Earnings Call Transcript - CIEN Q1 2020

Operator, Operator

Ladies and gentlemen, thank you for standing by and welcome to the Ciena Fiscal Q1 2020 Financial Results Call. At this time, all participants are in a listen-only mode. And after the speakers' presentation, there will be a question-and-answer session. Please be advised that today’s conference is being recorded. I would now like to hand the conference over to your presenters today, Vice President of Investor Relations, Gregg Lampf. Please go ahead.

Gregg Lampf, Vice President of Investor Relations

Thank you, James. Good morning and welcome to Ciena's 2020 fiscal first quarter review. With me today is Gary Smith, President and CEO; and Jim Moylan, CFO. Scott McFeely, our Senior Vice President of Global Products and Services will join us for the Q&A portion of today's call. 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 this discussion as well as certain highlighted items from the quarter. Our comments today speak to our fiscal Q1 2020 performance, developments in our business, our view on current market dynamics as well as our outlook. Today's discussion includes certain adjusted or non-GAAP measures of Ciena's results of operations. A detailed 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 will remind you that during this call we will be making certain forward-looking statements. Such statements including our guidance and long-term financial targets 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. These statements should be viewed in the context of the risk factors detailed in our most recent 10-K filing and in our upcoming 10-Q filing, which is required to be filed with the SEC by March 12. We expect to file by that date. Ciena assumes no obligation to update the information discussed in this conference call, whether as a result of new information, future events or otherwise. With that, I will turn it over to Gary.

Gary Smith, President and CEO

Thanks, Gregg, and good morning, everyone. Today we delivered outstanding first quarter results, the diversification across our business combined with our technology leadership, including our fifth generation 800 gig WaveLogic modem technology that is available today continue to set us apart in the market. Specifically, we reported Q1 revenue of $833 million, reflecting 7% growth year-over-year and the high-end of our guidance range. Q1 gross margin was also very strong, driven by a favorable product and customer mix in the quarter. And importantly, we performed very well with respect to profitability measures. Both operating margin and EPS in the quarter were higher than expected and cash performance was strong. Finally, our orders in the quarter were greater than revenue. As we've previously mentioned, unique degree of industry diversification across customer segments and regions, in particular, continues to provide resiliency and balance in our business and plays a significant role in our strong financial performance. This is particularly relevant as the broader economy is faced with a growing uncertainty surrounding the spread of coronavirus. Thus far, for our industry, the challenges currently presented by this situation have been largely contained to the China market, the supply chain and logistics. For Ciena, by design, we have among the lowest exposure in our industry to the China market and the Chinese supply chain. As a result, as we sit here today, we believe that we are better positioned than most of the industry players to manage through the current set of challenges presented by the coronavirus. However, the situation is obviously very fluid and uncertain at this time and we are not immune to potential broader business implications as it evolves. Jim will give you additional color when he provides that guidance. Now I'll turn back to the highlights of our Q1 performance. Again, the comments I'm about to make regarding our regional performance and forward view are without any further impacts of the coronavirus situation, but rather how we see things from where we are today. In Q1, Asia-Pacific performed well, particularly Japan. And we continue to see opportunity for growth in APJ in 2020. In India, much as anticipated, we experienced softness as we started the year, but we continue to believe there's opportunity for modest growth in the second half of the year. In EMEA, we had a very solid contribution from service provider customers in Q1, and we continued to see opportunity to expand market share as many carriers in the region reevaluate their infrastructure partners and their next generation builds. We had an excellent quarter in our Americas region in Q1. Our North American service provider business was strong, including two 10% customers in the quarter, Verizon and AT&T. And revenue from other verticals, including MSO customers like Comcast and Charter, and the U.S. government was up about 5% year-over-year in Q1. We expect material contribution from these service providers in 2020, as well as growth from CenturyLink later this year. And we also expect continued growth in the Americas to be driven by other customer verticals. Web-scale was also a solid contributor in the quarter, as this vertical continues to perform well and as expected. We also anticipate a strong Q2 in web-scale. As a reminder, we anticipate this market to grow roughly 7% to 10% this year, and we believe that we can grow our web-scale revenue at roughly market rate and maintain our market share leadership in this position. We also continue to add new customers every quarter in this segment. There is no doubt that confidence in our technology leadership is a significant driver of our performance and continued strong customer engagement. As I mentioned at the start of the call, I am pleased to confirm that WaveLogic 5 Extreme and next generation coherent optical technology is now available. In fact, by now you should have seen our numerous announcements with Southern Cross, Verizon, and Comcast, as well as Internet2, where we've begun initial field deployments. As evidenced in these customer networks, we have delivered on our promise to be the first to market with an 800 gig solution, well ahead of any competitive offerings. WaveLogic5 Extreme is fully featured and performing better than anticipated across a multitude of applications. We continue to expect initial revenue in Q2 with more material revenue in the second half of the year. In addition to that recent achievement, we also recently announced several new products and capabilities in our 5G network solutions. First, we added three 5G optimized routing platforms, designed to enable network operators to migrate from 4G to 5G and meet the low latency, high-performance demands of fronthaul, midhaul, and backhaul transport. And we also introduced Blue Planet Software Automation Enhancements comprised of dynamic planning capabilities and end-to-end network slicing in this solution. And with respect to Blue Planet, in Q1, we secured new wins with two major international Tier 1 service providers both outside of the U.S. We also added four new logos for our route optimization and analysis products, and we took strong orders for our unified assurance and analytics software on the heels of closing the Centina acquisition. With rising macroeconomic concerns and uncertainty, customers more so than ever are pursuing a flight to quality where they are seeking strategic vendors who offer long-term innovation, leadership, and financial stability. And we are clearly very well positioned with the financial strength, expanding technology, leadership, diversification, and global scale to meet their needs now and into the future. And we are very focused on taking advantage of this opportunity. With that, I'll turn it over to Jim.

Jim Moylan, CFO

Thank you, Gary. Good morning, everyone. Q1 marked a strong start to fiscal 2020. As Gary mentioned, total Q1 revenue was $833 million and adjusted gross margin was 45%, driven by favorable product and customer mix. Adjusted operating expense in the quarter was $266 million. With respect to profitability measures, in Q1 we delivered adjusted operating margin of 13.1%, adjusted net income of $82 million and adjusted EPS of $0.52. For using your models, the tax rate we used in Q1 for our adjusted net income and EPS was 21.6%, a bit lower than we expected. Tax planning is allowing us to make better use of the lower effective U.S. tax rate on exports. We'll expect to use this 21.6% tax rate for the remainder of 2020. In addition, in Q1, cash from operations was very strong at $40 million and what is typically a seasonally lower cash-generating quarter. Adjusted EBITDA in Q1 was $135 million and we generated free cash flow in the quarter. Again, a sign of strong cash generation. We ended the quarter with approximately $960 million in cash and investments. As Gary mentioned, our balance sheet is yet another differentiator that speaks to our long-term strength and viability, particularly in the current environment. Finally, we continue to execute on our share buyback plans, repurchasing approximately 1.3 million shares, using $51 million of cash during the quarter. I'll now turn to our Q2 outlook. Before I go into detail, I'll reiterate what Gary said with respect to the coronavirus situation. Specifically, we believe that we are better positioned than most to navigate through the current supply chain challenges presented by the coronavirus. However, we are not immune to business impacts, including in our Q2, specifically given what we know today, we expect that fiscal Q2 revenue will be reduced by approximately $30 million, predominantly due to supply constraints and logistical challenges to execute in certain countries resulting from the coronavirus. Taking that into account, we expect to deliver revenue in a range of $875 million to $905 million. To be clear, without the expected impact of the coronavirus, the midpoint of our revenue guide would have been approximately $920 million. Like every other company, we're giving you our best view at this point in time. Also in Q2, we expect gross margin in the 42% to 44% range and operating expense of approximately $275 million. In closing, the fundamentals of our business are sound. We have the best technology, we are diversified across geographies and verticals and our scale is a competitive strength, and we continue to gain market share. As I mentioned, the coronavirus will impact our business to a certain extent in Q2. Its impact on the remainder of fiscal 2020 is uncertain at this time, and it would not be appropriate for us to speculate. If we do not include any potential impact beyond Q2, our expectations for fiscal 2020 are unchanged. This includes with respect to revenue, cash flow, and adjusted operating margin of 15%, and we remain confident in our long-term financial targets. James, we will now take questions from the sell-side analysts.

Operator, Operator

And our first question comes from the line of George Notter with Jefferies. Go ahead, please. Your line is open.

George Notter, Analyst

Hi, guys. Thanks very much. I guess maybe I'd start on the coronavirus discussion. Gary, you were talking about Ciena's positioning being better than others in the wake of the coronavirus situation. Can you kind of talk about what you're looking at there in terms of both the supply side and the demand side in China and elsewhere, that's affected?

Gary Smith, President and CEO

Sure. Largely to date this has been somewhat contained to China and obviously spread into some of the APJ countries as well. From a supply chain point of view, Ciena long time ago does not have exposure to manufacturing into China directly and direct supply chain. Obviously, some third or fourth order contract manufacturers do. So we're not immune from it. But unlike most of our competitors, we don't have significant direct supply chain based in China. And then secondly, on the demand side, as many of you know, we do not sell directly to the major carriers in China and that's a very conscious decision on our part. So we don't have exposure to the demand side from China. But that being said, we are present in many of the other APJ countries that have had challenges, some of which are in sort of lockdown. And it's difficult to get to some of their sites for installation, for example. So, it is having an impact on us, which is reflected in a change in our Q2 guidance.

George Notter, Analyst

Got it. Okay. And then just switching gears for a second. You saw really strong gross margin performance this quarter. I guess, I heard what you said, certainly in terms of customer mix, product mix, but can you talk a bit more about what surprised you there? And I think certainly coming into the quarter, you guys were looking for gross margin numbers that were quite a bit lower. Thanks.

Jim Moylan, CFO

Yes. Thanks, George. We said 42% to 44% for the quarter and for the year and we still expect that's the range in which we'll be operating. However, we had a great quarter in Q1 and it was totally driven by mix. As we've said before, it depends upon the stages of various projects. If we're early in a project, we're going to have lower margins. Later on, we're typically going to have higher gross margins. We had a particularly good software order, so that was a part of it as well. It's hard for us to call. I think we're 42% to 44% today, but we did great in Q1. We'll see what happens the rest of the year.

George Notter, Analyst

Okay.

Gary Smith, President and CEO

Thank you, George.

Operator, Operator

Our next question comes from the line of Paul Silverstein with Cowen. Go ahead, please. Your line is open.

Paul Silverstein, Analyst

Hey, everyone. I'd like to revisit the comments about the coronavirus. I want to clarify that it seems your access to components isn't the main issue. However, based on what you’ve said, it sounds like there was a significant impact due to restrictions on your ability to access certain sites in various countries. Could you provide more detail on that? How many countries are we discussing? Additionally, is all the shortfall indeed related to demand because your customers cannot accommodate your delivery capability, rather than any limitations on components at this time?

Gary Smith, President and CEO

Okay. Paul, let me take the logistics part of that, I guess, rather than sort of how we call it, logistics. Yes, there are a number of sites that we can't get access to both on the submarine side to do installations and also in places like South Korea, even in Singapore, folks working from home. And that's having an impact in terms of our ability to get to some of the sites and do installation. So that is certainly some of it. Scott, do you want to talk about some of the chain?

Scott McFeely, Senior Vice President of Global Products and Services

Yes, Paul, regarding the supply chain, I want to clarify that we do not engage in research and development, new product introductions, or contract manufacturing directly in China. However, we do have some suppliers that source materials from China, many of which have second sources. Some of these secondary suppliers are also exposed to the Chinese market, and we are not insulated from those impacts. We maintain close communication with our contract manufacturers and suppliers to understand their plans and expectations regarding the timeline for bringing materials back online for the rest of the quarter, and we have incorporated that information into our projections.

Paul Silverstein, Analyst

Jim, when you mentioned that you were reiterating guidance, does that mean it takes into consideration the shortfall from corona in Q2, assuming there won't be any further impact for the rest of the year?

Jim Moylan, CFO

Correct. Yes, Paul. That's correct.

Paul Silverstein, Analyst

All right. I'll pass it on. Take the other questions offline. Thanks, guys.

Operator, Operator

Our next question comes from the line of Simon Leopold with Raymond James. Go ahead, please. Your line is open.

Simon Leopold, Analyst

Great. Thank you for taking the question. Gary, you made reference to a number of opportunities and I wanted to see if maybe you could drill down on which ones have the biggest potential to maybe move the needle for you, specifically, I want to drill down on sort of the non AT&T, non Verizon, non hyperscale part of the business. You mentioned Japan, you mentioned the cable guys. I don't think you mentioned Deutsche Telekom in your prepared remarks. So could you help us understand how to think about that particular group's effect on the 2020 outlook?

Gary Smith, President and CEO

Yes, definitely. We discussed some aspects of the MSO sectors earlier. Looking ahead to 2020, I believe the MSO space will show good strength. We've secured several wins there along with the considerable market share we already possess. There's significant activity in the MSO sector with companies like Comcast and Charter, which gives us a positive outlook. Additionally, among the major Tier 1s in North and Central America, I see strong potential, particularly in the second half of the year. We’ve achieved significant wins over the past two years, and those will start rolling out soon. I expect a robust second half. Moreover, in North America, the government sector is showing signs of renewed investment after being somewhat neglected for a few years, leading to increased activity. Overall, we're optimistic about North America, not just with the large carriers that have been our main customers. In Europe, we're starting to see the benefits from initiatives like Deutsche Telekom, which are beginning to impact our numbers. There's also an opportunity to gain more market share in the carrier space within EMEA, which contributes positively to our outlook for the remainder of the year. Furthermore, Japan has had a strong start to the year, and despite some challenges related to the coronavirus, things are going well so far. These are the key areas where I see strength in the business.

Simon Leopold, Analyst

Thanks. And just as a follow-up from a product or segment perspective, last quarter you had a very strong packet networking, and this quarter as you suggested it would, it would fall off sequentially and it did. Could you maybe step back and talk to us about that particular business for not just the year, but see if you could take it out longer term if you have in the path? It sounds like growth prospects are good. I just like to get an update on that. Thanks.

Scott McFeely, Senior Vice President of Global Products and Services

It's Scott. So on the packet piece, as we said last quarter, we had a great quarter not to expect that to be the go forward normal quarterly run rate through 2020. Q1 basically came in, as we expected, in the packet business and we're still bullish in terms of the plan for the year. What we said over a 3-year period for this packet is we expect it to grow faster than the aggregate in the sort of 8% to 10% range over our 3-year plan. And we think we're in good shape to do that. We're looking at expanded application spaces on the portfolio, working with the new launch of our router portfolio focused specifically optimized around 5G, but more generically other IP application sets as well. So 8% to 10% over the next 3 years is kind of the expectation in early periods, but we're on track for that.

Gregg Lampf, Vice President of Investor Relations

Thank you, Simon.

Simon Leopold, Analyst

Thank you very much.

Operator, Operator

And our next question comes from the line of Rod Hall with Goldman Sachs. Go ahead, please. Your line is open.

Rod Hall, Analyst

Yes, thank you for the question. I'd like to start by inquiring more about the coronavirus situation. I'm curious about your current exposure in Italy and whether you've noticed any signs of a slowdown in network rollout there. On a more positive note, the software performance exceeded our expectations. Could you provide insights on the trends driving that figure and how you anticipate it will evolve throughout the year? Additionally, I would appreciate any updates you can share regarding packet networking, specifically the opportunities in fronthaul and backhaul, and how those have changed for you in the last quarter. Thank you.

Jim Moylan, CFO

I'll take the first deals. Scott, you could do the packet deal. We don't have really anything of significance in Italy. So anything that happens there will be unlikely to affect us this year. With respect to software, we did have a good quarter. We're continuing to roll out our new MCP platform software and we're getting good take-up from customers. We do expect a good year from Blue Planet as well. So we'll continue to do what we think with respect to software for the year.

Scott McFeely, Senior Vice President of Global Products and Services

Yes. And just to pick up on the software piece, on MCP as we’ve spent a lot of time talking about in this form for us, that is our next generation domain controller cloud native design from ground up. We actually believe it's the first in the marketplace that has the breadth that it has from a packet networking, multi domain, multilayer management capability. And what you saw in Q1 is the accelerated adoption of that in our installed base. So that puts us in a great position to deliver on some of the promises of the adaptive network that we've been talking in the industry about. Back on your packet question on fronthaul and backhaul, so hopefully you saw the product announcements that we did a couple of weeks ago around our new product portfolio. Now take a step back from that a little bit and talk about what's the basis of that. So we've talked in the marketplace about adaptive IP. And for us, that's built on a bunch of different dimensions of capabilities that have all come together in this product portfolio and this announcement is the first sort of foundational is a next generation cloud native IP network OS that, is the right cloud-based architecture capable of running in a disaggregated environment on white boxes, on an integrated coherent solution like we've talked about in the press release and optimized for the right go forward IP protocols. So the right routing protocols going forward as opposed to legacy IETF protocols from 20 years ago. When we instantiate that on a Ciena hardware, we can have the opportunity to integrate it with the world's leading coherent optics, which we've done in this product portfolio in the announcements. And bring to bear a bunch of stuff that we've had from our history in terms of differentiating how we deploy these in service for service provider networks, service level agreement support, be able to deploy in outside plants and to be able to deploy at mega distributed scale. We sort of marry that then with the adaptive toolset that comes both from the market leading domain controller I mentioned MCP, but also our automation software suite around Blue Planet. And that we think delivers a very compelling value proposition in the marketplace and allows us to play in spaces that we haven't played before. The first instantiation of all that value is in these 5G optimized routers that were deployed in a 4G environment, but evolved to 5G as well. If you look back historically in our packet business, we have been very dominated by wholesale operators providing basically Layer 2 services to the MNOs. This now allows us to step beyond that and to compete basically right down to the sell side router through all the IP backhaul as well, which is a significant market expansion opportunity for us. And we're starting to RFPs that are looking at next generation networks optimized around their 5G access infrastructure. And that's the opportunities that we're going after with this. So long, long answer to a short question. Hopefully that gives you some color.

Rod Hall, Analyst

No, that’s great. Thanks, Scott. Thank you, guys.

Gregg Lampf, Vice President of Investor Relations

Okay. Thank you, Rod.

Operator, Operator

And our next question comes from the line of Michael Genovese with MKM Partners. Go ahead, please. Your line is open.

Michael Genovese, Analyst

Thanks very much. Hey, guys, how are you thinking about the 800 G competitive environment? How long do you think you're going to be the only product in the market? I think the competitor that's coming out with one also is trying to have a 600 G cycle with another product. So just how are you thinking about the market this year? And sort of when competition might catch on?

Scott McFeely, Senior Vice President of Global Products and Services

Yes, I will address that. First of all, I hope everyone saw the public customer references that Gary mentioned regarding WaveLogic 5 deployments in live networks. For those who haven't, I want to highlight some key aspects of those announcements. To start, we achieved the first single carrier 800 gig deployment for a data center interconnect application. Additionally, the announcements included single carrier 600 gig in a mixed fiber environment, with performance surpassing 1,600 kilometers. We also demonstrated 400 gig transmitted over 4,000 kilometers, fulfilling our commitment to carry 400 gig services globally. We showcased software control that supports variable transmission rates of 200, 400, 600, and 800. You inquired about the 800 gig context, but there were numerous market firsts in those announcements. Importantly, these were on actual production networks, which meant they had to work with various fiber types and coexist with existing wavelengths. This involved the complexities typical of real networks, rather than controlled lab demonstrations. The hardware we used was production-grade, and we anticipate generating revenue for this product within this quarter and continuing to ramp up through the latter half of the year. As we've mentioned in previous discussions, we expected to introduce this on two product platforms: 6,500 and wave server. The customer announcements span both platforms, fulfilling that expectation. This also provided us with an excellent opportunity to observe the optical engine's performance in real customer scenarios. All the announcements were made with performance to spare, confirming our lab results and reinforcing our promise not only to be the first to market with 800 gig but also to have the highest performing optical engine available. In terms of timing, we believe we will be ahead of competitors in deploying 800 gig in real-world settings. I want to take a moment to acknowledge that bringing this product to market was a long journey involving contributions from various disciplines, and I want to express my gratitude to the entire Ciena team across many functional areas for their dedication and effort. I also want to thank the customers who have supported us over multiple generations. I apologize for the lengthy response today.

Michael Genovese, Analyst

Those are great answer, Scott. Thanks. And Jim, I want to ask you a question as a follow-up. And it's hypothetical. So hypothetically speaking, if there were no coronavirus, do you think you would have raised the guidance today from the bottom end of 6 to 8 to the middle range of 6 to 8 for this year?

Jim Moylan, CFO

Mike, that's a hypothetical question. I shared our expectations for today, and I don't think it's appropriate to speculate beyond that. We're going to have a good year, a great year. We're doing very well. All the aspects we've discussed, including our business model and financial strength, remain strong, and we're very confident about the future.

Gregg Lampf, Vice President of Investor Relations

Thank you, Mike.

Operator, Operator

And our next question comes from the line of Jeff Kvaal with Nomura Instinet. Go ahead, please. Your line is open.

Jeffrey Kvaal, Analyst

Thank you very much. I was wondering if you all could delve into some of the dynamics inside of the web-scale numbers for us, please. The mix has come down a decent amount in the last couple of quarters. It sounds like you feel pretty good about what's happening in the upcoming quarters. What can you tell us about the permutations there?

Gary Smith, President and CEO

We are very confident in our position in this space overall. The first quarter performed as we anticipated, and we expect to see growth in the second quarter based on our current outlook. There are two key aspects that are particularly gratifying. First, we are expanding our customer base, with many new customers starting to build their own networks and optimize their data center connectivity. We are capturing a significant share of these new clients, which is encouraging. The second aspect is the strong engagement we have with our existing large customers regarding their future plans. We have collaborated closely with them on initiatives like WaveLogic 5 and various software integrations. This involvement in large global networks excites us. Additionally, we are enhancing our international collaboration, assisting customers in regions where we have established strength outside the U.S. Especially in Europe, Asia-Pacific, India—which is a significant growth area for them—and the Middle East, our relationships are strengthening. This growth gives us confidence in maintaining our substantial market share. Furthermore, there is no sign of a decrease in demand for data center connectivity and expansion, not just in the U.S., but worldwide.

Jeffrey Kvaal, Analyst

Thank you, Gary. As the T-Mobile deal closes, we are on the verge of having a third large national wireless player. Historically, neither side has been significant customers of yours. I'm curious if their growth could present a potential opportunity for Ciena, perhaps not in fiscal '20, but in the future.

Gary Smith, President and CEO

I would think the answer to that is yes. Whilst Sprint has not been a large customer in more recent years, they've got a very, very, very large installed Ciena base. In fact, they were our first ever customer commercially. So we have a long and great relationship with them. So we do think that is going to be a good opportunity. Now this looks like resolving. I don't think it's probably a 2020 opportunity, Jeff, but as we get to '21, I think the build out there and in other infrastructure builds for the 5G, I think there's good opportunity for us. And that does pervade some of our thinking into why we're so positive around the North American market.

Gregg Lampf, Vice President of Investor Relations

Thank you, Jeff.

Operator, Operator

And our next question comes from the line of Samik Chatterjee with JP Morgan. Go ahead, please. Your line is open.

Samik Chatterjee, Analyst

Hey, guys. Thanks for taking the question. I just wanted to follow-up first on Scott's comments on the 800 gig or the WaveLogic 5 product. Scott, if you can kind of share, you mentioned you expect revenues in this quarter. Are you thinking about the ramp of revenues relative to maybe some of the previous generation products like the 400 gig, if you can share any thoughts on that?

Scott McFeely, Senior Vice President of Global Products and Services

Yes, I have a few comments. First, we do anticipate some revenue this quarter, although it will not be substantial. The significant growth is expected in the second half of the year. Our projections indicate that the second half will outperform the first half, partly due to the anticipated timing of WaveLogic 5, and we expect these trends to materialize in the latter half of the year. We have incorporated this expectation into our annual plan. Regarding the transition timing, as we move from previous generations, particularly WaveLogic 4 to WaveLogic AI, there is a dependency on the infrastructure of the line systems to manage higher baud rate transmission. This has previously slowed the transition pace. Much of that infrastructure has now been upgraded, eliminating barriers for many of our customers in adopting next-generation technology. Therefore, I expect the transition to occur more quickly in certain applications compared to past generational shifts. Based on our current assessment, this growth is reflected in the second half of our business plan.

Samik Chatterjee, Analyst

Got it. And just a follow-up. Gary, you mentioned the opportunities in EMEA a couple of times now. Are you kind of thinking of those if you can kind of outline which markets you think the biggest opportunities are you seeing kind of more opportunities than countries like U.K where there's no regulation capping market share for certain vendors, or are you looking at kind of a general move away from certain partners, that's kind of overall in the region that's going to help you.

Gary Smith, President and CEO

I would say two aspects to it. One, just generally speaking, we have a smaller market share there, given the historical dynamics with it. When I see opportunity, it's really around two dimensions. One is there's a big web-scale build out going in Europe, and we're obviously extremely well-placed with those folks. But also, it's got more attention is being obviously the Tier 1 carriers and we do see opportunity with those carriers. I think it's as much about realignment where you've got a couple of players with very large market share. And I think a number of these Tier 1 carriers are beginning to reflect on just the concentration there and bringing in a strong new vendor. We've seen that at Deutsche Telekom. Obviously, we've won that, we are just in the rolling that out, but we're seeing it with other Tier 1 carriers as well. So I do think there's opportunity and it's multi-year. I think the thing I would remind everybody is, these are very big strategic decisions for the carriers. Point number one, takes time. Number two, it's infrastructure, which takes time both to migrate and to award. And so, we're a couple of years into this and we're beginning to see the benefits of some of these decisions like Deutsche Telekom. But there's plenty more in front of us, frankly. And I think it is a terrific opportunity for us, but it is a multiyear opportunity. I think we will see some of this year and in the south, and we'll see some next year.

Samik Chatterjee, Analyst

Great. Thank you.

Gregg Lampf, Vice President of Investor Relations

Thank you, Samik.

Operator, Operator

And our next question comes from the line of Tim Long with Barclays. Go ahead, please. Your line is open.

Tim Long, Analyst

Thank you. I have two questions related to web-scale. First, you mentioned various opportunities and new players, particularly in Europe. However, the growth rate is significantly slower compared to last year. Could you elaborate on this? Is it due to market digestion or a lack of incremental share after last year's gains? Please provide some insight into the lower growth rate despite the positive developments. Secondly, can you update us on ZR and Ciena's position? What impact do you foresee that technology having on the web-scale sector over the next year or two? Thank you.

Gary Smith, President and CEO

Yes, the quick answer to your question, Tim around that is, we had an incredible year last year and we took massive amounts of market share. And obviously we've got well over 50% in that space. And so, I think it's being realistic, we can't expect to have those kinds of more than double-digit growth rates going into this year. We do think the overall market there will grow about 7% to 10%, and we think we will grow probably in line with that market. I do not think we will lose market share there, given the dynamics that: a, the relationships, the embedded nature of those relationships; b, we have got the best roadmap for them. They've been integral in helping design that, very much on a lot of the developments that we've went out delivering into market, and the roadmap and visibility that we have with them. But I do think it's going to get to a more normalized rate of about the 7% to 10%. I would say that, we've got a much broader base of customers there now than we had last year. So, it gives us some confidence around the diversification of it. On the ZR side, Scott, do you want to comment on?

Scott McFeely, Senior Vice President of Global Products and Services

Yes, regarding ZR, I want to emphasize our perspective on that market opportunity. We view it as a subset of the metro-based data center interconnect market capable of utilizing ZR technology. Previously, we estimated this market opportunity to be around $500 million, and that view hasn't changed. However, our assessment of the timing for this market has shifted slightly to the right. We now believe it will present a market opportunity in 2021. We are developing products based on the WaveLogic 5 family, which we introduced a couple of seasons ago, including the WaveLogic 5 Extreme product that underpins our recent announcements, and the WaveLogic 5 nano product line, which we expect to launch towards the end of 2020. We feel well-prepared to enter this market. Additionally, there seems to be a misconception that this is a commodity market, which suggests that many suppliers can easily provide the products, similar to items you would find at a store. In reality, delivering this technology is complex, and we anticipate that there will be fewer suppliers than many expect. Those are my thoughts on it, Tim.

Gregg Lampf, Vice President of Investor Relations

Thank you, Tim.

Operator, Operator

Our next question comes from the line of Jim Suva with Citigroup Investments. Go ahead, please. Your line is open.

Jim Suva, Analyst

Thank you very much. You mentioned this quarter gross margins were benefited from several factors, mix and so on and so forth. And then in your prepared comments you mentioned, in the second half of the year, things are looking pretty good from a revenue perspective with CenturyLink and rollout of other things. Can you remind us, as we look forward like in the second half of the year and such, is there any view on the mix that may impact margins like, for example, is hyperscale or some of the global ones more or less profitable? Or is it more having to do with the phase of the rollout of what you're doing? Thank you.

Jim Moylan, CFO

Yes. Thanks, Jim. First, I would say that if you look across customers, there's not a tremendous amount of difference in our gross margin. The customers are all big. They have the same choices and the competitive environment in every customer is the same pretty much. So not a big difference in across customers. However, there is typically or has been a significant difference in margin between the early stages of a project in which we're rolling out the line system, the commons, photonics, that sort of thing, and later in the projects when we're filling the chassis with capacity. And that's been a model that's been going on for a long time and we think it will continue for the most part. And that's the real big difference. The other difference, too is that, in new customers, we tend to compete with transport. And as we mature that relationship, we tend to be able to sell higher margin products such as packet in particular, hopefully Blue Planet. And those products have higher margin profiles by nature of their complexity and software content than does transport. So that its totally about where we are in the lifecycle of a project and where we are in the lifecycle of a customer.

Gregg Lampf, Vice President of Investor Relations

Thank you, Jim.

Operator, Operator

And our next question comes from the line of Amit Daryanani from Evercore. Go ahead, please. Your line is open.

Amit Daryanani, Analyst

Thanks a lot for taking my question, guys. I guess first one, just to understand how the $30 million revenue impact in the April quarter from the coronavirus up. Is there a margin and free cash flow impact as well, given the fact it's a supply and logistical issue? And would you expect this demand to recover in the back half of the year, or it's too early to call that?

Jim Moylan, CFO

Well, the $30 million lost revenue will have a gross margin attached to it, so there will be an impact on the gross margin dollars. I don't think that will have a significant impact on the gross margin percent. And so by definition it could have an effect on the free cash flow. Now, there's always this free cash flow affected by events that happened earlier, right? We get the revenue, we collect the money later on in the quarter. So if, for example, these losses in revenue occur late in the quarter, maybe we'll have a significant impact on gross margin if it occurs sort of right now, then yes, it will have an effect on free cash flow in the quarter. Does that answer your question?

Amit Daryanani, Analyst

It does. And then I guess do you expect this to recover at some point in the back half the year?

Jim Moylan, CFO

Well, what we've said is, I think by definition, the answer is yes, because we've said that we expect that assuming no further effects from the coronavirus, our guidance for the year stands. And I just want to point out, too, that this $30 million is not really due to demand per se, and we're passing that carefully. What we're seeing is the effect of logistics in certain countries. We had demand, we had orders, and we would have recognized that revenue save for the fact that given the coronavirus situation, we could not get the sites. So it's not really a demand issue. It's a logistics issue. And we also said that it's also a supply chain issue.

Gregg Lampf, Vice President of Investor Relations

Thank you, Amit.

Operator, Operator

Our next question comes from the line of Meta Marshall with Morgan Stanley. Go ahead, please. Your line is open.

Meta Marshall, Analyst

Great. Thanks. A lot of my questions have been answered. So maybe I will just focus on, there's reports of a large European competitor kind of examining strategic options. And so I wanted to see if you're seeing any ability that take advantage of that dislocation? And whether there's any kind of strategic outcomes that would concern you? Thanks.

Gary Smith, President and CEO

I think the sort of industry structure, Meta, is an interesting one. And I think what you've seen, with Ciena in the last sort of two to three years is really taking advantage of that direction that's been moving over many years. I think you've got a number of generalists that have obviously had some challenges. And I think, that's enabled us as a focused player to take share, because we're incredibly focused, we're the best in the world at what we do. And that is increasingly more and more valued as folks want higher capacity, closer to the end user on the application. So, you look at the share that we've taken, frankly, in the last two to three years, pretty much all of the existing players in this space. And we now have the largest market share of anybody in the world, and we do not operate directly in the largest market, which is China. So that tells you, I think the gains that we've had. But we feel very good around our portfolio and roadmap and continuing to take share.

Meta Marshall, Analyst

Got it. Thanks.

Gregg Lampf, Vice President of Investor Relations

Thanks, Meta.

Operator, Operator

Our next question comes from the line of Tim Savageaux with Northland Capital. Go ahead, please. Your line is open.

Tim Savageaux, Analyst

Hi, good morning. I wanted to revisit the cloud sector, which showed weakness last quarter, and it appears growing could be difficult this year. Are you noticing customers delaying their purchases in anticipation of 800 gig solutions that might drive growth in the second half, or have there been any shifts in market share? It seems you need to significantly increase your run rate to meet your targets. How much visibility do you have on achieving that? Additionally, there appears to be a link between the decline in the cloud segment and high gross margins. Jim, if I understood you correctly, you’re suggesting we shouldn't read too much into that? Thanks.

Jim Moylan, CFO

Yes, we're encouraging you not to read a correlation there. With respect to a pause to wait for 800 gig, we're not saying that at all that the demand for capacity is such that they really must put capacity in place even if it's not 800 gig. And I'd say this, that the web-scale companies are project oriented, just like the service provider companies are. There are going to be ebbs and flows in their spend, and so we expect a very good year with the web-scale. We expect we'll have a nice quarter in Q2. Yes, I think if you look back at some of the quarters we did last year, I don't think you'll have a doubt that we can get to the numbers we've posted. I mean, we've suggested we're going to get to this year. Anyway we're well-placed and we're going to do well with that group this year, we believe.

Gary Smith, President and CEO

Tim, regarding visibility, we have strong insight into their plans thanks to our strategic relationships, both nationally and internationally. We collaborate closely with them on roadmap initiatives, which gives us confidence in maintaining our market share, currently at the 7% to 10% growth rate for the year. Our order flow in Q1 and the beginning of this quarter has been solid, reinforcing our confidence. As Jim noted, there are natural fluctuations, but our diversified business model helps us manage those variations. Additionally, the market is expanding, with smaller players entering the data center space looking to enhance their operations, which presents a valuable opportunity for us, even if each one isn't significant individually.

Gregg Lampf, Vice President of Investor Relations

Thank you, Tim.

Operator, Operator

Our next question comes from the line of Tal Liani with Bank of America. Go ahead, please. Your line is open.

Tal Liani, Analyst

Hi, everyone. I have three questions. Two are quick, and one is more detailed. I want to begin with the impact of the pandemic but from a positive perspective. In Europe, is there an opportunity to replace some vendors because they cannot meet demand, or do you think customers will simply wait for Huawei to supply the right products later on? The second question, which may or may not be an issue, is regarding the possibility of working from home for a period. Would there be an increased demand for networking equipment to support various types of connectivity? Do you see this as a potential positive driver, or not? I will pause here before I ask my final question about routers, which is a different topic altogether.

Gary Smith, President and CEO

Let me address the first question regarding competitive exposure. It really depends on how things unfold. There are two main factors to consider. First, we will have to see how their supply chain develops, but I see this as an opportunity for us, especially in the long term, due to our diversified supply chain. It's highlighting for many European carriers the level of concentration they currently have with their existing partners. While this is a subtle change, I believe it is significant. I don’t expect it to present much of an immediate opportunity; instead, it will likely influence their strategic decision-making over the next 18 months. For the second part of your question, Jim, would you like to share your thoughts?

Jim Moylan, CFO

Sure. I think it's a very interesting question, Tal. And I will say that just like many other companies, we've taken a lot of steps to protect our employees with respect to the coronavirus. We are encouraging in some cases in some countries people to work from home. We've talked about travel bans into some countries. So we've done a lot of things that will accelerate what has already been, in many cases, a movement toward working from home. And we certainly, we at Ciena, are looking at expanding our collaboration toolset. I think other companies are doing the same thing. It would not surprise me if this combination of new technologies around collaboration and this situation that has occurred here is that you will see more people work from home, and over time, yes, that's going to mean more bandwidth needed in a lot of different places. It's not a near-term effect, but yes, I think the direction is good for us.

Tal Liani, Analyst

Got it. My next question is about the routing and the 5100 that you launched. On one side, we see Cisco moving into optical through acquisition and offering semiconductors to the cloud, suggesting that you develop your router or optical with their semiconductor. On the other side, you're entering into routing. I want to understand your strategy. Is this an offensive or defensive approach? Are you going into routing because you believe networks will condense into thinner layers or do you see growth potential from optical to routing? I'm trying to grasp if you're reacting to Cisco and others that integrate optical into their router or if this represents a different opportunity or application.

Gary Smith, President and CEO

That's a great question. The short answer is that it's both an offensive and a defensive strategy. This isn't something we just decided to do yesterday; it was a strategic choice made many years ago. It allows us to expand our market share in both access and infrastructure. We believe that on the infrastructure side, the key to success will be having best-in-class optics, a strong product offering for carrier service providers, as well as IP and multi-layer, multi-domain automation software. When you consider all these factors together, especially along with our relationships with service providers, we are optimistic about our opportunities.

Gregg Lampf, Vice President of Investor Relations

Thank you, Liani. Thanks everyone for your interest. We appreciate the time this morning. We look forward to following up with everybody today and over the next several weeks. Thank you. Have a good day.

Operator, Operator

This concludes today's conference call. You may now disconnect.