IPG Photonics Corporation (NASDAQ:IPGP)
BarCap 2011 Global Technology Conference
December 07, 2011, 13:30 p.m. ET
Tim Mammen - CFO
Tom Burgomaster - VP, Corporate Controller
Barclays Capital covering the display and logistics and it's my pleasure to introduce Tim Mammen, CFO of IPG Photonics; the leading fiber laser supplier. Tim, go ahead.
Thank you, (inaudible). Couple of legal things, first of all I draw your attention to the safe harbor statements in our presentation, and also to the fact that we will be making some forward-looking statements here. I refer you to the risk factors in our Q and K, and also remind you that our actual results could differ from any forward-looking statements we make today.
Some overview to IPG Photonics. Company is credited with being the leading manufacturer and the company that really commercialized high performance fiber lasers and amplifiers. Our products are displacing traditional laser technologies around the world including CO2 lasers and Nd:Yag and other solid state systems. We sell our products globally through primarily equipment manufacturers who place the lasers within their systems so the lasers like an engine as well as to the end users directly that tends to vary between application through marking, engraving, cutting applications we generally tend to sell stuff through OEMs and then on welding and microprocessing more directly. We have global operations with about 2,000 employees. Company went public almost five years ago. We headquartered in Oxford, Massachusetts.
The market for fiber lasers is expanding quite rapidly, I will talk about that later on in the presentation. In some applications we already have about 60% market share in others it's as low as 15 or 20%. The total market for lasers as people transition to finding more efficient and productive ways to manufacture products as well as do some fairly esoteric things like, using lasers to weld drill oil and gas wells, means for the opportunity for the company is growing.
We have a very vertically integrated business model that provides us with significant advantages both in terms of the control we have over our technology. The speed with which we are able to develop new technology and protect the IP, as well as the cost at which we are able to produce our devices in the market.
The company’s that we sell through all around the world and the applications the lasers are used in is extremely diverse and we think that is a very nice attribute to the business model. The technology is significantly superior and it enables people to process materials faster, more efficiently and significantly improve their productivity.
And one of the very interesting things about the company is that, we have a great number of OEMs around the world who will buy anything from 10 lasers a year from us with a value of 150 or $200,000 to thousands of lasers with a total value of $20 million odd. Once you qualify your product with those customers in their systems, every single time they sell a system, we sell a laser. So, you think about our sales force is actually incorporating the sales force and development people that our customers have as well. And we really are recognized as the company that is the first five mover in fiber laser development and we think that is a key advantage that we have.
Once our growth strategy going forward is really to continue to leverage the technology by gradually reducing the cost of it by expanding the wave length that we sell lasers so that we can address more applications to displace basically existing laser technologies as well as non-laser technologies. There are very significant opportunities for examples, in the welding market where non-laser technologies dominates, such technologies include spot welding, arc and [mig and sig] welding or wire based welding technologies. Within welding a laser can do every single one of those welding application as the need to weld better and faster increases and the cost of the laser comes down, we are starting to see the use of lasers within not just the automotive industry but within, for example, the welding of oil and gas pipelines, the building of ships, the manufacturer of trains and engines used in the locomotives, and also in fairly basic manufacturing processes, we are seeing the use of laser increased dramatically and the use of then for welding also to increase.
There are new and interesting applications for lasers and fiber laser in particular I mentioned we have a customer that is evaluating the lasers for use in drilling of oil and gas wells, we sold them three lasers to-date, as well as very, very long process fibers that more than five kilometers in length that demonstrated they can deliver the beam very deep into the [earth]. They believe that they can reduce the cost of drilling oil wells very significantly, there is a lot of optionality around that technology as probably several years out before it comes commercially viable but the opportunity is very significant.
There are certain applications as well where we want to expand our product portfolio into developing more of a systems business and that’s particularly an area which are not well served by our current OEM customers, some of those areas include the welding applications but also in microprocessing and applications like cladding.
We continue to optimize our manufacturing capabilities and reduce the cost of our components, and that as well is enabling us to expand the market that we address. And we are also investing in different areas around the world significant investments have happened in places like Japan and Italy this year, we are evaluating as and when to move into the South American market with a more formal presence in places like Brazil and also expanding in Southeast Asia to have a bigger presence in place like Singapore or Australia.
The primary advantages of fiber laser technology are highlighted on this slide. As compared to CO2 or Nd:Yag lasers, the way in which we convert an electrical input into an optical output or the light source is much more efficient. We use single emitted diodes that have an electrical efficiency of more than three times greater than the other technologies. The lasers themselves have a significantly smaller footprint, no degradation of the light source and no moving parts, so they require very little maintenance. It's an extremely robust device that is very well suited to the use in industrial and materials processing applications as well as areas outside of industry where robust device is used. So, for example our lasers have been deployed on the back of Humvee’s and deployed in Afghanistan and Iraq to destroy IEDs, people in the oil and gas industry have developed systems that can be transported on the back of helicopters and through remote regions to repair oil wells or deal with blow outs on existing wells that have been drilled. So, it is a very, very robust device, there is no laser in the world that is as robust as IPG fiber laser.
Your electrical efficiency given the unique attributes of the diodes approaches 30% as compared to between 2 and 15% for the other technologies. Also important to fiber laser as compared to the other technologies is the quality of our beam is significantly better. So, if you think about a flash light which has a very divergent beam, the less divergent the beam of a laser, the more of the power is focused on a specific spot. And even compared to other laser technologies our beam is extremely non-divergent. We actually produced lasers called single mode lasers up to 10 kilowatt so far, that have a practically non-divergent beam and they are used in some very advanced and special applications in the military where they are trying to shoot down incoming artillery or missiles from a significant distance away. So, that beam quality though has benefits in materials processing because it means the quality of the weld, the speed of the cut, the rate at which you can clad different materials has also improved.
A typical system that our customers use will incorporate an IPG laser in it that typically integrated to a robot. So, the increasing use of automation in manufacturing processes is helping IPG drive its sales as well as the total market for lasers. And then there are numerous different applications which the end customers use the lasers for I mentioned several of them. And there are very, very many finished products around the world which incorporate ours and other peoples lasers, in some instances you won’t even realize them, but the razor gentlemen who have shaved with this morning, the blades on that razor are likely being welded with a laser, Duracell batteries for examples are weld with IPG’s lasers.
Some of those benefits in terms of energy efficiency are pretty well highlighted on this slide where one of our customers has estimated that the energy consumption using a fiber laser is about 70% less than using a traditional CO2 laser. And when you combine that with significantly increased speeds to cut most materials but particularly with thinner metals as well as the ability to cut highly reflective metals like brass and copper, you get tremendous cost savings and lower cost of producing finished parts.
The estimate is from some of the (inaudible) applications are getting into now the cost of running a fiber laser is about $1.80 an hour as compared to about $5 an hour for a CO2 laser. And cost of producing a finished part is about 50% of the cost that they are incurring historically.
At the end of 2009, the only limitation that fiber had was cutting thicker metals and this was an example here in 15 millimeter steel. We are now cutting steel with thicknesses up to 25 millimeters. So, the final hurdle that CO2 claim that they will do that was a smaller part of the market that they addressed more robustly than we do or did, we are now starting to see as we improve the processes the ability to cut thick metals with fiber improving fairly dramatically, one of our OEMs in Japan made an announcement a few months ago that they are actually doing thickness is greater than 25 mil, with the cut quality being equivalent to CO2.
As I mentioned, the company is fairly diverse in terms of the geographic areas we address as well as the end uses. I talked a lot about the end uses, the smaller part of our businesses include these advanced and medical and telecommunications businesses, advanced applications don’t just include military applications, but they include applications that are like topographic mapping, and sensing, so we sell a laser that goes into a helicopters and obstacle warning system as a pretty advanced but relatively small business.
In terms of geographic diversification, five years ago this was probably more evenly spread one-third North America, one-third Europe and about one-third Asia and Australia. Tremendous growth in business in China has meant that Asia and Australia is our biggest market now. Sales in China in Q3 were about 30% of our total sales, there is some weakness in China we factored that into our guidance that we gave for Q4 that included about a 20% sequential decline in Chinese business. There are parts of the Chinese business but are weakest, so for example the 2D cutting market continues to be weak in China and the marking, engraving business is also little bit soft. However, the market for lasers used in welding and also microprocessing is relatively strong and robust.
Within Europe, on a year-on-year basis in Q4, our orders are actually up about 23%, and in North America on a year-on-year basis they are up about 11% sequentially in those areas they are pretty flat as well. So, we are going through a period given all the macroeconomic uncertainties that’s out there where the rate of growth in Q4 is certainly it's going to be flat to maybe a little bit down if we end up at the bottom end of our guidance range.
The overall order flow though I think points to a reasonable start to next year, we generally have a seasonally weak Q1 with a decline in revenue except for this last year where we were coming off very, very strong order flow in 2010. So, we do expect Q1 to be seasonally weaker as usual, I’d expect it to grow year-on-year by between 5 or 10%. If we see the economic environment improve in the second half of the year, I think we got a good change growing the business 15 to 20% in 2012, but it will be a slow start to the year and I think that everybody on the by-side and certainly on the street is [factoring] already reflecting that on the way the stock price is traded.
I think that in the next 18 to 24 months, one of the areas of strength is actually going to be North America. Historically, lasers in North America are really being focused and used in for example, the semiconductor industry or in the solar industry or very advanced applications service by [Coherent and Spectra-Physics] you saw a lot lasers into R&D. the U.S. has always lagged behind Germany and Japan, with the deployments of lasers into materials processing applications, whether that be in the automotive industry or other general manufacturing.
What you are seeing is a lot of those companies have significantly stronger balance sheet that they have had in the last 20 years and they have also demonstrated a desire to start looking at new production processes to improve the way that they are building stuff. So, we have got a lot of enquiries and we have seen a significant growth in our not just the automotive industry in the U.S. but for example we sold lasers this year into building locomotive engines, a lot of lasers also going into (inaudible) applications for cutting and even a major appliance manufacturer who has recently ordered lasers from us to build washing machines and microwave. So, we are seeing quite a transition I think in the U.S. from highly specialized laser processing to more industrial materials processing. Again I think we are going to have a good couple of years in North America.
The overall laser market that we address is about $2.5 billion, and the reasonable economic environment that’s expected to grow between 7 and 9%, it's primarily made up of materials processing within that marking and engraving makes up about $300 million of $1.7 billion; cutting applications are about 750 million and welding is about 250 million to 300 million.
Within marking and engraving we already have about 60% of that market being serviced by fiber without predominantly being supplied by IPG. Within cutting we will end this year with about 20% market share, so about 140 to $150 million worth of laser sold to cutting applications. Three years ago our share of the cutting market was low single-digits, so that’s being a tremendous rate of penetration. People thought that fiber might get to 30% of that market in 2015, in 2011 we are already at 20%, wouldn’t be surprised that next year we end up with like 30% the cutting market and ultimately the target is to grow fiber lasers for cutting to 60% plus.
In terms of welding, we are already a dominant technology there, we are about 60 to 70% of the welding market, the welding market is a moment, is relatively small, it's only a $250 million using lasers. But the really important thing to understand is that the welding market worldwide in total including non-laser technologies is about $5 billion equipment market. Lasers can address just about all of the automated part of that market. I’d estimate that to be about 30% of the 5 billion, and if we can grow our share of the automated market from 250 million to 500 million and maybe ultimately to 40 or 50% of that, it represents a welding market that grows to 500 million and maybe even 750 million. And most of that growth will come from fiber. So, the most significant opportunity for welding is outside of existing laser applications.
This is just a breakdown of our sales, what we have seen is high power lasers have displaced pulse lasers, the single biggest product, 35% of our sales. Here is the data, high-power lasers; pulsed lasers the rate of growth slowed down as the penetration to marking engraving has increased. The medium-power lasers which are primarily used in microprocessing applications, they are growing very well, you can see that on a slide, the laser in the financial section.
I mentioned that we are very vertically integrated company that drives significant benefits; it enables us to reduce cost very significantly; we have taken our diode cost from, when we used to source diodes from outside in 2003, they were $80 per watt. Our internal diode cost in 2012 will be below $5 and we can target $3, we already have a bill of material out there of $3 per watt. We are looking to reduce the cost of things even now like power supplies, the chillers within our lasers, we have made significant cost reduction to optical delivery systems like the beam switches, the optical heads. And we are in a very good margin on all of those accessories and components now. We are also able to control the quality of our product and focus our R&D very specifically on either cost reduction or commercially viable application.
Laser is a new wavelengths, green laser is finally really commercialized and we are expecting to increase sales out in 2012, we are now looking to develop a laser in the UV light range by adopting some of the technology that we developed around green and we are also expanding our systems business.
It also prevents competitors from taking advantage of IPG’s economy of scale and trying to develop a low cost component based themselves. IPG at the high-power level has 90% market share at lower power levels, it's lower than that, but really we are the, if you look at the diode market and you look at the type of diode we use, we consume 80% of the worldwide requirement of that area. So, even though people invest in diodes, their ability to improve or lower their cost and improve their throughput is limited because they have limited demand from other customers around the world. So, we really control this ability to reduce cost and it's not just through scale as well, I mentioned we focus lot of R&D in these component areas, our yields on diode production are extremely high as well. The mass manufacturing of modulators that go into pulse lasers, the cost that we achieve on that is significantly low than anybody else in the world.
We have a wide global reach, I mentioned that we are going to expand that into some of the areas in the map where we don’t have a significant presence, those include South America, more presence in Southeast Asia and we even sold lasers in places like South Africa, where there is a quite a strong manufacturing base that’s expanding with export not only within Africa but not only supplying to South Africa itself and exporting product within the rest of Africa, you would be surprised that the strength of the manufacturing base in South Africa. BMW has deployed a couple of laser via IPG’s five lasers in South Africa.
On the financial update, I’m going to pass it over to Tom Burgomaster, he is also a Vice President of Finance area of IPG.
Good morning. As Tim highlighted some of the benefits of [Technical Difficulty] Q3 numbers that you can see that the sales have increased 62%, and margins have increased to 55%. For the quarter we reported EPS of $0.66 per share as compared to $0.28 per share in Q3 of 2010.
The other thing that fits with what Tim has been saying earlier in the presentation is that the sales are really driven by high-power, high-power is now our most significant product line and you can see here that sales of high power lasers have increased from 25 million to 58 million in Q3 as compared to 2010. Pulse-lasers continue to grow but at a smaller pace. And medium-power lasers also are growing at a significant pace but on a smaller base. Low-power lasers here represent mostly our medical business and that remains relatively flat.
The other thing that this slide points out is a combination of the fact that high-power sales are driving our sales growth but also that as we reduce manufacturing cost we are able to pass those along to the customer while maintaining our gross margins and operating margins. So, here you can see that the total units we have sold between 2006 and 2010 has grown at an compounded annual growth rate of 17%, yet the power of the units we have sold has grown 42%. So, we have grown, we have outputted more kilowatts of power at 42%, we are selling higher power lasers and a smaller number of units to do that.
As our sales have increased as I mentioned we have actually managed to increase our gross margins and maintain [Technical Difficulty] and in the downturn of 2009 our margins did decrease to 34.6% but we did maintain profitability throughout that. So, there is tremendous leverage in the gross margin level. There is also a leverage of the operating profit level and you see that here as the sales have increased, we have been able to outpace sales increases as compared to increasing operating cost. So, we get tremendous leverage in our OEM model from sales cost and our G&A cost as well relative to the sales growth have been [obtained].
We also all of the results of the P&L have translated into a really solid balance sheet as well. We have managed to grow cash from 147 million in 2010 to 197 million this year. We have total assets of 600 million which is growth from 440 million last year. Our line of credit facilities and long-term debt have remained relatively stable and through all of these we have been able to manage financing $50 million of capital expenditures this year of which we spent approximately 37 million through Q3.
Some of the cash has benefitted from investments of a minority shareholder and our Russian subsidiary which we have disclosed. So, our financial position cash and liquidity position continues to be solid.
So, this financial results really held a story of the investment highlights. We continue to expand our fiber laser market opportunities, we have competitive advantages in both our manufacturing structure and the technology in our lasers [Technical Difficulty] leverage our financial results at both the gross margin and operating margin level.
[Technical Difficulty] like our manufacturing and intellectual property positions give us a significant first mover advantage.
So, with that I’d say thank you.
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