Ribbon Communications Inc. (NASDAQ:RBBN) Q1 2023 Earnings Call Transcript
Ribbon Communications Inc. (NASDAQ:RBBN) Q1 2023 Earnings Call Transcript April 26, 2023
Ribbon Communications Inc. beats earnings expectations. Reported EPS is $-0.02, expectations were $-0.04.
Operator: Greetings, and welcome to the Ribbon Communications First Quarter 2023 Financial Results Conference Call. . It is now my pleasure to introduce your host, Bita Milanian, Senior Vice President, Global Marketing. Thank you, Pete. You may begin.
Bita Milanian: Good afternoon, and welcome to Ribbon's First Quarter 2023 Financial Results Conference Call. I am Bita Milanian, SVP of Marketing at Ribbon Communications. Also on the call today are Bruce McClelland, Ribbon's Chief Executive Officer; and Mick Lopez, Ribbon's Chief Financial Officer. Today's call is being webcast live and will be archived on the Investor Relations section of our website at rbbn.com, where both our press release and supplemental slides are currently available. Certain matters we will be discussing today, including the business outlook and financial projections for the second quarter of 2023 and beyond, are forward-looking statements. Such statements are subject to the risks and uncertainties that could cause actual results to differ materially from those contained in these forward-looking statements.
These risks and uncertainties are discussed in our documents filed with the SEC, including our most recent Form 10-K. I refer you to our safe harbor statement included on Slide 2 of the supplemental slides of this conference call. In addition, we will present non-GAAP financial information on this call. Reconciliations to the applicable GAAP measures are included in the earnings press release we issued earlier today as well as in the supplemental slides we prepared for this conference call, which again, are both available on the Investor Relations section of our website. And now I would like to turn the call over to Bruce. Bruce?
Bruce McClelland: Great. Thanks, Bita, and thanks to everyone for joining us today. I'm very pleased with our performance to start off the year with financial results just above the midpoint of our guidance, building on the momentum from the second half of 2022. Overall, sales grew 7.5% year-over-year to $186 million, and adjusted EBITDA increased $6 million to minus $2 million in the quarter. Bookings were once again very strong with a product and service book to revenue of 1.23x for the company. This represents a 14% increase in bookings generated this quarter versus the first quarter of 2022. Non-GAAP operating expenses were lower by $4 million or 4% year-over-year, in line with our strategy to reduce operating expenses and improve profitability.
Gross margins were at the high end of our guidance for the quarter, reflecting consistent margins with our cloud and edge business and lower margins as expected in our IP Optical business from customer and regional mix. We ended the quarter with cash of $46 million with cash from operations of $11 million and a total $80 million reduction in our senior secured debt following a successful capital raise, which Mick will go through in more detail in a minute. The key business highlights for the quarter were a 7.5% year-over-year increase in total revenue, a strong IP optical book to revenue of 1.6x and a 62% growth in cloud edge sales to enterprise customers. Now let me go through a little more detail on each of our operating segments. This was the third quarter in a row that we've had double-digit year-over-year revenue growth for our IP Optical segment and a book-to-bill well above 1.0x.
Sales increased 13% year-over-year, and book-to-bill was 1.6x in the quarter. Year-over-year sales growth included a 20% increase in IP routing products, a 14% increase in optical transport products and an 11% increase in maintenance and service revenue. The continued growth in sales is directly related to the increased investment that we've made in new products. In our IP routing portfolio, we've introduced our new XDR 2000 series that supports a variety of applications, including multi-service edge aggregation and high-performance metro routing. Based on the latest generation of merchant routing silicon, these built-for-purpose platforms compare favorably on a cost density and power perspective with a routing feature set to address the large telecom IP routing market.
The portfolio scales from 800 gigabit edge aggregation routers through to 3 terabit and 8 terabit modular redundant platforms for metro aggregation and IP transport. Our unique pay-as-you-grow architecture allows additional switching capacity to be added as needed, providing a compelling total cost of ownership. -- integrated optical interfaces, including 400-gig ZR and ZR+ coherent optical pluggables enables further convergence of the IP and optical layers of the network. We've also extended our Apollo optical platform to support additional long-haul transport capabilities, further expanding our addressable market and resulting in several recent customer wins. Here are a few specific highlights from a customer and regional perspective for the first quarter.
Our business in India continues to gain momentum as we execute on previously announced wins with Bharti Airtel in both optical transport and IP routing as well as growth with other operators in the region, such as Tata Teleservices. Sales in India increased 18% year-over-year as we scale production of the new optical and IP products, and we had a strong quarter for new bookings, primarily for our new products. We expect this region to continue to grow given the long-awaited investment in deploying 5G technology and the continued exponential growth in Internet traffic. Our increased presence in scale in India also benefits our Cloud Edge business with several voice infrastructure deals closing in the first quarter and a good funnel of enterprise opportunities.
As we indicated last quarter, we're having good success in the EMEA region with sales increasing 10% year-over-year across a variety of critical infrastructure, telecom and defense customers this quarter. Bookings were particularly strong in the region as we closed a new 5-year agreement for products and services with our largest defense industry customer. The contract included a large $45 million order, a portion of which is included in the quarter's bookings total and scheduled for delivery in 2023. The remainder of the order will book in future periods as it's scheduled for delivery or completion. This is a great validation by this key customer that places the highest priority on quality, service and security. In the U.S. region, we're seeing continued growth in investment from U.S. regional telecom and broadband providers with multiple different federal funding programs benefiting the industry.
Our IP optical sales in the U.S. grew 78% year-over-year and reached a new high with shipments to rural telecom providers nearly doubling, a trend that we expect to continue throughout the year. From a supply chain perspective, we continue to manage a number of component shortages, particularly related to the ramp of new products. This limited shipments by approximately $10 million in the quarter, but more broadly, we've made good progress addressing other supply-related issues. As we expected, IP Optical segment margins were below our normalized target this quarter as we ramp several new products and supply the infrastructure elements for several new DWDM optical projects. We expect modest improvements in the second quarter, followed by more significant improvement in margin in the second half of the year.
Now some highlights from our Cloud Edge business. Sales in the first quarter increased 4% year-over-year, with sales to enterprise customers increasing more than 60% and related SBC sales increasing 24% versus the first quarter last year. Gross margins were roughly in line with Q1 last year at 61% despite a higher mix of enterprise edge SBC hardware platforms. Combined with lower OpEx of 6%, adjusted EBITDA for the segment increased $5 million or 28% year-over-year, a very good start for the year. Product and service bookings were 0.9x following strong bookings last quarter for professional services that's converted into revenue over several quarters. From a regional perspective, the growth in cloud edge sales year-over-year was primarily in the U.S. and European markets, along with another solid quarter of business in Japan.
Sales to service providers were flat year-over-year and enterprise sales accounting for the growth in the segment. Specifically in the U.S. market, cloud-edge sales to our top Tier 1 service provider accounts were up 2.5% year-over-year. We expect overall sales to U.S. service providers to increase sequentially in the second quarter, but to be lower than last year's very strong quarter. From an enterprise perspective, we partnered closely with Bank of America this quarter to provide a significant upgrade to their core SBC and policy routing infrastructure. This is a marquee customer for us, and we have a prominent role in their communications infrastructure. We also continued several significant voice modernization and capacity expansion projects with customers such as Qualcomm, Wells Fargo, Citigroup and ADT.
We maintained good velocity with our service provider channel partners this quarter as we sell through a significant quantity of enterprise edge SBC servers to midsize as enterprise customers for a variety of unified communications applications such as Microsoft Teams and Zoom as well as hosted Centrix replacement. Enterprise edge SBC revenue was up almost 60% year-over-year. Enabling our channel partners is a key part of our enterprise strategy, and we're supporting them as they transform their product offerings. Horizon, AT&T, SHI and CONVERGE 1 are strong examples of U.S. partnerships where we're enabling managed service offerings, leveraging Ribbon products and services. Ultimately, the momentum in Enterprise resulted in a very strong quarter for sales of session border controllers and related policy routing and analytics solutions.
In fact, one of the key ways we differentiate our voice communication products is with our advanced analytics platform, supporting a variety of applications, including service assurance and fraud management. We had a number of expansion deals with both enterprise and service provider customers this last quarter, increasing revenue more than 100% year-over-year for our suite of application services. Our support services are also a key differentiator for us, and our Cloud Madge maintenance revenue continued to hold steady and was consistent with last year. We now have almost 90% of our projected maintenance revenue for the year already in backlog or under contract. With that, I'll ask Mick to come on and provide additional detail on our first quarter results and then come back to discuss outlook for the second quarter.
Mick?
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Miguel Lopez: Thank you, Bruce. In the first quarter of 2023, our financial results showed good improvement over the prior year, with continued revenue growth for our IP Optical Networks business and sustained profitability from our cloud and edge business. From a financial structure perspective, we were able to improve our capital structure with an $80 million reduction in our term loan funded in part by a $55 million preferred equity raise, led by our major investors and an $18.4 million gain from the sale of our fixed rate swap hedge instrument. Please refer to our Investor Relations website for supplemental slides summarizing our first quarter 2023 and historical financial performance. Let's start with consolidated corporate financial performance.
In the first quarter of 2023, Ribbon generated revenues of $186 million, which is an increase of $13 million or 7.5% from the prior year, driven by a 13% increase in IP Optical Networks and a 4% increase in cloud and edge. Non-GAAP gross margin was 48.1%, reflecting approximately a 200-basis point decrease versus the prior year. Non-GAAP operating expenses were $95 million, a decrease of $4 million or 4% year-over-year. Our non-GAAP net loss was $2.8 million, which generated a non-GAAP diluted loss per share of $0.02. Non-GAAP adjusted EBITDA was a loss of $2 million in the quarter, which is a $6 million improvement year-over-year. Within the quarter, we sold our fixed rate swap for a cash gain of $18.4 million, a portion of the gain, $7.3 million was immediately recognized in our income statement and is included as part of our non-GAAP results in other income.
Their gain is not included in adjusted EBITDA. Non-GAAP tax rate for the quarter was 30%. Our basic share count was 169 million shares. Our fully diluted share count is now 175 million shares for the quarter, which includes 4.9 million warrants we issued in March. Now let's look at the results of our 2 business segments. In our Cloud & Edge business, first quarter revenue was $114 million, an increase of 4% year-over-year, led by enterprise revenue growth. Software as a percentage of total product revenue was 41%. The Cloud & Edge business had gross margins of 61.1% and operating expenses of $52 million, resulting in an adjusted EBITDA of $21 million or 18% of revenues. Let's now turn to our IP Optical Network business results. We recorded first quarter revenue of $72 million, which was an increase of $8 million or 13% year-over-year.
As Bruce mentioned, this is the third straight quarter of double-digit revenue growth, reflecting the momentum from new product introductions. Non-GAAP gross margin for IP Optical was 27.2%, which is about 200 basis points lower than the prior year. The lower gross margin was primarily related to the initial shipments of chassis for several new optical DWDM projects, a higher mix of shipments into India and the ramp of new products. We expect that IP optical gross margins will improve modestly this quarter and more significantly in the second half of the year. Non-GAAP adjusted EBITDA loss for the quarter was $23 million, which is an improvement of $2 million year-on-year. We had significant activity with our cash flows in the quarter. Cash from operations were a positive $11 million, which included $18 million from the sale of our fixed rate swap.
Free cash flow was a positive $9 million, including $2 million in capital expenditures. Our cash flows from financing activities were a negative $30 million, driven by a repayment of $80 million on our senior term loan and mostly offset by our capital raise of preferred equity and warrants for $55 million total or approximately $53 million net of discount. As a consequence, our cash and cash equivalents balance at the end of the quarter was $46 million. We have included a bridge chart in the earnings presentation that provides the summary of cash flows in the quarter. There were other noteworthy changes to the balance sheet. Ribbon's Other current assets decreased from $68 million to $53 million, reflecting mostly the $18 million net gain from sale of the fixed rate swap.
Deferred taxes increased partially to reflect taxable gain on the sale. Our senior term loan debt is now at $250 million, which is a decrease of $80 million from the previous quarter and a decrease of $150 million or 37.5% from the original amount as we continue to . Our revolver loan remained undrawn at quarter end. The $53.5 million preferred equity and warrants are shown as a liability on the balance sheet due to our settlement features. Please note that their value will fluctuate each quarter as we are using the fair value method of accounting, which requires that we perform a quarterly mark-to-market valuation -- to provide greater clarity and transparency to our accounting for these matters, we have also added an explanatory page in our earnings presentation.
As part of the term loan debt repayment, we have paid a favorable amendment that allows Ribbon greater flexibility in our leverage and fixed charge coverage ratios. Our maximum leverage ratio increased from 3x to 4.5x for most of 2023, while the minimum FCCR decreased from 1.25x to 1.1x. Per to bank covenant calculations, which include preferred equity and total debt, among other adjustments, we comfortably met both of the amended term loan covenant metrics in the first quarter with a leverage ratio of 3.58x and an FCCR of 1.61x. The other key points of the amendment include a change to our base rate from LIBOR plus a maximum spread of 450 basis points to SOFR plus a fixed spread of 450 basis points as well as a reduction in the size of our revolver from $100 million to $75 million.
The sale of the fixed rate swap hedge that provided a cap on LIBOR at 90 basis point merits some explanation. With the Federal Reserve slowing the pace of interest rate increases and likely pausing in the near future, in consultation with our financial advisers, we felt it was the right time to maximize the value of our interest rate swap. As a result, we sold the fixed rate drop for $18 million gain before tax. The accounting treatment required $7 million of the gain to be recognized in other income this quarter, while the remaining $11 million will be amortized through interest expense over the remaining period of the term loan. As discussed in our last earnings calls, we have implemented a number of changes to reduce our expenses. In the first quarter, we reduced our operating expenses year-over-year by $4 million from $99 million to $95 million and expect further efficiencies and lower quarterly operating expenses for the remainder of the year.
Coupled with anticipated revenue growth, we are expecting a significant improvement in profitability for the year. Now I'll turn the call back to Bruce to provide more comments on our outlook for the second quarter. Great.
Bruce McClelland: Thanks, Mick. The first quarter was very active with a number of key industry trade shows and meetings with many of our customers across all regions. Mobile World Congress is, of course, the biggest show of the year and a great opportunity to meet with key executives from operators across Europe and Asia Pacific in particular. This was followed by an important optical technology conference called OFC, where we unveiled our next-generation optical platform, which received a lot of attention. It leverages the latest pluggable coherent optics technology, including a new 5-nanometer process node DSP to support the industry's first 1.2 terabit per second wavelengths. So, we're very excited about the introduction of this new product later this year.
Our customers' investment priorities that I highlighted on our last earnings call were underscored in practically all of our meetings. 5G mobile deployments, broadband Internet growth, reducing operating cost and total cost of ownership and leveraging cloud technology to accelerate service availability and quality of experience, our key focus areas as our customers prioritize their capital spending plans this year. As I mentioned on our last call, the introduction of new products in our IT Optical segment are directly targeted at the 5G and broadband investment priorities and are the catalysts behind growing revenues and bookings. Our expanded Neptune IP routing portfolio, including the XTR2000 series, addresses a wider range of applications, including 5G cell site routing and multiservice edge and aggregation and enhancements that we've made to our Apollo optical transport portfolio have positioned us to expand our share with wins such as the Bharti long-haul project.
As a result, new products accounted for more than 20% of the IP optical bookings in the first quarter. We're still in the early ramp phase on several of these new products and are scaling supply chain and production over the next several months. With the further increased backlog created in the first quarter, we remain on track to meet our target of at least 15% revenue growth in 2023 for the IP Optical segment and once again anticipate year-over-year growth of 25% or more in the second quarter. In addition, we continue to explore partnerships to collaborate in the development of advanced orchestration and automation software for the service provider market segment. As I mentioned in the last call, I'm excited about the potential to leverage our technology with major industry integrators and digital service consultants.
From a margin perspective, our Q1 results were impacted by shipments of lower-margin optical transport equipment associated with several new projects, along with a higher mix of shipments in India and the ramp of new products. We're expecting modest improvement in our IP optical margin in the second quarter and gross margins in the mid- to upper 30s range in the second half of the year given the pipeline and projected customer and regional mix. Combined with the projected revenue growth and lower operating expenses, we continue to project profitability on an adjusted EBITDA basis in the second half of the year. From a Tier 1 or major mobile and telecom service provider perspective, we have a lot of focus on building on the wins we've already announced and landing and expanding with operators such as Bharti, Rogers, Singtel, MTN Group, Telecom Italia and others.
As mentioned in the last call, we have multiple additional IP and optical opportunities where we're at different stages deep in the evaluation and decision process that have potential for incremental revenue in 2023. Lead applications such as TDM to IP circuit emulation are becoming great entry points and leverage our experience and presence in the carriers voice network to deploy our IP routing and optical transport solutions. In our Cloud & Edge business, growth in the enterprise market segment is a key part of our strategy to maintain overall revenue and profitability. The adoption of cloud-based unified communication solutions such as Microsoft Teams and Zoom to modernize voice infrastructure, replace legacy hosted centric as well as continued growth of contact center capacity, all create significant growth opportunity.
We continue to receive very good feedback on the feature richness and flexibility of our secure voice communication solutions and believe we are gaining share, particularly with large enterprise customers. One of the largest enterprise markets we're pursuing encompasses a number of U.S. federal government agencies, both civilian and defense. We've made good progress on several of these large voice modernization projects and anticipate an initial award later this quarter. We're working closely with Dell and other integration partners to provide a comprehensive pre-integrated federal solution. We continue to project significant revenue growth from the U.S. federal market in the second half of the year. As I mentioned earlier, sales of Cloud & Edge products to service providers in the first quarter were consistent with the first quarter of 2022, and we expect sequential growth in the second quarter.
However, last year's second quarter was one of the strongest quarters on record with strong voice modernization projects with U.S. service providers, which makes the year-over-year comparison challenging. Based on our current outlook for the timing of service provider related projects, we anticipate Cloud & Edge sales in the second quarter to be lower than last year, partially offset by growth in enterprise. Our current view of the second half of 2023 continues to show modest growth in Cloud & Edge versus 2022, continuing to support an overall stable projection of the business for the full year. From an investment perspective, we've now implemented changes across the company to meet our reduced spending target of $30 million, yielding an in-year savings of $20 million in OpEx and operating costs.
This includes a reduction of approximately 200 positions or 6% of head count. In light of the macro environment and margin pressures, we plan to further exceed this target as the year progresses, resulting in even larger savings on an annualized basis. This will translate into a quarterly OpEx run rate of approximately $90 million in the second half of the year, down from $97 million in the fourth quarter of 2022. With that as the backdrop, for the second quarter, we're projecting revenue in a range of $205 million to $215 million; non-GAAP gross margins of 50.5% to 51.5% and non-GAAP adjusted EBITDA in a range of $17 million to $24 million for the quarter. For the full year, we continue to maintain our previous guidance with revenue growth of 3% to 6% and a greater than 50% improvement in adjusted EBITDA.
Operator, that concludes our prepared remarks, and we can now take a few questions.
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