Erica Mannion - IR Tim Jenks - President and CEO Ray Wallin - CFO.

Simon Leopold - Raymond James Vijay Bhagavath - Deutsche Bank Richard Shannon - Craig-Hallum.

Welcome to the NeoPhotonics 2014 First Quarter Conference Call. This call is being webcast live on the NeoPhotonics event calendar webpage at www.NeoPhotonics.com. This call is the property of NeoPhotonics and any recording, reproduction or transmission of this call without the express written consent of NeoPhotonics is prohibited.

You may listen to a webcast replay of this call by visiting the event calendar page of the NeoPhotonics website. I would now like to turn the call over to Erica Mannion at Sapphire Investor Relations, Investor Relations for NeoPhotonics..

Good afternoon. Thank you for joining us to discuss NeoPhotonics operating results for the first quarter of 2014 as well as the company’s outlook for the second quarter. With me today are Tim Jenks, President and CEO, and Ray Wallin, Chief Financial Officer.

Tim will begin with a review of the first quarter, followed by Ray who will provide a financial update including results for the first quarter and the outlook for the second quarter of 2014. Tim will then conclude with a discussion of the growth and margin drivers for the company over the next several quarters, before opening the call for questions.

All material contained in the webcast is the sole property and copyright of NeoPhotonics Corporation, with all rights reserved. Certain statements in this conference call, which are not historical facts, may be considered forward-looking statements that involve risks and uncertainties.

Forward-looking statements include statements regarding future business results, future levels of sales and profitability, subsequent events, product and technology development, future customer demand, inventory levels and economic and industry projections.

Various factors could cause actual results to differ materially from what is set forth in such forward-looking statements.

Some of the factors that could affect the Company’s results have been set forth in our press release dated June17, 2014 and will also be described in detail in the Company’s SEC filings, including but not limited to, our Annual Report on Form 10-K for the year ended December 31, 2013, which we filed on June 4, 2014, and our Quarterly Report on Form 10-Q for the quarter ended March 31, 2014, which we anticipate filing shortly.

Listeners who do not have a copy of our first quarter 2014 earnings press release may obtain a copy of the press release by visiting the Company’s web site. Now, I will turn the call over to CEO, Tim Jenks..

Thank you for joining us today. With the filing of our 10-K in June and the filing of our March 2014 10-Q expected next week, we are pleased to say we expect we will soon be current with all SEC filings. With this process largely behind us, I would like to take a moment to thank those involved for all their hard work over the past several months.

Moving on to our results for the March quarter, and taking into account the seasonal decline we typically experience in Q1, we are encouraged by the strength in our business as evidenced by our record first quarter revenue of $68.2 million which is within our revised outlook range of $67.5 to $68.5 million and represents a 22% increase over our first quarter of 2013.

Despite ASP declines from fourth quarter pricing negotiations and the unfavorable impacts of product mix and of the timing of the Chinese New Year, during the quarter we witnessed increasing strength in both our Access shipments and in our backlog for 100G products.

The March 2014 quarter achieved a Non-GAAP gross margin of 22.0% with a Non-GAAP EPS loss of 30 cents per diluted share, which includes the additional G&A expenses required to strengthen our controls and complete our restated Q1 and Q2 2013 quarterly filings and year-end audit.

First quarter revenue attributable to our “Speed and Agility” product group was approximately 73% of our total revenue, and was up $13.7 million on a year over year basis. Of this, revenue from our High Speed products, i.e.

100Gand some 40G, was $28.3 million or 42% of total revenue in the first quarter of 2014, which is an increase of 29% over the first quarter of 2013, inclusive of the acquisition of NeoPhotonics Semiconductor. Our “Access” product group was approximately 21% of our total revenue, which as expected was down $1.4 million on a year over year basis.

I will now turn the call over to Ray Wallin, our Chief Financial Officer, who will provide our financial update..

Alcatel-Lucent at approximately 13% which is the same as in the fourth quarter of 2013. Ciena comprised approximately 14%; compared to 16% in the fourth quarter, and Huawei Technologies comprised approximately 35% of our total revenue compared to 30% in the prior quarter.

Geographically, our revenue mix for the first quarter was 20% in the Americas compared to 23% in the prior quarter, 52% in China compared to 47% in the fourth quarter, 7% in Japan compared to 9% in the prior quarter, and 21% in the rest of the world compared to 21% in the fourth quarter. Note that these figures are based on shipment destination.

GAAP gross margin for the first quarter of 2014 was 20.2%, a decrease of 6.2 percentage points sequentially from the 26.4% reported for the fourth quarter of 2013 and a decrease of 0.8% from the first quarter of 2013.

And, Non-GAAP gross margin for the first quarter was 22.0%, within our projection of 20% to 23%, and represents a decrease of 5.5 percentage points versus the previous quarter’s Non-GAAP gross margin of 27.5% and a decrease of 1.1% from the prior year period.

The decline in gross margin from the previous quarter was primarily due to the impact of the annual price negotiations. SG&A spending for the first quarter was $12.4 million, or 18.2% of revenues, up from $11.9 million, or 16.0% of revenues, in the fourth quarter.

Of this, G&A expenses in the first quarter were $9.0 million, or 13.2% of revenue, up from $8.2 million, or 11.0% of revenue in the prior quarter, primarily due to timing of audit and accounting fees.

We anticipate continuing to incur higher G&A expenses, in-line with the March quarter, through the second quarter of 2014 as we complete our audit work in June 2014 and continue to enhance our internal controls, after which we anticipate quarterly G&A costs to be approximately $1 million lower.

Research and Development expenses were $12.1 million, or 17.7% of revenue, changed from$12.8 million, or 17.3% of revenue in the prior quarter. We continue to make significant investments in 100G product development.

Operating loss for the first quarter was $11.0 million, or 16.2% of revenue, compared to an operating loss of $5.6 million, or 7.5% of revenue for the fourth quarter of 2013. The effective tax rate for the quarter was 6.4%, as the company made a provision for taxes related to NeoPhotonics Semiconductor in Japan and for our operations in China.

We expect that our full year effective tax rate will be approximately 6%. GAAP net loss for the first quarter of 2014 was $12.6 million, compared with a net loss of $4.5 million in the fourth quarter of 2013.

Diluted loss per share for the first quarter of 2014 was 40 cents which is higher than the loss of 14 cents per share in the prior quarter and was unchanged compared to the diluted loss of 40 cents per share in the first quarter of 2013.

Non-GAAP net loss for the first quarter of 2014 was $9.5 million as compared to a net loss of $1.8 million in the fourth quarter of 2013 and a net loss of $5.3 million in the first quarter of 2013.

Non-GAAP diluted loss per share for the first quarter of 2014 was 30 cents as compared to a loss of 6 cents per share in the preceding quarter and 17 cents per share in the year ago period.

Adjusted EBITDA was a loss of $4.2 million in the first quarter of 2014, a decrease from income of $3.0 million in the fourth quarter and a loss of $1.8 million in the first quarter of 2013.

Now turning to the balance sheet, cash, cash equivalents and short term investments were $61.3 million at the end of the first quarter, compared to $75.0 million at the end of the fourth quarter and $99.8 million at the end of the first quarter of 2013.

And, total debt at March 31, 2014 was $40.8 million, a decrease of approximately $3.5 million from the fourth quarter of 2013. Accounts receivable balances increased by $6.1 million in the first quarter to $70.6 million, and days sales outstanding were 89 days at the end of the first quarter compared to 87days at the end of the fourth quarter.

And, we do not have any significant collection issues.

Net inventory increased approximately $3.0 million during the first quarter to $67.9 million while days of inventory on hand increased to 110 days from 106 days in the fourth quarter, as we built inventory in the first quarter ahead of higher expected shipments over the following several quarters.

Capital expenditures totalled $2.1 million in the first quarter, down from $5.2million sequentially due to the completion of capital expenditure programs initiated in the fourth quarter of 2013. We expect capital expenditures to generally be in the range of $3.0 million to $5.0 million per quarter in the next few quarters.

And, first quarter depreciation and amortization was $5.5 million the same as in the fourth quarter of 2013. Going forward, on an annual basis, our CapEx is expected to be in the range of $12 million to $15 million, which we view as suitable to maintain our ongoing growth and production expansion needs.

Moving on to our updated outlook for the second quarter of 2014.

We anticipate revenue for the second quarter ending June 30, 2014 to be in the range of $73 million to $78 million, which is the same as our prior outlook and consistent with the increasing demand we are seeing in the market; non-GAAP gross margin will be in the range of 20% to 25%, an increase of 60 basis points over Q1 at the mid-point of the range due to ongoing operational improvements; Diluted loss per share from operations will be in the range of 13 to 23 cents, and on a Non-GAAP basis will be in the range of a loss of 16 to 26 cents per diluted share; The GAAP diluted loss per share guidance for the second quarter reflects a 13 cent, or $3.9 million benefit related to the escrow for our 2011 acquisition of Santur; the share count assumption used to estimate the second quarter is approximately 31.6 million diluted shares.

Looking at the full year of 2014, we continue to believe demand is favorable for NeoPhotonics products, with continued potential in high speed and Coherent products in 100G around the world, as indicated by our outlook of +10% growth for Q2 over Q1 of 2014. With that, I will turn the call back to Tim..

First, 100G long-haul deployments in China have mixed impact on gross margins. On the one hand, the increasing volumes help drive higher manufacturing utilization which improves gross margin. On the other hand, these products generally carry a lower ASP than products sold into other markets and as a result tend to be a headwind on gross margins.

Net net, while these products help drive higher revenue growth in the business overall, they generally modestly lower overall corporate gross margins. Second, increasing 100G long-haul and 100G Metro deployments in US and Europe are generally favorable to margins.

The transition from CFP to CFP2 will generally have a positive impact on gross margins when scale is achieved, largely because of increased NeoPhotonics component content in our internally designed optical transceivers.

Third, as discussed earlier, given the step function performance improvements in our micro ITLA products over existing solutions in the market, over the long-term we expect these products to be accretive to corporate gross margins.

In the near-term however, as the volume of these products begin to ramp we will likely experience a headwind to margin as there are typically start-up costs associated with ramping new products, which generally last 1-2 quarters after initial production start up.

Fourth, our Access products generally carry a lower margin relative to our corporate average and as a result, when we experience greater revenue contribution from Access products, we typically see a decrease in gross margin.

Over time, as these products represent a smaller portion of overall revenue, their negative impact to margins will become meaningfully less. Finally, as we complete our initiative to trim low margin products from the product portfolio, we anticipate seeing an improvement to gross margins overall.

In addition to these factors, it is important to remember we have a vertically integrated manufacturing model and as such, we are continually focused on improving and optimizing production processes to increase yields and lower manufacturing cost.

Holding variables such as product mix and volume increases constant, we’re typically able to achieve one or two percentage points of gross margin improvement per quarter on process improvements alone.

As a result of the multiple variables which contribute to gross margin, it is often difficult to determine with any specificity the near to mid-term trajectory of gross margins other than to say Q1 is typically our seasonally weakest gross margin quarter following price negotiations in Q4 of the previous year.

This decrease in Q1 is traditionally followed by steady gross margin improvement throughout the year as we realize ongoing manufacturing process improvements.

Over time, as we see increasing adoption of 100G products, particularly those outside of China, as well as the volume adoption of our new products, we would expect overall gross margins to rise above current corporate average levels, accelerated by our reducing exposure to low margins products such as Access and other products.

In conclusion, we continue to work on increasing our content per port in 100G systems, and we believe our key investments in next generation products and investments in production capacity combined with growing adoption of Coherent networks and the use of high speed modules on the client side will fuel NeoPhotonics growth in the quarters and years ahead.

The current 100G market strength will be bolstered by Metro 100G growth, and then by Datacenter 100G growth. We view these directions as a megatrend for our business. This concludes our formal comments and now I would like to ask the operator to open up the line for questions.

Operator?.

Ladies and gentlemen, the question-and-answer session will be conducted electronically. (Operator Instructions) And your first question will come from Simon Leopold with Raymond James..

Tim, you gave us I think a lot of detail on gross margin. I do appreciate it and kind of want to apologize for maybe asking a question that you sort of probably have already answered.

But I'm still a bit confused in that I always had the sense that when your 4000 gig business got bigger and bigger that that would be a more of a tailwind on gross margin. So I think maybe I'm set on the way we thought about it, maybe a year ago with the idea that this was an element as a business that would be over 30% gross margin.

So can you help me understand what’s changed in that regard? And I definitely heard you talking about the mix towards China and understand that headwind. But I thought we knew that a year ago as well..

I think the factors that you’ve cited Simon are correct. So I don’t think you’re confused. Generally speaking, the 100 gigabit business, part of the Speed and Agility product group as we reported is favorable. The two things that I pointed out though specifically is that it just has a geographic market.

China has big players and pricing is quite competitive and therefore it may have lower margins than others. So disproportionate China content is a bit of a headwind.

And we have a lot of new products coming into our manufacturing over the next several quarters and when they are teething their startup issues affecting new product, it doesn’t always have smooth sailing of excellent gross margins in the first quarter or two. And I just wanted to highlight those specifically..

And in your Access business, are you taking and can you quantify the hit that maybe occurring because of volume reduction or is that not an issue?.

Well, I think as we said in the comments we did see -- just on a quarter-on-quarter basis, we saw $1.4 million decrease. And so I think that the trend there is really a continuing one. The track record over a number of quarters is that it is generally flat or very slightly down..

Okay. And then you gave us some indications on CapEx, which were a bit higher than what I was modeling. And I'm looking at ongoing cash burn, so you consumed a bunch of cash in the March quarter relative to December, and you’re guiding towards, as I recall $12 million to $15 million of annual CapEx. And so, the trend looks somewhat negative.

You could be exiting the year with the forehand on the cash and equivalents.

I am just wondering if I am thinking about this correctly, and how you’re thinking about controlling and turning the Company towards more of a cash generator?.

All good questions, this is Ray Wallin by the way. So, let me just start with the Q1. So I think Q1 was a little bit of an unusual quarter and I think it’s not the best to try to project that that would continue throughout the year the business as usual. So in the first quarter we had higher than average loss in the quarter.

And we also built inventory in AR. So we’re building inventory because we’re ramping up for the second and third quarter ramps. And then secondly on the AR side, we had a higher revenue quarter in Q4 and so dealt receivables there. In addition to that, we had some debt payments that we made. So we have a mortgage in Japan and we pay annually.

It’s a roughly $3.5 million payment that we pay every year. Mike, we have two more payments to go. So that was also in that quarter. And the actual capital expenditures that we had were only about $2 million. Of course on the other side, we are aggressively managing our AP. So we grew AP by about $8 million.

So there are number unusual items in the first quarter and we don’t actually see that level of cash burn continuing in the following quarters. And then in addition to that we are taking a lot of actions to protect our balance sheet.

All the items we mentioned in terms of inventory and AR, we are getting very aggressive on collecting our AR and managing our inventories which should help improve our cash position.

And we don’t have that same debt payment in the next three quarters and we've got some other things up our sleeves as well in a sense that as you know our G&A costs have been higher than we would like them to be as a result of all the restatement activities and we see our G&A cost coming down substantially in the next few quarters back to more normalized levels.

And there is a number of other actions that we're taking as well. So a combination of all that should help improve our cash situation..

Okay. And then one last question. Tim, I heard you mentioned datacenter as one of the opportunities. If you could elaborate a little bit on what your offerings are today for datacenter applications and I mean traditional datacenter and not necessarily long-haul deployed to interconnect datacenters but datacenter products.

Where are you today and how do you see that as a market opportunity over the next year in terms of product offerings for you?.

Sure. I will comment first on products but also on timing. For 100 gigabit in particular, we have been a manufacturer of 100 gigabit CFP modules for some time and we have introduced the CFP-2 modules as well. And with that there is a roadmap longer term but the CFP, CFP-2 transition is important in 2014.

But also through NeoPhotonics Semiconductor we are a pretty significant provider of components to these devices, which we use them internally and we sell them externally. So this includes products such as EML lasers and drivers and so those products are all used in 100 gigabit applications, notably in datacenter and client side applications.

The product roadmap for other types of modules beyond those mentioned are 2015 and beyond activities that we have not yet made public..

Are you able to quantify what percentage of your current revenue comes from the datacenter market?.

Generally speaking no Simon, and the reason for that simply is that the range of customers that we sell these products to because of the fact that it mixes both users of components and users of modules, we don’t necessarily have excellent visibility to the end-use..

(Operator Instructions). From Deutsche Bank, we will hear from Brian Modoff..

Vijay Bhagavath calling on behalf of Brian. I have two questions. One is you are mentioning about strength in 100 gig Metro long-haul heading into over the next few quarters.

My question is when you sell into a Metro-optical system, would the price points be lower versus the sale into a long-haul system?.

Well generally speaking there is -- I'm going to answer that two ways, Vijay. The first thing is that initial deployments of Metro are often on a common platform with long-haul but then you can move to the second step which is the custom designed Metro 100 gig system.

And generally these systems have requirements on reach, power and space that are all part of, if you will, the features offering.

So, because the volumes can be higher and the space constraints, power constraints lower than specifications do allow for shorter reach and so those changes, particularly the shorter reach allow you to develop next generation group of parts which generally do have lower ASPs.

So, it is correct that they are often at a lower total price for the components per port than in the initial long haul transport..

And then on the gross margin side, you mentioned about directionally improving gross margins, heading into the back half.

From a modeling point of view should we be looking at mid-20 gross margin in the back half in 24, 25 points of range or is that too early to call from your point of view?.

I think that the way to look at it is to think about that as we progress through the year, we should be seeing 1% to 1.5% gross margin improvement each quarter as we go. And Q2 is an example.

We guided 60 basis points higher, but we should see as we achieve more operational cost savings, as we go through the second half of the year, gross margin will improve by that amount..

And next we’ll hear from Richard Shannon with Craig-Hallum..

Tim and Ray, a couple of questions from me and I apologize. My line has been a little sketchy here and I am in an area of weak coverage. So I apologize for that but following up on last one on gross margins. For your second quarter you didn’t narrow the range anymore and I caught most of Tim’s prepared commentary.

I guess what I would be interested in hearing is a situation or scenario by which your gross margins might be flat to down in the second quarter in terms of mix or volume or whatever. Can you give us a sense of what would make that and then also give us a sense of what would allow you to hit the high end..

So in the -- a couple of comments there, but first one would be on the overall revenue level and the second one on product mix. Historically our second quarter is quite a bit stronger than the first quarter. In our last two conference calls I talked about building backlog and in this conference call as well.

So we do expect a higher second quarter as indicated by plus 10% Q2 over Q1 in mid-point of the guidance. That provides better utilization and so just on a utilization basis that makes a positive impact.

Secondly with respect to product mix, I did refer to the strength of 100 gigabit and generally the Speed and Agility products are favorable with respect to gross margins. So we would expect that to be beneficial.

In addition the trend that we see, we do tend to see ASP changes principally at the end of the fourth quarter and beginning of the first quarter, but small impact of ASP if any during the course of 2Q and 3Q. So there are the favorable impacts but there is also the absence of deleterious impact.

Over the course of the last two or three fiscal years we do see the trend of increasing gross margin from first quarter to last quarter. I think we haven’t guided obviously for the second half, so it’s difficult to accurately predict where we’ll be for the full year..

Can also add to that, you noticed that we left the revenue range the same as we had in the previous conference call that we did in May. And you’ll sense that time our mix has remained relatively constant for the Company.

So with the revenue being in the same range and the mix being approximately the same we say this will leave the gross margin range the same..

Okay, fair enough. Maybe one or two other questions from me. Following up on your comments about backlog building, I think you also mentioned that building even into the fourth quarter so far.

Can you give us a sense either by customer set or type of product or geographic customer where you see that backlog building?.

Sure, I think the notable point about the backlog build Richard is the fact that it's June. So talking about in most cases 8 to 12 week lead times and the preponderance of vendor managed inventory in our shipment plan means that it’s -- usually you don’t have much visibility beyond a quarter.

So the fact that we are seeing scheduled shipments out in the fourth quarter is notably strong. It’s particularly in 100 gig, and it’s particularly in Asia. There are some western customers who use vendor managed inventory as well who are scheduling in their forecasts in those periods. But which products? 100 gig products. Which geography? Asia..

Okay, fair enough. Maybe one more question here on the topic of Metro. You’ve got two or three or four large OEM customers and you’ve talked about over the last several quarters.

How many of these do you expect to be customers for Metro?.

Well, so of course, all of these are customers for components, but I think each of the major system companies that typically are factoring among our 10% customers are in the Metro conversation in terms of the custom build versions.

Is that what do you mean?.

Yes. Essentially yes..

Yes, we talk about Ciena and Alcatel and Huawei has been three customers that are typically 10% or above product group. And so essentially each customer needs to have solutions for their western customers, Metro does tend to be a more western concept than for example it is in China. But regardless of whether the systems company is in the U.S.

or Europe or China to the extent of their customers, their carrier customers are western, then they generally require Metro solutions..

(Operator Instructions) And at this time there appears to be no further questions. I would like to turn the conference back over to Tim Jenks for any additional or concluding remarks..

Thank you, Rebecca. In closing I would like to thank everyone for taking the time to join our call today. I would like to thank our shareholders for their patience while we completed our restatements to Q1 and Q2 of last year and we finalized our 2013 audit and our Q1 2014 financials.

We look forward to updating you on our progress on our next quarterly call. Have a good day. Bye-bye..

And ladies and gentlemen that does conclude today’s presentation. We do thank everyone for your participation..