Wednesday, March 31, 2010

Revenue and Earnings Growth

There have been numerous things that were accomplished during the last few years such as the restructuring (like the 5th one in the last 5 years), resolving accounting/filing issues, legal matters, raising capital (Softbank China, Gemdale sale, PCD sale, Building sale, and new stock issue/new investors), and moving to China/getting new BODs. There are still some work to be done on the cost side/restructuring but basically, the main issue now is can they get to profitability, sustain and grow revenues.

The company's model is to have around $350m in revenues, high 20s GMs, and an OPEX under $100m per year. Blackmore has repeatedely mentioned that the cost targets should be achieved by the end of Q2 when the restructuring will be completed, outsourcing in place, and headcount down below 2000 (maybe around 1700). The company has also worked on improving GMs by getting out of the handset business, improving execution on the new BSNL contract, and relying on new products (line of TN products). During Q4, GMs were already at their target range including the deferred revenue (low broadband margins offset by higher pas/iptv margins). On a side note, Huawei's GMs for the last two years were around 40%.

So, in order to drive to profitability, revenue growth is a priority. The company is confident it can get there by Q3 due to the deferred revenue (and lower expenses by that time) but the bigger question is can it sustain it without deferred revenue. The fact is the company will always have deferred revenue just based on the nature of their contracts. Without the $100m in deferred revenue, they would still have $250m this year in "non-deferred" revenue. The company should be able to replace the deferred revenue with the upcoming Phase 3 contract.

Where is the company going to derive "additional" revenue? The company has also layed out that plan and its to do vendor financing to land larger deals. At first glance vendor financing has its drawbacks but done properly, this has a good chance of working. Why? First, other companies like Cisco/Huawei do it and still get very high margins. For their customers, the margins are not as important as getting financing! With $400m in cash, UT is now in a position to go to banks and get low interest loans and do vendor financing. The areas they will be targetting are iptv cable in China and Softbank (TN product/others).

Projections for iptv in China (telecom/cable) should be very healthy and broadband in India as well.

The number of IPTV subscribers in China will double this year to reach 8.5mn by the end of the year (up from 4.4mn in 2009), according to a new report from iSuppli.

"According to me (Vijay Yadav), within next three to five years broadband usage should reach a minimum of 100 m subscribers"

While UT has a good market share in broadband, the payoff will be in iptv and its related services once the number of broadband users expand in India. This will be another area where the additional cash will help going forward.

Revenue growth/impact to earnings - In order for the stock to move higher from here, it has to start generating revenue growth and profits (hard to imagine after all these years). The company has detailed certain time frames for the closing of the building sale/new investor shares. Once that is completed, they can focus on discussing getting their loans (if not already). At that point, it will be about execution as they have more control now of getting profitable contracts and can control their revenue/performance better. Every $100m in new revenue will represent a 30% increase from $350m and yield about $30m in additional gross profits (more if it is tilted to higher margin TN/iptv products and lower if its mostly broadband products). While $100m is large for this company, its not in the overall telecom world (as evidence by Huawei's $18.9 B and $21B revenue the last two years).

Back in 2008, the stock hit almost $6. Looking back, the company was in terrible footing. Without PCD, the company was losing $130m. It was still relying on $250-300m in PAS revenue and the major worldwide recession was still to hit. The company projected needing hundreds of millions in new revenue just to break even and their projections for 2009 was obviously off. This time, the projections could still be off but the much lowered expense by Q3, the existing revenue/deferred revenue, and potential for large revenue increases through vending financing make it more credible that they are on better footing (in terms of getting to sustainable profitability).

We will see if they can execute on their roadmap and start building some consistency/credibility/better performance. As UT CEO Peter Blackmore has said, the heavy lifting has been done and they just have to ride the wave in growth in China/India. Most investors are still cautious as they should due to the history of the company but I think the "ride" should be a lot better for investors going forward. So, how come we aren't at $6 yet :-)