Fabrinet (FN) 2017 Q4 法說會逐字稿

Good day, ladies and gentlemen. Welcome to Fabrinet's Fourth Quarter and Fiscal Year 2017 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.

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 fourth quarter and fiscal year 2017 which ended June 30, 2017. With me on the call today are Tom Mitchell, Chief Executive Officer and Chairman of the Board of Directors 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 our 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 result 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 May 9, 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. Our fourth quarter results again exceeded our guided ranges. Revenue increased 34% from a year ago and represented the 12th quarter in a row of year-over-year revenue growth. This strong performance contributed to our record revenue for the year of $1.4 billion. Fiscal 2017 was also important strategically. We significantly expanded our manufacturing capacity and increased our new product introduction capability outside optical communication market. We are well positioned to diversify our customer base, and we are optimistic that our recent successes will extend into fiscal year '18.

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

Thank you, Tom, and good afternoon, everyone. I will provide you with more details on our performance by end market and our financial results as well as our guidance for Q1 of fiscal year 2018. Total revenue in the fourth quarter of fiscal year 2017 was $370.5 million, an increase of 34% from a year ago and above the high end of our guidance range.

Non-GAAP earnings were $0.86 per share, also above our guidance range despite the impacts of a net foreign exchange loss of $0.03, resulting from continued strengthening of the Thai baht. Our business momentum in the quarter was driven primarily by new business that we started tracking in Q1 of fiscal year 2014 and was complemented by growth in revenue from existing programs.

Revenue from new business of $113 million increased 50% from a year ago and represented 31% of total revenue. While revenue from new business decreased from Q3, growth in revenue from existing customer programs more than make up for this difference.

Looking at the fourth quarter in more detail. Optical communications revenue was $290.9 million, an increase of 37% from a year ago and represented 79% of total revenue. Non-optical revenues was $79.5 million, an increase of 23% from a year ago and represented 21% of revenue.

Within optical communications, datacom grew faster than telecom as in the third quarter. Datacom was 39% of optical revenue at $114 million, up 48% from a year ago. Telecom was 61% of optical revenue at $177 million, up 31% from fiscal year 2016.

Growth in our optical communications business continues to be driven by 100-gig solution and other advanced components and modules, including QSFP28 transceivers and silicon photonics modules. In Q4, 100-gig solutions contributed $159 million to revenue of 55% of optical revenue and 43% of total revenue.

Within 100-gig, QSFP28 transceivers grew more than 50% from the third quarter and make up more than 10% of total revenue in the fourth quarter. We also saw continued samplings of 400-gig solution, which generated $18 million in revenue, more than doubling in one quarter and make up 6% of optical and 5% of total revenue. And silicon photonics revenue of $78 million increased 48% to make up 27% of optical communications revenue.

Looking at non-optical communications. Revenue from lasers grew 6% from a year ago and represented 9% of total revenue. Sensors revenue continue to be stable and grew 8% from a year ago. While automotive revenue was 10% less than a year ago, other revenue was up more than 200% to over $21 million, with a strong performance on Fabrinet West, where we saw more than 100% growth; an exception, U.K. providing meaningful contribution to this growth.

On a full year basis, total revenue was $1.42 billion, an increase of 45%, representing record revenue and our best fiscal year growth in 6 years. For the full year, optical communications make up 78% of revenue and grew 52% from a year ago, while non-optical communications make up the other 22% of revenue and increased 25%.

Looking at customer concentration. We have one customer that represented more than 10% of revenue in fiscal year 2017. As in fiscal year 2016, we have an end customer for whose accounts receivable risk is assumed by other CMs. On a combined basis, this end customer represented 11% of revenue.

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 fourth quarter was 12.4%, a decrease of 30 basis points from a year ago, down 10 basis points from last quarter due to strengthening of the Thai baht.

For the first quarter, we expect non-GAAP gross margin to decrease slightly from Q4, primarily due to the impacts of annual merit increments. Non-GAAP operating income in the fourth quarter was $34.8 million and operating margin was 9.4%. Non-GAAP operating income excludes share-based compensation expenses of $4.6 million. Non-GAAP operating margin improved 30 basis points from a year ago, primarily due to leverage to operating expenses with growing revenue.

Taxes in the quarter were a net expense of $1.1 million, and our normalized effective tax rate was 2.3%, which was below our expected range of 6% to 7% due to higher-than-expected tax benefit in Thailand after finalizing our year-end tax procedures. For fiscal year 2017, our normalized effective tax rate was 5.5% and was below our expected range of 6% to 7%. We anticipate that our effective tax rate will return to the 6% to 7% range for fiscal year 2018.

Non-GAAP net income was $32.8 million in the fourth quarter or $0.86 per diluted share compared to $22.4 million or $0.60 per diluted share in Q4 of fiscal year 2016. On a GAAP basis, which includes share-based compensation expenses and amortization of debt issuing costs, net income for the fourth quarter was $27.4 million or $0.72 per diluted share compared to $19.7 million or $0.53 per diluted share in the fourth quarter of fiscal year 2016.

As I mentioned earlier, we experienced a $1 million or $0.03 negative impact from a stronger Thai baht on our GAAP and non-GAAP bottom line results for the fourth quarter. The impact was offset by the higher-than-expected tax benefit in Q4. For all of FY '17, non-GAAP gross margin was 12.5% and non-GAAP operating margin was 9.6%, which expanded from fiscal year 2016, primarily due to leverage on fixed overheads as revenue grew. Non-GAAP net income for the year increased by 64% to $127.4 million or $3.37 per diluted share, a record level for the company.

Moving on to the balance sheet and cash flow statement. We ended the year with a cash and investments balance of approximately $288.6 million. This represents a decrease of approximately $4 million from the end of the third quarter as CapEx of $11 million and loan repayments of $3.4 million more than offset positive operating cash flows of $10.5 million.

For all of FY 2017, CapEx was $68.3 million compared to $40.6 million in FY 2016, primarily due to constructions of our new 500,000-square-foot building at our Chonburi campus. In fiscal year 2018, we expect CapEx to return to the levels of FY '16 or approximately $40 million.

Before discussing our guidance for the first quarter, I wanted to note that in conjunction with our earnings release today, we also announced a share repurchase program. Fabrinet's board has authorized the repurchase of up to 30 million of our ordinary share over the next 2 years, depending on market condition and other factors. This authorization reflects the long-term confidence the company has in our business but should not be viewed as a major change in our long-term capital allocation strategy.

We continue to seek compelling acquisition opportunity that can further bolster our new product introduction efforts in order to ultimately drive increasingly diversified volume manufacturing business to our facility in Thailand.

I would now like to discuss guidance for the first quarter. We expect our strong record of year-over-year growth to continue in the first quarter, driven by growth at existing program and new program in both the optical communications and non-optical markets. However, as certain end markets utilize existing inventory, we expect to see a near-term pause in sequential growth, with a decline from optical communications revenue that more than offset an anticipated sequential increase in non-optical communications revenue.

This expected growth in non-optical revenue highlights the value of our long-term strategy for increased diversification in the end markets we serve. We expect revenue in the first quarter to be between $356 million and $360 million, representing growth of 7% to 8% from a year ago.

Recall that the first quarter of fiscal year 2017 was a 14-week quarter. Normalizing for impact of this extra week a year ago, our first quarter guidance represent growth of 16% to 17%. We anticipate non-GAAP net income per share in the first quarter to be in the range of $0.78 to $0.80 and GAAP net income per share of $0.60 to $0.62 based on approximately 38.2 million fully diluted share outstanding.

In summary, we are pleased with our strong fourth quarter results and record revenue and non-GAAP net income for all of FY '17. We are excited about our prospect in fiscal year 2018 due to investment in our expanded manufacturing capacity and additional capability in our non-optical communication markets. We believe our strategy to drive growth from a diverse array of customer will support our success in fiscal year 2018 and beyond.

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

(Operator Instructions) Our first question comes from the line of Patrick Newton with Stifel.

I guess, first a clarification, I want to make sure I heard correctly that silicon photonics revenue in the quarter was $78 million. And if that is accurate, could you help us understand some of the puts and takes that drove that 15% downtick sequentially and help us understand what's embedded in the guidance for silicon photonics.

Patrick, this is TS. Yes, $78 million is correct for the fourth quarter. And obviously, during the quarter, we see some customer had reduced their silicon photonics production. Notably, the top 2 silicon photonic customer has reduced their volume. And obviously, it's offset by some other small customers. And net-net, we see a reduction sequentially from $92 million to $78 million. Moving forward, we believe that the Q1, some of the volume will come back, may not be at the F Q3 level, but it will come back meaningfully.

Okay. And then as we think about silicon photonics as we move through FY '18 or lapping some very difficult comps, can you maybe speak to how investors should think about the growth potential in 2018? Is this a healthy double-digit growth potential? Or should we see growth to slow?

Well, we normally guide the business forecast on a quarter -- on a one-quarter basis. I definitely hope there's a single-digit -- double-digit growth in FY 2018.

Okay, great. And then your largest customer I think saw some slowing in North America. They had a softer laser quarter and their ROTEMs were definitely pressured. I guess, it's fair to say that a large impact of that is seen in your guidance. But any sense that those product lines are going to rebound in the December quarter which that customer seemed to indicate?

Again, it's hard to tell. We got 13-week ROTEM forecast on most of the customers. And obviously, December quarter is beyond the 13-week, so it's really hard for us to predict. But for September, we have good visibility, and that's reflected in our guidance.

Great. And just last one. TS, can you provide us what the revenue contribution was from CFP products in China specifically in the quarter?

CFP products from China. Well, I don't have the breakdown in front of me. And normally, we don't get into that kind of detail. You've heard from my customer that -- it's actually a mixed consensus. Everybody believes that Chinese is eating into the inventory, seems like -- you had the consensus on that. Now whether the underlying demand is picking up or not, it's a mixed consensus there. So honestly, we are so low in the food chain, hard for me to comment on that.

But is it fair to say China is sub-10% of your revenue?

Will be lower. That's the reason why we guided down, one of the reasons.

And our next question comes from the line of Alex Henderson with Needham & Company.

I'd like to start off with a question on the exchange rate impact. My presumption is that as we look at the September quarter, that there's an impact built into that. Is that accurate, the weakness in the baht that's continued post the end of the quarter is built into your numbers?

No. In the September forecast, we assumed it stays at the June level. And anything else, I really have no crystal ball to see whether the baht is going left or right. So -- and then typically, that's the methodology we use. Whatever the previous quarter end, we use it for the next quarter.

So you're not assuming the current rate, you're assuming the rate as of the end of June in your assumption?

Unless I have a hedge contract on the book, then I use a hedge rate, okay? So we have a hedge contract. So it's the blended between hedge and the spot rate at the end of the last quarter, if that's helpful.

So the other question was on the gross margins. You ticked down a little bit in the June quarter. You've given guidance, I think, of a 10 basis point decline again in the September quarter. Is that the trough and then we should assume that it gradually rebounds to the FY '17 average of 12.5%? Is that the right way to think about it?

Yes. If you look at the pattern, right, because we give a worldwide merit increase increments to our employees that typically kick in, in July, the first day of the fiscal year. And merit increment typically take a while, 4 to 6 months to recover that. So -- and typically, the first quarters of the year, fiscal year, you see the gross margin impacted by the merit increase.

Similarly, if I were to look at the sales and marketing line, I assume this is exchange rate pressure point. But that had a pretty good increase sequentially from the March to June quarter. And as I look out, as we pierce over 3% here, is that going to trend back down to the 2.9% or less over the course of the year? Or is the exchange rate the predominant factor?

Yes, I'm not sure I can see what impacts sales and marketing line. Most of our sales guide update is in the foreign currency not Thai baht. But yes, recently, we [default] the sales and marketing for the M&A efforts in Europe. And so I will expect overall, I stay within $11 million nonoperating expense. Individual lines, you have puts and takes. But I think overall, if you model $11 million for non-GAAP operating expenses (inaudible).

Okay, great. And just one question on the basic business model for a second, if I could. Have you changed your -- in any instances, changed your approach to taking on responsibility for manufacturing production gear that would be associated with a particular customer's line? Or are you still requiring that the customer buy and own the equipment that's in their own production line, excluding the comm equipment that's used for everybody?

In general, there's a model. The customer -- we pay for common equipment. We pay for all the facility. And customer, if there's a specific equipment specific to the customer business, they usually fund that. In general, that's correct.

Have you changed that in any instances? Any recent contracts where you've diverged from that strategy?

On a case-by-case basis, I cannot comment on that. A lot -- sometimes depend on the relationship between us and the customer. But I would say, in general, our model is to have the customer fund the specific customized equipment.

All right. So under what circumstances would you choose to allow a customer to have you buy the equipment? Would that change the margin characteristics of that business?

I think some of this business relationship with the customer, I don't think I want to go there. Also, some of the agreement we have with the customer preclude us from disclosing those. So I'll just leave it at that.

And our next question comes from the line of Troy Jensen with Piper Jaffray.

I got a quick question specifically on datacom. Just be curious to know your outlook for that segment in 2018 and specifically the Web 2.0 opportunity.

Yes. So if you look at datacom, we did $114 million, the same in last quarter, all right? So datacom -- and obviously, year-over-year, it grew faster than telecom. We expect the datacom continues to do well. And I think for FY '18, most of the challenge we have is in telecom. For example, the F Q1, the reason we guided down mostly are actually all from telecom. So I do hope that datacom because of the web 2.0 guide continues to place demand, and that segment of the business look pretty optimistic.

That's perfect. TS, if you'd just go back to kind of the guidance, I think down 3% sequentially. But you did say in your prepared remarks that you expect lasers and sensors to grow. Either roughly how much are you expecting that segment to grow or, conversely, how you're expecting that fulfillment to decline?

Okay. We say, just for F Q1 guidance, the non-optical is still growing, okay? We did about $80 million last F Q4, and I expect to grow a couple of million dollars from there. And most of the downside is on the optical communications. So if you look at $370 million to $358 million, $12 million downside, obviously, telecom go down more than $12 million because non-optical went up by a couple of million.

Okay, understood. And just my last question would be, you talked about a second customer being about 11% of revenues. Was that for the year or for the quarter?

That's for the year, Troy.

And our next question comes from the line of Paul Coster with JPMorgan.

TS, earlier on in the discussion, you talked to silicon photonics recovering. And when you said you expect 10% growth in fiscal year '18 or greater than 10%, were you talking about silicon photonics specifically? Or were you talking about the whole company?

Silicon photonics, I was asked the question whether it would be a double-digit growth, I said I do hoped we'd get back to the double-digit growth, okay?

And would you have the same expectation for the whole company or even greater?

Hard to say. Last year, year-over-year, we grew 45%. And obviously, I don't expect we'd do the same growth. I mean, last year was pretty exceptional. And again, we always guide one quarter at a time. We -- it's hard for us to guide the whole year because my customer doesn't have the visibility. Of course, we don't even have the visibility. But given all the things out there, hopefully, Chinese will return. And Web 2.0 guide continues to do well. We are optimistic on the fiscal year 2018, as mentioned by Tom in his prepared remarks.

Yes. You also talked to 400-gig, and it's obviously a meaningful contribution. Can you describe for us what impact it has on the 100-gig and 40-gig markets as that starts to roll out?

Again, Paul, I think my customer will be in a better position to explain that. We are just a manufacturer, so we do whatever our customer wants us to do. So some of this question will be best answered by my customer.

Yes. No, I understand that. Okay, last question, also along the same lines, and that is you talked to telecom being a little bit challenging at the moment. What do you think needs to happen for telecom to become a more robust end market? Is it the 5G rollout?

Obviously 5G. And I think in the near term, everybody's speculating when China is coming back. Most of the Chinese stocks are telecom, as you probably know. So if that Chinese can return or eat up all the inventory, that will be pretty optimistic for the whole industry.

And our next question comes from the line of Tim Savageaux with Northland Capital.

Couple of questions, just wanted to kind of dig into some product detail. First, on the silicon photonics side, going back to that decline. You simultaneously, I think, report a fairly decent increase in overall 100-gig revenue sequentially. And I do assume all of that silicon photonics revenue was 100-gig. So can you talk about kind of what made up the difference there or actually more than made up the difference in terms of strength in other areas of 100-gig telecom and what's your kind of outlook would be going forward as you look at those 2 elements of 100-gig silicon photonics and non-silicon photonics?

Okay. So we see very strong growth in the QSFP28 and all the QSFP28 silicon photonics, okay? We also see some nice growth in CFP2, helping some customers to run their CFP2 form factor. So those kind of offsets whatever silicon photonics weakness. Is that helpful?

It is. And within silicon photonics itself, I think there's an element that's probably kind of a longer distance, sort of metro long-haul piece, if you will, and that element that's sort of inside the data center within those 2 buckets. And I guess, as we look at the overall datacom number going forward, assuming you're going to see, and correct me if I'm wrong here, continued growth in the QSFP28 side, which would appear to be the case as well as silicon photonics transceivers, intra-data center, what's sort of dynamics would you continue to expect in datacom? It sounds like you're talking at least flat, and most of the decline is in telecom. But it seems like most of what's in datacom should be continuing to grow.

That's a good observation. If you look at QSFP28, some of my customers are ramping CWDM4 less than 2 kilometers. And I presume those are almost in the datacom side. And [LL4], mostly in long-haul, let me see, trending down a little bit. So that's all I can tell you. But a lot depend on the customer. Each customer have a different landscaping and portfolio, so it's hard for me to comment on that.

Okay. And then maybe a final question. To the extent we're looking at a flat to slightly up profile on the datacom side of optical communications in Q1, what would be sort of the offsetting factor on the telecom side? And that would seem to be, given some of your customer commentary, focused on the ROTEM side and maybe not related to China. So as you -- I guess, your commentary is that if China comes back, obviously that maybe takers care of a lot of problems, but as you look into the telecom weakness in Q1, can we assume that's primarily ROTEM-driven?

Again, I only do ROTEM for one customer, I really don't want to comment on that. Maybe you can ask Lumentum, so they can give a better picture.

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

So well, once again, we appreciate your attention on the call and look forward to our next call. Good afternoon.

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.