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spk05: Good morning. My name is Rob, and I will be your conference operator today. At this time, I would like to welcome everyone to the Ciena Fiscal Second Quarter 2022 Earnings Conference 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, simply 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, Greg Lamp, Vice President of Investor Relations. You may begin your conference.
spk04: Thank you, Rob. Good morning and welcome to Ciena's 2022 Fiscal Second Quarter Results Conference Call. On the call today is Gary Smith, President and CEO, and Jim Moylan, CFO. Scott McFeely, our Senior Vice President of Global Products and Services, is also with us for Q&A. In addition to this call and the press release, We have posted to the investor section of our website an accompanying investor presentation that reflects this discussion as well as certain highlighted items from the quarter. Our comments today speak to our recent Q2 performance, our view on the current demand environment and supply chain conditions, as well as discussion of our financial outlook. Today's discussion includes certain adjusted or non-GAAP measures of CN's results of operations. A detailed reconciliation of these non-GAAP measures to our GAAP results is included in today's press release. Before turning the call over to Gary, I'll remind you that during this call, we'll be making certain forward-looking statements. Such statements, including our quarterly and annual guidance, discussion of market opportunities, and commentary about the impact of COVID-19 and supply chain constraints on our business and results are based on current expectations, forecasts, and assumptions regarding the company and its markets, which include risks and uncertainties that could cause actual results to differ materially from the statements discussed today. These statements should be viewed in the context of the risk factors, details in our most recent 10-K filing, and our upcoming 10-Q filing, which is required to be filed with the SEC by June 8, and we expect to file by that date. CN assumes no obligation to update the information discussed in this conference call, whether as a result of new information, future events, or otherwise. As always, we will allow for as much Q&A as possible today, though we do ask that you limit yourselves to one question and one follow-up, please. With that, I'll turn it over to Gary.
spk12: Thanks, Greg, and good morning, everyone. This morning, we reported largely in line financial results when considering really a strong achievement against a backdrop of an increasingly challenging supply environment. This included revenue of $949 million, reflecting year-over-year growth of 14%. as we continue to take share and grow faster than the overall market. Building off an historic first quarter order flows, our order flow in the second quarter remained very strong with a book-to-bill ratio well in excess of 1.5. As a result, we continue to grow our backlog. In fact, with continued strength in orders in recent periods, we have seen significant expansion in our backlog since the end of fiscal 2021, from about $2.2 billion to more than $4 billion exiting Q2. We are clearly seeing a number of positive demand trends at a secular level that we believe are very durable over the long term. And with our leading innovation, scale, customer relationships, and investment capacity, we will continue to capture market share. Ironically, the significant growth in demand for our technology has exacerbated the impact of ongoing global supply chain challenges on our business. And in fact, Q2 really presented the most volatile set of supply chain conditions to date. which in fact worsened as we moved through the quarter. To put it simply, demand continues to significantly exceed supply, and availability of supply is the most impactful factor in our performance and rate of revenue growth at this time. Within this context, we continue to execute well in Q2 and navigate these challenges through supply chain mitigation strategies. As a result, we delivered more product in Q2 than we did in the same quarter last year, including some notable highlights that illustrate our innovation leadership and the diversified business that we've built. To start with, non-Telco revenue in Q2 was approximately 44% or up 15% year over year. This included direct web scale revenue of 22%, an increase of 7% year over year, primarily for our Wave server platform. Our top 10 customers in the quarter included four web scalers, and we made our first product shipments to a new large web scale customer in the US. We now have the top six global web scale companies as customers of WaveLogic 5 Extreme in different stages and maturity of deployment. Overall in the quarter, we added 16 new customers for WaveLogic 5e, bringing our total to 172. Q2 was a record quarter for shipments of WaveLogic 5e, up 50% year-over-year and more than double that of last quarter. To date, we've shipped more than 35,000 WaveLogic 5e modems to customers globally. In routing and switching, our business is growing. driven by Tier 1 service providers as well as Tier 2-3 customers for our expanded routing and PON capabilities. Quarterly revenue there was up 27% sequentially and more than 70% year over year, including a strong contribution from the recently added Viata platform. And finally, platform software and services revenue was up 22% from this time last year. Looking at the overall demand environment, the shifts in business and consumer behavior have accelerated positive trends for our business, including cloud adoption, a greater focus on the network edge, which is really greater capacity closer to the customer, and the need, of course, for increased automation. These are strong and durable long-term secular drivers for the industry. creating an incredible demand environment for our business going forward. In optical specifically, we are experiencing significant growth in our large installed base of customers around the globe, fueled by exploding bandwidth requirements. Adding to this positive dynamic is continued incremental opportunity to displace Huawei in many countries, particularly in Europe. as well as increasing public investments in network infrastructure. In routing and switching, we continue to secure new design wins around the world, primarily associated with growth in wireless and accelerated cloud adoption, again at the edge of the network. And we continue to expand our addressable market in this space as we invest in new technologies and solutions to address additional use cases such as residential broadband. In Blue Planet, demand continues for automation that enables differentiated digital services for a fully connected experience. 5G, we believe, will continue to fuel the need for OSS modernization as new innovative services require end-to-end service lifecycle automation. These demand dynamics are present in our order book today, and we expect continued demand to address these network requirements will result in a growing backlog as we move through the second half of the year. This level of demand far outpaces, frankly, our expectations for orders in the year, driving a backlog that reflects strong underlying secular demand. As a result, we have tremendous confidence in our forward growth opportunities. Now, with that said, I want to be extremely clear. In this environment, our revenue is not a function of demand or even production capacity for that matter. It is purely a matter of component supply availability. And that, of course, brings me to supply chain. And as we all know, we remain in a very constrained supply environment, particularly with respect to semiconductors and integrated circuits. And I think it's important to remember that these particular parts are relevant to multiple industries, from telecom to consumer electronics to automotive and others, which only serves to exacerbate this global supply challenge. And of course, we continue to employ a range of supply mitigation strategies that we've previously discussed, including placement of large advanced purchase commitments for critical components in short supply with extended lead times and qualifying engineering alternatives to expand our sources of supply. However, As I mentioned earlier, supply chain conditions appreciably worsened as we moved through Q2. Specifically, we saw a significant increase in both the volume and magnitude of supplier decommits that we weren't able to fully mitigate in two areas that are critical to our business. Firstly, a number of key optical subcomponent suppliers, as they themselves have publicly noted, have been unable to fulfill their supply commitments due to constrained access to semiconductors. Second, we've seen additional supply decommits for a number of integrated circuit suppliers centered really on low value commoditized parts that are essential to the operation of our finished products. The second dynamic has been largely related to the COVID lockdowns in China. And while we have by design a very low overall supply chain exposure to China, our revenue is being affected given that China is effectively the primary source of many of these low value commoditized parts that are essential to the production of IC and semis. On both of these issues, there simply aren't enough parts to go around and satisfy demand across a number of industries and market segments. Just to reiterate, these dynamics do not represent a Ciena-specific challenge, rather this is an industry-wide global challenge. And despite the willingness of network operators to spend, we expect that the length and severity of current supply conditions will impact both overall industry growth rates and, of course, our own revenue growth. That said, when our industry begins to see improvement in supply dynamics, Our scale, investments, customer relationships, and strong balance sheet puts us in the best possible position to service industry demand. With that, I'll turn over to Jim for more detail on Q2 and to discuss our guidance. Jim.
spk02: Thank you, Gary. Good morning, everyone. We delivered Q2 revenue of $949 million in line with our guidance. Adjusted gross margin in the quarter was 43%, also in line with our guidance and consistent with our expectation for a revenue mix that includes a larger proportion of lower margin common equipment. It also reflects significantly higher component costs and also higher logistics expense. We expect these dynamics to continue as we move through the remainder of this year. Adjusted operating expense in Q2 was $301 million. It is important to point out that while our results were in line with guidance, this achievement was a significant task in the current environment and required outstanding execution across a number of functions inside Ciena. Moving to profitability measures, we delivered adjusted operating margin of 11.3%. adjusted net income of $76 million, and adjusted EPS of 50 cents. In addition in Q2, cash from operations was $106 million, free cash flow was $86 million, and adjusted EBITDA was $129 million. We ended the quarter with approximately $1.6 billion in cash and investments. Also in Q2, we repurchased approximately 1.5 million shares for $87 million and received 900,000 shares of common stock pursuant to the final settlement of the accelerated share repurchase program which we implemented earlier in the year. We continue to expect to repurchase approximately $250 million of shares in fiscal 2022 in addition to the ASR. Turning to guidance. Overall, industry supply chain conditions make providing guidance extremely challenging at this time. Conditions were more difficult in Q2 than in previous quarters, mainly because of a higher number of decommits from our supply base, caused both by semiconductor availability and China lockdowns. Demand drivers are very robust, but as Gary said, In this environment, our revenue is not a function of demand. It is purely a matter of component supply availability. Also, with the current state of the supply chain and the resulting greater uncertainty, there is a wider range of potential outcomes in the coming quarters than has been the case. As always, though, we are providing our best perspective today about our expected performance in Q3 and for the fiscal year. Importantly, this view assumes that our component suppliers deliver on their most recent commitments and that we don't encounter any substantial new decommits that we cannot successfully mitigate. With that, in Q3, we expect to deliver revenue in a range of $870 to $930 million. This lower range for expected revenue is entirely driven by conditions in our supply chain. We expect gross margin for Q3 in the low 40s percentage range, which reflects a continuation of the same dynamics that we saw in the second quarter. A higher percentage of revenue from line systems and common equipment, again, coupled with greater than expected component costs and higher logistics expense. And finally, we expect OPEX of $305 to $310 million. With respect to the full fiscal year, we are adjusting our expectations for exactly the same reasons and with the same assumptions. We now expect to deliver annual revenue growth in fiscal 2022 in the mid single digits. Gross margin for the fiscal year we expect to be in the low 40 percentages. Our operating expense will be roughly consistent with an average of $300 million per quarter for the full year, perhaps a little bit higher in Q4, mostly due to compensation expense. And finally, operating margin in the low double digits. Generally speaking, the growing consensus view in the industry is that supply chain conditions will take at least several more quarters to return to a normalized state. Given the persistence and unpredictability of these challenges to date, We believe that is a reasonable assumption at this time. But it is entirely possible that this timeline will continue to change. It is an incredibly dynamic situation. Furthermore, it is critical to remember that there will not be a light switch moment, that is, a single moment in time when conditions improve and the flow of supply returns to normalized levels. Any recovery, when it begins, will be gradual and will occur over time. In summary, we're mindful of the variability of outcomes the supply challenges present in the near term, but we are prepared to benefit when a meaningful and sustained recovery in supply dynamics occurs. Importantly, we are extremely positive about the durability of the underlying secular drivers, which continue to drive a significant and growing backlog that reflects not only a strong demand environment, but also our continued market leadership. Combined with our relationships with customers and suppliers and the mitigation steps we are taking to address current challenges, we are very well positioned for long-term growth and success. With that, we'll now take questions from the sell-side analysts. Rob?
spk05: At this time, I would like to remind everyone, in order to ask a question, press star, then the number one on your telephone keypad. As a reminder, we ask that you please limit yourself to one question and one follow-up. Your first question comes from the line of Paul Silverstein from Cowan. Your line is open.
spk16: Thanks for taking the questions. Jim and Gary, can you all discuss what linearity looked like in the quarter, and perhaps even more importantly, What have bookings looked like over the past four weeks leading up to today? And Jim, related to that, what would guidance be for July and for the October fiscal year, but for the supply chain impact? How much revenue was impacted? What was the gross margin impact? Thanks.
spk02: Yeah, with respect to linearity, As has always been the case, we are back in loaded. Typically, it's because of the timing of our orders. But in this case, it has to do with the delivery of components to our contract manufacturers. So we've had a very nonlinear flow of orders. They've been strong really the entire year and not necessarily in the last month of the quarter. Even though it's, you know, it's strong in the last month of quarter, it's not as back-end loaded on the order side. But on the supply side, it has been back-end loaded, and therefore our revenue has been back-end loaded.
spk12: So, Paul, the other thing I would add in terms of the, you know, the linearity of orders, as Jim said, it's been pretty consistent. Q2 was over 1.5%. you know, ratio to revenue. And we expect to continue to build backlog for the second half of the year as well. So we are seeing very consistent, you know, demand, which is really driven by just the increase in traffic and the adoption of cloud at both the consumer and enterprise level on a global basis. So, you know, initially there was a little bit of catch up and then there's some forward ordering, but it's not that much. In fact, we've only got in 23, you know, requested we've only got a few hundred million. Most folks would take everything we've got right now. So, you know, that's why we talk to, you know, these very sustainable order flow demand.
spk02: And to your specific question about what our guide would have been, it's a number that is almost, you know, beyond the pale. Paul, because we've got a backlog of over $4 billion. As Gary said, only a few hundred million of that is true 2023 demand. All the rest of it is asked for by the customers in this year. So our revenue for this year would have been extremely high if we were able to get the components to manufacture it. Now, I don't think people should take that as the, you know, So, if you just run the numbers there and figure out what our revenue could be this year, you shouldn't take that as our run rate. This is a catch up. It's the fact that they're all trying to get ahead of everybody else with their orders, but it does speak to the strength of demand. And what we think is very durable demand.
spk16: Jim, just to be clear, I don't think you provided the backlog number last quarter. It was 2.17 billion coming out of October. What was the backlog increase in April? And just to be perfectly clear with respect to my question about linearity and order strength, the forward indicators you're looking at, order growth and all the other leading indicators that speak to future demand, there's been no attenuation of recent vintage. I mean, obviously, this goes to the concern, the widespread concern about a macro slowdown translating into slower economic activity for virtually everybody, yourself included. You're arguing that's not what's going on. This is purely supply-driven. But again, my question to you is, looking at demand trends, looking at all the different forward indicators, you're not seeing any attenuation strength.
spk12: No, we're not, Paul. I mean, and, you know, the rough, rounded numbers, we came out of the year at over $2 billion. We came out of last quarter with over $3 billion. We came out of this quarter with over $4 billion. And everything that we're seeing in forecasts with our customers tells us that it might not continue at that pace, but we're going to continue to grow backlog with the order flow. And the other thing I'd say about macroeconomics. Whilst no industry is immune from that, I do think that cloud adoption has proven to be, you know, incredibly resilient in the ups and downs of various economic moves. And I think it's sort of fundamental, you know, to how the world works now around getting greater bandwidth closer to the customer and that we're not seeing any signs of that letting up at all. In fact, the opposite. if you look at web scale they're planning to build more and more data centers again closer to the customers around the world um and we are you know obviously in partnership with them about their long-term planning we're not seeing any slowdown on that whatsoever it's my follow-up just to be clear you can't see them in numbers because of the supply chain situation but the strength you're referencing
spk16: That was broad-based geographically across product markets and across customer markets.
spk02: Yes. Yes. Absolutely. Verticals, regions, products. Particular strength in our routing and switching business, which, as you know, that's a focus for us.
spk16: I appreciate it. Thanks, guys.
spk05: Your next question comes from a line of Amit Daryani from Evercore ISI. Your line is open.
spk14: Yep. Good morning. Thanks for seeing my question. I have two as well. First one, maybe if I think about it, the backlog has ramped up from 2.2 billion to 4 billion in the last four quarters over the last year. How should we think about how much of this is just demand is stronger and it's a natural buildup of backlog versus customers that are placing longer duration audits maybe because they won't get supplies? I don't know if there's a way to think about Yes, the backlog has gone up. How much of that is due to duration going extended by your customers versus all the other supply chain issues you've talked about?
spk12: That's a good question, Amit. Let me give you sort of a data point here that I think will help with that. I think you've got a confluence of sort of three things going on. You've got a little bit of catch-up. That certainly was the case sort of probably 12 months ago. You know, where carriers were very conservative during covert, both conservative, both from an operational perspective and from a fiscal perspective, they were playing a bit of catch up. That's largely flowed out. Then we are seeing a little bit of certain customers looking at security of supply and are giving us more visibility longer into the cycle. That's absolutely happening. But, you know, an interesting data point around, you know, is it real traffic that they're trying to buy for and address or is it just, you know, security of supply chain? Of the $4 billion, you know, plus, in hardware, we've only got a few hundred million that is requested for 23. All the rest of it is requested for 22. That's not going to happen, clearly, for all the reasons that we've just talked about. But it does give you, I think, a great insight into the fact that there's not that much forward ordering in that backlog. This is real demand that folks want.
spk02: And just another clarifying couple of points here. Our backlog is definitely a double-edged sword here. It's great to have the demand. It's great that the orders are placed on us as compared to our competitors. But Part of the reason that we have such a big backlog is because our lead times are longer than we'd like them to be. And we're not making our customers delighted as we like to do. And so the fact is that when we get new orders, which we've had a ton of this year, most of them are being scheduled out in the latter part of this year, in some cases into 2023. As Gary said, it's not really 2023 demand. but that's when we can deliver it. So it's, as we say, it's a double-edged sword. We're glad we have the orders, but we'd like to delight our customers.
spk14: Fair enough, and that's really helpful. I think just my follow-up would be, in the past, when we've had a revenue, you know, challenge or headwind, gross margins have typically done really well. It's, I think, been a mix of new projects versus existing ones. You know, this time around, I realize I've seen the revenue headwind, but We aren't seeing a gross margin offset or tailwind. So maybe you can just talk about, you know, why aren't we seeing that tailwind? Because I imagine historically low revenues has meant better gross margins for the company. So why is that not happening this time around?
spk12: I'll take the first part of that, and then maybe Jim or Scott can talk to the actual sort of increase in cost. The first part of it is really mech. And so what we're seeing is, remember, we've won a lot of new global strategic carriers and web scale build outs that we're now deploying. So a lot of that is really think commons and line systems, which tends to be lower margin. So just the general mix on the business, given the size of it, even though routing and switching is doing well and software is doing well, Really, the large part of the mix is around those line systems right now. Now, it bodes extremely well for the future because then we can put in cards and modems, which tend to be higher gross margins. So you've got a different mix really based on the demand that we're seeing. And a lot of it's new builds that we're both with new customers and with existing folks.
spk02: Yes, and just to put some numbers on it and that remember the last time we've talked about what we believe to be our long term gross margin, or run rate gross margin, I should say, is around mid 40s. We said 44 to 46%, so I'm going to shorthand it at 45%. We went into COVID. There was a smaller percentage of new bills because of the difficulty of getting supplies and people out to locations. And so we had a higher percentage of capacity ads, which are higher in gross margin. So we enjoyed that. But we said as we entered this year that we thought that our gross margin this year was going to be 43 to 46 overall. because we did expect a higher proportion of new builds and commons and photonics, which are inherently lower margin. That was our expectation coming into this year. Now, what's happened is we are seeing that, but we're also seeing significantly higher premiums that we're paying to get parts. We're trying our best to supply our customers, even if it costs us money and gross margin, which it is, and also higher logistics costs. The rough math for the effect on this year's gross margin of those two ladder points, meaning premiums and logistics costs, is roughly 400 basis points. You can think of it that way. So you can do math and get to where you think our gross margin might be without these. We are reasonably confident that we're going to get back to those mid-40s at least as we come out of this supply chain situation. But we can't give you a prediction as to when it's going to occur. Thanks, Jim. Appreciate it. Great question. Thank you.
spk05: Your next question comes from the line of Tim Long from Barclays.
spk03: Your line is open.
spk05: Your next question comes from the line of George Nodder from Jefferies. Your line is open.
spk10: Hi, guys. Thanks very much. I guess I wanted to ask about purchase commitments. I think you said in the monologue that one of your mitigating initiatives was to ramp up purchase commitments. Could you tell us what that purchase commitment number was? And I think if I recall correctly, when you printed the 10K, that number was about $430 million. So I'm just curious if that number is up.
spk02: Yeah, that's up quite significantly, George. It's up to about $1.8 billion today. we've essentially laid out to our supply chain at least the next 18 months of what we see as demand. So if they deliver on that, we're going to do very well.
spk10: Got it. Okay. And then the other thing I wanted to ask about was, you know, your inventories started to inflect, I think just a couple of quarters ago. Look, obviously the supply chain environment has been around for a couple of years and, So purchase commitments are just inflecting now. Inventories are just inflecting in the last quarter or two. I guess I'm wondering if like this is more an execution issue at Sienna or do you think by and large you guys have executed as well as anybody else?
spk12: Let me take the first part of that, George, and maybe Scott can talk to the inventory a little more precisely. I mean, listen, I think today we've navigated it extremely well. I mean, you look at the performance. We shipped more in the second half than we did in the first half than we did in the previous year. you know, revenues are up 14% in the quarter. So I think, you know, the numbers talk to themselves, particularly when compared to the competition. So we're a much larger installed base. We're a much larger business with larger market share, but we're still growing the business and shipping more. It's not where we want to be or where we could be if we had supply. So I think generally we're navigating through better than anybody else, but it isn't where we want to be from, as Jim said, from a customer satisfaction point of view.
spk09: And, George, just to speak a little bit to the inventory position, a couple of dynamics there that are all rooted in conscious decisions, and it really relates back to Jim's comment that we're not pleased with the way we're servicing our customers. So we are making investments in component inventory where we can get our hands on it, in preparation for the last remaining items that come in in order for us to turn it into finished goods so that we can do that very quickly for our customers when they become available. We've also complemented that with manufacturing capacity expansion. So again, we can turn components into finished goods as fast as possible for our customers. So it was a conscious decision. If you look inside that inventory, number, you'll see more of it has shifted actually to the component level versus the finished goods level as well. You can see that dynamic happening.
spk02: And just to the point of our purchase commitments, George, if you read the statement and how we describe it, we talk about non-cancellable purchase commitments. If you think about the, and there are certain procedures that we have to go through in order to cancel, but Our actual total purchase commitments, even a year ago, were much higher than the $400 million that we disclosed because we considered that a lot of it was cancelable. Today, given the demand situation, we've sort of viewed essentially all of our forward purchase commitments as non-cancelable because we're not going to cancel them. We need the stuff. If you could see inside that logic, you would have a different view of what our total purchase commitments were even a year and a lot higher.
spk12: The other thing I'd add to that, George, is that I just remind everybody that's raw component cost. There's no transformation on that. That doesn't include the inventory that we've got on state. So if you add all of that lot together, We basically have provided commitments out to our supply chain for key elements for the next 18 months.
spk10: As I think about the kind of manufacturing side of this, I know, for example, going back to OFC, we were talking to some of your customers. I know lead times were more than a year. Where are lead times now? And do you think there's some potential for you guys to lose share now that we're hitting, again, longer and longer lead times? And it's frustrating for customers.
spk09: Yeah, lead times, George, are 100% a function of the component availability. It's not a function of our manufacturing capacity. So I'll point that out. And the numbers you sort of quoted is kind of in the range of where we're sitting today from a lead time perspective. And bending the curve on that, again, goes back to when do you believe the component supply industry starts to starts to show better performance. Do you wanna talk to the durability of the demand in the order?
spk12: Yeah, I mean, I think in terms of the competitive environment, our market share, let's look at a couple of data points here. Our market share in the first half, we think increased 1% during all of this. That's revenue, that's not- And that's absolute revenue. Yeah, that's not shipments. I mean, we shipped actually more than that, but that's excluding China. So we grew 1%. And I think the other two data points is our revenue grew more than the competition in the first half, so we're shipping more and we're a much bigger company than a lot of those folks in optical share. And then the other testament to it is the order flow. I don't think anybody is seeing the kind of order validation from the customers knowing what our lead times are, and we're still increasing our backlog. We've been very transparent with our customers. But remember, you know, our products are highly differentiated. We have by far the best technology and relationships with these customers. And I think global scale and balance sheet and those relationships are absolutely critical to coming through this with a winning hand. And that's what we're focused on.
spk02: And just as importantly, all of our competitors are looking at the same supply chain conditions that we are. And so it's unlikely. that anybody is looking at wildly different than what we're able to provide.
spk16: Thank you.
spk05: Your next question comes from a line of Fahad Najam from Loop Capital.
spk03: Your line is open. Again, your next question comes from Fahad Najam from Loop Capital.
spk05: Your line is open.
spk15: Good morning. Gary, if I look at your backlog commentary and the qualification you provided and across your competitors, the cynical mediocre in me says, you know, I have the networking, the optical networking market hasn't been growing this fast. Broadband space in my home hasn't really changed much in the last, since the COVID pandemic started. So where is this all this incremental demand coming from? Or is this just a pure function of customers double ordering, not forward ordering, but double ordering in order to secure more supply? What do you say to that?
spk12: I say to that we're not seeing that. You know, there may be some minimal amount of that. But, you know, given the fact that this is not commodity stuff, you can't swap and change around it. And the relationships we have with our customers, I think that is not a dynamic that we're seeing. What's driving this is real bandwidth growth. And when you think about what's happened during the pandemic, you know, people were using more bandwidth, but carriers weren't spending. And this market was kind of flat for about two years. And we expected an uptick. which we began to see, you know, about 18 months ago. So I think it's, you know, the demand from the customers has continued to increase from the consumers of this, both the consumers and the enterprise space. What we're seeing is just an uptick in cloud adoption, both at a personal level and at a global enterprise level. It's about getting bandwidth much faster, closer to the customer in their various forms. And that's why we're seeing an uptick across all of the sectors, you know, submarine, data center, interconnect, metro edge, all of the engagements that we have are all about how do we get more capacity more efficiently out to there. So this is not embedded in some false security of supply demand piece. Absolutely not. This is about real demand of traffic. And for all the reasons that I think we can all understand and we see in our daily lives.
spk02: One thing I'd say, though, Fahad, is this, that for a long, long time, this industry has grown at low to mid single digits overall. And we've grown at sort of 8%. And our last guide for three years said we do expect the industry to continue to grow at historic rates. And we expect to grow at 6% to 8%. So none of that has changed in our view. The world continues to act as it has been acting. So we're not saying that this kind of order flow is going to continue for the long term. We think that order flow will be good. It's not going to be at the higher levels that we're seeing this year. So I don't want you to think that we're calling up our growth rate. I would say this. I think given what we think our backlog will be at the end of this year, and assuming that our suppliers deliver on their commitments to us, we'll have a growth rate in revenue next year that's, you know, well above the 6% to 8% than we've seen in the past. I can't give you a number on that, but it's going to be good. But again, our long-term view of the future of the industry grows at 3% to 5%. And we're going to grow in that world at 6% to 8%. That's what we think today.
spk15: My follow-up is to kind of really piggyback on George's question on the extending lead times and the supply chain shortages. To what extent are these forcing your customers to change architectures, maybe shift or pivot to more pluggables instead? You can plug a pluggable into an existing router. You don't have to ship a new power system or power supply, et cetera. So do you think there's a risk of customers adopting pluggables faster because they still need the bandwidth?
spk09: No, not at all. In fact, I think, ironically, the dynamic may be the opposite because in order to take advantage of those pluggables, you actually have to upgrade your entire switching and routing infrastructure to a 400-gig infrastructure. That is constrained by the supply chain as well.
spk15: Appreciate the answer. Thank you.
spk05: Your next question comes from a line of Tim Long from Barclays. Your line is open.
spk11: Thank you. Sorry about that before. Two questions, if I could. First, let's just beat a dead horse and then a second one. Jim or Jim and Gary, you know, the last guidance implied, you know, no decommits. And when we look at, you know, the Q4 to get to the full year, it looks like a pretty big sequential increase, probably something like 20%. I'm not sure exactly what mid single digits for the year means. Why would we assume that everything gets delivered as expected? What visibility do we have that, you know, the supply chain is going to live up to the commitments they have when that hasn't happened over the last multiple months here? Um, that's, that's number one. And then number two, I was hoping you could just dig more into the switching routing part of the business. Um, obviously you've added Viata. If you could just talk about how much that helped the numbers and you talked about, you know, expanding TAM and use cases. So if you could just Gary, maybe give us a little color, uh, on how you see the trajectory of that business, uh, potentially moving over the next, uh, next few years here. Thanks.
spk02: Yeah, Tim, I'll take the first part and, um, What we've always tried to do and what we continue to do today is we're trying to give the world a set of numbers that are reasonable and reflect our view of what the world looks like today. We expect that there will be some decommits. I will say this, that we had decommits in Q2, which we were largely able to mitigate. And therefore, we came in line with our revenue Hopefully, we've built in enough sort of margin for error that we can handle some decommits. But again, it's our best view of the future. And yeah, if you look at the entire year, we're roughly $250 million or so below what we've said about the year in the past. Roughly half of that is because of the fact that our optical subcomponent vendors are unable to get parts. And the other half is because of the China lockdowns.
spk03: It's not precisely 50%, but roughly half and half.
spk09: And then to your question about breaking down a little bit the dynamics that are going on in the routing and switching business, I'll say, So that's just to repeat, you know, the business itself was up 27% sequentially quarter on quarter and about 70% year on year. That's a combination of organic growth and inorganic growth of Viata. I'd say roughly split half and half roughly between the two. What's driving that? Primary use cases for that portfolio that we're focused on are all centered around the evolution of the metro and the edge. We see growing interest in our wireless transport infrastructure. Transport infrastructure is people build out fiber to the tower and look at architectures moving to 5G. Enterprise Connect, as Gary talked about, Enterprise Connecting to the cloud. A new space for us around residential access. getting a lot of interest in the architecture there, and then backing off from that, bringing all three of those use cases back deeper into the network, a common routing and switching aggregation platform. So those are the four areas that we're investing in. We think it represents a significant TAM expansion over the years for us, and the early signs, as you can see in the results year over year, we're having some really good early success there. Thank you. Thank you.
spk05: Your next question comes from a line of David Vogt from UBS. Your line is open.
spk07: Great. Good morning, and thanks for taking my question. I just want to come back. My line cut out earlier. I just want to come back to the lack of supply, and specifically ICs. You know, I guess it's our understanding that this is a fairly well-known headwind, and I guess I'm just curious, how do you square that commentary that, you know, the book to bill and backlog are strong, But I would imagine your customers are incredibly sophisticated. They know their shortages of ICs. So is there risk that they've already adjusted their order cadence a little bit earlier? And so that raises some risk that there could be an air pocket later, maybe not this year, but into 2023. And then I didn't hear any discussion of maybe what a recession might look like next year if we do move into a more slower growth gdp environment what that would look like for your you know not only your order growth and your backlog but what your customers customers might respond to and then i have a follow-up on on the numbers being pushed out into next year david let me take the recession one first and i'll take scott for the for the first part of your question um you know i i think we're obviously
spk12: um you know mindful of the macro sort of economic challenges that it looks like the world's going to go through but i i would say a couple of things in the conversations with you know all of our customer base and its diversity you know we are not seeing any um let up in their forecasts and demands and their long-term plans i mean we've got pretty good visibility into the next you know, one to three years around the overall dynamics of what they're seeing to do. And so I, you know, listen, I think the industry is never immune to a recession, but it's generally performed extremely well during the recession because people need access to the network. And, you know, network operators and web scale are going to continue to, you know, invest in their network and getting, you know, more traffic out there. I think we feel very good around the durability of the demand that we're seeing. And in terms of fulfilling what we've got, I think what we're trying to do right now is just really catch up with the backlog and the pent-up demand. I mean, as Jim said, I don't think we're going to see order flows at the rate that we're seeing them right now or this year. But I don't think it's going to fall off a cliff or go through an air pocket either. I think you've seen a change in the dynamic around this is really an infrastructure business, and I think people are getting used to ordering out longer term. And I think you will see that. These lead times will get better over time for sure, but I think you will see greater long-term visibility with our customers.
spk02: And remember that we're advertising and talking to our customers about longer lead times. It's absolutely imperative that they then place longer, orders on us than has been the case in the past because they do need the gear. And we're not, as we said, we're not claiming that this rate of order intake is sustainable, but we are, we do strongly believe that demand for our products and services will continue to grow and will continue to take market share.
spk08: Great. Maybe just as a quick follow-up, that's helpful. So you've given lead times to
spk07: at least appear to be persistently long and not tightening here in the near term, how would you handicap sort of that $250 million revenue shortfall, the likelihood of being able to capture that next year, given where lead times are and where commits are at this point, and your purchase order commitments? So, I mean, obviously, it's a difficult visibility to predict, but You mentioned that you'll obviously think you'll grow faster than 6% to 8% next year, but is the expectation based on your order book and where your supply chain is today that you'd be able to capture most, if not all, of that next year?
spk02: Well, I mean, if you just look at the delivery dates, it probably would be in next year's. But all we can say about next year today, really, is that given where we think our backlog will be at the end of this year, we do expect to have a significantly higher growth rate in 2023 than the 68% we promised in the past. And I can't give you an exact number because I don't know the number, but I think it's going to be a great year next year.
spk12: And I would just add that I think sort of our, and again, we're not talking about 23 right now, but our sort of view is what's got to happen is We've got to get greater predictability from supply chain, and we've got to get the volumes that supply chain have committed for 23. We're not really banking on improved lead times from our suppliers.
spk08: Thank you, David.
spk05: Your next question comes from the line of Rod Hall from Goldman Sachs. Your line is open.
spk13: Yeah, thanks, guys. Appreciate it. I just had five more questions on supply and then I wondered if you could pick the five.
spk02: We have five more answers for you, Rod.
spk13: No, I wanted to dig into the verticals a little bit. I'm just looking at the cable number was kind of Usually that's seasonally up in April and it's kind of flatlined. I don't know if that's supply oriented. So I just wondered if maybe you could talk a little bit about, you know, the demand dynamics there. And then likewise, government is up a lot. I mean, that was a big number in April. Just curious if you guys could dig into those vertical demand dynamics a little bit. How much is affected by, you know, the supply? How much of this is demand? But just curious what's happening there. Thanks.
spk12: Yeah, well, I would say the cable piece is purely supply. I mean, we're seeing very, very strong demand out of that, and it could have been a lot greater if we'd have had, I hate to use the S word again, supply. So I don't think there's anything to that. Government, there was a couple of larger projects that we delivered in the quarter. You get a lot of ebbs and flows on the government stuff, very project-based. But I think the cable space, together with the sort of tier one, carriers in North America, very, very robust demand. And again, it's really a function of just us supplying.
spk13: And do you think, I mean, the government number, Gary, does that kind of ratchet back down again? April just was a pulse of project-oriented revenue or is that?
spk12: Yeah, I think the forecast for it, depending on the ability to ship, but I think I think that's likely to go down in Q3. But we are seeing, you know, if we step back from those ebbs and flows, we are seeing a sort of consistent investment by the government in their networks for all kinds of reasons that we can all probably know. And so we do feel good around that space. I appreciate you highlighting it. We feel good around that for the next few years. You know, there's a lot of network build-out and network modernization that's going on within the various government networks.
spk02: Our technology fits their needs very well, too.
spk13: Great. Okay. Yeah, that's all I've got. Thank you very much.
spk08: Thanks, Jack.
spk05: Your next question comes from the line of Tal Liani from Bank of America. Your line is open.
spk01: Hi, guys. Hello.
spk02: Hello.
spk01: the risk that things get canceled next year because customers don't get the product? So if I'm thinking about the cloud or the service providers having their side of the operation ready for products and not running any operations, so they don't get the revenues associated, why start a project if there are still supply chain issues? So the question is about the sensitivity of demand to supply, basically.
spk02: I don't think that's the driving force, though. I think the driving force here at all is underlying demand for bandwidth. And that has continued to grow through every economic condition we've had for 20 years or 30 years. So I don't think lack of supply is going to constrain their demand. I think it's, you know, they're going to have the demand as long as their customers are demanding services from them. And as I said, we've seen no reduction.
spk12: I think on the web scale specifically, there's no point building a data center if you can't connect it. I mean, I get the point. But, you know, I want to get the sort of context to this right. We are shipping more than we did last year. So we are shipping stuff. So we are providing connectivity to these folks, and they're just not getting the full capacity that they wanted. So this is not a sort of binary situation. I mean, we are growing. We just posted a quarter with 14% revenue growth despite all of this stuff. So it's not as if we're not getting stuff out there. So we are satiating some of the demand for our customers, but it's not everything that they, they want. And, you know, there aren't, you know, no one else is doing it better than, than we are. So, you know, there's not a lot of other, other alternatives to that and people wouldn't want to get out of the queue, I'm sure. And by the way, you know, we've got the leading technology and continue to have that. So, you know, that those are the dynamics that we see.
spk09: And the fundamental constraints, if you follow the chain is common to everybody.
spk01: Right and maybe a follow up follow up question is what isn't it isn't this environment bringing up more voices within cloud to self manufacture solutions rather than buy from vendors just because they'll have better control over the supply chain. Do you think that maybe white box solutions or any anything that is more about self self design self manufacturing? Don't you think that this can actually grow as a response to the current environment?
spk12: I think, Tal, from the conversations that I personally have, I think the opposite is actually true, frankly. I mean, we're able to navigate through it because we're a specialist-focused player and we're, you know, vertically integrated. So we're actually in a better position to go and do that. And I think to Scott's point on the ZR pluggable thing, exactly the same reason is actually pushing that market out because it's more difficult to get the infrastructure to support that. So the DIY stuff is actually more difficult than it was before.
spk08: Got it. Thank you.
spk12: Thanks, Dahl.
spk08: Operator, we'll take one last question.
spk05: Your final question comes from the line of Simon Leopold from Raymond James. Your line is open.
spk06: Hey, thanks for taking the question. Kind of surprised nobody's asked this, actually. You talked about the supply chain worsening, and I get that, but it does seem to somewhat contradict some of the commentary we heard from some of your optical component suppliers. Basically, they guided to improving telecom shipments in their respective June-ending quarters, and I just want to make sure I understand whether or not your indicating that that's not really going to be the case or if this is more about timing and why you don't sound more constructive if there's something else informing uh the challenges in optical components and then just a quick follow-up if i might it's just an update on your own shipments of vr pluggable thank you yes simon to the first one um you know simple summary is yes it's timing so the the hysteresis of
spk09: you know, when they see improvement, when we actually get it through our supply chain and out to our end customers, it is timing. They did talk, though, you know, about the gap, or some of them talked about specifically to the gap that they had in their June quarter. So, if you map that to our timing, it has, you know, an impact on our Q3 and to some degree on our Q4 as well. I'll just remind you, though, that we also said there was two dynamics. One was the optical subcomponents that you pointed out. The other one was integrated circuits that largely was due to China. Again, it's second-order effects in the supply chain that take a while to work their way through from China being open up again to us being able to turn that into finished goods for our customers. So, again, 100% timing-based. On the ZR side, Simon, I don't think our perspective has changed at all. We have shipped ZR into a number of customers around the globe working through their evaluation cycles. As you're probably aware, the majority of the volume over the next season or so is going to be dominated by a couple of players. we are fully engaged in those players and we expect to be successful there in those because we firmly believe we've got the best plug on the market. But for us and for the industry, it's largely going to be a 2023 event from any materiality.
spk04: Thank you for the question. Appreciate it. And thank you everyone for taking the time today to connect with us. We look connecting with everyone here at the balance of today and through the next several days. Thanks very much.
spk05: This concludes today's conference call. Thank you for your participation. You may now disconnect.
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