Applied Optoelectronics, Inc. (AAOI) Earnings Call Transcript & Summary

Hello, and welcome to the Applied Optoelectronics' Q1 2021 Earnings Call. [Operator Instructions] Please note, today's event is being recorded. I'd now like to turn the conference over to your host today, Ms. Savarese. Ms. Savarese, please go ahead.

Thank you. I'm Lindsay Savarese, Investor Relations for Applied Optoelectronics, and I'm pleased to welcome you to AOI's First Quarter 2021 Financial Results Conference Call. After the market closed today, AOI issued a press release announcing its first quarter 2021 financial results and provided its outlook for the second quarter of 2021. The release is also available on the company's website at ao-inc.com. This call is being recorded and webcast live. A link to the recording can be found on the Investor Relations section of the AOI website and will be archived for 1 year. Joining us on today's call is Dr. Thompson Lin, AOI's Founder, Chairman and CEO; and Dr. Stefan Murry, AOI's Chief Financial Officer and Chief Strategy Officer. Thompson will give an overview of AOI's Q1 results, and Stefan will provide financial details and the outlook for the second quarter of 2021. A question-answer session will follow our prepared remarks. Before we begin, I would like to remind you to review AOI's safe harbor statement. On today's call, management will make forward-looking statements. These forward-looking statements involve risks and uncertainties as well as assumptions and current expectations, which could cause the company's actual results to differ materially from those anticipated in such forward-looking statements. In some cases, you can identify forward-looking statements by terminology such as believes, anticipates, estimates, intends, predicts, expects, plans, may, should, could, would, will or thinks and by other similar expressions that convey uncertainty of future events or outcomes. Forward-looking statements also include statements regarding management's beliefs and expectations related to the expansion of the reach of our products into new markets and customer responses to our innovations as well as statements regarding the company's outlook for the second quarter of 2021. Except as required by law, we assume no obligation to update forward-looking statements for any reason after the date of this earnings call to conform these statements to actual results or to changes in the company's expectations. More information about other risks that may impact the company's business are set forth in the Risk Factors section of the company's reports on file with the SEC, including the company's annual report on Form 10-K for the year ended December 31, 2020. Also with the exception of revenue, all financials discussed today are on a non-GAAP basis, unless specifically noted otherwise. Non-GAAP financial measures are not intended to be considered in isolation or as a substitute for results prepared in accordance with GAAP. A reconciliation between our GAAP and non-GAAP measures as well as a discussion of why we present non-GAAP financial measures are included in our earnings press release that is available on our website. Before moving to the financial results, I'd like to announce that AOI management will virtually participate at the Needham Technology and Media Conference on May 20 and the Cowen Annual Technology Media and Telecom Conference on June 2. The presentations at these conferences will be webcast live and links to the webcast will be available on the Investor Relations section of the AOI website. We hope to have the opportunity to interact with many of you virtually. Additionally, I'd like to note the date of our second quarter 2021 earnings call is currently scheduled for August 5, 2021. Now I would like to turn the call over to Dr. Thompson Lin, Applied Optoelectronics' Founder, Chairman and CEO. Thompson?

Thank you, Lindsay, and thank you for joining our call today. We delivered revenue and gross margins in line with our expectations and a narrow non-GAAP loss per share than we anticipated. Total revenue for the fourth quarter of $49.7 million grew 22.8% compared to the fourth quarter in the prior year and was down 5.8% sequentially. As we expected, we experienced generally soft Q1 conditions in the data center segment. We expect data center business to increase in the second half of the year as our customers begin for the upgrades and inventory issues around 100G normalized. Non-GAAP gross margin of 24.6% was in line with our guidance range of 23.5% to 25%. And non-GAAP net loss was narrow than our previous guidance, coming at $0.21 per share. In our CATV segment, the overall demand environment was strong as MSO, particularly in North America, continue to upgrade their networks. Total revenue for our CATV products increased to more than 4x this prior year levels and was increased 17% sequentially of a strong fourth quarter to $18.6 million. This is the highest quarterly revenue for this segment in over 3 years. Following the pause in 5G deployments from several of our China telecom customers, as we anticipated, we started to see a nice recovery in the fourth quarter. As a result, revenue from our telecom products of $4.5 million was up 75% year-over-year and 25% sequentially. Looking ahead, we believe China will continue to make investments in both their 5G and fiber-to-the-home infrastructure, and we believe we are well positioned to sell laser in both of these markets. We look forward to meeting again in person hopefully soon. With that, I will turn the call over to Stefan to review the details of our Q1 performance and outlook for Q2. Stefan?

Thank you, Thompson. As Thompson mentioned, we delivered revenue and gross margin in line with our expectations and a narrower non-GAAP loss per share than we anticipated. The market dynamics we anticipated played out as expected. While we continue to see softness in the data center market, we are pleased with the nice recovery we saw in the telecom market and continued strength in the CATV market. In total, for the first quarter, we secured 4 new design wins among 4 customers. Among these 4 design wins, 2 were in our data center business, including one with a new customer, which is a large U.S.-based social media-focused data center operator. One was in our 5G business and the other design win was in our FTTH segment. Total revenue for the first quarter of $49.7 million grew 22.8% compared to the first quarter in the prior year. Our Q1 revenue was down 5.8% sequentially and was in line with our guidance range of $47 million to $51 million. We currently believe that the headwinds we are seeing in the data center market related to the inventory normalization following the shift to working from home early last year will persist through the first half of the year and then begin improving in the second half and beyond as several of our customers begin to ramp 400G later in the year and inventory conditions in our 100G business fully normalized. On the 400G front, we have continued to work on qualifications and delivered samples to new customers during the quarter. We have also received several new inquiries from hyperscale customers for our 400G products, and we are working to deliver samples to these customers as well. In the first quarter, 52% of our revenue was from our data center products, 38% was from our CATV products, with the remaining 10% from FTTH, telecom and other. Our data center revenue came in at $25.9 million compared with $33.3 million in the first quarter of the prior year. In the first quarter, 25% of our data center revenue was from our 40G transceiver products and 68% was from our 100G products. Turning to our CATV products segment. The overall demand environment remained strong as MSOs, particularly in North America, continue to upgrade their networks. We generated revenue of $18.6 million, up 17% sequentially and up 341% from $4.2 million in Q1 of the prior year. Our CATV performance represents a record for our first quarter, which is typically seasonally down and was just shy of our highest quarter in the company's history. In our CATV business, we have seen some component shortages. We are working with our suppliers to improve delivery schedules for these critical components and, in some cases, adding additional suppliers. We do not anticipate that these shortages will hamper our ability to continue to grow revenue, but we may continue to have longer-than-usual backlogs for several quarters while we work to improve supply. We ended the first quarter with a strong backlog of CATV products, which we expect to continue to drive growth in this segment going forward. As we anticipated, revenue from our telecom products of $4.5 million increased 28% sequentially and 75% from $2.6 million in Q1 of the prior year. Looking ahead, we believe China will continue to make investments in both their 5G and FTTH infrastructure, and we believe we are well positioned to sell lasers into both of these markets. Also notable during the quarter, we received our first 5G design win from a customer outside of China. We are excited to see that the success we have had with our China-based 5G customers is beginning to spread to other regions as 5G itself begins to ramp in other areas outside of China. For the first quarter, our top 10 customers represented 90.5% of revenue compared to 84.8% in Q1 of the prior year. This increase in revenue among the top 10 customers is largely related to the strong results in CATV as several customers in this segment contributed significantly to the increased revenue this quarter. We had 4 10% or greater customers in the first quarter, 2 of which were in the data center market and 2 of which were in our CATV market. These customers contributed 19%, 16%, 16% and 14% of total revenue, respectively. In Q1, we generated non-GAAP gross margin of 24.6%, which was in line with our guidance range of 23.5% to 25% and compared to 19.5% in Q1 of the prior year. Total non-GAAP operating expenses in the first quarter were $20.6 million or 41.4% of revenue compared with $19.4 million or 48% of revenue in Q1 of the prior year. As we mentioned on the Q4 call, we experienced additional costs during the first quarter due to the historic storm that hit Texas in February, which totaled $0.5 million. Non-GAAP operating loss in the first quarter was $8.4 million compared to an operating loss of $11.5 million in Q1 the prior year. GAAP net loss for Q1 was $15.6 million or a loss of $0.59 per basic share compared with a GAAP net loss of $16.8 million or a loss of $0.83 per basic share in Q1 of 2020. On a non-GAAP basis, net loss for Q1 was $5.5 million or a loss of $0.21 per basic share, which was narrower than our guidance range of a loss of $5.9 million to $7.3 million or a loss in the range of $0.23 to $0.28 per basic share and compares to a net loss of $8.8 million or a loss of $0.44 per basic share in Q1 of the prior year. The basic shares outstanding used for computing the net loss in Q1 were 26.4 million. Now turning to the balance sheet. We ended the first quarter with $49.3 million in total cash, cash equivalents, short-term investments and restricted cash. This compares with $50.1 million at the end of the fourth quarter and reflects $15.2 million in cash used for operations. As of March 31, we had $106.3 million in inventory compared to $110.4 million at the end of Q4. Inventory decreased due to utilization of inventory as orders, especially for telecom and CATV products increased. This inventory reduction is consistent with our long-term plan as we focus on rationalizing inventory levels. We made a total of $2.7 million in capital investments in the quarter, including $2.3 million in production equipment and machinery and $0.3 million on construction and building improvements. The construction on our new China facility is largely complete, with all heavy construction done. In total, we currently expect 2021 CapEx to be approximately $16 million. Although as we have noted in prior years, there can be significant variability in this estimate as the year progresses. I would also like to provide a quick update on the at-the-market offering that we announced in February of 2020. To date, we have completed this program, raising the total of $55 million in gross proceeds, including $14.7 million raised in Q1. As we disclosed in February, we have initiated a new at-the-market offering. To date, we have raised $0.6 million under this new program. We intend to use these proceeds to continue to make investments in the business, including new equipment and machinery for production and research and development use. Moving now to our Q2 outlook. We expect Q2 revenue to be between $51 million and $56 million and non-GAAP gross margin to be in the range of 25.5% to 27.5%. Non-GAAP net loss is expected to be in the range of $3.8 million to $5.6 million and non-GAAP loss per basic share between $0.14 and $0.21 using weighted average basic share count of approximately 27.2 million shares. With that, I will turn it back over to the operator for the Q&A session. Operator?

[Operator Instructions] And the first question comes with -- from David Kang with B. Riley.

This is Danny on for Dave. I was wondering if you guys could talk about the competitive landscape in 400G that you guys are seeing.

Yes. I mean, it's pretty consistent with what we've said in prior calls. Overall, I don't think there's any significant change from the landscape at 100G. The competitors that we saw there tend to be continuing to be what we expect to be the strongest competitors at 400 gig as well.

Got it. And I guess on the chip shortage situation, I was wondering, you guys said that you aren't expecting it to negatively impact revenues. But I guess we're wondering how long you guys kind of expect that to persist?

Well, it's a little hard to say precisely. I think it's fair to say that we expect it to persist at least a couple more quarters. And you're correct that we aren't expecting it to result in reduced revenues. We expect to continue to be able to grow revenue, but we're just sort of capped in the rate at which we can grow based on component availability. It probably over the next couple of quarters. Beyond that, it becomes really hard to say. Our suppliers are telling us that they're adding production capacity and ramping up. And if all those plans come to fruition as we expect, then I think we're probably looking at maybe 2 quarters. If it lasts a little longer than that, it may stretch beyond that. We're also up against I guess, you could say, a good problem to have. I mean the cable TV business is growing very nicely for us. We're seeing good demand picture really through the end of this year and into next year. And so it's harder for our suppliers to catch up because they're getting hit by higher demand than we've seen certainly in the last several years. So it's a combination of sharply increased demand with somewhat reduced supply due to COVID considerations. And the 2 of those things together are what's causing that shortage.

Got it. And you said into next year. So does that imply throughout 2022 you'll also see this momentum from CATV?

Right now, we're pretty much booked up in CATV through the end of the year. And there's no indication that that's going to slow down next year. It's obviously being a few quarters out, that's still a little bit murky. But I think the MSOs are really at the beginning of their upgrade process. Some of them have yet to even start the upgrade process in earnest. So I think it's reasonable to expect that, that process will take several years to complete. And so yes, I believe that we'll see pretty strong CATV performance into 2022, not just this year.

And the next question comes from Tom Diffely with D.A. Davidson.

I wanted to get a little more color on just the data center recovery in the second half. I know a quarter ago, you thought maybe it'd be in the second quarter, but just what are the puts and takes and what kind of gives you the confidence level?

Yes. I mean I don't think anything is really wholesale changed in our outlook. I think the inventory -- the over-inventory situation, particularly with one of our large hyperscale customers, is just taking a little bit longer to resolve itself than we earlier thought. We expect it to recover at some point in Q2, but it's probably a little later than we earlier anticipated. And so for the total Q2 revenue generation from -- at least from that customer, it's a little bit less than what we had earlier expected. It's not a big change in what we had earlier expected. I think what we talked about on the last call remains true today, which is that the really good growth that we expect to see is going to come from the 400-gig cycle as that starts to take hold with several of our customers. And on that front, as I mentioned in our prepared remarks, we're seeing increased interest. We had several new customers come and approach us during the quarter, looking for samples, looking to begin qualification efforts. The qualification efforts that were already ongoing in 400-gig continue to go well, and the discussions with the customers continue to indicate to us that we can expect a successful conclusion from those efforts. And so we're excited about 400-gig ramping in the second half of the year. The inventory situation that we talked about with -- again, with one of our large customers, that should also resolve itself late in the second quarter for a second half ramp. And then as I mentioned, cable TV, telecom, even fiber-to-the-home in China seem to be looking very good in the second half as well.

Okay. Great. And then maybe if you're willing, a little more color on the chip shortage, are there particular types of chips or how would you characterize where the shortage is that's most acute, custom, off-the-shelf, whatever details you might be able to provide?

Yes. It's all off-the-shelf stuff that we're seeing shortages on. And it's -- there's no easy way to characterize it. I would say, in general, what we're seeing shortages on are not necessarily brand-new cutting-edge chips. In some cases, it's actually kind of older technology that I think we're just seeing unprecedented, maybe not unprecedented, but certainly higher demand than we've seen in the last several years. And I think it got -- some of our suppliers were caught maybe a little bit by surprise by that. And at the same time, fab capacity and other things are very, very tight as we've seen in the automotive industry and across other calls that we've listened in on just this last earnings cycle. And it really kind of runs the gamut across multiple different chipsets and things across the industry. But I think the one common trend is that there's just a very, very tight fab capacity. So whereas in prior times, a supplier of one of these components might have been able to drop a wafer production run into a schedule that already existed because there were some gaps in there some slack time, now that slack is just nonexistent. And so it's taking longer for them to get new wafer starts going and therefore, longer to ramp up that production than it had been in years past.

And the next question comes from Sam Peterman with Craig-Hallum Capital.

This is Sam on for Richard. I just want to ask a little bit more on the data center. It sounds like your largest -- I guess, first I want to ask that if your largest data center customer in past quarters was a 19% customer this quarter, is that's fair to think about it? And then if that's the case, on a dollar basis, that's the lowest sales you've had there. About 2 years, it looks like I'm curious how you would see that -- see sales to that customer trending over the course of the year as data center recovers.

Yes. So that customer was not the 19% customer. And as we've talked about, one of our customers has an over-inventory situation. We've talked about that in the last couple of calls, and I reiterated it in our prepared remarks and again on one of the earlier questions. So I won't waste everybody's time going over that once again. But we do anticipate that, that will be resolved here in the second quarter and portend the second half ramp.

Okay. And then on telecom, I'm curious with 5G starting to roll out more in the second half, what kind of upside you think you could seize of that business in the second half? And could you talk about how we expect that to ramp between the second half of 2021 and then in 2022, whether there's kind of a step-up at some point or if it's kind of a linear ramp from your perspective? Any color there would be helpful.

Well, I think 2021, I think we expect a stronger second half than first half. Certainly, we've already started to see some incremental improvement, but we're not back to the levels where we were, let's say, middle part of last year. And so I think there's some room to grow there. We're very excited about the progress that we made in 5G. And also, as I mentioned in our prepared remarks, the FTTH business in China also seems to be picking up. But more exciting perhaps than that within China is the fact that we have our first design win with a 5G customer outside of China. And I know that's been a question that's come up a lot over the last several quarters on these calls is, well, okay, you guys seem to be doing well in China, but what about the rest of the world. And I think that provides some tangible evidence that we're able to be successful with customers outside of the China market as well, and that's also very exciting.

And the next question comes from Tim Savageaux with Northland Capital Markets.

Couple of questions. So as you look at your Q2 guide and you're guiding up kind of mid-high single digits sequentially. Given the data center commentary, it sounds like you expect cable TV to be the primary driver of that sequential growth, maybe a little telecom as well or as you look across your segments, how do you see that?

Yes. I think the cable TV, again, I think we can see some revenue growth in there. Telecom, again, we're -- remains to be seen how much that's going to grow in the next quarter, but certainly, the trends are good so far. And the data center, it really depends pretty sensitively on how fast -- and particularly the customer that we've seen this inventory issue with how fast they can resolve that inventory. We believe it will be at some point in this quarter. But whether it happens in mid-quarter or late in the quarter, we'll kind of set the trajectory in terms of how much revenue we can actually book in this quarter. And so that's kind of the wildcard in the forecasting picture.

Got it. And just a follow-up on design wins. I think you said 2 data center and 1 fiber-to-the-home and 1 5G. And correct me if I'm wrong there. But in the data center, is the customer you called out there, is that a new customer for Applied Opto or perhaps a former customer?

No, it is. It's a brand-new customer that we haven't sold to before. It's a California-based social media-focused data center operator.

And this concludes our question-and-answer session. I would like to turn the conference back over to Thompson Lin for any closing comments.

Okay, and thank you for joining us today. As always, thank you for all investors, customers and employees for your continued support, and we look forward to virtually see many of you at our upcoming investment conference.

Thank you. The conference has now concluded. Thank you for attending today's presentation. You may now disconnect your lines.