IPG Photonics Corp (IPGP) 2008 Q4 法說會逐字稿

Good morning and welcome to IPG Photonic's fourth quarter and year-end 2008 conference call. Today's call is being recorded and webcast. At this time I would like to turn the call over to Angelo Lopresti, IPG's Vice President, General Counsel and Secretary, for introductions. Please go ahead, sir.

Thank you and good morning, everyone. With us today is IPG Photonic's Chairman and Chief Executive Officer, Dr. Valentin Gapontsev, and Vice President and Chief Financial Officer, Tim Mammen. Statements made during the course of this conference call that discuss management's or the Company's intentions, expectations or predictions of the future are forward-looking statements. These forward-looking statements are subject to known and unknown risks and uncertainties that could cause the Company's actual results to differ materially from those projected in such forward-looking statements.

These risks and uncertainties include those details in IPG Photonic's Form 10-K for the year ended December 31, 2007 and other reports on file with the Securities and Exchange Commission. Copies of these filings may be obtained by visiting the Investor Relations section of IPG's website at www.ipgphotonics.com, or by contacting the Company directly.

Any forward-looking statements made on this call are the Company's expectations or predictions only as of today, February 24, 2009. The Company assumes no obligation to publicly release any updates or revisions to any such statements. We will post these prepared remarks on our website after completion of the call. Please go to www.ipgphotonics.com to view these remarks. I will now turn the call over to Dr. Gapontsev.

Good morning and thank you for joining us today. We are very proud of our accomplishments in 2008, which was a year of both financial, strategic and operational achievement. Our 2008 revenue grew 21% to a record $229 million. In terms of end markets, key growth drivers for the year included general manufacturing, automotive, electronics and solar. The aerospace, research, scientific and telecom markets were all stable. The applications that were key to our success in 2008 included cutting, welding, marking and engraving, printing, annealing, and drilling for microelectronics.

Earnings share outpaced revenue, increasing 23% to $36.7 million. Diluted earnings per share grew to $0.79 from $0.65 in 2007. Our full year performance was driven by our success in the material processing market, our largest market. We grew 34% year-over-year in material processing due to the recognition of the value of our fiber lasers, compared to the traditional lasers and other tools, as well as to the broad diversity of uses for our product.

We are very proud in IPG's ability to generate cash. In fact, cash flow from operations increased more than 200% to $34.7 million in 2008. An essential achievement for 2008 was breaking into metal cutting. IPG now has numerous cutting OEM customers. Last year, laser cutting represented 22% of industrial laser unit sales and is even larger than laser welding, which was 12%.

2008 also was a year of exciting new product development. Last year we substantially increased our R&D spending and we are proud to discuss with you the results of our efforts. These include our recently launched green pulsed and CW fiber lasers, new high energy pulsed lasers, 5 kilowatt single mode lasers and an improved generation of our multi-mode kilowatt lasers, called the YLS family, as well as new powerful diodes.

These lasers will enable us to enter new markets and applications. And we entered the merchant diode business with the most powerful and brightest line of diodes in the industry. We also developed a line of products that are used with our fiber lasers, including high power couplers, beam switches and delivery cables that we have offered this year.

We also strengthened our infrastructure, grew our capacity and enhanced our sales capabilities by completing IPG's new sales and demonstration facilities in Massachusetts, Michigan and Moscow, expanding our manufacturing facilities in Germany and Russia and opening a sales office in Singapore. In 2008, we enhanced our intellectual property position with the purchase of more than 100 key US patents and 340 foreign counterparts, and we filed almost 30 patent applications to further expand our protection.

In summary, during the year we made excellent progress in growing our position in the overall laser market as we continue to sell our lasers for new applications, expand our product portfolio and broaden our geographic reach. An increasing number of customers are using IPG's fiber lasers due to their superior laser performance, substantial energy savings, and lower cost of ownership.

We are in a time of uncertainty due to the difficult worldwide economic conditions. However, we remain committed to profitability, controlling costs, managing working capital and substantially reducing capital expenditures from historic levels. In addition, we will continue to introduce new products, invest strategically on R&D to ensure that we emerge from this period well positioned for renewed growth with an enhanced competitive position. I will now turn the call over to Tim, who will discuss the details of our fourth quarter, provide details of our planned response to the current economic environment and provide guidance for the first quarter of 2009.

Thank you, Valentin, and good morning everyone. Capping the strong year that Valentin just reviewed was a solid fourth quarter performance. We reported our ninth consecutive quarter of year-over-year revenue growth since we've been a public company, growing sales by 6% to $58.2 million and meeting our guidance.

Our primarily driver for the quarter continued to be the materials processing market, which increased sales by 16% over last year's fourth quarter. This is a testament to the transformative power that our lasers have and their ability to provide valuable productivity gains to our customers at a time when everyone is looking to lower costs.

Despite a difficult global economic environment, we also met our guidance on the bottom line, reporting a 9% increase in net income to $9.1 million or $020 per diluted share. Our gross margin continued to improve year-over-year. Gross margin was 45.6% for the recently ended quarter and improved by approximately 3 percentage points over the fourth quarter of last year.

Now let me provide you with some information about how we performed in the four markets that we serve. Materials Processing, which is IPG's largest market, contributed 78% or $45.6 million of the revenue we reported in Q4 and grew by 16% year-over-year. Materials Processing encompasses diverse end markets, including general manufacturing, automotive, aerospace, heavy industry, consumer, semiconductor, electronics and solar.

The Advanced Applications market represented 15% of total revenue during the fourth quarter. Sales of these laser systems decreased by 10% compared with the prior year but increased 65% compared with Q3 2008. Advanced Applications include test and measurement instrumentation, sensing and defense applications, as well as scientific research and development.

Order flow has been historically less predictable in this market. While the year-ago quarter benefited from large sales for a US government project, last quarter we sold a high value 20-kilowatt laser in Europe. We would also like to report that recently the Boeing laser Avenger, using an IPG high-power fiber laser, successfully shot down three unmanned aerial vehicles.

The Communications market comprised 5% of our revenues in the fourth quarter. Revenues in Communications declined by 24% over the fourth quarter of 2007. Lasers for the Medical Application market comprised 2% of revenue in the fourth quarter. Sales were down 58% year-over-year and 44% sequentially, reflecting business and operational conditions at our main medical OEM. We continue to focus on customer diversification and hope to make progress with medical customers that are currently in various stages of testing our lasers.

Let's turn to the performance of our laser types in the fourth quarter. As we expected, we continue to see nice growth for our high-power fiber lasers. In the fourth quarter, on a year-over-year basis, sales of high-power lasers increased by 32% and represented 43% or $24.8 million of total revenue in Q4 2008. Key drivers for high-power laser growth were welding, cutting, general manufacturing and advanced applications. Our high-power lasers' power, beam quality and flexibility provide tremendous value to customers at a time when manufacturers around the globe are seeking ways to enhance productivity.

We saw new applications for these lasers in Q4, such as deep penetration stainless steel welding with a Russian customer, which replaced electron beam welding, as well as welding batteries for hybrid automobiles. Pulse laser sales, as we had forecast, decreased in the fourth quarter by 11% year-over-year. As a percentage of revenue, pulse lasers represented 27% of revenue or $15.8 million in Q4 '08.

We have been seeing softening pulse laser sales primarily as a result of weaker demand for marking in general and completion of a large order from a solar photovoltaic customer. The drop in marking demand was particularly evident in China. We expect that some of our new products can start contributing in the second quarter of this year, after we start to place demo units with customers in the coming months.

Sales of medium-power lasers grew 13% during Q4 of 2008 over Q4 of 2007 and represented 10% or $5.9 million of total revenue in Q4 '08. Demand for medium-power lasers in the quarter was driven by microelectronics drilling, commercial printing, cladding and micro materials processing applications. Our low-power lasers saw a 30% decline year-over-year and 35% sequentially, primarily due to reduced sales from our primary OEM medical customer.

Looking at our geographic performance during the quarter, we reported 42% of revenue from Europe, 27% from Asia and Australia, 25% from North America and 6% from the rest of the world. Our 6% growth in Europe was due to strength in Germany, which benefited from our order with automaker BMW. This was offset by softness in other European geographies as a result of economic weakness.

Sales to Asian markets declined 10% compared with the year-ago quarter. While we saw continued growth in Japan, driven by high-power sales, weakness from marking applications in China and diamond cutting and engraving applications in India contributed to the year-over-year decrease. North American sales were essentially flat in the fourth quarter, even though we had a significant decline in medical sales. Based upon exchange rates prevailing in the fourth quarter of 2007, we estimate that exchange rates negatively affected our revenue by approximately $1.5 million in Q4 2008.

Our gross margins continued to improve on a year-over-year basis in the fourth quarter, increasing nearly 3 percentage points to 45.6% compared with the 42.9% gross margin we reported in the fourth quarter of 2007. The increase was due to higher revenues and increased production. Sequentially, gross margin in Q4 was lower by about 2 percentage points as a result of lower sequential revenue and product mix. In Q1 2009 gross margins will be lower because of decreased sales.

SG&A expenses decreased to $7.4 million or 12.7% of sales compared with $8.6 million or 15.7% of sales in the fourth quarter of 2007. This was due to a benefit related to exchange rates and lower litigation expense. Excluding transaction exchange rate gains, underlying SG&A expenses in Q4 2008 were $8.3 million.

R&D expenses were $4.4 million or 7.5% of Q4 '08 revenues. This compares with $2.7 million or 4.8% of revenues in Q4 '07. R&D expenses increased due to diodes, green lasers, high-energy pulse lasers and additional development of single-mode lasers. Based upon exchange rates prevailing in the fourth quarter of 2007, we estimate that exchange rates benefited cost of goods sold and operating expenses by approximately $2.2 million.

Operating income for Q4 '08 increased by 20% compared with the same period last year. IPG generated operating income of $14.8 million or 25.4% of revenue compared with operating income of $12.4 million or 22.4% of revenue in the fourth quarter of 2007. Operating income includes charges related to stock-based compensation of $542,000 and $419,000 in the fourth quarter of 2008 and 2007 respectively. In the fourth quarter of 2008 $83,000, $348,000 and $111,000 of stock-based compensation charges related to cost of goods sold, SG&A and R&D respectively.

Our tax rate for the fourth quarter of 2008 was 33.4%. The effective rate for 2008 was 32%. The effective rate for 2007 was 32.6%. Net income for the fourth quarter of 2008 increased by 9% and was $9.1 million or $0.20 per diluted share compared with net income of $8.3 million or $0.18 per diluted share for the fourth quarter of 2007.

Let me now turn to our balance sheet where our cash position has improved. Cash and cash equivalents improved by $13.3 million to $51.3 million at year-end. This compares with $38 million at December 31, 2007. Not included in cash and cash equivalents are $1.3 million in auction rate securities at December 31, 2008, which is included in other long-term assets. For the year-to-date, cash flow from operations was $34.7 million, cash used in investing activities was $33.7 million and cash provided by financing activities was $12.5 million. We reported a substantial improvement in cash flow from operations from $10.7 million in 2007 to $34.7 million in 2008.

In Q4 2008, investing activities of $7.6 million were primarily related to facilities and equipment expenditures in the US. During the quarter, we completed our new sales and demonstration facilities in Massachusetts and Michigan. As previously planned, we expect to see a substantial reduction in capital expenditures in 2009 to approximately $15 million. In Q4 2008 we completed the acquisition of IPG's minority interest in Italy and we now own 100% of that subsidiary. We are on track to acquire the remaining 34% minority interest in our Russian subsidiary in the current first quarter of 2009.

Accounts receivable increased to $41.8 million at December 31, 2008 from $33.9 million at December 31, 2007. The $7.9 million increase was due to higher sales as well as timing of revenue, which was heavily weighted to the final month of the quarter, when we shipped a significant number of high-power lasers. We collected a large multi-million dollar receivable in January of 2009. Accounts receivable days outstanding were up slightly to 62 days at the end of Q4 from 59 days at the end Q3 2008. The slight increase is due to the timing of shipments and a receivable in India, which is insured under an export guarantees program.

We have provided reserves for specific collection issues and in the current economic environment we have tightened our credit policies and we will continue to monitor our receivables and credit policies very closely. With sales up 21% year-over-year, inventory increased 20% to $72.6 million at December 31, 2008 from $60.4 million at year-end 2007.

We have no changes with regard to our credit facilities this quarter. At the end of the fourth quarter we had a total of $19.8 million drawn on our US, German and Italian credit facilities. We will continue to use these facilities from time to time in order to finance our short-term working capital requirements. At December 31, 2008, our total available liquidity, including cash and cash equivalents and undrawn committed credit lines, was approximately $92.2 million. Backlog, which we report annually, was slightly down to $69.3 million at December 31, 2008 compared with $72.6 million a year ago.

All countries report a higher backlog as compared to December 31, 2007, except for China and Italy. In China we have experienced a sharp drop in orders for pulse lasers. However, we expect some of this decline to be offset by high-power laser sales, which we have initiated in China in 2009. The decrease in Italy is due to the timing of orders from our largest Italian customer and we anticipate that backlog to increase in Q1 2009.

That leads us to our expectations and plans going forward. We've planned to continue to see opportunities as a result of the market's recognition of the superiority of IPG's products for a variety of conventional laser applications, as well as for novel and innovative uses of laser technology. We also see challenges that face the global economy and our customers.

In response to the current business conditions, management has developed a response that I would like to outline for you today. These measures include four elements; cost and expense reductions, maintaining ample liquidity, pursuit of new sales opportunities for existing and new products and investing in R&D for the future. First, cost reductions. Last year we worked hard to reduce the cost of many critical components and to develop and produce in-house some strategically important and expensive parts that we used to outsource. Now we expect to benefit from these investments.

For example, we finished certification and started to mass produce mass production of powerful chips and 30-watt package diodes, which allow for cost reductions by up to 30%. We are starting high-volume production of our own family of high-power process fibers, fiber couplers, optical switches and other accessories that can save us substantial sums in addition to improving the performance of our lasers.

Another benefit we will see is an investment we made in 2008 in our own thin-film facilities, other new in-house technologies and metal job shops to reduce the cost of housing for our products. Moreover, we have upgraded and simplified the design of our mid and high-power systems that allows us to improve quality and decrease costs. Relative to expenses, we have frozen hiring, except for strategic hires, drastically limited over time and curtailed bonuses and we are reducing headcount through attrition.

Additionally, we will reallocate our trained staff to products and components that are in demand. We also expect lower legal and litigation costs in 2009 and are reviewing all outside advisor costs. We estimate that these simple and immediate measures will reduce costs and expenses by approximately $4 million to $6 million per year.

The second elements is to maintain the financial health of the Company through preserving a conservative capital structure and generating cash even in these difficult times. Since our public offering in 2006, we have made substantial investments in facilities, equipment and technology, which peaked in 2008. As we planned previously, capital expenditures will substantially decrease by more than 50% to an approximately $15 million in 2009.

Further, in 2009, we will strive to control and reduce inventories, which should benefit our cash flow. None of our debt or major committed lines of credit in the US or Germany mature in 2009. Third, we have a winning technology that is gaining market share from conventional lasers and we are pursuing new opportunities with our current product line and new products. I want to present some interesting data for you to consider.

The global laser market grew by 3.7% in 2008, according to Laser Focus World. IPG's total revenue grew by 21.4% in 2008 and our material processing revenue grew 34% in 2008. In January 2009, IPG introduced two new green fiber lasers that allow us to enter new markets and applications. Applications for this laser include photovoltaic processing, biomedical, pumping of Ti sapphire lasers, welding copper and gold and processing translucent materials. We estimate this market to be in excess of $150 million.

Also, we have introduced new cladding lasers and high-energy pulse lasers. We developed a two-way EDFA to enable cost effective deployment of triple-play fiber-to-the-home and RF over glass networks. To help us capitalize on the many opportunities we see in this area, we're investing in new sales and applications personnel and we are bringing on board several high-quality veterans.

I want to mention that we also opened a new sales and application office in California to better serve the microelectronics and solar industry and our West Coast customers. Lastly we plan to continue our commitment to develop technological breakthroughs in lasers, amplifiers, components and complementary products that will help us capture new sales opportunities, reduce cost and position us well for growth when the economy recovers.

We have implemented some of these measures, but most will take full effect in future quarters. Management will review this plan and adjust our operations through the year to adapt to business conditions. With that as background, I'll provide you with our guidance for the quarter. This guidance is subject to the risks we outlined in our reports with the SEC and assumes that exchange rates remain at present levels.

For the first quarter, IPG Photonics expects revenues in the range of 45 million to 50 million. The company anticipates earnings per diluted share in the range of $0.09 to $0.14. That is based on 46,337,000 diluted common shares, which includes 44,886,000 basic common shares outstanding and 1,451,000 potentially diluted options. And with that, we'll open the call up for your questions.

Thank you. The question and answer session will be conducted electronically.

(Operator Instructions)

And we'll take our first question from CJ Muse with Barclays Capital.

Yes, good morning. Thank you for taking my question. I guess the first question, Tim, when you look at your guide, at the mid-point, you're down about 10% year-over-year versus many of your competitors in the laser space, down 26%, I guess, on average or worse. And I guess the question, first off, is as you look to 2009, do you expect that that kind of outperformance for IPG can continue? And if we are seeing a sort of a down 30 for the overall laser market, that you'll be more like down 10?

Yes. I think clearly we expect to outperform the overall market and the way you're framing what we're targeting, I think, is very reasonable. I think within the fiber laser market itself, we've even made better gains over the last year. But I think that's a very reasonable way to look at it.

Okay. And then I guess, secondly, on the cost side, when you look at the planned OpEx savings, when should we see the full benefit of that? And I guess can you put numbers around that? I know you did about 11.7 million in OpEx in Q4. Do we get down to the sort of $10 million run rate by March or June?

Yes, I mean, we're going to see most of that come through in the first quarter. So for example, the reducing bonus accruals is immediately effective. Coming into the end of January, we're managing overtime very, very closely. And obviously some of the benefit on legal and litigation expenses will already be in there, since they've come down since the first quarter over a year ago. We've got specific numbers in each of those three areas and those ranges add up to about 4 million to 6 million in each of them. So they're not in substantial amounts.

Okay. And then I guess last question, when you look to 2009, in the advanced side of things, particularly around the high-power segment, could you provide any color on, I guess, how that could change as a percentage of overall sales? Just sort of any framework to help us understand how that will proceed throughout the next year?

I'll -- I think that in general, we expect the bonds to grow this year. We're definitely on track, I think we talked before about trying to sell a couple of ultra-high power lasers. And I think we are optimistic that that will continue to happen. And even at the single-mode level, as we go from 5 to 10 kilowatts, there is tremendous interest in that laser family. I think Valentin can perhaps provide more color on the advanced area as well as expectations as he's more closely involved with the technical side of it.

Well, Tim, we additionally [improved] what is centrally the [Bim quality] of our [ways], that is exactly what the community wants, applications our people are [waiting] from us and so it's really people who are very excited with this and they we start to quote them new versions of our super high powerful super brilliant lasers. We also -- our sales force predicts much more committed results for this year, [so] our guidance. But it's in the worst expectations from market expectations. So we hope to increase sales bottom line, much higher than we predict now.

Perfect. Thank you.

And we'll take our next question from Antonio Antezano with Macquarie Capital.

Good morning.

Good morning.

Just a follow-up on the prior question, in terms of your outlook by each of your four markets. If you could expand in terms of the guidance for the first quarter, what do you expect for the [juggles] for businesses?

We don't give a lot of guidance by product line or business area, but I think that -- I mean, right now, obviously, there's a lot of volatility around industrial segments and materials processing, but there are -- if we look at our pipeline, a huge number of opportunities that exist out there. We believe that, particularly at the high-power level, where the value add of our lasers, obviously as you start to consume more power or process deeper and thicker metals, really starts to translate into higher productivity gains. We believe that, for example in North America, our competitors are getting very few orders for high-power lasers and that the orders that are coming out are coming to IPG.

So there's a sort of little bit of uncertainty right at the beginning of the year on that. I think that hopefully if we get to some stability within the credit markets, we'll see that industrial laser business pick up. I think there's definite optimism around advanced applications for the year. That can be volatile quarter-on-quarter and our telecom group is actually pretty optimistic about some of the projects they're working on with major OEMs. So we'd actually expect telecom in Russia and North America to grow for the year. The medical business will continue to remain a little bit volatile. This year, I wouldn't expect a huge amount out of medical, particularly in the first half of the year.

Right. And then in terms of your gross margin, you said that it would decline in Q1. Could you provide a range, at least on what kind of level we should expect for gross margin?

The top of our revenue range, we'd expect to be relatively stable. The problem is that the bottom end of the range is that some of the benefits that we're talking about coming through on products, lower accessory costs, will be offset by lower absorption. So the range we'll give is sort of about 41% to 46% in the first quarter. But it's really the fixed costs, lower fixed cost absorption at the bottom of the range, with some benefit coming through on, ultimately hopefully in Q2 and later on on the diodes and sort of the other accessories, which really should start to save significant amounts of money on the high-power lasers.

Thank you. I'll go back to the queue.

And we'll take our next question from Ajit Pai with Thomas Weisel Partners.

Yes, good morning. Just sort of addressing the gross margin question again, I think you talked about the low end and the high end of the range. But a lot of the sort of product innovations you've talked about, the 30-watt laser -- 30 watt diode as well as the [thin film]. A lot of these new facilities are -- I think are going to be [drivel] economy to some of these -- some of this integration as well is going to be driven by scale.

So is it fair to assume that you will still be able to capture on flat revenue sequentially over the next two or three quarters of revenue, stay at this current level that you would have seen a gross margin improvement? Even though volumes aren't really ramping that rapidly for some of these initiatives? Or do you think that you'd still be able to capture significant improvement in your gross margins over time by this vertical integration as well as some of the new innovations?

To answer the first part of the question, absolutely. In a -- even in a stable revenue environment, say coming off the fourth quarter, we would have seen an improvement in gross margins, driven by the lower costs related to these accessories. So we wouldn't really require additional scale to get those gross margin improvements. When we get back into a phase of growth, hopefully, we will see that leveraging and the benefit from the lower accessory costs drive to the bottom line, to the gross margin line. And I'd expect to see those gross margins start to pick up again quite nicely. So I think the answer to the question is, yes, to you.

Got it. And then the second question would be looking at the pricing front. So far I think IPG has been a price leader, the one that's actually been sort of setting price for fiber laser in the market. Have you seen any change in that trend? Are you seeing your competitors respond in a way that's been different than the past couple of years, as far as pricing? Either with fiber lasers or even competing technologies in any of your vertical markets?

Yes, we see some trends, some of our competitors trying to save their position in the market, cutting the prices for their product, sometimes they (inaudible) according our information, even below the costs. But if they could go the direction a long time, so it's temporary. We have, up to now, enormous reserve in our price and we will [prolong] to this stage price in the market, saving a very good gross margin.

Got it. And then the last question would be just the quality of your backlog. I think you talked about a modest fall in backlog, but it's still greater than your quarterly revenue. So what is the timeline for the shipment of the current backlog and has there been any change in the -- any cancellation that you've seen in that backlog that contributed to the drop, or is it mainly shipping being greater than orders?

We haven't had any cancellations, probably had some order deferrals. We have scrubbed that backlog number pretty clean. I think it is a -- it's a pretty high-quality number. So we've gone through some of that and we've seen that we've got frame agreements with customers that haven't been calling them off. We've called those customers and said these orders continue to be active.

So we've put a lot of work into that. I think the backlog provides us with good visibility into Q1. Obviously order flow is, given the economic environment, is not as great as it was in the fourth quarter last year as it was a year ago. So we're managing the business within those challenges. But I think we really have put a lot of work into ensuring that backlog number is a good number.

I think part of it was the decline in China. We are really making some good progress with one of the major laser manufacturers there, who we hope to sell our pulse lasers through, instead of selling those pulse lasers through a lot of the smaller companies. We're trying to develop the deeper relationship with them as well on the high power as well as targeting a lot of single unit high power sales in China to universities and R&D institutions as well as the auto industry in China, where there continues to be investment.

In Japan, very good quality backlog there with all the high-power lasers, the marking business will be a bit volatile. And even in India, I think, in the last couple of weeks, we've had some indication that once we get through the difficulties with the main OEM there, our [marking, engraving] in the second half of the year, we may see some orders from them as well. So it's a good solid backlog number. It's not as high as we would love to see it, but I think we're doing pretty well.

Got it. Thank you.

And we'll take our next question --

Valentin had an additional commentary there.

We see we are now running water trends in cutting markets. So that when others see other ways of cutting now, sales are going down very centrally. With last year, we start to sell in our (inaudible) to cutting integrators. This year they're more manual than [permits] for [our very] serious order that started purchase, for example, [I did see only] a few days ago, order for 15 lasers only from one of the integrators. (inaudible) promised us the same on margin numbers, so today we'll start to sell in volumes for the cutting market, our [world class] lasers. It's a very good trend for us.

The same with produce now the laser, special laser is [available] now is in producing (inaudible), [brazing] applications and also [serious] market. Before we did not work in this market [practically], but this year we plan to sell many tens and lasers for such application and people are very -- some of them are very excited for them. BMW now purchased order for us and other people.

So we really hope this also will help us to increase sales of high-power lasers, very [centrally]. And one application, also, we're in now is the very positive for IPG and lasers. They're now [trusting] these away from us, but new [achievement] direction already to purchase practically for this. But even in advance, these are new already are to invest in development in this direction.

And we'll take our next question from Jiwon Lee with Sidoti and Company.

Good morning.

Good morning, Jiwon.

First off, what areas were the others in your segment sales, predominantly?

Which? Geographically or by product or by -- ?

Geographically, please.

Geographically, just the rest of the world, we've made progress in sort of the Mediterranean parts of Europe, we've had some sales, not -- as you know, not in Q4 in South Africa. That was earlier. Some little sales in South America. And Israel as well.

Okay. And could you talk a little bit about if we combine welding and cutting sales together, roughly what percentage of your sales would that be?

We have actually done a lot of work on getting some more granularity on those. I don't plan to talk about a lot of deals, [but recall] that welding and cutting now are getting up to be probably about 30% of sales as a whole.

Okay. And similarly, what about the order exposure?

Order exposure is not that bad. Everyone's very worried about it. I think we've got, obviously, in Q4, with the large order to BMW, the total sales are about 20% into auto. But specifically identified auto sales for the year were actually about just below 15%. And the important thing to understand about that auto industry is that it's not just the traditional auto applications we're working on.

Some of those sales are coming out of hybrid battery welding, or battery welding for hybrid vehicles, and fuel cell welding. Some of the other -- mainly battery and fuel cells in some of these parts, but also cutting high-strength steel is very important and the fiber lasers on high-strength steel cutting are also a key driver, replacing [dies].

Okay. And lastly, following on your Boeing comment, could you talk at all about any of the similar prospects there?

There just continue to be numerous advanced application prospects. I think there are ongoing qualifications and tests with customers at the moment that I think we'll be able to report on at the end of this quarter.

Okay.

So -- but we're making progress, not just in the US, with some of these advanced applications, but also in Europe as well.

Wait, I'm sorry, I'm --

No, [it won't complicate] the Europe sales much [regional] today than in the US. So they are more active here and they are investing seriously in this direction.

And I'm sorry, one last question, please. Where do we stand in terms of your litigation with [Imra]?

That case is still currently stayed and the patent is continuing to be reviewed by the patent office. There is no further update to give to that. We are hopeful that -- we hope that we will not have much activity on that case for the year.

Okay. Fair enough. Thank you.

And we'll take our next question from John Harmon with Needham and Company.

Hi, good morning.

Hey, John.

Good morning.

A couple of questions please. Well, first of all, regarding your minority interest. You said, at one point, I think you expected about 80% of that to come out. And it looks like it was down about a third in December. So is that kind of roughly correct? About a third of it came from the business that you bought back in Italy? And maybe there's another 50% more to come out in Q1? Is that [looking at] numbers correctly?

Not really quite because of the timing when these acquisitions took place. So if you look at the total minority interest for the year, about 1.4 million of that would have not been incurred, had all of these transactions been completed during 2008.

Okay. But the rest will be done, you expect, in Q1 and will --

Yes.

It has made now.

Yes. It will be finished in Q1 on Russia.

No, it's finished.

Yes. It is.

(inaudible)

Yes. So the only minority interest that's left out there is a small amount in Korea and a small amount in Japan.

Okay. Thank you. And regarding your expense reductions, it sounds like the majority of what's going to hit the cost of goods sold line is there. And how should we look at R&D spending for the year? It looks like you have a lot of projects going on. Do you expect R&D spending to be up, or flat, or down a little?

First of all, [on cost of sales], when you say most of it's there, it's not really reflected largely. But if you mean by there that we're ready to start introducing these components and develop them, that's correct. So they should start to benefit 2009. R&D expenses, I think in absolute terms, will track relatively flat with the fourth quarter of 2008.

Wow. Okay. Thank you. And just a comment or a question, your guidance range seems pretty wide with respect to you just having a month left in the quarter. Are there a couple of big orders that could go either way, Q1 and Q2? Or why is the range so wide?

There are not really significant orders that are swaying it, but I think that along with the sort of economic uncertainty out there, we want to be appropriately cautious and not overset expectations. I think on the bottom end of the range, on the earnings side, there is a little -- tremendous volatility out there on exchange rates at the moment. And we're trying to factor in some of that. So we still have reasonable -- we've got reasonable visibility into the quarter's orders based upon backlog. But it's an appropriate time to be measured, I think, right now.

Sure. And just finally, please confirm for me, I believe your green laser is shipping and when do you think you might start to book revenue for your CO2 laser?

The CO2 laser is now in a [different] situation, first of all. The total market CO2 laser dropped very substantially last quarter and now we don't see any signs that it would be improved [return back]. So we have right now the ten prototypes and we ship the first of them to one of our strategic partners. But now with our optimistic [outlook], it's much better than before, before the market situation.

But [it always is a] problem, especially with our [ex-bounce] up line new version and now they're ready to cut them and make in quantity. But it is still not a good time now to introduce now in CO2. We'll have much more optimistic regarding our engagement of our fiber laser, a new version of fiber laser, especially visible lasers, we will introduce on [UV] lasers. We're working very hard to establish and introduce mid infrared lasers from total [C mirco] range. It's our new challenge to the market. We believe this laser will be much more -- much more [prospective] for the market near its future.

Does that mean you're delaying production of your CO2 laser or -- ?

We are ready to produce, but we built for this facility and so on, but now we'll see for market demand for such kinds today, it's not.

I think it's fair to say, John, that we're much better off focusing sales resources and personnel on where the real market opportunity is in this difficult environment and you might have to employ a separate CO2 sales guy or divert Bill Shiner and his group into selling CO2s, which right now in the environment is not going to provide us with the best return on money.

I think there potentially could be opportunities when the market stabilizes there. On green, we haven't actually got any orders in-house. We expect to have probably a few orders in Q2 and demos going out to customers, so we've built a number of units and then hopefully see some more meaningful revenue on the green coming into the third quarter.

Great. Thank you very much.

We'll take our next question from Mark Douglass with Longbow Research.

Good morning.

Hey, Mark.

In your quarterly guidance, I know you talked about the full year. What are your expectations right now on currency, assuming no changes from today?

So we've basically forecast at whatever the dollar-euro and ruble-dollar rates are. Those are the two main ones. And also Japanese yen-dollar. So we use the exchange rates sort of last week.

So --

Are you asking me to predict what's going to happen to exchange rates? Because I won't do that.

No, but in your guidance, you have baked in minus 5% currency, minus 3%? Like -- ?

We think the dollar-euro, whatever it was last week. So as you pointed out, the average for the year, the year-to-date, and we took the ruble as to whatever it was the average year-to-date. So I don't think it's -- we don't bake in like further currency swings. We give our guidance as effective as of whatever the currency was for the period to the quarter-to-date.

Right. Okay. Can you repeat for me the sales by application again?

Well, our script will go up on our website. It's probably not the most use -- best use of time to go over those numbers now. But you'll have that access to the script and all the data in a couple of hours' time.

Okay. So -- okay, it's still not up yet. Okay. The BMW sales, when do you expect the sales to start flowing through? Any of them included in the 1Q guidance? Or is it going to be -- ?

Well, no, we shipped a large order to BMW in Q4. We had another order for one unit in Q4 and we've got another order for one unit for this [brazing] application, so that's going into like our pre-production and R&D testing. So we booked the major part of the revenue from BMW in the fourth quarter. Valentin was alluding to the new projects that we're being qualified on and it's not clear as to when we will see significant order flow from BMW for that.

Okay. So is that -- ?

This year, [BMW] were very serious about their new orders this year. But second half, we just talked about the second half of the year.

Right.

Not only with BMW, now practical working with all German car makers. So now practically all of the German auto industry, now will come to fiber laser.

Right. So your comment on getting a lot of product up for the end of the fourth quarter, was that necessarily talking about BMW or kind of across the board with the high-power lasers?

It was across -- I mean, BMW is obviously a large part of it, but there were significant other orders as well that were high power that were shipped in December, early December and through December.

Okay. Any idea if any of those were in order to take advantage of the accelerated depreciation before the end of the year?

No. I mean, in Germany, the tax rules --

These are all German?

Not all of them, but they're obviously -- that rule is not benefiting the German and other European sales. So I don't think there's anybody who's suddenly bought stuff at the end of Q4 that we are aware of that was simply just taking advantage of that tax benefit.

Right. Okay. And finally, what tax rate are you assuming right now?

Sort of about 32% effective rate for this year. It would be pretty similar.

Similar. Okay. Thank you.

We'll take our next question from Tom Bishop with BI Research.

Hi. I'm interested in the high-powered military laser trials. Since these are big dollars and some orders could really help revenues, could you expand a little on the recent trials? I mean, have they just only shot down unmanned aircraft or missiles? Or were they missiles yet?

No, those -- the Boeing Avenger was an unmanned aerial vehicle, a UAV. So relatively small vehicle, but the important thing to understand about that is that the tracking and beam optics technology was developed to enable the laser to track a moving object. And I think some of the other trials that are underway, we're obviously limited on what we can say about them, but coming into the end of this quarter, I think we'll have more information to provide on those.

They were not yet tried on missiles?

No, they have not tried yet.

No, we can mention only published results. But many [has them] test and so on. So unpublished, we cannot discuss this.

Okay. How likely is IPG to be part of the solution to make the auto industry more competitive, especially in the near term? I mean, I know they have near term problems, but are they all of a nature to solve them that would not be -- where the solution would not be to order your lasers or are you part of the solution to help them out of their problem?

I think there are numerous examples where we're already helping with improved productivity in the auto business, whether it be cutting of the new high-strength steels, which basically people were using dies for before, or other cutting technologies. They were wearing out the dies very quickly.

The flexibility of our optical delivery system, the ability to attach it very cheaply to a robotic arm and cut irregularly shaped parts has helped the auto industry. On welding and cutting side, people have replaced CO2 lasers where their use of helium as a process gas was prohibitively expensive. And if you couple that in, they were getting to pay back in extremely short periods of time.

In terms of welding speeds, there are numerous studies out there now where compared to a [MIG] welding station, fiber laser is actually cheaper. And there are numerous examples of all of these projects that are actually not forecast to help, but already have made some impact. I think, obviously, given the tremendous instability in the auto industry, particularly in the US, around the major players, they're seeing -- we're seeing some deferral of orders even for projects where we're already qualified.

Because people just don't know whether some of these entities are going to be around. It may be better, unfortunately, if some of them are in bankruptcy, because then you actually get to some coherent recovery plans. And some of our best customers in the auto industry have been those who are in Chapter and are looking to implement new technologies. So there are many, many examples where we've already made good progress.

Okay. And finally, you mentioned some -- I thought a 20-kilowatt laser, which is not quite as big as the 40 watters the military is using. What are 20 kilowatts used for?

Similar applications as well as other industrial applications. So in the industrial side, like deeper penetration welding, but also they're used on the military side of things. So where lower power levels are required.

We have [chased] only to [Isreal] more than a 16 and with such kinds of lasers, the (inaudible) detail, but the usage. So it's (inaudible) used for some applications.

Okay. Thank you.

And we'll take a follow-up question from Antonio Antezano with Macquarie Capital.

Have you provided (inaudible) any comment on the mercantile business? And then secondly, if you could expand on your expectations for cash flow this year? Maybe talk about the actions being taken on working capital?

Maybe, Valentin, you want to talk about merchandise first and then I'll talk about cash flow?

So very quickly, in the last year that we started to sell our diodes, but it was time to develop the sales network, suitable sales force for this application and for this target. And we developed special models for such sales. Now we introduced, in the market, [and seen it] and [total]. So we developed, now introduce only not nine [excess] diode, but also eight excess diodes.

Before we did not produce the new diodes, which have better performance and achievable also from other sources. So we are sure this year we will be very successful with their merchandise in the market. We will (inaudible) tens of millions of additional to our revenue. We did not put in our (inaudible).

There's very little in the Q1 guidance for diodes. We're looking at how best to continue to execute on that market. We sold, last year, probably $200,000 or $300,000 worth of --

No, it's about $600,000.

Include the medical. So $600,000 worth of [TLDs] and similar type products. On the cash flow side, I think that first of all, cash flows are primarily driven by the profitability of the Company. And we are very committed internally to ensuring we remain profitable through 2009, even in fairly difficult -- at a difficult time. We've run a lot of sensitivity analysis about this. We're looking at other ways to reduce costs. So first of all, maintaining profitability.

Obviously ensuring that the sales you are generating, you're collecting the cash on that. So it's very important to manage the working capital side of receivables. And potentially, whilst we're in a more turbulent time in terms of revenue, managing inventory maybe a little bit of the expense, obviously, of gross margins. But we are committed to try to generate some cash out of inventory.

Overall, even in a -- we run sensitivities where we've shown even in a year where revenues are down, operating cash flow will be positive and strong. And then if you see -- you come to the fact that we're going to cut CapEx by more than 50%, we believe that we can actually generate free cash flow. In the event that the economy really takes even a worse turn, difficult as it may be to imagine, I think that a lot of our CapEx projects are very discreet items, so there's no item out there that is like a $10 million project.

And we can turn these projects on and off, depending upon how the Company is performing. So if necessary, we're also targeting potentially looking at some of those other CapEx projects and delaying them to 2010 and Valentin and his operational people and the finance people are actively reviewing that. So to summarize, we've got to maintain profitability throughout the year, manage expenses, manage working capital. I think the two key components of working capital are receivables and inventory and then very closely monitor CapEx during the year.

Thank you.

At this time, we have reached the end of the Q&A session. I will now turn the conference back over to Mr. Valentin Gapontsev for any closing or additional remarks.

Thank you, everyone, for joining us today. We ended a year [affect on] performance with solid results in Q4. We continue to execute on our strategy and we are confident that the investments we have made in our technology and in our infrastructure will serve us well as we seek to meet the challenges presented by the worldwide economy and capitalize on opportunities across diverse markets around the world. We look forward to speaking with you again in the first quarter.

Thank you very much.

Thank you very much again.

That concludes our conference call. Thank you for joining us today.