ATS Corp (ATS) 2006 Q1 法說會逐字稿

Good morning, ladies and gentlemen, and welcome to the ATS first-quarter conference call for the three months ending June 30, 2005. Before the call begins I must remind you that certain forward-looking statements may be made today, including statements regarding possible future business. You are cautioned that such forward-looking statements involve risks and uncertainties. The Company's results could differ materially from those anticipated due to a number of factors including, but not limited to, the risks and uncertainties found in the Company's periodic filings with the securities administrators. Please review these filings found at SEDAR.com. Now I would like to turn the conference over to Ron Jutras, President and Chief Executive Officer of ATS. Please go ahead, sir.

Good morning, everyone. I am joined today by Gerry Beard, Vice President and Chief Financial Officer, who will provide a financial review; as well as Mike Cybulski, Executive VP of Operations Automation Systems Group; Bruce Seeley, VP of the Precision Components Group; and Carl Galloway, Vice President and Treasurer.

Earnings improved substantially in the first quarter compared to Q1 of last year. To give credit where it is due, Solar Group performed exceptionally well and set new records for revenue, operating earnings, and margin. Automation Systems Group also delivered higher operating earnings than a year ago. This is positive, but we have to do better to achieve our goals. I will have more to say on this topic later in the call. Gerry will now take you through the financial details before I come back to discuss our outlook. Gerry?

Thanks, Ron. Starting with ASG, I will now through the performance of our three segments and then wrap up with some comments on consolidated results. ASG contributed an 8% increase in operating earnings compared to a year ago. While year-over-year operating margins in ASG improved, they were lower than the very strong margin performance achieved in the fourth quarter. ASG's operating margin performance in the first quarter was significantly affected by the underutilization of capacity at ASG's Cambridge, Ontario, facilities, which faced the challenge of a much lower backlog entering the quarter. Our Cambridge facility used this temporary period of lower activity to further develop its standard technology platforms and made heavy use of our engineering personnel to work with customers to move delayed programs along. The benefits of these activities are starting to pay for themselves, as reflected in the high level of expected orders for new projects, which Ron will discuss in his remarks.

Unusual ASG costs incurred in the quarter included severance costs amounting to $700,000. These were costs incurred to facilitate changes in leadership and are aimed at improving divisional performance.

I would like to now spend a moment reviewing order bookings and backlog levels. Given that interim bookings in the opening eight weeks of the first quarter were $43 million, it was very encouraging to see that ASG picked up the pace in the remaining five weeks of the first quarter and drove new order bookings to $111 million, up over 25% from the total booked in the fourth quarter.

To give you some granularity, the $76 million decline in backlog compared to a year ago is mainly due to the backlog decline at our Cambridge facilities. Having a decline in backlog is never an optimum scenario; but given that Cambridge systems has the widest variety of resources from which to draw on and has the largest breadth of skill sets to meet customer requirements, there is not a better place for us to have excess capacity to sell to our customers.

With the current backlog levels across all other ASG divisions being consistent with or higher than a year ago, combined with the high-level of order prospects that are slated for Cambridge systems, we are quite optimistic about the expected performance in the back half of the fiscal year for ASG.

Turning to Solar, this segment was the primary driver of higher consolidated earnings in the first quarter. Our Photowatt division surpassed the records it set in the fourth quarter of last year for revenue, operating earnings, and margins. Compared to last year, Photowatt revenue was up 16%. Operating earnings doubled with operating margins at an outstanding 15.5%. Photowatt's record performance reflects the continuation of improvements made in the fourth quarter, which include significant improvements in production yields, throughput gains, cost reductions, and the continued optimization of capital investments made over the past year. Photowatt also benefited from higher selling prices and its active silicon supply management program which has been successful at mitigating some of the significant increases in market prices for silicon.

The Precision Components Group, as expected, incurred an operating loss due to the $1 million of incremental costs incurred in the first quarter to close the Texas facility and transfer customer projects to existing PCG facilities. The McAllen facility closed on schedule in June, and all of the programs have been transferred. We are currently in the process of selling the Texas facility, and these assets are classified as assets held for sale on the balance sheet.

Looking forward, we expect significant benefits from the closure of McAllen in the form of improved utilization of the continuing PCG facilities. These benefits should begin in the second quarter and then ramp up further in the third and fourth quarters. We are targeting a payback on the cash expenditures of less than one year.

Overall, PCG revenue was down 9% or $2.5 million year-over-year, mainly due to the estimated $1.2 million impact of foreign exchange, difficult automotive market conditions, and the discontinuation of an unprofitable customer program. This discontinued program wound up in the first quarter on schedule and resulted in a decline in revenue compared to the first quarter of fiscal 2005 of $1 million.

In terms of ongoing improvement activities at PCG, we continue to focus on adding profitable new business that uses existing PCG capacity and focus on our Six Sigma and other cost-savings programs.

Now with respect to a relatively small but rapidly growing part of our business, let me give you an update on the contract equipment manufacturing. This business had another very good quarter, with revenue ahead 60% to $11.4 million, and continued to produce attractive operating margins. This business almost doubled in size last year, and we continue to be very excited about the prospects for the contract equipment manufacturing business as it gains experience and broadens customer relationships.

To complete this financial overview, cash balances, net of bank indebtedness, decreased $56 million during the first quarter. This is largely the result of the increased investment in ASG working capital and the $25 million used to exercise an option to repurchase ATS shares from the estate of Mr. Woerner at the price of $12.66 per share. The share repurchase was fully funded by the $25 million in life insurance proceeds that we received and recorded in the fourth quarter operating results.

Investment and ASG working capital in the quarter reflects normal working capital fluctuations experienced by the business. Total capital expenditures and deferred development amounted to $19 million in the first quarter. Net of government funding, investment in SSP in the first quarter increased $4 million for capital assets and $6 million for deferred development costs. As a reminder, the deferred development period will end for SSP on September 30, after which point in time the revenues and earnings of SSP will be included in the consolidated operating results.

Finally, we have a sound balance sheet with a debt to equity ratio of 0.1 to 1. We believe we have the financial resources to carry out our strategies and capitalize on our opportunities. That is my summary. I will now turn the call back to Ron.

Thanks, Gerry. As you heard in our last call, I assumed the role of CEO in February and established a list of top priorities for ATS. The number one item on the list is to drive ongoing improvements in financial results; and I believe we can do this in fiscal 2006. I also expect that the additional margin improvements will likely be weighted towards the back half of the fiscal year, not the second quarter.

Why not the second quarter? One reason is the decline in the order backlog within the Automation Systems Group. We saw this in Q4, and while there was a marked improvement in order bookings in Q1 over Q4, bookings in Q1 were still lower than we would like to ensure improved utilization of resources during the second quarter. We entered the second quarter with a backlog of $155 million compared to 231 million a year ago; and this will likely hold back revenue and margin improvements in the second quarter for ASG.

New order bookings for the first 43 days of the second quarter were $43 million. However, these numbers do not tell the full story regarding our near-term outlook. As we noted in the press release, these numbers do not include approximately $86 million of scheduled work on customer programs where we are confident that the full program will be awarded and completed by ATS. This is work that is in addition to the bookings and backlog data I just commented on.

These programs are ones where ATS has been awarded an advance order as a precursor to the full program. Advance orders are firm purchase orders that customers issue to cover the earliest phases of a much larger program. These are used cover initial work and expenses, such as early design work and/or procurement of long leadtime items. Customers have placed these advance orders while they complete their approval confirmation process for the overall program. Now, it is imperative for these customers to move forward quickly to maintain their program schedule. They also want to secure their spot in our resource loading schedule.

As I said, we're very confident that these programs will proceed. Why? Our confidence is based upon our past experience with similar situations; our ongoing dialogue with these customers; and most tangibly their firm commitment to spend real funds through advanced order placements.

By the way, our definition of order backlog and bookings only includes firm orders that are backed by a contract. As such, only the advance order value of these programs is included in the order bookings and backlog. That quantity is less than $7 million, so it is not counted as part of the $86 million. So you put the two numbers together, those are programs that accumulate to 93 million. In other words, even though these programs that have clearly graduated and moved beyond our high probability list, they cannot be counted in our traditional definition of order back (ph) bookings, because purchase orders have not yet arrived for the full value.

Yet I said we're very confident these commitments will clear the customers' internal approval process and will be fully released. We have already started work on these programs, and full program assignments are already included in our operational resource planning and scheduling. So operationally our resource loading is actually $86 million higher than the backlog and booking number suggests. That is a big difference.

As I said while we have seen advanced orders in past, the number and dollar magnitude of advanced orders and the related follow-on program amounts have increased significantly this year. This may reflect continuing caution by customers. It may also be that larger programs just take longer to be approved, or that healthcare accounts have different characteristics. I personally also suspect that Sarbanes-Oxley initiatives may be influencing the amount of time it takes for many customers to get significant dollar value orders released.

The advanced order approach enables companies to be able to move forward even while they meet their internal requirements. Plus operationally there's little difference. We're committed to the full customer program, and we fully expect these will be completed. In summary, our loading now sits at well over $200 million. While this may sound a bit confusing, I believe it is very useful information to help you better understand how we view our near-term outlook and plan our ASG operations.

The vast majority of these advanced programs will be centered in our Cambridge ASG facility, allowing us to improve capacity utilization, where, as Gerry said, it's now been below desired levels the past quarter; and we have seen the vast majority of the decline in our backlog levels during the past two quarters. That is another important positive.

I can also assure you that our orders prospects generally remain very strong. We have numerous prospective orders in our pipeline that we fully expect to convert to firm orders. For a number of these we have already been given verbal assurances that ATS has been selected by the customer; but we still need to complete final negotiations of terms or specifications. As I said, we fully expect these to also become firm orders in the near term. However these order prospects are not included in the advanced and follow-on order data I gave you, simply because we do not have the same high degree of customer commitment, primarily in terms of a firm advanced order.

We also see excellent potential for repeat orders within the programs that fit into the advanced orders bucket, as well as those in the current backlog and the order prospects. Now we're working more closely than ever with our customers to gain additional visibility into their future plans and needs. What we're seeing is very encouraging, and it is extremely valuable data to help us plan and manage our operations.

Given the size of our pipeline, we're currently heavily focused on ensuring that we're well positioned to execute the growing level of business on an efficient basis. The fact we have a growing family of standard automation technology platforms to draw upon will help us to meet expected demand. As you will recall, these programs reduce technical risk and time to build.

As a reminder, we have launched two new platforms, Lyoscan and Ampuscan, to date this fiscal year; and a third called FlexsysPAK for packaging applications will be launched next month at the Packex show. To give you an update on these platforms, with respect to Lyoscan we now have a potential equipment partner with a possible lead on a healthcare project in Europe that could make excellent use of this innovative system. This is just one opportunity.

We are also working with a customer to place an Ampuscan demonstration unit at their U.S. factory. In concert with this placement we're proposing that they use ATS Compliant Solutions to evaluate the benefits of fully automating their inspection processes. While we are on this topic, we're getting a great lift in our business development efforts from ATS Compliant Solutions. You will recall that this service was started just over a year ago with the mandate to help healthcare customers plan, qualify, and implement automation. As a result of having this service, ATS has delivered paid consulting services to a number of the largest healthcare companies in the world and has brought into our ASG pipeline some very exciting work and potential assignments in areas such as automated virus inspection, consumer pharmaceutical packaging, cardio medical devices, and blood collection. This has been an excellent venture for us that should continue to pay dividends for us this year and for many more.

The bottom line on ASG's outlook is that we're optimistic about the second half of 2006, but the second-quarter improvements will likely be limited because of the slower order flow during Q1 and the time it will likely take for the current activity level to convert into large revenue flow. I commented on the uneven nature of order flow in the last call, when I said order flow is seldom ideal in the automation industry. But order dynamics are something we have to live with, and they are the reason why it is important to have a flexible, highly-skilled workforce and very strong business prospects. Diversified customers and markets are also key strengths.

The second reason improvements should accrue in the back half of the year instead of in Q2 is seasonality. As you know the second quarter includes summer's plant shutdowns and generally slower customer activity. This will have a bearing on our results in ASG, Solar, and PCG.

For Solar every year we lose a month's production at Photowatt due to the required summer plant shutdown in France, which -- that shutdown actually ends today. This will reduce Photowatt's revenue without a commensurate decrease in its costs. So Photowatt will not repeat its outstanding first-quarter performance in the second. But we do expect it to perform well against the second quarter of last year.

A substantial amount of management time at Photowatt is being devoted to sourcing and managing silicon availability and pricing. Today these efforts have worked well; but we are concerned about silicon availability and the impact it may have late in fiscal 2006 and into 2007. We are investigating different methods of securing longer-term supply, and we believe we have enough to sustain a significant amount of our capacity for fiscal 2006.

This is an industrywide problem and a challenge that will likely intensify during 2007. The price of silicon has already risen significantly -- substantially, some $50 a kilo compared to about $25 a year ago. But to date these increases have been successfully absorbed by exceptionally strong market demand. It's difficult to say if this will continue. The bottom line is Photowatt has done very well. But it's a challenge that may well grow and negatively impact this business down the road. What is frustrating about this is that most experts believe the silicon shortage will disappear within two years as new capacity comes on stream.

Turning to our second-quarter outlook for PCG, as is customary it shut down in July to match the summer plant schedules of its customers. This will result in lower revenue without a similar decrease in cost, so seasonality will also play a part in turnaround timing at PCG. I know there has been quite a buzz about the strength of the North American auto sales in July, which is positive news, but the sustainability of this recovery remains a doubt for us. We are not taking anything for granted and continue to apply our improvement program intensely with the same ultimate objective of returning PCG to good levels of profitability.

In total, on a consolidated basis, the second quarter will not be indicative of ATS's performance potential for all of fiscal 2006, but we do look forward with enthusiasm to the last half of the year and particularly to converting our backlog, advanced order programs, and order prospects into profitable revenue.

Before a few final comments, I want to provide an update on Spheral Solar Power. As planned we initiated a shutdown at SSP in late June as part of our factory qualification and optimization process, thus halting all production. This shutdown allowed us to make numerous machine modifications based on the data and experience that we had already accumulated over the previous few months. We completed our planned modifications in a six-week period, and we're now the process of bringing the production processes back online and doing testing -- testing that is necessary to validate the improvements made and qualify the processes.

While this is still underway, we're very pleased and encouraged by the initial data we're currently seeing. As a result, we expect to be able to bring -- begin to produce modest quantities of salable product during this quarter. Volumes will remain low in Q2, but we fully expect to see substantial improvements in SSP's manufacturing capability as a result of the work that was done during the shutdown period. Since one of my top priorities is to further maximize the potential of Solar, this initiative is of great importance. While I realize we're all impatient to see the ramp up, it is critical to get this first factory producing quality products on a consistent basis.

In terms of launch timing, as I previously stated, one of Syl Ghirardi's top priorities is to assess the launch schedule of the program, as well as the early guidance that Klaus provided with regards to launch timing. As you will recall, Syl joined us in June as President and CEO of the ATS Solar Group. As part of his overall development of the long-range strategic plans for the ATS Solar Group, he will be using the test data we accumulate over the next few weeks to help define the ramp-up schedule for SSP. This process is underway as is Syl's development of the overall Solar Group's long-range strategy.

As an important footnote to this discussion, I'm particularly pleased with how well Syl is coming up the learning curve and carrying the ball. Even though he's only been here for nine weeks, he has already brought new disciplines to bear. I believe his involvement will help convert SSP from a development project to a commercially successful business and an important contributor within our Solar Group.

As you will recall I have several other priorities including creating greater value by sharpening the application of our business strategies and building the ATS brand. It's premature to comment on these activities, but I will conclude this call by saying that the more intensely involved I become in my new role, the more I realize these are the right priorities. ATS has a tremendous opportunity to leverage its industry-leading position and thereby deliver the full benefits of our capabilities and global presence to shareholders and customers. I'm excited by our prospects and improvement opportunities, and I'm confident that we can achieve our objectives as we move into the latter part of fiscal 2006. Thanks for listening. Now with the operator's assistance we would like to take your questions. Operator?

(OPERATOR INSTRUCTIONS) Pat Chiefalo with Merrill Lynch.

Just a few questions. First, can you help us qualify the 43 million in order bookings this quarter to date? Would that be sort of a normal order rate for the typical seasonal quarter? Is it better than you expect, worse than you expected?

I think is not unusual. Gerry, do you have the number from last year in the same quarter, and the number of days it was? We will get that for you, Pat, and we will come back to you on it.

Just as a follow-on, on the 86 million follow-on orders, how much of that do you expect will be converted into purchase orders in the second quarter? Or is it something more that we are going to see sort of spread throughout the year that is going to come through in terms of new order bookings?

One of the criteria we looked at -- and we have other advanced orders where we did not include them on the list. One of the criteria we used in including them in that total is the ones that we thought would be concluded and converted into firm orders in the current quarter. So by the end of this quarter.

So if I read that right, most will be converted by the end of this quarter?

We expect they will be converted into orders this quarter.

Okay.

The question as to whether this is an ongoing trend I guess is something we're still scratching our head on.

Right, okay. If we look at sort of operating margins in the Solar business and we try to gauge the impact, as the silicon feedstock price continues to rise, in the second half, how should we think about margin? Should we think about sort of a margin level that could decline maybe 100 to 200 basis points? Could it impact Solar margin maybe as much as 500 basis points? We're going to expect a deteriorating margin level, but can you help us sort of quantify how much?

I think it is hard for us to help you quantify. Right now we have a business that is operating at a very, very good level. It is, quite frankly, it surpassed our expectations over the past three quarters especially. We're very pleased with how management is performing there.

Obviously the second quarter is the weaker quarter as we said. But we would like to be able to sustain our margins and potentially add on them as we go forward through the back half of the year. That is a substantial challenge because of the silicon issue. But from our perspective we think that the Company has achieved a new level of performance. We expect to maintain it there.

Okay. Any update, Ron, on the strategic direction of the business?

I think that I am really pleased. I have been making progress on all my priorities. The one that I am very excited about is the work that we have been working on to develop a strategy that we can roll out to our operations globally. We achieved our first milestone with respect to presenting our direction to our Board yesterday; so I am pleased about that. We're moving into additional phases of that. So I'm making good progress on it. I am very pleased with where we are at in the process. I fully expect that it will be fully incorporated in our planning for the next year and we will start to see the benefits as we move into that period of time.

Maybe just one last one. On the healthcare business, the backlog is down a good amount to levels we haven't seen since probably September to December of 2003 in terms of that backlog. How do you think that business is going to pan out in the second half of this year?

I think it will be the largest part of our business going forward.

Okay. Thanks.

Cameron Jeffreys of Credit Suisse First Boston.

A question on your Automation Systems margins, if I could. Can you just run, perhaps quantify, what impact the resource loading and those types of kind of advanced engineering costs and so forth had in the quarter? Is there any way to quantify that or give us a sense as to where margins might have been had that not flowed through?

I think we always benchmark it against the previous quarter. We looked at Q4, for example. Q4 we had exceptionally good margins in the Automation Systems Group. In going through that, we had basically isolated that the primary dip from Q4 was really in the automation group here in Cambridge, which is reflective of the fact that our backlogs came down. When backlogs come down, we tend to see a drop in our efficiencies as well, just because of the natural consequences of it.

That is what we're pointing at. Clearly we also had some increases in some of our expenses for sales and marketing, as we articulated within the MD&A that we circulated this morning. But I think from our perspective, we are pretty confident about the future outlook for our business and our ability to take our margins up. That is obviously, as I said, one of my key objectives for ATS this year.

Great. Second question is just on your contract manufacturing business. I think some of us might think that that is -- looking at the rest of the industry and Celestica and those types of guys -- think that that is a really low-margin competitive business. Can you just give us a sense as to how your business differs from that and how we should be thinking about that? Because obviously you said your profitability and your margins were quite healthy. Can you just give us a sense as to why, say, you're different than the rest of those guys in that industry?

I will start and maybe Bruce will have a few things to pipe in (inaudible). First of all, just to define, our business is a contract equipment manufacturing initiative. So what we are producing is very sophisticated instrumentation and platforms. This is not something that everybody can walk in the street and do. Our ability to use our repetitive manufacturing skills, and our disciplines, and our processes, and all of our infrastructure within our components group is a key advantage here that makes us very different than many other people in the marketplace.

I think this is clearly an interesting niche market where we see lots of growth potential. I think that as more and more of the marketplace looks to outsource production, there aren't a lot of places, quite frankly, they can go to where they want to ramp a program of a fairly sophisticated item with a bill of materials that typically numbers in the thousands, as opposed to a lot of the stuff that you would see with your typical contract manufacturers, where they might have a few hundred parts at most. So very different from that perspective. Bruce, do you have anything you want to add to that?

Yes, I think what we add here that is different from the typical contract assemblers is the degree to engineer the equipment; and then, further, cost reduce that equipment through the engineering aspects. Normal low-cost assemblers don't bring to the party that level of engineering expertise that ATS does. We can design the equipment, cost reduce the equipment, and assemble it in a cost reduced manner? And that is what makes us unique.

Okay. My final question if I could, third-party components and maybe how we should be thinking about that going forward. Has anything changed in terms of kind of what a normalized number kind of averages around?

Sure. The third-party component was 44% in the quarter; and this number really fluctuates depending on backlog levels and workloads. So I think we anticipate it will fluctuate within the normal band that we have seen historically.

Okay, great. Thanks. That is it for me.

Cherylin Radbourne of RBC Capital Markets.

My first question relates to the split of the 86 million in expected automation orders by industry. Could you give the some detail there, please?

I don't have it broken down necessarily by industry. The largest one in there is the healthcare; and there is a lot of healthcare stuff in there. But there is also some stuff in the automotive and the computer electronics side. But I would say, if you took the bulk of the value, the dollar value, it is healthcare related.

Just to help us put the year-over-year change in your backlog into a better perspective, can you tell us how many advanced orders of this nature you would have had outstanding at this time last year?

Not a lot. We never tracked it before, but when we started sitting down and looking at the quarter, and it's that anomaly, we're sitting on (ph) our resource loading and we are having debates about how we best utilize these resources because of a lot of loading. We're saying, well, that doesn't necessarily mesh up with what our backlog numbers are saying. So we really forced us to come in and focus on this particular issue this quarter. Like I say, it may be a trend. In past it hasn't been a major issue, I would say. But it is certainly that way now, and we will see if that continues or whether it changes again.

Could you just expand on your comment that you think Sarbanes-Oxley may be influencing the length of time for projects approvals? I wasn't sure that I understand how those two were related.

Well, I can tell you that a lot of business are focused very heavily on their internal control processes. They have been documented now, and now they're being required to test them and adhere (ph) to them. So I think that there is a lot more governors on our customers. It's speculation on my part, Cherylin. I admit that. But I do see that a lot more formality with respect to the processes we're dealing with our customers, and how they have to go through and expedite their orders through their systems.

Just last question. Could you give us an update on SSP? Just given that we are very closely approaching the quarter where that is going to flow through the income statement. Do you have any comment now about what you expect the operating loss to be there, and how much of that loss will be cash?

I think Syl is working through that numbers. We did give you the numbers that were incorporated within the quarter. I expect there is room for improvement from the standpoint of the cash burn in that business. But I think that a lot of it will depend on how the production ramps up. But the historical numbers -- for example the data in the second quarter, Gerry, maybe you want to give those numbers again.

Sure. If we had expensed the deferred development cost that we incurred in the first quarter, the impact on the EPS would have been about a decrease of about $0.06 or $0.07 per share.

Okay. That is all cash, is that correct?

Yes.

That's cash.

Okay. Then there would be the amortization of the deferred cost that you have got on the balance sheet as well?

That would come in on top of that, as.

Okay. That's it for me.

John Novak of CIBC World Markets.

I guess the first question is with PCG. Now that you have taken the write-downs and closed Texas, does that business have an ability to be breakeven in the second half of the year? Or better?

We will start to see the impacts of that closure of Texas and the consolidation a little bit in the second quarter, but primarily in the third and fourth quarter.

Do you think it will hit breakeven in that second half?

Essentially we were breakeven in the first quarter as well as the fourth quarter, too, John. If you pull out these nonrecurring costs, we are essentially at that level.

So you're fairly comfortable you're on the road to recovery there?

We are not satisfied with those levels, so clearly that is where we are focused.

What the total number of shares outstanding at the end of the quarter? Not the average, but period ending shares.

I think we have disclosed that in our MD&A.

I didn't get a chance to read all of it.

59,061,000.

Okay. What is your CapEx assumption now for the full year?

Our CapEx assumption for the full year, the current fiscal year?

Yes, and what was the bulk of it in the first quarter?

Do we have that data?

The CapEx, the guidance we provided was about 40 million.

I remember that number (multiple speakers); but the first quarter, the bulk of that would have -- it is pretty broadbased.

(multiple speakers) Broadbased. The SSP number that we provided. The rest of it is broadbased.

With respect to Solar, is the bigger issue in the second half the silicon availability or the ability to pass on the price increases?

It is actually availability.

Okay. All right, thank you.

David Tyerman of Scotia Capital.

On the ASG for Q2, given that you have a pretty low backlog coming into the quarter, the normal shutdown, is it reasonable -- is it right to expect even lower margins in Q2 than in Q1?

I don't think we have necessarily quantified it. In fact the order booking activity picked up in the quarter. As you saw, the order booking activity in the first part of the quarter was slower; and then it picked up through the back half. These -- also these order prospects come through. So there is a lag. We get into the summer seasonality, so there is a lag as these new programs and new orders go through design. We do those types of things before we get the serious traction from the activity level. But actually our utilization in our factory is probably a bit better than it was when we came into the first quarter.

Absolutely.

Okay. Because the backlog right now is lower than the previous quarter -- entering the previous quarter.

Yes.

Okay, but you are saying that the way it is flowing through, you think it actually could turn out to be a bit better?

I think that possibility exists. We are not banking on it.

Right. Even with the shutdown, the normal shutdown, that usually takes some margin out anyway; it you still could work out that way.

We don't have a formal shutdown within the Automation Systems Group.

Okay. I thought you took Cambridge down --.

We don't take it down, but we do book through vacations, so our resource loading -- our builder resources drop as people take their summer vacations.

Okay, fair enough. Then just on the 86 million, what would be the timing for the launches of these programs, assuming they come through? Is this mostly Q3?

They are already in launch.

Okay. But I mean in terms of real dollars hitting the floor, are you at that stage now?

They actually will expedite through the process, because we are already going on the work. So the advanced orders got us kicked off and we're moving on these. We have assigned resources and they are engaged on those programs. The fact that the advanced order holds back the backlog actually expedites the actual flow of that work through the manufacturing process, because we already got a running start on it when it comes in.

Right. So you expect a bunch of this to actually get underway in Q2 then?

I expect that we will start to see -- the activities underway right now, I think the serious -- as I said -- I think the serious ramp comes in as we start to get the serious traction and the serious volume come through in terms of activity levels, as we go through design. It is likely to come in the back half of the year, as I said.

So Q3 really; that's great, thank you. Just on the ASG order prospects, you did cite continued delays. I'm wondering, is this verbal text -- or I'm trying to get a sense of what is there behind the 86 million. Are we going to go into another pothole? Or is there really good opportunities out there that suggest you are just going to keep building the momentum?

Call me an optimist, but I believe we will continue to build momentum. Like I said, I have been involved in many of these prospects which are on this. I have got to tell you, I can think of one example where we have had the formal -- I have had a number of them in fact, where we have had the formal kickoffs, the customer has got people in our facility, we are working through programs. So we are going through with these things aggressively.

When we went through our list, if we believed that it would not convert into in order by the end of this quarter, we took it out. There's other ones on there that would normally fit that bucket, but we took them out. So these are ones where, not only based on the fact that they've given us an advanced order, but based on all the due diligence we have done with respect to our discussions with the customers, the data we have, and our involvement with them, we've concluded that we think that it is virtually assured from our perspective that it is going to be in this quarter.

Right. No, I am thinking beyond the 86 million, Ron, sort of like are we going to fall back again after that?

Right now, we don't see that, because we are getting better visibility. I can tell you, as I said, some of these advance orders are actually the first phases of much larger programs. The customer has shared with us to a much greater degree their launch schedules. They're managing their cash, but they're saying, we want to kick you off on the first four; we need eight; so we are going to do four, and then we're going to do that approach, and then we will kick off the other four. And then we think that we might go through those volumes; and we think there will be additional lines in behind that. Or, we are going to give you the first two lines, but we think that we are going to need eight.

Now, we are not adding those into the 86 million. But that is the visibility we have and why we are pretty enthusiastic about what we see happening within our order prospects. As we build closer relationships with our customers, we are getting that improved visibility, as I said. That is very encouraging for us.

Okay. That's very helpful. On the backlog plus the pending, any margin implications in any particular direction on this, in terms of the margins built into the programs? Better, worse, the same as normal?

I think the same as normal. Hopefully a bit better.

Okay. The last question. On SSP, can you share any financial metrics with us, like the amount of capital required on future programs per megawatt or however you want to define it; and the kinds of returns you expect to see out of this?

I wish I could, but I think it is premature. I think we need to let the people over there and Syl -- like I say, he has been here for just about nine weeks and he is getting -- and working his way through this. I am very pleased with the progress he has made. But I need to give him the time to get there, so we can have good robust data that we can analyze and work our way through.

Okay. Thanks very much, Ron.

Peter Sklar BMO Nesbitt Burns.

Two questions. First, Ron, when you stop -- when the capitalization period for SSP ends and it starts hitting the income statement, to the extent you have losses, are you structured in such a way that you can tax-effect the losses? Or is that an independent taxable entity?

I will answer that question. Yes, we are structured so that we can use those losses against profits in other areas of the business.

Okay. My second question, I just wanted to address Photowatt. Ron, on the last call you addressed -- you outlined the capacity expansion at Photowatt. It sounds like you put on a significant amount of additional capacity in the third and fourth quarters. By the language in the press release it sounds like you are adding additional capacity beyond that. Can you just take us through where we are in capacity? What you have put on recently and what your plans are for the future?

Just to clarify, I think we said that we are seeing the benefits of the capacity expansion we have made over the past year reflected in our revenue growth. We have placed orders for that additional capacity, but that equipment is not yet installed. It is not yet received, because given the growth of the industry overall, the leadtimes for a lot of this equipment is significant. So we have placed orders, we have placed some -- we have funded some money with respect to these capital expenditures, but we have not yet got the equipment on board to be able to see the benefits of it. Total CapEx in the group this year will be between 10 and $15 million. That is what we expect. That is within Photowatt.

Right. So what is the current output capacity of Photowatt? How much additional capacity will you add when the CapEx program is done?

That is a very complex question. The reason for that is because our capacity is measured in -- and we are very vertically integrated, which is somewhat unique in the industry. So we have the ability to manufacture (indiscernible) have the ability to manufacture wafers; we have the ability to manufacture cells; and we have the ability to manufacture modules. Our capacities are not necessarily the same in all of those areas. So we could be at this for a while, so maybe we can deal with that off-line.

Okay. That's all I have. Thank you.

Marko Pencak of GMP Securities.

Ron, in your intercompany profit elimination, the profit on it was basically the same size as the revenues eliminated. Historically, that relationship has been quite a bit different. Is there something unique that happened this quarter that caused your loss in that item to be so big?

Just so you understand, the eliminations that you see on the operating income also include our corporate expenses as well. Gerry, is there anything we need to it in terms of color to that, that would be unusual?

There is nothing overly unusual going through that area, no. Nothing pops up. It's been up in that range in past. It just depends on level of activity.

It was looking like a couple years ago you had like 10 and $13 million of revenues there and the same amount of loss.

But is when we were doing a lot of work with respect to SSP as well.

No, I understand that. But I just -- because my question is, I mean, sort of the revenues came in where I thought they would in that line item. But the loss was much bigger. I am just trying to understand if there's something unique. Is that a level that we should be modeling prospectively? Is there any guidance you can give us on that?

I think the level we experienced this quarter was within -- we had seen that range last fiscal year as well. So it fluctuates just depending on activity levels. I am not sure what to tell you in terms of modeling there.

Okay.

We're at 3.4 million versus 2.9 last quarter, 3.4 in Q1 of last year.

I think there may have been an anomaly in Q -- we can take a look, but I think there might have been an anomaly in Q3 of '05, if that is the benchmark you are looking at.

Yes, okay. Fair enough.

(multiple speakers) in Q3 of '05 there was a gain on the sale of corporate aircraft going through there.

All right.

That brought it down.

Ron, I just wanted to go back to your comments about the silicon supply. You talked about constraints on growth. Your current -- if you look at the volumes that you produced, say, in Q1, do you believe that you have enough, you will be able to source sufficient silicon through the balance of this year to preserve those levels? Is it really just you may be constrained from growing? Or is there also some concern in terms of maintaining current volumes?

As I say, we're pretty comfortable for fiscal 2006. Our nervousness starts to grow as you move into 2007. I think that you are right; I think that our focus is with respect to existing capacity we're pretty comfortable. We want to grow; that is where we start to get nervous.

Okay.

As we move into 2007 it is a very fluid environment. Silicon producers are not necessarily willing to sign up to the types of things they used to do. So it is much more fluid.

Right. I wanted to talk about the automotive sector for a moment. First, you commented about how the orders were strong from automotive. Given what is going on in that industry, can you just give us sort of a qualitative sense of -- are these guys just now being more forced to automate to continue to drive down costs? Because with the financial statements (ph) some of them, one may have thought that they would sort of start to pullback on CapEx. Can you just give us an overview of that, please?

I will add a couple cents (ph) and maybe Mike wants to add something. I don't think we're seeing any pullback in respect to level of activity. As you know, we deal primarily with the Tier One supply base, close (ph) to the assemblers. I think one of our big things that we are very cognizant of is that some of the financial problems we're seeing within some of those players, and we're very cognizant of that from a risk standpoint.

However the amount of activity we see on the quoting side is still very strong. We're seeing it on a global basis as well, as these guys are looking to, first of all, broaden their customer base so they gain penetration on a broader basis as opposed to just dealing with their original spin out entity so to speak. And broaden that base out. But also as they move and operate on a more global basis.

So we're not seeing a backing away from that. Quite frankly, automation technology in our view is just absolutely entrenched in the industry. Clearly we see that a lot of these companies are trying to work to reduce their costs associated with employment. We think that is a positive for automation. But there could be some bumps in the road along the way here, which we're very cognizant of and we're watching very closely.

That is one of the reasons why we feel so strongly about the diversified revenue base that we do have. My personal view is that automotive will continue to be an important part of our business, but I don't think that it's going to be the engine of our growth.

Great. Last question, now that another quarter has passed, one of your key objectives has been to establish this global brand and essentially replicate some of the best practices across your multiple facilities. I believe that your predecessor's approach had been to basically hire or acquire smaller sort of regional players, where the person heading that operation was essentially fairly independent and really sort of managed their own little segment or their own little market.

Just with respect to your severance, and now that time has passed, I am curious how people are receiving that, whether there is adoption, whether you're getting resistance from some of these individuals, and that may prompt sort of further changes as well?

I think we have dealt with the resistance. I think that generally there is a view within the outlying regions that this is an important initiative for the Company overall, because I think they see it from their customers as well. Clearly over the past year, we have moved strategically to make changes within the organization, where we saw people not buying into the idea of moving forward as a global Company. I have not hesitated to make changes when I thought they were necessary for us to facilitate that strategy.

I am very pleased with the progress we're making in this initiative. We have already appointed two individuals at the director level within the corporate group to help us drive the standard issues, both in mechanical design and the controls end of it. We're working through that stuff. That is absolutely crucial from my standpoint, so to give us the flexibility to be able to utilize our global resources on a much improved basis, so that we can take global teams working to support our customers' needs.

And the trend continues. Customers want us to supply equipment in North America, in Asia, and in Europe. We are seeing this fluidity that they require to meet their global build schedules just intensify. I think it is a tremendous strength that we have as a Company already. But we're not where we want to be to truly distance ourselves to a much larger degree from our competition. So that is why I think it is a really important strategic initiative.

Great, thanks very much.

(OPERATOR INSTRUCTIONS) John Novak of CIBC World Markets.

Do your deferred development costs increased in the second quarter for SSP, from where they were in the first?

I think it is a reasonable proxy (ph); I don't expect to see a material change in that.

When you get to commercial production in the third quarter, should those charges decrease again? Should they decrease?

There won't be any deferred (technical difficulty)

Obviously they will be going through the P&L; but the overall amount itself.

I would hope that we would start to see a decline, because we are going to start to ship some product. It's going to be modest. But as I indicated, we have got to get Syl to work through and further scope out our ramp plan.

So you think both Q1 and Q2 really are the point of maximum costs prior to launch?

That is kind of my expectation; but that is not backed by a lot of hard data. That is my thought process.

All right, thank you very much.

Cherylin Radbourne of RBC Capital Markets.

I guess I am sort of following on John's question there, with respect to Spheral Solar. If I look at the press release, there was 6 million in deferred development costs this quarter. I presume that that is how you calculate the $0.06 to $0.07 impact that you quoted earlier that had flowed through the income statement. That is essentially enough to wipe out all of the profit in Photowatt in the quarter. I guess I would just be curious how quickly that $6 million spend rate would come down.

As I said, I think that is an issue that is very much on Syl's plate and he is working his way through it.

Any comment in terms of the funding options that you would be considering and the sort of timing we should think about?

The funding options are clearly part of the overall strategic plan that Syl is also working on. I think that looking at funding is -- you can't separate the funding from the overall strategy that we see for our overall Solar business.

Okay, that's it for me. Thank you.

Cameron Jeffreys of Credit Suisse First Boston.

Ron, can you quickly give us an idea of your customer concentration at this point? Given that your backlog has come down a little bit. Are there any customers in there that are a north of 10% or 15% of the backlog?

I don't believe so. There is one large program which I don't think we will get to that level, that is in the advanced order grouping. But it won't get to that level, I don't think.

Okay, great. Thank you.

David Tyerman of Scotia Capital.

Just coming back to this development costs issue. I don't want to beat if over the head, but the inescapable conclusion is there is a risk here that you could have a very major profit impact in the second half; and I don't know, maybe even in '06. I am wondering if you can help shed some light on that. Because I think it's going to be a major issue potentially.

I understand. I think it is clearly something that we're working our way through, as I indicated to you. The fact that we have a strong leadership there and greater discipline I think will provide benefits. But from the standpoint, I think it is premature for me to try and tell you what I think the number is going to be. I have indicated what my thought process is. I think that is as far as I can go right now.

Okay. Thanks, Ron.

Mr. Jutras, there are no further questions at this time. Please continue.

If there are no further questions, please be advised that our annual report was mailed today. It is also filed on SEDAR I believe this morning as well. And that our annual meeting will be held on Monday, September 12, at 4 PM at Conestoga College in Kitchener, Ontario. Thank you very much for listening, and bye for now.

Ladies and gentlemen, this concludes the conference call for today. Thank you for participating. You may now disconnect your lines.