Vonage Holdings' CEO Discusses Q2 2012 Results - Earnings Call Transcript

| About: Vonage Holdings (VG)
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Vonage Holdings Corporation (NYSE:VG) Q2 2012 Earnings Call August 1, 2012 10:00 AM ET


Leslie Arena - VP, Investor Relations

Marc Lefar - CEO

Barry Rowan - EVP, CFO & CAO

Kurt Rogers - Chief Legal Officer


Michael Rollins - Citi Investment Research

Robert Routh - Phoenix Partners

Mike Latimore - Northland Capital

Matt Sherwood - Cooper Creek Partners


Good day everyone, and welcome to Vonage Holdings Corporation’s second quarter 2012 earnings conference call. Just as a reminder, today's call is being recorded.

At this time, for opening remarks and introductions, I would like to turn the conference over to Ms. Leslie Arena, Vice President of Investor Relations. Please go ahead, Ms. Arena.

Leslie Arena

Thank you. Good morning and welcome to our second quarter 2012 earnings conference call. Speaking on the call this morning will be Marc Lefar, Chief Executive Officer and Barry Rowan, CFO. Marc will discuss the company’s strategy and progress we are making on our growth initiatives and Barry will review our financial results. Slides that accompany Barry's discussion are available on the IR website. At the conclusion of our prepared remarks, we will be happy to take your questions.

As referenced on slide two, I would like to remind, everyone, that statements made during this call that are not historical facts or information maybe forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These and all forward-looking statements are based on management's expectations and depend on assumptions that maybe incorrect or imprecise. Such statements are subject to risks and uncertainties that could cause actual results to differ materially.

More information about those risks and uncertainties is highlighted on the second page of the slides and contained in our SEC filings. We caution listeners not to rely unduly on forward-looking statements and disclaim any intent or obligation to update them.

During this call, we will be referring to non-GAAP financial measures. A reconciliation to GAAP measures is available on the IR website.

And now, I will turn the call over to Marc.

Marc Lefar

Thank you, Leslie, and good morning, everyone. The second quarter was marked by a number of key accomplishments. We reduced churn to 2.5%, a 30 basis points improvement from the first quarter and returned to some of our best quarterly levels in the past four years.

Our balance sheet is stronger than it's ever been. We now have essentially no net debt for the first time since 2007. We grew EBITDA by $3 million sequentially to $35 million after investing $4 million in growth initiatives, and although we were disappointed that circumstances led to the cancellation of the Amdocs ordering and billing project. Our decision was made possible by the improvements in the stability and flexibility of our existing IT infrastructure over the past three years. As a result, we are also lowering our CapEx guidance for 2012 by at least $5 million to $10 million.

Across our growth initiatives, we continue to make progress. In international long distance, we continue to reinforce the compelling value proposition of our flagship Vonage World plan to large growth segments such as Pakistan and Mexico with highly targeted sales and marketing campaigns. And just this week, we launched a new calling plan in the Philippines with our partner Globe Telecom, delivering unprecedented value to the more than 3 million Filipinos living in the U.S. We expect to announce at least one more partnership in the second half of the year.

In Mobile, we delivered an important improvement to our Vonage Mobile App enhancing call and connection quality and adding key features including Bluetooth and the ability to share photos and locations. In the next few weeks, we’ll invite smartphone users to participate in the beta trial of our innovative mobile roaming solution as an important step toward a broader market launch.

Lastly, based upon our progress over the past few years, we have great confidence in the strength and sustainability of the company’s cash flow; combined with a pristine balance sheet and our belief that our stock represents a very attractive value, the Board of Directors has authorized a share repurchase of up to $50 million to be concluded by the end of 2013. This is consistent with our strategy of taking a balanced approach to capital allocation by investing in growth and returning value to shareholders while maintaining ample cash to fund the operational needs of our business.

Let me now move to a discussion of our financial and operating results. Our financial performance remains strong as we generated $35 million in adjusted EBITDA. Continuing operational improvements including lower cost of telephony services, both domestically and internationally and a 6% reduction in customer care cost per line contributed to the sequential improvement in EBITDA. Sequential revenue decline modestly and Barry will talk through the details in a few minutes.

Free cash flow increased by $23 million to $25 million, up from $2 million in the seasonally lower first quarter. Gross line additions or GLAs of a 163,000 were up 5,000 lines compared to a year ago. Similar to last year, we experienced seasonally higher media costs in the second quarter which elevated subscriber acquisition cost.

While GLAs for the full quarter were relatively flat sequentially acceleration throughout the quarter was encouraging and supported by the addition of Pakistan to Vonage World and the introduction of an enhanced plan with mobile minute to Latin America.

Our market test of [Basic Talk], a limited feature service designed to compete aggressively for the low end domestic calling market commenced in May with highly targeted marketing vehicles; resulted in positive and reinforced our belief that we can profitably address consumer’s needs for ultra low cost domestic calling. We will continue our marketing testing during the third quarter and will update you in the future as we consider broader expansion.

Our retail channel driven primarily by community sales teams and in-store assisted selling contributed 25% to gross line additions in the quarter more than double the 12% added a year ago. Our newly 50 community sales team representing roughly 350 sales people has doubled over the past year. They are located in 16 states and have a presence in nearly every major market in the U.S. as well as in Toronto and Vancouver. Importantly, this channel is enabling us to improve our effectiveness in reaching targeted ethnic segments. Our strategy is to expand these pay-for-performance channels and overtime further reduce our dependence on traditional television media.

Churn was a great new story this quarter exceeding even our internal expectations. We reduced churn to 2.5% from 2.8% continuing the reduction from the January peak. The results were broad based standing virtually all segments and tenures. Overall satisfaction, including the impact of enhancements made to improved call quality and customer service levels over the past five months helps to reduce calls into our retention centers by 10% versus the first quarter and our success in retaining those customers that did call improved as a result of new competitive tools, retention offers and policies.

In addition, the early impact of service agreements which were put in place in February of 2012 contributed modestly to the results during the quarter. We expect the strength in our customer churn profile overtime as the majority of new customers are now accepting service agreements.

As a result of the sustainable operational improvements we put at place and the fact the impact of service agreements will grow, we expect to hold these games during the second half of the year, despite the modest seasonal uptick that occurs during third quarter. The lower churn enabled us to achieve breakeven net lines for the first time in five quarters.

Now let me shift to a more detailed discussion of our progress on our growth initiatives. As I discussed with you on prior calls, we are focusing our efforts to drive revenue in three major areas. The first is international long distance; where we will build on our success through continued penetration of targeted ethnic calling segments and expanded distribution. The second is mobile services, which builds on the recently launched mobile platform and the third is international expansion, as we enter new strategic markets outside North America and UK through strategic partnerships.

Our international calling base has grown substantially since the introduction of Vonage World in 2009. Half of our customers are on Vonage World and 35% of all of our customers are active international callers. The opportunity for additional growth remains robust; roughly 20% of all US households make international calls using a mix of both home and mobile phones. The markets we are targeting represent tens of millions of potential customers and our large opportunities relative to the size of our business.

Hispanics by far the largest segment total 50 million. The Asian Indian and Filipino population in the US exceed 3 million each and people of Pakistani decent total nearly 700,000. All these segments spend heavily to keep in touch with family and friends abroad.

During the second quarter, we expanded our focus to new markets such as Pakistan and in just nine weeks we added nearly 15,000 new customers growing our base fourfold. In the third quarter, we will continue to focus on improved sales and marketing tactics against Hispanics, Asian Indian and Pakistani segments.

Further, we believe that recent structural pricing changes in Mexico will enable us to better meet the needs of the majority of Mexican callers who frequently are gouged when calling to mobile phones. And we expect to launch plans targeting additional countries as we have continued our success at reducing the cost of terminating calls to certain countries.

In addition, we see meaningful revenue opportunities from our planned introduction of digital calling cards, supporting light use customers and mobile phones and competing with traditional calling cards. Beyond this, we are developing support for cash payments which will expand our addressable market. The global international long distance calling market for mobile phones is well north of $30 billion and the global rolling market is expected to grow to more than $65 billion by 2015.

Despite the pronouncements from carriers suggesting that they are improving their international long distance and roaming offers with new packages, users are fundamentally dissatisfied as the price premiums remain three to 10 times the prevailing rates of in country calling. Yet the true cost to [serve] simply doesn't justify their premium pricing, their distance and cross border travel.

Large segments of these markets will shift to alternative solutions and carriers over the next three years. We expect to compete aggressively in these markets. Although our total mobile revenues are still small, we continue to see growth in the use of our mobile services with more than 17% of Vonage’s international minutes now originating from mobile devices.

This is up from a base that was virtually non-existent a year ago. Since initial launch of the Vonage mobile app in February, we have substantially improved the service. Based on customer feedback, we significantly enhanced call quality and call completion rates and we've added new features including Bluetooth, photo and location sharing.

Users can also now share of the app with friends on Facebook and Twitter from the app. After seeing strong downloads for the first couple of months, we did see the pace of downloads slow, due in part the quality issues that impacted the number of app recommendations and invitations by friends to download. We believe that most of the quality issues are largely behind us. Our current app store and Google Play versions are rated 4.5 stars 4 stars respectively.

The next few weeks, we will be launching data trial of our innovative patents pending low cost international roaming product which will allow customers to receive calls using their existing wireless number over WiFi when traveling outside their home country and thereby avoiding painfully high roaming charges.

Pricing is not yet been determined. However, this service has the potential to be immediately monetized upon its full launch. Looking further ahead, we plan to add off net messaging and video calling capabilities in the service.

Our extensions product which extends the benefits of our service beyond the walls of the home to any other phone including mobiles continues to gain appeal with our customers.

Roughly 560,000 customers have registered an extension and are now realizing increased value and convenience from its popular service. The third plan of our growth strategy, international expansion also represents a substantial growth opportunity for us. As a global market for VoIP services is forecasted to grow at 7% annually between 2011 to 2015.

Our approach is to enter these markets through partnerships, allowing us to enter markets more quickly and at a lower cost than going it alone. Although, much of the benefit of our partnership with Globe will be in the form of incremental GLAs in the United States, it's a good example of the type of partnership we're pursuing elsewhere, just 12 weeks after announcing our partnership we're in market with a plan that provides unrivaled savings to consumers.

The plan combines unlimited to all of Globe’s more than 31 million mobile and wireline subscribers, together with advantages of ultra low per minute rates to all other numbers in the Philippines.

Additionally, the plan provides unlimited calling to the US, Canada, Puerto Rico and 60 other countries around the world. The Vonage extension service is also included for no additional charge. The new plan is available now at a flat rate of $29.99.

With more than 3 million Filipinos living in the US, the Filipino calling segment represents a substantial growth opportunity for Vonage and for Globe.

As we look to expand outside of North America, we've carefully privatized the countries we're targeting. Our team has identified three primary countries and several secondary countries where we are focusing our energies. These target geographies can be generally characterized as large telecommunications markets that are experiencing rapid broadband expansion and a high usage based pricing for domestic and international long distance.

Additionally, these markets may be undergoing significant changes in their regulatory or competitive environments making them increasingly accessible to VoIP service providers. We have developed a range of product concepts, we are exploring with prospective partners. Ranging from opportunities to deliver our services on mobile devices to the delivery of full [void] communication services that will be marketed and distributed as a compliment to an existing foreign provider's products suite. We are actively involved in discussions with prospective partners and expect to announce at least one additional alliance before the end of the year.

Let me now take a minute to elaborate on our decision to terminate our relationship with Amdocs, the company that was developing new billing and order management system for us. Over the past three years, we have made substantial progress transforming our IT infrastructure. While significant progress has been made overall as we discussed last quarter, we have encountered delays and incremental costs during the development and implementation of the Amdocs system.

Following discussions with Amdocs and after assessing the improvements in our IT infrastructure along with deep consideration of the additional time and cost required to complete the implementation; we jointly agreed that terminating the program was within the best interest of both parties.

While we are disappointed, this is the right decision for the company. The incremental business benefits simply didn’t justify the incremental investment going forward. Despite this change, we believe we are well positioned to support our new and existing products and services well into the future.

To wrap up let met summarize very simply. Our core business is financially stable and continues to generate significant cash flow. At the same time, we are making real progress executing on our strategic growth initiatives. And I am pleased that this progress enables us to execute against our capital allocation strategy through the buyback of the company stock which we believe to be a great value. Thank you once again for your support, and I will now pass the call to Barry Rowan

Barry Rowan

Thanks Marc and good morning everyone. Marc has covered the strategic and operational highlights for the quarter. And I am pleased to provide more detail on our financial results and outlook for the balance of the year.

Beginning on slide three, adjusted EBITDA increased to $35 million up from $32 million sequentially and down from $44 million in the prior year. As a reminder, at the start of the year we said we plan to invest $5 million to $10 million per quarter in our strategic growth initiatives throughout 2012.

We invested $4 million in the second quarter which is slightly below the targeted range and lower than the $7 million invested in the first quarter which included marketing cost associated with the launch of Vonage Mobile. As we've stated previously, the investment in our growth initiatives is primarily focused on building organizational capacity, development, marketing new products and network and IT infrastructure.

Moving to slide four, GAAP net loss was $3 million or a penny a share down from income of $14 million or $0.6 per share sequentially and $22 million or $0.10 per share in the year ago quarter. The second quarter 2012 net income and EPS including one time non-cash adjustment of $25 million related to the write off of software assets associated with the termination of Amdocs contract.

I'll discuss this further in our review of capital expenditures. Excluding this impact, net income rose to $21 million or $0.09 per share from $19 million or $0.08 per share sequentially. And declined from $26 million or $0.11 per share in the year-ago quarter reflecting our investment in growth initiatives this year.

Moving to slide five, revenue of $212 million was down from $216 million sequentially. About half of this decline was due to non-operational factors including lower universal service fund feeds and the accounting impact from legacy activation fees that the company discontinued in 2009 as well as plan mix and lower toll free revenue.

Revenue declined from $218 million from the year-ago quarter primarily due to lower average lines and lower legacy activation fees partially offset by higher USF. Similarly ARPU was down sequentially to $29.98 from $30.42 due to the lower legacy activation fees, USF and plan mix and declined from $30.28 in the year ago quarter due to plan mix and lower activation fee revenue.

Although we expect some near-term pressure on ARPU due to multiple factors, we are targeting some selected pricing actions by year end and are introducing some higher price rate plans which we expect to mitigate this impact. We continue to drive operational improvements across the company to lower our cost structure.

Slide six highlights our progress in reducing our cost of selecting the services or COTS even as we target ILD callers with higher usage and rates than domestic callers. On an aggregate basis, costs improved to $58 million from $62 million sequentially reflecting the continued reduction in both domestic and international termination rates and lower USF which is a passthrough expense.

Total costs were flat compared to the same period a year ago as we have offset the impact of international minute growth by substantially lowering termination rates. We have reduced domestic and international rates by 33% and 5% respectively from the prior year.

On a per line basis, cost of telephony services was $8.23, down from $8.68 sequentially and up from $8.03 a year ago, reflecting higher USF costs. Direct margins increased to 68% from 67% sequentially and were down slightly from 69% compared to the prior year’s quarter.

Going forward, we expect to continue to offset the upward pressure on COTS inaudible) from our growing ILD base and mobile services by further rate reductions and greater efficiencies delivered by our intelligent call riding system.

Moving to slide seven, we reduced SG&A to $58 million from $62 million sequentially, led by 6% lower customer care cost per line. Calls in the customer care were down from the previous quarter and we continue to improve key customer care metrics including average handle time.

Customer satisfaction increased and we delivered our best quarter ever for first call resolution. The decline in SG&A also reflects lower expenses for Vonage Mobile as the first quarter included cost associated with the product launch. SG&A was flat versus the prior year's quarter as a 4% reduction in customer care and other expenses funded the increased investment and our growth initiatives this year.

Moving to slide eight. Marketing expense increased to $55 million from $53 million sequentially and from $52 million in the year ago quarter, as we absorbed the seasonal increase in costs from the first quarter and conducted some market tests during the quarter.

Turning to slide nine. We are particularly pleased with the progress we made in churn during the quarter. We reduced the number of customer calls into retention. They increased our customer save rates and we began to see the early benefits for customers on service agreements, which we reinstated in February.

Together these actions contributed to the 30 basis points sequential improvement and the resulting 2.5% churn is the best we have seen in four quarters. We believe these gains are sustainable based on the operational improvements we've made and as we increased the number of customers on service agreements throughout the year.

Gross line additions or GLAs of 163,000 were up 5000 lines compared to a year ago. Similar to last year we experienced seasonally higher media costs in the second quarter. While we absorbed majority of this approximately 20% cost increase, subscriber acquisition costs increased 4% sequentially to $336 and we are up less than 2% year over year.

As a result of the dramatic improvement in churn, net lines improved by 19,000 over the first quarter to break even net lines. As Mark mentioned this reverses four quarters of net line losses.

We will now move to a discussion of CapEx, cash flow and the balance sheet on slide 10. As we have discussed on prior calls, our low CapEx requirement at less 5% of revenue contributes meaningfully to our free cash flow generation capability. For the quarter, CapEx was $4 million, down from $9 million both sequentially and a year ago. And going forward we believe we can manage the company to lower CapEx spending without comprising the investments necessary to run the business over the longer term.

I would like to take a moment to describe our plans and expected CapEx spending in light of the termination of the billing and order management project. Let me begin with some context. In 2009 we began transforming our IT infrastructure to better suit our business needs. This was a broad undertaking which led to substantial improvements in our IT capabilities including the enhancement of existing systems, improved application stability, better data analytics to guide business decision making and an enhanced capability to quickly solve customer trouble tickets.

One component of this transformation was the development and implementation of a new billing and order management system with Amdocs. As previously disclosed, we experienced delays and incremental costs during the implementation of the Amdocs system and this quarter, that terminating the program was in the best interest of our shareholders. As a result we recorded a non-cash write-down of $25 million net of settlement amounts during the quarter.

We expect our capital expenditures will be less than what they would have been had we continued with this project beginning in the third quarter of this year. Therefore, we are reducing our full-year CapEx outlook from $40 million to $45 million to less than $35 million for 2012. While we did not realize the benefits we had anticipated from the new billing and order management system, we believe that the other substantial improvements to our IT infrastructure that have been achieved in combination with our planned capital expenditures leave us well positioned to support our products and service offerings.

Now let me turn to a discussion of our cash flow and balance sheets. Cash from operations increased to $18 million from the seasonally low first quarter, which is characterized by high working capital requirements. This higher cash from operations combined with lower sequential CapEx increased free cash flow to $25 million from $2 million in the first quarter.

The planned reduction in CapEx will contribute and incremental $5 million to $10 million in free cash flow, above the expectations we had at the beginning of the year. As of June 30th, cash and cash equivalents were $72 million, up from $55 million sequentially.

In addition the company has restricted cash at $6 million. We ended the quarter with a strong balance sheet reflected in total leverage to adjusted EBITDA of 0.5 times and with net debt approximately neutral. Just over two years ago we were carrying more than $200 million in debt with interest rates as high as 20%.

And now we will be moving into a net cash position with interest rates of less than 4% on our remaining debt. Our balance sheet is in very good shape. Based on the strong balance sheet, sustaining cash flow from our core business, the NOL preservation plan we recently put in place and the attractive value of our stock, we believe now is an appropriate time to begin returning capital to shareholders through a share repurchase program be announced this morning.

This $50 million buyback reflects our strategy of taking a balanced approach to capital allocation. It provides a flexibility to continue to invest for growth while maintaining ample cash to meet the operational needs of the business.

So in summary, we reported solid operational results for the quarter. Our core business continues to generate strong cash flow and we expect to hold the significant improvements we made ensuring for the remainder of the year. We also made progress executing on our growth initiatives in ILD, mobile and international expansion.

To reiterate our outlook, EBITDA guidance remains consistent as we expect 2012 adjusted EBITDA of $30 million to $35 million per quarter and $120 million to $140 million for the year. This reflects the investment of $5 million to $10 million per quarter we plan to make in our strategic growth initiatives. We continue to believe these initiatives have the potential to achieve over $100 million in annualized revenue within two to three years. Regarding CapEx, we lowered our spending expectation to less than $35 million from the previous guidance of $40 million to $45 million for 2012.

Thank you again for your interest in Vonage. I will now turn the call back over to Leslie to initiate the Q&A session.

Leslie Arena

Thank you, Barry. Operator, please open the line for questions.

Question-and-Answer Session


(Operator Instructions) We have a question from Michael Rollins from Citi Investment Research. Your line is open.

Michael Rollins - Citi Investment Research

A couple of questions. First, I was wondering if you could talk a little bit more about the decision to stop the Amdocs project. And if you could just help us with maybe a little bit more background of what went wrong and what this does to you in terms of capabilities that you are hoping to have or whether that you would revisit a new billing project with a new vendor and so some of the phasing is pending this year might just come back as you pursue this initiative with someone else down the road? And then I have a follow-up if that's okay as well.

Marc Lefar

So as we shared previously you know we've been adding this project quite carefully. We've been sharing all along the way that we've had time delays relative to specific milestones in the project as well as incremental costs. While doing that we've also been all along the way enhancing our existing systems and applications ability. We've enhanced our data analytics with the implementation of EDW that helps us guide our decision making. We've also implemented enhanced systems to solve customer trouble tickets. We upgraded our customers and billing data bases as well as implemented virtualization and cloud computing technology.

The simple straightforward answer is the delays that we experienced as well as the incremental costs, some related to stability of platforms as well as just overall progress and reliability of software we are taking longer and we are making progress against our core IT systems and as we look at projects on a regular basis, on a go forward view, we consider what was the additional timeframe to get to completion, the additional cash we have invested and do not believe that that investment was worthwhile.

We are also confident by the fact that we've made tremendous improvements over the past couple of years. We do not anticipate any major additional partners or deployments such as Amdocs. We are comfortable that we continue to make enhancements within the capital expense profile very outlined that will help us to support existing products as well as those we anticipate in the future. Well, there are a couple of initiatives that we think will be a little bit slower to market, they were not initiative that were material to our outlook for the current year.

Barry Rowan

And Mike if I can just build on to what Marc said regarding the CapEx requirements going forward, as he said we do not have plans to implement a different a billing system and the CapEx requirements that we outlined were this year we’re lowering the CapEx expectations from $40 million to $45 million down to less than $35 million reflects both the organic expenditures that we would have had to make with regards to Amdocs as well as on the offset side of that some additional investments in our internal systems that we continue to enhance.

So that’s reflected in 2012; as we look out to 2013, of course we haven't given guidance for 2013, but we had been running CapEx in the $40 million range for the past several years, you know, I think that as we look forward to 2013, we expect that given this decision that we can see some continuing benefit from that lower CapEx relative to the historical spend in recent years.

Michael Rollins - Citi Investment Research

And then just one follow-up if I could, I think you mentioned the percent of mobile or the percentage of your voice traffic that was originating from mobile, will you have that same percentage in terms of revenue and just how to think about you know the pace that which starting to monetize the mobile application? Thank you.

Barry Rowan

Overall mobile revenues as a percentage of total business Mike is still quite small. The 17% minutes that are coming from originating traffic on mobile phones includes our mobile standalone initiatives as well as our extensions product where you are collecting a lot of those revenues in the overall Vonage World fees that improves churn as well as allows great stability in ARPU, difficult to allocate specific dollar amounts the contribution that mobile minutes would make in that case, but we view it is both strategic and critical going forward and expect that revenue number to increase overtime. At the point, it becomes [material] component of our overall revenues we will break that out and develop an ongoing plan to specifically report those revenues.


The next question is from Robert Routh of Phoenix Partners. Your line is open.

Robert Routh - Phoenix Partners

Two quick questions, first and obviously you guys are being granted few patents since June and I know it’s kind of a hidden assets you guys quite have that nobody gives much value, just how should we look at your patent portfolio, is there anyway to get a sense of how we should value them in terms of --?

Marc Lefar

I am going to introduce our General Counsel Kurt Rogers who is with us here and overseas our intellectual property, strategy and plan and as per his thoughts.

Kurt Rogers

Good morning. So I think they way to think about our portfolio is it’s something we have over the past three years focused increased attention on its part of an overall comprehensive [IP] strategy. We have significantly increased the number of applications we filed and now have nearly 100 applications pending in the US patent office and many applications pending overseas.

The three patents that were granted recently are part of that focus on IT and overtime we expect that our portfolio will continue to grow at the point where it does become material I am sure we will be sharing additional information on that but we do have increased emphasis in focus on growing that portfolio and in part that's a benefit of our expanded focus on research and development as part of our new growth initiatives.

Marc Lefar

I think it is this is Marc again, difficult to place its specific dollar value on the patents that have been granted as well as those that are pending. I think you should you think about them as both proactive patent strategy to be able to potentially assert our rights as we innovate in areas that are of global interest in rapid growth markets including mobile but also defensively so that we can clearly protect our interest in the event that other more aggressive parties have a bone to pick. We think about the portfolio and building that portfolio from a defensive stand point as well, and we are taking a pretty balanced approach but you can see over the last three years, a market turnaround in the amount of activity, filings and relevant patents that are being granted.

Robert Routh - Phoenix Partners

And also, I kind of changing gear here how is the partnership obviously you have announced the first one and the announcement yesterday, you know, people waiting for you have one more new planning by the end of the year. But on the last call you guys also hinted the possibility of partnering with one of your retail partners for positive, we have a white label product or something like that I am wondering if you can give us any sense as to whether or not that still makes sense? And if so whether or not we could see something along the lines in the near term or about further in the future?

Marc Lefar

Great comments, thanks for bringing it up. Service for those who were not with us last quarter, it's something called Basic Talk and we have done a lot of research to understand what the underlying consumer need is for basic low cost domestic service, strip down low feature service that fundamentally is a compliment to potential mobile applications and mobile services, and we found that the majority of US households actually are interested in having a common identity or phone number with the convenience of cordless phones. They just wanted at an exceptionally low price.

We have actually been testing quietly a version of Basic Talk during the quarter and have had very good results. We are pleased with that, we are expanding our test to understand better what the market potential is and how that will work with the Vonage portfolio of products.

In addition, we do think that this is one where we want to go to the market with a very low cost of acquisition. And to that end what we can do it extremely profitability, we do think that the opportunity here to white label a service like this with a large retail partner whether that be bricks and mortar, digital or both or potentially organizations with large affiliations makes a tremendous amount of sense because they have a captive audience, they have foot traffic, they already have shoppers and as we have tested the concept we believe it is something that is universally appealing and these are the kinds of disruption that some of these merchants have been known to do exceptionally well with.

So we continue our conversations at the point that we have something that is binding contract that would take us into at least the test market. We certainly share that publicly. In the meantime, that's not a requirement for us to take advantage of this opportunity and that's why our marketing teams initiated the test in quarter and we will expand that in the third.

Robert Routh - Phoenix Partners

And then just one follow-up if I may, given how good the results are and how dramatic the turnaround whether we see in this quarter relative to last year and sequentially, can you give us any sense as to what you are seeing so far in July, what have you seen since June 30 as far as, is this continuing the stellar results that you are posting in [churn] reduction or if there are any kind of guidance you can give us there what are you seeing?

Marc Lefar

As you will know the quarter is not done until the quarter is done, and we have seen individual months that have significant variability in fact, in the second quarter as I mentioned or alluded to in my script the quarter got to a great slow start in April and we were very positively impressed at the kind of turnaround we saw in the back half of the quarter. We expect to have good momentum; we got a lot of initiatives in place including the launch of Globe, the Philippines product they just launched. We continue to accelerate our penetration of the Pakistani market and we are excited about some of the things we are seeing in Mexico and the structural price changes. So we feel good overall about the plans that we have for the quarter, but I don’t think it could be appropriate to share specifics on a three week window given that the speed with which things can change to the good or to the bad.

Leslie Arena

Next question operator.


Next question is from Mike Latimore of Northland Capital. Your line is open.

Mike Latimore - Northland Capital

On the cost (inaudible) services to line then improved sequentially, could you talk a little about that, is that going to be, do you feel like that’s a stable metric going forward or with more international traffic that should end up a little bit, how do you think about that metric?

Barry Rowan

Yeah, Mike its Barry. We have been very pleased to see the kinds of reductions that we have as you know, over the last couple of years with the strategic emphasis on international distant callers that have both higher rates than domestic callers as well as higher usage that certainly puts meaningful offered pressure on COTS and on a year over year basis it was relatively flat. We saw a good sequential decline this quarter; that kinds of things that we are putting in place, we expect to continue going forward.

I think the best way to think about COTS for the next number of quarters is that those are the puts and takes and that those ongoing cost reductions will offset that upward pressure as we continue to drive the calling base. But as you see on a quarter to quarter basis, it can go up or down. So in general we feel like that I think the way to think about that is the ongoing cost reductions that we continue to push on will largely offset the upward pressure.

Mike Latimore - Northland Capital

And then, these international partnerships that you're working on, are you collecting another one here? I mean to put the effort in, you obviously assume some sort of revenue level. I mean can be generally talk about the revenue levels you expect on these things to get a little more mature?

Marc Lefar

Sure Mike. Each individual partnership has different scale based upon the country and based upon the products. So there is a wide range, program by program. As Barry talked about, I think you know the total revenue of the portfolio of these growth initiatives over the 2 to 3 year timeframe, we feel pretty good about the $100 million plus revenue target and you know beyond that it wouldn't be prudent to give specifics until we are in market and see what kind of customer traction we receive.

Mike Latimore - Northland Capital

And then your subscribers that make international calls, I think you said they are 35% of the total. You know it's been there for about a year now. With all the international efforts, I would have thought that might have moved up a little bit in terms of in terms of a percent. I mean what’s your general view on that percent, does it start to move up overtime?

Marc Lefar

Overtime, we do expect that to increase (inaudible) at least modestly over the last four, five quarters, but as still overtime we expect that number to increase.

Barry Rowan

I think Mike if you look at on a longer-term historical basis certainly from a standing start before introduction of it on its world, it’s grown very quickly to the 35% level, but when you look at the kind of percentage of adds that are international callers over the last number of quarters, on the world in total, it is about 70% of gross line additions. And a majority of those are international callers, but still a substantial minority are largely domestic callers.

So with that relatively narrowing differential in the percentage of GLAs coming from international callers versus where we were a couple of years ago, you are not going to see that continuing rate of change that we have seen over the last several years.

Mike Latimore - Northland Capital

And just last on the basic talk, is this the main difference between that and Vonage Lite kind of white label aspect there or something else?

Marc Lefar

I am sorry, could you just repeat that question please?

Mike Latimore - Northland Capital

Sure, you had a low cost offering, Vonage Lite in the past, is the basic talk the main difference just sort of the white label aspect there?

Marc Lefar

No, there are other elements in terms of comprehensively how the product will be structured including much lower device. Over time upon expansion we expect it to be a self service only and how we branded it likely to be quite different. It’s not likely to be something just kind of starter plan simply to be up sold.

We view this as a this is a complete proposition, it will be more aggressively priced in total in terms of cash out of the pocket than what we do with the test on Vonage Lite a couple of years ago. And as you are well aware, the domestic home phone market has become more aggressive in the last six months and we absolutely expect to be highly aggressive in this market. Consumers expect us to be able to be the leader in that marketplace and we think we have got some ways to do that without creating tremendous revenue risk for our existing base.


Next question is from Matt Sherwood of Cooper Creek Partners.

Matt Sherwood - Cooper Creek Partners

I just had a quick question on capital allocation. Just was wondering sort of what parameters you are likely to use in order to determine sort of how quickly you can pursue your buyback plan?

Barry Rowan

Well first of all we are pleased to have the buyback plan in place. We have been receiving comments from shareholders for a fairly long period of time over the last several quarters, expressing your desire to see capital returned to shareholders through this mechanism. So we do for the reasons that I outlined, think that this is an appropriate time to do that.

The plan approved by the board provides for a buyback at $50 million through the end of 2013. You know certainly looking at the stock price of late, now taken in tandem with some of the internal factors we think that the stock represents a very good value. So you know we would have plans to put those -- that program in place during the open trading window. We just think we can do it this time and then move forward from there on the basis that is typical. But bear in mind, that perspective that we have is that of these prices being a good value.

Matt Sherwood - Cooper Creek Partners

Still I mean in that, are you just going to say gee, while we have the plan in place through 2013 we are just going to buy back ratably or if you believe that the stock’s very attractive relative to your operational turnaround of late, could you buy back all the shares in the couple of quarters, just without telegraphing your intentions, you know, how do you look at the options?

Marc Lefar

Yeah, I think the good news about that Matt is based on the strength of the balance sheet and the cash flow that we have, we have the potential to execute the plan reasonably aggressively based on what we see in the market and the stock price. I don't think it's appropriate for us to get into how fast we are going to, we would spend the $50 million, whether it's done ratably or not. I think it's fair to say that the strategy is not necessarily to do it ratably, but to do it, we have the flexibility now with the plan that is in place that goes through the end of next year. We have the cash to be able to begin that plan immediately and as typical, we will report the number of shares that we acquire at the close of this quarter.


(Operator Instructions) I'm showing no further questions at this time. I would like to turn the call over to management for any closing remarks.

Leslie Arena

Okay, thank you for joining us today. We will conclude the call now. Have a nice day.


Ladies and gentlemen, thank you for your participation in today's conference. This concludes the program. You may now disconnect and have a wonderful day.

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