IPG Photonics Corp (IPGP) 2009 Q2 法說會逐字稿

Good morning, and welcome to IPG Photonics' second-quarter 2009 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 Photonics' 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 detailed in IPG Photonics' Form 10-K for the year ended December 31, 2008 and other reports on file with the Securities and Exchange Commission. Copies of these filings may be obtained by visiting the Investors section of IPG's website at ww.ipgphotonics.com or by contacting the Company directly. You may also find copies on the SEC's website at www.SEC.gov.

Any forward-looking statements made on this call are the Company's expectations or predictions only as of today, August 4, 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 the completion of the call. Please go to www.ipgphotonics.com and select "Investors" to review these remarks. I'll now turn the call over to Dr. Gapontsev.

Good morning. And thank you for joining us today.

As you know already, second quarter revenues of $40.4 million came in at the low end of our guidance range, down 28% year-over-year. We also reported a loss of $1.2 million for the quarter, or $0.03 per share. And while we fell short of our bottom-line guidance, we continued to cut expenses and capital expenditures, and we also continued to generate cash. Overall, our financial performance continues to reflect the global economic downturn.

The good news from this quarter is that high-power lasers, which are now our most significant contributor to sales, continued to grow on a year-over-year basis. We are seeing growing market acceptance of fiber lasers in high-power applications as users continue to move away from traditional lasers and turn to IPG's superior high-power sources for cutting, welding, brazing, cladding and other applications. We also continue to see new applications for our high-power lasers. Please note that high-power lasers for cutting and welding is the largest available market for industrial lasers -- much larger than the market opportunity for marking lasers.

Let me discuss some operational highlights for the quarter.

First, we sold our first pulsed green lasers, and we are now accepting customer orders. We have strong customer interest, and several units are in customer tests now, including solar. We have also started to ship two other new exciting product families. One of them provides high energy per pulse, up to 50 [million joules] in nanosecond pulses. This unique laser family opens exciting new opportunities in LCD display processing, automotive and other applications.

The second product family is a long pulse fiber laser targeted at replacing lamp pumped YAG lasers. These lasers have pulse durations from hundreds of microseconds to multiple milliseconds, and energy per pulse up to 50 joules. The market is approximately $300 million now.

More recently, we announced the successful development of 10-kilowatt single-mode laser, which is a great milestone for IPG and the laser industry in general. We have accepted first order for this unique laser, which has tactical directed energy applications and many others.

Also, we are now offering first 100-watt fiber-coupled laser diode, the most powerful high brightness single-emitter based laser diode. At the lowest cost per watt, the new diode is well ahead in performance of any existing fiber-coupled laser diodes available in the market.

We are hopeful that these new products can compensate for some of the impact from the global economic downturn.

Second, I want to highlight that we hired additional experienced sales staff that will solely focus on the merchant market for our best-of-class laser diodes. Also, we now have an additional sales representative in Brazil focusing on high-power and the automotive market there. We have added skilled sales personnel in China, as well as other locations internationally.

Third, we completed the purchase of the remaining 20% minority interest in our Japanese subsidiary, further simplifying our structure.

In total, IPG's value proposition remains strong. Customers continue to choose IPG's fiber lasers for their superior performance, reliability, usability and lower total cost of ownership compared with conventional lasers. We are taking the right actions to ensure that we are an even stronger company when our markets rebound. Our continued investment in sales infrastructure and our aggressive product development strategy will allow us to maintain our technological edge and leadership position. We expect to be well positioned for renewed growth when the global economy recovers.

I will now turn the call over to our CFO, Tim Mammen for details.

Thank you, Valentin, and good morning, everyone.

I want to provide an overview on financial results before I review our markets and business lines.

As Valentin mentioned, we reported a net loss of $1.2 million, or $0.03 per share, in line with our announcement on July the 23rd, but below our original guidance range.

Our Q2 earnings were lower than expected for three primary reasons.

First, we had lower absorption of fixed cost due to lower sales volumes and a reduction in the level of inventory during the period.

Second, we experienced pricing pressure for our high-power and pulse lasers because of the macroeconomic and competitive market. We expect pricing for kilowatt lasers to stabilize at current demand levels.

Third, we increased R&D expenses in the quarter in order to get new products ready for production and to accelerate the development of other products and product enhancements.

I'd like to now provide a brief update on our cost reduction initiatives.

In the second quarter, we reduced expenses by $1.5 million compared to the average quarterly expenses for 2008. These reductions are due to lower bonus accruals, short workweek programs, workforce reductions and other expense savings.

We've also reduced general and administrative expenses such as legal, accounting and consulting. However, some of these cost savings have been offset by lower absorption of fixed costs and an increase in certain R&D expenses, as I mentioned above.

While we have reduced our cost structure, we will continue to review the business in order to identify other potential expense reductions and, in particular, to track how the remainder of the year is trending in terms of any potential recovery in sales volume.

Also, because many of our cost reductions such as reduced workweeks are temporary in nature, we will continue to evaluate whether more permanent changes to our cost structure may be necessary.

Now let's take a look at the four markets we serve.

Materials Processing, which is IPG's largest market, contributed 74.3%, or $30 million, of the total revenue we reported in Q2, down 36% year-over-year. As Valentin mentioned earlier, the vast majority of this decline stems from significant order reductions for our pulsed laser business, which began slowing in the third quarter of 2008. The decline was primarily related to marking and engraving applications.

After a slight uptick in business for pulsed laser sales for solar applications during Q1, Solar sales were slightly weaker in Q2, sequentially and year-on-year, as we continue to wait for several projects to restart. In Q2, we also saw a reduction in sales of our medium power lasers, although this is compared to high sales volume in Q2 2008.

The Advanced Applications market, which includes test & measurement, instrumentation, sensing and defense applications, as well as scientific research & development, represented 14.1% of total revenue, or $5.7 million, during the second quarter. Sales of these laser systems were relatively stable, growing modestly by 2% compared with the prior year.

The Communications market, which comprised 7%, or $2.8 million, of our total revenues in the second quarter, increased by about 10% compared with the second quarter of 2008. The increase was driven by sales in Russia, where we recently became qualified as a Tier 1 supplier to several Russian telecom providers, including the largest one. These qualifications present large opportunities for us as Russian optical network spending is robust.

Sales for the medical application market comprised 4.7% of revenue, or $1.9 million, compared with $940 thousand in the second quarter of 2008, an increase of more than 100% year over year. We've been discussing our efforts to diversify our customer base in this segment for several quarters now, and we are now seeing some real success as we win OEM orders from the competition. In addition to orders from new customers in Korea and China, we are also seeing opportunities in the US Although still a relatively small component of our total sales, we expect the recovery in this market to continue.

Now, let's look at the business in terms of product lines.

Sales of our high-power fiber lasers increased by 6% year-over-year in Q2 to $15.6 million and represented 38.6% of total revenue. The total kilowatts of output power shipped increased by 42.3% in Q2 '09. Sales for high-power were down sequentially from Q1 '09. The demand we're seeing for high-power lasers continues to be for cutting, welding and cladding applications. Right now we're seeing increasing interest from automakers to qualify our high-power lasers for welding aluminum parts in automotive industry applications. And we are expecting to receive additional orders to be used in electric battery welding in the second half of the year.

In terms of new applications during the quarter, we shipped a 20-kilowatt laser for leading edge research in the energy sector. We also shipped a 4-kilowatt laser for a magnet scribing application.

As mentioned previously, pricing pressure for high-power and pulsed lasers affected our Q2 gross margins. However, even now, fiber lasers are competitive with CO2 lasers on an upfront cost basis, and offer an even lower total cost of ownership proposition when you factor in the lower operating costs. At these demand levels, we expect pricing on kilowatt lasers to stabilize.

When we look at the numbers, and see the growing number of OEM cutting customers, we are increasing market share in high-power materials applications during difficult economic times and positioning the Company to be in a good position when higher levels of capital expenditures occur.

What is meaningful is that high-power laser markets represent a substantially larger market opportunity with fewer competitors than pulsed laser markets. It was estimated that in 2008, revenues for all lasers for high-power materials processing was $950 million compared to $201 million for marking and engraving. About 75% of the high-power materials processing market was for cutting lasers. The dollar figures would be lower for 2009 given where the world economy is today, but we feel there is a silver lining in our report to be taken from the growing penetration of fiber lasers in high-power laser applications.

As I mentioned earlier, sales of pulsed lasers significantly declined. For Q2 '09, pulsed lasers were down 55% year over year to $9.9 million, representing 25% of revenue. The year-over-year decline was driven from our OEM marking customers who are experiencing reduced demand in their end markets. We are seeing some pricing pressure for our pulsed lasers as well, but mostly on the lower end. We remain confident that we are not losing market share in pulsed lasers and that the quality of our products and the relationships we have with our major OEM customers will position us for growth when the market rebounds.

Sales of medium power lasers decreased 54% in Q2 of '09 from Q2 of '08, and represented 11%, or $4.3 million, of total revenue. Much of the weakness stems from the weak economic conditions, including low demand from microelectronics drilling, commercial printing and micro-materials processing applications. We do not believe that drop is due to loss of market share or customers. It should also be noted that Q2 and Q3 of 2008 were strong quarters for sales of medium power lasers as new customers came on line.

Our low power lasers, which are primarily used for medical applications and micro-materials processing, were down 35% year over year and accounted for 7% of revenue, or $2.8 million, in Q2 2009. Low power lasers are stabilizing because of the recovery we're seeing in our medical business.

From a geographic perspective, we reported 37.5% of revenue from Europe, 32.6% from Asia and Australia, and 29.8% from North America. Our sales in North America appear to have been least affected by the global economic downturn, reporting only an 8% sales decline.

In North America we continued to see resilience from traditional material processing applications, such as cutting and welding in general industries as well as demand for new applications such as battery welding and drilling. This suggests that our high-power fiber lasers are gaining in terms of market adoption versus traditional lasers.

Europe was down 33% with Germany contributing a majority of the decline due to lower sales from marking, solar, and printing applications. Asia and Australian markets declined 30% compared with the second quarter a year ago. Pulsed laser sales in Japan were particularly weak, while Korea had a good quarter due to strong medical orders.

Although still down year over year, Q2 sales in China marked an increase in quarterly sales compared to the previous two quarters, driven by marking and cutting sales to some large laser systems manufacturing OEMs. As we mentioned last quarter, our new general manager in China is aggressively targeting large OEMs and end users for traditional and new materials processing applications including high-power applications.

Turning now to the income statement.

Sales for the quarter were down 28% year--over-year to $40.4 million. We estimate that if exchange rates had been approximately the same as one year ago, our Q2 sales would have been $2.0 million higher.

Gross margins were 29.1% in the second quarter of 2009, compared with 48.1% in Q2 '08. Gross margin was negatively affected by lower absorption of manufacturing costs due to lower sales volumes and reductions in inventory levels, product mix due to lower sales of medium power lasers and the impact of pricing pressures on average sales prices, particularly for pulsed lasers and certain high-power lasers.

In addition, despite our cost reduction programs, which reduced costs in absolute dollar terms, manufacturing costs were higher as a percentage of sales than those of Q2 2008. Inventory write-downs totaled $1.4 million for the second quarter of 2009. We estimate that if exchange rates had been approximately the same as one year ago, our Q2 gross profit would have been $1.4 million higher.

SG&A expenses, excluding foreign exchange losses, were $8.6 million, or 21% of sales in Q2 2009, compared with $9.4 million, or 17% of sales, in Q2 2008. The reduction in SG&A expenses were primarily due to reduced costs for salaries and benefits as well as lower legal, accounting and consulting fees. We estimate that if exchange rates had been approximately the same one year ago, our Q2 '09 SG&A expenses would have been $0.3 million higher in Q2 '09, although still lower than Q2 2008.

I want to update you on recent activity in the lawsuit involving IMRA America. In July, the United States Patent and Trademark Office confirmed the patentability of all of the claims in the IMRA America patent over the prior art cited in the re-examination, as well as of new claims added during the re-examination. The federal court in Michigan previously stayed the litigation until the conclusion of the re-examination. As a result, we expect to incur higher legal expenses in the coming quarters after the stay is lifted and litigation resumes. At this stage, we do not have more information on timing. As we have stated in our 10-Ks and 10-Qs, we have defenses in the lawsuit that we will pursue when the litigation starts again.

The CardioFocus patents remain in re-examination at the Patent and Trademark Office.

R&D expenses were $4.7 million, or 12% of revenues in Q2 2009. This compares with $4.4 million, or 8% of revenues, in the second quarter of 2008. The real dollar increase in R&D is driven by our push to get certain new products ready for production. In Q2 '09 exchange rate gain on transactions and the revaluation of financial assets and liabilities were $0.5 million compared to a loss of $0.3 million in Q2 '08.

IPG's operating loss in the second quarter of 2009 was $1.3 million compared with operating income of $12.8 million in Q2 of last year. Operating income includes stock based compensation related charges of $569,000 and $617,000 in the second quarters of 2009 and 2008, respectively. In the second quarter of 2009, $126,000, $436,000 and $7,000 of stock-based compensation charges related to cost of sales, SG&A and R&D, respectively.

Our tax rate for the second quarter of 2009 was 31%. We estimate an overall tax rate of 31% for the year. The effective rate for 2008 was 32%.

Our second quarter net loss attributable to IPG was $1.2 million, or $0.03 per share, compared with net income of $8.6 million, or $0.19 per diluted share, for the second quarter a year ago.

Year-to-date cash generated from operations has exceeded the amount spent on investing activities by more than $16.0 million.

In the second quarter we reduced capital expenditures to $3.0 million and, in total, to $7.8 million for the year to date.

As a result of these actions, our cash and cash equivalents, net of debt, have increased to $28 million, compared with $12.2 million at December the 31st, 2008. Cash and cash equivalents improved from year-end by $26.8 million to $78.1 million at the end of the quarter. Not included in cash and cash equivalents are $1.3 million in auction rate securities at June 30, 2009, which are included in other long-term assets.

In Q3, we will use some of the cash built up during the year to pay down part of our revolving credit lines. Going forward, we intend to target gross cash on the balance sheet of between $55 and $65 million and use any cash on hand in excess of that amount to reduce short-term debt.

Cash flow from operations in the second quarter was $6.3 million. Cash used in investing activities was $3.1 million, and cash provided by financing activities was $1.6 million. At current business levels, we are still targeting capital expenditures to be less than $15 million for the year.

Accounts receivable decreased to $32.0 million at June 30, 2009 from $41.8 million at December 31, 2008. Days sales outstanding were 71 days at the end of Q2 compared to 65 days at the end of 2008. The increase primarily reflects the timing of shipments during the quarter and, to a lesser extent, some longer payment terms for certain customers.

Finally on the balance sheet, inventory decreased by $10.4 million to $62 million at June 30, 2009 from $72.6 million at the year-end 2008.

This leads us to our expectations going forward.

Visibility remains limited for most of the markets we serve, although it is better in Q3 than it was at the equivalent point in Q2. While we are hopeful for a modest recovery in the second half of 2009, we expect that the weakness in the materials processing market may limit meaningful improvement in our revenue and net income for the remainder of 2009. We also expect that we will continue to experience pricing pressure for the foreseeable future.

However, there are some bright spots. We expect continued resilience in demand for high-power lasers, which we believe to be a result of increasing market share and the enabling of new applications at higher powers. Moreover, we are seeing some strength in the medical, telecom and advanced applications markets. We expect the recoveries in those markets to continue gradually throughout the year.

Let me now provide you with our guidance.

For the third quarter, IPG Photonics expects revenues in the range of $39 million to $44 million. The Company anticipates earnings per share in the range of a loss of $0.02 to a profit of $0.03. That is based on 46,518,000 diluted common shares, which include 45,431,000 basic common shares outstanding and 1,087,000 potentially dilutive options.

This guidance is subject to the risks we outline in our reports with the SEC, and assumes that the exchange rates remain at present levels. I want to reiterate that we do not attempt to forecast gains or losses related to exchange rates.

Before I close, let me also reiterate that we are optimistic about the long-term prospects for IPG. With every challenge there comes opportunity. While the global recession is having a negative effect on our sales and net income for the near-term, we are taking strategic actions to position IPG for strong growth when our markets recover. Our employees are making extraordinary efforts as we continue to offer a compelling value proposition for our customers. With our growing penetration in high-power, a large market, strong focus on R&D, our technological edge, a strong balance sheet, and our solid infrastructure, IPG will continue to capitalize on the opportunities available to us despite current economic and financial crisis.

And with that, we will open the call for your questions.

(Operator Instructions). Our first question comes from Avinash Kant with D.A. Davidson. Please proceed with your question.

Good morning, Valentin and Tim.

Good morning, Avinash.

Good morning.

Quick question, first, in terms of the outlook that you are talking about. It's remaining kind of at the same level. Do you mean that in Q4 also you would have similar revenues as you have in Q3? Or you're talking about second half versus the first half?

I think we're talking about the second half versus the first half. We can't at this point in time provide specific guidance about Q4. Just it's a little early to do that.

Where we stand coming into Q3, though, by looking at the equivalent period we were at, at the beginning of Q2, in terms of shippable orders in hand, we're in a better position and I think have greater confidence in the guidance we're providing right now compared to the beginning of the second quarter.

And I believe there were some larger orders that you were expecting to close on. Have you received those orders already, or you are waiting on them? Especially from the auto side.

We've had another new order, for example, from BMW, so that confirms strength in that relationship. I would say that we've had a couple of orders, as well, from Ford. We've definitely seen some activity on positive movement on Daimler in Germany, also some activity with people like Audi. But we haven't talked about expecting any 10- or 20-unit orders in the immediate future. I think we're still looking at 2010 for that. But I would say right across the board there's been a strengthening of our relationship with just about every single automotive manufacturer.

And interesting -- I was just looking at some of the numbers. Our automotive sales this year, both direct and to OEMs, are actually up on the first half of last year despite the tremendous weakness in that market.

Valentin could probably add some stuff on the other relationships that we're seeing strength on.

We're practically now working with all -- practically 90% of the major automotive players. With all of them, test results and the use of our laser they use now, we have very positive return back. So we don't have any problem with any of this automaker business to compare with other players in the market who have very big problems.

Okay. And, Tim, you talked about the margin decline, and of course you could expect some pressure from competition. And you said you see this in the foreseeable future. So do you mean that if you were to return at similar levels as you had in the past, your margins would be lower than what you achieved in the past cycle?

In the near term, if we were to get back up to $55 million, right now, with the component cost base, yes, margins would be a little bit lower. I would say you'd be targeting 42% to 45% rather than 45% to 48%. But we are working on several areas where the component cost base should come down as we run through existing inventory.

So, for example, we announced the introduction of these very high-powered diodes. That will reduce the cost per watt on the diodes. It will reduce, for example, also production time because fewer splices are required. We're also introducing other lower-cost components.

We will also see in 2010 real benefit from the introduction of our beam combiners and --

(multiple speakers)

Talking about diodes, though, overall it looks like the prices of diodes have come down significantly. Now, could you talk a little but about the differential that you still have compared to the diode prices out there and the one that you are making?

Probably diode prices in the open market are down, but there's still a significant advantage that we have. We'd say we're probably somewhere between 20% to 30% of the cost in the open market.

There is nobody really out there who's buying in the volume, though, that we use, so it's very difficult to put a definitive number on that. In the low volumes that people buy, the price of a diodes in the market is much, much higher than we're at right now. It remains a key competitive advantage of ours.

And then final question, could you give us the depreciation and the headcount number at the end of the quarter?

The depreciation and amortization number is on the release on the cash flow.

Okay. (inaudible) I believe?

Haven't gotten at hand right now.

That's fine. I'll look it up. Yes. And what was the headcount?

We don't disclose headcounts on a quarterly basis.

Okay, perfect. Thank you so much.

We try to save all our key people so we don't use up to now any essential labor cut.

Thank you so much.

Our next question comes from C.J. Muse with Barclays Capital. Please proceed with your question.

Yes. Good morning. Thank you for taking my question. I guess on the first part, sort of thinking medium longer term on the competitive landscape. Aside from the marking market, can you comment on where you're seeing increased competitive pressure within fiber lasers, and then, I guess, in terms of your bread and butter, higher power segment, can you talk about what you're doing there to continue to separate yourself from your competitors.

So I'd say the competition is really still primary focused on pulse lasers. There are numerous people out there manufacturing. There's a couple of people who've brought a lower quality device to market in China.

Across the other products, in terms of fiber lasers, even at the medium power level and the high-power lasers, the competition is very, very much more limited. I would say that where we are seeing more of the pricing pressure is particularly from TRUMPF and their disc laser where we're having to compete on certain customer wins there. So the competition is really coming from some of the other more legacy laser systems rather than on fiber at those higher power levels.

So as you have those discussions with customers then on pricing -- and clearly your cost of ownership is a nice tailwind for your customers -- I guess can you talk about how you're positioning pricing? It sounds like you're now flat. Was that really necessary given the competitive advantages of your tools?

In this environment, it really-- yes, it was, C.J. Customers are putting -- particularly where they're going-- they had TRUMPF quoting to them. Customers are putting pressure on all sides of the partnership. And in order to win some very key customer relationships, we did have to become competitive on the upfront pricing costs.

The other strategy, though, as well is that, particularly in this environment, there are a lot of total cost of ownership to be earned over a period of years. You also have to be-- it becomes a more difficult proposition, I think, just to simply sell on that basis. In order to really penetrate the market, particularly on cutting and these high-volume units, you do have to become upfront-- competitive on an upfront cost basis as well as offer those lower operating, lower total ownership costs. And that will really drive significant volume increases here. We don't want to just be selling 300 or 400 high-power lasers a year. We want to be getting into selling thousands and more than a thousand high-power lasers a year.

Okay, makes sense.

And then, I guess on your geographical mix, US holding up much better than Europe and Asia, and I guess my question is here, why do you think that is? Is that because of your larger footprint here? You've had more years here, more years for your customers to get their arms around fiber lasers. And I guess, as a follow-on to that, when will we start to see the breadth of ordering from non-US customers?

I think it's the other way around. First of all, it's probably an earlier stage of penetration in the US and also some newer applications and industries, particularly in battery welding. The 20-kilowatt we sold into a very advanced materials processing application. In Asia and Europe, we had far more OEMs selling lower power and pulse laser devices. So when those sales drop down, relatively speaking, they have a bigger impact in Asia and Europe. If you strip out the pulse laser side of it and you and focus on the high-power lasers in Europe and Asia, there is probably an equivalent amount of stability.

So the US just had less wider adoption on the pulse laser sales. They hadn't got to the level -- for example, [Funt] was a 7% or 8% customer of ours a year ago in Japan. The first half of this year has just been very, very weak for them. So it's more of the impact on the pulse and low power that tends to give an indication of a steeper drop in sales in those other areas.

That's helpful. And last question from me. Can you provide some help or guidance around the gross margin and OpEx levels for September?

I'm a little bit wary about doing that. I think we factor that in when we give the guidance. I'd say at the bottom end of our guidance, we are factoring in continuing to take inventory levels down, which is why we still see a loss there. And gross margins would be probably around the 30% level as well.

As we come into -- and it's very difficult on the inventory planning right now to tell you exactly what we're going to do because as we see order flow coming through August and September, we will then make production decisions on what we need for Q4. So if we see Q4 with some additional strength, instead of taking inventory down, we may stabilize inventory and increase production to meet that demand in the fourth quarter. If we did that and we got to the top end of our guidance range, I would expect to be above 35% in gross margin.

That's helpful. And on the OpEx, I would think that would be a little easier.

OpEx levels will basically be-- R&D and SG&A will basically be flat with the quarter. Through the quarter.

Perfect.

In Q4, you should probably take into account some higher legal expenses. They won't be that material in Q3, but Q4 should probably factor in about $750,000, potentially, on legal expenses.

Thank you very much.

Our next question comes from Jim Ricchiuti with Needham & Company. Please proceed with your question.

Hi. Thank you. You mentioned that Q3 started off better than Q2 did. I wonder how would you characterize the first month of Q3, say, with the month of June? And recognizing you see a lot of activity probably late in the quarter.

So just in terms of book-to-bill, we had book-to-bill in excess of 1 in the second quarter. So in terms of shippable backlog right into the beginning of Q3, we had a greater percentage of shippable backlog relative to guidance. It was probably up to about 75%, whereas the beginning of Q2 was 65%.

In the second quarter, we knew we had some big orders that were coming in towards the end of the quarter. Those did come in. And July, the first few weeks of the quarter, in terms of order flow, show relatively stability with April, May and June as well. So that stability we talked about has continued to be maintained.

Okay, that's helpful. Now, based on your guidance that you're giving, at the low end roughly sequentially flat, I'm just curious -- do you see much of a seasonal downtick in business in Europe? And if so, are you anticipating some improvement in some of the other geographies, possibly in Asia/Australia, which was down year-over-year quite a bit?

I tell you what. We're a little bit wary about August just being a very slow month -- or could be a slow month for orders, just with the vacation time, in particular, in Europe. But the guidance really reflects, I think, a couple of things. There's timing of export licenses for orders that we already have in hand for China, and a lot of those are the kilowatt-scale lasers. If some of those export licenses even slip by four or five weeks, we could see a couple of million dollars revenue slip related to those.

We've also got some revenue recognition on a couple of high-dollar items in Japan that are scheduled to be delivered at the end of the quarter. So we just want to provide some comfort that we're going to be able to-- if those slip, as well, we're going to be able to manage around that.

Okay, just regarding the last point you made about Japan, are you seeing some signs of improvement there, or was this just a customer that has been very weak and just came back with an order late in the quarter?

Well, some actually customers have placed orders with specific delivery in September. The pulse laser orders through Q2 were weak. The remaining order flow in Japan was relatively stable. Coming into the beginning of this quarter, we actually got our first meaningful order from the major marking customer in Japan, and that's for delivery -- those are lower-power units, so they don't effect revenue recognition so much. But they're for delivery at the end of this quarter and the beginning of Q4. So it's pleasing to see that order come in.

I'd say the first few weeks of the quarter in Japan in terms of order flow have been a little bit weak, but then just over the last couple of days, there's been some pickup there a little bit.

Okay, thank you.

And the pulse laser in Japan, our major customer (inaudible) now with (inaudible) .So for second half of the year, pulse laser from Japan will be much higher order than it was first quarter.

All right, thank you.

Our next question comes from Joe Maxa with Dougherty & Company. Please proceed with your question.

Thank you. I just wanted another update on the high-power lasers. The 10-kilowatt you sold, I was wondering what application. And then an update on your expectations for, perhaps, the number of these multi-kilowatt lasers you may sell in the second half.

Hi, Joe. I think you're referring to the 20-kilowatt. That was a very advanced materials processing application that we cannot talk about. We're under an NDA with that.

And then in terms of multiple units, I think specifically on the high-power side, we will see some pickup in high-power laser sales coming into Q3. There's no 10- or 20- unit order that's driving that at the moment.

here are numerous orders coming in from new customers, for example, on the cutting side, like [Solvenini], Prima, this customer that's developed this application for scribing magnets is going to place some multiple unit orders. Those are in the order of three to four units.

Some of the auto manufacturers are still talking 40 to 60 units, but the likelihood of those is still 2010, not the second half of this year at the moment.

When Valentin mentioned the 10-kilowatt single-mode laser, did I understand you-- did he say you accepted the first order?

Oh, yes, sorry. We do have an order for that. It's in the advanced government application arena for directed energy.

And you expected that the second half?

The order is already at hand, yes. That will ship sometime during the second half of the year.

We have demonstrated, first, it's possible to get from fiber laser 10-kilowatt single mode. Nobody -- one year before, nobody believe it's possible in principle. Now we have demonstrated it's critical for and practical we overcome the result of application and directed energy application with fiber lasers. But we need still qualify this laser because we're careful. We have now requests from some other people to (inaudible) such laser, but we still need some time to (inaudible) to finish development. But it's very prospective laser for some applications.

Okay. And then another topic, I was just wondering did you break out what percent of your revenue comes through your system integrators or OEMs versus direct?

No, we view the system integrators and OEMs as a direct. We don't view them as a distribution relationship.

I see. Okay. Thank you.

(Operator Instructions). Our next question comes from Jiwon Lee with Sidoti. Please proceed with your question.

Thanks for taking my question. Just two quick ones. I understand your frustration towards the market, but as the upfront cost as well as the overall cost of ownership become more competitive with legacy lasers, when the market does come back, I'm wondering which applications do you expect to pick up better for you? Whether it is cutting, welding or (inaudible). And sort of relatedly, if that scenario materialize, what end market would end up being the biggest for you, like auto or general industrial?

We hope that-- we are sure that material gross marking would be the biggest in the future, and we are sure that our position in the major today application-- major application-- it's cutting-- the cutting up to 800 to 900 million is the biggest application from laser today for high-power lasers.

And we (inaudible) -- this year we penetrate this market. We're growing very successful. We built now the price structure and all other performance very competitive with traditional tier-tow, which dominate in this market niche. Other application we were sure will be very successful. New application is, for example, a long-pulse laser, for which now it's still. A [Criston] laser, [YAG] laser, a $300 million market for some application that people need of high energy pulse like many joules per pulse.

Before fiber laser did not compete at all in this market, such company like TRUMPF, and now they have very good business. Now we introduce this market, new (inaudible) laser. We are sure during some, a couple years, we'll be dominant player in this market segment also.

From other application, we're sure that we will turn back very aggressively on the telecom market. We create now very good new platform and complete solution that before we sold only parts and (inaudible) for this market segment. Now we develop very perfect complete solution of complete (inaudible) system for long-haul (inaudible). It's a broadband application for digital TV, and we are very aggressively going (inaudible) for this market. We believe our telecom-- market share of telecom will rebound back not from few percent but will be 20%-plus, in our total growing revenue.

In medical market, also, we have very serious perspective. Before we worked (inaudible) with one customer, OEM. It was [Reliant]. We now have more than 10 OEM customers, and the business start to grow again. So medical market also increase share in our total revenue very essentially, in spite of our growth in industrial applications.

Okay, Valentin. That's helpful. And then on the defense side, earlier this year there were a couple of opportunities to (inaudible) some laser-based weapon systems. Can you give us an update as to where those opportunities stand?

There's nothing really specific to report on that. There's continued developments and process work being done by people. We're speaking to just-- continue to speak to just about every defense contractor out there. I think our lasers are being used in some areas where people are not prepared to talk about them. I think that there's an indication even at the lower power level on the 2-kilowatt side that we could see some orders for the IED and mine destruction capabilities coming into 2010.

So there's really no specific update to provide on that one, Jiwon. I think that it just continues to develop.

And one more thing. What about some updates on the solar side of the business?

Coming into the second quarter, solar was a little bit weaker than a year ago. I think we're waiting to hear on a couple of projects which are supposed to come back on stream at the end of this year. And hopefully one order that should be a couple of hundred units that would be for delivery in the first quarter of next year.

We've actually had some good order flow outside of Europe and the US with some of the-- that we've got in with a Japanese integrator who's a supplier to Sharp. And we've had some reasonable order flow on that on the first half of the year. But the solar market remains choppy at the moment.

We have a lot of requests for pulse lasers, and we claim before we develop such a laser, but it took the time to finish specification to prepare for mass production. Now we're ready for this. We're starting to ship this pulse laser, and we believe during couple quarters, the pulse laser will bring us a lot of revenue for a special-- for solar application because of people require these green wavelengths.

Excellent. That's helpful. Thank you.

Our next question comes from Sven Eenmaa with Thomas Weisel Partners. Please proceed with your question.

Yes, hi. This is Sven Eenmaa calling in for Ajit. Couple of questions, first one is on the gross margin side, you mentioned that you took inventory write-off around $1.4 million. What components or products did that pertain to?

General -- I mean, older style optical components. We also looked at the specific diode chip and identified some potential excess quantities on an older style chip. So that was where our focus was. It's always optical components that are older and that are not being consumed at the moment. And then in this quarter as well, we looked at the little bit of excess that could potentially arise on an older style chip, Sven.

Okay. So in terms of -- if you look at the September quarter, I'd expect to take further inventory write-downs?

I'd hope that they're more moderate than Q2.

But take in mind the component is still of good quality, so we will plan to use in the future, but according SOX rules, we have to make this.

Okay. And in terms of, if I look at the gross margin range for the next quarter, I think you mentioned 35% at the high end. Where do you expect it to be at the low end?

I mentioned about 30%. But that would also factor in a further reduction in inventory. And I characterize that because we have to make our production planning decisions coming into the end of August for September and that will be driven by outlook for Q4.

Great. That's very helpful. And in terms of -- if I think of the R&D spending levels going forward here -- are you currently at the run rate where we expect to be through the end of the year? Or is that -- is the current level just associated with a couple of products you are launching in near term?

So, I think Q3 will still be relatively the same level of R&D, and then coming into Q4 as we move into actually a high level of production particularly, hopefully, of the green lasers and also start to increase production in some of the newer diode chips, we should see R&D come down a little bit in Q4.

Of the (inaudible) which we've done in (inaudible) development to the production levels we sold, I expect R&D in quarter four would be less.

Okay. And my final question is in terms of -- just to clarify, in terms of that pricing impact going into the second half of the year, do you see the primary pricing pressures then in the medium power and pulsed laser side? It sounds like in the high-power side the price is stabilization?

You have to understand that pulse laser-- low-end pulse lasers are becoming commodity products, so a lot of competition. Price will go down in such cases, usually, in the market.

So, but compensate that introduction market, high energy with pulsed laser, which still unique. Nobody has similar product. We don't expect they will able to introduce similar product during couple of next years. So it's very much more productive in the applications than low-power lasers, and we believe that will compensate and they also would be much more profitable.

Great. Thank you very much.

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

Okay. Thank you for joining us today. We plan to continue to make progress in executing on our operational and financial goals during the second half of 2009. Moreover, we expect the strategic decisions that we have made internally and externally should help ensure that IPG is able to capitalize on our growth opportunities. We look forward to speaking with you again following the third quarter, with I believe-- I hope with much better results.

And that concludes our conference call. Thank you for joining us today.