Good day, everyone, and welcome to the Infinera Corporation Q4 2022 Earnings Conference Call. After today's prepared remarks, we will take your questions. [Operator Instructions] I would like to hand things over to Mr. Amitabh Passi, Head of Investor Relations. Please go ahead, sir..

Thank you, Lisa. Thank you, and good afternoon, everyone. Welcome to Infinera's Fourth Quarter of fiscal 2022 conference call. A copy of today's earnings and investor slides are available on the Investor Relations section of the website. Additionally, this call is being recorded and will be available for replay from our website.

Today's call will include projections and estimates that constitute forward-looking statements, including, but not limited to statements related to our expectations regarding our business model and strategy, market opportunities and trends, competition, customers; capacity growth; the shifting open architecture; market adoption of coherent optical engines; our ability to ramp ICE6 and increase vertical integration; the potential for Infinera as new subsystems products to drive market expansion; increase Infinera's profitability; and improve Infinera competitiveness in the future.

Expectations also regarding industry wide supply chain challenges and the macroeconomic environment, projected year-over-year drivers of demand, revenue, gross margin, operating expenses and operating margin, future investments in our direct sales force, our ability to sell higher margin products to existing customers of line systems and Infinera's financial outlook for the first quarter and full-year of 2023.

These statements are subject to risks and uncertainties that could cause Infinera's results to differ materially from management's current expectations.

Actual results may differ materially as a result of various risk factors, including those set forth in our Annual Report on Form 10-K for the year ended on December 25, 2021, as filed with the SEC on February 23, 2022, and its Quarterly Report on Form 10-Q for the quarter ended September 24, 2022, as filed with the SEC November 2, 2022, as well as subsequent reports filed with or furnished to the SEC from time-to-time.

Please be reminded that all statements are made as of today and Infinera undertakes no obligation to update or revise any forward-looking statements to reflect events or circumstances that may arise after the date of this call.

Today's conference call includes non-GAAP financial measures, except for revenue, balance sheet items, and cash flow from operations, which are each discussed on a GAAP basis.

Pursuant to Regulation G, we have provided a reconciliation of these non-GAAP financial measures to the most directly comparable GAAP financial measures in our earnings release and investor slides for this quarter, each of which is available on the Investor Relations section of our website.

And finally, as a reminder, we will allow plenty of time for Q&A today, so we ask you limit yourself to one question and one follow-up please. With that, I will turn the call over to our Chief Executive Officer, David Heard..

Thanks, Amitabh. Good afternoon, and thanks for joining us today. I will begin with a review of our results and then I will turn the call over to Nancy to cover the details of our financial performance for the fourth quarter and for the full-year.

Our fourth quarter performance was remarkably strong, enabling us to beat consensus expectations on revenue and operating profit and contributed to record performance on many fronts. Specifically, we reported record revenue of $486 million, up 21% on a year-over-year basis.

We achieved product revenue of $399 million, also a high for the Company and up 26% on a year-over-year basis. We delivered gross margins of 38.7%, up 150 basis points year-over-year and we expanded operating margins to 10.5%, up 620 basis points year-over-year.

Relative to our expectations coming into the quarter, revenue and operating margin came in above the high end of our outlook range, while gross margin was within the outlook range. Demand in the quarter was healthy with a book-to-bill ratio above 1%.

The fourth quarter also marked a great finish to 2022, a year in which we grew company revenue by 10% consistent with our stated objective of 8% to 12%, with product revenue growth even higher at 15%.

We kept gross margin stable, while absorbing more than $16 million of supply chain costs that adversely impacted our annual gross margins by over 400 basis points. We doubled operating margin to 4.4%, up 230 basis points year-over-year. We ramped ICE6 to 28% of product revenue for the full-year, ahead of our stated objective of 20% to 25%.

And we delivered samples of the industry's first software defined 400 gig ZR+ pluggables on time with industry leading reach, power and performance as validated by Tier 1 customers.

I'm extremely pleased with our performance in 2022, especially considering the range of macroeconomic impacts we faced, from a lingering pandemic and persistent supply chain challenges to rising inflation and a backdrop of a conflict in Europe.

Despite these headwinds we outgrew the optical systems market, gained share, improved our balance sheet and continue to extend profitability for the third consecutive year. As I think about the year, there were two primary factors that presented us with some challenges throughout the year. One, micro and one, macro.

On the macro front, as I mentioned earlier, our most profound challenge was navigating a difficult supply chain environment, as we absorbed over $60 million of supply chain costs. Without these elevated costs our gross margins would have been 400 basis points higher for the full-year and above 40% for the full-year.

We expect supply costs to remain elevated for the first-half of 2023. On the micro fronts, as we grew our business with customers and to new locations and new geographies, we experienced a higher-than-anticipated demand for our line systems and non-vertically integrated metro products.

These products do come at lower margin initially, but the expanded footprint sets us up well for future margin expansion as we had transponders with our own vertical integration. Let me now turn to some of our portfolio and commercial highlights for 2022. Specifically within the system business group, we had three major accomplishments in the year.

First, as I mentioned earlier, we successfully ramped ICE6 to 28% of product revenue in 2022, resulting in nearly 30% revenue growth in the combined long-haul and subsea market segments. We exited the year with over 70 ICE6 customers and secured design wins with major service providers, including a U.S.

Tier 1 service provider, with plans to ramp revenue in 2023 and beyond. Second, revenue in the metro segment from the GX-30 and XTM products grew by a double-digit percentage in 2022, continuing the strong momentum in this segment over the last three years.

Lastly, we continue to advance our suite of automation software, which makes our product easier to use and faster to onboard in open networks over competitors line systems. We also believe software on our pluggables is a game changing and differentiator in the industry.

Helping customers lower operating costs and gain higher levels of visibility and security, while maximizing their agility. Similarly in the sub-systems group we also had several notable accomplishments.

First, we turned off the first units of our 400 gig ZR+ software defined pluggables in live traffic environments in North America with the Tier 1 service provider delivering industry-leading results in reach, power and performance.

At the upcoming OFC Industry Show, we look forward to sharing additional details on the recent momentum we've had in our pluggables business. Second, we received commercial validation of these pluggables for the first set of purchase orders of our 400 gig ZR+ point-to-point and our 400 gig XR point-to-multipoint pluggables, as we exited the year.

We remain on track for product availability in the first quarter of 2023. Third, we advanced the development of our 100 gig XR point-to-multipoint coherent pluggables based on the open multisource specifications being developed in the Open XR Forum.

We believe this pluggable will be a game changer in the 5G mobile edge compute and a new access architectures. Membership in the XR Forum expanded further with seven new members, joining the Forum in the quarter, including Lumentum and the Tier 1 North American cable operator.

The forum now includes a total of 28 members, including service providers representing about 25% of the global CapEx spend in this category. And several network equipment manufacturers, demonstrating our commitment to open networks in the industry.

And finally, during the year, we also launched the development of our next generation 800-gig high performance pluggables, which we believe will lead the industry and power performance and manageability.

Looking ahead to 2023, we remain encouraged by the secular drivers of our business, our competitive position, our planned portfolio and record backlog. The insatiable appetite for bandwidth coupled with the significant investments being made in fiber infrastructure, our long-term positive drivers for Infinera and quite frankly, the industry.

With that being said, we are mindful of an uncertain macroeconomic backdrop, which may result in some near-term variability in the timing of demand and capital spending, as our customers manage their business in a recessionary climate. We see no reason to get ahead of our skis at this time and we'll take a prudent approach to 2023.

While Nancy will cover the specific details of our financial outlook, I'd like to provide some high-level color on our planning assumptions for the year. First, we expect to outgrow the optical systems market again in 2023, resulting in further market share gains.

Industry analysts appear to be coalescing around a growth rate of 4% to 5% for the systems market in 2023 and we believe we will grow high-single digits-digits. Similar to last year, we expect our growth to be weighted more towards the second half of the year.

Second, we plan to expand our operating margins and gross margins again in 2023, as we continue to ship more vertically integrated products like ICE6 and as the supply chain costs attenuate in the back half of the year.

In addition, we will exit the year with the next level of margin expansion with our own vertically integrated pluggables, beginning to fire in our financials.

Finally, given the strength of our refreshed portfolio and the market opportunity in front of us, we believe it’s an appropriate and opportune time to increase investments in our go-to-market efforts to accelerate top line growth and drive additional market share gains in pursuit of a $1 of earnings per share as our target.

Overall, we believe delivering steady and solid improvement across our financials, portfolio, customer service, and employee engagement has served us well over the last three years, despite some significant externalities.

Our primary objectives remain unchanged to grow faster than the market, drive margin expansion, and officially enter the pluggables market, a multi-billion-dollar opportunity. Our 8x4x1 strategy is winning as evidenced by our customer and portfolio of traction and the demand for our products and services remain healthy.

We look forward to driving deeper into our strategy, growth plans and announcing some exciting additions to our robust portfolio of systems, high-end embedded engines and pluggable products and technologies at our upcoming Investor Day on March 7, 2023 at OFC, the Optical Fiber Communications Industry Show in San Diego, California.

As I close today, I would like to thank the Infinera team for delivering on a solid 2022 and their continued commitment to care to our customers and one another. I would also like to thank our partners, customers and shareholders for their continued support.

I will now hand the call over to Nancy to cover the financial details of the quarter and the outlook for the first quarter and year..

Thanks, David. Good afternoon, everyone. I will begin by covering our fourth quarter and full-year results and then provide the outlook for the first quarter and full-year of 2023.

For your reference on our Investor Relations website, we have posted slides with financial details, including our GAAP to non-GAAP reconciliation to assist with my commentary. The fourth quarter was an all-around great quarter for us.

We delivered record revenue, a book-to-bill ratio of greater than 1, higher gross margin, double-digit operating margin and GAAP profitability. Revenue in the quarter was $486 million, a new high for the company and up 21% on a year-over-year basis, with product revenue up 26%.

This year-over-year growth was driven primarily by the strength in the Americas and with ICP customers. The continued ramp of ICE6 and ongoing momentum in our metro business.

Revenue in the quarter also benefited from the early completion and acceptance of approximately $30 million of projects that were originally slated for acceptance in the first quarter of 2023.

Performance in the services business improved further with revenue up 19% sequentially and 3% on a year-over-year basis, as we continued to recover from the supply-related impact earlier in the year.

Geographically, we derive 61% of our revenue from domestic customers, a level higher than normal, due to the strength at several service providers and ICPs in the U.S. During the quarter one ICP customer contributed to greater than 10% of our revenue.

Q4 gross margin of 38.7% was within our outlook range and up 150 basis points on a year-over-year basis and 90 basis points sequentially.

Relative to our expectations from about 100 days ago when we provided our outlook, gross margin came in about 200 basis points to 300 basis points lower, especially when considering the high performance of revenue, compared to our outlook range.

Approximately two-thirds of that shortfall was due to the impact of product mix, including higher revenue from lower margin metro and line system products. While approximately one-third was from higher supply chain costs.

Operating profit in the quarter was $51 million, up to approximately 200% on a year-over-year basis, with an operating margin of 10.5%, compared to 4.3% in Q4 of ‘21.

This margin performance in the quarter clearly highlights the operating leverage potential in our business model, which we believe will only get better as we drive a higher percentage of vertical integration in our product mix and with the benefit from the attenuation of supply chain costs in the second half.

Operating expenses of $137 million in the quarter were slightly below our outlook range of $140 million to $144 million, as we tightly managed spending in the quarter. The resulting diluted EPS in the quarter was $0.16 per share, up from $0.03 in the year ago quarter.

Moving onto the balance sheet and cash flow items, we ended the quarter with $189 million in cash and restricted cash, slightly down from last quarter. The primary use of cash in the quarter was working capital to fund our growth, as we strategically built inventory and invested in securing our supply chain.

While the use of cash by accounts receivable is typical of the fourth quarter seasonality in our business. Consequently, cash flow from operations was approximately flat in the quarter and free cash flow was an outflow of $9 million.

As I reflect on our performance for all of 2022, I'm proud of the progress we've made with our business model, portfolio and customers, despite operating in a very difficult macroeconomic environment, as you heard from David for the full-year of ‘22.

We delivered record revenue of $1.57 billion, up 10% on a year-over-year basis and within our stated range of 8% to 12% growth. We ramped ICE6 to 28% of product revenue above our stated range of 20% to 25%.

We set a record for bookings and backlog and exited the year with remaining performance obligations of $983 million, up $220 million year-over-year. And we more than doubled operating margin to 4.4%, up 230 basis points year-over-year and within our stated range of 200 basis points to 300 basis points of operating margin expansion.

Furthermore, we strengthened our balance sheet by refinancing a portion of our debt and therefore reducing our 2024 convertible debt to approximately $100 million, down from over $400 million previously. We also put in place a new ABL facility in the year with expanded capacity and better terms.

Let me now turn to our outlook for the first quarter of 2023. We remain encouraged by the long-term drivers of our business, customer momentum and record backlog. At the same time we are mindful of the uncertain macroeconomic environment we are operating in and the potential for some near-term impacts to customer CapEx budgets.

We expect supply chain cost to carry over from ‘22 into 2023, with their impact being more pronounced in the first half of the year. Taking these factors into account, we expect Q1 revenues to be in the range of $380 million plus or minus $15 million, representing approximately 12% growth on a year-over-year basis, at the midpoint of the range.

Normalizing for the $30 million of higher revenue in Q4 from the early acceptance of certain customer projects, our Q1 outlook is consistent with the typical seasonality we experienced in our business. We believe our revenue trajectory in 2023 will mirror the trend of the last two years with a stronger second half, compared to the first-half.

We expect Q1 gross margin to be in the range of 38.5% plus or minus 150 basis points, up 230 basis points year-over-year at the midpoint of the range. The primary driver of the year-over-year increase in gross margin is the higher percentage of vertical integration in our mix.

Also embedded in the gross margin outlook is our assumption that we will continue to absorb significant supply chain impact in Q1 from elevated costs and expedite fees.

We are forecasting Q1 operating expenses to be in the range of $139 million to $143 million, up sequentially as we accelerate investments in global sales and business development, to take advantage of the growing market opportunity, while continuing to invest in our R&D roadmap.

The resulting operating margin in Q1 is expected to be approximately 1.5% plus or minus 250 basis points, up approximately 250 basis points on a year-over-year basis. Below the operating income line, we assume $7 million for net interest expense and $4 million for taxes.

Finally, we are anticipating earnings per share in the range of a loss of $0.02 plus or minus $0.04 per share, assuming a basic share count of approximately 222 million shares and a fully diluted share count of 262 million shares.

Looking further out to the full-year of 2023, we remain focused on making continued progress in our financial performance, as we march towards a $1 in earnings per share over the next few years. Our outlook for the full-year of 2023 contemplates the following.

First, revenue growth of approximately 8% considering the approximately $30 million of additional revenue in Q4, the uncertain macroeconomic environment and our record backlog. We believe it is prudent to set our outlook towards the lower end lower of our long-term 8% to 12% growth rate -- range for now.

I want to reinstate that we remain committed to our long-term growth rate of 8% to 12%, higher than the growth rate of the market. Second, gross margin of 40% plus for the full-year of approximately 300 basis points year-over-year.

The two key drivers of gross margin expansion in the year will be the continued ramp of ICE6 and our expectation of some relief of supply chain costs of approximately $30 million, with most of the benefit expected to flow through the second half of the year.

Finally, we are planning for continued operating margin expansion, with operating margin of 125 basis points to 200 basis points year-over-year, as we accelerate investments in our go-to-market engine.

As I close today, I want to reiterate my confidence in our 8x4x1 strategy, our long-term business model and our commitment to a $1 per share in earnings over the next few years. I would also like to extend my thanks to the Infinera team, whose unwavering commitment to innovation, execution, excellence and to one another is remarkable.

In addition, I would like to thank our partners, customers and shareholders for your continued cooperation and support. We look forward to seeing many of you at our upcoming Investor Day at the OFC Industry Show in San Diego on March 7. Lisa, I'd now like to open the line for questions..

Thank you. [Operator Instructions] We will take our first question from Alex Henderson, Needham..

Great. Thank you very much.

So I was hoping you could talk a little bit about the mechanics around your backlog and book-to-bill number in the fourth quarter and how we should think about that backlog/working down over time? Can you give us some sense of what your expectations are in terms of what you might have in terms of excess orders on the books as you're exiting the year? Do you still anticipate that? Just some color around that would be helpful.

Thanks..

Yes. Sure. The remaining performance obligations, which is our, kind of, proxy for backlog was up $220 million year-over-year at [9.83] (ph), which was a record for us.

So even though we did see some earlier acceptances in Q4 than we originally expected, we're looking at Q1 and the first-half, seeing our customers start to work through some of their own backlog and we would expect to do the same.

However, in the back half of the year, as that demand first-half, second-half plays out again, we would expect that we will once again be in a position where we're building that backlog in the second half..

So for the total year book-to-bill at this point in time is forecasted to be above 1%..

So you're expecting 2023 book-to-bill to be above 1%. That's helpful. Thank you..

You're welcome..

Our next question is Mike Genovese, Rosenblatt Securities..

Hey, Moderator. This is Andrew King on for Mike Genovese. Just a quick question around demand in the U.S., particularly around the Tier 1 and the other service providers. Can you just give us any idea as to, if any of the demand trends around there have changed? A lot of what we've heard, is that advanced ordering has slowed.

Can you just talk to us about what those customer conversations sound right now versus a couple of quarters ago?.

Yes. That's accurate. [Technical Difficulty] this question kind of precludes that.

As we look at the first-half of the year this year, I think a lot of people are coming out of the box a little bit slower in terms of their capital planning, trying to eat any of that excess inventory, as we do see the actual supply chain beginning to alleviate, those costs again are still carrying over into the first-half of this year.

So I think you're going to see a little bit of a slowdown in those orders in the first-half, yet picked up in the back half, because the CSPs, while they may hold or cut some CapEx, the priority of their CapEx is still on the rollout of fiber in terms of spending both fiber access and then obviously driving the speeds to bring that back into the metro and long-haul network.

On the web scalers, we continue to see their cloud services business continued to grow despite people talking about layoffs in certain segments of their area. And again, we now have exposure to all seven of the top ICPs. So again we think people are going to moderate and hold less -- order less sooner.

But I will tell you the positive element of that is, we've seen better planning coming out of the CSPs and ICPs, which is why Nancy and I are able to look better at a long-term or a full-year view now versus a year ago today..

Great. Really good color there. And then….

Next is George Notter, Jefferies LLC..

Hi, guys. Thanks very much..

Hey, George..

I'm just curious about the mix of ICE6 in Q4.

As a percentage of product sales I heard the comment for the full-year, I'm just curious about Q4?.

Yes, it approached 40% getting in that range..

Okay.

And then as I think about your gross margin guidance for next year, I think you said 40% for the full-year, what kind of mix of ICE6 does that contemplate?.

Yes. I said, 40% plus, I'm giving myself a little room there. But....

35% to 40%..

Yes. Alright, but it's for gross margin [Multiple Speakers] yes. And for ICE6, we're thinking 35% to 40% for the full-year of product revenue..

Got it. Okay, and then is that a lower mix, then you were thinking previously, it feels like the gross margin assumptions for next year are down little like, I don't know, this is quite apples-to-apples, but I think you guys were talking about, you know, mid-40s exiting the year -- this year, now it’s 40% for the year.

Is a gross margin perspective a little bit lower? Is there something driving that, is it mix? Is it something else we're missing here?.

No. Really good question. A piece of that, George is certainly we've talked pretty consistently about the supply chain costs. So that $30 million that we talked about roughly having from last year, that'll be very weighted in the front half of the year. We already know based on backlog and purchase commitments out there and the PBB we've laid out.

That is more likely to hit large portion of that in the front half of the year. The second piece is we’re continuing to lay out the mix of line systems and metro prior to the vertical integration come again..

Got it. Okay. All right. Thanks very much. I appreciate it..

No worries..

Our next question is Simon Leopold, Raymond James..

Thanks for taking the question. First thing I wanted to ask you about was recently there have been a series of press releases from other optical systems players regarding newer generations. I know you're just starting to hit your stride on ICE6. So it seems early to be asking you about ICE7 or whatever you liked to be calling it.

But given that the series of headlines in the timeline, what kind of assurance can you offer us in terms of your roadmap towards a next-gen platform? And then I've got a quick follow-up..

No, it’s a good question and this always happens about this time of the year, right, as we get into OFC and always conveniently around our earnings call. So, Simon, it's the best I've felt.

We will lay out our roadmap for pluggables, which will be very in line within 8x4x1 strategy, in terms of our pluggable strategy that you heard us talk about in 800 gig, 400 gig and 100 gig. And remember that's attacking about 60% of the market in terms of metro and getting out to access.

On the long-haul side, because of our block technology and us being fully vertically integrated. We are actually working on two generations of technology, that we will announce at OFC and we feel very, very strong about our competitive position.

We all know that these product cycles take lots of time, ICE6 will be a very -- 800 gig will be a very long product cycle. But again, I think we feel very good. We've got a ICE7 and ICE8 beyond that..

Great. And then just as a follow-up, I wanted to see if maybe you could unpack what you're seeing from the cable TV vertical, particularly given charter specifically has laid out a plan and Comcast has been investing.

In the past as those have been good businesses for you and just want to see how you're thinking about the trend in cable TV over the next year or two? Thank you..

I hope my sales team isn't listening to this call, because I would say, I don't believe they have been great segments for us. That is one of the areas we are growing and putting more investment in.

Because as they move to these next generation architectures, I mean, you're hearing not only about 2 gig to the home, but now you're starting to hear about 5 gig and 10 gig to the home. Those architectures are going to be very, very reliant on our 8x4x1 strategy. So look what I'm seeing is investment, you're right.

And we've got the right portfolio at the right time, but we've got to make sure we've got the right go-to-market relationships and channels to be able to get there. My expectations are raising for that -- my expectations are raising for that segment..

Because you've been -- you've historically you've been strong with a couple of those guys and had a -- let's say some share loss in the last year or two. So I'm just wondering if you're sort of making a comeback..

Yes. So you're referring to one major one MSO here and one in Europe. Yes, I think we feel very good about our position without revealing any particulars about the customer..

Simon, just as a reminder, we also mentioned the new ICE6 wins they were approved last quarter, so just a comment..

Great. I forgot about that, but thank you..

Yes, no worries..

We will now hear from Samik Chatterjee, JPMorgan..

Hey, thanks for the question. This is Joe Cardoso on for Samik. My first question is on the sequential improvement in Europe. The revenue level there is still kind of in the sub-100 revenue run rate.

Can you just provide an update on what you're seeing in that region and whether demand trends are still overall positive? And then more specifically touch on the Huawei displacement opportunity, whether there has been any encouraging developments on that front and whether you're seeing any share gain or whether you’re rather taking any share gains into your guide for 2022 relative to that? And then I have a quick follow-up..

Okay, well, good. All good questions. I think the Subsea segment is reasonably lumpy, but as we stated in our prepared remarks that the long-haul in subsea segment overall was up 30% on a revenue basis year-over-year. So we feel really good about our position there, not just now, but as I mentioned, over the long-term with our roadmap..

Yes. Hey, Joe.

Just to clarify, was your question on Europe or Subsea?.

The question was on Europe..

one of which is FX, which we don't disclose by region, but obviously that's the one that gets impacted the most for us. The second is look, I think service providers are digesting a bit, as well as looking at their budgets on operating costs.

As we've noticed especially from the conflict between Russia and the Ukraine, power costs have gone up as I talk to the CEOs and CXOs in that area. Their power budgets have gone up two to four-fold over the last two years. So, I still think that we're going to see nice robust growth there.

But the third element of that is where we're continuing to add sales and marketing resources for both Europe and the Middle East. We think that can be -- that's going to continue to be a very robust and high growth area for us..

And then just any progress in terms of the Huawei displacement opportunity in that region? And is any of that baked into your guide for next year?.

Yes. So look, let's talk about the growth rate. So our growth rate meaning the revenue that Nancy and I projected 100 days ago when we were contemplating next year has not changed. The absolute number hasn't changed.

We happen to have a bit of business come in, in terms of acceptance and supply chain relief in fourth quarter that we assumed would be in Q1. So that absolute number for 2023 has not changed. Where we talked about having an 8% growth rate in 2022 and maybe 10% next year if lift, just because of that.

The Huawei opportunities, they're becoming harder and harder to decipher, because they're just not being invited to new tenders. And so we are seeing a bigger inflow of future tenders. In fact, we have some very big ones in-house for that particular region, where it is just they are not included in that. So I do think that we do see opportunity there.

But given everything else, I just don't think it pays for us to get ahead of our skis in terms of the growth rate for next year of contemplating anything bigger than that. I think those are some significant tailwinds for our business for the long-term for sure.

Don't forget -- sorry don’t forget that they're 12% roughly, if you think of their overall market share outside of China, it's about 12% that continues to be up for grabs for again the best solution provider over the next couple of years..

Got it. Appreciate the color, guys. Thanks..

Fahad Najam, Loop Capital is up next..

Hey, thank you for taking my question. I apologize if you already addressed this. But if I look at your 1Q ’23 guide, it is a little bit more below typical seasonality.

And one - correct me if I'm mistaken, but you had maybe 14 weeks in the fourth quarter, is that correct? And can you just help us understand what's driving the above seasonality weakness?.

Yes. So in Q4, we saw about $30 million of revenue that if you look at the exceeding of the outlook range that we had originally anticipated would hit us in Q1 that we are actually able to close down in Q4. So if you take that into consideration, the seasonality is about normal, about 9%.

So that's why you're seeing that higher number just if you look Q4 to Q1 directly..

I also wouldn't call 12% year-over-year growth in the Q1 contemplated guidance weakness. We're splitting hairs there..

And then for the year, as David was saying, if you look at the full-year growth. And if you look at this over two years, right, the CAGR on that is over 9% for the two years. So it's a matter of just timing on when that revenue hit us..

Got it. I wanted to ask you a little bit about the supply chain dynamics. One of your contract manufacturers talked about some incremental new challenges for 400-gig in higher speed systems, I guess, a new component shortage.

Anything can you enlighten us about what you're seeing in terms of supply chain? Are you still continuing to see the same level of de-commence? Is it getting more challenging?.

Yes, I wouldn't say it's getting more challenging. I'd say it's the same star six to eight suppliers and a handful of components underneath that are driving a huge portion to expedite and cost. But I do believe that we're seeing relief along the way. So in the first-half, we're going to see some pretty significant costs continue.

Then in our plans they dissipate in the back half of the year. In general, the supply chain is much healthier than it was at the beginning of last year, so I'm a lot more optimistic..

Appreciate the answers. Thank you..

Our next question is Meta Marshall from Morgan Stanley..

Great, thanks. Maybe just a second on the product mix on the gross margins.

I just wanted to get a sense is that new implementations and just kind of initial deployments that are kind of causing that product mix down? Or is there a more fundamental, kind of, metro gross margin kind of headwind that we should be thinking of? And then just second on the go-to-market efforts and kind of the investment there.

I mean, I think you somewhat alluded to it with cable kind of being a meaningful target market for that, but are just where should we consider kind of the bulk of those investments being made? Thanks..

Sure. Yes, on the metro, I mean, it's new wins, right? So we've talked about this now for a couple of quarters and we look at the growth rate we're seeing there. You know, the challenge is that the metro today isn't vertically integrated yet, but it will be with our own pluggables. And when that happens, we see that margin expansion.

But we are seeing new wins whether that be in metro or in line systems. So it's not anything that I would say is new in terms of the metro margin. It's just a matter of that we're winning more business there.

Do you want to go?.

Yes, I would say the other thing just for everybody to be aware of is, I think Amitabh Passi, this is like for the second and third year in a row, our line systems we've under forecasted their impact, which is bad for the short-term, good for the long -- I’d say it’s good, because those are wins.

But it's dilutive to the gross margins in the short-term. And contemplated in the Nancy's first half, second half is in the supply chain, there were some components that were really holding up everybody's line systems. And so we are seeing those now come to revenue in the first half of this year. Coming out of backlog and those are dilutive.

So while ICE6 is going to continue to grow and our operating efficiency is going to continue to get better, what we'll fight is the layout of those lines, which is great because it means we're winning new routes and new opportunities, that will be again dilutive in the first half, as well as metro 40% to 50% of that bill of materials is that pluggable.

And we will -- we have our own pluggable now that will be available commercially this quarter. But as we go to implement that, we won't really see a significant financial benefit until, kind of, as we exit the year. So those are -- that's the margin dynamic.

So Meta on your sales and go-to-market question, I would tell you that without giving away strategy here, certainly the cable area, the Middle East Europe in those Huawei replacement opportunity markets. And then there's a lot of jurisdictions that we're not in.

So we're investing pretty hard in the channel, because where we are missing opportunities, the number one root cause when we do a loss analysis is we weren't there. We didn't know the deal was really going down and we didn't have the relationship there.

So we feel good enough about our portfolio, the market and the position that it's time for us to lay that sales and marketing and go-to-market resource down.

Did that answer your question, Meta?.

Yes. No, that answered. Thank you so much..

Thanks, Meta..

We'll go to Dave Kang, B. Riley..

Thank you. Good afternoon.

First question is regarding -- hi, regarding XR, did I hear you correctly that you guys had purchase orders? And how should we think about revenue projection for XR over the next couple of years?.

Yes. So I think what we've said, in our prior remarks and as we did our last Analyst Day is we'll start to see those external sales we see today, I get very excited when I see other network equipment manufacturers onboarding that, because the reason we've -- stayed in our 8x4x1 strategy as an optical player and not making switching and routing.

Products we don't want to compete with those that we're supplying. So I think externally you'll start to see that ramp this year. It's not going to be a huge number this year, but you will see -- we will see design wins that will relate to more marketable revenue in 2024.

We will also begin again as we exit the year, we’re qualifying in our own metro platform. But by the time that rolls through the revenue recognition cycle in the income statement, that will really be a big story in 2024 in terms of continuing this margin accretion that we've been on..

And I would say at our Analyst Day, we plan to kind of walk through how that transpires over the next several years and show the impact that it can have on our overall business model..

I think in the past, you talked about XR SAM to be about $1 billion to $2 billion maybe you'll go over that during the Analyst Day, but what do you think the -- your market share will be?.

Yes. So that's not something -- let's talk more at the Analyst Day, I will tell you if you're a pluggable player in the industry having the vertical integration, the fab capabilities, the advanced packaging capabilities, all the assets we have, you can't it's not a small -- you're not a small player. There are no niche players in that market.

So it's kind of an oligopoly. And so the numbers of market share tend to fall within that structure. And we'll talk more about that in the Analyst Day. It's a good question Dave..

Got it. Thank you..

[Operator Instructions] We'll go to Jim Suva, Citi..

Thank you, David, Nancy, I think both of you mentioned dollar earnings per share.

I just want to calibrate and make sure you weren't referencing for 2023, I'm quite certain of that, but do you have a timeframe of when that is?.

No, I was not referencing ‘23, but rather you could think about that as a ‘25, ‘26 timeframe. And we'll walk through what has to happen during Analyst Day to whether it falls on the ‘25 line or the ‘26 line..

Great. That's exciting. And then when you mentioned in Q4 you had some early customer acceptances, does that mean that in 2023 that these are potential customers that are going to be doing future rollouts and purchases faster than expected.

Is that how we kind of think about those early customer acceptances that you referenced?.

I think some of them, yes. I mean some of them it was a matter of whether fell in December, January and when we thought it was going to hit. But certainly they were new wins. And so we're pleased right, that we have them as customers and would expect them to grow. And then the second is on the line systems where we have line systems coming in December.

That allows us to start that process and that time frame in order to fill those line systems earlier, which is good..

Okay. And then my final question, probably for Nancy, as CFO.

How should we be thinking about kind of cash flow for 2023 seasonality or variability as we progress through the year for cash flow?.

Yes. Certainly, our plan would have us generating cash from operations in the year and modest free cash flow. Again, we are going to be absorbing about $30 million in terms of additional supply chain costs and my contemplation there.

But our -- we saw in Q4 the additional supply chain, the ability to bring on additional inventory, which we took advantage of and want to get that turned out to our clients. And so I'm pleased that we were able to do that, one of the things I did not mention is we have not -- we don't have anything drawn on our ABL at this time either.

So that still remains available to us as we needed to [Indiscernible] in capital. But for ‘23 for the year generating free cash flow and modest --sorry, generating cash flow from operations and modest free cash flow..

Great. Thank you, David and Nancy, for the details..

Thanks, Jim..

And everyone at this time, there are no further questions. I'll hand the call back to management for any additional or closing remarks..

Yes. No, I appreciate it and all very good questions. Look overall 2022 was a very solid year. We grew the top line 10% ahead of the market, gained share, and more than doubled our operating profit in the year. That's the third consecutive year of improving our financial progress.

We think that steady consistent approach is going to be great for executing our 8x4x1 strategy. That strategy is working and it's winning. We delivered this performance while we really addressed some really tough macros. I mean, absorbing over $60 million of supply chain costs and continuing to improve the margin level at the rate we did.

While we executed our product portfolio to the timing, to our expectations and the performance ahead of our expectations in terms of the products. I want to remind you all that having the right elements of vertical integration has never been more important.

So as people talk about increasing the speeds of broad rates and wave sizes, having our own components baked into photonically integrated circuits, our own U.S.-based fab, our own U.S.-based advanced packaging allows us to have our own low noise high output lasers are on modulators, photo detectors, advanced RF packaging to facilitate higher broad rates.

That's why we're so comfortable that these block technologies are allowing us to move faster through our development cycle and greater R&D efficiency. For both a subsystems business that we intend to be a leader in and a systems business that we intend to continue to gain share.

Now this year, I think what we're seeing is people going through their budgets and I believe we're going to see again that dynamic of beating in the backlog for the first-half and gaining overall book-to-bill in the second half of the year and for the year. So demand continues to look strong.

We will give you lots more guidance as we lay this out at OFC. We look forward to seeing you there. And again look forward to your continued engagement. Thank you all for your continued support. Have a wonderful day or evening..

Thank you..

Once again, everyone. That does conclude today's conference. Thank you all for your participation. You may now disconnect..