Casa Systems, Inc. (CASA) Q3 2019 Earnings Call Transcript

Casa Systems, Inc. (CASA 9.09%)
Q3 2019 Earnings Call
Oct 31, 2019, 5:00 p.m. ET

Contents:

• Prepared Remarks
• Questions and Answers
• Call Participants

Prepared Remarks:

Operator

Greetings. Welcome to Casa Systems Third Quarter 2019 Financial Results Conference Call. [Operator instructions] Please note this conference is being recorded. At this time, I'll turn the conference over to Monica Gould, investor relations for Casa Systems.

Ms. Gould, you may now begin.

Monica Gould -- Investor Relations

Thank you, operator, and good afternoon, everyone. Casa released results for the third quarter of 2019 ended September 30, 2019, this afternoon after the market closed. If you did not receive a copy of our earnings press release, you may obtain it from the Investor Relations section of our website at investors.casa-systems.com. With me on today's call are Jerry Guo, chief executive officer; and Maurizio Nicolelli, chief financial officer.

This call is being webcast and will be archived on the Investor Relations section of our website. Before I turn the call over to Jerry, I'd like to note that today's discussion will contain forward-looking statements based on the business environment as we currently see it, and as such, does include certain risks and uncertainties. Please refer to our press release and our SEC filings for more information on the specific risk factors that could cause our actual results to differ materially from the projections described in today's discussion. Any forward-looking statements that we make on this call or in the earnings release are based upon information that we believe as of today, and we undertake no obligation to update these statements as a result of new information or future events.

In addition to U.S. GAAP reporting, we report certain financial measures that do not conform to generally accepted accounting principles. During the call, we may use non-GAAP measures if we believe it is useful to investors or believe it will help investors better understand our performance or business trends. And with that, I'd like to turn the call over to Jerry.

Jerry Guo -- Chief Executive Officer

Good afternoon, everyone, and thanks for joining us today. As you may have already seen in our earnings press release, revenue for the third quarter of 2019 came in below our internal expectations. While results for our access device products, formerly NetComm, were in line with the internal forecasts, revenue from our cable products as well as revenue recognition from our wireless backlog were lighter than anticipated. The Q3 shortfall in cable revenue and the wireless backlog revenue recognition was related to two things.

On cable, while we did see increased purchasing appetite from customers in Q3, timing for closing certain larger orders was more protracted than what we have seen in previous quarters. As a result, a handful of larger deals that were very close to closing, unfortunately, slipped out of the quarter. This only became clear to us in the last few days of Q3. As a reminder, the last few days of each quarter is when we generally see larger orders close.

We view these revenue opportunities as delayed and anticipate that they will push out to Q4 of this year or Q1 2020. On wireless, revenue recognition for a part of our wireless backlog was delayed, given that a few additional features were requested to be added to a product associated with one of our larger purchase orders. We see this as only a temporary delay, and in fact, we are already recognizing this revenue in the fourth quarter. This will be reflected in our Q4 results.

Given these issues as well as the more protracted discussions we are seeing from MSOs to close larger orders, we feel it is prudent to lower our year-end guidance. Maurizio will discuss this in greater detail in his remarks later on during this call. But I would like to highlight a few points about our results for the third quarter and then briefly comment on our outlook for the remainder of this fiscal year. First, although our third-quarter revenue was lower than anticipated, our overall business became much more diversified as 52% of our revenue came from our cable business, 26% from our wireless business and 22% from our fixed telecom segment.

This diversification indicates progress toward transforming the business while providing more stability in our revenue base in the future. Regarding our cable segment, the cable market continues to be in a digestion phase. We believe this will continue through the end of this year and very likely extending to most of 2020. While in this phase, MSO customers are primarily adding capacity to existing integrated CCAP chassis.

Although we did see revenue during the quarter from new products for cable, including our BDM cards and Remote PHY nodes, cable revenue for the third quarter was overwhelmingly from integrated CCAP hardware and software capacity upgrades. Trials of DAA are progressing well, but we are not yet seeing moves to a large-scale deployment of DAA products. We continue to believe that deployments of DAA, including virtual CCAP, are inevitable. But we expect that DAA rollouts in the near term will be very measured, even in spite of early announced wins in this space.

Additionally, from the meetings we had earlier this month at SCTE trade show, we believe that no single solution will fit all MSO needs and expect that our cable customers will deploy a mix of solutions that are appropriate for each market. These solutions include additional integrated CCAP capacity, our new BDM cards, extended-spectrum DOCSIS, Remote PHY, Remote MAC-PHY as well as virtual CCAP. Given the unique breadth of our product portfolio, we believe that we continue to be very well positioned to meet our customers' needs, no matter what infrastructure solutions they choose to deploy. Moving to wireless.

We continue to believe that our prospects in wireless are strong, given that our products are receiving positive recognition. In fact, we were awarded Best New 5G Technology at Broadband World Forum earlier this month for our innovative converged 5G core solution. This solution, combined with our fixed telco virtual BNG, converges mobile and fixed networks, simplifies network design, reduces operating costs for our service providers and enables subscribers to use services seamlessly as they move between mobile and fixed connectivity. Additionally, we recently announced that Sprint has chosen Casa as a key indoor wireless solutions partner for a large-scale deployment of Casa Systems' Pebble femtocell to improve data coverage and speeds in residences and businesses.

The Pebble is the first femtocell from Sprint that offers an untethered Wi-Fi backhaul option as compared to the standard ethernet connection required in traditional femtocells. or the third quarter, we continued to make progress on recognizing revenue from our backlog. In spite of the delay I mentioned earlier, for the third quarter, approximately 9% of total revenue, excluding access devices, was from wireless products. We continue to expect that wireless revenue, excluding access devices for fiscal 2019 remains on track for 10% to 20% top-line contribution.

Including revenue from our access device business for Q3, our wireless product revenue accounted for approximately 26% of our total revenue. Our wireless backlog now stands around $42 million, which includes outstanding orders for our access device products. Of this amount, approximately $28 million is from our organic backlog net of revenue recognized and includes new wireless orders received during the third quarter. While we expect that wireless will continue to grow on an absolute basis and as a percentage of our revenue year over year, we anticipate that revenues and backlog growth will be lumpy during the initial ramp-up phase of 5G network build-outs.

We believe that this is a normal pattern for new technology adoption, during which first movers drive early orders and revenue, while a more steady ramp in spend from followers is generally followed by a spending low. In our fixed telco segment, we are receiving considerable recognition for the converged network solutions we are able to create. As an example, I've already mentioned pairing of our virtual BNG with our innovative converged 5G core to create a seamless experience for our subscribers as they move between fixed and wireless networks. Before moving on to Maurizio, I would like to update you on our trial activity and discuss a recent change that we made to our trial and testings policy.

Because of the significant increase in trial activity we have seen over the last few quarters, we imposed a higher revenue threshold for our trial qualification during the third quarter. This will help us to ensure two things. First, that we have sufficient resources to properly support our trials. And second, that the potential return on trial investments remains very attractive.

On our last call, I noted that we were supporting 113 trials, with 65 unique customers during the second quarter. This included 36 in wireless, eight in fixed telco and 69 in cable. During the third quarter, having implemented our new trial policy, we supported 87 trials with 52 unique customers, a far manageable number for us. This is net of four trials we converted to orders for our 5G core and advanced cable products and includes new trials we added in Q3 for our wireless cores, advanced DAA solutions and the virtual routers.

Of 87 trials in Q3, 20 are in wireless, eight in fixed telco and 59 in cable. Finally, regarding our outlook for the remainder of the year, we have lowered our revenue guidance to a range of $255 million to $270 million to reflect two things. First, related to cable, continued digestion and associated delays in DAA orders and rollouts and the longer time that it is taking to close larger capacity orders from our cable customers. Second, the delays that I mentioned earlier in revenue recognition from our wireless backlog and the lumpiness we may see in the near term in wireless backlog growth.

With that, I want Maurizio to comment on our financial results in more detail.

Maurizio Nicolelli -- Chief Financial Officer

Thank you, Jerry, and good afternoon, everyone. I will start by reviewing our third-quarter 2019 financial results and then discuss our revised outlook for the fiscal 2019 year. Total revenue in the third quarter of 2019 was $81.8 million, which compares to $71.5 million in the third quarter of 2018 and $52.1 million in the second quarter of 2019. Revenue from the acquired NetComm business was $34.5 million during the third quarter.

Excluding revenue from the acquired NetComm business, revenue decreased 34% year over year. Total product revenue was $71.3 million in the third quarter of 2019, of which $55.5 million or 78% was from hardware and $15.8 million or 22% was from software. This compares to $60.8 million of total product revenue in the third quarter of last year, with $24.1 million or 40% from hardware and $36.7 million or 60% from software. Hardware sales during the third quarter accounted for 68% of total revenue, compared to 34% in the prior-year quarter.

The increase in hardware revenue was primarily driven by the acquisition of the NetComm business, which added $34.2 million during the third quarter of 2019. From an end-market perspective, approximately 52% of our revenue in the quarter was from cable, 26% from wireless customers and 22% was from our fixed telecom business. Our wireless revenue included $16.6 million for NetComm and $4.3 million from core Casa products. Our wireless backlog, excluding NetComm, decreased to $28 million down from $31 million in the second quarter of this year.

Our consolidated GAAP gross margin for the third quarter of 2019 was 47.9%, down from 79.6% in the third quarter of 2018. Excluding acquisition accounting items, our consolidated non-GAAP gross margin was 53.1%. This decrease in our gross margin was primarily driven by a higher portion of hardware revenue during the quarter and the acquisition of NetComm, which has lower gross margins. Excluding NetComm, core Casa gross margins were 70.6% during the third quarter of 2019.

Turning to expenses. Total GAAP operating expenses in the third quarter of 2019 were $48 million, compared to $34.3 million in the third quarter of 2018. The increase in total operating expenses was primarily due to the acquisition of NetComm, which added $11.5 million in operating expenses and additional acquisition-related expenses totaling $2.1 million. Headcount at September 30, 2019, totaled 1,066 employees, compared to 812 employees as of June 30, 2019.

The increase is driven by 229 incremental employees at July 1, 2019, resulting from the NetComm acquisition. Our adjusted EBITDA in the third quarter of 2019 was $4 million compared to $27.2 million in the third quarter of 2018, primarily due to higher income from operations in the prior-year period. We recorded a net -- a tax benefit of $5.6 million in our provision for income taxes during the third quarter, driven by incremental benefits from federal R&D income-tax credits, exercises and sales of equity awards by our employees and adjustments to the overall effective tax rate due to a pre-tax loss in the third quarter of 2019. Non-GAAP net loss for the third quarter of 2019 was $2.9 million, compared to non-GAAP net income of $20.6 million in the third quarter of 2018.

Non-GAAP basic net loss per share was $0.03 for the third quarter of 2019 compared to non-GAAP diluted net income per share of $0.22 for the third quarter of 2018. Free cash flow for the quarter was a negative $4.9 million, compared to a positive $10 million in the third quarter of 2018. Negative free cash flow during the quarter was driven by lower net income, higher income-tax receivables and deferred tax assets, offset by a lower accounts receivable balance. Our DSO at the end of the 2019 third quarter was 62 days versus 94 days in the prior-year period.

We ended the third quarter with cash and cash equivalents of $124.6 million and total debt of $293.8 million. During the quarter, we did not repurchase any shares under our share-repurchase program. We continue to review current business developments to determine the best use of our capital. I would like now to turn to our guidance for fiscal 2019.

As Jerry discussed, we are lowering our outlook for the year due to continued digestion in the cable market and associated delays in DAA orders and rollouts, delays in revenue recognition from our wireless backlog and protracted discussions with the MSOs with respect to large orders. For the full year of 2019, we now expect total revenue to be between $255 million and $270 million, compared to our previously issued guidance of between $320 million and $350 million. Of this amount, we expect revenue from the acquired NetComm business to continue to be approximately $70 million to $80 million. We expect our full-year gross margin to be in the range of 50% and 60%.

Our full-year Casa stand-alone gross margin, which excludes NetComm, is expected to be between 60% and 70%. Adjusted EBITDA is now expected to be in the range between $0 and $10 million, compared to our previous guidance of $40 million and $50 million. We anticipate non-GAAP diluted loss per share to be in the range of $0.15 and $0.25, compared to previous guidance of non-GAAP diluted income per share of $0.20 and $0.30. We now expect GAAP diluted loss per share to be in the range of $0.35 and $0.45, compared to previous guidance of GAAP diluted income per share of $0 and $0.10.

Stock-based compensation is expected to be approximately $11 million in 2019. We continue to make good progress with our integration of NetComm during the quarter. To date, we have achieved $1 million of cost synergies, and we continue to expect to recognize total annualized cost savings of $7 million to $8 million within the next 12 months. We also continue to expect accretion of approximately $0.02 on a non-GAAP per share basis in 2019 and between $0.07 and $0.08 in 2020 from deal synergies.

Overall, while the third quarter was challenging and we are disappointed with our lowered outlook for the year, we believe that our pipeline of opportunities remains strong. Fiscal 2019 has been a transition year for the company, and we believe we are well positioned to capitalize on these growth opportunities ahead of us. Joining us now for Q&A will be Scott Bruckner, senior vice president of corporate development and strategy. With that, I will now turn the call back to the operator to start the Q&A session.

Thank you.

Questions & Answers:

Operator

Thank you. [Operator instructions] Our first question is from Meta Marshall with Morgan Stanley. Please proceed with your question.

Meta Marshall -- Morgan Stanley -- Analyst

Great. Thanks, guys. I mean, I think the question that I have is really, you noted that you probably -- it's going to be mostly capacity adds until kind of the end of 2020 from your prepared script, which I would assume is kind of timing of when you think some of these distributed architectures are decided. So I guess, that's the first part of the question.

But you noted you feel optimistic about kind of the business in the next year. But I guess, I'm just wondering, like, I understand the NetComm piece is going OK and the wireless piece, you'll get some revenue traction. But what is it about kind of the cable piece of the business that is giving you confidence to be optimistic currently? Thanks.

Jerry Guo -- Chief Executive Officer

Meta, this is Jerry here. Let me answer that question. We continue to believe that cable will be in digestion period for a few quarters. But we do see DAA gets deployed going forward, but it's not like everybody's going to deploy DAA at the same time.

So we do see the progress in DAA. So that's providing some optimism for us in seeing that things will improve in the cable sector. And we also see very good progress in wireless from the redesign to the core side as well.

Meta Marshall -- Morgan Stanley -- Analyst

Got it. And then maybe on the wireless side. I think, there had been kind of this maybe $20 million bogey out there of revenue that was essentially -- or contracts that would be recognized this year. So just, like, refreshing on how much of that you think will get recognized this year would be helpful.

Thanks. That's it for me.

Maurizio Nicolelli -- Chief Financial Officer

Yeah. So Meta, it's Maurizio. So we did slightly north of $4 million in the quarter. For the year, we're slightly north of $6 million.

We had a number of items that got pushed out of Q4. We're still confident with that projection that you noted. And we're already starting to see some of that revenue get recorded in the fourth quarter already in the month of October. And so that gives us confidence that we will get to that projection of $20 million or so on wireless revenue.

Meta Marshall -- Morgan Stanley -- Analyst

OK. Great. Thanks, guys.

Maurizio Nicolelli -- Chief Financial Officer

Yep.

Operator

Thank you. [Operator instructions] The next question comes from the line of Rich Valera with Needham & Company. Please proceed with your question.

Rich Valera -- Needham and Company -- Analyst

Yeah. I guess, another big-picture question about how you're thinking about the upgrade cycle around sort of the DAA architecture. The major cable companies are still talking about like, I think, longer-term trends of decreasing capital intensity. So wondering, if they're going to look to sort of substitute spending on current generation with spending on next generation as opposed to having sort of a big incremental CAPEX spend as have done in prior cycles.

Just wondering if you have any thoughts on that. Whether we'll see that sort of big spend like we've seen historically or if the cable guys have gotten more efficient and maybe tighter with their CAPEX?

Jerry Guo -- Chief Executive Officer

The historical spend of cable guys so we're encouraged by typically two things. One is the bandwidth growth. Two years ago, we were seeing 40% to 60% bandwidth growth and the bandwidth growth currently is at a lower level than that. But it varies across -- from account to account.

And the other one was competition. And with the fiber and fiber to the home, that was another driver for cable spend. But we do believe that the bandwidth growth will resume to some extent and the future 5G will encourage competition as well besides the fiber to the premise. We don't think, at least in the short term, that the cable spend is going to go back to the level we saw like two years ago.

But we also do not believe it's going to be at this level forever.

Rich Valera -- Needham and Company -- Analyst

Sure. And then just a question on 5G, can you give us a sense of how leveraged you are to 5G? What may be part of your portfolio or your active wins or engagements, how much of that is 5G-related? And just what kind of traction you're seeing on the 5G part of the portfolio?

Jerry Guo -- Chief Executive Officer

Well, we have three products that are related to 5G. And we have a 5G core, that's actually also part of the converged core with the fixed and mobile convergence. And the second one is actually 5G radio. And the third one is from the acquired asset of NetComm, the 5G fixed access devices.

So we are -- currently, we have one deal on the core side as well as on the radio side. We expect to win deals on the access devices in the next few quarters.

Rich Valera -- Needham and Company -- Analyst

OK, that's helpful. Thank you.

Jerry Guo -- Chief Executive Officer

Thank you.

Operator

Thank you. At this time, I will turn the floor back to Jerry Guo for closing remarks.

Jerry Guo -- Chief Executive Officer

Thank you to everyone for joining us today. We look forward to updating you on our progress next quarter.

Operator

[Operator signoff]

Duration: 28 minutes

Call participants:

Monica Gould -- Investor Relations

Jerry Guo -- Chief Executive Officer

Maurizio Nicolelli -- Chief Financial Officer

Meta Marshall -- Morgan Stanley -- Analyst

Rich Valera -- Needham and Company -- Analyst

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