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spk13: Good day, everyone, and welcome to the Lamentum Holding second quarter fiscal year 2023 earnings call. All participants will be in listen-only mode. Please also note today's event is being recorded for replay purposes. You will have the opportunity to ask a question at the end of the presentation. If you'd like to register a question, please press star followed by one on your telephone keypads. Please note we'll be taking one question and one follow-up per person. At this time, I'd like to turn the conference call over to Cathy Tarr, Vice President, Investor Relations. Ms. Ta, please go ahead.
spk06: Welcome to Lumentum's Fiscal Second Quarter 2023 Earnings Call. This is Kathy Ta, Lumentum's Vice President of Investor Relations. Joining me today are Alan Lowe, President and Chief Executive Officer, Wajid Ali, Chief Financial Officer, and Chris Coldren, Senior Vice President and Chief Strategy and Corporate Development Officer. Today's call will include forward-looking statements, including statements regarding our expectations, regarding our recent acquisitions, including neophotonics, such as expected synergies in financial and operating results, macroeconomic trends, trends and expectations for our products and technology, our markets, market opportunity and customers, and our expected financial performance, including our guidance. as well as statements regarding our future revenues, our financial model, and our margin targets. These statements are subject to risks and uncertainties that could cause actual results to differ materially from our current expectations, particularly the risk factors described in our SEC filings. We encourage you to review our most recent filings with the SEC, including the risk factors described in the quarterly report on Form 10-Q to be filed for the quarter ended December 31st, 2022, and those in the 10K for the fiscal year ended July 2nd, 2022. The forward-looking statements provided during this call are based on Momentum's reasonable beliefs and expectations as of today. Momentum undertakes no obligation to update these statements except as required by applicable law. Please also note, unless otherwise stated, all financial results and projections discussed in this call are non-GAAP. Non-GAAP financials are not to be considered as a substitute for or superior to financials prepared in accordance with GAAP. Lamentum's press release with the fiscal second quarter 2023 results and accompanying supplemental slides are available on our website at www.lamentum.com under the Investors section. This includes additional details about our non-GAAP financial measures and a reconciliation between our historical GAAP and non-GAAP results. With that, I'll turn the call over to Alan.
spk04: Thank you, Kathy, and good morning, everyone. Our second quarter financial and operational performance was very strong, led by robust demand from our telecom and commercial lasers customers. Operating margin and earnings per share were both above the high end of our guidance range with revenue above the midpoint. We'll cover this more in detail in the next section. As expected, sequentially higher revenue from telecom and commercial lasers customers in the quarter offset the anticipated reduction in revenue from certain cloud customers due to inventory digestion and at a major consumer customer due to reduced smartphone unit production. As discussed over the past several years, share normalization has occurred in our consumer business, lessening our exposure to this cyclical market. Nearly 90% of our total revenue is now derived from infrastructure markets, which are driven by durable, long-term secular trends in which we serve with highly differentiated products and technologies. Lumentum lights up the optical fiber of the most advanced cloud carrier, submarine, and 5G mobile networks across the globe. The technology we provide enables compute, data, and communications infrastructure to scale from a performance, cost, and power consumption standpoint. We enable higher precision, new materials, and cleaner and more energy efficient processes to be used in the microelectronics industry. The type of lasers we supply are key to manufacturing of electric vehicles, energy storage solutions, and solar cells. Our technology leadership position is stronger than ever due to successful investments in developing new products and technologies, as well as the two acquisitions we closed this past August. We are now six months into integrating these acquisitions and tracking ahead of plan and realizing overall cost synergies, which contributed to our profitability and earnings per share results being above our guidance ranges. Our technology capabilities in manufacturing scale make Lumentum the innovation partner of choice for our customers. We have the communication industry's broadest photonic capabilities, including high bandwidth coherent and direct detect optical components and modules, ultra narrow line with tunable lasers, advanced optical amplification and Rotem solutions, coherent DSPs and RF integrated circuits, as well as silicon and indium phosphide photonic integrated circuits. In close partnership with our customers, we enable the deployment of the industry's latest high-capacity 400, 600, and 800G cloud and core network solutions. In addition, due to the escalating data traffic at the edge of the network, customers are deploying our products originally developed for core network applications at the edge or access part of the network. Revenue from edge networking products was up 40% year-on-year in the second quarter and is now a major component of our telecom business. We are confident that our technology leadership position and solutions for advanced compute, data, and communication infrastructure will continue to provide a tailwind for Lumentum's long-term growth. Now, let me provide some detail on our second quarter results. Telecom and datacom revenue was up 44% year-on-year, driven by organic and inorganic growth in telecom. Within this, growth from telecom customers was substantially higher, but partially offset by inventory digestion at certain cloud customers. Revenue growth continues to be limited by supply shortages of ICs from third parties. We have made significant progress over the last year on closing supply gaps, which has enabled our growth to date. At the end of the second quarter, remaining IC supply shortages resulted in approximately $60 million of unsatisfied customer demand. This is a modest improvement from the $80 million gap articulated in our last call. Revenue was especially strong in products which play into the industry's transition to 400G and above speeds in next generation networks, including narrow line with tunable lasers, tunable transceivers for network edge applications, high speed coherent components and modules, as well as our latest Rotums. We achieved a new quarterly revenue record in narrow line with tunable lasers which are key enablers of all coherent transmission solutions, including 400 gig VR and VR plus modules, and our customers latest 600 gig and 800 gig transmission systems. We also set a quarterly revenue record with our tunable transceivers for network edge applications, where a growing set of cable, MSO, and wireless network operator customers use our modules to expand data bandwidth in metro access, fiber deep, and wireless 5G front-haul applications. Coherent components serving 400G and above applications also achieved record revenue, with approximately half of the quarterly revenue in coherent components coming from the highest data rate applications at 600 and 800 gigs. Second quarter ROADM revenue grew 45% in the same quarter last year. due to continued strong demand and improved access to critical ICs. Shipments of M by N rotums grew 78% and high port count rotums grew over 70% from the same quarter last year, representing a broader adoption of these next-generation rotums with market-leading customers. As anticipated, inventory digestion at certain cloud customers and their module manufacturers resulted in a sequential decline in Datacom laser chip revenue. As highlighted in our last call, we expected the hyperscale customers to reduce their inventories of our laser chips during the second quarter, and now we expect that this will continue throughout most of calendar 23. Looking ahead on the technology roadmap, cloud data centers will be designed for artificial intelligence and machine learning applications which bodes very well for us as we extend our technology leadership to even higher speed laser chips. We are on track with our 200 gig per lane EMLs for 1.6 terabit per second applications and expect to enter production as we exit fiscal 23. We are also broadening and diversifying our product portfolio for intra data center applications with differentiated high speed pixels DMLs, and high-power CW lasers and receiver photodiodes for silicon photonic solutions. For example, we expect to ramp production of our new 100 gig per lang pixels during fiscal 24. This is a major new opportunity for us and addresses the accelerating transition from copper to optical fiber in shorter-reach data center applications, especially those for machine learning and artificial intelligence. Turning to industrial and consumer, Q2 was down from Q1 as expected. During the quarter, we saw incrementally weaker overall demand for consumer pixels. We continue to focus on ramping new automotive and industrial sensing applications for our technology. In the second quarter, we recognized approximately $3 million in revenue from automotive and IoT applications, and we expect this revenue to grow significantly in the coming years as these opportunities ramp. At this year's CES show, we had strong customer engagement across all applications of 3D sensing and LIDAR, including from numerous automotive customers. We have a broad, multi-pronged approach to solid-state LIDAR and automotive, with a wide range of design wins with market-leading customers who are pursuing a variety of in-cabin and LIDAR approaches. In the second quarter, commercial lasers revenue was up 7% sequentially and 16% from the same quarter last year. While fiber lasers for metal cutting and welding continue to be our largest commercial lasers product line, products for emerging high growth applications in solar, display, and electric vehicle manufacturing are becoming more meaningful, and we now expect them to increase in our mix in the coming quarters. Underscoring this, ultra-fast laser revenue in the quarter more than doubled from the same period last year due to expanded use cases. Our FemtoBlade laser was recognized with the 2022 Innovators Award at Laser Focus World due to our innovative design, which enables faster processing time in micromachine applications for OLED displays, semiconductor ICs, printed circuit boards, and solar cells. We are very excited about our lasers product roadmap, which will expand our addressable market further in the coming years. I'm very confident about Lamentum's future, given our differentiated portfolio of innovative products and technologies, our strong foundation of intellectual property, and our significant opportunities for long-term growth in the cloud, networking, and advanced manufacturing markets. I am also very confident in our ability to grow into adjacent markets, extend product leadership, and expand profitability over the long term. In addition, we have made tremendous progress towards achieving our corporate responsibility goals, including our drive to a net zero carbon footprint by 2030. Lumentum has also been named by Newsweek as one of America's most responsible companies for a second consecutive year in recognition of our achievements. in ESG. Finally, I would like to thank all of our employees around the world for all their hard work and resilience as they continue to execute upon our strategy. With that, I'll turn it over to Wedjid.
spk16: Thank you, Alan. Net revenue for the second quarter was $506 million, which was above the midpoint of our guidance range. Net revenue was flat sequentially and up 13.3% year on year. Gap gross margin for the second quarter was 32.8%. Gap operating margin was negative 4.3%. And gap diluted net income per share was a net loss of 46 cents, primarily driven by one-time charges related to acquisitions and restructuring activities. Second quarter non-gap gross margin was 44.9%. which was down sequentially and year-on-year as expected, primarily driven by product mix, including neophotonics revenue. During the quarter, we incurred $11.7 million in extraordinary charges to acquire IC components from various brokers to satisfy customer demand. These incremental charges were excluded from non-GAAP gross margin as disclosed in our filings. Second quarter non-GAAP operating margin was 23.1%, which decreased sequentially and year on year due to product mix, including from our recent acquisitions, but was above the high end of our second quarter guidance range. Second quarter non-GAAP operating income was $116.7 million and adjusted EBITDA was $133.4 million. Second quarter non-GAAP operating expenses totaled $110.3 million or 21.8% of revenue. SG&A expense was $45.9 million. R&D expense was $64.4 million. Interest and other income was $5.1 million on a non-GAAP basis due to higher interest rates on our cash and investments. Second quarter non-GAAP net income was $104.1 million and non-GAAP diluted net income per share was $1.52. both of which were above the high end of our guidance range provided on our last call. Net income per share performance was in part driven by accelerated acquisition synergy attainment, a cost savings action taken late in Q2, and higher interest income on our cash and investments. I will provide more color on our structural cost improvements in the guidance section of my prepared remarks. Our fully diluted share count for the second quarter was $68.6 million, on a non-GAAP basis. Our non-GAAP tax rate remains at 14.5%. Moving to the balance sheet, we ended the quarter with $1.68 billion in cash and short-term investments, which was up $55.5 million from Q1. During the quarter, we had some one-time restructuring costs as we accelerated the attainment of acquisition synergies and drove some structural cost reductions. Turning to segment details, second quarter optical communication segment revenue at $448.8 million decreased 1% sequentially, primarily driven by a decline in industrial and consumer, which is mostly offset by growth in telecom and datacom. Optical communication segment non-GAAP gross margin at 43.9% decreased sequentially and year on year, primarily due to product mix and the impact of the Neophotonics acquisition. Our second quarter laser segment revenue at $57.2 million was up 7.1% sequentially and up 16% year on year. Second quarter lasers gross margin of 52.4% was approximately flat sequentially. Now let me move to our guidance for the third quarter of fiscal 23, which is on a non-GAAP basis and is based on our assumptions as of today. When we acquired NeoPhotonics, we highlighted $50 million in synergy opportunities with $20 million in annual operating expense opportunities within the first fiscal year, and then another $30 million cost of sales synergies as we exit the second fiscal year. We have already exceeded our $20 million cost savings target in annual operating expense synergies. Over the last six months of integration activity, we have executed well on our operating expense reduction plans and are confident we will exceed our initial synergy targets. In December, we took additional actions that will structurally improve the long-term operating costs of the company. The benefits of these actions is reflected in our diluted net income per share guidance for Q3. As we execute on our integration and synergy plans, I will provide more details in future quarters. Our Q3 guidance reflects our expectation of reduced cloud and consumer and market revenue, supply constraints on telecom products, and a few million dollars sequential decline in lasers revenue. We expect net revenue for the third quarter of fiscal 23 to be in the range of 430 to $460 million. Our Q3 guidance incorporates approximately $60 million of impact to revenue driven by continued shortages of third-party components. Based on this, we project third quarter operating margin to be in the range of 17% to 19% and diluted net income per share to be in the range of $1 to $1.15. Our non-GAAP EPS guidance for the third quarter is based on a non-GAAP annual effective tax rate of 14.5%. These projections also assume an approximate share count of 69.4 million shares. Turning to our annual outlook, due to substantial structural improvements in our operating expenses and tight cost controls, we anticipate fiscal 23 EPS will be above the midpoint of our previous fiscal 23 outlook of $4.65 to $5.65 per share to a new range of $5.15 to $5.45 per share. We expect that our fiscal 23 revenue will be at the low end of our previously articulated annual outlook of 1.9 to $2.05 billion. This implies Q4 revenue will be approximately flat from Q3 Given our assumption of growth in our telecom and datacom business offset by seasonally lower consumer revenue, we expect that Q4 will still be constrained by IC supply. I am extremely pleased with the progress our team has made in synergy attainment, and we are now in an excellent position to exceed our $50 million synergy savings target. With that, I'll turn the call back to Kathy to start the Q&A session. Kathy?
spk06: Thank you, Wajid. Before we start the Q&A session, I'd like to ask everyone to keep to one question and one follow up. This should help us get to as many participants as possible before the end of our allotted time. Now let's begin the Q&A session.
spk15: Thank you.
spk13: If you'd like to ask a question, please press star followed by one on your telephone keypad. If you'd like to withdraw your question, please press star followed by two. When preparing to ask your question, please ensure you're unmuted locally. Our first question comes from Simon Leppold of Raymond James. Simon, your line is open. Please go ahead. Thanks for taking the question.
spk02: I wanted to see if maybe you could build a bridge or unpack a little bit more the outlook for the telecom and datacom segment being down in the March quarter. Because I guess there are a handful of things I'm contemplating as factors, but just want to understand better in that I know you've got some seasonal slowing from the Chinese New Year, simply the factory workers going home. I'm wondering if maybe there's incremental supply chain issues baked in or whether we can attribute the decline more to the weakness you're seeing from hyperscale. Just looking to unpack the drivers. Thank you.
spk04: Yeah, thanks for the question, Simon. Yeah, our guidance for Q3 has telecom and datacom coming down really mostly because of the slowing end cloud customer and the supply chain that goes into the cloud. And we are still continuing to have challenges with semiconductors as we indicated in the script that we still anticipate $60 million of unsatisfied demand primarily in telecom as we exit the third quarter.
spk15: Thanks.
spk02: Just a quick, easy follow-up. Yeah, and it's pretty simple. You did mention earlier cost synergies coming out from the acquisition, and you exceeded your own guidance on earnings. I'm just wondering what you had baked in when you provided the original forecast for the synergies and how much you exceeded them by. Roughly, you were about 11, 12 million below our OpEx assumptions. And I'm trying to just make sure I understand where it's coming from.
spk16: Yeah. Hi there, Simon. Yeah. So probably for the fiscal quarter Q2, You know, we were able to impact operating expenses by about five to seven million dollars incrementally better in the quarter than we had thought coming in to the quarter. From a total synergy standpoint, basically what's happening is that the first year synergy targets that we had set for ourselves have gotten pulled into the first six months. And so we're being able to see the benefit of that. Not only in our fiscal Q2, but in the fiscal Q3 and fiscal Q4 outlook, we've provided, given that we've got a lower revenue level, or we're at the low end of our previously announced outlook on revenue. So that's really what's happening from a synergy standpoint.
spk06: Thanks, Simon.
spk13: Thank you. Our next question comes from Tom O'Malley of Barclays. Tom, your line is open. Please go ahead.
spk00: Good morning, guys. Thanks for letting me ask a question here. I just wanted to ask on the industrial consumer, and particularly the 3D sensing side in December, when you look at that market, you have talked about a normalization of share for a while now, but I just wanted to get an update there. In terms of normalization, do you view that market as split equally, or do you see yourselves losing additional share there, just because if you look at the numbers between the two of you, it looks like share has moved away. Just any comments on what is a normalization of share and where that stands today? Thank you.
spk04: Yeah, I'll give you my thoughts on it, and then Chris can chime in as well. We've been talking about share normalization for years now, and it's finally come. And if you look at our reduction in 3D sensing revenue year on year, we're cutting about half. And so that's what we would have expected. I can't comment on what our competitor is saying or doing, but, you know, everything is coming in as we expected. Chris, you have additional comments on that?
spk12: Yeah, I would just echo. It's difficult to compare to competitors, but, you know, certainly, you know, They sell more than Vixels and sell into more than just 3D sensing in the sensing application universe. And as Alan highlighted, we expected 50% down in the first half of this year, and that's what's happened. And that baked in our expectations around share as well as other normal year-over-year price downs and things like that.
spk00: got it and then just as a follow-up through the December quarter you saw some of your end customers actually beat estimates quite quite robustly and they called out supply chain kind of work throughs can you just talk about your guiding that telecom business down into the March quarter can you talk about what the supply chain looks like with your end customers do you see inventory on their balance sheets obviously You know, they're beating on the revenue side, but they're talking about backlog coming down. Just any update on the health there of that ecosystem, just given the fact that you're kind of seeing March down and then you're indicating June flattish from a total company perspective. So any comments there would be helpful. Thank you.
spk04: Yeah, sure, Tom. I'd say, you know, our network equipment manufacturing customers' backlogs are continuing to be very robust. Of course, their inventory is growing, as you say. We can see it on their balance sheet, but their demand on us is extremely strong. I say the soft part of the market that we see is where the end customer is the cloud service provider. But given the backlog at our customers, I don't see that as a huge concern over the long term as the carriers are continuing to have to invest to meet the ongoing continued growth in bandwidth demands.
spk12: Yeah, and I'd add only that, you know, Tom, your suggestion that, well, you know, revenue going into the fourth quarter may be at the company level flat, as we said in the prepared remarks. Obviously, there's additional seasonality and 3D sensing. And so we expect telecom to go up into the fourth quarter. Or telecom and data. Thanks, Tom.
spk06: Thanks, Tom.
spk13: Thank you. Our next question comes from Christopher Roland of SIG. Christopher, your line is open. Please go ahead.
spk14: Thanks for the question, guys. I guess my first question is around gross margin. So if I look at optical comms in particular, you guys were kind of mid-50s a little over a year ago. mid 40s. Now, can you talk about the trajectory as we look forward? You know, is this is this now the trough? And what is that kind of recovery and gross margin look like? And and when might we be able to get north of 50 again for for that business?
spk16: Yeah, hi there. It's watch it. I'll start off on that. Yeah. So You're absolutely right. Our gross margins have come down year over year, primarily because our chip businesses, both our data comm business and our 3D sensing businesses, have historically had higher gross margins than the rest of our telecom and transmission product lines. And so as we've seen a mix shift, we had highlighted very early on with the Neophotonics acquisition that we would see a shift from a gross margin standpoint. Now, we've been able to offset some of that as we've started going through our synergy actions. And as we go through the $30 million of synergy actions that we had highlighted at the onset of the acquisition, and we've highlighted it on every call after that, we expect that most, if not all, of that benefit will actually come through in our OpCom gross margins. with the factory consolidations and the backend consolidations that we see happening and executing on throughout. We've actually already begun most of the planning on it, but as we execute on it in fiscal 24, we'll see the benefit of that come through. As well, you've noted that we've talked about the inventory digestion happening over the next couple of quarters within our Datacom product lines. And as that recovers, we should see favorable impact as those revenue levels increase as well. So that's really our path to increasing our gross margins in our OPCOM business.
spk14: That's fantastic. And then just following up on OPCOMs as well, two other kind of lines of questioning. First of all, I wanted to follow up on your Datacom question. So I believe you pushed out that weakness from the first half to the full year. Was wondering, you know, did you just get a fresh view on the amount of inventory at cloud customers? I'd like to know why that was pushed out. And then also if you could perhaps talk about this migration from 400 to 800. Does that play into this as well? And then finally in OPCOMs, ROADM, you know, anything on that market and would you believe your supply normalized with demand at this point?
spk04: Yeah, that's quite a follow-on. So I'd say the change in Datacom outlook in duration of the digestion was twofold. One is inventory. We knew the inventory was there. Secondly is the cloud growth and the capex spending of the cloud providers. As their growth slows, their need to deploy more data centers and the interconnections of those data centers lessens. And so that's why we wanted to set expectations that it's going to take a few quarters to get through that inventory. I'd say that the migration to 800 gig is just economically the right thing to do for those cloud providers. And so they're very excited to make that transition. And as we said, that transition will happen late this fiscal year and ramp through fiscal 24. And then on Rotem supply, I'd say that's the primary area, Rotems and Rotem line cards, where we're being impacted the most with respect to the supply chain challenges and ICs that we have. I'd say 70% year-over-year growth on high-end and contention with end-by-end is a pretty good indicator that those are the products that are leading the market, and we expect continued growth in that market as new networks get deployed. So we're really excited about the progress on Rotems and next-generation Rotems that we expect to come out in fiscal 24. Chris, do you have anything to add on any of those topics?
spk12: Yeah, I mean, I would say that the transition, or I wouldn't call it a transition, the add of 800 gig, because I think 400 gig is still, you know, going to grow over the next N number of years. And as 800 gig is added, that only adds to the opportunity. And, you know, as we've highlighted in the script, that's an exciting opportunity for us. We're participating today in some certain 800 gig architectures that are just beginning to hit the market, but as we introduced the 200 gig EML that enabled an even more cost effective 800 gig architecture and so a great opportunity for us and you know there's not a lot of inventory of that given that's brand new right so that should be something that's incremental.
spk15: Thank you, Chris.
spk13: Thank you. Our next question comes from Samik Chatterjee of JPMorgan. Samik, your line is open. Please go ahead.
spk01: Hi. Thanks for taking my questions. I have a couple. Maybe we can start on supply. And I'm curious, you indicated the supply backdrop improving modestly. As you look at the March quarter, the feedback that we've seen from the industry is that even though the broader sort of supply environment is improving, the problems, particularly around ICs, might be broadening to more suppliers than before. Just wondering what are you seeing? Are you generally seeing this sort of consistent improvement across your supply base, or is it sort of similar to what the other feedback that we've received, that the problems might be broadening across more suppliers? And I will follow up. Thank you.
spk04: Yeah, I'd say in general, things are better. But as we've said all along, we need all of the parts to be able to ship a product. And so as we see analog ICs and even passives become a problem or a decommitment, we've seen surprisingly more decommitments last minute due to factory issues or COVID issues or what have you. So it's not behind us by any means. And so I'd say we're seeing exactly what you said, Samik, which is general improvement, but still have problems that we're working through and surprises that we've incorporated into our guidance.
spk01: And just to follow up on Datacom, I think some of the other module makers that have reported have indicated that the 200 gig plus modules are doing well with cloud customers still and there seems to be a ramp on that front. Just wondering sort of if we should be thinking about your Datacom business being positioned differently with the module makers or module maker customers that you work with and could you sort of also sort of give us some guidance in terms of is there sort of another leg down when we think about Datacom revenues from these levels that you're seeing as you indicated sort of draws out through the end of the year. Do you see more risk in terms of additional step downs given sort of what you're seeing with inventory with the customer? Thank you.
spk12: Yeah, I think Samik, this is Chris. I'd clarify that the module makers are our customers and so I think as we maybe alluded to in the prepared remarks that our view is that there's inventory digestion both at the cloud operator buying transceivers, but as well the transceiver manufacturers that are our direct customers also have high levels of inventory. So you can imagine a scenario where they are continued to ship at using or leveraging chips that we've already provided. In terms of a leg down, I think, and we've highlighted this previously, that the March quarter timeframe is where we see the low point for us in the Datacom chip business. I think the new development is just the ramp back up from that point is probably going to be a little more gradual based on the latest discussions with industry participants.
spk15: Thank you, Samick.
spk13: Thank you. Our next question comes from Alex Henderson of Needham. Alex, your line is open. Please go ahead.
spk07: Great, thanks. I was hoping you could talk through the dynamics around pricing. Typically, the March quarter has 10% or 15% type price declines in it. Are we seeing any of that? I've heard that pricing is much flatter this year than traditional pricing. And similarly, on the flip side of that, what are you seeing on the supply chain side of pricing to you? Obviously, you've talked about $60 million in constraints, but what about on the pricing side and the margin impact of the supply chain piece of the equation? Can you give us some guidance on that? And as you're looking out into the June quarter, do you expect this inventory correction to result in some non-seasonal pricing changes? Thanks.
spk04: Yeah, Alex. I'd say that you're right. The pricing environment between us and our customers is very different than the 10% to 15%. In some cases, prices are actually going up. But overall, we're in this for the long term with our customers, and so we're trying not to take advantage of the short term with really focusing on helping them win in the market and helping us have long-term supply agreements with our customers. So the price dynamics are very, very different, and you're right, it's much flatter than traditionally. I'd say pricing to us from our suppliers has moderated with respect to the price increases we saw a year or so ago. That said, we're still going out to the broker market when we need to to satisfy our customer demand, and we're having to pay spot-by premiums that impact our cash significantly. We're seeing less of that, frankly, more recently, but we're still in that game for some period of time. And then in the June quarter, your inventory digestion question, is that around Datacom or is that something else?
spk07: Well, the question is ultimately as things start to normalize, given the flatness of pricing over the last two years, does that pricing start to creep back into the equation as a downward pressure, maybe on a non-seasonal basis, but rather on a cyclical basis?
spk04: I see. Okay. Yeah, like I said earlier, we're working with our customers to try to satisfy their short-term needs for price reductions, but also our longer-term needs to have agreements in place that extend a year or two. And that's what we're working on, a win-win solution with our customers that would then ensure that that we have set prices with them and we have set share agreements with them that extend beyond the short term. So I'd say that as inventory or as supply becomes available, that $60 or $70 million of unsatisfied backlog will be satisfied. But we don't see that happening in the June quarter. We see continued challenges. as we need to get the semiconductors in-house by April in order to make the shipments for June. So we're still seeing challenges and think it's going to go into, you know, early into the second half of the calendar year.
spk07: The second follow-up question is on the technology front. There are a couple of moving pieces that I was hoping you could address. The first one is that we've heard that there's a new module going into the primary 3D sensing customer in the new editions that is pretty meaningfully changed from the prior module. And I'm wondering if that is a function of your design or somebody else's. And then second, you talked about delays in the timing and the ramp on the Datacom. I'm assuming that that is not a relation to any... missed windows on getting the new products up. And then third off of this, a broader question, AI is taking off in most of the cloud customers. Is there an impact from changing the architecture of the datacom, telecom network for AI impacting your business? So can you address the technology side of those key pieces? Thanks.
spk12: Yeah, thanks, Alex. Great question. Maybe kind of start with the Datacom and then circle back around to the 3D sensing. So in the Datacom side of things, the period of extended digestion is not driven by any missing any product window. I think it just is generally driven by uh, cloud CapEx trends and, and, you know, perceived probably, uh, economic outlook by, uh, customers or end customers in terms of the AI architecture. Yes. I think that, that, you know, it's a tremendous opportunity for Lumentum and folks like Lumentum, uh, because, you know, not only you talk about transitioning to higher speeds, but you're looking at copper moved to optical and it's a very interconnect, uh, dense or rich architecture, and therefore we expect an acceleration in volumes. And as we highlighted in the prepared remarks, we're broadening our technology or product offering within the Datacom portion of our telecom and Datacom business. We've been really focused on EMLs and DMLs. That's what we had when we got out of the module business. But over the past couple of years, expanding Vixel photodiode high-power lasers for silicon photonics and CPO architectures. So we'll have a broader product offering that plays into this very rapidly expanding interconnect dense or rich AI architecture. Circling around the 3D sensing, yep. Not sure what is being referenced, but I don't think it's appropriate to comment or speculate on a specific customer program or what's going to happen next year. We remain focused on being the innovation partner and the best proven supply partner for our customers, and we remain very competitive in that space.
spk06: Thank you, Alex.
spk13: Thank you. Our next question comes from Meta Marshall of Morgan Stanley. Meta, your line is open. Please go ahead.
spk05: Great. Thanks. I know we've kind of circled around it, but I guess I was just surprised to see the broker fees increase kind of pretty meaningfully this quarter from the past couple of quarters. And so just wanted to get a sense of, you know, was that some acute increase in fees towards the end of the quarter just as some of the china reopening pieces made the environment a little bit more acute uh or just kind of what led to kind of that pretty dramatic step up and then just it seems as if you're saying they'll step down but just you know we expect to kind of go back to some of the more normalized like when is your view that we get back to less dramatic broker fees being paid. And then maybe just a follow-up question for me, just any update on kind of the DSP development efforts.
spk16: I might all start off with the broker fees and then Alan can talk about the DSP side of it. Basically what you saw happening is as inventory was being flushed out, with the increased supply, the broker charges were a little bit higher. And so the reason they were lower last quarter is not because our purchases were lower, but it was really just the time that it took for it to go through the lead time offsets in our manufacturing process, pick up the rest of the components that were needed in order to ship the final product. And so with the improvements we saw in fiscal Q2 in our ability to actually deliver to our customers you would see a corresponding increase in that charge simply because it was flowing from inventory into cost of sales. So it's more of an accounting matter rather than a business issue. We have actually seen our purchases for broker bought inventory decrease and we expect it to decrease in the coming quarters as well as it's just a couple of component suppliers that we are now struggling with to fulfill our demand. Alan, DSP?
spk04: Yeah, thanks for the question. Yeah, very excited about the team that we brought on from the IPG acquisition, not only on DSPs, but also RFICs from Neophotonics and what both companies, both acquisitions bring to us on silicon photonics. But on the DSP front, we're focused primarily on getting the tape out done for our first DSP and continuing to drive our roadmap. But primary focus is get the tape out done, get the product into our ZR and ZR plus module. And then, you know, we'll see what happens from there. Our primary focus for the DSP is internal consumption. to really drive the cost of the ZR type module down to the lowest possible cost point. And the DSP was the last piece that we needed. So we have all of the other components. If you look at a ZR, the tunable laser, the modulator, the receiver, the RFICs and the DSP, we've got it all. So we are the broadest range or broadest provider vertically integrated on those modules. As we finish up that DSP, I think we'll have a very, very competitive offering at 400G. And then we're going to continue to work with the merchant market on next generation DSPs. But we are filling out our roadmap and building up the team to be able to do more than one DSP at a time. So very, very exciting time.
spk06: Thanks, Mita.
spk13: Our next question comes from George Notta of Jefferies. George, your line is open. Please proceed.
spk03: Hi, guys. Thanks very much. You mentioned you made some organic cost reductions in the business. I guess I'm just curious about what segments of the business you're taking cost out, what types of costs, anything you can tell us there would be great.
spk16: Hi, George. It's mostly on the GNA side, a little bit on SGNA, but primarily the reductions that we saw during the quarter were on the GNA side. Where we see a little bit of opportunities from a product rationalization standpoint, we're doing that as well. But any savings that we're getting from that, we're reinvesting into R&D. So that's really the way to think about it.
spk03: Got it. Okay. Thank you very much. And then any sense for what the neophotonics contribution was in the quarter in terms of revenue impact? I know you guys gave us a number for last quarter. I think it was $73 million over two months, but just curious what that looks like now.
spk15: Hey, George. This is Chris.
spk12: Yeah, as well along in many of our integration plans, we're not going to be breaking out any separate neophotonics contribution. The teams are one team working together. Products are beginning to be rationalized, so it's a little difficult to say what is neophotonics and what is momentum at this point. We're all momentum.
spk06: Thanks so much, George.
spk13: Thank you. Our next question comes from Ruben Roy of Stifel. Ruben, your line is open. Please proceed.
spk08: Thank you. Thanks for letting me ask a couple questions here. I had a follow-up for Chris on the commentary around 3D sensing. I just wanted to make sure I understood this correctly, Chris. When you think about the drivers of the downtick in the business, you've got overall demand, you've got share, which you talked about, and pricing. I believe you said pricing and pricing environment is normal. and you did talk about the share kind of being kind of where you thought it was going to be. So the way to think about it, I guess, for this fiscal year is demand obviously lower, but as you look ahead with consumer now down around 10% or so of revenue, do you think the pricing environment is going to be similar for next year? Do you think we're going to grow off of that level? Any detail there would be helpful. Thank you.
spk12: Yeah, I would say, as you highlighted, the year-over-year performance is primarily driven by the share normalizations we've talked about. We've had an outsized share position for many years, and so it was really just a question of when and how steep that reduction would come. Now that we're more normalized, I think that is largely behind us. Pricing as you indicated, is normal. There's nothing unusual going on there over the past five years of this. Prices have come down in general unless there's a change in architecture, if you will, where a chip gets bigger or smaller. That causes an adjustment in price, and then from that point forward, there tends to be more year-over-year price downs like we get from our IC suppliers, and it's very normal as volumes go up. You know, this year, obviously, in the past near term, the last quarter and looking ahead, there's obviously more going on there with regards to supply chain disruptions at our customer and, you know, perhaps lower consumer demand. But I think as we look ahead, you know, our focus is on one, you know, continuing to do well and be a customer's innovation partner of choice in the consumer space, but as well, broadening out into other new applications. We've got extended reality, we've got automotive, and then, you know, what's perhaps even more exciting over a longer timeframe is in the industrial markets where, you know, sensing technologies will impact manufacturing, factories, warehouses, and that's an area where, you know, we're Not only can we supply lasers, but we can supply modules and subsystems leveraging a much broader base of technologies that Lumentum offers. So I think there's a lot of tailwinds more broadly when we start talking about these expanded use cases in new applications, these new applications perhaps of higher dollar content and things like automobiles, as an example, or even extended reality headsets. tend to have more sensors per a given device, so that amplifies the dollar con opportunity per unit. Does that answer your question?
spk08: It really does. Thanks for all that detail, Chris. If I could just ask a very, I hope, a quick follow-up in terms of the initial revenues being recognized. out of auto, IoT, etc. How would you characterize those revenues? Are those sort of still proof of concept revenues? I guess what I'm trying to get at is, is there a line of sight to an inflection in some of those non-consumer markets for 3D?
spk04: I'd say it's more than proof of concept, as especially in China, the adoption of LiDAR is becoming a reality. And so I'd say that the inflection point isn't in the very short term with respect to ramping, but I'd say that these are going into vehicles that are going out on the road. And so I'd say that, you know, fiscal, by the end of fiscal 24, we should see, you know, a meaningful pickup in that business. And, you know, we're excited about the broad range of customer engagements that we have and the design lens that we've been awarded. So, yeah. It's more of a long-term investment that we've continued to make, and in the coming years, it should be more meaningful.
spk06: Thank you, Ruben.
spk13: Thank you. Our next question comes from Ananda Barua of Loop Capital. Ananda, your line is open. Please go ahead.
spk11: Hey, thanks, guys. Good morning. Thanks for taking the questions. I guess two quick ones, if I could. Chris, you had mentioned with 3D, or it was mentioned in the slide deck with regards to 3D sensing that demand was softer than anticipated. So was there a production component to that as well and a demand and market component to that as well? And then just a quick follow-up. Thanks.
spk12: Yeah, on our end, I don't think there was any production component limiting us. It was generally focused on customer demand. And I think the factors that we've highlighted around customer supply chain disruptions that really impacted the second quarter being a little bit below where we had originally thought. If you recall, these disruptions maybe began slightly before our last earnings call, but they continued, if you will, through the remainder of the year.
spk11: Got it. Helpful. And, and how would you guys characterize the transceiver business right now? And, uh, you know, sort of demand of transceivers into, uh, into end customers, uh, and I guess any impact from transceiver inventory that you're seeing at end customers. And that's it for me. Thanks.
spk12: Uh, are you referencing, uh, datacom transceivers, telecom transceivers? like we lost ananda well to be clear um oh go ahead oh my back yeah i was trying to get it neophotonic specifically yeah so i i would say that uh you're probably referencing z yes the zr transceivers coming out of and dco type modules and things are going well on that front um You know, we participate in the transceiver market both by supplying to other transceiver vendors, and that's, you know, the bulk of the revenue participating in that market today. But as Alan highlighted, we have our own ZR, ZR Plus business with a neophotonics acquisition program. Good design wins, and our big focus today is leveraging the combined company's capabilities to bring costs down and drive more design wins, and we anticipate that will be a tremendous growth opportunity for us over the next couple of years, given that the RZR Plus market is going to be a multibillion-dollar market, and especially as it transitions to 800-gig long-term tailwind.
spk15: Thanks, Fernando.
spk13: Thank you. Our next question comes from Vivek Arya of Bank of America Merrill Lynch. Vivek, your line is open. Please go ahead.
spk10: Thanks for taking my question. I'm trying to understand whether your commentary about Datacom demand being soft, is that Lumentum-specific, a single customer, a single product type thing, or is it a broad commentary on Datacom demand being softer as an industry across the board for most of the year?
spk04: I would say that it's more end market softness in the cloud providers. And so for Lumentum, we sell Datacom chips to both the cloud providers as well as the module manufacturers. And as the cloud industry as cloud providers slow the deployments of data centers, they slow the deployment or consumption of Datacom modules. And so what we're seeing is that inventory being depleted, but the slower growth of cloud that has been very public from those end customers basically slows the consumption of what was originally thought to be much stronger. Our view on this is it's a temporary issue that we'll get through and very excited about the broadening of products as we address AI and machine learning. So I wouldn't say it's a momentum specific. It's more of an in-the-market change that we've seen that's temporary.
spk10: Understood. And for my follow-up, Realistically, does your 3D sensing business start to grow with a normal seasonal pattern from September onwards, or we should still be looking out for any sequential share shifts that could prevent that from happening? I just want to make sure that at this point, from what you see, has share normalized, or is there any more to go on a sequential basis as we get to the better second half, calendar half of the year? Thank you.
spk12: Yeah, I mean, I think that business will continue to be seasonal, if you will. So we expect going from third quarter into the fourth quarter would decline, and then fourth quarter going to the first quarter would grow. So, yes, we would expect that seasonal factors will become more significant than they have in the last couple quarters where the normalization process has unfolded.
spk15: Thank you, Rebecca.
spk13: Our next question comes from Mike Genovese of Rosenblatt. Mike, your line is open. Please proceed.
spk17: Okay, fantastic. Best for last. I wanted to ask, nobody else has asked about the commercial lasers business. It was up to 57 million, all-time record, guiding it sequentially down. Can it get bigger than this? Can it eventually get into the 60s? What's the medium-term outlook for commercial lasers?
spk04: Yeah, we're very excited about lasers and the growth. Year-on-year, our laser business grew 30% in the trailing 12 months, and so we're gaining share in lasers, and that's really due to the innovation and new product introduction as we talked about the new markets that we're getting in. I would fully expect us to continue to be able to grow over the long term as we introduce new products, especially in our ultra-fast lasers, which is getting great adoption by these new markets. So, yeah, we're excited about the long-term outlook of organic growth in our lasers business.
spk15: Okay, great.
spk17: And my question is, just on telecom, as you think about again, the medium term or, you know, couple of year, two, three year outlook for telecom, is there still a confidence that this is a sustainable double-digit growth market for multiple years?
spk04: Yeah, I'll give you my comments. Or has that changed with the macro? Well, I think certainly macro headwinds and uncertainty have us not thinking that every year we're going to be at 10% every year. I'd say long-term growth of bandwidth requirements. And if you look over time, it grows at 10%. And so I think, you know, over the midterm, to your point, setting aside what happens in the economy, the trend rate or the growth rate should be 10% in telecom. Chris, do you have any? thing to add?
spk12: Yeah, I mean, I think the only thing I'd add is that, you know, on a pro forma basis, you know, the Lumentum plus Neo, had we been together, you know, a year earlier, the telecom and datacom business is certainly up in the, you know, teens percent, if you will, in the first half of our fiscal 23 compared to the first half of fiscal 22. So the growth has been there despite the, you know, the supply chain challenges and the softening or the digestion of inventory coming from the cloud and market. So I think that's demonstrated, you know, and our customers having tremendous backlog is also very encouraging. So I think that opportunity is there, but obviously, as you pointed out, there's macro factors that, that, that loom out there that I don't think anybody has seen impact at our customer level at this point, but you know, very difficult to handicap as we look out the next year or next two years. Thanks, Mike.
spk06: Thank you, Mike.
spk13: Unfortunately, this is all the time we have for the Q&A session today, so I'll hand back over to Alan Lowe for any closing remarks.
spk04: Great. Thank you, Charlie. I would like to leave you with a few thoughts as we wrap up the call. I'm very excited about the tremendous opportunities ahead of us as we scale our business to serve the exponential growth in network bandwidth in the artificial intelligence, machine learning, mobile carrier and cloud competing markets. We have a proven playbook to win with our best in class products and technologies and to leverage these technologies in other markets. We are committed to investing deeply in innovation and our manufacturing capabilities to deliver on customer needs today and into the future. With that, I would like to thank everyone for attending, and we look forward to talking with you again at Light 2023, Lumentum's investor technology event on March 7th at the OFC Trade Show. You will find registration information about this event and other upcoming investor events on our website. Thank you very much for attending.
spk13: Ladies and gentlemen, this concludes today's call. Thank you for joining and may I disconnect your lines.
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