Lumentum Holdings Inc. (LITE) Earnings Call Transcript & Summary

Yes. I think, as I said earlier, I think that we've seen -- and by the way, each hyperscaler is not the same. So there's differences of architecture and differences of the design for those modules that are going into their data centers today and some customers that have continued to have robust demand. So I wouldn't categorize hyperscalers as 1 oversupply issue, it's really more of a customer-specific challenges there. That said, as we look at the more recent demand has been more heavily weighted towards 800-gig per module, so that's 8 100-gig lasers, which is a good thing for us. So it consumes a lot of lasers in 1 module. And so that's pretty exciting. But more excitingly is what I talked about earlier, which is the 200-gig per lane, and we expect that to ramp into production really in the -- by the end of the year and early into calendar '24. And then as I said, the CW lasers and the external laser source for AI applications is incremental to all of that.

Okay. Switching gears to 3D sensing, just to dive into that a bit more. How are you thinking long-term growth drivers there? Because I think this was probably 2 FCs ago, sorry not the last one, the one before that, you're outlining sort of the headwinds that you're facing in that segment because of the higher share that you had with your primary customer, but at the same time, sort of expecting to recover that in a few years from diversified sort of opportunities of growth that you had. How do you think about now sort of what's been the trajectory in terms of that business through share loss? How long does it take to get back to the same sort of revenue level? Are you seeing enough sort of -- enough of an offset in terms of growth from outside of that primary customer?

Yes. It's going to take some time. I mean, I think we've been in the 3D sensing business with our main customer for 6 years now, of which the first 4, we had probably north of 90% share. Always warning that, that's not healthy for either us as a supplier or our customer to be that reliant on 1 supplier. So I think what we've been saying is that share normalization would take place. It has, and it is. And so having that business be less than 10% of our outlook for next fiscal year, I think, is a healthy way to look at things until we really diversify that business into new customers, new markets and new applications. Of which, we highlighted on the last call, in the March quarter, we had approximately $3 million of revenue from LiDAR, from automotive LiDAR, which is a small number, clearly, but it's a sign that it is starting, but it's taken a lot longer than I would have liked. But I do believe that 2 to 3 years from now, that's going to be a meaningful part of our business and provide us that diversification that we're looking for, in addition to applications in AR/VR that could use multiple light sources from us to address 1 pair of glasses or a headset.

Okay. A bit more near-term question, but relative to the 3D sensing. We've heard cautious commentary on share from both you and Coherent. How much of the concern about market share is something that you expect to see with the new supplier coming in versus actually reflected in the order trends or sort of communicated share? Because we've known, historically, in this market, new suppliers also tend to sort of ramp slowly, slower than expected. So how much -- because both are now guiding to share loss, I'm just wondering how much of this is anticipated share loss versus something that you're seeing in the orders?

Well, I'll tell you that we had anticipated share loss a couple of years ago with a new supplier coming in, and they completely failed. So we got the windfall of that. I don't want to set expectations that, that's going to be the case this time. So we wanted to make sure that there were realistic expectations for our fiscal '24 for 3D sensing. And if that third supplier doesn't come in, then I think we'll be in a better situation with regard to revenue and share, but I'm not holding my breath. I think they'll figure it out this time. And I think having them be less than 10% is not a bad thing in that fluctuation in consumer markets, especially in uncertain economic times, can really swing the demand. But for us, then it becomes a 1% or 2% swing as opposed to a 10% swing of our business.

Okay. The reason I ask is, does that then automatically mean the competitive landscape for AR/VR is tougher than we imagined 2 years ago when it seemed like much more of a slam dunk for Lumentum to really gain content on that front?

I think it comes down to the investment in the customer relationship and doing what the customer wants you to be doing with respect to technology development. And we're partnering very closely with the AR/VR customers as well as the automotive customers to be that partner of choice for them so that it will be a slam dunk. And hopefully, those investments will pay off and those relationships that we've built, what those customers will pay off into a disproportional size share of wallet of their spend.

Okay. Okay. I'll move to a few financial questions, but any questions from the audience in the meantime? Okay. Let me move to the midterm model that you outlined at OFC, $2 billion to $2.3 billion in revenue. Now with the losses that you've seen, I think some are -- as you're outlining more temporary, some are more of a market share-driven loss, how do you think about the time line to sort of achieve that $2 billion to $2.3 billion of revenue target? Is it now more delayed than what you imagine at OFC as well?

Well, I'd say we're not going to guide multiple years into the future. But I'd say, given that we are undershipping today and once that inventory does get adjusted, we'll see an immediate bump up in our telecom and datacom business. Then you put the normal 10% CAGR on top of a normalized shipping in at the same level that our customers are shipping out. And I think that's certainly in the realm of possibility for us to achieve in the next few years. So I'm not suggesting that we're not going to make that, but I do suggest we got to get rid of the inventory at our customers. But I -- and I think fundamental and drivers of bandwidth requirements are unchanged and unrelenting. So I think at the end of the day, there's plenty of opportunities as long as we execute in R&D.

Okay. Okay. But the same question of -- I'd like to ask you on margins, 3D sensing business, where your share loss is, is a high-margin business for you. Telecom is a high-margin business. How do you think about the margin impact related to sort of those targets as well?

Yes. There's a few dynamics, right, one of which was the NeoPhotonics acquisition. And basically, that, when we acquired, it was a breakeven operating margin business. And we said we'll get $50 million of synergies as we integrate that business. At OFC, we upped that synergy target to $80 million. And we think that's very doable, and we'll be getting that in the next several quarters. So you take a $400 million business or a $350 million business that's breakeven and you add $80 million of synergies to it, that's going to help a lot in our telecom margins overall. So that's one step. The other is datacom is a very important business for us as well. We sell at the chip level, and those margins are quite high as well. We think that once we get rid of the datacom inventory, we'll get back to the levels that we had before and be able to produce substantial margin improvement as a result of that. So those are the 2 main things that need to happen. And then we got to get back up to north of the $2 billion mark to get back to those margin models, and I think that's -- we've already talked about that. So I think we're in a good place. And I think the differentiation that we provide to our customers in things like high-port count ROADMs and coherent components and tunable lasers, I think best-in-class products provide us the opportunity to drive our margins.

Okay. On the operating margin, one of the longer-term guides -- long-term guidance that you had out OFC was that you'll be -- that you're targeting 26% to 28% operating margin long term. Now if I remember, sort of pre-Neo acquisition, you were hitting 30% already on the operating margin. And in fact, you were sort of doing some upside to that. And so if I think about the difference there, which almost is, at that point, sort of 300 basis points to maybe 400 basis points on the long run, it seems like some portion is the Neo because you're saying Neo is going to be slightly less than 25% operating margin with the synergies baked in. Is Neo the only difference that you see in terms of getting to that 30% operating margin? Are there other buckets in there, like 3D sensing and others, in terms of keeping you from that 30% margin?

Well, certainly, having 20% to 30% of the 3D sensing revenue -- or 30% to 40% of the 3D sensing revenue we had in the past is a headwind for our margins. But I think we're doing a lot of other things to improve efficiencies, to drive internal manufacturing, to consolidate fabs, to do things that will really free up operating income and drive us back to those levels even without a recovery in 3D sensing. So that's why we came off of our 30 points of operating margin down to the high 20s, and I think that's totally doable even without a recovery in 3D sensing.

Okay. Okay. Got it. Maybe just switching gears here to a couple of opportunities. One, you've talked about progress in relation to the DSP business that you acquired from IPG. Maybe just give us an update on where things stand in terms of sort of your current visibility into getting into the market. And how much of a cost, sort of, benefit are you looking from it? Is that embedded in the model as well, the long-term model?

Yes. I wouldn't say we've incorporated that yet into the model. We're not counting -- well, I'm counting on it in my head, but not counting on the external targets. So number one, we're still going to rely on third-party DSP suppliers for the foreseeable future. We have great partners that we've worked with, and we continue to work with, to get new products out to market. And in fact, our existing 400-gig ZR and ZR+ is based on a third-party DSP. We view the investment that we're making and made in the acquisition is really a significant way to drive our cost down. And first product out will give us an incremental big step down in the overall 400-gig ZR and ZR module cost that I think will maybe even -- open up the market even broader. We will have products after that for 800-gig and 1.6-terabit. But again, we're going to continue to rely on third parties to get us to market first and then come in with a cost reduction effort, at least for the next few product introductions that we have. Things are going really great. The team in Brazil is fantastic, and we have a lot of DSP expertise that we brought on board since the acquisition. So it's a pretty exciting time and one that I think we'll have our first results in not too distant future, and I'll share those with you when we get them.

Okay. Okay. In terms of opportunities, the other thing that, as I was writing out these questions, came to mind is you have capabilities at the component level. You have capabilities at the chip level as well. How does that position you with the current manufacturing footprint in terms of benefiting from funding plans like the CHIPS Act? Do you see an opportunity to participate in that given the capabilities that you have?

Yes. I mean we have fabs -- we have 2 fabs in California, we have 2 fabs in Japan, we have a fab in the U.K., all of which countries have an equivalent kind of CHIPS Act. And we're working to try to understand them better so that when we do need to make investments, and we are making investments in all of our fab capabilities, we may be able to tap into those types of funds. And so we're still learning and still talking to those government officials across the globe in what's possible and how do we apply for those funds to help us with those investments.

Okay. Got it. Any questions from the audience? Okay. So let me ask you a couple more and wrap it up. LiDAR, definitely an interesting opportunity, that's ramping but slowly. Firstly, the $3 million of revenue that you have, can you just clarify who is -- who are the customers there? Are these the LiDAR players that we hear of? Or are these sort of OEMs? Like what is the nature of the customer there? And from what we can see, most of this market starts to ramp sort of 2024. And really, in terms of volumes, what are your thoughts in terms of time lines?

Yes. I think we're engaged with many customers from OEMs to Tier 1s to Tier 2s and other LiDAR manufacturers. The early adopters for LiDAR were in China. So most of that revenue comes from our partner that we announced publicly with them, called Hesai. I think they're doing quite well. I wish they were doing even better and ramping faster. But I think it's a -- automotive industry is one that we're learning about, and it takes a while to get from the $3 million a quarter to $30 million. And so we're looking forward to that and working with Hesai and others to get to that point. And I think they're winning business. And so it's one of those things that we're -- as we learn about, it takes a long time to get in. But once you're in, I think it's shown to be a very sticky business and one that we're continuing to partner with who we think are going to be the winners in that space to really make that a meaningful part of our business in the next few years.

Okay. Last one for you before we wrap up. Obviously, there was sort of the intent to diversify the business in terms of going after the legacy Coherent. You've done some amount of that organically. Where do things stand now in terms of your intent to diversify the business, either organically or inorganically? Like if you separate out the 2, how much do you want to sort of delve into each? And particularly, when you think about organic sort of diversification, what are the areas you're more considering? Because with everything happening around datacom, AI, et cetera, you would probably create more index to communication than before.

Yes. But I think there's also organic growth in adjacent markets for existing technologies or similar technologies. So one of the things we're very proud of is our entrance into ultrafast lasers for solar cell processing. So the only thing preventing us from getting more revenue there is our ability to ramp those products faster. So that's an area. We're looking at EV battery, welding, other kinds of EV type of applications. And we're also looking at other markets that are even more far afield that could be using photonics that aren't, where photonics could be very disruptive. And as we start introducing those products, we'll talk more about those on our calls. But it's very interesting what photonics can do to a lot of industries. So our organic effort is quite robust, and we're investing in new markets there to see what is possible there. We're not putting aside. We're going to continue to look at acquisitions to diversify. But I think our -- the best way to diversify, for me, personally, is looking at organic ways of disrupting markets that can really take advantage of photonics.

Okay. Great. We're almost up on time, so I'll wrap it up there. Thank you. Thank you for coming to the conference. Thank you, everyone.

Thank you.