Lumentum Holdings Inc (LITE) 2016 Q1 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Lumentum fiscal first-quarter 2016 conference call.

(Operator Instructions)

As a reminder, this conference call is being recorded. I would now like to introduce your host for today's conference, Mr. Chris Coldren, Vice President Strategy and Corporate Development. Sir, you may begin.

Thank you, operator. Welcome to Lumentum's first-quarter FY16 earnings call. My name is Chris Coldren, Vice President of Strategy and Corporate Development. Joining me on today's call are Alan Lowe, President and Chief Executive Officer, and Aaron Tachibana, Chief Financial Officer.

As we discuss our first-quarter results, please note that we separated from JDSU, now named Viavi Solutions, and became an independent public company on August 1, 2015, five weeks into the first quarter of FY16. Our first-quarter results, therefore, include certain allocated costs from Viavi that will not be incurred in future quarters. Where possible, we will highlight these non-recurring expenses and their impact.

This call will include forward-looking statements, including statements regarding Lumentum's expected financial performance and cost structure, trends, and our position in our markets, and expectations related to our customers and our products. These statements are subject to risks and uncertainties that could cause actual results to differ materially from our current expectations.

We encourage you to review our most recent filings with the SEC, particularly the risk factors described in our FY15 amended 10-K filed on September 29, 2015. The forward-looking statements that we provide during this call, including projections for future performance, are based on our reasonable beliefs and expectations as of today. Lumentum undertakes no obligation to update these statements except as required by applicable law.

We also note that the financial results reported today are subject to the completion of Lumentum's quarter-end closing and review processes, and actual results could differ materially from these preliminary results. Please also note, unless otherwise stated, all results and projections are non-GAAP. Non-GAAP financials should not be considered as a substitute for or superior to financials prepared in accordance with GAAP.

Our press release with our first-quarter FY16 results is available on our website, www.lumentum.com, under the Investors section, and includes additional details about our non-GAAP financial measures and a reconciliation between our GAAP and non-GAAP results. Our website also has our latest SEC filings, which we encourage you to review, and supplementary slides relating to today's earnings release. Finally, a recording of today's call will be available by 6 PM Pacific time this evening on our website.

Now, I'd like to turn the call over to Alan for first-quarter business highlights.

Thank you, Chris. We solidly executed our plans in our first-quarter as Lumentum. And I want to thank our employees for their hard work and dedication during the spin out that allowed us to perform from the start.

Our first-quarter FY16 revenue at $212.6 million was above the midpoint of our guidance of $205 million to $215 million. At our August conference call we provided guidance which equated to non-GAAP operating margins of approximately 5% to 8%, assuming we were a standalone company through the entire quarter. Had we been standalone for the entire quarter, our operating margins would have been 8.3% and our earnings per share would have been $0.29. Aaron will discuss this in more detail shortly.

Now for more details on our business performance. First-quarter optical communications revenue were $177 million. As expected, we saw strong growth in our telecom products. Telecom revenue grew to $132.7 million, up $6.8 million or approximately 5% sequentially.

Telecom growth was driven primarily by the rapid growth of our industry-leading TrueFlex ROADMs. We saw our overall ROADM revenue grow by more than 15% sequentially with our TrueFlex ROADMs and blades growing more than 27%. We are currently on allocation for our TrueFlex ROADMs and are adding capacity to satisfy the strong demand from multiple customers. We believe that this strong demand is due to share gains at key customers supplying into metro deployments, as well as broad market adoption due to our superior product performance.

In addition, our pump laser revenue grew approximately 18%, to a revenue level we had not achieved since 2006 as our customers continue to ramp shipments for new optical network infrastructure. This situation is typically a good leading indicator for further network deployments.

Datacom revenue declined to $35.7 million, down from $41.7 million in the prior quarter, and consistent with our commentary on our last call. We are very pleased with our 100-gig datacom pipeline and believe our new QSFP28 offering will more than make up for the declines and lower speed datacom revenues during calendar 2016.

Industrial and consumer revenue was $8.6 million, and declined $2.6 million quarter on quarter due to an industrial diode laser customer delaying orders. 3D sensing revenue remained flat from the prior quarter.

Commercial lasers revenue at $35.6 million was up $5.6 million or approximately 19% quarter on quarter. Lasers growth was primarily driven by our kilowatt fiber laser which approximately doubled sequentially, and achieved year-on-year growth with our second-highest fiber laser quarter ever. Our solid-state laser revenue was down as these products serve manufacturing markets which we believe have slowed.

Because we entered the quarter with strong backlog of previously placed orders, and the high relative percentage of our business in which we have DMI arrangements with our customers, our book-to-bill was below 1 for both optical communications and lasers.

I will now turn the call over to Aaron for financial results and highlights.

Thank you, Alan. As Alan highlighted, net revenue for the quarter was $212.6 million, and above the midpoint of our guidance of $205 million to $215 million. GAAP gross margin was 31.5% for the first quarter, and increased 110 basis points quarter to quarter. GAAP operating margin was a loss of 1.2%, and GAAP loss per share $0.01.

Our non-GAAP gross margin was 32.8%, and increase 80 basis points relative to the prior quarter, due to higher optical communications gross margins resulting from cost reduction and favorable mix of new products. Non-GAAP operating margin for the first quarter was 7.4%. Non-GAAP earnings per share were $0.26 based on the fully diluted share count of 59.7 million, $200,000 in tax expense, and immaterial other interest and expense. Please note that all reported results include allocations from Viavi for the five-week stub period when we were still part of Viavi.

Now that we have three months of standalone operations under our belt, we have actual run rate SG&A costs. Our standalone SG&A costs are significantly lower than those allocated to us by Viavi. For the first quarter, had we been standalone for the entirety of the quarter, our operating margin would have been 8.3%, and earnings per share would have been $0.29.

Please note that in our press release, our GAAP and non-GAAP results are qualified with the word -- preliminary. Earlier today we filed for an extension with the SEC to give us an additional five days to file our 10-Q for the first fiscal quarter of 2015.

As of today, the allocated costs and our opening balance sheet from the Viavi stub are not yet finalized. We will use the additional five days to finalize the stub period results, along with Viavi, who also reported similar preliminary results. The allocated SG&A costs do not have any relationship to the standalone costs of Lumentum but do need to be finalized for compliance purposes.

Optical communications revenue was $177 million, which was a decline of approximately 1% relative to the prior quarter driven by a $6 million decline in datacom revenues. Telecom revenues increased $6.8 million sequentially to $132.7 million, inclusive of WaveReady revenues, which declined by $400,000 sequentially.

Optical communications gross margin was up at 110 basis points to 31.5%, as we saw the benefit of cost reduction activities and more favorable mix of new products. Note, the prior quarter's gross margin to which we are comparing includes the impact of WaveReady which adds approximately 40 basis points to the CCOP segment gross margins Viavi reported for the fourth quarter of 2015. Our optical communications gross margin at 31.5% was the highest it's been in over two years.

Commercial lasers revenue was $35.6, an increase of approximately 19% quarter on quarter driven by sequential fiber laser growth. Gross margin at 39.9% declined 150 basis points, primarily due to the impact of timing of annual price reduction compared with planned cost reduction.

Reported operating expenses totaled $54.1 million, with R&D expense of $32 million and SG&A expense at $22.1 million. The SG&A expense included allocated costs from Viavi based on our expense structure as a standalone company, was a $2 million higher than it would've been on a standalone basis.

Our income tax expense was $0.2 million for a non-GAAP tax rate of 1.4%. At the time of separation from Viavi we were able to establish an entity structure from Lumentum that would allow for single-digit tax rate for the first couple of years as a standalone public company and then remain below 12% to 13% longer term. We were able to utilize approximately $1.1 billion of Viavi's net operating losses to provide Lumentum with an optimized structure going forward.

During the quarter, we had two customers that each contributed 10% or more of our revenue. Our cash balance was $142 million at the end of Q1, and increased approximately $4.5 million from the initial capitalization of about $137.6 million.

While we are not providing long-term guidance, we believe the past double-digit operating margins is in sight. First, we believe we have a high level of leverage over our operating expenses, and SG&A expenses, in particular. The nature of our business is such that revenue growth was driven primarily by increases in sales to the customers with which we are currently engaged versus adding a significant number of new customers. Second, we believe we have growth opportunities in both optical communications and our lasers business that each alone could drive incremental margin sufficient for 10% or higher operating margins at the consolidated Lumentum level.

I will now turn the call over to Alan for guidance for the second quarter of FY16, and closing remarks.

Thank you, Aaron. We project revenue for the second quarter of FY16 to be in the range of $212 million to $222 million, with operating margins in the range of 7.5% to 9.5%, and earnings per share to be in the range of $0.26 to $0.30. Our expectations for the second quarter include growth in optical communications revenue. Telecom revenues are projected to be up quarter on quarter as we continue to see increasing demand across many of our product lines, especially our TrueFlex ROADMs.

Looking to the longer term, we believe our ROADM-based products to be a growth driver for total Lumentum revenues, as we believe the North American metro deployments expected to begin next calendar year are the start of a larger cycle of network upgrades around the world in the coming years. Network operators in China who have not historically purchased ROADMs are taking steps to start deploying ROADMs within the next year.

On 100-gig telecom, we expect continued strength in discrete components. We continue to make progress in developing our 100G CFP2-ACO product based on our unique single transmitter chip approach, which will provide our customers with a higher density, lower power consumption and lower cost they need to shift away from the current discrete solutions.

Datacom revenue is projected to be roughly flat quarter on quarter. With strong customer traction we expect increased revenue this quarter from our market-leading 100-gig QSFP28 transceivers. The 100-gig Datacom upgrade cycle, which we anticipate to commence in the next calendar year, will also be a significant potential driver of revenue growth for Lumentum.

Demand for our commercial lasers is likely to be approximately flat to slightly down quarter on quarter. The December quarter is seasonally slower for lasers for semiconductor processing and applications and we are seeing softness in these markets more broadly. While not a contributor in growth in the first quarter, we continue to make solid progress on design wins for our new ultra-fast laser products and expect they will be a growth the driver for us in quarters to come.

Fiber laser demand over the long-term should be strong as the conversion from CO2 to fiber lasers is still relatively low. Our industrial and consumer revenue is expected to increase modestly sequentially. We continue to expect our 3D sensing revenue to modestly grow throughout the fiscal year as we are now shifting production volume for new personal computer applications. Furthermore, we believe this business could continue to strengthen over the longer term, as more consumer electronic devices incorporate 3D sensing capability.

We expect that our operating expenses will remain approximately flat relative to the reported non-GAAP operating expenses in the first quarter. We expect lower SG&A expenses than our reported numbers due to having an entire quarter of our lower standalone cost structure. But this will be offset by both annual salary increases and higher R&D expenses, as we continue to introduce and ramp our new differentiated products to exploit the market opportunities we have ahead.

In closing, I would like to thank our customers, our suppliers, our shareholders, and especially our employees who have performed incredibly during the first few months of Lumentum. I do believe the future is bright at Lumentum.

With that said, I will turn the call back over to Chris to begin the Q&A session.

Thank you, Alan. Operator, let's begin the question and answer session.

(Operator Instructions)

Simon Leopold, Raymond James.

Hi. This is Victor Chu in for Simon Leopold. Can you give us a sense of the volumes you are seeing around 10G in the data center, and maybe the current degree of competition relative to demand? The question I'm trying to drive at is, is there anything you can do to increase the margins in 10G? Or is that part of the business commoditized to the point where there's not too much upside left to the margins?

This is Chris. At least for our revenues, short reach 10 gig and below is a small percentage of our total revenues and we don't break that out. I think in terms of the margins on those products, I think they are what the market bears at this point.

And I think just to add to that, we have decisions to make whether or not we invest R&D dollars to redesign the 10 gig product to increase those margins were put those R&D resources in next-generation 100-gig. And we've chosen to really focus on the leading time to market 100-gig products that are coming to market right now.

Okay. Along those lines, there seems to be an increase in appetite for some of the major web scale players in deploying white box equipment. And some of your competitors use less stringent transceivers aimed at PC applications. Do you have an alternative solution for the DC application? I'm trying to drive at if there's something there that might be able to increase margins, as well, if that's something that you're focused on.

Yes. We have a whole portfolio of 100G products that will be coming to market between now and the end of next year, really focused on, what you say, really different requirements that the data centers have over the typical telecom customer of ours. And the technology ranges from our in-house indium phosphide technology and VCSEL technology to silicon photonics.

Based on the requirements of the given customers, the different technologies and applications to meet the price point and reliability differences between the different customers really drives where we put our R&D dollars. Chris, do you want to add to that?

No, I think that's very clear.

Okay. Thank you.

Alex Henderson, Needham.

You must feel great having your first quarter as a public company. Congratulations.

Thanks, Alex. It does feel good.

My first question is really on this datacom piece because it seems like you've pared out some of the products that were going into that datacom 10-gig side of it, mainly because of the pressure in the short reach peace. Is that an accurate read, that you are essentially backing away from some of the VCSEL-based products that are short reach in nature with the 10 gig?

I wouldn't say we're backing away. I'd say that the competition is getting more fierce and therefore we're losing some share in some of the shorter reach applications.

I would say, just for clarification, we have a 40-gig product that was very large volume that we weren't totally vertically integrated on. And therefore we had a less competitive product offering than some of the vertically integrated guys. That's why we're focused on solely vertical integration on all of our 100-gig products to be able to maintain that competitive nature and the margins we need going forward. So, I'd say it's a combination of both 40 gig that's really 10-gig based and 10 gig that is going to decline over time.

Could you help us get our arms around what portion of the datacom business is 10-gig, 40-gig, related that is exposed to that pressure and what portion is in indium phosphide-based, little longer reach, not under those types of the pressures, more tunable related, or alternatively 100-gig related?

I'd say that the hyperscale data centers guys have not made the conversion to 100 gig yet, and are mainly installing 40 gig, both short reach and more 2-kilometer reach type of applications. Those are the applications, frankly, that we are not as competitive as we need to be.

On the 100 gig, I could see that by the middle of next calendar year, that transition starts in a meaningful way, away from 40 gig to 100 gig. And that could come in short reach 100 gig to 2 kilometer to 10 kilometer. Today, most of our 100-gig products are going not within the data center but more between data center or intercampus, and most of those are LR4s or, really, 10 kilometer and shorter applications that we have on our CFP4 and CFP2.

Just to wrap up the question around this, the current revenue rate of $35 million is predominantly in 10-gig related products or 40-gig related products, and not in longer reach or higher speed elements? Is that right?

I wouldn't say that. We don't break down the speed of the datacom. But I would say that we have meaningful revenues today in 100-gig CFP2, CFP4. And we are starting production volume this quarter on our QSFP28, 2 kilometer and below application that we think is leading the market by months, if not quarters.

All right. I'll cede the floor. I'm not sure I got to the heart of the issue. I'll leave it to somebody else to try. Thanks.

Patrick Newton, Stifel.

On the competition being fierce on the VCSEL side of the business, could you help me understand, is that coming from your traditional VCSEL competitors? Or is this more some of the newer entrants that have been emboldened by being able to buy some components and piece together solutions?

I'd say probably the driving force is more the new competitors that are popping up, whether they are buying components and making modules -- with lower costs or lower margin expectations or not, it's not clear to me. But I'd say mostly from the newer entrants.

All right. That's helpful. And then you gave us on the pump laser that that's the highest level of revenue since 2006. I was wondering if you could give us a similar statistic on your ROADM business. And then if we think about ROADM, you talked about China being an area that could potentially be a growth driver. You talked about the metro rollout in North America. I'm curious if you are surprised by the level of strength in the ROADM business ahead of some pretty material drivers on the horizon.

Yes, I guess I was surprised a little bit in the demand on the ROADMs. And I think, as I made in comments in the script, I think it's due to the fact that we're gaining share and outperforming our competitors, and, therefore, our main customers are asking for more and more ROADMs from us that we're having to respond to.

As far as China is concerned, I was in China all last week and the customers there and the network providers are all talking about the need for deploying ROADMs, which they haven't done in the past, and I expect that to start rolling out within calendar 2016. As far as historic ROADM, do you have that, Chris? The peak was 2011 when the last of metric deployments were in full force.

We're certainly not at that level at this point.

Yes. But keep in mind, we're still deploying first office applications for the North American metro deployments. I could easily see getting back to those 2011 type levels when the real metro deployments roll out in a meaningful way. Does that help?

Yes. And then just one more, if I may, on the laser gross margin. I'm curious, is there any pricing pressure you're seeing on fiber from Amada that is keeping those margins relatively depressed compared to historical levels? Or is it coming from fab utilization or the other side of your business?

We don't comment on customers, especially when they are pretty much our whole fiber laser business. But I will samesaythat we work very closely with all of our customers to make sure that their products are competitive against their competitors. So, I would say that at the tool level, there are aggressive price expectations that, working together with our customers, we respond to. And then we need to work together to drive our costs down to allow us to get our margins back up.

I think that's what you saw in Q1, where prices went down faster than our costs have gone down. But we have plans in place to really improve upon our cost structure and drive that kind of improvement over time.

Great. Thank you for taking my questions and congrats on the first quarter out of the gate.

Jorge Rivas, Craig-Hallum Capital.

Good afternoon. Thanks for taking my questions. I wanted to dig in a little more on the ROADM product line. I'm wondering if you guys can tell us about the mix between your TrueFlex and your legacy ROADM.

Yes, we can. It's about 50%. And obviously the TrueFlex is growing and the legacy stuff is flat to down.

Right. Okay. And then, also your pump lasers, impressive quarter for those. Wondering what kind of gross margins those have. Are those above corporate average? Below corporate average? In line?

Yes. We don't break out specific margins by product line. But I will say, in general, products that have high wafer content, as we grow that business, the variable margins are above our corporate average. So, you can imagine that, as we go to new levels of revenue for products that are heavy wafer content-based, which our telecom pumps are, that you would imagine that that growth in revenue has a very good variable margin.

Okay. Excellent. And then one last question for me, it seems like with the headwinds on 10 gig and 40 gig is this affecting your -- (technical difficulty).

Joseph Wolf, Barclays.

Thank you. I had a question about gross margin which was based on a combination of mix and some cost adjustments or reductions you've been able to achieve. If we think about calendar 2016 and the annual price adjustments, how confident are you in your ability to keep gross margin flat and even show some more improvement across calendar 2016?

Sorry, for some reason we got cut off, Jorge, so if you could repeat your question, that would be great.

It's Joseph Wolfe here. I think the caller before me may have gotten cut off. My question is on gross margin. It's gotten to a higher level and I guess you based it on both mix and cost reduction. If you look into calendar 2016 and think about mix and the annual price reductions in the telecom business, how confident are you in your ability to keep margins flat or to even improve them as you go through the year?

Yes. Let me give you my view and then Aaron can add to it. I'd say that gross margin, the variables that go into it are how new our product is. And I would say that with our TrueFlex ROADMs growing rapidly, and 100G datacom, those kinds of things typically have higher gross margins than some of the legacy products. So, I would expect that as the metro deployments in North America roll out and we get continued 100G modulators in China and lasers and tuner lasers and things like that, that overall gross margins should be able to be maintained, even though we're going to have the annual price negotiations that impact both Q2 as well as Q3. So, Aaron, do you want to --?

Thanks, Alan. Just to talk about the competitive environment, it is competitive and pricing is always a challenge. We'll be heading into the early part of calendar 2016 going into price negotiations on the optical components side. But having said that, our teams internally -- engineering and operations -- have been doing a fabulous job with regards to focusing on reducing costs.

I think on our last call we also articulated that we're looking at some of our manufacturing locations and we're consolidating where we can. So, we continue to focus on getting better synergies and efficiencies from a cost standpoint.

In addition to that, we believe that, as we continue to drive more laser revenue, with higher gross margin, that'll continue to accrete our gross margins, as well. Over the last couple of quarters, the laser gross margin has been down a little bit. Some of that has been due to mix with our solid state lasers being down. In addition to that, we did have to reduce our fiber laser prices a bit in advance of cost reduction. So, we still feel very strongly we can accrete our gross margin go forward.

Okay. Thank you. And then you mentioned book-to-bill below 1. I'm wondering if you can give us, as we think about the business going forward, how much of the business you've got visibility on and how we should think about that book-to-bill number with regards to both your guidance and to how long your bookings stay in some sort of backlog that we should be thinking about when we think about modeling out for a year.

I think most of our major customers are on VMI so book-to-bill doesn't necessarily reflect demand. And while that sounds silly, it's true. As more of our business goes to more of our larger customers that are VMI, and as they take share from some of the smaller customers, we're going to see book-to-bills go down as our revenues go up. So, I wouldn't read too much into book-to-bill.

Okay. That's exactly what I was getting at. We don't want to read too much into the number you've just given. I think that's all I've got right now. Thank you.

Jorge Rivas, Craig-Hallum.

Thank you. My line got disconnected. I'm not sure why but I apologize for that. I just have one follow up on your web 2.0 business. Is it fair to say that that part of your business, it's being currently affected by the headwinds from 10 gig, on 10-gig lasers?

I would say that the headwinds on 10 gig are more in the enterprise side of the business as opposed to the web 2.0 guys. They've transitioned to 40 gig pretty much as the primary speed within a data center. So, I'd say that's more in the enterprise side where the 10 gig is still the predominant speed within the enterprises. Chris, do you have anything to add?

No. I think that covers it. The data center business, at least for us, that's primarily 40 gig and now emerging 100 gig. 10 gig is very focused on enterprise -- not exclusively but primarily.

Okay, great. All right. Thanks a lot, guys.

Tim Savageaux, Northland Capital.

Hi, good afternoon, and congrats on a nice quarter and outlook. I have a question about the pump laser comments, as well, really a couple of different questions. Obviously 2006 was a while ago and if we subtract to zero that's the cycle that we were in then. But I wonder if you guys might be able to provide any historic perspective on what you saw then versus what you're seeing now from an overall industry standpoint, given that your seeing what you've termed as historic strength in your pump laser business. And I assume that's a driving the amplifier business, as well, but maybe I'll let you comment on that, too. And then I have a quick follow.

Maybe, Chris, it may be good to go through pumps going to amps and why deployments of amps is a good leading indicator for the network.

I'd say first is that certainly industry structure has changed a bit in that there's, in some ways, effectively fewer suppliers as there's been some folks that have exited the pump laser business or become rather not so competitive any longer. Secondly, at the amplifier level -- pumps feed into amplifiers -- our amplifier business over the n number of years has come down a bit as we've had lower-cost competitors are able to make a living buying pumps from us and turning those into amplifiers. That has also driven the pump volumes up. But I highlight that we're talking about a number that's the better part of a decade. And with price erosion in this interesting you can imagine volumes are significantly higher today than they were in 2006.

You seem to indicate that maybe the strength in that business was some sort of indicator about the rest of the sector. I don't want to overstate that. But if you feel like there are implications for where we are in the cycle for the rest of the telecom business, or what have you, I'd love you to expand on that.

Correct. Yes, at least historically, and it's fairly logical that some of this, whether it be amplifiers and, in some cases, ROADMs tend to lead transmission equipment going into telecom deployments as folks basically light up fiber and they need to deploy their amplifiers from day one. It's difficult to say, does that mean we're at the beginning or the top of the cycle. I would argue it's got to be probably the beginning, given that the last couple of years haven't been great in this space. But we certainly know we are not on the down slope of the cycle given the strength in that business.

Okay. Let's hope we're not at the top.

I don't think we are.

Let me follow up with just a quick geographic question. You didn't mention much there. You mentioned China from a ROADM perspective. I wonder about -- we're seeing some indications of China bouncing back for folks more broadly. And maybe that's covered under your 100-gig discrete commentary. But if you talk specifically about current demand in China and then also whether there's anything else of note from a geographic perspective in the quarter or outlook. Thanks.

Like I said, I was in China last week and the network operators are awarding bids, as we speak, for major deployments. So, I would say that I expect the China deployments to pick up over the next couple of quarters. And I think you've heard that from some of our competitors, as well. So, we're aligned with what they're saying.

I would say that the North America metro deployments, we are starting to see the early stages of that in last quarter as well as in this quarter with our ROADMs and super blades that are going into -- again, these are just field trials but they are big field trials -- we expect those to really go into meaningful deployments in the first half of calendar 2016. So, so we should see a step up in both the transport side of the business -- so, amplifiers and ROADMs and things like that -- as well as the transmission side -- modulators, tuneable lasers, and receivers, and things like that.

Europe is a little bit of a question mark for me. I really don't have the kind of visibility I have in both North America and China. But we are seeing okay demand anecdotally from our network equipment manufacturers. But, again, we don't see where all our equipment ends up.

Okay. Thanks again.

James Kisner, Jefferies.

Hi, this is Jason North for James. I was wondering, last quarter I believe you suggested that datacom would be flat in calendar 2016, and in the script today you said that, with the 100G QSFP28 would now more than offset declines. So, you're saying now that you think it's going to grow? And, if so, then what changed since the last earnings call?

I don't recall having said that datacom would be down in 2016. What I do recall was saying that we expected it to be down in fiscal Q1. And I'd say that we are expecting it to be flattish in fiscal Q2, but that I would expect growth from our run rate or exit rate of the calendar year into calendar 2016 as the ASPs for 100 gig are significantly higher than a 10-gig product. And I think we're going to get lower 10-gig revenue, but higher growth than the reduction in the 100 gig. So, I would say 2016 will be an up year for Datacom.

Okay. And on a different note here, looking at the M&A funnel, it's been a while since you bought anything on the commercial or traditional optics side. Are you active there? What kind of targets are you exploring at this point?

This is Aaron. A good question. Again, part of our separation here is going to allow us the freedom and flexibility to be able to go and take advantage of different opportunities in the marketplace. We're going to be very aggressive in terms of what we look at and what we take on. But at the same time anything we go look at has to make financial sense, it's got to be good for their shareholders from an accretion standpoint. And although we haven't publicly released our balance sheet at this point in time, our balance sheet is in good shape. And you folks will see that when we release our 10-Q with the SEC.

Okay. Great. Thank you very much.

Dave King, B. Riley.

Thank you. Good afternoon. The first question is, you usually talk about 100 G modulators. Just wondering how they did in first quarter.

I want to say they were flattish but we expect that this quarter they will be up due to the things we talked about before, which primarily is the China deployment at China Mobile.

Got it, okay. And then regarding your ROADM business, already several questions, just wondering you talked about maybe getting back to 2011 peak. I believe that was over $50 million on a quarterly basis. Are we talking maybe doubling from here? Your run rate is about, what? -- 25-ish something like that?

We haven't said but I believe we're more than halfway there.

More than half. Got it. Okay. And then on the laser side, you expect that to be flat to down a little bit. Is that more of a -- I missed your commentary -- but is it more related to macro headwinds? I think some of your competitors are also talking about some macro related issues.

I think part of that is what's going on in the macro environment. Solid state lasers are down. Semi cap tool manufacturers are not selling as much into fabs today. Those things have been a little bit slower. There's a tiny bit of inventory digestion occurring, as well.

Is it fair to assume maybe your fiber laser will be up but then other laser business will be down, so net-net it will be flat to down a little bit? Is that a fair assumption? Or fiber laser will be down, as well?

If it's down, it's not down materially. This is a quarter where typically our solid-state lasers dips down because the semiconductor capital equipment spend in the December quarter is usually not very strong. That said, as I said in my prepared comments, our ultra-fast laser business is doing very well with design-ins. Hasn't turned into huge volume shipments up until last quarter, but I expect that will contribute significantly in our calendar 2016 results.

Got it. And then are you still trying to introduce turnkey lasers? I think that's what you guys talked about at Photonics West earlier this year. What's the status on that?

We are. We're talking to other customers outside of our main customer. But again, as I said previously, those kinds of design wins take quarters, if not a year, so I wouldn't expect to see any really meaningful revenue until the end of this fiscal year or early next year.

So, FY17 most likely. Okay. And then, Aaron, what was CapEx for the quarter?

The CapEx spend was about $12 million for the quarter.

Okay. And should we expect that to be flattish or maybe go down a little bit?

In terms of modeling near term, flattish. As you model it, you could look at somewhere in the 5% of sales range in terms of CapEx, 5% to 6%. And then depending upon the programs we've got looking forward, there could be a little bit of lumpiness.

Right. And then, lastly, regarding your 10% customers, are they the same as the ones in FY14?

We can't really disclose specific customer names but you can look at our 10-K and that will give you an idea of who they are and where they're located.

All right. Fair enough. Thank you.

Rod Hall, JPMorgan.

Yes. Thanks for the question, guys. I just wanted to follow up on the metro commentary. My main question is, since the last earnings call you talked about the North American metro builds ramping up in the first part of the year, as well. Although it sounded like, if I'm interpreting your tone right, your visibility feels a little bit better here. And I just wonder if you can comment a little bit on visibility for production rollout. Do you feel like the information you've gotten in the last quarter has caused you to think that may happen a little bit earlier next year?

And then I also wanted just to get you to comment again on long-haul DCI networking and where we stand with that, how deployments are going, and whether do you think that might be a meaningful driver of revenue next year. And then, lastly, on 100 gig in the data center, could you guys comment on whether you've seen any kind of an onboard effect ahead of 100 gig? Do you think people have slowed down on spending on 40-gig networking this year in anticipation of 100 gig? Or do you think they just keep right on rolling with 40? Sorry for all the questions but thanks a lot.

Sure. Chris, do you want to start with the 100 gig and the data center first and I'll take the metro.

Yes. I think it's difficult to say whether there's actual slowdown due to the 100 gig coming -- slow down at 40 gig. We certainly believe there is a little bit of softness in data center purchasing of transceivers here. I think that's publicly known and cloud providers have talked about that. But difficult to say whether that's due to waiting for 100 gig to come. I doubt it, given the tone that they tell us, which is they can't add it fast enough. But, yes, they are slowing down a little bit.

And as far as the metro visibility, absolutely I feel a lot more comfortable with the visibility I'm getting. It's the similar products that we're going into the main North American metro provider or metro carrier. But they're also going into other smaller network and carriers that is adding to our demand, on top of the fact that I think we're gaining share dramatically because our product works better. I think it's a combination of all of the above that actually may drive our CapEx a little bit higher in the short term to respond to that kind of demand. And I think it'll be a multi-your kind of deployment that is pretty exciting.

Your last question on long-haul and DCI, when we sell a modulator or tuneable laser, it's not clear exactly where it ends up going, but a lot of them are going into data center interconnects. And I know, as we listen to our customers, they are very focused on that business because it is driving a lot of volume. So, today all of that's being done with discrete components moving to CFP2-ACO. And I think we will be well-positioned when that market comes to fruition. Chris, do you have anything to add on that?

I think that, as you highlighted, we don't have a lot of visibility into which components are going where. They're largely the same long-haul systems that would be deployed outside of data center interconnects.

Okay. Thank you.

Doug Clark, Goldman Sachs.

Great. Thanks for taking my question. I think we've covered a lot of ground so maybe two things to revisit from earlier comments. The first was, you talked a little bit about your product pipeline, a little bit for next year, and you actually included silicon photonics. So, I was wondering exactly what applications and what technologies you were planning on addressing with that, if you could talk a little bit about it.

We haven't said specifically publicly what we're doing with silicon photonics, but I'd say that it's focused on, within data center, 100-gig applications, and primarily focused around when servers go to 25 gig. So, I think we are well positioned. We have been sampling our key customers with this product that I think, to one of the earlier questions, does change the game from what carriers are looking for versus what the hyperscale guys are looking for. So, it's within a data center, 500 meters to 2 kilometer kind of reaches that I think is the sweet spot and where we are focused on for our first silicon photonics product.

Okay. Perfect. Thanks for that detail. And then the other one was a follow-up to the M&A commentary. Wondering if, just as you look at potential targets -- and I understand accretion is the key goal here -- but if it's a combination of, within the optical coms segment, lasers, which focus you would look to expand further first.

Maybe I can talk about the one that we have done about a year and a half ago which was time bandwidth products in Zurich. It's the ultra-fast laser company that we've pulled into Lumentum now and it's a really a huge success for us. I'm really excited about the team and combining a great technology and great team with the infrastructure and go to market that we've got. So, I wouldn't rule out things like that in the future.

But at this point, I'm not sure we can talk too much about whether or not we're going to focus our M&A dollars and focus on optical coms or datacom or telecom or lasers. We are looking at all of them and when we have something to talk about, we'll let you know.

Great. Well, thanks for taking my questions.

James Faucette, Morgan Stanley.

Hi. This is Nita Marshall for James. A quick question on the OpEx. With it coming in better than your 5% to 8% guide so early into the split, was that due to attrition, or are there positions that are outstanding? I'm just trying to get at whether there are things that could prevent you from -- could there be a pause in operating margin improvement as you get to your double-digit target? Thank you.

Hi, Nita. This is Aaron. In terms of our guide you see the operating margin guide. Alan alluded a little bit to the spend rate being flattish. In Q1 we did separate from Viavi, five weeks into the quarter. We did have some lower expenses in the area of engineering, primarily due to the timing of expenses and things of that nature.

As we go forward, like we had mentioned, the SG&A model we're not going to have to add a lot of SG&A costs as we go forward. So, as volume increases we're going to see that fall to the operating margin line. We will be aggressive and continue to focus on development of new products, so we are going to spend money in R&D. And that's how we're going to continuously accrete our gross margin with these newer products.

Having said that, we do have a tiny bit of headwinds because we do have some merit increases here near term. And then as we get into next quarter, the March quarter, we do have payroll tax reset and some of those types of things that happen.

Okay. Great. Thanks.

Michael Genovese, MKM Partners.

Thanks a lot. It was great to see the North American metro build reflected in your sequential ROADM numbers. My question is, do you expect that this will pull through your transmission components in future quarters? Are you expecting that to happen? Do you have the right technology form factors for the transmission side of the equation that the Ciena and Ciscos are looking for, for the AT&Ts and Verizons of the world?

Yes. We are a very large player in the discrete components. 100-gig modulators are expected to increase this quarter. Tuneable lasers, the same. So, I'd say, at least for the foreseeable future, we're doing quite well and we expect those transmission products to follow the transport products.

That said, there's a lot of focus on CFP2-ACO and we do believe that, with our unique technology approach, while we might be behind in sampling customers compared to what some others are saying, I would say that our technology approach will get us the kind of manufacturability and cost structure to rapidly take advantage of that market, as well.

And then, secondly, I wanted to reconcile some of the comments about book to bill and VMI with some of other comments about allocation. Do ROADMs ever go into VMI? Would ROADMs be in VMI? And if so, how does that reconcile with when they get onto allocation?

Our largest customers have all of their products go on VMI, regardless of allocation or not. We love our customers and we do what they ask us to do, and make sure we treat them fairly so they don't miss opportunities. We're increasing our capacity on our ROADMs and our super transport blades, which is the primary product that goes into the North American metro deployments. And those are all going through VMI. So, as those grow, you're not going to see an increase in book to bill.

Got it. And then, finally, if you could just speculate two years out from now -- that comment you made was interesting, about China wanting to deploy ROADMs for the first time. What could you imagine a couple years from now China being as a percentage of overall ROADM sales?

Higher than it is today, which is zero. I think that the number of nodes in China, I could imagine over time equating to what we're talking about with the major North America metro buildout. I think we will have to have a new generation of ROADM to be able to meet the market demand in two years. And we're working feverishly on driving continued cost reduction and performance improvements of our ROADM products that should allow us to continue to grow in 2017 and beyond.

Great. Congratulations on the solid quarter. And thanks for the questions.

Thank you. I'm showing no further questions at this time. I would like to turn the conference back over to Mr. Alan Lowe for any closing remarks.

Great. Thank you, Tamara. Momentum delivered on our first quarter as a public company. Our new products such as our TrueFlex ROADMs, 100G datacom transceivers and new commercial lasers are winning in the market. Our team is really excited to support our customers, grow our business and create shareholder value. We will be discussing our business at several investor relations events in the upcoming weeks. These events are listed on our supplementary slides provides on our website. And as we add new events they will also be listed on the website in the Investor Relations section. This concludes our call for today. We'd like to thank everyone for attending. And we look forward to talking with you again in another three months.

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