祥茂光電 (AAOI) 2015 Q3 法說會逐字稿

Good afternoon. I will be your conference operator. At this time, I would like to welcome everyone to Applied Optoelectronics Third Quarter 2015 Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question and answer session.

(Operator Instructions)

Please note that this call is being recorded.

I will now turn the call over to Maria Riley, Investor Relations for AOI. Miss Riley, you may begin.

Thank you. I'm Maria Riley, Applied Optoelectronics, Investor Relations, and I'm pleased to welcome you to AOI third quarter 2015 financial results conference call.

After the market closed today, AOI issued a press release announcing its Q3 2015 financial results. The release is also available on the company's website at ao-inc.com.

This call is also being recorded and webcast live. A link to the recording can be found on the investor relations website of the AOI website, and will be archived for 90 days.

Joining us on today's call is Dr. Thompson Lin, AOI's Founder, Chairman and CEO; and Dr. Stefan Murry, AOI's Chief Financial Officer and Chief Strategy Officer. Thompson will give an overview of AOI's Q3 results, and Stefan will provide financial details and the outlook for the fourth quarter.

A question and answer session will follow our prepared remarks.

Before we begin, I would like to remind you to review AOI's safe harbor statement. On today's call, management will make forward-looking statements. These forward-looking statements involve risks and uncertainties, as well as assumptions and current expectations, which could cause the company's actual results to differ materially from those anticipated in such forward-looking statements.

You can identify forward-looking statements by terminologies such as may, expect, plan or believe, and by similar expressions. Except as required by law, we assume no obligation to update forward-looking statements for any reason after the date of this earnings call or to conform these statements to actual results or to changes in the company's expectations. More information about other risks that may impact the Company's business are set forth in the risk factor section of the Company's prospectus and reports on file with the SEC.

Also with the exception of revenue, all financial numbers discussed today are on a non-GAAP basis, unless specifically noted otherwise. Non-GAAP financial measures are not intended to be considered in isolation or as a substitute for results prepared in accordance with GAAP. A reconciliation between GAAP and our non-GAAP measures as well as a discussion of why we present non-GAAP financial measures are included in our earnings press release that is available on our website.

Before moving on to the financial results, I'd like to announce that AOI management will attend the Raymond James Technology Investors Conference in December in New York City. We hope to have opportunity to see many of you there.

Now, I would like to turn the call over to Dr. Thompson Lin, Applied Optoelectronics' President, Founder and CEO. Thompson?

Thank you Maria. Thank you for joining us today.

AOI delivered strong third quarter results with record revenue of $57.1 million, above our $51 million to $54 million outlook. Third quarter revenue grew 56% year over year. We also achieved record non-GAAP earnings per share of $0.40 which should present an impressive 99% year over year increase.

The upside on the top-line was driven by continuous strong growth in our 40G datacenter products, offset by a sequential decrease in cable TV revenue. In the third quarter, datacenter revenue grew over 92% year over year and 30% on a sequential basis to reach a new record of $38.6 million.

AOI remains at the forefront in developing and manufacturing advanced optical technology that enables the industry transition to the gigabit age as the demand for higher bandwidth and faster data speeds continue to grow.

During our conference call last quarter, we talked about being in several 100Gg datacenter qualification trials. Today, I'm especially pleased to announce that AOI has secured two 100 gig wins with two of our existing datacenter customers.

We have already begun production house of several thousand units of 100G modules for these customers, which we expect to begin to deliver later this month.

To our knowledge, AOI is the first in the market to report volume production of 100G transceivers for hyper datacenter operator customers.

Our ability to internally source 25G laser diodes and the more complex 100G light engines, help accelerate our time to market. We believe these new design wins are a testament to our leadership position in advanced optical technology.

Overall, we are excited about the growth prospects associated with 100G and believe we are positioned in this market.

Turning to CATV business, we reported $14.4 million in revenue, representing 16% year over year growth, driven by new design wins and network builds in emerging markets. As we enter Q4, we do see some disruption in the CATV market due to consolidation activities. However, we believe this is short term in nature and as we look into 2016, we continue to believe that the DOCSIS 3.1 upgrade cycle represents a key growth driver for AOI.

By our estimation, , the DOCSIS 3.1 upgrade cycle equates to a $450 million incremental market opportunity over the next few years.

In summary, we delivered a strong quarter. We are pleased with our results and market share gains. For the year to date, we have grown revenue 46% and approximately doubled our non-GAAP earnings. I am especially proud of our team's accomplishment in being the first to market with volume production in 100G datacenter transceivers and want to thank our employees for all of their dedication and hard work. AOI remains focused on building our momentum to drive growth and achieving AOI's long term objectives.

With that, I will turn the call to Stefan to review the details of our Q3 performance and outlook for Q4. Stefan?

Thank you Thompson.

Total revenue for the third quarter grew 56% year over year and 15% sequentially to reach a record $57.1 million. Datacenter revenue in the third quarter reached $38.6 million, an all-time high that represents a 92% year over year increase and 30% increase over Q2.

Sales of our 40G products contributed 90% of datacenter revenue in the third quarter.

As Thompson mentioned, we were recently awarded two 100G design wins. We have already commenced production for products related to these design wins with initial deliveries scheduled for this quarter.

Based on discussions with our customers, we expect the hyperscale datacenter operators to continue purchasing 40G transceivers while at the time equipping their new datacenter builds with 100G technology.

However, in Q4, we expect to see a sequential decline of approximately $3 million to $5 million in our datacenter business, as one of our datacenter customers is expected to trim inventory levels somewhat during the quarter.

We believe that this inventory reduction is unrelated to the 100G transition, and we expect more normal order patterns to resume in Q1.

In the fourth quarter and for the entire year, we expect to have two datacenter customers each contributing more than 10% of our revenue, and we are in various stages of qualification of several additional hyperscale datacenter customers for 100G products.

Overall, we are very pleased with our datacenter revenue growth, which is up 71% year to date, well above our baseline expectation of 45% growth in 2015.

Turning to our cable television market, revenue from CATV products in the third quarter grew to $14.2 million, up 16% over Q3 of last year. On a sequential basis, CATV revenue declined by 13% due to lower international sales especially for Latin America, and consolidation uncertainty in the U.S.

As Thompson mentioned, we expect to see a short term slowing in the CATV market among two of our customers as the regulatory process for their proposed acquisition is taking longer than expected.

In parallel, we see merger activities among the CATV MSOs which adds additional short term uncertainty. Although we have achieved CATV revenue growth of 31% on a year to date basis, these consolidation activities could impact our ability to meet our baseline expectation of 20% growth in this segment for the year.

We continue to believe DOCSIS 3.1 will be a significant growth catalyst for our CATV business. The MSOs have recently begun to make public initial details of their DOCSIS 3.1 deployment. And these publicly announced plans further reinforce our belief that initial DOCSIS 3.1 field trials are ongoing, and that widespread deployment will begin in early to mid-2016.

As the CATV market leader, we believe AOI remains very well positioned to capture a significant portion of the DOCSIS 3.1 infrastructure spend directed towards node and head-end replacements.

Revenue for our FTTH segment came in at approximately $1.0 million. Revenue on this segment is expected to continue to fluctuate quarterly in the $0.1 million to $2 million range in the near term. Our telecom segment delivered record revenue of $3.1 million, up 48% sequentially and benefited from recent design wins with several of our telecom customers.

In the third quarter, we had one 10% or greater end customer in the datacenter business that contributed 59% of total revenue.

Moving down the income statement, Q3 total gross margin was 31.7%, a decline of 201 basis points when compared with the 33.7% reported in Q2 of 2015, and a decrease of 152 basis points from Q3 of last year. Our consolidated Q3 gross margin was negatively impacted by a shift in our product mix within the datacenter segment with sales of certain shorter reach transceivers which carried lower margins in the quarter, predominating.

This trend reflects the particular needs of a customer during the quarter, but we have improved yields and undertaken cost down measures for these products, and we do not expect these products to detract significantly from gross margin in the fourth quarter and beyond.

Accordingly, we anticipate the gross margin will return to a more normalized 33.5% to 34.5% range in the fourth quarter. As a reminder, our gross margin can fluctuate from quarter to quarter due to the product mix, as well as the initial ramping for new products.

Total operating expenses were $11.2 million or 19.6% of revenue, compared with $10.2 million or 20.5% of revenue in the prior quarter. R&D expense was $5.3 million or 9% of revenue compared with $4.6 million or 9% in the prior quarter. Sales and marketing expense was $1.5 million or 3% of revenue, down from $1.6 million or 3% of revenue in the prior quarter.

G&A expense was $4.3 million or 8% of total revenue, up $0.4 million when compared to the prior quarter. The increase is driven by increased headcount and consulting expenses associated with our maturation as a public company.

Looking forward, in Q4, we expect total operating expenses to increase modestly over the Q3 level with the majority of the increase in G&A mostly associated with year end audit fees. Non-GAAP operating income in Q3 was a record $6.9 million compared with operating income of $6.6 million in the prior quarter and operating income of $3.2 million in Q3 of last year.

Non-GAAP net income after tax for the third quarter grew to a record $6.7 million, compared with $6.1 million in the prior quarter and $3.1 million in Q3 of last year. We reported non-GAAP net income of $0.40 per share, up from $.38 cents in the prior quarter and up significantly from $0.20 in Q3 of last year.

GAAP net income for Q3 was $2.7 million, or $0.16 per diluted share, compared with GAAP net income of $6.1 million or $0.38 per diluted share in the prior quarter.

The Q3 weighted average fully diluted share count was approximately 16.7 million shares.

Turning now to the balance sheet, we ended Q3 with $50.1 million in total cash, cash equivalents, short term investments and restricted cash, compared with $44.3 million at the end of the previous quarter.

Our Q3 cash balance reflects $38.7 million in net proceeds from our recent at the market offering, and $9.3 million in cash used in operations.

Accounts receivables increased to $41.1 million, compared with $32.9 million last quarter and accounts payables increased approximately $1.8 million over Q2.

We made a total of $14.5 million in capital investments in the quarter, including $8.1 million in production equipment and machinery, and $6.5 million on construction and building improvements, mostly for our new production facility in Sugarland.

As of September 30, we had $60.2 million in inventory, an increase of $7.8 million from Q2 that was primarily driven by an increase in raw materials as we prepare to ramp production for 100G, and continue to stock finished goods in our VOI warehouse with our largest datacenter customer.

Moving to our outlook, we expect Q4 revenue to be between $49 million and $52 million, representing 35% to 43% year over year growth. We expect Q4 non-GAAP gross margin to be in the range of 33.5% to 34.5%. Non-GAAP net income is expected to be in the range of $4.9 million to $5.9 million and non-GAAP EPS between $0.28 per share and $0.33 per share, using a weighted average, fully diluted share count of approximately 17.7 million shares.

With that, I will turn it back over to the operator for Q&A. Operator?

We will now begin the question and answer session.

(Operator Instructions)

At this time, we will pause momentarily to assemble our roster.

Our first question comes from Simon Leopold with Raymond James. Please go ahead.

Great, thank you very much. Appreciate getting the first question here tonight. A handful of things I'd like to ask.

Let me first knock down a couple of quick kind of modeling housekeeping easy ones. So you're still in an investment mode in terms of CapEx. So wondering if you could talk a little bit about how to think about CapEx for December and for 2016 in terms of your budgeting?

Yeah, we don't really give CapEx guidance as you know. What we've said in the past is that we've spent -- you know, we invest in CapEx as we see near term opportunities presenting themselves. So you know, to the extent that -- and we've indicated before that they track, you know, a quarter or two ahead of revenue. So you know, to the extent that we're, you know, continuing to grow and, you know, see these great opportunities in 100 gig, you know, we do expect to continue to invest in production equipment and capacity and certainly for the plant that houses that equipment, but the timing of that, you know, we haven't disclosed that.

OK. And then you talked a little bit about a customer on the datacenter side being a little bit softer in the December quarter and you don't think this is related to the 100 Gig transition. Is this related to kind of a seasonal aspect where we see with some datacenter operators where they don't want to touch the network during the month of December when it's a busy time and they just want to make sure their network is stable? Is that the rationale for the slowing?

That's a good question, Simon. I mean, it's always good to feel that there could be some effect there. But I think really what's going on here is look, we had a fantastic Q3. We way overperformed on the datacenter side. We had enormous growth there. It was a great quarter in the datacenter business. And the fourth quarter will just be a little bit less than what we expected.

So really I think the story here is we're continuing to be very much on track, if you kind of look at Q3 and Q4 together. There may be some effect on holiday seasonality. I can't rule it out, but you know, basically what happened is, I think, is just that we shipped a lot in Q3 and it's just slightly less in Q4.

Great. And then obviously the big news here is the second award, or actually two awards for 100 gig design wins, so that's obviously a big deal here. So I want to get a better understanding in terms of how to think about this because you did say you see shipments in December. I'm presuming that shipping them doesn't mean you're going to have material revenues. So December will be at most modest revenue of 100 gig, if that's correct?

And also in terms of the two design wins, are these identical form factors from two different operators, or they're different flavors out there? If you can give us some sense of kind of the product types. Thanks.

So I'll take the second question first. They are different form factors for the two customers. And the first question had to do with what we expect to see revenue-wise in the quarter. We do see revenue from these in the quarter. You know, one of these two customers does have a VOI program, so you know, it's a little bit hard to predict exactly how much revenue we'll get into the quarter But we know that they want to take it very quickly. They're very excited about the 100 gig transition. So I would expect much, if not most of what we ship this quarter to actually show up in revenue in this quarter.

And what are the two form factors that you're going to be making in the quarter?

We haven't disclosed that.

Okay, thank you for taking my questions.

Thanks Simon.

The next question comes from Troy Jensen with Piper Jaffray. Please go ahead.

Hey, congrats and nice work gentlemen..

Thank you.

Hey, Stefan, so just on two 100G design wins, did you say those are with existing or new customers?

They're both with existing customers.

Both existing. So what is the pipeline for new customers look like on the R&D side

We've got a number of opportunities that we're pursuing, you know, with several additional operators. And I think we're pretty well -- you know, we're continuing to be pleased and optimistic about the progress on there.

To my knowledge at this point, we haven't lost or been excluded for many opportunities related to 100 gig. And I think the cadence of interest we're hearing from the customers continue to be positive. I think not all the customers are going to be moving at the same speed into 100 gig. And so we would expect to see probably, you know, some additional design wins to the extent that we get them, will be coming in Q1 and maybe even as late as Q2.

Okay. So, you may not be able to answer all this but I'll throw it out there. I'd be curious to know just on backlog and what I'm getting to is in Q4 of last year and Q1 of this year, you guys had this massive book to bill ratio, so it built up a lot of backlog.

So I'm just wondering if kind of the upside we've seen is, you know, eating away the backlog or how is the backlog level going into December?

So I mean, we haven't been giving any specific backlog numbers. I mean -- and the reason for that has to do mostly with the amount of business that we have going into these VOI warehouses. Obviously, backlog in that context is kind of meaningless because the order and -- you know, essentially the book to bill time is almost instantaneous. So that's why we haven't been giving specific numbers on the backlog.

But what we're trying to say here is that I think the opportunities are really there. We see, you know, cable TV a little soft in the fourth quarter as we indicated and I think that has a lot to do with the merger and M&A activity that's going on in the business, both among our immediate customers and their customers. But we expect that to recover. And certainly the 100 gig transition is going to be a big impact on the datacenter starting in this quarter and moving on into the future. But as far as specific backlog, we don't disclose that.

Right, understood. And then can you just go over the comment you said about two 10% customers, is that what you're expecting in the next quarter...?

Yeah. We do expect to have two 10% datacenter customers in this quarter.

Okay. Both existing or new ones?

Both existing customers, yeah.

Okay, all right. Thanks a lot. Good luck getting for the quarter

Again, if you have a question, please press star then one.

The next question comes from Richard Shannon with Craig-Hallum. Please go ahead.

Hi guys. Thank you for taking my questions. Maybe I'll start with a couple on 100 gig. Stefan, if I heard your comments correctly you were talking about the initial shipments of I think a few thousand units. Give us a sense of is there -- do you have any sense of the follow through beyond the first -- beyond the fourth quarter. Could there be a lull before you see a much bigger pick up later in the year, just any sense of how that trajectory may go?

No, I mean, I think we believe that this is the beginning of, you know, continued deployment for 100 gig, at least among this particular customer. We think that this customer is probably the earliest or certainly among the earliest of the large datacenter operators to begin to put 100 gig into their network. These units that we're shipping now are for actual, you know, network deployment. They're not test units or for some, you know, trial or whatever. These are really going into the network. And I would expect that they would continue to deploy and probably accelerate the pace of deployment. And that's what this particular customer, and then obviously the other customers will follow along in due course as they begin to implement 100 gig in their network.

Okay. So the 100 gig you're shipping in the quarter is just for one of the designs? Is that right?

We're going to be shipping for both. One of them is larger than the other.

Got it, Okay.

You probably won't say this, but I'll ask it anyway. Are either of these wins with your top customer, can you say that? Can you tell us whether that's true or not?

I mean, they're both with existing customers and, you know, I think it's -- it would be very logical to assume that it's with one of our top customers here.

Okay. I think most people would assume that as well. But that's fair enough then.

Let's see here -- can you just comment on anything on the competitive dynamics you're seeing in these --which is obviously very, very early in the 100 gig cycle here, are you seeing or hearing from these customers, perspective customer you're qualifying with. Are you seeing any other modules out there that are as mature as yours?

Well, as we said in the script, I mean, we're really excited about being the first out of the gate with 100G technology for these hyperscale datacenter operators. I know there's been a lot of talk in the industry about, you know, various different approaches and things like that. And you know, our position has been that, you know, all of this will become clear in due time, and I think, you know, we're very encouraged by where we're at.

As far as changes in the competitive landscape, to the extent that you know, the competitors are actually getting qualified and starting to receive volume orders, I don't think we're seeing any change in that competitive landscape. You know, alternative technologies and things like that, that may come down the line, we don't know yet. But we haven't seen them showing up in terms of shipments at this point.

Okay, fair enough. One last question for me and I'll jump off the line -- you mentioned in your last quarter's conference call that your -- one of your customers, your largest customer, is moving to a VMI, and in this third quarter, you built the inventories even more here. How should we think about inventories as we exit this quarter and where is kind of the normalized inventory turns ratio going forward?

Well I think, you know, we would like to get the inventory -- at least the growth rate in the inventory down a little bit. We don't want to continue to grow the inventory at quite the pace that we have. But we are undergoing a technology transition, as you know, from 40 to 100. Even though there's a great deal of commonality between those parts from a manufacturing standpoint, they do use a lot of discrete, you know, different components. So in a sense, we're kind of having to double inventory, certain raw materials and things like that. Plus we have the effect of this, you know, VOI warehouse for our customers, themselves, are inventorying, you know, 40 gig and 100 gig products.

So I do think that we'll probably continue to see some growth in inventory, but hopefully at a slowing rate as we start to, you know, normalize the datacenter 100 gig orders.

Okay, that's good perspective. That's all the questions from me, and congratulations on your early 100 gig successes here.

Thanks very much.

(Operator Instructions)

The next question is a follow up from Simon Leopold with Raymond James. Please go ahead.

Great, thanks. Appreciate being able to get another in.

You went through some of the commentary around the quarters, the third quarter's gross margin a little bit quickly. I just wanted to see if you could help us understand what went on. My recollection from my notes -- some mix issues this quarter that are temporary and you expect to get back to your normal range in December. But just if you could go into some of the detail on the September gross margin?

Yeah, I think what we said basically is that we -- you know, we had a mix shift within the datacenter segment from some longer distance type of optics to shorter distance type of optics. But that's not to say from long reach to short reach, it's just from, you know, a longer distance to a shorter distance. And those two carried somewhat different gross margin profile than the quarter.

What we have done during the course of the quarter is, you know, undertake an effort to improve our yield and some other cost reduction efforts, and so that we think that those products won't contribute negatively to the gross margin in the future.

And in addition to that, you know, the mix itself may normalize itself in this quarter as well. So we expect our gross margin to be back to a normalized range of, you know, sort of 33.5% to 34.5% in this quarter.

And in the September quarter in the cable TV gross margins were consistent with the trends you've seen in the last several quarters?

Yeah, we haven't seen any significant departure from the normal trends in cable TV with respect to gross margin.

Great. And then if we think about the longer term, should we anticipate that if and when 100 gig growth in the mix, that should be a tailwind for gross margin?

What we said is that -- I mean, you know, in the short term, as we ramp up new products, you know, there's puts and takes, right? We might see a somewhat advantageous pricing, but on the other hand, we often times have somewhat lower yields initially. So hard to say in the short term. And the longer term, I think the gross margins are probably going to end up about where we currently are in the datacenter side of the business. No major changes long-term.

Okay, thank you for the follow up.

No problem, Simon.

This concludes our question and answer session. I would like to turn the conference back over to Dr. Thompson Lin for any closing remarks.

Again, thank you for joining us today. Our entire team executed well this quarter, and I'm confident in our growth prospects and our ability to achieve our long term goal of becoming the leading supplier of fiber optic networking products. As always, we thank our investors, customers and employees for your continued support.

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.