Viavi Solutions Inc. (VIAV) Q3 2013 Earnings Report, Transcript and Summary

Good day, ladies and gentlemen, and welcome to your Quarter 3 2013 JDSU Earnings Conference Call. My name is Denise, and I'll be your event manager today. [Operator Instructions] And now I would like to turn the presentation over to your host for today's call, Ms. Cherryl Valenzuela, Director of Investor Relations. Please proceed.

Thank you, Denise, and welcome to JDSU's Fiscal 2013 Third Quarter Earnings Call. Joining me today are Tom Waechter, CEO; and Rex Jackson, CFO. Alan Lowe and David Heard, leaders of our CCOP and CommTest businesses, respectively, will join us for Q&A. I'd like to remind you that this call will include forward-looking statements about the company's future financial performance. These statements are subject to risks and uncertainties that could cause actual results to differ materially from management's current expectations. We encourage you to look at our most recent filings with the SEC, particularly the Risk Factors section in Part I, Item 1A of our current report on 8-K filed December 14, 2012. The forward-looking statements, including guidance provided during this call, are valid only as of today. JDSU undertakes no obligation to update these statements. Please also note that all results are non-GAAP unless otherwise stated. We include a detailed reconciliation of these non-GAAP results to our GAAP results, as well as a discussion of their usefulness and limitation in today's earnings press release. The release, plus our supplementary slides and historical financial tables, are available on our website. Finally, we are recording this call today, and we'll make the recording available promptly on our website. I'll now like to turn the call over to Tom.

Thank you, Cherryl, and good afternoon, everyone. The March quarter presented some revenue challenges, but the JDSU team remained focused on our strategy, delivering solid results in most areas of the business. During the quarter, we delivered innovation that positions us well for growth opportunities in our core markets, closed a strategic acquisition to expand our mobility and software offerings, managed our cost effectively, maintained a strong balance sheet and benefited from our diverse portfolio. As we indicated in our last earnings call, we expected a more than seasonal decline in revenue from our fiscal second to fiscal third quarter due to the timing of annual carrier budget releases, which we expected to begin in earnest in March, later than the February norm. A number of network operator budget releases were indeed delayed well into March, shortening our revenue runway and resulting in revenue of $405.3 million, at the low end of our guidance range, including approximately $400,000 of revenue from the Arieso acquisition. Despite the slow start, we closed out the March quarter with a book-to-bill ratio of greater than 1 for the company. CCOP's book-to-bill was greater than 1, while OSP and CommTest were approximately 1. In light of lower revenue, we effectively managed our cost, delivering Q3 gross margin of 45.9% and operating margin of 6.8%. Excluding Arieso, gross margin was 46% and operating margin was 7.2%. Both CCOP and OSP increased gross margin sequentially and exceeded their operating margin guidance ranges. We maintained strength in our balance sheet and working capital structure. We reduced inventory substantially from the previous quarter, generated $28.2 million of cash from operations and reported total cash at the end of the quarter of $638.8 million. Looking ahead, the fundamental growth drivers in our markets, particularly network bandwidth demand, remain strong. We continue to believe that incremental investments in global network upgrades will take place, but the exact timing of these upgrades has become difficult to predict, leading to caution with respect to our revenue timing. Our outlook is based upon several factors. First, we see major spending by some large carrier customers as they work to align their incremental CapEx and their top strategic priorities. Second, we see a healthy level of carrier network design, bidding and award activity, but again the timing of actual deployment is unclear. An example of this is the 100G network deployment announced at one of the larger carriers in China. The timing of actual deployment is not yet known. And finally, we are seeing a faster shift from legacy wireline to high-speed broadband and wireless technologies than we previously expected. We remain focused on key tenets of our strategy, delivering innovation collaboratively with our customers and continually improving operational efficiency to drive more profitable growth. On the innovation front, products less than 2 years old accounted for 64% of our core network-related revenue. A new high, and surpassing our 50% target for the eighth straight quarter. Highlights of our product initiatives include the following: In Optical Communications, the building blocks of the network, our Datacom and cloud investments are paying dividends. At the recent Optical Fiber Conference in March, we highlighted our 100G CFP2 products. The demand for higher speed Datacom products to enable the cloud remain strong, and we believe our new product offerings are well positioned to meet the connectivity needs within data centers, from data center to data center, as well as from the cloud to the core networks. For example, our 40G QSFP+ accounted for over 5% of our optical revenue during Q3. 100G Coherent line side component demand is also strong. During Q3, we could not meet all of our customers' demand for these products. We have addressed this capacity constraint and expect to see continued growth in the 100G modulators, receivers and tunable lasers. Our TrueFlex line of ROADMs continues to progress on plan. We recorded our first revenue during Q3 on our Twin 1x20 WSS, our first TrueFlex offering. And we expect to release additional variants in different port count solutions for our customers' needs over the next several quarters. These TrueFlex WSS's will be shipped as both line cards and standalone modules for our customers who prefer to develop their own line cards. Next, our network and service enablement portfolio continues to evolve towards areas of higher growth, more tightly aligned with carrier spending priorities. We accelerated innovation in purpose-built mobility products during the quarter. With calendar 2013 projected as the takeoff year for small cell 4G/LTE, we introduced our Small Cell Assurance Solution in February. We also saw healthy bookings in our capacity test and RF test businesses. Arieso, the acquisition we closed in March, delivered bookings ahead of plan and added 2 new customers at the end of the quarter. We are excited to add Arieso's market-leading location-aware software solutions to our product portfolio. In total, wireless accounted for approximately 43% of revenue in Q3. Our investments in Ethernet are also reflected in the rollout of a major Ethernet assurance project and launch of new products including JMEP, a powerful micro probe for Ethernet and IT performance assurance. We also are maintaining our global leadership in optical transport. In particular, with continued strong shipments of 100G in areas including Asia, where China is building the world's largest 100G network. PacketPortal continues to gain traction. We added 8 new customers in fiscal Q3 to bring our total to 18, highlighted by our first initial network rollout from a leading cable operator for a VoIP application. We've now totaled 46 ongoing and completed trials with an approximately 60% close rate and made progress with NEMs on certifications and selling agreements. The adoption cycle for PacketPortal is lengthy, but we believe our customers can achieve quick and significant payback in acquiring highly granular visibility at the network edge. As we mentioned during our Analyst Day in February, we believe PacketPortal can contribute $10 million to $15 million of high gross margin revenue in fiscal 2014. In order to focus on higher growth areas, we decided in Q3 to exit a number of legacy low-speed wireline product lines. As wireless becomes a greater focus for operators, we will continue to prioritize our investments in mobility, Ethernet, 100G, network visibility and other areas that are vitally important to our customers. CommTest record 65% of revenue from products less than 2 years old underscores our commitment to this transition. Now moving on to our core anti-counterfeiting market. Anti-counterfeiting products grew 13% sequentially, mostly driven by currency products. Our OVMP technology is now on 72 denominations in 41 countries. We expect some variability this calendar year due to customer inventory adjustments related to currency pigments. Now turning to market adjacencies beginning with lasers. We had continued solid demand for our solid-state lasers in Q3 for high-speed precision cutting and component miniaturization. Revenue from high kilowatt fiber lasers was $3.8 million compared to $7 million in the previous quarter as a result of a customer inventory adjustment. We expect fiber laser revenue to grow in Q4. Finally, with respect to gesture recognition, we have started volume shipments for our next-gen gaming platform, and expect to ramp production of both our laser diodes and optical filters in Q4. The first gen gaming application contributed peak revenue of nearly 4% of JDSU's total quarterly revenue. We expect that this new platform could ramp to similar peak levels of revenue. With that, I'll now hand the call over to Rex.

Thank you, Tom. Third quarter revenue was $405.3 million, at the low end of our guidance due to the seasonality and budget delays Tom discussed earlier, and slightly up over the same quarter of last year. Consolidated revenue from the Americas was $194.1 million or 48% of total revenue. EMEA revenue was $95.1 million or 23%, and Asia-Pacific revenue was $116.1 million or 29% reflecting a slight positive shift towards the Asia-Pacific region for the quarter. Gross margin of 45.9% was lower sequentially compared to 48% in the previous quarter, due primarily to lower CommTest segment mix and gross margin. Year-on-year, gross margin improved from 45.6%. Operating expenses were $158.4 million, up $1.2 million sequentially, mostly due to beginning of calendar year payroll expenses. This led to an operating margin of 6.8%, down from 11.4% sequentially and 7.2% year-on-year. Net income for the quarter was $24.1 million or $0.10 per share, down from $42.3 million or $0.18 in the prior quarter and almost flat compared to $24.6 million or $0.10 last year. The Arieso acquisition, which we completed in early March, contributed, as expected, approximately $400,000 of revenue and incurred a Q3 operating loss of $1.6 million. As Tom noted, excluding Arieso, our gross margin would have been 46%, and our operating income would have been 7.2%, flat to last year. Looking ahead for at least the near term, we expect to recognized revenue from Arieso ratably, which means it will take time to build the revenue base under U.S. GAAP. Accordingly, we expect Arieso to be accretive to CommTest gross margin by the third quarter of fiscal '14 and to be breakeven or better on operating income by the fourth quarter of fiscal '14. Please note our non-GAAP results exclude, among other items, an $11.3 million inventory write-off and $2.2 million of accelerated amortization of related intangibles, which are primarily due to our decision to exit our low-speed wireline product lines in CommTest, as part of our plan to prune our portfolio of low-performing products and focus our efforts on wireless, mobility and other initiatives important to our customers. These exited products contributed approximately $1 million of low margin revenue in Q3. Moving to the segments. CommTest delivered consolidated revenue, inclusive of Arieso, of $174.2 million, down from last year's third quarter of $177.8 million. CommTest, which sells directly to carriers, saw orders back-end loaded with some slipping out of fiscal Q3 and experienced higher-than-usual competitive pricing pressure in certain wireline test areas. The decline in revenue, along with an unfavorable product mix, higher excess and obsolete inventory charges and certain transitional charges associated with CommTest's move to a more fully outsourced manufacturing model, led to lower sequential gross margin at 59.1%, down from 64.4%. We expect CommTest gross margins to recover in the fourth quarter. CommTest turned in an operating margin of 7.5% compared to 18.1% in the prior quarter and 11.3% in the prior year. Without Arieso, CommTest revenue would have been $173.8 million, below its guidance range. Gross margin would have been 59.4% and operating margin would have been 8.4%, within its guidance range despite lower revenue. Turning to CCOP, which consists of our Optical Communications and lasers businesses. In fiscal Q3, CCOP delivered revenue of $179.2 million, just below the low end of its guidance range. Gross margin improved sequentially from 30.9% to 31.8%. Operating margin was thus 10.7%, topping the guidance range. Book-to-bill ratios for both the optical and laser businesses were greater than 1. Within the segment, Optical Communications reported revenue of $152.9 million, down 1.7% sequentially and up 6.8% year-over-year. Vendor-managed inventory or VMI was approximately 43% of optical revenue compared with 48% last quarter. 8 of 12 product lines grew sequentially, with notable growth in transport products. Total ROADM revenue grew 7.2% sequentially to 21% of total optical revenue, reflecting what we believe is a market share gain. Combined, tunable XFP and tunable SFP+ revenue was 14% of optical revenue for a basically flat quarter-to-quarter. Optical Communications gross margin improved to 29% from 28.3% last quarter despite lower revenue, due primarily to product mix and cost improvements throughout the quarter. The sequential ASP decline in fiscal Q3 was 5.1%, in line with expectations and within the typical range for March. The lasers business contributed $26.3 million of revenue versus $30.2 million last quarter, due to an inventory correction at our fiber lasers customer. Gross margin improved sequentially to 48% from 44.4% as a result of product mix and cost improvement initiatives. Next, our OSP segment delivered revenue of $51.9 million, exceeding our guidance range on strength in currency pigments. Gross margin improved sequentially from (sic) [to] 50.1% from 47.9%, and operating margin of 35.8% improved from 33.6%. These results place OSP within its target operating model. Moving to cash and our balance sheet. In fiscal Q3, the company generated $28.2 million of cash from operations, while capital expenditures totaled $13.4 million. At the end of fiscal Q3, the company held $638.8 million in total cash and investments, net cash was $479.2 million. We recently issued a tender offer for our outstanding convertible debt due in 2026 and plan to have this fully repaid by the end of Q4. Now on to our Q4 guidance. We indicated previously that we expected to see positive impact of increased network investments in our June quarter. We believe public commentary by key customers and others continue to support that view. But continuing delays by certain significant customers lead us to be cautious. Looking forward in CommTest, we expect higher revenue and a recovery in gross and operating margins. In CCOP, we also expect better revenue, including higher lasers revenue and new gesture recognition revenue. And for OSP, we expect lower revenue, primarily due to customer inventory adjustments, and correspondingly, lower gross and operating margins. Specifically, then, on a sequential basis, for CommTest, we expect revenue to increase approximately 7% to 11%, including $1 million to $2 million of revenue from Arieso. For CCOP, we expect revenue to also increase approximately 7% to 11%. For OSP, we expect revenues to decrease approximately 6% to 12%. We expect our operating expenses to increase $6 million to $11 million sequentially, reflecting a full quarter of Arieso of $4.5 million -- excuse me, $4 million to $5 million, continuing investments in R&D and higher variable compensation. Now looking at the operating margins for the segments. We expect CommTest operating margin to be 9.5% to 11.5%, CCOP operating margin to be 10% to 12% and OSP operating margin to be 31% to 33%. We expect net expenses for taxes, interest and other income to be approximately $4 million to $5 million. We expect our share count for calculating EPS to be approximately 242 million shares. We expect capital equipment purchases to be 3.5% to 4.5% of revenue. Taking into consideration the factors above, we expect fourth quarter revenue of the company to be between $420 million and $440 million, and our non-GAAP operating margin to be between 7% and 9%, again, including more than 1 point of incremental operating loss from Arieso. I would now like to turn the call back over to Tom.

Thanks, Rex. While fiscal Q3 was more challenging than expected on the top line, my confidence in JDSU's opportunities going forward remain strong, with the same qualities that we discussed during our Analyst Day in mid-February. Our innovation engine and portfolio alignment with our customers' strategic priorities are solid. We are well positioned to help our customers meet diverse needs from building next-gen networks, ensuring network visibility, supporting brand protection and anti-counterfeiting and delivering innovative new laser and gesture recognition technologies. In addition, we are improving leverage in our operating model, maintaining a strong balance sheet and consistently generating cash. So while the timing of network investments is not exactly as forecasted during our previous earnings call, we believe we are positioned favorably for growth opportunities as they occur. Operator, we'll now take questions.

[Operator Instructions] Your first question comes from the line of Kevin Dennean from Citi.

I guess a question either for Alan or maybe Rex. If we were to strip out gesture and lasers from CCOP, should we expect the rest of the business to grow in June?

Well, we don't really break it down to that level, and I think that's a good question with respect to the overall 7% to 11% we expect. A good portion of that is from gesture recognition growth, but I think at this point in time, we don't want to break down how much comm -- telecom or Datacom is going to grow. It's going to be what it is. Since we have such high VMI content, it's really hard to say.

Okay. And Alan, just 2 quick follow-ups. ASP was down about 5% this quarter. How are you thinking about pricing for Optical Comm components for the balance of the year?

Well, it's hard to say what's going to happen in the out quarters, but we don't see anything that's atypical in the June quarter. We predict it to be within the 2% to 3% range, which is seasonally typical for that quarter.

Okay. And the drop in VMI as a percentage of revenues, what's happened there?

That happens when some customers change their manufacturing facility or their hub location and they'll give us discrete orders. There's really no change with respect to what happened with those customers. It's just a matter of when they bring up a new hub or a new manufacturing location, they give us discrete orders because they don't know how to deal with VMI quite yet, but those transitions are done.

And your next question comes from the line of Amitabh Passi from UBS.

This is actually Jim Hillier for Amitabh. On the OpEx front, you're seeing a bump in OpEx, up $6 million to $11 million sequentially. I guess when we're thinking about this, is this sort of the run rate trend we should be expecting going forward given that much of the increases is coming from Arieso, and you sort of expect that to run through mid-2014? And also, if you can just sort of talk about the methodology behind the deal given that this is going to prove to be a bit of a drag in terms of OpEx.

So this is Rex. I'll take the first part of the call, and then I'll turn it over to David. As far as the operating expense baseline, our goal is to give you the tool to be able to work with Arieso. From an OpEx perspective, I would expect that number to be consistent going forward, and you should just build that in. R&D is also a place where we put an enormous amount of focus in the company. Both CommTest and CCOP in particular are continuing their investments in that area, so I would expect to see that component of it hold as well. The variable comp which is based on quarterly performance. So something along the lines of the range we're giving you is probably a good thing to work with going forward. As I mentioned in my script commentary from a revenue perspective, we're banging through building the base of revenue for Arieso from a ratable perspective. So it's going to take us some time under U.S. GAAP to get that built up. And I gave you the quarter when I think that things would turn for us. But one of the things that we are contemplating doing in at least the near term is giving you a sense of bookings and cash as we move through the next 2 or 3 quarters, so you can see the underlying strength of that business. From a strategy standpoint, I'll turn it over to David.

Yes, so good point on the investment piece. Obviously, we are seeing very, very strong demand as we talked about in Analyst Day for the explosion in growth of small cells. And we talked about software enabling the network, you're hearing a lot about Software-Defined Networks. Arieso gives us that visibility to the edge of those small cells. So as Rex mentioned, were seeing strong order demand ahead of plan for that business and growing quite dramatically. It's a timing impact of the investment we make in actual dollars of both cash and expense to continue to fuel that growing business. That does yield orders and cash flow, but as we take the impact of that software over time, I think that E to R will catch up that Rex just went through. But obviously, our commitment to continuing that investment is based on the strong customer response and active market demand.

Great. And then just a quick follow-up. Could you discuss linearity in the quarter, and if you're starting to see any bit of pickup in the month of April?

Yes, I think typically this March quarter is back-end loaded, and we saw it even more so this quarter. And as we mentioned, we're expecting that to somewhat repeat itself, maybe not to that extreme in the June quarter just because of the timing of the release of these budgets.

And your next question comes from the line of Mark Sue from RBC Capital Markets.

Tom, just if we think about the timing of the release of the budgets after the initial strong indications that we had in the earlier part of the year, is there a feel that at least from a inclination and indication to spend, those things are still there? The trends in April, is that going to support that things can come back quite readily? And the money that didn't get spent now, does that imply some subsequent catch-up in the subsequent quarters? Just your thoughts on how things might pan out over the next few quarters would be helpful.

Okay. Sure, Mark. I think we believe that the total business opportunities haven't gone away. So what we're hearing from our customers, what we've heard publicly, the spend rate is still going to be pretty close to what we expected for 2013. So that says now that they have even less time in the calendar year to spend it. So we are preparing. We are being cautious. But we're preparing so we are ready to take advantage of those order releases when they happen. And again, we think we're very well aligned with the technology that is needed out there by our customer base to improve visibility into the networks and efficiency, to help them buildout these networks in a restricted period of time. So I feel good about that alignment, but we are more cautious than we were previously just seeing what had happened in the March quarter and just the timing of these releases.

I see. Now just, if I could -- if you have any thoughts on what the root cause that might have been for the carriers to all of a sudden slow down their typical release of purchase that would be helpful, from your dialogue with your customers. And also as we think about kind of the inclination to CapEx budgets, for the most part which are firm for the year, does it foretell a June quarter which might mark the bottom for the level of revenues per segment for JDSU, and can you actually be a healthy segment in September or December?

Yes, Mark, I think David Heard is on the line here. And he works pretty regularly, and his team with -- directly with the operators. So let me have him take the first part of that, and kind of what he's hearing from those operators.

I think Alan and I are both seeing a bit of the same thing, kind of 3 fundamental factors we're seeing out there. First is a delay of the budget release with carriers. Some of them making public investments that they're going to spend more. It was about 2 to 3 weeks more than normal, which obviously causes a very back-end loaded quarter. The second piece of that is they're shifting, making wilder shifts in technology, really moving from the legacy technologies to the broadband high-speed mobile technologies. And you get the third impact with the first 2. The third impact is that tends to stall deployment. So there may be design wins that we're seeing out in the market. We may see relatively decent funnels in front of us in real conversations with customers that we've been having throughout the year and at the Analyst Day that just take a bit longer. And I think as you've heard the ecosystem, network equipment manufacturers, carriers and some of our competitors talk, those are the 3 fundamental dynamics, I think, we're seeing at play.

And your next question comes from the line of Ehud Gelblum from Morgan Stanley.

A couple of questions. First on the gross margin. I wanted to dig in a couple of shifts that happened. The Americas, on a geography basis, was weak. As was EMEA on a sequential basis. Can you give us some reason for that? I'm wondering, were those impacts in the CommTest business and are those higher gross margin business in CommTest and so, therefore, did those impact the gross margin in CommTest? That's why it was down to 59% from 64% the prior quarter?

So Ehud, I'll try to hit more directly what I think is the question you're posing about the significant reduction quarter-over-quarter in the CommTest gross margin. There were a number of factors that were hitting that. I wouldn't tie it to geography. I'd just tie it to a number of factors. Clearly, one contributor is lower revenue. Significant decline in revenue from Q2 to Q3. Slightly higher than we customarily have flow-through the COGS line. There was some fairly unusual, but significant pricing pressure in one of the key product areas for CommTest that flowed through this quarter. And then there's some additional transitional charges that we incurred as part of CommTest's aggressive move to a much more fully outsourced manufacturing model, so just some overhead versus periodic expense moves that flowed through. But as I said in the script portion, we do think that this is a onetime event. We're going to recover next quarter. I don't know if there's a geography question that you want to address, David?

Oh, I think it's just good pickup on the general loading of where our revenues were, just to reiterate Rex's point. As we discussed in prior analyst meetings, we're making a very aggressive supply chain move that gives us confidence in our gross margins going forward, where we've halved the number of both locations and contract manufacturers here over the last 18 months. So there was some inventory, as well as accounting changes that, as Rex said, we don't view will be reoccurring. That gives us again the confidence in our gross margins going forward. We did see a little bit different of a mix with that significant shift of 2 to 3 weeks within our portfolio that was more concentrated on access handhelds. Prior to the uptake of our StrataSync software package that goes on those that we announced later in the quarter. So I think those things together, along with the volume, were the root cause there. And yes, that has a geographic impact just given the profile of our revenue mix for the quarter.

The reason I asked, sounds like a little bit of a product mix with that software piece as well because if you look back, either it's the September quarter or to the year-ago quarter, in March 2012, you had revenues that were close -- in September they were at what, at $170 million and in March they were $178 million, so similar levels of revenue. So that's why I wasn't going with the volume as being the issue why sequentially the gross margin was as low as it was. Because in those 2 quarters, you were doing 62% gross margin, not the 59%. So I was trying to come up with a baseline. Are we now at a lower gross margin level for a mid-170s revenue? And geographically-based, it sounds like a little more product-based than geographically-based?

Yes, no, I think the bigger issue is that you transition now to the contract manufacturer. That's a relatively large piece of the equation. Rex was doing the bridge over from our Q2, which was appropriate to do that walk there. So, no, I don't believe that there's a change there. We've got confidence going forward. In fact, as we move to the supply chain, that's part of what has given us that confidence and that trend going forward, just some transitory costs that we're going through.

Okay. So it sounds like onetime in nature. On the other side, looking at the other direction on Optical Comms. Your gross margin went from 28.3% to up 29%, yet your revenue was down a couple of million. Is that -- again, is that a mix issue? And is that because on the positive side and we look at the strength in revenues this quarter as being a driver of that?

Yes, I think it's a combination of partially mix, but really more the strong revenue from products less than 2 years old. We had 62% of our revenue for products less than 2 years old, and I think it was near 50% in the second quarter. So that contributes very positively to our overall gross margin. And then at the same time, we've had a lot of focus on driving scrap reduction and yield improvement and elimination of waste. And we're starting to see some of the benefits of that.

All right. Sounds like it might just be sustainable. Then lastly, you said you gained share in ROADMs. Do you know from who you may have been gaining the share and what types of customers geographically and what were some of the end-user customers you were gaining the share from?

Yes, that's a tough one, Ehud. Until they announce what they've done, it's really hard for me to predict. I think we just like to partner with our customers and make sure we provide them the best customer support and products that they need to win in the market, and we think that our products help them win. And so we're just focused on that. And when we gain share, we're happy about it. And when our customers gain share, we're even more happy about it. So it's really hard for me to comment on what our competitors are doing.

And your question next comes from the line of Alex Henderson from Needham & Company. Alexander B. Henderson - Needham & Company, LLC, Research Division: I was wondering if you could give me a couple of clarifications to start. You said that the discontinued, some revenues in the T&M, and you said it was $1 million in 3Q period. What was the discontinued revenues in the prior quarter that -- did it step down for the full quarter or just part of the quarter? How do I think about that?

So it was $1 million in Q3, as I stated. It was probably $2 million to $3 million. I think it was $2 million to $3 million the quarter before that. Probably higher than that in the preceding quarter. It's been coming down very rapidly, and we saw it as one -- as a product line having very little revenue going forward. But if you're trying to sort of figure out what to take out, this should give you a sense of it. Alexander B. Henderson - Needham & Company, LLC, Research Division: Second, within the ROADM piece, are you see a shift in the mix to higher port counts? From 1x2, 1x4s, are you going to the 1x9 type port counts?

I'm not sure we've seen a shift in our typical 1x9 compared to our 1x2 and 1x4. What we're seeing is the introduction of the Twin 1x20, where we saw our first quarter of revenue in Q3. And we expect that revenue to continue to grow as customers buildout new core networks using our 1x20 type of ROADM technology and our TrueFlex technology. Alexander B. Henderson - Needham & Company, LLC, Research Division: Okay. And one last for clarification. The strong demand you were citing in Coherent, can you give us a sense of what portion of your revenues are coming from Coherent? I was under the impression it was around 10%. You're breaking out QSFP, which is under 10%. Am I correct in that assessment?

Alex, to be honest, I don't have that number, but I guess you're probably in the ballpark range, it's not a little light. Alexander B. Henderson - Needham & Company, LLC, Research Division: Okay, great. The question I really want to ask is on the T&M side. You've given us margin guidance of 11% for the June quarter. Normally, your June and December quarters are your seasonally stronger margin quarters. You're on the record of talking about operating margins of up -- in excess of 20%. So you're half of where you need to be in what should be a seasonally stronger quarter for that business. As we look out into the back half, given back-end weighting that you're talking about relative to service providers, should we be thinking about addressing a steep ramp in those margins towards those targets or are we mired here at the lower levels? Normally, it declines sequentially into the September quarter, so how should we think about that?

From, I think, a historic perspective, when you look at our numbers, we have a high degree of operating leverage above the 100 -- take that $170 million number and the $215 million. It's a very, very high degree. In addition as we continue to, as we talked about working the supply chain through the end of the fiscal year, which was our target that we stayed consistent with, and that we're tracking to, and we see the uptake of software. And on top of that, we're now adding -- the good news about the software business both the acquisitions we're doing like Arieso and our existing software business is it's sticky, high margin, good for the business model. The bad news is, you have a bit of that cost assumption prior to getting to the revenue. So I think when you put those things together, we're still feeling comfortable with our operating model that we've been consistent with going forward on the 64% to 66% gross margins. And at that $215 million level being pretty comfortable at the operating income being well above 20%.

And your next question comes from the line of Patrick Newton from Stifel. Patrick M. Newton - Stifel, Nicolaus & Co., Inc., Research Division: I guess a multipart question on gesture recognition. I'm trying to understand what its contribution to revenue was in the quarter, and I believe you had commented that it could, this current win in gaming, has the potential to reach 4% of total sales if it's similarly successful to the prior win. Would that happen in this calendar year? And then I guess lastly, while on this subject, are you generating any revenue from your other gesture wins?

Well, the last one's easy, no. As we said in prior calls, we are working with multiple customers at which the first one ramps this year and the others ramp in 2014. The revenue from this new product ramp in Q3 was relatively small, and it's ramping in a more meaningful way in Q4. Could it achieve the peak revenue from what we saw in the first, in this year? I think so. If it successful takes off as a product. Patrick M. Newton - Stifel, Nicolaus & Co., Inc., Research Division: Okay. So I think implicitly that would be -- that would imply that if you got anywhere near that 4% level, assuming that's the high end of your guidance and you're talking about lasers increasing sequentially as well, that would imply that the remainder of your optical business could be flat to down?

Well, I'm not saying that we're going to get to the peak revenue in this quarter. I thought you said calendar year. And so we're not going to break it out that granularly, but as you go through any new product ramp, there is a time to ramp up. And to get to those kind peak volumes, you can't do that overnight.

Your next question comes from the line of Subu Subrahmanyan from Juda Group.

I had 2 questions. First on the budgets, just to revisit that. Tom, I think even on the last call you had expected some delayed budget release. I'm wondering if incrementally there was a further surprise on that. And now that budgets have been released, I'm trying to understand kind of the ongoing caution related to that now that you've seen the releases, are they at lower levels than earlier expected, which caused some caution for June as well?

Yes, I think there was an incremental surprise to the lateness of the budget releases. We do think they would start moving more into March, which a number of them did. The majority of them actually did on the Tier 1s. But I think just with that, actually getting the orders from the customer once the budgets were released was incrementally delayed. So that really impacted us significantly in March. I think going forward into the June quarter, we're cautious because we're hearing a lot of that type of caution around us in our environment. But I think also with at least one of our major network operator customers, even though their budgets are now mostly released, they're still very slow on the ordering process, and we just don't know how long that's going to take them to roll out the order processing for us. Get the orders and be able to then ship out, so we're being cautious. And that's probably more concentrated on 1 major customer as far as network operators, from that perspective.

Understood. So not any ongoing delays, but more kind of anecdotal based on concerns that this could continue, is that fair?

Yes, I think the way I'd put it is back to those 3 points I made earlier is, yes, there was -- it took a longer period of time in some of the Tier 1s that we're making those technology shifts, which were my second point. So taking them longer not only to release and get their awards of the design wins, but then the actual deployment schedule. And so when we then enter the quarter with less in that kind of coverage, that they pushed it out, it just makes it harder to catch up in quarter and thus a bit of the -- again, I think the judicious and cautiousness that we're using as we look at our current funnel and the expectations for conversion in quarter.

Your next question comes from the line of Simon Leopold from Raymond James.

This is Georgios Kyriakopoulos for Simon Leopold. First of all, in the demand environment, where did you start to seeing the softness in demand? And quite honestly, if I go back a couple of months ago at your Analyst Meeting, you seemed quite bullish on the service provider opportunities, but clearly March was weaker than expected. So now, was your confidence back then based on actual orders or more on positive commentary by service?

No, I think as we stated back at, around Analyst Day, that it was really triangulated from what we're hearing directly from our customers as they prepared us on what we could expect. What they were publicly saying out in the market as far as what their budget size was going to be and then what we were generally hearing from the media around the environment, so I think that all is very similar today as what we heard at that timeframe. I think in reality what's happened is, again, the orders took longer to release. David, I think, did a good job of explaining the reasons why; primarily the size of budgets for a number of the operators to shift to some newer technologies even faster, so that does take longer to get through the budget and ordering cycle, and those were probably 2 of the prime movers. So we -- so as far as demand drivers, we still see the demand drivers being very strong. We haven't seen anything significantly change there. It's really what we see more around timing and the shift, faster shift to the newer technologies.

Okay. So now if we shift gears to the gesture recognition business. I'm just trying to understand the ramp of this product line. So basically if I look back at the 2010 ramp, most of the shipments took place in the September and December quarter. And I think you had minimal revenue in the June quarter. But on the call today, you mentioned that you expect to ramp for the next-gen game console this June, so should we expect revenue from this product to be more linearly distributed throughout the year?

I think for the calendar year, we don't expect it to be linear for the calendar year. We are probably seeing a little bit earlier ramp in this generation than we did in the first generation. But remember, the first generation was a completely new design and completely new application, so probably a little bit further ahead on that perspective for gen 2. Alan?

And I think the other thing to note, and I mentioned this at Analyst Day is, that the JDSU content per gesture recognition product is significantly higher in the second generation as compared to the first generation. So I think our success is only going to be as successful, if you will, as the product release and the acceptance of the market. So as I said, that the March quarter revenue was very low, and we're starting to ramp it now. And we'll see after they announce it.

And your next question comes from the line of James Kisner from Jefferies. James M. Kisner - Jefferies & Company, Inc., Research Division: I believe you mentioned that 100 gig you had some capacity constraints, could you quantify how much revenue you may have lost as a result of capacity constraints?

Yes, it was mainly in modulators, and it was between $1 million and $2 million. James M. Kisner - Jefferies & Company, Inc., Research Division: Great. And I just want to clarify, you're guiding CCOP to be up, but operating margins looks like to be down a little bit, could you comment on why that is?

I think we guided 10% to 12% operating margin for Q4, and we announced 10.7% so. James M. Kisner - Jefferies & Company, Inc., Research Division: So flat off of an increasing revenue, basically at the midpoint?

Sure. I mean, we're certainly going to try hard to do better than that, but that's our current outlook. James M. Kisner - Jefferies & Company, Inc., Research Division: Is any reason? Is margin, gross margin is going to be lower, or mix is different? Is there any texture that you can give us as to kind of why?

Well, we are continuing to grow our R&D to make sure that we continue to have the kind of quarter we had last quarter with respect to new products, and so we need to continue to innovate and work with our customers. And as we said at the analyst meeting, we had a very, very large pipeline of Blade products, WSS ROADM Blades, and those take a lot of material purchases and things and people expenses to get those to market. And we're going to continue to invest in that area to continue to drive our ROADM Blade into our customers. So I'd say, OpEx is growing and that largely offsets what you might expect in the growth in gross margin dollars. James M. Kisner - Jefferies & Company, Inc., Research Division: Okay. So a really quick follow-up on that, since you mentioned the ROADM line cards. You said at your Analyst Day, you expected extremely strong second half partially as a result of these ROADM line cards. Is that subject to the same uncertainty that you're seeing pushouts that you're seeing in other products? Or you still feel pretty confident about that ROADM ramp in the back half?

Well, I mean, I can tell you that we are going to develop these cards with our customers, and they'll be successful if our customers are successful. And if the service providers deploy these next-generation ROADM line cards. We talk directly with the NEMs and with the service providers, and they're pretty excited about what we have coming to market. So again if they spend, we'll be the beneficiary of that. And we believe we're very well positioned with our customers and the service providers to make sure that when that spending does pickup, we'll be in the right place for them.

And from Lazard Capital Markets, your next question comes from Ian Ing.

This is actually Tyler Radke in for Ian. Just wanted to touch on obviously the comment you made in the prior earnings call about the -- seeing the impact of network investment and really I think the follow-up to a question that was asked earlier. When we look at the increase quarter-over-quarter into June on the CCOP, and we see that mainly gesture or a large portion is gesture. I guess, Alan, I mean, at the Analyst Day you said, you've never been more bullish on this segment. So I'm just trying...

I think I used the word excited.

Okay. Okay. Excited. So I guess I'm just trying to understand, are you still as excited? And if so, I mean, can you kind of help us understand how much we should be thinking about this as a gesture recognition opportunity versus the core Optical Communication?

Well, the excitement, if you will, comes from really the success we hope to have in gesture recognition, number one. And then number two, 62% of our revenue last quarter came from products less than 2 years old. And that excites me because that means our customers are counting on us more for their future needs, and the pipeline of products that we have in development to support our customers is really exciting. The Datacom stuff that Tom talked about, the CFP2, the QSFP+ products, those are exciting products that our customers -- we have a lot of traction with our customers. And we're there when the demand picks up, and we believe we're much better positioned than any of our competitors at this point in time.

Okay. And then on the CommTest side of things, obviously not hugely surprising that with the pushouts, but if we look at book to bill, I think you said it is roughly flat and then factor in the guidance. I guess, should we think of this as a conservative guide just based on what, I guess, the discrepancy and bullish commentary from the December earnings call? Or should we look at this as more a reflection on the potential orders that you're seeing out there?

Yes, I think it's very consistent with what's being seen in the market is that it's taking longer to get these orders released. Budgets were released late, and so we're reflecting what we're seeing and hearing directly from the customer. Again, we haven't heard anyone take their -- for calendar 2013, we haven't heard anyone take down their total numbers for the year. But it's a fact that the budgets came out later, and the release of the orders is pretty slow, especially with some key Tier 1 operators, so we're reflecting that in our guidance.

Yes, I would say there's no change in commentary. It's more of a timing issue, everything pushed to the right by 2 or 3 weeks. Those projects got pushed to the right. The good news is, the projects that are being funded and the first dollars of the design wins we're seeing are in the same category as we talked about in the December quarter results, as well as at the Analyst Day. So where we see the growth in Ethernet, where we see the growth in mobility, when we see the growth in network visibility, those are all the areas that are consistent. When we look at a composite of our competition from this quarter to the next, and we look at the ecosystem, we think that our guidance is prudent and well positioned even against the competition because of the fact that Alan mentioned. We have over between us, right, 63%, 64% new product revenue, and it's in the areas where people are making those dynamic technology shifts to where they put their dollars.

And your next question comes from the line of Kent Schofield from Goldman Sachs.

One question. A little bit on the near term. You said you saw some deal slippage in CommTest. Have any of those deals closed thus far?

We're not going to comment on specific deals, but obviously we continue to book orders. So -- but we won't comment on specific orders out of any one customer.

Okay, understood. Looking longer term through 2013 with the ongoing expectation for the network orders to come through, is there any reason to expect CCOP or CommTest to see those orders sooner than the other?

You mean, one business unit to see the orders faster than the other?

Yes.

There are some cases where maybe there's large network buildouts in countries like 100 gig networks that are getting built out where we may be doing the test equipment for the labs of early evaluation where we may see the demand early, and that's where the teams do indeed work together to be able to provide that information. But as both Alan and I talked about, in many cases, it's just the speed to deployment in those projects that I think it's been difficult for the industry to gauge. Even though they're very large, they're the largest in the world, gauging the timing of the rollout of those, I think, has been the tough piece.

Okay, great. And then lastly, on the OSP side of things. You mentioned some variability in the revenues of the OSP side. Should we expect that throughout 2013 or was that just a next quarter comment?

I think we will see it throughout 2013 as we're looking forward right now. We think we will see some of that variability throughout the calendar year. I think originally, we thought we would see most of it in the December quarter, but we do think that's going to continue for a while now. And I would estimate the best I know right now that it will continue through the calendar year.

We have no further questions in queue. I will now turn the call back over to Tom Waechter.

Thank you, operator. As our call concludes, I'd like to thank you for your interest in and continued support of JDSU. To our employees, thanks for your commitment, your focus and for rapidly moving the ball forward. Have a great evening.

Thank you for your participation in today's conference. This concludes the presentation, and you may now disconnect. Have a great day.