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Valence Technology Reports Financial Results for the First Quarter of Fiscal Year 2007 - Conference call

Jim Akridge - CEO Opening remarks
Tom Mezger - CFO Q1 FY 2007 financial results
Dean Bogues - Sales and Marketing Detail on their recent business activity
Q and A

Akridge: Our last conf call was on June 29. In the interim period between that call and today's call, VLNC has been striving globally to generate revenue and improve the company's financial performance. Focused on finding opportunities to reduce costs while improving productivity and product quality. The Staff has delivered. Continued to reduce operating expenses, improved the operating cash flow, and, for the first time in the company's history, achieved positive gross margin from their manufacturing operations due to diligent efforts in reorganization, management of quality, yield improvement, renegotiation of raw materials prices and cell pricing to lower cost down. Looking to get new customers and increase market share for the UCharge product.

Tom Mezger: For Q1 FY 2007
Press Release Source: Valence Technology Inc.
Valence Technology Reports Financial Results for the First Quarter of Fiscal Year 2007
Wednesday August 9, 5:22 pm ET
AUSTIN, Texas--(BUSINESS WIRE)--Aug. 9, 2006--Valence Technology Inc. (NASDAQ:VLNC - News), providers of Saphion® energy storage systems, the industry's first commercially available, safe, large-format lithium-ion rechargeable batteries, today reported results for the three-month period ending June 30, 2006. First Quarter Highlights:
o Achieved positive Gross Margin.
o Reduced operating expenses by 22 percent compared to first quarter fiscal last year.
o Reduced operating cash flow by 38 percent compared to first quarter fiscal last year.
o Increased large-format battery systems sales to 74 percent of the sales mix, compared to 37 percent for
the prior year.
o Shipped six new models of the U-Charge® Power System large-format lithium-ion batteries as well as a new Battery Management System (U-BMS) and battery discharge indicator (U-BDI).
"We are pleased with the results of our cost reduction programs over the last year and we are seeing the benefits of a lot of hard work by our team which is evidenced by our reaching a key goal of positive gross margin in the first quarter of fiscal 2007. The recent demand for our large-format Saphion® batteries further demonstrates that we are well positioned to gain market share in our core markets,"
said Dr. James R. Akridge, President and Chief Executive Officer of Valence Technology Inc. "We will remain focused on growing revenue, reducing costs and improving gross margins, while improving shareholder value."

Financial Results
For the first quarter of fiscal year 2007, Valence Technology reported revenues of $3.2 million, compared to $3.4 million in the first quarter of fiscal year 2006. Revenue for the quarter was negatively impacted by production delays of the N-Charge small format battery, which was affected by the
Underwriters Laboratories' recertification process. This created a backlog of N-Charge batteries which we expect to fulfill during the second quarter of fiscal 2007.

The large format systems represented 74% of the total revenue for the qtr up from 37% from prior year. Encouraged by the growth of the large format product line and the large format product revenue to continue to grow. Gross margin was a positive, $22K or 0.7% for Q1 FY2007 compared to -$4.9 Million or -56% a year ago. The company has significantly lowered the material costs, improved yields, lowered
transportation costs, cost reductions due to manufacturing process improvements. Operating expenses for Q1 FY2007 declined 22% YOY. Excluding gains/losses on disposals of properties, plant and equipment, operating expenses declined 30% compared to Q1 FY2006 - mainly due to cost reduction programs put in place over the 6 to 9 months.

The company reported a net loss available to common stockholders of $5.7 million, or $0.06 per basic and diluted share, in the first quarter of fiscal year 2007 compared to a net loss available to common stockholders of $8.2 million, or $0.09 per basic and diluted share, in the first quarter of fiscal year 2006, and a net loss available to common stockholders of $9.6 million, or $0.11 per basic and diluted
share, in the fourth quarter of fiscal year 2006. This represents a 31% improvement YOY.

The company continues to require funding from outside sources.
On Aug 3, 2006 West Coast Venture Capital purchased 1.3 Million common shares for US $2 Million.
In July 2006, they issued convertible promissory notes in the aggregate principal amount of $2 Million and $1 Million to Berg and Berg. These notes with accrued interest were converted into 1.9 Million common shares on July 26, 2006.
In June 2006, they issued convertible promissory notes in the aggregate principal amount of $2 Million to Berg and Berg. These notes with accrued interest were converted into 1.2 Million common shares on July 25, 2006.
On May 11, 2006 West Coast Venture Capital purchased 640,000 common shares for $1.5 Million.
On April 3, 2006 West Coast Venture Capital purchased 400,000 common shares for $1 Million.
Stock issuance by Cantor and Fitzgerald: raised $1.1 Million on the sale of 468,000 common shares.
Revenue forecast for Q2 FY2007 will be in the range of $5 to 6 Million. Some of the increase in revenue is the result of a shipment delay due to UL recertification required for the small format NCharge product. The improved financial performance in Q1 FY2007 is due to material cost reduction, cell production cost reduction, reduction in transportation costs, and enhanced demand for the large format product.

Dean Bogues: Q1 FY2007 sales review. Small format product demand was strong in spite of shipment delays due to UL recertification process. NCharge sales increased 63% qtr over qtr, 22% YOY, creating a huge backlog. Expect to fulfill the order backlog in Q2 2007.
Large format business has been and will be one of their key areas for growth. For example, Oxygen, an Italian company, selected their UCharge XT system for their electric delivery scooters designed for the Belgium Postal Service. Oxygen placed orders in Q1 FY2007. During Q1 FY2007 they also received an order from the bowling company Cagle a manufacturer of bowling lane cleaning and conditioning machines.

Their UCharge RT series will be the power source for their cordless machines that can clean and condition 50 lanes per charge. During Q1 FY2007 they shipped UCharge battery systems to 15 new customers across the Americas and Europe. For example, in the marine segment of the motive market, they
shipped UCharge XP power systems to a submarine manufacturer to outfit a pilot electric submarine. 90 UCharge batteries will be connected together along with a new UBMS battery mgmt system in this application. In Europe two new customers are installing UCharge battery systems in light electric vehicle systems for testing and evaluation, to replace lead acid battery systems. In USA they shipped UCharge battery system to a Fortune 500 diversified industrial manufacturer in the electrical, fluid power, truck, and automotive segment. The company is currently evaluating the batteries for a HEV project for utility vehicles. Also shipped UCharge XP systems to defense, motive, and marine applications as well as another scooter application. Target both OEM and after markets. In light of the recent safety recall activity in the notebook computer market they feel it is important to point out that they have a proven and safe solution with their NCharge I power system which can be shipped on demand to customers who prefer that they have a long run time and feel uncomfortable with the compromised safety provided by their current solution. They have been and they will be in discussion with key top notebook computer manufacturers. Saphion II is the technology required to address the
notebook computer market. Saphion II is in the development process. They hope that the first sample for testing will be available by the end of this calendar year. Looking forward to getting feedback from notebook computer manufacturers and other portable appliance manufacturers.

Akridge: has a strong mgmt team. High performance team with required skills needed in China to continue the ramp up production and profitability. Their second and third quarters look good. On track to achieve FY 2007 objectives. Positioned as a leading provider of large format, safe, cost effective, high performance batteries.

Q1: A change in the product mix anyway contributed to the positive margin for the quarter? Is the positive margin sustainable?
Akridge: Was the product mix responsible for the margin? Did I hear you right?

Q1.1: Yes, given what happened with the Underwriters lab, was the product mix anyway responsible? Should we expect the positive gross margin to continue? Have you crossed over the hump?
Expect to deliver positive gross margin in the future. As I said, our path forward is somewhat difficult because we need to maintain our momentum. Though we expect to stay over the hump, things can happen in manufacturing, although we do not expect to see adverse events happening at present. I do not see a reason why we can not sustain positive margin. As far as the product mix being a factor, the improvements in yield and quality as well as cost reductions and scrape reductions over the past 12 months and an improvement in their overall efficiency played a significant role. We expect with our product launch in NCharge, UCharge and Segway lines should carry them into a nice growth in the future.

Q1.2: Segway sales - during the last conference call you indicated Segway sale was likely to be flat. Do you expect an increase in sales to Segway?
Dean : Will there be any sequential improvement in Segway sales from Q1 to Q2? The answer is we'll see an improvement in the shipment of Segway products from Q1 to Q2.

Q2: Comment on the powder quality and the capacity to produce large volumes?
Akridge - the product quality is extremely high now. The raw material purchased goes through a process and comes out as the best material. Manufacturing/conversion efficiencies are the high 90's as it should be for industrial operations. They have plenty of material - quantity wise or tonnage wise - to meet all of production demands at the best quality levels. No shortfall in powder, no shortfall in
quality, they have plenty of stock.

Q2.1: Now that you do not have a powder problem and you have the capacity to produce large volumes, how are the sales coming along?
Expect revenue increase from Oxygen, Cagle and Segway. After-market for RT series batteries as a drop-in replacement for lead acid batteries.

Q3: Recall the power cell discussion from the last conference call, for the power tool market. You said that you were focusing on the manufacturing issues and would address the power cell later. Could you give an update on power cell?
Akridge - proceeding with power cell. Actually they have some that they are trialing. Energy cell is what is being used in current products. In the VLNC Saphion I process which is the way they make the powder, the raw material already has a very high power capability characteristics in an energy cell format. Pursuing the power cell with their vendors and they are making both 18650 and 26650 sizes; looking at other sizes and prismatic format. Looking at their raw material,it may be possible for VLNC
to make one cell and service both markets because of the unique way they make Saphion I powder. Its characteristics are extremely good for high power in its current energy format. It is possible to make one product that will serve both markets which will be beneficial to them because it will reduce the number of changes at the plant and reduce their cost structure. We are pursuing. We have power cells now - two formats. Taking a look at the markets which they will fit.
Another tidbit - EV and HEV markets. There is a division of batteries required for those two markets. HEV needs a power cell. EV needs an energy cell. If they can make one size or one cell since the powder can fit both cell types, you can see the benefits VLNC will have. They are taking a careful look at the entire market how they will play out, how the power tools will play out, etc. for high power applications.

Q3.1: If Saphion I powder is capable of yielding power cell or energy cell, why you need to wait for the development of Saphion II material for the notebook computer application? Is the energy density not sufficient?
Power cell vs. energy cell distinction applies to Saphion I technology. The way the market is playing out, they may need to have only one product to serve both markets. Saphion I can not play in the laptop or cell phone markets because of the voltage differentials and energy density differences.
Saphion II runs at half the same voltage that is used in the laptop and cell phone market. They may have some energy density disadvantage but it will diminish as they advance substantially as they apply modern manufacturing technology and improve the chemistry. They are watching those markets carefully. If they are going to have a play in those markets, it will be Saphion II, not Saphion I. They are
keeping an eye on this market especially in view of the recent safety problem with notebook computers.

Q3.2: What is your goal for Saphion II application for the laptop market?
The energy density of the phosphate electrodes are not as high as the oxides. But they can come close. They will position Saphion II by the end of the calendar and start sampling for laptop applications. If there is a play for VLNC in this market, they will go for it.

Q3.3: Do you think the safety aspect of Saphion in light of what happened with Dell will be convincing enough to switch to Saphion by the year end provided the energy density comes out ok for this application?
Certainly, safety will be compelling story. We need to see if only safety is enough of a compelling story for a switchover. I am sure we are going to receive a lot of attention.

Q4: Can you elaborate on HEV market? Are you working on a battery that will be a drop-in solution for the NiMH battery replacement market for the HEV's?
Their UCharge series, especially the XP (extra power series) can be used for that market. We have, about 2 years ago prior to my joining this company, a Prius was converted using VLNC batteries. The technology we now have can replace the NiMH batteries in HEV's. It is not actually a drop-in.
Some things have to be done for the conversion. Their XP series is meant for the EV and HEV markets. They have field trials on-going in those markets.

Q4.1: Segway's announcement not to sell older models in view of their new models? Where we stand on those new models? Are they primarily using Saphion batteries in those new models?
Dean - The plan for Segway is to use VLNC battery in their new models. There is no question about it.

Q4.2: About the laptop market. With current problems Dell is experiencing with explosions, how much of an energy density disadvantage you see relative to cobalt oxide that it will make sense for them to move over to Saphion?
Akridge - cobalt is an excellent chemistry that has been developed over many years for that portable power markets. They have high energy densities, extremely high power rates, and good cycling characteristics. Saphion I has excellent cycling characteristics, excellent safety, and excellent high power, but its energy density does not match cobalt. In order to play in the portable power space, it
is really an energy density play - at the present time. Need to wait for investigation to understand how safety played a role in the recent notebook computer explosions. We are going to wait a while to see how this market will play out. Certainly Saphion II will have a role in this market. I can not forecast that Saphion II will match the cobalt system because the densities of oxides are higher than the densities of phosphates. We have that fundamental limitation. It is going to depend upon how the notebooks will advance in the future, what their power requirements will be, what their run times are, etc. We do have a solution now for people, That is our NCharge. It does a nice job of running a laptop today. We do have a solution in the NCharge space.

Q5: Any update on taxicab testing in Canada? Submarines? Military? Laptop for the fields? Tests with golf carts? Wheel chairs? Handheld devices?
Dean - Customers are in various stages of testing and development. For some customers the market opportunity has gone away. Any specific customers?

Q5.1: How about the wheel chairs?
That particular market has changed due to Medicare reimbursement procedures in USA depending upon their portability factors. There is not an opportunity for VLNC. The wheel chair has to be reduced into three pieces and put in the car. This was not a requirement three years ago when the agreement was signed with Graham-Field. The battery requirement is a lot smaller now. They are not looking to
replace two lead acid batteries but rather one lead acid battery for one li-ion battery. Working closely with a wheel chair supplier on the design of a wheel chair to meet the needs of the new reimbursement program and the new wheel chairs that are coming into the market.

Q5.2: How about electric cars, taxicabs? Are they viable applications for Saphion batteries?
Dean - Absolutely! The biggest market for VLNC currently is the commercial fleet market. Working with EVI in Mexico. EVI manufactures delivery vehicles. We are in a pilot test now with them with UCharge batteries replacing lead acid batteries. In Europe they are working with several companies. Things are going very well with those evaluations. Oxygen went from evaluation to production stage.

Q6: Can we explore where we might be in telecom backup power for KCharge or power industry for load balancing?
Dean - K Charge business has been disappointing in terms of volume. Hoped to get a lot more volume due to their relationship with Tyco, but it did not materialize for two reasons: (1) telecom industry moves very slowly in adopting any kind of new technology, and (2) they take a long time to
evaluate. They got K Charge units in many telecom sites but they have not seen results of their tests yet. Over the last six months they have seen a resurgence of interest worldwide for the power backup applications. They are going back to the market to define the right product for power backup
application. Depending upon the ROI for that market they will decide whether or not they will launch a product for these markets.
Akridge - The power back modules that sit outside the air-conditioned space have different requirements. It is important to realize that distinction "inside vs. outside". The outside market is quite attractive for the Saphion I systems. These installations tend to be remote. Most of them are lead acid. So they are subject to short cycle life as lead acid does - 2 to 4 deep discharge cycle per year. People have to go out in the field to service them under harsh environments and they still need water even if they are sealed cells. So Saphion I being one with a long cycle life, able to withstand many, many deep discharge cycles (more than 1000 cycles) and not subject to the temperature fluctuations, so they can have many stand-alone maintenance-free installations. They are more expensive than lead acid but Saphion offers a good value proposition in terms of maintenance costs, cycle life costs, headaches, etc. We are speaking to the Telecom industry again. They have a very large provider that is in communication with them now. They are going to visit and sit down, as Dean said, work with them and their technology people to define products. I believe that in two quarters we'll update you with specific information on this market and how it looks for us. It is an attractive market, it is a huge market. We have the right products to re-enter this space with the right partner and the right design. We are pursuing that aggressively.

Q6.1: Is this applicable to all commercial power industry in general?
Yes, it is true. Anywhere you need power, light weight and long run time, and low maintenance, VLNC has a product.

Q7: Your cash burn and cash needs in the next 12-18 months?
We work closely with Carl Berg and his contact on a continuous basis to look for the best opportunity and valuation we can get as we move forward. Close contact with Carl Berg.
Akridge - Like other high tech business, the battery business needs continuous investment and capital. We are making good progress. So, we should be able to get the finances as we move forward. As we expand we are going to need additional funds for raw materials, etc. Our expenditures are now in the space of positive margin. The money that we need to expand our business and grow our business is spent against
an improving financial picture. This is the best position VLNC has been in a long time. The money that we need will be easier to get.

Q7.1: How about licensing your technology and revenues from licensing? You need more than one provider. Is licensing a viable source of revenue?
For the right partner, yes, it is. We are actively engaged in discussions with large companies regarding licensing. We can not expand explosively. The amount of money it takes for expansion is quite large. As the market is rising nicely in the phosphate area with rising volume with number of applications, we are speaking to other organizations that are in the battery business and that would like to have a stake in this technology. They will pursue that strategy.

Q8: Two basic questions with respect to plug in hybrid electric. Do you see it a viable business for VLNC? Do you see a major competitor emerging out there?
A major battery competitor? (yes, with a competing technology?) There are other manufacturers looking at the phosphate chemistry. I do not see anyone capable of dropping in with the technology for the plug-in hybrid or EV or HEV applications at the present time. We are the only player that truly viable in that space with UCharge series. Plug-in hybrid has a fair amount of engineering to go before it will be ready. In that time it is ready to go, VLNC will have the right product and the right price point for that market. They are pursuing both EV and HEV markets, and watching the plug-in hybrid market.

Q9: A transit system in Norway or Netherlands using VLNC batteries? Is that still a viable possibility?
Yes it is. That is the company called eTraction and they are outfitting additional buses with VLNC batteries.

Q10: Recent decision by EU to eliminate toxic substances from electronic products. Has this opened up an opportunity for VLNC? Any specific market that come to mind?
Not directly. They have not seen anything. There could be indirect impact due to those decisions, not a direct impact.

Q11: Competitions (like A123) imposing on VLNC patents?
Akridge - No. It is not yet possible to know until we analyze their product. We need to analyze products to see where things going. We can not answer a question in detail without analyzing their products. We may be able to give a better answer in a quarter or two as more of their products
come on the market, they had a chance to analyze them and we take a look at them. We do not see any direct competitors in our battery space at the present time, not the markets that we have targeted for the large format battery replacement applications for the deep discharge lead acid or the NiMH battery systems.

The conf call notes is subject to errors. Check with SEC documents for accuracy.

I missed the last conference call which was postponed to June 29, 2006. On that same day I left on a long tour to other countries where the Internet access was quite scarce. The archived call was not available after July 18. In the current country where I am now, I have better access. Ram
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