Fabrinet (FN) 2016 Q4 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Fabrinet's Fourth-Quarter and FY16 financial results conference call.

(Operator Instructions)

As a reminder, today's call is being recorded.

I would now like to turn the call over to your host, Garo Toomajanian, Investor Relations. You may proceed.

Thank you, Nicole and good afternoon, everyone.

Thank you for joining us on today's conference call to discuss Fabrinet's financial and operating results for the Fourth-Quarter and FY16, which ended June 24, 2016. With me on the call today are Tom Mitchell, Chief Executive Officer and Chairman of the Board of the Directors of Fabrinet, and TS Ng, Fabrinet's Chief Financial Officer.

This call is being webcast, and a replay will be available on the investor section of our website located at investor.fabrinet.com. These refer to our website for important information, including our earnings press release, including our GAAP to non-GAAP reconciliation.

I would like to remind you that today's discussion will contain forward-looking statements about the future financial performance of the Company. Forward-looking statements are subject to risks and uncertainties that could cause actual results to differ materially from management's current expectations. These statements reflect our opinions only as of the date of this presentation, and we undertake no obligation to revise them in light of new information or future events except as required by law.

For description of the risk factors that may affect our results, please refer to our recent SEC filings, in particular the section captioned risk factors in our Form 10-Q filed on May 3, 2016. We will begin the call with remarks from Tom and TS, followed by time for questions.

I would now like to turn the call to Fabrinet's CEO and Chairman, Tom Mitchell. Tom?

Thank you, Garo, and good afternoon, everyone.

Our performance in the fourth quarter capped a year of strong growth for Fabrinet. Fourth-quarter revenue again exceeded our expectations, largely due to greater than expected demand from new customer programs. The positive trends in industry gained momentum in the fourth quarter. We saw increasing revenue from nearly every customer. With a substantial part of our growth coming from our silicon photonics program, we are clearly benefiting from prior investments in advanced packaging.

We believe we are in a growth cycle for the optical market, and we expect these positive trends to continue to drive our growth in FY17. We are pleased with the construction progress of our first building at our second campus in Thailand, which we expect to be completed next month. This gives us confidence that we will be able to continue meeting the increased demand for the industry.

Now I'll turn the call over to TS for details on the quarter and full year.

Thank you, Tom, and good afternoon, everyone.

I would like to provide you with more details on our performance by end market in our financial results. Total revenue in the fourth quarter was $276.4 million, an increase of nearly 34% from a years ago, and above the high-end of our guidance range. Excluding $4.6 million in consignment revenue in the fourth quarters of FY15, revenue grew 37%. Non-GAAP earning was $0.60 per share within our guidance range, and were negatively impacted by foreign exchange headwind which reduced EPS by approximately $0.04.

Our strong performance this quarter was primarily driven by positive trends in optical communications, and strong demand for both telecom and datacom components and modules. Revenue from new business, a program that we started manufacturing in the past two year, represented 27% of total revenue in Q4, and continues sequential gains. Optical communications represented 77% of our total revenue during the fourth quarter, consistent with the third quarter. Optical revenue increased 44% from the years ago to $212 million, while non-optical revenue increased almost 10% to $64.4 million.

Within optical, the revenue split was 58% from telecom applications and 42% from datacom applications for the fourth quarter, as year-over-year telecom growth reached 36% in Q4. At the same time, datacom momentum continues to be very strong, with datacom revenue increasing 56% from Q4 of FY15. Growth in our optical communications business continued to be driven by 100 gig solutions and other advanced components and modules, including QSFP28 transceivers and silicon photonics modules.

In Q4, 53% of optical revenue and 76% of transceiver revenue were for 100 gig modules and components. Another significant contribution to our growth has been silicon photonics. Revenue for silicon photonics assemblies more than doubled from a years ago, and represented 90% of total revenue in the quarter.

Turning to our non-optical communication business, at $64.4 million, revenue from lasers, sensors and other markets represented 23% of total revenue during the fourth quarter, consistent with third quarter. We saw year-over-year growth in each of the lasers, automotive and other revenue categories.

Laser which make up 50% of non-optical revenue grew 18% from a years ago, reaching double-digits for the first time in a year. Non-automotive sensor revenue was stable at 7% of non-optical revenue. And automotive revenue make up 43% of non-optical revenue, and increased 4% from a years ago.

Our new product facility, Fabrinet West continues to see growing demand. With revenue in the fourth-quarter that is quickly approaching our targets approximately $10 million in the December quarter, we remain confident in reaching this milestone. During the fourth quarter, we've order and began to install a third manufacturing line, which will be ready to go into production next month.

We are making excellent progress with the first building at our campus in Chonburi province in Thailand. The roof is already up, and we remain on track to complete the building by the end of the September. As Tom mentioned, we continue to expect first customer shipments in FY17, and ramp after that. In the meantime, in order to meet the growing demand for space, especially from existing customer, we have been successful in converting non-manufacturing space in Thailand within our existing facility at Pinehurst into new manufacturing space.

As such, while we're at about 95% capacity from a space perspective, we are comfortable that we can convert additional non-manufacturing space to manufacturing space if necessary, until our new building in Chonburi campus is ready for occupancy. This is especially important for customers who wish to keep their operations consolidated at one site. From an equipment perspective, our utilization remain lower at about 80%.

Now turning to the details of our P&L, the reconciliation on GAAP to non-GAAP measures is included in our press release. Non-GAAP gross margin in the fourth quarter was 12.7%, an increase of 60 basis points from a years ago, and up 10 basis points from last quarter, primarily due to our strong revenue performance, and volume leverage on fixed overhead.

Please note that non-GAAP gross margin excludes the impact of approximately $1 million in costs resulting from a nonrecurring warranty charge, or approximately 35 basis points of non-GAAP gross margin. The warranty charge relates to a shipment from over two years ago for a program that has since ended. Our relations with the customer remain healthy, and we continued to do significant business with them.

For the first quarter, we expect non-GAAP gross margin to decrease slightly from Q4, primarily due to the impact of annual merit increments, as well as by the effect of non-linear revenue during our 14-week quarter. Non-GAAP operating income in the fourth quarter was $25.1 million, and operating margins of 9.1%. Non-GAAP operating income excludes share-based compensation expenses of $2.1 million and the $1 million warranty claim expense that I mentioned.

Non-GAAP operating margin improved 180 basis points from a years ago, primarily due to a higher gross margin, and leverage to operating expenses with growing revenue. Both the fourth quarter of FY15 and 2016 include start-up costs associated with our Fabrinet West facility in Santa Clara, California.

Non-GAAP net income for the quarter included the impact of $1.3 million realized foreign exchange loss due to the strengthening of Thai baht towards end of the quarter. Approximately $1.7 million of the remaining unrealized loss will be reversed as contracted baht is delivered. Taxes in the quarter were a net expense of $1.8 million, and our normalized effective tax rate was 7.6%, which is above our expected range of 6% to 7%. Due to the strengthening of the US dollar against the renminbi, our subsidy in China booked an additional tax to cover tax liability on unrealized exchange gain on US dollar-denominated deposits.

For FY16, our normalized effective tax rate was 6.7%, and was within our expected range of 6% to 7%. We continued to anticipate that our effective tax rate will remain in the 6% to 7% range for the first quarters of FY17. Non-GAAP net income was $22.4 million in the fourth quarter, or $0.60 per diluted share, compared to $14.5 million or $0.40 per diluted share in Q4 of FY16 As I mentioned earlier, foreign currency fluctuation reduced non-GAAP EPS by $0.04, including the $0.01 impacts of additional tax on unrealized foreign exchange gain at our Chinese subsidiary.

On a GAAP basis, which includes share-based compensation expenses and amortization of debt issuing costs, net income for the fourth quarter was $19.7 million, or $0.53 per diluted share, compared to $13 million or $0.36 per diluted share in the fourth quarters of FY15. Looking at our performance on the full year basis, we generated revenues of $976.7 million for all of FY16, up 26% from FY15. Excluding $16.3 million in consignment revenue booked in FY15, revenue grew 29% in FY16.

Optical revenue increased 32% from a years ago to $727.5 million, or 74% of total revenue, while non-optical revenue increased 12% to $249.3 million or [26]% of total. Within optical, the revenue split was 56% on telecom applications, and 44% on datacom applications. Non-GAAP gross margin for the year was 12.5% and non-GAAP operating margin was 8.4%, both of which expanded from FY15 primarily due to leverage on fixed overheard as revenue grew. Non-GAAP net income for the year increased by 38% to $77.7 million, or $2.11 per diluted share even with a full years of ramp up costs associated with Fabrinet West.

Moving on to the balance sheet and cash flow statement, we ended the quarter with a cash and investment balance of approximately $284.5 million. This represents an increase of nearly $12 million from the end of the third quarter, primarily due to positive operating cash flow, and increased drawing from bank loan in anticipation of paying construction liability due in the first quarter one.

CapEx was $7.1 million in the fourth quarter, and $40.4 million for the full year. For FY17, we expect CapEx to be in the range of $60 million to $70 million, with approximately $30 million to $35 million of that in maintenance CapEx, and the remainder going toward the construction of our manufacturing facility in Chonburi, Thailand.

I would now like to discuss guidance for the first quarter. We expect the strong business momentum we generated in the fourth quarter to continue into the first quarter. We expect revenue in the first-quarter to be between $306 million and $310 million, representing growth of 41% to 43% from a years ago. This strong growth includes the impact of an additional week of business in the first quarter.

If quarter one was a normal 13-week quarter, we believe our guidance would be reduced by approximately $22 million. Our midpoints are approximately $286 million, representing more typical sequential growth. We anticipate non-GAAP net income per share in the first quarter to be in the range of $0.70 to $0.72, and GAAP net income per share of $0.63 to $0.65 based on approximately 37.6 million fully diluted share outstanding.

In summary, we delivered a strong performance in the fourth quarter, capping a strong fiscal year performance, and are anticipating continued momentum in the first quarters of FY17. We are benefiting from robust industrial trends, as well as from investments we are making in the business that are enabling us to attract additional programs from both new and existing customers. With new facility coming on about two quarters from now, we are optimistic that we can continue to meet our growing demand into 2017 and beyond.

Operator, we would now like to open the call for questions.

(Operator Instructions)

Patrick Newton, Stifel.

Yes, good afternoon, Tom and TS. I guess, first as a clarification, I'm sorry if I missed this, but you mentioned the new Thai facility will be completed next month, but what month should we expect for shipment?

Patrick, this is TS. Yes, previously we said we would complete by September, which is on schedule. And then, we said that December is the quarter where we configurate the equipment, and the first shipment will be sometime in the March quarter.

Okay. And any guidance on, towards the front end of the quarter or the back end, especially just given the capacity constraints that seem to be coming up?

Not at this moment. We are still trying to actually arrange internally. It looks like (inaudible) will be the first product. We will ship from there.

Okay. Great. And then, you did talk about having enough capacity to meet this very strong demand environment, especially given that you're transferring some non-manufacturing square footage to manufacturing square footage. Can you remind us the level of revenue the current footprint can handle?

Okay. So currently in the current campus, we call Pinehurst campus, we had approximately 1 million square foot, of which you can assume that maybe half is for manufacturing. The other half are warehouse, support, labs and so on.

So with the footprint, currently we are doing about $1.1 million or so -- $1.2 million. If you look at $300 million run rate multiplied by four, it's about $1.2 million.

And we are essentially at capacity right now, 95% capacity. The rest of the 5% space are pretty much earmarked for the existing customer. So if you just today, [$1.2 million to $1.1 million] is the current capacity we have in the current campus.

Okay. That's helpful.

And then, I guess, shifting to the NPI facility, you talked about being on track to achieve that $10 million quarterly run rate in the December quarter. Can you help us think about how we should think about the ramp beyond the December quarter? Is it kind of stepping up as we've seen, or at some point should we see a step function upward?

A lot depends on the customer. Previously we mentioned that we engage more than 20 customers or potential customer, and a lot depends on how fast we can qualify their product, and the ramp to the mass production level. Again, so, at this moment, we only guide up to December quarter, we'll get up to the $10 million level.

Okay. And then just last one, just given the unique circumstances associated with this NPI facility, TS, can you maybe walk us through how much of the current OpEx of $10.1 million in the most recent quarters associated with the NPI facility, and how that should trail through the P&L, or I guess move up into the COGS line over the next several quarters?

Okay. About one or two quarters ago, or maybe even three quarters ago, I essentially said we had $2.5 million operating expense or start-up costs buried in the operating expense. Again, I say, of the $2.5 million, $0.5 million legitimate belong to below the lines, because these are sales and marketing, and some are the SG&A. So I was expecting that $2 million, if I can hit my breakeven, that $2 million should go up there, in other words, the cost of goods sold. And we are marching toward that goal.

In our -- at the December quarter, we are going to hit $10 million, plus or minus $1 million. Hopefully that majority of the $2 million can be recuperate into the cost of goods sold.

Great. Thank you for taking my questions. Good luck.

Thank you, Patrick.

Troy Jensen, Piper.

Hey, congratulations on a great quarter and great year, gentlemen.

Thank you.

Thanks, Troy.

Hey, so, guys, I guess I'd be curious, what percentage of the new capacity you're adding here -- is there any claimed by customers?

Tom, do you want to answer that?

The new capacity is today not claimed. It is being taken from non-production areas such as warehousing, and we have a lot of that in our facility, and we're converting warehousing to -- outsourcing a bit of our warehousing -- (multiple speakers)

Hey, Tom, just to stop you there, I guess, the new building that you're adding, when that turns on, how much -- what percentage of that square footage is already accounted for?

About 10%.

Only 10%. Okay. And for TS, when this new facility does light up, do you expect to have any type of a gross margin downtick, just because you're not that full capacity?

Yes, a good question. When accounting principles say, when a building is ready for use, you have to start depreciation, doesn't matter whether you use it or not. Okay, so if you're ready for use, which is like maybe December quarter, I have to start depreciation. And depreciation plus a minimum utility to keep the place open, this is our fixed costs. We will see, estimated about 15 to 20 basis points dilution to the gross margin.

All right. Perfect.

So it's not a big number; it's 15 to 20 basis points. And as for the [precision] product, we will hopefully have a gross -- positive gross margin to cover all the costs, both fixed and variable.

Yes, understood. And then, the last question for you, TS, given it's the 10-K here, I was just wondering if you could tell us who your 10% customers were for the year and how big they were?

Okay, so the 10-K going out next few days. And as you probably know, we have one 10% customer, which is Lumentum; we've been having them for the last couple of years. 20% of our revenue came from Lumentum -- is more than 10% customer -- and that's the only one.

We have other customers using multiple contract manufacturer. Our contractual obligation and the account receivable risk is with the contract manufacturer, not with the customer itself. So we cannot report that as the 10% customer.

Okay, understood. Good luck next fiscal year, guys.

Yes.

Alex Henderson, Needham.

Thanks. I was wondering if you could give us that silicon photonics number that you gave, again. I did not quite understand or hear correctly what you said?

Yes, it is 19%. It sounds like nine, zero. I wish it was 90. 19% of our revenue came from silicon photonics, about $52 million for the quarter.

And how many customers does that represent?

We don't disclose that. A few of them, as you probably can guess.

It's for a handful, right? I mean, we're talking about five or so customers, plus?

Yes. It's not like a few hundred; so a handful. Correct.

Can you split the datacom or the transceiver business between 100 gig and 10 gig, 40 gig? What was the rate of growth in 100 gig? And what was the decline or growth in 10 gig, 40 gig?

Okay, so if you just look at transceiver and modulator, okay? The one you can mention by speed, we say three-quarters of our transceiver shipment is all in 100 gig right now. In fact, more than three-quarters in 100 gig. The rest are 10 and 40 combined.

Right, but I didn't ask what the percentage was. I asked what the percentage change in the business was. I got the percentage on the prior dialogue. But what was the change in it?

Okay. I can tell you the 100 gig sequentially increased by 23%.

23% Q to Q, and I guess it's triple digits year over year, yes?

Yes. In fact, the 100 gig we shipped in quarter four is slightly -- about the same as our whole year last FY15.

Right. And the data, 10 gig, 40 gig?

I don't break down that one, but --

Just looking for the rate of change.

For the real change, I think 10 gig flat or up a little bit; 40 gig was down. So is that helpful?

40 gig down. Yes, that is helpful. Thank you very much.

Going back to the comments about the 10- to 20-basis-point hit when the facility comes on, so I assume that's in the December quarter that that kicks in. And as soon as you start ramping that 10 percentage points of committed volume, I would think that that would rebound. Would you expect to be able to get back to the current margins within three or four quarters?

Hard to say -- it depends on how fast we ramp. It's a 300,000 square foot -- no, a 500,000 square foot manufacturing building. Manufacturing is about 276,000 square foot.

So it's a huge area. Typically it takes about two years to fill up the whole factory. So a lot depends on how fast we can ramp, and new customer, or existing customer in the campus.

So how much of the capacity needs to be utilized to get your utilization rate back to a point where we can get back to the margins we're currently demonstrating? And does Fabrinet West also help that? (multiple speakers)

Absolutely. Another function is how far Fabrinet West can -- we can ramp them to their positive gross margin. So, Alex, if you look at the Chonburi, it's not -- I mean, I say 15 to 20 basis points, it's not -- it's a full point. I mean, so if Fabrinet West [is successful], I believe that we can cover that quickly.

I see. Okay. I'll cede the floor. Thank you.

Thank you, Alex.

Paul Coster, JPMorgan.

Yes. Thanks very much for taking the question. Well, first off, the silicon photonics business, obviously that's doing very well. You referenced, Tom, the prior investments that you've made. What are they, and how exactly is this benefiting your customers? Do you have something proprietary that you're bringing to the table with respect to these solutions?

Well, we're a manufacturer, and about seven years ago we put a substantial investment into advanced packaging. And that's certainly paid off for us absolutely, as silicon photonics has begun to be realized in the industry.

I think that the -- we continue to put into silicon [completes], we continue to put investments in the silicon tonics -- sorry, silicon photonics. But the -- and we have a great belief that a big part of our industry will be moving further into silicon photonics as we go forward.

Okay. Fabrinet West, you said you've got 20 customers engaged. So it must give you some clue as to where the industry is heading. What is the basic component of Fabrinet West? Is it [optical] communications side of your Business, or is it laser and other? And if it is optical, is it pointing yet towards 400G?

Today it's primarily datacom, telecom and [BB] as a matter of fact. BB is becoming a very important part of that company, the NPI Company.

Okay. Are we seeing 400G yet amongst any of your customers?

Very few. Only in the beta stage.

Okay. All right. Thanks.

Finally, on auto, and obviously there's a lot happening in the auto industry at the moment. You mentioned that it is growing, but obviously less so than other areas. Do you have any sense as to whether auto is gathering momentum?

In our case, it is gathering momentum; it's been growing at about 9% a year. And we focus a lot on LED applications for headlights and tail lights, and have been quite significant in supplying those engines, to supply that as headlights and tail lights.

Okay. Thank you very much.

Tim Savageaux, Northland Capital.

Good afternoon, and congratulations on another nice quarter. I wanted to ask a quick question. And that is -- I haven't heard you comment much on your ROADM business in terms of a source of strength, and yet you obviously continue to see very strong growth on the telecom side. Should we consider that maybe have taken a pause here this quarter, and seeing stronger growth on the transceiver front? Or I wonder if you have any comments there?

Tim, this is TS. I think you probably heard a lot about ROADM from one of our customers in their earning call. And again, we do most of the ROADM for them; they're basically two big player out there. The other customer, we don't really do their ROADM; we just do their printed circuit board.

So I mean, whatever the story you heard from the ROADM account, because we are the largest CM for them. So it all applies to us. Does that make sense?

It certainly does. And another more broad-based question -- you mentioned only one 10% customer for the year, but it sounds like if you aggregate a few CMs, there might be others. But in general, and also relative to Tom's comment about almost every customer being up in the quarter -- or I don't know if you could say the same about the outlook -- but obviously there's been some volatility among at least one of your major customers. I wonder if you could describe the puts and takes among your top customer group, and how you were able to maybe execute through some volatility, if indeed you saw any?

So as a CM, normally we don't go into customer territory. We don't -- I mean, we let the customer speak for their own story.

But what I can tell you here, Tim, is that we have our top 10 customer account for about 80% of our revenue. So if you look at the customer concentration, it has been mitigated, where pretty much I don't have one or two customers that account for, in the past, like more than half of my revenue. So the top 10 account for 80%, and they all are growing very nicely. So between 5% to 10% customer, I have a couple of them, they are all ramping.

Okay, and one final question and a brief one -- on the silicon photonics, you did specify 19%; I'm thinking that is relative to 15% last quarter. Or I don't know if you have just been giving a range recently of 15%, or if you can comment on that? And is that sort -- should we think of that coincidently with the ramp in new programs as well? I imagine those two are related.

Yes. Obviously, silicon photonic customer is a big part of the new business, right? So we see a 19% of our silicon photonics revenue -- our revenue comes from silicon photonics. Now, we have 27% new business, so some of them are not silicon photonics. Some of them are mostly [coherent] optics, and so we count that as a new business. So, 27% are new business, of which of the 19% of our revenue came from silicon photonics.

And then silicon photonics, years ago it was about 8%. So we more than doubled the percentage of the revenue.

And the new business, years ago, it's about 15%. We have almost doubled the new business year-on year basis. Is that helpful?

Yes, very much so. Thank you. I'll pass it on.

Thank you, Tim.

Dave Kang, B. Riley.

Thank you. Good afternoon. So you had one10% customer for the year, but what about during fiscal fourth quarter, were there multiple 10% customers?

Based on the same rule in our -- no, it is only one. Because when we look at AR risk, account receivable risk, because that's where the contractual risk -- obligation is, and the way that the product [billed] by any customer, we don't count that. We count based on the contractual risk. So there is only one in Q4.

Got it. And then regarding -- some of your customers talking about supply constraints, were you impacted by that supply constraint issue during the quarter? (multiple speakers) Any kind of bottleneck?

Obviously, we also depend on other suppliers to supply the raw material. We cannot make up something from nothing. We need (inaudible) to make it to the finished goods.

So you see, the same story applied to my customer, you apply to us, too. We depend on a couple of critical suppliers to give us the raw material. And if they don't deliver, or they cannot deliver, then obviously it impacts our revenue, too. And a lot of these suppliers are appointed by my customer, too; it's not 100% appointed by us.

Got it. I think you told me in the past that your model is like a company within a company. So if one of your major customers is having some issues, can you just walk over -- I mean, walk through the process how that production line gets maybe shifted to somebody else?

Tom, I don't think we can do that. Tom, do you want to add some color on that?

Yes, for the most part, that wouldn't really happen. Each customer in its own integrated factor -- factory -- and basically it's scaled to take care of the requirements that they have for that quarter, and basically that scale stays the same.

So let's say customer X is having some difficulties with their demand, then that production line basically becomes underutilized?

It wouldn't become underutilized, but we would reduce the amount of manpower that was put into that shift, and maybe redeploy it into other non-competing areas.

Right. That's what I was after. All right. Thank you.

Thank you. I'm showing no further questions at this time. I'd like to hand the call back to Mr. Tom Mitchell for any closing remarks.

I want to thank the investors for a great quarter. And you can see that in front of us we have the facilities, and we have the backlog, and we have the industry that will really support our aspirations for FY17. Thank you.

Ladies and gentlemen, thank you for participating in today's conference. That does conclude today's program. You may all disconnect. Have a great day, everyone.