Q2 2023 Applied Optoelectronics Inc Earnings Call
Good afternoon, I will be your conference operator at this time I would like to welcome everyone to applied Optoelectronics second quarter 40, 23 earnings conference call.
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I'll now turn the call over to Lindsay submarines Investor Relations for a O on the sublease you may begin.
Thank you and Monday February Investor Relations for applied Optoelectronics I'm pleased to welcome you to your REIT second quarter 2023 financial results Conference call.
After the market close today <unk> issued a press release announcing its second quarter 2023 financial results and provided its outlook for the third quarter of 2023.
The release is also available on the company's website at Ao, Inc. Com.
This call is being recorded and webcast live.
Link to the recording can be found on the Investor Relations section of the ally website and will be archived for one year.
Joining us on today's call is Dr. Thompson, Lin Aoi's, founder Chairman and CEO and Dr. Stefan Murry, Aoi's, Chief Financial Officer, and Chief Strategy Officer.
Thompson will give an overview of allies Q2 results and Stefan will provide financial details and the outlook for the third quarter up 2023.
A question and answer session will follow our prepared remarks.
Before we begin I would like to remind you to review Aoi's Safe Harbor statement on today's call management will make forward looking statements. These forward looking statements involve risks and uncertainties as well as assumptions and current expectations, which could cause the company's actual results levels of activity performance or.
Shipments of the company or its industry to differ materially from those expressed or implied in such forward looking statements.
In some cases, you can identify forward looking statements by terminology such as.
Beliefs forecast anticipates estimates intends predicts expects plans may should could would will potential or things or buy the negative of those terms or other similar expressions that convey uncertainty of future events or outcomes.
The company has based these forward looking statements on its current expectations assumptions estimates and projections.
While the company believes these expectations assumptions estimates and projections are reasonable.
Such forward looking statements are only predictions and involve known and unknown risks and uncertainties many of which are beyond the company's control, including important factors such as risks related to the company's ability to complete the transfer transaction described on this call on the proposed terms and schedule or at all.
The risks that certain closing conditions may not be timely satisfied or waived the failure or delay to receive the required regulatory or other government a crib notes relating to the transaction and the occurrence of any of that change or other circumstance that could give rise to the termination of the transaction for us.
Looking statements also include statements regarding managements beliefs and expectations related to the expansion of the reach of our products into new markets and customer responses to our innovation.
As well as statements regarding the company's outlook for the third quarter of 2023.
Except as required by law, we assume no obligation to update forward looking statements for any reason after the date of this earnings call to conform these statements to actual results or to changes in the company's expectation.
More information about other risks that may impact the company's business are set forth in the risk factors section of the company's reports on file with the SEC, including the company's annual report on Form 10-K for the year ended December 31st 2022.
Also all financial results and other financial measures discussed today are on a non-GAAP basis, unless specifically noted otherwise.
non-GAAP financial measures are not intended to be considered in isolation or as a substitute for results prepared in accordance with GAAP.
A reconciliation between our GAAP and non-GAAP measure as well as the discussion of why we present non-GAAP financial measure are included in our earnings press release and is available on our website.
Before moving to the financial results I'd like to announce that management will be attending the H C. Wainwright Global investment conference on September 11th and the Northland Institutional investment conference on September 19th I'd.
I'd like to note the date of our third quarter earnings call is currently scheduled for November nine 2023.
I would like to turn the call over to Dr. Thompson Lin applied Optoelectronics, founder Chairman and CEO Thompson.
Thank you Lindsay and thank you for joining our call today.
If it doesn't hold up.
At least our expectations.
Along with good margin and good laws push you a little better than our expectations.
Please continue.
Continued progress we have made.
Our gross margin.
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The men, we still do.
And for energy production in our data center business during Q2.
Good morning.
Our one <unk> products increased 30% sequentially.
Liberty, Florida for this product doubled sequentially.
So you did implicit in our total data center revenue in Q2.
During the second quarter.
With either globally or 41 $6 million.
And we felt god its range of $45 million.
47, $45 million, we delivered non-GAAP gross margin of 24, 8%.
Bob I'll cut in the range of 25%.
5%.
Many driven by favorable product mix.
Our targeted cost reductions.
Oh, My God knows for sure.
Was 21 since the ball, but as grinch, although low.
So you said two study one said.
Well the Arabian CATV Sidney.
What's Naples $30 million down 51% year over year.
66% sequentially.
As a reminder, our Q2 would be job one.
In Turkey.
Inventory you up with certain via TV customers.
Blake is softer than it used to be C. A T V live me.
We do believe that this inventory digestion.
Didn't change too.
And so while we are seeing today.
We spent.
Oh C. A T V.
To increase side, especially also if you don't year over year.
Please.
Strong Q3.
Total revenue for data center.
Oh, 27, or $6 million increased 28% year over year.
Increased 35% squishy.
Due to increased demand for one of the eat in Florida as you put up as we continue to see good enough.
Our full how Nietzsche program.
And all of us to Kohl's with the skulls and agreement.
Let's start with Microsoft.
It's been a long term customer of ours.
Or do you live in Brooklyn, So next generation lasers for each data center possible for that.
Yeah.
During the second quarter.
They should go to the.
The agreement with Microsoft to.
To provide design and assembly services.
Optical cables.
We view this contract awards, that's very dashing the strengths and Clos.
Our coal laser fabrication of Peter.
In total.
We believe that this award.
Boy, Oh boy $300 million.
Although several years.
With that I'll turn the call over to Stefan to review the details of our Q2 performance and outlook for Q3 step.
Thank you Thompson.
As Thompson mentioned, our second quarter revenue was in line with our expectations, while our non-GAAP gross margin and non-GAAP loss per share were above our expectations were.
We're pleased by the continued progress we've made to improve our gross margin and expect this trend to continue.
Further we are encouraged by the increased demand we saw for our 100 G and 400 G products in our datacenter business during Q2.
Lastly, we are excited about our newly formed broadband access group the strength of talent. We have recently added to this team and believe that we are well positioned to execute on our new strategy to sell our CATV products directly to MSR customers.
Before turning to discuss our results and outlook I want to provide an update on the transaction that we announced last September with you Hahn auto electronic technology.
As we have previously discussed we entered into an agreement with you on for the sale of our manufacturing facilities located in the People's Republic of China.
And certain assets related to our transceiver business and multichannel optical sub assembly products for the data Center Telecom and F. T T H market for a purchase price of $150 million.
As a reminder, this transaction is subject to customary closing conditions and regulatory approvals, including city of Santa ODI.
We continued to make progress in preparing the information that will be needed in order to file for the various regulatory approvals that are required in order to finalize the divestiture.
Although these filings are not yet complete we do expect to submit our application to seduce within the next 45 days.
While the timing of the regulatory approval process is uncertain based on our current schedule. We expect the closing timeframe would be early 2024.
Turning to the quarter, our total revenue for the second quarter decreased to 20% year over year to $41 $6 million, which was in line with our guidance range of $40 5 million to $47 $5 million. The decline in revenue was largely due to the inventory buildup with certain of our CATV customers that we discussed on our.
Q1 call.
During the second quarter, 66% of our revenue was from our data center products, 22% was from our CATV products with the remaining 11% from F T Th telecom and other.
In line with our expectations CATV revenue in the second quarter, it was $9 $3 million.
Which was down 66% sequentially and 61% year over year.
As a reminder, our CATV revenue was negatively impacted as a few of our CATV customers work through excess inventory that had built up among their various distribution channels.
We expect that any inventory buildup will be transitory and based on what we're seeing today, we expect that our CATV business will increase slightly sequentially, although it will be down year over year off a historically strong Q3 of last year.
As a reminder, our CATV revenue in 2021 and 2022 is historically high compared to prior years, we do expect our CATV revenue will rebound to more normal levels, although near term that will be down compared to those historic highs as the msos transition to next generation architecture.
Looking further ahead, we are carefully monitoring MSA plans to move to DOCSIS 4.0 networks.
We are cautiously optimistic as the nature of these upgrade cycles can be lengthy we continue to believe <unk> remains well positioned to capture a portion of this new infrastructure spend.
And thank our products are well suited for winter push to install amplifiers and other network elements for DOCSIS 4.0 begins.
We believe this transaction transition could happen in early to mid 2024.
During the quarter, we announced the change in our strategy to offer our CATV products directly to MSR customers through our recently formed a broadband access group.
We believe this strategic move will allow us to better serve the NSO needs for reliable feature rich amplifiers for their network upgrades.
We also expect that this strategy will help us scale, our business more efficiently and improve our gross margin further.
We believe we could eventually see 10 to 15 points of margin increase as a result of this transition.
In line with our new strategy of directly selling to the Msos during the quarter, we announced availability of our quantum bandwidth line extender and system amplifier products.
As one of the few companies with large scale in house manufacturing capacity for amplifiers, we believe our new products will expand <unk> product portfolio, while maintaining the industry, leading quality and reliability of our renowned HFC products.
During the quarter and subsequent to quarter end. We also added critical talent to our newly formed broadband access group.
Notably and as you may have seen we appointed Todd Mccrumb as senior Vice President and general manager of the broadband access team.
In this newly created position Todd will lead sales product development and marketing of Aoi's quantum bandwidth line of broadband access products.
It's an impressive career in broadband have spanned the development of modern hybrid fiber coax networks, and we are thrilled to add him to the team he.
He previously spent 27 years with scientific Atlanta, and Cisco systems, including serving as the lead of Cisco's cable access business unit and Vice President of marketing.
In addition to Todd within our broadband access group, we also appointed Steve Patterson as a VP of business development, Michael Ballard as senior director of marketing.
L. Johnson senior director of business development, and most recently Corey Chapman Senior director of sales engineering for our quantum bandwidth line of products.
All four of these business professionals have had impressive careers with extensive experience that we believe will greatly contribute to the success of our broadband access group.
We were excited by the strength of talent that we have added at the leadership level and we have also made significant strides in building out the rest of the broadband access team.
We are focused on executing on our new strategy and believe we are well positioned with the right products and a deep bench of talent.
Turning to our data center business.
In Q2 data center revenue came in at $27 $6 million up 28% year over year and up 35% sequentially largely due to increased demand for our 100 G and 400 G products.
In the second quarter, 75% of our datacenter revenue was from our 100 G products, 12% was from our 204 hundred G transceiver products.
And 5% was from our 40 G transceiver products.
Notably revenue for our 100 gig products increased 30% sequentially, while revenue for our 400 G products doubled sequentially and accounted for 11% of our total data center revenue in Q2.
Looking ahead, we are encouraged by the increased demand we have been seeing and expect continued sequential growth of our data center business in Q3.
As Thompson mentioned on our last two earnings calls we discussed how we signed an agreement with Microsoft for a development program to make next generation lasers for its data center, both for 400 G and beyond.
During the second quarter, we signed an additional development agreement with Microsoft to provide design and assembly services for active optical cables.
Our recent 8-K filings give additional data.
We expect to begin shipping initial quantities of these products to Microsoft by the end of this year for their testing with production ramping early next year.
We view these contract awards as validation of the strength and quality of our core laser fabrication ability and our design and manufacturing expertise for these advanced high speed interconnect products.
As many of you know Microsoft has been a long term key customer of ours.
Not guaranteed we believe that the revenue opportunity for our 400 G and 800 G products could be greater and have a longer duration than the revenue contribution we saw from this customer during the peak of the 40 G product cycle, which would imply revenue from these products exceeding $300 million over the several years of these buildups.
We also believe that the value proposition that we offered a Microsoft is just as strong with other data center operators and we are working with several of them to evaluate our technology and qualify our products.
We are also seeing positive inbound interest from other potential customers for our lasers and we believe we are well positioned to grow this business.
I'd like to particularly highlight one new source of laser revenue in this quarter.
During the quarter, we received our first volume order for Lidar lasers to be used in the transportation application.
The order was approximately $1 million worth of lasers to be delivered over the next few quarters. So it's not immediately material financially, but we feel that the lidar business has the potential to grow substantially in the three to five year timeframe and we view. This initial volume order as indicative of the success of the development program for our frequency modulator continuous wave or <unk>.
CW Lidar lasers.
We believe that we will secure additional orders for these lasers overtime as other customers begin to rollout F M CW Lidar technology.
Now turning to our telecom segment.
Revenue from our telecom products of $4 $2 million was down 33% year over year and up 14% sequentially.
Looking ahead, we expect telecom sales to remain roughly flat to up slightly in Q3.
For the second quarter, our top 10 customers represented 88% of revenue up from 87% in Q2 of last year we.
We had two greater than 10% customers one in the data center market and one in the CATV market, which contributed 29% and 13% of our total revenue respectively.
In Q2, we generated non-GAAP gross margin of 24, 8%, which was above our guidance range of 25% to 23, 5% and was up from 23, 2% in Q1 of 2023 and up from 16, 7% in Q2 of 2022.
The increase in gross margin was driven mainly by a favorable product mix, our cost reduction efforts and the benefit of some of the intentional actions we have taken to improve our bottom line that we have discussed on our prior couple of earnings calls.
These actions included the exit of several low profit legacy products shift.
Shifting R&D resources away from some low margin projects to focus our resources on areas, where we can maximize margin.
And some success in executing price increases with some customers.
We're pleased with the execution, we made on increasing our gross margin and expect this trend to continue.
We remain committed to the long term goal of returning gross margin to around 40% I.
I believe that this goal is achievable.
In line with our expectations total non-GAAP operating expenses in the second quarter were $19 million or 45, 8% of revenue, which compared to $18 2 million or 34, 9% of revenue in Q2 of the prior year.
With the new additions in our broadband access group and additional activity we plan to promote our CATV products, we expect a modest uptick in non-GAAP operating expenses to $20 million to $21 million per quarter starting in 'twenty.
Q3 of 2023.
non-GAAP operating loss in the second quarter was $8 7 million compared to an operating loss of $9 $5 million in Q2 of the prior year.
GAAP net loss for Q2 was $16 $9 million or a loss of 57 cents per basic share compared with a GAAP net loss of $14 $5 million or a loss of 52 cents per basic share in Q2 of 2022.
On a non-GAAP basis net loss for Q2 was $6 $1 million or a loss of 21 cents per basic share, which was better than our guidance range of a loss of $6 8 million to $9 million or a loss per share in the range of 23 to 31 cents per basic share.
And compares to a net loss of $7 $6 million or a loss of 28 cents per basic share in Q2 of the prior year.
The basic shares outstanding used for computing the net loss in Q2 were $29 5 million.
Turning now to the balance sheet.
We ended the second quarter with $28 $6 million in total cash cash equivalents short term investments and restricted cash. This compares with $26 $9 million at the end of the first quarter of this year.
We ended the quarter with total debt, excluding convertible debt of $46 $9 million down from $71 million at the end of last year.
As of June 30, we had $66 $3 million in inventory compared to $72 million at the end of Q1 inventory.
Inventory decreased due to consumption of inventory for customer orders.
We made a total of $1 million in capital investments in the second quarter, which was mainly used for production and R&D equipment.
As we disclosed in March we initiated a new at the market offering to.
To date, we have raised $9 $9 million net of commissions and fees under this new program all of which was raised in Q2.
Moving now to our Q3 outlook, we expect Q3 revenue to be between $68 million and $66 million and non-GAAP gross margin to be in the range of 29, 5% to 31%.
non-GAAP net income is expected to be in the range of a loss of $1 $9 million to income of zero point $2 million and non-GAAP income between a loss of six cents per basic share and income of one per basic share using a weighted average basic share count of approximately $33 1 million shares.
With that I will turn it back over to the operator for the Q&A session operator.
We will now begin the question and answer session.
To ask a question you May press Star then one on your telephone keypad.
If you are using a speakerphone please pick up your handset before pressing the keys.
If at any time your question, it's been a dress and you would like to withdraw your question.
Please press Star then two.
At this time, we will pause momentarily.
To assemble our roster.
The first question comes from Simon Leopold with Raymond James. Please go ahead.
Thanks for taking our question you've given us a lot of a lot of good modeling information here and I'd like to just.
Clarify something I think is implied in that you suggested that the CATV business would be up a little bit sequentially telecom would be flat to slightly up.
And so kind of backing out that into your total revenue.
Forecasts suggest your data center business.
Is up sequentially by something on the order of 70%.
And you didn't mention that explicitly but you've kind of guided us. This way can you just clarify what your expectation is there.
Sure. So I mean, you're pretty good at math.
The uptick there is mainly from the data center business as you surmised.
Great. Thank you and E U.
You talked about the Microsoft project timing.
At the end of this year, so it's not coming from the New Microsoft Awards could you give us some color on what's driving this big jump.
Well I mean, we've continued to see very strong results in our existing 100 G and 400 G products and that's that's where this this uptick is coming from we've talked about you know over the last gosh, probably at least a year that we felt like our 400 G was starting to ramp and he was in that ramping phase and that's indeed, what we're seeing right now for <unk>.
<unk> is continuing to ramp while at the same time, we're seeing.
Very strong results from 100 G as well so both.
Both of those things are kind of firing on all cylinders.
As you noted the revenue increase that we're seeing is primarily not coming from the new Microsoft contracts.
Mostly coming from existing products and don't feel that I see in the because of the customer database Joan.
A O N E O I's didn't.
Ease of getting please Joan the mother ship.
Great and then just pivoting now to the cable business.
Just others, who are in that.
Market have talked about some of the transitional effects and you've you've been pretty clear in talking about excess inventory.
As a factor and I wanted to maybe see if you could talk a little bit about the transitions of technology and how that might be playing into it specifically.
The employment of DOCSIS, four O and the basically the debate between full duplex and and extended spectrum is that a factor that's sort of amplify for creates a greater pause in this market is that we're sort of burning off old technology ahead of new.
Could you help me understand that.
I don't think that's a big factor right now.
I think that the the bigger factor just has to do with the distribution channel in it.
I think I've mentioned on the previous earnings call you know what the interest rate environment.
You know many of the distributors are taking a hard look at how much inventory that they that they carry.
I think it has more to do with sort of financial the facts and and you know.
Just the raw amount of inventory that's out there as opposed to looking ahead, and saying well you know we might not need these products because DOCSIS 4.0, that's coming on board.
There's going to be a long tail I would anticipate with the existing sort of one two gigahertz DOCSIS three one type of products. So.
So I'm not hearing from distributors that they're concerned about the inventory level, but they have do too.
Due to concerns they won't be able to sell it efficiently.
Efficiently, it's more about well I just don't know what the right level of inventory is at this point given the financial situation and interest rates in Manhattan.
Great. Thanks for taking the questions.
Sure.
Yeah.
Yeah.
Again, if you have a question. Please press Star then one on a touchtone phone.
Yeah.
The next question comes from Tim <unk> with Northland Capital markets. Please go ahead.
Hi, good afternoon.
Congratulations on the outlook in particular.
I wanted to follow up with some questions there I see there's a good bit of.
Deferred revenue.
That has.
<unk> been added to your balance sheet here for the short term and a little long term.
And I was wondering if part of that revenue increase might be.
Some of the NRG or project development payments coming out of Microsoft and.
In addition to product revenue and if.
If that's the case I'm wondering if she could.
Try and quantify that.
And I imagine that would have a real positive impact on gross margins as well or is this just.
All module revenue driving this increase.
You're talking about you're talking about in the guidance how much how much in our revenue or or Goldman remember that we're counting on.
That's right okay.
So there is some of that in there.
For Nondisclosure reason I can't give you the exact total in there but.
There is some of that in there, but really the bulk of the increase in margin is coming from increased margins on the products that we're selling as we mentioned in our prepared remarks, it's not primarily being driven by an RV revenue that's a relatively small amount.
That's included in guidance.
Okay, Great and so would you say the same thing about product revenue.
Being the bulk of the increase the sequential increase in data center and within that.
Or do you expect to see these dynamics continue around 400 gig and 100 gig.
In terms of outsize.
Where do you expect I guess over the next few quarters. Your 400 gig revenue to go or I guess your classified 200 gig plus.
As a percent of total data center revenue.
Yeah, I expect that 400 gig.
Correct in saying, it's 200 gig plus but for us that's almost entirely 400 gig.
We don't have a lot of 200 gig business, we expect that to continue to grow both in absolute dollars and as a percent of data center revenue.
That being said I mean, I think 100 gig is continuing to track very well as well. So I think both of those things are are looking good.
As I mentioned when Simon asked earlier.
You had another question there Tim I'm, sorry, I forgot.
I think basically we're just asking I think the first part of the question. If I remember it was just basically asking is this really truly product revenue that is driving the increase in revenue as well as gross margin and the answer is yes. It's product revenue that's driving it means we're selling a lot more 100 gig and 400 gig in <unk>.
Datacenter space cable television as we mentioned is down a little bit, but we do anticipate that to tick up a little bit sequentially in the guidance.
And.
And that's what's really driving the growth.
Great and.
Yeah.
Ask a question about kind of what's happening at your yeah.
Microsoft Your biggest data center customer so on the one hand, you look to be.
Developing this active optical cable product.
Or you know what I assume to be a very high speed application.
800 gig I, suppose maybe 400 as well associated with an AI buildout and yet you're also right that you are seeing some pretty strong increases.
And I don't know.
And volumes and maybe pricing as well given.
Given the gross margin movement.
On the current module product I Wonder if you can kind of relate those two things I mean, we've seen Microsoft with a pretty dramatic uptick in spending here. This quarter that is expected to continue really for the next several quarters.
So from your perspective I'd be interested on kind of what's happening sort of short term versus medium term there with regard to.
Data center connectivity demand.
Well without going into it.
Too many details.
That would be difficult to disclose publicly due to our.
And ship there, but I think your observation that Microsoft has been investing heavily.
It's very explanation.
The fact that there are that AI is really driving their network needs right now is extremely important to them and keeping up with the demand. There is very very critical to their operations and so they are they're definitely adding a lot of optical module with a lot of interconnect modules now.
And their expectation based on the contracts that we've supplied in terms of active optical cables certainly would indicate to us that they expect to continue to see strong demand.
Mainly driven by AI applications, although certainly the sort of general purpose.
Compute is also a part of that.
And it would seem to imply that you know.
That's expected to be in pretty strong demand for Microsoft for several years at least as we noted in our prepared remarks, I mean, if you'd kind of look at them. Some.
Some of the some of the forecast that we've received from them and the contractual the minimum contractual levels of manufacturing that they've asked us to prepare.
That would imply revenue of $300 million plus over the next few years just in those products not counting existing other types of business that are that they might have so it's a pretty sizable opportunity for us.
Great. Thanks very much.
Thank you.
At this time I will turn the call over to Dr. Thompson Lin for closing remarks.
Okay, Singapore, Jordan after day as always we want to extend a thank you.
To all investors customers employees, so youll continuous support we look forward to see many of you.
And I'll come in investment.
Comprehends and update you all on net lending cold.
The conference has now concluded. Thank you for attending today's presentation you may now disconnect.
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