Earnings Call Transcript - MRVL Q2 2023

Operator, Operator

Good afternoon, and welcome to Marvell Technology's Fiscal Second Quarter 2023 Earnings Conference Call. All participants will be in listen-only mode. After today’s presentation, there will be an opportunity to ask questions. Please note this event is being recorded. I would now like to turn the conference over to Mr. Ashish Saran, Senior Vice President of Investor Relations. Please go ahead.

Ashish Saran, Senior Vice President of Investor Relations

Thank you, and good afternoon, everyone. Welcome to Marvell's second quarter fiscal year 2023 earnings call. Joining me today are Matt Murphy, Marvell's President and CEO; and Jean Hu, our CFO. Let me remind everyone that certain comments made today may include forward-looking statements, which are subject to significant risks and uncertainties that could cause our actual results to differ materially from management's current expectations. Please review the cautionary statements and risk factors contained in our earnings press release, which we filed with the SEC today and posted on our website as well as our most recent 10-K and 10-Q filings. We do not intend to update our forward-looking statements. During our call today, we will refer to certain non-GAAP financial measures. A reconciliation between our GAAP and non-GAAP financial measures is available in the Investor Relations section of our website. With that, I'll turn the call over to Matt for his comments on our performance. Matt?

Matt Murphy, President and CEO

Thanks, Ashish, and good afternoon, everyone. In the second quarter of fiscal 2023, the Marvell team drove another record level of revenue at $1.52 billion, growing 41% year-over-year and 5% sequentially. Revenue on an annualized run rate exceeded $6 billion, a significant achievement for Marvell. Revenue collectively from our four data infrastructure focused end markets grew 49% year-over-year and 7% sequentially, reaching a new high of 89% of our total revenue. Moving on to the rest of the income statement. Our GAAP gross margin was 51.8%, GAAP operating margin was 2.6% and GAAP EPS was $0.01. Our non-GAAP gross margin was 65%, and our non-GAAP operating margin hit a new record at 36.5% of revenue. Disciplined OpEx management helped drive our non-GAAP earnings per share to $0.57, above the midpoint of guidance. Earnings per share grew 68% year-over-year, much faster than our revenue growth as we continue to drive operating leverage. Now let me provide a brief update on the outlook for demand and supply. We continue to see healthy demand for our products with the exception of consumer HDD, and our overall demand is outpacing supply. The very successful adoption of our new products and strong end market demand has enabled Marvell to grow revenue significantly above our long-term target model. As a reminder, at our last Investor Day in October 2021, we had updated our long-term model for revenue growth to a target range of 15% to 20% from an annualized revenue run rate at that time of $4.3 billion. At the midpoint of the target, it would have taken us two years to achieve $6 billion in annualized revenue run rate. We are very pleased that we were able to cross this milestone this quarter, a full year ahead of our target. As we look forward, we are confident that our long-term growth opportunity is consistent with our target model even off this higher base of revenue. Let me now turn to supply. Despite a choppy supply environment, the strength of our business model and diversity in end markets enabled us to achieve our overall revenue guidance in the second quarter. We expect our revenue mix by end market will continue to be influenced more by supply than demand in the near term. As we continue to secure capacity to support our long-term growth, we are encouraged to see some pockets of additional supply starting to open up on certain nodes and simple package technologies. In contrast, for our high complexity products with long manufacturing cycle times, such as in our data center end market, the supply chain for leading-edge technology and advanced packaging remains very tight. Our operations team continues to execute our strategy to deeply engage with partners to support our long-term growth. Let me now move on to discussing our five end markets, starting with data center. In our data center end market, revenue for the second quarter was $643 million. On a year-on-year basis, our data center revenue grew 48%, with our cloud business growing significantly faster. The year-over-year growth was very broad-based with multiple product lines contributing to strong results. On a sequential basis, the continued growth from our cloud business was offset by a decline in our on-premise business flattening our data center revenue. In the on-premise business, the sequential decline was driven primarily from our fiber channel and Ethernet adapters. We believe the overall demand picture in cloud data centers remains healthy, and that this market represents the single biggest long-term growth driver for Marvell. We expect growth to continue from a number of exciting areas, including electro-optics, cloud-optimized custom solutions, cloud switching and our broad data center storage portfolio. At the Flash Memory Summit earlier this month, Marvell showcased many state-of-the-art data center storage solutions including our Bravera PCIe Gen 5 SSD controller, an Ethernet Bunch of Flash solution for AI and ML and CXL. As you recall from our discussion last quarter, we see CXL as the next big evolution in cloud data centers that will enable us to increase our reach into the memory ecosystem and presents a multibillion-dollar SAM expansion opportunity for Marvell. This includes a host of new products such as CXL expanders, cooling devices, switches and accelerators and the potential to embed CXL IP in a broad range of our data center products. Events and presentations at FMS strongly validated our excitement around CXL. This is the hottest topic at FMS with standing room-only presentations by many leading industry participants. At the Marvell booth, we demonstrated the industry's first CXL memory pooling solution, addressing the challenges related to memory scaling and cloud data centers. While the industry is still in the early stages of CXL adoption, we are working on closing significant opportunities right in front of us at key customers and envision a strong design win pipeline. Turning now to the third quarter of fiscal 2023. In data center, year-over-year, we are expecting revenue growth of over 20%, driven by our cloud end market. Due to the complex nature of products for this end market, we expect supply challenges in the third quarter to impact our ability to fully meet the demand on a sequential basis. As a result, we expect revenue from cloud customers to be flat sequentially and revenue in the on-premise market to decline. Therefore, for our overall data center end market, we project revenue in the third quarter to decline sequentially in the mid-single digits on a percentage basis. However, we expect our data center revenue in the fourth quarter to increase on a sequential basis, anticipating an improvement in supply and new product ramps in cloud. Turning to our carrier infrastructure end market, revenue for the second quarter was well-above our forecast at $285 million and growing 45% year-over-year and 13% sequentially. We benefited from a strong performance from both our wireless and wired end markets. Our wireless business continued to advance in the second quarter, benefiting from the growth in 5G adoption. With an annualized revenue run rate crossing $600 million, we are thrilled to have achieved an important milestone. We expect to see an extended period of growth for our 5G business with multiple regions such as Europe and India yet to launch 5G in a meaningful fashion. We expect to see further growth in other large geographies such as the US, which are only in their first year of mainstream deployment. In addition, we have significant content growth in the next generation of base stations still in front of us. In wired, we saw stronger than expected shipments of our coherent DSPs and accompanying TIAs and drivers to wired customers. We are seeing strong demand in metro and long haul carrier markets, driven by a rapid adoption of our 400-gig coherent electro-optics portfolio. We are pleased with the strong launch of these products. Looking ahead to the third quarter of fiscal 2023 for our carrier end market, we were expecting year-on-year revenue growth in the mid-20% range, driven primarily by our wireless end market. On a sequential basis, we expect wireless revenue to continue to grow, driven by 5G deployments. However, after a very strong second quarter, we expect a sequential decline in revenue from wired to more than offset the growth from wireless. As a result, we project revenue from the overall carrier end market to decline in the mid-single digits sequentially on a percentage basis. Moving on to our enterprise networking end market, revenue for the second quarter was $340 million, growing 53% year-over-year and 19% sequentially, better than our guidance driven by improvements in supply. Our strong growth in enterprise networking is primarily a result of our own unique product cycles. Our revenue growth has accelerated as our customers have started shipping their new platforms where we have the dual benefits of share gains and an increase in content, driven by the adoption of higher-value products such as our multi-gigabit PHYs. In the second quarter, we see ongoing growth from our refreshed Ethernet switch and PHY portfolio. We also benefited from a ramp in our custom silicon products for enterprise networking, which is a new growth vector in this end market for Marvell. In the third quarter of fiscal 2023, we expect a continuation of strong demand for our products from the enterprise networking end market. As you heard earlier, we are seeing pockets of supply opening up, which should enable us to begin to catch up to demand. As a result, we are projecting revenue from enterprise networking to grow approximately 70% year-over-year and over 20% sequentially. Turning to our automotive and industrial end market. Revenue for the second quarter was $84 million, growing 46% year-over-year. Our auto business continued to grow sequentially, but this was more than offset by a supply impacted industrial business. As a result, overall revenue from the combined end market declined 6% quarter-over-quarter. Year-over-year, our auto business, driven by higher adoption of Marvell's Ethernet technology continued its strong growth trajectory with revenue doubling. Last quarter, I discussed our growing list of Ethernet design wins in our auto business, which expanded to eight of the 10 largest OEMs worldwide and 36 OEMs in total. I would highlight that the lifetime revenue from these new design wins is substantially larger than prior wins. At large auto OEMs, we are winning in their highest volume internal combustion engine segments, along with their higher content in their EVs and hybrids. These wins tend to be multi-platform in nature, covering many models simultaneously. Overall, content is continuing to grow, driven by an increase in the number of Ethernet connected end points, coupled with the need for more bandwidth. Looking to the third quarter of fiscal 2023, we are projecting revenue growth to remain over 40% year-over-year and grow in the mid-teens sequentially on a percentage basis for the combined auto and industrial end market. We project all of the sequential growth to be driven by our automotive products where we are experiencing strong continuing improvements in supply. Moving on to our consumer end market, revenue for the second quarter was $164 million, declining 1% year-over-year and 8% sequentially. Results were below guidance as demand from the HDD market weakened. In contrast to Consumer HDD products, revenue in the second quarter from our consumer SSD controllers continue to grow both sequentially and year-over-year. Looking ahead to the third quarter of fiscal 2023 for our consumer end market, we are forecasting revenue to be flattish sequentially. On a year-over-year basis, we expect revenue from the consumer end market to decline by approximately 10% due to softness in consumer HDD demand, partially offset by continued growth in our SSD business. In closing, we delivered record results for the second quarter and are guiding for continued growth in the third quarter. Our strategy to focus on a diversified portfolio and data infrastructure is playing out very well as we continue to deliver strong results. We have limited exposure to the headwinds that consumer-exposed companies are now facing. In the third quarter, at the midpoint of the range, we are guiding our revenue to grow by 29% year-over-year, and we expect operating leverage in our business model to drive non-GAAP EPS at the midpoint of guidance to grow by 37% year-over-year. Looking forward, we are projecting our revenue growth to accelerate on a sequential basis in the fourth quarter on the back of more supply and new product ramps. As we wrap up the first half of fiscal 2023, I'm very pleased with the trajectory for full year revenue, which is well above the target we established last December. At that time, we had discussed our target for fiscal 2023 annual revenue growth in the low 30% range. I'm very pleased to note that we are running well ahead of that target with full year revenue growth now tracking towards the high 30% range. Over the last six years, through organic investments and strategic M&A, we have significantly transformed the company, pivoting to data infrastructure, accelerating our technology road map and driving a tremendous increase in design wins. We are now seeing the benefits of these efforts and our revenue growth, operating margin expansion and increased exposure to the critical cloud, 5G, and auto end markets. As we look at next fiscal year, despite economic and semiconductor cycle concerns, we are optimistic about our prospects. We expect to benefit from our favorable end market exposure and significant revenue contributions from a number of Marvell-specific product cycles, which we have discussed in detail over the last several quarters. Before I hand off to Jean, let me provide an update on our Board and ESG. Earlier this week, we announced the addition of Rebecca House to the Marvell Board of Directors. She currently serves as Senior Vice President, Chief People and Legal Officer and Corporate Secretary at Rockwell Automation, a global leader in Industrial Automation with 25,000 employees worldwide. She was selected for her extensive background in the areas of talent management, legal, ethics and compliance, public affairs, security and sustainability. I'm excited to have Becky join our already strong group of directors, and I am looking forward to working with her. Finally, I'm pleased to announce the publication of Marvell's inaugural sustainability report. I encourage you to review the report on our website to learn more about our ESG performance and future goals. And with that, I'll turn the call over to Jean for more detail on our recent results and outlook.

Jean Hu, CFO

Thanks, Matt, and good afternoon, everyone. I'll start with a review of our financial results for the second quarter and then provide our current guidance for the third quarter of fiscal 2023. Revenue in the second quarter was $1.517 billion, growing 5% sequentially and 41% year-over-year. Data center was our largest end market, accounting for 42% of consolidated revenue. Enterprise networking was the next largest with 22% of total revenue, followed by carrier infrastructure with 19%, consumer with 11%, and automotive industrial at 6%. GAAP gross margin was 51.8%. Non-GAAP gross profit was $986 million, increasing 41% year-over-year. Non-GAAP gross margin was 65% of revenue, slightly below the midpoint due to product mix. GAAP operating expenses were $747 million and included the cost of share-based compensation expenses of $135 million, amortization of acquired intangible assets of $88 million, an $85 million charge for contractual legal disputes segment and $7 million in other acquisition and divestiture-related costs. Non-GAAP operating expenses were $432 million, below the midpoint of our guidance. OpEx increased by 18% year-over-year as we added headcount to deliver the marketable new designs we have won with key customers. We continue to drive strong operating leverage to grow OpEx to significantly less than top line revenue growth. GAAP operating income was $39 million. Our non-GAAP operating profit was $554 million, increasing by 67% from a year ago, and non-GAAP operating margin was 36.5%, a record for Marvell. For the second quarter, GAAP income per diluted share was $0.01. Non-GAAP income per diluted share was $0.57, increasing by 68% year-over-year. Now turning to our balance sheet and cash flow. During the quarter, we generated $332 million in cash from operations, reflecting our strong earnings offset by continued working capital investments to support our top line revenue growth. We have increased our inventory by $78 million to better address demand from our customers in a very tight supply chain environment and to help ensure a smooth ramp for a number of new design wins that we expect to start shipping in the next few quarters. The majority of this increase was in raw materials. Looking longer term, as the supply chain starts to show improvement, we expect our DOI will start to decline. Consistent with our strategy to secure longer-term supply, we have increased our long-term purchase commitment for capacity to support a number of high-volume sources of design wins. Purchase commitments increased by $447 million in the second quarter to a total of approximately $3.4 billion. Please note, these commitments are over a multiyear time period. At the end of the second fiscal quarter, our cash and cash equivalents was $617 million. We intend to maintain a higher cash balance compared to the last few years as our business has significantly increased in scale. Our total debt was $4.6 billion. Our gross debt-to-EBITDA ratio was two times and net debt-to-EBITDA ratio was 1.8 times. We returned $101 million to shareholders through $51 million in cash dividends and $50 million of share repurchase. Now, turning to our guidance for the third quarter of fiscal 2023, we expect the following; revenue will be in the range of $1.56 billion, plus or minus 3%. GAAP gross margin will be in the range of 51.1%, plus or minus 1.1%. Non-GAAP gross margin will be in the range of 65% plus or minus 0.25%. GAAP operating expenses will be in the range of $667 million to $677 million. Non-GAAP operating expenses will be in the range of $435 million to $440 million. At the midpoint of our guidance, we expect to deliver a 37% non-GAAP operating margin. We continue to make significant progress toward our long-term target of 38% to 40% non-GAAP operating margin. Other income and expense, including interest expense, will be approximately $38 million. For the third quarter, we expect a non-GAAP tax rate of 6%. We expect our basic weighted average shares outstanding will be 854 million, and our diluted weighted shares outstanding will be 862 million. As a result, we expect GAAP earnings per share in the range of $0.05 to $0.13. We expect non-GAAP income per diluted share in the range of $0.56 to $0.62.

Operator, Operator

Thank you. We will now begin the question-and-answer session. Our first question comes from Toshiya Hari of Goldman Sachs. Please go ahead.

Toshiya Hari, Analyst

Hi, good afternoon. Thanks so much for taking the question. Matt, I wanted to ask a question on calendar 2023 or fiscal 2024. You gave some brief comments as it pertains to some of the big growth drivers that you've talked about in the past. I was hoping you could remind us perhaps the top three drivers that are idiosyncratic to Marvell as you look out into fiscal 2024? And how you're thinking about the supply side of the equation. Do you think by fiscal 2024, you'll be shipping to demand or you'll still be constrained, whether it be wafers or substrates? And the third part of my question, I think consensus has you growing top line by about 17%. Is that a fair number to start off with, or is that too high, too low? Any comments on where Street consensus is today would be helpful. Thanks so much.

Matt Murphy, President and CEO

Yeah. Thanks, Toshi. And we'll go ahead and do the trifecta of questions here. No problem. So on the first one, for next year, as you point out, there are a number of Marvell-specific growth drivers, which we're very excited about. I'll cover three of them. And then, of course, there's other things going on as well. So the three biggest buckets and then the number one of all three is our cloud-optimized silicon ramp. What we've talked about in the last few quarters and even year is a number of new design wins that we achieved over the last couple of years in this cloud-optimized silicon area. And we sized it for those of you on the call that haven't been following it at about $400 million of incremental revenue for next year and then $800 million the year after. And that's still tracking extremely well. We have good line of sight on those programs. They're quite diverse in nature, by the way. So there's a number of them that are going to have to ramp and that's all tracking well. The second is, and you saw even in the most current quarter, again, another strong performance out of our 5G business in wireless, and the adoption of 5G will absolutely continue next year. And really, on top of that, which is more specific to Marvell, is we have incremental content gains and SAM expansion coming as well. So that's also in front of us. And then on the third, our automotive business, which in general, has been about doubling on a year-on-year basis, if you go back over the last few quarters. This is automotive Ethernet. That also has a very strong outlook as well for next year. And again, this is really based on the breadth of design wins, Toshiya, we have across almost all the major top OEMs as well as virtually all the emerging next-generation car companies. And by the way, it's proliferating both in the ICE vehicles as well as electric vehicles. So those three, I think, are good buckets to think about. On the follow-up on the constraint side, we are seeing some loosening of supply, as I said in my prepared remarks, which we believe will begin to benefit us, some of which will be in Q4. When you think about next year, when you look at the broader supply chain and you actually focus on the leading-edge technology types of components that are required, whether that's advanced packaging and substrates, some of the advanced node process technology and just some of the complex nature of the products we're dealing with, those we have to manage very carefully. They have long manufacturing cycle times, and we need to plan appropriately. But currently, we feel very good about our line of sight to be able to ramp up these programs in line with what our customers need, and we're having those discussions as we speak. And then the final part is with respect to the outlook next year, I think the biggest thing to take away really is at the highest level, we're ahead of plan on where we thought we were if I went back to our Analyst Day back at the end of 2021, we're on the $6 billion annualized revenue run rate. Now our current year looks like it's going to be above where we thought it would be back at the end of last year. So that's all positive. And as we look forward, we do see the long-term target model being achievable even off this higher revenue run rate. So that's more of a long-term comment. But certainly, if you add up our growth drivers and you look at where we are today, we feel very good about fiscal 2024 or calendar 2023 next year. Thanks.

Toshiya Hari, Analyst

Thanks so much.

C.J. Muse, Analyst

Yes, good afternoon. Thank you for taking the question. I guess, a question around data center, particularly as it relates to the October quarter guide. I'm surprised that cloud is tracking only flat. And I guess, is that kind of a supply constraint that caught you by surprise, or otherwise, less than 3% sequential growth seems a little bit light. I would love to hear your thoughts around that.

Matt Murphy, President and CEO

Yes, I understand, C.J. There are a couple of points to address. I mentioned some of this in the prepared remarks. This year, we've faced challenges on the supply side, similar to many other companies, experiencing fluctuations in supply timing and market demand. Consequently, for an average quarter, our ability to forecast deliveries has not been perfect, even in recent quarters. However, in the data center segment, we experienced a significant increase starting in our first quarter of this year. Last year, we faced constraints, but we made considerable progress. Our first quarter saw about a 12% sequential increase from our fourth quarter, and we've maintained that level with a slight increase since then. Year-over-year, the cloud segment has been exceptionally strong. Looking ahead to the fourth quarter, we anticipate another sequential uptick, which is not unexpected for us. We're aware of these programs, and while we're making efforts to improve for this quarter, this is our current outlook. The cloud business has been robust, and overall, Marvell remains in good shape. It seems more like a timing issue with supply, and our operations team is actively working to ensure we meet customer needs and align with their ramp-up plans.

C.J. Muse, Analyst

Thank you.

Ross Seymore, Analyst

Hi. Thanks for letting me ask a question. Matt, I want to talk about the cloud-optimized side. I know you answered a previous question that, that should be an idiosyncratic driver for you next year. But how do I blend together, frankly, the answers to the first and the second question that was already asked, where the cloud side is lumpy, have ups and downs, but the good part is it's idiosyncratic, and you expect it to grow. So I guess the net of it all is, do you see risk to that $400 million over the next year and then another $400 million the year after, there it's macro and/or supply stays lumpy, or do you think the customer-specific very customized aspect of those businesses will allow that to grow and deliver those numbers even in a more choppy environment?

Matt Murphy, President and CEO

Yes. Sure, Ross, and a great question. Maybe just before I answer it, I'll just give a higher level view. And your question is cloud-specific, but if I just frame the overall Marvell strategy that we've put together and the business model we've put together, it's been one where diversification and breadth of product offering and technology and obviously, the financial model to go with it has been our North Star since I joined the company and since this management team has driven this transformation. So you can even see it in the short term where like, for example, we've got constraints in cloud this quarter, but enterprise and automotive, when you look out to next quarter, are doing extremely well, and that’s because of our diversification of our model, all focused around data infrastructure by the way. So while there may be lumpy parts of our business from time to time, that is by design, how we've architected the business model of Marvell. And it's taken a long time to get here. And I think it's actually proving to be very resilient when you look at our Q3 being up and then our Q4 actually accelerating. So that's the bigger picture around how we think about it and managing lumpiness. Now with respect to the cloud, I might want to put a little asterisk by the $400, $800 and that we've actually talked about it being $400-plus and $800-plus in prior calls, which means the $400, $800 was identified last year. And then subsequently, in our communications with investors, including earnings calls, we've said we've actually won more business since then with incremental revenue both in fiscal 2024 and fiscal 2025. So next year and the year after. So think of it as kind of $400-plus, $800-plus diversified across a number of programs. So the bottom line is we feel very good about that ramp. Some of them, I'm sure, will require a lot more than we're planning for at this point. And I'm sure a few of them will require less than we're planning. But in aggregate, when we judge the outlook, and we just did a refresh of this just very recently, not only internally, but even with my key customers in terms of planning for next year, that ramp looks very solid in both of those years.

Ross Seymore, Analyst

Thank you.

Timothy Arcuri, Analyst

Thanks a lot, Matt. I also wanted to ask about data center. And last quarter, I think the expectation was that you were going to see some reacceleration as the supply was going to improve into the back half of the fiscal year. So I know that the enterprise portion of that business is weak. But maybe can you help us understand sort of what's going on there? Maybe tell us how much cloud is as a portion of the total data center business? And then also into fiscal Q4, it sounds like total revenue is going to be close to $1.7 billion for you to be up high 30s, and that's up nearly 10% Q-on-Q. But I'm wondering how much data center will be up. I mean you said it's going to be up Q-on-Q, but I would think it should easily be up double-digits with more supply, you have the 5-nanometer products ramping. So I wonder if you can help with that. Thanks.

Matt Murphy, President and CEO

Sure. Regarding the data center, a significant portion of our total business is in cloud, roughly estimated at about 60% compared to 40%. This explains why cloud has experienced faster year-on-year growth than the overall total. However, it's important to note that the enterprise side doesn't reflect the true potential of the enterprise data center, as our products in that segment—fiber channel and Ethernet adapters—are somewhat legacy for Marvell and do not have much growth potential. Thus, the focus is primarily on cloud. In Q4, we anticipate overall company revenue to increase compared to Q3. While we haven't specified a number, the range you're considering might be a bit high. If we reference the high 30s growth we previously mentioned and factor in our performance from the past two quarters along with our Q3 guidance, you'll arrive at a reasonable estimate. Ultimately, we believe the expected acceleration in cloud growth will manifest more in Q4 than in Q3, mainly due to supply factors.

Timothy Arcuri, Analyst

Okay. Thank you.

Blayne Curtis, Analyst

Hey, good afternoon, and thanks for taking my question. I just wanted to go back to the demand part of the equation. I thought you said in the beginning, consumer HDDs were the only thing weak, but you have two segments that are down. So just maybe revisit that even in the areas like enterprise that are up a bit, it sounds like supply. So I just wanted you could revisit the demand outlook, and I think you said data center is lumpy, but I mean is it all lumping in timing and supply even for the businesses that are down, or have you seen any broader downticks on that demand side?

Matt Murphy, President and CEO

When I consider your question, particularly regarding the enterprise sector and on-premise delivery, I see that supply has been more inconsistent. However, we haven't observed significant changes in demand. In our first quarter and part of the second quarter, we managed to produce more supply than expected. Conversations with customers show that the demand signals remain consistent with historical trends, suggesting a return to pre-up cycle levels, but still within normal parameters. The notable decline in consumer HDD is clear and measurable, but the variability in our supply delivery is a bigger issue than any decrease in demand.

Blayne Curtis, Analyst

Thanks, Matt.

Matt Ramsay, Analyst

Thank you very much. Good afternoon. I wanted to ask about the enterprise networking segment. There seems to be significant growth potential, with guidance suggesting nearly 25% growth or 70% year-over-year. Could you discuss the specific product cycles involved, or is this growth related to improvements in supply? What is driving this segment to be the fastest-growing right now? Thank you.

Matt Murphy, President and CEO

Thank you for your question. We are experiencing strong demand for our products, which is a bit unique to us. As we mentioned a few quarters ago, we identified this area as having significant delinquency, but we're finally starting to catch up. This strong performance is evident not only in our Q3 guidance but also in the recent quarter we just completed. On the demand side, our classic Marvell portfolio has achieved consistent market share gains and successful new product introductions, particularly in the enterprise class Ethernet switch and PHY sectors. In some cases, we offer both products as a complete solution. A key trend we have discussed is the adoption of multi-gig PHY technology, which large enterprise OEMs are now experiencing a significant boost in demand for, largely due to the rollout of WiFi 6. This advancement has driven adoption as the wireless data rate began to surpass the wired rate. Consequently, the content per port has increased dramatically with the switch to multi-gig technology, far exceeding the previous levels. This increase in PHY content and the ramping of new products have occurred alongside our success in gaining new customers and market share. While our progress has been consistent, it has accelerated in recent quarters. Additionally, the supply constraints we faced in this segment have started to improve due to successful partnerships with our suppliers, allowing us to get back on track. Overall, the enterprise segment is performing exceptionally well, at a much higher rate than anticipated even a year ago during our Investor Day. We are pleased to see that the designs we've secured have successfully ramped up, and we maintain a positive outlook moving forward. Lastly, we’ve also introduced new incremental business in custom silicon and ASICs within the enterprise sector, which is a new venture for us and is now going into production, with full volume expected next year. We are experiencing substantial product development and improving supply conditions.

Matt Ramsay, Analyst

Thanks for all the detail, Matt.

Gary Mobley, Analyst

Good afternoon, everyone. I appreciate you taking my question. I have a couple of questions regarding your relationships with foundry partners. Jean, you mentioned that your purchase obligations with these partners increased by about 15% sequentially and now total about half a year's worth of revenue. I'm curious if we might see those obligations stabilize since capacity seems to be freeing up. What are the risks of potentially not being able to fulfill that commitment in the future? Also, are you expecting any further price increases from your foundry partners that you might have to pass on to customers?

Jean Hu, CFO

Yes, thank you for the question, Gary. Regarding the long-term purchase commitment, as Matt pointed out, we focus on data infrastructure. Our products generally have extended product cycles, and many of our offerings are performing quite well. Based on our design wins, product ramp-up, and business planning, we have established strategic relationships with our suppliers to secure long-term capacity. These purchase commitments are significant, often spanning two, three, five to seven years or more. Our team has effectively assessed our needs to determine appropriate long-term purchase agreements, which typically represent only a small fraction of our overall supply requirements. We feel comfortable with our commitments based on thorough analysis of our needs, product ramp-up, and customer relationships. When viewed yearly, these commitments are minimal, spread over seven years and beyond, so we are optimistic about our position. Regarding your second question about supply chain input costs, the supply chain environment remains tight. We anticipate ongoing challenges next year, particularly with complex substrates, components, and older generation wafers. If there are input cost increases resulting from supply-demand imbalances, we are committed to working closely with our suppliers and customers to manage and share those costs effectively. That sums up our current expectations.

Harlan Sur, Analyst

Good afternoon. Thanks for taking my question. On the cloud optical connectivity business, this is both inside and between data centers. The upgrade cycles have been this really great multi-year tailwind for the team. And if I look into next year, I believe that there's still at least one of the top four US hyperscale titans that's going to start the 400-gig PAM4 transition. You still have China CSPs that need to fire. You've got multiple customers on DR that's going to fire as well. Historically, like these transitions, I don't think have been impacted by a slowing macro demand environment. They're viewed as, I think, very strategic. But is that how your cloud customers are thinking about these upgrades and your views on continued upgrade momentum in this segment for next year? And just relatedly, is the Innovium team on track to drive $150 million in revenues this year?

Matt Murphy, President and CEO

Thank you, Harlan. I think you captured the initial points well regarding the transition to 200 and 400 gig PAM4 in the data center and the new growth we are seeing in 400 gig ZR for data center interconnect. Additionally, I want to highlight that demand for 800 gig is currently very strong, especially for advanced AI workloads. If we could produce more hardware, we would be shipping it in the third quarter, which reflects a positive trend. We are effectively transitioning all the way up to 800 gig, and this looks promising. On the data center switching side, we are on track to achieve $150 million in revenue this year and are seeing solid market traction with our solutions at 51.2 using our PAM4 DSPs as a complete offering. The integration of the team into the company has gone smoothly, and our roadmap looks very strong, which is exciting. This growth area was not mentioned earlier, but it represents another significant opportunity for us in cloud switching.

Tore Svanberg, Analyst

Yes. Congrats on another record quarter. Just kind of staying a little bit on what's to come, especially in the next few years. You talked quite a bit about CXL. I was just wondering when will that business start to ramp? I mean we're talking about more than $1 billion SAM here? And when could that business sort of become bigger than the consumer HDD business? Just to kind of put into perspective, unique growth drivers versus market drivers? Thank you.

Matt Murphy, President and CEO

Yes, that would be a significant milestone. We would celebrate if we can grow CXL to the levels of the consumer HDD business. On a serious note, we are undergoing a new technology transition that is indeed exciting for our team as we enable these solutions in the memory ecosystem. We have a comprehensive product development road map in progress, but it's still in the early stages, and we anticipate that we are a couple of years away from making significant strides. To clarify, we refer to the opportunity as a serviceable available market exceeding $1 billion over time. We are not yet prepared to discuss the exact timing, but we are very optimistic about this trend. We plan to take a leadership role and are investing proactively. We are gaining significant traction with our road map and the potential we have in CXL. We want to highlight this to investors as another opportunity to utilize our advanced technology with our existing accounts. In the context of CXL, we aim to assist in designing solutions for the future. While this presents great potential, it is still some time away, and none of this is factored into the projected $400 million for next year, which would be additional growth in the coming years.

Srini Pajjuri, Analyst

Thank you. Hi, Matt. My question is on 5G, in particular. Now that India 5G auctions are behind us, I'm just curious as to how we should think about that opportunity, Matt? I think you have a pretty strong position there, but could you put that into perspective versus a US opportunity or Europe opportunity? And then the second half strength, is that what's driving it? I think you're guiding 5G to be up even in the third quarter. So I'm just curious if you're seeing any action from India as yet? Thank you.

Matt Murphy, President and CEO

Yes. I believe India is still something we’re looking at for next year, even though the tenders have progressed, and we are well-positioned there. Historically, we have had a strong position through our partners. When considering our 5G business, it’s more broadly diversified and consistently performing. I don’t expect to see a significant leap in any particular quarter. It has been performing very well. Looking back at the initial growth over the past two-plus years, we’ve seen sequential growth in nearly every quarter, except for one possibly seven quarters ago when we were flat. This illustrates the diversification strategy we’ve aimed for; in these markets, we work to align with multiple key partners to reduce volatility and ensure strong performance in any environment. India is just one example of this, and there are other regions we are focusing on as well. Additionally, an important growth driver will be the increased content with more Marvell silicon per base station as new systems are deployed. This will likely have a bigger impact than a specific geography ramping up in any given quarter. Jean, do you have any additional thoughts?

Jean Hu, CFO

Yeah, Matt, to just add to what you just said is this year, we have seen significant growth, and the run rate is already over $600 million now. And that's actually largely benefited by North America, right? And the North American adoption of 5G has been really strong this year. Going forward, India definitely maybe next year or beyond. But Matt is right, is our 5G business will continue to be a very significant growth driver next year for us. It has a really long product cycle and the visibility actually is pretty good in this market.

Harsh Kumar, Analyst

Yeah. Hey, Matt, I had a question for you. So if I layer in your thoughts on the $400 million odd of custom cloud silicon, that's about 15% growth by itself to your cloud business. And then I assume your business will grow at least that much, if not more, organically. So is it fair for us to think for January 2024 for that data center business to be somewhere in the 30-something odd percent range or even better than that? Yeah.

Matt Murphy, President and CEO

I would probably need to pull up a spreadsheet to figure that out. However, I think you are on the right track. You have an estimate of our cloud revenues, and certainly adding the $400 million would lead to a specific number. Additionally, I didn’t mention that the base business, which does not include new wins, is also increasing. We haven't precisely sized that part, but it's clear that it will grow next year. The existing run rate portfolio will see growth from programs like cloud switching and electro optics, which we've already discussed. So, for 2024, I don't have that exact number off the top of my head.

Quinn Bolton, Analyst

Hey, Matt, I wanted to follow up on Matt Ramsay's question about enterprise networking. Looking at the business in the October quarter, it seems you'll exceed $400 million, which is about two and a half times growth over the past two years. That's incredible growth and clearly outpacing the market. Some of this growth is due to content gains and some is from market share. However, if you examine inventory in the networking sector, OEM inventory levels have likely doubled over that two-year span. Do you have any insight into whether there's excess inventory built up in that channel? Do you believe you can maintain this $400 million quarterly run rate into next year, or might you experience some fluctuations, especially after such strong performance in October?

Matt Murphy, President and CEO

Yes, Quinn, that's a great question. We're very aware of the broader inventory growth in several of the end markets we serve. In this case, a couple of factors give us comfort. First, we have been ramping up some of these new designs. Almost all of this is from new programs that have started up, rather than business we had at a specific run rate before. The silver lining regarding supply constraints is that we haven't over-shipped. We're also seeing continued escalations within enterprise networking as we work to meet demand. Since we're involved with new systems and programs, these are typically the areas where our OEMs are experiencing shortages. While it's reasonable to be concerned for organizations with significant market share that have experienced inflated inventory levels over the past few years, this isn't as much of a concern for us in enterprise networking right now. We feel good about our current run rate, are ahead of where we expected to be, and still have growth potential, but we're monitoring the situation closely.

Quinn Bolton, Analyst

Can you provide insights into how much of your cloud or hyperscale business is influenced by Chinese hyperscalers? I understand that some of your industry peers have mentioned a recent decline in demand from China hyperscalers. Thank you.

Matt Murphy, President and CEO

Yes. Please continue, Jean.

Jean Hu, CFO

Hi Quinn, this is Jean. I'll answer, Matt, can add. Our cloud business is primarily US hyperscale data centers. So, we actually have a very limited revenue exposure with the Chinese hyperscale data centers today.

Joe Moore, Analyst

Thank you. I wonder if you could talk about the supply constraints. I think a quarter or so ago, probably our biggest problem was analog parts. I know substrates have also been an issue trailing-edge wafers. Are those priorities shifting? You talked about a little bit at the sort of more complicated parts that are giving you trouble. Can you just talk a little bit about where is supply getting better? What supply chain is getting better and what's getting worse? Thank you.

Matt Murphy, President and CEO

Yes, thank you, Joe. You're correct that there have been broader constraints within the analog sector that have created challenges, and it's still uncertain when these issues will be resolved. For us, some of these constraints overlap as we utilize older nodes in our mixed-signal technology, such as 28-nanometer, 40-nanometer, and 55/65. Over the past two years, these nodes have faced significant constraints, but the situation is improving. Some of the variability in our supply has come from these older nodes, particularly as seen in our guidance for the automotive sector, which makes use of this technology. We're showing strong sequential guidance in that area, indicating progress. However, we are still facing challenges, especially with larger and more complex packages like flip-chip BGAs and intricate substrates. The situation continues to be difficult, and planning ahead for the necessary capacity is essential. The trend towards advanced substrate technology, particularly ABF, is increasing. Complexity in products remains a key issue. Over time, as market cycles evolve, I believe the constraints on legacy nodes and analog components will ease, but for high-complexity products, demand is growing from companies like Marvell and other major players in producing substantial amounts of computing power across various applications. We need to be strategic and focused on aligning supply with demand to meet our needs.

Operator, Operator

This concludes our question-and-answer session as well as our conference. Thank you for attending today's presentation. You may now disconnect.