Earnings Call: Q3 2021

Jul 29, 2021

Welcome to MACOM's Third Fiscal Quarter twenty twenty one Conference Call. This call is being recorded today, Thursday, 07/29/2021. At this time, all participants are in a listen only mode. I will now turn the call to Mr. Steve Ferrante, MACOM's Vice President of Strategic Initiatives and Investor Relations. Mr. Ferrante, please go ahead. Thank you, Olivia. Good morning and welcome to our conference call to discuss MACOM's financial results for the third fiscal quarter of twenty twenty one. I would like to remind everyone that our discussion today will contain forward looking statements, which are subject to certain risks and uncertainties as defined in the Safe Harbor for forward looking statements contained in the Private Securities Litigation Reform Act of 1995. Actual results may differ materially from those discussed today. For more detailed discussions of the risks and uncertainties that could result in those differences, we refer you to MACOM's filings with the SEC. Management's statements on this call will also include discussions of certain adjusted non GAAP financial information. A reconciliation of GAAP to adjusted non GAAP results are provided in the company's press release and related Form eight ks, which was filed with the SEC today. And with that, I'll turn over the call to Steve Daley, President and CEO of MACOM. Thank you and good morning. I will begin today's call with a general company update. After that Jack Kober, our Chief Financial Officer will provide a more in-depth review of our third quarter fiscal year twenty twenty one results. When Jack is finished, I will provide revenue and earnings guidance for the fourth fiscal quarter and then we will be happy to take some questions. Revenue for our third fiscal quarter was $152,600,000 and adjusted EPS was $0.57 per diluted share. We are pleased to achieve 60.3% gross margin and 28.7% operating margin. We believe that our culture of continuous improvement along with our disciplined financial management and investment in developing differentiated products will support further gains in market share as well as improved profitability in the quarters and years ahead. Our Q3 book to bill ratio was 1.3 to one and our turns business was approximately 16% of our total revenue. We believe our strong Q3 bookings reflect market share gains as well as the current industry trend of customers placing orders well in advance of demand due to continued supply concerns. As most are aware, the semiconductor industry and our business are currently being challenged on multiple fronts. First, we see exceptionally high utilization levels at many of our wafer foundry suppliers, which results in extended ordering lead times. Second, we see pockets of component shortages due to manufacturing capacity limitations. This is especially true with certain package and PCB technologies. And third, we are once again seeing COVID-nineteen cause operational disruptions across Southeast Asia where many of our assembly and test suppliers are located. Our operations, planning and logistics teams are doing an excellent job managing these issues and working to meet customer commitments. We believe we can meet our near term targets. However, given the deteriorating situation I just noted, we do see a higher execution risk profile in Q4 when compared to last quarter. Our fiscal Q3 revenue by end market was generally as expected and included industrial and defense at $71,400,000 telecom at $48,000,000 and data center at $33,300,000 I and D was down 1% sequentially, telecom was up 14% sequentially and data center was down 8% sequentially. For the first three quarters of FY twenty twenty one, I and D was up 40%, data center up 27.6% and telecom down 8%. Our industrial and defense end market performed well in Q3 with only a modest sequential decline following two quarters of strong double digit growth. Demand is being driven by industrial applications including test and measurement and medical systems along with continued traction in various U. S. Defense programs. Our strategy of developing compelling and more innovative products is opening up new opportunities for us across our existing industrial and aerospace and defense customer base. Additionally, we continue to make progress in our campaign to better leverage our entire portfolio within the IND market. We seek opportunities that will create a diverse, sustainable and profitable business in the IND space based on our differentiated product lines including RF power, millimeter wave mimics, high speed data ICs and optical components. We will also begin evaluating select subsystem opportunities to further leverage our IC and system knowledge. Our telecom end market revenue was up in Q3 driven by a modest increase in five gs product shipments along with increased product shipments in PON, cable TV and satcom markets. I'll note that over the last month, we've been tracking the five gs awards to support the next phase of China's domestic five gs network deployments. As a reminder, MACOM has a comprehensive five gs solution portfolio, which supports coherent metro long haul and fronthaul optical hardware as well as a suite of RF products used within the radio base station. The specific opportunities for MACOM vary depending on the base station configuration, regional frequency bands and details of the network architecture being deployed. For example, within China, Five gs deployments at two point one and two point six gigahertz typically utilize 25 gs fronthaul links and deployments at 700 megahertz typically utilize 10 gs fronthaul links. In aggregate, we believe five gs represents a large secular growth trend for MACOM over the next few years as the worldwide demand for improved connectivity at higher data rates grows. We also expect contribution from 10 gs PON, cable TV infrastructure and SATCOM, primarily driven by strong end market dynamics, new product introductions and market share gains. Our data center end market revenue was down in Q3. As expected, traction with our new 200 gs and 400 gs products and gains in international 25 gs and 100 gs deployments was offset by a decrease in demand for our 100 gs products. We believe the 100 gs slowdown is related to inventory consumption at our largest customer. In fact, we believe 100 gs volumes will remain healthy for the foreseeable future and we continue to secure new design wins within the 100 gs segment. Long term, we are confident in our data center growth prospects with our leading CDR, driver and TIA product portfolio and with our strategy to expand into new applications such as active copper cables, which is an emerging and very high volume short reach typically less than three meters 400 gs and 800 gs data center segment. At this year's Optical Fiber Conference, we announced the availability of a two chip analog PAM4 solution for 200 gs and 400 gs modules and active optical cable applications within the data center. This is our second generation product for 200 gs and 400 gs PAM4 applications and this chipset solution provides customers an alternative to DSP based solutions with lower power consumption, lower latency, lower cost and utilizes a smaller footprint. We believe this chipset is ideal for short reach applications within the data center. Notably, in May, '1 of the three projects approved by OIF or the Optical Internetworking Forum is a project for linear interface directly from the service the server switch ASIC to the optical front end module, effectively eliminating the DSP component from the optical module and moving the functionality into the switch ASIC. This interface was proposed by several leading cloud service providers, IC, optics and IP vendors to enable a low cost, lower power, lower latency solution for next generation interconnects. MACOM is working to bring to market IC solutions for this effort and the OIF's project aligns well with MACOM's technology roadmap to achieve 100 gs per lane analog solutions. Next, I would like to provide a progress report on various important topics. I am pleased to report the transfer of the Air Force Research Labs zero point one four micron GaN on Silicon Garbide process into our Lowell wafer fab is on schedule. We have successfully completed frontside development including the formation of the special T gate structure using complex photoresist stack ups and e beam exposure technology. This effort is a top corporate priority and our world class team of dedicated process and device engineers in the fab have been working around the clock to complete the transfer so we can bring this technology to market. As a reminder, this technology is ideally suited for very high frequency, very high power MMIC products and we are targeting aerospace and defense, test and instrumentation and SATCOM markets. We believe that this process will establish MACOM as a major supplier of millimeter wave GaN MIMICs. Putting this process into production is the first step of our multi prong millimeter wave GaN technology strategy. Recently, we received and are currently testing our first GaN on Silicon devices from ST's wafer fab. We expect to receive additional samples over the next few months as ST works on process experiments and refinements. We believe we will need multiple iterations in order to achieve product success and we continue to view this as a long term and high risk effort. Early in the quarter, we announced a new vendor relationship with Modelithics. Modelithics has set the gold standard in the RF and microwave industry for producing accurate device and product models that system engineers and designers can rely on when they simulate their designs. With Monolithic support, we have released a series of device models on our new MACOM pure carbide GaN products, which will aid our customers to accurately simulate their designs. Quick access to product samples and accurate models along with outstanding customer and application support will help ensure we win market share. Next, I'll highlight that our Lightwave R and D team continues to make steady progress on the development of our 400 gs silicon photonic ICs. Investors should also view this effort as a long term technology development with first products expected to be introduced late next fiscal year at the earliest. Our product introduction schedule is driven in part by the production readiness and the stability of the silicon photonic process we are using. We will continue to work with our foundry partner to perform producibility experiments and resolve technical issues as they emerge. And when the process is ready, we will release our designs to production. During fiscal Q3, we announced the production release of our new high speed 25 gs and 50 gs DFB laser portfolio, following our successful completion of Telcordia qualification testing. The new laser platform trademarked clear diamond lasers is based on MACOM's Etched Facet Technology or EFT technology and utilizes a new single ridge design for enhanced performance and reliability. The portfolio includes over 50 laser products, which support multiple five gs infrastructure applications, CWDM6, MWDM12, LWDM12, 50 gigabits PAM4 and thirteen ten BiDi. We are pleased to report that multiple customers have successfully finished their five qualifications with our lasers and we believe this will support revenue in the coming quarters. Looking forward, as the next generation data center and high performance compute architectures evolve, we are seeing growing interest in our high power CW lasers and our ability to produce CW laser arrays. Next generation architectures will inevitably increase the data throughput in a smaller form factor, which creates thermal challenges for the system specifically the laser. MACOM's team is working on novel semiconductor and package technology to support these new laser array requirements and we believe we have properly aligned our laser road map with industry needs. Our future financial performance is dependent on launching compelling new products. During Q3, we launched over 30 new products and we remained on pace to release more products in fiscal twenty twenty one compared to last fiscal year. We showcased many of these products at the International Microwave Symposium or IMS in Q3 where we successfully held many demo sessions with customers showcasing the breadth of MACOM's technology. Investors should understand that our growth strategy includes further diversifying our business. This includes launching new product lines as well as further penetrating or entering adjacent markets including the automotive market. In support of our automotive growth strategy, I am pleased to report we successfully completed a major milestone in our certification process in Q3 and we believe we are on schedule to be fully certified before the end of calendar twenty twenty one. This will open the door for customers to evaluate our Lightwave, RF and microwave, kilovolt capacitor and high speed analog technologies, which are ideal for automotive applications such as sensors, LiDAR, under the hood power management and autonomous driving applications. Jack will now provide a more detailed review of our financial results. Thank you, Steve and good morning to everyone. We established additional financial records for the company during the third fiscal quarter ended 07/02/2021 with adjusted gross margins exceeding 60% and adjusted operating margin over 28%. We also continued our sequential revenue and earnings per share growth. We are very proud of the hard work, dedication and focus from the entire MACOM team, which has resulted in the establishment of these records. Revenue for the third quarter was $152,600,000 up 1.4% quarter over quarter. The sequential improvement in revenue was driven by increases in the telecom end market, partially offset by a modest decline in the data center and industrial and defense end markets. On a geographic basis, approximately 46% of both our fiscal Q3 and fiscal year to date 2021 revenue was from domestic customers. This represents an increase from the approximate 43% of sales to domestic customers during last year's nine month year to date period. Our Q4 guidance implies we are on track for an estimated 14% revenue growth in fiscal year twenty twenty one and our business trends continue to appear strong looking forward to our September fourth fiscal quarter of twenty twenty one. As Steve highlighted earlier, we are currently facing a higher number of business risks and challenges. However, we believe our guidance and outlook for our fourth fiscal quarter take these challenges into consideration. Adjusted gross profit in fiscal Q3 was $92,000,000 or 60.3% of revenue, up 110 basis points sequentially. We are excited to have exceeded the 60% adjusted gross margin level and view this as a key accomplishment for the company. The improvement in adjusted gross margin underscores our continuous improvement efforts across the business. Looking ahead into Q4, we see opportunities to further improve our gross margins. Total adjusted operating expense was $48,100,000 consisting of R and D expense of $30,300,000 and SG and A expense of $17,800,000 Total operating expenses were sequentially up $800,000 from fiscal Q2 levels. We continue to invest in new product development and other growth opportunities for the company, while carefully managing our discretionary spending. Adjusted operating income in fiscal Q3 was $43,900,000 up from $41,800,000 in fiscal Q2. Adjusted operating margin was 28.7% for fiscal Q3, sequentially up from 27.8% in Q2. As noted earlier, this adjusted operating margin represents a new record for MACOM since we went public back in 2012. We expect a combination of top line growth, expanding gross margins and or stable operating expenses to provide the opportunity for continued increases to operating leverage in the fourth quarter of fiscal twenty twenty one and into fiscal year twenty twenty two. Depreciation expense for fiscal Q3 was $5,800,000 and adjusted EBITDA was $49,700,000 Trailing twelve month adjusted EBITDA increased again in our fiscal third quarter to $182,000,000 as compared to $169,000,000 for fiscal Q2. Adjusted net interest expense for fiscal Q3 was $1,400,000 down $2,500,000 from fiscal Q2. Interest expense benefited from a full quarter of lower interest expense after our $100,000,000 debt pay down in Q2 and the lower 0.25% interest rate associated with our new $450,000,000 convertible notes. Our adjusted income tax rate in fiscal Q3 was 5% in line with our expectations and resulted in an expense of approximately $2,100,000 Our cash tax payments were $700,000 for the quarter. We expect our adjusted income tax rate to remain at 5% for the remainder of fiscal twenty twenty one. Fiscal Q3 adjusted net income was $40,300,000 compared to $36,100,000 in fiscal Q2. Adjusted earnings per fully diluted share was $0.57 utilizing a share count of 70,900,000.0 shares compared to $0.51 of adjusted earnings per share in fiscal Q2. Now moving to balance sheet and cash flow items. Our Q3 accounts receivable balance was $71,600,000 up slightly from $68,300,000 in fiscal Q2. As a result, days sales outstanding were forty three days. Inventories were $83,500,000 at quarter end, down $1,000,000 sequentially. Inventory turns remained at 2.9 times during the third fiscal quarter. We remain focused on inventory management and believe our current inventory levels and production capabilities along with product we have on order or held at our suppliers will support our growth targets. Our fiscal Q3 cash flow from operations was approximately $45,000,000 primarily driven by improvements in operating profit. Cash flow from operations was up $16,900,000 sequentially and $10,800,000 from the same quarter in the prior year. Cash flow from operations represent around 100% of our fiscal year to date adjusted net income. This is in line with our expectation for cash flow from operations to run at a comparable amount of non GAAP net income over time. Capital expenditures totaled $5,600,000 for fiscal Q3. The increase in CapEx in Q3 was primarily attributable to additional investments in our fabs as well as R and D infrastructure. Free cash flow was $39,300,000 for the third fiscal quarter, up sequentially from $23,500,000 Cash, cash equivalents and short term investments for the third fiscal quarter were $3.00 $9,000,000 up $41,000,000 from fiscal Q2 and up $44,000,000 versus the same quarter in the prior year. As a reminder, during our second fiscal quarter in March, we utilized $100,000,000 of our available cash to pay down a portion of our outstanding term loans. Over the past few years, we've been working to make improvements to our return on invested capital metrics and expect to continue making additional improvements future. Lastly, I will note that with the improvement in trailing twelve month EBITDA, we exit the third quarter with a net leverage ratio of around 1.9 times and gross leverage of 3.3 times, down from 2.3 times and 3.5 times respectively in the fiscal second quarter. These leverage calculations include $79,700,000 of convertible notes classified as equity as well as $29,400,000 of financing leases. We are pleased with our financial performance to date and look forward to making additional improvements to the business and the opportunity to establish new records as we move forward into our fourth fiscal quarter and beyond. Before turning it back to Steve, I would like to note that over the past six months, we have been engaging with stockholders and other stakeholders to discuss topics to help define some of our environmental, social and governance goals. This week, we published our initial ESG report, which can be found in the Investors section of our MACOM website. The publication of our ESG report is an important step toward enhancing our ESG practices and disclosures. I will now turn the discussion back over to Steve. Thank you, Jack. MACOM expects revenue in the fiscal Q4 ending 10/01/2021 to be in the range of 153,000,000 to $157,000,000 Adjusted gross margin is expected to be in the range of 59.5% to 61.5%. And adjusted earnings per share is expected to be between $0.56 and $0.60 based on 71,300,000.0 fully diluted shares. In fiscal Q4, we expect Industrial and Defense to be up slightly and Data Center and Telecom to be relatively flat. As I've noted, we maintain a long term perspective on executing our strategy. We are confident that we can continue to improve our financials and take market share in the months and years ahead. I would now like to ask the operator to take any questions. Thank you. And our first question coming from the line of Tom O'Malley from Barclays. Your line is open. Hey, guys. Good morning and thanks for taking my questions and congrats on the nice results. I just wanted to dive into the fourth quarter. You highlighted on the call that you're seeing or you're using a little bit more conservatism in the guidance. Can you talk about where you're seeing some of the stresses on the fourth quarter? Is it really supply related? And if it is supply related, could you talk about the different end markets that you're seeing that in just to give us a better feel of what's going on into the next quarter? Sure. So good morning, Tom. I would say the main areas that we see issues associated with supply relate to different PCB technologies that we use with some of our networking products. That is really the area where we're most focused. And then on the margin, we're seeing some interruption with some of our OSAT suppliers, specifically in Malaysia, where we're having or where we're seeing some of our suppliers do temporary shutdowns. I would say those are really the two main issues that we're focused on. So I just want to highlight that these considerations as well as others are factored into our guidance for Q4. And as you know, we really went through a similar type situation at the beginning of COVID when there was a high degree of uncertainty with supply chains with customer interactions and whatnot. So I think the team is certainly capable of handling the new set of challenges this quarter. Great. Thanks. And then my follow-up is really on the Clear Diamond product portfolio. You saw a really strong quarter in telecom in June. I was curious was there a contribution from the laser platform in the quarter? And can you talk about the opportunities that that platform brings you in the five gs market as we move into September and December just given the fact that you now have more products that you can sell into that market? Can you talk about what the financial impact could look like from adding that to the portfolio? Yes. So the Clear Diamond laser portfolio has not started to contribute at a meaningful level to our revenues. We'll start to see very modest contributions in Q4, but that product portfolio and the growth we'll see from primarily the five gs end market will happen in our fiscal twenty twenty two, so really next year. We did set a goal of starting production before the end of our fiscal year and we're happy that we hit that goal. The uptick that you saw in Q3 with regards to the telecom market has more to do with some growth in PON as well as cable infrastructure. We did see a little bit of legacy what I'll call five gs front haul and mid haul business contributing. And then we had a very good quarter in the Satcom end market. And I'll just highlight one other market that we really haven't spoken about a lot and that has to do with broadcast video. We're continuing to see increased demand and really a comeback with some of our customers in this end market. And so this is an area where we have actually a fairly broad product line of cable drivers. We have reclocking devices equalizers and even cross point switches. And so we are seeing that the broadcast end market which is typically TV studios or sort of prosumer end markets where you have professional level video equipment running at roughly 12 gigabits speeds seeing increasing demands due to all the different streaming that we're seeing across the globe. So the telecom market really grew as a result of a lot of different factors. It was not specifically five gs, but really had contributions from a lot of different end markets. And then just sort of coming back again to your question about the Clear Diamond laser portfolio. So we believe as the dam breaks and as people begin to use our lasers, they will start to use them in five gs applications. But we do expect some of our customers which also service the data center to begin module qualifications for their data center customers and we're seeing that. And so that gives us confidence that next year and going into our fiscal twenty twenty three that we'll start to see laser revenue for CWDM4 specifically. So a real good story there on the lasers. We've been very conservative with our revenue expectations with this portfolio this fiscal year. But as we look into next year, we are seeing some really nice growth opportunities. And our next question coming from the line of Harsh Kumar with Piper Sandler. Your line is open. Yeah. Hey, Steve. Good morning. Jack, good morning. First of all, congratulations guys. Very consistent steady results and we appreciate it. I had two questions as well. Steve, first one for you. Your gross margin keeps going up, which is a great thing to have happened. But it's not easy and we want to understand I guess how you were able to turn the wheel just every quarter a little bit more and get more out of the gross margins. And I ask that because a lot of the businesses at your revenue scale come to sort of a halt around this point in the gross margin and are not able to do it. So I'm curious where do you think these margins can go one? And then also what are some of the things maybe that you're doing that are turning the wheel here? Sure. And I think you're exactly right. As your gross margins increase it becomes more difficult to add on top of that. And I'd first like to just comment that the work that we've done over the past two years is really a result of all different parts of MACOM supporting this effort purchasing, sales, operations, quality, the business units, the way we're looking at pricing, we've established what we call a sales operations organization that is very focused on optimizing pricing. So there's been a lot of holistic work done over the past two years, which has allowed us to incrementally improve the gross margins. We also said about a year ago a corporate priority to look at some of our highest volume products running through our fab and put we were putting effort into improve the overall yields associated with those high volume products. And so you're starting to see some of those products shine through with better margins. And quite frankly, we expect that to continue as we go into next fiscal year. When you ask about where this go? My answer would be when we look at our peer group, our named peer group, which if you add up their revenue it's about $43,000,000,000 of revenue and you look at some of the leaders within that space they have margins significantly higher than ours. We actually size our SAM to be approximately 5,000,000,000 And so our goal is to pick product lines and pick technologies that we believe will command higher than corporate average gross margins. And that's really the mantra that we're pushing down onto our different business units. So it's really about positioning the company in an area where you have a competitive advantage and you can create stronger pricing. We can't say as we sit here today what that peak number will be. We don't I don't have a short answer for you on that. I think the good news is we do expect in the near term to continue to see incremental improvement. We think we're doing all the right things as it relates to internal execution as well as picking new product lines that will be accretive to the gross margins. But there's also another piece. We have two fabs. We want to make sure these fabs are running at optimal utilization. And so we don't want investors to think that every single product we're selling has 60.3% gross margin. We like to go after high volume business and enjoy the absorption that you get when you run high volume wafers through your fab. So it's a bit of a mix. Jack, I don't know whether you want to add to that to help? Yes. I guess just to build upon that, we take a look at this from a holistic perspective and also take a longer term perspective in terms of improving the overall profitability of the business. The gross margin improvements that we've seen where we set another record here this quarter is something that we're very proud of. But we're also looking at the overall operating margins of the business and making sure that is sustainable for a longer term time period. And it's really just the sustaining aspect of many of the different things that we're doing to make sure that we don't just focus on one thing one quarter and then jump to something else the next quarter. We want to make sure we're continually building upon the successes and the improvements that we've made, which is helping to drive that improvement that we've seen from quarter to quarter. Okay. Thank you for that color. Steve, one more for you. Question on growth. So you're on a cadence of kind of like call it 2,000,000 sequential growth a quarter. But there's as you talked about in your script, there's a lot of stuff in the works. There's the lasers coming out, analog PAM4, etcetera, etcetera. Your commentary was sort limited to your fiscal year, which is a lot of that will hit past that. But let's just say I ask you to look out next year, which includes the December when a lot of this stuff starts to hit. How do you could you paint a picture for us in terms of growth for fiscal twenty twenty two that includes a lot of your new products versus where you are now? Sure. I'll try to answer that question as best I can. So I think let's take a step back for a minute. So if you look at MACOM's growth rate between 2010 and 2020, it's about a 7.5% CAGR for the first ten years, let's say that MACOM was a public company. If we look out over the next five years to 2025, so going from 2020 to 2025 roughly five years, if we were to get to $1,000,000,000 we would require about a 13.5% CAGR and that would get us to $1,000,000,000 of revenue. And as I said earlier, we are moving into a neighborhood where we have larger competitors that have large multi hundred million dollar product areas that are very attractive. And as we look at positioning the company, we'll be going after different product lines that as we just talked about will have higher gross margins. So we have a long term strategy. And as we think about our business and we think about what is the right growth rate, I think it's somewhere between our historical first ten years of 7.5 and somewhere between a reasonable number that would get us to $1,000,000,000 of revenue in a reasonable amount of time. Now if I look at our end market dynamics and if I just go back over the past two years and I look at the data center peak revenue, the IND peak revenue and the telecom peak revenue for any for the best quarters over the past two years and add it all up, get to about $175,000,000 of revenue on a quarterly basis, which is about a $700,000,000 run rate. So if all the stars align, you can start to see numbers like that come together. The hard part is to understand when that will happen, the timing of how it happens and the stars don't always align. So we can't forecast with accuracy, but I can tell you that we have a long term plan to capture more of the SAM that we're in. We are engaging by the way with more Tier one customers. And I'll highlight by the way even within the color of our business as we look at our business this past quarter, we have fewer greater than 10% customers. I think a year ago we had three. This quarter we have one. We have more diversity within the customer base. Our top 10 customers I think a year ago were about 61% of our revenue. Today they're 51 of our revenue. So you have a business that's more diversified. It's growing at a reasonable rate. I think Jack mentioned our year over year growth year to date is 14%. And so when we think about next year, we think about executing and making sure that we win more than our fair share of the market. But we want to come short of talking about what our targets are for next year. We haven't come to that number internally yet. We generally put our AOPs together in late August early September time frame right before our fiscal year. And so I think the short answer is, we'll try to provide a bit of color on our next earnings call about what might happen in fiscal twenty twenty two, but we do want to be very cautious. This is a very dynamic industry where you don't always have long term visibility. Our next question coming from the line of Quinn Bolton with Needham and Company. Your line is open. Hey, guys. I'll echo the congratulations especially on the 60% plus gross margins. Steve, wanted to start with the market for telecom particularly It sounds like five gs wasn't really a contributor to the telecom growth in the June. We now have the next round of China tenders. North America has completed the C band and auction and looking to deploy late this year. Can you give us a sense, are you starting to see better traction in five gs as you look into September and December quarters? And if so, are there offsets from some of the other product areas you highlighted in telecom that might decline sequentially that potentially offset an uptick in five gs as you look into September and beyond? Yes. And so we absolutely are continuing to see secular growth in five gs. That continues. And there is absolutely a tremendous growth opportunity for MACOM, because as everybody knows we support five gs networks on the optical side, whether it's front haul equipment or metro long haul equipment as well as on the radio board. We typically have success with the higher frequency, higher data rate and higher power applications. As you've highlighted some of the tenders that have been released in China talk are specific around the 700 megahertz band. It was about 480,000 base stations announced. And those contracts have been awarded to the different base station manufacturers. I think that there are some opportunities within the 700 megahertz band, but we actually get more excited about the 2.1, two point six. And as you highlighted the C band frequencies of around 3.5 gigahertz for The U. S. Market. So there is a tremendous growth opportunity here. I would also add that we are seeing more opportunities with ORAN as it expands and becomes more accepted let's say. And so that's a tremendous growth opportunity for us there. In terms of looking into the fourth quarter to your question about sort of what's going up and what's going down, I think that the five gs front haul quarter over quarter will probably be flat to slightly down, mainly due to inventory channel issues. I think we have good channel inventory levels and I think that will be worked down in the fourth quarter. I do see that our microwave business is picking up, our diode business is picking up in the fourth quarter. So overall, I think Q4 will be very solid. Great. And then wanted to ask a follow-up on the laser opportunity. Great to hear that you're already passing qualification at multiple module vendors. But wondering if you might be able to give us either a total TAM opportunity for five gs fronthaul or midhaul lasers and data center lasers or maybe a content per module in the fronthaul in the data center? I mean are we talking $0.50 to $1 Are we talking multiple dollars of content in those applications? Yes. So we probably don't necessarily want to talk about ASPs or our target SAM with that level of detail. In terms of the laser volume, we I'll sort of just comment that when we look at some of our competitors, we see them selling $70,000,000 of lasers per year and we have multiple competitors doing that. And so our goal is to capture that market share. We will first start with five gs as we've talked about in the past. There's multiple different wavelengths that are necessary when we add up all of those different wavelengths through over 50 different wavelengths. We think we have a competitive advantage because we're offering customers a full suite of products. But I would say that the overall dollar content investors should recognize that it will start at a small level and it will grow over time. But we don't want to call out revenue on our laser product I think that's just a little too sensitive. And our next question coming from the line of Harlan Sur with JPMorgan. Your line is open. Hi, good morning. Great job execution and strong margins. Given the strong demand environment, tight supply both wafers and assembly and test, know you had an estimated unfulfilled backlog of around 5,000,000 for the June. Since then, it looks like the demand profile is getting stronger as you move into the second half of this calendar year. And then you've got the COVID-nineteen related risks kind of layered on top of that. Orders were strong. So does the team anticipate that the unfilled backlog number actually going up here in the September? And are lead times up quarter over quarter as well? And then more importantly, as you look at the capacity expansion plans, your outsourced partners expansion plans, when does the team expect supply demand situation to kind of normalize? Great set of questions. And I'll take some of them and maybe Jack can finish answering. So generally speaking, the lead times have increased quarter over quarter, which was one of your questions. We don't have a clear visibility as to when all of these constraints will clear. It definitely be sometime at least six months from now is the way we look at it. In terms of our backlog, we are absolutely delighted that we had a 1.3 to one book to bill. It's actually one of our strongest booking quarters in the history of the company. A significant amount of that is scheduled out over time. And so we look at that strong booking number in sort of two we break it into two categories. One, customers coming in under the normal behavior, especially some of our larger customers placing long lead orders for large I and D contracts. And then the second are the customers that are very concerned about supply and they just want to get their parts on order and they're placing orders ahead of demand. And so and I would say that piece is going to be the piece where there's ordering ahead of demand. We're talking maybe two, three quarters ahead of when they actually need the products. The last thing I'll mention and then I'll turn it over to Jack is that we do have an advantage where we have two of our own fabs and we're able to be very quick to service unforecasted demand. And so that is an advantage right now. And we are seeing customers come to us on certain product lines where they're not able to get fulfillment from their current supplier and they're looking to MACOM. So we are being a bit opportunistic to win business away from our competitors that are not able to supply products. And we'll work hard to make sure that we take the business now when we can. Jack, did you want to comment about the unfilled backlog? Sure. The question? And I guess just to build upon some of the things you had talked about Steve with the improvements that we've seen in orders and the improved visibility we have, one of the numbers that we also report on is our turns business or orders that are received and shipped out in the quarter. That number we've been working very hard to make sure we are driving that number down to a much lower number than where we could have been a couple of years ago. So that allows us some additional visibility and to work with our suppliers and our customers to make sure we're meeting their requirements when needed. There's a lot of moving pieces as there is in every quarter in terms of things moving around and we deal with that on a regular basis and our operational teams do a good job managing that. But in terms of putting a number on it, it's something that we're just we're not looking to do at this stage because it's going to be evolving. We're fairly early on in the quarter at this stage. So to understand what the current impact is going to be to the current quarter at this stage, it would just be too premature at this point. Great. Thank you for the insights there. And it's interesting you talked about the opportunities in O RAN and V RAN. And we know the virtualization of the radio access network or RAN is a big focus area for operators, right, because it provides strong economic benefit both from a CapEx and OpEx perspective. So I'm curious to know where how does MACOM benefit from the move to ORAN and VRAN over the next few years as the service providers continue to virtualize their networks? Well, ORAN opens up the market to new entrants. So we will we see new companies coming into the market and the barrier of entry for a company like MACOM to get in and to work with these customers and consume all the oxygen in the room so to speak with our solutions is there. And so we're taking advantage of that due to the, let's say, lower barrier of entry where you might have a traditional telecom company that has their go to vendors and they're focused on them and they're entrenched because ORAN is opening up the field, we see new opportunities and we're being very aggressive to go after them. The other benefit is that it's also more of an international platform and it's going to bring less China exposure. And so we're seeing European and North American companies really driving O RAN. And so there's some benefits on the margin with regards to that as well. In terms of the product sets, they're very similar. The overall architectures of the radios and the requirements are quite similar. So to the extent that we have competitive parts where we can win the day, we'll do that. But I think that the big opportunity for MACOM is the lower barrier of entry to engage customers. Our next question coming from the line of Chris Castro with Raymond James. Your line is open. Yes. Thank you. Good morning. A question on the data center segment. And you saw a good acceleration around the middle of last year. And since then we've been kind of bouncing around these revenue levels. I know that some data center customers were digesting some inventory towards the end of last year. I guess what could you give us a little more color about what's going on within the customers of that segment? And what's the catalyst for moving the data center numbers higher? Is that more about your own product cycles? Or is that more about your customers normalizing? Sure. And I'll maybe I'll start with the back half of your question regarding what will MACOM's catalyst for growth be within this market. There's really about 10 different items that I think are important for investors to understand. First, today's business is primarily 100 gs CWDM4. And historically that business has been very concentrated on one major customer that had a significant part of the market. And what we're seeing today is that customers' volumes have come down, so year over year and have been plateauing. And so when we think about our growth strategy, we are looking to win new designs of 100 gs CWDM4 at other customers many of which are international customers. So that number one provides a very interesting growth opportunity for us. The second is we're starting to get design wins for our 200 gs short reach chips primarily TIAs and drivers. And these chips are used generally with competitors' DSPs. So we are now working with multiple companies that produce their own DSPs and they're selecting MACOM's driver and TIA because it's the best these are the best chips in the industry. And we're having very good success there. And we're agnostic as to which DSP our customers select. And that's been a very successful program that we started about a year ago. The third item I'll highlight is, while there are many 200 gs DSP based solutions where we sell the driver and the TIA, We also believe for certain short reach applications, it should be an analog solution. And so what we actually want to do is bump the DSP and we want to provide our 200 gs combo chips and we announced those combo chips at this year's OFC. And these combo chips are basically are a VCSEL driver in CDR and a TIA in CDR. And with these two chips, you do not need a DSP. We're very excited about that. These chips have just entered the market. The fourth item I'll highlight is really our 400 gs product. So we have a very competitive TIA and driver for DR4 basically and also we have a version that's suitable for DR1. And we're getting very strong traction there and we are seeing the volumes grow exponentially. If we look back over the last two years, we are seeing exponential growth with our 400 gs products. And that includes the TIA and sort of just starting now as our 400 gs driver. And then we talked about and I mentioned this on the prepared remarks that we are entering the active copper cable segment within the data center. And we have a chip today. It's been sampled for the past six months. We are seeing very strong customer adoption. We are starting to get pilot orders in the tens of thousands of pieces from multiple customers. And we are confident we will have success as we go into next year. The last items I'll add are of course, we do have 100 GPM-four DSP in production, steady business there. It's looking like it will start to grow going into next year in terms of volumes. And the lasers, we believe the lasers will start to come on towards the end of next year and the following year. When you add all these things up, even if we take our lead customer and we model their revenues as being flat to down, we actually do see growth coming out the data center segment even with the offset of the connectivity declines that we talked about on the last conference call where we mentioned year over year, we expected a $15,000,000 decline of our with our connectivity business, which is primarily data center. So when you put all that together, we think we're doing the right things. We have a very strong strategy. I talked about some of the trends also in the industry where the industry wants to look at what we call direct drive at the higher data rates, which will eliminate the DSP and move that functionality into the switch. When you ask about what are the customer trends, I would say that we are not a good bellwether of the industry. The fact that one of our customers is going up or down doesn't necessarily reflect what's going on in the broader industry. I can say that there is definitely a move from NRZ to PAM4 and we are going to make sure that we have sufficient tips to cover that. And then the last item I'll mention, we are starting to see more and more traction in China with our chips being sold into the data center there at data rates between 2,502 gs. And so we have a very strong sales force within China and I think we're starting to win market share there. So I think I said on the last call that we did expect to exceed our peak watermark in the data center, was roughly $45,000,000 The question is per quarter and the question is the timing of that. We're not sure it will happen next year, but we think we're on a good path in doing all the right things. Great. That's extremely helpful. So thanks for that. As a follow-up question on five gs, I understand what's happening with China with the deployments down at 700 megahertz. But The U. S. Deployments are at higher frequencies. So therefore, I guess we'd expect that there's more content opportunity for you in The U. S. I guess we're expecting some of those deployments to kind of start toward the end of this year beginning of next year. Is that when MACOM starts to see some benefit some stronger benefit from the five gs market? Could you give some more color there please? So the short answer is yes. The higher frequency 3.4 to 3.7 does provide us opportunities. I think this is also the platform where we may start to see our first design wins for our power amplifier product line, our GaN on Silicon Carbide products primarily, whether it be massive MIMO or a macro architecture. We have compelling product today that is very interesting to many different customers. I'll also highlight that we have very strong front end modules or FEMs on the RF side for the higher frequencies as well. So I think your question is right on that as you start to see deployments in The U. S, we should see MACOM seeing an advantage there. And our next question coming from the line of Vivek Arya with Bank of America. Your line is open. Thanks for taking my question. I actually had two quick ones. First, you mentioned there are some supply headwinds that are having an impact on your Q4. I was hoping if you could help us quantify how much of a headwind? And importantly is that demand you can recover over the next several quarters? Yes. So as Jack highlighted, we really want to step away from sort of quantifying the exact amount that we're not able to ship. I know we did that a quarter ago, but as Jack highlighted, we're early in the quarter. There's a lot of different moving parts and we just sort of want to step away from In terms of will we be able to roll that demand into future quarters? The answer is yes, we will. We are not losing business. We are rescheduling business. And so we're working with our major customers that are being impacted. We have certainly if not daily, we're having weekly calls with some major customers to make sure that we support them. Our operations team, our logistics team and our supply chain management team is really doing a nice job managing and making sure that our customers have the best information we can give them. As I highlighted also, this is really an industry wide issue and MACOM is not immune to some of these factors. We have and I will emphasize this again, we have built in and hedged our guidance based on the higher risk profile. So we'd like investors to be confident that the guidance we're giving is following the same methodology that we've done in the past. Got it. Thanks. And a quick follow-up. Your industrial and defense sales are now running close to 50% right year on year. I realize that that's of a somewhat easier comparison. But how would you characterize the sustainability of this business? Thank you. Yes. So I think that growth rate is not sustainable. And typically you would expect lower growth rates from a large slow moving market like defense. However, we are with our changing strategies of really focusing on this market cross selling all the different product lines. We are actually driving very reasonable growth. But we don't want investors to expect sort of 10,000,000 or $20,000,000 sequential growth on a quarterly basis going into next year. It's more likely to slow down plateau and then after running at a certain plateau level it will start to grow again. That's what our expectation would be. We do have a very strong backlog of I and D business. We have multiyear contracts as well that we're working on. And we as we are bringing on some of our GaN on Silicon Carbide products, we are seeing opportunities that quite frankly we hadn't seen in the last two to three years. So we're very excited about that. We think long term, I and D will be it will remain the largest segment for us. And I've said this before, I'll just highlight that. When we think about the RF power market, we think it's evenly split between telecom and industrial and defense. And so that really excites us. We think this is a very large market. It should bring really nice growth opportunities to MACOM, especially when we introduce our millimeter wave GaN on Silicon Carbide Mimics. So customers are already very excited about that. Here in The U. S. Domestically, there's one maybe two companies that are the entrenched suppliers of this technology. And we are very confident that we can step into the market and win market share. Our next question coming from the line of C. J. Muse with Evercore. Your line is open. Yeah. Good morning. Thank you for taking the question. I guess, Steve, first question, you typically choose your words carefully, particularly timing as well. Your increased disclosure around automotive definitely piqued my interest. So could you expand on your go to market strategy there? And at what point should that start to have a meaningful impact to your overall business? Sure. So we started or really refreshed our automotive strategy about a year ago and we set a target to ensure that the company was automotive certified or TS certified. And so we actually went through an audit this past quarter. We effectively passed the audit with a few action items to close, which will close in the next few weeks and we would expect full certification by year end. So what that will allow us to do is really engage the Tier one OEMs, align technology roadmaps, understand the requirements that they may have and then we can begin developing the chips for their requirements if we don't already have them. The areas that we will focus on as I highlighted in my script LiDAR type applications which have a combination of Lightwave and optoelectrical high data rate chips which is right in our wheelhouse especially for our what we call our high performance analog business unit. We're looking at in cabin applications. We're looking at sort of advanced driver assistance navigation systems that might require radar as well as there's more and more Ethernet connectivity throughout the car. And as everybody knows this is a strength of MACOM. So it's a target rich environment as we say. It will be a long term strategy. We would not expect to have material revenue next year or probably not even the year after. It will be this is a long term growth strategy. What I can tell you is that we have tremendous interest from major customers today across our portfolio. And so we intend to fully maximize the growth opportunity here. We like the automotive business because when you're designed in it's typically sole source. There you're seeing multiyear manufacturing cycles. And once you're in you can build and go wider and start to bring on new product lines. The one technology that I will highlight that I think we're seeing interest in from the automotive industry is our kilovolt cap product line, mainly because this is a semiconductor based capacitor that can handle 300 degree C environments, which is necessary in some applications within automotive. So we are excited to really promote that technology to the automotive industry, whether it's under the hood or whether it's for electric vehicle type applications. Very helpful. And quick follow-up. It looks like we're going to get an infrastructure bill passed. Have you thought about the implications to your business and what kind of upside that might drive? Thank you. So we're aware of the CHIPS Act. I'll start with that. I haven't been watching the news recently regarding some of the things running through Congress. But I will highlight on the CHIPS Act where there will be dollars allocated to the semiconductor industry. We do have a strategy to work with different government agencies that support the semiconductor industry and make sure that they understand that MACOM has a long list of needs and we're looking for investment and support from the government so that we can expand and modernize some of our facilities. And so that is a priority for the company. We are working with one lobbyist right now. We plan on expanding that. And we look at this effort as really a multiyear effort where perhaps one or two years from now we might see some funding for special projects associated with the growth and the development of MACOM. Our next question coming from the line of Carole Ackerman with Cowen. Your line is open. Hey, good morning guys. This is Eddie for Carl. Most of my questions were answered, but still have a couple. So a few quarters ago you indicated that SP Micro would be installing tools to support manufacturing of six inches GaN on silicon wafers. Could you please provide an update on your progress there? Thanks. Yes. Thank you. So we are just now receiving samples from ST. So just to remind everybody one of the big delays with this program was moving certain dedicated equipment into ST's wafer fab and then qualifying that equipment. Those actions have been completed. So that allowed ST to effectively run a wafer end to end within their fab. They've been doing that. They have provided MACOM samples just this past quarter. And we've been running through a series of tests with those first samples and providing feedback to This is part of the process which will become iterative and will take time. So as I highlighted in my script, we do view this as a long term high risk technology transfer program. And in the meantime, we are focused on winning RF power business using GaN on Silicon Carbide. And when the when and if the GaN on Silicon technology is ready for high volume production we will absolutely insert it. We do believe there are certain applications where GaN on Silicon makes a lot of sense. So no major updates other than that. We view this as a long term project. Thanks. And another one, your sales through distribution are modest, but some peers across the supply chain have spoken about OEMs and resellers and restocking inventory where possible in order to avert any future supply shortages in the second half. I'm curious if you're seeing that customer activity across your data center and communication infrastructure market? Thank you. Thank you. So I'm not sure that I can comment on the trends that you highlighted there, but maybe I'll say a few words about our sales channel. So one of our areas of focus has been to further develop and expand and strengthen our sales organization, especially across Europe as a priority. And so we've been doing that. We've been hiring country managers. We've been hiring new representatives, manufacturers representatives across Europe. We've been supplementing our team here in The U. S. As well. And we also have embarked on a strategy where we want to do more direct business with our major customers and do less business through distribution. And that has been a bit of a trend that we've had over the past year. So our strategy, our go to market strategy is really relying on our direct sales applications force as well as our business units to have direct engagement. And we also believe that these direct engagements actually help during this period of supply shortage because now we have direct discussions with our customers about their long term needs and we can build that into our plan. So generally speaking, our sales force year over year is a lot stronger. I think this time next year it will be even stronger. And over time we will as a company be less dependent on distribution. Our next question coming from the line of Richard Shannon with Craig Hallum. Your line is open. Hi, guys. Just one question for me. I had a couple of other questions earlier in the call regarding growth. And Steve you haven't quantified them. I certainly understand your reticence to do that. Maybe I'll kind of attack it from a different angle here, which is if you look at your top line growth over the next one to two years, what do you see as the biggest dollar contribution drivers to that by product line or market, GaN and silicon lasers, etcetera, etcetera? Wonder if you can kind of rank order those contributions? Sure. Thank you for the question. So we have six different business units as everybody knows. We call them business units or really engineering technology centers. Our larger business units our high performance analog and our diode areas and then some of our smaller ones include RF power and even Lightwave. And so when we step back and we look at growth rates, of course, we would expect RF power and Lightwave and even connectivity to have the highest growth rates given they're small relative to the overall size of MACOM. And we would expect the larger groups to grow at a more rational rate. We don't necessarily want to call out any one product line that might be our most successful or sort of an end application that will drive growth. That's sensitive information. But what I can say is we have a very detailed product plan, bottoms up plan. We've been looking very carefully at our growth forecast over the next one to two years. In fact this past July, we updated our five year strategic plan. And so we have fresh numbers and we have updated plans and activities to support our growth. So I think we're doing all the right things. But ultimately, what we deliver for growth, we'll really have to wait and see. It's very difficult to forecast. We have a lot of exciting technologies that we're bringing to market. We have a lot of exciting technologies we haven't talked about publicly that we'll bring to market and we'll announce in the next one to two years. But I'll just say at a high level, one of the things we're doing I think well is we're expanding our SAM with the new product lines and the new technologies that we're now bringing to market. And that is exciting and should bring a new color of revenue to MACOM over the next one to two years. Okay. Great. We look forward to hearing about those. That's all. That was all my questions. Thanks Steve. And our next question coming from the line of Tore Svanter with Your line is open. Yes. Thank you. First question, Steve you gave a list of six, seven things that are driving your data center growth. But you also said in your prepared remarks that you're working on some subsystem level opportunities in data center. Could you just elaborate on that please? Yes. So I think the subsystem comment was not directly targeted at the data center. And So maybe I should clarify that. What I was referring to there is as we engage customers in different end markets, we want to make sure that we leverage our system knowledge capability to the greatest extent we can. And if in certain instances it means the customer is better off if we take the pen on the design of that subsystem we want to do that and we want to support them in that area. That is most likely going to happen in industrial and defense end markets where customers want to really lean on our chip level technology and to design a system based on customized chips for their application. So that would more typically be RF and microwave as well as hardened optical applications where the customers require domestic manufacturing capability. And so I don't envision and of course we will not be building modules for the data center as an example or and most likely not for anything within the telecom space per se. An area that we'll focus on is building out and gaining market share where it makes sense inside the industrial and defense markets. Yeah. Thanks for clarifying that. And as my follow-up and just to make sure I'm clear on this. So the main capacity constraints right now are at the back end. Your own fabs, I mean I assume they're running pretty high, but I know you're also adding some capacity. And what's the current mix between inside versus outsourced on the front end? So you're correct to say that we are having constraints on the back end, which is typically assembly and test let's say or package technology associated with assembly. But we also are seeing extended lead times with our external foundries. And so that is of course impacting us as well. And so I don't want you to think it's just the back end. It's also we're working with extended lead times with our fab partners in some instances not all instances. In terms of the mix within internal fab versus external fab Jack, I don't believe we have disclosed that. Is that right? That's correct. So I don't think we would be able to make a comment there Tore. And I'm showing no further questions at this time. I would now like to turn the conference back to Mr. Daley for any closing remarks. Thank you. In closing, we'd like to thank our employees for their outstanding contributions during the quarter. Thank you very much. Ladies and gentlemen, that does conclude our conference for today. Thank you for your participation. You may now disconnect.