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Fabrinet: Nuggets Search in Optics Mess

May, 2018

All of the previous, unusual amount of commotion going on in the telecom/datacom optical market has been further complicated with the ban on sales to ZTE. Yet, it cannot be ruled out that there may be at least small opportunities for growth in the space for contract manufacturer, Fabrinet, as a result of the potential moves of the large component companies in dealing with the crisis of a major drop downward in margin generation in their traditional businesses. Of course, if the US federal government’s investigation into Huawei gets escalated to another level, then all bets are definitely off until after the bargaining of these chips is completed, as this writer has commented on earlier.

Fabrinet would have the most to gain from possible shifts in direction by Finisar, which also has the benefit of having the least exposure to China of the four big US componentry firms. Of course, its new CEO, Michael Hurlston, in coming from Broadcom, would be extremely comfortable in moving to a model, which is based on farming out more of the production.

The biggest impetus would be our expectation that the upcoming plan for Finisar, which will be announced in June of this year, will reflect a determination that the optical ecosystem has been so damaged that vertical integration can no longer offer a significant cost advantage in producing transceivers. Hurlston will also likely be inclined to move downstream as quickly as possible to focus manufacturing/development efforts at the chip level in which the potential for profitability would be the greatest.

Hurlston can reasonably make the argument that such an atypical acceleration of this kind of change is necessary as market conditions have not been this bad since the bubble burst almost 20 years ago. Moreover, the combination of Lumentum planning to use Oclaro’s fabs increasingly for consumer applications along with the former looking to concentrate further upstream in its traditional business, may provide greater opportunities for Finisar to offer modules with a greater amount of sophisticated integration, which can demand a better premium, and hopefully provide Fabrinet with a decent amount of volume business.

Concerning the Lumentum/Oclaro merger in the short term, the former is already its largest customer, and we had heard through the grapevine that before the announcement of the marriage that the latter was considering moving at least some, if not all of its contract manufacturing for its IPBU (Incubated Photonics Business Unit) from Venture, in Penang, Malaysia to Fabrinet. A lot of the work on its line-side offerings, including its ACOs and coherent optics has been performed at Venture. Fabrinet has been getting business from Oclaro’s PCBU (Photonic Component Business Unit) for client-side apps.

The key point is that after closing the purchase, Lumentum will likely want to simply matters (as well as reduce its costs) as speedily as feasible in order to more efficiently absorb the acquisition by moving the Oclaro portion of the operation to just using Fabrinet.

As always fibeReality does not recommend any securities, and this writer does not invest in any companies being analyzed by us.

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[written by Mark Lutkowitz]

 

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  • brian kinn  
    May 10, 2018 at 17:18 PM Reply
    "... 20 years ago" Indeed, though not "quite" 20 yrs "yet" . I was there for the whole show. from the beginning ... when the "Asian crisis" was the bear's delight of the moment, followed by the first Fed move in some large number of years, which, in tandem with the world suddenly realizing there was an internet , created the whole dotcom craze (Also, Clinton had a balanced budget to rave about ... which made the cigar incident with Monica all the more endearing). And then one day in 1999...NT had a Q report somewhat lacking in the usual "cherry pie in a stratosphere" enthusiasm. Indeed some say it bordered on bleak,.... and the market's breath suddenly stuttered ( still remember Roth's smiling face as he talked about "firing on all cylinders" ... on the previous Q). As the dominoes began to line up for the fall, JDSU, LU, and CIEN, refused to admit defeat .... but eventually joined in surrender to the onslaught as their gorged p/e's began to shed lbs and shrink from XXXXL plus sizes.... all the way down to petite sizes (my girlfriend is a "0"... that's small, right?). Having lived through that, and having emerged on the other side an older and wiser player, I'd like to state for the record that the "status quo" is quite different these days. As several have mentioned over the last 5 years, the infrastructure dependent companies are not only making money now (as opposed to 1999), but their constructs are becoming sorely taxed in more areas every day. Long gone are the water cooler remarks of a fiber glut, but what seems to be overlooked is that capacity has been getting crushed and services are seeing some backlash (off net), in more ways than one. However, to coin a phrase "you aint seen nothin yet".. There is so much "work" on the horizon, and we really are just getting started on what many thought would happen overnight, allowing impatience to lead them astray, and I am again reminded of the histories surrounding disruptive technology developments, the few shareholders who built more wealth, and the many that got in, got burned, then later missed the boat entirely because they just did not understand the companies, their products, the markets they served, and the fickle intricacies, and varieties of demand. ..... "I shall be telling this with a sigh, somewhere ages and ages hence...." As transformations and consolidations ensure, inventories subside, and demand pressure becomes visible, even to the general heard, opticals will thrive. Keep us abreast of your insight, Mark. Your perspective is much appreciated.
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