Good day, everyone and welcome to the Lumentum Fourth Quarter and Fiscal Year 2019 Financial Results Conference Call. As a reminder, today’s call is being recorded for replay purposes through August 15, 2019. I would now like to turn the conference over to Mr. Jim Fanucchi of Darrow Associates. Mr. Fanucchi, please go ahead..

Thank you, operator, and welcome to Lumentum’s fourth quarter and fiscal year 2019 earnings call. This is Jim Fanucchi from Darrow Associates, assisting Lumentum with its Investor Relations.

Joining the call today from the company’s management team, we have Alan Lowe, President and Chief Executive Officer; Wajid Ali, Chief Financial Officer; and Chris Coldren, Senior Vice President of Business Development.

This call will include forward-looking statements, including statements regarding the markets in which we participate, including potential market sizes, trends and expectations for products and technology, including product development and projected new product releases, purchasing trends and demand for our products, our expected financial performance, expenses and positions in the market as well as statements regarding the recent acquisition of Oclaro.

These statements are subject to risks and uncertainties that could cause actual results to differ materially from our current expectations.

Lumentum encourages you to review our most recent filings with the SEC, particularly, the risk factors described in our filings with the Securities and Exchange Commission, including the company’s Quarterly Report on Form 10-Q for the fiscal year ended March 30, 2019, filed with the SEC on May 7, 2019, and in Lumentum’s 10-K for the fiscal year 2019, that ended June 2019, which the company expects to file within 60 days of the fiscal year end.

Then forward-looking statements provided during this call are based on Lumentum’s reasonable beliefs 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 results and projections discussed on this call are non-GAAP.

non-GAAP financials should not be considered as a substitute for or superior to financials prepared in accordance with GAAP.

Lumentum’s press release with fourth quarter and full-year fiscal 2019 results is available on its website at www.lumentum.com under the Investors section and includes additional details about our non-GAAP financial measures and a reconciliation between our historical GAAP and non-GAAP results.

Lumentum’s website also has its latest SEC filings and supplementary slides relating to today’s earnings release and the company encourages you to review these. A recording of today’s call will be available by 11:30 A.M. Pacific Time today on our website.

Now, I will turn the call over to Alan for his comments on fourth quarter market and product highlights..

Thank you, Jim, good morning everyone. Before my comments on our business, I would start with the sad news we communicated in the press release yesterday. We recently learned that our Board Chairman, Marty Kaplan passed away. Marty in his role as Chairman, was a trusted and wise advisor, but he was much more than that.

He was a friend, a truly amazing human being, who will be greatly missed. On behalf of Lumentum, we send the Kaplan family our most heartfelt condolences and sympathies. I will now move onto my comments on the business end-markets.

The fourth quarter was eventful disabled least, but it capped off at fiscal year, during which we made significant progress towards our long-term strategic and financial goals. During the past year, we believe we have added to or extended our market and technology leadership positions in telecom and 3D sensing.

We introduced many highly differentiated new products and one new design win with market leading customers in all of our markets. In our commercial lasers business, unique new products enabled us to grow revenue to new record levels in a down market. The Oclaro acquisition has given us a first mover advantage in a transforming industry.

First, we attend a leading position in telecom transmission based on fundamental indium phosphide photonic integrated circuit technology. We believe this technology will be critical to our customers’ ability to scale to higher network bandwidth in the future, including 800 gigabits per second and eventually higher speeds.

Second, we re-vectored our datacom business to a significantly more profitable model that is based on a highly differentiated photonic chip capability. We expanded our datacom market focus to include 5G wireless and other high volume applications.

And finally, we improved our business model by achieving cost synergies on a more accelerated timeline than originally estimated and are now increasing our annual synergy target to $100 million from our initial $60 million target, which we have exceeded. These additional savings will be attained over the next five quarters.

Over the past year, we’ve seen a trend towards further industry consolidation. Several other M&A deals in our space have been announced today. There are perhaps more to come as market participants recognize the need for scale. Fiscal 2019 revenue was that a new high exceeding $1.5 billion and was up 25% relative to the prior year.

For the first time, full-year operating margin expanded to more than 20%. I believe these results and accomplishments, both underscore the significant progress we’ve made toward our strategic goals during fiscal 2019 and position us well for revenue growth and margin expansion in fiscal 2020 and beyond.

I’m proud to lead the best team in the industry and one that customers continually to turn to first for the photonics technologies they need to win. Before turning to more details on our results, I’d like to provide an update on our business with Huawei.

On May 20, we indicated we had stopped shipping to Huawei in response to their addition to the entity list and to become compliant with U.S. Department of Commerce for requirements.

Subsequently, we completed a detailed analysis of the products we supply to Huawei and determined that certain products were not subject to export administration regulations. We resumed shipments of these products late in the quarter after putting in place new business processes to ensure compliance with government requirements on an ongoing basis.

We intend to fully comply with U.S. Department of Commerce requirements. Sales to Huawei were down 25% sequentially in the fourth quarter as a result of these actions.

Looking to the first quarter, we expect sales to Huawei to be flat to down sequentially, as you can imagine the very dynamic nature of the current geopolitical situation as to the challenges of projecting future Huawei revenues. Now for details on the fourth quarter and full fiscal year performance. Telecom revenue was up 65% in fiscal 2019.

within telecom, transport revenue increased by nearly 50%. In the fourth quarter, telecom revenue declined 6% sequentially due to lower shipments to Huawei, partially offsetting the Huawei decline was growth in other customers. Despite the geopolitical disruption during the fourth quarter, we again, achieved record ROADM revenue.

We were able to partially offset lost Huawei ROADM revenue in the quarter through sales to other customers after we redirected manufacturing capacity to them late in the quarter. Fourth quarter revenue from coherent transmission modules with up 10% sequentially with sales at both ACO and DCO products growing.

Looking to the first quarter, we expect telecom revenue will be flat to up sequentially. Telecom customer demand outside of Huawei is strong. However, this demand is for different mix of products than Huawei purchases from us, and for which our supply chain had been driving material.

Challenges in obtaining supply a long lead time materials is currently the limitation. Additionally, impacting telecom is an expected temporary dip in our submarine business, which has historically been a lumpy project-based business.

Looking further out, based on expected continued strong growth and global network bandwidth and data center traffic, the needed optical infrastructure for 5G wireless, we believe the telecom market should be strong on a multi-year basis.

We believe the strength we have seen in telecom transport over the past year is a leading indicator of future strength and demand for transmission products. We are well positioned to capitalize on these market trends with our industry’s leading telecom transmission and transport products and deep customer relationships.

We benefit from global bandwidth expansion regardless of who builds or supplies the networks. Our next generation products including MxN in high port count twin ROADM.

DCO modules including ZR and longer reach and high baud rates indium phosphide components, including those for 800 gigabits per second are critical to our customers – our global customer base. Turning to datacom. Early in the fourth quarter, we closed the previously announced divestiture, our Japan-based datacom transceiver business.

This was a key milestone in our strategic pivot to focus exclusively on photonic chip sales in the datacom market and exit the challenged datacom transceiver business. Since the announcement of this transaction, we have seen strong engagement from customers for datacom photonic chips, including in 5G wireless applications.

This drove fourth quarter datacom chip sales up 11% sequentially to new record levels. In many cases, new customer interest is from leading competitors, who previously would not purchase from us due to the competitive nature of the transceiver us competing in the transceiver business.

As a reminder, we are discontinuing all remaining datacom transceivers and certain low margin telecom product lines. Revenue from these product lines totaled $31 million in the fourth quarter and should decline to zero over the next few quarters. Turning to our industrial and consumer product lines, which includes 3D sensing.

Fourth quarter revenue was up 13%. This growth was larger than our prior guidance for both industrial diodes and 3D sensing lasers. In the case of 3D sensing, in the fourth quarter, we started ramping deliveries to customers – to sport customers’ product cycles, we expected to start this fall.

We expect the unit growth to exceed price declines as 3D sensing is expected to be incorporated in a higher percentage of end customer models and supply chain inventory levels appear to be more normalized when compared to last year.

Taking into account, the accelerated four quarter shipments and expectations around global smartphone volumes and our market share, we expect 3D sensing revenue in the first half of fiscal 2020 be slightly up from the first half of fiscal 2019.

We continue to make good progress on 3D sensing customers worldwide, including in world-facing applications. Favorable consumer and media reviews for initial world-facing enabled smartphones has caused customers’ product roadmaps to more broadly incorporate 3D sensing, 3D depth sensing for photography and augmented and virtual reality applications.

based on customer activity, we expect the major smartphone manufacturers to introduce products with new world-facing capabilities in calendar 2020. this combined with increased customer demand for smartphones driven by future 5g availability, should drive a significant increase in 3D sensing market in calendar 2020 and 2021.

We are very well positioned for this growth up – growing opportunities. Customers around the world know they can count our proven and unrivaled reliability and volume capability.

We have shipped hundreds of millions of devices with unmatched performance, quality and reliability and expect to exceed 0.5 billion cumulative devices shipped by the end of our first quarter. This experience is a valuable advantage and is difficult for our competitors to replicate.

Turning to commercial lasers, as highlighted earlier, new products enabled us to grow fiscal 2019 laser revenue to new record levels in a down market. This growth was driven by nearly 100% increase in fiber laser sales relative to the prior year. In the fourth quarter, our commercial laser segment revenue was down 13% quarter-on-quarter as expected.

Our commercial lasers business is important to our long-term strategy. It provides us a significant addressable market to grow into while leveraging our core set of optical technologies and manufacturing capabilities. Further, it provides us a level of customer and end-market diversification.

Looking to the first quarter, we expect laser revenue to soften further as we entered the seasonally weaker fall time period. However, based on customer requests for quote activity, we believe the commercial lasers market will return to growth in the new calendar year.

over the long run, because of our investments in unique new products and technologies, we believe we have good opportunity for growth driven by new product introductions in addition to market growth.

Throughout my remarks, I’ve highlighted the significant progress we have made toward our strategic and financial goals during fiscal 2019, and how we have positioned ourselves well for fiscal 2020 and beyond.

This combined with the growth catalyst we see in each of our major product lines makes it a very exciting time at Lumentum for all stakeholders. At Lumentum, we are releasing the power of light to create a brighter future. With that said, I will now turn the call over to Wajid..

Thank you, Alan. Good morning, everyone. Before jumping into our fourth quarter results and our guidance for the fiscal first quarter of 2020, I’d like to run down our full-year fiscal 2019 results. Net revenue for fiscal 2019 was $1.57 billion, up 25% compared with fiscal 2018.

fiscal 2019 Optical Communications segment revenue was up 29%, driven by strong market demand for telecom products and the Oclaro acquisition. Our laser segment revenue was up 4% compared to the prior year, driven by strong fiber laser sales. for the full year, GAAP gross margin was 27.2%.

GAAP operating margin was negative 1.4% and GAAP diluted net loss per share was $0.54. These GAAP results include the impact of restructuring, write-downs, amortization of intangibles, and other charges related to the acquisition and our actions to attain acquisition synergies.

full year fiscal 2019 non-GAAP gross margin expanded 60 basis points to 39.5% driven by higher levels of higher margin products in our revenue mix as well as overall increased leverage over our fixed manufacturing costs.

Non-GAAP operating margin expanded 80 basis points to 20.5% for the full year and non-GAAP net income increased more than 23% relative to the prior year, resulting in non-GAAP diluted net income per share of $4.25. We ended the year with cash and short-term investments of $769 million, an increase of $71 million relative to the prior quarter.

Now turning to the fourth quarter. net revenue for the fourth quarter was $404.6 million, which was down 7% sequentially due to lower sales to Huawei and the expected decline in lasers. GAAP gross margin for the fourth quarter was 21.5%. GAAP operating margin was negative 3.4% and GAAP diluted net loss per share was $0.34.

again, GAAP results include the impact of restructuring, write-downs, amortization of intangibles and other charges related to the acquisition and our actions to attain acquisition synergies. Fourth quarter non-GAAP gross margin was 38.9%, which was approximately flat sequentially on lower revenue levels.

Non-GAAP operating margin for the third quarter was 19%. non-GAAP operating expenses totaled $80.7 million or 19.9% of revenue. R&D expense was $46.4 million. SG&A expense was $34.3 million.

I think it is important to highlight here that synergies achieved to-date through the fourth quarter helped drive a sequential 120 basis points expansion in operating margin despite a 7% sequential decline in revenue.

Non-GAAP net income was $70.8 million for the fourth quarter and includes $2.4 million of net interest expense and tax expense of $3.5 million. Non-GAAP diluted net income per share was $0.92 based on a fully diluted share count of $77.1 million. Now turning to segment and product line details.

optical communications segment revenue was $356.8 million, which declined 6% sequentially. within our Optical Communications segment, telecom revenue at $227.7 million was down 6% sequentially due to lower Huawei sales. Datacom revenue at $41.5 million was down 28% sequentially driven by the transceiver product line divestiture.

industrial and consumer revenue at $87.6 million was up 13% sequentially due to higher industrial diode and 3D sensing revenues. optical Communications segment gross margin at 38.3%, increased 30 basis points sequentially on lower revenue due to the divestiture of lower margin datacom product lines and higher industrial and consumer in the mix.

Our laser segment revenue at $47.8 million decreased 13% sequentially. Fourth quarter laser’s gross margin was 43.5%, a decrease of 250 basis points due to lower revenue.

From the close of the Oclaro transaction, through the end of the fourth quarter, we have taken actions that when annualized achieved more than $60 million in synergies, which is the target we put forward when we announced the transaction.

We achieved these synergy levels earlier than we estimated when we announced the transaction by strong execution after the close of the transaction. We are not yet done on the synergy front however. We now estimate that synergies will be approximately $100 million in total for $40 million higher than our original target.

Additional synergies will primarily benefit cost of goods sold as further operating expense synergies are likely to be reinvested in new capabilities and R&D programs to fuel growth and extend our market leadership positions.

We expect to complete the additional synergy actions over the next five quarters, although the bulk of these positive financial impacts will be realized towards the tail end of this timeline. We continue to target the financial model announced at the time of the transaction.

We believe these additional COGS synergies to drive average gross margins to the upper half of the 40% to 45% gross margin range of the target model. Now, onto our guidance for the first fiscal quarter of fiscal 2020. The projections we are providing today are on a non-GAAP basis and are based on our assumptions as of today.

We project net revenue for the first quarter to be in the range of $435 million to $455 million. This revenue projection includes telecom being approximately flat to slightly up datacom declining as we continue to wind down transceiver sales.

commercial lasers decreasing approximately 20% driven by the factors Alan mentioned earlier, and industrial and consumer increasing as we enter the seasonally strong time period for 3D sensing. We project first quarter operating margin to be in the range of 22.5% to 24.5% and diluted net income per share to be in the range of $1.12 to $1.26.

these projections incorporate an approximate share count of $78 million. With that, I’ll turn the call back to Jim to start the Q&A session.

Jim?.

Thank you, Wajid. I’ll turn the call over to the operator to start the Q&A session. I would like to ask everyone to keep to one question and one follow-up. This should help us get to everyone before the end of our one-hour timeframe. Operator, let’s begin the question-and-answer session..

[Operator Instructions] First question comes from the line of Alex Henderson of Needham..

Hey, first, a clarification, you said that 3D sensing would be up slightly from the first half of 2019, but I’m not sure whether you meant the first half of 2019 fiscal year or first half of 2019 calendar year.

Could you clarify that please?.

Yes. We were talking the first half of fiscal year compared to the first half of fiscal year..

great. That’s what I thought..

In the next six months, we expect to be, but to slightly up from the first six months in fiscal 2019..

Perfect. Second question, if I could, the Huawei stuff obviously is top of mind.

have you asked the government for any exclusions, relative to Huawei and it has the 3D sensing piece been included in the band so far or is that something that might be allowed to ship in at some point?.

Yes. I think, as I said, we really developed a new process to make sure we comply with regulations. the majority of our products are not subject to EAR, and across the board with respect to – with respect to being allowed to ship.

So, I don’t want to comment on specific products, but I would say that the vast majority of our products are not subject to EAR..

Okay. And if I could ask one more question, how long do you think the supply constraints, on telecom will be evidenced.

and is that a matter of just simply shifting the type of product that you’re producing as a result of any shifts in production? Or is that something that you think of last well into the back half of the year and then maybe even into next year? Can you give us any timeline on that? Thanks..

Yes. I’d certainly expect that to be able to solve the supply constraint over the next several months. it is impacting this quarter and into a bit of Q2. but we’ve got a whole focus on making sure that the gaining material items and suppliers are being coached to help us.

And I’m sure we’ll make progress, but it is impacting this quarter and in the beginning of next quarter..

Superb. Thank you very much..

Thanks, Alex..

[Operator Instructions] Your next question comes from the line of Samik Chatterjee of JPMorgan..

Hi, this is Joe Cardoso on for Samik. my first question is related to the 3D sensing guidance. You guys kind of seem more bullish in terms of 3D sensing ramping into this, well your fiscal first half.

Can you just provide us an update of whether you’re seeing that coming from your largest customer or whether that’s more optimism around adoption from the Android camp?.

Yes. We’re not going to talk specifically about customers, but I’d say that we’ve been working on new product design wins across the board, both with our largest customer as well as Android. And I’d say that we’re – based on where we are today, we expect a good first half of the fiscal year.

That said, I’d say that we weren’t expecting as much growth as we saw in the fourth quarter. And we think that that is a bit of a result of earlier ramp of new products for the fall. but we still believe that the inventory levels are in a better situation than they were a year ago.

So that gave us confidence that first half of the fiscal year is in pretty good shape..

Got it.

And then relative to your gross – your long-term target of being in the upper range of your gross margin targets, is that sort of clarification – is that largely coming from the synergies or is that kind of coming from the mix of business that you guys are seeing?.

Yes. Hi, it’s Wajid here. It’s a little bit of both. We’re seeing favorable product mix across our product lines and we’re expecting that to continue over the next number of quarters.

But in addition to that, it’s the $40 million of annualized synergies that we expect to flow through in the tail end of that five-quarter period that’ll really help us and give us confidence in moving up the range of 40% to 45%..

And just a clarification on the synergies, where exactly are you guys seeing the upside to the synergy targets?.

Well, I think across the board, I think, we’ve made some decisions more rapidly and executed more rapidly than we had originally advertised. And that’s why we’re able to get the full $60 million done already. I’d say, looking forward, we still have some product rationalization to take place.

as well as in my prepared remarks, I talked about some of the lower margin telecom products, exiting over the next several quarters and that along – that kind of drags along a bunch of fixed costs in fabs that are going to go away during that time period.

So, I think it’s a combination of, really focused on how do we streamline our manufacturing processes, how do we combine our ERP system, which is not done and will be done later this fiscal year. So, it’s a combination of those things that give us confidence that there’s another $40 million to go..

Yes. Just to add to that, I mean, we’ve got just like with the first $60 million, we had clearly defined actions with timelines and a bottoms up. It’s the same with the next $40 million.

We’ve got a bottoms up with clearly defined timelines and actions that we’re following, which is why Alan mentioned earlier, we’ve got a lot of confidence around achieving it..

Your next question comes from the line of John Marchetti of Stifel..

Thanks very much. I just wanted to get back to your comments about an expected sort of mixed shift here in the telco world as you continue to move at least over the short-term away from some of the Huawei mix.

Should we think of ROADM sales, maybe moderating some of that growth as we’re looking at certainly the first half of this fiscal year, but maybe on a full-year basis as well?.

Well, I think our expectation given where we are today is that ROADMs, regardless of our guide and our expectations with Huawei continue to grow. So, we’re expecting ROADM growth in the first quarter and continued ROADM growth as we introduced new products and new design wins across our customer base globally.

So, I think our expectation and we still are adding capacity, especially for the new leading edge MxN products as well as the very high port count, which has brought adoption across our customer base. So, we’re expecting that another good year for ROADM..

And then maybe just to follow up to Alan on the comments that you made around submarine, that being a little bit lumpy for you at least in the first half of this fiscal year.

is that a change in customer behavior there? is it a sign that you’re starting to see customers either move away from new builds into upgrades or vice versa? Just curious what you’re seeing in that submarine market as it’s been relatively strong for the industry here for quite some bit..

Yes. I think it’s a combination of a couple of things. One of which is it is lumpy, it’s project based. If you recall, we made most of our submarine products at our contract manufacturer in China. We ramped up production in order to make the transition to our own Thailand facility and that is coming up in Thailand.

So, I’d say it’s a combination of two things. One is project based in lumpy. We had a really strong quarter in fiscal Q4 on submarine and I think a part of that is result of us winding down production in one location and moving it to bring up in a new location and that takes some time.

So, I think there probably was some inventory taken in Q4 that is going to be consumed over the next several months and quarters. And then bringing up the new facility on submarine, takes time, and so we’re on track with the bring up. but I’d say that this quarter is just going to be a low quarter for submarine did those factors..

your next question comes from the line of Meta Marshall of Morgan Stanley..

Hi, this is Eric on for Meta. Thanks for taking our question.

Maybe, just first on the lasers business, what is the timeline for adoption of the product outside of the model now that there’s a bit more capacity, could you see revenue in second half of fiscal 2020?.

Yes. I mean we are winding down the completion of the development of specific products for other customers and have shipped samples. So, I wouldn’t expect any meaningful revenue in the first half, but expect it to contribute in the second half of the fiscal year..

That’s helpful. Thanks.

And then on the datacom chip sales, could you maybe give us a sense on just the size that you would hope to achieve in that business over the next 12 months?.

I think it’s today, quite frankly, we are constrained by our ability to produce more wafers and more chips. We have demand that is not being satisfied and we’re making investments to handle that demand.

I think with what’s going on fundamentally in data centers and hyperscale build outs in 5g, the demand for unit volume is growing rapidly and we expect to really be able to know over the longer-term double that business. And I don’t see any reason that we can’t do that..

Thank you.

And then just finally on Huawei, if a weaver were to be granted for kind of those outstanding products that aren’t shipping, is that something that you would start filling products immediately or is there a bit of a lag in timeline to start resuming shipments?.

Yes. there would be a – probably a bit of a lag only in that, if we’re unable to ship a product today, we’re not going to be building a product continually. We do have some inventory. So that we respond, but we do typically, have manufacturing times that can be up to a quarter end and links and therefore there’s some delay..

Your next question comes from the line of Tejas Venkatesh of UBS..

Thank you.

What sort of ASP declines do you expect in VCSELs for fiscal 2020 versus 2019?.

Yes. We’re not going to get into specifics on that.

I think what I will answer is that we expect with world’s facing coming on board in a meaningful way in calendar 2020 and with the new set of chips that we believe will be introduced in calendar 2020, we will have an ASP reset, our content per device will increase in calendar 2020, we believe in a meaningful way.

I think our expectations in what we tried to say in the prepared remarks was that unit growth would be higher than ASP reduction, therefore driving growth in our first half of fiscal 2020.

but I think calendar 2020 is going to be a very solid year for us in 3D sensing, because more content per phone and new devices that would go into – handset or mobile device..

Thank you. And as a follow-up, I wanted to revisit ROADMs. What was ROADM revenue in 4Q, I believe you had $130 million per quarter of capacity. So, it sounds like you’re still adding capacity. So, just an update on that would be would be great. Thank you..

Yes. Hey, Tejas. We’re not disclosing revenue by product line, I think you can imagine that triple digit number and we grew quarter-over-quarter, did not grow as much as we had originally anticipated prior to May. but as we redirect our manufacturing capacity, we expect to grow more strongly in ROADM going from Q2..

Your next question comes from the line of Troy Jensen of Piper..

Hey, thanks. And now, congrats on really nice results here..

Thanks, Troy..

Yes. Alan, maybe for you, I’d love to get your thoughts on the Acacia-Cisco deal. I mean, clearly Cisco is a big ACO customer for even Oclaro with the intention I’m sure to get to the DCOs and just thoughts on what this means longer-term with that customer.

and then also where you guys want to be bitters in the acacia transaction?.

Well, we’re certainly not going to comment on the second part of your question..

Had a chat..

Yes. but our perspective on the deal is, it’s a good deal for everyone involved. I mean, Cisco has been a long time partner and customer of ours in a solid, really strategic customer of ours. Acacia has been a supplier to us, a customer to us and a competitor to us.

I think the transaction, has a couple of dynamics, one of which is the customers are going to want a second source and we’ve seen activity increase with respect to DCOs, since in the announcement, from Lumentum. And I think that Cisco is going to continue to be both a transport and transmission customer of ours into the future.

So, all of that said, I think it’s a very positive outcome for the industry and a positive outcome for Lumentum, because I expect fully to be continuing to be a supplier to Cisco and to Acacia. And we believe that the dynamic will be a catalyst for growth for us on DCOs and ZRs in the future..

Okay. And maybe just a question on OpEx, I understand there’s more synergies.

but maybe, just specifically looking at the September numbers here, is OpEx on an absolute dollar basis going to be declining sequentially, already get to this range or is it just going to be a bigger spike in gross margins?.

Yes. Hi, it’s Wajid here. We’ll probably see OpEx stay in within the range of fiscal Q4, plus or minus a couple of million dollars. you’ll really see the synergy start flowing through, like we said on our prepared remarks, within the gross margins, but more in the latter part of the five quarter timeline that, that we provided.

this upcoming quarter gross margins obviously will be higher, because we’ve got a stronger mix of 3D sensing. but outside of that, the synergies that we talked about that are in addition to the $60 million we already achieved, will be primarily in our cost of goods sold line.

So, OpEx will stay relatively flat plus or minus based on the investment levels we make and the timing of those investment levels..

Your next question comes from the line of Rod Hall of Goldman Sachs..

Yes. Hi guys. Thanks for the question. I wanted to ask about the ROADM demand situation. So, I know that you had said previously that in the September quarter, you expected to serve a bunch of backlog that you had in terms of orders.

And so I’m assuming that that’s being done and I wondered beyond the September quarter is now that the backlog is cleared or maybe, you can clarify whether it will be what the demand situation looks like.

I think Alan, you had alluded to some growth there, but I just wanted to clarify what that ROADM demand looks like on an organic basis as we get into the December quarter and beyond..

Yes. So, demand for ROADMs across all of our customer base is very strong. We are not satisfying the overall demand in the September quarter. And we’ll see how it goes in the December quarter as we add more capacity. But I’d say that the capacity is not interchangeable in every case.

And that like our MxN is a unique capacity, that’s not shared with other product lines. And then the mix between modules or blades changes dynamically through the quarters.

So that’s why it gives us confidence that the September quarter ROADM will grow, I wouldn’t have every expectation that the December quarter ROADMs will grow as well, assuming we have the right capacity for the mix that that comes through.

And we are seeing a shift to a continual higher court count when one by – 2x35 and MxN as well as blades associated with this newer technology. So, we’re going to continue to grow our ROADM capacity in our ROADM revenue..

So, Alan, just to clarify that, are you thinking there’s a good chance that in December and beyond, the ROADM supply will still be short of demand? Or you think that by the time we get into December supply should at least equal demand, assuming you’ve been able to reconfigure production the way that you need to?.

Well, I think, again, it’s going to be based on the mix we get and as we continue to be working with our customers across the globe our new designs for the high capacity and contentionless and directionless ROADMs, we believe that those will continue to be constrained for some period of time until we bring on additional big capacity.

So, we’re trying to tighten the capacity to get some flexibility, but we continue to see more demand than our customers are forecasting in the longer-term, and it takes a while to add the capacity. We are bringing on more capacity, but again, we’re having to anticipate that mix.

But today, I’d say, we don’t have any excess capacity in any of our product lines on ROADMs. So, we’re feverishly trying to get more out of the existing capacity drive yields, drive productivity and drive output without having to add a bunch of capacity..

Okay. And then on the second kind of major question we had was on lasers gross margins, those were down quarter-over-quarter, and I know you guys are targeting 50%.

Could you just comment on that margin trajectory and what you’re thinking now in terms of how that progresses toward that 50% goal?.

Yes. I mean, I think the drop we saw in the June quarter was really volume based and revenue based. there are some fixed costs that don’t get absorbed with lower volume. I think, as we expect in calendar 2020, the volume will pick back up.

And as we introduce new products from new fiber lasers to new ultra fast lasers, we expect that we will go closer to the higher 40% margins and it could get to 50% margin in calendar 2020 assuming the mix is right, and that the economy allows us to really grow that business.

That said, I’d say, the lasers – editors of ours are hitting some pretty heavy headwinds. And so I think we bought the trend, as we said, by growing our lasers business in a pretty tough environment, but we expect that calendar 2020 will be a different story..

Even amplify that over the past year that a lot of the growth in lasers – fiber lasers, which historically for us, we’re below our lasers, average margin getting in there, over the past year become a substantial portion of it up the lasers mix and gross margins have had increased, up until now with revenue coming down. It’s compressing margins.

So, I think that the point I’m trying to emphasize is that the non-fiber laser portion has had a pretty brutal year, but it’s a higher margin than average. So, as Alan alluded to calendar 2020, we believe non-fiber laser portion will begin the readout, and that will have a very positive influence on the mix in their gross margin..

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

Thank you for taking my question. This is Mauricio for Simon. A quick housekeeping item.

Can you please give us a number of 10% customers this quarter and the present contributions please?.

We had three 10%, customers. I don’t think we’re releasing that in our press release today..

Yes. We’ll have the 10% customers detail that out in our K later this month..

Okay. Thank you. And then I wanted to go the Huawei question, back in May, do you guys reduce your June guidance by close to a $33 million at the midpoint following the U.S. addition of Huawei to at least NT released. Today’s results highlight a close to $22 million bid to that guidance again, at the midpoint.

And then I was wondering if you could give us some color on what portion of this bid could be attributed to your ability to achieve more products into Huawei than you previously anticipated?.

Well, I think, I’ll start, then let Alan finish. The $30 million something, come down when we re-guided, I think if you look, what we ended up with was Huawei being down 25% or amounts to approximately $20 million. And so the net-net of that is obviously, not as much as we were up.

And therefore, I think as we highlighted in our prepared remarks, it was really the industrial consumer business that probably was the most significant driver of upside though we were able to redirect some of that telecom business, that we weren’t able to serve Huawei to other customers.

The challenge was just all of this happened very late in the quarter. So, with our manufacturing lead times difficult to redirect and get much impact within the quarter when there was really only about a month or a month and a half to go..

Yes.

I think that covers it?.

And then, yes – I’m sorry..

Go ahead..

I’ll have the floor, okay. I know that you’re not going to – not disclosing at this point of what kind of products you’re able to ship or currently able to ship into Huawei. But given your prepared remarks, is it fair to assume that the minority of products outside of telecom….

We lost Mauricio’s. Operator, let’sgo to the next question..

Your next question comes from the line of Jun Zhang [Rosenblatt Securities Inc.]..

Thanks for taking my question. So, do you mind if you give us a little bit color, how much capacity, how much more capacity it adds to meet the current ROADM demand or in order to the lower – shorter behind for the ROADM supply? Thanks..

Yes. I think if you look at what we did in fiscal 2019, we more than doubled the output of ROADM. We continue to add, but don’t expect to double again, this fiscal year. So, our CapEx plans for our fiscal 2020 are lower than they were for fiscal 2019, but off of substantially higher installed capacity base.

So, the decisions that we made six months ago are coming online now, most of which are for the very high-end ROADMs MxN and high port count ROADMs. And we’re going to continue to invest to bring that in. And I think as Chris mentioned, we are over $100 million in ROADMs. We grew last quarter. We expect to grow this quarter.

I fully expect to grow in the December quarter and most of that growth will be coming from the very high-end ROADMs and ROADM blades. So, I’m not going give it a number.

I think one of the other analysts said that they believe we had $130 million of installed capacity yet, I don’t see any reason why we shouldn’t be able to get to that level of ROADMs in calendar 2020. So, I hope that answers your question..

Sure. Thanks. And then also one more question, in addition to 5G and the ROADM, what else you’re seeing the sense in the telecom markets, which could obviously force the potential upside for your revenue in the next few quarters? Thanks..

What other products we’re seeing growth….

In the telecom space..

Yes. I’d say – as we said in the prepared remarks, we saw a 10% growth in our coherent modules. So, our ACOs and DCOs, we’re expecting continued growth. We were constrained on ACOs today, significantly constrained than ACOs as we’ve seen demand pick up more than anticipated.

And we are the very early stages of DCO shipments that we expect that will continue to grow through the fiscal year and be a meaningful part of our telecom revenue over the next several quarters..

Thanks. That’s all my questions. Thanks..

Your next question comes from the line of Tim Savageaux of Northland Capital..

Good morning, everyone. Should I refer to you as party A this morning? Early my two sense there. A couple of questions, with regard to the commentary around gross margins and want to get a little more detailed on that. You talked about being towards the upper end of a 40% to 45% target range.

Could you go over the timing on that again, and whether that’s driven by kind of organic improvements in telecom margins, better mix with less datacom, more 3D or what have you and I have a follow-up..

Yes. Hi, it’s Wajid. I’ll started off and then Alan and Chris can jump in as well. So, obviously, product mix plays a role kind of quarter-to-quarter. And so what we’re talking about is looking five quarters out for a given product mix.

What do we think our gross margins are going to look like? So, there’s a couple of positive trends that are happening organically that are supporting our margin target of 40% to 45%. Alan talked about the growth in datacom chip sales.

We talked earlier about having more content with 3D sensing and in addition to all that, we’re expecting to have $40 million worth of annualized synergies, which we mentioned earlier on the call. We’ve got clearly defined actions with timelines on. And so that’s going to happen probably at the tail end of the five quarter target that we’ve given.

But it’s really those three things that are driving our expectations on gross margins up looking forward. Even in the lasers business, as Alan mentioned earlier, we’re expecting to see higher levels of revenue. And so that should help us from an organic gross margin perspective as well. So, it’s all of those things combined.

Alan?.

Yes. I would just add to that. I mentioned that we have $31 million of products, datacom transceivers and low margin telecom products, but over the next several quarters are going to go to zero. That will help the average gross margin go up.

But $10 million a quarter in synergy attainment mostly in COGS is going to be 2% to 2.5% in itself given no mix change. So, I think we’re pretty confident in our ability to make that happen. So, I think it’s a combination of all things..

Great. And to follow up on 3D sensing, it actually kind of levers out that datacom comment really depending on how fast you assume that drops off in your September quarter guide. What I see is actually pretty solid double-digit growth being implied on a year-on-year basis in 3D sensing and very strong sequential growth obviously.

And so to get to your kind of up slightly calendar guide, you need to have a pretty substantial decline in calendar Q4 and maybe that comes as a result of an earlier build cycle and maybe borrowing some of that here in the June quarter.

But from an overall trajectory standpoint, am I thinking about that kind of the right way?.

I think, Tim, the absolute low – I think, when we start talking about December at the – still a little further out we’ve got plenty of time to manufacture….

Well, you did guide to it. So….

Well, I think, our point being is, it depends on the timing of what we do this quarter and as we highlighted also, what happens in the overall smartphone market. But I think based on the comments that we put in the script, I think you’re heading the right direction..

Great, thanks..

Your next question comes from the line of Richard Shannon of Craig-Hallum..

Hi guys. Thanks for taking my questions. I guess the 3D sensing question for me.

Alan, maybe, if you can talk about the competitive environment here in terms of what you’re seeing for capacity and also capability of competitors coming online here and also do the degree to which there are opportunities out there in 3D sensing and it may ask – maybe looking for lower specs, but Lumentum may not be interested in competing for?.

We’re interested in everything, Richard. I’d say that we’ve had two years of extremely high market share. And in a week – a year ago, we thought that that was going to go down and it didn’t – I think right now we think it’s going to go down. But we’ll see, I think, our competitors are going to figure it out eventually.

But as I said in the prepared remarks, by the end of this fiscal quarter, we will have shipped over a 0.5 billion units of 3D sensing products. And that’s hard to – hard for our competitors to keep up with. And the quality level and reliability level of the product we ship is phenomenal, absolutely phenomenal.

So, I think the combination of having scale, reliability and the investment in R&D for new products is going to continue to have us be out in front and that’s why we’re pretty confident. Especially, as you look forward into calendar 2020, content per phone is going to go up. Products are going to change to a higher technology.

I think we’re going to continue to stay out in the front. We’re continuing to invest in new technologies that give our customers new capability to do things with their devices..

Okay. That’s helpful commentary. Second question from me on telecom stuff here, obviously, ROADMs seems to very strong trends here.

Maybe, if you look out in telecom outside of ROADMs, what you’re seeing here in terms of growth here from your non-Huawei customer base here and do you worry about any sort of inventory build there?.

Inventory build outside of Huawei?.

Yes. outside of ROADMs, yes..

outside of ROADMs, no. I don’t. I think we are – well, set aside submarine, because I think that there was probably some shipments accepted last quarter in anticipation of this manufacturing and why we think that that submarine will be down this quarter.

I don’t see a buildup of inventory and in fact, I see the opposite, because we’re still not able to, as I said, meet the demand for ACOs and coherent components, and ROADMs clearly our challenge there as well..

Okay, great. Thanks for that..

That concludes our time today. I will now turn the call back to Alan Lowe for closing remarks..

Thank you, operator. I want to thank our customers for their business and partnership. I also want to thank our employees for their hard work and putting us into an excellent position in the markets – in the market for the long-term growth. We regularly discuss our business in Investor Relations events.

These events are listed on our website and the Investor Relations section and are regularly updated. This concludes our call for today. We would like to thank everyone for attending. And we look forward to talking with you again, in another few months. Thank you..

You may disconnect at this time..