Ultralife Corp (ULBI) 2006 Q2 法說會逐字稿

Good day and welcome to the Ultralife Batteries second quarter earnings release conference call. Today's conference is being recorded. At this time for opening remarks and introductions I'd like to turn the conference over to Ms. Jody Burfening. Please go ahead.

Thank you, operator. Good morning, everyone. And thank you for joining us this morning for the Ultralife Batteries earnings conference call for the second quarter of fiscal 2006.

The earnings press release was issued earlier this morning and if anyone has not yet received a copy, I invite you to visit the Ultralife web site at www.UltralifeBatteries.com where you'll find the release under Investor News in the Investor Relations section.

In a minute I'll turn the call over to John Kavazanjian, Ultralife's President and Chief Executive Officer who - along with Bob Fishback, Ultralife's Chief Financial Officer - will provide their formal remarks. Management with then take questions until 11:00 Eastern time.

Before turning the call over to John, I would like to remind everyone that some statements made during this conference call (technical difficulty) forward-looking statements including references to Ultralife Batteries' future plans and objectives. These statements represent the current views of management with respect to future events and are subject to certain risks and uncertainties which could cause actual results to differ materially from those contemplated in the forward-looking statements. A more detailed description of these risks is contained in the Company's filings with the Securities and Exchange Commission.

With that I would now like to turn the call over to John. Good morning, John.

Good morning. Thank you, Jody. Good morning, everybody, and welcome to the Ultralife Batteries conference call for the second quarter of 2006. Joining me today are Bob Fishback, our Chief Financial Officer; Bill Schmitz, our Chief Operating Officer; and Nancy Naigle, our Vice President of Sales and Marketing.

Today we reported revenue of $21.4 million for the second quarter of 2006. Operating income was $500,000 and was $800,000 excluding $300,000 of non-cash expense associated with FAS 123R - Expensing of Stock Options. Revenue was up from the first quarter and slightly above our last revenue guidance. The increase against this guidance was due to higher shipments across multiple product lines, including higher sales of our 9-Volt products.

With regards to the BA-5390 in this quarter, we made some substantial shipments of the product on the order that we announced in the first quarter for the BA-5390 with a new state of charge indicator. We are still expecting an order in the third quarter and are waiting to see what level it will be as the Department of Defense allocates its end of fiscal year spending.

Our assessment to field usage and inventory levels has not changed since last quarter. Field usage is at a consistent level and inventories are low; but there is some uncertainty of how orders will be balanced before and after the October 1 fiscal year boundary.

Commercial market shipments continue to be strong. Shipments of batteries into the Telematics application increased over the first quarter. We started supplying yet another platform under an existing agreement and with continued strong design activity we expect to add platforms as time goes by.

In medical markets, we are starting to see a pickup in sales related to automated external defibrillators and expect to start shipping in several new monitoring applications in this quarter.

Our 9-Volt products had a very strong quarter coming back from a slight decrease last quarter, driven by strong international demand. We are seeing that demand persist with strong bookings in the early part of the current quarter. Opportunities in our Thin Cell product line are expanding and we expect too see initial shipments and a promising new application in the third quarter. The Thin Cell provides unequaled energy rate capability combined with very flexible configuration and packaging, and continues to attract new applications.

The addition of ABLE, within vinyl chloride product line, has also added a new dimension to our commercial market offering. Opening up opportunities to automatic meter readings, security and RFID markets that both the Ultralife and ABLE sales forces are attacking worldwide.

Military markets still present attractive growth opportunities for Ultralife. In the last year, we focused heavily on new programs and applications to the large prime defense contractors. The Land Warrior program with General Dynamics has passed the first development stage and is now in testing with training units. Initial feedback is good; and we expect this to be deployed and to be a strong contributor to revenue in 2007.

We are engaged with several unattended sensor programs oriented towards forced protection and towards situational awareness; and we expect this to be an area of growth towards the end of this year and also into 2007.

Our international military business is also growing. Our leading UBI-2590 rechargeable battery and our battery for the cell C thermal imager are both growing in sales through our allies abroad.

The integration of our recent acquisition is well ahead of schedule. ABLE has already significantly expanded its opportunity base, both because of its association with Ultralife and because of efforts by the Ultralife sales organization to sell the ABLE product line. While we see great opportunity to expand sales through the ABLE brand we have already started activities to develop a premium performance version of their product to be branded under the Ultralife label. We have injected capital into areas of process control, facilities upgrade, and performance enhancement. We have a sound management team that is supplemented by locating, technical, managerial and process engineering personnel from Ultralife.

Work on McDowell integration is also well underway. We envisioned that our sales coverage and our product portfolios will be very complementary; and we have not been disappointed. Work has already been started to utilize McDowell's expertise in the special operations area to insulate our product development strategy and to use Ultralife expertise to realize operational efficiencies.

We will also integrate our charger product line and apply unique features of each product line over the entire offering.

In our battery product line, we expect to soon field advanced versions of many of our standard products based on higher capacity, cylindrical and Thin Cell. We believe that the McDowell sales force will be able to sell these advanced versions into the Special Operations units with whom they work.

The combination of McDowell and Ultralife gives both radio OEMs and end-users one-stop shopping for all the batteries and communications accessories that are required to make that radio useful.

Again, the interactions between the people at both operations have reinforced our belief in the strength of the McDowell management team and the cultural fit between the two companies. Both McDowell and ABLE are profitable and are expected to be accretive to the bottom line of the combined companies.

Looking forward, we are now including the impact of the acquisition in our guidance and taking it up to around $100 million for this year. We are initially being a bit conservative in our outlook for the acquired company and we will update this further next quarter when we better understand the characteristics of their revenue patterns and are further along with integrating the company.

That guidance implies that our second half revenue will be approximately $60 million. The government fiscal year ends on September 30 and there is historically some funding uncertainty on either side of this boundary. Therefore we are estimating a range of 25 to 29 million for the third quarter with the remainder to be in the fourth quarter of this year.

Beginning in the third quarter, we will add a segment to our reporting. A segment called Communications Accessories will represent a good part of McDowell's business. Their charger business will likely be represented in our rechargeable segment, consistent with the way that the company reports.

Now I'd like to turn it over to Bob Fishback, who will cover some of the financial highlights after which I will return with some comments and then we will open it up for the Q&A. Bob.

Thank you, John, and good morning, everyone.

Earlier this morning, we released our second quarter results for the three-month period that ended on July 1, 2006. Consolidated revenues for the quarter amounted to 21.4 million, modestly above our guidance and relatively consistent with last year's second quarter. While sales to commercial customers rose - particularly in the automotive Telematics market - shipments of BA-5390 batteries to the U.S. military were down compared to Q2 of '05 as we had anticipated.

Gross margin for the second quarter of '06 was $4.4 million or 20% of sales, an improvement over the $4.2 million or 19% of sales reported in the comparable quarter of '05. A combination of a more favorable sales mix and the ability to leverage our fixed cost infrastructure were key factors in this improvement.

Our rechargeable segment reported a 30% gross margin for the quarter versus 13% last year, due to a sales shift to higher margin batteries and Chargers. The gross margin in our nonrechargeable operations amounted to 19% this quarter down from 21% last year, mainly as a result of lower production volumes that resulted in higher overhead absorption.

In our technology contract segment we reported a 10% margin, relatively consistent with last year's 9% margin. In Q2 we reflected approximately $300,000 of non-cash stock based compensation expense in accordance with FAS 123R - most of which was reflected in operating expenses.

In the second quarter, operating expenses totaled $3.9 million versus $4 million a year ago. Excluding stock option expense, however, operating expenses declined by approximately $400,000. Of the 400,000 decrease, 200,000 relates to lower R&D expenses and another 200,000 to lower SG&A costs, reflecting lower professional and consulting fees.

Operating income for the second quarter of 2006 amounted to $500,000 compared with 100,000 last year. Excluding the stock-based compensation expense in '06, operating income was $800,000 - reflecting an improvement of $600,000 over last year's second quarter. Similar to the results we reported in Q1, this quarter's positive operating income again demonstrates the benefits of the steps we took in the third quarter of '05 to bring our cost structure in line with an $18 million quarterly revenue level.

We reported net income for the second quarter of $100,000 or $0.01 per diluted common share, compared with a net loss last year of 1.4 million or a loss of $0.10 per share. Income taxes reflected in effective rates of 77% on pretax earnings in '06, reflective of the difference in pretax earnings in different text jurisdictions and how we are accounting for taxes in those jurisdictions.

As a reminder, however, our cash outlays for income taxes will be nominal for some time in the future as we work down our tax loss carryforwards. Average diluted shares outstanding for the second quarter of '06 were 15.2 million shares, up 700,000 shares from last year, primarily related to stock option exercises.

Turning to cash flows, EBITDA for the second quarter - excluding non-cash expenses, related to stock-based compensation - amounted to approximately $1.8 million. Cash generated from working capital during the quarter was approximately $2 million as inventories declined. We used $300,000 to invest in capital expenditures during the quarter, in addition to a $2 million outlay for the cash portion of the purchase price of ABLE.

Financing activities include cash inflows of 300,000 from the exercise of stock options and cash outflows of approximately $1 million for debt principal payment and the reduction of outstanding revolving loans.

The balance sheet at the end of the second quarter remains sound. Overall the cash flow activities resulted in an increase in cash from the end of Q1 of $700,000 - even after the $2 million in cash used for the ABLE purchase. We ended the quarter with total cash of $4.2 million.

In early July, we finalized an amendment of our credit facility with J.P. Morgan Chase and [M&T] Bank, our primary lending bank. The amendment was done in contemplation of the pending acquisition of McDowell in order to provide enhanced financing flexibility. The amendment increased the revolver component of the loan of the overall facility from 15 million of borrowing capacity to 20 million.

In addition, modifications were made to the financial covenants to accommodate the impacts from these two acquisitions.

Lastly the facility was extended for an additional year to June of 2008. Our current borrowing capacity is approximately $18 million, net of outstanding letters of credit.

Also in early July, we closed the acquisition of McDowell. As part of the terms of the purchase agreement, we paid the sellers $5 million in cash. In order to fund this cash outlay we drew down on our revolver. Based on our plan, we expect to be able to pay off any outstanding balances under the revolver before the end of the year.

Looking ahead, we are projecting that Q3 consolidated revenues will be in the range of $25 to $29 million. Our anticipated operating income for the third quarter is in the range of $1.2 to $2.4 million generally in line with our basic business model; but also taking into account lower initial operating margins from the addition of McDowell and ABLE, relative to the incremental margins we expect to achieve as we grow the base business. As we progress with our integration of these two companies we believe that we can improve the operating efficiencies in order to maintain the overall business model.

For the full year, we are projecting the consolidated revenues will amount to approximately $100 million.

The addition of ABLE and McDowell to the Ultralife family will strengthen our Company in many ways. We have broadened our product offering, enhanced our distribution channels, and improved operating cash flows so that we can more effectively manage the variations in any individual market segment. We are excited about the new challenges and opportunities that lie ahead as we work to grow the base business and take full advantage of the benefits we see from working together as an integrated entity.

That concludes my remarks and I will turn it back to John.

Thank you, Bob.

Ultralife is entering a new phase of its growth. With ABLE, we are expanding our offerings into key commercial markets and gaining a presence in Asia. With McDowell, we are expanding our offering into communications accessories, broadening our reach and broadening our reach in the military markets.

Most of our military sales have involved standard products supplied into contract directly to the DoD. With our expansion internationally, our work with projects under prime contractors, and now our channels into special operations and broadened product lines these standard products will represent a smaller and smaller part of our business. As we have diversified in and within our commercial market, we are doing so within the military market. We are continuing to broaden our set of growth opportunities in both areas.

Now I would like to open it up for questions and I will turn it back to [Gwen] to open it up for questions for us.

(OPERATOR INSTRUCTIONS). Steve Sanders with Stephens Inc.

Good morning. A couple of questions. On the third quarter guidance 25 to 29 million is the range solely dependent on the 5390 or is there also some conservatism in there around the acquisition?

No, around the acquisition is also McDowell -- McDowell business is in the same ballpark ranges as the 5390 business for us and they are project-oriented. So they have some steady business which accounts for half to two-thirds of the business but this part is project-oriented and that is very -- as you get around the fiscal year boundary they have the same kind of issues. It can be to the good or to the bad. You get into September and somebody's got money and they spend it sometimes or they may say "Well I need my new budget on October 1."

On the 5390, you had the orders in February and April. We haven't seen anything since. Bring us up-to-date on where you stand on the B and really what you think the likelihood is they will order the As when it sounds like the B is probably only a quarter or less away from being ready.

Bill Schmitz has been intimately involved with this. I am going to ask him to answer that one for you.

Right now, the latest conversation we have had with the Department of Defense is the A to the B is going to be a running change. I think we had said before there is a very slight difference. So we don't see the B -- they are going to have the B as a qualify to put an order in.

So we expect that as the usage comes and the money becomes available, they will continue ordering As until the B is qualified and we are on track to have the B qualified in very short order.

I think it became real clear to everybody that the difference between the two products is how the lights ramp when you really get down to it. Operationally to a soldier it doesn't make a whole lot of difference. We moved it a little bit, the location just a little bit in the case but nothing real different.

I asked one of the manufacturing guys today, "So what's the difference in the B since it goes together exactly the same way?" It's more software than anything.

Then Telematics, I think you mentioned a new platform I guess with an existing customer. Any additional data on that would be good and is that incremental to the 10 million you were looking for from that business this year?

First thing is, yes, it is incremental but probably in the fourth quarter. A little bit this quarter but it really is fourth quarter. Second thing is, we would love to be able to tell you who it is; but it turns out that we are getting into a situation with our customers where it is very sensitive information about what platforms they are putting batteries into or not and who it is.

So it goes to their product plans and they've asked us -- we have said so in the past. They have asked us not to say. I'm sorry; I wish I could tell you.

A final question just for modeling purposes. As we layer in McDowell and ABLE and the back half of the year, can you give us some direction on gross margins, operating margins, just a little more detail?

Yes. Both operations have run anywhere from 12 to 15% operating margins on what they're doing. That's been their history over the last couple of years. We've gone through and looked at basically two years' worth of financials. Now having said that what we really don't have a feel for is two things. No. 1, how mix-sensitive it is. We are noticing in our own business how mix-sensitive things are.

And so there is a mix sensitivity there; and we just don't want to get caught short with -- oh my gosh why was the 13 not 15% or something different on mix sensitivity.

Then the second is, we don't have a feel for -- we have a better feel at ABLE but it's a single digit percentage of our sales right now of what the incrementally is there. Because we have different businesses. We have different characteristics there. We have businesses where there's substantial fixed asset overhead? There's more leverage as we utilize our factories better and spread the fixed assets. But an assembly type product - assembly operations - there's not as much fixed assets overhead so the material and the labor is reasonably linear. So when you get good gross margins the incremental margins may not be quite as good.

So we really -- I know we are being a little conservative about this but we just bought ABLE on the 19th of May and we just closed on McDowell on the 3rd of July and we really just want to make sure we understand what their model looks like. That is the only reason why we are holding back. They've run -- they ran combined at about $24 million a year so you take 12 million for half a year. So we added 10 to our guidance.

We could have added 12 but we're just being a little careful because we want to really -- we don't want to make commitments that we are not sure of; and we want a little experience here working with their business to understand it.

Thank you.

Walter Nasdeo with Ardour Capital Investments.

Good morning. I would like to go back to a recurring theme with me and on the commercial and contract revenue split and how you say that going forward and how you are driving toward some sort of equilibrium there and what your expectation of that is? Also just kind of [contingent] to that how quickly you are able to move manufacturing from one product to the other?

Two good questions. On the split, I believe that we were probably 60/40 commercial military and I think, based on where we were - and I want to qualify that in a second - but based on where we were heading for the year, we thought, we believed that we would get to an equilibrium kind of a 50/50 equilibrium by the end of the year. So for everything but McDowell, but McDowell aside. The Ultralife [four] business, the battery business let's say, we would get to about a 50/50 split by the end of the year.

Next year we think we can grow both of them and kind of at the same rate. We see a lot of growth in commercial but in military we see growth also. As I said in International Markets and using McDowell [to set up for] Special Ops, some of our premium products and in projects with the prime contractors. Not just Land Warrior. We've done a battery for the Falcon 2 radio for Harris that has just gotten qualified. And we have other work with other prime products like that that are going to be coming to market. So I think 50/50 is a good number.

Now when you throw McDowell on top of it, it probably swings it a little more towards military. My one qualifier, Walter, is something that we are working to do on a customer by customer basis and that is, we split our organizations along the lines of commercial and government military. And as we used to define military as really our DoD sales which was what it all was.

As we sold more internationally, as we do more through the prime and other types of things, and as we do more that goes into Homeland Security we are going to sale cells to somebody who we know is going to use them in unattended sensors. I can't tell you if those unattended sensors are going on the border with Mexico or if they are going into Military, but they are government. By the way in some cases I may sell to somebody who doesn't -- I don't really or [marry] it to somebody and I don't actually know what the application is because we are an OEM company.

We are trying as best we can to split it military/government and that may create a new base. I don't think it will change a lot. Historically, if we went backwards because like I said most of our sales were to DoD but we are trying to work that going forward.

So the short answer is 50/50 not counting McDowell. McDowell will make it more military. I think next year we will grow in both areas but there is a finite amount you can get in Military. We are only about 20% of the manganese dioxide. Manganese dioxide is only about 20% of the batteries sold in Military. So there is a lot of market share to be had there but we are not going to get 90% market share because people want to have two sources.

We just want our fair share. Once we get up to 50% maybe 60%, once we get up to 50%, though, that will level off. That is not in '07 maybe not in '08. Does that answer your question?

Yes and, Bob, is your current cash situation?

Current cash situation like we reported at the end of the quarter was $4.2 million on the balance sheet. And I mentioned that we have, as a result of the purchase price for McDowell, we had to pay $5 million in cash. So we have dipped into our revolver post the end of the quarter.

Thanks.

Jim McIlree with Unterberg, Towbin.

Good morning. John, can you go over again the split that you said for the Military revenue in this quarter? It seems - at least according to my notes - if you did 40% Military this quarter then that accounted for pretty much all of the sequential revenue increase.

I don't know that we were exactly 40%. We were maybe 1/3. All right? Because we had -- some of it was Military. 5390 shipments were higher. The other Military shipments were relatively even. We did have some surge in Land Warrior shipments in the January, February, March type quarter in the first quarter. Some of that was made up by higher shipments of 90s.

So we had -- there's lots of ups and downs, moving parts and that's why I say we are trying to get to a different measurement to give you a different feel. But yes some was 90 but a big chunk was -- the 2590. UBI 2590 is growing -- grew into this, quarter, it is going to grow in the next quarter. That's both military and commercial and the 9-Volt business is really picking up in a substantial way.

I would like to get back to that but on the military side if you look out at let's say four quarters, historically it has been dominated by the 5390. Is it likely to be the case that it is still 5390 dominated four quarters out?

No. No. If you even -- I would say that some time early next year take McDowell away from it and 5390 will probably be about half or less of our business in military. Through McDowell into and it's down to a third probably. Maybe less.

By the way that is not saying that we don't want to -- we are only selling about a quarter of the 5390s used in the world today. By the U.S. military and if you look at overseas it is even less. So it's not saying we don't want to grow it faster I am just saying if we didn't change anything and kept it the steady-state usage rate we know is there, that is kind of what would happen.

And then on the 9-Volt side, what is driving the increase that you have seen? Is it new products, new customers?

I will ask Nancy to answer that.

A lot of the growth that we're seeing is coming from the smoke alarm market. A market that for a couple of years didn't have a lot of growth and has really picked up on in some Asian countries especially Japan. We are seeing the benefit of years of staying engaged there with OEMs. And we are seeing some results of that.

Plus we are continuing to see an increase in our international expansion strategy that we have had in place now for a number of years. We always see quarter-over-quarter growth there.

Great. Bob, I just want to try the outback or the layering in McDowell and ABLE one more time. On an operating expense basis, what do those guys add combined to the quarterly operating expenses?

I think generally speaking - and I'm going to be cautious about and maybe sound a little invasive about giving you a straight answer to that, Jim, because we just have not sorted out the mix between their margins and how they classify expenses as cost of sales versus operating expenses. So --

I see. So you might have to rejigger it around after you get into the books.

Exactly.

We are now in the process of going through the charter accounts and trying to -- and going through and associating -- making sure we are on the same accounting basis.

The operating income that has been reported we're comfortable with. But we need to sort out for consistency as to how they report -- you know, within expenses within category.

Okay. So that 12 to 15% operating income, getting to that number is okay; but the components might be a little bit different.

Correct.

Okay. That's great. In terms of cash flow usage, your generation by those guys is there any significant difference in terms of what they need for CapEx or working capital needs? Anything like that?

No. We've infused some capital, some capital into ABLE to help them with capital expenditures initially. But we are expecting that to come back to us actually on an intercompany loan right now before the end of the year. That business looks very strong; and for McDowell, similarly, as we started with the new entity with McDowell, we infused a small amount of cash into them just for minor working capital purposes. And the expectation there is that they are going to generate cash that will help on the bottom line.

And I also will say, Jim, that if you look our inventory came down $2 million. We have significant -- and we said for the last couple quarters with some product transitions. we had to protect our customers who wanted to retain the old product while they were qualifying the new product. So we have another $2, $3 million in inventory to take down.

But you know U.S. and UK operations that we think will be cash generation toward the -- between now and the end of the year. you.

Mark Grzymski with Needham & Co.

Good morning, everyone. John, I was wondering if you could break down -- you mentioned the 60 million of revenues that are coming in the back half of this year. Could you kind of break that down for us between 5390, 9-Volt, Telematics and then what McDowell and ABLE will do for you?

The short answer is, I will give you what we were prepared to give you in guidance and the reason -- it's about -- if you take a look at it, it's about probably 60%. With McDowell it is probably now about 60% military, government, and about 40% commercial. Of the 40% commercial the 9-Volt business is probably half of that and the rest is our other commercial business of which Telematics is in the ballpark of -- I don't know, I would say half of that.

Right. Okay.

All right. So that's about the best I could do. The reason is, I wish I could tell you to a degree of precision exactly what our product mix is. I will go back to a question Jim asked that I didn't answer which is -- we don't always know exactly what our product mix is but we have a pretty well cross-trained force out here, workforce. And we can move very fast between products. Very fast. We have in our small cylindrical area for example, we are going to -- we had a surge in production for a battery that we had orders for. And as that surge is over, we are going to move some of those people to be making UBI-2590s where we have a surge of orders now.

So we have got -- we were working six days in the 9-Volt area, working over time, because of the amount of orders we have there and bringing on some new staffing. So we move very easily between things; but it's more probabilistic analysis than anything. I wish I could tell you exactly. I think the numbers I just gave you are pretty accurate.

Okay. But is it safe to assume here then that $10 million conservatively will come from the two acquisitions?

Yes.

Okay. I'm sorry?

Yes, that's exactly right.

Okay. Now turning to -- looking down the road here, you've successfully -- or -- well not yet. But you have made two accretive acquisitions and you've got an increased line of credit. Just curious, John, what your plans are for the future here as far as potential acquisitions and if you are looking at them, exactly where you are targeting?

We are a market-driven company and we had customers in the market we are engaged in. And a lot of request for [thinyl] chloride. It drove us and we started seeing it two years ago. In drove us to do an extensive investigation of who was in that business that was available. It brought us to China and we narrowed it down. I mean we spent the last year working on this acquisition and getting it done.

We wanted to get into Special Ops and with McDowell - people we knew very well - we were cross-selling each other's product. We saw a real opportunity to broaden our product line and give them international reach where they didn't have it necessarily.

So it fit with our focus on market. That is why we did them. We didn't anticipate and it -- but it was situational. We didn't anticipate that they would both happen at the same time. It wasn't our choice to do that. So I'd just say is situational. We have looked at things in the past that didn't pan out either because somebody wasn't available or there wasn't a cultural fit or, quite frankly, the price wasn't right.

So going forward, we are going to continue to look at ways to broaden our market reach to leverage what we think we're good at which is Operations and a market focus and solving customers' problems. If there are things along those lines that are attractive and we can find a good match culturally, geographically, product-wise and the price is right we are still open to it.

So, yes, we have a decent credit line to be able to do that. But that is not why we (indiscernible) the credit line. We did it just so we had access to operating capital.

Right but even now that you're getting back to profitability your -- I would assume that your appetite has gotten bigger. Correct?

Maybe but I would just say that the Board probably would like us to demonstrate that we have absorbed these companies and that they're performing before we take any bite. But it's situational. We are not -- you know we are very careful about where we go and we are not used to taking big bites of things. We go in a piece at a time. So I think that is more our style.

Then just my last question. What happened -- with regards to the 5390 in the inroads that you are making to making manganese dioxide, sort of chemistry of choice. How is that moving along? Do you think you're going to see a shift in the near-term or is there going to be a longer battle?

I think it is going to be gradual. And it is going to be gradual for a couple of reasons. No. 1, we are just getting the product out there with the state of charge indicator. There's a lot of -- people who use it and get it, believe it -- they say, "Gee, this is great." But there's still skepticism out there where people say "Oh, my gosh they always tell me this is going to be better. I am not going to believe it until I see it." So I think we have to get it into people's hands and out there and we've done a pretty good job of changing the buying habits of 20, 25% of the units out there. We've just got to push a little harder.

So I just think it is going to be gradual. Short of a -- there have been policy statements by people in DoD but responsibility in DoD is split now. So you've got DLA who handles all the logistics and ordering and you've got the Army [Sirdeck] command that handles all the technical sides of it and so it kind of comes together at a little higher level there.

Having said that, it doesn't stop us from pushing. We are continuing to push to get more and more units educated on it. We are continuing to push to try to get the command levels to get it out there. The Navy certification testing isn't finished yet so the Marines who have been one of the biggest buyers of 5390s without the state of charge indicator, with the state of charge indicator we think we have a chance of them going over wholesale and that's -- we would like to see that. But on the other hand there's always going to the multiple sources just because that -- in times of war the Army needs the search capability and they need to just make sure of that. So we are just one to keep pushing.

We have -- we've announced we have a 13.5 [amp R D-Cell] now. 20% more capacity and we are going to do a 90 version with that. Well, it won't be delivered under the contract. The contract cost you 11.5; we will be able to sell that as a premium product for people who want even more capacity.

So I think it's going to happen. We are also seeing -- the overseas military are going to get a little push here. There are militaries overseas that use the 5590. That have told us they really want to see the 5390 with the state of charge indicator because people are conditioned. With a 5590 you really can't let it run down all the way or you risk catastrophic events. But the 5390 you can.

So people are reticent to take the chance of letting get run too long; with the state of charge indicator they can actually see what is left on it. So and they believe -- that we're being told that by the overseas military. We have a chance of converting some of them and I think that will push it along even further.

Thank you for that. And what is the -- right now what is the percentage in, what was the percentage in Q2 of 5390s going internationally?

Very very low.

You have a percentage or is it too low to even quantify right now?

Of ours? It's too low to quantify. It's small. We've sold some to Canada, Australia, UK, but small quantity. But there is interest. People are seeing the benefit.

Thanks. Good quarter.

(OPERATOR INSTRUCTIONS) Michael French with Kaufman Brothers.

Good morning, everyone. I am going to try to ask a question that came up already but maybe in a different way. On the 100 million revenue you are guiding for the year, what percent of that do you think will be in rechargeables?

Rechargeables is kind of in the 12 to 15% range. 10 to 15% range, kind of 12, 13%, something like that.

And you think it will safely stay at that level? It's not going to -- ?

We are growing the rechargeable business. It's just a matter of will it grow faster than other businesses.

We had a substantial -- we have actually grown it a little faster than might be apparent. We had a substantial part of our rechargeable business a year or two ago that was kind of a low- to medium-margin digital camera battery that we were doing. We decided - and we were supplying a very decent quantity of those and it was a good product for us. But the person who was buying it, the company who was buying it decided to do an Internet auction and we just didn't want to get into this -- drive this down to single gross margin percent gross margin. So we backed out of that.

It took our volume down but actually our volume went down; our gross margin lineup. So if you normalize for that rechargeables have been growing and we expected to continue to grow. This is a market in which we have done a lot of work in multiple markets.

Good luck with that. Next on the medical applications. You haven't really discussed that. Just wondering if there is -- or any developments or anything you expect in the next couple quarters regarding your initiatives in that market. I'll ask Nancy to answer that.

John mentioned earlier that we have had some recent successes in the AB markets. We believe that that will continue. We are continually working with companies who are designing products. Many of these application types are not greatly different from the applications that our 9-Volt product has been in in the past but there are new manifestations at these kinds of products.

For example - infusion pumps, several types of emergency medical types of applications, patient monitoring, multiple stimulation, those kinds of things that now companies are designing product which is smaller footprint. Much more portable. Wearable by human being, etc. So those are the kinds of things that we are working on.

Last question I have regarding M&A strategy, considering where you are now you just closed these two acquisitions. Are you still looking for others to add to or are you going to focus on integrating these for the next six to 12 months or how should we view you in terms of your appetite for other acquisitions?

We don't have an M&A strategy. We have a market set strategy. So in trying to service our customers in our market as needs pop up we make decisions regularly. Do we make this, do we buy this? Now, because we are getting bigger the question is do we make this? Do we buy this? Do we make or do we buy a company that makes it?

So that is what drives us there. We are not overtly walking around saying who's for sale and how can that help our financials? We are not a conglomerate. We are a company that works to supply power to applications and help now and help those applications work better with accessories. So my guess, as we look at that, our markets - that is really what drives us.

Let me rephrase then. As you look at your capabilities that you have on hand, is anything you see as being a whole or something you wish you had at this point?

Right now, I think we are looking to digest what we have with ABLE and McDowell. I think we have a long way we can take what they're doing. And there's nothing right now that I can talk about that is really compelling.

Are we looking at things? We looked at things, yes, but there is nothing that is so compelling that I would say we have to have a company that mines manganese dioxide. Fact is we don't need to have a company that mines manganese dioxide.

So there really isn't anything real compelling there.

Thank you and best of luck.

There are no other questions at this time. I'd like to turn the conference back over to you for any additional or closing remarks.

Thank you, Gwen. I would like to thank everybody for participating. I think you're starting to see the roll out of the new Ultralife. I think we are really confident in having a really good second half of the year. You are going to see those results and we look forward to talking to further about it on our next conference call. Thank you very much.

Thank you everyone. That does conclude today's conference.