Q2 2020 Infinera Corp Earnings Call
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[music]. Thank you operator, and good afternoon, woken Infinera second quarter fiscal 2020 conference call a copy of today's earnings and that's the slides are available on Investor Relations section on the website. Additionally, this whole thing reported in will be available for replay from our website. Today's call will include projections estimates the cost to 14 States I think.
Putting would not limited to save us about if its plans, including our product road map sales growth market opportunities manufacturing operations product technology and strategy statements regarding the impact to covert 19 alternative plans are results of operation.
Well the statements regarding future <unk> future financial performance, including our financial outlook for the third quarter over fiscal year 2020.
These statements are subject to risks and uncertainties that could cause infineras results to differ materially from management's current expectations.
Actual results may differ materially as a result of various risks factors, including those set forth in our annual report on form 10-K for the year ended on December 28, 2019 as filed with the FCC on March four 2020 at our quarterly report on form 10-Q for the quarter ended March 28, 2020 as filed with the FCC on May 15 2020.
That's what was the earnings release in Investor slides furnished with our form 8-K filed today. Please be reminded that all statements are made as of today and Infinera undertakes no obligation to update or revise any forward looking statements to reflect [laughter] air rights. After the date.
Today's conference call include certain non-GAAP financial measures pursuant to regulation G., we provided a reconciliation to non-GAAP financial measures to the most directly comparable GAAP financial measures in our second quarter fiscal year 2020, <unk> earnings release.
That's just what each of which is available on Investor Relations section of our website I'll now turn the call over to our Chief Executive Officer, Tom Tom [noise].
[noise] good afternoon, and thank you for joining us similar to last quarter I will begin with an overall summary update and then provide an overview of our Q2 results.
Outlook for Q3.
Before I proceed we extend our continued appreciation to those serving humanity around the world and the ongoing battle with gold at 19.
Summary perspective, I'm pleased with the team's execution in the quarter from a financial operational and technical perspective, making consistent advances all fronts.
We continue to see steady bandwidth growth globally. This is driven by the increasing adoption of bandwidth intensive applications like fiveg and the growing requirement to move massive amounts of data across long distances.
Well beginning to see tangible opportunities emerge as a result, a customer a concern for a while ways position in their network infrastructure and the recently increased government pressure.
We see this global trend does it just beginning and believe that while small today. It represents a catalyst for significant growth opportunity overtime.
The industry migration to open platforms provides us a clear insertion path for the significant opportunity.
We are proactively managing the operational impacts of cobot, 19, and they're continuing to take the necessary measures to reduce cost and improve working capital utilization as macroeconomic uncertainty for our industry continues.
And we're encouraged by the opportunity created by our Isix solution as the market ready spur a new technology cycle, driven by ever increasing demand for network capacity.
Having clearly demonstrated performance leadership, what is now a very narrow competitive field. We believe our 800 gig capable gtx platform will position us to expand our leadership in the fast growing this aggregated optical market.
Our schedule for first customer shipment remains in place for the end of the year.
Moving to Q2.
We delivered solid quarterly results that met or exceeded midpoint guidance on all GAAP and non-GAAP financial metrics.
We achieved year over year broke up 8% and we significantly improved our financial performance.
In year over year comparison of quarters, our results show, a 10% reduction in operating expense and an 80% improvement in operating income.
While significant work remains we believe the positive trajectory speaks to the opportunity we have as we continue to more fully leveraged the assets of the company.
We are actively navigating through some business impacts from cobot 19.
In regard to supply chain challenges conditions have improved from last quarter, and we're still experiencing some delays in incremental cost as many countries continue to maintain public health restrictions that have impacted their production and delivery capabilities of our vendors.
Furthermore, some customers continue to experience logistics and facility related challenges that impact the timing of their network plans.
Our bookings remained solid in the first half of 2020 and increase compared to the same period in 2019.
From a regional bookings perspective, our tier one in tier two operator business in North America in EMEA remained strong in the quarter.
Record bookings for a major APEC customer contributed to improvements in that region. As we continue to recover from bookings weakness because the early impact from Kobe's 19 in Asia.
In or I CP business orders were flat with Q1, but behind plan after significant shipments in the prior quarter.
We currently anticipate bookings growth in the <unk> market in the second half.
Cable bookings came in as expected in Q2 showing growth quarter over quarter in year over year, the behind our outlook at the beginning of the year.
In sub sea or current generation of ice technology continue to drive success with new expansion opportunities in a pack and the completion of a new deployment with a Raj in West Africa that we announced last week.
As we forecasted in our last earnings call. We also received the first still expansion order from the tier one sub sea consortium build we highlighted last quarter and order, which will contribute to margin expansion for this project when it ships later this year.
Turning to products and technology highlights.
At the edge of the network, we continue to see demand for bandwidth expansions in wireless and cable infrastructure.
We continue to expand business opportunities in the metro space for the portfolio solutions optimized for evolving macro trends and market drivers.
During the quarter, we achieved significant year over year revenue growth with our X 10 platform, resulting from new Fiveg builds while significantly ramping volumes of BRL 30, disaggregated, rather deployments to support Fiveg, driven mobile backhaul capacity needs.
In the core of the network the drive to open compact modular platforms in the market continues to create opportunities for our group solution today, while preparing in certain opportunities, but our leading 800 gig transponder tomorrow.
In Q2 group continued to perform well evidenced by substantial year over year bookings and revenue growth and expanded delivery of our 600 gig offering.
In Q2, approximately half of our group bookings came from non I CP customers as purpose built this aggregated platforms continue to penetrate and gained momentum in traditional carrier architectures a trend we expect to continue.
Highlights during the quarter included the first 600 gig shipments to a major I C. P for long haul applications that will run over both our own and a competitor's line system and a meaningful 600 gig win with one of Europe's leading research and education networks.
While we're still in the early stages of ramping 600 gig, we more than doubled 600 gig port shipments in Q2, when we grew our 600 good customer base to 16 as the market continues to take advantage of the lower dollars per bit provided by this currently available technology.
On the new technology front, we could not be more delighted with the proven performance of our vertically integrated isix solution.
In recent real World network trials, with Verizon and Windstream I sick achieve transmission distances that are three to four times out of competitive alternatives and greater than two times that a competitive solutions at 600 gig.
Hi, six performance advantage translates directly into lower cost per bit lower power per bit in greater fiber capacity. The three most significant buying criteria use by network operators in vendor selection.
The Verizon trial was conducted on life fiber plant that included a challenging fiber type reinforcing the opportunity for isix to deliver massive economic impact to metro regional and long haul applications.
These results were have clearly evidenced the superior performance Devicix.
Our expectation is that network operators can achieve network life savings of up to 65% over currently deployed technologies and up a 25% over competing 800 gig generation offerings with this technology.
I think made significant progress on this front, we're already seeing our isix performance influencing network operator buying decisions today.
We believe the combination of our leading optical performance the very narrow field of 800 gig alternatives and the evolution to open in disaggregated architectures and carrier networks positions us well to penetrate new market opportunities and gain market share with our gx platform.
This opportunity is being accelerated by the growing security and supply chain concerns many of our international customers and prospects now openly expressed about the Chinese vendor Wally.
Lastly, we're also continuing to invest in XR optics longer term and game changing pluggable optical technology that we believe will redefine how aggregation network architectures would be built.
Early in the development cycle. We believe this innovative technology represents a meaningful opportunity for infinera by enabling massive operational economic benefits to our customers.
As we advance the technology and deepen our engagements customers increasingly recognize how ex our opex can reshape their future fiveg in fiber deep network architecture field significant capital and operating cost improvements.
Collectively I, six gx and XR optics positions, our company to intercept the most significant market trends and the optical networking space.
Differentiated by the performance advantage created by our unique capabilities in vertical integration, we intend to lead the industry through the market transition to the next generation of high speed optics compact modular platforms and network Pluggables and we ended the liver unprecedented customer value, creating a path to step by step function improvement in the gross margins of our business.
Looking at Q3, and the rest of the year, we see continued improvement in our ability to predictably deliver goods and services to our customers, but do not expect all supply constraints to go away.
For example, we are beginning to see certain cobot 19 related second quarter effect shortages caused by component factory closures closures from earlier in the year floaters that are now affecting the availability of certain assemblies.
We also continue to expect inbound and outbound logistics challenges given the drastic reduction of carriage around the world.
This is impacting both cost and customer satisfaction.
I extend my appreciation to our customers and supply partners are working closely with us to mitigate the impact of these challenges.
Take into account. These considerations, we do expect our second half 2020 revenue to grow compared to our first half, but the evolving cobot 19 situation could cause revenue growth to be muted in comparison to our pre cobot 19 expectations.
On our Q1 conference call, we highlighted a variety of measures we enacted to reduce expenses than expected savings of 5 million to $7 million a quarter from our Q1 20 opex level. While these savings are on track as we head into the back half of 2020, we're continuing to drive further operational efficiencies, which should yield an incremental 3 million to 5 million in opex.
Savings during the back half of the year.
These additional measures are designed to enable us to enter 2021 with a lower cost structure and help accelerate our progress toward our target business model.
In summary, well our near term view factors in expectations of ongoing challenges associated with the global pandemic, we remain extremely optimistic about the opportunity we see for Infinera. Our optimism is driven by customer response to our differentiated optical capability and confidence in our ability to deliver disruptive solutions to the fastest growing segments of the market.
In addition, we see a unique window of opportunity with a combined effect of Wally displacement and move to open network architectures and the dramatic narrowing of competitors in the high performance high end optics market space I will close by thanking our customers and employees for their ongoing support with that I'll now turn the call over to Nancy.
Good afternoon, everyone. Today I will begin covering our Q2 results and then provide a framework from which to think about Q3 and the remainder of the year as always my comments reflect our non-GAAP results for your reference we have posted slides with financial details to our Investor Relations website to assist with my commentary.
Despite the ongoing challenges associated with the Cobot 19 pandemic I am pleased to highlight that our results for the quarter include year over year growth in revenue decreased operating expenses and strong operating margin improvement. The efforts, we have undertaken to drive operating improvements and inventory reductions.
Our showing progress as demonstrated in our results.
Q2, non-GAAP revenue was $332.6 million above the top end of our outlook range of $310 million to $330 million and up 8% for the same period year over year, one customer contributed over 10% of our Q2 revenue.
Our geographic mix was skewed more toward North America with 50% of revenue coming from this region driven by ongoing strength from our tier one customers and solid growth from our cable and other service providers.
Non-GAAP gross margin was 33.8%.
Above the midpoint of our 31% to 35% outlook range as we saw improved sales of our view vertically integrated products the positive impact of cost reductions starting to flow through our piano and a return to a more normalized net of line modules and fell as we have shared previously our gross margin it's tightly aligned to the.
The level of revenue from vertically integrated products, which is why the lunch and subsequent ramp of our vertically integrated ice six will be so important to us as we move toward our targeted business model.
Our Q2, our Q2 non-GAAP operating expenses were $118.3 million better than our 120 $224 million outlook range, a demonstration of our cost saving efforts, we remain committed to maintaining appropriate investments in the key technology programs driving.
Our innovation pipeline at the same time, we remain acutely focused on cost discipline and actively bringing down our overall operating expenses. Our objective is to enter 2021 with an efficient fixed cost structure that will drive more operating leverage when we ramp I sex.
In Q2, we recognized a non-GAAP operating loss of $6 million or negative, 1.8%, which was within our guidance range.
Our non-GAAP EPS was a loss of nine cents.
We ended the quarter with $224 million in cash down from $284 million exiting Q1.
During the quarter operating cash flow was negative $37 million, which was improved from a 92 million dollar usage in Q1.
With the end this $37 million was $25 million in one time items, driven primarily by severance pay to employees inline with the previous outlook we had provided.
We continue to see the results of the focus placed on our supply chain optimization efforts with the 31 million dollar reduction of inventory in Q2, we have now reduced our net inventory by more than $50 million and the first half of the year against our stated objective of $80 million for the full year.
I'd now like to share how we're thinking about Q3 and planning for the remainder of 2020.
We currently anticipate Q3, non-GAAP revenue and the range of 325 million to $345 million and expect to non-GAAP gross margin to be in the range of 32.5% to 35.5%.
Included in this range is unexpected line system demand from tier ones and preparation for growth and door insertion of new technologies in the future.
We are continuing to drive the upward trajectory on gross margin through the year with healthy demand for bandwidth from customers for 600 gig and strong interest in our 800 gig solutions in parallel we are facing headwinds from cobot 19 that are still impacting our supply chain efficiency and cost.
As we look through the end of the year, although gross margins are expected to continue to improve throughout fiscal year 20.
Certain customer adoption processes have been protracted and have impacted the margin expansion timing, we outlined pre cove it by approximately one to two quarters.
Fundamentally our plan to expand gross margins to our targeted mid 40% range with step function increase is tied to the level of vertical integration remains sound our optimism about our ability to achieve this model is underpinned by documented results from our Isix trials anticipated first shipping.
Later, this year and subsequent ramp in fiscal year 21.
Tom described these cost cutting efforts, we are undertaking as we drive operational improvements our current expectation for Q3 is for operating expenses to be between 115 million and 100, an $18 million and we are working on an additional three to 5 million dollar of quarterly Opex savings by the end of the year.
We will continue to focus our investment in key programs designed to increase vertical integration and expand gross margins.
Finally, we expect a non-GAAP operating margin loss of 1% plus or minus 200 basis points.
Below the operating line interest expense will be approximate will be approximately $6 million that Q3.
We continue to focus and make systematic progress with our cash management efforts are working capital efficiency efforts discussed earlier are intended to improve our operating cash flow and 2020 in Q3, we expect that we will again be utilized cash from operations and then returned to generating cash.
From operations in Q4, our operational improvements are taking effect with inventory reductions and focused investments on key programs. It is important to note that the previously outlined approximately $80 million and cash outflows due to onetime items carried forward from 2019 will be behind us as we exit the.
Here.
We are focused on achieving the revenue growth and margin expansion expected from the launch of Isix and from new from new and existing customers. Additionally, we have an open window of time to take advantage of the growth being driven by changes in the competitive landscape with Wal way under pressure and a substantial customer and.
Interest, resulting from our 800 good performance, we need to balance these growth opportunities with the increased time to certified new products that we are experiencing due to cobot 19 restrictions.
Taking all of this into consideration we will be prudent when it comes to adding cash at the balance sheet with our first priority being the ongoing work towards self generation of cash through working capital improvement operational efficiency and gross margin expansion.
As I reflect on nearly a year at the company. We have made positive steps forward and have significant customer and operational opportunities in front of us, namely we completed the Korean acquisition on time with synergy is greater than our targeted savings plans.
We have now shifted those efforts toward operational efficiency, which are resulting in cost reductions through automation and process improvements.
The step function working capital improvements are challenging time consuming and starting to bear fruit with the reduction of inventory and improve dsos.
The market demand for bandwidth continues to increase and Infinera is positioned to grow with it.
The next wave of technology with ice six is eminent and I see a path to our target business model, although a quarter or two behind my original pre cobot estimates.
And finally, we are investing and the highest growth and most profitable areas of the market to drive customer and shareholder value.
In closing I'd like to thank the emptying their team for their unwavering effort and these challenging time.
I'll now turn the call back to Tom for some additional comments [noise].
Thanks, Nancy before we close todays call I'd like to announced Infineras leadership succession plan that will be implementing in a seamless way in the coming months.
2020 marks my 17th year with Infinera, and my 11th year as the company CEO.
When I joined Infinera in 2004, we were true startup, we had exciting plans and no revenue.
When I took the held the CEO and 2010, we were a one product company delivering 10 gig solutions for the long haul and sub sea markets primarily to wholesale customers.
In the past several years Infinera embarked on a journey to significantly expand our solutions portfolio and deliver enhanced value to our broader set of customers, while redefining high speed optical networks the technological innovation.
With Isix reclaiming performance leadership, and our again, bringing revolutionary technology to the market as we prepare for the rollout of our next generation Gx platform.
Building on this strong technology foundation with a deep bench of expertise and tell I.
I believe now is the right time for Infinera to transition to a new leader.
Many of you come to know our Chief operating officer, David heard on these calls.
When David Joint Infinera three years ago, one of our objectives was to bring a C O onboard that could be groomed to seamlessly take over as CEO at the right time.
David its contribution since joining the company have been substantial scaling our market position as they let us through a major acquisition.
Successfully driving an aggressive synergy plan to operational improvements and aligning our product and service portfolio through focused investment on the highest areas of value for our customers and shareholders.
Today I'm pleased to announce that they will be assuming the role of CEO by the end of year.
I couldn't be more pleased with the board selection of David as Infineras next CEO I have the but most confidence in David's ability to successfully lead the company in the next phase of growth.
Despite these changes my commitment to Infinera and believe in its growth potential remains unwavering.
And I'm pleased to continue participation in the company as a board member.
In this capacity that will assist David in the CEO transition and continue working closely with the company's extended leadership team and employees.
We'll also continue to nurture the many customer relationships, we have developed over the years.
In conjunction with this transition we're also announcing that Camby's hirschmann will be stepping down as chairman of the board simultaneous with the CEO transition.
Can be it has served as chairman since October 2010, and I together with a whole board. Thank him sincerely raise longstanding and dedicated commitment to infinera.
George Bridal will be elevated service chair chairman of the board when can be steps down from that rule.
We're very fortunate to have someone with Georges industry experience knowledge and strategic leadership abilities stepping to the chairmans role and partner with David as he assumes the CEO mental later this year.
He successes succession changes have been thoughtfully plant and we anticipate a smooth transition.
I am deeply appreciative of the opportunity to serve a CEO over the past decade.
Look forward to helping Infinera and the next phase of our journey.
As a member of the board.
But that will turn it over to questions.
Thank you we will now begin the question and answer session to ask your question you May Press Star then one when you touched on.
You are usually speakerphone. Please pick up your handset before pesky does that anytime. Your question has been addressed you would like to withdraw your question. Please press Star then too.
First question is they will come from Alex Henderson with Needham. Please go ahead.
Thank you very much.
Operator, I asked a question, but also for the strong print.
I was hoping you could talk a little bit about.
800 gig blades.
Or.
Line cards to what extent they can fit in existing chassis instead or in the field that have already been deployed.
Both.
In terms of legacy footprint.
In Panera.
Systems as well as on the Korean side.
For instance, just as an example is it possible that somebody like a century link that go back and upgrade.
There are long standing backbone with you guys.
With an 800 gig.
Some of the changing Apple line cards, and similarly can they do that existing.
Print in the.
Yes.
Hi space.
Yes, thanks, Alex So look from an 800 gig standpoint will we will have a portfolio approach out to the customers. The first area, where we see the most demand is actually the highest growth sector, which is in the compact modular portion of the business and so the compact modular portion of the business will.
I have a series of form factors available for sizes and shapes for IC fees, and Csps and that'll be a continuation of the group platform.
And then obviously as we go out to the rest of the world.
I will look at the various cards that we want to make available for our customers, but most of them are demanding that in the compact modular format on our flex line systems as we go out and more importantly on open line systems, which we've seen a huge uptick over the last three to four quarters and the insertion.
For Trinity for.
If I could ask a second question.
There was talk about.
Paul if occasion process on the 600 gig.
Yes product going into.
Hi space.
Here one player I haven't heard an update on that I was wondering if you could give us an update on whether they have.
Qualify that in our yes, there for position to start to take delivery Institute into age.
Yes, so on the last call I said, specifically that there were two tier one scale I see piece that we're in a qualification planning.
And I said on the call one of them. We began shipping two in Q2 for long haul applications I. It was an initial while long haul rollout with this I CP. So one of the two certified the product one of the two has actually begun deployment in Q2, and we will continue deployments in other mark.
In Q3, that's for long haul applications and as David pointed out this is important.
The first application goes over some of our wine systems and also some of our competitors line systems and this whole moved to open I think speaks very well to our roadmap of quite frankly, our mission build the world's best lowest cost transponder, the second ice CP or that I referenced.
Was that they had to delay the certification process. Their lab was shut down for the quarter of Q2.
We are now in that lab. The process is just starting so I would qualify my view as the plan is the same my expectation is the same we don't control the answer, but it'll probably be a one quarter delay from what we had anticipated on the last earnings call.
One of two done.
So I wanted to go and that was for a data center interconnect application, which quite frankly drives more volume.
Just just to be clear if it goes and if it's in the lab now generally the timeline to get their qualification is less than a quarter.
Would that be then something that would start to ship in fourq, you or would that be more into first half of next year.
We are driving as hard as we possibly can they had to be a Q4 shipment Alex.
All right I get it.
Just one last question on me.
Modeling side of the equation.
You obviously have a.
Pretty large fourth quarter historically.
Do you expect that typical seasonal pattern.
Assist or.
Given the constraints that you've been seeing maybe more of a.
Flattish sequential.
From the September quarter into the December quarter, how do you thinking about.
That in this environment.
Yeah. So traditionally Q3 is seasonally down you've seen that you know our guide is I'll say flat to slightly up just based on what we're seeing today Q4, although visibility isn't perfect at this point.
I would expect to see that continue to trend up I'm gonna have to reserve how much at this point, but certainly we see the uptrend going through the year.
In my script, Alex as well, we I picked these were carefully we see second half revenue being greater than first half revenue and I wouldn't have said that you know if it was.
Very narrowly above there has to be some level of comfort or no guarantees in life, but our view is obviously Q4 will.
Be relatively healthy in comparison to Q3.
Super Thank you for the.
The question.
I'm, sorry to see you retiring, but I guess its a.
Good thanks.
Uh huh.
Got off line Alex Thanks, Thanks for your a years about being a great analyst force. Thanks.
And the next question will come from metal Marshall with Morgan Stanley. Please go ahead [noise].
[noise], we're getting nothing but static going up.
In the mid afternoon, please dial back in and see if you can get a better connection in the meantime be next question will come from Rod Hall with Goldman Sachs. Please go ahead.
Hi, This is monitored young corrado, thanks for taking my questions and congrats and good quarter.
Tom My best wishes.
Yeah.
Thank you.
I want to stuff.
I can pick it up in Stockton, who lobby so you mentioned opportunities from.
Backlash against that you're seeing the UK and probably some of the Austin the your past.
Maybe some parts that on how you're thinking about the timeline on this opportunity exists for next year.
More longer Tom you put on back and they got caught up.
Yeah, I think you know interestingly enough, we watched the wall way that kinda geopolitical pressures for a period of time right now and there was always a question whether it was a real are part of a long or larger political game and I'm a completely changed my opinion that it's very real and people are customers are under it.
The absolute necessity of evaluating it making change.
We've seen the first part of that we saw some in Q2 small amount of revenue, but assume that went our way.
We also saw another small one in Q3, and it's really not the beginning of the process and where we're replacing law. We're in a competitive bid, it's I sort of Wally and now it's falling to US. We've also seen our first RF Q for a very very large opportunity.
Where it is specifically around displacement of while way network I think those large opportunities, we'll take a while to transpire. So my guess is in the short term when you're in a bake off in wally's participating they're really not participating or they might still be used to drive down price, but not really participating.
In the medium term I think theres going to be significant opportunity.
For true replacement of while way networks. This is not being viewed as a game it is real and customers are fairly.
Obviously concerned but starting to execute already on this new model I think it's quite frankly for a non while a person it's a once in a lifetime opportunity.
That's most brilliant.
On that.
I want to touch upon the.
And at the highest thoughts and that is on it that customers. So could you could you maybe give some color on.
Feedback that you got kicked off the taught it that is such that the customers and in general like how you're thinking about the timeline for qualification because some of that maybe actually deployments any thought on that thanks.
Yeah. So the trial response has been overwhelming.
There is really fascinating to watch before we did these trials and even when we just did the first trial there were lot of pundits and the industry that talked about what we were doing was physically impossible that we were playing engineering games that we're using special fiber and as we did the Verizon announcement and were very specific that it's a live network with life.
Traffic on standard fiber thats been in the ground for a long time are the results were overwhelmingly positive it quite frankly shopped, the Verizon folks into small world.
The ripple effect of the butterfly wing effect of that hasn't gone around the world.
We are seeing and an incredible increase in request for trials.
More than we can actually in the current environment deal with.
But before we talk about deployments I want to make sure everybody knows it's our job to deliver this product this year and that's where we have to focus our attention I believe that the customer demand is significant weve had customers already commit that they want to roll this out.
But I don't want our company to be distracted by that what we need to do is bring this product out with exceptionally high quality. The performance is clear I think there's going to be abundance of market opportunity both because of our.
And quite frankly, standalone performance from an optical capability. It translates directly to cost it allows customers to build with 800 gig.
Works that they fall had a constraint of about 400 gig, it's a really big deal our job is to deliver this product we have a customer that has signed up for delivery in Q4, our job is to satisfy them.
Yes. Thank you I think the economic results from these trials I think we're pretty profound so I think what we saw that by being able to carry traffic three to four times in a network you that when we look at kind of competing technologies, there's a huge ability to reach.
Metro areas that couldn't have been reach before as people contemplated 800 gig and that resulted again, what Tom talked about as the fourth time for each advantage at 800 gig and a 25%.
Reduction and the overall cost to the service provider, that's 800 gig the 800 gig and a significant costs from generation to generation. So again to Tom's point, we'll as we go to ramp that product. This isn't our first vertically integrated product as a company.
First rolling out on that compact modular platform and getting out into the network.
We get certifications we go through trials, we go through initial implementations and then it scales.
I think we've been relatively consistent that we've talked about that scaling really as we get into the back half a year contributing significantly to a step function increase in margins.
Half of next year step function increase in margin.
Thank you.
And the next question will come from Middle Marshall with Morgan Stanley. Please go ahead.
All right could you give hear me this time.
Much better that's sounds great Alright, beautiful, who said work from home and Cmos Alright.
So on you know just a quick question on I know, it's impossible to necessarily quantify but just kind of what you think the supply chain chain overhang is right now and is it more concentrated on one particular product or just any quantification or narrowing of.
Supply chain overhang, and then you're cutting opex quite severely clearly you know managing a lot of expectations, but how do you balance some of the cuts in sales and marketing with what you know seems to be a more open landscape in Europe with well wait displacement opportunities. Thanks not.
So those are those are great questions I think first from a from an overall perspective on the supply chain side look we saw some porting happen and as we exited Q1 and into Q2 of certain pluggables in the industry.
There's a hangover impact when you're looking to ship.
In order complete and at least every Pluggable every power supply every element.
You know, we've just seen a portion of those hang up from quarter to quarter and as you get to the ended the quarter. Our industry. Unfortunately is shaped a bit like a hockey stick as you as you exit the corner and so the kind of freight and facilities that allow you to ship out in the last week or two as a quarter aren't as open as they used today.
And so it is that we talked about that contemplated range in our guidance in Q1, we just baked in.
To the range into Q3, and we baked it into the range into into into Q2 as well. So you know we're keeping a watchful eye, we're being cautious in terms of the margin outlook for the business.
Contemplated because we just think there are those potential still to be able to hit us as we look at the numbers on a worldwide basis, and we talk to our client base.
From a cost basis, we are flipping are our investments very very high on the fastest growth markets that we see happening in this new open optical world. We're very encouraged by the adoption of open line systems and as Tom said, the best transponder wins when you look at the bill of material for our customers and the the.
The price performance that that provides them in their network with bandwidth growing.
At at a dramatic pace, so our R&D investments continue nailed up on compact modular on Isix I'm, putting in the next phases beyond that or what our next optical engines are on intelligent pluggables as we go forward. So we're keeping R&D very focused on where we think the market is going.
Where we're able to get some of our sales and and or our SDMA numbers down is as we went through the integration we installed systems and processes that we had to put in place as we went through the integration now we're able to transform them and get better operating cost effectiveness throughout not only our sales and marketing fortune.
Using salesforce dot com.
But as well in our supply chain and our finance team and our team and across the company. So that's where we're really really finishing down and obviously given where encoded times. There are some some in eight savings that we're getting in terms of travel and other costs.
That we're benefiting from in this period.
I don't want you to walk away thinking that we're going to go star of a customer base, while we're bringing out these great technologies that has not.
The plan at all as David articulated we bought 0.2 years ago, we deployed an ERP system, one year ago. Once you get the ERP system running there's massive amounts of automation that you have to do to basically effect all of the manual work that goes along those are starting to come into a being as we speak.
So we've now own corina long enough. We understand you know we had a very brave broad footprint of both sales people around the world, we understand where the opportunities are we also understand where the opportunities art art and we are refocusing a more toward where the opportunities are versus chasing goes.
We were not going to do that.
Yeah, I think one of the things on the supply chain stuff I think I agree with everything David said people are under estimating the impact of logistics stuff right now that mix volatility at revenue recognition time much more difficult at the end of the quarter used to be if you ship something on Tuesday, you knew it would be somewhere by Friday for revenue recognition.
If you ship something it might take 14 or 15 days, so don't underestimate the lack of.
Precision around that part part of the equation, that's for incoming material and outgoing material as well as a cost premiums can be viewed as 50 in sometime 70% yep. So.
Got it okay I appreciate it.
And the next question will come from George Notter with Jefferies. Please go ahead.
Hi, guys. Thanks, very much Tom we're gonna, Georgia, we'll Miss you.
Hi, guys can hear me.
Yes, yes, not unclear Tom are great Tom Tom we're going to give you in these doing these recalls and a intra quarter conversations but.
Welcome David certainly I guess I wanted to.
I ask you like why did you feel now was right time to transition out of the CEO role I mean, it seems like a the company is really turning a corner here and getting new products out in India, certainly on top of yes.
Should lead to more success the marketplace.
Why is the timing would it is thanks.
Yeah, George Good question, and it's something I've thought about for awhile and contemplated for awhile and I'll just give you a few.
Things.
I do believe philosophically that a CEO has a natural tenure of how long they should be in a role.
I think that there's a need for everybody to recognize that they have it's and it's a job that you have to earn every day and people who stay in a role to long become a figure instead of earnings that job and I'm I always said to myself I would not allow that to happen and I watch.
With Ceos I watch it with coaches I watch it was board members and I do believe a transition should happen candidly when things do look like they're in a better position I'm very proud.
I'm not done yet of getting so our 800 getting to market would have felt yeah. It's a technology wasn't robust and differentiated.
That it wouldn't be a difficult time to transition.
I also think over the last three years since David been onboard we really rebuilt the entire leadership team fundamentally for the next challenge next growth phase that's been in place now for a couple of years. So I think from my perspective.
I'm going to be careful of.
Making sure what I leave I'm still have felt like I needed to earn the job to David's ready a three more importantly, the team is ready and I do think that there is an opportunity with our technology position in our product position.
Hopefully have an opportunity to hand, it over where they can drive it to where we think it can go versus in a negative spot.
Super Thanks very much.
Well go and one other thing too this is important the I'm not leaving the company.
I'm going to be a board member a about continue to be a board member and David has asked me to be an active board member both to help him and the transition but also you know.
I Love the company I Love the people a big believer in it.
And I'm going to help David to the best of my abilities to continue on the traditions that had been important to me.
Thank you.
The next question will come from Jim Suva Citi. Please go ahead.
Thank you very much and Tom a congratulations and it'll be difficult to see retired parts are hats off to you for a nice job really long duration there.
My question is certainly a long duration that's right [laughter].
Some great times. Unfortunately, that's for sure, but you really can't say that's for sure you've been through cycles that being said you mentioned I believe on your prepared comments that your margin goals, maybe pushed out a couple of quarters can you remind us of the timeline I think it was deemed long term margins and now when we're talking about.
A quarter to it seems like you've got more visibility into a timeline that those or how should we be thinking about statement and timeline and such.
Yes, sure so at the beginning of the year. When we came out of Q4 before Cove, Ed we laid out a plan at that call, which left out into 2022 and looked at step function improvements in gross margin of 200 to 400 basis points, a year I'm going through those three years to bring us.
To that mid 40% range, what I'm, commenting on now as you know now that we're in and the time of Cove, Ed, we're probably going to be delayed by one to two quarters, there, but the fundamental achievement of mid Fortys is absolutely within our grasp and it's all about the level of her to kind of vertical integration.
And as the percent of vertically integrated products are sold and generated in our revenue that's when you'll start to see the real step function up the largest of which in the near term is the 800 gig.
Great. Thanks, so much for the clarification, that's going to be appreciated.
The next question will come from Michael Genovese with MKM partners. Please go ahead.
Thanks very much on my first question is are you guys see any other 800 G.
Our products.
But coming to the market or that will come to the marketing 2021. Besides.
The one from Seattle that we all know about and yours.
Well, we've seen walkaway do a demonstration it was very very limited reach I think 80 or 100 kilometers and we've had a hard time getting any real GE to on it.
But considering the markets. We now serve into markets that we're always going to serve we don't see any other 800 gig.
Technology coming to the market next year.
I've seen one competitor announced that they plan on bringing something to market.
Next April, but they're not a vertically integrated manufacturer so I'm not sure how they're going to pull that off.
So I don't think that next year at least from anything that we see there'll be other 800 gig alternatives. So that you mean.
Two magnificent things I'll walk away being pinched out and competitive market narrowing the too.
It's really significant.
Great and then as we as we read these.
Trial announcements on 800, G, which look impressive and as we look at you know use data sheets for your new products.
And what should we.
You know a focus on as we compare the product versus the competitors.
You know what metric should we be comparing it as we try to decide.
Whose is quote unquote better and then along those lines.
Given that last trial announcement was would rise and.
I don't think they're a big optimal customer of yours.
What do we take anything away from announcements.
Oh live network track traffic trials with customers that are not historically meaningful optical customers for it for you guys.
Well I'll start with that one.
There are very very good customer to us and we sell optical to them a few remember they bought the assets and footprint of the Ekso network, which was an infinera footprint and I think I've described this this is a long time ago low originally they told us.
Tell us the warehouse you want to go to suffer because we're going to rip it out and then they said well you know what it runs pretty well, we're just gonna Cabot and leave it alone and they said well we're going to expand capacity on it because we really like how it performs so they're a reasonable optical a customer for us today.
This trial I think as a continued and indication they are interested in.
Continuing to utilize where they see us delivering differentiated value propositions and I think that it's certainly not a decision to Bob but it's certainly a decision that they're going to invest their own time and effort into looking at a technology to see if it brings appropriate economic value or their responses.
Than you saw the press release exceptionally well received in how they think that this type of technology can impact our network. We still have to go around that business, but I think that it's certainly cannot be viewed as anything but positive.
In regard to performance.
Reach is very very important.
Yeah, it's simply that if you have a 800 kilometer linked.
Do you want to send 800 gig down that link or do you want us and 600 get down that link.
Because that's the economic difference.
Our our 800, our our Isix, who will go approximately three to four times further than anybody else's in 600 gig mode. It goes to the half time is more than what we've seen from a deployable network spec.
Allows customers to utilize fiber, which is scarce and expensive to transmit more data so reaches a very very important attribute.
It translates directly to dollar per bit watts per bit and spectral efficiency. So I think thats, probably the most important thing and then availability obviously.
We need to bring it to market and be available.
I think the good news when we compare to prior generations is when you look at at 100 gig or 200 gig and you had anywhere from 12 players down to eight players.
Now, we believe that the lowest cost per bit and performance. We feel good about what we've seen in live networks, not a hero experiments and there aren't a in the field there aren't 12 in the field right now we see visibly too in the field and more importantly, as the challenger to gaining.
Share we have opened line systems that are now mature enough and this has happened in other industries and access and switching.
In qualms in radio you see with Orion you know the best transponder will win and that's what we're going to keep focused on but we also know that it takes a while to certify and to rollout initial applications.
With customers that then go into scale mode and that fits nicely with what Nancy talked about in terms of the business model and gross margin expansion, having that step function as we get into the back half of 2021.
Hi, Thanks, and Tom I congratulate you on the future call Im sure. It sounds like you will be around on at least a couple of more which I'm glad about.
Thank you.
And the next question will come from John maturity with Stifel. Please go ahead.
Thanks, very much time last call that you had with US you talked about your visibility into the second half having weakened a little bit just wanted to come back to that comment now the were sort of a quarter further and then that's your posts or take your pulls on how that visibility looks now and then obviously you made some comments feeling good about.
The sequential increase for Q from Threeq you just maybe you could talk maybe about some of the different segments and what you're seeing there is you're looking out on the second half.
It would be helpful.
Sure I would say in general I have a better view and then more positive view on visibility than a quarter ago.
There are still conversations that are occurring in regard to worried about macroeconomics bandwidth continues to be 100 demand for growth and so far.
We are seeing our customers stay relatively steady on their bandwidth growth plans. There are some certainly that have retracted and I think you read about them into paper.
As they've made a capex cuts, but other others are making capex expansions I have seen a couple of projects that got delayed when Q2, when everybody was shut down physically there were some network builds that were planned in Q2, they didn't get cancelled, but they've got pushed out.
No that that the push outs you never go back and recapture of the growth that will come off of that so a part of.
My concern was the impact of those push outs, how does the push outs continue to get pushed out or canceled.
They are actually happening, but they've been delayed so some of our plans that were built on the back half of those.
Push outs will also be delayed, but I would say overall.
We see more confidence in or I CP business, we see more confidence in our general tier one business around the world.
Subsea continues to be.
Reasonably strong.
Cable for us unless certain but I think that isn't macro I'm more confident than I was a quarter ago and hopefully that came across in the script as we've talked about the expanding bookings from couple of these markets and the integration of our revenue my belief our belief that revenue will grow.
Second half over first half.
A quarter of whether or not said yep sure. Thank you.
The next question will come from Simon Leopold with Raymond James. Please go ahead.
Great. Thank you hopefully you can hear me okay.
Yes.
You are going to invest but I think if you're looking for somebody.
The energy that could rival you gave it hurts probably the guy so I'm looking forward to that.
So I wanted to look at what's going on in the I CP vertical.
Looking at your your first half.
Year over year, it looks like it was down meaningfully in the second quarter versus the first quarter roughly 30% sequential decline.
Assuming that math is correct.
This is more about the related to the delays of that customer or what.
That sequential drop in the second quarter from <unk>.
Yeah, we had very significant rollouts in Q1 of revenue.
Now that it takes a period of digestion to deploy all of that and that's what we experienced in Q2 as I commented on the call bookings in Q2 were roughly flat and the IC piece base with Q1. So we don't see this is fundamentally disrupting our IC.
Progress.
We do have as I mentioned.
I said that we see IC Pete strengthening in the second half.
Part of that is driven by the fact that that inventory will have been deployed part of that is driven by the opportunity that we are executing to with some of the 600 gig for long haul and then we are still hopeful that will be certified for data center interconnect and the I CP space with.
We've talked about earlier, hopefully by Q4, but we do see.
We have committed plans from customers that the IC Pete.
In the second half will be stronger than the first half and they just have to execute on what they said they're going to do.
And it's part of that assumption.
That's reflecting 600 gig basically replacing 200 gig.
Half a year and the CP vertical.
But it's not really replacing I would say its complementing.
There's going be some applications were 200 gig is what they want.
But we need to start selling them. The 600 gig, it's a new opportunity for us.
They are they get a better dollar permit we get enhanced marketing because it's partially vertically integrated.
Performance for them as a lot better, but not all applications require 600 gig technology.
And just one last one on gross margin you talked about the supply chain issues to shipping issues, which we've we've heard about from others.
Just trying to get a sense of how to maybe bridge the cobiz effect.
Is it roughly 50 basis points of headwind on a higher product costs higher shipping costs is that about.
The level of impact.
Yeah, I would say between 50, and 100 basis points, depending right depending upon.
The severity and that and the specific product right as Tom mentioned earlier things are just taking longer right, we think where I'm going to have a delivery in a period of days and it turns into weeks and you know costs are being.
Driven up by expediting another so it ranges.
Well, thank you for that clarification and good luck guys. Thanks.
Thanks.
The next question will come from the meat strategy with Jpmorgan. Please go ahead.
Hi, guys. This is actually Joe cargo so on for Sonic Chatterji.
Just one question for me and just feeding off of the customer vertical question, specifically around service providers.
If I look at your disclosures it looks like tier one slowed down in revenue growth into Q, but it would appear your other category actually saw an acceleration just wanted to get a little color on the variance there and how that feeding into your Threeq you and then more specifically on a pack on your prepared remarks, you spoke about a specific recovery with a tier one.
There. However, if we kind of exclude them from the region. How did you see the rest of the region recover and to queue. Thank you.
I think you know as Tom mentioned APAC has been slower to recover just given the impact earlier in this year. So we are pleased to start to see that recovery happening.
We're watching that carefully but seeing good traction and seeing a lot of interest across the board there as far as that a tier one.
And the strength we're seeing in.
That area, we have as I mentioned in my comments seen some unexpected demand coming through recently, which we believe ours is either being used to position for future technology adoption or just additional growth. So both in the tier ones and the tier twos I think that that bandwidth demand.
Still there and we're really pleased to be able to execute on it yeah. I would also say on the on the tier ones you know as we got as we were in the height of Covidien as.
As we kind of.
Exited Q1, there was some metro build out that was significant. So this is also the digestion period between bookings and revenue that you know, we didnt see an uneven pace when we look at the tier ones on a bookings basis. It's just when these projects.
Billable to completing Tom mentioned, there's a couple of these projects that became more difficult to get service folks and to get acceptances done given the the cobot restrictions. We certainly we certainly have not seen a drop off of.
Bookings demand from tier ones, yeah. The volatility is more like what David talked about.
Understood. Thank you guys and congratulations on.
Yeah. Thanks.
This concludes today's question and answer session I would now let's turn the conference back on balance for any closing remarks.
I appreciate your time and I very much appreciate the support you've shown over the years I look forward to chatting with you again next quarter have a great day.
The conference has now concluded. Thank you for attending today's presentation you may now disconnect.
Yes.
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