IPG Photonics Corp (IPGP) 2013 Q3 法說會逐字稿

Good morning, and welcome to IPG Photonics third-quarter 2013 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 Senior 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 intensions, 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's Photonics' Form 10-K for the year ended December 31, 2012 and the 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 or by contacting the Company directly. You may also find copies on the SEC's website.

Any forward-looking statements made on this call are the Company's expectations or predictions only as of today, November 1, 2013. 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 following the completion of the call.

I will now turn the call over to Dr. Valentin Gapontsev.

Good morning, everyone. As we have published today, in the third quarter, IPG reached record quarterly revenue of $172.2 million or 10% more than $156.4 million a year ago. The year-over-year growth rate looks less than usual for IPG. However, we have to remind you that last year's results were improved essentially by a large one-time order in advanced application field. Sales for advanced applications in the recent quarter were lower relative to last year due to lighter government spending in several countries year to date.

Further, we experienced weak telecom and medical demand in Q3 of this year.

If we take sales in our dominant materials processing market, which represents today 95% of our revenues, it grew by approximately 19%. Additionally, we have to note the year-ago quarter was benefited from very large single time pulsed laser sales for a consumer electronics giant. If you exclude the order, our sales in high-power fiber lasers increased by 42% year over year.

So once again, our results demonstrate IPG's strong fiber laser technology leadership position and ability to capitalize on growing demand for several key material processing applications.

As these numbers show, we continued to make good progress in penetrating industrial end markets particularly cutting, welding, cladding, hole-drilling, marking and engraving.

In addition, smaller and newer markets such as additive manufacturing and glass and ceramic cutting are starting to contribute more meaningfully to growth. Fiber lasers continue to gain sales as an increasing number of OEMs deploy them more widely in their systems to displace existing laser and non-laser technologies.

A positive trend for IPG is a shift towards using higher power fiber laser for several applications including casting and additive manufacturing. This is driven by the need to process larger parts, cut thicker metals and mark different materials with higher energy. Not only are the selling prices of these units higher but this trend also benefits us from a competitive point because it is more difficult for others to manufacture reliable and high-performance, high-power lasers.

Lasers with output power of up to 60 kilowatts are being used in cutting application widely now and up to 10 kilowatts for additive manufacturing as customers need higher powers to fabricate larger parts at faster speeds. Another example of this trend is increasing customer interest in super high power lasers for multiple 10 kilowatts for non-laser applications such as construction, demolition, oil and gas exploration, and even ice breaking for shipping in the Arctic.

We see opportunities for processing new materials such as cutting sapphire, glass and other which are used in a growing number of smartphones. In addition, QCW lasers continue to gain traction over a variety of applications. I am pleased to report that QCW sales grew over 200% from last year.

After receiving safety certification for our laser seam stepper family, we are now selling these systems worldwide for both automotive and non-automotive applications. The feedback from customers for the stepper is extremely positive and we are optimistic for this product.

Year-to-date R&D spending is up by 39% as IPG expends development of new products such as UV, ultrafast fiber lasers, hybrid mid-infrared lasers and many other which can open new markets for us and present additional large opportunities for IPG.

We are also continuing investment to reduce the cost of and improve the electrical efficiency of existing high-power lasers. We reached very fantastic new results this direction. Improvements like this will increase our lead over the fiber laser and direct diode competition.

In addition, we expect the investment we made in developing a variety of high-power systems for the Russian market to benefit sales in that geography beginning in quarter four this year.

In addition, development of new laser welding, cutting and cladding heads, as well as high-power scanners is nearing completion and are now undergoing customer tests. As we have done in the past with other products complementary to our fiber lasers, the new optical delivery system will provide our customers a more complete IPG solution and better performance at a cost effective price.

Over time we are targeting to sell at least a majority of our high-power lasers with these optical delivery systems driving incremental revenue.

Operationally, we have started to move into modern production and administrative facilities in Russia. And we opened a new sales and service office in Poland because of growing demand there. Further, we substantially expanded diode capacity in Oxford to keep up with the growing expected sales levels. IPG continues to add experienced sales staff as we seek higher levels of sales and new application for our products.

As I have explained above, we have been busy expanding our capacity to meet increased demand, developing new products, technology and applications. We believe these investments are essential for maintaining our lead and growing our revenue. While these investments have limited earnings growth, we believe we are at the peak of our current investment cycle and that capital expenditures will start to moderate in 2014. Subsequently, we expect investments to be a smaller percentage of revenue in the future.

With that, I am pleased to turn the call over to Tim who will provide more color on our financial results.

Thank you, Valentin, and good morning, everyone. I will start with a review of our end markets, products in geographic regions. After that, I will provide highlights from our income statement and balance sheet and close with our guidance.

As Valentin mentioned, third-quarter revenue grew 10% to a record high of $172.2 million from $156.4 million a year ago. Materials processing sales increased 19% year-over-year to $164 million accounting for 95% of total sales during the quarter. Our initiative to expand OEM partnerships in high-power cutting and welding has been successful and is driving much of our material processing growth.

It is worth noting that the strong growth in materials processing sales this year was achieved despite a very strong quarter for materials processing in Q3 2012. As Valentin mentioned in the year-ago quarter, there was a record demand for pulsed lasers for consumer electronics.

Other applications, which include telecom, advanced and medical, accounted for the remaining 5% of sales. Revenue from these other applications decreased 56% year-over-year to $8.1 million due to lower sales compared to the year-ago quarter for advanced applications, a weaker telecom business in Russia and softer demand in medical. Orders for advanced applications can be significant but continue to be uneven from quarter to quarter as our customers develop and enhance applications for commercial use.

Sales of high-power lasers, which accounted for 56% of total revenue, increased 42% year over year to $95.8 million. We continue to see greater adoption of IPG's high-power fiber lasers for macro processing applications such as cutting, welding and drilling.

While automotive and general manufacturing continue to be our strongest industries, we are encouraged by the near-term growth potential for additive manufacturing, which includes laser-sintering and cladding.

Pulsed laser sales decreased 32% year-over-year to $34.4 million due to the tough comparison with Q3 2012 and accounted for 20% of total revenues. Although sales to the consumer electronics market were not as strong as they were last year, we believe marking applications holds long-term growth potential for us given the higher power and better beam quality of our pulsed lasers.

While we do see some increased competition in the Chinese market for lower-cost pulsed product from local Chinese vendors, we will shortly introduce a redesigned, simpler and less expensive pulsed product for the lower end of that market.

Sales of medium power lasers increased 27% to $14.2 million accounting for 8% of total revenues primarily driven by thin metal cutting and micro-welding.

We had a record quarter for QCW laser sales which more than tripled to $6.5 million compared with last year and accounted for 4% of total revenues. Our QCW lasers are being used for micro-fabrication, percussion drilling of holes, and new applications for glass cutting. We are pleased with the traction that we are continuing to see for these products.

Sales of low power lasers were down 28% year-over-year to $2.8 million primarily due to lower sales of medical applications. Sales of other products which include amplifiers, diode lasers, green lasers, mid-infrared lasers, integrated laser systems and certain components, were $8.6 million. Service, parts, lease and other revenue including accessories, totaled $9.9 million.

Now looking at our Q3 performance by geography. Asian sales, which include the Middle East and Australasia increased to $90 million or by 40% year-over-year. Looking just at China, sales increased 57% to $56.3 million. We have grown our OEM base in China particularly for high-power lasers and will continue to pursue additional OEM partnerships in that region. We're seeing strong interest from the automotive industry in China as well. We also saw solid growth in mid-power and QCW lasers in China.

In Western Asia where sales increased by more than 100% compared to the year-ago quarter, we had a strong contribution from Turkish cutting OEMs.

European sales were down 15% year-over-year to $49.1 million. This was primarily due to lower sales in Germany as a result of lower demand for high-power lasers for advanced applications as well as for pulsed lasers for marking, engraving and consumer electronics applications.

In Russia, the telecom business continues to be weak as well. As we mentioned, we have been working to introduce new products and generate new industrial and telecom customers in Russia and have added sales capabilities to port this initiative. Strong contributions though from Italy and Switzerland partially offset the declines in Germany and Russia.

North American sales at $32.6 million for the quarter were down 6% year-over-year. Our high-power and QCW sales performed well in North America during Q3 but the progress there was offset by the decrease in pulsed laser sales.

Now, working our way down the income statement. Gross margins were 53.9% compared with 55% in Q3 2012. This is within our target range of 50% to 55%. Gross margin did benefit from absorption of labor and overhead manufacturing expenses that were capitalized to inventory but that inventory was not sold during the quarter. We estimate that this benefit increased gross margin by 1.6 percentage points. This benefit though was offset by inventory reserves which totaled $4.2 million or 2.5% of revenue.

As Valentin mentioned previously, we continue to invest in advancing our technology, infrastructure and management resources to drive further growth. As a result, general and administrative expenses increased to $13.2 million and as a percentage of sales were 7.7% compared with 6.8% a year ago.

Research and development expenses increased to $11.5 million from $7.8 million primarily due to the increased headcount and investments in new product development. As a percentage of sales, R&D was 6.7% which is up from 5% in the third quarter of 2012. 0.7% of the increase is attributable to acquisitions made in the third quarter of 2012 and the first quarter of 2013.

Operating expenses for the third quarter of 2013 of $33 million include foreign exchange losses of $1.6 million compared with foreign exchange losses of $1.8 million in 2012. Foreign exchange losses reduced earnings per share by $0.02 net of tax.

Third-quarter operating income was $59.8 million or 34.7% of sales compared with $60 million or 38.4% of sales in the third quarter of last year. Excluding foreign exchange, operating margins were 35.6% and 39.5% in 2013 and 2012 respectively.

Our tax rate in the third quarter was 29.5%. We continue to expect that our rate going forward will be approximately 30%.

Net income attributable to IPG for the third quarter remained relatively flat at $42.3 million and was impacted by the investments that we are making in future growth. On a diluted per share basis, we reported $0.81 for the third quarter compared with $0.81 a year ago.

We estimate that if exchange rates had been the same as one year ago in Q3 2013, sales and gross profit would have been approximately the same and operating expenses would have been $0.1 million lower.

Now turning to the balance sheet. We have a solid balance sheet and ended the quarter with cash and cash equivalents of $398.4 million.

At September 30, 2013, inventory was $171.3 million. Our current level of inventory on hand amounts to 190 days compared with our target range of less than 180 days. This is due to several factors including the slowdown in the telecom business, purchase of systems components in Russia for expected sales in the fourth quarter, and high production levels of components and modules that I mentioned earlier.

If foreign exchange rates were at the same level at the end of the third quarter of 2013 as they were on September 30, 2012, the translated value of inventory would have been $170.2 million.

Accounts receivable were $120.6 million at the end of the third quarter or 64 days sales outstanding compared with $96.6 million at December 31, 2012, or 60 days sales outstanding.

Cash provided by operations during the quarter was approximately $37 million.

Capital expenditures and acquisitions for the quarter totaled $14.1 million and were $48.3 million year-to-date. Our expected CapEx for the full year 2013 will be approximately $65 million to $70 million which is lower than we discussed during our last earnings call.

And now for our expectations for the upcoming quarter. Looking ahead, we are optimistic that we can continue to maintain our solid leadership position in the fiber laser market. While we expect fourth-quarter revenue to be seasonally weaker in certain areas and reflect this in our guidance, we continue to believe that IPG has significant opportunities for profitable growth which will be driven by existing products and applications and also as we expand our product line which will enable us to address new applications.

As I have mentioned, we're making significant investments right now to further our technology lead, hire great talent, upgrade facilities and add capacity. We are confident that we are executing on the right strategy to drive profitable long-term growth.

So looking at Q4, we currently expect revenues in the range of $155 million to $170 million. The Company anticipates Q4 earnings per diluted share in the range of $0.68 to $0.82. The midpoint of this guidance represents quarterly revenue and EPS growth of approximately 12% year-over-year.

The EPS guidance is based upon a 52,367,000 diluted common shares, which includes 51,495,000 basic common shares outstanding and 872,000 potentially dilutive options at September 30, 2013. This guidance is subject to the risks we outline in our reports with the SEC and assumes that 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 will open the call up for your questions.

(Operator Instructions) Patrick Newton, Stifel.

Tim, number one, something that struck me on your guidance is that you wind your revenue and EPS guidance range for the first time I think in the history since you guys have been public. I would love your thoughts on was there a process behind this, whether you see increased volatility in your end markets or what drove the widening of guidance?

First of all, it is the second time we have widened guidance since we have been public so when the Company was significantly smaller we increased our range from I think about $5 million to $10 million. This quarter again, the Company has got larger so part of that reasoning is the increased scale of the Company.

But also coming into the end of the year in Q4, a little bit more variability around revenue and certainly seasonality in some areas so we just wanted to be a little bit more cautious on that.

The bottom of the range relative to the total orders in hand is a pretty conservative number. So we are confident about the range that we have given. But, yes, we have broadened that range a little bit.

So it sounds like you have more broadened the downside just based on that orders commentary?

No comment as to whether the downside is broadened relative to the upside. I think we decided to go with a wider range. And the guidance has been generated on a similar basis to that that we use each quarter.

Okay, great. And I was hoping for some details on expansion of your manufacturing capabilities between Oxford, Germany and Russia. Could you help us understand how much capacity you have actually brought online perhaps quantifying in terms of quarterly revenue?

And then you also noted in your prepared remarks that net income was flat year-over-year largely from investment activities. And I was wondering if you could quantify the impact for us given this investment phase is largely coming to an end?

In terms of facilities that have been constructed because you can't build half a building, we could get to well in excess of $200 million in quarterly revenue. Over time though, we will continue to add equipment and ramp up headcount as revenue grows. So the investment phase that has been entered into over the last 12 to 18 months and will come to a conclusion through next year really positions us very strongly for the next two to three years of revenue growth.

In terms of operating expenses, very significant investments in R&D and G&A partly related to acquisitions also related to specific headcounts. Next year we expect operating expenses to increase at a slower rate than revenue. We haven't given any specific guidance around that but I would hope to get some leverage back into the model as we exit the investment phase of the Company and hopefully position ourselves for returning cash and profitability particularly on some of the R&D with new product introduction. So we have been suffering the cost of that R&D without getting any revenue benefit this year really.

All right and then just, Tim, one more on product commercialization. I guess can you update us on your pipeline for advanced applications and just thought process on how that particular product line will fare in 2014 and are you still roughly 18 months away from commercialization?

And then I might have missed it, but any update on the timing of your UV product line entering the market?

On the advanced applications we work with different end customers around the world. There is no clear indication that some of the government applications will reach a commercialized position next year. There is some smaller applications that are going to get there but there is nothing meaningfully that we have to discuss around that.

On the UV, I think that is a question that Valentin should really address because he us much closer to that and I think we are optimistic the UV product is getting close to introduction.

Now (inaudible) qualification of product and the (inaudible) test and so procedure and so we prepare manufacturing facility for next year to that must production penetration different market application (inaudible). It is near our product family so (inaudible) laser, UV laser, green laser is fantastic to compare with current situations and markets most in performance and price. We believe that (inaudible) this product maybe than 10 times better than all existing products in the market now.

Jagadish Iyer, Piper Jaffray.

Two questions. First question is a two-part question. Why did the pulsed laser decline and why were sales in North America down given the fact that orders were still pretty strong? Can you elaborate on that, Tim, please?

Yes, hi, Jagadish. The pulsed laser decline was called out by us for the last -- almost the last year I would say. So a year ago we had very strong sales of pulsed lasers into the consumer electronics applications primarily related to new product introductions.

It only -- was only one very large order one of the biggest in the world, a consumer electronics user. It is only one but very much short order. During three months, we had to deliver some thousand lasers to this customer. It was a unique situation not repeatable every year.

Okay, on the North American orders being low despite --.

It's the same -- it is the same driver there.

It is order what not to one -- one integrator that we did not directly to end-user we shipped through four different integrators. Some of the integrators was in China, other integrator was in the US and all these integrators provide for the same application to the same customer. Final manufacturing facility was in China.

Just as a follow-up, what should we be thinking -- how should we be thinking about the OpEx now that your investment cycle is over for now? How should we think about OpEx as we look into 2014? Thank you.

As I just articulated as well I think the rate of growth of OpEx will be lower than the rate of growth of revenue in 2014. Certainly R&D is not going to go down because we have hired talented scientist and PhD people but the rate of growth of that and G&A should be much more moderate and I would hope to get some leverage back into the model on the OpEx side if we can get some reasonable revenue growth next year.

Krish Sankar, Bank of America Merrill Lynch.

I have a couple of them. Number one, Tim, when I look into Q4, can you help us understand which segment of your laser products will be down sequentially. Will it be high power and pulsed, or are you expecting other segments to be down too?

We don't really get into giving guidance around specific product lines. The main seasonally weaker area is going to be China and that would be around some of the pulsed and cutting applications there. That will be offset by there's some increasing strength in Europe where order flow for the first three weeks has been pretty reasonable. Increased systems sales in Russia and high-power laser sales in Russia. And then the order flow in Japan for particularly high-power lasers primarily in cutting and welding applications has improved.

So the seasonality and weaknesses really again something we've called out pretty frequently related to China. But we don't get into specific product line guidance.

Most of the quarter would be as the euro higher risk and revenue recognition when we shipping or ready to ship product order for this but some customer -- a usual shift payment from next year and they -- some problem with revenue recognition [risk of this].

All right. And then if I look at your pulsed laser business, what percentage of your pulsed laser goes into consumer electronics this year?

I haven't given a specific number on that. There is a wide variety of end markets. Some of the pulsed laser sales for consumer electronics were actually better in Q2 -- in Q2. I don't have a specific percentage on that. We don't get a lot of huge amount of insight into where the OEMs are putting the product. It is more of a general trend that we understand unless there is a very large specific order.

In consumer electronics it was around one of the few very large customers, a known, very known and very large customer. And they make and introduce new products because you know, iPads for example, some (inaudible) for each new product they make a new production line with new equipment. But it is not a regular order. It is growing by cycling top and bottom but in a way working for many applications for such customers and we expect a very large order (inaudible). But (inaudible) each new version and so on. So it is not a smooth quarter per quarter growth, it is cycling (inaudible) the bottom on time.

Joe Maxa, Dougherty & Company.

Wondering on -- in North America, what kind of growth opportunity do you see in North America in the coming year?

Continue to see the automotive business I think tracking well. There are a lot of different projects around that particularly on welding applications, introduction of the seam stepper in North America. And then major growth opportunities around some of the microprocessing applications as we get new product introduced.

Cutting continues to perform well here with OEMs that are both based in North America as well as have a presence here but are based in Europe. I think those are the main areas of growth in North America.

Regarding the auto market, how do you see that longer-term? I mean auto sales have been strong in the US and China, you have got a large OEM saying they are going to undertake their largest manufacturing expansion in 50 years. So I just wonder how you think about the auto market moving forward?

The general trends on automotive are new materials that continue to be used in the manufacture of vehicles to reduce weight and improve fuel efficiency. A primary example of that is high-strength steel. High-strength steel has to be cut with lasers because machine tool dies wear out too rapidly. As that trend continues, our OEMs continue to forecast that 3-D cutting will be a primary growth driver for automotive applications.

On the welding side, it is important to reiterate that welding applications tend to have been the more specialized applications to date. So, for example, seat backs, transmissions, airbag detonators. The use of laser welding in building the main car body is still very, very thinly penetrated and that continues to be a target market for us, for example, with the seam stepper or the introduction of our integrated laser welding system with a scanner. That is an area where IPG has been a little bit weaker and where we have lost orders to competition.

So the greater integrated system we can have on the welding side we think we can drive some sales out of that. So the general trends on automotive towards newer materials to produce lighter and more fuel-efficient cars over the longer-term benefits the laser industry as a whole.

Jim Ricchiuti, Needham & Company.

The large customer that you have been alluding to is in the midst of a pretty significant launch refresh product. Do you anticipate potentially participating in some pickup in sales of pulsed lasers over the next quarter or two?

We are working for (inaudible) project and success up to now but still process of development qualification of technologies.

Okay. And question -- you've called out additive manufacturing a couple of times. Is that getting to the point where it is closing in on 5% of revenues or is it still below that? And do you see that as potentially a good growth driver over the next year for you?

It is still below 5% of revenues, Jim. It is certainly up by almost 100% year-on-year. So the interesting things there are first of all, yes, it is definitely a growth driver. Secondly, I think on the additive manufacturing side, a lot of the historic growth came out of plastics additive manufacturing. The increasing trend now is towards growth in metals, additive manufacturing.

And the other trend that we are seeing, which we think is particularly interesting is a trend towards higher powered lasers. So I mentioned that we've had customers buy lasers with up to 10 kilowatts of output power for some of the additive manufacturing applications.

The other side of that market that is interesting and very nascent but we think will drive growth is cladding and there are high-speed cladding technologies that we have been working with for example a major university in the UK around we've developed systems that will be brought to market in the next year or so.

So, yes, I think the additive manufacturing -- I certainly hope to see that get up to more than 5% of revenue and can't really put a timeframe on it but I think it will be a major application for us.

I can say the additive manufacturing now (inaudible) special from metal parts from metal (inaudible) and the most current now integrators who are using (inaudible) systems for such application use IPG lasers. In principle, we don't know how many of our customer use for such application because not all of our customer (technical difficulty) for what application they buy our lasers. I think 5% is a very conservative estimation of (inaudible) for such applications.

And if I may just slip one in on the UV laser. If you continue to make the kind of progress that you are seeing with that, can you give us any sense as to when we might see commercial launch next year and potentially how we might think about this in terms of adding growth to the Company?

We have started to sell some products to the market for evaluation for test and so on. Nobody are buying in volume before (inaudible) test and then we design their system manufacturing systems with new laser sorts. It takes a process going for only one year per year minimum after you introduced in the market new product. So difficult to expect immediate during one quarter to quarter will jump in this.

We hope our product have so many very serious advantages that the processor implementation would be much shorter than (inaudible) but in any case, it will take one, two years not a few months. But (inaudible) to see essential contribution to our revenue.

Avinash Kant, D.A. Davidson & Company.

So my questions were more related to the ASP trends that you are seeing and maybe if you could give us some idea about pricing trends both in different segments of the market and also different regions especially Asia.

General trends on ASP.

(inaudible) our price is much cheaper than competition (inaudible) high-power laser but for them is difficult to compete with them from that point at all. And we have future reserves so you can probably decrease price, you would need to stop competition. But now we are in a delay where we don't need to go probably the decrease of price, we are increasing our (inaudible) in high-power essentials, our growth margin for high-power sales growing (inaudible).

Regarding the pulsed laser situation, different. In pulsed laser, it is not one, two pulse laser, it is a set of different kinds of laser with different specification with more (inaudible) per pulsed laser, not a second (inaudible). The situation now we feel much strong competition from Chinese customers -- Chinese manufacturers. For low and very simple laser (inaudible) marking business and other, people not -- don't need high-performance. For them, the most important, price.

And now Chinese Company drop price practical. It is wise to compare only one year ago or to two years ago price in this Chinese market -- biggest market. But we are ready to meet such a challenge and we are prepared with a new budget, a low grade laser -- grade is better than a Chinese but price would be similar to and even cheaper. And so we don't like to give the Chinese this market segment.

From the other side, we develop new families very high-grade high-end pulsed laser which penetrate now very fast to the market at a price low grade for OEM customers. Consumer customers for example, (inaudible) customers for many others. This penetration that we have here, very serious advantage to any competition but in quality and price.

So we don't worry about this and (inaudible) future sales the most revenue we will generate with high-end laser. But lower end, we also (inaudible) to get to the Chinese manufacturers. All other manufacturer, European, American is not able to compete in this market at all.

Tom Hayes, Thompson Research.

Tim, you mentioned a large sale to Turkey. I was just wondering maybe if you could talk about that. Was that kind of a couple of sales that were pent up that didn't get shipped out previous quarters and got sort of Turkey going forward?

No, no real timing issues around Turkey. I think Q2 was also very strong in Turkey where it grew by more than 100% again. We have got three large OEMs on the cutting side there, a couple of customers that sell pulsed lasers. The Turkish market and economy has grown fairly dramatically. They are fairly advanced on manufacturing both on automotive but even for example, there is a smaller aerospace industry there.

The OEMs in Turkey given their cost basis, supply a lot of product into Eastern Europe. They have even sold product down for cutting systems. I saw a laser that was delivered down in Africa, South America. So that business is not really a timing issue. I think it is growing so strongly though it is not going to grow by 100% next year. You will get into more moderate growth for Turkey next year and general secular trends rather than accelerating growth.

Ladies and gentlemen, in the interest of time we ask that you please limit yourself to one question. Mark Douglass, Longbow Research.

Tim, can you talk about the growth in China, the breadth of it? Is a lot of it due to high-power? Or I guess another way to look at it is, how much of the high-power growth is -- overall high-power growth is coming from China?

Yes, China has performed very well on high-power for cutting and welding applications this year. Other areas of growth in China though have been on the QCW applications, the mid-power applications for micro welding and cutting. The pulsed lasers this year in China have been a bit weaker. A pretty diverse set of end markets that we are addressing there.

But to look at the other side of the equation, the high-power has not all being driven by China, high-power sales, for example, if you exclude the defense business that in Europe have been very strong for cutting applications. In North America, year-to-date high-power laser sales have been strong as well for cutting and welding applications. The high-power business in Japan has actually picked up a little bit this year both for welding and cutting applications too.

So year-to-date in Korea, high-power has been a little bit weaker but they are actually now starting to get some traction there and the high-power business in Korea should be stronger in the fourth quarter.

I disagree with Tim (inaudible) corrected. Our sales of pulsed laser in China are not going down in quantity of units. They increased again in Korea is why Tim put 20% to compared to last year in quantity. Question is pricing, revenue; revenue because price dropped very essential so the revenue is -- but units were -- were selling more lasers than a year ago.

Mark Miller, Noble Financial Capital Markets.

I am just wondering as you develop an appreciable installed base, what is the outlook in terms of the replacement opportunity in terms of replacement revenue -- sales from replacement now versus new opportunities? And where might that be in two years?

It depends which product line you look at, Mark. So for example on pulsed lasers, there has been a replacement market that has existed there for several years and some of the applications interesting on pulsed lasers you will find product being replaced even after three to four years. So the cycle times and the quality of the laser improves to the degree that when people install a new production line, they are not transferring existing pulsed lasers over.

The replacement market on high-power is probably starting to begin the first high-power lasers in volume or installed by IPG in 2005, 2006. So that is just starting. I think the more interesting question is to really look at what our penetration into the installed base of cutting systems is, that fibers penetration.

The installed base of cutting systems has been quoted as being as high as 70,000 units. I think that includes a lot of lower-power level lasers. Our view is the installed base of high-power cutting systems is probably about 45,000 to 50,000 units around the world. The total number of high-power fiber lasers sold into that area is still less than 10%.

So it is probably more meaningful to look at where we are in the cycle of replacing the installed base of existing CO2 and despite our strong growth we think we are still relatively early in that cycle.

Jiwon Lee, Sidoti & Company.

You highlighted some upcoming strength from the Russian high-power systems. Could you talk a little bit more about what that outlook might be within and outside of Russia?

During one year -- one half year we created a very strong team for the (inaudible) introducing the market systems and during the time we developed (inaudible) system. Our sales in quantity now, we started sales for such system now in quarter four now, we received very much order, very much multi-million order (inaudible) order to ship that system to one of the Russian customers. It only just starts next year. We expect it will be (inaudible) many customer waiting and they pay a budget for such order for IPG.

So we believe next year would be where we would see that growth in sales of whole Company system, for cutting, welding, for additive manufacture and some (inaudible) and so on, it is not one, two system, it is (inaudible) order we are shipping 14 different full company system to one customer, 14 different systems.

Also we are making a sale to (inaudible) system here in the US. We have the (inaudible) unit business unit where sales this year were expected within 6 million to 8 million only from US our unit. It is a customer -- a customized system. Each system has specification (inaudible) for different customer.

Some of our customer repeat and serious customer, well-known customer repeat after (inaudible) test and use their system they will for (inaudible) start to buy some units additionally and so on. (inaudible). For us soon we (inaudible) contribution total revenue.

Jeremie Capron, CLSA.

On the competitive environment, you talked about the situation for pulsed lasers in China but what about higher power among your conventional laser competitors. Is there any company that you see as potentially becoming more of a threat?

We haven't really seen anybody make significant progress against IPG. There has been a lot a product announcements based upon our initial reading of some of the published results by public companies that are trying to get into this market, they really haven't made any meaningful progress on the high-power level in the last year or so.

Particularly -- even at 1 and 2 kilowatt, but now as you see the end market trend a little bit more towards, as we mentioned cutting systems going to 6 kilowatts, welding applications are at a higher power level, those high-power lasers are even more difficult for people to build so their ability to compete both technically and on price is limited.

You can compare product then. This year we expect a minimum 1000 will sell high-power laser more than last year this year, minimum 1000. Total would be above 3000 laser. Let's compare all other people reporting, it is not comparable total number. 43% but only during one year. 43% growth.

Patrick Newton, Stifel.

Yes just two quick follow-ups for you, Tim. One is why was the inventory reserve so big in the September quarter and will it repeat in December? And then two is, should we expect that gross margins will be up sequentially in the December quarter?

We have mentioned some of the areas that we have had business tracking a little bit slower on so we took a pretty hard look at some of the telecom inventory. Don't give guidance about inventory reserves specifically, so no commentary about Q4.

And then on gross margin at the bottom end of our guidance range given the lower absorption that you would expect, I used about 51.5% gross margin at the top end of the range. I was using about 54% gross margin. We have highlighted that we target gross margins to be in the 50% to 55%. We are not trying to chase them up to 56%, 57%. We believe it is much more important to continue to grow the business as a whole and increase the installed base.

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

Okay, thank you for joining us. We look forward to speaking with you next quarter.

Thank you. This concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation.