Greetings, and welcome to Calix’s First Quarter 2020 Earnings Conference Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. Operator Instructions: As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Tom Dinges, Director of Investor Relations. Thank you, sir. You may begin.

Thank you, operator and good morning, everyone. Thank you for joining our first quarter 2020 earnings conference call. Today on the call, we have President and CEO, Carl Russo; as well as Chief Financial Officer, Cory Sindelar. As a reminder, yesterday after the close of market, we released our letter to stockholders in an 8-K filing as well as on the Investor Relations section of the Calix website. This conference call will be available for audio replay in the Investor Relations section of the Calix website. Before we continue, we want to remind you that in this call, we refer to forward-looking statements, which include all statements we make about our future financial and operating performance, growth strategy and market outlook, and actual results may differ materially from those contemplated by these forward-looking statements. Factors that could cause actual results and trends to differ materially are set forth in our first quarter 2020 letter to stockholders, and in our annual and quarterly reports filed with the SEC. Calix assumes no obligation to update any forward-looking statements, which speak only as of their respective dates. Also on this conference call, we will discuss both GAAP and non-GAAP financial measures. Reconciliation of GAAP to non-GAAP measures is included in our letter to stockholders. Unless otherwise stated on this call, we will reference non-GAAP financial measures. With that, let me turn the call over to Carl. Carl?

Thank you, Tom. On behalf of everyone at Calix, our hearts go out to all those around the world who have been affected by and most especially, those who have succumbed to COVID-19. While these are the most uncertain of times due to this pandemic, our mission to connect everyone and everything has become more vital than ever. Thus, while uncertainty is all around us, we believe our future success is more certain than ever and likely sooner. However, before I discuss this opportunity, I want to share with you what my thoughts were at the onset of this pandemic and how we are leading the company through these turbulent times. As the leader of and the largest shareholder in Calix, my mind immediately went to ensuring our employees were safe. So, we moved to an all-virtual stance earlier in March. I am happy to say that we have had only one reported illness among our employees and that person has fully recovered. Second, I wanted to ensure that we had room to maneuver. So, we tightened our operating expenses across all fronts and created plans to tighten even further if we saw the economy getting worse. Third, I wanted to ensure that our balance sheet was sound and strong, so that we could execute through these challenging times, a goal that was eased by us outperforming and generating positive cash flow from operations in the quarter. With all this behind us, we could execute and execute we did. Starting with our move to an all-virtual stance earlier in March, our team performed flawlessly. This was no surprise as we have been building a remote and virtual culture for some years now, even being recognized by Glassdoor in a recent Forbes article as one of the best companies to work at if you are a remote worker. This set us up to deliver first quarter results that were all in range and earnings per share that was at the top of our guidance range. While supply constraints remain due to the COVID-19 outbreak in Asia, our visibility into future demand continues to grow. This is due to our customer diversification and accelerating penetration of our all-platform offerings, and this increased visibility is represented in our strong guidance for the second quarter. Secular forces that are sweeping through the communication space have just been pulled forward, as this pandemic has required society to take actions that are representative of a significant acceleration of behaviors that were five to 10 years in our future. We intend to seize the opportunity. We also believe the opportunity to accelerate transformation exists for our customers, and we will continue to help them as we have the right platforms and the right services at this critical time. With that, let’s open the call for questions. Jessie?

Thank you. We will now be conducting the question-and-answer session. Operator Instructions: Thank you. Our first question comes from the line of George Notter with Jefferies. Please proceed with your question.

Hi guys. Thanks very much, and congratulations on the strong results in an uncertain environment. I guess I wanted to start by kind of talking about Calix Cloud and understanding what kind of adoption rates you’re getting there. I think this quarter, you mentioned 18 new customers. I’m curious about what portion of those are taking Calix Cloud and then you’re also buying your CPE strategy with GigaSpire and EXOS, just wondering what the acceptance rate is on new customers in terms of the platform-type products. And then I guess as a corollary to that, I’m wondering how that’s been changing over time?

George, good morning, and thanks for getting up early. So, as you might imagine, our new customers, as we’ve said in the past, have been virtually 100% platform new customers for quite some time now. And with that being said, a very, very high percentage are Cloud and GigaSpire new customers. So, I’ll just leave it at a very high percentage. Many of them are AXOS and Intelligent Access EDGE customers for our systems. Many are for both product sets that we work on. The second piece is that over time, we’ve continued to see that amplify and ramp up. But I also wanted to add one other item: in this sort of remote, virtual, instantaneous cultural shift, as you know, from having drilled down with our customers, you might imagine that the cloud and specifically, our Calix Cloud offerings have enabled our service providers to continue to function in an environment where in many cases, they’re not allowed to go into certain premises or they’re dealing with social distancing. So, we’ve actually seen an increase in interest in the cloud because of the pandemic.

Got it. Okay. Great. And I guess that there’s a natural follow-on there. I mean, obviously, we’ve had this sort of forced experiment here with work from home, and I’m wondering what kind of incremental business you guys may have picked up this quarter because of all the work from home activity. And then I guess as a follow-on to that, I assume there’s some portion of that also embedded in your guidance for Q2. But if you could somehow get at what kind of incremental benefit you’re getting from this, that’d be really interesting.

So, by the way, it’s the correct question to ask, because obviously, it is a pull forward. And the question really is, is that a pull forward and then a slack? Or is it a genuine pull forward of behaviors in demand? So, we believe it is a genuine pull forward of behaviors in demand, but it’s too soon to tell. And so we are definitely seeing a pickup in business. It did not materially affect Q1 from a revenue standpoint in Q1. We did, however, indicate that obviously, we have a strong backlog and strong demand and obviously, we’ve given what I think is strong guidance for Q2. So, it started showing up on the booking side in Q1. And again, we’ll see over the quarters how all of this works. But it is clearly an interesting behavior shift for sure, for both the subscribers and for their service providers.

Got it. Okay. And how did that—if you got some incremental business and you’re looking for incremental business in Q2—how does that manifest itself? Is it more customers upgrading from lower speed tiers to higher speed tiers? Is it increasingly your customers winning new subscribers? I guess I’m kind of wondering how you see that filter into your business.

Yes and yes. As you might imagine, one of the immediate issues that many families ran into was not necessarily that the broadband infrastructure wasn’t fast enough. It was that all of a sudden, they had more people at home trying to compete for a single antenna. And so you see that pull in the form of trying to upgrade the premises and also have visibility into the premises. One of the offerings that we made to our customers, and you can see this on our website, was actually to allow customers that were on a simpler tier of Calix Support Cloud to upgrade for free during the pandemic to a more sophisticated tier. And we had a very high take rate of folks taking advantage of that because it helped them run their service providers even more remotely and virtually than they could without it. But that would be sort of an anecdote I would share with you to give you some guidance on what we saw. Does that help?

Yes, that does. I’ll pass it along. Thanks very much, guys.

Thank you. Our next question comes from the line of Christian Schwab with Craig-Hallum. Please proceed with your question.

Hey, guys. Congratulations on a great start to the year. Carl, CenturyLink came back as kind of a notable strength customer. Can you talk about your thoughts throughout the rest of the year? Can business be sustainable at these levels? Can it grow from these levels? Any type of clarity there would be great.

Christian, thanks. As we called out in the letter, they were about 15% of revenue. And I would simply answer your question by saying that feels like a reasonable marker for the remainder of the year per vendor for the year, pardon me.

Got it. Yes. Thank you. And then my next question, you guys talked about backlog exiting the quarter being strong. Is there any type of quantification that you can give us or some metrics versus what you historically see so we can put 'strong backlog' into context?

Yes. And you’re going to get angry at me for this. We moved the word from 'solid' to 'strong,' and so it’s better and that’s the best way we do. Obviously, we’re not going to go out and start quantifying things like book-to-bill or other things. Suffice it to say that we definitely saw an uptick in demand.

Do you guys have visibility, given the dynamics and the changes and the strength of your product platform to help service providers, as you discussed in more detail in your letter? Are you seeing visibility beyond Q2 or are you seeing the increased funnel of customers, whether they be small, medium or large, that gives you further enthusiasm beyond Q2?

We get our visibility in a number of different ways. And as you look, you’ve been a follower of us for quite some time now. I think you have seen certainly over the last eight quarters, but very specifically over the last four, that our visibility is continuing to increase and that manifests itself in, first and foremost, predictability. And so our visibility continues to go up and out, but I would be careful about pushing too hard on that, because when I say visibility, at times I think people hear 'backlog,' and it’s not backlog that drives the visibility. There are a number of different metrics that we look at. Suffice it to say from a visibility perspective, we certainly have better visibility than just Q2, but obviously, as you go into Q3, the odds of that diminish. So, be careful that you don’t take it as a binary. We do not know what Q3 is. That would not be the case.

Great. Now I understand. Great. I don’t have any other questions. Thank you.

Thank you. Our next question comes from Paul Silverstein with Cowen. Please proceed with your question.

Carl, I apologize if I missed it, but I saw in the letter anything about site access in terms of impairing your ability to recognize them. My understanding of site access has been a pretty big issue in terms of various operators actually getting access into one’s residence or one’s apartment if you’re in a building. And I’m wondering if that in fact was an issue that resulted in pent-up demand but unrecognized revenue that held back revenue recognition either in the March quarter or looking into the June quarter. In fact, is that an issue over and above the supply chain constraints that appear to impact your ability to recognize demand?

So, I’m going to answer it in two different ways. The answer is, we saw it, heard about it, ran into it a little bit, but most of our customers have worked around it if by nothing more than whimsically handing a GigaSpire through an open window to one of their subscribers. So, we haven’t seen it materially affect the business. We have heard anecdotes about it and we’ve certainly seen people adjust; some of our customers adjust to it. But the second part of that equation is, because of the cloud platforms that we have built, we’re actually uniquely positioned to help our customers not access the sites to be able to achieve their missions. And so you’ve seen it over the years with us working with our customers to reduce truck rolls and things of that nature. Actually, the technologies we built are almost tailor-made for not having site access. So, I hope that makes sense to you.

Yes, I assume it also addresses the issue of, to the extent many operators find their workforce short-staffed due to COVID-19. I trust your previous response also addresses that, and that has not been a meaningful issue.

And to your point, it addresses it to the exact opposite. The platforms enable extraordinary leverage for our customers and their personnel. And so not only can they work in a short-staffed fashion, they actually themselves can start to move to a remote function as well and still have all the power and the tools that they would have had at work.

Carl, I'm curious to the extent that the newer platforms are still not a majority of revenue from it. I guess I’m puzzled that that was not more of an issue. There’s still a lot of operators that are deploying the older platforms for more traditional broadband access, if you will. I’m puzzled that that’s not more of an issue in terms of holding back revenue, that as good as revenue growth is and it goes through demand backlog, et cetera, that it won’t be even greater but for that site access and short-staff labor issues.

Yes. Let me see if I can paint a slightly different picture, because I think a part of it relates to where you are in the network. I think as you get closer to the core of network, vendors that might be vendors to the core might see it as being a larger issue. For us, less so; we have certainly seen customers not wanting us to visit them on sales calls as an example. So, there clearly have been, everybody’s doing the social distancing thing and so we’ve certainly seen that. It occurs to me as you’re asking me the question that if there was a vendor that was really functioning inside of one of their core facilities, that might be an issue if they were required to install things. Remember, a large part of what we do is not in the core obviously, and a lot of it is also really engineered to be self-installed. So, we just talked about it.

I apologize for the interruption. I guess the real question is what percentage of your shipments are self-installed? I mean, are you, say, 90% plus being self-installed?

Yes. We’ve focused hard on having things be self-installable. So, it’s a very large percentage.

All right. Because I would actually argue that the bigger issue is not core access. It’s the residential premise access at the customer. And again, you’re saying that the overwhelming majority of sales are self-installed. Okay. One other question and again, if you set them up, I can see it in the letter, I trust there was only one 10% customer centrally?

There was one 15% customer and that was it. Yes. So, we actually gave you the percentage as well.

All right. So obviously by definition, CityFibre stole their contribution growth there, but it’s not yet meaningful from a 10% threshold standpoint.

There are no other customers that have passed the material threshold of 10%. That’s correct.

Impressive, the way I heard all that. I’ll leave it at that, Carl. Thank you. Appreciate it.

Thank you. Our next question comes from Tim Savageaux with Northland Capital Markets. Please proceed with your question.

Hey, good morning.

Good morning, Tim.

And congrats on the results. Very impressive in this environment. I wanted to kind of follow on the notion of pull-ins, Carl, and kind of go back to your commentary about the company’s success being, I think, more certain and sooner. I guess I want to ask about that comment in the context of your financial targets recently shared at the Analyst Day. Should I infer a pull-in in those targets, which I think had to be double-digit operating margins in calendar 2022, et cetera, or kind of what you meant by that 'sooner' comment?

I think that’s it, by the way. Thanks for asking. And I’ll see if I can clarify. One is the strategic theme of 'sooner.' And so all of the cultural behaviors that have continued to render our societies more virtual, more interconnected in that way, we believe had been pulled forward and when those behaviors get pulled forward, it has a manifesting impact on the two disruptions that we spoke of at our Investor Day. And so the grand broad scheme of the strategy clearly has been pulled forward and we believe our opportunity therefore is pulled forward. I would dissuade you from drawing any individual quarter inference from that. That’s the first piece. The second piece is now tying it back to an individual quarter. I did say we saw an uptick in demand, but it’s too soon to tell whether that’s an uptick in demand in this quarter or next, or if in fact, it represents an uptick in broad demand, which would then address your question. So, it’s too soon to tell right now as to which is which. But there’s no question in my mind that strategically, this represents a pull forward of our ability to execute our strategy; in any given quarter, not clear yet. Does that help?

A little. And let me move on to another question, which is—

Let me be explicit. We are not changing our model from the Investor Day, if that’s what you are asking.

Okay. Well, that helps more.

Sorry.

So, I guess it’s positive, but without discernible financial impact.

Yet, correct.

That’s fair enough. I understand. And as we look into, wondering if you can discuss your growth drivers across your carrier categories—large, medium and small—you saw obviously very impressive, kind of strong double-digit growth in the small carrier category in Q1. I wonder how you’d expect that to change at all as you look into your Q2 guidance; as you look across that to the strata of carrier customers, what sort of—do you expect those growth rates or contributions to change at all as we look into Q2?

Yes. I mean, so with the obvious caveat, we don’t guide that way. I mean, if you’re looking for just general color, I think we’re going to continue to see success across all segments. I think our smaller customers are continuing to transform their businesses. I think a lot of our medium customers are now in a position where actually, we’ve obviously experienced tremendous headwinds there, but those medium customers are going through their own transformations and are starting to pick up a bit. And obviously, we have our large customers that seem to be doing fine, but I’m not sure I would necessarily paint a wildly different growth picture across those three segments in the next few quarters. But certainly, the one that is more understandable and we have greater visibility into would be the smaller segment.

Okay. Well, maybe one more follow-up on that. I guess a part of the reason I asked that question is, we did see, speaking of pull forwards, and the correlation of this number to any individual results is always difficult to track, but a very big capital spending number out of Verizon in Q1 and a lot of commentary from them with regard to the traffic growth they’re seeing in their network. Given your uptick in CenturyLink and it actually looks like Verizon was down reasonably year-over-year in Q1 for you, I wonder if it’s fair to expect any acceleration there given both an increase in their overall capital budget and a bit of a pull forward, understanding it won’t track quarter-to-quarter necessarily, or what your expectations might be for your other sometime 10% customer this year.

So, when we look at Verizon, I would not change our commentary, which has been pretty consistent: it’s lumpy. They do things through an assembler. So, it’s surgy. We are obviously aware of what they are looking at investing. We are very aligned technologically and we have a very good relationship with them and over time I think Verizon continues to grow as a customer. But I would caution again anyone trying to extrapolate inside of what they’re doing any given quarter as a number coming from Verizon and that’s the best way I can answer your question, to be honest.

Okay, thanks. I’ll pass the line.

Thanks, Tim.

Thank you. We do have a follow-up question coming from the line of Paul Silverstein with Cowen. Please proceed.

Carl, I recognized these things don’t necessarily pursue on a quarter-by-quarter linear basis. Thinking about the margin structure and the benefit from the new platforms showing its margins, any insight you can share with us in terms of margin progression? I still trust that eventually, this is going to be a 50% plus gross margin model. Obviously, we need to see the progression from the new platforms, or at least even its progression in the quarter, which one would expect as any platforms ramp. But any thoughts you could share there?

The margin progression story is unchanged. I’m glad you asked. One of the things you’ll see talked about in the letter is that in this supply-constraint environment we continue to be challenged with as the supply chains that move through Asia are in various levels of disruption. I’m sure you’ve seen announcements from silicon companies that lead times have been stretched out, et cetera. We are expediting to make sure that we meet our customers’ needs. And so in the near term, there are significant expedite charges that show up in shipment in OCOGS and therefore in COGS and have a downward effect on margin and we expect to have those in Q2 as well.

Would gross margin have gone up but for those expedite costs?

It would have been higher, because we obviously had expediting. And they are—they exist. They’re not material at a 10% range, but they are certainly measurable and real, and they manifest themselves in potentially higher spot component prices and higher shipping costs at different stages in the supply chain. It’s just there and until the supply side normalizes, they’re going to exist. So, I just want to make sure that there’s a near-term downward pressure on margin that somewhat masks things.

Okay. Thank you.

Thanks, Paul.

Thank you. We do have an additional question from Tim Savageaux with Northland Capital Markets. Please proceed with your question.

Yes. I wanted to follow up on the overall topic of government subsidies more broadly, not necessarily broadband stimulus. I wonder if we can get an update on the Rural Digital Opportunity Fund (RDOF). What you’re seeing there, what sort of contribution you might expect, is this in any way figuring into your commentary about increased demand, or whether you expect to have a material impact in this year or more looking into 2021? Thanks.

So, RDOF is slowly but surely getting underway and we don’t expect any significant impact in 2020; it’s a 2021 event. But it’s, again, we called it out not because we view it as a secular driver. Frankly, we just view it as a cyclical insurance on the downside that you’re going to continue to see investment in infrastructure and it certainly puts a floor under the investments in our customers. So right now, it’s a 2021 event, but it is progressing accordingly.

Thanks.

Thank you. We have reached the end of our question-and-answer session. I’d like to pass the floor back over to management for any additional concluding comments.

Calix’s management will be participating in two virtual investor conferences during the second quarter of 2020. Information about these future investor events will be posted on the events and presentations page of the Investor Relations section of calix.com. Once again, thank you to everyone on this call and on the webcast for your interest in Calix, and thank you for joining us today. This concludes our conference call. Goodbye for now.

This concludes today’s conference call. Thank you for joining. You may now disconnect.