Fabrinet (FN) 2017 Q3 法說會逐字稿

Good day, ladies and gentlemen. Welcome to Fabrinet's Financial Results Conference Call for the Third Quarter of Fiscal 2017. (Operator Instructions) As a reminder, today's conference is being recorded.

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

Thank you, operator, and good afternoon, everyone. Thank you for joining us on today's conference call to discuss Fabrinet's financial and operating results for the third quarter of fiscal 2017 ended March 31, 2017. With me on the call today are Tom Mitchell, Chief Executive Officer and Chairman of the Board of Fabrinet; and TS Ng, Fabrinet's Chief Financial Officer.

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

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 a 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 February 7, 2017.

We will begin the call with remarks from Tom and TS, followed by time for questions. I would now like to turn the call over to Fabrinet's CEO and Chairman, Tom Mitchell. Tom?

Thank you, Garo, and good afternoon, everyone. We delivered a strong third quarter with revenue that was above our guidance range. Revenue increased 46% from a year ago. New business contributed significantly to this growth by expanding over 100% from a year ago. We expect our business momentum to continue.

I will now turn the call over to TS for more details on the third quarter and our outlook. TS?

Thank you, Tom, and good afternoon, everyone. I would like to provide you with more details on our performance by end market and our financial results. Total revenue in the third quarter was $366.8 million, an increase of 46% from a year's ago and above the high end of our guidance range.

Non-GAAP net income was $0.80 per share, which was below our guidance range. Non-GAAP net income was negatively impacted by strengthening of the Thai baht late in the quarter. As a result, we recorded a foreign exchange loss of $3.7 million or $0.10 per share. Excluding this foreign exchange impact, non-GAAP EPS would have been $0.90 per share or $0.01 above our guidance range. Our business momentum remain the results of growth in the existing customer programs further supported by new business. Revenue from new business that we started tracking in quarter 1 of fiscal 2014 represented 37% of revenue in the third quarter compared to 25% a year ago and grew over 100% year-over-year.

Looking at our revenue in more detail. Optical communications revenue of $286.9 million increased 49% from a year ago and represented 78% of our total revenue, consistent with Q2. Non-optical communication revenue represented 22% of total revenue or $80 million, an increase of 36% from a year ago with exception U.K. contributing to this growth. Within optical, the revenue stream was 60% from telecom applications and 40% on datacom applications. Datacom growth of 56% surpassed growth of telecom at 45%, although both application demonstrated significant growth.

By technology, 100-gig solutions continue to dominate and represented 40% of total revenue and 51% of optical revenue, or approximately $148 million, an increase of 62% from a year ago. Revenue from 10-gig has stabilized, while revenue from 40-gig solutions continues to decline. In the third quarter, we also saw growth from early 400-gig programs, though this programs are still very early in their life cycle. Consistent with recent trends, we continue to see strong demand for silicon photonic modules. In the third quarter, silicon photonics revenue grew 139% from a year ago to over $92 million or 25% of total revenue and 32% of optical revenue.

Now looking at our non-optical communication in more detail. Laser revenue increased 26% from a year ago to $35.2 million. Automotive revenue was stable at $20.2 million and sensors and other revenue increased over 100% to $34.6 million. A large portion of this increase was due to the addition of Exception. Our new product introduction facility in Santa Clara, Fabrinet West, continues to grow. While we do not plan to break out revenue details from Fabrinet West, revenue was well over $10 million in the third quarter, and we expect our momentum there to continue. As a result of this scale at Fabrinet West, gross margin from this facility are now moving towards becoming accretive to our overall gross margins.

Turning to our new facility in Chonburi, Thailand. We saw a small revenue contribution in the third quarter as expected. With 4 customers now manufacturing or planning to go into production in Chonburi, we expect it to contribute increasingly to revenue as we look forward.

Now turning to the details of our P&L. A reconciliation on GAAP to non-GAAP measures is included in our press release. Non-GAAP gross margin in the third quarter was 12.5% compared to 12.6% a year ago and 12.7% in Q2. This small decline was primarily due to strengthening of Thai baht in the quarter, which I mentioned earlier, since most of our valuable labor costs are in Thai baht.

Non-GAAP operating income in the third quarter was $35.5 million, resulting in an operating margin of 9.7%. Non-GAAP operating margin improved 100 basis points from a year ago, primarily due to leverage in operating expenses and growing revenue. Taxes in the quarter were a net expense of $1.8 million and our normalized effective tax rate was 6.5%, which was within our expected range of 6% to 7%.

Non-GAAP net income was $30.5 million in the third quarter or $0.80 per diluted share compared to $20.9 million or $0.56 per diluted share in Q3 of fiscal year 2016. On a GAAP basis, net income for the third quarter was $21.7 million or $0.57 per diluted share compared to $20.8 million or $0.56 per diluted share in the third quarter of fiscal year 2016. As I mentioned earlier, we experienced a $3.7 million negative impact from a stronger Thai baht on our GAAP and non-GAAP bottom line results for the third quarter.

Moving on to the balance sheet and cash flow statement. We ended the third quarter with a cash and investments balance of approximately $292.4 million compared to $259.3 million at the end of second quarter. Cash balances at the end of third quarter included the impacts of $40.6 million in operating cash flow and $11.9 million in proceeds of a revolving loan, offset by $12.8 million in CapEx for machine and equipment, $4.9 million for long-term loan repayment and $1.6 million for acquisitions of intangible assets. Year-to-date, capital expenditure was $57.2 million. And for fiscal year 2017, we continue to expect CapEx to be in the range of $60 million to $70 million with approximately $30 million to $40 million of that in maintenance CapEx and the remainder going to the final constructions and equivalents for our new facility in Chonburi, Thailand.

I would now like to discuss guidance for fourth quarter. We expect the strong momentum we are experiencing to continue. We anticipate revenue in the fourth quarter to be between $361 million and $365 million. While this revenue is fairly flat on a sequential basis due to what we expect to be a short-term pause in order pattern at some customers, it represents growth of 30% to 32% from a year ago. We anticipate non-GAAP net income per share in the fourth quarter to be in the range of $0.82 to $0.84, and GAAP net income per share of $0.65 to $0.67, based on approximately 38.2 million fully diluted share outstanding.

In summary, we remain optimistic about our future. We are benefiting from our strategy to serve a diverse array of customers and to attract new client wins and programs. We believe our continued execution of this strategy will support profitable growth in the years ahead.

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

(Operator Instructions) Our first question is from Patrick Newton with Stifel.

I guess just, first of all, on the guidance you spoke to some softness in order patterns from some of your customers. Clearly, I think on the Chinese side, it's a little bit more than -- a little bit of softness, so your guidance is actually quite impressive given some of the headwinds your customers are seeing. But can you remind us what percentage of your revenue you believe directly is tied to China? And then, I think, what's really aiding you guys is your silicon photonics' strength, and you've had this 100%-plus growth year-over-year now for 4 consecutive quarters. And how much, I guess, gas in the tank do you have to continue to drive that silicon photonics growth in future quarters, especially as the comps increasingly get difficult?

Okay. Patrick, this is TS. Thanks for the question. As we previously discussed, our shipment to Chinese are not straightforward. Sometimes we ship to China, and we backup outside China. And again, some of the customers ship to Chinese vendor or customer, and some of these are the end market. But I believe, based on the analysis I have, it's probably less than 10% of our revenue is Chinese related. Is that helpful?

Yes. That's very helpful. And then on the ability for silicon photonics to keep growing at such a strong clip given your comps are getting increasingly difficult?

Again, we shall see. Because last quarter, at Q3, it's all about silicon photonics. If you look at datacom, it's pretty strong. Obviously, some of the datacoms from China had dilute the number. But overall, we see a very strong growth in the datacom sector, and mostly because of the silicon photonics. So moving forward, I do hope that we'll continue to grow that segment.

And then while we're focusing on kind of key growth drivers, can you remind us what your QSFP28 business revenue level is currently? And how we should think about the growth potential from that product line over the next several quarters?

Okay. So previously we talk about, about 4% to 5% of our revenue from QSFP28, that was fiscal quarter 2. Now fiscal quarter 3, the number I have is -- we almost doubled that amount. So we are looking at maybe close to $30 million now on the QSFB20 in F Q3. Is that helpful?

Yes. And then is that still -- I'm assuming that a lot of your customers are talking about a sold-out condition expected for the remainder of calendar year. Is that growth expectation similar to what you're seeing?

Pretty much. Because we are the mercy of customer. If they grow, obviously, we grow. So if they don't grow, then we don't grow. So whatever you heard probably apply to us, too.

Great. And then just last one for me is if we go back to the 2011 time frame and the last time we saw a pretty precipitous drop in demand for the industry, the industry saw peaking trends in the March quarter of 2011 and Fabrinet saw peaking trends a quarter later, in the June quarter. Is there any concern that you guys may have a lag effect to some of the trends that are impacting your customers in this current slowdown?

Tom, do you want to answer that?

I don't -- this is Tom. For sure, we don't -- we're not looking at that or being faced with it. And our demand continues to be very strong going forward.

Yes. Today, it's slightly different, though. We have a lot of new customers signed with us in the last couple of quarters, couple of years. And those guys are all ramping very nicely. We also have the hyper scale data center operator, propelled the growth. So I wouldn't equate that to the 2011. Obviously, 2011, shortly after, we went into the flat. So you had to pinpoint the driver there, too. But I think, today, circumstances, I believe, pretty much different from 2011.

Yes. I wasn't exactly speaking to the same demand trends, I just meant more the lag effect, but it sounds like you're not seeing that either.

Our next question is from Troy Jensen of Piper.

So to follow up on Patrick's question, specifically on the QSFP28, is a bulk of that business just 2 customers?

A couple customer, we don't normally break down, yes.

But it would -- it's safe to say it's kind of concentrated amongst a couple, correct?

More than 1, less than 10, how about that?

So helpful. I have the same type of question for silicon photonics. Has there really been 2 customers driving the strength there or you seeing traction in 3, 4 and 5 category?

Can you repeat the question one more time, sorry about that?

Just yes, same type of question for silicon photonics. I mean, my assumption it's really just been 2 customers driving that business. So just kind of help me out and if you're seeing broader based strength than just those 2?

Yes. So silicon photonics, we have some Chinese exposure, right. Some of the customer ship to China, and obviously they affect last quarter. But again, we have other customer who are not exposed to China market and they, too, they are growing. So net-net, we see strong growth even though with a drag on Chinese market. So again silicon Photonics, we add -- we continue to add customer. And today, again, we are in the mid of -- and I will say, again, 1 to 10, but maybe at the midpoint right now.

Okay. All right, understood. And how about one for Tom. Just would love to know kind of the status of CEO search and just kind of update us on your role at the company right now.

Well, I don't think it's really different than it was the last time we chatted. The board, I think, and myself are continuing to do our responsibility for succession planning, not only at the CEO level but at other levels. And it's just business as normal.

Okay. Just a sense of timing, though, Tom, are we still several quarters out from an announcement or...

I don't think there's anything foreseeable, I think, we can say in the future.

Alex, it sounds like you're on, actually.

Well, glad to have been queued in, that I'm supposed to ask a question. So the first one I wanted to ask is when I'm looking at the model here and running through it, it kind of looks like you might be assuming some currency hit from the Thai baht again in the current quarter. Given the move late in the quarter, I assume that it persisted somewhat into the current quarter. Is that accurate?

I think that's accurate. In fact, last quarter, we got a $0.10 hit. And this coming quarter, I assume recover somewhat from the $0.10 loss.

Yes. But it still looks like $1 million, $1.5 million kind of hit in the numbers, yes?

That's correct, Alex.

Okay. So that's assuming a current -- the baht stays flat at current levels in your -- the rest of your forecast, just adjusting for what's already happened. Is that correct?

Yes. If the baht stay flat, yes, I will continue to see the $0.10 hit. And I assume that, in fact, last couple of days, the baht count weakened a little bit now, so I factor in some recovery from there.

Okay. I see. Okay. Going back to the gross margin line, I assume that the guidance is fairly flat on the gross margin sequentially into the June quarter, is that what you're thinking here?

Except the currency impact, essentially, yes, it's in those level. If you look at last quarter, we did 12.5%, this quarter 12.7%, 20 basis points, rounding maybe less than 20 basis points, $400k, $500k. There are so many moving parts. May change a little bit, maybe of bit pricing, a bit of foreign exchange. So yes, I will say we continue to hover around 12.5%. 12.5% is a good guidance there.

I see. And then wanted to go back to the product mix and particularly what I would say non-coherent datacom-type products. While everybody's focused on QSFP28 ramp, the other side of that is the assumption of a rollover in CFP and CFP 2 format. Can you give us some sense of what exposure you have to that legacy piece? And then in the same context, is it the same equipment that's using one that's just being converted from A to B here? Or is it in fact different lines as you see those 2 products rolling off and being replaced by QSFP28?

Yes. So Alex, as you probably know, at CM, we are very customer specific, right. So we don't share the line. Again, some customers, you heard they're ramping down the CFP, migrate to CFP2. And we're just doing the exact same for those customers. And the customer do not have CFP exposure, their line is already in the CFP2. So it's hard for me to generalize that, whether the same line can be used because we are very customer specific in terms of activity within the factory.

Okay. How about relative to the aggregate of those lines? Is CFP 100-gig kind of the legacy datacom client side, pluggable? And the CFP2, which have been cited as areas that are in fairly steep decline here into the June quarter, do you have meaningful exposure to those 2 areas that might offset the growth that we're seeing in the other datacom products?

I think what you heard from the customer apply to us. In other words, CFP2 we continue to ramp and some of our customers already have capacity on that. We see some customers ramping down their CFP program. So in general, yes, I think it applies to us, too.

How about another way of cutting at this. If we look at the datacom versus telecom piece and other, can you give us some sense of what the mix of growth and regression is within those 3 areas in the guidance?

Okay. In the guidance, basically, I have telecom is going to pick up in the fourth quarter. So datacom is pretty flat because somewhat the Chinese exposure has start biting us. As you know, Chinese exposure impact us in the later part of the quarter, last quarter. And then in this coming quarter, June quarter, we see more severe impact here. So datacom will be affected most severe than the telecom. Again, telecom we have some customer have no Chinese exposure and they are ramping very nicely. So that kind of offset overall downturn from the Chinese exposure.

So if your guidance is flat to down, what's the down part? I mean, your guidance for the June quarter is $366.8 million and your is guidance flat to down, telecom up and datacom flat, what's declining?

No. The 2 doesn't -- when I say the datacom's down, it could be down more than the telecom is up.

Okay. I thought you said the datacom was going to be flat. So datacom could be down a little bit?

It's down. Datacom is down. If I say flat, sorry about that, it's down, actually. And telecoms pick up because of non-Chinese exposure.

Our next question is from Tim Savageaux with Northland Capital Markets.

Kind of up picking up on that discussion a little bit. We have seen a fair bit of strength across the kind of industrial end market in optics really through this reporting season. And you seem to have seen a little bit of a pickup in your own kind of non-communications-driven business, though possibly mostly acquisition related. I wonder if you can talk about trends in that business. And to what extent you're expecting a pickup in sequential growth in industrial in your fiscal Q4? It sounds like you're anticipating some of that, and I'll follow-up from there.

Okay. There are 2 aspects of it. As you know, we are doing laser, okay. I don't know whether you classify that as industrial. And one of my customers was saying that there are -- seems like that laser is turning around, the fiber -- especially the fiber laser. So if that come true, it benefit us, all right. That's number one. And number two, from the acquisition. I mean, the baseline is so small. The reason we buy that U.K. company, essentially, is tap on their customer base. So by itself it's a -- in the scheme of things, they're pretty small. So I will say most of the pickup, if you compare year-over-year, is because we pick up from nothing we pick up something for this quarter if we compare year-over-year. But I think industry side, maybe the automotive is pretty flat. Laser is an area where we are quite excited about and just what our customer mentioned about industry laser.

Great. And if I could follow up back on silicon photonics. You actually seem to see an acceleration in sequential growth there in the quarter up into the 20s from 10%. In the previous quarter, and looks like your various -- as you mentioned, several customers in various buckets, can we assume that was kind of silicon photonics headed inside the cloud data center that you're really seeing the growth in now? Or can you be any more granular as to what's driving or what might have driven that kind of reacceleration and growth in silicon photonics?

Yes. It's actually in the cloud center outside China. And that's where the growth is. We added a customer a few quarters ago and now they are having a very meaningful ramp right now. So that essentially contribute most of the growth.

Our next question is from Fahad Najam of Cowen.

A couple of questions on, one, is your silicon photonics all datacom?

Not necessarily. It's split between datacom and telecom.

All right. And of your 400G comment, can you provide some commentary on how big 400G was? And is that all telecom or is there some datacom in there, too?

Right now, very small. In fact, it's not even on my radar screen. I would say the mixture of -- I think we're more telecom. Again, I don't have the data in front of me. My instinct tell me that it's mostly telecom. Again, as I say, amount is so small. We just mentioned that it's beginning to launch by my customer.

Got it. And can you remind us, the margins on silicon photonic, is my assumption correct that it's slower than corporate average?

Not really. Again, I only mention that we are cost plus. And the margins depends on our efficiencies. In terms of pricing, it's kind of standard cost plus something. Now if I can control my cost or I don't screw up in my quotation, then I have higher margin. So essentially, the cost plus model, unlike my customer where time-to-market, they are leveraging. Their customer would be similar margin. For me, it's cost plus something. So across all the products, we have pretty much similar pricing model.

All right. And one last question. Do you have any visibility in terms of coherent modules like DCO modules versus ACO? And can you provide any qualitative commentary on any trends that you're seeing there?

I think our customer, a couple of them, we're helping them to do ramp ACO, and a couple of them, we help them to do DCO. Again, it's very customer specific. In fact, that you asked my customer for the respective area. So for me, it's very to generalize. But suffice to say that I do ACO -- both ACO and DCO in a CFP2 form factor for a couple of customers. So we're helping them to ramp. Again, it's very customer specific. Hard for me to generalize it.

But in general, is the trend picking up for this marginal business? Any qualitative commentary on the uptake in both ACO and DCOs?

Yes. I think both sectors are ramping. A lot depend on the adoption by Chinese customer. So for example, one customer I have, they are ramping DCO faster than ACO. So you have to generalize, but I would say -- suffice to say that both sectors are ramping.

Our next question is from Paul Coster of JPMorgan.

This is Paul Chung on for Coster. Can you remind us again on both the timing and magnitude of new Thai campus-related revenues? Do you expect some contribution in F 4Q? And then how should we think about the shape of contribution in fiscal year '18? And then lastly, should we expect the total to come down to around $30 million to $40 million for the year, for fiscal year '18.

Okay. All right, Paul. The first question we mentioned that we have 4 customers start producing from Chonburi. And for the March quarter, we booked some revenue. However small, but we booked some revenue. And going to June quarter, the revenue will continue to uptick, pick up and so on. So yes, we booked some revenue in last quarter. And anticipating June, we have more revenue than last quarter. In terms of CapEx, yes, this year we spent close to $70 million, cash on CapEx, half of which are building, land related. Moving forward, we're not going to buy no land anymore. We have enough land for the next 10 years. And commission, the second building in Chonburi will probably another year or so. I don't think next year we'll commission the building, maybe the following year. So I think the CapEx will be probably back to $30 million to $40 million level. I call it maintenance CapEx.

Okay, great. And then can you give us a sense of 10% customers during the quarter? Just trying to...

Yes. We normally don't discuss that until year-end, June quarter. So but again, no significant change from the previous quarter or previous year. Last year, we have one, we report one. The other one, pseudo 10%. They are 10%, but we don't report them as a 10% because we -- they account delegate -- their account receivable risk to the other's yen. But de facto, they are 10%. So we had 2 10% customer last year, Lumentum and Cisco. So currently, the profile is about the same.

At this time, I see no other questions in queue. I'll turn back to Mr. Mitchell for closing remarks.

We want to thank you for joining us today, and we look forward to speaking with you on our next call. Thank you, guys.

Thank you.

Ladies and gentlemen, this concludes your program for today. You may now disconnect. Everyone, have a great day.