Dale Messick – CFO My Chung – President & CEO

None

Good day, ladies and gentlemen, and welcome to the fourth quarter 2012 Luna Innovations Incorporated earnings conference call. [Operator instructions.] Now I would like to hand the call over to Mr. Dale Messick, the chief financial officer. Please go ahead, sir.

Thank you, operator. Good afternoon everyone, and thank you for joining us today as we review Luna’s results for the fourth quarter as well as the full year results for 2012. Before we proceed with our presentation today, let me remind each of you that statements made in this conference call, as well as our public filings, releases, and websites, which are not historical facts may be forward-looking statements that involve risk and uncertainties and are subject to changes at any time, including, but not limited to, statements about future financial and operating performance. We caution investors that any forward-looking statements made by us are management’s beliefs based on currently available information and should not be taken as a guarantee of future results or performance. Actual results may differ materially as the result of a variety of factors discussed in our earnings release and our latest Forms 10-K and 10-Q filed with the Securities and Exchange Commission. We disclaim any obligations 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. There is more complete information regarding forward-looking statements, risks, and uncertainties in the company’s filings with the SEC available on our website. And at this time, I’d like to turn the call over to My Chung, president and CEO of Luna Innovations.

Thank you, Dale. This afternoon, I will provide an update on our business and the progress we have made on our strategic initiatives. Following that, Dale will review the fourth quarter and full year results and then we will be happy to take any questions you may have. Just as a refresher, we had established at the beginning of 2012 three key growth initiatives towards transforming Luna into a profitable, high-growth technology company. These three initiatives were first to become a leading supplier of strain and temperature measurement systems, utilizing our distributed fiber sensing technology. Second, to develop our fiberoptic shape-sensing technology with our strategic partners Intuitive Surgical, Hansen Medical, and Phillips Medical for robotic assist and non-robotic minimally invasive surgical systems. And third, to help ensure the integrity of integrated circuits used in military systems with the unique technology we had developed within our secure computing and communications group. After review of the detailed action plans and capital requirements for each of these initiatives, we decided to explore the opportunity to monetize our secure computing technology through a divestment. Earlier this month, we were proud to have announced that we had entered into a transaction to sell the secure computing and communications group to MacAulay-Brown, another defense contractor. This transaction resulted in significantly bolstering our liquidity and will help us focus on the two remaining initiatives that are both based on our fiberoptic technology expertise. In the second quarter of 2012, we launched a faster and less expensive Odyssey B product to better address the strain and temperature measurement market. Since then, we have seen sales of the Odyssey platform ramp up throughout the year. In particular, we have successfully begun to penetrate the targeted aerospace and automotive industries. In addition, we have closed opportunities for measuring temperature in harsh environments where thermocouples are not as effective. Sales of these sensing products allowed us to partially offset the lower sales volumes that we in the industry saw in telecom tests during 2012. As we move into 2013, it appears that there is currently some recovery, particularly in Asia in the manufacture of optical components, and we are optimistic that the telecom recovery will provide a growth opportunity for us in the second half. With regard to our initiative in shape-sensing for minimally invasive medical applications, during the fourth quarter we successfully completed the remaining objectives of our 2012 development programs with Intuitive Surgical and Phillips Medical. We believe that we are very close to achieving the final technical specifications necessary for the use of fiberoptic shape sensing in the medical field. We have continued to work closely with both Intuitive and Phillips in the first quarter of 2013, as we defined our key requirements for the next several years toward bulk commercialization. From a marketing communication standpoint, we have recently added a blog to the Luna website. Our objective is to establish Luna as a resource of information, presenting compelling content relative to applications of our technology, case studies, and industry insights. Here, we will be regularly spotlighting our progress in various early stage technologies as well as new product offerings. Our first entry to the blog focused on our newest optical test product, the OBR5T-50, while our second will present our atmospheric corrosion wireless sensor suite. Over the next several weeks, you can expect to see postings related to our hydrophobic coatings, which you may have also recently seen highlighted by the Army, as well as blogs presenting the latest in distributed sensing and conductive adhesives. From technology innovation and development all the way through the commercialization, we’ll write about what’s most important to our customers. And with that, at this time, I would like to turn the call back over to Dale to review the financial results for the quarter and year.

Thanks, My. For the fourth quarter of 2012, we recognized revenues of $7.8 million, compared to $8.1 million for the fourth quarter of 2011. Within that, TD revenues, technology development revenues, increased $0.2 million, or 4%, driven primarily by growth in research revenues within our multifunctional materials group. Products and licensing revenues declined $0.6 million compared to the fourth quarter of 2011. Within this, product sales decreased $0.3 million, reflecting the softness of the telecom test and measurement market we saw throughout 2012, offset by incremental revenues related to our new Odyssey platform as My mentioned earlier. Revenues related to our development programs for shape sensing also decreased by approximately $0.3 million. Our over gross margin improved from 33.6% for the fourth quarter of 2011 to 34.3% from the first quarter of 2012. This improvement was driven by our technology development segment, where a short term program in our secure computing group resulted in a higher than normal margin, in addition to favorable improvements in labor cost within our technology development group as a whole. Partially offsetting the improved margins in the technology development segment, margins in our product and license segment were adversely impacted by a short term increase in the cost of our lasers. We currently expect these costs will continue to impact product margins during the first quarter of 2013 as well, and the costs should return to normal later in the year. We’ve continued to aggressively manage our operating expenses and they remain flat at $3.2 million for the fourth quarter of 2011 and 2012. Net non-operating expenses were $41,000 for the fourth quarter of 2012, compared to a non-operating income of $84,000 for the fourth quarter of 2011. The non-operating income for the fourth quarter of 2011 included approximately $154,000 of expenses reimbursed to us for up-front costs that we had incurred in anticipation of a new development project. With those results, our net loss attributable to common shareholders was $0.6 million, or $0.04 per share for the fourth quarter of 2012, compared to $0.4 million, or $0.03 per share, for the fourth quarter of 2011. Turning to our full year results, revenues for the year were $32.3 million in 2012, compared to $35.6 million for 2011. Revenues in our technology development segment decreased $1.3 million from $22.4 million in 2011 to $21.1 million in 2012. Of this decline, approximately $0.8 million was attributable to lower revenues in our secure computing group, with the remaining decrease falling principally within our nanomaterials group. Product and license revenues decreased $1.9 million. Sales of our test and measurement equipment were lower by $700,000, driven, as I mentioned in my Q4 discussion, by softness in the telecom test and measurement equipment sales, offset by the new revenue stream of our Odyssey product line. Revenues earned under our development programs for shape sensing decreased approximately $1 million compared to 2011. Overall gross margins improved slightly to 37.6% for 2012, compared to 37.2% for the year 2011. This improvement in our overall margins resulted from increased margins for work performances under our shape sensing development programs. Operating expenses improved 7.6% to $13.4 million in 2012, compared to $14.5 million in 2011, due primarily to lower compensation costs and a reduction in our legal costs. Our resulting net loss to common shareholders was essentially unchanged at $1.5 million, or $0.11 per share, both for 2012 and for 2011. I’ll touch quickly on the balance sheet. I would just point out that we ended 2012 with $6.3 million of cash on hand and $3.6 million outstanding on our term loan. And with that, I’ll turn the call back to My.

Thank you, Dale. As we look ahead to the balance of 2013, we’re looking forward to focusing on the growth opportunities of our core fiberoptic technology. We continue to be optimistic about our future and in developing the technologies that optimize our potential in the marketplace. And with that, I’d like to open up the call to any questions that you might have.

[Operator instructions.]

If there are no questions, I’d like to thank everyone for your participation with us today. And we look forward to speaking with you again at our next update call.