5/2/2024

speaker
Jericho
Conference Operator

there will be a question and answer session. I'll now turn the conference over to Ilan Daskal, Viavi Solutions CFO. Please, go ahead.

speaker
Ilan Daskal
CFO, Viavi Solutions

Thank you, Jericho. Good afternoon, everyone, and welcome to Viavi Solutions' third quarter fiscal year 2024 earnings call. My name is Ilan Daskal, Viavi Solutions CFO, and with me on today's call is Oleg Hykin, our president and CEO. Please note, this call will include forward-looking statements about the company's financial performance. These statements are subject to risks and uncertainties that could cause actual results to differ materially from our current expectations and estimations. We encourage you to review our most recent annual report and SEC filings, particularly the risk factors described in those filings. The forward-looking statements, including guidance that we provided during this call, are valid only as of today. BRB takes, undertakes no obligation to update these statements. Please also note that unless we state otherwise, all results discussed on this call, except revenue, are non-GAAP. We reconcile these non-GAAP results to our preliminary GAAP financials. and discuss their usefulness and limitations in today's earnings release. The release, as well as our supplemental earnings slides, which include historical financial tables, are available on the AVI's website at www.investor.vavisolutions.com. Finally, we are recording today's call and will make the recording available on our website by 4.30 p.m. Pacific time this evening. Now I would like to review the results of the third quarter of fiscal year 2024. Net revenue for the quarter was $246 million, which was above the low end of our guidance range of $245 to $253 million. Revenue was down sequentially by 3.3%, and on a year-over-year basis was down 0.7%. Operating margin for the third fiscal quarter was 9.3%, which is slightly above the low end of our guidance range of 8.8% to 12%. Operating margin decreased 390 basis points from the prior quarter and on a year-over-year basis was down 210 basis points. EPS at 6 cents within our guidance range of 5 to 9 cents. and was down 5 cents sequentially, and on a year-over-year basis was down 2 cents. Moving on to our Q3 results by business segment. NSE revenue for the third fiscal quarter came in at $169.8 million, which is below our guidance range of $173 to $179 million. This was mainly driven by more conservative spend environment at enterprise customers. On a year-over-year basis, NSE revenue was down 4.2%. NE revenue for the quarter was $151.7 million, which is a 0.1% year-over-year decline. SE revenue was $18.1 million and declined 28.7% from the same period last year, driven by a slowdown in enterprise customer spend. NSE gross margin for the quarter was 61.4%, which is 190 basis points lower on a year-over-year basis. NE gross margin was 61.5%, which is a decrease of 70 basis points from the same period last year, as a result of lower volume as well as product mix. SE growth margin was 60.8%, which is a decrease of 930 basis points from the same period last year as a result of lower volume. NSE's operating margin was negative 1.8%, which is a 540 basis points decline sequentially. and the 320 basis points declined on a year-over-year basis. NSE operating margin was below our guidance range of 0 to 3 percent. OSB revenue for the third fiscal quarter came in at $76.2 million, which was above the high end of our guidance range of $72 to $74 million, and was up 8.1 percent on a year-over-year basis. OSP gross margin was 50.1%, which is a decrease of 50 basis points from the same period last year, and was primarily due to a reversal of variable incentive compensation that benefited Q3 last year. OSP's operating margin was 34.3%, which is 210 basis points lower sequentially. and decrease 230 basis points on a year-over-year basis as a result of a reversal of variable incentive compensation that benefited Q3 last year. OSP operating margin exceeded the high end of our guidance range of 29.8% to 33.8%. Moving on to the balance sheet and cash flow. Total cash and short-term investments at the end of Q3 was $486.1 million compared to $571.8 million in the second quarter of fiscal 2024. Cash flow from operating activities for the quarter was $19.5 million versus $17.8 million in the same period last year. We have not purchased any shares of our stock in the third quarter. During the quarter, we repaid our outstanding balance of our 2024 convertible notes in the amount of $96.4 million. The fully diluted share count for the quarter was 224.6 million shares, down from 225.3 million shares in the prior year, and versus 224.7 million shares in our guidance for the third quarter. CapEx for the quarter was $3.2 million, which is $7.6 million lower versus the same period last year when we were completing the construction of our new facility in Chandler. Moving on to our guidance. For the fourth fiscal quarter of 2024, we expect revenue in the range of $246 and $258 million. Operating margin is expected to be 10.6% plus or minus 120 basis points and EPS to be between 6 cents and 8 cents. We expect NSE revenue to be approximately $184 million plus or minus $5 million with an operating margin of 2.5% plus or minus 110 basis points. OSP revenue is expected to be approximately $68 million, plus or minus $1 million, with an operating margin of 32.5%, plus or minus 150 basis points. Our tax expenses for the fourth quarter are expected to be about $8 million, plus or minus $500,000, as a result of jurisdictional mix. We expect other income and expenses to reflect a net expense of approximately $3 million. And the share count is expected to be around 225.5 million shares. With that, I will turn the call over to Oleg. Oleg?

speaker
Oleg Hykin
President and CEO, Viavi Solutions

Thank you, Ilan. Viavi and market spend environment continues to be challenging, particularly the service providers and enterprise customer segments. In view of these continued headwinds, our revenue came in at the lower end of our guidance, with stronger OSP demand partially offsetting weaker-than-expected NSE demand. Our EPS was in the lower half of our guidance range, driven by lower NSE volume and less favorable product mix. Starting with NSE, for the third quarter, NSE revenue came in below the lower end of our guidance. NSE revenue declined on year-over-year basis driven by software North American service provider, NAMs, and enterprise customers' demand. Decline in field instruments was driven by reduced demand for field fiber and cable instruments. Revenue decline in SE was primarily due to the push out of several major projects by our enterprise customers. Fiber lab and production demand was relatively flat, with stronger 800 gig demand offsetting weaker computing and storage. And Ofcom remained a bright spot, seeing year-over-year increase in revenue driven by growth of customer orders for our P&T business. Looking ahead, a seasonally stronger Q4 across all product segments notwithstanding, we expect the conservative spend environment to persist for the remainder of calendar 24. Now turning to OSP. In fiscal third quarter, OSP grew on a year-over-year basis, driven by higher demand for anti-counterfeiting and 3D sensing products. Overall, OSP results exceeded the higher end of our guidance range. Looking ahead, we expect OSP to be seasonally down in the June quarter, mostly driven by a seasonally weaker demand for 3D sensing products. We expect the demand for 3D sensing to rebound in the first half of fiscal 25, together with a continued recovery in demand for the anti-counterfeiting products. In conclusion, I would like to thank my VIAVI team for managing in this challenging environment and express my appreciation to our employees, customers, and shareholders for their support. With that, I will now turn it back over to Operator for Q&A.

speaker
Jericho
Conference Operator

Thank you. The floor is now open for your questions. To ask a question this time, please press pause and the number one on your telephone keypad. We are going to pause for just a moment to compile the Q&A roster. Our first question comes from the line of Ruben Roy with Steeple. Please go ahead.

speaker
Ruben Roy
Analyst, Steeple

Thank you. Oleg, I was wondering if you could maybe provide a little more detail on how the quarter progressed. It sounds like enterprise might have worsened relative to how you were thinking about things 90 days ago. And, you know, an update on service provider, you know, sort of the same, I guess, as we've been seeing. So maybe not a surprise there. But Any additional detail on, you know, how the quarter progressed, linearity, et cetera, across those two end markets would be interesting. Thank you.

speaker
Oleg Hykin
President and CEO, Viavi Solutions

Yeah, I mean, as you know, with the service providers, we usually get quite a bit of in-quarter bookshop. And what we saw, especially in North America, there was just very anemic expand. And, you know, I mean, if anything, I would say gradually decreasing interest. And even though some of the projects which were announced, they're just being delayed or ramping slower with the service provider customers. On the enterprise space, it's really easy. On the good positive side, we are getting some very big deals. On the negative side, any one of these deals slips. And we had the deals which were committed for the quarter, and literally, you know, the end of the day, a major deal slipped to the next Monday of the quarter. So it just shows you the customers are, you know, also trying to manage their spend. And, I mean, it was really ironic because it just made no sense. Since the very beginning of the quarter, they were saying, we want to take this product. And at the end, they literally just decided to book it uh on monday after the end of the quarter uh had we gotten this deal when we were supposed to get it um it would be right at the middle of our guidance so in that respect you know to me i still view it as a decreasing customer spend or more conservative customer spend i mean the thing is the customers are not canceling orders but what they are doing is they are pushing and trying to manage their individual quarter capex as well and you know that's a general pattern we are seeing what used to take let's say on the enterprise side three months to convert the deal on the carrier side six months it's now taking a few months longer deals are not going away the customers are still interesting in a product but they are spreading it out over more quarters or pushing it you know down the line so that's really I would say truly outside the last two weeks some of the major projects which should have come through in the SC got pushed to the next quarter and beyond.

speaker
Ruben Roy
Analyst, Steeple

Okay, that's really helpful, Oleg. Thank you. I guess a follow-up would be, you know, obviously there's not a lot of visibility here, but in terms of how you think second half to first half or typical seasonality across the quarters, would you expect, you know, sort of seasonal trends to persist here?

speaker
Oleg Hykin
President and CEO, Viavi Solutions

uh you know as you think about september you know typically that's a lower quarter so just wondering how you're thinking about that yeah i mean the september is generally a lower quarter driven by um by service providers right um because they just basically for some of them it's the beginning of their fiscal year for some of them it's the first half i mean for a second beginning of the second half so then they see how much money they left and then they decide either in december quarter or june quarter to place the orders Now, one of the major changes I would see for the second half, I don't see a service provider getting any better. I think for the remainder of calendar 24, it's going to be more of the same kind of very tactical approach. One thing we were expecting in the second half is a significant uptake in cable. What became more apparent is that number of cable players are pulling back on their more aggressive plans that they had early in the year to do the upgrades. And they're still proceeding with the upgrades, but what they're going to do is they're going to spread over two, three quarters rather than doing it all at once in over the three to six months. And as a result, you know, some of the uptake to negate the seasonality in the September quarter that we were expecting probably will not show up there. So I would expect the field instruments service providers to be fairly similar to the first half, fairly anemic expand, and just continue to, what they call it, sweat the assets. On the positive side, we do see the lab business, particularly in fiber computing and storage, should be getting better in the second half as more projects are going to move forward. with the next technology nodes being introduced. You know, we expect beginning of the migration and development in 1.6 terabit speeds. So in that respect, it will be, I would say, a somewhat better outlook. I also expect on our SE side to have a better second half. I mean, with the anemic spend that we saw in this quarter or last quarter, Things being pushed out. The positive thing is our, you know, design win and booking funnel continues to perform really well. And as those things start going into being adopted to the customers, we expect that business to continue to recover gradually. And last but not the least is I think the Ofcom Avianics communication P&T business will continue to do well, and we expect that part of the business continue to see good momentum. One thing I forgot to mention is wireless. Clearly, I don't need to remind everybody the current state of the 5G deployment. A number of our major customers have seen significant drop in their sales. That doesn't mean they don't continue to do the development. They continue to buy and purchase products, but at a lower rate and lower intensity than in the prior years as the end market demand for 5G infrastructure has weakened significantly. So that's where we are. On OSP side, I think generally second half is a stronger half. I mean, I think we're all waiting for, a major mobile phone announcement. I mean, clearly the volumes are lower, but it's still the second half of the calendar year is generally a stronger seasonal quarter, and we do expect other parts of our OSP business to continue to recover.

speaker
Ruben Roy
Analyst, Steeple

Very helpful. Thank you for all of that detail, Oleg.

speaker
Oleg

Sure.

speaker
Jericho
Conference Operator

Our next question comes from the line of Ryan Koontz, the DEDA. Please, go ahead.

speaker
Ryan Koontz
Analyst, D.A. Davidson

Thanks for the question, and nice to join the call. With regards to the NSE business, a couple questions there. You've done a good job unpacking, I think, most of the clarification here. But the SEMIS, can you give us any color there? And then with regard to the broader, your review of the broader kind of wireline telco business for fiber builds, et cetera. Wonder if you have any idea what you're thinking of a rebound for field might look like in terms of timeframe there. Thank you.

speaker
Oleg Hykin
President and CEO, Viavi Solutions

Yeah. So, I mean, the own, own SC, I mean, we have two parts in our SC. There's a carrier software business, and then there's the enterprise business. So the enterprise, we mainly play in healthcare, financial services, and, you know, and, you know, large scale manufacturing businesses. And, um, There we had effectively something between $3 and $4 million order that booked on Monday. We were expecting it early in the quarter. It got delayed, delayed, and it got booked on Monday of the June quarter. So as you can imagine, that business is a very high margin business. And as a result, not only did we had about $3 to $4 million shortfall, it also was a significant hit to the gross margin and thereby all the way down to the operating income where you had you know roughly three million dollars impact uh to the bottom line one and a half penny so uh so clearly this is on the positive side as i said it's great that we're winning this big deals today rather than a lot of quarter million half a million dollar deals but when some of them really don't materialize when they're supposed to um that tells me that the environment is getting a lot tighter and more conservative among our major customers. Now, the rest of NSE, I would say generally service providers are pretty anemic in their spend, but I would say it's not universally true everywhere else. I mean, in areas of Europe, amazingly in Latin America, our business is doing pretty well. I would say that North America is the the weakest link in the whole equation. And I would say, you know, the popular word we're hearing from our customers, we're just going to sweat the assets until, you know, we see a market turning around or until one of their competitors starts getting aggressive. And right now I see it, you know, the environment is basically wink, wink, nod, nod. I'm not spending any money. I'm not doing anything aggressive. Let's just generate cash and pay down the debt. And we're seeing the same thing going across the board with all the major service providers.

speaker
Ryan Koontz
Analyst, D.A. Davidson

Super helpful, Oleg. Thank you. And on the gross margin line, any changes there in terms of pricing or structure that we should think of that might be an ongoing setback to gross margins, or is it purely just volume-based from your perspective?

speaker
Oleg Hykin
President and CEO, Viavi Solutions

Well, that's actually the good news. I mean, we're not seeing much ASP pressure. I mean, there's clearly once in a while you do some big deal, you give some discount. But overall, the ASPs are holding very well. The margins are holding, standard margins are holding well. But when your volume drops, even when you have a significant chunk of your manufacturing is contract manufacturers, You do have the operations team, and that piece becomes less and less absorbed, and it puts a lot of pressure on the margin. And, of course, the big impact in this past quarter is the significant software order that slipped into the next quarter. And as a result, that is a pure margin hit on the mix for the March quarter.

speaker
Oleg

Thanks, Gretchen. Thanks so much, Italo.

speaker
Jericho
Conference Operator

It comes from the line of Michael with Ross and Glenn. Please, go ahead. Great, thanks.

speaker
Michael
Analyst, Ross and Glenn

Oleg, how do you think that service provider, you know, telcos spending will be different in 25? Like, what's going to happen? as we get into calendar 25 that's different from 24?

speaker
Oleg Hykin
President and CEO, Viavi Solutions

Well, I mean, on 25, when we get to 25, that basically would mean a lot of the instrument, you know, field instrument installed base will be, that was sold in 22, which was a very strong year. It will all be turning three years old. And there's also quite a bit of instruments were sold in 21 and 20. And they're returning four and five. And reality is, I mean, once you get to that level, I mean, really, at around four years of age, I mean, you have to start replacing. Because what's increasingly you start doing is things start getting obsoleted or get damaged. you know, they just keep leveraging, maybe using one instrument for two people. It gets to the point where you need to start doing wholesaler replacement. I mean, we saw a similar picture in 1718. There was nobody was buying anything. And then it resulted in a very significant span for two, two and a half years in 21, 22. So I think, you know, it will be, it'll become more and more difficult. I mean, you know, we see the, you know, the big weather events damaging networks. Networks wear and tear. You know, things do break and things do go bad. And, you know, at a certain point, you get to the point where you have to start doing significant upgrade to your field workforce. And, I mean, that's how I see it. I mean, the longer you delay it, the more you're going to spend and the more intensively you're going to have to spend.

speaker
Michael
Analyst, Ross and Glenn

Yeah, that all makes sense. I guess in some of the work that we've done, you know, we've heard about Tier 1 U.S. service providers that have basically said, like, 24 is just not a year of network expansion or growth capital, but we're sort of planning for 2025. I was wondering if you hear any of that type of commentary from your customers.

speaker
Oleg Hykin
President and CEO, Viavi Solutions

You know, I believe it when I see it. uh you know money talks and walks to use a very technical term here i mean they all can say whatever it is i mean look we've we've seen the cable players we're going to do a major upgrade expansion and you know they just kind of looked around and they just see the interest rates are not getting longer and you know they're all taking a very prudent uh you know view to just kind of kick the can down the road and you know look from what i see here is um I mean, unless somebody starts getting hungry and tries to grab market share and get ahead of their competition, right now it's a, I wouldn't call it a collusion, but it's kind of a, everybody, I would call it probably more of a Mexican standoff. Everybody's standing with their guns loaded, looking at each other, and so long as nobody pulls the trigger, things are going accordingly. You know, but, you know, you're bringing up a good point. I mean, if they do decide to start expanding the network, upgrading network, then now you're actually going to create a double whammy of demand because not only now you need to replace the install base for maintenance of your network, every time you start doing a build out and expansion, you need to buy new tools for that as well. So to the extent you do believe 25 will be, expansion of the beginning expansion of the network as well as the upgrade of the network it actually would put even greater pressure to upgrade and replace the installed base of equipment in the field all right so we need a shootout that that makes sense um somebody needs to go for higher market share i mean look i mean think about it right If your competitors are not trying to muscle in on your market, and it's a fairly steady state equilibrium market, every quarter that everybody stays disciplined, you're generating massive amount of cash. You're not spending capex. You're really economizing on opex, and you continue to collect your subscriptions. I mean, that is like the best possible scenario you can have, right? to generate cash and you take the cash and take down your debt. The moment somebody, the moment first person tries to grab share and, you know, try to get ahead, that's when all the bets are off and then it's off to the races. Great.

speaker
Oleg

All right. I appreciate it. Thank you very much.

speaker
Oleg Hykin
President and CEO, Viavi Solutions

Sure.

speaker
Jericho
Conference Operator

Our next question comes from the line of Melita Marshall with Morgan Stanley. Please go ahead.

speaker
Karan Jivakar
Analyst, Morgan Stanley

Yes, hi, this is Karan Jivakar on for Mita Marshall. Just a quick question on the NSC operating margin side. I understand that you're sort of seeing headwinds just given volumes and the guide for next quarter. I guess just is there anything outside of just volumes coming back that could help maybe get you back to the mid-single-digit operating margins? Or I guess just how should we think about recovery on that side?

speaker
Oleg Hykin
President and CEO, Viavi Solutions

Well, I think maybe Asar and Ilan can continue. Clearly, volume is the biggest thing, right? Because you can squeeze your OPEX all you want. You can, you know, reduce your OPEX. But it's, you know, when you are running a business that an incremental variable margin is north of 70% on the lab or the software products, north of 60% on the field instruments. I mean, it all drops to the bottom line because your fixed cost is largely covered. So, A, I think clearly a recovery in volume is a single biggest driver, but also recovery in the SE business because it's a very high contribution margin to the bottom line. So every dollar of revenue in a software business obviously puts a significant chunk of it to the bottom line.

speaker
Ilan Daskal
CFO, Viavi Solutions

Yeah, I mean, exactly that. I mean, obviously, the fall through from the top line, it all depends on the top line growth. And, you know, pricing environment, as Oleg mentioned earlier, continues to be stable. So it's just about the volume.

speaker
Karan Jivakar
Analyst, Morgan Stanley

Okay, appreciate that. And then a quick follow-up. I know you mentioned that the P&T business is doing better than some of the other businesses. I guess any detail on sort of where you're seeing the strength on the position and navigation and timing side and where you sort of expect maybe an inflection or continued strength going forward on the PNC side? Any detail there would be helpful.

speaker
Oleg Hykin
President and CEO, Viavi Solutions

It's mostly in the aerospace and defense sector. I mean, we've all seen significant issues with the GPS signal in Europe and Middle East. And as you can imagine, it is becoming a very hot topic with aircraft manufacturers, with the defense contractors. Pretty much everything relating to communications or positioning is now becoming vulnerable, and that's generating a lot of interest for our products. Also, the, you know, avionics is, you know, with the recovery in the commercial aviation market, we're seeing very strong demand for our next generation of Yandex products. And just the even traditional public safety and military and defense communication testing, we're seeing healthy demand environment for the base business. But for a lot of our kind of more advanced products that we introduced in the past several years and the acquisition that we've made of Jackson Labs about a year and a half ago, we are seeing very robust interest in our products and growth in that area.

speaker
Oleg

Okay, thank you.

speaker
Jericho
Conference Operator

There are no further questions at this time, so I now turn the call back over to Elon Desko.

speaker
Ilan Daskal
CFO, Viavi Solutions

Thank you, Jericho. This concludes our earnings call for today. Thank you everyone for joining us.

speaker
Jericho
Conference Operator

This concludes today's conference call. You may now disconnect.

Disclaimer

This conference call transcript was computer generated and almost certianly contains errors. This transcript is provided for information purposes only.EarningsCall, LLC makes no representation about the accuracy of the aforementioned transcript, and you are cautioned not to place undue reliance on the information provided by the transcript.

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