RADCOM Ltd.
Q4 2020 Earnings Call Transcript

Published: 17 Feb 2021

[Operator:]

Ladies and gentlemen, thank you for standing by. Welcome to the RADCOM Limited Results Conference Call for the Fourth Quarter and Full Year of 2020. As a reminder, this conference is being recorded and will be available for a replay on the company's website at www.radcom.com later today. On the call are Eyal Harari, RADCOM's CEO; and Amir Hai, RADCOM's CFO. Please note that management has prepared a presentation for your reference that will be used during the call. If you have not downloaded it yet, you may do so through the link in the Investors section of RADCOM's website at www.radcom.com/investor-relations. Before we begin, I would like to review the safe harbor provision. Forward-looking statements in the conference call involve several risks and uncertainties, including, but not limited, to the company's statements about its continued investment in technology and R&D, positive momentum of the 5G market and other markets and industry trends, the company's market position, cash position, potential and expected growth, the company's expectation with respect to its contract with Rakuten and continuing relationship with AT&T, the potential of the RADCOM ACE product, the company's expectation regarding the impact of COVID-19, its ability to capitalize on the emerging 5G opportunities and its revenue guidance. The company does not undertake to update forward-looking statements. The full safe harbor provisions, including risks that could cause actual results to differ from these forward-looking statements, are outlined in the presentation and the company's SEC filings.

[Eyal Harari:]

Thank you, operator, and thank you all for joining us today. Earlier this morning, we issued a press release stating our fourth quarter and full year results for 2020. We are pleased with the financial results. We ended 2020 on a strong note following several consecutive quarters of revenue growth. Total revenue for the fourth quarter of 2020 were $10.2 million, bringing our total revenues for the full year of 2020 to $37.6 million. This was at the high end of our revenue guidance for 2020, an increase of 14% year-over-year and resulted in a significant improvement on our bottom line. Over the last couple of years, we maintained our significant R&D investment to expand our technological advantage and capabilities. This investment bore fruit in the second half of 2020. We reached a critical milestone in our long-term strategy as we launched RADCOM ACE, our automated 5G assurance solution. We secured one of the industry's first 5G stand-alone assurance contracts with Rakuten shortly after the RADCOM ACE launch and continue supporting Rakuten as they aggressively roll out their 4G and 5G services in Japan on the world's first fully virtualized mobile network and one of the most advanced 5G networks. The solid end of the year reflects the progress we made during 2020 despite the impact of COVID-19. I wish to take this opportunity to thank all of RADCOM employees as they rose to the challenge and helped us meet the company's commitment and support our customers during 2020. From the beginning of the pandemic, we quickly adjusted our internal and external processes to the new way of remote working. We followed the regional health guidelines to ensure that all of our employees could work safely and support our customers. We also assured that our worldwide teams could collaborate and share knowledge effectively through virtual conferencing and other cloud-based tools.

[Amir Hai:]

Thank you, Eyal, and good morning, everyone. This quarter marked another consecutive period of revenue growth. With our fourth quarter increasing by 13% year-over-year, we also maintained our operating expenses and succeeded in improving our bottom line. Now please turn to Slide 6 for our financial highlights. To help you understand the results, I will be referring mainly to non-GAAP numbers, which exclude share-based compensation. We ended the fourth quarter of 2020 with $10.2 million revenue, an increase from $9 million in the fourth quarter of 2019. Our gross margin in the fourth quarter of 2020 on a GAAP and a non-GAAP basis was 70%. Please note that our gross margin can fluctuate depending on the revenue mix. Our gross R&D expenses for the fourth quarter of 2020 on a non-GAAP basis were $4.6 million, a slight increase of $142,000 compared to the fourth quarter of 2019. We received a grant from the Israel Innovation Authority for $308,000 during the quarter. Sales and marketing expenses for the fourth quarter of 2020 were $2.3 million on a non-GAAP basis compared to $2.5 million in the fourth quarter of 2019. The decrease is mainly related to reduction in travel expenses due to COVID-19. G&A expenses for the fourth quarter of 2020 on a non-GAAP basis were $748,000, approximately the same as the fourth quarter of 2019.

[Operator:]

The first question is from Bhavan Suri of William Blair.

[Bhavan Suri:]

Congrats. It's really nice to see sort of the growth and the consistency come back, so nice job there. I wanted to touch a little bit, as you've posted some solid upside in the quarter relative to expectations, solid results there, but can you give us an update on the spending or maybe the decision-making environment in Q4? I know you talked about it a little bit, but a little more color would be great. The pandemic was certainly challenging for customers, even potential customers. And I guess as you think about conversations and processes, are you seeing those start to pick up Q4? Obviously, 5G is getting rolled out, but sort of there's still a delay in sort of people wanted to make decisions. I'd love to understand sort of the decision-making, spending environment, and how that's changed.

[Eyal Harari:]

Thank you, Bhavan. I think that the COVID-19 pandemic effect is definitely something that everyone is trying to understand. What I see is that overall 5G is getting very good momentum, and more and more investment in the telecom industry in global is made towards 5G. So the demand for 5G is strong, and the commitment of the operators towards 5G is there. When talking to different CTOs globally, we do see some delays or hesitations due to the pandemic. But from experience in the market from previous technology generations, telecoms projects, in many cases, are longer and take delays, and I'm not sure if the effect is always due to the COVID or not. The bottom line is that it's most important that the 5G momentum is there, the demand is there. And most operators that we speak with are not hesitating and see 5G as a strategic investment, and they are continuing full speed towards that.

[Bhavan Suri:]

Yes. No, I think you're right. It's hard to say that it's just COVID. But it's good to see 5G growing. I guess, you've talked about the past of having -- in the past about having a handful of sort of POCs with tier 1 customers. Can you just give us an update on the number of POCs in workshops you currently have in progress? And how is that pipeline shaping up for 2021? And then I have a question for Amir on the guidance. But just maybe just on the POC and workshops, and how that's playing out, especially with the tier 1 carriers.

[Eyal Harari:]

So this is a good question as POCs in workshop during the COVID was one of the things that, as RADCOM, we had to adjust. We actually managed to leverage the fact we are a cloud-native company and introduced demo environment and POC environment using the cloud -- the public cloud, which allowed us to be more agile and more responsive to our customers and managed to cover some of the overheads that are, in some cases, in the COVID environment are less feasible, like installing physical equipment, even if it servers on the customer premises. And by that, we managed to actually accelerate the number of engagements we have with customers. They are different. They are less in person. They are more online. But we are seeing increased activity with the customers and POCs compared to what we had before. As I pointed out in my previous notes, we see this activity both from pure 5G customers as well as customers that are still not there with 5G but they are doing the refresh for their 4G network, changing their network providers and looking now on a future-proof service assurance solution. And the fact we have the RADCOM ACE is something that gives us a lot of points because they are looking now on what is going to be the platform for the next year to come. So definitely, we see this building up, but it's different because we are mainly working remotely.

[Bhavan Suri:]

Yes. Understood. You touched on ACE. Let me ask about ACE before I jump to Amir. You talked about -- obviously, Rakuten's interesting and, obviously, deployment of ACE, but how is demand with other carriers? Like is that a wait and see? Is that let's see how it plays out with Rakuten? Or are you actually seeing sort of people say, okay, we're going to test it. We're going to put it in dev environments. We're going to start looking at it. How are we seeing the early demand for ACE?

[Eyal Harari:]

So the ACE is really for the early adopters that are really moving forward with the cloud-native architectures and Kubernetes and containers, which most operators are still not there. But because we anticipate -- we build the RADCOM as an evolution platform that allows you also to work in a NFV environment and also run on bare metal solution but enabling the access to this new technology also for operators that are not yet there. And the message we hear from everyone is that they are very excited. They see our technology advantage, and they're really looking forward to use this kind of solution because everyone understands and believes that when 5G comes in full power, this is going to be the architecture of choice.

[Bhavan Suri:]

Yes. Okay. Let's switch to Amir for a quick second. Amir, it's good to see the guidance for revenue growth. You obviously had challenges over the last 18 months or so moving around guidance numbers. I'd love to understand what you assumed -- baked into guidance. I guess, how much of the outlook is predicated in closing new deals? How much is existing partners growing? I'd love to just understand how you've thought about building up this guidance?

[Amir Hai:]

Basically, as stated, I think we have a good visibility towards 2021. Most of the guidance is consisted on our multiyear agreement with existing customers and the high level of opportunities that -- we think that will bear fruit during the year. And I think this is the main base for the guidance.

[Bhavan Suri:]

Got you. And one last one, just so we're clear. Do you have any major renewals coming up in 2021 at all? And have you built that into guidance? What's your expectations there?

[Eyal Harari:]

So I think I answered that in the last quarter. We -- any given quarter, we have renewals with our different accounts. Typically, we have -- with each customer, we have multiple contracts that each of them is renewed in a different stage. So this is part of the normal course of things. And overall, we have -- we don't see anything specific that is in 2021 different than we had in 2020.

[Operator:]

The next question is from Alex Henderson of Needham & Company.

[Alex Henderson:]

So a couple of questions. Wanted to start off just with some homework on the print that you just did. The gross margins coming in just a hair below 70%. It seems like that's probably got a mix shift to some of the older products in it. Can you talk a little bit about the mix of what you reported in 4Q?

[Eyal Harari:]

Actually, Q4 is mainly our new products. In this specific case, we had some higher expense on third-party software that is embedded into our product line into our new product that was added to the cost and had a slight shift -- slight overhead on our gross margin.

[Alex Henderson:]

Okay. So if the mix shifts to the new products in 2021, will we see that third-party software in the mix, and therefore, we should be thinking...

[Eyal Harari:]

No. This is...

[Alex Henderson:]

70% range, or is it something more in the 71.5% range that you did on average for the year?

[Eyal Harari:]

Yes. We always can have some fluctuations, but our models are still the same. It's not related to the new product line. It's a onetime cost associated to a specific deal. But the gross margin levels are roughly the range we indicated. It can fluctuate between quarters, but this is the range.

[Alex Henderson:]

All right. So continuing at the current levels for 2021 that you posted in 2020 then is fairly stable gross margins.

[Eyal Harari:]

That's the estimate, yes.

[Alex Henderson:]

And then on the NRE in '21, is it reasonable to think that the $1.3 million, $1.4 million range is the right range? Or should we be dampering that a little bit?

[Amir Hai:]

I can take this. Basically, right now, we are submitting the request, and we are waiting for the final approval. But I think that overall, from what the information I have now, I think it will be at the same level of what has been for the last year or so. So of course, if -- we'll update -- if we will get some answer, we will update. But I think that it's a fair assumption that it will be the same.

[Alex Henderson:]

And given the timing of the first quarter, is it likely that the first quarter is again without being NRE, the way it was in 2020? Or...

[Amir Hai:]

We hope to get an answer before the quarter end, but until it's within -- until it's not done, it's not done.

[Alex Henderson:]

All right. And any thoughts on tax line? You did, what? $800,000 or so. But it did seem to click up as the year progressed. Should we be looking at somewhere in the $1 million range, or what should we be thinking about there in terms of the tax exposure?

[Amir Hai:]

Basically, we have a cumulative loss. So in most of the regions, we are not paying taxes on income. The tax is mainly related to employee benefits, which we cannot credit -- which you cannot credit tax. And so we don't see any major increase in this level. So I think it's to be -- it will stay the same.

[Alex Henderson:]

Okay. Well, it's been averaging around $1.1 million, and it dipped in 2020. I'm not sure why that would be the case. But should we be keeping it at that $1.1 million range? Or we should be keeping it around the $810 million range?

[Amir Hai:]

I think the $810 million range is pretty fair.

[Alex Henderson:]

Okay. And then I wanted to ask about the deferred revenues, which jumped quite sharply in the quarter. Was there a contract that came in and went into deferred that caused that jump?

[Amir Hai:]

Basically, deferred revenue is based on the funds that we received but we didn't recognize the revenue yet. So these are the cases. In some projects we get the fund but we didn't recognize revenue. This is why you see this increase.

[Alex Henderson:]

Is that on product? Or is that mostly on the services side?

[Amir Hai:]

It's mixed, products and services.

[Alex Henderson:]

I see. Okay. I was hoping you could talk a little bit about the competitive landscape. The slow rollout of 5G, the deferral of -- on timing because of COVID, all of those factors taking into account has certainly offered the competitors some time to catch up. I've noticed the NETSCOUT numbers, for instance, have been quite a bit better of late. Is there any change in the competitive landscape that we should be aware of?

[Eyal Harari:]

So Alex, overall, we mentioned this before, everyone is understanding that 5G is coming, and all of the competitors in our market are definitely targeting to see what is their offering to this new technology. We believe that our advantage of being in the visualization space starting early 2015 and building a very robust technology is -- still give us significant advantage, and this is the feedback we are hearing from the customers. Unlike NFV that was a niche, 5G is the main market. So we do believe that most competitors will invest and continue to invest into this space. We are very focused on our execution. We believe that the opportunity is there, we believe, in our technology. And so far, we are the only vendors in our space that is growing and anticipate to continue this growth. So we are overall optimistic.

[Alex Henderson:]

When you go into a POC, are you seeing just NETSCOUT, or are you seeing additional companies entering this space?

[Eyal Harari:]

We have our usual suspects. It's typically about 3, 4 companies that are working in this space. And this was -- again, nothing has changed from what we saw last year.

[Alex Henderson:]

All right. And going back into the mechanic side of the business model, obviously, the shekel has been quite strong. Can you remind us what we should be thinking in terms of the way you hedge and the impact of the exchange rate on the OpEx costs?

[Amir Hai:]

Yes. As stated, we've done some short-term hedging. And if I look at this quarter, the negative impact of the shekels in this quarter compared to the previous quarter was around $120,000. If we look at Q1 and if we stay at the current rate or the negative impact compared to Q4, it will be like the same, $130,000 per quarter. This is the quantification.

[Alex Henderson:]

And when you looked at your OpEx, did you assume some spending increase due to T&E coming back in as a result of a normalization of the economy? Or are you expecting the T&E any expenses to stay fairly de minimis and then come back in '22? How should we be thinking about the OpEx growth for the year?

[Amir Hai:]

Yes. Basically, the negative impact of the shekel is about -- in order to take it on an annual level is about $600,000. When we look at 2020 versus 2019, we had the negative impact of $700,000. So of course, it's affected the profitability. But we are controlling the shekel expenses very, very carefully. And no, we are not spending a lot of OpEx. We do want to continue to invest in the R&D, and we do want to expand the sales team, but it's not something dramatic.

[Alex Henderson:]

And so just to put this in context, is it reasonable to expect that the OpEx is fairly flat, with the exception of the shekel impact of, let's say, $600,000 for the year or so, taking it up towards pretty close to the $30 million level?

[Amir Hai:]

I think that we will see some slight increase in the R&D level also and then in the sales and marketing level, above the shift.

[Alex Henderson:]

So something slightly above $30 million then, it would sound like, would be the expectation?

[Amir Hai:]

Yes. And the operating expenses, yes.

[Alex Henderson:]

Yes. Okay. And do you have any sense of what your plans are relative to headcount? Or we're holding it steady at 276?

[Eyal Harari:]

Yes, it's relatively steady. As I pointed out, we are doing some increase on our sales deal as we are seeing 5G is maturing. And we are allocating some more of the saving of the travel, as you pointed out before, we are allocating some of the budgets in order to increase our sales team and capture more of the 5G market opportunity. But overall, company-wide, it should be similar with maybe a slight increase.

[Alex Henderson:]

All right. So going back to the top line, at the lower end of the band, you're talking about 5% kind of growth rates. Very -- I think we would have to include fairly low growth rates for a company your size. Obviously, you've got a lot of opportunities for additional wins that could drive that higher. How should we track your success, or alternatively the lack of success, in accelerating that line other than just waiting for the prints?

[Eyal Harari:]

So 2020 was a growth year, and we did around 14% growth. And as far as I believe, this was the record revenue year for RADCOM and one of the highest Q4s ever. We are looking to continue our growth, and we are taking some conservative of the impact of COVID and the slowdown that might happen. But still, under those conditions, we are still looking to continue and grow. As have we talked before, our sales cycles have some uncertainty and they might be longer than expected in normal situations. And there is also the time it takes to go down to the revenue from the time you close the deals because we usually have some few quarters for the implementation. So this is why we are looking on this guidance, and I'm still very pleased that we can show a consecutive year of growth. As always, the good signs in -- is our update and progress with our customers and new contracts and wins. And I want to highlight again the importance of the deal we closed with Rakuten, which is probably one of the most advanced 5G networks in the world and probably one of the most advanced service assurance project in our space that gives us a lot of confidence on our journey. I think this is the way you can look at that. And new wins that we are expecting to come in the -- during the year would build up maybe the second part of the year or could be building up already revenue for 2022.

[Alex Henderson:]

And as I look at the AT&T contract, it has inherently been in place now for quite a while. I think the original contract is 3 years, and this kind of runs its course through '21. I know you've had a couple of renewals. And like should that contract be seen as something that is stable as we go through to '21 into '22, or is that up for renewal and needs to be renegotiated? Is there any growth relative to that installed base?

[Eyal Harari:]

So our relationship with AT&T are healthy, and we have secured revenues into 2021 and 2022 already. As pointed out, there are multiple contracts with different customers. We did see some upside on AT&T already in 2020. And there is nothing that we see that is coming now that is like a big reveal, as you intended. We are continuing to focus, as I pointed out, on delivering new software updates into AT&T to the cloud platform, and some of that -- most of it is already secured until 2022.

[Operator:]

The next question is from Abba Horwitz of Old School.

[Abba Horwitz:]

Eyal, very nice quarter. My question is regarding the R&D. R&D now is tracking around 50% of revenues. And I'm wondering -- and actually it was up this year versus last year once again. I'm wondering at what point are you guys going to feel comfortable that we'll start to see that number slow down or even flat line for a while?

[Eyal Harari:]

So thank you, Abba. And our R&D is one of our biggest assets as we believe now is the time to invest in technology. I would say that in 2021, we are going to stay in very similar levels in R&D, again, excluding any shekel exchange rate changes. So we are about the right size of investment. We are thinking that the coming 2 years are going to be critical for cementing our 5G product offering. So we invested in the last 2, 3 years into R&D in order to assure we launch of RADCOM ACE. But in our environment, you need to continue and innovate, and this is why we are going to continue and maintain a similar level. I believe that with the revenue growth, the percentage of R&D is going to get lower because we are going to keep similar level to what we had before, and any revenue growth would be not necessarily requiring additional R&D investment.

[Abba Horwitz:]

Okay. So would it be fair to say that right now, between $19 million and $20 million would be the level for 2021 for R&D?

[Eyal Harari:]

This is the range, yes.

[Abba Horwitz:]

Okay. And I mean when we look at incremental revenues, because this quarter, what you demonstrated is that at these levels, pretty much you're breakeven, so really any revenue after this level is actually going to produce profits. Can we just assume that it'll all flow to the bottom, or will there be certain variable costs associated with incremental revenue?

[Eyal Harari:]

So our gross margin is in the 70-ish percent. So you do have some incremental costs. But yes, from this level up, it's -- most should go to the bottom line. As I pointed out, we do want to do some additional expense on the sales and marketing. And there is, as asked before, slight increase on like travel that we are optimistic that in the second part of the year, we will start to see things back -- goes back to normal. But roughly, the operation expense we have is our breakeven, and any revenue growth should start to go into bottom line, as we pointed in the past.

[Abba Horwitz:]

Okay. Great. And just one other. Are there any other stand-alone public companies that are doing what you're doing at this point?

[Eyal Harari:]

Not that I'm aware of. Some of our competitors are public, but most of them are doing multiproduct lines and not only focused on the assurance The ones that are focused on the assurance, I think most of them are private.

[Operator:]

There are no further questions at this time. This concludes the RADCOM Limited Fourth Quarter and Full Year 2020 Results Conference Call. Thank you for your participation. You may go ahead and disconnect.