IPG Photonics Corp

NASDAQ:IPGP

Earnings Call Transcript 2017-Q4

[Operator]

Good morning, and welcome to IPG Photonics Third Quarter [ph] 2017 Conference Call. Today's call is being recorded and webcast.

At this time, I would like to turn the call over to James Hillier, IPG's Vice President of Investor Relations for introductions. Please go ahead, sir.

[James Hillier, IR]

Thank you, Doug, and good morning, everyone. With us today is IPG Photonics' Chairman and CEO, Dr. Valentin Gapontsev; and Senior Vice President and CFO, Tim Mammen.

Statements made during the course of this conference call that discuss management's or the company's intentions, expectations, or predictions of the future are forward-looking statements. These forward-looking statements are subject to known and unknown risks and uncertainties that could cause the company's actual results to differ materially from those projected in such forward-looking statements.

These risks and uncertainties include those detailed in IPG Photonics' Form 10-K for the year ended December 31st, 2016 and other reports on file with the Securities and Exchange Commission. Copies of these filings may be obtained by visiting the Investors section of IPG's website or by contacting the company directly. You may also find copies on the SEC's website.

Any forward-looking statements made on this call are the company's expectations or predictions only as of today, February 16, 2018. The company assumes no obligation to publicly release any updates or revisions to any such statements. We'll post these prepared remarks on our website following the completion of the call.

Now, I'll turn the call over to Valentin.

[Valentin Gapontsev, CEO]

Good morning, everyone. IPG capped off one of the strongest years in our history with record fourth quarter and full year 2017. Q4 revenue was above the high end of our guidance. Our fourth quarter book-to-bill ratio was at 1, representing solid performance in light of our record quarterly revenue. We ended 2017 with backlog up more than 40% and current order trends suggest we are off to a rapid start in 2018.

I would like to spend a moment reflecting on our tremendous achievements in 2017. The list of billion-dollar revenue high tech companies that grow annual sales by 40% is very short. And we are pleased to have delivered even stronger growth in operating earnings and free cash flow. Please note also that in physical units our growth was even more impressive. For example, in 2017, we produced more than 10,000 lasers with an optical power above 1 kilowatt, which is 70% more than in 2016.

QCW lasers were raised by 150%, up to 4,600 units per year. In total, we sold nearly 80% more optical power in 2017, each year increasing production essentially faster than revenue growth. And it was a remarkable way absolutely that we fulfilled the orders with no meaningful change in lead time, what is very short of 4 to 6 weeks typically. This achievement reflects excellent planning and manufacturing execution, for which I thank all of IPG's employees.

Our success in 2017 was largely driven by the secular shift to high-power products. High-power laser sales increased by 50% in 2017, driven by three major growth trends. The first was a shift to ultra-high-power laser sources of 6 to 10 kilowatts and above. Sales of ultra-high-power lasers more than doubled in 2017, representing more than 30% of our high-power revenue. Their world-leading power, electrical efficiency, reliability, and compactness of IPG fiber lasers is driving substantial productivity gains within the cutting, welding and sintering markets.

Secondly, we experienced rapid growth in laser sources of 1 to 2 kilowatts for low-end cutting systems, which are now displacing non-laser machine tools such as punches and presses. We believe unit volume of these lower-end cutting systems have doubled over the last two, three years as they provide machine shops with greater flexibility, productivity, and return on investment.

The third major growth driver was in welding applications. We believe electric vehicle battery production drove a rapid expansion in the laser-based welding market in 2017 as our high-power CW and pulsed lasers are used within a variety of battery production applications.

In addition, the transition to high-strength, lighter-weight vehicle materials to improve fuel economy provides additional opportunities for laser-based welding to take share from non-laser technologies like resistance spot welding, arc, MIG, and TIG welding, adhesives, and riveting. Finally, QCW laser sales for welding in consumer electronics also grew dramatically during the year.

Within newer product categories, sales of high-power, 100 watt and above, nanosecond pulsed fiber lasers increased more than 80% in 2017, driven by a diverse set of applications that include foil cutting and terminal cleaning for batteries, solar cell scribing and drilling, laser trimming for displays, and oxide removal from metals prior to welding. Green pulsed lasers used to improve solar cell efficiency which also grew strongly during this year. We delivered rapid growth in sales of beam delivery products and fully integrated systems to drive new applications for laser technology.

Our systems business reached 40 million in annual sales driven by macrosystems, which include ILT business we acquired last year, our seam stepper, our integrated marker and many other applications. We promote to develop successful new laser technologies and macro systems for automobile, oil, gas, aerospace and other mass applications. For example, at the end of last year, we have installed in one large production fab, our first high volume side panel welding machine for high speed passenger railway cars.

We also sold our first commercial cinema projection systems in 2017. Finally, we delivered double digit growth in beam delivery products, a business that today totals more than $60 million in annual sales. This growth is being fueled by our expanding portfolio of cutting, welding and scanning heads that are uniquely suited for high-power laser applications. Our December acquisition of LDD further compliments our beam delivery product lineup. There has been a very favorable response to this acquisition as it enhances our real-time weld monitoring capability and competitive position.

We continue to see encouraging customer interest in our newest products. We have received initial orders for our family of ultrafast pulsed lasers that expand our addressable market opportunity in the micro materials processing, marking and engraving, medical, and scientific markets. Our fast-expanding family of picosecond and femtosecond fiber lasers overcome the limitations of traditional ultrafast products that are highly priced, bulky, and inconsistent in performance.

IPG's ultrafast products offer a fiber-coupled design with easy systems integration, much higher wall-plug efficiency, a compact footprint, more consistent energy per pulse, a faster cold-start time, and a significantly lower investment and cost of ownership. These products were on display at the recent Photonics West tradeshow, receiving strong interest from customers and prospects. Combining ultrafast opportunities with continued progress in UV and visible lasers, medical and dental lasers, unique super high lumen RGB systems, defense industry, instrumentation, and scientific applications, IPG is unlocking multiple potential growth drivers for the next three to five years that together more than double our addressable market.

We are very pleased to have delivered our strongest annual growth in six years, a direct result of our scale advantages and our unique business model combining a vertically-integrated manufacturing operation with broad-based technology and process abilities. This business model enables us to rapidly increase production, reduce costs, and deliver innovation. Looking ahead, we see excellent opportunities to leverage these advantages within both our core markets and new applications, making our fiber laser technology the tool of choice in mass production.

With that, I'll turn the call over to Tim.

[Tim Mammen, SVP and CFO]

Thank you, Valentin and good morning, everyone. I will review the key financial highlights of the fourth quarter. For additional details on our reported results, including full-year results, please refer to the Excel-based financial data workbook posted to our investor relations website.

Revenue in the fourth quarter grew 29% to $361 million, exceeding our guidance of $330 million to $355 million. This outperformance was across multiple regions, applications, and products. Q4 revenue in China increased 47% year-over-year, representing 44% of total sales, driven by high-power CW lasers for cutting applications. Sales in Europe increased 18% year-over-year with strength in medium-power lasers for 3D printing applications, which more than doubled versus the year ago period.

Additive manufacturing processes such as laser sintering are now our fourth largest application area, reaching total sales of $50 million in 2017. US fourth quarter revenue increased 16% year-over-year, as strength in systems, high-power lasers, and our government business offset softness in communications. Fourth quarter sales in Japan increased 2% year-over-year despite a challenging comparison versus the year-ago period as growth in welding and brazing and marking and engraving applications offset ongoing softness at our largest customer in the region.

As noted last quarter, we have seen a meaningful sales increase this year among Japan-based OEMs within other regions, including Europe, North America and China. As a result, we estimate sales to Japan-based OEMs in all regions increased by a double-digit percentage in the quarter and were flat for the full year 2017.

Turning to performance by product, high-power laser sales increased 40% year-over-year in Q4, 50% in 2017 and contributed more than 70% of the incremental revenue we generated in 2017. Pulsed lasers sales grew 20% year-over-year in Q4 and 15% in 2017 with solid contributions from low-power pulsed lasers for marking and engraving applications and green and high-power pulsed lasers for drilling, cleaning, trimming, and solar-related applications.

QCW sales increased 13% year-over-year and more than 80% for the full year from strength in fine welding for consumer electronics applications and also drilling for aerospace. Medium-power laser sales increased 5% driven by a substantial increase in demand from 3D printing customers and growth in fine welding, which offset the decline in medium power cutting that is attributable to the shift by OEMs to higher-power lasers.

Finally, sales of other products increased 26% year-over-year in Q4 and 34% in 2017 due to strong sales growth in systems and beam delivery products that Valentin referenced. Gross margin of 57.8% was up 230 basis points from Q4 2016. We were able to more than offset declines in average selling prices compared to a year ago with improved manufacturing efficiency, cost reductions, and favorable product mix.

Q4 operating income was $148 million, or 41% of sales, well above Q4 2016. We were able to achieve positive leverage in sales and marketing, R&D, and G&A while continuing to invest in product development and the expansion of our global sales force and administrative footprint. Q4 net income was $53 million and earnings per diluted share were $0.96, as charges related to the 2017 US Tax Cuts and Jobs Act reduced net income by $49 million and EPS by $0.90.

These charges were partially offset by a $4 million benefit from stock options exercised and RSUs released during the quarter. We ended Q4 with cash, cash equivalents, and short-term investments of $1.12 billion and total debt outstanding of $49 million. Cash provided by operations was $108 million and capital expenditures were $27 million in Q4.

During the fourth quarter, we repurchased 60,000 shares for $13 million as part of our antidilutive repurchase program and have now repurchased 378,000 shares for $49 million since the program began in July 2016. Our year-end backlog increased 80% to $744 million. Orders with firm shipment dates increased 44% to $326 million, and we believe this gives us good visibility over the next three to four months.

Frame agreements, which are non-binding indications of customer pricing and volume levels, increased more than 100% to $417 million. The growth in frame agreements reflects strong underlying demand, as well as timing issues at year-end 2016, when approximately $100 million of frame agreements were received in early 2017. Adjusting for this timing issue last year, the increase in frame agreements and total backlog would be similar to the 44% increase in orders with firm shipment dates.

Turning to our guidance, for the full year 2018, we are targeting 10% to 15% revenue growth. Our annual guidance reflects current backlog and annual order indications from our largest OEM customers. This guidance assumes continued momentum in our core materials processing markets, further progress in new application areas, and strong worldwide macroeconomic conditions offset by lower spending related to consumer electronics applications.

Based on the accelerating growth within our business in 2017, we expect capital expenditures to be $170 million to $190 million, the high end of our target range of 8% to 12% of revenue. Finally, we expect the recently enacted US tax legislation to lower our corporate tax rate to 26% from 30% in 2017, excluding effects relating to equity grants. As we continue to assess the benefits of tax reform to IPG, we believe that we may be able to reduce our effective rates a little further.

For the first quarter, we expect revenue growth in the range of 15% to 24% year-over-year or $330 million to $355 million and anticipate earnings per diluted share in the range of $1.62 to $1.87, which reflects earnings growth in the range of 17% to 36% year-over-year.

As discussed in the Safe Harbor passage of today's earnings press release, actual results may differ from our guidance due to factors including, but not limited to, product demand, order cancellations and delays, competition and general economic conditions. Our guidance is based upon current market conditions and expectations, assumes exchanged rates referenced in our earnings press release, and is subject to risks outlined in the Company's reports with the SEC.

With that, Valentin and I will be happy to take your questions.

[Operator]

[Operator Instructions] Our first question comes from the line of Joe Wittine with Longbow Research.

[Joe Wittine, Longbow Research]

The only drama was whether you could deliver that pretty round number for the full year and you did, so congrats. The backlog number really jumps off the page of the press release at three quarters of $1 billion. Beyond that frame agreement dynamic that Tim you mentioned in late 2016, early ’17, is the delivery schedule for this year’s backlog similar to prior years or do you have a larger contingent of deliveries scheduled for, say, the second half than you’ve seen in prior years. It’s just such a big number and somewhat difficult to square with the starting full year sales guide here.

[Tim Mammen, SVP and CFO]

At a high level, there isn't a significant difference in the timing of deliveries. I think one thing when we pulled together guidance that we looked at was the opening backlog in China was very high. You’ve got Chinese New Year coming a little bit later. Initially, the revenue forecast that China gave us, we thought was a bit light, so we asked them to go back and look at that and they came back with a stronger indication of potential revenue, but also said they wanted to keep some conservatism there, because they're now out of the office for a week and a half, and really will know only the tone about that China business when they get back, but we're giving earnings here now.

So there's nothing fundamentally different. I think it’s actually really great that backlog is strong at the beginning of the year, because it gives us a good degree of comfort about the overall tone of the business. We referenced the book-to-bill was about 1 in Q4, which actually compared to the average, met expectations, and it was substantially better than, for example if, you go back to Q4, 15, when it was weak and that meant we had a weak start to the year, so there's nothing fundamentally different in it. I think there's a few little dynamics around the edge that we're taking into consideration.

[Joe Wittine, Longbow Research]

Great. And then a follow-up on competition. As it relates to China, which you just referenced, I understand there's -- visibility is limited, especially this week, but if you can give your view on competitive dynamics for the Chinese integrators, both from your legacy US peers and from vertically integrated solutions for the integrators that have those capabilities, anything changing here in 2018 from your point of view?

[Tim Mammen, SVP and CFO]

This is a huge market that’s being created by IPG with fiber displacing other technologies and with increasing opportunities, there are new product introductions. It's an attractive market for other people to enter and nobody is standing still. They're all trying to chase IPG. So, is there more competition than there was a year ago? There are more people trying to get into the market. We continue to believe that with the shift to higher power lasers almost across all product lines, that continues to enhance our competitive position.

We continue to believe that the reliability, the performance of our products exceeds anybody who's trying to get into the market. So we're fighting every day to maintain that perception in the market, because if we lose it, competition may get a stronger foothold. So, it is a fact of life that there is more competition materializing, but IPG is continuing to coin a Valentin phrase run ahead of the train in maintaining the advantages that we have. We haven't seen any major changes or customer losses, and we haven't really seen, I think, that would be the biggest reference point. We haven't seen any major changes in that regard.

[Operator]

Our next question comes from the line of Brian Gesuale with Raymond James.

[Brian Gesuale, Raymond James]

It looks like you made significant increases in welding revenue. I think it's up somewhere around $100 million year-over-year. Can you maybe talk about that market? How much of that growth is a function of customers being more ready for adoption? How much of that is new products driving success and maybe really do you see 2017 as an inflection point for further acceleration this year?

[Tim Mammen, SVP and CFO]

Well, some of it’s – it’s also about customers being more, they’re certainly looking at fiber laser technology and laser technology for welding with a greater belief in the cost savings and quality improvements that can be had. With some industries, you still have a long period of time before they will adopt the technology, but you've also got emerging industries where high tech manufacturing is much more widely accepted and viewed almost as a benefit. So we saw that with the welding growth driven by consumer electronics, we saw that with the welding growth given by the electric vehicle manufacturing. We also certainly saw a rebound in traditional automotive welding sales this year, both to the automotive companies and the Tier 1s and Tier 2s. So I think there’s certainly a gradual shift in perception about the benefits of welding.

I think the other thing that’s going to help IPG in that market is, some of that welding growth came from the systems and the ability to deliver a complete product and solution to the end customer is certainly enhancing our capability and competitiveness there. Valentin referenced the side panel welding system for the rail car industry that was delivered, and there are several other examples we can give that we’re working on, not just in that area, but for example, in pipeline welding.

Do you want to add some commentary answer to that Valentin?

[Valentin Gapontsev, CEO]

Laser penetration is a technology in the welding market, very well above 10%. It’s an enormous opportunity. It’s a more complicated market, because for each customer, you can supply customized solutions not like cutting and welding which are with standard solution everybody, but we’re working very hard to build all the infrastructure for these. So we’re very successful going in this direction. So it’s – we believe the market will have enormous potential. In micro welding, all traditional micro welding [indiscernible] with our new lasers, new ultra-short [indiscernible] and so on. It's a lot of new opportunities, mass volume opportunities.

[Brian Gesuale, Raymond James]

And a follow-up, maybe just shifting over to cutting applications, your business just continues to really hum along at a rapid rate there. Can you maybe talk about what percentage of cutting can be done by fiber lasers in the future if we’re looking out five to seven years and maybe how your opinion on that has changed over the last couple of years?

[Tim Mammen, SVP and CFO]

In terms of cutting metal, in theory, the capability of fiber could be to address on the specifics, if you look at the machine tool business on cutting applications, it's capable of doing just about all metal cutting as we get to higher power levels, you’re also seeing an increase in the thickness. So maybe, right at the really thick pieces of metal, that’s still not really addressed by fiber or the laser industry and other applications might be used, but in theory, the preponderance of metal processing for cutting could be done with that.

It's a bit of a difficult question to frame, we’ve started to look more detail about the machine tool industry for example and where fiber penetration is in that. Then, you have to look at the machine tool numbers and say which of the applications fiber can’t really address. And once you sort of try and at least objectively get to that number, it seems that laser applications are, they’re still less than 20% of the addressable market. So there's still a huge opportunity in that regard.

[Valentin Gapontsev, CEO]

[indiscernible] many other alternative to composite materials, it’s also [indiscernible] 100 times higher than typical people use. So it’s open opportunity, very large volume, new market where up to now, laser not used at all. We’re hoping it will be a very essential area to our markets near term.

[Brian Gesuale, Raymond James]

And just one last one on the balance sheet, Tim, you guys are just amassing an amazing amount of cash. Any thoughts or updates to capital deployment strategies.

[Tim Mammen, SVP and CFO]

It continues to be very much the same as articulated in Q3. We made another small acquisition that really enhances, I think, the reception we've had is very small actually, but the reception we've had around LDD, even just from a marketing perspective, has been fantastic. So again as a technology type acquisition that we believe addresses or expands our addressable market, enhances our competitive position, we’ve continue to look at some larger opportunities and I think they were very pleased with some of the discipline we’ve got around that process.

So, yeah, we’re continuing to look at both smaller and larger opportunities, but the primary strategy is to continue to reinvest in the organic growth of the company. I think, we're going to start to see some benefit from that with the new products getting some traction this year. The UV, the ultrafast has been introduced to the market, the systems, the beam delivery and then looking at inorganic acquisition opportunities that are technology or expand the addressable market by combining new technologies with our lasers. And I think we always approach this with a degree of patience and want to make good acquisitions rather than rush into things that ultimately may not be quite the right fit for the company. But we look at a lot of different things.

[Operator]

Our next question comes from the line of Patrick Newton with Stifel.

[Patrick Newton, Stifel]

Wanted to circle back to the backlog and maybe ask a question a little bit differently. The 743 million gives you the highest backlog coverage relative to trailing revenue, I believe since about 2010. So given the momentum you have entering this year, I'm curious why the growth outlook has been a little bit stronger than the 10% to 15% and I understand you have tough comps, but I'm curious if there's some other area around China demand in markets where maybe you see some of year-over-year headwinds like consumer electronics or a slowing in the rates having to move to higher power lasers that might be leading to what appears to be somewhat conservative annual guidance.

[Tim Mammen, SVP and CFO]

So certainly, the first thing is that you've got really some very high numbers of revenue that would have to be achieved in Q2 and Q3. The opening backlog, I think, gives us a good degree of comfort that this is going to be a strong start to the year. There are certainly the consumer electronics headwind, it is more evident in Q2 and Q3 because those are the prime quarter that that product was shipped last year. When you also transition to the higher power levels, the fastest growth rate is inevitably going to be at the initial point of that transition because it's all levels that are either very low or even zero right. So, that becomes very accretive, that inflection point. And as you then grow further into that inflection point, the business can still be extremely successful, but the growth rate is probably going to be a little bit lower on it. I think we also -- we're waiting to see what the visibility is around some of the newer product introductions, particularly around UV and ultrafast.

This is a situation that’s very fluid at the moment. We just heard that one of the customers in China is potentially looking at us for several hundred UV lasers this year. This is information that it’s changing on a day-by-day basis. We're also cognizant that new product introductions, as I've said and Valentin has said before, there's always a great sense of optimism around, but the actual rate or take up has to have a measure of caution around it, particularly when you're having to qualify new applications and processes. So, we remain optimistic for the year. We think we stand in a good position, given that opening backlog. And I think that would be a high level summary of the situation.

[Patrick Newton, Stifel]

Just one more if I may is on the gross margin. Very impressive again and congratulations on the execution there. If we think about margins over an intermediate term period, it would seem that you have very good fab absorption currently and you have mixed tailwinds with the move to higher power lasers, but you also have revenue growth slowing and accelerating CapEx, which should increase fixed costs. So, given how strong the metric was in 2017, is it reasonable that the 2018 gross margin levels would be maintained above the high end of your long term target for the full year and that’s especially as it seems that 1Q guidance is pointed to about 56% or maybe even a little bit higher.

[Tim Mammen, SVP and CFO]

Certainly Q1, we've got a pretty optimistic level of gross margin there. I think there's a lot of different points on this. The first thing you didn’t reference is that we go through a process of negotiating new contracts of all the OEMs at the beginning of the year, right. So during the quarter, the end of last year, we’ve had the costs come down, selling prices compared to the year before will be lower, but during the year, they’re much more stable. We now have to absorb those lower price points and now we start to target the cost reductions for this year, which should materialize not just in the diode area, but across other aspects of the build of material. Strategically, we come back to the point that we’re much more focused on growing adoption across a broad cross-section of applications and markets and getting new products into the market.

For us, it's not necessarily, we’re still targeting at the top end of that range, believe me, but exceeding that range is not a long-term strategy of the company. The long term strategy of the company and the intermediate strategy of the company is to drive adoption on systems. Some of the systems have very high margins, some of them have a little bit lower margin. It’s to drive adoption on the ultrafast and UV, which has very high margin. It's to take into account that we need to maintain or even try and grow our share within the existing core materials processing markets. So that's why we stick with communicating a gross margin range that’s in the 50% to 55% range, but targeting being at or towards the top of that range and still believe we’ll have quarters where we may exceed it.

[Operator]

Our next question comes from the line of Mark Miller with The Benchmark Company.

[Mark Miller, The Benchmark Company]

Your other sales were up significantly, I think 35% year-over-year. Besides systems and you also mentioned beam delivery, are there any other prime drivers of that year-over-year increase?

[Tim Mammen, SVP and CFO]

Sorry, on the other markets. Was that, Mark? Yeah. In the fourth quarter, those were the primary drivers. For the full year, you've also got some additional contribution from the telecom products, which are in there and probably some contribution just because the scale of the business, the number of units that are in the field from service revenue.

[Mark Miller, The Benchmark Company]

The outlook, you mentioned telecom, the outlook in China Telecom has recently brightened. I’m just wondering, is that factored into your thinking long-term? That should be a better market this year.

[Tim Mammen, SVP and CFO]

We have a growth target set for the telecom business this year that is quite high. So yes, we are factoring in growing both the original organic business that we have as well as through some of the product introductions that will come through during the year on DSP and high speed data transmission. I think the market has been challenging for the last six months, both in terms of pricing and demand. But yeah, that's a market we’re looking to grow this year.

[Valentin Gapontsev, CEO]

[indiscernible] lot of new products for telecom much highest quality. It’s new generation, only we’re implementing in market [indiscernible].

[Mark Miller, The Benchmark Company]

Okay. Finally besides telecom, are there any other areas you think will show stronger growth in 2018 and 2017 in terms of upside?

[Tim Mammen, SVP and CFO]

The systems will, I know whether it’s budgeted or being stronger than in ’17. I can’t remember that exactly, but systems is an area where there's potential for very significant growth this year, that the newer products, that really absolutely new products, again because it comes off a very small base, you could potentially see very significant growth in those areas as well.

[Mark Miller, The Benchmark Company]

And I'm sorry just one more. Your systems margins, are they comparable or above your margins for overall margins?

[Tim Mammen, SVP and CFO]

It depends on what kind of system you're looking at. So, some of the more specialized systems for welding and, for example, cladding, deposition technologies have exceptionally high margins. The margins on some of the systems like lower end systems have below corporate average margins, but we've also made a lot of progress in taking cost out of those systems over the last year. So we’re seeing improving margins. So, it varies between which product you're looking at.

[Operator]

Our next question comes from the line of Bobby Burleson with Canaccord Genuity.

[Bobby Burleson, Canaccord Genuity]

So I guess, we were talking about the Japanese customers and strength there recently. And one of the things that the Machine Tool Builders Association in Japan referenced last month was prolonged delivery times due to parts procurement difficulties and I just want to get a sense for where you think some of the procurement difficulties might be and what implications if any that there could be for your business this year.

[Tim Mammen, SVP and CFO]

So I don't think that’s really a question we can answer, because the Japanese machine tool builders will have a very different supply chain from the one that we have where ours is primarily internal. I guess, they may be having, if they're looking at things like controllers or electronic parts and mechanical parts, I think that some of the lead times around those parts, if you’re sourcing them from third-parties is significantly higher than our internal lead times are. But it’s not actually a question I think that -- I've certainly not got a data point be able to answer that for you, Bobby. It isn’t relevant to us and our business.

[Bobby Burleson, Canaccord Genuity]

And then in terms of the additive manufacturing demand being pretty strong, are there particular programs, aerospace, medical, things like that, you think are behind the demand and also is there an increase in the average laser count, the average laser count per system that you're seeing.

[Tim Mammen, SVP and CFO]

I don't know there are any markets, behind medical and aerospace, have been referenced as two markets that were early adopters and strong adopters of additive technology because of the simplification in the manufacturing process coupled with the increasing complexity of the single part that could be growing. Maybe sort of general manufacturing still lags those specialized industries, but that also represents a tremendous opportunity. Certainly instead of going to higher power lasers, which people have tried, there are some one kilowatt lasers being used in additive. The move is really to integrate multiple medium power lasers on a single system and I think we've certainly seen an increase in those types of systems sold this year.

[Bobby Burleson, Canaccord Genuity]

And just a quick follow-up on that. How concentrated customer wise is your additive businesses at this point? Is it pretty diversified or is it -- a lot of it centered around one or two customers. I know it's not a huge industry in terms of OEMs, but just curious what the concentration might look like.

[Tim Mammen, SVP and CFO]

It's probably four or five main customers with another maybe five to ten emerging people in the industry. So it's fairly concentrated with the main players. One of whom was acquired, it was a major acquisition done. I mean, one of the catalysts of this market has certainly been that M&A activity that's happened. And the overall target growth rate for that industry has been set at 20% CAGR over the next 10 years. That implies system sales going from, maybe 700, 800 a year to 3,000 a year. So, there's a lot of momentum in that side and I think that momentum has been -- the catalyst for it has been the M&A activity and that's certainly crystallized some of the opportunities in metal additive processes.

[Operator]

Our next question comes from the line of Jim Ricchiuti from Needham & Company.

[Jim Ricchiuti, Needham & Company]

Your consumer electronics business, it looks like it cuts across a couple of different applications, and by the way, thank you for the additional detail. And I may have missed it, have you actually sized what that business was last year? Or maybe asking just in a different way, if you don't have that detail in front of you, how much additional -- how many points of growth did that account for do you think last year?

[Tim Mammen, SVP and CFO]

We referenced this before Jim on, the best way to look at it is, some of the growth in the pulse and the QCW is not all consumer electronics, but that was the major driver and we said that it benefited growth by about 400 basis points over the year. As I said, it was kind of the icing on the cake. It wasn’t the primary driver of growth during the year, but it's going to be a little bit of a headwind potentially this year. It won’t go to zero by the way. There are a lot of other opportunities on consumer electronics across different product lines and different end customers.

[Jim Ricchiuti, Needham & Company]

And was that a -- I'm curious when you talk to your OEMs early in the year about that, did the profile of that business change dramatically as the year unfolded or was that initially this thinking, did you have those kind of expectations going into the year or did it build high at a higher level as you went through the year?

[Tim Mammen, SVP and CFO]

I think it probably outperformed a little bit, but it was probably sort of the outperformance on other years that really drove -- on other applications and products that was more of a driver of the exceptional performance during the year that we had. The other point is by the way, Q4 results are really, in my opinion, even better when you consider that the c cycle kind of already tailed off, right. So, Q4 growth rate was with that C already being at a weaker phase during the year.

[Jim Ricchiuti, Needham & Company]

Just one other question if I may. Looking again at some of the applications that you've sized, if we look at the revenues in those areas, cutting and welding, marking and engraving, and I think about your backlog, is the composition of the backlog similar in terms of make up as these applications represent of the overall materials processing revenue or does it skew to any one area.

[Tim Mammen, SVP and CFO]

At a high level, no, it will be representative. We don't -- put it another way, we’re not expecting a fundamental shift in the product mix in the first quarter. So the backlog would be broadly similar. There's a lot of high power stuff and similar contributions from all the other products. And generally give a lot more granularity on the composition of the backlog, but I'm not expecting a fundamental shift yet in revenue in Q1, right. It's not $100 million of systems in backlog that are going to be shipped in the first four months of the year.

[Operator]

Our next question is a follow-up question from the line of Joe Wittine with Longbow Research.

[Joe Wittine, Longbow Research]

Just a quick follow-up and then another question. I think Dr. Gapontsev referenced systems as being $40 million. I was curious if that includes the beam delivery stuff that had since those seem to be growing quite a bit. And then second, Tim, I want to ask on operating leverage. So that's an occasional point I would say of investor pushback, which probably shouldn’t be the case, given the year you just put up. So I'm curious on your expectations for the leverage in ’18 relative to the sales guide you just laid out, perhaps in terms of OpEx dollars?

[Tim Mammen, SVP and CFO]

The first question on the beam delivery, the beam delivery numbers that Valentin referenced was 60 million outside of the 40 million systems business. Within systems, there may be some, obviously welding and cutting heads, but the broadest subset of beam delivery is outside of the systems business.

[Valentin Gapontsev, CEO]

Now, we have very profitable, unique set of the beam deliveries, especially optical, new generation of standard for very high power, very perfect, it’s becoming, very, very popular now that people recognize new opportunity in system integrators in metal process and product application. In situations, this market and we’re starting to get mass orders. This last year was mainly customers’ integrator tested. So now, they recognize big advantage. We’re starting to get very good OEMs, big orders on such kind of devices. So we expect this beam delivery will grow very much faster than average we will reach shortly $100 million.

[Tim Mammen, SVP and CFO]

And then on the operating expense side, relative to the guidance growth for the full year, there will be investments on the OpEx side and we believe that those are all warranted on sales and marketing. We got new product introductions that we’re investing in salesforce around that. We've expanded the geographic footprint. We’ll look for other opportunities on the geographic footprint. We continue to budget our R&D, growing at basically the same rate as revenues.

So we don't forecast any leverage of that. And there's some G&A investments. If we get to that guidance range, we're still going to have a very stellar operating margin, running the business with OpEx, I think last year was like 16.5 or even slightly lower percent given the complexity and different applications and end markets we're addressing. I’ve always said that you will see that kind of leverage when we go through, getting a return on some of the investments and you'll see slightly higher OpEx as a percentage of revenue when we're trying to develop new markets or putting investments in that are very fundamental to the longer-term growth opportunities of the company.

The one thing I'll say is that, even and in this year, what we are targeting is actually growing operating cash flow very strongly and continuing to manage working capital, so the cash flow is also a focus of our strategic goals during the year. Some of that will be offset by CapEx spending, but that CapEx spend is still not above the high end of the historic range that we’ve had when we've gone through an investment cycle. So I’d say, operating cash flow is going to be strong, free cash flow is going to be strong and there are going to be investments in the business. So, we're looking at this from all different aspects.

[Joe Wittine, Longbow Research]

On that Tim, is it reasonable to expect OCF growing at a minimum commensurate with the sales growth?

[Tim Mammen, SVP and CFO]

Yeah. My budget is, as you got that OCF at above sales growth.

[Operator]

There are no further questions in the queue. I would like to hand the call back over to management for closing comments.

[Valentin Gapontsev, CEO]

Okay. Thank you for joining us this morning. We’re very pleased to talk to you. We look forward for speaking with you next quarter. Have a great day.

[Operator]

Ladies and gentlemen, this does conclude today's teleconference. Thank you for your participation. You may disconnect your lines at this time and have a wonderful day.