Welcome to the Q3 2022 Harmonic Earnings Conference Call. My name is Jonathan, and I will be your operator for today's call. [Operator Instructions] Please note that this conference is being recorded. And now I'd like to turn the call over to David Hanover, Investor Relations. David, you may begin.

Thank you, operator. Hello, everyone, and thank you for joining us today for Harmonic's third quarter 2022 financial results conference call. With me today are Patrick Harshman, President and Chief Executive Officer; and Sanjay Kalra, Chief Financial Officer. Before we begin, I'd like to point out that in addition to the audio portion of the webcast, we've also provided slides for this webcast, which you may view by going to our webcast on our Investor Relations website. Now turning to Slide 2. During this call, we will provide projections and other forward-looking statements regarding future events or future financial performance of the company. Such statements are only current expectations and actual events or results may differ materially. We refer you to documents Harmonic filed with the SEC, including our most recent 10-Q and 10-K reports and the forward-looking statements section of today's preliminary results press release. These documents identify important risk factors, which can cause actual results to differ materially from those contained in our projections or forward-looking statements. And please note that unless otherwise indicated, the financial metrics we provide you on this call are determined on a non-GAAP basis. These metrics, together with corresponding GAAP numbers and a reconciliation of GAAP, are contained in today's press release, which we have posted on our website and filed with the SEC on Form 8-K. We will also discuss historical financial and other statistical information regarding our business and operation, and some of this information is included in the press release. The remainder of the information will be available on a recorded version of this call or on our website. And now I'll turn the call over to our CEO, Patrick Harshman. Patrick?

Well, thanks, David, and welcome, everyone, to our third quarter call. In the third quarter of 2022, Harmonic again delivered excellent business results. Revenue was up 23% year-over-year. New bookings were up 50%. EPS was $0.13 and adjusted EBITDA margin was 13.5%. Both business segments were again solidly profitable and had book-to-bill greater than one. The cable access segment, which we have recently renamed broadband continues to deliver strong top line growth with revenue up 60% year-over-year. Video segment revenue transformation continues with SaaS revenue up 64% year-over-year. In mid-September, we updated you on key market trends, our strategy and our enhanced three-year financial model. Our third quarter results released today further highlight the key points in that presentation and support our confidence in our growth plan. We see robust demand for multi-gigabit broadband and live streaming video. Our associated products and services are winning in the marketplace, and our focused business execution remains resilient despite macroeconomic headwinds. Taking a closer look now with our broadband segment. We delivered strong financial results and further solidified our technology leadership and growth opportunity outlook. Segment revenue was $91.9 million, up 13% sequentially and 60% year-over-year. Segment gross margin rebounded to 45% and adjusted segment EBITDA margin was 18.4%, demonstrating consistently improving leverage as the business scales. New orders were also strong, contributing to near record backlog and deferred revenue. This sustained growth reflects both a robust broadband market and our strong execution. At quarter end, consumer modems served grew to $10.9 million, up 179% year-over-year, still less than 20% of our existing customers' DOCSIS footprint. We added several new customers during the quarter, bringing the number of customers actively deploying our solution to 85, up 25% year-over-year, and we secured an important new DOCSIS DAA win with an international Tier 1. We're…

Thanks, Patrick, and thank you all for joining us today. Before I discuss our quarterly results and outlook, I'd like to remind everyone that the financial results I'll be referring to are provided on a non-GAAP basis. As David mentioned earlier, our Q3 press release and earnings presentation includes reconciliations of the non-GAAP financial measures to GAAP that are discussed on this call. Both of these are available on our website. For the third quarter of 2022, we delivered another period of strong financial results. Before reviewing our quarterly financials in detail, I'll briefly review the key highlights here on Slide 7. We reported September quarter record revenue of $155.7 million, up 23.3% year-over-year, along with strong gross margins of 50.9%. We also generated adjusted EBITDA of 13.6%, up 187 basis points from the prior year and EPS of $0.13. Our balance sheet remains sturdy with a cash balance of $105.3 million at September 30. We also reported September quarter record bookings of $171.1 million and continue to maintain near-record backlog and deferred revenue of $490.1 million at the quarter end, positioning us well for the remainder of 2022 and into 2023. Now let's review our third quarter financials in more detail. Turning to Slide 8. As I just mentioned, total company Q3 revenue was $155.7 million, slightly down on a sequential basis and up 23.3% year-over-year. Looking first at our broadband business segment. Revenue for the quarter was $91.9 million, up 13.2% on a sequential basis from Q2 and up 59.6% year-over-year, reflecting both the continued ramp of existing customers and newer customer launches, including modest fiber revenue. In our video segment, we reported Q3 revenue of $63.8 million, down 16.3% sequentially and 7.1% year-over-year. This decline was attributable to a reduction in our appliance business, including a modest…

All right. Thanks, Sanjay. Look, just before concluding the call, let's review the strategic and execution priorities that have been guiding us this year. For our broadband business, we remain focused on enabling our existing customers to successfully ramp, accelerate deployment and compete. We're also focused on breaking into the Tier 1 operators that we have not yet secured and vitally important, leveraging our fiber solution to expand our addressed market and create additive revenue growth and value. For video segment, we're driving rapid expansion of our streaming SaaS brand and customer base. We're further extending our streaming SaaS technology and service differentiation, particularly for live sports, and we're leveraging the traditional broadcast appliance business to profitably enable these transformations. In each of these areas, our year-to-date results have been excellent, and we're well positioned to finish 2022 strong and enter 2023 with great market momentum. We're truly excited about the future of our business, and we greatly appreciate your continued support. With that, I would like to now open up the call for a few questions.

Certainly. [Operator Instructions] And our first question comes from the line of Ryan Koontz from Needham. Your question please.

Quick clarification, please. Thanks for the opportunity to ask here. About your Tier 1 fiber trials, I know you announced two last quarter, and this is the third one this quarter. And how are these kind of scheduled out to ship over the coming quarters?

I'll take that, Ryan. First, it's -- what we've announced here not trials, but they are -- at the back end of trials are actually purchase order commitments representing planned deployments, so of a couple of different scales, I would say. And yes, what we're announcing today is a third significant win. Last quarter we talked about several -- actually a couple of different customers who have selected us and with more of a focus on the domestic market and we're excited that during the third quarter, we secured our first significant commitment from a Tier 1 international customer.

It's fantastic. And just maybe stepping back in the big picture here as we think about cable operator spending moving away from monolithic legacy systems to next-gen distributed virtualized. Like, where do you feel like we are in that transition or where we may be 25% the way shift to next-gen and at what point do you anticipate we might get to see the market surpass 50? Thank you.

Well, I think it's an excellent question. There is two ways to answer it. I mean, one way is, what percentage of the operators have kind of embraced and have begun deploying next-gen. And for that, in roughly round numbers, we think something close to maybe a third of the operators, not in terms of aggregate number, but if we look in terms of subscriber base. And there is a nice chart about this back in our - the Analyst Day deck that we did in September, and it's kind of a -- it really captures our view of what's happening in the market. We're kind of at the crossing the chasm point. So operator is controlling about one-third of the global cable operators today. We think have begun to deploy next-gen architecture. And as I mentioned in my prepared remarks, we think that they're kind of something in the order of little less than 20% into it. Then there is the other two-thirds of this cable subscribers in the market. Those operators have yet to really commence next-gen work. And that being said, our pipeline tells us story, as well as the feedback at the recent industry event tells us story of -- yes, really of the chasm beginning to be crossed now. And so we see a lot of activity around that kind of main market if you will getting ready, we think getting much closer to making decisions and moving forward.

Sure. That's super helpful.

Does that answer the question?

Yes. You did. And just one more quick clarification. So of the third of operators that have shifted, are they still spending much on legacy or they largely wound that down and are kind of in a pause in ramp mode now?

Yes, it's hard to generalize. There is still -- there is definitely still spending on legacy. I mean, what's the best way to think about it? Think about an operator that is maybe operating in two or three cities, even if you are going as fast as they can in next-gen, they may still have an immediate kind of whole to plug in the part of the network being served by legacy equipment. I'm sure you can imagine that. So we think that for sure there is some spending on legacy going on, even under the umbrella of those who have embraced the next-generation stuff, but we think that spend is in general kind of being minimized and as needed -- as absolutely needed basis.

Great. That's super. I'll get back in the queue. Thanks, Patrick.

All right. Thank you.

Thank you. One moment for our next question. And our next question comes from the line of Simon Leopold from Raymond James. Your question please.

Great. Thanks for taking the question. A couple if I may. The first one is, you did host the Analyst Meeting back in September and provided us with some targets for 2025. And I guess, I'm just sort of wondering in 2021, you had given us a target of $830 million for 2024. I guess I just want to put that in perspective, should we still be thinking $830 million, as sort of a milestone midpoint to the 2025 targets or should we sort of think about how to extrapolate between 2023 and 2025? Just a little bit of advice on how to consider that.

We don't want this -- what I'd like to say is to be construed as for guidance. But we see it more or less as kind of linear growth out to 2025, that is we don't expect any significant knee in the curve, I don't know a year and a half out. We've been growing strongly, if you look past -- back over the past two years and we expect that growth rate as we get a little bit larger to maybe be tempered, a little bit, hence the aggregate growth rate that we quoted. But we expect the growth to be more or less linear between now and 2025.

That's very helpful. And then not to get too deep into the technology we can avoid it. But I've been hearing from suggestions that the industry is harmonizing around a Remote PHY architecture and not the map by choice. And I guess two parts, one is that true, and two, what are the implications if any for Harmonic?

I would say yes, it's the first part, There is a growing consensus, which is not complete, There's still an active dialog in the industry. But I would say there is growing consensus that in terms of overall efficacy, technical as well as the scale and proven volume advantages. There is a kind of a convergence of opinion around the benefits of virtualized CMTS and Remote PHY. And to the extent, if that happens, it's very good news for Harmonic. Now I want to pause and say, we have had an active Remote MAC-PHY. So we -- the risk of sounding like I'm talking on both sides of my mouth. We are prepared and capable of supporting that MAC-PHY. That being said, when you think about just the PHY variant of the architecture. We are miles ahead of the rest of the industry in both terms of technology understanding, know-how, deployment experience, et cetera. So to the extent that the industry really converges on Remote PHY. Is the architecture of choice, that strengthens our leadership position in the market even further.

That's very helpful. That's the kind of answer I was trying to get, a good understanding. And then, just one last one. You gave a couple updates I believe on the call about some wins in the fiber to the prem architecture. Is this something where when it gets -- is there sort of a threshold where you would break it out in terms of dollar contributions or how should we be thinking about the implications in modeling for the FTTP traction? Thank you.

Yes. Well, going back to the Analyst Day, we did give you a -- we did give 2025 target, and we're starting from a small base. So from a multi-year perspective, I think that gives you a picture of where we think we're going over the next few years. And data is relatively small numbers today. I think in that chart, if memory serves correct, Sanjay, we estimated maybe $10 million of revenue. We certainly expect order input well above that this year. And so, Simon, it remains to be seen. If -- well, not if, but when we begin to break that out as it becomes a short-term, a bigger part of the business. But to be clear, we do anticipate at some point breaking it out as it gets to the right scale and the 2025 targets that we've given I think gives you an idea of where we think we're headed.

Great. I appreciate it. Thanks for taking the questions.

Thank you.

Thank you. One moment for our next question. And our next question comes from the line of Steven Frankel from Rosenblatt Securities. Your question please.

Good afternoon, Patrick. So just a follow-up on this theme of the industry coalescing behind Remote PHY. To what extent have you seen that either accelerate orders from existing customers or maybe up the urgency among people that were in the pipeline?

No change, Steve with existing customers. I mean, frankly, existing customers were already there and they're doing their thing. So this is, for those who may be on the call want is -- first to know of this, there is a couple of permutations on DAA. To be clear, I think everybody in the industry was focused on DAA. There is a couple of permutations that -- and then there were some customers out there I'd say on the fence between the different permutations. I don't want to suggest as we discussed a moment ago that that debate or discussion is currently is over. But indeed, more of those who are on the fence, I think are leaning towards Remote PHY. And Steve, I don't think that -- I think part of the convergence is the urgency. We are seeing competition not only in the US, but really around the world from -- particularly from fiber, but also from fixed wireless broadband competitors. It's just it's becoming a much more competitive market for traditional cable operators. And so I think some of them are deciding the time to kind of evaluate different technology alternatives is over, then the time to begin planning to get on with it is at hand. And if you're an operator feeling some amount of urgency, I think that -- I think looking to the variant of DAA, that has been most widely deployed, that's most mature has got kind of the most miles underneath it, that's certainly advantageous. And that speaks to some of the advantage that I think we're bringing to the market as well. We think that we're in a better position frankly above and beyond the technology itself as a partner that can help an operator move quickly. We think we are the premier partner in the industry right now. So it's all still kind of a real time but we -- yes we are excited about [technical difficulty] the opportunity to help both existing and new customers really meet the challenge of their fiber and wireless based competition and we think we've got the toolset to do it.

Okay. And in the last few quarters, you've kind of characterized your installed base in broadband as kind of going through a shake down crews for a bit and figuring out DAA and then accelerating deployment. Could you give us some color on kind of how you think those Tier 1s are today. If we had a material movement to more of those customers getting through the shake-down crews and kind of putting their foot on the accelerator in terms of to deployment now.

Well, I think it's the other side of the coin of what we just discussed. We closed, as you saw a significant new Tier 1 international during the quarter, we're excited about that. And the progress with other Tier 1s that haven't yet made decisions on next generation architecture, I would characterize it as very good. So I think that -- I think the urgency is the sale -- yes, they have fantastic broadband businesses. And I think that, understandably, they want to work to secure them. I think that there's been a real push to understand the architectural variance and to make decisions and begin to get on with it. So I earlier referenced the crossing the chasm kind of idea, I think we're not quite to the other side of it. But I think we are substantially closer than we only spoke to you three months ago. And we expect -- as we did in our analyst day in September, we expect 2023 to be an important year of a number of significant decisions being made and we hope several new scale rollouts are commencing.

Great. Thank you.

Thank you. One moment for our next question. And our next question comes from the line of Tim Savageaux from Northland Capital Markets. Your question please.

Good afternoon. And congrats on the results. Especially on the gross margin side, which is kind of where I wanted to start focusing in broadband in particular. And Sanjay, you gave us a couple of drivers for the strength in Q3, but you're guiding to a further uptick in Q4 into the high 40s. Wondered if you could talk about what's driving that, I mean as I look at your results, it seems like you've had an uptick in kind of router or software revenue within cable access, maybe getting a few of your new Tier 1s off the ground here, I mean, obviously, you are strong in Europe this quarter. So wondered if you can characterize that both for the quarter and the outlook in terms of -- but especially the outlook in terms of broadband gross margin.

Sure, Tim, So as I said in the prepared remarks, the most important aspect of our gross margin improvement in Q3 and which also is the reason why Q4 guidance is up is that we are deploying our capital mostly in investing in inventories and related deposits, as I mentioned. And that's basically driving a lot of gross margin improvement. We are able to use more of an ocean freight, given the flexibility we have versus the air freight. I mean ocean freight, air freight, the costs are hugely different. They're like one is eight times of the other, approximately. That said, we have also seen modest improvements in the freight rates coming down, there are some marginal price increases as well. So overall, if we look at the entire mix of all these factors, we saw that in Q3 and substantially in Q4, that's the next step further down, as we invest more in inventories. And to your point, more Tier 1s are they increasing the ramp? Yes. And that's also contributing and the mix is working in our favor as well. And this is exactly what we guided right at the beginning of the -- beginning of the year, Tim, our Q1 was supposed to be weakest and we were expected to march to the highest gross margin quarter by Q4. And it played out exactly as we envisioned, and exactly for the same reasons, and we are glad our capital deployment is working effectively to give us those benefits.

Great. Thanks very much. And without addressing the elephant in the room here over the last couple of questions, I will ask about your new Tier 1 win that you mentioned at the Analyst Day. And I just want to make sure I have this right. I was looking for a footprint update in terms of your total subscriber footprint that you deferred to this call from the $60 million. So hopefully, you can provide that. Or is that Tier 1, is that relevant? Is it a virtualized CCAP, DOCSIS deal or is it a fiber deal or is it both, I've kind of heard both here during the call, fiber one with an existing Tier 1 customer internationally, is that separate and distinct from what you talked about at the Analyst Day? And can I get that updated footprint number?

Yes. We don't have -- I don't have an exact updated footprint number for you. So let me come back and take it in turn. So we announced in the Analyst Day and we repeated here, that earlier in Q3 we secured a new DOCSIS win with a new international Tier 1 cable operator. And indeed, that -- I'd say, yes, I don't know exactly off the top of my head. Let's say a couple of several million homes passed, Tim. So it's -- that's adding onto -- I don't think we said around 60. So that's let's call it 5% or so increase to the addressed footprint. And that's just in cable, okay, full stop. Second, and distinct from that, new news on this call today, is that with a previously kind of announced if you will, at least from a numbers point of view international cable operator, not the one I've just mentioned, but one that we secured a business with prior to 2022, that customer has now in addition to rolling out DOCSIS with us has embraced our fiber to the home PON solution. They're going to begin rolling that out as well in a converged kind of way and they've given us the first substantial multi-million dollar order for that fiber business.

Got it. Thanks very much.

Does that make sense? Does that clarify?

It makes perfect sense. And you kind of hinted at it a couple of times. But in the past, you've talked about kind of assessing where your group of Tier 1s are with regard to moving to meaningful or full deployment and I think now you have 10 maybe it's about half. Does that remain the case or have you seen some progress there? And that'll be it for me.

We've seen that, Tim. I mean the path, we're marching on in terms of the growth, this year we are approximately 60% up year-over-year. I think all that entails the ramp of existing Tier 1s and that's playing out as we planned and anticipated.

Okay, thanks.

Thank you. And…

To the specific question, Tim had. Yes, I think that in terms of announced -- well, it's 10 Tier 1s globally, that we have one, that is right. And now, a couple of them have also given us on a scale -- fiber to the home as we penetrated, a couple of them not only with the DOCSIS solution but with the fiber solution. And to be clear, our objective over time is to penetrate all of them. Our belief is that over time fiber will become a weapon or a tool, if you will, in the portfolio of every cable operator as they compete. And while our ambitions in fiber are not limited to cable operators, certainly, within the cable and in particular with the Tier 1s that have already deployed our DOCSIS solution, our objective is, is to have them embrace our fiber solution as well. So we'll talk about our progress in that dimension, as well as winning new accounts that way.

[Operator Instructions] Our next question comes from the line of George Notter from Jefferies. Your question please.

Hi, this is Kyle on for George. Thanks very much for the question. I was interested that you mentioned investing in inventory makes sense given the revenue growth. But we've also heard that some areas of the supply chain are getting modestly better. Can you tell us how much of this inventory investment is directly related to revenue growth and how much might be still related to protecting yourselves for the supply chain? Or could it be the case that you're reacting to a better supply chain and that might be an offsetting factor? Just a little bit more about the moving pieces of inventory. Thanks.

Sure, Kyle. And the first thing I'll say that, the investment we're making in inventories is purely how we -- is helping our gross margins purely in sense of how we transport the inventory to us. Let me be very clear, the cost of inventories still remains high. Once the cost go up from our suppliers, it's very hard to see them going down. So, they do get baked into standard cost and cost get elevated and they remain there. What else can we do to bring it down and that's exactly in our control, that's what we are deploying our capital to. So, it's primarily the freight benefit, which I mentioned. And other than that, yes, we are seeing modest improvements in a confluence of things. Price increases, we are also seeing software and services mix improvement, all these are contributing to it. That said, going back to the increase in revenue question you asked, definitely this investment in inventories is giving us an opportunity to address the strong demand we have, the strong backlog we have and to ship the products on time to the customers.

Okay. Great. Thanks very much.

Thank you. One moment for our next question. And our next question is a follow-up question from Ryan Koontz from Needham and Company. Your question please.

Hi. Thanks for the quick follow-up. You mentioned European macro risk there and obviously, you had a really great quarter in Q3 here. How should investors think about the risk in Europe borrowing all out spreading of the war. But just given the energy crisis, what kind of insights can you share with us about the demand picture in Europe next year? Thanks.

Ryan, we're not economists, let me say that first and foremost. To date, we haven't seen any major deterioration. And particularly on the broadband side, the competition is intense as it is anywhere else in the world. So we are -- our current perception is that certainly the Broadband part of what we do, we think is going to be relatively immune or macro headwind resistant. We think we may be slightly more susceptible on the video side of our business, slightly higher percentage of our video business happens in Europe, about 30%. Europe, Middle East and Africa, is one consideration. And another perhaps slightly more subject to economic -- macroeconomic headwinds. Although historically our video business as well has been somewhat resistant to more challenged consumer spending. So where we are is we have some uncertainty. You've seen that we've given wider range on the video business for the fourth quarter. That's really simply a reflection of the uncertainty that we have. Our current sales pipeline, the recent orders that we saw in Q3, none of that points to any significant challenge. But we do want to highlight that we see some potential risk and there is something for us to do, except to continue to watch that and execute as aggressively as we can on the opportunities that we do have in front of us.

Sure. That makes great sense. Thanks, Patrick.

All right. Thank you, Ryan.

Thank you. And this does conclude the question-and-answer session of today's program. I'd like to hand the program back to management for any further remarks.

Okay. Well, thank you very much all for joining us today. We're pleased to report a solid quarter. We're excited about our momentum. We appreciate your interest and support. And we look forward to driving another strong quarter [technical difficulty] Thanks very much. Have a good evening.

Thank you, ladies and gentlemen, for your participation in today's conference. This does conclude the program. You may now disconnect. Good day.