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spk02: Ladies and gentlemen, thank you for standing by. Welcome to the SELICOM third quarter 2023 results conference call. All participants are present in listen-only mode. Following management's formal presentation, instructions will be given for the question and answer session. As a reminder, this conference is being recorded. You should have all received by now the company's press release. If you have not received it, please contact Silicon's investor relations team at EK Global Investor Relations at 1-212-378-8040 or view it in the news section of the company's website, www.silicon-usa.com. I would now like to hand over the call to Mr. Kenny Green of EK Global Investor Relations. Mr. Green, would you like to begin, please?
spk01: Thank you, operator. I would like to welcome all of you to Silicon's third quarter 2023 results conference call. Before we start, I would like to draw your attention to the following safe harbor statement. This conference call contains projections or other forward-looking statements regarding future events or the future performance of the company. These statements are only predictions and may change as time passes. Silicon does not assume any obligation to update that information. Actual events or results may differ materially from those projected, including as a result of Silicon's increasing dependence for substantial revenue growth on a limited number of customers in the evolving cloud-based SD-WAN, NFV, and edge markets, the speed and extent to which solutions are adopted by these markets, the likelihood that Silicon will rely increasingly on customers which provide these solutions in these evolving markets, resulting in an increasing dependence on a smaller number of larger customers, difficulty in commercializing and marketing of Silicon's products and services, maintaining and protecting brand recognition, protection of intellectual property, competition, disruptions to manufacturing, sales and marketing, development and customer support activities, the impact of the war in Ukraine and the war in Israel, rising inflation, rising interest rates, volatile exchange rates and commodities prices, as well as any continuing or new effects resulting from the COVID-19 pandemic and the global economic uncertainty, which may impact customer demand through exercising greater caution and selectivity with their short-term IT investment plans, as well as other factors discussed in our annual report on Form 20F and other documents filed by the company that may be subsequently filed by the company from time to time with the Securities and Exchange Commission. In addition, Following the company's disclosure of certain non-GAAP financial measures in today's earnings release, such non-GAAP financial measures will be discussed during this call. Such non-GAAP measures are used by management to make strategic decisions, forecast future results, and evaluate the company's current performance. Management believes that the presentation of these non-GAAP financial measures are useful to investors' understanding and assessment of the company's ongoing core operations and prospects for the future. Unless otherwise stated, it should be assumed that financials discussed in this conference call will be on a non-GAAP basis. Non-GAAP financial measures disclosed by management and provided as additional information to investors in order to provide them with an alternative method for assessing our financial condition and operating results. These measures are not in accordance with or a substitute for GAAP. Full reconciliation of non-GAAP to GAAP financial measures are included in today's earnings release, which you can find on Silicon's website and With us on the line today are Mr. Liron Aizman, President and CEO, and Mr. Eran Gilad, CFO. Liron will begin with an overview of the results, followed by Eran, who will provide the analysis of the financials. We'll then turn the call over to the question and answer session. And with that, I would now like to hand the call over to Liron. Liron, please go ahead.
spk00: Thank you, Kenny. Welcome to our Financial Results Conference Hall, discussing our third quarter 2023 results. Our third quarter's revenues were $30.1 million. This is in line with the expectations that we announced last quarter. In terms of profitability, we reported third quarter net profit of $2.1 million and third quarter earning of $0.30 per diluted share. I would like to spend a few moments discussing the very limited visibility we are currently experiencing in the market, the factors currently at play, which are impacting us as well as our expectations for the short and midterms. As I'm sure you remember, since the global COVID shutdown three years ago in 2020, supply chains around the world became tight with very limited availability, especially of electronic components. Silicon, like many other companies, leveraged its strong balance sheet to prudently increase and maintain high inventory levels of components. This was to ensure that we could continue to build the products that our customers need in a timely way, maintain strong business continuity, and most importantly, keep our clients happy with continued top-quality service provisions. Similarly, over the past two years, our customers ordered a high level of our products from us so they can manufacture products for their customers in turn. And this ordering, a good portion for inventory, drove above average demand and high backlog for our products in both 2021 and 2022. However, the second half of 2023 has seen a reversal in this trend. The supply chain's tightness has abated and customers which have built up significant inventories are now drawing on their existing stock of our products where possible. and currently do not need to order significant quantities from us. Another impact is related to industry and economic headwinds facing our customers that began to affect our revenue in the last quarter. Consistent with the rest of our industry, we expect the microeconomics uncertainty to persist into 2024, which impacts our customers' investment ability. This is leading to holding off and longer decision-making processes on new projects, as well as delays and slowing in the the investment and implementation of existing infrastructure projects. Some recent design wins are ramping up significantly more slowly than initially anticipated. Those projects are proceeding cautiously, diverging from the original timelines forecasted by our customers. Given the volatile environment over the past few years, with everything that has happened since COVID, as well as global economic downturn, we are also seeing some changes in our industry, which also possess new challenges, as well as new opportunities in what is already a very low visibility environment. To provide you with just two examples, due to supply chain and component shortages issues, many companies in our industry face manufacturing difficulties in recent years. As a result, those companies are now taking a strategic review of their entire operation process. A result of that may be a decision to change their decision-making processes and integration practices. With that, the selection of the specific server adapter vendor, which will be used for building their systems, may be moved from the company to its integrator. While this may present an opportunity for us with companies which currently do not use our server adapters, it may present a challenge with existing customers that we will face once such customer will exhaust the access inventory it currently has. During the last years, the ownership of few companies in our industry has changed throughout a series of mergers and acquisitions. Such ownership changes may result in significant changes in the identity of a decision maker and may also result in a change in the customer's business focus. Again, such changes may present an opportunity as well as a challenge to Silicon once such customer will exhaust its access inventory. However, for now, it further reduces our already very low visibility. Taking all those factors into account, we expect to see Q4 revenues between 20 and 21 million dollars. Looking further to next year, given our very limited visibility and the factors I just discussed, we expect 2024 to be a challenging year. However, we strongly believe that we will return to double-digit growth in 2025. Given those recent impacts to revenue, we've already begun to take several actions to manage discretionary costs and align spending with the current environment. We are adjusting our expenses footprint to the right level relative to our expected revenue level, ensuring that we maintain investments in activities which will bring Silicon future growth while preserving technological knowledge and customer relationships. Those actions should allow us to reduce the negative impact on our non-GAAP earnings per share without compromising our long-term objectives. We believe that the actions we are taking now, our well-proven long-term experience in managing our expenses and our strong cash position, which currently stands at $67 million, will allow us to maintain a very strong balance sheet through the challenging period ahead of us. In parallel, we intend to increase our focus on the sectors that have allowed us to grow so well in the recent past and those that we believe will remain primary growth drivers for us into 2025 and beyond. Server adapters, including specific FPGA-based and hardware acceleration SmartNICs and edge systems. We have already begun evaluations of all of our research and development and sales and marketing programs with the intention to increase our investments in our focus areas and stop our investments in any out-of-focus areas. We are optimistic about 2025. We believe that by 2025, we will convert some large projects in our pipeline into new design wins, and the ramp-up of existing ones will generate more meaningful revenues. Despite the current challenges, over the immediate term, our mid- to long-term outlook remains positive. Our aim is to return to double-digit revenue growth and recovery in 2025. underpinned by a strong and continually growing list of design wins, many of which are with some of the world's leading players in telco and networking space. I would like to share with you a few examples of the additional revenue potential inherent in our impressive roster of design wins and in our potential design wins pipeline that underlies our expectations for a 2025 recovery. Within this long list, we can easily identify about 20 design wins, a few we have already won, and not yet at the mass production stage, and others that are in the last stages of our potential design wins pipeline, each having a sales addition potential of between half a million and a few million dollars by 2025. Those design wins, with leading networking security and service providers, are for our advanced server adapters and edge system products our strategic focus area. Beyond that, we are continuing to expand our business with a leading U.S.-based provider of enterprise telecommunication services, with which we have already won a few active design wins, and we expect to win more in the coming year. This opportunity by itself has an additional sales potential of about $10 million in 2025. And furthermore, we are expecting to transition from the proof of concept stage to the mass production sales stage for two design wins we have already won with two leading SASE companies, with a sales potential of approximately $10 million in 2025. As SASE grows, and given our both customers' dominant position within the SASE market, We expect strong future growth in sales to those customers. Our balance sheet remains very strong and has been the outcome of a very well-planned and executed strategy over many years. As I said, our net cash position currently stands at $67 million with no debt. It represents an increase of $4 million during the third quarter. Our strong cash position remains a key strategic asset and enables us to continue investing in the long term and overcome challenging periods ahead of us. As we have shown, we are very happy to share the rewards of our continued profitability and cash generation with our shareholders. Based on our strong cash position, we intend to continue to repurchase our shares under the 15 million share repurchase plan that we announced six months ago. I would like to take a moment to address the situation in Israel. We were all absolutely horrified by the terrible attack and kidnapping of ordinary citizens in the south of Israel, which led to the current war by Israel against Hamas in Gaza. All Silicone employees have been affected in a very personal way. Given the small size of our country, we all have friends and know families that were directly impacted by this attack. Many of us have sons and daughters that are in the Israeli army. We all pray for the victims, as well as their families, friends, and loved ones who have been directly or indirectly impacted. We are resilient people and unfortunately have much experience in working, overcoming challenging times. I wish to reaffirm to our employees, partners, and shareholders that our operations and manufacturing have not been impacted in Israel or anywhere else in the world, despite our personal grieving. Naturally, the safety of our employees remains our highest priority. Finally, I also want to personally thank each and everyone who has reached out to us to express their support and best wishes. To summarize, Silicon is navigating a much more challenging short-term environment across many fronts. I want to stress, though, that silicon is well positioned as a key player in our industry, and given the growing potential within our design wind roster, our long and deep pipeline, and our continually growing total addressable market, I am optimistic on our long-term future, especially from 2025 and beyond. We believe that our drivers for long-term demand remain intact as we navigate the current situation We remain highly focused on our first priority target of maintaining our market leadership, developing new products that will act as growth drivers and lead to design wins over many years, delivering on technology roadmaps, and ultimately ensuring customer satisfaction. At the same time, we continue to carefully manage the company expenses and cash position. With that, I will now hand over the call to Eran for a detailed review of the quarter results. Eran, please go ahead. Thank you.
spk03: Thank you, Liron, and hello, everyone. Revenues for the third quarter of 2023 were $30.1 million, a 23% decrease compared with revenues of $39.2 million as reported in the third quarter of last year. Our geographical revenue breakdown over the last 12 months was as follows. North America, 82%, Europe and Israel 15%, Far East and rest of the world 3%. During the last 12 months, we had two 10% plus customers and our top three customers together accounted for about 35% of our revenues. I will be presenting the rest of the financial results on a non-GAAP basis, which excludes the non-cash compensation expenses in respect of options and RSUs granted to directors, officers, and employees, acquisition-related adjustments, as well as lease liabilities, financial income. For the full reconciliation from GAAP to non-GAAP numbers, please refer to the press release we issued earlier today. Gross profit for the third quarter of 2023 was $9.3 million, representing a gross margin of 31.1%, and compared to a gross profit of $14.1 million, a gross margin of 36% in the third quarter of 2022. The higher portion of edge systems sold in the quarter combined with recent higher price pressure from customers, mainly a result of the macroeconomy slowdown, pushed this quarter's gross margin below our expected range of between 32% and 36%. We are currently investigating the specific impacts of various factors on our future gross margin and intend to provide an updated gross margin expected range with the release of the next quarter results. Operating expenses in the third quarter of 2023 were $7.4 million compared to $6.9 million as reported in the third quarter of 2022. Operating income for the third quarter of 2023 was $1.9 million compared to operating income of $7.2 million as reported in the third quarter of 2022. Net income for the quarter was $2.1 million compared to $6.9 million in the third quarter of 2022. Earnings per diluted share in the quarter were 30 cents. This is compared with earnings per diluted share of $1.01 as reported in the third quarter of last year. Now, turning to the balance sheet, As of September 30, 2023, the company's cash, cash equivalents, and marketable securities totaled $67.3 million with no debt or $10.11 per outstanding share. During the third quarter, Silicon purchased approximately 144,000 shares at a cost of $3.9 million, under the 15 million shares repurchase plan we announced earlier this year. In total, Silicon has purchased and aggregated $48 million in share buybacks in recent years. As mentioned by Liron, based on our strong balance sheet and improved cash position, we intend to continue repurchasing our shares at full pace. That ends my summary. I would like to hand back over to the operator for the questions and answer session. Operator?
spk02: Thank you. Ladies and gentlemen, at this time, we will begin the question and answer session. If you have a question, please press star 1. If you wish to cancel your request, please press star 2. If you are using speaker equipment, kindly lift the handset before pressing the numbers. Your questions will be pulled in the order they are received. Please stand by while we poll for your questions. The first question is from Alex Henderson of Needham & Company. Please go ahead. Great.
spk04: Thanks, Operator. Hey, guys. So a lot of moving parts here. Can we start at the upper end of that discussion with respect to ability to sustain profitability. I think you guys have had a track record over an extremely long time of maintaining profitability even in the toughest of events. Yet when I put in the midpoint of the guide for the fourth quarter and don't change anything else in the model, even with a 33% gross margin, I'm getting a very slight loss per share. based on the prior operating structure. So as we're looking into the fourth quarter and into the 24 timeframe, is it fair to say that you guys are going to do whatever it takes to not produce a loss on a quarterly basis and sustain your profitability track record?
spk00: Hey, Alex. So maybe I'll start with the end. I would say on an annual basis, we still plan to be, I would say, break-even or profitable, right? That's our goal on an annual basis. And it does not mean that we will do everything we need to do in order to be there because our plan, based on the analysis we've done, is that we can continue and develop the product that we need and continue to do everything that we need to do in order to grow the company in 2025 and beyond. And we don't want to sacrifice that. That's extremely important for us. But we took steps. We took a lot of steps in order to manage our cost, to make sure that even at our estimated 2024 numbers or the plan that we have in mind, we will be able to still be on an annual basis, be break-even or profitable.
spk04: Right. So it does sound like you think that there is a risk that you could go to a loss position on a quarterly basis here. over that time frame. Is that a fair statement?
spk00: It is possible when we are looking at mainly on the annual level. And as we said during the first part of this meeting, as we go into this situation with $65 million in the bank, we feel comfortable with that. So overall, we feel that we're getting into this bad situation in a reasonably good position.
spk04: So there is a risk of losses on a quarterly basis. Okay. So in that context, you know, obviously the yen's fallen out of bed, and, you know, OPEX should benefit from the yen. The shekel has fallen out of bed. It's down quite a bit, partly because of the conditions that macro conditions, partly because of interest rates, partly because of the war, and that should help your numbers. When will that start to benefit to the cost side?
spk00: Basically already. I mean, in Q3, we've seen, again, there was some increase from Q2, but the impact of the last two weeks obviously were not something you've seen in the Q3 numbers. But overall, we think, yeah, obviously it will impact the numbers from Q4 and beyond.
spk04: Okay. The company made a couple of comments on the call here. One was the GM potential reset, and the other one was the strategic review of your customers. What portion of the customer base do you think is at risk of a strategic review potentially shifting to integrators? And how much of a lag would that create in the timing of purchases if that occurs with those customers? Can you quantify a little bit around that, what portion of your business is related to it?
spk00: Hard to give a number, but I would say it's not very big, but it's also not negligible. I mean, we've seen those as trends, not necessarily decisions that have already been made completely, because those, in some cases, those are debates that are happening in certain companies. And in some cases, it may be decisions that have been made, but were not implemented yet. And as we know, sometimes decisions are being taken and eventually not fully implemented, but but we see it as some kind of phenomena that we see with several customers because of what happened during the COVID and the shortages in the component space. So I hope that answers the question.
spk04: Well, actually, it doesn't give me a lot of information. I was hoping you could give a little more granularity. Is it 10%, 15%, 25% of your customers are contemplating that kind of – or is it, you know, 0% to 5%? Because it really is an important point. If it's a, you know, large percentage of your customers, i.e., 15%, 20%, 25%, that could cause some delay in the timeline for their ramping of their projects. So, you know, we can't analyze this externally. You need to give us some sort of detail around it.
spk00: You're right. I would say that I would estimate it at about $5 million annually.
spk04: Okay, so it's not a large factor. It's a more modest factor.
spk00: Yeah, and still I would say this is at risk. I mean, it's not that we're losing those five.
spk04: I totally understand. But $5 million isn't moving the needle when you're having a $10, $15, $20 million swing in the fourth quarter. So that parameterizes it. And on the GM side of it, Can you give us a little bit more detail on what you think the reason for that 31% number was, and is that a function of manufacturing variances? Is it a function of change in pricing? What caused that, and how much at risk is our model, which is sitting at 32.9%, gross margins and 24 should we be thinking 31 32 or is that still 32 9 still an okay kind of calculus and I know you don't want to give specific guidance but you need to give us some some some guide rails here so number one is and that Iran spoke to that is the mix of products as we see that more
spk00: edge products are being sold compared to the overall revenue that we have in the company, and those products usually have lower GP, then we see the impact more and more. We also feel price pressure from customers due to the economic situation and the situations that have changed now that components are readily available. It's very easy to We do feel the price pressure from companies. Those are the main two factors I would say for that. It's not that something changed dramatically in the way that we manufacture. It's pretty much the same, but the overall two factors of price pressure and the mix of product is causing that.
spk04: In the interim between now and when you can give us a more consistent complete guidance on what you think that guideline should look like for gross margin from the prior guide I think was what 32 to 36. Is it reasonable to think that the modeling that we're currently carrying of 32.9 is a viable number or should we be thinking of a range of 31 to 33 kind of thing, which case we need to make some adjustments.
spk00: So we're looking to that. I mean, that's what Iran is, in his part, talk about is that we're looking into that, we're investigating, we're trying to analyze that as best as we can, and we will provide an update once we feel that we know what is the range we can give.
spk04: Laurent, we really need some guidance here. You're doing a major reset here on these numbers, and I think you need to step up to the plate and give us at least a preliminary thought on whether that band has to come down at least over the short term.
spk00: It will be lower. That's probably something we can say right now. But I think it will be responsible to give a number without doing the full analysis on our side, understanding exactly what we think it will be. And once we do that, we will come in and provide it.
spk04: All right. So let's talk about the commentary about the growth rate, 24 being a, quote, difficult year, and then returning to growth. Your business is down 10%. quite substantially from recent levels. You're running at the fourth quarter, call it $80 to $85 million in run rate revenue. Is that kind of what we should be thinking about in the first half of 24? And then if you've evaluated your customers' inventory levels, It's one thing to say 24 will be difficult, but is it for the full year of 24, or do we start to recover in the back half? Again, we really need some guidance here given the scope of what your reset looks like here. I think the investors deserve that.
spk00: The problem is the visibility, the very low visibility that we have and the economic headwinds that we're seeing all around the world. This is impacting, and it's not allowing us to see a very clear picture for all of 2024, not even for the first quarter of 2024. I cannot tell you exactly what I'm expecting to see there. And yes, it's very limiting us from coming and saying something very definitive on 2024. Apart from the fact that, yes, we think it will be a challenging year due to all the reasons that I provided before. Okay.
spk04: Well, I tried. Thanks.
spk02: The next question is from Ross Taylor of ARS Investment Partners. Please go ahead.
spk05: Thank you. And I second the idea that obviously the sooner you can get clarity to investors, the better things will be for shareholders. At the end of the quarter, what was the inventory level?
spk03: It's written on the balance sheet. It says $63 million.
spk05: So right now you have $63 million in inventory. Do you think that inventory is money good inventory?
spk00: We believe so, yes.
spk05: Okay. So what we're looking at is a case where you've got $63 million in inventory, $67 million in cash, which is, last time I checked, adds up to $130 million. With the stock trading in the mid-16s right now, you've got an enterprise stock or a market cap of about $112 million, which basically indicates that the market is saying that your business has a negative value, X the inventory and cash. A couple of questions, a philosophical question, which, you know, Silicon, even when it was kind of hitting on all cylinders, struggled to get a valuation that would match what one would think it was worth on the numbers. Obviously, there's a lot of questions around the business here. I would assume that, you know, you seem to believe you can, while next year might be a tough year to make money, you, in part because you're investing in a business during a down period, that you believe you can return to some level of reasonable profitability. In the past, you were making, when you were doing in the low 20s in revenues, you were making about a buck and a half a share. How do you see the future when you have a market that literally basically says that the company itself as an operating entity is not worthless, it's actually worth less than zero?
spk00: We are running the company in the way that we believe will generate the most value to our shareholders in the long term. And that means that we need to keep developing products. We need to keep focused on our customers. We need to make sure that we manage our costs in a way that will allow us to make the investments we need in order to achieve all of that. And that's what we're planning to continue in doing.
spk05: How much do you see needing to invest over the next year in this effort?
spk00: Not sure that I fully understand the question, but I mean, the investment that we'll do will be across the board. We need to develop products. We need to have salespeople going and fetching new customers, new opportunities and maintaining our customers. We need project managers to make sure everything runs. We need the operations people. We need to run the company, and we need to invest in inventories if we need to do that. So, I mean, in all of those aspects, when we decided on the cost savings program that we did in order to reduce our cost, we took all of that into account to make sure that we have a company that is laser-focused on the areas that we define as our growth areas, And any area which is not in this focus area was reduced in order to make sure that we are focused on the areas that will get us to grow back again in 2025 and beyond. Okay.
spk05: And at this stage, you've had a lot of wins. You continue to put wins up. But yet what you're seeing is you're seeing difficulty in getting those wins to convert to revenues. Looking at that as a setup, have you seen a period like this in the past in your industry?
spk00: Well, I think that there are a few famous points in history when things went wrong. But, yeah, I mean, the crisis in Silicon has been in business for many years. Obviously, 2008 was a tough point in time. 2001 was a tough point in time. So, yes, I mean, we dealt in the past with such situations. And in previous times, we did not enter into this position with $65 million in cash. But every crisis is different. Every situation is different. And from here, we believe that we have the right pipeline. We have the right team. And we're entering with a position that will allow us to go back to grow in 2025. Yes.
spk05: Well, obviously, the sooner you can get investors and shareholders information on how you see things, obviously, if the industry is itself opaque, it's going to be hard to give us insight. But as I said, it seems the market right now has pretty much given up hope in this company. And it strikes me as there's a tremendous amount of value in this business. It's made good money in the past. It should be able to make good money in the future. It's just a matter of you being able to, I think, you know, convince or bring to the market the information to show us that this is an inning, not a game, so that it will pass and we'll move forward. Thank you very much.
spk00: Thank you.
spk02: If there are any additional questions, please press star one. If you wish to cancel your request, please press star two. Please stand by while we poll for more questions. This concludes the question and answer session. Before I ask Mr. Eisenman to go ahead with his closing statement, I would like to remind participants that a replay of this call will be available by tomorrow on Silicon's website, www.silicon-usa.com. Mr. Eisenman, would you like to make your concluding statement?
spk00: Thank you, operator. Thank you, everybody, for joining the call and for your interest in Silicon. We look forward to hosting you on our next call in three months' time. Good day.
spk02: Thank you. This concludes Silicon's third quarter 2023 results conference call. Thank you for your participation. You may go ahead and disconnect.
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