Applied Optoelectronics, Inc. (NASDAQ:AAOI) Q2 2023 Earnings Call Transcript
Applied Optoelectronics, Inc. (NASDAQ:AAOI) Q2 2023 Earnings Call Transcript August 3, 2023
Applied Optoelectronics, Inc. misses on earnings expectations. Reported EPS is $-0.21 EPS, expectations were $0.28.
Operator: Good afternoon. I will be your conference operator. At this time, I would like to welcome everyone to Applied Optoelectronics' Second Quarter 2023 Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speaker's remarks, there will be a question-and-answer session. All participants, again, have been placed on need to prevent any background noise. [Operator Instructions] After today's presentation, there will be an opportunity to ask questions. [Operator Instructions] Please note, this event is being recorded. I will now turn the call over to Lindsay Savarese, Investor Relations for AOI. Ms. Savarese, you may begin.
Lindsay Savarese: Thank you. I'm Lindsay Savarese, Investor Relations for Applied Optoelectronics. I am pleased to welcome you to AOI's second quarter 2023 financial results conference call. After the market closed today, AOI issued a press release announcing its second quarter 2023 financial results and provided its outlook for the third quarter of 2023. 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 one year. Joining us on today's call is Dr. Thompson Lin, AOI's Founder, Chairman and CEO; and Dr. Stefan Murray, AOI's Chief Financial Officer and Chief Strategy Officer.
Thompson will give an overview of AOI's Q2 results, and Stefan will provide financial details and the outlook for the third quarter of 2023. A question-and-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, levels of activity, performance or achievements of the company, or its industry to differ materially from those expressed or implied in such forward-looking statements. In some cases, you can identify forward-looking statements by terminology such as believes, forecast, anticipates, estimates, intends, predicts, expects, plans, may, should, could, would, will, potential or things or by the negative of those terms or other similar expressions that convey uncertainty of future events or outcomes.
The company has based these forward-looking statements on its current expectations, assumptions, estimates and projections. While the company believes these expectations, assumptions, estimates and projections are reasonable, such forward-looking statements are only predictions and involve known and unknown risks and uncertainties, many of which are beyond the company's control, including important factors such as risks related to the company's ability to complete the transaction described on this call on the proposed terms and schedule or at all. The risk that certain closing conditions may not be timely satisfied or waived; the failure or delay to receive the required regulatory or other government approvals relating to the transaction; and the occurrence of any event, change or other circumstance that could give rise to the termination of the transaction.
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 innovation, as well as statements regarding the company's outlook for the third quarter of 2023. 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, 2022.
Also, all financial results and other financial measures 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 -- we'll be attending the HD Win right Global Investment Conference on September 11 and the Northland Institutional Investment Conference on September 19. I'd like to note the date of our third quarter earnings call is currently scheduled for November 9, 2023.
Now I would like to turn the call over to Dr. Thompson Lin, Applied Optoelectronics' Founder, Chairman and CEO. Thompson?
Thompson Lin: Thank you, Lindsay, and thank you for joining our call today. Our second quarter revenue was in line with our expectations, while our non-GAAP gross margin and non-GAAP loss per share were better than our expectations. We are pleased by the continued progress we have made on improving our gross margin and are encouraged by increased demand we saw for our 100G and 400G products in our data center business during Q2. Normally revenue for our 10G product increased 30%, sequentially, while revenue for our foreign product doubled sequentially and accounted for 11% of our total data center revenue in Q2. During the second quarter, we did revenue of $41.6 million, in line with our guidance range of $40.5 million to $47.5 million, ‘we’ve delivered non-GAAP gross margin of 24.8%, above our guidance range of 20.5% to 23.5% mainly driven by a favorable product mix and not targeted cost reductions.
Our non-GAAP loss per share was $0.21, above our balanced range of a loss of $0.23 to $0.31. Total revenue in our CATV segment was $9.3 million, down 61% year-over-year and down 66%, sequentially. As a reminder, our Q2 results were negatively impacted by some inventory build up with certain CATV customers. which led to softer than expected CATV revenue in Q2. We do believe that this inventory digestion in transfer and based on what we have seen today, we expect our CATV revenue to increase slightly sequentially also be down year-over-year off a record strong Q3 of last year. Total revenue for our datacenter total of $27.6 million increased 28% year-over-year and increased 35% sequentially large due to increased demand for our 100G and 400G products as we continue to see the run-up of our 400G products.
On our last two calls, we discussed an agreement we have signed with Microsoft, who has been a long-term key customer of ours, for a development program to make next-generation lasers for each datacenter both for 400G and beyond. During the second quarter, we signed additional agreement with Microsoft to provide design and assembly services for active optical cables. We view this country awards as validation of the strength and quality of our core laser predication ability. In total, we believe that, this award for AOI of over $300 million over three years. With that, I will turn the call over to Stefan, to review the details of our Q2 performance and outlook for Q3. Stefan?
Stefan Murry: Thank you, Thompson. As Thompson mentioned, our second quarter revenue was in line with our expectations, while our non-GAAP gross margin and non-GAAP loss per share were above our expectations. We're pleased by the continued progress we have made to improve our gross margin and expect this trend to continue. Further, we are encouraged by the increased demand we saw for our 100G and 400G products in our datacenter business during Q2. We Lastly, we are excited about our newly formed broadband access group, the strength of talent we have recently added to this team and believe that we are well positioned to execute on our new strategy to sell our CATV products directly to MSO customers. Before turning to discuss our results and outlook, I want to provide an update on the transaction that we announced last September with Yuhan Optoelectronic Technology.
As we have previously discussed, we entered into an agreement with Yuhan, for the sale of our manufacturing facilities located in the People's Republic of China and certain assets related to our transceiver business and multi-channel optical subassembly products for the datacenter, telecom, and FTTH markets for a purchase price of $150 million. As a reminder, this transaction is subject to customary closing conditions and regulatory approvals, including CFIUS and ODI. We continue to make progress in preparing the information that will be needed in order to file for the various regulatory approvals that are required in order to finalize the divestiture. Although these filings are not yet complete, we do expect to submit our application to CFIUS within the next 45 days.
While the timing of the regulatory approval process is uncertain, based on our current schedule, we expect the closing timeframe will be early 2024. Turning to the quarter, our total revenue for the second quarter decreased to 20% year-over-year to $41.6 million, which was in line with our guidance range of $40.5 million to $47.5 million. The decline in revenue was largely due to the inventory buildup with certain of our CATV customers that we discussed on our Q1 call. During the second quarter, 66% of our revenue was from our data center products. 22% was from our CATV products, with the remaining 11% from FTTH, telecom and other. In line with our expectations, CATV revenue in the second quarter was $9.3 million which was down 66% sequentially and 61% year-over-year.
As a reminder, our CATV revenue was negatively impacted as a few of our CATV customers worked through excess inventory that had built up among their various distribution channels. We expect that any inventory buildup will be transitory. And based on what we are seeing today, we expect that our CATV business will increase slightly sequentially, although it will be down year-over-year off a historically strong Q3 of last year. As a reminder, our CATV revenue in 2021 and 2022 was historically high compared to prior years. We do expect our CATV revenue will rebound to more normal levels, although near term, it will be down compared to those historic highs as the MSOs transition to next-generation architecture. Looking further ahead, we are carefully monitoring MSO plans to move to DOCSIS 4.0 networks.
While we are cautiously optimistic as the nature of these upgrade cycles can be lengthy, we continue to believe AOI remains well positioned to capture a portion of this new infrastructure spend and think our products are well suited for when the push to install amplifiers and other network elements for DOCSIS 4.0 begins. We believe this transition could happen in early to mid-2024. During the quarter, we announced the change in our strategy to offer our CATV products directly to MSO customers through our recently formed broadband access group. We believe this strategic move will allow us to better serve the MSO needs for reliable, feature-rich amplifiers for their network upgrades. We also expect that this strategy will help us scale our business more efficiently and improve our gross margin further.
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We believe we could eventually see 10 to 15 points of margin increase as a result of this transition. In line with our new strategy of directly selling to the MSOs, during the quarter, we announced order availability of our Quantum Bandwidth line extender and system amplifier products. As one of the few companies with large-scale in-house manufacturing capacity for amplifiers, we believe our new products will expand AOI's product portfolio while maintaining the industry-leading quality and reliability of our renowned HFC products. During the quarter and subsequent to quarter end, we also added critical talent to our newly formed Broadband Access group. Notably, and as you may have seen, we appointed Todd McCrum as Senior Vice President and General Manager of the Broadband Access team.
In this newly created position, Todd will lead sales, product development and marketing of AOI's quantum bandwidth line of broadband access products. Todd's impressive career in broadband has span the development of modern hybrid fiber coax networks and we are thrilled to add him to the team. He previously spent 27 years with Scientific Atlanta and Cisco Systems, including serving as the lead of Cisco's Cable Access business unit and Vice President of Marketing. In addition to Todd, within our Broadband Access group, we also appointed Steve Pederson as EVP of Business Development; Michael Ballard, as Senior Director of Marketing; Al Johnson, a Senior Director of Business Development; and most recently, Corey Chapman as Senior Director of Sales Engineering for our Quantum Bandwidth line of products.
All four of these business professionals have had impressive careers with extensive experience that we believe will greatly contribute to the success of our Broadband Access Group. We were excited by the strength of talent that we have added at the leadership level, and we have also made significant strides in building out the rest of the broadband access team. We are focused on executing on our new strategy, and believe we are well positioned with the right products and a deep bench of talent. Turning to our data center business. In Q2, data center revenue came in at $27.6 million up 28% year-over-year and up 35% sequentially, largely due to increased demand for our 100G and 400G products. In the second quarter, 75% of our data center revenue was from our 100G products.
12% was from our 200G and 400G transceiver products and 5% was from our 40G transceiver products. Notably, revenue for our 100G products increased 30% sequentially and while revenue for our 400G products doubled sequentially and accounted for 11% of our total data center revenue in Q2. Looking ahead, we're encouraged by the increased demand we have been seeing and expect continued sequential growth of our data center business in Q3. As Thompson mentioned, on our last two earnings calls, we discussed how we signed an agreement with Microsoft for a development program to make next-generation lasers for its data center both for 400G and beyond. During the second quarter, we signed an additional development agreement with Microsoft to provide design and assembly services for active optical cables.
Our recent 8-K filings give additional data. We expect to begin shipping initial quantities of these products to Microsoft by the end of this year for their testing with production ramping early next year. We view these contract awards as validation of the strength and quality of our core laser fabrication ability and our design and manufacturing expertise for these advanced high-speed interconnect products. As many of you know, Microsoft has been a long-term key customer of ours. While not guaranteed, we believe that the revenue opportunity for our 400G and 800G products could be greater and have a longer duration than the revenue contribution we saw from this customer during the peak of the 40G product cycle, which would imply revenue from these products exceeding $300 million over the several years of these build-outs.
We also believe that the value proposition that we offer to Microsoft is just as strong with other data center operators, and we are working with several of them to evaluate our technology and qualify our products. We are also seeing positive inbound interest from other potential customers for our lasers, and we believe we are well positioned to grow this business. I'd like to particularly highlight one new source of laser revenue in this quarter. During the quarter, we received our first volume order for LIDAR lasers to be used in a transportation application. The order was approximately $1 million worth of lasers to be delivered over the next few quarters, so it's not immediately material financially, but we feel that the LIDAR business has the potential to grow substantially in the three- to five-year time frame, and we view this initial volume order as indicative of the success of the development program for our Frequency Modulated Continuous Wave or FMCW, LiDAR lasers.
We believe that we will secure additional orders to these lasers over time as other customers begin to roll out at FMCW LiDAR technology. Now turning to our Telecom segment. Revenue from our telecom products of $4.2 million was down 33% year-over-year and up 14% sequentially. Looking ahead, we expect telecom sales to remain roughly flat to up slightly in Q3. For the second quarter, our top 10 customers represented 88% of revenue, up from 87% in Q2 of last year. We had two greater than 10% customers, one in the data center market and one in the CATV market which contributed 29% and 13% of our total revenue, respectively. In Q2, we generated non-GAAP gross margin of 24.8%, which was above our guidance range of 20.5% to 23.5% and was up from 23.2% in Q1 of 2023 and up from 16.7% in Q2 of 2022.
The increase in gross margin was driven mainly by our favorable product mix, our cost reduction efforts and the benefit of some of the intentional actions we have taken to improve our bottom line that we have discussed on our prior couple of earnings calls. These actions included the exit of several low-profit legacy products, shifting R&D resources away from some low-margin projects to focus our resources on areas where we can maximize margin and some success in executing price increases with some customers. We are pleased with the execution we made on increasing our gross margin and expect this trend to continue. We remain committed to the long-term goal of returning gross margin to around 40% and believe that this goal is achieved. In line with our expectations, total non-GAAP operating expenses in the second quarter were $19 million or 45.8% of revenue, which compared to $18.2 million or 34.9% of revenue in Q2 of the prior year.
With the new additions in our broadband access group and additional activity we plan to promote our CATV products, we expect a modest uptick in non-GAAP operating expenses to $20 million to $21 million per quarter starting in Q3 of 2023. Non-GAAP operating loss in the second quarter was $8.7 million, compared to an operating loss of $9.5 million in Q2 of the prior year. GAAP net loss for Q2 was $16.9 million or a loss of $0.57 per basic share, compared with a GAAP net loss of $14.5 million or a loss of $0.52 per basic share in Q2 of 2022. On a non-GAAP basis, net loss for Q2 was $6.1 million or a loss of $0.21 per basic share, which was better than our guidance range of a loss of $6.8 million to $9 million or a loss per share in the range of $0.23 to $0.31 per basic share, and compares to a net loss of $7.6 million or a loss of $0.28 per basic share in Q2 of the prior year.
The basic shares outstanding used for computing the net loss in Q2 were $29.5 million. Turning now to the balance sheet. We ended the second quarter with $28.6 million in total cash, cash equivalents, short-term investments and restricted cash. This compares with $26.9 million at the end of the first quarter of this year. We ended the quarter with total debt, excluding convertible debt of $46.9 million, down from $70.1 million at the end of last quarter. As of June 30, we had $66.3 million in inventory compared to $70.2 million at the end of Q1. Inventory decreased due to consumption of inventory for customer orders. We made a total of $1 million in capital investments in the second quarter, which is mainly used for production and R&D equipment.
As we disclosed in March, we initiated a new at-the-market offering. To-date, we have raised $9.9 million net of commissions and fees under this new program, all of which was raised in Q2. Moving now to our Q3 outlook. We expect Q3 revenue to be between $60 million and $66 million and non-GAAP gross margin to be in the range of 29.5% to 31%. Non-GAAP net income was expected to be in the range of a loss of $1.9 million to income of $0.2 million and non-GAAP income between a loss of $0.06 per basic share, and income of $0.01 per basic share using a weighted average basic share count of approximately 33.1 million shares. With that, I will turn it back over to the operator for the Q&A session. Operator?
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