Q3 2022 Fabrinet Earnings Call

Good afternoon, welcome to fabricate financial results conference call for the third quarter of fiscal year 2022.

At this time all participants are in a listen only mode.

Later, we will conduct a question and answer session and instructions on how to participate will be provided at that time.

As a reminder, today's call is being recorded.

I would now like to turn the call over to your host Garo to Virginia and Investor Relations.

Thank you operator, and good afternoon, everyone. Thank you for joining us on today's conference call to discuss <unk> financial and operating results for the third quarter of fiscal year 2022, which ended March 25 two.

'twenty two.

With me on the call today are Seamus Grady, Chief Executive Officer, and Travis here Chief Financial Officer.

This call is being webcast and a replay will be available on the investors section of our website located at Investor <unk> fabric net dot com.

During this call we will present, both GAAP and non-GAAP financial measures. Please refer to the investors section of our website for important information, including our earnings press release, and Investor presentation, which include our GAAP to non-GAAP reconciliation.

In addition, today's discussion will contain forward looking statements about the future financial performance of the company.

<unk> looking statements are subject to risks and uncertainties that could cause actual results to differ materially from management's current expectations.

These statements reflect our opinions only as of the date of this presentation and we undertake no obligation to revise them in light of new information or future events, except as required by law.

For a description of the risk factors that may affect our results. Please refer to our recent SEC filings in particular, the section captioned risk factors in our Form 10-Q filed on February one 2022.

We will begin the call with remarks from Seamus and trauma, followed by time for questions I would now like to turn the call over to <unk> CEO Seamus Grady Seamus.

Thank you Darryl and good afternoon, everyone and thank you for joining us on today's conference call.

We delivered a solid third quarter performance with strong execution from the team of supply chain headwinds continue to offset the very strong demand environment.

Revenue in the corporate was $564 $4 million, which was within our guidance range and grew 18% from a year ago and was essentially flat sequentially.

Operationally, we continue to perform at a very high level, which contributed to record non-GAAP operating margins of 10, 5% in the quarter.

And non-GAAP net income of $1 50 per share.

Looking at the quarter and a little more detail.

Demand across all our product categories remains robust with.

With supply constraints remaining our biggest obstacle to higher growth.

During this period of component shortages, our team has done a terrific job managing these constraints to better serve our customers.

One way we do this is to help our customers source and qualify alternative parts and materials for products, we manufacture for them.

Sometimes these substitutions are very straightforward and at other times more complex products can require re qualification and validation not just by our customers, but by their end customers as well.

During the third quarter certain customer programs were delayed by these components lead qualification efforts.

Adding an estimated $15 million supply chain related headwinds to the $30 million to $35 million supply chain impact we had previously estimated.

The good news is that these alternative components have since been fully qualified.

Already resumed shipments of the associated products.

Meaning that the revenue is essentially shifted from the third quarter to the fourth.

Now let me provide some additional color on the third quarter.

By end markets, we had another strong quarter for optical communications tell.

<unk> revenue grew both sequentially and year over year and Datacom revenue grew from a year ago, but declined sequentially. As this was the area most impacted by the components re qualification I just discussed.

Non optical communications revenue grew both sequentially and year over year to the highest level in our history, driven primarily by strong automotive revenue, which was up more than 10% sequentially.

While we have no direct business in Russia or Ukraine.

For most of the business saw a small impact in the quarter from customers with other suppliers in the region.

Turning to capacity expansion construction of building nine our new 1 million square foot building at our Chonburi campus is nearly complete this building increases our total footprint by approximately 50% to more than 3 million square feet.

Which will provide us with ample capacity to meet demand from new and existing customers for some time.

In fact, we're excited that certain existing customers experiencing rapid growth.

Already in discussions with us to expand into the new building.

More on this during our Q4 earnings call.

As we look at the fourth quarter more broadly strong momentum across all of our business is continuing our team continues to do an excellent job managing component supply issues, but these supply chain constraints have not shown any signs of improvement and if anything are increasing.

As Trevor will detail in a moment our revenue guidance for the fourth quarter would have been $40 million to $45 million higher if not for these headwinds which have grown substantially since the beginning of the year.

That said, we expect it to continue to benefit from our enviable track record of execution.

<unk> industry, leading margins.

In summary, I'm very proud of our team's strong execution, both in managing supply constraints as well as delivering industry, leading margins with demand trends that remain very strong across the board. We are confident that we can deliver top and bottom line growth in the fourth quarter, including record profitability.

Now I'd like to turn the call over to Chubb for additional financial details on our third quarter and our guidance for the fourth quarter of fiscal 2020 to Chubb.

Thank you Seamus and good afternoon, everyone.

Demand trends in the markets, we serve continue to be very healthy.

As reflected in our 18% growth from a year ago.

While demand continues to increase supply related headwinds also grew in the third quarter, resulting in a slight sequential decrease in revenue to $564 $4 million, which was within our guidance range.

Another quarter of strong execution produced non-GAAP earnings per share of $1 50.

Which was consistent with the prior quarter.

By end markets optical communications revenue was $440 million down 2% from last quarter, but up 22% from a year ago.

He then optical datacom revenue of $358 $3 million increased 2% sequentially.

Data comm revenue declined 17% to $81 $7 million due primarily to the re qualification delays that Seamus discussed.

By technology Silicon Photonics revenue was $144 $9 million, an 8% decrease sequentially, reflecting the datacom revenue decline at.

The 26% of total revenue our silicon Photonics mix was the second highest in our history.

Revenue from products rated at speeds of 400 gig or more was up modestly from Q2, reaching a new record of $188 4 million.

Revenue from 100 gig products deep, 11% sequentially to $124 $6 million.

Optical communications revenue was up 7% sequentially to $124 $4 million and represented 22% of total revenue.

Within non optical communications, our automotive revenue was $53 $3 million up 13% from last quarter and the industrial laser revenue was $39 million, which grew 9% sequentially.

Other non optical communications revenue moderated slightly to $32 $1 million.

As I discuss the details of our P&L expense and profitability metrics provided on a non-GAAP basis, unless otherwise noted.

A reconciliation of GAAP to non-GAAP measures is included in our earnings press release, and Investor presentation, which you can find in the Investor Relations section of our website.

They executed very well in the quarter gross margin reached 12, 7% and was further assisted by a slight foreign exchange tailwind.

Operating expenses in the quarter at Bell point $6 million or two 2% of revenue.

This resulted in record operating income of $59 $2 million or 10, 5% of revenue.

Effective tax rate was five 4% in the third quarter and we continue to anticipate that our tax rate for the fiscal year will be approximately 15%.

non-GAAP net income was $56 $2 million or $1 50 per diluted share, which is consistent with our record second quarter performance.

GAAP basis, net income was $1 35 per diluted share.

Turning to the balance sheet and cash flow statement at the end of the third quarter cash restricted cash and investments were $515 $1 million down $5 1 million from the end of the second quarter.

Operating cash flow was strong $54 million with Capex of $23 5 million free cash flow was $26 $9 million in the quarter.

During the quarter, we increased our buyback activity and repurchased 239000 shares at an average price of $102 <unk>.

For a total cash outlay of $24 $4 million.

As a result, $52 $3 million remaining in our share repurchase authorization.

Now I will turn to our guidance for the fourth quarter of fiscal year 2022.

As Seamus indicated demand for our services remains very strong across our business we.

Anticipates revenue in the range of $570 million to $590 million in the fourth quarter.

This guidance includes the impact of growing supply constraints, which we estimate to be $40 million to $45 million in the fourth quarter.

We are optimistic that our strong execution will extend into the fourth quarter and we anticipate non-GAAP net income to be in the range of $1 52 to $1 59 per diluted share.

In summary, we are very pleased with our strong execution and the positive demand trends, we continue to see across our business.

We are optimistic that despite increasing supply chain pressures, maybe you'll be able to deliver a sequential growth in both revenue and profitability in the fourth quarter.

Operator, we are now ready to open the call for questions.

If you'd like to ask a question at this time. Please press. The Star then the number one key on your Touchtone telephone to withdraw your question press the pound key.

Again that is star then one to ask a question.

Our first question comes from Alex Henderson with Needham.

Thanks.

So I wanted to go to the.

Re calibration on the Datacom products.

<unk> and <unk>.

Often take quite a bit of time.

Was the total impact of that.

March quarter or does that also cover into the April quarter.

So it is holding back the June quarter somewhat as well.

The full qualification processes will probably.

It impacts positively somewhat sequentially June quarter, but also positively impact the September quarter.

Yes, Alex Hi, this is seamus.

The impact was in the Q3 the Olympics impact was in Q3.

Unfortunately, the quantification took a little bit longer than we would've liked them to <unk> at the end of the quarter. So we werent able to catch up but it's behind US now so the full impact the full impact was in Q3 and therefore, the full benefit will be in Q4.

Okay.

There is no additional.

Supply constraints that are created by those.

Qualifications that actually helps mitigate some of the supply constraints is that right.

Yeah, that's correct as long as there's no additional constraints due to that particular quantification, that's not to say there won't be others that will pop up from time to time and certainly other supply constraints, but that particular specific issue is is done and behind us.

So.

Clearly the Lockdowns in China on top of everybody's mind in.

In terms of supply chains and.

Pretty difficult for us to evaluate so can you give us any kind of quality.

Comments surround.

The degree to which.

You might have things that are.

Embedded in your product set.

Derived out of China that might be impacted like circuit boards and things of that sort.

What portion of your supply chain is emanating out of China and does it exposed to either the two regions that are currently being talked about as being locked down most aggressively.

I think our I mean, the proportion of our supply chain would be similar to other contract manufacturers to lockdowns that certainly exacerbated the global supply chain issues, but the impact on us has not been very significant thus far.

In Q3, the biggest supply headwind continues to be from just standard or parity standards.

ARX <unk>.

The increase in demand puts more pressure on supply chains and that was further stretched by the timing of the re qualification.

The issue that we talked about earlier.

I'd again, why the REIT qualifications complete.

We expect additional headwinds from increased demand will persist into Q4.

And probably beyond that actually had an impact of we've included an impact of $40 million to $45 million.

In our Q4 guidance two to two two supply chain headwinds, but we havent been hugely impacted by China, I think again towards the end of the quarter, we had to do a little bit of scrambling I would say, while the lockdown was going on in Shenzhen is impacted more logistics than action component supply a lot of a lot of material comes through Shenzhen.

We were able to scramble and recover from that but thus far we have not been significantly impacted by the lockdowns in China.

That's good to hear.

One last question and I'll cede the floor can you talk a little bit about the systems market.

How much of you there.

What's going on relative to the systems.

Ramp.

From your existing customers and then.

When you think about your outlook and your.

The degree to which you are impacted by that 20% to $45 million. How are you taking into account.

<unk>.

50% to 100% of our full year product in the backlog at those companies I assume that that's not reflected in your numbers in any way or in that 40% to $45 million.

No because I think what's maybe more interesting is the backlog that they have.

Yes, it might be a full year's backlog, but unless that translates into a huge increase for us, it's not particularly relevant to us.

We continue to pursue new system wins at existing customers and new customers.

Situations, where we're already making a lot of the content, that's where it makes more sense for us and where we can be most effective and most successful timing of the new wins, its very hard to predict as you know Alex.

And they're usually driven by some sometimes some external catalyst or external factors.

However, we are optimistic that there will be more system wins in the future, we can't guess as to when that might be.

But the demand remains strong overall demand remains strong.

Strong I would say.

The only thing limiting our revenue and our growth right now is component supply.

So on the systems side it is apples to apples at this point we're not.

Seeing any extraordinary growth as a result of new systems lines coming in as opposed to.

The customers that you have one you have now fully up on what projects they had or correct that.

Correct.

The two big ones that we've talked about in the past are essentially grandfathered in at this point and the growth that we can see.

Nice growth if you look at our year on year growth. It's a very nice growth, it's without those systems in Q3 without it without additional growth from <unk> systems in Q3.

I see thank you.

Thanks, Alex.

As a reminder to ask a question that is star then one.

Our next question comes from Sonic Chatterji with J P. Morgan.

Hi, This is Andrew Chen on for Sonic charity. Thanks for taking my question.

On the gross margin line.

<unk> posted the highest gross margin that we've seen in years.

Well what I'm wondering is there are I think Helen on gross margin, but how are you maintain a high gross margin.

Despite all of the current supply issues.

Hi, John This is John yes, so we indeed benefited from.

Ongoing cost reduction efforts, mainly on our gross margin line. So there is no pricing or whatsoever, we typically pass on.

Supply related headwinds on our customers without marking them up so that is definitely more pricing related.

<unk> is coming through the gross margin line. So they continue to.

Improve our cost structure and improve the gross margin.

In addition last quarter, we sold 2020 basis point benefit from exchange rates. So most of our labor cost bases in Thailand, and we saw a depreciation in the last six to nine months as we execute our hedging strategy.

We were able to develop an extra 20 basis points of the bottom line in last quarter.

Got it.

All right.

Alright got you pay about 10, 5% and Thats, what you posted last quarter.

I guess that the new question becomes is it.

Sustainable best start at Talbot, a half for that gross margin or even beyond that moving forward.

Obviously, we are not guiding gross margins, but we are working hard to continue our cost reduction efforts and obviously exchange rate is rather unpredictable. So I would say the best way to think about it we have been executing our strategy in terms of the.

Our cost reduction and maintaining and staying in our.

Target gross margin range. So I think the best way to think about it is to really.

We look forward on this cost reduction effort.

See any benefits from exchange rates or you'll be communicating and articulating that.

Okay got it and then just quickly before I cede the floor and that 40 to 45 million and supply headwind is that any part of that and that sort of impacts from Russia, Ukraine, or China or any of that macro is that possible to give us a window into how big that impact might be or become.

Yeah, no nothing that's not on the supply side, we don't have any suppliers and either Ukraine or Russia.

Some of our customers, particularly on the on the automotive side were impacted because they source.

A lot of cables cable harnesses out of Ukraine in particular.

But we haven't been impacted.

Directly we don't have suppliers in either Ukraine or Russia.

Okay got it thank you.

Thank you. Thank you.

I'm showing no further questions in queue at this time I'd like to turn the call back to Seamus Grady for closing remarks.

Thank you for joining our call today, we are optimistic that as we continue to navigate supply chain constraints impacting the industry strong demand trends and excellent execution from our team will result in record top and bottom line results in the fourth quarter.

We look forward to speaking with you again goodbye.

Yeah.

This concludes today's conference call. Thank you for participating you may now disconnect.

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