AudioCodes Ltd. (NASDAQ:AUDC) Q1 2023 Earnings Call Transcript May 12, 2023

Operator: Greetings. Welcome to the AudioCodes First Quarter 2023 Earnings Conference Call. At this time all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. [Operator Instructions] Please note, this conference is being recorded. I will now turn the conference over to your host, Roger Chuchen. You may begin.

Roger Chuchen: Thank you, Holly. Hosting the call today are Shabtai Adlersberg, President and Chief Executive Officer; Niran Baruch, Vice President of Finance and Chief Financial Officer; and Dmitry Netis, Chief Strategy Officer and Head of Corporate Development. Before we begin, I’d like to remind you that the information provided during this call may contain forward-looking statements relating to AudioCodes’ business outlook, future economic performance, product introductions, plans and objectives related thereto, and statements concerning assumptions made or expectations as to any future events, conditions, performance or other matters are forward-looking statements as the term is defined under U.S. Federal securities law.

Forward-looking statements are subject to various risks and uncertainties and other factors that could cause actual results to differ materially from those stated in such statements. These risks, uncertainties and factors include, but are not limited to, the effect of global economic conditions in general and conditions in AudioCodes’ industry and target markets, in particular, shifts in supply and demand, market acceptance of new products and the demand for existing products, the impact of competitive products and pricing on AudioCodes and its customers, products and markets; timely product and technology development, upgrades and the ability to manage changes in market conditions as needed, possible need for additional financing, the ability to satisfy covenants in the company’s loan agreements; possible disruptions from acquisitions; the ability of AudioCodes to successfully integrate the products and operations of acquired companies into AudioCodes’ business; possible adverse impact of the COVID-19 pandemic on our business and results of operations; and other factors detailed in AudioCodes’ filings with the U.S. Securities and Exchange Commission.

AudioCodes assumes no obligation to update this information. In addition, during the call, AudioCodes will refer to non-GAAP net income and income per share. AudioCodes has provided a full reconciliation of the non-GAAP net income and income per share to its net income and net income per share according to GAAP in the press release stated – in the press release that is posted on its website. Before I turn the call over to management, I’d like to remind everyone that this call is being recorded. An archived webcast will be made available on the Investor Relations section of the company’s website at the conclusion of the call. With all that said, I’d like to turn the call over to Shabtai. Shabtai, please go ahead.

Shabtai Adlersberg: Thank you, Roger. Good morning and good afternoon, everybody. I would like to welcome all to our first quarter 2023 conference call. With me this morning is Niran Baruch, Chief Financial Officer and Vice President of Finance of AudioCodes. Niran will start off by presenting a financial overview of the quarter. I will then review the business highlights and summary for the quarter and discuss trends and developments in our industry and business. We will then turn it into the Q&A session. Niran?

Niran Baruch: Thank you, Shabtai, and hello, everyone. Before I start my formal remarks, I would like to remind everyone that we will make available shortly an earning supplemental deck on our Investor Relations website. As usual, on today’s call, we will be referring to both GAAP and non-GAAP financial results. The earnings press release that we issued earlier this morning contains a reconciliation of the supplemental non-GAAP financial information that I will be discussing on this call. Revenues for the first quarter were $59.2 million, a decrease of 10.8% over the $66.4 million reported in the first quarter of last year. Services revenues for the first quarter were $13.5 million, up 10.8% over the year-ago period. Services revenues in the first quarter accounted for 51.5% of total revenues.

The amount of deferred revenues as of March 31, 2023, was $77.6 million compared to $76.8 million as of March 31, 2022. Revenues by geographical region for the quarter were split as follows: North America, 46%; EMEA, 31%; Asia-Pacific, 17%; and Central and Latin America, 6%. Our top 15 customers represented an aggregate of 54% of our revenues in the first quarter, of which 40% was attributed to our 11 largest distributors. GAAP results are as follows: Gross margin for the quarter was 61.7% compared to 66.9% in Q1 2022. Operating loss for the first quarter was $0.8 million compared to operating income of $8.1 million in Q1 2022. Net loss for the quarter was $0.2 million or $0.01 per diluted share compared to operating income of $8.6 million or $0.26 per diluted share for Q1 2022.

Non-GAAP results are as follows: Non-GAAP gross margin for the quarter was 62.1% compared to 67.2% in Q1 2022. Non-GAAP operating income for the first quarter was $2.9 million or 4.9% of revenues compared to $11.9 million or 18% of revenues in Q1 2022. Non-GAAP net income for the first quarter was $2.7 million or $0.08 per diluted share compared to $11.2 million or $0.33 per diluted shares in Q1 2022. At the end of March 2023, cash, cash equivalents, bank deposits, marketable securities and financial investment totaled $121.5 million. Net cash provided by operating activities was $3.2 million for the first quarter of 2023. Day sales outstanding as of March 31, 2023, were 97 days. In January 2023, we received court approval in Israel to purchase up to an aggregate amount of $25 million of additional ordinary shares.

The court approval also permits us to declare a dividend of any part of this amount. The approval is valid through July 4, 2023. On February 7, 2023, we declared a cash dividend of $0.18 per share. The dividend in aggregate amount of approximately $5.7 million was paid on March 7, 2023. Regarding headcount, on the heels of the addition of 112 position in 2021 and 81 position in 2022, we added 12 full-time employees in the first quarter of 2023. We ended the first quarter 2023 with 978 employees. To better align our cost structure to current business environment, we recently undertook actions to reduce headcount by 6%, which should yield $8 million annualized savings with full run rate expected to be realized in the beginning of the third quarter.

We plan to evaluate additional cost saving measures over the next six to 12 months. We adjust our guidance for 2023 as follows: We now expect revenues in the range of $240 million to $250 million, down from $286 million to $300 million, and we now guide for non-GAAP diluted net income per share in the range of $0.50 to $0.70, down from our prior outlook of $1.35 to $1.50. I will now turn the call back over to Shabtai.

Shabtai Adlersberg: Thank you, Niran. As we pre-announced earlier this quarter, our first quarter 2023 financial results were impacted materially by the slowing global economy and rising uncertainties worldwide. These macro trends have manifested in enterprise and service provider customers and partners, slowing decision cycles on product purchases, primarily in EMEA. We have also seen North America service providers manage their inventories more tightly as they focus on cash flow optimization and [indiscernible] reduction. Among the business lines that are mostly hurt is the service provider CPE line according – accounting for roughly 10% to 15% of our revenues annually. This line has declined roughly 20% in the quarter year-over-year.

To provide some context around this, one of our North American carrier customers post orders at the beginning of the quarter until the carrier has utilized much of the existing inventory in its warehouses. Towards the end of the first quarter, product shipments to this customer have resumed. While the macroeconomic terms as seen today seem to persist for the rest of the year, we do not expect further decline beyond the first quarter of 2023. We, thus, expect service provider segment to decline roughly 20% in 2023 as the impact from inventory rationalization efforts from North American carriers to slowly subside over the course of the year. The other business line that has suffered decline was the IP phone line, which was mostly affected in Europe.

We have seen channel partners holding purchasing for their inventories as a result of customers delaying product purchase decision for a second quarter in a row now. We saw similar such trends in North America. On a brighter note, the backlog that has been pushed forward is very high at this stage and represents 10s of minutes of value that we could materialize when this crisis is over. One important point to make is that none of these lines discussed so far is strategic to our business. And as such, the overall impact to our business going forward, is of lesser importance. Now that we have discussed what went wrong in the first quarter, let me draw the call to progress made in the quarter and what went well. All-in-all, activity in our main lines of business remained intact and went well as planned in the UCaaS and CCaaS market, though marginally affected by the overall deceleration of the UCaaS space in the first quarter of 2023.

It is important to emphasize that our results do not reflect the change in the enterprise customers’ appetite to migrate to next-generation UC platforms, such as Microsoft Teams and Zoom phone nor a change in the competitive dynamics. The competitive mode that we’ve built with our voice technology and expertise in the UC and CX business remains strong and intact. Rather, we attribute the softness to enterprise’s cautious buying behavior and so our customers are economizing in a tight budget environment. Following Microsoft’s recent earnings results discussing continued strength of E5 banners in number of monthly active users to over 300 million, we believe our secular drivers remain strong as customers continue to consolidate to primary vendor platforms to drive cost effectiveness while doing more with less.

However, we believe there are three potential reasons for the disconnect in our results. The first one, potential lag in activation of home licenses as customers optimize networking budgets; second, headwinds from the ongoing headcount rationalizations; and third, migration from historical license and maintenance model, which is CapEx to recurring our managed services model. All-in-all, I will point out that any CapEx did in the past is now transformed into roughly 20% of value on an OpEx basis, which means that we do miss some of those recurring revenues due to the fact that the overall sale is now extended over several years. We see growth in UCaaS and CCaaS areas were services, which have demonstrated growth of 10.8% year-over-year, with professional and managed services growing 7.8% year-over-year.

Service revenues – service business now represents 51.5% of our quarterly sales. With increased focus on moving to recurring business sales, our managed services business, Live and Live Cloud ended the quarter at $35 million annual recurring revenues, up over 60% year-over-year, with total contract value now at above $110 million. We now expect Live managed services to continue to grow at above 50% growth rate throughout 2023, and we target annual recurring revenues to reach between $46 million and $50 million by the end of this year. We don’t see any reason for that growth rate to not continue in following years. So we’re talking about real growing business very large. And the customer experience market, we saw healthy customer activity during the quarter.

This is our direct enterprise customer experience business roughly flat year-over-year. Now to the reduction in force and updated operating expense budget for 2023. Given customer spending remains pressured by macroeconomic uncertainty near term, we have taken steps to adjust our cost structure and reduce our headcount and operating expenses. We plan for a reduction in force by approximately 8% to 10% over the next 6 to 12 months with 6% of that effective immediately, roughly talking about 60-plus positions in our workforce worldwide. This reduction in force should provide OpEx relief starting in the beginning of the third quarter of 2023. The reduction in force was concentrated in R&D and sales functions globally, yielding $8 million of annualized OpEx savings with full run rate expected to be realized in the beginning of third quarter.

This step will allow us to stabilize our operations and financials for the rest of 2023 as it helps to balance our need to maintain investment in strategic areas of our business while meaningfully improving near-term profitability. We do expect that this reduction in force plan will help substantially improve 2024 financial results, while we plan to see a return to revenue growth coupled with reduced OpEx to improve earnings for 2024 by more than 50% as compared to this year. We will continue to evaluate additional cost-cutting initiatives based on changes in our business environment. Now to some for our key business line. Let’s talk about Microsoft. Microsoft business declined 3% year-over-year in the quarter, with Teams up 5%, while Skype for Business down over 50%.

Skype for Business is now to a very not meaningful level – level of between $1 million to $1.5 million in the quarter. The same factors that influence our total revenue impacted our Microsoft business, namely, cautious enterprise customer spending behavior leading to other push-outs and downsizing of scope and contracts are signed with the weakness, particularly acute in the EMEA region. Importantly, we have not seen any project cancellations as existing projects already in motion or continuous plan. I should also mention that we really do not see any competitive pressure in this area, which is our key business area. Weighted above 250 new Teams accounts in the quarter, up from 256 added in the year-ago period, which is an indication that despite the difficult macro conditions, customers continue to migrate from legacy telephonic systems to next-generation Teams platform, albeit a more rigid pace.

Our long-term opportunity with Microsoft teams remains unchanged. Teams remains the leading collaboration platform with Microsoft having recently disclosed over 300 million monthly active users, up from over 280 million last quarter. Teams Phone, PSTN attach rate at a low digit single – at a lower single-digit percentage of overall monthly active users provides us ample multiyear runway to drive ongoing penetration gains. While Live annual recurring revenue primarily consists of managed services sold to large enterprises and customers, I would like to call out increasing momentum from our Live Cloud, our white-label voice connectivity and application platform. This self-service SaaS platform is available for a multi-vendor UC and CX environments such as Teams, Webex, Zoom and target service provider and system integrators worldwide.

We have scored some notable wins globally. We now have over 50 customers on the platform, highlighting by a number of Tier 1 carrier. This ramp-up is continuing, and we believe as we add on functions to Live Cloud, this platform, automated solution for connecting businesses to Teams and other UCaaS solutions, will pick steam and will drive much of our revenues in the future. Overall, we expect strong momentum in Live services to continue in 2023. Now to the Global Services business. Invoicing was pretty strong. We saw healthy new service created worldwide while total invoicing for the first quarter for total services was about 8.4% growth year-over-year. We sold 12.5% growth in the professional services year-by-year. AudioCodes Live and managed services backlog at this – at the end of the first quarter 2023 was $52 million, that’s compared to $26 million at the end of the first quarter 2022.

This represents roughly 96% year-over-year growth, which tells a lot about the strength and the appeal for our Live managed services with Teams customers. Now let me move to the Voice.AI business. This is becoming a more important business in our overall future. Actually, I would say that while we keep strong on the networking business, we invest a lot in terms of budget in the Voice.AI business. The business was up 5% year-over-year on the back of ongoing momentum seen in Voice.AI Connect and Voca CIC products. We are projecting strong growth in this business over the long haul. Among leading solutions and products in that business are the Voice.AI Connect, connectivity solution, Meeting Insights and our intelligent virtual agent solutions.

Let me go one-by-one. Voice.AI Connect was pretty successful in the first quarter. Invoicing grew 75% year-over-year. Booking was strong. Actually, we saw here more than 10% growth year-over-year. We could have grown further. Unfortunately, we had some delays in projects of some of our major customers. And then newly created opportunities grew above 30% in the quarter. So all-in-all, a very successful product, we don’t see any competition to it. The product allows SIP Telephony to be connected to cognitive services and if you will, ChatGPT-type solution. So a very successful product. Then let’s move to Voca CIC. Voca CIC is our entry-level Microsoft Teams-native AI-first contact center application for the CX market. And it has generated growing interest over 2022, and we plan to step up our efforts in this area.

Voca is a modern lightweight contact center solution designed to provide its integration with Microsoft Teams Voice, allowing companies to effectively deliver a top-notch service experience for caller service their existing team’s infrastructure. Using powerful automation capability, Voca allows easy no-code configuration of self-service, IVR flows, this combined built-in conversational AI with CRM and database dips, together with smart routing to Qs, agents, departments and company contracts, empowering employee experience using CX capability. The Voca solution integrates the Microsoft Teams using with Power model, the latest and U.S. integration method powered by Azure Communication Services. Q1 2023 marked another peak of performance period for the Voca solution with bookings of above $0.5 million, which is equivalent to the overall booking level of 2022.

New opportunity creation was at 92 newly created opportunities in the first quarter. That is 3x as big when compared to the first quarter 2022 creation of opportunities. As of today, Voca CIC has 47 accounts worldwide, out of which 37 were acquired in the past year alone. Now to Meeting Insights. Meeting saw the lifeblood of every organization, where valuable company information is shared among participants. AudioCodes’ Meeting Insights is an enterprise meeting management solution designed to unlock this mountain of information treasure, summarize and analyze the information related in these meetings and shared across the organization to substantially improve productivity and information-sharing among managers and employees. Leveraging AudioCodes’ vast voice expertise, a state-of-the-art voice AI technology, together with integrating it with LLM technologies, large language model, models and technologies such as ChatGPT and other advanced cognitive services, Meeting Insight easily captures and organizes all meeting generating content from team collaboration and training session to sales and recruitment calls.

It generates a automatic meeting summaries and insights, creates organizational data repository and makes important organizational information and searchable and accessible, like, never before, using the notification and mobile-client technology. We already have taken steps to adopt ChatGPT and AI models to our Meeting Insights solutions to enable advanced AI summarization and speech analytics. We plan to deploy in coming weeks, the first such implementation. We expect Voice.AI to now actually running in alpha, and we do plan to ship it to beta customers in less than a month from today. We expect Voice.AI to achieve acceleration in the rest of 2022 and beyond to further expand our success in the UCaaS and CX market. And with that, I’m coming to the end of my introduction.

While results were impacted in the quarter by difficult macro conditions causing the change in customer spending decision and behavior and expanded sales cycles, we are confident that our secular growth drives and competitive position remain intact. We continue to see ample opportunity for innovation in the conversational AI business and transition to live services and customers undergoing digital transformation to cloud with our core UC and CX segment. And with that, I would like to turn the call back to the operator for the Q&A session.

Q&A Session

Operator: At this time we will be conducting a question-and-answer session. [Operator Instructions] Your first question for today is coming from Greg Burns at Sidoti & Company.

Operator: Your next question for today is coming from Samad Samana at Jefferies.

Operator: Your next question for today is coming from Tal Liani at Bank of America.

Operator: Your next question is coming from Ryan MacWilliams at Barclays.

Operator: [Operator Instructions] We have reached the end of the question-and-answer session, and I will now turn the call over to management for closing remarks.

Shabtai Adlersberg: Thank you, operator. I would like to thank everyone who attended our conference call today with more focused planning for the rest of 2023, better control of our expenses to be aligned with revenues this year and strong underlying market trends in our industry in the coming years, we have high confidence in our ability to expand our business in coming years. We look forward to your participation in our next quarterly conference call. Thank you very much. Have a nice day.

Operator: This concludes today’s conference, and you may disconnect your lines at this time. Thank you for your participation.