Good day, ladies and gentlemen, and welcome to Fabrinet's Financial Results Conference Call for the Third Quarter of Fiscal Year 2019. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions on how to participate will be given at that time. And as a reminder, today's call is being recorded. I would now like to turn your call for your host, Garo Toomajanian, Investor Relations.

Thank you, operator, and good afternoon everyone. Thank you for joining us on today's conference call to discuss Fabrinet's financial and operating results for the third quarter and fiscal year 2019, which ended March 29, 2019. With me on the call today are Seamus Grady, Chief Executive Officer; and TS Ng, Chief Financial Officer. This call is being webcast and a replay will be available on the Investors section of our website located at investor.fabrinet.com. Please refer to our website for important information, including our earnings press release and investor presentation, which include our GAAP to non-GAAP reconciliation. I would like to remind you that today's discussion will contain forward-looking statements about the future financial performance of the Company. Forward-looking statements are subject to risks and uncertainties that could cause actual results to differ materially from management's current expectations. These statements reflect our opinions only as of the date of this presentation, and we undertake no obligation to revise them in light of new information or future events, except as required by law. For a description of the risk factors that may affect our results, please refer to our recent SEC filings, in particular, the section captioned Risk Factors in our Form 10-Q filed on February 5, 2019. We will begin the call with remarks from Seamus and TS, followed by time for questions. I would now like to turn the call over to Fabrinet's CEO, Seamus Grady. Seamus?

Thank you, Garo, and good afternoon everyone. I am pleased that we exceeded our guidance for revenue and earnings per share in the third quarter. Revenue in the third quarter of $399 million with $7 million above the high end of our guidance range, and non-GAAP net income of $0.92 per share also exceeded the high end of guidance. These results also drove strong cash flow in the third quarter, with operating cash flow up nearly $36 million and free cash flow of $33 million. In addition to these strong headline results, we executed well in the quarter to produce non-GAAP gross margins of 12.1% representing a return to our target range of 12% to 12.5%. Component supply constraints that we experienced in the first half of the fiscal year diminished significantly in the third quarter, supporting the return to our industry leading gross margins. From an end market perspective, optical communications revenue of $298 million, a 75% of total revenue moderated 1% from second quarter. As anticipated, we saw continued sequential growth for telecom applications with revenue of $217 million, up 5% sequentially and representing 73% of optical communications revenue. Also as anticipated, datacom revenue decreased sequentially and was $81 million, a 27% of optical communications revenue. By technology, silicon photonics-based optical communications revenue was $82 million or 27% of optical communications revenue, a slight improvement from Q2. Revenue from QSFP28 and QSFP56 transceivers was 44 million, a decrease from the second quarter, as growth in QSFP56 programs was more than offset by declines in QSFP28 programs as our customers transition to next generation designs. By data rates, 100 gig programs continue to represent about half of optical communications revenue of 146 million. Products rated at speeds of 400 gig and above grew 15% from the second quarter to…

Toh-Seng and good afternoon everyone, I will provide you in more detail on our performance by end market and our financial results for Q3 as our guidance for Q4 of fiscal year 2019. Total revenue in the third quarter of fiscal year 2019 was $399 million. Note that our adoption of ASC 606 this fiscal year reduced our revenue by approximately 3 million in the third quarter as compared to what our revenue would have been under ASC 605 because we provide guidance under ASC 605. This means that we would have exceeded the top end of our revenue guidance of 384 million to 392 million by 10 million if we have reported under ASC 605. Non-GAAP net income was $0.92 per share and was above our guidance range even after $0.08 foreign exchange headwind in a quarter. Reductions of ASC 606 further reduced our net income by approximately $0.01 per share and compared to guidance provided under ASC 605. Looking at the first in more details, our quarter play out as anticipated with strong continue growth from telecom product, a sequential revenue decline from datacom product and non-optical communication revenue that was slightly up for the second quarter. Optical communication represent 75% of revenue with non-optical communication represent 25% of revenue. Now turning to the details of our P&L. A reconciliation of GAAP to non-GAAP measures is included in our earnings press release and investor presentation which is filed on our website. Non-GAAP gross margin in the third quarter was 12.1%, an increase of 50 basis points from the second quarter and within our target 12% to 12.5%, as component supply constraints have eased and as we continued to improve productivity. Non-GAAP operating expenses were $10.1 million in the third quarter as a result non-GAAP operating income was record…

Thank you, sir. [Operator Instructions] And our first question will come from the line of Alex Henderson with Needham. Your line is now open.

So I guess I'm a little puzzled by the guidance on the revenue sequentially being flat in the June quarter, it's very much against the historical trends that suggest this June quarter is sequentially always considerably up and seasonally a much stronger quarter given what goes on in the first quarter particularly in the telco but even in the datacom side. I was hoping you might give us some sense of what it is that is causing that to be sequentially flat. Is this capacity constraint? Is it timing of new capacity adds on some of the products so what's behind mechanics there?

Hey, Alex, thanks for the question. This is TS. I think the mixtures all the thing you mentioned, you know, first of all the datacom is simply unsettled. Although, we guided a little bit higher than 83 but again if you’re aware, we have probably less than 20% of the market share, a lot of customers do not participate in broad range of datacom. So, a lot of customers who are in datacom major player are not doing business with us. So, I really cannot tell align that with industry. So, datacom, we will there will be a little uptick. And telecom as you mentioned, a lot of capacity constraints and depend on how well we can execute those capacity together with the customer.

So, if I could just add, Alex. Historically, you're right. Historically, some years we have seen strong sequential growth in Q4. Over the years, this has been really more modest. I guess, our forecasts are based on the committed orders we have from or customers. So, it’s really a reflection of what we’re seeing from our customers. We are pleased I would say that after a challenging fiscal 2018, we have returned to year-over-year growth for every quarter in FY'19 and we're looking at about 15% growth for the year.

So just to the point though, I mean, it seems that this implies that there’s some constraints that are a lot of official harder for us to forecast, and I was hoping you might help with a little bit of that. To that extend of some of this capacity constraint issues. Are you anticipating that after quarter-over-quarter flatness which is unusual in June quarter that you might have more company coming on that would help you in the back half of calendar ’19? And therefore, it’s just the timing of when the growth kicks in. How should we be thinking about that beyond the current constraints?

Obviously, I would we just guide one quarter at a time, but you know it’s not a secret that we are installing capacity to support some of the capacity constraints we've had historically. And also with the new business coming our way, the new program we’ve announced from Infinera, we do see that having a positive impact in the back half of the year for sure.

So just to be clear, so the capacity constraints here are your capacity constraints or capacity constraints in particular products. What exactly are you referring to?

It’s with specific products where our customers make investments in I'd say, product specific unique equipment that can sometimes become the pacing item, usually a piece of test equipment. That’s -- it’s not a piece of let’s say, standard equipment, it's a more piece of unique equipment. So, typically, our customers will make that investment ideally in an ideal world ahead of the ramp curve. But in some cases, the demand is outpacing the supply and it'll just take a little bit of time to capacity to catch up with the demand.

So, this isn't a function of say move to Chonburi or anything of that sort?

No, no, it's nothing at all do with Chonburi. It's with do specific, I'd say, products specific it's needs to be more precise tax equipment and not at all a function of physical capacity.

Thank you. And our next question will come from the line of Troy Jensen with Piper Jaffray. Your line is now open.

Hey, guys, everyone congrats on the nice quarter and the new one.

Thanks Troy.

Hey guys, so guess, I’d like to get this more color on how big Infinera is? You said, it could grow to greater than 10% customer, but to my knowledge here current customer so. Can you just kind of give us some from a reference? Are they close to 10%? Is this modest win or are they well below that? And this is more material?

Well, there are less 10% customers. Obviously, we’re not going to put a number on that, Toy. I am afraid it's -- we only reported 10% customers once a year and only when they become a 10% customer. So we'll report it looking back sometime in the future. But there are less than 10% customers. They are very important customer for us. They have been a longstanding customer for us and just an excellent customer. It's been a great partnership between the two companies. The Berlin business or the Coriant business, I'd recall it really what we're transferring and we have a team on the ground right now in Berlin, managing that transfer. We're transferring all of the business, all of the products that are currently being manufactured in Coriant in Berlin, are being transferred to our operations in Thailand. We're not just to be clear -- we're not acquiring a facility in Germany or anything like that. We're just managing the transfer of those activities to Thailand. And the products, it's a range of I would say line cards for transponders, filters, optical amplifiers, interface cards, power management cards, and then as well as complete network systems for transports for both long-haul and metro applications. And then in addition to that, there's also the repair center support and reverse and forward logistics that goes with that. So, it's a full suite of offerings or services that are currently being done out of the Berlin operation with the transfers to Bangkok. And it’s an excellent piece with our core competencies and it re-strengthens our already, I would say, our already excellent relationship with Infinera. We do expect that they will become a greater than 10% customer with this transaction, but we're not putting it timing -- a timeline on that.

And how about just to dive further into the datacom business? It was down a lot sequentially, but now you're guiding it up. So, can you just talk about the visibility you have for the datacom business? And are you expecting to see growth in the QSFP28 or different datacom products?

So, we're -- I guess, it's a kind of a mix message and as you know, we probably don't break it out by individual customer. But what I will say is, there's a number of factors going on, so there is some price and I would say price erosion where our customers are giving fairly significant price reductions to win market share. We're working with our customers to make sure when that happens, that we're able to match that with cost reductions so that we preserve our margin. So, there is a combination of price reduction coupled with some product transition. Some of our customers, one or two of them are transitioning to new generation, new technology products. And usually when that happens, there's a significant improvement in performance. So, for example, the customer goes from 100 gig product to a 400 gig product, the average selling price of the product goes up, but the volume will drop in the short term. So, we're seeing a little bit of that's where there's a little bit of price erosion coupled with some product transitions. Overall, I mean, we're very optimistic about the datacom market. I mean data center rollouts around the world are just going at a phenomenal pace. So, I would say over the long-term, we still to be very positive about our markets and we think we have the right customers that we're supporting in that market space. But -- so, it's a couple of things, it's not any only one thing. It's a couple of things and we are looking at a slight uptick than in Q4 with those same set of customers.

Thank you. And our next question will come from the line of John Marchetti with Stifle. Your line is now open.

Thanks very much. I am just following up on some of the guidance on the telecom side. You mentioned the capacity constraints there. Just curious, Seamus, in your conversations with customers and I'm certainly not asking for any one name in particular, but just curious, if you're hearing about them seeing any sort of slowing growth whether it's because of inventory build ups or some of the renewed risk that seems to be coming back in on China? Just curious in your conversations with customers there, how that may be impacting some of the telecom demand or if they are sharing any of that color with you?

A little bit, I think what we are hearing -- so again, you'll appreciate, we're a couple of steps removed from the end customers, let say, you mentioned China. For example, the end customers in China, but what we do here from our customers is, they tell us that they are not really seeing big inventory builds, maybe like what was seen a couple of years ago. And if there are inventory builds going on, and this I think was talked about on a couple of our customers' earnings calls last few days, the last week or so. That if there is inventory builds going on, it's more in support of tenders that are going on or it's a fairly aggressive trial may be running at the moment. And then subject to the trial going well, there would be an installation later in the year. Again, that's a little second time or may be third time of the information, so take it with a pinch of salt, I would say. But, we'll -- I'll put it this way, we are not hearing from our customers that the big inventory build ups are going on. We are not hearing that. And the demand -- we, touchwood, the demand, those remain quite strong in the telecom space.

Got it. And then, if I can just ask another question on the datacom side, you've mentioned that transition from our 28 to 56. I'm curious in your mind sort of where the industry is in that transition? And you mentioned obviously the uptick a little bit in datacom expected in the current quarter. Is that starting to be resolved? Or am I reading too much into those two sort of comments together?

Yes, may be reading a little bit too much. Bear in mind, especially with datacom, we are not in any in a kind of proxy for the industry. We don't have all the players. We don't make all the products for all the companies that we do support. Having said that, on the transition to QSFP56, we're probably -- again, it depends on which customer we are talking about, who probably in the middle of that transition I would say at the moment, in the early stage. And the uptick we're seeing in the current quarter, you know, it's with the couple of customers. In other words, I suppose the softness we've seen we don't see it as a long-term trend. We see it more as a transition to you newer products with higher ASPs with lower volume to begin with couple of with some price erosions from some of our customers.

Got it. And then, yes, go ahead, Toh, sorry.

If you look at FQ3 are down 17 million 18 million on datacom. So, the only way to go up, so we just guided a little bit higher, maybe back to normal, normal guideline, but this quarter was down significantly.

Understood, understood, and then one last question if I could, TS. You mentioned you know with Infinera coming on, as it starts to become more than a 10% customer that pushes you down towards the lower end of the year, the 12% to 12.5% current gross margin guide. Does that have to do with them sort of now reaching certain volume breakpoints and some things like that as a business that you're bringing over, say, structurally different than may be what you see with some of the other customers? Just trying to get a little color there on how we should think about one set business hit, how gross margin may be trends after that?

John, you probably aware that. In any product transfer, there is many moving parts and everything has to be lined up in the moon, the sun, -- so it's a fully ramp. We'll get to the more than 10% customer, but again in a process anything can just go sideways, right. So, that's how to be caution obviously, the margin also related some of the product. Most of the product we transfer -- my understanding is a mix production, it is on new product. If you listen to earning call in the past, we always said that it is a brand new product. We have better opportunities for gross margin. So, these are the accessing product. We are transferring the whole thing into Thailand. So depending how smooth it goes and that's how we cannot set the timing when it'd become 10% customer. But yes, obviously, we will try to strive for the higher gross margin, but again there are a lot of moving parts as I said.

Thank you. [Operator Instructions] And our next question will come from the line of Tim Savageaux with Northland Capital Markets. Your line is now open.

A question on datacom in the quarter, did you see any impacts from the exit of your largest customer or least the sale of that unit to a third party in China? And if not, do you -- what sort of impact do you expect to see from that transaction as well as kind of the broader exit of the datacom module business of that customer?

So, Tim, just make sure that we get a question like referring to our top customer who want to diversify some of their datacom product, correct?

Yes.

Yes. It's in progress. Again so far this or next quarter, we do not see a major shifts. This will take sometimes to transition to maybe another customer. And I understand that you're trying to sell the business to another customer. And hopefully, we continue to give those products. But so far in Q4 guidance, we do not factor significant drop in the particular customer is very helpful.

I think the question is why Tim was related to Q3. So, no…

Q3 no.

So, particular impact Q3, no.

Q4 maybe a slight, but it's not significant.

Okay. Well, then the follow-up on the Q3 datacom results. Can you characterize trends in new datacom business kind of relative to silicon photonics or more traditional datacom modules? Is there any kind of divergence there or anything notable? I'm going to assume, you did see an uptick in silicon photonics, the small one, that was driven by telecom primarily?

That's fair observation, Tim. Yes, most of the silicon photonics uptick that came from a telecom is correct. Now in terms of datacom against, we only have -- our customer collectively probably participate about 20% of the datacom business. If you look at the major player, a lot of them, we don’t have businesses them. So, we can only look at the customer we have, their 13-wek loading forecast and try to do guidance based on that.

Okay, one last one from me and I told you, you probably don't disclose the sort of things. But in the past, Infinera had some good times and bad times. Can you say whether they were ever a 10% customer for any particular quarter over the, I don’t know last 5 years or so?

Again, if I say, we only report 10% customer once a year. In the last couple of year, they had never made it to the 10% customer upon a total year standpoint. Quarter, honestly, I don't have the data in front me. So, it's tough for me to say.

Thank you. And our next question will come from the line of Alex Henderson with Needham. Your line is now open.

Yes, I just hope that we could try another way of slicing and dicing the Infinera pumpkin. So, is there, if I exclude existing Infinera business and just go to take business that’s being transported. Is that roughly a 10% contribution excluding any business that you already had with them? Is that magnitude of what’s being transferred over?

Well, what we said is the total will be, we think will make an Infenera, the combination of Infenera plus Coriant, a 10% customer. We’re not really breaking it out Alex, for Coriant, so…

And so in terms of timeline, if you think about the process flow here, I assume it’s a gradual fade in as opposed to a hard flashover. Can you talk a bit about the mechanics of it to help us think about how we should settle it in? Is it -- is your 10% benefit upfront and then 20% in the next question and 20% the quarter after that. Is that kind of slope? Or is it 5% here or 8% there and then 30% in the quarter? Is there any window where we should be more aggressive or less aggressive to help us on the out year slope with that?

Sure. I think first all if I talk a little bit about the mechanics of the transfer, you’re right. It is a gradual transfer. The question of course is how gradual over how many quarters. So, these are -- I did appreciate, these are complex products with existing customers who have to qualify new production size. We’ve actually started that process. We have over 80 people currently on site in Berlin and that will grow to over 100 people over the coming weeks. We’re transferring as we speak, the revenue impact this quarter will be -- I’d say minimal and really we start to see revenue impact next quarter and beyond. I think it’s probably two to three quarter timeline to get everything transferred and fully bottom down and qualified and ramped up in Bangkok. So, I would say two to three quarter time horizon.

One more question, if I could. So, if when we’re talking last year, the bond had been setting up for pretty good benefit. And I think you've talked about potentially adding as much as a point to gross margins, if it had been at level for full year trailing. We've seen a lot of movement in it and obviously isn't come back all the way to where it was. So I assume that you’re still getting some benefit, is it reasonable to think that there is a little bit of a benefit from that to help offset some of the cost associated with the lower margins associated with this business loop?

Obviously, I like to think that way, but if you follow Thai political equation here, they just have the elections about maybe one month. They have not announced result yet. So and they go through the counting of the king, the new king which is done Monday. And they're supposed to announce their election result this week. So depend on who form the customer, the baht may go either way, depend on. But right now based on the prediction is that total military camp is probably going to take control, become the Prime Minister run the government. Is that chase, the baht will continue to be stable and strengthened, which is a little bit -- I'm a little bit worried that because of country is doing well under the military region. So baht came to stable and become stronger. I watch it very closely. Again, we stick to our hedging policy, 100%, 50% and 25% for the next three quarters. Again, if there’s an impact, there’ll be a delayed factor. We’ll not impact right way because of the hedging program. And also based on the advice [indiscernible] I'm trying to look at documents, all this as a cash flow hedge. So then, we will take it to the balance sheet, okay. There is the direction given to me. So, I'm trying to maybe beginning FY 2020. We try to get a good documentation and get all these things into the other comprehensive income, which is in the balance sheet.

So would you then stop reporting negative currencies or positive currency translations of the balance sheet because they're functionally not really ongoing operational expenses?

Yes, well, it is not in the P&L then I won’t highlight. I like a significant gain and loss, right. If you look at this year, year-to-date, I can't breakeven. Q1, I have a gain 3 million, Q2 I have slight loss, and Q3 I have a loss. So year-to-date, I'm okay. But then again, from a quarter-to-quarter, it fluctuates. So that will be on a case to bring a holding to the balance sheet rather than impact every quarter in earnings, so…

Thank you. I am showing no further questions in the queue. So, now, it is my pleasure to hand the conference back over to Mr. Seamus Grady, Chief Executive Officer, for any closing comments or remarks.

Thank you, operator, and thank you for joining our call today everyone. We're excited to deliver strong results and a positive outlook as we continue to position the Company for sustainable growth and diversification over the longer term. We look forward to speaking with you again. Thank you and goodbye.

Ladies and gentlemen, thank you for your participation on today's conference. This does conclude our program and we may all disconnect. Everybody have a wonderful day.