Infinera Corporation

Ladies and gentlemen, thank you for standing by and welcome to the Infinera Corp first quarter 2022 earnings call. All lines have been placed on mute to prevent any background noise. After the speaker's remarks, there will be a question and answer session. If you would like to ask a question during this time, please press star followed by the number one on your telephone keypad. If you would like to withdraw your question, again, press star one. Thank you. Amitabh Tasi, head of IR, you may begin your conference.

Thank you, operator, and good afternoon. Welcome to Infonera's first quarter of fiscal 2022 conference call. A copy of today's earnings and investor slides are available on the investor relations section of the website. Additionally, this call is being recorded and will be available for replay from our website. Today's call will include projections and estimates that constitute forward-looking statements, including but not limited to statements about our business plans, including a product roadmap, sales, growth, market opportunities, manufacturing operations, product, technology, and strategy, statements regarding the impact of industry-wide supply chain challenges and COVID-19 on our business plans and results of operation, as well as statements regarding future financial performance, including a financial outlook for the second quarter of fiscal year 22. These statements are subject to risks and uncertainties that could cause Infronero's results to differ materially from management's current expectations. Actual results may differ materially as a result of various risk factors, including those set forth in our annual report in Form 10-K for the year ended on December 25, 2021, as filed with the SEC on February 23, 2022, as well as subsequent reports filed with or furnished to the SEC from time to time. Please be reminded that all statements are made as of today, and IFNIR undertakes no obligation to update or revise any forward-looking statements to reflect events or circumstances that may arise after the date of this call. Today's conference call includes certain non-GAAP financial measures. Pursuant to Reg G, Regulation G, we have provided a reconciliation of these non-GAAP financial measures to the most directly comparable GAAP financial measures in our earnings release and investor slides for this quarter, each of which is available on the investor relations section of our website. And finally, as a reminder, we'll allow for plenty of time for Q&A today, but we ask that you limit yourselves to one question and one follow-up, please. And I'll turn the call over to our Chief Executive Officer, David Hurd.

David Hurd Thanks, Amitabh. Good afternoon, and thanks for joining us today. I will begin with a review of the results for the quarter and provide some color on the broader market context. And then I'll turn the call over to Nancy to cover the details of our financial performance. We continue to benefit from strong demand and deal momentum in the quarter. both of which were above our expectations, especially following a very strong Q4 2021. However, our Q1 financial results did not represent our full potential and were at the low end of our outlook range due to uncontrollable and previously unforeseen supply chain developments late in the quarter. Non-GAAP revenue was just below the outlook range, while both non-GAAP gross margin and operating margin were within the low end of the range. From a bookings perspective, we had a big quarter. especially in the U.S., coming from both ICPs and service providers. Overall bookings grew in the double-digit percentage range on a year-over-year basis, and we ended the quarter with a product book-to-bill meaningfully above one. This was our sixth consecutive quarter with book-to-bill ratio above one. Not surprisingly, our product backlog set another quarterly record and was up almost above 20% sequentially and over 100% on a year-over-year basis. However, from a revenue perspective, we face two anticipated headwinds late in the quarter. First, a $5 million impact due to governmental trade sanctions and our decision to suspend operations in the Russian Federation in early March, the right decision. Second, a $20 million impact from two new supply chain related developments, including first, Project delays due to customer dependencies, meaning we shipped the hardware, but our customers were delayed in commissioning their network to allow for revenue recognition due to challenges with their site readiness, availability of customer resources, and customer furnished installation material. This timing impact was split roughly across product and services revenue. We also experienced a relatively smaller impact from supplier decommits and push-outs, partially caused by the COVID shutdowns in China in the last two weeks of the quarter, a time when we typically ship a very high percentage of our quarterly revenue. These new supply-related impacts occurred against the backdrop of an already difficult semiconductor environment. The combined effect of the higher logistics component cost variations, particularly in the broker market, and lower volumes impacted gross margin in the quarter by an incremental 150 to 200 basis points versus our earlier expectations. On the customer front, we continued to secure new, large deals with well-known brands at a faster pace than originally expected across long-haul, metro, and subsea applications, further validating that our 8x4x1 strategy and refreshed portfolio are winning in the market. In addition to our announced wins in Q1 with customers like Zayo, Windstream, PCCW, amongst others, we had a few other notable brand name wins. First, we secured an I6 win with a significant Tier 1 service provider in Western Europe. Our momentum and performance leadership in subsea are starting to translate into meaningful terrestrial network wins. Second, we signed a large metro deal for our GX product with a major US service provider, one of the largest deals in our history. This is a multi-year deployment that we believe will benefit from improved margins as we integrate our own pluggables in the first half of next year. And third, we successfully onboarded a new top ICP with our GX family of products. We have very strong momentum in the ICP segment, and for the first time in several years, and ICP was our number one customer in the quarter. I-6 revenue grew to the high teens as a percentage of product revenue in the quarter, up from the low teens last quarter. Bookings have started out strong in Q2, and we're in the middle of several certifications of major ICPs and Tier 1 service providers. We remain on track to ramp I-6 to 20 to 25 percent of product revenue in 2022. Next, the GX Metro product had a record quarter with bookings up almost 200% year over year, driven by a combination of new wins and growth in existing accounts. We are winning new Metro deals at a much faster pace than our prior expectations. While these wins have a near-term margin impact as we lay out common infrastructure, the expanded footprint lays the foundation for margin expansion in 2023 when we vertically integrate these platforms with our own products. And finally, we saw continued growth in open line systems, a good leading indicator of future high-margin transponder sales for long-haul and sub-C. The subsystems business group achieved several significant milestones for the quarter. First, our 400-gig XR DSP, which is ZR Plus compatible and the industry's first point-to-point and point-to-multipoint DSP, was delivered from the FAB and is performing well. Initial testing is ahead of schedule. Second, we began early production of our T-Rosa, the optical front end that represents almost 65% of the bill of materials and pluggables. As a reminder, the DSP and the T-Rosa are the two critical building blocks in a pluggable, and we're off to a good start with both. We are planning for our first pluggable samples to be available in the beginning of the third quarter and to start ramping revenue in the first half of 2023. and then to drive hundreds of basis points of gross margin improvement in our metro products once we integrate them into our platforms. And lastly, membership in the OpenXR forum continues to gain traction. During the quarter, we announced the addition of five new service providers to the forum, including AT&T and Telefonica, and the list of service provider members now collectively represents over 20% of the global telecom CapEx spend. Furthermore, the first set of equipment manufacturers of routers, switches, servers, and wireless RAN, including Juniper, Sumitomo, and Arcus have joined the forum. We have a healthy pipeline of familiar network equipment manufacturers interested in joining. These proof points validate that we're on track to productize our pluggables, vertically integrate them into our platform, and create what is potentially a new billion-dollar-plus addressable market to point-to-multipoint pluggables. There is tremendous momentum in our business. We're winning new customers, growing with existing ones, scaling our i6 800 gig and metro solutions, and introducing innovative products like our pluggables and software automation suite. The underlying demand drivers are healthy, and as our customers cope with increasing bandwidth needs to accelerate the rollout of 5G, mobile edge compute, and deep fiber architectures, These dynamics are playing out while the industry's number one optical infrastructure vendor, Huawei, is excluded from many global markets. Looking ahead to Q2, we anticipate continued healthy demand given our bookings momentum and the expectation of a strong CapEx cycle continuing. At the same time, we believe the acute macroeconomic and supply chain pressures from Q1 will continue into Q2. In our Q2 outlook, which Nancy will cover in detail shortly, we've incorporated the impact of suspending our operations in Russia, as well as the projected temporal impact of further customer delays and product pushouts due to constraints on the customer's end. This is a timing impact only. Despite these challenges, we expect to grow revenue sequentially Q1 to Q2. As we look out further into the year, we now believe 2022 will be a tale of two halves, not too dissimilar to 2021, albeit for different reasons. We expect a lower first half of the year, constrained entirely by supply, followed by a meaningful uplift in our financial performance in the second half, with year-over-year revenue growth in the second half at or above the high end of our 8% to 12% range, and gross margins in the 40% range as we exit the year. We anticipate the second half of the year will benefit from the continued ramp of our own production of I-6, conversion of our backlog of revenue, partial benefit from first half pushouts of those projects. As I mentioned, we're timing only based, and some supply chain relief given the actions we've taken over the last six quarters will continue to intensify. Specific to the supply chain, we believe there are at least two developments that are unlikely to be long lasting and therefore temporary in nature. First, we expect the impact of the COVID related shutdowns in China to persist through Q2, and we're assuming some relief from these shutdowns in the second half of the year. Second, we don't believe the elevated pricing levels that we're seeing in the semiconductor broker market are sustainable. and that, frankly, they're running out of supply, which forces more direct negotiations with suppliers, which is proving healthy for forward forecasting. Taking these two factors into account, we remain focused on the elements we can control. The Infonera team has been working diligently over the last six to eight quarters on the following five areas. First, we continue to qualify additional sources of supply, including the redesign of parts for substitution. Second, we have significantly increased purchase commitments to our contract manufacturers commensurate with the longer lead times and increasing demand. Third, we're investing more heavily in hardware cost reduction programs. Fourth, we're significantly increasing production capacity of I6 internally given the robust demand we are seeing. And lastly, we're adjusting selected commercial terms with suppliers and customers. These actions have the objective of mitigating some of the supply chain costs and revenue impacts, which I highlighted earlier, and are enabling us to remain on the path to achieving our target business model. As I close today, I want to reiterate our confidence in Infinera's strategy, refreshed portfolio, competitive position, and customer momentum. We've made tremendous progress, and our team continues to work through some unprecedented times and challenges. I'd like to thank the Infinera team for their continued focus, intensity, and dedication for servicing our members during these dynamic times while taking care of one another. The Infinera culture is intently focused on doing the right thing, and our thoughts and prayers go out to everyone who has been impacted by the crisis in Ukraine. Finally, I would like to extend my thanks to our customers, partners, and shareholders for your continued support. I will now hand the call over to Nancy to cover the financial details of the quarter and our outlook for the second quarter.