EXFO Inc.
Q4 2009 Earnings Call Transcript

Published: 14 Oct 2009

[Operator:]

Welcome to the EXFO’s fourth quarter 2009 and year-end financial results conference call. (Operator Instructions). As a reminder, this conference is being recorded Tuesday, October 13, 2009. I would now like to turn the conference call over to Mr. Vance Oliver, Manager of Investor Relations.

[Vance Oliver:]

Good afternoon and welcome to EXFO's fourth quarter and year-end conference call for fiscal 2009. With me on the line today are Germain Lamonde, EXFO’s Chairman, President and CEO, and Pierre Plamondon, Vice President of Finance and CFO. 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 Form 20-F, which is on file with the Securities and Exchange Commission. Our Annual Information form is available with the Securities Commission, as well, in Canada. Please note that non-GAAP numbers may be used during this conference call. A detailed reconciliation of these non-GAAP results with our GAAP results is available on our Web site at www.expo.com/investors. 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 Germain.

[Germain Lamonde:]

Good afternoon and thank you for joining us today for our fourth quarter and year-end conference call. After five years of nearly 25% in sales growth on average, fiscal 2009 was more somewhat challenging due to the global economic recession, especially in the second half as network operators delayed orders or reduced them in size to protect their cash flow. We closed the fiscal year with a 5.9% year-on-year sales decrease to $172.9 million, or minus 13.5% on an organic basis, if you are excluding acquisitions and gain or losses on forward exchange contracts. In terms of profitability, our EBITDA was reduced to $14.5 million, or 8.4% of sales, given the lower sales volume caused by the recession. Actions were taken to align our operating expenses to market conditions through a cost reduction initiative in the fourth quarter and that should generate about $6.0 million in pre-tax annualized savings. I am pleased to report that we raised our gross margin for a seventh consecutive year to reach 61.3%, our best result since 2000 when Optical computation products and requirements were exploding. I am also pleased that we generated a record $22.6 million in cash flows from operations and maintained a healthy balance sheet with a cash position of $69.7 million and no debt. All things considered, we made significant progress as we navigated through a major economic recession in 2009. We believe that the telecom test and measurement and service assurance tie that we address contracted more than our share in the last fiscal year. Now let's take a look at our businesses in a little more details and see how they fared on an individual basis. Let's start first with our Telecom segment. Clearly, our Telecom test business, which includes our transported contesting, our IMS and VoIP systems, and IP service assurance captured market share as we increased sales 63.1% to $54.9 million despite a challenging market environment. We benefited from a full year of revenue contributions on both Brix [Networks] and the Navtel [Communications] acquisitions that closed both during the spring of 2008 and we continued making headways with our transport and datacom segment. Not only did we increase our telecom business and market share among wire line operators in 2009, but we also had even greater strides with wireless operators as reflected by several contract wins. Such examples include two deals of multi-million dollars with tier 1 wireless carriers in 2009, one for mobile back-officing and another one for nationwide service assurance deployment as we are offering clearly the most capable service assurance solutions available on the market today. Incidentally, wireless operators are becoming an increasingly attractive end market for EXFO, as they are aggressively investing in their 3G network and getting prepared for future 4G/LTE deployments to cope with the explosion in bandwidth demand that is generated by new smart phones like the iPhones and the Blackberries. This market reality is forcing wireless operators to increase speed to the tower by deploying 100 megabit per second and even bigger gigabit per second over Ethernet and to deploying increasingly fiber optic all the way to the tower and base station. This, in turn, is creating the need to expand capacity with their core network and enter rings and forcing them to also embrace an all-IP architecture as they are getting prepared for the soon-to-be-released LTE deployments. I am confident our Protocol business is well positioned for these trends and will continue to be bigger for us for years to come and especially since it's geared towards supporting the conversions to IP, both of the fixed and the mobile communications network operators. We are very tuned to market-driven innovation. We launched the first 100 gigabit per second Ethernet test solution, called Carrier LAN, and field application during the last fiscal year. We also strengthened our Internet Protocol portfolio with the comprehensive quality of service testing communities for commercial on triple-play and wireless back on services. As well, we released our next-generation FTB-500 platform that is purpose build for characterizing IP networks while also performing on the lowest advanced optical test requirement that can be found on the marketplace. With Protocol accounting for 36% of the Telecom Division's revenue in 2009 versus 21% in the previous fiscal year, we are still believers that this business will surpass our Optical revenue in the not-too-distant future while Optical should resume to its traditional growth trajectory. Now we mentioned during the acquisition of Brix Networks that it was to become accretive as a segment. It should be noted that our service assurance business, which is now an integral part of our Protocol segment, positively contributed to our bottom line in fiscal 2009. When we announced the acquisition of Brix Networks in April of 2008 we had stated that if you excluded after-tax amortization of tangible assets and stock-based compensation costs that that acquisition was to slightly be negative to earnings in fiscal 2008 for the few months that were left but would be neutral in fiscal 2009. We updated our outlook to neutral and to accretive at midpoint in fiscal 2009 and now I can confirm that this acquisition was accretive in fiscal 2009. It was a bold move on our part to acquire a service assurance organization that was losing money but it had such a cutting-edge technology aimed at this assurance of both fixed and multi-network convergence that it just needed, in fact, to ramp up in sales volume, given its very high grow margin, to contribute to our bottom line. This serious success is exciting and still has great potential for service opportunity and market synergies as we will grow our service assurance along with our TNMs offering while continuing to expand both our top and bottom line as operators are increasingly turning to service assurance to an end customer experience at all applications at the application layers and thus to reduce the churn and eliminate non-essential platforms to maximize their profitability. So service assurance is increasingly becoming very specific for the operators. Interestingly, it has a longer sales cycle than our finished non-testing and measurement business but also includes a very interesting recurring revenue model in the form of maintenance contracts. Our intent is to leverage both sales and technology synergies between test and measurement and service assurance businesses as we continue to move forward. Now talking of our optical testing, that business segment was more impacted during the last year, given the difficult market conditions in 2009, since many operators deferred on intensive deployment decisions on the PTX rollout and capacity expansion through a new optical cable routes by opting to increase existing rates rather than to dig trenches to buy new fiber cables. As a result, our Optical sales dropped 17.5% to $95.5 million in 2009. Nevertheless, we are believers that our Optical and test segments still gained market share although probably more modestly and this statement is supported by our view the market was an annoying factor during the last fiscal year and this is supported by third-party research from Frost & Sullivan, which reported in 2009 that EXFO had gained the largest market share gains in the fiber optic test equipment markets for the fifth consecutive periods compared periods in [inaudible] seven and eight. And Frost reported that EXFO had vaulted from third to first place in global and fiber optic equipment with a global market share of 18% in 2008 and submitted 33.3% of the global test segment. Given our leadership position, we are confident that we gained a lion's share of the optical and test [inaudible] in 2009 thanks to, again, market share gains during that period of time. Now, talking about going forward, the optical testing will remain a core business for EXFO and our strong brand reputation as the industry leader in this field, combined with multi-technology test platforms entrenched with network operators, will allow us to further increase our market share in the optical testing segment and benefit protocol testing and service assurance accounts. Now moving to the Access testing segment, this smaller unit was affected by the economic recession as well, along with the fact that our new Access 200 product line took time to finally start gaining traction, which is now starting to mitigate. Consequently, sales for our Access test equipment were down 21.8% year-on-year to $5.8 million in 2009. Likewise, our Life Sciences and Industrial Division was affected by difficult market conditions in 2009 with sales dropping 13.2% year-on-year to $19.8 million. And as you know, the Optic Electronic Assembly market has been affected by reduced demand for consumer goods like cell phones and cameras during the recession. But overall this division continues to be quite profitable and is showing good potential for the future. Now let's turn to operations metrics and then take a look at the updated outlook for our corporate performance metrics. Given the economic recession in fiscal 2009, we have adjusted our metrics over a new period of three years. It is extending now from fiscal 2010 to 2012. We have maintained for the next three-year period of time a 20% growth CAGR as an objective and as we plan to keep growing faster than our end markets in the years to come. I am proud to report that we have gained market share year-in year-out in the 24-year history of EXFO as shown by our near 25% CAGR in the last five years and near 20% CAGR in the last ten years, despite a seven in one telecom implosion. We believe 2009 was no exception in our books. And the second metric, we intend to increase EBITDA faster than revenue and specifically we plan to double the EBITDA in dollars over the next three-year period of time. Revenues will lead to more balanced operating model as we are increasingly focusing on the bottom line results. Finally, as a third metric, we are raising our gross margin target to reach 64% for the newly defined three-year period as we are increasingly deriving higher margin revenues from our high-growth Protocol business. Note that we have increased gross margin for each of the last seven fiscal years. So now with the worst of the economic recession seemingly behind us now, I am excited our position that should be enabling us to take advantage of key market opportunities and return to our more typical profitable growth paths. In keeping with best disclosure practice, I believe it was necessary to update operations metrics for that time. Now let's talk about the guidance for the first quarter of fiscal 2010. First, let me provide you with our financial outlook for the first quarter of 2010. We are forecasting sales between $40.0 million and $45.0 million and a GAAP net loss between $0.06 and $0.02 per share for the first quarter of fiscal 2010. Our GAAP loss outlook includes $0.02 per share in after-tax amortization of intangible assets and stock-based compensation costs as well as a pre-tax foreign exchange loss of $0.03 per share to account for the significant decrease of the U.S. dollar compared to the Canadian dollar since the end of the fourth quarter of fiscal 2009. At this point I will turn to call over to Pierre to discuss our financial results more in details.

[Pierre Plamondon:]

As mentioned earlier in the call, annual sales between 5.9% to $122.9 million in fiscal 2009 from $183.8 million in 2008. In the fourth quarter of 2009 sales reached $36.5 million compared to $43.6 million in the previous quarter and $50.9 million in the fourth quarter of 2008. The 5.9% annual sales decrease is mainly due to the global economic recession. The negative impact of our [inaudible] was offset by $3.2 million in 2009, compared to an increase of $4.2 million in 2008 and the negative impact of the year-over-year currency fluctuation on our sales in terms of Euros [inaudible] Canadian dollars as the same as reported in U.S. dollars in our financial statements. Overall, for fiscal 2008 net bookings decreased 2.2% to $180.5 million for book to bill ratio for the year of 1.04. In the fourth quarter of 2009 net bookings totaled $40.7 million for a book to bill ratio of 1.11 compared to $40.2 million in the third quarter of 2009 and $45.7 million in the fourth quarter of 2008. Gross margin improved to 61.3% of sales in fiscal 2009 compared to 58.9% in 2008. In the fourth quarter of 2009 gross margin amounted to 60% compared to 62.3% in the previous quarter and 59.9% in the fourth quarter of 2008. Overall, gross margin improved in 2009 mainly because we increased sales of our software test intensive protocol test solutions including a full year revenue contribution from the Brix and Navtel acquisitions. Secondly, the ramp up at our manufacturing plant in China resulted in a higher percentage of sales coming from that low-cost country in 2009. And thirdly, the decrease of the Canadian dollar rest of the year fiscal 2009 resulted in a lower cost of goods sold expressed in U.S. dollars in our statements. These items were partially offset by a lower [inaudible] item in 2009 versus 2008 and the negative impact of the loss of the foreign exchange contract on our sales. We anticipate that our gross margin will vary between 60% and 62% in fiscal 2010. Moving to operating costs, selling and administrative expenses amounted to $63.8 million in 2009 compared to $61.2 million in 2008. The year-over-year increase in SG&A is mainly due to the full-year impact of the Brix and Navtel acquisitions. These items were partially offset by the announced restructuring plan in the fourth quarter and the decline in the average value of the Canadian dollar versus the U.S. dollar in fiscal 2009. In terms of percentage, SG&A expenses accounted for 36.9% of sales in 2009 compared to 33.2% in 2008. In the fourth quarter of 2009 SG&A expenses totaled $14.2 million compared to $16.7 million in the third quarter of 2009 and $17.0 million in the fourth quarter of 2008. Our SG&A should fall between 33% and 35% in fiscal 2010 since we expect to increase sales volume with the worst of the economic recession seemingly behind us. Net on the expenses totaled $27.7 million, or 16% of sales, in fiscal 2009 compared to $26.9 million, or 14.6% of sales in fiscal 2008. The full-year impact of the Brix and Navtel acquisitions and increased headcount at our software center development in India, partially offset by $1.9 million for the recognition of previously unrecognized R&D tax credit and the decline in the average value of the Canadian dollar versus the U.S. dollar in fiscal 2009 contributed to the amount of this increasing dollar in net R&D spending in 2009. In the fourth quarter of 2009 net R&D expenses amounted to $5.4 million compared to $7.8 million in the third quarter of 2009 and $7.3 million in the fourth quarter of 2008. Again, the $1.9 million R&D tax credit understated our expenses in Q4 2009. We expect that our net R&D expenses will range between 16% and 17% of sales in fiscal 2010. In fiscal 2009 GAAP net loss totaled $16.6 million, or $0.27 per share, including $21.7 million for impairment of goodwill, $5.1 million in amortization of intangible assets, $1.4 million in stock based compensation costs, and $1.2 million in restructuring charges. These items were partially offset by the $1.9 million for the recognition of R&D tax credits and $0.9 million for the net recovery of income taxes. The net tax effect on these items resulted in the recovery of $2.6 million. In the fourth quarter of 2009 GAAP net loss amounted to $1.2 million, or $0.02 per share, including $1.2 million in restructuring charges, $1.1 million in amortization of intangible assets, and $0.4 million in stock based compensation costs. The items were offset by $1.9 million for the recognition of R&D tax credit and $0.9 million for the net recovery of income taxes. These items resulted in a net income tax expense of $0.1 million. Looking at segment results, our Telecom Division sales decreased 4.9% to $163.1 million in 2009 while our Life Sciences and Industrial sales dropped 13.2% to $19.8 million. In terms of geographies, the Americas represented 57% of sales in 2009, Europe, Middle East, Africa totaled 27% and Asia Pacific 16%, whereas in 2008 the Americas accounted for 56% of sales, Europe, Middle East, Africa 28%, and Asia Pacific 16%. Moving on to a few key points of the balance sheet, our cash position decreased to $69.7 million, or $1.17 per share, at the end of fiscal 2009, from $87.5 million at the end of fiscal 2008. The year-over-year decrease is mainly due to the redemption of share capital on the [inaudible] issuer bid and our substantive issuer of bid for a total of $26.9 million. The per share of capital [inaudible] for $6.9 million, $2.4 million for the payment of the Brix turnout and unrealized foreign exchange loss of $4.2 million on our cash and short-term investments [inaudible] in Canadian dollars. These items were partially offset by $22.6 million in cash flow from operations delivered in fiscal 2009. DSOs decreased to 57 days in the fourth quarter of 2009 from 68 days in the previous quarter mainly because sales volumes dropped significantly in Q4. Finally, investment returns remained relatively flat in Q4 at 1.9x versus 2.0x in the previous quarter. Now I will turn the call over for the start of the Q&A.

[Operator:]

(Operator Instructions) Your first question comes from Ajit Pai - Thomas Weisel Partners.

[Ajit Pai:]

The first question is just to quantify the EBITDA that he talked about in the new KPI and the doubling of that. Could you actually give us a number, from what to what you expect it to go over three years? And whether it's going to double from fiscal year 2010 to fiscal year 2012 or from fiscal year 2009 to fiscal 2012?

[Germain Lamonde:]

In fact, in 2009 EBITDA ended at $14.5 million and we plan on reaching for $29.0 million by the end of fiscal 2012. It's about 28% CAGR on EBITDA.

[Ajit Pai:]

And when you're looking at the top-line growth of 20% of the KPI, are you looking at that organically or it doesn't matter whether it's organic or inorganic?

[Germain Lamonde:]

Well, it's organic, or maybe including some small acquisitions. If it were to be a decent size or bigger size, [inaudible] actually, of course, a greater metric.

[Ajit Pai:]

And from a broad sort of structural perspective, when you're looking at the focus markets, I think North America has always been a very significant percentage of your revenue. Is there any kind of material shift you see happening over the next two to three years in terms of where your growth is going to be in terms of geography?

[Germain Lamonde:]

Well, this year has remained rather flat. Some of our businesses tend to be more like North America, others seem to be more global. But we think over time, as all the type of products and services, including this assurance gets become more accepted globally, we think that the shift towards more in APAC overall will eventually take place. But it won't ever be a radical shift. But we used to be at 65% in the Americas, now, in fact, it's a bit less now. And I think that's where we should be ending in the longer term.

[Ajit Pai:]

What about share in Europe? Do you think it could go up from where it is right now?

[Germain Lamonde:]

Well, EMEA accounted in fiscal 2009 to about 27%. I think that's pretty good. It's not going to shift radically from there. Like it should remain within a few percentage points of that.

[Operator:]

Your next question comes from Paul Bonenfant - Morgan Keegan & Company.

[Paul Bonenfant:]

I will start with a couple of housekeeping questions. I apologize if you mentioned this already, but did you tell us if you had any 10% in the quarter?

[Pierre Plamondon:]

No, there were none. The largest account in the quarter was 8.1% and it's up three headed to 12.6%.

[Paul Bonenfant:]

And were there any variations in that list from the previous quarter?

[Pierre Plamondon:]

Well, that list isn't necessarily the same every quarter. It changes. It's up 3, we're basically providing the total for the top three, without giving a name. Suffice it to say that Verizon was still a very [inaudible] within that group.

[Pierre Plamondon:]

For the whole fiscal year maybe Verizon made it to 11.6% and it's up 3 for the whole fiscal year. Admitted, that's 17.8%. We show that in Q4 it was basically a slightly more modest quarter but it was not concentrated. In fact, the bigger accounts tended to be a bit less present within our bookings and sales.

[Paul Bonenfant:]

And again, along the lines of housekeeping, what was the contribution in the quarter from Brix and Navtel? And again, I apologize if you provided that already.

[Pierre Plamondon:]

From the whole fiscal year, the acquisitions bring us $25.3 million in sales compared to $5.4 million in last year. And for the quarter I don't have the number right away so I will get it for you in a few minutes.

[Paul Bonenfant:]

And in your forecast, are you assuming any snap-back in Life Sciences and Industrial sales?

[Germain Lamonde:]

I wouldn't say snap-back but we are expecting to see some growth in that business.

[Paul Bonenfant:]

Along the lines of your Telecom business, last quarter you had talked about some carrier deals being pushed out. Are you seeing these be pulled in? Maybe an acceleration of a pull-in of these deals?

[Germain Lamonde:]

The way we would describe that is that we think the worst is behind us. We are starting to see now there's a bit more activity and more solid projects being driven. We are seeing fewer and fewer push-outs. I think that we can't expect to see a huge market recovery but I think we're on more firm ground these days and we are able to [inaudible] take both in terms of long-term growth, but also in terms of showing a strong projection for Q1. I would like to maybe mention that in the last quarter announcement, we were reporting that things were still certainly solid until the beginning of May and May was actually very soft. So was June. But since that, July, August, September, are starting to show signs of sequential improvement and we're starting to see that the overall, it's going to be [inaudible] out, jaunting or snapping back like feet, it's actually getting better.

[Pierre Plamondon:]

The sale of the acquisition for Q4 amounted to $4.2 million in the quarter. Brix and Navtel all together.

[Paul Bonenfant:]

You talked about Protocol, you had expectation that it would surpass Optical sales soon. I'm wondering if you could quantify soon?

[Germain Lamonde:]

I don't think we want to actually necessarily give a date to this but if it accounted for about a third, it means Optical accounted for in the range of 60% or so, within our Telecom Division. So the ratio used to be a very small portion, we made substantial jumps in that segment. And I think it's clear we are seeing it coming but this is our high-growth segment and we think we can actually compute in the same direction. So two, three, four years. I wouldn't duly point to a specific date. Our goal is to grow the optical and segment as much as we possibly can. I think we have lost market share in fiscal 2009 in Optics. We still believe there is room for growth in Optics and we should be resuming with growth in Optics. But hopefully we're going to get enough higher growth in our Protocol business to eventually surpass it.

[Operator:]

Your next question comes from Chris Umiastowski - TD Newcrest.

[Chris Umiastowski:]

Can you disclose what the bookings were in the quarter?

[Pierre Plamondon:]

$40.2 million, for a book to bill of 1.11.

[Chris Umiastowski:]

And opex guidance, I just wanted to make sure I understand it. You're 33% to 38% for SG&A?

[Pierre Plamondon:]

No. SG&A is between 33% and 35%.

[Chris Umiastowski:]

Okay. 33% to 35% for SG&A and 15% to 17% for R&D.

[Pierre Plamondon:]

Yes.

[Chris Umiastowski:]

And just doing the math, if you double your EBITDA and you hit $29.0 million at the normal tax rate that you'd be looking at, I calculate you'd be looking anywhere between about $0.30 and $0.35 in adjusted EPS. Does that seem reasonable math to you?

[Pierre Plamondon:]

You are applying 30% tax rate on that?

[Chris Umiastowski:]

Yes.

[Pierre Plamondon:]

That could be possible. That won't come in directly on the model but that could be possible.

[Chris Umiastowski:]

And the reason I bring it up is it doesn't seem like a particularly exciting target, let's say, in terms of the way investors will look at it. Is it baking in an assumption of a foreign exchange rate that's pretty close to parity, like we're seeing here today, or are you expecting—what kind of expectations do you have? Maybe a better way to ask it is how aggressive of a target do you believe that that is?

[Germain Lamonde:]

Well, we're planning on the currency to be at par or maybe even worse than par but I think we've got a plan for this. At the same time, as well, too, we think this is a reasonable target to talk about close to 30% growth in EBITDA on a year-on-year basis. We have to also provide metrics that we think are achievable and it's the better off for us to announce these metrics as we go over the next three years better than reduce the originating, see what I mean? So basically, we think this is actually a reasonable stretch to think that this is very doable and our goal is to deliver that or better.

[Chris Umiastowski:]

You've already had a little bit of a question on this, but just maybe give your perspective on how you see carriers planning their spending over the next year. You said things started to get better over end of the summer and into September. Has it continued into October? Are we seeing any kind of opening of discussions on larger projects that had been shut down for a while? Anything like that?

[Germain Lamonde:]

We are starting to see larger projects shaping up. I think it's early to say whether they will be massive. At year end nothing massive can be expected, but there will be year-end money to some degree. Typically, we're entering now into interesting part of the annual expenditure cycle so that should be positive for us. If we're looking at better at 2009, the second half of the fiscal year was less than first half. This is very unusual for us. Typically when you go back in history you will find that typically first half is 45%, 47% and second half is let's say 53% to 55%. I expect it's because of an intent to go back to a more normalized type of revenue profile for us. So this means that we're expecting the second half of 2010 to be better. And we're starting off on a fairly decent backlog. Book to bill in the last quarter was at 1.1. For the full fiscal year it was up to 1.04. So I think we're in a position that we can deal from. And that's our plan to deal from this position through the next quarters to come, obviously.

[Chris Umiastowski:]

And maybe if I can elaborate a little bit on your last comment. You said you expect the second half to be stronger and that I agree, normally that's the case for you. Are you expecting it fall back significantly to the normal pattern or would it be a little bit flatter do you think this year than most?

[Germain Lamonde:]

No, I would say it's early in the game to speak for, indeed to ask for each of the four quarters to come, or tending to be shy of that a little bit. But I would expect that to be pretty close to be in line with what we've seen in the past, and it could be back. We will see how the recovery will shape up.

[Operator:]

Your next question comes from Analyst for Kris Thompson - National Bank Financial.

[Analyst for Kris Thompson:]

On gross margins, what is the basis of the extended target and what factors could move that? And is there a time line for your guidance?

[Pierre Plamondon:]

There is a time line for the guidance. We have spoken of three years, so that's the next three years until the end of fiscal 2012. The main driver, and there is a combination of factors. I am going to a few and Germain may want to add a few more, but fundamentally we are moving toward more Protocol sales. Protocol sales tend to be higher gross margin and typically there is a fair gap between that and other product line that we carry. Mostly because it's very software intensive. Secondly, as we scale up our manufacturing and our volume, and the fact that we've got now a China plant that's actually been increasingly leveraged now, that's going to help our gross margin to get better. These would be, I would say, the main two factors. And if you go back now the last seven years, we made a progression of probably in excess of 1% a year, of each of the last seven years. So just keeping up with the trend of adding about a percentage point per year.

[Analyst for Kris Thompson:]

And to the cash flow statement, why was cash flow so high? Accounts receivable provided $9.0 million in cash flow in Q4. Can we expect that number to be lower next quarter?

[Pierre Plamondon:]

On capital expenditures?

[Analyst for Kris Thompson:]

On changes in working capital.

[Pierre Plamondon:]

In the capital expenditure, in this fiscal year we had equities [inaudible] that we closed in this fiscal year so we are saying that the capital expenditure will be probably a little bit lower this fiscal year.

[Analyst for Kris Thompson:]

How are your bookings turning so far this quarter?

[Germain Lamonde:]

We are entering now into a better part of the quarter, particularly when it comes to mid-October is when we start to see [inaudible] acceleration so I guess so far the trend is rather satisfactory. I would always like to see more but I would say it's probably the reason why we're getting outfitted for the quarter.

[Operator:]

Your next question comes from Deepak Chopra for Michael Urlocker – GMP.

[Deepak Chopra for Michael Urlocker:]

Could you offer some more color on earnings by segment? It looks like earnings for Life Sciences and Industrial have jumped quite a bit to $2.0 million in the quarter. And Telecom earnings have come down. Am I looking at the R&D tax credits there or is there something else going on there?

[Pierre Plamondon:]

Yes, in the Life Sciences and Industrial a recorded one-time R&D tax credit of $1.9 million as well as the adjustment to the income taxes. So on the operating earnings we are showing in the statement, that amount has been included. So you have the one-time $1.9 million revenue in the operating margin in the Life Sciences. But the whole division, even if you skewed that, the whole division, they were in very good earnings and we are very happy with their results.

[Operator:]

Your next question is a follow-up from Ajit Pai - Thomas Weisel Partners.

[Ajit Pai:]

Just in terms of the competitive dynamics, can you give some color as to how the landscape has changed, especially whether Japanese competition is fiercer or less intense in most arenas? And then also on the pricing front, what you are observing in pricing from both your largest competitor in Optical as well as in Protocol, whether to gain share you've had to be more aggressive in pricing in that market.

[Germain Lamonde:]

A bit surprisingly, I wouldn't say that there's been a radical change in the landscape. I would say weaker competitors have been going through this recession with more of a hard time, so it's been increasingly a business of market eaters and we're happy to be one of them. So I would say the change in terms of landscape is what we might see some consolidations. Some smaller players may have a hard time continuing with their operations. I would tend to say that it's not being changed where the Japanese manufacturers [inaudible] to the Chinese. I wouldn't say that there's been radical changes upward. I think it's been more like changes downward for some. In terms of pricing dynamics, we are targeting, increasingly, and we're setting very wide, setting differentiations, setting benefits, setting a rhythm of investments and so forth. I would say there are deals with our being priced very sensitively but we tend to be very careful about that. We are in a business of providing our customers with a superior product and a superior service and typically that doesn't come that much to be the cheapest on the market. It's always a fair balance. To be frank, it's not always an easy decision to price that way or not. But I believe that the long-term winners will be the ones that have got discipline when it comes to pricing. And we're trying to be very disciplines from this angle.

[Ajit Pai:]

Got it. But have you watched like over the past five years, an average of your pricing decline for an existing product, not for a new product you've introduced, has it been in double digits would you say?

[Germain Lamonde:]

No, I wouldn't say double digit. There is clearly like a price erosion. This is typical with high-tech industries. When you get today a much better iPod for the same price as whatever you were getting a few years ago. So we tend to see, obviously, a pricing erosion. It varies quite a bit from product line to product line. But it's maybe like high single digits, low double digit pricing erosion. Typically we have been able to absorb this with basically productivity gains, with cost of goods reduction.

[Ajit Pai:]

Right, but when you look at your business, I mean, unlike a consumer electronics item, which is quite elastic, if the price goes down you get greater sales. In your business I don't think the customer is going to order more units if the price goes down. Is there anything that has changed in the landscape in terms of competitor dynamics which is easing, where you're seeing that the price erosion you have seen because of competition is actually becoming a little less? That you've reached a price point at which it's now low-single digits, or mid-single digits? Is it slowing the price erosion?

[Germain Lamonde:]

To be frank, there is quite a bit of significant technology. Some product lines have got much less pricing compression now and we tend to be more like in that, as you said, in this low-single digit, mid-single digit. On average, it's not that elastic but the pricing pressure we are getting is actually compensated with higher volumes. I could point to a number of examples where the volumes we make today are so much larger than whatever we used to be, say five years ago, that the volume is otherwise making that to be a bigger business for us. So we've got erosion but we've got a massive amount of additional volume that makes up for the average price reduction.

[Operator:]

Your final question comes from Deepak Chopra – Genuity Capital Markets.

[Deepak Chopra:]

I was just doing back-of-the-envelope math. You said 20% CAGR in terms of top line and doubling your EBITDA, absolute dollars. You know, when I wrote on the back of the envelope I noticed that's about $300.0 million in top line you're expecting three years out from now, but at $30.0 million of EBITDA, basically you're forecasting a 10% EBITDA margin. And that's below your guidance. You have historically provided us with something like mid-teen, 16% range. Is that correct? Am I doing that correctly?

[Pierre Plamondon:]

You would end up to more like 11% EBITDA and basically what that says is that we are keeping maybe a bit of room as we go. Pricing pressure might become an issue. But I think basically before we get down to the 14% or 15% or 16% EBITDA, we are going to have to be quite overbuilt, obviously.

[Deepak Chopra:]

Okay, so I shouldn't figure it as an effective downgrade of just sort of the operating model you have historically targeted, it's just sort of just more of a push-out than anything.

[Pierre Plamondon:]

Yes, exactly. We are also thinking the fluctuation, the currency, into this, and to be frank, we are planning for currency to be at par, and maybe even worse than that.

[Deepak Chopra:]

In terms of that model, where do you expect SG&A and R&D to be as a percent of revenue when you look out that far? Higher than your traditional model, then I assume, for the lower EBITDA margin?

[Pierre Plamondon:]

Well, we didn't really provide a great deal of details to this, but suffice it to say we are planning for gross margin to be around 64% so if you made the math back, that means we're going to somewhat—if we're getting 2% on margin or 2% on margin, and then you bring, let's say 3% or 4% better than we do today, on bottom line or EBITDA, I think SG&A and R&D would remain flat. Now, there is room to do maybe a bit more that as we scale up, obviously, but as a back-of-the-envelope kind of calculation, I think is giving you a percentage check for the bulk of the EBITDA improvements would come from gross margin improvement.

[Deepak Chopra:]

Just in terms of fibre to the home or FTTH deployments, what do you see on that landscape right now? I assume that side of the market has obviously slowed quite a bit over the past year. What do you think is going to happen over the next 12 months to reinvigorate Optical sales? Obviously Protocol has been good but Optical has obviously been a little bit weaker.

[Pierre Plamondon:]

Well, Optical has been impacted, as he said, partially with the CTX kind of deployment around the world, so taking more capacity out to the edge has been somewhat slowed down in terms of using fibre. Mostly, as you pointed out, the FTTH, CTX kind of deployment, especially the FTTH kind of deployment have been basically slowed down. Now the news is we are increasingly seeing a number of operators around the globe that are making announcements that they are going to increase their FTTH plans. Suffice it to say that BT and many of the Chinese operators, many others, have actually come down that these kind of announcements have been here locally. Firms like Bell Canada and others are going to bit a more FTTH moving forward has proven it's capacity but it's indeed very, very capital intensive and during the downturns this is the kind of project that first to be shut. I think now we are starting to see signs that FTTH will resume. I don't think we can expect anyone to go nuts and start to invest [inaudible] but we are going to start to resee, and we are starting to see additional signs of life from this end. And I think this is where we are very well positioned. We own probably in excess of half of the world market for this segment. And we intend to still capitalize in future [inaudible].

[Operator:]

There are no further questions in the queue.

[Vance Oliver:]

For those people who joined us late and would like to listen to a replay of the conference call, the phone number is 402-977-9141 and the reservation number is 21434695. It will be available 1 hour after the end of this conference call until 7

[Operator:]

This concludes today’s conference call.