Luna Innovations Incorporated (NASDAQ:LUNA) Q3 2019 Earnings Conference Call November 5, 2019 5:00 PM ET
Allison Woody - Director of Administration
Scott Graeff - President and Chief Executive Officer
Dale Messick - Chief Financial Officer
Brian Soller - Senior Vice President and General Manager, Lightwave Division
Conference Call Participants
Barry Sine - Spartan Capital
Tim Savageaux - Northland Capital Markets
Good afternoon, ladies and gentlemen, and welcome to the Q3 2019 Luna Innovations Incorporated Earnings Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session, and instructions will follow at that time. [Operator Instructions] As a reminder, this conference call is being recorded.
And I would like to turn the conference over to your host, Allison Woody, Director of Administration. Ma’am, you may begin.
Thank you. Good afternoon and thank you for joining us today. This afternoon, we issued our third quarter fiscal 2019 earnings press release. In addition, we posted to the investor relations section of our website a presentation with supplemental information for the quarter. If you do not have a copy of the release or the supplemental materials, please check our website at lunainc.com. We will also post a replay of this call to our website.
Some of our comments and discussions today are based on non-GAAP measures, specifically adjusted EBITDA. These adjusted numbers exclude the effect of certain non-cash expenses and other items. The adjusted results are a supplement to the GAAP financial statements. Luna believes the presentation and exclusion of these items is useful in order to focus on what we deem to be a more reliable indicator of ongoing operating performance.
Before we proceed with our presentation today, let us remind you that statements made on this conference call, as well as in our public filings, releases and websites, which are not historical facts, may be forward-looking statements that involve risks and uncertainties and are subject to changes at any time, including, but not limited to statements about our expectations regarding future operating results or the ongoing prospects of the company.
Actual results may differ materially as a result of a variety of factors. More complete information regarding forward-looking statements, risks and uncertainties is available in the company’s SEC filings, which can be found on the SEC website and our website. We disclaim any obligation to update any such factors or to announce publicly the results of any revisions to any of the forward-looking statements to reflect future events or developments except as required by law.
After our prepared remarks, Scott Graeff, our President and Chief Executive Officer; Dale Messick, our Chief Financial Officer; and Brian Soller, Senior Vice President and General Manager of our Lightwave Division will be available to take your questions.
And at this time, I’d like to turn the call over to Scott.
Good afternoon, everyone and thanks for joining our call. As Allison mentioned, we issued our third quarter fiscal 2019 press release at market close. Q3 was truly a quarter of significant progress for Luna. And as always, I have to start by thanking my Luna colleagues. Delivering a string of strong consecutive quarterly performance comes from working collaboratively as a team. And this team has worked incredibly hard to deliver the results you’re hearing about today.
You will see that we drove very strong financial results and I’ll cover more of these details of the specific metrics for the quarter in a moment. But first, I’d like to highlight a few important accomplishments that have helped to set us up for continued success.
First, we did some important work on our capital structure. We eliminate the preferred shares, which have been on our balance sheet for many years, converting them to common equity. Prior to that conversion, we were able to meet the requirements that allowed us to eliminate the dividend on those preferred shares.
Secondly in the quarter, we instituted and completed a $2 million share repurchase program, providing a return to our shareholders. Through this program, we reduced our outstanding shares by more than 330,000.
And third, we strengthened our board with the addition of Mary Beth Vitale, a seasoned executive and cybersecurity expert. As we went through the process, we were highly focused on adding diversity, both in experience and gender. And I couldn’t be more pleased with our success bringing in Mary Beth, who is adding value in an already terrific board.
As I mentioned to you on our last quarter’s call, this company has transformed in many ways in the two years that I’ve been CEO. We continue to believe that our potential is significant. Our performance year-to-date combined with the visibility that we have into the remainder of fiscal 2019 gives us the confidence to raise our guidance for the second time this year.
We now expect full year revenues to be in the range of $69 million to $70 million, up from our previous guidance range of $66 million to $69 million. We also expect continued pull through to our full year 2019 adjusted EBITDA. We now expect adjusted EBITDA to be in the range of $8.2 million to $8.6 million, up from our previous guidance range of $7.2 million to $7.6 million.
Now, let me provide an overview of the quarter and some of the details of our operations. The third quarter of 2019 marched the 8th consecutive quarter of double-digit year-over-year growth in our revenues from continuing operations.
We grew total revenues 72% in the quarter versus a comparable year ago period and gross profit margin grew to more than 50% from 44%. Revenues from our products and licensing segment grew at a robust 122%, while revenues from our technology development segment grew a very strong 22%. For the third quarter, we reported net income from continuing operations of $1.2 million or $0.04 per fully diluted share.
I want to note that we reported adjusted EBITDA of $2.9 million, about $2 million more than the third quarter of last year. Adjusted EBITDA is an important metric, because it shows two things. First, the robust growth of the legacy Luna business and second, the significant accretion from both the Micron Optics acquisition in October of 2018, and the General Photonics acquisition in March of this year. Both of these are being combined into our Lightwave Division.
You may recall that when we announced those acquisitions, we committed to being accretive immediately and despite higher SG&A and R&D expenses from integrating two acquisitions and making core investments in the organic business, we had a strong increase in our pre-tax income from continuing operations in Q3.
Before I cover progress in our operations, I just wanted to make a few comments on Micron Optics and General Photonics. In fact, just a few weeks ago, we marked the one year anniversary of the Micron Optics acquisition. The integration of these acquisitions has gone better than anticipated. And as I’ve mentioned before, we see the evidence of that success on both the top and bottom lines. And I’m pleased to say that the integration of both Micron and General Photonics is essentially complete.
Now, let me move on to our business, starting with Lightwave. Product revenues grew by 122% led by triple-digit growth in the Lightwave Division on a year-over-year basis. For our group of sensing products, revenue in Q3 versus the prior year period represented one of the best growth quarters ever bolstered by the Micron Optics acquisition.
As a reminder, our fiber optics sensing solutions focused on the integration of optical fiber sensors in and on advanced materials and structures for the measurement of physical quantities, such as strain, temperature and acceleration.
They can be combined with our investments to access the integrity, quality and reliability of things like new materials and structures. So for example, materials used in modern aerospace design in field applications for long-term health monitoring of bridges and dams or perimeter security. Our leading sensing products are ODiSI and Hyperion.
We made significant development progress in Q3 on our ODiSI platform. The ODiSI product is the industry’s only ultra-high resolution distributed fiber sensing system. In Q3, we announced major improvements to the platform, including extended sensor lengths, larger strain measurement range, and improved performance in harsh environments. These improvements will help us better penetrate some of our newer markets such as industrial process monitoring and structural design of civil infrastructure.
Recently, NASA announced that Luna has been selected as one of the only 14 companies to partner with the agency’s Moon to Mars Exploration study. With a $2 million award, Luna’s fiber optics sensors will be embedded within inflatable space habitats to monitor their structural health and safety.
Within sensing, we all had several significant customer wins in Q3 with our Hyperion platform, which is our long range, high speed sensing solution. There are two wins that I want to highlight. First, we closed a 50 unit blanket order for Hyperion interrogators for delivering over the next 12 months, with our largest security systems integrator.
For this application, our Hyperion systems and associated fiber sensors are the basis of a perimeter intrusion detection system. Hyperion’s optical sensing technology enables our system integrators to provide the market with better detection, lower false alarm rates and better pinpointing capability.
And second, we delivered the first of the newest cloud connected configuration of Hyperion to be used for a bridge monitoring application. The new configuration takes advantage of IoT connectivity and cloud data storage, which will allow us to provide more value and services to our customers over the lifetime of an installation. We’ll provide more updates on this emerging capability in the future.
Moving to the communications test vertical, remember that this business focuses on the ever-growing need for more bandwidth in communications networks. Optical fiber is a key enabler to high speed communications. Visibility runs the gamut from core telecommunications networks to data-centric networks to enabling cloud computing and 5G mobile networking.
Our products feed the need for speed and include the OVA or Optical Vector Analyzer, the OBR or Optical Backscatter Reflectometer and a suite of polarization instruments and photonics controllers. Revenue in this segment for Q3 2019 was up on – in the triple-digits versus prior year, bolstered by the addition of General Photonics.
In addition, growth of our legacy OVA and OBR family of products was in the double-digits on a year-over-year basis, indicating that the underlying growth without acquisitions remains very strong. As I’ve mentioned previously, during the past 18 months, we’ve been investing in this segment by adding engineering staff and sales resources to accelerate our new product platforms.
On last quarter’s call, we discussed the first of these new additions to our portfolio, the 6415 Lightwave Component Analyzer. The 6415 is the newest member of the OBR family of products, and will help optical component manufacturers and especially those that work in silicon photonics make better designs with higher quality, higher throughput and lower cost.
Relative to the second new product, you may remember that a little over a year ago, Luna was recognized as an evolutionary technology supplier by Lockheed Martin. Luna was presented with the award acknowledging the company’s exceptional technology offerings for the support, testing and manufacturing of the F-35 fighter jet. I’m pleased to announce that initial orders of our second new product, the OBR 6200 were delivered as expected to Lockheed Martin in support of the F-35 program.
The OBR technology provides advanced design, diagnostic and inspection capabilities to fiber optic manufacturers, developers and installers by illustrating a map in ultra-high resolution of an optical link similar to how an X-ray might look. In this way, the OBR provides high sensitivity measurements of optical fiber components, assemblies and networks. For those of you who are familiar with OTDR technology, our OBR can be thought of as a very high resolution OTDR and we have the only such offering on the market.
Luna’s OBR products are used to quickly and easily ensure critical fiber paths are operating properly by verifying that light is being transmitted without loss throughout the entire fiber link. While the OBR technology historically has been used in lab and manufacturing environments, our new OBR 6200 is aimed at field applications that require portability.
We initially developed this in partnership with Lockheed Martin for field support of the F-35 by making the 6200 portable with an easy-to-use green light-red light touch screen. This allows for ease of use in identify and locating potential issues.
The OBR 6200 is a fully qualified for military operational specifications and it’s designed for field support, maintenance and troubleshooting of military aircraft that employ optical fiber links. The development and delivery of the OBR 6200 is a major accomplishment for Luna, and it demonstrates the critical nature of our products to global programs like the F-35.
I want to thank our engineers who have worked tirelessly on weekends and nights to deliver a product on-time, against a tight timetable and according to rigid military specifications. I am very proud of the team for this accomplishment. I want to take a moment to thank our long-term customer, Lockheed Martin for their incredible collaboration as well as their confidence in us. Their input has been key to successfully developing a user-friendly portable device that will enable their engineers to dependently troubleshoot fiber optic-based issues in an aircraft.
As I’ve said before, we’re now seeing the benefits from all our work that we’ve done to lay the foundation of growth in fiber optics. We continue to be excited about the momentum that we’re seeing and you’ll continue to hear more about this area from us in the near future.
Now moving on to Terahertz. Our product line is continuing the strong momentum built in previous quarters, with a robust double-digit increase in revenues for the third quarter compared to the prior year period. New sales and continued growth into the aerospace non-destructive testing, process control and research markets were strong in Q3.
And we continued with our strategy of enhancing market presence by deploying Terahertz sensors in the applications where high precision, high speed measurement or tolerance of harsh environments is required. During the quarter, we were awarded an Air Force contract to develop and install multiple Terahertz process control sensors used in the refurbishment of aircraft at Hill Air Force Base.
As you’ve heard me say in the past, the main drivers for Terahertz adoption haven’t changed. They are effective thickness control, lower manufacturing costs, minimization of waste and the optimization of product quality. We’ve maintained a good balance between ensuring efficiency in our daily operations, while still investing in growth opportunities.
And switching to our technology development group, we again show double-digit year-over-year growth of 22% for the third quarter. Remember, the recent acquisitions are fully within the Lightwave Division and do not impact the contract research segment.
As a reminder, when the technologies from these contracts mature, we will always look for ways to get them to the market as efficiently as possible. In most, if not all instances, we retain the intellectual property rights to these technologies. Overall, I am very pleased with the continued strong performance from our technology development team.
As I’ve mentioned at the onset of this call, this was truly a quarter of noteworthy accomplishments in a number of areas, including operations, financial results, capital structure and governance. Our accomplishments for the quarter and the strength of the pipeline gives us the confidence to again raise our annual guidance.
Remember that on the last quarter’s call, I outlined our vision, mission and values. As a reminder, our vision is enabling the future with fiber. And this quarter’s accomplishments clearly advance us in that vision. I’m thankful to the Luna team for delivering on our promises to our customers and grateful that our customers are willing to collaborate with us.
With that, let me hand the call over to Dale for more of the financial details. Dale?
Thank you, Scott. I’d like to start by covering a number of components of this quarter’s results. First, as a reminder with the sale of our optoelectronic components business in July of 2018, the operating results of that business for the third quarter of last year have been reclassified as discontinued operations in our income statement. As that sale took place in Q3 of last year, this will be the last quarter in which we have discontinued operations in the year-over-year comparison. Any time I reference Q3 of 2018, please note that there were $7.6 million of income reported in the discontinued operations for that quarter.
Also in SG&A, they’re just over a $0.5 million in non-cash expenses that will continue to recur in future quarters and are associated with the two acquisitions. They include amortization of new intangible assets, and an increase in our share-based compensation.
It will also be the last quarter in which we have the preferred dividend adjustment as Scott mentioned, we were able to see set dividend recognition at the end of Q3 2019 in the preferred shares converted to common.
Our revenues for the quarter ended September 30th of 2019, were $18.4 million, compared to revenues of $10.7 million for the same period of the prior year, representing a 72% year-over-year increase. The increase in revenues year-over-year was composed of 122% increase in our product and licensing segments along with a 22% increase in our technology development segment. Continuing the strong revenue growth performance delivered even as we entered into 2019.
Within the product and licensing segment, the year-over-year growth was driven by revenue associated with our recent acquisitions. In addition to strong top line growth from our legacy Lightwave and Terahertz businesses. Our organic top line for the third quarter grew strongly in the double-digits versus the prior year period.
Our gross profit increased to $9.3 million for the quarter, compared to $4.7 million for the same quarter of last year, representing a gross margin of more than 50% in Q3 of 2019 compared to 44% in Q3 of 2018. The gross margin improvement reflects the changing mix of our revenues, with 65% of our revenues coming from the product and licensing segment in the third quarter of this year, compared to 50% in the third quarter of last year.
Operating expenses were $7.8 million or 42% of revenue for the three months ended September 30th, 2019, compared to $4.1 million or 38% of revenue for the three months ended September 30, 2018.
The increase in SG&A expenses continued to be largely driven by the same two items I have mentioned in the second quarter call. The first driver of the increase is the ongoing incremental expenses associated with the operations of both Micron Optics and General Photonics and supporting the associated revenue growth provided by those operations. The second driver of the SG&A increase is higher sales and marketing expenses of our Lightwave operation, as we continue to ramp that organization to support the growth.
With the revenue growth and margin expansion, our operating profit improved to $1.5 million for the third quarter, compared to $0.6 million in Q3 of last year. Net income from continuing operations for Q3 of 2019 was $1.2 million or $0.04 per share, compared to $1.3 million also $0.04 per share for Q3 of 2018. With the 2018 results benefiting from the recognition of a $0.6 million income tax benefit.
And finally, a key metric reflecting our underlying operations is adjusted EBITDA. As Scott mentioned, adjusted EBITDA was nearly $2.9 million for the quarter, versus $0.9 million for the third quarter of 2018. This robust performance was driven primarily by strong top line growth from both our legacy business as well as those we acquired, coupled with our ongoing expense management.
So with three very solid quarters behind us this year, we feel confident in our new fiscal 2019 guidance. We ended the quarter with $21.4 million of cash and cash equivalents compared $42.5 million at the end of 2018 and $23.5 million at June 30th. The decrease in cash since the second quarter, resulting from the share repurchase program of $2 million that we’ve completed in September.
Our working capital was $39.2 million at September 30th, compared to $56.1 million at the end of last year, and flat with June 30th. The change from year end reflects the cash that we paid for General Photonics in Q1 of this fiscal year.
Also with respect to the balance sheet, I want to reiterate an important accomplishment which Scott referenced earlier, and which we announced in September. This accomplishment allowed us to simplify our capital structure.
On September 26th, we announced that a long-term shareholder Carilion Clinic provided notice to convert their 1.3 million shares of Series A convertible preferred stock into common stock on a 1 for 1 basis. This became effective on September 30th. Prior receiving the conversion notice, we met a specified condition within the preferred stock agreement that allowed us to terminate any future dividends on the preferred stock.
With the preferred stock no longer providing a dividend, Carilion decided to convert the shares to common shares. So at September 30th, we had no outstanding preferred stock and 30.2 million outstanding shares of common stock.
Certainly, the strong price performance of Luna’s shares supported our ability to accomplish the conversion. We thank all of our shareholders for having confidence in Luna, and especially thank Carilion Clinic who has been and continues to be a supportive, long-term shareholder of our company.
And with that, I’ll turn the call back to Scott.
Thank you, Dale. At this time, I’d like to open the call for questions. Brian Soller, our Senior Vice President and General Manager of our Lightwave Division is with Dale and me at this time, and he’s also available to address your questions. Lance?
[Operator Instructions] Your first question comes from the line of Barry Sine from Spartan Capital. Your line is now open.
Hey, good evening, gentlemen. First question on revenue and you know the strong results in the quarter. Could you kind of list what is your number one selling product? What’s number two? What’s number three? I think I have a sense of it, but if you can you call that out, please?
Well, I think we talk about it in the two market verticals, right, the sensing and the comm test. You know, I don’t know if you break it out, Brian, do you want to talk about –
Those two verticals are close to equal, 50:50 and then with – so within them within sensing, we have our two main products, Hyperion and ODiSI and within – so between the two of those, Barry, the Hyperion is more mature, it’s been on the market longer and has more sales. So it’s definitely the top seller within our sensing vertical. Though that said, the ODiSI product line as we’ve talked about here on the call in terms of its new features and the trajectory it’s on a higher growth path, I would say currently.
And looking at the other segment, within the Lightwave Division, the communications test segment, by far our biggest seller there would be our OBR product. So we did mention the introduction of a new version of that product here on the call today, a portable version, the 6200 product. And we’re looking forward to some very good things on that platform going forward. But yeah, so that’s how it breaks down between those two segments.
And then –
Yeah, I was going to say, Barry when you look at and you’ve seen the OBR, the bench top version, this portable version is a, you know, a handheld, touchscreen, portable, battery operated with an otterbox around it with mil spec which allows it to be dropped.
Really getting into the field deployment so looking at that when I said red light-green light, you know, it’s shooting a network and giving the technician or the mechanical engineer out on the tarmac, if you will, a go-no-go on that network. So it really is drifting into many applications that it can be used in a portable fashion. So I think that will continue to be a very strong leader in growth.
And in terms of revenue and merger integration, you said you’ve completed the integration. To what extent are you seeing salespeople, for example, for Micron or General Photonics selling legacy Luna and vice versa. Are your salespeople cross selling products that they you know, they were not used to selling?
Yeah, in fact more and more every day. Just prior to this call, I got off the sales review call and learned that we had some new cross selling wins coming in the legacy, you know, Luna ODiSI team positioning some Hyperion units with a customer of ours. It’s a low learning curve and we have a compensation plan in place that encourages that kind of cross selling. So yeah, I mean, it’s happening more and more as the weeks go by.
Okay, and maybe I could put Dale the hot seat on both SG&A and R&D, a bit of a – a little bit unexpected numbers, SG&A was lower than I expected and lower what we – than we’ve seen in the last couple of quarters, wondering if that’s recognition of a final merger synergies now that everything’s integrated, and then R&D is a little bit higher than you’ve been trending. Is that a purposeful increase in spend for new product development? Is that near-term? Or is that a longer-term research that maybe we won’t see the benefit probably another year or two?
Yes, certainly there was some increased spending on the R&D side, as we brought that 6200 to market. So it wasn’t anything that was surprising that sort of been built into our models. So you know, I think that – I don’t think you’ll see a significant snapback, I think we’ll - you know, we got other product development technology work going on. So, you know, I think we’re kind of running at this level now.
And on – SG&A?
Yeah, SG&A you know, it’s – it can fluctuate, you know, as we go through the year with things like professional fees that we’re encountering and well there’s not a significant SG&A synergy that came through as a result of the integrations. It’s just our normal operations that’s been reflected in there right now.
And just shifting gears on the buyback. You announced and then you did this pretty unusual, you did the whole buyback program, all at once right up front. But I’ve noticed the board has not authorized the new buyback, you still have, I think $21 million pretty significant cash on the balance sheet. Usually the board will meet before the quarterly results. So you know, what can I read into that in terms of buyback philosophy?
Yeah, I think we continue to have that conversation with the board. It’s ultimately you know, a you know, a board decision with management recommending. We have those conversations constantly. And we believe that as you know, the stock creeped up, we believed it was a low watermark.
I think I’ve said it to you before, I think it was a way to provide some return to shareholders. And, you know, we see, you know, huge growth potential here. And, you know, we’ve had some of that, you’ve seen, you know, with the 8th eighth consecutive quarter-over-quarter or year-over-year. And so we thought it was a good time to go out and then a good price to buy back some of the shares. So I think we’ll continue to address that.
And my last question, you announced on this call that you’ve completed the integration of the acquisitions that you’ve done. Could you update us where the company stands, what the philosophy is, and the thinking is in terms of potential future acquisitions, you still have no debt and a lot of cash [indiscernible]?
That's right. You know and I think, as I’ve said before, you know, 2019 really was – we – let me say we always continue to look downrange and look at things that might be a good strategic fit. You know, we’ve taken a lot of time here to clean up the strategy that we want to do. And we believe we’re best-in-class as it relates to fiber optic test and measurement. And so I think anything we look at, will fit under that umbrella.
And so 2019 was a year of making sure these integrations got done correctly, got done well. And I think we’ve accomplished that. So you know, we will certainly continue to look for things that makes sense, you’re right cash, we put some debt in place or some a line of credit in place and we’ll continue to look at you know, getting that that money to work at some point.
Okay, I’ll let somebody else take over. Thank you very much.
Yeah, thanks Barry.
[Operator Instructions] Your next question comes from the line of Tim Savageaux from Northland Capital Markets. Your line is open.
Hi, thanks. Good afternoon and you’d mentioned I guess the, or I guess in the discussion of EBITDA contributions from the core Luna business and the new acquisitions. And I don’t know that you can break it out in that degree of granularity, but I wonder if you could help us understand the organic growth rates is a little bit better obviously your reported growth rates are well up into the triple-digits and I think you made a reference to solid double-digit growth in your core Luna assets.
But as you look at both, you know, legacy Luna, if you will, and also the acquisitions, can you give us a sense of any, you know, what the organic growth rates might look like on each side and any notable changes there, and you’ve been saying pretty consistently that of the Lightwave products about half are coming from sensing and half in tests, are they growing about the same rate organically? And are there meaningful differences and how do you expect that to develop into Q4?
Yeah, well, I – you know, you’ve heard me say before, Tim that we don’t really manage the business as organic and inorganic just because of how these acquisitions rolled into Lightwave. Certainly, there are numbers that allow you to do a calculation that would be you know, kind of a low 20s on the true organic side, upper teens low 20s on the pure organic side as it relates to overall.
But I think I have been vocal with Luna as a whole mid to upper teens I think is the growth going forward when you look at this package that now includes Micron and includes General Photonics, you know, mid to upper 20s. And we’ve always said it’s a kind of a two-third-one-third with the products and the contract research.
You know, we believe that the contract research will clip along although they keep kind of proving us wrong here, but at the single to upper – you know, mid to upper single-digits, which means, the Lightwave side, the product side of the business will be in the mid to upper 20s. But as a whole Luna will be in that 15% to 20% CAGR year-over-year is how we see it.
Got it. Then as – again as you look across sensing and communications test, you see kind of or an equivalent growth rates in those two are equivalent opportunities in terms of any kind of major addressable markets emerging?
Yeah, you know, I’ll let Brian talk a little bit about that Tim. I see you know, when you look at the products and you look at what we’ve talked about with Hyperion and the longer range that we can do, you know, we have the ODiSI inside of 50 meters going out 8 channels. So 8 times 50, and then with the Hyperion being able to go kilometers, and being able to embed, you know, in things like aircraft and automobile perimeter sensing, you can see that growing pretty aggressively.
On the other side, you can see that, you know, this OBR that with a new introduction, the 1600, the portable touchscreen out there, field deployable, we see growth there. The Optical Vector Analyzer measuring down at the chip level with – in this 5G push. So we see good strong growth in both of those market verticals and I’ll let Brian give a little bit more color, you know he sees things.
No, I think that’s right. You know historically we’ve described these two verticals as sensing being the higher growth of the two, and communications tests being the larger of the two, but with the acquisitions we’ve done and with the new products we’ve launched, we’re closer now to kind of even on the two.
The sensing vertical is a bigger market overall, if you look at the size of the market, because there are just so many applications and we’re fighting incumbent electrical technologies. So the market share to be gained is significant and the market is big and there are a lot of opportunities. So we’ve kind of looked at that as the main driver behind our growth.
But with that said, as we’ve had an uptick in the communications market, and some of the trends we’ve seen there in terms of the supply chain underlying 5G, some of the wavelength selected switches that we support, the manufacturing of and the emergence of silicon photonics or integrated photonics.
We’ve definitely seen our communications tests segment catch up, if you will, from a growth perspective. And now as we look at the two with the emergence of our newest product, the portable handheld touchscreen version of our OBR our product, we sort of see growth rates being more evened out similar. So not a significant or substantial difference between the two.
Great, and if I could follow-up just you know, on the silicon photonics side and coming out of the recent ECOC Show in Dublin and very much in evidence there, a lot of development activity, a lot of startup activity around the silicon photonics area. I wonder if you had any impressions coming out of that show with regard to lose market opportunity in silicon photonics in particular?
Yeah. You know our impression was that, it was a nice validation of what we’ve seen. We’ve been talking about this for about a year now, I would say on these calls. And it was certainly a validation that the activity continues. There’s been more capital in as you as you mentioned, the startup side which helps us when new labs are tooling up they need our equipment we kind of are in a nice position of being almost a must-have if you’re developing silicon photonics platform.
So that definitely is part of the growth we’ve seen in the organic side through three quarters of this year. And you know, we’re keeping a very close eye on it, but you know, we definitely see that as a nice application for our products going into next year.
Yeah, I think ECOC was an example, where we had more action that we were talking about over the years, there were a lot of comments came back and I know you’re fast, you’re best-in-class and the fastest out there. We just don’t need it that fast.
You know, I think 10 years ago you would hear that and we believe somewhat the market has caught up with our product a little bit and with our technology, and now they have to have it. When you think the shops that are making the chips, making the wafers and measuring that down at the chip level, they need that speed.
And, you know, there were many times that I remember 10 years ago, 15 years ago that it was – I know it’s great, it would be nice to have, but it’s not a have to have. And I think we’ve developed in here to the have to haves.
Great. Thanks very much, and congrats on the results.
Yeah, thanks, Tim.
And we have a follow-up question coming from the line of Barry Sine. Your line is now open.
The development I think you guys have alluded to the fact that that segment seems to keep growing faster than expectations. And I noticed you have filed your 10-Q. In the 10-Q, the funded backlogs for next year, for 2020 is, if I did the math right, 48% higher than it was for the following year – a year ago’s 10-Q. So can that keep up the growth? Do you see that that might taper off? And on a related note, is the NASA contract that you’ve announced, is that inside technology development? Or is that products and licensing inside about fiber?
Well, the NASA contract is with the R&D group that reports up to Lightwave, reports up to Brian. So it’s the fiber optic contracts group that is within, using our ODiSI, using our OVA, using a lot of our products that we have to write and win contracts. So this is using the ODiSI and the sensing products that enabled us to win those contracts.
So it’s much more of a focused R&D group within Brian’ organization, as opposed to that contract research, Barry that we talked about, now where it rolls up contract-wise until it becomes selling their products, it could very well roll up into that contract research line item on our income streaming, but managed really within Brian’s organization using existing products to win those contracts. Those are third-party funded R&D that we would do regardless. That’s how we look at that. And it’s advancing technology that way.
As far as the backlog, Dale you –
Yeah, I mean of course, the backlog is continuing to grow where we’ve got that built into the expectations, you know, so, it has been impacted favorably here in Q3 with things like this NASA win with a Terahertz win that came in the third quarter. So we’ve had some meaningful appreciation.
And so yeah, we do expect the growth to continue significantly in the technology development segment. But I think as Scott mentioned, I wouldn’t continue to model it, you know, in a 22% you know, we think of it in the – on the high single-digit kind of growth rates for the longer-term.
Yeah, I mean, I think, Barry, you know – you just initiated coverage and we talked about, you know, the mid upper single-digits on the contract research side on this technology development division. And then I come out and tell you 22%. And so I mean it’s something that, you know, we’re good at writing contracts, we’re at developing them and we’re good at delivering on them. So, you know, I continue to say it does provide a lot of pull through for us and but where I guide everyone, I mean, I believe that’s still a fair guidance so.
Okay, great. Thank you.
Yeah, thanks Barry.
Your next question comes from the line of [Neil Higgins] [ph], a shareholder. Your line is now open.
Hey, Neil, how are you?
Good. Hey, listen you talked a lot about what Lockheed is doing with the new portable. I believe it’s OVR product. Do we have other military or commercial aerospace customers that are using that product in addition to Lockheed? And could you talk a little bit about what do you see kind of in the pipeline with some of our large aerospace customers in terms of putting fiber into the aircraft where they’re not currently doing that?
Yeah, yeah. We’re – it is a commercially viable product we sell – you know, we’re actually working with several. Lockheed is a little bit unique because when we went out with that press release talking about the award that they gave us, they were okay with us talking about the F-35 program, because it’s such a public program and using their name.
Typically we would not, you know, we would – it would – more drifty around you know a large company maybe based in Seattle, something like that. But I think as it relates to Lockheed, we’re able to use their name. And Brian, you want to give a little bit more, because we are out there watching this –
Yeah and Scott, I’m not even interested in the name of the customer. I’m just curious if we have other customers today that are actually purchasing it.
Yeah, we do Neil they – so this is the new variant, this is the first half dozen or so shipped off of our dock in Q3 and that’s sort of a newsworthy element to the quarter. Now that said, all of the, you know, the large you know, military, you know, OEM manufacturers of aircraft and or other fiber optic base systems use our OBR in the predecessors to this product.
So there are applications certainly outside of Lockheed and the other large players in that space, and there’s also quite a lot of activity in the commercial side. So as it relates to the new product, we just started I mean really just started shipping this new product, primarily Lockheed Martin at this point, but it does have broader applicability to anybody doing, you know any air framework that includes fiber optics. So that includes basically all the manufacturers, both military and commercial.
Okay, so it’s fair to say that you’re in the early days, both with Lockheed and with the other military and commercial customers, you’re kind of in the early days of where that product demand might be over the next few years. Is that accurate?
Yeah, that’s accurate. The good news is, we’ve got nice coverage with the predecessor products, as I mentioned, so it should be, you know, fairly low drag introducing a new version which is, as we mentioned, portable, touchscreen, et cetera that more designed for field use. But definitely in the early days as of now.
Okay. All right. Well appreciate you taking the call and great quarter.
Yeah, thanks Neil.
[Operator Instructions] I’m showing no further questions at this time. I would like to turn the conference over back to Scott Graeff for closing remarks.
Thank you, everyone for joining us today. As I hope you’ll take-away from our call, I’m incredibly proud of the strong results delivered by our employees across the company. We’ve been out meeting with investors over the past six months and you can find some of our webcast presentations on Luna’s IR website.
We’ll be out again on the road next week presenting at a scheduled investor meeting, as well as in December, presenting at the LD Micro Conference in LA. I hope to see some of you at an upcoming event. But if you have any questions in the meantime, please feel free to contact us. And with that, I’d like to thank you for your time and interest in Luna Innovations. Lance?
Ladies and gentlemen, this concludes today’s conference call. Thank you for your participation. You may all disconnect.