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RSYS > SEC Filings for RSYS > Form 10-Q on 6-Aug-2014All Recent SEC Filings

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Form 10-Q for RADISYS CORP


6-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 the related notes included in this Report on Form 10-Q and with Management's Discussion and Analysis of Financial Condition and Results of Operations contained in the Company's Annual Report on Form 10-K for the year ended December 31, 2013. Unless required by context, or as otherwise indicated, "we," "us," "our" and similar terms, as well as references to the "Company" and "Radisys" refer to Radisys Corporation and include all of our consolidated subsidiaries.

Overview

Radisys Corporation (NASDAQ: RSYS) is a provider of wireless infrastructure solutions to the telecom market. Our Media Resource Function ("MRF"), T-Series platform products, and Trillium software coupled with an expert professional services organization enable our customers to bring high-value products and services to the telecom market faster and with lower investment and risk. By leveraging our telecom expertise, we are also able to deliver our products and capabilities into


adjacent markets such as aerospace and defense. These products are targeted throughout the telecommunication network from the Radio Access Network ("RAN") to the Evolved Packet Core ("EPC") to the IP Multimedia Subsystem ("IMS") and include the following:

MRF media processing products, which can be purchased either as a complete system based on our own T-Series ATCA platform (MPX-12000) or as virtualized software-only MPX Operating Software ("MPX-OS") when our customers want to leverage other processing platforms, are designed into the IMS core of the network and provide the necessary media processing capabilities required as carriers deploy applications such as audio conferencing, Voice over Long-Term Evolution ("VoLTE"), Rich Communications Services ("RCS") and video conferencing;

T-Series ATCA and Network Appliance products provide the platforms necessary to control and move data in the core of the telecom network enabling networks elements within the EPCs as well as providing a platform for applications such as Deep Packet Inspection ("DPI") and policy management. When these products are combined with our professional service organization of network experts, we believe our technology enables our customers to bring to market solutions such as intelligent gateways (security, femto, and LTE gateways), intelligent switches and load balancers, at a cost and time to market advantage when compared to internally developed solutions;

Trillium software is the protocol foundation for a complete turn-key application that enables the communication linkage between end user wireless devices and the small cell base stations carriers utilize to optimize radio access spectrum utilization and coverage in both the 3G and LTE networks. Our focus is in providing the software to enable 3G and LTE operator-controlled and low-power wireless base stations that provide improved cellular coverage, capacity and applications for homes and enterprises as well as metropolitan and rural public places (known as small cells, femtocells and metrocells); and

We leverage the same Trillium technology to enable small cell applications in adjacent markets such as aerospace and defense as well as manufacturing and test.

Three and Six Months Ended June 30, 2014 Summary

As expected, our first half and second quarter 2014 revenues declined primarily as a result of prior business decisions to exit certain product lines, certain products reaching end of life and the inconsistent customer order patterns within our Software-Solutions product line. Additionally, continued delays in the deployment of next generation wireless networks and the release of required spectrum in certain geographies to support these networks has adversely affected our ability to offset the aforementioned impacts. Despite these challenges, second quarter 2014 revenue increased $6.2 million or 14.1% sequentially from the first quarter 2014 from $43.8 million to $50.0 million and net loss per share decreased sequentially from $0.35 to $0.23. This was driven by a $3.0 million increase in our COM Express and Rackmount Server product group due primarily to sales of end of life products and a $2.6 million increase in our Software-Solutions product group due to growth in our targeted VoLTE MRF products as our customers and partners have begun deploying VoLTE applications in their networks. We expect third quarter revenue to be between $48.0 million and $54.0 million and net loss per share to range from $0.18 to $0.06.

Over the first half of 2014, we have begun to realize the benefits of management's 2013 cost reduction actions. Such actions resulted in reduced second quarter 2014 R&D and SG&A expense by a combined $4.2 million, or 19.4%, in the three months ended June 30, 2014 when compared to the same period in 2013. We expect R&D and SG&A expense to approximate $17.4 million in the third quarter 2014. Our contract manufacturing transition remains on track and is scheduled for completion in the third quarter of 2014. This transition will ultimately enable the closure of our Penang facility and is expected to result in approximately $6 million, or 300 basis points ("bps") of gross margin, in annual savings in cost of goods sold as we exit 2014.

The following is a summary-level comparison of the three months ended June 30, 2014 and 2013:

Revenues decreased $15.4 million to $50.0 million for the three months ended June 30, 2014 from $65.4 million for the three months ended June 30, 2013. Included in this decrease was a combined $4.5 million decline in our Other Products and COM Express and Rackmount Server product groups as certain of these products have been trending towards end of life as a result of prior strategic decisions to manage those products for cash. Sales from our ATCA product group also declined $8.8 million due to fewer current year network deployments combined with prior business decisions to exit low margin blade-only products. Sales of our Software-Solutions products declined $2.2 million primarily due to fewer audio conferencing shipments, including to a top five customer, which adversely affected revenues of our MRF product line.


Our gross margin decreased 570 "bps" in the three months ended June 30, 2014 to 24.0% from 29.7% of revenue in the three months ended June 30, 2013. Unfavorable sales mix, which was driven by decreased sales in our higher margin Software-Solutions product group, was responsible for approximately 320 bps of the decrease. Additionally, the decrease in overall revenue levels absorbed a lower percentage of our fixed costs, which was responsible for 180 bps of the decrease.

R&D expense decreased $3.6 million to $8.4 million for the three months ended June 30, 2014 from $12.0 million for the three months ended June 30, 2013. This decrease is attributable to the cost-saving actions we undertook in the second half of 2013, which included the closure of our Shanghai and Penang development sites.

SG&A expense decreased $0.5 million to $9.0 million for the three months ended June 30, 2014 from $9.5 million for the three months ended June 30, 2013. This decrease was the result of payroll, commissions, and facility expense reductions due to decreased headcount, lower sales, and site consolidation.

Cash and cash equivalents increased $9.1 million to $34.6 million at June 30, 2014 from $25.5 million at December 31, 2013. We raised $20.6 million in cash as a result of a public offering of our common stock during the first quarter of 2014. This increase was offset by consumption of $5.3 million of cash used in operations (including $2.0 million in cash restructuring payments) and $1.3 million of cash used for capital expenditures. Further, during the second quarter of 2014 we repaid $5.0 million in debt that was previously outstanding under our Silicon Valley Bank line of credit.

Comparison of the Three and Six Months Ended June 30, 2014 and 2013

Results of Operations

The following table sets forth certain operating data as a percentage of
revenues for the three and six months ended June 30, 2014 and 2013:
                                       Three Months Ended       Six Months Ended
                                            June 30,                June 30,
                                        2014         2013       2014        2013
Revenues                              100.0  %     100.0  %    100.0  %   100.0  %
Cost of sales:
Cost of sales                          71.9         66.9        70.9       67.4
Amortization of purchased technology    4.1          3.4         4.4        3.3
Total cost of sales                    76.0         70.3        75.3       70.7
Gross margin                           24.0         29.7        24.7       29.3
Research and development               16.8         18.4        17.9       17.6
Selling, general, and administrative   17.9         14.5        19.8       15.4
Intangible asset amortization           2.5          2.0         2.7        2.0
Restructuring and other charges, net    1.6         (0.2 )       2.3        0.9
Loss from operations                  (14.8 )       (5.0 )     (18.0 )     (6.6 )
Interest expense                       (0.7 )       (0.4 )      (0.7 )     (0.5 )
Other income, net                       0.3          0.3         0.4        0.3
Loss before income tax expense        (15.2 )       (5.1 )     (18.3 )     (6.8 )
Income tax expense                      1.2          1.2         1.6        1.2

Net loss (16.4 )% (6.3 )% (19.9 )% (8.0 )%


Revenues

The following table sets forth our revenues by product group for the three and
six months ended June 30, 2014 and 2013 (in thousands):
                                         Three Months Ended                    Six Months Ended
                                              June 30,                             June 30,
                                    2014         2013       Change       2014         2013        Change
ATCA Platforms                   $ 22,966     $ 31,722     (27.6 )%   $ 46,158     $  66,540     (30.6 )%
Software-Solutions                 10,400       12,612     (17.5 )      18,241        24,261     (24.8 )
COM Express and Rackmount Server   13,456       14,218      (5.4 )      23,917        28,845     (17.1 )
Other Products                      3,142        6,886     (54.4 )       5,447        13,970     (61.0 )
Total revenues                   $ 49,964     $ 65,438     (23.5 )%   $ 93,763     $ 133,616     (29.8 )%

Revenues in the ATCA product group decreased $8.8 million for the three months ended June 30, 2014 from the comparable period in 2013. This was driven by a $6.0 million decrease in revenues from North American customers due to last time buys that were substantially completed in the first half of 2013 and fewer current year network deployments.

Revenues in the ATCA product group decreased $20.4 million for the six months ended June 30, 2014 from the comparable period in 2013. This was driven by a $11.6 million decrease in revenues from North American customers due to fewer current year network deployments and last time buys. Additionally, Asia Pacific revenues decreased $9.0 million due to LTE deployments in Japan that were substantially complete in the second half of 2013.

Revenues in the Software-Solutions product group decreased $2.2 million and $6.0 million for the three and six months ended June 30, 2014 from the comparable periods in 2013. The decrease is attributable to the timing of MRF deployments for use in audio conferencing applications during the first half of 2013 which were not repeated in 2014. Specifically, a top five customer has shifted its port redundancy strategy to more efficiently use previously licensed ports throughout their network rather than purchasing additional ports to support increased network usage. The decrease in audio conferencing revenue was offset by revenue growth of $2.0 million and $1.7 million for the three and six months ended June 30, 2014 from the comparable periods in 2013 in our targeted VoLTE MRF products as our customers and partners have begun deploying VoLTE applications in their networks.

Revenues in the COM Express and Rackmount Server product group decreased $0.8 million for the three months ended June 30, 2014 from the comparable period in 2013 as the result of our strategic decision to manage for cash the value-line of our COM Express modules. The decline was offset by $2.8 million in last time buys from a top five customer.

Revenues in the COM Express and Rackmount Server product group decreased $4.9 million for the six months ended June 30, 2014 from the comparable period in 2013 as the result of our strategic decision to manage for cash the value-line of our COM Express modules. The decline was offset by a $0.5 million in last time buys from a top five customer in the second quarter of 2014.

Revenues in the Other Products product group decreased $3.7 million and $8.5 million for the three and six months ended June 30, 2014 from the comparable periods in 2013. The decline in revenues was expected by management as these hardware-centric products trend towards end of life and our largest customer continues to transition to next-generation network elements.


Revenue by Geography

The following tables outline overall revenue dollars and the percentage of
revenues, by geographic region, for the three and six months ended June 30, 2014
and 2013 (in thousands):
                                        Three Months Ended                    Six Months Ended
                                             June 30,                             June 30,
                                   2014         2013       Change       2014         2013        Change
North America                   $ 19,604     $ 30,512     (35.7 )%   $ 36,434     $  57,214     (36.3 )%
Asia Pacific                      15,600       19,432     (19.7 )      33,095        45,954     (28.0 )
Europe, the Middle East and
Africa ("EMEA")                   14,760       15,494      (4.7 )      24,234        30,448     (20.4 )
Total                           $ 49,964     $ 65,438     (23.6 )%   $ 93,763     $ 133,616     (29.8 )%



                Three Months Ended        Six Months Ended
                     June 30,                 June 30,
                 2014         2013         2014       2013
North America    39.3 %        46.6 %      38.9 %     42.8 %
Asia Pacific     31.2          29.7        35.3       34.4
EMEA             29.5          23.7        25.8       22.8
Total           100.0 %       100.0 %     100.0 %    100.0 %

North America. Revenues from the North America region decreased $10.9 million and $20.8 million for the three and six months ended June 30, 2014 from the comparable periods in 2013. Revenues from our ATCA product group decreased $4.2 million and $9.0 million as a result of fewer current year network deployments and last time buys. Similarly, COM Express and Rackmount Server product group sales decreased $2.4 million and $5.2 million as the result of our strategic decision to manage for cash the value-line of our COM Express modules. In addition, our Software-Solutions product group sales decreased $1.9 million and $3.1 million due to the timing of MRF deployments for use in audio conferencing applications during the first half of 2013 which were not repeated in 2014. The decrease in audio conferencing revenue was offset by revenue growth of $0.9 million and $1.7 million for the three and six months ended June 30, 2014 from the comparable periods in 2013 in our targeted VoLTE MRF products.

Asia Pacific. Revenues from the Asia Pacific region decreased $3.8 million and $12.9 million for the three and six months ended June 30, 2014 from the comparable periods in 2013. Revenues a major customer using our products to deploy next-generation wireless networks in Japan decreased $2.9 million and $6.7 million as these projects were substantially completed by the end of 2013.

EMEA. Revenues from the EMEA region decreased $0.7 million and $6.2 million for the three and six months ended June 30, 2014 from the comparable periods in 2013 due to $4.3 million and $7.7 million decreases from our Other Products product group as these hardware-centric products trend towards end of life and our largest customer continues to transition to next-generation network elements. In the second quarter of 2014, the decline was offset by a $2.8 million COM Express and Rackmount Server product group last time buy from a top five customer.

We currently expect continued fluctuations in the revenue contribution from each geographic region. Additionally, we expect non-U.S. revenues to remain a significant portion of our revenues.


Gross Margin

The following table summarizes our cost of sales and gross margin for the three
and six months ended June 30, 2014 and 2013 (in thousands):
                                             Three Months Ended                    Six Months Ended
                                                  June 30,                             June 30,
                                        2014         2013       Change       2014         2013       Change
Cost of Sales                        $ 35,902     $ 43,756     (17.9 )%   $ 66,499     $ 90,062     (26.2 )%
Amortization of Purchased Technology    2,055        2,218      (7.3 )       4,109        4,435      (7.4 )
Total Cost of Sales                  $ 37,957     $ 45,974     (17.4 )    $ 70,608     $ 94,497     (25.3 )
Gross Margin                             24.0 %       29.7 %   (19.2 )%       24.7 %       29.3 %   (15.7 )%

Gross margin as a percentage of revenues decreased 570 bps for the three months ended June 30, 2014 from the comparable period in 2013. Unfavorable sales mix, which was driven by decreased sales in our higher margin Software-Solutions product group, was responsible for approximately 320 bps of the decrease. Additionally, the decrease in overall revenue levels absorbed a lower percentage of our fixed costs, which was responsible for the remaining 180 bps of the decrease.

Gross margin as a percentage of revenues decreased 460 bps for the six months ended June 30, 2014 from the comparable periods in 2013. This was the result of declined revenue across all product groups which represented 190 bps of the change. Lower revenue levels absorbing a lower percentage of our fixed costs were responsible for 280 bps of the change. These decreases were offset by a $1.4 million gain resulting in a 150 bps increase from a vendor claim on faulty components recorded in cost of sales during the first quarter of 2014.

Operating Expenses

The following table summarizes our operating expenses for the three and six
months ended June 30, 2014 and 2013 (in thousands):
                                         Three Months Ended             Six Months Ended
                                              June 30,                      June 30,
                                      2014      2013     Change     2014      2013     Change
Research and development             $8,408    $12,020   (30.0)%   $16,827   $23,555   (28.6)%
Selling, general and administrative   8,953     9,527     (6.0)    18,549    20,623    (10.1)
Intangible asset amortization         1,260     1,304     (3.4)     2,557     2,608     (2.0)
Restructuring and other charges, net   815      (114)     814.9     2,115     1,156     83.0
Total                                $19,436   $22,737   (14.5)%   $40,048   $47,942   (16.5)%

Research and Development

R&D expenses consist primarily of product development costs, related equipment expenses and salary, bonuses and benefits for R&D personnel. R&D expenses decreased $3.6 million and $6.7 million for the three and six months ended June 30, 2014 from the comparable periods in 2013. The expense decrease is attributable to our second half 2013 restructuring efforts including our Shanghai and Penang site closures that enabled reductions in salary, overhead and other expenses. R&D headcount decreased year over year at June 30, 2014 from 459 to 411.

Selling, General, and Administrative

SG&A expenses consist primarily of salary, commissions, bonuses and benefits for sales, marketing and administrative personnel, as well as professional service providers and the costs of other general corporate activities. SG&A expenses decreased $0.5 million and $2.1 million for the three and six months ended June 30, 2014 from the comparable periods in 2013. Restructuring efforts in the second half of 2013 drove headcount reductions and contributed to a decrease in salary expense of $0.7 million and $1.1 million for the three and six months ended June 30, 2014 from the comparable periods in 2013. SG&A headcount decreased year over year at June 30, 2014 from to 197 to 170. Additionally, commission expense decreased $0.3 million and $0.8 million for the three and six months ended June 30, 2014 from the comparable periods in 2013 as a result of lower sales as our commission plan is weighted towards revenue-based incentives.


Intangible Asset Amortization

Intangible asset amortization for the three and six months ended June 30, 2014 was comparable with the same periods in 2013 due to routine amortization of acquired intangible assets.

Restructuring and Other Charges, Net

Restructuring and other charges, net includes expenses associated with restructuring activities and other non-recurring gains and losses. We evaluate the adequacy of the accrued restructuring charges on a quarterly basis. As a result, we record reversals to the accrued restructuring in the period in which we determine that expected restructuring and other obligations are less than the amounts accrued.

The increase in restructuring and other charges, net for the three and six months ended June 30, 2014 from the comparable periods in 2013 is primarily due to restructuring actions associated with our Shanghai and Penang development site closures.

Restructuring and other charges, net for the three months ended June 30, 2014 include the following:

$0.4 million net expense relating to the severance of employees in connection with the previously reported Penang site closure, as well as severance for two additional employees, net of reductions resulting from changes in previously estimated amounts for employee severance and associated payroll costs;

$0.5 million integration-related net expense principally associated with asset disposals and personnel overlap resulting from resource consolidation primarily associated with our Penang site closure; and

$0.1 million gain due to the decrease in fair value of the Continuous Computing contingent consideration liability. We assess the fair value of the contingent consideration liability on a quarterly basis, adjusting the liability to fair value based on a detailed analysis of all expected contingent consideration eligible revenues.

Restructuring and other charges for the three months ended June 30, 2013 include the following:

$0.2 million gain resulting from forgiveness of remaining contractual payments due to our cancelled Security Gateway ("SEG") program partner;

$0.6 million gain due to the decrease in fair value of the Continuous Computing contingent consideration liability; and

$0.6 million net expense for severance and benefits associated with employee restructuring actions.

Restructuring and other charges, net for the six months ended June 30, 2014 include the following:

$1.3 million net expense relating to the severance of employees in connection with the previously reported Penang site closure, as well as severance for 14 additional employees, net of reductions resulting from changes in previously estimated amounts for employee severance and associated payroll costs;

$1.0 million integrated-related net expense principally associated with asset disposals and personnel overlap resulting from resource consolidation primarily associated with our Penang site closure; and

$0.1 million gain due to the decrease in fair value of the Continuous Computing contingent consideration liability.

Restructuring and other charges, net for the six months ended June 30, 2013 include the following:

$2.9 million write off of our SEG purchased technology asset due to management's decision to abandon future development of this technology;

$1.5 million net gain from the sale of our OS-9 software assets;

$1.3 million gain due to the decrease in fair value of the Continuous Computing contingent consideration liability; and

$1.2 million net expense for the severance and benefits associated with employee restructuring actions.

Stock-based Compensation Expense

Included within cost of sales, R&D and SG&A are stock-based compensation expenses that consists of amortization of unvested stock options, restricted stock units and employee stock purchase plan ("ESPP") expense. We incurred and recognized stock-based compensation expense as follows (in thousands):


                                         Three Months Ended               Six Months Ended
                                              June 30,                        June 30,
                                      2014       2013     Change      2014       2013     Change
Cost of sales                       $   151    $   111     36.0 %   $   282    $   241     17.0 %
Research and development                324        234     38.5         553        483     14.5
Selling, general and administrative     985        678     45.3       1,746      1,398     24.9
Total                               $ 1,460    $ 1,023     42.7 %   $ 2,581    $ 2,122     21.6 %

Stock-based compensation expense increased $0.4 million and $0.5 million for the three and six months ended June 30, 2014 from the comparable periods in 2013 due to increases in LTIP expense. This change was primarily driven by an increase in the Company's stock price on the LTIP award measurement date for the respective tranche in the current year as compared to the prior year.

Non-Operating Expenses

The following table summarizes our non-operating expenses (in thousands):
                        Three Months Ended                Six Months Ended
                             June 30,                         June 30,
                    2014       2013      Change      2014       2013      Change
Interest expense  $ (345 )   $ (281 )    22.8  %   $ (632 )   $ (613 )     3.1  %
Interest income        1         12     (91.7 )        10         23     (56.5 )
Other income, net    156        214     (27.1 )       326        350      (6.9 )
Total             $ (188 )   $  (55 )   241.8  %   $ (296 )   $ (240 )    23.3  %

Interest Expense

. . .

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