Garo Toomajanian - Investor Relations Tom Mitchell - Chairman & Chief Executive Officer Toh-Seng Ng - Executive Vice President & Chief Financial Officer.

Patrick Newton - Stifel Nicolaus Troy Jensen - Piper Jaffray Tim Savageaux - Northland Capital Markets Fahad Najam - Cowen and Company Paul Chung - JPMorgan.

Good day, ladies and gentlemen. Welcome to Fabrinet’s Financial Results Conference Call for the Third Quarter of Fiscal 2017. At this time, all participants are in a listen-only mode. Later, we’ll conduct a question-and-answer session and instructions on how to participate will be given at that time. As a reminder, today's conference is being recorded.

I would now like to turn the call over to your host, Garo Toomajanian, Investor Relations..

Thank you, operator and good afternoon, everyone. Thank you for joining us on today’s conference call to discuss Fabrinet’s financial and operating results for the third quarter of fiscal 2017 ended March 31, 2017.

With me on the call today are Tom Mitchell, Chief Executive Officer and Chairman of the Board of Fabrinet; and TS Ng, Fabrinet’s Chief Financial Officer. This call is being webcast and a replay will be available on the investors section of our Web site located at investor.fabrinet.com.

Please refer to our Web site for important information, including our earnings press release which includes GAAP to non-GAAP reconciliations. I would like to remind you that today’s discussion will contain forward-looking statements about the future financial performance of the company.

Forward-looking statements are subject to risks and uncertainties that could cause actual results to differ materially from management’s current expectations.

These statements reflect our opinions only as of the date of this presentation and we undertake no obligation to revise them in light of new information or future events, except as required by law.

For a description of the risk factors that may affect our results, please refer to our recent SEC filings, in particular, the section captioned Risk Factors in our Form 10-Q filed on February 7, 2017. We will begin the call with remarks from Tom and TS, followed by time for questions.

I would now like to turn the call over to Fabrinet’s CEO and Chairman, Tom Mitchell.

Tom?.

Thank you, Garo, and good afternoon, everyone. We delivered a strong third quarter with revenue that was above our guidance range. Revenue increased 46% from a year ago. New business contributed significantly to this growth by expanding over 100% from a year ago. We expect our business momentum to continue.

I will now turn the call over to TS for more details on the third quarter and our outlook.

TS?.

Thank you, Tom and good afternoon, everyone. I would like to provide you with more details on our performance by end market and our financial results. Total revenue in the third quarter was $366.8 million, an increase of 46% from a year ago and above the high end of our guidance range.

Non-GAAP net income was $0.80 per share which was below our guidance range. Non-GAAP net income was negatively impacted by strengthening of the Thai baht late in the quarter as a result we recorded a foreign exchange loss of $3.7 million or $0.10 per share.

Excluding this foreign exchange impact, non-GAAP EPS would have been $0.90 per share or $0.01 above our guidance range. Our business momentum remained the result of growth in the existing customer programs further supported by new business.

Revenue from new business that we started tracking in quarter one of fiscal 2014 represented 37% of revenue in the third quarter compared to 25% a year ago and grew over 100% year-over-year. Looking at our revenue in more detail.

Optical communications revenue of $286.9 million increased 49% from a year ago and represented 78% of our total revenue consistent with Q2. Non-optical communications revenue represented 22% of total revenue or $80 million, an increase of 36% from a year ago with exception U.K. contributing to this growth.

Within optical, the revenue split was 60% from telecom applications and 40% from Datacom applications. Datacom growth of 56% surpassed growth of telecom at 45%, although both applications demonstrated significant growth.

By technology, 100 gig solutions continue to dominate and represented 40% of total revenue and 51% of optical revenue, or approximately $148 million, an increase of 62% from a year ago. Revenue from 10 gig has stabilized while revenue from 40 gig solutions continues to decline.

In the third quarter we also saw growth on early 400 gig programs, though these programs are still very early in their life cycle. Consist with recent trend, we continue to see strong demand for silicon photonic module.

In the third quarter silicon photonics revenue grew 129% from a year ago to over $92 million, or 25% of total revenue and 32% of optical revenue. Now looking at our non-optical communication in more detail. Laser revenue increased 26% from a year ago to $35.2 million.

Automotive revenue was stable at $20.2 million and sensors and other revenue increased over 100% to $24.6 million. The large portions of this increase were due to the additions at [sections] [ph]. Our new production introduction facility in Santa Clara, Fabrinet West, continues to grow.

While we do not plan to break out revenue details on Fabrinet West, revenue was well over $10 million in the third quarter and we expect our momentum there to continue. As a result of this scale at Fabrinet West, gross margin from this facility are now moving towards becoming accretive to our overall gross margins.

Turning to our new facility in Chonburi. Thailand. We saw a small revenue contribution in the third quarter as expected. With four customers now manufacturing or planning to go into production in Chonburi, we expect it to be contribute increasingly to revenue as we look forward. Now turning to the details of our P&L.

A reconciliation on GAAP to non-GAAP measures is included in our press release. Non-GAAP gross margin in the third quarter was 12.5% compared to 12.6% a year ago and 12.7% in Q2. This small decline was primarily due to strengthening of Thai Baht in the quarter, which I mentioned earlier since most of our available labor cost are in Thai Baht.

Non-GAAP operating income in the third quarter was $35.5 million resulting in an operating margin of 9.7%. Non-GAAP operating margin improved 100 basis points from a year ago primarily due to leverage in operating expenses and growing revenue.

Taxes in the quarter were a net expense of $1.8 million and our normalized effective tax rate was 6.5%, which was within our expected range of 6% to 7%. Non-GAAP net income was $30.5 million in the third quarter or $0.80 per diluted share compared to $20.9 million or $0.56 per diluted share in Q3 of fiscal year 2016.

On a GAAP basis, net income for the third quarter was $21.7 million or $0.57 per diluted share compared to $20.8 million or $0.56 per diluted share in the third quarter of fiscal year 2016. As I mentioned earlier, we experienced a $3.7 million negative impact from a stronger Thai Baht on our GAAP and non-GAAP bottom line result for the third quarter.

Moving on to the balance sheet and cash flow statement. We ended the third quarter with a cash and investment balance of approximately $292.4 million compared to $259.3 million at the end of second quarter.

Cash balances at the end of third quarter included the impact of $40.6 million in operating cash flow and $11.9 million in proceeds of a revolving loan, offset by $12.8 million in CapEx for machine and equipment, $4.9 million for long term loan repayment, and $1.6 million for acquisitions or intangible assets.

Year-to-date, capital expenditure was $57.2 million and for fiscal year 2017, we continue to expect CapEx to be in the range of $60 million to $70 million with approximately $30 million to $40 million of that in maintenance CapEx and the remainder going to the final constructions and equivalent for our new facility in Chonburi, Thailand.

I will now like to discuss guidance for fourth quarter. We expect the strong momentum we are experiencing to continue. We anticipate revenue in the fourth quarter to be between $361 million and $365 million.

While this revenue is fairly set on a sequential basis due to what we expect to be a short term pause in order pattern as some customers represent growth of 30% to 32% from a year ago.

We anticipate non-GAAP net income per share in the fourth quarter to be in the range of $0.82 to $0.84 and GAAP net income per share of $0.65 to $0.67, based on approximately $38.2 million fully diluted shares outstanding. In summary, we remain optimistic about our future.

We are benefitting from our strategy to serve a diverse array of customers and to attract new client wins and programs. We believe our continued execution of this strategy will support profitable growth in the years ahead. Operator, we will now like to open the call for questions..

[Operator Instructions] Our first question is from Patrick Newton with Stifel. Your line is open..

I guess just first of all on the guidance, you spoke to some softness in order pattern from some of your customers clearly, I think, on the Chinese side we would say it's a little bit more than a little bit of softness. So your guidance is actually quite impressive some of the headwinds your customers are seeing.

But can you remind us what percentage of your revenue you believe directly is tied to China and then I think what's really aiding you guys as your silicon photonic strength and you have had this 100% plus growth year-over-year now for four consecutive quarters.

And how much, I guess, the gas in the tank do you have to continue to drive that silicon photonics growth in future quarters, especially as the comps increasingly get difficult..

Okay. Patrick this is TS. Thanks for the question. As we have previously discussed, our shipment to Chinese are not straight forward. Sometime we ship to China and it backs out outside China. And again some of the customers ship to Chinese vendors or customers and some of these are CM, not the end market.

But I believe based on the analysis I have is probably that slightly less than 10% of our revenue is Chinese related.

Is that helpful?.

Yes. That’s very helpful. And then on the ability for silicon photonics to keep growing at such a strong clip given your comps are getting increasingly difficult..

Again, we shall see. Because last quarter of Q3 is about silicon photonic. If you look at Datacom, it's pretty strong. Obviously some of the Datacoms from China had diluted the number but overall we see a very strong growth in the Datacom mostly because of the silicon photonic. So moving forward, I do hope that we will continue to grow that segment..

And then while we are focusing on kind of key growth drivers, can you remind us what your QSFP28 business revenue level is currently and how we should think about the growth potential from that product line over the next several quarters..

Okay. So previously we talked about 4% to 5% of our revenue from QSFP28. That was fiscal quarter two. Now fiscal quarter three, the number I have is, we almost doubled that amount. So we are looking at maybe close to $30 million now on the QSFP28 in Q3.

Is that helpful?.

Yes. And then is that still, I am assuming that a lot of your customers are talking about a sold out condition expected for the remainder of the calendar year.

Is that growth expectation similar to what you are seeing?.

Pretty much because we are at the mercy of customer. If they grow, obviously we grow. If they don’t grow, then we don’t grow. So whatever you heard probably applied to us to..

Great. And then just last one from me. If we go back to the 2011 timeframe in the last time, we saw a pretty precipitous drop in demand for the industry. The industry saw peaking trends in the March quarter of 2011 and Fabrinet saw peaking trends a quarter later, in the June quarter.

Is there any concern that you guys may have a lag effect to some of the trends that are impacting your customers in this current slowdown?.

No, I don’t -- this is Tom, for sure we are not looking at that or being with it and our demand continues to be very strong going forward..

Yes. Today is slightly different though. We have a lot of new customers signed on with us in the last couple of quarters, couple of years. And those guys are all ramping very nicely. We also have the hyper-skilled data center operator propelled to grow. So I wouldn’t equate that to the 2011. Obviously 2011 shortly after they went to the flat.

So you have to pinpoint the driver there too. But I think today the circumstances are pretty much different from 2011..

Yes. I wasn’t exactly speaking of the same demand trends. I just meant more the lag effect. But it sounds like you are not seeing that either. Thank you for taking my questions. Good luck..

Thank you. Our next question is from Troy Jensen of Piper. Your line is open..

To follow up on Patrick's question, specifically on the QSFP28.

Is the bulk of that business just few customers?.

A couple of customers. We don’t normally breakdown. Yes..

So it's safe to say, it's kind of concentrated amongst a couple, right..

More than one less than ten.

How about that?.

So helpful, thank you. I had same type of question on silicon photonic. There are really just been two customers driving the strength there. You are seeing traction in the 3, 4 and 5 category..

Can you repeat the question on the more time? Sorry, about that..

Same type of question for silicon photonics. I mean my assumption is it's really just been two customers driving that business.

So just kind of help me out, if you are seeing broad-based strength in this?.

Yes. So silicon photonics, we have some Chinese exposure, right. Some of the customers ship to China and obviously they affect last quarter. But again we have other customers who are not exposed to China market and that’s why they are growing. So net-net, we see a strong growth even though with a drag on the Chinese market.

So again, silicon photonic, we continue to add customers and today again we are in the mid -- I want to say, again, one to ten. But maybe at a midpoint right now..

Okay. All right, understood. And how about one for Tom. Just would love to know kind of the status of CEO search and just kind of update us on your role at the company right now..

Well, I don’t think it's any different than it was the last time we chatted. The board, I think, and myself are continuing to do our responsibility for succession planning not only at the CEO level but at other levels. And it has just been [indiscernible]..

Okay. Just a sense of timing on those, Tom.

Are we still several quarters out from an announcement or?.

I don’t think there's easy foreseeable things we could say in the future..

The operator, it's unbelievable..

Sounds like you are [Ron] [ph] actually..

Yes, there you go. Thanks for announcing me. Well, glad to have been queued in that I am supposed to ask a question. So the first one I wanted to ask is, when I am looking at the model here and running through it.

It kind of looks like you might be assuming some currency hit from the Thai Baht again in the current quarter, given the move late in the quarter I assume that it persisted somewhat into the current quarter.

Is that accurate?.

I think that’s accurate. In fact last quarter we recorded $0.10 hit and this coming I assume recover somewhat from the $0.10 loss, so....

Yes. But still looks like $1 million, $1.5 million kind of hit in the numbers, yes..

That’s correct, Alex..

Okay. So that’s assuming a current, the Baht stays flat at current levels in the rest of your forecast, just adjusting for what's already happened.

Is that correct?.

Yes. If the Baht stays flat, yes, I will continue to see the $0.10 hit and I assume that, in fact last couple of days the Baht has weakened a little bit now. So I factor in some of recovery from there..

Okay. I see. Going back to the gross margin line, I assume that the guidance is fairly flat on the gross margin sequentially into the June quarter.

Is that what you are thinking here?.

Except with the currency impact, essentially it's a [nice] [ph] lever. If you look at last quarter, we did 12.5, previous quarter 12.7. 20 basis points -- rounding, maybe less than 20 basis points. $400,000-$500,000. There are so many moving parts, may change a little bit. Maybe a bit of pricing, a bit of foreign exchange.

So, yes, I would say we have continued to hover around 12.5. 12.5 is a good guidance there..

I see. And then wanted to go back to the product mix and particularly what I would say, non-coherent Datacom type products. While everybody is focused on the QSFP28 ramp, the other side of that is the assumption of a rollover in CFP and CFP2 format.

Can you give us some sense of what exposure you have to that legacy piece and then in the same context, is it the same equipment that you are using, one that’s just being converted from a to be here, or is it in fact different lines as you see those two products rolling off and being replaced by QSFP28..

Yes. Alex, as you probably know, at CM we are very customer specific, all right. So we don’t share the line. Again, some customers, you heard they are ramping down the CFP, migrating to CFP2. And we are just doing exactly the same for those customers. And the customers do not have CFP exposure at their lines or in CFP2.

So it's hard for me to generalize that whether the same line can be used on it because we are very customer specific in terms of [indiscernible] within the factory..

Okay. How about relative to the aggregate of those lines? CFP, 100 gig, kind of a legacy Datacom client side, pluggable in the CFP2 which have been cited as areas that are in fairly steep decline here into the June quarter.

Do you have meaningful exposure to those to areas that might offset the growth that we are seeing in the other Datacom products?.

I think what you hear from the customers applies to us. In other words, CFP2, we continue to ramp and some of our customers already have capacity on that. We see some customers ramping down there CFP program. So in general, yes, I think it applies to us too..

I have got another way of cutting at this.

If we look at the Datacom versus telecom piece and other, can you give us some sense of what the mix of growth and progression is within those three areas in the guidance?.

In the guidance basically I have, telecom is going to pickup in the fourth quarter. Datacom is fully flat because some of the Chinese exposure has started biting us. As you know Chinese exposure impacted us in the later part of the quarter last quarter. And then in this coming quarter, June quarter, we see most severe impact here.

So Datacom will be a factor more severe than the telecom. Again, telecom we have some customers have no Chinese exposure and they are ramping very nicely. So that kind of offsets overall downturn from the Chinese exposure..

So if you guidance is flat to down, what's the down part? I mean your guidance for the June quarter is -- if you did 366.8 and your guidance is flat to down.

Telecom up and Datacom flat, what's declining?.

No, when I say Datacom down, it could be down more than telecom is up..

Okay. I thought you said that Datacom was going to be flat. So Datacom could be down a little bit..

Down, Datacom is down, yes. If I said flat, sorry about that. It's down, actually..

Okay. I got it..

Telecom picked up because of non-Chinese exposure..

Thank you. Our next question is from Tim Savageaux of Northland Capital Markets. Your line is open..

Kind of picking up on that discussion a little bit, we have seen a fair bit of strength across the kind of industrial end markets in optics, really through this reporting season. And you seem to have seen a little bit of a pickup in your own kind of non-communications driven business though possibly mostly acquisition related.

I wonder if you could talk about trends in that business and to what extent you are expecting a pickup in sequential growth in industrial in your fiscal Q4. It sounds like there is -- you are anticipating some of that and I will follow up from there..

Okay. There are two aspects of it. As you know, we are doing laser, okay. I don’t know whether you have classified that as industrial. And one of my customers was saying that seems like that laser is turning around, especially fiber laser. So if that comes through, it will benefit us, all right. That’s number one.

And number two from the appreciation, I mean the base line is so small. The reason we buy that U.K. company essentially is to tap on their customer base. So by itself is, in the scheme of things they are pretty small.

So I would say most of the pickup if you compare year-over-year is because from nothing we pick up something for this quarter if you compare year-over-year. But I think that maybe the automotive is pretty flat, laser is a area where we are quite excited about and just what our customers mentioned about industry-laser..

Great. And if I could follow up back on silicon photonics. You actually seem to see an acceleration in sequential growth there in the quarter up in to the 20s from 10%.

In the previous quarter it looks like your various, as you mentioned several customers in various buckets, can we assume that those kind of silicon photonics headed inside the cloud data center that you are really seeing the growth in now, or can you be any more granular as to what's driving or what might have driven that kind of reacceleration in growth in silicon photonics..

Yes. Essentially the cloud centers are outside China and that’s where the growth is. We added a customer a few quarters ago and now they are having a very meaningful ramp right now. So that essentially contributes more so the growth..

Thank you. Our next question is from Fahad Najam of Cowen. Your line is open..

A couple of questions on, one, is your silicon photonics all Datacom?.

Not necessary. It's split within Datacom and telecom..

All right.

And of your 400 G comment, can you provide some commentary on how big 400 G was and is that all telecom or is there some Datacom in there too?.

Right now, very small. In fact, it's not even on my radar screen. I will see that -- I think we are more telecom. Again, I don’t have the data in front of me, my instincts tell me that it is mostly telecom. Again, as is say, the amount is so small, we just mentioned at the beginning to launch by my customer..

Got it.

And can you remind us the margins on silicon photonics, is my assumption correct that it's lower than corporate average?.

No, not really. Again, I always mentioned that we are [indiscernible]. The margin depends on our efficiency in terms of pricing is kind of standard cost for something. Now if I can control my cost or those who are in my quotation, then I have higher margin.

So essentially the cost of us is more unlike my customer where time to market, their leverage with their customer would determine the margin. For me, it's cost plus something. And across all the products we have pretty much similar pricing model..

All right. And one last question. Do you have any visibility in terms of coherent modules like DCO modules versus ACO and can you provide any qualitative commentary on any trends that you are seeing there..

I think that our customers, a couple of them, we are helping them to ramp ACO, and a couple of them we have done DCO. Again it's very customer specific. It's best that you ask that my customer for their respective areas.

So for me, it's very difficult to generalize but suffice it to say that I do both ACO and DCO in the CFPD2 form factor for a couple of customers. So helping them to ramp. Again, very customer specific. It's hard for me to generalize it..

But in general is the trend picking up for these module business? Any qualitative commentary on the uptake in both ACO and DCOs?.

Yes, I think both sectors are ramping. A lot of depends on the adoption by Chinese customer. So for example one customer I have, they are ramping DCO faster than ACO. So you will have to generalize by, I would say suffice it to say that both sectors are ramping..

Thanks. Your next question is from Paul Coster of JPMorgan. Your line is open..

This is Paul Chung on for Coster. Thanks for taking my question.

So can you remind us again on both the timing and magnitude of new Thai campus related revenues? Do you expect some contribution in F 4Q, and then how should we think about the shape of contribution in fiscal year '18? And then lastly, should we expect the total to come down to around $30 million to $40 million for the year, for fiscal year '18.

Thank you..

Okay. All right. Paul, the first question, we mentioned that we have about four customers producing in Chonburi and for the March quarter we booked some revenue. However small, but we booked some revenue. And going to June quarter, the revenue will continue to uptick, pick up and so on.

So yes, we booked some revenue in last quarter and this June we have more revenue than last quarter. In terms of CapEx, yes, this year we spend close to $70 million cash on CapEx, half of which are building land related. Moving forward we are not going to buy another land anymore, we have enough land for the next ten years.

And commission the second building in Chonburi, with probably another year or so. I don’t think next year we will commission the building. Maybe the following year. So I think the CapEx will be probably back to about $30 million to $40 million level. I call it maintaining the CapEx..

Okay. Great. And then can you give us a sense of 10% customers during the quarter? Just trying to....

Yes. We normally don’t discuss it until year-end, June quarter. But again, no significant change from the previous quarter or previous year. Last year we have one, we record one. The other one, [indiscernible] 10%. They are 10% but we don’t report them as a 10% because their account is delicate, their accounts receivable risk to the other CM.

But effectively they are 10%. So we had two 10% customers last year. Lumentum and Cisco. So currently the profile is about the same..

Thank you. At this time I see no other questions in queue. I will turn it back to Mr. Mitchell for closing remarks..

Well, I want to thank you for joining us today and we look forward to speaking with you on our next call. Thank you, guys..

Ladies and gentlemen, this concludes the program for today. You may now disconnect. Everyone have a great day..