Jess Jankowski – President and Chief Executive Officer Jaime Escobar – Chief Financial Officer

Barry Blank – Divine Capital Ronald Prater – Private Investor

Good day, ladies and gentlemen, and welcome to the Nanophase Q1 2018 Financial Conference Call. At this time all participants are in a listen-only mode. Later we will conduct a question-and-answer session and instructions will follow at that time. [Operator Instructions] As a reminder, this conference call is being recorded. The words expect; anticipates; plans; forecasts and similar expressions are intended to identify forward-looking statements. Statements contained in this news release that are not historical facts are forward-looking statements that are made pursuant to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. These statements reflect the Company's current beliefs, and a number of important factors could cause actual results for future periods to differ materially from those expressed in this news release. These important factors include, without limitation, a decision of the customer to cancel a purchase order or a supply agreement, demands for and acceptance of the company's nanocrystalline materials, changes in development and distribution relationships, the impact of competitive products and technologies, possible disruption in commercial activities occasioned by terrorist activity and armed conflicts, and other risks indicated in the Company's filings with the Securities and Exchange Commission. Nanophase undertakes no obligation to update or revise these forward-looking statements to reflect new events or uncertainties. I would now like to turn the call over to President and CEO, Jess Jankowski. Sir, you may begin.

Thank you, Shelby, and good morning everybody. I appreciate all of you being here and those choosing to listen later online. We are happy that you are able to join us to discuss our first quarter 2018 financial results, along with business update that I know you'll find interesting. Joining me on the call today is Jaime Escobar, our new Chief Financial Officer. During the call, I'll be giving an update on our progress in new business development particularly within Solésence, along with updates on our advanced materials business, and of course first quarter results. As you digest this information, keep in mind that we are heading towards what maybe a record in Q2 revenue driven by our personal care ingredients business in Solésence, leading to what maybe a record first half. Given our ongoing experience with Solésence, I can say that we feel that our current opportunity set is very strong. We are working as hard as we can to take advantage both on the strategic position we've developed in the markets that are aligning with our product benefits. We are on track with our Solésence launches which represents six-figure revenue in Q2, and more importantly, a major building block for our Solésence finished products going forward. We've had some timing issues in Q1, which I'll discuss, which our company looks good. Our first quarter 2018 revenue was $2.9 million, down about 17% from the same quarter in 2017. As I mentioned in the press release, there were several factors impacting first quarter results that were timing related, including a lower margin product mix when compared to Q1 of 2017. We also spent a good deal of time and energy ramping up for our Solésence product launches, two of which occurred April 1 and May 1, respectively, with one more planned by the end of June. In our advanced materials business, we also saw a dip in architectural coatings revenue in Q1 that may be related to this spring's weather and the delays that we have had in outdoor projects. Throughout 2017 and now this year, we continue to invest in product development for our Solésence suite of fully formulated skin care products. Our plan is to shift more of our investment toward market development later this year. This investment reduced last year's earnings improvement, but has been necessary to establish our Solésence's products in the beauty and dermatology markets. We continue to believe that Solésence will be our greatest growth driver over time, having the ability to eclipse our advanced materials business in the next several years. Now I'd like to introduce our new CFO, Jaime Escobar, who will give us a quick overview of our financial results. Jaime.

Thanks Jess, and good morning. Before I begin, please remember that all financial information is stated in approximate terms. Our first quarter revenue was $2.9 million in 2018 compared to $3.5 million in 2017. We had an increase in our loss this quarter-over-quarter, resulting a $924,000 net loss or $0.03 per share in 2018, compared to $46,000 in net income or $0.00 per share for the same period in 2017. This loss was largely a function of lower revenue volume and a reduction in finished goods inventory, resulting in less overhead absorption along with less favorable product mix, production cost increases, and an increase in R&D expenses. Jess will discuss this further in a few minutes. We ended the first quarter with a $1.2 million cash position and $200,000 drawn on our working capital line of credit. Jess?

Thanks Jaime. Well, I know, we could always improve, we need to look at Q1 in tandem with Q2. We are looking at a robust first half of 2018 with growth in future revenue from both our advanced materials business and our Solésence business. Demand continues to be strong for our zinc oxide active ingredients for the personal care market, and we expect demand to continue to expand for our Solésence line of products. As I mentioned, we may well see record revenue in Q2 possibly to the extent of creating another record first half. For those of you that haven't yet read our annual report and for any investors new to our calls, I want to better explain the terms I've been using to define our commercial areas. You'll be hearing more and more about our advanced materials business and our Solésence business. It was important to differentiate these two broad areas in order to help us to think about the way we develop our strategy, and very pertinent today the way we explain our commercial activities. The advanced materials business is composed of our personal care ingredients business, and the materials businesses related to coating, solar control, a diverse grouping of customers buying higher value specialties, and the polishing business where we have partnered with Eminess. The products we sell in to these very customers and markets are essentially enabling ingredients or in the case of the personal care markets active ingredients. They may be in the form of an uncoated, coated or dispersed particle, but they all share similar features. They represent only a portion of someone else's finished product. We either sell them to the ultimate manufacturer of the final product or more frequently we rely on our partners and customers to sell them for us to the ultimate manufacturer. And in either case, we remain a few critical steps removed from both the marketing and sales processes to the end users, many of which use the finished products in industrial applications. We expect our advanced materials business to remain solid and we see opportunity for growth in several areas. The main area where we are investing our product development time in advanced materials is now in personal care. In the personal care, skin care and cosmetics markets, demand for more and better minerals-based product continues to grow. This is been good for our advanced materials business as we supply quantities of coated zinc oxide to various manufacturers through our largest customer, and maybe even better for our Solésence business. We create our Solésence subsidiary to maximize the value of our patented technology, as well as to take advantage of our strong historical position as a premier ingredients supplier. To support the finished product business, we've added people with experience and formulating in product development, as well as internally developing these strengths within our existing team. The strategic investment is starting to pay off. Through Solésence, we are developing and manufacturing fully formulated beauty products for brands, using what we refer to as our Active Stress Defense technology. All of our formulations are created using minerals-based active ingredients as their backbone, which is where the demand is. Consumers and dermatologist generally want minerals for best health benefits, but have been limited by many of the existing technologies in the market. To enhance our ability to market our finished products, we continue to expand our portfolio of consumer claim test data to provide proofs for customer, product features and consumer claims. Some of the key benefits we have proven are comprehensive environmental protection, including protection against pollution, full spectrum UV protection, and stopping the release of free radicals which contributes to signs of premature aging such as wrinkle formation and skin discoloration. These claims for Solésence products help the brands to provide evidence of being able to provide to prevent the signs of premature aging, which continues to be one of the biggest drivers of consumer demand. We often refer to our Solésence customers as brand just because they'll be marketing these products with their names on them, using their distribution channels enabled by our Solésence technology, our formulating expertise, marketing support, and regulatory and production backbone. Our Solésence customers will sell the products we create to consumers through specialty retail stores like Sephora or Ulta, through professional channels like spas and dermatologist offices, and through their websites and other online venues. While we're not selling products directly to consumers, we are helping brands to produce better products to capitalize on growing market demand. This is our time and we are pushing hard to commercialize more personal care in Solésence products. I suggest that any of you who haven't been on our Solésence website recently, visit us at www.solesence.com. We continue to update and improve our site, which includes some videos and an abundance of compelling information. Well I am unable to disclose the exact details of our product launches, everybody should be able to start seeing these products in the marketplace. We'll have more information to share both on the products and sales volumes over the next few quarterly calls, but we are in the market right now. We believe that Nanophase and Solésence are in the right place, at the right time, right now. Due to scheduling this during this call, we are having this on Friday morning which is a typical and I apologize for that. There were too many things happening relative to the business and we had to have the call today. I say that because I see we have a lower than typical amount of people listening live. Although most of our investors listen to the webcast to review the transcript after the live call, I'd like to invite those participating in today's call to ask any questions you may have or to share your comments. Shelby, would you please begin the Q&A session?

Thank you. [Operator Instructions] And our first question comes from [Barry Blank] from Divine Capital. Your line is now open.

Yes. Thank you. Are you able to give any guidance on – I know you are giving some guidance on what sales will be, but what will bring down to the bottom line as possible earnings for the next six to nine months?

Hi, Barry, not at this point. We've got a lot of moving parts. We are going to definitely improve certainly over Q1, but also we are going to have a nice Q2. To a certain extent, order flow is one of the issues we have to deal with. I am expecting a very good second quarter. And I know that the beginning of Q3 looks pretty good, after that our visibility wanes a little bit and that's always the tough part. In terms of the structure of the business, we have not added significant expenses relative to an ongoing basis. We had same startup costs in Q1. We also had – and you'll see that R&D expense went up. We had testing and some patent fees in there, patent and legal expense that drove that up. And that won't be a recurring event.

So, one more question, are you working on any future products? I mean, you know, not that will be out in the next three to six months, but what are you working on for the future to continue the pipeline?

We have a lot of work going on there. That's a good question. We have relatively to Solésence, we have the products that are currently being launched that were developed specifically for customers. We also have – what we refer to as white label products which are products that we have on the shelf that are ready to go and we can sell those more immediately. Down the line, you will see products in various formats from Solésence. Currently, we're selling – the launch involves a couple of lotion products and also one powder product. You will see things like lip products, under eye products, a series of them as well as additional technologies being brought to bear to address different issues. I don't want to disclose the specifics, but we are spending a fair amount of energy looking to see what we want to launch in 2019 and 2020 relative to the Solésence line. We're also doing some development not as much as we are with Solésence but with our active ingredients business to try to bring some more products out that way. But as I mentioned in the – in my prepared comments, we have a lot less control over the – over how that goes to market, which is really why the – we're excited about Solésence and we're pushing that part of the business, because we have more leverage to pull, more direct market feedback and really a shorter time to market.

One last question, what percentage of your sales go – I'm asking you the name, I think of the customer, but close to your largest customer, what percentage of your total sales?

Typically on the order of two-thirds on an annual basis, it will be higher in the first quarter which we'll see in the 10-Q which will be coming out in about a week. They were heavier – it wasn't if they were heavier in the first quarter, it was and our coatings business was lighter and we had a first quarter of 2017 had a strong coatings volume. It also had some volume moving from Q4 of 2016 into Q1 of 2017. So, the comparison is not great. Typically that customer is somewhere between 60% and 70% of our business. The goal of course is to have that customer continue to grow, but become a smaller and smaller part of our business going forward.

Thank you very much. I appreciate it.

Thank you.

Thank you. [Operator Instructions] And our next question comes from Ronald Prater, a Private Investor. Your line is now open.

Thank you. So, if you could describe sales process for Solésence. How do you identify customers, how do you determine which products you were investing in, in the future, just what the sale process looked like?

Okay. That's a nuance question. We have – the first thing we did once we developed the technology, we went out to look at products that were competitive in the markets and wanted to make sure that we were at a minimum competitive with them. But, obviously we wanted to be better than they were. So, we came up with our prototype products. Through that, we have a web presence. We also – we go to shows and do those things. We also through Kevin Cureton and some of the other people in the business as well as some of the work we've done over the years in the ingredients side, we have pretty good roll of axis to start the ball rolling. We meet with customers. We ask them for a – we describe what our technology can do. We ask them specifically what they want their products to do, what the format should look like, showing them our prototype products, and then we come back to them with that. The business typically you are talking about, I would say a 12 to 18 month process, sometimes faster, if it's the white label business. Our goal is ultimately to have a series of products in different formats that can address different markets. And to also be able – we really, if you look at Solésence website, we really have three different approaches that one of our customers take using Solésence enabled products. They can buy the white label products which are essentially off the shelf. They could label that and market them. We could help them with the story. We do a lot of work on that. We can take those products and we can change them to a degree if they want a specific fragrance say or if could this feel a little bit different, or we can build a product from scratch which is, takes the highest level of commitment both from us and then we require the highest level of commitment from the customer just because it's time consuming. That's been the process, but we are – by my measure, we're behind on getting the product out the market and we expect it internally to have more done last year than we did. So, we are getting to the point where we're having – we've got the data sets built, we've got the consumer same claim sets built, we have some nice products, we have products in the market that will filter through and that's where I mentioned we are going to spend more time doing market development essentially and advertising for the end of the year as we get everything else lined up. I'm pretty optimistic about where this is going to go and the sales process, we're fortunate that you know Kevin Cureton is an expert in personal care finished products sales. The exact market we're in. Jaime actually has some background in the same area. We've brought in the formulators that are in this business a formulator really also does a little bit of business development, because we have contacts with these people and they talk about where we're going to go. We'll frequently, we got a show, it will be – there it be Kevin and the sales team and some of the formulators. I'll be in some of the shows depending on scheduling and which it is, but it's a – it's a very deeper – it's a deeper sales process and it's one that I think compared to selling ingredients and advanced materials where it's highly technical. It's long lead time. You know, you've been around long enough to have seen us going after the outdoor stain markets where it's two years' worth of free stock testing and then every time there is a slight change, there is two more years. This is a much different path and we do believe that Solésence can be equal in size to the advance material business in several years. I mean it's got a different – very different profile.

Alright, thank you. Has your phone started to ring yet? Have you developed a presence in the market where customers heard of you are coming to you?

Our phone is ringing. It's not ringing enough. The – I'll never agree that it will be I suppose. The hit rate in all this is not high. But we have a funnel that we continue to fill. Our website as it is, which we are spending some time and resources at, but not a ton. Yes, it is bringing in leads on a regular basis. I believe these launches are really going to help, because some of the customer has been – there are companies that are $2 million companies and there are companies that are $1 billion companies in this market. And the smaller ones are more geared toward our white label business. But the larger, stronger opportunities or the stronger brands will be moved I believe more by these product launches than they will be by – we got to have claim set. We've got really nice test data. We're continuing to build clinical test data which is important, but being the market and success in the market is more important and it's kind of an old saying that nobody ever got fired for buying IBM. They use to say, well it's similar. The more success we have, the easier it's going to be to get the next one. And also the product that we sold to our largest customer, the Z-Cote HP-1for years was the industry standard product in the marketplace and so that's good to be able to look back on that. Solésence products specifically will be better in terms of kind of moving our position in the market and helping people to gain confidence.

Okay. One final question, what happened to cost of revenues this quarter?

It's up. It's – there were a series of things that happened there. We – although, our revenue, our inventory stayed relatively flat, we actually had a shift from finished goods to raw material inventories. There was about 300,000 of finished goods that came out of inventory. So, essentially for those, we didn't absorb any overhead. Volume wise, volume was down. That was largely timing. Product mix wise, we didn't lose the customers from Q1 that had the higher margins and the average in – for Q1 of 2017 that have a higher margin averages than what we have now. But, they are not at Q1. And so, it's kind of confluence of events that makes that weaker. Additionally, we also were all hands on deck to get this launch off the ground for Solésence. So, we spent money that will be star-up expense related, that won't be repeatable that was in COGS. So, I'm expecting that to improve significantly going forward.

Okay. Thanks very much.

Thank you

Thank you. And I would now like to turn the conference back over to Mr. Jankowski for any closing remarks.

Thank you, Shelby. And thanks to all of you for taking the time to listen and to support Nanophase and Solésence. Given the work we've done in commercializing Solésence even at this early stage, I can reiterate that we feel that our current opportunities set is very strong. We're pushing as hard as we can to take advantage of our current momentum and we're in an excellent spot. As 2018 unfolds, we'll have more to share and I expect our outlook to continue to improve. Our second quarter looks good and we're working on locking in more Solésence product launches for the fall of this year and spring of 2019. I'm looking forward to the opportunity to discuss the business with all of you again soon. I want you to enjoy the sunshine responsibly and have a great day. Thank you, very much.

Ladies and gentlemen, thank you for participating in today's conference. This concludes today's program. You may all disconnect. Everyone have a great day.