Daniel Harlan Ives - Synchronoss Technologies, Inc. Stephen G. Waldis - Synchronoss Technologies, Inc. Karen L. Rosenberger - Synchronoss Technologies, Inc..

Samad Samana - Stephens, Inc. Michael Nemeroff - Credit Suisse Securities (USA) LLC (Broker) Nandan G. Amladi - Deutsche Bank Securities, Inc. Tom Roderick - Stifel, Nicolaus & Co., Inc. Tavis C. McCourt - Raymond James & Associates, Inc. Greg J. Burns - Sidoti & Co. LLC Gray W. Powell - Wells Fargo Securities LLC Greg Mesniaeff - Drexel Hamilton LLC Mine M.

Kansu - JPMorgan Securities LLC.

Good afternoon, ladies and gentlemen. And welcome to the Q3 2016 Synchronoss Technologies, Incorporated Earnings Conference Call. At this time, all participants are in listen-only mode. Later, we will conduct a question-and-answer session, and instructions will follow at that time. As a reminder, this conference call is being recorded.

I would now like to turn the conference over to your host Mr. Dan Ives, SVP, Finance & Corporate Development..

Good afternoon, and welcome to the Synchronoss Technologies' third quarter 2016 earnings call. We will be discussing the results announced in the press release issued after the market closed today.

I am Daniel Ives, SVP of Finance and Corporate Development of Synchronoss, and with me on the call is Karen Rosenberger, our CFO, and Steve Waldis, Founder and CEO. During the call, we will make statements related to our business that may be considered forward-looking statements under federal securities laws.

These statements reflect our views only as of today and should not be reflected upon as representing our views as of any subsequent date.

These statements reflect our management's current views and expectations, plans and strategies and anticipated financial results, all which are subject to known and unknown risks, uncertainties and factors that may cause the actual results to differ materially from those expressed or implied by these forward-looking statements.

For discussion of material risks and other important factors that could affect our actual results, please refer to those listed in our SEC Filings included in our most recently filed Annual Report on Form 10-K and Quarterly Report on Form 10-Q. In addition, today's discussion will include certain non-GAAP financial measures.

Our press release for this quarter's results contains reconciliations of these measures to their nearest GAAP equivalent. I also want to let investors know that we will be presenting at the Credit Suisse Technology Conference in Phoenix on December 1 and look forward to seeing many of you there.

With that, I will turn the call over to Steve, and then Karen will come back a bit later to provide some further details regarding our financials and forward-looking outlook.

Steve?.

Thanks, Dan, and thanks to all of you for joining us this afternoon to review our third quarter financial results, which exceeded the high end of our expectations on the top line while coming in towards the high end of our expectations on the bottom line.

Our non-GAAP revenues in the quarter were $181 million, which represented 20% year-over-year growth and was above the high end of our guidance. From a profitability perspective, we generated 26% non-GAAP operating margin and a non-GAAP EPS of $0.68, which was towards the high end of our EPS guidance of between $0.65 and $0.69.

Synchronoss' strong revenue growth and profitability in the third quarter was highlighted by a 40% year-over-year growth in our cloud solution business, which we believe is on course for a very positive trend in the fourth quarter as well as 2017, as Karen will discuss a little bit later in the call.

Now, we're also progressing well with the integration of Openwave, which is already led to significant cross-selling opportunities in Japan. As discussed, this is a major focus region for Synchronoss team over the coming years. Messaging has proved to be a key linchpin of cloud adoption, engagement and monetization with many of our existing customers.

We had a number of customer summits both in Japan as well as here in our headquarters in New Jersey with new and potential Japanese carrier customers to walk through the value of the proposition of our cloud solution and how it fits into their respective customer growth, engagement and retention plans.

To this point, we're excited with our progress in Japan and believe we have a clear path towards $100 million or more in bookings for 2017, based on significant cloud and messaging success with a number of Japanese customers including SoftBank, NTT Plala and KDDI during the quarter.

We look forward to discussing more details around these next-generation cloud messaging deals as we progress further down the path. A key contributor to our cloud performance in the quarter was continued success of the Verizon relationship.

As we have significantly expanded our partnership during the course of 2016, on the heels of our Personal Cloud success, which also continues to ramp. We continue to expand and make progress on our new strategic initiatives with Verizon that we mentioned on our last conference call.

And as part of these strategic initiatives, we signed a $25 million license deal with Verizon during the quarter, which is helping us both pave another area of growth at our flagship customer, and furthermore secure the importance of our Personal Cloud platform for the coming years.

We look forward to discussing more details around these new broader domestic and international initiatives over the coming months as we expand our addressable cloud analytics and messaging opportunities at Verizon, as well as customers both in the U.S. and abroad in the coming years.

Now, during the quarter, we made great progress, furthering advancing our cloud initiatives and migrating the rest of the F-Secure clients to the Synchronoss Personal Cloud platform, a trend that is starting to lead to ample cross-selling opportunities over the next 12 months to 18 months.

We're seeing the fruits of our labor in cloud start to pay dividends as the success from Verizon is now laying the groundwork for further cloud success with American Movil, British Telecom, AT&T and others in the quarter.

We're also excited about Reliance Jio and its national 4G wireless launch of its services in India, which lays the path for further monetization in this growing market.

We feel confident in these cloud opportunities as customers start to realize the clear value proposition of our cloud platform, and thus giving us healthy revenue opportunity and visibility into the next few years.

As we further build out these cloud deployments over the next six months to 12 months, we believe our cloud monetization strategy is set to kick into next gear of growth.

Overall, we had a very strong quarter in cloud, which sets up well in the fourth quarter and gives the company healthy momentum into 2017, and a testament to our innovative product development, solid customer relationships and strategic partnerships.

Now on the enterprise front, we are progressing extremely well with the Goldman Sachs strategic partnership, as we've successfully built a strong pipeline of customers and enterprise pilots across various verticals with the core focus on financials and healthcare.

During the quarter, we had a number of successful conversions from our pipeline into signed deals, including a handful of replacements of existing competitive deployments.

We are pleased at how quickly our sales force and strategic partnerships have translated into some early enterprise success, which is leading our ramping subscription revenues in our enterprise business in the fourth quarter.

We believe the market is ripe for our solution to be a replacement for this major pain point of enterprises, across the globe as CIOs continue to grapple with BYOD trend. I believe this foundation will serve Synchronoss well as we expand our enterprise offers and revenues in 2017.

Our Verizon partnership around the Synchronoss Universal ID platform is also ramping and on track, as we further build out this product portfolio.

This innovative method to credential and authenticate users on a secure mobile platform will provide an uncompromised secure experience that we believe could open the doors to multi-billion total addressable market over the coming years. To this point, our Verizon partnership helps provide us with access to approximately one-third of the U.S.

consumer market, and roughly 50 large enterprise customers. This platform offers us a great way to secure and scale with high visibility into the online consumer market for multi-factor authentication, and clearly jumpstarts our goal of expanding our secure mobility suite efforts.

Now, I want to discuss our activation business and some strategic initiatives, which we are actively working and are underway at the company. Now when I founded Synchronoss back in 2000, we started as an activation business, and the revolutionary iPhone activation software put Synchronoss on the map in 2007.

But we recognized that over time, the number of subscribers and upgrades would slow down, and put pressure on our growth as well as our margins.

And while our activation business is stable as demonstrated clearly this year, and still has pockets of high growth potential, we have decided to evaluate strategic alternatives for our activation business to enhance shareholder.

And we believe the timing is right as our growth initiatives and sales pipeline on our higher margin cloud business and enterprise business have surpassed our expectations, and gives us solid revenue and booking momentum into 2017 and beyond. Now, we will keep investors updated on this ongoing strategic process with our activation business.

But please keep in mind, it may end up resulting in no changes to the current business.

In summary, we had a very strong quarter and I feel confident about our broadening cloud platform expansion and growth initiatives heading into year-end with our enterprise strategy laying the path for what will be the next chapter of growth and profitability headed into 2017.

With that, let me turn it over to Karen to discuss the quarter in a little bit more detail..

Thanks, Steve. And good afternoon, everyone. As Steve stated, our business performed well in the third quarter, and I will now review our results in more detail and finish by providing our guidance for the fourth quarter and update full-year 2016 guidance.

We are very excited to deliver another strong performance in the third quarter with healthy business momentum heading into the fourth quarter and 2017. All of the numbers I will be going through will be non-GAAP. A reconciliation of non-GAAP to GAAP numbers can be found in our press release and on our Investor Relations site.

Starting with the top line, non-GAAP revenues were $181 million, which was above the high end of our guidance and up 20% on a year-over-year basis, driven by stronger than expected cloud revenues and in-line activation performance.

Our cloud solution revenue in the third quarter was $106.4 million, which represented 59% of our total revenue and grew 40% year-over-year. This was above the high end of our guidance range of between $102 million to $105 million.

As Steve highlighted, our cloud business has hit an inflection point, as our previously stated strategic initiatives at Verizon on the Personal Cloud front enabled us to further expand our addressable market at this key customer with a $25 million license deal signed and recognized in the quarter.

We expect this new strategic cloud initiative will help us realize more recurring revenues in the upcoming quarters, and look forward to discussing more details around this deal as we head into 2017.

We also were pleased to see cloud deals from a handful of other customers materialize during the quarter as the value proposition on Personal Cloud is gaining steam in the field domestically with the AT&T, and on the international front with British Telecom, América Móvil, and in Japan around our efforts at SoftBank and other carriers.

Our activation solution revenue was $74.6 million for the third quarter, representing 41% of our total revenue and was down 1% year-over-year. Generally, we saw volumes consistent with expectations in the third quarter with only a modest uptick from the iPhone launch.

Strength from DIRECTV deal neutralized some of the smartphone headwinds in the quarter. As Steve mentioned, we are in the process of evaluating strategic alternative for our activation business, which depending on the outcome of this process may or may not impact the future trajectory of this revenue stream.

Breaking down further, 66% of our third quarter revenue came from recurring sources versus 70% in the prior quarter. While this other 34% came from non-recurring sources such as professional services and licenses. The $25 million cloud license deal with Verizon shifted the recurring mix down in the third quarter.

As a reminder to investors, our revenue streams generally consist of 65% to 75% transaction and subscription revenues. And the remaining 25% to 35% professional service and license revenue with quarter-to-quarter variability.

With our enterprise solution going GA in June, we saw healthy customer activity during the course of the quarter in our enterprise business.

With a growing subscription pipeline heading into the fourth quarter and 2017, we now expect enterprise revenues at or above $10 million for 2016 based on additional wins, competitive displacements and better than expected momentum in the field with a clear path to profitability for this business in 2017.

On the international front, revenues continued to be in the double-digit range at 11%, up from single digits in 2015. We continue to make steady progress towards our longer term goal of deriving 25% of revenues from outside of the United States, with Japan poised to play a key role as we execute this strategy.

As Steve mentioned earlier, we believe we have a path towards achieving $100 million of bookings run rate in Japan for 2017. We are pleased with our international performance as this continues to be a major strategic focus of ours, as we look to diversify revenue geographically over the coming years. Turning to costs and expenses.

Non-GAAP gross profit in the quarter was $109.1 million for a gross margin of 60%, which was in line with our guidance. We will expect to see more leverage take hold as our enterprise product ramps and cloud revenues continue to contribute a larger percentage of our revenue streams.

Non-GAAP income from operations was $46.5 million in the third quarter, representing an operating margin of 26% at the high end of our guidance.

Non-GAAP net income attributable to Synchronoss in the third quarter was $32.5 million, which led to a non-GAAP EPS of $0.68 towards the high end of our guidance of between $0.65 and $0.69 based on a 30% non-GAAP tax rate. On a GAAP basis, our EPS was $0.16.

We note that we continued our restructuring, cost cutting and integration efforts during the quarter.

This continues to be part of a broader restructuring effort that we highlighted on our last earnings call as we look to shed underperforming assets, cut costs, change the direction of our international strategy, and position us for a stronger profitability and cash flow trajectory over the next few years, as we move towards higher growth areas of the mobile and enterprise landscape going forward.

Looking at our cash. Total cash, cash equivalents and marketable securities were $144.3 million, a decrease from $187.3 million at the end of the second quarter. Our cash balance was negatively impacted by some collections after the end of the quarter and a cash outflow related to our strategic build-out of Japan.

Regarding our $100 million buyback plan announced in the first quarter, we still have $60 million remaining, which we plan to opportunistically deploy, although we did not repurchase any shares during the quarter.

On the collections front, DSOs came in at 113 days versus 94 days in the prior quarter as we received cash related to our large license deal after the quarter closed due to some customer processing issues, and expect DSOs to return to more normalized levels in the fourth quarter with a target range in the high 80s heading into 2017.

Non-GAAP cash flows from operations was negative $17.7 million in large part due to the discussed collections issues, while free cash flow was a negative $37 million which was impacted by the build-out of our Japanese cloud initiative signed in the quarter.

This was a one-time capital expenditure that laid the ground work for this major strategic endeavor to ramp in 2017, and thus helps us build out Japan into a key growth region for the company.

On a related note, CapEx in the quarter was $19.3 million or 11% of revenues, and we still anticipate CapEx spending for the year in the range of 9% to 10% of revenues. We expect strong cash flow to resume in the fourth quarter and into 2017 as we benefit from an efficient operating model and lower CapEx structure looking ahead.

Now, let me move to guidance for the fourth quarter. Non-GAAP revenues are expected to be in the range of $194 million to $201 million, representing year-over-year growth of approximately 25% at the midpoint.

Breaking our revenue guidance down further, we currently anticipate our cloud solution revenue will be in the range of $122 million to $125 million or a growth of 36% at the midpoint of our range as we have a visible, stronger pipeline heading into the fourth quarter in 2017 on the heels of a number of cloud deployments with new and existing customers.

We also note that on an apples-to-apples basis if we exclude the one-time component of our Verizon's strategic partnership announced in the fourth quarter of 2015, our guidance implies cloud growth of roughly 60% at the midpoint year-over-year.

We currently anticipate our activation solution revenue will come in the range of $72 million to $76 million or an increase of 11% at the midpoint of our range given the seasonal strength expected from both AT&T and DIRECTV channels heading into the holiday period.

This assumes no change during the quarter as a result of our strategic process on the activation front. Turning to profitability, we currently expect non-GAAP gross margins of between 62% and 63% in the fourth quarter.

In terms of operating profitability, we expect non-GAAP operating margins of between 28% and 29% leading to non-GAAP EPS of $0.80 to $0.85, assuming a non-GAAP tax rate of 30% and 48.7 million diluted shares. We are expecting another restructuring charge of roughly $3 million in the quarter to reflect cost-cutting initiatives.

For 2016, we now expect total revenues of between $682 million and $689 million, representing 18% year-over-year growth at the midpoint versus our prior forecast of between $673 million and $685 million.

To this point, our new cloud solution range for 2016 is for revenues of between $408 million and $411 million, representing 32% year-over-year growth at the midpoint versus our prior forecast of between $394 million and $401 million.

On the activation front, we are lowering our range to between $274 million and $278 million versus our prior forecast of between $279 million and $284 million representing 2% year-over-year growth at the midpoint.

For 2016, we still expect non-GAAP gross margins of between 60% and 61%, and operating margin guidance range for the year tightened to 25% to 26% versus our prior guidance of 24% to 26%. Non-GAAP EPS is now expected to be in the range of $2.54 to $2.59 per share versus our prior guidance of $2.42 to $2.61 per share.

On a diluted share count of approximately $48.5 million and assuming a non-GAAP tax rate of 30%.

While we are not providing formal guidance for 2017, given the underlying pipeline strength we are seeing from our cloud business, we are forecasting initial cloud revenues to be north of $520 million in 2017 not including a contribution from our enterprise business.

We plan to give more details around our 2017 outlook on our fourth quarter earnings call in February. In summary, we feel proud of the Synchronoss team for delivering another strong quarter with exciting opportunities ahead, as we look out into the fourth quarter and 2017. With that, let me turn it back to the operator to begin the Q&A session..

Your first question comes from the line of Samad Samana from Stephens, Inc. Your line is open..

Hi. Congrats on a great quarter and thanks for taking my questions. My first one is, could you give us some additional detail and how far along you are in the process of the strategic alternatives and what you're potentially exploring and what you're leaning towards? And then I have a couple of follow-ups..

Okay. I think you're just cutting out a little bit. I think the question was around where we are in the strategic process and what are the areas of focus.

Is that correct?.

That's correct..

Okay. Yeah. So, we're obviously in the process of evaluating opportunities in the activation world. Clearly, there are good pockets of strength, certainly in analytics, certainly in some of the new emerging areas, Internet of Things. But there has been obviously areas or facets that have slowed down as you guys have seen in the market today.

And so, when you look and compare that to both our cloud and enterprise business that have both high growth trajectories and margin profile significantly better than the activation business, we want to make sure that as we evaluate the process that we're doing everything we can to ensure we're making the investments in the high-growth, high margin businesses of the future.

And that's something that will play out over the next quarter or so, and as we'd mentioned we'll certainly keep everybody up to speed..

Great. And then, switching gears a little bit.

I wanted to ask about, in Japan, it seems like your strength is ramping there, could you give us maybe some more details on what you're doing or where your early strength has been in cloud services, and how you expect messaging to impact that going forward?.

Sure. So, the biggest part for the Japan market which has been great for us is out of our Openwave acquisition, which is, messaging has really proven to be a really key linchpin for cloud. And that creates an engagement monetization perspective in that market which has similar ARPUs to what we would experience here in North America.

Once you have adoption and engagement, and messaging clearly creates high degrees of engagement, that really opens the door for monetization. And so you'll see in the coming year as we get more and more open about some of the initiatives we're working on.

It really helps us set the stage for that next growth of cloud for us very effectively which is in that area of monetization..

Yeah. And Samad, I would just add – remember, Japan is also going to really be key. We talked about that 25% of revenue coming from International. And this is something over the last few quarters, we've sort of laid the groundwork on Japan.

And we've really seen some of those seeds now prosper into deal flow, and we've talked about the $100 million potential bookings into 2017..

Great. And then Karen, I have one question for you. On the $25 million Verizon deal in 3Q, was that baked into your initial guidance or was that a deal you were already working on? I guess I'm just trying to parse out how much of the upside came from that.

And then as you think about 4Q guidance, are there any lumpy type of deals from Verizon or any other cloud customers that we should be aware of?.

Yeah. So clearly, that deal has been in the works for a little while and was clearly contemplated when we were giving guidance on our last earnings call.

The other thing that I would say is by way of our overall business model, it's remained unchanged from the 65% to 75% of our revenue streams coming from recurring sources of revenue with the balance coming from non-recurring sources, and that can vary from quarter-to-quarter..

And then, for the last question for me, on free cash flow, are you still expecting 15% to 20% year-over-year growth? I'm not sure if I caught that in the guidance section on not..

So right now, I mean we are expecting from a DSO perspective, normalizing in Q4, obviously, that will impact the free cash flow that we anticipate for the year..

Okay. Great. Thanks, guys for taking my questions..

Thanks..

Your next question comes from the line of Michael Nemeroff from Credit Suisse. Your line is open..

Hey, guys. Thanks for taking my questions and congratulations on a nice quarter. Steve, during your prepared remarks, you talked about Japan a lot, and Karen, I think you mentioned that there was a big CapEx spend on the build-out there. I'm a little bit confused because I thought that you were virtualizing the storage.

So, if you could maybe just detail what that CapEx build-out in Japan was related to?.

Sure. Well, the first thing, you're right, it's – as we put together without getting into specifics, it's involving a lot of software purchases that we're pulling in combined with the solution that we're bringing to the market.

That will be much more robust and will have a lot more features in terms of some of the partners that you'll hear about in 2017. Mike, the virtualization component was completed as scheduled and that's why I think you also see that, we're still within that 8% to 10% kind of yearly guide on CapEx..

And then if I may, backing on on the last question, as you look to potentially sell the activations business, I'm just kind of curious if you can give us maybe a little bit more detail, maybe this is for Karen, around what type of profitability or what type of an EBITDA margin that activations business carries versus the blended company?.

Yes. So, I mean what I would say as far as the activation business is really – we took a look at the activation business. We have discussed previously that generally speaking, the activation business is a lower than corporate gross margin as well as down the contribution margin.

So, we haven't given specifics on exact EBITDA percentages, but I will say that it is lower than the corporate margins that we're achieving now..

Okay.

And just one last one for Karen, if you take, if you back out activations, what percentage of the business would be transactional and subscription?.

From an activations perspective, obviously, that is a higher transaction and subscription model. So, it's slightly higher than what we've talked about on the call as well as – I mean from an overall perspective..

Okay. Thank you very much for taking my questions..

And Mike, I would just – the one thing I'd also add is that, remember the enterprise, is that's really ramping and Steve talked about, that's above expectations, that's a pure subscription piece. So, that's really as we go in....

That's right..

...2017, that's also going to play a role, we'll talk more about in February..

Yeah. I would take Mike, the summary, if you're thinking about from models, that you'll see the transaction, the recurring stay the same, but then you'll get more recurring in subscription as the enterprise business starts to scale, because that's 100% recurring.

So, when you look at the net-net of the both growth next year, you would see a business that has not just a much higher margin profile, but a business that has a much more recurring stream of revenue..

Right..

Okay. Thanks very much for taking questions. I'll get back in the queue..

Thank you..

Your next question comes from the line of Nandan Amladi from Deutsche Bank. Your line is open..

Thanks for taking the questions. So, Steve, the activation business, clearly, e-commerce is still a growing trend. So, why the decision to divest this business given all of the – I know we haven't seen very solid growth this year. So, can you explain sort of the difference between the e-commerce growing on a secular basis and....

Yeah. I mean I think you see in general that e-commerce, there are pockets of high-growth in activation as we look at the business as a whole in terms of what – as we strategically look at it. There are areas certainly online, certain new areas of Internet of Things and online, over the air activation components.

But there also is a series of transactions and smartphones in general that have declined. I think almost going through the earnings season, there wasn't a OEM out there that didn't discuss that. So, that impacts us.

So what I like to focus on is as we build the businesses going forward, I want to make sure that the investments that we're making are in the high growth, high margin areas that can create the next chapter of growth and success for Synchronoss that we've done for year (28:49) for shareholders.

And so, I think it's the prudent thing to do is to evaluate what our options and opportunities be, and decide whether we may or may not have a conclusion to what it may or may not change the business at all. I think it's something that we need to seriously evaluate to make sure that we're on the right path going forward..

Kind of, a quick follow-up on the financial disclosures, so assuming that activation is divested. Do you plan to change your segment disclosure for next year or perhaps breaking out – I know you broke out international on this call.

But how about the enterprise segment and perhaps a little more granularity in the cloud segment?.

Yeah. I think as we do every year, Nandan, we evaluate what the right metric should be going forward. One of the feedback we got from a lot of the investors last year was to kind of give the updated quarterly guidances on both cloud and activation.

As enterprise becomes a meaningful part of our business, that's something that we would think would make sense. But again, we haven't finalized that yet. It's something that we would plan to make sure was part of our 2017 guidance and something that we would cover in greater detail on our....

On the next....

...annual Analyst Day..

Right. That's correct..

Thank you..

Your next question comes from the line of Tom Roderick from Stifel. Your line is open..

Hey, guys. Good afternoon. So, congratulations on the extension here with Verizon. Steve, I was wondering if you could just go into a little bit more detail regarding what that extension represents, what side of the business, how they're utilizing that.

And understanding historically you haven't typically done one-time license deal, what was the nature of this deal that sort of forced your hand into or caused them to want to do this major of a one-time license deal?.

Well, I think – obviously, Tom, it's tough because we're going to discuss more in the coming quarters, which you guys will get more visibility in terms of the offers, and obviously, we've got some NDA requirements.

But what I can tell you is that a lot of the work that we've done at Verizon on the cloud space led to great opportunities to expand that into new areas. And as Verizon makes strategic initiatives on their own, we believe that our product offers play a bigger role into that.

And so this opportunity for us really sets the stage for as we typically do recurring revenue streams in new areas. And so if you've looked at the past in the history when we've done one-time license, it's typically led to that. You see the fruits of the labor coming out and accelerating our enterprise business this year.

That was a big part of our initial work with Verizon. So this falls into the same category, albeit it's a different area. And so it does two things for us. One, it really solidifies the importance of our Personal Cloud there.

And secondly, it creates new opportunities and I will say not just here in the U.S., but internationally, as we partner with them on new initiatives..

Great. And Karen, following up on just the accounting of that in the quarter, I mean typically if you see a large license deal sort of late in the quarter, it comes with some really high profitability, particularly on the gross margin side. Gross margins here look like they are just about the same with last quarter.

So, are there other expenses that you were able to layer in on the quarter that we might not see again next quarter? Was there anything to use to sort of offset some of that strength in the license that may go away and create – add some (32:00) leverage in the model? I noticed you're guiding gross margins up by 200 to 300 basis points for next quarter.

So, maybe it's in there..

Yeah. I mean certainly we had some expenses that we anticipate not repeating in Q4, as we talked about our guidance in gross margins for Q4 is 62% to 63%. So, clearly, there were some one-time expenses that hit Q3 this year..

Yeah. And Tom, just to add to that, I remember there is the recurring that you're going to get from this over the coming quarters, that's also going to help that profitability stream..

I think....

Got you..

Yeah. And one of the thing, Tom, too is when you look at modeling, we always when we look at our recurring, non-recurring in the ranges that are typical there. In the non-recurring, there is always a portion of license revenue that's pretty consistent.

Now, it's a little bit higher than normal, but it's not a – there always is some expected as we work some specifically....

Right..

...to newer markets, our opportunities....

Right..

...where it makes better sense..

And I mean I would add to Steve's remark that when you've seen the spike in some of the non-recurring in prior years or prior quarters, you've seen an uptick in recurring revenue in subsequent quarters..

Got you. Last one for me, Karen, just I want to make sure I understood your commentary with respect to the cash flow guidance for the year, understanding that AR kind of puts a little pressure on it this quarter.

Is the guidance still for 15% growth off of last year's free cash flow number? And to the extent that it is, can we just get some clarity, as you guys recast your historical numbers around your ASU 2016 early adoption? What that is that we're using as sort of the historical 2015 number that we should be thinking about as we sort of update our historical numbers there? Thanks..

Yeah. So, from a cash flow perspective, we're expecting things to normalize in Q4. I would say, as part of the early adoption of the ASU for the nine months period, there was approximately a $6.5 million impact to cash flow from operations to-date..

$6.5 million to-date?.

Yes..

Okay. Thank you..

Thanks, Tom..

Your next question comes from the line of Tavis McCourt from Raymond James. Your line is open..

Hey, guys. Thanks for taking my questions. I've got a couple, but first a housekeeping one for you, Karen. You gave the Q4 guidance.

I didn't hear you say a tax rate, should we still be factoring in about 30%?.

That's correct, 30%..

Okay. And then a couple of questions. So, I noticed AT&T Locker kind of got an update in October. It looks like they're giving way 50 megabytes free at least initially.

And so, what I'm wondering is as you switch to this virtualized software model, are you still getting paid on storage or is this much more of a peer recurring business where the revenue to Synchronoss is more on a per subscriber basis? Maybe you don't want to comment specifically on AT&T but just generically, because it seems like most of those deals going forward are going to be more software based..

Yeah. That's....

Go ahead, Steve..

No, I was going to say, Tavis, it's a great question. So, if you think about it, if we're – it varies by customer, so there are examples where we like in the past with Reliance Jio, they manage a 100% of the storage. So, we get a fee for the use of the active subscriber.

There are other customers today that even though we're virtualized, will use a third party whether that's Amazon or some other type of service. And then what ends up happening is we do get the revenue for that, but it also shows up in our cost of goods. It's not a CapEx expenditure, right? So it's put in as a cost of the service..

Okay. And then on the cloud guidance for 2017, I think you said $520 million. I want to make sure that was before the enterprise segment.

Is that correct, Karen?.

That is correct..

And when you look at kind of the major customers outside of Verizon that are ramping somewhere in your press release, and I don't know if AT&T was in there, but as we look at kind of the similar professional services revenues, you get to stand up those clouds and prepare them.

Are those types of non-recurring revenues going to be bigger next year, or is this the heavy lifting year on those types of revenues...?.

Yeah. Tavis, good question. There was a lot of that with the migration work that typically we get on our platform, because we've done a – as the product has got more mature and it's more virtualized, it's much more standardized to plug in and use it, and so that there are services, but they're not as material in our core product.

That being said, if we're working on new initiatives that would expand the product altogether, which we would point out, then it might go to a typical model, where if it makes sense to us to do some service or some license work upfront, because there is a big recurring revenue stream on the backend, we'll do that.

But if I look at my current Personal Cloud deployments that we talked about on the script today, the ones that we went through the migration next year, now the cross-sell, up-sell is really getting the adoption and the monetization up with the existing active subscribers.

So, we don't see that to be any higher, in fact might be slightly lower than you typically see on those that are ramping into production now..

Yeah. I don't think that – at this point in time, our business model is pretty much staying consistent with the 65% to 75% recurring revenue streams and the balance coming from the non-recurring revenue stream. If we would do any updating to that, we would talk about it on the next earnings call..

And Tavis, as Karen talked about and Steve, I remember cloud and enterprise especially the nature of some of those cloud deals, you're really going to see the benefit into next year, and.....

Right..

...it speaks to the comfort in us giving that guidance in 2017..

Much appreciated. Last question I promise, for Karen. The differential between the GAAP and non-GAAP revenues, which I suspect was mostly driven by the SoftBank acquisition, will there be more of that in 2017 or will most of that be run through by the end of 2016? Thanks..

There will be a tail on that into 2017..

Okay. Thank you..

Thanks, Tavis..

Your next question comes from the line of Greg Burns from Sidoti. Your line is open..

Good afternoon. The strength you're seeing in the enterprise segment, is that coming from any particular vertical? And in the instances where you had a competitive displacement, what are the factors that are kind of driving that win for you? Thanks..

Sure. A couple things. So, we've had good success in both financials and healthcare. I would say on the financial side, what's driving a lot of the success is just the ease of use of being able to have the Secure Mobility product, it's intuitive, it's easy to install, it's secure and it allows this BYOD phenomenon to really be important.

I think the second part that we've been able to add a lot of value is the analytics portion of our business.

So as we add more analytics, we know who's, not just the security, but we're able to provide all this kind of analytical information about what's happening with those users and embedding it back to those telecom mangers, that's been really well received.

So, I think when you think about typical competitors in the market today, they're either locking down the devices, they're making it really painful for the users to have to use them. We have everything from an easy-to-use interface to the integration that we've done with Microsoft product.

So, some of the products out there today, if you're trying to get email, it takes a few minutes to pull it down to actual device, ours is instantaneously. So there is a bunch of features out there that really make it usable for folks who want to be productive on the road, but be secure. But there was two common themes.

There is finally a solution here that we can put on someone's BYOD device that's secure and simple and easy-to-use, and they can actually be productive..

Okay.

And is there anything you could share with us in terms of maybe the number of businesses or users on the platform right now?.

We haven't because – discussed any of that yet, but we are doing as we will as part of our consideration into 2017, so as we think about guidance metrics, things like enterprise users, number of subscribers, et cetera, things that we're definitely looking at to kind of give folks like yourselves a real good flavor for.

But as we're just getting out of some of the implementations this past quarter, and we ramp, it gives us an opportunity to make sure that what metrics we do give you guys are the most accurate and the most reliable..

Okay. Then lastly, in regards to the opportunity in Japan, I guess, it seems like you've kind of upgraded your outlook for next year, and you've put in that big capital investment to kind of lay the groundwork for what you're hoping to accomplish there over the next few years.

So, has your visibility into the opportunity there increased over the last few months since the Analyst Day?.

Yeah. We've had quite a number of summits with some of the customers, and the perception that we've gotten from a lot of the buyers across carriers has exceeded what we thought out of the gate.

And so, when we saw opportunities again, where I think the messaging component really fits well with our cloud offer, really helps solve the adoption questions that typically we have to fight through to get to scale and so all of that has kind of been a very effective planning tool since the Analyst Day.

So, it gives us more momentum as we think of 2017..

Okay. Thank you..

Your next question comes from the line of Gray Powell from Wells Fargo Securities. Your line is open..

Great. Thanks for taking the questions. On the Verizon revenue, so in the past, large license revenues have hit before recurring revenue ramps up, is that the case with the $25 million Verizon license revenue in Q3.

If so, what does that curve look like? And then did that revenue in Q3, did that take place of anything that would have happened anyway? I think you had a similar situation last year. Thanks..

Yeah.

So, typically, it does vary, but if you look back historically, the recurring revenue – we typically enter these type of arrangements on Tier-1 carriers, because again sometimes, we will do some license deals for Tier-2 and Tier-3, because it has some direct correlation to recurring revenue streams and depending upon the type of market or service that you're offering, they will vary.

If you take a look at last year's numbers, for example, some of the guidance that Karen gave for the quarter, if you look at the one-time deal that we had with Verizon, if you back that out, you will see a 60% cloud growth on the cloud side, 37% with it in.

Part of the subscription revenues that are growing on the enterprise is part of the deal that we struck with them at the time. So there is no guarantee on a fixed number, Gray, in terms of where it will end up, but we will absolutely do that when we know that there is visibility to grow into subscription streams..

And Gray – and I would just add too that this is something we hinted at last quarter in terms of those strategic initiatives with the Verizon. Karen talked about it.

It was something that we expected this quarter, and obviously, the benefit you will see from a recurring perspective over the coming quarters, but this is something that is right in line with – as we sort of highlighted..

Got it. Okay. That's really helpful. And then one more if I may. So, on the enterprise JVs, you talked about $0.20 of dilution this year and being breakeven in Q4 2016. I think that implied like around $4 million or $5 million in revenue in Q4, just to make sure I'm thinking about that correctly.

And if so, how should I think about sort of the pace of growth or the ramp beyond Q4?.

Well, I think as we start to scale it up for the year, I think it gives us the comfort that will get to profitability as scheduled in 2017. And that's been a key driver in terms of the investments that we've made this year on those accounts..

Okay. Thank you very much..

All right. Thanks, Gray..

Your next question comes from the line of Greg Mesniaeff from Drexel Hamilton. Your line is open..

Yes. Thanks and congratulations on a great quarter. Couple of questions I have.

Looking at the enterprise business, as it ramps, what kind of CapEx needs do you foresee having for that business?.

It's very minimal, because most of the software, not all of it, is always at the customer premise. I'm sorry that is hosted at the customer premises, so the CapEx burden for obvious reasons a lot of the major enterprises have their own security standards there. So, it's very minimal..

Got you. And as you look at the current customer profile – I mean it's mostly Verizon at this point.

Can you give us some color as to what kind of discussions, if any, you're having with some of the other major carriers for offering a similar type enterprise mobility platform for their customers?.

Sure. So, we look – historically, we've been working with other folks to see, how we can partner with those identities. If you think back about one of the importance that Verizon has for us, as it gives us a third of the U.S.

market on the consumer side, you can start to create kind of common identities for users that we think would be valuable with other carriers to be able to leverage that on the authentication side, which then provides additional opportunities on the secure mobility side.

So we think of that, it's a good way to – the good question, we think of that as just an additional channel, that we can go sell into with these types of products..

Right. But you're not at that point yet, I assume..

We are talking to multiple carriers, we have not announced any wins with those carriers..

Got you. And just a final quick question. As you pursue cloud opportunities overseas, particularly in Europe, what kind of issues are you running into regarding storage and warehousing of data, as far as – has to be local to that country? Thanks..

Yeah. I think it's very big. As you go to each market, which is part of the reason why we've kind of worked closely to make our software which – if we go back two years or three years ago, wasn't as commercialize as it is today, that allows different customers to house it in country, and we have multiple solutions.

We have partners like In Germany with VCHS, where they store it obviously to their laws in country. So, most of those environments either by law or just by comfort want to have that data stored inside the country and so, our software allows them to use a multitude of different types of virtualized platforms to run it on.

Really depends on what standard is, which varies by carrier..

Right. Got you. Thank you..

Thanks..

Thanks Greg..

Your next question comes from the line of Mine Kansu from JPMorgan. Your line is open..

Hi. This is Mine Kansu in for Sterling. Thanks for taking my questions. I just have a couple of quick ones. You've mentioned the Verizon deal with all cloud and maximizing the (47:10) quarter and then we talked about the international success with that.

So, I was wondering if you have any updates on the 15 million cloud subscribers by the end of 2017 metric or anything along that lines just in terms of the cloud growth. And then my second question is going to be specifically on AT&T in terms of their ramping cloud. If you can give us a bit more color on that, that would be really helpful..

Sure. So, we typically don't update in year the different metrics for the cloud because it's done on annual basis, but it is trending slightly better than what we'd anticipated from an overall adoption in terms of our goal that we laid out at Analyst Day.

And then as we sit with AT&T and others, not to comment on specific roadmaps, but we've made some new additions, which some of you may have seen in terms of app being updated.

They've made some different changes to their offer sets, and there is a certain roadmap that we're working closely with them on in terms of how and when they'll ramp it into different areas and how quickly that will come..

Perfect. Thank you..

Thanks..

Your next question comes from the line of Samad Samana from Stephens, Inc. Your line is open..

Hi. Just one follow-up question for me. In terms of the enterprise deal, could you give us any idea of what the average duration is, what the average deal cycle length looks like? Just some metrics, so we can think about how that business ramps, as we think about 2017.

And anything around the number of sales reps you have as you exit 2016?.

Okay. Yeah. The duration of those are typically one year to two years in length. They're based on commitments for numbers of active subscribers and the function they (48:49) typically pay on a per month basis..

And then how many sales reps do you have, selling enterprise today?.

We haven't broken that out. As we ramp it out, obviously, we're adding more. But we've spent some time thinking – if you think about the sales cycle, it's typically a three-month to six-month kind of process to convert from initial discussion to trial to actual commitment.

And as we breakout that business next year, we'll obviously be hiring more and more to these areas. One of the big benefits of the strategic partnerships that we got both from Verizon and Goldman is that we do get a lot of lead generation directly from those particular accounts.

In Verizon's particular example, we actually got roughly 50 of the large enterprise accounts that will be transitioning over to us over the next year or two as we start to ramp up the service..

Great. Thank you..

Thanks..

I am showing no further questions at this time. I would like to now turn the conference back to Dan Ives..

Well, thanks everyone for joining us and we look to see you on the road in the coming months and have a good night..

Ladies and gentlemen, this concludes today's conference. Thank you for your participation and have a wonderful day. You may all disconnect..