Coherent, Inc. (COHR) Q4 2017 Earnings Report, Transcript and Summary

Good day, ladies and gentlemen, and welcome to the II-VI Incorporated 2017 Fourth Quarter and Full-Year Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question and answer session and instructions will follow at that time. [Operator Instructions] As a reminder, today’s conference is being recorded. I would like to introduce your host for today’s conference, Ms. Mary Jane Raymond, Chief Financial Officer. Ma’am, please go ahead.

Thank you, Michelle, and good morning to everyone. I’m Mary Jane Raymond, the Chief Financial Officer here at II-VI Incorporated. Welcome to our fourth quarter and year-end earnings conference call for fiscal year 2017. With me today on the call is Dr. Chuck Mattera, our President and Chief Executive Officer. And as a reminder, this call is reported on Monday, August 7, 2017. Any forward-looking statements we may make today during this teleconference are given in the context of today only. We do not undertake any obligation to update these statements to reflect events that subsequent to today. With that, let me turn it over to Dr. Chuck Mattera.

Thank you, Mary Jane, and thank you, everyone, for joining us. Our fourth quarter concluded a phenomenal year. Through the fourth quarter up to today, we also successfully completed two acquisitions to strategically expand capacity, to serve our customers, develop improved and new technologies, and began shipments of some of our new products. Let me point out a few of the many milestones in fiscal year 2017. Record bookings of over $1 billion for the first time ever with 22% growth over FY 2016; record backlog of $399 million; record revenue of $972 million with 18% annual growth and strength in all of our end markets; record Photonics segment annual revenue growth of 28%; 21% annual revenue growth and 17% sequential revenue growth in China; more than 50% annual growth in bookings and revenue in our silicon carbide substrate division; and finally, our continued long-term investments to assure our position in the exciting market transformations underway and in which we intend to be a market leader. We completed two strategically important acquisitions, both of which will help us meet the increased demand for products in growing markets. Integrated photonics or IPI was acquired for $45 million on June 19, bringing to II-VI a market-leading position in magneto-optic Faraday rotator materials essential to all isolated components used in certain optical and data communications applications as well as fiber lasers. Our Photop team will quickly scale the business to meet their rapidly increasing demand, driven by the exponential growth in data centers. Today, IPI is less than 5% of our revenue, but we expect it to grow about 20% a year and to be accretive this year. Second, we acquired one of the best multi-purpose, six-inch compound semiconductor wafer fabs in the world. Given the future opportunities we anticipate in 3D sensing and other breakthrough technologies, this acquisition was lower cost and will allow us faster time to market them for example, building a proprietary greenfield site and will allow us to have control of our manufacturing footprint thereby enhancing our supply chain leadership position. It adds to our in-house capacity for VCSELs and is also part of a broader strategic move to provide a pathway to gallium arsenide, silicon carbide, and indium phosphide-based products. During the last 18 months, we added capacity, developed an integrated new technology, and are preparing to ramp 3D sensing VCSELs at our U.S. epitaxial wafers and optoelectronic device manufacturing sites. We will leverage our experience to accelerate the readiness of the new fab. Given our deep expertise and history in consumer VCSEL technology, we have been a design-in partner for participants in the emerging 3D sensing market from the beginning. We believe that our continued investments in this and related technology and our strategic acquisitions of scalable manufacturing capacity will help us to become a leading VCSEL technology product and manufacturing partner. To-date, we have received and accepted initial orders for millions of VCSEL arrays that we intend to fulfill on a schedule controlled by our customer over the next few quarters. We have been and we will continue to work closely with the customer as part of their overall manufacturing plant. We expect follow-on orders as 3D sensing products ramp through FY 2018. From our active design engagements with a broad base of over 10 3D sensing customers, both in the consumer electronics and automotive markets, we expect 3D sensing to be a significant growth driver over the coming years. We expect that early adopters in next generation consumer electronics will enable transformative applications, including virtual reality, augmented reality, and the Internet of Things, as well as the automotive industry who are looking to laser-based 3D sensing to enhance capabilities and enable new applications. These will require that we have additional capacity to develop and manufacture for multiple products and customers on tight timelines. That is among the reasons, we invested in the new fab. Now, turning to our Q4 and FY 2017 results, revenue growth of 13% year-over-year and 12% sequentially was driven by a strong pick up in the global industrial markets demand in both fiber laser, direct diode laser, and CO2 laser components, as well as by continued demand for optical and data communications components and subsystems by demand for our specialty optical products for the military as well. We also saw increases in the backlog across the company. Before turning to my review of the broad business results and prospects, I would like to briefly highlight two new growth areas for us. The first one is, silicon carbide substrates for wireless communications and also for power electronics used in automotive applications, which accounted for a large multi-year order during the quarter. We expect such applications of devices fabricated on silicon carbide substrates in both the wireless communications and power electronic markets to both rapidly grow from about $200 million to $300 million today to $400 million to $500 million for wireless and over $500 million for power electronics by 2022. Our customers tell us that we’re a leading supplier of high-quality silicon carbide substrates, which are essential to the growth of these markets. And we estimate, that the substrate addressable market size today is about 15% to 25% of the device market revenues. Another emerging growth business is EUV lithography, where we’re also seeing increased deployments as the adoption rate of EUV increases. We’re part of the critical supply chain for the market leaders, who are commercializing the technology and products in this exciting segment of the market. We are highly differentiated in this supply chain having invested in the enabling technology and products before the systems were in development. We expect EUV lithography technology will drive the manufacturer of smaller and smaller integrated circuits that are enabling a convergence of communications, computing, and consumer electronics. We estimate that the value of our content and these semiconductor powering tools we sell for over a $100 million is about 1% to 2% of the sale price. And our content includes various optics components, photonic modulators, CVD Diamond windows, which are critical to the tools’ high output power, uptime and throughput, plus various engineered ceramic components. Industry reports indicate that there’s currently a $3 billion backlog of EUV tools to be delivered over the next 12 to 18 months. These are only two great examples of our diverse and differentiated materials platforms that are among our growth drivers. Turning back to the overall company. During Q4 FY 2017, we experienced revenue growth, both year-over-year and sequentially. In fact, we saw a double-digit growth in North America, Europe, and China. Our FY 2017 sales were geographically distributed 45% in North America, 21% in Europe, 19% in China, 8% in Japan, and 7% for the rest of the world. By end of market, our revenue for FY 2017 was 44% in wireless, optical, and data communications combined, 37% in industrial and semiconductor capital equipment, and 11 % in military. The comparative end market full-year FY 2016 split was 37%, 42%, and 13%, respectively. China was a particularly bright spot in the quarter, with sustained strength and demand for optical communications products and strong growth in both CO2 and fiber laser products. The industrial and semiconductor capital equipment markets drove another fantastic quarter with $98 million of revenue. Demand strength continued in all regions of the world, including Europe whose increased activity we noted initially in Q3. The main drivers include higher demand from the broad industrial sectors, the automotive sectors and the seasonal element ahead of new model launches across many end markets including consumer electronics. Revenue in nearly all product lines grew in the fourth quarter, including the CO2 laser optics business, which grew a 11% and components for fiber lasers and direct diode lasers, which grew 17%. The composition that drove the $98 million was 34% for high power CO2 laser components, 32% for fiber laser and direct diode laser components, 23% for semiconductor photo lithography tools and the remainder for precision optics used for laser micro machining applications. The communications market continued to be strong for II-VI and we performed very well again this quarter. We saw revenue growth every quarter this year compared to the same quarter last year. Revenues into the communications market grew overall 40% year-over-year for FY 2017 and remained steady in Q4 compared to Q3. We believe that the team’s solid performance in optical communications resulted in part for meaningful market share gains and increasing customer demand, especially in Datacom. Our strong positioning in China, our strong presence worldwide through our vertically integrated supply chain and our deep customer relationships have helped to ensure II-VI’s steady growth faster than the market. Our success in China continues to be broad-based. And as a result of a world-class team, key customers, careful management of full-stream inventory, a diverse product portfolio and our ability to continuously evolve our products that anticipate customer requirements. Of our $114 million in communications revenue, 82% was generated by photonics, 10% by laser solutions and 8% by performance products. Laser solution sales were largely from VCSELs and photodetectors, which experienced a surge in demand largely for active optical cable applications and performance products sales were largely from silicon carbide substrates. Communications products deployed in metropolitan and long haul network builds including data center interconnects were close to 60% of our communication sales this quarter. Datacom, including intra datacenter communications was about 13% of revenue, accounting for twice the percentage of the total we had last quarter. Cable TV network builds were another 8%, followed by 7% for submarine networks and a 11% from products used in wireless base stations. Our pump laser has been a key to our continued growth because of its wide deployment across terrestrial and submarine networks, its industry-leading output power, which is well matched to ROADM applications and our unique ability to continuously miniaturize the module to enable our customers to walk for the most compact high bit-rate transceivers. More than 47% of our communications products – more than 47% of our communications product revenue in the quarter was into ROADM systems. Sales of these products include pump lasers, amplifiers, channel monitors, tunable filters, micro-optics and even line cards. We are also a strategic supplier of advanced high performance and high reliability components for customers who build their own ROADM line cards. Another 14% of our sales was into 100G, 200G and 400G coherent transmission products, including CFP-2 and CFP-4C modules and for which we supply transceiver embedded amplifiers and micro amplifier modules. These include pump lasers and micro-optic components in Mark’s – D-Mark filters. We’ve seen 17% growth in these products year-over-year also due to our unique position in the industry and that we are able to miniaturize both our pump and passive components and integrate them. Overall, we expect that FY 2018 will be another year of growth for II-VI and we look forward to sharing our progress with you throughout the upcoming quarters. With that, I would like to turn the call over to Mary Jane, who will provide the details of our fourth quarter results and update Q1 FY 2018 guidance. Mary Jane?

Thank you, Chuck, and hi to, everyone, on the call. As for the just reported financial results, just as a reminder, on the second page of the press release, we showed the segment results. That page details the bookings revenue and operating income by segment. The company’s overall gross margin for Q4 was 39.7%, representing an expansion of 130 basis points year-over-year and as a result of another strong quarter of operating performance. The operating margin this quarter was 13% compared to 12% for Q4 of FY 2016 inclusive of investments. The EBITDA margin was 20.1% for this quarter. The main difference between the operating margin and EBITDA margin in our company is depreciation and amortization, which increased $4 million compared to Q4 FY 2016 and $4 million compared to last quarter Q3 FY 2017, as equipment for new product production comes online. The acquisition of IPI for $45 million is expected to be accretive in FY 2018. The acquisition of the UK wafer fab for $80 million is expected to be break – EBITDA break-even by the year-end FY 2018 and $0.03 to $0.05 dilutive to EPS quarterly. We finished the quarter with $399 million in backlog, up $10 million from Q3 and up $110 million, or 28% from year-end FY 2016. In addition, we had solid order coverage for Q1. The backlog consists of $160 million in Photonics, $137 million in Performance Products, and $102 million in Laser Solutions. We invested $4.6 million pre-tax on our manufacturing readiness and qualification program for VCSEL volume production, $30 million for the year. The capital cash flow has been about $58 million for this program year-to-date. We had $16 million in share-based compensation for fiscal year 2017, compared to $10.9 million for fiscal year 2016, due to an 83% rise in the share price from June 30, 2016 to June 30, 2017 and due to a higher share price prevailing at the time of the August 2016 grant, when was the stock price at the time of the August 2015 grant. The company had other income of $400,000, made up of $2.3 million in final payment to II-VI from the sale of the anadigics RF business, along with interest income and minority earnings. This was offset by $2.3 million in currency losses primarily for the euro to dollar exchange rate. Total capital expenditures this quarter were $40 million, bringing the total capital FY 2017 to $139 million. Compared to $58 million in fiscal year 2016, the increases were $58 million for VCSELs and other optoelectronic devices, $16 million for silicon carbide, and $7 million for capacity expansion in optical communications ranging from passive optics to amplifiers. CapEx for FY 2018 was budgeted between $100 million and $125 million. With the completed acquisitions, CapEx may range up to $150 million, depending on which growth and investment opportunities materialize. The full-year FY 2017 tax rate was 19.8% and was 3.6% for the quarter. The tax rate for full-year – fiscal year 2016 was 27%, though, it was affected significantly by reserves on NOLs. The tax rate for full-year FY 2017 of 19.8% was largely affected by the Q4 tax rate of 3.6%. The Q4 tax provision did not require the expected reserve increases, due to certain tax attributes of IPI that were consolidated into our results in June. These tax attributes past the II-VI as a one-time effect with the consolidation. This made the FY 2017 tax rate comparable to the tax rates we reported in the years prior to 2016. For FY 2018, our tax rate is likely to be in the low-20s. The reported EPS in the quarter was $0.50 a share. EPS was affected in the quarter by the net of one-time items to the positive of $0.04 a share netting item such as the unusual Q4 tax rate, the foreign currency loss, the true up of accruals for company specific HR policy changes and the transaction costs for IPI. This compares to $0.23 a share at Q4 FY 2016 on a reported basis and $0.40 a share without acquisition and restructuring costs. Our cash is $272 million and our net debt position is $70 million Our debt increased $63 million for the purchase of IPI and other borrowings since March 31, 2017. Interest expense in the quarter was $2.3 million compared to $1.1 million in Q4 of FY 2016. Turning to the outlook. The outlook for the first fiscal quarter ending September 30, 2017 is revenue of $250 million to $260 million and GAAP diluted earnings per share of $0.30 to $0.34. This earnings per share number includes the estimated acquisition effects of the UK fab, including a preliminary estimate for the purchase accounting and transaction costs and also includes $0.01 for the one-time recording of the inventory step up at integrated photonics. These items together are affecting the EPS by about $0.07 a share, including about $0.04 a share of one-time items namely transaction costs for the UK fab and both inventory step-ups that will not continue beyond Q1. The diluted share count is now 65 million shares. Our Q1 FY 2018 revenue guidance follows the typical seasonal pattern of flat to down 8% to 10% relative to the fourth quarter revenue, largely driven by the summer being a little bit slower period for manufacturing in several regions of the world. As a reminder, this happened last year and the year before. From Q4 FY 2016 to Q1 FY 2017, that period had a reduction of revenue of 9%, and we still delivered very nice 18% growth for the full-year of FY 2017. For comparison to last first quarter, the results for the first quarter ended September 30, 2016 were revenue of $225 million and GAAP reported diluted earnings per share of $0.26. As we will discuss in more detail during our Q&A, our actual results may differ from these forecasts, due to variety of factors, including but not limited to changes in product mix, customer orders, competition and general economic conditions. Further, as a reminder, all of our comments on EPS, earnings per share referred to diluted earnings per share. This concludes our prepared remarks. As we turn to the Q&A, I will remind you that our answers to your questions may contain certain forward-looking statements, which are based on our best knowledge today, and for which actual results may differ materially. Michelle, you may open the line for questions.

[Operator Instructions] Our first question comes from the line of David Kang with B. Riley. Your line is open. Please go ahead.

Yes, good morning.

Hey, David.

Good morning. So first of all, can I get some revenue assumptions for fiscal first quarter guide in terms of photonics, industrial lasers, and performance technologies. And also, how much revenues have been baked in for IPI and Kaiam, as well as 3D sensing? Thank you.

So, first of all, obviously we don’t give guidance by our segments. I would say that we continue to – we expect to see in 2018 growth across the segments.

Okay. So for first quarter, how much of revenues have been baked in for IPI and Kaiam, can you, at least, disclose that or --?

So I would say at this point, they’re both relatively small, I’m not sure we’re going to see a great surge going from Q4 to Q1, but probably collectively together, they’re in the area of about 10%.

10% of 255 basically, is that correct?

They’re just in the area of about 10%.

Okay. All right. And what about [Multiple Speakers] you book up, what did you just say? I missed that. Hello?

I was – sorry. I’m sorry, Dave. I was saying that, again, I don’t expect them to really surge greatly.

Okay.

Between where we are today, but we do expect very, very nice growth in both of them.

Okay. And then what about – any color on 3D sensing? Chuck, you talked about some orders and all that. How much of revenues should we expect in the first quarter and beyond, how should we think about that?

Okay, Dave, so thanks a lot for your question. Regarding our FY 2018 revenue potential for our initial manufacturing ramp, we’re not going to be able to disclose our forecast at the outset of the ramp. It’s too early to quantify with certainty, due to a number of factors that are beyond our control. But I expect that we would be in full production by the end of the quarter ending in December from the start that we have today. I would also say that, we are on track with our original plan to be shipping 3D VCSEL arrays by the end of this calendar year. We’re on track to the – that ambitious milestone that we have been talking about for sometime having received purchase orders for millions of devices, and we’re really, really excited about it.

Got it. And then the reason for Kaiam acquisition, is it because anadigics, are you guys running pretty full right now? Can you explain the logic behind Kaiam acquisition?

Sure, Dave. I think, what I’d like to do is, maybe take a step back, take a minute or two and just convey some of our thinking about the virtual market in general, and maybe it will provide a good context for the actions that we have taken. First, I’d like to say that, we have a market focus and an individual early moving customer commitment. The 3D sensing market is coming, it’s diverse and it’s large. II-VI is willing, able to, and is supporting early adopters and will continue to serve these customers with a long-term, deep, and intimate commitment. However, we also intend to serve the broad consumer laser market. We have a multiple product and platform focus. Today, we serve multiple markets with material-based technology and synergistic manufacturing capabilities. II-VI intends to serve multiple markets from a platform of assets that can support multiple products. Our Zurich, Warren, Newton fabs together with our Champaign, Illinois Epi operations and our Greenfield wafer program center in the Lehigh Valley Pennsylvania are all good examples of multi-capability operations. As a reminder, we have been a leading materials-based provider to the industrial laser market for a long time. In 2012, we acquired one of the premier management and technical teams in the world-class manufacturing platform in Zurich. This team is designed to develop and manufacture hundreds of millions of VCSELs for the consumer market and edge emitting lasers for the telecommunications and fiber laser markets. Our recent acquisitions and organic investments are simply building on already strong capabilities. Let me remind you that our important II-VI wide company strategies are serving customers first, that have an offer, the chance to have deep long-lasting customer intimacy, which is a hallmark of the company that we lean into markets and opportunities from a materials orientation, and that in-house is vertically integrated manufacturing platforms are a focus such that we’ve always focused on manufacturing excellence as a core competency allows us to move fast and control our own destiny. And the positive effects of this strategy include an ability to develop deep and long-lasting customer intimacy and trust, our ability to attract and retain a world-class workforce, and to efficiently develop leading edge technologies and products, while protecting our IP and the IP of our customers, achieve sustainable cost and yield differentiation. Dave, these fabs and these technologies take time to incubate. In order for us to be ready for what we believe will be even larger and more rapidly growing markets in the future, we have acquired the Kaiam fab to have a versatile fab and agile fab for us to be able to develop more than just 3D sensing VCSEL arrays in it. As I mentioned in my comments, we’re focused on the widespread compound semiconductor device market for which we are a key innovator, okay?

Got it. And my last question is regarding the initial orders that you got. Is it pretty much from a single customer, or can you just give us a color in terms of your customer mix for that, and how should we think about ASP?

Dave, we will not be able to comment on any aspect of the product, including the ASP. I can tell you the orders, which we have received from millions are from a single customer, but we are also engaged with an additional more than 10 customers in this marketplace.

Got it. And any particular applications can you disclose that or?

3D sensing.

I meant the end market and that’ll be my last question. Thank you.

Thanks, Dave, I think that’s about as much as we can say today.

Got it. Thank you.

Yes, thank you.

Thank you.

Just specifically, for the benefit of everybody on the call, obviously, since the Q1, revenue was – is less than Q4. While we do expect to see growth today first question across all our markets, you may want to think about the segments, roughly maybe in proportion to what they were in Q4, but again we are not going to really give guidance by the segment. I also just want to adjust one comment I made about the acquisition, it’s probably more in the area of 5% or a little under percent of the new acquisitions combined.

Thank you. And our next question comes from the line of Jim Ricchiuti with Needham & Company. You line is open, please go ahead.

Hi, thank you. Just with respect to the laser solutions business, the strength that you saw, it sounds like it was pretty much across the board in all geographies, but China in particular was strong, what are you seeing in terms of the outlook in the September quarter? There has been a lot of strengthen in industrial, is that sustainable, particularly given some of the concerns people have about the automotive market?

I would say that what we saw starting in last quarter, the third quarter was a really a resumption of industrial activity that we really hadn’t seen for a couple of quarters prior to that. And whilst it’s always hard to say whether any market strength is sustainable, I would say that we do see quite a number of end markets driving industrial production as Chuck talked about earlier including various aspects of micro-machining and other types of products that we are not expecting it to exactly be a fab here. Again, we don’t know whether it’s sustainable for the whole year, but it looks rather strong to us right now. Chuck, do you want to add anything?

No, I think that’s great Mary Jane. Thanks for your question, Jim.

Okay, and Chuck just with respect to silicon carbide, it sounds like this has the potential to be a solid driver for you looking out over the next couple of years, is there any color or way we can think about it over the next year, I mean, it sounds like it was a nice contributor in Q4, is that correct?

It sure was, it was a nice contributor all Q4 and all year.

Yes. And is there any reason to think that’s going to change? It sounds like you are on a pretty good growth trajectory in that part of the business and is it fair to say there are multiple drivers?

Yes, there are absolutely multiple drivers. In the RFs, we have basically two product families; one is our RF product family for the wireless market, basically one driver for that is wireless base station applications. On the power electronics side there were multiple markets and multiple applications. I think as you look out Jim, one thing I can say, a good part of our investment in capacity expansion in FY 2018 will be around this business both in the U.S. and we will be establishing for the first time a low-cost way for finishing operation in Asia as part of our expansion. So, that’s number one. Number two, I think for the next few years there will be a trend toward designing of this technology. It will take time for the technology to be designed in to other customers, but we are sold out. We’re sold out today as part of the reason why we’re expanding our capacity aggressively to be able to meet customer – additional customer demand. And we believe, we’ve been told by our customers that we have either among the best or the best technology for producing low dislocation density, silicon carbide substrates in large diameter. And so I think that our market opportunity for the next one or two years at least is going to be – we’re going to be nip and cup with capacity. So, I’m really excited about it, I think additional adopters will come in, I think this is a long-term – has the potential to be a long-term bull market for II-VI.

Did you say roughly what kind of capacity increase percentagewise you’re talking about?

No, we didn’t, but it’s substantial, it will be enough for us to really enjoy more than our double-digit growth rates that we target for the company.

And last question, Mary Jane, any guidance or way to think about OpEx going forward, either R&D – mainly R&D just given what you’ve been doing over the past year?

Yes, so we’ve talked a few times in the past about expecting the R&D going forward to be down as a percentage of revenue, maybe 7% to 9% of revenue going forward, but I think as we see the integration of these two new acquisitions, and frankly some particular growth that we saw in Q4 of new markets, Chuck just talked about silicon carbide picking up, accelerating I mean to say, I think it could be between 9% and 10%. With respect to SG&A, we had two acquisitions in the quarter, so some of that was obviously transaction cost, I think we will continue to work very, very hard, especially going forward to try and ensure that, from an OpEx point of view, it’s at least more geared to engineering than it is to SG&A.

Okay, thanks very much.

Okay.

Thank you. And our next question comes from the line of Mark Miller with Benchmark Company. Your line is open, please go ahead.

First my congratulations on the record year, record quarter, as well as the VCSEL progress. In terms of the VCSEL, I believe you mentioned you’ll be at full production by the end of this quarter, does that mean your fabs are at full capacity?

Okay, good morning Mark, thanks for your question. What I said is that I would expect first of all that our initial manufacturing ramp that’s underway is under the control, the rate of the shipments are under the control of our cost and I do expect that we could be at the level that he wants us to be by the end of the December quarter.

So you also mentioned you were engaged with more than 10 customers that you said for new VCSELs.

Yes.

Do you expect to qualify for any more progress by the end of the year?

By the end of the fiscal year, yes, we have that as an objective by the end of the fiscal year.

Okay, in terms of the Cayman fab, are they substantial acquired revenues in the guide?

Say that again, Mark.

You acquisition of the Cayman fab, are there revenues associated with that that you’ve acquired or what were the revenues running at for that unit before you bought it?

There were revenues running before we bought it, we do have them and as I said I think between the two acquisitions they are probably in the area of about 5%.

And that’s in your guidance?

Right, for both acquisitions combined.

So, 5% combined. Okay finally just – I apologize. Backlog was – what was it, was it $399 million, and is $150 Photonics, $137 million and $102 for laser?

It was $160 million for Photonics, $137 million for performance products and $102 for laser, right.

Thank you.

Thank you Mark.

Thank you. And our next question comes from the line Tim Savageaux with Northland Capital Markets. Your line is open, please go ahead.

Hi Tim.

Hi Good morning and congratulations on a nice report and a pretty dynamic report. I do have a question on the Photonics side and really about the optical communications space in general. You did see kind of a book-to-bill below 1 in the quarter and a sequential reduction in orders. And your anecdotal commentary around China was relatively positive. I wondered if you could sort of talk to what you’re seeing in China, whether that translated into some of the order weakness and how you see that heading forward into the September quarter?

First of all, Mark, but just as a reminder for you and for everybody, bookings really can be lumpy. I think especially as we increasingly in Photonics and very much though across the other two segment have long-term contracts agreed at various points in time in the year. They tend to hit the bookings in the quarter that they’re achieved, so talked about that specifically for Photonics related to the Q2 bookings. So, just remember that the bookings generally speaking are lumpy. I mean, while we obviously look at the book-to-bill, I think we are really expecting to see continued strength from an optical point of view, especially as we see, as we did in the Q4 period, an increasing shift toward Datacom. Chuck, you want to add something?

Yes, Tim right here – thanks for your question Tim, I would only add maybe be two other things. One is that year-over-year we still saw a growth in the fourth quarter for our communications business add that is a sign, number one. Number two, we have with the team done an extraordinary job of managing both our inventory, our builds and the core locks that we have from our backlog and align them with what the customers need. A few of us were in Fujio [ph] just two weeks ago and especially, for example, around our pumps and our passive business, we were in full swing. I reported last quarter that we were running at about 90% capacity on average. I would say that still the case in the segment itself. But for some of our businesses, some of the lines like pumps and passives, we were just punching them out. Actually, we hit an internal production record in the last week of June for both pumps and passives and part of that is our confidence and the stability of the demand that we can see even in the near-term. So I think some of the book-to-bill ratio is an interesting one, but it doesn’t tell the whole story.

Okay. Let me follow-up on that comment around Datacom strength, and I make sure I heard what you said properly in the prepared comments. It sounds like you saw a great degree of strength inside the datacenter, I think, this translates into something like a 100% sequentially. But please go ahead and confirm that and I don’t know if you broke out datacenter interconnect specifically as a part of metro long haul. But I wonder if you could comment on any trends there as well and also whether do you expect that rate of growth intra-datacenter to continue. I think, you mentioned, it was driven by active optical cables, at least, in part. But it appears, you would see Datacom strength is perhaps offsetting any near-term weakness that you might be seeing in China?

Okay, Tim, if we take that, I think, that’s a simple way to think about it. What I said in our – in my prepared comments was that, communications products deployed in metropolitan and long haul network builds, including datacenter interconnect were close to 60% of our sales in the quarter. And what you said is, is absolutely true. First of all, on the intra-datacenter business, I think that the big jump that we saw quarter-over-quarter, the biggest contribution to that were VCSELs and PIMs into that specialty application. So I think that we will see modest growth in that and the rest of the commentary that or, at least, the information that you’ve heard back is correct, where we saw a little bit of softness or a little bit of us – the sideways movement in the quarter. We did see a pick up in the intra-datacenter products that we’re offering to the marketplace. And in some cases, some products that we offer, including our filters were sold out. And so I want to make a comment that another part of our major capacity expansion, as we head into FY 2018, will be for filters, both for communications and to establish a strong base for the consumer market as well, okay?

Got it. And final question for me, as you look at the continued extraordinary strength in Performance Products bookings up again pretty solid in the quarter. Is that – my assumption is that’s principally the incremental strength there is driven by silicon carbide and EUV, is that accurate?

Okay, Tim, first of all, we – each of our businesses in Performance Products really knocked it out of the park in the quarter. So that’s a combination of silicon carbide in one division, of our engineered ceramics for our MQ division and our Marlow division as well experienced some really nice orders this quarter. And then finally, our military business really knocked it out of the park. And that business, as Mary Jane said about her – in her commentary about lumpiness of bookings, this is a segment that does have lumpy bookings. But it is very nicely covered, in fact, I think it started a quarter with extremely strong and maybe the entire quarter was covered for this segment is very, very strong. And I suspect that that could continue.

Okay, thanks. I will pass it on.

Thanks, Tim. Yes.

Thank you. And our next question comes from the line of Richard Shannon with Craig-Hallum. Your line is open. Please go ahead.

Hi, Richard.

Hi, Chuck and Marry Jane, thank you for taking my questions as well. I guess, my first couple of questions probably are for Mary Jane more of numbers oriented ones here. So want to run through on the June quarter revenues, obviously, I had an acquisition late in the quarter with a contribution from that noticeable, or I guess, one trying to get as whether the revenues from the base business would have been within the guided range that you gave beginning of the quarter?

Oh, yes, absolutely, for sure. I mean, we – that they were in the guided range on their own, June – we acquired on June 19. So it’s pretty small. We had immaterial undetectible effects of the acquisition in Q4.

Okay, just want to make sure of that. And then for the September quarter…

No problem.

…for September quarter guide, Mary Jane, if – I had a couple of questions this – earlier in the call about how much the – how much of the guided revenues are coming from acquisitions, at one point you said 10%, another one 5%? I wonder if you could just clarify?

Closer to 5%.

Closer to 5%, okay. Okay, that is helpful. A quick follow-on question on 3D sensing. Chuck just to verify this – the volumes that you’re talking about use the word millions, sounds like more – is more volume that would be used for testing and reliability testing purposes. These are actually production orders are going into the end device we ship to the market, is that accurate?

Our understanding is that, the multiple orders we received for millions in total are for an initial manufacturing ramp. And even though, I didn’t say it, I suppose I could have that. We also ship hundreds of thousands of units ahead of that for what I believe was the purpose that you just stated.

Okay, perfect, that’s very helpful. Rich, your question on the acquisition of the Kaiam fab here, Chuck anyway you can quantitatively or qualitatively suggest how much increased capacity this can be both on an equipment basis, obviously, that’s a moving target since you’ve been having so much in CapEx, but also maybe on a floor space basis as well?

Yes. Well, let’s see. First of all, I’m not going to compare it to our Warren fab, because once I do that, I mean, I’ll compare it in a – at a high-level. Once I do that, you’ll think maybe – you may be think and others may think that the only reason we invested in the Kaiam fab is to support the growth in the 3D sensing VCSEL market. And as I tried to be clear in my commentary, Richard, we have the opportunity to expand into the growing compound semiconductor market as part of our long-term growth strategy. The fab itself is substantially larger than the wafer fab that we have in Warren substantially, and is very nicely fitted out. But it is not even used today at the time of the acquisition to manufacture VCSELs. It is, however, being used to manufacture gallium arsenide RF devices. And the facility itself is extremely well equipped and ready to accept additional equipment of the type that we need for either making VCSELs, or for investing in additional devices that I mentioned. It is one of the most remarkable fabs in this compound semiconductor space, I can assure you.

Okay, I appreciate that I have something already with that companies, and I think, I know what they have there. So it seems like a very interesting purchase there, I think I understand where you’re taking as well. Let’s see probably one or maybe two more questions left for me, you answered a similar question, but I guess, maybe ask you more directly on what kind of growth you’re expecting from China embedded in the September quarter guidance, both from an optical point of view, but just as a broader China view outside of just optical communications, anyway you can characterize, that would be great please?

Well, we don’t give the guidance by country either. But I will say that, just as we saw some nice growth in the combination of optical and industrial, we don’t think that the industrial trend is necessarily short-term. We could continue to see China be strong in our results, but as for an actual number, I don’t think I can give you that.

Okay. Fair enough. I think that’s all the questions for me, guys. Thank you very much.

Thank you, Richard.

Thanks, Richard.

Thank you. [Operator Instructions] Our next question comes from the line of Patrick Newton with Stifel. Your line is open, please go ahead.

Yes, good morning Chuck and Mary Jane, thank you for taking my question. I guess looking at laser solutions bookings, are the majority of orders for the millions of 3D sensing units you spoke to embedded in the June bookings, what was the bulk received or bulk of the orders received quarter to-date?

Well, first of all, just to speak about the bookings in laser solutions, Chuck gave you a really excellent detailed breakdown of the strength across the whole, the laser solutions segment, so it would be probably wrong to say it was concentrated in any end market. As for bookings, we mostly received them more in the quarter.

Great. And then Chuck on the Kaiam side, I believe you also had some 3-inch key is that something that was part of the acquisition as well?

Well, let’s put it this way. It is possible to run less than 6-inch diameter wafers, compound semiconductor wafers through the fab. The fab was built for very large-scale integration on 6-inch silicon wafers. And so the tooling and the fixturing and the equipment that’s in there is being used for 6-inch gallium arsenide and there’s some indium phosphide work that was being done at the time of the acquisition and that was done on substrate diameters that are less than 6-inch, that answers your question, Patrick?

Yes, that’s helpful. And then just last one for me is, Chuck, I think you talked about full production of 3D sensing by the end of the December quarter from kind of start to-date. So, is it right to think that output and yields should improve throughout the December quarter, meaning the full potential of output would be more obvious to investors in the March quarter?

I’m thinking that, the yields, for example, is something that we’ll continue to work on forever. So whenever you ask will the yields improve, that’s our job. As far as the initial manufacturing ramp that we believe that’s underway with us, as I said, our customer who is intimate with our capacity and their capability will control the pull from us and I believe that in the December quarter that it’s likely that pull will be greater than it is in the September quarter and come to a level that’s substantially higher than what it is a today and either level off at that point or depending on your needs and our capacity and capability may increase from them.

Great, thank you for the detailed answers, good luck in the quarter.

Sure, thank you Patrick.

Thank you. And our next question is a follow-up question from the line Dave Kang with B. Riley. Your line is open, please go ahead.

Sure, a couple of questions. Regarding Kaiam acquisition, I believe you said dilution will be approximately $0.03 to $0.05 per quarter, how should we think about that going forward? When should we expect that to break even or neutral to earnings?

Well, we said that we expected it to be EBITDA breakeven by the end of the year, I would say of the dilution we experienced this quarter, probably rounded altogether $0.01 of it was one time the inventory step up and acquisition cost. And a lot of how that gets to EPS breakeven depends on how the volume comes through the ramp, so that’s why we are not talking about EPS at this point, but I am very sure that as time moves on here that will become very clear.

Got it. And then back to 3D sensing, can you just talk about gross margin, rough estimate, whether 50% over under?

Well, again, we’ve talked about this for a while, we don’t give gross margin by product line. And I think what we have said is that we don’t expect it to be dilutive to earnings to the company’s average, but that is as much as we can say.

Got it. Thank you.

Sure.

Thank you. And our next question is a follow-up question from the line of Mark Miller with Benchmark Company. Your line is open, please go ahead.

Just wanted to clarify, you said millions of units were shipping, are these arrays – when you are talking about millions of units for VCSEL, individual VCSEL?

Yes, good clarification, Mark. The VCSEL arrays, millions of units of VCSEL arrays.

Okay. And then, as you noted, military was strong, the performance products was strong. Can you give a little more color on that?

Yes, sure. I absolutely can. Let me just try to hit a few of the highlights here. I’m not going to plough over the ground again on silicon carbide. But in our MQ division, I mean, we saw a substantial increase in demand for the products that we make for the semiconductor market, driven by demand increases for tools for lithography, inspection, metrology tools for those equipment suppliers who are supplying new fabs for DRAM and 3D NAND capability, as well as a continued investment in LCD fab construction in China, which we underpin with some very specialty products from our display glass refractory business. So that’s one part. Also the MQ team have really done a great job in the performance products group. And their continued expansion plans in Asia with a new product line called CogentuM. This is a line of metal matrix composite materials, which broadens our product offering into the back-end into the semiconductor line, semiconductor manufacturing process and those related tools Mark. And if Marlow, Marlow’s who are demand increases both for its personal comfort products and we’ll be watching as many as either five or six new products into its already large and growing life sciences business. And in the military market, we received a very large booking for a five-year booking for some very specialized components that we make for the military, for the common missile warning system and also for certain infrared searching track applications as well. So we just had it across the board just, as I said, a grand slam for Performance Products.

Okay. And here just one final thing, semi was $98 million of sales previous quarter?

Repeat the question? Would you please, Mark?

The sales that’s related to semi, what were the totals for the quarter, $98 million?

We’d love to do the arithmetic here, we had as a percentage. Mark, we’ll get back to you on that, because we’re going to run out of time. But we’ll just do the math on it, okay? Yes.

Okay.

Okay. Thanks for your question, Mark.

Thank you. And I’m showing no further questions. And I’d like to turn the conference back over to Chuck Mattera for any closing remarks.

Okay. Well, thank you, Michelle. To conclude our call today, I’d like to do two things. First, I thank all of you who joined the call today, including the two new analysts who have just recently initiated coverage of II-VI, as well as other top industry analysts. We’re happy to have had all of you today, especially our shareholders also who joined the call. Second, I want to acknowledge all of our employees for over-delivering on our plan with a great enthusiasm and teamwork, a hallmark of II-VI. Thank you also for the speed with which we were able to move to acquire two new businesses and helping to deliver, not only a fantastic quarter, but an absolutely fantastic year. I also want to welcome to II-VI our new employees in integrated photonics and at the compound semiconductors division that we just announced. Finally, we entered Q1 with a strong backlog, a great deal of momentum and the usual sense of urgency to carry on our profitable growth track for this year, while setting a foundation in place to drive long-term shareholder value. Thank you all again. And let us say so long until the next earnings call date slated for Tuesday October 31, 2017. Mary Jane, you want to add anything?

Sure, let me just answer Mark’s question. Mark we were talking about – if you’re talking about Q4, $98 million was the totality of industrial and semi cap just so we didn’t kind of roll it all together. We didn’t have multiple things to report on and semiconductor, again, if you’re talking about Q4, was about 10% of that total.

Okay. Thank you, Michelle.

Thank you, ladies and gentlemen. Thank you for participating in today’s conference. This does conclude the program and you may all disconnect. Everyone have a great day.