IPG Photonics Corp (IPGP) 2010 Q4 法說會逐字稿

Good morning, and welcome to IPG Photonics' fourth-quarter 2010 financial results conference call. Today's call is being recorded and webcast. There will be an opportunity for questions at the end of the call. (Operator Instructions). At this time I would like to turn the call over to Mr. 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 Mammon.

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, 2009 and other reports on file with the Securities and Exchange Commission. Copies of these filings may be obtained by visiting the Investor section of IPG's website at investor.IPGPhotonics.com/SEC.cfm or by contacting the Company directly. You may also find copies on the SEC's website at www.SEC.gov.

Any forward licking statements made on this call are the Company's expectations or predictions only as of today, February 25, 2011. The Company assumes no obligation to publicly release any updates or revisions to such statements. We will post these prepared remarks on our website following 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. Valentin Gapontsev.

Good morning and thank you for joining us today. It's a deep pleasure to report to you that IPGP ended 2010 with an exceptional fourth-quarter financial performance. Revenues were up 86% in Q4 to $101 million driven by the broad-based demand strength. Geographically we experienced significant year-over-year sales increases in every major region with China and Europe performing extraordinarily well.

Materials processing was our strongest end market in quarter four, reporting a triple digit year-over-year increase in sales. The Communications and Advanced Applications markets were also robust with double-digit increases from Q4 of 2009. On a product basis high-power lasers are now our largest product category and pulsed lasers are our second largest product. Both achieved triple digit year-over-year sales rates.

Increased sales and manufacturing efficiencies increased gross margin to 55% in Q4 2010 as compared with 36.7% in the fourth quarter of 2009. Looking at the bottom-line, sales growth and strong operating leverage resulted in a significant increase in our net income for the quarter. Earnings per diluted share climbed to $0.56 from $0.07 in the fourth quarter of 2009, an eight-fold increase.

Our fourth-quarter results capped a very successful year, both from a financial and strategic perspective. For the year we grew revenues by 61% to $299.3 million and achieved earnings per diluted share of $1.13 versus $0.12 in 2009. Gross margins for the year were 48.9%, a dramatic improvement from 34.6% in 2009.

Sales of pulsed and high-power lasers for industrial applications ramped significantly during 2010. We have seen a shift in the market acceptance of fiber lasers as customers enthusiastically embrace our products, recognizing the proven performance and efficiency benefits that fiber lasers deliver.

The growing number of our cutting and welding OEMs in particular demonstrates that as markets increasingly turn toward fiber lasers we are witnessing a technology transformation from legacy laser technologies to fiber lasers.

During the year we continued to innovate, introducing new products and reducing costs. In 2010 we began to see some of our new product contributing to revenues in a meaningful way, such as our QCW laser and high-power pulsed lasers. We also increased production of internally produced components such as beam splitters, couplers and chillers.

Geographically we made considerable progress in penetrating key regions. In China, for example, our efforts to penetrate the market resulted in a 176% increase in sales for the year. Recently we announced the appointment of Trevor Ness Vice President of Asian Operations. Trevor will help us continue the momentum we have established in China and throughout Asia and expand our reach in the region.

In Russia our partnership with the Russian Corporation of Nanotechnologies that we announced last quarter strengthened our position in the Russian telecommunication and materials processing markets by providing new opportunities and additional resources to capitalize on them.

In 2011 we will continue to invest in our technology, our capacity and our sales infrastructure. We will continue to deliver superior products to our customers and we will maintain our leadership position. We are excited by our prospects for 2011 and beyond.

I want to take this opportunity to clarify the purpose of some of my recent stock transfers for estate planning purposes. Many reported that I sold millions of IPG shares in December 2010 and January 2011. I recently reported that I transferred an aggregate of 9 million shares and some of my shares of IP Fibre Devices, a company that controls a large block of IPG stock, to two of my trusts created for estate tax planning.

These transfers were not open market sales. My transfers to the trust and open market sales are reported the same under SEC rules. Despite explaining in the SEC report that these were estate planning transfers, some newspapers and others reported these as open market sales. I will add that since my transfer of the shares to the trust, the trust has not sold any shares. Their target to hold the shares portfolio of IPG as long as would be possible.

The trusts would be managed by my partners, top officers and scientists, who have made the highest contribution in funding and development of IPG. From another side I personally will have sold a small quantity of shares in January and February, pursuant to 10b5-1 plan to pay gift taxes. Now I will turn the call to Tim Mammen.

Thank you, Valentin, and could morning, everyone. I'll start with a review of our end markets, products and geographic regions, after that I'll follow with a summary of our income statement and balance sheet and close with our guidance.

Materials processing, which is by far our largest market, was our strongest during the quarter. Materials processing sales increased to $84.5 million or by 106% compared with Q4 a year ago and 25% from the sequential third quarter.

Fiber lasers are used by many industries for their material processing and we saw continuing penetration into this market which is the largest part of the addressable laser market. Material processing applications, including cutting, welding, marking and engraving and cladding for general manufacturing, automotive and other industries all increased significantly in the quarter.

In the fourth quarter we continued to see a growing number of major cutting OEMs around the world transitioning from CO2 lasers to fiber lasers, particularly in Japan and China, in addition to the growing number of cutting OEMs in Italy, Germany and Russia. We expect to grow our customer base in cutting applications in 2011 as a result of the growing adoption of IPG's 1 to 3 kilowatts lasers for that application.

Advanced applications, for which order flow can be more uneven, increased to $9.4 million or by 39% year over year and 66% sequentially. As we expected, during the quarter we shipped our first 10 kilowatt single mode laser. We are working with a diverse number of customers in this market in the areas of test and measurement, instrumentation, sensing and defense applications, as well as scientific research and development. Order flow also improved in advanced applications in Q4 due in part to increasing orders for our proprietary diode and high-power fiber lasers.

The telecommunications market increased to $4.8 million or by 43% year over year, but down 7% sequentially after a particularly strong Q3. Most of the growth in the fourth quarter was for long haul broadband access in cable TV in Russia. We are penetrating that market with new products that we specifically developed for this geography and to capitalizing on strengthened relations there -- relationships there including RUSNANO.

We expect this relationship to help us advance our penetration of the Russian telecommunications and materials processing markets. IPGP is gaining telecom OEM customers in other geographies as well, including Portugal, Finland, Taiwan and China aided by our high-power products that provide reliability and cost advantages.

Medical sales decreased to $2.2 million or by 26% year over year compared with a particularly strong Q4 of 2009, but were up 63% on a sequential basis compared with a relatively weak Q3. During the year we were successful in diversifying our base with new OEM customers using our lasers for a broader array of applications including surgical procedures.

We plan to continue to expand our OEM customer base. However, it does take a good amount of time for new OEMs to generate significant orders because of regulatory approvals.

Let's turn to our performance by product line. High-powered lasers have now become our best selling product line. Sales of high-power lasers increased to $40 million or by 100% year-over-year and 59% sequentially. We are pleased with how high-power laser sales have ramped through the year.

The key take away is that a growing number of cutting systems OEMs are adopting fiber lasers because of its outstanding performance, reliability and electrical efficiency. As more OEMs convert to fiber it validates fiber lasers and provides more incentive for others to convert to fiber. We saw the same phenomenon when we penetrated the pulse laser market.

Pulse laser sales also recovered very nicely with the economy, increasing to $31.6 million or by 142% year over year and 4% on a sequential basis. The increase in general manufacturing contributed to the increase in pulse laser sales including high-power pulsed lasers.

I mentioned earlier the increased acceptance for fiber lasers in general manufacturing materials processing applications, and that is what is driving much of the high-power and pulse laser demand. We continue to see solid growth in welding applications and have accelerated our growth in cutting applications significantly. We've also seen significant traction for cladding applications during the year, including cladding of oil drill bits and cladding of materials for the Aerospace industry.

We also continue to see demand from industrial and consumer electronics manufacturers seeking pulsed lasers capable of being used in marking systems to apply serialized alphanumeric, graphic or bar code identifications directly onto their manufactured components. Deep engraving for vehicle identification in the automotive industry also contributed to the increase in high-power pulsed sales in the quarter and for the year.

In the fourth quarter we reported a significant increase in revenues for oblation applications largely driven by solar panel manufacturing. Sales of medium power lasers, which are primarily used in microelectronics, printing, consumer and sintering applications, increased to $7.7 million or by 75% year over year and 49% sequentially. We have seen particularly strong demand for medium power lasers for sintering applications which more than doubled on both a year-over-year and sequential basis.

Printing applications have also strengthened during the year, primarily due to a recovery of orders from one of our major OEMs in that industry. Other applications include micro-welding, thin metal cutting and marking for consumer electronic products.

Low-power laser sales, which are used for mostly medical and micro materials processing applications, decreased to $4.7 million or by 10% year over year, but up 19% sequentially. This is in-line with the trend we saw in sales for medical applications that I discussed earlier.

As we grow the number of our medical OEMs we are hopeful to see growth in low-power. However, as we have noted in the past, it takes time for medical OEMs to ramp up sales due to the regulatory approvals that are required.

Sales of other products, which include amplifiers, diode lasers, and at the moment the new QCW lasers and certain components increased to $9 million or by 44% year over here and 12% sequentially. Service, parts, lease and other revenue totaled $8 million.

I will now review our major geographic regions. As Valentin mentioned, we had strong growth across all major geographic regions during the fourth quarter with particular strength in China and Europe. European sales increased to $40.4 million, or by 93% year over year, and 32% on a sequential basis. Cutting applications, especially to Italian OEMs, have seen particularly robust growth throughout the year and Q4 was no exception.

Also we experienced strong sales to auto makers and their suppliers for welding applications. I want to note that some laser sales are being assisted through the sale of the laser seam stepper technology we acquired last year. Much like in other geographies, sales to Europe have also been helped by growth in marking and engraving, welding and printing.

In Russia, which is included in our European sales, high-power materials processing is growing rapidly to complement the telecommunications opportunity there. There are an increasing number of OEMs supplying our lasers and with our 20-year history of operating in Russia, as well as our production facility in the country, IPG has many advantages over the other large international laser makers in the large Russian market.

North American sales increased to $17.5 million or by 44% on a year-over-year basis and 17% on a sequential basis. Materials processing sales for welding, marking and engraving and cutting applications again drove the growth in North American sales. The US automotive industry is again investing in new equipment, including automated production systems after recovering from the great recession. Many are choosing fiber lasers over competing laser and non-laser technologies.

The telecommunications business in North America, which had improved slightly in Q3, was soft in Q4. Lasers for medical applications, which are primarily sold into the domestic market, were soft on a year-over-year basis, as I mentioned.

Asian sales increased to $42.9 million or by 105% year over year and 25% sequentially. China was the stand out performer in this region. High-powered laser sales have fueled growth in China and the economic rebound there also helped expand our existing low-power and pulse business for marking and engraving applications and is responsible for the strong demand in this market.

In China our fiber lasers are competing well against CO2 lasers in cutting for consumer appliances, automotive, decoration and construction uses. Other Asian nations, except for Japan, also saw good growth. Japan's fourth-quarter sales were 8% higher than the same period in 2009 and were down 18% sequentially due to a strong Q3 in Japan when we sold a 25 kilowatt laser for testing with copper welding and nuclear facility decommissioning applications.

However, we have seen increased order flow in Japan in Q4 of 2010 and entered 2011 with a strong backlog there. In addition, we have begun to see some orders add serious interest from Japanese cutting system OEMs. We are optimistic that Japan can be a larger source of growth in 2011. The rest of the world, which represents less than 8% of our business, decreased to $0.2 million or by 91% year over year and 57% sequentially.

Now turning to the income statement. Total sales for Q4 increased 86% year over year and 27% sequentially to $101 million and exceeded our original guidance for the quarter of $80 million to $86 million. Gross margins improved to 55% for the fourth quarter compared with 36.7% in Q4 2009 and 50% in Q3 2010. Several factors contributed to this excellent year-over-year and sequential improvement in gross margin.

First is the significant leverage we have in our business model. Cost of sales have only increased by 32% year over year compared with the 86% sales growth and increased 14% sequentially compared with 27% sales growth. The absorption of manufacturing expenses has significantly improved with an increase in capacity utilization. As we mentioned last quarter, shifting manufacturing of certain components and products to the US and Russia has significantly enhanced our capacity utilization in those countries and relieved certain capacity constraints in Germany.

Second, lower cost high-power package diodes developed in 2009 are now being used widely in our products, particularly in high-power lasers, and we continue to drive down the manufacturing costs of these components by improving package designs.

Third, product mix benefited from sales of medium power lasers, diodes and new products, including high-powered pulse lasers and QCW lasers.

And finally, the volume of our lower cost internally produced high-power laser accessories, which we previously sourced from outside vendors, has increased.

SG&A expenses in Q4 were $11.9 million or 11.8% of sales compared with $10.1 million or 18.6% of sales in the fourth quarter of last year. While SG&A expenses decreased as a percentage of sales, in absolute terms SG&A expenses increased primarily due to higher salaries and benefits. Salaries and benefits increased due to the accrual of performance-related bonuses compared with no accrual in 2009.

SG&A expenses also include legal expenses related to the IMRA litigation, although legal expenses in Q4 2010 were lower than the same period in 2009. I will provide you with a quick update on the IMRA litigation.

At this point the court has issued a Markman Order on claim construction and we have submitted motions for summary judgment. A summary judgment hearing is scheduled for March 3. Depending upon the outcome of that hearing the trial date would then be set. Although a good amount of pretrial work has been done, we expect to incur significantly higher legal expenses when activity in this case picks up again as we vigorously defend IPG against the claims in this lawsuit.

R&D expenses were flat year over year on a real dollar basis, but down significantly as a percentage of sales at $5.3 million or 5.2% of total revenues versus $5.1 million or 9.4% of total revenues for the fourth quarter of 2009. Our research and development efforts are focused on designing and introducing new and improved products by increasing power levels, improving beam quality and electrical efficiency, decreasing the footprint, and lowering the cost per watt of our lasers.

Operating expenses include a $0.5 million net foreign exchange gain during the quarter compared with a $47,000 net foreign exchange loss during the same period last year. Total operating expenses for the fourth quarter of 2010, excluding the effect of foreign exchange gains and losses, was $17.2 million compared with $15.2 million for the same period last year.

Fourth-quarter operating income was $38.8 million or 38.4% of sales compared with the $4.7 million or 8.6% of sales in the fourth quarter of last year. Operating income includes stock-based compensation charges of $718,000 and $782,000 in the fourth quarters of 2010 and 2009 respectively. In the fourth quarter of 2010, $145,000, $470,000 and $103,000 of stock-based compensation charges related to cost of sales, SG&A and R&D respectively.

Our tax rate for the fourth quarter of 2007 was 29.8% which is lower than previous quarters in 2010 due to higher levels of income earned in lower tax jurisdictions and because previous quarters included the impact of tax settlements in Germany and China.

Net income increased to $27.1 million from $3.1 million a year ago. On a per diluted share basis we reported $0.56 in Q4 2010 compared with $0.07 per share in the fourth quarter of 2009. We estimate that if exchange rates had been the same as one year ago, sales in Q4 2010 would have been $1.5 million higher, gross profit would have been approximately the same and operating expenses would have been $0.5 million higher.

Now turning to the balance sheet. Our cash and cash equivalents increased by $51.2 million sequentially to $147.9 million at the end of the quarter. This includes $25 million related to the minority investment by RUSNANO in IRE-Polus which was completed in December 2010. Excluding the RUSNANO investment cash and cash equivalents increased by $39.9 million or by 48% during the year. I will discuss the accounting related to the investment later.

At year-end 2010 inventory was $72.5 million, up 37% from year-end 2009, including the translation effect of foreign exchange. The increase in inventory is less than the increase in sales. Our current level of inventory represents slightly less than six months on hand; this is within our target range which is to turn inventory two times per year based upon cost of sales.

Accounts receivable were $55.4 million at the end of the fourth quarter or 49 days sales outstanding compared to $30.4 million at December 31, 2009 or 50 days sales outstanding. We are very pleased that we've been able to significantly increase our sales volume without degrading our days sales outstanding.

Despite the increase in inventories and accounts receivable, for the year to date we were able to generate cash from operations of $63.4 million. Cash generated from operations in the fourth quarter was $34 million.

Capital expenditures and acquisitions of businesses totaled $32 million for the year which was higher than our expectation of $25 million. Due to the positive demand trends we accelerated certain capital expenditures in 2010.

For 2011 we expect that our capital expenditures will be approximately $50 million. This will be primarily used for capacity expansion in Germany, the US and Russia and to enhance our sales and service infrastructure with new facilities in China, Italy, Japan and India. In the fourth quarter we signed contracts to purchase additional land and buildings in Germany, Russia, Japan and Italy.

Backlog, which we report annually, was $171.6 million at December 31, 2010 compared with $68 million a year ago. Our backlog includes $98.6 million of orders with firm shipment dates and $73 million of frame agreements that we expect to ship within one year. In 2009 our backlog included $47.8 million of orders with firm shipment dates and $20.2 million of frame agreements.

I will now, as briefly as possible, discuss the accounting for the minority investment in IRE-Polus. A full description of the terms of the investment and the accounting will be provided in our Form 10-K. RUSNANO invested $25 million in our Russian subsidiary, IRE-Polus, and in return received a 12.5% equity interest, warrants to purchase a further 12.5% for $25 million, and a put that is exercisable after the fifth anniversary of the agreement in years five or six.

The put exercise price is the principal amount of the investments plus simple interest accrued at 4%. IPG Photonics obtained a call that enables the Company to buy back the minority equity stake after the third anniversary of the agreement in years four through seven at the principal amount of the investment plus simple interest accrued at between 8% and 10% depending on when and if the call is exercised.

Under certain exceptional circumstances the Company can call the investment prior to the third anniversary of the agreement. The warrants are exercisable once IRE-Polus achieves certain revenue targets. As a result of the non-controlling shareholder put, the investment will be accounted for as a redeemable non-controlling interest outside of permanent equity. A fair value of the warrants is included in other long-term liabilities.

Each reporting period net income attributable to non-controlling interest will include the investor's share of IRE-Polus' net income from the period, currently 12.5%. If and when they exercise their warrants this share will increase potentially to 25%. We expect them to exercise a warrant to acquire a minimum of a further 5% for $10 million in either March or April.

If the accretive put value of the investment exceeds the value of the non-controlling interest, then an additional charge to earnings per share would be required to increase the non-controlling interest to the accreted put value. However, so long as the IRE-Polus earnings attributable to the non-controlling interest exceeds the 4% simple interest creation on the investment, no additional charge to earnings per share would be necessary.

In the fourth quarter the total amount attributable to the non-controlling interest was approximately $276,000. If the investment had been outstanding for the whole of the fourth quarter the amount attributable to the non-controlling interest would have been approximately $1.1 million and would have reduced our earnings per share by approximately $0.02 for the full quarter. Changes in the fair value of the warrants will be booked to other expense but are expected to be immaterial.

This leads us to our expectations going forward. The sales growth that we have achieved in 2010 is the result of our continued focus on driving the proliferation of fiber lasers in existing and new applications while further extending our leadership position in the markets we serve. Fiber lasers are estimated to account for only 16% of total laser revenues according to Industrial Laser Solutions.

There remain significant opportunities for IPG's fiber lasers. As Valentin mentioned earlier, we believe that we have seen a shift in the acceptance of fiber lasers and we are squarely positioned with a superior technology to capitalize on this trend.

Our task is now clear-- manage our growth and make the necessary investments in order to maintain our technological superiority and provide the best equipment and service to customers and build capacity to meet future demand. With the leverage in our business model we believe we can translate that demand into excellent profitability for the long-term.

Now let me provide you with our guidance for the upcoming quarter. After a stellar Q4 in terms of sales our order flow has remained quite strong. We expect to report robust quarterly year-over-year revenue and earnings growth in Q1 even after taking into account historical seasonal patterns which typically result in lower sequential quarterly revenue in Q1.

For the first quarter of 2011 IPG expects revenues in the range of $89 million to $95 million, the Company anticipates earnings per diluted share in the range of $0.37 to $0.44. That is based on 48,141,000 diluted common shares which includes 46,835,000 basic common shares outstanding and 1,306,000 potentially dilutive options at December 31, 2010.

This guidance is subject to the risks we outlined 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 and losses related to exchange rates. And with that we'll open the call for your questions.

(Operator Instructions). Paul Thomas, Bank of America-Merrill Lynch.

Good morning, thanks for taking my question. Maybe first on the gross margins, how should we be thinking about those now? A while back you had target ranges at different revenue levels, but obviously those seem out the window now. About $90 million in revenue, do you think you'll be at 50% gross margins or above or what do you think the range is there?

I think that in the medium term now targeting 50% and slightly above is the appropriate level to be at. We will add capacity during the year, so we expect some increase in fixed cost. In addition, we mentioned that Q4 did benefit a little bit from product mix including diode sales, a nice ramp up in medium powered lasers and some other advanced applications. But I think we've definitely seen a shift from a target of 45% up towards 50% and maybe a little bit above.

Okay, and then maybe on revenue capacity, also in the past you guys had talked about an $80 million revenue capacity level and of course now you're well above that. In Q4 did you accelerate any capital spending to help expand capacity or is that still all in front of us at this point?

It's really still all in front of us. The capital expenditures that fell into Q4 were the beginning of that, but -- as sort of an example, acquiring land in Germany or making -- entering into a contract in Italy, that benefit has not yet come through.

I think the main benefit during the year has been some very serious planning by the CEO and other production people in Germany, Russia and the US to balance production more evenly. And that has helped us exceed our original estimates of $80 million to $90 million in revenue.

We've also been using things like a lot of overtime on the direct labor side to ensure that we get product out of the door. So a lot of different strategies to achieve these revenue levels.

This estimation was [based on one shift] operation. Now we're starting to use second shift. We still have enough reserves to raise the 2011 hourly (inaudible).

Okay, thanks a lot.

Jim Ricchiuti, Needham & Company.

Thank you, good morning. Congratulations on the quarter. I was wondering if you might be able to maybe expand a little bit about the success you're seeing with the new OEMs. Is there a way to quantify the number of OEMs either you added in the quarter or year or perhaps talk a little bit about the percent of revenues that are coming from these new OEMs?

Jim, we generally don't get into such granular detail on that. I'd say that in terms of generally cutting OEMs, our continued expansion in Europe. We've certainly seen recently even in places like Turkey three or four new OEMs come on board, eight or so in Japan who've recently qualified product but haven't really started buying stuff yet, the Italian OEMs selling product into North America as well as we've found systems have been delivered in far-flung places in South America and Australasia. So it's across the board in many different geographic regions. We haven't counted specifically how many there are.

The most exciting we have as of last year, and this begins this year a lot of new OEMs in Europe. Europe is the most -- one of the most fast growing out there market.

Can you talk a little bit about the competitive landscape? Possibly as you work with some of these new OEMs, how would you characterize, number one, the broader competitive landscape and to what extent are you seeing new entrants going after some of these OEMs?

I think on the last call -- the last investor presentation I did I talked a little bit about the different product offerings that people are claiming to bring to the market and how they differ fairly fundamentally sometimes in technology or other areas from IPG. So we really haven't seen, despite many claims by our competitors, that they've got a fiber laser product, any serious competition from them.

People who have been evaluating those leaders even in the last few months have come back to IPG and started to place orders or signed frame agreements with us. So some of the key differences are people are continuing to use diode bars where we use single emitted diodes as diode bars are unreliable. We don't know the quality of the fiber that people have. And then the form factor of some of these lasers we've heard is substantially larger than IPG's.

And that all combines into a significantly higher dollar cost per unit and poorer performance. So I'd say we've absolutely maintained our advantage over most people in the last year. I can't say that it's slipped, despite claims from everybody that they're making ground on us.

Okay, thank you.

Some of the people have tried to make (inaudible) fiber lasers; we receive not official information, the cost for them higher than our market price with much worse quality. So even when they (inaudible) some them gain (inaudible) better to purchase from IPG cheaper and much better performance (inaudible).

Thomas Hayes, Piper Jaffray.

Good morning, guys, it's Dan Garofalo on for Tom this morning. I just wanted to talk a little about the additional capacity, specifically with materials processing. And so is that capacity essentially coming on during the first half of this year? And then just wondering if you can quantify maybe the quarterly run rate where you might expect to trigger the next incremental add of capacity within materials processing?

So the first point is that capacity we add is for all of the end markets we serve. The product design and the components we use, whether it be in materials processing or advanced applications or medical and even -- a little bit less to the extent on telecom but even applicable to telecom. Any capacity we add enables us to penetrate and increase sales into all of those markets.

Okay.

The answer to the second question, I think it's too early to say when the next phase will be. I mean, we've got to get through this phase. I think the fixed cost, because a lot of it comes from facilities, so some of those costs will come on in the first half this year, we're buying a finished building in Italy for example, we just completed a building in Japan. Those costs are a little bit lower than on the manufacturing side. Some of the manufacturing will be in the second half of this year and then into the first quarter of 2012 as we complete the build out of those facilities.

Any fluctuations at all in lead-times kind of leading up to these adds, or has everything just been smooth?

You mean in product lead-times?

Correct.

We try to manage that as well as possible. I think we talked well about how we spread production throughout our three major geographic regions. Valentin just mentioned the use of a second shift and overtime. We have not seen any substantial change in our product lead-times.

Okay, fair enough.

We still support the lead-time from four to eight weeks; it's much, much shorter than any of our competition.

Fair enough. Just one follow-on, if I could. You had called out strength in several areas; China and Europe have seemed to be early adopters of the technology of the fiber, and it sounds as if Japan is beginning to ramp up. I'm just wondering if you can give us some color on the outlook in North America and if maybe accelerated depreciation has been a catalyst for more orders.

I'm sure the accelerated depreciation has had some effect; we haven't been able to quantify or determine that exact impact without changing the tax law. But definitely also an improvement in North America; it may not be quite as strong when you look at somewhere like China and some of the growth in Europe related to the cutting business. But the order flow we've mentioned since July of last year has picked up very considerably and continues to be robust and good. The automotive sector, actually we're seeing strong order flow out of them.

In addition, in North America I think there are some very significant opportunities that over the next 12 to 18 months in semiconductor and also in solar could materially drive an improvement in our North American sales with some new applications that we're working on in annealing in the solar industry and testing in the semiconductor business. They're a little bit of a way out, but they could be a catalyst for driving some of the more special applications in the US.

Okay. And just one quick last question. Just a little bit about the Advanced Applications and Communications segment. It would seem that both divisions have their own secular growth prospects in 2011. Are you expecting both divisions to grow in 2011 and could you give us any sort of guidance on would it be double digits or where you're kind of looking for those to settle in?

No, we haven't provided any specific guidance on how those sectors are going to grow. I think it's a little bit difficult to quantify in advance given government spending and specialized nature of those applications. So we're cautious about Advance being a meaningful contributor. There are some projects out there that if they come will help that sector.

And then telecom we do expect to grow. Again, we don't give any annual guidance about growth rates, but there are significant opportunities in Russia as well as we mentioned some new customers where we've never had before in places like Portugal and even China and Taiwan.

Brazil.

And Brazil.

Very good. Thanks for taking the questions, guys.

(Operator Instructions). Joe Maxa, Dougherty & Co.

Thank you. You had a very strong operating margin in the quarter. Do you expect to be able to maintain or approach that level for the full year in 2011?

I think we've make some commentary about gross margins and then we clearly expect increases in operating expenses partly due to the IMRA litigation. So I think you have to factor in some of the comments we made about gross margin and then look at absolute increases in operating expenses to determine your own operating margin level for your model, Joe.

We don't provide any guidance on operating margin specifically. Clearly the model is generating and -- sorry, demonstrating good leverage on that basis. I think 38% is kind of an extremely strong basis. I mean, our intention is to invest in the business, grow the business, and ensure that we have very good operating margins. I think on a medium term basis should be targeting 27% to 30%; 38% is very, very strong.

Okay. And how about -- can you give us a little advice on your expected tax rate?

Yes, no, Q4 did have a benefit related to the spread of income. I think for next year people should continue to model at about 32% for the effective tax rate.

Thanks, Tim.

I would like to add for gross margin, a major driver was to increase gross margin (inaudible) our development to decrease cost of components which we produce in house. We have decreased cost of (inaudible) components for 20% to 40% during early this year. We have still additional opportunities to drop the cost next year.

So this is a major contributor in spite (inaudible) in my thoughts that these whole rates of the gross margin was in spite of the increase of price of our major products. For example, we raised -- we reported we raised the revenue for high-power lasers in 100%, but quantity of fiber laser we sold in market we increased 420%, the same with marking lasers.

Quantity of laser we increased and 180% sold, pulsing laser. But revenue raise only for -- 140%. So in spite of decrease of prices, probably a decrease of our prices, our (inaudible) penetration in the markets we have grown gross margin.

I see. Given the price decrease, the percent of decrease, do you expect a similar decrease in 2011?

No, but (inaudible) that nobody from our competition can endure as the years to reach the same. So even some of them will make better quality products. They're never able to compete with us in price. So we don't need to drop prices (inaudible).

Okay. Thank you very much.

Ajit Pai, Stifel Nicolaus.

Yes, just looking at your expense line, the research and development and the sales and marketing, in the December quarter they were both sort of tied. So going forward, you've talked about investing in the business, we've understood about the capacity and your expansion plans across the Globe. But when you're looking at these two lines, which one would you be estimating would be growing faster over the next couple of years?

And the R&D levels have increased quite a bit right now. Where do you think you want to get to at a quarterly level from the $5 million level? Do you expect to start -- get to the $10 million per quarter level over the next two to three years, higher than that? How are you thinking about that?

The question on R&D, we manage R&D and return a tremendous -- get a tremendous return on R&D on a relatively low expenditure level. We tend to, for example, move people in and out of serious production roles depending upon the level of activity and focus them on R&D activities when things are acquired. So we made very significant gains in products and components over the last 18 months or so.

Clearly if we grow the business over the next two years at the rates of growth we'd like to see you're going to see absolute increases in R&D as we employ new people and develop new products. I'm not going to come out and make a statement about that it's going to be $10 million in 2013 or 2014.

Rest assured, the Company will just simply continue to invest in areas that it deems to be necessary. And we've acquired certain technologies that have enabled us to leapfrog ahead in terms of systems. We've developed our own systems internally or started to develop special systems. We've acquired technologies that enabled us to quickly expand the wavelength of the products that we've been selling. So it's always a question we get that we get this extraordinary return on R&D and it's really kind of a unique attribute of the business.

On selling expenses, we will continue to invest there. Again, I think as a percentage of sales it will come down, but in absolute terms, particularly as we seek to hire additional salespeople, applications, engineers and also expand into potentially new geographic regions I think we need to look seriously at what we're going to do in places like Southeast Asia and South America in particular. But are we suddenly going to spend $10 million in a quarter on SG&A? I don't think that's ever been the nature of IPG. We tend to again get a significant return on those expenses as well.

Yes, but just to understand the sales and marketing. So in R&D it's more to do with your decisions to spend. On the sales and marketing side it's partially fixed costs and partially variable. Could you give us some indication for modeling purposes how much is fixed, for example in the quarter like the December quarter, and how much bonus which is sort of commission-related so that we can make our own assumptions going forward?

Ajit, we're getting way too granular here. I think you have to take a percentage of revenue and model that going forward to drive absolute increases. But you can see that percentage of revenue declining a little bit each year. Not much of it is variable. I mean it's -- relatively speaking there's a lot of fixed cost there on depreciation, depreciation of demo units, travel expenses that are relatively -- they're related to the level of activity. We just don't provide guidance specifically on this is going to be $8 million per quarter in 2012.

Right. But if your sales are 30% higher will the sales and marketing go up like 10%? Is that something -- is that one way to think about it?

That's probably a reasonable way to get to it.

Okay. And then the second question would be just looking at the minority interest, you gave us some clarification as to what you expect the full quarter impact to have been in the December quarter relative to what you actually reported if it was for the full quarter. But could you give us some idea for 2011 and 2012 whether we should just be -- is it going to be a negative $1 million impact a quarter? What would you like us to be modeling for that?

I definitely think if you've got no way of determining what that should be, otherwise we're modeling sort of anywhere from $3.5 million to $4 million for full year. And it will increase gradually during the year. So you should probably start it somewhere around $750,000 in Q1.

Got it. Okay, I'll get back in queue. Thank you.

Avinash Kant, D.A. Davidson.

Good morning, Valentin and Tim. A quick question on the book to bill. Would you comment on your book to bill for Q4, where was it at?

It was at 1.

At 1?

Yes.

And based on the comments that -- the business activity you've seen thus far where do you think it is in Q1?

We don't specifically give that for Q1, but order flow in Q1 has been very strong. The start to the year this year has been better than it was in 2010.

In terms of margins though, you are cautioning us about margins not being at these levels where they are and we understand that. But from what I'm understanding, what could be bringing margins down? The only thing that seemed to have -- that could bring margins down could be the mix, the product mix out there. And in that case will you give us some idea in terms of your relative margin on different product mixes like the high-power and medium-power and low-power?

No, we haven't gone that specific on that ever before and we said that the medium-power, for example, has a higher margin and certain component sales have a higher margin. I think that my comments about gross margin are for a medium-term level. And clearly in the near term until fixed costs are there you could exceed those rates. We have to think about the business in like a two- to three-year cycle and growing the business very substantially in terms of the revenue and then presenting a sustainable gross margin level there.

Okay. So in the Q1 guidance that you have given, what is your margin assumption?

I don't give that. I don't give a margin assumption on Q1 guidance. I've given a revenue and an earnings per share number, I can't go any further.

Okay, perfect. Thank you so much, Tim.

Jiwon Lee, Sidoti & Company.

Thanks and good morning. Valentin alluded to further component cost savings this year. I wonder on specifically which components you guys are expecting some cost savings.

Okay, what year we drop price on diodes 25%. This year we (inaudible) to decrease price, but what is now absolutely fantastic sale numbers here. The same we practically over some of fiber-optic components and power (inaudible) components also, we increased quarterly production volume twice, we'll increase this year (inaudible). Some of the costs will decrease up to two times, it's component-based.

Also it's not practical now (inaudible) we invested in (inaudible) and we made our own metal (inaudible) before we use out sources for these. Also we will have (inaudible) saving now 90% of (inaudible) metal parts we'll make in-house, it's for automated processes at fans.

So in this year also we'll develop problems with old production of PCBs, it's also saved us a lot of money and also time is the most important time we hold. (inaudible) time from out sources increased from up to six to eight months, it's in major headache for them. So we'll be able this year -- our own PCB production facility. All this will to have in-house help us to halt and decrease various (inaudible) parts cost and also save time against the competition.

So, sort of related to that, your expedited fourth-quarter capacity additions and the $50 million you plan to spend this year, how much is diodes part of it, or are they principally the modules and other components?

Diodes we will build second fab this year in (inaudible) the US. It --.

The diode.

The new diode fab, it will cost us about (inaudible) must less than $10 million.

Okay, great. And if I can squeeze in one more. The systems -- the business that you mentioned, is that sort of above and beyond the Cosytronic initiative last year? And does that have margin improvement opportunity near term?

Since the business is partly the seam stepper that we acquired, the welding business in Germany. But there's other systems business that we're looking at --.

(Inaudible), we acquired (inaudible) products we have (inaudible) during this year new -- so a new design of the system (inaudible) stepper. it's not acquired, you can consider it's acquired now, it's a new develop in-house system.

Okay, be that it may, we still should understand that is in conjunction with the steppers?

In terms of margins at the moment the systems business is not big enough to have any material effect on margins in the guidance and comments we've made of our gross margin, operating margin, things there. If that business grows to be very significant, the systems business in general will try and target a gross margin that's not going to be detrimental. But I think we have to start looking at systems business in a different basis -- what's the return on capital employed, for example, going to be.

And just because the systems business may have a 40% gross margin and our laser business has a 50% gross margin, it does not mean you should not go into that business if you can generate tens of millions of dollars of revenue off it. So at different points in time we will make decisions and determinations based upon that and provide you with additional information on it. The systems business is not material as a percentage of revenue at this point.

And obviously from your user perspective, their total cost of ownership I guess goes down with this type of new steppers, right?

You mean the opportunity for using this seam stepper that we've developed for the welding application drives significant savings for the end users and they've already done those cost saving studies and have proved out all of the benefits in terms of lower maintenance, lower electrical cost, improved speed of welding, improved quality of welding amongst other characteristics.

Terrific, thank you.

Mark Miller, Noble Capital Markets.

Your pulsed lasers are showing good growth. I'm just wondering if you'd give us a little more color on the traction some of your new products are seeing.

I think we mentioned in the script a number of different areas on pulsed lasers, for example, deep engraving applications and vehicle identification numbers. Alpha numeric marketing is taking off all around the world. In China I think you'd be surprised at how much of the business is for promotional items. So it's both promotional stuff on the microelectronics business where there's marking of logos and keypads, it's really many different applications in marking that help to drive that.

I can -- what's in marking on lasers we now have the biggest growth, it's practically 3 times growth, 2.8 times in a unit. For one year only it's in total (inaudible) the total market we are estimating an increase of 35%. So IPG's share in this market practically doubled.

One of the things that you noted were helping margins and you continue to drive your diode cost down. I thought you had a goal of reducing them another 30%, if I'm not mistaken. I'm just wondering where you're at on that goal as of last quarter. Is there another 10%, 20% coming off diode cost?

I said that we've never put a goal out there about further reductions in diode costs. If diode costs come down both in terms of the volume throughput as well as, for example, reducing the cost of the packages.

And chip costs.

And chip cost on volumes, yes. So we just don't put targets out there. I think we deliver those results, as you can see, by maintaining and increasing gross margins.

In the last year we shipped a quarter power for diode power. It did not (inaudible) about 7 megawatts for vertical power from diodes, it's enormous numbers. So with increase of volume (inaudible) portion of the cost decreased share of fixed cost and so it's (inaudible) total price per watt decreases were essential.

Thank you and congratulations on your successful quarter.

Thank you.

Olga Levinson, Barclays Capital.

Hi, thanks for taking my question. I guess this is more of a big picture question. Based on the industrial laser solutions data that was out, I mean, clearly it underestimated the fiber laser revenue based off of your last quarter. But it does show the fiber penetration in metal processing and micro processing (inaudible) was sort of in the low teens with marking and engraving in the 50s. Can you talk about what would be reasonable percentages of penetration by the 2012/2013 timeframe in each of those segments?

Sorry, in metal -- I think you're going to have to refer back to different market studies. We don't make our own estimates on this. But there is the industrial laser solutions market, there's a strategies unlimited survey and op tech consulting market out there. So their views are that in general on the cutting business fiber gets to at least initially 30% plus; we believe that can be greater than that.

On welding fiber will dominate that market, it will be a direct replacement for lamp pump lasers. Our view is that -- most of the growth in the welding market which we have made statements about that we think will be significant over the next 12 to 36 months will be driven by fiber and the fiber systems there. And that our market share there potentially could be greater than it is in marking and engraving.

On marking and engraving with fiber at about 50%, so I think 10% of the remaining marking and engraving is CO2 and 40% of it is other solid-state lasers. We believe that fiber ultimately can replace those other solid-state lasers, for example lamp pumped and (inaudible) lasers.

Got it. And then within the I guess medical and Advanced Applications, clearly it's sort of difficult to pinpoint the growth trajectory there. But can you talk about any sort of range for growth that we should expect either on a yearly basis or I guess incremental growth going forward by quarter?

Olga, we just don't give sort of annual guidance on either the full top-line or the different market applications and segments that we have there. I think you have to look at the market surveys and what they're estimating total fiber laser growth to be and factor that in.

Okay, thank you.

I can say (inaudible) cutting market today it's about 3,500 to 4,000 units per year. It was until we started to penetrate this market only 18 months ago. During a very short time last year we reached up about 15% of the market, we shipped more than 500 high-power laser for cutting applications, only a total from 730 units in total. And so we have a good chance -- fiber laser has a good chance to reach -- to win a minimum 50% of this market without taking account growth, market growth, (inaudible) result of unit shortly.

So it's still a very big opportunity for further penetrate in this market. Welding market was much smaller now, but with new solution, complete solution system which was now we're interest, we'll introduce it to the market. We expect next three or four years it would be huge growth in this market segment. We hope it will reach the same volume as cutting. So it's enormous opportunity, so total our estimation for three or four years, five 7,000 fiber high-power fiber laser or 10 times more than today market will need. We hope to hold this market -- dominate in this market segment.

Got it. Thank you.

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.

Thank you. Thank you for joining us today and we hope we in the -- hoping to meet your expectation for this year, next year and we thank you very much for your highest evaluation of our results and are looking to speak with you when we report our first-quarter 2011 results.

And that concludes our conference call. Thank you for joining us today. You may disconnect your lines at this time.