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AVNW > SEC Filings for AVNW > Form 10-Q on 6-Nov-2013All Recent SEC Filings

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Form 10-Q for AVIAT NETWORKS, INC.


6-Nov-2013

Quarterly Report


Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
This Quarterly Report on Form 10-Q, including "Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations," contains forward-looking statements that involve risks and uncertainties, as well as assumptions that, if they do not materialize or prove correct, could cause our results to differ materially from those expressed or implied by such forward-looking statements. All statements other than statements of historical fact are statements that could be deemed forward-looking statements, including statements of, about, concerning or regarding: our plans, strategies and objectives for future operations, including with respect to growing our business and sustaining profitability; our research and development efforts and new product releases and services; trends in revenue; drivers of our business and the markets in which we operate; future economic conditions, performance or outlook and changes in our industry and the markets we serve; the outcome of contingencies; the value of our contract awards; beliefs or expectations; the sufficiency of our cash and our capital needs and expenditures; our intellectual property protection; our compliance with regulatory requirements and the associated expenses; expectations regarding litigation; our intention not to pay cash dividends; seasonality of our business; the impact of foreign exchange and inflation; taxes; and assumptions underlying any of the foregoing. Forward-looking statements may be identified by the use of forward-looking terminology, such as "anticipates," "believes," "expects," "may," "should," "would," "will," "intends," "plans," "estimates," "strategy," "projects," "targets," "goals," "seeing," "delivering," "continues," "forecasts," "future," "predict," "might," "could," "potential," or the negative of these terms, and similar words or expressions.
These forward-looking statements are based on estimates reflecting the current beliefs of the senior management of the Company. These forward-looking statements involve a number of risks and uncertainties that could cause actual results to differ materially from those suggested by the forward-looking statements. Forward-looking statements should therefore be considered in light of various important factors, including those set forth in this document. Important factors that could cause actual results to differ materially from estimates or projections contained in the forward-looking statements include, but are not limited to, the following:


        continued price and margin erosion as a result of increased competition
         in the microwave transmission industry;


        the impact of the volume, timing and customer, product and geographic
         mix of our product orders;


        our ability to meet projected new product development dates or
         anticipated cost reductions of new products;


        our suppliers' inability to perform and deliver on time as a result of
         their financial condition, component shortages or other supply chain
         constraints;

customer acceptance of new products;

the ability of our subcontractors to timely perform;

continued weakness in the global economy affecting customer spending;

retention of our key personnel;

our ability to manage and maintain key customer relationships;

        uncertain economic conditions in the telecommunications sector combined
         with operator and supplier consolidation;


        the timing of our receipt of payment for products or services from our
         customers;


        our failure to protect our intellectual property rights or defend
         against intellectual property infringement claims by others;

the effects of currency and interest rate risks; and

the impact of political turmoil in countries where we have significant business.

Other factors besides those listed here also could adversely affect us. See "Item 1A. Risk Factors" in our fiscal 2013 Annual Report on Form 10-K for more information regarding factors that may cause our results to differ materially from those expressed or implied by the forward-looking statements contained in this Quarterly Report on Form 10-Q.
You should not place undue reliance on these forward-looking statements, which reflect our management's opinions only as of the date of the filing of this Quarterly Report on Form 10-Q. Forward-looking statements are made in reliance upon the safe harbor provisions of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended (the "Exchange Act"), along with provisions of the Private Securities Litigation Reform Act of 1995, and we undertake no obligation, other than as imposed by law, to update forward-looking statements to reflect further developments or information obtained after the date of filing of this Quarterly Report on Form 10-Q or, in the case of any document incorporated by reference, the date of that document.

Overview of Business; Operating Environment and Key Factors Impacting Fiscal 2013 and 2014 Results
The following Management's Discussion and Analysis ("MD&A") is intended to help the reader understand our results of operations and financial condition. MD&A is provided as a supplement to, and should be read in conjunction with, our consolidated financial statements and the accompanying notes. In the discussion below, our fiscal year ending June 27, 2014 is referred to as "fiscal 2014" or "2014" and fiscal year ended June 28, 2013 as "fiscal 2013" or "2013". We generate revenue by designing, developing, manufacturing and supporting a range of wireless networking products, solutions and services for mobile and fixed communications service providers, private network operators, government agencies, transportation and utility companies, public safety agencies and broadcast system operators across the globe. Our products include point-to-point (PTP) digital microwave transmission systems designed for first/last mile access, middle mile/backhaul, and long distance trunking applications. We also provide network management software solutions to enable operators to deploy, monitor and manage our systems, third party equipment such as antennas, routers, and multiplexers, necessary to build and deploy a wireless transmission network, and a full suite of turnkey support services.
We work continuously to improve our established brands and to create new products that meet our customers' evolving needs and preferences. Our fundamental business goal is to generate superior returns for our stockholders


over the long term. We believe that increases in revenue, operating profits and earnings per share are the key measures of financial performance for our business.
Our strategic focus in fiscal 2014 will be to continue to accelerate innovation and optimize our product portfolio, improve costs and operational efficiencies, grow our revenue and create a sustainable, profitable business model. To do this, we continue to examine our products, markets, facilities, development programs, and operational flows to ensure we are focused on what we do well and what will differentiate us in the future. We will continue working to streamline management processes to attain the efficiency levels required by the markets in which we do business.
Although the general trend of increasing demand for bandwidth to support mobile networks applies in all markets, we expect to see quarter-to-quarter fluctuations within markets and with individual customers based on customers' past purchasing patterns. Seasonality is also a factor that impacts our business. Our fiscal third quarter revenue and orders have historically been lower than the revenue and orders in our second fiscal quarter because many of our customers utilize a significant portion of their capital budgets at the end of their fiscal years, which is typically the calendar year end and coincides with our second fiscal quarter. The majority of our customers begin a new fiscal year on January 1, and capital expenditures tend to be lower in an organization's first quarter than in its fourth quarter. We anticipate that this seasonality will continue. The seasonality between the second quarter and third quarter may be affected by a variety of additional factors, including changes in the global economy and other factors.
During fiscal 2014, we expect to provide increased managed services, including network design, inventory management, final configuration and warehousing services, to certain customers in certain geographies. Our operating results may be impacted by the provision of these services to the extent that we may need to defer the recognition of revenue and incur upfront and ongoing expenses associated with the provision of these services that are not offset with additional revenue from product sales associated with these services until a future period.
Please refer to the section entitled "Risk Factors" in Item 1A in our fiscal 2013 Annual Report on Form 10-K.

Operations Review
During the first quarter of fiscal 2014, we secured orders and continued to expand our footprint with our customers in the mobile operator market using our current technology and service capabilities. The market for mobile backhaul continues to be our primary addressable market segment and the demand for increasing the backhaul capacity in our customers' networks continues to grow in line with our expectations. In North America we supported the long-term evolution ("LTE") deployments of our mobile operator customers, the public safety network deployments for state and local governments, and the private network implementations for utilities and other customers. Internationally, our business continued to rely on a combination of customers increasing their capacity to handle subscriber growth, the ongoing build-out of some large 3G deployments, and the emergence of early stage LTE deployments. Our position continues to be to support our customers for LTE readiness and ensure that our technology roadmap is well aligned with evolving market requirements. We continue to find that our strength in turnkey and after-sale support services is a differentiating factor that wins business for us and enables us to expand our business with existing customers in all markets. However, as disclosed above and in the "Risk Factors" section in Item 1A of our fiscal 2013 Annual Report on Form 10-K, a number of factors could prevent us from achieving our objectives, including ongoing pricing pressures attributable to competition and macroeconomic conditions in the geographic markets that we service.
During the first quarter of fiscal 2014, we incurred restructuring expenses that were taken to reduce our operational costs. We intend to complete a majority of the remaining restructuring activities under the Fiscal 2013-2014 Plan during fiscal 2014. See "Restructuring Charges" below. Revenue
We manage our sales activities primarily on a geographic basis in North America and three international geographic regions: Africa and Middle East, Europe and Russia, and Latin America and Asia Pacific. Revenue by


region for the first quarter of fiscal 2014 and 2013 and the related changes are shown in the table below:

                                                                       Quarter Ended
(In millions, except percentages)         September 27, 2013      September 28, 2012       $ Change       % Change
North America                           $               33.7     $              38.7     $      (5.0 )      (12.9 )%
Africa and Middle East                                  37.0                    49.0           (12.0 )      (24.5 )%
Europe and Russia                                        8.6                    12.4            (3.8 )      (30.6 )%
Latin America and Asia Pacific                          14.1                    14.9            (0.8 )       (5.4 )%
Total Revenue                           $               93.4     $             115.0     $     (21.6 )      (18.8 )%

Our revenue in North America decreased $5.0 million, or 12.9%, during the first quarter of fiscal 2014 compared with the same quarter of fiscal 2013. There were marginal volume reductions in all North America customer groups compared with the same quarter in fiscal 2013. We attribute these variances to normal fluctuations in customer ordering patterns.
Our revenue in Africa and Middle East was down $12.0 million, or 24.5% for the first quarter in fiscal 2014 over the same quarter in fiscal 2013. The majority of this decrease was from our business in Nigeria, where our customers slowed down purchases at the first half of the calendar year which impacted our shipments during the first quarter of fiscal 2014.
Revenue in Europe and Russia declined $3.8 million, or 30.6%, for the first quarter of fiscal 2014 compared with the same quarter in fiscal 2013. This decline came from finishing a large project with one operator and from reduced purchases spread among several other customers. In the latter case, we do not believe this represents a change in the business, but rather more normal variances in purchase patterns.
Revenue in Latin America and Asia Pacific declined $0.8 million, or 5.4%, during the first quarter of fiscal 2014 compared with the same quarter in fiscal 2013. The decrease was primarily due to the timing of deliveries to one large operator and from the end of a project in fiscal 2013 that did not repeat in fiscal 2014. Our revenue from product sales was down by $20.3 million, or 24.2%, for the first quarter of fiscal 2014 compared with the same quarter in fiscal 2013. The decrease came primarily from strong sales in Africa in the first quarter of fiscal 2013 that were not repeated at the same level in the first quarter of fiscal 2014. Product sales in the other sales sectors were less than the previous year, for the same reasons mentioned above. Our services revenue was down by $1.3 million, or 4.2%, during the first quarter of fiscal 2014 compared with the same quarter of fiscal 2013. The decrease in the first quarter of fiscal 2014 came from reduced services delivered in North America and Europe, offset in part by an increase in Middle East and Africa.
During the first quarter of fiscal 2014 and 2013, the MTN Group in Africa accounted for more than 10% of our total revenue. We have entered into separate and distinct contracts with MTN Group as well as separate arrangements with MTN Group subsidiaries. The loss of all MTN Group business could adversely affect our results of operations, cash flows and financial position.

Gross Margin
                                                                      Quarter Ended
(In millions, except percentages)        September 27, 2013     September 28, 2012       $ Change       % Change
Revenue                                 $           93.4       $           115.0       $     (21.6 )      (18.8 )%
Cost of revenue                                     70.3                    81.3             (11.0 )      (13.5 )%
Gross margin                            $           23.1       $            33.7       $     (10.6 )      (31.5 )%
% of revenue                                        24.7 %                  29.3 %

Gross margin for the first quarter of fiscal 2014 was lower by $10.6 million, or 31.5%, compared with the same quarter of fiscal 2013. Most of the gross margin decrease came from lower sales volume in the quarter. Gross margin as a percentage of revenue decreased in the first quarter of fiscal 2014 compared with the same quarter of


fiscal 2013, primarily due to lower service gross margin rates realized in North America, lower product gross margin rates in Middle East and Africa, and less favorable absorption of supply chain costs driven by lower volume that were offset in part by improved gross margin rates in Europe and in Latin America and Asia Pacific. Much of these gross margin rate variances were driven by market price changes and changes in the mix of products and services delivered.

Research and Development Expenses
                                                                       Quarter Ended
(In millions, except percentages)        September 27, 2013      September 28, 2012       $ Change       % Change
Research and development expenses       $            9.7        $            9.3        $       0.4          4.3 %
% of revenue                                        10.4 %                   8.1 %

Our research and development ("R&D") expenses increased $0.4 million, or 4.3%, in the first quarter of fiscal 2014 compared with the same quarter in fiscal 2013. The increase in R&D expenses was primarily due to increases in R&D supply costs reflecting our investment in our new product development projects. We continue to invest in new product features, new functionality and lower cost platforms that we believe will enable our product lines to retain their technology leads in a cost effective manner.

Selling and Administrative Expenses
                                                                      Quarter Ended
(In millions, except percentages)        September 27, 2013     September 28, 2012      $ Change       % Change
Selling and administrative expenses     $           22.2       $           23.3       $      (1.1 )       (4.7 )%
% of revenue                                        23.8 %                 20.3 %

Our selling and administrative expenses declined $1.1 million, or 4.7%, in the first quarter of fiscal 2014 compared with the same quarter of fiscal 2013, primarily due to a $1.0 million reduction in bad debt expenses and a $0.5 million lower agent commissions driven by lower fee-based revenues, partially offset by a $0.4 million increase in personnel expenses and a $0.1 million increase in share-based compensation expenses. Restructuring Charges
During the fourth quarter of fiscal 2013, we initiated the Fiscal 2013-2014 Plan that is intended to bring our cost structure in line with the changing business environment of the worldwide microwave radio and telecommunication markets, primarily in North America, Europe and Asia. Activities under the Fiscal 2013-2014 Plan included the downsizing of our Santa Clara, California headquarters and certain international field offices, and reductions in force to reduce our operating expenses.
During the first quarter of fiscal 2011, we initiated the Fiscal 2011 Plan to reduce our operational costs primarily in North America, Europe and Asia. Activities under the Fiscal 2011 Plan included the reductions in force to reduce our operating expenses and downsizing or closures of our Morrisville, North Carolina, Santa Clara, California, Montreal, Canada offices and certain international field offices. The Fiscal 2011 Plan has been completed as of the end of fiscal 2013.
Our restructuring charges by plan for the first quarter of fiscal 2014 and 2013 are summarized in the table below:


                                                                       Quarter Ended
(In millions, except percentages)         September 27, 2013       September 28, 2012       $ Change       % Change
Restructuring charges                   $                4.5     $                0.3     $       4.2      1,400.0 %
By Plan:
  Fiscal 2013-2014 Plan                 $                4.5     $                  -     $       4.5
  Fiscal 2011 Plan                      $                  -     $                0.3     $      (0.3 )

Our restructuring expenses consisted primarily of severance and related benefit charges and facilities costs related to obligations under non-cancelable leases for facilities that we ceased to use. Restructuring charges for the first quarter of fiscal 2014 included a $0.6 million employee termination charge and a $3.9 million facilities charge related to ceasing to use a portion of our Santa Clara headquarters building. We intend to complete a majority of the remaining restructuring activities under the Fiscal 2013-2014 Plan in fiscal 2014. Interest Income and Interest Expense

                           Quarter Ended
                  September 27,     September 28,
(In millions)         2013              2012
Interest income  $           -     $         0.3
Interest expense $        (0.1 )   $        (0.3 )

Interest income reflected interest earned on our cash equivalents which were comprised of money market funds and certificates of deposit.
Interest expense was primarily related to interest associated with borrowings, term loan and letters of credit under our credit facilities.

Income Taxes
                                                                         Quarter Ended
(In millions, except percentages)                  September 27, 2013      September 28, 2012       $ Change
Income (loss) from continuing operations before
income taxes                                     $          (13.5 )       $            0.7        $     (14.2 )
Provision for income taxes                       $            0.2         $            1.5        $      (1.3 )
% of income (loss) from continuing operations
before income taxes                                          (1.5 )%                 214.3 %

We estimate our annual effective rate at the end of each quarterly period, and we record the tax effect of certain discrete items, which are unusual or occur infrequently, in the interim period in which they occur, including changes in judgment about deferred tax valuation allowances. The determination of the effective tax rate reflects tax expense and benefit generated in certain foreign jurisdictions. However, jurisdictions with a year-to-date loss where no tax benefit can be recognized are excluded from the annual effective tax rate.

Income (loss) from Discontinued Operations
                                                                         Quarter Ended
(In millions)                                      September 27, 2013      September 28, 2012      $ Change
Income (loss) from discontinued operations, net
of tax                                           $                0.1     $           (1.4 )     $       1.5

Our discontinued operations consist of the WiMAX business, which was sold to EION on September 2, 2011. We completed the business transition with EION in fiscal 2012. The loss incurred in the first quarter of fiscal 2013 was primarily due to write-down of certain WiMAX deferred cost of sales that were not transferred to EION.

Liquidity and Capital Resources


Sources of Cash
As of September 27, 2013, our total cash and cash equivalents were $79.3 million. Approximately $15.7 million, or 19.8% of our total cash and cash equivalents, was held by entities domiciled in the United States. The remaining balance of $63.6 million, or 80.2%, was held by entities outside the United States. Of the amount of cash and cash equivalents held by our foreign subsidiaries at September 27, 2013, $52.1 million was held in jurisdictions where our undistributed earnings are indefinitely reinvested, and would be subject to U.S. taxes if repatriated.
As of September 27, 2013, our principal sources of liquidity consisted of the $79.3 million in cash and cash equivalents, $39.1 million of available credit under our $50.0 million credit facility with SVB, and future collections of receivables from customers. We regularly require letters of credit from some customers, and, from time to time, these letters of credit are discounted without recourse shortly after shipment occurs in order to meet immediate liquidity requirements and to reduce our credit and sovereign risk. Historically our primary sources of liquidity have been cash flows from operations, credit facilities and cash proceeds from sale of our equity securities. During the first quarter of fiscal 2014, our total cash and cash equivalents decreased by $10.7 million primarily due to $3.8 million of cash being used for capital expenditures, $2.8 million repayments on our term loan and $4.6 million of cash used in operating activities.
Cash used in operating activities was $4.6 million in the first quarter of fiscal 2014, primarily due to our net loss of $13.6 million adjusted by non-cash expense items of $3.7 million, decreases in accounts payable and accrued expenses of $2.0 million and an increase in unbilled costs of $1.0 million, partially offset by decreases in inventories of $1.2 million and in net prepaid income taxes of $1.2 million, and increases in customer advance payments and unearned income of $2.4 million and in accrued restructuring liabilities of $3.3 million. The decreases in accounts payable and accrued expenses were primarily due to the timing of payments to our contract manufacturers and suppliers as well as the payout of employee bonuses. The increase in unbilled costs was due to the timing of billing of projects. The decrease in inventories was due to improvement in supply chain efficiency. The decrease in net prepaid income taxes was due to a tax refund that we received from a tax jurisdiction during the quarter. The increase in customer advance payments and unearned income was due to the timing of revenue recognition on several large contracts. The increase in restructuring liabilities was primarily related to the facility exit cost liability we incurred associated with our Santa Clara headquarters building under the Fiscal 2013-2104 Plan. We used $1.2 million in cash during the first quarter of fiscal 2014 on expenses related to restructuring liabilities. During the remainder of fiscal year 2014, we expect to spend approximately $6.0 million for capital expenditures, primarily on equipment for development of new products and improvement of our information technology infrastructure which will enable more automated supply chain management and financial reporting and lead to process and cost efficiency and ability to scale our business. As of September 27, 2013, we had $15.9 million of reserve for uncertain tax positions. The majority of these tax provisions are related to audits of past years in several foreign jurisdictions where we have not received final assessments. Although we continue to defend our positions and will continue with the appeal processes, we expect to make a deposit with a taxing authority in the near future in the amount of $4.5 million. We are not able to estimate the timing and amount of the remaining tax payments.
We believe that our existing cash and cash equivalents, the available line of credit under our credit facility and future cash collections from customers will be sufficient to provide for our anticipated requirements for working capital and capital expenditures for the next 12 months and the foreseeable future. There can be no assurance, however, that our business will generate cash flow, or that anticipated operational improvements will be achieved. If we are unable . . .

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