2010 Chinese International Exhibition

This article came out in early October that talked about UTs new logo and products/focus in the Chinese market. It might also be the reason the stock rallied to the mid $2s at the time prior to the revenue fall announcement.

http://www.c114.net/news/128/a549170.html

Heres part of the article translated (poorly):

IPTV and new media as a pioneer in interactive video, UT Starcom, the torrents use their own research and development (RollingStream) IPTV system, launched the world's leading creative, and meet the needs of the real operators may be operational, management, flexible fit the three-screen integration of carrier-class end to end broadband TV solution for triple play help meet the needs of operators to build comprehensive business solutions. Through years of research and development in the area of the accumulation of interactive video, rushing (RollingStream) system has become the industry's leading open, multi-service, multi-service broadband terminal multimedia service platform, and with large-scale commercial world. Data show that the end of 2009, UT Starcom's IPTV system has become China Telecom , Shanghai, Shaanxi, Fujian, Zhejiang, Anhui, Hainan, Yunnan, Ningxia, Jiangxi and other branches of the IPTV system, the main partner in China Continental-scale deployment of IPTV commercial system has more than 200 million.

- the last statement I take as over 2m subscribers under UT.

It does have a nice picture of the UT booth and hopefully, that will increase awareness and drum up some Chinese business. Bookings in China which are probably in the $20m/qtr level need to go significantly higher.

Partnerships, Joint Ventures, and Acquisitions

From the proxy materials (under related party transactions),

http://www.sec.gov/Archives/edgar/data/1030471/000104746910008922/a2200593zdef14a.htm

Yellowstone: In addition, as of the date of printing of this Proxy Statement, we are considering an engagement letter with Yellowstone pursuant to which Yellowstone will act as a strategic consultant to the Company and any of its subsidiaries, divisions or legal/organizational units to assist the Company in establishing or expanding strategic partnerships, joint ventures, acquisitions and the Company's business in Asia consistent with the Company's goals. The terms of the engagement letter and the fees payable thereunder are currently being negotiated; however, it is contemplated that we will pay Yellowstone a monthly fee of US$20,000 and certain success fees upon the successful completion of a specific transaction as proposed by Yellowstone and approved by the Company generally based upon a varying percentage of the transaction deal size, with certain exceptions. We will also reimburse Yellowstone's reasonable expenses incurred in connection with the services.

Softbank: Softbank Corp. is an affiliate of Softbank America, Inc., which holds approximately 9.7% of our common stock. During 2009, we recognized aggregate revenue of $28 million (includes $5 million in sales to NEC Networks & System Integration Corp., Japan Electronic Computer Co. Ltd., Nippon Telecom Sales KK and Oki Electric Industry Co., Ltd. for which Softbank Corp. was the ultimate customer) with respect to sales to affiliates of Softbank Corp., including (i) sales of telecommunications equipment to Softbank BB, (ii) sales of equipment and services to Softbank Telecom Co., Ltd, a wholly owned subsidiary of Softbank Corp. and (iii) sales of equipment to BB Cable, an affiliate of Softbank Corp. Our Audit Committee has reviewed and approved the transaction with Softbank Corp.

In addition, as of the date of printing of this Proxy Statement, we, through a wholly owned subsidiary, are finalizing an agreement with ZTE (H.K) Limited ("ZTE"), a company incorporated in Hong Kong (the "ZTE Agreement"). Pursuant to the ZTE Agreement, we will agree to form a special purpose company incorporated in Hong Kong with ZTE (the "HK SPV") for the purpose of making and holding an investment in a high speed mobile data communication service business affiliated with Softbank Corp. (the "Softbank Affiliate"). We will agree to pay 176,000,000 Japanese yen (approximately US$2.17 million) for 35% of the equity of the HK SPV and provide a loan of 595,000,000 Japanese yen (approximately US$ 7.32 million) to the HK SPV. ZTE will agree to pay 327,000,000 Japanese yen (approximately US$4.03 million) for 65% of the equity of the HK SPV and provide a loan of 1,105,000,000 Japanese yen (approximately US$13.60 million) to the HK SPV. The
U.S dollar equivalents are based on the exchange rate of 81.105 Japanese yen per U.S. dollar. The HK SPV plans to use the paid-in capital and shareholder loans to invest in the Softbank Affiliate. Our Audit Committee has reviewed and approved the transaction.

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Depending on the side of spending you are on, the above is either going to be positive or negative on paper. This is a company that has cash as its strongest asset. If it can use it well to transform the company, then I am all for it as a transformation and turnaround is what we are looking for. The Yellowstone fee is minimal to what they have been paying their managers and resulting performance. On the flip side, spending for the sake of spending would obviously be negative.

The joint venture with ZTE (which ZTE is this?) seems interesting and could contribute right away to the relationship with Softbank and potentially boost company revenue in Japan much faster.

The amount of revenue and bookings are not enough at this stage to support their expenses so the company has to decide how long to keep up that expense base or act more aggressively to generate more revenue. For them to a player in the iptv/telecom-cable infra in 3 major countries no less, I would think they have to generate significantly more revenue and be aggressive for growth (and thus my vote for continued investments).

Random info on UT and industry related news

Value of Network convergence infra spending:

"A report by the iChina Research Center, says that the Three Network Convergence related market will reach RMB 688 billion over the next three years, of which, RMB 249 billion will be spent on migration and construction of infrastructure for both telecom and cable networks, set-top boxes and content management and media service platforms, with the remaining RMB 439 billion generated through content demand and media consumption."

http://finance.yahoo.com/news/UTStarcom-Announces-Strategic-prnews-4271381014.html?x=0&.v=1

So, about $30B over 3 years will be spent. From the same UT PR,

"IPTV subscribers in China will be about 7 million by the end of this year and 10 million by the end of 2011."

"According to Lmtw.com, China Telecom had 5.36 mln IPTV subscribers as of August 2010, accounting for over 82% of national IPTV users."

http://www.cn-c114.net/576/a553725.html

According to recent Chinese articles, UTs share is over 2m subscribers and 33%, which is consistent with the overall numbers so by end of 2011, it could be 3m+ users.

From same article above, Shanghai has another tender and results should have just come out.....

National IPTV network status:

"According to the statement, the platform network has already joined with sub-networks of radio and television organizations in five pilot regions in Sichuan, Hubei, Beijing, Shenzhen and Shandong."

http://www.cn-c114.net/583/a565282.html

Key statement there was Radio as UT acquired Stagesmart and deal with Cristar. Also, UT has already mentioned winning some cities in the pilot.

China Telecom investing CNY15B ($2B) in EPON in 2011.....whats UT share?

http://www.cn-c114.net/576/a566980.html

In Japan with Softbank, see this interesting article...

Softbank Proposes Fiber Broadband Highway for Japan
http://www.cn-c114.net/576/a555240.html

Statement of Jack Lu in the earnings CC,

"Finally, for our broadband business in Japan as we shared on the last call that we passed all of soft SOFTBANK BB’s quality control test. We have already started to receive purchase orders from the clients for our key end technology in Tokyo, Osaka and Nagoya. As a result, we expect a sizable increase in 2011 once this initial rollout proves themselves."

http://seekingalpha.com/article/234469-utstarcom-ceo-discusses-q3-2010-results-earnings-call-transcript?source=yahoo

SIZABLE increase???

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Jack Lu:

"So, while we continue to cultivate the telecom space with pure equipment based sales, you can see that the opportunity in China in with three network convergence is significant, and I see it as my job to ensure UTStarcom and its investors win a significant portion of the upside."

UT PR on Q3 accomplishments:

"the Company won a project with Jinan City's Cable Network as the exclusive broadband solution provider"

"the Company won IPTV projects with operators in Sichuan (already announced), Hubei (new), Henan (new) and Shenzhen (new)"

(Good wins that are the same cities to the pilot cities of the National network cities)

"the Company expanded a previously established revenue sharing relationship with South Media Interactive Co., Ltd, the interactive business unit of South Media Group, to add HDTV options to their IDTV offering, be responsible for the development of interactive products and provide operational support services to the platform "

"the Company announced a strategic partnership with a company controlled by a national level broadcaster to provide technology and operational support for Internet TV service in China and abroad"

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Unfortunate to see the stock doing so poorly in light of the bull market and year-end rally....The street (or atleast some investors) may finally be giving up on the company/stock as it pushed the price below the investor buy in price and way below cash ($338m + $34m more in restricted cash = $372m or about $2.4 in total cash).

Anyway, the above shows the market for their products are healthy and growing. The key as always is the amount of share they can win and how fast.

If you are a bagholder like myself, atleast you should know what you've got and what the "hope" is.....

Cash balance at the end of the year

With the revenue shortfall for the year and the strategic investment in Stage Smart, here is an estimate of the cash balance @ the end of the year.

The projected revenue is down to $270m-$280m (say $275m).
Q1 & Q2 revenues combined was $154m, which leaves $121m for the last 2 quarters. The deferred revenue left at the end of the June quarter was $141.5m. It was about a total of $182m that was supposed to be recognized in 2 years. So, lets say $50m more to be recognized this last 2 quarters. That leaves only $71.5m of revenue. At 25% GMs, you have about $18m in gross profits.

Lets say OPEX is a full $60m the last 2 quarters and not the $50m they are projecting. That is a cash shortfall of $42m. Add the $20m for the Stage Smart investment and you will lose $62m from the cash balance.

The cash balance of $308m will be augmented by $36.6m from the new investment + another $8M if the last option is exercised.

So, you have ($308+36.6+8-62)m or roughly $290m left in cash. They have $34m more in restricted cash.

In summary, the cash is going lower as the company still does not have the revenues to support it and as the investment in Stage Smart shows, it will also spend for acquisitions. As it stands, by the end of the year, it will still have substantial cash. The cash burn will lessen if the revenue shortfall is due to a pushout and they can reduce their opex further. But more importantly, can they utilize this still sizable amount of money (around $300m) + the credit line early in the year to build a sustainable profitable business.

Delays have cost UT shareholders

A shareholder commented in the yahoo MB that "it will take some time, if indeed it can be done, to bring this company back from the brink that Blackmore led it to."

I am looking for incremental improvements in the following items on the call that should have been accomplished already.

1. China investment deal. Announced in Feb, even at the end of JUNE, we've heard (not from UT) in an article of approval from China and to be closing soon but still nothing.

2. BSNL-India Phase III - Initially should have been Q3 2009 (Q4 at the latest) and still no concrete update from the company.

3. Bookings - Even during the entire downturn the last two years, management was guiding to 50% bookings growth and then to double digit growth and then to just "good" bookings and then finally last quarter to booking way less than one.

4. OPEX - Even the latest restructuring should have been done before the end of Q4 last year and now revised to the end of Q2 but in Q1, the opex was still nowhere close to the target.

5. Transparency - Also should be improving but book to bill #s, iptv subscriber #s, # of trials, status of GEPON/GPON, PDSN, relationships in Latin America, Britain, Europe, etc - there is nothing. So, this is going the other way too.

I'm all for waiting but certain things should show incremental improvement or been completed already. The price at these levels is a joke for their assets, stated market positions, and projected growth of their markets but why is it still here and why hasn't someone made a higher offer by now?

So, the low price (that we longs feel) is directly related to incredible poor performance in such a way that all the "potential/cash/tech assets" that we longs talk about is easily negated by the incredible unresolved items up to now and the lack of even incremental improvements as I listed above. If they had resolved some of those items way before this year, the investment price would not even be close to $2.2.....That price may have been acceptable LAST June 2009 but not this Feb. 2010 and certainly not right now.

Shareholders deserve much more even at this stage.

UTs revenue decline

The following are UTs sales by country in Q1 for 2009 and then 2010.

China - $51.2m; $40m
US - $41.2m; $3.45m
Japan - $6.5m; $11.1m
Philippines - $.8m; $12.7m
Other - $19.5m; $13.6m

Of the $40m in China sales this past quarter, about half was deferred revenue so the actual revenue was down to around $20m in sales in China. At the peak of UTs growth, annual sales reached $2b so quarterly sales in China reached $500m or so. Going down to $20m is a staggering drop that shows the company has never recovered and until now, we don't know if it has bottomed. While Peter Blackmore, as CEO, is to blame overall, I wonder what China Sales and Marketing and Services SVP Charles Mah has contributed. The guy was hired in Novermber 2008 and now more than a year later, the sales have continued to deteriorate. Last quarter, Blackmore mentioned the book to bill was way below 1 signaling no signs of a turnaround.

With the guidance provided last quarter of similar revenues (including the deferred revenue), the company is still not close to any upturn in revenue, which at this stage is what investors really care about. Lets review the breakeven revenue of $85m/quarter (assuming the company even gets to the stated OPEX goal, which is another area they have been very slow to completing). The new COO (future CEO) mentioned getting to profitability in a year (from the February interview he gave in China.

http://translate.google.com/translate?js=y&prev=_t&hl=en&ie=UTF-8&layout=1&eotf=1&u=http%3A%2F%2Fwww.lmtw.com%2FUT%2Frep%2F201004%2F56163.html&sl=zh-CN&tl=en

From a geographical standpoint, here is what I estimate they should achieve for breakeven. I will group it into 3 areas for now, China, India and Japan+others. My estimate is for the following breakdown:

China (60%) - $51m/quarter
India (25%) - $22m/quarter
Japan/others (15%) - $12m/quarter

Not counting deferred revenue, the company should get to the $51m revenue level, which is a stagerring 150% growth from the current levels. The move to China, turnover of entire management to China, new board members/investors warrant the company to atleast get to 60% revenue in China (or else whats the point?). The company has talked about the new cable (iptv) revenue model, further growth in iptv, digital/interactive TV, NGB, TN opportunites and even GPON but no numbers or little information is provided.

The revenues in India and Japan/others are doable even right now if there are no delays in India and in a yearly total, should be quite doable even with just 1 large contract. Japan seems to have bottom a year ago as well and the base is still quite low. Another way to increase revenue is to use their cash to purchase businesses for external growth but in any situation, the revenue has to be increased.

So, it really comes down to China to stabilize the revenue base and in fact the need to increase it significantly from the current $20m/quarter level. I like that the company has put its focus in China but the revenue has simply continued to deteriorate and until there are bookings/wins to show it will go up, then there is no reason investors will support the stock other than sporadic speculative buys. On a more positive note, the overall US/China market seems to be moving away from a double dip and focusing on a better 2nd half of the year. As mentioned in the last quarterly comment, that should help UT stock as the company finishes their restructuring but in order to have sustainable gains and material stock support, it needs substantial revenue growth going forward. Absent this, the stock will continue in lackluster trading ranges with little volume.

India and China front

While UT has had some tangible news coming out from China regarding credit lines, completion of the Beijing investment deal and agreements on interactive TV, there has been little news on the Indian security situation.

Here is an article that shows there is still a current "ban" on Chinese companies in India...

"India competes with China the wrong way " http://www.cn-c114.net/583/a522716.html

Although India has publicly assured that it is not banning Chinese telecom products, a recent Indian media report revealed that its government has a blacklist, which actually bars 25 Chinese telecom manufacturers in the name of security precautions.

Last month, UT CEO Peter Blackmore mentioned in an interview in India that they will have a local outsourcing manufacturer in place in India by Q3. There is also a glimmer of hope that eventually, the Indian situation will have to be resolved soon.

http://www.lightreading.com/document.asp?doc_id=194192&

Mukherjee said Reliance Communications and other major operators have the underlying passive and transport infrastructure ready to deploy 3G, which will involve a relatively painless overlay. "It will be rolled out very quickly... the electronics will come fairly quickly from China," stated the Reliance Communications president, who is obviously confident that the current barriers to sourcing network technology from Huawei Technologies Co. Ltd. and ZTE Corp. (Shenzhen: 000063; Hong Kong: 0763) will soon be broken down. (See No Respite for Chinese Vendors and BSNL Blocks Huawei, ZTE Bids.)

"The speculation is that the leading operators will roll out their first-phase 3G services any time between September and December. The rollout and service launch won't take much time," added Mukherjee.

He believes there is an addressable broadband services market of 850 million people in India, so current broadband penetration, with only around 10 million fixed (mostly DSL) and wireless (mostly BSNL and MTNL's initial 3G) broadband users, is very low.
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The company seems to be headed in the right direction but the unresolved issues in India and uncertainty in future value of UTs share of the businesses in these large markets keep a cap on the stock for now.