ADTRAN Holdings Inc (ADTN) 2021 Q4 法說會逐字稿

Ladies and gentlemen, thank you for standing by, and welcome to ADTRAN's Fourth Quarter 2021 Earnings Release Conference Call. All lines have been placed on mute to prevent any background noise. After the speaker's remarks, there will be a question-and-answer period.

During the course of the conference call, ADTRAN representatives expect to make forward-looking statements, which reflect management's best judgment based on factors currently known. However, these statements involve risks and uncertainties, including the continued spread and extent of the impact of COVID-19 global pandemic, the ability of component supplies to align with customer demand, the successful development and market acceptance of our products, competition in the market for such products, the product and channel mix, component costs, freight and logistics costs, manufacturing efficiencies and other risks detailed in our annual report on Form 10-K for the year ended December 31, 2020, and our quarterly report on Form 10-Q for the quarter ended [September 30, 2021] (corrected by company after the call). These risks and uncertainties could cause actual results to differ materially from those in the forward-looking statements, which may be made during the call.

It is now my pleasure to turn the call over to Tom Stanton, Chief Executive Officer of ADTRAN. Sir, please go ahead.

Thank you, Elliot. Good morning. We appreciate you joining us for our fourth quarter 2021 earnings conference call. With me today is ADTRAN's CFO, Mike Foliano. Following my opening remarks, Mike will review the quarterly financial performance in detail, and then we will take any questions that you may have.

Q4 was highlighted by record demand for our fiber broadband solutions with a diverse mix of large and small service providers across our key growth markets in the U.S. and Europe. This demand was driven by the accelerated expansion of fiber-to-the-home networks, upgrades to in-home Wi-Fi connectivity, and the adoption of cloud-based automation tools. Some of these key highlights for the quarter included the overall revenue up 18% year-over-year. Record product revenues for our fiber access platforms were up 48% year-over-year, led by a diverse mix of regional service providers in the U.S. and Europe, along with a significant ramp in shipments to our Tier 1 access customers.

Record product revenue for our residential Wi-Fi platforms were up 72% year-over-year, led by volume shipments of our latest mesh Wi-Fi 6 systems. We also saw continued addition to our SaaS customer base, which was up 48% year-over-year. We had another record quarter in bookings, up more than 20% quarter-over-quarter and more than 50% year-over-year. These bookings were across a broad base of customers and product segments. In the latest market share report from Dell'Oro and Omdia, our Q3 2021 -- for Q3 2021, ADTRAN shipped more than twice the volume of 10-gig OLT ports in both North America and EMEA than the next 2 closest U.S.-based vendors combined.

This highlights our success in fiber footprint capture with next-generation fiber access platforms. The success we had in the quarter was a direct result of our improved customer diversification and our approach to providing end-to-end fiber broadband solutions. On the customer side, demand by regional service providers across the U.S. and Europe remains higher than ever. However, Q4 saw a sharp increase in revenue growth from international Tier 1 operators up 76% year-over-year. The international Tier 1 fiber operators increasing volume deployments included 2 European operators and initial XGS shipments to 1 Tier 1 operator with properties throughout Latin America.

On the portfolio side, we continue to have success in bundling our fiber access platforms in hope from service delivery platforms and SaaS applications. Our growth in residential mesh Wi-Fi systems and SaaS customers during the quarter directly correlated to our success in fiber access platforms. And we continue to outperform the market and fiber footprint capture, and we expect to see corresponding rapid increases in the deployment of our multi-gig mesh Wi-Fi 6 systems, ONTs, and SaaS applications.

While we had success in growing our business, supply chain constraints continue to limit our revenue growth potential and negatively impacted our profitability. We expect these industry-wide supply constraints to continue throughout the remainder of the year, although we expect some improvement in the second half. Despite the supply chain challenges facing our industry and many others, our long-term outlook remains very positive. The Tier 1 fiber operators in both the U.S. and EMEA remain on track for larger-scale deployments with several of them receiving volume shipments in Q4 and further growth expected in the quarters ahead. In addition, we continue with lab approval cycles of recently awarded Tier 1 fiber business, and we maintain a healthy funnel of incremental Tier 1 opportunities where we are well positioned for success.

Within the software segment of our business, we launched Mosaic One last year. Mosaic One is a SaaS platform with promote care and operate applications tailored toward the need of marketing, customer support, and operations personnel, respectively. These SaaS applications utilize AI-powered intelligence to optimize service performance across both fiber access and in-home environments, reducing operational expenses, improving network quality, and increasing customer satisfaction. As we have migrated more customers to these latest SaaS offerings, we have received tremendous positive feedback and expect this to further accelerate our growth not only in SaaS applications but the associated fiber access and in-home connectivity platforms as well.

These portfolio enhancements are timely with the high-growth opportunities for fiber broadband solutions in our core markets and the U.S. RDOF funds continue to get released, ARPA funding at the state and local level is beginning to impact network planning and infrastructure bill funding is still yet on the horizon. These key programs represent tens of billions of dollars in funding toward fiber-based broadband infrastructure and a rapid acceleration in subsidies versus previous years. In Europe, both incumbent operators and a wide range of Alt-Net operators backed by a mix of private investment and government stimulus race to upgrade their networks to an all-fiber future while continuing their shift away from high-risk vendors. ADTRAN remains well positioned to benefit from this unprecedented investment cycle in fiber access.

To position ADTRAN for further success in fiber networking solutions across the U.S. and Europe, we made a voluntary public takeover offer for ADVA Optical Networking in August 2021. ADVA is a global leader in optical transport, carrier ethernet, and network synchronization solutions that are an ideal complement to ADTRAN's portfolio. I am pleased to inform you that this offer was overwhelmingly approved by ADTRAN stockholders at a special meeting of stockholders on January 6.

On January 26, at the close of the ADVA shareholder tender acceptance period, we received more than the required 60% of outstanding ADVA shares of ADVA stock as of the record date, enabling this transaction to move forward. We are awaiting final FDI approvals from the U.K. and Germany. Once these are received, we will set a closing date and begin the integration process.

In summary, we continue to experience record demand for our solutions, especially in our high-growth segments of fiber access, cloud software, and residential Wi-Fi solutions. Our fiber access platforms are starting to realize the benefits of our success with Tier 1 operators and complement our rapid growing base of regional operators. Our SaaS applications are being adopted across a wide range of operators following the launch of our Mosaic One platform.

And finally, our residential Wi-Fi platforms are experiencing unprecedented growth given the demand for multi-gig managed Wi-Fi 6 in the home to match the speeds enabled by 10-gig fiber access networks. With increased customer funding, record demand, a diversified customer base, a differentiated product portfolio offering, we are on track to continue growth this year. The proposed combination with ADVA will further improve our competitive position and growth opportunities.

With that background, Mike, will you provide some details and a review of our financials. Following Mike's remarks, we'll be happy to open it up for any questions you may have. Mike?

Thanks, Tom, and good morning to all. I'll review our fourth quarter results and provide our expectations for the first quarter of 2022. I will be referencing both GAAP and non-GAAP results with reconciliations presented in our press release and supplemental financial schedules on our Investor Relations web page at investors.adtran.com. The supplemental financial schedules on our web page also present certain revenue information by segment and by category, which I will also be discussing.

ADTRAN's fourth quarter 2021 revenue came in at $154.2 million compared to $138.1 million in the prior quarter and $130.1 million in the fourth quarter of 2020. Subdividing across our operating segments, our network solutions revenue for the fourth quarter was $138.8 million versus $120.8 million reported for Q3 of 2021 and $114.1 million in Q4 of 2020.

Our services and support revenue in Q4 of 2021 was $15.3 million compared to $17.3 million reported for the third quarter of 2021 and $16 million for the fourth quarter of 2020. Across our revenue categories, access and aggregation revenue for the fourth quarter of 2021 was $95 million compared to $89.2 million in the prior quarter and $79 million in quarter 4 of 2020.

Revenue for our subscriber solutions and experience category was $52.3 million for the quarter versus $44.9 million for quarter 3 of 2021 and $45.4 million for quarter 4 of 2020. Traditional and other products revenue for the quarter was $6.8 million compared to $4 million for quarter 3 of 2021 and $5.8 million for quarter 4 of 2020.

Looking at our revenues on a geographic basis. U.S. revenue for Q4 2021 was $101.6 million versus $91.9 million reported in quarter 3 of 2021 and $95.8 million in quarter 4 of 2020. Our international revenue for the quarter was $52.6 million compared to $46.2 million for quarter 3 of 2021 and $34.3 million in quarter 4 of 2020. In the fourth quarter, we had two 10% of revenue customers, both domestic distribution partners serving a large number of regional service providers with a mix of broadband access and connected home and enterprise solutions, thus reinforcing our success in both customer and portfolio diversification.

Our GAAP gross margin for the fourth quarter was at 35.3% as compared to 34.5% in the prior quarter and 41.1% in the fourth quarter of 2020. Non-GAAP gross margin for the quarter was 35.4% as compared to 34.6% in the prior quarter and 41.3% in the fourth quarter of 2020. The quarter-over-quarter improvements in both GAAP and non-GAAP gross margin were attributable to higher sales volume and manufacturing efficiencies and a favorable mix of our network solutions and services and support segments which were partially offset by increased supply chain expenses, including higher component and transportation costs. The year-over-year gross margin decreases in both GAAP and non-GAAP gross margins were attributable to increased supply chain expenses, including higher component and transportation costs and product mix, partially offset by the higher sales volumes.

As previously mentioned, we continue to experience extreme constraints in the electronic component markets impacting our gross profit during the quarter and this is expected to remain challenging, affecting product availability in our component and logistics costs. Total operating expenses on a GAAP basis were $61.7 million for quarter 4 of 2021 compared to $57.7 million reported in the prior quarter and $56.8 million for quarter 4 of 2020. The quarter-over-quarter increase was a result of market-driven higher deferred compensation expense, variable compensation plans, and acquisition-related expenses, partially offset by lower nonrecurring and legal expenses.

The year-over-year increase in operating expenses was a result of higher acquisition-related expenses in labor and variable compensation, partially offset by lower restructuring costs and market-driven deferred comp expense. On a non-GAAP basis, our fourth quarter operating expenses were $53.2 million compared to $50.4 million in the prior quarter and $49.5 million in quarter 4 of 2020. The increase quarter-over-quarter in non-GAAP operating expenses were primarily due to higher market-driven deferred compensation expense and variable compensation, partially offset by decreases in legal and nonrecurring expenses.

The increase year-over-year in non-GAAP operating expenses was a result of market-driven deferred comp expense, variable and labor comp, engineering projects, and travel increases, partially offset by lower nonrecurring and legal expenses. Operating loss on a GAAP basis for the fourth quarter of 2021 was $7.2 million compared to an operating loss of $10.1 million in the prior quarter and an operating loss of $3.3 million reported in Q4 2020.

Non-GAAP operating income for quarter 4 of 2021 was $1.4 million compared to a non-GAAP operating loss of $2.6 million in the prior quarter and $4.3 million non-GAAP operating income in quarter 4 of 2020. The quarter-over-quarter improvements in GAAP and non-GAAP operating profitability were attributable to higher sales, partially offset by incremental supply chain constraint expenses and higher operating expense.

The GAAP and non-GAAP year-over-year decreases in operating profitability were the result of higher supply chain constraint related expenses and higher operating expenses, partially offset by the increased sales volume. Other income on a GAAP basis for the fourth quarter of 2021 was $1.9 million compared to other income of $923,000 in the prior quarter and $3 million for quarter 4 of 2020.

Our non-GAAP other income for the quarter was $2.8 million compared to non-GAAP other income of $1.4 million in Q3 of '21 and $1.7 million for quarter 4 of 2020. The quarter-over-quarter increases in both GAAP and non-GAAP other income were a result of higher dividend income and realized foreign currency exchange gains.

The decrease in GAAP other income on a year-over-year basis was related to market-driven losses in our investment portfolio as compared to gains in the prior year, partially offset by higher dividend income and realized foreign currency exchange gains.

The increase in non-GAAP other income on a year-over-year basis resulted from realized foreign currency exchange gains and higher dividend income. The company's tax provision for the fourth quarter of 2021 was a benefit of $1.1 million as compared to $1.3 million of expense in the prior quarter and a $6.5 million benefit in the fourth quarter of 2020. The current quarter's tax benefit was primarily driven by international losses and changes in our uncertain tax position reserves during the quarter as a result of the expiration of certain statutes of limitation.

GAAP net loss for quarter 4 of 2021 was $4.2 million compared to $10.4 million net loss in the prior quarter and $6.1 million of net income in the fourth quarter of 2020. Non-GAAP net income for the fourth quarter of 2021 was $4.7 million as compared to $815,000 net loss in the prior quarter and a $5.2 million net income in quarter 4 of 2020.

For the fourth quarter, earnings per share, assuming dilution on a GAAP basis was a loss of $0.09 per share as compared to $0.21 loss per share in the prior quarter and $0.13 per share earnings in the fourth quarter of 2020. Non-GAAP earnings per share, assuming dilution for the fourth quarter of 2021 was $0.10 per share compared to a $0.02 per share loss in the prior quarter and an $0.11 per share earnings in Q4 of 2020.

On the balance sheet, unrestricted cash and marketable securities totaled $100.6 million at quarter end after paying $4.4 million in dividends during the quarter. For the quarter, we used $25.9 million of cash from operations, driven by higher inventories and increased DSO levels. Net trade accounts receivable was $158.7 million at the end of the quarter, resulting in a DSO of 95 days compared to 83 days for the prior quarter and 70 days at the end of the fourth quarter of 2020. The increase in DSOs quarter-over-quarter and year-over-year is mainly attributable to increased sales and the timing of shipments late in the quarter tied to supply chain constraints.

Net inventories were $139.9 million at the end of the fourth quarter compared to $127.2 million in the third quarter of '21 and $125.5 million at the end of Q4 of 2020. We continue to carry a higher level of inventory in raw materials as we build up supply to minimize further disruptions given the extremely challenging electronic component market and the associated extended lead times.

Looking ahead to the next quarter, the continuing effects of the COVID-19 pandemic, the ability of component supplies to align with customer demand, the book and ship nature of our business, the timing of revenue associated with large projects, the variability of ordering patterns from our customer base as well as the fluctuation in currency exchange rates in our international markets may cause material differences between our expectations and the actual results.

With that in mind, we expect that our first quarter 2022 revenue will be between 100 and $158 million. After considering the projected sales mix, component availability, we expect that our first quarter gross margin on a non-GAAP basis will be in the range of 35% to 37%.

Hey, Mike, can I interrupt you? I think you said 100 and $158 million, the range. It's really --

$150 million to $158 million. I said 100 was wrong, $150 million to $158 million is the range. Sorry about that. On a non-GAAP basis, gross margin would be in the range of 35% to 37%. This is lower than normal due to our higher expediting and freight costs. We also expect non-GAAP operating expenses for the first quarter will be between 53 and $54 million.

And finally, we anticipate that the consolidated tax rate for the first quarter of 2022 on a non-GAAP basis will be in the low to mid-20s percentage rate. We believe that the significant factors impacting revenue and earnings realized in 2022 will be component availability and costs, the macro spending environment for carriers and enterprises, the ongoing effects of the COVID-19 pandemic, the variability of mix and revenue associated with project rollouts, the proportion of international revenue relative to our total revenue, the adoption rate of our broadband access platforms, potential changes in corporate tax laws, currency exchange rate movements and inventory fluctuations in our distribution channels. Once again, additional financial information is available at ADTRAN's Investor Relations web page at investors.adtran.com.

With that, I'll turn it back over to Tom and take your questions.

Elliot, we're ready to open up for any questions people may have.

(Operator Instructions) Our first question comes from Rod Hall from Goldman Sachs. Rod, please go ahead.

This is Bala on for Rod. Congrats on a good set of results, guys. Q1 revenue guidance of $154 million at midpoint, so it's flat quarter-on-quarter, which is good, I suppose. So (inaudible) like content situation, it looks like it went better than what you have heard in Q4. It looks like maybe you did not really see too many decommitments, et cetera. But just wondering, maybe you could help us past the hopeless situation through the quarter? Were there any surprises and what went better, et cetera? And I want to follow up.

We did see some decommits through the quarter. I mean, if I look at Q4 versus Q3, it was -- it's kind of hard because you don't know what's going to be the problem from a month-to-month, sometimes even from a week-to-week basis. So it's different problems. But in general, it's still semiconductor problems and we did have decommits. I think as we went into the quarter on the call, we tried to be as conservative as possible in trying to make sure that we are factoring in those decommits. So direct answer to your question is we did, but we were able to mitigate the impact of those decommits with additional shipments somewhere else.

Got it. On gross margins, now clearly, they are being impacted by higher costs and it's not just for you, for most companies too. I am wondering whether the price increases will kick in. How do you feel about the gross margin trajectory? Do you expect it to jump back up to maybe about 40% change in the second half of this year? Any color there would be helpful.

Let me take a stab, and then I'll turn it over to Mike. But I don't know how you can project that at this point because you really only get -- you can't continue to go and increment pricing to customers as you see price is, it's untenable for them as well. So knowing what's going to be difficult to purchase and the amount of that difficulty in the second half is, I just don't know how you can forecast that. We do, in general, expect the environment to improve. We do think that the fact that we are kind of long into this and the lead times that we have been -- lead time windows are typically -- let's say lead times aren't necessary closing, but we're farther into those lead times. So we expect things to get generally better in the second half. But I really can't tell you on a percentage basis, exactly how that's going to come to fruition. Of course, freight is a big piece of this as well. Freight is a large percentage because supplies are late, then builds are late and you're flying everything. So we need to say we have a big push on trying to get things back onto the ocean, but that's an impact. And you would think that that would get better in the second half of this year. The real unknown is do -- is there some COVID impact that may or may not hit us in the tail end of this year, and it's just really difficult to forecast that. (technical difficulty)

(technical difficulty) assuming that there would be pass-through like immediately. Maybe I'm wrong, but I was just hoping that with them, you're passing on those to customers and then also increasing prices for the standard components, et cetera., like maybe that would help the national trajectory? I guess that was the genesis of the question.

We have a current expectation, all right? And that's all I can say it is because it's -- there's so many variables. Current expectation is for second half gross margins to be higher than first half gross margins. So we do expect it to be trending, but I can't really -- at this point in time, really lay a percentage on that. It would be just a guess. Does that answer your question?

Got it. It helps. One more follow-up, if I may. On the -- so you've had a bunch of large Tier 1 customer wins, especially you all started to see some good traction or momentum with some of them. But could you maybe help remind us the time lines on when you expect these deployments to ramp? I believe some of them you said like maybe in the first half, the other in the second half. But in general, any details that would be helpful, Tom.

We have 2 that are basically shipping now in Europe. When you have started shipments in Europe, I wouldn't say they're at their full ramp by any stretch, but they're starting to ship and really started to ship in the fourth quarter, which is kind of where that bump was. We have one (technical difficulty) that will be ramping. Really, it's going to be a just material constraint. They'll be ramping as such as we can ramp them really starting now. It's really already started. We have a, let's say, 3 other -- trying to get the numbers straight here, 3 other Tier 1s in Europe that a couple of them, my guess would be second half, one of those towards the tail end of the second half, one of those probably right around the half, so right around the end of the second quarter. I think that's kind of where we are right now. And then, of course, here in the U.S., we're still seeing incredible demand pretty much across the board, including we have a large Tier 1 in the U.S. that has selected SDX and Mosaic and that one has started kind of ordering in bulk at this point. So it will be here again it's the supply chain thing of us being able to meet that. Does that answer your question?

Got it. Very helpful. It does.

Our next question comes from Paul Silverstein from Cowen. Paul, please go ahead. Paul, your line is now open.

I recognize you kind of addressed this in the previous response, but I'm hoping you could update us on Huawei displacement opportunities in terms of how many RFPs, RFIs, RFQs, whatever are outstanding, how many have now been awarded? How many more to go?

So we've had a couple that have -- this is a fluid list. So we have a couple that are just kind of opening up again or opening now. We've got -- I'm looking at a list here, which is broader than that because it includes EMEA. As of this current snapshot right now, we're looking at, let's say, 3 or 4 that are in the pipeline in some stage, maybe a little bit more than that, but it depends on what you count on Tier 1 versus Tier 2, but 3 or 4 seriously Tier 1s and then a few others that are you would -- you could argue if they're Tier 1s or 2s.

And how many awards, remind me, how many Huawei displacement awards have you already won?

I hate to call them Huawei displacement awards because it depends on the carrier. But so if you look at Tier 1s that we're now shipping -- let me do it this way because it may be easier, Tier 1s that we're now shipping PON to or let's say 10-gig PON 2 even then it would be 8.

Are there any --

To say that we've either won or shipping may be --

Accurate on now that we've either won or shipping yes.

The difference being there's some you won that haven't yet shipped?

That's correct.

All right. So 8 that you won, some of which you shipped to, but 8 that you won in total. Got it. Are there any such awards in which Huawei was incumbent in the carrier questions moving away from Huawei that you're aware of that you haven't won?

There are -- if I look at over the last few months, let's say, 6 months or so, there are 2 that have delayed their decisions right now. So they're continuing on as they kind of go through their process.

But there have been no carriers today to get at what you're aware what you bid that had awarded away from you?

That's correct.

All right. And one last question on the line. Sorry, I recognize there are wins and their wins, but are you getting a material -- to your knowledge are you getting a material position in these 8 wins that you've already secured? (technical difficulty) portion of the opportunity?

Yes, they typically don't give you percentage awards, of course, but the ones that I've talked about, none of those are we expecting it to be immaterial. So all of those, we are expecting materially greater than 20%, let's say. I mean it's not in material line (inaudible) material awards.

I recognize there was a timing factor, but you took the 8 wins today collectively, any expectations you could share with us in terms of the annual revenue impact? Range, whatever?

I mean we've given a range before. We have the largest -- the largest ones are -- Mike was it range $80 million-ish or so and then -- and there aren't many of those, of course. And then they're -- in general, you can think of them as somewhere between 10 and $20 million a year.

Okay. One final question for me. I recognize there's no longer just about RDOF in terms of various government funding programs, not just in the U.S. for that matter. But -- can you give us a sense for what the flow is from RDOF as well as from the other U.S. programs? What type of impact you're seeing now and what you expect for '22 all in?

Yes, for us ARPA, I mean, we've seen some awards directly that we attribute to ARPA like some municipals and -- but it's a little -- I wouldn't -- I don't consider that money really flowing in mass yet. For RDOF, I know that we have orders in-house that are directly related to RDOF and the releasing of funding for RDOF. So that has started. And that will progress just from our conversations with customers in the U.S. that are RDOF recipients. There's kind of 2 different types of RDOF customers. There are customers that are existing carriers that are growing their footprint in order to meet the RDOF properties. Those ones typically are farther along and expect material contributions this year. Then there are new ones that are really kind of standing up their operations for the first time. Needless to say, those aren't as far along. And I could easily see some of those delay into next year.

Got it. I'll pass it on. I appreciate the responses.

Our next question comes from Tim Savageaux with Northland Capital Market. Tim, please go ahead.

Congrats on the results for Q4, and I hopped on a bit late, and I don't know if you commented on this and since we're at year-end, I don't know if you guys talk explicitly about backlog or whether you could share some color on the extent to which that backlog increased in the quarter or any color on bookings level? I wonder what challenges remained and with no supply issues kind of what could you have shipped either for Q4 or for Q1 guide?

That last part of that question is interesting way to look at it. Yes. So bookings were -- I mentioned in my comments that bookings were another record and that they were up over 20% quarter-over-quarter, which itself was a record and over 50% year-over-year. And we were materially over those amounts. So I mean it was a really strong quarter for bookings. And we weren't able to meet the demand that's out there and hopefully, we're looking forward to being able to get to that point. In relation to your backlog or if we could have shipped literally hundreds of millions of dollars that we have in backlog that people would take today and would have taken in the fourth quarter. So it's really us getting through that backlog. That's important.

And just in terms of the customer base, you mentioned very strong demand in the U.S., it looks to be mostly real driven. I wonder if you could address what you might be seeing out of your traditional Tier 2 customers. Several big fiber ramps there. I think you've also got some competitive activity. It looks like Nokia has made some inroads Frontier, for example. But it seems like that's been -- there's been a notable uptick there. I wonder what ADTRAN has seen from U.S. -- traditionally what we call the U.S. Tier 2s?

That uptick we'd have seen. Now people have different definitions of what a Tier 2 and we probably need to start getting more explicit. But let's say, large Tier 3s or Tier 2s however you categorize it, that space is up significantly and the forecast that we have, and in some cases, orders that we have placed through this year, we would expect that to grow -- continue to grow actually pretty strongly this year. So that has gone well. We've also seen movement and we have one large, let's say, carrier Tier 1 as well as we also sell to MSOs. But that one is actually coming to life as well. I mentioned that we have gotten some orders in place for shipments through this year from that carrier. And if you talk -- if you read what they're saying they're going to do -- they're getting very serious about fiber as well. So I think in general, I don't think there's any space in the U.S. that isn't a really good environment.

Okay. And last one for me here. With the revenue forecast flat here in Q1, though at a much higher level than expected. You're looking for some modest gross margin improvement, similar kind of to what you saw here in Q4. But Mike, I wonder if you could remind us what the impact -- overall supply impact is on those margins? I mean would you be in the low 40s ex those cost issues or maybe an update there in terms of what you're seeing for the guidance?

Sure. So looking back at Q4, the impact that we saw was between 7 and 8 percentage points, and it's roughly evenly split between additional component and expedite fees on the components. And then the other side of the split is freight and logistics costs. So similar to the prior quarter, maybe a little bit worse of an impact during that quarter. But if you take that 7 to 8 percentage points on what we actually printed on a non-GAAP basis and we're solidly in the 42% to 43%, which is generally what our expectation is in the normal business environment.

And you expect that to maintain the Q1, that 7% to 8% or does that get a little bit better? And that's it for me.

I think if you look at our guidance and you take the midpoint of that guidance to project the significant headwinds out there.

(Operator Instructions) Our next question comes from Bill Dezellem from Tieton Capital Management. Bill, please go ahead.

I would like to follow up on the supply chain phenomenon. Clearly, in the fourth quarter, something went right late in the quarter, ability of inventory unfolded or pardon me -- raw materials unfolded throughout the quarter and how that might be relevant for us to view the potential upside to your guidance in the first quarter versus risks?

Let me touch on it, and Mike if you have anything to add. But it's -- we enter the quarter right now with a list of effectively backlog and then new orders that we think will be coming in that have some priority to getting them shipped. And it can be whether or not it's a new customer that we're trying to make sure they get up and running or some supply constraint or real demand issues with a customer that we need to make sure we prioritize. And then -- and as you would expect, the number when you enter the quarter is almost in all cases, higher than when you exit the quarter. So it's a fairly large number coming into the quarter. And then we do a kind of pareto of highest risk components, lowest risk components and from that kind of come up with, okay, this is where we think we're going to end up. We were, needless to say, a little conservative coming into this last quarter. And then you basically have fallouts and bring ins throughout the quarter. The weird thing, the phenomena that you're talking about, which is definitely true, which is for whatever reason, the entire supply chain has gotten to this point of everything ships in the last month. So really, our availability of components seems to be way more so than ever before, kind of back into the quarter loaded. I got plenty of backlog that I could ship today if I have the components to ship. So we're kind of hamstrung on where these shipments come and then you're figuring out what's going to drop out and what's not. And what we've done is it's been more conservative on the dropouts versus the pull-ins, which has led to the performance that you saw in Q4.

And are you -- so the fact that we've seen that loosening or availability of components in the third month of Q4, that doesn't, in your mind, necessarily lead to I guess you already know this for January, but more component availability in January, February, and March, it's just a back end?

Yes, because it's been that way pretty much the entire year. And I will say that we have a concerted effort to actually bring material and quicker and try to get more of it out of the way in those first 2 months. And we saw some benefit. You didn't see it in the DSOs, but we saw some benefit of that last quarter. We'll see some more benefit this quarter. But it's still a lot of the material shipments will come in that last month.

One additional question on this front, if I may. And that's relative to the inventory on the balance sheet was up $13 million sequentially in spite of the revenues being up $16 million sequentially. So that's a bit counter to what one would normally expect with a nice revenue increase. So -- and I'm not trying to be argumentative here, but really trying to understand why is it that, that increase in inventory that you had in Q4 doesn't roll in to be a benefit in Q1?

We're buying raw material-- raw material out there and available. We want to add that raw material. And it may not be used and we may not even have all of the parts necessary for a particular assembly. But if a part becomes available, we want to get that part. And then you don't have the assembly labor and you don't hang costs. So that $16 million itself made by the time it manifests itself into a finished assembly could easily be $20 million, $30 million, or $40 million worth of material pieces that would go into that assembly. But do you understand what I'm saying? I think so. I'm going to kind of just to summarize this in a slightly different way, that yes, inventory may be up, but all you need is one component not available for a particular product and you're not able to ship it. And it may look externally like you have plenty of inventory, but you need to one part. So that's the problem. Well, you also have -- you haven't converted it to a finished good, which would raise the value of that component. Mike?

Yes. It's mostly, Bill, just due to the extreme tightness that's out there. When you see a component, you need to be able to pick it up even if you're going to use it in future quarters because if you don't, it's not going to be there and the lead times have extended so far. So those are mostly buys from brokers and others where there's an extreme tightness for those components. So that increase in inventory is predominantly on the raw material side, but we're trying to build some buffers to avoid being missing that one component and not being able to ship.

We have a follow-up question from Paul Silverstein. Paul, please go ahead.

Tom and Mike, I hate to ask you had another question about supply chain. I recognize you've talked about something that's not easy to add for in, and that hopefully proves to be largely transitory. But I just want to make sure I understand your commentary. I think it's clear, but might remind me, I think you had -- I'm pretty sure you had indicated confidence that you'd be back to the low 40s by the first, second quarter time frame previously. That obviously isn't happening, which, in turn, clearly indicates consistent with other companies that there's been no improvement in let alone meaningful improvement in that perhaps things have gotten worse in terms of cost impacts as it translates into gross margin. I just want to make sure that, in fact, is what's happening, what you're seeing. Is that a function of increased decommits which many other companies referenced or is it what exactly is going on?

Let me start with, Paul. I don't think we said in Q1 or Q2 this year, we would get back to 40. I think we said late in the year. Our previous expectation was we would be extremely challenged through the first half and then it would start to improve in the back half. And I was thinking that we might be able to get back closer to 40% in the latter part of the year, but certainly not in Q1 and Q2. And -- and as you know, this thing just continues to play out. And so far, we haven't seen improvement out there in what's going on. So I don't think we're ready to say we're getting to 40 in the first half.

And as far as the environment, I mean, tell us the environment feels similar to what it was in Q3. I feel very similar right now to what it was in Q3 and Q4. Yes, there've been some decommits. But honestly, we've had decommits throughout that whole period. So I don't see an increase in decommits. I just see continuation.

Well, Tom, I'm going to play (inaudible) here because I'm pretty sure -- and I don't mean you have already admitted it, but I'm pretty sure that you and Mike previously indicated (inaudible), I'm not trying to give you a hard time, but I just want to understand if there's been iteration over the last 90 days?

I don't know how far back that comment was made. So if it was made at the beginning of the year, okay, but not see a change until the tail end of the second quarter. That's the environment I did -- and then I was hoping that the environment would improve there because we were some of the large chips versus smaller chips, which is still very, very fluent and we're definitely not correct. We're expecting a constant environment from where we are today through the first half of this year. Hopefully, that will get better. But right now, that's what we're expecting and expecting some improvement in the second half. Really, I don't think it's any different than it was in third and fourth. So -- and I don't think our feeling about the quarter has really changed, at least since the fourth, and I don't know how far back and looked at the notes there.

If you look at our guidance, we're expecting just minor incremental improvement, similar to what you saw between Q3 and Q4, I think we're expecting to see minor incremental improvement as we go through the next few quarters, but nothing significant.

In the bolster on that, the reason that we're saying that is, one, we do -- we are farther in the lead times and 2, freight has got to get better at some point. And as Mike said, almost half of our expenses of our overage is because of freight, in direct increases in freight costs over what our norm is. The whole thing to that is when do people start traveling, when does air travel start picking back up again, the congestions at the ports are getting a little better. So if there's not another COVID event, you would expect freight to get better. And that's a material piece of our overage.

And last question here. I trust by your commentary that in your case contrary to most other companies that have reported, you haven't seen a material increase in the number of decommits or you have?

No. I mean there is one vendor that has been problematic that continues to be problematic more so than the rest. But no, I mean, we had a couple that hit us early in the quarter. We were able to kind of bounce back from that. And I would say it's very similar to Q3. So I haven't seen a change from Q3 to Q4. But everybody's got their -- everybody's got their own situation, everybody's got their own stock situation as well. So I'm not at all saying that, that may not be happening to a group of companies. And I can just tell you that ours was very similar.

I think at this point, I don't see any other questions. So I appreciate everybody joining us for our conference call today, and I really look forward to talking to you next quarter. Thanks very much.

This concludes today's call. We thank you for joining. You may now disconnect your lines.