AeroVironment Inc (AVAV) 2009 Q1 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the first quarter 2009 AeroVironment earnings conference call. My name is Teresa and I will be your coordinator for today. At this time all participants are in a listen-only mode. We will conduct a question and answer session towards the end of the conference. As a reminder this conference is being recorded for replay purposes. With us today from the company is Chairman and Chief Executive Officer, Mr. Tim Conver, Chief Financial Officer, Mr. Steve Wright, and Director of Investor Relations, Mr. Steven Gitlin. I would now like to turn the presentation over to Mr. Gitlin, please proceed, sir.

Thank you, Teresa. Welcome to AV's first quarter fiscal 2009 earnings call. Joining me today are AeroVironment's Chairman and Chief Executive Officer and President, Tim Conver, and the company's Chief Financial Officer, Steve Wright. Before I hand the call over to them, please note that on this call certain information presented contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995.

Forward-looking statements include without limitation, any statement that may predict, forecast, indicate or imply future results, performance or achievements and may contain words such as believe, anticipate, expect, estimate, intend, project, plan or words or phrases with similar meaning. Forward-looking statements are based on current expectations, forecasts, and assumptions that involve risks and uncertainties, including, but not limited to: economic, competitive, governmental and technological factors outside of our control that may cause our business strategy or actual results to differ materially from the forward-looking statements. Factors that could cause actual results to differ materially from the forward looking statements, include, but are not limited to: reliance on sales to the US government, changes in the supply and/or demand and/or prices for our products, the activities of competitors, failures of the markets in which we operate to grow, failure to expand into new markets, changes in significant operating expenses including components and raw materials, failure to develop new products, changes in the regulatory environment and general economic and business conditions in the United States and elsewhere in the world. For a further list of such risks and uncertainties see the reports we file with the Securities and Exchange Commission.

We do not intend and undertake no obligation to update any forward-looking statements whether as a result of new information, future events or otherwise. The content of this conference call contains time sensitive information that is accurate only as of today, September 9th, 2008. The Company undertakes no obligation to make any revision to the statements contained in our remarks or to update them to reflect events or circumstances occurring after this Conference Call. With that said it is my pleasure to turn the call over to Tim Conver.

Thank you, Steven. Welcome to our first quarter fiscal 2009 conference call. Before I discuss the details of Q1 I'd like to take a few minutes to review what I believe to be an important and distinguishing aspect of our story. When we began speaking with potential investors in preparation for our IPO, we thought it was important to discuss both our solutions in production and in development. We highlighted four development programs that represented innovative new capabilities and then we went further along on the process -- that we're further along in our process, excuse me, than our others in our pipeline.

These four developments were Global Observer, Switchblade, Digital Data Link and Architectural Wind. Since our January 2007 IPO, we've been discussing these programs as they've progressed from internally funded R&D to customer funded development and as they have achieved key milestones that move them closer to becoming production solutions. I'll discuss some of these milestones later in the call.

More recently we've been providing information on other UAS developments that are in various stages in the research and development process. The Puma AE is the third generation of our Puma small unmanned aircraft system that we began as an internally funded development just a few years ago, and that won the latest DOD competition for a program of record. The Nano air vehicle contract with DARPA is a very early stage R&D program that could lead us to the smallest class of unmanned aircraft system, an aircraft that weighs 10 grams. For the stealthy, perch and persistent stare program, also funded by DARPA, we are developing and have now demonstrated a new aircraft based on our one pound WASP that can perform vertical take off and landing, hover, perch and stare missions in a very stealthy manner.

Innovation is the life blood of this Company and these are several examples of innovations that contribute to our future growth potential. I think this is a great track record that demonstrates an effective research development and commercialization process and that positions us well for the future.

Now, lets move on to review last quarters results. Q1 was a solid beginning to fiscal 2009 in several respects. We successfully cut in the frequency change for our DOD customers and we restarted both WASP and Raven production lines. We saw continued demand for our unmanned aircraft systems, electric vehicle fast charge systems and electric vehicle test systems. We also made great progress on our development programs. There were a number of specific highlights in the quarter. We grew revenue by 9% over Q1 fiscal '08 and we delivered an operating margin of 13%. We won the fourth consecutive DOD competition for a small unmanned aircraft system program of record with Puma AE. We ended the quarter with funded backlog of over $108 million, the highest in our history. We achieved important milestones in our Global Observer development program. We achieved operational improvements in our new Efficient Energy Systems segment and we continue to build our team to position ourselves for growing market opportunities.

Now let's take a closer look at the UAS segment first. Customer funded R&D primarily from our Global Observer development program increased during the quarter. This increase more than offset our planned production slowdown in small UAS relative to the same period last year. The Global Observer program is just about one year into its three-year timeline. We've made great progress in this development program. The system will be a breakthrough, stratospheric unmanned aircraft system that will provide satellite-like persistence with valuable payloads over any point on earth at a fraction of the cost of available alternatives. We received an important purchase order for the second GO airplane when our customer exercised a contract option in Q1. This, I believe, is the very significant indication of customer confidence in the program and customer intent for this capability.

Unlike most new airplane programs we are simultaneously developing the propulsion system with the aircraft system for GO. In that regard, we completed a major milestone with the successful multi-day simulated flight test, the production configuration propulsion system. As the GO program has ramped up, it's become a more significant contributor to Company revenue and to backlog. There are many challenges ahead on this program, but I'm encouraged by the great progress our team has made and by the confidence that our customers have in this very difficult but high pay-off endeavor.

If you recall from our Q1 earnings call in June, I mentioned that we expected a reduction in UAS product revenue during Q1 due to a customer-funded engineering change. To recap our DOD customers asked us to change the frequencies that WASP and Raven systems transmit and receive on. This change necessitated development of new components in software for our aircraft and our ground control systems. We agreed with our customer on a plan to pause new production, focus initially on retrofits and then proceed with both new production and retrofits in parallel. We successfully executed that plan during Q1 and we anticipate catching up with our planned production before the end of fiscal '09, while continuing to process retrofits.

One month into our Q1, we received the good news that we had won the fourth DOD competition for small UAS. The US special operations command selected our Puma AE for their all-environment capable variant program. The Puma AE will be operated with the same handheld ground control system used for WASP and Raven. It will feature long endurance, quiet operation, continuous stare cameras and amphibious landing capability. We believe Puma AE will provide an important capability to so-com, and that its unique capabilities and features may be attractive to many other customers. By adding a third production airplane at the upper end of our family of small UAS, all using our common, joint and in operable ground control unit I believe we have significantly improved our competitive position.

Development programs for Digital Data Link and Switchblade continued to make good progress demonstrating their valuable new capabilities. Both programs are attracting growing customer interest. On the other side of our business this is the first quarter that we reported Efficient Energy Systems as one segment. After combining our PosiCharge and our Energy Technology Center segments at the end of FY '08. We made this structural change to enable the people of this group to be more effective and efficient in addressing the largest market opportunities that we've targeted in clean transportation and clean energy. Concerns about environmental footprint, energy security, and high fuel prices have increased interest around the world in these two important areas. Consolidating our electric vehicle product lines and our development programs will leverage common technologies, resources and business relationships. It will also strengthen Management's focus in our initiatives in both areas.

Quarterly revenue for the combined EES segment is up slightly year-over-year with good margin improvement. In clean transportation we market our PosiCharge, electric vehicle, fast charge systems as a productivity enhancer where industrial EV fleet operators. We also market our EV test systems to developers of next generation of EV systems around the world. In the clean energy space we are continuing to develop our architectural wind energy generation system for installation on buildings. We continue to move forward carefully and deliberately working closely with early adapter customers and maintaining our focus on insuring that all customers will be successful when we determine that this innovative system and its target markets are ready for broad adoption.

We're continuing to secure new customers for PosiCharge and believe that we maintain the largest share in the industrial EV fast charge at market. However, we have not yet broken through the adoption barriers that have prevented a rapid increase in growth in this area. We're exploring a number of initiatives from new system solutions to innovative channel strategies designed to increase the penetration of PosiCharge systems into the hundreds of thousands of industrial EVs operated in North America and beyond. Outside of the industrial EV market we are seeing increased interest in our EV test systems from OEMs that are working to develop new battery electric and plug-in hybrid vehicles. As a result, we believe that opportunities exist for increased volume for our EV test systems. With that as an overview of our business, I'll turn the call over to Steve for a more detailed discussion of our financial performance.

Thanks, Tim, and good afternoon. Revenue for the first quarter was $53.6 million an increase of 9% over first quarter prior year of $49.2 million. Looking at revenue by segment, UAS revenue was $46.1 million, an increase of 10% over prior year. The growth in UAS revenue was due to higher project R&D partially offset by lower product deliveries, EES revenue was $7.5 million an increase of 3% from Q1 of last year.

Turning to gross margin, gross margin in the first quarter was $20.6 million up 22% from Q1 of last year. Gross margin as a percentage of revenue was 38% versus 34% in Q1 last year. By segment, UAS gross margin was $16.6 million, up 18% from Q1 of last year. As a percentage of revenue, UAS gross margin was 36% compared to 34% in Q1 of last year. This increase in gross margin rate was primarily due to lower program costs. EES gross margin was $3.9 million up 43% from Q1 of last year and as a percent of revenue EES gross margin was 52% compared to 37% in Q1 last year. This increase in gross margin rate was primarily due to operating efficiencies and sales mix.

SG&A for the quarter was $8.1 million or 15% of revenue compared to $7.7 million or 16% of revenue in the prior year. SG&A growth is primarily due to higher selling and marketing expense. R&D expense for the quarter was $5.3 million or 10% of revenue compared to the prior year amount of $4.3 million or 9% of revenue. Customer-funded R&D during the quarter was $13 million or 24% of revenue compared to $4.3 million or 9% of revenue in Q1 of the prior year, and total R&D, internal and external, was $18.3 million or 34% of revenue versus $8.6 million or 17% of revenue in the prior year. Operating income for the quarter was $7.2 million or 13% of revenue. Operating income was 50% higher than Q1 of the prior year primarily due to the higher gross margin partially offset by R&D and SG&A expense. Net income for Q1 was $4.8 million or $0.22 per fully diluted share compared to $3.8 million or $0.18 per fully diluted share in the same period a year ago. Looking at backlog, funded backlog at the end of the first quarter was $108.9 million up $26.9 million or 33% from April 30, 2008.

Turning to our balance sheet, cash equivalents and short-term investments at the end of the first quarter totaled $113.4 million, down $5 million from our prior quarter amount of $118.4 million. The negative cash flow was largely due to working capital and capital expenditures partially offset by income. Investments at the end of the first quarter were $8.5 million down from the previous quarter amount of $13.4 million. The decrease in investments was due to net redemptions of municipal auction rate securities. Turning to receivables, at the end of the first quarter our accounts receivable including unbilled receivables totaled $50.9 million up $500,000 from the prior quarter. Total day sales outstanding were approximately 85 days compared to 71 days at the prior quarter end.

Taking a look at our inventory, inventories were $20.7 million at the end of the first quarter compared to $15.9 million at the end of the prior quarter. Days in inventory were 56 days versus 35 days at the end of the prior quarter. Turning to capital expenditures in the first quarter we invested approximately $2.3 million or 4% of revenue in property improvements and capital equipment. Of the CapEx approximately 90% was related to growth. And now I'd like to turn things back to Tim, to discuss expectations for the full year.

Thanks, Steve. As I said earlier Q1 was a good start to our fiscal 2009 and positions us well for achieving our full year targets. In summary, the frequency change was executed successful it. Our production in development programs are on track. The Puma AE win was an important success and fortifies our position in small UAS. Our receipt of an order for a second Global Observer was a key milestone in that program. We believe that we may receive commitments for proceeding with the introduction of Digital Data Link this year. Based on our solid performance in Q1, I'm comfortable reiterating the annual guidance we provided during our last call, which is fiscal 2009 revenue growth of 20% to 25%, and a 12% to 14% operating income margin. Of course, none of this would be possible without the skill, committment, and effective efforts of our team members. The committment to success of our customers, the support of our suppliers and the trust of our stockholders. Thank you all for your attention and your interest. And with that, Steve and I will open the call to questions.

Thank you. The question and answer session will be conducted electronically. (OPERATOR INSTRUCTIONS) And we'll pause for just a moment to give everyone a opportunity to signal. We'll go first to Michael Lewis with BB&T Capital Markets.

Hi, Tim, hi, Steve, how are you?

Hi, Michael, how are you?

Doing fine. Okay, so it was a really nice quarter, strong margin and very much a surprise on my side, but my question is you talked a little bit about the customer funded R&D in the quarter. What exactly was that number and did any of that revenue come in earlier than you had anticipated on your own internal plan?

Mike, we don't break down individual programs, but for the quarter project R&D in total is 24% of total Company revenue, Global Observer would be the lion's share of that. In terms of the timing, I think the timing is consistent with our expectations. It's Global Observer is a large project and it's building up over time and I think it's proceeding more or less according to plan.

Okay. Also, just one more question and I'll get out of the way here. If we look at your total UAS revenue, what proportion is [PBL] at performance-based logistics and can you tell us what level of year-over-year growth that you're seeing in that area of the line item at this time?

Well, Mike, this is Tim. It's not performance-based logistics. The logistics aspect of that service line is spare parts, repairs, training and I guess upgrades. Yes, Steve is pointing out upgrades as well. So the spare parts and repairs or the maintenance is typically on a cost-plus basis and it's not associated with the performance-based contract.

Okay, but what I'm trying to gather here is this part of the UAS revenue stream growing at a higher clip versus the production side of the revenue stream?

Well, I think the only way that I can answer that is to point out where it's been and where it is in Q1, because we're not guiding on that element going forward. In fiscal '08, services companywide, and it's primarily UAS, services were 30% of total company sales, and in Q1, continues to be around that at 28% of revenue.

Okay, that's very helpful. Thank you, Tim.

We'll go next to Chris Donaghey, SunTrust.

Hi, good evening, guys, and congratulations on the quarter.

Thanks Chris.

Tim, on the Global Observer, with the option exercise for the second aircraft does that mean that the $35 million that was included in the fiscal 2008 supplemental has been released?

Well, I don't think it means that it's all been released, but I believe that the portions that have been exercised, the options that have been exercised under the contract to date were funded through that line item. We actually expect there will be some more later on.

Well that's where I was going next. In the house appropriation's subcommittee on defense, their markup of the fiscal '09 defense bill, they included a plus up of $40 million for Global Observer development, so if you took the first contract you received, the $57 million plus the $35 million that is in the 2008 supplemental, plus what's coming now more than likely in the fiscal '09 bill, that puts you at $132 million versus the original contract value of $108 million. So can you just talk a little bit about what's going on, what is the customer seeing? Are they trying to significantly accelerate development? Are they allowing you to add scope to the work and what would be causing the size of the program to go up -- be going up this early in the development cycle?

Well, Chris, let me say first that as far as the '09 defense budget is concerned, to my knowledge, that's still in process and -- so I haven't really got any comments there, but in general, I think as we've been saying the program is going I think very well. I think the customers are very satisfied with the progress we've had completed the first half of our critical design review last month. I think that went very well. I mentioned some very significant test results that we've had in the program, so I think there's generally a good appreciation of program performance and a very high level of interest in the kinds of capability that this breakthrough technology will provide. So having said that, it's not surprising to me that there's some opportunity to fund more of the initial development than was anticipated in the base contract, but until we get to that point, I'll just keep myself focused on the existing contract and working with our customers to exercise options up to that level.

Fair enough. Thanks again, Tim, and good job in the quarter.

Thanks, Chris.

And we'll go next to Tyler Hojo with Sidoti & Company.

Hey. Good evening, guys. One question for me, just on the EES gross margin. That looked incredibly strong and I know you mentioned it a little bit, but I was hoping you could talk a little bit more about kind of what drove that strengthen the quarter and if that's sustainable going forward.

I'll start off. I think we combined those -- previously the energy and PosiCharge segments so that we would see some efficiencies and improvement going forward. However, we continue to look at that business as a entry into a number of very favorable markets and we're really mostly focused on top line growth. We did achieve efficiencies during the quarter. To some extent we'll see that in the future, but we don't want you to think it's going to come rolling in at that level of gross margin going forward.

Okay, that's helpful. And then I guess just a clarification on the production and restart for Raven and WASP. I mean it looked like it pretty much went according to your plan as of Q4. Was that the case, or was it maybe a little bit faster or a little bit slower than you previously expected?

No, Tyler, I think it was pretty much on plan. From the outside, I think a good metaphor is a duck swimming in the water. It looks calm but there's a lot of activity going on under the water, so it took a significant concentration and collaboration with our customers to get that done, but in fact it was executed well and pretty much on schedule as planned.

Okay, great. And just one more maintenance question. Provided a firm backlog number for us, but would you mind providing the IDIQ backlog?

Yes. The unfunded backlog was at the end of the quarter was $598 million.

Thanks very much.

And we'll go next to Brian Gesuale, Raymond James.

Hi, guys. Great job on the quarter.

Thanks, Brian.

Wanted to kind of dig into backlog a little bit more on the funded side. It was a really nice increase sequentially. Wondered if you could give us a little bit of color in terms of you won obviously the big IDIQ contract, maybe how much of that fits in backlog in the funded portion. And then obviously Global Observer coming online, but just maybe help us connect the dots on that massive increase.

Well, Brian, did you mean unfunded backlog or funded backlog?

The funded backlog, Steve.

Well the funded backlog, the Puma AE contractor or AECV contract came in with a, if I recall, a $6 million order, and that went into unfunded, excuse me, went into funded backlog and we're currently working on that contract. The total contract or IDIQ value was $200 million, so the difference between that $200 million and the $6 million exercised would be in unfunded and would be the major driver for the growth in the unfunded backlog that I just referred to.

Okay, and then maybe Global Observer, how that rolled into the funded backlog?

I'm sorry can you repeat?

Yes, I'm sorry, the funded backlog portion maybe contribution from Global Observer since the activity was so heavy there?

Yes. We cannot disclose that amount. It was one airplane plus some additional items that were funded during the quarter, but were precluded by, we don't have permission from our customer to disclose amounts. It's clearly -- it was a good chunk added to the funded backlog, even without that the funded backlog would have been very healthy, I guess I can say that.

Okay, terrific. And then the one final, Tim maybe can you give us an update on timing and expectations for Switchblade?

Yes, Brian. As you know, we're in a Phase II program on that development -- funded program on the development and demonstration of Switchblade. We have been successfully flying the new airplane under that program and we expect to complete the full scale demonstration expectations with our customer yet this calendar year, let me say within Q3. So I think at that point, we will have completed the expectations for the Phase II program. I think our customers will have the performance information that they need to make decisions on what they want to do going forward.

Okay, terrific. That's helpful and you guys make this quarterly reporting stuff look pretty easy. Congratulations.

Thanks Brian.

We'll go next to Richard Safran, Goldman Sachs.

Hi, good afternoon.

Hi Rich.

Just first just a quick housekeeping question. Just on your tax rate just seemed a bit high. I Just want to know if you can comment or not if there's any change in what you're thinking about for the full year for that?

Not really. If you'll recall on the last call I talked about the tax rate being in the high 30%s, at 38% is probably a little higher than I thought it would close at. The main difference between where we are now and where we were last year, and we were at 34% last year is, we don't have a lot of tax free municipal interest income and we don't have the federal R&D tax credit. If the federal R&D tax credit is renewed, that will probably bring down this tax rate two to three points and at the time it happens it's will be a cumulative to date catch up.

Okay, and then I want to just follow-up a little bit more on Switchblade. Got your comments on status. So when should we start to expect to look for a production decision? What are you guys thinking about, or what are you getting from the government as far as, if at things going well, when they would start notifying you about anything that they would want to do with production?

Well, I don't have any firm data to give you on that Rich. I can tell you that our initial customer continues to be extremely interested in this capability in the form that we initially envisioned it and that we are currently demonstrating it, which is a backpackable system that's then launched vertically off the ground out of its self-contained package launching capability. There are other customers that have now become increasingly interested in variance of this capability and I think all of them are waiting to see the results of the current Phase II program. And as you know, with the new capability like this, it requires not only the development but then customers are presumably in the process of anticipating their own requirements and their own funding needs and then their own funding lines to support those needs and I really don't have good insight into the timing of those decisions. Having said all of that, I think in the next few months we're going to conclude this demonstration with -- this demonstration contract with full scale demonstration and after that we'll see how fast they decide they can move with the funding and the programmatic issues.

I guess just the last thing on that is, as a result of the demos and program that you're in right now, do you foresee, has the government for seen any need for any substantive changes to the system, or have these demos just pretty much proved proof-of-concept as is?

I think it's more the latter. In terms of changes, it would -- I would anticipate as different customers to the degree that they get serious about their interest, they will probably all tend to have slightly different concepts of operation and those might lead to slight modifications of the implementation, but for the most part, we're moving along as planned.

Okay. Appreciate it. Thank you.

Thanks Rich.

We'll go next to Troy Lahr, Stifel Nicolaus.

Just wanted to drill down a little bit, did you say in the beginning that Global Observer was most of the external R&D?

Well, I think it's clearly our largest externally funded R&D program, and so I think it's probably the largest source is probably a good summary of it.

Okay, and then if I use that to kind of back into the UAS segment, is it safe to say that Global Observer is maybe 20% of the business at UAS now and then maybe Raven is 60% to 70%? How should I think about this business mix now at UAS with some of these other programs starting to ramp up?

Well, I think the global -- I don't know, I guess we don't want to start breaking it down that way. I would look at the project R&D and say that the lion's share of that is Global Observer. If you look at the productline, again we're not going to break it down by product, but Raven is still the largest product followed by WASP and BATMAV and followed by the products on the EES side.

Okay, so I mean, is Global Observer bigger than kind of WASP and BATMAV?

I probably don't want to add anything more to that. If you look at the project R&D line, Global Observer is the major contributor there.

Right.

And then if you look at the productline, major contributor, continues to be Raven, Raven and is probably rough order of magnitude 50% of our product sales, total company product sales, going to a growing number of different customers.

Right. And then on the service side is that also majority of that is Raven? How should I think about the service work that you're doing relative to Raven versus the other systems?

Well it follows the products so the services would be related --

About 50%?

Well I don't even know if I could say that. I don't know if that is true, Troy. I think services, it's sort of lagging but it probably -- we have the most Raven systems fielded so the services are probably related mostly to Raven.

Okay.

And then over time we'll start to see more and more of services related to other new products as they're cut in.

Okay. Yes. That frames it's a little bit. That's helpful. And you said you still have some retrofit to go on the Raven system regarding these frequency changes. Could you maybe ballpark how far you are along in that? Is this kind of like a 7th inning or are you still a lot more room to go on just the retrofit work?

Yes, I think that retrofit work will continue out beyond next year, Troy, and that's just primarily, it's not really a capacity constraint. I think it's mostly what's convenient for our customers to address.

Okay. And then how quickly should Puma AE start to ramp up? Is that relatively quickly or certain milestones are going to drive that again also.

Yes, I think we should look at that as very early so this first $6 million-ish installment on that buy will get the [LRIP] done. We'll move I think to full rate production review and approval and then after that, we would expect to see greater volumes move in. So --

It's an IDIQ, and it's going to be -- it's probably going to look a little bit, it's going to resemble our first SUAV Raven contract. It's going to come in in a matter of steps over time.

Okay. And now lastly, can you kind of walk us through the cash flow, what was cash flow from Operations in the quarter? I thought you said it was negative but I didn't get the actual number.

Yes. Let's see. Cash from operating activities was approximately $3 million negative was in property capital --

CapEx?

-- $2.3 million, so we had a negative free cash flow calculation of $5.3 million.

Okay. But you expect that to recover, or how do you expect that to progress throughout the year?

Well, probably recover to some extent. The CapEx is obviously going to continue. In fact, it will probably creep up as we go through the year. CapEx was 4% of revenue for the quarter and I expect 5% to 6% for the year. The day sales were a little bit worse than normal perbated by this cut in of volume -- or cut in of the RF frequency change of Raven. That caused a lot of the volume to bunch up towards the second half, in the second half of the quarter which increased receivables and similar reasons increased inventory. Working capital could get a little bit better as we go through the balance of the year.

Okay. Thanks guys.

Thanks Troy.

We'll go next to Michael Ciarmoli with Boenning & [Scatter].

Hi guys. Thanks for taking my call. Most of my questions have been answered. Wanted to just follow-up on the last callers questioning. On the CapEx, where are you, where is a lot of the funding going? What specific resources do you guys find yourselves needing as you're starting to get into the ramp phase with some of the programs here?

It's growth capital. It's primarily UAS, and further it really relates mostly to our new engineering facility independent Simi Valley built out of that facility in tooling test equipment.

Yes, and I think there's also in the cap issue to date and probably as we go forward a significant amount going into the Global Observer capability.

Okay, that's helpful. And then if you can, on the Raven penetration here, your 1,400 order. Can you tell us how far along you are into that order right now?

I think you're talking about the Army acquisition objective that we've talked about before, which is a 1,900 acquisition objective. We're 48% delivered against that acquisition objective as of Q1.

Great. And then just I know you guys don't like to give sort of the guidance quarter to quarter, but with the production halt that happened in Q1 do you have any sort of expectation as to how product revenues ramp in the next quarter, or how should we be looking at the product-related revenue? Is it pretty back to those maybe $30 million levels? If you can give us any guidance that would be helpful.

Well I think that we'd like to stay with annual guidance. On the last call we did talk a little bit about Q1 because that was a pretty significant change and we talked about how we would catch up over the balance of our fiscal year and that catch up would be spread pro rata, or like peanut butter throughout the balance of the year and I think we would probably just stick with that. That continues to be our view.

Yes, I think by far the best way to look at the balance of the year is back to our guidance for the year of 20% to 25% top line growth.

Okay, fair enough. All right, that's all I have, guys. Thanks.

Thanks.

We'll go next know Howard Rubel with Jefferies.

Thank you very much. Just to follow-up on some things that you said, Tim. First you talked about gross margins in ES, kind of being a little bit larger than normal. Could you help us a little bit to understand what normal might be, or what is it that caused you to get to these good numbers and why can't you keep them?

Good question, Howard. So I think primarily those operating numbers were driven by higher gross margins and the higher gross margin was a combination of operating effectiveness improvements and some product mix that shifted around in the quarter relative to history. And as to why wouldn't we keep those going forward, I think some of the issues regarding mix probably balance outgoing forward and then we get back to Steve's point that the real opportunity in that Efficient Energy Systems business is the figuring out how we accelerate adoption of PosiCharge into what we think is a much larger potential market and figuring out how we develop and launch new products into clean energy and clean technology potential markets, all of which require significant investment both in R&D and in Business Development and the commercialization process. So we think the upside in the long term is very large and we'll be focused on maintaining share in PosiCharge and accelerating adoption and commercializing other new products, all of which will lead us to focus on the top line and the market entry as opposed to trying to maximize quarterly earnings.

I know, I understand that. I mean a lot of that makes, that's the right strategic approach and I appreciate that, but I'm still a little bit of -- you said this was unusually large. Can you give me a range or a bound of what kind of variability you might be able to expect?

Maybe I'll just say that we're one quarter into this reorganization and we're happy with these results, but we feel it would be premature to start planning on these margin levels. I mean we're obviously pleased with them and we're going to be trying to manage the business to sustain much of this improvement, but it's a little early for us to start talking about what this business is going to do from a long-term perspective.

I think that's fair. If anything I think you did extraordinarily well given the volume was what would appear to me to be a little bit light, given the opportunity, so I'm just sort of impressed to say the least on this, but was hopeful for some sense of bound. But to follow further on this you talked about some new customers, Tim, in this market. Can you talk in either industry terms of who they were and why they showed up and took the product or bought the product?

Well I think in the area of our ongoing PosiCharge business, Howard, it's -- that's -- we are continuing to find new customers primarily in areas outside in terms of new customers outside the automotive segment, food and beverage and retail distribution. In the EV Fast Charging productline, that's been -- customer base there have been vehicle OEMs and battery manufacturers and fuel cell systems manufacturers and some primarily some R&D facilities and other industries secondarily. In that area, I think it's these -- some new entrants into those markets that are building up their needs for development testing as well as prior customers that are accelerating their efforts in this area.

You're still down playing architectural wind. You now have, what, about 13 sites, is that correct?

I think it's a little closer to 10, but pretty close double digit numbers.

And there's still some additional -- I mean, okay, just two other things. One, on Digital Data Link, again, you said very close to receiving an order. Could you add a little more color to that, please?

Well, I wouldn't necessarily characterize it as very close, but in our discussions with our customers, I believe that they're serious about rounding up the funding and launching the first production or pre-production orders for that. Probably I would expect to see that be a limited initial program designed to field a limited set for evaluation, and with the expectation that they would then move on to much broader adoption. So I believe that their intent is to do that yet this year, so I guess that was the point I was trying to make.

That's fair. And then the final thing is that some of these projects you have, perch and stare and some of the other developments, does that give you some indication that you have some opportunity to break into FCS, or are we still on the outside looking in there?

Well, this program is a DARPA-funded program, Howard, and it's not an FCS --

I understand the difference of DARPA hard.

Yes, but now that we're in Phase II of this and we have actually demonstrated many of the objective performance characteristics, we're pretty excited about the potential for all of our existing customers and I think our DARPA customers are pleased with the performance here. I think you're referring to the class one FCS program that does have a, I think, a hover and stare initial requirement and a perch and stare objective requirement, but we're not involved with this program in FCS at this point.

Thank you very much, Tim.

Howard, there's also as you were poking around in the original question at the development programs and particularly the kind of conservative approach we're taking with rolling out architectural wind. Just to answer where I think you might have been going, our concern there is with very innovative new technology, it's been our experience that going slower, working closely with early adopter customers and understanding how they use it, how their expectations adapt, what happens in various installations over time in various environments is really essential to ultimately getting it right. And if we go back to one of our mantras, we're committed to the success of any customer that adopts our innovations, and that -- just our experiences, it takes longer than one might expect to sort all that out to make sure that we don't disappoint when we actually move to full rate production.

Another way of saying this is zero warranty cost.

Well, it's surprising how many unexpected things come along with really innovative technology. I think pool players have a metaphor for long shots: even though it looks like it's straight, there's a lot of green in between.

Thank you. I appreciate your point on this, Tim, a lot.

Thanks, Howard.

We'll go next to Josephine Millworth, Stanford Group.

Good afternoon.

Hello, Josephine, how are you?

Doing well, thank you. Congratulations on winning this special operations contract. Can you talk a little bit about your outlook for the Puma? Since this is a program of record have you had any indication from the military in terms of the requirement going forward?

Well, as you know, the customer for this that has this initial requirement and placed this initial order is US Special Operations Command. The contract has an IDIQ value of about $200 million or I think it is $200 million, so that's some vague implication of long-term intent. The initial contract was about $6 million and that will take us through the evaluation leading to a full rate production decision. After that we would expect that our first customer would then begin to increase their production requirements. If we look back at our last program of record win, which was the BATMAV program and our WASP III system, that was I believe about 11 months from the initial contract win to the full rate production approval, so that's -- about a year is maybe a reasonable expectation in that first phase of the program.

So you're not really expecting a lot of revenue contribution until next year?

Correct.

Okay. And you had a very strong quarter for new bookings, looks like it was over $70 million. Other than the Global Observer can you talk and what areas your bookings came from and if you expect this trend to continue?

Well, I'll try. It's really all of the above.

Right.

It's Raven. I mean clearly, the Puma was a press release, so it's -- and we talked about Global Observer on the call, but in addition, there's just more Raven, more services, etc.

Okay, so other than the Global Observer, the Raven was really the key driver behind your strong bookings?

Yes, and it typically is.

Right, right.

And I think to answer your question on expectations, I would go back, I would go back to our guidance at the 20% to 25% top line growth for the year.

Great. Thank you very much.

Thanks Josephine.

(OPERATOR INSTRUCTIONS) And we have a follow-up question from Michael Lewis, BB&T Capital Markets.

Steve or Tim, can you help me with some math here? With regard to -- you had stated you're around 48% done with the Army 's expectation of 1,900 systems. I look back last quarter you came in around 43% completed. This quarter you came in at 48%, so that's a five percentage point shift, but we were working with one less month in production. So are you saying that we should anticipate to see 300 to 400 units being produced per quarter going forward, or is this just an extremely strong production quarter for AeroVironment in Q1? I'm just a little bit confused how this is working through, since there's a step up in production deliveries, it looks like in the quarter.

I'm not completely following. We had a 5% increase in Raven deliveries during the quarter, and that should be consistent with the product deliveries that we're reporting on. In fact, if anything, the product deliveries were a little bit lower than usual. When we talk about the Army acquisition objective, we're really talking about the deliveries that we're making to the Army customer in any particular period, and we're not talking about all of the production deliveries that we're doing. So we're not -- in any particular quarter we may make more or less deliveries, to the Army itself.

Mike, this is Tim. I see the point you're making there, but I suspect that this is more just an anomaly. I don't think you should -- I don't think this implies any material increase in our base rate, if that's what you were thinking the implication might be.

Okay. I'll take that off-line with you, but just two more quick questions and I'll get out of your way here. Did you imbed the entire unfunded portion of AECV into your unfunded backlog in that IDIQ?

Yes, except for the $6 million that had been ordered.

So your expectation is that will be fully procured over the next few years?

No. We never say unfunded is that we expect it to be converted into orders. We just note that this is the total value of the IDIQ.

Okay. But you don't put any discount factor into unfunded portions?

No. We never have. We just include -- that's why we really report and focus on funded backlog.

Okay, that's fair, and then just one more question. I know you won't give us the level of revenue from WASP in the quarter, but what is your expectation with regard to the Army stepping up and announcing its intent to field more WASPs or procurement contract from the Army in that area?

Army expectations to field and procure more WASPs?

I guess the question is, what's your expectation on whether the Army will purchase addition WASPs for the --

Okay, Mike, let me take that. Let me just start by going back. The initial production contract on WASP III was a Air Force program of record, and subsequent to that win the Marine Corps bought the WASP III for their own use, and that was significant not only because it was about a $19 million order, but the Marine Corps then issued those at the Company level, which we believe validated a trend towards lower issue. The Army has not procured production WASP airplanes to date. Now, I think that there's some interest in multiple customers looking at WASP going forward and how that might fit into their small unmanned aircraft system requirements, but there's no current contract relationship with the Army on that product.

Is the Army working with DARPA on that initiative though?

Well, I think DARPA was our initial customer that funded much of the development of the original WASP through configurations one, two, and three has worked with a number of different services, and I guess now that you bring it up, probably enabled multiple services to get demonstration units for in-field valuation, and it is possible in that context that some units of some WASP units did go to the Army, but they didn't go there through a contract directly with us.

Got you. Thank you very much.

You bet. Thanks.

It appears there are no further questions at this time. Mr. Conver, I'd like to turn the conference back to you for closing remarks.

Well, thank you all very much for your interest. We continue to be excited about our future growth prospects, and we look forward to talking with you on our next call.

That does conclude today's conference. Thank you for your participation. You may now disconnect.