Vecima Networks Inc

TSX:VCM

Earnings Call Transcript 2019-Q1

[Operator]

Hello. This is the Chorus Call conference operator. Welcome to Vecima Networks First Quarter Fiscal Year 2019 Results Conference Call and Webcast. [Operator Instructions] Presenting today on behalf of Vecima Networks are Sumit Kumar, President and CEO; and John Hanna, CFO. Today's call will begin with executive commentary on Vecima's financial and operational performance for the first quarter fiscal year 2019 results.Lastly, the call will finish with a question-and-answer period for analysts and institutional investors.The press release announcing the company's first quarter fiscal year 2019 results, as well as detailed supplemental investor information, are posted on Vecima's website at www.vecima.com under the Investors heading.The highlights provided in this call should be understood in conjunction with the company's unaudited condensed interim consolidated financial statements and accompanying notes for the 3 months ended September 30, 2018, which are available on Vecima's website at www.vecima.com.Certain statements in this conference call and webcast may constitute forward-looking statements within the meaning of applicable securities laws. All statements other than statements of historical fact are forward-looking statements. These statements include, but are not limited to, statements regarding the management's intentions, belief and current expectations with respect to market and general economic conditions, future sales and revenue expectations, future costs and operating performance. These statements are not guarantees of future performance and involve risks and uncertainties that are difficult to predict and/or beyond our control.A number of important factors could cause actual outcomes and results to differ materially from those expressed in these forward-looking statements. These factors include, but are not limited to, the current significant general economic uncertainty and credit and financial volatility and the distinctive characteristics of Vecima's operations and industry and customer demand that may have a material impact on or constitute risk factors in respect of Vecima's future financial performance as set forth under the heading Risk Factors in the company's annual information form dated September 27, 2018. A copy of which will be available at www.sedar.com.In addition, although the forward-looking statements in this earnings call are based on what management believes are reasonable assumptions, such assumptions may prove to be incorrect. Consequently, attendees should not place undue reliance on such forward-looking statements. In addition, these forward-looking statements relate to the date on which they are made. Vecima disclaims any intention or obligation to update or revise any forward-looking statements as a result of new information, future events or otherwise, except as required by law.At this time, I would like to turn the conference over to Mr. Kumar to proceed with his remarks. Please go ahead.

[Sumit Kumar, CEO, President & Non Independent Director]

Thank you, and good morning, everyone. The first quarter of fiscal 2019 was a highly productive period for Vecima. We made excellent progress expanding and differentiating our products with new offerings and features. We also secured new supply agreements, optimized our sales operations and implemented a major new brand initiative. It was a very strong period operationally. Financially, it was a more challenging quarter with revenue of $21.3 million, Adjusted EBITDA of $1.9 million and a net loss of $1.1 million.On the top line, revenue from our Content Delivery and Storage segment was impacted by a push out on timing for some of our customer orders. And we recorded $0.8 million restructuring charge as we streamlined our manufacturing operations for the year ahead. On a full year basis, we continue to look forward to the strong contribution from the Content Delivery and Storage segment in fiscal 2019. But our Q1 results underscore the customer timing can drive large quarterly revenue swings in this part of our business. And seasonally, the first quarter is typically the weakest for this segment. Allow me to expand on some of the timing characteristics for the Content Delivery and Storage business to better familiarize investors with this new segment.IPTV and OTT deployments at customers are typically complex projects with broad system sales. Vecima's platforms are part of a larger ecosystem including partners and components internally developed by customers. This can span all of back-office systems, user interfaces, and customer premise equipment in addition to our storage transcode and CDN. Between the complex project nature and interdependencies, timelines do occasionally adjust. Despite these challenges, our first quarter gross margin remained well within our target range at 52.5%, and we ended the quarter with a strong cash balance of $53.4 million.Looking at some of the highlights from our 3 operating segments. In our Video and Broadband Solutions segment, we remained tightly focused on bringing our new Entra products to market. We completed lab testing of our Legacy QAM Adapter with a major MSO and are now ready to start field trials. This is a product that provides video services on our customers' existing Edge QAM infrastructure within a distributed access architecture. It's an important tool to shift our customers over to the DAA network architecture. Video services in a DAA architecture can be highly challenging and this has been widely acknowledged by the industry. Vecima's LQA elegantly and simply solves this challenge. Meanwhile, our distributed access node, which is the heart of our solution continues to prove itself in customer lab testing with this interoperability shining. During the first quarter, we further differentiated our solution with the introduction of the Entra Remote PHY Monitor. This new product enables operators to monitor and manage their Remote PHY access nodes and provides excellent visibility into how the nodes are performing, addressing a key operational challenge of DAA by giving the nodes a voice. It's a solution that's resonating strongly with operators and is capturing awards recognition as well. Our Entra Remote PHY Monitor was recently honored in the 2018 BTR Diamond Technology Review for the 4 Diamond Award. The judges noted that our product addresses one of the biggest missing pieces of the Remote PHY DAA use case. So some great progress in Entra during the first quarter and we are growing increasingly confident in both the size of the opportunity for DOCSIS 3.1 DAA and our prospects in this huge new market.In our Terrace family of products. I'm pleased to report that we secured first customer engagement and revenue for Terrace DVB with a Tier 1 European MSO. This is a new version of our very successful Terrace family of commercial video products, which is focused on the European market.In our Content Delivery and Storage segment, we launched a new branding initiative that organizes and integrates the full suite of Concurrent media delivery and storage products under a common brand identity. Previously, the 4 product groups were marketed under different brand names. Going forward, they now share the family trademark MediaScaleX, which reinforces the ways these products work together to help customers store, transform, secure, and deliver their IP video content. The unique ability of our IP video platforms to scale for the real world capacities needed for media are reflected in this brand. We also brought our Concurrent and Vecima sales and marketing departments together to expand our global reach, increase direct engagement with customers, and leverage the combined capabilities of our platforms. We're excited about the strengths of our integrated go-to-market team.In terms of product development, we released an upgraded version of our Origin platform, which reduces the latency or time lag associated with live streaming, which is a critical and until now unaddressed need in IPTV. It also offers more flexibility, and higher performance within the lower cost architecture. And we announced a major IPTV OTT or Over-the-Top upgrade with large European MSO. This upgrade is expected to drive revenue growth with this customer for the next 3 years.In our Telematics segment, we launched a new asset tracking product called Nero Equipment Tracking in the first quarter. Nero Equipment Tracking is a GPS tracking beacon designed for smaller movable assets. Examples of this would be the dehumidifiers used by [ insurance ] restoration company and [indiscernible] lighting systems used by construction companies. We can demonstrate a strong return on investment for companies that choose to track this type of equipment in the field.So overall, it was a busy quarter for Vecima and our new product developments are giving us access to broader markets while establishing a strong foundation for our future. At this time, I'll ask John to review our fourth quarter results with you. John?

[John Hanna, Chief Financial Officer]

Thank you, Sumit. For the purposes of this call, we assume that everyone has seen the news release and financial statements for the fiscal 2019 first quarter that are posted on Vecima's website. I will present the relevant numbers and discussions around overall results, market segments, operational expenses and the balance sheet. I'll start by reminding everyone that our results include the addition of the Concurrent business which we brought on board midway through last year. As a result, all comparisons will reflect Content Delivery and Storage numbers in the current quarter and not in the prior year quarter. As well this quarter, we adopted IFRS 15, revenue from contracts with customers with a date of initial application of July 1, 2018. As a result, we changed our accounting policy for revenue recognition. We have applied IFRS 15, using the modified retrospective approach and have recognized the cumulative effect of initially applying the standard as an adjustment to the opening balance of equity at July 1, 2018. The adjustment to retained earnings of approximately $102,000 is immaterial in the context of our financial statements.Now turning to Q1 results. Starting with consolidated sales for the 3 months ended September 30, 2018, we generated sales of $21.3 million. This was a 43% increase from the same quarter last year due to the contribution from Content Delivery and Storage but was down 12% from $24.3 million in Q4 fiscal 2018. In the Video and Broadband Solutions segment, we generated first quarter sales of $11.3 million, a 2% increase from the $11.1 million in sales last quarter but down from $13.6 million in the same period last year. In our Terrace product family, sales were down 4% to $7.0 million from $7.3 million in the same period of last year as the continuation of purchasing activity by a Tier 1 MSO slows its pace. Terrace QAM sales of $1.7 million decreased in line with our expectations as our [ elite ] customer's requirement continues to taper off. In our Content Delivery and Storage business, sales were down 28% to $8.6 million in the first quarter as compared to $12 million in the fourth quarter of fiscal 2018 due to the impact of push out on timing for some of our customer orders as Sumit discussed earlier.Turning to our Telematics segment, sales in the fourth quarter increased to $1.4 million, up 4% from $1.3 million last quarter and up 6% from $1.3 million in Q1 fiscal 2018. Looking at Vecima's business as a whole, we achieved a consolidated gross margin of 52.5% in the first quarter. Despite a number of offsetting positive and negative influences on gross margin this quarter if one were to isolate the IFRS 15 changes in the quarter, comparatively overall gross margin for Q1 would have been very similar to Q4 2018. The various components of operating expenses namely R&D, sales and marketing and G&A were all higher in the current period compared to the prior year due to our Concurrent acquisition.Excluding Content Delivery and Storage expenses, the notable changes year-over-year in Q1 operating expenses were as follows. R&D was down $0.2 million due largely to lower prototype costs and subcontracting costs offset slightly by higher staffing costs. Sales and marketing was basically flat with increased staffing costs offset by the reclassification of commissions and support costs to cost of goods sold under IFRS 15. G&A was down $0.1 million due primarily to prior-year acquisition costs that didn't occur this year. Total OpEx on a sequential quarterly basis was slightly lower in Q1 at $12.5 million down from $12.6 million in Q4 of fiscal '18. However, the current quarter included restructuring charges of $0.8 million. We experienced a net loss from continuing operations of $1.1 million or $0.05 per share. This compares to net income from continuing operations of $0.8 million or $0.04 per share in Q4 2018. This was due to the decreased contribution both the Video and Broadband Solutions and Content Delivery and Storage segments.Turning to the balance sheet, we ended the quarter with cash and short-term investments of $53.4 million and our working capital remained strong at $73.2 million. Finally, cash flow from operations, excluding non-cash working capital was $0.7 million compared to $9.1 million in the same period last year. The $8.4 million change reflects a $6.8 million decrease in cash flow from non-cash working capital and $1.6 million decrease in operating cash flow. While this quarter's performance did not meet our expectations due to orders being pushed out. We are confident in the long-term view of the business. Now back to Sumit.

[Sumit Kumar, CEO, President & Non Independent Director]

Thank you, John. Turning to our outlook for fiscal 2019. In our Video and Broadband Solutions segment, we expect to see a continuation of transition dynamics as the industry prepares for DOCSIS 3.1 distributed access architecture. While the timing of the volume phase remains difficult to predict, we're working closely with our MSO customers and we're continuing to invest in Entra as we further differentiate and enhance the advantages of our platform. In our Content Delivery and Storage segment, our outlook remains very positive. We are seeing a buildup to a wide IPTV market that can support services like time-shift TV, streaming and Cloud DVR. Our MediaScaleX family of products broadly address this market and are creating a large pipeline of opportunities in the U.S., Europe and APAC. But I would remind you again that this part of our business can have significant quarterly sales variances. I would urge you to think about results on a full year rather than a quarterly basis. Finally, in our Telematics segment, we anticipate incremental growth in demand for our fleet tracking products in fiscal 2019 will also be pursuing the new opportunities in asset tracking. Across all of our product families, we are creating unique must-have features that are advancing our competitive position. And we remain strongly positioned as the industry approaches two of the most significant market developments driving its future, getting to gigabit Internet and moving to IP video with all of its powerful features.Our focus is on pursuing the significant opportunities in both sectors, while also leveraging the complementary nature of these 2 businesses to provide benefits to our customers. We're very excited about our future. That concludes our formal comments for today. We'll now be happy to take questions. Operator?

[Operator]

We will now begin the question-and-answer session. [Operator Instructions] The first question is from Todd Coupland with CIBC.

[Todd Adair Coupland]

I had a few questions but let me get the P&L out of the way first. So, John, if I think about run rate OpEx, would I exclude the [ 800k ]. So it's actually more like $11.7 million rather than $12.5 million?

[John Hanna, Chief Financial Officer]

You would exclude the [ 800k ]. But I think we'd be looking with the adjustments that we're seeing more in $12.2 million range.

[Todd Adair Coupland]

You should hang around the 12-ish range until Entra starts to kick in and you've got to spend some money to push that into the market, is that the right way to think about that?

[John Hanna, Chief Financial Officer]

That's right. Yes, similar to my comments last quarter, sort of in Q3, Q4, we do expect a little bit of an uptick in the sales and marketing area for that entry.

[Todd Adair Coupland]

And on deferred development expenses, I guess they are in the $4 million range, is that still about the right number as we think about quarterly spends through the year?

[John Hanna, Chief Financial Officer]

Yes, I would say so and on a total expenditure basis, we were down a little bit in Q1 as compared to Q4. I think, we probably move back up a little bit closer to where we were in Q4 overall.

[Todd Adair Coupland]

And then if I -- if you were just to sort of characterize your comments on timing of volume phase of Entra being uncertain. I mean, you would have said that last quarter as well. So are you saying it's potentially shifting out here a little bit or what are you actually saying, when you make that statement.

[Sumit Kumar, CEO, President & Non Independent Director]

Sure, and I think, Todd, as we've talked about this timing, it's a major network access upgrade that's taking place over in the better part of a decade across the whole market. So it's been very challenging to pinpoint timing and then in some respect, we along with entire industry see it as having come to its genesis a lot lower than initially hoped. So that variability down to the quarter level is something that remains the case. I think, we've seen that calendar '19 is being poised as an important year for distributed access in general. We're starting to see more formality behind trials and whatnot, and with respect to our engagements as well in that regard. So we do anticipate that the timing is still variable to that to get to that precision but calendar '19 and will be an important year.

[Todd Adair Coupland]

And I mean, I would have thought the cable companies are starting to put their CapEx plans out there for 2019. So it sounds like what you're saying is, even though they have some rough ideas on what they want to do in 2019, they're not specifically locking in broad deployment at this point in time.

[Sumit Kumar, CEO, President & Non Independent Director]

Yes, I think we only have a certain direct visibility into the allocation of CapEx budgets to distributed access. We do think that within calendar '19 there will be allocation especially at some of these leading Tier 1s that are looking at that year importantly. Again, we don't have precision in terms of what their exact plans are going to be on spend. There is some influence of Gen 1, Gen 2 dynamics that we've talked about at work several customers. But on the other hand, there's a need and like we said, it's been a long bring up cycle for DAA in general. So we do anticipate Gen 1 oriented activity happening in calendar '19.

[Todd Adair Coupland]

And just from our point of view, are there sort of any macro drivers that will tilt that by the MSOs one way or another?

[Sumit Kumar, CEO, President & Non Independent Director]

On the economic point, I mean, that's a bit removed from myself. I think that macro-wise, as we think about it from the MSO perspective, they are continuously evaluating their broadband access service and how that situates themselves competitively with fiber to the home and whatnot. We've seen various up and down cycles in fiber to the home considering how daunting of a prospect that is for the cable MSOs competitors. So that's in part led to some of this variability, we're seeing in terms of how fast they move competitively. We do think that generally speaking on the macro level, this move to gigabit access is starting to happen, it's in line with what the subscribers and customers are demanding and the kind of taste and need for this insatiable bandwidth we always talk about, so that is starting to happen, and we're starting to see the operators consider when they need to outfit and get further penetration at gigabit speeds.

[Todd Adair Coupland]

I think, I asked you this once before, but maybe just refresh me. And does the telco activity on fixed broadband access with 5G, does that influence any decisions here or do they still view that as sort of a toy exercise and not a real big hammer?

[Sumit Kumar, CEO, President & Non Independent Director]

I think, it's a -- bit much to call it a toy, but I think that, yes, the perception of it being a hammer on fixed wireline access like DOCSIS 3.1 multi-gigabit. We think that's a long shot at this point in time in terms of that being viable. And yes, we have talked about it before and between the cell radius and things like that require there's so much that's needed for 5G to become competitive with 3.1 in DOCSIS that we got a long period of time before that becomes effective.

[Todd Adair Coupland]

That's fair, and I certainly accept that point as well. They got ways to prove that in. It's more of a step towards mobile anyway, so.

[Operator]

The next question is with David Kwan with PI Financial.

[David Kwan, Technology Analyst]

Can you guys talk about the revenue opportunity, I guess in the Content Delivery and Storage business with that large European MSO?

[Sumit Kumar, CEO, President & Non Independent Director]

Sure. So, this European MSO has recently come to a new phase of deployment with us -- Concurrent products our Content Delivery and Storage products were deployed in their network for IP linear to a certain extent. They have few million subscribers in Europe there and we've got a decent amount of covers today, but there is a broad expansion being looked at today as they start to move generally speaking now to favoring the IPTV platform across the entire network. So having had the original deployment of OTT at that operator, we're now levering up and deploying all of storage for Cloud DVR, CACHE and ORIGIN and moving towards multi-year broadening at that operator. So that's a powerful platform for us and it's a classical MSO that's moving fully to IPTV with our solution. So that's precisely the type of evolution that we're tracking towards here.

[David Kwan, Technology Analyst]

How can we think about it, I guess, from a revenue perspective, over the few years, I think you guys had indicated the opportunity is ?

[Sumit Kumar, CEO, President & Non Independent Director]

Yes, I think part and parcel of the bigger picture that we see for Content Delivery and Storage that fiscal '19, we're going to see a decent amount of modest growth in our first year relative to the trailing 12 months from Q4. We anticipate that continuing in fiscal '20 and whatnot. This is an important component, one of many components to that growth and an important milestone for us in securing this multiyear deployment that's part of the growth picture.

[David Kwan, Technology Analyst]

I guess moving on to Terrace IQ. I'm curious to get an update there. How it's going? I think, you've got 1 customer in particular, you've been working with, just curious kind of where that is right now in terms of potential commercialization?

[John Hanna, Chief Financial Officer]

Yes, Terrace IQ has proven to become a powerful next-generation platform for commercial video. We've talked in Terrace generally about 3 U.S. Tier 1s being our key customers for the family today, 2 of those are now on a path towards looking at Terrace IQ to transition over for their blueprint commercial video platform. That'll involve both any new sites that they're capturing in this network fill-in mode as well as over time re-outfitting the several thousand properties that we've deployed with prior generation Terrace platforms. Again that's in line with their overall video network evolution towards IPTV features to feed the commercial property with the same IPTV network and then once again recreate this model that we've enabled with the Terrace and Terrace QAM families of having the bulk video within the commercial property without weighing down the televisions with any form of set-top box and whatnot that's been very powerful domestically with 25,000 some properties that these 3 Tier 1 MSOs have deployed. So we're into development. We're in the process of formalizing agreements with 2 of those 3 operators that they're -- one is also aware of it and is in a different phase, but we expect -- anticipate that they will start to move towards IQ in time as well. So development is underway. I think, it's a fourth generation platform, much higher density. The IPTV features are coming in. So, fair amount of development to do. We anticipate that we could have it out the door in calendar '19 at some point.

[David Kwan, Technology Analyst]

And when like first half of calendar '19 or second half?

[Sumit Kumar, CEO, President & Non Independent Director]

Yes, it's also [indiscernible]. I'm not going to get too much precision on that deal, but it's going to land in our view in calendar '19 in -- and there will be various phases in terms of the feature sets and whatnot. I don't want to say exactly when at this point.

[David Kwan, Technology Analyst]

I guess, you could break -- looking at the revenue that you'd broken down by region, it looks like there was $2 million coming out of Europe and it looks like you're just starting to break out Europe there. Can you maybe provide some color, how much of that would come out of the Concurrent business versus any orders that might have been in there for Terrace DVB?

[Sumit Kumar, CEO, President & Non Independent Director]

So Terrace DVB, is a small component of that. We had that for sale of the Tier 1 European operator, that's the lead for Terrace DVB. So that was an excellent milestone for us to get to first commercial deployment of the platform in the region, but given that was the first quarter of sales there, DVB was a small component of that that overall European segment, the bulk of it again was Content Delivery and Storage.

[David Kwan, Technology Analyst]

Probably the Terrace DVB may be couple of hundred thousand if not?

[Sumit Kumar, CEO, President & Non Independent Director]

That's in the ballpark.

[David Kwan, Technology Analyst]

Okay. In terms of the restructuring that you guys did, was that just primarily related to kind of the expected revenue trajectory for both Terrace and TQ?

[Sumit Kumar, CEO, President & Non Independent Director]

I wouldn't say it's primarily driven by that, of course looking at the run rates of Terrace and TQ today with that, that had a factor in terms of our requirements for resources. We're more looking at where we're headed for Entra, how we've situated the operations department to align for the significant volume ahead of us there, and there is an opportunity to rightsize a bit more, and that's optimization that we felt was a good timing for us to implement it now.

[John Hanna, Chief Financial Officer]

David, I would just add that on top of what Sumit said that, there was a small portion of the restructuring that was geared to legacy product even outside of the Terrace QAM family, some of the other legacy revenue that we continue to enjoy the benefit of. And so there were some folks that were maintaining that for us, but as we've gone through end of life notices et cetera, it just, we didn't need that support any further.

[David Kwan, Technology Analyst]

Okay. Looking I guess where you are with Concurrent, it seems like the integration is going well. Do you feel like you're in position now to -- if a material acquisition came across your desk that you'll be able to react quickly on it?

[Sumit Kumar, CEO, President & Non Independent Director]

Yes, I think, we are nearly a year-long and are breaking in of the Concurrent operations and I've been saying that we're quite pleased with how things have gone. We've recently integrated sales and marketing at a deeper level to lever up on that, that's been a good exercise for us and we're optimistic about the results that can come from that, everyone's well trained on -- co-trained on the product lines and whatnot. So we're fully integrated and things are running along for Content Delivery and Storage now for us. So that does lend itself to us being, we're in a position where M&A can be considered again. I've talked about the cable vendor landscape being heavily consolidated, I think there was another deal today announced that was another sign of that and that affords less in the way of opportunity, but things do come and we still have that strong cash balance. We already have very deep portfolio coverage for DAA and IPTV between the 2 segments today, so it's more, if we can add incrementally to those platforms and technology and customer sets.

[David Kwan, Technology Analyst]

My next question that you alluded to there, Sumit on the ARRIS deal, curious to get your thoughts on that and how that impacts, how you look at the business and the overall I guess competitive landscape?

[Sumit Kumar, CEO, President & Non Independent Director]

I think it's a bit early for me to make a conclusion, I think that they have complementary products, so that was part and parcel of the 2 of them, thinking about getting together and scaling up, and relative to another label we see in the vendor landscape that gives them an affordable, meaningful size as a competitor to them. I think, it does have an opportunity to play into something we've been talking about once again and that there is demand for more vendor selection and choice by our customers, and that gives us this opportunity in distributed access nodes to offer something beyond the consolidation in this incumbent space that we've seen. So bit fresh for perspective.

[David Kwan, Technology Analyst]

Last question. Just -- what's going on with the trade wars and the tariffs and whatnot, ARRIS had come out recently talking about the impact of the tariffs on their supply chain and pricing, et cetera, et cetera. Curious to get your thoughts on what you see both from your own operations and maybe what you're seeing from competitors as well?

[John Hanna, Chief Financial Officer]

Yes, I'll certainly handle the first part of that. David, I would say as it relates to the U.S. and some of the China tariffs, we're now into the third list of those items that are impacted and affected. And in the third list, some of our finished goods, some of the specific products have been impacted, however, given the way that we manufacture, assemble a product, we're still fine in terms of country of origin. So the tariffs aren't applicable, but some of our competitors, ARRIS being one for certain products, and as you highlighted would be impacted by this third list. So from our point of view, we are still managing it, have no impacts, but we are aware of, I think what you alluded to that some of the other vendors in this space are trying to deal with the tariffs and determine whether they pass them through or they have to take them on themselves.

[David Kwan, Technology Analyst]

So would it be, John, I guess where there may be some increased costs is really the components that are going into your products, but in terms of the actual end product or finished good, you guys are manufacturing here in Canada. Stuff that's going into the U.S., it wouldn't be impacted from a finished good standpoint. Is that a fair way of taking a look at it?

[John Hanna, Chief Financial Officer]

I think that's correct, yes.

[Operator]

[Operator Instructions] There are no more questions at this time. This concludes today's conference call. You may now disconnect your lines. Thank you for participating and have a pleasant day.