ADTRAN Holdings, Inc. (ADTN) Q1 2018 Earnings Report, Transcript and Summary

Ladies and gentlemen, thank you for standing by, and welcome to ADTRAN’s First Quarter 2018 Earnings Release Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer session. [Operator Instructions] During the course of the conference call, ADTRAN representatives expect to make forward-looking statements, which reflect management’s best judgment based on factors currently known. However, these statements involve risks and uncertainties, including the successful development and market acceptance of core products, the degree of competition in the market for such products, the product and channel mix, component cost, manufacturing efficiencies and other risks detailed in the Annual Report on Form 10-K for the year ended December 31st of 2017. These risks and uncertainties could cause actual results to differ materially from those in the forward-looking statements, which may be made during the call. It is now my pleasure to turn the call over to Mr. Tom Stanton, Chief Executive Officer of ADTRAN. Sir, please go ahead.

Thank you, Lynn. Good morning, everyone. Thank you for joining us for our first quarter 2018 conference call. With me this morning is Roger Shannon, Senior Vice President and Chief Financial Officer. I’d like to begin this morning by discussing the details behind our first quarter results, and I will end with some comments on what we anticipate going forward. Roger will then discuss our quarter one performance in more detail, and we’ll then open the call up for any questions that you may have. Revenues for the quarter were $120.8 million and our Network Solutions revenue, including both international and domestic markets came in at $105.3 million. Total Services and Support revenues for the quarter were $15.6 million with revenue in our domestic markets total coming in at $62.1 million or 51% of the total, and our international revenues coming in at $58.7 million or 49% of the total. On a year-over-year basis, our domestic revenues decreased 48% due to merger-related spending pause at a Tier 1 operator, and our international business increased 15% year-over-year with a seasonally stronger European Tier 1 spending. As expected, our performance this quarter continued to be impacted by a merger-related review and slowdown in the spending at a domestic Tier 1 customer. While our international revenue exceeded expectations, lower overall product volumes resulting from the domestic slowdown and lower international gross margins associated with footprint expansion for super vectoring negatively affected our profit margins for the quarter and further hampered our results. However, looking ahead, we expect to see continued strength in our European business in the second quarter and growth in our North American business in the second-half of this year. During the second quarter, we expect to gain further clarity around the domestic Tier 1 account, post-merger business outlook, and we expect to see strengthening of the domestic regional service provider market, particularly in fiber optic access. To that end, in the first quarter, we were awarded a major broadband RFP from a large domestic Tier 1 operator, which solidifies our primary market share position in that segment. In the domestic rural broadband market, ADTRAN added nine new accounts to the Fiber-to-the-Premises and gigabit network build-out and were awarded a turnkey services contract with another major Tier 2 operator in the U.S. These milestone achievements are good indicators of our continued momentum and align with our strategic objectives to grow and diversify our services business and to expand our portfolio toward all types of providers, including cable MSOs, telecoms, electric co-ops, utilities, municipalities, and others. I want to provide an update on the new Tier 1 opportunities that we have discussed previously. All are moving forward with major milestones completed and others are approaching us near-term. In the domestic Tier 1 Mosaic and G.fast project, we completed the out-of-region launch last quarter and are wrapping up the in-region launch right now. These launches include the integration phase for this project and have enabled customer service availability within any markets where they are deploying MDUs nationwide. For our NG-PON2 project, we continue to invest heavily and are completing key milestones for the overall solution as our engagement with a customer is now at a peak level. I expect to be able to share more with you on this project in the upcoming call. In Australia, we have received purchase orders and now expect a nationwide production ramp of our G.fast roll out to begin in the second-half of the year. This is one of several contributors to our positive outlook in the second-half. In Europe, a leading Tier 1 operator awarded us additional market share for business CPE, and we made significant progress with a new European Tier 1, where we finalized the master purchase agreement and successfully completed the second round of Mosaic 10 gig PON lab trials. We now have clearance for field trial. Additionally, ADTRAN is making strong progress with network implementation services projects and the Tier 1 and Tier 2 European market. In alignment with our strategic plans to diversify our customer base and grow our positions in the cable MSO market, we announced during the quarter the acquisition of the dominant EPON portfolio manufacturer in the North American market. These EPON solutions, coupled with our existing portfolio, strengthens our incumbent position with the leading cable and MSO operators here in the U.S. While a slowdown of a domestic Tier 1 customer coupled with the timing of new major projects have provided near-term challenges, we are seeing progress that we believe will have a positive and meaningful revenue contribution in the second-half of the year, and we’ll feel strong momentum in 2019. ADTRAN continues to be at the forefront of software-defined access, and we are well-positioned to help service providers who seek transformation to grow revenue, reduce costs, and accelerate service delivery and deployment. With that, I’ll turn it over to Roger to add some more comments on the Q1 results.

Thank you, Tom, and good morning. I’ll speak about our first quarter results and discuss what we see for the next quarter. During my report, I’ll be referencing both GAAP and non-GAAP results. As Tom stated, ADTRAN’s first quarter revenue came in at $120.8 million, compared to $170.3 million for quarter one of last year and $126.8 million we reported last quarter. Our Network Solutions revenues for the first quarter were $105.3 million versus the $143.6 million for quarter one of last year and $95.8 million reported for quarter four of 2017. Our Global Services & Support revenues in quarter one 2018 were $15.6 million, compared to the $26.7 million earned in quarter one of 2017 and $31 million reported for the fourth quarter of 2017. Across our revenue categories, access and aggregation revenues for quarter one 2018 were $81.7 million, compared to $120.1 million for quarter one in 2017 and $79.2 million last quarter. Customer devices revenues for the quarter were $30.1 million versus $36.3 million for quarter one in 2017 and $32.8 million for quarter four of last year. Traditional and other products revenues for quarter one 2018 were $9 million, compared to $13.9 million for quarter one 2017 and $14.9 million for quarter four 2017. Looking at revenues geographically, domestic revenues for quarter one 2018 were $62.1 million versus the $119.3 million we reported in quarter one of last year and $94.3 million in quarter four of 2017. Our international revenues for quarter one 2018 were $58.7 million, up compared to the $51 million in quarter one of last year and up from $32.5 million for quarter four of 2017. We have published the reporting of each of these categories on our Investor Relations webpage at adtran.com. For the quarter, we had two 10% of revenue customers. Our GAAP gross margins for the first quarter of this year were 32.9%, compared to the 43.3% for first quarter of 2017 and 46.4% last quarter. The year-over-year and quarter-over-quarter decreases in our gross margins were driven primarily by the increased waiting of our international business, coupled with an increase in lower-margin starter kits associated with footprint expansion in the European Tier 1 customer, unfavorable mix in our domestic services business and $2.4 million of restructuring expense. Total operating expenses on a GAAP basis were $66.4 million for quarter one of 2018, a decrease of $400,000, compared to $66.8 million for quarter one of 2017 and $3.4 million higher than the $63 million reported in quarter four of 2017. On a non-GAAP basis, our quarter one operating expenses were $60.6 million, compared to $63.9 million in quarter one of last year and $60.7 million last quarter. The year-over-year decrease in operating expenses is primarily attributable to lower performance in equity-based compensation in the quarter, lower R&D expenses related to customer-specific projects, and reduced intangible amortization related to acquisitions, all of which more than offset the $3.6 million of restructuring expenses in OpEx. The quarter-over-quarter increase in operating expenses was primarily the result of the previously mentioned restructuring expenses, increase in performance and equity-based compensation and foreign exchange movements offset by lower R&D expenses. The difference between GAAP results and non-GAAP operating expenses in Q1 is due to restructuring expenses associated with our early retirement program, amortization expenses related to our Active EPON and RFoG products acquisition in the third quarter of 2016 and equity-based compensation. Operating income on a GAAP basis for the quarter just ended was a loss of $26.6 million, compared to operating income of $6.9 million reported in quarter one of last year and an operating loss of $4.2 million reported in quarter four of 2017. The decrease in quarter one GAAP operating income, as compared to quarter one 2017, is attributable to lower revenues with unfavorable mix, offset slightly by favorable foreign exchange movements and lower operating expenses. The quarter-over-quarter decrease in operating income is driven primarily by lower revenues with unfavorable mix and higher operating expenses. Non-GAAP operating income or adjusted EBIT for quarter one of 2018 was a loss of $18.3 million, compared to income of $10 million for quarter one of last year and a $1.8 million loss reported in quarter four of 2017. As described in the supplemental information provided in our operating results disclosure, stock-based compensation expense net of tax was $1.4 million for quarter one of 2018, compared to $1.5 million reported in quarter one of last year and $1.4 million last quarter. Expenses related to the amortization of acquired intangibles were $427,000 net of tax, compared to $713,000 in quarter one of last year and $297,000 last quarter. Restructuring expense net of tax was $4.4 million for the first quarter of 2018, compared to zero reported in quarter one of last year and $36,000 last quarter. All other income net of interest expense for quarter one of 2018 was $14 million, inclusive of an $11.3 million bargain purchase gain, compared to $1.4 million for quarter one of 2017 and $3.4 million last quarter. The bargain purchase gain associated with the acquisition of North American EPON assets from Sumitomo Electric represents an estimate of the excess fair value of net assets acquired, as compared to the consideration exchanged. The company’s tax provision for quarter one 2018 was a tax benefit of $3.5 million, or an effective tax rate of 27.8%, as compared to a tax expense of $1.7 million, or 20.3% in quarter one of 2017, and a fourth quarter 2017 tax expense of $10.4 million, which included in the $11.9 million write-down of deferred tax assets and the deemed repatriation tax on our accumulated foreign earnings and cash related to the Tax Cuts and Jobs Act enacted that quarter. GAAP net income for quarter one of 2018 was a loss of $9.1 million, compared to income of $6.7 million for the first quarter of 2017 and a loss of $11.1 million last quarter. Non-GAAP net income for the first quarter 2018 was a loss of $14.2 million, compared to earnings of $8.9 million in quarter one 2017 and $2.5 million last quarter. Earnings per share on a GAAP basis, assuming dilution, was a loss of $0.19, compared to income of $0.14 for the first quarter of 2017 and a loss of $0.23 per share for quarter four of 2017. Non-GAAP earnings per share for the first quarter of this year were a loss of $0.29, compared to earnings of $0.18 per share for quarter one of last year and $0.05 per share for quarter four of 2017. Non-GAAP earnings per share excluded the effects of stock compensation expense, amortization of acquired intangibles, restructuring expenses, the effects of the Tax Cut Act charges in quarter four 2017 and the bargain purchase game related to the acquisition in the quarter just ended. We provided reconciliation between diluted GAAP earnings per share and diluted non-GAAP earnings per share in our operating results disclosure. Now turning to the balance sheet. Unrestricted cash and marketable securities net of debt totaled $208.2 million at quarter-end after paying $4.4 million in dividends and repurchasing 628,000 shares of common stock for $10.2 million during the quarter. For the quarter, we produced $46.2 million of cash from operations. Net trade accounts receivable were $80.9 million at quarter-end, resulting in a DSO of 60 days, compared to 45 days at the end of the first quarter of 2017 and 105 days at the end of quarter four 2017. The decrease in our current quarter DSO versus last quarter, as well as the increase in our cash flow from operations is primarily related to customer-specific payment terms and the timing of shipments within the quarter. The increase in DSO versus the same period last year is a result of the higher mix of international business in the current quarter. Inventories were $120 million at the end of quarter one, down from $122.5 million last quarter. Looking ahead to next quarter, the book and ship nature of our business, the timing of revenues associated with large projects, the variability of order patterns of the customer base into which we sell and the fluctuation in currency exchange rates in the international markets we sell into, may cause material differences between our expectations and actual results. However, taking into account the previously disclosed merger-related review and slowdown in spending at a domestic Tier 1 customer, our current expectations are the second quarter 2018 revenue will be in the range of $125 million to $130 million. Also, taking into account the potential impact of currency exchange rates and anticipated mix, we expect that our second quarter gross margins on a GAAP basis will be in the high 30% range, due to the continued higher mix of international business. We expect that GAAP operating expenses for quarter two 2018 to be approximately $63 million. We expect other income to be in the range of $2 million. And finally, we expect volatility in the quarterly tax rate for the rest of the year due to the anticipated mix of U.S. versus international income and the impact of the new tax law is having on those earnings. While we had a tax benefit in the quarter just ended, we expect that the consolidated tax rate for the second quarter to be an expense of approximately 40%. We believe the significant factors impacting revenue and earnings realized in 2018 will be the following: The macro spending environment for the carriers and enterprises; currency exchange rate movements; the variability of mix and revenue associated with project roll outs; professional services activity levels, both domestic and international; the timing of revenue related to the Connect America Fund projects; the adoption rate of our broadband access platforms and inventory fluctuations in our distribution channels. I would again encourage our listeners to visit ADTRAN’s Investor Relations website by going into www.adtran.com, following the Investor Relations link to take advantage of user-friendly resources such as interactive financials and to provide additional insight into our performance. With that, I’ll now turn the call back over to Tom.

Thanks very much, Roger. Lynn, we’re ready to open up for any questions people may have.

[Operator Instructions] We’ll go ahead and take our first question from Doug Clark with Goldman Sachs. Please go ahead. Your line is open.

All right. Thanks, guys, for taking my question. I think my first one and the big one is, can you give us an update on what visibility you’re seeing from your large U.S. customer that’s gone on merger-related review? And also, when you – when you’ve highlighted this at the end of 2017 and early – at the beginning of this year, you talked about a 90-day review process, which should have wrapped this up in the first quarter. So has this taken longer than expected and again, what visibility you are seeing? Thanks.

Yes, sure. So yes, it taken longer than expected. So we continue to have conversations. There is – needless to say, it was a slow roll out for this year, not only on major projects, but on just in general with that particular customer. So our outlook right now in Q2 really doesn’t show any material change in that customer, because I’m not sure that I can actually put a concrete timeframe around any change in behavior. My general sense is that they’re kind of formulating strategies around particular markets, and at some point in time, we’ll see a change in their behavior. But at this point in time, we’re kind of waiting and seeing and helping them with formulating different architectures and different plans and what the outcome would be in particular markets. So I would just say, it’s still going through a review.

Okay, that’s helpful. And then I mean, in terms of how large they are at this point clearly, they may not be zero. How close to that are they? It sounds like you’re still doing business with them outside of major – maybe the major projects?

Yes, the way that we think about this customer is, when we have existing, we have a very large footprint in this customer. So there is always existing business associated with card ads, subscriber ads and just – and upgrades within that footprint. The second piece, of course, is the vectoring piece, which is the one that has been by far hurt the most in this review. And are – so to add a little more color, our anticipation is that, over time that there will be some vectoring, some super vectoring, some G.fast, and some GPON, and they’ll be used in different parts of the network. But an overall inclusive plan is just not in existence in our mind at this point. And then the third piece of business is the CAF business, which we do, I mean, we have programs in place with them. They also got started slow this year. We see them picking up maybe a little in the second quarter. But the way that they’re scheduling and we do have better visibility of those, because those typically involve our services group. Those will actually meaningfully pick up in the second-half, meaningfully for CAF, but here again in relation to the vectoring program, they’re materially smaller.

All right. I appreciate that detail. And then my final other question was if we kind of assume that that customer is flat in the second quarter, we’re not – your guidance implies essentially no or very little seasonal growth or what would be considered below seasonal?

On that customer right now. Yes, what we’re seeing really is, it’s really more of what we experienced than what our conversations are. But what we’ve experienced so far, we’re effectively showing them flat in the second quarter and then we do see the CAF pick up that’s going to happen in the second-half and that’s pretty deterministic, so a much better first-half than second-half. Having said that, we’re not expecting any second-half GPON or vectoring pick up until we actually see it.

Okay. The direction that I was going on with the question was the other second quarter guidance excluding them doesn’t seem to kind of match what was typically second quarter seasonal growth. I’m wondering if that’s – are you seeing less growth out of other pieces of the business, or is it just the lack of the CenturyLink piece that’s kind of mitigating that?

Yes. In general – so in general, CAF is a little late this year with the Tier 2s as well. So you’re seeing that more back-end loaded in the second-half, excuse me, in the second quarter, but you’re seeing a pick up there. There’s going to be a pick up there. The majority of what your – of the impact is going to be, because the largest customer in that space is just quiet right now.

Okay, thanks a lot.

Okay.

Thank you. Our next question comes from Rich Valera with Needham & Company. Please go ahead. Your line is open.

Thank you. So looking at the Q1 domestic revenue was down, I guess, 48% year-over-year, I think, about $57 million in absolute numbers. Can you talk about how much of that was the M&A review with your big customer? How much of that is the rest of the business? I guess, just trying to get a sense of what the business is doing outside of this one big customer in the quarter and then in North America?

Yes, I don’t have the number right in front of me. But my guess it’s going to be – it’s 90 – it’s high 90s percentage, that one customer, if not more. So, because that also impacted our services business as well. So in the U.S., last year, the U.S. Tier 2 market wasn’t nearly as strong as it was in the year and the year prior to that. So my – the kind of high-level view is it’s kind of – that market is kind of flattish, maybe slightly down, but flattish first-half and, then we expect to pick up in the second-half based on the programs that we’re seeing today. And yes, I think that pretty much says it.

There’s a number of programs some of which you alluded to that were expected to contribute kind of incrementally this year MVM being one of them. AT&T, you mentioned, which sounds like, it should be contributing incrementally, both in 1Q and 2Q. But frankly, they all seemed to be moving the needle, given the guidance for 1Q and the results for 1Q and guidance for 2Q. Can you give any sense of when these programs are expected to sort of contribute materially and kind of move the needle and perhaps make up for some of the softness with the one big customer?

Sure. So the most deterministic thing, of course, is MVM, because – yes, let me not say that. The most deterministic thing that we have, of course, going on in Australia, because in that area, we have purchase orders in place. And it’s a matter of us getting to the final approval process and actually beginning to ship those purchase orders. Borrowing any unseen today issues with the product, which we don’t expect any, we did have some issues at the tail end of last year, which had us go back through some lab work at this point in time. We expect that to exit right around at the end of the second quarter or early third quarter. And at that point, we have a green light to begin shipments there. So that’s fairly deterministic. We know the size of the purchase orders that we have in place and we have additional purchase orders that we expect to be coming in after that. So – and that will happen in the – we expect today for that to begin shipping in the third quarter and we’re fairly confident about that at this point. The G.fast opportunity here in the U.S., yes, it is starting to ship. It is still only shipping out-of-region. In-region, of course, is a bigger market, because the sales force that that company has in place in region and because they have targeted specific builds, we’re not completely out of the in-region field trial yet, but that should be wrapped up here in the next 30 to 45 days. So we would expect that here again, to start picking up. You may see a little bit this quarter, but really starting to pick up in the second-half.

And then on gross margin, obviously, taking a big near-term hits on, I guess, mix of international versus North American, but also, because of the, I guess, the mix within the DT business. I mean, can you talk about, if you think there’s anything structural in that business or once you’re done with this initial sort of Greenfield footprint gain a phase that that those margins could sort of revert back to historical or do we – again, do we think there’s something longer-term structural with those margins?

Those will absolutely positively revert back to it historical. So we shipped a significant number of starter kits in Q1, which includes chassis and things that we talked about previously on the call. Those ultimately are good things, because you’re filling them up with line cards after you actually expand your footprint, but a lot of that happened in Q1. That will actually get better in Q2 and probably you’ll see a margin improvement in Q2 predominately because of that mix shift in the product for that customer. We’re expecting another very strong quarter with that customer, they were very big in Q1 as well. So you’ll see that revert. And then in the second-half, you’ll see a stronger U.S. mix. So you’ll see margins again, increase in the second-half versus the total first-half.

And one last final one for me. I know you don’t like to comment beyond forward guidance. But given the kind of extraordinary circumstances here and now with your revenue levels, I mean, is there anything you’d be willing to say about third quarter revenue levels relative to second quarter? I mean, I would assume, we would expect better than historical seasonality, given sort of what a low level we’re at and expect to be at in Q2. But is there any color you would be willing to provide on that?

Yes, I hear you again, I’m not going to try to reach to far out. But let me just kind of relay what we know, all right. So in the U.S., we’re going to see a pick up in CAF spending, we know that right. Those projects are in-house and have been identified and it’s a matter of us getting the engineering and installation work done on that. So you’ll see that pick up and you’ll see that pick up in Tier 1s, as well as Tier 2s. We will see a pick up first definitely versus Q1 and more than likely in Q2 and our business with G.fast and that will happen in the second-half. You will see us barring the unforeseen things that I’ve talked about with a material pick up in our Australian business and which will be meaningful for us. You will also see a material pick up in the MSO business in the second-half of this year. Some of that has to do with the recent acquisition that we have and some of that has to do with just the ongoing work that we’ve been doing in that space. So we would expect at this point in time to see a more than seasonal increase in Q3 and then sustaining in Q4. And then as we look forward into next year based off the programs, I just said along with some other programs that I mentioned in my conversation, we see a – right now things look good. So that’s as far as I probably want to go into that.

Okay, that’s helpful. Thank you.

Okay. All right. Thank you.

Thank you. Our next question comes from George Notter with Jefferies. Please go ahead. Your line is open.

Hey, guys, thanks very much. I guess, I just want to make sure I understand where you were really surprised in the quarter. I think going in, you did expect to have certainly a stronger mix of international. Did you expect to have a bigger mix of chassis versus line cards and capacity ads on the international business? I guess, I’m trying to really handicap…

Yes.

…the price on gross margins relative to what you’re guiding?

Yes, we did expect to have a higher mix. If you get right down to the situation that changed on the gross margin piece, that customer, we ended up shipping. So we have a fairly – as I mentioned before, the customer forecast fairly well, in places orders and it’s a relatively straightforward process compared to most carriers. What had – that particular issue had more to do with availability of our products. So we have a, let’s say, a bucket of things that we can ship and where we – we ended up having availability on the chassis line card starter kit more so than we had on line cards, which actually negatively affected the mix and there was a material change. So those line cards will start shipping in Q2. We did not know that coming into the quarter that we’re going to have that issue.

Got it. Okay. And then if I just look at the breakout of services versus product, it seems to me like the real outliers in services business obviously had a big step down sequentially. I guess, I would have imagined that that change would have helped gross margins to some degree. And the product revenue, it looked like it was pretty consistent with historical seasonality, obviously, you had a real low point in the December quarter. But again, it’s a surprise on services and how did that play into gross margins?

Services – so let me give you a little more granularity there. I hope you kind of understand the quarter. So the European business was up a little higher than we expected with bad mix. Bad mix not necessarily due to the customer’s fault, it’s just what we shipped them. If you recall, we initially, which color is a little more and tell you how much stronger the international business was than we initially expected. We had initially expected to ship some of our Australian customer this quarter, that has slid off. So that was a negative on gross margins margins as well. Services itself, services are typically – historically, less than product margins. But I would tell you, the European mix thing that I was talking about made that kind of not so strong, not that big of an issue in Q1. So it was services, took historical services gross margins are probably very much in line with what our gross margin [Technical Difficulty] in Q1. So they were – it was materially because of those starter kits. We also have an issue, of course, is that we saw a significant decline in our services business. And we are in the midst, which we kind of alluded to in our conversations, too, we were right in the mix of trying to get our services overhead and cost back in line with the current rate of business. So that impacted the gross margins as well.

Okay, great. Thanks for the incremental color there. Thanks.

Okay.

Thank you. Our next question comes from Bill Dezellem with Tieton Capital. Please go ahead. Your line is open.

Thank you. I believe in your opening remarks, you made reference to nine additional international wins. If that’s correct, would you please discuss those wins in aggregate and revenue size and the timing of when we might begin to see those?

Yes, sure. So my comments actually were in relation to U.S. customers. So those were larger Tier 3s and some Tier 2 business that we actually picked up here in the U.S. Internationally, did – we did win some additional business outside of the U.S. predominately – other than the ones that you already know about predominantly in Europe. So we did pick up a couple of services business, a couple of awards for services business in Europe, as well as we had separate Tier 2 carrier. We were able to displace an incumbent and we’re doing. We will begin a network roll out to replace that equipment sometime in the second quarter. So – but that was – the nine comment was in relation to the U.S. business.

Thank you. And Tom, those nine in aggregate are – would they be considered material or not? And what’s the timing of recognizing that revenue?

It will be in the second-half. In aggregate, yes, but they’re not of the – the same sizes. Think about that more like in aggregate as being large Tier 2, not really a Tier 1 carrier.

That’s helpful. Thank you for your clarification.

Okay.

Thank you. Our next question comes from Michael Genovese with MKM Partners. Please go ahead. Your line is open.

Well, thanks very much. First question, I just want to understand the two 10% customers, I assumed the one was a large European customer. The second, was that the Tier 1 with the review? Was it another U.S. Tier 1? Was it a U.S. Tier 2? Was it other? Who was that second?

One European, one U.S., but you’re correct in your assumption. And the review is absolutely a Tier 1 carrier in the U.S. that started really in the fourth quarter.

Right.

Does that answer your question?

Well, I guess, was the second one Tier 1 or Tier 2?

The – oh, the second – the second 10%?

Yes.

…was – I’m going to have to get to my disclosure person here. What would typically say? I think, we probably just break it down as we typically break it down as just U.S. and domestic.

Okay, fair enough. I just had one more question. And just thinking about the next couple of years in gross margin for the U.S. business and broadband, you you’re your broadband access portfolio – is there a difference in gross margin profile to where copper telecom products, fiber telecom products and cable products, or do they all roughly run at about the same gross margin potential?

For the infrastructure piece itself, they run roughly the same gross margin potential. When you get into the CPE associated with fiber, then that tends to be lower gross margin. And just to maybe add some more color, so that people can understand the gross margin. The gross margin impact in Q1 – if I look at the product shipments associated in the U.S., there was not a gross margin issue associated with those shipments in the U.S. So there wasn’t a material change in the pricing environment or anything like that in the U.S. We literally had a mix issue and then we had a services margin issue. But we had a mix issue in Europe and then we had services margin issue. But – so we haven’t seen an environment change. We haven’t seen a vendor change from our – from vendors supplying to us, it’s fairly constant. It’s been consistent now for a few years and it remains consistent. Our issue right now is the – we had a material decrease in our business. We have to readjust to that decrease and at the same time keep in places the things that are going to drive the second-half and what we expect to be a very strong 2019.

Okay. And then just finally, the follow-up on that. So the CPE, fiber CPE, I assume that when you’re talking about telco or cable MSO, that’s going to be similar -- the similar gross margin and similar sort of mix dynamics between CPE and network equipment? So my question is just, the margins of the cable and the margins of the telco roughly the same for fiber?

Well, one is, I don’t want to get in trouble with my customer base, I’m talking about margins to a granular and saying that one pays more than the other. But in reality, they are similar. There are things that will play into a particular gross margin for product and has more to do with the commodity nature versus the more custom nature of particular customer requirements. Things are more customized tend to have a gross – higher gross margin profile. But in general, the theme of infrastructure versus termination carries through regardless of the market or geography.

Well, thank you, Tom.

Okay.

Thank you. Our next question comes from Adam Thalhimer with Thompson Davis. Please go ahead. Your line is open.

Hey, good morning, guys. Thanks for taking the question.

Good morning.

The Tier 1 customer with a review, you said vectoring was by far hurt the most. I’m curious how did GPON/fiber hold up?

I didn’t – I don’t think, I would say it got hurt as well. So the reason vectoring hurt the most, because it was by far the biggest. But in our – in my opinion, anything that isn’t kind of business as usual, business as usual being ads and the leads from various space or CAF, which here again was impacted by a slow start, but it will happen. Anything that’s not one of those two is under pressure right now until they see where we’re going to.

Got it. And then just lastly, a quick question on the NG-PON2. You said your engagement on that projects had a peak level. Can you give a little more color on that?

Sure. So we have some very tight timelines that we’re working with the customer on and from an engineering perspective, where we just have to deliver. So we think that the prospect looks very good. Of course, it’s more back-end loaded. We expect a substantially strong 2019, not just stronger, but strong in – on its own right. And we expect to see some material movements in the next couple of quarters that are very important for the company. So our engagement with that customer in that we’re actually talking about world equipment going. We have product in the lab today and it’s a matter of us getting through that process as quickly as possible.

Okay. Thanks for the time.

Okay.

Thank you. Our next question comes from Paul Silverstein with Cowen. Please go ahead. Your line is open.

All right. A couple of questions, if I may. First off, Tom, going back to the question on project size, I recognize you have a whole – there’s a whole variety of projects in scope and size. But as a general proposition, when you get a Tier 2 customer, what’s the point that you only get Tier 1? When you get a Tier 2 customer, where do these projects typically run in total size on an annual basis? And how does that compare to a typical Tier 1 project in total size on an annual basis? Again, I recognize there’s a whole range…

Yes.

…for different projects. But can you give a general sizing? And then I’ve got a follow-up question.

Yes, but it’s a – let me just relay to you the information and then you’ll understand why it’s difficult. So it’s – that custom Tier 2 business tends to come project-related. So there are times, where Tier 2 customers are incredibly meaningful and there’s times where any single Tier 2 customers. As you know, we’ve had Tier 2s that have been 10% customers for us periodically. So you had – you really need to align the particular customer with projects. And the whole key to this for us has been, they also tend to find market share or market agreements with you, which allow you to participate heavily when those projects come align or come alive. The Tier 2 space today is not as strong as it was two years ago by any stretch. And, in fact, it’s probably gotten a little weaker than last year. There are programs that are announced in the Tier 2 space that are expected to start delivering really Q2 and then they pick up some in the second-half. So in the Tier 2 space, our line of sight shows we’re going to have a stronger second-half and on percentage basis materially stronger second-half than first-half. But I don’t expect that to bounce back to the level that we saw when they were doing two years ago and there were some specific highlighted projects that were very strong. But we do expect to see a pick up in the second-half.

Got it. And then maybe a question for Roger. I recognize that there’s some near-term issues. But longer term, can you give us an update on what and where you think margins can bounce back to what if the business gets back on track and everything is cranking, where can the company get to in terms of peak margins?

Yes. So like Tom said a little earlier, we expect margins to bounce back to kind of historical levels. We talked through the factors that affected Q1, and it’s going to carry forward into Q2. But we’ll see an improvement in the domestic proportion, the domestic mix. So we expect that will – we’ll kind of have a reversion back to those historical levels.

But can I – guys, can I push you, because once upon a time, you all – if I remember actually hit 60% gross margin hopefully, that was [Multiple Speakers]

That depends on the history.

[What was its impact?] [ph]

Yes, yes, but that’s also when we had no business outside of the U.S. that was material. So just to remind everybody, gross margins in outside of the U.S. are typically 10% lower than what we see in the – inside the U.S. And in aggregate with normal mix, this was a historically high. We have never seen near 50% international mix before, at least, not that I can recall and I think we actually looked back. So this is not a normal seasonal period for us or normal time for us. But our blended gross margins have been in the 46ish range. And being that nothing has fundamentally changed, that’s where we would expect them to get back to.

All right. One last question, if I may. You all are a season mature company. And historically, I thought a very well-run company. So that said, how – from a manufacturing standpoint, how is it you can get surprised in terms of your inability to ship against the requisite demand? And when you say, you had certain – you had starter kits ready, but not the line card. How long does it take you to manufacture the line card? How much visibility do you have? How does something like that come to transpire?

You have a connector that comes from the vendor and it doesn’t work.

Okay. That’s basically…

That’s what happens, and that does happen periodically just not that often.

Okay. I appreciate. That’s all. Thank you.

Okay.

Thank you.

I think that’s the last question on our call that we have. So I appreciate, everybody, hanging with us this quarter. We hope to bring you better news in the upcoming quarters and look forward to talking to you again. Thanks very much, everyone.

This does conclude today’s program. You may disconnect your line at anytime, and have a wonderful day.