Patti Leahy - Vice President, Investor Relations Ray Dolan - President and CEO Mark Greenquist - CFO.

Ted Moreau - Barrington Research James Kisner - Jefferies Jess Lubert - Wells Fargo Securities Dmitry Netis - William Blair Mike Latimore - Northland Capital Markets Scott Thompson - Wedbush Matt Robinson - Wunderlich Securities.

Ladies and gentlemen, thank you for standing by and welcome to the Sonus Networks’ Fourth Quarter 2014 Results Conference Call. During the presentation, all participants will be in a listen-only mode. Afterwards, we will conduct a question-and-answer session. [Operator Instructions].

As a reminder, this conference is being recorded on Wednesday, February 18, 2015. I would now like to turn the conference over to the Vice President of Investor Relations, Ms. Patti Leahy. Please go ahead..

Thank you and good morning. Welcome to Sonus Networks fourth quarter and full year 2014 financial results conference call. Joining me on the call today are Ray Dolan, President and Chief Executive Officer; and Mark Greenquist, Chief Financial Officer.

Today’s press release and supplementary data have been posted to our IR website at sonus.net and submitted to the SEC. A recording of this call and the transcript will be available on our IR website after the call.

During our prepared remarks, we will be referring to a presentation with supporting information, so please take a moment to locate this on our IR web site. As shown on Slide 2, please note that during this call, we will make forward-looking statements regarding items such as future market opportunities and the company’s financial outlook.

Actual events or financial results may differ materially from these forward-looking statements and are subject to various risks and uncertainties including without limitation, economic conditions, market acceptance of our products and services, the timing of revenue recognition, difficulties leveraging market opportunities, the impact of restructuring activities and our ability to realize the benefits of acquisition.

A discussion of these and other factors that may affect future results is contained in our most recent Form 10-Q filed with the SEC and in today’s earnings release, both of which are available on our website. While we may elect to update or revise forward-looking statements at some point, we specifically disclaim any obligation to do so.

During our call, we will be referring to certain GAAP and non-GAAP financial measures. And a reconciliation of those measures is included in our press release issued today. With that, it’s now my pleasure to introduce the President and Chief Executive Officer of Sonus, Ray Dolan..

Thank you, Patti, and good morning, everyone. Let me turn to Slide 4 for the framework of our prepared remarks today. I’ll start with a discussion of the financial and operational progress the company has made since our turnaround began in earnest about four years ago.

Mark will take you through the results of the fourth quarter and provide an outlook for Q1 and the full year. I’ll wrap up our remarks with a discussion of the key areas of our strategy and the opportunities we’re focused on in 2015. And then we’ll open it up for your questions.

Turning to Slide 5, you’ll see a familiar framework that I’ve used throughout my time leading Sonus. I’m pleased to report that the solid progress continues in every major area. We continue to attract some of the best talents in the industry across all layers of the company. Our focus to hire the best and brightest is accelerating as we move into 2015.

I’ll talk more about the Treq acquisition later when discussing our strategy and we’ll introduce the term we now use that is dynamic WAN optimization. I think it’s important enough to pause here and explain what I mean by dynamic WAN optimization.

With current WAN optimization, the goal is to groom traffic to maximize throughput across the statically partitioned network. With dynamic WAN optimization, that partitioning is driven by higher layer policies and the network responds to meet the needs of the application.

This is the very essence of SDN where software defines the network rather than the network requiring the application to adapt. Having led the industry in the drive to SDN NFP [ph], Sonus now has software capabilities that span policy, signaling, session and dynamic WAN optimization.

This positions Sonus to lead the march to Cloud 2.0 which is the real-time cloud. We have the best product portfolio in the industry, hardware or software, to lead this transition. Our sustained focus on process improvement is paying off. Our products are now simpler, easier to install and upgrade and they run with a single common software code base.

I’ve received consistent feedback from our customers regarding our continued improvements in quality and ease of use. And the benefits of this focus are also showing up in improved financial performance. We’re growing revenues, increasing margins and driving earnings and cash flow growth.

We’ve made substantial progress and we’ll continue to find ways to drive out complexity and accelerate our performance. Collectively, these efforts have culminated in the seventh consecutive quarter of non-GAAP profitability for the company. We’re very proud of these results.

When I joined Sonus in 2010, we cut cost to a level of breakeven profitability, so we did not have a clear strategy to drive growth. As a team, we concluded that we needed to invest. We made the tough decision to temporarily bring the company back into the red in 2012 in order to fund our growth engine.

In 2013, we delivered on our commitment to be profitable on a non-GAAP basis for the full year. In fact, our initial guidance was to be breakeven to slightly positive and we outperformed this expectation. In 2014, we again outperformed the annual earnings target we set at this streak [ph].

This collective commitment and hard work over the past few years has established a very solid foundation to drive further operating leverage in 2015 and beyond while continuing to invest in the R&D necessary to lead our industry forward. Let’s turn to Slide 6 for some of the specific highlights in 2014 as compared to the full year of ‘13.

We grew total revenue by 7% which was underpinned by a very strong growth of over 50% in the channel and strong customer growth of nearly 40%. We drove improvement in non-GAAP gross margin and operating income of about 400 basis points each. This progress resulted in almost 200% increase in net income.

Slide 7 captures the strategic shift from what had been an exclusive direct sales focus into service providers, to what is now a much broader strategy, embracing both direct and channel sales into service providers as well as the enterprise market. You can see the dramatic customer growth that has emerged has now accelerated.

Slide 8 and 9 illustrate our transition from a company with the majority of its revenue in a declining market, to a company with the majority of its revenue in growth markets. On Slide 8, we show that more than two-thirds of our total product revenue for the full year of 2014 is growth-related.

And on Slide 9, you can see that more than half of our total company revenue including product and services is now growth-related. Said another way, our legacy business is now less than half of our total revenue and less than one-third of our product revenue.

Presuming these trends continue and we expect that they will, this map creates a tailwind that should drive even better top line growth in 2015. Turning to Slide 10, you see the tremendous progress we’ve made moving gross margins from 60% in 2012 to over 67% in 2014.

This progress has been made by both attacking our cost structure and productivity on the services side and moving our products to become more standards based and less customized. We work relentlessly to keep driving these results to industry leading margins.

The market trends are in our favor as the world moves increasingly to software and as our customers continue to increase the density of their network performance. Our OpEx story is also trending very favorably, which is shown on Slide 11.

While we continue to invest significantly on growth, the scale benefits are allowing our OpEx as a percent of revenue to decline modestly. Increasing scale, increasing gross margin and declining OpEx as a percent of revenue are all contributing to increasing profitability, which you see on Slide 12.

As I said, we are reporting our seventh consecutive quarter of profitability with an outlook of sustained profitability as we move forward. Slide 13 sums up these trends over the past few years. We expect to continue to see the results move up and to the right this time.

Now I’d like to hand it over to Mark to go into more detail on the quarter and provide our outlook..

Thanks, Ray. In the interest of time, I’ll limit my comments this morning to our fourth quarter results as compared to the fourth quarter of 2013. Our full year results can be found in the press release issued this morning.

Gross margin, operating expense, operating income, net income and EPS are all discussed on a non-GAAP basis and have been reconciled for you at the end of today’s press release and presentation. So let’s move straight to Slide 15 for a closer look at the quarter. Revenue in Q4 was up around 1% compared to the fourth quarter of 2013.

Product revenue and growth-related revenue were each up around 2%. As we explained in our preliminary results issued on January 8th, we did not see the level of budget thrust [ph] that we thought was possible in the fourth quarter given the broader market CapEx constraints particularly in North America.

This was the primary reason our revenue came in at the lower end of our projected range. We achieved record gross margin performance in the quarter of 68.9%. And while OpEx came in slightly ahead of our guidance, we were still able to drive operating margins to close to 10%.

This performance gives us a great foundation for delivering on the 10-10 framework we laid out almost one year ago at our Investor Day in San Francisco. Net income of $7.3 million was up approximately 8% which, on a post reverse split basis, translated to $0.15 per share.

At the end of the fourth quarter of 2014, we had just under 1,200 employees and around 50 million fully diluted shares outstanding on a post-split basis. Let’s turn to Slide 16 for our outlook.

As I mentioned during our last earnings call, I said we would likely move away from providing growth revenue guidance as a subset of total revenue and would simply provide total revenue guidance going forward.

Ray provided the data behind this decision which demonstrated that over two-thirds of our product revenue was derived from growth-related revenue in 2014 and we expect this percentage to be even higher in 2015.

As a result, it is now less meaningful to distinguish between growth in legacy versus simply discussing product, maintenance and services revenue going forward. We’ll continue to provide color on product, geographic and sales channel trends in our actual results that drive our growth so that you know where the business is gaining the most traction.

Now, looking at Q1, we expect revenue to be approximately $74 million. I would point out that our first quarter is more backend loaded than the past few years but the revenue is also far more diversified. In short, we’re not dependent upon a single large deal in the quarter.

Instead, we have a number of good sized deals in our funnel that we expect to close over the next few weeks. We see this as a healthy sign of our business and customer base continuing to diversify and becoming less concentrated as we have discussed with you on previous calls.

We expect full year revenue growth to around $326 million to $330 million, and I’ll talk more about our revenue assumptions in a moment. We expect gross margin of between 67% and 67.5% in Q1. And for the full year of 2015, we believe we should be able to add at least another point of margin expansion on top of the 67% we achieved in 2014.

We expect OpEx of $47.5 million to $48 million in Q1. And for the full year, we would expect that OpEx as a percentage of revenue should decline by about a point compared to 2014. EPS for Q1 is expected to be around $0.03 based on 50.5 million diluted shares outstanding.

And I should note this forecast takes into consideration about $2 million of incremental expenses in the first quarter of 2015 related to the Treq assets which we acquired last month. Full year EPS should be in a range of $0.54 to $0.58 based on 51 million diluted shares outstanding.

And this forecast also takes into consideration a total of around $8 million of incremental expenses related to the Treq business. But as we stated at the time we announced the transaction, we expect Treq to be EPS neutral to our business in 2015.

We expect to be able to offset this investment either through incremental revenue growth or OpEx savings elsewhere in our business. Now I’d like to discuss some of the assumptions that we are making in the revenue outlook we have provided today. So let’s turn to Slide 17.

Looking at the major revenue drivers this year, our SBC 7K continues to disrupt the market. We’re getting extremely good traction with tier ones, large MSOs, contact centers and large enterprises in North America and internationally.

In fact, we realized more than $50 million of revenue from the 7K in the first six months since it was launched, which bodes very well for the full year of 2015. Also, our channel revenue has grown significantly since its launch back in 2012.

It contributed 27% of our product revenue in 2014, up almost 20% from prior year and from a standing start in 2012 prior to the acquisition of NET and the launch of Sonus Partner Assure. We expect the channel to continue to contribute strongly to our revenue growth again this year.

In addition, we expect to realize a full year’s benefit from the same [ph] business acquired from PT in late February of 2014. And in line with prior years, we expect to see modest growth in maintenance and services. Finally, as I mentioned previously, we believe there is potential upside to our outlook from the Treq acquisition.

However, we’re still early days on that acquisition, so it’s too soon to size the potential impact on 2015 revenue. I’d now like to provide some perspective on the seasonality of our business.

If you look back over the past three years, you will see a clear pattern in our results which shows that Q4 has been the strongest revenue quarter followed by Q2 as the second strongest. Q1, on the other hand, is typically the weakest and Q3 typically falls somewhere in between Q1 and Q2 levels.

We would expect a similar trend in 2015 which is slightly different than how the consensus estimates currently line up. Slide 18 provides the breakdown of maintenance and services as disclosed in our quarterly filings. The historical CAGR over this period for maintenance and services revenue growth is around 3% per year.

Professional and other services has been roughly flat and maintenance has grown modestly as maintenance on our newer SBC products has offset modest declines on the older products. Looking at 2015, as I said, we expect a similar rate of growth overall for maintenance and services.

Turning now to Slide 19, our balance sheet is solid with approximately $148 million in cash and no debt as of year-end 2014. During the year, we generated about $30 million in cash from operations.

And we are now consistently generating positive cash flow which positions us with the flexibility to build organically, continue to make opportunistic growth acquisitions and/or to fund our ongoing share buyback program.

We have repurchased approximately 9 million shares to date which represents about 16% of total shares outstanding since the buyback began. We bought these shares in an average price per share of $17 and have approximately 23 million available for future repurchases.

This year, we also took a number of actions in response to shareholder feedback, including eliminating our shareholder rights plan, our poison pill, which had been in effect since 2008.

And in addition, we enhanced our pay-for-performance practices, instituted shared ownership guidelines applicable for our non-employee directors, chief executive officer and other Section 16 reporting officers, and adopted a formal callback policy with respect to our executive incentive compensation. So with that, I’ll now turn it back to Ray.

Ray?.

Thanks, Mark. Let’s turn to my final slide, Slide 21, and I’ll conclude by discussing two major areas of focus for 2015. First and foremost, we will continue to drive improved operating leverage.

A combination of our projected revenue growth coupled with steady gross margin expansion and OpEx discipline should result in operating income margins of 10% and earnings growth north of 50% this year. With that solid foundation now in place, we continue to invest to drive industry level transformation.

Four key areas stand out - video, VoLTE, cloud and security. Let’s take them in order and I will tie them together at the end. First, video is becoming an increasingly important driver of revenue growth for all service providers, including both traditional calculus [ph] and the emerging Web-scale players.

Consumer and business video adoption is accelerating. These trends were highlighted recently at CES. At Sonus, we saw indications of these trends several years ago and we launched our SBC 7000 roughly a year ago with the industry’s highest density platform that also has the 10-gig interfaces necessary to enable video at massive scale.

As Mark highlighted in his comments, we are raising excellent adoption and migration business platform as our customers future-proof their networks with a platform built for scale across the entire UC Suite. Second is VoLTE. I’m pleased to share with you that Sonus is already the core policy engine in a tier one VoLTE network.

You’ll hear more about our VoLTE capabilities at Mobile World Congress and we’ll share more as the year progresses. Third is virtualization. Sonus has led the industry to virtualizing every major area of the new cloud-based communications architecture - policy, signaling, session, and most recently, dynamic WAN optimization.

While others are talking about virtualization and playing in one or two of these areas, Sonus has commercially launched an entirely new software stack for the real-time cloud. And finally, we come to the issue of securing cloud-based communications.

Network security was at one time solved with firewalls surrounding an enterprise while workers and data remained physically inside the enterprise. As workers became increasingly mobile, VPNs were created to tunnel into the wall guard, allowing secure remote access.

More recently, the data itself and many workloads and applications have migrated to the cloud. These trends are accelerating. The very nature of network security is changing dramatically. Security as a network player is now moving up the stack to become an essential part of the call flow in NaaS or network as a secure service.

Sonus is leading this evolution. The strategic implication of this leadership for Sonus can’t be overstated. Let me tie this all together. Our recent acquisition of Treq gives us a unique source of competitive differentiation.

This dynamic WAN optimization technology in combination with policy, session and signaling provides a number of strategic benefits.

Of course, it helps service providers and enterprises provision capacity on demand and define policy down to the application user level so that they can intelligently ramp and deploy latency sensitive traffic like video and UC. And they do this while they’re optimizing their network infrastructure.

Network utilization can go roughly from 30% of their WAN assets today to 80%, as we’ve demonstrated in use cases with PayStream, PEG and Pacnet. The economic benefit is critical since WAN costs are exploding as enterprises move both data and applications into the cloud.

CIOs face a dilemma - either overprovision the network to address burstiness, forfeit QoS, QoE or stay in old MPLS architectures for their real-time traffic. MPLS cost can be more than 50 times more expensive than DIA, depending on the deployment model.

These tradeoffs significantly erode the entire economic benefit of the cloud that were driven by better scale for storage and compute. Clearly, the communications architecture needs to adapt to deliver the scale benefits of the cloud as it embraces the need of real-time. But IT like network economics are just part of the picture.

The next-gen cloud architecture also must deliver telco like resiliency and security. SBCs secure the network by protecting networks at their borders against denial service attacks. You could say then that Sonus has always been in the security business.

SBCs also have the unique advantage based on where they sit in the stack to play a critical orchestration role for security on an end-to-end basis.

Through the interplay with policy, signaling and dynamic WAN optimization, SBCs can ensure that only authorized users gain access to specific applications and data regardless of location or the modality of access.

While additional security measures will be enforced, such as application-layer encryption, this new end-to-end security is emerging for call flow to enforce network layer security.

At Sonus, we plan to passionately lead the industry forward in this mission to ensure that Cloud 2.0 can deliver truly secure real-time communications that are affordable to the mass market and can be delivered profitably by service providers in the decades to come. Thank you for your attention this morning.

This concludes our prepared remarks and I’d now like to open the call for your questions.

Operator?.

Thank you. [Operator Instructions] Our first question comes from the line of Ted Moreau with Barrington Research. Please proceed..

Thank you very much and good work on executing on strong results again, guys. Just you’re reiterating your 10% growth expectations for Q1 - I’m sorry, for 2015 with Q1 expected to grow 5% and you talked about the seasonality in Q2 and Q4.

Is there anything specific that you’re seeing from your customers or is it just kind of - and if you are, can you talk about that or is it just kind of just broader market growth that you’re seeing?.

So, Ted, it’s broader market growth and the main reason why we were sort of making a point on the seasonality was because what we’re noticing is that the consensus estimates are kind of off what we expect and what we’ve seen in the prior two years.

So I don’t want to kind of read more - have you read more into that for us making a point to discuss the seasonality. It was really just to give folks a heads up that ’15 should look a lot like ’13 and ’14 with regard to seasonality and some people’s estimates really don’t align with that. That’s all..

Okay. And to what - I mean, so thank you for providing the SBC 7K revenue.

What extent is that - do you think the SBC 7K, is that going to be the leading driver of revenue growth for 2015?.

Yes, actually, we do. As we said, we had a very good first six months for that product. And we’re going to have all 12 months this year and even in the first quarter it’s looking very good. So I expect that definitely, as I said in my remarks, it was the first thing I mentioned, there’s a reason for that.

We expect that to be the main driver of growth year-over-year from a product perspective..

Okay, great. And then - yes, go ahead..

It’s Ray Dolan here. The 7K just crushes the performance on the high-end of the market. I work with some of the tier ones, we’re seeing some substantial open water in our evaluations between us and the market competition like 2 to 1 with regard to the density capabilities at the high-end of the market, which is where the market is going.

We’re still going to continue to drive 1K, 2K on the edge and, to a certain extent, 5K still drives a lot of business for us in the enterprise and in the service providers. But that’s a huge advantage for us on the high-end and we plan on focusing and exploiting that.

It also prepares the market for the move to video, which we do think is a ’15, ’16 story, both in the Web-scale players as well as in the service providers more generally..

Okay, great. And then given your gross margin guidance for Q1 and then also for 2015, so clearly, you’re expecting gross margin expansion throughout the year.

So is that all driven by the SBC 7K, are there other levers you can push and pull on the OpEx line - or, I’m sorry, on the cost line? Can you talk a little bit - or is it all like just kind of product mix?.

Well, I mean I think we’re going to continue to work on the product gross margins and services gross margins for that matter. And we’ve made good progress over the last couple of years, so we’ll push on that. But kind of to your point, product mix also plays a big role in the gross margin story.

And, yes, I mean, 7K is a very profitable product being a new one. And if that’s driving a lot of incremental growth and becoming a much higher percentage of revenue, that and other new products that we’ve got, are certainly helping that overall gross margin story..

Okay, great. I’ll pass it along. Congrats and good luck, guys..

Yes, thanks..

Our next question comes from the line of James Kisner with Jefferies. Please proceed..

Thanks.

So I guess a quick housekeeping, did you guys disclose 10% customers - how many there were in Q4?.

There was one 10% customer and that was AT&T..

Okay, great. And one question on gross margin.

Was there any SWe revenue in Q4 or do you expect any in Q1 or the software-based SBC opportunities, are those kind of further out, just any perspective on the software-based SBC?.

Go ahead..

So, James, it’s Ray. Thanks for the question. The SWe revenue was, I’d say, so small, it was immaterial. But it is strategic, and let me position it that way. What the world wants to know is can you move to the new cloud architecture which is predominantly software-based.

And if you can, can you spin up multiple instances and if you can, can you do them in multiple virtual environments. And so as we look at big design wins into these tier ones, the SWe capability which we announced actually a year ago is a critical strategic lever.

Now, having said that, like we said in the past, people are still buying the hardware instance and mostly it’s SBC because the path of the cloud is going to take a few years to play out, okay? So it wasn’t a big piece of our revenue. I don’t expect it to be a big piece of our revenue.

Now software more generally, where people had capacity to their existing deployments has - that is a software life driver of margins and that’s definitely been contributing and should continue to contribute to margin expansion in 2015.

Does that answer your question?.

Yes, it does. Thank you. So I’d love to talk a little bit more on this tier one VoLTE, I think you said, core policy engine win. I guess I’m wondering if you could provide any more detail on that, I guess sort of how you sort of view VoLTE opportunities. I guess you’re dividing it into interconnect access and I guess core policy engine.

Just could you just talk about the significance of that win or what it means for investors?.

Sure, James. So I think it’s a very significant design win and we’re continuing to work with a number of tier ones on their VoLTE strategies around the world. I hope we have more news to report throughout 2015. People do look at the IMS architecture as well as an access versus interconnect SBC architecture more broadly.

And many of them look at it slightly differently. So this was our first instance with our policy engine which has been deeply embedded in. Our gateway architectures was leverageable in this next-gen push to VoLTE. I expect some more of those on the IMS side.

And I would expect some of them on the interconnect side for SBC, for sure, to the extent that service providers use SBC on the access side as well for their VoLTE strategies. I would expect some wins there.

And then there will be some Diameter wins for sure as people look at roaming opportunities and peering opportunities between VoLTE networks, because right now they do not roam VoLTE to VoLTE yet. But I would expect that as ’15 and ’16 play out there’ll be some opportunities for us there.

And to the significance of investors, I think it’s yet another growth market that we’re going to be exposed to and ultimately lead in. And so I think of that as a very good contributor to our long-term value. It’s a very high margin opportunity for us..

Okay, that’s helpful. And one last one. No good deed goes unpunished. You gave us some detail on Q2 being bigger and Q3. I’m kind of wondering if you could help us at all in the magnitude of the step up. I mean are we talking about $10 million? I think you had a $10 million, or whatever your thought, slipped from Q4 into Q2, perhaps that’s part of it.

But could you give us any help at all in sort of magnitude of the sort of Q2 jump?.

I mean the only help I’d give you is that it’s not going to be $10 million. It won’t be that high..

Great. That’s very helpful. Thank you..

Our next question comes from the line of Jess Lubert with Wells Fargo Securities. Please proceed..

Hi, guys. Thanks for taking my question. Could you touch on what drove the decline in deferred revenue, how much visibility you have to your at least 10% growth objective for 2015 and how we’re recovering spending at some of the bigger U.S.

tier one accounts plays into that objective?.

Sure. So first of all, I guess you’re trying to get into the backlog question and sort of book-to-bill and how much revenue do we have as we enter into a quarter already booked. And as we have mentioned before, it’s become much of returns business overtime.

If you go back, I don’t know, two or three years, there was much more backlog as we went into a quarter. That’s much less so now. And you see much higher percentage of the revenue being book shipped and revenue during the quarter.

And with regard to the deferred revenue, there’s a portion of it that’s just the usual runoff of maintenance as we go into the year. And then we’re rebooking those contracts. And in addition, I think we just had a number of deals hung up from a rev rec perspective that we were able to get cleared up by the end of the year.

So that’s really all there was to it..

So Jess, to the second part of your question - this is Ray - is on the tier one U.S. recovery. I’m assuming you’re talking about the early high profile discussion that’s been going off for the last six months at least amongst the top two tier ones telcos in the U.S.

I expect that to discontinue to play out over the course of this year, most likely leading to a backend recovery. I don’t think it has a material impact on us.

And the reason is our exposure to both of those accounts, in fact in all the tier one around the world, is throwing us a piece of the pie, so what they’re doing at the top doesn’t matter to us as much as the fact that we get exposed to more of the spin.

As folks move to cloud architectures, I actually think that’s the only path that they can take because their CapEx has to fit into their capital allocation models and both of them have just been significantly at the spectrum auction. So there’s a lot of pressure there.

They’ve got to move to cloud architectures in order to get higher capital efficiency. Then that’s where I think we can really, really help in the industry. That’s why I spent so much time in my prepare remarks focusing on that architectural strategy..

Ray, can you touch on the pipeline of VoLTE opportunities you’re working on? It sounds like an addition to the big deal, there’s some others that could front the model over the course of the year.

And when you think about the timing of those opportunities, is it really more the backend of 2015 and then ’16 when we see the revenue? Or do you think VoLTE revenue can be material this year?.

I do think it’s probably the backend, Jess. VoLTE played with some fairly big projects in prior years that could end up sold for technology issues. And then when they got launched, they got launched off established frameworks. We’ve got exposure to what you might call, growth CapEx, as those drawdowns continue.

And it will really depend on the pace of the growth in the VoLTE market which I do expect to happen this year and as a result, drive revenue this year. But I wouldn’t call it early on. And frankly, until we get more visibility into it, I’d rather just leave it at that.

But I am very excited about the fact that we’re ready, we’re strategic and we’re playing in that industry in a big way..

And then last one for me. I was hoping to dig into the Treq Labs opportunity little further. But if I look at the earn out opportunity for the acquired company, it seems like they’re based on some fairly healthy revenue assumptions.

So we’re just hoping you might be able to help us understand the pipeline of transitions you’re seeing in the market for those assets, how meaningful you think the acquired business can become over the next few years.

And perhaps you can frame this opportunity relative to past acquisitions, structures, network technologies and PT with respect to how you’re thinking about the potential opportunities surrounding Treq Labs moving forward..

Sure, Jess. I’ll take a shot and then Mark, if you want to talk about the earn out with any issues, please do. And Jess, since you asked me to frame it in the context of prior acquisitions, I’ll do it that way. That’s actually a really good way to do it. This is our third acquisition on my watch, the first one being NET.

You can think of that as a horizontal expansion for tailoring our approach down market into the enterprise, get close to the edge and we integrated with great relationship with [indiscernible] which has only become more strategic over the last few years.

But again, that was a product based issue and the products were to stick, 1k/2k was completely separate from the 7k evolving out to the 5k. And of course, we have the 9k called the gateway and that which evolved into our first SBC. PT was the acquisition of a signaling asset.

So it took us a good year to complete and virtualize the Diameter architecture which now access an application on our SBC and we’re starting to participate in the Diameter market much more in 2015.

As all of those move into software and of course our policy engine move into software and our entire SBC suite move into software, this acquisition of Treq I think of as a catalyst for us to get drive quickly into a new cloud architecture and to actually become the intelligence in cloud 2.0.

So I think it has the potential to be massively strategic, even though, it might in fact be a small footprint in our revenue in 2015. It’s too early to call the turn on that. I think that the metric score of earn out are out there. And Mark, you can talk to them if you’d like.

But I think that the Treq assets really make STM come to life for Sonus and to our customers both in the enterprise, in the call centers, the datacenters and in the service providers. Because this the first time that we think of top to bottom and allow software to define a network. That is what STM stands for.

So when we saw a track, what they have built was a very creative platform that was application-aware. It wasn’t just an STM controller. It was application aware and it rendered open ADIs up to policy so that it could allow for network manipulation from above. And that’s why we bought it.

They were struggling to scale, but they’re kind of too large opportunities. And with our operating capability and we their technology, was really perfect marriage. So that’s why we did fairly quickly at the open this year. And we expect to drive our strategy for the future..

Thanks for that..

Mark, any further comments on - Jess, I don’t know if you have any specific questions on here, but that’s how I do it strategically..

I mean, can you maybe just touch upon what the feedback has been for your existing customers, the opportunities to potentially sell that into the base to look out into maybe beyond ’15 into ’16, from a revenue size, how this might scale between what we’ve seen so far for PT and NET..

Again, I’m reluctant to drive revenue numbers. It’s early. But I can tell you that a consistent response is, wow. A consistent response from enterprise and from the service providers that are focused on enterprise and moving everything but later to switching into the cloud is wow, you can really do that? So we’re working really hard to drive that.

Whether or not it’s going to be above or below the earn out goals in 2015 is to be determined. But I think it’s going to be a big part of our strategic impact on the industry in the future..

Thanks, guys..

Sure..

Our next question comes from the line of Dmitry Netis with William Blair. Please proceed..

Thank you. A couple of questions, guys. And some might be repetitive, so I apologize for that. But I wanted to zoom in again on the margin front. So obviously, stand-up performance in the quarter.

So if you were to rank the three drivers that’s kind of drove that performance, what were they? And as you look out into ’15, that extra point of margin that you’re tacking on, what are some of the drivers again there, as far as the product versus services? How to think about the modeling kind of the ramp up in the margin growth, gross margin there? Thank you..

Okay. So yeah, so Dmitry, I mean on Q4, I mean a lot of the margin improvement was the fact that there was a good portion of the revenue that came from expansion business which is by its very nature, higher margin. And that is consistent with what we’ve seen in prior Q4s.

And that’s why you normally see Q4 gross margins to be higher than the average for the year. So I mean it was - it played out very much like what we’ve seen in previous Q4s. And then just coming back to the points I was making on 2015, as we said, we think that one of the prime drivers of revenue growth in 2015 is going to be the 7k.

We think, as we said, product revenue is certainly going to grow at higher rates than the maintenance and services. And so as a result of that, you’re just going to see, first of all, better mix in the sense of higher product revenue. And within that product revenue, you’re going to see better mix with regard to the 7k.

So I mean I don’t want to dismiss the fact that there’s a lot of good work going on just improving individual product line margins and improving services margins. But from a macro level, bigger picture level, we’re having good, favorable mix trends with regard to the revenue.

And that’s driving overall margin improvement in line with what we saw in 2014 and what we’re expecting in 2015..

Okay, that’s helpful, Mark.

But it doesn’t sound like between Q4, you had much of an impact from 7k on the margin front? Is that right?.

It certainly helped. I mean you had none of it in Q4 ’13 and Q4 ’14. You had a healthy dose 7k in the revenues. So that helped. But I think the thing that kind of took it above our prior expectations in guidance was even a little bit better mix on the capacity expansions which come at very, very high margins.

And so that was the favorability that we saw on Q4..

Okay. And then moving down to P&L, just to kind of touch on the OpEx, obviously you’re wearing a bit of a $2 million I guess in Q1 of incremental OpEx.

I did the math for the full year to wind up at that, would the gross margin behave [ph] and the EPS guidance, you’d be probably up for another $16 million from 2014, somewhere in that range, $14 million to $16 million of OpEx.

Is it tracking along with the revenue seasonality? Can you discuss how you’re kind of thinking about the OpEx line as you go out through the year?.

Again, I expect OpEx seasonality be similar to what we’ve seen in prior years. Q1 is usually a bit high. And then it will trend down not only on an absolute basis but also as a percentage of revenue obviously because Q1 tends to below with regard to revenue in the year.

I think the point we’re trying to make was we did 7% on operating margins last year. We’re shooting for 10% in 2015. We’ve made that clear. It’s not all going to come through gross margin expansion.

I think a good portion of it will, like we said, we think we’re going to add at least another point of gross margin, so that would imply more than 1 point expansion.

And then we think - but we think we get part of it through just containing OpEx and driving that down as a percentage of revenue and as we said, we think that there’s at least a point there as well. We’ll have to see how the year pans out because we can pull levers to adjust the OpEx spend over the course of the year.

So I don’t know exactly what the mix is going to be with regard to the incremental 300 basis points of operating margins that we’re shooting for in 2015. But I know at least a good portion of it is going to be gross margin expansion.

And then with regard to the balance of it, we’ll see whether we can drive better gross margin expansion or whether it’s going to come a little bit more from OpEx. And that remains to be seen..

Okay, great. And then last one. That was very helpful, Mark. And then the last one, I guess just were there any tier one customers wins this quarter? If you could update us on that front..

No new ones this quarter, no..

Okay. And then I think just to kind of recap, I think on the SBC, you had about 22 of the top 50 service providers. And then on the Diameter, you had two tier one service providers.

Is that still the right count to think about the products?.

Well, as we said, we didn’t add any tier ones in Q4. So that should be unchanged from what we had reported back when we announced third quarter earnings..

Okay. And then real quick, I missed the enterprise or the percent of product revenue.

Can you give me that number, please?.

Yes, sure. As a percentage of product revenue, it was around 15%, so a little bit lower than what we saw on the first three quarters. But again, similar pattern to what we saw in the previous year where fourth quarter, for whatever reason tends to be a little bit lower with regard to enterprise as a percentage of product revenue.

And as you would expect, you’d see a higher concentration service provider business in the fourth quarter..

Right, right. Okay, great. Keep up the good work, gentlemen. Thank you..

Thank you..

Thanks, Dmitry..

Our next question comes from the line of Mike Latimore with Northland Capital Markets. Please proceed..

Great. Thanks a lot. I guess just on the enterprise segment there.

Generally speaking, do you expect enterprise growth to be similar in 2015 to what you saw in 2014 or some acceleration or slow down? How do you think about enterprise, gentlemen?.

So I think we should see a little bit of an improvement. I mean as we mentioned in the remarks, after we talked about the 7k, I mean probably the second biggest driver that we’re seeing for revenue growth in 2015 is going to be continued expansion of the channel. Now as Ray mentioned, some of that is going to be channeled to service provider.

But I think a good portion of it is going to be channeled into enterprise. And that’s basically our 1k/2k business and 5k. The other, I think, good thing that’s going on is that we are actually seeing some interest from large enterprise in our 7,000 product.

I would say that when that product was conceived and launched, we generally thought that that was going to be a large service provider product. But we have actually seen interest in enterprises as well, especially in contact center.

So I think to summarize, I think when we talk about channel growth, we’re talking mainly about growth in enterprise, although, like I said, there is some service provider there. And we think that that’s a big contributor next year. And then we’re obviously very, very bullish on our 7k product, mostly service provider.

But interestingly, also seeing that getting picked up by some large as well. That should also help enterprise as a percentage product revenue as we go through next year..

Great. And then to the performance tech acquisition target for the year and I guess separately you mentioned sort of full year of signaling as a driver for 2015.

By signaling, do you mean both Diameter and SS7 or primarily Diameter?.

So I think signaling is both - when I talk about that, it’s SS7 and Diameter. Although, when we’re talking about getting the full year of growth and getting some more traction out of the signaling business as we go into 2015. That’s going to be mostly, if not all, a Diameter growth story.

Because I think the SS7 business is going to be relatively flat year-over-year from that business..

Great.

And did the acquisition hit its target for the year?.

Mike, this is Ray. It was close enough. I’d like to have seen it do more commercially, but certainly technically, it accomplished all of our goals, it allows us to position 2015 really nicely. So we’re going to drive that hard. I’m really glad we’re able to vote the SS7, STP side as well as the Diameter side.

There is a lot of interplay between those two. And a lot of the buzz you hear about things like Internet and things which kind of a big driver in the next few years, a lot of that is going to play out on existing 2G, 3G networks and mobility. A lot of those signaling architecture is going to live for another decade.

So both of those pieces of that acquisition are playing nicely in terms of strategy..

Yes. I mean from a revenue perspective, we had said - we didn’t expect a huge amount and that was true, so we were pretty close. And then from an EPS perspective, we said it was going to be mildly diluted. Then actually, it was closer to breakeven. So from a bottom line perspective, it actually did a little bit better..

Sure. Okay. Thanks so much..

Our next question comes from the line of Scott Thompson with Wedbush. Please proceed..

Thanks for taking my question, guys. Let’s start with logistic quick number. Traditionally, we’ve heard about top five customers contributing a certain percent of revenue.

Could we get that number for the quarter?.

Yes. It was just under 30%, 27% actually to be precise in the quarter..

Okay. So there’s some progress on diversifying the revenue streams from a year ago. Good work there..

Yes..

Tell us a little bit about the - last quarter, we talked a little bit about the, I’ll call it, sell through versus sell-in. At AT&T, they were selling in to some call center or enterprise applications.

Was there continued patterns there this quarter? Or was it a little more diversified?.

So we mentioned that AT&T was 10% customer in the quarter. I guess we had kind alluded - when we gave the guidance, we sort of alluded to the fact that we didn’t necessarily think that was going to be the case. And they ended up being 10% customer. And again, the kind of the differentiator there was the sell-through in the business services area.

It wasn’t as great as the prior quarters, but it’s probably just under $1 million which was good. And AT&T continues to sort of grow in significance as being a really strategic channel for us. So we are happy to see that..

Okay, that’s good. Mid last year, we talked about a large sale. I think it was maybe a service provider sale will be pushed out into end of ’15.

Can you give us an update on that opportunity and where it is? Do we still expect that in the first half?.

Scott, it’s Ray. I would probably call that in the second half. And we’ll give you an update on that on our next call..

Okay. Sounds good. One other question on the competitive environment. There seem to be startups that seem to be generating new product that wants to focus on the SBC DSC market in some way or form.

Have you been seeing any of those guys pop up in the bidding process? Are they a real competitive threat? How do you perceive those types of guys in the market today?.

I don’t know who you’re talking about specifically, Scott. But I don’t consider us to have any major threat from startups in this phase. In fact, I don’t think this is for the [indiscernible] and I don’t think this is for new ideas. This is a scale game. And it’s an interplay between all those layers in the stack. And I love our competitive end..

Yes. So having walked through those questions, the guidance for the full year, I guess it takes into consideration some of the lumpiness of some of the large top five customers as well.

Do you think with the newly diversified revenue streams and everything you’ve done and executed on the last years, is that guidance e pretty bulletproof if you will from changes within some of those customers?.

We’ll give you an outlook every quarter, Scott. But that’s our guidance at this point in time. And I wouldn’t call anything bulletproof ever. So I appreciate the question. But we feel very comfortable that our view going forward quantitatively and strategically, it’s very solid..

Okay. Thank you, guys..

Ladies and gentlemen, we have time for one last question coming from the line of Matt Robinson with Wunderlich Securities. Please proceed..

Hey, thanks all, for taking my question. It’s actually a little bit [indiscernible], but I’ll try to keep it quick. I got a question on deferred revenue, VoLTE and then a little bit on some of your metrics.

In deferred revenue, it looks like you saw a fair amount of a maintenance agreements that you’ve recognized and you didn’t necessarily replace them because it dropped more than we’ve seen I think in a while. Can you comment a little bit about that? And then also, another question on the metrics.

It’s interesting to see the less mix of the top five at the same time, more a larger percentage of your direct business. So those wouldn’t seem to correlate in that direction. So maybe if you could address that. And then on the VoLTE, the question I have is, it sounds like policy engine is a wedge that you’re using to get into that realm.

And maybe if you can comment on how you’re positioning that versus the opportunity for SBC and VoLTE..

Okay. So let me take the deferred revenue on first. So it’s in my prior answer, I led you to believe that there are maintenance contracts that rolled off and are not being replaced. Then that’s not what I meant to say. We have some maintenance agreements where the deferred revenue is being burned off over the year and then those will be replaced.

And as we said, we think that maintenance and other services is going to grow in line year-over-year in 2015 versus ’14. So somehow you took me to mean that there’s some businesses disappearing and not coming back, then my bad, I did not mean to imply that.

And then as I also said with regard to the deferred revenue, we did some deals that were sort of hang up for rev rec reasons that we basically got cleared by the end of the year. So that’s why you would have seen that go down a bit..

So rev rec or invoice ability?.

No, no, no. Rev rec..

Okay..

We would have been hoisted and even in some cases collected the cash and were just holding up the revenue recognition for whatever reason..

But that would increase deferred revenue, wouldn’t it?.

Not if you’re clearing those up and actually recognizing the revenue..

Oh I see. Okay..

And then with regard to the top five, yes, that percentage came off. I mean part of it is, as we’ve said we’ve been working on, diversifying the customer base and we’d have some success there. I think, however, it’s also tied to this whole issue of what kind of budget flush we saw in the fourth quarter. And we saw less.

The budget flush would normally come from some of our largest customers. And again, we saw less of that. We only had one 10% customer. And that customer was just barely over 10%. So I think that those two phenomena are related.

And I would suspect that as we go forward into 2015, you’re going to probably see that percentage pop up again and maybe not as great as it was in 2014, but closer to that than what it was in the fourth quarter of last year..

It’s surprising to see that --.

Matt, let me take the last question. Yes, Matt, this is Ray. Let me take your last piece on the policy and then go ahead and wrap this up because [indiscernible] time we’ve been on the call for an hour. Yes, you’re right in assuming that a policy engine is a wedge-in to VoLTE.

It’s by no means the only wedge or SBC particularly to the extent that it’s the 7k for video. It’s a big piece as well because when we talk about LTE, it’s really just setting up all real time over LTE and revenue I think is going to be a bigger story in the out years than even voice is. So I think you’ll see more SBC going forward.

You’ll definitely see more Diameter going forward as you see us play more strategically in the VoLTE space..

To everybody on the call, thank you very much for your support and interest in Sonus over the last several years. This has been a large part of our turnaround story that we’re now completing operationally and getting more strategic in the industry.

I’m very excited that what has been and you see a story and opportunity is becoming more and more real, SIP is globalizing without a doubt. It’s opening up the unified communication space to both fixed and mobility.

We’re starting to see fixed-mobile convergence which is going to be a big part of our story in a few weeks over in Barcelona at Mobile World Congress. And all modalities are going to look like Ethernet with a radio attached. And they’re all going to need full control which is the business fundamentally that Sonus is in.

We’re very, very excited about the opportunity with the industry forward. Thanks for y our time today. And we look forward to seeing many of you in the market over the next few months. Operator, I think we can shut down the call at this point in time..

Thank you. Ladies and gentlemen, that does conclude the conference call for today. We thank you for your participation and ask that you please disconnect your line. Have a great day, everyone..