TTM Technologies Inc

NASDAQ:TTMI

Earnings Call Transcript 2018-Q2

[Operator]

Good day, everyone, and welcome to the TTM Technologies, Inc. Second Quarter Earnings Call. At this time, I would like to turn the call over Sameer Desai, Senior Director of Corporate Development and Investor Relations. Please go ahead, sir.

[Sameer Desai]

Thank you. Before we get started, I would like to remind everyone that today’s call contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995, including statements related to TTM’s future business outlook. Actual results could differ materially from these forward-looking statements due to one or more risks and uncertainties, including the factors explained in our most recent annual report on Form 10-K and our other filings with the Securities and Exchange Commission. These forward-looking statements are based on management’s expectations and assumptions as of the date of this presentation.

TTM does not undertake any obligation to publicly update or revise any of these statements whether as a result of new information, future events or other circumstances, except as required by law. Please refer to the disclosure regarding the risks that may affect TTM, which may be found in the reports on Form 10-K, 10-Q, 8-K, the registration statement on Form S-4 and the company’s other SEC filings.

We will also discuss on this call certain non-GAAP financial measures such as adjusted EBITDA. Such measures should not be considered as a substitute for measures prepared and presented in accordance with GAAP, and we direct you to the reconciliation of non-GAAP to GAAP measures included in the company’s press release, which was filed with the SEC and is available on TTM’s website at www.ttm.com.

I would now like to turn the call over to Tom Edman, TTM’s Chief Executive Officer. Please go ahead, Tom.

[Tom Edman, Chief Executive Officer]

Thank you, Sameer. Good afternoon, and thank you for joining us for our second quarter 2018 conference call. I’ll begin with a review of our business strategy, including highlights from the quarter, followed by a discussion of our second quarter results. Todd Schull, our CFO, will follow with an overview of our Q2 2018 financial performance and our Q3 2018 guidance. We will then open the call to your questions.

First of all, I’d like to thank all of our employees for their achievement in the second quarter 2018 for TTM Technologies. This was the first quarter that we included Anaren’s results and I was very pleased with their contribution. We achieved the highest revenues for our second quarter in the history of the company and non-GAAP EPS was above the high-end of guidance, despite some challenging seasonal trends.

We continue on our path toward diversification of our end markets and differentiation of our capabilities. The last several months have validated many of the elements of the strategy, which we have communicated over the past two years and further elaborated on during our Analyst Day presentation in May.

First, the diversification of our end markets helped to reduce quarterly volatility and grow total company revenues in what was a challenging quarter in one of our end markets. Specifically, growth in our aerospace and defense, automotive, computing and medical industrial instrumentation end markets helped to offset difficult conditions in the cellular end market.

Second, we continue on our path towards differentiation in the automotive and aerospace and defense end markets. The automotive end market continues to be a core growth driver due to increasing electronics content as well as the adoption of advanced technologies.

We see four key mega trends driving automotive, PCB content growth; one, vehicle safety and autonomous driving; number two, increasing adoption of hybrid and electric vehicles; number three, advanced infotainment; and number four, increased connectivity. Estimates of $62 in PCB content per vehicle in 2016 are expected to grow to $75 by 2020. Some hybrid and electric vehicles currently employ well over $150 of PCBs per vehicle.

Despite concerns of trade wars, automotive sales for the first half of 2018 have been solid. China unit sales were up 5.6%, with sales of electric vehicle and hybrid cars more than doubling. NIO, a Chinese-based electric car company filed in May to go public. Byton, another Chinese electric vehicle start up raised $500 million in the second quarter. Waymo plans to buy 62,000 minivans from Fiat Chrysler, dramatically increasing its driverless fleet.

In the automotive market, customer engagement begins well before product ramp. The growth we are seeing in 2018 is being driven by design wins in 2016 and 2017, with both larger, more established automotive suppliers and OEMs, as well as smaller, newer high growth companies. This year we expect product ramps with 12 of these high growth OEMs in the autonomous vehicle, electric vehicle and sensor areas.

In total, we registered more than 170 new design wins in 2017. In the first quarter of 2018 we won 37 new designs and in the second quarter we won 62 new designs. Finally, we are in qualification with five new automotive radar accounts, which brings the total radar customers under qualification to 15.

The Anaren acquisition represents another critical step in our differentiation strategy. The addition of Anaren will increase our presence in the aerospace and defense end market and greatly enhance our focus on the high growth radar and satellite portions of that market. Anaren’s wireless components are also leveraged to the adoption of 5G technology, which will lead to a substantial increase in our future addressable market for these components.

The process of integrating Anaren into TTM is proceeding on track. While our second quarter results reported Anaren as a separate business unit, starting in Q3 Anaren’s businesses will be integrated into our existing businesses. We have already begun the process of identifying revenue synergy opportunities, which will accelerate TTM’s future growth.

As I’ve mentioned before, the major goal of this acquisition is to add to TTM’s revenue growth. The addition of Anaren moves TTM higher up in the value chain, allowing us to engage with customers earlier in the design cycle. Our customers can now rely on TTM to deliver a completely designed RF solution to meet their needs. In addition, as previously discussed, we have identified 15 million in annualized run rate cost synergies and we have firm plans to continue executing on these synergies over the two-year time period following the closure of the acquisition.

Now I’d like to review our end markets. For TTM, the aerospace and defense end market represented 24% of total second quarter sales, compared to 17% of Q2 2017 sales and 18% of sales in Q1 2018. Anaren accounted for approximately 7 points of Q2 revenues and we saw meaningful upside from Anaren in the second quarter due to strength in RF subassemblies for military applications.

For our core A&D business year-over-year growth was 16% and reached a record high driven by our larger defense customers. Core A&D program backlog rose to $292 million from $269 million last quarter, which is also a record level for TTM. Including Anaren, total program backlog at the end of Q2 was $450 million versus what would have been $427 million in Q1 on a pro forma basis. We expect sales in Q3 from this end market to represent about 22% of our total sales.

Automotive sales represented 19% of total sales during the second quarter of 2018, compared to sales of 20% in the year ago quarter and 20% during the first quarter of 2018. Year-on-year growth was 8% primarily driven by our E-M Solutions segment. We expect year-on-year revenue growth in Q3, driven by our PCB segment, and expect automotive to contribute 20% of total sales.

Network and communications accounted for 17% of revenue during the second quarter of 2018 and Anaren accounted for 2 points. This compares to sales of 20% in the second quarter of 2017 and 16% in the first quarter of 2018. Excluding Anaren, sales were down on a year-over-year basis, largely due to weakness from the networking market, partially offset by relatively stronger demand in the telecom market as we began our first 5G related shipments. In Q3 we expect this segment to be 17% of revenue.

Sales in the computing stories peripherals end market represented 15% of total sales in the second quarter compared to total sales of 14% in Q2 of 2017 and 12% in the first quarter of 2018. We saw year-over-year growth of 21% driven primarily by high-end data centers. We expect sales in this end market to represent approximately 13% of third quarter sales.

The medical/industrial/instrumentation end market contributed 14% of our total sales in the second quarter, compared to 15% in the year ago quarter, and 15% in the first quarter of 2018. We saw broad based growth across customers in each of the submarkets. We expect sales for this end market to represent approximately 13% of sales in the third quarter.

The cellular phone end market accounted for 8% of revenue in the second quarter, compared to sales of 13% in Q2 of 2017 and 15% in Q1 of 2018. The decline was primarily due to the reduction of customer inventories prior to the launch of new models. We expect cellular to represent 16% of third quarter sales as new models launch in the second half of the year.

Next I’ll cover some details from the second quarter. During the quarter, our advanced technology business which includes HDI, rigid-flex and substrate, and RF subsystems and components accounted for approximately 33% of our company’s revenue. This compares to approximately 33% in the year-ago quarter and 35% in Q1, both of which did not include Anaren. The declines were driven by the cellular end market.

We are continuing to pursue new business opportunities and increased customer design engagement activities that will leverage our advanced technology capabilities in new markets. Capacity utilization in Asia-Pacific was 71% in Q2 compared to 83% in the year-ago quarter and 78% in Q1. Our overall capacity utilization in North America was 61% in Q2 compared to 54% in the year-ago quarter and 61% in Q1, as growth in our A&D and computing end markets drove additional production in North America.

Our top five customers contributed 27% of total sales in the second quarter of 2018 compared to 33% in the year-ago quarter and 33% in the first quarter of 2018. Our largest customer accounted for 9% of sales in the second quarter versus 16% in the year-ago quarter and 16% in Q1. At the request of several of our customers, we will no longer be reporting our top five customers in our quarterly earnings calls.

At the end of Q2, our 90-day backlog, which is subject to cancellations, was $535 million, compared to $434 million at the end of the second quarter last year and $480 million at the end of Q1. Our PCB book-to-bill ratio was 1.02 for three months ending July 2.

In summary, during the second quarter, we demonstrated the benefits of our diversified end markets, achieved better-than-expected results with the Anaren acquisition and in the aerospace and defense market, managed the seasonality in our consumer-oriented markets and continued to see positive results from our focus on operational execution. We remain optimistic about the future of TTM.

Now Todd will review our financial performance for the second quarter.

[Todd Schull, Chief Financial Officer]

Thanks, Tom, and good afternoon, everyone. Some highlights from the second quarter include the acquisition of Anaren on April 18 and the inclusion of their results from that date. Revenue in the quarter of $716.9 million, non-GAAP operating margin of 9.7%, non-GAAP earnings per share of $0.48, adjusted EBITDA of $115.9 million, and cash flow from operations of $55.7 million. Also of note during the quarter, we entered into an interest rate swap arrangement affectedly fixing the interest rate on $400 million of our variable rate debt.

So now on to the details. For the second quarter net sales were $716.9 million, compared to net sales of $627.2 million in the second quarter of 2017 and first quarter 2018 net sales of $663.6 million. The year-over-year increase in revenue was due to the inclusion of Anaren post acquisition, which contributed $62 million and due to the growth in our core TTM aerospace and defense, automotive, computing and medical industrial instrumentation end markets partially offset by lower revenue in our cellular and network and communication end markets.

GAAP operating income for the second quarter of 2018 was $31.7 million compared to $45.1 million in the second quarter of last year and $30 million in the first quarter of 2018.

On a GAAP basis, net income in the second quarter of 2018 was $84 million or $0.65 per diluted share. This compares to $20.6 million or $0.18 per diluted share in the second quarter of last year and $10.1 million or $0.09 per diluted share in the first quarter of this year. Our GAAP net income reflects the release of a tax valuation allowance of $74.6 million.

The remainder of my comments will focus on our non-GAAP financial performance. Our non-GAAP performance excludes acquisition-related costs, certain noncash expense items and other unusual or infrequent items as well as the associated tax impact of these items. Additionally, we exclude nonoperational changes in our tax expense such as noncash discrete items like to release this quarter of a tax valuation allowance. We present non-GAAP financial information to enable investors to see the company through the eyes of management and to provide better insight into the company’s ongoing financial performance.

Gross margin in the second quarter was 17% compared to 15.4% in the second quarter of 2017 and 13.4% in the first quarter of 2018. The year-over-year and sequential increases in gross margin were primarily due the contribution of Anaren and higher volumes in the end markets noted earlier, which more than offset the challenges of lower volumes in our cellular and high-end laptop focused facilities.

Selling and marketing expense was $18.1 million in the second quarter or 2.5% of net sales versus $15.5 million or 2.5% of net sales a year ago and $17.3 million or 2.6% of net sales in the first quarter. Second quarter G&A expense was $34.4 million or 4.8% of net sales compared to $25.9 million or 4.1% of net sales in the same quarter a year ago and $27.4 million or 4.1% of net sales in the previous quarter. The increases in selling and marketing and G&A expenses were due to the addition of Anaren for most of the quarter.

Our operating margin in Q2 was 9.7%. This compares to 8.8% in the same quarter last year and 6.7% in the first quarter of 2018. Interest expense was $16.8 million in the second quarter, an increase of $6.6 million from the same quarter last year due to the incremental term loan associated with the Anaren acquisition.

During the quarter, we recorded $4.8 million of foreign exchange gain. Government incentives brought the total gain to $6.2 million or approximately $0.05 of earnings per share. This compares to a net loss of $5.8 million in second quarter of last year. The foreign exchange gain in the second quarter of this year was due primarily to the 5.3% depreciation in the Chinese renminbi versus the U.S. dollar during the quarter.

As mentioned in the highlights, we entered into an interest rate swap, which fixes the LIBOR portion of our interest rate at 2.84% for $400 million of our valuable debt. Our effective tax rate was 11.1% in the second quarter, down from 14.5% a year ago.

Second quarter net income was $52.3 million or $0.48 per diluted share. This compares to second quarter 2017 net income of $33.3 million or $0.31 per diluted share and first quarter 2018 net income of $28 million or $0.26 per diluted share.

Adjusted EBITDA for the second quarter was $115.9 million or 16.2% of net sales compared with second quarter 2017 adjusted EBITDA of $85.5 million or 13.6% of net sales. In the first quarter, adjusted EBITDA was $83.2 million or 12.5% of net sales.

Moving on to our segment performance. The PCB segment had sales of $593 million in the second quarter, up from $574.3 million in the second quarter of 2017 and down from $616.4 million in the first quarter of this year. Gross margin for this segment was 15.4% in the second quarter compared to 16.1% in the same quarter a year ago and 14.3% in the first quarter. The year-over-year change in sales was noted previously. The year-over-year decline in gross margins was due to lower volumes at our cellular and high-end laptop manufacturing facilities, partially offset by higher volumes and production efficiencies at our other operations. The PCB segment’s second quarter operating income was $67.8 million, compared to $69.4 million in the same quarter last year and $64.2 million in the first quarter.

We acquired Anaren on April 18. During the second quarter, Anaren contributed net sales of $62 million, gross margin of 43.3% and operating income of $18.6 million. Going forward, we will no longer be reporting Anaren as a separate entity as we’ve integrated it into our operations, effective with the start of the third quarter as Tom mentioned earlier.

The electro-mechanical solutions segment had net sales of $61.8 million in the second quarter, up from $52.9 million a year ago and up from $47.2 million in the first quarter of this year. The year-over-year increase was due to stronger volumes in our automotive end market. Gross margin for this segment was 8% in the second quarter compared to 10.1% in the same quarter a year ago and 5.5% in the first quarter. The gross margin year-over-year decline was mainly due to unfavorable product mix. The sequential gross margin increase was due to higher volumes.

The electro-mechanical solutions segment’s second quarter operating income was $2.3 million compared to $2.9 million in the same quarter last year and $195,000 in the first quarter this year.

Corporate SG&A expense not directly associated with the PCB, Anaren or electro-mechanical solutions segment was $18.2 million in the second quarter of 2018, $15.9 million in the second quarter of 2017 and $18.3 million in the first quarter of this year.

Cash flow from operations was $55.6 million in the second quarter versus $59.1 million in the year ago quarter.

Cash and cash equivalents at the end of the second quarter totaled $204.1 million versus $352.6 million in the first quarter. The decrease reflecting cash used to acquire Anaren. Using our cash flow to repay debt is a top priority for us. And on July 20, we repaid $40 million of our term loan. Depreciation for the second quarter was $40.3 million, net capital spending for the quarter was $38.9 million.

Now I’d like to turn to guidance for the third quarter. We expect total revenue for the third quarter of 2018 to be in the range of $730 million to $770 million, which includes a full quarter of Anaren. As a reference point, our third quarter revenue last year was $666.8 million. We expect non-GAAP earnings to be in the range of $0.41 to $0.47 per diluted share. This compares to an EPS of $0.32 per diluted share reported in the third quarter of 2017.

The EPS forecast is based on a diluted share count of approximately 110 million shares. Our share count guidance includes dilutive securities such as options and RSUs as well as roughly 5 million shares associated with our convertible bonds, which varies based on our future stock price. As a reminder, for every dollar increase in the average share price above $14.26 during the quarter, our shares outstanding would increase by approximately 1.5 million shares.

We expect that SG&A expense will be about 7.2% of revenue in the third quarter. We expect interest expense to total about $19 million, which reflects the additional term loan associated with the acquisition of Anaren. Finally, we estimate our effective tax rate to be between 10% and 15%.

To assist you in developing your financial models, we offer the following additional information. We expect to record during the third quarter amortization of intangibles of about $19 million, stock-based compensation expense of about $5.7 million, noncash interest expense of approximately $3.5 million and we estimate depreciation expense will be approximately $40 million. The amortization of intangibles, includes the recent Anaren acquisition, but is still pending completion of the purchase accounting process. As a result, the forecasted amortization expense could change.

Finally, I’d like to announce that we’ll be participating in the Needham Industrial Technologies Conference in New York City tomorrow; the Deutsche Bank Technology Conference in Las Vegas on September 12, and the Deutsche Bank Leverage Finance Conference in Scottsdale on October 2.

That concludes our prepared remarks, and now we’d like to open the line for questions. Anne?

[Operator]

[Operator Instructions] We’ll take our first question from Matt Sheerin with Stifel.

[Matt Sheerin, Stifel]

Yes. Thanks and good afternoon everyone. Just first question, Tom, regarding your guidance for the handset and cellular business, you talked last quarter about the inventory correction. It looks like you’re going to be up markedly, I don’t know, 90% to 100% sequentially. It looks like it will be sort of flat to down year-over-year. And I know previously in your last conference call, you talked about still thinking that you’re going to grow in the 4% to 8% range, I think, it was for the year for handsets. And it looks like you’re going to have to have another really big fourth quarter to get there. So what are your views on that business?

[Tom Edman, Chief Executive Officer]

Sure. Thanks, Matt. Yes. So overall, as you would expect, of course, third quarter, we’re moving into an accelerating ramp. You’re absolutely right, we are, in fact, moving from what has been a less than expected second quarter to a strong ramp in the third quarter. We’re actually looking at being up over 100%, closer to 120% or so sequentially and actually being up somewhere around 5% year-on-year in the third quarter. Obviously, that means a lot of work has been going on in terms of preparation for this ramp as we went from second quarter into a third quarter, really from moving from a cold start if you think of our facility into full ramp. And that means bringing on the people required and then moving up that yield curve during the course of the quarter.

I do agree with you as we look at the overall cellular forecast from the vantage point of today and given a Q2 that was below our forecast, we are looking at this point of coming in below that 5% to 8% range, slightly below that range in terms of overall growth. On the other hand, we expect to see computing actually – and coming up a very strong Q2, we expect our – the computing end market to exceed what the market forecasters have projected for the longer-term growth there. The forecasters are at zero to 2%. We expect to be well above that growth rate for the year. So yes, that would – hopefully gives you an update on where we sit today.

[Matt Sheerin, Stifel]

Okay. And then you commented on computing, but for the year, it doesn’t look like there’s any material change to the forecast for the year by segment except for the handsets and maybe computing. Is that fair?

[Tom Edman, Chief Executive Officer]

That’s right. Those – that’s correct. Those will be the two areas that we’d see a change

[Matt Sheerin, Stifel]

Okay. And then switching topics to tariffs and materials issues that a lot of companies are talking about. Just first on tariffs. Obviously, you build a lot of products in China. I’m not sure how susceptible your products are to tariffs. And I know, on the electromechanical side, you are buying components. So any issues there that you’re seeing on the tariff side working with customers?

[Tom Edman, Chief Executive Officer]

Yes, sure. Obviously, a very dynamic situation in terms of trade, the tariffs and where we’re going to end up at. But what I can say is, number one, as we pointed out in the past, generally, our PCBs and also our PCB assemblies move from within China to customer locations or contract manufacturer locations within China or within the region in south – inclusive of Southeast Asia. Very little product actually moves from China directly into the U.S. But in terms of on the supply chain side, a little bit more of an impact with the first tariff lift as that included aluminum, and aluminum is a minor part of our supply chain. So we’re looking there at the quarterly impact of less than $1 million per quarter, which we, of course, we have factored into our Q3 guidance.

As we look out at the second, third and fourth lifts that have been discussed and have been changing relatively frequently, those lifts do include PCBs and also include laminates. So on the PCB side, as I’ve already mentioned, very little direct impact there. Only a minor part of our production actually moves into – directly into the U.S. On the laminates side, we have a pretty extensive supply chain in laminates of global laminate suppliers. A couple of those do have production locations in China from which we’ve been importing into the U.S. and we are actively working with those suppliers to move that production into other global locations.

And finally, a comment on the overall impact and what I’d say there is at this point, too early to tell but certainly, we continue to watch closely any impact on our customers as that really is what’s critical to us is our customers’ ability to navigate this situation and the demand situation that they face.

[Matt Sheerin, Stifel]

Okay, that’s very helpful. Thanks so much.

[Tom Edman, Chief Executive Officer]

Thank you.

[Operator]

We will take our next question from Sherri Scribner with Deutsche Bank.

[Sherri Scribner, Deutsche Bank]

Hi, thank you. I was hoping you could give a little more detail on the strength that you’re seeing on the compute side. I think you said data center but I was hoping to get a little more color on what you’re seeing, is that primarily cloud applications? Is it traditional enterprise? What are you seeing there that’s driving so much strength this quarter and this year?

[Tom Edman, Chief Executive Officer]

Sure. Thanks, Sherri. The bulk, what we’re really seeing there is mainly coming out of the cloud proprietary data center or server requirements coming from customers and work that they were doing out of our North America footprint as in terms of prototyping pilot production and some of the actual volume production for some of the higher-end products required there. Of course, on the China side, we also continue to see some benefits, but and again, mainly from the high-end server requirements coming from our customers, most of that related to the cloud.

[Sherri Scribner, Deutsche Bank]

And I guess, when you think about that cloud business, clearly a lot of companies are seeing some strength there. Do you have any visibility on how long that will last, that strength?

[Tom Edman, Chief Executive Officer]

Certainly, what I would say is that the prospects look good for – I think like any business we may see quarterly changes, but certainly through next year, it looks strong in terms of the demand that we’re seeing. And the interest continues to grow there as well.

[Sherri Scribner, Deutsche Bank]

Okay, great. And then I think you mentioned 5G and some strength of the telecom side. Can you maybe talk through what you’re seeing in terms of 5G adoption? I think we’re not really expecting much of that this year, but maybe you’re seeing something a bit different and how do you see that progressing next year and then 2020? Thanks.

[Tom Edman, Chief Executive Officer]

Sure. Yes, it’s interesting the – I think you’re right, from – and there’s always this question of what is 4.5G versus what is 5G. So I’m just going to call everything 5G, what we’re seeing there, our initial shipments, both in terms of PCB requirements and assembly requirements. We’re also benefiting from – on the Anaren side, from the demand for wireless components, and again, used in some of the antenna needs for early 4.5, 5G installations.

And so benefits really, I’d say initial shipments now and volume are pretty much across the board as we – from the component side into assembly and PCB. As you pointed out, still early. Really, we don’t expect strong volumes until next year, but it’s nice to see those initial shipments.

[Sherri Scribner, Deutsche Bank]

Great, thanks so much.

[Tom Edman, Chief Executive Officer]

Thank you.

[Operator]

We will go next to Steven Fox with Cross Research.

[Steven Fox, Cross Research]

Hi, good afternoon. First question was – I was curious if you could talk about the negative leverage that you realized in the cell phone area. It sounds like you said that it was disappointing to original forecast. So roughly, how much of that hurt EPS in the quarter? And I think you also called out the laptop market is also disappointing. Can you just sort of talk about why that maybe didn’t live up to expectations?

[Tom Edman, Chief Executive Officer]

Yes. So let me just talk about the overall market forecast. I think what we saw was a combination of inventory work through in the channel that was greater than expected. So we didn’t – what the forecast moved out on the cell phone side as a result, also some changes in terms of product lineup plans. And so we just saw, as we went into the quarter with the inventory situation that forecasted demand fell.

On the computing side and the laptop side, we just saw some postponements in terms of product introduction plans that impacted us in the quarter. And really short-term impact but pushed out of the quarter.

[Steven Fox, Cross Research]

Okay, that’s helpful. And just looking – yes, sorry.

[Tom Edman, Chief Executive Officer]

No, go ahead, Steve.

[Steven Fox, Cross Research]

No, I was just going to ask if you could just sort of talk about the challenges of ramping such a large cell phone volume this quarter. It’s greater than what you would have expected. And does it also – it seems to imply your content is where you would’ve expected it, say 30, 60, 90 days ago?

[Tom Edman, Chief Executive Officer]

Yes, the content is where we would expect it. With the situation in second quarter being below what we had forecast, what that does is heighten the challenge around the early part of the ramp, which really involves bringing in the workers required, getting them trained up. In fact, the way we work, we actually shift our trained workers between our facilities when we’re in times of soft demand. So bringing some of our more experienced workers back, which is certainly helpful, but we still have to bring in new labor and go through the training steps. And that all started in June, moving into July. That’s the biggest challenge.

And from a technology standpoint, relatively similar to what we had ramped on last year, so that technology challenges less important than bringing in the labor, getting the labor trained up and then really starting up the equipment. If you can imagine, we’re running on relatively limited lines in the last quarter and now running full out this quarter. So getting those lines, exercising them, getting them back up to stuff and making sure that we hit the yield points that we need to.

[Steven Fox, Cross Research]

Great, that’s very helpful. Thank you.

[Tom Edman, Chief Executive Officer]

Thank you.

[Operator]

We will go next to William Stein with SunTrust.

[William Stein, SunTrust]

Great, thanks for taking my question. Congrats on the great margins and earnings results. I’m wondering if you can comment on early lessons and impressions from Anaren. You’ve had it for a couple months here, so we saw good results in the quarter and that’s incorporated in your outlook now. You’ve obviously talked a lot about this at the Analyst Day, but any sort of early impressions, trends, changes in your view as to what you think that asset will help you do over time? And then I have a follow up, please.

[Tom Edman, Chief Executive Officer]

Sure. Thanks, Will. And you’re absolutely right, we’re thrilled, number one, with the – certainly the short-term results are great. And this was the last quarter in Anaren’s fiscal year and so it’s great to see our employees and our management as they come into TTM, really deliver just a tremendous quarter. My compliments to the entire team. And you can imagine, when you’re integrating into a new organization to be able to keep that focus on the business, that’s just tremendous from my perspective, and I’m very grateful for it.

From a longer-term, what we’re seeing with Anaren continues to be tremendously exciting. We have been really pleased with the customer reaction on the aerospace and defense side as I think our customers immediately recognize the benefits of combining the breadth of technologies that TTM brings to this, with the depth of engineering understanding, the testing and simulation capabilities, and the components that Anaren offers. And it really helps to complete the full offering for our customers. They have certainly challenged us with some new opportunities. Being aerospace and defense it takes a little while, it takes several years for these things to play out fully. But we’ve been really thrilled with the customer reaction on the aerospace and defense side.

As you move into the commercial side of the business, also as I mentioned with some of the initial 4.5, 5G shipments, nice opportunities have opened up there; involvement in the antenna side, which we didn’t enjoy to the same extent on the PCB side. So opening up that antenna opportunity and MIMO antennas are going to be absolutely critical to the rollout of 5G, given the frequency density, the density overall of information flow with 5G. So we are seeing what we hope to see there.

And then building on that, we are starting discussions in the optical networking space with customers and in the automotive space to explore whether we can assist with our engineering capability there. All of this of course, while keeping in mind the need to staff properly and to maintain the kind of focus that we need that really has distinguished Anaren as they supported customers. So overall – be more pleased with Anaren coming into TTM and really looking forward to the future there.

[William Stein, SunTrust]

And the follow up – thanks for that. The follow up is about top margins more broadly, there was good upside there in the quarter. Next quarter, you’re going to get some positive leverage from handsets, and you have a 12% to 14% op margin target. Can you remind us of the linearity, tracking from where you are now to get within the range, sort of the timeframe? I understand there’s going to be some seasonality, but how should we think about op margin progressing over the next, let’s say, 1.5 to 2 years?

[Todd Schull, Chief Financial Officer]

So, Will, this is Todd, I’ll respond to that. You’re correct that in our Analyst Day, we did share with the investor community kind of our new targets, what we’re going for in terms of performance, op margins, cash flow, EBITDA margins and things like that. And we did disclose in that process, we shared that target. We were looking at profit margins – and where we were previously, kind of a 10% operating margin target, we’re targeting 12% to 14% now.

We’re looking to at least be in the – hitting the low end of that in kind of a two- to three-year time horizon, looking at or relying basically on organic growth. So where does that come from? That comes from additional execution on all our business. But also as we improve the mix of the business contribution from Anaren, that will continue to help us and support us in growing our revenue. And you saw some benefit to that in our past quarter, where we had some upside that Anaren was able to bring to the table in terms of their op margin. And as we increase their revenue contribution as a percentage of the total pie of our revenue, that’s going to help us get there, in addition to improving operations with our base business.

So is it going to be linear? Nothing’s ever linear, as we see our revenue does fluctuate from quarter-to-quarter. But as we look at the longer-term growth opportunities in the end markets that we serve, we’re feeling very confident that we have – that we see the path to getting to that target in that roughly two- to three-year time horizon, at least the low end of the range.

[William Stein, SunTrust]

Thanks and congrats on the good results.

[Todd Schull, Chief Financial Officer]

Thank you, Will.

[Tom Edman, Chief Executive Officer]

Thanks, Will.

[Operator]

We’ll go next to Sean Hannan with Needham & Company.

[Sean Hannan, Needham & Company]

Thanks for taking the question. Good afternoon. First one, see if I can dive back into the 5G topic. I was looking, Tom and Todd, if you can maybe remind us where your boards are specifically going in the various pieces for 5G deployments. And specifically, what can be more relevant in these earlier stages and then perhaps what might you be shipping into in later months or quarters that really would give us more of an indication that this broader theme is truly moving into a full swing? If there’s any clarity you can provide around that would be very helpful.

[Tom Edman, Chief Executive Officer]

Sure. And I always think the past informs the future. And so as you think about what happened in 4G from a PCB demand standpoint, we follow, of course, equipment demand, so base station demand as the rollout moves forward. And so if you look at our PCB demand – you probably remember that we climbed, so our networking/ communication piece of the business, if you look at that business today, about one-third of that business is telecom. In the peak of 4G, that one-third moved up to about half of our networking/communications business. And the networking/communications business moved up to about 24%, 25% of our revenue.

So – and that peak occurred over approximately – it was a climb over about a three-year period. I would expect – I think that informs you in terms of 5G. Now I would expect that 5G rollout will be a little bit more of an extended period, so we won’t – probably won’t see that steep peak. And the reason that I say that is that if we’re looking at 5G, the requirements on bandwidth and lower latency, if you think about it, particularly bandwidth, you’re going to be looking at a combination of base station rollout and then antennas being used and a focus on urban centers for the initial rollout.

And I would expect it to take longer than 4G in terms of moving up from there given some of the complexity, which is a good thing, right? So we should expect to see that move up to peak be a little bit longer than we saw it in 4G. The benefit we have now is that in addition to what we do on PCB, we’ll also be bringing in that Anaren piece of the business and the Anaren wireless components being used in the base station, also in the antenna or the MIMO antennas they’re called and also then in the micro cells. So now you see component requirements are pretty much across the board as the infrastructure is built upon by the service providers.

And so what that allows in terms of revenue flow is a much longer step-up and then really very limited step-up because the service providers continue to build on that initial infrastructure. And that’s certainly what Anaren has seen with 4G that they continue to grow well past the base station peak, and that’s now naturally moving into 5G rollout as we’re starting to see that 5G roll on top of 4G. So different, different dynamics there with Anaren versus what you would see with pure PCB or with the legacy TTM situation. So hopefully, that gives you a feel of what we’re expecting.

[Sean Hannan, Needham & Company]

That’s great. And so those early pieces, where you’re getting some demand orders and shipments for, I’m assuming that’s really some of these initial field tests that are around antennas and kind of prepping for then the base station a little further down?

[Tom Edman, Chief Executive Officer]

That’s correct. I think we’re seeing some initial base stations that are really being rolled out for test – prototyping and test, and then we’re seeing antenna build-out on top of that. So again, a lot of early testing that’s going on.

[Sean Hannan, Needham & Company]

Great, okay. That’s helpful. And then next question here, aerospace and defense, I may be over-interpreting some of the very healthy momentum that you have there. Just wanted to ask, is there any acceleration in what or how you’re winning within this segment, either organically or what Anaren on its own has been doing? And is there an inherent margin opportunity here that could positively influence the model a little bit down the road, say, versus what you were thinking of kind of this combined offering with Anaren at the time that you announced that transaction? Any insight on any – either top or margin dynamics that you could share with us?

[Tom Edman, Chief Executive Officer]

Sure. Just overall, I think you’re hitting on what I – again, what I’ve been very excited to see. And you can see, of course, our program backlog on the core business has climbed, but also inclusive of Anaren, declined a little bit. And that’s despite Anaren having a tremendous shipping quarter last quarter. So are we seeing the – we aren’t seeing the impact yet, of course, of the revenue synergies that we’re expecting. But what I can say is we have absolutely a plan in combination with the RF engineering folks at Anaren to build on our revenue synergy opportunities. And if anything, there’s been solid momentum beyond even what we had expected on the revenue synergy side, which is – which just offers real – gives us reason to be optimistic down the road.

To turn into revenue, it takes – usually, it takes several years for – from initial engineering efforts. And of course, that’s generally funded engineering, but funded engineering to roll into revenue and strong revenue. So we’ll certainly continue to update you as we make progress on this. But what I can say is the initial start, very, very promising. The additional side of this is, of course, your margin related piece of it, and I can tell you, of course, the piece of the cost synergies that we’re looking at is tied to bringing some of the operational approaches of TTM onto the Anaren side, leveraging that as well as looking at the supply chain and what we can bring in-house potentially there. So there’s a – there’s some opportunities there that, again, are contemplated by our cost synergy forecast.

[Sean Hannan, Needham & Company]

Great. Thanks so much.

[Tom Edman, Chief Executive Officer]

Thank you.

[Operator]

We’ll go next to Paul Coster with JPMorgan.

[Paul Coster, JPMorgan]

Thanks. I think most of my questions have been asked and then some. But in the backlog, which is quite significant, is there anything we can discern from it outside of the SKUs towards aerospace and defense? Is it higher-margin products? Is Anaren a growing proportion of it? Any color from the backlog, please?

[Tom Edman, Chief Executive Officer]

Yes. Thanks, Paul. That is absolutely correct. The – what you’re seeing there is a combination of the Anaren – bringing Anaren into our backlog and then the aerospace and defense impact on the backlog. Those are the two biggest reasons for the year-on-year change in the backlog.

[Paul Coster, JPMorgan]

Do you generally have more visibility into Anaren-related business, i.e. is there a longer lead time on the whole process of converting to revenue?

[Tom Edman, Chief Executive Officer]

Very much so. The aerospace and defense side of our business, of course, has always had a longer visibility in terms of backlog, and that’s one of the reasons why we provide the program backlog figure for you, which stretches beyond the 90-day window that we use for backlog calculations. So absolutely, better visibility because we’re looking at a business that is predominantly in aerospace and defense. And then if you look beyond that, of course, with the early engagement model and the design, the specification capabilities that Anaren brings to TTM, even earlier engagement and then the designing of the complete stack for the customer, and that in turn gives even better visibility as orders get placed into rollout for a given program. So absolutely, it’s a positive development from a visibility standpoint for us. And also, again, I think you can see in the quarter the immediate impact on our profitability.

[Paul Coster, JPMorgan]

Last question, how broad is this 5G adoption that you’re seeing? Is it concentrated on maybe a couple of your network and telecom customers? Or is it across the whole portfolio?

[Tom Edman, Chief Executive Officer]

Yes. Of course, telecom these days, relatively limited set of customers – direct customers for us. So you’re really looking at, if you look globally, three, four customers, inclusive of ZTE out there, so the three primary global customers. And so I’d say the activity is pretty broad there across those customers.

[Paul Coster, JPMorgan]

Okay. Thank you.

[Tom Edman, Chief Executive Officer]

Thank you.

[Operator]

And with no further questions in the queue, I would like to turn the call back over to Tom Edman with any additional or closing remarks.

[Tom Edman, Chief Executive Officer]

Thank you. I’d just like to close by summarizing the points – some of the points that I made earlier. First, we delivered results for the second quarter of 2018 ahead of the guidance we had provided. We continue to execute well, and our diversification and differentiation strategies are working. We are excited by the product ramps in front of us in the second half of the year as well as the revenue synergies that I discussed arising from the integration of Anaren.

And finally, I’d just like to thank our employees, our customers and, of course, you, our investors, for your continued support. Thank you, and goodbye.

[Operator]

This does conclude today’s conference. We thank you for your participation. You may now disconnect.