Oclaro's (OCLR) CEO Greg Dougherty on Q2 2016 Results - Earnings Call Transcript

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Oclaro, Inc. (NASDAQ:OCLR) Q2 2016 Earnings Conference Call February 2, 2016 5:00 PM ET

Executives

Jim Fanucchi - Darrow Associates, IR

Greg Dougherty - CEO

Pete Mangan - CFO

Analysts

Alex Henderson - Needham & Company

Patrick Newton - Stifel Nicolaus

Tim Savageaux - Northland Securities

Dave Kang - B. Riley & Co

Richard Shannon - Craig-Hallum

Operator

Welcome to the Oclaro Second Quarter Fiscal 2016 Financial Results Conference Call. As a reminder, this conference call is being recorded for replay purposes through February 16, 2016. At this time, I would like to turn the call over to Jim Fanucchi of Darrow Associates. Please go ahead, Sir.

Jim Fanucchi

Thank you, operator and thanks to all of you for joining us. Our speakers today are Greg Dougherty, Chief Executive Officer and CFO, Pete Mangan. Statements about management's future expectations, plans or prospects of Oclaro and its business, including statements about future financial targets and financial guidance; Oclaro's plans for future operations, together with the assumptions underlying those statements, constitute forward-looking statements for the purposes of the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995.

These forward-looking statements include statements concerning financial guidance for the fiscal quarter ending March the 26th, 2016 regarding revenues, non-GAAP gross margin and non-GAAP operating income; the growth of Oclaro's 100G product revenues; and Oclaro's future financial performance and operating prospects. There are a number of important factors that could cause actual results or events to differ materially from those indicated by such forward-looking statements, including the risk factors described in Oclaro's most recent Annual Report on Form 10-K, most recent Quarterly Report on Form 10-Q, recent Form 8-K's and other documents we periodically file with the SEC.

The forward-looking statements discussed today represent Oclaro's current views as of the date of this conference call and subsequent events and developments may cause Oclaro's views to change. Accordingly, actual results may differ materially from those indicated by these forward-looking statements. Oclaro does not intend and is not required to update any forward-looking statements as a result of future developments.

In addition, today we will be discussing non-GAAP financial measures. These non-GAAP financial measures are not prepared in accordance with GAAP and should not be considered as a substitute for or superior to measures of financial performance prepared in accordance with GAAP.

A table that outlines the reconciliation between the non-GAAP financial measures to GAAP financial measures, together with a discussion of their usefulness and limitations, is included in today's earnings press service which we have filed with the SEC. And I refer investors to this release. In addition, we have posted a supplemental slide deck in the Investor section of our website.

I would now like to turn the call over to Greg.

Greg Dougherty

Thanks, Jim. Thank you, everyone, for joining today's call as we report the results for our second fiscal quarter for 2016. I am pleased to report another strong quarterly results generated by the Oclaro team. In our second quarter, we grew our revenue by 8%, led by a 21% increase in our 100G product sales. Fueled by the strong revenue, we delivered non-GAAP gross margin of 29% and adjusted EBITDA of $9 million, both of which exceeded our guidance. I am also very happy to say that we generated positive GAAP operating income. These results once again show the tremendous progress that the talented Oclaro team has made over the past several quarters.

Revenue for the quarter came in at the high end of our guidance at $94 million. This was our second quarter in a row with revenue growth of 7% or higher. This improvement was driven by the second straight quarter of 20% sequential growth from our 100G product portfolio, representing $50 million for the quarter or 53% of our total sales. When compared with one year ago, we grew our 100G revenue by $16 million in the quarter.

Our focus on 100G and higher speeds has positioned us well for further revenue growth. As you will hear later, we expect that our 100G revenue will continue to grow at a healthy rate in Q3. We saw both our client and line side businesses grow in the quarter. Line side revenue was $43 million, up almost 8% from last quarter. Client-side revenue came in at $50 million, up about 7% when compared to Q1. Our entire 100G product portfolio contributed to this growth.

Our wireless sales decreased as we continued to deemphasize the lower speed wireless business. In fact, given the strength of our 100G products, we further accelerated the discontinuation of some of our lower-margin 10 G product lines.

For Q2, our 40G business remained flat at $11 million, while our 10G business decreased by $3 million to $33 million or down about 7% from Q1. A combination of revenue growth, strong 100G mix and continued improvements in our execution, resulted in us delivering another strong financial quarter. In fact, this was our seventh consecutive quarter of improved financial performance. We're proud to report that the net result is that we have achieved positive earnings-per-share in this quarter.

With that, I will turn the call over to Pete, who will take you through the numbers in more detail and then I'll return to discuss the markets. Pete?

Pete Mangan

Thanks, Greg. Today I will provide a few comments on our second quarter of fiscal 2016 which delivered improvements in revenue, gross margin and also a positive net income and then closed with the guidance for the third quarter.

Here are a few highlights for the second quarter. Q2 net revenue of $94.1 million grew 8% compared with $87.5 million in the prior quarter. In the quarter, 100 gig grew 21% or $8.7 million which more than offset a decline in 10 gig and lower speeds which were down 7% or $2.6 million. As a percentage of total revenue, 100 gig represents 53%, 10 gig and lower 35% and 40 gig, 12%.

Our Datacom business was consistent with Q1, with 54% of sales and telecom, 46%. Within our customer mix, we had three customers with greater than 10% of sales and they contributed 21%, 16% and 10%, respectively. Regional sales came in with China at 37%; Americas, 35%; Europe, 16%; Southeast Asia, 10%; and Japan, 1%. Our Q2 non-GAAP gross margin was 28.8% compared to 26.4% in the prior quarter.

The sequential improvement was primarily driven by 100 gig sales growth and manufacturing efficiencies offset by a weaker mix of 10 gig in the quarter. Compared to the prior quarter, gross margins -- or compared to the prior year, gross margins increased 12.3 points, as improvements in 100 gig sales mix, factory absorption, manufacturing overhead leverage and inventory management offset a reduction in our 40 gig telecom business.

Our non-GAAP operating expenses declined by $1 million in the quarter to $21.8 million or 23% of sales. When compared with the same period in fiscal 2015, operating expenses were down 10% or $2.4 million, resulting mainly from the restructuring programs we implemented last year. Going forward, we expect operating expenses to remain around at $23 million for the remainder of fiscal year 2016.

With improved revenue and gross margin, combined with lower operating expenses, we generated non-GAAP operating income of $5.3 million. This represents an improvement of $4.9 million from the prior quarter and $15.1 million from the second quarter last year. Also, adjusted EBITDA more than doubled from last quarter to $9 million, came in above guidance and compared to $4.2 million in the prior quarter in a negative $5.5 million a year ago. You'll note now that we generate income, we have raised the bar and will provide guidance going forward on a non-GAAP operating income basis.

Net income on a GAAP base was $157,000 or $0.0 per diluted share. This marks another significant milestone and compares with a prior quarter GAAP net loss of $3.5 million or negative $0.03 per basic share and with the prior-year period of $12.3 million net loss or negative $0.11 per basic share. Please note in the future when our quarterly GAAP net income exceeds $3.9 million, our diluted share count will include 33.3 million shares associated with our convertible notes.

Finally, on a non-GAAP basis, we generated net income of $3.1 million or $0.03 per diluted share. This compares with a non-GAAP net loss of $1.8 million or negative $0.02 per basic share in the first quarter and a non-GAAP net loss of $9.9 million or negative $0.09 per basic share in the second quarter of fiscal 2015.

Now, turning to the balance sheet for Q2 2016. Our cash, including restricted cash, was $115.7 million compared with $107.7 million at the end of Q1. The cash increase of $8 million was driven by improvements in working capital, both from receivables and payables, along with a positive free cash flow, as adjusted EBITDA of $9 million exceeded CapEx of $8.3 million in the quarter.

As mentioned before, for fiscal year 2016, we still anticipate investing $30 million to $40 million of CapEx to support additional capacity for both our 100 gig clients and lineside growth. Other significant balance sheet items included Accounts Receivable of $77.4 million or 75 days which compared with $78.5 million or 82 days last quarter. The improved DSOs benefited from linear shipments in the quarter.

Net inventory increased by $4 million to $71.3 million and remained at 97 days and accounts payable and accrued expenses were $100.5 million, up from $87.2 million last quarter. The extended payables benefited substantially from a timing difference which came from our fiscal quarter ending sooner on December 26th than calendar year-end. This completes the review of our second quarter fiscal year 2016.

Now, turning to our guidance for the third quarter of fiscal 2016 ending on March 26, 2016. We currently expect revenues in the range of $97 million to $103 million. We anticipate Q3 2016 to include similar sequential growth in 100 gig revenues, 10 gig to decline by $3 million to $4 million and 40 gig to come down by approximately $1 million. Please note, with the majority of our revenue now 100 gig and 40 gig 10% or less, this will be the last quarter that we break out our 40 gig and 10 gig revenues separately.

That said, to help guide you on the combined 40 gig and [indiscernible] gig revenues for 2016, we expect the June quarter to be fairly flat with March at $40 million and both the September and December quarters to decline by about 10% per quarter, mainly driven by the 40 gig end-of-life we have previously communicated. We expect non-GAAP gross margins in the range of 26% to 28% and non-GAAP operating income to be in the range of $2 million to $6 million.

This concludes our financial update. I will now turn the call back to Greg for his closing remarks.

Greg Dougherty

Thanks, Pete. As you all know, the March quarter is typically a down quarter due to the annual price negotiations which took place toward the end of last year. The fact that we're offering a strong guide for our Q3 is further validation of our successful 100G product portfolio.

Given the fact that we guided the combined 10G and 40G businesses to be down by 10% to about $40 million for the March quarter, you can quickly extrapolate to another quarter of approximately 20% revenue growth of our 100G product lines. We expect to see strong demand for our 100G products through this calendar year, driven by several projects in China, continued success for 100G client-side products, increased market share for our micro-ITLA lasers and modulators and the production ramp of our CFP2 ACO products.

Our growth in Q3 will not be gated by demand. We're running very tight on capacity for most of our 100G products, as well as our tunable 10G offerings. As a result, we're adding significant capacity in all these areas. Our ability to grow will be governed by how quickly our capacity comes online, as well as the capability of some of our piece-part vendors to respond to our increased demand.

We see the market being strong for both the client and the line side. As we previously discussed, we're seeing very strong demand from China. A lot of the commentary has been about the China Mobile award which involved over 21,000 line side 100G parts. Most of the delivery for this project is scheduled for Q1 and Q2 of this calendar year.

On top of these developments, we have seen additional demand, driven by contract awards from China Telecom and China Unicom which have deliveries slated for Q2, Q3 and later in calendar 2016. While much is said about the number of 100G long-haul ports, please remember that a meaningful ratio of 100G client-side interfaces is also required.

The 100G client interface being deployed in China in 2016 is a CFP LR4 product. And Oclaro was clearly the market leader for this product for both single and dual rate. In addition to the long-haul contracts in China, there are also numerous other provincial and small city or metro projects happening as well. These projects are also generating strong demand for our micro-ITLA lasers, lithium niobate modulators, various 10 gigabit tunable components and modules, as well as our 100G client-side transceivers.

This demand is expected to remain robust for at least the next few quarters. We're also seeing very strong demand from North American and European router and optical companies for the 100G LR4 products. Many customers appear to be moving away from 10G muxponder cards and going towards native 100G client interfaces. As a result of all these factors, we're again increasing our capacity for our CFP family of products which is the CFP, CFP2 and CFP4. This is our third capacity increase in the last 18 months.

We also continue to believe that the introduction of 100 gigabits single mode inside the data center will begin to ramp in the middle of 2016. Our focus has been on single mode duplex fiber architectures. As a result of the outstanding performance of our high-speed lasers, we have received several early design wins for our QSFP28 products, both CWDM and LR4. We're very excited about the prospects for this product family as we ramp production through this summer.

Our CFP2 ACO continues to lead the market and we continue to see very strong demand. The ACO has completed our qualification at our UK pilot operation and we have now achieved interim qualification for our China optical subassembly volume manufacturing line. We have also received customer signoff on the production lines at our factory in Shenzhen and for Ventures factory in Penang. We remain on track to see first shipments from Asia to customers in late March.

We will ramp both manufacturing lines for the ACO over this calendar year and we expect to go from shipping hundreds per quarter to thousands per quarter by the end of this year. We continue to believe that the majority of the early demand will be focused on data center interconnect, but expect to begin seeing the North American Metro program start ramping later this summer.

As the technology leader for 100G and higher speeds, we're continuing to innovate and develop the next generation of products. These products leveraged our unique optoelectronic chip and materials expertise. In March, we will be in Anaheim for the LFC tradeshow. We're planning to show several higher-speed products for both line and client-side applications at the show. We intend to continue to be the market leader for single mode 100 gigabits and higher speeds. Our second quarter results are evidence that we have indeed positioned Oclaro for strong growth and profit. We will remain focused on driving continuous improvement in all aspects of our company to increase shareholder value.

During our last two conference calls, I said that our plan was to build not just a breakeven company, but a sustainably profitable one. I also said that we had put the foundation in place to accomplish this objective. Our Q2 results demonstrate our continued success toward delivering on this commitment.

I would like to again recognize and thank the entire Oclaro team for their hard work and dedication. We're all very proud of what we have accomplished together and look forward to further success.

Now that concludes our prepared remarks and I'll turn the call back to the operator for questions. Operator?

Question-and-Answer Session

Operator

[Operator Instructions]. We will go first to Alex Henderson with Needham.

Alex Henderson

I guess the first question I want to ask is relative to the ACO production line coming onstream in China. And to what extent the thousand-hour running of the line in anticipation of qualification is going to cause a significant cost element in the quarter? And is that baked into the gross margin guide? Or are the products coming off of that then able to be analyzed and tested to determine whether they are actually shippable? Or how should we be thinking about that?

Greg Dougherty

Sure. So there are a couple of pieces to the question, Alex. During the quarter, we not only build optical subassemblies and complete ACO modules in the UK, but because of the success in the interim qual within our Shenzhen facility, we actually did begin building units to go into the modules, once the line is completely qualified. We built quite a bit of them and have them in inventory and they will feed into modules both coming out of either Venture or out of the UK facility, sometime later in March.

We're building ahead for a couple of reasons. One is, is that at some point, right now the bottleneck for the ACO is, as we talked about before, in calibration and tests. But we do know that once those algorithms are all finalized with our customers, then the bottleneck will quickly shift to the optical subassemblies and we'll -- we want to be well-prepared with taking stock there.

To answer your question on the cost, because this is a fairly steep ramp that we've been anticipating, we have been and are continuing to carry additional cost in terms of people as we prepare for the ramp.

Pete Mangan

And Alex, I would just add that the pressure on the gross margin guidance, 26% to 28%, the number one item would be the price adjustments in the March quarter, that being the bigger piece on gross margins.

Alex Henderson

So there isn't any waste on this line as a result of trying to ramp it up to -- with parts to come off of it that can't be sold, is what you're saying, so I shouldn't be worried about the cost on the inventory side, just the staffing side of it?

Pete Mangan

Correct. The preloading of the labor being trained, but we're getting inventory to value and again the gross margins being more of the annual price adjustments in March.

Greg Dougherty

Yes, there is a two to three month training period for the OLSA builds, Alex which is also shorter than what it was in the UK because there's a higher level of skilled operators for us in Shenzhen.

Alex Henderson

The ramp on the production now to China is on schedule. There is no variance in the timeline for that? It sounds like you might even be a hair ahead of target on that. Am I reading that correctly?

Greg Dougherty

We're plus or minus on the China build. It had been delayed by several months before as we were finalizing some of the modules test conditions and getting equipment over there. The line is up. We have it capitalized and we're building product there now. And it's consistent with when we think we'll be able to release product to Venture for the module builds.

Alex Henderson

So just to be clear, you suggested that you would get through the thousand-hours by the end of February kind of timeframe and that sounds like you are on track to that.

Greg Dougherty

Yes. Yes. We're on track for that.

Alex Henderson

Okay. And then just one other question, the China Telecom and China Unicom comment about volume shipping into 2Q and 3Q of 2016, that looked like it was the orders that were set for the 2015 timeframe, not the additional demand that was going to likely be needed to fulfill whatever programs were rolled out in China in 2016, associated with the government's new program. Am I reading that correctly? Or is that, in fact, part of the 2016 program and that's what's giving you clarity on the 2016 revenue robustness in China?

Greg Dougherty

So, the big thing at the end of 2015 was the China Mobile contract which was the 21,000-plus lines on the 100 gig long-haul ports. Later in 2015, early 2016, Unicom and Telecom -- and the port count on those were between 8000 and 10,000 for each. So, together it's another China Mobile size award. And then on top of that, there are numerous metro provincial which have not been publicized but we're seeing strong demand in forecast. And in some cases, actually in numerous cases, we're seeing actually hard purchase orders for later in calendar year 2016.

Operator

We will go next to Patrick Newton with Stifel.

Patrick Newton

I wanted to dive a little bit into metro. You brought up how, on the 100G side with ACO, that DCI should drive demand to start with, but then you seem pretty confident that the metro will ramp in mid-2016. Can you elaborate on what's giving you the confidence in this mid-summer ramp? And then do you have any concerns that demand could push to the right, just given some of the macro headlines that we're seeing currently?

Greg Dougherty

So the signals that we see on the metro in North America are coming from customers and how we think programs are evolving. We're also seeing some pull, as we talked about before, for regional metro in Europe that's already happening. And we're now starting to see some interest in China for ACO, although that will feed, I think, late in 2016. So the net-net is, if it moves to the right, I don't think it's going to have much of an impact on us because of the built-up demand that we already have for the ACO. And so we have it conservatively ramping from the summer towards the end of the year.

Patrick Newton

Okay, without the impact or the Oclaro-specific, it sounds like you think that, just based on all the signals that no push or concern at this point --?

Greg Dougherty

I mean, I can't speak for other components, but for the ACO, no, we think that that's how it's lining up.

Patrick Newton

Okay. And then just sticking to the ACO and trying to understand a little bit about the capacity ramp that you have, is there anything you can give us -- you said moving from hundreds of units to thousands of units. Could you put a little bit of a finer point on that to help us understand the capacity in place in China and Malaysia? And then do you have any visibility into being able to produce north of 10,000 units a quarter?

Pete Mangan

So we will not be shipping much in the March quarter. So, in the first calendar quarter, our Q3, we will start shipping out of Asia very late in the quarter. So, you can assume that that's very small. And that goes quickly into the thousands.

Again, there's four different flavors of the ACO for us. And a lot will depend on the mix of how things come out. But we're basing the capacity and staffing on customer demands and also our ability to improve our capital efficiency because we don't want to just blindly add CapEx.

Patrick Newton

Okay. And just given the steep ramp you've alluded to and, clearly, the significant demand profile of the ACO, should we anticipate that the pricing curve is not as aggressive as kind of typical pricing erosion? Or should we conversely think that it's actually quite aggressive and that's what is going to drive the pretty large demand curve?

Greg Dougherty

So I think what you'll see is on the ACO pricing either is going into effect in this quarter or next quarter, as you go from -- I'll call it beta's to field units and -- but then stays flat for a fairly long time.

Patrick Newton

And then just last one for me, Pete. Just digging in the gross margin side, you did say that the biggest impact driving the sequential decline is pricing. But serious you are talking about 10G mix declining, 40G mix declining, 100G rising another 20%, sequentially, I would think that mix is working aggressively in your favor. Revenue is going up sequentially which is working aggressively in your favor.

And if I think about the last three maybe four quarters, you've typically been towards the high-end of your guidance rage or exceeded your guidance range. So, it seems to me that you are providing somewhat of a conservative outlook in line with prior quarters. Is that a fair assumption?

Greg Dougherty

Yes, I think the comment that you're missing would be, yes, all those things are driving in that direction, but the price adjustments do go across our 100 gig business as well as our 10 gig business. So, it's in one regard, the mix is shifting towards 100 gig, but 100 gig also had some price adjustments, annual price adjustments in the March quarter.

Operator

[Operator Instructions]. We will go next to Tim Savageaux with Northland Capital Markets.

Tim Savageaux

I have a couple of questions. First with regard to activity and expectations in China. It looked like at least revenue in the December quarter is up a little bit, but I imagine most of what you're discussing goes into shipment kind of in the first -- next quarter, first half of calendar 2016 and we should anticipate seeing a pretty substantial uptick in the China category heading forward. That's one question.

And secondly, I'll go back to the ACO as well and noting the number of recent product launches in the space, especially in the data center interconnect space, guys like Cisco, Arista, several others, I mean, it seems like hundreds of units there would barely be enough to populate tradeshow booths at OFC or what have you.

So I wonder if you can give us a sense of what kind of demand you are seeing beyond sort of beta and field trial units. And obviously you are talking about a ramp very quickly into the thousands. But is all this new product activity, obviously you've seen it coming down the pike for a while. Are your expectations any larger or smaller in terms of overall ACO demand? And I don't know if you can relate that kind of modest unit volumes near term in terms to the degree of new product activity and kind of what you're seeing in total market demand from a TAM standpoint.

Greg Dougherty

Sure. So the China question first. I think we've said a couple of times that we've been growing steadily in China through the -- over the last year through the calendar year 2015. China was up about 8% for us last quarter. So we did ship a lot in last quarter that's feeding into current programs, but the demand for this calendar year looks to be very strong, some of it in forecast and a lot of it in hard purchase orders.

So, we've been seeing it and we'll continue to see that grow in our estimation. It shouldn't be lost either that our business in the Americas was up considerably in the 100G. And particularly client-side business and data center businesses have been quite strong for us as the move begins to shift to 100G more and more.

On the ACO question, Tim, I think that there is very real demand that exists today that is unsatisfied and that some of it has to do with still with optimizing feature sets and optimizing performance. And that goes hand-in-hand between both our part of the ACO and the DSPs that some of our customers have. And some of it is due to our inability to ramp as quickly as our customers would like us to.

So, we see the demand continuing to be strong. We see the market size to be in the couple-hundred-million type of range for 2016 as we've talked before. And I think we said that we think that what will govern the size of the market will be the number of units shipped, not so much the demand.

Tim Savageaux

If I could just follow up real quickly on your QSFP28 comments where you noted some design wins. I mean, should we in some sense think about kind of a cycle there, kind of coming behind ACO, if you will, in the data center a bit? And think about it in sort of a -- you might not be ready to do this now, but think about providing any sort of similar -- understanding price points would be a lot different than the ACO, but any type of similar metrics with regard to expectations for ramping there, I would assume, second half of 2016 in some material fashion. But given that we've got kind of a decent stake in the ground from an ACO standpoint, would it be fair to think of QSFP28 is kind of lagging that but having a similar type ramp?

Greg Dougherty

So the QSFP28 -- we've been saying we think that that market will start to ramp in the middle of the year. Still believe that. We will be manufacturing that at Fabrinet, when we go to volume. So, that ramp will not be in competition with the ACO ramp, so we'll be able to ramp the two in parallel. And I think a lot of it has to do with systems coming out that utilize QSFP28 in volume. So we do see that as a nice growth opportunity for us.

Tim Savageaux

If I could just squeeze one more in there, kind of on the puts and takes around gross margin, maybe for Pete, if you can sort of comment on the merchant aspect of the 10 gig business, given that you did see the overall business come down. Historically, that's been kind of a tailwind on margins as well as you kind of got rid of lower margin products and replace with higher-margin merchant shipments. I wonder if you can kind of give us an update on what's happening with that dynamic.

Pete Mangan

Yes. On the 10 gig, Greg indicated that we did prune a few more products and so the direction of 10 gig is going down as the steps I gave -- it does have pricing pressure in that space and so it's certainly a lower margin for us. The only other element on the other side, Tim, would be, as we mentioned before, we continue to sell 10 gig chips. And that tends to be high-margin.

But from a topline, not much adding to the topline. So I think the general direction for the $40 million and $10 million this quarter holds in for the first half of the year, that comes down about 10% in September and another 10% in December and again, the 10 gig business in general is much weaker than the 100 gig.

Operator

We will go next to Dave Kang with B. Riley.

Dave Kang

First of all, a question on CapEx. I missed the number. What was the CapEx for fiscal second quarter?

Pete Mangan

$8.3 million. And then, Dave, we reiterated our range for the year to be in the $30 million to $40 million range that we announced six months ago; through the first half, we're about $12 million, but we're definitely ramping on both 100 gig client and ACO products.

Dave Kang

Right. And then will that number taper off in -- when you reach fiscal 2017? Or will you continue to spend at that rate?

Pete Mangan

We'll give you an update -- another -- we'll do a budget in a few quarters and give you an update, but I don't think it's going to fall back to the numbers that we saw in fiscal 2015. But in general we expect to have a product line that continues to grow and need CapEx.

Dave Kang

Sure. And then you talked about price adjustment but I'm not sure if you -- maybe I missed it but then what was the price adjustment, the annual adjustment?

Pete Mangan

It was, as every year, in the range of 10% to 15%.

Dave Kang

But was it closer to 10% maybe because of maybe capacity shortages and maybe some allocations and all that? Or still 15%?

Greg Dougherty

It was in the 10% to 15% range.

Pete Mangan

And as I mentioned, Dave, it covered the 100 gig client, the discretes and 10 gig products. So it will have implications on those embedded in our guidance for the gross margins.

Dave Kang

Sure. And then I noticed that, as you mentioned that the U.S. revenue was up quite nicely sequentially. What drove that? Was it fairly concentrated among maybe a few customers? Or maybe if you can talk about maybe products? Where they kind of concentrated among a couple of products?

Greg Dougherty

Well, it was our 100 gig products. A lot of it had to do with client-side optics. Some of it had to do with a coherent transceivers. So it was across our 100 gig product lines. And as you know, this market is fairly concentrated in terms of customers. And so, you can imagine who the bigger players are in North America for both data centers and routers.

Dave Kang

And I don't know if you guys talk about like bookings or backlog. It sounds like you imply that demand is building. Maybe can you talk about bookings and backlog?

Pete Mangan

Yes. We haven't chosen to discuss bookings and backlog, so, not going to bring it out today.

Dave Kang

Okay. What about lead-times? Have they been stretching in recent weeks or--?

Pete Mangan

Well, not recent weeks. It's been months. We have been talking for quite some time now and still are running very tight when it comes to capacity across many of our 100G lines and also, some of our tunable lines. So, capacity is running very tight; hence lead-times are longer.

Dave Kang

And then any revenue left on the table because of maybe capacity or maybe component shortages?

Pete Mangan

When you are running tight, there's always more you could ship. And so, as I said in the scripts, our demand won't be -- or our revenue will not be gated by demand. It will be gated by supply.

Dave Kang

Okay, and then lastly, on the ACO and maybe on DCO. So, ACO and like OEM having their own DSP, could there be some kind of compatibility issues where like a DCO you wouldn't have that compatibility issue?

Pete Mangan

So a DCO has a specific DSP in it. Right? So -- we do know that our part -- our ACO is working with that DSP at several customers. And so I would think that there would not be a compatibility issue. I think the question is what is the customer looking for in terms of thermal management putting the DSP inside a package. DSPs run pretty hot.

The higher speed you run, if you go to 16 quam for example and if you want to get a full feature set out, they run very hot. And if the DSP runs hot in the same package, it does make the optics much more difficult to make. So a lot of customers believe that the right approach is to have the DSP outside of the package, even if they are buying a merchant DSP. And then, of course, most of the largest customers have their own custom DSP.

Dave Kang

So it sounds like -- is that the reason you have maybe a few flavors? Because it sounds like there may be some customization for certain customers?

Pete Mangan

Yes, I think you find that every part that goes to every customer is slightly different. Also, there is an OIF standard that has three different types of ACO and we've brought all three of those to market.

Dave Kang

Does it kind of impact gross margin then if it involves, rather than standard parts, some customer parts?

Greg Dougherty

I don't think there's ever been a standard part, despite all the MSAs in this industry. The level of custom tests or custom specifications tends to always be there.

Operator

We will go next to Richard Shannon with Craig-Hallum.

Richard Shannon

I kind of just have a couple questions. Just regard to March, you talked about the 10 and 40 gig in the buckets being down somewhat and you are not expecting much in the way of ACO revenues. So it's margin coming from the 100 gig buy-side components and the client's pluggables. I wonder if you could kind of spec out the difference between those either in terms of percentage or dollar growth rate which ones are doing relatively better?

Pete Mangan

I would just say both did well in the quarter and both are contributing.

Greg Dougherty

Yes, we think all of our 100G products will grow nicely in the March quarter, Richard.

Richard Shannon

Maybe on the topic of gross margins, I think you flushed out your thought process here for your guide for the March quarter here. Pete, can you give us any kind of maybe forward-looking thoughts, even if on a qualitative basis, as we look throughout this year, specifically as we start adding in the [indiscernible] revenues, is there any risk for startup costs here or yield issues as you are ramping obviously pretty quickly here, kind of repeating the continued improvement there? And how should we see this as we look throughout the calendar year?

Pete Mangan

Yes, I guess, Richard, I'd take it maybe a little wider than that and say we've given a lot of milestones in the past, now that we've blown through those, maybe the right comment in the mid to long term is that a company in our space with a leadership position and technology has shown to be able to achieve gross margins in the mid-30s. And so, the gap left to fill is really going to be driven by the combination of revenue growth, leveraging the front-end fabs along with newer products and innovation.

And that would be above the line. And below the line we're at 23% of sales to date, maybe there's another percent to be gained. And so maybe laying out the next target for us to go close is continuing momentum. Not really talking about any timing of it, but just talking about the things that we're now focused on.

Richard Shannon

Okay. Well, that's fair enough. One last question from me, guys. On the ACO products, it sounds like you have some commitments firming up here, maybe even some hard to purchase orders I think you mentioned related to this product line. Any more firmer thoughts on what kind of shares that you think you might give at roughly $200 million market this year? Or any kind of minimums or any way of thinking about that?

Pete Mangan

We won't comment on share, but we do believe we're the lead supplier for this part.

Operator

And we'll take a follow-up from Alex Henderson with Needham.

Alex Henderson

I'm not going to let you guys get away with talking about dumping 33.3 million shares under the share count without talking about the offset. So can you talk a little bit about what the interest and other line would look like if that were to convert at the $3.9 million operating profit level? Does the entire $1.2 million in the other income line fall out? Or is there a little bit left or --?

Pete Mangan

On a GAAP basis, the interest would fall out.

Alex Henderson

On a non-GAAP basis?

Pete Mangan

On a GAAP basis, as we included the diluted shares, we would back out the GAAP interest -- or the interest.

Alex Henderson

What about on a non-GAAP basis which is what we're forecasting?

Pete Mangan

On a non-GAAP basis, if you included the 33 million shares, you should do the same.

Alex Henderson

So it's on both GAAP and non-GAAP. So, that roughly washes at the $3.9 million profit?

Pete Mangan

Correct.

Alex Henderson

It's a rough wash. And after that, it's slightly dilutive but it doesn't change the EPS that much, right?

Pete Mangan

Correct. Correct.

Alex Henderson

And I assume that the share count here off of that higher base has a slight upward bias to it based off of issuances -- the same kind of number of issuance that you would have had on the baseline prior--?

Pete Mangan

If your comment is that the difference between basic and dilutive today, including the dilution of the stock options, then, yes, it's been diluted from the 110 to 112. And then, on the go forward base, the convert would kick in.

Operator

And that does conclude the Q&A portion of today's call. At this time, I would like to turn it back over to Jim Fanucchi for any comments and closing remarks.

Jim Fanucchi

Great. Thank you, operator. And thanks again, everybody, for joining us today. We look forward to seeing many of you at the OFC tradeshow in late March in Anaheim and again talking with you when we report our Q3 fiscal 2016 results. Thank you and have a good day.

Operator

This does conclude today's conference, everyone. We thank you for your participation. You may now disconnect.

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