Michael Sklansky - IR Michael Newman - EVP and CFO Alex Mashinsky - Chief Executive Officer.

Bryan Prohm - Cowen & Co. Jonathan Segal - Highbridge Capital Kevin Dede - H.C. Wainwright & Co. Michael Dwyer - RBC Wealth Management.

Good day and welcome to the Novatel Wireless, Inc. Second Quarter Fiscal Year 2015 Earnings Conference Call and Webcast. All participants will be in listen-only mode. [Operator Instructions] After today's presentation, there will be an opportunity to ask questions. [Operator Instructions] Please note that this event is being recorded.

With us on the call today we have Alex Mashinsky, CEO; Michael Newman, CFO; and Michael Sklansky, VP of IR and Corporate Strategy. I would now like to turn the conference over to Mr. Michael Sklansky. Please go ahead, sir..

Thank you, Cathia. During this call, non-GAAP financial measures will be discussed. A reconciliation to the most directly comparable GAAP financial measures is included in the earnings release, which is available on the Investors section of the Company's Web-site. An audio replay of this call will also be archived there.

Please also be advised that today's discussion will contain forward-looking statements. These forward-looking statements are not historical facts, but rather are based on the Company's current expectations and beliefs.

For a discussion on factors that could cause actual results to differ materially from expectations, please refer to the Risk Factors described in our Form 10-K, 10-Q and other SEC filings, which are available on our Web-site. Now I would like to turn the call over to Mike Newman, Chief Financial Officer of Novatel Wireless..

Thanks, Michael, and thanks to everyone for joining us on this call to discuss an extremely busy and transformative quarter for Novatel Wireless. During the second quarter, we became a dramatically different Novatel Wireless from where we began the year and from where we've been for the past many years.

Three huge events occurred during the second quarter and combined to propel the Company forward with our IoT strategy. First, we integrated Feeney Wireless, or FW, which we acquired at the very end of March. Second, we raised $120 million in financing via the issuance of convertible debt.

Third, we negotiated and signed the acquisition of DigiCore, which we expect to close by October. Any of these, by themselves, would have been an extremely significant event. Together, they made for an incredibly busy and transformational second quarter, with our focus sharpening on the IoT market and gross margin expansion.

As a result, we believe that Novatel is in position to be one of the leading IoT companies with significant long-term growth potential. I'll describe all three of these major second quarter events in more detail throughout my discussion this afternoon.

Total revenue in the second quarter of 2015 grew 47.1% from the second quarter of 2014 to $54.8 million, up from $37.3 million in the second quarter of 2014. Importantly, 36% of our total revenues in Q2 were attributable to M2M Products, compared to only 26% of our Q2 2014 revenues and only 17% of our revenues in the first quarter of this year.

Revenue growth in the second quarter was driven by our M2M product sales, which generated $19.8 million of revenue in the second quarter of 2015, double from Q2 of 2014 and $10.9 million greater than we achieved in the first quarter of this year.

We acquired FW at the end of Q1, so bear in mind that Q2 was our first full quarter with FW as part of Novatel. Overall, the balancing of our business toward IoT, and the IoT industry's more attractive gross margins, significantly improved in the second quarter.

Based on our expectations for continued IoT growth trends, combined with the anticipated closing of the DigiCore acquisition, we are driving toward ending the year with M2M revenues at an annualized run rate of $200 million, along with 45% to 50% gross margins for the M2M business.

It wasn't that long ago, just seven months ago, that we entered 2015 at an annualized M2M revenue run rate of $34 million, while boldly claiming that via a combination of organic growth and multiple M&A transactions we could reach up to $200 million in annual M2M revenues.

With just the two highly accretive and synergistic acquisitions of FW and DigiCore, along with our organic growth, we expect to exit 2015 having quintupled our M2M business in a 12-month span. We could not be happier with the seamless acquisition and strong initial performance of FW.

FW and its Accenture-like business model has enabled Novatel to progress from device-only sales in IoT to what we refer to as five-circle sales in which we monetize the sale of the device, cloud, airtime, professional services and managed services.

Put another way, FW completes our IoT toolkit, enabling the combined entity to uniquely provide a full-stack solution to many of the key IoT verticals. Our decision to acquire DigiCore rested in part on our belief that a full-stack or end-to-end offering is a particularly unique and compelling offering in the high-growth telematics vertical of IoT.

The telematics vertical includes fleet management, vehicle monitoring and recovery, user-based insurance, and asset tracking. I'll talk a bit more about DigiCore later on. While we were highly successful in the second quarter driving IoT revenues and also on the M&A front, we fell short of our expectations with respect to Mobile Computing.

Revenue from Mobile Computing Products grew 27.3% to $35 million in Q2 of 2015 compared to Q2 a year ago, led by continued strong sales of our MiFi 6620L. Mobile Computing revenue declined sequentially from Q1 as a result of several delayed product launches and a shortfall in legacy product sell-through for the quarter.

While that was disappointing, we did win two key mobile computing carrier awards for 2016. One of these awards should be the most significant profitability driver in our Mobile Computing portfolio in 2016 and 2017, and is a continuation of an existing Novatel mobile broadband slot at a major carrier.

The other award blazes a new product category for our carrier portfolio and in a carrier slot that has been highly profitable over the past few years for the displaced competitor. We expect to generate hundreds of millions of dollars in future revenue based on these two carrier wins.

So while Q2 revenues were challenged for Mobile Computing, with these two key carrier award wins, we believe that we have secured our Mobile Computing franchise through 2017. Now, I'll move onto the details of our second quarter results.

Non-GAAP gross margin increased across all of our product sets in the second quarter of 2015, with overall non-GAAP gross margin of 29.1% compared to just 11% in Q2 a year ago, and up sequentially by 4.3% from just 24.8% in the first quarter.

Non-GAAP gross margin for M2M Products increased to 30.6% in Q2 of 2015 compared to just 8.2% in Q2 a year ago, and non-GAAP gross margin for Mobile Computing Products increased to 28.2% in Q2 of 2015 compared to 11.9% in Q2 a year ago.

We continue to generate significant gross margin improvements by selling a better mix of products and by increasing the percentage of our product revenues that are associated with IoT products. Our operating expenses in the second quarter increased to $19.3 million, compared to $15.2 million in Q2 a year ago.

FW was not part of Novatel in 2014, and the FW portion of the Novatel business that was added to our cost structure in Q2 was profitable with positive operating cash flow on an FW standalone basis.

However, during the second quarter, after we targeted DigiCore for acquisition, we proceeded to make increased investments in order to prepare for our transition into an IoT company with multiple five-circle offerings on a global scale.

This led to a faster hiring ramp for the personnel needed and increased expenditures in order to capitalize on the combined DigiCore and FW IoT opportunity. When combined with higher-than-expected litigation expense and settlements, our second quarter operating expenses exceeded our guidance range.

On the tail end of that hiring ramp, in the third quarter, we reduced costs and personnel related to several of our legacy operations in order to realign our cost structure to levels appropriate to our new model.

More specifically, with our key 2016 carrier award wins protecting our Mobile Computing franchise through 2017, we are able to redeploy development efforts that had previously focused on other Mobile Computing related initiatives.

Instead, we aim our resources toward the five-circle IoT opportunities coming our way versus chasing lower margin one-time hardware wins. With respect to the details of these cost-cutting activities, earlier this week we reduced our workforce by approximately 55 total heads.

This consisted of 34 employees representing approximately 9% of our employees, and 21 outsourced or contractor roles. All 55 impacted individuals were with Novatel, with most having been involved with the Company's legacy initiatives.

None of the impacted individuals were with FW, because as I mentioned, FW continues to be cash flow positive on a standalone basis.

Overall, the restructuring activities should reduce our annualized operating expense structure by $10 million and are intended to drive legacy Novatel operations into profitability to align with the cash generating power of both FW and DigiCore.

We'll see much of the savings in the third quarter having commenced the activities in August, and then the full cost savings in the fourth quarter. We expect to record a restructuring charge of approximately $600,000 in the third quarter related to these activities.

Getting back to our Q2 results, our adjusted EBITDA in Q2 improved by $7.2 million compared to Q2 a year ago, at negative $2.3 million compared to negative $9.5 million a year ago.

We had achieved a positive adjusted EBITDA for each of the past two sequential quarters, so despite the 76% year-over-year improvement in adjusted EBITDA, we had expected better in Q2. And after our restructuring activities in Q3, we believe EBITDA will once again improve going forward.

In the second quarter of 2015, our non-GAAP net loss improved by $6.8 million, to approximately $4.3 million or $0.08 net loss per share, compared to an $11.2 million net loss in Q2 last year or $0.33 net loss per share.

I think most of you know how we calculate our non-GAAP financial results, and a reconciliation of our GAAP to non-GAAP financials is contained in our earnings release.

In the second quarter of 2015, we excluded share-based compensation expense of approximately $1.2 million and reversed $300,000 of accruals related to an all-employee [audio gap] approximately $4 million related to M&A activities.

Moving on to the balance sheet, we ended the second quarter with cash and cash equivalents of $17.9 million compared to $9.4 million at March 31. During the second quarter, we paid down the outstanding balance on our $25 million revolving credit facility with Wells Fargo and the credit facility remains available for future draw-down.

We also had $88.5 million in an acquisition-related escrow account for the anticipated acquisition of [audio gap] purchase price for DigiCore was estimated at $87 million on the date that we established the escrow account and signed the purchase agreement.

The funding for the DigiCore acquisition and the additional cash on the balance sheet was obtained from our June 10th issuance of $120 million of 5.5% convertible senior unsecured notes.

We received net proceeds of $116.5 million from these convertible notes with interest-only payments due semi-annually on each December 15th and June 15th, commencing with a $3.3 million [audio gap] remained consistent with AR at the end of Q1 at approximately $33.4 million.

Our inventory declined by $6.7 million during the second quarter, with accounts payable also declining by $11.6 million in Q2, as we sold down inventory while generating revenue particularly with respect to FW sales.

Finally, on our share count, our weighted average shares outstanding increased to 53.4 million shares in Q2 compared to [audio gap] in order to partially finance the FW acquisition, HC2 exercised approximately 3.8 million warrants for cash in late March, and those shares were outstanding for the full quarter in Q2.

Second, a payment of $15 million for part of the purchase price for FW is due to be paid in shares of Novatel common stock in early 2016, and under applicable accounting rules, the approximately 3.2 million shares issuable for this portion of the [audio gap] share count.

Looking ahead at our expected Q3 weighted average shares, on July 22 we issued approximately 2.2 million shares to employees for the payout of an all-employee retention bonus plan that was adopted in mid-2014 as part of our turnaround efforts. This one-time retention bonus program has now concluded.

Now, I'd like to briefly discuss our third quarter guidance. We anticipate continued strength in M2M revenues, with our portfolio of FW products driving enhanced sales [audio gap] On the Mobile Computing side, we expect continued stable sales of our MiFi 6620L product.

The variability in our overall revenue guidance range is driven by sales of our legacy MiFi products through third-party distribution channels, the magnitude of the sales ramp for the MiFi products that we recently launched, as well as the launch of our MiFi 6630 product with other wireless carriers.

This combines for a third quarter revenue [audio gap] as we continue to benefit from our broader IoT product portfolio since the FW acquisition, with M2M gross margins generally being higher than Mobile Computing gross margins. As a result, we expect third quarter non-GAAP gross margins of 27.5% to 28.5%.

On the expense side, with the restructuring activities that we commenced this week, we anticipate non-GAAP operating expenses to decrease sequentially in Q3 to $17 million to $18 million.

Adjusted EBITDA should improve in the third quarter as a result of our restructuring [audio gap] Q3 non-GAAP net loss per share of negative $0.05 to $0.08 based on 55 million to 56 million weighted average shares outstanding in Q3. Now, on to some thoughts on the signed DigiCore acquisition.

We anticipate closing the acquisition by October, and I want to give you some color on what you can expect. Under local rules for public companies in South Africa, DigiCore posts its financial results every six months. DigiCore last publicly reported financial results for the six months ended December 31, 2014 [audio gap].

For now, I'll need to limit my comments to their six months ended December 31, 2014. Based on current exchange rates and as publicly reported under IFRS, in the six months ended December 31, 2014, DigiCore generated approximately $35 million [indiscernible] with gross margin [indiscernible] [66%] [ph] adjusted EBITDA of approximately $4 million. U.S.

and South African [audio gap] revenues with reasonably assumed second half growth rates at those gross margins with that income level to our financial profile, it's easy to see [indiscernible] once we acquire DigiCore, we will be a dramatically changed company.

[Indiscernible] in combination with continued strong performance by [indiscernible] Novatel teams, we expect our quarterly [indiscernible] revenues [indiscernible] more than 50% of our total revenues with total non-GAAP gross margins [audio gap] to $40 million, generating positive free cash flow.

I encourage you to review DigiCore's published financial information which is available now and what will be released in September, and I believe that you will be excited by what you see. And that's just looking at the numbers.

Post-acquisition, we believe that Novatel will be the only company that can offer a full-stack telematics solution via a combination of DigiCore, FW and Novatel offerings. As I mentioned at the beginning of my remarks, the Novatel Wireless of [audio gap] FW and our promising future..

Thanks Mike. After the recent cost reduction, we have a very profitable MiFi business [indiscernible] we recently won four awards [indiscernible] for MiFi, three of these will be shipping in early 2016. These awards represent hundreds of millions of dollars in [revenue] [ph] [audio gap]. We have a very stable and growing franchise with Verizon.

I wanted to share with you the history of the MiFi franchise. In 2009, we introduced the 2200, our first MiFi, which shipped over 2.4 million units. That was followed by the 4510 which was shipped in April 2011.

That shipped 1.8 million units, and now – followed by the 4620 in March of 2012 which shipped 1.3 million units, which was followed by our bestseller, the 5510, in December 2012, which shipped 2 million units. It's our bestseller. It's still shipping today in volume.

We recently also introduced the 6620 back in October 2014 and that product has shipped over 700,000 units and is shipping at its highest levels since launch. This stability and growth of our franchise and the new wins represent a very stable franchise through 2017.

As you can see, Verizon gives its best corporate customers new MiFi devices every two years as they renew their contract. We estimate that three quarters of all of our sales are with corporate customers. This explains the stability in the MiFi franchise. Now, let's talk a little bit about our IoT franchise.

Novatel IoT has launched several new products and expect new record IoT sales in Q4. FW scaled faster than our expectations and we continue investing in the business. We increased their headcount from 93 to 107 since the purchase of the company. We expect [audio gap]. Let me turn to DigiCore.

We see great acceleration at DigiCore and we recently started jointly bidding on the SaaS business with DigiCore. For example, we have a large fleet award in Asia where we jointly bid recently. We have another large fleet dealership award in the Middle East, and we had a nice win in the EU with a UBI solution that DigiCore developed.

That's our second UBI deployment in Europe. We're also targeting several large companies in North America with additional wins. Customers all over the world love our integrated full-stack telematics solutions. Now let me turn to the Q2 $10 million miss.

As Mike mentioned, the delayed Verizon launch of the 6620L and some delays in purchases of products in the wholesale channel have caused us to miss the numbers. But as we indicated, these orders have since come in, in Q3. This miss had nothing to do with the 6620 leading Verizon product that is shipping at new record.

Despite these misses, we still delivered 20 plus percent growth in the MiFi business, having Q1 deliver 23% growth year-over-year and Q2 deliver 27% growth. We do expect slower Q3 [audio gap] We also see acceleration on the IoT side as we are changing the mix of products, we're scaling our margins and we see new SaaS revenue and recurring revenues.

Our top products, the 6620, the 1114, the 620L, HS3001, and the FW Skyus are all shipping at new highest levels since they were launched. That is definitely something to talk about.

We also have seen managed services just cross $500,000 [audio gap] recurring users and is growing at 20% and the team has done an amazing job increasing gross margins from 11% last year to 29% this year, and we're also going to double these margins again as we integrate DigiCore and add many new SaaS services. Let me turn to the expenses side.

We implemented a strict ROI review of every new project and set the bar pretty high. For example, our 5510 has returned $8 of margin [audio gap] in expenses was due to the ramp in product development.

We have 12 new products on the roadmap, four of them are the carrier product I mentioned before, the wins, eight of them are our new IoT products which we're just adding to the mix. Our R&D investments are starting to pay dividend.

We launched four new products in the first half of 2015, the M100, the 620L, the 6630, and the MT 1200, and with the substantial work behind us, we'll start to see revenues from all of these products. We also control costs better going forward. We have a great new team.

I think this is the best team that Novatel ever had and with the mix of new great products, we are attacking all the new verticals in IoT. We're going to focus our efforts in 2016 to scale and expand on our Novatel and FW sales into the 54 countries where DigiCore currently already sells their products.

We've replaced the [indiscernible] people in the organization and our new sales team has transitioned from hardware sales to SaaS sales. I want to share with you the leverage that we have in our model.

We proved that we can expand margins significantly, we proved that we can now better control costs, and we're applying the MiFi profits on the MiFi franchise to new projects with higher margins. We now project every program based on historical data and customer commitments and don't invest in any program that is less than 2x return on investment.

When I arrived a year ago, our focus was to stabilize the Novatel hardware business. Now with the FW and DigiCore acquisitions, our focus is shifting to scaling our SaaS recurring revenues. We see strong demand worldwide for fleet and UBI full-stack solution and we are well positioned to capitalize on it.

I remain excited and energized with all prospects and continued improvement in our business. I will now open it up for questions..

So this is Mike once again. Thanks, Al. This is Mike once again. I understand now, and I apologize, we've had very, very poor audio quality and I realize now that the people have been struggling to hear us. Hopefully you are hearing this.

What we're going to do after this call is we will work diligently to try and get a transcript posted as soon as possible so that everybody can, despite the audio quality, you'll be able to at least read what we said if you weren't able to hear entirely what we said. My apologies.

We were working – we had folks – I didn't realize it, but we did have folks behind the scenes trying to solve this problem the entire call and apparently they were unable to. But with that, we'll still open it up for questions..

[Operator Instructions] Our first question comes from Bryan Prohm of Cowen & Co. Please go ahead..

Michael, I was glad to hear that it wasn't just my phone, because I actually disconnected and dialled back in..

Again, very sorry about that, we were trying to get it resolved and not sure what the problem was. But as I said, we'll try and get the transcripts posted rapidly so to make it easier on everybody..

That's great. Okay, a couple questions. So given the shortfall in Mobile Computing, how did that affect your outlook for the full year? I think when we last spoke you guys were looking at a 20 plus percent year-on-year growth rate in Mobile Computing revenue.

I mean, are you kind of walking that back a little bit here, are we still going to grow year-over-year? I think the question for me really is, how much 620L USB volume and revenue can offset some of the declines in the legacy MiFi lines that you talked about in your prepared remarks, I guess maybe is that the 5510 sort of running out of gas?.

Again, I don't think you could hear me but the miss was related to orders for 5510 that we expected to come-in in Q2 and these are slipping over to Q3.

And we don't have enough data on the 620L, because it just launched less than two weeks ago, to kind of really understand where is it scaling into to be capable to guide very comfortably on those numbers. So I think at this time we need more information, and like I said, the 6620 is shipping at the highest level since it launched.

So we just need to understand where the other orders are to be able to guide better on that..

Just more specifically, so we did achieve the 20 plus percent growth rate in Q1 and Q2. While the MiFi 6620, our flagship product, is very stable, the challenges that we see ahead in the near-term just relate to our ability to diversify with some of the other MiFi products in some of the other channels.

Obviously, the diversification effort with the M2M Products has been successful. As we look ahead, one of the things we had talked about was ending the year with a $200 million run rate for MiFi products. We now see that as delayed by a couple of quarters or probably looking at Q2 until we can get to that run rate.

So I don't anticipate 20 plus percent growth in the MiFi business in the back half of this year. We're looking at that more again in the first half of next year..

Okay, that's great. Thanks for the color.

Then obviously a lot of upside in the M2M line, can you break out the specific Feeney contribution there versus the organic M2M business, if possible?.

I'll jump in, and Alex you could follow up, our integration with FW has actually been extremely successful and we hadn't planned on breaking out FW revenue separately, even before we closed. But now we've already moved on to combining many of the sales team members.

In fact, we've moved some folks who were assigned to Novatel legacy products for instance over to start promoting FW products. And so the sales teams were already viewing it very much as our IoT sales team, not the two separate teams. So, we don't anticipate breaking out FW revenue separately from Novatel revenues whether it's in Q2 or going forward.

It's really a combined, coordinated sales structure at this point being led by John Carney..

And just to add to that, and I don't know if you heard me before, but I said that in Q4 we expect $25 million just for Novatel plus FW. So you can see that this ramp-up is not just one quarter. I mean we see continued strength in both existing products and new products. As I mentioned, we have five or six products that are shipping at record levels.

So we see very nice strength and ramp on the IoT side..

So that's like a $75 million a year without the DigiCore contribution?.

25 times 4 is I think more than 75..

My son is going to make fun of me for doing that math.

Okay, if DigiCore closes in October, then we will get essentially two months of DigiCore revenue in the fourth quarter?.

Yes, we'll get DigiCore revenue in the fourth quarter from whenever it closes. So if you assume an October 15 close date for instance, we'd have 2.5 months in the fourth quarter..

Okay.

Then last question from me and I'll pass it on, when does DigiCore report its earnings, it's sometime in September I believe, right?.

Yes. Now unfortunately you've just given me insight into how poor the audio quality was, since that was something that I had covered. So let me just go through that. I think that just to make sure that that's heard and clearly, so DigiCore reports every six months and they last reported their six months ended December 31, 2014.

They are going to report their six months in fiscal year ended June 30, 2015, and they will do that sometime in September. So that's when you'll get more information.

But you can look back now at their six months ended December 31, 2014, and if you look at the current exchange rates, as they publicly report under IFRS, in those six months they generated approximately $35 million in IoT revenues with gross margins approximately 66% for adjusted EBITDA of approximately $4 million.

Now, when you look at the closing of the DigiCore acquisition, from the time we close DigiCore in combination with strong performance by our FW and Novatel teams, and assuming sort of reasonably-assumed second half growth rates for DigiCore, we expect our quarterly M2M revenues to represent more than 50% of our total revenues with total non-GAAP gross margins of 35% to 40%, M2M non-GAAP gross margins of 45% to 50%, with annualized adjusted EBITDA of $25 million to $40 million generating positive free cash flow..

Okay, those were the numbers that I missed for sure..

Okay, they seemed like pretty important ones. So there you go..

Thanks for clarifying. That was kind of my – I was looking for a number, a projected EBITDA range for 2016 once everything is closed. That's great. Thanks for the color and I'll pass it on and get back in queue. Thanks guys..

[Operator Instructions] The next question comes from Jon Segal of Highbridge. Please go ahead..

So I apologize if some of this is repetitive, but given the technical issues I want to make sure because I think the last pieces that you just talked about was what I was hoping to hear some clarity on and that was not crystal clear from the call prior.

I guess my focus is less on the MiFi business frankly and more on how to think about 2016, especially with the integration of DigiCore. So I guess I have the following questions.

The first, the expense base that you're guiding to, $10 million of cost reductions, what is that off of?.

That is $10 million off of the expense run rate that we had exiting second quarter. So that's $10 million not off of what we may have guided to or something like that in the past.

It's literally when you look at our Q2 expenses, our run rate as we exited the quarter, which was obviously higher than lower given how we spent, we take $10 million off of that..

And so what is that? I mean I guess I could look at the numbers now, but so you're guiding to effectively what's kind of the $70 million of expenses? I just want to spell it out clearly..

So we're guiding to $17 million to $18 million in operating expenses in Q3. Now in Q3, we implemented these activities just sort of this week, just last week, so you're not getting the full benefit of the headcount reduction; you're certainly not getting the full benefit of the ultimate cash savings in Q3. We'll get the full benefit of that in Q4.

I haven't specifically guided to operating expenses in Q4 but that's what we're looking at. Q4 operating expenses will be [indiscernible]..

I mean just if I look at – I'm sorry?.

I was just going to say, Q4 operating expenses will get a little more complicated as we are adding in the DigiCore expense structure..

Yes.

I guess I'm just trying to understand though, if I add up just the R&D line, the sales and marketing line and the G&A line, right, for this most recent period, it's $22 million, right?.

Yes..

And so you're saying to me that you'll essentially take that number, annualize it and then subtract $10 million, or is there some nonrecurring stuff in here that we should be adjusting for?.

There are, there's always – I understand what you're asking, there's always seasonality in expenses as well. So I can't say that we have a flat operating expense structure across all four quarters, all things being equal. I think what I would – I'm not trying to be evasive, I understand the question you're asking, it's a more complicated answer..

Let me ask this then.

The expenses should go down between Q3 and Q4, is that correct?.

The expenses should go down between Q3 and Q4, excluding the impact of the DigiCore expenses coming in..

Got it, okay..

So, Jon, another way to think about it is, we guided to $16.5 million to $17.5 million of expenses in Q2, and generally our expenses normal seasonality would be, our expenses would be flat, flattish between Q2 and Q3, and I'm guiding to $17 million to $18 million in Q3.

So it sounds like I'm saying so it's going to be $500,000 up from sort of normalized expenses. But remember, we're not getting the full benefit of the savings in Q3. So I'm basically taking us right back down to where we were, to where we would have been, no other changes, sort of even money in, even money out.

If we had been in the $16 million to $17 million range in Q2, we would have been that again – or $16.5 million to $17.5 million, we would have been that again in Q3.

Does that help you get your annualized number?.

I think so. Let me move on, I'll come offline, I guess it'll obviously be more helpful if you just kind of guided to a number. But understood.

And then in terms of – what have you told us in terms of kind of legacy MiFi product gross margin and kind of legacy Novatel excluding Feeney Wireless margin?.

So the gross margins – yes, the gross margin, so when you look ahead and we're guiding to, the guidance range we've given for the next quarter, we had a very, very high gross margin number in Q2, and the gross margins on the M2M business are better than the gross margins on the Mobile Computing business.

So part of the reason the number was so up was all the initiatives we're driving. Part of the reason that gross margin popped so high was because of the balance between the M2M revenues, the volume of M2M revenues versus MiFi revenues.

Now we expect the MiFi revenues to pick up a bit here as we get into Q3, and if they do, we're expecting gross margins to come down a little bit to the 27.5% to 28.5% range. But that's not because of gross margin compression, that's simply because of the relative mix of the two product sets.

Overall, we expect those M2M – we hit 30 plus percent finally in our gross margins for our IoT business in Q2, and that's where we expect that to be.

The MiFi gross margins we expect to be in the upper 20s, generally in the range that we've been, but when we sell more of those legacy products, it can come down by 1 or 2 points from where it overall is on the MiFi side..

Okay. And then I guess I just want to make sure, so if I look at the kind of – if I make reasonable gross margin assumptions around the business, the legacy business, I think about the cost-saving efforts, you have reasonable revenue assumptions, you've got a legacy business that becomes EBITDA positive.

If I then think about Feeney Wireless EBITDA of kind of mid-single digit and DigiCore EBITDA which seems like it's annualizing in the double digits, and then some synergies, I guess I want to make sure I understand, you're saying that the bookends you're putting on kind of 2016 EBITDA is anywhere from $20 million to $40 million, is that right?.

Yes, I said $25 million to $40 million. And that's based on FW being EBITDA positive, we believe all the businesses will be EBITDA positive. That's part of why we've taken the steps that we have..

That was part of my speech is that by the end of this year, including DigiCore all of our businesses would be EBITDA positive..

So we're looking at that combining for that $25 million to $40 million EBITDA range in 2016 which would obviously make us free cash flow positive as well. As we get into the details, we're going to hope to drive the synergies that get us to the $40 million, everything standalone we kind of feel gets you closer to the $25 million.

The more synergies we drive, the higher it gets. So I would expect EBITDA to also improve over the course of 2016 because as we drive synergies and get the benefits of that as it kicks in, we should exit the year with a higher EBITDA run rate than we are entering the year..

Okay.

And then my final question, you said $200 million of revenues will essentially come from DigiCore and Feeney Wireless, is that right?.

$200 million from in order to, so it's DigiCore, Feeney, and Novatel IoT..

Okay, that's helpful. Thank you..

The next question comes from Kevin Dede of Rodman & Renshaw. Please go ahead..

Thanks for making a transcript available. I look forward to seeing that and hopefully that will answer some questions. I was wondering if you wouldn't mind tearing into DigiCore just a little bit, give us your view of their revenue mix.

I mean my numbers fall out a little bit different when I ran through the calculations but that's perhaps because I used a different exchange rate, but I was just wondering if you could talk to how much you think is product versus service and how you see their recurring revenues supplementing the ones that you discussed a little bit.

I think you mentioned I want to say $500,000 I think was one of the numbers I heard in between some of the garbled transmission during the formal call.

Could you just talk to that a little bit?.

Again, I apologize for the technical difficulties, but DigiCore has about 350,000 recurring customers and about two-thirds of the sales are SaaS recurring revenues with very low churn, single-digit churn.

The mix is, they have probably about half of their revenues are in Africa and the other half is outside of Africa, and as I mentioned, they have no operations in the Americas, and part of our effort is to bring them into new markets and leverage their existing sales in 54 countries to sell all of our IoT mix and products on top of their existing distribution channels.

I also mentioned that we've recently won three very nice awards, bidding jointly with DigiCore, so that's all in the last quarter, one in Asia with a major carrier, one in the Middle East with one of the largest dealerships over there deploying fleet solutions for both of those, and then a UBI implementation with a large insurance company in Europe, and that's our second deployment of UBI with DigiCore in Europe.

So we are seeing a lot of demand. When we go and pitch a full-stack solution that includes the software, the hardware, full implementation, support, the five-circles we talked about, we seem to be winning very well and we're very excited about integrating DigiCore into the rest of our business..

Great, Alex.

On that note, could you sort of look at Feeney's sales in a similar manner, I mean how much of that would you say is SaaS versus managed services and professional services?.

So Feeney has a higher mix of kind of upfront consulting and hardware sales, but they also have an increasing recurring revenue, as I mentioned for example that their managed services, which is the recurring side, just crossed $500,000 a month. That's the first time it crossed that line, and it's growing at 30% year-over-year.

I mentioned that DMS, which is the product that Feeney has that effectively manages recurring users, it just crossed 125,000 subscribers and that's growing at 20%. So there's a lot of elements that are scaling, but still I would say the majority of their sales are still on the hardware side. It's all IoT, but it's still hardware..

Granted. Okay, so Michael talked a lot about potential synergies to drive that $40 million EBITDA number next year.

I was wondering how you might recommend that we monitor you're hitting those mileposts and generating them, is there anything that you'd recommend that we look to, I mean outside your quarterly results?.

The obvious ones are watching our revenue line and watching our gross margin line, right. And as you've seen, we've made, I think we're ahead of our guidance on gross margin by more than 1 point. So we have moved very rapidly on the gross margin side. Again, last year this quarter we were at 11% gross margin, right. We were at 28.8% I think right now.

And as Mike said, most of our IoT already exceeded 30%, and with Feeney plus DigiCore, we will be at the 45% to 50% range, right. So as you watch that line and you watch the revenue line, I think you can get to these numbers we are guiding pretty easily..

And we were at 29.1% there in the second quarter..

Even better than I – so again, we love our MiFi business, but now that is more of a cash cow and you really can see the growth and the acceleration in our IoT side. Again, I've guided to $25 million in Q4 just for Feeney Wireless and Novatel. So that's up from the 21% that we have for Q3.

So you can see that this is not just a one-month increase, one-quarter increase because of the acquisition, there is a lot of organic growth here as well..

Okay. Can you talk to the synergies you are expecting to drive specifically [indiscernible].

We didn't hear the question, sorry..

I'm sorry, I apologize, Alex.

I was hoping that you could talk to the synergies you expect to drive out of DigiCore, where in your operations do you expect to extract them?.

[Audio gap] see us issue some announcements regarding whether before closing joint customers or after closing they would just be our customers, but even if we announce joint customers before closing, obviously you'll know that those sales activities are synergistically working.

On the cost side, we're going to be adding from our perspective yet another location right with a top-notch – can you hear us now?.

I can hear you, Alex. I just couldn't hear Mike at all..

I will repeat that. This is more of a growth story than a cost-cut story. I mean we didn't buy DigiCore so we could cut costs and generate more margins out of their existing business.

We felt that the product could be sold better as a full-stack solution with the FW professional services and engineering and support, and that's what we've been pitching all over the world.

With our recent wins, it's a good indication of the fact that customers are looking for these type of solutions and [audio gap] relating to taking our products into the 54 countries where DigiCore is, and taking the DigiCore five SaaS products that they have, UBI, fleet, asset tracking, and so on, and taking those both into new markets and doing a better job in the existing markets and accelerating the growth of DigiCore.

Again, they'll be reporting their numbers in a few weeks and you can adjust your model to better reflect the annualized revenues or the margin based on those new numbers. We just can't talk about it right now..

Okay, fair enough. Thanks Alex..

We have one more question coming in from Michael Dwyer of RBC. Please go ahead..

I think we're still having audio problems here.

Could you talk about headcount at DigiCore and your future plans for their headcount after the merger?.

Sure. They are at about 975 people right now, and that's a mix of about 250 which are outside of Africa and the rest are mostly in South Africa. Obviously Novatel plus FW is just over 400 right now. So it just gives you a mix of where we are versus where they are.

And part of our plan is really to leverage their existing call center, their existing sales team, their back-office, which are all low-cost, lower cost than ours, because they are based in South Africa, to really leverage that as we scale the combined business.

So we are not focusing on cost cuts, we're focused on how do we bring in much more business and layer it on top of the existing infrastructure that we have. Just to give you an example, we're talking to a North American fleet operator, actually a global company, that wants us to support them all over the world.

So they would actually require us to staff with a few hundred more people just to support their business and as they deploy fleet solutions worldwide, and this is a multi-billion-dollar company that's looking to outsource to us all of their SaaS fleet implementations, right.

So these are the kind of opportunities that you can do when you have global footprint, when you have over 1,000 people in your organization, and they can confidently outsource to you. So we're definitely not just looking to chop bodies and reduce costs and try to deliver profitability that way. With DigiCore, we're going to have free cash flow in Q4..

Remember, DigiCore on [$35 million] [ph] of IoT revenues was generating $4 million of EBITDA. We're talking about a highly profitable organization – for six months, and that's just for six months ended December 31..

With the FW deal done and DigiCore closing in October, is it safe to say your acquisition spree is going to quiet down for a while or do you have other targets you are looking at?.

We always have targets. The issue is more that again the deals have to be accretive to our shareholders. So we are careful of not diluting our shareholders. If we can get an accretive deal done, like we did with FW and with DigiCore, we will go ahead and do it. If we can't, then we're probably going to wait until we can do it.

I think again, the market is probably mispricing where we are today. Hopefully, without these technical difficulties, hopefully people could hear the numbers that we're talking about.

If you just add up the numbers that Michael was talking about and you annualize that, you look at the free cash flow, we have plenty of free cash flow left after we pay all of the interest, annual interest and everything else.

So we are in a different place than where we were just a few months ago, and I think it's going to take a little bit of time for all of these news to percolate through the market and through the shareholders and everybody else, and hopefully again, when the stock market represents our true value, it will be easier for us to do more transactions..

is there a chance that the deal costs more or less due to currency translation or have you hedged a part or all of future closing date?.

So the price of the purchase was set at 4.4 rand per share. The escrow account that we had to put the purchase price in is denominated in rand. So we've essentially paid the purchase price already, because it will come out of that escrow account..

Okay, thank you..

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