Infinera (INFN) Q1 2023 Earnings Call Transcript

Infinera (INFN 5.41%)
Q1 2023 Earnings Call
May 03, 2023, 5:00 p.m. ET

Contents:

• Prepared Remarks
• Questions and Answers
• Call Participants

Prepared Remarks:

Operator

Good day. My name is Rob, and I'll be your conference operator today. At this time, I would like to welcome everyone to the Infinera first-quarter 2023 earnings conference call. All lines have been placed on mute to prevent any background noise.

After the speakers' remarks, there will be a question-and-answer session. [Operator instructions] Thank you. Amitabh Passi, head of investor relations, you may begin your conference.

Amitabh Passi -- Head of Investor Relations

Thank you, Rob, and good afternoon. Welcome to Infinera's first quarter of fiscal 2023 conference call. A copy of today's earnings and investor slides are available on the Investor Relations section of the website. Additionally, this call is being recorded and will be available for replay from our website.

Today's call will include projections and estimates that constitute forward-looking statements, including but not limited to, statements related to our future business plans, product development, and growth opportunities, including progress against strategic priorities and milestones, trends, competition, and customers; capacity growth, expectations regarding industrywide supply chain challenges, and the macroeconomic environment; market adoption of coherent optical engines; expectations regarding the launch of our subsystems business and its impact on our financial results; expectations regarding obtaining government funding; projected year-over-year drivers of demand, revenue, gross margin, operating expenses, and operating margin; expectations regarding our future performance, revenue growth, and margin expansion; and our financial outlook for the second quarter of 2023. These statements are subject to risks and uncertainties that could cause Infinera's results to differ materially from management's current expectations. Actual results may differ materially as a result of various risk factors, including those set forth in our annual report on Form 10-K for the year ended on December 31st, 2022 as filed with the SEC on February 27th, 2023, as well as subsequent reports filed with or furnished to the SEC from time to time. Please be reminded that all statements are made as of today and Infinera undertakes no obligation to update or revise any forward-looking statements to reflect events or circumstances that may arise after the date of this call.

Today's conference call includes references to non-GAAP financial measures except for revenue, balance sheet items, and cash flow from operations, which are discussed on a GAAP basis. Pursuant to Regulation G, we provided a reconciliation of these non-GAAP financial measures to the most directly comparable GAAP financial measures in our earnings release and investor slides for this quarter, each of which is available on the Investor Relations section of our website. And finally, as a reminder, we'll allow for plenty of time for Q&A today, though we ask that you limit yourselves to one question and one follow-up, please. And I'll turn the call over to our chief executive officer, David Heard.

David?

David Heard -- Chief Executive Officer

Thanks, Amitabh. Hey, good afternoon and thanks for joining us today. I'll begin with the review of our results, and then I'm going to turn the call over to Nancy to cover the details of our financial performance for the first quarter. We had a very solid start to 2023 with first-quarter revenue, gross margin, operating margin, and EPS all beating the midpoint of our outlook range.

Revenue in the quarter was 392 million and grew 16% year over year, and we expanded gross margins by 260 basis points and operating margins by 450 basis points compared to the first quarter of 2023. During the quarter, we continued to make progress toward the six strategic milestones that we laid out at our Investor Day in March. Specifically, first, we had another good quarter of shipping ICE6 and currently are on track to drive ICE6 to greater than 35% of product revenue in 2023. Second, our 400-gig ZR, ZR+ software-defined ICE-X pluggables are performing well and are being integrated into our own metro platforms.

We are expanding our metro footprint with new design wins and expect to see initial margin benefit from the vertical integration of these metro platforms as we exit the year. Third, the pipeline for our external pluggables business is expanding quite nicely, and we're on track to capture tens of millions of dollars of orders during 2023. To date, we've received orders for qualification, sampling, and initial deployment from over 10 customers spanning network equipment manufacturers, ICPs, and service providers. Fourth, the development of our next-generation embedded engines, including ICE6 and ICE7, is progressing well, and we're focused on delivering to the technology road map and timeline that we laid out for you during our Investor Day.

Fifth, we're continuing to position ourselves for the CHIPS and Sciences Funding Act to augment our existing business plan. As a U.S.-based optical semiconductor manufacturer, Infinera is well situated at a time with significant government funding is on the table to reassure and secure critical supply chains. And finally, we're driving toward our full-year plan for revenue growth and margin expansion. As you've just heard, Q1 revenue was 16% and above our 8% annual target, and we expect the first half of 2023 to be generally in line with our expectations coming into the year.

All of these milestones are aligned toward delivering our target business model of at least a dollar of EPS in the '25, '26 time period. From a macro perspective, there's no doubt that the current environment is a little more dynamic with customers taking more time to balance the need to work down their backlog, prioritize projects, and establish the right strategic budgets for the year. Within the ICP segment, which represents 25% to 30 % of our revenue and less than 15% of the overall optical systems market, we've seen a bifurcation in customer behavior. While some of our ICP customers are digesting inventory and working down backlogs, we're winning and shipping to others who are gearing up for artificial intelligence and machine learning workloads while continuing to drive significant incremental traffic growth.

Within the communication service provider, or CSP, customer segment, we are also seeing a push-out of some projects as customers work down inventory and run their networks a bit hotter. Despite this macroeconomic backdrop, we're continuing to land new design wins with our strong portfolio as customers look to diversify their vendor base. Furthermore, spending priorities across our customer base remain centered on fiber builds, higher speeds and feeds, lower cost, and power efficiency. These are areas that firmly hit our sweet spot.

Our overall sales funnel is solid and RFP activity is quite healthy. As we stated during our Investor Day and like the prior two years, we expect to grow ahead of the market in 2023 with bookings weighted toward the second half of the year. In the meantime, we're staying focused on our growth strategy, prioritizing investments in expanding our market reach and building our pluggables business while being judicious about all other expenses. At this point, our bottoms-up view supports our annual plan for 2023.

As you've seen from our press release today, at the midpoint of our outlook range for Q2 2023, we would deliver 10% year-over-year revenue growth in the first half of 2023, which is above our annual target of 8%, while continuing to expand margins. In closing, while there is some near-term uncertainty in the market, it's our expectation that much of what we're seeing today is short term and timing related and not a reflection of any long-term underlying demand. We are executing to the six strategic milestones we outlined during our Analyst Day, and our primary objectives remain unchanged: to grow faster than the market, expand our margins, launch our pluggables business, and deliver at least a dollar of EPS in that '25, '26 time frame. I'd like to thank the Infinera team for their continued commitment to building a culture centered on caring for our customers and one another and delivering on innovation that matters.

I would also like to thank our partners, customers, and shareholders for their ongoing support. I will now turn the call over to Nancy to cover the financial details of the quarter and our outlook for the second quarter. Nancy?

Nancy Erba -- Chief Financial Officer

Thanks, David. Good afternoon, everyone. I will begin by covering our first-quarter results and then provide the outlook for the second quarter. For your reference, on our Investor Relations website, we have posted slides with financial details, including our GAAP to non-GAAP reconciliation, to assist with my commentary.

As you heard from David, the first quarter was a solid quarter for us in which we delivered double-digit year-over-year revenue growth with key financial metrics, revenue, margins, and EPS all coming in above the midpoint of our outlook range. Revenue in the quarter was 392 million, up 16% on a year-over-year basis with product revenue up 18% year over year. This performance was driven primarily by strength in the Americas and with ICP customers and was across both our GX portfolio and line systems. Geographically, we derive 60% of our Q1 revenue from domestic customers, a level consistent with Q4 as we saw continued strength across our customer base in the U.S.

Q1 gross margin of 38.8% was above the midpoint of our outlook range and increased 260 basis points year over year. Compared to the year-ago quarter, gross margin benefited from higher ICE6 revenue and some relief in supply costs, partially offset by higher line systems revenue and services mix as we continue to work through our lower-margin professional services backlog. As we have discussed in prior calls, line systems revenue comes at a lower gross margin, but the expanded customer footprint bodes well for the future attachment of higher-margin transponder sales. Operating profit in the quarter was 13.6 million with an operating margin of 3.5%, compared to an operating loss of 3.5 million in Q1 of 2022.

On a year-over-year basis, we expanded our operating margin by 450 basis points, benefiting from higher revenue, higher gross margin, and improved operating leverage. Operating expenses of 138.6 million in Q1 were slightly below our outlook range of 139 million to 143 million as we tightly managed quarterly spending. The resulting diluted EPS was $0.02 per share, at the high end of our outlook range, which compared to a loss of $0.07 in the year-ago quarter. Moving on to the balance sheet and cash flow items.

We ended the quarter with $170 million in cash and restricted cash with no amount drawn on our ABL. The primary use of cash in the quarter was working capital as we continue to strategically build inventory while reducing our payables. Consequently, cash flow from operations reflected a modest use of 1.8 million in cash in the quarter and 18.6 million in outflow in free cash flow. Let me turn now to the outlook for the second quarter of 2023.

While we remain encouraged by the long-term drivers of our business, our design wins are above industry growth and healthy backlog. We are cognizant of the environment we are operating in as our customers take a little bit more time to determine their spending priorities for the year. However, we don't expect this transitory effect to reflect a material shift in the longer-term drivers of our business. Based on our current visibility, we expect Q2 revenue to be in the range of 375 million, plus or minus 20 million, representing 5% growth on a year-over-year basis at the midpoint of the range and implying 10% growth in the first half of 2023 over the first half of 2022.

Partially impacting our Q2 outlook is the pushout of an approximately $20 million government project that we now expect to materialize in the second half of the year. Overall, we believe our revenue trajectory in 2023 will mirror the trend of the last two years with sequential growth in both Q3 and Q4 and a stronger second half compared to the first half. We expect Q2 margins to be in the range of 38.5%, plus or minus 150 basis points, up 240 basis points year over year at the midpoint of the range. The primary driver of the year-over-year increase in gross margin is a projected greater contribution of ICE6 in our revenue mix and the continued abatement of supply costs, partially offset by a more acute impact from lower-margin line systems and metro products that are currently non-vertically integrated.

We are forecasting Q2 operating expenses to be in the range of 140 million to 144 million, modestly up sequentially as we continue to prioritize investments in global sales and business development to take advantage of the growing market opportunity and as we continue to invest in our product road map. The resulting operating margin in Q2 is expected to be approximately 0.6% plus or minus 300 basis points, up 20 basis points on a year-over-year basis at the midpoint. Below the operating income line, we assume $7 million for net interest expense and $4 million for taxes. Finally, we anticipate a loss of $0.03 per share, plus or minus $0.05, assuming a basic share count of approximately 226 million shares and a fully diluted share count of approximately 267 million shares.

The midpoint of this Q2 outlook range would represent year-over-year improvement across all outlook metrics, revenue, gross margin, operating income, and EPS. As we look ahead, at this point, we are leaving our full-year 2023 outlook unchanged. Consistent with the messaging during our Investor Day in March, we expect our revenue growth to be approximately 8% for the year and our annual EPS to be above $0.20 for 2023. As I wrap up today, I want to thank those of you who attended our Investor Day in March, and I enjoyed seeing you in person.

We had record attendance at our OFC booth. Our portfolio and technology road map are clearly resonating with our customers, and we believe the investment thesis is compelling. We are focused on executing our strategy, delivering on the six milestones, and driving at least a dollar of EPS by '25, '26. I would like to thank the Infinera team for their continued commitment to innovation and execution excellence, and our partners, customers, and shareholders for their continued cooperation and support.

Operator, I'd like to open it now for questions.

Questions & Answers:

Operator

[Operator instructions] And your first question comes from a line of Mike Genovese from Rosenblatt Securities. Your line is open.

David Heard -- Chief Executive Officer

Hey, Mike, how are you doing?

Mike Genovese -- Rosenblatt Securities -- Analyst

Hi. Hi, David. Thanks for the question. I guess, you know, David, when you're talking about cloud or ICP versus service providers, you know, I didn't get a clear message, but I guess that's kind of what you were saying is that some of the cloud guys were speeding up, some are slowing down.

But if you could just compare cloud to service provider in terms of your -- you know, whether you think the market's which -- which one feels relatively strong or relatively weaker in the second quarter. And do you think that that same kind of trend will continue in the second half, or you have different expectations?

David Heard -- Chief Executive Officer

No, it's good -- it's good question. What I was actually saying is exactly what you repeated back, which is it's bifurcated. There's some -- you know, and they publicly announced their -- their numbers, right? So, some of their web services slowed down from some really fantastic growth rates. I mean, some above 40%, right? There's still some high double-digit growth rate.

So, I think we've all expected them to digest some inventory and burn down some backlog. And so, I think that's a couple of quarter issue. Well, there's a second set of them, when you look at their capex, I think there were three or four and -- that are driving these machine learning and AI workloads, which are, you know -- everybody told us they were going to be 10 times, and you don't believe it until you see it in the forecast and then ultimately in the order book. So, I think as I said at Analyst Day, they're going to continue to be lumpy, but I think the demand will be there.

I think even the ones that have slowed down to burn off the backlog workloads are still -- you know, when they're growing double-digit, you still need to build out data center and server infrastructure and connect the optical -- optics. On the service provider front, I think what we're seeing is, honestly, a huge number of RFPs out globally going on right now. But what happens in times like this, when you hear the R-word, recession, a lot of them are sweating their assets and running a little hotter and burning down backlog. That being said, you know, service providers typically when they cut their budgets, you know, some of them that are spending 18 billion, they don't cut them to nine, right? They cut them by a couple billion dollars, and it's really the priority of the spend.

So, I think that that's what they're going through is their priority is spend and where orders are going to be. I think the good news for the long term and the medium term is actually that fiber is a big priority. We've got some design wins and many of those big CSPs. I'll remind you, I would like more customer concentration in those Tier 1, top 50 CSPs.

So, you know, the slowdown in terms of their order deployment versus their backlog drawdown isn't quite as painful when you're not as concentrated. But we are going to continue to drive to be more concentrated on those CSPs. Mike, did I answer your question?

Mike Genovese -- Rosenblatt Securities -- Analyst

Yeah, that was -- that was great. Thanks. I guess just looking at last year, there was a pretty steep ramp in the second half of the year compared to the first half of the year. And by saying 8% is achievable this year, you know, it seems like it could be even slightly steeper this year.

Is that -- you know, where does that confidence come from in the -- in the second half, like, where are you getting that confidence?

David Heard -- Chief Executive Officer

So, a couple of things. I think you're right, actually, for the last couple of years, we've had a much more dramatic back half than front half, slower start. I think what you saw is our Q1 performance was quite a bit stronger than our last two years. And that front half being 10% and being above the 8%, what -- we came at Analyst Day in March and talked about that, right, meaning, we said we thought that the back half certainly would be, in magnitude, stronger, but that certainly, overall, we believe we'd be at that 8% market rate, which is, again, below the 10% in the front half.

We'd be crazy in this market, Mike, to get more frothy than that. We think we're being really mindful and we're managing with the micro. You know, we're looking at our sales funnel, we're looking at our deployments, we're looking at having conversations with the people, making these deployments. And could it get hotter? Hey, look, I think that would be speculation.

We're kind of -- at this point, we stick with what we -- what we said in March and continued to use our micro tools quarter to quarter like we did through the supply chain mess, like we did through the pandemic. We're keeping our same forecast methodology and our same executional focus.

Mike Genovese -- Rosenblatt Securities -- Analyst

All right, great. Thanks. Thanks a lot for the questions.

David Heard -- Chief Executive Officer

Thanks, Mike.

Operator

Your next question comes from a line of Alex Henderson from Needham and Company. Your line is open.

Alex Henderson -- Needham and Company -- Analyst

Great, thanks so much. You know, I think the Street believes that you guys have a pretty good size backlog of product that you'll be shipping in 2023, and that should give you some pretty good visibility as supply chain improves. The bait on a lot of these companies that are in the systems market with large backlog seems to be focused more on what happens after the backlog comes down. And, you know, I was hoping you could talk a little bit about the mix of the backlog and what it might imply.

Specifically, it's my understanding in talking to Ciena -- and I think you guys have a similar situation -- that the -- the optical line systems are a pretty significant piece of your backlog. But it's also my understanding that the transceivers needed to light those optical line systems are not. And so, I guess the question is if it's 40% of the backlog is OLS and you ship that out, how long before the orders come in to light those line systems up? And is that a second round of orders that should give visibility to a longer-term trajectory of growth?

Nancy Erba -- Chief Financial Officer

Yeah, I'll start. And, David, you can jump in.

David Heard -- Chief Executive Officer

Sure.

Nancy Erba -- Chief Financial Officer

But, you know, the backlog, we're not going to get into the specifics of what's in our backlog. But one of the comments that I did make is we are seeing, I'll say, some of the supply loosen up, and you're seeing more line systems getting deployed. One of the -- the statements that I made about the Q2 margin and keeping that range where we did. It really depends on the customer and the deployment.

Certain customers are going to buy lines, going to buy the transponders at the same time they're deploying line systems and fill at different rates. Others, it will be a more staged and take multiple quarters, but it really is going to depend on the customer, the deployment, and the timing of what they need in order to get their network up and running.

David Heard -- Chief Executive Officer

But to your point, Alex, I think there's a good portion of line systems in our backlog.

Nancy Erba -- Chief Financial Officer

Yes.

David Heard -- Chief Executive Officer

And that there is still -- that's the one area that there's still a fair bit of supply constraint in the industry. As those come out, let's say you have a five times opportunity in terms of fill-on value to go from the first order to completely filling, like, typically, unless it's a true subsea where they're going to fill the whole -- you know, the whole spectrum right away, you're absolutely right, typically, people aren't going to buy line systems and then not fill them, right, and deploy them. And we certainly don't want that to happen. So, we kind of track where we've got line systems out and where that gives us forward visibility in our funnel that loads our salesforce funnel, which is what we manage in this -- in these micros.

And yes, when we're selling those transponders, they tend to be at higher margins than that nasty line system.

Alex Henderson -- Needham and Company -- Analyst

Just to be clear, the line system orders generally do not include at the same time that the order was put in the transceivers to meaningfully light them up. There is a lag from the OLS going out to when the transceiver order comes in, and therefore, that does suggest a -- another round of ordering. That thesis is correct, yes?

David Heard -- Chief Executive Officer

Partially. There are people that when they're doing their initial order might order the line systems and a portion of the initial deployment, but a majority of the dollar value of that potential deal is future versus current.

Alex Henderson -- Needham and Company -- Analyst

Right. And just -- just to be clear, did you work down your backlog during the period? Or is it -- I mean, normally, this is seasonally weak quarter for orders. [Inaudible]

David Heard -- Chief Executive Officer

We did, yeah. Yeah, we had mentioned that in the Analysts Day we thought that in the first half that would definitely be the case.

Nancy Erba -- Chief Financial Officer

Yeah, RPOs went from 983 to 903.

Alex Henderson -- Needham and Company -- Analyst

OK, thank you so much.

Amitabh Passi -- Head of Investor Relations

Thanks, Alex.

Operator

Your next question comes from the line of Simon Leopold from Raymond James. Your line is open.

Simon Leopold -- Raymond James -- Analyst

Thanks for taking the question. In the prepared remarks, David, you -- you mentioned this comment about inventory absorption. And I want to make sure I understand because I guess I'm a little bit confused in that I'd imagine that the -- the -- your customers have inventory of your gear now. I didn't know whether you were sort of referring to the broad sense of things like -- like 5G radios being absorbed or you were specifically talking about your own products.

And if it's your own product, I'm puzzled how they got that inventory.

David Heard -- Chief Executive Officer

Hey, Simon, I would like to make a very clear statement here. So, thank you for the clarifying question. Yeah, in the prepared comments, it was industrywide and not just specific to optical and not our gear, right? You know, I think that during the supply chain, a lot of CSPs and customers loaded up and, in many cases, loaded up to be given where the lead times are. As those are coming down, they have the ability to burn down.

And, you know, economic pressures, necessity drives that innovative spirit t -- to drive what's in the warehouse and try to get that out and was deployed. So, what I meant is they're burning down backlog, and they're burning down the inventory that they have rather -- rather than ordering lots of new gear in the front half of the year. And we mentioned that in the Analyst Day that we thought that that would happen and then people would kind of reload and recharge as we go out throughout the year.

Simon Leopold -- Raymond James -- Analyst

And then, as a follow-up, just what -- what are you thinking in terms of the, you know, ebbs and flows in your customer mix in that -- that second-quarter guidance? So, you know, it implies that at least one of your verticals is not following seasonality. And your comments on the call make me think it's the ICPs and not the traditional telcos, but I just want to make sure that I'm thinking about this correctly.

David Heard -- Chief Executive Officer

Yeah, I think two things: One, we did have a government deal of a reasonable size that Nancy mentioned, a $20 million deal that was supposed to be in the first half. And, you know, in these times and governments typically run at their own productivity timelines, you know, that's going to move from the first half into the second half of the year. And you've seen that happen before with other big projects with us. This one is a government project.

As I mentioned in the Analyst Day, I think you're going to continue to see the ICPs lumpy in terms of shipments to revenue. From us, I think you're continuing to see we had very strong Americas, you know, for the quarter, Europe, you know, continued to be a little bit weaker. I think that's overall more of a cautious environment, although we see a very large number of RFPs out there. That one's just going to be timing.

So, you know, I think it is a little bit of ICP lumpiness, a government project that has spin out, and then just the ramp rate of CSPs that are traditionally pretty darn strong in Q2 that are just taking a lot longer, again, as they try to burn down their backlog.

Simon Leopold -- Raymond James -- Analyst

Appreciate the clarification. And just as a quick verification, I'm assuming the government shows up with your other service provider segment.

Amitabh Passi -- Head of Investor Relations

That's correct, Simon.

Simon Leopold -- Raymond James -- Analyst

Great. Thank you very much.

David Heard -- Chief Executive Officer

Thanks, Simon.

Operator

Your next question comes from the line of Meta Marshall from Morgan Stanley. Your line is open.

Meta Marshall -- Morgan Stanley -- Analyst

Great, thanks. Maybe on your commentary about the kind of the 10 customers kind of looking at the external pluggables, I just wanted to get a sense of kind of what early feedback you were getting, you know, what kind of scale of projects these could be as we head to -- to '24 and '25. And then, maybe a second comment -- or second question is just on, you know, lab trials that you were seeing in general. Are you seeing any kind of slowdown in their activity and evaluations, or is this really just kind of slowdown of orders? Thanks.

David Heard -- Chief Executive Officer

Yeah, thanks, Meta. Good question. I do want to clarify this one as well, to be very specific, and yeah, the 10 aren't looking. What I mentioned is they're ordering.

So, we actually have firm, hard orders in for either qualification, initial deployment, or sampling. So, that's really good news. I'm encouraged by that. I think for those of you who were at OFC, you did see a large degree of interest as 400-gig goes into the metro for CSPs, as well as our 400-gig ZR+ and ZR module.

A couple of things are happening. The performance of it has been quite strong. And as people go look to -- to deploy the 400-gig ZR spec, in some cases, they would like a little bit more reach, and our -- our 400-gig, our ICE-X pluggable is filling that need. So, we're -- our sales funnel is building with lots of nice opportunities there.

But look, we won't -- we'll count those when -- when big orders are able to come in house, so we've got some work to do. The second thing is the software definition on them, meaning the fact that these are manageable via software, has been a big hit. Networks are complicated even in ICP networks, people looking to segment, alarm, track, and be secure. And I'd say the third point is, let's not forget, our pluggables are manufactured in the United States with our own fab here in Sunnyvale, California and our advanced semiconductor packaging facility in Pennsylvania.

And so, that value proposition of performance software and made in the USA, especially given the -- the performance and reach that they're looking for and the economics, have been a hit. Go ahead.

Nancy Erba -- Chief Financial Officer

And just -- maybe just to add on that. And don't forget, right, that these pluggables are what's going to allow us, as we exit this year and go into '24, to vertically integrate our own metro platform. And that's the margin expansion that we shared with you at Investor Day that -- that really starts to kick in in '24.

David Heard -- Chief Executive Officer

Now, that's a new business matter. And that's 10 orders for, again, sampling initially and some initial deployments. That takes a while to scale. And that's why, at Analyst Day, we talked about our goal being tens of millions of orders by the time we exit the year and then the scale happening there.

But I'm quite encouraged by, so far, what we see, need to translate that to the almighty income statement and balance sheet.

Meta Marshall -- Morgan Stanley -- Analyst

Great. Thanks so much.

Operator

And your next question comes from the line of George Notter from Jefferies. Your line is open.

George Notter -- Jefferies -- Analyst

Hey, guys. Thanks very much. I've got a few questions here. I guess, David, to start, thought I'd ask you about pricing.

I know you guys raised price about 5% back in May of last year. I'm kind of guessing that that would start flowing through the model here in Q1. Can you give us a sense of, you know, how much of the growth you're getting is coming from pricing or -- or maybe that benefit is still in front of us? I'd love to get a sense for that. And then, secondly, I'm just curious about the mix of ICE6 and mix of vertically integrated products in the quarter.

I'm kind of wondering what the update is on -- on that mix of product sales. Thanks.

David Heard -- Chief Executive Officer

Yeah, Amitabh, why don't you hit the ICE6 and vertical integration, and then Nancy can hit the other piece?

Amitabh Passi -- Head of Investor Relations

Yeah. So, George, ICE6 we said -- well, we didn't say -- it's just north of 30% in the quarter of product revenue, and VI was north of 50%, five zero.

Nancy Erba -- Chief Financial Officer

Yeah, and I think, you know, we, first of all, never announced a price increase. So, we have, as we've said, looked at our pricing, looked at our customer mix, looked at the products that they're buying, and make assessments on a quarter-by-quarter basis. But the mix of the -- the margin that you're seeing now, you know, as we go above the 38.5 and -- and continue on our trek to get to 40% for the year, is going to be made up of a compilation of a number of things, right? But primarily, the mix of ICE6 helps us as we grow our margin there. And we're going to continue to look at our own pricing relative to the market, relative to, you know, where we see opportunity and also where we want to grow, right, and where we want to expand the market in front of us.

So, I won't comment further about any other increases or any decreases.

George Notter -- Jefferies -- Analyst

Got it. OK. Thanks very much, guys. Appreciate it.

David Heard -- Chief Executive Officer

Thanks, George.

Operator

And there are no further questions at this time. Mr. David Heard, I turn the call back over to you for some final closing remarks.

David Heard -- Chief Executive Officer

No, I appreciate it. Hey, like Nancy said, it was great to see everybody at Investor Day. So, I know we're short today because of -- hopefully, we reviewed kind of the plans of where we go. As we mentioned there, we had those six milestones that we went through that we laid out at Investor Day.

I think the good news is, in times like this, concentrating on ensuring we are closing off on those with credible measures I think happened in Q1. We had a quite -- a strong Q1. And I'm proud of what the team did, you know, 16% year-over-year growth, 260 points of gross margin, and 450 of operating margin expansion. Nice job to the team.

Our Q2, you know, guidance implies 10% revenue growth for the first half, which is again ahead of what we see. We're certainly mindful of the macro. We read the news, we listen to other earnings calls, we understand what's going on. However, we're operating our business off the micro tools and processes in close discussions with our clients that have proved to be effective as we manage through a pandemic, supply chain crisis wars, you name it.

So, that's what we're going to continue to do. Our job with you is to always give you a great view of what we see. We are encouraged by what we see in the subsystems business. That's quite exciting.

We know it takes time, but again, those six key milestones are what we are focused on. So, we really appreciate everybody's continued interest, the thoughtful questions today, and we look forward to speaking to you at our next earnings call if not sooner. Everybody, have a great day.

Operator

[Operator signoff]

Duration: 0 minutes

Call participants:

Amitabh Passi -- Head of Investor Relations

David Heard -- Chief Executive Officer

Nancy Erba -- Chief Financial Officer

Mike Genovese -- Rosenblatt Securities -- Analyst

Alex Henderson -- Needham and Company -- Analyst

Simon Leopold -- Raymond James -- Analyst

Meta Marshall -- Morgan Stanley -- Analyst

George Notter -- Jefferies -- Analyst

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