Good afternoon, everyone. Thank you for joining this session. Really delighted to have Alan Lowe, CEO of Lumentum, join us this afternoon. I'm Vivek Arya from BofA Securities. And as usual, I'll go through my questions, but please feel free to raise your hand if you would like to bring anything up. Really warm welcome, Alan. Really appreciate you joining us at our conference.
Great. Thanks for having us.
And, maybe let's start at the high level. Just maybe give us a state of the union, Alan, as you see in terms of end market demand across your cloud and telecom and industrial tech markets as you look into the second half.
Sure. Well, certainly, the cloud is the most exciting part of our markets, and especially with our acquisition of Cloud Light and getting this into directly into the hyperscalers and the AI infrastructure players. I'd say that's an area that we're investing deeply in, both in R&D, as well as infrastructure and capital, in preparation for customer diversification and ramping of new products at 200 GB per lane transceivers. And so that's a very exciting time, where I'm spending a great deal of my focus and effort, and the team's focus and effort, to make sure we capitalize on that opportunity, as the demand is very broad.
Not only from the AI players, but also from the cloud players, because they tend to lag the AI players, and so AI next generation products are at 1.6 T, b ut there's a big market for, with that is emerging, and growing again at 400 GB and 800 GB, so that's an exciting opportunity as well. On the telecom side, you know, we're continuing to see, you know, inventory being burned off at our customers and at their customers. And eventually it'll, it'll run out, but, you know, still haven't seen the end of that yet. But, you know, encouraged by the progress. But, you know, the bandwidth demands at telecom networks and as well as in between cloud data centers is continuing to grow very rapidly. So, you know, once we get through the inventory situation, I think we'll be off and running in that space.
And also, the new products are seeing strong demand, where there isn't inventory in the channel, so that's encouraging. And then industrial tech, you know, I think, that's really two areas. One, industrial lasers, and that has inventory issue as well, but we're encouraged by how that's getting situated. And then in our consumer market, you know, we had a very large market share, and now we share that market with two other players. So that's, you know, gone from a very large customer to less than 5% of our business. So I think that that headwind is behind us, and I think we look forward to keeping that at a low level of our revenue, but still contributing in a meaningful way.
Got it. You mentioned, we are at the start of the 1.6 TB per second, transceiver generation. Maybe walk us through, Alan, like, you've been in this industry for a long time, how is this transition different from what you saw as the industry moved towards 400 GB and then 800 GB? So first of all, what does it mean from an industry perspective, and then specifically, how does it impact Lumentum's, prospects?
Yeah, I think it's different in that we've seen in the past, the transition from 400 GB to 800 GB happened a couple of years ago, and now we're already going to 1.6 TB, where, you know, from 400 GB to 800 GB probably took four years. Now, we're doubling in two years. And so I think from that perspective, it's all about the fundamental technology that enables that transition to be so much more rapid. And so, you know, the combination of Cloud Light and Lumentum together, where Lumentum really has the enabling technology at the chip level both on EMLs as well as silicon photonics and CW lasers. So that positions us quite well along with Cloud Light.
And so as we now are a U.S.-headquartered company, making transceivers with manufacturing outside of China, we're getting a lot of traction with respect to the really the leading-edge hyperscalers and infrastructure providers, on how do we make sure we're ready for that 1.6 T ramp, and those qualification samples coming out of our Thailand facility this summer are really the next key milestone to that progression. So it's an exciting opportunity for us and one that we're, again, investing deeply in.
I see. How do you see the content change as you double the speed? I don't know whether it's quite a double of what you saw in 800 gig, but how does the content change? And then the other aspect of it is that, you know, we do see optical transceiver price compression come down. So you think with 1.6 T, it'll kind of follow that historical compression levels that we have seen, or do you think there'll be something different about 1.6 T?
I think it depends. I think right now, as I look out over the next couple of years, I see capacity constraints in lasers and indium phosphide worldwide, based on the customers' demands today, says we're gonna have a problem as an industry to be able to meet the demands, especially as you look at whether it's CW lasers, which are a bit bigger chips, that take up more wafer, or using 8 EML lasers on a 1.6 terabit. That is gonna drive the demand for indium phosphide wafer fab capacity that's gonna limit the ability of the demand to be met. And I think that puts us in a good position, given that we have our own capability, but we're also I think in the first-to-market perspective with respect to the 200 GB per lane EMLs and the high-power CW lasers.
So I think from that perspective, having the vertical integration capability gives us a good position on the 1.6 TB ramp.
Got it. And, and as you mentioned, the 200 GB EMLs are ramping, actually right at this time, right? So it's kind of the sweet spot of when, when the ramp is. How big can 1.6 TB be this year, or is it more of a 2025 growth driver, you think?
Yeah, it's more of a 2025 thing. I think, you know, we've internally qualified our EMLs today. We've tested them at our transceiver R&D team. We've sampled EMLs to all the transceiver companies, gotten very positive feedback. But that's step one. Step two is providing the transceivers to our customers, and that's gonna happen this summer, or our transceiver customers—
Nice.
—supplying them as well. And then it takes probably three to six months before meaningful revenue comes. And so I'd say, you know, ramp really towards the very end of this year but more meaningful into the March and June quarters of 2025.
Got it. One thing that you presented at OFC was a $16 billion addressable opportunity for Cloud Light. Could you help unpack, right, what are the big kind of moving pieces of this $16 billion by 2028?
Yeah, we said that it's $16 billion for the cloud itself, not necessarily—
Cloud, oh, sorry.
So, the transceivers is a big part of that, and it's growing, the 400 GB and above transceivers is growing very rapidly. But I'd say also that the ZR market for Data Center Interconnect is going to grow rapidly as well, as data centers need to find power, and they can't put them next to each other anymore. So there's gonna be more demand for 400 GB, and now soon to be 800 GB ZR Data Center Interconnect, as well as the optical switching inside the data centers. We include that into that $16 billion, and I think all of those together are big opportunities that are really in our wheelhouse to be able to provide lower power, lower cost infrastructure for the hyperscalers and AI applications.
Today, transceivers are $4 billion-5 billion, and, you know, that's gonna grow 30%+ a year at the high end. And so that gives us a big chunk of that growth. And, you know, we're a small player today, and I think we have a very good opportunity, given our manufacturing infrastructure and capability, to really grow a significant amount of share there.
What is your share, do you think, in optical transceivers today, and what are your aspirations?
Oh, our share is less than 10%.
10%, right.
Yeah. And, you know, I think that there's no reason why we couldn't be one of the top three transceiver manufacturers in the world. And I think we're certainly positioned to be able to do that. As well as with the geopolitical challenges of the U.S. and China, I think, you know, as we talk to our customers, the faster we can get out of China manufacturing and really establish a core infrastructure in Thailand, the faster that we'll get the business. And that's why we're moving so rapidly on, you know, establishing our phase one, which is well underway, and now we've kicked off our phase two, which is a new, very large three-story building in Thailand, to be able to really kind of implement incremental capacity over time.
Got it. One thing that we have seen is just that the size of these clusters continues to grow. Right? What used to be, you know, 10,000 is now 30,000. You know, we had NVIDIA present earlier, and they spoke about 100,000—
Yeah.
—right, cluster. What does that mean for attach rate of optical transceivers, right? I would imagine that there is an exponential growth factor there.
Yeah, it is, and it's - that's what leads me to my concern about the indium phosphide capability in the world to be able to interconnect all these. Now, a lot of those are still copper interconnect, so it's very, very short-reach stuff, but, this still doesn't diminish the need for an exponential growth rate of optical interconnects on these huge clusters and, and then connecting the clusters in the data centers. And so that, that drives ZR capacity and, and so it, it's, it's a very exciting time, and I think one that we're positioned very well for.
Got it. Is any of your telecom output fungible to become datacom output? Like, can you make that conversion over?
I would say yes, and we're already looking at that, and we have really three main wafer fabs. And so one of the things we're looking at is, how do we maybe share capacity on what's traditionally been our telecom wafer fab to support the datacom growth? Because that's really very rapid. And so, you know, maybe doing part of the wafer fabrication in our traditionally telecom fab and then transferring it to finish in our datacom fab. So we're looking at that. On the back-end side, you know, I think with the telecom slowdown and the inventory consumption, that's actually been an opportunity for us to use these clean rooms that we had built for telecom to use for datacom. And so that's gotten us the rapid ability to make prototypes in Thailand more rapidly than we would have otherwise.
Got it. When do you see your Thailand facility become tangible to your results? Is that again, something that happens next year, or you see it happening this year?
Well, I think tangible to our results are getting the parts qualified. That's very tangible because it's a real leading indicator. And so getting the first prototypes out this summer is a tangible benefit. I think in contribution from a revenue standpoint, I think, you know, that's really more late in December quarter, but more meaningfully in the first half of next calendar year or the second half of our fiscal year.
. Got it. Makes sense. Is Cloud Light past the product transition issue that it had at the large customer when you acquired the company?
Yeah, I mean, I think with any new product introduction, there can be challenges and inventory changes and such. But I think for the most part, that's behind us. Now we're focused on getting the qualifications done and the capacity in place to ramp these new products, of which, you know, some are already at 200 GB per lane. So it's really an exciting time, and one that will ramp through the fiscal year quite steeply.
Got it. What helps, Alan, to make optical transceivers more accretive, right, to the business? Because you mentioned that, you know, there are two large suppliers, right, right now. You know, you want to be a third supplier. So how do you make sure that it doesn't, you know, end up becoming, you know, just a pricing game? Because there's gonna be a lot of volume, right, required.
Yeah.
So are the products from the three companies that different? You know, how do you make sure that you are able to make this business accretive over time?
Yeah, I'd say really two things. One of which is, how do you build the product? And one thing that really attracted us to Cloud Light was their capability to design and build their own equipment to align and manufacture transceivers. And so having that capability of low-cost equipment, high-precision capability, bringing in wafers on one end of the factory and transceivers coming out of the other end of the factory, was very attractive to us. And so you combine that with Lumentum having the core technology at the chip level, that's very different than most of the Chinese module manufacturers who rely on people like Lumentum to sell them at market-priced EMLs or photodetectors or other components, which they're very good at, so don't get me wrong. They're, they're very, very good at that.
But I think from that standpoint, you know, vertical integration, best manufacturing capability at lowest cost CapEx is a good combination for having lowest cost, capability. Now, we've got to get the volumes up so we can get that scale, and I think that's what we're focused on in the next 12 months.
I see. And how's the visibility? So, for example, if let's say, you know, whether you have NVIDIA, right, ramping with Blackwell, or you have AMD, right, ramping with their MI products. H ow early do you know of how your share will progress in a given year? Do you know that, like, six months ahead, nine months ahead? How far is your visibility into that, share gain opportunity for next year?
I think it's really dependent upon getting product into their hands and feedback that it works.
Right.
And then it's typically, you know, from the time we get qualification samples in, and I'm not saying a specific customer, into any of our customers, to the time where we have to launch, is typically about six months. And that's, you know, enough time to get our capital in place, and the long lead time capital that we're placing orders at risk today 'cause we're confident in our capabilities. But I'd say it's kind of that six-month period of time.
And, you know, given the investment that we're having to make, you know, on a capital front, we're having those longer term discussions with customers around, you know, we're gonna buy all this capital because you want us to, and we, and we want to as well, but can you guarantee we're gonna be able to use that for some period of time to get that return on investment back? And so those, those discussions will happen soon as well.
Do you think the customers are open to making allocation and share decisions early for next year?
I think so. And we haven't tested that water deeply yet, but given the, the feedback we've got and the desire to have non-China manufacturing and, the fact that I think everybody's starting to realize that there's gonna be an indium phosphide shortage in the next several years, you know, puts us in a good position to partner with customers and have a win-win situation on both sides.
Makes sense. On the telco side, we have seen, right, not just for Lumentum, but across the, you know, industry, across your peers, this kind of consistent drip down in telco. How's the visibility right now? Like, do you think that, you know, the industry or Lumentum is in a better position to predict when you are done with that inventory burn? Which I know is always business is always tricky.
You know, when this really started, which was over a year ago, I would have thought it would be done by now, but I was wrong. So I'm hesitant to predict when everything gets fixed, but I will say that bandwidth demand is really not slowing. And so almost regardless of when the inventory gets taken care of, whether it's next quarter or by the end of the calendar year, which is kind of in that timeframe from my perspective, you know, we'll start shipping in to our customers what they're shipping out and deploying. And I think, you know, we'll get back to a undepressed level of telecom shipments. Today, it's terrible, right? It's very, very low compared to where we were a year or even two years ago. Two years ago, we were probably over-shipping consumption. I think that this last four or five quarters has taken care of a lot of it, but it's still not all gone.
It's interesting to compare, you know, what we are seeing in the telco end market versus what we see in the industrial, you know, end market. A lot of your industrial peers are saying, "Well, you know, we could have better than seasonal quarters because, you know, it's not like the industrial economy, that we were under shipping demand. Do you think that whenever telco bottoms, are you under shipping to an extent that there could actually be a hockey stick recovery, or that is not that easy to say right now?
I think it's typical, right? And when we've seen a slowdown in the past, it's like the pendulum shifts the other direction, and then all of a sudden, you get the: "What do you mean you don't have capacity and people to build stuff that I need?" And so, you know, I'm half kidding by that, but it, I've seen it too many times, and I would expect that's probably gonna come. We don't know when it's gonna come, but I've– You know, we're already seeing that on new products. So products where there isn't inventory in the channel, you know, new higher-speed coherent components, new integrated C+L band ROADMs, where, you know, the bandwidth for a given fiber is reaching Shannon limit. So you need to be able to do more wavelengths over a fiber.
And so those new products were a year ago we weren't shipping them, the demand is quite strong for those. So those kinds of things are good indicators that bandwidth demand is still strong. We just got to get rid of some of the older inventory.
Last question on telco: Is there a specific recovery catalyst? You know, like, in the past, we could have said, "Oh, there is 5 GB, or, you know, there is some broadband deployment." Is there some specific catalyst that you think you're excited about that can help drive recovery there?
Yeah, well, I'd say AI, right? I mean, everything is AI. And, data centers that are having to be built further and further apart means you know, we're seeing strong demand for submarine amplifiers. And so we sell pumps to people laying cables at the bottom of the ocean. That is very strong right now. We used to call that telecom, but it really is datacom, right? It's satisfying datacom. And so those kinds of things, ZR, 800 GB ZR, those kinds of things are gonna be very strong catalysts for what we traditionally had called telecom, but really is driven by datacom. I'd say on traditional telecom, I don't know yet. And I'd say that the cable MSO market is also slow.
And so, you know, I think we'll see what drives that. But I think, you know, again, it's telecom bandwidth is not slowing. We should see a recovery back to the consumption level when that inventory is gone. And, you know, I think in calendar 2025, that's for sure gonna happen.
Got it. I said last one. Actually, I have one more on telco, which is kind of the non-U.S. demand. You know, China in the past had been a big buyer right, of optical components for their wired rollouts. Where is China demand standing right now?
You know, it's actually quite strong, except we're restricted from who we can sell to. So we used to have a large customer in China that was a teens customer of ours, that is no longer a teens customer of ours at all. And so we are selling to everyone else, and that demand is quite good. And, you know, high-speed coherent components, coherent modules, integrated C+L ROADMs are being deployed by the three major carriers in China. And so that's a good growth catalyst for us. But again, we're not participating with the largest Chinese network equipment manufacturer today.
Understood. On NeoPhotonics, what did NeoPhotonics add in terms of value to Lumentum so far? And then in terms of the cost synergies, where are you in that? I think you have achieved about $70 million, right? So when do you plan to achieve the remaining $30 million or so?
Yeah, I'd say that NeoPhotonics came with the absolute best narrow linewidth tunable laser in the world that has very large share of both the ZR market as well as the embedded market. So for the longer haul, submarine, all of those, regional and metro, it's by far the best. Came with a wafer fab in Japan that made CW lasers. And so those are going into the silicon photonics-based transceivers and into, you know, again, our product in-feed into the Cloud Light transceivers. So that's been very successful. ZR got us into the ZR market in a meaningful way as well. So you're right, we're about $70 million into our $100 million synergy target. We've closed a couple of China factories.
We've built up a bunch of inventory to be able to solution the transition to our new factories. And as we bring up the new factories in Thailand or production in Thailand, that will help us with that synergy, as well as the fab. We're consolidating the fabs in Japan, and that'll get rid of some fixed costs. And so I'd say that by, you know, the second half of our fiscal year, we should see that $100 million of synergies from that deal.
Got it. Makes sense. On gross margins, right now, low- to mid-30s%, right, or so. What is the plan to, you know, get it back to the 40%? What is the role of mix versus the role of just, you know, fab utilization, right? What are the different building blocks of, getting gross margin down?
Yeah, I'd say that, you know, we used to be higher than 40%, and that was when we had a very heavy mix of chip-level revenue. We're starting to see the chip-level revenue coming back with EMLs and CW lasers—
Right.
— and I think, you know, that could be a significant contributor to gross margin improvements. What we said at the OFC, our Investor Day at OFC, was getting revenue back to $425 million on average for a quarter would get us into the teens operating margin. More longer term, getting to, say, $600 million a quarter, could get us to that 40/20 gross and operating margin target. And I think, you know, we're, as we said on our last earnings call, we should exit calendar 2025 at $500 million. So we'll be in the teens if that happens or when that happens, and then, you know, growth from there will get us back to the model that we'd like to get to, which is 40% gross margin and 20% operating margin.
Got it. One question I had about your EML output, do you plan to keep it mostly for your own transceivers, or do you think that you will have it available on a merchant basis also?
Most of our EMLs go to the merchant market today. And so, you know, as we look at 1.6 TB, we're making both silicon photonics transceiver as well as EML transceivers. And customers will choose, and, you know, cost will dictate what is the best solution. So, you know, we're continuing to sell to the merchant market, and that's a big part of our datacom business today, given, you know, the chips that we sell today and kind of the record output we had last quarter. We're gonna continue to grow that output, but as I look forward and as I talk to my customers, I see that, again, that's gonna be a challenge for us.
So we're trying to go to bigger wafers and add capacity, but I think we're still gonna have some challenges keeping up with the overall market demand, both external merchant market as well as internal. So, you know, we have some very, very strong partners that we have to take care of and make sure they continue to get the EMLs they need. I think we can then form some long-term partnerships with them to make sure that the capacity we've put in place does get consumed, and that they have the capacity they need to satisfy their customers.
All right. You mentioned, Alan, exiting next year at the $500 million run rate. What are the underlying assumptions about the datacom versus telecom mix in that, and industrial tech, of course?
Yeah, I'd say, you know, industrial tech, it's gonna grow slowly, and 3D sensing, we're not counting on any growth there. So I think as lasers recover and we get into new applications and EV display and solar applications, our Ultrafast business should grow rapidly. But that's a small part of going from where we are today at just over $300 million to 500 million. I'd say the chip business, you know, we should grow that, both from an ASP standpoint, at 200 GB per lane, those ASPs are higher, but we're also gonna increase output, so that should have a considerable step up. And then telecom, just getting back to, you know, selling into what they're selling out, that should have a meaningful impact.
and then, you know, you add all that together, and you don't need much more datacom transceivers. So, you know, we land one new datacom transceiver company, or customer, you know, that's, that's well in, within our reach of getting to $500 million. And if we win two, that's a whole different story.
Who makes the decision on whose datacom transceiver will be used? Is it something that's specified in a reference architecture by these companies who are supplying accelerators, or is it done by the end cloud customer?
It depends, but I'd say that most of them are done individually by the cloud customers. Now, there's a bunch of cloud customers that are buying the entire cluster with everything that they could get, but, you know, so those are determined by the, what we call the AI infrastructure companies. But there's also, you know, a large cloud business, so it's non-AI. It's, it's just now deploying 400 GB and soon to deploy 800 GB. That's a big market and one that had slowed last year, but I think is starting to really take off and will consume a lot of our transceiver capacity at 400 GB and 800 GB, and those are new designs for those customers as well.
Got it. And then finally, Alan, M&A has been, you know, key part of your strategy. Company still has a very strong balance sheet. So how do you look at, does this industry downturn kind of open up opportunities for you to look at? Like, it's—d o you think that staying focused on just the comms market, right, whether it's datacom or telecom, is that the right strategy for Lumentum? Because, you know, your competitors have kind of branched out into many things, right. So do you plan to stay focused, or do you plan to be more diversified? What, what is the strategic way of thinking about that?
Yeah. I mean, from an M&A standpoint, I'd say, o r from a capital allocation standpoint, I'd say we're focused on making what we have successful, and that means investing in Thailand, investing in infrastructure, investing in capital, investing in R&D, so that we can, you know, get the return on the investments we've made to date. And that's primary, our primary focus. That said, you know, that doesn't eliminate our ability to look at things, but I'd say that our primary focus today is to make the transceiver business very successful, grow our EML and CW laser capacity, and then, you know, get our margins up to where they need to be before we take on anything of meaningful size.
Got it. Stay focused. Then finally, I think you did mention that, the goal is to get to the mid-teens EBIT by the time you get to the $500 million. So it just final question on operating expenses. How are you managing expenses as the company comes out of this downturn?
Yeah, I think we are trying to stay around $100 million quarterly operating expenses. And that'll grow slightly as we grow our top line because we need to continue to invest in R&D. So, SG&A will grow slower, and revenue will grow faster than our overall OpEx. That said, I'd say, you know, as we get to, say, a $600 million quarter revenue, you know, OpEx should stay at that 20%, so $120 million. So, you know, as we go from where we are today to $600 million, I think we're gonna have some growth, mostly in R&D.
Interesting. Great. With that, Alan, thank you so much for your time. Really appreciate it.
Great. Thank you.