II-VI Inc (IIVI) 2004 Q4 法說會逐字稿

Good morning. My name is Nicole. And I'll be your conference facilitator today. At this time, I would like to welcome everyone to the II VI Incorporated Fourth Quarter Fiscal Year 2004 Conference Call. All lines have been placed on mute to prevent any background noise .After the speakers' remark there will be a question-and answer period. If you would like to ask a question during this time simply press “*” then the number “1” on your telephone keypad; if you would like to withdraw your question press “#” key. Thank you. Mr. Creaturo you may begin the conference.

Thank you Nicole and welcome to the fourth quarter fiscal 2004 II VI Incorporated Investor Teleconference. As a reminder, this teleconference is being recorded on Thursday August 5, 2004 .The forward-looking statements we may make during this teleconference speak as of today and we do not undertake any obligation to update these statements to reflect events or circumstances occurring after today. Joining me today is Fran Kramer, Our President and Chief Operating Officer. The prepared comments for today's teleconference include a review of the fourth quarter and full year financial results and a business and operational review. Following these prepared comments we will have a question-and-answer session.

Total company bookings for the quarter ended June 30, 2004 were a record 45.7 million and increased 41% as compared to the same quarter last year .The quarter just completed also represented the third consecutive record bookings quarter recorded by the Company and bookings were11% higher then our previous record quarter. Infrared Optics bookings increased 28%. Near-infrared optics bookings increase 89% 89% and military infrared optics bookings increased 93% as compared to the same quarter last year. In addition, the company recorded approximately 1.4 million of eV products bookings and approximately 900,000 of silicon carbide bookings from the Wide Bandgap Materials group during the quarter. Bookings are defined as customer orders received that are expected to be converted into revenues during the next 12 months. Bookings are adjusted if changes in customer demand or production schedules move a delivery schedule past 12 months. For the year ended June 30, 2004, overall bookings increased 19% to a record 162.8 million as compared to the same period last year. Total company revenues of 43 million for the quarter ended June 30, 2004, increase 31% as compared to the same quarter last year and represented a fifth consecutive record revenue quarter for the Company. Infrared optics revenues for the just completed quarter increased 34%; near-infrared optics revenues increased 30%; and military infrared optics revenue increased 10% as compared to the same quarter last year. In addition, the company recorded approximately 2.3 million of eV product revenue and approximately 1.3 million of silicon carbide revenues from the Wide Bandgap Materials group during the quarter. For the year ended June 30, 2004, overall revenues increased 18% to a record 150.8 million as compared to the same period last year. The Company's backlog at June 30, 2004, was approximately 69 million, which was up from the March 31, 2004 level. Components of this backlog includes infrared optics at 21.5 million, near-infrared optics at 14.5 million, military infrared optics at 24 million, eV PRODUCT at 7 million and silicon carbide at 2 million. Backlog is defined as bookings that have not been converted into revenues y the end of the reporting period.

Gross margin on manufacture products as a percentage of sales at 43.5% for the quarter was down slightly from 44.5% when compared to the same period a year ago and down from the 46.5% reported in the third quarter of fiscal year 2004. This reductions in gross margins are reflective of additions in manpower combined with depreciation of higher capital spending as the Company begins to ramp up for further growth beyond its current capacity. The gross margin reduction also reflects a slight decrease in the strength of the Japanese Yen.

Sales in Japan represented over 10% of our total revenues for this quarter. For the year, the gross margin on manufacture product as a percentage of sale increased more than 3% as compared to the previous year. Increased sales volume for the year as compared to the prior year was the main factor for the increased gross margin percentage. The gross margin improvement for the year also reflects a variety of dividend improvement and cost reduction programs occurring at our various facilities.

A final factor in the improved gross margin resulted from our majority ownership of a new sales and marketing organization in Switzerland effective December 1, 2003; II IV acquired 75% interest and II VI lots Swiss which is distributing infrared optics in Switzerland. This new subsidiary relationship as opposed to the prior use of the distributor has added incremental margins for sales in this country.

Internal research and development expense for the quarter was 1,252,000 and was higher than the same quarter last year in terms of dollars and as a percentage of sales adjusted over 2%. For the full year internal research and development expenses was approximately 2.3 million higher than the prior year. The higher expense for the year was primarily the result of lower external contract support for the Company's effort in silicon carbide. This in turn requires more funding to be provided by the Company. In additional to the efforts in silicon carbide, the Company's internal research and development expense reflect efforts focused on corporate research and development activities and the research and development activities of eV product . Internal research and development expense for fiscal year 2005 should decrease from the level of fiscal 2004 due to more external silicon carbide contract funding that has been received today and is expected to be received in fiscal 2005. Selling, general and administrative expense for the quarter as of percentage of revenues was 21.4% as compared to 21.2% of revenues in the same quarter last year. For the year, selling and general administrative expense as a percentage of sales was 22.8% as compared to 22.2% in the prior year. A higher revenue level achieved during the just completed quarter had the higher compensation expense for the Company's worldwide profit-driven bonus programs during the year. Interest expense for the quarter was $60,000 which was about 60% lower than the interest expense in the same quarter last while interest expense for the year was $412,000 or about half of the interest expense in the prior year. A majority of the companies that have LIBOR based interest rates, while these rates have started to trend upward recently, the company's weighted average interest rates remains relatively low and currently is approximately 2.1%. The lower interest expense for the quarter also reflects lower overall debt level for the Company. During the quarter the company repaid 2.4 million under its credit facility. The Company's total debt at June 30, 2004 was 15.5 million. The company's current credit facilities schedule to expire in August 2005 and we expect to have a new facility in place in the second or third quarter of fiscal 2005. Beginning with the quarter ending September 30, 2004 our borrowings on the credit facility would be crossed by that short-term debt and until a new facility is obtained.

Other expense for the quarter of $137, 000 reflects several changes, several factors including one currency expense, the 25% minority interest in II VI lot GmbH and 11 VI lot Swiss, our sales and marketing subsidiaries in Germany and Switzerland respectively and other expense items. Our other expense was partially offset by interest income and other income items. For the year, our other expense items almost perfectly offset our other income items. The effective tax rate for the quarter was 19% and brought the four year effective tax rate down to 29%. The decrease in the effective tax rate for the quarter and for the year is the result of the finalization of an external [patch] project that analyze the mix of U.S. and international earnings and increase in deferred taxes. And the result of the reduction of certain tax accruals. The Company benefits from lower tax rates on its China and Singapore operations where the tax rates are currently 7.5% and 20% respectively. In fiscal year 2005, the Company currently expect its effective tax rate to be approximately the same as in the just completed year.

Looking at earnings before income taxes, the results for the quarter were 38% higher than the same quarter last year while the results for the year were 52% higher than the prior year. Net earnings for the quarter were a record 6,024,000 or $0.41 per diluted share. These results compare with net earnings in last year's fourth quarter of 3,626,000 or $0.25 per diluted share. For the quarter ended June 30, 2004, average shares outstanding were 14,409,000 while average diluted shares were 14,780, 000. Net earnings for the year were a record 17,337,000 or $1.18 per diluted share. These results compare with net earnings in the prior year of 11,620,000 or $0.81 per diluted share. For the year ended June 30, 2004 average shares outstanding were 14,317,000 while average diluted shares were 14,718,000. Our worldwide employment at June 30, 2004 was 1,247 employees. This numbers compares with worldwide employment at March 31, 2004 of 1,203 employees and June 30, 2003 of 1,094 employees. Approximately 60% of the employment increase during the fiscal year occurred in China, while the balance of the increase has occurred at various U.S. manufacturing sites. This now concludes the financial review, and Fran will now give a business and operational review. Fran.

Thank you, Craig. The business conditions faced by II VI Worldwide continued to improve throughout all quarters of fiscal year 2004. Each of our business areas improved in the fourth quarter, and I want to congratulate and thank all of our employees for achieving these results. The IR optics business unit equaled its highest booking quarter ever in the fourth quarter with orders of $23.1 million. Bookings in the United States and Japan for both OEM and after-market segments were particularly strong. The first quarter bookings for fiscal year 2005 are forecast to exceed the $23 million level. OEM machine builders and laser resonators manufactures introducing higher powered models, which are usually greater then 5 kilowatts in output power as well as robust expansion and low power laser applications such as marketing and engraving will further bolster our bookings through fiscal year 2005.

Shipments for Infrared optics also hit all time highs exceeding $24 million in the quarter. Efforts to increase our capacity to meet increasing demand included the addition of several new machines to fabricate and diamond turn products at our Saxonburg, Pennsylvania facility. We continue to expand our employment at Saxonburg, in Singapore and in Suzhou, China. Trends that we continue to see in the carbon dioxide laser field include, first, an increased use of carbon dioxide lasers for microbial drilling systems. This is due to strong demand for cell phones, laptop computers, PDAs and electronic games. Second, the trend for low power carbon dioxide laser marking is experiencing strong growth with new applications that are especially prominent being in the marking of perishable goods with the CO2 laser provides a cost effective solution compared with traditional marking methods, which require ink which is undesirable for food and beverage mark coating. Third, in the high power area, carbon dioxide lasers continue to be the workhorse for sheet metal cutting applications. System integrators are now utilizing smart optics or adaptive optics that provide variable focusing or real time focusing of the laser beam over the entire width and depth of the work table. This consistency allows for free running or light out running of the laser systems as manufactures are looking for more cost effective and more deterministic methods to increase the output of their equipment while minimizing their labor cost.

In our VLOC near infrared laser optics business unit, bookings remained very strong during the fourth quarter as record bookings of $11.5 million were up 89% compared to the same quarter a year ago; two thirds of this increase was related to the new UV filter product line, while the remaining third was mainly driven by broad-based growth in medical, military and instrumentation market segments along with new bookings in optics for the AG laser after market. For the entire year ending June 30 2004, VLOC bookings increased by 22%, as growth was recognized across all product lines. Fourth quarter revenues for VLOC were up 30% over the prior year and 16% over the third quarter, the majority of the growth over last year was increased shipments of weight plates, standard optics and crystal products used in medical, military and instrumentation systems.

Also during the fourth quarter, VLOC executed its aggressive UV filter ramp up plan and made its first significant shipment from this new product line. These shipments were approximately $700,000 for the quarter; we will continue to work hard over the next several quarters to further expand our capacity to meet the increasing demand for these products. The major focus at VLOC is adding capacity to keep up with the increased demands. We are continuing to add manufacturing capacity in Florida primarily to support growth in the military market and in China to support projected growth in the various commercial markets. Notably during the fourth quarter we made shipment of our first Near-IR optics that were coated at our Suzhou, China plant.

Our exotic electro-optics subsidiary completed the fiscal year with solid bookings and revenues. Bookings for the fourth quarter of $8.7 million increased to fiscal year's total booking to $29.2 million. This is a 26% increase over last fiscal year. Revenues for the fourth quarter of 7.3 million increased the fiscal years revenue to 25.3 million. This represents a 10% increase over a year ago. For the quarter, significant bookings Javelin missile domes and sapphire window targeting pods for the ATP sniper program were received for 2.4 million and 1.7 million respectively. Bookings for the year improved substantially in our core military and sapphire window product lines. Our core military bookings increased to 23.8 million from 18.6 million a year ago and our sapphire product bookings improved to 5.4 million from 1.4 million. Market demand for higher performing navigation targeting and surveillance systems plus the need to replace and repair hardware extended or damaged in the Iraq war effort were the primary drivers for these improvements.

Bookings in our large optics coating facility product line were less than 500,000, down from nearly $3 million a year ago. This is a result of our decision to exit this product line. At present the only orders related to the large optics product line are for the cleaning and storing of government-owned equipment.

Revenues for the quarter reflected improved productivity in our core military and sapphire window product areas. Quarterly revenues for our core military business of 5.5 million was the highest mark achieved this fiscal year and represent a 15% improvement from the year-to-date run rate. Revenue for the fiscal year increased 15% in this product line as compared to last fiscal year. Our sapphire product line's fourth quarter revenue of $1.7 million was 75% above the quarter 1 through quarter 3 average and we were able to achieve our customer expectations for a much higher production rates. Annual revenue for the sapphire product line of nearly $5 million was up almost 75% from a year ago.

Investment in equipment, human resources and process documentation are some of the key components of this improved productivity. Work on the joint strike fighter wind screen, which is a window assembly made up of 7 large sapphire panels is progressing nicely. We are working with Lockheed Martin on this product which at present is a development effort. The proposal for a low rate initial product quantity has been submitted and we expect the negotiation of the contract would be completed within the next 6 months. This represents a key opportunity for us and was part of our initial business plan prepared 3 years ago to invest in the equipment and manpower for the sapphire product line.

In our compound semiconductor segment, eV products posted fourth quarter bookings of $1.4 million. Bookings for all of fiscal year 2004 were $8.2 million or 38% higher than the prior fiscal year. The bookings growth is driven by stronger demand from the medical and security segments and the emergent industrial applications. Fourth quarter revenues for the division at strong at 2.3 million; the higher than forecasted shipments were due to order timing as well as overall higher demand for the division's products. The division finished the fiscal year at $8.2 million or at 71% higher than the prior fiscal year. The outlook for bookings and revenues in the new fiscal year 2005 is positive. Bookings and revenue are expected to grow in excess of 20% respectively.

Work is ongoing to continuously improve the performance and the yield of the eV cadmium zinc telluride, detector material that goes into every eV detective product. The division is pleased to reach another major milestone under technology development plan with the growth of detective material exhibiting electrical properties in excess of all publicly reported results. This new world record performance comes from our recently commissioned [third] generation furnaces; this significant improvement in the material quality to enhance the performance of existing products as well as enable new higher performance products. Also in our compound semiconductor segment the Wide Bandgap Materials or WBG group generated revenues and bookings for the fourth quarter of $1.3 million and $900,000 respectively. The total revenue for the quarter increased in excess of 30% over revenue for the third quarter with new DOD contract billings accounting almost -- for most of the increase. Product bookings and revenue remained constant when compared to third quarter averaging almost $230,000 and 200,000 a month respectively and a factor of 3 greater than the same time period last year.

The WBG division ended the fiscal year with $4.4 million in bookings and $3.6 million in revenue. Revenue from wafer sales for the year was $1.8 million, nearly 450% higher than prior fiscal year. Several new silicon carbide wafer customers were added in North America and Asia during the fourth quarter as we continue to expand both production capacity and marketing activities. The outlook for bookings and revenues in the new fiscal year 2005 is positive. Bookings and revenues are expected to grow an excess of 50% respectively. Technology development efforts continue to move forward with emphasis in the areas of material purity, defect density reduction, and diameter expansion. During this quarter significant improvement was demonstrated in our 3-inch diameter semi-insulating product resulting in a three-fold lowering of micro-pipe density to less than 15 per square centimeter.

Product diversification efforts continue on a rapid pace with new sales of 4H poly-type conducting wafers for power applications. The development of 100-millimeter diameter semi-insulating silicon carbide substrates for radio frequency power amplifier applications has proceeded well. The first commercial shipment of a 100 millimeter wafers was made to two customers in June. Manufacturing scale up efforts continued at a rapid pace during the fourth quarter with a commission of a new wire saw capable of slicing 100 millimeter diameter wafers. The commission of the saw will help to maintain a seamless transition to larger diameter substrates while maintaining the same quality as has been demonstrated on the smaller diameter products. In addition, we are preparing for the installation of a new class-100 clean room. This installation will enable us to continue to improve our wafer cleaning processes ensuring that they meet the aggressive requirements of our customers.

In conclusions we are pleased with the results of financial year 2004 and look forward to fiscal year 2005 to continue to grow sales and earnings at a rate at least equal to the compound annual rate of growth that we have experienced annually over the last three to five years. Improvement in the worldwide economies coupled with the position that we have in the laser material processing marketplace should enable us to meet the expectations that we have outlined. Craig, I think we are now ready for a few questions.

Thank you Fran. Before we begin the question-and-answer session, I would like to mention that these comments and answers to certain questions contain forward-looking statements, which are based on current expectations. Actual results could differ materially. For information about factors that could cause the actual results to differ materially please refer to the risk factor section of our Form 10-K for the fiscal year ended June 30, 2003. Nicole we are ready to take questions now.

At this time, I would like remind everyone, in order to ask a question please press "*" then the number "1" on your telephone keypad. We will pause for just a moment to compile the Q&A roster. Your first question comes from Pierre Maccagno of Needham.

Congratulation on the quarter Fran and Craig. Can you comment on the ASPs, are they increasing and also inventory levels?

On the average selling prices in one of our business segments we are increasing pricing that would be in our infrared optics business unit where the price of selenium has increased substantially. We are passing that surcharge on to our customers and that has been -- that went into affect on June 1. So that will be an upward trend on the higher optics selling price. The rest of our businesses are very stable as price pressure in a couple of our units at VLOC where there is a little more overcapacity and in the business for some of those products that were partially semiconductor related products and partially telecom products. So we're getting some price pressure there, so that might get a little downward trend on a couple. The rest of the units like our Exotic group eV product they are holding pretty well and our WBG unit just depends if we are introducing a new product we'll probably have to be a little more aggressive on those but we had made those sales before. So, overall pretty good view on prices. The second question was?

Inventory levels with your customers, are they stable?

Yeah, most stable I would say and the biggest volume places when we are delivering to customers and they have inventory tuned into what we supply them would be on the infrared optics business where we have [JIT] deliveries to two, three, four major accounts. So we are right in -- we are right plugged into their assembly line and they would resist building their inventories and they've held that pretty tight. The other cases where inventory is not so big of a factor quicker turns or development activities we had experience to build up of inventories of any of our accounts. And I am relating to our VLOC products and somewhat an eV product. eV, as you know, has a big account in [GE Runer], [NIF Plug] right into them on a [JIT] basis also.

And regarding the breakdown of your customers' OEM versus after-market any changes there or do you see future changes?

No, that's OEM to after-market ratio, I think, it's probably about what we reported in the past. It is a good part on the CO2 laser optic business as every year goes by; our 4000 more machines go out into worldwide installed base maybe 500 to a 1000 get retired. So it's a net gain of 3000 and that does build the after-market; the after-market is now so large within installed base that it grows nicely, but I cannot tell you exchange the mix between OEM and after-market.

Okay and for Craig, the taxes -- or can we assume the tax for next year was about 30%, will that be reasonable?

It should be close to the right around 29% that we estimated or that we have ended FY '04 as well we are estimating for FY '05. It's a, as you know, being a relatively small but ever increasingly complex international company, we have a lot of opportunities as far as different tax rates and things that we can take advantage of then and we look for those opportunities. We are fortunate to have a rate that's a overall good rate but going forward for FY '05, we are thinking it will be very similar to FY '04.

And then finally the breakeven EPS for eV or silicon carbide has that changed at all or?

That really hasn't changed much. I think that overall the last few quarters we have reported and specifically at eV we are there right now at their level of sales, really is right at a breakeven level. They have done a terrific job in the last few quarters specifically of keeping the cost down while the revenues have increased as we have -- between Fran and I as we have reported. As far as the silicon carbide, that's still a business that we we're investing in, but it's -- again back to Fran's comments a little bit, the product sales that we're seeing, the increases -- that's expected to continue, and in addition we are expecting a higher level of contract revenue in FY '05 then we had in FY '04. So the break-even level is probably about the same, but we've got some better ground to run on here.

Okay finally, your capacity utilization, how is that coming along?

Those might bracket into two or three -- let's just talk about the Infrared optics business and I think we have reported to you in the past that we are getting tight on our capacity in the coating portion of that process and in the diamond turning portion. So those two are probably up in the 90% range, go to rest of the process when we're fabricating in China or Singapore or here -- in the quality processes they go on, we're probably in the 80% utilization.

Okay thank you very much.

You're welcome.

Your next question comes from Chris Versace of FBR.

Good morning gentlemen congratulations on the quarter.

Thank you Chris.

Just I had really one question, the only -- I mean aside from the tax issues, I think, you guys handled pretty well, the only big surprise from my perspective was the gross margin in the quarter. I know you gave some explanation of that. I was wondering if we look out going forward with, a) what is the trend for gross margin, and b) what's the mix that's going to influence that and then I ask that because it appears that the military business kind of faked up and historically that's been a lower margin business for you vis-à-vis the IR optics business, and I am just wondering if you could explain how you see that over the next couple of quarters?

Sure the trend that we -- may be we should step back to the third quarter when we had -- when we talked about the results of that quarter, we really said that that was a quarter where we had pretty much everything going the right way or all of the business is growing in the right direction. And we saw -- we still had a very positive quarter this quarter, and that ended up at 43.5 % on manufactured products. And really if you look out, we think that it's probably going to be pretty similar to whether you want to look at the quarter or the year, they were pretty close in as far as gross margin goes. We think it is going to be probably pretty close to that. The one piece that would potentially pull that down is the capacity expansions that we need to do, specifically in areas that Fran touched on. And we have a pretty decent facility expansion going on here in our Pennsylvania facility. So ramping up for that business in terms of both the manpower and the capital might end up taking the gross margins down a little bit. Fran also mentioned one of the things that we are working on as far as the increase in costs in our Infrared optics business, as far as selenium, we're doing a great job of getting that passed on, but we need to keep watching over that. And I think going forward there's a chance for some slight decreases that should be fairly consistent with what we just ended -- where we want to look at the quarter also the whole year.

Okay. And then just one follow up on the price increase for selenium. I think, Fran, in your comments you mentioned that you started June 1 passing kind of -- pass-through some prices, how sticky is that there?

Well certainly we have a handful of major accounts and ones who resist it most are the OEMs, because they are the ones buying on the big contract. So we have worked through couple of the accounts in -- we have different renewal times for these accounts, so when that renewal comes that's when we are passing it on, and we pass at least two, three of them, very resistant but we are making that stick. I think in the after market where we face more competition, the competition if they choose not to pass on a swing in price increase in the after market, we could see a little bit more success by those guys taking up an after market account or two, but we are real reactive in the aftermarket -- have a big telemarketing staff, 6-8 people, our west coast office and the office here, we will watch that very closely and see how well we can make that possible. June 1 till now is not much experience at all, 60 days not enough experience to tell you how that will work.

Okay and just -- you mentioned -- you pass through -- you are working with two or three customers, any major contracts coming up for exploration or renegotiation in the coming one to two quarters

We have a few blanket contracts that are coming up within both the first quarter and second quarter of the fiscal year. One of the reasons that -- in Fran's remark we were projecting that the Infrared optics business should be approaching or exceeding record levels in the first quarter by 05, part of that is because we will be receiving a couple of blanket orders or expect to receive a couple of blanket orders. Some of those have -- because we have our distributor-- we have now switched distributor relationships and now have fully --75% owned subsidiaries in both Germany and Switzerland, the bookings have become a little bit more steady and predictable, and so we are probably going to be a little less suspect to significant swings quarter-over-quarter because we are booking these more in a month-to-month to basis with these customers. As Fran mentioned, most of the major customers, OEM's wise, we are on a just-in-time-delivery system, so as opposed to booking those in one lump sum we are more or less going to booking those as we receive them. So that should smooth that out, but there are a few large orders that are expected in the first and second quarter of '05.

Great. Thanks, guys.

As a reminder, in order to ask a question please press "*" then the number "1" on your telephone keypad. Your next question comes from Dave Kang of Roth Capital.

Good morning, nice quarter gentlemen. First question is regarding your OpEx, can you just give us a little bit more color in terms of what to expect for the next couple of quarters, can you maintain that SG&A kind of flattish? And secondly more color in terms of geography, you talked abut U.S. and Japan being pretty strong, what about Europe? Thank you.

I'll take the operation question, Dave, and then let Fran address Europe here in a second. But as far as the -- you know where we are at SG&A wise, we have seen -- we are pretty much around that 22%-ish level. We are expecting that, that would pretty much about the same level that we are going to end up by -- that we are going to have in FY'05 compared to FY'04, don't see any very significant items in there that would cause us to say that, that's going to increase significantly or decrease significantly. As we are projecting obviously increase in the revenue, that should pull back percentage down, but that 22%-ish percent range, it's probably about the right range for FY'05 as well. Fran?

And relative to the markets, I would have to say we are heading all three continents, doing very, very strong. Japan and Germany -- I am sorry Japan and the U.S. particularly, Germany and Switzerland, Italy is strong, I won't call it very strong, but its strong and its really out of Europe where we're seeing this smart optics, adaptive optics the types of big machines at 5 kilowatts that are really been affective for lifestyle running, so the German Swiss manufactures are taken the top end of the market. They are really heavy into the auto industry, they are producing in Europe and sending it all over the world to the U.S. and throughout Europe, and may be some into China, for example so all three continents are doing very well.

Okay just couple of more, can you just give us an update on the UV filter, is it still ramping up and what is the main driver behind it? And secondly regarding perishables, actually I went to a super market last night, still haven't seen any fruits with our laser markings, when can be expect sort of a mainstream adoption? Thank you.

Well that's a toughie. I don't know what to tell you, Dave, about when mainstream adoption of perishables will be laser marked, but we do know of accounts that are doing that or purchasing the lasers and optics from us for perishables marking, when and how quickly they get deployed, I do not know. On the UV filter business, remember that's a system that we're making part for the detection of missiles that are launched and it senses from the missile, it's sensing and finding those types of launch. We are making at least three parts for the major manufacturer of those systems, it's targeted to be deployed on certain helicopter and certain fixed wind military products, that's where we are right now. And in terms of a run rate that we are trying to produce in the 20-30 sets of those per month, and that will probably ramp towards 100 per month over the next 6 to 8 months. We have a quite ramp up plan. The three materials involved in it; two of which are ones that we are able to keep up with one material sodium calcium chloride is very challenging for us and we are building more capacity trying to perfect our yields on that material. That product line UV filter product line are those materials we bought from Coherent Crystal Associates and it was a start up product line. We brought it in-house and tried to perfect it into more of an ongoing product and I think we are about half way through the start up mode. So we have made shipments and we have probably faulted a little but not badly and so we are working hard to get our run rate up to what the customer wants.

Thank you

Your next question from Robert Bombak (phonetic) of Babs and Capital (phonetic).

Good morning. In your 10-K you described some of your products that include targeting and navigation system and I am curious exactly what a system is and the reason I am asking is I am wondering if it's sufficient for you to maintain your competency in optical materials or do you need to develop a competency in positioning or staging the optics?

Well, let me give you a bit of a take on that. So targeting and navigation systems one of the big products that we are working on right now is this ATP product for the Sniper, we are typically a window supplier or optic supplier and that when we label it a little bit higher up the food chain where we were are building and optic system which is really a three panels into a shroud and all -- assembled into it is a system with -- let me just say that there are certain parts of the windows that has certain treatments and those treatments are connected to the frame and the frame is all put together as a unit. We ship that system or that unit to our customer. It's -- the right use of the word system for us it is because of optics with other features built on with assembled into the frame. So it's a higher level for ourselves. Is that enough for us? We think it is in our military work and the JSF, for example, that I mentioned. We'll be doing that type of what we call optical system units. We'll be building them into frames along with these other features build onto them. So, on that hope military system side that things went around the navigation and targeting pods. We have done a number of different ones in the past, not so much for the 3-5 microns regime but we have been in the 8-12 micron regime for quite a while building systems which would be windows into frames with others features put on to it. That's where we intend to target. We feel we've made a good move on been in the Sapphire Window System business, we started that three years ago. The planes that are out there or the platforms that are out there now Sniper and so on that's very good. We see that Joint Strike Fighter coming along over the next 3-25 years. It is another good application for us. I am not sure if you answered your complete question but I think that's where we are.

Right, do you feel the need in the future to be able to have the move the optics around for any smaller application?

No, I think in that -- I mean we have to say we will probably accelerate on the military side. We would respond to our customer. We are building to print. To their print the optics and the assembly, so we would be -- if there's something that they need to change in the whole system set up that they have put together, we would move uphill if that was required, but I have not seen that.

Okay. And I would like to know to what extent you are eV products are used in security and baggage inspection systems.

We have really two different works that we are doing on -- that we are working on for the baggage system. One is a development contract by the government to improve the material, the cadmium zinc telluride. And that works very nicely with our second contract which is with a company, which is more or less the spin out of old IBM or out of IBM out of -- in the [inaudible] City in New York, and I think they call themselves [Indica]. And we are producing 2, 300,000 worth of detectors, x-ray detectors for baggage inspection prototype system. And they are looking at a system that's more, more able to define and see the types of products that are in suitcases or in handheld baggage for the next generation of systems to go into airports. That's a very important application we think because cad-zinc-telluride is the only material that we are aware of it at this moment that can give them the type of detail that they want.

Great, thank you.

Your next question comes from Jason Sam Seidler and Company.

Hi, guys. Good morning. Question Fran, I've been listening to you the eV product and silicon carbide product both seem to be making good progress and for '05 you are expecting definitely a very nice growth. The core IR Optics, in fact, Q1 bookings will be stronger than Q4, and with increase after-market demand it seems like that the year appears to be shaping up pretty well. You are seeing a nice pick up from your new military -- pick up in military demand from both the Sapphire, Javelin, and also the UV Filters. So, it seems like all these business units are clicking and things are going pretty well. I mean as you are looking out the next few quarter, I mean what are your concerns? I mean, it seems like I am looking at your revenue growth projection for the year and even if I were just to plug in very conservative growth for the different business units, I mean, the numbers significantly higher than what you are projecting. So what are you --why are you so conservative? What are you hedging?

That's a good question because certainly this is even where we are with our, if you call, conservative we think we can do $170 million revenue range. That assumes the economies continue to perform like they are because we've benefited for the last four quarters from really nice strong growth in our infrared optics business and we are continuing to expect that. Any slight hick up in economy, I think, we will see at first in our IR business which is the business that really has performed strongly. So concerned with the economy continuing, but that might be second to an item we really can't predict. If there is any terrorist activity our whole platform here is going to be shaken up. So we'd say that is a big number one concern; the economy is number two concern. I think a third and forth lower levels concerns that has to do with, our business is like a federation or a collection of five, six, eight, ten little businesses tucked all together, and if any one of those has slight yield problems or difficulties and we know it's going to happen. I am not able to tell you on which one it might happen. There is a little discounting to allow for that and I am not able to pinpoint one but I do feel a third issue is operational problems, yield problems. So we might have a little discount compared to -- you do the straight math that you have described. And finally, I would thinking -- although you comment on the two or three areas that I said where growth would be pretty sure, eV and WBG and infrared. Our Exotic group is probably going to be flat. I think and I did not comment but that's about when it's going to be -- maybe we can book more than we have shipped, but I see a closer to flatter our Exotic is we are working to improve our margins. So that's built in to our analysis too.

Okay, great. And as far as gross margin concern going forward Craig, if the ancillary business you saw, the growth segment the, [IEV VVEN] and silicon carbide starts to play a bigger part going forward and the VLOC segment also, how is the gross margin say -- I mean you know at 42%, the movement of the hand is really is outside of your control. But if you were to just look at the -- from the operating units and the different functions that you do have a control over -- I mean if things shape up the way that you expect, how your gross margin will value in terms of -- will it be like you said around -- where you are in Q4, will that be sort of normal?

Yeah I think it would be. I think that's probably our best indication of that benchmark, as Fran mentioned, we do have a collection of businesses that when you put the pieces together its actually as one of the other questions were alluding to, you the mix of it does play a factor in it. We've never really gone out and talked in great detail about this specific gross margins of our individual businesses, but I think we have talked in general terms that the IR optics group had the highest gross margin of all those businesses. And -- but to the extent that the other businesses are potentially going to grow faster than the IR business in the upcoming year, that could impact gross margin slightly, but we don't think its going to be much of a change at all, and that's why I think still coming back to the original comment that the margins achieved in the fourth quarter or for the year whichever you like to look at should be pretty indicative of what we are expecting for FY '05.

Okay. Great. And Fran a quick question on the silicon carbide, I mean this is the first time in the while that I think you guys have stated the micropipe densities for your silicon carbide products since you did mention some number. How does that compare to the market leader and is that's why you are [inaudible] wake us?

Yeah that comment I made was trying to be towards the 3-inch diameter semiinsulating, which [aids] to the RF market, 13, 15 micropipe density is very competitive. We think that that's close to where the leader is, and in that same product area 2-inch diameter, not 3 inch diameter, for RF we would be averaging 2 to 3 as the micro-pipe density. We are actively selling both 2-inch and 3-inch semi-insulating whether it's vanadium doped or undoped in the 2 -- is the micro-pipe density on the 2-inch and around the dozen or so around the 3 inch.

If you look at the other product, I might comment a little bit, because those are our product offerings right now for RF. Going to power field -- high power field, we offer -- right now we have sold 2-inch diameter 4H wafers, and in that category it would be around 5 -- micropipe density of 5. We are working on development of a 3-inch product there but we are selling the 2 inch. And if you go to the third category that our silicon carbide product faces in the field and that's the opto product line. We are producing that 2 inch diameter 6H product and that one which is a may be I tell you RF and our poly are our bread and butter, the opto product, micro-pipe density will be around 50 to 60. We are still developing a 3-inch diameter product

Okay. And how many customers do you have in that area now just a general in silicon carbide?

I wish I could give you -- Ten to a dozen, may be 15 in that neighborhood.

Okay, great. And the -- relating to eV, the Imbatat (phonetic) groups, are they working on the handheld scanner or they looking on the stationery scanner?

Six stationery units.

So can you give us and update on the hand held scanner?

No, I cannot, I'm sorry I don't have that, and I'm missing what you were referring to there.

Okay.

There are some specifics, Jason, that we've said at previous times -- we've made some hand held products for different customers, but I do not know about hand held scanner detector. We've made products for companies like Exploranium or Water Control Agencies, for some type of radiation monitoring that are hand held, hand held baggage scanner -- I don't have that information if we did -- it's small. I do not know of it.

Thanks Craig.

You're welcome.

At this time you have a follow-up question of Pierre Maccagno of Needham.

Yes, Fran, you had mentioned in the past that you were manufacturing more of your hydrogen selenide, how is that coming along and -- as a percentage of hydrogen selenide that they use? And how does -- how that offset increases in the prices of selenide, I mean what are your comments there?

In the neighborhood of 60% of use of hydrogen selenide is what we produce for ourselves, and that's gone very nicely over a fiscal year 2004, and 2003 we went through a lot of start up problems as we brought that on. The selenium price issue affects our supplier and ourselves equally. The yield at both places -- ourselves or our supplier is the same, and the selenium price ramp up, we buy all the selenium, we drop ship it to or supplier or bring it to our own factory to consummate. So it stays the same for our supplier, ourselves and all our competitors. Selenium is a worldwide -- it's a commodity, it's affected right now by quite a change in demand, more demand and a change downward in supply, that's driven the price up some of the 7, 8 total.

So I mean -- do you think this trend will continue, the pricing increase or is there going to be some stabilization there?

No, I am afraid it will stay where it is or head you a little bit more. In the last 4 weeks, it just went up another $2 from $23 to $25 and that this trend has happened since before the first of the year, we started to see in it November, December, I think?

It's just a supply demand issue?

Supply demand and selenium sometimes is a by product of other smelting refining, and if that turns down a little bit supply gets even less.

Okay. And then so last year just as a reference, how much of those hydrogen selenite were you making?

Last year meaning fiscal year '04?

Yes.

I am going to guess we might have averaged 35-40%,

I see. So a significant change then?

In the coming year we expect to do about 60%.

Okay. Okay thank you very much.

At this time there are no further questions. Are there any closing remarks?

We have no closing remarks. If there are no more questions, I would like to thank everyone for participating today. Our next earning release for the quarter ending September 30, 2004 is currently scheduled for after the close of the market on Wednesday, October 20, 2004. But the conference call to be scheduled or conducted the following day, Thursday October 21, 2004 at 10 a.m. Eastern Time .Thank you for participating in today's conference call.

This concludes today's II VI Incorporated fourth quarter fiscal year 2004 conference call .You may now disconnect