spending perspective, any meaningful shifts that you guys have seen over the last 90 days and now versus a quarter ago? Are any particular geographies better or worse from a carrier spending perspective that you guys are hearing?

PP

I wouldn’t say there’s anything that I would remark upon that was that was true globally.

Brad Erickson – Pacific Crest Securities

I’m asking specifically around your business.

PP

There’s not one thing that kind of dominates from a global perspective. In each region there are some different dynamics. Certainly we’ve seen in the Middle East – I’ve talked to you in the past about some of the delays that have occurred because of the actions of regulators and we’ve certainly seen some of those ease during recent times. In India we do have some dynamics around the Indian regulator is pricing future spectrum license renewals and that is possibly going to be a catalyst for consolidation in the India market. I mean there are a wide range of – a large number of cellular operators in India I think 12 or 13 and one could imagine there could be some consolidation and the higher stakes associated with increase spectrum costs might be the catalyst that causes that to happen. The good news is I think we would count amongst the likely ongoing players as the ones that are in that target customer base. So that’s a couple of dynamics that we see regionally that are not pervasive across the entire customer place globally.

Operator

Your next question comes from Steven Li – Raymond James.

Steven Li – Raymond James

Out of the NSN sales how much was actually Horizon and [inaudible] to NSN? Was it at least a couple million?

PP

Yes, I would say a couple million dollars. That would be a reasonable number.

Steven Li – Raymond James

The $19 million [inaudible] and specifically the R&D, does it go back up as you finalize the staff acquisition in China?

Russell Frederick

No, as I explained earlier the expenses for the Chinese and Italian workforces are in the base of $25 so they’re already in there and we pay for them today in the services agreement and as the Shanghai employees come over of course they would just paid on the payroll rather than the services agreement.

Operator

Your next question comes from Kris Thompson – National Bank Financial.

Kris Thompson – National Bank Financial

I may have missed this, but the inventory write down was that for your products or was that an NSN related product?

Russell Frederick

That was associated with our fusion products that were developed in Israel.

Kris Thompson – National Bank Financial

If I try to look at your segmented gross margin, I’m just trying to figure out – obviously, the gross margin on NSN sell through is lower, it would indicate something like 15% if you were to maintain a 40% margin on your Dragonwave proper solutions. Is that kind of a good ballpark figure to think about for NSN?

Russell Frederick

I think the way I should address this on the Dragonwave is you see in Q1 our Dragonwave margins were around 32% so I think that’s kind of a reasonable planning number rather than the higher 40% margins that we enjoyed in the past. And then you can then back into the NSN and then as we said, we’re going to work on that over time. But I think broadly the way you’re thinking about it is right.

Kris Thompson – National Bank Financial

The reason I’m asking and I think a lot of people are trying to get their head around this 5% EBIT margin, if your op ex is going to be $76 million a year that’s $19 million annualized on a $300 million run rate you need to get your gross margins back up to 30% for the entire 30% for the entire company and it looks like that might not be achievable. If you’re only between $200 and $300 I think there’s just a bit of a disconnect in trying to figure out how you get to that 5% margin.

PP

If I may I will repeat something that I said before, we’re in the early phases of our integration and as we move through – and I’ve given you kind of a broad view of the wide range of activities associated with that. As we complete those integration phases we would expect to see further reductions in our operating expense.

Kris Thompson – National Bank Financial

Just last for me, how do we think about your income taxes? I didn’t see any future or even this quarter. Obviously, you’re going to be accumulating a lot of losses that you can use in the future. For modeling do we just think there’s no tax for the next couple of fiscal years?

Russell Frederick

I think that’s probably a very fair way to think about it. The way I always think about it is cash and between the losses that we have accumulated and our structure, our European based structure, I think that’s probably a reasonable assumption.

Operator

Your next question comes from Analyst for Scott Penner – TD Newcrest.

Scott Penner – TD Newcrest

Just a clarification on an earlier question, you said that you’re expecting a $15 million cash burn in the next quarter, I assume that includes working capital?

Russell Frederick

Yes.

Scott Penner – TD Newcrest

You had this working capital benefit this last quarter but I think in previous calls you said you were expecting about a $10 to $15 working capital drain as part of the acquisition. Is that still the range you’re expecting over the coming quarters or has that changed?

Russell Frederick

Think about it as a time shift. We were actually expecting working capital to put pressure last quarter but it didn’t but it will put pressure this quarter. But that range, around $50 million I talked about does include the pressure from working capital as well.

Scott Penner – TD Newcrest

And you could see some further pressure from working capital after that as well?

Russell Frederick

We could but of course that would come from receivables which would say we’re selling more so we’re hoping, yes.

Scott Penner – TD Newcrest

Then just a housekeeping question, could you just provide the revenue from [Xperia] in the quarter?

Russell Frederick

It was about $25 million.

Operator

(Operator Instructions) Your last question comes from Eyal Ofir – Canaccord Genuity.

Eyal Ofir – Canaccord Genuity

Just another follow up question, the op ex run rate you spoke of was about $19 million in Q3 but when you look at the [inaudible] you also talk about additional op ex cuts in Q4, you expect another $2.5 million in reduction. Is that $2.5 inclusive of the $1.5 you expect in Q3 or is this new?

Russell Frederick

It’s inclusive.

Eyal Ofir – Canaccord Genuity

So we take $19 down to $18 as a base.

Russell Frederick

That is a way to interpret that, yes.

Eyal Ofir – Canaccord Genuity

What kind of levers do you guys have to further pull? Is that going to depend on when you bring the employees over from China and potentially from Italy as well and you do cost cutting there or are there any other levers that you have?

PP

One of the levers of course that we have is within the services agreement that we currently operate. So you will see some of the reductions that are incurring in Q3 are as a result as we move through the integration phase we’re in a position to adjust the services.

Eyal Ofir – Canaccord Genuity

Can you quantify what that looks like?

PP

Russell gave you quantification, that’s contained within that number.

Eyal Ofir – Canaccord Genuity

Anything beyond would be I guess direct headcount reductions?

PP

Or further adjustments of the services as we think is appropriate as we go on this journey to profitability.

Eyal Ofir – Canaccord Genuity

From a support standpoint are you feeling pretty good with what you have from a footprint to support the NSN business? You talked about having people locally, how does that look like?

PP

I’m pleased but not yet fully satisfied is the answer to that. I think in some regions the connection is in place and working well and my guys are standing at the shoulder of NSN as we jointly face the challenges of the market. In other regions I would say there is still improvements to be made to make sure that kind of formation is fully in place for that geography. It’s working in many places and there’s some work to do in other geographies.

Eyal Ofir – Canaccord Genuity

Is there a headcount number you need to increase by to get there?

PP

I don’t know if I would say it’s so much a headcount thing as connection and connectivity thing we need to improve in some regions.

Eyal Ofir – Canaccord Genuity

So a better alignment with the NSN team rather than expanding your own team?

PP

Making sure my team is acting appropriately in support of NSN in the face of major operator opportunities where they’re occurring in all geographies. In some places that is going very, very well in others I think we’re not as close to their should as I would like.

PP

I would like to thank you all for joining us this morning. I’d like to conclude by reemphasizing a point that I’ve made many times on this call, our overall arching objective is our targeted return to profitability for our business. I think we took some important steps in this direction in our second quarter and we will continue to manage our business diligently and act appropriately to continue that process. Thank you everybody.

Operator

Thank you ladies and gentlemen. That does conclude today’s conference. You may all disconnect and have a wonderful day.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!

Source: Dragonwave's CEO Discusses F2Q12 Earnings Results - Earnings Call Transcript
This Transcript
All Transcripts