Jim McElree - Merriman Walter Nasdeo - Ardour Capital Sam Bergman - Bayberry Asset Management

Welcome to the Ultralife Corporation Third Quarter Earnings Conference Call. At this time for opening remarks and introductions, I would like to turn the call over to Ms. Jody Burfening. Please go ahead.

This is Jody Burfening of Lippert/Heilshorn & Associates. Thank you for joining us this morning for Ultralife Corporation’s earnings conference call for the third quarter fiscal 2010. With us on today’s call are John Kavazanjian, Ultralife’s President and CEO; and Phil Fain, Ultralife’s Chief Financial Officer. The earnings press release was issued earlier this morning and if anyone has not yet received a copy, I invite you to visit the Ultralife website at www.ultralifecorp.com, where you will find the release under Investor News in the Investor Relations section. Before turning the call over to management, I would like to remind everyone that some statements made during this conference call contains forward-looking statements based on current expectations. Actual results could differ materially from those projected as a result of various risks and uncertainties. These include worsening global economic conditions, increased competitive environment and pricing pressures, the possibility of intangible asset and impairment charges that may be taken, should management decide to retire one or more brands of acquired companies. The company cautions investors not to place undue reliance on forward-looking statements, which reflect the company’s analysis only as of today’s date. The company undertakes no obligation to publicly update forward-looking statements to reflect subsequent events or circumstances. A more detailed description of such uncertainties is contained in the company’s filings with the Securities and Exchange Commission such as the company’s report on Form 10-K for the period ending December 31, 2009. In addition, on today’s call, management will refer to certain non-GAAP financial measures that management considers to be useful metrics that differ from GAAP. These non-GAAP measures should be considered as supplemental to corresponding GAAP figures. With that, I would now like to turn the call over to John.

Good morning everybody and welcome to the Ultralife Corporation conference call for the third quarter of 2010. Joining me today is Phil Fain, our Chief Financial Officer. Today, we reported revenue of $53.3 million for the third quarter of 2010 and an operating profit of $4.7 million and an adjusted EBITDA of $6.9 million. Gross margin was 28% and this was led by a 35% gross margin in our Communications Systems segment primarily because of our mix highly engineered amplifier products. Battery and Energy products are on tract at 22% gross margin with the very strong showing by our China operation and despite a year-over-year sales decline due to the lack of shipments the standard military batteries to the Defense Logistics Agency. With the award of new contract and several new orders, we expect this revenue stream to return in 2011. In Battery and Energy products with the award of a contract and new order placements (inaudible) activity with standard batteries for the US Department of Defense coming back in 2011. Even without this business, strong international defense order activity, growing demand in the medical sector and strengths in our China operation with the growth in our non-DOD business. China and its first volume shipment of the new version of our 9-volt lithium batteries and saw continued activity and is lithium-thionyl chloride line particularly in the automated meter reading segment. Ultralife China is also seeing several new customers as well and has some very strong Thin Cell product. The Thin Cell packages, our industry leading lithium manganese oxide chemistry in a foil limited package with total flexibility in size and thickness down to as lowest 0.6 millimeters. The unique offerings it seem great interest in Tracking/RFID and smart card application. Communications Systems sales were robust $30 million fueled by shipments…

Earlier this morning, we released our third quarter results for 2010. Consolidated revenues for the third quarter totaled $53.3 million versus $42.4 million in the same period last year. The $10.9 million or 26% year-over-year increase reflects the strong performance in our Communications Systems segment, which increased almost $18 million over the third quarter of 2009 to $30.2 million. This increase primarily reflects shipments of SATCOM-On-The-Move systems to fulfill orders from the US contractor for use in MRAP armored vehicles. These orders will be completed in the fourth quarter. Revenues from our battery and energy product segment of $20.6 million were negatively impacted by the lack of orders for our BA-5390 military batteries from the Defense Logistics Agency in 2010, as compared to shipments of approximately $9 million in the third quarter of 2009. However, revenues from all other products in these segment most notably rechargeable battery products increased $5 million, or 32% over the year earlier quarter. As we announced in September Ultralife was awarded a 5-year indefinite quality contract from the DLA to supply our 5390 batteries over a 5-year period. Orders totaling $6.5 million that already have been placed for shipment in the first half of 2011. General economic conditions continued to impact our energy service segment. Revenues for the third quarter of $2.5 million were down almost $2.9 million from the same quarter in 2009. Revenues in the year earlier period reflected the completion of some large capital projects. The magnitude of which, we have not seen thus far in 2010. Our consolidated gross margin was significantly higher in the third quarter of 2010, $14.9 million compared to $10.4 million for the third quarter of 2009. As a percentage of total revenues consolidated gross margin was 27.9% in 2010 versus 24.5% for last year’s third quarter.…

I would like to now turn back to the operator and open it up for questions.

The question and answer session will be conducted electronically. (Operator Instructions). We’ll take our first question form Zach Larkin with Stephen’s Inc. Zach Larkin - Stephen’s Inc: The first question I had was on the SATCOM (inaudible) orders with those coming pretty much due in the December quarter finishing up, what are your guys expectations going forward on the pipeline with additional orders on that line?

There is continued business. We know that they are funded in the budget for the next year, 2011 budget for SATCOM systems they are out there; they are coming in to the system. We do not have the visibility of the mix price right now because we do not deal directly we go through prime on those contracts, but this year we have done about $25 million will do in SATCOM systems this year. We just take this continued business. The worse year we had 12 or 14 million SATCOM. It is out there, it just does not come necessarily with smooth flow. It comes when they do budgets procurement, but there is business out there for 2011. It is hard to say exactly what it is, it is a function of how many vehicles they are going to buy and which is going to deploy it to but in the environment in Afghanistan whether it is very little line of sight there’s going to be pretty heavy deployment of the systems. Zach Larkin - Stephen’s Inc: With the DLA orders it’s exciting to see those coming back. Are you assuming they get back to historic levels in 2011 maybe more towards the second half of the year?

Yes, when they put up the contract their estimate their contract went to September and their estimate was I do not know $5 million in September to September which is not quite a full year, it’s a government fiscal year but they have already ordered $6 million orders worth on that they like in the first half of the year. We have been in the range of any where from the 5390 anywhere in $3 million to $5 million dollars a quarter. That’s kind of right in that same range, and then there is other batteries which we expect them to start ordering most of them were given on contract earlier in the second quarter given the first quarter also. The answer is yes.: Zach Larkin - Stephen’s Inc: Also wondered if you could provide a little bit of color around some of the new products, what are your market expectations are for some of the good stealth storage? The Chinese operations what expectations, and how should we think that about going into 2011?:

I’ve talked a little bit about some of the comm products that we done and which is really taking the real compact amplification product we have deploying in other areas (inaudible) putting in our tactical repeater putting it in a package that’s ruggedized for vehicle operations and stuff.: On the battery side, I’d say that the three areas we’re the most excited about is number one, just deploying our smart power into other areas. We’ve seen over the last few years a lot of markets that traditionally bought nickel-metal hydride and NiCad batteries move to lithium batteries. Now, we’re seeing those people start saying, ‘we really want the battery to communicate with the application to get best use of it’ and so they’re going to smart batteries and that plays right into what we’re doing. We’re seeing that in medical products primarily but also in other areas. That’s number one.: Second, you mentioned China. We’re seeing more and more penetration in automated meter reading. It’s not that visible in the US here. It’s more visible in other parts of the world which are developing rapidly which don’t have an infrastructure for collecting money from people for gas, electricity and water. Metering in South America and then developing countries, China, India is big because it is all pre-paid. You take your money; you get it when the money runs out. You don’t get it any more because you don’t have to have a billing infrastructure. The products we have there for those meters are doing real well in other parts of the world.: Our thin cell product, which as I said, toll passes RFID is one application where in which tracks seafood shipments which have to track the temperature and location of seafood shipments to make sure that they don’t cool down which don’t heat up. You want to keep them cold. We are just seeing very interesting applications that we never thought of before ourselves actually. We start to get that out there.: The last area again, is like we said energy storage. We’ve been pretty clear couple of years before you’re going to see grid sized storage; that is what we’re doing. On the way to that, we expect to start deploying that in standby power and backup power. At the low end kind of unattended, distributed low-end first obviously and then scaling it up. Those are the things that we think are, that’s where our R&D dollars are going, let’s put it that way. That’s where our new products are.:

We’ll go next to Ted Kundtz with Needham.:

Just wanted to focus little bit on your guidance and what that implies for the fourth quarter. It sounds like the fourth quarter is even the revenue seemed to be in the $51 million range probably, it sounds like your targeted gross margins would be quite a bit lower as your operating income guidance is only $7 million. I just wanted to clarify that, to see if you could comment on as to why that would be dropping off like it seems to be, like you’re implying in the guidance?:

Good question, Ted and kind of knew somebody was going to ask that. We went to an annual guidance because we have a business that’s inherently; I don’t like the word ‘lumpy’, I mean no business comes in smoothly. I mean big companies for years have tried to do things to smoothen out.: We made a decision couple of years ago to just to run efficiently, and the way it comes in is the way it comes in and the way it goes out is the way it goes out. Satisfy our customers and run it efficiently as possible within our operations. It kind of boxes us in the fourth quarter to a quarterly number. We’re trying to give numbers. Some people characterize that, by the way, erratic. I would characterize it more as just the ups and downs of the way the business really happens.: As a result, we’re trying to make sure we can give people numbers that they can count on. It does cause us to be a little more prudent in the way we do it. Right now, in the fourth quarter we have a real good pipeline. We have a very funny thing every fourth quarter that goes on with the government because it is depended on the budget. Congress isn’t going to vote on the final budget till after the election. As a result what happens is, and this even happens when there is a budget that it does take time for new budget to get handed out. We usually see a flurry of activity in September at the end government fiscal year and then not again until November, it just gets takes time for the services to get their budget from the Pentagon and for them to pass it down to units. We…

Going to the low end of your sales wouldn’t imply a little better margin than the one I gave you, the 22% to 23% maybe a little higher but margins could be a little affected in the quarter a bit because of primarily mix, you are saying. There’s nothing fundamentally going on that.

We’d be very disappointed if we didn’t do better than but all we’re doing is saying we can’t count on it (inaudible) have a lot of mix variation.

How much of the SATCOM order was shipped in Q3? I assume the bulk of this, what was it, $21 million order you got last May?

A good bit of it that we had (inaudible) and its just we don’t want to start giving guidance on the numbers (inaudible) try to break down (inaudible).

Because I would assume that would be you had good margins it that segment. I assume it would tend to hold if there is not enough products going through (inaudible)?

To be honest with you, the gross margin on the (inaudible) is the segment margin down a little bit.

Down a little bit, okay. Just if could, John, go back to the energy services side a bit. What is really going on there? Is that segment really low across the board? Are you guys taking a little longer to get a market penetration in the segment for the standby power side? I would have thought that business would be a little bit better?

That segment is low across the board. Our best account, our best sales people as near as we can tell it’s running at about 50% what it ran two years ago. All the industry reports say that, all the competitors say that, capital expenditures are down. There’s tremendous amount of deferred maintenance going on out there and deferred project. They’re going to come back. I will get two reasons why, number one, we see behavior where sometimes where people have multi string backup systems, multiple string back in each other off where people would have things go bad in one string, well, they are just coming telling (inaudible) they don’t want to make the expenditure they want to it. Sooner or later we just know it, if you let too much of a string go down for too long you’re going to end up replacing everything. We just see it. The second thing I will tell you is that we’re seeing a big, big upswing in contracting starting in the fourth quarter doing in the next year in the wireless business. That’s going to come back first, exactly that’s what happened, a tremendous amount of 3G and 4G deployments across the US and we see it coming, we’re talking and lining up contracts, getting a pretty good (inaudible) we have a much more demand than we can execute on the wireless civil work site and once they deployed that batteries just follow, and we think that’s just the start there. We are keeping our infrastructure in place, we are economizing and getting our utilizations up as best we can, but we just think there is a tremendous amount of infrastructure there that’s required. Surprisingly enough we think we are gaining market share. I know that sounds kind of funny when you look at the numbers. The easiest thing in the world for us to do is (inaudible) put a million dollars in the bottom line. We fundamentally think it’s important to our deployment of large scale lithium ion or lithium ion into semi, but we also know that business is coming back. This has happened before in that industry.

Okay, and is that the major reason for the year-over-year and year-to-date decline in that business because a bit from last year.

We had a huge Q3 last year in that business.

You did.

It came from kind of the end of some big projects. Yes, its big year-over-year, we try to do a running average, we have done 40%, 50% in that business.

All of that is with this, just this push out of the standby business.

Yes, we had stuff even in the quarter that pretty good size projects that just moved out a month or two. People just (inaudible) next month. They weren’t there before, now they are there and deferring, we really think this is coming down.

We’ll go next to Jim McElree with Merriman.

It sounds like; I’m sorry, let me restart. Q4 looks like it’s on the top line kind of equal to the Q3 numbers give or take. Can you explain how you get to that, the satellite on the move kit seems like it comes down, so what makes up that difference?

Well, we actually we have pretty good communications business coming over this quarter, SATCOM business, but our energy product or power, I’m sorry, power products, energy and -- energy products is really growing. We’ve got several overseas military contracts that we are delivering on. We have got programs in the US, things like IED jammer program, doing reorders, strong land warrior deployments, even I cannot complain too much about 5390s being down because we’re shipping batteries to the land warrior and those guys are using that system, they are not using the 90s, they’re using our land warrior batteries and chargers. Battery and energy products are getting even stronger into this quarter. Jim McElree – Merriman: Is that something where you have most of the orders in hand or there is still a fair amount of book and ship that you have to do?

Those are in hand. The business that I’d say we still have to do is really kind of our pricelist business or communications GSA pricelist business which is a pretty healthy business for us. We have got piles of quotes out there of people actually, we know they want to hear they’re qualified to just that, get money flowing through. It’s the money distribution system that’s there.

I know that you were asked this question about the Q4 operating income, but it seems like that you are being incredibly conservative on maintaining a $7 million operating income for the year.

We are trying to make sure that we give you numbers that you can count on. It really is that simple, Jim. We just have to be very careful, that is all.

Okay. I know you have not spoken about 2011 yet in terms of quantifying it, but can you just talk about what would be positive and negative relative to this year, you have already said that the energy services business should be better.

We think energy services will be better; we’ll have our DLA business back. We do not see any let up on the communication side. There may be a little less in the US, but the international business is just lining up to be really strong. Remember that a lot of what we did when we bought the AMTI amplifier line, it wasn’t just the amplifiers, it’s sat also. It’s really aimed at handheld radios. If you went, I do not think you’ve got to AUSA this year, but if you went to AUSA you will see in our booth, we could put a SATCOM systems on a person, I mean with a falcon or a microlighter or (inaudible) or an ITT radio you add our amp push-to-talk headset and a small antenna that we have, it’s a very easy to carry deployable antenna, you have SATCOM on a person. Most of the overseas militaries use handheld radios. They are not using the vehicle or the bag pack radios as much. It just really plays to that market. That will be, that we see as very strong market for next year. We anticipate keeping our operating expenses between $9 million or $10 million. It may go up if we have good big sales quarters because of the sales commissions. That is a good reason, they have to go up. We think $9 to $10 million, we think 25% -- while we may have a quarter or two because of the mix that will drop to 23% to 24% growth margin, we think 25% to 30% gross margin is the range we target. It is very sustainable. It is just, on a quarter-to-quarter basis; it is very hard because we have a very diverse business here to predict mix sometimes. But, as we look to next year, we are trying to build a good strong base, predictable, profitability and then just capture the upsides in a very strong incremental way which is kind of the way this quarter happened. That is what we are trying to do. If we got a great mix next quarter, yes, we could, like we did this quarter, we could really, we could have a similar type of situation, but we can’t just count on it. When we are forced into where we have to project -- we done it in the last quarter, we were boxed in to a quarter projection, we just wanted to be careful, that’s all.

Right. It does not sound like there is anything that would make the, let’s call it $50 million to $55 million of quarterly revenues decline dramatically.

Well, we got some orders, Jim, or you mean over the year.

Yes for 2011.

This year, we thought our base this year was in the $40 million to $45 million quarter range, right now we think we are in a $45 million to $50 million quarter range. But hopefully more stuff comes into it and nothing drops out, but that is something that we are assessing as we do our budget now for the Board for December and we’re just not prepared to talk about now, but we try to build a good strong base with the right business model.

This is my last question, can you talk about the backup power for telematics, is that a potential for 2011?

Well, we have an ongoing program, you started with something additional.

Yes.

There are other people who are putting telematic systems in their cars, Ford has a system now, whether they require backup or (inaudible) backup, we have done designs for numerous people overseas. We have done designs for other domestic automakers. I just cannot tell you when they are going to deploy them. We get into the cycle where they tell us what the deployments are for next year, the way auto industry works is. For our, with our products we see them get tested usually in the fall and they line up their distribution lines in the spring for the 2012. 2011 is pretty well set for now. 2011 model year they started production already. I do not see anything additional in 2011. The question is just somebody going to anything in 2012 or after that, I just don’t know. I have given up trying to forecast the auto industry, but we have done designs for people in it. If they are going to make crash notification feature of their system, they’re going to need a backup of some type.

We’ll go next to Walter Nasdeo with Ardour Capital.

Thank you. Good morning guys. Most of my questions have obviously already been addressed. One of the things though that I, kind of one and a half of the things I would like to ask you about are kind of stressing off with telematics but over into medical devices, we haven’t talked about that for a while and to see how that’s developing if it’s something that you still are aggressively working on or has it kind of taken a backseat to some of the things that you think will offer greater potential near term? Then how are you moving through your, how is that geography developing for you, or are you more focused in Asia now?

First, you asked about medical devices. I would tell you that we have been working about this for past six seven years. It is long development cycle. We have done designs for products that never made it to market. Then when you do get something that is going to get fielded you have at least some level of FDA approval generally required on it. It does take time. The products that are fielded this year we have some new products coming out next year to market that we started probably four years ago. We have these invisibility on it, on one hand things we start the designs early but it is got to get out there it is got to be successfully. Again, it is not a new effort, Walter. It’s just we’ve seen people over the rest of few years really start to move to the smart looking money battery with intelligence circuitry and that is what we do. I expect to continue, we got some pretty good projects coming in markets next year. We want to see and get out there and we want them to be successful. You asked about Europe, we still sell a fair amount of products in Europe. Actually our operation in China actually sells a fair amount of product in the Europe in the Meter (inaudible) market. We have some business to France; we have business to Turkey, several other countries with meter companies for meter reading. We already have business there. We have some other work going on with rechargeable in Europe. Military, we do a lot of work with the UK MoD and we also work with the other Allies militaries there and especially with a AMPI amplifier line, there is hardly a country there that we are not working with. Not just in Western Europe but Eastern Europe. With the Eastern Europe countries in NATO now, we’re starting to see some good size opportunities there. A lot of our military businesses is Asia, its certainly Australia, Japan, Singapore, we do work Korea. A lot of that work is in new work is being done in Europe.

We go next to Sam Bergman with Bayberry Asset Management.

A couple of questions. Can you give me an idea, if you looked at he newer products that come out in this quadrant and what is coming out in the fourth quarter, what would you consider because send it to higher margin product this quarter next quarter versus what you started with in the beginning of the year?

When you do a component product, Sam, generally component product margins are kind of in the 20% range. We have not had many of those most of the component products never aimed at going in to systems. Almost everything we have is kind of 30% and up type of margin. Some of our amplifier products they are very software intensive, they are very engineering intensive and some of those are 40% above. I mean the best answer I can give you is that nothing we have coming out of any subsidiary is under 30%, margin. That’s really been our target.

In facilities in China, how many facilities do you have currently and what is their capacity utilization at this point?

We have one factory in Shenzhen a village called Guanlan and its utilization is kind of a 100% right now. We can sell every thin cell that we can make. In fact our new night bulb is based on our thin cell product as well and so our adding capacity as fast as we can. We are adding shifts and we are automating. Wage rates are going up in China although we are really not talking about thick numbers but every penny counts and we are finding that it is worth automating for a lot of reasons, for one is that people do not do, people aren’t as repeatable as machines are. We are pretty well utilized the capacity there and we are working hard to increase that capacity.

The last question, (inaudible) SATCOM orders internationally when would you expect to start seeing some of those be coming out for orders? Is it more first quarter 2011? Would you think you will see something in the fourth quarter 2010?

You are talking about what I talked about the amplifier products you need to power together and kind of a future soldier configuration. That’s what I (inaudible). Yes, I do not want to put artificial deadline myself to give. Then I disadvantage myself in a negotiation but we are going to have a couple of deals here. In a reasonable amount of time it is purely a matter of, negotiating with governments isn’t that easy and so we would like to have an agreement soon but I am not putting artificial pressure on ourselves. We have a unique product offering that people need and want. Stay tuned, as I said, we will have at least (inaudible) done before the next conference call.

Just on the medical design products, have there been any design wins this quarter that you start ramping up product in the quarter two or not?

What I said to Walter was you get a design when in and sometimes it takes several years before you see the product in market. We have a there is at least probably two new products of note coming in the market next year, but they have to be successful obviously. We have to depend on manufactures saying that yes we are bringing this product to market, yes, they are going to order this part and in this volume. There is two designs that we have done over the last three years and gotten through the qualification with the manufacturer that are coming in next year. We are doing designs all the time for design wins. In the medical field the product actually has to get fielded and then it has to be successful to get (inaudible). It is a multiyear effort (inaudible).

Without knowing how well those are going to do, what is the market essential for those two products next year? Do you have any idea on that, on volume?

The medical products we do all have the potential to do kind of in the million to 10 million dollars year range depending on how well the product does. It is a big range.

(Operator instructions) We will go next to Ted Kundtz with Needham.

John, just a follow up. What was your estimated breakdown of revenue this year? If you do like a 180 million of revenue say how much of that is going to be commercial versus military. It is like a 60-40 split still?

That is probably right. We’re running about again I have said this multiple times our business still looks like about a third communication, a third commercial batteries, and a third military battery, which is 30%-30%-30% and then 10% in energy services. Right, its only the decimal points on that but that roughly looks like our breakdown.

Would you expect any change in that next year or is it just too early to tell? I mean we talked about a lot of potential commercial applications as well as military applications but…?

I do not expect a big change or being the big change would try to affect us to go to the commercial segment, right. But the problem is we keep doing so well in the military segment that they keep raising the bar for the commercial segment, but between medical some of our China products like Thin Cell and the lithium ion going into the backup power applications, we can get a good run on it next year so that 2012 will really take over little more. Having said that, we’re fielding so many great things to the US military like the pocket amplifier land warrior system, now the overseas guys are all saying, we’d like to have that too’, so.

Growth prospects in both areas look equally promising

Yes, we really focused down a year ago and it’s paying off

Could you tell us what you’re doing in 9-volt I don’t know if you revealed that or not?

It’s about a 10% of our business.

10% of your total business and you said it is growing roughly GDP rates.

We have been growing single-digit. We have been growing bigger percentages before the (inaudible) in about single-digit percentage.

We will go next to Sam Bergman with Bayberry Asset Management.

Just one last question on the Thin Cell product what is the largest product set the Thin Cell is used for number one in total in your business?

In volume?

In volume, yes.

We have one RFID application that has a tracking application is used in, that’s a pretty good size and the other one is the toll pass project. The way toll pass is working in China and set of a like an easy pass to put in your windshield you have a unit management windshield and you put a card in it. The card gets the power and that’s where we are.

Is that particular technology is being adopted in where else in the near future.

We are seeing smartcards be in very interesting market. There are smartcards with encryption on them and moving encryption codes on them that people are looking for more and more on them. Let’s put this way, there are a lot of people asking about the product in that market. We will let you know, when it becomes a big part of volume.

(Operator Instructions). There are no other questions coming in the queue at this time.

Excellent, well. We would like to thank you all for joining us today and we really look forward to sharing our progress with you again next quarter. Thank you and good morning.

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