Yahoo Finance

Oleg Khaykin

Thank you, Ilan. During the December quarter, our revenue and EPS came above the higher end of our guidance range. As we mentioned in prior call, many of NSE traditional end markets have stabilized and are showing signs of gradual recovery as we enter calendar '25.
Now let's look at in more detail at each of our businesses starting with NSE. Revenue in fiscal Q2 grew year over year driven by recovery and growth across many of our product segments. We expect this momentum to continue through the remainder of fiscal '25.
A bit more color on individual product segments, fiber field saw solid demand from service providers and NEMs particularly in fiber monitoring systems in support of fiber network build out. We expect this momentum to continue.
As we mentioned in our prior call, we are also seeing signs of stabilization and green shoots in our wireless business during mostly by the resumption of 5G deployment in North America. We expect the gradual recovery to continue during the first half of calendar '25.
Fiber lab and production demand was up significantly in the December quarter driven by growth in lab, fiber, and optical transport. We also shipped our first 1.6 terabit fiber product and saw continued demand for our 800 gig products which should drive significant growth for the remainder of fiscal '25.
Our Aerospace and Defense business segment continued its robust year on year growth driven by growth in our mission critical products including communications, avionics and P&T which stands for positioning, navigation and timing.
Earlier this week, we closed the acquisition of inertia labs which strengthens vis a vis position in the PNC space by complementing our industry leading resilient timing technology with positioning and navigation solutions. Our expanded PNC portfolio positions us well in the high growth markets such as alternative navigation and autonomous air, land, and sea vehicles. Lastly SE was down year on year, primarily driven by lower enterprise customer spend.
Looking ahead for NSE, we expect a seasonally stronger Q3 across the broad base of our product portfolio with continued recovery momentum for the remainder of fiscal '25. Now turning to OSP during the fiscal second quarter, OSP declined on a year-over-year basis. Primarily due to lower demand for 3D sensing products.
We expect fiscal Q3 to be roughly flat year over year characterized by seasonally weaker 3D sensing. We continue to monitor inventory levels of anti-counterfeiting products, and we currently expect to reach demand supply equilibrium within the next two quarters to summarize our near term outlook. We expect Q3 to be seasonally stronger and recover momentum to continue through the rest of fiscal '25.
In conclusion, I would like to welcome employees of inertia labs to VIAVI and thank the VIAVI team for managing through the challenging environment over the past two years. Lastly, I would like to thank our customers and shareholders for their continued support with that. I will now turn it back to the operator for the Q&A.

Question and Answer Session

Operator

(Operator Instructions) Ruben Roy, Stifel.

Ruben Roy

Thank you for letting me ask some questions. Oh, like nice to see the turn. As you, sort of highlighted on the last call, I guess if we could drill down into some of the moving parts here. Starting with the field, demand for fiber monitoring. Can you, can you talk a little bit about that is that still mostly Telco service providers. Are you starting to see some hyperscalers get involved with fiber monitoring?

Oleg Khaykin

Well, it's a combination, I mean, clearly on a broad base, it's the telcos because as they build out their fiber networks, I mean, it's just really the volumes game, right? Because there are so many telcos and so many of them are building out fiber, but also there are cable providers but they're also building out fiber so clearly that's driving.
But the new segment emerging is really the hyperscalers who are kind of not your father's data center operators. They are actually putting very sophisticated fiber monitoring interfaces on to their data centers to monitor all the fiber going in and going out of their network. And part of it is really protecting the billions of dollars they are putting into those data centers and making sure that the connectivity latency and performance of the fiber interconnect is on par with the performance inside the data center.
And that is a new phenomenon because traditionally data center operators really didn't care, they just took whatever the connection they got. And today, I would say the hyperscalers have gotten extremely well educated on the performance and strength and weaknesses of the traditional fiber connections they've been getting and they're taking it, they're taking matter into their own hands and actually paying and deploying this thing so they can hold any of their service providers accountable for the service level agreements that they are signing with them.

Ruben Roy

Interesting. Thank you. And then, on the lab side, congrats on the 1.6 shipment. But if we look at 800 gig, can you talk about your visibility there? You know, clearly you're talking about, momentum through the end of fiscal '25. But, kind of how are you thinking about that business, the 800 gig shipments, throughout the rest of the calendar year. And can you give us a little bit of an idea of how big you think that could get as part of the any business?

Oleg Khaykin

Well, the reason I say fiscal because we generally don't like to go beyond one at most two quarters. I mean, clearly 800 gig is the workhorse that everybody is buying today, and the volume is growing pretty rapidly. 1.6 Terabit is really what is entering the R&D labs that semis NAMs and module developers and that's probably going to be hitting, production maybe towards the end of the calendar year.
So we think the 800 gig will be the volume driver for this year, calendar year and the 1.6 starting to maybe gain momentum towards the end. And you know, there's still 400 gig shipping as well. So and that's across the border, I'd say traditional semi module developers and Nes and then on top of it.
We are seeing very strong demand from module builders. You know the factories production testing in Asia that is largely in support of the kind of I say 400 and 800 gig for dump actually growing 800 gig module demand to support the AI data center infrastructure.

Ruben Roy

Great. Thank you. Like if I could just sneak one in for Ilan. The comment around capital allocation and the M&A with the initial acquisition and, and successful closure, maybe you can just give us an update on what your appetite for further M&A might be, going forward. Is there still room you know, for additional M&A as you look out into your calendar '25 or how do you think about capital allocation here?

Ilan Daskal

Yeah, thanks, Ruben, for the question. So obviously, M&A continues to be part of our overall capital allocation model. We believe that we have more bandwidth to kind of raise additional funding. If we kind of find the right opportunity for us, we are very kind of focused in terms of our EPS growth for the short, mid and long term and that's a major driver for us in our decision making process. And it's less about the funding, more about the specific opportunity. And the EPS specifically.

Oleg Khaykin

And I say if we look at our M&A potential target final. Nobody is in there. There is a bunch of PowerPoint presentations, all of the deals that we are considering, and evaluation are highly profitable with the, margin profile that is accretive to our overall thing. Clearly in the end, the price, there's got to be the right price because I know one thing we are very cognizant is that we have multiple options how to deploy our cash. And you know, we believe in paying the right price for the right deal.

Ruben Roy

Great. Thanks guys.

Operator

Andrew Spinola, UBS.

Andrew Spinola

All right, thank you. I was wondering if we could talk about the upside in the quarter and wondering if you know when you look at it, how much of it came from your cyclical uptick in your business. And I'm talking specifically about NP versus maybe how much of the contribution came from sort of your secular growth drivers in some of the other businesses.

Oleg Khaykin

Well, so I mean, it's a good question, Andrew. So I mean, the I would say maybe I would say probably a third to a half kind of came in from the kind of tide that rises. All the boats, you know, the service provider start to come back, crossing the Ts dotting the I's the fiber span we actually saw very interesting wise, the green shoot and wireless was buying wireless field instruments, which basically tells you right away, somebody is planning to start doing major 5G deployment, restart in the next two quarters.
So that is what I would call a gradual recovery and continued recovery. And the rest came really from our diversity efforts into, fiber lab and production, the Aerospace and Defense segments where we've seen a really good revenue growth and substantial margin expansion that the volume has driven in both of those segments.

Andrew Spinola

Got it. And I guess just a follow on to that, I think I'm trying to understand, obviously the AI demand is driving some pretty substantial growth rates in some of the end markets that you serve. I'm trying to correlate that with your fiber lab business to try to understand what's the potential upside in that business? How much of that 50% of your growth in this quarter that came from secular came from fiber lab and just anything you can do to help me understand how, how big that business is, that's exposed to these 30%, 40% growth rates and how big can it get?

Oleg Khaykin

Well, so there's two segments of the business. One is we sell advanced test equipment to the developers. So if you are developing next generation chip sets or processor or the 400, 800 gig 1.6 terabit bandwidth, you need those tools to aid you in the development and debugging. If you're developing modules, you need those that equipment and if you're developing systems, you need that equipment and then there is a whole other market.
So this one, I mean, it's growing, I mean, I wouldn't be surprised if it doubles or triples over the next three to four years. Because what's different here is when the telecoms were driving migration node. To note it would be about six years, six to eight years between, let's say 100 gig to 400 gig, 400 gig to 800 gig. Now today, the real evolution of technology nodes is not driven by telecom, it's driven by Datacom.
So as a result, you're seeing every two, three years, there's a new tech technology node. So your product cycles are just as big and they're happening much faster. So seeing that business doubling, tripling is fairly realistic and then there is a whole other part is the production piece. So again, when you were doing telecom, you only deployed so many modules.
Well, when you're putting fiber optic modules in the data centers, you have orders of magnitude more modules. So the demand for spectrum analyzer, you know power meters and fiber, you know the inspection, all these kind of things that is purely a function of how many units need to be shipped. And what was interesting is when it was a 400 gig, we did not see much demand because a lot of it was bought by the installed by telecom service providers.
And when their business tanked about two years ago, all of that capacity shifted to hyperscalers, well as you know, bringing out 800 gig and then over the just over the horizon, 1.6 terabits. Well, it's the data center operators who are driving the deployment of debt production capacity. And that's happening at a much faster turnover pace instead of like kind of six-year horizon, two-, three-year horizon. So again, there is a doubling or tripling, I mean, whichever the volume growth you're going to see.
So we are very positive on that business. And then the third element here traditionally, we played in kind of layer one layer zero and now we're going to layer two to layer seven. So we're also expanding the market that we're addressing within all of these applications. So we feel that business unit will be a major growth driver for us in years to come. Thank you.

Operator

Ryan Koontz, Needham & Company.

Ryan Koontz

Great, thanks and terrific color on different product areas. Oleg, I wanted to drill down on wireless if we could, this is a pretty quick rebound here and we've heard some recently some pretty optimistic signals from Ericsson and Nokia as well, pretty aligned. But if you drill down there, do you think in terms of the operators is this driven by capacity additions via small cells or rebanding of spectrum or is it new services around the 5G core? Anything you can share there on the wireless front.

Oleg Khaykin

So I mean, so actually that correlates very well with what you heard from Ericsson and so on. So you get maybe orders or indication that there's going to be a restart of 5G deployment. What we saw is the placement for field instruments and that's usually the first thing you do because you got to equip all of your checks with equipment before you kick off a campaign.
And what I believe is happening, it's really all about cost, cost cost. And it's really accelerating conversion of a 4G spectrum to 5G spectrum. Because it's our understanding you're seeing anywhere between 90% to 80% drop cost per bit when you convert the spectrum. And if you want to grow the available bandwidth to your customer base, one of the cheapest things to do is just accelerate conversion of 4G into 5G and the instruments that we are seeing.
And if I look at what kind of software downloads and codes and use cases that we provision with those instruments indicates to me it's a lot more about rear reclassifying spectrum from 4G to 5G. And it also kind of feeds our belief that millimeter wave is pretty challenging to do on a mass scale. And the easiest way to create bandwidth is really reproposing your zero to seven gigahertz spectrum. That's just our view of this thing.

Ryan Koontz

Yeah, that's great. And then, by the way, a North American phenomenon only and I believe Europeans will jump on it as well because they have exactly the same problem. They are under massive cost pressure. And that is one of the easiest ways to lower cost of your bandwidth.
Yeah, great point. Just a quick thought. If I could around your acquisition of Inertial Labs, how do you see that product fitting into your portfolio? Is it very much a standalone business unit? Is there much adjacency or synergy with the rest of your commercial activities? And maybe just you've had a couple of weeks at the helm there and how do you, what's been the feedback?

Oleg Khaykin

We just closed this deal two days ago, but we've been obviously working with them for a while. So this has been a conscious diversification for us to be less reliant on the highly volatile telecom service provider and taking our, if I look at our core competencies, it's really communications engineering algorithms advanced truly advanced system designs.
And when we looked at our skill set and say, well, where is the richer postures using this? Know how well it's Aerospace and Defense and the technology we have is actually generations ahead of what the traditional mill arrow players service the market with today. And we think we can take it, and we really could leapfrog pretty much everybody in that space and we've shown it with the, our resilient timing.
Actually, our, and these products are unlike the traditional book ship business in the test and measurement. While it's a very attractive margin business, you have to every quarter, a big chunk of it is a book business. Whereas the, what we are talking about here in Aerospace and Defense P&T it's a design wind driven business.
Once you win a module subsystem or a product larger system with a tier one OEM you're done. And when they go into production, they just pull all the business. So it's a much lower cost of growing revenue and profitability from point of view of go to market. So you're still leveraging your engineering, know-how and competence, but at a much lower go to market. And I think longer term that gives us a very nice operating margin expansion and the gross margin expansion.
And so when we acquired Jackson Labs a couple of years ago, we acquired the T in P&T with the acquisition of inertia labs, we P&T positioning and P&N positioning and navigation. So now we can effectively deliver the whole alternative navigation modular system to any system integrator out there. And in particular, the high growth drones and the alternative navigation solutions demand is where we are playing into.

Ryan Koontz

That's great. Thanks so much for that color.

Operator

Meta Marshall, Morgan Stanley.

Meta Marshall

Great. Thanks and congrats on the quarter. Maybe this is the first question. You had been kind of more optimistic about seeing some of this demand kind of return in fiscal Q3 or calendar Q1. So was this, you just started to see some of those orders earlier than expected or starting to see it stronger than you expected. And then maybe the second question is just kind of the recovery path that you see for the E business and some of that business returning. Thanks.

Oleg Khaykin

So I was looking in kind of measuring temperature of what even starting in the summer and really September quarter, just the tone of the likes of AT&T, Verizon, T-Mobile, and all the other operators have been shifting towards. Hey, we're going to increase buildout of our fiber and what we saw is run for the hills has kind of became a market share grab shift mindset within those operators.
And that was really the first inkling that, hey, we're going to start seeing things finally turning around after two years. And then these kinds of dialogues that started in September quarter and they accelerated into December quarter. And of course, now you see it's pretty much again, has become a competitive play where, nobody wants to be left behind.
I mean, you saw T-Mobile is getting into fiber, Verizon is getting back into fiber, AT&T is accelerating fiber bills. Well, MSOS, the cable operators are looking at it and said, hey, wait a second, they're coming after my brand and bar which is a broadband. So they are now being forced to start doing at least something in the interim before Dux 4.0 shows up. And of course, by doing all of that, the wireless was not far behind.
So when we saw the change in all these kind of dynamics happening, we said, okay, that's the beginning of the change in the mindset that we're seeing with service providers, but we didn't see the money yet materializing. And then in the Q3, in the fiscal Q2, which is December quarter, we saw people putting money where their mouth was and it continuing into Q3, which is normally we generally see as a weaker quarter because everybody doesn't set their budgets until the end of February.
Well, that's continuing into this quarter. So the mere fact that we're not seeing the seasonal dip in the service provider, it continues to move. It's clearly telling us it's not a one-time blip. And the one thing was really kind of, the last thing is, we were kind of doom and gloom up until about September on the wireless space. We didn't think much is going to happen until the middle of next year.
Well, the indication that people start placing significant orders for wireless field instruments, you only do that if you are one to two quarters away from doing a mass deployment or restarting your 5G. And we also know what kind of software download you have in those instruments. And that pretty much gives you a clear indication of what kind of work people are planning to do.
So in that respect, we feel, and I will just emphasize it's North American, I mean, we're not talking yet about Europe and it's not, I'm feeling much more optimistic on the North American landscape. And if I look at traditionally Europeans are about 3 to 6 months behind, and I do think it will spread to Europe probably by the middle of the year. So we'll provide kind of the next wave of recovery.
Well, it's a story of good news and maybe good news but not so good news, right? So the good news is our AOP is absolutely everybody and their brother wants it and there's a lot of interest, not so good news. It's taking time to get through the teething pain and deploy it and be able to deliver all the use cases that customers want. So as a result, there is a disconnect between the velocity of engagement and how quickly we can turn it into revenue. I think, throughout this year, we will resolve most of these kind of early teething pains and catch up on the development of all the use cases.
And we feel this is going to be a major driver for the business unit growth. The second part in there is the private networks that business is doing really well and especially private mission critical networks. It's growing off of a small base, but it's doing very well. And we're seeing a lot of both kind of industrial and sovereign interest in building their private security networks.
And the third piece is the enterprise. And I think that is a piece that I think, I mean, with the exception, maybe security, the rest of it is not spending as much money. So I think that would be probably the last piece to recover in that business. But we do think calendar '25 will be the year where this business. I mean, they already turned the corner from point of view of technology development and redeveloping product portfolio. The next step for them is to start putting points on the board by growing quarter on quarter.

Meta Marshall

Great thanks.

Operator

Tim Savageaux, Northland Capital Markets.

Timothy Savageaux

Hey, good afternoon. And congrats on the results from me as well. And you touched on some of this, but I'll let me see if I can fill in some blanks here in terms of the carrier strength. And you know, I note your US or North America revenue is quite strong sequentially in the corner and you kind of touched on it.
The strength there in fiber monitoring and, and carriers being principally us based, just want to confirm that and, and also whether that's really concentrated with the real big guys, the AT&Ts and Verizons of the world or if you're seeing any broader base to that strength in the US in fiber access and fiber field.

Oleg Khaykin

You know, the fiber monitoring, ironically is the countries outside of us are the big user of fiber monitoring. They always believed in monitoring their fiber network in North America. We are now seeing some I would say tier one players are starting to consider they are rolling it out in several markets. And if that trend catches on, it's going to be a significant boost to growth in that business.
But also in North America, it's really the hyperscalar. It's the who is who in the big social media AI and all that. They are viewing fiber monitoring as an integral part of building out. If you're going to spend hundreds of billions of dollars building out data centers, you should spend at least $100 million to make sure that they are connected to something that works.
And they are finding that the weak link is the interconnect between the data between the data centers. It's you know, because they usually use a third party to connect all the data centers and there is already very quick bifurcation between those who can and those who can't. And there are some really next generation fiber service providers who are really putting in state of the art fiber links where you can monitor even dark fiber, so you can turn it on at the drop of a hat and provide the sla agreement that is needed.
And then of course, there's your father's fiber network is like, okay, we'll send a truck, and we'll connect and that's just not what those players require. So we actually view it as a the smart money and the smart engineers are deploying it. Of course, it's self-serving.
We believe they should be doing it. But it's also putting major investment in quality of service and quality of performance that the network is able to deliver. So I think North America is the early stages of deploying where we do see North America is also fiber monitoring.
It's really more handheld and they use fiber monitoring when they build out networks, but then they kind of leave it alone. But we believe you should be using it when you build it out. And then also when you're managing it because it actually enables you to automate and reduce the cost of managing the network.

Timothy Savageaux

Okay, great. And then you did see a bit of an uptick in Europe at least sequentially in the quarter as well. You've indicated you really haven't seen the carriers come back and I guess that's both fiber field and wireless. So should we assume that's network equipment manufacturers driving that or any other factors?

Oleg Khaykin

Clearly, Europe is pretty strong for us with NAMs, although you know, a big chunk of it is wireless NAMs and they have not been that strong. I mean, we hope that the recovery in the field, wireless maybe in one or two quarters as they start shipping equipment into the networks, the infrastructure test equipment will also pick up. And of course, the fiber names in Europe are quite strong. And you know, in Europe, there is a run rate demand that is fairly consistent. But we know that generally Europe is about one to two quarters behind the US.
I mean, they, when you want to tailspin September of 20 -- was it '22? Europe probably took about one or two quarters behind. So we think by middle of the year, I think Europe should start picking up as well. And there, it's very much all about, continuation of deploying fiber and 5G. And if that happens, that kind of would be the second wind to our field instrumentation telecom business that would come in because Europe is, I mean, equally big to the North American market.

Timothy Savageaux

Got it. And last one for me. And in terms of the discussion about seasonality, and I think what you're saying is you're seeing, better than seasonal. So backing out Inertial, it looks like your NE segment would be, flattish to maybe down a very little bit where you might normally see, I don't know what some, maybe a mid-single digit, low to mid-single digit seasonal decline typically. And you're not sort of seeing that this year, given the recovery and demand. Is that basically, right?

Oleg Khaykin

Yeah, that's basically right. Although I wouldn't even say decline, I think it's flat to maybe even single digit, I mean, low single digit growth and then on top of it, you had, shall. So that's why we feel, I mean, the mix changes within that revenue. I mean, that's why, I mean, some of the margin, I mean, even though top line is flat to maybe even up, the margins are a little weaker because the mix there is, in some segments, there is a lower margin profile than what we did in December.
And I would say also, first quarter is when we accrue most of our statutory expenses for the year. So that's clearly, I'd say the biggest, but also some of the mix will be different. So volumetrically, I mean, we feel NSC is going to see pretty strong. Well, I would say a seasonally strong Q3 because generally we drop, anywhere between five to maybe even sometimes 10% Q2 and Q3. And here we are glad to slightly even, maybe up.

Timothy Savageaux

Great. Thanks very much.

Operator

Mehdi Hosseini, Susquehanna.

Mehdi Hosseini

Ashon filling in for Mehdi. It looks like the 3D sensing is being weaker this quarter, but it is seasonally stronger in the second half. Could you touch maybe on what you're seeing in terms of ASP and dynamics? And where does that go from there? How much contributes to your OSP guide of $75 million in the third quarter of 2025? Thank you.

Oleg Khaykin

So usually if you look at the 3D sensing, the September and December quarters are bigger, and the March and June are smaller. So I would say when we say only weaker, I mean, we had more demand in the September quarter and some of it might have been pulled in from the December quarter.
But there is also some annual AP reduction that kind of lowered the revenue, but the volumes were pretty healthy. So on the second half of the fiscal year, it's pretty much in line with seasonality and 3D sensing. I mean, there's just fundamentally fewer units being built in the second half than first half. And on the, I think on 75 we kind of always break up core business.
And the 3D sensing, I think we have a pretty healthy anti-counterfeiting and industrial business and that more than offset the decline in the 3D sensing. But we're also doing one thing I don't know if I mentioned it is we are actually taking proactive measures to lower our internal inventories. So we are shipping anti-counterfeiting demand from our inventories.
So even though the volumes go up, we are not running the factories at full bore, we're not picking up the extra absorption. So as a result, we will end up with lower inventories, we will free up more cash, but we are not picking up maybe another 12 3% points of operating profit that we would do. Otherwise, it's a conscious measure to really accelerate demand supply balancing because we're seeing also channel inventories are declining and we want to get it by the middle of the year that we are now in supply demand balance and becomes much easier to forecast and plan our production after that.

Ilan Daskal

The inventory balance is a slight headwind to margin. But you know, we consciously took that approach. Cash is cash.

Mehdi Hosseini

That is very helpful. Thank you.

Operator

And, everyone, at this time, there are no further questions. I'd like to hand the call back to Vibhuti Nayar for any additional or closing remarks.

Vibhuti Nayar

Thank you, Lisa. This concludes our earnings call for today. Thank you for joining, everyone. Have a good afternoon.

Operator

Once again, everyone, that does conclude today's conference. Thank you for your participation. You may now disconnect.