Good day, ladies and gentlemen, and welcome to the Lumentum Q1 outlook conference call. [Operator Instructions] As a reminder, this conference is being recorded..

I would now like to introduce your host for today's conference, Mr. Chris Coldren, Vice President of Strategy and Corporate Development. Sir, please begin. .

Thank you, operator. Welcome to Lumentum's first conference call as an independent public company. My name is Chris Coldren, Vice President of Strategy and Corporate Development. Joining me on today's call are Alan Lowe, President and Chief Executive Officer; and Aaron Tachibana, Chief Financial Officer..

Today, we will be discussing our business outlook for the first quarter of our fiscal 2016. We are not able to provide specific commentary about our fourth quarter or full year fiscal 2015 results, because Lumentum's stand-alone GAAP financials are not yet finalized..

Earlier today, JDSU, newly renamed Viavi Solutions, reported results for their fourth quarter and full fiscal year 2015, which included results for the product lines that were contributed to Lumentum in the spinoff.

Please note that our separation from JDSU was completed, and we became an independent public company on August 1, 2015, 5 weeks into the first quarter of fiscal 2016, which influences the type of projections we are providing..

This call will include forward-looking statements, including statements regarding Lumentum's expected financial performance. These statements are subject to risks and uncertainties that could cause actual results to differ materially from our current expectations.

Because projections for the first quarter of our fiscal 2016 include a period when we were operated as a part of JDSU and not a stand-alone company, these projections are estimates only and may not be indicative of our past or future performance.

We encourage you to review our filings with the SEC, particularly the risk factors described in our Form 10..

The forward-looking statements, including projections we provide during this call, are based on our reasonable belief and expectations as of today. Lumentum undertakes no obligation to update these statements, except as required by applicable law. .

Please also note, unless otherwise stated, all projections are non-GAAP. Our press release, with our first quarter fiscal 2016 projections, is available on our website, www.lumentum.com, under the Investors section and includes additional commentary about our non-GAAP financial measures.

Our website also has our latest SEC filings, which we encourage you to review. Finally, a recording of today's call will be available by 6:00 p.m. Pacific time this evening on our website..

Now I would like to turn the call over to Aaron. .

Thank you, Chris. Lumentum made its debut as an independent public company on August 1, 2015, and began regular way trading on the NASDAQ stock market on August 4.

Our team is excited about the opportunities in front of Lumentum in the optical communications, commercial lasers and the emerging 3D sensing markets, and we look forward to sharing our progress during future earnings calls..

Now onto our business outlook, first quarter fiscal 2016. We project net revenue for the entirety of the first quarter to be in the range of $205 million to $215 million, including approximately $3 million of WaveReady revenue..

As Chris noted earlier, Lumentum separated from JDSU 5 weeks into the first quarter. Because the first quarter will include a mixture of pre-spinoff allocated costs from JDSU and Lumentum stand-alone costs, the financial results for the first quarter will not be indicative of Lumentum's stand-alone performance.

As such, we're not providing first quarter stand-alone projections for non-GAAP operating margin or earnings per share..

However, for the purposes of evaluating trends versus pre-spinoff time periods, if Lumentum had remained a business segment of JDSU with similar cost allocation methodologies as used in determining JDSU's historical non-GAAP segment operating margin for CCOP, we project non-GAAP segment operating margin for the first quarter would be in the range of approximately 9.5% to 11.5%.

Continue to expect to incur additional costs, excluding separation and transitional costs, of approximately 3.5% to 4.5% of non-GAAP net revenue for operating as a stand-alone public company, relative to operating as a business segment of JDSU..

As we have not finalized our stand-alone GAAP financials for our most recent time period, the fourth quarter of fiscal 2015, we don't have a sufficiently precise or current basis to provide reasonable guidance for non-GAAP earnings per share.

However, to help you better understand our expectations for other drivers of our net income, we expect interest and other income and expense to be immaterial and our non-GAAP effective tax rate to be less than 10%..

I will now turn the call over to Alan for additional commentary about our business.

Alan?.

Thank you, Aaron. I would like to extend my welcome to our new Lumentum shareholders and to express my excitement about the future opportunities in front of our new company. Our expectations for the first quarter include growth in both optical communications and lasers..

We expect Telecom revenues to be up quarter-on-quarter, as we continue to see increasing demand across most of our product lines. Notable strength in submarine, 100G modulators and the next-generation TrueFlex ROADMs are key drivers to this growth..

Our customers are using our products in their systems for lab and field trials currently underway for a major North American metro build-out. We expect full-scale deployments for this metro build-out to start early next calendar year..

In Datacom, we expect continued growth in our 100G products, including our CFP2, CFP4 and QSFP28 transceivers. We continue to secure design wins for our 100G QSFP28 transceivers, which positions us for clear leadership and growth in 100G Datacom..

At lower speeds, 10G and below, we are seeing tough pricing pressure in the market. This pressure will likely limit growth and margins for market participants. Looking forward, we are likely to see a decline in our 100 -- in our 10G and below Datacom business, as we become more selective in the business we accept. .

Demand for our commercial lasers should be higher in the first quarter, as we are seeing a recovery in fiber laser as well as strength in solid-state and ultrafast products..

We expect our 3D sensing revenue to be up modestly throughout the fiscal year, as we are now shipping production volume for new personal computer applications. We believe this business could strengthen further over the longer term, as more consumer electronic devices incorporate 3D sensing capabilities..

Before I turn the call over to Q&A, I would like to thank our customers, our suppliers, our shareholders, and especially our employees who have performed incredibly during our transition to Lumentum. This is an exciting new phase for our company, and we have the team to create real value for all of our stakeholders..

With that said, I will turn the call back over to Chris to begin the Q&A session. .

Thank you, Alan. As highlighted at the start of this call, we cannot provide commentary regarding our fourth quarter or full year fiscal 2015 Lumentum financial results and must limit all discussion to trends and components of our business and their impact to our first quarter projections..

Operator, let's begin the question-and-answer session. .

[Operator Instructions] Our first question comes from the line of Patrick Newton with Stifel. .

Wanted to jump in with one on the fiber side and then kind of an optical question.

But on fiber lasers, can you help us understand the relative level of the 4Q revenue and walk through a little bit of the inventory management that you've seen from Amada and some of the component supply issues that you saw in the fourth quarter? And then as we look forward, if we look at kind of the trailing 12-month revenue heading into fourth quarter, you were at a level of about $48 million on the fiber laser side.

Is there any reason to think that, that level cannot be eclipsed as we look into fiscal year '16?.

Yes. Let me take the first question. We did $6.2 million in Q4 in fiber laser, and I think the inventory correction is behind us now. We did have a component problem in the month of June that prevented us from shipping one of the variants of the fiber laser. And that has now been fixed, and we are shipping volume today.

So we expect that revenue to grow substantially this quarter. As far as $48 million trailing 12 months, I don't see any reason why we shouldn't be able to see that continue to grow, as we branch out of the 6-kilowatt fiber laser as well as ramp our 2 and 4. .

Great. And then I guess, on the optical side, 2 parts. One is there's been a little bit of consternation around demand trends in China and some pauses there. I was wondering if you could comment on what you're seeing from the Lumentum side of the business. And then thank you for the product updates.

One product that I didn't hear an update on was your CFP2 Coherent solution. I would love an update on how that's progressing, timing on entering the market and how you see that product line as shaping out as an opportunity as we move into calendar '16. .

Yes. Well, demand in China, I heard some of our competitors saying they were seeing a slowdown. We haven't seen that. So I'm just assuming we're gaining share. We're shipping a lot of 100G modulators and 100G ITOAs into China. So we're seeing actual growth in China for us as we look forward.

And CFP2 Coherent, we still think that, that's going to be introduced into production early next calendar year. And so again, I think we have the right architecture that'll hit the cost targets that our customers need, because we have a single-chip solution, whereas our competitors are using 2-chip solutions.

I would say that we have to acknowledge that our competitors have sampled earlier than we have. But I have confidence in our ability and what I've seen in our labs to say that we'll be able to meet the needs of our customers when they go to volume with that product. .

Our next question comes from the line of Alex Henderson with Needham. .

Since you just mentioned the Coherent, when you say you'll have production up in the first half of CY '16, are you talking about sampling at that point? And how long do you think it takes from sample to ramp into full volume?.

No. We expect to be sampling in the first half of this fiscal year. And then being into production by the end of the fiscal year. .

So it's 1H FY, not CY. Okay. .

1H, sampling. Yes. .

Right. In terms of the industrial laser piece, can you just go over the pulls and pushes on the quarter that was just reported and how that translates into the September guide? It wasn't fully clear to me what was going on there. .

Yes. Our lasers was $30 million in Q4, of which $6.2 million is fiber laser. So we expect to see growth in both the fiber laser as well as our solid-state and ultrafast. So we should see a few million dollar of growth in our lasers business as we look forward. .

And the margin impact of the production problem in the June quarter, I assume that, that impacted the gross margins.

Can you talk a little about what the gross margin looked like in the 2 quarters?.

I think Viavi had those numbers. But Aaron, do you have the gross margin? I think it was 41% in... .

Gross margin was 41%. So in terms of the impact, Alex, in terms of the fiber laser component issue and the inventory rebalancing, it probably impacted us, it was 20 to 30 basis points in terms of gross margin impact. .

All right. Normally, gross margins are closer to 50% in this business, so that leaves... .

I mean, on a consolidated basis, total Lumentum. So had we had... .

Right.

So what would have been the impact on those 2 relative to the gross margin for fiber lasers? Or for the industrial lasers?.

The impact for lasers alone would have been probably 200 basis points, 200 to 300 basis points. .

Okay.

What accounts for the other 500, 600 basis point swing?.

Well, we've made some significant investing in terms of capacity as well, capacity expansion. As you remember, we were running close to $40 million in terms of total commercial laser. So right now, we're not running nearly at the levels we were expecting, to, from a capacity utilization standpoint. .

Okay.

So how long do you think it takes to get back to the 50% gross margin threshold? Is it going to take 2 or 3 quarters to rebound that business to that type of gross margin?.

It could take a little bit longer than that. It's probably -- it could take 4 to 6 quarters to get back to that level. So right now, we're anticipating getting into the mid-40s and then back into the upper 40s. .

Okay. I see.

And going back to the ROADM side of the business for a second, so where are we in terms of ROADM revenues as a driver of your business? And to what extent do you expect -- can you give us any metrics around what the growth is on the ROADM side of the business? And where do you -- when do you expect that to move to significantly higher numbers based on the metro markets taking off? Is that going to take a period of time to develop in '16? Or will that be in the back half of calendar '16? How should we be thinking about the ramp of that in the metro market?.

Yes. I'd say just in general, the ROADM market has been down and kind of flattish for this entire year, as the transition from fixed-grid to TrueFlex ROADMs is taking off. And last quarter, we saw an 18% growth in our TrueFlex products really as we are into labs and first field trials of that North American metro build-out.

So we could see -- and it's meaningful revenue. I think we could see meaningful upside to ROADM growth in the second half of the fiscal year, but probably a meaningful growth more towards the fourth fiscal quarter than the third. .

Just so I understand the mechanics of that.

So you had a spike in the business in the most recent quarter based on prototyping that -- now that they have the prototypes in hand and they're doing the testing and evaluation, it flattens for a quarter or 2, and then it starts to pick up?.

No. .

Or is it going to have growth on a year-over-year basis in the interim and then hit a steep part of the S curve in the back half? But I'm not sure I follow the lineage there. .

Okay. Sure. Well, no, I'd say that it's more than prototyping. These are units that are qualified at our customers' site, and they are going into field trials with their customers. So our ROADM growth from fourth fiscal quarter of '14 to fourth fiscal quarter of '15 grew in the area of 30% off a pretty low number, sub-$20 million.

So we're expecting to see that continue to grow but really start taking off into the latter part of the fiscal year. .

Is this a business that could get back to its 2011 kind of levels, up in the $50 million a quarter range, say, 6 to 8 quarters out?.

I think it just depends on how fast the metro deployment happens. The ROADM count that I've read from some of your coworkers and analysts say the ROADM count is huge for that one carrier. And if that happens quickly, then we could see revenue levels that were back in the fiscal '11 time frame.

If it drags out for many, many years, we could see an uptick in revenue, but maybe not get to that $50 million or $60 million a quarter. .

Our next question comes from the line of Dave Kang with B. Riley. .

First, regarding your comments about seeing uptick in China, is it because maybe you are levered to China Unicom and Telecom and maybe not China Mobile? Could that be the case?.

It's hard for me to say, Dave. I think we don't have that much visibility when we ship a modulator or a ITOA into any of the NEMs as to where it goes, but we are growing both with the NEMs in China as well as some other non-Chinese NEMs that end up shipping to China. But to be honest with you, I don't know if it's a China Mobile thing or not. .

Got it. Got it.

And then regarding your comments about pricing pressure in 10G, now that's -- just to be clear, that's just Datacom 10G, not Telecom?.

It's Datacom 10G and primarily on the short-reach stuff. .

Got it. Got it.

And going forward, are you going to break out a little bit more in terms of revenue mix, the difference between 10G versus 100G, both Telecom and Datacom, just to give us better sense how you're levered to -- I mean, the 10G versus 100G?.

No, we typically don't -- we typically wouldn't break down margins to that level. .

Well, not margins but the revenue mix.

Can you provide that? The split -- revenue split?.

Yes, Dave, typically, we give details on new products to give you kind of some color on the growth of new products, like the TrueFlex or the fiber laser, things like that.

But we -- then we stay away from the mix quarter-to-quarter, because there are shifts that happen within a quarter that we'll give big picture commentary to, but not the details around some of the older products. .

Got it. Got it. And then I guess, we can assume North American market is doing well.

What about Europe? How is the visibility there?.

It's hit and miss, frankly. I think there is a lot of deal activity, but I wouldn't say that it's robust and growing at this point in time. So I don't know. As you say North America is strong; China, we're not seeing a slowdown; and Europe is kind of better than it has been, but not going gangbusters. .

Got it. Got it. And then lastly, on your commercial lasers, not fiber lasers, but your other lasers.

What's your exposure to semi cap industry, because some of your competitors have blamed semi cap industry as their -- the soft condition right now?.

Yes. We do sell into semiconductor equipment manufacturers for things like scribing and dicing of wafers. And we have seen some slowdown, but we expect that to pick back up this first half of the fiscal year.

In fact, we don't -- when we ship a solid-state laser into one of our customers, we don't typically know if it's going for PCB drilling or wafer scribing application. So it's hard for me to say. .

Got it. Got it. So it sounds like -- just to be clearer, when you say you're commercial laser sales will be up this quarter, sounds like you're counting more on fiber lasers rather than other lasers.

Is that correct?.

I would say we're counting more growth from fiber lasers than the others, but would say that we are expecting the nonfiber lasers to grow as well. .

Got it. And lastly regarding one of your top 10% customers, the Web 2.0 customer, the CFO talked about becoming more disciplined with spending. And yet your Datacom was up nicely, and it sounds like it will be up again this quarter.

What do you see from those guys?.

Well, we're actively engaged with many of the Web 2.0 hyperscale data center guys. And their deployments are going to depend on when they're building new data centers. So it's hard for me to give you more commentary on that.

I don't want to leave you with the impression that Datacom is going to continue to go up, because while our 100G Datacom is going to grow and continue to be robust, I'd say that the pricing pressure on the 10G and below short-reach is going to bring our Datacom down more than our 100G is going to go up.

So I'd say in the short term, don't expect to continue to see the kind of growth we've seen at Datacom in the past. But for the right reasons. 100G is going to continue to grow, but the lower-margin 10G is going to slow down. .

Right.

So just to be clear then, for the current quarter though, fiscal first quarter, are you -- should we expect Datacom to be kind of flat to maybe even down a little bit? And the rest of the growth will be coming from fiber lasers and Telecom? Is that how we should be thinking about the September quarter?.

Yes. Yes. What I said in the script was that we'd see an increase in optical communications, which is both Datacom and Telecom. And I would say that Datacom would be down less than Telecom up. But Datacom, we're expecting Datacom to be down in Q1. .

Our next question comes from the line of Doug Clark with Goldman Sachs. .

Just to follow-up on that Datacom conversation.

With respect to 40 gig as well in that one particular large customer, can you just discuss trends? And are you seeing the same type of pricing pressures on the 10 gig that you are on 40?.

I would say that 40 gig is under pressure as well, but not to the same extent that we're seeing on 10 gig.

And what was the other part of your question?.

That pretty much covers it as well. I was just thinking broadly 40 gig trends outside of the pricing dynamic. .

Yes, I think 40 gig is going to continue to be the primary data speed for those hyperscale data centers until 2016 calendar. When the economics make sense as well as the 25-gig servers are available to make that transition to our QSFP28 100-gig product. So that's what -- 40 gig is going to be around for quite some time.

And I'd say that next year, our QSFP28 100 gig will start deploying in those hyperscale data centers. .

Okay, great. That makes sense. One quick kind of clarification model question. 10% customers, either for the quarter, for the fiscal year, I know we were given in the prior filings.

But wondering if you can give an update on that?.

Aaron?.

Yes. Yes. So we do have 2 10% customers, both in Q4 as well as for the full fiscal year. .

Any additional detail that you can provide on that? Or should we wait for the filings?.

Probably wait for the filings. That's something we typically don't disclose verbally. .

Okay. Not a problem. And then broadly, just on the optical components' gross margins, it certainly snapped back a little bit sequentially.

And in light of the 10 gig pricing pressure and the margin pressure going on there, what was really the driver to that sequential growth?.

So we had optimal mix, favorable mix. Volumes were up a little bit, which also helped us from a utilization standpoint. .

Yes. And just to add to that, the mix is helped when we ship more of our newer products. So when we get big growth in TrueFlex ROADMs or 100G Datacom, we'd see -- those products typically carry above-average gross margins. .

Our next question comes from the line of Amitabh Passi with UBS. .

I guess, my first question was just a clarification. Did you give us any insight in terms of what your laser business will do sequentially? Will it be up $2 million, $3 million, $4 million? It wasn't clear to me how we should be thinking about the growth in sales sequentially. .

Yes. I would say probably in that range that you talked about. And so we would see probably a couple of million dollars of growth in fiber laser and then another -- a little bit of growth from our solid-state or ultrafast lasers. .

Okay. And then I guess, Alan, just on your Datacom business, the last couple years, including fiscal '15, I think that business has grown north of 20%. You've been talking about pricing pressure now in 10 gig, potentially 40 gig.

Given as we look at fiscal '16, do you still anticipate the overall segment still demonstrating growth? Or should we now be looking at the potential for a flattening year-over-year trajectory from fiscal '15 to '16?.

I would expect that we would see continued growth in FY '16 over FY '15. .

Okay. And then just a final one. You mentioned the metro ramp with a large Tier 1 North American operator. I just wanted to get your broader commentary around other metro ramps and maybe even the subsea market, if you could just update us what you're seeing just across metro as well as subsea. .

Yes. Well, we are seeing deployment of the metro at an existing large carrier in North America start back up again last quarter and expect that to continue for some time. And then as far as subsea, we've seen that be very, very strong, and we have a very, very large market share of that business.

And more and more cables are being bid on and being awarded. The question is, when do they get deployed? And sometimes because they're consortiums, it takes a long time between an award and an actual deployment to get all the contracts in place.

And so I would say, we're going to see that continue to be strong through fiscal '16 as more and more of these hyperscale data centers are requiring that information between data centers is shared real-time around the clock. So I think the subsea market is a good market and is on an upward trend through the fiscal year. .

Can you just clarify if you classify that as Telecom and Datacom? And maybe just some rough sense of how big it is?.

It's in our Telecom numbers, and it uses similar products that we use on terrestrial kind of telecom products, but they're tested extraordinarily long and rigorously to make sure that they don't fail at the bottom of the ocean over 20 years. And so it's a good business and very, very high barriers to entry because of the reliability standard.

And we haven't typically given the amount of revenue that, that has, and don't expect to continue to break that out either. .

Our next question comes from the line of Simon Leopold with Raymond James. .

A couple things I wanted to check on first. From the Viavi presentation, we got the Datacom and the lasers numbers. I just want to see if you could give us the quarterly sales for the telco and consumer? I'm sorry if I missed that. .

Aaron, you want to take that?.

Yes. So in terms of the Telecom, Telecom was roughly, let's see, about $120 million, $120.5 million, and commercial or consumer, 3D sensing, was $2.5 million or so. .

Yes. We typically break it out 3D sensing and industrial, and that was $11.3 million. .

Okay. And in the commentary, you talked about sort of the operating margin in the sort of structure that it used to be presented as part of JDSU and then made a reference to an adjustment. And I want to make sure I'm interpreting that commentary about the operating margin, 9.5% to 11.5%, and then the adjustment of 3.5% to 4.5%.

So I'm interpreting that as meaning the operating margin with the allocated expenses in the quarter would have been in the range of 5% to 8%.

Am I doing this correctly?.

Aaron?.

Is that a yes? Sorry, I missed that. .

Yes. So basically, it's a stand-alone operating segment, so the operating margin has historically been between 10% and 11%. So we're going to need to add roughly 3.5% to 4.5% of stand-alone costs, which would include IT, legal, finance, facilities and other types of G&A costs.

And so you would typically just add those costs and subtract it off of the operating margin. So yes, you'd get into the range of 6% to 8% or so. .

Okay, great. That makes sense. And then in terms of kind of this outlook, I assume you've got some perspective of what your operating budget will be as a company. So I think it would be helpful to level-set the folks participating in the call in terms of what you think operating expenses are once everything settles out.

Can you give us an idea of what you expect either on a quarterly or annual basis on OpEx?.

Yes. So right now, if you take this -- the 3.5% to 4.5% that we just articulated, it would give you an OpEx number ranging 24.5% to 25.5% or so of net revenue, and that's a good number on current revs. And as our revenue ticks up, we don't believe we're going to have to add a lot of SG&A as our revenues grow.

And so we're going to be able to leverage that, and you'll see the delta fall to the operating margin level. .

Great. That's very helpful. And then just one last trending question. In regards to your commentary about the competitive pricing environment around 10 gig, I want to get a better sense.

Is that coming from the scale players in the -- that you're competing against? Or is it coming from newer entrants into the market?.

I would say both. I mean, as the 10 gig has become more and more mature, there's suppliers that are willing to sell chips to Chinese assemblers, and that creates new entrants, if you will, and entrants that are willing to take much lower margins.

And so that's why -- at least my view on why the pricing dynamic has changed basically over the last couple quarters on 10G and below. .

And you expect that the 100-gig market in the data center will be much better than average gross margin relative to other data center products?.

Yes. .

Our next question comes from the line of James Kisner with Jefferies. .

This is Jason North for James. A quick question here. There's just some chatter in terms of a slowdown in hyperscale.

Have you seen that at all or how that's reflected in your second half guidance here?.

It's hard to say, because we have been a relatively small player in many of those hyperscale data center guys that we're starting to win business at today. So I don't have a whole lot of visibility on that. I will say that their outlook for longer-term growth is still very robust on the hyperscale data centers, though. .

Okay.

And looking at the December quarter for seasonality then, in particular for just a recognition of some of the new products ramping as well as on the commercial laser side, any thoughts you have?.

I would say that for 3D sensing around holiday buying, that would typically happen in the September quarter to stock shelves in October and November for the holiday season. So I don't expect to see any large uptick in the December quarter as a result of that.

I think the 3D sensing is going to grow when applications make people want to go out and upgrade their PC, because they have facial recognition or retinal recognition or things like that, that make people's lives easier, and with not having to worry about passwords and things like that. So I think that's what's going to drive more adoption.

And then as we start seeing it in phones or tablets, I think that'll also drive longer-term growth in 3D sensing into calendar '16 and '17. As far as lasers are concerned, it's hard to have a lot of visibility out a couple quarters in lasers, and we try to stay away from guiding more than one quarter out. .

Our next question comes from the line of Rod Hall with JPMorgan. .

A couple of questions for me, I guess. I wanted to just check the dissynergies or the separation costs net off of the operating margin.

Just in terms of time, do you expect those to fade over time? Do you think that those go to 0 after a few quarters? I mean, can you help us understand what those look like maybe a year down the road? And then secondly, I just wanted to come back to the lasers, and I guess, industrial lasers in particular.

And we've seen Newport reporting poor laser results, and we've also seen some other manufacturing equipment-type companies reporting poor results.

And so just wondering, are you guys already factoring some macro risk into your lasers numbers? Or do you think that there is some risk out there? I'm just curious what you think is going on out in the sort of manufacturing capacity arena. .

So I can take the first question on separation costs, and then maybe Alan can take the one on the lasers. In terms of separation costs, so the operating margin and OpEx that we've been discussing so far does not include any separation or transitional expenses. We anticipate those to be non-GAAP adjustments.

So we have included just our normal operating expenses on a go-forward basis today. So again, we're going to be in the range of 24.5% to 25.5% in terms of total OpEx at current revenue levels. And then as we go forward, again, we probably don't have to add a lot of G&A costs.

We might have some variable selling costs as we continue to expand and grow geographically, but nothing sizable that should impede us from growing the operating margin line. .

So the 3.5% to 4.5% is what I'm specifically referring to.

That's -- you see that as just temporary and should erode over time?.

I'm sorry. Yes, that -- the 3.5% to 4.5% is really our operating expenses to be a stand-alone company. It has nothing to do with separation or transitional costs. Those are really the costs for... .

Yes, my -- I was just -- my question was more do those costs -- are they higher at the beginning? And do they then over time can -- do you see an opportunity to reduce them? Or do you think they're just sort of static costs that'll be there for the duration?.

It's going to be static costs. It's really the costs we need to be -- to operate as an independent stand-alone company. .

But I think as we grow the top line as a percentage, they become less. But I think that we need to have IT systems and finance group and HR and legal as well as a board and all of the things that go along with being a public company. Those costs don't go away.

And then, Rod, on your question on lasers, we had lasers revenue north of $40 million a quarter. And so the last 2 quarters at $32 million and $30 million have already experienced some downside. And I think one of the other questions around semiconductor slowdown was asked, and I think that's partially what we're seeing.

And so I would expect that as things become more normal, we would certainly be able to see the $40 million number again when all things come back to normal. .

Our next question comes from the line of Joseph Wolf with Barclays. .

My question, I guess, is a little bit broader.

If you look at the overall 1- to 5-year data on capital spending, it looks like the -- I guess, firstly, would you agree that the hyperscale data centers will be larger than traditional telecom? And then could you just give us a sense now that you're independent -- or maybe it hasn't changed -- about how you think about the investment in the business as you think about those trends, and whether you'll be investing in new product or Datacom specifically? Or whether you're taking an approach that you've got a product that kind of stands and can be adjusted for the different opportunity?.

Chris, you want to take the hyperscale versus Telecom market sizes?.

Yes. So I mean, I think it's, one, how you define what's in the Telecom market. Today, the Telecom market is considerably larger than the Datacom market. But given the growth rates that we're looking at in the Datacom market, it will be comparable and eventually surpass Telecom, is our view, for sure. .

And then as far as... .

The 5-year... .

Go ahead. .

Probably the 5-year time frame is yes. .

And Joe, so can you restate your second question about investments?.

I'm just curious how you think about R&D investment given that transition. I think you can take the approach of building products specifically for the data center guys, or you can take a broader approach and see how the product fits into a cross-section of customers.

And I'm wondering how much investment you'll make specifically for the hyperscale customer or how much you're doing now?.

Well, I would say that it's growing faster than our R&D on other areas, just because, as you say, the hyperscale opportunity is large. The challenge in the hyperscale is that each of the customers typically have a different requirement based on the kind of traffic patterns they have.

And so doing a custom product for one of them is sort of required, because they have such unique future requirements in their data centers. And they're looking at ways of making sure they have the right product for their requirements as opposed to just taking -- what they typically do today is a 40-gig QSFP+ and plug it and it works.

So as they've looked at architecting their infrastructure, they've come up with some unique requirements that make us have to spend more R&D dollars to meet the requirements of each of the hyperscale data center guys.

And so I would say that as we go forward, our R&D growth in the Datacom side of the business is probably going to outpace the growth elsewhere. .

Just as a follow-up, does that provide you -- or is that an inkling of where your M&A may be directed if you think about some start-ups that are out there, grabbing some market share by focusing specifically on a one-customer kind of solution?.

Chris, you want to take that one?.

Yes. I mean, number one, obviously don't want to reveal our secret strategies there, but in the bigger picture obviously, there are more opportunities, and there's a richer space with a lot of different technologies that are being brought to bear for Datacom.

In the Telecom space, there's a fewer number of players that are with leading-edge technology, and we have a more significant market share in Telecom. So that would lead one to believe that it's more logical for us to look at Datacom M&A. But with that said, if there's a good deal to be done in the Telecom space, we're certainly going to jump on it. .

Our next question comes from the line of Mark Sue with RBC Capital Markets. .

Gentlemen, if you're seeing pricing pressure in 10 gig similar to what we saw in the past with 1 gig, and the investor worry is that pricing will eventually hit 40 gig and subsequently 100 gig. So perhaps your thoughts of defecting pricing pressure for future technologies.

And is there some thought also for portfolio pruning? I understand there's some absorption issue, and there's also a reduction in cost of goods.

But how do you move it throughout the value chain? Is there an activity plan for that?.

Yes. I mean, I think as we saw on the transition on 1 gig, we're seeing it on 10 gig, there's no reason to believe that eventually it won't come full force on 40 gig. I think on 100 gig, it's a little different, because there are only a few businesses in the world that can make indium phosphide lasers for 100 gig.

And so I think that, that'll be healthy for quite some time, assuming we meet the cost objectives that our customers need when they need it. So we're already working on 400 gig. So we just need to continue to invest in R&D and stay out in front of the game.

And as these pricing pressures hit certain products, we let them go and focus more of our efforts on the next generation of products.

Did that answer your question, Mark?.

As you're doing that, gentlemen, there's -- some of the hyperscale customers, such as Google, are investing in their own optical companies as well.

So I'm just trying to get a sense of is -- do you believe that, that's an isolated case? Or do you feel some of your customers are incentivized to reduce their costs? So is this something that might continue or actually increase?.

Well, I mean, pricing pressures happen all the time in our business. This was out of the norm for what we typically see, and so we made a point of mentioning it. Our focus is on continuing to drive efficient operations to drive costs out of our products, so that we can have the kind of margins we need to reinvest in R&D.

So I think everybody is looking at different options and different ways of driving cost out of their infrastructure. And as you said, if that means that they're going to invest in Chinese-based companies to help them drive the cost down, then they're going to do that.

I think our focus is on providing them with the next generation of products that nobody else can make. So that's what we're trying to do. .

Lastly, just on a big picture point of view, if we look at it from an annual point of view, any thoughts of how we should consider the range of industry price declines on an annual basis?.

Yes. As you may have heard in the Viavi call, our price reduction in Q4 was 3.1%, and I think that's pretty typical of what we expect to get into the 10% to 15% annual price reductions. And we don't see that changing now or into the future. .

Your next question comes from the line of Jorge Rivas with Craig-Hallum Capital. .

Just a couple of quick questions from me. One, it's a housekeeping questions.

For the WaveReady revenues, in which segment are those being allocated now?.

So WaveReady revenue would be in optical components, primarily in Telecom. .

Right, but would -- Telecom?.

Telecom, Telecom. Yes, Telecom and optical components. .

Okay.

And then also, on your CFP2 Coherent, I was wondering if you can comment on the number of DSP vendors that you are doing work with?.

Well, I think we have several DSPs in our labs today. I think we're trying to provide a CFP2 Coherent module that works with whatever DSP our customers are choosing to use, including their vertically integrated in-house designs.

And so we have to work with all of them, and our customers will be testing them very thoroughly with their unique DSPs and code around those DSPs. .

Okay.

And when would you expect those -- that testing to be finalized?.

At our customers or internally? Or... .

Yes. .

Well, I think as I said before, I expect to see deployment of CFP2 Coherent in the first half of calendar '16. And so really does need to be happening between now and the first quarter, and I think we're starting to see that now. .

And our last question comes from the line of James Faucette with Morgan Stanley. .

Most of my questions have been answered. I just wanted to dig in once again on the data center market. And you made the comment that you're starting to see a little bit of pricing pressure on 40G, but you thought that, that would have a long runway. Whereas 100G would start to ramp really in 2016.

Just wondering for your thought in planning purposes, how you're thinking about the time frame in which you think that 100G-related revenues could surpass those of 40G? Is that something that could happen in 2016? Or do you think the relative ramps will allow 40G to be larger for longer than that?.

Sure, James. I think 100G could surpass, at least for us, our 40G revenue in 2016. We're already having to make purchases of capital equipment for the testing of very large programs of 100G QSFP28. So I would expect that we would see a transition of higher revenue for 100G over our 40G in 2016 calendar.

That may not be representative of the market overall, but I would say it's more representative of our revenue, because of where we're investing and where, I'd say, we have a leadership position in CFP4 and a couple of different variants of our QSFP28.

Did that answer your question, James?.

Yes, it did. .

That concludes today's question-and-answer session. I'd like to turn the call back to Chris Coldren for closing remarks. .

Okay. Thank you, operator. This concludes our earnings call for today. Thank you very much for joining us. .

Ladies and gentlemen, thank you for your participation in today's conference. This concludes the program, and you may now disconnect. Everyone, have a great day..