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PLCM > SEC Filings for PLCM > Form 10-Q on 1-Aug-2014All Recent SEC Filings

Show all filings for POLYCOM INC

Form 10-Q for POLYCOM INC


1-Aug-2014

Quarterly Report


Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

YOU SHOULD READ THE FOLLOWING DISCUSSION AND ANALYSIS IN CONJUNCTION WITH OUR CONDENSED CONSOLIDATED FINANCIAL STATEMENTS AND RELATED NOTES. EXCEPT FOR HISTORICAL INFORMATION, THE FOLLOWING DISCUSSION CONTAINS FORWARD LOOKING STATEMENTS WITHIN THE MEANING OF SECTION 27A OF THE SECURITIES ACT OF 1933 AND
SECTION 21E OF THE SECURITIES EXCHANGE ACT OF 1934. WHEN USED IN THIS REPORT, THE WORDS "MAY," "BELIEVE," "COULD," "ANTICIPATE," "WOULD," "MIGHT," "PLAN," "EXPECT," "WILL," "INTEND," "POTENTIAL," "OBJECTIVE," "STRATEGY," "SHOULD," "DESIGNED," AND SIMILAR EXPRESSIONS OR THE NEGATIVE OF THESE TERMS ARE INTENDED TO IDENTIFY FORWARD LOOKING STATEMENTS. THESE FORWARD LOOKING STATEMENTS, INCLUDING, AMONG OTHER THINGS, STATEMENTS REGARDING OUR UNIQUE POSITION AND ANTICIPATED PRODUCTS, IMPORTANT DRIVERS, CUSTOMER AND GEOGRAPHIC REVENUE LEVELS AND MIX, GROSS MARGINS, OPERATING COSTS AND EXPENSES AND OUR CHANNEL INVENTORY LEVELS, INVOLVE RISKS AND UNCERTAINTIES. OUR ACTUAL RESULTS MAY DIFFER MATERIALLY FROM THOSE PROJECTED IN THE FORWARD LOOKING STATEMENTS. FACTORS THAT MIGHT CAUSE FUTURE RESULTS TO DIFFER MATERIALLY FROM THOSE DISCUSSED IN THE FORWARD LOOKING STATEMENTS INCLUDE, BUT ARE NOT LIMITED TO, THOSE DISCUSSED IN "RISK FACTORS" IN THIS DOCUMENT, AS WELL AS OTHER INFORMATION FOUND IN THE DOCUMENTS WE FILE FROM TIME TO TIME WITH THE SECURITIES AND EXCHANGE COMMISSION, INCLUDING THE ANNUAL REPORT ON FORM 10-K FOR THE YEAR ENDED DECEMBER 31, 2013.

Overview

We are a global leader in open, standards-based unified communications and collaboration ("UC&C") solutions for voice, video and content collaboration solutions. Our solutions are powered by the Polycom® RealPresence® Platform, comprehensive software infrastructure and rich application programming interfaces ("APIs") that interoperate with a broad set of communication, business, mobile, and cloud applications and devices to deliver secure face-to-face video collaboration across different environments. With Polycom® RealPresence® collaboration solutions, from infrastructure to endpoints for all environments, people all over the world can collaborate face-to-face without being in the same physical location. Individuals and teams can connect, communicate, and collaborate through a high-definition visual experience from their desktops, meeting rooms, classrooms, home offices, mobile devices, web browsers, and specialized solutions such as video carts for healthcare applications. By removing the barriers of distance and time, connecting experts to where they are needed most, and creating greater trust and understanding through visual connection, we enable people to make better decisions faster and to increase their productivity while saving time and money and being environmentally responsible.

We sell our solutions globally through a high-touch sales model that leverages our broad network of channel partners, including distributors, value-added resellers, system integrators, leading communications services providers, and retailers. We manufacture our products through an outsourced model optimized for quality, reliability, and fulfillment agility.

We believe important drivers for the adoption of collaboration solutions include:

- UC&C solutions, including voice and video offerings, as a preferred method of communication,

- increasing presence of video on desktop and laptop devices,

- growth of video-capable mobile devices (including tablets and smartphones),

- growth of Microsoft® Lync® in the corporate environment and the resulting impact on sales of Polycom's Lync-compactible voice and video devices,

- expansion of business applications with integrated web-based video and content collaboration,

- virtualization and the move to private, public, and hybrid clouds,

- adoption of UC&C by small and medium businesses,

- growth of the number of teleworkers globally,

- new pricing models and options for video delivery, including subscription-based software pricing and as-a-service offerings,

- emergence of Bring Your Own Device (BYOD) programs in businesses of all sizes, across all regions,

- demand for UC&C solutions for business-to-business and business-to-consumer communications and the move of consumer applications into the business space, and

- continued commitment by organizations and individuals to reduce their carbon footprint and expenses by choosing video collaboration over travel.


We believe we are uniquely positioned as the UC&C ecosystem partner of choice through our strategic partnerships, support of open standards, innovative technology, multiple delivery modes and customer-centric go-to-market capabilities.

Revenues for the three and six months ended June 30, 2014 were $332.0 million and $660.5 million, respectively, a decrease of $13.2 million, or 4%, and $23.4 million, or 3%, respectively, from the same periods in 2013. On a year-over-year basis, our total product revenues declined while service revenues increased. The overall decreases in product revenues for the three and six months ended June 30, 2014 were primarily a result of lower sales of our UC group systems products, mainly driven by lower IP conference phone revenues as a result of Cisco Systems, Inc. ("Cisco" or "Cisco System") no longer reselling a product they previously purchased from us, and, to a lesser extent, due to lower UC platform product revenues. The decreases were partially offset by increased revenues from our UC personal devices products. The increases in service revenues were driven primarily by increased maintenance revenues on a larger installed base and increased maintenance service renewals year-over-year as a result of ongoing efforts to increase maintenance service renewal rates.

From a segment perspective, our Americas, EMEA, and APAC segment revenues accounted for 51%, 25%, and 24%, respectively, of our revenues in the three months ended June 30, 2014. Our Americas and APAC segment revenues decreased by 4% and 10%, respectively, and our EMEA segment revenues increased by 4% in the three months ended June 30, 2014 as compared to the same period in 2013. In the six months ended June 30, 2014, our Americas, EMEA, and APAC segment revenues accounted for 50%, 26%, and 24%, respectively, of our revenues. Our Americas and APAC segment revenues decreased by 5% and 7%, respectively, and our EMEA segment revenues increased by 2% in the six months ended June 30, 2014 as compared to the same period in 2013. On a year-over-year basis, product revenues declined in our Americas and APAC segments, but increased in our EMEA segment, in the three months ended June 30, 2014, and declined across all our regions during the six months ended June 30, 2014. Service revenues increased in our EMEA and APAC segments, but decreased in our Americas segment, in the three months ended June 30, 2014, and increased across all our segments during the six months ended June 30, 2014. See Note 17 of Notes to Condensed Consolidated Financial Statements for further information on our segments, including a summary of our segment revenues, segment contribution margins, and segment gross accounts receivable. The discussion of results of operations at the consolidated level is also followed by a discussion of results of operations by segment for the three and six months ended June 30, 2014 and 2013.

Operating margins increased by 2 percentage points in the three months ended June 30, 2014 and remained relatively flat during the six month period ended June 30, 2014 as compared to the same periods in 2013. The increase in the three months ended June 30, 2014 was primarily due to increased gross margins and decreased operating expenses as a percentage of revenues by 1% each. Increased gross margins were primarily driven by a higher product gross margin as a result of changes in product mix toward higher margin RealPresence Group Series products within our UC group systems product category. The decrease in operating expenses as a percentage of revenues was primarily due to lower headcount and facility related costs due to actions taken to better align expenses to our revenue and gross margin profile and to improve our operating margins, partially offset by higher restructuring charges related to these actions.

During the six months ended June 30, 2014, we generated approximately $80.6 million in cash flow from operating activities, which after the impact of investing and financing activities described in further detail under "Liquidity and Capital Resources," resulted in a $20.5 million net increase in our total cash and cash equivalents from December 31, 2013.


Results of Operations for the Three and Six Months Ended June 30, 2014 and 2013

The following table sets forth, as a percentage of revenues (unless indicated
otherwise), condensed consolidated statements of operations data for the periods
indicated:



                                               Three Months Ended                     Six Months Ended
                                         June 30,             June 30,          June 30,           June 30,
                                           2014                 2013              2014               2013
Revenues:
Product revenues                                 71    %               73 %             71 %                73 %
Service revenues                                 29    %               27 %             29 %                27 %
Total revenues                                  100    %              100 %            100 %               100 %
Cost of revenues:
Cost of product revenues as a % of
product revenues                                 41    %               42 %             42 %                42 %
Cost of service revenues as a % of
service revenues                                 41    %               41 %             41 %                41 %
Total cost of revenues                           41    %               42 %             41 %                41 %
Gross profit                                     59    %               58 %             59 %                59 %
Operating expenses:
Sales and marketing                              29    %               32 %             29 %                32 %
Research and development                         15    %               16 %             15 %                16 %
General and administrative                        7    %                7 %              7 %                 7 %
Amortization of purchased intangibles             1    %                -                1 %                 1 %
Restructuring costs                               3    %                1 %              6 %                 1 %
Transaction-related costs                         -                     -                0 %                 1 %
Total operating expenses                         55    %               56 %             58 %                58 %
Operating income                                  4    %                2 %              1 %                 1 %
Interest and other income (expense),
net:
Interest expense                                 (1   )%                -                -                   -
Other income (expense)                            -                     -                -                   -
Interest and other income (expense),
net                                              (1   )%                -                -                   -
Income from continuing operations
before provision for (benefit from)
income taxes                                      3    %                2 %              1 %                 1 %
Provision for (benefit from) income
taxes                                             -                     -                -                   -
Net income from continuing operations             3    %                2 %              1 %                 1 %
Gain from sale of discontinued
operations, net of taxes                          -                     -                -                   -
Net income                                        3    %                2 %              1 %                 1 %

Revenues

We manage our business primarily on a geographic basis, organized into three
geographic segments. Our revenues, which include product and service revenues,
for each segment are summarized for the periods indicated in the following
table:



                                Three Months Ended                             Six Months Ended
                              June 30,      June 30,        Increase        June 30,      June 30,        Increase
$ in thousands                  2014          2013         (Decrease)         2014          2013         (Decrease)
Americas                      $ 167,806     $ 175,629               (4 )%   $ 330,875     $ 346,610               (5 )%
% of revenues                        51 %          51 %                            50 %          51 %
EMEA                          $  83,067     $  79,727                4 %    $ 172,104     $ 168,819                2 %
% of revenues                        25 %          23 %                            26 %          25 %
APAC                          $  81,146     $  89,878              (10 )%   $ 157,564     $ 168,557               (7 )%
% of revenues                        24 %          26 %                            24 %          24 %
Total revenues                $ 332,019     $ 345,234               (4 )%   $ 660,543     $ 683,986               (3 )%


In the three months ended June 30, 2014, the decrease in total revenues was due to a decrease in product revenues of $14.9 million, or 6%, partially offset by an increase in service revenues of $1.6 million, or 2%, as compared to the same period in 2013. The decrease in product revenues was primarily a result of lower sales of our UC group systems and UC platform products, partially offset by increased sales of our UC personal devices products year-over-year. In the six months ended June 30, 2014, the decrease in total revenues was due to a decrease in product revenues of $29.4 million, or 6%, partially offset by an increase in service revenues of $6.0 million, or 3%, as compared to the same period in 2013. The decrease in product revenues was primarily a result of lower sales of our UC group systems, partially offset by increased sales of our UC personal devices products and, to a lesser extent, increased sales of our UC platform products year-over-year. The increase in service revenues in the three and six months ended June 30, 2014 was primarily driven by increased maintenance service revenues on a larger installed base and increased maintenance service renewals year-over-year, partially offset by decreased revenues from managed services related to the Hewlett-Packard visual collaboration business we acquired in 2011. As these managed services contracts expire, customers may elect to purchase other Polycom product solutions rather than renew their managed services contracts, as was the case for the three months ended June 30, 2014. This trend is likely to continue.

The overall decreases in the Americas and APAC segment revenues in the three and six months ended June 30, 2014 were driven primarily by decreased revenues across several of our key geographic markets, including China, the United States, Canada, Japan, and Brazil, partially offset by increases in Australia, India and Mexico. The overall increases in the EMEA segment revenues in the three and six months ended June 30, 2014 were primarily due to growth in the United Kingdom, France, and Benelux, partially offset by decreases in Russia and the Nordic countries. On a year-over-year basis, product and service revenues decreased in our Americas segment and increased in our EMEA segment in the three months ended June 30, 2014. Our APAC segment product revenues decreased and service revenues increased in the three months ended June 30, 2014. Our product revenues decreased and service revenues increased across all our segments in the six months ended June 30, 2014 as compared to the same period of 2013.

In 2013, Cisco informed us that it would end of life, and therefore no longer resell, the IP conference phones they purchase from us, resulting in a year-over-year decrease of revenues of approximately $13.6 million and $22.5 million in the three and six months ended June 30, 2014, respectively. We do not expect any further revenues from this relationship in 2014. The decrease in the revenues of these IP conference phones as a result of this change accounted for the majority of our year-over-year product revenue decreases in the three and six months ended June 30, 2014. We have been planning for the transition and are working to evolve the features and functionality of our VoIP conference phone portfolio to be interoperable in a Cisco environment.

In the three and six months ended June 30, 2014, one channel partner, ScanSource Communications ("ScanSource"), located in our Americas segment, accounted for 18% of our total revenues, respectively. In the three and six months ended June 30, 2013, ScanSource accounted for 16%% of our total revenues, respectively. We believe it is unlikely that the loss of any of our channel partners would have a long term material adverse effect on our consolidated revenues or segment revenues as we believe end-users would likely purchase our products from a different channel partner. However, a loss of any one of these channel partners could have a short-term material adverse impact.

In addition to the primary view on a geographic basis, we also track revenues by groups of similar products and services for various purposes. The following table presents revenues for groups of similar products and services for the periods indicated:

                                Three Months Ended                             Six Months Ended
                              June 30,      June 30,        Increase        June 30,      June 30,        Increase
$ in thousands                  2014          2013         (Decrease)         2014          2013         (Decrease)
UC group systems              $ 218,448     $ 232,998               (6 )%   $ 431,820     $ 465,425               (7 )%
UC personal devices              53,639        50,849                5 %      110,113       100,095               10 %
UC platform                      59,932        61,387               (2 )%     118,610       118,466                -
Total revenues                $ 332,019     $ 345,234               (4 )%   $ 660,543     $ 683,986               (3 )%

UC group systems include all immersive telepresence, group video and group voice systems products and the related service elements. On a year-over-year basis, the decreases in UC group systems revenues were primarily driven by decreases in sales of our group voice products and related services from our Americas segment and, to a lesser extent, decreases in sales of our group video products and related services from our APAC and EMEA segments and decreases in sales of immersive telepresence products and related services in our Americas and APAC segments. The decreases were partially offset by increased revenues from our group video products and related services from our America segment and, to a lesser extent, group voice products and related services from our EMEA and APAC segments.


UC personal devices include desktop video devices and desktop voice products and the related service elements. The increases in UC personal devices revenues were primarily due to increased sales of our desktop voice products and related services in our Americas and EMEA segments, partially offset by decreased revenues from desktop video products and related services across all regions and, to a lesser extent, decreased revenues from desktop voice products and related services in our APAC segment. Overall, the increases in UC personal devices revenues were due in part to increased demand for our Microsoft® Lync® interoperable solutions and the continued adoption of VoIP technologies.

UC platform includes our RealPresence Platform hardware and software products and the related service elements. The decrease in UC platform revenues in the three months ended June 30, 2014 was driven by decreased sales of our UC platform products and related service in our Americas segment, partially offset by increased revenues from our EMEA and APAC segments. In the six months ended June 30, 2014, the increases in UC platform revenues in our EMEA and APAC segments were largely offset by decreased revenues from our Americas segment, resulting in a less than 1% increase in UC platform revenues.

Cost of Revenues and Gross Margins



                               Three Months Ended                               Six Months Ended
                             June 30,      June 30,         Increase         June 30,      June 30,       Increase/
      $ in thousands           2014          2013          (Decrease)          2014          2013         (Decrease)
Product Cost of Revenues     $  97,710     $ 105,286                 (7 )%   $ 195,346     $ 207,164               (6 )%
% of Product Revenues               41 %          42 %           (1) pt             42 %          42 %              -
Product Gross Margins               59 %          58 %             1 pt             58 %          58 %              -
Service Cost of Revenues     $  39,087     $  38,350                  2 %    $  77,990     $  76,127                2 %
% of Service Revenues               41 %          41 %                -             41 %          41 %              -
Service Gross Margins               59 %          59 %                -             59 %          59 %              -
Total Cost of Revenues       $ 136,797     $ 143,636                 (5 )%   $ 273,336     $ 283,291               (4 )%
% of Total Revenues                 41 %          42 %           (1) pt             41 %          41 %              -
Total Gross Margins                 59 %          58 %             1 pt             59 %          59 %              -

Cost of Product Revenues and Product Gross Margins

Cost of product revenues consists primarily of contract manufacturer costs, including material and direct labor, our manufacturing organization, tooling depreciation, warranty expense, freight expense, royalty payments, amortization of certain intangible assets, stock-based compensation costs and an allocation of overhead expenses, including facilities and IT costs. Cost of product revenues and product gross margins included charges for stock-based compensation of $0.5 million and $0.7 million for the three months ended June 30, 2014 and 2013, respectively, and $1.2 million and $1.6 million for the six months ended June 30, 2014 and 2013, respectively. Cost of product revenues at the segment level consists of the standard cost of product revenues and does not include items such as warranty expense, royalties, and the allocation of overhead expenses, including facilities and IT costs, as well as stock-based compensation costs and amortization of purchased intangible assets.

The increase in the product gross margins as a percentage of revenues in the three months ended June 30, 2014 was primarily due to changes in product mix towards higher margin RealPresence Group Series products within our UC group systems product category and, to a lesser extent, lower freight expense, partially offset by increased royalty expense. Gross margins as a percentage of revenues in the six months ended June 30, 2014 remained relatively flat compared to the same period in 2013. From a segment perspective, product gross margins increased in our Americas segment and decreased in our EMEA segment year-over-year. Product gross margins in our APAC segment increased in the three months ended June 30, 2014 and decreased in the six months ended June 30, 2014, as compared to the same periods in 2013.

Cost of Service Revenues and Service Gross Margins

Cost of service revenues consists primarily of material and direct labor, including stock-based compensation costs, depreciation, and an allocation of overhead expenses, including facilities and IT costs. Cost of service revenues and service gross margins included charges for stock-based compensation expense of $1.1 million and $1.6 million for the three months ended June 30, 2014 and 2013, respectively, and $2.1 million and $3.1 million for the six months ended June 30, 2014 and 2013, respectively. Cost of service revenues at the segment level consists of the standard cost of service revenues and does not include items such as warranty expense, royalties, and the allocation of overhead expenses, including facilities and IT costs, as well as stock-based compensation costs and amortization of purchased intangible assets.


In the three and six months ended June 30, 2014, service gross margins as a percentage of revenues remained relatively flat as compared to the same periods in 2013. On a year-over-year basis, the increased cost of service revenue was primarily due to increased service revenues and direct spending costs, including outside services and warranty expenses which were partially offset by lower managed network costs. From a segment perspective, service gross margins as a percentage of revenues increased in our EMEA and APAC segments and decreased in our Americas segment.

Total Cost of Revenues and Total Gross Margins

On a year-over-year basis, the increase in total gross margins in the three months ended June 30, 2014 was primarily due to the increase in the product gross margins as a percentage of revenues, as discussed under Cost of Product Revenues and Product Gross Margins while service gross margins remained relatively flat, as discussed under Cost of Service Revenues and Service Gross Margins.

We expect gross margins to remain relatively flat in the near term. Forecasting future gross margin percentages is difficult, and there are a number of risks related to our ability to maintain or improve our current gross margin levels. Our cost of revenues as a percentage of revenues can vary significantly based upon a number of factors such as the following: uncertainties surrounding revenue levels, including future pricing and/or potential discounts as a result of the economy or in response to the strengthening of the U.S. dollar in our international markets, and related production level variances; competition; the extent to which new services sales accompany our product sales as well as maintenance renewal rates; changes in technology; changes in product mix; variability of stock-based compensation costs; royalties to third parties; utilization of our professional services personnel as we develop our professional services practice and as we make investments to expand our professional services offerings; fluctuations in freight and repair costs; our ability to achieve greater efficiencies in the installations of our immersive telepresence products; manufacturing efficiencies of subcontractors; manufacturing and purchase price variances; changes in prices on commodity components; warranty and recall costs; and the timing of sales.

Sales and Marketing Expenses



                     Three Months Ended                          Six Months Ended
                   June 30,      June 30,                     June 30,      June 30,
  $ in thousands     2014          2013        Decrease         2014          2013        Decrease
  Expenses         $  97,836     $ 109,657           (11 )%   $ 191,804     $ 218,372           (12 )%
  % of Revenues           29 %          32 %     (3) pts             29 %          32 %     (3) pts
. . .
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