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Luna Innovations Inc. (NASDAQ:LUNA)

Q3 2009 Earnings Call

November 12, 2009; 05:00 am ET

Executives

Dr. Ken Murphy - Chief Executive Officer

Dale Messick - Chief Financial Officer

Operator

Good day ladies and gentlemen and welcome to the third quarter 2009 Luna Innovations Incorporated earnings conference call. My name is Isha and I’ll be your operator for today. (Operator Instructions)

I would now like to turn the call over to Mr. Dale Messick, CFO, please proceed sir.

Dale Messick

Thank you Isha. Before we proceed with our presentation I would like to remind each of you that the statements made by Luna’s executives during this presentation include information that constitutes forward-looking statements made pursuant to the Safe Harbor provision of the Private Securities Litigation Reform Act of 1995, including without limitations statements about Luna’s plans, objectives and strategies and management’s expectations and beliefs about business results in the future.

Forward-looking statements are subject to many assumptions, risk and uncertainties that may cause future results to differ material from those anticipated including the risk and other factors listed in Luna’s filings with the Securities and Exchange Commission. Such filings include Luna’s annual reports on Form 10-K and its quarterly reports on Form 10-Q.

All forward looking statements are based on information available to Luna as of today’s date. Luna undertakes no obligations to update any forward-looking statements as a result of any new information, future events, changed expectations or other wise.

And now I would like to turn the call over to our CEO, Kent Murphy.

Kent Murphy

Thank you very much Dale. Good afternoon and thank you all for joining us today. First I would like to update you on our Chapter 11 reorganization progress. As you would expect we have devoted substantial time and resource to the reorganization this quarter. The first significant matter we have attempted to resolve in the proceedings has been the outstanding potential claim of Hansen Medical following the jury verdict back in April of this year.

We filed motions to have the Bankruptcy Court estimate the value of the potential claim and Hansen filed motion requesting the Bankruptcy Court lift the automatic stays such that the trail in California could proceed to conclusion.

Since those motions were heard we have been engaged in negotiations with Hansen in an attempt to reach an out of court settlement. The Bankruptcy Court has deferred issuing a decision on those motions I just mentioned, while our negotiations are proceeding. We have not yet been able to conclude negotiations with Hansen, and we will of course make an announcement in the future if we are able to reach a settlement.

I will now turn to our ongoing operations and results. Consistent with what we have seen in the past few quarters, the downturn in the economy starting late year has resulted in lower revenues particularly in our telecom products compared to last year.

A product and license revenue was down from the third quarter of last year which was our record sales quarter. While the revenue continues to be down from last year, we are starting to see some indications of improving conditions such as a recent multiunit order from one of our largest customers and a strengthening sales pipeline. With the declining revenues we have taken action to improve our operating cost to mitigate the impact to our bottom line.

Excluding the cost associated with litigation and reorganization our core operating expenses have decreased approximately $1 million in the third quarter compared to last year. Our adjusted EBITDA also excluding those cost was $800,000 for the quarter and is growing to $1.3 million to-date versus $200,000 for the first nine months of last year. Reconciliation of adjusted EBITDA is included in our earnings release.

In terms of our product development we are on track with the product development requirements of our relationship with Intuitive Surgical. Separately, under another product development initiative for a different customer we have accomplished a significant breakthrough in fiber optic shape sensing technology allowing us to measure shape with far greater accuracy and resolution over the entire length of the fiber.

The breakthrough provides an opportunity to expand the market applications to areas beyond medical such as transportation and energy generation and distribution. A backlog of contracted technology development work, including our work in diagnostic and therapeutic nano medicines remain strong with approximately $25.7 million in future work under contract as of the end of the third quarter.

I will now turn the call back over to Dale to discuss our financial results in more detail.

Dale Messick

Thanks Ken. For the third quarter of 2009, Luna realized revenues of $8.9 million compared to $10.7 million in the third quarter of last year, the decrease in revenue related largely to our product and license business segment continuing the year-over-year decline we have seen since the fourth quarter of last year with the overall economic decline.

While our technology development revenue also declined by nearly 10% compared to the third quarter of last year, our backlog of contracts for future development as of September 30 were essentially flat compared to the backlog that existed a year ago and so at this point we don’t see continued downward pressure of this magnitude on our technology development revenue.

Gross margins remained constant at 40% in the third quarter of both 2009 and 2008 within operating segments of the product and license margins declined compared to last year due to the mix of revenues between product sales and contracted product development revenue. That decline was offset in our overall gross margin by improvements in the technology development business segment where our ongoing cost savings initiatives had a favorable impact on the overhead attributable to those projects.

Our overall resulting gross profit was $3.5 million in the most recent quarter compared to $4.3 million in the third quarter of last year. From our operating expense perspective, we continue to see year-over-year improvement and the expenses associated with our ongoing business. Although operating expenses increased very slightly as a whole compared to the third quarter of last year, the 2009 expenses also include nearly $900,000 of cost associated with our Chapter 11 process that of course were not present in 2008.

In addition to that the cost associated with the Hansen Medical litigation were slightly higher in the third quarter of this year compared to last year. If we exclude those two factors operating expenses for the quarter would have been approximately a million dollars less than 2008. Our operating loss for the quarter was $1.9 million compared to $1.1 million in the third quarter of 2008 with the difference being driven by our lower gross profit.

At the net loss line, our loss widened to $2 million in the most recent quarter compared to approximately $0.5 million in the same quarter of last year. Last year’s result included a one time gain from a legal dispute and mediation award which improved the bottom line by approximately $0.7 million net of associated cost of that mediation in the quarter.

Our net loss of $2 million in the quarter is an improvement compared to a loss of $2.4 million in the second quarter of this year and a loss of $2.7 million in the first quarter of this year, excluding the various one time charges we took in the first quarter as a result of the jury award in the Hansen matter.

Turning to the balance sheet and cash flows, the most significant changes in the quarter relate to cash and debt. We ended the second quarter of this year with $12.1 million of cash and $4.3 million of outstanding bank debt. In the third quarter we paid off that outstanding bank debt. Consequently our cash usage for the quarter was higher than normal and we ended the quarter with $5.7 million of cash.

Comparing other balance sheet components to our last year end balance sheet most asset components are consistent with our year-end balances, intangible assets and the deferred tax assets we reflected as of year end were written down in the first quarter of this year as our assessment of those assets changed following the jury verdict in the Hansen litigation and our recording of a $36.3 million reserve associated with it.

From a balance sheet presentations standpoint, we have a new line in our liability section titled Liability Subject to Compromise. This line includes our outstanding pre-petition debts with the most significant components being the $36.3 million accrual for the Hansen litigation and our outstanding $5 million note payable to Carilion Clinic.

And with that I will turn the call back to Kent.

Kent Murphy

Thank you very much Dale. Isha we would be happy to try to answer any questions our listeners may have.

Question-and-Answer Session

Operator

(Operator Instruction) And at this time we have no questions in queue.

Kent Murphy

Well I would like to thank everyone for their time and interest and look forward to taking with you on our next earnings call. Thank you very much.

Operator

Thank you for your participation in today’s conference. This concludes the presentation. You may now disconnect your line. Have a great day.

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