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Edited Transcript of LUNA earnings conference call or presentation 7-Aug-19 9:00pm GMT

Q2 2019 Luna Innovations Inc Earnings Call

ROANOKE Aug 8, 2019 (Thomson StreetEvents) -- Edited Transcript of Luna Innovations Inc earnings conference call or presentation Wednesday, August 7, 2019 at 9:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Allison Woody

Luna Innovations Incorporated - Director of Administration

* Brian J. Soller

Luna Innovations Incorporated - VP & GM of Lightwave Division

* Dale E. Messick

Luna Innovations Incorporated - CFO

* Scott A. Graeff

Luna Innovations Incorporated - President, CEO, Treasurer, Secretary & Director

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Conference Call Participants

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* Barry Sine

* Jim Marrone

Singular Research, LLC - Equity Research Analyst

* Joichi Sakai

Singular Research, LLC - Equity Research Analyst

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Presentation

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Operator [1]

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Good afternoon, ladies and gentlemen, and welcome to the Quarter 2 2019 Luna Innovations Inc. Earnings Conference Call. (Operator Instructions)

As a reminder, this conference call is being recorded. I would now like to turn the conference over to your host, Ms. Allison Woody with Luna Innovations. You may begin.

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Allison Woody, Luna Innovations Incorporated - Director of Administration [2]

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Thank you, John. Good afternoon, and thank you for joining us today. This afternoon, we issued our second quarter fiscal 2019 earnings press release. In addition, we posted to the Investor Relations section of our website the 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 noncash 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 Lightweight Division, will be available to take your questions.

And at this time, I'd like to turn the call over to Scott.

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Scott A. Graeff, Luna Innovations Incorporated - President, CEO, Treasurer, Secretary & Director [3]

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Good afternoon, everyone, and thanks for joining our call. As Allison mentioned, we issued our second quarter fiscal 2019 press release at market close. Q2 was a terrific quarter, with exceptional progress on many fronts. As always, I must start by thanking the Luna team, who worked together collaboratively, helped support the very strong integration process, in part by welcoming the new colleagues from our recent acquisitions and by each taking responsibility for the results and success of our company. I am very proud of the accomplishments achieved by all of our Luna team members this quarter.

Before I cover the details of the quarter, I want to share with you an important project on which we worked this quarter. In the nearly 2 years since I took over the CEO position in leading Luna, this company has transformed in many ways.

We have simplified our organization and made some important acquisitions, both of which have allowed us to accelerate growth on the top and bottom lines. We have clarified our story to make our investment thesis more assessable. And in the past few months, our team has focused on strengthening the Luna corporate culture, in part by building the foundation of a meaningful vision, mission and values.

We know that our potential is significant, and as we continue to grow, both organically and through acquisition, we know how important it is to have these elements in place to serve our -- as our compass, guiding us to the future. I'm incredibly proud of the thoughtful work the team has done and want to share with you the new vision, mission and values for Luna Innovations.

Our vision is enabling the future with fiber. The way we will achieve that vision is through our mission, which is to enhance the safety, security and connectivity of people by leveraging our expertise in fiber optic-based technology and the information it provides. And finally, our values define the way we will work with one another and with all of our customers.

Our values are: Ownership. We are dedicated to every customer success through personal accountability to meet business goals, improve systems and, ultimately, solve problems.

Integrity. We expect the Luna team to do the right thing by stressing honesty, openness, ethics and fairness, as our reputation is everything.

Creativity. We are constantly striving to redefine the standard of excellence in everything we do by challenging conventional views to drive change.

Enthusiasm. Our colleagues succeed by passionately applying energy and intellect to help us surpass our previous achievements.

And finally, results oriented. We are determined to be the best at doing what matters the most.

We have begun the process of rolling this out to our whole organization. It's important work, and we want these elements to be something all of our colleagues live and breath every day.

Now, let me turn and let me provide an overview of the quarter, and then I'll cover progress on acquisitions, integration year-to-date and some of the details of our operations.

The second quarter of 2019 marks the seventh consecutive quarter of double-digit year-over-year growth in our revenues from continuing operations. We grew total revenue 80% in the quarter versus the comparable year-ago period, and gross profit margin grew to 49% from 43%. Revenues from our Product and Licensing segment grew at a robust 155%, while revenues from our Technology Development segment grew at a very strong 18%.

For the second quarter, we reported adjusted EBITDA of $2.4 million, a $1.8 million increase over the second quarter of last year. This is an important metric because it shows 2 things: First, the robust growth of the Luna legacy business; and second, the accretion from both the Micron Optics acquisition in October of '18, and the General Photonics acquisition in March of this year. Both of these are being combined into our Lightweight Division. If you recall that when we announced these acquisitions, we committed to both acquisitions being accretive immediately. And despite higher SG&A and R&D expenses from integrating 2 acquisitions, you'll see a strong increase in our pretax income from continuing operations. So again, you're seeing the earnings benefit we've gained nearly immediately from these 2 acquisitions.

Before I cover progress in our operations, I'd like to share an update on the integration progress for Micron Optics and General Photonics. These 2 companies fit squarely into our vision for long-term growth. We've described our 2 main target verticals for lightweight product offerings as falling either into fiber optic sensing solutions or solutions for high-speed communications test. Our acquisition of Micron Optics, whose products fall in the sensing category; and General Photonics, whose products generally being in the comms test area, allow us to bring more value to our customers, garner more share of wallet in existing accounts with a global sales force and accelerate growth through addressing a larger segment of our target markets.

As we discussed on our last call, integration is progressing very rapidly. We continue to move quickly to merge complementary products into integrated customer solutions and migrate sales, marketing and engineering teams to common systems under centralized management within our Lightweight Division. With both acquisitions, the teams are working very well together to combine sales efforts, integrate product offerings and find operational efficiencies across our engineering and manufacturing organizations. Significant progress has been made in branding, messaging and marketing. Our domestic and international sales teams and network of distribution are in the process of being merged, and we're already seeing the benefits in terms of access to a broader market for Luna's key growing product lines.

Now moving on to our businesses, starting with Lightwave. First the sensing area, and then moving on to communications test.

As a reminder, our fiber optic sensing solutions focused on the integration of optical fiber sensors in and on advanced materials and structures for the measurement of physical qualities, such as strain, temperature and acceleration. They can be combined with our instruments to assess the integrity, quality and reliability of new materials. So for example, materials used in modern aerospace design, in field applications for long-term health monitoring of bridges and dams, or perimeter sensing. Our leading sensing products are ODiSI and HYPERION. The sensing group grew significantly in Q2 versus the prior year period, bolstered by the acquisition of Micron Optics.

We recently announced that we signed an exclusive license agreement with Meggitt, a leading international company that specializes in high-performance components and subsystems for the commercial airline industry. Through this agreement, Meggitt will develop and supply its innovative next-generation overheat and fire detection systems for aircraft engines by integrating Luna's proprietary HYPERION fiber optic-based technology, which improves sensor accuracy and reliability, ensuring passenger and crew safety.

Our collaboration with Meggitt will proceed in phases. In the current phase, Meggitt is funding Luna to develop a customized laser module, leveraging Luna's current commercial design, but ruggedized for on-aircraft deployment. During Phase 2, we will work together with Meggitt's engineering team to develop a fiber optic-based sensing interrogator, leveraging Luna's IP and know-how that will be powered by the laser module developed in Phase 1. In Phase 3, Luna will be Meggitt's exclusive supplier of laser modules for Meggitt's overheat and fire detection systems, the heart of which will be the jointly developed fiber optic-based sensing interrogator.

We expect the time to market for the jointly-developed system to be between 2 and 3 years. We are very excited and believe this is an important indicator of our potential that we will have products integrated into safety systems for commercial aircraft. This development agreement, combined with a large robotics laser order we spoke about on the last earnings call, further underscores the growing commercial demand for Luna's specialized capabilities.

Moving to our 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. This ability runs the gamut from core telecommunications networks, to data-centric networks found in data centers, to enabling cloud computing and 5G mobile networking. Our products feed the need for speed and include: the OVA, the Optical Vector Analyzer; the OBR, the Optical Backscatter Reflectometer; and our General Photonics portfolio of products. Growth in this segment for Q2 2019 more than doubled versus the prior year, bolstered by a full quarter of General Photonics products. In addition, growth of our OVA and OBR family of products was well into the double digits on a year-over-year basis, an indication that our product strategies and investments in sales and marketing are paying off.

We've continued to invest in our communications test segment by adding engineering staff to accelerate our new product platforms, and, as I've mentioned previously, we expect to release 2 new products in 2019.

In Q2, we began trials with key customers and also made our first customer deliveries of the first of these products, the 6415 Lightweight Component Analyzer. The 6415 is the newest member of our OBR family of products and will help optical component manufacturers, and especially those who work in silicon photonics, make better designs with higher quality, higher throughput and lower cost. We expect to have more news about the second product when we speak with you in the coming months.

In our communications test segment, the integration of General Photonics continues to progress well. The team in Chino is working closely with our Lightwave team in Blacksburg, to identify and execute on efficiencies and cross-selling opportunities. All of the work that we've done to lay the foundation of growth in fiber optics is starting to pay off. When I think about this strategically, the timing couldn't have worked out better for us. While the industry is moving away from steel into lighter-weight materials, they were also moving away from strain gauges and into fiber optics. Lightweighting is getting a lot of momentum, and we're starting to see the penetration outside of R&D and into production and orders. We're excited about the momentum that we're seeing, and you'll hear more about this area in the very 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 second quarter compared to the prior year period. New sales and continuing growth into the process control and nondestructive testing markets were strong in Q2. We continued with our strategy of enhancing market presence and sales channel expansion with the addition of a new distribution partner. This addition accelerated our sales and marketing efforts to deliver both a single-point gauge and a line scan gauge product into new market opportunities. The main drivers for Terahertz adoption continue to be 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 showed double-digit year-over-year growth of 18% for the second quarter. Remember, the recent acquisitions are fully within the Lightwave Division and do not impact the contract research segment. As the technologies from these contracts mature, we look for ways to get them to market as efficiently as possible. Overall, I am very pleased with the strong performance from our technology development team this quarter.

So with a strong first half performance, today, we are raising our guidance. We now expect full year revenues to be in the range of $66 million to $69 million. This is up from our previous guidance range of $60 million to $65 million. We also now expect a better pull-through of our full year 2019 adjusted EBITDA to be in the range of $7.2 million to $7.6 million. This is up from our prior guidance range of $6 million to $6.5 million.

In summary, I'll reiterate that I continue to be very pleased with our performance this quarter and the first half of 2019. The integration of the 2 recent acquisitions is progressing rapidly, and the teams are executing at a pace that exceeds our expectation for the first half of the year. And we continue to focus on executing against our core strategy by delivering high-quality products with a commitment to customer excellence.

Now I'd like to turn the call over to Dale to review our second quarter results in more detail. Dale?

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Dale E. Messick, Luna Innovations Incorporated - CFO [4]

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Thanks, Scott. I'd like to start by covering a number of components of this quarter 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 second quarter of 2018 have been reclassified to discontinued operations in our income statement. There were $768,000 of income reported in discontinued operations for that quarter. So all of my comments for second quarter of 2018 as well as year-over-year comparisons should take into consideration this fact.

Second, the income statement for the second quarter of 2019 includes a full quarter of both the Micron Optics and General Photonics acquisitions. So this is the first full quarter to provide you a perspective on what the total company looks like moving forward.

Finally, also in SG&A, there are just over $0.5 million in noncash expenses that will continue to recur in future quarters, which are also associated with the 2 acquisitions, and include amortization of the new intangible assets and an increase in share-based compensation.

Our revenues for the quarter ended June 30, 2019, were $17.8 million compared to revenues of $9.9 million for the same period of the prior year, representing an 80% year-over-year increase. The increase in revenues year-over-year was composed of a 155% increase in our Product and Licensing segment along with an 18% increase in our technology development segment, continuing the strong revenue growth performance delivered 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 Lightwave and Terahertz legacy businesses. This strong growth wasn't only the result of our acquisitions. Our organic top line growth for the second quarter was well into the double digits year-over-year.

Our gross profit increased to $8.8 million for the quarter compared to $4.2 million for the same quarter of last year, representing a gross margin of 49% in Q2 of 2019 compared to 43% in Q2 of 2018.

The gross margin improvement reflects the changing mix of our revenues, with 64% of our revenues coming from the Product and Licensing segment in the second quarter of this year compared to 45% in the second quarter of last year.

Operating expenses were $7.7 million or 43% of revenue for the 3 months ended June 30, 2019, compared to $4 million or 41% of revenue for the 3 months ended June 30, 2018. The increase in SG&A expenses was largely driven by 2 items. First, the increase was largely driven by 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. And second, increased sales and marketing expenses of our Lightwave Division, as we ramped that organization to support growth over the second half of last year, also contributed to the year-over-year SG&A increase.

As Scott mentioned, our adjusted EBITDA was $2.4 million for the quarter versus $0.5 million for the second quarter of 2018. This robust performance was driven primarily by the strong top line performance from both our legacy businesses as well as those we acquired, coupled with our ongoing expense management.

Net income attributable to common stockholders for the 3 months ended June 30, 2019, was $0.8 million compared to $1 million for the 3 months ended June 30, 2018.

As a reminder, this quarter's income also included $0.5 million of noncash expenses for share-based compensation and amortization of intangible assets associated with the acquisition of Micron Optics and General Photonics.

We ended the quarter with $23.5 million of cash and cash equivalents compared to $42.5 million at the end of 2018. The decrease in cash resulted from the cash purchase price of the General Photonics acquisition and related transaction expenses.

Our working capital was $39.4 million at June 30, down from $56.1 million at the end of last year. Again, the decrease is attributable to the cash paid for the General Photonics acquisition.

And finally, with respect to the balance sheet, I want to point out that in May, we did pay off our outstanding term loan with SVB, and we have no remaining bank debt. And I'll conclude by reiterating what Scott said, how pleased we are with first half performance, which gives us the confidence to raise our guidance for full fiscal 2019.

And with that, I'll turn the call back to Scott.

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Scott A. Graeff, Luna Innovations Incorporated - President, CEO, Treasurer, Secretary & Director [5]

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Thank you, Dale. At this time, I'd like to open up the call for questions.

Brian Soller, our Senior Vice President and General Manager of Lightwave is with Dale and me at this time and is also available to answer your questions. So John, if there's any questions?

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Questions and Answers

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Operator [1]

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(Operator Instructions)

Your first question comes from the line of Tim Savageaux from Northland Security.

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Unidentified Analyst, [2]

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This is actually Stephen on the line for Tim. I'm wondering, since you had such a large increase in the Lightwave segment, can you actually break out the portion that General Photonics was attributable to?

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Scott A. Graeff, Luna Innovations Incorporated - President, CEO, Treasurer, Secretary & Director [3]

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Yes. We -- Stephen, I think I heard the question about breaking out the Lightwave revenue. Because of the -- both the Micron and the General Photonics acquisition were really product lines that we rolled into Lightwave. We really don't manage the business that way and don't really talk about it that way. It is products that either fall within our Comtest vertical or our sensing vertical. So we don't really manage them to the point where we break them out because of how those product lines just rolled into Lightwave.

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Unidentified Analyst, [4]

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Okay. And then, I guess, switching over to your Meggitt agreement. You did touch on [fire bit], but is there any way you can give us a little bit more color on that?

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Scott A. Graeff, Luna Innovations Incorporated - President, CEO, Treasurer, Secretary & Director [5]

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Well, I think, we talked about that Meggitt is making a very substantial investment into the development of this product that will go on over several years. We talked about that number. I think it's $1 million in 2019. I would expect that number or more next year to continue to develop the technology into the system, and we're moving forward to -- in turning that into a product. We met with them at the Paris Air Show and sat down with all senior management from CEO down to really sit down and make sure that this was a good partnership to get into. And I think we both were very pleased in stepping into this, but both of us made sure that all the boxes were checked before we got into this development agreement. So I'll let Brian give a little bit more color. He's close to this. This is rolling up inside of his organization, but it was very impressive -- it was a very impressive organization, traded on the London Exchange with Meggitt.

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Brian J. Soller, Luna Innovations Incorporated - VP & GM of Lightwave Division [6]

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Yes. So what we're doing -- the work we're doing together is to develop at Luna the optical engine or the heart, if you will, of a new generation of a fire detection system for commercial aircraft. So all commercial aircraft have fire detection systems on board and Meggitt is one of the leading -- world-leading suppliers of those. The industry is moving towards a fiber optic approach to that for a number of reasons. And they're more lightweight, higher quality, longer lasting, more effective. And Meggitt has chosen to partner with Luna on the development of -- exclusively on the development of their next-generation system, which will include fiber optics. And as I said, we will be the provider to this market through Meggitt of the optical, the engine, if you will, of that system.

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Operator [7]

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(Operator Instructions) Next question comes from the line of Barry Sine from Spartan Capital Securities.

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Barry Sine, [8]

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First question revolves around the gross margin. And I want to ask about it on both product categories that you break out. First, on technology development. Looks like there's a nice improvement there. Is that just a result of more activity flowing through? Is that sustainable? And then on the Lightwave, the Products Division, again, improvement there. How did the General Photonics gross margin look compared to the prior stand-alone Luna gross margin? And as what we've seen in this quarter, is that representative of what we might see in future quarters?

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Dale E. Messick, Luna Innovations Incorporated - CFO [9]

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Yes. Barry, the gross margin from the General Photonics business tracks really nicely with what Luna's historical product margins have been in the Lightwave business being largely an instrument kind -- instrument components kind of business. It fits in the same kind of revenue expectations -- or margin expectations for the revenue. So it didn't move the overall needle a whole lot in one direction or the other. It tracked very nicely with how our historical margins have been in the Lightwave business.

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Scott A. Graeff, Luna Innovations Incorporated - President, CEO, Treasurer, Secretary & Director [10]

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Yes. And on the TD side, I think a lot of that is product mix -- contract mix on the TDD side, whether it's cost plus or a fixed contract, things like that. So I think we've always talked about mid- to upper 20s in that contract research business. There's not much below the line, Barry, as you know. So you get a very nice pull-through to the operating income line. And I think what you're seeing on the overall increase in margin is mix. We're getting more product. As Dale mentioned, I think we were in the mid- to upper 60s as the mix between product and contracts. And the more that we add product revenue to the overall revenue, you'll see that margin will creep up as it leans more towards the 60-plus margin business versus the mid- to upper 20s business.

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Barry Sine, [11]

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Okay, that's helpful. And then the guidance. So you've just raised the guidance, and I'm specifically asking about revenue guidance, and so that's higher. And then that also implies pretty strong growth for the full year. On the other hand, if you analyze -- annualize the second quarter revenue number, it's above what you're guiding to for the full year now, even the high end. So are you trying to send a message that there may be a sequentially weaker quarter going ahead? Or you're just being conservative in terms of your numbers?

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Scott A. Graeff, Luna Innovations Incorporated - President, CEO, Treasurer, Secretary & Director [12]

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Yes -- no, we're not sending that message at all. I think what we're saying -- and we've always said that this business has some cyclicalitiness to it. And so H2 is typically a little bit better than H1, and 4 is certainly better than 3, better than 2, better than 1. So I think we look at the halfway point and somewhere in that $32.5 million range is where we sit on the revenue side. If you kind of double that, you'd be at the $65 million. And we believe that the cyclical side of the business, it will be a little bit higher than $65 million. So that's why we guided to $66 million. And we certainly aim to put out guidance that represents the landscape that sits in front of me at that given time. So we went out with $60 million and $65 million. We had just seen -- we had just done the transaction with General Photonics and in the process of integrating Micron. $60 million and $65 million is what the landscape in front of us showed. And I certainly wanted to come out and be as transparent as possible and give you the range in which the landscape's showing us now. So I -- we think $66 million to $69 million is a fair range, and we'll see where that comes out now.

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Dale E. Messick, Luna Innovations Incorporated - CFO [13]

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Yes. Barry, just to clarify, if you take our Q2 and do 2 more quarters at that rate, and add that -- you'd be at like $67.5 million or so for the full year, not above the top end of our range. So certainly, if you just took Q2 x 4, you would be. But you have to keep in mind that, in Q1, we didn't have the full quarter of General Photonics, and so it's a little bit of adjustment you have to make in that calculation.

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Scott A. Graeff, Luna Innovations Incorporated - President, CEO, Treasurer, Secretary & Director [14]

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And Q1 is always the softest quarter, so you have the factor that in. So I think you got to look at where we are in an actual through 6 months, Barry, and then look at what we believe we can drive home in the second half.

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Barry Sine, [15]

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Okay. And then last question. Kind of lost in the mix with all the fiber optic news is the T-Ray product line. And I know you putting a lot of marketing resources behind there. I think they've moved offices, and you've been to a lot more trade shows. Could you talk specifically about how that product line is doing the Terahertz sensing?

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Scott A. Graeff, Luna Innovations Incorporated - President, CEO, Treasurer, Secretary & Director [16]

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Yes. That continues to fit very nicely within our sensing vertical. So as I talk within the Lightwave Division, you have these 2 verticals and one being the sensing. And it's the third product that I talk about in that sensing vertical. So you have the OVA -- I mean, the ODiSI, the HYPERION and the Terahertz product. And our team Ann Arbor -- we have moved -- at January 1, we moved them into a separate location. And they are really driving on all cylinders out there with the entire team led by our General Manager out there, Margaret Murdock. So it is continuing to penetrate into the market. We sign up additional VARs and distributors, and we're seeing that momentum. Brian, you're involved with them, if you have any additional information?

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Brian J. Soller, Luna Innovations Incorporated - VP & GM of Lightwave Division [17]

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Yes. The team in Ann Arbor who are working on Terahertz has done a fantastic job in improving the product and in concert with adding new sales channels and distribution, and we hit on that. Scott, hit on it in his discussion of the second quarter. We did add a global reseller in Q2 that led to some new business for the nondestructive test market, which is focused on aerospace, oil and gas and automotive, primarily. Q2 was strong, again, in the aerospace market, in general; also strong, again, in process control, which is the 2 main areas of focus for the Terahertz team. So again, as the product improves and as the team brings on and builds more capacity through international sales channels, we expect to continue to see progress there, and Q2 was an example of that.

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Scott A. Graeff, Luna Innovations Incorporated - President, CEO, Treasurer, Secretary & Director [18]

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Yes, Barry, I've always been careful with the Terahertz products, specifically. And I certainly just don't want to overpromise. I mean, I think, they are making -- they had a lot of progress to make, and they have made that progress with getting cost down and some clean up internally, and that has gone beyond our expectations and the job that they have done out there. So I just don't want to get out ahead of that. And I want to be cautious because the percentages are huge, but there are percentages on some smaller numbers. So I'll continue to update you guys as that makes progress, but we have very high expectations on where this product can go given the technology and where it sits.

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Barry Sine, [19]

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And if I could sneak one more thing in. Just want to get a better sense of the average selling price of some of the products from the 2 new acquisitions. If I look at the prior Luna product line, a lot of the boxes that you show on your website have a ASP, I think, around $100,000 give or take range. Where do we stand -- if I look at the General Photonics website, they talk about the MPC-203. And then Micron, you've got the si155. Are those products in the similar ASP? Are they lower? Or -- how does that work on those 2 units?

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Scott A. Graeff, Luna Innovations Incorporated - President, CEO, Treasurer, Secretary & Director [20]

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Generally, lower ASPs and higher volumes, and that goes for both General Photonics and for Micron Optics. And as you penetrate the portion of the market that we've been aiming at, the more production type applications, the more field type applications, price pressures get a little bit firmer. And that was certainly part of our strategy when we were looking at the 2 acquisitions was to flesh out our portfolio and keep the high end with our legacy products. And those ASPs do tend to be more in the $100,000 per range, but then to add and grow market penetration and share through a broader portfolio, which includes the lower ASPs. So on the General Photonics side, components and modules can be down in the $5,000 to $10,000 range; instruments, $10,000 to $20,000. And then in Micron Optics, we have solutions that range anywhere from $10,000 for a single channel system up to north of $50,000 for multichannel high-performance systems. So it's really a good mix now of price and performance that we have in the portfolio.

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Operator [21]

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Next question comes from the line of [Neil Fagan].

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Unidentified Analyst, [22]

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So I just had a couple of quick questions, Scott, around some of your business development activities. And I'm curious, is most of your organic revenue growth coming from expansions within existing customers or from business with new customers?

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Scott A. Graeff, Luna Innovations Incorporated - President, CEO, Treasurer, Secretary & Director [23]

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Yes. I think it's a combination of both. I mean, I think we see folks that we've been working with that say -- are in Silicon Photonics that are expanding. And you see the markets growing inside of those specific markets. So while we're picking up new customers, keep in mind that while we're doing this, we are, and I mentioned it in my comments, gravitating out of the R&D cost, R&D plus at this point. But you're seeing customers pick up from buying those twosie, threesies to buying more. And I think as they drive into the half dozen, dozen into greater numbers, we are certainly seeing that in folks that have been working with us, proving this technology out and now saying, "I'm ready to move more into production, more into manufacturing." And that -- when you start moving into that, there are some customers that are piggybacking that have always been in manufacturing. So we pick up those folks that are gravitating into that and some that were in manufacturing waiting for us there. That fair, Brian?

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Brian J. Soller, Luna Innovations Incorporated - VP & GM of Lightwave Division [24]

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Yes. (inaudible) accurate.

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Unidentified Analyst, [25]

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Okay. Well without mentioning any customers by name, you've got some very large customers in the aerospace and auto markets that you're focused on. Several of those companies have been using your product now for quite a while in more prototype R&D-type work. Are you getting any sense when some of them may move into mass producing their next-generation of product and go from meeting, as you put it, 1s and 2s and a dozen of your boxes to potentially hundreds? Is there -- without -- I'm not looking for a specific time frame or a specific customer, but are you starting to sense that we could be, within a year or 2, if some of them really kind of taking it into mass production?

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Scott A. Graeff, Luna Innovations Incorporated - President, CEO, Treasurer, Secretary & Director [26]

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Yes. We are certainly seeing that. The short answer is, yes. The answer inside of a year, I would say -- I would say you have to be careful with the timing of that. But we are certainly seeing ramped up numbers that are coming from them and the continued acceptance of this product moving into a standardization within their manufacturing facility. So I can tell you, we'll be first to announce when we see some of those larger numbers. You'll know when we know, and it is certainly ramping that way, I can tell you that.

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Unidentified Analyst, [27]

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Okay. And listen, my final question, switching gears to new customers, are there 1 or 2 new customer wins in the first half of the year that you guys are especially excited about in terms of either the potential they hold long-term for us or the application that they're using the product for? Again, not interested in the customer name, but are there 1 or 2 that stand out that you'd like to share to give us a flavor of what's going on there with the new customer wins?

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Brian J. Soller, Luna Innovations Incorporated - VP & GM of Lightwave Division [28]

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Yes. So there are certainly several examples. And as you said, not really getting into the specific names, but several of the major automotive manufacturers we've made really good progress with in the first half of this year that have been kind of on the sidelines, as you could say, maybe over the course of the last previous 12 or 18 months that have gone into investing in the technology in the first half. And you can't sell 100 systems until you sell the first one, so to your question about multiple units. And so we were able to penetrate several of the bigger players in automotive this year, and we have a couple of examples in aerospace as well. We have talked in the past about our progress with the top top tier, and everybody knows kind of who those are. But really, we've worked hard on the middle tier in that next 10 or 15 airframe manufacturers, and we have made progress with several of them in the first half of this year, and we take that to be a really good

sign.

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Operator [29]

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Next question comes from the line of Chris Sakai from Singular Research.

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Joichi Sakai, Singular Research, LLC - Equity Research Analyst [30]

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Just had a question on the -- you said -- you mentioned that you merged 2 sales teams. Were there any cost reductions there?

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Brian J. Soller, Luna Innovations Incorporated - VP & GM of Lightwave Division [31]

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We did. We've merged sales teams across our kind of legacy team, if you will, and the additional teams that came with our recent acquisitions. And we have not, on that side of the business, have not looked at and have not made any sales reductions. If anything, we're looking at making investments.

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Scott A. Graeff, Luna Innovations Incorporated - President, CEO, Treasurer, Secretary & Director [32]

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Yes. One of the things, and keep in mind, Chris, as we've talked before, both these acquisitions that we did, at Micron and at General Photonics, were calls placed by us reaching out to them. These are folks that we worked with in the past. Micron Optics was certainly someone that if someone wanted to go longer range, we would refer them to Micron. If they were on shorter range, they would refer them to us. And on the General photonics side, these were folks that we passed in the lobby of customers all the time. And we really felt like they were adding to the depth of those market verticals that we are in. So by picking up these 2 acquisitions, we really got a chance to merge those sales teams together. And there were some things that we saw were very positive in the areas that they were in that we were not. So I think as we look at adding additional sales teams that we had in our budget for 2019, these acquisitions fill some of those holes that we had already in our budget. Never a better higher than someone who comes to an acquisition that already knows the product and can pick up the combined product line.

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Joichi Sakai, Singular Research, LLC - Equity Research Analyst [33]

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Okay. Speaking of new hires, with all this growth, are you guys forecasting adding new hiring on and new training?

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Scott A. Graeff, Luna Innovations Incorporated - President, CEO, Treasurer, Secretary & Director [34]

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Well, Brian says he has plenty of bandwidth, so I don't think we need to hire anyone else down in his division, so -- no, I think we constantly look at that. And it is a people-oriented business, and we're not a CapEx-focused business. It really is the people driving this, and I think we're on the pulse of that. I think we'll have to add -- Brian talked about adding engineers, but in many ways, to pull forward that product road map. Yes, the numbers that we have here, we don't see OpEx growing a ton. We believe that we have a lot of the infrastructure that can handle the volumes that we plan on doing to meet these growth goals that we're setting forth.

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Joichi Sakai, Singular Research, LLC - Equity Research Analyst [35]

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Okay. Great. And lastly, how many government contracts did you end the quarter with? And did you add or gain any? And are there -- is there going to be a time in the future where there's going to be a lot coming off or coming on?

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Dale E. Messick, Luna Innovations Incorporated - CFO [36]

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Yes. I don't know the specific number off the top of my head, Chris. As I think we've talked about before, we typically have 50-plus contracts at any point in time with the government in various areas and from various agencies, largely focused DOD, but with various agencies. And these things have ranges of life from just a few months to 1.5 years or 2. So there's a constant ebb and flow of agreements that we're working on at any point in time. But there's -- we don't see a specific kind of cliff or surge. It's a continuous growth that we've experienced and the groups are continuing to do well and getting their Phase 1 contracts convert into Phase 2 and that's propelling the group forward. So I don't think there's any significant change in the number of contracts that you should look for.

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Operator [37]

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(Operator Instructions) Next question comes from the line of [Robert Webber].

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Unidentified Analyst, [38]

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(inaudible) and great report. This is just mostly a matter of curiosity for me because I was surprised when I read it, but I know you're into a lot of different things. I came across a press release regarding a research report and it listed Luna as a top or major player in the supposedly fast-growing bone glue or adhesive market. And I just wondered if there was any validity to that? Or if it's just someone selling research reports, I guess?

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Scott A. Graeff, Luna Innovations Incorporated - President, CEO, Treasurer, Secretary & Director [39]

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No. I think people write those reports. Those are contracts that we're working on, and we do a lot of great work in our contracts area, and the team has been working on that bone glue. We usually wait to talk about a lot of those things once they get out of the research and they get that proof-of-concept and move to some commercialization avenues. So we don't talk a lot about that, but a lot of the researchers do write quite a few reports about our work inside the research area. So we're very proud of that research work being done up in our Charlottesville office, and we'll continue to keep the investors apprised to that as it progresses along.

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Unidentified Analyst, [40]

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Okay. So there is something potentially to it anyway?

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Scott A. Graeff, Luna Innovations Incorporated - President, CEO, Treasurer, Secretary & Director [41]

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Yes, of course. Yes.

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Operator [42]

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Next question comes from the line of Jim Marrone.

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Jim Marrone, Singular Research, LLC - Equity Research Analyst [43]

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My question is in regards to just the synergies in regards to the acquisitions. Were you able to quantify those synergies? And if you have quantified them, how much of those synergies have been realized so far? How much longer is there in the time line as far as exhaustion of those synergies? And just as another follow-up question, just in regards to any potential upcoming acquisitions. Just trying to get a sense of what the market is like for potential acquisition. Just kind of getting a sense of the pipeline. What's coming across your desk? Anything attractive, both geographically or within product lines?

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Scott A. Graeff, Luna Innovations Incorporated - President, CEO, Treasurer, Secretary & Director [44]

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Yes. So let me -- I'll address the questions and then I'll turn it over to Dale to talk a little bit more about some of the synergies. But keep in mind that both of these companies that we acquired, Micron and General Photonics, were private companies, and they just didn't have a lot of overhead. So it was not a typical standalone public company that had a lot of infrastructure between CEOs, CFOs, things like that, that we just didn't need. So we didn't have huge infrastructures that needed to be downsized. And again, like I said, I'll let Dale talk about some of those synergies that we certainly recognized, specifically at General Photonics, maybe. But on the acquisition side, like I've said before, 2019 is a year of getting our ski legs underneath. So I think it's a matter of really integrating these 2 acquisitions that we did in the last 6 months and make sure they're done correctly. And so we continue to work forward with that with always keeping kind of highs down range in acquisitions. We certainly take calls and take meetings as things come up, but we really want to get things in order. As Dale said, Q2 is the first quarter that you could kind of get a normalized feel of what Luna is and where we are after these acquisitions, where you have a full quarter of the Gen Pho and Micron embedded inside of Lightwave. So -- but I -- we continue to look, but I would say that we will drive 2019 on this organic side and make sure that the integration gets done properly, and we head ourselves with a lot of momentum into 2020. What we'll lead with in the future? We'll continue to look at things that fit. We've been very fortunate in the acquisitions that we've done. We feel like they were the right deals. They were good deals, and they were seeing the accretiveness of those deals. So Dale, you want to add anything on the synergy side and the...

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Dale E. Messick, Luna Innovations Incorporated - CFO [45]

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Yes. I mean, you really hit the nail with us, Scott, already. But as Scott mentioned, (inaudible) private companies that didn't have the same level of infrastructure and as we typically see a public company that spends $1 million plus on legal fees and accounting fees and compliance efforts and whatnot. Those kind of things oftentimes create big synergy -- cost synergy opportunities in a acquisition just weren't -- aren't present in these.

We have -- we do have (inaudible) in terms of some accounting fees and insurance costs and things like that, but there's not a large pool of infrastructure costs that you should look at coming out. The synergies that we view as getting from these are really in terms of the customer side of the business and the overlap of engineering talent.

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Operator [46]

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(Operator Instructions) I am showing no further questions at this time. I would now like to turn the conference back to our speakers.

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Scott A. Graeff, Luna Innovations Incorporated - President, CEO, Treasurer, Secretary & Director [47]

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Thank you, everyone, for joining us today. As I hope you will take away from our call, I am incredibly proud of the strong first half to this fiscal year and the performance delivered by our employees. I look forward to seeing many of you at our upcoming conferences. But if you have any questions in the meantime, feel free to contact us directly. This completes today's call, and thank you for your time and interest in Luna Innovations. Johnny?

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Operator [48]

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Ladies and gentlemen, this concludes today's conference. Thank you for your participation, and have a wonderful day. You may all disconnect.