Earnings Call: Q2 2020

Feb 4, 2020

Good day, everyone, and welcome to the Lumentum Second Quarter Fiscal Year 2020 Financial Results Conference Call. As a reminder, today's call is being recorded for replay purposes through February 11 2020. I would now like to turn the conference over to Mr. Jim Fanucchi of Darrow Associates. Mr. Fanucchi, please go ahead. Thank you, Sharon. Welcome everyone to Lumentum's 2nd quarter fiscal 2020 earnings call. This is Jim Fanucchi from Darrow Associates, assisting Lumentum with its 18, we have Alan Lowe, President and Chief Executive Officer Wazhir Ali, Chief Financial Officer and Chris Coldrin, Senior Vice President of Strategy And Corporate Development. Today's call will include forward looking statements, including statements regarding the markets in which we operate, including potential market sizes, market trends in our position in such markets, trends and expectations for our products and technology, including product development and projected new product releases, purchasing trends and demands for our products, our expected financial performance, including our guidance expenses, risks associated with potential disruption, caused by the coronavirus as well as statements regarding our business initiatives and the achievement of synergies following our acquisition of Oclaro. These statements are subject to risks and uncertainties that could cause actual results to differ materially from our current expectations. Momentum 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 quarter ended December 28, 2019 to be filed with the Securities And Exchange Commission later today and Lumentum's 10 K for fiscal year 2019 ended June 29, 2019. The forward looking statements provided during this call are based on Lumentum's reasonable beliefs and expectations as of today. Momentum undertakes no obligation to update these statements, except as required by applicable law. Please also note, unless otherwise stated all results and projections discussed in this call are non GAAP. Non GAAP financials are not to be considered as a substitute for or superior to financials prepared in accordance with GAAP. Lumentum's press release with the second quarter of fiscal 2020 results is available on its website at wwumentum.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 contains our latest SEC filings and supplementary slides relating to today's earnings release and the company encourages you to review these documents. Specific time today on our website. Now prior to handing the call to Alan, we wanted to provide an update on why NASDAQ halted the trading of the company's stock yesterday aftermarket. The company discovered an employee's computer password had been compromised yesterday. As this employee had access the situation and they decided to hold trading until this information was made public. As of 8 am Eastern time this morning, trading had resumed. I will turn the call over to Alan for his comments. Thank you, Jim. Good morning, everyone. 2nd quarter performance was strong. We achieved new record revenue, gross margin and operating margin. This performance is the result of strong customer demand for our differentiated products increasing levels of new and innovative products and an improving financial model due to increasing scale and acquisition synergies. Looking to calendar year 2020, telecom transport demand is now strengthening. We expect telecom transmission demand to continue to grow further. We expect a significant expansion in the market for world facing 3d sensing lasers. And from a financial model improvement standpoint, we have made substantial progress, but we are not done yet to attaining acquisition synergies and exiting the low margin products we have highlighted on prior calls. We believe we have sustainable technology leadership positions that make us indispensable to the multiple diverse growing markets we serve today and into the future. We plan to technology and market leadership positions. Now for further product line and market details, 2nd quarter revenue increased 2% sequentially sequential and year over Telecom and datacom revenue was up 7% sequentially and 29% from the prior year. Growth was driven by strong demand for our differentiated coherent telecom transmission products and high speed laser transmitter chips for data center and 5G front haul applications. The strong telecom and datacom transmission growth more than offset the decline we experienced in telecom transport revenue. We are now seeing, however, telecom transport demand increasing. Demand was and continues to be strong for our ACL modules and our DCO module volumes are ramping now. Demand exceeded our ability to supply across a range of products in the second quarter. Products impacted by supply constraints included high end ROADMs, coherent transmission components and modules, and laser transmitter chips. We are working to improve supply of these products to meet strong customer demand. We continue to sell off remaining inventory and satisfy it customer last time buys for previously discussed discontinued low margin telecom and datacom products. We continue to expect revenue from these products to effectively decline to 0 over the next couple of quarters However, we now expect the largest revenue decline from these discontinued products of approximately $10,000,000 to 15,000,000 to occur in fourth quarter. Due to expected long term demand trends our technology and product leadership positions and improving industry dynamics. Demand over the long run should be strong based on the continued strong growth expected in global networks and data center traffic and the optical infrastructure needed to support 5G wireless bandwidth. We are well positioned in the market with our industry leading products and deep customer relationships. Our next generation products are critical to the global customer base and include a high a range of high performance DCO transmission modules and underlying highly integrated components, including those at 400 G and above. Highbod rate indium phosphide components, including those for 800g transmission. Contensionless across all major customer platforms, and high performance laser transmitter chips, most notably are EML transmitters. These enable next generation 400g and higher speed data center architectures and next generation wireless front haul and access solutions. After significant M and A in the optical space over the past few years, industry dynamics are improving. We expect these dynamics to continue strength should offset typically seasonal factors. Our industrial and consumer product lines were down 15% sequentially but up 20% relative to the prior year. The smaller than anticipated sequential decline was due to strong customer demand for 3 d sensing enabled products. Year on year growth was also driven by customers incorporating 3 d sensing and a higher percentage of product offerings compared to last year. Over the next couple of including computational photography and augmented and virtual reality. Our R and D teams are very busy working with broad range of customers on their future generations of 3 d sensing needs, including for new products coming later this year, and Next as well as for products several years away. We are well positioned to grow in this market and our experience is a valuable advantage Looking to our third quarter, our guidance contemplates 3 d sensing declining more than 20% due to normal seasonality in customer demand. But we expect 3 d sensing to be up year on year. Over the past year, 3 d sensing has penetrated deeper into customers' product portfolios, including increasing lead for world facing applications. We expect this trend to to $48,400,000. During the second quarter, we started shipping our new Pico blade, Pico blade 3 Ultra Pass laser for micro machining applications. This product addresses OLED display processing, 5 g antenna fabrication, and advanced vehicle drilling in print circuit ports. These applications are all expected to see significant market growth in the coming years. Over the long run, because of our investments in unique new products and technology, like the Pico blade 3, we believe we have good opportunities for growth driven by new product introductions in addition to market growth. In the third quarter, we expect laser revenue to be down a bit due to customer seasonality. Throughout my remarks, I've highlighted long term trends that make our product, products and technology increasingly critical to the markets in which we participate. I've also highlighted the progress we've made towards our strategic and financial goals. Over the past several years, we have made significant investments new products, markets, design wins, and M And A. We believe these investments in the long term trend in our markets position as well for the future. Before handing it over to Wajid, some comments on the tragic and evolving coronavirus outbreak. First, our thoughts are with all of those affected. 2nd, our top priority is protecting the health and safety of our employees. We have restricted employee travel into and out of the affected regions and we are reducing our participation in large group events with strong international attendance such as certain trade shows. In our factory in Shenzhen, China, employees have been impacted by travel restrictions and the extended lunar New Year holiday imposed by the Chinese government. For some lower product, the supply of externally purchased material is being impacted. The situation is obviously very fluid, but we are in close contact with our factory in China, impacted suppliers as well as our customers. Budget will discuss the impact of the coronavirus on our third quarter financial guidance. I will now hand it over to Wajid. Thank you, Alan. Good morning, everyone. I'm pleased to be discussing our strong second quarter results. Net revenue for the second quarter was $457,800,000, which was up 2% sequentially and 23% year on year. GAAP gross margin for the 2nd quarter was 41.3%, GAAP operating margin was 16.3%, and GAAP diluted net income per share was 0.63 dollars. 2nd quarter non GAAP gross margin was 47.4%. Which was up 160 basis points sequentially and 7.30 basis points year on year. The higher gross margin was primarily driven by improvements in telecom and datacom margins as well as acquisition synergies. Non GAAP operating margin for and 6.80 basis points year on year. Non GAAP operating expenses totaled $84,800,000 or 18.5 percent of revenue. SG and A expense was $38,000,000, R and D expense was $46,800,000. 2nd quarter non GAAP net income was $119,400,000. This includes $600,000 of net interest and other expense. And $12,000,000 of tax expense. Non GAAP diluted net income per share was $1.53 based on a fully diluted share count of $78,000,000. We had very strong cash flows in the 2nd quarter. Cash flow from operations was $162,000,000. We also took a series of actions impacting our capital structure during the quarter. We repaid in full the term loan that we took on in connection with the Oclaro acquisition. We sold 1,050,000,000 of new convertible notes due in 2026, and we repurchased $200,000,000 of our common stock in connection with the note offering. These actions along with the strong cash generation from the company's normal business operations resulted in an end of And now an update on synergies. On our call, in August 2019, having achieved our initial $60,000,000 target, we increased our annual run rate synergy target by $40,000,000 to $100,000,000. Through the second quarter of fiscal 2020, we have achieved approximately half of the incremental $40,000,000 of synergies. And to attain another $30,000,000 in annual run rate synergies over the next 3 to 4 quarters. Bringing the total acquisition synergies to $110,000,000 versus Turning to segment details. 2nd quarter Optical Communications segment revenue at $409,400,000 decreased 2% sequentially. Optical Communications segment gross margin at 48% increased 190 basis points sequentially and 8.30 basis points year on year, with a more favorable mix of products, improved telecom and datacom margins, and acquisition synergies. Our laser segment revenue at $48,400,000 increased 43% sequentially and was flat year on year. 2nd quarter lasers gross margins was 42.1%, flat quarter on quarter. Turning now to our guidance for the 3rd quarter. The projections we are providing today are also on a non GAAP basis and are based on our assumptions as of today. Please note that guidance we are providing today incorporates an approximate $15,000,000 to $20,000,000 reduction in revenue at the midpoint. And a wider than normal revenue We project net revenue for the 3rd quarter will be in the range of $400,000,000 to 425,000,000 At the midpoint, this industrial and consumer decreasing due to 3 d sensor sensing customer seasonality and commercial lasers also decreasing driven by customer seasonality. Based on this, we project 3rd quarter operating margin to be in the range of 21% to 23%. And diluted net income per These projections incorporate an approximate share count of $78,000,000 and an estimated The share count and other income projections incorporate the impact of both of our convertible notes, pay down of our term loan and share repurchases in revenue at the midpoint due to the anticipated impact of the coronavirus outbreak. And as Island highlighted earlier, The situation is fluid and evolving. With that, I'll turn the call back Thank you, Wajid. And before turning the call over to Sharon to start the question and answer session, I would like to ask everyone to please keep to one question and one follow-up. This should help us get to everyone before the end of our allotted time. Sharon, let's begin session. Your first question comes from Rod Hall with Goldman Sachs. Yeah, hi guys. Thanks for the question and nice job on results here. I wanted to start off and see if you could talk about the $15,000,000 to $20,000,000 adjustment for the coronavirus and give us some idea maybe where that lands? Is it mainly 3 d sensing or is it evenly spread across the segments? And any other color you could give us on how that might impact things down through the P and L? And then I've got a follow-up. Yeah, Rod, thanks for your question. This is Alan. The 15 to 20 is a is an estimate based on what we know today, both from a supply standpoint as well as an anticipated demand standpoint, given some of our customers are also in affected areas. So you know, it's we don't have the granularity to say on the demand standpoint where it comes from. I'll say that because our factory in Shenzhen is focused mainly on telecom transmission from a from a supply standpoint, that's primarily where the shortfall will come. And Rod, as far as your question is related to the P and L, we've already incorporated the impact of the $15,000,000 to $20,000,000 in our, operating margin and in our EPS guidance. So the dollar to dollar 17 already includes the impact of the $15,000,000 to $20,000,000 adjustment that we noted in our script. Okay. Thanks. And Alan as well. I wanted to follow-up with a question on Huawei. Two things on that. 1, the UK's decision on Huawei, how does that impact you? Do you anticipate any impact from that? Positive or negative, I guess. And then also just maybe an update on what, you're thinking in terms of recent administration comments regarding Huawei. Does that does that change anything? Do you have any thoughts on when we might find out more Just any update on that would be helpful. Hey, Rob, this is Chris. I would say to both parts of the question, Given our footprint in the customer base, we're largely agnostic sticks to which of our customers wins, business. So whether, in the UK, Huawei is restricted to a more limited portion of the network. We don't believe is a significant change for us. And then in terms of understanding what the U. S. Government is going to do here, I don't think we have any more insight than what you can read in the general news or media. But we are monitoring the situation very closely. Great. Okay. Thanks guys. Appreciate it. Your next question comes from Alex Henderson with Needham. Great. Wanted to see if I could delve into a little bit, what your comments were around the ROADM side of the business. Obviously, you're seeing some constraints at the high end of your production, segment. But, have you seen a change in the demand there? It sounded like if I read what you were saying in your text, that you're seeing a pickup in demand there. And if you could tie that into what you're thinking around the coronaviruses, that would be appreciated. Is corona going to result in a temporary demand hiatus, on some supply or, and then you get it back later in the year. Is it How do how do you see that playing out over time assuming the viruses got the same traditional, seasonality of all cold viruses, I. E. As the weather changes, it abates. Yeah. So what we said, Alex, was, if you remember going into our second quarter, we said we we're seeing some telecom transport flattening out or softening and and we saw that in the second quarter. And what we wanted to reiterate in the script was that through the quarter, we saw a a pickup in that demand, across the board, but mostly on the high end, high end ROADM more and more of our customers are developing and designing systems around both our high port count wins, as well as our contentionless starting to see that really pick up across the board at all of our customers. And as far as the coronavirus impact on on ROADM demand. You know, I I don't know that that until until our big customers come back from the break, we'll know exactly what what impact, that will have. That said, I don't think we have a problem in in demand for the high end growth And so, we're we're shipping as much as we can. And I don't think that that anything will impact that as we're adding more capacity over the over the next 9 months. And if I could follow-up. So looking at the Corona commentary, I assume you're taking into account the full impact of the holidays and the extensions. It also sounds like you're taking into account some supply constraints are you assuming that that stays, you know, could you give us a sense of how long you expect that to stay within that guidance, or whether you're assuming that there's some tempering of the damage over time within that projection. What's the sensitivity to further extensions of, delays or things of that sort versus, the forecast assumptions? Yeah. So, so, Alex, maybe one of the differences with our factory in Shenzhen, to others is that because of the very, very strong demand for coherent components and modules, we had workforce working, through the Chinese New Year, at about 50% plus a a little bit. So those employees continue to work, through the Lunar New Year as well as this existing week, because they were in working and staying at the dorms and didn't weren't, restricted by travel restrictions. We have a good handle on where the other employees are and our guidance contemplates them not coming back immediately because of the travel restrictions, but coming back slowly over time. And so we've had them kind of estimate what we think that's gonna be, and that's where we came with the $15,000,000 to $20,000,000 of impact. Did that answer your question? Yes, that's very helpful. Thank you very much. Next question comes from Blayne Curtis with Barclays. Hey guys, this is Tom O'Malley on for Blayne Curtis. My first question is around 3 d sensing. Obviously, you have some big ramps coming up in the second half of this calendar year. Can you talk about what your expectations are for share. Has that changed recently? And how do you see, yourselves competing in the second half? Are you any more or less well positioned than you were, say, last quarter? Well, I'd say that, we're going to continue to do what we need to do to satisfy our and give them no reason to wanna buy from anyone else. And so I think, you know, having shipped a half a billion or more units with no field returns is a pretty compelling argument to continue to give us a very large share of the business. I will say that that we do expect to introduce new products, in the coming months that I think, you know, push the technology a little further and give us, you know, strengthen our differentiation over our competitors. That then, you know, will give us again a high share of those new products, for quite some time. So I'm pretty confident on our and feel good about where we are now as well as in the second half of the year. Great. And then on on the telecom and datacom businesses, you're guiding them both up, but that's cumulatively. You're talking about how the Shenzhen factory may be affected from a transmission perspective. And then you've also talked about some businesses going away. I know that that's weighted towards the 4th quarter. But can you talk about are you able to offset both of those weaknesses in telecom specifically? And is it just the ROADMs that are better there that you've described or is there anything else that's kind of helping that grow? Oh, we, as I said in the in the script, we're on serious, constraints in our ability to meet our customer's demand for coherent components, ACOs, and and now DCOs. And so we are ramping those products, as fast as we possibly can. Putting aside the coronavirus impact on our shins in factory. So I think we are seeing growth in transmission. We've seen the strength coming back in support. And our datacom chips are, growing very rapidly, both in Q2 as well as expected throughout this year. To to support the 5 g rollout, the data center build outs. And so I think from that perspective, that's why we said telecom datacom are going to offset what typically is a seasonally soft quarter in the March quarter. Yes, and also just to make sure we're clear that Not all of our telecom and datacom revenue is flowing through our factory in China, in fact, our Datacom chip, revenue does not touch, that factory and similarly lot of our telecom transport is not flowing through that factory. So we had, we do have, significant portions of our revenue supply standpoint, unimpacted by what's going on in China. Thanks guys. Your next question comes from Samik Chatterjee with JP Morgan. Hi, thanks for taking the question. I can just start up by following up on the earlier question about Huawei. I understand you mentioned that there is limited visibility at this time on the changes in terms of regulation from the government on that front. But what you're really embedding in your guidance, then related to revenue from the customer. I believe last quarter you had mentioned you were expecting to see some slowdown in from that more. So just wanted to understand if that's played out as you expected and are you expecting kind of similar revenues or a pickup from that customer? This is Chris. I would say things are playing out, as expected, that customer was a significant customer for a lot of our products that are being, discontinued, for example, the datacom modules. They historically, we're the largest customer. And similarly on some of the products that we supply where we do have competition, those products seem to be a little bit more impacted from a demand standpoint whereas our high end products, particularly the high end ROADMs. We're seeing less slowing, if you will. With that said, obviously, it's difficult to handicap what's going on with U. S. Government, etcetera. And any changes that they may make to tools, I continue to point out that Our manufacturing and supply chain is quite offshore. We do have some manufacturing in the U. S. Of some laser chips, but other than that, in general, our manufacturing is quite offshore. So difficult to opine on what the impact of what people speculate changes would could be, but I think, unless there's a complete change in strategy, I. E, the questions of a ratcheting down percentage is in de minimis threshold. That's something that, unless there's a radical change and definitions, wouldn't be as impactful to us, given our supply chain. Got it. And if I can just follow-up on the broader comment that you had in the press release about transport demands then strengthening and you've talked about the ROADM strength as well. If you can give any color on kind of which customers or geographies you're seeing as driving that? And How is that different from the drivers of the strength that you're seeing on the transmission side? That will be helpful. Thank you. Yeah. Well, as I said in the script, the high end ROADMs and the contentionless end by end are broadly being deployed in new systems, across the boards. I wouldn't say that it's any particular customer nor would I comment if it were, just because I think, you know, we, we have a very broad footprint customers and our ROADM leadership, really puts us in a good place across the board. Does she have anything to add there? Okay. Thank you. Next question comes from John Marchetti with Stifel. Thanks very much. Just following up a little bit on the transmission side. I was just curious outside of some of the constraints that you have right now in ACODCO. You had mentioned it in the prior call that you were that business to continue to build. Just want to get a sense from your perspective. If that's still the case, if you're seeing that broadly across different geographies, how you think of that transmission piece playing out here over the next several quarters? Yes, and we we continue to see strength in ACOs, and we're, you know, in the in the midst of of ramping our DCO product, but I think even underlying those products is our capability at the indium phosphide level for higher baud rate, components for products that are up to 800 gig. So we're seeing a broad range of, customer demand, for these enabling technologies from a component level through ACO and DCO and it's it's broad based. And then if I could just follow-up real quickly on the end by end commentary, I just wanted to make sure historically, I think that was primarily product designed or shipping into Huawei. And I just wanted to follow-up on your last comments, but that is now shipping to multiple customers and not just to that one. That is correct. Next question comes from Simon Leopold with Raymond James. Thank you for taking the question. I wanted to come back on the coronavirus supply side of the question. I think you've moved a lot of operations out of China. So maybe help us understand what portion of your production or headcount is based in in China now. And do you feel as if you have a competitive advantage because the folks you're competing against may be more exposed in terms of the supply side of this in terms of having more staff in China. And then I've got a follow-up. Sure. Well, we have, approximately a thousand people in China. Most of those are manufacturing people. Then outside of China, we have, contract manufacturers that employ thousands of people on our behalf, as well as our own fact in Thailand. And so, over the last 3 years, we did move a substantial percentage of our production out of a contract manufacturer in Shenzhen, China. Most of that went to our own factory as well as a contract manufacturer in Thailand. So those, those employees and contract manufacturers are not affected by the coronavirus except from the standpoint of any kind of sourcing of components. And we've looked at the sourcing of those components that could come from China. And we feel pretty comfortable that that our Thailand contract manufacturer and our own operations will be minimally impacted by, those sourcing of components coming from China. So I'd say, to answer your question, yes, I think we're in a much better position than some of our competitors who are highly, China manufacturing based. Great. Thanks. And then in terms of the follow-up, one of the things that are rich that we've all talked about for some time is the idea that, Huawei in particular, or Chinese OEMs in general become more vertically integrated. And we have the impression that that might be be accelerating. And just wanna get your sense whether you've seen evidence of this, particularly in an area like a like a lower end ROADM type product or or other aspects. Thanks. Yes. I mean, I think, we're going to continue to focus on innovation and driving innovation. And I think, while Over the last five years, there's been a drive for, our Chinese based customers to be more independent. I think our continued push on innovation and new product introductions has kept us in a very, very good position with respect to those leading edge products. Our participation at the low end ROADMs in China is not that big, as most of those deployments have shifted and the ASPs per unit are significantly higher on a twin high port count product or an end by end? Yes. Simon, I'd add that our customers in China also compete in a global market. And, our customers or our customers' customers demand the ultimate performance and capability. And that's how we differentiate our products is around performance and capability. And we do or have had and continue to have competitors in most of the products that we make and and we feel that, if we can continue to put distance between ourselves and our competitors, it's pretty challenging for a customer, if you will, other than if they're willing to compromise, performance or capability, which they would struggle to do on a global marketplace. Great. Thanks for taking the questions. Next question comes from George Notter with Jefferies. Hi there. Thanks very much guys. I wanted to ask about the gross margin strength. I was really pretty surprised by it here in the December quarter. Heard the comments about mix improvement as well as just straight up strength in datacom and telecom. But Any more kind of flavor you can give us for that optical gross margin strength? And then how do you see gross margins going forward? Yes. No, I think it's Wajid here. I think you've captured it pretty well. Our gross margins came in a little bit better than we expected during order, primarily because of the acquisition synergies continuing to, to flow through. As we noted in our script, We're expecting those acquisition synergies to continue, through the calendar year, 2020 and we've increased that number from $100,000,000 to $110,000,000. If you take a look at our operating margin guidance, which is really a slowdown of our gross margin improvements, for Q3, you can see that year on year we're expecting to increase substantially, despite the fact that our revenues are going to be down year over year, because of the coronavirus situation. And so, we're continuing to expect to see improvements in telecom and datacom gross margins. Now some of that is driven by the new products that we have coming out, which are, are giving us higher standard margins on our products, but some of it is also because of the continued expectation of acquisition synergies to flow through over the next 3 or 4 quarters. The one item just drawing on what Alan said earlier, the continued strength in 3 d sensing that we're expecting to see over calendar should also provide us with a nice boost to gross margins as we enter the back half of calendar 2020. So we're looking forward to that. Got it. And then sorry, George. The $10,000,000 to $15,000,000 drop of see low margin products going away in Q4 that should also that should also help because those are very poor margins. Goes a little ways. Got it. Okay. And then did the M and A synergies come in in chunks then? Was that part of the story here in in March or do they still kind of flow in on a more sort of ratable basis as the year progresses? Like, how should we think about that? Yes. So, I mean, some of it is is, is flowing through. And you'll see some of it in March, and that's why we've been able to guide the operating margins that we have. But you'll see a nice chunk come in, in our, in, in, in our 1st fiscal quarter of, of 21. And then flow through to the December quarter, in, in fiscal 'twenty one as well. Okay. Thank you. Next question comes from Michael Genovese with MKM Partners. Thanks a lot. As we think about 3 d sensing seasonality for the year. Obviously, you've given March guidance, but is there a reason should we think about normal seasonality this year or is there a reason to think in June either an earlier start to programs with existing customers as they do world facing or new programs, new customers. Is there any reason to think that June should be better than seasonally normal? I don't think that there's anything that would be materially different with respect to seasonality in the June? We saw a pickup in the June quarter from new products last year. And that usually starts late in the quarter and I don't see any reason to expect it to be any different this year. Okay, got it. And as we look at the March guidance that you've given for 3 d sensing, And as we sort of try to compare it with the main customer that we know about and what we think about their units, is there is there any reason that you'd be materially different, you know, ASPs or market share or inventory or, or do we think that these numbers should actually line up, the customer numbers with your numbers? Well, I think, Mike, we highlighted in her remarks where we thought 3 d sensing revenue would be at least from a quarter on quarter change. So I think that incorporates all of those that you've asked. Okay. I appreciate it. Thanks. Next question comes from Tajas Venkatesh with UBS. Thank you. I wonder if you could comment on the inventory situation at Huawei and Broadly in China? Well, I think, you know, it's hard hard to know exactly what's going on with inventories, but I'd say that, the majority of our revenue that are are going into our leading customers in China are for very differentiated products In in particular, high end ROADMs, when high end ROADMs end ROADMs, where the competition is far behind us. And so I think given that we are constrained in our ability to meet what they're asking for, gives me confidence that there's not a warehouse full of high end ROADMs. I'd say that that the rest of the products where there's more competitors. We're not selling a lot of those things. And in fact, as Chris mentioned, we're getting out of the datacom module business and winding that down in the next several months. And so, we're not so concerned about those types of products. Thank you. And as a follow-up, what was Android 3 d sensing revenue in the December quarter And how are you thinking about the next few quarters? Thank you. Yes, we're not going to continue to break out Android revenue. Obviously, we have a a large customer driving the vast majority of our revenue. And so that in providing that, we'll be disclosing confidential information. I think from a trajectory standpoint, we're certainly seeing Android funnel building up as more customers incorporate 3d sensing and more models. There has been a little bit of a were hits to the to the Android market with, with obviously, Huawei being a major customer, or major smartphone supplier and therefore, a major customer of 3 d sensing lasers and, with their inability to get things like Google apps and, challenges around the Android operating system due to the current restrictions, we believe their volumes of high end smartphones sold out outside of China, are more limited and that's muted some of the growth that we had previously anticipated in Android. But with that said, the customers are lining up particularly around the world facing capability for computational photography, and and more or less saying that's just a feature of their new dual triple and quad cameras moving forward. And I think over the next 12 to 24 months is also a time period where, augmented reality, virtual reality applications are are potentially going to emerge, more visibly for consumer devices. And that will give other motivation to android suppliers to, adopt 3d sensing. Next question comes from Meta Marshall with Morgan Stanley. Great, thanks. Maybe just clarification and one question. On the clarification, should all the incremental synergies that you guys are talking about the kind of 30 that are remaining Should that mostly be in gross margins or should we expect some of that in OpEx? And then for my question, coronavirus aside on kind of the supply constrained products, how much incremental capacity could you be adding kind of on a quarter on quarter basis or should we be thinking incremental capacity that could be added? Thanks. Yes. So, on the synergies question, it will be in our gross margins. We're seeing most of the benefits coming through, in our cost of sales, as our operations team has been able to to continuously beat every target that we've put in front of them. So, so we should see that in the gross margins primarily flowing through. Our operating expenses, we're continuing to invest heavily in R&D, especially with the growth that Alan talked about earlier, and within our transmission product lines. And so some of it will be reinvested back in there. As far as your question on coronavirus, Alan, did you wanna that. Well, I think the question was really setting aside the coronavirus, the capacity growth on constrained products. I'd say on, you know, the biggest area for opportunity in my mind, well, two areas is our datacom chip, revenue that grew substantially quarter on quarter last quarter, but was still constrained. I can imagine, adding 50% to that capacity, over the next 4 to 6 quarters. And we're we're taking action to do that by adding capacity in our fab in Japan, moving to equipment from our San Jose fab to our Japan fab and things like that that'll give us that incremental capacity. I'd say the other big area is then the telecom transmission you know, as we shift to DCO modules, average selling price per unit is substantially higher than a ACO module given that we have a DSP in it. So that's one dynamic, but we are ramping up capacity there. We're also having to increase our capacity in our UK wafer fab that supplies all these photonic integrated circuit chips for our Coherent components and modules. You know, I hate to give a number on that, but, I could imagine a year and a half from now having 50% increased revenue and telecom transmission. So I think that the vectors are lining up and demand is very strong. Great. Thanks, guys. Next question comes from Troy Jensen with Piper Sandler. Hey, gentlemen. First off, congrats on, really good results here. Alan and team did a, you know, great job on the operating margins too. Thanks, Rohit. Hey, so I guess, and just on that point, just talk about stability of the operating margins here? I mean, what you guys reported here in the December quarter was pretty impressive, right, 28.8%. Just, about the longer term model, you've got all these cost synergies coming in, you're getting a better mix of products. What do you think operating margins look like in coming quarters? Yeah. Hi there, Troy. I'll start off. It's Wajid here. So, you know, what we talked about over the last couple of quarters is our goal is to improve our operating margins, year over year. And so we've been able to do that in fiscal Q1 We clearly, did that in fiscal Q2. And if you take a look at our guidance for fiscal Q3, I think last year, we were under 18% on operating margins and now we're guiding, 21% to 23% on lower revenues. And so our operating margin trajectory is going as planned. A lot of it is because, we're being quite disciplined, from a synergy standpoint, but when you hear capacity constraints, that also means that we're being quite disciplined from a pricing standpoint as well. And our general managers are doing a fantastic job of balancing that with, with customer requests and customer requirements. In addition to that, Alan mentioned earlier that we're putting in place capacity to increase, supply for telecom transmission products, as well as datacom chip products. And so because we've got so much leverage in our model, even though we're continuing to expect to invest in R&D, with that revenue leverage, we should see, operating margins improve. And the last thing is, as we look into the back half of calendar 2020, with increasing content that we're seeing on 3d sensing, and the margins you can expect on, world facing products. We expect to see operating margins benefit from that as well. So, like Alan said, everything's lining up and we're doing our best to execute to it. Right. I guess my hope to be that, you know, you guys can continue these year over year growth in, in the first half of next year, next fiscal year. You know, start to approach 30% model, but I know you won't touch on that. But, maybe just for my follow-up then, just can you hit on industrial lasers? Any hopes in that the fiber laser business starting to pick up on? Yes, I mean, as you know, the fiber laser pricing is pretty aggressive, really due to aggressiveness of the Chinese suppliers. That are putting pressure across the board on fiber lasers. That said, we do supply a very large percentage of those customers with the fiber laser chips that fuel those engines. And you can imagine those are at semiconductor type margins. And so we're going to continue to do that. I'd say that that there's a lot of new product introductions coming. As I mentioned, the Pico blade 3 or in new applications for us, in ultrafast cutting of OLEDs and, 5G antennas, as well as print circuit board via drilling. And so we're going to continue to invest in new products and lasers new fiber laser platforms that drive our cost to the point where, we needed to be, to keep up with the or actually exceed the competition. So I think, you know, we're we're seeing ups and downs because we have a pretty concentrated customer base, but I, as we enter into these new markets and new applications, our customer base should broaden, and we should see long term growth. Perfect. All right, Keith, it's a good work, gentlemen. Thanks, Craig. Next question comes from Richard Shannon with Craig Hallum. Hi guys. Thanks for taking my question. Maybe a quick question for Alan on the overall optical environment here. You just raised a convert. Got a nice balance sheet here. You've closed a nice acquisition of Claro here. I wonder if what your views are on further industry consolidation, specifically in Lumentum's participation in that. Do you do you expect or continue looking for acquisitions and potential large ones? I mean, I think we always look for acquisitions that provide shareholder value. I think the challenge with some of those are that you have to have a willing seller at the right price and we're gonna continue to have a funnel of, targets that we look at all the time. And when we reach agreement with one of them, we'll we'll let you know. I think that that industry is getting healthier. The dynamics are much healthier with a lot of the acquisitions that have already taken place. But I do think that there's still more to come, that will even even make the dynamics of the industry more healthy. I think we're or something you brought up is, is participate in the benefit of it. Not only can we participate in the benefit by acquiring companies and integrating and and achieving the synergies as we've done, but also by being a bystander and and others consolidating in the 3. Everybody benefits from from, there being fewer fewer players competing for the customer opportunities. Okay, fair enough. Thanks for those thoughts. My follow-up question is on 3 d sensing. Especially on the kind of the pricing dynamics you expect going forward throughout this year, your discussion on previous questions around competition suggests you don't see a big change in that environment. So are you expecting pricing curves kind of being similar at least on a like for like basis this year that you've seen in past years? Well, I mean, I think we continue to focus on driving our cost down, to satisfy our customers desire and need for lower cost solutions, especially as they add more content per phone or per device, I'd say. And so we're focused on maintaining our gross margins in that business and we're confident that continuing to come down on the price curve and cost curve will allow us to continue to have a huge share of that market, and happy customers. And so at the gross margins that we need. So I think from that perspective, I think as we refresh the products and we're expecting a pretty good refresh on all the products, most of the products I should say this this coming year, we have an opportunity for, you know, pricing to not have gone through 3 years of price reductions. And so I think from that perspective, we're pretty comfortable with where we are from a gross margin standpoint. Okay, fair enough. Thanks for taking my questions. Next question comes from Tim Savageaux with Northland Capital. Hi. Good morning. And, congrats on the results. I have a initial question on the demand front and maybe a quick follow-up on gross margins. And from a demand perspective, but to kinda get your thoughts on, you know, what appears to be, you know, almost historically strong telecom datacom demand. It looks like XC impacted the virus. She might be guiding up, you know, mid, maybe even high single digits in a normally seasonally down quarter, historically in the March quarter. We've seen that before kind of a very strong surge in China back a few years ago, but I wonder if you could characterize what's driving that. And whether it is, you know, going to be 5G drilling demand strength out of China or to what extent, you know, your own share gains or perhaps the new normal that you've previously referenced from an ASP standpoint are driving what looks to be pretty extraordinarily strong demand in telecom and data. Yes, I'd say that, we have a competitive advantage with respect to a lot of our products and technologies that that drive demand. And in particular, if you look at our datacom chip business, we have and enabling technology with our EMLs, to really drive, next generation product introductions at 400g for data center. So I think we're seeing a lot of strength in hyperscale data center growth. And we're in the early stages of 5G demand, using similar type of technology and chips. And so, I'd say we're on the front end of that. But the demand across the board is quite, quite strong on datacom chips. On the telecom side, again, I think it's a it's a differentiation standpoint and our ROADMs are, you know, we have a a huge lead in technology and product on that. And on our transmission side, we're enabling customers to produce 800 gig transmission coherent transmission with the enabling technology at our photonic integrated circuit level. So I think that's what's driving a lot of the demand and having the leadership that we had had on ACOs and now hopefully on DCOs in the coming years will drive, incremental growth in our telecom transmission business. Yes, I think Alan. Thanks. Hit the nail on the head and summarized it well. Strong market, fewer competitors and very differentiated products, all 3 to 2 or all 3 compound, positively. Sounds like a decent environment. And to follow-up on that datacom chip, maybe that was the real surprise driving gross margins, maybe a little bit better than you expected, but a lot better than I expected, maybe 300, 400 basis points. With optical com margins looking to get into the mid-40s here, would it be fair to characterize those datacom device driver is sort of key to that. And as you look forward, into at least some growth, even with the virus, impact in the March quarter. From a mix standpoint or any other is there any other reason to believe those margins would decline sequentially in optical comm or, you know, or or is most of the sequential gross margin decline a result of lower 3d sensing volumes and margins? Yes, so let me start off and then Alan can, can jump in. So, historically, we've seen a seasonal line in both revenues and, gross and operating margins going from our fiscal Q2 to fiscal Q3. And just a reminder, last year, our operating margins for fiscal Q3 were under 18%. And so that normal seasonality does give us a normal gross and operating margin come down because we have a pretty substantial manufacturing infrastructure, that we've, that we've got to support. And so revenue levels do matter. We provided guidance from March to the best of our abilities. But what you've heard from Alan is that we've got a number of tailwinds and more capacity because we see demand there is giving us a tailwind, 3ds growing into the back half of the year. That's giving a tailwind. We've got acquisition synergies that are flowing through all of calendar year 2020. And then we've got top line growth and transmission that's going to give us leverage on the top line and allow us to have better operating margins as the calendar year flows through. So we've got everything working in our favor in order to help us improve gross margins and resulting operating margins. I mentioned earlier that we are investing a little bit more in R And D, especially in transmission business. But that shouldn't be so much that it offsets the leverage and the tailwinds we see in datacom 3ds as well as acquisition synergies. So, where it's going to be in March, we've guided to, but what we see for the balance calendar year 2020, I think you've got, kind of all you need to help you with your model. Thanks. We've reached the end of the allotted time. I will now turn the call back over to Mr. Alan Lowe. Great. Thank you, operator. We regularly discuss our business at investor events. These events are listed on our website and the investor section and are regularly updated. This concludes our call for today. We'd like to thank everyone for attending, and we look forward to speaking with you again in another few months. Thank you. Ladies and gentlemen, this concludes today's conference call. Thank you for participating. You may now disconnect.