NeoPhotonics’ 13% revenue growth in Q3 drives return to profit, despite US export restrictions on Huawei

For third-quarter 2019, NeoPhotonics Corp of San Jose, CA, USA (a vertically integrated designer and manufacturer of hybrid photonic integrated optoelectronic modules and subsystems for high-speed communications) has reported revenue of $92.4m, up 13% on $81.7m both last quarter and a year ago (and near the top end of the $87-93m guidance range).

Fiscal	Q3/2018	Q4/2018	Q1/2019	Q2/2019	Q3/2019
Revenue	$81.7m	$91.1m	$79.4m	$81.7m	$92.4m

“We achieved strong results, driven by increased partnerships with the leaders in the industry, strong end-customer demand in Western metro and data-center interconnect (DCI) markets, our continued leadership and progress on 400G-and-faster solutions, and strength in China,” says chairman, CEO & president Tim Jenks.
Driven by the firm’s leading coherent products, revenue for High-Speed Products (for data rates of 100G-and-above) has grown by 25% year-on-year, rising from 84% of total revenue a year ago and 89% last quarter to 92%.

Compared with last quarter (as a proportion of total revenue), shipments to the Americas have risen slightly from 24% to 25%, the rest of the world (RoW) has fallen from 28% to 27%, and China remained flat at 48%.

NeoPhotonics had two 10% customers, one of which was Huawei Technologies. “Huawei has been the largest systems supplier in our industry for several years and, as a result, has also been NeoPhotonics’ largest customer,” notes Jenks. Despite being down from 46% in 2018, Huawei actually rebounded slightly from 36% of total revenue last quarter to 37%, all from products that are not subject to US Export Administration Regulations (EAR). “We have weathered the headwinds of Huawei Technologies’ inclusion [as of 21 May] on the US Department of Commerce’s Bureau of Industry and Security (BIS) ‘Entities List’ thus far and we remain committed to complying with US EAR,” he adds.

“Despite the trade tensions, we believe the macro trends of the industry favor our core capabilities of delivering the highest-performance products for the most demanding applications,” says Jenks.

The next four customers again showed strong performance, contributing 48% of revenue. “Our business has continued on a strong footing with our leading Western customers, especially those serving DCI and metro markets,” says Jenks.

On a non-GAAP basis, gross margin has risen further, from 24% a year ago and 25.6% last quarter to 29% (at the upper end of the 25-29% guidance range). Within this, product margins were about 34%, up from 32% both last quarter and a year ago, due to good execution and continued cost reductions. Other cost of sales charges of about 5 points consisted of about 4 points of under-utilization charges in the firm’s laser fabs and factories impacted by the US Export Administration Regulations, and just under 1 point of tariff charges on products shipping from the firm’s US fabs into China.

Operating expenditure (OpEx) has risen slightly, from $22.1m both a year ago and last quarter to $22.3m, although this represents a cut from 27.1% of revenue to 24.2% of revenue.

“Solid execution, strong customer demand, and cost reduction combined for a profitable quarter,” says Jenks. “While we continue to monitor the evolving status of US-China trade and the global macroeconomic environment, we have made the changes necessary to drive a profitable second half of 2019,” reckons senior VP, finance & chief financial officer Beth Eby.

Appreciation of the US dollar relative to the Chinese Yuan (the functional currency of the firm’s China operations) yielded a foreign exchange gain of about $2.6m, driven by revaluation of the China balance sheet items to the end-of-quarter exchange rate. “We view this as temporary good news that will reverse as the Chinese Yuan appreciates,” notes Eby.

Net income was hence $5.4m ($0.11 per diluted share - $0.04 from after-tax FX gain and $0.07 from ongoing business - at the high end of the forecasted range of between a $0.03 loss and a $0.07 profit). This compares with a loss of $1.2m ($0.03 per diluted share) last quarter and $2.1m ($0.05 per diluted share) a year ago.

Cash generated from operations was $9m (up from just $0.7m last quarter). Free cash flow was about $7m (up from $0.3m). Net inventory was $49m (66 days), roughly flat with last quarter despite the 13% higher revenue, as operational efficiency continues to improve. During the quarter, cash and cash equivalents, short-term investments and restricted cash hence rose by $6m to $80m.

“Demand signals from our global customers remain positive. In China, we see signals that most products are selling through to end customers, as evidenced by tender activity,” says Eby. “Looking forward, we believe certain key customers in China and in the West have a desire to build additional inventory to deal with surges and/or to mitigate their perceived supply chain risks. This is reflected in our outlook,” she adds.

For fourth-quarter 2019, NeoPhotonics expects revenue to grow to $94-100m. Gross margin should be 28-32%. “We expect margins to grow with cost reductions, offset by the initial impact of annual price negotiations,” says Eby. “With profitability, operating expenses increase slightly on an increase in variable compensation,” she adds. OpEx should hence rise to $23m. Diluted earnings per share are expected to be $0.04-0.14.

At the European Conference on Optical Communications (ECOC 2019) in Dublin, Ireland (23-25 September), NeoPhotonics made several announcements related to increasing data-carrying capacity of optical fiber networks in both telecom and data-center applications. “Our solutions include our C++ laser, modulator and receiver. These products have expanded spectral bandwidth ranges to support the full Super C-band, which is 50% more than today’s standard network configuration. These are industry-leading solutions, which allow customers to significantly expand bandwidth and data-carrying capacity of their existing and new fiber installations,” says Jenks.

“Further, we announced initial shipment of new arrayed waveguide grating (AWG) multiplexers and de-multiplexers for high-capacity, high-baud-rate, coherent transmission systems. Based on NeoPhotonics high-volume, high-reliability planar lightwave circuit (PLC) platform, these new AWGs have broad and flat filter response functions over the pass-band to support new coherent systems operating from 60Gbaud to 128Gbaud. These support both current state-of-the-art networks and the next generation at 600G, 800G and higher capacities on a single wavelength with customized channel spacings,” he adds.

“Inside the data center, we announced general availability of our non-hermetic 30-40mW DFB laser sources for silicon photonics 100G-per-wavelength FR and DR reach transceivers. Silicon photonics transceivers require a separate laser to supply light powerful enough to overcome intrinsic losses. NeoPhotonics family of high-power DFB lasers are designed to efficiently couple to the SiPho modulator chip and do not require hermetic packaging making them an ideal choice for next-generation transceiver modules. Moreover, these capabilities open some adjacent market opportunities for our high-speed technologies over the long term.”

“The fundamental driver of our coherent business is the continued deployment of 100G-and-above coherent ports, which have been growing at 20% or more each year. We expect this to continue for the next several years. We anticipate that 400G will continue to ship while our 600G products ramp through this year and next, and will soon include 400ZR rollouts,” continues Jenks.

“Beyond 2020, we expect that 400ZR, 600G and 800G will coexist, and we will be engaged in each of these. These approaches all require best-in-class component performance and are well aligned with our advanced technologies, high-speed capabilities and strong presence in high-speed component platforms.”

See related items:

NeoPhotonics’ revenue rises 3% in Q2 as Huawei shipments only partially subject to export ban

NeoPhotonics’ Q1 revenue grows 16% year-on-year to $79.4m

NeoPhotonics’ revenue grows 11% in Q4 to $91.1m

NeoPhotonics’ Q3 revenue up 15% year-on-year to $81.7m

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