Optical Component Makers Struggling

With telecom operators slowing purchases, depleting inventories and reducing IT spending, optical component providers JDS Uniphase (NASDAQ:JDSU) and Finisar (NASDAQ:FNSR) are having a tough time. Let’s take a closer look.

On April 29, JDS Uniphase, a leading optical component provider with annual revenue of $1.53 billion, reported third quarter results that missed estimates. Revenue was $280.6 million, down 26.9% y-o-y and 21.4% q-o-q and below analyst estimates of $284.77 million. Including a goodwill impairment charge of $45 million, net loss was $85.2 million or $0.40 per share, versus net loss of $6.2 million or $0.03 per share last year. Non-GAAP net loss was $6.9 million or $0.03 per share, in line with analyst estimates.

Gross margin was down from 41.8% compared to 42.6% last year due to lower factory absorption and product mix in the test and measurement segment and transition costs associated with the transfer to contract manufacturers. Operating expenses decreased for the third quarter in a row to $125.2 million due to its cost-cutting efforts. It ended the quarter with $673.5 million in cash and during the quarter reduced its outstanding debt by $50.0 million. The company had 4,244 employees at the end of the quarter, down from 6,714 at the end of Q2.

Communications Test and Measurement revenue was down 23.6% y-o-y and 26.7% q-o-q to $129.2 million. Communication and Commercial Optical Products revenue was $100.5 million, down 40% y-o-y and 21.4% q-o-q. Optical Communications revenue was $89 million, down 34.6% y-o-y and 18.7% q-o-q. Commercial Lasers business revenue was down 50% y-o-y and 37.5% q-o-q to $11.5 million. Advanced Optical Technologies revenue was $51.0 million, down 8.8% y-o-y and 4% q-o-q.

For the fourth quarter, JDS Uniphase expects revenue to be in the range of $265 to $285 million. It is currently trading around $6 with market cap of more than $1 billion. The stock hit a 52-week high of $6.30 on June 4.

On June 11, optical component manufacturer Finisar Corporation reported narrower losses in its fourth quarter results as operating expenses decreased over the year. Reeling under the weak economic conditions, Finisar has reported only one profitable quarter over the past two years. But the company has shown past resilience: read my interview with its co-founder Jerry Rawls for the story of Finsar’s remarkable turnaround.

Q4 revenue was down 3.6% y-o-y and 14.4% q-o-q to $116.7 million. Net loss narrowed to $24.2 million or $0.05 per share from net loss of $44.1 million or $0.14 per share last year. Non- GAAP net loss was $1.0 million or $0.00 per share compared to net income of $7.2 million, or $0.02 per share last year. Analysts expected loss of $0.01 per share on revenue of $120.72 million.

Non-GAAP operating expenses decreased 19% to $35.6 million as a result of its 10% salary reduction starting in February 2009 and operating cost synergies associated with the Optium merger. Gross margin was 25.4%, down from 30.2% last year partly due to impairment charges and higher per-unit manufacturing costs as a result of lower unit shipment levels. Finisar ended the quarter with $37.2 million in cash compared to $35.3 million last quarter.

Q4 Optics revenue was $107.5 million, down 3.5% y-o-y and 14.8% q-o-q. Excluding about $25.1 million due to the Optium merger, optics revenue was down 26% to $82.4 million. Revenues from the sale of products for 10/40 Gbps applications was $40.6 million, up 30% y-o-y due to the Optium merger but down 17.3% q-o-q. Network Test revenue was $9.2 million, down 4.4% y-o-y and 10.4% q-o-q.

For the full fiscal 2009, total revenue increased 23% to $541.2 million. Net loss was $254.4 million compared to a net loss of $74.6 million last year, mainly due to goodwill impairment charges.

Finisar is currently trading around 55 cents with market cap of about $263 million. It hit a 52-week high of $0.85 on June 2, recovering from a 52-week low of $0.21 on March 3.

Optical components are an essential piece of high-speed networking and telecom, yet the industry’s business models seem to be unsustainable. High R&D costs combined with a small number of customers, and an inordinate amount of bargaining power in the hands of Cisco makes this a difficult business for the suppliers. I wonder how Cisco feels about squeezing these companies to the point of extinction. Is it equipped to tackle the R&D on its own?