Hello and welcome to the nLIGHT Fourth Quarter 2022 Earnings Conference Call. All participants will be in a listen-only mode. [Operator Instructions]. Please note, this event is being recorded. I would now like to turn the conference over to Chief Financial Officer, Joseph Corso. Joe, please go ahead.

Thank you, and good afternoon, everyone. I’m Joe Corso, nLIGHT’s Chief Financial Officer. With me today is Scott Keeney, nLIGHT’s Chairman and CEO. Today’s discussion will contain forward-looking statements, including financial projections and plans for our business. Forward-looking statements are subject to risks and uncertainties, many of which are beyond our control, including the risks and uncertainties described from time-to-time in our SEC filings. Our results may differ materially from those projected on today’s call and we undertake no obligation to update publicly any forward-looking statement except as required by law. During the call, we will be discussing certain non-GAAP financial measures. We have provided reconciliations of these non-GAAP financial measures to the most directly comparable GAAP financial measures in our earnings release, which can be found on the Investor Relations section of our website. I will now turn the call over to Scott.

Thank you Joe. Our revenue performance in 2022 reflects the continuing evolution of our business model. Revenue declined 10% to $242 million driven by a 62% decline in revenue to customers in China, which now represents less than 10% of our business. We also experienced a 23% decline in our government funded research programs due to timing of key programs. However, during 2022, we saw continued growth in our product revenue outside of China that grew 14% to a record $171 million. In particular, strong execution of our strategic growth initiatives enabled us to achieve 21% growth in industrial and Microfabrication revenue outside of China this year, which grew to record $133 million, more than double the revenues achieved in these markets in 2020. There are two fundamental themes I would like to highlight and describe further on our call today. Our focus on markets outside of China, and our progress on key operations initiatives. I will begin with our focus on key growth markets outside of China. In Q2 of 2018, the quarter of our IPO, revenue from customers in China represented over 45% of our total revenue, while in Q4 of 2022, China represented just 9% of our revenue. As our exposure to markets in China has decreased, we have increased our products revenue from customers outside of China by more than 50% since 2020. In the Microfabrication end market, full-year 2022 revenue declined approximately 11% to approximately $62.8 million due to a 51% year-over-year decline in China that began in the middle of the year and remained soft through Q4. COVID related lockdowns and macroeconomic softness in China and significant impact on our revenue during the year. But unlike the industrial cutting market in China, the Chinese Microfabrication market remains an attractive market for end light. We…

Thank you, Scott. Total revenue for the fourth quarter of 2022 was approximately $56.7 million, slightly above the midpoint of guidance, compared to $67.4 million for the fourth quarter of 2021. Product revenue was approximately $45.4 million slightly above the midpoint of guidance, compared to $50.9 million in Q4 of 2021. Consistent with annual trends, there was a decrease in product revenue to customers in China and in development revenue for our Defense customers that was partially offset by an increase in revenue to industrial customers outside of China. For the full-year, total revenue declined by 10% to $242 million. However, it is important to emphasize that, revenues for industrial and Microfabrication products outside of China increased 21% year- over-year to a new record of $133 million. Offsetting this strong growth was the 16% decline in Aerospace and Defense, primarily due to the timing of project-based spending and a 62% decline in revenues from China. Gross margin was 10.2% for the fourth quarter of 2022 compared to 26.6% for the fourth quarter of 2021. Gross margins in the fourth quarter included approximately $6 million or 13 percentage points of products gross margin in non-routine inventory charges primarily related to business restructuring, including automation and elevated scrap and reserve charges. We don’t expect to incur further inventory charges of this magnitude in the near future. Total gross margin was 21% for 2022 compared with 28.6% for 2021. Product gross margin was 24.6% for 2022 compared to 35.6% for 2021. Products gross margin in 2022 was negatively impacted by product sales mix increases in labor and material costs, decreased manufacturing efficiency due to excess capacity, which included the government and pros shutdown of our Shanghai facility in the second quarter, and an increase in non-routine inventory charges as previously discussed. Non-GAAP operating…

[Operator Instructions] Today’s first question comes from Greg Palm with Craig-Hallum Capital Group. Please go ahead.

Hey good afternoon. Thanks for taking the questions here. I wanted to just start out. Scott, I think, you made a comment about demand trends being consistent with last quarter. I’m curious, has anything changed either by segment, by geography, has your visibility gotten any better versus last quarter?

Yes. Thanks, Greg. I wouldn’t say there is anything substantially different in the near-term. I think, we are seeing strength in the process we are working through on design wins and longer-term programs. But in terms of the near-term outlook and certainly the macro environment, no substantial change. I think, everybody is asking a question about what is going on in China after relaxing COVID restrictions in our micro business. And it just coming off of Chinese New Year there is just limited visibility there right now and in the industrial markets broadly we are seeing the stimulus in the U.S. and elsewhere lead to CapEx. But there is no dramatic changes, that we are seeing relative to Q4.

If we think about results in fiscal 2022, what do you see as the primary growth drivers for the company this year versus last?

Yes. The primary growth drivers that we see going forward are largely in the industrial markets. Notably, we are certainly highlighting where we are seeing strong traction in additive manufacturing in particular, and then Aerospace and Defense and it is not only directed energy, it is other applications there. So those are the kind of two primary themes that will be driving our growth going forward.

Okay. And I know welding hasn’t been a huge focus area for you in the past, seems to be a little bit more interest activity there recently. Does that change how you are looking at that space or not necessarily?

Yes. Certainly there is a lot going on there. We are doing more. We have had some good success, but it is relatively smaller and certainly, in additive, we think that our position with the products we have there are quite distinctive and we are enabling next generation tools. So we are highlighting relatively more of the growth we see there.

Yes, okay. I will leave it there. Best of luck. Thanks.

Thanks Craig.

The next question is from Jim Ricchiuti with Needham. Please go ahead.

Hi. Good afternoon. This is [Chris Grange] (Ph) on for Jim. Given in the gross margin guidance that excluding the charge that there is a sequential step down from this quarter to Q1. Just wondering if you could talk about what is embedded in that margin guidance and sort of the puts and takes there? Thank you.

Yes. Sure, Chris. This is Joe. So I think the biggest driver between the Q4 and the Q1 margin guide, volume is the first, we are at a lower revenue projection for Q1. And as you know, we have got a vertically integrated model, so we can leverage our fixed cost, but the same thing happens when you go the other way. I think that is, point one. The second point is really on the mix side, as Scott talked about before, we have seen now several quarters of weakness in our Microfabrication business in China. And if you look at where we are in Q4 for micro, it was a relatively low revenue as a proportion of our total revenue. And so as we see that trend at least through the first quarter sort of continuing, it is the primary driver of why you have seen a little bit of degradation in the products gross margin in the first quarter guide.

Great. Thank you. And for the new products that you have highlighted is in the Industrial segment, could you talk about what percentage of industrial sales they represent and whether they were meaningful contributors to growth in Q4 and how you expect those products to ramp going forward? Thank you.

Sure, Chris. This is Joe again. So in terms of the new products in the fourth quarter that we talked about, they were not big revenue contributors in the industrial market. That being said, they are critical to the growth going forward. If you look back at our history, driving further performance, let’s just use the cutting market, for example, we have really increased the amount of revenue that we are driving from our programmable products. And so we have now taken those programmable products and we are continuing to support our customers’ roadmaps for higher power. Scott talked a little bit about the welding market. We have got products in the welding market today, but the products that we released over the last couple of quarters are much more optimized to address that market. And furthermore, being integrated with some of our - we acquired Plasmo about a year or so ago in the process monitoring space. So we are able to do more of a solution sale there. And then and then finally, in additive, we have released our first single mode laser for the additive market back in sort of early 2021, late 2020, and we have increasingly increased the power of that product. And if you think about the customers and what they’re really looking for is further productivity of their tools. And so, as we move forward, we think these products will contribute a much greater share of the industrial revenue. But today, not enormous contributors.

Got it. thanks very much for taking the questions.

Sure.

The next question comes from Ruben Roy with Stifel. Please go ahead.

Hi, thank you. Scott, the first question I had was just to see if we can get a little more detail around the strategic review, which sounds like it is largely compute complete now. And I wanted to dig in a little bit on sort of the projects that you have decided that are potentially not - I guess to use the term additive to sort of the medium to longer term strategic direction of the company. And if you can give us a little bit of color around how you were thinking about those projects? And I don’t know if I missed this on the call, but whether or not some of those investments are going into other areas that you do think are going to be instead of medium to longer term, maybe more near to me in term growth areas. And any other detail you can provide on how you came to sort of the new direction there? And then the quick follow-up on that point is, just talk a little bit more about the manufacturing as well. It sounds like, you are close qualifications on the equipment are done. Are customer qualifications required next, kind of what is the next process to get manufacturing up and running from this point forward? Thank you.

Yes, great. I appreciate the question Ruben. So the first on the strategic review, yes, there is certainly some opportunities. We see many opportunities for our high power lasers across all the markets we serve. And some are a little bit further out. And as we went through our review process some of those, we decided to shift resources from things are a little further out to areas where we have got stronger traction today and frankly near-term growth markets. So for example, there are some areas of say the cutting market that are interesting, but a little bit further out and not as rapidly growing as, say the additive market where we have a very strong position and we also have further integration of not only the laser, but also the software that we have. And so we are doing more in that area and we are seeing good progress in the engagement with key customers in that space that leads to nearer term revenue. So that is an example of what we are talking about there. But we did that across a whole host of things and we have. There is a long list of opportunities that we assess all the time. And so we will continue to do that that was the nature of what we went through there. And then switching to the operations, yes, I think, we have we have invested significantly in this strategic shift in our manufacturing footprint. And certainly what we highlighted is the fact that we have qualified the processes up and running, the ramping. In terms of customer qualification, there is nothing substantial there. The products are no different than our previous products. The processes we use to make them are different, and it is not typical that we have customers that require a qualification of those processes. So yes, we are ramping up and we are adjusting the exposure we have and certainly as we progress this year the volume that we rely on operations in China, we will go down significantly and as we ramp up elsewhere.

Okay. Thanks for all that detail, Scott. I just had a quick follow up then for Joe. And that question would be sort of with the operational changes now, largely behind you and some of the cost taken out of the system and the strategic roadmap updated. If you can give us an update, if there is any changes to the way you are thinking about breakeven run rate of revenue at EBITDA, and if anything has changed with the way you are thinking about the mix of business in terms of longer-term margin structure for the overall company either higher or lower based on kind of the roadmap from here. Thanks, Joe.

Yes. Absolutely, Ruben. Good question. So, no real change to the way that we are thinking about the adjusted breakeven level. Last quarter we talked about $55 million to $60 million as the breakeven level. The range that we gave there really is predicated upon the mix of business that we see in any given quarter from an end market perspective. Also, within each end market, the mix can be quite different depending on product variant and customer and region and the like. So I think, as we gave that breakeven EBITDA guidance, Ruben, it was with the thought of where we are today. It also assumed that we were going to look at the overall operating expenses at the company, the overall manufacturing expenses at the company. As I think about the business going forward, remember we are vertically integrated, and so we do have a fixed cost infrastructure that as revenue grows. So the biggest driver of driving profitability really is first higher volume and being able to better absorb our fixed costs. And you have seen that even if you go back historically in our financials, the ability to do that. The second piece is the flow through. I mean, if we are able to control our OpEx, which I think we are doing a good job of, and if we are able to maintain the overhead that we have today, and as we make further shifts from a manufacturing perspective, we should drive better fall through margins that go to the bottom line. And then sort of the third piece, which is related a little bit to what I said about overhead is just trying to reduce our manufacturing costs, whether that is by true product cost itself or just looking at the overall manufacturing infrastructure at the company. There is still more - there is still obviously more to do there. But in terms of near-term, I wouldn’t - nothing has really changed in terms of breakeven EBITDA.

Got it. Thanks for all that detail. Thanks you Scott and Joe.

Thanks.

Thank you.

The next question comes from Mark Miller with the Benchmark Company. Please go ahead.

Thank you for the question. For 2023, are you seeing in terms of aerospace, any new programs or opportunities out there and are they major programs and when you think these opportunities will be realized?

Short answer Mark, is yes, we are seeing large and a broad range of opportunities both in the U.S. and with allies. Those new programs will lead to design win achievements in 2023, but in terms of revenue, more material in the following years.

Well micro was soft. Is that just the general cutting in wafer fab equipment spending, Is that what is impacting micro and you expect that to be soft for the next couple of quarters?

Yes, Mark. I would say that, generally our micro fab business is probably tied more to broader electronics production drilling holes and circuit boards and scribing flat panel displays. There is certainly a bit of a semiconductor capital equipment, but we are probably more correlated to broader electronics production than we are to the ups and downs of the WFE market. But yes, as we look at demand there, demand certainly for the first quarter is part of the reason for our guide is that, micro demand remains muted.

And just a couple of housekeeping things. What should we think about in terms of tax rate for this year and also like breakout of fiber laser sales above six kilowatts, below two kilowatts?

Yes. So on tax rate, we still have a pretty significant NOL position, and so we pay taxes in some of our foreign jurisdictions, but you can think about that as maybe a couple hundred thousand dollars per quarter. In terms of the power level, Mark, we would expect that, you have to look at it by market, but in the cutting market. Today, most of our sales are 6 kilowatts and above. We are selling very, very little below six. I mean, a little bit, but very little of sort of what we call medium power that was about 20% of our revenue in Q4. And really the sub two kilowatt power level is mostly focused around the additive manufacturing space. So the proportion just really depends on how those two applications grow. Without sort of talking specifically about the year, we do expect overtime that the additive business is faster growing for us and a smaller base than the cutting businesses. So I think overtime, you will continue to see that sub two kilowatt power level represent a greater proportion of total industrial laser sales.

And can you provide the actual percentages in the December quarter for six kilowatt and under two kilowatt?

Yes, sure. So six kilowatt was 49%, two to five kilowatt was 21% and sub-two kilowatt was 30%, Mark.

Thank you.

No problem.

The next question is a follow-up from Greg Palm. Please go ahead.

Yes, thanks. I will be quick. Joe, you mentioned some of the operating cost reductions, I think you said two million a quarter. Was that off of the Q4 run rate or was some of that two million already baked into what you reported in Q4?

No, really the way to think about that is probably off of the Q4 run rate, Greg. And yes, I think that is the right way to think about it.

Got it. And then just in terms of gross margins for the year, other than volume, how should we be thinking about the trajectory given the facility consolidations as we progress throughout the year?

Yes Greg. So I think that, as I mentioned earlier, the really the three drivers, volume mix and manufacturing. And so as we look at where we are today, we only have enough visibility to provide a quarter out of guidance. That being said, our expectation is that the second half, depending on how the macro shapes up, could be very nice for us. I mean, a lot of that is related to, as Scott was talking about defense and there is some design wins there. But to the extent that we are able to achieve those higher revenue levels as we move out through the year we would expect the flow through gross margin really have nice flow through on the gross margin side.

Yes. So, but volume’s still pretty important, probably the most important

Absolutely. Volume is still pretty important and certainly as we optimize manufacturing and we remove a redundant overhead that will certainly help. But the first order is we just need to drive, revenue growth.

Yes, okay. I will leave it there, thanks.

You are welcome.

At this time, there are no more lines in the queue. This concludes our question and answer session. I would like to turn the conference back over to Joseph Corso for closing remarks.

Yes, thank you everybody for joining today, and we look forward to speaking with you during the quarter. Thank you.

The conference has now concluded. Thank you for attending today’s presentation. You may now disconnect.