ADTRAN, Inc. (NASDAQ:ADTN) Q3 2021 Earnings Conference Call November 2, 2021 10:30 AM ET Company Participants Tom Stanton – Chief Executive Officer Mike Foliano – Chief Financial Officer Conference Call Participants Bala Reddy – Goldman Sachs Michael Genovese – WestPark Capital Paul Silverstein – Cowen Tim Savageaux – Northland Capital Operator Ladies and gentlemen, thank you for standing by, and welcome to the ADTRAN’s Third Quarter 2021 Earnings Release Conference Call. All lines have been placed on mute ...

ADTRAN, Inc. (NASDAQ:ADTN) Q2 2021 Earnings Conference Call August 5, 2021 10:30 AM ET Company Participants Tom Stanton - Chief Executive Officer Mike Foliano - Chief Financial Officer Conference Call Participants George Notter - Jefferies Michael Genovese - WestPark Capital Paul Silverstein - Cowen Bill Dezellem - Tieton Capital Tim Savageaux - Northland Capital Management Operator Ladies and gentlemen, thank you for standing by and welcome to ADTRAN’s Second Quarter Earnings Release Conference Call. [Oper ...

Financial Data and Key Metrics Changes - Revenue for Q1 2021 was $127.5 million, an increase of 11% year-over-year from $114.5 million in Q1 2020 [5][16] - Non-GAAP EPS increased by $0.18 year-over-year [5] - GAAP gross margin for Q1 2021 was 42%, compared to 45.1% in Q1 2020 [18][24] - Non-GAAP operating income for Q1 2021 was $2.4 million, compared to an operating loss of $4.6 million in Q1 2020 [21][24] Business Line Data and Key Metrics Changes - Network Solutions accounted for 89% of total revenue at $113.8 million, while Global Services contributed $13.7 million [9][17] - Fiber access and aggregation business grew 51% year-over-year, in-home service delivery platforms were up 94% year-over-year, and SaaS offerings increased 32% year-over-year [11] - Access & Aggregation revenue was $69.1 million, down from $66 million in Q1 2020, while Subscriber Solutions & Experience revenue was $54.6 million, up from $42.2 million in Q1 2020 [17] Market Data and Key Metrics Changes - Domestic revenue for Q1 2021 was $86.5 million, compared to $79 million in Q1 2020, while international revenue was $41 million, up from $35.5 million in Q1 2020 [18] - Revenue from regional broadband operators in the U.S. was up 48% year-over-year, while European regional operators were up 70% year-over-year [10] Company Strategy and Development Direction - The company is well-positioned to take advantage of major investment cycles in fiber-based broadband solutions, driven by government funding and increased demand for high-speed connectivity [6][8] - Continued focus on customer acquisition and diversification, with 26 new service provider customers added in Q1 [10] - Emphasis on operational efficiency, with a 9% reduction in non-GAAP quarterly operating expenses year-over-year [12] Management's Comments on Operating Environment and Future Outlook - Management expressed optimism about the visibility of Tier 1 customers and the overall demand for fiber-based solutions [32] - The company anticipates revenue for Q2 2021 to be in the range of $136 million to $146 million, with gross margins projected between 41% to 43% [26][27] - Supply chain constraints and inflationary pressures are expected to impact margins and operational costs [34][27] Other Important Information - Inventory levels remain higher than normal due to global chip shortages and logistics issues [12] - The company generated $10.7 million in cash from operations during the quarter [24] Q&A Session Summary Question: Visibility on Tier 1 customers - Management noted improved visibility among Tier 1 customers, with larger carriers placing more serious forecasts [32] Question: Impact of inflation on costs - Management indicated that while some costs are being driven down, there is upward pressure on costs, particularly for semiconductors, and they may pass some costs onto customers [34] Question: Record bookings and backlog - Management confirmed strong bookings in Q1 but did not provide specific book-to-bill numbers, indicating that demand is robust [36][38] Question: Nature of the business and order patterns - Management clarified that while there is a shift towards longer-term planning, the majority of orders still come in with short lead times [44] Question: Growth in Tier 1 business - Management expressed confidence in managing supply and demand for Tier 1 projects, with expectations for growth in the second half of the year [46] Question: RDOF impact - Management expects to start seeing RDOF impacts in the second half of the year, with a meaningful impact anticipated next year [60][62] Question: Long-term gross margin outlook - Management maintained that gross margins are expected to remain in the low-to-mid 40s, with potential positive impacts from SaaS growth [64]

PART I [Business](index=8&type=section&id=Item%201.%20Business) ADTRAN provides global networking and communications platforms across two segments, serving diverse customers with a focus on innovation and R&D - ADTRAN operates under two reportable segments: **Network Solutions** (hardware and software) and **Services & Support** Its revenue is further divided into three categories: **Access & Aggregation**, **Subscriber Solutions & Experience**, and **Traditional & Other Products**[19](index=19&type=chunk) - In 2020, three customers—CenturyLink, Inc., Deutsche Telekom AG, and KGP Logistics—each accounted for more than **10%** of the company's revenue Revenue from Germany also exceeded **10%** of total revenue[35](index=35&type=chunk) Research and Development Expenditures (2018-2020) | Year | R&D Expenditures (in millions USD) | | :--- | :--- | | 2020 | $113.3 | | 2019 | $126.2 | | 2018 | $124.5 | - As of December 31, 2020, the company had **1,405** full-time employees, with **1,080** in the U.S. and **325** internationally It also utilized **250** contractors and temporary employees[68](index=68&type=chunk) [Risk Factors](index=18&type=section&id=Item%201A.%20Risk%20Factors) The company faces significant financial, operational, and market risks, including revenue predictability, customer dependence, supply chain, and intense competition - Revenue is difficult to predict due to **short order-to-delivery cycles**, lack of significant order backlog, and fluctuating customer deployment schedules A shortfall in revenue could significantly harm operating results as expenses are relatively fixed in the short term[88](index=88&type=chunk)[90](index=90&type=chunk) - The company depends heavily on sales to major service providers, which comprised over **half of revenue** in 2020 The loss of, or significant reduction in sales to, any of these customers could materially harm business results[92](index=92&type=chunk)[93](index=93&type=chunk) - The ongoing COVID-19 pandemic presents risks of **supply chain disruptions**, **increased raw material and freight costs**, and potential slowdowns in customer demand, which could adversely affect financial results[114](index=114&type=chunk)[116](index=116&type=chunk) - The implementation of a new Enterprise Resource Planning (ERP) software solution is a significant project that carries risks of **operational disruption**, **delays**, **higher-than-anticipated costs**, and potential data loss or corruption[119](index=119&type=chunk) - The markets for ADTRAN's products are **intensely competitive** and characterized by **rapidly changing technology** Failure to innovate and keep pace with new standards could render products obsolete and harm the company's market position[99](index=99&type=chunk)[124](index=124&type=chunk)[125](index=125&type=chunk) [Unresolved Staff Comments](index=32&type=section&id=Item%201B.%20Unresolved%20Staff%20Comments) The company has no unresolved staff comments from the SEC - There are no unresolved staff comments[149](index=149&type=chunk) [Properties](index=32&type=section&id=Item%202.%20Properties) ADTRAN's main facilities are in Huntsville, Alabama, with additional leased offices globally supporting its operations - The company's main facilities are located on an **82-acre campus** in Cummings Research Park in Huntsville, Alabama[150](index=150&type=chunk) - ADTRAN leases office and engineering facilities in the U.S., Europe, North America, LATAM, EMEA, and APAC to support both its Network Solutions and Services & Support segments[150](index=150&type=chunk)[151](index=151&type=chunk) [Legal Proceedings](index=32&type=section&id=Item%203.%20Legal%20Proceedings) ADTRAN faces a securities class action and a shareholder derivative lawsuit alleging false statements, which the company denies and intends to vigorously defend - A securities class action lawsuit was filed against the Company and certain executives in **October 2019**, alleging violations of federal securities laws related to disclosures about internal controls, inventory reserves, and financial results between February and October 2019[152](index=152&type=chunk) - A shareholder derivative suit was filed in **March 2020**, making similar allegations as the class action lawsuit and accusing directors and officers of breaches of fiduciary duty This litigation has been stayed pending the resolution of the motion to dismiss in the securities class action[153](index=153&type=chunk) [Mine Safety Disclosures](index=33&type=section&id=Item%204.%20Mine%20Safety%20Disclosures) This section is not applicable to the company - Not applicable[155](index=155&type=chunk) PART II [Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities](index=34&type=section&id=Item%205.%20Market%20for%20Registrant%27s%20Common%20Equity%2C%20Related%20Stockholder%20Matters%20and%20Issuer%20Purchases%20of%20Equity%20Securities) ADTRAN's common stock trades on NASDAQ, with no repurchases in Q4 2020, and authorization for an additional 2.5 million shares - ADTRAN's common stock is traded on the NASDAQ Global Select Market under the symbol **ADTN**[157](index=157&type=chunk) Stock Repurchase Activity (Q4 2020) | Period | Total Number of Shares Purchased | Average Price Paid per Share (USD) | | :--- | :--- | :--- | | Oct 2020 | — | $ — | | Nov 2020 | — | $ — | | Dec 2020 | — | $ — | - The company has authorization to repurchase an additional **2.5 million shares** of its common stock under the current program[159](index=159&type=chunk) [Selected Financial Data](index=35&type=section&id=Item%206.%20Selected%20Financial%20Data) The company omitted selected financial data in accordance with the Regulation S-K Item 301 amendment - The company has applied the amendment to Regulation S-K Item 301, effective February 10, 2021, and has omitted the selected financial data[161](index=161&type=chunk) [Management's Discussion and Analysis of Financial Condition and Results of Operations](index=36&type=section&id=Item%207.%20Management%27s%20Discussion%20and%20Analysis%20of%20Financial%20Condition%20and%20Results%20of%20Operations) In 2020, ADTRAN saw a **4.4% revenue decline** to **$506.5 million**, improved gross margin to **43.0%**, and achieved **$2.4 million net income** due to tax benefits [Overview](index=36&type=section&id=7.1%20Overview) ADTRAN's 2020 revenue declined **4.4%** due to international slowdowns, offset by **17.0% domestic growth**, while facing COVID-19 supply chain impacts - 2020 revenue declined **4.4%** year-over-year, mainly due to decreased shipments to an international Tier-1 operator[166](index=166&type=chunk) - Domestic revenue grew by **17.0%** year-over-year, driven by growth in Tier-2 and Tier-3 carrier categories and additional fiber access deployments[166](index=166&type=chunk) - The COVID-19 pandemic has impacted the supply chain, causing **slower deliveries**, **extended lead times** on components, and **increased raw material and freight costs**[168](index=168&type=chunk) [Results of Operations](index=38&type=section&id=7.2%20Results%20of%20Operations) Total revenue decreased **4.4%** to **$506.5 million** in 2020, with gross margin improving to **43.0%**, resulting in **$2.4 million net income** due to tax benefits Consolidated Statements of Income (Loss) as a Percentage of Revenue | | 2020 | 2019 | | :--- | :--- | :--- | | Total Sales | 100.0% | 100.0% | | Gross Profit | 43.0% | 41.3% | | Selling, general and administrative expenses | 22.5% | 24.6% | | Research and development expenses | 22.4% | 23.8% | | Operating Loss | (1.9)% | (7.5)% | | Net Income (Loss) | 0.5% | (10.0)% | Revenue Comparison (2019 vs 2020) | Metric | 2019 (in millions USD) | 2020 (in millions USD) | Change | | :--- | :--- | :--- | :--- | | Total Revenue | $530.1 | $506.5 | -4.4% | | Network Solutions Revenue | $455.2 | $438.0 | -3.8% | | Services & Support Revenue | $74.8 | $68.5 | -8.5% | | Domestic Revenue | $300.9 | $352.1 | +17.0% | | International Revenue | $229.2 | $154.4 | -32.6% | - Cost of sales as a percentage of revenue decreased from **58.7%** in 2019 to **57.0%** in 2020, primarily due to regional revenue shifts, changes in customer and product mix, and decreased personnel costs from restructuring[186](index=186&type=chunk) - The company's effective tax rate changed from an expense of **113.8%** in 2019 to a benefit of **138.1%** in 2020 This was primarily driven by the establishment of a valuation allowance in 2019 and tax benefits from loss carrybacks under the CARES Act in 2020[203](index=203&type=chunk) [Liquidity and Capital Resources](index=42&type=section&id=7.3%20Liquidity%20and%20Capital%20Resources) ADTRAN's 2020 short-term liquidity was **$63.3 million**, inventory increased **27.6%** to **$125.5 million**, and the company became debt-free after repaying **$24.6 million** in bonds - As of December 31, 2020, available short-term liquidity was **$63.3 million**, of which **$49.7 million** was held by foreign subsidiaries[206](index=206&type=chunk) - In November 2020, the company entered into a new **$10.0 million** secured revolving credit facility, which had not been drawn upon as of year-end[207](index=207&type=chunk) - Inventory increased by **27.6%** to **$125.5 million** at year-end 2020, primarily due to strategic buffer purchases to ensure supply continuity during the COVID-19 pandemic[211](index=211&type=chunk) - The company's **$24.6 million** outstanding balance on its taxable revenue bonds was repaid in full upon maturity in January 2020, leaving the company with no outstanding debt as of December 31, 2020[217](index=217&type=chunk) Dividends Paid Per Common Share (USD) | Quarter | 2020 | 2019 | 2018 | | :--- | :--- | :--- | :--- | | First | $0.09 | $0.09 | $0.09 | | Second | $0.09 | $0.09 | $0.09 | | Third | $0.09 | $0.09 | $0.09 | | Fourth | $0.09 | $0.09 | $0.09 | [Critical Accounting Policies and Estimates](index=46&type=section&id=7.4%20Critical%20Accounting%20Policies%20and%20Estimates) ADTRAN's critical accounting policies involve significant judgment in revenue recognition, inventory valuation, stock-based compensation, goodwill impairment, and income tax estimates - Revenue is recognized when control of goods or services is transferred to the customer For contracts with multiple performance obligations, consideration is allocated based on relative standalone selling prices[236](index=236&type=chunk) - Reserves for excess and obsolete inventory are established based on historical usage, known trends, inventory age, and market conditions The reserve was **$39.6 million** at the end of 2020, up from **$34.1 million** in 2019[243](index=243&type=chunk) - The fair value of market-based performance stock units (PSUs) is determined using a **Monte Carlo Simulation** valuation method, while the fair value of other stock awards is based on the stock's closing price on the grant date[244](index=244&type=chunk) - The company established a valuation allowance against its domestic deferred tax assets in 2019 due to uncertainty about their future realization, a critical estimate impacting the income tax provision[247](index=247&type=chunk) [Quantitative and Qualitative Disclosures about Market Risk](index=50&type=section&id=Item%207A.%20Quantitative%20and%20Qualitative%20Disclosures%20about%20Market%20Risk) ADTRAN faces interest rate risk, with a **50 basis point increase** potentially reducing fixed-rate bond fair value by **$0.4 million**, and foreign currency risk, with a **10% USD change** potentially causing a **$2.3 million** gain or loss - The company is exposed to interest rate risk As of December 31, 2020, a hypothetical **50 basis point increase** in interest rates would reduce the fair value of its **$41.6 million** in fixed-rate bonds by approximately **$0.4 million**[258](index=258&type=chunk) - Primary foreign currency exposures are to the **Euro** and the **Australian dollar** A hypothetical **10%** strengthening or weakening of the U.S. dollar against billing currencies could result in a gain or loss of **$2.3 million**[259](index=259&type=chunk)[260](index=260&type=chunk) [Financial Statements and Supplementary Data](index=51&type=section&id=Item%208.%20Financial%20Statements%20and%20Supplementary%20Data) This section presents ADTRAN's audited consolidated financial statements for 2020, with PricewaterhouseCoopers LLP issuing an unqualified opinion and identifying inventory reserve as a critical audit matter - The independent auditor, PricewaterhouseCoopers LLP, issued an **unqualified opinion** on the consolidated financial statements and the effectiveness of internal control over financial reporting as of December 31, 2020[268](index=268&type=chunk) - The auditor identified the **'Excess and Obsolete Inventory Reserve'** as a critical audit matter due to the significant judgment required by management in its estimation and the high degree of auditor subjectivity and effort needed to evaluate the assumptions[276](index=276&type=chunk) Key Financial Statement Balances (in thousands USD) | Account | Dec 31, 2020 | Dec 31, 2019 | | :--- | :--- | :--- | | Total Assets | $525,679 | $545,118 | | Total Liabilities | $152,735 | $164,692 | | Total Stockholders' Equity | $372,944 | $380,426 | | **For the Year Ended** | **2020** | **2019** | | Total Sales | $506,510 | $530,061 | | Gross Profit | $217,551 | $219,167 | | Net Income (Loss) | $2,378 | $(52,982) | [Changes in and Disagreements with Accountants on Accounting and Financial Disclosure](index=99&type=section&id=Item%209.%20Changes%20in%20and%20Disagreements%20with%20Accountants%20on%20Accounting%20and%20Financial%20Disclosure) The company reports no changes or disagreements with its accountants regarding accounting or financial disclosure matters - None[477](index=477&type=chunk) [Controls and Procedures](index=99&type=section&id=Item%209A.%20Controls%20and%20Procedures) Management concluded that disclosure controls and internal control over financial reporting were effective as of December 31, 2020, despite a new ERP system implementation - Management concluded that the company's disclosure controls and procedures were **effective** at the reasonable assurance level as of the end of the period[478](index=478&type=chunk) - Based on an assessment using the COSO framework, management concluded that ADTRAN maintained **effective** internal control over financial reporting as of December 31, 2020[484](index=484&type=chunk) - The company began implementing a new enterprise resource planning (ERP) software solution in **Q4 2020**, with completion expected in **2021**[480](index=480&type=chunk) [Other Information](index=100&type=section&id=Item%209B.%20Other%20Information) The company reports no other information for this item - None[486](index=486&type=chunk) PART III [Directors, Executive Officers and Corporate Governance](index=101&type=section&id=Item%2010.%20Directors%2C%20Executive%20Officers%20and%20Corporate%20Governance) Information on directors, executive officers, and corporate governance is incorporated by reference from the 2021 Proxy Statement, including the Code of Business Conduct and Ethics - The company has adopted the **ADTRAN, Inc. Code of Business Conduct and Ethics**, which applies to all employees, officers, and directors[489](index=489&type=chunk) - Most information required by this item is incorporated by reference from the definitive Proxy Statement for the **2021 Annual Meeting of Stockholders**[491](index=491&type=chunk) [Executive Compensation](index=101&type=section&id=Item%2011.%20Executive%20Compensation) Executive compensation information is incorporated by reference from ADTRAN's 2021 Proxy Statement - All information required by this item is incorporated by reference from the **2021 Proxy Statement**[492](index=492&type=chunk) [Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters](index=101&type=section&id=Item%2012.%20Security%20Ownership%20of%20Certain%20Beneficial%20Owners%20and%20Management%20and%20Related%20Stockholder%20Matters) This section details securities authorized for issuance under equity compensation plans, with **3,602,976** remaining available as of December 31, 2020 Equity Compensation Plan Information as of December 31, 2020 | Plan Category | Securities to be issued upon exercise of outstanding options, warrants and rights | Weighted average exercise price of outstanding options, warrants and rights (USD) | Securities remaining available for future issuance | | :--- | :--- | :--- | :--- | | Equity compensation plans approved by stockholders | 3,950,646 | $18.30 | 3,602,976 | [Certain Relationships and Related Transactions and Director Independence](index=102&type=section&id=Item%2013.%20Certain%20Relationships%20and%20Related%20Transactions%20and%20Director%20Independence) Information on certain relationships, related transactions, and director independence is incorporated by reference from ADTRAN's 2021 Proxy Statement - All information required by this item is incorporated by reference from the **2021 Proxy Statement**[495](index=495&type=chunk) [Principal Accountant Fees and Services](index=102&type=section&id=Item%2014.%20Principal%20Accountant%20Fees%20and%20Services) Information on principal accountant fees and services is incorporated by reference from ADTRAN's 2021 Proxy Statement - All information required by this item is incorporated by reference from the **2021 Proxy Statement**[496](index=496&type=chunk) PART IV [Exhibits and Financial Statement Schedules](index=103&type=section&id=Item%2015.%20Exhibits%20and%20Financial%20Statement%20Schedules) This section lists all consolidated financial statements, financial schedules, and exhibits filed as part of the Form 10-K report - This section lists all consolidated financial statements, the financial statement schedule for Valuation and Qualifying Accounts, and all exhibits filed with the report[499](index=499&type=chunk) [Form 10-K Summary](index=107&type=section&id=Item%2016.%20Form%2010-K%20Summary) The company has elected not to provide a summary of the information contained in this Form 10-K report - The company has elected not to provide a Form 10-K summary[508](index=508&type=chunk)

Financial Data and Key Metrics Changes - Revenue for Q4 2020 was $130.1 million, compared to $133.1 million in Q3 2020 and $115.8 million in Q4 2019 [16][18] - GAAP gross margin for Q4 2020 was 41.1%, down from 44.3% in Q3 2020 and up from 40.8% in Q4 2019 [19] - Non-GAAP net income for Q4 2020 was $5.2 million, compared to $7.9 million in Q3 2020 and a net loss of $2.5 million in Q4 2019 [25][26] Business Line Data and Key Metrics Changes - Network solutions revenue for Q4 2020 was $114.1 million, slightly down from $115.2 million in Q3 2020 but up from $96.2 million in Q4 2019 [16][17] - Global Services revenue was $16 million in Q4 2020, down from $17.9 million in Q3 2020 and $19.6 million in Q4 2019 [17] - Fiber access and aggregation business grew 98% year-over-year, while in-home service delivery platforms increased by 68% year-over-year [9] Market Data and Key Metrics Changes - Domestic U.S. revenue for Q4 2020 was $95.8 million, up from $92.8 million in Q3 2020 and $69.9 million in Q4 2019 [18] - EMEA market segment revenue grew 54% year-over-year, driven by investments in 10-gig fiber access networks [9] - The Tier 2 and regional broadband operator market in the U.S. was up 85% year-over-year [9] Company Strategy and Development Direction - The company is focusing on expanding its fiber access portfolio and cloud services to capitalize on increasing demand for broadband connectivity [8][14] - ADTRAN aims to diversify its customer base and has successfully added 35 new service provider customers during the quarter [8] - The company is actively involved in several Tier 1 decision processes globally, with expectations for significant milestones in the near future [10] Management's Comments on Operating Environment and Future Outlook - Management highlighted the ongoing impact of COVID-19 on operations and the importance of broadband connectivity [5][6] - The company expects Q1 2021 revenue to be in the range of $122 million to $130 million, with gross margins projected between 40% to 42% [29] - Management expressed confidence in maintaining operational efficiency despite supply chain challenges and extended lead times for components [11][29] Other Important Information - The company has maintained elevated inventory levels to ensure supply continuity during the pandemic [28] - ADTRAN's fiber-related solutions represented over 70% of its business in Q4 2020, marking a significant shift from copper solutions [15] Q&A Session Summary Question: Can you discuss the supply constraint situation? - Management acknowledged tightness in the supply chain, particularly with silicon components, and noted that they have factored this into their guidance for the next quarter [34][36] Question: How is the Tier 2 and Tier 3 operator segment performing? - Management confirmed that the Tier 2 and Tier 3 segments are the fastest-growing, now accounting for over 50% of the business [42][44] Question: What is the outlook for gross margins given component issues? - Management indicated that gross margins are expected to remain relatively flat due to ongoing component challenges, despite initial expectations for expansion [50] Question: Can you provide details on the RFP pipeline? - Management mentioned that there are six to eight material RFPs currently in progress, with expectations for two to close in the first half of the year [52][68] Question: How is COVID-19 impacting broadband demand? - Management noted that the pandemic has highlighted the importance of broadband, prompting governments and carriers to reassess their infrastructure plans [71]

UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, DC 20549 Securities registered pursuant to Section 12(b) of the Act: Title of each class Trading Symbol(s) Name of each exchange on which registered Common Stock, Par Value $0.01 per share ADTN The NASDAQ Global Select Market FORM 10-Q (Mark One) ☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended September 30, 2020 OR ☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SE ...