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Cogo Group, Inc. (COGO)

Q2 2011 Unaudited Results Earnings Call

Aug 4, 2011, 4:30pm ET

Executives

Jeffrey Kang - Chairman and CEO

Will Davis - Senior Vice President of Business Development and Chief Marketing Officer

Frank Zheng - CFO

Wanyee Ho - Investor Relations Director

Analysts

Mike Walkley – Canaccord Genuity

Scott Searle – Merriman Capital

Quinn Bolton – Needham & Company

Mark Tobin – Roth Capital Partners

Brad Erickson – Pacific Crest Securities

Alan Senter – Valentine Capital Management

Presentation

Operator

Good afternoon. At this time I would like to welcome everyone to the Cogo Group, Inc. Second Quarter of 2011 earnings conference call. All lines have been placed on mute to prevent any background noise.

After the speakers' remarks, there will be a question-and-answer period. If you would like to pose a question during this time, please press star, then the number one on your telephone keypad. If you would like to withdraw your question, press the pound key. Thank you. It is now my pleasure to turn the floor over to Cogo’s Investor Relations Director, Ms. Wanyee Ho. Wanyee - you may begin your conference.

Wanyee Ho

Thank you Alisha, and good afternoon to everyone. I'm Wanyee Ho, Cogo’s Investor Relations Director, and I'd like to thank you all for joining us today to participate in Cogo's 2011 Second Quarter Earnings Conference Call.

After the market closed today, Cogo issued a press release reporting unaudited financial results for the quarter ended June 30, 2011. This release can be accessed in the investor relations section of Cogo's website at www.cogo.com.cn and on most other financial websites.

The discussion today will be hosted by Jeffrey Kang, Chairman and CEO, who will discuss the Company’s business operations; Will Davis, our Senior Vice President of Business Development and Chief Marketing Officer, who will discuss guidance; and Frank Zheng, our CFO, who will report on the Company’s financials.

Before we begin, I'd like to remind everyone that the call today may contain forward-looking statements regarding future events and the financial performance of the Company. We wish to caution you that such statements are at present just predictions, and actual results may differ materially as a result of the risks and uncertainties inherent in the Company's business. We refer you to documents that the Company files periodically with the SEC, specifically the most recently filed Form 10-K, as well as the Safe Harbor statement made in today’s press release. These documents contain important risk factors that could cause actual results to differ materially from those contained in the Company's current projections. Cogo assumes no obligation to revise the forward-looking information contained in today's call.

At this time, I'd like to turn the call over to Jeffrey. Jeffrey, the floor is yours.

Jeffrey Kang

Thank you, Wanyee, and thanks to everyone for joining the call. I will focus on a few key points and leave plenty of time for Q&A.

First, I will review our second quarter results and outlook for the third quarter;

Second I will provide an update on our buyback program and our successful proxy vote to change our domicile to the Caymans Islands,

Third, I will provide an update of the development of our new, unique e-commerce platform, Cogo 3.0, located at cogozon.com, which is One-Stop Shop for our SME Customer base, providing them with soup to nuts Value Added solutions, ranging from applications to logistics to products. Currently, the focus of Cogo 3.0 is on leveraging our existing customer base, while longer term, the focus will shift to accelerating customer additions. In this business, scale is the number one current priority.

Cogo’s second quarter revenue of $134.6 million was up 48% year over year. We saw strong bookings with specific strength in Telecom, Healthcare, Smart Grid/Meters, 3G Smartphones and HDTV. I would classify our overall end market demand as mixed, with the credit tightening causing some recent uncertainty amongst our SME customer base. We view this situation as temporary and expect our SME customers to be poised for continued share gains once the credit tightening eases and the current uncertainty lifts, perhaps within two or three quarters. We also saw our blue-chip customers gaining some share across certain end markets, particularly in handsets and telecom.

Our Non-GAAP EPS diluted earnings in the quarter was 22 cents, in-line with our prior guidance. Cogo posted a gross margin of 12.3% in the quarter as much better than expected strength in telecom lowered our blended gross margin. We also saw some gross margin deterioration in both digital media and telecom segments, and these trends are expected to continue for the rest of 2011 and into 2012 as these industries continue to mature. I expect that our gross margins will be in the 10-11% range for the next few quarters as pricing trends in these segments remains under pressure, but we see stability in this range. We have not seen any deterioration in our Industrial gross margins and believe that different dynamics within those end markets should leave those gross margins at current levels.

In the quarter, Cogo posted operating margins of 7.2%, down sequentially from 8.5% in the first quarter due to lower gross margins and a calculated decision to begin ramping investments in headcount and new offices throughout China in order to aggressively pursue scale. We expect this new series of investments to last through 2012 as we pursue the highly fragmented $100 billion Addressable Market. During the last slowdown in late 2008, we were too conservative in pursuing new business opportunities. While the end markets are in a period of uncertainty, I would like expand and NOT retrench. At some point in 2012, we would expect this uncertainty to have lifted and we expect to be in an even stronger position. To be clear, I am investing aggressively in the business because I see tremendous opportunities in the marketplace and I have to take a longer term approach. The current market forces give us an unprecedented chance to aggressively consolidate the market to drive scale while others are cautious. We have the platform, the capital structure and the scale to make it happen.

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