Good day and thank you for standing by. Welcome to the II-VI Fourth Quarter 2021 Earnings Call. At this time, all participants are in a listen-only mode. After the speaker presentation, there will be a question and answer session. [Operator Instructions] Please be advised that today’s conference is being recorded. I would now like to hand the conference over to Mary Jane Raymond, II-VI Chief Financial Officer. Please go ahead.

Thank you, Regina, and good morning. I’m Mary Jane Raymond, the Chief Financial Officer here at II-VI Incorporated. Welcome to our earnings call today for the fourth quarter of fiscal year 2021. With me today on the call are Dr. Chuck Mattera, our Chief Executive Officer; Dr. Giovanni Barbarossa, our Chief Strategy Officer and the President of the Compound Semiconductor segment; and our President, Bob Basha. This call is being recorded on Tuesday, August 10, 2021. Our press release and our updated investor presentation are available on the Investor Relations tab of the website, ii-vi.com. Just as a reminder, any Forward-Looking Statements we may make today during this teleconference are given in the context of today only. They are subject to various risk factors and are subject to change, possibly materially. We do not undertake any obligation to update these statements to reflect events subsequent to today, except as required by law. Our list of known material risk factors can be found in our Form 10-K for the year ended June 30, 2020, together with our subsequent filings with the SEC and the Form 10-K for fiscal year 2021 is expected to be filed on or about August 20th. Our remarks today do not constitute an offer to sell or the solicitation of an offer to buy any securities. No offering of securities shall be made except by means of a prospectus meeting the requirements of Section 10 of the United States Securities Act of 1933 as amended. Finally, with respect to today’s call, we will also present some non-GAAP measures for which the reconciliations to GAAP are found at the end of each document that includes those measures such as the press release or the investor presentation. With that let me turn it over to Dr. Chuck Mattera. Chuck.

Thanks, Mary Jane. Thank you all for joining us today and for your interest in II-VI. With the fourth surge of COVID clearly upon us, we remain focused on the basics to ensure employee and workplace safety. During the quarter, our supply chain and operations teams collaborated and again averted a potential impact of protracted supply chain issues. Once again, our employees made things happened and got the job done. Indeed, we delivered a great quarter and a great fiscal year. During today’s call, we will elaborate on the excitement of last year and our strong long-term opportunities. Since we signed the merger agreement with Coherent and started our flywheels turning, I have met individually with over 25 of the senior leaders at Coherent. I’m deeply impressed by their core competencies and long-standing contributions to the laser and photonics industries. They respect for the challenges that had to be overcome with each successive generation of technology. Their team orientation around innovation and their sense of excitement about the opportunities to continue to transform the world are similar to II-VI, making the ingredients great ingredients for a great start. During fiscal year 2021, we celebrated the 50th anniversary since our founding and we passed another important operating milestone having achieved $3 billion in revenue. Only one year after passing the $2 billion mark, an amazing accomplishment despite the challenges, including those associated with operating during a pandemic. Our revenues and our non-GAAP net income both grew just over 30% over fiscal year 2020 and we exited fiscal year 2021 with a record $1.25 billion backlog. Our growth is a testament to our market-focused strategy, our diversified global footprint, the endowment of acquired and developed technology, our agility around large customer intimacy, our ability to operate at scale, a disciplined approach to…

Thank you, Chuck. Despite all challenges we faced during the past 12-months, FY 2021 was an exciting year for us, having experienced growth in all of our markets. 3D Sensing posted the highest annual growth, more than doubling to just under 10% of sales, which allowed us to achieve our market penetration and share gain about one-year ahead of plan. This journey will continue as we accelerate our innovation road map, including multi-junction VCSELs, photodiodes, metal lenses and driver electronics and delivering new module functionalities to wafer-scale co-packaging. These modules will provide a compelling value proposition in multiple end markets, including in automotive, where driver and occupancy monitoring systems are increasingly recommended or acquired by U.S. and European transportation safety regulators. The momentum in the communications market continued with a strong 6% growth sequentially and strong bookings in the quarter. In datacom, products for 200G and 400G grew 60% in Q4 sequentially, driven by hyperscale data center upgrades. As the super cycle unfolds, we expect the demand for higher speed transceivers to be strong for the next five-years. We believe the supercycle will benefit those of us we have been investing for decades and can continue to sustain investments required to remain competitive and complex optoelectronic subsystems. At OFC 2021, we demonstrated our 400G and 800G transceivers for next-generation 25.6 and 51.2 terabit per second switches, respectively. While we continue to contribute to industry standards, we are already engaged with strategic customers for the development of 1.6 terabit per second transceivers, which we rely on our breakthrough semiconductor laser technologies capable of operating at 200 per line for all standard datacom reaches. The Q4 bookings for road and products were a record and critical IC shortages for older modules and line cards were overcome during Q4 to post a 9%…

Thank you, Giovanni. I will give you a short update on our COVID protocols, supply chain management, facilities planning and our Coherent integration plan. Our global pandemic response teams, our corporate and business leadership and all of our worldwide employees are doing a great job maintaining their vigilance and ensuring the safety of all of our employees. Among our many safety protocols that we have had in place since the beginning of the pandemic, we have continued regular PCR and antigen testing of all on-site employees. We require employees and visitors to wear masks in all of our facilities and we maintain social distancing and cleaning protocols in all of our operations worldwide. Our worldwide local pandemic response teams meet regularly at all of our 70-plus facilities worldwide and our corporate pandemic response teams meet at least weekly with our site leaders to offer information, provide guidance and ensure that all of our facilities and people have the resources that they need. We have also retained and consult regularly with healthcare professionals in an effort to understand the current dynamics associated with this terrible disease, because all of our operating plants are considered essential, we remain fully operational in all locations in the world, while most of our administrative staff are still working from home. Supply chain challenges remain daunting and we are being managed 24/7 as an all-hands-on-deck effort to secure our fair share of capacity at our suppliers. Thanks in part to some of our strategic suppliers, who have worked very closely with us during Q4, we overcame the effects of shortages that could have affected revenue as much as $40 million by our estimates. We have been a good customer for many years and actually contributed to the development of many of our strategic suppliers whom we…

Thank you, Bob, and good morning. First of all, a sincere thank you to all of our customers who pay the II-VI is the underlying driver of our growth. We are honored to support your strategic goals. Our Q4 revenue was $808 million was geographically distributed as follows: 48% in North America, 23% in China, 20% in Europe, 6% in Japan and 3% in the rest of the world. For the full-year, geographic distribution was 50% North America, 22% china, 18% Europe, 7% Japan and 3% for the rest of the world. In the quarter, end market revenue distribution was 67% in Communications, 13% in industrial, including automotive, 7% in aerospace and defense, 5% in consumer for semiconductor capital equipment, 3% in life sciences and the remainder is in other end market. Our non-GAAP gross margin was 38.6% and the non-GAAP operating margin was 18.4%. The non-GAAP gross margin and the non-GAAP operating margin remained well ahead of the margin II-VI achieved right before the acquisition of Finisar closed. We incurred $4 million of COVID expenses in the quarter, of which $2 million is included in the non-GAAP. This total includes lost work time and overtime and collectively, these costs put downward pressure on the gross and operating margins in the quarter. We also incurred $3.3 million of costs to deal with supply chain shortages, including expedited freight and unusual price increases above our costs in the ordinary course. This $3.3 million is included in the non-GAAP adjustments. At the segment level, the non-GAAP operating margins were 15.9% for Photonics and 23.7% for compound semiconductors. Similar to last quarter, compounded margins were driven by a strong mix and optimized capacity utilization. Our record backlog of $1.25 billion consists of $827 million for Photonics and $425 million for compound semiconductors. The…

[Operator Instructions] Our first question will come from the line of Paul Silverstein with Cowen. Please go ahead.

Thanks guys. I was hoping you could give us some insight on what you are seeing in China during the quarter, more importantly, looking forward, given some concerns out there in the marketplace.

Paul, your question was, you would like to have us give you some insight on what we are seeing in China? And the second part was, in particular, in light of -.

There have been concerns of the market risk by some of your peers.

Yes. So Paul, thanks for your question. This is Giovanni here. So let me comment on the industrial, if that is what you are referring to. But generally speaking, China has been a strong market for us, particularly industrial. We have seen pretty much all of our fiber lease customers as an example, very strong demand. We believe they are gaining share on the world market and as I explained in my commentary, there has been the really record numbers in many ways from the optics for the pumps. And so we have been benefiting from those customers taking share. And so China has been very strong for us. Now moving forward, of course, there is some uncertainty about the evolution of the virus like everywhere else. But we have not seen so far any slowdown in their demand for components particularly for fiber lasers.

And guys, on the optics side, I assume with the 5G awards now having been made or are you expecting a pickup in demand in your comms business in China?

Yes. Likewise. Yes, absolutely. So very similar.

Thank you.

Your next question will come from the line of Ananda Baruah with Loop Capital.

Hi guys. Congrats on the strong execution this quarter, and I appreciate you taking the question. I mean, somewhat related, just in general core business shows really good momentum this quarter. And it feels like there might be a pickup in some of those end markets a little bit sooner than expected. Is that accurate? I guess, is that your guys core view as we head into September quarter here? And if so, what do you see as the key drivers as we go through the next six-months of the year? I appreciate it. Thanks.

Thanks Ananda. So there is definitely a super cycle unfolding for upgrades across the world, particularly in North America to which we are participating, as I explained in my commentary about with the 200, 400, next-generation 800 and even 1.6 terabits per second transceivers. So that demand will continue at least for the next five-years. The cycle will continue for quite a long time. I think industrial is coming back pretty strong, we have seen a pickup in general demand for our laser components, again, particularly fiber lasers and same in power electronics driven by electric vehicles, adoption silicon abide devices and modules. And so I think those are going to be the strongest that we see. Also, as I mentioned in the in the prepared remarks, we think that despite the defense budget is kind of almost flat year-over-year. But we think that there is going to be an increase, nevertheless, in demand for new designs, new products for emerging threat. And so we will participate to that growth in demand, too.

Giovanni, you are seeing it like - is demand backdrop a little bit stronger today than maybe you thought it would have been 90-days ago?

Yes. But I’m sorry, we need to move to the next analyst. Thank you.

Thank you.

Your next question will come from the line of Jim Rashidi with Needham & Company.

Thank you. I think I heard in your opening presentation that you overcame some of the component issues that would have impacted revenues by about $40 million. I’m wondering if there is if you can give us any sense as to what you might have been able to ship in terms of revenue had it not been for the component constraints and with respect to your fiscal Q1 guidance, what type of revenue headwind are you assuming for components and some of the supply chain constraints?

So for Q1 guidance, I would say that we are looking at probably the same quantum in the first quarter that we were looking at in the fourth quarter. So that is one thing to answer. And I think secondly, as Bob has already said, overcoming $40 million and pretty much a day-to-day hand-to-hand combat, certainly, the demand is there. You can see that really in the book-to-bill. Would you have a view on this, Bob?

No, I agree completely, Mary Jane. A lot of the supply chain challenges really come from the integrated circuit supply chain constraints. And the team has really done a nice job outside of ICs and a real nice job with getting our IC supply chain requirements. So I agree completely.

Do you see any improvement as you look out over the balance of fiscal 2022 from the standpoint of supply chain?

I’m sorry...

Jim, your question was, do we see any operation of the supply chain challenges forward?

Yes. Do you see any improvement?

Yes. Thank you, Jim. This is Chuck. Jim, we don’t have a crystal ball, and the challenge associated with it is it is not only affecting us but of course, it is affecting our customers. And we have to take it - we have a long-term view, we have actions consistent with that long-term view. We have backup plans that we are trying to execute and keep in place and at the end of the day, this is a job that has to be done every single day. And so I’m optimistic that it will eventually clear out. But at the moment, it is not looking like anybody is going to be able to call exactly when.

Okay. Thanks very much.

Sure. No problem. Just for our leader board, I’m sorry to have to ask you this, but just to try and get everyone on the call, we probably can’t have follow-ups, but feel free to jump back in line. And if we can do a second round, we would be happy to.

Your next question will come from the line of John Marchetti with Stifel.

Thanks very much. Mary Jane, I just wanted to ask, in terms of the fiscal 1Q guidance, when we look at the midpoint of the ranges, we have got revenue essentially flattish. We got EPS down but on a lower share count. Can you help us just understand what we are thinking about in terms of gross margin and/or the higher OpEx that you referenced in some of the prepared remarks.

Sure. So first of all, John, being a little newer to our company, the fact that the midpoint would be flat to Q4. Q4 has historically been our largest quarter and largest by a good mile. So historically, we have had Q1 down even in very strong markets. So in 2016, 2017 and 2018, Q1 was down of those years on the prior Q4. So first of all, the revenue is probably holding in very, very well. And then with respect to the midpoint of the guidance, as we described, we did not take out of the non-GAAP range, roughly about $20 million that will be spent on the investments for silicon carbide. So if you tax effect that and do it, it is in the neighborhood of $0.12, $0.14. So that is really the major difference going forward. And as well as we do expect, as Bob has already said, to continue to have cost to try and battle supply chain storages as well as dealing with COVID. But the major difference when you look at midpoint to what we delivered in Q4 was the silicon carbide investment.

Okay. Thanks

Sure.

Your next question will come from the line of Mark Miller with the Benchmark Company.

Congratulations on your record results. What can you say about, you had very strong 200, 400 gig transceiver sales. What about pricing in that market? Is that pricing improvement with the strong demand?

Pricing is the typical communication market pricing we are seeing for the past 20-years. But we try to really focus on the high-end products. For example, on the ZR format, we are focusing on high power version, so we can eliminate, for example, the entire layer two, doing basically IP over DWDM. And that is enabled by our enuphosphide technology. So we are trying to focus on those faction segment of the market that offer the best margins and pricing. But the dynamic ASP reduction over time and so forth is pretty much unchanged, still lower pressure. But as I said, by focusing on the high end of the market, we can do better than average, I would say.

Your next question will come from the line of Richard Shannon with Craig Hallum.

Hi guys, thanks for taking my question. A question for either Chuck or Giovanni on silicon carbide here. You have listed out some what looks like a pretty strong increased investment in silicon carbide, where you have already talked about this market for years here. You have built up a capability across the stack here. Can you talk about and characterize what is driven you to put in a decreased amount of investment? Has this been improvements in internal product technology milestones or conversations with customers et cetera. Maybe you can just characterize why you are making an increased level of investment on top of what is already been strong one. Thanks.

Thanks, Richard. Yes, actually, it is all of those things our confidence in the quality of our material. At this point in time, combined with the investments that we have recently announced in the last 12-months and a very apparent acceleration in the need for silicon carbide and the demand that is coming here inside the next five-years and we would like to be well positioned, as I said in my remarks, to lead in this market. And so we are stepping it up and it couldn’t be more exciting for us. Okay.

Your next question will come from the line of Tom Diffely with D.A. Davidson.

On those same lines, when you look at the $1 billion investment projected over the next 10-years, from a big picture point of view, is the main focus going to be on increasing your capacity in the space or is it going to be more on the R&D productization of different silicon carbide pieces?

Both, Tom. Thanks for your question, Tom. We have to do both. The demands over the next 5 to 10-years are going to grow exponentially. And so we need to be in a position to be able to scale everything that we are doing, but we need to get the device and the module technology and all the process technology that we have in place. We need to get that organized. We need to get it qualified and we need to get the platform in place to scale. In the meanwhile, we will be making a even larger investment than what we have been planning to get the silicon carbide substrate capacity in place for what we need and for also what the market needs as well, okay.

I would say on balance in the $1 billion, it probably leaves more to capital than R&D, but Chuck is perfectly correct that we need both of them.

Your next question will come from the line of Chris Rolland with Susquehanna.

Hey guys, thanks for the question. Regarding consumer, it was great doubling for the year that you guys had there, but perhaps you guys can give us a little bit more color on some near-term trends and then your expectations as we move into the back half of the calendar year?

Hey Chris, thanks. This is Giovanni. Thanks for your question. So we expect the typical seasonality in the market. And we also expect to materialize some new design wins that will add up to design wins we are currently selling. And so I think that will be a pressure on price for sure, like typically, they are haring a combination of improvements in the experience curve as well as design improvements. And I expect that overtime, as I mentioned in my prepared remarks, overtime, that market will continue to be a close diver for us. So in the second half of the year, we will - of the calendar year will experience the typical seasonality trend and then will continue to grow year-over-year. So as out of our leadership in a number of parts that support the market lasers, meta lenses, drivers, modules and so forth.

Your next question comes from the line of Samik Chatterjee with JPMorgan.

Hi good morning. I had a quick one for Mary Jane. As thanks for your comments about the incremental investment in the first quarter. Just wondering if you can give us some direction on the magnitude of incremental investments acquired in fiscal year 2022 as we start to think about the margin progression here, particularly if you can also comment on what levers you would have to drive margin progression as you offset some of these incremental investments as well.

Right. So first of all, with respect to fiscal year 2022, Chuck spoke to about $200 million. The way that breaks down is roundabout million in the R&D, particularly with respect to the design for manufacturability and round about the balance of that $200 million that is CapEx okay. So that is for this year. With respect to margin improvement overall, I mean, certainly, one of the things we have seen through fiscal year 2021, particularly in Giovanni’s segment, is the manifestation of growth in many of the markets in which we had been investing for a long time, whether that be consumer or silicon carbide, et cetera. So as those laser-based and material businesses, growing material businesses accelerate through growth. We will see better air cover, so to speak. And better mix as it affects the gross margin. For sure, I don’t think our company has any less focus on the ongoing relentless focus on OpEx, particularly as with respect to G&A that I think will continue to work to keep that flattish, so to speak, on growing revenue that also allows - if you just think about percent of sales, that to not increase and maybe decreased a little bit as a percent of sales. This is the G&A as the R&D is increasing, that will help deliver overall decent results for the company.

Your next question will come from the line of Amanda Scarnati with Citi.

Hi. Just a follow-up question on margin accretion and how - what is the bigger driver here of growing margins? Is it sort of fixing some of these supply chain issues that are somewhat out of your control or is it more of a mix scenario and does it look like the December quarter could be a step-up in margins?

Well, first of all, make no mistake about mix makes a big difference. And you can see that if you look at the margin profile across the 4 quarters of the year, whether you look at the gross margin or you look at the segment margins so mix makes a big difference. I will say that certainly the fact that we are seeing a very nice renaissance here in industrial will continue to help. I mean as much as we might think that is the oldest business into six, it retains one of the best margins in the whole company. So that is a very positive thing. So any of the drivers using our grow materials or laser diodes are very positive additions to the mix. So that is probably the largest driver of the margin. With respect to the supply chain shortages, while we can obviously estimate increased freight or premium pricing or increased long-term commitments to customers, those are things that are very easy to calculate. What isn’t as easy to calculate is the literal all hands on deck, where people are coming out of other functions to work on this that potentially take them away from other improvements that they been able to make. So I think as the supply chain eases and there is more focus on than just being able to ship product. I think that absolutely does help. We will always keep our employees safe. We could see an easing over time of the COVID cost. But generally speaking, I think that is probably not happening anytime soon. Ultimately, it really does come down to mix and operating efficiency.

Your next question will come from the line of Simon Leopold with Raymond James.

Thanks for taking the question. Just a very, very quick clarification for Mary Jane and then the question. I wasn’t clear if you excluded some charges in your pro forma related to the COVID expenses or are you just were highlighting those. But the question I really would like to ask is to get a little bit of quantification around the hyperscale business you have been doing. It sounds like that is been growing nicely. I just want to get a better idea of what portion of the revenue are you getting from hyperscale now and how does it compare to a year-ago? Thank you.

So with respect to COVID, we incurred about $4 million or so and we non-GAAP $2 million of it. So the goal was to try and non-GAAP kind of the surge of it, and that is the same exact thing we did last quarter. With respect to the hyperscale, Giovanni?

Yes. I would say that the ratio is increasing, as we mentioned in the past, I think as a result, all the combination with Finisar and the deal pending, meaning customers kind of weighted for the combination to happen. So they were on the sideline, and we are kind of gaining share back because of that. Now obviously, we are working together as one company, and there is a very high confidence in the team, which is doing a fantastic job of gaining share, particularly as I mentioned earlier, we have the high-end side of the products. And I would say that of the communication they feel - let’s say, the transceiver business, I would say that the number is close to 30% and growing. And overtime, there may be a balance between maybe datacom telecom or hyperscale or super scale, however you want to define them overtime. But I think it just depends on what the definition of hyperscale is, but I think 30% is a good case.

Your next question will come from the line of Tim Savageaux with Northland Capital Markets.

Hi good morning. I wanted to come back on the kind of question about the fiscal Q1 guide on a sequential basis because you are - while appreciating historic seasonality, your seasonality has changed a bit, you should be seeing at least some degree of uplift in consumer. And it sounds like from a booking standpoint and just the overall tone of business that datacom and comm should be growing as well. So I guess I got a couple of questions. Should we look at kind of historic seasonality in industrial and other parts of the business is kind of seasonal offsets to that and perhaps more importantly, are you building in that $40 million component headwind to the guide and to overcome it as you have done this quarter would represent upside. Thanks.

So yes to the last question because obviously, the EPS guide goes with the revenue guide, right, on the same kind of range basis. So yes, if we were to be at the top end or over-deliver that by some excellent amount of work by our guys, I would imagine that we would be at the top end of the EPS as well. Second of all, while you are correct that the second half of the calendar year, our Q1 and Q2 are stronger on consumer, there is still a seasonal downtick. And we had a very, very good consumer quarter last year, and it was still down on Q4. But all that to say that generally, we do see a little bit of a step down in industrial. But at the end of the day, I think no matter how you cut it, we are probably looking at a pretty decent Q1 from a top-line perspective with the excellent work of all of our colleagues around the world. So I hope that answers the composite of your questions, Tim.

[Operator Instructions] Your next question will come from the line of Meta Marshall with Morgan Stanley.

Great, thanks. Giovanni, I just wanted to circle back to your commentary on the 3D sensing market. And just as you talk about growth in fiscal year 2022, is that designed like just what drives that? Is it design wins outside of kind of your lead customers ecosystem, is that product expansion within that ecosystem or share gains? Like I know, obviously, it is tough to parse out, but if there was a leading factor and what would lead to the growth, that would be helpful. Thanks.

Thanks, Meta, for the question. It is a combination. Yes, there is not a single reason. I think the share gains will continue. It will eventually stabilize over time in the next few quarters. And then there is new opportunities in-cabin sensing for automotive. And then, as I said, new design wins. I think there is an expectation that over time, that specific market will continue to grow fast. And there is another factor, which I mentioned in my remarks, which is really what we are selling, not only - so we are increasing the offering from just lasers and filters, which we did in the past to optics IC drivers and modules. So altogether, the addressable market is expanding for us and therefore, we expect the revenue to grow too.

And I will now turn the conference back over to management for any further remarks.

Thank you very much, Regina, and thank you to all of you who joined us today. We know this is a busy earnings season for you, and we look forward to talking with all of you as time goes on here. So thank you very much, and have a good day.

Ladies and gentlemen, that concludes today’s call. Thank you all for joining. You may now disconnect.