AeroVironment Inc (AVAV) 2015 Q3 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the AeroVironment Inc. third-quarter FY15 earnings conference call.

(Operator Instructions)

As a reminder this conference is being recorded for replay purposes. With us from the Company is the Chairman and Chief Executive Officer, Mr. Tim Conver; Interim Chief Financial Officer, Ms. Teresa Covington; and Vice President of Investor Relations, Mr. Steven Gitlin. Now at this time, I will turn the conference over to Mr. Gitlin.

Please go ahead, sir.

Thank you, Latoya. Welcome to AeroVironment's third-quarter FY15 earnings 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 March 3, 2015. 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. Welcome to our third-quarter FY15 earnings call.

Today I'll discuss our Q3 performance and highlight some of the important progress we've made. Teresa Covington will review Q3 financials and year-to-date results. Then, I'll discuss our outlook for the balance of the fiscal year before we take your questions.

Our team continued to execute our strategy successfully and we delivered results in line with our full-year plan. Q3 revenue of $68.4 million was slightly above Q3 last year and slightly below our expectations for this year due to component parts shortages. The component issues have now been resolved for Q4 shipments.

Healthy customer-funded R&D revenue in Q3 across multiple projects reflected continued customer interest in our advanced developments. Gross profit margin of 39.5% for the quarter was in line with expectations. Total revenue of $173 million for the first nine months of the year leaves $87 million to go to achieve the midpoint of our annual revenue guidance. Our team once again extended our market leadership in our core business during Q3.

In our EES business segment, we introduced TurboDock during the quarter. This is a simpler, lower cost solution for workplace charging that we believe can expand our EV charging footprint and will help support broader EV adoption.

TurboDock leverages the unique size and dual-voltage design of our successful TurboCord residential charging solution. It adds a smartphone user interface and back office support to provide a compelling new solution for the workplace, where charging station costs, availability and access issues have slowed adoption to date.

In our UAS business segment we began shipments of new Wasp AE systems to the US Marine Corps in Q3. This is the first contract to support the Marine's new small, unmanned airplane system family requirement. We also continue to successfully demonstrate shipboard applications of Puma AE during the quarter. Broad and positive customer response continues to reinforce our expectation of significant Navy and other maritime opportunities for our solutions.

We also continued to make progress on expanding from our core small UAS business into next-generation larger UAS solutions. We're currently executing on phase two of the contract for DARPA's TERN program. The goal of this program is to develop a new class of unmanned airplane system capable of long-range and long-duration operations from naval vessels such as destroyers that lack deck space for traditional aircraft operations.

We have an innovative and practical approach to delivering this capability and are working with a team of industry leaders to develop and demonstrate our system solution. We anticipate a customer decision regarding the TERN phase three contract in our FY16.

Now, turning to our international UAS business, you may recall that in 2013 we signed a teaming agreement with Dynamatics Technologies to explore opportunities for our small UAS in the Indian market. Our persistent work together is beginning to yield positive results. We were recently selected as the first of four pathfinder projects as part of the US India Defense Technology Transfer Initiative. This is a strategic initiative supported at the highest levels of both governments.

We're working with Dynamatics, the US and the Indian governments to finalize terms on a joint development and production program in India named Cheel. Cheel is to be the next-generation, small UAS based on our small UAS-leading market technology solutions and Dynamatics cost-effective aerospace capabilities.

The Indian military is one of the world's largest and has expressed requirements for small UAS. This program's initial objective is to provide a compelling and rapidly available solution for those procurement opportunities. We will update you as we finalize details on this project and begin to move ahead.

Beyond our activities in India, we continue to see significant interest in our small UAS solutions from Allied military forces around the world. International order flow timing tends to be more difficult to predict accurately, but we expect multiple proposals to be decided on over the next few quarters.

In government FY16, DoD budget request was recently released, and we found no significant surprises. Budget identified procurement line items have averaged only 15% of our actual DoD bookings over the prior two years. Independent of the budget, it's important to note that the threat environment that drove the initial demand for both small UAS in Switchblade and then validated their compelling advantages does not seem to be abating.

Now onto this year's increased investments in three of our largest growth opportunities, tactical missile systems, Global Observer and commercial UAS solutions. The return on invested capital from adoption and success in these markets is compelling. Positioning for success in these opportunities is a key element of executing our growth strategy to build stockholder value. We are increasing these investments because lead customers in each market continue to show increased interest in adoption.

We are managing these investments with a metered and gated approach to stay closely linked to customers and adoption timing. These investments have mainly been on the income statements to date in the form of research and development and business development expense. We've made significant progress year to date, and we continue to strengthen our positions and build options for a AV's success when the adoption window opens for these transformational opportunities.

In tactical missile systems, we are investing in two key areas. First, the development of Switchblade variants to address customer interest in additional concepts of operation. Second, we are developing the capability to demonstrate the compelling solution for an Army program of record.

We're pleased to report that initial demonstrations of the first of three new Switchblade variants exceeded customer expectations, and we received follow-on customer funding early in Q4. Two additional Switchblade variant programs for different customers are progressing well and are on schedule.

We continue to optimize Switchblade for an Army LMAMS program of record that would institutionalize the enduring requirement and the volume demand for multi-year procurement and sustainment. A program of record continues to grain strong support within the US Army.

We're also making incremental investments this year Global Observer. Customers in other countries continue to express interest in Global Observer solutions, and we have developed teaming relationships to optimally address each. In Turkey we're working through our joint venture Altoy, our memorandum of understanding with Aselsan and others. Our memorandum of understanding with Lockheed Martin is focused on another opportunity set. The timing of these potential opportunities remains uncertain, but the need and the value of affordable seamless persistence is clear.

In commercial UAS, we successfully completed our first season of delivering advanced information services to BP in Alaska. We continue to work closely and collaboratively with BP to expand our services and to integrate into their regular operations. It is important to note that BP has already added pipeline inspection to the scope of our services contract for calendar year 2015. We are excited about BP's success to date and the opportunities ahead.

Our successful operations in Alaska have led to significant increase in the FAA authorized airspace for our commercial UAS light operations. As a result, we are now responding to multiple requests for proposal from new customers for our services in Alaska. We expect to expand further within and beyond Alaska this year in the oil and gas industry.

In addition to the oil and gas industry and Alaska, we continue to support and work with early adopters of small UAS for use in public safety applications. We also are evaluating broad and high-value applications in agriculture. These and other industry-specific solutions show great promise for delivering actionable information that can drive high returns on investment for adopting customers.

We were pleased to see the FAA recently released proposed rules for the small UAS operation. First, it's important to understand that these are proposed rules and that the regulations that had been governing our industry remain in effect until new rules are implemented. The public comment review period may ultimately take many months at a minimum and potentially longer.

In the meantime, we are aggressively expanding our commercial operations in Alaska, as I discussed earlier. We are also pursuing all other means for near-term options for authorized commercial UAS operations elsewhere in the United States. We believe that preserving the safety of the national airspace system is vitally important and that the FAA rules need to incorporate standards to ensure safety in UAS operations.

AV invests significant time and resources in developing, testing and validating the underlying technologies and the integrated solutions that enable our systems to operate safely. We have logged more than 1 million operating miles, and we know very well what is required for safe operations. We believe that many industries will come to depend on UAS technologies in support of their mission-critical operations and will necessarily seek safe, professional-grade solutions to do so.

Further, we will believe that the right solutions are capable of safe operation beyond line of sight in the hands of trained and qualified operators. The release of the proposed rules is a significant start to a discussion that we hope will lead to practical laws that enable the many industries, organizations and the economy to benefit from these solutions while protecting our airspace and the people and property underneath it.

We have continue to expand our research and development capacity, and we made progress in developments for tactical missile systems and commercial UAS during the quarter. However, competition for R&D resources from growing customer research and development contracts, which we record as service revenue, limited our total Q3 internal R&D to about flat quarter over quarter. We did accelerate our work to refine customer requirements, define optimal solution sets and explore accelerated market access for these emerging new opportunities. These investments are primarily reflected in our SG&A.

Our year-to-date delay in internal research and development spending has not reduced our expected total investment. Rather, it pushed that investment to the right. In the meantime, flat R&D investment quarter over quarter resulted in higher operating profit in the third quarter.

Moderate success in any of these three growth opportunities can significantly enhance stockholder value. Good success in all three will be transformational for AeroVironment.

With the overview of the quarter, now I'd like to introduce Teresa Covington, our interim CFO. Teresa joined AeroVironment in 2011 to lead finance for our EES business segment. She's been a key member of AeroVironment's senior financial team since that time, working closely with the management team on operations across the entire organization.

Teresa will now provide a financial overview. Teresa?

Thank you, Tim. Good afternoon, everyone.

AeroVironment's FY15 third-quarter results are as follows. Revenue for Q3 was $68.4 million, a decrease of $0.8 million, or 1% as compared to $69.2 million a year ago. Looking at revenue by segment, UAS revenue was $58 million, an increase of $0.5 million or 1% compared to last year. The increase was primarily due to higher customer funded R&D work of $2.9 million, partially offset with lower service revenue of $2 million and lower product deliveries of $0.4 million. EES revenue decreased $1.4 million or 12% to $10.4 million in the third quarter. This decrease was primarily due to lower product deliveries of our electric vehicle test systems.

Turning to gross margin, gross margin for the third quarter was $27 million, a decrease of $1.1 million as compared to $27.1 million in the prior year. By segment, UAS gross margin increased $0.8 million, or 4% to $24.8 million in the quarter. The increase was primarily due to favorable product mix.

As a percentage of revenue, gross margin for UAS increased from 42% to 43%. EES gross margin decreased $0.9 million or 29% to $2.2 million in the quarter, primarily due to higher manufacturing and engineering overhead support costs, lower sales and unfavorable product mix. As a percentage of revenue, EES gross margin decreased from 27% to 21%.

SG&A expense of for the third quarter was $13.3 million or 19% of revenue, compared to SG&A expense of $13.2 million or 19% of revenue in the prior year. R&D expense for the third quarter was a $8.6 million, or 13% of revenue compared to R&D investments of $5.2 million or 8% of revenue in the prior year. R&D investments increased by $3.3 million year over year.

Operating income for the third quarter was $5.1 million, or 8% of revenue compared to the prior-year operating income of a $8.6 million or 12% of revenue. Operating income was lower primarily due to higher R&D investments.

Other expense for the quarter was $0.1 million compared to the prior-year other income of $4.9 million. Other income was lower primarily due to the prior-year unrealized gain related to our CybAero convertible notes investment. The effective tax rate for the quarter was 54%, an increase from the prior year of 17%.

Net income for the quarter was $2.3 million or $0.10 per diluted share compared to net income of $11.2 million or $0.49 per diluted share in the same quarter last year. On an adjusted basis, which excludes the impact in the CybAero investment, EPS would have been $0.10 per diluted share compared to $0.34 per diluted share in the same quarter last year. We have provided an EPS reconciliation table in the press release.

Now moving quickly through our first nine months FY15 results. Revenue for the first nine months of FY15 was $172.9 million, a decrease of $5.3 million or 3% as compared to $178.2 million in the prior year. UAS revenue decreased $6.5 million or 4% to $142.3 million primarily due to decreases in service revenue of $5.5 million and customer funded R&D work of $4 million, offset by higher product deliveries of $3.1 million. EES revenue increased $1.2 million, or 4%, to $30.7 million, primarily due to increased product deliveries of our industrial fast-charge system.

Gross margin for the nine months was $58.9 million, as compared to $63.5 million in the prior year. This represents a decrease of $4.6 million, or 7%. Gross margin was impacted by a government contract accounting reserve we set up in the second quarter for prior-year incurred cost audit findings.

UAS gross margin decreased $4.9 million or 9% to $50.4 million. The decrease is primarily due to a termination settlement for our Global Observer technology demonstration contract that occurred during the first nine months of the prior year and lower service margins. As a percentage of revenue gross margin for UAS decreased from 37% to 35%.

EES gross margin increased $0.4 million, or 5%, to $8.5 million primarily due to higher sales volume. As a percentage of revenue EES gross margin remained at 28%.

SG&A expense for the nine months was $40.1 million, or 23% of revenue compared to SG&A expense of $38.7 million, or 22% of revenue in the prior year. R&D investments for the nine months were $24.2 million, or 14% of revenue compared to R&D investments of $19.3 million, or 11% of revenue in the prior year.

Operating loss for the nine months was $5.5 million or negative 3% of revenue compared to operating income or $5.5 million or 3% of revenue last year. Other income for the nine months was $0.4 million compared to the prior-year other expense of $0.4 million. Other income was higher primarily due to the prior-year expense related to the conversion feature of our CybAero convertible notes investment.

The effective tax rate for the nine months was 18% compared to the effective tax benefit rate from prior year of 12.3%. The net loss for the nine months was $4.2 million, or $0.18 loss per share compared to the net income of $5.7 million, or $0.25 per diluted share last year. On an adjusted basis, which excludes the impact of the CybAero investment, EPS would've been a $0.19 loss per share, compared to earnings of $0.28 per diluted share in the prior year.

Looking at backlog, funded backlog at the end of the quarter was $89.3 million, up $23.4 million, or 36% from April 30, 2014.

Turning to our balance sheet, cash equivalents and investments at the end of the third quarter totaled $258.1 million, up $1 million from the prior quarter. The increase in cash equivalents and investments was driven by lower working capital needs.

Turning to receivables, at the end of the third quarter our accounts receivable, including unbilled receivables, totaled $46.2 million up $8 million from the prior quarter. Total days sales outstanding was at approximately 61 days, compared to 65 days at the end of the prior quarter.

Taking a look at inventory, inventories were $48.8 million at the end of the quarter, compared to $51.8 million at the end of the prior quarter. Days in inventory were approximately 106 days compared to 134 days at the end of the prior quarter.

Turning to capital expenditures, in the third quarter we invested approximately $1.2 million, or 2% of revenue and property improvements in capital equipment. AV recognized $2.1 million of depreciation in the quarter.

Now an update to our FY15 visibility as of today, year-to-date third-quarter revenues of $173 million; third-quarter ending backlog that we can execute in FY15 of $73 million; fourth-quarter quarter-to-date bookings that we can execute in FY15 of $4 million; unfunded backlog that we expect to recognize in FY15 of $4 million, revenues needed to hold EES revenues flat relative to last year of $6 million. This puts the total FY15 revenue visibility at $260 million, or 100% of the midpoint of guidance. This implies fourth-quarter revenue of $87 billion.

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

Thanks, Teresa.

We guided on revenue and gross profit margin of this year to maintain visibility on our core business operations because planned R&D and SG&A investments could consume more operating profit. We remain on track for our FY15 annual revenue and gross profit margin guidance. We plan to significantly increase our FY15 growth opportunity investments this quarter, including a target to increase IR&D by more than 50% over Q3. Our visibility gives us confidence in our FY15 guidance of $250 million to $270 million in revenue. Strong Q3 gross profit in our Q4 outlook support our gross profit margin guidance of 34.5% to 37.5%. In Q4 the primary focus of new bookings is on building backlog for FY16 revenues.

Looking ahead, our funded backlog and our new order pipeline remains strong. Our increased investments this year are positioning us well for market opportunities that can drive significant stockholder value. We will continue to closely monitor and adjust these investments based on customer adoption behavior, timing and projected returns on invested capital.

We are actively engaged in the planning process for FY16, and we are excited about the opportunities ahead. We look forward to providing you with our views on the coming year in our Q4 earnings release.

Before we close the call and open it for Q&A, I want to recognize our employees for their hard work every day. It has extended AV's position as a market leader across our business segments and our product lines, while at the same time positioning AV for leadership in exciting new markets with compelling innovations. This team is the best in the world at what they do.

Thank you for your interest, and now we will take your questions.

Thank you.

(Operator Instructions)

The first question is from Michael Ciarmoli of KeyBanc. Your line is open.

This is actually Kevin on for Mike. Just wondering if you could give us additional color on the TERN program? Now that the first downselect is complete, what the Company is working on there to get ready for the next downselect and whether you're still expecting that to occur in the next nine months or so? I think last quarter you said give or take 12 months, where that stands now?

Sure, Kevin. TERN is a DARPA program that's intended to be a next-generation unmanned airplane system. It's a ship-based vertical takeoff and landing, medium-altitude, long-endurance platform. Five companies competed during phase one. That was downselected to two companies currently competing in phase two. We do expect phase three to be awarded during our FY16. We are working on an innovative approach that we believe represents a high value and highly reliable means of achieving the DARPA objectives. We have a broad team of industry experts collaborating with us in developing and demonstrating this system design that our team has developed. We think this puts us in a strong position for next-generation, larger UAS solutions that, as I've said before, is a priority for us.

Okay. Thanks, Tim. Then just looking at the R&D line, any color you can give us there in terms of how the mix has changed over the past quarter or so and where you see it going in 4Q as it relates to specific programs or markets?

Well, our R&D -- I think of it as being divided into three sections. We are running internally funded R&D to support our core businesses. We are investing incrementally in internally funded R&D to position ourselves for these three large, emerging markets that we see adoption activity increasing with in customers. We conduct customer-funded research and development. We've been building our R&D capacity significantly through the year. We knew we planned on incrementally increasing the investments for these growth opportunities. That capacity growth is both in terms of internal resources and developing additional external relationships that can execute R&D in conjunction with us.

During Q3, we had a significant increase in customer-funded research and development activities. That competes directly with the same resources that we applied to our internal projects, and so the balance of R&D that was allocated to the core business and R&D that was allocated to our growth opportunities accounted for a flat, internally funded R&D quarter over quarter.

We expect to significantly increase our R&D in Q4. Our target, as I mentioned in my call, is to increase internally funded R&D by over 50%. This is still a delicate dance between allocation of scarce resources to multiple high-priority activities, but we think we are getting our capacity where we need it. We are moving ahead with that intent.

Thank you. The next question is from Tyler Hojo of Sidoti & Company. Your line is open.

Yes, hi. Thanks for taking the question. The first one, just on, Tim, you mentioned multiple RFPs coming in, just similar to what you are doing with BP in Alaska. I was hoping that maybe you could just talk about the size of this near-term opportunity and also what the competitive dynamic looks like? How many people do you think offer a similar offering or maybe just generally competing for the same work you are?

Let me maybe address the competitive issue first, Tyler, and then try to talk about the size of the operations. When BP put out RFPs for the services that they were interested in previously, they had multiple responses from many different types of organizations, including multiple UAV suppliers. In the final analysis, we were selected for all of the services exclusively. I think that goes to -- that says a lot about a sophisticated organization doing an informed analysis of available capabilities and matching them to the needs of the organization.

We continue to see multiple other companies, primarily companies with quadcopter capability in the commercial space. They are clearly great fun to fly. They produce wonderful video. They are carrying an increasing number of other payloads. But I think we find that large enterprises that are looking at integrating this capability into the core part of their operations are looking for reliable, safe, professional solutions that can operate not just when it's a pleasant day outside but when their operations require it. As a result, we have been extremely successful in competing in those environments.

As to the size of the operation, the number of opportunities are growing dramatically. Dramatically, we started with one customer in Alaska. They are growing by quite a bit based on the success in the first year. I still don't expect that to transition into meaningful revenue contributions yet this year.

We're still -- in each one of these new organizations, we will be working with them for the first time as they evaluate how they integrate this capability into their operation. As I mentioned in my call earlier, BP is moving forward to add new services and to overtly move to integrate these services into regular operations. I think that's very positive, and it supports our view that there is significant economic return for customers that adopt this capability.

Okay, great. Thanks, Tim. Just a second question, if I may? Just on the R&D line of questioning earlier, could you maybe just talk a little bit about how early on or where you think you are in this development spending curve? Is it early? Should we expect elevated levels to persist for some time? Just some general comments there would be helpful.

If you recall when we initiated our plan for FY15 and announced our intent to make significant investments in R&D and in SG&A to position ourselves for these three emerging markets, the majority of our investments was anticipated to be in research and development for the new solutions optimized for these applications. That is turning out to be the case. Most of our investments are in R&D and a lesser amount in SG&A.

We are behind our plan, year to date, in our R&D investments. We are trying to play catch-up in Q4. To the extent that we don't complete all of the R&D investments that we had planned for FY15 and they continue as they look right now, they continue to look like they are necessary and appropriate for optimally positioning for these opportunities. Then we will probably move that incremental amount into the first part of 2016.

Beyond what we had planned for 2015, I think the situation will remain open for analysis and reaction to what customers decide to do and what the timing of adoption looks like as it evolves. It's a constantly moving target. When and if we see the acceleration of adoption that would call for increased investment to maximize the stockholder returns that we can get from capturing a market position there, we'll clearly look seriously at that. That will be sometime in 2016. We may or may not know anymore, as we talk about our plan for 2016, when we present that to you next call.

Thank you. The next question is from Josephine Millward of Benchmark Company.

Hi, Tim.

Hello, Josephine.

Tim, given the limited visibility you have from the FY16 budget requests, what do you see as the biggest drivers for AV in the coming year? Is it international? Is it a Switchblade? Do you expect the DoD to continue to upgrade their small UAS fleet?

I think the answer to all three of those questions will be yes, Josephine. Our pipeline and our activities in international business development indicate strong and growing demand. As I mentioned in my comments, the timing of contract processing for international orders is a little more difficult to be accurate about. Clearly, the pipeline is there, and we think that will continue to grow.

Interest and demand for Switchblade is increasing. We have obvious constraints in the budget, and it's a new program that needs to get adjudicated across theaters. I think the demand for Switchblade itself, the strong interest in the variants that we are developing for Switchblade and the growing support within the Army for a program of record for LMAMS are all positive indicators for future demand.

As to the small UAS that you mentioned, I think the sustainment activities are likely to continue. There are other programs that appear to be driving upgrade demands in small UAS across DoD. And we have the new CPDs in both the Army and the Marine Corps for the family of small UAS that we think -- although we don't know the specific timing of that, we expect to continue to see that to generating demand for Puma AE, Wasp AE and others in the future.

Tim, a follow-up on that. Can you expand on this US-India Technology Transfer Initiative? It seems like the Indian papers are talking about joint production of the Raven, perhaps later this year, and a multi-billion-dollar pipeline. Can you give us a little more on that?

Yes, I will mostly reiterate the comments I made during my previous comments. If that isn't adequate then I will follow up later. This is a strategic initiative between the governments of the United States and India that's a joint defense technology transfer agreement. This project for small UAS is the first pathfinder project along the way of what is anticipated to be a broad and growing defense technology agreement.

The initial intent of this project is for AeroVironment and our partner Dynamatics that we signed an MOU with in 2013 for this for the purpose of pursuing small UAS in India and for the two companies to do a joint development and production program of a next-generation, small, unmanned airplane system. We are applying all of our technology and know-how to this program and Dynamatics will apply their technology, their know-how, and their extensive aerospace manufacturing capability within India as we jointly develop this and then produce this in India. The initial intent of that production capability of this new design will be to address what we believe is a large demand within the Indian government.

There is, I believe, something like 550 brigades in the Indian Army, which is one of the largest in the world, plus other police requirements, so the potential requirement is quite large. The interest at the highest levels of the government seems to be real and on point. So we are in the process now of working with Dynamatics, with the US government, and with the Indian government to finalize the terms of how we would structure this agreement and how we would move forward. As we get that finalized and begin actually moving, then we will report more to you.

Thank you. The next question is from Troy Jensen of Piper. Your line is open.

Thanks for taking my question. Tim, just to put some numbers behind this R&D comment, so $8.6 million in the January quarter should go to $13 million? That's assuming there's no externally funded R&D to offset that?

That's our target. You could hopefully hear me hedging that a little bit. That's what we want to do. That's what we're planning on doing, and we have ongoing competition with our customer-funded R&D to accomplish it with the same resources. That looks like an achievable plan at this early point in the quarter.

Okay. Understood. Then on the R&D spend, are you guys doing any development in data analytics outside of capturing the video just to process and interpret what the camera is seeing?

Excuse me, I missed the first part of the question, Troy. Could you try that again?

Just on the R&D spending, is any of it going towards data analytics?

Oh, yes. Yes, in terms of the R&D that's being applied towards our growth opportunities, it includes UAV platforms, payloads, and the data analytics associated with much of the actionable intelligence intent of our commercial solution.

All right. Understood. Last question and I'll cede the floor. With the proposed rules for UAVs, just curious to know if you think that the line of sight is going to be any type of constraints to growth here?

Well, to the extent that the existing constraint on line of sight stays in place, it does clearly limit the potential benefit that customers can achieve from these solutions. As I mentioned in my comments, we believe that a properly defined solution with properly trained and certified operators can safely operate beyond line of sight. I think there is probably room for ongoing discussion with this.

Clearly, the FAA's intent is safety in the national airspace. There are huge potential economic benefits to optimizing these solutions. We will continue to work with the FAA and with our providing optimized design solutions to maximize safety in that environment.

Thank you. The next question is from Greg Konrad of Jefferies. Your line is open.

Good evening. Just wanted to go back to commercial UAVs. It seems like you are making some progress with BP, and you mentioned that you had a bunch of other RFPs out there. Obviously, without blanket rules in place, you have some flexibility to go after commercial business. When these rules finally do get in place, what are the biggest markets that open up after, versus some of the things you can do on a one-off basis today?

We've been focusing, as we've described, primarily on large industrial markets that by nature are global. Oil and gas, for example. Agriculture, for example. Both of those appear, at this point, to offer very large global opportunities. In both cases the use of unmanned aircraft to capture digital data, process that data to generate concise, actionable information that significantly improves the safety and the economics of the operation of the enterprise, and as a result delivers significant return on investment.

To the extent that that continues to be validated as we roll out these solutions with those and other industries like that, then these large projections of economic activity associated with commercial UAS seem quite plausible to me.

Then just to go back to electric vehicle charging. Have you seen any impact in the business from gas prices? I know they've obviously been fairly volatile. Then just the follow-up to that, over the past three years you've announced a number of preferred relationships with different models of electric vehicle. What type of take rate are you seeing on that to help us correlate sales of these vehicles with AV products?

We've had quite a difficulty in getting an accurate tie with EV sales and our attach rate, because the mechanism for selling the chargers is not directly with the car, but consumers make their decision for charging infrastructure independent and they make it in -- with not necessarily in the same timeframe. I don't have an accurate answer for our attach rate with you.

We have clearly seen a decline in the last couple of months in the sale of plug-in electric vehicles. It's very early, and it's hard to determine what the correlation is with the price of gasoline, but one would suspect that higher gas prices would motivate higher EV sales. I think it will be a few more months, at the minimum, before anyone makes an informed correlation decision there.

(Operator Instructions)

The next question is from Michael Ciarmoli of KeyBanc. Your line is open.

Good evening, again. Kevin. Just a quick follow-up. Tim, just wondering what drove the increase in customer funded R&D in the quarter? It seems like it was unexpected and I'm just wondering what drove that?

I don't think it was necessarily unexpected, Kevin, but there are multiple projects being funded by customers, most of which I will leave for the customers to announce. The nature of customer-funded R&D often can be sensitive, competitive information, although the largest piece of that is the TERN program.

Okay. Great. Thanks. That's all I have.

Thank you. The next question is from Joe De Nardi of Stifel. Your line is open.

Good evening. Tim, I'm wondering if you could talk about, given some of the issues or maybe the headwinds you are having with the EES business, does that business still make sense to have within AeroVironment? What are some the synergies that flow through to the UAV business? Do you see that as an impediment to a potential acquirer, not necessarily wanting the EES business?

Joe, we've got three product lines within EES. We have a leading market share position in each of those. Currently, the EV test product line is in decline. That's a poststimulus environment of overcapacity generated by the stimulus, and it hasn't really grown back yet. The electric vehicle industrial charging market is actually a growth opportunity. Electric forklifts and other early vehicles are continuing to gain share over IC engines.

We do have a strong position in North America in charging infrastructure for plug-in electric vehicles. That's not yet a significant revenue generator, but it has the potential to be very significant if and when the adoption rate of plug-in vehicles reaches even single-digit penetration in the overall car market. We don't expect that's likely to happen within the next few years, or we do expect it will happen maybe within 3 to 5 years.

Overall, we have, we think, given the strong position we have and the potential growth in those markets, it's a good option to have in the enterprise. There is a lot of synergy in the underlying technology. Both businesses are essentially focused on electric vehicles, and much of the core technology in electric vehicles resides in our EES system. We leverage the same kind of production and program management and strategic practices and systems across both.

In general, the owning and managing the EES segment has not been a diversion from the other growth opportunities in the UAS system. We've always felt that if and when that happens, then we would reassess this.

Okay. Thanks, Tim.

Thank you. There are no further questions at this time. I will turn the call back for closing remarks.

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Thank you. Ladies and gentlemen, this concludes today's conference. You may now disconnect. Good day.