Bsquare Corp (BSQR) 2002 Q2 法說會逐字稿

I will be your conference facilitator today. At this time, I would like to welcome to the BSQUARE second quarter 2002, earnings release conference call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question and answer period. If you would like to ask a question during this time, simply press star, then the number one on your telephone keypad. If you would like to withdraw your question, press the pounds key. Thank you. I would now like to turn the call over to Mr. James Ladd, Chief Financial Officer and Vice President of Operations. Please go ahead, sir.

Good afternoon, and thank you for participating in our second quarter conference call. I am James Ladd, CFO of BSQUARE, and today's' call will be divided in to two sections. First, I will provide a financial overview for the quarter ended June 30th, 2002, and Bill Baxter, our President and CEO will briefly address developments since March 31st and provide a business and financial outlook. We will then open up the call for questions. First, let me start with the necessary safe harbor statement. Except for historical statements and information contained here in matters discussed in this call including the revenue and net income expectations are forward-looking statements that involve risk and uncertainties. Factors that could cause actual results to differ materially include, but are not limited to adverse changes in BSQUARE's relationship with Microsoft, a decline in the market for Windows based smart devices or the failure of such market to develop as anticipated, adverse changes in macro-economic condition, delays or announcements of delays by Microsoft of product releases, the failure of these products in fact, microprocessor vendors into secured contract on sufficiently profitable terms.

Factors that may affect these possibilities to complete all types of contract, competition, and intellectual property risks. The more detailed description of risk factors that could affect actual results include, but are not limited to those discussed in BSQUARE's annual report and form 10K for the year ended December 31, 2001 in the section entitled risk factors, and those discussed in BSQUARE's subsequent quarterly filings on form 10Q with section entitled factors that may affect Q2 results. Listeners are cautioned not to place undue reliance on these forward-looking statements, which speak only after the date of this conference call. BSQUARE undertakes no obligation to update publicly any forward-looking statements to reflect new information, events, or circumstances after the date of this call, which reflects the occurrence of unanticipated events. Revenues were 9.5 million dollars for the second quarter up from 8.7 million dollars in the prior quarter due to additional sales of Microsoft licenses.

These results continued to reflect the difficult business conditions of our marketplace and they reflected our customers and prospects in the semiconductor, carrier, and manufacturing industries. On a positive note and in line with long-term strategy, product sales for the quarters were 63 percent over the first quarter of 2002 to 4.4 million dollars with 46 percent of total revenues well above our target range of 20-25 percent of total revenue. Over 75 percent of product revenue in the quarter related to distribution of third-party products. The increase in total product revenue was encouraging, while much of it came from more margin third party product licensing, the Microsoft licensing customers we recorded this quarter represent a significant potential market opportunity for additional BSQUARE products and services.

Going forward, we expect these fair product sales to continue to increase in dollar value as we introduce new products to the market and as our current products gave increasing visibility and acceptance with the near histories, we sorted and . Recurring revenue from distribution of third-party products were 355 percent in the first six months of 2002 compared to the same period in 2001. This tremendous growth is primary the result of a 342 percent increase in Microsoft licensing and a 668 percent increase with JEM-CE license service. This first success of 2002 where all the revenue grew 42 percent compared to the same period in 2001 and it was notably comprised of SmartBuild and CE XScale.

During the quarter, we saw a full diversification by revenue by customer. As expected, revenues for Microsoft declined to 19 percent of total revenues compared to 25 percent in Q1 of 2002. Revenue from semiconductor business amounted to 15 percent of total revenue and OEM revenue decreased to 65 percent of total revenue, down slightly from 68 percent in Q1, 2002. The 68 percent from OEMs, 20 percent of it was for professional engineering services, 14 percent of it were tools, and 21 percent, which were applications. Moving down the income statement, gross profit for the quarter was 1.8 million or 19 percent of revenue compared to 3.3 million or 38 percent of revenue in the first quarter of 2002.

The total reflects role for other gross profits as a result of the higher percentage of low margin Microsoft licensing revenue and their product mix due to. in margins and service revenue as a result of reduced for services to Microsoft and excess capacity at our professional engineering services department for the quarter. In the current quarter, management made a strategic decision to reduce company wide headcount by 30 percent over the last three months.

This decision is necessitated by the continued weak demand for technology services. In connection of these charges we will report a third quarter restructuring charge in the range of five to six million dollars for severance and other costs associated with the headcount reduction as well as for the cost of excess facilities under noncounselable leases. Looking forward, we expect to annual savings of 13 to 15 million dollars from these cost reduction measures.

R&D expenses for the quarter were five million dollars or 53 percent of total revenue. Prior to and during the second quarter, we invested heavily in a few initiatives for our long-term growth. While we believe it is vitally important to maintain our lead in technology products and services, we cannot continue to invest in new product areas at recent levels. For the second quarter of 2002, we recorded a net loss of 35 cents per diluted share including a charge of six cents per share for taxes related to an adjustment of our deferred tax accruals compared to a net loss of 26 cents per diluted share in the prior quarter.

On a cash basis, we reported a loss of 28 cents per diluted share including a charge of six cents for taxes compared to a cash base loss of 14 cents per diluted share in the prior quarter. A reconciliation of diluted earnings per share to diluted cash basis net loss per share is contained in our press release. Now I will touch on 2 key sections of our balance sheet. Our cash, cash equivalents, and short-term investment balance with 53.5 million at June 30th, 2002 compared to 58.2 million at March 31,2002 reflecting a cash rate of 4.7 million. We expect our cash rate from operations to be in the range of eight to nine million for the third quarter not including one-time structuring charges.

Accounts receivable at June 30th, 2002 totaled eight million dollars, a 20 percent decrease from 9.9 million in March 31st, 2002. As we look out over the next the next two quarters, our biggest challenge is clearly to reverse the trend in declining gross margin while continuing to grow our top line revenue by developing new products and services. At the same time, we will continue to focus on reducing operating expenses and maintaining the strength of our balance sheet. We expected that the factors that contributed to the declining revenue throughout 2001 and the beginning of 2002 will continue to put pressure on sales in the near term. We have set a target range of 8.5 million to 10 million in revenue for the third quarter with a cash base loss of 19 cents to 24 cents per share. I will now turn the call over to Bill Baxter, President and CEO who will comment on recent operational changes and core strategic initiatives.

Thanks Jim. The increase in product revenue to 46% of total sales was a notable achievement during the quarter. The addition of new customers to our customer base has expanded our market channel and created new opportunities to sell additional products and services. Equally important, it has reduced the reliance on service revenue under our Microsoft Master Agreement. We have recently renegotiated that agreement with Microsoft and while we anticipated that our tools revenue under the agreement would decline further during the next 12 months.

We also expect that other engineering engagements within Microsoft may offset that decrease. Nevertheless, we believe we can leverage that technology expertise and leading market position to expand our market share and generate revenue from other sources. To accomplish that we are continuing to align our organization and resources to support key growth initiatives. The specific steps include, first, implement the strategic company-wide restructuring of our sales, general, and administrative in its engineering organization. Second, focus on major small devised markets, using three major BSQUARE product initiatives.

The third is the smart device solution suite. Last quarter we introduced BSQUARE to complete the solution to Windows CE based smart devices including system and software applications with remote management capability. This offering is available now and is currently being used by over half a dozen customers in market segment. More over all selected the smart box solutions to develop software components to a new hand held covered touch screen tablets. The more or like EBR 84 line enhanced TV viewer reconnect any cable modem to enrich the television viewing experience. As one ( Microsoft Windows CE net devices under development, the EBR 84 line enhanced TV viewer as a post of for SmartBuild demonstrate the capability of our products to help original equipment manufacturers short in product development cycle.

Our customers need to confess their development time scale in our fielding and increasing number of new products for years. The BSQUARE SmartBuild solutions can reduce the risk, reduce the developing cost and put them in a position to be in the market place thereafter pursuing the revenue growth. A second product initiative is modem device management services, which provides a suite of hosted remote management services first smart devices. These will focus on providing manufacturers and service providers with end-to-end solutions for management services enabling easy to use, maintenance free and user experiences. It is important to understand that even the largest and the more capable enterprise organized vendor do not have the solution capable delivering scalable carrier grade device management and even the most carrier-centric Software management vendors do not provide solutions to carriers and wireless OEM device management needs.

At the core, BSQUARE's mobile device management service capability is our ability to support the entire Software stack not just the application layer. This provides not only the ability to reflect faulty software remotely, thereby preventing the very expensive device recall that the wireless carriers worry about but also allows us to provide much better data security, backup and simplified device provisioning. We are experiencing real interest from manufacturers and wireless carriers. Expected detailed announcement about this services in the second half of the year. Our third initiative target for wireless market. BSQUARE has invested in wireless product that incorporates key technologies from our SmartBuild product lines to support GSF's GPRF wireless network as well as leveraging nearly all of BSQUARE service capabilities into a fully integrated reference platform. BSQUARE's wireless solution built directly and logically offers our first SmartDevice development expertise.

As more and more SmartDevices become wirelessly enabled, customers are to easily provision support and manage theses increasingly complex devices and their related services. As the company that understands how these devices work better than anyone else, we feel BSQUARE is in a unique position to assist and solving these challenges. We will announce more specific information about this reference platform in the third quarter. Finally we will focus our geographic regions where we have critical mass. In the second quarter we closed our Munich, Germany office and we have not focused heavily on Latin America. On the other hand, we believe we will continue to have strong growth opportunities in Asia, especially South East Asia and we plan to continue to invest in our new office in Taiwan, opened in the second quarter as the cost profile are beneficial and we can take advantage of our already strong presence and the massive presence of original device and original equipment manufacturers in this areas. We believe these steps will help to drive sales growth, build our customer base and increase the dollar value and market ability of our customer engagement.

At the same time our focus on cost control and operational discipline, hopefully coupled with macro economic improvements, will allow to return to revenue growth and profitability. In addition to the steps that I just mentioned we will continue to build strategic relationship with existing and prospective channel partners and develop third party relationships to deploy our product and services across multiple market segment. As we continue to reduce our our dependence on Microsoft, it is important that we fortify our current customer relationship and build new one. As we look out over the next year, we are encouraged by several factors that we believe will help drive our growth and we will return to profitability.

As Jim mentioned, product revenue has increased in dollars and in percentage, but most of the advantage phase was a result of sales of third party products. Our view over the next several quarters is to continue to grow product revenue in absolute dollars and to increase the percentage of these core product sales relative to third-party product sales. BSQUARE customer base grew in the second quarter and we had new design wins for many repeat customers. During 2002, we will continue our focus on developing new accounts and winning product projects within our existing customer base. We are committed to enhancing our senior management team and building our Board of Directors. As usually discussed, we have formed a new decade of team and have made tremendous progress in many respects over the last quarter. This new management turnout as specific expertise in professional services' management, technology products division, and wireless application and services.

This is especially important because the smart and convertive devices becomes increasing in network where there is a deep device hardware/software expertise combined with knowledge of the wireless networks and the services needs of wireless carriers create a strong team for reading these graphs and our customers in dissolving the challenges of network smart devices. I spent last week traveling with Jeff Senior VP as marketing and , VP of Product Development visiting industry analyst at Goldman, IDC, Albany, , VDC, and the Asia Group to name just a few. We were speaking to the wireless and smart mobile device analysts about BSQUARE and its traction in our foreign market.

We introduced them to the value of smart phone, the differentiate value of both the right management services and the end-to-end capabilities of our wireless solutions suite into our first platform. The result was very encouraging. They recognized that BSQUARE has a swing along the course of where the market is and sort it that they believe that the wireless market is moving to us. A number of them expressed that they believe BSQUARE is showing real top leadership. One analyst said, `I was pleased with our meeting. BSQUARE intends to operate behind the scenes due to the nature of its business. Most likely you will be a brand OEM that gets most of the .

It is important for us understand where this kind of stuff is coming from and you guys did a great job of expanding that.` Another said, ` as you have indicated in your case studies, Smart phone makes sense for OEM, faster types of market at lower cost. It is logical. OEMs can crank out a device using small cells and manage it with your mobile device manager service. It is a compelling story. In closing, as we drive our strategic initiatives over the next two quarters; we will continue to adjust our business model, to the demand of changing business condition.

In addition, I am dedicated to strengthening our management team with talented and experienced people who share the commitment to deliver superior shareholder value to the exercise of concentrated product marketing and sales effort, and disciplined financial management. As a team, our goals are to excel in every aspect of our business, to exceed the expectations of our customers, and to return BSQUARE to profitability in revenue growth. Now we would be pleased to turn the call over to to facilitate your questions.

At this time, I would like to remind everyone, in order to ask a question, please press star then the number one on your telephone keypad. We will pause for just a moment to compile the Q&A roster. The first question comes from Jeff Macey of Needham & Company.

range of $4.7 million.

Okay. And, I was wondering if you could comment a little bit...

What would you say if cash flow breakeven revenue levels right now given the mix of business that you would anticipate?

You mean at the end of second quarter?

No, looking at the third quarter and forth quarter. You have to have some target of revenue levels that are coming in the door. What revenue levels would be required at any period in the future, to be at cash flow breakeven? And then, I think I really want to question and I know difficult to answer but, we all want to know when cash even breakeven levels will be achieved whether some cuts for revenue growth. I have got some questions our surrounding here, so may be this can be clarify the people.

The answer to your question is that depends on your product mix. As we picked up a lot of new revenue in this quarter resulting from the employing of one of our competitors and the customers coming at BSQUARE. You also saw decline in the gross margin. So answering that question from the revenue picture is all that I can answer your question and I think your question requires a little more visibility than we have right now in the business and I can't give you a very specific answer in that regard. Just to say that we divide these cut backs to get plenty of time to get our new product into the markets. We are actually here waiting for the economy to recover building the business. or else in the event that the economy doesn't recover to give us time to make further adjustment on the expenditure side. We believe the CAPEX will improve in their level and rather deep to give us that time and make the company on based on position.

May be we can just go by this over line item by line item. We saw almost 10 percentages sequential growth in the revenue side and our gross margins went from thirty-seven and half percent to nineteen percent. Could you kind of break out the delta there in the declining gross margins? The Microsoft revenues only off like eighteen percent sequentially, so I am sure what to exhibit to that in that gross decline. And then as a follow on, could you help us understand little greater detail R&D went from 4.2 million to 5 and SG&A in this environment went from 4.6 to 5.3 I guess that second number really surprises me. Can you give little more color?

It was within our budget. It looks like an increase but actually doesn't due to substantial changes in head counts. It is due to some legal some surveillance payment that included during the quarter end. It was not due to the increase in head count is not that with the subsequent program that we made, customer head count there. Just going back to the revenue number, there are two big factors. There was a big increase in revenues as we announced related to the sale of 245 particularly the Microsoft licensing which has delivered a gross margin product in the range of 15 may be a 15%. So the large amount of those sales closed . The new edition may be more importantly as I mentioned in my prepared comments the services group experienced the lower rates because of the economic conditions as well as the under-utilization of the resources in that department which showed gross margin in that department down. So those two things combined to bring the rate down. And that's what is we have to take to get breakeven it depends on the mix of things. Certainly addressing the utilization and efficiency of the operations in the services department and product sales and mix within product sales between third party products and own products will determine up the gross margin in the future.

How would you characterize between those two issues, that you just described lowered margin product on third party and the engineering services. Which one contributed to the reduction from 37.5% to 19% giving a rough idea how that contributed to the degradation?

If we look at services in the terms of 6 million to 5 million and so they are often moved in and the gross margin you know obviously we went from 3.3 to 1.8 I am still little confused I am sure that I am confused others there are confused. So may give us more give us little bit more detail on what we are doing in engineering services to help rectify that cost obviously we just cut had that and not to get the gross margin back into reasonable level in that business or do we not we just have to begin given the economy as weaker than you anticipated or what?

Well, going into the third quarter, we had relatively strong bookings to professional engineering services but still not sufficient to sustain the fixed overhead.

Good afternoon. First a couple of bookkeeping questions. You have the CAPEX, the depreciation, the headcounts, and the cash flow from operations for the quarter.

I mean, could you repeat again Jeff, the three things?

CAPEX, depreciation, headcount, and then the total cash flow from operations.

Yes. Capital expenditures.

As of June 30, our headcount, we will start with the headcount, that is right at hand here. As of June 30th, we had a total of 389 people. I can give you a breakdown if you would like.

Yes.

Okay. 184 of them were in Engineering, 120 in research and development, 51 in sales and marketing, 50 in general and administrative, and for the quarter, our depreciation expense was 2.5 year to date, six months, excuse me. Six months, first half of the year, depreciation was $2.5 million. Their capital expenditures were $1.6 million.

That was the year to date?

Yes.

And then what was the cash flow from operation?

I wonder, if you could comment a little bit about the progress on some of the telematics area?

Yeah. This telematic state underwent some very painful situation from the second quarter, which you will probably know about. , which was closed down as a result of foreign backing out on the investment. But in the quarter, we earned customer engagements with the top manufacturer in North America. We also continued work with an existing customer in Japan and our products continued to be deployed and as well as invested as customer's products. So, we clearly enjoy rights than the automotive line in Europe and rather there were rollouts and the rollouts were slower than anticipated.

And, that the product for Motorola now about when does that expected to come to market actually?

The legal letter of the bid to Motorola this quarter and we are going to try else with the carrier this year within the quarter we anticipate and the trials result in some volume of devices being deployed and then based on the trials, they would have real product roll outs shortly after that, but the product itself is that the production quality on the hardware right now is subject to the trials we may make software changes.

Are there any market projections for this product yet?

Well, I mean with Motorola had 75% in the North American market share for set-top boxes and their models for distributing this product is very similar to that while they distribute their set-top boxes, which is leased through carrier or through the MSOs, much familiar with set-top box. They are optimistic that they can get it into the carriers, but they don't have good idea what end-consumer demand will be. I think that's any one's guess.

Okay, and on the savings of 13-15m savings, should we see, expect to see that forward even by the fourth quarter then.

That is on annual savings.

But I don't know annual but.

Yes it will. There will be a smaller scale of excess cost going into the fourth quarter, but the bulk of that rate will begin to appear in the first quarter.

Okay. Great, thanks a lot.

Thanks Jeff.

Our next question comes from Larry linden of Second line capital management.

Good afternoon.

Good afternoon to you.

I will follow up on my last question. So, we are going to be burning eight to nine million dollars in the third quarter and then on a steady state basis, the burn would be maybe five or six million in the fourth quarter?

We are not projecting. We are not announcing that for the fourth quarter today. But, our rate of expenses will decline. So, based on that assumption, I guess if you are logical to think that the burn rate will decline. It depends on other factors as well.

Qualitatively, do you have any visibility at this juncture into the fourth quarter and into 2003? What are the variables that you are looking at, if there are any? Is there any reason to believe the fourth quarter is better than the third quarter or worse than the third quarter?

Qualitatively, we have some visibility into the fourth quarter. It's not what it used to be a year ago. We don't have any reason to believe that will be down from the third quarter. And, we do believe our cash burn will be as a result of the changes in operation.

Quantitatively, though, we are looking at after the burn, after the charge, you have about $40 million in cash and then if you get to a steady state, you could be burning $5 million or so a quarter. So, if you get the burn down to the point where you can last over a year?

Well, that's our goal. Well over a year.

You talked about additions to management team at this juncture. What positions or type of people, if any, are you looking to add to the team? What don't you have now?

Well, we've completed hiring all the critical positions we need on the executive management team. At this time, we added Senior Vice President in marketing as well as a new Vice President of product development in the second quarter and then we added James Ladd, Vice President of operations and chief financial officer. So, during the reduction in force, there was a kind of position change in executive management, where we released an executive from the corporation that were no longer viable for the corporation given where we are today.

From the outside, you are not alone, but the outlook looks kind of scary. I don't know if from the inside, things look brighter in some way. Do you feel that's clear that your company should be independent or is there any basis for finding a partner? A logical consolidation in the industry to create something that is more rational from an industry's standpoint.

I believe the combination of the new product we have coming around in the market branches as well as the cutbacks we have made internally to reduce our burn. We live in a good position. I don't ...

Good position what ever as you could hear after if obviously, we don't see this as a great environment right now but we believe we can exist our own and that will return to the profitability.

Given the way the economy continues to move in, I guess if historical assumption that may be moving into second layer of the recession and business remains weak for another six or nine months. Is there any way to believe that you in that environment that you can get the profitability. Right?

We made our CAPEX so that we would leave ourself plenty of time to exist even with a non-improving economy.

I don't want to go beyond this, but this point is the CAPEX was making a kind of taking us to 5 million dollar per quarter which is lot.

So, that is your number but that would deal a lot.

So that's not your number because you have assumed a nice pick up in revenues.

I would not be happy with that number, whether there is pick up in revenue or a decline in expenses.

The intention of this cut is to get the company to breakeven or somewhat close to breakeven? Is that the intention of the cut?

Yeah. We cannot get the breakeven.

Our next question comes from David Duley of Wells Fargo Securities.

They don't contribute to the reduction as I mentioned. The professional engineering services contributed more to the reduction in that they have the higher rate before and the lower rate after licenses is new revenue that came in, new revenue we earned at 15% gross margin rate. So if we pull the average down, but it doesn't change as the volume would affect the overall average.

Not sufficient to sustain the fixed overhead that we had in place to service that and that's what precipitated the cutbacks. So as a result of the cut backs, we do believe that the growth margins in definitely from the second quarter gross margins. The wild card is, because we have gotten so strong in the licensing business of Microsoft licensing, what does that going to contribute to the gross margins as we look forward. From my perspective, the acquisition of those customers is vital for us to cross sell and up sell additional products into them. So, when you look at the aggregate relationship with the customer, Microsoft product licensing and our own products, we believe that the gross margins in those engagements will in aggregate increase over time as well. So, while, you know, it seems like a negative in the short term that it drags the gross margins down; it is a positive in the long run.

Okay. Very well. That's it from me right now.

Your next question comes from Henry Hooper of Islandburg Investments.

Gentlemen. Hi, good afternoon. I have a question also on the people side of things. And, if you could give me an idea of how the composition of your board is currently in what it appears to be in terms of the next few months, next few quarters?

Okay. Right now we have three outside directors, Scot Land, Jeffrey Chambers and William Larson and one inside director, myself. We are vigorously now recruiting at least two more directors, outside directors to the corporation. We hope that within one quarter of time, we have achieve one additional board member and then hopefully beyond that, we will be able to achieve two new board members and, you know, my goal is within the year.

This year.

Within this year.

And obviously, when you get that support, you are going to be looking for certain skills sets. What are some things that you things that you would like to have on the board?

Well, we talked about really three critical areas for these growths. One is in the markets we serve, in particular, with respect to wireless OEMs and carriers. Someone with deep expertise in that area would be very valuable to the corporation. The second area is in sales. Someone who has a strong background in scaling efficient sales forces and how to structure sales forces and then the third is in marketing. Someone who understands how to market to the types of customers we have. So, we are looking for someone not necessarily strategic in the sense that we are looking for a customer to join the board, because that could hurt business with other customers. But someone very familiar and has deep expertise in our type of business, who has specifically in the wireless business.

Got it. Good luck in those searches. I know that people are steering clear of boards these days but it is needed more and more just for their overall governance and the rest of the stockholders stock protections.

Still includes what's your state for more and more describe overall covenants for the rest of the stockholders protections. Quick two - kind of more housekeeping. DSOs Jim, can you give us a sense of whether they, it looks like they are, pretty high? I see them about 75 days?

Actually our calculation is certainly higher than that. It is misleading statistic, I think Henry and this case is I mentioned total receivable balance went down from 9.9 million to eight million during this quarter and revenue was going up, so its seems so logical. When the surface shifts into it, you would expect the DSOs to go down. That depends, you know, on the period of time that which you measure the DSOs and if we do it over six months, we get in actually 82.95 percentage, I believe which is such as misleading.

What would a normative DSO be?

Good question. I don't know the answer to that.

Sort of be normal?

Yeah, normal.

We were here to get the 60 days DSOs, but in the quarter we took a very long receivable off the books finally and we substituted that with shorter-term with feasible but we certainly need the 12-month trailing average to do a DSO calculation. The impact was that they didn't improve it but if you look at the three-month average done, we get to down to around 75 days and that is a remarkable improvement over where we have been at.

Right. I noticed that, but I just didn't know how long detail would be before we get that closer to 60?

Well, it has been very aggressive in terms of - during corrections we are very conscientious about the fact that we need to bring these corrections in and so you saw very aggressive initiatives in second quarter to do it and will continue to see aggressive initiatives from these graphs. But, when you look at some of our sales make up being international, it has - you know, I think affected the DSOs in a negative fashion and it is something that we are working harder to bring in line.

Well, maybe you could give us a little color, I recall from a few quarters ago you were talking about royalties model. I wanted to know whether some of the initiatives you have mentioned, either push that out or change that in terms of where you see yourself going?

Well, there are a couple of answers to that question. First of all, in our prepared statement we did talk about the growth, both in royalties and in recurring revenue, both are recurring revenues trend whether it be the margin we get out through e-licenses which is in that and when those MT embedded and XT embedded and those sorts of things where our own products like smart phone and CDX press . So, we will still be there. We have strong year-over-year growth and that will continue to keep people up to date on the growth in our recurring revenue because that is what gives us a lot more visibility into our future quarter.

into our future quarter revenues. The second answer to the question is when you look at our mobile device management services opportunities that we have been working on for the last several quarters and we referred to it in prior calls, is a different kind of recurring revenue strain, which involves receiving recurring revenue from wireless carriers, be the wireless carrier customers as we begin to manage devices, convergent, wireless devices, that they put on their network and so as we look forward, we would look to being able to develop a metric for our investors, who will be able to understand what impact that will have on our business. But it is not where you standard wealthy business where it's dollars per device. It is more of a dollar per month per device type of revenue opportunities that we are working towards there.

Got it. Great. Thank you gentleman.

Thank you, Henry.

You have a followup question from Larry Linden of Second Line Capital Management.

Jim. First, can you go back and repeat what you said about the headcount and how it breaks done by department.

Yes. What I gave you was the June 30th headcount was 389 people in total, and the 284 of which were in engineering services and tools, 120 were in research and developments, 51 in sales and marketing groups, and 50 in general and administrative groups.

Does not that add up to 500?

Excuse me. Yes. I am sorry, reading without thinking. The 120 is part of the 284, excuse me, the R&D, I gave 124 R&D, those were also included in the 284, our engineering numbers. Out of the 284 engineers, 120 are working in R&D.

Okay, and then Bill. In terms of that R&D, how do you make a decision that you are spending 20 million dollars a year. How many projects is that and how are you analyzing that, that is a good investment, what is going to come out of that and how do you measure it?

For each of our products that underwent business plans that estimated market demands down stream as current licensing revenue, and we looked for, in prior quarters, we looked for a mix of products some that would provide near-term revenue opportunity with less investment and others with longer-term revenue opportunity necessitating more investment, and from that slightly came down and selected a few investments that we could make, that we believe would be sustainable. Under our prior set of assumptions that we feel are no longer valid. We don't believe that there is an economic improvement, you know, of any great magnitude. On the forefront, we still believe that the markets will be slow. We may see, you know, modest year, quarter-over-quarter revenue growth, that is yet to be seen, but we have to adjust to that changing set of circumstances. Then we went back here, in the second quarter, and re-evaluated our R&D investments, we made a very conscious decision to eliminate certain R&D investments and we kept what we thought were the best short-to-medium term investments, which is our investment in smart bills, and in the long run, our best R&D investment being our managed device service display and then everything else was put on the back burner, from an R&D perspective.

So, but the way it's immense and organized, are there two major teams and they are working on those two major items?

Well. I wish I could say it was that simple, you know it all reports into our VP of product developments, so there is in fact two major teams there, plus, when you look at our products, they smart bill for example is a highly complicated product that incorporates developing reference hardware, systems software, and application software as well as the remote management. So, those are the pillars at this time which smart bill was , managed device services is predicated on one of the same pillars, which is demanded the remote management software. So, it is kind of managed out of the same R&D organization. So, it has a different business plan obviously.

Lastly, can you kind of refresh, my view of the competitive situation for example, one competitor withdrew, maybe, that is not significant, you picked up their business, but as you own the business to three major areas. How do you access your major competitors?

I think the way you can best access our major competitors is, there are competitors that knit around the edges of each of our businesses. You have some that are doing hardware reference designs and you have some that are doing applications and you have some that are doing remote management software, but none has really pulled together all of this in a single solution suite for our customers. So, you know, this is really the input that we got from the analyst as we went on the road show these last several weeks. The health of the industry is in question, I mean the supply chain within which we operate has taken a big hit, and that reflected in slower R&D spending through our customers and we service a sort of an outsource to the R&D arms of many of these large corporation, that is what you see impacting our business. On the positive note, we have seen one competitor go out of business in this quarter. I wouldn't be surprised to see one more competitor out, if not almost out by end of this quarter and we have been very swift in reacting and picking up customer relationship as a result of that. I think DSQUARE will be a principal beneficiary of the shake out in this industry and then ultimately as the strength of our new product become known and there are some economic improvements we are going to grow. And giving the top line revenue growth this quarter is a result of, I think, that will refer to benefit from further deterioration in the competitive set of BSQUARE in the future quarters.

Lastly, on that , on outsourcing standpoint, ideally we would be kind of recessionary our customers are cutting way back, were supposed to be saving them lot of time, money, and efficiency. Why we are not seeing any benefit in terms of our tools, our capabilities being a much cheaper way for them to do things without having expensive internal staffs or it just doesn't work that way?

It just depends on where the source of the recession incurs and this case, consumer spending on the type of devices that our customers are introducing has decreased. At the same time, they built up massive inventories that they had to burn through in order to get to a parity point and now there is no speculative spending going on to advance new products. I think while you are right in a certain depth of a recessionary period, we would see, that we would be accounted to the recessionary, the pressure is that we are not seeing that. I think because the declines were so deep that really did hit the R&D project and we were, we were not just cheaper and faster solution, I mean, vendors, they could do it themselves or elected to go with that because of our deep expertise as well. So, I mean, they are just cutting out costs, they had been cutting out products development initiatives and what we are seeing in the second quarter was some improvement in that and we think, we will feel a little more improvement in the third quarter.

When R&D gets turned back on, how does the customer look at us, we get caught in early or late?

Well, the nature of our business brings us in very early because not only do we have the licensing business, the licensing operating system, we have hardware design capabilities. That brings us in very early when the customer is determining how they want to proceed on a new smart device initiative. That's why smart bill is still important to the corporation. When they start turning on investments, what we see is, we see deals that have been sitting in the pipeline for six months, eight months or whenever started to turn in. We now know, we are going to pull the trigger on spending and that translates into business for BSQUARE. So, we have plenty of that type of business in the pipeline where if they become funded, that should result in business for BSQUARE because we were in there with our direct sales force making sure that we have a play in those opportunity.

What kind of ramp that you anticipate, did grow by million dollar sequentially a quarter or did they jump 5 million a quarter, once there is a ramp and business is back?

I wish I could tell you, I mean, you saw what we were growing at in prior, really really, profit period. I don't know that we will return to that. I wish we returned to that, but I think, you are going well beyond my capabilities of forecasting.

I will leave it, but it just ties into the breakeven issue and how fast to get back to breakeven once the ramp occurs or you know..?

High grade.

Okay.

At this time, there are no further questions.

Okay. Thank you very much. We really appreciate in joining our conference call and what we would hope to do is to see you on our next conference call, which will be the fourth Thursday of October 2002. Thank you very much.

This concludes today's BSQUARE second quarter 2002 earnings release conference call. You may now disconnect.