Materion Corp (MTRN) 2013 Q2 法說會逐字稿

Greetings and welcome to the Materion Corporation, second quarter 2013 earnings conference call. At this time all participants are in listen-only mode. A question-and-answer session will follow the formal presentation.

(Operator Instructions)

As a reminder this conference is being recorded. It is now my pleasure to introduce your host, Mike Hasychak. Thank you sir you may begin.

Good morning, this is Mike Hasychak, Vice President, Treasurer and Secretary. With me today is Dick Hipple, Chairman, President and CEO, John Grampa, Senior Vice President of Finance and Chief Financial Officer, and Jim Marrotte, Vice President and Corporate Controller.

Our format for today's conference call is as follows, John Grampa will comment on the second quarter 2013 results and the outlook, and Dick Hipple will give you the market update. Thereafter, we will open up the teleconference call for questions.

A recorded playback of this call will be available until August 10, by dialing area code 877, the number is 660-6853 or area code 201, the number 612-7415, the conference id number is 417416. The call will also be archived on the Company's website, Materion.com. To access this replay, click on events and presentations on the Investor Relations page.

Any forward-looking statements made in this announcement, including those in the outlook section and during the question-and-answer portion, are based on current expectations. The Company's actual future performance may materially differ from that contemplated by the forward-looking statements as a result of a variety of factors. Those factors are listed in the earnings press release issued this morning.

And now I'll turn it over to John Grampa for comments.

Thank you Mike. Good morning everyone and welcome to the call to review the Company's results for the second quarter. During this call we will also provide an update on the conditions of our key markets and outlook for the balance of the year. Thank you for taking the time to join us.

Today's agenda is identical to that of our past calls. I will review the results for the quarter and the outlook, and following my comments, Dick Hipple will review the current state of our key markets, and provide his perspective on certain key new product initiatives. There is good news to report related to those initiatives.

And then following Dick we will open the call for your questions. As I normally do, I will begin with a review of sales and earnings. I will follow this with a review of margins. I will also review the change in business levels by key market, comparing the second quarter of the year to the second quarter of the prior year, as well as sequentially to the first quarter of the year. I will conclude with brief comments on the balance sheet and cash flow, as well as the outlook for the remainder of the year.

Before I begin though, I want to call your attention to the non-GAAP value-added sales and margin reporting by segment, that is included in the press release. This is a supplement to the usual GAAP reporting, and includes a related reconciliation.

As many of you already know, we began providing this additional information with our first quarter earnings release. We are providing this additional insight because in our businesses the cost of gold, silver, platinum, palladium and copper are generally passed through to customers. And as a result, movements in the price of these five pass through metals can influence reported sales and margins expressed as a percentage of sales, while having a limited effect on margin dollars and underlying profitability.

Value-added sales deducts the cost of these five pass through metals from sales and removes the potential distortion in the interpretation of business levels, as well as profit margin percentage changes, that can be caused by changes in the values of the metals sold. We manage our business on a value-added sales and margin basis. Again, the value-added sales, gross margin, and operating profit margin expressed as a percent of value-added sales, and the related reconciliations to the GAAP numbers are included in the press release by segment.

Also included are the related comparisons to the second quarter of the prior year, and the first quarter of the current year. We believe that this information in the form provided is useful to investors.

In my briefing this morning comments on business levels and margins will be in value-added terms. Gross margin and operating profit margins will be expressed as a percent of value-added sales. Changes in business levels for the Company in total, as well as the market, will also be expressed in this context. Let's begin with a review of the key points highlighted at the beginning of the release.

Sales for the second quarter were $306.1 million, down $19 million, or 6% from the second quarter of the prior year. As was the case with our results for the first quarter of this year, herein lies a great example of why value-added sales reporting is so relevant. Value-added sales for the second quarter were about $159.3 million, up $4.8 million or 3% from the second quarter of 2012.

What would have appeared to be $19 million or a 6% decline in business levels, is a $5 million or 3% increase, nearly a 900 basis points swing when you look at value-added sales, versus the reported GAAP sales levels. Comparing sequentially to the first quarter of the year, business levels were up 5% in value-added terms, as opposed to being up only 2% on a GAAP basis.

And when considering the impact of the first quarter shipment of hydroxide, which usually occurs in only the first and fourth quarters of the year to a single customer, sequential value-added growth in our key markets was above 8% in the quarter, compared to -- compared sequentially to the first quarter. I will review the specific market changes a bit later.

You will recall that delayed shipments of certain high margin beryllium and composites materials negatively affected the first quarter of the year. As expected, these orders were shipping in the second quarter. Also in the second quarter an operating problem in the supply chain of a key medical customer, negatively impacted our business levels in this market in the quarter. While unrelated to us, this issue did delay certain of our shipments. Otherwise, business levels were pretty much as we had expected in the quarter.

Earnings for the quarter was $0.43 per share, ahead of street estimates. This compares to $0.38 per share for the second quarter of the prior year, and sequentially to $0.33 per share in the first quarter. Earnings were up 12% from prior-year levels, and 31% from first-quarter levels.

When comparing to the prior year second quarter, the 12% year-over-year growth in earnings is due to growth in both value-added sales, and value-added margins, as well as a lower effective tax rate. When comparing sequentially to the first quarter, the 31% growth in earnings per share is also driven primarily by value-added sales growth, and expanding margins, offset in part by the non-recurrence of a discrete tax benefit that was recorded in the first quarter.

Margins improved nicely in the quarter. Gross margin as a percent of sales was 17.3% in the second quarter, a 100 basis point increase when comparing to the second quarter of the prior year, and a 120 basis point increase when comparing sequentially to the first quarter. Gross margin expressed as a percent of value-added sales was 33.1% in the quarter, down 120 basis points from the second quarter of 2012 levels, but up 120 basis points sequentially from the first quarter. Operating profit margin as a percent of sales was 4.4% in the second quarter, a 60 basis point increase when compared to the second quarter of the prior year.

Operating profit margin expressed as a percent of value-added sales, was 40 basis points higher than the prior-year second quarter level at 8.4% and up 210 basis points from first-quarter levels. The sequential improvement in both gross margin and operating profit margin, is driven by a number of factors, including the higher value-added sales levels, better overall mix, good cost control, and better pricing.

While Company margins did grow nicely in the quarter, margins did remain under some pressure at our advanced materials segment. While improved from first-quarter levels, margins in this segment are below historic levels. There are two primary reasons. The first is a weaker mix, which is driven by lower shipments of optics into the defense market. The second is lower margins in our shield kit cleaning and refine operations.

In these operations we are paid for our services through the retention of a portion of the metal that we recover, which is a standard industry practice. The unusual and significant drop in gold prices that occurred in the second quarter, compressed the margins in this portion of our business. A less material factor was that the impact of the gold price change on our metal handling fees.

An important positive factor in the overall Company improvement in margins is found in the performance of the beryllium and composite segment, where a combination of the higher sales volume and ongoing increase in the output of the new beryllium pebble plant, led this segment to turn a profit for the first time since the start up of that new facility almost two years ago.

I would like to now review the changes in value-added sales by market. As noted in the press release, value-added sales when compared to the prior year levels, were up approximately 3% in the quarter. With the exception of shipments to the medical market, which were down by 12% due to the supply chain factor unrelated to us that I noted earlier, and 3% lower year-over-year, shipment into consumer electronics. Business levels improved nicely in all other areas.

When comparing to the second quarter of the prior year, value-added sales were up 21% in both automotive electronics and defense and science. Up 6% in telecom infrastructure, up 3% in both energy and the combined industrial and commercial aerospace markets. Comparing the second quarter sequentially to the first quarter of the year, value-added sales were up 5%, with the sole exception of a decline of almost 20% in medical, business levels continue to improve nicely in all of our other market segments. Defense and science was up 30%, automotive was up 15% after improving by 8% in the first quarter, and consumer electronics was up 6%, after being up 7% in the first quarter as well.

Industrial components and commercial aerospace was up 3%, following a 3% increase in the first quarter, largely driven by aerospace. And telecom infrastructure was up 10%, and energy was up almost 20%.

Now let's turn to the balance sheet and cash flow. Both the balance sheet and statement of cash flows are attached to the press release as well. The Company began the year with a very strong balance sheet. Our balance sheet was even stronger at quarter end and cash provided by operating activities was solid in the quarter.

The strength of the Company's balance sheet and its cash flows provide the flexibility to return cash to shareholders in the form of a regular quarterly dividend, which we initiated during the second quarter of last year. In the second quarter of this year the Company announced a 7% increase to the dividend -- regular quarterly dividend to $0.08 per share. The third quarter dividend, which was announced this past Wednesday, will be paid on September 4 to shareholders of record on September 16. Net cash provided by operating activities was above $23 million in the second quarter, and that net of cash declined by about $12 million.

I would like to now turn to the outlook. As noted in the press release, our expectations for the balance of the year have changed. We have adjusted the range for the year to $1.65 to $1.85 per share bringing the high-end down by $0.15 a share and the low-end down by $0.10 a share.

This change is due to external, not internal factors. The key being mixed, near-term signals, a weaker overall global macroeconomic condition, and what appears to be a softer start to the second half. Nonetheless, our second half is still expected to be stronger than the first half, in the range of 20% to 45% higher in earnings per share.

With the exception of the medical market, shipments to the Company's other key markets were sequentially stronger in the second quarter. We do expect that shipments to the medical market will be stronger in the second half of the year due to the resolution of the factor that I noted earlier. In addition, the Company at this time expects the output and performance of the new beryllium pebble plant to continue to improve throughout the second half of the year. And specific defense and science orders are in-house that are scheduled to ship in the fourth quarter.

Two of these factors, the progressively higher output of the beryllium plant, and the higher fourth-quarter shipments into defense and science, coupled with the planned fourth-quarter shipment of hydroxide I noted earlier, should lead to the fourth quarter being the strongest quarter of the year by far, well exceeding earlier quarters. At this time, given the softer start to the third quarter, and the weaker third-quarter defense conditions, we expect third-quarter earnings to be below those of the second quarter, by up to $0.05 per share. And given the factors I highlighted earlier, fourth-quarter earnings should exceed those of the third quarter, by up to $0.25 per share.

That concludes my remarks. I will now turn the call over to Dick Hipple and Dick will provide you with a market update.

Thank you, John. Our second quarter results unfolded according to our market forecast that we anticipated earlier in the year. Basically a slow growth world at best that posed some upside surprises and disappointments.

First of all, I was particularly pleased with two factors in the quarter, the ongoing and sequential growth of our value-added sales, and moving back into the black in our beryllium and composites business. Our pebbles plant start up continues to progress towards our production objectives for continuing improvement throughout the year. And in fact we are having production weeks where we are hitting our end of year production goals.

Also, our expanded Singapore operation is now fully qualified at our customer base, and is ramping very nicely. This facility is focused on both the telecom infrastructure and LED markets.

In the second quarter, we also successfully started up our new melting caster at our Lorain facility which increases our production capability of our expanding ToughMet alloy. ToughMet is heavily used in the commercial aerospace, oil and gas, heavy mobile equipment, and now the consumer electronics space.

Overall, we are not seeing any surprises in the marketplace except that defense spending is decelerating faster than expected. Although a small market for us, heavy mining equipment is certainly suffering from a dramatic decrease in new equipment being ordered.

In other markets we do see overall electronics to be marginally stronger, driven by the wireless mobile world. We were up 6% sequentially there, and the intended increase in telecom infrastructure spending we were also up 10% sequentially there. Our automotive market remains strong. We were up 15% sequentially, and the commercial aerospace market is at record highs and should continue to gain strength.

Although our medical market was weaker in the quarter, it was only an anomaly due to a supply chain issue at one of our customers. Our oil and gas market is up nicely up 20% sequentially, and we have seen a strong lift in sales to the alternative energy market for chemicals used in the commercial LED lighting market.

As we look forward, we expect all of our markets to remain solid for the balance of the year, except for defense, where many of our customers are waiting to see whether the next round of defense cuts will be enacted early next year. Although we have reduced our forecast modestly for the year to reflect macroeconomic concerns, our second-half earnings are still expected to be at least 20% above first half levels. And our value-added sales are expected to be at least 5% higher in the second half versus the first half. Good growth coming.

And as time progresses I remain very bullish regarding the new differentiated market and application niches we are establishing. Last quarter I mentioned several new opportunities where we had received initial orders, and now I can report we are making the shipments. Gesture control optics for gaming devices, the dove tail connector for connecting copper to aluminum in automotive hybrid batteries.

We shipped our first order for next generation bushing design using a ToughMet wrapped, stripped product which significantly lowers the customer's cost and expands our market application reach. And our shipments are expanding nicely and our chemicals to support the next generation LED phosphorous for commercial lighting. We have numerous new product opportunities in our pipeline which you will be hearing about over the next several months.

Thank you, and we will now take questions.

(Operator Instructions)

Edward Marshall, Sidoti & Company

Good job getting the beryllium business back to profit, so I think that, that has been a lot of hard work for you guys. So, I want to give you a second to kind of talk about, I thought there were some unplanned maintenance in the quarter in the pebble plant, and it looks like you fought through that. So, kind of touch on that or highlight or any kind of additional highlights you can give.

Yes we did, we did fight through that and we wound up actually producing more product in the second quarter than we did the first quarter. So you're absolutely right. We had a good finish there. That's right, we had a good finish there and we are off to a good start here in July. So, we're feeling good about where we are and so far so good here.

Historically I thought I heard or I remember that this is a business that could ultimately generate I think it was $6 million to $8 million in operating profit annually?

That's correct.

Are we kind of -- you did a good job in Q2, but as we move to the back half of the year, are we going to be on a specific run rate do you think to that $6 million to $8 million in this business?

Yes, I would expect that in the fourth quarter we will be at that rate already.

Okay, at $8 million or at $6 million?

Well, let's start at $6 million.

Fair enough. So, as I look to, as I look to comments that you made, pretty much it sounds like everything seems to be going in the right direction. The beryllium business is getting back to profitability but you're revising your outlook. So, I know there's a softer Q3 coming up. Is it that your expectations were just too high or is it that, in some markets you're talking about 20% top line growth? The margins kind of look good across-the-board so help me make the -- close the gap there as to what is really happening.

I think that probably where our biggest surprise this year happened, and we are talking about $0.10 here, is probably defense was weaker than we had expected. The draw down of the defense spending has been pretty dramatic. Although in one of our businesses, in beryllium composites we are going to be doing fine. We saw a pretty big order flow decline. We're talking ranges in 30% in our optics business. So that was certainly a surprise to us. That was probably the biggest surprise, we didn't expect that.

But I will be quite open. We've debated this extensively when we talked about the forecast, but we could have kept the forecast up. But if you take a look at the global situation, you've seen the reports. The China PMI index is down to 47, usually when that gets down that low we start to see some kind of ramifications across the globe. On all of the growth forecasts for the year have been brought down across the world including the United States and China and Brazil and India, whatever. And then the other thing I worry about is in the last -- in the fourth quarter, the US is going to be -- we're going to be facing another round of sequestration that is coming has not been addressed, so people start to react ahead of that.

Then we have the big budget debate going on for the debt ceiling that's going to be. So there's a lot of stuff that is going to be unfolding here, and so you just step back and say well okay, we have generally a softer world. As we look at those micro markets that we are participating in, they're doing quite well as you point out. So anyway, we just step back, we probably did not quite do as good as we thought we might do in the first half, so we just kind of backed it up a little bit. And that is where it's at, it's not -- I'd say we got our divining rod out and said it could be a little bit softer.

With the comment saying that there was a softer start to second half of '13, and presumably that's -- we were talking about the third quarter here, that being a big quarter for say the holiday build, have you seen any indication --?

That actually is not true for us. Generally from a historic standpoint, we start to see the lift usually in September. Is when I'd say, late August, September. So that is the other point, typically that is when we see it.

Are you suggesting that, that is not necessarily going to happen with your revision or are you saying that --?

No, I'm not saying that's not going to happen at all because if you take a look at our numbers, we are still forecasting the earnings to be quite strong versus first half and the second half and also the value-add sales are going to be up so. To me this was more of a tweak to reflect the macro world here.

Last question. Book-to-bill, I don't know if I either missed it or you didn't give it, do you have --?

We didn't give it, the book-to-bill was actually around 0.9 coming into -- coming to the end of the quarter, and as we suggested, the softness through the first part of this current quarter, the first three weeks of July are obviously in is we do get seasonality in July to mid August and we get a downturn in orders and then we get a lift in orders that begin in mid August with shipments on the consumer electronics side as Dick just indicated beginning in September. So we do have some softness there at the beginning of the quarter which is maybe a little stronger than what we typically see. And the second factor is third quarter versus fourth quarter for us as I mentioned in my comments, the defense business, we have booked orders for shipment in the fourth quarter significantly above third quarter and we are weaker in the third quarter in defense.

Okay, well good job on the beryllium business. I think that is a testament to hard work. So, thanks.

Luke Folta, Jefferies.

On the beryllium side once you get to that $6 million-ish run rate in 4Q, is that something that you would expect to be sustainable on a consistent basis going forward?

Quite frankly, we would be very disappointed at that level on a go forward basis because in that particular division we see a lot of growth ahead of us with some of the new product launches. The numbers that I throw out there are pretty much the historic numbers that we feel very comfortable getting back, but we have bigger plans than that.

Okay, and is that just the function of getting capacity utilization up to a certain level or is this pretty much a fixed cost absorption thing with the new plant?

Primarily.

Okay, and can you say -- are you able to tell us where the plant is operating now versus what the expectations is in the fourth quarter?

We will be -- we need to be at around, next quarter we're going to be, I'd say we are about 60% where we need to be.

You're at capacity utilization or your 60% of what you need to be to earn $6 million?

We're at -- we're going to be at the 100% level, let's call it the 100% level in the fourth quarter.

Okay.

Where we wound up in the second quarter, we are at 60% rate. The best way to think about it is we're going to be at the 80% rate in the third quarter and then be at the 100% rate in the fourth.

Okay, so I guess if you were to earn more than what you expect in the fourth quarter, is that -- if that's full capacity, then how do you get beyond that? Or is that just other things happening in that segment?

It's a lot more complex than. The key for that division and its operating cost structure is to get the new plant up. We have other facilities to support that plant, we have a plant electrofusion that has its own growth profile in speakers and x-rays, and we have the defense business there in the beryllium in the Elmore plant, but also we have a very large nuclear business that's really driven -- we talk about defense and science but what's very interesting about that division is the science side is growing dramatically. It is now probably, out of our Elmore [field] call for about 25% of that business is driven by science right now. And these are nuclear applications a lot for medical devices and for science research across the world.

So it's a -- we will have a lot more capacity to grow the business, so we won't be at -- the best way to think about this, I'm probably sounding a little confusing here. When I say capacity, I'm talking about the capacity that we need to support the forecast. But we have a lot more capacity at that plant to use as we grow the business. That's the best way to think about it. So, we're really not at capacity but the way I talk, let's get the darn plant running to where it needs to be, to support the business. But we have more runway at that plant, it won't be peaked out at all.

Okay, that's helpful. Can you -- or do you care to maybe dive in a little bit on what the new growth products are in that segment and where you see that, I guess what products, what markets that growth occurs in going forward?

To give you just a couple, I've talked about this one before is there is probably I would say, two primary ones. One is in the liquid metals, alloys where we have developed the technology for that and we see that as a new growth platform, and it's a very unique amorphous metal that is gaining some traction. And then the other, embedded within that particular division is our new acquisition that we bought over in the UK called AMC and that's aluminum -- a very niche aluminum silicon carbide product, and it has property sets that are similar to a beryllium based metal. It's like an augmentation and it does increase our platform for growth. And that is -- you're going to see over time, that's what I call our new ToughMet product within the beryllium businesses. So it's our next gen ToughMet product, so it's going to be very large over the next several years. So, we have two very nice platforms that we expect to be growing over the next couple of years.

And also, just on ToughMet, you talked about energy sales being up 20%, and we are certainly not hearing anyone else that sells to that end market talk about numbers like that. Is that pretty much all ToughMet?

Well, that will be a combination of ToughMet -- actually within our energy bucket there are three things. It will be primarily ToughMet but also in the energy bucket is our LED phosphors which we have doubled the sales in that from last year and that is probably going to be another double. It's going to be a combination of two dramatically different products, a chemical product and then also our ToughMet application. Now, the anomaly there in the oil and gas, I don't think -- and I agree with you, the oil and gas is not growing at 20%. We do get what I call surges in our order book from the standpoint of, we have distributors and they will take some large orders to fill warehouses. So we will get some spurts once in a while, so I would not be forecasting that energy is going to continue to grow at that rate, although we do expect energy to grow in the second half.

The other interesting one we have, what I call our third product -- primary product in oil and gas is our architectural glass market which I typically don't talk about. It is actually a silver-based product. We have a -- in the US the largest market share for all the silver that is used for coating buildings. They build buildings and it has the reflective glass, there is a thin coating of silver that is used, and we have a very large market share for that and that market has come back very nicely. In fact, we have taken some share also over in Europe. So, those are the three primary products and we saw the inventory builds in the oil and gas for the ToughMet were growing in the LED space for the chemicals and then we, and we saw nice growth path here in the architectural glass has picked up. So we saw all three come in very nicely in the quarter.

That's great, thanks a lot guys and I'll turn it over.

Avinash Kant, DA Davidson.

Basically first a little bit on your comments regarding revenue, you said that the value-added sales in the second half are going to be up 5% compared to the first half. Can you give us some idea about how to think of the Q3 and Q4 value-added sales in Q3, would they be down sequentially from Q2 or not?

I don't have that data here but I would think that yes, they will be down sequentially in the third quarter by maybe up to 5% and being up sequentially in the fourth from the third.

Okay, okay. Could you talk about, so in terms of the value-added sales being down in Q3, where is that weakness coming from?

Well, by segment?

Which particular segment is seeing the downside?

Sequentially to Q2 the downside will be in beryllium and composites and in advanced materials due to the weakness in defense, the lower shipment level in defense.

And also in the quarter we saw in beryllium and composites extra sales [multiple speakers]. So you're having a stronger burst in the second quarter we are not going to see that piled on in the third quarter.

So it is largely beryllium composites and it's going to be the primary place where you'd notice the falloff.

And typically again in the third quarter that's our July and August, typically we see the sales decline, automotive will probably be a little bit weaker in that quarter. You have summer -- we just see the order book every year gets soft in July and gets soft in June and July and so we just expect that quarter to be a little weaker but it's more of a seasonal thing.

And how about the consumer electronics business? Where do you see that in the third and fourth quarter, how do you see that?

What I see for us is we will start to see the order book pick up later in the third quarter, and the fourth quarter will be fine.

Okay, and so the deduction in guidance if you're talking about for the full year, that's coming primarily from your expectations going down mostly in the defense side, it looks like?

Yes.

Anything else there that leaves you to kind of take it down?

Primarily defense.

Primarily defense, okay. There's one clarification, so you answered the previous questions saying that as far as the beryllium plant is concerned, you expect to get to 100% level, I believe where you need to be by Q4. Would you clarify at that level, how much capacity would you be using for the plant?

Probably about 70%.

70% utilization roughly?

Yes.

Okay. A little bit more about the LED business, you have the LED phosphor and I'm sure some other products too. Could you give us some idea what your exposure to LED is at this point? And you made a comment that you saw a doubling year-over-year and you will see another doubling, could you give us -- do you mean year-over-year next year second quarter or what do you mean by that?

At this point in time we see ongoing growth year-to-year, very strong growth in that particular product line. So it's year-to-year were my comments.

Year-to-year so you saw a doubling year-to-year this quarter and the next quarter it could again be --?

I am not talking about quarter, I'm just talking about sales in a year versus sales in a year versus sales in a year. I'm not that good to predict where it's going to be quarter-to-quarter. That's not my intent.

Okay, so thus far you're saying the year-to-year has seen it double?

Yes, yes. [multiple speakers]

And the majority of sales that you do, are they going into the back lighting or the general lighting product if I may ask?

The general lighting.

General lighting, okay. And have you ever given us the customer concentration there? Do you have one or two big customers or how big are the top five customers in that segment?

Top five is probably going to chew up 90%. Those are big players in that market.

And you have seen a broad-based improvement there, right?

Yes.

Okay, and one final comment on margins if you could talk about margins in terms of how should we expect that in the third and fourth quarter, should we expect a decline in the third quarter or will it still stay there?

The third quarter margins will probably be -- could be down a bit due to defense. Defense happens to be very strong for us. So the flow through there is usually pretty high. So you may see flat to down only slightly in the third quarter, but up significantly in the fourth.

I was thinking, maybe digging down for this one, I was thinking would you be able to give us some idea about what percentage exposure do you have for LED at this point roughly?

We do not share sub markets of the segments, Avinash. I'm sorry, but we just don't want to get into describing sub pieces of the business.

Thank you.

Marco Rodriguez, Stonegate Securities.

In terms of the guidance, any changes you are making to the cash flow guidance and what it is doing to debt?

No, I think that our earlier forecasts there are accurate, we will continue to see debt decline in the next couple of quarters as we saw it decline in the second quarter. And I think we said previously that we might see our revolver draw fall below $20 million by year end, and we clearly expect that to still occur.

Got it, okay, and the cash flow generation in Q2 was pretty strong. Was there anything that was special that happened in the quarter that created that?

No, we are continuing to, we had receivables climb a little bit near the end of the quarter but we continue to have -- work our inventories down and we expect to continue to do that. We will see some inventory decline yet in the third and perhaps fourth quarters of the year, but nothing unusual, nothing out of the ordinary. Pretty much in line with how our operations are performing.

Got it, and then on the technical materials segment side, you have some pretty healthy sequential increases in margins there on the growth side, on the operating side. I think you mentioned that you had made some operational improvements and obviously you had some increases in volumes, but I was interested if you could provide some more color on those operational improvements, what you guys did there --?

Yes, thanks for bringing that up, I could have and maybe should have commented on that in my introductory remarks. Those margins were a highlight in the quarter. Margins grew significantly as did the business level. And it is a combination of factors. The one that you have noted, ongoing performance improvements inside operations themselves, as well as in this particular case a good solid product mix in the quarter. Those margin levels I think were probably a little higher than what they might be the balance of the year because of the mix. But thank you for asking about that, that is a clear highlight in the quarter.

Got it, okay, thanks a lot guys.

Mark Parr, KeyBanc.

The third quarter typically has a fairly meaningful planned maintenance outage, and I was just curious how much is that having an impact on third Q earnings instead of versus the second quarter?

Very little, there are only minor things occurring. There has been some minor energy curtailment with the heat the last two weeks, but not significant and not that I would put in terms of pennies per share for example.

Okay, all right, another question just curious if we could get an update on the optics facility in China and how that's -- is that getting better is it stabilized, or just an update there?

The exciting thing there is the -- when I had mentioned about our gesture control ramp on the optics side of the business, that is Shanghai, and that's a very meaningful product for us and will be very meaningful on a OP for us in the second half of the year. So, yes, it is a very meaningful new product launch there, is what it was all about. Remember we bought that place and it had a market share in a product that was not too exciting from a growth standpoint and our whole idea was to bring new products into that facility. And we have done that successfully, we have got the first major order and it is a significant part of profitability. So yes, we're very happy with the situation there. And that's just the first one, there's another one coming and we have another platform coming in the first quarter of next year, so we feel very, very good about the positioning right now of that facility.

Okay, on the beryllium side and the defense shipments, the hydroxide business is fairly high probability in terms of its timing but some of these defense shipments can get really messed up and just change even at the last minute. I'm just curious, do you have any more comfort or a higher than usual level of visibility around these big shipments that you're looking for in the fourth quarter?

We do, and so we basically have those so we are not concerned about that. So we are very comfortable about the forecast we have in the beryllium composite business for the fourth quarter. And as we mentioned before, where we actually took down some of the forecast was actually on the defense side of our optics business. So, we're not showing a whole lot of optimism there, counting on certain things to happen.

We characterize that fourth quarter load is low risk that these shipments will not be made.

That is encouraging. And just lastly, if I could just get an update on how the acquisition pipeline is looking? You guys do look a bit on the under capitalized side, or over capitalized side, excuse me, right now. Any sense of how much money you're thinking about deploying on the M&A front the next six months to nine months?

As you know Mark, we are constantly looking at things that would fit us and our unique portfolio. And basically the rules that we kind of follow is that we have done acquisitions typically in the size of $30 million to $60 million, and I would expect finding the right thing in the next six months to one year, that we would be pulling the trigger.

I just wanted to add my congratulations not just for the China thing but just for the overall the breadth of momentum that you seem to have going right now. And it certainly seems like the earnings picture could be a whole lot different if the macro environment was a little more constructive. So congratulations.

Jim Casagrande, Brant Point Capital.

I just wanted to follow-up I guess on Mark's comment around momentum. You mentioned liquid metal as a growth platform. I was wondering, is that one, are you seeing growth there now? Two, is that related to -- I think you mentioned connectors for automotive batteries or two there has obviously been some rumors around Apple products and using that in some version of iPhones or iPads et cetera. Just wanted any comments on that and is this growth something we'll see in '13 or is it more of a '14 opportunity, thanks?

I would expect that to be '14, '15. But '14, I'm not saying is it '14 or is it '15, we are shipping low-millions of dollars into that market today so it's real. But these markets do take some time to develop before you start to hit a curve. So that is where we are at. We have a lot of interesting opportunities and they are pretty wide spread between as you mentioned, consumer electronics to it can be watches, high end watches and components and those. And then it also reaches into the defense side of the business for -- and aerospace. It is kind of a very interesting broad breadth portfolio for where the applications are.

You also mentioned the dovetail connector --?

That is a little different. Our automotive connector is not liquid metal, that resides in a new patented process we have for combining aluminum and copper in a very unique way that is getting some traction in the connector market for -- in the battery space. And that is out of our technical materials division in Rhode Island.

Great, thank you.

Edward Marshall, Sidoti & Company.

Two quick follow-ups both I guess centered around the defense, I'm looking at the beryllium business and the slowdown on a sequential basis that you look there, I think you said there was a pull-in of shipments or maybe a push-out of shipments on the defense side?

Ed, in the second quarter there was a push out from the first quarter into the second quarter, which second quarter has a little bit of a bump in it if you will so the third quarter will be bigger than the second. Naturally because of that.

We also had some science shipments in there, so that is what is becoming interesting about that business. And the science shipments are these nuclear components that we ship are very large. They are like one of this and one of that and when they ship it's about $0.5 million here and $1 million here, it is kind of a unique business and they come in lumps, and we had a couple nice lumps in the second quarter.

So I guess my question is, do you anticipate remaining profitable in that business in 3Q assuming the step back?

It will be tight, it could be tight there, but we expect it to be strongly profitable in the fourth quarter.

So similar, you already talked about the run rate in the fourth quarter so I assume similar kind of margin to 2Q I mean, I'm assuming presumably you're getting more efficient in that business. There's not the unplanned maintenance so similar margins to say Q2.

That's correct.

The second focus that I wanted to bring up, the fourth-quarter outlook and the discussion around defense there, and I think you just mentioned that you saw the optical business in the defense side picking up in 4Q? Is that what you said?

The application that Dick was talking about was not a defense application in the fourth quarter, it was a gesture controlled application.

That's consumer electronics, an example would be the optics that you have in the Xbox gaming device.

Are you expecting much for defense in Q4 or into next year?

Well we are expecting shipments primarily, the heaviest shipments will be out of our beryllium and composites business. Lower levels in the optics business. And as far as next year is concerned, I think we have to wait and see where we are going to see the second round of sequestration.

We looked to Q4 I guess there's -- we assume the budget flush that typically happens on every year does not seem to be happening in 3Q right or we wouldn't be seeing the decline in defense. And then I guess we're starting a new fiscal year with all kinds of different cost structures and budget structures, et cetera. So, are you saying that you're not expecting much for defense? I think that's what you just said, I just want to clarify what your guidance implies.

We have pulled down our defense forecast for this year, and when you start to talk about 2014, that is were you kind of have to wait for the circus in September or October to determine what the heck 2014 might look like.

And how much is defense of the overall business?

Of our overall business (multiple speakers) less than 10% of the Company.

Less than 10%. 9%?

Perfect, thank you guys very much.

William Florida, Advisory Research.

My question was covered, thank you.

I guess I will return back to the prior question and we were talking about the shipments, the strong shipments in the fourth quarter for the beryllium and composites. As I've mentioned before, it is all non defense oriented. For example, half of that growth in the fourth quarter is going to come from science shipments and for example, these are one-offs, there are strange and wonderful things, but we have a very large shipment in the fourth quarter that is going into the electrofusion reactor called [eater] which is a global thing for electrofusion and we have a large shipment in the fourth quarter for that.

It seems there are no further questions at this time, I would like to turn the floor back over for any closing comments.

Hi, this is Mike Hasychak, we would like to thank all of you for participating on the call this morning. I will be around for the remainder of the day to answer any further questions. My direct dial number is 216-383-6823. Thank you very much.

Thank you, this concludes today's teleconference, you may disconnect your lines at this time and thank you for your participation.