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Executives

Helene Simonet – EVP and CFO

John Ambroseo – President and CEO

Analysts

Sanjay [ph] – Thomas Weisel Partners

Jiwon Lee – Sidoti & Co.

Mark Douglass – Longbow Research

Larry Solow – CJS Securities

Mark Miller – Noble Financial

Coherent, Inc. (COHR) F2Q10 (Qtr End 04/03/10) Earnings Call Transcript April 29, 2009 4:30 PM ET

Operator

Good day, ladies and gentlemen and welcome to the Coherent second quarter 2010 earnings conference call hosted by Coherent, Inc. (Operator Instructions). As a reminder, this call is being recorded.

I would now like to introduce Ms. Helene Simonet, Executive Vice President and Chief Financial Officer. You may begin your conference.

Helene Simonet

Thank you, Adam. Good afternoon. And welcome to Coherent's second quarter 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, 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 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 test of today's prepared remarks, which will include references to historical bookings and sales by market will be on the webcast available for approximately 90 days following the call.

Let me first highlight the key accomplishments of the second quarter. As you may already have seen from the press release, we delivered remarkable results this quarter including record bookings and backlog.

Our revenues grew 21.4% sequentially and exceeded our guidance and expectations.

Earnings more than doubled sequentially on both a GAAP and a pro forma basis. We achieved pro forma income of $0.45 per diluted share compared to a pro forma income of $0.21 per diluted share in the previous quarter and breakeven in the second quarter of last year.

Our cash and cash equivalents balance at the end of the quarter was slightly over $265 million and we generated almost $29 million cash from operations, in part due to improving working capital metrics. We achieved record accounts receivable DSO of 51 days, an improvement of almost 5 days from last quarter and our inventory turns improved from 2.9 turns last quarter to 3.4 turns this quarter.

Our pro forma EBITDA for the quarter was 16.6% on $149.2 million revenue. This performance demonstrates the positive impact of our leaner operating model following the various restructuring activities we implemented last year. As you may recall, we finished fiscal 2008 with $600 million revenue and a pro forma EBITDA of 13.5%. At similar annualized revenues, we're now delivering an incremental 310 basis points to the results.

Net sales for the second quarter grew 21.4% sequentially with increases in all four markets. Microelectronics, Materials Processing and OEM Components and Instrumentation in particular, showed strong, double-digit, sequential growth with Microelectronics leading at 35%.

Within Microelectronics, we experienced the highest growth in solar and flat panel display applications. Materials processing was strong in marking and engraving applications and OEM Components and Instrumentation saw strength in multiple applications including medical, bioinstrumentation and graphic arts and display.

Geographically, Asia represented 40% of the second quarter revenues, resulting from strong growth in the solar, flat panel and advanced packaging markets for which the customer base is strong in Asia. Clearly, we're seeing the results of our market development efforts and investments in this important region.

The company's sales by significant market application for the second quarter of fiscal 2010 is as follows. Scientific and Government, $37.8 million; Microelectronics, $52.7 million; Materials Processing, $19.8 million and OEM Components and Instrumentation, $38.9 million for a total of $149.2 million.

The second quarter gross profit was $65.6 million or 44 % of sales. On a pro forma basis, excluding $1 million restructuring and stock compensation charges, pro forma gross profit was 44.6% compared to 42% last quarter. The sequential improvement was primarily due to the positive leverage from a substantial increase in sales volume combined with the favorable impact of the footprint restructuring programs.

Pro forma period expenses of $50 million, excluding $2.6 million for restructuring and stock compensation charges, increased $5.3 million from the previous quarter. This sequential increase is primarily due to increased investments in R&D, higher headcount related spending due to the elimination of last year's temporary measures and other volume related spending.

The step up in R&D spending is directly linked to recent design wins, the acceleration of demand from our customers and some incremental spending in support of the acquisition integration.

Our cash and cash equivalents balance for the quarter was $265.1 million, representing a sequential increase of $24.5 million. As mentioned before, we're in particular, pleased with our working capital management results. Inventory balances increased only slightly from the first quarter of fiscal 2010, even though projected sales volumes increased significantly.

The increase in cash also reflects a tax refund of approximately $5 million, including interest income of $1.2 million. This interest income is recorded in the other income and expense line, which explains the step up in income when comparing this to the previous quarter.

Let me give you the guidance for the third quarter. We expect revenues in the third quarter to be in the range of $158 to $162 million. We project pro forma gross profit to be similar to the second quarter, at approximately 44.5%.

Pro forma period expenses, which means excluding intangible amortization, stock compensation and restructuring costs, are projected to be in the range of 31% to 32% of sales, which is a lower percentage than the second quarter actuals.

Intangible amortization is anticipated to remain at $2 million. Stock compensation charges are estimated to be approximately $2 million and restructuring costs related to the integration of the StockerYale businesses and the announced closure of Finland will amount to approximately $1.5 million.

Other income and expense is forecasted to be minimal, as interest income is estimated to be immaterial to the results. We are assuming an annual tax rate of 35%.

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

John Ambroseo

Thanks, Helene. Good afternoon, everyone. And welcome to our second fiscal quarter conference call. As you've already heard, we posted some very impressive results for our second fiscal quarter. What's most gratifying from an operational perspective is that the improvement is broad-based for both markets and business units.

We set a quarterly record for bookings with second quarter orders of $164.5 million, representing an increase of 3.9% sequentially and 75.3% versus the prior year period. The book-to-bill for the second quarter was 1.10. Orders of $33.4 million in the scientific market were down 14.1% versus the prior quarter and were up 6.4% versus the prior-year period.

Second quarter bookings were anchored by demand for high-end, ultrafast amplifiers for applied physics and physical chemistry communities. We also saw increased adoption of our OPS-based Verdi G Series products. While biological imaging remains a cornerstone of the research market, orders for Chameleon lasers were eased following two record setting quarters.

The second quarter marked the end of committed stimulus funds in Germany and Japan, although Germany continues to invest in R&D at higher than average rates. In the U.S., it appears that approximately 75% of stimulus funds have been deployed, with the balance to be completed by the end of September 2010.

Orders of $35.7 million for instrumentation and OEM components were down 0.2% from the prior quarter and increased 67.5% versus the prior-year period. Conditions are starting to improve in the medical OEM market, as evidenced by a rise in elective ophthalmic and aesthetic procedures. This should lead to a replacement cycle in established markets and new system investments in emerging markets.

Our Existar excimer lasers used in refractive surgery and our G and GEM Series CO2 lasers and Genesis OPSL lasers for aesthetic applications should be the main beneficiaries of this trend. Our efforts in non-refractive procedures, including photocoagulation and photodisruption using OPSL lasers are progressing well and are in line with expectations.

Several factors are influencing the demand in the instrumentation market. There is a trend towards higher power lasers for use in microscopy and high-speed cytometry, which plays to the power scalability of our OPSL portfolio. Similarly, wavelength flexibility, another core strength of our OPSL products is becoming more and more critical as customers develop new test protocols.

Finally, beam shaping is gaining traction to enhance detection sensitivity and represents an opportunity to deliver higher-level subassemblies into this market.

Graphic arts is also exhibiting early signs of recovery for lasers used in the computer-to-plate, flexographic and screen printing applications. This is entirely consistent with a general market recovery. Within the display arena, we are enjoying a strong competitive advantage through our OPSL products. For example, at a recent trade show in Cologne, Germany, approximately 80% of the integrators ran their displays with our lasers.

Microelectronics bookings of $71.8 million set a new record, representing increases of 7.8% sequentially and 162.9% versus the prior-year period. As a general statement, the leading integrators, many of whom are part of our customer base, are recovering much faster than the tier two or three players.

Second quarter bookings for semi cap equipment rose significantly versus the most recent quarter and prior-year period as utilization rates and CapEx spending trend upward. Demand is up for service, legacy and new products across all applications.

Orders for advanced packaging applications have more than doubled compared to a year ago and are up more than 28% sequentially with all three submarkets being microvias, direct imaging and silicon singulation and scribing, contributing.

There appears to be three factors fueling this growth, sustained growth in the smartphone market; growth in the LED TV market, which relies on high density interconnects for PCBs and general PCB production expansion in China.

The flat panel display market remains active, as we have secured another multi-unit order valued at approximately $13.5 million for use in OLED production on netbook and laptop displays. Each unit consists of a Vyper laser, the highest power excimer laser commercially available and projection optics.

Per customer request, these units are scheduled for delivery in fiscal 2011. The next phase of development will be for manufacturing OLED televisions above 40 inches. This will require another step up in laser power and projection optics.

The solar market remains very active for us. In addition to shipping the first of Equinox solar production tools, we are engaged with a variety of customers on future deployments and we expect to receive additional new tool orders in the current quarter.

Materials processing orders of $23.6 million increased 37.8% sequentially and 70.9% versus the prior-year period. Marking and engraving customers stepped up their orders for the third consecutive quarter to support increased demand from consumer product applications. While China was the leading source of growth, U.S. and European customers also increased their order rates. All product categories have benefited from this trend.

Our customer and application development work in the high power market with the E-1000 CO2 laser is progressing well. Customer inputs are very positive and we are particularly pleased by the variety of applications the laser has been tested in. First revenue shipments of the E-1000 will occur in the third quarter as planned.

In order to further our efforts in the high power market, we have signed a definitive agreement to acquire Beam Dynamics of San Carlos, California a designer and manufacturer of laser workstations for materials processing, in an all-cash transaction. Beam Dynamics has done a good job of listening to customers and has developed versatile tools that are known for precision, productivity, ease of use, compact size and low mass designs.

These last two attributes are very important, as they minimize facility requirements compared to competitive offerings. The acquisition enhances both our application knowledge and development capabilities and also provides a pathway for us to expand our presence in the market for precision laser processing workstations. The acquisition is projected to add $6 million to $8 million in revenue in fiscal 2011 and the transaction is expected to close shortly.

Rising demand is putting pressure on our planned exit of our Epitaxial growth facility in Finland. We are closely watching bookings, backlog and production throughput. As I have mentioned previously, we will err on the side of caution and a decision to extend the close date will likely be made in our fourth fiscal quarter.

The transfer of our Montreal facility is also tracking to plan and per our commitment will be accretive in our fourth fiscal quarter. The strong first half performance, combined with a record backlog, supports increasing our full fiscal year net sales outlook to a range of $590 million to $600 million dollars, which represents a very healthy 35% to 38% increase over fiscal 2009.

Despite the steep ramp in revenues, the team has done an exceptional job of asset and receivables management, leading to very solid cash flow. We believe we have ample cash reserves to fund our acquisition strategy as well as repurchase shares. To this end, we have received authorization from our board to buy up to $50 million in company stock over the next twelve months. The timing and size of any purchases will be subject to market conditions.

I'll now turn the call back over to Adam for the Q&A session.

Question-and-Answer Session

Operator

(Operator Instructions). And your first question today comes from the line of Ajit Pai with Thomas Weisel Partners.

Sanjay -- Thomas Weisel Partners

This is Sanjay [ph] calling in for Ajit. A couple of questions. First, in terms of the revenue mix going forward and seeing the strength on semiconductor microelectronics side, how is that going to impact the margins, let's say, a quarter or two down the line on the gross margin level?

John Ambroseo

Well, certainly, the microelectronics business is one of our higher-margin businesses. To give you an exact number at this point would be difficult because we would need to know the exact mix at any given point in time. We are obviously factoring into the next quarter's guidance that Helene has already given that there is a mix improvement taking place and that is part of the results.

Sanjay -- Thomas Weisel Partners

And, in terms of -- another question on the gross margin front. Speaking with, obviously, a number of companies here in earnings season, it sounds like there is increasing challenges on the component side. What are you guys seeing? And how are you addressing that?

John Ambroseo

It's one of the areas where we're spending a fair amount of time from an operations standpoint. We have a team of people deployed with all the suppliers around the world to make sure that we understand what the situation is. We believe that right now, we have the situation -- well, the situation is under control, but it does require very active management.

And what's probably the most interesting and consistent with your own question is it typically is the low cost components that are in short supply because they're used by lots and lots of different manufacturers not just our industry.

Sanjay -- Thomas Weisel Partners

And a final question. In terms of the Beam Dynamics acquisition, have you disclosed how much you paid for that company?

John Ambroseo

We will disclose that once the deal is completely done and we expect that to be done shortly.

Sanjay -- Thomas Weisel Partners

Great. Thanks very much.

Operator

Your next today comes from the line of Jiwon Lee of Sidoti & Co. Please proceed.

Jiwon Lee – Sidoti & Co

Thanks. First, I wanted to get a little more market color geographically. You mentioned 40% of the sales came from Asia. But, if you could, kind of go a little bit deeper as to what you saw there and Europe and the rest of the world.

Helene Simonet

Sure. We had 40% in Asia, 22% in Europe, 29% in the U.S. and then 9% in the rest of the world.

Jiwon Lee – Sidoti & Co

Okay. And most of your strength in microelectronics either remains semicon or the non-semicon was mainly from Asia. Correct?

Helene Simonet

Microelectronics is pretty dominant in Asia. As I mentioned, there is a strong customer base in Asia for microelectronics. Particularly this quarter, we have such higher solar revenues, as well as flat panel display.

Jiwon Lee – Sidoti & Co

And the type of work that you do on the solar side there is mainly scribing -- etch scribing. Am I right?

John Ambroseo

I'm sorry, Jiwon?

Jiwon Lee – Sidoti & Co

The type of work that your lasers do on solar side -- is that mainly scribing and…

John Ambroseo

No. There are number of applications, including edge isolation and scribing. There are other processes that we're involved in which are bound under a nondisclosure agreement with the customer and, obviously, we can't talk about those.

Jiwon Lee – Sidoti & Co

Okay. Fair enough. And, then I wonder with your new revenue guidance, what your expectation is from the StockerYale side.

John Ambroseo

I think when we talked about StockerYale, we said it was going to be $16 million to $17 million in fiscal '10. And we're tracking to that pretty nicely.

Jiwon Lee – Sidoti & Co

Okay. There might be other questions, but I'm going to step aside for now. Thank you.

Operator

Your next question today comes from the line of Mark Douglass with Longbow Research.

Mark Douglass – Longbow Research

Hi, good afternoon.

John Ambroseo

Hi, Mark.

Helene Simonet

Hey, Mark.

Mark Douglass – Longbow Research

Very, very nice quarter. Congratulations. We talked about just the gross margins a little bit. I mean, your revenues were higher than guidance, significantly, but the gross margins really improved a lot. Was it really volume driven or was there kind of a lag in the restructuring, the fall through from restructuring efforts?

Helene Simonet

No, Mark. I think the increase is predominantly volume driven. And so we're leveraging our leaner structure that we had put in place as a result of all the restructuring activities.

Mark Douglass – Longbow Research

Okay. And, then as far as the acquisition of Beam Dynamics, it's somewhat small, but is that kind of part of your strategy to maybe pursue more machine builders as well? And did they already use your products?

John Ambroseo

So, let me answer the second part of the question first. Beam Dynamics has been a long-time customer of ours -- lots of experience particularly with our CO2 products. As we look at the high power materials processing space and think about game changing technologies, we really see that there's an opportunity for small footprint, low weight systems. And the low weight may sound like a strange thing to harp on but when you look around the industry, there are an awful lot of big clunky very heavy systems that place pretty demanding facility requirements on customers.

Mark Douglass – Longbow Research

Right.

John Ambroseo

And, as the customer base is migrating in ways that ten years ago or five years ago we may not have been able to predict, today the requirements around size and speed throughput, et cetera are all pretty important. And that's what the Beam Dynamics system offers. Now, as far as what we will look at in the future, again if there are game changing opportunities out there, we will consider them. Is it going to be -- can I tell you definitively that we'll acquire another tool integrator? At this point, obviously not.

Mark Douglass – Longbow Research

Right. Okay. And then, as far as the product development, so the high power CO2 shipments in third quarter and then what's going on with the say -- your direct diode business or even the high power fiber laser…

John Ambroseo

So with the direct diode business and I assume you mean the Nuvonyx. Right?

Mark Douglass – Longbow Research

Yeah. Right. Nuvonyx.

John Ambroseo

What was Nuvonyx. The business is actually going well. We see some interesting opportunities emerging, particularly in the remanufacturing market, where that technology plays a pretty important role. So we're happy with the progress that's being made there. And then did you have another part of the question? I'm sorry.

Mark Douglass – Longbow Research

Right, right. The high-power fiber laser is still are -- you're still slated for prototype?

John Ambroseo

The high-power fiber laser program is on track. We continue to hit all our internal milestones and we do expect to be shipping prototypes later this year.

Mark Douglass – Longbow Research

Great. Thanks.

John Ambroseo

Sure.

Operator

Your next question today comes from the line of Larry Solow of CJS Securities. Please proceed.

Larry Solow – CJS Securities

Hi, good afternoon. John, quickly, just to clarify on the gross margin and the improving mix, I think Helene actually suggested gross margins would be about flat sequentially. Is that right?

John Ambroseo

And I do stand correct, Larry, because I looking at pro forma versus GAAP.

Larry Solow – CJS Securities

Got it. And is there -- I mean, obviously, revenues are going up on your guidance a little less than 10%. But is there any reason why -- is mix just -- I mean, obviously it's not an exact science. So is there maybe room for upside there? Or is there any particular reason why you wouldn't get a little more overhead absorption in Q3?

Helene Simonet

Well, Larry, as you said, it's not an exact science. There is always a little bit of mix that could be less service, more service. If you look at our bookings for Materials Processing, they were also very strong in the second quarter. And, usually, they have a lower margin. So it is -- it's not an exact sign. It's an approximate number, 44.5%.

Larry Solow – CJS Securities

Got it. Fair enough. And, in terms of the Materials Processing, maybe can you give us a little more color? It sounds like; at least, you're seeing some traction with some of your newer equipment for the high power part of the market. I know that market had been certainly lagging the lower power. Are you seeing significant change in the overall market dynamics there?

John Ambroseo

So the business pickup that we've seen thus far really has been from the more traditional, low power market, which is tied much more to consumer spending, so applications like marking and security coding, et cetera, textile manufacturing, that's where we've seen the pickup thus far. We're getting good input on the E-1000 tests that are taking place. And, yes we've got our first orders in. We're preparing to make our first revenue shipments. But it still appears that the macro market is awaiting a significant catalyst.

Larry Solow – CJS Securities

Got it. Okay. Got you. One other question. In terms of the stimulus funds in the U.S., I think last quarter you had mentioned that the NIH itself, you hadn't seen much contributions from them. I know you said you expect most of the funds, at least on the scientific side to be used up. Has some of the NIH funds flowed into, through some of your customer orders?

John Ambroseo

So, it's flowing into different end markets, which is pulling along some of our product. And when we look at the data, it would suggest that some of our commercial customers pre-ordered in anticipation of that.

Larry Solow – CJS Securities

Okay.

John Ambroseo

So orders that we have seen in Q4 and Q1 were fulfilling some of the demand. What we've learned through conversations with the funding agencies is of the stimulus funds that were committed for '09 and '10 about 75% of it is already gone.

Larry Solow – CJS Securities

Okay.

John Ambroseo

So there might be some more that hits us in the second half of the year. From our perspective, it was a successful program for the first half of the year because it filled a gap. Now with the commercial markets in a recovery mode, the scientific funding while still important, is not obviously as pivotal as it was in Q1 and Q2.

Larry Solow – CJS Securities

Got you. And then just lastly, in terms of -- clearly, I guess the demand sort of time off and all that has been completely rolled back. Do you guys foresee any increased hiring needs or just more volume driven, higher stock compensation -- or higher variable compete and what not expenses?

John Ambroseo

We have been making selective hires particularly on the capacity side. As you can tell, the demand has picked up pretty significantly for us. And we are filling those needs. And there is some selective hiring taking place in other parts of the business as business conditions dictate.

Larry Solow – CJS Securities

Got it. Okay. Great. Thanks a lot. And congratulations again. Great quarter.

John Ambroseo

Thank you.

Operator

(Operator Instructions). And your next question today comes from the line of Mark Miller with Noble Financial Group. Please proceed.

Mark Miller – Noble Financial

Hi. That was actually Noble Financial. Congratulations from me also on a very spectacular quarter, especially in the bookings. I just had a question on the Equinox. You shipped your first one. Are you able to divulge approximate ASPs for those tools?

John Ambroseo

When we took the order, Mark, we said that they were priced roughly, at $1 million a copy.

Mark Miller – Noble Financial

Okay. Would these tools typically have a better product mix margin for you or about the same?

John Ambroseo

I think we said that the margins were slightly above the company average.

Mark Miller – Noble Financial

Okay. And in your strong Microelectronics orders, were there any large blanket orders that customers might have been sitting on for a while?

John Ambroseo

You know, it's interesting. We've seen a lot of recovery in the microelectronics space. It's been pretty broad based. The one large order I called out during my comments, which was a $13.5 million order for annealing systems for flat panel display.

Mark Miller – Noble Financial

Finally, one of your competitors sold their diode business. There's a rumor that another large competitor is going to be leaving the diode business, I'm just wondering what's going on in that business. Does it have any impact on you with all these sales?

John Ambroseo

There are always rumors in the marketplace that people are getting in and out of businesses. So, obviously I won't comment on that. The semiconductor business is a crowded space. And the challenge for everyone that participates in it is to find the niches where they can really bring some differentiation. Right now, our semiconductor business is recovering very nicely from the downturn. And we're optimistic for future opportunities.

Mark Miller – Noble Financial

Would that be an opportunity for you if another larger firm got out of it? Would that benefit you?

John Ambroseo

It would really depend who it is and what their product mix is.

Mark Miller – Noble Financial

Well, again, thanks. It was a very, very good quarter for bookings. Congratulations.

John Ambroseo

Thank you, Mark. It's nice having you back.

Mark Miller – Noble Financial

Thanks.

Operator

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

John Ambroseo

We'd like to thank everyone for their participation. And we certainly look forward to updating you in a few months time. Have a good day.

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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