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Materion Corp (NYSE:MTRN)

Q2 2013 Earnings Conference Call

July 26, 2013 10:00 ET

Executives

Mike Hasychak - VP, Treasurer, and Secretary

John Grampa - SVP & CFO

Dick Hipple - Chairman, President & CEO

Analysts

Edward Marshall - Sidoti & Company

Luke Folta - Jefferies & Company

Avinash Kant - D.A. Davidson

Marco Rodriguez – Stonegate Securities

Mark Parr - KeyBanc Capital Markets

Jim Casagrande - Brant Point Capital

William Florida - Advisory Research

Operator

Greetings and welcome to the Materion Corporation Second Quarter 2013 Earnings Conference Call. (Operator Instructions). It is now my pleasure to introduce your host Mike Hasychak. Thank you, sir you may begin.

Mike Hasychak

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, 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 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 is 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 over the call to John Grampa for comments.

John Grampa

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 the outlook for the balance of the year. Thanks 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 then following my comments Dick Hipple will review the current state of our key markets and provide his perspective on certain new key 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 pass-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 in 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 by 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 appeared to be $19 million or a 6% decline in business levels is a $5 million or 3% increase nearly a 900 basis point 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 of shipments 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 sequentially to the first quarter. I will review the specific market changes a bit later. You will recall that delayed shipments of certain high margins really in a composite materials negatively affected the first quarter of the year. As expected these orders were shipped 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 and 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 discreet 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 second quarter, a 60 basis point increase when compared to the second quarter of the prior year. Operating profit margins expressed it's percent of value added sales was 44 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 margins 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 in our advance material 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 refining operations. And these operations we’re 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 occur in the second quarter compressed the margins in this portion of our business.

A less material factor was the impact of the gold price change on our metal handling fees. And important part of this 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 and pebble plant led this segment to turn in profits for the first time since the startup 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 shipments into consumer electronics. Business levels improve 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 the decline of almost 20% in medical business levels continue to improve nicely in all of our other market segment, 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 the 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 it's cash flows provide the flexibility to return cash to shareholders in the form of the 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 bringing the quarterly dividend to $0.08 per share. The third quarter dividend which was announced this past Wednesday will be paid on September 4th to shareholders of record on September 16.

Net cash provided by operating activities was above $23 million in the second quarter debt 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 a $1.64 to a $1.85 per share bringing the high end to 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 resolutions of factor that I noted earlier. In addition the company this time expects the output and performance of the new Beryllium and 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 plans in the fourth quarter shipments of hydroxide I noted earlier should lead to the fourth quarter being the strongest quarter in the year by far well exceeding earlier quarters. At this time given the softer start to the third quarter and a 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 upto $0.25. That includes my remarks. Now I’ll turn the call over to Dick Hipple, Dick will provide you with a market update.

Dick Hipple

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 (ph) at best but there were some upsides, surprises and disappointments. First of all I was particularly pleased the 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 Composite business.

Our pebbles plant startup continues to press towards our production objectives or continuing improvements throughout the year and infect we’re having product weeks where we’re hitting our end of year product goals. Also our expanded Singapore operation is now fully qualified and our customer base is ramping very nicely. This facility is focused on both the telecom infrastructure and LED markets. In the second quarter we also successfully started off our new melting caster at our Lorraine Facility which increases our production capability of our expanding tough metalloy. (Inaudible) is heavily used in the commercial aerospace, oil and gas, heavy mobile equipment and now the consumer electronic space.

Overall we’re not seeing any surprises in the marketplace except the 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’s 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 intensive increase in telecom infrastructure spending we were also up 10% sequentially there. Our automotive market remained 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 a supply chain issue at one of our customers.

Our oil and gas market is up nicely at 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 my 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 that remain very bullish regarding the new differentiated market and application niches we’re establishing.

Last quarter I mentioned several new opportunities where we had received initial orders and now I can report we’re making the shipments. gesture control optics for gaming devices, the duct tail (ph) for connecting copper to aluminum in automotive hybrid batteries. We shipped our first order for next generation bushing design using a ToughMet wrap strip product which significantly lowers the customers cost and expands our market application reach. And our shipments are expanding nicely and our chemicals to support the next generation LED phosphors 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 now we will take questions.

Question-and-Answer Session

Operator

(Operator Instructions). Our first question comes from the line of Edward Marshall with Sidoti & Company. Please proceed with your question.

Edward Marshall - Sidoti & Company

Good job getting the Beryllium business back to profit so I think that’s been a lot of hard work for you guys. I want to give you a second to kind of talk about I thought there were some unplanned maintenance in the pebble plant and if looks like you saw through that. So kind of touch on that or highlight any kind of additional highlights you could give.

Dick Hipple

Yeah 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 yeah you’re absolutely right we had a good finish there. So that’s right we had a good finish there and we’re off to a good start here in July. So we’re feeling good about where we are and so far so good here.

Edward Marshall - Sidoti & Company

Historically I thought I heard I remember that this is a business that can ultimately generate I think it was $6 million to $8 million and operating profits annually. Are we kind of I mean you did a good job in Q2 but as we move to the back half of the year we’re going to be on a specific run-rate, do you think to that $6 million to $8 million in this business?

John Grampa

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

Edward Marshall - Sidoti & Company

Okay at 8 or at 6?

John Grampa

Well start at 6.

Edward Marshall - Sidoti & Company

Fair enough. So as I look to comments that you made pretty much it sounds like everything seems to be going on the right direction, the Beryllium business is getting bang at profitability but you’re revising your outlooks. So I know there is a softer Q3 coming up, is it that your expectations which is just too high or is that I mean in some markets you’re talking about 20% topline growth so you know the margins kind of look across the board so kind of help me close the gap there as to what’s really happening.

John Grampa

Well I think that probably we’re the biggest surprise this year happened in, we’re talking about $0.10 here is probably defense was weaker than we had expected I mean this is the drawdown and the defense spending has been pretty dramatic. Although in one of our business in Beryllium and Composites we’re going to be doing fine, we saw a pretty big order book 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, I mean we have debated this extensively when we talk about the forecast but we could have kept the forecast up but if you take a look at the global situation you have seen the reports, I mean the China PMI index is down 47, I mean using when I get down that low we start to see some kind of ramifications across the globe. You know on all of the growth forecast for the year have been brought down across the world excluding the United States and China and Brazil and India, whatever and then the other things that I worry about is in the last, in the fourth quarter the U.S. is going to be, we’re going to be facing another round of sequestration that’s coming that’s not been addressed so people start to react ahead of that. And then we got the big budget to make going on for the (inaudible) deal it's going to be, so there is a lot of stop that’s going to be unfolding here and so you just step back and say well okay we have got generally a softer world. As we look at these micro markets and that we’re participating and they are doing quite well as you point out.

So anyway we just step back, we probably didn’t quite do as good. We thought we might do in the first half, so we just kind of backed it up a little bit and that’s worked out. I mean it's not I would say we got our divining rod out and said well it could be a little bit softer.

Edward Marshall - Sidoti & Company

With the comment saying that there was a softer start in the second half of ’13 and presumably that’s we’re talking about the third quarter here. That being a big quarter for say the holiday bill, have you seen an indication?

John Grampa

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

Edward Marshall - Sidoti & Company

So I mean are you suggesting that that’s not necessarily going to happen with your division or are you saying?

John Grampa

I’m not saying that’s not going to happen at all, because if you take a look at our numbers we’re still forecasting the earnings could be strong versus first half and the second half and also the value add sales is going to be up.

But for me this was more kind of a tweak to reflect the macro-world here.

Edward Marshall - Sidoti & Company

Last question, I don’t if you did give or didn’t give do you have the…

John Grampa

The book to bill was actually around 0.9 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 we get lift in orders the begin in mid-August with shipments on 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 is as I mentioned in my comments the defense business is extremely, we have booked orders for shipment in the fourth quarter significantly above third quarter and we’re weaker in the third quarter in defense.

Operator

Our next question comes from the line of Luke Folta with Jefferies & Company. Please proceed with your question.

Luke Folta - Jefferies & Company

Few questions I guess so on the Beryllium side once you get to that 6ish million dollar run rate in 4Q is that something that you would expect to be kind of sustainable on a consistent basis going forward?

Dick Hipple

Quite frankly that 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. So the numbers that I throw out here are pretty much the historic numbers that we feel very comfortable looking back but we have bigger plans than that.

Luke Folta - Jefferies & Company

Okay and is that just a function of giving capacity utilization upto a certain level, is this pretty much just a class absorption thing with the new plant?

Dick Hipple

Primarily.

Luke Folta - Jefferies & Company

Okay and can you say, are you able to tell us kind of where the plants operating now versus what the expectation is in the fourth quarter?

Dick Hipple

Well the so we need to be at around, so we’re going to be next quarter we’re going to be I would say we’re about 60% where we need to be.

Luke Folta - Jefferies & Company

Your capacity utilization or 60% of what you need to be to earn 6 million?

Dick Hipple

Well we’re going to be at the 100% level, those called the 100% level on the fourth quarter. So, where we wound up in the second quarter we are at 60% rate. So the best way to think about is we’re going to be at the 80% in the third quarter and then be at the 100% rate in the fourth.

Luke Folta - Jefferies & Company

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 just other things happening in that segment?

Dick Hipple

It's a lot more complex than that, I mean the key for that division and it's operating cost structure is to get the new plants up. Now we have other facilities that support that plant, we have plant electrofusion that has it's own growth profile and speakers (ph) and x-rays, we have the defense business there in the Beryllium, in the Elmore plant but also we’ve a very large nuclear business that’s really driven, we talked about defense and science but what’s very interest about that division is the science side is growing dramatically. It's now probably out of our Elmore, we’re talking about 25% of that business is driven by science right now and these are nuclear applications are 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, the best way to think about this I’m probably talking a little confusing here. When I say capacity I’m talking about the capacity that we need support the forecast but we have a lot more capacity that plant uses as we grow the business. That’s the best way to think about it, so we’re really now have the capacity but the way I talk okay let’s get this darn plant running to where it's used to be to support the business but we got more run-way of that plant it won't be peaked out at all.

Luke Folta - Jefferies & Company

Okay that’s helpful and can you or do you care to maybe dive in a little bit on what the new growth products are in that segment and I guess what products and what market sector that occurs going forward?

Dick Hipple

To give you just a couple I talked about this one before is there is probably let’s say two primary ones, one is in the liquid metals alloys where we have developed a technology for that and we see that as a new growth platform and to very unique to 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 it's a very a niche aluminum silicon carbide product and it has a property sets that are similar to a Beryllium based metal it's like an augmentation and it does increase our platform for growth and you’re going to see overtime, 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 they have two very nice platforms that we expect to be growing over the next couple of years.

Luke Folta - Jefferies & Company

And also just on ToughMet you talk about energy sales being at 20%, we’re certainly not hearing anyone else that’s sell to that end market you know talk about numbers like that, is that pretty much all ToughMet?

Dick Hipple

That will be a combination of ToughMet, actually within our energy bucket there is three things, it will be primarily be ToughMet but also in the energy bucket is our LED phosphors which you know we have doubled the sales in that from last year and that’s probably going to be another double. So it's going to be a combination of two dramatically different products, the chemical products and then also our ToughMet application.

Now you know the anomaly there in the oil and gas, I don’t think and I agree with you. I mean 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 we’ll take some large orders that fill warehouses and I guess so we will get some spurts once a while so I wouldn’t be forecasting energy is going to continue to grow at that rate, although we do expect energy to grow in second half. The other interesting one we have I call our third product primarily products in oil and gas is our architectural glass market which I typically don’t talk about. It's actually a silver based product we have a in the U.S. the largest market share for all the silver that is used for coding buildings and they build buildings and they have reflective glass, there is a film coating (ph) (inaudible) to choose and we have a very large market share for that and that market has come back very nicely and in fact we have taken some share also over in Europe. So those are the three primary products and we saw the inventory builds and the for oil and gas the ToughMet we’re growing in the LED space for the chemicals and we saw a nice growth pass here at the architectural class has picked up. So we saw all three are coming very nicely in the quarter.

Operator

Our next question comes from the line of Avinash Kant with D.A. Davidson. Please proceed with your question.

Avinash Kant - D.A. Davidson

So basically first a little bit on your comments regarding revenues I think you said that value added sales in the second half are going to be up 5% compared to the first half, could you give us some idea about how to think of the Q3 and Q4, value added sales in Q3 would maybe down sequentially from Q2 or not?

John Grampa

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 then up sequentially in the fourth from the third.

Avinash Kant - D.A. Davidson

Okay and would you talk about so in terms of the value added sales being down in Q3 where is that weakness coming from?

John Grampa

Well I think, by segment?

Avinash Kant - D.A. Davidson

Which particular segment is seeing the downside?

John Grampa

Sequentially to Q2 the downside will be in Beryllium and Composites and in for advanced materials due to the weakness in defense but lower shipment level in defense and…

Dick Hipple

And also we saw in the quarter we saw in the Beryllium and Composites extra sales, so we’re again a little anomaly, so a stronger first in the second quarter and we’re not going to see that filled on in the third quarter.

Avinash Kant - D.A. Davidson

So it's largely Beryllium Composites that’s it's going to be the primary place where you notice the fall off.

Dick Hipple

And typically again in the third quarter that’s our July, August typically we see the sales decline automotive will probably be a little bit weaker in that quarter you got summer shots (ph) we just see order book every year it gets soft in July and gets soft in June and July and so we just expect that quarter to be a little bit weaker but its more of a seasonal thing.

Avinash Kant - D.A. Davidson

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

Dick Hipple

Well 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.

Avinash Kant - D.A. Davidson

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

Dick Hipple

Yes.

Avinash Kant - D.A. Davidson

Anything else there that you see in the defense (ph) taken down?

Dick Hipple

Primarily defense.

Avinash Kant - D.A. Davidson

And there was 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? And what will be the cost?

John Grampa

Probably about 70%.

Avinash Kant - D.A. Davidson

70% utilization roughly?

John Grampa

Yes.

Avinash Kant - D.A. Davidson

Okay little bit more about the LED business, you know you have the LED phosphors and I’m sure some other products, could you give us some idea what’s your exposure to LED 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? What do you mean by that?

John Grampa

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

Avinash Kant - D.A. Davidson

Year-over-year so you saw a doubling year, this quarter and the next quarter it could again…

John Grampa

I wasn’t talking about quarter; I’m just talking about sales in the year versus sales in a year versus sales in a year. I’m not good at predict whether it's going to be quarter-to-quarter, that’s not.

Avinash Kant - D.A. Davidson

Okay so that side you’re saying the year-to-year you’ve seen it double?

John Grampa

Yes.

Avinash Kant - D.A. Davidson

It's a reasonable way to think about it. And the majority of the sales that you do are they going into the backlighting or the general lighting products if I may ask.

John Grampa

The general lighting, okay. And have you give us the product customer concentration there, do you have one or two big customers on a how big a top five customers in that segment?

Avinash Kant - D.A. Davidson

Top 5 is going to probably chew up 90% because those are big players in that market.

John Grampa

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

John Grampa

Yes.

Avinash Kant - D.A. Davidson

And one final comment on margins if you 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 it's going to stay there?

John Grampa

Well the third quarter margins are probably will 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 but down only slightly in the third quarter but up significantly in the fourth.

Avinash Kant - D.A. Davidson

Maybe dig it down to this but I was thinking would you be able to give us some idea about what percentage exposure do you have to LED at this point roughly?

John Grampa

We don’t share sub-markets of the segments Avinash I’m sorry but we just don’t want to get into describing some pieces of the business.

Operator

Our next question comes from the line of Marco Rodriguez with Stonegate Securities. Please proceed with your question.

Marco Rodriguez - Stonegate Securities

But just a couple quick kind of follow-ups here, in terms of the guidance, any changes you’re making to the cash flow guidance and what it is doing to debt?

John Grampa

No I think our earlier forecast they are accurate, we will continue to see debt declined in the next couple of quarters as we saw a 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.

Marco Rodriguez - Stonegate Securities

Okay and the cash flow generation in Q2 was pretty strong, was there anything that was kind of special that happened in the quarter that created that?

John Grampa

No we’re continuing to get receivables, (inaudible) but at the end of 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.

Marco Rodriguez - Stonegate Securities

Got it and then on the technical materials segment side, it's been pretty healthy sequential increases in margins there on the growth side and the operating side. I think you mentioned that you had made some operational improvements and technology (ph) has seen increase in volumes but I was interested if you could provide some more color on those operational improvements, what you guys did there?

Dick Hipple

Those margins were a highlight in the quarter and margins grew significantly as did the business level and it's a combination of factors, the one that you have noted ongoing performance improvement inside operations themselves as well as in this particular case it's a good solid product mix in the quarter. Those margin levels I think were probably a little higher than what it might be the balance of the year because of the mix but thanks for asking about that, that’s a clear highlight in the quarter.

Operator

Our next question comes from the line of Mark Parr with KeyBanc. Please proceed with your question.

Mark Parr - KeyBanc Capital Markets

I’ve got couple of questions, the third quarter typically has a fairly meaningful plant maintenance outage and I was just curious how much is that having an impact on 3Q earnings instead of versus the second quarter?

John Grampa

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

Mark Parr - KeyBanc Capital Markets

Another question just curious if we can get an update on the optics facility and how that’s, is that getting better or is it stabilized or is there an update there?

Dick Hipple

Yeah the exciting there is when I mentioned about our gesture control ramp on the optic side of the business that is Shanghai and that’s a very meaningful product force and it will be very meaningful and a OP force in the second half of the year. So yes it's very meaningful new product launch there, that’s what was all about, remember we bought that place and it had a market share and a product that wasn’t so 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 is another coming and we have got another platform coming in the first quarter of next year. So we feel very, very good about the position right now that’s developed.

Mark Parr - KeyBanc Capital Markets

And on the Beryllium side and you had sent shipments and the hydroxide business is fairly high probability in terms of it's 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 to do these big shipments that you’re looking for in the fourth quarter.

Dick Hipple

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

John Grampa

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

Mark Parr - KeyBanc Capital Markets

Okay, that is encouraging and just lastly if I could just get an update on how the acquisition pipeline is looking, you guys do look bit on the undercapitalized side or overcapitalized side excuse me right now, any sense of how much money you’re thinking about deploying on the M&A front in the next 6 to 12 months, 6 to 9 months.

John Grampa

As you know Mark we’re constantly looking at things that would fit us and are unique portfolio the basically the rules that we follow is that the we have done acquisitions typically in the size of $30 million to $60 million, I would expect finding the right thing in the next 6 months to a year that we would be pulling the trigger.

Mark Parr - KeyBanc Capital Markets

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 of different if the macro-environment was a little more constructive. So congratulations.

Dick Hipple

Thank you very much.

Operator

Our next question comes from the line of Jim Casagrande with Brant Point Capital. Please proceed with your question.

Jim Casagrande - Brant Point Capital

I just wanted to follow-up I guess on market comments around momentum; you mentioned liquid metal as a growth platform. I was wondering is that -- one are you kind of seeing growth there now, two, is that related to I think you mentioned connectors for automotive batteries or there has obviously been some rumors around Apple products and using that and you know some version of iPhone or iPad et cetera, so just wanted any comments on that and you know is it growth something we will see in ’13 or is it more of a ‘14 opportunity. Thanks.

Dick Hipple

I would expect that to be ‘14/ ‘15 you know but ‘14, I’m not saying it's a ‘14 or is it ‘15 we’re shipping low millions of dollars into that market today, so it's real but I see these markets do take some time to develop before you start to hit a curve. So that’s where we are at, we have got 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 us in aerospace. So it's kind of a very interesting broad-breadth portfolio for the application there.

Jim Casagrande - Brant Point Capital

You also mentioned the dove-tail connector...

Dick Hipple

Yes that’s a little different than the -- our automotive connector is not liquid metal because that resides in it and the new (inaudible) process we have for combining aluminum and copper in a very unique way that’s getting some traction in the connector market for us in the battery space. And that is out of our technical materials division in Rhode Island.

Operator

The next question comes from the line of Edward Marshall with Sidoti & Company. Please proceed with your question.

Edward Marshall - Sidoti & Company

So two quick follow-ups, one I guess surrounded around the defense, I’m looking at the Beryllium business and this slow down I guess on a sequential basis that you look there. I think you said there was a pull in the shipments or maybe a push out of shipments from the defense side.

Dick Hipple

There was -- as in the second quarter there was a push out in the first quarter into the second quarter which second quarter has a little bit of a bump in it if you will so, third quarter is weaker than second naturally because of that...

John Grampa

But we also had some science shipments in there. So that’s what’s becoming interesting about that business, in 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 half a million here and a million here, it's kind of a unique business and they come in lumps. We had a couple nice lumps in the second quarter.

Edward Marshall - Sidoti & Company

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

Dick Hipple

It will be tight.

John Grampa

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

Edward Marshall - Sidoti & Company

Right, okay, so similar – we already talked about the run rate in the fourth quarter so I assume similar kind of margin to 2Q I mean in assuming presumably you’re getting more efficient in that business, there has not been unplanned maintenance so similar market to say 2Q. Okay.

Dick Hipple

That’s correct.

Edward Marshall - Sidoti & Company

And the second kind of focus that I wanted to kind of 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?

John Grampa

No the application that Dick was talking about was not a defense application in the fourth quarter it was a gesture control application.

Dick Hipple

That’s consumer electronics.

John Grampa

Example would be the optics that you’ve in the Xbox gaming device.

Edward Marshall - Sidoti & Company

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

John Grampa

Well we’re 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 kind of have to wait and see what we’re going to see the second round of sequestration.

Edward Marshall - Sidoti & Company

I mean because we looked at Q4 I guess there is we assume the budget cost would typically happens on every year doesn’t seem to be happening in 3Q right or we want to 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 or I just want to kind of clarify what your guidance imply?

John Grampa

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

Edward Marshall - Sidoti & Company

And how much is defense to the overall business?

John Grampa

Well our overall business is 10% company, less than 10%.

Edward Marshall - Sidoti & Company

Perfect. Thank you guys very much.

Operator

Our next question comes from the line of William Florida with Advisory Research. Please proceed with your question.

William Florida - Advisory Research

My question was covered. Thank you.

Dick Hipple

I guess I will return back to the prior question and we’re talking about the shipments, the strong shipments in the fourth quarter for the Beryllium and Composites, as I mentioned before it's all not 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 these are strange and wonderful things but we’ve a very large shipments and the fourth quarter it's going into the electrofusion reactor called ITER which is a global thing for electrofusion and they have large shipment in the fourth quarter for that.

Operator

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

Mike Hasychak

This is Mike Hasychak. We like to thank all of you for participating on the call this morning. I’ll be around for the remainder of the day to answer any further questions. My direct line number is 216-383-6823. Thank you very much.

Operator

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

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