Coherent Corp (COHR) 2015 Q3 法說會逐字稿

Good day, ladies and gentlemen, and welcome to Coherent's third fiscal quarter results conference call hosted by Coherent Inc. (Operator Instructions) As a reminder, this call is being recorded. I would now like to introduce Ms. Leen Simonet, Executive Vice President and Chief Financial Officer. You may begin.

Thank you, Jay. Good afternoon, everyone, and thank you for joining us on today's call. I will provide financial information and John Ambroseo, our President and CEO, will provide a business overview. As reminder, any guidance and any statements in today's conference call pertaining to future guidance, market trends, plans, events, or performance are forward-looking statements that involve risks and uncertainties, and actual results may differ significantly. We encourage you to refer to the risks disclosures and critical accounting policies described in the Company's report on Forms 10-K, 10-Q and 8-K as applicable and as filed from time to time by the Company.

The full text of today's prepared remarks and trended GAAP and non-GAAP supplemental financial information including bookings and revenues by markets will be posted on the Coherent investor relations website. A replay of this webcast will also be made available for approximately 90 days following the call. Let me first give the financial highlights of our third fiscal quarter. We ended the quarter with revenues of $188.5 million and pro forma earnings of $0.82 per diluted share. The third-quarter revenue does not include the third LB 1500 ELA system that we had previously indicated may shift in the third quarter. The customer requested that we deliver this unit in the fourth quarter, as originally scheduled, resulting in approximately $20 million revenue shift from third to the fourth quarter.

The high point of our third-quarter performance is a sizable step up in the pro forma gross profit percentage, which led to a sequential increase in our pro forma EBITDA percent to 18.4% compared to 17.6% last quarter. Net sales for the third quarter of $188.5 million declined $8 million or 4.1% compared to the same quarter a year ago, which is a result of the unfavorable impact of exchange rate fluctuations. Compared to the previous quarter, net sales decreased $15.2 million or 7.5%, which is partially due to the Linebeam 1500 ELA system shift to the fourth quarter and a slowdown in semiconductor investments. In addition, our medical ophthalmic revenues declined following a very strong second quarter.

The third-quarter ending shippable backlog defined as shippable within the next 12 months is approximately $305 million including $114 million or 37% flat panel display shippable bookings. The comparable backlog at the end of last quarter was $315 million including $116 million or also 37% flat panel display shippable bookings.

Geographically, Asia accounted for 50% of the Company's revenues, US 28%, Europe 16%, and the rest of the world 6%. Service revenues for the third quarter of approximately $57 million compared to a record second quarter of almost $66 million. The decline occurred across all the major markets. Service revenues for represented 30% of the Company's revenues and were in line with our forecast. We had one customer in Japan, an integrator to flat panel display manufacturers, who contributed more than 10% of the Company's third-quarter revenue.

The third-quarter pro forma gross profit excluding $700,000 stock compensation charges, $1.3 million intangible amortization, and $1.3 million accrual for an ongoing multiyear customs audit was $82.1 million or 43.5% of sales, which is 100 basis points above the high end of our guidance range. The sequential increase of 160 basis points is mainly the result of a more favorable product mix in the microelectronics and OEM components and instrumentation markets, lower warranty expenses, and the favorable impact of a weaker euro versus the dollar, partially offset by the unfavorable impact of the weaker yen versus the dollar.

Pro-forma period expenses excluding stock compensation, intangible amortization, and the impairment of our SiOnyx were 28.4% of sales and declined almost $3 million compared to the previous quarter.

Our cash and cash equivalents balance for the quarter was $336.8 million, which represents a sequential decrease of $7.7 million compared to last quarter. About 78% of our cash is denominated in dollars. 25% of the total cash is held in the United States and 75% internationally.

Cash flow from operations for the third quarter was $11.6 million negative, mainly as a result of increased accounts receivable. DSO at the end of third quarter increased to 69 days, primarily due to the unfavorable sales linearity, particularly in Japan, and the timing of certain payments. Inventory turns declined to 2.8 turns and was negatively impacted by the shipment delay of our Linebeam 1500 ELA system. Year-to-date cash flow from operations remains strong at approximately $69 million and increased 6% versus the comparable period last year.

Capital spending for the quarter was $4 million or 2.1% of sales, bringing the year-to-date spending to $16.2 million or 2.7% of sales. At the end of July we acquired the assets of Raydiance, a private company, and the Tinsley Optics business of L-3 Communications for a combined $9.3 million in cash excluding transaction cost, which will be reflected in our fourth-quarter ending cash balance. The acquisitions are projected to be accretive towards the end of fiscal 2016. Since both transactions closed during the last week, we plan on providing purchase accounting specifics at our next conference call. The guidance for the fourth quarter will only include activity for two months on a pro forma basis.

Let me give you the guidance for the fourth quarter. Our current outlook for the fourth quarter revenue ranges from $205 million to $215 million and is inclusive of the third Linebeam 1500 ELA system, which was shifted from the third to the fourth quarter, and approximately $2 million to $3 million revenue from the recent acquisitions. We project our fourth-quarter pro forma gross profit percentage to be in the range of 42.5% to 43% of sales, inclusive of the recently acquired businesses. Both of these businesses are expected to be dilutive to our pro forma gross profit percentage until the end of fiscal 2016.

We anticipate the third-quarter pro forma period expenses to be approximately 26.5% to 27% of sales inclusive of approximately $1.5 million of expense increase for the acquired businesses. Other income and expense is estimated to be immaterial. We do not include transaction gains or losses related to future changes in foreign exchange rates in our guidance. We project our pro forma tax rate to be approximately 27% for the fiscal year. And we forecast our full 2015 capital spending to be approximately 3% to 3.5% of sales. And we are assuming weighted outstanding shares for the fourth quarter of approximately 25 million.

I will now turn over the call to John Ambroseo, our President and CEO.

Thanks, Leen. Good afternoon, everyone, and welcome to our third fiscal quarter conference call. We have had a dynamic few months at Coherent. It began with a customer asking us to pull in the shipment of the most complex products we manufacture and later request that we go back to the original ship date.

We had a fantastic showing at Lasers Munich. We introduced about a dozen new products and captured a record number of leads. I'll highlight three of the new releases during my prepared remarks. We also completed two asset acquisitions. One addresses short pulse processing application and the other protects a critical piece of our supply chain. Second-quarter bookings of $176.7 million decreased 19.9% sequentially and 27.8% compared to the prior-year period. The large differences are primarily due to the timing of system orders for FPD and annealing lasers. The book to bill for the third quarter was 0.94.

Scientific orders of $29.1 million increased 10% sequentially and 1.1% compared to the prior-year period. The sequential order growth was led by our Chameleon product family in biological imaging and neuroscience. Most of the increase came from North America. Europe and Japan posted modest improvements and the Chameleon mix is evolving from a traditional Ti:sapphire-based laser to the fiber-based Chameleon Discovery, as it is qualified by more of our imaging partners. Discovery accounted for roughly 20% of new Chameleon orders in the third quarter, and we expect this market share and mix contribution to continue to rise.

Ultrafast amplifiers also rose. The current trend is for individual researchers to rely upon integrated single-box solutions such as the Astrella or Libra platforms while large multiuser facilities favor the configurable Legend system.

We introduced several new products at Lasers Munich that will serve the research market. The Fidelity HP is an all-fiber, ultrafast laser that is well-suited for use in advanced neurophysiology research. The Revolution is a new pump laser for ultrafast amplifier systems to using HALT and HAAS testing. The Monaco, while designed for commercial applications, is also suitable for use in biological imaging and time results studies of advanced solid-state materials such as novel semiconductors and nanopolymers.

Instrumentation and OEM orders of $30.8 million decreased 46% against the record-setting prior quarter and 43.7% versus the second quarter of fiscal 2014. The large swings reflected order timing from various OEMs.

The bioinstrumentation business is enjoying meaningful investments on different fronts driven by a goal of precise personalized medicine. In cytometry the move to desktop instruments requires miniaturized components. We addressed the first wave of this transition with our Cube and BioRay products. Our next generation will shrink even further and include subsystem capabilities.

Many sequencing applications are moving closer to deployment and we have secured key design wins with US and Asian OEMs. The first of these new generation -- sorry, next-generation sequencers should debut in the second half of next year with more to follow in 2017.

The medical OEM market is also strong, especially for vision treatment and eye disease management. While modern cataract treat it is amazing, it tends to be a one-size-fits-all approach. Ophthalmologists would prefer to have greater performance flexibility and control over the laser parameters so as to optimize individual patient research.

To this end we develop the Monaco, and all-fiber, ultrafast laser with variable pulse width and power capability. Monaco can be quickly and easily adjusted to perform the four key processes in cataract surgery including making the corneal incision, fracturing the cataract, excising the lens sack, and prepping the lens bed. The fracture or laso-phacoemulsificatrion especially benefits from variable performance since many factors such as age and UV exposure influence the density of the cataract. Monaco was introduced at Lasers Munich and initial shipments will occur this fiscal year. We expect volume orders to occur in fiscal 2016.

Microelectronics orders of $90.8 million decreased 13.9% sequentially and 26.5% compared to the prior-year period. News from the semiconductor market continues to worsen with 2015 growth projections reduced to low single digits. While utilization rates remain high, as do that associated service revenues, new laser demand has all but ceased. In this climate we expect customers will burn down inventory and maximize cash. This move has eliminated several million dollars of previously scheduled new system shipments from our Q4 revenues.

They FPD market remains robust despite the flip-flop on the Linebeam 1500 delivery. High definition displays and mobile applications should grow at three times the rate of mobile device growth, according to Gartner. When you add PPI and screen size growth, it leads to significant capital investment from Korea, China, and Japan. Incremental to mobile displays is the projected rise in automotive application using flexible OLED. In response to these opportunities, several capital budgets have already been announced by LG, Samsung, JDI, and others. As previously communicated, the orders will come over the course of current and next fiscal quarter. Some of the orders will be for our Linebeam 750 product and a number will be for larger format at or above 1000 millimeters.

We have multiple vendors who provide optics for the 750. We had developed L-3/Tinsley as the sole-source supplier for our 1300 and 1500 nanometer optics. L-3 made a strategic decision to exit this business and we opted to acquire the business rather than face supply chain risk or possible price increases from a new owner. Tinsley is a specialized manufacturer of high precision optical components and subsystems sold primarily into aerospace and defense industries. They have unique capabilities in the fabrication of very large lens arrays such as those utilized in our Excimer Laser Annealing systems. As a strategic optics supplier, they have helped Coherent scale linebeam sizes beyond 1.5 meters, enabling our mobile display customers to process up to the latest Generation 6 glass sizes in a single pass, enabling increased yield and lowest-cost per panel. We plan to continue to serve Tinsley's core aerospace and defense specialty optics markets in addition to enabling increased vertical integration in our ELA business. Going forward, the business will be renamed Coherent Integrated Optical Systems.

We continue to see positive signs for recovery in the CO2 via drilling market. OEM customers are engaged in a number of projects with packaging houses. We would expect several of these opportunities to utilize our new J-series lasers due to advances in integration, reliability, and service. Laser direct imaging has morphed into a two-tier market where lasers are used for high throughput, high-resolution applications and UV diodes are used for low-resolution work. Similar to semi cap, utilization of lasers remains high, yielding solid service revenue.

In previous conference calls I had mentioned a future moved to smaller via sizes. We introduced a new J-series laser at Lasers Munich that could be the key to smaller hole sizes. The new laser resembles the standard CO2 laser but is based on carbon monoxide or CO gas that emits light at 5 microns rather than 10 microns. The wavelength difference supports hole sizes down to 25 microns with a three-pulse drilling process similar to CO2 lasers. Our CO laser can deliver similar power output to its CO2 cousin, so throughput should largely be unaffected. The CO laser will sell at a slight premium to CO2 but it will be considerably less expensive than other potential light sources. We have begun working with one of the leaders in via drilling to demonstrate the capabilities of the laser as well as overall tool architecture. The time to revenue will be longer due to process and tool development. The market is quite sizable with approximately 10,000 laser via drilling systems in the field today.

Short pulse processing has been an activity-rich environment that promised large orders to successful solutions. We had a few of these but the follow-on orders have been slow or failed to materialize. The culprit is the consumer electronics products that utilize the sharp pulse processing techniques have failed to meet their market acceptance and volume goals. We've seen a couple more examples of this recently, resulting in the deferral of approximately $10 million of sales originally planned for the current quarter. This figure is incremental to what we had previously reported. While it might be tempting, ignoring these opportunities is not the right answer. We need to position ourselves to better evaluate potential.

To that end, we have purchased the assets of Raydiance, Inc. and rehired a core team of its former employees. Raydiance has built a strong share and application know-how position in the ultrafast laser and optical subsystems market for precision micro materials processing, specifically automotive fuel injectors and medical device manufacturing. The recent introduction of the new Monaco and Rapid FX ultrafast laser products from Coherent, together with Raydiance's expertise in ultrafast optical subsystems, will enable Coherent to provide an unmatched portfolio of laser and optical subsystem solutions to address our customers' needs in both micro materials processing and microelectronics. The former Raydiance business will be combined with the recent Tinsley Specialty Optics acquisition as part of Coherent Integrated Optical Systems.

Materials processing orders of $26 million were down 17.9% sequentially and 30.7% versus the prior-year period. Volatile bookings are not new in our materials processing business. There were a number of positive Q3 takeaways that were masked by the above result. We received record CO2 orders for marking in China, and this is very encouraging given the high level of domestic and international competition, suggesting that customers recognize the performance and reliability advantages of our products.

Included in the CO2 orders were first articles for a competitive displacement at a major customer. If successful, we will see volume orders in fiscal 2016. We also received initial bookings for a major converting project using E-1000 lasers and J-3 lasers for denim marking. Both opportunities could lead to very attractive fiscal 2016 revenue.

On the downside, we have seen an investment slowdown for cladding in the oil and gas industry. While not large dollars, it highlights the sensitivity that consumer demand plays in this market.

The big news for us was the formal launch of our second-generation HighLight FL fiber laser system at Lasers Munich. The new architecture is easily scalable by aggregating building blocks. The initial range is 2 to 4 kilowatts with higher powers becoming available in the future. The Gen-2 device uses house water for cooling as opposed to deionized water required in the Gen-1 product. We can offer various levels of integration, from a fully integrated turnkey box all the way down to components and subsystems. This allows customers of different scales and capabilities to select the best option for their specific needs. We also provide processing results for a range of materials. The cutting speed and quality were consistent with the needs of the end-users. We believe our results for higher-reflectivity metals are superior to any other source in the market today. The response from customers was very encouraging including multiple meetings with tier-one users. We will be scheduling demos over the next few months and, if successful, we would expect revenue opportunities to emerge in the second half of fiscal 2016.

The new products that were recently released at the Munich show offer customers some very impressive capabilities, and we look forward to telling more of the story over the coming quarters. As these new products transfer to manufacturing we will be reducing our R&D spend. In addition, we have been working on transferring all activities from our Hanover facility, home of the former Innolight business, to other European locations. The transfer is complete and the last costs will be recorded in the current quarter. On a combined basis, these actions will reduce expenses by $5 million per year beginning in Q1 of fiscal 2016.

We will be presenting at the Needham Industrial conference on Thursday, August 6, in New York, and look forward to seeing some of you there. I will now turn the call back over to Jay for the Q&A session.

(Operator Instructions) Jim Ricchiuti with Needham & Company.

Just wanted to touch base with you on what your comments on the display market. If I heard you, you are anticipating orders in the current quarter or next fiscal quarter, some of these larger ELA orders. Is that correct or did I mis-hear?

That is correct. And it's consistent with what I had said last quarter as well.

Okay. There are some equipment companies in the space that are also talking about some large orders in the display market, looking out to the first half of the calendar 2016. And I'm wondering, are these -- what is your visibility like even as you look beyond the next one to two quarters? I'm just curious if this is aligning with what you are seeing in the market. Maybe you are seeing orders ahead of them. Or are there potentially other larger deals behind this?

There are a limited number of integrators that serve this market today, and we do business with all of them. So our visibility through those integrators, I think, is pretty good. The difference in timing between what we are seeing and what others in the space are seeing may simply be related to the guidance that we give to customers that some of the components, particularly the optics, are fairly long leadtime items that we try not to keep in stock, given the cost and complexity. So we have asked them, informed them to try to put orders in well ahead so that we can get those materials in line for their requested delivery date. So, to put it bluntly, they need to work backwards from when they want the tool delivered is when we need to see an order.

Okay, that's helpful. And just putting that aside, looking at the outlook for Q4, it sounds like you are already seeing some softening in your semi business. If you were to look at some of the other markets and maybe highlight areas that potentially are weaker in terms relative to your guidance, it sounds like semi -- is that the biggest factor in terms of the softening in that microelectronics piece of the business?

You may not recall, Jim, but we had issued a caution warning on semi last quarter as well. And we thought we had captured most of it, but it has weakened further. I'd have to say that this is unfortunately not uncommon behavior in the semi market, that when they perceive its tightening they lock down pretty quickly and try to burn off as much inventory as they can. We are seeing some of that behavior right now.

The other area that had an impact on our fourth quarter was we were expecting, as I mentioned in my prepared remarks, we were expecting some orders for micro materials processing out of the consumer electronics industry. And given the weakness in the devices, the weakness in sales of the devices that these lasers with support, those investments have been deferred.

Thanks a lot.

Mark Douglass with Longbow Research.

Leen, did you call out the sales by end market?

I did not because we have the supplemental information, it's already probably on the website, that has the trended information for market by region, everything.

Okay. With the call out of the reduction in expenses of $5 million a year, is that all in OpEx?

No. About 50% is R&D, 40% in manufacturing, and then the remaining 10% in SG&A.

Okay. And that should be spread evenly throughout 2016, if we try to capture that?

Yes, because it's starting in Q1, yes.

Okay, excellent. And then with Raydiance, so you really just -- is this buying really the technology and the know-how, John? I guess a little bit of installed base, you get some service revenue as opposed to actually using their laser-based platform. It sounds like you are going to use more your laser-based platform, then you are just using their expertise and their connections. Obviously, their relation with Samsung -- you already have a strong relationship. That factor into it, too?

We certainly bought it for the intellectual property. Your comments are correct that they have an installed base that is actually utilized at a pretty reasonable rate and we will be taking over the service support for those products. And we will use their know-how and technologies to continue to develop ultrafast processing in multiple markets, not only the markets they serve today but markets that we envision going forward.

Okay. And then with the CO laser, has that been pretty well received? Sounds like it's still really early. When would you think you even get revenues on that? And when you do, how much cannibalization is there going to be versus really it provides maybe some market share gains or even new opportunities?

So the CO laser is early in the market. There's got to be, as I mentioned, a lot of process and tool development. While it has roughly the same form factor as a CO2 laser, the change in wavelength does require a tool manufacturer to accommodate for that, so different optics, scanners, et cetera. As we discussed, I think, in Munich, it works when you are using very short working distances from the objective to whatever the surface is. So, in other words, the last lens until you are drilling a hole or cutting, because CO -- there's a strong water absorption at the CO wavelength.

So it's not a drop-in replacement for CO2. It's an augmentation to the capabilities. In the via market, if the market switches to 25-micron holes and they choose the CO laser as one of the solutions or the solution, that in fact cannibalizes our CO2 business. There are a number of applications, whether it be in the medical market, again taking advantage of very high water absorption, or in the thin-glass film-cutting markets. Those are essentially add-ons to what we do today.

Okay, thank you.

Patrick Newton with Stifel.

I think I need a little bit of handholding here on how the impact of the Linebeam 1500 impacts the guidance for the September quarter. So just to make sure I understand, you would have used your manufacturing capacity to start building that 1500 in the June quarter. As soon as the customer pushed out the delivery to September, I would assume you would have finished it, it's sitting in finished goods. And now you are shifting September quarter capacity to other flat panel display orders. Is that -- I know that's oversimplistic, but is that the right way to think about the cadence and use of your manufacturing capacity?

Yes.

Okay, great. And then -- so, if we -- knowing that and then going back to your original guidance for the year, where you talked about second-half growth seeing about 10% higher than first half, I think you walked us through that semi was an issue. I think you quantified that as being a couple million dollars in revenue. It sounds like you had, you said, a consumer electronic quarter push out. I'm assuming that's roughly $10 million sapphire order. Was there any other material push out that I missed? And did the shift in the timeframe of the delivery of the Linebeam 1500 impact any other cadence of your flat panel display revenue?

No, there was no impact to the FTE business from the shift of the 1500 back to September. The gap is primarily due to some lost opportunities -- and when I say lost, I mean not competitively lost but not materializing -- for microelectronics, using short pulse lasers. And that the semi market actually got worse than we had originally projected from Q3. There are some other cats and dogs in there, but that's the bulk of it.

Great. That's very helpful. And then can you give us any type of thoughts or information around why the customer moved from an expedite position back to the original delivery timeframe? Is there any yield or demand issues for their final product that would have done that? I think the reason I ask is I think that investors interpreted at the expedite request to be a positive for follow-on orders. I just wanted to be sure that this reversion shouldn't be seen as a negative.

So we know exactly why the customer pushed out, but we're not at liberty to discuss that.

Okay. And then you did reiterate, I think, on an earlier question that you do have comfort and large FPD orders exiting this fiscal year and into fiscal year 2016. Should we think -- in the past, when these tranches of orders have come they have had pretty high magnitude, $100 million or more. Is that size reasonable to the opportunity that you see on the horizon?

It's a big number. Whether it's above or below $100 million I'm not going to comment. But it is certainly a meaningful number, when you take all the orders that are in the pipe line together.

Okay. And then just last one for me is along the lines of Raydiance and Tinsley acquisitions. I would assume that Raydiance is the majority of the revenue, but can you give us a rough revenue split between the two? And then could you also, given that 100 installed tools for Raydiance, can you help us understand the mix of your expectation of new tools sales versus service?

So the revenue is about equal between Raydiance and Tinsley. Remember that the business Tinsley was doing with Coherent is now internal, so we don't count that as outside revenue any longer. With the Raydiance product I'd say in the short term it is going to be mostly service and spares and some tools here and there, as we get our arms completely around that portfolio.

Given that Tinsley is now all internal, should we just assume that the margin profile of the FPD products gets that much better?

So all of Tinsley is not internal. As I mentioned, we will continue to do their aerospace and defense business. The aerospace side is predominantly ground-based and space-based telescopes. And there are some contracts that are being fulfilled along those lines. And I would say that for when we ship a large-format system, meaning 1000 millimeters and above, that that is going to benefit us on the gross margin line. For the 750s, at least for the near term, we will continue to use our existing suppliers.

Great, thank you for taking my question.

Larry Solow with CJS Securities.

John, just on the Q4 guidance, not to harp on it, just trying to connect the dots, I think you had guided -- I think last quarter you actually had given back half guidance so that the full-year number was, like, I think, $820 million to $830 million. So if I do the math now it's like you are losing about $25 million, plus or minus. Is it really just the three things -- the consumer electronics opportunity, which is about $10 million that you have quantified, and then the weakness in semi cap and some of the lost opportunities in short pulse? Is it just those three or are there other nits and nats in other areas?

Larry, as I mentioned -- in my math is a little bit different. I think the gap is about $20 million. Be that as it may, about $10 million is the short pulse opportunity. There's a few million that comes from semiconductor. And then there's other pieces here and there that make up the difference. There's not one outlying item.

Okay. So you are not seeing them -- and so you are not necessarily seeing a general sluggishness in your markets or anything? It just seems to be these particular areas. Right? The one biggest piece being the consumer electronic devices and then semi cap?

That's correct.

And then in the consumer electronics device, in particular, you said it is deferred. Is that indefinitely? What is your thoughts on that?

The term deferral is meant to mean two things. It hasn't been lost competitively, but it's going to require an increase or a need to increase capacity on the part of the end-user, in other words, the device manufacturer, before that order comes back on the books. And the question is, does that happen before the next generation, whatever the consumer electronic device is? Do they expand capacity through the existing one or do they just wait until they have the next-generation product ready and roll it into that? It's difficult for us to predict that, given the separation between us and the people who are ultimately making those decisions.

Right. But in the long-term, would you expect in this next-generation product, to be involved with that? Or you don't -- and does this hinder those chances, or not particularly?

No, I don't think it hinders it. As I mentioned during my comments, there's an awful lot of work going on in short pulse processing, trying to develop novel manufacturing techniques for a wide array of products. Some of them have taken hold and others haven't. And one of the reasons that we acquired the Raydiance assets is we feel that can help develop that work it better and faster than we could simply as a laser manufacturer.

Okay. You discussed, I know, definitely longer-term some good opportunities in the drill via market and obviously with -- what about near-term, particularly in advanced packaging? Is that showing signs of continued recovery? How is that market doing in general?

As I mentioned in my comments, we see a lot of activity in that area with good order opportunity. It's a very different market than it was a year ago, where it was struggling to find its footing and now it's taking steps forward, seemingly on a quarterly basis.

In terms of the next-generation fiber laser, I think you said you are hopeful or expecting some meaningful orders or sales beginning in the back half of next fiscal year. Without getting into really quantifying guidance or anything, what do you think -- can you help us size or frame that opportunity over the next few years and what the step up from your original fiber laser to this one does in your addressable market?

Larry, I am going to punt on that one, because the last time I gave a few on what I thought we would you in fiber lasers, I was wrong. And I'd prefer not to make the same mistake.

But how about not what you expect that what the -- even the increased kilowatts, what percentage of the market you were addressing and now what percent you can -- I'm not saying you're getting any percentages, just what is the addressable target? I assume it goes up severalfold?

If you look at the market for one-kilowatt lasers, which is where we played with the first-generation product, and where we go with a multi-kilowatt platform, it's probably in the order of 10X step up in addressable market. We were probably looking at a market that was $100 million and now we are probably looking at a market that's $1 billion.

And why do you think that your initial expectations on the first-generation -- why you didn't get there? Do you have anything in particular you could share, or -- now that it's looking back and not looking forward?

I think there were a couple of things. I think the market moved to higher powers faster than we originally anticipated. And I think that, while the initial product design worked well in certain parts of the world where we were seeing a lot of activity, the use of deionized water proved to be more of a challenge for the customers than we had imagine. That's one of the reasons we eliminated it in the second-generation product.

Right, okay. Gross margin obviously better than expected, even with lower sales. First question -- is the margins on the Linebeam -- would that have actually been -- would that have hurt margin on an overall basis, considering it's, one, probably harder to deliver and it's a much bigger product? Or would that have been in line with the margin?

It probably would have been accretive to what we (multiple speakers).

Okay, okay. And then I think you mentioned other benefits or mix, which, hopefully, going forward that continues. And then lower warranty costs -- are the lower warranty costs also sustainable, do you believe or is it --?

We have certainly been putting a lot of work into cost of quality because it's critical for the customers and it's a differentiator in the marketplace. Warranty tends to fluctuate on a quarterly basis, just like mix can fluctuate on a quarterly basis. But we've tried to put programs in place to make the warranty costs go down on a consistent manner.

Just a question on China -- obviously, a little bit more of the slowdown there in general. But I know you've mentioned that spending is -- it's not unilaterally slowing down and it's sort of mixed, depending on what programs you are involved in. Anything you can update in terms of impact or potential impact on Coherent in particular?

We haven't seen much of an impact from all of the drama going on in China yet. It doesn't mean that we won't see any. As I mentioned, for example, we had record orders for marketing systems, CO2 marketing systems, coming out of China. I think the research market is doing fine. But it is a pretty turbulent place and it's difficult to project how that is going to translate into the mid-and long-term because we've certainly seen that this in the past, where the government through the banking system has responded quickly to try to get things under control. But thus far, not a lot for us to report in that regard.

Okay, and just last question -- I know you get this a lot but I'm just adding it from a lot of clients myself. So just any update on your thoughts on capital allocation -- obviously, you found a couple of nice little tuck-in acquisitions, which it sounds like strategically they make a lot of sense. And I guess, on the positive side, you only had to spend $10 million to get them. You have a lot of cash, obviously, and people have been obviously always view that has certainly overall positive but would like to see you do something with that cash. Thoughts on how you prioritize your capital allocation going forward?

I'll tell you what I consistently say. We are open to multiple uses. And when we make deployment decisions, those decisions should have the opportunity to drive good returns for shareholders. If it means doing acquisitions or if it means buying back stock, it's what we will do. We are not going to run out and spend the money just to make a metric on the balance sheet look better.

Fair enough, great. Thanks, I appreciate it.

Joan Tong with Sidoti & Company.

John, you mentioned in the past your semiconductor equipment business is mostly driven by the utilization rate because there's a lot of services revenue coming out from that segment or subset. If I were to ask you in a midcycle type of situation -- we know that is a boom-and-bust end market. In a midcycle type of situation, what is the revenue breakdown down between service and product for you guys?

On a percentage basis, midcycle?

Yes.

And Leen is looking at the data really quickly. I'm going to take a swag and say it is probably 50-50.

Okay. I see, that makes sense. You mentioned utilization rate, which we have seen that is still pretty high. So really the weakness is all coming from the equipment sales side?

It's all coming from new system sales. That's correct.

Okay, okay. I see. And Leen, did you mention how dilutive the two acquisitions going to be in the upcoming two or three quarters? I know that you projected accretive situation by the end of fiscal 2016. But do you give guidance in terms of how dilutive for the next couple of quarters?

No, but you can probably calculate it for the fourth quarter because I gave some numbers with respect to revenue and period expenses. And I can tell you that for the fourth quarter it's probably around $0.05 per share.

$0.05 per share? And you mentioned it's about $1.5 million is operating expenses from the additional operating expenses from that two acquisitions for the September quarter. Am I correct?

Yes.

Okay, good. And just one quick question -- John, I haven't heard you talk about the additive manufacturing side of things. Can you just give us a quick update?

Well, I mentioned -- I alluded to one application, which is cladding, where we had seen some reasonable business for the oil and gas industry. Given how pricing has gone in the oil industry, in particular, those capital investments have slowed down. As far as other applications in automotive, et cetera, they still exist. But they are becoming a little bit more challenging to capture.

Okay. And then finally, just to follow up on that margin question, the gross margins -- very nice this quarter. And then, meanwhile, you have the large ELA system got pushed out. And somebody asked about whether that particular sales would have been accretive, and you said yes. But is the margin of those large systems on par with the smaller guys, like the 750, in general?

I don't think that we've ever -- well, I know we haven't given an exact margins on any of these systems. The large ones are probably not quite as good as the 750s, but they are close.

Okay. All right, great. Thank you.

Jim Ricchiuti with Needham & Company.

The next question comes from Patrick Newton with Stifel.

Just a follow-up on a philosophical question that I get from investors all the time, which is, should we think about Coherent as just a pure cyclical company or Coherent as a growth company? And so if we go back and look at fiscal year 2011 as your prior revenue peak out of the cycle and then fast-forward today, at the midpoint of guidance, revenue is virtually flat over a four-fiscal-year period. There's a lot of pros. I think you can talk about flat panel display being a pro, layer in some acquisitions that have helped out. And then there's a lot of cons. I think you have talked about in the past about how API is down significantly from that prior peak. And you just touched on semi in the current quarter. And I think scientific and research was also down from those prior peak funding levels.

But as we look forward over the next four years and if you are talking about all of the new products that were announced at Munich, how should we think about Coherent? Are you a Company that's a growth Company that's poised to break out and that we should see rebounding and a cyclical uptick in the semi business or the API business, or should we think of you more as a cyclical Company and productivity gains that you create through new lasers actually impacts growth? So just philosophically, if you can help us level said how we should view Coherent.

Sure. It's a very fair and appropriate question, Patrick. What I would highlight from 2011 is we had two markets that went through an inversion, I guess. You already mentioned one, which was API. And there was a fairly significant amount of revenue lost between 2011 and 2015, for a variety of reasons. Some of it was overcapacity. Some of it was one of the main competitors was basically sidelined for a year or two, and all the business was falling to our customers.

But the other market is a scientific market, and we have actually quantified that one for people, that between I think it was 2011 and 2014 revenue in scientific went down by about $35 million. And that was essentially stimulus related. And the loss of revenue in API was actually greater than that.

So when I look at what we are doing and I tried to judge the efficacy of programs, the investments that we have made and that we have targeted for different markets have largely delivered what we expected of them. But we were trying to fill a $70 million-plus whole created by those two markets. If you take a baseline, today's baseline, and say what does it look like going forward, we have certainly -- I think we've done a good job of positioning ourselves in a number of markets where we should be able to capture growth going forward. The Monaco is a pretty exciting product. The CO product can be a game changer. And clearly, the fiber market is a big opportunity. We don't have to capture a lot of market share for it to move the needle for us. So I am comfortable that there are good growth opportunities on the horizon, I think, if we are dealing with 2015 as the basis for comparison.

And, John, you mentioned Monaco, the carbon monoxide and fiber. You didn't mention flat panel display. Is that part of the growth story?

Well, of course, flat panel display is a big part of the story. But I mentioned the three because these are new opportunities that are not part of the mix. So yes, they all contribute. I wasn't excluding flat panel because of any reason other than I was trying to focus on new things.

Great. Thank you, John.

Mark Douglass with Longbow Research.

With expectations for follow-on order or more orders, I should say, in fourth-quarter in 1Q and flat panel, what are the chances any of these sneak into fiscal 2016? Or would these predominantly fall into fiscal 2017?

Oh, you mean for revenue?

Correct, correct.

I think a fair number will actually be 2016 deliveries.

Oh, wow. Okay. So you have, certainly, an open capacity?

Yes.

Okay, thank you.

At this time we have no further questions in the queue. I will turn the call back over to John Ambroseo for any additional or closing remarks.

Thank you so much, everyone, for your participation. And Jay, thank you as well. We will look forward to speaking to you in a few months.

This concludes today's conference call. You may now disconnect.