FORWARD-LOOKING STATEMENTS

Certain statements contained in this Management's Discussion and Analysis of Financial Condition and Results of Operations are forward-looking statements. Forward-looking statements are also identified by words such as "expects," "anticipates," "believes," "intends," "plans," "projects," or similar expressions. Actual results could differ materially from those anticipated in these forward-looking statements for many reasons, including risk factors described in the Risk Factors set forth in this Item 1A, which are incorporated herein by reference.

OVERVIEW

The Company generates revenues, earnings and cash flows from developing, manufacturing and marketing high technology materials and derivative products for precision use in industrial, medical, military and aerospace applications. We also generate revenue, earnings and cash flows from external customers and government funded research and development contracts relating to the development and manufacture of new technologies, materials and products.

Our customer base includes OEMs, laser end users, system integrators of high-power lasers, manufacturers of equipment and devices for the industrial, military and medical markets, and U.S. government prime contractors, various U.S. government agencies and thermo-electric integrators.

CRITICAL ACCOUNTING ESTIMATES

The preparation of financial statements and related disclosures in conformity with accounting principles generally accepted in the United States of America and the Company's discussion and analysis of its financial condition and results of operations requires the Company's management to make judgments, assumptions, and estimates that affect the amounts reported in its consolidated financial statements and accompanying notes. Note A of the Notes to our Consolidated Financial Statements describes the significant accounting policies and accounting methods used in the preparation of the Company's consolidated financial statements. Management bases its estimates on historical experience and on various other assumptions that it believes to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities. Actual results may differ from these estimates.

Management believes the Company's critical accounting estimates are those related to revenue recognition, allowance for doubtful accounts, warranty reserves, inventory valuation, valuation of long-lived assets including acquired intangibles and goodwill, accrual of bonus and profit sharing estimates, accrual of income tax liability estimates, accounting for share-based compensation and self-insurance for workers' compensation. Management believes these estimates to be critical because they are both important to the portrayal of the Company's financial condition and results of operations, and they require management to make judgments and estimates about matters that are inherently uncertain.

Management has discussed the development and selection of these critical accounting estimates with the Audit Committee of the Board of Directors and the Audit Committee has reviewed the foregoing disclosure. In addition, there are other items within our financial statements that require estimation, but are not deemed critical as defined above. Changes in estimates used in these and other items could have a material impact on the financial statements.

The Company recognizes revenues when the criteria of SAB 104 (as defined below) are met. Revenues for product shipments are realizable when we have persuasive evidence of a sales arrangement, the product has been shipped or delivered, the sale price is fixed or determinable and collectibility is reasonably assured. Title and risk of loss passes from the Company to its customer at the time of shipment in most cases with the

We establish an allowance for doubtful accounts and warranty reserves based on historical experience and believe the collection of revenues, net of these reserves, is reasonably assured. Our allowance for doubtful accounts and warranty reserve balances at June 30, 2009 was approximately $1.0 million and $0.9 million, respectively. Our reserve estimates have historically been proven to be materially correct based upon actual charges incurred.

The Company's revenue recognition policy is consistently applied across the Company's segments, product lines and geographical locations. Further, we do not have post shipment obligations such as training or installation, customer acceptance provisions, credits and discounts, rebates and price protection or other similar privileges. Our distributors and agents are not granted price protection. Our distributors and agents, who comprise less than 10% of consolidated revenue, have no additional product return rights beyond the right to return defective products that are covered by our warranty policy. We believe our revenue recognition practices are consistent with SEC Staff Accounting Bulletin: No. 104 - Revenue Recognition in Financial Statements ("SAB No. 104") and that we have adequately considered the requirements of Statement of Financial Accounting Standards No. 48 "Revenue Recognition When Right of Return Exists" ("SFAS No. 48").

Revenues generated from transactions other than product shipments are contract related and have historically accounted for approximately 5% or less of the Company's consolidated revenues. For this portion of revenues, the Company follows the guidelines of Statement of Position 81-1 "Accounting for Performance of Construction-Type and Certain Production-Type Contracts" for these contracts, which are related to research and development.

The Company establishes an allowance for doubtful accounts based on historical experience and believes the collection of revenues, net of these reserves, is reasonably assured. The allowance for doubtful accounts is an estimate for potential non-collection of accounts receivable based on historical experience. The Company has not experienced a non-collection of accounts receivable materially affecting its financial position or results of operations as of and for the fiscal years ended June 30, 2009, 2008 and 2007. If the financial condition of the Company's customers were to deteriorate causing an impairment of their ability to make payments, additional provisions for bad debts may be required in future periods.

The Company records a warranty reserve as a charge against earnings based on a historical percentage of revenues utilizing actual returns over a period that approximates historical warranty experience. If actual returns in the future are not consistent with the historical data used to calculate these estimates, additional warranty reserves could be required.

The Company records a slow moving inventory reserve as a charge against earnings for all products on hand for more than twelve months to eighteen months depending on the products that have not been sold to customers or cannot be further manufactured for sale to alternative customers. An additional reserve is recorded for product on hand that is in excess of product sold to customers over the same periods noted above. If actual market conditions are less favorable than projected, additional inventory reserves may be required.

The Company tests goodwill and indefinite-lived intangible assets on an annual basis for impairment or when events or changes in circumstances indicate that goodwill might be impaired. Other intangible assets are amortized over their estimated useful lives. The determination of the estimated useful lives of other intangible assets and whether goodwill or indefinite-lived intangibles are impaired involves judgments based upon long-term projections of future performance. Estimates of fair value are based on our projection of revenues, operating costs and cash flows of each reporting unit considering historical and anticipated results, general economic and market conditions. The fair values of the reporting units are determined using a discounted cash flow analysis

As a result of the purchase price allocations from our prior acquisitions and due to our decentralized structure, our goodwill is included in multiple reporting units. Due to the cyclical nature of our business, and the other factors described under "Risk Factors" herein, the profitability of our individual reporting units may periodically suffer from downturns in customer demand, operational challenges and other factors. These factors may have a relatively more pronounced impact on the individual reporting units as compared to the Company as a whole, and might adversely affect the fair value of the reporting units. If material adverse conditions occur that impact one or more of our reporting units, our determination of future fair value may not support the carrying amount of one or more of our reporting units, and the related goodwill would need to be written down.

The Company records certain bonus and profit sharing estimates as a charge against earnings. These estimates are adjusted to actual based on final results of operations achieved during the fiscal year. Certain partial bonus amounts are paid quarterly based on interim Company performance, and the remainder is paid after fiscal year end and final determination of the applicable percentage. Other bonuses are paid annually.

The Company prepares and files tax returns based on its interpretation of tax laws and regulations and records estimates based on these judgments and interpretations. In the normal course of business, the Company's tax returns are subject to examination by various taxing authorities, which may result in future tax, interest, and penalty assessments by these authorities. Inherent uncertainties exist in estimates of many tax positions due to changes in tax law resulting from legislation, regulation and/or as concluded through the various jurisdictions' tax court systems. The Company recognizes the tax benefit from an uncertain tax position only if it is more likely than not that the tax position will be sustained on examination by the taxing authorities, based on the technical merits of the position. The tax benefits recognized in the financial statements from such a position are measured based on the largest benefit that has a greater than 50 percent likelihood of being realized upon ultimate resolution. The amount of unrecognized tax benefits is adjusted for changes in facts and circumstances. For example, adjustments could result from significant amendments to existing tax law and the issuance of regulations or interpretations by the taxing authorities, new information obtained during a tax examination, or resolution of an examination. The Company believes that its estimates for uncertain tax positions are appropriate and sufficient to pay assessments that may result from examinations of its tax returns. The Company recognizes both accrued interest and penalties related to unrecognized tax benefits in income tax expense.

The Company has recorded valuation allowances against certain of its deferred tax assets, primarily those that have been generated from net operating losses in certain taxing jurisdictions. In evaluating whether the Company would more likely than not recover these deferred tax assets, it has not assumed any future taxable income or tax planning strategies in the jurisdictions associated with these carry-forwards where history does not support such an assumption. Implementation of tax planning strategies to recover these deferred tax assets or future income generation in these jurisdictions could lead to the reversal of these valuation allowances and a reduction of income tax expense.

The Company adopted SFAS No. 123(R) "Share-Based Payment," effective July 1, 2005 ("SFAS No. 123(R)"). SFAS No. 123(R) requires the recognition of the fair value of share-based compensation in earnings. The Company elected the modified retrospective transition method for adopting SFAS No.123(R). Under this method, all prior period financial statements were restated effective July 1, 2005 to recognize share-based compensation cost in the amounts previously reported in the Notes to Consolidated Financial Statements. The Company recognizes the share-based compensation expense over the requisite service period of the individual grantees, which generally equals the vesting period. Prior to July 1, 2005, the Company followed

The Company is self-insured for certain losses related to workers' compensation for its U.S. employees. Additionally, third-party insurance is obtained to limit our exposure to these claims in excess of $0.4 million per occurrence and $1.0 million in the aggregate per policy year. When estimating its self-insurance liability, the Company considers a number of factors, including historical claims experience, demographic and severity factors and valuations provided by independent third party consultants. Periodically, management reviews its assumptions and the valuations to determine the adequacy of its self-insurance liability.

EXECUTIVE SUMMARY

Fiscal year 2009 was a challenging year for the Company. The majority of the markets we serve, including the worldwide industrial material processing markets, were severely impacted by the global economic downturn. The Company reacted to this challenge by initiating plans to reduce its operating cost structure and capital spending programs and repositioning its working capital requirements to be in a position to react when economic recovery occurs.

Fiscal 2009 Compared to Fiscal 2008

RESULTS OF CONTINUING OPERATIONS

Overview (millions except per share data)



                                              Year Ended
                                               June 30,           %
                                            2009      2008     Decrease

              Bookings                     $ 261.1   $ 345.3        (24 )%
              Revenues                       292.2     316.2         (8 )%
              Net earnings                    38.9      65.7        (41 )%
              Diluted earnings per share      1.29      2.16        (40 )%

BOOKINGS Bookings from continuing operations decreased 24% to $261.1 million in fiscal year 2009 compared to $345.3 million in fiscal year 2008. The majority of the Company's business segments realized lower bookings in fiscal year 2009 compared to fiscal year 2008. The Company's business segments were negatively impacted by the overall challenging macro-economic environment that began during the Company's fiscal year 2009. The major factors that contributed to this overall decline in bookings include:

• The Infrared Optics segment recorded a decrease in bookings of $20.5 million or 26% in the current year compared to last fiscal year due to a downturn in the industrial markets brought on by the worldwide economic recession.

• The Near-Infrared Optics segment, as previously announced, has continued to ramp down its UV Filter product line as a result of reduced demand from its military customer. UV Filter bookings declined $21.6 million or 76% from its order rate for this product line in fiscal year 2008.

• PRM in the Company's Military & Materials segment recognized a decrease in bookings of $4.0 million or 64% due to market price volatility for its two main raw materials, Selenium and Tellurium which impacted the product requirements.

Somewhat buffering the overall decrease in the Company's bookings during fiscal year 2009 was the increase in military and defense orders at the majority of the Company's segments as its military product offerings are being introduced into more key military programs.

REVENUES Revenues from continuing operations decreased 8% to $292.2 million in fiscal year 2009 compared to $316.2 million in fiscal year 2008. The primary reasons for the revenue decrease was a lower volume of shipments from the Infrared Optics segment resulting from a lowering demand from the segments industrial based customers as a result of the deterioration of the worldwide economy. In addition, the Company's Near-Infrared Optic's UV Filter product line recognized approximately $10 million less revenue in the current fiscal year compared to the same period last year as this product line continues to ramp down. The overall decrease in revenues was partially offset by increased revenue volumes at the Company's Exotic Electro-Optics ("EEO") and Marlow operations relating to increased shipment volume of military and defense related product offerings.

NET EARNINGS Net earnings from continuing operations decreased 41% in fiscal year 2009 to $38.9 million ($1.29 per share-diluted) from $65.7 million ($2.16 per share-diluted) in fiscal year 2008. During fiscal year 2008 the Company sold its equity investment in 5NPlus, Inc. for $30.2 million in cash, on which it recorded an after-tax gain of $15.9 million ($0.52 per share-diluted). In addition to the gain on 5NPlus, Inc. in fiscal year 2008, the decrease in earnings was primarily due to less incremental margin recognized on the lower volume of revenues. The Company also incurred $1.0 million more in share-based compensation expense in the current fiscal year compared to the same period last year. Offsetting the net earnings in fiscal year 2009 was the lower effective income tax rate resulting from the Company recording a favorable income tax benefit of approximately $4.7 million in accordance with FIN 48 relating to the reversal of unrecognized tax benefits from the completion of an Internal Revenue Service examination of certain of the Company's Federal income tax returns.

OUTLOOK The Company is anticipating that fiscal year 2010 will be another challenging year. We anticipate the world's economies will continue to be sluggish with only modest growth in the industrial markets serviced by our operating segments. The Company is planning for a further reduction in demand for its UV Filter product line, which is a component of the Near-Infrared Optics segment, with revenues expected to decrease in the fiscal year ending June 30, 2010 by approximately $10 million from the revenues for the fiscal year ending June 30, 2009.

SEGMENTS Bookings, revenues and segment earnings for the Company's reportable segments are discussed below. Segment earnings differ from income from operations in that segment earnings excludes certain operational expenses included in other expense - net as reported. Management believes segment earnings to be a useful measure as it reflects the results of segment performance over which management has direct control and is used by management in its evaluation of segment performance. See also Note M to the Company's Consolidated Financial Statements for further information on the Company's reportable segments.

Infrared Optics (millions)



                                         Year Ended
                                          June 30,           %
                                       2009      2008     Decrease

                   Bookings           $ 119.3   $ 161.7        (26 )%
                   Revenues             130.9     151.9        (14 )%
                   Segment earnings      28.0      36.2        (23 )%

The Company's Infrared Optics segment includes the combined operations of II-VI Infrared and HIGHYAG. The results of operations include HIGHYAG for only six months of fiscal year 2008, as this acquisition was completed in January 2008.

Revenues for fiscal year 2009 for Infrared Optics decreased 14% to $130.9 million from $151.9 million in fiscal year 2008. The decrease in revenues for the current fiscal year compared to the same period last fiscal year was due to lower shipment volume to OEMs and aftermarket customers worldwide. This lower shipment volume began during the Company's current second fiscal quarter and is the direct result of the general deterioration of the industrial markets brought on by the global macroeconomic environment.

Segment earnings for fiscal year 2009 for Infrared Optics decreased 23% to $28.0 million from $36.2 million in fiscal year 2008. The decrease in segment earnings in the current fiscal year compared to the same period last year was primarily due to the reduction of margin realized on the segment's lower shipment volume. In addition, the segment has recorded approximately $1.0 million more of share-based compensation expense during the current fiscal year compared to the same period last fiscal year. The segment is continuing to reduce its operating cost structure to align it with lower product demands.

Near-Infrared Optics (millions)



                                         Year Ended
                                          June 30,          %
                                        2009     2008    Decrease

                    Bookings           $ 37.8   $ 65.9        (43 )%
                    Revenues             45.6     58.7        (22 )%
                    Segment earnings      7.1     11.9        (40 )%

Bookings for fiscal year 2009 for Near-Infrared Optics decreased 43% to $37.8 million from $65.9 million in fiscal year 2008. The decrease in bookings for fiscal 2009 compared to the same period last fiscal year was due primarily to the anticipated reduction in the order rates of the segment's UV Filter product line, which experienced a $21.6 million reduction in orders compared to the prior fiscal year. In addition to the decrease for the UV Filter product line, the segment also experienced a decrease in orders from its industrial and medical customers in the current year as demand for these product lines was negatively impacted by the current economic downturn. Somewhat offsetting the overall bookings decline during the current year was an increase in military orders. The segment is anticipating seeing its non-UV Filter military orders continue to expand in fiscal year 2010 while orders for the UV Filter product line are expected to decrease as this program continues to ramp down.

Revenues for fiscal year 2009 for Near-Infrared Optics decreased 22% to $45.6 million compared to $58.7 million in the prior fiscal year. The decrease in revenues for fiscal 2009 compared to the same period last

Segment earnings for fiscal year 2009 for Near-Infrared Optics decreased 40% to $7.1 million from $11.9 million in fiscal year 2008. The deterioration in segment earnings in the current fiscal year compared to the same period last fiscal year was the result of a reduction in margin realized on less revenues from its UV Filter, industrial and medical product lines. In addition, segment earnings were also negatively impacted by a $0.8 million write-off of certain equipment of its UV Filter product line due to reduction in certain product demands.

Military & Materials (millions)




                                        Year Ended          %
                                         June 30,        Increase
                                       2009     2008    (Decrease)

                   Bookings           $ 50.0   $ 61.9          (19 )%
                   Revenues             57.0     50.5           13 %
                   Segment earnings      6.5      7.1           (8 )%

The Company's Military & Materials segment includes the combined operations of EEO and PRM.

Bookings for fiscal year 2009 for Military & Materials decreased 19% to $50.0 million from $61.9 million in fiscal year 2008. The decrease in bookings for fiscal 2009 compared to the same period last fiscal year was the result of lower booking levels at the segment's PRM operation. During the current fiscal year, the market price of selenium and tellurium, two significant raw materials the Company refines and sells, experienced lower volatility as a result of lower industrial demand for these two materials which are used in the manufacture of steel, glass and automobiles. The lower booking level at PRM was partially offset by increased military bookings at EEO in the current fiscal year compared to the same period last year as a result of increased military orders for the Company's sapphire and core military product lines. During the current fiscal . . .