AeroVironment Inc (AVAV) 2015 Q2 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the AeroVironment Incorporated second-quarter fiscal 2015 earnings call. (Operator Instructions). As a reminder, this conference is being recorded for replay purposes.

With us today from the Company is the Chairman and Chief Executive Officer, Mr. Tim Conver; Chief Financial Officer, Mr. Jikun Kim; and Vice President of Investor Relations, Mr. Steven Gitlin. Now at this time, I would like to turn the conference over to Mr. Gitlin. Please go ahead, sir.

Thank you, Karen, and welcome to our second-quarter call. 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 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.

For a list and description of such risks and uncertainties, see the reports we filed with the Securities and Exchange Commission. Investors are cautioned not to place undue reliance on any forward-looking statements, which speak only as of the date on which they are made. 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, November 25, 2014. The Company undertakes no obligation to make any revision to the statements contained in our remarks or to update them to reflect the events or circumstances occurring after this conference call.

We will now begin with remarks from Tim Conver. Tim?

Thank you, Steve, and welcome to our second-quarter fiscal 2015 earnings call. This year, we have two priorities: first, expanding our core business with a focus on revenue and gross margin objectives; and, second, positioning AV for three large, emerging growth opportunities with managed investments. I am pleased to report that across the board our fiscal 2015 plan is on track.

On today's call, I will summarize Q2 performance and then review progress in our core business and our growth opportunities as we are focused this year. Following, Jikun Kim will provide a detailed financial summary of the quarter and the fiscal year to date, and I will discuss our outlook for the year. Then after the outlook discussion, we will take your questions.

Second-quarter revenue of $52.7 million mirrors Q1 revenue, as we anticipated on our Q1 call. Gross margin of 34% improved over Q1. We had strong bookings again in Q2.

Funded backlog increased to $125 million, up 50% over Q1 and up 90% for the year. With this backlog, our visibility entering Q3 is 97% of the midpoint of our revenue guidance range.

Our business model comprises two elements. First, a set of established business areas in our core business that lead their respective markets and generate operating income. And second, a portfolio of growth opportunities representing potentially large new businesses requiring investment to secure market adoption and to position us for market leadership.

I will address our core businesses first. Both UAS and EES segments are executing as expected for the year. A key message in describing our core business is that our small UAS business area continues to perform well. We have built a strong backlog based on broad customer demand.

During Q1, the U.S. Army and Marines both announced the requirements for their next-generation family of small unmanned aircraft systems, and both adopted AV solutions. During Q2, we received an initial $22 million order for WASP AE systems against that new Marine requirement.

Both the Army and the Marines are upgrading their capabilities of their large Raven fleets with our Mantis gimbaled payload, contributing to order flow and revenue during the first half.

Genuine AeroVironment spare parts ensure high levels of operational readiness and reliability for our troops when the systems we make are properly maintained. This is important as the Army begins to refit its extensive small UAS fleet to ensure that after years of heavy use this critical capability will be fully operational when needed. This recapitalization contributed to high sustainment order flow for small UAS spare parts in Q2.

We also received international contracts from two new customers and five established customers in the second quarter, rounding out our robust small UAS order flow from multiple sources.

Small UAS now have the potential to be deployed beyond their traditional mission of supporting ground troops. The Navy is advancing their evaluation of small UAS adoption. Sailors operating our systems in multiple FC trials of different applications on different classes of ships have all demonstrated positive results. We're optimistic about the Navy finding high value through the future adoption of our all-environment small UAS that are uniquely capable of saltwater landing.

Our team won a significant down-select competition this quarter for a $19 million phase 2 development contract for DARPA's Tern program. Our innovative Tern solution is consistent with the DARPA and the Navy vision of an entirely new reconnaissance and strike capability for naval forces.

This is also an important step in our initiative to develop larger UAS with the potential to broaden our defense market access and increase revenue opportunities.

Switchblade systems have been very successfully deployed with American troops. This successful operational experience continues to attract Switchblade procurement interest from new customers, both domestic and international, which supports our expectation for continued success in our Tactical Missile Systems business area.

In our Efficient Energy Systems segment, we continue to see strengthened demand for our charging systems for both passenger and industrial electric vehicles. Electric vehicle test systems still reflect soft demand in that market.

We have now deployed more than 21,000 Level 2 charging systems in North America, and TurboCord demand continues to increase, allowing us to maintain our leadership position in this area. If plug-in EV adoption accelerates as projected over the next three to four years, the correlated increase in demand for charging systems represents a large growth opportunity for our EES segment.

I will now move on to discuss our portfolio of growth opportunities. Potential lead customers for Tactical Missile Systems, Global Observer and commercial UAS continue to express interest and behave in a manner consistent with emerging demand and probable adoption of these solutions. This year, we are closely managing increased investments to optimize our position to support and grow with these three market opportunities when customers adopt.

In Tactical Missile Systems, our increased investments in fiscal 2015 are focused on two main areas. First, we initiated investment to optimize our position for an anticipated Army LMAMS program of record. The LMAMS program of record progressed through a key Pentagon review during the quarter, and we believe it could materialize in government fiscal year 2017.

Our second area of Tactical Missile Systems investment this year is in the development of new systems for multiple customers. Each offer different capabilities than the existing Switchblade and the Army LMAMS program of record. While I won't discuss these new systems in any detail, they are all driven by customers seeking the unique capability set introduced with Switchblade, but for different applications.

It's important to know that each development will be co-funded by a customer, and each represents an incremental and material market opportunity with strong customer support for near-term demonstration.

Recall that the Army and the Air Force budgets for missile systems in government fiscal 2014 totaled more than $6 billion, so the market opportunity is significant.

The second growth opportunity that we are investing in this year is commercial applications of unmanned airplane systems. Much news coverage continues to address these potential market opportunities that are expected to be large and global, and that coverage often is associated with increasingly ubiquitous consumer quadcopters.

Our primary focus is professional system solutions for large global industries, which we believe represent the most attractive segments of this emerging market. It's also more complex than it may seem. Adoption and market success with these customers will require capabilities such as the ability to operate safely and reliably in all environments -- regulatory compliance, legal access to airspace, processing enormous amounts of data to deliver the actionable information to generate strong economic return on investment, and seamless integration into their existing business processes.

We believe the more complex requirements for success in these high-end segments of the market that is emerging are ideally matched to the kinds of robust systems and business solutions we provide. One essential element of any successful commercial UAS solution is meeting the rigorous requirements for legal access to airspace. We remain the only UAS manufacturer to have met the demanding qualifications for FAA-restricted type certification for commercial service over American soil.

This gives us the ability to secure our own FAA certificates of authorization for commercial operations. Our demonstrated ability to achieve FAA type certification, regulatory compliance and legal access to airspace is a significant differentiation in this essential aspect of market success.

During Q2, we invested -- we continue to invest in commercial UAS solution development and market positioning, both in the oil and gas industry and in other vertical markets. Our first-of-a-kind solution for BP in Alaska has contributed to important business relationships and validated industry requirements and solutions.

We are now developing opportunities for our solutions in and outside of Alaska with BP and with other companies in the oil and gas industry. Our intent is to ensure that our lead position can translate into strong business growth and return on investment when adoption accelerates.

This year, we also increased investment in a second key element for commercial UAS market success. That is the innovative technology developments that will further optimize platform and payload solutions across multiple new commercial applications. We are pleased with our prototype results. However, for competitive and intellectual property reasons we do not intend to discuss the specific new capabilities until we bring them to market.

Our third growth area driving increased investment in fiscal 2015 is Global Observer. Our joint venture in Turkey remains active, and we are expanding our relationships in Turkey to address growing opportunities for Global Observer. Lockheed Martin and AeroVironment also remain actively engaged through our memorandum of understanding to pursue Global Observer opportunities.

During Q2, we increased investments in business development and application engineering for international opportunities.

In total, we have invested a little less than $6 million in these three growth opportunities during the first half of the year in addition to our core business investments. We expect to increase investments in Tactical Missile Systems, Commercial UAS and Global Observer in the second half.

In summary, this is a year of investing in new growth opportunities while continuing to execute in our core business. We are carefully managing and gating these new investments to position the Company for sustained growth with high returns. We remain market leaders in our core business in both our unmanned airplane systems and our Efficient Energy Systems segments.

We have seen strong performance in our small UAS business where order flow has been high and driven from diverse sectors. Small UAS demand is supported by the Army and Marines' next-generation requirements for our solutions, the Navy's evaluation of small UAS adoption, ongoing sustainment requirements for an installed base of thousands of our systems and a strong international requirements pipeline.

Now I will turn the call over to Jikun for a detailed financial overview of Q2 and the fiscal year to date.

Thank you, Tim, and good afternoon everyone. AeroVironment FY15 Q2 results are as follows. Revenue for Q2 was $52.7 million, a decrease of $12.2 million, or 19%, as compared to $64.9 million a year ago.

Looking at revenue by segment, UAS revenue was $43 million, a decline of $13 million, or 23%, compared to last year. This decline was primarily due to lower product deliveries of $10 million and decrease in service revenues of $3.1 million. The decrease in product deliveries is primarily due to lower SUAS deliveries, and decrease in service revenue was due to reduced repair activities for SUAS as well as a decline in Switchblade-related [prad] activities.

EES revenues increased $0.8 million, or 9%, to $9.6 million in the second quarter. This increase was primarily due to increased product deliveries of our passenger electric vehicle charging systems.

Turning to gross margin, gross margin in the second quarter was $17.9 million, a decrease of $6 million, or 25%, as compared to $23.9 million in the prior year. Gross margin was impacted by a government contract accounting reserve we set up in the quarter for prior-year incurred cost audit findings. These reserves impacted gross profits by $2.6 million in the quarter.

Now by segment, UAS gross margin decreased $5.3 million, or 26%, to $15.5 million in the quarter. The decrease is primarily driven by lower sales volumes. As a percent of revenue, gross margin for UAS decreased from 37% to 36%. EES gross margin decreased by $0.7 million, or 22%, to $2.4 million in the quarter primarily due to unfavorable product mix.

As a percent of revenues, EES gross margin decreased from 35% to 25%. SG&A expense for the quarter was $13.5 million, or 26% of revenue, compared to an SG&A expense of $13.1 million, or 20% of revenue in the prior year.

R&D investments for the second quarter was $8.5 million, or 16% of revenue, compared to R&D investments of $6.9 million, or 11% of revenue in the prior year. R&D investments increased by $1.6 million year over year.

Operating loss for the second quarter was $4.1 million, or negative 8% of revenue, compared to the prior-year profits of $3.9 million, or 6% of revenue. Operating income was lower primarily due to lower sales volumes generating lower gross profit and higher R&D investments.

Interest income and other expenses for the quarter was a net loss of $0.4 million, primarily driven by the conversion of the second CybAero convertible note. The effective tax benefit rate for the quarter was 36%, an increase from the prior-year period of 9%.

Net loss for the quarter was $2.9 million, or $0.13 loss per share, compared to $1.7 million profit, or $0.07 per fully diluted share, in the same quarter last year.

On an adjusted basis, which excludes the impact of the CybAero convertible notes and equity-related transactions, FY15 Q2 EPS would have been a $0.12 loss per share. We have provided an EPS reconciliation table in the press releases.

And now moving quickly through our first-half FY15 results, revenue for the first six months was $104.5 million, a decrease of $4.5 million or 4%, as compared to $109 million a year ago. UAS revenues decreased by $7.1 million, or 8%, to $84.2 million, primarily due to decreases in customer-funded R&D work of $7 million and service revenues of $3.6 million. These reductions were offset by higher product deliveries of $3.5 million.

EES revenues increased $2.6 million, or 15%, to $20.3 million, primarily due to increased product deliveries of our industrial fast charge systems, partially offset by lower product deliveries of our passenger electric vehicle charging system as the CEC program came to an end earlier this year.

Gross margin for the first six months was $31.9 million as compared to $36.4 million from the prior year. This represents a decrease of $4.5 million or 8%. Again, gross margin was impacted by the government contract accounting reserve we set up in the second quarter for prior-year incurred cost audit findings.

UAS gross margins decreased $5.8 million, or 18%, to $25.6 million. The decrease is primarily due to termination settlement for our Global Observer joint capability technology demonstration contract, which occurred during the first six months of the prior year. As a percent of revenue, gross margin for UAS decreased from 34% to 30%.

EES gross margin increased $1.3 million, or 25%, to $6.3 million primarily due to higher sales volumes and favorable product mix. As a percent of revenue, EES gross margin increased from 28% to 31%.

SG&A expense for the first six months was $26.9 million, or 26% of revenue, compared to SG&A expense of $25.5 million, or 23% of revenue in the prior year.

R&D investments for the first six months was $15.7 million, or 15% of revenue, compared to R&D investments of $14.1 million, or 13% of revenue in the prior year. Operating loss for the first six months was $10.6 million, or negative 10% of revenue, compared to an operating loss of $3.2 million, or a negative 3% of revenue last year.

Interest income and other expenses for the first six months was $0.4 million. The effective tax benefit rate for the first six months was 36%, compared to the effective tax benefit rate for the prior year of 34%.

Net loss for the first six months was $6.5 million, or $0.29 loss per share, compared to a net loss of $5.6 million, or $0.25 per share last year. On an adjusted basis, which excludes the impact of the CybAero convertible notes and equity transactions, FY15 Q2 year-to-date EPS would have been a $0.30 loss per share.

Now backlog. Looking at backlog, funded backlog at the end of the second quarter was $125.2 million, up $59.3 million, or 90%, from April 30, 2014.

Turning to our balance sheet, cash equivalents and investments at the end of the second quarter totaled $257.2 million, down $7 million from the prior quarter. The decline in cash equivalents and investments were driven by higher working capital needs.

Turning to receivables, at the end of the second quarter our accounts receivables, including unbilled receivables, totaled $38 million, up $7 million from the prior quarter. Total days sales outstanding were approximately 65 days compared to 54 days at the end of the prior quarter.

Taking a look at inventory, inventories were $51.8 million at the end of the quarter, compared to $46.4 million at the end of the prior quarter. Days in inventory were approximately 134 days, compared to 111 days at the end of the prior quarter.

Turning to capital expenditures, in the second quarter we invested approximately $1 million, or 2% of revenue, in property improvements and capital equipment. AV recognized $2.1 million of depreciation in the quarter.

Now an update to our FY15 visibility. As of today, we have year-to-date Q2 actual revenues of $105 million, Q2 ending backlog that we can execute in FY15 of an additional $123 million, Q3 quarter-to-date bookings that we can execute in FY15 of an additional $6 million, unfunded backlog from incrementally funded contracts that we expect to recognize revenue for the balance of this year of $3 million, and revenues needed to hold EES revenues flat relative to last year of $14 million.

This puts the total FY15 revenue visibility at $251 million, or 97%, at midpoint of revenue guidance.

Now I would like to turn things back to Tim to discuss AV's expectations for the balance of our FY15.

Thank you, Jikun. You will recall from our fourth-quarter call that our primary focus for year-over-year comparisons in fiscal 2015 is on revenue and gross profit margin. We limited our guidance to these two metrics because our investments in growth opportunities during FY15 will offset operating profits from our core business.

We are solidly on track for achieving these fiscal 2015 metrics. With 60% of our revenue to go for the year, we are comfortable with our revenue guidance of $250 million to $270 million because our backlog gives us good visibility for revenue at the midpoint of that range.

Our tactical focus in the second half will be on efficiently converting current backlog to revenue and building future backlog and business opportunities for fiscal 2016. We're also comfortable with our gross margin guidance for fiscal 2015 of 34.5% to 37.5% at the respective revenue levels. The expected volume increase in the second half should favorably impact our gross margin, keeping us on track to achieve that guidance range as well.

Strategically, we will continue to focus on delivering unique value to our existing customers. The pursuit of larger UAS platforms like Tern, and the three growth opportunities that we are investing in this year: Tactical Missile Systems, Global Observer and Commercial UAS. We are actively engaged with lead customers and partners in these three growth areas. This ongoing engagement supports our view of a growing probability of adoption over the next couple of years as well as the potential for compelling return on investment as that adoption subsequently drives market growth.

We are carefully managing the growth portfolio investments we are making this year. We continue to believe that these investments will increase in the second half and could offset all operating profit for 2015 if fully deployed.

Thank you for your time and attention. And thanks to the AeroVironment team for the ongoing commitment of your unique human power that drives success for our customers and, as a result, our growth. Now Jikun and I will take your questions.

(Operator Instructions). Andrea James, Dougherty & Company.

Thanks so much for taking my questions. I will stick for the first on commercial drones. You said you were -- Tim, you said you are processing large amounts of data to generate a return on investment. And this is one of your advantages, I guess, presumably with BP. This just seems to be a change from how I have historically understood your core business. So I guess my question is is information services something that you're going to continue to invest in internally? Are you partnering? Can you just elaborate on that piece of the advantage for you?

Yes. Thanks for the question, Andrea. First, what I intended to say there was that one of the elements of success with the -- in these large industrial applications of commercial UAS that we think represent extremely high value will be delivering actionable information. And in order to do that, we will need to process large amounts of data to get to that actionable information. And it's, in fact, that information that will drive the return on investment for those customers.

We see that in our initial applications with BP in Alaska as we have operated these solutions over the course of the summer. You'll recall, I think, over the last couple of calls as I have described some of the solutions we are delivering up there, they in some cases include looking at the unique network of roadways and operating paths and resource extraction that goes on up there and building very accurate 3-D maps of the geography and those areas of interest. And then integrating those with high-definition photogrammetry so that those 3-D maps are generated by creating very large amounts of data in the form of point clouds and processing those point clouds to in a back-office operation to produce those 3-D maps and integrate the high-definition video.

From that, we are able to help the customer extract the critical information that they need to make real-time, actionable decisions. Sorry for the long answer, particularly the -- we move that data through the cloud. We process it in conjunction with partners that are very proficient at specific applications of that high-volume, big data processing.

So I don't mean to say that we are internally generating all of that work.

I appreciate that. Then the other thing, since we only get two questions, I guess you have talked about your three main growth areas -- Commercial UAS, Global Observer, Switchblade, but then we have got this turn down select, and so this went from a $2 million program to a $20 million program within a year. I guess my question is can that continue to grow? And is expansion with the Navy another thing that we should be looking at?

Again, you will recall I've been talking for some time now about our initiative to expand our unmanned airplane systems solutions beyond the small UAS where we have a very large market share now and continue to have a strong relationship with customers in that area. But to move into -- in addition to larger-sized platforms where some of our innovative solutions have the potential to bring some compelling value to customers and expand the size of the market opportunity that we pursue.

So this is a good example. There were a half a dozen organizations that had phase 1 contracts for Tern. That down select to for phase 2 reduced the competitors to two. I believe that DARPA expects to further down select in a year or so probably to one supplier and move that onto which would probably become a significant program beyond that.

Peter Arment, Sterne, Agee.

Tim, you have talked a lot about the small UAS performing really well and that you are seeing a lot of upgrades with the gimbal systems. Maybe you could just give us -- I hate to use the baseball analogy, but what inning are we in the recap of the upgrade there?

This is Jikun. I think from a gimbal standpoint, we are probably halfway through. We have got some legs to go on that.

Okay. Thanks. Then unrelated if I could -- the second question -- Tim, you mentioned two new international customers and five established. Maybe you could just give us an overview. How big is the international sales mix right now within UAS, and where do you think this could be three years from now?

The pipeline for international requirements is very large, and it -- if anything it continues to grow. We now have over 30 international customers, and I would -- my expectation, from everything we can see in our pipeline, is that the three years from now our international small UAS business will be significantly larger than it is now.

We do experience what I think is relatively common, and that is, if anything, our international contract releases tend to slide more often than government -- US government contract releases. But that doesn't seem to have reduced the probability of those contracts ultimately being awarded.

Okay. Thank you.

Michael Ciarmoli, KeyBanc.

Maybe, Tim, how are you thinking about on your commercial UAS growth opportunities? Is that market becoming more challenging and more complicated? The FAA just -- I think they're requiring pilot licenses now basically. How are you dealing with some of the red tape that is just not clearing up right now in that market? Do you see that, I guess, creating some headwinds on your revenue growth opportunities, or have you anticipated this?

I think, Mike, that I was trying to address some of that in my previous comments. The specific FAA requirements that you noted are all present with our current commercial operations that are FAA approved in Alaska. We understand those. We operate in compliance with those. And, in fact, we are the -- still the only manufacturer to have achieved type certification for commercial operation over the land from the FAA.

That has been so successful in this initial summer of operation with BP that this year the FAA expanded that area of operation significantly. We are now, I think, approved to operate in an area something like 14,000 square miles, which is a little larger than the state of Maryland.

I think, in summary, we have a good understanding of what those rigorous requirements are. We have been uniquely successful in operating with them, and we are looking forward to moving ahead with being able to extend those operations more broadly.

Well, I guess I was referring to the Wall Street Journal article yesterday where I guess the proposed rule would require operators to have pilot licenses.

Yes. Operators are required to have pilot licenses in Alaska now.

Okay, okay. Got it.

So we are -- to my knowledge, I saw nothing in that article yesterday, Mike, that was surprising or different than what we have been used to operating with to date.

Got it. Perfect. That's helpful. Then just how should we be thinking about the payback period here for these investments? And I guess you have got an upcoming LMAMS competition. But is it reasonable to think that some of these -- we should see revenues start to hit the P&L in fiscal 2016, or can you give us any color around timing of any awards or when these growth programs start to have more pronounced impact on the income statement?

Well, we have the chart that we put in our corporate communication deck last year that lays out the notional adoption timing and potential investment levels of a half a dozen growth opportunities that we have been focused on. Included in those are the three that we are increasing investments in this year.

Again, we are increasing those investments because we are getting market signals and customer feedback that is consistent with their accelerated consideration of adoption in those areas. We want to be optimally positioned to support that adoption and grow with them when they move.

So the timing -- looking -- referring back to that chart, the timing for each of those three areas is different. We are currently generating revenue and good returns from Switchblade as the initial product in our Tactical Missile Systems business. And so, I would suspect that the likelihood of earlier meaningful adoption of new applications there is relatively good for that business area.

If we move out to the other end of the timeframe, even if we got a very short-term initial adoption of Global Observer, the ultimate delivery of those systems would be a few years out just because of lead time of that large, complex system. Obviously, the impact on the business could be huge with that adoption. And probably commercial -- I would say is -- if anything, is probably pulling in a little bit from the timeline that we had indicated on that chart, which would be looking at one to three years on our chart. And if anything, that's probably moving in a bit.

Josephine Millward, The Benchmark Company.

Congratulations on the quarter. Nice bookings.

We like the visibility.

Me too. Tim, can you comment on the President's request for additional OCO funding to support the campaign against ISIS? Do you see any potential there for AV? I know the request has about $55 million for small tactical UAS.

I think there is -- as the engagement with -- in these kinds of conflicts have historically provided a venue for products like ours to deliver large, very significant value to organic teams on the ground. How that rolls out with between US engagement and US ally engagement, and what ultimately happens with the -- in the world situation, I think I'm reluctant to try to guess at. But, as you know, our systems are typically built to provide incremental and oftentimes significant incremental value to those organic teams that do get engaged in these unfortunate situations.

Right, right. A follow-up question, have you delivered all the Switchblade in your backlog? And do you still anticipate a follow-on for the Switchblade this coming -- I guess for this fiscal year?

We have delivered a significant portion of the prior backlog for operational hardware. We have ongoing contracts that we are currently engaged with for Switchblade, and I would expect that we will continue to see good demand for that product from current and from new customers.

Howard Rubel, Jefferies.

Jikun, just a point here. You talked about the gross margin adjustment, which reflected a booking rate change from prior periods. How should we think about this item going forward? Does that have a -- is there a modest reset in how you think about profitability?

A little detail or background information on this one. The incurred costs, we are talking six or seven years ago. It's been a while, so this is -- the government is catching up with their incurred cost audits, and this is from 2007 and 2008. So we don't think it will impact us going forward, but it's something that we had to deal with this quarter.

No, I get it. I didn't realize it was that far ago, or how long ago. I thought it would have been near, but I get what happens. Then just a second thing, just to talk a little bit about profitability, and I want to make sure that Tim to clarify your statement. So that if I understand, you are saying that, given incremental R&D and the other initiatives to grow the business and given where you are in the midpoint in guidance, you are saying that operating income would essentially be break-even. Is that a fair interpretation?

I think it's fair. If we are able to complete all of the investments that we currently think would drive the kind of ROI that we are pursuing, Howard, there is obviously -- we have still got six months left to go on the operating side of the business, and we are closely managing and gating those investments. Both in terms of against internal performance progress as well as externally in the regards to the response that customers have to our ongoing engagement and market development.

I think an additional internal area of consideration is the fact that many of the resources that we apply to these incremental investments that we are making compete with requirements for investment in our core business as well as growing customer-funded research and development.

So we are bringing on additional staff to address these requirements. We are increasing the amount of work share that we allocate to partners and to trusted outsourced suppliers, which allows us to flex that capacity more rapidly. But it does --- all of those factors will come to bear to determine how much we actually invest during the year.

So we will have a better view of this by the end of next quarter, but I don't know if that helps you at least get a better feeling for what is going into the decision-making process.

Brian Ruttenbur, CRT Capital.

Just a question along the same lines that others have been asking. R&D and SG&A expense, I understand where it was this quarter. And it sounds like, at least from your answers, is that there is going to be a ramp throughout this year, this fiscal year. And will that ramp continue into fiscal 2016? Should we -- is it going to flatten out? Decrease? Increase? Can you give me a directional?

I think our visibility at this point, Brian, is that we are primarily focused on executing these investments in fiscal 2015. No doubt, there will be some areas that will not be concluded and will roll into next year. But I think the primary focus and the primary impact at this point looks like fiscal 2015.

Is that on the R&D side or the SG&A side?

While these investments probably will be mostly in R&D, they are certainly significant elements that are in business development, bid and proposal, and in some cases some of them will even show up in overhead accounts.

Okay. Thank you very much.

Andrea James, Dougherty.

Thanks for taking my follow-ups. Because of Switchblade, you're looking for a program of record in GFY17. I think at one point way back in the day, you were looking for GFY14. So I guess my question is what does the Pentagon still need to decide to get it there? I guess in the past -- maybe in the context of -- in the past, they had to decide whether it was a UAS or a missile. Right? Then there was the whole direct trigger pull, indirect trigger pull debate. Where is it in the processes? Have they fully characterized it yet? And who is advocating for it?

I am not sure that I recall GFY14. At least my limited memory clearly goes back to at one time we were thinking it might be 2016. But nevertheless, it's the process of getting to confirming an enduring requirement and getting to a program of record and funding that program of record has always been a relatively tortuous process, and certainly more so with the -- with sequestration and recent constraints in the DoD budget.

So I think it's -- at least for me, it's not at all surprising that it might have slid out a year over the last two years. But it appears to clearly be moving along the established process. I mentioned it cleared a very significant Pentagon review just this last quarter. So I think it is perceived by -- certainly up to that level, it has been perceived as an enduring requirement and approved for the next step along the way to a program of record.

I appreciate that. Then you said in Q1, I think you said you had received $60 million in new UAS orders. Have you given that number for Q2 yet?

Our bookings for Q2? Is that what you are --?

Yes, yes.

Okay, hold on. Yes, sure, hold on a second. Bookings in Q1 was $68 million. Bookings in Q2 was $95.8 million.

Okay. And then your -- the buckets that give you the visibility into guidance, can you give us those buckets, please?

Sure, so, we have actual revenues of $105 million year to date. Of the $125 million of backlog we can execute on $123 million of it, so that's an additional $123 million. We have an additional $6 million of Q3 quarter-to-date bookings that we can execute in FY15. And then one additional item that we added this quarter was that we have some unfunded, incrementally funded contracts that we will be getting incremental bookings for that we can execute in this year of an additional $3 million. And then holding EES revenues flat relative to last year generates an additional $14 million. This adds up to $251 million, or 97% of midpoint of guidance.

Prab Gowrisankaran, Canaccord.

Thanks for taking my question. I am calling in for Bobby. One quick question on the EES segment. You have seen year-on-year growth for the first couple of quarters. If you can provide some color. What do you expect? I know your current funded backlog of 97% assumes flat EES growth, but if you can at any color to that.

I did mention in the previous comments that we see continued demand strength in both the industrial and the on-road charging infrastructure businesses. We are seeing continued quarter-over-quarter growth in the revenue from our new TurboCord product. The third product line in that segment is in electric vehicle legal test equipment. Now, that market has been soft last year, and it still looks soft this year, both domestically and internationally.

So I think we expect the bulk of our revenue for the balance of the year to come from the charging applications in both industrial and on-road vehicles.

Okay. And the follow-up question I had was in terms of the dip in gross margins you saw in the EES segment you attributed to unfavorable product mix. Is that more EV test, or do you see the margins bouncing back to the previous Q1 levels?

A couple of things to keep in mind. Remember the $2.6 million hit we took at the corporate level? That does get shoved down into the business segment, so EES picked up its share as well as UAS picked up its share. That does impact their segment gross profits.

If you adjust that out, it will look a little more favorable. But, in general, we did have a mix shift where some of our more profitable products had less revenue relative to last year.

Okay. Thanks a lot.

Howard Rubel, Jefferies.

I wanted to make sure I understood this also, Tim. Have you gotten incremental orders as a consequence of the activity in Iraq?

Well, Howard, I don't want to -- I don't have a good answer for you on that. We rarely have talked about where our customers are taking our solutions, and I try to leave that to them to talk about if they want to.

We have -- we did have, obviously, very strong bookings in the quarter. The bulk of those bookings were new orders were attributed to the applications I did talk about, which were generally the Marine WASP order and a lot of sustainment contracts and the Tern order. But we did end up with, what was it, $95 million, Jikun? So there are elements of that booking contract -- that booking portfolio that didn't get broken out, and I don't think my customers want to get me -- want me to be getting any more explicit about what they're doing with our solutions.

Maybe just -- I understand, and I appreciate that. The demand -- your receivables, DSOs, stretched a bit. And, so, my sense is there were probably some accelerated orders with pretty quick deliveries. Is that a fair way to think about how the quarter shaped up?

I think you might want to think about it as just a timing of the revenues within the quarter -- month one, month two, month three. That's probably a more -- a bigger driver of that DSO than anything else.

Thank you very much.

Thank you. That concludes our question-and-answer session for today. I would like to turn the conference back to Steve Gitlin for any closing comments.

Thank you for your attention and your interest in AeroVironment. An archived version of this call, all SEC filings and relevant Company and industry news can be found on our website www.avinc.com. We wish you a happy holiday season, and we look forward to speaking with you again following next quarter's results. Good afternoon.

Thank you. Ladies and gentlemen, thank you for your participation in today's conference. This does conclude the program, and you may now disconnect. Everyone have a good day.