EXFO Inc.
Q3 2017 Earnings Call Transcript

Published: 30 Jun 2017

[Operator:]

Good day and welcome to EXFO's Third Quarter Financial Results for Fiscal 2017 Conference Call. Today's conference is being recorded. At this time, I would like to turn the conference over to Mr. Vance Oliver, Director of Investor Relations. Please go ahead, sir.

[Vance Oliver:]

Good afternoon and welcome to EXFO's third quarter conference call for fiscal 2017. With me on the line today are CEO, Philippe Morin; and Pierre Plamondon, Vice President of Finance and CFO. Executive Chairman, Germain Lamonde is also with us and will be available during the question and answer period. A reminder that this conference call will include certain forward-looking statements and/or estimates concerning our intents, beliefs or expectations regarding future events that may affect EXFO. Please note that such comments will be affected by risks and/or uncertainties which may cause the actual results of the company to be materially different from those expressed or implied today. For more information about EXFO, I encourage you to review our amended Form 20-F filed with the Securities and Exchange Commission. Our annual information form is available with Canadian Securities Commissions as well. Please note that non-IFRS numbers may be used during this conference call. A reconciliation of these adjusted results with our IFRS results is available in the Q3 2017 press release on our website. All dollar amounts in this conference call are expressed in U.S. dollars, unless otherwise indicated. So without further delay, I will turn the call over to Philippe.

[Philippe Morin:]

Thanks, Vance, and good afternoon everyone. So today I am reporting my first quarter as EXFO’s CEO marked by robust bookings, but lower sales and profitability than expected. Although we generated bookings of 63.7 million in our third quarter of 2017 the timing of orders and necessity to rebuild the backlog affected our overall financial results. If you recall, we had [pulled] [ph] on our backlog in the second quarter which is typical due to seasonality to generate healthy revenue. In the third quarter, we replenished our backlog with strong bookings, but orders were back-end loaded, which hurt our ability to recognize them into revenue. As a result, we delivered $58.5 million on revenue and adjusted EBITDA of $2.3 million in our third quarter 2017. Most of the revenue contribution came from our Physical-layer business as reflected by 70/30 split between Physical and Protocol-layer solutions. Market traction was strong across our CSPs or communications service providers in the Americas, which accounted for 62% of the global sales. On the bookings side, Physical-layer bookings increased by 12.8% year-over-year in the third quarter to clearly outpace the market. In short, EXFO's Physical-layer offering led by a market leading optical test portfolio continues to deliver with clockwork regularity. On the other hand, I am disappointed with our Protocol-layer results, which we undertook action in early May. First of all, we streamlined our monitoring solutions portfolio, which mainly consisted of rationalizing underperforming passive wireless monitoring product line. Second, we focused - we refocused our monitoring efforts and resources on active monitoring and analytics, areas in which we had a differentiated offering and greater scale. And third, we made adjustments to our go to market strategy, which should enable our sales force to become more efficient and focused on the right market opportunities. So the end result of our restructuring efforts are annual cost savings of $8 million and a much more focused active monitoring team. Now despite these efforts we are going to fall short of our $26 million of adjusted EBITDA target for 2017. With adjusted EBITDA at $13.5 million after three quarters into the fiscal year. So delayed spending by communications service providers on large system-based solution and an unprofitable passive wireless monitoring product line prompted us to revise our expectation towards an adjusted EBITDA at approximately $20 million for fiscal 2017. So looking at the bigger picture, we continue to capture market share in optical and high-speed Ethernet testing in the field in data centers, with Web 2.0 customers and in labs. Sales and bookings are up 6.2% and 4.2% nine months into the fiscal year. EXFO remains at the forefront of 100 gig deployments ramping in metro networks in data centre and fiber upgrades on fronthaul and backhaul networks in preparation for 5G wireless infrastructure, as well as ongoing fiber to the home, fiber deep roll-outs. As an example, any time you see an industry data point like Verizon committing a minimum of $1.05 billion over the next three years to purchase fiber-optic cable from Corning that is absolutely positive news for EXFO by virtue of our number one market position in portable optical testing and share lead in 100 gig Ethernet testing. Our new go to market strategy has also shown encouraging sign with two tier 1 service providers each representing more than 9% of our sales in third quarter. One of the key tenets of our go to market strategy is to increase focus on our top 20 accounts, which make-up the lion's share of capital spending worldwide. So as such, we have built dedicated teams for each of these accounts and their top priority is to nurture the relationship with the intent of increasing wallet share. And clearly we are making inroads with a near 14% customer in Q1 2017, a 10% holder in Q2 and now two 9% customer in Q3. We continue to execute on our go to market transformation by bolstering sales coverage with communication service providers, our top 20, the web scale operators, the Web 2.0 and network equipment manufacturers without increasing our spending envelope. We have to also standardize our channel partner program across all geos to improve indirect sales. And as well we have continued to elevate our brand into key sectors like monitoring, services assurance and analytics. So looking ahead, as our product call revenue run rate becomes more predictable on a quarterly basis and as our new go to market strategy achieves maturity EXFO intends to reach new levels in terms of sales and profitability. Now, let me address our quarterly guidance. We are forecasting sales between $58 million and $63 million for Q4 2017, extending from June 1 to August 31, 2017. At this level, the revenue, IFRS net results are expected to range between the loss of $0.03 per share and earnings of $0.01 per share for the first quarter 2017. IFRS net results include $0.03 per share in after-tax amortization of intangible assets, after-tax restructuring charges, and stock-based compensation costs, as well as an anticipated foreign exchange loss of $0.04 per share. Now this outlook was established by management based on our existing backlog as of our date of this conference call, our expected bookings for the rest of the quarter, exchange rate as of this day on this call, and as well as the preliminary allocation of the fair value of the total configuration of our acquisition of Ontology Partners Limited. At this point, I will turn the call over to Pierre our CFO to discuss our financials.

[Pierre Plamondon:]

Thank you, Philippe. Sales decreased 3.9% to $58.5 million in the third quarter of 2017 from $60.9 million in the third quarter of 2016, and 2.5% from $60 million in the second quarter of 2017. Bookings increased 6.6% to $63.7 million in the third quarter of 2017, from $59.7 million the same period last year and 13.9% from $55.9 million in the second quarter of 2017. Our book to bill ratio was 1.09 for the third quarter of 2017. As previously mentioned, the timing of orders and the necessity to rebuild backlog negatively affected our financial results in the third quarter of 2017. Gross margin amounted to 15% of sales in the third quarter of 2017 compared to 60.8% in the third quarter 2016 and 61.7% in the second quarter 2017. Excluding restructuring charges of $1.6 million, gross margin would have amounted to 60.7% in the third quarter 2017, or similar to the gross margin achieved in Q3 2016. On a sequential basis, our gross margin also affected by reduced sales volume and unfavorable product mix. In terms of operating expenses, selling and amortization expenses totaled $22.6 million or 38.6% of sales in the third quarter of 2017, compared to $20.8 million or 34.2% of sales in the same period last year, and $21.3 million or 35.4% of sales in the second quarter of 2017. The increase in SG&A dollars year-over-year can be attributed to restructuring charges of 0.9 million, added personnel from Absolute Analysis and Ontology System acquisition, as well as one-time acquisition related cost. On the sequential basis, the same explanation apply without the actual expenses from Absolute Analysis that were acquired previously. Net R&D expenses reached $13.3 million or 22.7% of sales in the third quarter of 2017, compared to $11.3 million or 18% of sales in the same period last year, and $81.3 million or 18.8% of sales in the second quarter of 2017. Likewise, net R&D dollars increased year-over-year and sequentially, due to the restructuring charges of 1.3 million, action and personnel from Ontology Systems, as well as a shift in the mix and timing of our R&D development projects. IFRS net loss in the third quarter of 2017 totaled $4.3 million or $0.08 per share, compared to net earnings of $0.9 million, or $0.02 per share, in the same period last year and net earnings of $1 million, or $0.02 per share, in the second quarter of 2017. IFRS net earnings in the third quarter of 2017 included $3.6 million in after-tax restructuring expenses, $0.9 million in after-tax amortization of intangible assets, $0.4 million in stock-based compensation costs and a foreign exchange gain of $1.7 million. Adjusted EBITDA amounted to $2.3 million or 3.9% of sales in the third quarter of 2017, compared to $5.3 million or 8.7% of sales in the third quarter of 2016; and $4.9 million or 8.1% of sales in the second quarter of 2017. Geographically, the America accounted for 62% of total sales in Q3 2017. Europe, Middle East, Africa represented 20%, while Asia Pacific totaled 18%. In comparison, the sales space was 59%, 22%, and 19% among the three geographic region in the third quarter of 2016. In terms of customer mix, our top customer accounted for 9.9% of total sales in Q3 2017, while our top three represented 24%. Turning to a few key points on the balance sheet, our cash position decreased to $37.7 million at the end of Q3 2016 from $52.4 million at the end of the previous quarter. The decrease is mainly due to cash payment of $7.5 million for the acquisition of Ontology System, $1.5 million for the repayment of the long-term debt assumed as part of this Ontology transaction, and $2.6 million for the [indiscernible] assets. Our operating activity also used $2.8 billion in cash in the third quarter. Finally, we record an unrealized loss of $0.2 million of cash and short-term investments denominated in [indiscernible]. At this point, I will turn the call over to the operator for the start of the Q&A. Thank you.

[Operator:]

Thank you. [Operator Instructions] And we will take our first question from Thanos Moschopoulos with BMO Capital Markets.

[Thanos Moschopoulos:]

Hi, good afternoon. Just to clarify regarding the wind down of the passive wireless monitoring portfolio will there be no revenue associated from that in the upcoming quarter?

[Philippe Morin:]

Yes, pretty much Thanos. The impact from a revenue point of view in the upcoming quarter of the passive business is going to be very little. It is really small revenue impact. And as Pierre highlighted, it is got $4 million of cost to go through that restructuring and then ultimately getting us $8 million of savings. And it is less than 5% of our sales. The passive monitoring was less than 5% of our sales.

[Thanos Moschopoulos:]

Okay. So, if I do the math, it looks like at the midpoint of your guidance, I guess you have to adjust for the passive monitoring going away, but if I were to adjust for that it looks like maybe you are guiding for 1% growth or something like that for Q4 at the midpoint of the range versus the 7% growth you had in your bookings. So help me reconcile that as that just may be a function of some of the stuff in the backlog being having a longer delivery time frame.

[Philippe Morin:]

And again, there is two ways that I would respond, one is obviously being prudent in terms of our guidance with regards to what we're seeing in Q4. The second thing is we got also, like we did last quarter we got to replenish our backlog and that is obviously you got to make sure that that takes place and we execute better this quarter on that one. So that is probably the two factors that where it is giving us a better feel in terms of being more prudent and a lot of these as you know we have a few large revenue - longer revenue recognition plans into, because we are planning to have more system sales in that quarter.

[Thanos Moschopoulos:]

Okay. And then in terms of the spending delays that you referenced, I mean it seems like the Americas is actually pretty good this quarter, so would your commentary be more focused on some of the international regions?

[Philippe Morin:]

Yes, Americas, Thanos as you said performed really well this quarter. I mean that is 62% and it is a lot of the service providers fuelled by the 100 gig build out in the metro, which tends to be more in North America along with the Web 2.0 data centers interconnect that we are getting good traction with. So yes, that is where we are seeing more of that trend, both Asia Pac and if you look at EMEA with that 20% of our percentage would tend to be a higher percentage. So that’s where we have seen a bit more of a challenge with regards to our bookings and revenue.

[Thanos Moschopoulos:]

And so in terms of your, I mean you’ve obviously been working on improving your go to market, so to some extent does that reflect that you might need to do more work in those regions versus North America or would you say it is more indicative of customer behavior rather than EXFO execution?

[Philippe Morin:]

So, I go to market transformation, for me there is two aspects of it. As you know we're making sure we have got the right sales coverage, so top 20 Web 2.0 regional kind of focused accounts and then as well our partner focus, I want to make sure, these type of investments and transformation takes a bit more time, so we will see - in this case Americas is performing well, but we're also putting a lot of focus in Europe and some of that we have a few accounts that are top 20 there. And so, I wouldn't say that there is more work to be done, I think it is a question of how are things being executed in those particular accounts in those regions and making sure we get the benefit. In Europe in particular there are few systems sales that we’ll take - that have longer sales cycle; that we are also making sure we can count on.

[Thanos Moschopoulos:]

Okay. I will hop back in the queue, thanks Philippe. I will pass the line.

[Philippe Morin:]

Thank you.

[Operator:]

Next we will hear from Tim Savageaux with Northland Capital Markets.

[Tim Savageaux:]

Hi good afternoon. Couple of questions. First just trying to understand the restructuring impact on protocol, so for the quarter you just reported there was no effect, that doesn't reflect any of the restructuring that’s kind of an apples-to-apples and the impact of the sales will be reflected in the quarter you are guiding to, just wanted to confirm or was there any impact of the wind down in the quarter?

[Philippe Morin:]

Yeah, so Tim, so on the restructuring if you recall, we announced the restructuring in the beginning of May, and so to start getting the cost savings really didn’t really - very little impact on our Q3 because of what we have to take care of with regards to the resources. The impact will be, we will get around about 1 million savings in Q4, but really as I mentioned the 8 million cost savings is going to be for our fiscal year 2018.

[Tim Savageaux:]

Understood. Actually, we're asking the topline, which is the weakness in the Protocol, was that all market-driven and is there some relationship to Europe there, should we look at those as being kind of related or was there any non-market-oriented drivers for the weakness in protocol? I guess that was my question.

[Philippe Morin:]

Not market related. I think as I mentioned to you the weakness in protocol and the decision we’ve made on that passive business was really coming down to our position in our competitiveness with that particular product line in that market.

[Tim Savageaux:]

Okay. And then moving on to the areas of strength I wonder if you can talk with any more specificity about the drivers from a physical layers bookings quarter, I don't know the last time you had a better one and you seem to be focused on optical drivers in North America, anything around broadband access as well, either telco or cable it’s notable. I wonder if we can dive in a little bit deeper to the optical drivers and if you expect that to continue kind of moving forward?

[Philippe Morin:]

So the big market drivers for us Tim are obviously as I mentioned, so anything that is high-speed 100 gig fiber deployment in Metro and network build-out in datacenter interconnect, in high-speed Ethernet testing, that is where we are seeing the very strong market trends and we are very - as we are a market leading product in there. In addition, on FTTH or fiber-to-the-home, you are seeing as you are - I am sure you have seen the investments being announced Verizon, Comcast, with fiber deep, and some of their MSOs that we’re also getting really good traction with that performance as well with our portfolio. We also are getting the benefit of continuing on fiber to the antenna, a lot of the service providers are pre-building ahead of the 5G deployment, more higher bandwidth backhaul and fronthaul and to our acquisition of Absolute Analysis around optical RF we are also seeing the benefit of that performance into that particular market. So, really three market growth that we're seeing that we are leveraging our portfolio. So the whole metro build-out of 100 gig and data centre build-out 100 gig. The second is fiber to the home, fiber deep, and then the last one is the fiber to the antenna fronthaul, backhaul.

[Tim Savageaux:]

Got it. And then just to kind of one last question on the guidance to make sure I understand this, I mean if you're guiding to a mid-range of 60.5 million to reflect the - apples-to-apples to reflect the wind down of the passive business happening in the quarter, we should be adding something like $2 million or $3 million to that to get to what it would have been on a comparable basis ex-winding down the passive business. Is that fair to say?

[Philippe Morin:]

No, I think that is probably your estimating too much there, on that front.

[Tim Savageaux:]

Okay. So it is really less than 5% of sales. Okay. Fair enough. And then final question is, you do seem to be forecasting your pretty solid rebound and profitability even introducing the annual EBITDA guidance. Imagine there is some initial restructuring benefit in there and perhaps in anticipation of gross margins bouncing back, but maybe you can talk about what’s below the line given you have guided for revenue, what the drivers might be to what looks to be a pretty good rebound on the profitability side?

[Philippe Morin:]

Yes on the, couple of things, so product mix should also be on our favor in Q4. Second there is the Q4 restructuring you just mentioned Tim and as well as vacation, this is a big quarter from a vacation point of view so that is also impacting the overall performance of the quarter and then ultimately Ontology we - and some of our acquisition of Ontology and Absolute Analysis we expect to see some good trending there to help us on the profitability.

[Tim Savageaux:]

Thanks.

[Philippe Morin:]

Thank you, Tim.

[Operator:]

Next we will hear from Justin Keywood with GMP Securities.

[Justin Keywood:]

Hi thanks for taking my questions. First, I’m just wondering if there is any other opportunity to reduce cost in the business or do you feel that the business is now optimized?

[Philippe Morin:]

Justin, again from my point of view we made the decisions based on where we felt the business was not performing, I do think that when we look across where we are at now we are investing both the test and measurement that’s performing really well from a profitability point of view, which is the physical layer and then ultimately having on the protocol side the investment round active monitoring analytics than bringing Ontology, I felt that we have got the right cost structure at this point, including our focus on our go to market where we expect to get better efficiency by their transformation I meant, I’ve talked about earlier.

[Justin Keywood:]

Okay. Thank you. And then you mentioned some of the trends happening in the telecom and cable industry. It also seems that there is prospects for continued consolidation. I am just wondering how you see that affecting EXFO's business going forward.

[Philippe Morin:]

I think as we have mentioned in previous earnings calls, consolidation of the service providers does have an impact on our business and that tends to be usually negatively impacting because of the fact that as you have got two service providers, consolidate has got an impact on CapEx, and good example of century Lincoln level III, two key accounts for us that ultimately when they go through that transmission there is a timing of the consolidation and then the - obviously the synergies that are looking at. So for us, we have got to continue to monitor those activities, but I think the fact that we're going after the service providers, the fact that we have also had good market growth now coming from the Web 2.0 as we are getting a lot of business in data center interconnect and the fact that we are also seeing some nice growth with our network equipment vendor business it is also helping us to make sure we diversify with regards to our customer base.

[Justin Keywood:]

Okay. And then just one final one on the working capital, there is a bit of for use in the quarter, just wondering how you see that playing out next quarter and into 2018?

[Pierre Plamondon:]

We did use $2.8 million in cash this quarter, the previous quarter has been very great so sometimes there is big value on the cash flow depending on the collection timing and the payment timing. So, we do expect to finish the year with positive deposit cash flow per share and be cash flow positive for the year.

[Justin Keywood:]

So we shouldn't expect any major changes, it should be pretty similar 2018 to 2017?

[Pierre Plamondon:]

We will leave them to give more probably color on the next call when we [indiscernible] for fiscal 2018.

[Justin Keywood:]

Okay. Thanks for taking my call.

[Philippe Morin:]

Thank you, Justin.

[Operator:]

We will now hear from Richard Tse with National Bank Financial.

[Richard Tse:]

Yes, thank you. So you talked about the focus on the top 20 accounts, can you maybe give us a sense of how much you have sort of grown those accounts, I don't know in terms of wallet share since you’ve moved on that strategy here?

[Philippe Morin:]

Yes Richard, I mean this is a key focus for us in terms of making sure that with the top 20 accounts which are global accounts not just North America focused that we are getting that growth, what we have mentioned with the focus there, we are starting to see some nice inroads and I guess what we publicly shared is the fact that as an example by Q1 where one account particularly was representing 14%. This particular quarter we see some good traction with two accounts, which almost drove 9.9% and 9% on those two. So, having a dedicated team that is spending time, 100% time on these accounts, for me it is, we are starting to see the benefit of being able to get deeper in those and selling a wider set of our portfolio into those accounts and I do think that as we are maturing that we're going to see some additional benefit of that into our overall business.

[Richard Tse:]

Would there be anything like…

[Philippe Morin:]

Sorry.

[Richard Tse:]

Sorry. Where there any sort of leading indicators of metrics that we sort of watch on that front here going forward to see that progress is being made on those sort of top 20 focus accounts.

[Philippe Morin:]

Yes I think what you're going to see us is continue to provide information on where the percentage of our top three and we are now with our top three, we are at 24% into this quarter. So, I think this would be the kind of leading and one of the leading indicator we're going to be providing.

[Richard Tse:]

Okay and then in terms of the data centre markets, it sounds like they are eventually giving opportunity there, perhaps if you can walk us through what you are doing to build those pipeline in that market from a sales perspective, I think you had mentioned in your comments about your partnerships may be just provide us a bit more color on that? Thanks.

[Philippe Morin:]

Yes, thank you. So the Web 2.0, I think as most of you know is a higher growth market segment, lot of data centers being build all over the world. Leveraging obviously 100 gig technology to interconnect them and what we’re doing there is to make sure that we have now dedicated sales team to go after that particular markets, I mean which we have done now for more than our fiscal year. So, we started that in 2016. Then we are starting - we are getting the benefit of those products and we are going to continue to do that. We tend to either sell, Richard direct or in some cases they do go through some of the contractors to do that build and that’s a very key aspect of our go-to-market strategy. There is also the - inside, the data center all these racks are becoming more and more fiber connected through fiber cables and we are also having a wider range of products now allowing us to not only address the data center interconnect, which is outside of the data center, but also inside the datacenter and that from a go to market that is tend to be a bit more of an indirect sales, so we also have put some partner focus there, Richard on the sales side to make sure we continue to get the growth there in that overall spend.

[Richard Tse:]

Would you say that the sales cycles in that market are bit faster?

[Philippe Morin:]

They tend to be obviously faster than the protocol business, obviously there tends to be longer sales cycle, but like in optical, the Web 2.0 tend to make decisions pretty quickly, so to your point they tend to be more shorter sales cycle.

[Richard Tse:]

Okay. And just one last question for me with respect to Ontology, can you share the contribution in terms of revenue for the quarter?

[Pierre Plamondon:]

In Q3, Q3 was - we integrated that company in the quarter, so the overall contribution was fairly small. We do expect that is going to have a bigger contribution as we hit into our next quarter, fiscal Q4.

[Richard Tse:]

Okay, great. Thank you.

[Operator:]

Todd Coupland with CIBC has our next question.

[Todd Coupland:]

Yes, good evening everyone. I wanted to see if you could give us some idea on what revenue growth looks like with protocol sales dragging the mix, if we think about it, beyond the next quarter, I mean is it, does the business bump along in a single digit range until you’re able to stimulate those new sales from the targeted efforts and that’s the several quarters away or can you return to double digit rates given what you see in the pipeline in the foreseeable future?

[Philippe Morin:]

So on the protocol side, I do think that as we are starting to see an increased activity with a more focused team on active monitoring Ontology and Analytics, it’s allowing us to really start to see an interesting and an [indiscernible] as well. We are starting to see a nice final increase. So the question is going to be - through RF SKUS and through engagements and so on. There is also the whole aspects of the virtualization and NFV/SDN that is also a lot of activities are taking place while customers are trying to figure out if they are going to continue to go with a service assurance protocol based solution that is based on physical hardware or ultimate virtualization type of solution. So, I do think that, you know when we look at the fact that both being focused account team here and a much more focused team on service assurance in active monitoring along with our T&D products like Ethernet testing and Protocol testing that we are going to return into more of the type of growth rate that we expect that in our business. And I guess the leading indicator I can share with you is the fact that we are starting to see a funnel of activities that has increased, partially because I think we are more focused, but I do think that there is also some good market interest on the protocol side.

[Todd Coupland:]

Okay. And then just you referenced the Verizon Corning order, the $1 billion spend over the next three years, I mean does that indicate to you that the yield continue to see double digit growth for your testers into those markets like you have been seeing over the last year or two?

[Philippe Morin:]

I think the key thing for me about these type of announcement is how long is this infrastructure cycle is going to continue? You know again we are riding a really nice wave now with 100 gig, the metro build up, the fiber deep build-out. When you see announcements with Verizon than they are saying for the next 3 years to 4 years they are going to make that investment. For us it is a proof point that the cycle is going to continue for many years and that’s what we are really looking for these types of announcements. And as I mentioned, any time that you see any modernization announcement on fiber-to-the-home investment of fiber deep investment like you may have heard from some of the cable cords, that for us is really good news because of our strength in the market.

[Todd Coupland:]

Okay. Last question for me. So we have seen some volatility with some of the other optical component companies in the supply chain with respect to demand in China and I'm just wondering if that is a headwind to your growth at all and do you expect that to change over the next quarter or so?

[Philippe Morin:]

Yes I think we don't see as much volatility and that the optical components have entered, but I would say that right now if you look at our Asia Pac performance this quarter, we did see some softness into China, but we do expect that that’s going to not going to continue in the next quarter for us.

[Todd Coupland:]

And what actually causes softness in the quarter?

[Philippe Morin:]

Well in China we tend to sell to the big carriers that we tend to also sell to the NEMS, the network equipment vendors so I would say that most of the softness was marked around timing related than the market itself.

[Todd Coupland:]

Okay, thanks very much. Appreciate it.

[Philippe Morin:]

Thank you, Todd.

[Operator:]

We will now hear from Robert Young with Canaccord Genuity.

[Robert Young:]

Hi good afternoon. I will just continue that line of question, there was a competitor that highlighted some fiber instruments sales softening in their April quarter and so are you - do you have confidence that the strength you have seen in the Americas in the optical business is that, you said that there is potential for this cycle to continue, but is there anything in the near-term that would suggest to you that that’s going to slow down in the near term?

[Philippe Morin:]

Robert, again a couple of key items for me. We continue to hear these big investments being announced, especially out of America's. We did 62% of our business with Americas this quarter and I do think that there is no sign. I'm not seeing any signs or any softness coming out from this infrastructure investment, especially around high-speed 100 gig metro build out and data centre build out. I think the key thing for me is, we have seen the cycle before, it starts in America and then moves into EMEA and Asia Pac and I really feel that we are in all sorts of cycle where both EMEA and Asia Pac has not started as aggressively as Americas.

[Robert Young:]

Okay, great that’s helpful. And the second question I have is around some of the delays, in the protocol business these delays have been persisting now for a while, I mean last quarter I think you said there were some short quarter factor and you know some budget cycle factors and there is a little bit of confidence on the second half, but now that sort of pushed out. And the funnel has been strong for a long time now. It seems to me and so I was hoping you could give a little bit of color around when some of these deals can close. I guess there is some that is going to persist into 2018, second half of 2018, is there any color you can provide around the timing there?

[Philippe Morin:]

Wesson, I will answer with two data points, the first one if you remember when we spoke last time it was around, the fact would happen in Q2. We had to really leverage our backlog to make sure - to ensure some strong revenue growth. If you remember, we announced in Q2 a double-digit growth on revenue. That depleted our backlog in which we felt that at the time we actually had a strong first month in our quarter and we felt pretty good that that was going to get - that was going to be able to one, backfill that backlog and then ultimately get us to continue to get that revenue growth. That started pretty well, but ultimately when we look at our end of the quarter we were still back ended and that really prevented us from converting this into revenue. So that is the first thing that you can argue, it was almost an impact of Q2 that ultimately trickle down into our Q3. The second point is, there is - from a market point of view, especially in the protocol side, the whole aspects of NEV and at the end is creating a path of more longer sales cycle as the customers are trying to figure out how they are going to continue to buy their service and protocol solution, are they are going to go now more harder on a virtualized type of solution or more on a physical type of solution and that created as well a timing challenge that I do think that as we move into Q4 we have to be prudent, but I do think that we're going to see that being starting to get converted.

[Robert Young:]

Okay great. And then on the gross margin, a little weaker, you gave some reasons it seems it is quite low and I was wondering is there any pricing pressure on the optical side, I think you had said volume and mix, a little worried that there is some price pressure on the optical side that’s supporting some of that growth.

[Philippe Morin:]

Well product mix is a big aspect, right. The more when you look at it as we do more physical business as you know it tends to be lower margin than we do protocol. So that was the big contributor to the margin and then we also have - I'm sure you have seen, but there is a - restructuring was in our 58% gross margin, but if you exclude the restructuring would be at 60.7%, which was a relatively at the same level as we are in Q2 in last year. So, price pressure, no, to answer your question.

[Robert Young:]

Okay. And just a couple of small ones for me, on the cost savings in 2018, the $8 million that you are talking about, I guess all that are going to come at R&D or are there other areas we should be modeling?

[Philippe Morin:]

If you look to the restructuring charge of breakdown that you have, it is – so assuming with some within those lines.

[Robert Young:]

Okay. And last one from me. Now that with the shutdown of the passive line, is there any passive business that you have to offer now, is it a pure active business or is there some passive component you can offer for a combined sale, and then I will pass the line.

[Philippe Morin:]

Yes, in our portfolio we have still some passive solutions. So really what we have decided to restructure his around our wireless passive monitoring, but we have also some good business in passive core monitoring, so things like VoIP, IMS type of core and as well in video, video passive offering. So we are going to continue to invest there and support our customer there. So it is really on the passive wireless monitoring that we have decided to restructure.

[Robert Young:]

Okay. So then that would then that would still be a bit of a competitive differentiator for actually the ability to offer both?

[Philippe Morin:]

Correct. And anytime, and the reason we kept those as any time that there is a real-time service monitoring and service analytics that requires real-time like to video like VoIP and IMS core is where we do have a differentiated offer.

[Robert Young:]

Okay, thanks a lot.

[Philippe Morin:]

Thank you.

[Operator:]

[Operator Instructions] We have a follow-up from Tim Savageaux with Northland Capital Markets.

[Tim Savageaux:]

Hi, I wanted to follow up briefly on some restructuring details and I think you mentioned the total charge being $3.8 million, $1.6 million of which was in cost of sales, so another 2.2 in operating expenses and if you adjust for that and stock comp, as well, you are running at kind of OpEx run rate a little over $33 million. Should we infer that you want to take that 31 on a run rate basis before you are going to reflect $8 million of savings or 2 million a year or I don't know whether that is more SG&A or R&D, but just talking about overall OpEx, was there a gross margin impact or should we think about modeling the benefit in sort of the lower OpEx run rate, a couple of quarters I would guess.

[Pierre Plamondon:]

Yes. So the run rate for restated is about would be lower as you mentioned, okay. Is it a good base for casting, yes, I think you can take that into account, but for Q4 you need to take into consideration that we had the vacation side, but the run rate does include Ontology for only one quarter, okay. So you need to reflect that for the whole year - for all the year, as well as Absolute Technology, Absolute Analysis have been there for roughly two quarters. So this is other element that you need to reflect, so that will have an effect to increase OpEx on the yearly basis.

[Tim Savageaux:]

Okay. So you are - the $8 million benefit would be offset to some degree by the incremental expense contribution from the acquisition?

[Pierre Plamondon:]

That's correct.

[Tim Savageaux:]

Beyond that though you are looking for ex that kind of what declining baseline rate run rate in line with your kind of restructuring goals?

[Pierre Plamondon:]

Yes.

[Tim Savageaux:]

Okay that was it from me. Thank you.

[Pierre Plamondon:]

Yes.

[Operator:]

Thank you. That will conclude the question-and-answer session. I will now turn the conference over to Mr. Philippe Morin for any additional or closing comments.

[Philippe Morin:]

Thank you. So just a few key takeaways before we conclude our call in today. So first of all, I want to reiterate our bookings were strong at close to $64 million, so $63.7 million in the third quarter, but the timing of orders and the necessity to rebuild the backlog affected our overall financial results. Second, we streamlined our passive monitoring solutions portfolio made our adjustments to our go to market strategy, which will provide cost savings of $8 million in our fiscal 2018. I want to reiterate that our sales and bookings are up 6.2% and 4.2% respectively after nine months into the fiscal year and therefore EXFO can clearly remain in the growth mode. And at this point, I guess I will conclude our Q3 2017 conference call and on behalf of the entire EXFO team, thanks for joining us today.

[Operator:]

That does conclude today's conference call. Thank you for your participation. You may now disconnect.