Ciena Corp (CIEN) 2012 Q2 法說會逐字稿

Good day, everyone, and welcome to the Ciena conference call to report unaudited second-quarter 2012 results. This call is being recorded. At this time, for opening remarks and introductions I would like to turn the call over to Ciena's Vice President of Investor Relations, Mr. Gregg Lampf. Mr. Lampf, please go ahead.

Thank you, Allison. Good morning and welcome to Ciena's second quarter and 2012 review. With me today is Gary Smith, CEO and President; Jim Moylan, CFO; and Tom Mock, Senior Vice President, Corporate Communications.

This morning's press release is available on national business wire and Ciena.com. In our prepared remarks, Gary will discuss management's view on the quarter and Jim will offer some color on our Q2 results and provide guidance for Q3. We will then open the call to questions from sell-side analysts, taking one question per person with follow-ups as time allows.

As a reminder, we will be hosting our Analyst Day on Monday, June 11, in New York. That event will get underway at 1 p.m., and we look forward to seeing many of you there.

Before turning the call over to Gary, I will remind you that during this call we will be making certain forward-looking statements. Such statements are based on current expectations, forecasts, and assumptions regarding the Company that include risks and uncertainties that could cause actual results to differ materially from the statements discussed today. These statements should be viewed in the context of the risk factors detailed in our most recent 10-Q filing. Our 10-Q is required to be filed with the SEC by June 7, and we expect to file by that date. CNN assumes no obligation to update the information discussed in this conference call, whether as a result of new information, future events, or otherwise.

Today's discussion includes certain adjusted or non-GAAP measures of Ciena's results of operations. A detailed reconciliation of these non-GAAP measures to our GAAP results is included in today's press release available on Ciena.com. This call is being recorded and will be available for replay from the Investors section of our website. Gary?

Thanks, Gregg, and good morning, everyone. With revenue of $478 million and tangible progress against our operating leverage objectives, we are pleased to report an overall strong performance in our second fiscal quarter. Our network specialty strategy, which encompasses a sharp focus on next-generation packet-optical networking, innovative solutions, and a differentiated customer engagement model, is being validated across multiple vertical markets. That traction is enabling Ciena to take a position of competitive strength and clear architectural leadership in the marketplace.

In recent weeks, you have seen announcements with customers from the ranks of major Tier 1 service providers, submarine cable operators, and public research and education organizations who have chosen Ciena solutions spanning Transport, Switching, and control plane as foundational technologies for their network modernization strategies. We are seeing customers look for some very specific characteristics as they evolve their networks towards application-centric and cloud-based models, including the convergence of network layers and functions; open interfaces; network-level programmability; and proven control plane software for automating that programmable infrastructure.

Demand for these capabilities plays to Ciena's strengths as the network specialist. By design we have developed some of the industry's deepest expertise and deployed the most flexible implementations of these technologies.

For example, we recently announced that we have extended our newest-generation control plane, OneConnect, across our Transport and Switching platforms to create a leading family of converged programmable solutions. This convergence also allows us to address a much broader range of applications from the Metro through the submarine domain, to drive architectural change in the industry.

That need for change has contributed to growing momentum for our 5400 family, which is now united by OneConnect with our 6500 platform, forming the critical elements of a new architectural model. These solutions are hybrid platforms for TDM, OTN, and packet networking that are fully programmable and automated by common control plane.

With 6500 driving 100-gig into the marketplace and automated OTN switching being adopted by major customers, we believe the 5400 family is now well positioned for growth. While we are still in the early stages for this platform in terms of revenue, our order flow has been solid.

As a point of reference, after 12 years our predecessor to 5400, essentially the CoreDirector, has approximately 40 customers. Even at this early stage of adoption, 5400 is already halfway to that mark, which I think speaks to the increased market opportunity for this platform.

Now let me take a moment to talk to the macro and some of the general market dynamics. Clearly the global economy remains uncertain. While not significantly better or worse than we have seen in recent quarters, the macroeconomic environment is still causing some overall market caution.

But I would stress that we are seeing increasing opportunities in Latin America, Asia Pacific, the Middle East, and especially North America. This is essentially helping to offset the lingering softness in Europe.

While the macro climate may be affecting overall CapEx spend we continue to see, as we have said in previous quarters, that customers are shifting a greater percentage of their CapEx towards next-gen solutions. And we are seeing that trend with a number of new projects that we are deploying worldwide.

So we are winning new deals, taking share from key competitors, and gaining footprint with multiple large customers. As we have said before, early deployments on large new network builds generally have lower average product and related services margins, which was in fact the primary contributor to the change in this quarter's gross margin.

In fact, I would stress that the overall pricing environment remains largely unchanged. It has been competitive for some time, and we certainly expect it to remain so.

In summary, we consider Q2 to be a quarter of solid progress. We are encouraged by our continued success with strategic design wins. Our approach in terms of both technology and engagement is resonating very well with existing customers and prospects. And demand indicators across the business remain strong.

On their own, we have industry-leading technologies for scaling, converging, and automating next-generation networks. With these technologies now coming together on our flagship platforms, it creates an even stronger competitive advantage for Ciena.

Our strategy continues to gain momentum, and we are starting to distance ourselves from legacy and niche vendors in terms of wins, growth, share, and business performance. We also believe we can apply this expertise to meet critical unmet needs in emerging application areas as well. As a result, we expect that we will continue to outpace market growth going forward and to improve operating leverage from the business.

With that, I will now hand over to Jim to provide some more detail around Q2 financials as well as guidance for Q3.

Thanks, Gary. Good morning, everyone. I'll take a few minutes to provide some detail on the results that we published earlier today. As a reminder, I will be speaking only to non-GAAP results. Please refer to this morning's press release on our website for the reconciliations to our GAAP results.

Second-quarter revenue of $478 million showed solid growth. In addition to the ongoing strong demand that Gary mentioned, revenue came in higher than previously expected due in part to the recognition of revenue from some of the international solutions-based projects we have mentioned previously.

Adjusted gross margin came in lower than expected, just below 40%, due to a couple of factors related to mix. Large new installations contributed to a lower margin mix within both Transport and Services due to the initial phases of several deployments. While very encouraging for our long-term revenue and gross margin prospects, these initial deployments not only tend to be chassis-heavy, they also are associated with higher volumes of installation services, which tend to provide a lower margin than our other Services offerings. We expect these factors to continue into Q3.

In addition, our Switching segment was down somewhat in Q2. We do remain committed to our mid-40s percentage target range for gross margin, and we believe that we can achieve that target over time through a combination of continued convergence, leading to lower product costs and improved functionality; more software-rich solutions coming to market; cost-reduction efforts; and working our way through the costly early stages of the product introduction cycles for various new platforms.

Adjusted OpEx was lower than expected at $173 million. We are seeing in our results a positive impact from some of the business process transformation projects that are underway. We also were helped by the fact that some expenses, primarily related to R&D programs and IT optimization projects, did not occur in the quarter, as expected. We do remain committed to these projects, and we expect them to occur in the second half of the year.

We generated $61 million in cash from operations for the quarter, and free cash flow was over $50 million. This is due in part to our ongoing efforts to increase the velocity of our business.

DSOs, which were in the mid 80s for the last few quarters were down to the mid 70s this quarter. That is one tangible example of how we are improving the operating leverage in our business.

Our cash position is up by approximately $35 million as we ended the quarter with $636 million in cash and liquid investments. This cash and liquid investments amount was reduced by a $16 million increase in restricted cash during Q2. This is due to the use of cash to collateralize performance bonds and similar obligations which are required by customers in certain geographies and applications.

That brings me to guidance for the fiscal third quarter of 2012. Absent any significant changes in exchange rates, our guidance is as follows.

We expect revenue to be in the range of $455 million to $485 million at approximately 40% gross margin. Adjusted operating expense for Q3 is expected to be in the low to mid $180 millions.

With first-half adjusted OpEx coming in lower than expected, partly because of the timing of certain expenses, we believe our second-half OpEx levels will be somewhat higher than that of the first half. Although we have previously said that we expect OpEx to be roughly flat for the full fiscal year compared to 2011, we now believe it will be slightly lower than 2011 for the full year.

With these strong results in Q2 and the momentum we are seeing across our business, we continue to believe that second-half operating results will be stronger than those of the first half.

Finally, here are some metrics for those looking to model earnings per share. With regard to other income expense net in the third quarter, we project an expense of approximately $9.6 million related to the interest on our convertible notes. We expect our tax obligation for Q3 will continue to be related solely to foreign taxes.

As for share count, we estimate Q3's basic share count at approximately 100 million total shares. Diluted share count will vary depending upon your assumptions about our profitability.

That concludes our prepared remarks, and with that we will move on to Q&A. As a reminder, in order to maintain fairness, we will be taking one question per sell-side analyst with follow-ups as time allows. Allison, we will now open the line for questions.

(Operator Instructions) Kevin Dennean, Citi.

Great, thanks very much. Good morning, guys. How are you? Quick housekeeping question. What is the customer trial count on the 5430 now? I think you mentioned it's approximately half of the 40 CoreDirector base; but could you give us the actual number?

Yes, Kevin, I think we have -- given the maturity on the trial piece, we have stopped giving that because I think we are beyond that stage. But I think if you are talking about number of customers, we're approximately 20. I think it is 19 in total, and that is about half of the total CoreDirector customers we've had over that period. I think that is an interesting comparison and I think talks to the opportunity that this platform has.

Okay, great.

One thing I might add to that, Gary, is that about half of those 19 customers are not current CoreDirector customers. Again, speaking to a broader applicability.

Great, okay. Thanks. Then just thinking about the 5430 opportunity longer-term, I know every Tier 1 is a little bit different; but can you dimension for us what you think the opportunity in a typical Tier 1 deployment for the 5430 might be over its deployment cycle?

I mean, I think it does vary. It is a very flexible platform, and I think this creation of a programmable platform between the 6500 and the 5400 is really now a joint family with the integrated control plane. So we've got opportunities to put control plane into all the 6500; and then also in all the 5400 we've got the chance obviously to put all of the optics and provide a complete integrated solution.

So basically, Kevin, we could go right from the core of the network right out into the Metro with a converged control plane solution. But that is a very large architectural decision for a Tier 1 carrier. But we are certainly, I think, at an inflection point where we are seeing momentum towards driving this kind of architecture.

So they are big decisions, and it tends to take longer than you think to get it through all of the work that is required to integrate it into the back-office, etc. As you know, I think we have talked about a couple of very large Tier 1s that we are making good progress with there; but I think the results to date -- I think it is fair to say -- have not included any large-scale deployments at any Tier 1 carrier.

I think that is clearly all to come. And we expect that in seriousness to begin in 2013; but we do expect switching revenues to be up in the second half of the year.

Thanks, Kevin.

Great, thank you.

Mark Sue, RBC Capital Markets.

Thank you. Gary, just a clarification. Did you guys have any SEA-ME-WE 4 revenues during the quarter?

We don't normally talk to specific customers, but I think we have talked to this one before. We actually did not recognize any SEA-ME-WE 4 in Q2. We do believe that we will recognize that some point in the second half of the year.

Got it. So the question is, if you could give us some comments on just the overall directional trend in your backlog, perhaps over the last few quarters and the last few months. And just further share why you believe the second-half revenues might be better than the first half. Any tangible points would be helpful.

Well, I think we have not given detail on backlogs. It is not always an indicator of the future, given the kind of business that we're in. But I would say we continued to build a backlog in Q2, and that follows on a strong run out of Q1 and Q4 of last year.

And we are seeing strong momentum across-the-board. We highlighted from a geographic point of view places like Asia Pacific, Latin America, certain parts of EMEA. Being in the Middle East, Russia, etc., is helping offset any challenges in Europe.

So I think with the design wins that we are seeing as well, and we're at the early stages of rolling out some of those, that gives us some -- put all that together and I think that gives us some good confidence that we have strong momentum going into the second half.

Thank you, Mark.

Got it.

I'd just add one other thing to that; and that is that our process for developing our view is really a strictly bottoms-up forecast from our sales force. And they tend to be very, very accurate on the coming quarter in terms of what orders are going to hit.

Based on our forecasts and based on our backlog, that is what gives us the confidence as we look into the second half that it's going to be better.

Okay. Thanks, gentlemen. Good luck.

Tal Liani, Bank of America Merrill Lynch.

Yes, hi. This is Eric Ghernati for Tal Liani. Last quarter you discussed that your order intake, products order intake was up 20% year-over-year. Can you just give us this metric, and also whether it was up on a sequential basis? And I have a follow-up; thanks.

We did disclose that statistic last quarter, because as you know we underperformed on revenue last quarter and we wanted to make people understand that that underperformance was not a weakness in the overall business. We really don't intend to give that kind of detail about product and percentage changes and all that sort of thing on an ongoing basis.

I can just tell you that we were pleased overall with our order intake in Q2, and we are expecting good things in Q3.

Okay. Then maybe I can -- if you can flesh out some details about the gross margin side of things. Clearly your deployments on 40- and 100-G right now are coming in at slight -- lightly populated chassis and that is what is hurting the gross margin side, coupled with that your mix is more towards Transport, and your Switching revenue is so weak.

You had previously suggested that your Switching revenue will move up in the second half of 2012, and you had some cost-reduction elements that will take place in the second half of 2012, though you did say that you will not get to the mid 40% gross margin this year. Now, how should we think about when all these dynamics are largely behind you? In other words, I guess I am asking -- when do we expect the inflection points to gross margins to occur?

What I did say is that we expect these factors that influenced gross margin in Q2 to continue into Q3. We're not going to be able to give you specific guidance about margins for the rest of this year or certainly not next year.

But what I would say is that trends inside of the categories of both Switching and Transport -- and Services, for that matter -- are positive, and we certainly expect improvement from these levels. I don't want to get into when that is going to occur; but we do expect it.

Thank you, Eric.

Blair King, Avondale Partners.

Yes, hi. Thanks for taking the question. I have maybe one, Jim, for you, on the deferred revenue. Obviously a pretty nice uptick on deferred revenue quarter-over-quarter. Maybe you could give a little bit of detail around what drove that? What's in it? And your expectation for some of that to come through to the P&L.

Yes, what that is -- essentially all, Blair, is when we sign a contract for an extended service arrangement, a maintenance arrangement, and we get paid up front for it. So that's basically what that is.

We take the cash and we defer the revenue, and take the revenue in over the period of time that the service contract runs. So that account is going to move up and down depending upon the signing of maintenance agreements with our customers.

Okay. Maybe one quick last one. You had mentioned going into the quarter that you thought CESD revenue would be higher this quarter. Can you give us a sense as to what drove that this quarter and what your expectations would be for at least next quarter, or perhaps the balance of this year?

Yes, Blair, I think what we are beginning to see on CESD is finally some of these Ethernet business services actually kicking in. We've got a number of carriers that we are now deploying that with.

I think it's fair to say it has taken a long time to get that transition going into Ethernet business services, but we have about 150 customers now in Carrier-Ethernet overall.

I think we are beginning to see this broader base began to generate Ethernet business services as opposed to just wireless backhaul. We also think that given that and some of the things that we are doing to add features and functionality into the portfolio, should see an uptick in the second half of the year for Carrier-Ethernet as well.

Okay. Thank you very much.

Paul Silverstein, Credit Suisse.

Hey, guys, my apologies. Notwithstanding my positive view on your stock, I am going to give you a hard time about not giving us the order growth rates. I really don't think it is appropriate that you do it on a selective basis. So my apologies; but my hope is that you are going to share with us, because I really do think it is appropriate.

Paul, that is a conversation that I am happy to have with you off-line.

All right. That being said, if you could give us some incremental insight about the nature of the activity you are seeing in North America as well as those emerging markets, Gary, I know you mentioned quite a number of different areas -- subsea, long-haul, Metro. You mentioned about a number of big buildouts where you're in the early phases.

Can you give us any more insight in terms of the number of such buildouts and the nature of those buildouts? Whether it is across the spectrum or really focused in particular product markets?

Well, I think from a geographic point of view, I have talked to some of those. We are seeing areas where it is offsetting any weakness, particularly into Europe. I think we are fortunate in that we are not very exposed to Southern Europe for historical reasons.

I think we are seeing in a lot of these emerging markets -- markets like India, Middle East, Russia, where they are actually building greenfield architectures, which is very well suited to the next-generation architecture, so we are seeing some nice buildouts with those.

I think we are also from an architectural point of view beginning to pivot across this architectural convergence. If you look at things like 40-gig, 100-gig does not work with SONET or SDH. So I think the take-up of 100-gig is I think an indicator of this shift finally happening.

I think we're also -- our ability to put true convergence across these platforms is beginning to gather momentum as well. So it is tough to put real metrics on that other than just the kind of revenue uptick that we are seeing and the activity levels continue to increase across-the-board.

Thanks, Paul.

Hey, Gregg, can you all share with us the 40-gig and 100-gig numbers in terms of customers?

Yes, I can do that, Paul. The current customer count we have got for overall Coherent is around 114 customers, of which about 105 are 40-G and about 30 are 100-G. Recognizing that some of those are common between the two is why we have a lower number for the total than the sum of the separate parts.

Thank you.

And we are over 50% Coherent in terms of our -- 40-gig and 100-gig Coherent in terms of our [MWD] Transport revenue.

Thank you.

Simon Leopold, Raymond James.

Great. Thank you very much. I wanted to first see if you could give us a little bit more color or clarification on the two 10% customers this quarter, what their split was and what type of business geography they are in.

Then in terms of the guidance -- and I am cognizant that you put up strong sales in the April quarter. Not ignoring that fact, but I am looking at the sequential pattern and wondering how we should think about the SEA-ME-WE 4 revenue recognition in your assumptions for the July quarter. Because if I were to exclude, let's say half of the SEA-ME-WE 4 revenue in July you would have a sequential decline. I am just trying to get comfortable with why that would make sense.

Certainly. Let me take the first part of that in terms of color around the Tier 1s. I think it's -- I think both of the over 10%-ers that we saw in the quarter were both North American.

On the SEA-ME-WE 4 question, Simon, we try not to give specific comments about specific customers because I think people can take wrong interpretations of what is happening inside our results. One thing I'd say about SEA-ME-WE 4 is that we said earlier we believe it is going to happen in the second half of the year.

The timing of it is still uncertain. It is not necessarily binary. It could come in partially in each of the quarters, and we have tried to take into account that set of facts in giving our guidance.

But one thing I would tell you is that there are lots of puts and takes as we set up our quarter, and things will move around. So I would not draw a conclusion about being down with or without SEA-ME-WE 4 at this point in time. I just think it is preliminary to draw that kind of conclusion.

So maybe let me see if we could rephrase the question. Let's ignore SEA-ME-WE 4 and just focus on -- the midpoint of the guidance is flattish. So your overall tone, it sounds very constructive. You sound optimistic, yet flattish sequential guidance doesn't necessarily reflect that.

So I am trying to weigh how much of this is conservatism, how much of this is uncertainty. So I have to mention a lot of us are struggling with just how to interpret the guidance, with or without SEA-ME-WE 4.

Simon, this is Gary. I understand, particularly in the context of the overall environment right now. I think what we try and do in terms of our guidance -- as Jim said, there's a lot of moving parts to it.

I think if you look at what we have just done in Q2, we essentially over-performed Q3 guidance for revenues in Q2. Now, that comes off a weak Q1, and I think we fully recognize that.

But I think overall if we look at it in sort of halves, which is -- when we put both product trending and overall trending in halves, I think it tends to give I think a clearer picture of the trends.

As we draw the line around revenues, orders, those kinds of things, and customer traction, that is how we extrapolate out. So yes, we had a very strong overachievement, if you like, in Q2. We expect Q3 to be within that range, and it's pretty strong. And I think current consensus is about that for Q3.

Okay. No, that's helpful. Thank you.

Jeff Kvaal, Barclays.

Yes, thank you, gentlemen. Could we talk about Switching a little bit please? You've -- I mean, this wasn't your strongest quarter in Switching; and some comments about why that would be. Are people delaying purchases of CoreDirector, for example?

Then secondly, could you talk about your comment that the second half should be better than the first half? Does that mean in aggregate we should be adding up the January and April numbers and saying -- okay, well the July and October should be higher than that? Because that does suggest a pretty decent ramp. What gives you visibility into that?

So a bunch of Switching questions there for you.

Okay. So, I think from an overall point of view, we are seeing a lot of momentum on the Switching side. It is lumpy, for want of a better technical marketing term; and these things do take longer to deploy on a widespread basis, particularly, because they are big architectural decisions typically for most of the carriers and they do take a lot of integration from the back office.

But as we have seen with CoreDirector is -- once they are deployed there is a nice scale-up to it. We are still really at the early stages of the 5400. I gave the statistic around the amount of customers; one point I would make around the amount of customers is that we are only including SEA-ME-WE 4 there as one customer when really it is about 16 different Tier 1 carriers are going to get the platform. And that also opens up other opportunities to clearly talk to them about their domestic architectures.

So I think we are still at the early stages of this. CoreDirector deployments, I would also say we have still got some growth on that. It is a totally integrated part of the family, and we're only at about 50% capacity on average in some of those CoreDirectors, and that is entirely compatible with the 5400.

The initial 5400s that we are deploying are less than 20% in capacity. So you are seeing even in that dynamic somewhat of a chassis and a card characteristic as well.

So I think, Jeff, we look at all of that and we look at the engagements that we are having with a broad range of applications. And that is the only thing I would say is -- CoreDirector was really at a very specific market niche almost. What we are seeing with 5400, with OTN, and with 100-gig is a much broader applicability, and the fact that we are seeing customers in all different kinds of market segments get early traction with it.

Thank you, Jeff.

Brian Modoff, Deutsche Bank.

Yes, guys. Can you give us at least an idea on the Switching side what you are seeing from an order standpoint? Give us an idea what momentum you might -- because you obviously had sequentially quite a bit of a drop.

Then on the WaveLogic 3 chip, how do you see that affecting margins as we move into the back half of the year? Thanks.

Brian, on Switching orders, I think we are not getting into the -- I don't think it's appropriate to get into the detail of that because again that can be misleading depending on the backlog, etc. It doesn't necessarily roll through to the following quarter.

I think what we are giving in our guidance is consideration of all the aspects that we see. And we do expect Switching to be up in the second half. Tom, do you want to --?

Yes, in terms of the WaveLogic 3 margins, Brian, WaveLogic 3 does give us the ability to do more things on a single card, so it does reduce the overall cost base of the card. And as a result, we would expect some margin improvement on that.

The cautionary note I would put around that is that we will be beginning to deploy WaveLogic 3 in the second half of the year, and probably we'll see the bigger effects of it as we move into 2013. The other point I would keep in mind around that is we are in a market, as we observed before, that is a continually competitive market. And a lot of the steps we are taking in terms of cost improvements ought to help us essentially maintain our place in the marketplace and continue to be competitive from a price perspective.

Thank you, Brian.

Okay. Thanks.

Ehud Gelblum, Morgan Stanley.

Thanks, guys. I appreciate it. In the Q each quarter you actually give a breakdown on the Switching between 5400 and CoreDirector. Last quarter, 5400 fell pretty hard and CoreDirector was actually quite strong.

Within the -- can you give us a preview as to what the breakdown was? Because quite possibly your 5400 actually could have gone up this quarter and really started showing momentum; but you wouldn't necessarily know it by looking at your Switching. So can you give us a preview as to what that looks like?

Then I know there were certainly a lot of questions about backlog and order intake so far. But in the past you have given us at least a direction on backlog. I may have missed it; you may have said it. But did backlog actually grow again, or did it fall as you had the strong quarter this quarter?

And then I have a follow-up on the balance sheet actually, if Jim can actually talk about that for a little bit.

[Definitely] the backlog actually did grow.

Okay.

And as far as the breakdown between 5400 and CoreDirector, 5400 was roughly flat from Q1. It was down slightly, but you can consider it flat.

So it is staying at the $5 million level per quarter?

Roughly, yes.

Okay. On the -- I have got to hit the SEA-ME-WE 4 business again. Is that in, when you came up with your guidance for next quarter? I mean, last quarter you said that it was going to be lumpy, and that when that comes in we should expect to see it lumpy.

When you gave guidance for next quarter it sounds like you are guiding not only the second half strong but it sounds like you are guiding the two quarters out being stronger than next quarter. But if SEA-ME-WE 4 is completely in next quarter, then it would imply a little bit that you have a headwind going into fiscal Q4.

So I know this has been asked six times already, but just trying to understand again -- what did you --? Did you --? How did you account for SEA-ME-WE 4 in the guidance?

Then the final thing on the balance sheet is you have a convert due next year. Are you planning on paying that off, given your cash balance is actually quite strong right now, or rolling that over?

Jim?

Yes, what I'd said earlier in response to the question about SEA-ME-WE 4 is we don't like to comment upon individual deals, whether they are in or out of particularly guidance. What we can say is that we do think SEA-ME-WE 4 will happen in the second half sometime.

It is not necessarily binary, in that we could get a piece of it in third quarter and a piece in fourth quarter. And that is just one of a number of puts and takes that are in our call for Q3. As you can imagine there are a lot of things that are going to go one way or the other in Q3.

But we believe that whether or not SEA-ME-WE 4 hits or a piece of it hits in Q3 we are going to have a good second half. So that is how I would answer that question.

With respect to the balance sheet, you know I can't comment on our plans. I would say that we are showing a nice growth in our cash balance. And the amount which is due next May is about $[216] million. If we choose to, we can pay that off with cash and still maintain a very robust cash balance on our balance sheet. We're going to make that decision according to what is available to us in the marketplace.

Thanks again.

Appreciate it.

Rod Hall, JPMorgan.

Yes, thanks, guys, and good morning. Just a couple of follow-up questions on things I think that you have already started to talk about. First of all, on the margin mix, I know you said that a lot of this is due to chassis deployments.

I guess I am just trying to get a feel for what the 100-gig business, which sounds like it's going to accelerate in the second half of the year, is going to do to chassis deployments in the mix. And if you can give us any quantification of how much of your revenues are related to new chassis deployments versus otherwise, that would be helpful.

Then I also wanted to just get you to give us a little bit of color on the 5430 deployment at Verizon. They have made some comments suggesting that they are using it for deployment of bandwidth for customers that want wavelength provisions, but that that is a pretty small part of their overall business. It just is a little bit unclear just how it fits into Verizon's network architecture. So it would be interesting to hear from your point of view how it is fitting in; and that's it for me.

Yes, Rod, what I would say about the question is that we don't think it is appropriate to get into the sort of granularity about chassis deployments and percent deployments and all that sort of thing that you are asking about. What we can say is that if you go back to the early quarters of the combination of these two companies, we had a very rich card mix from the MEN Business because they, during their period of bankruptcy, had not been able to sell complete systems. So their mix at that time was over-rotated towards cards and was very nice.

We are now in exactly the opposite situation. We won a lot of new deployments around the world, including some very large ones. And so we are, as a Company, over-rotated toward chassis.

The other thing that we have said is that it is a competitive world out there. And particularly in the larger deals sometimes you give upfront discounts to gain market share; and that also costs us in terms of early margins.

So what we can say is that we are going to move out of this period of time, and we will be on a more balanced basis between chassis and cards; and we will have moved through the period of discounts. Both of those things, in addition to the fact that we are adding software into our Transport platforms, should improve margins over time.

We are not being specific on the timing because it is hard to say. I hope we will continue to win new big business, in which case the ramp-up in Transport margins might be slower. But that is going to be positive for the long term if that happens.

Jim, just to follow up on that, the 100-gig business you guys seem to have won for the second half of the year, it looks like a great chunk of business that you are winning. And it seems logical to me to assume that that would mean that the chassis deployment mix moves up in the second half of the year; and then maybe this stabilization you are talking about comes next year. I just want to make sure that that is a reasonable assumption to be making.

I think that is a fair assumption to be making. We said that this is going to continue into Q3. The question is Q4; and although we are not prepared to give guidance, we like what is going on in terms of our mix in all of our products.

Rod, the other thing I would just add to that is, I think as Jim said, it is a confluence of things, broadly under the heading of mix. We have also got multiple new -- what is exacerbating the challenge is we've got multiple new platforms in market that are going through these similar dynamics at the same time.

You're an inflection point in the industry where you are getting a lot of newbuilds, and that bodes well for the future. But the point about these new platforms is they are not -- their first iteration is not cost reduced; and so we've got the opportunity to take cost out there. And when you engage with some of these large Tier 1s on these newbuilds, the startup costs for them and for us that we share -- things like demos, training systems, those kinds of things, sparing, etc.

But it is a good news story for the business for sure because you are creating a large, strategic footprint. So it is a confluence of elements.

Let me just touch on the Verizon question. I don't think it's appropriate for me to talk about Verizon's architecture, but I would talk generically. What we are seeing in terms of 5400 applicability is not just in the core switch but also the ability to put it out into the Metro, particularly with 6500. You have now got a scalable family of platforms within the 5400; it goes right the way from a smaller switch right up to currently 7.2 terabytes and going to go beyond that as well. So it gives you a whole family.

I think that provides a programmable platform for a lot of these Tier 1 carriers. And we're -- a lot of discussions around the flexibility of that as a standardized platform.

Thanks, Rod.

Thanks, Gregg .

Nikos Theodosopoulos, UBS.

Yes, thanks. Just some quick clarifications. On the OpEx, you mentioned that it should go into the $180 millions due to these programs that will impact the second half. What happens when those programs are done? Do we see OpEx fall back into the $170 millions post these R&D and other types of programs that didn't happen in the first half?

You're really talking about 2013 now, Nikos, and what we said about future OpEx is as follows. We have taken OpEx down to roughly the $180 million a quarter range. And yes, we were lower in the first half of this year; we're liable to be a little higher in the second half of that year. But $180 million per quarter is in the range of where we are going to be, plus or minus, this year.

Now, as we move into 2013, frankly we are just beginning to think about our plan for 2013; but I do believe there is lots of leverage in our model. There are some elements of OpEx that will have to scale as we grow our top line. I think the sales cost is going to have to scale to some extent with our revenue.

But all of our other costs I think we can control. That doesn't mean they are going to be flat, at all, because I think over time you have to increase OpEx in some areas as your volume grows. But I do think there is a lot of opportunity for leverage in the model.

Okay. Then just one last one on the gross margin. Looking out several quarters into the future, when you start getting a higher line card mix -- maybe not quite as high as when you closed the Nortel deal, but closer to that -- and the WaveLogic 3 chipset is embedded, do you see the Transport margins getting close to where they were when you first reported post the Nortel deal? Or was that -- were those levels just abnormally high because the margin mix was -- I'm sorry, the line card mix was just very, very high?

Nikos, I think one of the challenges we've got as we look to 2013 and certainly beyond is this word convergence is actually finally beginning to happen, and we are delivering that into the marketplace. One of the challenges when we talk about Transport is we are going to be able to put switching capability clearly onto that with an integrated control plane, sell different software applications onto it. So as a platform-specific matter, I would expect that 6500 margins would improve.

I would not particularly put that under the heading of Transport, given the other feature sets that we are going to be putting on it. But I think the combination -- so try and answer your question that way, I think the things that help are clearly the mix, although we will be continuing to win new deals and roll out, where we will have the benefit of cards. We have a lot of software capabilities that we will be rolling out next year onto that platform. Cost reductions as well should also help.

So I think the combination of all of those I think help us get to our target model range of mid-40s over time.

Thank you, Nikos.

Scott Thompson, FBR Capital.

Hi, guys. I will give you my word I won't ask any questions about backlog or SEA-ME-WE 4; but I did want to get a couple of clarifications in here.

First of all, there were two 10% customers. Or both of those regulars, or was there a new one in the mix?

Then secondarily, can we go back and talk a little bit more about these architecture changes at some of the carriers, and the move into Metro area? Is there going to be a lot of work around that? Is this a structural shift in the industry?

Scott, I think your question -- they were both existing customers, the 10%-ers in the quarter. Tom, do you want to talk to the architectural?

Yes, in terms of the architectural changes, there are a couple of things I think that are worth thinking about there. One of them is the different types of traffic that is typically occurring on the networks; and the other one is how people are connecting to networks and where that traffic is flowing.

So on the first one, you are seeing a lot more dynamic types of traffic. And on the second one -- a lot more dynamic types of traffic and also a lot more capacity being required at any given time.

On the second one you are seeing a deal where a good bit of the traffic that is inside the network is actually connecting data centers together, rather than necessarily connecting users to data centers. So it is not necessarily visible in terms of traffic to the end-users.

Basically what those things are really requiring in terms of an ultimate change in the network is the ability to first scale capacity at a cost rate that is lower than the rate at which capacity grows. And the second one is being able to dynamically adapt to that capacity.

So when you hear us talk about programmability and the ability to automatically control various functions in the network, it is really in response to those fundamental shifts in traffic patterns.

So over time I think what you will see is the network architectures begin to shift to a more programmable architecture that is really focused on being able to deliver capacity on-demand across a wide variety of different types of services.

Okay. Let me try to break that one down for a minute. You gained good market share this quarter. In a market where a lot of people were down quite a bit, you guys held your ground.

Do you expect that to continue? And why is that? Maybe that is a better way to get at this.

I think we've talked about it in terms of the fact that we do expect to gain share moving forward, and we expect to grow faster than the market. I think that the two key issues we see as big differentiators for ourselves are this idea of control plane that allows us to automate functions across the network and this programmability that allows us to be able to deploy a network element that can be used for a variety of different purposes.

So if you look at our Switching platforms, for example, as Gary mentioned, they come in a variety of different sizes and can easily be expanded to handle more capacity. They can also start out as SONET/SDH, migrate to OTN, and then also include packet functionality as time moves on. So that level of flexibility we think is another key differentiator for us.

Okay.

Thanks, Scott.

Sanjiv Wadhwani, Stifel Nicolaus.

Thanks. So, just one clarification and one question. Jim, on the SEA-ME-WE 4 contract, where is that showing up on the balance sheet? I just wanted to get some clarification on that, and then I had a quick question on Switching.

We have collected some of the money, even though we haven't recognized any revenue. So there is some in deferred revs. We also have deferred cost of goods sold. So it's both places.

Got it. Okay. So there is nothing in finished goods inventory, anything else that nature; right?

No, I don't think so. If there is any, it is a small amount.

Okay. Then just on the Switching piece, if you exclude the SEA-ME-WE 4, fact that you might be able to recognize revenues in July or October, and if you exclude that piece, are you still expecting Switching revenues to be better in the second half versus the first half?

Our internal numbers would show it, so yes.

Got it. That's helpful. Thanks.

Jess Lubert, Wells Fargo Securities.

Hi, guys. Thanks for taking my question. I wanted to follow up on the question regarding the outlook for a sequential decline in sales even though it sounds like orders remain strong and backlog continues to grow. So assuming you hit the midpoint of guidance, would it be right to assume we should see fairly strong sequential growth in Q4?

Then I was hoping you could talk a little bit more about how you are feeling regarding the general tone of activity and visibility with some of your international customers, and to what degree your expectations surrounding a better second half are driven by an uptick in international. Or is that really more dependent on improvement with domestic accounts?

Why don't I take the second one first and Jim will talk to the guidance issue. I think what we are seeing is, you know, clearly, Europe is a little bit challenging, though I would reiterate that we are not exposed as many others are to Southern Europe and we are seeing steady business out of Northern Europe. But I think the areas for growth for us are markets like Brazil, Russia, the Middle East, India.

So I think we are seeing a good preponderance of international builds. A lot of them are greenfield builds as well, so they are this next-generation architecture. They are sort of 100-gig, 5400-type buildouts. And I think that is helping offset any particular challenges in Europe.

So I think the architecture around the business is to get more balance to it, and I think over the course of the last two years I think we have been able to achieve that. 25% of our business actually comes from outside of pure carrier infrastructure.

We have also started in places like enterprise, research and education, government, etc., and those have been strong markets for us. I think we continue to see growth both in North America and internationally for those segments.

Submarine is a new segment to us, and I think we are very pleased with the momentum that we are seeing in the submarine space as well, which is clearly predominantly international.

The North American market for us has been strong. I think our architectural wins in some of the major Tier 1s, although we haven't accrued a lot of the revenues of that, they are big architectural wins that over the course of the next one to three years puts us in a very strong position in North America as well.

Thank you, Jess.

Jim, do you want to talk about the --?

On the question of Q3 and Q4, as you know I am not going to get into -- I can't really get into guidance for Q4. But let me tell you first of all, we feel good about the progress of the year to date.

Our outlook from our sales force for orders for the second half is good as we sit here today. Historically, we have had the strongest orders quarter in our fourth quarter, and a strong order quarter in Q2; and Q1 and Q3 are somewhat weaker. But as we look at into Q3 today we feel good about the outlook for orders in Q3.

So that is about as much as I can say. But we feel good about our prospects.

Jess, the other thing I would say again is we overachieved Q3 revenue guidance in Q2. So clearly with the guidance range that we have given, is also very -- the midpoint of that range is about where consensus is right now. So we do see momentum going forward to be able to achieve that.

Thanks. Operator, we will take one more question.

Michael Genovese, MKM Partners.

Thank you very much. Thanks for fitting me in.

My clarification here is just on the book-to-bill. I don't think you mentioned book-to-bill. Looks to me like it was probably a little bit below 1 in the quarter. Just wanted to get a check on that.

And then my question is on the CESD product margins. If you can just comment where they are now compared to maybe where they were one or two years ago, are they consistent? Are they consistent with your expectations? Or have there been any changes in CESD gross margins?

Yes, Mike, we did say that we grew our backlog in the quarter so that would say that our book-to-bill was greater than 1.

On the CESD margin, we are in transition into those platforms. We've got a number of new platforms into market as well, and we are increasing the aggregation capability within Carrier-Ethernet over the next few quarters as well.

But I think on a point-to-point basis, the margin is probably down given the fact that we are introducing these new platforms into market.

Okay, so just on the book-to-bill, back on that, I guess my assumption was based on -- you did say there was some revenue recognition from orders in previous quarters in the revenue number this quarter. But I guess you are saying with the growth in the backlog that the product book-to-bill was -- basically sounds like new orders were greater than the product revenues in the quarter is what you are saying, Jim.

We didn't refer to either products or services; we just mentioned that the overall backlog is up. That is what we said.

Okay, great. Thank you.

Thanks, Mike, and thank you, again everyone, for joining us today. Look forward to seeing many of you again in New York on June 11 for Analyst Day. Have a good day, everybody.

Ladies and gentlemen, this does conclude today's conference. You may all disconnect and have a wonderful day.