NeoPhotonics Corporation
Q4 2018 Earnings Call Transcript

Published: 1 Mar 2019

[Operator:]

Good day and welcome to the NeoPhotonics 2018 Fourth Quarter Conference Call. This call is being webcast live on the NeoPhotonics event calendar webpage at www.neophotonics.com. This call is the property of NeoPhotonics and any recording, reproduction or transmission of this call without the express written consent of NeoPhotonics is prohibited. The webcast will be available on the event calendar page of the NeoPhotonics website. I would now like to turn the call over to Mike Funari at Sapphire Investor Relations. Please go ahead, sir.

[Mike Funari:]

Good afternoon. Thank you for joining us to discuss NeoPhotonics operating results for the fourth quarter of 2018 and outlook for the first quarter of 2019. With me today are Tim Jenks, Chairman and CEO; and Beth Eby, Chief Financial Officer. Tim will begin with a review of our business in the fourth quarter and a discussion of business drivers and products. Beth will then provide financial results for the fourth quarter before providing outlook for the first quarter of 2019. Beth will then open the call for questions. The company's press release and management's statements during this call include discussions of certain Non-GAAP financial measures and information, including all income statement and balance sheet amounts and percentages other than revenue, unless otherwise noted. These Non-GAAP financial measures are not prepared in accordance with GAAP and are not a substitute for or superior to measures of financial performance prepared in accordance with GAAP. These financial measures and a reconciliation of GAAP to non-GAAP results are provided in the company's press release and related Form 8-K, being filed today with the SEC and can be found at the Investor Relations section of the NeoPhotonics website. Material contained in the webcast is the sole property and copyright of NeoPhotonics, with all rights reserved. Certain statements in this conference call, which are not historical facts, may be considered forward-looking statements that involve risks and uncertainties and include statements regarding future business results, product and technology development, capital needs and availability, customer demand, inventory levels, economic and industry projections, or subsequent events. Various factors could cause actual results to differ materially. Some of these risk factors have been set forth in our press release dated February 28, 2019 and are described at length in our annual and quarterly SEC filings. Now, I will turn the call over to CEO, Tim Jenks.

[Tim Jenks:]

Thank you, Mike, and good afternoon. This was a strong quarter for NeoPhotonics. NeoPhotonics delivered solid Q4 results with revenue of $91 million, representing 11% sequential growth and 19% growth year-over-year. Demand remained strong across all geographies, similar to the demand dynamics we saw throughout the year. Within the Americas and rest of world, demand and shipments continued their sequential growth trend while within China we saw a larger increase as a result of continuing domestic deployments, especially in provincial network deployments from China Mobile, as well as exports outside of China, despite trade tensions. During the quarter we saw growth that was consistent with normal seasonal demand patterns in China across our high speed product lines. In addition, regarding 5G mobile deployments, we understand that China is granting initial 5G licenses for construction according to the Ministry of Industry and Information Technology. These licenses are expected to be issued in about 17 key cities and regions and we understand that these large scale trials are starting. With continued strength in demand, combined with increasing volume growth across various product lines, we achieved gross margin expansion of 460 basis points in the quarter. From Q1 to Q4, our margins expanded steadily by approximately 14 percentage points, significantly more than our normal annual improvement. I want to thank all of our NeoPhotonics colleagues around the world who have worked hard to deliver this marked improvement. This quarter was our highest revenue quarter in the past two years, with strong orders and shipments, profitable operations and positive cash flow. Looking ahead, the drivers for the markets we serve are well aligned with our advanced technologies, high-speed capabilities and strong presence in high-speed components. Business drivers include continued growth in bandwidth needs, in optical networks, increasing deployments of switches, including multicast switches, the beginning of 5G wireless infrastructure deployments and continued demand with hyperscale data centers that include optical networking trends, increasingly aligned with our core capabilities and providing us with a basis for our continued business growth. As a leader in high speed digital optoelectronic solutions for the highest speed communications networks in datacenter interconnect and telecom network applications, we are seeing broad-based demand for our solutions as illustrated by High Speed Products for data rates of 100 gigabits and above, comprising 86% of our revenues and continuing to be the driving force in our business direction. I am optimistic about NeoPhotonics’ new product prospects. Our advanced hybrid photonic integration, which is our core technology, is continuing to demonstrate its benefits in high-speed applications by combining optical and electronic devices. We are now shipping products not just to support 400 Gigabits per second transmission but also at 600G on a single wavelength, while developing new product capabilities for 800 gigabit and 1 terabit per second. Our 400 gigabits and above product growth continues with these products comprising more than 10% of our revenue in the fourth quarter. We are increasingly ramping our 600 gigabit coherent solutions as well. Both of these segments are expected to continue to see growth in DCI for the next several years, as 400ZR pluggable coherent solutions become mainstream and higher speed line card solutions make their appearance. 100-gigabit data rates will continue to be used in volume for telecom and CATV for a long time and will continue to replace 10-gig at the edge of the network. At the same time, shorter reach 400-gigabit and 600-gigabit applications in hyper-scale data centers and metro applications will be additive to the 100-gig and 200-gig business levels. Further leveraging our industry leading, high performance laser capabilities, including high performance EML lasers and optical IC components, NeoPhotonics has developed a range of solutions for PAM4 transceiver applications, as well as non-hermetic lasers optimized for performance in silicon photonics based transceivers, which are expected to accelerate in deployments next year. Rounding out our suite of key coherent optical components are our high bandwidth receivers and modulators which are used in our ClearLight coherent DCO modules, along with our performance focused optical ICs, which allow honing performance in our coherent modules. Shipments of our CFP DCO modules continue to increase. Beyond our existing portfolio of leading edge high performance products, we continue to innovate to address the needs at the highest product speeds in next-generation networks. I would like to note that the Optical Fiber Communications Conference and Exhibition will take place in San Diego next week. OFC is the largest and most influential trade show in our industry and we are making several significant product announcements. First, we will be demonstrating live operation of a 64 gigabaud silicon photonics based Coherent Optical Sub Assembly, or COSA, which combines our designs for high speed modulators and receivers in a compact package suitable for use in 400ZR pluggable modules. The COSA can be implemented in either a BGA, ball grid array, or a hermetic gold box package. Second, we will demonstrate live operation of the next-generation of our external cavity narrow linewidth tunable laser which is based on silicon photonics optics and can be directly integrated with other silicon photonics circuits or separately packaged in a similar form to our current Nano-ITLA. Third, we will demonstrate a photonic integrated circuit-based tunable optical filter array that can be integrated with multicast switches to enable low-cost pluggable coherent modules to be used in contentionless or CDC networks. And finally, we will introduce and demonstrate in live operation a ClearLight CFP2-DCO coherent module to join our existing CFP-DCO module. The CFP2-DCO is based on all our internal optical components to achieve high performance. With increasing volume and revenue growth, I noted that our margins have expanded 400-plus basis points in Q4 over Q3 and 14 points from the first quarter to the fourth quarter. Our cost and expense management initiatives have been effective throughout the year. After the annual declines in pricing and seasonal volume changes resulting from the shorter Q1 in China, we expect to continue to deliver solid cost reductions. Over the last several quarters, we have detailed our efforts to focus on our profitable growth businesses while trimming areas that are less competitive or unprofitable. This quarter we took further steps to end production of unprofitable client-side transceivers as well as the signing of an agreement to exit our Russia operations. We announced these changes in early January. We are encouraged by the results thus far and intend to continue on this path, finding additional efficiencies while focusing on the technologies and products in which we have key leadership positions. Finally, in the fourth quarter, we received some notable customer recognition, including Huawei’s prestigious Global Gold Supplier Award. We are beginning to see 5G deployments in Asia and additional 400-gig and 600-gig deployments globally, resulting in overall growth in our coherent business as well as our high speed laser and passives businesses. With that, let me turn the call over to our CFO, Beth Eby.

[Beth Eby:]

Thank you, Tim and good afternoon. As Tim mentioned, revenue was $91.1 million, up 19% year-over-year, driven by strong demand from both western customers and China. Strong volumes and execution similarly drove gross margins up, which combined with improved operating leverage, resulted in net profitability on a non-GAAP basis and positive free cash flow. China represented 59% of total revenue compared to 56% in the prior quarter. Shipments to the Americas were 20%, down from 27% in Q3 with normal movement of customers’ contract manufacturing between geographies. Huawei Technologies, including its affiliate HiSilicon Technologies, was our largest customer and accounted for approximately 44% of the company’s revenue, down from 47% last quarter. This is in the normal range of quarterly fluctuation for Huawei. Our next four customers after Huawei represented 41% of total revenue compared to 42% in Q3. Our non-GAAP gross margin in the fourth quarter was 28.6%, up 460 basis points from Q3. Within this, product margins were 31.6%, down less than one point from last quarter as higher than expected volume and solid cost reductions partially offset the initial impact of the annual price reductions that will have full impact in Q1. Other cost of sales charges of three points were comprised of approximately 150 basis points of under absorption charges in our laser fabs, and 150 basis points of other charges, mostly the impact of tariffs related to the U.S.-China trade discussions. Moving to operating expenses, total non-GAAP operating expense for the fourth quarter was $22.3 million, slightly less than expected as we pushed out certain R&D spending. Non-GAAP operating profit for the fourth quarter was $3.7 million or 4% compared to a negative 3% in Q3, driven by the improvement -- driven by the gross margin improvement in the quarter. Non-GAAP net income for the fourth quarter was $2.4 million compared to a loss of $2.1 million in the third quarter, slightly better than expected on a lower tax provision. This translates to non-GAAP earnings per share of $0.05 compared to a loss of $0.05 in Q3. For the fourth quarter, adjusted EBITDA was $10.5 million compared to $6.2 million in Q3. I will close out my discussion of the fourth quarter income statement with a review of our GAAP results. Fourth quarter gross margin was 24.8%, up from 23.2% in Q3. The fourth quarter margin includes the costs related to the end-of-life inventory write-down of $2.6 million. Operating expense was $29.2 million, up from $27.6 million in the preceding quarter, due to a $2.2 million litigation settlement and $1.3 million of restructuring charges as announced as part of our January 14th press release. Operating loss for the fourth quarter was $6.6 million, which included $3.6 million of stock-based compensation expense, $2.6 million of end-of-life inventory write-downs, $1.3 million in restructuring charges for asset write-downs, $2.2 million of litigation settlement expense, and approximately $0.6 million of amortization of acquisition related intangibles and asset disposition related charges. Net loss for the quarter was $6.7 million compared to $8.1 million in the prior period. Turning to the balance sheet, we finished the quarter with $77 million in cash, investments and restricted cash, up $12 million from the third quarter. Net Inventory was $52 million or 69 days, down $5 million from the third quarter, on strong customer demand. This level of days of inventory was lower than target, but we expect this to increase back toward our target range in Q1. Free cash flow was $10 million. Before, I discuss our revenue and earnings outlook for the first quarter of fiscal 2019, I would like to remind everyone of our public filings with the SEC and our Safe Harbor statement, included in our press release, that discusses the risks and uncertainties that could affect future performance, causing actual results to differ materially from our forward-looking statements. For the first quarter of 2019, we expect to see the usual seasonal reductions related to Chinese New Year production shutdowns and the full impact of annual price declines. Additionally, we are seeing some supply related constraints for certain purchased sub-components, potentially pushing out a few million dollars of revenue to Q2. As we have said previously, we will increase R&D spending in 2019 as we invest in our next generation of coherent products. Q1 includes early payments to support a number of new chips and components. Given that, the company’s expectations for the March 2019 quarter are; revenue in the range of $77 million to $82 million; GAAP gross margin in the range of 20% to 24%; non-GAAP gross margin in the range of 23% to 27%; GAAP diluted earnings per share in the range of a $0.28 loss to a $0.19 loss, and non-GAAP diluted earnings per share in the range of a $0.17 loss to an $0.08 loss. These numbers are reflective of approximately 46.6 million fully diluted shares. Our business for Q4 was strong. Revenue was up, gross margins continued to expand, operating leverage increased, inventories remained within target and we were profitable and free cash flow positive. While we are very mindful of the uncertainty of U.S.-China trade discussions, the signals from our customers are positive for the coming year. Therefore, we remain optimistic about the revenue and profit trajectory of our business through 2019. With that, I’ll ask the Operator to please open the lines for questions.

[Operator:]

Thank you. [Operator Instructions] Thank you. We’ll go ahead and take our first question from Richard Shannon of Craig Hallum Capital.

[Richard Shannon:]

Hi, Tim and Beth. How are you?

[Tim Jenks:]

Hey, Richard. Pretty good.

[Beth Eby:]

Yeah, fine. How about you?

[Richard Shannon:]

Excellent. I don't know, the line went quiet for about 20 seconds, not sure if there's an issue. But anyway I just think that no one here in case the operator wants to take a look at that. Let's see here, I guess couple of questions for me on the demand environment here. Maybe, Tim if you want to add a little bit more thought to what you are seeing in China both in terms of maybe report growth tender activity, and maybe how soon things like 5G will start to have an impact on your business?

[Tim Jenks:]

Yeah, let's see. In China, overall the business growth has continued to be pretty strong. We saw good demand in Q3 and Q4. And as we look at 2019, in our prepared remarks, we said that messages from our customers are continuing to be strong. We do see in high speed ports, China is probably up about 15% year-over-year might be in the range of 240,000 ports or so. And so this is reflecting the continued port growth. And we're anxious to see how that plays through the rest of the year, but thus far it's been in line with their projections.

[Richard Shannon:]

Okay. That is helpful. Question I've asked I think in the last couple of calls regarding your laser business, maybe Tim if you can discuss one, we expect to see some ramp up there. I know you've been selling 20-gigabyte lasers for a while. When should we see 53 gigabyte lasers pickup and when could we see that under loading charge go away there?

[Tim Jenks:]

Well, let's see we're seeing pretty meaningful backlog and so that business actually has been increasing and that is also I think reflective of the onset of 5G. I think as you know there's a fair amount of utilization and the lasers that we make for front calling the analog RF links that are that are used in 5G networks. Our 53 gigabaud product is in design in cycles with several folks. We would expect that that would be producing meaningful volume and ramping by the end of this year and through 2020. Does that address your question?

[Richard Shannon:]

Yeah, maybe just a follow-up on that last comment there on the 53-gig specifically, Tim, what kind of share do you think you can capture in this market. And do you see this as a supply or technology constrained market?

[Tim Jenks:]

Well, let's see, I think as we talked about 53 gigabaud we're referring to electro-absorptively modulated lasers, so the EML lasers, there are a handful of manufacturers of 28-gig and then 53-gig is one step tougher than that. So with four or five companies supporting that business, I would expect that our capacity is in line to pretty well evenly divide the market. But I think how we each support end use customers will be decided during the course of the year. But we'll see how that plays out.

[Richard Shannon:]

Okay. Fair enough. I look forward to talking to you throughout the year on that topic. You didn’t answer the question on supply constraints. I think Beth you've mentioned this in your prepared remarks regarding relative to guidance for the quarter. Tim, if you can help us understand where you're seeing these supply constraints, what the nature of them are. Is this industry wide or specific to NeoPhotonics? And when do those constraints end?

[Beth Eby:]

So, I'll start that and Tim can pile on. What we're seeing is a tightness in some of the global parts and couple of our Neo specific parts. I think I've mentioned in the past that lead-time on packages was increasing. We're starting to see -- we're getting the increased supply that we expect for Q2. That's why I deliberately said that we've got a few million of revenue that's likely pushed from Q1 to Q2.

[Richard Shannon:]

Okay, that's helpful. Last question from me, I'll jump on the line. Can you identify or at least describe your other 10% customers in quarter other than your number one customer please?

[Tim Jenks:]

Our other customers are all the -- they haven't really changed the identity. So, each of the largest telecom equipment providers are generally in our top half dozen customers.

[Richard Shannon:]

Okay. I guess specifically. Do you have any other 10% customers in the quarter? And if so what were those percentages?

[Tim Jenks:]

Yes, for the next four, they did add up to 41%. And so the -- I think we'll report those when we'll file a K.

[Beth Eby:]

And to answer where Richard's going. In our K, we will report that Ciena was a 24% customer for the year.

[Richard Shannon:]

All right. That's helpful. Thank you very much. I will jump in the line.

[Tim Jenks:]

Thank you.

[Operator:]

Thanks Richard. [Operator Instructions] We'll take our next question from Fahad Najam of Cowen and Company.

[Tim Jenks:]

Hey Fahad.

[Beth Eby:]

Hey Fahad.

[Fahad Najam:]

Hey. Thanks. Looks like Richard asked all of the questions that were going to be on my list. But let me ask you on the China commentary. In terms of the 15% port growth, I would assume if you can remind us where the annual price resets are? Are those in the 10% to 12% range? And if that's the case, should we take net China revenue for the year is going to be up 3% or so taking into account the pricing reset?

[Beth Eby:]

So, let me talk historical averages for a moment Fahad, and then we'll go into this year. On average what we've seen is port counts grow by about 15% plus or minus 5% and then price declines in the range of 10% to 15%. What we're seeing this year is port counts of about 15% growth and price declines are at the lower end of the 10% to 15% average.

[Fahad Najam:]

Okay. Thank you. Tim if I were to look at North America, the strength in North America 400-gig shipments is the bulk of your North America shipments now almost all majority 100-gig and would it be fair to say that 400-gig is approaching almost 50% in North America sales, is that so room to go for 400-gig plus?

[Tim Jenks:]

So, what we said in the prepared remarks are high speed which is all 100-gig and above is 86% for the quarter and over the last two years that has been steadily trending up. We also said that 400 gigs, specifically 400-gig is above 10% for the quarter. I think for some time the speeds of 100-gig, 200-gig, et cetera will be a significant volume particularly as 100-gig starts to replace at the edge of the network, starts to displace some 10-gig. So essentially 100-gig will continue to generate volume for quite some time, but 400-gig is growing. It's quite strong in Western markets, but it's also growing in China. So we're shipping a fair amount of products that go to China as well and we would expect that that growth rate will stay higher than the rest of our business.

[Fahad Najam:]

If I could actually rephrase my question, what I was trying to get at was what percentage of North American sales for 400-gig?

[Tim Jenks:]

We haven't provided any breakdown by geography, so I can't really answer that.

[Fahad Najam:]

All right. And the last, if I may shift to the issue on margin and the shortage of supplies, one, is there any negative headwinds on your margins from this because of the shortages? Is there a heightened pricing that you need to pay for these components? If you can help us understand what the headwinds are for the gross margins? And also in terms of how we should think about for the rest of the year? Does this shortage fully recovered in Q2 or is that a risk that it extends into Q3 or Q4?

[Beth Eby:]

You mean the Q1 gross margin?

[Fahad Najam:]

Yes. Let me repeat myself. The shortage -- component shortages that you highlighted a few million dollars of revenue orders had got slipped from Q1. One, if there is any negative impact on your gross margins, I'm assuming if there is any heightened price that you need to pay for those components? And second question is do you expect to fully recover all of that shortage in components, the revenue that you see slipping into Q2? Do you expect to recover all of that in Q2 or is there some meaningful risks that that gets pushed out to the remainder of the year?

[Beth Eby:]

So while we don't have expedite fees related to those parts, we are as you know mostly internal manufacturing. So anywhere we've got a supply constraint, it reduces the volume over which we're absorbing our fixed costs. So there's some level of just fixed cost related impact to the supply limits as a going long-term through the year, we believe based on what suppliers tell us currently that we should be able to recover in Q2.

[Fahad Najam:]

All right. Appreciate it. I’ll leave the floor.

[Tim Jenks:]

Thanks, Fahad.

[Operator:]

Thank you. We'll now take our next question from Jun Zhang of Rosenblatt Securities.

[Beth Eby:]

Hi, Jun. How are you?

[Jun Zhang:]

Hey, guys. Good. Hi. So, yes, could you talk about ending the module production temporarily affect the factoring issue and also the gross margin side for the short-term. Thanks.

[Tim Jenks:]

Yeah. So we did announce that we were ending production of certain modules in the client side modules for 100 gig, it’s been a business where we have increasingly focused on our component level solutions. We expect to continue doing that going forward where we have very competitive lasers and optical ICs. And so as we are supporting a wide range of customers with component level solutions into client transceivers, the few number of module products that we had into that domain was relatively small volume, not competitive. And essentially we felt that it was better interest for our business to focus on the component solutions to that. So that is going through an end of life process. We're manufacturing those in the first half of the year, but ultimately because they are lower margin as it comes to an end, then it would actually have a bit of a -- would have a small but positive impact.

[Beth Eby:]

Yes, it wasn't a huge enough business to swing our margins. So as we finished the last time buys in Q1 and Q2, we should have a little bit of a pop in margin.

[Jun Zhang:]

Okay. And also -- yes -- go ahead.

[Beth Eby:]

Sorry, you go ahead.

[Jun Zhang:]

Yes, I think in the first half last year we had a big impact from your Japan side, could you talk a little bit about your current situation on the Japan side, laser fab and what kind of progress on the high speed laser growth there, the yield rate and also the demand side? Thanks.

[Tim Jenks:]

Yes, there are a couple aspects here. So we have three different types of lasers that we offer, we provide tunable lasers for coherent products, we provide electro-absorptive modulated lasers or ELM lasers that are used on principally on client side and now 5G fronthaul. We also have a range of non-hermetic lasers that are designed for use in Silicon Photonics based transceivers. So when you ask about Japan, it's principally referring to the EML type lasers that are used for data center client side and for fronthaul. Ultimately there are a couple of things to think about here. What we saw during 2017 is decreasing production volume, partially that was a result of the inventory overhang, partially that was the result of yield, but ultimately volumes decreased. In addition, there was certain headwinds as certain applications in the -- particularly the FR reach and to a smaller extent the LR reach started to use DML type products. Now since that time what we now see is some new positive trends in the EML business. So, for example, the use of EMLs for RF fronthaul link in 5G, for example, also the move to 2x200 for 400 gig and 4x100 for 400 gig. These are both applications that will increasingly create demand for EML. So we see positive direction looking forward. At present, we have seen an increasing backlog, increasing volumes through our fab and increasing yield. So we're not full. We still have ways to go, but the trend is positive.

[Jun Zhang:]

Okay. Got it. I think my last question about I was asked by a lot of the clients about the two concerns one is that during the trade war, China vendors tend to build some actual inventory. So could you comment a little bit about how you feel that inventory level in China? And also the second concern is that some of the Chinese vendor kinds of suite or diversify their supply base. So could you also talk about the position of NeoPhotonics in the supply chain? Thanks.

[Tim Jenks:]

Sure. Maybe I'll deal with that last question first is that the movement of supply in both increasing supply from China based vendors as well as internalization. This has been a concern that has lasted for the last decade. So it's not new. Generally speaking we have to make sure that we're innovating in our product development and doing so in ways that are ahead of the curve. We think that this has worked out quite well for NeoPhotonics; it has driven our focusing on the highest speeds and the innovations that serve the highest speeds and that is the focus of the company. You'll recall that two years ago, we exited the low speed business; the low speed business was an area that actually did see the impact of localization. That said, what we see right now is we see a relatively strong level of business in China on an absolute level. The business with Huawei was up. And China overall was up on an absolute 10% basis. We're also seeing that -- there are concerns from all of our customers on what happens with respect to trade, but by the same token they are continuing to buy and use products that we manufacture and then in working with us on new designs. So, we see all of those activities as positive. Though I will say we certainly do focus our time and attention on knowing what they're doing and what they're saying with respect to supply. Back to the first thing you asked about we do take effort to triangulate on how much we're selling into our customers in China and what they're shipping. We think that to a limited level, there might be a little bit higher levels of inventory at the end of the fourth quarter. By the same token, we think that any strong tender activity can offset that readily. So, the triangulation of products shipped in and product shipped out is in reasonably close balance thus far.

[Jun Zhang:]

Okay, got it. Thanks.

[Operator:]

Thank you. [Operator Instructions] We'll take our next question from Troy Jensen of Piper Jaffray.

[Troy Jensen:]

Hey, thank you. First of al congrats on reaching profitability as promised.

[Tim Jenks:]

Hey, Thanks, Troy.

[Troy Jensen:]

Okay. Hey. So maybe first for you, Tim, I got some follow ups for Beth, but could you just give us an update on the CFP to DCO that you're launching here at OFC. When do you think you'll move in to general availability for the product?

[Tim Jenks:]

During 2019. The product is a very capable product, a lot of things in the DCO world are increasingly important, both on the telecom side and the datacenter side. So specific set schedules, we have been continuing to increase our output on these DCOs in general. That's a good capability and so this expands our product range, but 2019 is an important year for that -- the new product.

[Troy Jensen:]

Can you tell us simply who your DSP partner is for the DCO? Is it multiple or just focusing on one?

[Tim Jenks:]

No. We actually buy from each of the merchant vendors of DSPs.

[Troy Jensen:]

Okay. All right. Perfect. And how about the -- for Beth here, OpEx of 24 to 25, versus just reporting 22.3 million in the fourth quarter, so that's a pretty big step function. And I think, Tim, you talked about after Q1 some cost cuts. Can you just kind of help us out with how you think OpEx is going to kind of roll throughout the year? And I know you said R&D kind of investments is probably the big step function here, but just more insight on that would be helpful.

[Beth Eby:]

We have some one-time payments in Q1 on certain chips and components that we're designing, but were within a broad range of $24 million to $25 million. I would expect us to stay in that range for most of the year. Sometimes…

[Troy Jensen:]

Okay.

[Beth Eby:]

Sometimes lower and sometimes upper end of the range, but just purely based on the timing of mass payments and the like.

[Troy Jensen:]

Okay. All right. Understood. I guess, that's all I had. I'll see you guys in San Diego.

[Tim Jenks:]

Very good. Thanks a lot, Troy.

[Beth Eby:]

Yeah.

[Operator:]

Thank you we'll take our next question from Simon Leopold of Raymond James & Associates.

[Tim Jenks:]

Hi, Simon.

[Mauricio Munoz:]

Thank you for taking my question. Hey. Hi, guys, its Maurice here.

[Tim Jenks:]

Hi, Mauricio.

[Beth Eby:]

Hi, Mauricio.

[Mauricio Munoz:]

I just wanted to go over your inventory levels, well, seem to continue to decline in the quarter. And sort of have like -- it seems that they hit a two-year low with the – there of inventories well below your 90 days target. How should we think about your inventory levels going forward and any potential impact on your previous free cash flow expectations for 2019?

[Beth Eby:]

So always remember that our cash flow kind of follows our revenue by 90 days. So you would expect to see us hit a low in cash flow for the year in the second quarter. So backing up to the inventory question, 69 days is low. But if you take the same dollar level of inventory and just use Q1 revenue, then it's -- we're back up to 77 days. So we are lower than we would like. Every time we put something into the VMI hubs it seems to get pulled. So it is lower than we would like and we will be trying to build it back up again.

[Mauricio Munoz:]

Okay. Thank you. And then, jumping to original demand and particularly China, there have been multiple announcements by governments and operators in Europe and Asia, talking about plans to sort of exclude Huawei away from their 5G initiatives. Some have even talking about an effort to push Huawei from their existing core network. We believe that this is, if at all, very long-term trend. But again my question is that, have you guys seen any trend from the Chinese operators perhaps starting to re-shift share in favor of Huawei versus some of their counterparts in China -- some of their European counterparts, I mean in China.

[Tim Jenks:]

Well, in China, the largest market shareholder is Huawei, ZTE and FiberHome are numbers two and three. And then the fourth player is Alcatel Shanghai Bell who often is -- they are the one representative of Western companies and they're usually the smallest share. So, during 2018, we have to say that we saw smaller share to ZTE given the ban, but that notwithstanding, generally speaking we're seeing things play in the normal way. We would expect -- I said earlier we were expecting 230,000, 240,000 ports in China, 15% growth in 2019, probably 170,000 of those are going to be from Huawei. That leaves about 60,000 or so for FiberHome and ZTE which is in line with prior forecast. So there doesn't appear to be any meaningful share shift. I do think that some of the news that I read on what companies or countries are saying, have to be taken, not just totally at face value, small countries versus large countries. All countries are not the same in terms of their impact on the company the size of Huawei. Let's not forget that Huawei is a third of the industry and so their business is continuing to roll. And so to some extent, we do see countries or carriers saying they might reduce bidding by Huawei, but it's usually in things that they're not yet buying. So, we haven't seen any real impact on the business.

[Mauricio Munoz:]

And then on that particular scenario, let's say, that really happens, and this is a question that we usually hear from investors. Can you just talk about the offsetting aspects for NeoPhotonics? Meaning that while we’re perhaps losing some share in Europe that share might go to the next largest optical system providers which it seems to be also a customer for NeoPhotonics, so you can talk about that.

[Tim Jenks:]

Yeah for NeoPhotonics, I think this is an interesting point because we do have a significant business with Huawei, but we also have significant business with each of their competitors. And so we talk about our largest customer and our Next 4. And while it's 4

[Mauricio Munoz:]

Thank you. That's helpful. Thank you. Thank you for taking my questions.

[Tim Jenks:]

You bet Mauricio. Thanks.

[Operator:]

Thank you. This concludes today's question and answer session. I'll turn it back to Tim for closing remarks.

[Tim Jenks:]

Thank you, Todd. I want to thank all attendees for the call for your time and interest in photonics. We look forward to updating you on our progress in the future. Have a good day. Bye.

[Operator:]

Thank you ladies and gentlemen, this concludes today's conference. You may now disconnect.