Ciena Corporation Price & Performance (CIEN)

On the call today is Gary Smith, President and CEO and Jim Moylan, CFO. Scott McPheeley, Executive Advisor, is also with us for Q and A. In addition to this call and the press release, we have posted to the Investors section of our website an accompanying investor presentation that reflects the discussion as well as certain highlighted items from the quarter. Our comments today speak to our recent performance, our view on current market dynamics and drivers of our business as well as a discussion of our financial outlook. Today's discussion includes certain adjusted or non GAAP measures of Siena's results of operations. A reconciliation of these non GAAP measures to our GAAP results is included in today's press release. Before turning the call over to Gary, I'll remind you that during this call, we'll be making certain forward looking statements. Such statements, including our quarterly and annual guidance, commentary on market dynamics and discussion of our opportunities and strategy, are based on current expectations, forecasts and assumptions regarding the company and its markets. Which include risks and uncertainties that could cause actual results to differ materially from the statements discussed today. Assumptions relating to our outlook whether mentioned on this call or included in the investor presentation that we'll post shortly after, an important part of such forward looking statements, and we encourage you to consider them.

Our forward looking statements should also be viewed in the context of the risk factors detailed in our most recent 10 Q 10 ks, excuse me, and our 10 Q, which we expect to file with the SEC by this Thursday [indiscernible] Ciena assumes no obligation to update the information discussed in this conference call whether as a result of new information, future events or otherwise. [indiscernible] As always, we'll allow for as much Q and A as possible today. The last that you limit yourselves to one question and one follow-up. Also, in case there's a slightly longer pause than usual during Q and A, please note that our team is in two different locations for this call. [indiscernible] With that, I'll turn the call over to Gary.

Thank you, and good morning, everybody. Today we delivered strong fiscal first quarter results.

Including revenue of 1,070,000,000.00 adjusted gross margin of 44.7 and adjusted EPS of $0.64 per share. Positive demand dynamics drove very strong order flow in the quarter. Significantly, direct orders from cloud providers were half of overall orders in Q1. And we've had our strongest back to back quarters of orders from service providers in over two years. This outstanding performance reflects balanced growth and strong momentum across all aspects of our business. As we execute our strategy to take full advantage of the growth of cloud and AI traffic. Since speaking with you last in mid December, we've seen the continuation of the positive demand dynamics that we've been discussing in recent quarters. This is playing out across our primary customer segments and geographies, and in both our foundational business and our market expansion The rapid expansion and distribution of AI training and inferencing infrastructure is driving global investment in ultra scalable high performance networks operated by both service providers and cloud providers. And as the global leader in high speed connectivity we are best positioned to partner with them on these critical infrastructure builds to help scale and monetize their networks. So as we continue to execute our strategy, and take full advantage of these opportunities, we remain focused on extending our leadership and growing market share in our core businesses inclusive of Subsea, Longcore, Metro, DCI and MoFEN opportunities, and growing our addressable market into adjacencies.

Particularly inside and around the data center over time as well as in metro routing, all areas where our foundational optical technologies and leadership provide a significant competitive advantage. To best understand how our investments are fully aligned with these market dynamics, and our customers' priorities. We believe that viewing our business through the lens of our major customer segments provides the most insight. So let's start with service providers. The supply and demand dynamic that we experienced in previous periods continued to come into balance. And we believe service provider inventory digestion impact are largely now complete. Accordingly, we saw ongoing improvement in Q1 in revenue and orders with North America leading the way and Service provider revenue in Q1 increased 14% year over year comprising approximately 51% of total revenue. Clearly, these customers are once again investing to scale their networks. Specifically for the anticipated increase in cloud traffic and new AI workloads, including for Mofun opportunities with the cloud providers. We've now seen a couple of quarters with an improving service provider trend line, and we believe these positive service provider spending dynamics will continue moving forward. Moving now to cloud providers. We continue to broaden and deepen our relationships with cloud customers.

In Q1, total direct cloud revenue comprised 32% of total revenue. With five cloud providers in our top 10 customers for the quarter. AI is the key driver of scaling and provisioning these high speed networks to support increased bandwidth demand, and enable the monetization of AI. Today and well into the future. We expect these to be large, long term investment plans over many years to come. As evidenced by the strong CapEx plans and strategic commentary that most cloud providers have recently announced relating to networks. Turning to the critical technologies that are required by both our service provider and cloud provider customers, we are seeing broad based momentum again across our portfolio. WaveLogic six Extreme is off to an incredibly strong start in the marketplace gaining momentum with customers who seek increased capacity and reduced space and power requirements. In their networks. In Q1, we added 20 new customers for WaveLogic six 6E. And we continue to ship our WaveLogic V solution. In Q1, we reached more than 1,600 WaveLogic modems shipped worldwide. 160,000. Confirming the WaveLogic portfolio was the foundation for world class network backbones for the AI and cloud economy. Both terrestrial and subsea. And our intelligent line systems including our RLS Photonic platform and WaveServer Wave Length solution, [indiscernible] are designed for the type of traffic and applications that are emerging and are the preferred choice for both service providers and cloud customers alike.

In fact, we have nearly 100 total customers now for RLS, and more than 400 total for WaveServer. Importantly, our interconnect portfolio and represents a substantial growth opportunity for us moving forward. Particularly in the context of AI within the metro data center campus and in the future inside the data center itself. As a reminder, interconnects is a general industry term to describe the infrastructure technologies that provide the connectivity between and within data centers. It includes both pluggables and component technologies. Demand for our high performing best in class pluggables is strong and growing. Q1 was our highest orders quarter yet for pluggables. As we continue to take share in this fast growing market.

We are also on track for general availability of our 800 gig WAVELOGIC six Nano pluggable solution in the first half of this calendar year and expect deployments later in the calendar year for Metro The WaveLogic six Nano technology also supports the industry's first 1.6 T coherent light solution for two kilometers to 20 kilometer campus applications. Which will also be productized for deployment in the 26 timeframe. And in fact, we will also be showing the first live 1.6 T coherent light solution demonstration at the upcoming OFC conference in San Francisco in early April. And we will be hosting investor meetings to provide further details about our ongoing R and D efforts in this area. Before handing over to Jim, I'd summarize by saying that as the global leader in high speed connectivity, for both systems and the underlying technology, we are incredibly well positioned to partner with customers to address rapidly increasing bandwidth demands driven by cloud can and AI. As a result, we have strong momentum across our business which is driving balanced growth and providing a solid visibility and confidence in our future. Jim, can you now take us through a more detailed readout of our financial performance in Q1 as well as our outlook.

Jim?

Thanks, Gary. Good morning, everyone. As Gary mentioned, we delivered strong fiscal first quarter financial results. Total revenue in Q1 was $1,070,000,000 This included 210% plus customers, one cloud provider and one service provider. Adjusted gross margin was 44.7%, driven by a few non recurring events in including software. Q1 adjusted operating expense was $347,000,000 With respect to profitability measures in Q1, we delivered adjusted operating margin of 12.3% adjusted net income of $94,000,000 and adjusted EPS of $0.64 In addition, we generated $104,000,000 in cash from operations. Adjusted EBITDA was $156,000,000 Finally, we ended the quarter with approximately $1,300,000,000 in cash and investments. We We repurchased approximately 1,000,000 shares for $79,000,000 during the first quarter.

We continue to target the repurchase of approximately $330,000,000 total in fiscal year twenty twenty five. Turning to some additional highlights from the quarter. As Gary mentioned, we had a great quarter in optical. We have 25 total customers for WaveLogic six Extreme. Including large service providers like Lumen, it's just a lot Korea Telecom, Southern Cross and Vocus as well as several of the major cloud provider customers that are planning to standardize on this technology. We remain the only vendor in the market with a 1.6 terabit WAN solution and expect to hold that lead in this next generation of optical technology for at least two years. And pluggable momentum was strong in Q1, putting us well on track to at least double our revenue this year from fiscal twenty twenty four. In routing and switching, Q1 revenue was $93,000,000 up 17% sequentially. The total total count for our Adaptive IP customers is now three ninety. Including nearly 40 added during the first quarter. And we are winning new customers for our coherent routing solution, including Other portfolio highlights from Q1 include platform software and services, including Navigator, had another good quarter. With revenue up 6% year over year.

Blue Planet quarterly revenue nearly doubled year over year. Turning now to guidance. Before I talk about the guide, I will say that we are certainly aware of the potential for disruption in U. S. And the international economy given the prospect of additional tariffs and retaliatory actions.

However, we firmly believe that bandwidth demand will continue to grow through this period. Given the fluidity and uncertainty surrounding the situation, our guide does not include the effects if any, of additional tariffs. For the fiscal second quarter, we expect to deliver revenue in a range of $1,050,000,000 to $1,130,000,000 We expect Q2 adjusted gross margin to be in the low 40% range. And we expect adjusted operating We are very encouraged by the strength in our business and the continuation of positive demand dynamics across all of our segments. And we are very confident in our well established position as the global leader in high speed connectivity. As both our service provider and cloud provider customers invest at scale and monetize their networks in the AI era. Though it's still early in the year, [indiscernible] we are increasingly confident that we can deliver revenue growth range for fiscal twenty twenty five. Also, for the year, we continue, as we said last quarter, to expect adjusted gross margin to be in the 42% to 44% range for the year and adjusted operating expense to average $350,000,000 to $360,000,000 per quarter.

In closing, I'll say that the strength of orders across all our market segments and verticals indicates that our position in the market continues to improve. Our lead in technology, which we believe is sustainable, coupled with the depth and breadth of our customer relationships sets Sienna up nicely for long term growth. Michael, we'll now take questions from the sell side analysts.

We will now begin the question and answer session. The first question comes from Atif Malik with Citi. Please go ahead.

Hi. It's Adrienne Colby for Atif I was hoping we could talk a little bit about the dynamics you were seeing in the cloud service provider segment. Interested in what the linearity of the order trends were in the quarter, if you saw any kind of a pause or a shift or signs that cloud customers are rethinking some of their strategy for the year? Thank you. Adrian, I'd take that. We've seen very solid order growth really around accelerating demand across linearity at all around that. In fact, we're probably seeing an increase in demand, which has actually continued right now in Q2. We've actually started Q2. Another way of addressing your question here is saying, Q2, we've started super strong with cloud providers. And we expect that to continue. And the fundamentals around that dynamic are driven by a multitude of things. One is machine to machine learning. We see expansion opportunities there, particularly in North America, where there's a need to base [indiscernible] Therefore, it has to link up to multiple data centers requiring low latency And then globally, just the increase in cloud traffic and move to inference to link up all of these data centers.

Requires a very large scale up and build of submarine systems, metro across the global landscape. We have seen absolutely no yielding in that at all. In fact, I describe it as an acceleration. And when you think about it, they need to connect these data centers if they're going to monetize any of this. And in fact, if we get more proliferation of reasoning models, that's just going to drive more traffic, frankly.

One thing I'd add to that, Gary, is that as in a more general sense, our orders for the quarter were more than double over the last year during the same quarter and well above our revenue. And about half of those orders were cloud. So it just accentuates the comments that Gary made.

Thank you.

The next question comes from Meta Marshall with Morgan Stanley. Please go ahead.

Great. Thanks. Maybe to start with, just in terms of kind of following up on the previous question, but just kind of how do you see seasonality of cloud customers? Obviously, it's kind of down quarter over quarter, but you noted very strong order activity. So just kind of what you're seeing in terms of seasonality? And then maybe as a second question, you noted no further tariffs contemplated, but just what are you assuming for tariffs as announced? And just how are you looking to mitigate those either through price or moving kind of distribution? Thanks.

I don't want to take the first part of that and then Jim can take the second. On the cloud side, we're not given the scale up and the nature of it, when I think we're not really susceptible to seasonality. You can have some ebbs and flows based on the end of the calendar year and shipments and things. But on the whole, I don't think you're going to see a lot of of seasonality here. I think it's largely up into the right. With a few variables quarter by quarter. I think there's an increasing demand to make sure that they've got the right kind of scaled infrastructure and connect [indiscernible] is now really another way to simply think about it matter is this stuff is now beginning to come outside of the data center. Both in terms of training and in terms of inference and just the general growth in cloud traffic. And I think that's going to be a very consistent over I I think, the next few years.

And on the tariff situation, Meta, as you can appreciate, it is very fluid and dynamic. There have been lots of changes and decisions, lots of changes to decisions made on tariffs over the last few weeks We've certainly been very busy looking at how we will mitigate the tariffs if and when they come into play. And we do have a resilient supply chain that allows for this kind of mitigation. Depending upon the shape of the ultimate tariffs. We'll work with our customers for reimbursement of tariffs. So we just didn't put it in there. We'll give you a view of that when and if we have certainty.

Okay, great. Thank you.

Thanks, Matt.

The next question comes from Amit Dariani with Evercore. Please go ahead. Good morning. Thanks for taking my question. I guess maybe just to start on gross margins. Jim, you sort of mentioned there were some one time benefits in the Jan quarter you folks had. So could you just talk about very strong performance in gross margins in the Jan quarter? Sort of what drove that upside and what were the things that were perhaps nonrecurring and were not sustained in out quarters?

Yes. I think you can appreciate from past quarters that gross margin is difficult for us to call precise because there are any number of things that can happen during the quarter that can that are unexpected. In this most recent quarter, we had several unexpected one time events including some software events that drove it up. We also had a good performance on the supply chain in terms of overheads So all of those things were good. We did greatly exceed the number we put out for you this quarter. We don't expect those effects to occur in Q2. We are returning to our guide of low 40s for Q2. Remember, we said at the beginning of the year, the first half of the year was going to be in the low 40s. [indiscernible] Second half of the year was going to be toward the mid-40s and we'd end up the year 42% to 43%. We still believe that to be true. Over the long term, we're hopeful that margins will improve. Fair enough. And then if I kind of step back and think about your commentary around auto growth and the cloud demand, it all seems like up into the right.

I was wondering if you kind of stack that up against your April guide, which I think is calling for revenue growth of low single digit 2% sequentially versus I think historically, it tends to be up more like 6%, 7% mid to high single digits. So maybe just talk about the guide for April seems to be a little bit lower than normal seasonality. Despite some very positive commentary on orders and cloud from your side?

I'd respond to that this way, Amit. We used to have a reasonably predictable seasonality in our order and revenue flow when our business was service providers. Now our business is roughly half driven by cloud providers and their order flow and the resulting revenue is more a function of what projects they're working on at any point in time as opposed to annual seasonality. So my own feeling is that you shouldn't compare year over year here that much. In terms of overall revenue. You should look at the trend. And as you know, we're calling 8% to 11% for this year and actually we're going to 10% toward the higher end of the quarter for the year.

The other thing I'd say, Amit, is obviously we had we've said we've had strong order flows, obviously, greater than one. Much greater than one, and our backlog continues to increase. So I think we're setting up for a strong second half as well. And just to clarify one point, the guide for the year on the gross margins 42% to 44% in total.

Thank you, Gary. I misspoke.

Perfect. Thank you.

Thank you.

The next question comes from Sameek Chatterjee JPMorgan. Please go ahead.

Hi. Thanks for the question. This is Joe Cardoso on for Samik. I guess first one from my end, as you're thinking about the updated full year outlook for revenue, I guess is there any change in terms of how you're thinking the composition between the customer verticals that you serve And maybe just more specifically in terms of guiding or raising the guide here, is there days ago or is this more broad based in terms of what you're seeing the verticals and the trends you're seeing? And then I have a quick follow-up. Thank you.

Let me take that first and then Jim may add. I would say what's driving the increase for the year. I would say that's two things. One, I think increasing confidence around the service provider recovery. We've seen multiple data points around that and it's quite broad. But I think rather in terms of getting to the up side, that's largely all cloud. That's largely cloud. I mean, we've got increasing confidence the service providers are going to do what we thought they'd do in terms of the recovery. Which is pretty broad based. And I think the additional piece that would take it closer to our higher end of our range is really driven by cloud.

No, got it. Thank you. And then for my follow-up, just curious if we can get an update on how you're seeing the pluggable opportunity unfold for the year. Anecdotally, it kind of sounds like you guys are more confident around revenues here at least doubling for the year. So just curious is that fair in terms of seeing a better demand in terms of ninety days ago? And then as you think about the expectations for the year, any way to kind of size the contribution between how much is coming from Nano five versus in terms of what you're embedding into the outlook?

I think Jim I think well, I mentioned it in the comments where we had [indiscernible] And I think we're increasingly seeing as pluggables move towards higher speeds that really plays into into our portfolio. So I think we've said we expect it to double for the year. And we're absolutely well on track to doing that. Scott, is there any other anything else you'd add there?

Yes, a couple of things. First of all, I think we're seeing growing momentum and we expect that momentum to accelerate as higher speed pluggables becomes a reality with the introduction of of our WaveLogic 6N, 800 gig per plug and beyond that 1.6 terabits. So we're pretty bullish about that and our ability to gain share in that space. And reminder that, that is incremental opportunity for us as a as a company. And then following on from that, we do see a continuing march of coherent technologies being being the preferred option in different parts of the network. We've seen it in the WAN for many years. We've seen it now in Metro DCI for the last couple of seasons. And we firmly believe we're going to see that in the campus, the two to 20 kilometer space over the next couple of years and being the leaders in Coherent that sets us up well for that. Your question on WaveLogic V versus WaveLogic six, look, we've done this many generations over in terms of coherent technologies. It always takes a couple of years for the latest and greatest technology coming out. [indiscernible] out of the machine to become the dominant volume contributor.

So we would expect WaveLogic five to to be the volume dominant contributor through 2025. We do however, those new technologies are the the vehicle that we use to compete for new business. So it's incredibly important in terms of winning new footprint. It just takes a while for it to become the volume contributor.

No, understood. And then I appreciate all the color guys. Thank you.

Thanks, Joe.

The next question comes from Simon Leopold with Raymond James. Please go ahead.

Thanks for taking the question. Look, I understand that our are very fluid and change by the minute some days. But I guess what I'm trying to get a better understanding of is I feel like your supply chain and contract manufacturer relationships have been reengineered somewhat and changing apart from tariffs. So if you could help us in understanding maybe what exposure to Mexico and how you envision this changing because I believe you're moving more into Southeast Asia So any way to sort of quantify the risk if the tariffs stick as they are today, And what else is going on in your supply chain reengineering?

Thank you.

We've designed our supply chain for resilience. So we have the capability to manufacture and a lot of different places, just about all of our products. Our supply chain comes from Mexico, Thailand, Canada, India, I think that lists them all for now. And we do have a concentration today in Mexico and Thailand but we do have the capability to move that around depending upon what the shape of the ultimate tariffs are.

Follow-up from Jim, a couple of things to note in terms of the architecture of the supply chain. We've taken steps over the last couple of years to take direct control over our component in feed in the vet supply chain so that we have the flexibility to direct it to different locations and contract manufacturers around the world to take advantage of the resilience that Jim talked about. And just a reminder, I think many of you know, because we had the conversation in the past, but our architecture we own all the test assets So we have the ability to invoke that flexibility over time.

And move the production around the world. Obviously, it's shorter time intervals where we have existing capacity for the for a given product. And that time intervals will will lengthen if we have to go to a new location, but we do have that capability.

Yes. Thank you. That's Simon. It would not be I was going to say, Simon, it wouldn't be useful for us to quantify these exposures because it's very dynamic. And we have the ability to move things around. So as I said, when we have certainty, about the effects of these tariffs, we will update you as appropriate.

Thank you very much.

Thanks, Simon.

The next question comes from Tal Liani with Bank of America.

Please go ahead. Hi. I had a few small questions kind of What are the applications for WaveLogic? Why is it growing? And where do you see it in the network? And the second question is about pluggables.

Can you same question kind of, is it because is the growth because of the launch of 800 gig or is it in 400 gig and are you taking share from The market share data shows that Cisco was very, very strong in 400 gig. So can you give us a little bit more on pluggables? And I have one little question at the end.

Yes. So Tal, it's Scott. So first of all, starting with our traditional core strength in our business in long haul submarine metro regional networks We're seeing tremendous demand for increased traffic on those networks driven by all the cloud and AI dynamics that we've talked about on the call. We see it coming at us in terms of demand for wavelengths in various different forms, whether it be pluggables or embedded in our systems. And we see it in tremendous demand for lighting new fibers with our [indiscernible] So that's the first place where we're seeing it from an application set perspective. Second place for us is around the metro DCI space and And remember that wasn't if you go back four or five years, that wasn't really the domain coherent technologies. It's become the de facto way to deliver it. That's where the pluggable opportunity has really pluggable coherent opportunity has really been over the last couple of seasons. We serve that with our WaveLogic 5N. We weren't first to market with that [indiscernible] see our share substantially growing. And we think that's going to grow substantially over in 2025 and will continue to grow as the data rates go from 400 gig to as you mentioned 800 gig or 1.6 eventually there as well.

So that's here now. That is really mostly net new business for us because we never really had exposure in the past that MetroDCI use case. Looking more into the future, we do see that continued March of coherent being relevant to their high speed data interconnect. The next place it's going to hit, we've been saying this for a while, but now others in the have joined us in saying it is in the two to 20 kilometer campus data center interconnect, which has not been coherent in the past. We would expect to start seeing revenue in our business in 2026 on that use case. And those those all of that is included in our three year guide. We have a further belief system beyond that that that march of coherent is not going to stop at the walls of the data center. That is going to bleed into the data center as bandwidth rates increase and the technical challenges servicing those bandwidth rates gets larger. That's a little bit farther out in the future. We do believe that that is going to happen and we being the leaders in coherent that will benefit us. But from a timing perspective, it's a little bit beyond what our three year guide was.

Hopefully that helps in terms of Perfect. Thanks for the elaborated answer.

Services, last year was a big year like a big quarter. Same quarter last year was a big quarter for service growth. This quarter, it grew 2.5%. And I see that the growth kind of decelerated throughout the year, 2012 and '5, then 03/2005, 2.5 now. What are the trends in services?

Generally speaking, our services business has grown it's grown grown roughly correlative to the optical growth. I would say that we've had a lot of opportunities to help our cloud providers most recently in building up their network because they don't necessarily have all the resources to do all the building and implementation that they need in order to get their networks right. So we're very happy with our services business and we think it's going to grow for the future. All of the sequential movements are basically just noise.

Tao, one thing I would sorry, Tal, one thing I'd just add to that is we are seeing an uptick and net of the flowed through the revenues yet probably, but in installation services. Both as Jim said for the cloud players and also the service providers. So it is a bit of a sort of a proxy for the consumption and increase of the build out of the networks is the ramp in our installation services.

So, Jim, the range for year over year growth in the last April was very, very big. From 2% to 12%. What's a good assumption for us for kind of steady state growth ignoring all the mountains and valleys, what's a good assumption for services growth, annual growth?

I wouldn't use any particular quarter. What I would use is, generally speaking, our services revenue is going to grow approximately as our optical business grows over time. It It might in any given quarter grow faster or slower given what's going on with particular projects, but I don't think it's a bad proxy. Whatever your assumptions is about optical growth, to use the same for services growth. Got it.

Okay. Thank you.

The next question comes from Tim Long with Barclays. Please go ahead.

Hi, good morning. This is Alyssa Streves on for Tim Long. I just had a quick question on the service provider business. Now with the kind of gradual recovery you've seen in service provider, can you talk about the MOPHAN opportunities there? Should we still expect this to be kind of around 10% to 15% of telco? Just trying to get any color there. And then just a quick question on India. How are you guys viewing India recovery this year upside there? Thank you. [indiscernible] the Mofun we've generally said certainly in the last sort of twelve, eighteen months, it's probably about 10% plus of our service provider business. I think that's going to increase over the next years or eighteen months We're seeing a real expansion in opportunity around the globe for these build outs, which is very consistent. With the cloud players wanting to build out their global network capabilities and that's encompassing submarine, It's encompassing a lot of geographies around the world, Europe, Middle East, Asia, India, So I would expect that to increase over time. You say 10% to 15%. I would even potentially say over the eighteen months or so could be as high as you know 10 to 20.

Given the activity that we're seeing, and they want to participate [indiscernible] in the ecosystem build out of this. And there are large parts of the world where for various reasons, the cloud players don't want to have the regulatory challenges of a license, etcetera. And they need to provide the right kind of capacity to enable their business and their connectivity to data center and consumers. And so I think this is a multiyear year expansion on Mofund. And on India, as you say, it's been a couple of years of kind of digest gs. I think we're now seeing an improving pipe Some of that again to your earlier question is driven by MoFern, a lot of cloud fastest growing Internet market in the world. And so we feel pretty bullish around India and would expect it to be up for the year by the time we come out of Q4.

Thank you so much. I'll just add that we have great positions with all of the three or four major operators in India. And I think that will be a real source of growth for us over the next few years.

Thank you.

Thank you.

The next question comes from Ruben Roy with Stifel. Please go ahead. Thank you. Gary, maybe to stick with the international service providers theme, wondering if you have some updated thoughts for us on the Huawei potential for Huawei replacement across various geographies now that inventories have normalized and supply chains have normalized. Any updates there? It sounds like there might be some movement. So just wondering if that's at all, if there are any assumptions with that replacement cycle over your next three year outlook.

Okay.

No, I think we've always said this, the greatest opportunity opportunity really is in Europe and that remains the case. It is a multiyear opportunity. This is sort of they have a lot of infrastructure here. It's integrated into their back office. And there's not the obvious sort of free cash flows immediate to be able to rip all that stuff out. So you've got operational issues, you've got capital issues, it's etcetera. And that's what's taken a long time. And I think just by its very nature, So I think you've still got a multiyear opportunity in front of us around the Huawei replacement. You are seeing it happen. We are winning those deals more than our fair share of that particularly in Europe. And I think that's going to be a tailwind for us as the service providers recover over the next one to three years.

Thank you, Gary. And I had a follow-up for Scott, I think. Scott, kind of considering some of your commentary on kind of longer term potential opportunities inside the data center, there's been a lot of chatter in recent weeks and months around CPO. And I assume we're going to hear more about that over the next several weeks.

What are your thoughts there? Again, thinking through sort of longer term prospects for Ciena I either with transceivers or ingredients that make up transceivers inside the data center CPO, an opportunity, a threat or neutral?

Thank you.

Hi, Ruwan. Thanks for the question. Yes. So if you take a step back, think of whether it's CPO or various other different packaged OpEx, LPOs, etcetera. That all speaks to the industry trying to innovate around solving the challenge of continued increase in demand for scale. And that's scale and compute, but also also scale in terms of the high speed data interconnects And clearly, we're at Ciena, we're more interested in the high speed data interconnect piece of that. All the applications that I talked about, coherent, sort of having an expanded market perspective, I don't the CPO conversation has any impact at all on those. The CPO, we've never said, by the way, given that even given the march of Coherent becoming more and more relevant, up to the walls of the data center and inside the data center. We never said IMDD or Direct Detect was going to go away. CPO and the other different flavors of it is at a really high level is a repackaging of that IMDD technology to solve for the scale issue. We think there are going to be other challenges there as well and we think some of the component technology that we've had to solve for inside of coherent may have a play as people try to figure that out as well.

We see an opportunity to play both sides of the street, coherent as it comes inside the data center. And then as they try to solve some of these scale problems, in the IMDD world, we have we have some value there as well. Those are conversations that are ongoing. None of that inside the data center stuff, those in our numbers right now.

Right.

Thanks a lot for the details, Scott.

The next question comes from Tim Savageaux with Northland Capital Markets. Please go ahead.

Hey, good morning.

A couple of questions. I guess the first one on the competitive front, I'd just love to get an update on given the closing of the Nokia Infinera deal, Are you seeing anything changing competitively either on the cloud side or the service provider side of the market? And I'll follow-up.

Tim, I would say that we've obviously competed with them separately and we've done extremely well with that. And I think we're we're incredibly well positioned with competitive advantage and a multiyear technology advantage on both modem, line systems and micro services domain manager. So I don't think anything changes from that point of view.

Obviously, they've got the challenge of rationalizing the portfolio. So I think that's that's an opportunity for us as they try and figure out their portfolio. So I think in the short term, that's a good opportunity for us.

Great. Thanks. And I think Gary, you mentioned that in terms of upside drivers for the year you felt them the cloud was really driving it.

But if you look at the dynamic in Q1 where you've got service provider up double digits and cloud down a little bit, As you look at fiscal twenty twenty five and look at that kind of low double digit growth that you seem to be targeting I mean is it possible that most of that comes from service provider this year? Given the dynamics or that we are expecting to see a big ramp in cloud later in the year? Looks like your orders might be a little bit. I would Yes, I would expect to see a big ramp in cloud. I mean, I think so what were the assumptions going in kind of midpoint of that original guide? Was the service providers sustained rig recovery and I think we're very confident about that now. So tick, let's one of the big assumptions. I think touched And I think the upside to the range was always really around cloud. And I think given the order flows and pipeline and activity that we're seeing, both on Mopha and on direct. I mean the order flows in in Q1, almost half our orders directly were from cloud. So we're getting good visibility into that as they plan these global build outs So I would expect that to come on strong in the next few quarters from a revenue point of view.

It absolutely will. And I think it'll it'll form the main elements around driving us to the high end of the range.

Great.

Thanks very much. Thank you.

The next question comes from Ryan Coons with Needham. Please go ahead.

Great. Thanks for the question. If you could double click for a minute on the strength out of North America SP, which really sounds like it got off to a strong kind of unseasonably robust start here. Is that driven by just purely an improved spending environment or maybe are there specific programs or share gains that are driving that uptick?

Yes. Ryan, I think we've had a number of design wins over the last couple of years that are now beginning to come to fruition with with the major service providers in North America. So that is particular to us. I think secondly, you've seen this dynamic around getting inventory Ciena balance I think over the last few quarters that's cleaned itself up.

And so now we're able to recognize revenues and new orders. And I think that's that's sort of all in balance. And I think the third dynamic is the just haven't invested as much in infrastructure over the last few years. And I think part of that is they've been focused on five gs. And that both in The U. S. And global [indiscernible] And so they're now returning to look at their overall infrastructure automation of the networks, and how do they sort of scale that to meet the demands of things like Mofern and Cloudex. So it's a multitude of dynamics that we're seeing, some of which are just industry based. Some of which are are the preferred partner in all of the major Tier one carriers in North America. And that's also playing into the strength.

That makes a lot of sense. Thanks for that.

And with respect to your broad exposure in cloud, which sounds like it's it's poised to see some strong sequential growth through this year. Would you attribute that coming primarily from kind of the top four classic players or historically more recently you've talked about strength out of the next tier, Tier 2s that are growing rapidly. How would you characterize your growth there? And exposure?

Yes. I mean, it's tough to think about these as Tier 2s as well, the size of their business. I think it's sort of their now sort of pivot towards the network part of it, which they've not been focused on before. So I think a telling statistic which folks might have missed is we've now got five cloud providers in our top 10 customers for Q1. And I think that kind of illustrates the sort of point that you're making around It's broadening out the amount of players that are investing and realizing that for them to optimize their position, around AI and cloud that they've got to actually focus on the network. From a delivery point of view and a monetization. And you're seeing we've had a number of wins in these newer they're certainly well established large companies but these newer wins that are focused on the network and so you've got an expanding group of players. And we've also got deepening relationship with the major existing players as well. You think about the relationships we have, it's submarine, it's metro, it's long haul, it's pluggables, it's into the campus now with some of the pluggables. It's the services aspect of it We're increasing our engagement around all of that.

So it's So it's both broader and deeper in the cloud market.

Makes a lot of sense Gary. Thanks for that.

The next question comes from David Vogt with UBS. Please go ahead.

Thank you. It's Andrew for David. Wanted to ask a higher level gross margin question. I think you've said you expect it to move higher over time. And I think I expect it to move maybe 100 bps, 200 bps higher to get to your three year plan for your margins. And what I'm thinking about is I'm wondering can I model and think about your gross margins moving higher over time as revenue scales and you get typical scale benefits? Or should I think about it more as something that kind of goes sideways for a while and then inflects as your revenue shifts away from line systems. And so maybe the gross margin ramp in the three year model is more back half loaded. I'm trying to think through that Yes, I'll answer that. Notwithstanding the fact that we had some unexpected one time effects in this most recent quarter, Our gross margin is most heavily influenced by mix. And typically, we have a somewhat razor razor blade structure of pricing and gross margins as we put out the original line systems and photonics, that's at a lower gross margin. As we add capacity to the lines, it's at a higher gross margin and where our business has worked for a long, long time.

It happens to be the fact that our RLS line system which is the next gen line system, it's becoming an industry standard, is really doing extremely well in the marketplace. Essentially, all of the cloud providers are buying that. Most of the service providers are or will buy it. And so we have a very heavy percentage of RLS in our mix. We also are beginning to sell plugs and these are 400 ZR plugs. They're at a higher cost point than they will be going forward as we get production to scale. And as we cost reduce those products. So we are experiencing a period of lower than trend gross margins, which will trend up over time. I do that it will trend up from what we're calling for Q2. And I think as we move through time, we're going to get back to a more traditional balance between line systems and capacity, which will naturally move our margins up. So as you said, I think it's it's reasonable to expect something in the mid-40s over the next couple of years. It's not going to happen this year, probably not going to happen next year. But I think by the time you get out to 27, we should be in that range.

And where it goes from there, who knows? We'd like to get back to the mid-40s and then we'll work on it to improve it.

Thank you.

Thank you, everyone. We'll take a question and answer session. I'd like to turn the conference back over to Greg Lamp for any closing remarks.

Thanks, Michael. Thank you everyone for joining us today. We do look forward to seeing everyone at OFC. We will be hosting, as Gary mentioned, a number of investor meetings through that conference. And we look forward to seeing you also at event we are planning that Tuesday at 04:45 Pacific. Thanks and we will speak to you all soon.

The conference has now concluded.

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