ADTRAN Holdings, Inc. Q4 FY2024 earnings call

• ADTRAN executed well in Q4 with improved operating metrics: revenue up sequentially, non-GAAP gross margins strong, non-GAAP operating profits expanded.
• Optical networking revenue grew 16% sequentially, added 18 new customers across various verticals.
• Access and aggregation solutions grew 8% sequentially, with 12 new fiber-to-the-premise service providers beginning to receive infrastructure.
• Subscriber solutions segment had strong performance due to fiber access footprint expansion, with 23 new service provider customers added in Q4.
• In 2024, non-GAAP gross margin expanded to 41.9%, operating cash flow improved to over $100 million, and free cash flow was $39.9 million, a significant improvement from prior year.

Revenue for Q4 2024 was $242.9 million, up 7% sequentially. The network solutions segment delivered $197 million (81% of total revenue). The services and support segment delivered $45.8 million (19% of total revenue). By product category: Optical networking solutions were $81.6 million (34% of total revenue), up 16% sequentially. Access and aggregation delivered $72.7 million (30% of total revenue), up 8% sequentially. Subscriber solutions was $88.5 million (36% of total revenue), slightly down sequentially. Non-U.S. revenue was 57% of total revenue, up 10% quarter-over-quarter.

• Q1 2025 revenue expected to range between $237.5 million to $252.5 million.
• Q1 2025 non-GAAP operating margin expected to be between 0% and 4%.
• Long-term target: gross margin percentages in the low to mid-40s and operating profit margin in double digits.

• Uncertainties in forward-looking statements due to risks detailed in earnings release, 10-K, and SEC filings.
• Timing risks associated with asset sales, particularly for corporate real estate.
• Potential inventory obsolescence risk, though a significant reserve is built.

Q: Congratulations on the nice results. I guess I want to follow-up on the balance sheet point. To begin, $112 million of net debt, if I got that right, exiting the quarter, so you want to be in a net cash position by the end of the year. That seems -- am I right that, that seems fairly trivial with -- that a real estate sale and sort of cash generated from operations should be able to get us there easily? And that -- and I guess my question is really, is -- are there other assets, like this anything in the business that could be sold and kind of inventory, how much of this is going to be inventory and working capital as we -- so I guess just more detail on how we get to net cash. And can we get much better than that cash break-even by the end of the year?

A: The answer to your question is yes. So just directly, yes. We do expect inventory to come down through the year. We do expect to be generating free cash flow through the year. And you're right with the asset sales that we're talking about, that should be really easy. As you know, the biggest issue is timing asset sales, especially when you're talking about property and the market. And we have some properties that are relatively unique. So we have to find the right buyer and it's got to match up. Having said that, we have found some customers that are -- we have seen that alignment, but getting them to closures is the biggest thing. As far as the other asset sales, we talked about anything that's nonstrategic, and our strategic areas are fairly easy to define. Subscriber, fiber-to-the-prem and optical, and those are the businesses we're in. So things that don't fall in line that, we would take a look at, and we -- yes, there's a potential for us to move forward on some of those assets as we find the right buyers. Does that answer your question?

Q: Good quarter. Back to the inventory. You've done a significant job of reducing your inventory on your balance sheet over the last 2 quarters. Do you have a stated goal for inventory? And what level do you think that could potentially be reduced to before you would need to maintain it for future growth objectives?

A: Yes. We -- do you want to talk about our turn -- those turns? Go ahead. Ulrich Dopfer: Yes. So currently, our inventory turns are 2.2, 2.1, not where we want to be, not where we have been in the past, and our goal is to increase our inventory turns back up to in that 4x range for the year. Obviously, this is a process that takes some time. For this year, like Tom said during his part of the call earlier, we anticipate that inventory will continue to come down throughout this year. And how much depends on the demand profile from customers and how much additional material we need to buy from the outside in order to satisfy this demand. So -- but overall, I would anticipate inventory will come down some. Maybe not quite as significant as we have seen first quarter of last year, where we had a significant drop in inventory, but we are working through the process and anticipate a gradually decline in inventory. Tom Stanton: Yes. I think the key is, the way to think about is 4x inventory turns. That's really where -- we're comfortable there. We've been there before. We get much above that. And we start having customer issues. So kind of low 4s is a comfortable place for the company. Christian David Schwab Craig-Hallum Capital Group LLC, Research Division – Partner & Senior Research Analyst And then given the improved business environment that you're seeing, I know you have limited visibility, but we are coming off a pretty challenged industry environment in calendar 2024. Would you expect revenues this year, although quarter-to-quarter volatility, but would you expect 10% plus type of top-line growth this year? Does that seem fair?

A: Fair. Let me just explicitly say, we really don't give full year guidance. We know that there are numbers that are out there. We're aware of that. But we've had, in the past, struggled to get quarter guidance. So we're comfortable with the guidance range that we've given for the next quarter. And I think I would go back to the first round of questions, which was the environment is definitely improving. So I don't want to mislead anybody there. The trend is definitely positive, but we still have to see how the year plays out.

Q: Nice job here. Uli, around the inventory, do you have much risk there around excess and obsolete? We're have to take any write-downs there on what you have today [indiscernible] A: Well, we have a fairly large reserve built -- that we built over the last few years when our inventory was so high, so I think we are in a safe spot here. Obviously, it always depends on demand and what customers are asking for. But so far, I mean, our inventory reserve is fairly significant, so I don't have sleepless nights over it. Tom Stanton: Yes, it's been fairly consistent over the last few quarters, and I don't see a big change that.

Q: And a couple of housekeeping pieces here. On your 10% customer in the quarter, I assume that was an international customer?

A: That's correct.

Q: And did you have any -- in '24, any 10% customers for the year?

A: Food question. Do you... Ulrich Dopfer: For the year? No. We had -- for individual quarters, we always had a one -- actually, last quarter, we didn't have one, but we did not have a 10% revenue customer for the entire year last year.

Q: And on the optical outlook, do you feel like demand and deployments are kind of finally back in balance here with regards to inventories? Or are we still a little headwind in optical relatively...

A: We know we still have -- I think we've been fairly vocal that we expect one inventory situation to clear itself up in Q1. That's still the case. Inventory, it was getting better and better through the year. We kind of have one outlier that we think will clear up in Q1. So exiting Q1, we expect to be in a good place.

Q: And then you mentioned kind of cloud operators. Any details you can share there in terms of how meaningful that is to the optical business today?

A: It's lumpy. So it can be good and then some other quarters, it can be less good. So I wouldn't overweight on that. I mean, you know kind of our sense on that. And then it's -- I will say it's good to have, and we're continuing to make inroads, but I would say there's no big inflection point there.

Q: And then last one. On the broadband front, access and ag, what's your thinking around the U.S. market? Obviously, BEAD is not a sure thing this year, but maybe some of these other government state programs and even a couple of other federal programs are still driving some strength there. Any anecdotes you can share around broadband and fiber from the U.S. market?

A: Yes. I would say there are tails from previous stimulus programs that are still doing things, but they're not the meaningful driver to our business. We've had close to 200 customers come in a couple of weeks ago. And there is -- BEAD or no BEAD, there was a lot of positive energy about what their plans were. And that's kind of what's driving the business right now. I think in the Tier 3 space, I think there are a lot of people that are gearing up. I think the BEAD question itself is still out there, but it's becoming less and less a part of people's near-term plans. For us, it's never been a big driver for this year. We were kind of more excited about what was going on. Tier 3s, in general, we think that they have been kind of slower, and we think that they're going to have to start investing again. We also think that the Tier 2 space with some of the new equity that's been coming into there has been very exciting. And that continues to be the case. So these larger customers are just -- at least for us anyways, are doing better. And BEAD, it would be nice to have a decision so that the clarity to the customer base would be there. But like I said, it's not a big driver for this year's revenue.

Q: And then just to clarify what you just said about the Tier 2s. You're seeing more positive momentum, better financial footing for them to continue to ramp up in [indiscernible] A: Yes, yes. And Tier 2s would be some of these kind of newer footprint expansion people that have private equity and others have invested in. And then if you're an incumbent, even the incumbent Tier 2 carriers, they're worried about being overbuilt, right? So yes, I mean, there's a good kind of competitive dynamic going on there.

Q: And congrats on seeing the top-line inflect higher here. And you're talking about or guiding to a modest increase in Q1 revenue. Sequentially, that is -- I wonder if we can get any more color on what's happening there from either a product or geographic standpoint, what you expect to drive that uptick, or what some of the moving parts might be?

A: Yes. I mean I agree with your term modest, but modest is in the eye of the beholder. For us, we're pretty happy with it because, typically, we're seasonally down. So -- yes, so we're kind of, like I said, we think it's a positive thing. In general, I think we'll see a stronger access and ag growth. We tend to see our European buyers tend to buy a little earlier in the year. We saw that last year where they bought kind of earlier in the year and then less in the second half of the year and then the kind of more traditional customers have the typical seasonality where the first quarter is down, and it starts picking up in the second and third, and then fourth is a little bit of an unknown thing. I'm kind of expecting that same trend where we'll see a strong European content, and then we'll see the U.S. starting to pick up after that. Does that answer your question?

Q: It sure does. Sorry about that. And back on the optical front, and this is kind of combined with this overall kind of carrier behavior that you're seeing. But I, too, was interested in the cloud commentary to the extent you have some direct exposure there. But I guess the question is more about indirect impacts of what's happening with AI in the network. Heard Cisco talk about that recently and saying carriers are maybe working on their networks or investing in anticipation of bandwidth coming into the network. I wonder if you're seeing that in your customer base or any early indications whether that would be different kind of U.S. versus Europe. But I guess the overall question is, are there -- outside of direct exposure to cloud suppliers, are there indirect benefits in the carrier customer base that you're starting to see?

A: Yes. The direct answer to that is yes. And in both U.S. and Europe with -- yes, with some very specific things that they're trying to get done and going through. So it's -- I think it's made everybody of any size kind of look at their networks and see how do they play on a going-forward basis. And I think when they do that analysis, that ultimately is going to lead to upgrades in their network. And some are farther along than others, but without a doubt, I would agree with the comment that was made.

Q: And then last question for me. I know you mentioned the early buying in Europe as a potential driver in Q1. I imagine that comment is around your sort of established customers in Germany and the UK. But I wonder if we can get an update on what's happening with some of these newer ramps in Europe on the access side, and whether that might be contributing as well.

A: It definitely is contributing. We're starting to see some of the -- I mentioned that we had started shipping GPON to some of those customers at the tail end of the year, and we have some other ones that we're starting to ship in Q1. But the numbers are so much driven by the kind of established players that it's a positive thing, but it's -- I don't want to mislead you here. We have a handful of customers that really drive the bigger numbers. And it's yet to see exactly how that's going to play itself out. What I'm going by is kind of historically what they have done and what we expect for this year. And yes, I think those are the ones that are driving the bigger numbers, although those other ones will continue to add on. Some of them don't come on, though, until the end of the year, right? We have some larger things. We have some of them that come on at the end of this year, and then we have some come on early next year as well. But the ones that I had previously talked about coming online, I think all of those have or will start first half of the year.

Q: I have actually two questions. The first one is regarding the guidance for Q1 2025. You anticipate a non-GAAP operating margin between 0% and 4%. Now if you end up at the lower end of the range, the margin would decline compared to Q4. What factors could drive this decrease? And the second question is, what is the current status of the BEAD program? And how much would this potential impact affect the group's activity in the coming years?

A: It was about BEAD. Ulrich Dopfer: So I will start, Amira. So what would -- I mean, obviously, if we would end up at the lower end of our revenue guidance, then we would move towards the lower half of our profitability guidance range. Obviously, there are some uncertainties that we have baked into our guidance projections, and they are related to items that are more sitting in other COGS or gross margin. And then I think we touched on -- during my presentation, we touched on the fact that we anticipate a smaller increase in our operating expenses based on inflation or payroll adjustments and benefit adjustments for the year. Tom Stanton: On the BEAD thing, we don't -- there's really no impact to us on BEAD if gets delayed. We don't have a whole lot in this year anyways. Definitely nothing in Q1.