Adtran Inc ADTN
Q4 2012 Earnings Call Transcript
Transcript Call Date 01/16/2013

Operator: Ladies and gentlemen, thank you for standing by, and welcome to the ADTRAN's Fourth Quarter 2012 Earnings Release Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks there will be a question-and-answer period.

During the course of the conference call, ADTRAN representatives expect to make forward-looking statements, which reflect management's best judgment based on factors currently known. However, these statements involve risks and uncertainties, including the successful development and market acceptance of core products, the degree of competition in the market for such products, the product and channel mix, component costs, manufacturing efficiencies and other risks detailed in our Annual Report on Form 10-K for the year ended December 31, 2011 and Form 10-Q for the quarter ended September 30, 2012. These risks and uncertainties could cause actual results to differ materially from those in forward-looking statements, which may be made during this call.

It is now my pleasure to turn the call over to Mr. Tom Stanton, Chief Executive Officer of ADTRAN. Please go ahead, sir.

Thomas R. Stanton - CEO and Chairman: Thank you, Wendy. Good morning, everyone. Thank you for joining us for our fourth quarter 2012 conference call. With me this morning is Jim Matthews, Senior Vice President and Chief Financial Officer.

I'd like to begin this morning by discussing the details behind our Q4 results before we move on to our view of 2012 and I'll end with some comments on this year. We will then open the call up for questions.

As stated in our press release, revenues for the quarter were $139.8 million, meeting our expectations and reflecting a spending environment which remained difficult during the quarter. Our domestic Tier 1 customers showed some signs of stability in the quarter with all three carriers overcoming normal seasonal trends ending either flat or up for the third quarter – compared to the third quarter. The Tier 2 and Tier 3 U.S. carrier market came in as expected showing a normal sequential decline from the third quarter.

International revenues for the quarter were sequentially down as expected and enterprise division revenues came essentially flat for the quarter at $29 million versus $30 million in the third quarter.

Getting into more specifics; in our carrier business, the impact of HDSL on a sequential basis was immaterial, although the year-over-year decline was 42% driven overwhelmingly by a single Tier 1 customer who has instituted an aggressive reuse program. As mentioned previously, sales to Tier 2 accounts, which are predominantly Broadband Access customers saw an expected sequential decline in the fourth quarter. However, on a year-over-year basis, sales to these accounts were up over 100%.

Enterprise division revenues came in at $29 million with sequential increases in routers, switches and wireless LAN products overcoming continued softness in IP Gateway sales. As expected, we continue to experience softness in our incumbent and competitive carrier channels. However, these sequential declines were largely offset by growth in our dealer channel.

Our international performance came in at $29.2 million, largely attributable to project timing of a large customer in Latin America. As we have said several times over the last year, the markets we serve in general experienced a significant pullback in spending, which affected us in several areas. By far, the largest impact occurred in our products, both enterprise and carrier, which are sold to carriers. Of course, our carrier division felt the brunt of this pullback, which manifested itself most strongly and decreased capital expenditures at two substantial Broadband Access customers.

I'd like to reiterate that notwithstanding the revenue performance at these customers, we saw no significant decline in market share in 2012. The performance of this division was further impacted by a dramatic decline in HDSL at one large Tier 1 carrier whose reuse program drove a 70% year-over-year decline in HDSL revenues there. For the year, HDSL was down $60 million, and on a GAAP basis, this represented nearly two-thirds of the total Company's revenue decline. Of course, the pullback we saw occurred in many regions around the world and impacted our projections in Europe as well as here in the U.S.

Our enterprise division, which is largely driven by our internetworking product area was also impacted. Our internetworking product area was down 6% on an annual basis, with growth of our dealer channels being offset by a decline in carrier spending.

As we look forward into 2013 and beyond, I think it's important to convey a few data points which help clarify last year's activities. As I previously mentioned, internetworking was down 6% due to slow carrier demand, internetworking sales for our U.S. VAR channels, however increased over 12%, helped with increasing sales of our Bluesocket wireless LAN product.

During the year, we increased our VAR base to over 3,500 and we continue to increase the quality engagement levels with these important partners.

The carrier division entered 2012 with priorities to diversify our revenues by developing international channels to market and growing market share in Tier 2 and Tier 3 accounts here domestically.

Although the timing of the BBA acquisition unfortunately aligned with a pullback in European spending, we are more convinced than ever that the successful integration of the BBA business which occurred in 2012 will substantially meet their first priority and will pay dividends well into the future.

As I previously mentioned on other calls, our Tier 2 and Tier 3 performance was adversely impacted by project delays at a single Tier 2 customer. Excluding the impact of that customer, our combined Tier 2 and Tier 3 revenues grew 22% over the previous year and I will remind you that this occurred during a period of capital constraint and regulatory unease. We entered 2013 with cautious optimism. Our caution is driven by the current market environment where we find our carrier customers tightly managing capital expenditures and delaying upgrade decisions as they look for economic or regulatory clarity. Our optimism is driven by the position we find ourselves in as carriers both large and small are entering new ways of investment to meet their customers' needs.

Over the last few months carriers in both the U.S. and abroad have announced their intentions to significantly their upgrade capabilities to meet these requirements and we believe Adtran is uniquely positioned to meaningfully participate in this evolution. Furthermore our continuing inroads developed here in the U.S. in the Tier 2 and Tier 3 marketplace will foster meaningful growth as regulatory issues are ultimately resolved.

I'd now like Jim Matthews to review our results for the fourth quarter of 2012 and our comments on the first quarter of 2013. We will then open the conference call up for questions. Jim?

James E. Matthews - SVP, Finance and CFO, Treasurer and Secretary: Thank you, Tom, and good morning, everyone. Revenue for the fourth quarter was $139.8 million compared to $175.3 million in Q4 of 2011. Broadband Access product revenues for Q4 2012 were $70.1 million compared $74 million for Q4 of 2011. Internetworking product revenues for Q4 of 2012 were $31.6 million compared to $43.1 million for Q4 of 2011. Optical product revenues for Q4 2012 were $12.3 million compared to $17.3 million for Q4 of 2011.

Carrier systems revenues for Q4 of 2012 were $90.1 million compared to $101.3 million for Q4 of 2011. Business Networking revenues for Q4 of 2012 were $33 million compared to $45.2 million for Q4 of 2011. Loop Access revenues for Q4 of 2012 were $16.7 million compared to $28.8 million for Q4 of 2011.

HDSL product revenues for Q4 of 2012 were $15.6 million compared to $26.7 million for Q4 of 2011. As a result of the above, Carrier Networks division revenues for Q4 of 2012 were $110.8 million compared to $134.2 million for Q3 of 2011. Enterprise Networks division revenues for Q4 of 2012 were $29 million compared to $41.1 million for Q4 of 2011. International revenues for Q4 of 2012 were $29.2 million compared to $26.8 million for Q4 of 2011. To provide the reporting of each of these categories, we have published them on our Investor Relations webpage at adtran.com.

Gross margin was 48.2% of revenue for Q4 of 2012, compared to 49.3% for Q3 of 2012 and 56.6% for Q4 of 2011. The lower gross margin compared to Q3 of 2012 was largely attributable to higher than anticipated services related cost in the acquired BBA business. We expect these costs to decrease on a percentage basis over the next two quarters. The lower gross margin compared to Q4 of 2011 was attributable to lower gross margins related to the recently acquired Broadband Access business, a change in customer mix and lower volumes.

Total operating expenses were $64.5 million for Q4 of 2012 compared to $69.7 million for Q3 of 2012 and $58.1 million for Q4 of 2011. The decrease in operating expenses from Q3 of 2012 to Q4 of 2012 was attributable to a general decline in discretionary spending and integration savings associated with our acquired BBA business. The decrease in operating expenses from Q4 of 2011 to Q4 of 2012, I’m sorry the increase in operating expenses from Q4 of 2011 to Q4 of 2012 was primarily attributable to operating expenses related to the acquired Broadband Access business, partially offset by decrease in operating expenses in our organic business.

Amortization cost included in operating expenses totaled $1.2 million for the quarter. Integration and other acquisition related expenses included in operating expenses were $323,000 for the quarter. Stock-based compensation expense net of tax was $2.2 million for Q4 of 2012 compared to $2 million for Q3 of 2012 and $2.4 million for Q4 of 2011. Supplemental information for acquisition related expenses, amortizations and adjustments in connection with recent acquisitions are provided in our operating results disclosure. All other income net of interest expense for Q4 was $3.5 million compared to $3.4 million for Q3 of 2012 and $4.2 million for Q4 of 2011. The Company's income tax rate was 38.1% for the fourth quarter of 2012 compared to 31.3% for the fourth quarter of 2011. The higher tax rate for the fourth quarter of 2012 relates primarily to a delay in legislation to extend research tax credits and adjustments in the deferred tax asset valuation allowance for the acquired PBA business.

Earnings per share on a GAAP basis assuming dilution for Q4 of 2012 were $0.06 compared to $0.48 for Q4 2011. Non-GAAP earnings per share for the quarter were $0.11 compared to $0.54 for the fourth quarter of 2011. Non-GAAP earnings per share exclude the effect of acquisition-related expenses, amortizations and adjustments related to acquisitions and stock compensation expense. The reconciliation between GAAP earnings per share, diluted and non-GAAP earnings per is provided in our operating results disclosure.

The inventories declined to $102.6 million at quarter end compared to $107.2 million at the end of Q3 of 2012. Net trade accounts receivable were $81.2 million at quarter resulting in DSOs of 53 compared to 58 DSOs at the end of Q3.

Unrestricted cash and marketable securities net of debt totaled $500 million at quarter end after paying $5.7 million in dividends and after repurchasing 608,000 common shares for $10.8 million.

Due to the book and ship nature of our business and the timing of near-term revenues associated with large projects, it is our policy not to give specific guidance for the quarter or for the year. However, we would like to give you color to help you formulate your views on our near-term business outlook.

For the first quarter of 2013, we expect Company revenues will be in a range of what we saw in Q4. We expect GAAP gross margins for the first quarter will be in a range of what we saw in Q4 as well. We expect GAAP operating expenses for the first quarter will be flat to slightly down from Q4 levels. GAAP operating expenses for the quarter we expect will include acquisition related amortizations of about $1.2 million.

We believe the larger factors impacting the total revenue we realize for the first quarter of 2013 will be the following. The macro spending environment for carriers and enterprise, regulatory uncertainty in the domestic carrier market, professional services activity levels both domestic and international, the timing of revenue related to Broadband stimulus projects, and the adoption rate of our Broadband Access platforms. Tom?

Thomas R. Stanton - CEO and Chairman: Thank you, Jim. Lindy, at this point, we'd like to open it up for questions.

Transcript Call Date 01/16/2013

Operator: Simona Jankowski, Goldman Sachs.

Simona Jankowski - Goldman Sachs: I just had a couple of questions. The first one pertains to the potential opportunity at AT&T. Can you just give us an update of where that stands in terms of the RFP process and how you think Adtran might be positioned for that?

Thomas R. Stanton - CEO and Chairman: Yeah. So, I really – it's difficult for me to talk about specific customers, because of their concerns and they like to make their own announcements. But I'll talk to you in general. In general, I think we are feeling very good that we have a very good product fit. I think our relationship with AT&T has historically been very strong. We had previously announced our agreement with Ericsson as the domain supplier in order to be able to sell our products into that opportunity. They had previously been selected, so I think that was very good understanding of what the potential is from a product and feature set perspective. We think it's a very good fit. And we're feeling very good about it.

Simona Jankowski - Goldman Sachs: And then the second question was pertaining more to your international business which declined quite a bit sequentially, and as you mentioned, that was largely in line with your expectations given the wind-down there at Telmex. But in the past you had talked about some other international opportunities even in the organic business. And so, can you update us on where we stand with those? And then specifically then to the BBA aspect of that, obviously, as you pointed out, the timing there was a little bit unfortunate, but now that we've seen Deutsche Telekom and potentially others talk about increased spending in 2013, what would you expect directionally to happen in NSN in the BBA business, and is there a final update for where those revenues shook out for 2012?

Thomas R. Stanton - CEO and Chairman: Sure, good question. So, let me start with the Latin American customer, which we mentioned was a sequential decrease. First of all, I mentioned the fact that that was project timing, and I just want to make sure that you understand where it is. This customer; because of the installation progress that we'll have in any particular quarter and the ordering activity we'll have in any particular quarter, will ebb and flow. We have some visibility to that because there's a lot of project activity going on, so we can kind of see a little bit ahead of what we normally see in our normal cycle time, which is why I mentioned that we kind of expected that decline. I do not expect – for instance, I would expect we have some expectations in the Q1 which are actually a little stronger than what we saw in Q4 and I would expect that customer – will expect that customer to continue on throughout 2013 and we fully expect that activity in 2014. So I don’t want you to – when you said the ending of that project I think we are still very early on to what they want to get done and we are in a particular phase which is still going to carry on through the rest of 2013. As far as the other activities and more specifically BBA we are very much aware. I have mentioned some of the activities regarding announcements towards the tail end of last year in other areas outside of the U.S. and Deutsche Telekom, is one of those. I would say right now we are feeling very similar to the way we felt about AT&T. The BBA products have been approved into that network for some time. They have been buying our products for some time. I think we are very much aligned with their roadmap and we are feeling good. So we will just have to see how that plays out. Timing on these type of things when you are talking about large carriers is also difficult to pinpoint. There are activities outside of that particular customer that we feel good about both in Latin America and South America specifically and in Europe and those will come in. I do think we experienced a pullback which manifested itself in lower sales as well as delays in projects. We are seeing more activity now, real RFP bidding activity in Europe than we have been able to have visibility to probably ever. So here again timing the projects on large carriers is difficult but there are other carriers in Europe specifically that I think have very large plans built to kind of follow suit to what Deutsche Telekom is doing.

Simona Jankowski - Goldman Sachs: Sure, but just so we have the correct starting point. I think when you made the acquisition, you had expected about $140 million to $180 million in revenue in the first full year. Can you just let us know if you at least came in within the low end of that or how are we tracking relative to that?

Thomas R. Stanton - CEO and Chairman: We did not come in at the low end of that. Actually we saw that pullback and I would say predominantly it was a pullback because we actually had customers, the customers that we went into the agreement with the relationships that we had planned on being able to continue to hold on to were for the most part exactly what happened. So what we did see though was a decrease in spending level versus their historic norm at most customers, but we fully expect that to return, but to answer your question directly, we didn't meet the low end of that.

Operator: Michael Genovese, MKM Partners LLC.

Michael Genovese - MKM Partners LLC.: Just two follow-up, couple of follow-ups from the last question. When we look at the international revenues for the quarter, $29 million, is it safe to assume that are we talking about, would 90% of those revenues something around there be ADTRAN Europe?

Thomas R. Stanton - CEO and Chairman: Jim, I don't know. I really just don't even have that.

James E. Matthews - SVP, Finance and CFO, Treasurer and Secretary: So we did see an expected sequential downtick in the acquired customer base in Q4. But I…

Thomas R. Stanton - CEO and Chairman: I feel, well in excess of 50%, I think is…

James E. Matthews - SVP, Finance and CFO, Treasurer and Secretary: Well in excess of 50% of the $29 million in total is where they came in for the quarter, but that number would be more apparent in the 10-K.

Michael Genovese - MKM Partners LLC.: So, we saw a sequential decline despite typical seasonality, do you have a view on typical seasonality in that business, do you think that it was down sequentially because this year is a worse year than normal year for CapEx, or do you think that the seasonality of that business is similar to the core ADTRAN broadband seasonality?

Thomas R. Stanton - CEO and Chairman: You’re talking about the acquired business?

Michael Genovese - MKM Partners LLC.: Yes.

Thomas R. Stanton - CEO and Chairman: I would say, I am now a believer that there is a typical seasonal decline, I think similar to what we sometimes see here in the U.S. I think the customers in general act very similar to the larger carriers that we see here in the U.S., which is we’ll see them slowdown, sometimes you’ll see a little budget push, but it really doesn’t affect the overall trend, but I do think that coming into the – even the third quarter comparable was – we were already seeing that pullback pretty much most of the year, definitely from the second quarter on and we saw that kind of slower spending in the third quarter and I think we saw a pullback from the third quarter. I don’t think we saw a tightening in the fourth quarter over and above what we would – on a percentage basis what we would normally expect.

Michael Genovese - MKM Partners LLC.: Then finally, can we just talk about the two businesses that did well in the fourth quarter, so in terms of sequential growth obviously very strong HDSL and other legacy product sequential growth and also the Optical Access business did fairly well there. So could you just provide more color on what drove that performance?

Thomas R. Stanton - CEO and Chairman: Well, of course is a relative term. HDSL, what we did see is some increase in spending, and I'd say we saw an increase at – we had that one carrier that pulled back strong, pretty much throughout the year. We actually saw that, actually come back some, nowhere near to the rate that it had been, let's say, a year ago, but we actually saw a rebound in that customer. In general, I'd say, HDSL did – it just did okay. I wouldn't read too much into that. It's kind of – I think we're at – I don't think that customer is going to reinvigorate and be at the levels they were historically. So, I think we are kind of bouncing around what I would tend to consider the bottom. I think we'll still continue to tail down from here, but I think the big, big downtick which I had mentioned was 70% or something at that one customer. There's just no possibility of that happening again.

Michael Genovese - MKM Partners LLC.: Then a real final question from me before I see the floor would be, there has been some chatter out there, just people listening one of the carriers, Verizon, talking about potential Hurricane Sandy effects. So, was there any of that in the fourth quarter on that HDSL number and also, what would be your view on the first quarter there? Do you think that that particular customer would be pulling any business than may have been expected later in the year sooner into the fourth quarter and into the first quarter?

Thomas R. Stanton - CEO and Chairman: Well, we did our best to help Verizon overcome their issues associated with the Hurricane and I think we probably – we did see a pickup there. I wouldn't say that it was dramatic. I think that there were some emergency things that they needed to get up and running and our real impact with them is going to be over a few quarters, but I don't think it's going to materially move the needle. I think it's kind of incremental to what we're doing with Verizon, but we don't see it substantially changing the profile of our business.

Operator: Simon Leopold, Raymond James.

Victor Chiu - Raymond James: This is Victor Chiu in for Simon Leopold. Can you give us an update on how the BBA margins are improving towards your mid-40s target? I think you mentioned they were somewhere in the mid-30s last quarter, and just how they were this quarter and do you still expect to get to that mid-40s range by Q1?

Thomas R. Stanton - CEO and Chairman: Jim?

James E. Matthews - SVP, Finance and CFO, Treasurer and Secretary: Well, Victor, we did comment that we saw higher services related costs in the quarter related to the BBA business, so that weighed on margins. As we said in our notes, is that we expected those higher costs will begin to decline in the next two quarters, okay. So that puts us in a position of we think potentially seeing some improvement in Q1, but again being weighed by the services related costs that we expect to continue to incur until they update after the next two quarters.

Thomas R. Stanton - CEO and Chairman: Let me add one other piece to this which may add – actually may confuse things, but it's kind of it is what it is. As we've gotten into the business for these customers and have been shipping customers, there are certain product mixes that will affect margins and can affect margins enough for them to show up at least in the margin profile of the BBA business. If you look at the aggregate business over a period of time, I think the 40s piece is still that I think we are well on track to that and definitely have met what our expectations were. On a quarter-by-quarter basis, product mix will significantly impact those margins, and they are typically made up over the next couple of quarters, and by that, I mean, specifically, if I have a quarter where I am shipping a bunch of empty chassis, our margins in that quarter will be impacted. That typically will be followed by line cards, but the differential between line cards and chassis in the BBA business is substantially different than what we have in our domestic ADTRAN business. I just want to – just make sure that you're aware of that.

Victor Chiu - Raymond James: And I guess along that line, can you speak some about the broadband stimulus portion?

Thomas R. Stanton - CEO and Chairman: Yeah, broadband stimulus actually – and I don't know the – it was basically…

James E. Matthews - SVP, Finance and CFO, Treasurer and Secretary: Basically flat, but…

Thomas R. Stanton - CEO and Chairman: …to the third quarter. We had a fairly good third quarter for broadband stimulus. We had a fairly good fourth quarter for broadband stimulus, and we would expect that to continue on at least through the first half of next year.

Victor Chiu - Raymond James: Was there any improvement in the gross margin in that portion of the…?

Thomas R. Stanton - CEO and Chairman: No, that's pretty much – that is – no, I don't think we're going to see a significant improvement in gross margins on that from a product perspective before a large percentage of that ship. So that kind of is what it is.

Victor Chiu - Raymond James: Actually, just one last quick question, I remember AT&T and their Analyst Day conference, they mentioned that they were going to expand Broadband Access in their non-U-verse by LTE coverage, I guess. Was that something that was new? Could you guys…?

Thomas R. Stanton - CEO and Chairman: Actually, I think they're doing multiple things with their expansions. Some of it is upgrading their existing fixed infrastructure outside of the U-verse, but…

Victor Chiu - Raymond James: There was a combination, I guess of LTE?

Thomas R. Stanton - CEO and Chairman: It is absolutely a combination, and I think it is a very exciting opportunity for us, and I would love to be able to tell you that we're starting to ship or something, but it's a very exciting opportunity, very meaningful opportunity for us. I think we have a lot of products and I do think that the amount of dollars that they are actually putting into the fixed pieces would be meaningful for anybody.

Operator: Rod Hall, JPMorgan.

Rod Hall - JPMorgan: I have got a couple for you. I just wanted to kind of circle back around the gross margins and see if you know when you add all the commentary up that you have made about gross margins, are we then looking at – it sounds like we are looking at some chassis shipments at the Broadband Access business that deplete gross margins for a couple of quarters here and then they rebound to some more natural level. So for the overall business are we likely to see that? I want to be clear on the timing too. So the first two quarters of this year you think are impacted by that and then you rebound to around say 40% or something like that. Can you just give us some idea of kind of what the trajectory of those gross margins ought to look like in our models? Effectively we noticed that deferred revenues were up a little bit and I just wanted to see if you guys could comment on that is that just normal seasonality or is there something specific going on there that you could make some comment on? Then my third question is on your Internetworking business, declines accelerated. I just wonder, if you could comment on what's going on with spending there and how you think the outlook for that is for 2013?

Thomas R. Stanton - CEO and Chairman: Let me cover the first one and then on the second one I will let Jim tag on it and then I will cover the third. The first one on the chassis shipments and how that plays into the comments about the six months being having service related charges. Those are really two separate events. So the service piece that Jim talked about in his comments, were more related to product, I will say product/warranty type expenses associated with the BBA business. Because I had mentioned, and I am sure I have mentioned several times on different calls, we are making sure that we keep the customer base highly satisfied as we go through this transition and that we are in very good position to capitalize on these different carriers, infrastructure upgrades in the next few years. In doing so, we are taking a very aggressive attitude towards solving any issues and being more relaxed than, let's say, what the warranty statement says on particular things, and in doing that we are kind of in effect making sure that if the customers are dissatisfied somewhere, that we are actually addressing the issue head on, and I think that's more of what Jim was talking about. My comment on the chassis piece was really more of, I guess, letting you know that the ability to pinpoint gross margins on the BBA business on a quarter-by-quarter basis is difficult. We will take the best stab at it that we can. We’ll take the best stab at chassis pieces as we can, but on a quarter-by-quarter basis, that is going to be a difficult business. Now, I think once the business actually picks back up, I think the volume will help alleviate some of that. I think the line card piece will actually pickup faster than the chassis piece. But then I was really more just talking to you about the variability on a going forward basis. Jim?

James E. Matthews - SVP, Finance and CFO, Treasurer and Secretary: Rod, in terms of the deferred revenue question. We did have a few adjustments as it relates to the purchase accounting of the BBA business and we will provide more details of that in our 10-K.

Rod Hall - JPMorgan: Can you guys, is there any comment you can give us on the business gross margins, what you think the natural level is, once you get past this more aggressive product warranty expense period?

Thomas R. Stanton - CEO and Chairman: I think we had said in the, kind of mid-40ish range and there is nothing at all that makes us not still continue to believe that.

Rod Hall - JPMorgan: So, you think that by the end of 2013, once you get through, probably like what you said a couple of more quarters of this you’re back in the – you should be back in the kind of mid-40s range is that what you would expect?

Thomas R. Stanton - CEO and Chairman: That’s definitely what we’re expecting. In fact, I would say, you said decreasing over the next couple of quarters; I think we’ll probably see a decrease from Q2 versus Q1, even in those type of expenses. The only thing that you have to watch out for is the variability of chassis shipment. We’re going to try to factor that into our gross margin color that we give, as we go forward and looking into the next quarter, but that’s just one that you – you’ve kind of have to have the bigger window to really see that at mid-40s.

Rod Hall - JPMorgan: What about internetworking, could you guys make any comment about where you see spending going in that end of the business over time?

Thomas R. Stanton - CEO and Chairman: I mentioned in my comments, the internetworking piece was really impacted by the carrier business. So, the carrier slowdown that we saw on the carrier side of our business, the Carrier division also was by far the issue associated with internetworking and with the enterprise business. If I look at just the enterprise bar channel, it actually, in the environment that we’re in I’d say it did okay. It was down slightly, if I look at the (far) business, I’d say we hung in there actually very well. But the carrier piece, which is mainly predominantly IP Gateways that are sold to (indiscernible) and to the R Box or the Ilex is really where we saw the impact. I would expect that to actually come in line as we see the carrier environment improve and I’d think we’d see improvement there. We've done an incredible amount of work on verifying market share and where we sit and we don't believe we've lost any meaningful market share. We do believe just that the volumes of those products are down within the carrier base and that they will rebound when things get better.

Operator: Eric Ghernati, Bank of America Merrill Lynch.

Eric Ghernati - Bank of America Merrill Lynch: Jim, just wanted to clarify a comment that you made to an earlier question. The international revenue, did you say that the acquired business contributed well in excess of 50% of that or the sequential decline in the acquired business was well in excess of 50%?

James E. Matthews - SVP, Finance and CFO, Treasurer and Secretary: No, the sequential decline in the acquired business was not to the level of 50%.

Thomas R. Stanton - CEO and Chairman: No, the comment was that more than 50% of the $29 million – and I'm thinking $29 million, is that right?

James E. Matthews - SVP, Finance and CFO, Treasurer and Secretary: Right. $29 million.

Thomas R. Stanton - CEO and Chairman: $29 million was actually BBA business.

Eric Ghernati - Bank of America Merrill Lynch: So, the second question I have is with respect to your operating margins targets. A quarter ago, you said that you have not changed your target margin per se, but just looking at where you are from a gross margin standpoint, you are like at least 10 points below your peak levels and your expense structure is really at an all-time high versus current sales prospects. It does seem, I guess, if you could bridge the gap between what we are seeing right now and the fact that you are not really, like you are containing the costs, but you are not really restructuring and your expectations for a potential return to the 20% operating margin level over some period of time?

Thomas R. Stanton - CEO and Chairman: So, from an operating margin perspective, our longer-term target has not changed, and if you're stay in the 20 percentage rate, I think you are still thinking the right way. I think it's difficult – I could – we could say what is our operating margin in the current environment? When you say we are overstepped for the prospects that probably takes more analysis. If you say we are overstepped for the current revenue level, I totally understand that, totally agree with that. The question is, is how much restructuring do we do over and above what we have done now based off of what we are considering to be in effect a pullback in the market which is not indicative of the long-term trajectory of the market. If I were to ever believe that that is the long-term trajectory of the market, we would absolutely – we'd look at the operating model by what we are operating under and we'd look at the way that the business is structured and restructured accordingly. But at this point in time, I don't have a good – I don't have a sense that this is more than what we believe it is, which is a pullback in carrier spending, and if I look at the announcements in the language that some of the carriers are using, I would believe that there's really strong potential in the not-too-distant future. If we were to enter a period of time where we are returning to growth and we are seeing that the gross margins associated for the businesses that we are in is different than what we have historically seen at growing or constant or growing revenue levels, then I would agree – then we would readjust that.

Eric Ghernati - Bank of America Merrill Lynch: Well, I guess maybe let me probe on that a little bit, because lot of people are trying to get their arms around what's your ultimate opportunity at AT&T, and I guess they're gearing $6 billion in CapEx towards their fixed Broadband Access, but only half of that is going to go through DSL pair-bonding and vectoring, and the other half is actually going to go through their U-verse. I guess the first question is, where are you positioned within AT&T? Are you positioned within the U-verse business, or are you positioned across all their businesses?

Thomas R. Stanton - CEO and Chairman: So, let me say, I mean half of their $6 billion is going towards the non-U-verse. I'll start by saying that's still a meaningful number to us, right. Having said that, the RFP that we had talked in the past about was for IPDSLAM and a second source for U-verse. How that plays itself out is yet to be determined, and by that I mean what market share is given to what vendor on what specific piece of the business, and there are more than two pieces here. There are multiple, I think, moving – there are multiple initiatives in which we're playing at this point in time in all of the initiatives on the fixed side. But I think, even by your numbers if we were to do non-U-verse business, which I am not here to tell you that's the case because like I said, we believe we're very competitive across the board. I think it's still a very meaningful number for us.

Eric Ghernati - Bank of America Merrill Lynch: Realistically, even with Calix's relationship with Ericsson, you feel like you still have a good shot at garnering some market share within this CapEx from AT&T?

Thomas R. Stanton - CEO and Chairman: Yes. I mean, I guess I'm surprised that that's still a question because I don't sense that – our relationship with Ericsson within AT&T is very strong.

Eric Ghernati - Bank of America Merrill Lynch: The final question I have for me is, your inventory levels, I mean from an inventory to sales ratio per my math at least you are at an all-time high, what are your plans for the inventory levels going forward?

Thomas R. Stanton - CEO and Chairman: I don’t know if we have given the specific target. I will leave some comment to that on for Jim. Our inventories levels are high. Some of those inventory levels are associated with our BBA business acquisition. Those inventories will work themselves down substantially this year. We also have inventory associated with Broadband stimulus which is in effect in the field as well as in our Latin American customers as well as other domestic customers in the U.S. where we are doing the services business. That's in effect a new increment to us. I don’t know Jim if we actually break that out but there is a piece of inventory there that is just associated with the services business that is actually shipped product. We just have not yet recognized it and in the way that we are calculating, in the way we are running the business we are not really calculating that in our turns because our turns are in effect in place to make sure that we have a good balance between meeting customer demand and the amount of money that we actually have sitting in inventory. If it's already shipped it doesn’t help you meet customer demand. Having said that you will see both of those numbers go down both the internal Adtran inventory and I think even more aggressively the BBA inventory.

Operator: Jeff Kvaal, Barclays.

Jeff Kvaal - Barclays Capital: Tom, could you help us map the qualitative commentary from – quantitative commentary from the Tier 1 carriers about where they’re spending their money back to which particular products that you think you will be more successful with. Could you also help us understand how big that might be versus your shipments to these carriers in prior years and to the extent that you have any sense of timing that would be helpful as well.

Thomas R. Stanton - CEO and Chairman: Timing of course is going to be the most difficult one. I would tell you there are lot of activities that are going on in earnest right now, but timing with carriers when we’re talking about potential IT integration and things, every time I try to put in a day out there or a quarter out there, I get burned, so I am going to be cautious about that. Some of that is the best laid plan in fact, almost always the best laid plans, get moved and you are just guessing on the amount of movement. Having said that, let me talk a little bit about the products that we are talking about. In the U.S., it's predominantly our Broadband Access products which are our 1100 series, our 1200 series and our Total Access 5000 products. Total Access 5000 would be used for larger deployments and for potential fiber-to-the-prem deployments. In Europe, the product is the high access product, which is the BBA product and it's very similar to the product that we have been shipping although there new vectoring technologies that we are actually integrating into that product for these builds in Europe. Did that answer that question?

Jeff Kvaal - Barclays Capital: Yes. Then the third portion of it was, how big -- relative to where you've been with those carriers or in DSL in the past?

Thomas R. Stanton - CEO and Chairman: The potential would for the builds that were – it’s larger than anything we've done for these carriers in the past. I don't want to say – I don’t know if it would be in order of magnitude larger, but it would be a multiple of what we’ve done in the past.

Jeff Kvaal - Barclays Capital: Then are these greenfield type builds, do they carry the margin structure of a greenfield build or is this following into the existing products that you’ve shipped as more of capacity expansion play?

Thomas R. Stanton - CEO and Chairman: In most cases it is – it’s not greenfield in the sense that there may not already be a product there, but if you look at the carriers both here and in Europe, a lot of times the products that they have deployed or antiquated, they may, even be only ATM for instance, they may not be IPTV capable, so it’s not greenfield and that it’s, it is greenfield and that it is literally replacing equipment that is already installed, and that’s in most cases. Now, having said that if you look at the – we have footprint right now at most carriers in the U.S. they’ll use some of that footprint. In Europe, we have footprint that will use that footprint. In fact in the – in some carriers in Europe, we have a significant footprint and there will be upgrades associated with that. In the U.S., I think it’s more greenfield.

Jeff Kvaal - Barclays Capital: So, the margin profile then should be similar to existing equipment that you've been shipping them for a while rather than fighting tooth and nail for a new positioning?

Thomas R. Stanton - CEO and Chairman: Yes, I’ll tell you, we fight tooth and nail all the time. So I guess – I think I guess I’m trying to understand when you say the margin profile. In the U.S., we don’t see that big differential between chassis and line cards that we see for instance in Europe. So, in the U.S., I think you would expect us to run that the way we normally have. There are absolutely competitive pressures, but I don’t think there is any difference if we were shipping line cards versus chassis. In Europe, there is definitely that difference and there is no doubt that we would have a better profile where we are just filling in slots on existing chassis and expanding footprint. The opportunities in Europe that are the most near-term have a mixture of both.

Operator: Ehud Gelblum, Morgan Stanley

Ehud Gelblum - Morgan Stanley: Can we go back to Latin America and you mentioned that briefly and that was, I imagine a large part of the decline is international. Certainly BBA had part of it as well. But can you talk to us a little bit and just give us some color on what's going on there with those project delays and what's the timing on taking that backup again? When that does comeback, is that a one quarter or two quarter phenomenon or is that continuous once it comes back?

Thomas R. Stanton - CEO and Chairman: It's continuous. I think it's going to be, I hate to use the term, but it's going to be lumpy. I think you are going to see quarters where it's stronger than other quarters. I've mentioned, we at this point in time expect first quarter to be stronger than the fourth quarter and when I say continuous, it's I mean literally if I were to sell nothing else, which I am still selling. We more probably sold product in the fourth quarter for additional pieces of work. But if I were to sell nothing else, we have work that's scheduled all the way through the end of 2013 and there is additional work right now that's been planned over and above within the current scope. So I think it will be lumpy but this is not one where we are at the end of a build cycle and it's going to go away. Was – there was another part to the question, Ehud?

Ehud Gelblum - Morgan Stanley: No, but just building on that. So the $29 million international, it sounds as though that's sort of a cross level and we should see both sides that the Latin America and the European piece move up on a monthly basis, but essentially we’re starting to seeing a trough?

Thomas R. Stanton - CEO and Chairman: If I had better visibility I would talk a lot more confidently. I feel – I do think the Latin American piece, which is one of the pieces that we have, I don’t know if call a trough like I said, but I would tell you I would expect it to be stronger in Q1, and I think we’ll just – you’ll just see that vary quarter-by-quarter, I wouldn’t say Q1 is going to be the strongest quarter of next year for instance in that particular customer. The BBA business, which is predominantly the rest of the business, there is a large amount of fluctuation in the order flow of that business. So it is – it’s not nearly as deterministic as the Latin American piece that we’re talking about. Having said that I think we’re not expecting a substantial, really even a meaningful decline from kind of where we were in the fourth quarter. I hope that helps you.

Ehud Gelblum - Morgan Stanley: It sounds like – I thought you weren’t expecting any decline in Q1 in that European piece, I thought you’re expecting it to stay relatively flat, is that the way we should (model that)?

Thomas R. Stanton - CEO and Chairman: We haven’t – I don’t know if I commented on that, I didn’t mean to – I think what we said is for the overall Company we expect it to be relatively flat, which gives us of course, depending on where Latin America comes in or any other customer comes, we give some latitude on the BBA piece, none of these things are as deterministic as I would love them to be, but we’re trying to give ourselves some latitude for just the fluctuation that we may see in the order flow.

Ehud Gelblum - Morgan Stanley: Given since that we can’t really breakup in two different pieces anyway, can you give us just a sequential decline for the BBA piece in the Q4?

Thomas R. Stanton - CEO and Chairman: I think Jim had mentioned that you will see more an update on the 10-Q – you will be able to see the…

James E. Matthews - SVP, Finance and CFO, Treasurer and Secretary: That detail will be in the 10-Q.

Thomas R. Stanton - CEO and Chairman: You will actually be able to see the numbers directly.

Ehud Gelblum - Morgan Stanley: Before we leave this topic on international, can you give us a sense as to – I know Deutsche Telekom is obviously the one customer that everyone mentions because of I guess being in Germany and being the largest customer but they are not as large as I think people think. Can you give us a sense as to how large DT is of the BBA business? Is it more like around 20% or 30% as opposed to significantly more?

Thomas R. Stanton - CEO and Chairman: It depends on the quarter. I think there are times where it is meaningfully larger than that 20% or 30% and I would say probably the reason that there is more maybe focus on DT is the fact, they had done an announcement for the tail end of last year and specifically articulated their vectoring plans and things. So I think that’s probably driving as much focus as anything else because it is very similar to what kind of have been in scope I guess to what AT&T is doing.

Ehud Gelblum - Morgan Stanley: I guess it's the story of the man who looks for his keys under the light post because that’s where he can, those are the ones who are talking to us, but they are not even close to 50% of the business. They are I guess generally smaller than I thought but maybe I am wrong?

Thomas R. Stanton - CEO and Chairman: No. I think they can be like I said meaningfully larger than the 20% depending on the quarter and like I said there is variability there. We saw a pullback in the second half which impacted that specific customer as well. So on any particular quarter you could be right but in general I would say that they are probably a little larger than what you are thinking.

Ehud Gelblum - Morgan Stanley: One of the things they did say in their messaging at the end of last year was that they were focusing on U.S. wireless in 2013 and that the build if I understood them correctly to their domestic wireline plan would only be more of a 2014 issue, is that what you understand as well or do you see more an immediate (goal) from them?

Thomas R. Stanton - CEO and Chairman: Immediate no. I mean like not in Q1. I think I'm trying to not – make sure I'm not getting in divulging anything that – I think what you are probably talking about is in the scope of, I can't remember the exact dollar amount that was announcement (EUR30 billion) piece that they won't get started in earnest maybe on the fixed piece next year – in this year. But my sense is that they plan on doing something this year. I think their current plans are that they want to get started this year but having said that large carriers tend to be a little optimistic but they are – and hopefully they are not but I think sometimes are optimistic.

Ehud Gelblum - Morgan Stanley: Two of the quick ones. One is Optical Access, can you just remind us what the main use cases of it are in your current run rate and is there any line of sight to improvement there?

Thomas R. Stanton - CEO and Chairman: We had picked out some Verizon Wireless business last year, actually got approved last year. We saw a pickup because of that. I don’t know if it's actually really started in earnest yet and that’s for backhaul of – cell site backhaul and that’s using Ethernet over time. The pickup in that in our Optical business is probably going to be more centered on longer term towards we have specific wireless access and devices when we have our O&E product which actually last quarter was adopted by two more carriers here in the U.S. I think that number is going to fluctuate until when it gets traction. You may see some pickup because of the Verizon piece, but I think in general it’s still going to just fluctuate around the level that it is at.

Ehud Gelblum - Morgan Stanley: Then finally, Jim. I know you don't specificity on 10% customers any more, but can you at least tell us how many they were and geographically, perhaps where they were and potentially even with the total percentage we add them all up?

James E. Matthews - SVP, Finance and CFO, Treasurer and Secretary: Yes. So for the quarter, we had one 10% customer and that particular customer was domestic and we would not give out the percentage at this point, but in the 10-K, we do disclose the year percent.

Operator: Kevin Dennean, Citi.

Kevin Dennean - Citi: Just a quick question on Europe, you mentioned that visibility into Europe is the best it's ever been. I just wanted to delve into it a little bit more, how much of that comment is driven by what you are hearing or seeing out of Deutsche Tel and is it visibility means the flows of RFPs in the region or visibility into improved spending patterns going forward?

Thomas R. Stanton - CEO and Chairman: If I used the term visibility, I apologize, because that's probably not the right term to use. I would say its activity level and kind of meaningful plans associated with Europe. So you are right, if I said visibility, it's the fact that we have visibility to projects and access to RFPs and customerial action that we have never had really that capability before and definitely not on this scale. So that's really what I am talking about. Visibility from an (explored) perspective, as I had mentioned I think on a different question, it is problematic and I think that's really just the nature of that business. It’s not substantially different than here in the U.S. and I think if we weren’t in the midst of – if we hadn’t gone through the decline that we went through last year and the pullback last year, I would expect the visibility to be very similar to what we see here in the U.S. Hope I cleared that up for you.

Kevin Dennean - Citi: So, I just want to make sure I have it right. So, your visibility in the increased activity in Europe, it’s not that you’re seeing a generally bubbling up of activity in Europe, it’s that you now have the BBA part of the business and that gives you entry into RFP processes that you said you may not have participated in previously?

Thomas R. Stanton - CEO and Chairman: No, no I would say it’s both though. There is no doubt that the amount of activity in Europe associated with Broadband deployment, Vectoring Technology is without a doubt stronger than it has been or just Broadband deployment is stronger than it has been in years. So I think that both of those phenomena are happening at the same time.

Kevin Dennean - Citi: When you look at it, what do you think the drivers are there? From our understanding there is a bit of a confused regulatory environment still in Europe, I think the challenges are well documented. So what do you think is driving this kind of better activity?

Thomas R. Stanton - CEO and Chairman: I think there are multiple factors. I think one is competition. I think DOCSIS 3.0 is really starting to really impact what these carriers are doing and I think they’re happening to rethink about how they actually handle that threat, and I do think the regulatory environment is coming around. I think it is moving towards a less media agnostic, I think it has historically been more (pawn) friendly than not (pawn) friendly, optical friendly than not optical friendly, and I think that has caused serious concerns from the carriers who did not see the business cases (working them out). As the regulatory environment turns to be more IP-centric than kind of (indiscernible) centric copper versus fiber, I think that the two are actually coalescing rather than – and you'll actually see some movement.

Kevin Dennean - Citi: Last quick question from me. Recently there have been some articles coming out of Europe talking about network consolidation or network sharing across borders. From an ADTRAN perspective, how do you think about that, how do you think that would impact your business? Would you see risk of short-term disruptions as people put the pieces together, but longer-term it's a positive because a more profitable customer base is a positive for a vendor?

Thomas R. Stanton - CEO and Chairman: The way I look at it is I think there are still – I mean, we have incumbency; we have strong relations with certain carriers and we have competitors that have strong relationships with other carriers. I think it does open the door now, opens the door for them as well as ours. But I think the net of that would be positive to us and I'm really looking at that as networks that didn't really have any of our products before. I think that the whole competitive environment in Europe is somewhat changing and I think it will end up being a very positive thing for us. Wendy, I think we are out of time now. So, I would like to thank all of you for joining us on our call and we look forward to a great 2013.

Operator: This concludes today's program. You may disconnect at this time. Thank you and have a great day.