Infinera Corp (INFN) 2010 Q2 法說會逐字稿

Welcome to the second-quarter fiscal 2010 investment community conference call of Infinera Corp.

(Operator Instructions).

Today's conference is being recorded.

If you have any objections, you may disconnect at this time.

I would now like to turn the call over to Mr.

Bob Blair of Infinera Investor Relations.

Sir, you may begin.

Thank you.

Today's call will include projections and estimates that constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995.

These statements address the financial condition and results of operations, business initiatives, views on our market and customers, our products and our competitors' products, and prospects for the Company in Q3 2010 and beyond, and are subject to risks and uncertainties that could cause actual results to differ materially from such forward-looking statements.

Please refer to the Company's current press releases and SEC filings, including the Company's annual report on Form 10-K filed on March 1, 2010 for more information on these risks and uncertainties.

Today's press release is including Q2 2010 results and associated financial tables.

An investor information summary will be available today on the Investors section of Infinera's website at www.infinera.com.

The Company undertakes no obligation to update or revise any forward-looking statements to reflect events or circumstances that may arise after the date of this call.

This afternoon's press release and today's conference call also includes certain non-GAAP financial measures.

In our earnings release, we announced operating results for the second quarter of 2010, which exclude the impact of non-cash stock-based compensation expenses and restructuring and other costs associated with the closure of our Maryland Fab.

These non-GAAP financial measures are provided to facilitate meaningful year-over-year comparisons.

Please see the exhibit to the earnings press release for a reconciliation of these non-GAAP financial measures to the most directly comparable GAAP financial measures and an explanation of why these non-GAAP financial measures are useful and how they are used by management.

On this call we will also give guidance, including guidance for the third and fourth quarters of 2010 -- excuse me, for the third quarter of 2010.

We have excluded non-cash stock-based compensation expenses from this guidance because we cannot readily estimate the impact of our future stock price on future stock-based compensation expenses.

I will now turn the call over to Infinera President and Chief Executive Officer, Tom Fallon.

Good afternoon and thank you for joining us.

With me is our Chief Financial Officer, Ita Brennan.

I am delighted by the performance delivered by the Infinera team in the second quarter, one of the strongest in our Company's history.

We achieved both record revenue and record bookings.

We also shipped an increased number of tributary adapter modules, posted higher gross margin, achieved positive cash flow, and we earned a profit on a non-GAAP basis.

This represents our fifth consecutive quarter of improving revenue and our fourth quarter of sequentially improving gross margins.

While we have work to do in attaining our long-term business model on a sustained basis, I believe our current performance demonstrates real progress in both our efforts to attain this model and the leverage we can achieve on the bottom line.

Demand remains robust for Infinera's PIC-based networks.

Driving our business is demand from a broad base of 75 customers with Infinera deployments in 45 countries that include Internet content providers, cable companies, also carriers and incumbent carriers, many of whom are among the world's leaders in moving the highest volumes of Internet traffic today.

Of course, I would note that while the current outlook is strong, we believe the optical network business remains inherently lumpy and subject to macro economic swings.

In Q2 we had four 10% or greater customers.

This included one of the world's leading Internet content providers as our top customer, two wholesale carriers, Level 3 and Global Crossing, and one of the largest cable companies in North America.

This quarter we also had strong bookings in each of our major sales theaters as we continued to grow and diversify our business around the globe.

On the new customer front, we added one new customer in the second quarter following our addition of five new customers in the first quarter.

While the Q2 new customer account is disappointing, our pipeline of activity with prospective new customers is strong, and we are confident in our ability to resume our historic pace of customer additions.

Our Q2 performance, as well as our strong outlook for Q3, reflect continued preference by customers for Infinera's network solutions in the highly competitive DWDM industry.

We believe that this preference is based on our ability to help our customers win profitable business in their markets by providing the highest quality and reliability platforms integrated into the most bandwidth-efficient, intelligent optical networks.

Our previous record quarterly performance in Q1 of fiscal year 2010 resulted in the expansion of our number one share position in the North America long-haul market to 39% and our moving into the second position for the first time with 15% share of the worldwide long-haul market.

We believe that our second-quarter performance will further advance these share positions.

As you know, in May we announced changes to our technology development roadmap, and we have been extremely pleased with our customers receptivity to that announcement.

Our broad base of customers has received with great enthusiasm our decision to accelerate our 100G system development and our commitment to deliver this new PIC-based system in volume in 2012.

We believe that these product developments will provide our customers with the best support for their future business needs.

Our belief, which is supported by several key industry analysts, is that meaningful adoption of 100G will begin in 2012 with acceleration in 2013.

In this context, we believe we are exceptionally well-positioned with our future PIC-based 100G system to re-create the market opportunity we seized upon in 2005 with our 10G system.

The key differences being that back in 2005, Infinera was five years late to market, had no installed base, and was a private entity.

With our large installed base of 75 customers worldwide, solid market share leadership, strong financial position, a track record of customer loyalty, and Infinera optical line systems that have already been deployed and are 100G ready, we believe that we are poised for similar if not better marketshare gains with our future revolutionary PIC-based 100G transition capability.

In addition, I want to reiterate that for our DTN customers that require a 40G solution, most notably those with Submarine Networks, we are committed to providing a 40G upgrade in 2011 that has a proprietary, coherent, discrete solution.

For both the 40G upgrade and our new 100G system, the ILS optical infrastructure that many of our customers have been deploying is 10G, 40G and 100G ready.

To enable the investment community to evaluate our progress in addressing this major market opportunity for the Company, we will be informing you in our quarterly conference calls of key milestones that we have achieved in the development of our new PIC-based 100G system.

In May we told you we had our 500G PIC featuring five channels of 100G coherent transmission operational.

Today I'm happy to report our system engineering team has integrated this 500G transmitter, along with its electronic controls, onto the line module assembly.

This assembly is operational, and we are demonstrating it to customers.

In addition, we have successfully taped out our coherent 5 x 100G receiver PIC.

These two milestones are important steps toward our volume delivery of 100G transmission capabilities in 2012.

In the quarters ahead, we will touch on key technology milestones, system integration achievements, and demonstrations over customer networks.

Now Ita will provide her report on the second quarter and our outlook for Q3.

Thanks, Tom.

I will review our Q2 actual results and then follow that up with our outlook for Q3.

The following analysis of our Q2 results is based on non-GAAP.

All references exclude non-cash stock-based compensation and any restructuring costs.

Total GAAP revenues at Q2 were at record levels for the second consecutive quarter at $111.4 million compared to our guidance of $99 million to $101 million and revenue of $95.8 million in Q1.

This outperformance reflected strong demand across our customer base for both network sales, our TAM and DLMs and for new network deployments.

Our services revenue for the quarter was $11.7 million versus $8 million in Q1.

As anticipated, our installation or EF&I-related services revenue increased in Q2 as we completed a number of large lower margin deployments.

We had four 10% customers in Q2, including Level 3 at 11% of revenue.

We are pleased with the level of diversification we have experienced in this larger customer roster.

Our current expectation is that we will see Level 3 revenues increase somewhat as a percentage of revenues in the third quarter.

Gross margins in Q2 were 44% versus 41% in Q1.

This compares to our guidance of 41% to 42%.

As mentioned above, we experienced strong demand for TAMs in the quarter with TAM shipments increasing to a record 2400 units.

This increase in TAM mix had a favorable impact of approximately 2% on overall gross margins for the quarter.

Common equipment sales in the period were consistent with our forecasts and in line with historical averages.

As outlined in the Q1 earnings call, we realized some lower margin EF&I revenue in the quarter, resulting in lower services margins of 53%.

We added one new DTN customer in the quarter for a total customer roster of 75 and expect to add at least two new customers in Q3.

In addition, we completed two significant new ATN deployments with existing customers during the quarter.

We continued our focus on expenses.

Operating expenses for the quarter were $46.3 million versus our guidance of $47 million to $48 million and versus $46.3 million in Q1.

The slightly better than expected performance was mostly attributable to the timing of certain [NRV] and prototype charges as we reset the product roadmap during the quarter.

We expect $1 million of these charges to roll into the third quarter.

Overall headcount for the quarter was 1028 versus 999 in Q1.

Virtually all the headcount additions occurred in R&D in operations.

Operating income for Q2 was $2.8 million.

Other income and expense for Q2 was a favorable $0.1 million.

Net income for the quarter was $3 million, resulted in earnings per diluted share of $0.03 versus our guidance which called for a loss of $0.05 to $0.06 per share and versus a loss of $7 million in Q1.

Now turning to the balance sheet, cash, cash equivalents and restricted cash and investments ended the quarter at $279.6 million versus $277.2 million in Q1.

We generated $11.2 million of cash from operations in Q2 versus $2.3 million in Q1.

DSOs were 45 days versus 56 days in Q1.

This improvement can be attributed to better linearity within the quarter.

Inventory turns were 3 versus 3.2 in Q1.

This mainly reflects the holding of increased levels of finished goods inventory to protect against constraints in the supply chain.

Accounts Payable days remain flat at 42 days.

Capital expenditures were $5 million in Q2 versus $4.7 million in Q1.

In addition, subsequent to the end of the quarter, we sold the remainder of our UBS auction rate securities back to UBS at par value.

We are pleased that this represents a full recovery of par value for these investments.

And now for our Q3 outlook.

We are entering Q3 with visibility to a strong quarter based on solid backlog.

The periods of Q3 will exhibit growth across many of our business segments combined with some rebound at Level 3.

Our Q3 operating outlook calls for our sixth consecutive quarter of sequential revenue growth.

At this point our gross margin outlook assumes TAM shipments to be in excess of 2400.

We remain cautiously optimistic about ongoing TAM performance given current bandwidth demand growth levels.

We believe that with 75 customers and a DTN installed base of approximately 7000 chassis, the business can support quarterly TAM shipments in excess of the 2000 unit average that we have experienced in the past.

We saw an uptick in TAM shipments in Q2, and early indications for Q3 are that TAM demand remains strong.

We expect EF&I revenues and service margins to return to historical levels.

Our previous guidance on operating expenses indicates that we would exit 2010 at an operating expense run-rate in the mid-$40 million range per quarter.

While we remain committed to this guidance, if we continue to outpace our internal growth plans, we will experience incremental expenses for sales commissions and incentives of approximately $2 million per quarter through the end of the year.

This, combined with the $1 million of unspent R&D expense rolling from Q2, will result in a somewhat higher operating expense level in Q3.

The following guidance for Q3 is based on non-GAAP results and excludes any non-cash stock-based compensation expenses.

Revenue of approximately $125 million to $128 million; gross margins of approximately 45% to 47%; operating expenses of approximately $49 million to $50 million; operating and net income of approximately $7 million to $10 million.

Based on estimated average weighted diluted shares outstanding of $106 million, this would lead to EPS of approximately $0.07 to $0.10.

Operator, would you please now open up the call to questions.

(Operator Instructions).

Subu Subrahmanyan, Sanders Morris Harris.

I have two questions.

First, there are expectations that both Ciena and Nortel and Alcatel-Lucent will start shipping some 100 Gig modules for revenues late into this year, early into next year.

For their existing systems, can you talk about timeframes for when new systems are getting evaluated.

And I know you have talked about mast deployment in 2012.

Does that mean you will have some trials in 2011 for 100 Gig systems?

So that is my first question.

And then the second question is on the OpEx.

If you can clarify as the points you made on if a revenue run rate runs higher, the impact on OpEx and how you would exit the year given that this quarter you were expecting to be as high as $49 to $50 million on that?

So I will answer the first question, and I will ask Ita to answer in regard to OpEx.

I think that the commentary was Ciena, Nortel and Alcatel-Lucent are speculated to start introducing 100 Gig systems by the end of this year.

What is the status of our system?

So in two parts, I think that the market certainly is going to start having some very, very modest number double-digit maybe 100 Gig waves this year.

It will be very, very early on.

And if you look at the forecast for 100 Gig, there really is not much traction viewed in the market until early -- or late 2012 into 2013 for any type of real demand measured in the thousands of wavelengths.

So I think part of what is going to happen is going to be -- I have seen a lot of information on their capabilities around the technology of 100 Gig.

So far I have seen nothing talked about around the finances of the current 100 Gig.

And I think that until the market understands what the 100 Gig finances are and the costs, the economics are, it is really difficult for me to speculate on the success of entrants into the market based on just the technology.

In regard to when do we plan on showing it to customers, as we've talked about, we are going to be delivering for our plan this new capability and new platform in 2012 in volume.

Obviously we will be having lots of milestones between now and then, including showing customers.

But, as of today, I'm not prepared or willing to talk about really our go to market strategy on that product.

And just on the OpEx expenses, we should expect at the end of the year that the R&D expenses will be flat to down.

And then we will continue to seek some uptick on sales, commissions and expenses.

So rolling forward the $1 million that we rolled from Q2 to Q3, so you will see that go away.

Probably exiting in kind of the $48 million to $49 million-ish total OpEx number.

And the higher number versus the original plan, is that just higher compensation expenses given higher revenue levels?

Yes, a lot of it is commissions, and obviously as you head towards the end of the quarter, if we continue to see the current revenue levels, those commissions kind of grow as you hit towards the end of the year.

And I have to be a little bit clarifying.

You said a lot, and I really wanted clarify it is almost all, extra commissions and accelerators that when the sales guys overachieve their plan, their commission structure goes up.

We have been very, very delighted with our performance year-to-date, and if we continue to have the ability to outperform, those sales expenses not based on income and hiring, not based on any other thing other than commissions and accelerators, would increase.

Otherwise, we will be right on what we had planned and what we said.

And Tom, final question here.

That guidance for third quarter is about a 30% increase, not more from first quarter.

So very sharp ramp in two quarters.

Can you just talk about is it specific customers, is it broad-based growth?

I know you mentioned Level 3, but any kind of extra color on that would be helpful.

First of all, I think that the general market is improving.

There are new applications that are just driving remarkable Internet demand.

I think we have been exceptionally fortunate to be executing, winning and keeping and growing with where a lot of the Internet demand is moving to, which we see as being in the cable industry.

We see as being in the content providers.

Those are really strong.

We are very well positioned there, and those people continued to deliver new capabilities that the market wants, and the services across those continue to fill up.

We are also being very successful and continue to be very successful with the wholesalers.

So it is fairly broad, but a lot of it is being driven by our extraordinary success in a couple of very, very key parts of the market that I think are important, not only now but will continue to grow in importance.

George Notter, Jefferies & Co.

Congratulations on the quarter and the margin performance and the outlook.

I guess I was trying to figure out when I think about the gross margin structure you guys are talking about 45% to 47%, I guess, for this coming quarter.

How do we think about the right baseline on margin structure for the business going forward?

I heard your comments about being cautiously optimistic on the level of TAM module sales going forward.

But do you see the business drifting up into the high 40s and staying there, crossing 50% gross margin?

What is possible in terms of where margin structures can go, and how soon do you think you can get there?

Yes, so obviously our outlook for Q3 is assuming off a base of 2400 TAMs.

So we are seeing an uptick in TAM volumes, which will help drive that margin.

We have also seen benefits of the fab closure in Maryland.

We expect our services margins to come back to a normal rate, and that is all kind of getting into a 45%, 46% gross margin level.

After that it is obviously a factor of growth.

If you reference back to our business model, we believe as you kind of scale revenues and you get the right product mix, it can scale up to the 50% level.

I mean that is obviously over time, particularly as you see topline growth and the right mix of products and customers.

Right now we see this 45% to 46% of kind as what we can see for Q3.

It is definitely heading in the right direction.

Revenues are heading in the right direction, and that is causing the margins to move up as well.

George, you know Ita and I have reaffirmed our commitment to our long-term business model, which is 50 points.

I think we can need to continue to demonstrate a methodical progress towards that, which I think we have been doing for the last few quarters, and we are committing to doing it certainly in the future.

Certainly we have guided to the next quarter.

And I think the real question I might be asking if you take it across 50%.

And I think certainly in the longer-term direction, the value proposition we bring to the table in addition to immigration is a lot about an intelligent optical network in bandwidth management.

And I think as you continue to add, as we continue to add more intelligence to the network, more capabilities that our customers can take advantage of, that type of capability as we integrate a packet optical, those are the areas of value that we can integrate into our portfolio over time and I think bring enhanced margin opportunity to our shareholders.

Okay.

And just as an offshoot to the gross margin question, you guys have said that Level 3 is going to increase as a percentage of the revenue stream in Q3.

I guess historically we thought of Level 3 as being a lower margin customer.

So in the context of that, the margin guide 45% to 47%, I mean is there is some drag in there from Level 3, or has the margin structure in that account changed, or what is the thought process there?

Yes, I mean I think as Level 3 continues to fill out their network, they are contributing some TAMs, but again, not significantly driving this particular margin increase.

If you look at Level 3, we were 22% in Q1.

They cam down to 11% in Q2, and yet you saw the margins pick up to 44%.

So yes, they are contributing as a significant customer there, but they are not in any way influencing the overall gross margin.

Ehud Gelblum, Morgan Stanley.

It is Kim Watkins in for Ehud.

I just had another clarification to follow-up to George's question on gross margins.

I think I heard you say that the higher level of TAMs that you're expecting in the next quarter, which seems similar to the levels this quarter, albeit much higher than it has been historically, contributes roughly 200 basis points to gross margins.

So when I look at the sequential increase in guidance, is there something else that is driving the increase?

Is perhaps the margin on common equipment going up, or is there another factor there?

And then to get to that 50% margin level, is there a revenue level that you have been -- that we should be thinking about to achieve that?

To just answer your first question, I mean one of the contributors there obviously is the services margins returning to normal levels in the third quarter.

We had said that we would take a hit of about 1 point to 1.5 points of overall margins because of the services in Q2.

So you are getting a pickup from that moving into Q3.

In terms of the business model, we have not put a revenue number out there that says this is when we are going to hit that 50%.

It is clearly -- we are moving in the right direction, but we will have to see how that evolves over time.

And then back to the TAM number, I mean our guidance is seeing greater than 2400 TAMs.

We are not going to put any more specificity around that at this point.

Okay, that is helpful.

And then I think, when I look at international revenue, it looks like it has been down now for the third quarter in a row.

Tom, I think I heard you say that bookings have been strong in all theaters.

Can you just give us some additional color on what you see in APAC and EMEA and how you expect those regions to trend going forward?

Yes, I said it was strong in all of our major theaters, and I really consider our major theaters to be the Americas and Europe.

We are vesting in APAC, and we're making progress there.

But it is an area that I would still consider under development for us.

And you are correct.

Our revenue number that you point out has been slightly shrinking internationally, which is why I wanted to give a very high kind of commentary that we were pretty happy with our business that we saw both from a bookings and a pipeline outside of North America in Europe.

And I will not give more clarity than that other than to say you are right.

The pipeline and the activity in Europe makes me feel better about the trend of revenue that has been decreasing.

Sanjiv Wadhwani, Stifel Nicolaus.

Let me also add my congratulations on the margin performance.

Tom, you made a comment earlier about Ciena, Nortel, Alcatel talking about their 100 Gig solutions, but not really talking about the costs of those solutions.

Can you talk about when your 100 Gig comes out where do you expect the costs to be versus 10 Gig, and what is required for mass customer adoption in terms of cost versus 10 Gig?

Well, sure.

First of all, thanks for the congratulations.

A lot of people here worked very hard.

In regard to our pricing and costs, I'm not going to go specifically into it, other than I will reiterate what our Company does.

PICs are all about radical economics.

Now that's how we entered the market very late in the 10 Gig market, and we set a new price point in the industry, helping our customers who selected us to win business economically and make money in their markets.

I absolutely am committed to continuing to bring integration to bear at a cost point to bring new price points to the industry that allow new technologies to be deployed economically.

I think that we have been pretty clear that our belief is for any type of new technology to be adopted at any kind of volume that there has to be a crossover point of -- on the 100 Gig, we think about 6 times the cost of 10 Gig.

And our job needs to be to make sure that we are the people that go bring back to market.

I think one of the challenges the industry is going to face, if you look at the forecasted 100 Gig volumes over the next couple of years and if you take the industry analysts, I think this year it is basically tens of units, next year in the hundreds of units.

In 2012 1000 units, in 2013 5000 to 10,000 units.

It is really hard to drive economics, volume economics with those kind of volumes.

And we are firmly believing that the only way to achieve economics that are going to be compelling or even allow financial viability is through integration.

And we're the only people that are doing that.

I think that has been certainly one of the challenges with 40 Gig.

It has not been adopted as people thought it would, and I still believe that is because of the economics.

The 100 Gig I think will have economics that are probably more likely to be achieved than 40 Gig because you have a larger bandwidth to allocate costs across.

I still think you have to do integration to be able to do it successfully, and that is where we have to bring to market -- that is our value proposition.

PICs are about bringing radical economics, and we are committed to doing that.

And just a quick follow-up on that.

When you look at these solutions that might be provided by a Ciena Alcatel, end of the (inaudible) here, do you have any color on what the costs are going to be at that timeframe versus the 10 Gig?

Any color on that?

I do not have any specific color on that, and I see analysts talking about it, and I think they might have better color than I do.

It is not price competitive at a parity, that is for sure.

It's got quite a bit bigger, larger than parity.

But I think interestingly enough, too, I don't see anybody, any of the people or customers talking about the price of it yet.

So I think that the technology is being viewed as very compelling from a bandwidth perspective.

I think that the economics still have to be vetted, and I'm certainly not convinced today that that discussion has occurred.

Alex Henderson, Miller Tabak.

Let me start off with one on the balance sheet.

Can you talk a little bit about what you're doing with your inventory?

How much of the inventory is deferred, i.e.

put into the field already in place deferred revenues?

How much of it -- what is the cause of the increase in finished goods there?

Yes, so the increase is really in finished goods, predominantly in finished goods, with actual inventory that is still in our warehouses and within our control.

And really you saw the pickup because we consciously took the decision to purchase some inventory on particular [food carts] to cover products where we thought there was some risk of shortages, etc.

As we have been saying upside, we want to make sure that we're going to be able to respond to that.

(multiple speakers) So the $12 million increase in finished goods is because of component availability?

I'm not following that.

It is some component availability and some build of inventory to make sure we can maintain leadtimes as we go into the following quarter.

Let me make a couple of comments.

The market is growing.

We are growing market share within a growing market, and we have long articulated to our customers that time is a weapon in this space.

If we want to continue to grow our marketshare in this market where I think a lot of our customers, quite frankly, are surprised by the robustness of demand, we have to make, I think, choices around where we want to make -- what is the cost of a lost opportunity?

And I view that very, very high when we have the opportunity to make growing revenue and growing market share and improving margins.

So I am going to continue to invest until I think there is a better understanding of how big the opportunity is in inventory so that our customers have the opportunity to continue to win in their markets.

Okay.

Second question.

Relative to Level 3, can you talk a little bit about what type of product they are taking?

Are they still taking chassis, or are they only taking PICs at this point?

And when you say they are going to increase sequentially, is that a function of a mix of PICs and chassis?

And what is the impact of their prior decision to buy more equipment from Huawei?

Has that been adjudicated more in your favor or any change in that status?

How should we be thinking about that?

I cannot speak for Huawei's -- I mean Level 3 strategies.

They certainly are deploying us in field.

They are deploying us in new opportunities that we have the opportunity to compete for and win.

They continue to have robust business, and I believe they continue to roll out the alternative vendor.

I'm very pragmatic around this.

Our job is to continue to create the most value we can for Level 3 and other customers and earn the opportunity to be their preferred supplier.

We do that on every opportunity we get, and, as you can see from the numbers, we continue to have opportunities to earn.

So to be clear, they are still purchasing new chassis for new equipment deployment, not just TAMs?

They are buying a mix of product.

Right.

Third, the product roadmap reaction on the street was one of skepticism that your 40 Gig product was working properly.

And, therefore, this is just a delay to give you more time to do the work on the 100, and maybe they could not get back to work either.

Obviously I think that your demonstration here of strong results would imply that your customers are not feeling that.

Can you just reiterate for us one more time how confident you are in terms of a) your ability to deliver on the roadmap and your confidence level here?

Because I think the reaction was a little bit over the top.

Yes, I think you are correct in that I observed analysts being fearful that there was an ulterior reason that we moved to the 100 Gig.

I just want to be -- I will reiterate our reasons first, and then I will go into our confidence.

We have -- we like other suppliers in the industry have a unique opportunity to talk to a lot of customers, and we talked to our customers a lot.

And it was clear to us in the timeframe we made this announcement that the customers had grown very, very skeptical of 40 Gig being an economic solution ever, and they really wanted to go to 100G.

That put us in a fairly precarious position where we were coming out with a 40G, and that coming out with 40G was going to push out our ability to deliver 100G.

Simultaneously we had a number of engineering deliverables that either hit or beat our expectations from a timing perspective.

We demonstrated to ourselves that we understood the problem, and we had solutions that we could bring to market earlier if we cleared out the pipeline of activity between now and the end point.

So we cleared out that pipeline of activity around the 40G and said we are going to leverage what we have done around 40G.

We are going to take these new engineering deliverables that we have been able to create, and we're going to take our customers' perspectives together, and we are going to re-come out with our product roadmap that optimizes around all of those, which was the 100G roadmap in 2012.

So the point there is that you actually had better-than-expected results in your R&D efforts, not worse than expected results in your R&D efforts, and that gave you the visibility to accelerate the product?

We had a better than expected result in certain areas that enabled our 100G to come to market.

The 40G was progressing fine, but there were some parallel activities in different engineering camps delivering some 100G technologies.

They had some proof points that came to bear faster than we had anticipated.

We are a practical group of engineers.

We operate all around committing the stretch, and we don't make plans based upon stretch objectives within engineering.

We make commitments once we understand the physics.

And then once you understand the physics, it becomes an engineering problem.

We are actually very good at engineering problems.

That does not mean everything happens exactly as you think.

But the physics are understood.

So we believe that the physics are understood on our 100G roadmap.

The engineering plans are in place, and we are executing to it.

Our customers have been abundantly clear.

They much prefer our current roadmap, and we're in a better position with them today because we have come out with this new roadmap.

Two last questions and then I will cede the floor.

One, you made a comment about "your customers being surprised at how more strong the conditions were for bandwidth demand." So would you say that the significant upswing in results is partly a result of share gains, but also partly a result of a much more robust end market condition than anybody was anticipated as we go into the back half?

I think it is a combination of the both, and I have been trying to say that.

I do think it is a robust environment in general.

I think that demand has -- the industry has been forecasted to grow.

I think it is growing faster than the industry forecasted, and I think our customers are experiencing an inordinate amount of that growth based upon where they are.

And we are experiencing -- clearly I mean our numbers are growing extraordinarily fast, and we're picking up market share.

We picked up a lot in Q1, and I think we're going to pick up quite a bit based upon our results in Q2.

And I think that our customers based upon the demand patterns we are seeing, by the fact that we internally are out beating our own internal forecasts, we do a pretty good job of that, so that our customers are surprised by their own internal demand, and they are giving us requirements for very, very short lead time.

And one other question and then I will cede the floor.

The access product, the DTN, no mention during the call of it so far.

Is there news flow on that side?

Go ahead, Ita.

Yes, we did mention that we had two significant deployments, new deployments with existing DTN customers, but new deployments with new customers from an ATN perspective.

The uptick was to 9 kind of overall ATN customers at this time.

But we are still very happy with our success with the ATN.

We have a new release coming out this quarter for the ATN, which I think will make it, quite frankly, much more attractive to our customer base.

So I have been pretty happy with the success so far.

Great, I must have missed that.

Thank you very much for fixing my miss.

Blair King, Avondale Partners.

I will also congratulate you on a fine quarter and a great outlook.

I just have a few questions, the first being, if you could comment on any stimulus-related activity?

We know at least two of your customers are recipients of that program and would be interesting in any commentary you might be able to provide on how that factored into this quarter and how it might be factoring into your third-quarter outlook as well?

Yes, I will comment and then I will ask Ita to follow-up with her perspective.

The stimulus dollars are starting to flow into the market.

It has been slower than I think people anticipated.

We have two customers that have been the recipient of dollars that have actually gone to them and flowed to us.

So, at the end point, that is kind of how I keep score.

One of our new customers that we achieved in Q2 actually was the recipient of stimulus dollars.

So those dollars not only helped us with current customers, but helped us get a new customer with a new opportunities.

Those dollars have flowed to us.

We have about, I think, nine customers that are in the process of getting -- applying for or getting stimulus dollars.

Those dollars are either in the process of being awarded or in the process of working themselves through the system toward us.

So we continue to believe that there is good opportunity, and there is real money.

It is continuing to be slower than we had anticipated, and we are hoping that the trajectory now that it is starting to flow flows a little faster.

And we continue to pursue it very aggressively.

Yes, I mean I think from a guidance perspective there is not a lot of stimulus dollars reflected in our Q3 guidance just to give you some context for how that is playing in there.

Okay.

So if we were to see something in the quarter, we might be able to assume that is incremental to your guidance?

Yes, but it is a slow process.

Right?

So we haven't it baked in there for that reason.

So we will see how the dollars play out here over time.

Okay.

And Tom, just to make sure I heard you right, you said you got one new customer this quarter that was a recipient of stimulus.

So the new customer this quarter is a stimulus-related customer?

It is.

Okay.

That is great.

And then the next question I have maybe for you, Ita, is, just in light of there being some linearity through the quarter, which obviously helped on the working capital side to address a question earlier, can you give us a sense of what really happened this quarter that surprised you guys that brought both the revenue and the gross margin so far ahead of what you were thinking when you gave guidance for the quarter?

Yes, I mean I think it is really overall strong demand that we saw through the quarter and also strong demand for TAM in particular for DLMs and TAMs and for growth.

We continue to see customers look at new deployments and deploy new equipment in new networks, and, at the same time, we saw strong demand on the growth side.

So it is generally across all customer segments, not in any particular segment, but really strong demand across all segments that has lifted the revenue numbers to where they are, and we continue to see that as we look out into Q3.

Alright.

Just in light of the fact that Level 3 was not -- you were not thinking of them as a 10% customer this quarter.

Is it fair for us to think that there was an event that happened that brought them to a higher level than you might have imagined heading into the quarter?

Yes.

I mean I don't know if it was a particular event.

I mean we said we did not expect them to be a 10% customer, but we still expect them to be a reasonable revenue contributor in the quarter.

So it might have been a little bit more than we were expecting, but I would not look to Level 3 as kind of the driver for the success in the quarter.

I would also comment, they, as I mentioned earlier, we are seeing general rise in the market, and we're seeing our customers be a little bit I think surprised by some of their demand.

And I would qualify that as a good example in this case.

Okay.

Versus any event?

It was not any event?

Okay.

Just two quick follow-ons.

Ita, you had mentioned I think that you have 7000 chassis deployed in the field?

Yes.

Is there anyway you could put some color around what percentage of those chassis are active as opposed to either regeneration or amplification sites?

Yes, we are not going to do that.

I mean we have been reluctant about putting those data points alone out there, so now it is kind of up to you guys to go form your own analysis on that.

Alright.

It was worth a shot, right?

Yes, true.

The last question is, the Internet content provider is a 10% customer.

Is this the same customer that was a 10% customer last quarter?

I don't believe it is.

I think it is actually another Internet content provider.

Would it be the same one then as 4Q?

Yes.

Kevin Dennean, Citi.

Congratulations, everybody.

Great set of results and great guidance.

Hey, Tom, last quarter you sounded pretty enthusiastic on Infinera's opportunity to gain more traction with Tier 1 customers due to the Ciena/Nortel deal.

You felt that there was a window of opportunity to become a second source supplier where those two vendors have some exposure.

I am just wondering if you could give us some insights on how that is playing out?

Our customers who were in that situation and being supplied by Ciena and Nortel, are they reaching out to you?

I'm just trying to get a sense for what your Tier 1 traction looks like going forward.

You are kind of melding two things.

One is a traction with Tier 1s, and one is do we have opportunities because of Ciena/Nortel opportunities to be a backup player replacing one of them.

And that is not just a Tier 1 commentary.

That commentary was in regard to anybody that's wanting significant networks typically will have more than one supplier, not just Tier 1.

So let me piece it apart.

We continue to, I think, have opportunities where we are being invited to participate as a new second vendor, and we have won some business that displaced one or the other of those platforms because of being a new alternative as a second vendor to replace a sole source.

I would say none of it to date has been at the top line hugely impactful.

But any time that we have an opportunity to get into a new part of the network and displace somebody and start earning business because candidly I think we out-execute anybody on the planet, I consider it a significant win.

In regard to Tier 1s, we have six Tier 1s, and I know the industry would love us to announce a Tier 1 all the time.

We would love that, too.

I think the important part to me is two things.

One, with our Tier 1s, we continue to have repeat business on a consistent basis and repeat opportunities on a consistent basis with almost all, if not all, of those six that we have achieved.

So we continue to earn our way into the hearts, souls and wallets of these Tier 1s, and we're going to continue to do that by out-executing anybody else.

We continue to also work very, very diligently to win Tier 1s that we don't have, and I think that our progress continues to satisfy me from a perspective of making progress.

But the Tier 1s, in particular, you have to have the right solution at the exact time that they have the right new opportunity.

And we don't seem to find ourselves in that position right now.

But those opportunities you have to be selling toward for a very long time before the opportunity decision is made, and we are in that process now.

And I believe over the horizon we will find the right opportunity to match what we have at the right time.

(Operator Instructions).

Todd Brady, Oppenheimer.

Tom, congratulations on the quarter.

Really quickly, all of my questions have been answered.

Could you kindly -- your top four -- are the four 10% customers, what percentage of revenue were they in the quarter?

And Tom, the year is half over.

Business is rolling.

It is accelerating.

It is all in the tone from what you guys talk about.

What is your biggest fear looking out into 2011?

So, Ita, can you answer the question on the percent of business for the quarter that our top four represent?

For our greater than 10% customers -- sorry, I am just making sure I'm telling you the truth here -- would have represented --

I am going to answer the (multiple speakers) second question while Ita goes through that.

That question is, what do I worry about for 2011?

There are the things at the macro level that I think we continue to execute I think very well.

I think our roadmap, I'm very, very excited about it and comfortable with it.

Our customers have been extremely loyal, and I think we continue to earn a trusted position with them.

But we are not going to be immune to macroeconomic conditions.

I think that 2009 when the economy was very, very shattered, our business suffered along with the rest of the world, and as the economy has grown back, our business has accelerated and actually has been able to pick up market share in that period.

So I think that at a macroeconomic level I worry about that.

There is not much I can do for that, other than to prepare plans for appropriate strategies if that condition were to occur, which we do.

I think then the other thing that I'm concerned with is execution of our roadmap.

I believe we have the exact right roadmap that satisfies our customers' needs in the time they need it, and I believe that the competitive threat based upon the lack of economics gives us that window to perform excellently.

But we have to perform excellently in that schedule.

And it is not what I worry about, but it is what I spend our time, the management cycles, making sure that there are no surprises.

At the end of the day then, I just want to make sure that every employer wakes up thinking about how can we make our customers successful in their markets.

That is what I think about.

Yes, and the top four greater than 10% customers represented about 45% of our total revenue for the quarter.

I appreciate that.

Tom, keep up the good work.

You obviously are doing the right thing.

Thanks.

Thank you.

In closing, I want to thank the Infinera team and our supply partners in helping us to achieve a Q2 performance to be proud of.

I also want to acknowledge our customers who are the primary reason for our success.

Thank you for joining us and for your questions.

We look forward to seeing many of you in the coming weeks when we participate in the Pacific Crest conference in early August and in the Citi conference in early September.

Thank you.

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