Gregg Lampf - VP, IR Gary B. Smith - President and CEO James E. Moylan, Jr. - SVP, Finance and CFO Thomas Mock - SVP, Corporate Marketing and Communications Stephen B. Alexander - SVP and CTO.

Kent Schofield - Goldman Sachs Mark Sue - RBC Capital Markets Dmitry G. Netis - William Blair Paul Silverstein - Cowen and Company Ehud Gelblum - Citigroup Brian Modoff - Deutsche Bank Jeffrey T. Kvaal - Northland Capital Rod Hall - JPMorgan Alex Henderson - Needham & Company.

Welcome to the Ciena Corporation’s Fiscal Fourth Quarter and Year-end 2014 Earnings Conference Call. My name is Poulet and I’ll be operator for today’s call. At this time all participants are in a listen-only mode. Later we will conduct a question-and-answer session. Please note that this conference is being recorded.

I will now to the call over to Gregg Lampf, Vice President of Investor Relations..

Thank you, Poulet. Good morning, and welcome to Ciena’s fiscal 2014 fourth quarter and year-end review. With me today is Gary Smith, CEO and President; Jim Moylan, CFO; Steve Alexander, CTO; and Tom Mock, Senior Vice President, Corporate Communications. This morning’s press release is available on national business wire and ciena.com.

We will also post to the investor section of ciena.com an accompanying investor presentation, including certain highlighted items from this quarter being discussed today, as well as our historical results.

In our prepared remarks today, Gary will discuss management’s view on the market and Jim will offer some color on our results and provide guidance. We will then open the call to questions from sell-side analysts, taking one question per person with follow-ups as time allows.

Before turning the call over to Gary I’ll remind you that during this call we will be making certain forward-looking statements.

Such statements are based on current expectations, forecasts and assumptions regarding the company, that include risks and uncertainties that could cause actual results to differ materially from the statements discussed today. These statements should be viewed in the context of the risk factors detailed in our most recent 10-Q filing.

Our 10-K is required to be filed with the SEC by December 31st, and we expect to file by that date. Ciena assumes no obligation to update the information discussed in this conference call, whether as a result of new information, future events or otherwise.

Today’s discussion includes certain adjusted or non-GAAP measures of Ciena's results of operations. A detailed reconciliation of these non-GAAP measures to our GAAP results is included in today’s press release available on ciena.com. This call is being recorded and will be available for replay from the investor section of our website.

Gary?.

Thank you, Gregg and good morning, everyone. As you saw earlier this morning we posted another record breaking fiscal year at Ciena. In 2014 we made great progress against both our strategic and financial objectives.

Most importantly our progress in 2014 sets us up nicely to continue to grow revenue and increase our profitability in fiscal 2015, which we are confident we will do. We have been designing our business for the last several years based on our expectation of how the market will evolve and that evolution is coming about.

The cloud is hastened the shift towards on-demand networking to the point where the cloud really is the principal driver in network architecture evolution.

The need for on-demand network resources is redefining traditional demands from geographies such as core Metro to a simpler topology that reflects more cloud centric usage, connecting users to their data which we refer to as content to user and connecting data centers together, which we refer to is content to content.

This shift aligns perfectly with our OPN, Open Network Architecture which we announced three years ago and which is now facilitating this evolution for our customers.

Going forward the new architectural model has implications for all kinds of network operators but especially the two key buyers of networking solutions for the cloud; global tier 1 service providers and web scale providers, sometimes referred to Web 2.0.

We use the term web scale to describe the community of [ph] net content providers like Amazon, Facebook, Google and carrier neutral providers of co-location and interconnect functionality with data centers, such as Equinix and DRT.

With regard to service providers, whether they are customers or enterprise, mobile or residential, global Tier 1’s are, and will continue to be the primary owners of the content to user domain. In many cases global Tier 1’s are also providing various types of network resources, specifically for the web scale providers.

Within the content-to-content domain the web scale providers are also critical drivers in this evolving ecosystem, as they are taking a growing role connecting content across data centers.

But most important to Ciena’s outlook for 2015 and beyond is that we are uniquely positioned to serve both of these networking domains and both the service provider and web scale verticals and our position in each is market leading.

Just last month Infonetics released its global 2014 Service Provider Vendor report in which Ciena was again named the number one optical supplier, as we claimed also the number one spots for packet optical systems, optical transport and switching and transport SDN and control play.

Perhaps less understood however is our leading position within the web-scale market. While we have not name them publically Ciena counts its customer leading providers of search social networking and web services as well as other emerging network operators, including data centers and Ethernet exchange operators.

In fact, Ovum [ph] ranks Ciena number one in global market share for Internet content providers and carrier neutral providers. This is based on its data center interconnect market share report which is expected to be released in the coming weeks.

In addition to these direct sales the web scale community buys enormous amount of network capacity from Ciena’s service provider and submarine customers around the world. When taking this into consideration this makes our total web scale position even more market leading.

And I think the last point demonstrates why diversification across both these markets is so critical to future success. As the cloud ecosystem develops, the roles of service providers and the web scale community are increasingly interdependent and dynamic.

To build the global on-demand environment that the cloud requires you must be working closely with both global tier 1 service providers and the major web scale players.

Ciena’s leading position with both sets of buyers gives us a unique competitive advantage in building our global on-demand network resources for the cloud in 2015 and over the long-term.

Clearly these are critical markets but they certainly are not the only verticals we are targeting, MSOs, research and education, governments and other customer segments also complement our own going diversification.

MSO revenue for instance grew 34% in 2014 year-over-year and in submarine we’ve grown from the zero market share just a few years ago to number one in cable upgrades in 2014.

These results demonstrate the benefits of our evolved go-to-market strategy and geographic diversification, and I think provide a long-term foundation from which to continue our international growth. In 2014 international revenues were up 12% versus 2013.

And over the course of the year we developed and significantly expanded our relationship with the largest MSO outside North America, Liberty Global. And 2014 was also our best ever year for our India and Brazilian markets.

Meanwhile, our partnership with Ericsson has already yielded an announced win with Telstra as well as several other wins yet to be announced, including a Tier 1 provider in Europe. The partnership is now gaining momentum and we continue to expect it will be a key part of our geographic expansion going forward.

When taken together all of this market progress contributed to our growth in 2014 and has critically helped us build new footprint for future growth and increased customer diversification.

From a portfolio standpoint 2015 represents a tremendous opportunity to continue to expand our role and our reach, with a broad range of new platforms and solutions either just in market or about to come to market.

Our new 8700 Packetwave further expands our opportunity in metro and datacenter networking and we already have nine customers for the platform. Our recently announced Agility Matrix and related software solutions position us into the service delivery parts of our customer's business expanding our solutions for NFV and SDN.

We're expanding our leading optics with full packet integration on 5400 and we will be delivering new WaveLogic Photonics during the course of the year. We also plan to introduce new technologies in 2015 that will not only provide first-to-market advantage but also significant cost reduction benefits.

These benefits along with changes in our product mix will help us increase gross margins overtime. These investments in both our portfolio and go-to-market strategy will help us expand our role and our reach in 2015 and beyond. We're now in a great position to capitalize on those investments.

Simply put we are diversifying both our customer base and our solutions and expanding our available market. As a result we expect fiscal 2015 to show continued growth in revenue and increased profitability over 2014. I'll now turn the call over to Jim. .

Thank you Gary. Good morning everyone. 2014 was an excellent year for Ciena and as Gary said, we now have a solid platform for growth and increased profitability in the years ahead, serving all network providers, from Tier 1 service providers to web scale players and everyone in between.

That success has translated into another record year for Ciena in 2014 with financial performance that is significantly improved over last year. Our revenue was $2.3 billion, a 10% increase over 2013. Fiscal '14 was another demonstration of our ability to consistently raise the bar on our performance.

Our adjusted gross margin for the year came in at 42.1%, roughly flat with 2013 and in-line with our expectations. We remained committed to controlling the things that are within our control and our adjusted operating expense for 2014 reflects that commitment.

OpEx for the year was $816 million, below the target we set and communicated to you at the beginning of the year. As a result of this performance we saw increased operating leverage in our business in 2014, with adjusted operating margin coming in at 6.5% for the year.

Our adjusted operating profit for the year was a $148 million, an increase of 28% over 2013. We ended the year with $777 million in cash and investments. That includes the proceeds from the term loan facility that we closed last summer. During 2014 our business generated $45 million in cash, excluding the proceeds from the term loan.

As expected our backlog declined in 2014. We ended the year with backlog of $807 million and orders for the year were slightly lower than revenue. These results are consistent with the changing profile of our customer base to include more packet and web scale buyers, both of whom require rapid fulfillment.

Our business optimization efforts to meet those customers’ lead time requirements have allowed us to convert orders to revenue more efficiently and also position us nicely for future business with these buyers. Taking a closer look at the quarter, revenue came in at $591 million.

International sales accounted for 48% of revenue which is higher than it has been for several quarters and reflects our increasing diversification globally. Adjusted gross margin in Q4 was 38%, at the lower end of our guidance range.

As you’ll recall last quarter we discussed a number of variables that had the potential to affect our gross margin in the short-term. The combination of these variables and the degree to which they occurred within Q4 did in fact push down our margin performance during the quarter.

As we will discuss in guidance we are confidence that this is a short-term phenomenon and then our gross margin will reflect the return to our more typical low to mid 40s range in the first half of 2015. Adjusted operating expense in the fourth quarter was $204 million.

With an adjusted operating profit of $20 million Q4’s adjusted operating margin was 3.4%. We had a very strong cash quarter; we generated almost $60 million in cash during Q4. This coupled with higher inventory turns and lower product lead times demonstrates the benefits of our greater efficiency and balance sheet management.

Finally, as a result of fluctuations in foreign currency exchange rates we had a net loss in interest and other income of approximately $11 million, net of hedging effects. This was driven mainly by a significant strengthening of the dollar during the quarter, mainly against Latin America currencies. I’ll now turn to guidance.

Last year at this time, our improved visibility and confidence in the business allowed us to provide annual guidance for the first time. We remain confident in our market position with good visibility into 2015. So I’d like to offer some color on our expectations for the year.

From a revenue standpoint we believe 2015 will be another strong year for Ciena. We expect to grow revenue between 7% and 9% year-over-year in a market that is forecasted to grow 5% to 7%. This gain in share reflects our multi-year trend of outpacing the growth of the market. Our customer profile is rapidly shifting and we are diversifying.

I’d like to be very clear about this. In 2014 our two largest customers on a combined basis represented 26% of revenue, down from 29% in 2013. Yet we continued to outgrow the market.

While we believe that these customers will remain important for us and will likely be our two largest customers in 2015 we expect the combination of these two will decline as a percentage of revenue again in 2015. And I’ll repeat, that we expect to grow overall revenue between 7% and 9% year-over-year.

With respect to OpEx we continue to tightly manage our expense and we will continue to constrain OpEx to a growth rate that is significantly less than our growth in revenue, as we have for several years.

In 2015 we expected that the rough quarterly average for adjusted OpEx throughout the fiscal year will be approximately $210 million, likely with some quarter-to-quarter variation that would represent only about a 3% increase over our OpEx in 2014.

We expect to further increase profitability and we expect to achieve an adjusted operating margin in the range of 8% to 9% for fiscal 2015. And finally we expect a strong year for cash generation from the business, despite significantly higher capital expenditures due to an upgrade of our company-wide ERP system.

Though the first couple of quarters will be light mainly due to seasonal effects we expect to generate roughly double the cash from our business in 2015 than we did in 2014. That excludes any repayment of the outstanding notes. This performance will further strengthen our balance sheet.

Looking at our fiscal first quarter, we expect revenue in the range of $540 million to $570 million, reflecting the normal seasonal reductions in order volume and customer deployment activity that we typically experience during this quarter. We expect Q1’s adjusted gross margin to be up meaningfully from Q4 and in the low 40s percentage range.

We expect adjusted operating expense to be approximately $210 million. And finally due to the cost of hedging, particularly the Brazilian Real, we expect a charge in other expense of $4 million for Q1 and Q2. Before opening the line for questions, I'd like to just take a moment to discuss our longer-term view of the business.

We've made tremendous financial progress over the past few years, particularly in 2014 and we are confident that there is more to come. We believe that we can continue to improve our operating profit and operating margin over time.

We've designed our company to be the leader in creating capacity on demand and in turning that capacity into capability on demand. With our programmable platforms and new application software we will enable on-demand business models for network owners and operators.

We see balanced diversified growth in the years ahead, with increased contributions from web scale buyers, our new platforms and software solutions and our Ericsson partnership.

With our early success in a rapidly growing on demand market together with our investments in our portfolio and our go to market we believe that we have the platform we need to achieve our strategic and financial goals. We are committed to increasing our operating profit and operating margin in 2015 and beyond.

As such we will measure our progress and report periodically on key metrics, some of which include revenue mix by vertical and geography, customer wins from our Ericsson partnership and customer engagements on new products, including the 8700 Packetwave.

Our markets will continue to change and evolve and Ciena is positioned for sustained revenue growth, higher profitability and substantially increased operating leverage in the coming years. Poulet, we'll now open the line for questions..

Thank you. We will now begin the question-and-answer session. [Operator Instructions]. And your first question is from Kent Schofield from Goldman Sachs. Please go ahead..

Great, thank you.

First question around the gross margin dynamic, you alluded to this but just to make clear, as we looking in to the gross margin guidance in the January quarter, is lot of that driven by the fact that a bulk of the discounting and some of those initial build happened in October and that's what’s driving the majority of the bounce back in January?.

Yes, absolutely Kent. As we have said it is -- it’s the case in our business that in new deals we often give discounts and that was certainly the case in two cases or two situations that we talked about in Q4, that happened in Q4. It’s behind us and we’ll march forward..

Great, thank you. And then on the web scale side of things some of your supply chain has discussed the lumpiness especially around the Web 2.0 customers. Have you seen this as well? And then as a follow-up around R&D expense, in the past we’ve seen where you had customers that have driven R&D expense for specific projects.

Do you see a similar dynamic with some of those Web 2.0 customers?.

Yes, Ken we’ve seen steadily increasing, I would say sort of broad-based engagement with the web scale folks, both directly and indirectly and I guess we benefit from that, both in North America because of our global exposure to them. So we haven’t seen as much of the lumpiness, perhaps given our broad exposure to it.

In fact I think in Q4 one of our second largest customer by revenue was actually a web scale company. And looking at the pipeline going forward, we’ve seen opportunities both directly and indirectly with those web scale players and I include in that also the people like Equinix et cetera there as well.

So to your question around specific developments, I think they are very aligned with our open OPN architecture, particularly in content to content and I think there is a good fit there increasingly more software controlled. So I think we are extremely well placed around, they are going in the same direction as we are..

Yes just to add to this, we said earlier we have number one share in that market that we came -- we developed that over the last couple of years and you haven’t seen any significant change in our R&D expense. We have to develop for all of our customers and we can do that within our business model..

Thank you, again..

Our next question comes from Amitabh Passi from UBS. Please go ahead..

Hi, this is Tejas [ph] on behalf of Amitabh. Thank you for taking my question. Could you clarify the dynamic that your largest customer as a percentage of sales was down from almost 22% to 12%.

I think you said in your prepared that you expect it to be further down but on a dollar basis is this a low point and could it get worse?.

Yeah, what I said in script is that the two largest customers on a combined basis declined as a percent of revenue in 2014 as compared to 2013 and we expect that to occur in 2015 as well. We didn’t really make a comment about the growth in the revenue. What I would say about both of them is that we have a very strong relationship with both.

We’ve been chosen repeatedly for next gen architectural solutions.

We’re very pleased that we are part of the main 2.0 that’s going to be very important for us as we move through time and so I think they are going to continue to be important customers for us for the long-term and I expect it will grow with them overtime but we have other segments that are growing much faster..

The other point that I would make is that we’re doing extremely well with both of those customers but the rest of our business is growing, frankly is growing faster. And I think that’s a good balance to the overall business, but our top two customers will be in the early, combined in the early 20% of our total business.

I think that’s the healthy thing for us and I think we’ve taken into account all of the industry dynamics that we see and we have good visibility with both of those top customers as you would expect, certainly for 2015 and we’ve encompassed that completely in our planning and in our guidance..

Got it and what contributed to the services gross margin strength?.

Well, as we’ve said in the past we have a number of different ways that we serve our customers from deployment to maintenance to advanced services, and each of those individual products have a difficult margin profile.

The deployment because it’s the least technically involved tends to have the lowest margin and so you are going to get [indiscernible] in our services gross margin. We must have had a low percentage of deployment in the fourth quarter..

Got it. Thank you..

Our next question comes from Mark Sue from RBC Capital Markets. Please go ahead..

Thank you. Good morning. Gary I want to understand the dynamics in the declining orders, do you recognize themes in the customer diversification and the broadness [ph] there.

Do web customer -- do their orders go to backlog or are they mostly turns and also for Ericsson for example do get back over to the backlog or is it just trough shift? And then Jim, question on price discounts. Price discounts to one customer can often attract the attention of others. It sounds that you are pretty confident that that’s behind us.

How do you feel in terms of price discount being complete for example and no subsequent discount and no change in behavior is expanded beyond current customers?.

Let me take the first one, Mark.

I think that what we are seeing is the demands of the different customer sets but also I think there is an element across this and I think the point is that Ciena now is much -- has much greater exposure to service creation and service enablement and I think what we are seeing is a definite shift in our business of two elements.

One is the mix of customers, generally web scale, enterprise, diversification into those areas, they require faster deliveries and increased velocity. We recognized this going into the year; we made changes to our inventory management and our supply chain and our ability to reflect that.

So you have seen greater velocity and then that’s also resulted in the improved cash position as it flushed out in Q4. I would also say, that the service creation element, both with the large tier 1’s web scale and others is such that it is a success based spend.

Therefore the delivery times required are much faster and that’s also reflected in the dynamics that we are seeing from the backlog et cetera. So typically to give you real example we are delivering a lot of those requirements on service creation within three to four weeks and even less in some cases..

Yeah, on the gross margin piece Mark, I want to say about that is that as we said when we talked about Q4, we had a couple of different things that were going to affect Q4 and they would be relatively short-term in nature. And when we look into Q1 and for the rest of 2015 that has -- is proving to be true.

We have a history of sometimes having lower gross margins. In fact in 2012 we had a quarter two when we had margins below 40%. That was again related to particular projects when we were in an attacking mode and we did improve our gross margins after that.

So we feel confident based on what our backlog looks like, what our customer behavior is that we can get our margins back into the low to mid 40’s this year. The other thing that we do constantly is we focus very hard on reducing the cost of our products.

That’s is something that we have done I think in an industry leading way and that enables us to get our margins back to that low to mid-40s..

That’s helpful, Jim.

Any way to quantify for investors the work that you are doing as far as taking the cost of goods lower on an annual basis, now that you have been doing this for many years now, so just kind of how we should think about that?.

I guess we have said generally that you see a 10% to 12% decline in pricing and our cost overtime and we are seeing that consistently. Some years it’s higher and some years it’s lower and our success in driving cost reductions greater than price erosion in the market has been good. I think we have done very well with that..

Mark, the other thing I would add is I think we are in very different position structurally then we were even a couple of years ago and that thinking about it from a supply chain point of view we are vertically integrated in the key elements that we want to be in.

And secondly, given our diversification of product sets increasingly more Packet and more software orientated, we've got the ability I think to improve margins there as we change our solutions. And as Jim said, on the front end of the business is much more diversified customer base, which again gives us the ability to drive margins overtime. .

Thanks Mark..

That's helpful. Thank you. .

Thanks a lot. .

Our next question comes from Dmitry Netis from William Blair. Please go ahead..

Thank you gentlemen for taking my questions. Wanted to go back to the margin, this year, actually specific to this quarter. Could you give us a breakdown of different elements that went into this mix? I think you talked about e-discounting, you talked about federal and international deals.

And how much each of those elements represented in the margin mix, and how much overflow actually do you expect in Q1 as related to the AT&T. .

Yeah, Dmitry we haven't quantified the individual effects of the two elements, being the AT&T Domain 2.0 discount and the international projects. They both hit in the quarter, they were both significant and meaningful. And although there will be some continuation in Q1 we're confident that we're going to get into the low 40s in Q1.

The effect of both of those two will be substantially less than it was in Q4. .

Okay thank you. .

Thank you..

Okay and then the second question, if I may. Again going to the backlog, I think Mark asked this question, but wanted to get some visibility, I think the backlog you said was $807 million if I captured that correctly and then I think you said orders were slightly lower than revenue.

Could you compare and contrast what it was in the prior quarter, maybe six months ago, just to give us sort of a reference point?.

I think the reference point is overall for the year and we predicted this, based on the point it makes a structural change to our business and our customer base, it’s down about a $150 million to $200 million. We thought that was, as we turned the year higher than we would have liked it to be quite frankly.

We wanted to turn some of that to revenue, number one addressing some of the required delivery intervals. So we worked very hard at beginning of the year to implement changes to our supply chain to reflect the changes in our customer base.

Principally, as I said Dmitry about, driven by the service creation, we are much closer now to the creation of services and enablement and less on pure infrastructure, that’s why [ph] the delivery time scales are that much greater.

And I'm pleased with what we've been able to do during the course of the year and I think that's kind of -- it's reflected in our ability to be able to grow the business significantly and operate with a lower backlog. .

Great, thank you very much. .

Operator, next question please. Thank you. .

And our next question comes from Paul Silverstein from Cowen and Company. Please go ahead..

Thank you.

First of all, Jim can you give us the customer counts in the 100 gig and optical switching as well as the 4100?.

Yeah. I'm going to ask Tom to do that, Paul. .

Yeah, Paul for the quarter we ended up with -- we shipped during the quarter to 72 customers on 100G, let me just pull out our number here for the summary.

So overall we had 199 customers today on total 40 and 100G, total of a 146 on 100G, total of 143 on 40G and that represents 12 new customers for 100G in the quarter and one new customer for 40G in the quarter. One thing that also is related to that is we also did a significant amount of business in switching as part of that transport.

That's continuing to be an important part of that segment for us. .

Tom, I'm sorry the 72 number was for what?.

The 72 was for how many we shipped to in this quarter, in Q4. .

Got it, and the optical switch count was what?.

The optical switch count was 40 customers for 5400 today and that's showing that we basically have now essentially achieved the same number of customers that we achieved over the 10 year lifecycle of co-director [ph]. Go ahead, Paul. .

Couple of quick questions, if I may.

Jim I apologize going back to AT&T, but my simple question is given the commentary from last quarter and I recognize you’re limited in what you can say, but the given the commentary from last quarter, as you look forward, how much have you been impacted by AT&Ts revised CapEx guidance if you can share that with us, to what extent do you expect the snapback that you discussed last quarter in terms, relative to the meaningful discount you gave in the October quarter and in the, I guess to some extent the discount you gave in January.

What beyond that phenomena, especially with respect to CapEx trends and I got one other quick question?.

One question per person. Sorry Paul. On AT&T the way we described the effect in Q4 is that it represents a pretty significant sort of concentration of discounts into Q4. We have a price list going forward.

We absolutely baked that price list into our internal planning and into our public guidance and so the guidance that we’ve given reflects everything that we know about AT&T and I also said that they are an important customer to us. We have a very large sales team, which interfaces with them on a daily basis.

We are very close to what they are going to do in this coming year and so based on what they have told us we have baked everything that we know about that customer into our guidance, including what we know about what they've said. And we know that they have a lot of FX pressures on their business model, all of our customers do.

But we believe that we’ve factored all of that into the guidance that we've given. As we said they are going to -- our two largest customers combined will go down as a percent of revenue in 2015, but we'll make that up through a bunch of other customers including some new customers that we have..

All right, guys base math, if I did the math correctly, your comments about fiscal '15 would imply is if I took the midpoint, 8.5% growth, 8.5% operating margin, that would imply that you are looking at gross margin somewhere in the range of 42.5%.

My question to you is what -- the 34% OpEx to revenue ratio implied by that guidance and the 42.5% gross margin implied by the guidance, what's the risk and what's the opportunity relative to those numbers? 34% is lower than you’ve ever done on an annual basis in terms of OpEx or revenue and again what's the risk and opportunity in both numbers?.

I'll answer the easiest part first, Paul. We're planning our OpEx for the year and we have consistently, over the past four or five years hit our OpEx plan. Yes, we've had quarterly variation in our OpEx but on an annual basis we hit our plan. So I don't -- of course there is some risk on that but no a lot of risk on that.

With respect to all the other numbers that you have quoted we’ve given a range for each of these numbers and my feeling is that we've given a range which encompasses the highest probability of events that are going to occur. Not all of these events are within our control. So of course there is a possibility of variation.

But we feel good about it and we’ve done pretty much over the past several years what we said we were going to do..

Thank you..

Thanks Paul..

Thank Paul..

And our next question comes from Ehud Gelblum from Citi Group. Please go ahead..

Hey, guys. Appreciate it, thank you. So couple of questions. First of all, I want to talk a little bit about international. How did -- obviously the international mix went up a little bit by subtraction with AT&T going down. But it sounds like international itself was doing decent.

Can you give us some update on Vodafone and how business kind of is spread out? I know you talked about the Tier 1 win in Europe to Ericsson that haven't announced yet, does that go in fall into 2015 numbers or is that something -- as part of your 7% to 9% that you are anticipating for next year, or is that -- some of that goes afterwards in '16 and then I have some other questions too.

Thanks..

I mean I think on the international overall our revenues for the year were up about 12%. I think nearly 50% of our revenues in Q4 came from outside of the U.S. So we’re seeing good opportunities of expansion there. Specifically in Europe you mentioned Vodafone. We got a strong base there now.

We talked about Liberty Global as well, which is the largest cable company outside of North America. We are expanding that relationship [indiscernible]. So Europe for us, I think over the course of the next 18 months to two years we’re seeing some positive opportunities for us outside of Europe. We’re just about to turn up India’s largest 4G network.

In fact it’s the first 4G network. We’ve talked about expansion in Brazil, which is going very well. Specifically to Ericsson we’ve announced Telstra, got a new Tier I as well in Europe and others and that pipeline is growing.

So I think the work that we’ve done over the last few years and really investing in go-to-market and investing frankly in start-up of some of these large networks, I think will yield the benefits of this diversification over the next couple of years. .

All right.

Does that Tier I in Europe that you just mentioned does that fall into 2015 is part of your…?.

Yes, yeah I think, well I believe we will take revenue in 2015 for that win. .

All right. That’s helpful. On doing some of the same math I told you before, the gross margin comes out to implied for next year as 42%, 43% to get into that range. That’s basically flat with this year. You did 42% conceptually speaking, could have been a little bit higher if Q4 hadn’t been as low as it was.

So essentially looking at two years of 42%, 43% gross margin, is that the ongoing gross margin going forward, one, Jim? And then two, you just made some comments on OpEx but if we go, I'm looking three to five years out, are we looking at this gross margin three to five years out, are we looking at the same OpEx growth, 3% or 4% or so, is that something that’s sustainable for gross margin and OpEx as you look out multiple years?.

Ehud, let me take the sort of first part of that in terms of margin and I understand the math around the guidance. I would say that is not our long-term goal. Our long-term goal is certainly into mid-40s consistently. We’ve had quarters where we -- I mean Q3 of last year we hit 44%.

We said at the time we don’t think it’s sustainable because of the mix but we’ve proven that we can do that.

As we increasingly diversify the business with more software, more packets, closer to service creation and then to SDN and NFV, so our Agility announcement earlier on this month, those are the things that are going to drive gross margin expansions into the mid-40s.

And we think over the next few years we will absolutely achieve that and as that flows through the financials. So I just really encourage folks to think about -- this is not business as usual. This is business as usual plus the shift into this new opportunity that the cloud is driving and the solutions that we’re putting out there.

Jim?.

And on OpEx, Ehud, we’re not going to give a specific number on OpEx growth for the next several years. But I think if you look over the past four years, what we assumed is that we can grow revenue faster than OpEx and we will continue to do that.

We are absolutely committed to growing our operating profit and increasing our operating margin and we’ve done it now for four years in a row. I see no reason why we won’t continue to do it going forward. .

Yeah, you guys have improved, very good. One last thing, we talked about web scale provides seems to be a very big part of the story now. Can you give us a sense as to how large they are as a percent? I think I may have asked this last quarter too. I think in last quarter the answer was somewhere around 5% or so if I remember correctly.

Well how large are and did you mentioned that your number two customer was a web scale guy, I can’t put the two comments together?.

Yes, yeah we did in fact in web-scale 2.0 the second largest customer in Q4 was a web-scale 2.0 customer. That actually would be top ten for the year as well. So we’re seeing steady growth around….

How large is the category?.

The category, well we have number one market share in that space, as just announced by Ovum and….

As a percent of revenue, what it…?.

As a percentage of our revenue directly it’s about 5% to 10% of our total revenue and that’s just taking into account the direct relationship that we have with them.

The other point that I would stress over the years we have a lot of other engagements directly and partnering with them into service providers around the world where we also take business. I’ve not included that in that statistic. .

Thanks, as we were number two guy, that’s presumably 5%, 6% of revenue, I'm guessing and so that’s a sort of majority of your Webs 2.0 guy revenue, this 5% to 7% is this one guy?.

No, that’s just the snapshot of one quarter.

We directly -- we have direct relationships with a number of these web-scale players and it ebbs and flows by the quarter but it’s an increasing amount of capacity and in fact I’ll give you another statistic which might help you about a third of our 100 gig port shipments in Q4 were deployed by Web 2.0 providers, the web-scale play. .

Okay, that’s very helpful. Thank you. .

Great thanks Ehud. .

Our next question comes from Brian Modoff from Deutsche Bank. Please go ahead..

Yeah, guys just following along Ehud’s question there, so last three quarters non-telco were 20%, then 25% then 30% of your revenues. What were they in this quarter as a percent of your revenues? And then second question’s around Verizon. They have got a 100 gig build out plan in the back half of the year for metro.

How do you feel positioned about that project? Thank you. .

So the first answer was about Q4 approximately 30% of non-telco revenue if you will in Q4 in fact….

Flat -- so essentially flat from last quarter as a percent of revenue?.

It’s was a little bit higher than that. It’s probably in the early 30s I think it was about 32%, 33% so it was up a little bit in Q4. .

In fact if we look overall Brian at our 100G port shipments, like Gary was talking about with the web-scale guys a moment ago about half of those went to non-traditional telcos in the quarter, non-traditional telco customers. .

Okay and then….

In terms of Verizon also we don’t want to talk too much around specifics, specific customer we think we’re well positioned but obviously that won’t -- even if successful that won’t contribute to 2015 revenues. .

Thanks, thank you. .

Thank you. .

Our next question comes from Jeff Kvaal from Northland. Please go ahead. .

Well, thank you gentlemen. I have a couple. I think one is could you talk a little bit about the dynamics of the gross margin recovering before the revenues starting recovering? I mean typically we see those things marching in somewhat lock-step. And then secondly, Jim maybe this one is for you.

You mentioned towards the end of your prepared remarks that you’re expecting significant leverage overtime. I mean I would imagine that is on top of the 7% to 9% operating margin that you told us about for 2015. If there’s anything that you could share there, I’d appreciate it..

Jeff, I'm going to take the first part of it. The gross margin function is purely around the sort of mix and the disproportionate impact that we had in Q4. We’re kind of back to normal services being resumed is another way of putting it. And we don’t need volumes to do that it’s all about mix.

Our revenues are up on this time last year, but Q1 is always a challenging quarter from a revenue point of view because of our particular fiscal year where we -- which encompasses the end of the calendar year and the beginning of the next calendar year. So it’s challenging from a telco point of view.

But notwithstanding that we’re seeing strong pipeline and demand and we’re also predicting to be up on Q1 last year.

Jim?.

Yeah, on the longer term picture, Jeff we didn’t give a number beyond 2015. We think 8% to 9% is a strong improvement from 2014 as we expect to be.

We put it out a few years ago that our target was 10% to 12% and we still think that we can get there, I think we’re going to have to get a little bit of help on gross margin to get to that range which we expect to have over the next few years. .

Great and then maybe just one last to slip in is people are asking about web-scale. What mix of the 8700 customers are web-scale versus traditional telco’s versus MSOs, that might help..

I think we have only just released the platform. So it’s very early days and we have seen a mix on that. We have cable companies do it. We have seen a couple of Web 2.0 directly into it. If I look at the engagement though it’s certainly across the board. I mean really is a packet.

Steve, do you want to…?.

Sure, I mean the 8700 really anticipates the transition of the edge of the network going from giggy speeds up to 10 giggy speeds and above and that applies to the web-scale it applies to the Tier 1.

It’s a platform that’s intended to play into a very diverse set of market and again really relies on additional capability showing up from the edge of the network right through to the core..

Thank you gentlemen..

Thanks, Jeff..

Our next question comes from Rod Hall from JPMorgan. Please go ahead..

Yeah, hi, guys. Thanks. I just had a couple of questions related to FY ‘15 revenue guidance and also maybe the new product.

So the 7% to 9% revenue growth that you guys are talking about, within that what proportion of that revenue do you think you are going to be able to scale next year, if you are five or maybe a little higher this year, you know exiting this year what do you think FY ‘15 look like as a proportion of web-scale? And then you talked, I think, Gary in your comments, you said that you guys are reducing cost on products.

I have seen there are some new product in the pipeline next year that are far lower in costs to produce for you guys, that keep those gross margins where you expect them to be. I wonder -- I’m sure you shared that roadmap with the web-scale guys. I think that’s probably a product that’s deployed at AT&T as well.

Can you talk a little bit about what the reaction to that has been from the web-scale guys. Do you think that those kinds of products, whatever they are and that’s giving you a lot more traction with web-scale? And I have maybe one more question, thanks..

You know on the growth rate, we are not going to get a specific number for the next year because things are going to move around. But they have been our most rapidly growing segment and if you look at our internal plan they will be our most rapidly growing vertical in 2015. They are still overall, on a direct sales basis less than 10% of the market.

So although we are gaining share with number one market share in that space we don’t expect to see them getting to a big double-digit number in the near term. But I would say a couple -- the other things, the other pieces that will grow for us are Ericsson, the new platforms including the A-700, international and particularly the metro.

Those are the places where we will be growing. Also some rate will be growing there. So what I’d emphasize though with respect to web-scale is that although direct sales are important and we have top share, they buy a lot of capacity, from our traditional customers.

In order to serve that market you need to be in both places and we have actually done extremely well. Our solutions actually are being set in some cases by web-scale customers so it’s for use in our service provider. So it is really great progress there. We are going grow most rapidly with them going forward. Steve, you can say..

Sure, with regards to the new products, and I’ll cue of for some of the comments that Jim just made. I think it is important to kind of appreciate as the cloud in the web continues to expand is absolutely impacts what we would call the content to content space, which I think frequently is what you have turned to web-scale.

But it also impacts the user to content space which is very much a place where tier 1 service providers play and offer service connection.

Just as an example and if you are watching high definition streaming video the content to content piece you would typically think as being in the web-scale but your connection from your phone, your house your device to that content, that user to content piece is in most cases provided by a carrier.

So in order to address web scale it is critically important to be providing capacity solutions all the way out to the edge of the network as well as inter connecting data centers in the content to content space. And the way that we have designed our portfolio under the open OPNR architecture is intended to do just that.

So the products that we are bringing to market will continue to enhance capacity.

So higher capacity, more program ability, software defined capabilities as well as a very rich suite of network function virtualization products, which again moves the service providers as well as the web-scale folks from having to ship physical boxes to establish a service, to being able to distribute software to do the exact same thing, establish a service and offer additional value connections.

So I mean we're quite confident, the way that we have designed the portfolio, it's going to meet the needs of web-scale, whether it is the user to content piece, again often provided from a carrier Tier 1 service provider or from the content to content to piece which today I think is what you’re typically thinking as being Web 2.0, or what we would call web-scale.

You really have to be both to address the market..

Thanks Rod. We can take one last person for questions..

And our last question comes from Alex Henderson from Needham & Company. Please go ahead..

Getting the closure roll, two times in a row. Kind of like to ask the same basic question I asked last time, except this time a little bit different spin on it.

So last time we talked about the AT&T transaction you had implied that you were taking a bunch of upfront pain in order to get further revenue generation from them as a result of winning new contract areas such as the network or cloud to cloud and the other pieces of the puzzle that you weren't really participating in as much in the past, to the long haul, backbone.

And it looks like you fell off quite sharply relative to what we would have expected here and you are suggesting that overall your AT&T and Verizon business is going to go down.

So I guess, what I'm asking here is to what extent did you actually increase your revenues by giving in this big discount? Have you in fact built a substantial bigger business with AT&T as a result of winning those additional two to three segments of their end market? Is that a '15 event or is that something that really takes all the way out into '16 before it metastasizes.

I'm trying to figure out why did you give away such a big discount if your business with AT&T seems to be not doing much?.

Alex, I certainly wouldn't describe our business with AT&T as not doing much. There are substantial costs to run that and they will be going forward, as I think it's inappropriate for us to get into a lot of specific detail around.

Let me give you sort of a view, I think where -- I think I understand the issues around the economics, but I think the real opportunity and the whole driver of Domain 2.0 is to provide better economics, but really change the architecture. So be an SDN type, NFE type architecture which aligns completely with our OPN, open vision.

We are excited by the opportunity for a major carrier to adopt that kind of architecture and we want to make sure that we are aligned around that and I really think we are. So we feel we’ve got great opportunities within AT&T and this architecture that they're driving. That's a multi-year program.

We're well positioned in multiple parts of their network and over the course of the next one to five years we actually think we couldn't grow our business there because we are now into different parts of the business and as we get to more software orientation around service creation, the revenues might not be as great over the time.

But the gross margin opportunity will, because it's predominantly software.

Steve do you remember any other architectural…?.

I think as Gary noted, right, I think it's critically important to remember the Domain 2.0 program was a vision, right an architectural vision for them to migrate away from kind of standard way people built networks the last couple decades, [indiscernible] rings on top of rings over that.

They have a clear vision they want to move towards a software-defined infrastructure. To Gary's point it aligns very well with what we've done with open OPN and that gives us the chance to play in a much broader, a much more diversified manner inside of that opportunity.

We expect that the open architecture will be featured in a lot of what we do going forward. Many customers have moved towards a more SDN-based architecture and are expecting to be able to reduce cost of operating the network from SDN as well as to the network function virtualization that also features now with Agility Matrix.

So again we believe we are very well positioned for the architectures of the future and yes there was a price of admission to get there, but this is all about the future..

Just to be clear Alex, just so no one misunderstands our comments. What we said was that our two top customers will decline as a percent of revenue in 2015, as they have for the last couple of years. It’s not intended to imply that they are going to be important customers for us.

We think -- we suspect that those two customers will be our two biggest customers and that we will grow with them overtime. But it’s a statement of diversification and we think that’s a good thing. So that’s what the comment was, it was combined. It was we didn’t make a comment about either one of them individually just to be clear..

Great, thank you very much..

Thank you, Alex we will conclude the call. Thank you very much for taking the time. We look forward to connecting with everybody shortly..

Thank you, ladies and gentlemen. This concludes today’s conference. Thank you for participating. You may now disconnect..