Earnings Call Transcript - MRVL Q2 2026

Operator, Operator

Good afternoon, and welcome to the Marvell Technology Inc. Second Quarter of Fiscal Year 2026 Earnings Conference Call. Please note this event is being recorded. I will now turn the conference over to Mr. Ashish Saran, Senior Vice President of Investor Relations. Thank you. You may begin.

Ashish Saran, Senior Vice President of Investor Relations

Thank you, and good afternoon, everyone. Welcome to Marvell's Second Quarter Fiscal Year 2026 Earnings Call. Joining me today are Matt Murphy, Marvell's Chairman and CEO; Willem Meintjes, CFO; Chris Koopmans, President and COO; and Sandeep Bharathi, President, Data Center Group. Let me remind everyone that certain comments made today include forward-looking statements, which are subject to significant risks and uncertainties and 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 our earnings press release. Let me now turn the call over to Matt for his comments on the quarter. Matt?

Matthew J. Murphy, Chairman and CEO

Thanks, Ashish, and good afternoon, everyone. For the second quarter of fiscal 2026, Marvell delivered record revenue of $2.006 billion, reflecting a 6% sequential increase and strong 58% year-over-year growth. Our data center end market continued its strong momentum, growing 69% year-over-year, fueled by robust AI demand. We also saw a solid recovery in our enterprise networking and carrier infrastructure end markets, which collectively grew 43% year-over-year. We expanded our non-GAAP operating margin by 870 basis points year-over-year to 34.8% and delivered record non-GAAP earnings per share of $0.67, up 123% year-over-year. We also delivered $462 million in operating cash flow, up significantly from the $333 million in the first quarter. Robust cash flow generation is enabling us to continue to return significant capital to our stockholders. We have repurchased $540 million of stock through the first half of the fiscal year with approximately $2 billion remaining in our authorization. At the beginning of the third quarter, we completed the divestiture of our automotive ethernet business in a $2.5 billion all-cash transaction at a very compelling valuation. I'm pleased with our team's execution in closing this transaction ahead of schedule. The proceeds from this transaction provide us flexibility to continue to drive our ongoing stock repurchase program and deploy capital to further bolster our technology platform. The auto divestiture aligns with our strategy to focus the company on what we expect to continue to be a massive AI opportunity in front of us by purposely redirecting our investments towards data center relative to our other end markets. That strategy has been very successful with data center alone now driving three-quarters of our total revenue. The auto divestiture further reduces the relative proportion of revenue from our non-data center end markets. As a result, starting in the third quarter, we will consolidate our non-data center end markets into a new single communications and other end markets. Willem will cover this in more detail in his prepared remarks. During the quarter, we hosted a highly successful custom silicon investor event in June, where we outlined an expanded $94 billion data center Total Addressable Market for calendar 2028, a 26% increase from our prior view. We also unveiled a new fast-growing custom silicon product category of XPU attach, updated our custom design win board to 18 multigenerational XPU and XP attached sockets, and highlighted over 50 new pipeline opportunities with an estimated $75 billion of lifetime revenue potential. Based on the sockets we have already won, we concluded with our plan to grow our data center market share from 13% of a $33 billion Total Addressable Market in calendar '24 to 20% of a $94 billion Total Addressable Market in calendar '28. Let me now take a moment to share how we are enhancing our leadership structure to further capitalize on significant opportunities in the large and fast-moving AI and cloud markets. We have promoted two exceptional leaders: Chris Koopmans to President and COO; and Sandeep Bharathi to President, Data Center Group, and consolidated substantial parts of the organization under their leadership. Their proven track record of innovation, execution, and results positions them to accelerate Marvell's growth. Chris joined Marvell nine years ago, and he has been a key enabler of our transformation to a leader in the data center market. He successfully led sales, our networking business, and most recently, global business operations and marketing. I'm pleased to see Chris take on sales again, along with managing our non-data center businesses and corporate development. His expanded role now encompasses end-to-end revenue execution from go-to-market strategy and customer engagement to operations and long-term strategic planning. Sandeep joined us in early 2019 to lead our central engineering team and accelerate the development of our technology platform. He was instrumental in driving Marvell's leap to 5-nanometer process technology leadership and integrating Avera, the custom business we acquired that has since become our largest growth opportunity. Under Sandeep's guidance, our engineering teams have successfully delivered multiple highly complex custom XPU and XP attach projects into high-volume production with first-time silicon success. With this promotion, Sandeep now has overall responsibility for our data center business in addition to his continued leadership of data center engineering and central engineering. This unifies full ownership of our largest and most important business under a single leader, spanning the entire product life cycle from technology platform, IP and road map to customer engagement, product definition, and chip development. Let me now discuss our results and expectations for each of our end markets. In our data center end market, we achieved record revenue of $1.49 billion in the second quarter, growing 3% sequentially and 69% year-over-year. The strong performance was led by our custom XPU and XPU attached products as well as our electro-optics interconnect portfolio. AI and cloud continue to be the primary drivers, accounting for over 90% of our data center revenue, with the remainder coming from the on-premise portion of our data center end market. We expect on-premise revenue to remain stable at an annualized revenue run rate of approximately $500 million. Looking ahead to the third quarter, we expect revenue from our electro-optics products to grow double digits sequentially on a percentage basis as we continue to benefit from our market-leading position in AI interconnect. Our custom business is also performing well and remains on track to grow in the second half of the fiscal year compared to the first. However, we expect growth to be nonlinear in the custom business with the fourth quarter substantially stronger than the third. As a result, we expect overall data center revenue in the third quarter to be flat sequentially with electro-optics strength offset by lower custom revenue. On a year-over-year basis, we expect data center revenue to continue to deliver strong growth in the mid-30% range in the third quarter. We are very pleased with the progress of our 18 XPU and XPU attached sockets, several of which are already in volume production. We are making excellent progress on development of the remaining sockets with all of them expected to ramp over the next couple of years. The success of our initial wave of custom programs, combined with rapidly growing industry interest in custom silicon, has expanded our design win pipeline to over 50 new opportunities. As next-generation XPU and XPU attached products increase in complexity, we believe it will become even more critical for customers to partner with a full-service custom silicon provider like Marvell. Since our event in June, our team has won additional sockets, adding to the 18 sockets we had already discussed. Collectively, these new wins represent multibillion-dollar lifetime revenue potential, and we remain deeply engaged in advanced architectural discussions of many of the opportunities still in the funnel. As next-generation AI data centers evolve, scale-up networks are becoming essential to tightly interconnect tens, hundreds, and eventually thousands of XPUs within and across racks. These require ultra-low latency and multi-terabit bandwidth to meet the demands of training and inference workloads. Marvell's multigenerational custom engagements with the hyperscalers give us unique visibility into upcoming XPU architectures, enabling us to design scale-up switches supporting both open standard Ethernet and UALink fabrics purpose-built for AI. Combined with Marvell's leadership in Ethernet switching and proprietary high-speed, low-power, low-latency SerDes IP, we are strongly positioned to lead this market inflection. We are investing in developing scale-up switches tailored to each customer's protocol of choice and look forward to updating you on our progress. Beyond switching, our interconnect portfolio extends the opportunity. While copper dominates the scale-up links today, as networks expand and bandwidth grows, optics adoption will follow. This represents a large opportunity for Marvell's full suite of interconnect products and technologies, including DSPs for active electrical cables or AECs, and active optical cables or AOCs; retimers for PCI, Ethernet, and UALink; and silicon photonics for near-packaged and co-packaged XPU optics. Our AEC and AOC DSPs are already on the market, and our retimers are in customer evaluation. We have demonstrated our 6.4T silicon photonics light engines and expect our technology to be a key enabler of NPO and CPO implementations once the industry is ready to adopt. Collectively, between switching and interconnect, we see a massive scale-up opportunity for Marvell over time. Turning to our electro-optics interconnect portfolio. Our PAM and DCI franchises continue to lead the industry in enabling the build-out of AI and cloud infrastructure. Demand for 800-gig PAM DSPs remains strong, with a long life cycle still ahead. We have also begun volume shipments of our next-generation 200-gig per lane 1.6T PAM DSPs to multiple customers, and we expect adoption to accelerate in the next several quarters. Looking further ahead, we are driving the next optical technology transition. At this year's Optical Fiber Conference, we demonstrated our 400-gig per lane PAM technology, a critical innovation and step towards enabling 3.2T optical interconnects. This milestone underscores Marvell's leadership in pushing the boundaries of next-generation optical connectivity. Our data center interconnect business also continues to expand, with adoption proliferating across large hyperscalers. Collectively, the custom and electro-optics product lines I just described now account for over three-quarters of our total data center revenue. The balance comes primarily from our data center storage, switching, and security portfolios, each of which is showing solid progress. Our data center storage revenue has improved significantly, reflecting a return to health in both the SSD and HDD markets. In AI and cloud switching, our 12.8T products continue to ship in high volume, while our next-generation 51.2T switches are now ramping. Adoption is accelerating, and we expect these products to be a major driver of switch revenue growth in the next fiscal year. In the security market, we recently expanded our collaboration with Microsoft Azure on our hardware security modules, building on a long-standing and trusted relationship with this customer. Now let me turn to our enterprise networking and carrier infrastructure end markets. In the second quarter, enterprise networking revenue was $194 million and carrier infrastructure revenue totaled $130 million. Combined revenue for these end markets grew 2% sequentially and 43% year-over-year. Looking ahead to the third quarter of fiscal 2026, we expect aggregate revenue from enterprise networking and carrier infrastructure to grow sequentially by approximately 30%. This growth is driven by normalizing customer inventory levels and strong adoption of our refreshed product portfolio. As a reminder, we recently migrated these products to advanced process nodes, an investment we expect to yield benefits for many years to come, given the long product life cycles in these markets. In the consumer end market, second quarter revenue was $116 million, up 84% sequentially and 30% year-over-year. Gaming demand and its seasonality continue to be the primary driver of this business. For the third quarter, we expect consumer revenue to be down sequentially in the low single digits on a percentage basis. Turning to our automotive and industrial end market, second quarter revenue was $76 million, flat both sequentially and year-over-year. For the third quarter of fiscal 2026, reflecting the divestiture of our automotive Ethernet business, we anticipate overall revenue of approximately $35 million from this end market. This includes a mid-single-digit million dollar contribution from our automotive Ethernet business prior to the transaction closing. In summary, in the second quarter of fiscal 2026, we continue to deliver operating margin expansion, earnings per share growth, and new revenue records. Looking ahead, we expect momentum to continue in the third quarter, with total company revenue forecast at $2.06 billion at the midpoint, representing 36% year-over-year growth. Excluding revenue from automotive Ethernet, the implied revenue growth for Marvell's go-forward business would be closer to 40% year-over-year at the midpoint of our forecast for the third quarter. We also expect to continue driving operating leverage with non-GAAP earnings per share forecast to grow 10% sequentially at the midpoint of guidance, more than double our projected revenue growth rate. Our second quarter results and third quarter guidance reflect robust contributions from our AI-driven data center end market, complemented by strong recovery in our enterprise networking and carrier infrastructure end markets. At the same time, our custom AI design engagements are at an all-time high with customers showing very strong interest in our broad range of differentiated technologies. As I discussed earlier, our team continues to accumulate new wins, and we are pleased with the strong progress across both current and next-generation custom programs, which reinforces our confidence that we can achieve our long-term custom revenue goals. In addition, our market-leading electro-optics franchises continue to see strong demand for both current and next-generation solutions, and our scale-out switching platforms are positioned for strong growth. Over time, the emergence of scale-up networking for AI infrastructure should provide another strong tailwind for Marvell. With that, I'll turn the call over to Willem for more detail on our recent results and outlook.

Willem A. Meintjes, CFO

Thank you, Matt, and good afternoon, everyone. Let me start with a summary of financial results for the second quarter of fiscal 2026. Revenue in the second quarter was $2.006 billion, growing 58% year-over-year and 6% sequentially. Data center was our largest end market, contributing 74% of total revenue. GAAP gross margin was 50.4%. Non-GAAP gross margin was 59.4%. Moving on to operating expenses. GAAP operating expenses were $721 million, including stock-based compensation, amortization of acquired intangible assets, restructuring costs, and acquisition-related costs. Non-GAAP operating expenses came in at $493 million, slightly below our guidance. Our GAAP operating margin was 14.5%, while non-GAAP operating margin was 34.8%. For the second quarter, GAAP earnings per diluted share was $0.22. Non-GAAP earnings per diluted share was $0.67, reflecting year-over-year growth of 123%, which is more than double the pace of revenue growth, demonstrating the significant operating leverage in our model. Now turning to our cash flow and balance sheet. Cash flow from operations in the second quarter was approximately $462 million, growing by $129 million from the prior quarter. Our inventory at the end of the second quarter was $1.05 billion, a decrease of $20 million from the prior quarter. We returned $52 million to shareholders through cash dividends. In addition, we repurchased $200 million of our stock in the second quarter. In June, we completed the public offering of notes totaling $1 billion and used most of the proceeds to repay existing debt. As of the end of the second quarter, our total debt was $4.5 billion, with a gross debt-to-EBITDA ratio of 1.63x and a net debt-to-EBITDA ratio of 1.19x. Our debt ratios have continued to improve as we have driven an increase in our EBITDA. As of the end of the second fiscal quarter, our cash and cash equivalents were $1.2 billion. We recently completed the divestiture of our automotive Ethernet business in a $2.5 billion all-cash transaction. Proceeds from this sale give us flexibility to continue to drive our ongoing stock repurchase program as well as invest further in our technology capabilities. Turning to our guidance for the third quarter of fiscal 2026. We are forecasting revenue to be in the range of $2.06 billion, plus or minus 5%. As a reminder, this forecast includes revenue in the mid-single-digit millions of dollars from the automotive Ethernet business before the completion of the divestiture. If the divestiture had not taken place and we had operated the automotive Ethernet business for the full quarter, we would have added approximately $60 million to our guidance. We expect our GAAP gross margin to be between 51.5% and 52%. We expect our non-GAAP gross margin to be between 59.5% and 60%. Looking forward, we anticipate that the overall level of revenue and product mix will remain key determinants of our gross margin in any given quarter. For the third quarter, we project our GAAP operating expenses to be approximately $719 million. We anticipate our non-GAAP operating expenses to be approximately $485 million. For the third quarter, we expect GAAP other income and expense, including interest on our debt and the gain from the divestiture of our automotive Ethernet business to be an income of approximately $1.8 billion. Non-GAAP other income and expense, including interest on our debt, is expected to be an expense of approximately $33 million. We expect a non-GAAP tax rate of 10% for the third quarter. We do not expect the recently passed tax bill act to have a material effect on our current year's non-GAAP tax rate. We expect our basic weighted average shares outstanding to be 863 million and our diluted weighted average shares outstanding to be 870 million. We anticipate GAAP earnings per diluted share in the range of $1.98 to $2.08. We expect non-GAAP earnings per diluted share in the range of $0.69 to $0.79. As Matt mentioned, we plan on updating our revenue by end market classification beginning next quarter. Over the past several years, our strategic focus on expanding revenue in the data center market has delivered strong results, driving significant growth in this end market. On a relative basis, data center revenue has more than doubled as a percentage of total company revenue from 34% in the second quarter of fiscal 2024 to 74% in the second quarter of fiscal 2026. As a result, in our most recent quarter, our four other end markets collectively represented only 26% of total company revenue. The divestiture of our automotive Ethernet business further reduces the relative contribution of our non-data center end markets. Looking ahead, we expect data center to continue outpacing all other end markets in both size and growth rate. As a result, our fiscal Q3 results will be the last quarter with the current classification, and our Q4 guide will reflect the streamlined revenue reporting. Results will be reported in two categories: data center and communications and other. The composition of our data center end market will remain unchanged. The new communications and other end market will consolidate revenue currently reported separately from our enterprise networking, carrier infrastructure, consumer, and automotive and industrial end markets. We will continue to provide qualitative commentary in our earnings discussions, highlighting notable developments within submarkets in the consolidated communications and other end market. We expect most of the revenue in the new communications and other end markets to come from our current enterprise networking and carrier infrastructure end markets, which have both continued to recover. On a combined basis for these two end markets, our guidance for the third quarter of this fiscal year implies an annualized revenue run rate of approximately $1.7 billion compared to the low point we saw in the first quarter of fiscal 2025 of approximately $900 million. Consistent with prior comments, we expect these two end markets to collectively generate approximately $2 billion in annual revenue over time. Additionally, as we have stated previously, we anticipate annual revenue of approximately $300 million from our consumer end market and, following the divestiture of our automotive Ethernet business, approximately $100 million from our industrial end market. In conclusion, we are executing on our strategy, driving strong revenue growth and expanding our operating margins towards our long-term target. In addition, our balance sheet has continued to strengthen and provides a solid foundation to support our growth opportunities. With that, we are ready to start our Q&A session. Operator, please open the line and announce Q&A instructions. Thank you.

Operator, Operator

Our first question is from Ross Seymore with Deutsche Bank.

Ross Seymore, Analyst

I want to dive into the guidance for the custom business, Matt. I appreciate the lumpiness of it, but could you give any more color on what the headwinds are in the third quarter? And then what gives you the confidence and any sort of magnitude on the increase in the fiscal fourth quarter?

Matthew J. Murphy, Chairman and CEO

Yes, thanks, Ross. You highlighted the right term, which is lumpiness. This is typical, especially with the large hyperscale projects that occur, particularly as we bring them into production, which we've done this year on several programs. So this is not out of the ordinary. Fortunately, our optics business is looking strong for the next quarter with double-digit growth. As mentioned in my prepared remarks, we anticipate an increase in demand for custom products. So there's nothing particularly unusual here, Ross, other than we've been working for the past couple of years to ramp these into production, and we are experiencing a brief digestion period with a rebound expected in Q4. Overall, we expect custom sales to be higher in the second half compared to the first half, so you can anticipate a strong fourth quarter for custom.

Operator, Operator

Our next question is from Tore Svanberg with Stifel.

Jeremy Lobyen Kwan, Analyst

This is Jeremy calling for Tore. Maybe if you could provide a little bit more clarity on the design wins that you're seeing. How much of your custom products revenue that you expect in the second half is coming from some of these new programs? And how much is coming from some of your existing design wins? Any kind of color or clarity you can provide would be very helpful.

Matthew J. Murphy, Chairman and CEO

Yes. Thanks, Jeremy. Good to hear from you. And yes, I'll actually turn this one over to Chris to talk about the design win momentum we're seeing and the opportunity set as it relates to your question. Thanks. Go ahead, Chris.

Christopher Koopmans, President and COO

It's an exciting time to be in the custom silicon business for data centers. We are experiencing a significant amount of design activity, more than I have observed in my nine years at Marvell. This includes opportunities across various hyperscalers, both emerging and established. Since our event in June, where we indicated that the XPU attach opportunities were valued in the hundreds of millions in design win lifetime, that number has increased. Some opportunities we are pursuing now are much larger as these hyperscalers develop their rack scale infrastructure. Additionally, the design wins we've secured since June are substantial, with lifetime values projected in the billions, which bolsters our confidence in achieving our 20% share target in this rapidly expanding market.

Jeremy Lobyen Kwan, Analyst

Great. And maybe a follow-up in terms of any impact that you're seeing from supply constraints anywhere along the supply chain? Any impact from tariffs that you can see from your end?

Matthew J. Murphy, Chairman and CEO

Yes. Great. I'll let Chris, who runs our global operations, cover that. Then, Willem, maybe you can briefly comment on the tariffs, and I'll add a few thoughts.

Christopher Koopmans, President and COO

Sure. Yes. Certainly, the supply chain is very tight, requires very tight coordination with our customers and very strong execution by our team. I'm very proud of our team to have met this ramp over the last year and am confident in our ability going forward. We've really been able to meet everything that our customers have needed. But it is tight, and we have very strong coordination and execution.

Willem A. Meintjes, CFO

And Jeremy, on tariffs, it remains a very dynamic environment. But really, we haven't seen any impact on our business to date. We keep tracking it very, very closely. But as we look across all the different end markets that we're addressing, we really haven't seen any significant impact.

Operator, Operator

Our next question is from Aaron Rakers with Wells Fargo.

Aaron Christopher Rakers, Analyst

Building on the earlier question, I want to clarify the situation regarding the fluctuations in the custom XPU business. You have a well-known lead customer, and I'm interested in understanding the concentration of your business with this customer. Looking ahead six to twelve months, how do you anticipate additional design wins contributing to the XPU revenue stream? I'm trying to assess the timing of these new opportunities.

Matthew J. Murphy, Chairman and CEO

Yes, thanks, Aaron. You summed it up well. A few years ago, we began discussing some initial AI opportunities, and while we are experiencing some short-term fluctuations, those projects are progressing. Additionally, the 18 projects we mentioned a few months ago are set to begin within the next 18 to 24 months. We've also secured some extra wins that add to this initial 18. Our focus is on increasing our market share, which grew from 10% two years ago to 13% last year, with a goal of reaching 20% in the future. We feel confident about this trajectory based on recent design activities, which are quite significant and somewhat episodic at this point.

Aaron Christopher Rakers, Analyst

Yes. And then as a quick follow-up, I know NVIDIA this week talked about scale-out or scale-across networks. I'm curious how Marvell sees this opportunity moving from just not scale out and scale up but scale across DCI. Any framing of how big of an opportunity that might represent for Marvell?

Matthew J. Murphy, Chairman and CEO

Yes. I'll share some thoughts, and then Sandeep can chime in. We are definitely aware of various opportunities that could enhance our networking and connectivity technology. Sandeep, if you have anything else to add, please go ahead.

Sandeep Bharathi, President, Data Center Group

Yes. Thank you, Matt. So in terms of scale-up opportunities, there is certainly aside from the lead GPU player who has its own proprietary scale-up fabric, there's a huge demand for Ethernet and purpose-built fabrics such as the UALink. And we see a lot of traction over the next couple of years for the scale-up requirements. And we are investing heavily to bring our scale-up switches to the market, and we see momentum in the next couple of years. So we will have standard products using our state-of-the-art low-latency scale-up switching IP portfolio, some of which we acquired from Innovium, which has been a great asset for us. So we are very confident of scale-up switches being a key growth driver for us in the next couple of years.

Matthew J. Murphy, Chairman and CEO

Yes. And then more to come in the future, Aaron, on the other type of opportunities, but thanks for covering that, Sandeep. Appreciate it.

Operator, Operator

Our next question is from Vivek Arya with Bank of America.

Vivek Arya, Analyst

Just a near and longer-term question on your custom business. So just near term, Matt, do you think Q4, your data center growth can accelerate year-on-year from the Q3 levels that you gave, just so that we kind of level-set our models? And then as we look at 2026, one of your XPU competitors has suggested their business can grow 60%. I think yesterday, Jensen kind of threw a 50% or so. So whatever industry growth rate seems to be in this 50% or so ZIP code for next year. Do you think Marvell has the visibility today around timing and magnitude of your large projects to kind of say that your business can sort of grow in line with what the industry expectations are? Or are there other puts and takes we should keep in mind?

Matthew J. Murphy, Chairman and CEO

Yes. Thanks, Vivek. Yes, a couple of things. I think one is our custom. We don't do an annual guide, and we typically just guide a quarter at a time. I'll get to Q4 in a minute, but just as a baseline. And then I would say on the annual stuff, we've only done that very, very rarely, and that's typically been later in the year as we have more visibility. So just to set the stage. Look, I think the overall momentum in the business has been very strong for several quarters now. And I think I gave you some of the data points, which is that custom would be up in the second half versus the first half. You can look at our optics performance, Q2, Q3, especially the Q3 up double digits. And then obviously, when you look at the big picture, we're very pleased, which no one's asked the question about yet, but it layers into the big picture on overall Marvell performance is the very strong recovery in the core business in enterprise networking and carrier. I mean, just for reference on that business, we hit a low point during the inventory recovery cycle at about a $900 million annualized run rate, and implied in our Q3 guide, this business goes back up at like a $1.7 billion run rate. So very, very strong recovery, both on inventory as well as on new programs that are kicking in and new products that are in the next technology node. So that's all a positive in terms of the setup for Q3 and Q4.

Operator, Operator

Our next question is from Tom O'Malley with Barclays.

Thomas James O'Malley, Analyst

Matt, I want to revisit the ASIC topic for a moment. I apologize for the repetition, but I’m seeking a bit more clarity. In the October quarter, is one project winding down while another is ramping up in the fourth quarter? Is this just a temporary pause? Traditionally, there are times when customers take products and then stop. Is there also a product transition happening? Any insights you can provide would be appreciated.

Matthew J. Murphy, Chairman and CEO

Thank you for the question, Tom. At a high level, these are existing programs, and it's really just a timing issue regarding how we deliver the product and when customers are building and require the product from us. We are in the early stages of custom, and this is our first significant year with a few sockets that will lead to many more. It's mainly a timing issue between quarters, which has become more noticeable now. Over time, we anticipate greater diversity in this part of the business for Marvell as additional programs ramp up. However, we are starting from a relatively low base compared to a couple of years ago.

Thomas James O'Malley, Analyst

Helpful. And then just as a follow-up on the optical business, you're guiding to double-digit growth in the October quarter. You've heard others during this earnings period talk about supply constraints, particularly on the laser side. You're obviously a component provider that's going into these modules. But in terms of the ecosystem, are you seeing any stops and starts there in terms of product ramps as well? Are you hearing about any component issues? Or are you relatively immune from that in your ramp?

Matthew J. Murphy, Chairman and CEO

Yes. I'll lead off, and I'll let Chris comment if it's appropriate. I mean, look, I think we've ramped this optics business just massively, okay, over the last few years and very successfully, by the way. So I want to just echo what Chris said. Our business team, sales team, and operations team have done a great job. We have deep partnerships up and down the supply chain and with the key module companies to really plan our business together. So there seems like there's always something going on, but I think we've been able to just manage through it and continue to grow quite dramatically in terms of our sales and execution over the last few years. So I think there's always noise in the system, Tom, relative to different pieces of it. But I'd say overall, we're tracking really well. Chris, do you have anything to add or did I capture that?

Christopher Koopmans, President and COO

I think you captured it. Just very strong partnerships with our customers and trying to stay one step ahead of all the changes and executing very well.

Operator, Operator

Our next question is from Timothy Arcuri with UBS.

Timothy Michael Arcuri, Analyst

Matt, so you're guiding data center flat and optics is up double digits. Since you're guiding optics up double digits, can you give us a sense of sort of what the baseline is for the optics business? I know you did provide that the AI revenue would cross over half of the total company revenue. Is that happening as soon as fiscal Q3? So is optics plus custom at 50% of the total company revenue? I'm just kind of wondering because you're guiding optical, I'd like to see if you can give us some sense of what the baseline was coming off fiscal Q2.

Matthew J. Murphy, Chairman and CEO

Yes. Let me quickly begin, and I'll see if Willem wants to add anything. We haven't updated that number since Q4, where optics accounted for about half, custom for about a quarter, and other for about 25%. Both optics and custom have increased since then, but we haven't specified the exact updated mix. Willem, do you have any insights that could be helpful? Tim, this is likely not something we'll update every quarter, but I understand your question. Willem, do you have anything to contribute?

Willem A. Meintjes, CFO

No, that's the right framework and exactly what Matt said, right? Take that guidance we gave in Q4, and you can apply our growth rates. And it's just not a number we're going to be sharing every quarter, but that should give you a good sense of what it is.

Timothy Michael Arcuri, Analyst

Okay. But is the total AI number going to be half the company before the end of the fiscal year? Can you at least provide a milestone for that? Will it happen in fiscal Q3, or will it be more in fiscal Q4?

Matthew J. Murphy, Chairman and CEO

Yes, I'll need to follow up with you on that, Tim. I don't have the spreadsheet available at the moment. However, it appears that with various factors considered, we are seeing improvement in the second half compared to the first, and the trends seem to be consistent. I don’t have the specific number on hand, but there hasn't been any significant directional change.

Operator, Operator

Our next question is from Harsh Kumar with Piper Sandler.

Harsh V. Kumar, Analyst

I had a question on the scale of the AI business. I think you mentioned you had 18 wins before you might have picked up. I think you suggested a couple of more wins. So I wanted to understand of all the custom and attached chips that Marvell is working on, how many of them are actually producing revenues today? I want to understand kind of like where we are today because we understand that you are aiming for 20% of $94 billion by 2028. So I'm trying to understand where we stand today and kind of knowing where we're headed to.

Matthew J. Murphy, Chairman and CEO

Yes. Thanks, Harsh. Chris, do you want to give some commentary on that one?

Christopher Koopmans, President and COO

Certainly, there are several products in production today that have been since late last year. Of the 18, they are either currently going into production or have begun production this year or will do so next year. Each quarter, new components of these programs are progressing into production, and we anticipate this growth to continue over time.

Harsh V. Kumar, Analyst

Okay. And then just maybe broadly, very broadly help us understand, and I'm not asking for any specific customer, but if most of your wins or all of your wins, largely speaking, are on track. And the reason why I'm asking is when we talk to clients, investors, there's just a lot of controversy. So any kind of statement that you can make would be helpful.

Matthew J. Murphy, Chairman and CEO

There is always controversy. I believe that is why our focus during AI Day was to clarify how we are driving the business, what sets our technology apart, and what the opportunities are. We aimed to provide more detailed insights than we have in the past, especially concerning hyperscale compared to emerging XPU, XPU attachment, and the relative size of those opportunities. We mentioned today that we are making progress in those areas and have now closed some deals. This will be our guiding focus moving forward. Given the momentum from design wins, we are clearly gaining new incremental business from both traditional large hyperscalers and the emerging generation. I hope that provides some clarity.

Operator, Operator

Our next question is from Jim Schneider with Goldman Sachs.

James Edward Schneider, Analyst

I was wondering if you could maybe address capital allocation from a high level for a moment. If you look at your automotive Ethernet business, that's a very attractive price you're able to get from that. So maybe you can maybe talk a little bit about the intended use of the proceeds, whether your bias is more towards tuck-in acquisitions that will allow you to pursue the AI strategy even faster or buybacks? And then more broadly, are you open to potential sale of other components of the business at the right price, whether that be carrier, consumer, or otherwise?

Matthew J. Murphy, Chairman and CEO

Thanks, Jim. That's a thoughtful question. To elevate the discussion briefly, our capital allocation framework guides how we operate the company, and the automotive divestiture is an outcome of that. Since August 2016, shortly after I became CEO, we have implemented a strategy for capital allocation, focusing mainly on investing our R&D dollars. At that time, we also had opportunities for buybacks due to our position, but our primary focus has always been strategy first. We just completed our 10th strategic review a couple of weeks ago and have been evolving from a consumer enterprise company to a data center AI-focused one. Over the last few years, we've shifted our R&D spending to over 80% towards AI and data center initiatives, up from around 60% just a few years ago, and almost nothing before that as we had no business in that area. Regarding the automotive business, although we built it from scratch and it’s a great business, it remained a small part of our total revenue and became even smaller as AI grew. We found an excellent home for it with Infineon, yielding us a significant valuation. Now we have the proceeds and are examining how to deploy them. While the specifics are not yet determined since we've just closed the deal, it's been a significant success for the team, closing earlier than we anticipated. We will continue to look at our organic investments to support our AI differentiation. If there are suitable tuck-in acquisitions, we are open to that as well. For the last several years, we've focused heavily on M&A to build the desired portfolio and have made considerable organic investments to enhance our capabilities. We're in a strong position, but we will always explore opportunities. Willem, would you like to add anything?

Willem A. Meintjes, CFO

Yes. I'll just add a couple and just also call out to the team for doing a phenomenal job on getting this deal closed in basically 4 months. A deal of this size and complexity is a phenomenal job. So Jim, when you look back at the last couple of quarters here, we've really driven an increased level of buybacks really through much more consistent execution on our free cash flow. And so as a basis, you should expect for us to continue to drive that and have a focus on very consistent free cash flow execution driving a higher level of buybacks. And then as Matt mentioned, I think this additional capital really gives us a lot of flexibility around being opportunistic on doing more buybacks. But at the same time, we're at this historic moment in terms of the size of this AI market, and where we do see tuck-ins that can accelerate our roadmap towards addressing that, we'll take advantage of that.

Operator, Operator

Our next question is from Harlan Sur with JPMorgan.

Harlan L. Sur, Analyst

This goes back to one of the previous questions. You know the noise level out of Asia on your lead customers' follow-on 3-nanometer XPU program continues at this deafening pace, right? With your Asia competitor, they're essentially claiming victory on 3-nanometer. So what's the update with Marvell's 3-nanometer XPU follow-on program with your lead customer? I think last earnings call, Matt, you talked about securing 3-nanometer wafer capacity and packaging capacity production in calendar '26. Is this program still tracking? What's the confidence level on this program still driving growth next year? And then maybe just an update on your third XPU customer win at 3-nanometer, which was supposed to ramp back half of calendar '26. How is this program tracking as well?

Matthew J. Murphy, Chairman and CEO

Yes. Thanks, Harlan. I appreciate the question. I understand the noise. As I said in my answer to the earlier question, we're at a point where the initial programs and wins we have are ramping. We've increased our opportunity set pretty significantly from a handful of sockets to this 18-plus. And we're really driving to the market share targets in the future. And just given the massive sort of focus in this area and sensitivity, commenting on just the individual sockets at this point is probably only increasing the noise level. And what we're really focused on is winning incremental designs, executing on the ones we've got, and driving the business forward and ultimately trying to get 20% of the $90-plus billion Total Addressable Market in the future. That's where that's at.

Operator, Operator

Our last question is from Quinn Bolton with Needham & Company.

Nathaniel Quinn Bolton, Analyst

Matt, I wanted to follow up just kind of on the scale-up switch fabric opportunity. It seems like it's a bigger part of the XPU attach market, and there are different flavors, Ethernet, UALink. Just wondering, can you give us a sense of when Marvell may have its first products ramping to revenue? Is that a calendar '26 event? Or is it going to be more UALink based and more likely a calendar '27 event? And then I've got a follow-up.

Matthew J. Murphy, Chairman and CEO

Yes. Thanks, Quinn. I think maybe I'll let Sandeep add a little bit more, but I think he did a good job framing it. I will just say, though, maybe up level for a second. I think on the scale-up, it really is a great combination of key Marvell IPs all into one, especially our low-latency switching IP, our SerDes, and then just the ecosystem we're living in relative to XPUs, and then this being a key XPU attach that’s fundamentally almost a chipset type of decision. So Sandeep, anything else to add on that? I think we haven't really articulated a lot yet publicly on what we're doing, but there's a huge amount of momentum here, and we're engaged very broadly in this area. Sandeep, any thoughts and closing remarks on this one?

Sandeep Bharathi, President, Data Center Group

Yes. Thank you, Matt. So definitely, we are investing to bring UALink and Ethernet-based products as we engage with our customers and working very closely with our customers' timelines. What I would say is product introductions in the UALink and Ethernet space for scale-up specifically will be in the next two years. And certainly, with the assets that we have, not only are we looking at UALink-based products in interconnect, we're already starting to see the use of AECs in the near term and AOCs for which is active electrical cables and active optical cables, positioning us to participate in these markets. So for UALink and Ethernet-based specifically, it will be in the next two years.

Nathaniel Quinn Bolton, Analyst

Got it. I wanted to ask about your significant presence in the DSP-based optical modules. Some of your competitors have noted that three hyperscalers are starting to ramp LPO modules. Can you provide some perspective on whether there are significant LPO developments underway? Are these primarily niche applications? What is your view on LPO's share in the overall optical transceiver market? Is it expected to remain in the low single-digit percentages, or do you see potential for growth in the coming years? I'd like to hear your insights since you are clearly established in this space.

Matthew J. Murphy, Chairman and CEO

Thank you, Quinn. Yes, it's currently occurring on a smaller scale, and we are also involved in some of those initiatives. We have active wins and are moving to production in those types of modules. However, due to the large scale of the DSP-based pluggables, they represent a very small portion and are more of a niche application. Yet, they can be valuable if customers truly need them, successfully implement them, and get them working in production. Nonetheless, the majority we see today, and for the foreseeable future, are pluggables. Operator, I believe that's it. I will make a few closing remarks. Thank you all for joining. I appreciate your interest in Marvell and your participation in this call. First, as I mentioned, Chris and Sandeep highlighted the strong design win momentum in custom solutions since AI Day. I feel confident about the $75 billion pipeline, and I believe we will continue to close significant opportunities within it. This pipeline appears to be expanding further, especially across XPU and XPU attachment at large hyperscalers, and is also increasing in emerging markets. Our optics business continues to thrive; we are managing execution well and growing in that area. As for our core business, which had raised concerns in the past regarding its recovery and ramp-up, it's encouraging to see a strong sequential growth in enterprise networking and carrier in Q3, approximately 30% sequentially and over 80% year-over-year. This strong recovery is reflected in our numbers as well. Reviewing Q2 EPS, it has risen by about 123% year-over-year, and for Q3, guidance suggests EPS will increase by around 70%, outpacing revenue growth both sequentially and year-over-year. Overall, we are very satisfied with the company's performance and see significant opportunities ahead. I appreciate everyone's interest in Marvell, and we will speak again soon. Thank you very much.

Operator, Operator

Ladies and gentlemen, thank you for your participation. This does conclude today's conference. Please disconnect your lines, and have a wonderful day.