EMCORE Corp (EMKR) 2016 Q3 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the EMCORE Corporation's fiscal third-quarter 2016 earnings call. At this time, all participants are in a listen-only mode. Later we will conduct a question and answer session, and instructions will follow at that time. (Operator Instructions) As a reminder, this conference is being recorded.

I would now like to introduce your host for today's conference, Erica Mannion of Sapphire Investor Relations for EMCORE. Ma'am, you may begin.

Thank you and good afternoon, everyone. Before we begin, I would like to remind you that the information provided herein may include forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Exchange Act of 1934. These forward-looking statements are largely based on our current expectations and projections about future events and trends affecting our business. Such forward-looking statements include in particular projections about future results, statements about plans, strategies, business prospects, changes, and trends in our business and the markets in which we operate. Management cautions that these forward-looking statements relate to future events or our future financial performance and are subject to business, economic, and other recent risks and uncertainties, both known and unknown, that may cause actual results, levels of activity, performance, or achievements of the business or our industry to be materially different from those expressed or implied by any forward-looking statements. We caution you not to rely on these statements and to also consider the risks and uncertainties associated with these statements and the business that are included in the Company's filings with the SEC and that are available on the SEC's website located at www.sec.gov, including the sections entitled Risk Factors in the Company's annual report on Form 10-K and quarterly reports on Form 10-Q. The Company assumes no obligation to update forward-looking statements to conform such statements to actual results or to change -- or to changes in our expectations, except as required by applicable law or regulation.

With me today from EMCORE are Jeff Rittichier, President and CEO, and Jikun Kim, Chief Financial Officer. Jikun will review the financial results, and Jeff will discuss business highlights and fiscal third-quarter guidance before we open up the call to questions.

Now I will turn the call over to Jikun.

Thank you, Erica, and good afternoon, everyone. This being my first earnings call with EMCORE, I would like to introduce myself. I am very excited to be part of a Company at this critical juncture as we build upon the foundation formed over the past two years. I look forward to working closely with EMCORE's Board of Directors and management team to refine and execute our mixed-signal optics strategy to drive long-term shareholder value.

Now on to the summary of our Q3 FY 2016 ending June 30, 2016, financial results. Please note that consistent with prior quarters, these results include the effects of classifying what remains of EMCORE's telecom and photovoltaic business as discontinued operations. EMCORE performed well in the quarter, revenues came in within the guidance range, and strong operational performance drove quarter-over-quarter gross profit margin improvements, overcoming strong headwinds.

Consolidated revenue for the quarter totaled $22.4 million, which is 4% higher than the prior quarters and at the lower half of our Q3 FY 2016 revenue guidance of $22 million to $24 million. Cable TV, which includes our R5 product line, drove the quarter-over-quarter revenue growth, which was offset by a decline in our GPON chips. This quarter's performance was also impacted by a delay in the shipment of a satcom order into the fourth quarter. Fiber optic gyro performance was on plan during the quarter. Gross profits in Q2 were approximately $7.4 million or 6% higher than the prior quarter.

Gross profit percentage increased by 50 basis points quarter over quarter, driven by the improved efficiencies.

Six Sigma initiatives continue to be a contributing factor in driving operational improvements. Unfortunately, these operational efficiencies were negatively impacted by lower chip pricing and lower material overhead absorption in the quarter, partially related to the long-term inventory purchases.

Total operating expense for R&D and SG&A were $5.9 million, approximately $1.5 million lower than the prior quarter. The decline in SG&A was driven by the $2.6 million reimbursement of legal expenses related to the Sumitomo arbitration agreement, but offset by higher severance, other legal, and equity compensation expenses in the quarter. R&D investments declined approximately $0.2 million quarter over quarter, due to normal variations in project expenses.

On a GAAP basis, the consolidated pretax income for the third quarter was $1.4 million or $1.7 million better than the prior quarter. Our GAAP net income was $1.3 million in Q3 or $2.7 million lower than the prior quarter. This decline was primarily driven by the Sumitomo arbitration settlement that we recognized as part of discontinued operations in the prior quarter. Our non-GAAP pretax income for continuing operations, after excluding certain adjustments, all of which are set forth in the non-GAAP tables included in today's press release, was $0.6 million, relatively flat compared to the prior quarter.

Please note that we have included additional information regarding unique transactions, legal-related expenditures, severance, stock compensation, amortization and other items in today's press release to provide further clarity on our results.

Moving on to the balance sheet and cash flow statement, at the end of Q3 FY 2016, the Company's cash and cash equivalents was approximately $105 million or a decline of $5.3 million quarter over quarter. The decrease in cash from prior quarter was primarily driven by increased inventory, as well as accounts receivable, offset by higher accounts payable balances.

Please note that EMCORE funded the special dividend payment of approximately $39 million on July 29, 2016. The stock went [ex] dividend on August 1, 2016.

Regarding our working capital metrics, DSOs were at 88 days, higher than our typical range of 65 to 70 days, driven by a backend loaded quarter. Net inventories turns including non-current inventory was at 2.4 times as we increased purchases of certain components, primarily related to lifetime buys of raw materials, which increased inventory levels.

Overall, our financial results improved relative to the prior quarter. EMCORE continues to perform with higher efficiency and improved factor absorption driven by utilization of cost savings from Six Sigma initiatives. Our continuing operations are profitable on both GAAP and non-GAAP basis. For the first month of Q4, operations continues to perform well.

With that, I will turn the call over to Jeff.

Thanks, Jikun, and good afternoon, everyone. Before walking through our third-quarter results in greater detail, I would like to take a moment to discuss the outcome of our strategic review and the decision to issue $1.50 per share special dividend.

When I first joined EMCORE, there were several direct actions what needed to be taken to improve the health of the business and right-size it after the divestitures of both the solar and telecom business. As a result of these actions, we were able to grow revenues by 47% and improve gross margins by 13 points within the first fiscal year, positioning the Company for profitable growth. Building on this progress in June 2015, we elected to return $45 million to shareholders by way of a Dutch tender and also began executing a strategic realignment of the manufacturing operations to improve our efficiency and reduce our breakeven point.

With the core operations of the business on improved footing and a roadmap for our operations team in place, in December of 2015, the board and management reinitiated their comprehensive strategic review with a focus on striking the right balance between returning capital to shareholders and investing in growth opportunities to generate long-term shareholder value.

As part of the strategic review process, the Company evaluated its growth opportunities in existing and adjacent markets, analyzed its products, technologies, and production capabilities, and concluded that the best way to grow the business and drive long-term sustained value creation was to leverage EMCORE's core competency in mix signal optics in both existing and new markets.

Mixed signal devices had both analog and digital elements on single or even multiple chips, offering the opportunity for unique products outside the communication markets. The value of these solutions is often far greater than those found in communication products, providing EMCORE with an opportunity to leverage its unique expertise.

Given EMCORE's existing leadership in mixed signal optic products such as the DOCSIS 3.1 transmission devices in the cable television market, an emerging position in new products such as fiber optic gyros and 5G distributed antenna system components for wireless applications, it became clear that EMCORE has the potential to create leadership positions beyond our traditional communications focus by leveraging these mixed-signal competencies, including our design expertise and captive wafer fabrication facility.

Our mixed-signal strategy opens up market adjacencies that will also share common technical and production assets with our current products. Hence, these represent our lowest risk, highest return opportunities for profitable growth.

Our first proof point to the merits of this strategy is the early success we have had in the fiber optic gyro market. As our gyro products share the same technologies, chip designs, and production assets with our transmission products, we are able to leverage our high-volume infrastructure and improved performance while driving down costs in a traditionally lower volume, higher value-added product area. As a result, our fiber optic gyro products have significant size, weight, and power advantages versus competing solutions in the market today, and are offered at lower prices.

While we are seeing a high degree of customer interest in the market for our fiber optic gyro within the $1.3 billion fiber gyro or IMU market, it is important to note that this is merely one application within the broader $3.4 billion fiber optic sensor market. Sensors, by their nature, collect nondigital real-world information and process that information into the digital domain where higher levels of control and analysis are done. As a result, the combination of analog and digital functionality inherent in mixed-signal technologies is crucial for the performance of many products, while the ability to lower production costs will drive a greater proliferation of individual applications. We believe EMCORE's core competencies in engineering, wafer fabrication, and lead assembly will provide us with opportunities to replicate the success we have seen in the gyro market, enabling us to grow our business profitably.

With that said, we are still early in our evaluation and development of these opportunities, and while we are excited to explore the potential of each, we are also pragmatic in our approach as we do not want to lose focus on the core business. As of today, we are concentrating on the capital investments required for the exploitation of these opportunities, and to be clear, we have not yet identified any M&A targets at this time. However, given the new market opportunities that have the potential to accelerate both top-line and earnings growth and generate substantial long-term shareholder value, we have decided to maintain a degree of flexibility in our capital structure for just such investment opportunities as they arise.

With approximately $85 million of cash returned to shareholders since June of 2015, representing approximately 50% of the cash received from operations sold in the prior fiscal year, our board believes we have struck the right balance between capital returns to our shareholders and flexibility that the business needs to grow its income. Having settled on the strategic direction I just discussed, we've conducted extensive analyses of the Company's liquidity needs, an analysis of the cycles affecting profitability and cash flow, the Company's best return opportunities on internal capital spending, and, finally, a view of the size and type of acquisition that the Company might consider at some point in the future. We found all these analyses overlaid well with a strong convergence at about $1.50 per share of capital return.

While these balance sheet transactions are now complete, we are now focused on our plan for building long-term shareholder value through the profitable growth of our core business, as well as entrance into adjacent market opportunities, which will enable us to generate additional leverage from our intellectual property and our technical and production assets.

Moving on to our third-quarter results, as Jikun highlighted earlier, despite headwinds in the GPON market, we did a good job this quarter not only on top-line growth and product mix, but through improved efficiencies in our manufacturing operations. We managed our operating expenses well and began the process of reducing our operations headcount as planned.

Within our cable television business, in the third quarter, we saw a return to strong revenue growth, both sequentially and year over year. This strength in demand clearly demonstrates that the MSOs are making their plans shift to DOCSIS 3.1 fiber deep deployments. Given our leadership position in the market and the significant investments we've made in CATV chip technology over the past few years, EMCORE is enabling the shift to DOCSIS 3.1.

Over the next year, as we roll out new products based on the LEML and its derivatives, we expect those products will set the standard for both DOCSIS 3.1 and RF over glass deployments in downstream and the transceiver portion to the network. Evidence of this can already be seen with our recently announced $4.7 million purchase orders to supply RFoG optical networking units to a major US supplier and network infrastructure for the cable TV market, and these are expected to be shipped over the next quarter or two.

Within our chip business, revenues decreased by approximately $1.8 million sequentially, due to softness in the GPON market, resulting from a slowdown in purchasing from carriers within China and a resulting inventory buildup in the supply chain. This appears to have been caused by a delay in the release of a large tender for ONUs. The delay magnified the expected slowdown and was partially offset by growth in our non-GPON business.

As we have mentioned previously, despite the continued volatility in the GPON market, it remains incrementally beneficial to EMCORE as it allows us to spread fixed manufacturing costs over a much larger number of devices, while laying the foundation for next-generation devices. One can think of our GPON business as really just our initial offering in the merchant chip market as EMCORE intends to become a broad supplier of chip-based products to the entire telecom industry, thereby optimizing our product mix between captive and merchant use and driving a blended margin for both our chip business and the Company overall.

Moving on to satcom, as Jikun mentioned, we did see the timing of one large system shipment push from the third quarter to the fourth quarter, creating an incremental headwind to our top-line results. EMCORE continues to enjoy strong market share and close relationships with customers in this market. While quarterly revenue can be lumpy sometimes due to the timing and size of individual products, the market as a whole tends to be steady as opposed to network upgrade cycle driven as with the cable television market.

Within our gyro business, in the third quarter, we made further progress in building our presence in the market and winning designs against large competitors in the defense industry. We are increasingly encouraged with commitments we have received from the world leaders in defense systems. In addition to the $2.5 million order we discussed last quarter, which is scheduled to ship by the end of our fiscal 2016, in July we were ordered -- we were awarded a second contract for $3 million, which will begin shipping in fiscal 2017 with the potential for additional shipments totaling $15 million over a five-year period. If we continue to meet our commitments to these demanding customers, we will expect to continue to build design win momentum and significantly grow the revenue from these unique, long lifecycle and high gross margin products in the years ahead.

Shifting gears now to the operations side of the business, first of all, I would like to provide a little color on the quarter's gross margin. As Jikun stated, we expensed a large amount of material overhead in the quarter from a last time buy that we previously described. This component in question is used in several applications, including our RFoG transmitters where we have had excellent success in the market. The net effect of expensing all this material overhead is the gross margin was reduced last quarter, but will shift into the quarter in which the units ship with correspondingly higher margins.

We also wrote down the value of chip inventories to match our expectations for future price declines. Absent these adjustments, our gross profit would have been over $1 million higher.

Moving to the general side of operations now, I would like to talk a little bit more about the specifics of our Six Sigma program. Over the past year, we have made significant progress for laying the foundation for a best-in-class engineering and manufacturing company. We have now completed the transfer of all of our turnkey product transfers to external EMS from our Langfang, China operation and are in the process of starting to install automated processes at EA, which is our new Beijing facility.

One example of this is our new automated transmitter tuning process, which has taken operator touch time from 45 minutes per unit down to less than five minutes, improving both variable costs and return on assets. Our new super cell manufacturing technology for laser modules enables us to quickly adjust capacity upward to take advantage of new opportunities in the market.

In total, the fiscal year 2015 Green Belt program identified $2.5 million in cost savings that we expect to realize in fiscal 2016. We are expecting the fiscal 2016 Green Belt program to create even more benefits for us in FY 2017.

Six Sigma is really helping to build a new culture here at EMCORE, one that is nimble enough to quickly exploit opportunities where the Company can create sustained and differentiated value, as well as to mobilize resources across function to meet large customer requirements. Although we are working hard to reduce our capital requirements, you should expect to see some inventory buildup over the next few quarters. The largest example of this was the multimillion dollar inventory purchase for a sole-sourced component that is being discontinued by the manufacturer. We did evaluate the business case behind developing our own version of this device in the Alhambra fab and concluded that we would not have met our internal hurdle rates for ROI or opportunity costs.

Therefore, we decided that doing a lifetime buy for this part was less expensive and less risky than any of the other branches in the decision tree.

In our last call, I stated that we had been incurring some double costs on the personal side during the transition of certain manufacturing processes, which will improve as we exit the calendar year. We believe that those costs peaked in Q3, and we have already started to reduce some of the operational headcount as per the plan. Three quarters into the transformation of our manufacturing operations, we are beginning to realize improvements in our operating leverage, cycle times, yields and product costs. Once our manufacturing initiatives are complete, we expect to see some additional upside in the model over time.

Jikun and I will be updating our long-term model as we prepare for our annual operating plan presentation for our board in mid-September, and we will plan on updating all of you when we announce our full-year results in December. Given my formal commentary and the continued strength that we are seeing in cable television and the fiber optic gyro market, for the fourth fiscal quarter of 2016 -- fiscal 2016 ending September 30, we expect revenue to be in the range of $23 million to $25 million with gross margin in the mid-30s%.

Now I will turn the call over to the operator to open up for questions. Operator?

(Operator Instructions) Jason Schmidt, Lake Street Capital.

Wondering if you could first talk about how bookings have tracked for kind of these first five weeks of the quarter and what type of backlog coverage you have to your guidance?

Hey, Jason. This is Jeff. Bookings have been excellent. We have had linear shipments thus far in the quarter, and I would say we are in excellent shape in terms of booking coverage for the quarter. So we will not be backend loaded this quarter.

Okay. That's helpful. And, looking at the gross margin line, I know you said it will be kind of the mid-30s% for this quarter. Would we expect continued improvement going forward? Is there room for margins to expand even higher?

I think the short answer to that is yes, it might be possible. Part of it is going to depend on product mix. Some of it is going to depend on timing. And so what Jikun and I have to do is take a look at the exact timetable for the shutdown of Leo and the transfer on EA, and at the point at which we have got clarity on that, which will be the next call, we are going to update you guys with some additional thoughts on margin and our operating expense.

Okay. And then, the last one for me, and I will jump back into queue, it looks like you guys probably have, let's call it, around $70 million in cash post the distribution. Wondering how you are thinking about how much cash you need to operate the business?

Sure. So, basically, you are approximately right. I think it is a little lower than that, but, yes, we are contemplating $25 million to $30 million to operate the business. And the extra funds would be, per Jeff's comments, about our strategy and flexibility to support the strategy for growth.

Okay. That's helpful.

Hey, Jason, I want to leave you with one thought on that. It is not all about M&A. There's opportunities to invest in the business as it sits here that would require some CapEx or possibly some seed capital to do some other interesting things.

So walking away thinking EMCORE has one lever and it is the M&A lever, I don't think that provides the right color on this.

Okay. That's helpful. Thank you.

David Kang, B. Riley.

First of all, can I get a couple of numbers? Can I get depreciation and also CapEx?

Sure. CapEx was approximately $1.8 million, and depreciation in the quarter was $615,000.

Got it. And then, since, Jeff, you talked about investment and perhaps that includes -- or may include CapEx, how should we expect CapEx to trend for the next few quarters?

I think, as we take a look at the next few quarters and into 2017, I think we are going to come out on the heavy side. And that is just given some of the things that -- needs the business both in terms of the wafer fab and some other pieces of equipment that we are going to need to exploit opportunities we have already got in front of us. Hence, my point to Jason about don't think of it as just M&A. It is not.

Okay. And then, just a few more items on the OpEx side. So, does that mean that R&D -- I guess, if I strip out some items, it looks like it was $2.3 million last quarter. Where does that R&D go if it is internal investments?

And, also, if I can just finish on the OpEx question. And SG&A looks like it is stripping out some items, so it looks like you went up by about $500,000 from $4.1 million last quarter to $4.6 million this quarter. Can you just go over that $500,000 increase, and I thought SG&A will be flat to down because of that -- I thought you were trying to streamline your operations further.

Yes. So I will comment on the R&D, and then I will address the SG&A questions. R&D, it is going to be -- there is some noise there -- $200,000 plus or minus on a given quarter, but we should expect it to be pretty steady until the end of the year.

Now, we haven't discussed FY 2017 plans with you, so we will introduce those numbers on their next call.

On the SG&A front, so the net number of 5.9% here is roughly net of that $2.6 million Sumitomo reimbursement for legal expenses. What we also did incur during the quarter were several items. One was, we did see a roughly $670,000 severance charge in the quarter related to the former CFO, as well as some other employees here in the Alhambra area, as well as we also incurred some additional legal expenses unrelated to the Sumitomo, as well as we also did have some higher equity comp expenses related to the former CFO.

Got it. And then, can you guys break out revenue by the -- in the old days, you guys broke it out by cable TV versus the laser chip business. Can I get those numbers?

Yes. So, roughly, in the quarter, our cable TV revenues was about 75% to 80% of revenues, and our chip business was 5% to 10%. So our cable TV business is performing very well.

(multiple speakers) Because of GPON and satcom, we just have a couple of orders that pushed out in Q4. One big one.

So now you're separating separately from the laser chip business? That is what it sounds like.

I'm sorry. I didn't quite understand that question.

Because, before, it was just cable TV and laser chip, but now you have three categories. So it sounds like you are separating out satcom from the laser chip business. No?

Yes. (multiple speakers).

Yes, because before laser was running about 20%. Now it is only 10%. So it sounds like the satcom is the other 10%. Hey, we can talk about it off-line.

Yes, sure. I think we pretty much always sort of broken out the four major areas separately. And if we confused you in any way, we will square that away when we talk.

Yes. And then, can you just talk about the -- what is going on in the GPON market? It sounds like you are saying tender has been delayed, but then I have heard others saying that it is really the 2.5 gig to 10 gig transition that is causing some choppiness here. So can you just go over that? And then, do you have plans to compete in the 10G market, especially with Oclaro announcing that they are going to get into the GPON market as well, and it may come as always strong there. So just pinnacle where your strategy there is in the GPON market.

Sure. I would say that -- and we are pretty close to the situation over there. It was literally a six-week delay in the release of a tender for nearly $30 million ONUs that caused some amount of buildup in the channel. And what you tend to see is there is also a little bit of a slowdown because people are expecting things, and when they don't show up, you have got a bit of an emotional reaction in the market.

As far as the 10G transition from 2.5G, we are already shipping what I would call low production quantities of those parts. But I would caution anyone thinking that there is going to be some sort of a magic transition to 10G on that point, I don't think that is going to happen quickly. I can't imagine that the Chinese carriers are going to go in and tear out any of the 2.5G stuff that they have got in favor of 10. I think it gradually will feather into the overall GPON demand. And if Greg Daugherty is getting into GPON, well, more power to him. Welcome to the club, Greg. (multiple speakers).

Sure. On that 30 million ONUs, so I assume, based on your comments, it sounds like that is all 2.5 gig related, correct?

Yes, it is.

Okay.

Again, the Chinese are a very, very thrifty bunch, and you take a look at even the small things we are looking after, for example, small change in the laser chip to enable a $0.20 cheaper (inaudible) lens to be used in the package, it is not like the application could automatically afford a 2X, 3X sort of price increase. I think that 10G will be good for a while, and then prices are going to become extremely competitive again. Just like 2.5.

Got it. And my last question -- of course, I have got to talk about the cable TV segment.

Yes.

Can you just talk about -- things are strong now, but how long can it last, and what is driving this current demand? Is it DOCSIS 3.1, or is that more of a yet to come story?

Oh, no, no, no. DOCSIS 3.1 is virtually everything we are shipping -- I say virtually everything. I mean, there is places in Europe and some parts going into South America which are open end or other sorts of technologies. But, the thing that is driving it is really increased competition that the MSOs are seeing, whether it is Google Fiber or threats from Verizon and fixed wireless or what DIRECTV and our friends at AT&T are doing. I think the MSOs believe that they fundamentally have to build a traffic agnostic network because over the top stuff is here to stay. And if you take a look at subscriber movement, which the big thing that we keep looking at, as far as who is winning the battle and who isn't, on balance, cable TV seems to be doing pretty darn well.

So for all the discussion about cut the cord, which really just is about one aspect of cable, which is reselling content, right, the results would suggest that cable is adding subscribers, even if it is just for high-speed Internet.

Comcast had a recent announcement where, in, I think, two of their major markets now, they are offering gigabit ethernet service. And, theoretically, at least, in their architecture, they could offer 2 gigabit ethernet.

So what you have got here is a pretty big push by Comcast. It also affects RFoG. Comcast is a leader in that area as well, and there is starting to become a fair bit of activity with charter and Time Warner as that acquisition gets assimilated.

Because, remember, the Time Warner network is primarily O-band, and the Charter network is see C-band. So, with Charter essentially in the driver's seat on that, a lot of people are expecting to see the Time Warner network migrate more towards C band and look more over time like Comcast, if you will.

Got it.

Does that make sense, Dave?

Yes, very helpful. Thank you.

(Operator Instructions) Tim Savageaux, Northland Capital Markets.

I wanted to ask a few questions mostly focused on the top line, and you had broken out some of the percentages of revenue coming from the cable TV side. I think that previously kind of was in the low to mid 60s%, so are we talking about 25%, 30% sequential growth on the cable TV side? And where do you expect that to head, even at the high end of your guidance range, if you assume some bounce back in satcom and maybe a little ramp in gyroscopes? Models are pretty significant reduction in that rate of growth. So I wondered if you could sort of talk about whether that sequential growth range is accurate and what your expectations there are going forward?

Yes, you are correct. The cable TV did see a substantial sequential quarter over quarter growth to the tune of about 30%.

Now, we did provide guidance for the fourth quarter, $23 million to $25 million. That contemplates, obviously, a lot of moving pieces.

Jeff, did you want to provide any highlights on that?

Yes. So where we see cable TV going and how that affects the rest of the numbers, right now, we are just seeing real strong demand across the board, especially on the downstream side of cable, and we are expecting that business to keep growing, both on an absolute basis and maybe even percentagewise compared to some of the other businesses, but they are -- our product lines -- but they are growing, too.

You sort of strip -- let me give you a couple of ideas again. If GPON would have come in where we indicated we were expecting it to, we still would have been right at our target for the percentage of non-GPON business.

So non-GPON is continuing to grow -- grown nicely. There's more things that are being added every day. It may take a little longer to shake out, but fundamentally that piece of it is moving forward.

Same thing could be said for gyros and satcom. So it is not that the other three are not growing; it is just that cable TV right now is really -- hate to use the term on fire, but we are really being pushed by the equipment guys to deliver very large numbers of devices. And that is a good thing.

And I also wouldn't -- for us, RFoG is part of cable television and, as we have already announced, there was a significant order that was shipped in Q3 for RFoG, and there will be more in Q4.

Got it. Well, just to completely beat that horse to death, if I could continue on that, well, first off, I will say I have been expecting modeling some degree of disengagement from the GPON chip market, just based on price and margin pressure in general outside of any demand reduction.

So that being said, again, if you -- one assumes some sort of ramp on the gyroscope side, as well as kind of a bounce back in satcom, well, is it fair to assume -- and I know you made some comments earlier in the call and I think I missed them -- about the timing of these gyroscope orders, one being in fiscal 2017, so next quarter, but, something more near-term? Did you comment on that, whether you had another near-term order in the gyroscope side?

Yes. So there were two big orders, same program, and one we will finish up at the end of fiscal 2016 -- at the end of the current quarter. And then one is for beginning of production in 2017. There are other new programs that we are pursuing that we hope to bring in in the not-too-distant future, and those obviously would be accretive.

We also indicated in the press release on the gyro orders that the ultimate five-year production contract for those very high grade navigation FOGs, that is going to come up here in the next few months as well, and that would give us a nice lift in certainty on demand. I mean, where in networking do you see sort of five years of clarity on production orders. But, in the defense world, that happens sometimes.

So all-in-all, the FOG story is a good one. It is just that you have to have patience with it, but the uptake is good, the feedback is good. For our major customers, we are delivering 100% on time, so we like that business, and we like where we are headed with it.

And just one quick follow-up there and I will finish up the top-line focus, and that is, would you expect the FOG business, the gyroscope business, that is, to approach 10% of revenue next quarter?

Next quarter, I don't think so. Sometime in 2017, maybe toward the end, yes.

Okay, Barry. Great. And then, one quick follow-up on the gross margin side. If I heard you right in your -- had $1 million headwind in the gross margin, I think that would put you in the high 30s%, right, close to 38%. And I wonder if you could sort of discuss that relative to your mid-30s% gross margin guide and eventual potential targets moving up into the high 30s%?

Sure. So, as far as the guide goes, one of the things that we always -- we have a pretty good picture of what should ship in the quarter with customers all the time. They move things around on us as far as pull-ins and pushouts. And so it is hard to say with certainty that you are going to hit a specific number because the mix can change on you in the quarter, especially in the businesses that we are in. So we are trying to be reasonable about our gross margin guidance here, but the reality is, there is a fair bit of positive sign on our manufacturing efficiencies.

As far as on a go forward basis, again, what we really have got to do is get the timing down and the actual amounts of headcount reduction before we comment on, call it, the change to the long-term model. But, clearly, it is our objective to try to drive margins higher than they are right now, and we live in a competitive world. You just heard, we have got Greg Daugherty, I guess, who is going to join us in the GPON world with everybody else. And so crystal balls necessarily have to be foggy to a degree, even though it is easy to sort of look at the good things are going on. There are always runs scored by the other team. Right?

Got it. Okay. Thanks very much. I will pass it on.

I am showing no further questions at this time. I would like to turn the call back over to Jeff Rittichier for closing remarks.

Thank you very much. In closing, I would like to thank my entire team for all the hard work they have put in every day, and I believe I speak for Jikun and everyone on the board when I say how proud we are of the business we have built and the opportunity that lies ahead of us. I just want to finally thank all of you for your time, and I look forward to speaking with you again on our next earnings call. Thank you.

Ladies and gentlemen, thank you for participating in today's conference. This does conclude the program, and you may all disconnect. Everyone, have a great day.