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AVNW > SEC Filings for AVNW > Form 10-Q on 10-Feb-2014All Recent SEC Filings

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Form 10-Q for AVIAT NETWORKS, INC.


10-Feb-2014

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 and our restructuring efforts; 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 results of our restructuring efforts;

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 providing these services to the extent that we may need to postpone the recognition of revenue and incur upfront and ongoing expenses 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
In the second quarter of fiscal 2014 we experienced a drop in revenue due primarily to a slower than expected investment cycle in Africa, along with the postponed recognition of about $4.5 million when we commenced shipments under a new managed services and warehousing agreement with a major customer in that region. The warehouse services element of that agreement precludes revenue recognition until final delivery is made to the customer from our warehouse. The market for mobile backhaul continues to be our primary addressable market segment and, over the long term, the demand for increasing the backhaul capacity in our customers' networks continues to grow. In North America we supported long-term evolution ("LTE") deployments of our mobile operator customers, public safety network deployments for state and local governments, and 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 third quarter of fiscal 2014, in line with the drop in revenue that we experienced and our reduced forecast for the immediate future, we announced a new restructuring plan. Our restructuring expenses incurred during the first two quarters of fiscal 2014 related to the current Fiscal 2013-2014 Plan. We intend to complete a majority of the remaining restructuring activities under the current 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 second quarter and first two quarters of fiscal 2014 and 2013 and the related changes are shown in the table below:

                                                 Quarter Ended                                                         Two Quarters Ended
(In millions, except                                                                                                                              $           %
percentages)           December 27, 2013       December 28, 2012      $ Change    % Change      December 27, 2013       December 28, 2012      Change      Change
North America        $              33.8     $              41.4     $   (7.6 )    (18.4 )%   $              67.5     $              80.1     $ (12.6 )    (15.7 )%
Africa and Middle
East                                26.0                    63.9        (37.9 )    (59.3 )%                  63.0                   112.9       (49.9 )    (44.2 )%
Europe and Russia                   10.0                     9.2          0.8        8.7  %                  18.6                    21.6        (3.0 )    (13.9 )%
Latin America and
Asia Pacific                        16.0                    14.5          1.5       10.3  %                  30.1                    29.4         0.7        2.4  %
Total Revenue        $              85.8     $             129.0     $  (43.2 )    (33.5 )%   $             179.2     $             244.0     $ (64.8 )    (26.6 )%

Our revenue in North America decreased $7.6 million, or 18.4%, during the second quarter of fiscal 2014 compared with the same quarter of fiscal 2013. Revenue from wireless operator customers was down as they reach completion of their LTE network building period and we expect this trend to continue in the near term. We also saw lower revenue from private government and utility networks due to the timing of purchases and project deliveries to those customers. On a year-to-date basis, North America revenue is down $12.6 million, or 15.7%, compared to the first half of fiscal 2013 for the same reasons as the quarter volumes are down from the prior year.


Our revenue in Africa and Middle East was down $37.9 million, or 59.3% for the second quarter in fiscal 2014 over the same quarter in fiscal 2013. The majority of this decrease was from our business in Africa, where our customers continued to closely manage their capital spending. Revenue was also affected by the first deliveries under a new managed services and warehousing agreement with a major customer in the region. This agreement involves some deliveries to an Aviat managed warehouse, which results in revenue not being recognized until final delivery is made to the customer from the warehouse. On a year-to-date basis, Africa and Middle East revenue was down $49.9 million, or 44.2%, from the same period in fiscal 2013, mostly from reduced capital spending by our largest customer in the region, along with the managed services and warehousing arrangement mentioned above.
Revenue in Europe and Russia increased $0.8 million, or 8.7%, for the second quarter of fiscal 2014 compared with the same quarter in fiscal 2013. This increase came from normal variances in purchase patterns with our larger customers in the sector. On a year-to-date basis, Europe and Russia revenue was down $3.0 million, or 13.9%, from the same period in fiscal 2013. This variation was due to timing of customer purchasing.
Revenue in Latin America and Asia Pacific increased $1.5 million, or 10.3%, during the second quarter of fiscal 2014 compared with the same quarter in fiscal 2013. The increase was primarily due to deliveries to two new customers in these regions. On a year-to-date basis revenue in Latin America and Asia Pacific was up $0.7 million, or 2.4%, largely on the addition of new customers in the regions.
Our revenue from product sales was down by $42.3 million, or 44.9%, for the second quarter of fiscal 2014 compared with the same quarter in fiscal 2013. The decrease came primarily from strong sales in Africa and North America in the second quarter of fiscal 2013 that were not repeated at the same level in the second quarter of fiscal 2014. Product sales in the other sales regions were the same or slightly greater the previous year. Product sales in the other sales regions were less than the previous year, for the reasons mentioned above. Our services revenue was down by $0.9 million, or 2.6%, during the second quarter of fiscal 2014 compared with the same quarter of fiscal 2013. The decrease in the second quarter of fiscal 2014 came from reduced services delivered in Africa and Middle East, offset in part by increases in Asia Pacific and North America. Our revenue from product sales was down by $62.6 million, or 35.2%, for the first two quarters of fiscal 2014 compared with the same period in fiscal 2013. The decrease came primarily from strong sales in Africa in the first two quarters of fiscal 2013 that were not repeated at the same level in the first two quarters of fiscal 2014. North America, Asia Pacific, and European product sales were also down compared to the first two quarters of fiscal 2013, with a smaller increase in Latin America. Our services revenue was down by $2.2 million, or 3.3%, during the first two quarters of fiscal 2014 compared with the same period of fiscal 2013. The decrease in the first two quarters of fiscal 2014 came from reduced services delivered in Africa and Middle East, mostly offset by increases in North America, Asia Pacific and Europe.
During the second quarter and the first half 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                                                      Two Quarters Ended
(In millions,
except
percentages)        December 27, 2013      December 28, 2012     $ Change    % Change     December 27, 2013     December 28, 2012     $ Change    % Change
Revenue            $           85.8       $           129.0     $  (43.2 )    (33.5 )%   $           179.2     $           244.0     $  (64.8 )    (26.6 )%
Cost of revenue                64.5                    90.3        (25.8 )    (28.6 )%               134.8                 171.6        (36.8 )    (21.4 )%
Gross margin       $           21.3       $            38.7     $  (17.4 )    (45.0 )%   $            44.4     $            72.4     $  (28.0 )    (38.7 )%
% of revenue                   24.8 %                  30.0 %                                         24.8 %                29.7 %

Gross margin for the second quarter of fiscal 2014 was lower by $17.4 million, or 45.0%, compared with the same quarter of fiscal 2013. Most of the gross margin decrease came from lower sales volume in the quarter, primarily in Africa and Middle East, with a smaller drop in North America. These decreases were offset in part by small increases in Latin America, APAC and Europe. Gross margin as a percentage of revenue decreased in the second quarter of fiscal 2014 compared with the same quarter of fiscal 2013, primarily due to lower product gross margin rates in Africa and


Middle East, Europe and APAC, and less favorable absorption of supply chain costs driven by lower volume. Much of these gross margin rate variances were driven by market price changes and changes in the mix of products and services delivered.
On a year-to-date basis gross margin was $28.0 million less than the same period in fiscal 2013. The main reason for the decline is the reduced revenue realized in Africa and Middle East, North America, and Europe along with lower market prices and differing product mixes in all regions. Research and Development Expenses

                                                 Quarter Ended                                                          Two Quarters Ended
(In millions,
except percentages)   December 27, 2013       December 28, 2012      $ Change     % Change     December 27, 2013      December 28, 2012      $ Change      % Change
Research and
development         $            9.4        $            9.8        $    (0.4 )     (4.1 )%   $           19.1       $           19.1       $       -         - %
% of revenue                    11.0 %                   7.6 %                                            10.7 %                  7.8 %

Our research and development ("R&D") expenses decreased $0.4 million, or 4.1%, in the second quarter of fiscal 2014 compared with the same quarter in fiscal 2013, primarily due to a $0.5 million decrease in share-based compensation expenses resulting from stock award vesting in the first two quarters of fiscal 2014. Our R&D expenses were flat for the first half of fiscal 2014 compared with the same period in fiscal 2013. There was a 0.6 million decrease in share-based compensation expenses which was offset by increases in R&D supply costs reflecting our investment in our new product development projects during the first two quarters of fiscal 2014. 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                                                        Two Quarters Ended
(In millions,
except percentages)  December 27, 2013      December 28, 2012      $ Change     % Change     December 27, 2013      December 28, 2012      $ Change     % Change
Selling and
administrative      $           22.2       $           23.7       $    (1.5 )     (6.3 )%   $           44.4       $           47.0       $    (2.6 )     (5.5 )%
% of revenue                    25.9 %                 18.4 %                                           24.8 %                 19.3 %

Our selling and administrative expenses declined $1.5 million, or 6.3%, and $2.6 million, or 5.5%, respectively, in the second quarter and first two quarters of fiscal 2014 compared with the same periods of fiscal 2013, primarily due to a $1.1 million and $2.0 million, respectively, reduction in bad debt expense as we recovered certain receivables that were previously written off due to customer insolvency, a $0.5 million and $0.9 million, respectively, decrease in agent commissions driven by lower fee-based revenues, and a $0.6 million and $0.4 million, respectively, decrease in share-based compensation expenses resulting from stock award vestings in the first two quarters of fiscal 2014, partially offset by a $0.6 million of transactional taxes assessments in the second quarter of fiscal 2014.
Restructuring Charges
During the fourth quarter of fiscal 2013, we initiated the Fiscal 2013-2014 Plan that was 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 second quarter of fiscal 2014 and 2013 are summarized in the table below:

                                                Quarter Ended                                                    Two Quarters Ended
(In millions,
except                                                                                        December 27,      December 28,
percentages)         December 27, 2013       December 28, 2012      $ Change     % Change         2013              2012          $ Change     % Change
Restructuring
charges            $               0.3     $               0.2     $     0.1        50.0 %   $         4.8     $         0.5     $     4.3       860.0 %
By Plan:
  Fiscal 2013-2014
Plan               $               0.3     $                 -     $     0.3                 $         4.8     $           -     $     4.8
  Fiscal 2011 Plan $                 -     $               0.2     $    (0.2 )               $           -     $         0.5     $    (0.5 )

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 second quarter of fiscal 2014 included a $0.3 million employee termination charge. Restructuring charges for the first two quarters of fiscal 2014 included a $3.9 million facilities charge related to ceasing to use a portion of our Santa Clara headquarters building and a $0.9 million employee termination charge. We intend to complete a majority of the remaining restructuring activities under the Fiscal 2013-2014 Plan in fiscal 2014. During the third quarter of fiscal 2014, we initiated a new restructuring plan and currently expect to incur approximately $5.0 million to $6.0 million of restructuring costs under the Fiscal 2014-2015 Plan.
Interest Income and Interest Expense

                          Quarter Ended                   Two Quarters Ended
                  December 27,     December 28,     December 27,       December 28,
(In millions)         2013             2012             2013               2012
Interest income  $       0.1      $       0.2      $        0.1       $       0.5
Interest expense $      (0.1 )    $      (0.2 )    $       (0.2 )     $      (0.5 )

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                                           Two Quarters Ended
(In millions, except
percentages)               December 27, 2013      December 28, 2012      $ Change     December 27, 2013     December 28, 2012      $ Change
Income (loss) from
continuing operations
before income taxes       $           (10.7 )   $            4.9        $  (15.6 )   $           (24.2 )   $            5.6       $  (29.8 )
Provision for (benefit
from) income taxes        $            (0.5 )   $            9.9        $  (10.4 )   $            (0.3 )   $           11.4       $  (11.7 )
% of income (loss) from
continuing operations
before income taxes                     4.7 %              202.0 %                                 1.2 %              203.6 %

We estimate our annual effective rate at the end of each quarterly period, and we record the tax effect of certain discrete items in the interim period in which they occur, including changes in judgment about uncertain tax positions . . .

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