Q4 2022 NETGEAR Inc Earnings Call
Yeah.
Ladies and gentlemen, thank you for standing by at this time, all participants are in a listen only mode.
We will conduct a question and answer session at that time. If you have a question you will need to press the star one on your push button phones.
I would now like to turn the conference over to Eric by line. Please go ahead Sir.
Thank you Mike Good afternoon, and welcome to Netgear as fourth quarter and full year 2022 financial results Conference call.
Joining us from the company are Mr. Patrick Lo Chairman and CEO and Mr. Bryan Murray CFO .
The format of the call will start with a review of the financials for the fourth quarter and full year provided by Bryan.
Followed by details and commentary on the business provided by Patrick and finish with the first quarter of 2023 guidance provided by Bryan.
Well then have time for any questions.
If you have not received a copy of today's press release. Please visit <unk> Investor Relations website at Www Dot net gear Dot com.
Before we begin the formal remarks, we advise you that todays conference call contains forward looking statements forward looking statements include statements regarding expected revenue.
Operating margins tax rates expenses and future business outlook.
Actual results or trends could differ materially from those contemplated by these forward looking statements.
For more information please refer to the risk factors discussed in next year's periodic filings with the SEC.
Including the most recent Form 10-Q.
Any forward looking statements that we make on this call are based on assumptions as of today and Netgear undertakes no obligation to update these statements as a result of new information or future events. In addition, several non-GAAP financial measures will be mentioned on this call. A reconciliation of the non-GAAP to GAAP measures can be found in today's press release on our Investor Relations website.
At this time I would now like to turn the call over to Mr. Bryan Murray.
Thank you Eric and thank you everyone for joining today's call.
Net revenue for the quarter ended December 31 2022.
With $249 1 million.
Which came in at the high end of our guidance range flat on a sequential basis and down <unk>, 8% year over year.
<unk> innovative highly differentiated premium products, namely our pro AZ minutes switches <unk> mobile hotspots.
10 gig try and quad band Wi Fi mesh products continue to experience strong demand.
In the fourth quarter, the team executed well to overcome supply challenges for these in demand products.
This effort resulted in another record quarter revenue for SMB business led by <unk>.
And strong growth of our <unk> mobile hotspots with our service provider partners.
Our non-GAAP operating margin was negative one 6% in the middle of our guidance range.
Okay.
For the full year of 2022.
Net revenues were $932 5 million.
Down 22% compared to the year ended December 31 2021.
Well 2022 was a difficult year due to challenges from supply chain.
Foreign exchange and high transportation costs.
I'm proud of the progress we made in executing on our strategy to grow our SMB business.
And transition our <unk> business to the premium higher margin segments of the market.
Where we enjoy considerable competitive differentiation.
While the broader U S consumer retail markets decreased approximately 25% for the full year.
Our premium products materially outperformed the market.
Double digits for the full year are.
A clear validation of our core long term strategy to focus on the premium segment.
We expect that the trends for both businesses that we discussed at our analyst day, we will continue to expand the available market opportunity for next year.
Yes.
These higher margin products are the key to delivering growth and increasing profitability in the long term.
As we look to the first quarter broad based inflationary pressures and the uncertain macroeconomic environment remains top of mind for many retail channel partners.
Consequently, while we made progress in Destocking in the fourth quarter, our retail partners continue to right size inventory levels.
And we continue to expect that to carry into 2023.
While this will dampen CHP retail results in the first half of 2023, we expect to see material improvement as we move into the back half of the year.
In the fourth quarter, we delivered non-GAAP operating loss of $3 9 million and.
non-GAAP operating margin of negative one 6%.
This declined 230 basis points as compared to the prior quarter.
Due to a strengthened U S dollar.
Air freight costs when the inventory was purchased.
In a seasonally more promotional environment.
Although our SMB revenue for the full year outperformed the expectations, we had at the beginning of the year.
The U S consumer networking market contracted further than expected.
Which led to lost topline leverage overall.
In conjunction with a challenging supply chain environment throughout the year.
Unfavorable foreign exchange conditions also reduced our profitability and led to full year non-GAAP operating loss of $15 6 million.
non-GAAP operating margin of negative one 7%.
For the fourth quarter of 2022 net revenues for the Americas was $159 2 million.
Flat year over year, and a decrease of 6% on a sequential basis.
EMEA net revenue was $52 7 million.
Which is up five 4% year over year.
And up 17, 6% quarter over quarter.
Our APAC net revenue was $37 2 million, which.
Which is down 10, 8% from the prior year comparable period.
And up five 1% sequentially.
Our SMB business saw strong year over year growth across all three regions as we made progress securing additional supply for SMB products.
However in general the strengthening of the U S dollar over the past year had a meaningful negative impact on our international revenue and our profitability.
On a constant currency basis year over year, our EMEA revenue would have grown 21%.
Our APAC revenue would have only declined 5%.
For the fourth quarter of 2022, we shipped a total of approximately $2 2 million units, including $1 4 million nodes of wireless products.
Shipments of all wired and wireless routers and gateways combined were about.
674000 units for the fourth quarter of 2022.
The net revenue split between home and business products was about 60% and 40% respectively.
The net revenue split between wireless and wired products was about 57% and 43% respectively.
Yes.
Products introduced in the last 15 months constituted about 28% of our fourth quarter shipments.
While products introduced in the last 12 months contributed about 25% of our fourth quarter shipments.
From this point on my discussion points will focus on non-GAAP numbers. The reconciliation from GAAP to non-GAAP is detailed in our earnings release distributed earlier today.
non-GAAP gross margin in the fourth quarter of 2022 was 24, 9%.
Which is down 510 basis points as compared to 30% in the prior year comparable period.
And down 270 basis points compared to 27, 6% in the third quarter of 2022.
As compared to the prior year as the strengthening U S. Dollar was a significant driver of the decrease.
Total Q4, non-GAAP operating expenses came in at $66 1 million.
Which was down three 5% year over year.
One 6% sequentially.
Okay.
Our head count was 691 as of the end of the quarter down from 731 in Q3.
We evaluate our business priorities on a regular basis to make structural adjustments accordingly in areas that are not aligned with our strategic focus.
We will continue to strategically invest in our business and hiring key areas, we believe will deliver future growth and profitability such as protein managed switches premium or Wi Fi mesh systems, <unk> mobile products and subscription services.
Yes.
Our non-GAAP R&D expense for the fourth quarter was seven 7% of net revenue as.
As compared to eight 7% of net revenue in the prior year comparable period and eight 5% of net revenues in the third quarter of 2022.
To continue our technology and subscription service leadership, we are committed to continued investment in R&D.
Our non-GAAP tax benefit of $1 million in the fourth quarter of 2022.
Looking at the bottom line for Q4, we reported non-GAAP net loss of <unk> 9 million and non-GAAP diluted net loss per share of <unk>.
Turning to the balance sheet.
We ended the fourth quarter of 2022 with $227 4 million in cash and short term investments.
On $5 $8 million from the prior quarter.
During the quarter $4 $9 million of cash was used by operations, which brings our total cash used by operations over the trailing 12 months to $13 $7 million.
We used $1 6 million in purchases of property and equipment during the quarter, which brings our total cash used for capital expenditures over the trailing 12 months to $5 8 million.
Now turning to the fourth quarter results for our product segments.
The connected home segment, which includes our industry, leading <unk> <unk>.
<unk> Nighthawk Pro gaming Farmer and Bureau brands generated net revenue of $149 million.
During the quarter down 14, 4% on a year over year basis, and 1% sequentially.
We experienced a year over year decline in the retail side as the year ago period was still experiencing relatively elevated demand.
Despite a year over year double digit decline in the consumer networking market overall in Q4, the premium Wi Fi mesh category and leading edge <unk> mobile hotspots outperformed the market in the same period, giving us confidence that focusing on these innovative premium products is a key to returning to growth and profitability.
I am excited to share that F&B generate a third consecutive quarter of record net revenue coming in at $100 1 million for the fourth quarter.
The team executed well and made tremendous progress navigating the supply chain challenges driving growth of 29, 9% on a year over year basis, and one 1% sequentially.
Encouragingly, we continue to see strong year over year growth across all geographies to safe despite considerable FX headwinds.
On a constant currency basis, our SMB topline would have grown at an even more impressive 39% year over year.
The star of our SMB business continues to be our managed switch products, which grew 65% for the full year further validating the strategic investments we have made in the nascent yet rapidly growing <unk> market.
I'll now turn the call over to Patrick for his commentary after which I will provide guidance for the first quarter of 2023.
Thank you Brian .
2022 was a year of transition for net gear.
We drove our premium strategy, while navigating headwinds from the supply environment foreign exchange and elevated transportation costs.
We made significant strides in executing on our strategy to focus on the growing higher margin premium segment of the market.
Voice during our confidence in net gears long term growth potential.
On both sides of our businesses the growth areas, we discussed at our current to analyst day, namely our premium Wi Fi mesh systems, <unk> mobile hotspots and pro managed switches saw continued momentum.
Even in the face of macroeconomic headwinds and supply chain challenges.
For the full year, we delivered revenue of $932 5 million a decline of 20% year over year, a reflection of an accelerating SMB business and a steady service provider business, but offset by the retail CHP business comes.
Of pandemic buying levels.
I am thrilled to share that our SMB business.
We are headed by our pro line continued its strong upward momentum.
And we delivered a third consecutive quarter of record revenue to set a record for full year revenue up 19%.
This impressive result was enabled by our team's effort to.
To secure additional supply to meet continued strong demand.
<unk> development of our managed Ethernet switch products, specifically tailored for the commercial aviation industry.
<unk> net year apart from the competition and.
<unk> allowed us to steadily grow our pro AVR manufacturers and integrator partnerships.
Is a testament to the strength of our SMB business that we have seen considerable top and bottomline improvement since the beginning of the pandemic.
While demand continues to grow even in the face of unprecedented supply chain geopolitical and economic challenges.
To build on the impressive SMB momentum as.
As we mentioned at our recent analyst day, we are turning our attention to the residential custom integration market to further propel our <unk> over IV business to new markets.
In addition, we're investing R&D resources in developing unique aviall. The IV products that will transform the television broadcast industry to unlocking even greater available market opportunity going forward.
On the <unk> side.
For our Super premium or the 8% to nine Wi Fi mesh products and <unk> mobile hotspots remains strong.
Our premium mass products well suited for the connectivity needs of affluent residential customers with large properties a multitude of connected devices and a desire for value added services and cyber security peace of mind have propelled us to a leading position in the premium market.
We believe there are more than $2 5 million households in this category worldwide and we only reaching a small portion of them today.
This further substantiates, our core long term strategy to focus primarily on the premium higher margin segments of the market.
Where consumers are also more price insensitive.
As Brian mentioned, despite the broader U S consumer retail market declining double digits year over year, we saw our premium products growth for the full year dramatically outperforming the broader market.
This outstanding reception to our best selling flagship bogey products does not come as a surprise.
<unk> pioneered a tri band mesh in 2016.
Introduced quad band in 2021, and with Wi Fi seven coming this year, we are poised to spearhead the completely new pent demand Wi Fi mesh market with the introduction of <unk>.
Net gears competitive advantage in this market is rooted in deep technological differentiation unmatched by any other company voice.
<unk>, our confidence in the long term growth and margin opportunity for our <unk> business.
These best selling flagship Ob Wi Fi mesh products will enable further penetration into the premium market, while also driving up unit sold.
<unk> profitability and service attach rates.
We succeeded in building up supply for our <unk> mobile hotspots, the Nighthawk <unk>, six and <unk> pro which are continuing to experience strong demand and double digit growth year over year.
This quarter, we achieved service provider revenue of $56 $5 million.
Our highest level since the third quarter of 2020.
To further build out our CHP momentum. We also recently unveiled our unlocked and <unk> Pro five gene mobile hotspots, which deliver speeds of up to three six gigabit per second.
We believe the performance of this product.
English is itself in the market and we're thrilled to hear folks call. It the Roes rise of mobile hotspot routers.
This unlocked mobile hotspots offers customers the ultimate flexibility in portable high speed Internet connectivity with gardeners of carrier.
Over 19 million Americans do lack access to fixed mobile to fixed broadband service and thresholds piece of only 25 megabits per second.
Making unlocked mobile hotspots, a perfect option for customers, who want a reliable primary internet connection.
With the ability to sell customers across multiple carriers, we expect the <unk> pro will greatly expand our addressable market beyond the service provider channel.
Further improving asp's unit growth and uplifting margins over time.
The premium Wi Fi mesh resolution resolution is undoubtedly a robust segment of the market.
One that <unk> already leased and we intend to capture is full market potential.
As we shared at our recent analyst day, we have begun to execute on our new marketing strategy for accelerating new customer acquisition and expanding the premium segment. This strategy begins with implementing extremely optimized highly targeted performance media campaigns to help.
Capture net new customers direct them to our net gear dot com online stores lead them through a seamless purchase journey and help drive up average order value.
Finally through loyalty referral upgrade and currencies and other membership programs, we plan to leverage our satisfied customer base to influence their connections.
This focused marketing strategy is designed around trends and insights we have gathered over the past year on new customer acquisition and conversion and we're confident in this approach.
We are also laser focused on expanding our service revenue, which ended the fourth quarter at $8 9 million.
Up 23, 9% year over year and up five 3% sequentially I'm pleased to share that in the case of the con.
Contracting retail consumer market, our paid subscriber count reached 747000 for growth of 27, 9% year over year.
As we further expand the premium segment of the market, we anticipate that our subscriber base will grow in tandem.
And remain confident in our ability to reach 875000 paid subscribers by the end of 2023.
To that and we are proactively focusing on highly valued at value added services areas.
Jamie security privacy and support.
Privacy breeches and phishing attacks are making headlines constantly these days.
In homeowners, who invest in our high end premium products are also more likely to own connected devices.
The AMA is the only solution that is built into the router, giving our customers unparalleled peace of mind.
Iot cyber attacks are becoming more and more content and this is growing the interest in our value added services.
To further expand our funnel of AMR trial Activations, we are offering select channels, a one year trial of our armed service <unk> service and most importantly are working to bring the service to our rapidly growing mobile hotspot.
In addition, we are planning to enhance our AMA service with additional privacy capabilities, which we expect will drive even higher conversion and retention rates, while also increasing asp's.
As we execute on this strategy, we expect services revenue will continue to expand.
Both our top and bottom line in the medium and long term.
Industry analysts and experts are once again, acknowledging the incredible innovation and technological differentiation behind our market, leading premium products and.
And I am pleased to share that at this year's CES Awards three hour offerings are named a 2023 Innovation Award honoree.
One what was gotten into by our new <unk> hundred 60 series 10 gigabit Tri band Wi Fi six management system.
The recently released update to our best selling all the eight series.
The second award went to our <unk> Hot band Wi Fi six <unk>, a standalone router built from the Quad band mesh Wi Fi <unk> system that won the same award just last year.
And on the SMB side, our insight managed Wi Fi six <unk> Tri band access point was named a final Innovation Award honoree.
With the upcoming Wi Fi seven upgrade cycle on the way continued momentum behind our paid subscriber additions and are rapidly accelerating transition from analog to digital IV based over Ethernet connections for <unk>, we remain confident that demand for our three <unk>.
High end categories Pro AAV Super premium RBA to nine.
And <unk> mobile hotspots.
In conjunction with an improved supply position sets.
Up for growth in 2023.
Our best in class premium portfolio of award winning products and services is resonating with customers and we believe relentless innovation is integral to our long term growth and margin expansion.
And with that I would like to turn it over to Brian .
To comment on our opportunities and obstacles in the coming quarter and year.
Thank you Patrick.
We expect to continue to experience strong underlying demand in the SMB business and the premium portion of our CHP product portfolio.
However on the retail portion of CHP, we expect a normal seasonal decline coming off the holiday period.
And we will continue to work with our retail channel partners to optimize their inventory levels.
This should lead to improving results in CHP as we progress through the year.
Given the strong performance in the fourth quarter, which allowed our service provider customers to improve their supply positions.
We expect first quarter revenue from the service provider channel to decrease to approximately $25 million.
Together these factors lead us to expect our first quarter net revenue to be in the range of $185 million to $200 million.
We expect the SMB business to continue to see improving supply, which should allow us to lower reliance on higher cost airfreight spend.
This should offset the impact of reduced topline leverage relative to our recently completed fourth quarter.
Accordingly, our GAAP operating margin for the first quarter is expected to be in the range of negative four 7% to negative three 7%.
Our non-GAAP operating margin is expected to be in the range of negative 2% to negative 1%.
Our GAAP tax rate is expected to be approximately 30%.
And our non-GAAP tax rate is expected to be 5% for the first quarter of 2023.
While we are confident in our ability to provide guidance at this time, we do so with the caveat of considerable uncertainty remains in the market due to the COVID-19, pandemic and supply chain conditions continuing to remain challenged.
Unforeseen events occurred in particular challenges related to the closure of our manufacturing partners operations.
Increased transportation delays into any of our regional distribution centers.
Greater than expected freight for component cost.
Actual results could differ from the foregoing guidance.
We would now like to answer any questions from the audience.
Thank you at this time I would like to remind everyone in order to ask a question press star and the number one on your telephone keypad.
We will pause for just a moment to compile the Q&A roster.
Your first question today comes from the line of Amit <unk> with BW at financial your line is now open.
Hi could you just talk about whats going on with your cash flow Youre doing a great job reducing inventory.
Inventory in the channel, but thats not really translating into cash.
Cash coming in your DSO is now at 100.
Yeah sure Amit.
A couple of things there I would say the cash flow impacts of inventory it would be more tied to our own inventory, which has been pretty stable.
Channel inventories, obviously that if the customers, we're helping them optimize that but from a cash flow standpoint impact to next year. It would be the inventory owned by net gear, which is had been relatively stable underlying there is that we've actually been working down CHP inventory and as we've said it a couple of times today, we are getting into a healthier place on the <unk>.
Semi side, which will allow us to reduce our reliance on air freight spend.
From an AUR standpoint in the Dsos in Q4, you may recall, we typically offer seasonal dating programs with some of our bigger retail partners.
We're tied to the holiday season the.
We will extend out payment terms.
<unk> will participate in those programs. So it's not unusual to see an elevated Q4 DSO.
That said I do we Didnt say this at the analyst day, we do expect that we'll generate free cash flow at a rate of about 200% of non-GAAP net income for 2023.
Do expect that Q1 will start to see some cash flow converting largely because of where the AAR position ends in Q4 with those data programs. So we still feel confident about our ability to generate cash going forward.
And then as far as your.
SMB is concerned.
How fixed are you to supply change as of this morning, because your commentary Youre commentary thing less airfreight, so does that imply that.
<unk> is going to increase sequentially from here do you have that kind of visibility.
There is still.
Shortage here and there, but it's not as prevalent as before I will say before we have this fan Andrea on almost every single thing we need.
Right now we're much less than that but then there is still some popular items that are in high demand, we still have to airfreight, a them and sometimes with short of them.
So it's hard to say I mean, we will still see how the supply situation.
Yes going forward to be sure that we will continue the sequential uptick every quarter of course, that's what the market demand is light, but unfortunately, we are limited still by supply.
Okay and the last question is on the CHP side, yes.
Is it going to be more of a profound decline.
<unk> seasonally.
Normal for you as far as Q1 versus Q4, and this number if I back out service provider has declined quite a bit from 21 levels.
How much more can it declined.
It is hard to say.
If we look at at the.
Q4 of 2022 versus Q1.
Our Q4 of 2021.
The decline a whopping, 20% to 25% in that range.
With Q1 be the same.
We hope that it probably is but it could be worse.
I mean, given all the layoffs and given all the inflation situation.
Now the good thing is at the premium man is not affected because we are still seeing growth. However achieved good portion of our revenue is depending on the mid to low end, which is significantly affected by the general economic situation.
At so AUC that big whopping decline. So is because of two factors. One is this huge year on year decline second one is we continue to have work to do to reduce channel inventory because when there is a decline in the in market sales and the channel wants to two.
<unk> decreased that channel inventory further so that's why combining these two you will see a more pronounced.
<unk> down in revenue on the CHP side.
Okay. Thank you.
Yes.
Your next question comes from the line of Jake <unk> with Raymond James Your line is now open.
Hey, I was hoping to get a little more color on the cadence of improvement in supply chains in SMB that can be maybe more of a first half 'twenty three back half.
And then further.
Sort of with China reopening is there any expectations of supply chain improvement and the CHP side of the business maybe in the first half of 'twenty three.
Youre right.
With the China reopening it certainly would help.
Now, even though our manufacturing and most of our components have already moved out of China.
There is still few key components.
No other countries with would be either capable or willing to do.
One obvious one is the power supply because to do power supplies you have the wind all those little Transformers.
And not many people want to do outside of China and that has been most sticking point of supply to our.
Switches, especially for pro AAV related switches.
And.
We think with the reopening of China that would really help.
Unfortunately.
The freight line, especially air freight.
Coming out of China has not really increased much and would depend on those to fly those components to our factories in Vietnam, Indonesia, and Thailand and Indonesia.
We do expect things will get back to normal probably in the second half of this year. So we don't have to worry about it we will have unfettered supply of our <unk> switches.
In the second half of this year, that's what we're looking forward to by the in the first half we still have to deal with that.
Situation. Unfortunately.
Yes, just take if I may just add.
More near term focus there we do expect a slight improvement in Q2 as Patrick said.
<unk> really happen in the back half, but it will build through the year.
And so from a Q2 standpoint, I think there's two factors that.
<unk> supply will improve slightly and I think we're expecting at this point the the level of of Destocking with our retail partners will start to mute.
I think those two things will drive non carrier revenues, excluding service writer to something like a 5% to 10% sequential increase in Q2.
Again, the Destocking will further.
Drop off in the second half of the year and service writer sizes will likely stay in.
Q2 will stay around the $25 million Mark.
But we do still think the full year with land about 140.
Perfect. Thank you.
Your next question comes from the line of Jared John You Johan with Cowen. Your line is now open.
Hi, Patrick and Brian This is Jared on for Paul Thanks for taking my questions. Sure. I was just curious if you could walk us through some of the puts and takes for gross margin in the <unk> 22 specific rebound about 300 200 bps decline.
From a sequential standpoint really three factors I think one.
The strengthening U S dollar relative to Q3 <unk>.
That was probably in that 60 to 60 to 70 basis point range.
We're also.
You see in our inventory levels were sitting on about six months of inventory so.
A lot of that has been CHP inventory.
And so we're working through that as you can imagine six months ago, we werent kind of near the peak of freight costs coming in so we're we're dealing with that burden as well, we do think that we're turning the corner on that.
And should be at a much more optimized level as we go into the second half of 2023.
So those are the primary drivers.
Well. Thank you very much and then I just have one follow up relative to the guidance you provided at your analyst day on quarterly top line movement.
Your new guidance for Q1 is a little bit lower than I am.
So if you could provide maybe an update on Dol.
Yes for the quarter.
Sure sure I think the biggest difference between what we said at analyst day in the Q1 guide that we gave right now is the service provider revenue level.
You may recall, our comments back in December we expected $140 million in search rather for the year at that point in time, we thought it would be a little bit more linear.
But given given our ability to execute and bringing supply in Q4 at this point, we think it's going to be a little bit on the lower side in the first half of the year about $25 million.
For the first half still reaching its full potential of 140 for the full year. It's just the timing impact. So that's that's probably the primary difference from the December discussion.
Perfect I appreciate all the color. Thank you very much.
There are no further questions at this time, Patrick I'll turn the call back over to you.
Great. Thank you thanks, everyone for joining us today.
In 2022, we laid the foundation with our innovative best in class portfolio of products and services to propel netgear towards our long term profitable growth.
Although the <unk> channel inventory reduction will continue into 2023.
Highly differentiated or be eight to nine and sooner will retain management systems, and our <unk> mobile hotspots and <unk> pro.
To outperform the market and gives us the confidence in our long term.
High margin growth trajectory on the SMB side, we are the market leader of the pro market transition and we will continue to make inroads in expanding our presence in the market while simultaneously open up adjacent ones like the TV broadcast and production industry as well as <unk>.
The integrated high end fully automate our homes segment and look forward to sharing an update on our progress in all these fronts at our next earnings call look forward to talking to you all in April .
Thank you.
This concludes today's conference. Thank you for attending you may now disconnect.
Okay.
Yes.