Good afternoon. Welcome to DASAN Zhone Solutions Fourth Quarter and Fiscal Year 2019 Conference Call. Joining us today are the company's CEO, Yung Kim; and CFO, Tom Cancro. Before we begin, I would like to provide DASAN Zhone Solutions' safe harbor statement.

During this call, management will provide projections and other forward-looking statements regarding future events or the future financial performance of the company. The company cautions you that such statements are only current expectations and actual events or results may differ materially.

Please refer to documents that the company files with the SEC, including its most recent 10-Q and 10-K reports and the forward-looking statements section of today's preliminary results press release.

These documents identify important risk factors that could cause actual results to differ materially from those contained in the company's projections or forward-looking statements. Please note that unless otherwise indicated, the financial metrics being provided to you on this call are determined on a non-GAAP basis.

These items, together with corresponding GAAP numbers and a reconciliation to GAAP, are contained in today's press release, which have been posted on DASAN Zhone Solutions' website and filed with the SEC on Form 8-K. Management will also discuss historical, financial and other statistical information regarding its business and operations.

Some of this information is included in the press release and the remainder of the information will be available in a recorded version of this call on our website. With that, I'll now turn the call over to the company's CEO, Yung Kim. Sir, please proceed..

Thank you, operator, and thank you, everyone, for joining us. Today, we reported our results for the fourth quarter and the full year 2019, which demonstrate real progress on our strategic agenda but, at the same time, reflect a more turbulent carrier spending environment than expected, especially in the latter half of the year.

Underneath this headline, it is very much a tale of 2 stories. Positively due to the accelerated adoption of our new 5G mobile backhaul and fronthaul solutions, our backlog in the fourth quarter grew more than 50% sequentially, setting the stage for continued revenue growth in 2020.

On the other hand, as we discussed previously, some of our customers are grappling with the complex technical and operational consideration associated with their ongoing transitions from 4G to 5G and from copper to fiber broadband access networks. The impacts of these transitions have continued to alter the timing of their capital investments.

And the customers have shifted several projects out of both Q4 and the current quarter into future periods. So while customer engagement, activity levels and bookings are all accelerating, Q1 will remain a challenge. As you all are aware, the coronavirus has affected supply chain and constrained production for many businesses with operations in China.

We are no exception. And this global issue has already adversely impacted our near-term outlook. While the effects of the coronavirus are difficult to estimate and the situation remains dynamic, we have reduced our first quarter and the full year 2020 revenue guidance to account for our estimate of the impact at this time.

Despite the impact of the coronavirus and our softer start to the year, we see a market environment that is slowly starting to improve, coupled with the building momentum we are seeing with our new products.

While we are in the early innings of demonstrating the true potential of our next-generation 5G architecture, it is increasingly clear that DZS's mobile anyhaul platform has the potential to be a significant revenue driver for the company.

As many of you on this call may already know, we embarked on a journey nearly two years ago to address roughly $7 billion annual mobile anyhaul market opportunity.

Notably, this expanding opportunity is driven by mobile operators' planned disruptive transition to more flexible, ultra high-speed, low latency wireless broadband network to enable new services spanning the Internet of Things to fix wireless.

Well, I'm quite pleased to say we are making meaningful progress developing adoption of our new 5G mobile anyhaul platform and in the end winning new high-profile business in Japan. During the quarter, we booked a multimillion -- a multi tens of million dollar order from a key Tier 1 carrier.

We are leveraging our advanced technology portfolio to ease the customer's operations and transform the cost of deployment. As a result of this new win, we enter 2020 with the strongest pipeline of 5G projects in our company's history, and we have already received purchase orders for over half of the business we are expecting from Japan this year.

The first shipment will commence in Q2, and we expect a steady ramp throughout the balance of the year with Japan quickly becoming our largest target market opportunity worldwide.

Due to an intensifying level of competition among service providers to deliver multi-gigabit data rates, the long-term trend of carriers offering high-capacity broadband access technologies, including next-generation 5G technology, remains in force.

This trend reaffirms our investment strategy in 5G and in significantly expanding new market opportunity as more and more carriers worldwide adopt this new technology closely related to 5G deployment.

Although with broad -- broader near-term applications, we are also seeing growing new customer interest and the meaningful activity associated with our next-generation fiber access solutions and virtualization, we have received excellent initial reviews on these initiatives from key Tier 1 service providers, and we look forward to keeping you apprised of our product development and customer evaluation progress.

We are also maintaining an aggressive investment strategy to further accelerate both our 5G and next-generation fiber-to-the-home initiative as we continue to see an increasing number of customers transitioning to fiber-based access solutions from legacy copper.

We are working to expand our position as a global leader in fiber-to-the-home technology and the port shipments. Especially, we are currently working to land new Tier 1 and Tier 2 customers in the Americas and in Europe, where demand for these solutions is accelerating and customer engagement activity levels have increased.

To further enhance our engineering capabilities and efficiency, I'm also pleased to inform you that we have recently executed a new list to move our headquarters and the U.S. engineering center to Plano, Texas.

The broader Dallas area is not only more cost-efficient, but it contains a strong pool of talented engineers, which has the potential to make DZS even more innovative and better positioned to capitalize on new market opportunities in next-generation wireless network extraction and virtualization.

Now let's pivot and take a look at the business from geographic perspective as well as provide additional color on where we expect growth in 2020. Throughout 2019, North America underperformed with the revenue down approximately $14 million year-over-year. Frankly, this is an area where we didn't see the opportunities in front of us.

To rectify the situation, we recently hired a new U.S. sales team -- sales leadership team, and we are already starting to see positive benefit from this change. In Latin America, we continue to experience the impact of customer consolidation and heightened competition from Chinese vendors.

To combat these obstacles, we are currently introducing a completely refreshed line of products in the region, which we believe will improve our competitive position. That said, it will take time to fully recover and our Latin American business, they decline further in 2020.

In Europe, spending broadly slackened in front of major new investment in fiber-based access solutions and see that passed. We see a new wave of investment forming here, and we expect new business opportunities to start converting to revenue in Q2 and beyond.

Asia Pac was down slightly from 2018, with the Korea up 4% for the year, with other APAC down 5% and business in India sold in the wake of last summer's elections. Looking ahead, we don't expect strong contributions from India to return to in 2020. However, we do see modest growth in Korea this year.

And as I mentioned earlier, meaningful growth from Japan commencing in late Q2. In addition to Japan, another bright spot for us in 2019 was the Middle East, Africa region, where we are winning important new business with the leading Tier 1 carriers and government agencies in Saudi Arabia, Egypt, Dubai and elsewhere.

And here, too, we see continued growth in 2020. In summary, while we have hit a speed bump in 2019. I can tell you that through several years of investment and close collaboration with our customers, this company is better aligned strategically with the future investment profile of our customers than at any time in our history.

We have developed a disruptive, innovative solution that is garnering significant industry attention. Our differentiation has noticeably taken center stage with our interoperability and open network capabilities and support, a compelling total cost of ownership proposition and a strong global brand.

And we are increasingly outpacing our competitors as we better leverage our existing intellectual property and create new intellectual property to take market share, drive operating synergies and position our company for healthy and profitable growth.

With that covered, I'd like to introduce our new CFO, Tom Cancro, who will be working you through the financials for the fourth quarter and fiscal 2019. Tom has been a visible resource since he joined our organization in December, and we are more than happy to have him on board.

Tom?.

Thank you, Yung. It's a pleasure to speak with all of you today, and I look forward to having the opportunity to visit many of you in the coming weeks and months. Turning to our financial results for the fourth quarter and full year ended December 31, 2019.

Net revenue for the fourth quarter of 2019 was $77.6 million, which compares to $74.7 million of net revenue in Q4 of 2018. Q4 '19 revenue was up 8.5% from the prior quarter and up 3.9% from Q4 of last year.

The year-over-year change in net revenue for the quarter was primarily due to the acquisition of KEYMILE and, to a lesser extent, growth from the Middle East and Africa region, as Yung mentioned. From a customers' standpoint, SK Broadband was the only customer that represented more than 10% of our revenues in the quarter. It was 11% of net revenue.

Our top 10 customers in Q4 represented 56% of our net revenue, which was down from 65% in the same period last year. Looking at geographies for 2019. Products shipped to customers in North America accounted for 13% of net revenue in the fourth quarter. Korea accounted for 26%. Other Asia Pacific was 28%. Europe, Middle East and Africa was 25%.

And Latin America was 8%. For the full year 2019, net revenue was $306.9 million, which grew 9% from the $282.3 million we did in 2018. The improvement in net revenue for the year was primarily driven with the KEYMILE acquisition, which closed at the start of first quarter 2019 and which more than offset the $14.1 million decline in North America.

GAAP gross margin in the fourth quarter was 32.6%, which was up from the 30.8% we reported in Q4 of 2018. For the full year 2019, GAAP gross margin was 32.6%, which was up slightly from the 32.3% we reported last year.

The higher gross margin in both periods reflects geographic mix changes as well as increased sales of higher-margin product in the comparable period. Turning to our expenses. GAAP operating expenses in the fourth quarter were $30.5 million or 39.4% of net revenue compared to $22.2 million or 29.7% of net revenue in Q4 '18.

The increase in GAAP OpEx was primarily due to the inclusion of KEYMILE's operations as KEYMILE was not in our results a year ago, also a restructuring charge of $4.9 million associated with cost reductions implemented at KEYMILE in the end of Q4 and a $1 million impairment to goodwill associated with KEYMILE.

Non-GAAP operating expenses, which excludes depreciation and amortization, stock-based compensation, restructuring and the impairment to goodwill, were $23.3 million or 30.1% of net revenue for the quarter compared to $19.8 million or 26.5% of net revenue in Q4 of 2018.

For the full year ended December 31, 2019, GAAP operating expenses were $107.1 million or 34.9% of net revenue. Non-GAAP operating expenses were $94.3 million or 30.7% of net revenue. This compares to GAAP operating expenses of $84.2 million or 29.8% of total revenue and non-GAAP operating expenses of $78.9 million or 28% of net revenue in 2018.

Adjusted EBITDA in the fourth quarter of 2019 totaled $1 million compared to $3.2 million in Q4 of '18. For the full fiscal year, adjusted EBITDA totaled $9.3 million compared to $12.2 million in 2018. Our GAAP net loss attributable to DZSI for the fourth quarter of 2019 was $10.2 million or $0.48 per diluted share.

This compares to a GAAP net loss attributable to DZSI of $554,000 or $0.03 per diluted share in the year ago period. For fiscal year 2019, our GAAP net loss attributable to DZSI was $13.5 million or a loss of $0.69 per diluted share. This compares to GAAP net income attributable to DZSI of $2.8 million or $0.17 per diluted share in 2018.

At year-end, cash and cash equivalents, excluding restricted cash, were $28.7 million, down from $47.9 million at the end of Q4.

The decline in cash was largely associated with a $10 million pay down of our term loan from PNC and Citi, retirement of a separate $2.3 million note in connection with the KEYMILE acquisition and the $4.9 million of restructuring I mentioned previously.

Consistent with our strategic initiatives, and as Yung mentioned earlier, to accelerate innovation and reduce costs, we recently executed a new lease to move our headquarters and U.S. engineering operations to Plano, Texas. This space was largely built out for us already, so fixed asset additions and leasehold improvements will be modest.

On the topic of reducing costs, I'm pleased to announce that we've reduced -- we've reached an agreement on a new term loan with DASAN Networks Inc. at 44% shareholder. This 2-year term loan with DNI will be in the amount of KRW 22.4 billion or approximately $18.5 million and will carry a 4.6% fixed interest rate.

The proceeds will be used to refinance our credit facility with PNC and Citi, which carried significantly higher interest costs and fees. As a result of the new financing, we'll achieve interest savings in 2020 at an annualized rate of approximately $500,000.

We intend to prepay and terminate the existing credit facility and to cash collateralize our outstanding undrawn letters of credit later this month. Our day sales outstanding at the end of Q4 was 112 days compared to 127 days in Q3 and 86 days in the year ago period.

Our days inventory on hand was 68 days at the end of 2019 compared to 79 days at the end of Q3 and 69 days at the end of 2018. Moving on to our financial outlook. As Yung mentioned, we've entered 2020 with a healthy backlog, good customer momentum.

With the expected ramp-up of 5G to begin midway through the year, we believe there's reason to be optimistic about 2020. Nevertheless, market dynamics over the past several quarters and more recent global health concerns impacting our supply chain and production capabilities keep us cautious in the near term.

So with that in mind, for the first quarter of 2020, we expect net revenue of $43 million to $48 million. Non-GAAP gross margin of 30% to 31%. Non-GAAP operating expenses of $22 million to $23 million and an adjusted EBITDA of negative $9.5 million to negative $6.5 million.

For the full year of 2020, we expect net revenue of $305 million to $325 million. Non-GAAP gross margin of 31.5% to 32.5%. Non-GAAP operating expenses of $90 million to $94 million. And adjusted EBITDA of $4 million to $17 million. With that, I'll turn the call back over to Yung.

Yung?.

Thanks, Tom. The second half of 2019 was a challenging, but as you -- we have discussed, there are many reasons to remain optimistic about the coming year and the future of our business.

While new market trends have injected some uncertainty into the timing of deployments and new contracts, the long-term growth drivers and opportunity remain unchanged. We have, therefore, approached the first half of 2020, cautiously but optimistically.

Ultimately, our market share and the fundamentals of our business as well as our core value proposition to our customers remain intact. We ended 2019 with healthy bookings and backlog and the strongest pipeline of a 5G project that we have ever had.

And with the 5G brand expected to begin in mid-2020, we see several avenues for the future growth of our company. With that, we are ready to open the call for our questions.

Operator?.

[Operator Instructions]. And our first question comes from Dave Kang with B. Riley FBR. .

I guess, first question is on clarification. So regarding your outlook for first quarter, I thought you said non-GAAP gross margin and OpEx. But then in the press release, it says GAAP.

So which is it? Is it non-GAAP or GAAP as far as the -- like a 30%, 31% gross margin and $22 million, $23 million OpEx? Is that GAAP or non-GAAP?.

Well, they're the same because GAAP revenue and non-GAAP revenue are the same. We have no adjustments to revenue..

No. I'm asking about gross margin and OpEx..

Yes. But the gross margin would be on -- as a percent of revenue. And so I believe the -- it's the adjusted OpEx and the adjustment to that....

So it's non-GAAP. Got it. And then sticking with the outlook for first quarter, you guys came in about $30 million below consensus.

Can you just break down, maybe, perhaps, a demand versus supply? How much was due to demand versus how much was supply chain disruptions? And regarding your main Chinese CM engines, what's the current run rate? And what do you think they will be by second quarter, in the next couple of months?.

Well, first of all, I think, addressing your first question, I think it's half is probably about supply and the other half is demand. As I said in my earnings call that the customers have shifting demand more to the latter part of the year than the first half.

But there was a -- both of those has happened because, especially, they're moving from copper to fiber. And with the 5G coming in, their strategy is a little -- need attention to change, which actually delayed demand. On supply side, we estimated up to $50 million. They happened because of coronavirus. And also, we don't know what's impacting Q2.

We keep getting some good signs that some of the factories in China is going back to work. While we see some other signs like one of the chip manufacturer in U.S. has told us there's delays in the chip shipments. So we need to assess both of those. But -- so some good indication but, at the same time, not so good indication coming.

So I think the chipmakers are -- probably their production in China is also being challenged..

And that CM in Shenzhen, what do you think their run rate is right now? Are they about running at 50%, 70%? And when do you think they'll reach maybe above 90%?.

Currently, the one that we got is currently around 50%, a little over and improving. I'd not put the CM that we use as 90%, no. Because the problem is not their ability to produce, but they have seen a lot of problem getting components, which are even smaller companies. So that's -- the people are there but the components are not. So -- no, no.

That's the issue. And then, as I said earlier, the chip manufacturer's factory in China is also being delayed, and it's a major component of a U.S. company. And that's another impact..

So then, is there a risk that maybe even second quarter could be impacted by this supply chain issues?.

I think it will, but hopefully, I think I'm now worried more about Korea because the coronavirus is now peaking in Korea. China is subsiding. And Korea is going out. And also, Japan just stopped traveling from Korea and China into their country, which will also -- our delivery and testing integration is in Q2.

While we took advantage of positioning our personnel this weekend prior to March 9 curfew, but it will -- certainly it will impact us Q3 and -- our Q1, Q2 -- sorry, Q1 and Q2..

So with that in mind, I mean, you're still expecting $310 million, $320 million for the year. I mean -- so it sounds like it could be -- I was thinking 30-70 but it could be more like maybe 25-75 first half versus second half.

Is that kind of what you're thinking as far as being back-end loaded?.

No. I think it's more like -- it could be between 35-65 or if Q2 improves, it will be a 40-60..

Really? So even though those risk factors, you think we could see a pretty strong sequential growth from first quarter to second quarter, it sounds like?.

Yes, yes. And the most of -- what we've done is for Q2 delivery of 5G product, we already sourced the components, and most of that will be assembled in Korea, not in China..

Okay. And then just one more for me and then I'll step out. But could -- there's some uncertainty related to Tokyo Olympics.

I mean, if that gets canceled or gets pushed out by a few months, I mean, could that impact your 5G business? Could Japanese service providers could use that as an excuse to delay deployment?.

We certainly should consider it. But I think the infrastructure build, for example, Rakuten was already much delayed. So I don't think Olympic is going to delay there is out. Softbank also not affected by that because their 5G launch as well as the whole coverage of the country is very much dictated by their licensing of 5G spectrum..

Our next question comes from Christian Schwab with Craig-Hallum Capital..

Great. Just had a quick follow-up.

I'm just -- of the reduced guidance of $15 million, is that all supply? What is the mix between supply chain issues at the contract manufacturer and just workflow process because the utilization rates and the workforce isn't back at work yet? Do you have an idea of the mix of that issue yet?.

We don't have that clear sort of analysis of that because the actual workforce and supply chain and all that is a little unclear at the moment. Sorry, Christian, but we get -- we have a daily call with all of our contract manufacturers and it is very much, I would say, dynamic or hot and cold because sometimes they said they got it all lined up.

And then suddenly, they find some components not coming in and say, oh, that will be delayed and all that. And then 2 days later and they said, oh, we found some components. So I'm very sorry, but that's the situation. I don't know what you heard from other companies, but that's what is our situation..

Yes. We can talk about what I've heard from everybody else off-line. My last question has to do with your confidence in giving yearly guidance. We seem to have a lack of visibility and clarity of when manufacturing workflow process is going to be up to higher utilization rates.

We have lots of issues regarding different type of components and subscale contract manufacturers' inability to get them.

For you to give it a tighter year's worth of guidance, is -- can you share the absolute dollar number that you have at backlog that could give us some reassurance of that type of meaningful recovery from Q1 revenue levels?.

Yes, we can, Christian. We have over $80 million in backlog right now, meaning we have the purchase orders. And a lot of that is in the higher-margin business that Yung alluded to earlier, starting in the second half -- starting in Q2, but predominantly in the second half of the year.

And so it's really a tale of 2 halves, isn't it? The first half when you consider the coronavirus and some of the other overhang on the industry we talked about. I wouldn't say there's as much certainty in the first half of the year. Starting to get in the second half of the year and you talk about booked orders and things that are more certain.

That's a little bit more stable. Having said all that, the virus situation really isn't unknowable for all of us..

So our full year guide, we have taken consideration of severe impact in Q1. We think Q2 will be a moderate impact. Because China is slowly coming back to normal. So that's the way we look at it. So that's why -- so we have considered those impact in our guidance.

And if things improve, and let's see that 3 months' time or even less than that, we may -- when it comes to earnings call next time, then we may be in a better position to give you more clarity..

[Operator Instructions]. Our next question comes from Tim Savageaux with Northland..

Maybe one follow-up on that bookings and backlog discussion in a moment. But first thing, I wanted to go back to your -- I guess, the comments you made on the call was about backlog increasing 50% sequentially through Q4, I guess, with some of the large bookings that you mentioned.

I take it, those are some of the opportunities in Japan that we've heard about moving into backlog and not for a net new opportunity that we haven't been discussing. I just want to confirm that to start with..

Well, in Japan, we have two opportunities. We have contract as well as a PO. And there are more POs came in from the existing customers of those 5G operators. And that's why I said that Japan could be our biggest market in 2020 in the world, surpassing Korea..

Well, and I assume you mean that maybe in a certain quarter and not for the year, when you talk about that given you're doing, I guess, what, $20 million or so plus per quarter in Korea and you expect that -- I think you commented that you expect that to grow a little bit potentially.

So would it be more case that sometime in the second half of the year, on a quarterly basis, you'd expect Japan to be your largest market?.

I think certainly, Japan could be the largest market in second half. But overall, in 2020, we'll end up Japan as the biggest market..

Really? Interesting. Okay. And you mentioned pursuing additional Tier 1, Tier 2 opportunities globally. And maybe I'll kind of ask that in the context of some of your larger competitors who'd probably be most likely to face competitively for those opportunities.

Obviously, we got some news and some disruption from Nokia this week and clearly some ongoing pressure on Huawei.

But maybe you could give us a little more color on what the funnel or the prospects out there from an RFP perspective or any other way you want to talk about it with regard to new Tier 1 or Tier 2 opportunities that you might be able to close in calendar '20..

I have Philip Yim, who is our Chief Operating Officer, here, and he's very closely involved in that activity in Europe as well as North America. So I'll hand over to him to give you colors on that..

So yes. So obviously, Tier 1, specifically we're focused on the number of Tier 1 opportunities.

Our pipeline is pretty good at the moment in terms of new opportunities that we've got planned for this year and obviously, we can't disclose too much details on our call, but we have been working very closely, especially in the EMEA markets, where we see a lot more growth opportunity for us going forward in terms of our fiber-to-the-x scenario and then some other opportunity potentially with 5G.

But I can say, for sure there are new opportunities in the pipeline that we're working on to close. That's all I'd like to say right now.

I mean, the reality is, we still see upside opportunity because, obviously, the impact of the Chinese in the EMEA market, where people are looking for alternative vendors, and we place nicely in that particular spot.

But at the same time, in other parts of the world, the Chinese are being very aggressive in their price reduction just to regain losses that they're going to impact in Western carriers. So I hope that gives you an idea of where we are..

It does. It does. And if I could follow up on that. I guess, what's sort of -- it seems like there's not much of that contemplated in your guide, which is to say, for the year, it seems more focused on ramping Japan and growth in Korea..

Yes. So the reality is, it's not. And I think we prefer to be a much more conservative outlook right now until we can secure and get to a certain point, then obviously, we communicate that to The Street..

Yes, the sort of the Tier 1 opportunities in EMEA that we're working in late last year. These are not sort of put into our forecast..

Understood.

And Tom, just to clarify your backlog comments, I mean, is that -- I was going to ask about, especially given the relatively low level of revenue in Q1, what you've seen from a bookings or book-to-bill standpoint or what you've seen and what you expect for Q1? And whether that $80 million number you mentioned was exiting the year or kind of as of the close today? And if you have any color on bookings relative to revenues thus far in Q1..

You mean for Q1 you're talking about?.

Yes..

Yes. The $82 million, I think, it was coming into the year. I don't want to preannounce anything in first quarter given where we are, obviously. But I believe....

You've guided for revenue. I'm just asking if you have any color on bookings relative to revenue..

Yes. No, we don't, at the moment, no..

So those bookings, quite a large portions of that what Tom mentioned, is delivery start in Q2..

Yes, over half of that amount are the higher-margin things that Yung alluded to in Japan. The good side of that is that it's a little richer business. The downside is it's towards the back end. But their POs are issued. It's not speculative. So it helps firm up our guidance a little bit.

You asked -- so well, the question was asked earlier, how can you guide over $300 million given that there's so much uncertainty in the first half of the year? But the backlog is the opposite of uncertainty. There's some certainty to that. Also, the fact that we haven't factored in $1 of the other opportunities.

That's been a bit more upside to the plan than downside..

I'm not showing any further questions at this time. I would now like to turn the call back over to Yung Kim, Chief Executive Officer, for any closing remarks..

Thank you for joining us today. I'd like to thank our global employees, customers, partners and shareholders for their continued support. We look forward to updating you on our next call.

Operator?.

Thank you for joining us today for our presentation. You may now disconnect..