Aug 9, 2013
Executives
Erica Mannion - IR Timothy Jenks - Chairman and CEO James Fay - CFO
Analysts
Alex Henderson - Needham & Co Simon Leopold - Raymond James & Associates, Inc. Richard Shannon - Craig Hallum Eric Ghernati - Bank of America Merrill Lynch Brian Modoff - Deutsche Bank Alex Henderson - Needham & Company
Operator
Welcome to the NeoPhotonics 2013 Second Quarter Conference Call. This call is being webcast live on the NeoPhotonics Event Calendar webpage at www.neophotonics.com.
This call is property of NeoPhotonics and any recording, reproduction or transmission of this call without the expressed written consent of NeoPhotonics is prohibited. You may listen to a webcast replay of this call by going to the NeoPhotonics webpage.
I would now like to turn the conference over to Erica Mannion, Investor Relations of NeoPhotonics. .
Erica Mannion
Good afternoon. Thank you for joining us to discuss NeoPhotonics operating results for the second quarter of 2013.
With me today are Tim Jenks, Chairman and CEO and JD Fay, CFO. Tim will begin with an overview of the quarter followed by JD who will provide financial details.
Tim will continue with discussion of growth strategy, expanded production and recent product developments before opening the call for questions. The call today contains forward-looking statements that involve risks and uncertainties.
These include statements related to the NeoPhotonics business outlook for the quarter ending September 30, 2013, future periods and industry trends, and forward-looking statements that management may make in response to questions. Actual results may differ materially from forward-looking statements.
Factors that could cause results to differ materially from these statements include those described in today’s press release as well as those detailed in the section entitled “Risk Factors” of the Company’s Quarterly Report on Form 10-Q most recently filed with the SEC. NeoPhotonics cautions you not to place undue reliance on forward-looking statements, and that these statements speak only as of the date they are made.
Non-GAAP financial measures will be discussed today. Please visit NeoPhotonics Investor Relations website for the Company’s press release, which contains an explanation of these non-GAAP financial measures and reconciliation to the comparable GAAP measures.
Before I turn the call over to the CEO, I would like to mention that management will be presenting the dbAccess technology conference on September 11, in Las Vegas, and the Craig-Hallum Conference on September 26 in New York City. Now I will turn the call over to CEO Tim Jenks.
Timothy Jenks
Thank you for joining us today. NeoPhotonics made solid progress during the last year and we continue that trajectory in our second quarter of 2013.
We met or beat each of our projections, significantly accelerated our 100 gigabyte product growth and continued to make progress on a profitability path. In addition we saw very good results from the strategic acquisition of LAPIS Semiconductor Optical Components unit that we closed in the first quarter which enhanced our 100 gig product portfolio.
Henceforth I will refer to this business as NeoPhotonics Semiconductor. We continued to see strong traction with our 100 gig and Coherent products and momentum with new product in the pipeline.
Revenue in the second quarter was $75 million, which was at the high end of our projected range of $70 million to $75 million and over 30% above our first quarter. Excluding the impact of this acquisition our revenue growth was approximately 13% sequentially.
We are pleased with the growth we’ve achieved. Our growth was driven primarily by our 100 gig products including those used in telecom coherent networks plus contributions from the NeoPhotonics semiconductor.
Revenue from our 100 gig products increased more than 50% compared with the prior quarter and this result is up more than 350% on a year-over-year comparison. 100 gig product growth led to our highest quarter revenue in the company’s history.
100 gig is a strong market and one in which we believe we are a share taker. We have a broad suite of solutions for 100 gig transmission, and our customers tell us that our product performance often exceed that of our competitors.
It is also noteworthy that approximately 50% of NeoPhotonics semiconductor revenues comes from 100 gig product applications. We continue to work on increasing our content per port, at 100 gig systems and we believe that our percent of revenue in the 100 gig business is one of the highest of companies in the market for optical modules subsystems We see bandwidth demand drivers in 100 gig in both Telco networks and in data center networks.
On the telco side this far demand is focused on transport networks but regional and metro applications are soon expected. With the increasing overall market volumes these trends can be both large and long term and we believe we are in the very early part of this multiyear investment cycle.
Just a reminder for those of you who may not as familiar Coherent networks a subset of the 100 gig market opportunity continues to gain traction due to technology enabling higher transmission speeds over a single port. Relative to traditional optical networking which simply pulses light to create ones and zeros, Coherent technology allows the amplitude and phase of light to be manipulated which greatly increases the number of ones and zeros transmitted per second over a single wavelength.
While the complexity of each port increases, including the value of NeoPhotonics products used in the deployment of a channel, Coherent technology is designed to produce the overall systems cost for the end customer on a per bit basis as just one channel is required to achieve a 100 gigabyte per second transmission versus 10 channels using traditional DWDM technologies. By having this range of 100 gig Coherent solutions and because we have been investing in capacities and capabilities for these products over the last several years we believed we have a competitive advantage to continue to support the expected growth in the market for 100 gig development over the longer term.
I will now talk about our Product Groups. In the second quarter of 2013, revenue from speed and agility products was approximately 72% of our total revenue, up from 64% in the prior quarter.
Within this group revenue from our 40 and 100 gigabit products was approximately 39% of total revenue, up over $7 million from the prior quarter and up from 25% of revenue in the second quarter of 2012. This product group has been on an accelerated growth path especially among telecom network equipment customers expanding sequentially quarter after quarter since we introduced our first 100 gigabit products in the fourth quarter of 2010.
Most of our high speed revenue is for 100 gig applications and we expect this trend to continue, while we were one of the first to market with 100 gig proprietary photonic integrated circuit or PIC based products in 2010, we believe most of these products are early in their lifecycles and we would expect to leverage these products for years to come. For example; we’re building on our proprietary PIC platform to introduce new and enhanced products and gain new customer design wins, such as with our new high dynamic range 100 gig coherent receiver.
In the second quarter revenue attributable to our access product group was approximately 20% of our total revenue, which is down $0.5 million sequentially in dollar terms and down as a percentage of revenue, largely due to the strong growth of our high speed products and the addition of the NeoPhotonics semiconductor business in comparison. Now I would like to address our product differentiation; our products enable high data rate communications over fiber in telecom transport and metro networks, and in data centers and enterprise networks.
Typical uses are connecting transport systems city to city, or within a city, metro or to connect a data center to the network of a telecom carrier, each of which are increasingly operating at 100 gigabits per second. These applications are in the NeoPhotonics Technology sweet spot, which offers distinct benefits in performance, density, reliability and customization.
Our technology is designed to enable high network performance and to be cost effective for broad use of 100 gig networks. Our core PIC technology allows our product designs to increase density and functionality as well as reliability.
We produce our proprietary PIC devices in our own fabs which many competitors do not have and we believe enables to achieve higher margins as we incrementally add volume. At the same time this enables us to customize PIC based innovations to help tailor our solutions and for system architecture needs of our customers.
I will now talk about our acquisition of NeoPhotonics Semiconductor which closed at the end of the first quarter. Built as part of OKI Electric this is an established business.
It is a leading provider of lasers, drivers and other products for high speed 100 gig applications and it has been a technology innovator throughout its 30 year history. We believe the acquired business is viewed as high performance and high quality leader in this segment of the industry and thus has excellent strategic fit with our leadership position in 100 gig networks.
The acquisitions expected benefits include; one; the ability to expand our portfolio and capabilities including semiconductor and optical technologies for high speed 100 gig and above applications, including lasers drivers and modulators. And added capability for 100 gig products including single mode lasers for longer reaches and higher speeds which are key for 100 gig in the data center.
Two, reduce costs for certain existing products. Three, highly experienced engineering talent and a broad portfolio of intellectual property.
Four, a deeper geographic reach especially in Japan and five, additional scale. This business continued on plan for revenue and slightly above our plan for gross margins in the quarter.
Q2 was the first full quarter as part of NeoPhotonics and we are pleased with the performance of this business. At this point I will turn the call over to JD to review our financial performance and projections.
James Fay
For the second quarter of 2013 revenue was $75 million, and as noted earlier was at the high end of our projections and highest quarterly revenue in our history. GAAP gross margins for the second quarter was 20.2%, non-GAAP gross margin for the second quarter was 25%, which was also at the top end of our projection and which was (inaudible) pre-quarters non-GAAP gross margin of 23.1%.
Loss from continuing operations for the second quarter of 2013 was $9.5 million, an improvement from the loss of $10.5 million in the first quarter of 2013. Diluted loss per share from continuing operations for the second quarter of 2013 was $0.31, an improvement from a loss of $0.34 in the prior quarter and compares to a loss of $0.13 in the same period last year.
Non-GAAP loss from continuing operations for the second quarter of 2013was $3.5 million, an improvement from the loss of $4.4 million in the first quarter of 2013. Non-GAAP diluted loss per share from continuing operations was $0.11; this was an improvement compared to $0.14 loss in the preceding quarter and is down from a $0.6 loss in the year ago period.
Non-GAAP income and non-GAAP diluted per share from continuing operations for the second quarter of 2013 exclude certain items that totaled approximately $6 million, about half of which was related to our acquisition in the first quarter of this year and are described in our press release issued today before this call and which can be found on our website. Adjusted EBITDA in the second quarter of 2013 was $1.2 million, an improvement from an EBITDA loss of $1.7 million in the first quarter.
The quarterly improvement in adjusted EBITDA of $2.9 million was primarily due to improvement in our operating performance of approximately $0.9 million an increase of $0.6 million in depreciation expense and a $1.3 million change in the tax provision from a tax benefit of $0.6 million to a tax provision of $0.07 million sequentially. Next, I will discuss the second quarter in further detail.
Our record quarterly revenue was a primarily due to growth in 100G products including those used in coherent networks and revenue attributable to the acquired business NeoPhotonics Semiconductor. Revenue from our 100G products was up over 50% compared to the prior quarter inclusive of 100G products from NeoPhotonics Semiconductor.
NeoPhotonics Semiconductor also contributed handsomely to the quarter’s revenue growth with approximately $11.4 million in revenue which was above the mid-point of our projected range for this business. This business was EBITDA positive in its first quarter with NeoPhotonics.
Gross margin declined slightly within our expectations primarily due to the charges associated with the purchase price accounting for NeoPhotonics Semiconductor. Non-GAAP gross margin improved 190 basis points sequentially.
The growth in non-GAAP gross margin was primarily due to the addition of NeoPhotonics Semiconductor products with higher gross margins, plus operational improvements. In the second quarter, we were able to substantially mitigate excess manufacturing costs with one of our high speed products, as described on prior conference calls, to less than $1 million.
Total operating expense in the second quarter of 2013 was $23.5 million, up approximately $1 million or 5% from the first quarter, and compares to $18.5 million in the second quarter of 2012. The sequential increase in operating expenses was primarily due to an increase in research and development expense of approximately $1.6 million associated with the acquisition of NeoPhotonics Semiconductor those sequentially lower in percentage of revenue terms to approximately 15% from 17% and partially offset by general and administrative expense on lower professional fees associated with the acquisition.
We had three 10% or greater customers in the second quarter of 2013. Alcatel-Lucent at approximately 12%, Ciena, comprised approximately 15%, and Huawei Technologies comprised approximately 28% of our total revenue.
On the balance sheet, we ended the second quarter with cash, cash equivalents and short-term investments of $74.7 million. In the second quarter, we paid off the balance of other revolver for $12 million as it was not needed to fund the acquisition of NeoPhotonics Semiconductor.
We also commenced the scheduled repayment of our term loan which is $1.8 million per quarter. Accordingly, total bank debt at June 30, 2013 was $26.3 million, a decrease of approximately $13.7 million from March 31.
Now, I will provide our outlook for the third quarter of 2013. We anticipate revenue for the third quarter ending September 30, 2013 to be in the range of $72 million to $78 million.
Non-GAAP gross margin is anticipated to be in the range of 24% to 28%. Diluted loss per share from continuing operations is anticipated to be in the rage of $0.21 to $31 and on a non-GAAP basis, loss per share is anticipated to be in the range of $0.04 to $0.14.
Our Non-GAAP outlook excludes certain items totaling approximately $5.3 million which are described in our press release issued today. For the September quarter, if we are able to achieve the mid-point of our revenue outlook then we can expect to continue our sequential improvement in our non-GAAP gross margin in profitability metrics.
The share count assumption used to estimate the second quarter is approximately $30.8 million. This estimate can change based on stock and option activity in the period.
This share count also applies to the third quarter. One compliance note is that earlier today, we filed a revised quarterly report on Form 10-Q for the quarter ended March 31, 2013.
This filing adjusted a misclassification in the presentation of a non-cash capital expenditure included in the company’s consolidated statement of cash flows. This filing did not have any impact on previously reported income statements balance sheets, cash, total cash flow or adjusted EBITDA.
Now I will turn the call back to Tim.
Timothy Jenks
Thank you, JD. To wrap up, I would like to talk a bit about industry dynamics as well as our growth strategy, expanded production and recent product developments.
To comment briefly on the industry environment, going forward we expect to see incremental increases in carrier CapEx, (inaudible) was recently announced by Verizon and increasing program awards for 100 gig transport and metro deployments which we would expect to result in increasing demand conditions over time. China was slower than expected in the first half of the year and we anticipate this to continue into the second half as large tenders announced by two of China’s largest carriers have taken longer to be awarded than originally estimated by local analysts and our customers.
We anticipate these deployments will start to pick up later this year but timing is difficult to predict and we have reflected this in our third quarter projections. We’ve been delivering strong growths for many quarters and would expect an increase in economic growth in China could be a accompanied by stronger demand from China network equipment manufactures and in turn could increase our top line and create additional leverage in our operating model.
In particular, tenders in China include plans for 100 gig network deployments over the next two years which as we are leveraged to the industry leaders; we believe will strengthen our product mix and our market position as we participate in those network upgrades. On the access side, market growth rates have declined.
So, we anticipate that this segment will decline slightly as a percent of total revenue over time. We believe that we are well position for rapid growth of a 100 gig deployments.
Our 100 gig solutions constitute a strong product offering that we’ve aggressively expanded. We have in sourced key parts of the 100 gig and Coherent component value chain to deepen our technology position and help lower our costs.
We believe that Coherent is a sea change to network architectures, allowing for higher and higher data rates over longer distances as customers continue to demand more bandwidth with speed. Demand for speed is driven impart by massive data center traffic demands as well as new wireless LTE installations which generally reach to the need for network upgrades in (inaudible) networks.
We expect the world’s largest network equipment manufacturers will capture the largest share of the demand for new installations and we are fortunate to count these tier one companies as long standing customers. We have seen expansions in our margins due to manufacturing efficiencies, cost reduction initiatives and product mix and we will continue current efforts for further improvements in each of these areas and continue pursuing further product developments to capture new opportunities.
For example, during the first quarter we announced the new micro-ITLA narrow line narrow line width tunable laser leveraging our core PIC array technology and this product is now sampling to lead customers and is designed to provide them with enhanced performance in smaller size and with additional functionalities for the most demanding 100 gig and 400 gig systems. This product is one third to size of its processor and is designed for lower power consumption.
The micro-ITLA is just one as many products in our suite of 100 gig Coherent solutions. We are also sampling our new variable power integrated Coherent receiver which we also announced last quarter and we are introducing a new high dynamic range receiver to augment our Coherent product suite.
In addition to these products for Coherent networks we’ve introduced to new lower power and lower cost 100 gig client modules in the CFP2 form factor in both LR10 and LR4 versions for both carrier telecom and enterprise applications. During the second quarter we opened a new manufacturing facility in Dongguan, China increasing our productions based by approximately 50% we believe we’re making strong progress every day and expanding our production while improving yield and operating efficiencies and of course this positions as well to address increasing industry demand.
The massive scaling of data centers favor the use of high data rate and long reach leasers of the single mode that we supply from the NeoPhotonics Semiconductor and such use of single mode leasers is also favored in SDN or Software Defined Networks for optical switching. We believe this trend in data com networks will help drive future growth in our business.
We are focused on new product developments in these and other 100 gig applications and we are increasing our development actions to support them. The importance is speed and growth of data communications is apparent in many prices from consumer video to mobile 4G LTE devices in Cloud services.
The growth of bandwidth intensive applications and the explosion of datacenter needs are expanding our addressable market. We believe that 100 gig Coherent transition technologies is a sea change in the industry, we believe that is basis for future network design in both telecom and datacom networks which we expect will drive multiyear investments cycles for those companies associated with this emerging standard.
Our product portfolio has been designed to address these high speed requirements in both telecom carrier and enterprise datacenter markets and we expect to continue to be a strong player as the market expands. Moreover, we recognized that Coherent and other high speed applications offer greater potential growth opportunities than legacy upon products and our development efforts reflect this reality.
This concludes our formal comments and I’ll ask the operator to open up the line for questions.
Operator
Thank you. (Operator Instructions).
And we’ll go first to Alex Henderson with Needham & Company.
Alex Henderson - Needham & Co
I was hoping you could give us a little bit more clarity on the mix of business around the Coherent line. It looks like your commentaries including the NeoPhotonics semi in the progression.
So, can you talk about the 100 gig quarter-to-quarter growth, year-over-year growth if we exclude the acquisition so we can look at it on an apples-to-apples basis?
Timothy Jenks
Sure. We talked about specifically the NeoPhotonics Semiconductor $11.4 million in the quarter so we can certainly take that out.
On a comparative basis maybe for the quantitative comparison I’ll ask JD to give you the details.
James Fay
So, 400 gigabyte is about 39% of total revenue. If you take out the half of new NeoPhotonics semiconductors revenues and you get to around $24 million for the organic high speed revenues for the second quarter.
Alex Henderson - Needham & Co
So what would the rate of change be quarter-to-quarter year-over-year in with that calculation?
Timothy Jenks
The rate of change quarter-to-quarter is about 10%
Alex Henderson - Needham & Co
So it’s sub 10% quarter-to-quarter?
Timothy Jenks
That’s correct.
Alex Henderson - Needham & Co
Okay, so the second question as we’re looking at the LAPIS results obviously there is some seasonality to your historical business. But given the LAPIS addition, should we be looking at sequential growth in LAPIS flat?
How should we be thinking about the new NeoPhotonics semi business on a sequential basis? And then second on the same lines, as we’re looking at now 72% speed and agility, your historical seasonality in the back half has been driven partly by the fact that you had a lower end business that was more (inaudible).
Is your seasonality now changing as a result of the math the shift in the mix of your business?
Timothy Jenks
I think, let me deal with the first part. With respect to NeoPhotonics semiconductor we would expect that business to stand in the $11 million to $12 million range for the next quarter, so relatively flat and I would also anticipate that on ongoing basis perhaps some of the growth of that business will be serving internal leads.
So I think from a modeling point of view think about it as relatively flat maybe slightly up. With respect to the seasonality, the access business has been particularly seasonal and so given that, that business is a smaller percent of the total it does reflect potentially being a bit less seasonal.
We do still have the impacts though on the overall business of the Chinese New Year and the fact and the fact that the first quarter is therefore a shorter quarter. So we would fully expect to continue to have seasonality, just maybe slightly diminished.
Alex Henderson - Needham & Co
And then finally the last piece of the puzzle that you addressed was the mitigation of manufacturing past excesses is less than 1 million now. You obviously took a pretty good size hit in the last couple of quarters on that when will we have that back to where it should be no excesses at all?
Timothy Jenks
It should be in the normal levels this quarter being in the third quarter of this year. So I expect it to be in normal levels now.
In general nothing really ever goes to zero but it should be in the normal range now.
Operator
And we’ll now go to Simon Leopold with Raymond James.
Simon Leopold - Raymond James & Associates, Inc.
Wanted to see if we could talk a little bit about the dynamics of the Chinese market, the 100 gig, you gave us some helpful color on the delays of the tender. Could you give us some sense of the Chinese market in terms of how much they’ve deployed if anything to-date of 40 gig and 100 gig Coherent.
So how penetrated is it? And then your sense of when these projects do eventually get awarded and ramp, what’s your thought of sizing that opportunity and just the last part of that you did mentioned sort of the China seasonality, typically the March quarter where Chinese New Year slow.
I think you suggested that maybe you wouldn’t see as much slowness, if you could just reiterate what you were saying before on seasonality as well?
Timothy Jenks
Since you asked about 40 as well as a 100 gig I think that we need to go back in time and initially the deployments started out as 40 gig DQPSK deployments in China and that continued for some period of time. But now I think we’re in the legacy period of that and 100 gig in 2012 we started seeing 40 gig coherent and since then it’s been largely 100 gig coherent.
Now I think in the first half of the year, there were expectations that were residual from 2012 talking about increases in the business for domestic China and to some extent that was attributable to the two largest carriers in this space which should China Mobile and China Telecom. We saw some tender announcements in the second quarter generally the expectation is the larger ones are yet to come.
But during the second quarter it was anticipated that those would be awarded and going into production in the third quarter. That has not yet happened.
But I think ultimately we absolutely continue expect that those carriers will increase their deployments with the additional awards of tenders that have already been announced. Does that answer your question Simon?
Simon Leopold - Raymond James & Associates, Inc.
It partly answers it. so you had once, I think we all at once expected it in the third quarter of this year and so there's evidence that that's not happening in the third quarter, what's your best estimate of the timing today, is it the fourth quarter of this year, first quarter of next year, obviously not awarded means you can't say for sure but your best forecast.
Timothy Jenks
Well you know China Mobile, their tender was quite large, I think it was in the range of 12,000 lines of a 100 gig and smaller for China Telecom, you know current expectations do span both 4Q and 1Q with respect to customer forecast it's difficult to say when it actually will start, I don't know the answer to that.
Simon Leopold - Raymond James & Associates, Inc.
Okay well, nonetheless that's helpful certainly to get that dynamic, six month window is far better than having no clue, so I appreciate that and know it's not awarded yet at this point so understand. You did mention the Lapis business was about a 11.4 this quarter, I think that maybe just a little bit lighter than what we were thinking so, first of all correct me if I'm wrong and two, just let us know if it was lighter, what was the delta.
James Fay
This is JD, we were thinking it would be in the range of $10-12 million, I believe that's the projection that we gave in the last quarter, so from our perspective doing $11.4 million we thought was right in line with our expectations, in fact it's just above the mid-point.
Simon Leopold - Raymond James & Associates, Inc.
And did the addition of the Lapis business have any effect on your customer mix, because it was a little bit different than the prior quarter, notably Sienna being a smaller customer, is some of this that Sienna has not been a customer Lapis whereas maybe Huawei was, is that part of what's going on or am I reading too much into it.
Timothy Jenks
Yes Simon, I think last quarter we talked about having four customers who were about 10%, they were Alcatel, Sienna, Cisco and Huawei and this quarter JD noted that it was Alcatel, Sienna and Huawei and because of the fact that we did add the NeoPhotonics semiconductor business, essentially Cisco was not a direct customer and so that dilute out if you will of the 10%, other changes are mix changes, of those customers, Huawei for example was a direct customer, all of them were not.
Simon Leopold - Raymond James & Associates, Inc.
Okay. and then one just one last trending question if I might, the access business has been kind of trending down to establish but with the China builds for 4G mobile a lot of base stations going in, I have to imagine there's back hole opportunity, do we make the assumption that the access business responds favorably to those projects as well.
Timothy Jenks
Yes, it does, in particular, these tend to be, the part that reacts favorably if you will tends to be in 4G rollouts dealing with 10 gig connections that tend to use SFP+ form factor products.
Simon Leopold - Raymond James & Associates, Inc.
And where does that fit in your business, speed and agility or access?
Timothy Jenks
That would fit into speed and agility.
Simon Leopold - Raymond James & Associates, Inc.
Okay, where I was going is, I was wondering whether or not there was any tailwind on the access from backhaul.
Timothy Jenks
I think it's small, there is some but it’s small.
Operator
(Operator Instructions), and we'll go to Richard Shannon with Craig Hallum.
Richard Shannon - Craig Hallum
Let's see, a few questions from me, maybe just looking at your third quarter guidance just any way you can spec out the revenues, split of revenues in your expectations by the major groups there and specifically how you're thinking of the 40 and 100 gig category, think your quality of comments suggest a growth but anyway you can characterize any other way it would be great.
Timothy Jenks
Certainly I think the strongest growth we expect to be in the 100 gig category which really was part of the discussion in one of the prior correct questions related to timing in China but certainly it's been very strong in North America and Europe and we expect to continue that trend. The access business I think, that business does begin to see the effect of seasonality and so I would expect that to play out more in the fourth quarter than in the third quarter.
Richard Shannon - Craig Hallum
And if I'm doing my math right to get to the pro forma EPS which suggest op ex is going to grow by about a $1 million, JD is that about right and how should we think about the op ex going forward.
James Fay
The OpEx for the third quarter should, micro a little bit as we invest in the 100 gigabyte products that Tim talked about a bit earlier, but not a lot. One of the elements in the GAAP numbers is the amortization of intangibles and that is from the NeoPhotonics Semiconductor acquisition.
But on a non-GAAP basis, it should be relatively flat, maybe slightly up sequentially.
Richard Shannon - Craig Hallum
I think in a previous question, just want to confirm regarding the 100 gig datacomp products CFP1s, in past quarters you talked about some gross margin effects. And part of that being driven by some very good demand, very high utilization there.
Is that the lower effects of that going forward, does that imply that this is not running as much flat, did you added capacity or has demand more flattened out recently, can you, any discussion on that would be great please?
James Fay
Yes, we’re continuing see good demand in the 100 gig module products. We have announced two new CFP2 products which we would expect to begin to flow into that segment here going forward, certainly more in 2014 than in 2013.
But I think that will be an important product addition to the portfolio. But the demand continues apace on the 100 gig.
Richard Shannon - Craig Hallum
One last question from me and Tim, it’s kind of response to your prepared remarks, you discussed 100 gig Coherent, especially opportunities outside of long haul going into metro. Would love to hear your thoughts on when you start to see more real demand, a sizable material demand coming from the metro?
And also how well do you think you are positioned relative to each other in those two segments that you are better off in metro versus long haul, love to hear your thoughts there as well, please.
Timothy Jenks
Well, first of all the timing question, second the positioning. The timing we would expect it to be 2014, start of deployment.
We would expect 2015 to be a very strong ramp. So it’s not, metro deployments really are not notably a 2013 event.
We think we are quite well positioned from a product position where we are selling products and where we have design wins. These are the kinds of products that we have been selling into the transport networks as well for example Coherent receivers and narrow line with suitable lasers most notably.
The products that go into regional and metro tend to have particular smaller size and lower power requirements. So for example our micro-ITLA will be targeted for use in those kinds of applications as well.
Generally we think we are reasonably well positioned. We think we have a good suite of products and we look forward to those programs actually going into production.
Operator
Eric Ghernati
Hi this is Eric Ghernati for Tal, just a few questions. So first I want to start with your plan of targets for organic growth of 8% to 10%.
Is it correct to assume, I mean given sort of, that you expect flat, to be a relatively flattish, it’s pretty significant sequential growth in Q4. This is not a target that can be reasonably accomplished at this point in time.
- Bank of America Merrill Lynch
Hi this is Eric Ghernati for Tal, just a few questions. So first I want to start with your plan of targets for organic growth of 8% to 10%.
Is it correct to assume, I mean given sort of, that you expect flat, to be a relatively flattish, it’s pretty significant sequential growth in Q4. This is not a target that can be reasonably accomplished at this point in time.
James Fay
Eric, I think that certainly the impact of China overall and the fact that those tender words have not yet happened, that does affect our ability to get the topline for the full year that we had expected during the first half, you’re right.
Eric Ghernati
And just to be clear, because earlier you said LAPIS was trending above your plans but then your plans, you’re initially planning for a quarter was for $40 million to $50 million but it seems like it’s more going to be like 33 million or 35 million this year. Is that correct?
- Bank of America Merrill Lynch
And just to be clear, because earlier you said LAPIS was trending above your plans but then your plans, you’re initially planning for a quarter was for $40 million to $50 million but it seems like it’s more going to be like 33 million or 35 million this year. Is that correct?
James Fay
Actually what we had said was that last quarter we said we would do $10 million to $12 million and we had 11.4. And in this quarter we said that it was 11.4 but we said it was slightly above our plan on gross margin.
Now the $45 million number that you quote, that was the external sales of NeoPhotonics semiconductor prior to the sale, that nine months prior to our acquisition. But of course our actual external revenue has to reduce internal sales.
So 45 was a comparative number for the business as part of its prior owner. I hope that’s clear.
Eric Ghernati
Okay and then question on the competitive dynamics that you see in the marketplace. Any change because you clearly are doing great some 100 gig but if you can give us an update that will be great.
- Bank of America Merrill Lynch
Okay and then question on the competitive dynamics that you see in the marketplace. Any change because you clearly are doing great some 100 gig but if you can give us an update that will be great.
Timothy Jenks
Well the competitive dynamics of the market place is there anything more…
Eric Ghernati
Specifically on 100 gig.
- Bank of America Merrill Lynch
Specifically on 100 gig.
Timothy Jenks
Well as a general statement, 100 gig is an important strategic thrust of each of the major systems companies. And so the major systems companies have been some aggressive and trying to deploy their systems and win carrier customers for those deployments.
Certainly each of our largest customers are very active participants in the 100 gig deployments and certainly that flows through benefit us and we're very pleased to be in a position of serving each of those Tier 1. It is a competitive market with no doubt, as 100 gig becomes more and more important part of the overall deployment rate, other competitors are similarly working to gain market share.
So we do focus on our products go into 10 gig as well as 100 gig, we have active we have passive each one of those product groups in each one of those data reads being different groups of competitors. But as there is a change from 10 gig to 100 gig it does create a very competitive focus for gaining customers and share at 100 gig.
Eric Ghernati
If I recall it correctly at the time of your IPO you had aspiration at some point in time to 400 gig, 1400 to be more than 50% of your revenue, you have clearly exceeded that by wide margin. You had expected that at these levels, this mix you would be generating gross margins in the 30%.
What do you think has changed since then that has not allowed you to get to that 30%.
- Bank of America Merrill Lynch
If I recall it correctly at the time of your IPO you had aspiration at some point in time to 400 gig, 1400 to be more than 50% of your revenue, you have clearly exceeded that by wide margin. You had expected that at these levels, this mix you would be generating gross margins in the 30%.
What do you think has changed since then that has not allowed you to get to that 30%.
Timothy Jenks
Well I think we are making progress certainly on the gross margins, you are right we’re not there today but we actually have been there a couple of times in our history. So first thing I think to about when we go back and look over the last couple of years is that we have done a couple of acquisitions and that has caused the gross margins to go down temporarily.
But in each of these cases the gross margins actually have come back up. So I think certainly at the time of the IPO we were thinking about organic models going forward and we have done those acquisitions.
Overall I think those acquisitions actually have been very additive for the business and I think it will prove that these were wise moves over the longer term. I think there is still opportunity to grow further in gross margins.
100 gig coherent is now here and as Tim mentioned here we believe stay for a long time. So I think we've got a tremendous opportunity ahead of us to continue to deliver this PIC based products with potentially higher gross margins.
And furthermore we mentioned earlier on the call in the prepared remarks that we'd open our new facility in Dongguan. And we think that also has the opportunity for us to grow gross margins overtime.
Up to this point we had only cost in the income statement as we have built out that facility, but as we announced on June 26th the facility is now open. And we believe it will contribute to revenue and thus potentially gross margin beginning now in the third quarter.
Eric Ghernati
And just my final question, you typically have pricing resets in Q4, but then does seem like you are going to become commensurate towards hopefully some substantial increase in mix of fibers to the home. Like how should we think about the dynamics that sum around in Q4 because generally seasonality is kind of different than what it looks like right now?
- Bank of America Merrill Lynch
And just my final question, you typically have pricing resets in Q4, but then does seem like you are going to become commensurate towards hopefully some substantial increase in mix of fibers to the home. Like how should we think about the dynamics that sum around in Q4 because generally seasonality is kind of different than what it looks like right now?
Timothy Jenks
I didn't understand one part of the question Eric; you said how mix changes with respect to fiber to the home?
Eric Ghernati
Well, I mean if I look at last few years your fiber to the home it’s kind of all over the place, but in two years if was up in Q4 and one you it’s down generally either up or down depending the uptake. But in Q4 you generally also have pricing resets, and so I am just wondering about I guess how should we think about gross margin in Q4 with all the dynamics, high mix of access pressing and all that.
- Bank of America Merrill Lynch
Well, I mean if I look at last few years your fiber to the home it’s kind of all over the place, but in two years if was up in Q4 and one you it’s down generally either up or down depending the uptake. But in Q4 you generally also have pricing resets, and so I am just wondering about I guess how should we think about gross margin in Q4 with all the dynamics, high mix of access pressing and all that.
Timothy Jenks
Yes, so in Q4 we do have the preponderance of our annual bids are done during Q4, some of the larger customers do impact us in December, others in January. But that is the pricing reset that you note as those new pricing agreements come into place, what we would expect though is that in our prepared remarks I said that we would expect the access business to be slightly smaller on a percentage basis, we think that that would reflect in the second half of the year.
We also think that the growth rate of access was its continuing to grow as a market, the growth rates have diminished whereas the high speed 100 gig growth rates do not appear to be diminishing and therefore on a percentage basis, we would expect to see the mix change in favor of the 100 gig products. So I think those are the issues that we will see in 3Q and 4Q with the other major thing is being the timing of the China 100 gig deployments.
Operator
And we now go to Brian Modoff with Deutsche Bank.
Brian Modoff - Deutsche Bank
On the 100G, can you give us a little bit more kind of granularly around that you would expect that to, what’s the runway you see for the 100 gig modules. You said you think this we're in the early stages of this market.
What percent of volumes do you think shipping as 100G in term ports? And any opportunities with other customers like say Cisco, they do a lot of their own internal optics these days, do you see any opportunities with a player like that to expand your relationship?
Timothy Jenks
Yes, we would expect that on a year-on-year basis, the number of Coherent ports is significantly increasing and it’s basically doubling each year. Currently, the percentage of ports that are actually 100 gig or probably in the 20% of ports arena.
I think the question about which we are selling to each of the major suppliers of 100 gig. You mentioned Cisco, Cisco did acquire CoreOptics, CoreOptics build transponders and the transponders do use components that they source, so we are continuing to sell to all of the major manufacturers of equipment that does 100 gig Coherent and I would expect that whether it’s transponder or line card content you will find NeoPhotonics inside.
Brian Modoff - Deutsche Bank
And just kind of in longer term kind of topic, you have given numbers in the past around where you expect to be in terms of margins and what revenues; I guess you are back to break-even. Can you kind of update that for us?
Kind of what are your targets now for breaking even and any view on the time horizon to that? Thank you.
Timothy Jenks
From a breakeven point of view we still believe that revenues in the order of $75 million to $80 million with gross margins on a non-GAAP basis in the high 20s up to 30% with stable operating expenses, is the breakeven metrics and we are still focused on that. We have been focused on that for a couple of quarters now still believe that to be the case.
Now of course we have got a couple of items that we can toggle there growth mix and operating expenses but you can see the operating expenses with the acquisition of NeoPhotonics Semiconductor starting to stabilize a bit and with the additional NeoPhotonics Semiconductor products more 100 gig you will start to see the gross margins come up a bit and then the revenue is come up a bit so I believe we are on that path and that’s really is a focus for the business right is to continue, making process towards breakeven and then after that focus on a sustainably profitable business on an annual basis.
Operator
And we will now go back to Alex Henderson with Needham & Company.
Alex Henderson - Needham & Company
Just to be clear, after that last question there has been a lot of noise in the market about silica and photonics, just to be absolutely clear there is no silica and photonics development in any Coherent applications without any impact of Cisco products on your 100 gig Coherent line is that correct?
Timothy Jenks
That is correct Alex.
Alex Henderson - Needham & Company
Right just wanted to make sure, the acquisition that you did on CoreOptics is really around the DSP line and not something that has to do with the lasers or the parts of the business that are the predominant pieces of what you are selling. Anyway so my second question…
Timothy Jenks
That was transponders for Coherent and then there is subsequent work on Lightwire was dealing with silicon photonic, so I was just responding to the prior question about Cisco. so your conclusion is absolutely right.
Alex Henderson - Needham & Company
The core the (inaudible) product though is a data center product and doesn’t have anything to do with your Teleco business which is really the point that’s critical here.
Timothy Jenks
I think that is correct.
Alex Henderson - Needham & Company
So the second question I was going to ask, I was certainly very surprised by the tax line in the quarter, I don’t normally end up asking questions about tax lines but that reversal to a pretty sizable expense so was a little bit of surprise. How should we be thinking about that going forward?
Is that a function of the Japanese business? So what caused that swing from benefit to a loss there?
Timothy Jenks
It was a function of the acquisition in NeoPhotonics Semiconductor; we put an estimate in the first quarter, right after we acquired the business. Now, in the second quarter we refine that estimate, we work with our tax advisors and we booked the provision.
I think the provision is in line with our historical pattern and trends and I think that's what you ought to expect going forward.
Alex Henderson - Needham & Company
So is it that rate consistently across the next several quarters is it the blend of the two that would give you the rate for the first half?
Timothy Jenks
No, it would be that rate on our per quarter basis is more accurate estimates.
Alex Henderson - Needham & Company
And then second question, when you looking at the gross margin trajectory into the back half for the year, I would assume that you’re also getting the benefit of the fall out of the million dollars I was hoping you could talk little bit about how much of cost that we’re absorbing as result of the capacity coming on stream but the production not being on that capacity. So, as we ramp up volume on that capacity of availability, how rapidly does that absorb the overhead and contribute to margin, what’s the incremental margin contribution on revenues associated with volume on that plant.
Timothy Jenks
With respect to excess manufacturing cost we are actually pleased that those are down into the sub million dollar range and coming in with the more normalized pattern as you may recall we were pretty hard on that over the last three quarters to get that there. From the point of view of the new facility in the NeoPhotonics Dongguan its early but we do think that we’ll see some meaningful revenue from that factory this quarter and in particular I think what we’ve done well up to this point is we’ve sought to variablize (ph) that build out.
So, we try to keep the build out phased so that we can bring some lines up, add the capacity as well as start to ship the products right away to minimize the drain on gross profit. So, the gross profit impact in the first half of the year has been in the order of a couple of million dollars.
So, with some fairly modest revenues coming out of the Dongguan facility I think we can recover those costs and start to have it contribute positively to the gross margin, I believe by the end of the year.
Alex Henderson - Needham & Company
So just to be clear, its couple of million dollars for the four halves, so about a million a quarter.
Timothy Jenks
For the first half of this.
Alex Henderson - Needham & Company
All right. So it's about a million a quarter.
Timothy Jenks
Yes. It was not a flat line.
So, it came in fits and starts to some degree but it adds out to that way.
Alex Henderson - Needham & Company
And just going back to the Chinese piece, I was under the impression that the OEMs have been awarded the contracts and what we were waiting on was actually not the award of the contract but rather actual POs to start to build the actual capacity in the field. Am I reading that correctly or but I thought they had already decide who was awarded one half of China and the other half and whole of that.
Timothy Jenks
Well, we are under the understanding there were initial awards and principally from China mobile. And that the secondary awards which are larger from both China Mobile and China Telecom have not yet happened.
So, you are correct. they were done, they were awarded, they did go into production but that was earlier and smaller/ what everybody is talking about is larger tenders from both carriers that are to best of our knowledge are not yet awarded, they may well have decided who is getting them but we are not aware of them having being awarded.
Operator
And at this time I’d like to turn the call back to Tim Jenks for closing remarks.
Timothy Jenks
Thank you. I’d like thank everyone for joining us today on this call.
Before we conclude, I would like to thank our shareholders for their time today and their continued interest in the company. I also want to thank our customers for their continued support, and our exceptional employees for their dedicated, diligent and professional efforts.
We do look forward to our next update with you. Thank you very much.
Operator
This does conclude today’s conference. Thank you for your participation.