IPG Photonics Corp (IPGP) 2015 Q2 法說會逐字稿

Good morning and welcome to IPG Photonics second-quarter 2015 financial results conference call. Today's call is being recorded and webcast.

(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 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, 2014 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 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 today, July 28, 2015. 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. First of all I want to congratulate our management team and employees worldwide for a truly outstanding quarter.

Sales grew 22.3% year over year. EPS increased 25% to a new record. Margins expanded and book-to-bill exceeded 1 considerably.

Revenues rose to $235 million as we continue to expand market penetration of fiber lasers in material processing at a growth rates that outpace the competition. Gross margin was 54.7% and EPS was $1.15 including $0.04 per share in foreign exchange loss.

I'd like to note here that the year-over-year growth in the first half of 2015 would be higher considerably if you exclude the forced drop of prices of our major products in dollars due to 18% drop of exchange rate between the euro and dollars. For example, in units we increased sales of our kilowatt class fiber lasers by 40% whereas in dollars it was fixed sales growth of 27% only.

The same situation happened with the mid-power lasers where we have 55% growth in units include (inaudible) ways where we increased unit sales by 116%. IPG's performance indicates that our fiber laser products continue to displace CO2 and the YAG lasers in many applications.

In addition to the gains made by high- and mid-power products we have seen increased traction from our QCW product. We continue to gain product sales over our competition because in addition to the already recognized benefits of fiber lasers IPG has the scale to produce optical components and finished products in high volumes with very short lead times and also deliver exceptional service and support. We're extremely flexible and can respond to customer demand to produce devices for their specific application needs with increasing integration of optical delivery of sales and its software and applications know-how.

We have a strong position in our core markets because of our technology and performance advantages. Our proprietary components and vertical integration provide us the best in the industry cost structure. The scale of our manufacturing processes is unmatched by anyone, even competitors who have been manufacturing fiber lasers since the early 2000s.

We will not be complacent with our current technology. As other companies begin development we continue to put the technology forward and raise the bar for the competition.

(inaudible) development includes new materials, new technologies, new components, optical subsystems, more sophisticated electronics, software packages, new kind of lasers, outputs for optical accessories, perfect material process technologies, laser-based macro and micro systems and wide range of new applications. For example in material area we develop new highly efficient technology for growing perfect non-linear and (inaudible), unique zinc sulfide and selenide crystals (inaudible) chromium and iron for the high-power laser in the middle infrared range.

Perfect crystals for our acousto-optical modulators, unique low index polymers for fiber cladding, new technology to make large diameter fiber platform, efficient photo reproductive (inaudible) for volume (inaudible) film technology. This will form the basis for the development of new components fibers, diodes, to improve existing products as well as development of new product.

I would like to take a moment now to address some recent news that one of our large laser customers in China has announced plans to develop fiber lasers. There have been concerns regarding the near-term impact on IPG. First and foremost this Company remains an IPG customer.

Their announcement has not affected orders or our current relationship with them and we are confident they will remain our serious customer in the future. As you may know, they are not our first customer or competitor to try to develop fiber lasers.

Practically all our OEMs as we know try to make a fiber lasers their self. The long-term reliability, performance and price points that IPG offers have so far been unmatched by competition due to our continued investments in technology.

Further, development of an internal supply chain will take over several years and is subject to many risks. When our many generation beyond (inaudible) limiting, we believe the ability of the competition to catch up.

For example, too much of our competitors have been manufacturing fiber lasers since the early 2000s. However, lasers has been able to achieve significant share or match IPG's competitive performance during this time.

We have a robust head start on the competition but we are also not standing still. We are currently and continually developing the technology for the next generation of fiber lasers demanded by the market which we believe provides us with an important step-up on the competition.

We believe that announcement of our Chinese customer and others recently validates and recently announced validates IPG's long-term long-held belief that fiber lasers are the convenient solution now and for the future. Their clone advantage or the benefits of the fiber lasers compare it to the negative technology may actually happen the displacement of CO2 and other conventional laser, (inaudible) laser and create a large opportunity for us to take market share.

The photon laser market was estimated to be $4.7 billion in 2014 with fiber laser accounting for $1.1 billion or about 23% of that market. Through 2019 fiber laser projected by modest analysts to grow 15% annually to account for 35% total laser sales which is estimated to be $6.6 billion market in 2019.

I can say with confidence that IPG will be at the forefront of the expansion of the fiber laser market and we are in the best position to compete with limited technologies and newcomers to the fiber laser field. We're strengthening our relationship in China with all customers and are winning accounts from other fiber laser companies. IPG looks to expand its internal footprint as demand increases for its products and to better serve its customers globally.

We have been underway to establish new sales centers in Europe and South America and other locations over the next quarters. As our results indicate we maintain our strong momentum in Q2. Our backlog, order flow and book-to-bill remain at strong levels in our three main geographies and we expect that to continue in the near-term.

We continue to be focused on gaining shares in our established material processing applications, developing new product applications successfully that will expand our available market and applying our lasers in novel application beyond our core application in materials processing.

With that I will turn the call over to Tim Mammen.

Thank you, Valentin, and good morning everyone. Second-quarter revenue grew 22% to $235.1 million from $192.2 million a year ago. Materials processing sales increased 21% year over year to $224.5 million, accounting for approximately 95% of total sales during the quarter.

The continued strong performance of materials processing was driven primarily by cutting, welding and additive manufacturing application such as 3D printing where we expanded in many existing accounts and added new accounts. Sales to other markets including advanced applications, telecom and medical applications which accounted for approximately 5% of IPG's total revenue increased by approximately 54% to $10.7 million.

The increase was primarily related to medical and telecom sales and to a lesser extent advanced applications. High-power laser sales which accounted for 56% of total revenue increased 27% year over year to $131.8 million. This growth was driven primarily by strong demand in cutting, welding and brazing applications.

We saw demand from cutting OEMs expand and stronger growth in welding and brazing. In addition we experienced an account win from a fiber competitor.

Pulsed laser sales decreased by 1% year over year to $32.1 million. While pulsed laser sales had a slight decline we continue to see growth in our high-power pulsed products with strong demand for marking and engraving applications as well as for cleaning and ablation. At the same time we saw our recent pricing strategy in China for low-power pulsed lasers achieve success in both unit and revenue growth.

Continued demand for fine processing applications, particularly cutting of thinner materials as well as 3D printing applications, resulted in medium-power sales increasing 23% year over year to $26.6 million, or 11% of total revenues. Sales of QCW lasers which are mostly used for fine welding, percussion drilling of holes and some glass cutting, increased by 95% year over year to $15.7 million and accounted for 7% of total revenues. QCW fiber lasers are displacing lamp-pumped YAG lasers at an increasing rate.

Revenue from low-power lasers increased 21% to $3.7 million due to strong growth in medical applications. Sales of other products which include amplifiers, diode lasers, green lasers, mid-IR lasers, integrated laser systems in certain components increased 40% year over year to $9.4 million, primarily as a result of higher telecom sales and sales for advanced applications. Service parts, lease, and other revenue including accessories totaled $15.7 million, a decrease of 3.3% from $16.2 million last year including $1.8 deferred revenue recognized in this quarter as compared to $4.1 million of deferred revenue recognized in Q2 2014.

Now looking at our Q2 performance by geography, sales in Asia increased to $137.5 million or by 35% year over year. Within that region China sales increased 42% to $92.9 million. We saw strong demand from cutting, welding and marking and engraving applications.

Further, we won an account from a fiber competitor for mid-power lasers and are pursuing growing business with large OEMs and integrators there. In Japan sales increased 28% year over year to $18.8 million as a result of demand from cutting OEMs as well as increased sales in welding applications for the automotive industry and heavy industry. Finally, Western Asia which includes Turkey continues to be an area of good growth with sales there focused on cutting OEMs.

European sales grew 10% year over year to $70.5 million driven by gains in cutting, sintering, welding and cleaning and stripping applications offset by a decrease in sales for marking and engraving applications and by some weakness in Russia. In addition US dollar reported growth in Europe was also most affected by the depreciation of the euro as we discuss later. We're pleased to note that during the quarter we received a multiple unit order for our new 3D brazing laser from an European automotive customer and have strong interest from several other automakers.

North American sales increased 2% year over year to 26 put $7 million, primarily due to increases in welding and telecom applications offset by declines in marking and cutting applications as compared to a reasonably strong cutting applications performance in Q2, 2014.

Now working our way down the income statement, gross margins of 54.7% were at the high-end of our range of 50% to 55% as a result of the strong revenue performance and manufacturing efficiency. Sales and marketing expenses decreased to 3.4% of sales as compared to 4.2% of sales a year ago while remaining consistent at $8 million in real dollars in both periods.

As a percentage of sales R&D expenses were down at 6.4% compared with 7% of sales a year ago. In real dollars R&D expenses increased to $15.1 million from $13.4 million a year ago as we continue to focus on launching innovative new products in order to maintain our technology lead. The decrease in R&D spending -- the increase in R&D spending related to increased personnel costs and increased cost of materials used in R&D development projects.

General and administrative expenses decreased to 6.4% of total sales as compared to 6.8% one year ago. General and administrative spending increased to $15 million from $13.1 million a year ago. The increase in real dollars was primarily due to increased personnel costs as well as increased accounting and legal cost, depreciation and bad debt provisions.

Operating expenses for the second quarter were $41.3 million including a foreign exchange loss of $3.2 million compared with $35.5 million a year ago which included a foreign exchange loss of $0.9 million. Excluding the foreign exchange loss, operating expenses for the second quarter were $38.1 million compared with $34.5 million a year ago.

The foreign exchange loss of $3.2 million related primarily to the US dollar weakening against the euro during the quarter. The FX loss amounted to $0.04 per share.

Second-quarter operating income was $87.4 million or 37.2% of sales compared with $68.7 million, or 35.8% of sales in the second quarter of last year. Foreign exchange transaction losses reduced operating margins by 1.3 and 0.5 percentage points in 2015 and 2014 respectively. Our tax rate in the second quarter was 30% and does not include any benefit related to potential R&D tax credits that might become available later in the year if the credit legislation in the US is reenacted.

Net income for the second quarter increased by 26.1% to $61.3 million on I diluted per-share basis we reported $1.15 for the quarter compared with $0.92 a year ago. If exchange rates relative to the US dollar had been the same as one year ago which were on average EUR0.73 to dollar, RUB35, and JPY102, respectively, we would have expected revenue to be $19.7 million higher, gross profit to be $9.9 million higher and operating expenses would have been $4 million higher.

Now turning to the balance sheet, we continue to maintain a strong balance sheet, ending the quarter with cash and cash equivalents of $571.5 million and $22.3 million of debt including lines of credit. During the quarter we repaid $11 million related to the remaining balance on one of our US long-term notes.

At June 30, 2015 inventory was $190.8 million, up 12% from $171 million at year-end 2014. Our current level of inventory on hand amounts to approximately 163 days compared with our target range of less than 180 days.

Accounts receivable were $169.8 billion at the end of the second quarter or 66 days sales outstanding compared with $143.1 million at December 31, 2014 or 63 days sales outstanding. Cash provided by operations during the quarter was $49.4 million. Capital expenditures for the quarter totaled $18.6 million.

Continue to expect the CapEx run rate for the full year 2015 to be approximately $60 million to $65 million excluding business acquisitions. In the second quarter book-to-bill was above 1. As we enter the second half of 2015 we remain focused on establishing partnerships with new OEMs and end-users, deepening our relationships with existing customers and developing the next generation of fiber laser-based products to address new markets and applications.

Now for our expectations. We currently expect revenues for the third quarter to be in the range of $235 million to $250 million. We anticipate Q3 earnings per diluted share in the range of $1.15 to $1.30.

The midpoint of this guidance represents quarterly revenue and EPS growth of approximately 21% and 17% respectively year over year. However, it should be noted that net income in the year-ago quarter included a foreign exchange gain of $0.05 per share and excluding this gain the midpoint of EPS guidance is equal to growth of approximately 23%.

The EPS guidance is based upon 53.442 million diluted common shares which includes 52.657 million basic common shares outstanding and 785,000 potentially dilutive options at June 30, 2015. This guidance is based upon current market conditions and expectations and is subject to the risks we outlined in our reports with the SEC.

It also assumes exchange rates relative to the US dollar of EUR0.092, RUB57 and JPY124 respectively. I want to reiterate that we do not attempt to forecast transaction gains or losses related to changes in exchange rates.

With that, Valentin and I will be happy to take your questions. Thank you.

(Operator Instructions) Krish Sankar, Bank of America Merrill Lynch.

Hi, thanks for taking my question. I have two of them. First one either Valentin or Tim, you know thanks for the clarification on the Han's laser.

I'm kind of curious you did say that many of your OEM customers have tried to make fiber lasers themselves and I don't understand it's a very difficult technology and you guys have a significant cost advantage. So why do your customers still try to make these captive lasers when they learn from other folks that it's not that easy to do it or get any cost advantages?

It's mentality of people typical with one of the OEM customers (inaudible) and it make a laser all other (inaudible) we have some worry about if there is concerns, okay, we will have some sales advantage. But it's not serious, practical.

Second it is also they hope to get some of the cost advantage but we control the prices and we dictate this. Now the sales price is typically is lower than the cost of manufacturing of such laser with some customers who are really making some prototype. And so they are much more expensive than our sales price.

Got it. And then as a follow-up given all the noise around China both in terms of macro and how the market environment there is doing, have you seen any slowdown? And I remember asking you this question in the past, too, and you guys seem to be defying all the China trends.

So I'm kind of curious A, have you seen any kind of change in China after a record quarter? And B, is it again a function of the fact that your technology is more replacing legacy technologies or is it a fact that the ASPs are pretty low? Thank you.

So to date we have not seen any change in order flow out of China. We had a very good quarter and guidance includes another strong quarter from China. So right now with all even the economic uncertainty out there and all the noise we're not really seeing any changes around demand patterns.

I think you continue to see local suppliers in China gain traction as well as a diversification of the application set and displacement of traditional technologies with lasers. I've talked previously about the desire of Chinese manufacturers to come view it as more high-quality manufacturing and I think that trend continues to take hold.

There's a lot of R&D that's going on not just around the cutting applications that are well developed but in more advanced welding applications some of the most advanced 3D printing applications we've seen have happened in China. So that thesis around improving the quality of manufacturing, increasing drive towards automation, using robotics also helps our laser sales. So we think that continues to provide the momentum that we're seeing in China.

Got it.

Also you can when you have some increase in problems that many manufacturers look for new technology to improve their position in the market. So it's not for the mix shift total drop-off economy with sales of high-technology products.

Thanks Valentin. Very helpful.

Mark Douglass, Longbow Research.

Hi, good morning gentlemen. Tim, talking about automotive so can you walk around the globe? It sounded like I think it's good everywhere but can you describe some of the developments in automotive and where they're investing and how they're investing?

Yes, demand from the automotive all around the world continues to be good. I think our penetration into both the end manufacturers and Tier 1 and two tiered suppliers is a very strong. It's across the usual applications as well as some more specialized applications, the cutting applications for 3D which one of our OEMs supplied the welding applications we've seen good traction out of.

And then we started to get orders for these brazing lasers in Europe and have got many different people in evaluating that product. We mentioned in Japan we're seeing good demand out of welding applications as well.

There are some slightly lower volume, much more advanced applications. We've seen people using the lasers for structuring, for example the internal cylinder chambers to improve fuel efficiency and reduce I think it's friction between the piston head and the cylinder. So you can get down to some very specific and very specialized applications as well.

Some of the welding applications are going into the airbag detonators, too, so we're hoping to solve some of the problems that have been encountered in that industry. So it's pretty diverse and continues.

I think we're actually seeing some additional traction on the automotive side. People are starting to re-appreciate the value of the lasers and I think our competitive position particularly with regard to the main manufacturer in Germany has been strengthened over the last couple of years. I think people if you go back two years were giving some weight to the main competitor in Germany where as we think now we're starting to gain some additional or over the last two years have worked very hard to gain back some of the traction with everybody around the world.

Okay, that's helpful. And on the brazing orders in Europe, is this -- are these new platforms that they're transitioning to brazing or is this substitution of other brazing lasers that are already --

It's conventional lasers and so on they have a very serious problem with new materials and so on for brazing quality what's very critical. We develop what they ask us to develop, help them after many attempts before to make their sales process with other partners. And we very shortly develop then excellent technology for brazing which resolves all their problems.

So we've qualified, now we started mass use in all production lanes. Another tough place in the market now know about this result and also start asking us to test in extremely interested in this new technologies, new potential technologies.

Existing product lines and existing platforms, it's not just waiting for new platforms.

Right. Okay and then finally Seam Stepper, how did that how is that looking in the quarter and the year?

Also now we passed qualification is in now it's started the process of -- OEM purchase. Before it was only the shipment for test a few units. Now we're starting real OEM business with Seam Steppers.

All right. Thank you.

Joe Maxa, Dougherty & Company.

Thank you and congrats on a nice quarter and outlook. The question I have is it's a pretty big step-up in revenue let's say over the last four quarters, Q2 and then Q3 going up to perhaps as high as $250 million, you talked about a lot of new applications, a lot of strength. I'm wondering if there's a few that are really driving that growth, that big growth from let's say the $200 million level up to perhaps $250 million?

It continues to be probably the four main applications primarily cutting, welding, brazing, additive manufacturing clearly is growing very strongly this year and marking and engraving while it's not growing strongly it continues to be a very, very significant application for us. The other newer applications like cleaning and stripping are still relatively small. They are sort of 1% or 2% of revenue and still represent significant opportunities in the future.

So the additive -- the deposition as well as the ablative process is still really starting out. Some of the microprocessing applications continue to be small, Joe. So this growth is really being driven around the core applications and we still have to benefit from significant demand traction on newer applications that we continue to work on and develop with customers.

And so with the growth in the core is that clearly driven by increases in technology, efficiencies, more lasers being qualified at various customers? I mean that's really what we're thinking about when you're saying driven by the core.

I think it's just the acceptance of fiber laser technology around all metal processing within materials processing. And that's enhanced by all of the advantages that IPG has both in terms of the scale of manufacturing, short lead times that Valentin talked about, the efficiency of the lasers, the technical advantages of the lasers, our worldwide service and support in which we've invested increasingly.

The other areas that we're also investing in, the optical delivery systems which makes the supply chain more simple to the end-user increasing investment in know-how around for example. If you look at the brazing application, the know-how for the application there, not only the laser but the know-how around the application, was developed internally at IPG.

So as you deepen your integration across all of these different areas you are developing and enhancing and strengthening your customer relationships. And we're doing that we think very, very well at the moment.

That's helpful. Thank you. Last thing, I wanted to note that or have you discuss a little bit about the fourth quarter.

I know you don't provide guidance but last year fourth quarter was higher than the third quarter which is different than the prior three years. Can you talk to what maybe drove that or is that something maybe we see again?

We really don't get into discussing Q4 at this point in time. Q4 last year was benefited by very strong US sales, so you'll remember that we had 350 kilowatt lasers that shipped out for advanced applications as well as a lot of automotive projects. There was a high-volume cutting project in the US.

Funnily enough a lot of the automotive projects this year and sort of there some large welding orders are actually falling into Q3, so the US which has not performed year on year very well into Q2 I think it was better in Q1 is going to have a very strong Q3. There is one 50 kilowatt laser that's probably going to ship out in Q4. It made OB Q1.

There are some other advanced application orders, though, that are coming in Q3 this year in the US, so we've got a couple of orders in June. So it's the sort of project nature of that in the US, so that's the color I can give you around what happened last year and what we expect in Q3.

It's still way too early to talk about Q4. Your order flow in September and October is going to drive that.

The bottom-up bookings forecast that we reviewed within the Company which goes out several quarters continues to be robust and strong. So we're not seeing any fundamental changes to the business.

Thank you.

We expect a very strong Q3. We expect very strong Q3 and our book-to-bill rate is still much higher than the one. So we'll see what happen in the September, October.

Great. Thank you very much.

Patrick Newton, Stifel.

Yes, good morning to Valentin and Tim. Very solid results and thank you for taking my questions. One is that wanted to clarify, Tim, did I hear correctly that China revenue was $92.9 million in quarter?

Yes, $92 million I can't remember whether it was $92.9 -- yes, $92 million-plus.

So I guess just focusing it on that I think you answered an earlier question on Chinese demand that you're not seeing any type of slowdown at all despite having I guess a significant number of infrastructure data points that have definitely been coming under pressure. And I think you said that the main reason is in essence China focusing on becoming a high-tech manufacturer.

But I guess as you sit here today and you just printed your fastest year-over-year growth in China in roughly two years, do you have any creeping concerns at all maybe that cutting penetration in China is higher than in other markets so that could lead to slowing growth, that sell-through of auto is showing some signs of fatigue, that household softness could pressure white goods? Any creeping concerns there at all from your end or do you see this acceleration in China as being sustainable?

I said within the Q3 guidance we continue to have a strong number from China within that guidance. We've continued to see strong quarter growth year over year through the second quarter.

It's being driven by the materials processing and manufacturing areas. I think the cutting business in China as I mentioned is strong because the OEMs there continue to develop and sell equipment directly into the market and are gaining share.

We've always said that the share of the cutting business in China has been relative for example to Japan and even a little bit relative to Europe penetration there has been high because they were very early and fast adopters of fiber laser technology. In addition to that the growth has come from some of the medium-power lasers for fine metal cutting.

That's being driven by consumer electronics and batteries so that's a sort of worldwide demand phenomenon rather than just China-based. That's the medium-power.

Then the QCW lasers also performed very well in China driven by displacement of YAGs, so that's more of an adoption story around the welding site. And interestingly even though pulse laser sales were flat to a little bit down on the consolidated level, in China our pulse laser sales were actually up almost 10% on the back of the aggressive pricing and new product introductions that we had there. So I see the same data on the macro side that you see about China and we continue to monitor that closely.

I've always said that what I follow is more the availability of liquidity in China with regard to our business in the near- to short-term. And that's the insights I can give you around our view on China.

And I can add only that our cutting business the biggest OEM customer not in China for cutting business. So not can sway the number one from our OEM customer in cutting applications. It's now a fast-growing we have the orders for cutting in Japan.

They delayed starting to replace CO2 for fiber much later than other people but now they are becoming very aggressive with not one the group of OEM customers. The biggest customer for OEM we have in Europe not in China.

Secondly it's for example replacement (inaudible) five years ago we introduced QCW laser extremely fantastic laser compared to the flash-pumped YAG and so on. China was the most many years tried to hold and use own YAG lasers, Han's and others major manufacturers now practically we see they come to QCW and start mass order for QCW laser they stop into use own YAG laser producing house all of them.

And we this year we have for half of year we have already in unit sales of QCW lasers to for 115% but the booking much, much larger so we expect to grow sales of QCW lasers many thousands this and next year. Then we'll we come with our new (inaudible), one of the major (inaudible) in our business. And we don't have constitution with QCW laser at all.

Thanks for the details. And I guess just the kind of a follow-up to that if we take the inverse of the China strength and we look at your entire revenue outside of China, the growth rate here has kind of been stuck in the low teens now for about five consecutive quarters. And I think in the answer to the last question Valentin just brought up that your largest OEM is actually in Europe and not in China and he also talked about some cutting strength in Japan.

I'm curious even given those kind of dynamics is there something fundamentally that's going on outside of China as to why the growth rate is in the lower teens? Is that more a function of cutting penetration or is that a function of what you touched to Tim that some of your Chinese OEMs are actually gaining some share?

I think that's a very basic question to answer. First of all Japan this last quarter was almost 30%, so 28.5% year over year. Japan can be a bit volatile quarter to quarter given the way they structure their financial years into the two six-month periods.

We've got another big order in Japan for cutting applications which points to continued good growth on an annualized basis there. The European question is very easy to answer. It's the exchange rate.

So if you look at that $19 million impact on the top line probably 90% of it is out of Europe and would have been on the high-power lasers in Europe. So whilst you reported 10% in Europe the underlying growth Valentin mentioned in units, what it is but excluding that exchange rate impact the growth in Europe is substantially above probably 25%.

So the exchange rate is affecting things most predominantly there. In the US you mention for example like cutting sales here or a little bit down and then there's the volatility because the US is not an OEM market, it's much more project driven.

Some of the cutting sales in terms of equipment coming into the US is coming directly from Europe. So lasers are being bought in Europe and Japan and equipment being shipped in here, so you can't look at the US sales just on the devices that are shipped in here from the OEM perspective. I would like to see obviously the US growing a bit stronger than the 2% it did last quarter.

We're going to see that growth in Q3 but it's a bit more difficult to predict just because of the project-driven nature of it and the more diversified business that we have here around advanced applications, telecom and the medical side of things as well. So it's a bit less predictable in terms of just straight-line underlying growth. But really the European performance is much better than the 10% that we've showed here just given the exchange rate.

In the America we expect fast growth now in Mexico Canada and now in Brazil. Brazil now we're creating very flexible infrastructure for this. We expect during the next two, three years we will have very serious growth, very fast growth sales in Brazil.

And Valentin in an answer to an earlier question on Han's laser you have made the comment that I guess the question was saying given all the barriers to entry and the failures of competitors trying to go head-to-head with IPG, why would a large customer announce their intention to try to vertically integrate? And you gave some answers but I'm curious do you think there's any concerns by your customers that your systems strategy and your systems business is going to eventually compete head to head with them in their core markets and that's what's driving them to seek vertical integration?

Well of course some of them worry about this but it's not serious. We never will destroy business of our OEM customers. We're working with our systems strategy for new applications as these OEM customers see that it's not working at all today.

So for us no sense we compete for them for example with cutting business except in some small area when they're not working. We there will be new applications, for example we're now in Russia with good result, with oil industry we hope it will be very serious, very large business with oil not only Russia but also worldwide. We develop excellent system now in field trials, very successful, and so it's very large business we expect starting from next year.

Even fourth quarter this year very serious order, multi, multimillion order in this area. It's only one example of new project win. We never compete any of these OEM compete with any of our OEMs.

Great, thank you for taking my questions.

Jim Ricchiuti, Needham & Company.

Hi, thanks, good morning. I was wondering if you might be able to size this opportunity for the three beam brazing application that you're having some traction in the automotive market. Is it too early to size that?

I think it is a little bit too early to be able to size it, Jim. As we said we've got some initial orders from one automotive company and other people are evaluating it. I don't know whether it's going to be b- do you have any idea, do you think it's like 100 units a year or 200 units a year for brazing? We just don't know at this point in time.

Brazing it's a large business. It's a large business and so on. Before they use from the diode systems for these but we're very problem with the quality.

It's very serious problem and we resolve this problem. But it's qualifies (inaudible) in one of them in Asia largest of the customers, open door for application for all their factories worldwide and the others also working to use this. So we expect sales of only brazing lasers would be many hundred units per year.

But brazing is only one of the applications. Now with our credibility and these connections in the automotive market we improved our margin, now a day practically the customer major customer opened door for us working with us where we now understand where they have problem and the very, very we will be very shortly able to resolve this problem and new requests for us, new applications, automotive now they going to us asking us help us because for many other ways they try to resolve before now they don't have a good return.

So now we will friends with many major -- before we work only nobody allow us to come inside the production line in so on. But when they're working inside together with the real operator, manufacture, you are able really to see where you can help, how to help and solve the problem.

Now we absolutely see a different situation our connection in cooperation with major customers in Europe, in Japan and so on. So it's been absolutely new situation.

That's good color, Valentin. Thank you. Additive manufacturing, the 3D printing market I think in the past you had talked about it perhaps generating as much as $30 million revenue this year. Is that still a way to think about that or is the market for you accelerating?

I think it's still the run rate through half to year is slightly about $30 million, so that still represents more than 50% growth compared to last year. So we are right on track with the numbers that I've given.

I still think that the market probably can grow to in terms of applications in the near-term you know $50 million and then it will depend upon beyond that how much volume manufacturing is really developed around the additive side. So we still view the metal processing aspects of that to be ultimately a very significant contributor to the industrial market, Jim.

We're working in this application we're working by two ways. One is to sell, just sell our own lasers for existing our system manufacturers, integrators, most of them buying other lasers has grown, the demand growing where we see during these two quarters a lot of new orders and large volume of each order growing. But from other side we develop new applications and new technology in this area when we develop full process starting from technology, hardware, software and so on.

It's one process, not one quarter so it takes a few years. But we have preliminary good results is the reaction we develop for some applications more than of about 10 prototypes for new solutions.

And we're working together with very serious partners which means very top, very large industrial companies in the US, in Europe and in Russia. So we believe with time we'll introduce new, much more perfect, more efficient process and we'll provide systems solutions.

Prototype level and we sell in some prototype. I don't not able to mention company but a top Tier 1 Company in the world.

(Operator Instructions) Jeremie Capron, CLSA.

Thanks. Good morning and congratulations on your continued strong performance.

I wanted to ask Tim about the margin trajectory. Obviously you're trending towards the high end of the target range for gross margins and we're seeing good operating leverage here.

Could you comment on what we should expect as your volumes continue to grow? Orders seem to be very healthy here and also tie this into your pricing dynamics, how the average selling price is falling in recent months. Thanks very much.

So we're not providing any change to the margin profile in terms of like gross margins. We still think that the top end of the range of 55% is reasonable.

It still fits with the overall strategy that we have to drive increasing use in penetration of lasers into many different applications. As usual you will have puts and takes around gross margin, you will have some probably pricing pressure at the lower end of the product line.

We've seen that with pulsed lasers. And that will that pricing pressure on those products would reduce those margin slightly and then you've got new product introductions at the higher end of the line that will improve your gross margins. You've got transitions in cutting lasers that continue to move up power level that should benefit margins a bit and the new product introductions in microprocessing, the optical heads and other areas.

So it continues to be a strategy that's not driven by driving gross margins up to 60%. It's a strategy that's driven by driving laser adoption into existing and new applications.

In the third quarter the top end of the range if you build your models out it would assume that operating margins are quite high. They're above the sort of underlying 38% that we had in Q2, but you have to remember that we're now continuing to invest on for example the selling side.

We've mentioned that we're going to open up some new sales offices around the world. So we need to continue to invest on those operating expenses on selling, on R&D and continuing to invest on G&A.

So I don't expect operating expenses to continue on a downward trajectory. This is a complex business.

We have operations all around the world and we need people on the selling side, the application side and the G&A side to support all the work that's done to bring new product to market on the R&D side. So you may see as I've always mentioned very strong revenue, quarters may from time to time lift operating margins above a medium-term trajectory that we estimate.

But overall we don't see any fundamental shift in the business model nor are we targeting one at the moment. We're very happy. We think the business model is basically stellar.

Mark Miller, The Benchmark Company.

I was just wondering, an update on some of your newer opportunities. I think you mentioned stripping was rather small but what about 3D printing? And I apologize if I missed this if you gave us an update on the UV fiber laser?

UV fiber laser we don't make a great development there but still now still it's we're starting to sell such lasers but most of them are still in a stage of verification testing and certification. So we lifetime test and so on.

But in principle development is now going extremely well and really we'll soon introduce market family of such lasers for different applications. Very different, very much more efficient, compact and reliable and also much cheaper than existing market. So this way we hope to become major player in this market niche.

We develop for this perfect technology for non-linear crystals and more bigger program from point lifetime and the ability to now with this technology with so much production in Marlborough, Massachusetts, crystal growth and processing center we really hope it would be better (technical difficulty) not possible to make fiscal year business in the area.

And then just on the additive manufacturing, Mark, we'd mentioned that the run rate on sales was about above a $30 million in year basis and that represents more than 50% growth compared to last year. And Valentin gave some color on additional additive manufacturing work that's going on.

Most of the other applications tend to be 1% or 2% type applications. There's an increasing diversity of them. The cleaning and stripping has become more of an OEM business in the last year than it was in 2014 for example, it's still relatively small.

The cladding business continues to grow. Some of the industries we serve there are for example the oil and gas industry. The aesthetic applications have continued to perform well.

That generally tends to be a function of actually a positive signal on the economic growth. So people tend to use the dermatological and the aesthetic side of things when the economy is looking a bit stronger because they've got money to spend and we're seeing also good sales in Asia because our lasers function well there.

So there's an increasingly diverse set. The drilling application, for example, that's going pretty well this year. It still relatively small but it's a couple of million dollars a year.

At this time we have reached the end of the question-and-answer session. I would now like to turn the conference back over to Dr. Gapontsev for any closing or additional remarks.

Thank you. Thank you for joining us this morning. We look forward to speaking with you on next quarter's call.

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