Erica Mannion - Investor Relations, Sapphire Jeffrey Rittichier - President, Chief Executive Officer and Member, Board of Directors Mark Weinswig - Chief Financial Officer.

Dave Kang - B. Riley Tim Savageaux - Northland Capital Markets Jaeson Schmidt - Lake Street Capital.

Ladies and gentlemen, thank you for standing by, and welcome to the EMCORE Corporation fiscal second quarter 2016 earnings conference call. [Operator Instructions] At this time, I would like to turn the call over to Erica Mannion of Sapphire Investor Relations. Please go ahead..

Thank you, and good afternoon, everyone. Before we begin, we would like to remind you that the information provided herein may include forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Exchange Act of 1934.

These forward-looking statements are largely based on current expectations and projections about future events and trends affecting our business.

Such forward-looking statements include in particular, projections about future results, statements about plans, strategies, business prospects, changes and trends in the business and the markets in which we operate.

Management cautions that these forward-looking statements relate to future events or our future financial performance and are subject to business, economic and other risks and uncertainties, both known and unknown, that may cause actual results, levels of activity, performance or achievements of the business or our industry to materially differ from those expressed or implied by any forward-looking statements.

We caution you not to rely on these statements and to also consider the risks and uncertainties associated with these statements and the business that are included in the company's filings with the U.S.

Securities and Exchange Commission that are available on the SEC's website located at www.sec.gov including the sections entitled Risk Factors in the company's Annual Report on Form 10-K and Quarterly Reports on Form 10-Q.

The company assumes no obligation to update any forward-looking statement to conform such statements to actual results or to changes in our expectations, except as required by applicable law or regulation. With me today from EMCORE are Jeff Rittichier, President and CEO; and Mark Weinswig, Chief Financial Officer.

Mark will begin with a review of the financial results and Jeff will discuss business highlights and fiscal third quarter guidance before we open up the call to questions. Now, I'll turn the call over to Mark..

Thank you, Erica, and good afternoon, everyone. Today, I'm going to focus my discussion on our fiscal second quarter operating results and our balance sheet. Please note that consistent with the prior quarters, today's results include the effects of classifying our Telecom division and Photovoltaics segments as discontinued operations.

Therefore, continuing operations results we have released and we will discuss today are only for our remaining business. Consolidated revenue for our fiscal second quarter totaled $21.5 million, which is a decrease of $1 million or roughly 4% over the prior quarter and in line with our Q2 '16 revenue guidance of $21 million to $24 million.

Similar to last quarter, the results reflect demand in our CATV and components product lines, despite seeing continuing pressure on our chips product line. Jeff will discuss the outlook for the business later in the call. Gross margins were 32.6%, roughly flat with the prior quarter.

Lower revenues contributed to our gross margins being on the lower side of our target range of the mid-30s. While we are implementing new strategies that should improve our operating model in future periods, those activities will lead to some additional cost in the next couple of quarters and take some time to realize.

As a result, we would expect our gross margins to be in the low-to-mid 30s for the Q3 '16 excluding any unusual item. In the cable TV product lines, over the past seven quarters, we have seen significant strength in our results, particularly in comparison to the tough times faced in 2012 and 2013.

We are excited about the growth opportunities ahead with the migration to DOCSIS 3.1 and the further investment by the MSOs to increase the capacity of their networks for their customers. For the chip level device products, as we have discussed in prior quarters, our revenues have grown significantly from two years ago.

This quarter we recognized revenues of approximately $4 million, roughly flat with the prior quarter, with the majority being from GPON applications. While pricing pressure has continued, we are seeing opportunities for new chip development. Jeff will discuss the opportunities for this product line later in the call.

Total operating expenses for R&D and SG&A were $7.4 million, flat from the prior quarter. In SG&A, we expensed approximately $0.3 million associated with our legal activities.

On a GAAP basis, the consolidated net income for the second quarter was $4 million, which includes $4.1 million of net income from discontinued operations, primarily related to the favorable Sumitomo arbitration binding announced in April.

Our GAAP net loss from continuing operations was $0.2 million, the $0.1 million deterioration from the prior quarter. Our non-GAAP income from continuing operations, after excluding certain adjustments, all of which are set forth in the non-GAAP tables included in today's release was $0.6 million versus $1.3 million in the prior quarter.

The reduction was primarily related to lower revenues and gross profit. Please note that we have included additional information regarding amortization, stock comp, legal-related costs and other items in today's release to provide further clarity on our results. Moving on to the balance sheet.

At the end of March, the company's cash and cash equivalents balance was over $110 million. The decrease in the cash balance from December was primarily due to an increase in accounts receivable and inventory.

Please note that the cash balance at March does not include any receipts of cash from the result of the Sumitomo arbitration that was announced in April. The Board of Directors continues to evaluate strategic alternatives and opportunities to determine the best use of our cash. Once a decision is made, we will communicate this to our shareholders.

Regarding our working capital metrics, DSOs were at 81 days, higher than our typical range of 65 to 70 days, due to the quarter's shipment being backend loaded. Inventory turns was at 3.5x, as we increased purchases of certain components, which increased inventory levels.

Overall, for the second quarter, our financial results showed positive results in the typically seasonally weak quarter. The key financial highlights include, our margins remaining consistent on lower revenues and our continuing operations being profitable on a non-GAAP basis.

On the operating expense area, as we've discussed before, we saw higher levels of expenses in Q2 due to additional cost for legal activities and stock compensations.

We believe our SG&A levels should remain relatively flat in 2016, excluding any unusual items relating to legal activities, including any gains from the expected receipt of cash relating to the expected reimbursement for the legal fees for the arbitration.

Turning to our operating model, our current model is to be at a breakeven level on a non-GAAP basis, excluding the items we noted earlier at roughly $20 million per quarter of revenue, depending on product mix and the timing of certain spending.

During the second fiscal quarter, on $21.5 million of revenue, we realized $0.6 million of non-GAAP income from continuing operations. While we are pleased with the financial results, we believe that there are further opportunities to improve these.

With that, I will turn the call over to Jeff, who will discuss the company's strategic and operating initiatives and provide revenue guidance for the third quarter.

Jeff?.

Thank you, Mark, and good afternoon, everyone. I thought I'd take a moment to walk you through a few observations on each of our businesses, as well as update you on the various operational improvements and initiatives that we have underway.

Starting with our cable television business, which is our largest by revenue, over the past year, we've seen an overall backdrop of strength in infrastructure spending along with a bit of turbulence over the past two quarters relating to inventory build up in the channel and some consolidation in the market.

We see this turbulence period ending, as we've seen significant strength in new orders as we finish Q2 and in our first month of Q3. Based on this activity, and going forward, we expect to see a return to growth in cable television.

The strength of our most recent orders clearly demonstrates that MSOs are making their planned shift to DOCSIS 3.1 deep fiber deployment. These new architectures allow them to compete more aggressively with telco and satellite products, offering a faster network that can deliver 4K and over-the-top services much more efficiently.

Given our leadership position in the market and the significant investments that we've made in cable TV chip technology over the past few years, EMCORE is enabling the shift to DOCSIS 3.1.

Importantly, the successful conversion of our linear EML is a new opportunity for our cable television business over the next few years, as LEMLs have superior cost performance ratios to the traditional externally modulated transmitter technology that exists in the market today.

Over the next year, as we rollout new products based on the LEML and its derivatives, we expect that those products will set the standard for both DOCSIS 3.1 and RF over Glass deployments in the future.

Despite consolidation at both the MSO and OEM levels, and a strong competitive market overall, EMCORE's technical position and strong market share has allowed us to keep pace with and even exceed overall market growth by entering new segments where we have not competed in the past.

Given our position in the market, our strong relationship with customers, broad suite of product technology and leadership, we have good reason to be excited about the outlook for cable TV going forward.

As we think of the various product lines, which make up EMCORE today, the cable television business are largest by revenue, possess a number of effects of attractive trades.

CapEx spending and network upgrade deployments are healthy and given our market share leadership and relationships with customers, we have an excellent technical position and a good handle on the dynamics in the market. Consequently, we feel confident in our ability to continue to provide differentiated products over time.

With coupled with our manufacturing and operating cost reduction initiatives, cable television remains a very attractive stable foundation upon which to grow into other areas. Moving to our chip business now. As I've stated on prior calls, this has been an important growth opportunity for the company over the past year-and-a-half.

Our revenue in the first fiscal half of 2016 is already greater than the business that we did in all of 2015.

In particular, the rapid rise in GPON volumes have not only helped accelerate growth in our topline, but have also significantly improved our manufacturing utilization and allowed us to greatly reduce the fixed cost burden allocated to our remaining businesses, including our core cable television business.

While the competitive pressure within GPON has increased in the last two quarters, the chip business remains important to us, because it spreads out fixed manufacturing cost over larger numbers of devices while laying the foundation for next-generate applications.

One can think of our GPON business as really just our initial offering in the merchant chip market as EMCORE intends to become a broad supplier of chip-level products to the entire telecom industry.

As the market shifts from 2.5G GPON to the 10G standard, EMCORE will be in a far more favorable position given our long history as one of the industries premier optical semiconductor manufacturers. Although, GPON is an important opportunity, we've also been working to ship our chip product.

As we exit FY '16, we expect a third of our chip revenue to come from non-GPON chips. As a result, we will optimize our product mix between captive and merchant use to drive a higher blended margin for both our chip business and the rest of the company's products. Switching now to satellite communications.

While smaller than cable television, EMCORE enjoys a strong market share and close relationship with customers. Unlike the migration from DOCSIS 3.0 to DOCSIS 3.1 in the CATV market, the satcom business has not historically been network upgrade driven.

However, this has the potential to change with the proliferation of distributed antenna solution and ultimately 5G networks in general.

With the build out of 5G networks on the horizon, DAS, Distributed Antenna System, represents an important new opportunity for our existing satcom technology as the sheer number of devices needed in DAS application, is in order of magnitude greater than our served market today.

As wireless networks are upgraded to the new 5G standard, we expect the linear fiber transmission between equipment racks and smaller more densely populated antennas will be critical. Additionally, not having to convert from digital to RF, but the antenna itself, provides significant cost saving.

We see EMCORE's linear optics technology continuing to reach further into wireless applications going forward and are excited about the partnership that we have with one of the world leaders in DAS technology for their 5G system deployments.

While this market remains in its early stages, the progress over the past years have been healthy and we look forward to continuing to work with customers in this space and increase our number of design wins ahead of full scale deployments in the years ahead.

Last, but certainly not least, our gyro business is starting to generate production revenue, while it holds great long-term potential, as it relates to both revenue and margin expansion.

Leveraging largely the same optical chip packaging and small signal technology we developed for our cable television business, the gyro production line shares common technical and production assets with our larger businesses.

Our gyros are becoming well recognized in the market and are winning business against larger competitors in the defense industry. These products have significant size, weight and power advantages, as well as being lower price solution.

While we're really just starting to develop the gyro market, we're increasingly encouraged with commitments we've seen from the world leaders in defense systems. We were recently awarded a production contract from one of the leading defense primes for $2.5 million in production orders for his fiscal year.

If we continue to meet our commitments here, we expect to significantly grow the revenue from these unique long-life cycle and high margin products. Shifting gears away from the individual businesses into operations, as you heard me discuss on prior calls, operational excellence has been a focus of ours since I joined last year.

Over the past 12 months, we've made significant progress towards laying the foundation for best-in-class engineering and manufacturing company. By leveraging Six Sigma training across the organization, EMCORE's people now have a more powerful set of tools to use as we redesigned significant parts of our business.

Training includes White Belt for all of our professionals and more advanced Green Belt and Black Belt training for key operations, quality and technical employees. My whole staff is being trained to Green Belt level in addition to the three Black Belts already on my team.

With this initiative, we're building our operations and design processes on quality and Lean manufacturing principles. Furthermore, we're integrating these disciplines into the innovative culture, which already existed at EMCORE.

In doing so, not only do we expect to improve our manufacturing cost and quality, but we expect to optimize our working capital needs and decrease our fixed cost burden and operating expenses.

This will also create an organization, which is nimble enough to identify opportunities where EMCORE can create sustained and differentiated value, as well as identify and outsource those functions, which are neither core nor create significant value for customers.

To help understand how our operational strategy translates into action and improves financial performance, let me take a moment to discuss three of the specific initiatives we've taken on so far.

Implementing our hybrid EMS model to reduce cost and convert fixed cost to variable; this means the commodity processes will no longer be done at EMCORE, even in China. Removing satcom assembly and test from our U.S.

facilities to Thailand this quarter and several commodity processes have already been moved from our Chinese facility to our two primary EMS partners. Examples include, TO Can packaging, box builds, turnkey assembly and these can be built more efficiently by EMS partners. Inserting operating leverage into operation.

We've already started to insert robotics into our Alhambra chip fab operation and just finished installing new automated processes, which reduced labor by 80% in our transmitter tune and test processes in China. This produces much better return on assets, improves operating leverage and ultimately reduces cost.

Process reengineering; again, Six Sigma is really about giving the organization better tools to drive waste and cash out of the business, Six Sigma is not about manufacturing at EMCORE. For example, our finance teams use these techniques to improve our sales and use tax process for suppliers and audits.

Engineering is now working on eliminating production inventory and E&O exposure by designing our CAD component list to match what our EMS providers already buy for other customers. Manufacturing engineering designed a bar stacking system to eliminate 85% of labor in the coding operation.

Six Sigma discipline is already improving every part of EMCORE's business. It's tempting to think that virtually everything can be outsourced, but that's not the case. Our wafer fab, coding operations, and will be manufactured in the U.S. to take advantage of the tremendous technical resources we have here in Southern California.

Within our chip business, we have a number of process and technology initiatives in the fab, which will help drive down cost, such as migration to 3-inch wafers, outsourcing of commodity epi growth and automated techniques for coding, simulation, test and sort. These steps will enable us to compete more aggressively in the market over the long-term.

Automation is especially important to this initiative, as chip fab operations have been labor-intensive here at EMCORE. New equipment is being installed, as we speak to modernize our fab and improve its productivity.

In addition, we've looked at the option of supplying wafers, bars and even [indiscernible] to our customers and have determined that supplying bars to third-party dicing, packaging and sorting vendors provides the right mix of value-added services on EMCORE's part versus what could be done more efficiently elsewhere.

As these products begin absorption in the market within the next year, we expect that they will drive higher gross margins in our chip products, while marginally reducing ASPs since the product will not have undergone as many manufacturing steps, and thus will be sold at a lower price from EMCORE.

As we implement these initiatives and others across their business, you should expect to see some inventory build up over the next couple of quarters. Additionally, we've been incurring some double costs on the personnel side during the transition of certain manufacturing processes, which will improve as we exit the calendar year.

We're now two quarters into this transformation of our manufacturing operation and are beginning to realize improvements in operating leverage, cycle times, yields and product costs. Even last year's revenue dip came with slightly better margins. Once our manufacturing initiatives are complete, we expect to see further upside in the model over time.

As I said, we see that the trends in cable television are continuing to improve, and quite nicely, I might add. For the third quarter fiscal quarter of fiscal '16 ending June 30, we expect revenues to be in the range of $22 million to $24 million. Now, I will turn the call over to the operator and open it up for question.

Operator, take it away?.

[Operator Instructions] And our first question comes from Dave Kang with B. Riley..

Regarding your revenue outlook, just wondering if you can -- well, first of all, can I get, for the second quarter, can I get mix between cable TV and GPON?.

Our cable TV business, kind of, remains in the 60% to 65% of our total revenue. We did about $4 million of chips, so we're roughly 15% to 20%; our business is in the chip area..

And then what about the current quarter, are both going to be flat again or?.

No, we're not saying that we're going to be flat. We're going to be up. And we'll expect a lot of strength, in particular, in cable television..

So GPON, what's going on with GPON? I mean it's been kind of flat for the last two quarters. The chips we're getting from China is, that optical market is very strong.

Even [ph] MACOM said, the Chinese GPON business is very, very strong and why are we seeing this?.

Dave, we actually shipped more GPON products in Q2 than we did in Q1, which is a benefit of pricing pressure. And as we said, our real focus is to really go after parts of the chip market that offers significantly better margins even the GPON. So GPON is really just the first entry point for us. It is not the end game.

The end game is higher margin product..

And can you just kind of quantify, when you say pricing pressure, because I thought when we met at OSC, I thought pressure was alleviated a little bit, but it sounds like it's still an issue?.

It will always be an issue in the market with this many competitors. The closest thing, it's almost like the MSA problem, right, in the rest of the telco world. There is very little differentiation between suppliers. So it's going to continue to be very competitive..

And then you talked about GPON 2.5G to 10G, I guess, is it sort of like a second half event? I mean, calendar '16 or is it already happening?.

Well, we're already sampling significant numbers of customers. It's just the question of where the economics pan out. Over in China, our expectation is more towards the end of the year, we'll see more 10G. But it's dangerous to put your crystal ball that far ahead in a market where there is a fair bit of volatility..

And then what does it mean for you in terms of, like a dollar content, some ASP will be higher and also margins?.

Margins will be up from 2.5G. The complexity of the parts are quite similar and the yields are not altogether different, right. So it's not like when you jump to 10G then you take 20 points to the hit in yield at bar or even chip. 10G technology has been around in the telecom business for a long time.

This is really just the first time that a particular segment of 10G is moving up the volume curve..

And then regarding your chip business diversification strategy, I mean, can you give us any ideas of what areas you're looking at or planning to address?.

I'd love to, but I can't. There is lots of competitors who listen in on these calls too..

And my last question is regarding your RFoG. So my understanding is that RFoG is more for greenfield.

So is there a lot of greenfield activity is going on in cable TV industry?.

I was actually had been a little bit surprised at how much of it is going on. Actually, even over in Europe, Liberty Global is going to be deploying a lot more RFoG than thought last year. So Comcast has publicly said they'd like to do 0.5 million RFoG installation homes this year.

Whether or not they not get there is up to them, of course, but it's not insignificant..

So can we see some revenues like second half of this calendar year?.

Yes, you will..

And then, Mark, just couple of numbers please; depreciation and CapEx?.

Yes. CapEx for the quarter was about $1 million and depreciation was up $600,000..

And then will CapEx go up, because you talked about all these modernization of your fab and all the new equipment.

So what kind of CapEx should we be expecting over the next few quarters?.

When we started this fiscal year, we noted that we expected our CapEx to be in roughly 5% of revenues for the year, maybe a little bit slightly up. And that's really due to the fact that a couple of years ago we really curtailed spending as we were going through a strategic process.

This year we're going to be a little bit north of the 5% level, but roughly in line with that figure. And so far we're still sticking to that forecast. Through the first two quarters of the year we're about $2.2 million, so right on track..

Our next question comes from Tim Savageaux with Northland Capital Markets..

Couple of questions. I wonder if you referenced the strength that you're seeing in the cable TV optics sector, I wonder if you're able to put any metrics or quantification around that with regard to book-to-bill perhaps or overall kind of market growth rate expectations that you're seeing here as the business picks up..

Fair. So you normally have a seasonally weak Q1 and we ended up about flat pretty much in CATV, which we viewed somewhat perversely, I guess, as a victory. With that said, the order rate has really started to ramp up, actually started in the end of February, strong through March, very strong through April.

And now in May, we're already starting to feel bits of Q4. So for us it's been quite good.

Book-to-bill, Mark, 1 point?.

I mean, north of 1..

Yes, north of 1, that's for sure..

I was guessing that. Maybe was looking for little more --.

How far? North of 1. So you have to be a little careful with these things, because the lumpiness and the way that they come in, but it's pushing up against 1 point too..

And it can be, I guess, in the cable TV sector, in particular, kind of front-end loaded.

Along those lines, I wonder if you can discuss major customers in the quarter, and whether you had -- I imagine you might have had some 10% type customers?.

As you know, obviously, we released the Q today, and if you look at the Q this quarter and last quarter, with the recent consolidation activity we now have really two or three customers that make up more than 50% of our revenue.

We expect that to continue to be very, very highly weighted towards just a few customers, because of the limited number of OEMs in the cable TV space typically..

And then question over on the gyro side. You'd mentioned, what I gathered, and please correct me if I'm wrong, kind of orders in hand, I gathered for shipment this year. I wondered if you can give us any expectation for when do you might think those will translate into revenue, I guess, in calendar '16..

Yes. Those orders are currently scheduled for this quarter and next for production. Some may push out right over the end of our fiscal year, Tim. It just depends on how the government decides to pay for things, so their fiscal yearend is same as ours.

But you're basically looking at that one order filling this quarter and next, with follow on orders we expect after that. But we're already shipping to other Tier-1s and received two additional development programs this quarter. Little on the small side, but still nice in terms of the eventual production shipments that will come out of it..

And the final question on the chip side.

Do you anticipate kind of a continuation of this trend, which is greater volume and continued price pressure in the GPON space, and perhaps we could hope to keep that flat as best hitting forward and look to new applications either outside of access or different data rates to drive any growth in that overall chip business or how you're thinking about as the year progresses?.

Yes. So I think if you left it alone, it would do exactly what you said, which is greater volumes of chips at lower prices, but we've been working since the beginning on moving the capacity into the highest priced applications we can find. We were in the mid-20s in terms of non-GPON chips this quarter, in terms of a percent of revenue.

And we have several other applications, which are about to hit. Again, I was being a little cagey with Mr. Kang, because it is a competitive world out there, where we have a fair bit of control in those parts, for example, self, or about 4 times as the amount as the GPON chip and they have similar cost, right.

Now, they're smaller volumes, but you get my point, it's a real estate game. We're trying to sell, maximize the value of the indium phosphide dollars per square millimeter that go out the door.

And the more options you have between cap to the merchant use and then in the merchant space between say, PON and non-PON applications, the better off you are, right. And we've gone this direction from the start and it's starting to pay off. We're not just relying on the commodity GPON..

And then actually maybe one final question there. It does sound like you have a number of initiatives underway, both just new products and maybe natural mix.

And I assume gyro might be part of that in terms of a higher margin product, but you tell me? And then you, Mark, you mentioned some other initiatives underway, that you referenced some costs, although still seem to -- should be moving margins up a bit sequentially.

And the sum total of that then we might be able to expect kind of an upward bias of gross margins throughout the year, just wondered if you have any comments on that?.

It's a great question, Tim. So in the quarter, despite a $1 million decrease in revenues, we were able to keep gross margins roughly flat.

We are guiding up for $22 million to $24 million, so with increased strength in the revenue line, the fact that we are seeing some positive trends in terms of some of the operating initiatives, we do think that there is a good opportunity for us to continue to drive our gross margins close to our target range, which is in the mid-30..

Our next question is from Jaeson Schmidt with Lake Street Capital..

Wondering if, obviously DSO has jumped a little bit here in March, would we expect to more historical normal level in June or what are the linearity expectations for Q3?.

As I mentioned in my script, we do expect our normal ranges between about 65 and 70 days for our DSOs. This quarter was a little bit backend loaded more so than usual, primarily due to the seasonality as much as anything else. So we would expect our DSOs to go back to our normal range over the next quarter or two.

Obviously, it also depends on the growth of the business. The business starts growing a little bit faster. Obviously that would cause some DSOs maybe to potentially increase..

And what was utilization in Q2?.

Utilization is sort of a tough question to answer, because it's not a static measurement. If you say, all right, where were you, you could argue that, that was running at 60% to 70%, for example, overall.

If you looked at assembly operations they range from being very under loaded in January to being very well and even over absorbed in March, hence the non-linearity that Mark described.

And with the strength in orders we've received over the past two, two-and-a-half months, its reverting back to our normal quite linear pattern at this point in the quarter..

And then, looking at SG&A, Mark, you mentioned you expect it to be roughly flat in June.

I assume that's off a phase that excludes the legal expenses?.

Yes..

And how should we look at OpEx than throughout the rest of the calendar year?.

We would expect our CapEx to be hit the $5 million for the full year. On the operating expense line, we expect our operating expenses to also be roughly flat throughout the year. Obviously in the December quarter as the year ends, so we typically have a little bit of an increase in expenses, that is offset by lower payroll taxes.

So overall it's to be roughly similar to prior quarters, but at this point, those are the expectations that we have in terms of absolute dollars for the operating expenses..

I'm showing no further questions at this time. I'd like to turn the call back over to the company for any closing remarks. End of Q&A.

In closing, I'd like to thank the entire EMCORE team for all the hard work they've put in everyday. And we're actually coming through strong at the end of a backend loaded quarter. And I think I speak for all of this here when I say how proud we are of the business that we built and the opportunity that lies ahead. Thank you all for your time.

And I look forward to speaking with you again on our next earnings call or for some of you probably over the next day or two. Thank you again..

Ladies and gentlemen, thank you for participating in today's conference. This does conclude today's program. You may all disconnect. Everyone have a great day..