Calix - Q2 2023
July 20, 2023
Transcript
Operator (participant)
Greetings, everyone, welcome to the Calix second quarter 2023 earnings conference call. At this time, all participants are in listen-only mode. A question and answer session will follow the brief prepared remarks. If anyone should require operator assistance during the conference, please press star zero on your telephone keypad. As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Jim Fanucchi, Vice President of Investor Relations. Sir, please go ahead.
Jim Fanucchi (VP of Investor Relations)
Thank you, Rob. Good morning, everyone. Thank you for joining our second quarter 2023 earnings call. Today on the call, we have President and CEO, Michael Weening, and Chief Financial Officer, Cory Sindelar. As a reminder, yesterday after the market closed, Calix issued a news release, which was furnished on a Form 8-K, along with our stockholder letter, which was also posted in the investor relations section of the Calix website. Today's conference call will be available for webcast replay in the investor relations section of our website. Before I turn the call over to Michael for his opening remarks, I want to remind everyone on this call, we will refer to forward-looking statements, including all statements the company will make about its future financial and operating performance, growth, strategy, and market outlook. Actual results may differ materially from those contemplated by these forward-looking statements.
Factors that could cause actual results and trends to differ materially are set forth in the second quarter 2023 letter to stockholders and in the annual and quarterly reports filed with the SEC. Calix assumes no obligation to update any forward-looking statements, which speak only as of their respective dates. In this call, we will discuss both GAAP and non-GAAP financial measures. A reconciliation of GAAP to non-GAAP measures is included in the second quarter 2023 letter to stockholders. Unless otherwise stated, all financial information referenced in this call will be non-GAAP. With that, it is my pleasure to turn the call over to Michael. Michael, please go ahead.
Michael Weening (President and CEO)
Thank you, Jim. In the second quarter of 2023, the Calix team continued our track record of improvement in our financial performance across the four measurable objectives that we have outlined for investors. First, deliberate revenue growth continued as we achieved our ninth consecutive quarter of growth while delivering record revenue. Demand remains strong as customers transform their business and communities by leveraging the Calix platform, managed services, and our customer success teams. Second, gross margin expansion continued with our fourth consecutive quarter of margin growth. Third, we executed disciplined operating expense management as we invested fulsomely to take advantage of this once in a generation growth opportunity ahead. Fourth, ongoing predictability continued as we met or exceeded the guidance that we laid out for investors in April.
In the second quarter, I continued to invest a significant amount of time meeting with customers, prospects, partners, and team members. The feedback remains positive as we continue adding broadband service providers of all sizes that are strategically aligned with Calix. As we noted in our investor letter, these Calix-partnered BSPs continue to attract significant private and public investment to grow. They are not seeing the impact of tightening credit markets, unlike the debt-laden legacy providers who are pulling back. For example, last week, we announced that ALLO Communications, who has an end-to-end partnership with Calix, secured $650 million in sustainable financing, also known as a green bond, to grow.
During the second quarter, we also hit a milestone with our 1,000th customer starting their platform journey with Calix, including 16 new strategically aligned BSPs, who chose our platform for the first time to meet their long-term goals. 20 new cloud customers signed on to deploy one or more of our clouds, and 15 BSPs launched their first managed service or services with the support of the Calix team. Last, but certainly not least, our culture continued to embrace the better, never best mindset. At all times, our team is constantly asking, "How can we improve?" During our advisory board sessions, our customers and our product, sales, marketing, and customer success teams collaborate on how to supercharge BSP success. Internally, we encourage Calix team members to challenge the norm and continue our journey of nonstop improvement.
This approach has built our purpose-driven culture, which contributes to the success of our customers, partners, and team members, is a key driver of why people want to join Calix. We continue to be recognized as one of the best places to work in any industry. In the second quarter, Calix was ranked number one on the top 50 list for most inspiring places to work in North America. In addition, we achieved our third great place to work certification, noting the strength of a remote culture as a driver of customer success and corporate growth. Our Chief Product Officer, Shane Eleniak, was named a top 20 CPO worldwide, we were awarded number one best place to work in the entire Bay Area.
It is a great time to be part of the Calix team, as we continue to embrace the notion of constant improvement to our better, never best mindset. Before I close, I'll turn it over to Cory to expand on the team's stellar performance in the second quarter. Cory?
Cory Sindelar (CFO)
Thank you, Michael. The Calix team executed well across the board. We delivered our ninth consecutive quarter of sequential revenue growth, with record quarterly revenue coming in at $261 million, which was at the high end of our guidance range. We also saw our fourth consecutive quarter of gross margin expansion, with non-GAAP gross margin of 52.8% at the high end of our guidance range, an increase of 100 basis points from last quarter. This improvement in gross margin was due to the continued expansion of our platform and managed services, plus a small product shift from Revenue EDGE to Intelligent Access EDGE, an easing of the expedite and excess prices paid for components on the secondary market.
As we have said consistently, our platform model provides us unique insights, starting with subscriber demand, which gets translated all the way back to component purchase commitments with our suppliers. During the second quarter, our purchase commitments decreased by $52 million from first quarter to $254 million. This is down $116 million from a high of $370 million in the third quarter of 2022. This is another advantage of our low SKU count platform model, because these components are fundable across multiple product SKUs. Our component inventory on hand and at suppliers, combined with our finished goods, provides us with the basis to say that we have ended our pandemic-induced supply chain crisis.
Our product and supply chain teams now have the time to expand their focus on subscriber demand analysis, supplier optimization, process improvements, and cost reductions. Silicon lead times are still extended, but are improving. As they improve, we will be able to normalize our inventory and supplier commitments. Over the next six quarters, we expect to see component at suppliers and on-hand to decrease, and our inventory turns to return to the middle of our long-term financial model of three to four turns.
Based on our second quarter performance and the expected sequential increase in third quarter revenue and gross margin, we now believe our annual growth for 2023 will be close to 20%, and our annual non-GAAP gross margin expansion will be between 200 and 250 basis points, an increase from the 100 to 200 basis points we had noted previously. With our accelerating gross margin expansion and disciplined OpEx investments, you will see further operating income leverage. When you combine the increased operating leverage with our improved supplier commitments and inventory levels, we will be able to generate significantly higher levels of free cash flow and build on our ever-strengthening balance sheet. Back to you, Michael.
Michael Weening (President and CEO)
Thank you, Cory. In closing, I remain very excited about the growth opportunity ahead for Calix and our strategically aligned customers. They are leveraging our end-to-end platform, clouds, and growing ecosystem of managed services to deliver offerings across residential, business, education, and the communities they serve, growing market share and delivering high margins for years to come. Backed by our unmatched financial strength, growing cash balance, and a pristine balance sheet, we will continue to invest in our business to enable our customers to win at a faster and faster pace. Jim, let's open the call for questions. Operator, at this time, please open the call for questions.
Operator (participant)
Thank you. We'll now be conducting a question and answer session. If you'd like to ask a question at this time, please press star one from your telephone keypad, and a confirmation tone will indicate your line is in the question queue. You may press star two if you'd like to withdraw your question from the queue. For participants that are using speaker equipment, it may be necessary to pick up your handset before pressing the star keys. One moment please, while we poll for questions. Thank you. Thank you. Our first question comes from the line of George Notter with Jefferies. Please proceed with your question.
George Notter (Managing Director and Equity Research of Communications Equipment)
Hi, guys. Thanks very much. I guess I wanted to start by asking about the gross margin improvement. You know, obviously, the supply chain crunch is easing here. That's terrific. If I go back and I look at, you know, last year, there were points last year where you guys were talking about, you know, 300-600 basis points of, you know, headwind on gross margins because of the supply chain. I guess I'm wondering, you know, obviously, you know, there's been a big build on inventory. You're still consuming that high-priced inventory. I guess what I'm wondering now is, could you give us an update on that number? You know, how much of a headwind are you still seeing in the gross margin line? Then I have another question also.
Cory Sindelar (CFO)
Sure, George. Consistent with what we have said in the past, you know, there were three large buckets of costs associated with the pandemic-induced supply chain challenges. The first bucket of those costs, and the largest bucket, had to do with price increases. George, those price increases aren't gonna roll back. The way that those will get unwound is through future product designs, where we go out to bid, and you try to get the better price for the new design. They aren't gonna roll back prices on the existing design. That's still with us, and is likely to stay with us for some time to come. The second category is around those expedite costs and going out into the spot market, and you're starting to see those things roll off.
We'll see that trend here for the next couple of quarters as that finishes going through the P&L. Then the third category of costs is all around the logistics and trade costs. As I said before, those all normalized back in the first quarter, meaning that had already gone back to pre-pandemic, not only pricing, but transit times. You know, we're making good progress on normalizing where we're at with the supply chain. The only thing that really still left is the lead times on silicon, and they're improving each quarter. For me to kind of tell you how much of that translates into still an overhead on our P&L, you know, I don't mind.
I'm not gonna probably quantify it for you, George, but you can think that all the logistics costs are already normalized back in the P&L, so you've already got the benefit of that. The second category is starting to come back through the P&L, and the third, you're not gonna get. I just want to amplify one point, George, which is on the front end, where he talked about new product creation. In this regard, because of our platform model, we are uniquely advantaged because of the fact that when If you look at old Calix, it would generally take us to put out certain SKUs, anywhere from two to five years. It's a huge amount of custom integration, and it was like building every product was basically building an entirely new stack.
When you have a platform that's abstracted from all of the underlying appliances that support it, what you gain is this opportunity where we can actually quick turn products. While, to Cory's point, it's gonna take some time, you're uniquely advantaged. You saw this, which I want to call out in the investor level letter, that we actually now got to below 260 SKUs, which is frankly unheard of in the industry, and surprised me that the team was able to get there so quick from, I believe it was 292 last quarter. That just shows that, you know, this ongoing improvement that the team is driving to will yield significant advantages in the future. I mean, when you have fungibility across the components, it is, you know, wickedly competitive.
George Notter (Managing Director and Equity Research of Communications Equipment)
Got it. That's helpful. And then the follow-on here was just on the price increase. If I remember correctly, you guys took a price increase back in the springtime of last year. You know, I know your lead times at one point were, you know, longer than a year. So I'm assuming that part of the gross margin benefit here is, you know, fully biting down into, you know, product sales that were repriced higher. Is that part of the narrative here? And then is that fully in the model at this point, or is there more to go?
Cory Sindelar (CFO)
George, that's kinda where it gets convoluted because there was another price increase on the silicon components put through in January of this year, and that's eating into some of the favorability that we're getting on the PPVs or the excess of prices. That's kind of where they're offsetting the two. That's kind of why, when we said at the very beginning of the year, we thought that the supply chain would have a neutral effect to our P&L, and that the margin expansion was purely related to software expansion. Now we're seeing a point where the excess price components are rolling off, and it's giving us a little bit of a bump.
As well as I said that in our letter, we get a little bit of benefit from a product shift going on, you know, from Revenue EDGE to Intelligent Access Edge. That also helped within the quarter to give us a little bit better margin.
George Notter (Managing Director and Equity Research of Communications Equipment)
Got it. Okay, great. I'll pass it on. Thanks very much, guys.
Cory Sindelar (CFO)
Thanks, George.
Operator (participant)
Our next question is from the line of Ryan Koontz with Needham & Company. Please proceed with your question.
Ryan Koontz (Managing Director and Senior Equity Research Analyst)
Thanks for the question. I wanted to ask about your commentary in the letter on the softness in the medium customers. I wonder if you could expand on that. Is this mostly U.S.-type customers? What sort of downward revisions on build plan in general are you seeing across that segment of customers? Thanks.
Cory Sindelar (CFO)
Yeah, Ryan, no problem. you know, we consider the most valuable aspect of our business model is the continuous, predictable, sequential growth. you know, this year we're gonna grow by some 20% over last year, and we have not changed our long-term financial model of 10%-15%. As I stated in the prepared remarks, we have unparalleled visibility from the subscriber demand, all the way back through the component suppliers. This has enabled us to, you know, to continue our sequential growth throughout the pandemic. As we continue to work with our customers to help them grow their subscriber demand and manage their inventories, you're gonna see anomalies from quarter-to-quarter.
For example, in this quarter, you see the continued strength of our small customers because they have relatively balanced inventories, while seeing a slight decline in shipments to the medium and large customers. Again, this is a result of the unparalleled visibility into the subscriber demand that we have. The most important point is that the subscriber demand continues to grow every day. That's, you know, that's what we're seeing in terms of the strength of our entire customer base.
Ryan Koontz (Managing Director and Senior Equity Research Analyst)
That's great. Quick follow-up, if I could, on the shift from Revenue EDGE to Intelligent Access EDGE. Is this more supply chain driven or kind of traditional build cycle seasonality? I assume you've been expecting this. Can you maybe give some commentary on that shift in revenue?
Cory Sindelar (CFO)
Yeah, you know, as we continue to work with our customers around their inventory balancing, you know, where they got ahead of themselves a little bit on the Revenue EDGE side. That's just to continue kind of working off of that. We are also moving into the summer building period, and so obviously, that drives more access product demand. That's what you're seeing, a little bit of working off of inventories as they're getting prepared for their network builds this summer.
Michael Weening (President and CEO)
Ryan, just like last quarter, when everyone was going, "What was going on between large and these kind of things?" What we stated in last quarter, and we will restate again this quarter, and we will state again in Q3 and Q4, is that everything that we do from a shipment point of view is planned. The reason why is because we're unique in this industry, in that we actually work really closely with their customers, not only around what their network builds are, but also how fast they build those networks, and then we stand beside them and help them drive subscriber demand. As we go into Q3 and Q4 in the second half, everything that we're going to be doing is very planned, and there are no surprises.
It's actually us deciding, as a corporation and as a leadership team, what we ship to, ship to whom, based upon a partnership with those customers, whether they're small customers, medium, or large.
Ryan Koontz (Managing Director and Senior Equity Research Analyst)
Super helpful.
Michael Weening (President and CEO)
Predictable.
Ryan Koontz (Managing Director and Senior Equity Research Analyst)
Thanks for that. Yep, I'll pass it on.
Michael Weening (President and CEO)
Thanks, Ryan.
Operator (participant)
Our next question is from the line of Christian Schwab with Craig-Hallum. Please proceed with your question.
Christian Schwab (Managing Director and Senior Research Analyst)
Great, thanks. I just want to follow up on George's question, since we did, you know, pull in some of the gross margin improvement into this calendar year from our original expectations, based on the things already described. As we look to next calendar year, Cory, what should we be thinking about our gross margin improvement, year-over-year?
Cory Sindelar (CFO)
Yeah, thanks, Christian. As it relates to next year, we haven't given any kind of guidance for 2024. I would fall back to our long-term financial model, where we've targeted, you know, 100 basis points-200 basis points of margin expansion, and we see that still applying to 2024 as we sit here today.
Christian Schwab (Managing Director and Senior Research Analyst)
Okay, great. As, you know, some of the BEAD money looks like it's going to be, you know, awarded and being spent, do you guys anticipate you guys will benefit at all, you know, in more than likely in calendar 2024 from some of this government stimulus? How should we be thinking about that as it impacts Calix? I know that we're not out there selling speeds and feeds, but, and competing that way. Do you anticipate that to be, you know, wind at your back, or how should we be thinking about that?
Michael Weening (President and CEO)
Yeah, great question, Christian. I would say, you know, the way we've been answering that question consistently over the last, I would say, four to six quarters, remains the same, which is, you know, there is already a big bonfire going on, which is our customers are winning in the market. They are taking market share from legacy service providers and growing at a rapid rate. For example, as I, you know, as I shared, ALLO getting $650 million through a green bond, which, you know, is enabled because of the fact that we have a unique platform that is greener than anything else out there by, I don't know, 50%-75%. That means that when the speed money comes out, they'll also be well-positioned to win a significant amount of it.
As it rolls out over the next 10 years, think of it like gas on a bonfire. The bonfire is already monstrous, where our customers are taking share, and of course, this will, you know, make them move faster and start building out into areas where the economics didn't make sense, but government stimulus will help them. For sure, there's a long-term benefit, and it's going to go over the next 10 years. Cory, any comments?
Cory Sindelar (CFO)
Yeah. Christian, our current view is that we ought to start seeing some of that late 2024 and as we move into 2025.
Christian Schwab (Managing Director and Senior Research Analyst)
Okay, great. Kind of what we're hearing from others. Spectacular. No other questions. Thanks, guys.
Michael Weening (President and CEO)
Thanks, Christian.
Operator (participant)
Our next question is from the line of Samik Chatterjee with JPMorgan. Please proceed with your questions.
Samik Chatterjee (Executive Director and Hardware Senior Analyst)
Yep. Hi, thank you for taking my question. I have a couple, and maybe for the first one, if I can start with the growth forecast for the full year of 20%, roughly, and obviously, these are very strong numbers and rate up to your any companies we can compare you to. Still, from a high level, if I can sort of ask you, when we look at the 20% rate up to a 28% growth or a 26% growth the prior year, I mean, in your mind, what is sort of that big, or what is that change really being driven by? Is it the macro? Is it some of the Revenue EDGE sort of pulled forward that you talked about?
Like, when you think about the big buckets here in terms of that growth stepping down from a 28% to a 20%, how are you sort of thinking about what's driving that?
Michael Weening (President and CEO)
There's 2 elements to it. The first, I'm gonna take the macro discussion head-on. We do not see any macro concerns in any way, shape, or form. I've stated this over and over again, if actually a macro issue did pop up, for example, like a recession, this would be advantageous to our customers, and I can go into depth on why. It's simply because of the fact that, you know, if you think about what somebody who is affluent, for example, does with their disposable income, spend a lot of time at the country club, and if their disposable income declines, then what are they gonna do? They're actually gonna hunker down in their house, and what is centered to everything that they do, whether it's work, play, education, is broadband.
You know, if there is some kind of macro trend, you know, swinging around, actually, we think it's advantageous, but we don't see that. As I said, I was on the road all of Q2, all of Q1, and our customers don't have this concern. With regards to what's going on the growth side, as Cory stated in his remarks, we see us getting closer to 20% for the year. What you're seeing is a shift in our business model, which is we're moving to a sequentially growing company. What you're going to see is this constant sequential growth. We've already done it nine quarters in a row, and that means that there's gonna be a smoothing out of our revenue, and we expect that that's gonna continue through 2024 and 2025.
Where instead of where you have the lumpiness that is inherent in this, in the business this year, that lumpiness goes away in 2024. We're kinda just eliminating the old business model, is what I would state. Cory, anything to add on top of that?
Cory Sindelar (CFO)
Michael, I think the decline in revenue growth from, say, last year at 28% to where we're seeing today at 20%, has a lot to do with us, the supply chain-induced inventory challenges. When you had lead times going to 52 weeks, your customers are gonna buy inventory to ensure they can complete their builds. As the lead times start coming back in, they just don't need to carry as much inventory. We're going through this period of time where our customers are adjusting their inventories, and we're working with them to rebalance them so they have the right materials that they need to finish their builds. We're continuing to work through it, but the great news is, they're continuing to grow. Every day, they continue to grow. They aren't slowing down their builds.
They're going as fast as they can in an environment where there's constrained labor and permitting issues and so forth, but they are growing every day. We will continue to grow every day, and that's why we're very confident in the sequential revenue growth that we talk about.
Samik Chatterjee (Executive Director and Hardware Senior Analyst)
Okay. And thanks for that. For my follow-up, if I can ask you mentioned 15 new customers adopting managed services. Sort of what are you seeing from those customers in relation to the type of services they are sort of adopting first? More curious to hear, like, how much of that is like a retail, like Arlo Secure, versus like a SmartTown, which seems to us to be a more of wholesale offering? How do those sort of really play out in your revenue model as well, in terms of how you monetize that with the BSP customer?
Michael Weening (President and CEO)
Well, that's a great question. What we generally see is the initial adoption is, I expand beyond managed Wi-Fi, where I'm adding ProtectIQ and ExperienceIQ, I'm getting the virus, malware app. Then, you know, they expand out their smart home strategy. Really, when you think about the Arlo and the different components, that's where they actually go to market with a number of them, that allow them to, you know, finish out the smart home. Then what they start thinking about is, okay, now that I've got the smart home nailed, how do I add SmartBiz, SmartTown, all the different components?
A good example would be, we're hearing a lot of customers actually talking about, "I want to become an MVNO." An MVNO is a fascinating situation in this market because the simple reality is that in most cases, becoming an MVNO as a broadband provider, is only a discounting strategy. That's it. Why do you actually bundle your cell phone with a broadband package? It's because of the fact that you want a discount, unless you're a Calix partner. In a Calix partner scenario, it becomes all about experience, and that becomes something that's really interesting and important for them with SmartTown.
You can now take those devices that would be roaming on a mobile network, and if you're living in rural America, where 5G coverage is basically nonexistent, if you actually put a fiber-backed SmartTown with ubiquitous Wi-Fi coverage across the town, that MVNOs experience now becomes incredible because you're getting great, you know, Wi-Fi calling, you're getting great speeds to your device, regardless of where you are in the town. I guess it's a long way of saying, and I'll leave the revenue component to Cory, it's a long way of saying is that there is this maturity continuum that we see our customers marching down, which starts at one service, then goes to two, three, four, and forward. Cory, if you comment on the revenue implications.
Cory Sindelar (CFO)
What I would add is to Michael's comments, is that it's a portfolio approach, and what we're finding is the more items that we put into that portfolio, it has the effect of customers wanting to adopt more as they start pulling through more of the items. We saw some good traction with our SmartBiz offering in the, in the quarter. You know, that came out at the beginning of the year, we're seeing strong traction there. As well, likewise, very strong traction with Bark. Those are newer offerings in the marketplace, we're seeing strong traction. In terms of the value to Calix, as you know, we've talked about it representing, you know, all monetizing on subscriber basis....
Over the long term, we think we could move somewhere between $1 and $10 per user, per month, per subscriber per month. These, these new offerings, albeit maybe larger amounts, are going to be applied to an attach rate that'll just simply help us move that average from $1 closer to the $10 mark.
Michael Weening (President and CEO)
Yeah, when you think about it from a growth, what is growth? Growth is actually two components, revenue and margin. These will be significant contributors to what Cory's calling out, is that 100 to 200 basis points in our long-term model. Those will be significant contributors to it, and you saw some of the strength in that. You know, it wasn't just supply chain this quarter because of the strength of our managed services that you saw, you know, contribution to margin.
Samik Chatterjee (Executive Director and Hardware Senior Analyst)
Yep. Okay, great. Thank you. Thanks for the responses.
Michael Weening (President and CEO)
Thank you, Rob.
Operator (participant)
Our next question is from the line of Mike Genovese with Rosenblatt Securities. Please proceed with your questions.
Mike Genovese (Managing Director and Senior Research Analyst)
Great. Thanks a lot. First of all, just as a clarification, can you give us the % of current RPOs?
Cory Sindelar (CFO)
I think it's somewhere around 37%.
Mike Genovese (Managing Director and Senior Research Analyst)
Mm-hmm. Yep, just on that subject, can just, you know, can you tell us more about what we should... You know, what does RPOs tell us, right? I mean, the sequential growth of RPOs the last two quarters has been a little bit weaker, and there's been this mix shift towards current, away from long term. Since we don't exactly know what's in RPOs, can you just help us understand what's going on there?
Michael Weening (President and CEO)
Corey, I think you start by explaining what's in RPOs. We've explained it every quarter, right?
Cory Sindelar (CFO)
Yeah. Mike, it's any long-term contract that we have with the customer where they're making a commitment to us. What does that mean? That means it's the clouds. It means some of the managed services where they enter into a minimum commitment. It's our support contracts, maintenance contracts, those kinds of things. Anything that has a commitment to it. What's not in there? Hardware is not in there. Anything on a usage model. You take something like a brand new service that we bring into the marketplace. One of the things we try to do is lower the barrier to sale. The easiest way to take a new offering that a customer has no experience with, is to offer it on a usage basis. Sell one, we'll take some revenue on it.
If not, no problem. What we find over time is that they get comfortable with these new offerings, and what they end up doing is saying, "All right, now I better understand how I can sell this, what my attach rate is. I'm willing to make a long-term commitment to you." They come back around, and we'll sign a three-year agreement. Of course, they're trading this commitment for a better price. Okay? That's what we see there. In the meantime, the newer services are not in the RPO number because they're more of a usage model. Software licenses are not in the usage model because those are all recognized upfront. The third thing is really of the true ups. A lot of these engagements, we are, you know, billing on a monthly basis.
To the extent that they have more subscribers than they committed to, we're gonna recognize that in the period, and that's not in the RPO number. That's a summary of what's in and not in our RPO number.
Mike Genovese (Managing Director and Senior Research Analyst)
Okay. Just the current from long term?
Cory Sindelar (CFO)
Yeah.
Mike Genovese (Managing Director and Senior Research Analyst)
Like, what's driving that? You know, that, you know, the fact that we're getting more sort of current RPOs the last couple of quarters, but not as much growth in long term.
Cory Sindelar (CFO)
That's just a matter of timing of when contracts come up for renewal, where they're gonna continue to work their way over, and the renewals will go back and replenish the duration on it. I think that's just a timing statement of when contracts are where they're at. At the end of the day, understand we're a billion-dollar startup, and inherent in that is that we are still learning. If you look at our trends, you'll see that we grow stronger in some quarters, lower in the others, and it's just inherently lumpy. What I can tell you is that we expect our RPO to grow every quarter for the foreseeable future.
Mike Genovese (Managing Director and Senior Research Analyst)
Okay, that's great. That's a very helpful color. Then just my other question, you know, could you explain a little bit more about the green bonds? You know, I think you guys have a, you know, part of your business is trying to help your customers get funding, whether it's for BEAD or other stimulus programs or now for these green funding. Just give us more background on how that works. You know, obviously, $650 million to ALLO is, you know, very meaningful. You know, as an overall, sort of, as you look at your customer base overall, how significant do you think this kind of funding could be?
Cory Sindelar (CFO)
In the case of a green bond, what we assisted them with is that if you actually look at the platform model and how we help a company like ALLO build a business, is through a radically different architecture. If you, and in the end, the same architecture is the one that a Verizon has deployed, where they would have been very transparent for five years, that it drives an 80% reduction in operating costs every month. That comes from the fact that if you go and build a traditional network, you're buying four or five different boxes to build a network and operate it, versus Calix.
Michael Weening (President and CEO)
... who has collapsed or consolidated all of those functions, and the functions being, you know, subscriber-facing, provider edge capabilities, the BNG, access, aggregation, CALEA, all these different capabilities, which all had different boxes, onto a single appliance with our platform on top of it. Logically, going from four or five boxes down to a single system is a massive increase in green. Then you take on top of it that when you think about Wi-Fi 5, you know, you would see all these virus-like pods popping up all over the place on Wi-Fi 5 systems because the Wi-Fi 5 wouldn't actually reach well across a house, so you had to put extenders all over the place, right?
With Wi-Fi 6 and the architecture that we built, where we optimize power and all the different capabilities, less than 7% of the homes that we support actually require a second system. You think about that, I can go and buy, you know, something from Amazon, for example, that has, you know, three different boxes that I put around my house. That's three different consumers of power versus a single Calix system that's optimized with our AI engines and our cloud, and allows you to actually run a single system. Inherently, that's a, you know, 70% more power efficient from a Wi-Fi point of view.
All of these components came together, and then on top of it, because we are so incredibly efficient in how we stop truck rolls to support customers through the policy management and all the insights and analytics that we give a service provider, which is unheralded in the industry, it's never been done before at this level. You know, the vast majority of customers are now stopping things remotely, where just a few years ago, they were constantly rolling a truck. In fact, we are in the process of standing up a customer right now, and their biggest negative on their margins every single day is the fact that they didn't have those analytics and insights to actually drive down truck rolls.
They were constantly with hair on fire because everybody's running from customer to customer to support it. That's another green example on how we did it. With regards to them pursuing that funding, which was obviously a public market funding, we were absolutely involved. In fact, Martha Galley, who has been promoted as the EVP of all the ESG work that we're doing, she is actually leading this effort with our customers to support them on as they go after these type of financial vehicles, or as they put in, you know, their funding requests into governments and all those things, to really highlight how this transformative business model completely changes how they do business from an operating cost, from an environmental impact point of view, and then also that leads to higher margins and great growth.
I hope that a little bit of a long answer to it, but it's an important topic, and thanks for asking.
Mike Genovese (Managing Director and Senior Research Analyst)
Great. Thanks a lot, Michael.
Michael Weening (President and CEO)
No, thanks for the question. Great one.
Operator (participant)
Our next question is from the line of Timothy Savageaux with Northland Capital Markets. Please proceed with your question.
Timothy Savageaux (Managing Director and Senior Research Analyst)
Hey, good morning, congrats on another strong quarter.
Michael Weening (President and CEO)
Thanks, Tim.
Timothy Savageaux (Managing Director and Senior Research Analyst)
You're welcome. My question, I'm going to focus back on gross margins, because I think that's what kind of jumps off the page in this report. Cory, you seem to mention three factors, and I'm talking both about the quarter and the outlook, where you're looking for, you know, ostensibly, you know, 50-plus basis point increases through the back half of the year. You seem to kind of break it down into three factors, which is some element of pricing, the software platform shift, and a third one that's not coming to my mind right now, but I'm sure you're going to remember. I wonder if you can assess, you know, as you look at the quarter and the outlook, you know, how meaningful each of those factors might be.
Again, both for the quarter and as you look in the second half, and then I have a follow-up from that.
Michael Weening (President and CEO)
Sure. Sure, Tim. The third one you're talking about was the supply chain, spot market purchases, the excessive pricing and expedites. Those three factors, again, I'm not going to break down and quantify it for you, but they are ranked in the letter based on impact, size of impact. Number one is continued selling of our software and managed services. That's obviously driving, you know, the first and foremost, and it's always present, right? That growth in the software is just unrelenting. It's just continuing every day. You're going to see that continue. Both in the second quarter, first quarter, and then obviously into the third quarter, we still think the access business is going to be strong. Third quarter, primarily, is because they're finishing up their network builds.
Just like you saw a year ago, with a very, very strong access print for Q3 a year ago, I suspect we're going to see that again here in the third quarter. That's going to help with our margins. Likewise, the third one is the easing of our purchase price commitments. As you know, there's a delayed effect from it. We haven't had a material, you know, PPV charge, you know, entered into a new one in 90 days. Consequently, it's just a matter of time for the commitments that we entered into previously to work their way through the P&L. I think you're going to see that for the next couple of quarters, in addition to the benefit that you saw in the second quarter.
Timothy Savageaux (Managing Director and Senior Research Analyst)
Got it. May, you know, possibly somewhat related to that, I think you made a comment in the letter about, you know, at least the strength that you saw in Q1, among your, you know, one large carrier customer maintained in Q2. As we look into the second half, and you mentioned kind of the summer builds among the smaller BSPs. From a customer mix standpoint, you know, small through large carrier, are you anticipating any major changes there, either in Q3 or Q4? Would that have any impact on the direction of gross margins?
Michael Weening (President and CEO)
Great, great question, Tim. You know, I don't think you're gonna see material movements in the customer segment pieces. That customer that was strong in the first quarter, that was strong in the second quarter, is gonna be strong again in the third quarter, we know that. You've seen even with that strength, our margins are continuing to improve. It could move around a couple percentage points. That's inherently, you know, part of the business with those medium and large customers, but it's not gonna move around materially. I'm, you know, Tim, I'm really excited about the margin growth on the go forward for 1 simple reason, and that's because we're actually getting to this pivot point in the broadband industry, which think of it like a big freight train coming, and that freight train is commoditization.
The first stage of a broadband of the that we're in the broadband industry, is that whether I'm overbuilding a DSL network or I'm a cable company overbuilding myself, or I'm a net new broadband provider. During that network phase, speed as a technology works well, and it allows me to get to between 20% and 30% market share is the average, usually low 20s, but I can get to 20%-30% market share. In that phase where I'm building up my network, you know, I'm really focused on getting that share, and I'm not necessarily getting it from speed. I'm actually also getting a significant component of that initial market share from dissatisfaction with the existing incumbent.
The second phase of broadband, which is what we've invested $1.2 billion and growing into, and 12 years of hard work to prepare for, is that speed will become a commodity and not a differentiator, especially because most markets will have two fast broadband providers. If you have two fast broadband providers, you need to look no farther than the mobile market to see the decimation of margin. This, you know, my market share is being stuck between mobile carriers, and they can't move it unless they throw everything in the kitchen sink and a toaster and everything else into it to try and convince them to come over. There's no differentiation.
Which is what we've built our company for, to actually address this in this next stage, which is broadband providers on top of a highly efficient network, need to differentiate with their subscribers, whether they're business subscribers, education, or consumers, and build out a go-to-market where they have a really high NPS. They've got great customer loyalty, and that loyalty drives incremental services, $2, $5, $2, $10, whatever it is I'm going to drive into that subscriber and so that I can actually win new customers. For us, that is the huge opportunity as we go forward on the margin side, where every time they add a new service, our margins go up because those are high-yield services.
I'm really excited looking into second half and especially into 2024, because we reach this maturity point where they get their 20%-30% market share, and they're now turning to Calix and saying, "Okay, now how do I get to 50? How do I get to 60?" In fact, one service provider I was just talking to 2 days ago, the CEO said, "I got to 51. Now I want to figure out how do I get to 62% market share." Which in a legacy model is bluntly unheard of, unless you're a monopoly. That's where as we go forward, this big margin shift comes.
Because of the fact that our customers work with us, through our customer success army, sitting beside them, building out and understanding the microsegments with regards to how do I market, what are the social channels I want to use, and then how to find, you know, what customers actually are propensity to buy. We're right beside them doing that every single day. We are the masters of our own fate because of the fact that we will help them drive revenue, and we will help them drive margin. They will succeed, and then in turn, we will succeed. While we're talking about some of those component parts of it, I think, you know, it's important just to pull up to a higher level to understand that, you know, the opportunity ahead is massive, and we have the unique insights to actually make it happen.
Timothy Savageaux (Managing Director and Senior Research Analyst)
Great. Appreciate it. Got bonfire and freight train there. A couple of pretty good analogies.
Michael Weening (President and CEO)
Thank you, Tim. Have a good one.
Operator (participant)
Our next question comes from the line of Greg Mesniaeff with WestPark Capital. Please proceed with your questions.
Greg Mesniaeff (Senior Technology Analyst)
Yes, thank you for taking my question. You referenced headcount increases during the last two quarters. I guess that's been driving OpEx growth to pretty much the top end of your guidance ranges for the last two quarters. In what area was the headcount increase concentrated? Was it R&D, sales and marketing? My second part of my question is, are you expecting that trend to continue in the second half of this year, and how will that impact OpEx levels? Thanks.
Cory Sindelar (CFO)
Greg, let me kind of comment on kind of where we're at with the financial model, then I'll let Michael talk to you about where we're making those investments. We're right on our model, and that's the good news, is we've been on our model now for a couple of quarters. Just to recap it, we said that sales and marketing will be between 18% and 20%, and in the quarter, we are at 19%. R&D, we said, would be at 29% of product, of gross profit, and we're a little bit above that. For G&A, we said we'd be at 7% of revenue, and we're a little below it. When you put it all together, we're right about exactly where we wanna be.
We've said repeatedly, we're gonna continue to invest fulsomely to our model, and that will continue in the second half of this year. As it relates to where are we making those investments, Michael, why don't you share where those investments are being made?
Michael Weening (President and CEO)
I'm gonna reiterate, this notion that we're investing fulsomely, you know, an homage to actually Carl, because he loves that word. We're at the top levels with regards to investment, and the reason why is because there's a massive opportunity ahead, right? We don't see a slowdown. We see our customers growing at a faster rate. They need our help. There are all kinds of new market opportunities for us to expand into, and we're super excited on, you know, we're just getting it. As Cory said, we're a $1 billion startup. Who has that opportunity, where you're so excited that you're just getting started when you've moved from $400 million-$1 billion? That's how we feel. With regards to where we're investing, across the board. We will get scalability of G&A, right?
Which we are, as we continue to make significant investments in IT systems and all those capabilities. Even then, you know, if I look at our back end with regards to how we built out our IT systems, our leveraging Salesforce and Oracle Financials and all those different components, I would put us best of breed, right? Able to leverage that. Then in sales and marketing, in everything that we're doing on the product side, you're gonna continue to see us to move at the top pace.
One of the great things is that with all the awards that our culture is winning, with all the ways that our customers, who are incredibly inspiring, and in fact, that's one of the biggest things we use to attract talent, is we actually talk about the purpose of our customers, is they change communities, and they drive education, and they help underprivileged children, all these different component parts. We really help them do that, and that's allowing us to actually meet the model, which we struggled with for a long time. You're gonna see us, you know, investing fulsomely.
Greg Mesniaeff (Senior Technology Analyst)
Thank you for that.
Michael Weening (President and CEO)
Thanks, Greg.
Operator (participant)
Thank you. Our next question is from the line of Scott Searle with Roth. Please proceed with your questions.
Scott Searle (Managing Director and Senior Research Analyst)
Hey, good morning. Nice quarter. Thanks for taking my questions. Hey, guys, I wanted to go back to the managed services side of the equation. Initially or historically, right, you had talked about a curated offering or suite of around 10 services. You're moving beyond that, but I was wondering if you could give us an update about what's going on in the pipeline? What sort of opportunities are you starting to explore? You know, if we look out 18 months from now, is there a number of services that you would expect to be offering at that point in time? And maybe coupling in with that, I know you talked about that $1 going to $10.
When do you expect to see some of the initial, more aggressive customers starting to get to the upper end of that range and beyond it? I have a couple follow-ups.
Michael Weening (President and CEO)
The way that we actually build our product is that now that the platform's in place, it's a very collaborative process with our customers. We actually run, I don't know if it's five or six advisory boards at this point. Those advisory boards are, one is leadership advisory, where myself and a number of executives work with CEOs, COOs, and general managers around what are the business opportunities for them. We have advisory boards around operations, marketing, support, field service, all these different insights to identify what should we do with our platform. On one side is the simplify side, which is around whether new capabilities through automation and different elements that we should do, Operations Cloud being a good example, and end-to-end provisioning to drive up margins in the broadband service provider.
The excite side, which is, what are those new managed services? you know, what are we gonna do on the go forward? If you look at the two managed services that are launched, most recently, which is SmartTown and SmartBiz, those actually came from customers. SmartTown came from a customer, and you can watch ConneXions last year or two years ago, where Brad Moline and I were on stage, and he talked about how he called me to identify that opportunity. We're really proud of the fact that that's rolling out in gangbusters. Small business actually came from about 10 or 15 customers who were pushing on us really hard, saying enterprise technology that's delivered to the large customers does not scale down. Where do we go next year?
That actually comes down to our collaborations with customers. For example, you can see how in the initial stage of SmartBiz, it's actually just about a small business, a baker, a small, you know, a travel agency, whatever, the corner store, right? Where they get wireless backup from us, they get all these different component parts, and it's fully managed, so it's really high margin with no truck rolls for the service provider. Where do the service providers want us to go? Well, they actually, now that they understand what's possible, they see things like, for example, eliminating SD-WANs. SD-WAN is purchased by, it's very expensive, and most customers, 90% of the time, they don't need all the functions. They only need 1 thing, which is a VPN. Is that where we're gonna go? Potentially.
I can't say how many it goes to, and actually really comes down to what makes the most logical sense for our customers, and can they sell it? Here's the other part, we cannot just create a whole bunch of different solutions and not have them sell it like crazy. This is the big focus for us, and that's why we have a customer success army that's unmatched in this industry. We are right beside the customer, teaching them new business models. Let's take SmartBiz. There's a lot of customers who have an enterprise sales organization, like, they sell to enterprise businesses in their markets, but the vast majority of our customers only sell to consumer.
learning how to sell SmartBiz, they're reliant on us to actually bring them best practices and in essence, a business model to launch. That's where our big focus is around getting adoption. commentary on-
Cory Sindelar (CFO)
Yeah.
Michael Weening (President and CEO)
dollars, Cory?
Cory Sindelar (CFO)
Well, I'm proud of you not going into too deep about futures. That's very good.
Michael Weening (President and CEO)
Thank you. Although you were giving me the, "I'm gonna strangle you," view, so.
Cory Sindelar (CFO)
you know, that being said, Scott, it's so early days, and just what we've launched will take us a while to get going, right? We're excited about what we have in market right now. We just know that now that we've created the platform, there will be more to come. Just rather not get too far ahead of ourselves in that regard.
Michael Weening (President and CEO)
On the topic of who are the early adopters, the early adopters are generally the ones who are in those advisory boards because they're driving us. "Hey, do this, do this," right. They want to be in. One of the press releases that we just put out was Tombigbee Fiber, and it's in the investor letter also. Right? We put them in there. What they've done is they've adopted or are in the process of adopting all of our technologies, top to bottom. They launched SmartTown, they're launching SmartBiz.
They're right there with everything, which is great because those types of all-in customers who are in competitive markets and taking a significant amount of share and differentiating quickly, those are the ones who we learn from, and then we take those learnings with our customer success organization and pass them on to other customers so that they can learn and ramp fast.
Scott Searle (Managing Director and Senior Research Analyst)
Great. That was very helpful. Mike, if I could follow up on SmartBiz and SmartTown specifically, those seem like they're pretty large, potentially unique opportunities. Are they gonna be some of the larger revenue generators once they reach a little bit more of maturity? Specifically, I think on SmartTown, you were referring earlier to what you're able to do in driving MVNO opportunities, but when I start to think about it seems like it's a gateway into smart city, other IoT and sensor city. Are you seeing that kind of interest as well? How does the model work around that? Do you end up kind of, you know, charging, you know, per operator, per community, or is that more of a per device model?
Michael Weening (President and CEO)
Actually, really good. Very insightful, great question, Scott. On the SmartBiz, absolutely, it's gonna drive a lot of revenue. As we stated, we're shocked by how big a gap in the market there is on the SmartBiz, because everybody's trying to take enterprise-class technologies and scale it down to the baker, and it just doesn't work. If you go look at any disruption, disruptions start with small customers and go upwards. We think that the ability for our service providers to disrupt the entire business market is significant. Yes, I see that as a big growth opportunity. On SmartTown, actually funny, we haven't really been talking to folks about this, but absolutely, the innovators are looking at this as the way to, you know, the concept. That's why it's called SmartTown.
I can now sit down with the mayor, I can say, "Hey, we have a ubiquitous Wi-Fi mesh across the town. Now, we can start connecting your parking meters." This is the biggest problem that towns have when they want to become smart, is connectivity, right? You can actually wirelessly, without putting in a SIM, so you don't have to rely on 5G or 4G or 3G. I can now connect water meters. I can connect parking meters. I can connect the lights, the traffic lights. Lamps and all these other things. SmartTown represents a significant way, not only for them to generate revenue, which in turn becomes revenue for us, but it's a great way for them to build a relationship with the town.
If you want to expand your network and build it into new areas, what do you need? Permits. If you have a great relationship with the mayor's office, the administration, and all those folks who put out the permits, you're first in line because you're changing that town, and that's what our customers understand, which legacy companies don't.
Cory Sindelar (CFO)
Great question, Scott.
Scott Searle (Managing Director and Senior Research Analyst)
I was wondering if I could slip one more in under the line, cross the line here. You're medium agnostic, and I've had conversations with various wireless ISPs who are adopting you, right? As long as you've got a GigaSpire solution, I think that's also true within some fiber deployments as well. I'm wondering if that's a big opportunity for growth for you guys, is basically getting a foot in the door with additional carriers. If I could quickly follow up on BEAD as well.
I know it's further out on the horizon, so I apologize for asking, but it seems like it's gonna be a highly politicized environment, and there are some new rules that are starting to creep up in terms of matching funds and capitalization of the potential operators, which is actually kind of detrimental to the whole point of what BEAD, I think, is supposed to do. It seems like your, some of your customers are well-positioned on that front with their access to capital. Broadly speaking, are you gonna be disproportionately benefiting from BEAD versus some other guys because of your customer base and what you can help them achieve from a capital standpoint? Thanks, guys.
Michael Weening (President and CEO)
The first question with regards to agnostic, the answer is yes. The second question with regards to BEAD, It's actually not just access to capital, Scott, it, from a traditional form, in the, in the way that they have to raise a bond or private equity or those other things. The other part of it is 42% of our customers are not-for-profit, and they have significant cash flows, as I've referred to in the past. We have one customer who funded a $300 million network build off of cash flow. On top of that, you have other cooperatives who have significant access to capital.
Yes, I believe that with regards to BEAD, they are uniquely positioned, not only from a capital point of view, you know, access and all the different instruments, cash and cash flow and other things, but also the other thing is, they actually care. They really care about the communities they're in, and therefore, when they sit in front of a local legislator and say, "Do you want the big soulless legacy company who has been underfunding this town forever, do you really believe them that they're now gonna do it? Actually, we've been investing regardless of BEAD, and we're just looking to expand the massive positive impact we're having on the community, already.
You know, who do you wanna bet on?" I think that goodwill element and a track record of investing, regardless of government funding, is what will advantage them on a go forward, too. Thanks for the question, Scott.
Scott Searle (Managing Director and Senior Research Analyst)
Great. Thank you, guys.
Operator (participant)
Thank you. We've reached the end of the question and answer session, and I'll turn the call over to Jim Fanucchi for closing remarks.
Michael Weening (President and CEO)
Thank you, Rob. Calix leadership will participate in several investor events during the third quarter, both in person and virtually. Information about these events, including dates and times and publicly available webcasts, will be posted on the Events and Presentations page of the Investor Relations section of calix.com. Once again, thank you to everyone on this call and webcast for your interest in Calix and for joining us today. This concludes our conference call. Have a good day.
Operator (participant)
You may now disconnect your lines at this time, and thank you for your participation.