Ribbon Communications Inc. (RBBN) Q3 2019 Earnings Report, Transcript and Summary

Greetings. Welcome to Ribbon Communications Third Quarter 2019 Financial Results Conference Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. [Operator Instructions] Please note, this conference is being recorded. I would now like to turn the conference over to your host, Lindsay Savarese, Investor Relations. Thank you. You may begin.

Good afternoon and welcome to Ribbon's third quarter 2019 financial results conference call. I am Lindsay Savarese, Investor Relations for Ribbon. And on the call with me today are Fritz Hobbs, Ribbon’s President and CEO; and Daryl Raiford, CFO. Today's call is being webcast live and will be archived on the investor relations section of our website at ribboncommunications.com, where both our press release and our supplemental data are currently available. I'd like to remind you that during this call, we may make certain forward-looking statements. Such statements are based on our current expectations, forecasts and our assumptions regarding Ribbon's business, financial results, growth, anticipated benefits from acquisitions, our restructuring and cost containment activities, global economic conditions and other opportunities in the marketplace that include risks and uncertainties that could cause actual results to differ materially from the statements discussed today. Any forward-looking statements are qualified in their entirety by cautionary statements contained in Ribbon's most recent annual report on Form 10-K/A and the company's other SEC filings. While we may elect to update or revise forward-looking statements at some point, we specifically disclaim any obligation to do so, except as may be required by law. We utilize various metrics to assess the performance of our business. Not all of these metrics are GAAP metrics. And where our metrics are discussed on a non-GAAP basis, we have provided a reconciliation of GAAP to non-GAAP results in our press release and within the supplemental data on the Investor Relations section of our website. Statements about profitability refer to adjusted EBITDA unless otherwise indicated and are on a non-GAAP basis. And now, I would like to turn the call over to Fritz.

Thank you, Lindsay and good afternoon to everyone on the call. I will begin with review of our results for the third quarter and key business trends along with some of our noteworthy accomplishments. I will then turn the call to Daryl for a more detailed review of our financial performance and outlook. Our third quarter financial results were in line with our expectations. GAAP revenue was $138 million and adjusted EBITDA was $23 million. Adjusted EBITDA rose sequentially on the strength of higher gross margins and lower operating expenses. I view the state of our business as being on track to achieve the pillars underpinning our strategy. We set out last year to increasingly center our business on software through fully virtualized core products, our cloud-based application software and our security and analytics software. We further sought to expand our presence in the enterprise edge segment of the market, which we regard as faster growing than our service provider market. Adjusted EBITDA grew compared to the second quarter of 2019 on lower third quarter revenue. Our revenue was lower due to the deployment timing of network transformation projects and our increased mix of software sales. Nevertheless, our pure software product revenue rose 17% year-to-date in 2019 compared with the first nine months of 2018. In fact, software revenue accounted for more than half of our product revenue in the third quarter, marking the first time that software sales accounted for the majority of our product revenue. As we noted last quarter, the shift to higher software revenue was encouraging as it drives higher gross margins. However, it dampens compared to top line results, because we have less revenue uplift of attached appliance sales. In addition to higher software sales during the third quarter, we made good progress in growing our enterprise business and diversifying our revenue stream. Our enterprise revenue rose 16% over the second quarter and accounted for 29% of our third quarter product revenue, up from 21% in the second quarter of 2019. I view our moves towards software as well as the enterprise edge space as strategic to Ribbon, and I'm pleased with our progress on both initiatives. Now I'd like to quickly review some of our key accomplishments during the third quarter. We continue to work with Verizon on its virtual SBC migration. During the quarter, we completed testing Verizon's virtual network services SBC as a service offering, which is powered by Ribbon for Microsoft Teams' direct routing, allowing Verizon's enterprise customers to migrate to Microsoft Teams with secure connectivity. Further at Verizon, we continue to a large-scale multi-year effort to help modernize its legacy network with our network transformation solutions, and Ribbon's software was selected to help Verizon combat robocalling. On the topic of robocalling, we're working with a large cable MSO and multiple service providers to deploy our STIR/SHAKEN solutions in combination with our session, security, cloud software to help service providers address the robocalling challenge for their customers. We are helping two Tier 1 service providers in Japan with network interconnects and PSTN migration to IP with our session, security, cloud software and services. We are also providing TELUS in Canada with our fixed network transformation solutions, media gateway products and services to help them transform their fixed voice services network at multiple locations. With our enterprise edge offerings, we are engaged with multiple cable MSOs and a large service provider as they work to deploy and provide services assurance for their UC offerings to their business customers. We are also expanding our enterprise edge solutions. For example, Peerless Network, a leading provider of telecom -- telecommunication services for enterprise and wholesale customers worldwide has signed up to deploy our Cloud2Edge SaaS offering for its business customers. During the third quarter, we continued also to make progress in our applications and security solutions space by providing cloud solutions to certain of our service provider customers. For example, Etisalat, a large service provider operating in 15 countries across Asia, the Middle East and Africa officially launched its CloudTalk offering to both SMB and large enterprise customers in the UAE using our application solutions. CloudTalk enables Etisalat to deliver a reliable carrier-grade cloud PBX and hosted business communication service with all the features of a traditional phone system plus unified communications and collaboration services. In addition, multiple enterprise customers purchased Ribbon's security solution during the third quarter to help monitor and secure their networks. We now have nearly 30 service providers and enterprise customers using our security offering and many other customers are evaluating. We continue expanding our support of AT&T to grow its API marketplace offerings to business customers with new cloud-based digital services. I'll now turn the call over to Daryl to take you through our full results and provide more color on our outlook.

Thank you, Fritz. As a reminder, slides detailing our historical financial performance are available on the Investor Relations section of our website. I would like to remind everyone about second quarter's format change where we no longer increase our non-GAAP revenue for revenue loss applying purchase accounting. We have conformed prior periods to this presentation basis. In summary, our third quarter 2019 financial results were as follows: total revenue was $138 million; non-GAAP gross margin was 64%; non-GAAP operating expenses were $69 million; non-GAAP diluted earnings per share was $0.13; and adjusted EBITDA was $23 million. First let me address our revenue. Session software solutions accounted for 55% of product revenue in the third quarter, while network transformation solutions represented 37% and applications and security solutions were 8%. Within these categories our software sales comprised 51% of our total product revenue in third quarter up from 41% in the third quarter of 2018. Most of this growth came from increasing sales of virtualized software for example session solutions with more modest growth in the first nine months contributed from our security, analytics and application products. In terms of market segments conditions in our service provider market segment continued to be challenging particularly in our largest market the United States. For example two of our Tier 1 service providers in the U.S. are undertaking a business combination which resulted in a CapEx pause during the third quarter from both customers. But in terms of our enterprise market, our investment last year in enterprise edge solutions has yielded higher sales mix contribution from our enterprise customers now accounting for 29% of our product revenue in third quarter. We recently expanded the distribution of our EdgeMarc product line with new partners in Europe, Latin America and Asia-Pacific including Westcon. We believe the enterprise market represents a growth opportunity for Ribbon and are investing further development to expand our existing broad edge portfolio. We also recently announced a collaboration with Bandwidth Inc. to develop critical software functionality in support of Microsoft Teams, a unified communications product used by more than 500,000 enterprises worldwide. Turning to profitability, we were pleased with our progress towards our longer-term goals for adjusted EBITDA margin. The third quarter saw us achieve a record gross margin level since the launch of Ribbon in 2017. This result coupled with our improved cost structure enabled us to deliver an adjusted EBITDA margin of 17% ahead of our expectations and on par with our seasonally high fourth quarter of last year. Turning to the balance sheet. Cash and investments were $40 million at September 30. Borrowings under our revolving line of credit and term loan were $83 million. Now I'd like to turn to our full year outlook. As I mentioned earlier in my remarks the service provider market remains soft, particularly in the United States and we expect these conditions to persist for the near term. In addition, we believe the potential exists for our customers to further increase the pace of their adoption of virtualized pure software solutions which will dampen our top line as our revenue mix shifts to higher-margin software products. And we are increasing our R&D investments where we see opportunities to expand our high-margin software sales such as the Bandwidth collaboration that I noted earlier. Due to these factors we now expect our full year adjusted EBITDA to be approximately $85 million versus our previous expectations of $92 million. I want to emphasize that our adjusted EBITDA guidance of $85 million taking into account our view of this current market conditions and our investment plans, represents a sizable increase from last year's $62 million and is projected to result in a full year adjusted EBITDA margin above 15%, on track to be nearly five percentage points higher than full year 2018. That concludes our formal remarks. I want to thank all of you for your continued support of Ribbon. At this time, I'd like to turn the call over to the operator for questions. Operator, we are now ready for our first question.

Thank you. At this time, we will be conducting a question-and-answer session. [Operator Instructions] Our first question comes from the line of Paul Silverstein with Cowen. Please proceed with your question.

Hi, guys appreciate taking the question. My apologies if I missed it in your prepared remarks. But as you look beyond here and now out to calendar 2020, any thoughts for where EBITDA will be? And I recognize macro backdrop is challenging and there are some other issues. But any thoughts for where EBITDA will be next year coming out of the year?

Hi, Paul, good evening this is Daryl. We're not prepared to guide to 2020 on this call right now.

Paul, you know my attitude on this. We're here to make money for the shareholders.

I appreciate that. I trust visibility -- consistently your remarks visibility is a little bit of a challenge right now.

[Operator Instructions]

Okay. Well, thank you then. We appreciate everyone joining the call and your support of Ribbon. We look forward to speaking with you again soon. Thank you.

This concludes today's teleconference. You may now disconnect your lines at this time. Thank you for your participation and have a wonderful day.