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Coherent, Inc. (NASDAQ:COHR)

F4Q 2013 Earnings Conference Call

October 30, 2013 4:30 p.m. ET

Executives

Helene Simonet – EVP & CFO

John R. Ambroseo – President & CEO

Analysts

Patrick Newton – Stifel Nicolaus

Lawrence Solow – CJS Securities

Mark Douglass – Longbow Research

Mark Miller – Noble Financial Capital Markets

Operator

Good day, ladies and gentlemen, and welcome to the Coherent Fourth Fiscal Quarter and Year End results conference call hosted by Coherent Incorporated. (Operator Instructions) As a reminder this call is being recorded. I would now like to introduce Ms. Leen Simonet, Executive Vice President and Chief Financial Officer. You may begin your conference.

Helene Simonet

Thank you, Patrick. Good afternoon and welcome to Coherent’s fourth quarter and fiscal year end conference call. On today’s call, I will provide financial information and John Ambroseo, our President and CEO, will provide a business overview.

As a reminder, any guidance and any statements in today’s conference call pertaining to future guidance, market trends, plans, events or performance are forward-looking statements that involve risks and uncertainties, and actual results may differ significantly. We encourage you to refer to the risk disclosures and critical accounting policies described in the company’s reports on Forms 10-K, 10-Q and 8-K, as applicable and as filed from time-to-time by the company.

The full text of today’s prepared remarks and trended GAAP and non-GAAP supplemental financial information will be posted on the Coherent’s Investor Relations website. A replay of this webcast will also be made available for approximately 90 days following the call.

Let me start by giving you the highlights of the quarter. We’re very pleased with our fourth quarter financial results. Both revenues and earnings were strong and exceeded our expectation. Revenues for the quarter were $213.1 million with corresponding pro forma earnings of $1.03 per diluted share. We ended the quarter with a cash balance of $250 million reflecting a quarterly cash flow from operations of approximately $49 million. Our pro forma EBITDA percent for the quarter was 18.8% and compares to 17.3% last quarter.

The fourth quarter earnings per share reflects a benefit of approximately $0.08 per share from a lower than previously guided tax rate which is due to a more favorable distribution of profits in zero or lower tax jurisdiction. The largest contribution originated from our two manufacturing operations in South Korea where we currently enjoy a limited duration tax exemption.

Net sales for the fourth quarter declined by $600,000 or 0.3% sequentially and increased $24.5 million or 13% compared to the same quarter a year ago. On a year-to-date basis fiscal 2013 revenues of $810.1 million increased $41 million or 5.3% compared to fiscal 2012. Our fiscal 2013 acquisitions added about $23 million for the company’s revenue.

The backlog shippable within 12 months, at the end of September was $286 million and flat panel display applications represented approximately $80 million or 28% of the total. Service revenues for the quarter grew 22% sequentially and 27% year-over-year resulting in a year-to-date growth of 8%. The service revenue increase was mainly driven by higher flat panel display services revenues stemming from a growing installed base. Fiscal 2013 service revenues represented 26% of the total company compared to 25% last year.

Geographically for the full fiscal year Asia accounted for 51% of the company's revenues, U.S. 23%, Europe 19% and rest of the world 7%. We had one customer in South Korea and integrated to the large flat panel display manufacturer who contributed more than 10% of the company’s 2013 revenue. South Korea is now our largest foreign country revenue generator representing approximately 23% of the company’s fiscal 2013 revenues.

With respect to annual revenues by major market application, we achieved double digit growth of approximately 12% in Microelectronics and Materials Processing which is in line with our stated long term goal of 10% to 15%. Although we saw solid growth in the advanced packaging stock market, the overall Microelectronics growth was primarily the results of shipping a larger number of flat panel annealing systems during the year. Growth in Materials Processing was mainly the result of an increase in higher power application revenues coupled with contribution from our recent acquisition.

The OEM Components and Instrumentation market grew 4% year-over-year principally from instrumentation and medical application partially offset by lower revenues for military uses. The medical sub market growth of 7% benefited from newly acquired products for cataract application.

Now then expected our scientific revenues declined approximately 15% mainly due to government funding reductions in several countries. The company's sales by major application for the full fiscal year are as follows: Scientific $121.9 million, Microelectronics $416.5 million, Material Processing $121.7 million, OEM Components and Instrumentation $150 million, for a total of $810.1 million.

As a reference the revenue contribution from the acquisition is split as follows: 31% OEM Components and Instrumentation, 30% Microelectronics, 27% Materials Processing and 12% Scientific.

The fourth quarter pro forma gross profit, excluding $0.5 million stock compensation charges and $1.5 million intangibles amortization was $87.1 million or 40.8% of sales, an increase of 70 basis points from the 40.1% we recorded last quarter.

The increase is due to a favorable product mix primarily resulting from higher service revenues as a percent of total revenue. Our total pro forma operating expenses are 25.3% of sales compared to 26.4% last quarter and the decline mainly relate to the timing of trade shows and other variable compensation expenses.

Our cash and cash equivalents balance for the quarter was $250 million compared to $202 million for the prior quarter. Approximately $157 million or 63% of the cash balance is held internationally. Cash flow from operations for the fourth quarter was about $49 million bringing our fiscal year cash flow to approximately $116 million, a record for the company.

During the quarter we saw meaningful improvement in our working capital metrics, in particular the accounts receivables days sales outstanding. Days sales outstanding declined to 58 days from 62 days last quarter and 69 days at the end of fiscal 2012. Inventory turns of 3 at the end of fiscal 2013 compared to 2.8 at the end of last year.

Capital spending for the quarter was $6.6 million or 3.1% of sales resulting in a year-to-date spending of $22 million or 2.7% of sales which is below our previous guidance, we expect some of the spending to rollover to fiscal 2014.

Let me give you the guidance for the first quarter of fiscal 2014. Our first fiscal quarter is typically a shorter quarter due to the many holidays. As a result we expect our first quarter revenues to decline sequentially to a range of $190 million to $200 million and this represents roughly a growth of 4% to 9% when comparing to the same quarter a year ago. By the decline in revenues we estimate the pro forma gross profit to be comparable to the fourth quarter. we’re guiding to a range of 40.5% to 41% as margin improvements will partially be offset by a negative impact of a strengthening euro versus the dollar.

The GAAP cost of sales reflect intangible amortization of $1.5 million and stock compensation cost estimated at $0.6 million. We project our pro forma period expenses to be in the range of 27.5% to 28% of sales, which is higher than last quarter primarily as a result of the decline in revenues. The GAAP period expenses for the first quarter will include intangible amortization estimated at $1 million and stock compensation costs of approximately $4 million.

We are assuming an annual pro forma tax rate of 26%, the higher rate for fiscal 2013 assumes that the government has not reinstated the federal R&D tax credit in calendar 2014. We project our full fiscal 2014 capital spending to be approximately 4% to 4.5% of sales and we’re assuming a weighted outstanding shares number of 25.1 million for the first quarter.

I will now turn over the call to John Ambroseo, our President and CEO.

John R. Ambroseo

Thanks, Leen. Good afternoon everyone, and let me add my welcome to our fourth fiscal quarter conference call. As you already heard from Leen we posted very good fourth quarter results and set records for service revenue and cash generation. I’d like to commend my colleagues for having done a great job of delivering the products and services that our customers want.

Fourth quarter bookings of $200.3 million increased 5.9% sequentially and 18.3% compared to the prior year period. The book-to-bill for the fourth quarter was 0.94.

Scientific orders in the fourth quarter of $34.2 million were up 18.8% sequentially and 3.4% versus the prior year period. The U.S. market trudged off some of the sequestration effects and displayed typical seasonal strength in our fourth quarter. The largest application for the quarter and year was ultrafast imaging using our Chameleon platform. Orders for big ticket systems used in chemistry and physics have reverted to pre-stimulus levels. Many researchers are once again bundling funding to purchase these high performance systems.

Short and long term funding remains uncertain as we awaited budget decision from Congress. Orders from Europe were in line with expectations and exhibit similar application trends to the U.S. There are few items to watch within the European market; the E-Light or the Extreme Light source project is a pan-European effort to develop high intensity lasers similar to the national ignition facility at the Livermore National Lab. Horizon 2020 is a seven year, €70 billion program to drive innovation, global competitiveness. Embedded with an Horizon program are two flagship projects to study the human brain and graphing of potential success of the silicon in Microelectronics.

These projects will create jobs and drive capital investment some of which will float to the photonics industry. Asia excluding Japan posted record scientific orders for fiscal 2013. The Pac Rim was more balanced between physical sciences and biological imaging. Bookings in Japan were slower than expected due to delays in the release of stimulus funding. Once the stimulus reaches end users, we expect to see funding skewed towards biological imaging since stem cell research is one of the key targets in the package.

Instrumentation at OEM component orders are $43.6 million or up 36.7% sequentially and 4.9% versus the prior year period. Demand for instrumentation lasers was very strong during the fourth quarter which is significant given the effects of sequestration on the research side of the instrumentation business. Two factors influenced these results. We continue to capture design wins for the OBIS platform especially in flow cytometry. We also enjoyed success in the sub systems market for bio instrumentation.

A sub system or laser engine combines lasers with beam delivery technology to provide a plug and play solution. Given the ease of integration and performance flexibility, it is not surprising that customer interest in sub system is on the rise. Medical OEM orders were also up significantly in the fourth quarter, a number of orders came from existing customers in the aesthetic and ophthalmic markets. This should not be surprising since consumer confidence has been generally good this year notwithstanding the budget fiasco earlier this month.

Our business in medical consumables primarily single use fibers for BPH and kidney stone treatment is doing well and we received an initial order for new dental device that is effective for both hard and soft tissue treatment. If the initial deployment is successful this could become a meaningful opportunity within this market.

Microelectronics orders of $96.8 million increased 9.8% sequentially and 46% compared to the prior year period. Orders for semiconductor CapEx customers increased significantly in the fourth quarter due to new inspection of meteorology 2 introductions from leading costumers.

This is in line with expectations we expressed at the beginning of fiscal 2013. We are busily engaged with customers on next generation devices that will support nodes at 20 nanometers and below. With regard to the announced merger of Applied Materials and Tokyo Electron, we view this transaction as net mutual for us since the business is a largely complimentary. The advanced packaging market began at seasonal CapEx slow down despite high utilization rates among board manufacturers. This may stem from a subdued response to new smartphones. It may also be related to the privatization of Hitaqchi Via Mechanics, a leading supplier of PCV manufacturing equipment. Customers may be waiting to see what changes if any occurs as a result of this move.

Flat panel display market remains very dynamic. Utilization rates for LTPS backplanes are high. The trend for new product launches in the smartphone market is for full HD screens that place more process restrictions on the manufacturing equipment and this is good for service revenues which Leen discussed in her prepared remarks. Samsung announced the new Galaxy Gear smartwatch that works with Galaxy Note 3. It is the first product, a new segment of wearable devices while it has a cool factor, the small screen size will not consume very many LTPS panels. Don’t let that stop you from getting your best [indiscernible].

Another important development is the release of first smartphones to incorporate flexible displays including the Galaxy Round from Samsung and LG's G2 Flex. Flexible display will cannibalize glass displays but the robustness and shapes should drive an increase in demand across various applications.

There are some interesting developments in the TV market. The biggest potential mover for us would be the adoption of LTPS equipped OLED screens. As previously announced, Samsung is trying to stimulate the market by reducing the price of their device to $9,000 in the U.S. This is a step in the right direction, but still limits the market size. At the same time, 4K TVs are gaining traction due to their terrific clarity and more manageable price. This has led to a research in two laser base manufacturing steps for light panels which act as marginizers [ph] for LEDs and encapsulation or fric welding. We expect to see incremental business during 2014 from these processes.

During last quarter's call, I mentioned that we were working with customers on the next round of orders for ELA equipment. We received the first tranche during the fourth quarter for Gen 5.5 systems. The total order was for more than $15 million and we expect to complete delivery within fiscal 2014. We are actively engaged on a second tranche that we expect to close on the first or second quarter fiscal 2014. In addition, our integrated partners have a robust forecast for customers across Asia.

Activity around glass cutting is also very high. Most of the development work is focused on edge strength of the process glass and is key to broad adoption. We have also filled in a number of increase around sapphire cutting due to its water use on camera windows, finger print sensors, and potentially on for covered glass. This last point is dependent on the ability to fabricate very thin sapphire in the order of 30 microns which would sapphire cost competitive with other types of cover glass.

Materials Processing orders of $25.7 million were down 36.3% sequentially and 9.2% versus the prior year period. Orders in the fourth quarter were low following a record setting performance in the prior quarter and some softness in China. The year-over-year numbers are pretty healthy with bookings growth of 18%. Several factors contributed to these results.

In general, demand for CO2 lasers for marking, packaging and engraving has been good. Our recent introduction of the diamond E250 laser, a new embodiment of CO2 technology has created new opportunities. We have made steady progress in additive manufacturing with the highlight direct dialed system and we are optimistic about the long term potential of additive manufacturing and will be releasing a series of new solutions to address this market. And although fiber laser orders are still at the early stage for us, they contributed a few percentage points for the full year.

As we begin fiscal 2014, we are in a great market position. We are the leader in three of the four markets that we serve. We have secured design wins for a number of new generation applications and have a very deep technology bench and product pipeline.

There are opportunities to improve execution so as to achieve and sustain our previously stated goals of 19% to 23% pro forma EBITDA. We have done a very good job of generating cash and we will deploy some of it to accelerate our product market road maps or expand to its new markets. We will also be reviewing other uses of cash in the context of driving shareholder return.

We’re presenting a two upcoming investor conferences including the Deutsche Bank Small and Mid Cap Conference in Coral Gables on November 19 and the conference in London on December 3. I will now turn the call back over to Patrick for the Q&A session.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from the line of Patrick Newton with Stifel, please proceed sir.

Patrick Newton – Stifel Nicolaus

Yes, thank you. Good afternoon gentlemen and thank you for taking my questions, very nice quarter. I guess first question John for you is just trying to understand the ELA equipment orders. You gave us the size of the first tranche, you talked about the second tranche. I believe you said in that – was that this by the second quarter of the fiscal year just to clarify?

John R. Ambroseo

The first or second quarter of the fiscal year, yes.

Patrick Newton – Stifel Nicolaus

Perfect and then can you help us understand the relative size of the second tranche relative to the first?

John R. Ambroseo

It's potentially larger. The exact size is a little bit tougher to put my finger on and the reason for that is we are discussing a wide range of possibilities with the customers based on what generation technology they want to deploy and other opportunities in terms of capacity as well as performance of the panels and what we have seen in this market recently that as they have gone to higher DPI or PPI, Pixels Per Inch, that it's driving demands on the systems that no one had anticipated previously and how well that ties in and flows through capacity is obviously a big part of the discussion.

So it is a very active discussion. I don’t think there is any doubt in our mind that the customer is going to place an order, the exact size and mix is what we are working to nail down to make sure that at the end of the day the customer has the capacity and the performance that they need.

Patrick Newton – Stifel Nicolaus

And I guess, we are still on that flat panel display subject, can you I guess if the customer is going to be placing orders today, can you help us understand when deliveries would be received and then given your kind of current level of visibility and backlog and expectations of future orders, can you help us understand whether you think you are going to need to ramp capacity and if so, if you could help us understand the timing or how quickly you can wrap the capacity?

John R. Ambroseo

So the last question is easiest to answer. Our ramping capacity is relatively straight forward operation for us. We can either add shifts to existing facilities or pickup some additional space and we know that that space exist in the local area. So that’s not going to be a rate limiter for us. In terms of when deliveries would occur, a lot of that is actually driven by the customer depending on where they are with respect to their facility preparation. Right now if a customer said give me the first delivery slot, we could probably get them something, I would guess in the third quarter of the fiscal year, certainly in the fourth quarter of the fiscal year, but if they ask for configurations or things that we currently don’t have slotted in, then it becomes a negotiation as to when we would be able to make first deliveries. So all in all, we can certainly ship against orders of standard products and we can get some of those products to customers this year. In general, not going to be the basing item for -- our timeline is not going to be the basing item for the customer.

Patrick Newton – Stifel Nicolaus

Okay and I guess just shifting gears something that I was little bit, I guess surprised by with some of the orders flown in the OEM component side and in the scientific and government especially in the face of that budget send off and sequestration, I’m curious, do you see this a simply seasonality or perhaps are we starting to see kind of the dam break or some pent up demand for some of those impacted products.

John R. Ambroseo

Well, there was a relationship between the two markets, I’d say with different factors, in the instrumentation and components space they were driven more by clinical deployment than research deployment and that’s why I’ve made the comment that even though sequestration has hurt the research side of the instrumentation business , we still put up good numbers because the technology that we’re providing are going into clinical labs which are revenue generating facilities as opposed to research facilities. And on the medical side where we have some pick up, some of that was timing of sort of regular order patterns for customers and then we did get this very nice design win in the dental market which, if it works as is being built by the company that has developed it. It looks like it could be a real winner, a very interesting application because it’s been very difficult in the dental market to address both hard and soft tissue with a single device.

Flipping back now to the scientific market I suspect that part of the bump in U.S. bookings was not only seasonal because the fourth quarter typically is a strong quarter for us in terms of bookings, but it probably also represented some pent up demand perhaps researchers realize that things weren’t quite as bad as they had thought, whether they wanted to spend money before it ran out. Either way is a good result for us, I don’t think that we’ve seen any fundamental change in the posture of the funding agencies however.

Patrick Newton – Stifel Nicolaus

Good. I appreciate the detail and then just two quick financing questions for Leen, number one I just want to make sure that I heard you right that the 28% tax level is that level we should be expecting for fiscal year ’14?

Helene Simonet

I guided 26%.

Patrick Newton – Stifel Nicolaus

26, perfect, thank you. And then I guess Leen, a big crux of why lot of people want to own Coherent as the gross margin expansion, we had mixed issues, we’ve had some FX issues, we’ve had LDU utilization, I’m curious and John if you can help us walk through this, if we look back and kind of prior peak margin levels are I guess achievable levels if we are going to get back to that mid 40s gross margin range, one is that something you think is reasonable in the next fiscal year or two and what needs to happen in order to facilitate that type of margin expansion?

John R. Ambroseo

Leen and I have a stare off as to who is going to answer this. I would say that well let's just look at this from the 30,000 foot level. As I stated in my closing comments, it remains our goal to be in the 19% to 23% pro forma EBITDA range. We are not going to get there by just shrinking operating expenses. Gross margin expansion has to be a part of that. The specific timing is always a tricky thing to do, I mean, you mentioned one of the effects this past year which was foreign exchange. I don’t know how we can forecast that but that probably had 100 basis points, 50 to 100 basis point impact on the business. It's a real effect and it does impact the results but not one that we can effectively forecast or control. The things that we are working on right now we have always been somewhat diligent on trying to drive cost down and manufacturing cost and obviously as we continue to learn more and more about the LDU market and how these things are going to be used and we can drive improvements in cost of ownership, that benefits the customers and it benefits Coherent as I have talked about numerous times in the past.

So I think we are in a position where we know what levers to pull. The timing is a mix between things we can easily execute against something where we need to do some development work and then there are extra market factors which unfortunately we don’t control, but do have an impact on us. So do I think we can get back into the mid 40s gross margin in the next year, I would say that a lot of green lights would have to happen for us to get there.

Do I think there is going to be a gross margin improvement? Yes I do.

Patrick Newton – Stifel Nicolaus

Great. Thank you for the details. Good luck guys.

Operator

Your next question comes from the line of Larry Solow with CJS Securities, please proceed sir.

Lawrence Solow – CJS Securities

Good afternoon. So few updates, few following questions. In the FTD market, you guys you have mentioned, you touched on Korea and how it's benefiting the tax rate. Could you just talk about your shift in manufacturing? Are you now making most of the LDUs there or I guess where we stand with that –?

John R. Ambroseo

The facility in Korea is a refurbishment facility only. The new tubes are actually, the original tubes are manufactured in our facility in Germany where they are tested in systems before they get sent to customers. Once they are in country and they have to go through a service visit. They go to the depot in Korea.

Lawrence Solow – CJS Securities

And have you, the refurbishment piece is that fully now ramped up, in other words, what percentage of I guess consumables are new versus refurbishment? Can you discuss that or what the trends on that?

John R. Ambroseo

I don’t know if I understand the question Larry.

Lawrence Solow – CJS Securities

The new lasers or the new excimers are made in Germany right and the refurbished ones are made in Korea. We reached the point where the facility can now, can handle all the capacity or the utilization for refurbish?

John R. Ambroseo

So we have a little bit more room to grow in Korea with the existing footprint or probably more appropriately with the existing equipment that we have there. If the demand continues to rise we will have to add more test beds to the existing facility. I don’t think that we need to add facility space in this fiscal year, I might say fiscal year, obviously in the 2014. So we can put more test beds in and continue to ramp the business that way.

Lawrence Solow – CJS Securities

Okay. And on that same way and just on your other facility in Taiwan, the old hypertronic facility, can you just – I haven’t heard much about that, can you give us just a little update on that and is that – have you been moving the lines over there and is that been creative over the last --?

John R. Ambroseo

So there is -- again I am little bit confused, the hypertronics facilities are in Singapore. They had an office in Taiwan which is gone because we’ve exited the old hypertronics business. It's not part of our portfolio anymore. In Singapore we do have some expansion space remaining and we are working to move more products over there in time but it's – it has been a process where we want to move a product, make sure it's stabilized before we move another product. Having too many things in motion at once bad things can happen.

Lawrence Solow – CJS Securities

Okay. You mentioned – on the acquisition I guess [indiscernible] contributed I think $23 million in fiscal 2013. With those, I believe they were supposed to be accretive at least by the end of the year, is that the case and what sort of the outlook in general terms as we head into fiscal 2014?

Helene Simonet

Larry it’s Leen. The number, the 23 million is a little bit lower than what we initially had mentioned and so as a result, the accretive is somewhat delayed. Although the delayed from what we mentioned before. So in the fourth quarter, they are neutral to the company pro forma EPS that they will definitely pick up in the first quarter of fiscal 2014 and then all the metrics I refer to in my first quarter conference call they’re still valid for Q1 ’14. High EBITDA percentages, company asset with profit and accretive to the result.

Lawrence Solow – CJS Securities

And any particular why the sales number was a little bit less than originally expected?

John R. Ambroseo

I would say that there were a couple of market opportunities that we had anticipated would move faster than they did. That’s probably the biggest reason.

Lawrence Solow – CJS Securities

Okay. Just two more real quick, just you touched on China little bit and weakness maybe as they’re tied into Materials Processing, you just said, you’re seeing a general weakness or – in China as it relates to some of the other businesses as well?

John R. Ambroseo

It’s not uncommon for Materials Processing to slow down around this time of a year because if you consider that manufacturers are trying to put the pass in place ahead holiday shopping season, if they haven’t already done so it’s probably too late to get equipment and have it brought into the factory or delivered to the factories and up and running in order to be producing products. So there is some seasonality to it, I would say in general, the Chinese market had a series of fits and starts, lot of expectations when the new regime took over in the beginning of the year and it has been – I guess, the only way I would describe it as choppy in terms of how they’re investing, where they’re investing and how they’re going to drive growth. I don’t think that is unique to the Materials Processing, I think that’s sort of a general statement on China.

Lawrence Solow – CJS Securities

And lastly, excellent cash generation, anything in particular that drove the drop in days sales outstanding and is this sort of a new level to build off --?

Helene Simonet

Hi Larry, our days sales outstanding has varied from the low 50s to almost 70. This is not uncommon for us to be at 58, however, it heavily depends on the timing of when the shipments happen because that’s just the way it works. So I would expect fluctuations in the future and there is no guarantee that this would be 58 for the rest of the year, but it’s definitely a good performance for us this quarter.

Lawrence Solow – CJS Securities

Okay, excellent, thanks.

Operator

Your next question comes from the line of Mark Douglass with Longbow Research, please proceed sir.

Mark Douglass – Longbow Research

Hi, good afternoon, John and Leen.

John R. Ambroseo

Hi, Mark.

Helene Simonet

Hi, Mark.

Mark Douglass – Longbow Research

John, on the pickup in semi, that it's reflected in your orders is that also reflected in your sales guidance or is this going to be more of a calendar 2014 for deliveries?

John R. Ambroseo

The orders that were placed were not 90-day orders, they were longer term orders. So some of it will hit in the first quarter, but I suspect that as in many instances, capital equipment deliveries around the holiday period are not the preferred method for a lot of these customers. So there will be flow through that will occur in the second and third and will take all the way out to the fourth quarter, but they certainly will hit the second and third quarter numbers.

Mark Douglass – Longbow Research

Okay. Then API, sort of seasonal CapEx slow down for that market in general still seems to be on a positive uptick?

John R. Ambroseo

Yes, I mean, from our advantage point I think the answer is yes. Couple of quarters ago, maybe it was last quarter I talked about some numbers that we had seen from Gartner and semi that seemed unusually high for ’14. It appears that some of that is going to happen I think in general as you talk to people in the semi space, there seems to be a pretty high level of exuberance for 2015 and quite honestly it's always easy to be excited about something that’s almost two years away at this point. But in the short term, it does appear that there is an uptick and it gives me more confidence on that is the conversations we are having with customers around next generation and what they need to do and how they hope for us to participate in that.

Mark Douglass – Longbow Research

Okay. So in general, 2014 is looking up for you and for the --?

John R. Ambroseo

For semi I think the answer is yes.

Mark Douglass – Longbow Research

And then, the second tranche you said potentially larger ELAs, potentially larger order for ELA. Would any of that possibly deliver in 2014 or that go out into 2015, going to be both?

John R. Ambroseo

Again it's going to depend on exactly what the orders are for because we are discussing a number of different options with the customer everything from standard products to new configurations that might be beneficial to the manufacturing processes. Until we finalize that order, I can't give you a definitive answer to that but quite frankly, with the pipeline and I guess I should have mentioned this when Patrick asked this question earlier, given the pipeline that we are seeing from the integrators not a lot of concern about ’14. They seem to have a very robust outlook for business opportunities.

Mark Douglass – Longbow Research

Okay. And back to the gross margin question, you said service was a tailwind in 4Q, but also are the material issues behind you largely as well as the end issues?

John R. Ambroseo

The end was mostly on the backlog which if it's not completely flushed it's got to be really close to being flushed. And as far as the material issues, yes I think some of those are behind us. I don’t have a current update on a couple of topics. I will be getting those in a week or two. So I can't tell you whether those are completely behind us yet. But the short answer is yes, I think many of them are behind us.

Mark Douglass – Longbow Research

Okay. And then on the fiber laser, high power fiber laser, any update on the beta testing, any delays and issues there? You still expecting that you can ship the volume in fiscal 2014?

John R. Ambroseo

Well, we are in a position where we are shipping one kilowatt systems and we continue to get prototype orders from different customers that we have been working with. We take that as a positive. The performance feedback on the three kilowatt platform has been very positive and the dialogue with the customer is now at the stage where we are talking about, we would like to do this versus that. There are always going to be tradeoffs. We are trying to avoid building custom products for individual customers. So the trade off is what makes sense for the broad customer and what ends up being specific to a customer and we want to encourage the former and avoid the later. I would say that we are pretty much where we expected to be in the dialogue.

Mark Douglass – Longbow Research

But this dialogue is necessarily delaying, filling your expectations when you can ship the higher powers?

John R. Ambroseo

Yes, for the 2 or 3 kilowatt lasers?

Mark Douglass – Longbow Research

Right.

John R. Ambroseo

I don’t think it's going to have any kind of a meaningful impact because we have a date by which we want to move forward and we can't delay our entrance into the broader market for a particular customer or a small group of customers. So we will continue to march towards that date.

Mark Douglass – Longbow Research

Okay. Thank you.

John R. Ambroseo

Sure, thanks.

Operator

Your next question comes from the line of Mark Miller with Noble Financial Capital Markets, please proceed.

Mark Miller – Noble Financial Capital Markets

Congratulations on your results John and Leen.

John R. Ambroseo

Thank you, Mark.

Helene Simonet

Thank you.

Mark Miller – Noble Financial Capital Markets

Just want to talk, a little more follow-up about margins and the impact of a growing service contribution to your sales. I was under impression that as the excimer refurbishment opportunity that at the minimum doesn’t lower margins that if anything that increases margins compared to your overall margins. Is this still on target?

John R. Ambroseo

I think your statement was that higher service should benefit margins. And the answer is yes.

Mark Miller – Noble Financial Capital Markets

Okay. Well, in particular the refurbishment facility in Korea that should be at or above your overall margins?

John R. Ambroseo

Yes.

Mark Miller – Noble Financial Capital Markets

Okay. Getting back to semiconductor, the opportunities you are seeing, they’re tied in we are going to 3D NAND flash, Intel has been developing finFET now for five years even though they just pushed back their 14 nanometer chip. Are you benefiting from it or are you tied into this finFET in three dimensional type structure is that what's helping to drive your expectations there?

John R. Ambroseo

We are providing meteorology and test equipment that will certainly service part of that market. So the answer is yes.

Mark Miller – Noble Financial Capital Markets

Okay. Then finally, the government certainly was a hangover for some people this quarter and it looks like and certainly starting up early next year is that going to be an overhang in terms of the U.S. government spending on this current quarter?

John R. Ambroseo

Difficult to forecast, I mean, the thing that well the first question is that we were asking when the shutdown first occurred is what's going to happen on the export compliance side; are there potential risks to revenue because you can't get a license to export a piece of equipment. Right now our view is that the shutdown occurred probably enough in the quarter that it's probably not a significant risk. As far as how this is going to affect grants and other things again they have to compress 13 weeks of work into whatever it is 10 or 11. It doesn’t appear that that is going to be a broad issue at this point. But again, the data, it’s the recent data set that we are trying on. For our business because U.S. scientific is comparably small piece of the business. We think that it's going to be manageable regardless and with respect to business outside the U.S., again we are watching very closely what's happening on the processing of export licenses because that is an important issue for us, but we haven’t seen anything today to suggest that that’s going to be a problem.

Mark Miller – Noble Financial Capital Markets

Finally, you just mentioned some OEM design wins. Anything notable in terms of share gain or share losses in any segments?

John R. Ambroseo

Well, it does appear within the instrumentation space that we are winning some stuff that we haven’t been participated in previously. Part of the design work that I was alluding to in my closing remarks is, we are looking at some new platforms to allow us to enter piece of the instrumentation space which have been really out of reach because of cost. We have some new approaches that we think can help us get there. So yes, some of the design wins and some of these market shares is already pretty good. So the wins are tougher to come by, but we are somehow managing to do that.

Mark Miller – Noble Financial Capital Markets

Thank you.

John R. Ambroseo

Sure, thanks.

Operator

And at this time we have no further questions in the queue. I will turn the call back over John Ambroseo for any additional or closing remarks.

John R. Ambroseo

I just want to thank everybody for their participation and I look forward to catching up with you in a few months.

Operator

Ladies and gentlemen that concludes today's conference. Thank you for your participation. You may now disconnect. Have a great day.

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