AudioCodes Ltd

NASDAQ:AUDC

Earnings Call Analysis

Earnings Call Transcript 2024-Q2

[Operator]

Good morning, everyone, and welcome to the AudioCodes Second Quarter 2024 Earnings Conference Call. [Operator Instructions]. Please note, this conference is being recorded.



I will now turn the conference over to your host, Mr. Roger Chuchen, Investor Relations at AudioCodes. Roger, the floor is yours.

[Roger Chuchen, executive]

Thank you, operator. Hosting the call today are Shabtai Adlersberg, President and Chief Executive Officer; and Niran Baruch, Vice President of Finance and Chief Financial Officer.



Before we begin, I'd like to remind you that the information provided during this call may contain forward-looking statements relating to AudioCode's business outlook, future economic performance, product introductions, plans and objectives related thereto, and statements concerning assumptions made or expectations as to any future events, conditions, performance or other matters are forward-looking statements as the term is defined under U.S. federal securities law.



Forward-looking statements are subject to various risks and uncertainties and other factors that could cause actual results to differ materially from those stated in such statements. These risks, uncertainties, and factors include but are not limited to, the effect of global economic conditions in general and conditions in the AudioCodes industry and target markets, in particular, shifts in supply and demand. market acceptance of new products and the demand for existing products; the impact of competitive products and pricing on AudioCodes and its customers, products and markets; timely product and technology development, upgrades, and the ability to manage changes in market conditions as needed, possible need for additional financing, the ability to satisfy covenants in the company's loan agreements, possible disruptions from acquisitions, the ability of AudioCodes to successfully integrate the products and operations of acquired companies into AudioCodes business; possible adverse impact of the COVID-19 pandemic on our business and results of operations, the effects of the current tariffs attacked by Hamas and the warrant hostilities between Israel Hamas and Israel and Hezbollah as well as the possibility that this could develop into a broader regional conflict involving Israel with other parties may affect our operations and may limit our ability to produce and sell our solutions; any disruption in our operations by the obligations of our personnel to perform military service as a result of current or future military actions in moving Israel and other factors detailed in AudioCodes filings with the U.S. Securities and Exchange Commission. AudioCodes assumes no obligation to update this information.



In addition, during the call, AudioCodes will refer to non-GAAP net income and net income per share. AudioCodes has provided a full reconciliation of the non-GAAP net income and net income per share to its net income and net income per share according to GAAP in the press release that is posted on its website.



Before I turn the call over to management, I'd like to remind everyone that this call is being recorded and archived webcast will be made available on the Investor Relations section of the company's website at the conclusion of the call.



With all that said, I'd like to turn the call over to Shabtai.





Shabtai, please go ahead.

[Shabtai Adlersberg, executive]

Thank you, Roger. Good morning, good afternoon, everybody. I would like to welcome all to our second quarter 2024 conference call. With me this morning is Niran Baruch, Chief Financial Officer and Vice President of Finance of AudioCodes.



Niran will start off by presenting a financial overview of the quarter. I will then review the business highlights and summary for the quarter and discuss trends and developments in our business and industry. We will then turn it into the Q&A session. Niran?

[Niran Baruch, executive]

Thank you, Shabtai, and hello, everyone. Before I start my formal remarks, I would like to remind everyone that in conjunction with our earnings release this morning, we will post shortly on our Investor Relations website and AirLink supplemental deck.



On today's call, we will be referring to both GAAP and non-GAAP financial results. The earnings press release that we issued earlier this morning contains a reconciliation of the supplemental non-GAAP financial information that I will be discussing on this call.



Revenues for the second quarter were $60.3 million, an increase of 0.5% over the $60 million reported in the second quarter of last year. Services revenues for the second quarter were $32 million, up 12.3% over the year-ago period. Services revenues in the second quarter accounted for $53 million of total revenues. The amount of deferred revenues as of June 30, 2024, was $80.3 million compared to $77.7 million as of June 30, 2023. Revenues by geographical region for the quarter were split as follows: North America, 47%; EMEA, 35%; Asia Pacific, 13%; and Central and Latin America, 5%. Our top 15 customers represented an aggregate of 56% of our revenues in the second quarter, of which 38% was attributed to our 9 largest distributors.



GAAP results are as follows: gross margin for the quarter was 65.5% compared to 64.1% in Q2 2023. Operating income for the quarter was $4.9 million or 8.2% of revenues compared to operating income of $2.3 million or 3.8% of revenues in Q2 2023.



EBITDA for the quarter was $6.2 million compared to EBITDA of $2.9 million for Q2 2023. Net income for the quarter was $3.8 million or $0.12 per diluted share compared to net income of $1.1 million or $0.03 per diluted share for Q2 2023.



Non-GAAP results are as follows: non-GAAP gross margin for the quarter was 65.8% compared to 64.5% in Q2 2023. Non-GAAP operating income for the second quarter was $7.2 million or 11.9% of revenues compared to $5.7 million or 9.5% of revenues in Q2 2023. Non-GAAP EBITDA for the quarter was $8.3 million compared to non-GAAP EBITDA of $6.2 million in Q2 2023. Non-GAAP net income for the second quarter was $5.5 million or $0.18 per diluted share compared to $5.1 million or $0.16 per diluted share in Q2 2023.



At the end of June 2024, cash, cash equivalents, bank deposits, marketable securities, and financial investments totaled $93.7 million. Net cash used by operating activities was $2.9 million for the second quarter of 2024. Purchase of property and equipment was $8.8 million in the quarter, significantly higher than historical periods related to leasehold improvements of our new corporate headquarters in Israel. We expect CapEx to remain elevated in the third quarter, after which we expect this line item to return to historical levels.



Days sales outstanding as of June 30, 2024, were 108 days. In July 2024, we received court approval in Israel to purchase up to an aggregate amount of $20 million of additional ordinary shares. The court approval also permits us to declare a dividend of any part of this amount. This approval is valid through January 1, 2025. During the quarter, we acquired 116,000 of our ordinary shares for a total consideration of approximately $1.2 million.



Earlier this morning, we also declared a cash dividend of $0.18 per share. The aggregate amount of the dividend is approximately $5.5 million. The dividend will be paid on August 29, 2024, to all of our shareholders of record at the close of trading of August 15, 2024.



Business outlook. As it relates to our 2024 financial, we are reiterating our revenue guidance range of $240 million to $250 million. On the profitability side, we are adjusting our guidance practice for this year and going forward to non-GAAP EBITDA from non-GAAP net income per share. Effective second quarter 2024, we have adjusted our tax expenses presentation as calculated in our non-GAAP earnings per share to include only the tax impact of the non-GAAP adjustment as applicable in relation to the GAAP tax expense. Prior to this quarter, our practice was to adjust noncash deferred tax expenses or income as part of our non-GAAP reconciliation. Specifically, this deferred tax non-GAAP adjustment derived mainly from the tax expenses recognized due to the realization of the company's net operating losses, deferred tax asset. We believe this change in tax expense presentation has no notable impact on the true cash generation of the business.



With approximately 22 million of U.S. NOLs at the end of the second quarter of 2024, we believe that our actual tax payment will continue to be lower than the GAAP tax expenses for the foreseeable future. To elevate any potential confusion from the change in tax expense presentation during 2024 and to more readily highlight the cash earnings potential of the business in the future, we believe it is reasonably prudent to provide guidance based on non-GAAP EBITDA in 2024 and for the foreseeable future. On that basis, our non-GAAP EBITDA guidance for 2024 is $33 million to $39 million, which is unchanged as implied in the non-GAAP EPS outlook previously provided on our first quarter 2024 earnings call.



This 2024 non-GAAP EBITDA guidance compares to $31 million generated in 2023.



I will now turn the call back over to Shabtai.

[Shabtai Adlersberg, executive]

Thank you, Niran. I'm pleased to report solid second quarter 2024 results, marked by the second consecutive quarter of positive top-line growth and ongoing momentum in our Microsoft and conversation AI business with a sequential uptick in the legacy gateway business. Within Enterprise business, which represents about 90% of our revenue, our UCaaS business continued to perform well, highlighted by Microsoft Teams business up 3.3% year-over-year for the quarter and markets of Teams Live Managed Services annual recurring revenues growing 35% year-over-year.



In the CX business, customer experience business, we made progress as planned, and our healthy pipeline continues to support a positive outlook for the second half and full year 2024. Conversational AI business revenue was up 10.5% year-over-year. Bookings grew over 50% year-over-year. Judging by the success we enjoyed in the development of emerging conversational AI business in the second quarter and the first half of 2024, provides us with strong conviction with regards to the potential of future success in this area and positions conversational AI as a second strong leg in growth engine for the company next to our Microsoft Live Teams business.



Our managed services business continues to evolve to become our key go-to-market. Services business grew 12.7% and accounted to 53% of revenue in the second quarter compared to 47% in the year-ago quarter. This fueled ongoing momentum in services is our live managed services, which grew about 35% year-over-year and ended the second quarter at $56 million annual recurring revenue, putting us on track to achieve our guidance of $64 million to $70 million exit 2024. Our focus and investment made in recent years of paving our growth for a strong recurring business with strong legs deeply rooted in growing markets such as UCaaS, CCaaS, and conversation AI. The growth of 2 key areas have contributed the most to the ongoing growing booking trends. First and foremost, our live business.



Live Teams managed services rely substantially on our live platform, a mature voice services delivery portal and platform with unparalleled unique scale and position for Teams voice, which provides us an edge in the communication and collaboration market. The strength of live platform stems from the comprehensive large scale of services, delivery and support. Among these are connectivity services, where we hold about 70% market share, Contact Center services, which were added last year based on our Voca CIC AI contact center for Teams, recording analytics and inference services and nowadays, conversational AI services. We are thus well positioned to win a large portion of the Microsoft Teams value-add services.



This can be seen through the rapid booking growth and adoption of live services in the market, which again, as I've mentioned, grew 35% in 2024. Just to give you one of the most important numbers, which do not show in our financials and not part of our balance sheet, AudioCodes live and managed service backlog, those are managed services that we sold but haven't yet invoiced in or delivered in full, was at the end of the second quarter, $67 million compared to just $29 million at the end of second quarter 2023. This represents 133% year-over-year growth, and that speaks for the strength of the Microsoft Teams Live business.



Second, and emerging in a big way in 2024 is the area of conversational AI services. We have already won several projects this year, starting from a low base in previous years. We saw about 50% growth in bookings in 2024. And we aim to end up above $10 million this year. As we all know, GenAI technology is fueling much modernization and innovation in the Modem workplace applications in the enterprise space due to its unique ability to support creation and new advanced services while cutting substantial costs and time to market.



At AudioCodes, we enjoy a very unique position due to the fact that we own one of the most compenset of technologies, including telephony, networking, network and device management, security, cloud infrastructure, cognitive services, services practice and more. At the same time, we invest in expanding our capabilities in the area of supplying advanced GenAI and large language models, technologies for conversational AI technologies. As such, we have become a prime contractor for these GenAI-relacted projects, which are fairly complex and difficult to implement. That is our unique advantage.



Let me take a step back now to provide a broader perspective on our business history and evolution in recent years and provide you with the basis for the outlook for 2025 and beyond. Declining our legacy business relating to the service provider business during 2023 in the first half of 2024, coupled with our revenue model shift from CapEx sales into recurring business were the main factors that drove a halt in our growth story during the years 2020 to 2022. However, these were also the years where we have worked hard to build our live platform and business in UCaaS and CCaaS and invested in [indiscernible] the conversation AI business.



Legacy business decline starts to moderate in 2024 and beyond, laying less impact on our overall results. And live and conversational AI service businesses keep growing double digits every year. We believe we will see growth reemerging as of 2025 and beyond. With growth in recurring business in UCaaS, CX and CAI and our favorable competitive position in our markets, we are confident in our ability to return to growth in both revenue and profits starting in 2025 and beyond.



Before turning to the TLB discussions, let's quickly shift to second quarter profitability metrics. Our non-GAAP gross margin in the quarter came at 65.8% within our 65% to 68% long-term range and compares to 65.2% in the first quarter of 2024 and second quarter 2023 levels of 64.5%. This year, over year margin improvement is primarily attributable to a more favorable product mix, namely software and services. Second, non-GAAP OpEx second quarter non-GAAP OpEx was $32.5 million, in line with our expectations, representing a small sequential decrease relating to our latest headcount rationalization initiatives. As a reminder, we expect the bulk of $1.5 million quarterly expense initial reduction, of which about $1.2 million is still to be realized in the third quarter 2024 and thus to contribute to further reduction in the OpEx in third quarter '24 and beyond.



Reference headcount, we ended the second quarter with headcount of 940 down from $959 in the first quarter and as compared to 946 people and employees in the second quarter 2023. The year-over-year improvement in non-GAAP gross margin OpEx led to non-GAAP operating income of $7.2 million or 11.9% margin versus a year ago of 2.9% or 4.9% margin. On our guidance front, with steady performance in the second quarter and pipeline opportunities for strategic area of business remaining healthy. We are reiterating our 2024 revenue guidance of $240 to $250 million. As explained earlier by Neon, we are introducing full year non-GAAP EBITDA guidance of $33 million to $39 million, which is unchanged implied from the non-GAAP EPS guidance provided during last quarter earning call. In 2023, non-GAAP EBITDA was $31 million.



Now let's move to some of the business lines. Let's talk about Microsoft. In terms of our strategic business lines, Microsoft Teams business grew 3.3% in second quarter year-over-year with steady increase in the live managed services, which grew 35%. The Second quarter live business growth puts us on track to land within our full year 2024 annual recurring revenue target range of $64 million to $70 million, representing an average approximately annual growth of 35% to 40% compared to 2023. Revenue was led again by steady growth in the North American region. From a recurring versus CapEx perspective, our second quarter recurring live bookings mix accounted for 43% compared to 39% in the year ago quarter, more than 10% year-over-year improvement. The onetime or CapEx solution of Teams revenue was accordingly 57% compared to 61% in the year ago quarter.



As a reminder, and with Microsoft's recent disclosure of over 20 million PSCN users, representing just a fraction of the over 320 million Teams monthly active users, we believe the low teens phone voice penetration is less than 10% and thus provides us with ample multiyear runway to drive ongoing penetration gains. As such, UCaaS and Microsoft Teams remain with high potential. Microsoft now estimates that Teams adoption growth is predicted to be about 30% year-over-year. Microsoft last reported -- lastly report in previous quarter was that they are at about 3 million Teams on ads in the previous 3 quarters. We believe that the key driver to further or accelerated growth of Teams fond is nowadays Marcos of push on use of CoPilot for meetings and calls and analytics, so expect good market lying ahead. And a new area for us, meeting rooms with Teams. We saw good momentum and growth in revenue from our MPR business, where we are at the end of the second quarter, already at the same level of the entire revenue for the MTR business throughout 2023.



Just to remind or talk about one key win in the quarter. We signed a 36-month contract with a multinational consumer goods firm, providing live essential services to initial 20,000 Teams users, [indiscernible], with plans to rise to over the next 2 years to reach nearly 100,000 users as the customer continues to migrate to Teams from its legacy PBX vendor. Winning marquee enterprise accounts with complex requirements takes time. Also initial contract win may not be meaningful. So long term, building trust with customers and executing on our land and expand strategy by leveraging broad portfolio of product and services have proven to be effective recipe to generating material revenue contribution with these accounts over time.



Now let's move to the customer experience business. In the CX business, our healthy pipeline continues to support a positive outlook for the second half and full year 2024. Revenue declined about 10% year-over-year in the quarter, impacted by a pushout of a large deal owing to customer-specific circumstances. And that's related to material changes in the market environment. We do expect a portion of this deal to close in the third quarter with the balance in the fourth quarter. Pipeline generation of opportunities remains healthy, and we have good visibility in this segment for the rest of the year. We see a growing number of large contact center migration to cloud projects, choosing our services and products to refresh their voice infrastructure.



This quarter, we closed several large deals with banking, financial services and insurance organization in North America, Asia Pacific and EMEA. Live CX is our voice services suite for contact center and now is delivered using our live platform, which generalizes the way the services are delivered and allow us to offer additional services to complete our value proposition to partners and large customers. I just mentioned some of the customer exercise services. I'll mentioned just 4. The first one is bring your carrier solution or connection. This is our core competency, which is tied up to our SBC business and where we deliver superior quality for large global contact centers.



We know that at this stage, only about 20% of the contact center -- global contact center have migrated. So a very long runway ahead. We forecast that in each of the next 3 years, our revenues from this application will grow about 25% a year. Second service is our omnivoice channel solution or we call it click to call. In this area, we expect high growth. We are sharpening our go-to-market and shaping it. But we believe that within the next 3 years, this will help to add more than EUR 20 million of revenues going forward. Then we can talk about a call regarding call security. And then we can talk about enhanced services and analytics. I'll not provide more details, we can definitely provide those details in calls after the call.



In terms of revenues, just to give you some idea about the way the Live CX revenue has evolved. We started with about $2 million in 2022. In 2023, revenue grew to $6.8 million with more than 30 projects compared to just 15 in the year before. In 2024, with about $3.1 million in bookings in the first half. And then we have a very interesting win with a large financial institution in the U.S. We see an increasing number of projects with financial institutions migrating to the cloud. Naturally, these large projects require longer decision cycles that may delay signature. In the third quarter, we won a project with U.S. Bank that added our new coal security service, adding an additional 30% on top of the voice connectivity revenue.



Now let me move to the conversation AI business. Shifting to that business, revenue was, as I've mentioned, 10.5% year-over-year. Bookings grew above 50% for the quarter. We expect it to become the second most important growth engine for the company going forward with total contract value expected to cross the $10 million this year. We expect that contract value to grow for this line at least 30% to 50% year-over-year in each of the coming years.



So definitely a key activity. To provide more color on our investments in conversational AI, I'll point out the following. First, again, as I've mentioned before, we believe that the majority of business to be done in CAI relates to AI project implementation, where GenAI plays a critical role. However, most of the value lies in the integrated solution. While GenAI and conventional AI are key to the delivery solution, the ability to compete and be successful in providing full working surface solutions to the enterprise space, it's highly dependent on system and cloud services where we have an edge over the competition. This is where AudioCodes shines. We own extensive experience in multitudes of technology areas, including telephony networking, networking device management, security, cloud cognitive services practice, and more. At the same time, we invest in fine-tuning GenAI applied research for this project.



I mentioned that out of an R&D force headcount of about 350 engineering software developers, we currently employ more than 100% in the voice AI activities, which is close to 1/3 of it. Growth of UCaaS and CCaaS is heavily dependent these days on the application of CAI, GenAI. Microsoft copilot growth clearly depicts this dependency. And thus, we believe we have an edge and are building a strong baseline for future business expansion. Key activity increasing in mainly in the verticals of finance, health care, and government.



Talking about solutions. We have now in production, 3 SaaS applications, which provide multi-tenant operation over Azure, leading is Voca CIC, our AIFR Azure native contact center for Microsoft Teams. Then we have an interaction recording application called SmartTAP 360, which provides compliance recording and enterprise recording. And then we are Meeting Insights and enterprise-grade meeting collaboration tools. We do intend to expand the activity in CAI by providing going forward an on-prem solution for meeting insight and interaction analytics for contact centers, add more automation on top of the Meeting Insights and more case projects.



Turning a bit to Voca CIC. Voca CICs are as I've mentioned, a first contact center solution for Teams. It plays well into the company's overall life business and strategy where we enjoy the benefit of upsell to the existing customer base. Bookings are already at 70% at the end of the second quarter already at 75% compared to last year. We expect them to close to double this year. Revenues are already 130% above the entire 2023, we expect to almost triple them in 2024.



To mention a few more data points. Voca CIC pipeline increased 35% quarter-over-quarter sequential quarter. We won an additional education account in North America, now serving 5 educational customers in the U.S. in total. We continue -- we have continued momentum with channel partners in education, we signed 5 additional channel powers this quarter. We own [indiscernible] first-ever omnichannel contact center with a leading Fortune 500 manufacturer with a contact analyst of more than 300 agents. We won a large migration project of more than 200 IVRs. Again, this is in EMEA, moving a customer from Zoom to Teams. And then we have Voca's CIC largest deployment to date now handling 2.5 million calls a month.



Turning to Meeting Insights, Meeting Insights is a SaaS application and an organizational enterprise solution, it captures, analyses, and organizes every access of Teams meeting in the organization, allowing company-wide information sharing and enabling substantial better decision-making for managers and company management using information delivered in meetings across the organization. At AudioCodes, we have used Meeting Insights for more than 2 years now and processing nowadays more than 150 meetings a day. Needless to say, we experienced high -- very high productivity pickup based on this using the application.



AudioCodes Meeting Insights is part of a growing portfolio of SaaS application and services in the conversation AI domain, which unleashed the part of AI by transforming Teams meetings into business insights, delivering efficient use of information and data exchange throughout the meeting, and accelerating business productivity and organizational decision-making intelligence. Glad to inform that as of the end of last week, an online publication -- leading online publication, you see today has selected AudioCodes Meeting Insights as a winner of its best use of AI category in its UC Award 2024. The awards judges recognized Meeting Insight's ability to leverage conversational AI, it enhances the productivity and overall communication experience.



Just to mention some data points. We've seen we have delivered -- completed the deployment of a SaaS solution throughout the first quarter. We've seen tremendous growth in second quarter, more than 30%. We now expect to grow very fast. The use of AI in Meeting Insights will probably double month-over-month. We see many organizations starting to use LM technology and insights and prompts from Meeting Insights. Going forward, we expand -- we plan to expand the team's solution into providing a solution for the Zoom Google Meet, and Cisco Webex environments. And we intend also to provide a solution for storage to be on-prem rather than just cloud. We're doing that on top of the [ Ebro ] and U.S. and U.K. English to provide a few more European languages already next month, August, providing German, French, Dutch, Italian, Spanish, and more. So we expand rapid growth. We expanded that business that is just a few thousands of dollars in 2024 to deliver millions, few millions in 2025.



Just to again mention that we're working to expand the solution in many areas I mentioned. We led automation on top of it, very unique features that will allow to improve productivity, such as prepare me for my next meeting, you'll get a message on your mobile and you'll be ready to meet to deal with anyone that you had meeting with and had connection with. We'll add more integration into CRMs and meeting notifications. And with that, I'll wrap up.



So we have delivered on our business priorities in the quarter, fostering growth in strategic areas of our business while successfully executing on cost-reduction initiatives. We believe this lays the foundation to support healthy top-line growth long term while driving significant margin expansion in 2024 and beyond. And with that, I have concluded my presentation and we'll move the session to Q&A.



Thank you, operator.

[Operator]

[Operator Instructions]. Your first question is coming from Ryan MacWilliams of Barclays.

[Damian Cogen, analyst]

This is Damian Cogen off from Ryan MacWilliams. Great to see improved service business growth year-over-year in the quarter. Can you help us understand what the key drivers of growth were in the quarter? And how we should think about growth in the product for service business lines in the back half of the year?

[Shabtai Adlersberg, executive]

Yes. Actually, again, anyone who wants to understand the prospects of our business should pay attention to 2 key lines, business lines. One is the live and Microsoft Live Teams, which is the managed services business, which service is now about 53%, growing nicely year-over-year. This is where we put most of our energy and resources. We have built, I think, the strength comes from the fact that we have developed round several years a platform. Platform with call Live platform. And it's based on connectivity services for which we are known, right, both Gateway and SBC. But then throughout the years, we have added more services. First and foremost, management services. So we can manage additional deletion of user sites. We then added on top of that the contact center Teams application, which provides for contact center applications. We've added recording solutions nowadays recording and transcription and inference become key in the evolution of both UCaaS and CCaaS solutions. So adding those services further strengthened.



So our strategy here is land and expand. So we usually invent with our connectivity services, where we consider to be the dominant leader in the market. And then we simply tunnel and sell -- do an upsell of voice-related business applications to each such account. And customer, we had the last win, a very important win with UCF, University of Central Florida, right, one of the top 3 universities in the U.S. They have been using our SBCs for a long time. And because they recognized us as a trusted reliable supplier, when we offered them to evaluate our contact center solution, the took on it.



Last year, we signed the contract. So it's -- again, it's land and expand and the addition of more services and you can expect, right? I was talking about meeting ESAD, I was talking about the new coming solution. Let's talk about interaction analytics for contact centers, et cetera. So we see a long runway for voice-related business applications in the live Teams environment. And this is why we believe that having this integrated platform is very high integration to it, I believe that that puts us substantially above any seeable competition. So we've kind of built the moat, if you will, for the Microsoft Teams phone business. And with the long runway, we're fairly confident that, that growth will continue. So that's one leg.



The other one, which is just the new substantially smaller lag, which is the CAI, conversational AI. Here, again, we bring our many years, 20, 25 years of experience in a multitude of technologies, as I've mentioned. We believe not too many organizations may have this type of comprehensive set of technologies, resources from telephony networking management, you name it. And now since we are -- and we have a group that is specializing in evaluating and optimizing large language models in GenAI. So we are basically mirroring the oil system in software and cloud services. abilities with the new Gen AI activity that the internal group is handling, right? We're working with OpenAI NLM and with cloud and if other things there more.



So we definitely expect that our ability to deliver end-to-end full solutions based on these capabilities will become a very strong driver for success in the future. So those are the 2 key elements upon which we base our business going forward.

[Damian Cogen, analyst]

Great to see the continued improvement in the conversational AI product. Can you just help us understand what kind of customers are adopting that product? And is customer appetite for adopting AI use cases better than your expectations?

[Shabtai Adlersberg, executive]

Yes. So we have -- well, my strategy was always to set up here in Israel next to Edcor, where we have got great access to a lot of businesses. So we have a few projects running already and completely delivered, both in the financial sector, in the government sector, and in the health care sector. So for example, we completed a project with Israeli Red Cross Ambelon service back in 2021. That's working for 3 years now. We have delivered 2 projects for the government space. We are delivered already the Israel, the largest medical service organization is called Clalit.



It has 4.5 million subscribers. We have a solution for call steering and now we have for setting calls. It's running like 100,000 calls a day. So at this stage, I would say that we have close to 10 different applications, which are not based on the sensor products, right? It's not Voca CIC and it's not Meeting Insights. It's projects where you need to connect to a contact center, you need to connect to a cellular phone environment. You need to do management of elements, you need to transcribe to extract to infer, record, deliver reports, analytics, so a lot of areas where we can shine.

[Operator]

Your next question is coming from Ryan Koontz of Needham & Company.

[Ryan Koontz, analyst]

I wanted to take a different cut at the last question about the transition from license over subscription. And we think about this over a multiyear view, at what point do you expect growth to reinflect as you see this transition from product over to service? Do you have an idea? Can you set me kind of goalpost out there when you think you might see this return to revenue recognition growth again, approaching high single-digit or maybe double-digit?

[Shabtai Adlersberg, executive]

Yes. I believe that the decline of legacy is moderating. And at the same time, we see managed services picking up and CAI services at the same time. Based on our visibility, we should talk about 2 to 3 cores going forward. So I expect that actually either first quarter, or second quarter 2025, we are definitely going into growth. And I believe that now that our business will be primarily based on recurring business and that onetime sale business, chances for decline such as happened to us back in '23 and this year will not repeat themselves. So we expect growth to come back the second quarter of '25 and beyond.

[Ryan Koontz, analyst]

That's very helpful. On the recovery in the legacy gateways, anything going on there? And it just doesn't seem like the operators are particularly investing a lot these days. So wondering what's behind your recovery in legacy gateway shipments.

[Shabtai Adlersberg, executive]

Yes. When we look into the history of gateway sales, we saw that back in '23 first quarter and this first quarter of '24, there was a sharp decline between the fourth quarter to the last quarter in the year to the first quarter in the year, and then it stabilized for the rest of the year. So we do expect that Gateway business will not continue to decline or will definitely moderate its decline throughout '24. All in all, I believe that we already just give you a quick think, all in all, if I'll sum up totals, back in the end of 2022, our combined gateway business was roughly about $90 million.



At the end of this quarter, I think we got somewhere to like $60 million. I don't believe we will see a decline of more than another 10 million or 15 million, so throughout the coming quarters. So all in all, I think we already experienced the largest drop. And so it will moderate and will vanish.

[Ryan Koontz, analyst]

Helpful. And just a quick housekeeping one here. On the higher cash use in the quarter. You mentioned the headquarters modernization investments there and that will continue in the third quarter. Any other puts and takes on the cash use in the quarter. I did see that the accounts receivable was up and things like this. But anything else you'd call out on the cash flow that drove you guys to have a higher use in the quarter?

[Niran Baruch, executive]

So we had a very nice cash flow -- operating cash flow in the first quarter, it was $50 million. So no dramatic change during this quarter, although we saw a slight increase in our accounts receivables, but there is no issues with the collection or doubtful allowance with regards to the accounts receivables. We managed to lower the inventory level. So all in all, we believe we will back to a positive operating cash flow at the third quarter and then after. And with regards to the capital expenditures here, it relates to our new headquarters. We will have a few more millions invested in the third quarter, and then we will be back to the regular level that we used to have before.

[Operator]

Your next question is coming from Samad Samana of Jefferies.

[Unknown Analyst]

This is Bill [indiscernible] on for Samad. Maybe the first question. There are a lot of conflicting narratives right now on the macro front and what this means for the UCaaS and CCaaS vendors. Would be curious if you guys have seen any material changes in either UCaaS or CCaaS spending from a macro backdrop perspective quarter-over-quarter, or as you look out to the third quarter.

[Shabtai Adlersberg, executive]

Okay. Well, all in all, I believe, and we also review information provided by analysts in the space. Contact center activity doesn't seem to stop. Actually, it continues. If you'll take Enterprise Connect back in March of this year, it was fairly active and intensive on our contact center application, that's growing. And no impact from the global economy. UCaaS is growing less. However, it still very strong. We have not seen -- well, there's definitely an impact of the economic situation on enterprises investing in modernizing their networks. I believe that that will come back when that situation ends hopefully next year.



I'll just say that, again, as I've mentioned that [indiscernible] of Gen AI technology, copilot, and likes will definitely give a push to the UCaaS use case, simply because now the ample actually excellent technology that allows to provide substantially more value from analyzing meetings and calls in the enterprise. So while we have been using data messages, e-mail messages or files, digital files to derive our intel from, nowadays, there is information exchange in meetings, which is we sit in meetings all day. So there's a huge amount of new information that has not been captured so far, has not been used to generate good intelligence.



So we do expect that GenAI, Copilot and a few more chatbot technologies will definitely help to increase the use of UCaaS. So all in now, we are optimistic that in 2025, we'll see better behavior.

[Unknown Analyst]

Got it. And then conversational AI grew 50% year-over-year in Shunt, you provided some customer examples of conversational AI adopters. Maybe digging a little deeper there. Can you just relay some anecdotes from customers on kind of the sales motion and what initial feedback on the product has been like, how are customers justifying the cost increase, what are getting those deals over the finish line? Any color there would be helpful.

[Shabtai Adlersberg, executive]

Yes. Very simply, I mean, let's talk about a corporation that needs to be highly operational and effective in running its operation in diverse locations and sites. One organization that we work with was usually recording its meetings, but however, you had a turnaround time of about 3 weeks before they got back the transcription and then we're able to distribute it. Nowadays, if you have some time pressure to solve issues at the end of the meeting, you're getting a full transcribed summary action items that can be distributed and sent over immediately over the communication line. So it takes an operation that was really not efficient, very slow to an operation that's fairly real-time operated. And that's a big, big plus. Think also about a contact center that was working, however, management and analysts had no idea about what was going on in all those calls. Now we have tools such as summarization and insights extraction that allow analysts and data scientists to inform managers where the focus is, what application and our operation is hot and which is not, and where management should invest its resources.



So many such -- I can tell you that we have plenty of use cases all around. I give you an example, employee leaving your organization, knowledge retention. If you have the talent, it has left your organization, you are at a loss. It will take 4 months to recruit a replacement, all the experience and knowledge that the previous employees were gone usually. And it's a blow. Many years ago, we lost several design engineers. We made a calculation that the departure of each cost us about $70,000 in total. Nowadays, if you use a meeting summary and insights tool for each meeting. All you need to do is you tell your employees to include that capability in each of their meetings. Now when somebody lives, the new employee that comes and replaces him, all of a sudden got tens and hundreds of recordings and summarization and inside in text from this person experience. So all of a sudden, it can become fully productive and effective within a matter of a week or 2. So that's definitely 3 different examples, which tells you why our organization will spend a lot of money to take advantage of the use of AI..

[Operator]

[Operator Instructions] We appear to have reached the end of our question-and-answer session. I will now hand back over to Shabtai for any closing remarks.

[Shabtai Adlersberg, executive]

Thank you, operator. I would like to thank everyone who attended our conference call today. With continued good business momentum in our enterprise operation and good underlying market growth trends in the UCaaS, CCaaS, and CAI, we believe we are transitioning the business towards growth and growing profitability in the coming years. We look forward to your participation in our next quarterly conference call. Thank you all. Have a nice day.

[Operator]

Thank you very much. This does conclude today's conference. You may disconnect your phone lines at this time, and have a wonderful day. Thank you for your participation.