ADTRAN Holdings, Inc. Q1 FY2023 Earnings Call

Ladies and gentlemen, thank you for standing by, and welcome to ADTRAN Holdings, Inc. First Quarter 2023 Earnings Release Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer period. During the course of the conference call, ADTRAN representatives expect to make forward-looking statements that reflect management's best judgment based on factors currently known. However, these statements involve risks and uncertainties, including the ability of component supplies to align with customer demand, the successful development and market acceptance of our products, competition in the market for such products, the product and channel mix, components cost, freight and logistics costs, manufacturing efficiencies, or ability to effectively integrate mergers and acquisitions, and other risks detailed in our annual report on Form 10-K for the year ended December 31, 2022, and our quarterly report on Form 10-Q for the quarter ending March 31, 2023. These risks and uncertainties could cause actual results to differ materially from those in the forward-looking statements, which may be made during the call. The investor presentation found on ADTRAN Investor Relations website has been updated and is available for download. It is now my pleasure to turn the call over to Tom Stanton, Chief Executive Officer of ADTRAN Holdings. Sir, please go ahead.

Thank you, Rob. Good morning, everyone. We appreciate you joining us for our first quarter 2023 earnings conference call. With me today is ADTRAN Holdings' CFO, Uli Dopfer, and also joining us today is Christian Glingener, ADTRAN's CTO. Following my opening remarks, Uli will review the quarterly financial performance in detail, and then we'll take any questions that you may have. I'll start by offering a high-level summary of what happened in the quarter and our views of the market going forward. As I mentioned in our pre-release, the results of the quarter were impacted by slowing revenue, predominantly in our Subscriber Solutions category. While we did have more than enough backlog to cover this gap, supply chain constraints hindered our ability to overcome these challenges during the quarter. We believe the slowdown in Subscriber Solutions was the result of increased scrutiny of inventory levels with our customers, driven by a combination of reduced lead times in the market and uncertainty in the broader economic environment. Looking ahead, while we do expect higher inventory management to continue to impact us in the near term, our longer-term growth outlook remains unchanged, given the historically high demand for fiber networks, our diversified customer base, and the progress we have made with fiber footprint capture. With that background, let me provide some additional context. ADTRAN has built a comprehensive fiber network portfolio built upon three key pillars: Optical Network Solutions, Access & Aggregation Solutions, and Subscriber Solutions. Each of these categories is ultimately tied to the build-out of fiber networks, which continue to have a positive outlook given the investments planned in fiber networks in the years ahead. In addition to market growth trends, we are also benefiting from cross-portfolio synergies as we integrate our teams and processes and are better positioned to cross-sell our larger fiber portfolio. In the Optical Networking Solutions, we have had back-to-back record quarters, and we experienced growth across all regions in this past quarter. Our strongest region for this portfolio has been Europe. With the strength of the combined company, we have been the biggest beneficiary of share shift away from high-risk vendors. Vendor selection activities in the metro optical space remained at their highest levels in many years, highlighted by our involvement in eight large carrier opportunities right now. In our Access & Aggregation Solutions, we continue to see good progress in wrapping our large carrier customers in Europe, while also being well positioned in six new large carrier investments or selections in that area. Like the optical transport segment, this elevated vendor selection activity is accelerated by the shift away from high-risk vendors and ADTRAN continues to be a key beneficiary in this market shift. Within our existing large fiber access customers in Europe, there has been one notable customer that has publicized CapEx reductions in their current plans. We continue collaboration with these customers and others in this region. We are assured that their long-term fiber deployment plans remain in place, and in some cases, we have actually seen an acceleration in these plans into this year, reinforcing this long-term strength in fiber network investments that we see going on in Europe. In the U.S. market, we had 47% quarter-over-quarter growth with our fiber access platforms, driven by success in the regional service provider market, reinforcing our continued growth in capturing new fiber footprint. We now have over 600 operators globally deploying our fiber access platforms, including 11 new operators that we added this quarter. On the Subscriber Solutions category, we did experience high volatility during the past quarter. However, as we capture new fiber footprint and more customers upgrade to 10-gig fiber access networks and multi-gig WiFi networks, we expect to see this category return to higher growth. The same is true for business and wholesale services that continue to shift to higher-speed fiber services. This fiber networking portfolio spanning the metro core to the customer premises is complemented by a comprehensive software and services offering that simplifies engineering, deployment, and ongoing operations associated with these fiber networks. On the software side, we see continued demand for SaaS applications with over 200 service providers already adopting our Mosaic One offering, up from 150 customers at the end of last quarter. In summary, the long-term demand for fiber networks has not changed despite near-term inventory adjustments and economic uncertainties. Our progress in capturing new footprint for our optical infrastructure platforms, including both optical transport and fiber access, has us well positioned to benefit from the long-term investment in infrastructure, software, and services to support these fiber networks. Our ability to grow our customer base and cross-sell our combined portfolio will continue to improve as we further integrate our sales teams and processes. While we remain confident in the long-term outlook, we will be cautious in our spending as we traverse this period of uncertainty in the market. We are on track with our previously stated synergy goals, and we expect to see meaningful improvements in our operational expenses this quarter as compared to last. Before I hand things over to Uli, I'd like to thank Mike Foliano. Mike, as many of you on the call know, has been our CFO for several years, and he's been with the company for 17 years. Mike has been a dedicated professional and a fantastic teammate. I'm extremely grateful for all the years of service he contributed, and I wish him all the best as he moves forward into his new life. We are transitioning that role from Mike to Uli. And with that, I'm going to turn things over to Uli to go over the financials. After that, we'll open up for any questions you may have.

Thank you, Tom, and hello, everybody. I will cover our first quarter 2023 final results and provide our expectations for the second quarter of 2023. Please note that Q1 2023 results include a full quarter consolidation of the ADVA financials, which affects year-over-year comparisons. Since this is the case, I will refrain from repeating the consolidation effects when discussing the year-over-year comparisons of our results. I will be referencing non-GAAP information with reconciliations to the most directly comparable GAAP financial measures presented in our press release and also certain revenue information by segment and category, which is available on our Investor Relations webpage at investors.adtran.com. In addition, we have updated the investor presentation to the site, which is available for download. Unless stated otherwise, all financials are presented in U.S. dollars. Let's move to the revenues. Q1 2023 revenue came in at $323.9 million, up 109.6% year-over-year and down 9.6% quarter-over-quarter. As already presented in our pre-announcement, we missed the lower end of our guidance range of $355 million to $375 million by 8.8%. Our Network Solutions segment accounted for 87.2% of revenues in Q1 2023 compared to 89.6% in Q1 2022 and 89.4% in Q4 2022. Our Services & Support segment contributed 12.8% of revenues in Q1 2023 compared to 10.4% in the year-ago quarter and 10.6% in the previous quarter. Year-over-year and quarter-over-quarter revenue decline was primarily driven by inventory management in our customer inventory for ONTs and Ethernet in the Subscriber Solutions category. While this category was up 39.9% year-over-year, it was down 34.1% quarter-over-quarter. Supply constraints also limited our flexibility to clear path to backlog across all product categories. However, Optical Networking and Access & Aggregation performed as expected. Optical Networking Solutions category contributed 45.6% of revenue and was up 3.9% quarter-over-quarter. Access & Aggregation revenue share was 29.9% and was slightly down 1% year-over-year and increased by 1.1% compared to Q4 2022. On a regional basis, for year-over-year, first quarter domestic revenue grew by 32.7%, international revenue increased by 246.9%. International revenue made up 59.4% of our revenue and domestic revenue contributed 40.6% of Q1 2023 revenues, similar to Q4 2022. We had two 10% or more revenue customers in Q1. Q1 non-GAAP gross margin was 37.3% and increased by 200 basis points year-over-year and decreased 180 basis points sequentially. The year-over-year increase is due to improved purchasing and transportation costs. The quarter-over-quarter decline in gross margin was primarily attributable to an increase of our inventory reserves as well as lower absorption credit compared to the previous quarter. In addition, an unfavorable customer and product mix contributed negatively to our gross margins. Our non-GAAP operating expenses were $125.9 million, increasing by 137% year-over-year and 6% quarter-over-quarter, which were primarily driven by increased labor costs and higher R&D expenses. Non-GAAP operating expenses were 39% of revenues compared to 34% of revenue in Q1 2022 and 33% of revenue in Q4 2022. Non-GAAP operating loss was $5.2 million, which translates into a non-GAAP operating margin of negative 1.6% compared to positive 1% in Q1 2022 and 6% in the previous quarter. The decrease in profitability was driven by the low revenue volume at lower margins and an increased cost base. Let me emphasize that we are striving to significantly lower our cost base in the near term to adjust for the lower-than-expected revenues by accelerating our synergy efforts and optimizing discretionary spending. Non-GAAP other expenses was negative $3.3 million and was mainly driven by higher interest expense. The company's non-GAAP tax provision for the first quarter of 2023 was $1 million or 12%. The company's GAAP tax was a benefit of $11.3 million or 22%. The difference between the GAAP and non-GAAP rates was primarily driven by the jurisdictional mix of the non-GAAP adjustments during the quarter. Closing out our income statement results, total non-GAAP net loss was $9.5 million and a net loss of $5 million after adjusting for minority shareholder interest in ADVA. This results in diluted loss per share attributable to the company of $0.06 per share. I will discuss the details of the EPS calculation later in this call. Let's move to the balance sheet. Turning to the balance sheet and cash flow statement, cash and cash equivalents totaled $136.5 million at quarter-end. For the quarter, operating cash flow was negative $19.9 million due to lower earnings and increased working capital. Trade accounts receivables were $262 million at quarter-end, resulting in DSO of 73 days compared to 72 days in the prior quarter. Inventories were $416.3 million at the end of the first quarter, resulting in turns of 2.2% compared to 2.4% in Q4 2022. Accounts payables were $198.6 million, resulting in DPO of 69 compared to 80 in the previous quarter. Q4 2022 was an unusual back-end loaded quarter, which resulted in higher trade accounts payables and explains the drop in DPO in Q1. Working capital management and free cash flow generation is one of our focuses during 2023. We expect that we will continue to carry a high amount of inventory in 2023, which should improve during the second half of the year. Paired with improvements in operating results and strict cost controls, we expect free cash flow to turn around in 2023. Following the DPLTA registration in January 2023, ADTRAN and ADVA can now fully integrate and work on utilization of revenue and cost synergies. As of today, ADTRAN owns 65.4% of ADVA shares, which results in outstanding ADVA minority shares of $18 million. ADVA minority shareholders still have the option to tender their shares for a cash compensation of €17.21 or to receive €0.59 fixed annually recurring compensation payment from ADTRAN for the duration of the DPLTA. As of today, 62,435 shares were tendered. On April 18, ADVA applied for a segment change from prime to general standard to reduce complexity and costs. Our focus is on the successful integration of both companies, combined with achieving our cost targets on the increase of operational efficiency and, as a result, free cash flow generation. A potential delist offer is not a priority for 2023. Since the DPLTA was registered on January 16, the accounting treatment of minority shareholder for Q1 is a combination of the previously applied method, a percentage of adverse loss or profit for the time prior to the DPLTA plus the recurring cash compensation of $2.8 million. In Q2 2023 and beyond, only the recurring cash compensation of approximately $2.8 million will be applied. Quick update on synergies. We remain committed to realize cost synergies of $52 million, as already communicated previously, of which we expect to materialize approximately 40% in 2023 and 60% in 2024. 30% of cost synergies can be allocated to the cost of revenue sold and referred to synergies in purchasing and logistics. 2023 cost synergies were already identified, and we are on track to achieve them during the year. Now to the guidance. Looking ahead to the second quarter of this year, the ability of component supplies to align with customer demand, the book nature of a large portion of our business, the timing of revenue associated with large projects, the variability of ordering patterns from our customer base as well as the fluctuation in currency exchange rates and additional required purchase accounting adjustments related to the business combination may cause material differences between our expectations and the actual results. We continue to focus on the supply side, optimize our cost base and merger integration. We anticipate further improvements in the semiconductor supply chain and expect our backlog to moderate and to decrease inventories over the next few quarters. We will continue to focus on cost management and operational efficiencies while investing in key areas to drive growth. As Tom already stated, we believe that the inventory reductions that we experienced with our customers and across the industry are transitory, and we expect to see improvements to both the oversupply of CPE products and the backlog of products across all categories in the coming quarters. The fundamental growth catalysts remain intact, and we remain confident to be ideally positioned for sustainable growth due to the ongoing demand to upgrade and deploy new fiber networks. While we are confident regarding our long-term outlook, we remain cautious in the near term due to tighter inventory management of our customers. Consequently, we guide for our second quarter 2023 revenues to range between $325 million and $335 million, and we expect a non-GAAP operating margin of between 1% and 2% of revenues. Once again, additional financial information is available at ADTRAN's Investor Relations webpage. And with that, thank you, and now I'll turn over back to Tom, and we will take your questions.

All right. Thanks, Uli. Rob, with that, we're ready to open up for questions.

Certainly. Your first question comes from the line of Michael Genovese from Rosenblatt Securities. Your line is open.

Thank you for that update. Tom, regarding our broadband and optical infrastructure business, the results have been solid. I’m looking for your insights on the outlook in those areas. I noticed that ADVA projected high single-digit to low double-digit revenue growth for 2023. Can you provide more details on that? Additionally, what trends are you observing in the broadband infrastructure segment in the U.S. and Europe? It would be helpful if you could elaborate on your earlier comments about the macroeconomic situation and specific carriers.

Yes, you're correct. The infrastructure business had a strong quarter. However, we have some concerns about the uncertainty regarding inventory levels. There are two main factors contributing to this unease. First, companies are reducing their inventory levels after previously stockpiling during the supply chain crisis, leading to varying amounts of excess inventory among different sectors. In terms of customer premises equipment (CPE), it's crucial to have this gear as it's essential for generating revenue, and most carriers have been increasing their inventory in this area. Nonetheless, we are being cautious because even if there aren't significant inventory buildups in other parts of the business, companies will need to adapt to current lead times, which have significantly decreased from six months ago. Lead times that were once around 52 weeks are now closer to four months. This means that not only is there more inventory on hand, but ordering patterns will also change to reflect the shorter lead times. Understanding how much inventory is currently out in the field and how much needs to be utilized is critical, requiring us to approach this situation with caution. If the inventory is used up more quickly, that's fine, but we need to manage the company carefully in this somewhat uncertain environment. The underlying demand hasn't decreased; in fact, activity in Europe, especially regarding fiber access and optical transport, continues to thrive and is at levels not seen in over a decade. The major carriers' plans remain intact, and we’ve even noted some acceleration in Europe. In the U.S., some areas are seeing a slowdown, but Tier 3 carriers performed well and continue to do so. Inventory adjustments are also a factor in the U.S., though Europe appears less affected by these changes. I hope this answers your question, Michael.

You covered all the key points in your detailed response, which I appreciate. However, I'd like to follow up with a question. My follow-up pertains to the inventory issue regarding CPE that you highlighted this quarter. It seems from the discussion that you don't anticipate it worsening significantly. While it may affect this quarter, I'm curious if you could clarify something. You mentioned that lead times for WiFi routers decreased from 30 weeks to 16 weeks. Am I correct in thinking that they could potentially drop again to around eight weeks or even lower? Is it possible that there's still some remaining inventory to address? It appears that your primary concern has shifted to other inventory issues you might not be aware of, rather than the current CPE situation. Would you say that's an accurate assessment?

Yes, that’s accurate. We have evaluated the inventory levels, and based on our current revenue projections, our outlook is exceeding our usual guidance. We expect a slight increase in subscribers this quarter, influenced by the variety of options available, with some people having certain products while others do not. We believe we have addressed a significant portion of that demand surge, but it will take time for the situation to stabilize and return to last year’s levels. We anticipate this process will take around six to nine months. There should be improvement, and we feel that we have captured a large share of that demand this quarter. I hope that clarifies things.

At this revenue level, margins aren't very good. However, we see that supply is improving, and we expect some of the excess expenses to decrease. Therefore, should we anticipate a significant improvement in gross margins in the latter half of the year, driven by both revenue growth and reduced supply chain expenses?

Yes, let me let Uli touch on that.

Yes. So, supply chain expenses obviously are going down as we speak. We've seen it in the first quarter, and we assume that this will continue to drop. And then, of course, it's a matter of economies of scale and also product and customer mix. But yes, to answer your question, we assume increased gross margins in the second half of the year.

Perfect. Thank you.

Thanks.

And your next question comes from the line of George Notter from Jefferies. Your line is open.

Hi everyone. Thank you very much. I wanted to ask about the fiber access business and the optical business which both had a strong quarter. Could you provide some insight into the current lead times for those products? How do they compare to last summer? Additionally, do you foresee any potential for excess inventory buildup in those sectors of the business?

Yes, I believe there is some possibility. Let me begin with lead times. Lead times have been challenging, primarily due to the complexity of the chips, particularly those that are more expensive. Additionally, for optical sub-assemblies, lead times have also been extended. Generally, you could say they are around 52 weeks. The more challenging aspect is determining whether this cycle will exceed 52 weeks. We were projecting lead times of 52 weeks, but we continued to experience delays, particularly around this time last year. So, in essence, it has been 52 weeks or more. We had been placing orders forecasting 52 weeks ahead, so one might expect improvements in this area. We are indeed seeing improvements with complex chips; lead times are decreasing, primarily due to our orders and a general reduction in lead times. However, there are still a few chips that are causing delays. Overall, I would say the situation is significantly better now compared to the last quarter. So, things are improving. Did I address your question, George?

Yes. I'd just be curious about where your product lead times are now for optical and then OLTs?

Yes, I believe we were initially looking at commitments for 52 weeks. Overall, we've received solid commitments from some customers, typically in the range of six to eight months. However, that timeframe has now generally decreased to about two to four months. While there are still some constraints, I would say the situation has improved significantly, roughly by half.

Got it. Okay. And then also, I know you started shipping the 6330 in the last few months. I'm just curious about how that product is doing. What are early customer receptivity look like for that product? Thanks.

Yes. We have begun shipping that primarily in Europe, although we have started shipping a few units here as well. It's still quite challenging to manufacture. We are not at full production yet, but we are shipping. We sent out some last quarter too. We aren't fully meeting demand yet, but we're making progress. A significant part of this is about refining our operational processes. I cannot emphasize enough how complex this product is. We have it under control now, and we are continuing to enhance the yield on it.

Great. Thank you.

Okay.

And your next question comes from the line of Ryan Koontz from Needham & Company. Your line is open.

Thanks for the question. I wonder if you could update us on your latest view on the U.S. and European government subsidy programs and whether you're hearing much pushback in terms of interest rates and kind of ROI hurdles that's impacting customer programs? It sounds like from your initial comments, Tom, there's not much of that, but any color you can share in that regard would be helpful. Thanks.

Yes. We have a set of questions that we ask when discussing inventory, and one of those pertains to the current situation. Occasionally, there are some inconsistent remarks regarding capital and execution. When capital is received, the timeline for projects tends to vary and is often assessed on an individual project basis rather than across the board. Overall, we've not detected any significant effect on our project plans. We do have one notable case where there have been discussions about the capital plan, which is not primarily due to capital costs but rather capital expense overruns. As I noted earlier, we've received strong reassurance that this won't impact our overall program. In fact, there's an intent to speed things up. The major initiatives in Europe, involving 22 million to 25 million homes, remain unaffected, and there have been no adjustments to those plans. Regarding funding, we have some in place, particularly in Europe, while in the U.S., everything is still progressing as expected. We are currently receiving RDOF funding through our carrier partnerships. However, most of the RDOF funds will be available a bit later, with projections indicating that this will occur around 2024 to 2025. The RDOF funding is starting to drive an increase in demand, which we anticipate will continue through this year and into next year.

Hey, Tom, that capital overrun, is that more on the labor side?

I would say the answer is yes, but because of the multiplying effect as you deploy sites, labor is typically the biggest thing. Yes, but the impact is if you cut labor, you're cutting deployment. So, the direct answer is yes. And that has, of course, been impacted by other things. Christoph, any comment on the capital, excuse me, on the funding, government funding in Europe?

Yes. So, we also see it going on in Europe. It's a little bit more complex, I have to say, Ryan. So we see it more in consortiums coming together, looking at underserved areas, country areas and so on. But it's different as Europe is more complex and has different countries and areas, but we see it going on and also helping to accelerate. But even outside the funding, we see some of the bigger customers even accelerating and announcing to accelerate the fiber build outs.

Got it. Helpful, Christoph. And Tom, one quick follow-up on, any feedback on your joint customer engagements cross team, and cross product, in terms of some of your larger accounts?

Yes, it's been universally positive. The RFP situation in Europe is thriving right now, which is partly due to the strength and perception of the combined company. Christoph can also provide insights on this. We've encountered no negatives in this aspect. Our earliest successes have come from some cross wins in the U.S., which is expected since smaller carriers usually make faster decisions. I believe we have 33 opportunities that are either closed or close to closing, with most in the U.S. The advantages we've seen in positioning within RFPs for both existing and new customers have been very beneficial. Christoph, would you like to add anything?

Yes. So I would basically put it in three different categories. One is what we expected, basically market reach, like Tom just said, for the ADVA products in America, that extended market reach for those products, which we didn't have standalone. The other one is size. It helps with some of the bigger carriers in discussions. Obviously, we've seen as a bigger company, better supply and so on, and everything which comes with it. And the next one is market reach, the other way around in Europe with a stronger, let me say, sales force on the ADVA side or more distributed one in Europe. And obviously, we can pull through ADTRAN products on the European side.

Really helpful. Thanks so much.

All right. Thank you.

Your next question comes from the line of Greg Mesniaeff from WestPark Capital. Your line is open.

Yes, thank you for taking my question. I was wondering if you can give us some color on the Mosaic One deployments, and how they're ramping? And what kind of impact are they having on your gross margins, both in this most recent quarter and how you see that playing out later this year? Thanks.

Yes, I previously mentioned that the progress of Mosaic One has been positive. However, it is still early, and we are taking some time to refine the product to improve the installation speed. In many cases, it can take several months to get the product properly set up, as it is not simply a software download. Currently, the uptake isn't necessarily limited by demand, but rather by the queue for onboarding customers. At the moment, I believe there are around 200 customers waiting or in the process of being executed, and they are onboarded in various phases. I must point out that the impact on the company is still minimal compared to what it could be if we were to fully monetize all the contracts we currently have signed. Until we manage to onboard these customers and have subscribers actively using the service, the numbers remain relatively small. Nonetheless, the growth has been impressive; we added 50 customers last quarter, which represents a significant increase. We expect this growth to continue, if not accelerate. Therefore, it should become a substantial number within a year, although it is not yet significant as we are still in the early stages of onboarding these customers.

Got it. And just a quick follow-up on the same topic. I know Mosaic One originally started as a U.S.-centric product.

It's still U.S.-centric.

Okay. So there's no plans to migrate it beyond the U.S.?

There are plans to migrate it beyond the U.S., but they're not plans today, because we need to make sure that we execute well in the U.S. and to broaden that focus to a new customer base. And there are differences, and in many cases, implementation of that is a little more difficult. So we need to get our onboarding time down as the number one thing we've got to do. And we're rolling out some things to actually do that. So, we're kind of getting it set up here. And then I think the jump over will be relatively straightforward because we'll have 90% of the required software features for the customer base. But right now, our focus is the U.S.

Thank you.

Okay.

And your next question comes from the line of Paul Essi from William K. Woodruff Company. Your line is open.

Thank you for taking my call. I wanted to talk about the 6330. Is the slow rollout of that causing any delays with some of your larger customers, especially in Europe at this point?

Yes, the answer is yes, but not materially. We have another product called the 6320, which is a precursor. If people aren't able to deploy the 6330, they're using the 6320, which is a lower density and less capable option. Many ongoing customers have been using it for some time. The 6300 series is a family of products with the 6330 at the top. However, its rollout was somewhat hindered during the supply chain crisis, requiring two or three redesigns to ensure supply. That situation now appears stable, and we can supply that product. The real concern lies in new lab designs. On the access side in Europe, we have six new large carriers at different stages of testing or decision-making for RFPs. We are prioritizing these customers to ensure they receive those units during their selection process.

Okay. Second question is, are you seeing any constraints in labor in trying to deploy some of the fiber out there? And then also as some of this government money starts to roll in, what do you expect that labor market to look like six to 12 months from now?

The labor market is closely linked to unemployment rates. In Europe, we have encountered significant constraints, particularly with projects being held back. Many deployments are hindered by labor costs and the ability to secure labor. While similar issues occur in the U.S., they are less prevalent. Some customers have proactively started training and internship programs to integrate a significant number of workers into the field, which has been beneficial, especially for longer-term projects. Although the labor market remains tight, the impact of the potential recession on the labor pool is uncertain. Nonetheless, more people are deploying fiber now than ever before, and efforts are being made to recruit new workers into this skilled workforce.

Okay. So at this point in time, you don't see that as the next bottleneck like the supply chain was?

I don't believe it's going to be the next issue. Instead, it seems to be more of a limitation. I don't hear much discussion about it, and it's not a top concern for people. I recently met with a carrier in the U.S., about three weeks ago, and we touched on their workforce situation. They mentioned they are making some job adjustments, but it's not a pressing issue for them. Their projects are limited by labor, but they align with their existing capital plans, and they can meet those plans. I didn't specifically discuss wage increases in that area, and while there may have been some, it appears to be more of a continuous challenge that has existed for a while.

Okay. Thank you. Thank you very much. That's all I have.

And your next question comes from the line of Tim Savageaux from Northland Capital Markets. Your line is open.

Hi. Pardon me. Good morning.

Good morning.

I just had a question on guiding flat to a little bit up for Q2. I mean you envision a similar pattern to what we saw in Q1, which is growth in access and optical and maybe further declines in subscribers. And if that's the case, understanding inventory visibility is tough. Would you expect Q2 to be a bottom on the subscriber side? And I have a follow-up.

Yes. We do expect that in Q2, subscribers will increase slightly overall. Some of this will still be affected by shipping limitations, although the impact is less than before. We believe we are at the bottom of this situation. We are approaching this quarter with caution. If we don’t have a purchase order or a clear line of sight to one, or if we lack material or visibility on the material, we are removing that from our forecast. Our execution in different segments will also play a role. Overall, I agree that this period should represent the low point for our Subscriber Solutions.

Great. And as I think it was mentioned before, is what ADVA's got into stand-alone is a pretty steady increase throughout the year. So it seems like the second half ought to be stronger than the first half there. I would expect the same for Access & Aggregation maybe with the caveat for some of the inventory comments you made before, whether that's kind of spreading or not. But in general, is it reasonable to extend from the optical strength that you're looking for a stronger second half and just given the level of activity on the Tier 1 front, it seems like that should be the case for access, but I wonder what you're willing to kind of say on that right now, sort of second half versus first?

I’m not going to share too many specifics. Current projections suggest that there is still a strong demand for the deployment of our products, and we have new projects coming in. However, I'm cautious because I cannot accurately assess where inventory buildups may arise until they are evident. The effects of adjustments in lead times are uncertain, especially if funding becomes more constrained. Depending on your capital costs and how much inventory you’re willing to hold, you may have to rely on suppliers to compensate for shorter lead times beyond what they aim for. Some customers may choose to do that, as the concept of normal has shifted quite a bit over the past two years. Everyone is trying to understand what typical lead times look like, which varies significantly. In some cases, obtaining a product the next day is feasible, while in other situations, a six-month wait remains an issue. This adjustment in inventory, regardless of the product category, is still something we need to observe over time. Therefore, from a short-term perspective, I'm not seeing any advantages. We experienced significant disappointment in Q1, which was felt internally and personally, and I want to avoid a repeat of that. We've navigated challenging cycles before where short-term visibility seems promising based on activity levels, but other factors really affect near-term demand. So, I'm not prepared to make bold predictions about that demand outlook. Instead, I aim to ensure we manage effectively in the short term, just as we have in the past, while keeping our focus on the larger changes happening in the market. A major competitor has exited the network space, and we are uniquely positioned with the best products available. Our priority is to take advantage of this opportunity.

And that's fair enough. A couple of quick questions, if I may, just last question. I think it was mentioned R&D spending was pretty heavy in the quarter. I'm wondering if there's anything in particular that you can call out as a driver, whether it's finishing development of certain platforms or what have you? And kind of same thing with the increased borrowing in the quarter. You seem to put some of that on the balance sheet, but any particular drivers there? And that's it for me. Thanks.

Yes, I'll let Uli provide additional details. Generally, the balance sheet consists of receivables and payables, which can vary slightly from quarter to quarter, with this quarter seeing a bit more fluctuation. There were also a few one-time factors that affected us this time that are unlikely to occur again. Regarding R&D, we have some programs wrapping up and some contractors finishing their work, which contributed to an increase in expenses. We are keenly focused on managing expenses and will have justification for any such changes moving forward. Some programs impacted this situation, aligning with this quarter. Uli, do you want to add anything else?

Well, I would just say R&D spend across the board, like Tom said, as you know, we're still in a time where inflation hits us kind of depending on the region more or less. On the debt side, I mean, as you could see, our inventories remain high and AP went down. So obviously, we used some of the debt to finance our working capital.

Anything else, Tim? Tim? Tim, are you still there?

I'm good. Thanks very much.

Thank you very much. With that, we have reached the end of our question queue. I appreciate everyone joining us this quarter, and I look forward to a more positive conversation next quarter. Thank you, everyone.

This concludes today's conference call. Thank you for your participation. You may now disconnect.