Good morning. My name is Jackie and I will be your conference operator today. At this time, I would like to welcome everyone to the II-VI Incorporated fiscal year 2009 first quarter earnings conference call. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer session. (Operator instructions) Thank you. I’d now turn the conference over to Mr. Creaturo. You may begin your conference, sir.

Thank you, Jackie, and good morning everyone. I am Craig Creaturo, Chief Financial Officer and Treasurer of II-VI Incorporated. Welcome to the first quarter fiscal year 2009 II-VI Incorporated investor teleconference. As a reminder, this teleconference is being recorded on Tuesday, October 21, 2008. The forward-looking statements we may make during this teleconference speak as of today, and we do not undertake any obligation to update these statements to reflect events or circumstances occurring after today.

Thank you, Craig, for the introduction. I am Francis Kramer, President and CEO of II-VI Incorporated. Our results exceeded expectations for the first quarter of fiscal year 2009 despite the difficult economic conditions we find in the world today. Historically, the fourth quarter of our fiscal year exceeds the first quarter of the subsequent year due to seasonality effects of European holidays and vacations in the months of July and August. The results for our just completed first quarter suggest that our business level has been very good. The highlights during the first quarter at our Near-Infrared business segment focused on our military competencies. The Near-Infrared business began to leverage its strong quality ratings with key military customers and its high-level competency and optical and crystal component manufacturing and assembly. This has resulted in year-over-year growth in military shipments of 10% and more importantly has led to several new product opportunities with major military accounts. These opportunities include critical optical and mechanical sub-assemblies for strategic ground-based laser designator and range finder programs, as well as other opportunities such as YAG sub-assemblies for various target acquisition in laser range surveillance systems. It is anticipated that the non-UV filter military business will remain strong for the remainder of the year with orders expected to increase for the full year fiscal year ’09 in excess of 30%. The UV filter product line shipments continue to meet or exceed the required schedule for deliveries of assemblies to our primary customer. However, as discussed during the last quarter’s call, we have seen a reduction in delivery rates for this product line. We have been adjusting our production capacity accordingly and taking appropriate cost-cutting measures to maintain the profit level of this business as revenues decrease. The Near-Infrared business continued to utilize its low-cost manufacturing operations…

Thank you, Fran. Here are the items I would like to highlight before we move into the question-and-answer portion of the call. We noted in the press release the overall favorable developments that occurred in the quarter in the area of income taxes. In our most recent 10-K filing for the year ended June 30, 2008, we noted that during July 2008, the Internal Revenue Service completed its examination of the company’s US Federal income tax returns for the fiscal years 2005 and 2006. In accordance with FIN 48, the company used its updated information to revise its reserve for uncertain tax positions for those two years and recognize previously unrecognized tax benefits during the quarter. This positive news was in part offset by the identification of additional income tax exposure at certain of our foreign locations. As noted in the press release, the net favorable impact of these items during the quarter was approximately $3.6 million or $0.12 per share diluted. Excluding these items, the company anticipates its full year fiscal ’09 income tax rate to range between 25% and 27%. In fiscal year 2008, our bookings from continuing operations outpaced revenues by $29 million. As expected, during the just completed quarter, revenues exceeded bookings for the first time since the quarter ended June 30, 2006. We highlighted in the press release the presence of the significant booking of over $13 million that was included in the bookings for the prior quarter ended September 30, 2007. The impact of the lack of a comparable booking in the current quarter can be seen in the results of the Near-Infrared Optics business segment. As of September 30, 2008, we have healthy backlog in all business segments, totaling $121 million. The components of this backlog from continuing operations were Infrared Optics at…

Okay. (Operator instructions) The first question comes from the line of Avinash Kant. Your line is open.

Good morning, Fran and Craig.

Good morning.

Had – one clarification, of course. When you talked about the tax gains this time, you have given the net number that is $3.6 million. Could you break that out in terms of how much was the gain from the unrecognized factors and how much was it from the increased taxes from the regions?

Avinash, the details, as you said, net of that total $3.6 million in the 10-K, we noted that the number that was going to be – the favorable impact was going to be roughly about 4.5 million, 4.7 million. And it was pretty close to the number what was the favorable impact and then it was offset by – the difference was the negative impact from the additional exposure identified during the quarter. So, that was about $800,000 or $900,000. So, roughly 4.5 in the positive direction and roughly, say, $900,000 in the negative direction. Those are the two components.

Okay. If I remember correctly, when you talked after the June quarter, you had talked about expecting taxes at somewhere around 24%, 25% range, but now you are talking about fiscal year ’09 being 25% to 27%. Am I right?

That is correct. And that is based, Avinash, on the current expectation of the mix of earnings. It’s highly dependent upon where those earnings are generated, something that we continuing to look at and refine during the year. But right now, we are thinking somewhere in that 25% to 27% range – is our best estimate right now.

And except for that $4.5 million reversal, your taxes rid that $900,000 of additional impact would have been roughly around the same 25% to 27% range I would believe.

That’s right. It would have been somewhere around that range. That’s correct.

So, as far as extraordinary is concerned, we should consider the $4.5 million as extraordinary for the fiscal year ’09 and include the $900,000 in our numbers?

Well, we wanted to kind of pull both of them out and call both of them out because they are both fairly unique events. We think it’s – we’ve described them as the net amount, as we did in the press release, because we really thought that it’s unusual for both of those items to happen. We had previewed the one that we knew about by the time we filed the K. The other came about during the quarter. We wanted to kind of aggregate those two so that investors would get a handle on two unique items. The net impact was a very favorable impact, but we wanted to make sure that investors kind of aggregated those two and understood where – that those were unique tax items for the quarter.

Right. I do see that it makes clear difference compared to the first quarter of the last fiscal year, but going forward if you are going to be at the same tax bracket, I would rather kind of let it be the way it is, the 900,000 I would say. Is that a right way to think about it?

No, now we – we wanted to aggregate them so that, again, the investors can kind of look at those two together. That was our perspective of it, that they are both are unique items and again help people want to break it out, that’s fine, but the way we are looking at and are articulating it is really the sum of the two pieces together.

And I believe this extraordinary is also included in the fiscal year ’09 guidance that you have given on the EPS side?

That is correct.

Okay. Now a little bit about – historically you had at least 4% to 5% growth on the revenue side through acquisitions and of course, given the environment at this point and your cash position. Is it wise to expect the same in the fiscal year ’09?

We don’t currently have anything to announce. We are not announcing anything on this call. You are correct that that acquisition theme has been a part of our growth over the years. We are in a good position, as I noted in my comments, to take advantage of those, especially if valuations change or get adjusted downward. But we don’t have anything to announce right now. But we understand that our investors would come to expect that we will do them. We are not on a path or trajectory to do them every so often or every so many quarters or years or something like that. But we are trying to identify companies that might be worthwhile for us to add to our group of companies. Again, we don’t have anything to announce right now.

One more question –

In our acquisition and in our investment strategy, we did have and reported here that we’ve increased our position in Fuxin from 10% to 20%. And that allowed us to bring in the earnings that is our share of their earnings that we reported in this quarter for the first time. So we have a little bit of that help in the future quarters.

Right. And one final question and I’ll let people get in line, but – could you comment a little bit about Europe and how that is working out for you?

We have a sales office right in Damstart, Germany, where we have a very nice operation, and that deals with the Near-Infrared business and the Infrared business. And now we are opening an office there also for our Marlow Group, hired a very, very capable individual to run the office and have – are relocating from the UK into – to be there on the continent. So we can see a lot of growth opportunities for these thermal electric coolers and the use of the same type of a device for power generation. So, with the presence that we are going to build in Germany, I think we’ll be able to take care of mainly the continent of Europe and then into Eastern Europe where there is great activity especially in these thermal electrics.

Thanks so much, Fran.

You’re welcome.

And our next question comes from the line of Jiwon Lee. Your line is open.

Thank you. Good morning.

Good morning, Jiwon.

Things are certainly uncertain. But with that in mind, Fran, could you give us a little more color on your commercial Infrared Optics? Would you see out there what your customers are saying in two different ways, please, aftermarket versus OEMs and the geographies?

Okay. Let’s go maybe in general overall. The diversity of where these 55,000 high power lasers are installed around the world creates quite a diverse background on where our orders come from. And only about half the two-thirds come directly from the people running the lasers. The other half or something like that comes through the OEMs. We are also selling to the aftermarket. So you get the stage set, there is probably a third, a third, a third of these lasers installed in North America versus Europe versus Asia. And Asia mean mainly Japan with China coming on quick. So the down draft is happening with consumer goods and the things that people are buying. It will take some time before it finds its way down to our aftermarket slowing down. But I think we would be foolish not to expect that. And whether that takes six to nine months, it’s unclear to us, but the people are starting to slow down the use of their laser. They are not running 7/24 in some product categories. So, the aftermarket at the moment is holding very stable for us. I think for us to claim that it will remain that way well into the future would be foolish. I believe we will have a let-up. That’s really when you sort through our orders for the commercial CO2 laser optics, that’s 85%. 90% is the aftermarket demand. It’s the – the OEMs play some of that with us, but the OEMs are only building 5,000 to 5,500 lasers a year, high power CO2. And that number has headed down in my opinion to probably 4,500. They are telling us already – a couple accounts in Europe are saying we are off and we are starting to see it in Japan also.…

Okay. And a little more color on the geography, or did you kind of already say that?

Probably the softest area right now that’s talking about this – and you cannot get aftermarket data. So I have to go with OEM data. OEM data, it’s softest in Europe, next probably Japan starting to talk pretty much like they are going to hit the wall here and slow down, and the US is last. From the aftermarket side, I do not have a collective view of how it’s going, but – I can’t make a comment about the aftermarket by geography.

I see. Well, that’s fair enough. Thank you. And then looking at your revised FY ’09 guidance, your top line didn’t change so much, but especially your bottom end of your EPS guidance dropped against rather disproportionately. So what kind of a logic went in when you were putting the bottom line of the EPS guidance for the rest of the year?

I think it was that – you are picking up, Jiwon, we did – we kind of broadened the ranges out again because we are rolling up the individual businesses we have, and there is individual uncertainty in those forecasts, especially in the second half of the fiscal year. And so I think we decided it was prudent to kind of broaden it out a little bit. Really – our process is really not that much different than we have done in the past, but I think to Fran’s earlier comment, we are just sensing some uncertainty especially in the second half of the year as we kind of head into calendar ’09. And we wanted to make sure that those ranges were broadened up to capture that uncertainty.

Fair enough. And then did I miss the comment on how much of the military orders were pushed out to the second quarter? Could you quantify the numbers?

I don’t think I did. I said there were two large orders. Large for us is $0.5 million to $1 million. So, probably $1.5 million to $2.0 million pushed out.

Okay. And those were all sapphire or were they combination of germanium or even newly [ph] built?

Yes, one each.

Okay. Fair enough. And finally a housekeeping question, please. The percentage of foreign sales for the quarter.

Our percentage of foreign sales for the quarter was 49% and that’s up from the first quarter of last year, we had 42% of sales were international. Now it’s been raised up to 49%.

Okay. And then if I can kind of jab it in, I know you guys cannot talk a lot about sort of the deals that you may see out there. But what kind of things generally interest you? As you said, things do get a little more reasonable in valuation and you have made several smaller acquisitions. So, what kind of things really do interest you?

Two or three different areas, but probably if you want to put a banner over it all, it would be material-centered businesses that would be complementary or at least require the same skill set we have. And most of our four different businesses are centered around materials. We’d like to find something, a fifth business that’s material centered. We like ceramics. We also then go away from the materials a little bit to acquisitions that could round out our four existing business segments and there are some in each category. And the one I point to right now that we’ve been just working on a little at a time is our thermal electric business at Marlow. And there are other businesses we could maybe add to there, but certainly are increased in our Fuxin investment from 10 to 20 has given us a foothold down in the lower end of the thermal electric business. It’s not a big, big step, but we want to watch that whole food chain, let’s say, from the low end thermal electrics all the way to the top end where we are. Then if I apply that same strategic thinking to our other three businesses, I think we could find an acquisition that makes sense in each one of those other three.

Perfect. Thank you very much.

(Operator instructions) And your next question comes from the line of Greg Halter [ph]. Your line is open.

Yes. Wondered if you could comment on the share count, which I noticed went down from the prior year, the prior quarter actually. Is that just due to the share price decline?

I think it’s probably, Greg, more of an impact of – full impact of the finishing out of the share repurchase program that we did at the end of last fiscal year. So that we really finished that out in the third quarter of last fiscal year, you are getting a full year impact. And there was a little bit of impact there because of the share count, we – because of the stock price. But I think mostly it’s just that we – really it’s primarily driven by the impact of the – the full impact of the finishing out of the share repurchase program we did last year.

Okay. And discussing the share repurchase, are there any plans to reinstitute or bring in a new plan?

We don’t – Greg, we don’t currently have one. Our Board of Directors authorizes to finish the one that was open. And we finished that toward the end of the third quarter of last fiscal year. But currently, we do not have one that’s open.

Okay. And I think you may have indicated that your cash flow from operations was a use of $5 million in the quarter. Is that correct?

No, I think, Greg, we are trying to point out just the overall cash impact was a total net use in spite of doing some investments, capital spending, large tax payments, those things. So we were – we put in the EBITDA information and we put the cash flow details in the Q. But I was just really making the comment of the cash change from June to September was $5 million of used. And we did a lot of things – lot of uses of those cash and I was trying to identify some of those things, but it all netted to only a $5 million cash change during the quarter.

Okay, okay. And relative to your business being about half foreign sales, what kind of impact did currency have in the quarter and what kind would you expect going forward, now with the dollar at about 1.3 to the Euro?

To date, there has not been a significant impact to us. If you look around the world, a lot of our European sales, actually the majority of our European sales are the dollar dominated. So the Euro change does not impact us there. The yen, we are selling all of our – all of our sales in Japan are yen denominated. So to the extent that the yen would strengthen, that’s a little bit of a positive impact for us. But again, to date and especially in the quarter we just completed, really not any material change in the yen to dollar exchange rate during the past quarter. So, the quarter we ended, even if you look back to last fiscal year ’08, really this currency change is not really that significant for us, to the extent that the dollar does strengthen a little bit in Europe. That could have a continuing impact on the Euro denominated sales, but again that’s a very small portion of our overall sales into Europe.

Okay. And what would you anticipate your capital spending to be for the year? Any major projects there?

We anticipate it to be probably around the $20 million-ish range. I think that’s one thing as we kind of go further into the year that we will, again, see how the economy is doing. And we’ll obviously tailor that. We have quite a bit of flexibility in the components there. We don’t have any significant bricks and mortar type programs are going on with one exception. We are doing a fairly sizable expansion of our PRM facility in the Philippines. But beyond that, there is no significant multi multi-million dollar program that has been ramped up. A lot of it is buying equipment infrastructure for existing operations. And so we will definitely monitor that. As we said – showed in the press release, this quarter we did a little bit under $5 million. I would expect this to run roughly around that range for the rest of the fiscal year each quarter, but again we are going to watch that closely.

Okay. Two other quick ones –

It will be a little bit unfair not to say that we are probably leaning the number down. As we look into that second half, if we don’t take the 20 down by 10%, we just aren’t going to prepare ourselves properly for what we think will be out there.

Okay, that’s helpful. And two quick ones. On the backlog a year ago on an adjusted basis for continuing operations, what was that number?

Yes, I actually – see if I happen to have it. Actually I do have. A year ago, at the end of the first quarter of FY ’08, it was about $113 million. So it’s up a little bit from that point.

Up about 7% I guess.

Right. The peak that we had was the quarter we – the June ended quarter was $134 million. Now we are standing at a $121 million. But a year ago it was up – again, it was – September of ’07 was about $113 million.

Okay. And one last one relative to your guidance that you’ve given, the $1.79 to $1.89 for the earnings, just want to make sure that relative to that tax benefit of $0.12, if you strip that out, you’d be talking $1.67 to $1.77. Am I looking at that correctly?

That is correct. That’s right.

Okay, thank you.

Next question comes from the line of Chris McDonald. Your line is open.

Hey, Fran and Craig, thanks for taking my question. I just wanted to get an update or your sense on where you are with inventory levels on zinc selenide and zinc sulfide materials. I know you had been trying to build some inventory there. I just wanted to know if you are at back to normal levels now with the new capacity coming on line.

We are building up, but we are not back to where we want to be. We really have – we ran it very, very low to the extent where we actually stopped order taking for merchant sales of the material. So as you might guess, we like to have a very solid amount of the material on hand. And we do have three different shops where we have to keep them low to material. That’s in Suzhou, China, and Singapore and here in Saxonburg. On top of that, we want to have plenty to make all different types of orders quickly filled to our merchant customers. So we are on our way back, no doubt about it, but we are not there. And I don’t have – I cannot give a percent back to where we want to be, but we are not even – we are not the two-thirds the way back to where we want to be, I do not feel. It will take us another quarter or so with the mix of how this material gets sold on thickness and on size of the pieces, and then they are between selenide and sulfide. It just takes a while to build back to the level you are real happy with.

Okay. And the new furnaces are performing more or less like you would expect them to at this point? Is that right?

The new furnaces and our existing furnaces are close. We had a problem a year or so ago, and then we improved it six months ago and three months – and we are closing in on having that yield issue behind us. And all the new furnaces are behaving like the old furnaces. So we are in pretty good shape. I never would want to say they were all the way from fixed because we can improve.

Okay. And then, Fran, if I heard you right, I think you said you would expect orders for those military materials to be close to double what they were last year, down but you do have capacity up and yields are improving. Was that right, I just wanted to make sure I –

Yes, exactly. That’s where we are targeting – that’s really part of our plan this year to get back in the merchant supply business.

And so your ability to sell – just thinking through this, your ability to sell those materials would be at least help offset some of this anticipated aftermarket weakness as we work away into 2009, given I think margin is going to be pretty decent on those military and materials. Is that correct?

That’s exactly right. And then remember, we do have this UV filter business that we really enjoyed in ’08 and ’07 that is coming down now that most of the Apache helicopters have been outfitted. So making up of that – that revenue that we enjoyed, we are expecting to make some of that also by this merchant sale of selenide and sulfide.

Okay. And the schedule for the wind-down of the UV filter business, is that more or less in line with what you expected a quarter ago, or is it faster, slower, any change there?

Right now, it’s right on that pace. I think it will go – I think we are projecting it – we are about on track. We do not have a change in plan on that. Our prime customer is keeping us pretty well aware, and I think we need another order to stay on our plan in about five, six months. If that order doesn’t come through, it might not have a good tail into FY ’10 like we’re hoping for. But right now, we’re all set I think on UV for FY ’09.

Okay, great. Thank you. Nice quarter.

Thank you.

And your next question comes from the line of Avinash. Your line is open.

Hi, Fran and Craig, a few follow-up questions. Now in the guidance for the fiscal year ’09, should we expect much change in terms of the gross margin and the operating margin structure at this point?

We don’t think there is going to be any drastic changes, Avinash. We are – we don’t kind of get down to that level of granularity in the guidance. But overall, the way we’d model it out, we are not modeling out any significant changes in either the gross or operating margin make-ups of any of the businesses.

And how do you think – of course, zinc prices have been coming down. Have you seen any positive impact from that, especially on your material sales?

No, zinc is such a minor part of the cost on our zinc selenide. It’s dominated by selenium.

Okay, okay. And one broader question. Do you see other technologies coming and competing with you, especially in IR optics side? There have been some talks about other technologies that could come and actually – fiber technology that could come and kind of start competing with the CO2 laser side. Do you think that’s a possibility?

The fiber laser is continuing to do very, very well in welding applications. So it has kind of expanded the market for laser processing. The fiber laser coming into the cutting of thick metal has not been a factor to this point. I think it’s being worked on. We are aware of it, and that’s a part of the reason why we’ve bought this business HIGHYAG so that we can participate if a fiber laser or a diode laser or even a disc laser heads into the cutting of thick metals, where most of the CO2 lasers are positioned. If it goes there, we want to participate – the physics to make it happen has just not been concurred. But I think we have to be aware that it might happen sometime. So those type of lasers are competing with CO2. Then the broader question of is there any material or any other type of way to make CO2 lasers operate without the zinc selenide or without the diamond turn components that we use. I think there is always activity going on to go to higher and higher power CO2 lasers with more reflective optics. And the reflective optics bring us into a little more competition because others besides ourselves can diamond turn copper mirrors for those type of machines. We are the leader by far and all the diamond turn copper mirrors were 5 kilowatt CO2 lasers. But it’s possible that we get more competition there. If it’s transmissive optics for CO2 lasers, I think we are very strong.

At this point, have you seen much competition from the fiber lasers in the CO2 side?

I think there are places where the fiber lasers is doing some of the work that a CO2 had done in the past, but not in cutting. So I have to say they are really hitting the welding hard, the engraving, the marking hard. In the engraving and marking, CO2 lasers are very competitive. Those built in China are very, very low cost. So there is a bit of mini-battle going on in engraving and marking, fiber versus CO2. But I think it’s not been significant, but that’s where the fiber laser is knocking on the door.

Perfect. Thank you so much, Fran.

Our next question comes from the line of Joseph Garner [ph]. Your line is open.

Good morning, gentlemen. Most of my questions have been answered. The one thing, Fran, that you could help me putting the contents a little bit more. You talked a bit about the Military and Materials business. And I’m wondering historically how significant had that been for you in the past?

When compared to the CO2 product line, maybe 3% or 4% of the sales in that area. And that’s a rough and tough number. It’s important, but I think it can be more important. And I think we have a difficult row to hoe because our customers know that we use our capacity to serve internal needs first and sell in the merchant world second. And having shut off the merchant world for a while, they are skeptical.

Sure. And how long do you think it would take for some of that business to come back on line, given that you had been out of it for a while?

It just depends upon the timing of the programs that are going through because we also target to sell our material more toward the defense side of things to optics companies that are producing defense products. We are not really interested to sell to our competitors. So, if a couple of nice programs are coming along and they need a lot of material, we’ll bid on that and we’ll get right back in pretty quickly. But if there is no program, it will take us a while. Right now, it does appear like the programs are pretty – our opportunities are good. This Homeland Security that is IR surveillance systems are good opportunities for us.

Okay. And Craig, you commented a little earlier on margins you weren’t any significant change in gross and operating margins. I’m just wondering, specifically on the gross margin line, there was – you had a significant quarter-to-quarter pickup there. So do you believe that 43%-ish gross margin on product sales is sustainable then?

At that level of sales, Joe, I think it is. We are – again, we are forecasting a quarter – the upcoming second quarter where that general sales range we did just under $88 million this past quarter. That may – you know, that is going to come based on our guidance. So we are expecting that to be $82 million to $86 million. So we are going to get a little – we are not going to get such the volume impact that we had this quarter. So I don’t think it’s going to be a drastic change, but it’s – back to Fran’s earlier comments, especially in the Infrared Optics business, we have made some nice gains. We will continue to see that throughout the year as that business continues to progress. So we are expecting some gains there, but I think a little bit of the downward pressure, specifically, Joe, on Q2 is going to be a little lower of a revenue topline if we are going to have to compete with.

Okay. And then as far as operating expenses are concerned, if we get into a little bit more of a challenging business environment, are there things that you can do there in terms of reining in cost in certain areas to offset any revenue impact you might have?

Yes. And I made a few comments in my prepared comments that we are watching cost very closely and we are taking actions to keep our UV filter product line rate of profitability, for example, in line with what it has been, although it will be at a lower number. So we are making personnel adjustments as we go forward and trying to stay right on top of that. So, yes, we could make some cost changes. There are some limitations because we have – our fixed cost because of the amount of growth furnaces we have in all of our different locations, little higher than what you would like to have if you have to cut costs. So we’ll try to react quickly, and we are making some adjustments. I don’t think I can say that we’ve got great cost-cutting capacity, but we will be right on as quickly as we need to.

Okay. And the last question, Fran, you mentioned that the new furnaces are performing well. Is it safe to assume then that you are pleased with the yields that you are getting out of the new furnaces?

Yes. And that’s why I made that comment on that – that we’re almost where we should be. I don’t want to say we are there because we always need to keep improving. And then this business of growing materials, what amount we yield that’s good for our customers, it can always get better if we can figure something more out about the process.

Right. Okay. Thank you very much and congratulations for the good quarter.

Thank you, Joe.

I have no more questions in queue.

If there are no more questions, I would like to thank everyone for participating today. Our next earnings release for the quarter ending December 31, 2008 is tentatively scheduled for before the market opens on Tuesday, January 30, 2009, with the conference call to follow that same day at 9.00 AM Eastern Time. Thank you for participating in today’s conference call.

This concludes today’s conference. You may now disconnect.