Yaron Ravkaie - Chief Executive Officer Ran Vered - Chief Financial Officer

Alex Henderson - Needham and Company Dmitry Netis - William Blair

Ladies and gentlemen, thank you for standing by. Welcome to the RADCOM Ltd First Quarter 2017 Results Conference Call. All participants are at present in listen-only mode. [Operator Instructions] As a reminder, this conference is being recorded, May 4, 2017. On the call today is Yaron Ravkaie, RADCOM’s CEO and Ran Vered, RADCOM’s CFO. By now, we assume you have seen the earnings press release, which was issued earlier today. It is available on all the major financial news feeds. 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 a link on the Investors section of RADCOM’s website at www.radcom.com/investor-relations. If you have any trouble, please send Michal Friedman [ph] an e-mail at michalf@radcom.com and she will send it to you right away. Before we begin, I would like to review the Safe Harbor provision. Forward-looking statements of the conference call involve a number of risks and uncertainties, including but not limited to product demand, pricing, market acceptance, changing economic conditions, product technology development, and the effect of the company’s accounting policies and other Risk Factors detailed on the company’s SEC filings. The company does not undertake to update forward-looking statements. The full Safe Harbor provisions are set forth in the presentation. In this conference call, management will be referring to certain non-GAAP financial measures, which are provided to enhance the user’s overall understanding of the company’s financial performance. By excluding certain non-cash charges, non-GAAP results provide information that is useful in assessing RADCOM’s core operating performance and in evaluating and comparing our results of operations on a consistent basis from period to period. The presentation of this additional information is not meant to be considered a substitute for the corresponding financial measures prepared in accordance with Generally Accepted Accounting Principles. Investors are encouraged to review the reconciliations of GAAP to non-GAAP financial measures, which are included in the quarter’s earnings release. I would like to repeat the information about the presentation. If you have not downloaded it yet, you may do so through a link on the Investor section of RADCOM’s website at www.radcom.com/investor-relations. If you have any trouble, send Michal an e-mail at michalf@radcom.com and she will send it to you directly. Now, I would like to turn over the call to Yaron. Please go ahead.

Thank you, operator and thank you all for joining us today. Before discussing our results, I wanted to take few minutes to highlight some of the important milestones over the past year since we completed our capital raise to support our growth. To start, we were very excited that the AT&T publicly announced that they were using RADCOM’s MaveriQ product suite as the basis for the service assurance component of their new NFV network. Their public endorsement as well as ongoing expansion orders highlights AT&T’s confidence in our leading edge technology. We expect AT&T to remain an important customer and key reference for the company as we continue to play a major part in their network virtualization strategy over the coming years. During the past year, we saw an increasing number of companies evaluating their NFV strategy. One quarter into this year, we see carriers introducing more key virtual elements into their networks compared to last year, which is driving additional interest in our product. Our proof-of-concept with several key carriers, are progressing well, with very strong feedback into our technology leadership in the market. We are concluding some of these proof-of-concepts and evaluating commercial next steps with these new potential customers as well as engaging additional carriers and planning for additional proof-of-concept. Being a first mover in this space and participating in the most aggressive transformation today allows us to solve carriers’ service assurance challenges to introduce many new moving parts into their network. As a result, we have remained committed to innovation to extend our technology advantage. This is evident, but the recent general availability of MaveriQ A+ already installed in AT&T which boosts performance for carriers to assure customer experience across both virtual and physical networks. As we have mentioned on past calls, this hybrid approach enables the path to NFV and future proofing their purchasing decision. Consequently, we continue to feel strongly that our strategy of running a virtual NFV service assurance solution in a hybrid world of both physical and virtualized network elements is the right one. Our investment in infrastructure across the company from R&D to professional services and our senior leadership is very improved. We see our pipeline is healthier and our relationship with our existing strategic customers is strong, while our positioning with potential new customers is maturing. This infrastructure is key to our ability to scale and we feel very satisfied with the progress that we have made, which is in line with our company’s strategy. Over the course of the last year, we increased our R&D by over 50%. We formed a strong professional services team, which is focused on our customer’s success. And together with our new senior leadership, we see it bringing the desired business impact. As a final point, I am pleased to announce that we have been able to remain profitable on a non-GAAP basis and generate cash from operations throughout the year, while at the same time, executing on our strategy of investing to support future growth. Now, moving on our results, for the first quarter, I hope you have our presentation in front of you and I will begin with Slide 6. We are very pleased with our first quarter results, which marked the strong start to the year for RADCOM. As you can see, revenues for the quarter increased by 23% year-over-year to $8 million and we achieved a non-GAAP net income of $0.3 million or $0.02 per diluted share. Our focus during the first quarter was to continue executing on existing contracts, expanding with current customers, running trials with new customers and investing in our engineering resources in anticipation of potential new projects. As I mentioned, we are moving forward with AT&T as they implement our MaveriQ A+ product suite as the service assurance component of their new NFV network. As a reminder, AT&T is very aggressive in advancing this NFV program and plans to virtualize approximately 75% of its network by 2020. On their most recent earnings call, AT&T credited their network virtualization efforts as one of the key sectors for their improved operational efficiency. In addition, AT&T stated that they are well underway to virtualizing 55% of their network functions by the end of 2017, up from 34% at the end of 2016. As a result, we continue to expect AT&T to remain an important customer and key reference with the company as we continue to play a major part in their network virtualization strategy over the coming years. During the past quarter, AT&T materialized their intent to open source ECOMP. In fact, they even took the process a step further by merging with OPEN-O, another open source NFV orchestration group to create the cornerstone of the newly formed Open Network Automation Platform, ONAP. That brings holistic production improvement software to an even greater market. With its recognized value, we see carriers starting to formally announce they are evaluating ONAP as their NFV transformation strategy. As a result of our close relationship with AT&T, we are highly integrated with ONAP providing a very advanced level of automation, which becomes available to any carrier implementing ONAP and will want to implement MaveriQ A+. As this trend continues, we expect this to drive further demand for MaveriQ A+. In regards to our pipeline, we continue to seek top-tier operators planning their migration to NFV and we are starting to seek tenders for pure NFV architecture. As I said in the past the sales cycle for these types of deals are longer as top tier carriers are looking for comprehensive solutions for big transformation projects. As a result we moved carefully before making any commitment. That being said, given the progress we are making overall visibility with customers is improving and we remain confident that these activities will materialize into new deals. As we continue to engage with the many of the top tier carriers in the world, we expect to see carriers will gradually virtualize their networks over several years as well as seeing several carriers being more aggressive in their transformation strategy. It is expected that carriers will virtualize new services that they introduce into the network, which again is good for us and will drive demand for virtualized service assurance and our solution. Furthermore, it’s clear today that emerging technologies such as 5G and IoP will require carriers to virtualize their networks. While the 5G revolution is expected to gain momentum in 2019 and beyond, we already see carriers trying out the technology and Radcom is well positioned to benefit from this trend. During the quarter, we also met with many top tier carriers both at Mobile World Congress and in C-level meetings across the globe. We continued to receive strong validation of our direction and of the disruptive role we played in the industry. So to summarize, we continued to see accelerated engagements with meeting top tier carriers relating their respective NFV strategies as Radcom remains the go to NFV vendor for customer experience. Carriers are adopting the AT&T architecture. We are growing up our trials and engagements with potential new customers are progressing and our infrastructure is progressing to give us the ability to continue to scale the company. And this is exactly the point where we wanted to be. We remain focused on executing our strategy and leveraging the investments we have made to support our growth, with our message of future proofing NFV migration continues to resonate with carriers globally. With that, I will stop and turn the call over the Ran Vered, our CFO to discuss the financial results. Ran, please.

Thank you, Yaron. Since you have the financial results, I will just go over the highlights on Slide 6. To help you understand the results, I will be referring mainly to non-GAAP numbers, which exclude share based compensation. Revenue for the first quarter was $8 million, up 22% year-over-year. Our gross margin for the quarter was 75.4% on a non-GAAP basis, in line with our expectation. As a reminder, we have said we expect gross margin to continue to fluctuate depending upon the mix of each quarter’s revenue. Our gross R&D for the quarter on a non-GAAP basis increased to $2.4 million from $1.7 million in the first quarter of 2016, which was in line with our ramp up plan and highlights our strategy of investment to support future growth. In addition we did not [indiscernible] from the Israel Innovation Authority during the period, our net R&D for the quarter was the same as the gross amount. We expect the gross R&D expenses in the coming two quarters to be roughly at the same level or slightly above. Sales and marketing expenses for the quarter increased to $2.8 million on a non-GAAP basis, up from $1.5 million in the first quarter of 2016 due to the headcount increase with one of the parties aligned with our go-to-market strategy. G&A expenses for the quarter on a non-GAAP basis totaled $724,000 compared to $639,000 in the first quarter of 2016. Operating income on a non-GAAP basis for the quarter was $193,000 compared to $1.057 million for the first quarter of 2016. Net income for the quarter on a non-GAAP basis was $284,000 or $0.02 per diluted share. The results included no benefits related to the grants from the Israel Innovation Authority, same as Q1 of 2016. On a GAAP basis as we can see in Slide 5, we reported a net loss for the quarter of $336,000 or $0.03 per diluted share compared to net income of $903,000 or $0.10 per diluted share during the first quarter of 2016. Turning to balance sheet as we can see on Slide 9, our cash and cash equivalents at the end of the quarter were $40.7 million. We believe that our strong cash balance places the company on strong footing for addressing the big Tier 1 opportunities. Turning to guidance, we started the year with good momentum as we remain in position to increase market share and extend our technology leadership. As Yaron mentioned, our order visibility with existing and potential new customer is improving and we expect growth to be higher in the second half of 2017 as we close on the opportunities in the pipeline. As a result, we are re-slating our fiscal 2017 guidance range of $36 million to $39 million in revenues. As a reminder this guidance assumes ongoing traction with AT&T as well as from other existing Tier 1 customers and potential new customers. In terms of profitability, while we are still not providing specific EPS guidance, what continues to be important for the company is to have the infrastructure to execute several projects in parallel, so we can capture the structure that’s happening with NFV. Similar to revenue we expect our profitability in the second half of 2017 to be better than the first half of the year as a result of the revenue growth in the second half. As a reminder, we view and continue to manage our business on an annual basis, because our quarterly results can fluctuate due to the timing of implementation milestones. With that, let me turn it back to you Yaron.

Thank you, Ran. In summary, we are very pleased with our execution during first quarter as well as improved visibility. Radcom remains well positioned to maintain the momentum given the ongoing high level of activity we see from top Tier carriers globally. With that we will do Q&A.

Thank you. Ladies and gentlemen, at this time we will begin the question-and-answer session. [Operator Instructions] The first question is from Alex Henderson of Needham and Company. Please go ahead.

Great. First a couple of just housekeeping stuff, can you give us headcount and what the 10% customer concentration looks like?

Well, at the end of the quarter our headcount remains stable at 192. Actually in the last month it was increased, but we are actually almost in the same level where we ended up in 2016.

Okay. And the customer concentration?

So AT&T in the quarter was yet again our biggest customer with 60% of our total revenue, almost the same as in 2016 was part of that 62%.

Alright. Going back to the NRE comment that you made, I just wanted to make sure that I understood, are you saying that it’s going to stay essentially flat at zero, that was posted in 1Q or are you saying that it’s going to be flat for the full year similar to what you did last year which $1.7 million in NRE?

So actually let’s say when you are submitting this program to the government on the first quarter you will – and it’s in the last years it was almost the same last year, so you don’t get it on the first quarter. We don’t anticipate to get it. We don’t know yet it is going to be on second quarter or the first quarter, but it is a first half to get it, in the some ratio, in the same amount as 2016 in the range of $1.6 million to $1.7 million.

So we are probably out of – slide out of June quarter and into the September quarter though is what I think we are hearing you say?

We don’t know it may be in the second quarter and we may get it in the third quarter, at this point.

Last year it came in Q2.

So there is no way to know.

Alright, okay. Going back to your pipeline which is really the crux of the questioning here, I think you talked in the past about having nine programs that you are putting a lot of resources into in trials, can you give us an update on how those are progressing that there is anything that’s getting closer to coming to fruition whether they have run into any hang-ups, has anything slipped out of that group, have you added other companies to that group?

Okay. So we said in the past and remember we managed – we have said two numbers 9 and 4. 9 overall carriers that we have started to engage with and we start to progress with full trials. The 9 number has grown, because we have gone through more than a quarter and a half of sales and marketing, including the big Mobile World Congress. So, we engaged with more carriers now. We are maturing this. And I am not going to disclose the exact number under actual trials, this mature. So, I need to be very sensitive now on the geographies that’s because primarily competitive reasons, but we are moving now to ramping up the trials to see next steps things like that. And to anticipate the next question when are we going to have the appeal or something on that? The real answer is I don’t know this where we are at and we are working hard to finish in wrapping these things up, but they get lack of their own with these carriers.

Yes, understand. So just to be clear, are you now sort of tapped out on your ability to take on these trials and customer engagements?

No. Actually, we did I think a very strong job on the foundation of the company. I think, if you recall like – if I recall correctly, two quarters ago, I explained it I think in more details and we are getting the fruits now. We can do more trials this year and we are planning to it. We see some of these new careers that we have approached that will want the trials in probably more Q3, Q4 some maybe even this quarter and that the company is geared up not to disappoint these top tier carriers. We also – we put lot of R&D in the last year and the product has matured also into this very high level of automation that the trials are becoming more and more easier for us. And so I think you will see customers – potential customers, we see a very nice cadence in our ability to trial the software and to move to commercial. I will also say that as we do see some of these things move to projects, we will need an accounted basis to evaluate what Ran mentioned was going to be – our investment is going forward. We have a plan. And if things get ahead of the plan we might need to do some more investments, but hopefully this will also come with the revenue.

Alright. Any change in the competitive landscape at all? And then one last question and then I will see the floor, the 75.4% gross margin non-GAAP that’s well above the trend line, should we still be using more like 70%, 71% going forward?

So, with the second one I think Ran has said, we should use 70%, 71% number. It’s this quarter. The mix was more on the software side. Now, we mentioned that our trajectory will be upward trajectory as move to more software deals. We still expect this to be the case, but we still have our existing accounts in the various regions that are doing very nice expansions with us that have again just a regular cost component which takes the gross margin to be lower but not the foundation of the company. What was your other point?

Any change in the competitive landscape?

Yes. The interesting thing of what I see and we will be getting a lot of questions NetScout and I think everybody knows that NetScout has a big portion of the legacy market after they acquired Tektronix. They start to come out with the software and a marketing material that looks more like ours. So, we see that they publicly announced the software version of their equipment pools. They use the word NFV lightly. We haven’t seen an NFV product yet. And just as a reminder to people that have been following the company knows this, but we were in software in 2014. So, I think the good sign is that when a very formidable company starts to – in big company like NetScout starts to mimic our behavior. It’s a very strong market validation of our strategy. And I think the good thing for us is we remain confident that we have a very high technology edge in the marketplace, which we see from what they are announcing and we also see it from a strong feedback that we get from our customers that a lot of them have been running some of these technologies. On the other players in the market, we see similar things, but they are smaller and it’s less visible – the NetScout is always visible.

Does the NetScout Chief Technology Officer getting elected as the Co-Chair of the open networking user group monitoring analytics committee have any impact on you at all?

No. We see today the main efforts in the marketplace of two efforts, ONAP, which we are very highly engaged in any, as I mentioned, any care that will adopt ONAP and will decide to go forward with RADCOM is going to get a ton of the benefit and the cares are starting to evaluate this and see it. And the second one is that, there were three. So, those were two, which now became one with the merger with the ECOMP and the second one is OSM and we just concluded this quarter a very nice trial with OSM led by Telefonica, which is very strong or same [indiscernible] and we publicly announced it. So, we are playing in all the right places and we are ahead of all the programs specifically in the service assurance space. So, we feel comfortable that we have a leadership role, including a thought leadership role.

Okay, I will see the floor. Thank you very much.

Thanks, Alex.

The next question is from Dmitry Netis of William Blair. Please go ahead.

Okay, great. Good afternoon there in Israel gentlemen. Couple of questions. First kind of modeling questions, as you progressed through the year and specifically in Q2 timeframe, how do you expect the revenue trend? Would that be more of a flattish type quarter or do you expect growth in the June quarter as well?

So our expectation is that the second quarter will be slightly above the third quarter in terms of revenue.

Okay, great. That’s good. And then on the OpEx side of things, how do you expect the operating expenses to trend as well in the Q2 and then maybe in the back half of the year? I noticed you said you do think once the revenue spikes in the second half you will see some improved profitability. So, how do you reconcile that with the expense management?

So, just regarding currently the grant from the Innovation Authority, I am talking about the OpEx without this, so our run-rate in the first quarter was $5.9 million. We expect it to be at the same level or above in the next quarter and during the number of the years, when you purchased new ones will come. We may see some growth and we need to reevaluate our plans, but it’s not going to be in a way huge spike. We are going to be largely above this run-rate.

And if we will need to strike by the way it’s a good sign. I think everybody will understand it, we are doing another transformation.

Understood. Understood. So, just so I am clear, it’s flattish, so you did 5.9, so you think flat in June and then builds up in September and December kind of sequentially, is that fair?

Yes, it’s fair.

Okay. Alright, very good. And then just to touch on the largest customer AT&T, you did $80 million last year, what is the – how much are you expecting I suppose out of AT&T this year and provided that you are year two with them, are you starting to get like a maintenance revenue stream from them, was there any up-sale or do you expect any up-sale from them, just I know you said it was 62% this quarter, but what’s sort of the projection there for the year?

So we expect first of all AT&T remain a large portion of the revenue into this year. We are expecting to grow additional new logos this year. But because the – we expect new deals to come towards the second part of the year and we don’t – I mentioned there I don’t know exactly one day will come our estimate is that AT&T will be roughly 50%. This can change [indiscernible] with AT&T we are getting all sorts of revenue. We will start to get maintenance as well and we have committed business where we have potential business and upside as well and all of this is in the work. So the relationship [indiscernible] and we are very responsive to AT&T.

Okay, very good, that’s good commentary. So there is good profitability of up-selling maybe additional functionality [indiscernible] as you progress through the year, so that’s the plan, okay, great. And then as I look on your deferred revenue line, you only did about $1 million this year, I noticed and maybe because it’s more of a ratable now [indiscernible] with your larger customer AT&T, but how do you reconcile that $1 million versus what you had received maybe Q1 of last year which was a big spike in deferred, so can you give – is that just a change in [indiscernible], so most of the sort of revenue now flows straight through the P&L and thus they would go the balance sheet, so can you just split on what’s going on there?

So this is exactly as we described it Dmitry, so if you recall in the first quarter we get a huge upfront which almost all fees went into deferred revenue and now we will just say the materialization of it into revenue. And as we noted that to get such an amount with AT&T with such numbers for deferred revenue, but probably be in the same letter of [indiscernible] on specific milestone we are going to invoice, but what you said was correct, [indiscernible] question.

Yes. So it is pretty much that goes straight to P&L is what you are saying, but if there is in future that you can get that will get into the deferred I suppose and if you get a new customer that should also wind up in deferred initially, is that fair?

It depends on how the contract will be – the structure will be. If we get like we got in AT&T an upfront payment that is all under deferred, so yes we will be seeing.

Okay, alright. And I guess my last question just kind of built on Alex’s question on the four CSPs, I think I heard you say Yaron you – I guess I will you ask the probability of that trapping, but I think I have heard you say you may see a new trial end up in revenue this quarter and then another one or two, I don’t know maybe you can qualify this better, but in Q3, Q4 timeframe, so please clarify that is indeed that case and what the probability of that happen?

Okay. I will do my best. I am going to beat sensitivity is not because I don’t want to share some of it is, because I don’t know and some of it as I need to be very careful because now it’s the sensitive part of a materializing these things and I don’t want anyone to guess the customer. So look, what I said is that some of these trials are coming to conclusion and we are working with these carriers on concluding them and the ones that we conclude on the commercial next steps. So and I further said and this is a – the non-guessing piece, let’s say I don’t know exactly when they are going to come in. These carriers – to give you more color, some of these because the technology is very advance some of these discussions now is for them to work how they adopt the technology and what’s the best way that they need to do, what’s – because it’s a lot of it is agree how they get ready for it. So there is things that they need to do, it’s not only things that we need to do. All the signs are good. We are getting very strong feedback from the things that we did. Just to give us more color, we didn’t see from anyone that say, hey guys this is boring, go away. We have seen this across the market and the country what we see is very strong validation when we started this trial, the feedback that we get, hey guys this is impressing us. We haven’t seen this is in the marketplace. If we show this is working, this is a very interest for us when we go end to end and also when they run their business cases around what [indiscernible] and how it fits into their entire strategy, it glows their mass and we are in a positively of course and we are in the very good position. The thing is that now we need to be hedged down and we are to maturities. And the last thing that they said is that over the course of the coming quarters, we expect to start additional trials as interest in the product continues in what we offer and we expect to have more trials that we generate during the year and we also have the infrastructure to support this.

Okay. So just to be clear Yaron, we should not be expecting anybody any CSP windup in Q2, I mean if it happens, it happens, but just to sort of have the expectations set right and do you think you can get more than just one ICP sorry CSP I guess soon in the second half of the year, so is that fair or?

It’s a fair expectation. At the end we are engaged with several so we will – we get one or two, it’s hard to say and it’s hard to say also at what time each one would come. But when you are engaged with several and they are all showing positive signs maybe under very conservative side, we hope to get at least one, but signs are showing that we will get more so.

Okay. And then more effective…

The way that you outline this, I don’t disagree with you.

Okay. I don’t want to think we are going to get CSP [indiscernible] there great, but the expectations should be for the back half, third quarter, fourth quarter whenever it lands and at least one is what you said?

Yes.

Okay, fair enough. Thank you, gentlemen and keep up the good work.

Thank you.

Thanks.

[Operator Instructions] There are no further questions at this time. Mr. Ravkaie, would you like to make your concluding statements.

Yes. Like I mentioned on the call we are heads down focusing on executing what we shared in the past several quarters. We are getting very strong feedback on our direction. And I think we are seeing it also in the financial results and we will see you not soon again. Thank you very much.

Thank you. This concludes the Radcom Ltd first quarter 2017 results conference call. Thank you for your participation. You may go ahead and disconnect.