Digi International Inc (DGII) 2008 Q1 法說會逐字稿

Ladies and gentlemen, thank you for standing by. Welcome to the Digi first-quarter fiscal 2008 conference call.

During the presentation, all participants will be in a listen-only mode. Afterwards, we will conduct a question-and-answer session. (OPERATOR INSTRUCTIONS). As a reminder, this conference is being recorded Wednesday, January 23, 2008.

It is now my pleasure to turn the conference over to Kris Krishnan. Please go ahead, sir.

Good afternoon and thank you for joining us today.

Before we start, I need to go over a few details. First, if you do not have a copy of our earnings release, you may access it through our press release section of the Digi Web site at www.Digi.com.

Second, I would like to remind our listeners that our remarks may contain forward-looking statements that involve risks and uncertainties. These forward-looking statements are not a guarantee of the Company's future performance. Important factors that may cause actual results to differ materially include but are not limited to the following -- rapid changes in technologies that may displace products sold by Digi; the business environment in which Digi operates; Digi's reliance on distributors; declining prices of networking products and changes in the Company's level of profitability.

Finally, certain of the financial information disclosed on this call includes non-GAAP measures. The information required to be disclosed about these measures, including reconciliation to the most comparable GAAP measures, are included in the earnings release or in the Form 8-K that we filed before this call. The Form 8-K can also be accessed through the SEC Filing section of our investor relations Web site at www.Digi.com.

Now, I would like to introduce Mr. Joe Dunsmore, the Chairman, President and CEO.

Welcome to the call, everyone. I am pleased with most aspects of our results for the quarter, which were highlighted by 6.6% year-over-year organic revenue growth and EBITDA of 18.3% of revenue and a GAAP EPS of $0.14 per share. Our revenue was $44.6 million in Q1 2008, compared to $41.8 million in Q1 of 2007, or $2.8 million growth. In fact, the revenue and EBITDA are historic first-quarter highs since I've beet at Digi.

Revenue from embedded products in the first quarter of fiscal 2008 was $20.7 million compared to $16.6 million in the first quarter of fiscal 2007, an increase of $4.1 million or 24.5%. This was driven by broad-based growth across our embedded product lines. Revenue from non-embedded products was $23.9 million in the first quarter of fiscal 2008, compared to $25.2 million in the first quarter of fiscal 2007, a decrease $1.3 million or 5.2%.

We saw very strong year-over-year growth from our device server product line. Cellular revenue was disappointing for the quarter, showing a slight year-over-year decline. However, if we extract the lumpy demand from two very large deals last year, growth from the other 99% of our cellular customers in aggregate was actually up 63%.

We also saw a greater-than-expected year-over-year declined from our mature product lines, which was a key driver behind the decline in our non-embedded products. MaxStream branded product revenue grew 19% year over year.

One very positive aspect of the quarter was the gross margin improvement. Our gross profit margin, as a percentage of net sales, was 53.6% in the first fiscal quarter of 2008, compared to 52.6% in the first fiscal quarter of 2007. Gross profit dollars were higher than the comparable quarter a year ago by 8.5%, primarily due to product and mix changes within both the embedded and non-embedded product groups, as well as licensing revenue. As a result, we were able to increase our expense load while growing EBITDA from $7.67 million in Q1 '07 to $8.13 million in the first quarter of 2008. This increased expense level is focused on two main areas -- one, sales and R&D investment and at driving future growth, primarily in our wireless drop-in networking product lines; and, two, international sales and marketing.

Our net income was down slightly year over year since we recorded a discrete benefit of $0.5 million in income taxes in Q1 '07 that provided a more favorable effective tax rate compared to Q1 '08.

Now, for some highlights for the quarter -- Digi was named by Forbes as one of America's 200 Best Small Companies. Digi's Rabbit brand introduced the RCM4300 RabbitCore. The RCM4300 series enables a new generation of applications that use more memory for data encode.

Digi introduced the XBee Wall Router, a ZigBee router used to expand a ZigBee network's range. By plugging in the standard power sockets, Digi XBee Wall Routers are easy to install building blocks for self-healing ZigBee networks.

Digi introduced the Multipoint Xpress Ethernet Bridge for wirelessly connecting multiple Ethernet devices in a single drop-in network. The Multipoint Xpress makes it easy to connect equipment like industrial programmable logic controllers, PLCs, electronic LED signs, security cameras, Internet kiosks and other Ethernet-enabled devices wirelessly, securely and cost-effectively.

Digi introduced the Digi DialServ to allow devices with built-in telephone modems to participate in wireless drop-in networks. Combined with a Digi cellular router or gateway, the Digi DialServ extends the life of existing remote equipment by reducing monthly phone charges and speeding transaction times.

Next, I would like to comment on the revenue trends that we are seeing within the business. We expect the mature product lines to return to the normal general trend of decline. We expect continued year-over-year growth from our embedded products, going forward, with Rabbit, ConnectCore and MaxStream product lines leading the way. We expect to return to year-over-year growth from our non-embedded products with cellular and USB product lines, showing strong growth opportunity, especially in the second half of 2008.

Our sales pipeline continues to be very robust. We have seen that rapid growth of the pipeline, especially from our wireless drop-in networking products over the past few quarters. While we're keeping a close eye on broader economic conditions, we have yet to see a major impact on our core business fundamentals and remain optimistic about our wireless growth initiatives and thus are maintaining our annual guidance.

Now, I will hand it back to Kris for a more detailed discussion of our financial performance.

Thank you, Joe.

Our revenue for the quarter was $44.6 million, an increase of $2.8 million or 6.6% over the first-quarter revenue a year ago. Revenue from the (inaudible) products in the first quarter of 2008 was $20.7 million, an increase of $4.1 million or 24.5% compared to the first quarter of 2007.

The revenue from our embedded products was $23.9 million in the first quarter of 2008, a decrease of $1.3 million or 5.2%. The revenue increase in the embedded products were primarily due to an increase in embedded modules sales throughout our product lines. The decrease in the non-embedded product lines was primarily due to a decrease in the mature product lines.

Gross profit margin for the quarter was 53.6% compared to 52.6% in the first quarter of 2007. Gross profit dollars were higher than the first quarter a year ago by 8.5% or $1.9 million, primarily due to product and mix changes within both the embedded and non-embedded product groups as well as licensing revenue.

Total operating expenses for the first quarter of 2008 were $19.3 million compared to $17.7 million in the first quarter of 2007. Operating expenses were higher in the first quarter of 2008 compared to the first quarter of 2007 as the result of incremental headcount due to overall growth resulting in increased compensation-related sales and marketing and research and development expenses. The Drop-in Network issued and launched in June of 2007 as well as increased international expenses also contributed to the increase in expenses in the first quarter of fiscal 2008, compared to the same quarter a year ago. Operating expenses as a percentage of net sales were 43.4%, primarily as a result of weaker net sales the first quarter, relative to other quarters in the year. We anticipate that the operating expenses to net sales ratio will decrease to less than 40% on an annual basis.

Operating expenses also increased sequentially over fourth-quarter fiscal 2007 by $1.7 million. As a reminder, the fourth-quarter 2007 expenses included a gain of $500,000 on the sale of undeveloped land at Digi's Davis, California location, which was included as a reduction of expense in G&A.

Operating income improved by 6.8% to $4.6 million or 10.3% of net sales in the first quarter of 2008, compared with $4.3 million or 10.3% of net sales in the first quarter of 2007.

Net income for the first quarter of 2008 was $3.7 million or $0.14 per diluted share, compared to $3.8 million or $0.15 per diluted share in the first quarter of 2007. The first quarter of 2007 net income benefited $500,000 or $0.02 per diluted share as a result of a retroactive benefit from the extension of research and development tax credit.

Digi's effective tax rate for the first quarter of 2008 was 34.9% compared to 25.1% in the first quarter of 2007, due to the benefit discussed previously for research and development credits. We anticipate our annualized effective tax rate for fiscal 2008 to be approximately 35%.

Diluted weighted average shares outstanding at the end of the quarter were 26,592,933 shares, compared to the previous quarter of 26,384,573 shares, an increase of 208,360 shares.

Turning to the balance sheet and cash flow statements, our combined cash and cash equivalents and marketable security balance increased by $3.3 million from the prior quarter. The net cash provided by operating activities for the quarter was $4 million. The final contingent consideration of $1.2 million was paid to the previous owners of FS Forth based on the achievement of certain milestones defined at the time of the acquisition of FS Forth.

Cash provided by financing activities was $1.6 million and resulted primarily from stock option employee stock purchase plan transactions. Digi spent $1.2 million on the purchase of property, plant and equipment, an improvement in the first quarter of 2008.

Our current ratio is 9.2-to-1, compared to current ratio 6.3-to-1 at the end of prior fiscal year.

Net accounts receivable at December 31, 2007 were $20.6 million compared to $21 million at the end of the prior fiscal year. Our DSO is at 35 days. Inventory levels at December 31 were $26.6 million, compared to $26.1 million at the end of prior fiscal year.

Digi adopted the Financial Accounting Standards Board Interpretation 48, Accounting for Uncertainty in Income Taxes, an interpretation of FASB statement #109 as of October 1, 2007. FIN 48 prescribes a recognition threshold and measurement process for the financial statement recognition, the measurement of tax positions taken or expected to be taken in a tax return. In accordance with the balance sheet classification guidelines of FIN 48, we have reclassified $3.5 million of unrecognized tax benefits from current to non-current liabilities, as we do not anticipate payment of cash within the next year.

Cash value per share for the first fiscal quarter of 2008 is $3.54, compared to $3.43 at the end of the prior fiscal year.

Now, I would like to open the call to questions. Operator?

(OPERATOR INSTRUCTIONS). John Vinh, Collins Stewart.

My first question -- I was wondering if you could repeat your comments on this, Kris. I think you had talked about the change in G&A as it relates to the gain on the sale of property that you had talked about last quarter. Can you repeat what you had said about that?

If you recall, in the last quarter, the fourth-quarter 2007 expenses included a gain of $500,000 on the sale of undeveloped land at our Digi's Davis, California location. Accounting rules require -- if you look at our G&A expense in the fourth quarter, we had to reduce by the amount of the gain.

Okay, so G&A still increased by about $900,000, so $500,000 of that was due to the gain. What was the other $400,000 of increase due to?

Primarily compensation-related expenses.

Okay, so going forward, this OpEx level should be the run rate that we should be modeling from?

Right. As I mentioned on the call, that, on an annual basis, we expect our expense-to-revenue ratio to be at 40% or less.

The second question I had was you talked about the declines in some of your mature products. Are you able to talk about or help quantify what sort of declines did you see there? Going forward, you said that you expect those declines to continue to return to the trend line. What give you guys the confidence that you're going to get back to the trend line there and that this potentially isn't going to continue to drop off faster than we originally anticipated?

Yes. On the mature product lines, it was a bit more than what we expect. What we say is we expect 20%, plus or minus 5% or so. It was more than that; it was up in the 29% range decline. So, looking forward, we do a pretty detailed deep dive to take a look at our customer buildups, and so the expectation is that we will get back into that range probably next quarter, probably on the better side of that range; probably in the 20% or maybe slightly better would be our expectation.

This quarter, what we saw was a little bit greater-than-expected decline in the mature products from our OEM customers. So the OEM customer piece was just a little bit more than what we expected. But we think we got a pretty good buildup and a pretty good view for next quarter. Going forward, we believe that will come back in line with what our historic expectations have been.

Switching to the competitive front, we are starting the hear that some of your competitors in some of your serial device networking spaces, such as Lantronix and guys like MOXA, are starting to be extremely aggressive on pricing there. Can you talk about the general pricing environment in terms of what you're seeing from competitor pressures? Are you seeing some of this coming from some of those competitors in some of these lower-end segments?

We have always seen Lantronix and MOXA view the market as a more elastic kind of market in that devices server arena than we have. Our value proposition has been to provide highly differentiating, customized commercial-grade device networking products. That's very true in our devices server arena, where we compete with Lantronix, for instance, where there are a lot of opportunities to differentiate where we focused on providing custom solutions for, for instance, the traffic vertical. We have done a lot of interesting things in the medical arena, et cetera, in terms of providing differentiated products.

Certainly, on the embedded side of our business, competing against Lantronix on the value proposition of ease of integration, fast time to market and providing a module that's easily programmable and customizable. That's how they've always competed; that's how we've always competed. So in that part of the business, I don't see a tremendous difference from our historic terms of competition, in terms of how pricing will hold up.

Where we continue to see a little bit more elasticity is in the MaxStream business, in the wireless end point business, the XBee module business, which does tend to be a little bit more price elastic than our historic markets that we play in. But we've talked about that, and there's been no change in that over the last few quarters. It just continues to be a price-elastic market where we compete the way we've always competed with the Digi brand, with very high-quality RF capability that's better than our competitors' and differentiated products. So there's no fundamental changes that we've seen recently in the terms of terms of competition in the pricing model.

Okay. Then you mentioned MaxStream. It sounded like you still saw growth there of 19% year-over-year. I think, prior to this, you were indicating that you felt that that business could continue to track to the 40%-plus year-over-year growth rates. Could you talk a little bit about that business? Do you still feel that you can still track to that sort of growth metrics in fiscal '08 at this point?

That's a good question. That's right. We came in at 19% growth; that's less than what we would have expected. It's not awful, but it's not as robust a growth rate as I would have expected. We did a deep dive and looked at that to reexamine the backlog and pipeline, et cetera. In the deep dive, we found that the backlog is very robust. The pipeline is very strong and has been growing very well and is supportive of the higher growth rates of, like you said, in the 40% plus range.

The problem that we had was one of our product lines, the Xtreme product line, has a generation 2 product that we were coming out with, and that was delayed a couple of quarters in R&D. We are just now coming out with that next-generation product. So that created a little bit of a gap that had more of an impact than we expected, and so that's what's caused -- that's the primary driver causing our growth rate to move down from the 40% range down to the 20% range. We expect to get that product out here in the next few weeks, and we're putting that out to initial customers. We have a bit of pent-up demand there. We would expect to see improvement next quarter and then significant improvement in our growth rates in the second half of the year, back up in the plus 40% kind of range.

So, on an annual basis, it sounds like maybe you are looking at maybe 30% to 40% year-over-year growth at this point for MaxStream?

John, I would hope to be able to do 30% to 40% or better.

Great, okay. Then last question and I'll step out of the queue -- just to follow up, it sounds like you're not seeing any sort of impact from some of the macro aspects in the environment. Obviously, a lot of your business is driven by capital spending and not driven by consumer consumption. Can you maybe just shed a little bit more color on your comments in terms of what you're seeing there? Are you seeing any sort of slight push-outs or slight delays or anyone just touching the breaks slightly, just being a little bit cautious at this point, just trying to see what's going on in the economy? Or do you still feel confident in your business, going forward, and the ability for it to weather some of the impacts from the macro environment at this point?

We saw our typical little bit of a slowdown in the North America distribution channel that we always see in the first fiscal quarter of any year, so that was very typical. We saw a pretty good strength in Europe and Asia Pacific. At the end of this quarter, we see a stronger backlog position coming into this quarter than we had going into the last quarter. We have a very strong sales pipeline that has been growing very aggressively over the past few quarters, especially in our wireless drop-in networking product category. We continue to see really strong vertical application opportunities for our Drop-in Networking products in the MIMR area, tech monitoring, air quality, irrigation and a host of other application environments. When I meet with those customers, we just see a whole a lot of interesting things happening out there.

So, there's a lot of things that keep us optimistic. As I said my prepared comments, we haven't seen anything that would tell us that there's a major impact currently on the business and certainly not in the economist -- and there's a lot of varied opinions out there about what's going to happen over the next few quarters. I'm not going to get involved in that game; I'll let them do that, and what we'll worry about is running this business and driving this business.

Jeff Evanson, Dougherty & Company.

Good afternoon. Thanks for taking my questions. Let's see here. So you mentioned that cellular was weak due to two large customers. Could you tell us how strong those two customers were in Q2 '07?

Yes. I think you're asking about Q1 '07.

No, Q2 '07, actually.

In Q2 '07. Yes, well, in Q1, they were very strong, in the neighborhood -- the two were in the neighborhood of, I think, $900,000 to $1 million. One was actually about $700,000 plus, so very strong. Then Q2, they were not as strong as that. I don't have the numbers in front of me, but our expectation, moving forward on the cellular product line, is that we will continue to see that strong momentum from the other 99% of our customers moving forward and that we've got a lot of large deals out there in our pipeline that we're working on. As we land more of those large deals, we think the effect of the one or two large customer effect creating variability in growth rates on a year-over-year basis will begin to minimize. But we will continue to have some of those lumpy demand impacts going forward.

But we should have anniversaried most of that after Q2, it sounds like.

Well, yes, but these guys -- I think we had a big order from one of those large customers in Q1. I think we had another big order in Q3.

Latter half (multiple speakers)?

Yes. So we have some of that at work, but underneath that is what is really important. The other 99% customers are growing at a really strong, consistent rate. I mentioned the 63%, and on top of that, we have a sales pipeline of customers that include those two customers and other large customers out there that we hope to land and bring in significant [new] quarter revenues. So that's what we're looking at.

Is this related to TowerLITE monitoring?

Yes, it very well could be.

I got you, okay. Well, we will get that behind us and you've got a good growth rate going there. So I want to understand a little bit some of your comments around the mature business via the OEMs. It sounds like -- I guess I got the sense that this is mostly an inventory issue for you?

In what sense, Jeff?

Inventory of the OEMs contributing to less ordering in this quarter that then will reverse in the next quarter.

You know, I think it's more not -- I don't think it's as much that as we've got significant OEM customers, people like IBM and HP and Sun, that typically -- that's the quarter, the first fiscal quarter, the last calendar quarter, where we expect them to be up; we expect a lot from then. They just weren't up as much as they typically have been. So I think that's more the dynamic.

Okay. What do you suspect that's related to?

I don't know.

Or is that economy guessing here?

I don't know.

Okay, all right, fair enough. I certainly don't mind you spending more money on things like international initiatives, as long as they'll pay off in the future. I'm sure they will. If you could talk a little bit about what you're doing, I'd appreciate it.

Yes, I would love to talk about that. That's a really important initiative for us. If you take a look at it -- let me give you a little bit of a backdrop on this, just a little bit of background. We've been able to make that investment, you know, kind of significant uptick in our investment on a year-over-year basis, which is, I think, really positive when you consider we did that while at the same time driving our EBITDA from $7.6 million to $8.1 million -- so EBITDA uptick while making this investment in headcount for international sales, helping to drive international sales and business development headcount and marketing dollars to help drive our Drop-In Networking initiatives. So we think -- and we were able to do that while still maintaining our [E-to-R] below 40%. So we believe that this is an excellent investment for us and that that increase in expense load is going to pay significant dividends down the road for both of those initiatives, for international and Drop-In Networking.

Relative to Drop-In Networking, one of the challenges we have right now is that we play such a significant opportunity out there, not only in managing the pipeline that we've built, which has doubled over the last three or four quarters, but in latent demand out there in building even more pipeline. So, we've made that investment in sales and marketing, both for domestic and international, especially focused on Drop-In Networking, to really drive that pipeline, closing the pipeline and driving even more significant pipeline, which what we think is latent demand for a lot of these Drop-In Networking applications that exist out there.

So I just have to press you a bit on -- you mentioned business development and Drop-In Networking. Do you feel like you need to do some supplementing of that line, still, with some tuck-in acquisitions? Or am I just connecting too many dots here?

"Need" is probably too strong a word. When you are saying "need", that infers some type of competitive deficiency, and that's absolutely not the case. The case is that we've created a very nice, competitive, differentiated position with our Drop-in Networking solutions with the gateways that integrate (inaudible) networking and Wi-Fi and Ethernet capabilities with the combination of those differentiated gateways and end-point products coming from one provider, Digi, that others just don't have. So, we've got that differentiated position. We are now leveraging the sales team to really drive that. It does tend to be a little bit different in the past in that we business development resources to rifle-shoot into Tier 1 customers driving that solution set. So, having said that, are there ways for us organically, with our development roadmap and through acquisition, to further differentiate our position over time? Absolutely.

Michael Ciarmoli, Boenning & Scattergood, Inc.

Just a little bit -- I know you guys reaffirmed your guidance. Have you changed, or is everything still the same in terms of your gross margin outlook, operating margin outlook, no changes there?

No Changes.

Just on the gross margin, what is your take on the pricing environment? It seems that it would be hard to continue to drive gross margin increases. Is this something that you expect that you can continue to do towards this high end of your guidance, or do you think eventually the competitive environment will catch up with you and you will see some erosion there?

Michael, as you know, when I've been asked to comment on this, I've commented on it in the context of what I expect to see over the next three to five years, relative to driving EBITDA from what we where are up into the 25% range. I've always said, over the next two to five years, as we see a more competitively intense environment, that the structural aspects of the market would probably cause some gross margin degradation.

Another thing I've said is that, while you have that impacting your business and you have the mix change, more embedded revenues as a percent of total, the non-embedded affecting gross margins, at the same time we're doing that, we're not giving into that notion and we are driving a lot of cost reduction programs within the business to try to prop that up and fight whatever those industry forces are. So we're doing all of the above.

If you look at what's happened over the last several quarters from Q4 '06, our gross margins have moved from 52.5% to 52.7%, 52.6% to 52.9%, 52.9% and then 53.6%. So we've been making good progress, I think, given the dynamics that we see in terms of driving cost reduction. My expectation is that we should be able to maintain gross margins in that range we gave you, the 52% to 54%, and in the short-term over the next quarter, probably in the 53% ballpark, somewhere in that ballpark.

One of the things that could positively influence our gross margin picture down the road is if we are able to drive more high-margin licensing revenue. Today, it has been pretty immaterial, where we get a bubble here and a bubble there. This quarter, we had a bubble that had a little bit of a positive impact, not a huge impact but a small impact. We have a strategy to drive more licensing revenue down the road. It's not something we would expect consistent licensing revenue in the short-term, but a strategy over the course of the three to five-year period would be to try to drive more of that high-margin licensing revenue.

Would that be a one-time licensing revenue strategy, or is there sort of a subscription model in there? (multiple speakers)

It depends on the deal we have. The strategy would be to drive a model where there's some upfront and there is some recurring.

Just to jump back to the spending on the I guess business development in the international markets, was that in response -- you know, looking at your revenue concentration by geography, there's not much now in emerging markets. Given the kind of economic picture, was the spending in response to more, I guess, to broadly diversify your revenue stream just to kind of hedge yourself against the US slowdown?

We believe that the growth rates outside of the US are pretty robust, especially in places like China and other markets. So, we believe that there's a high-growth rate opportunity, number one, at a high-level. So if you look at the five-year picture, the growth rates outside of the US, forget the short-term economic stuff that everybody is so excited about. Look at the five-year, the five-year picture. Growth rate from a market perspective outside of the US is better than in the US, number one.

Number two, if you look at our mix, our Americas percentage breakdown has shifted from about 55%/45% where international was 45%, to about 63%/37%, where it's 37%. That really isn't a bad thing. The reason for the shift is because we've made two acquisitions in the last three or four years, Rabbit and MaxStream, that were very US-centric.

So one of the opportunities for us is to take advantage of the combination of that market opportunity outside of the US and this latent opportunity with the MaxStream and Rabbit products, where one of the reasons why it was such a good match was that they could leverage our international presence to drive higher growth of those products outside of the US. So we want to do that; we to continue to invest in the higher growth-rate regions outside of the US. We want to drive the MaxStream and Rabbit product lines, as well as the other product lines, the Digi product lines, the Drop-In Networking products, outside of the US.

Okay, great. The last question and I'll jump back in the queue -- in terms of your pipeline and visibility, in the past, you've defined some of your projects as evolutionary and, I guess, revolutionary-type products. What are you seeing out there? Are you seeing more of the next generation POS machines? Are you seeing more of those evolutionary type products? If you could just give us some commentary there?

Well, I would say that the growth rate in our pipeline -- and this is a gut feel thing; this is not broken down precisely. But I'd say the gut feel of the growth rate in our pipeline -- very high top-line growth rate in our pipeline, meaning in our CRM system. Those deals that are qualified deals, meet our criteria for qualified, have grown. The revenue opportunity has grown substantially in the sales pipeline, - not close but in-process and qualified, over the last year. We've seen significant growth in that pipeline.

Now, within that, when you think about evolutionary versus revolutionary, I'd say what I see from a gut-feel perspective is similar opportunity and growth in that pipeline to what we've seen in the past. Where we see the big upturn in growth opportunity is in these new, more revolutionary applications where there's an opportunity out there to connect devices that have never been connected before or to do something in a radically different way that it hasn't been done before with wireless Drop-In Networking.

With that being said, do you think, given the economy, if a slowdown does take place, it seems that maybe some of these new, radical projects might be the target of cuts? Do you see any more risk associated with that kind of pipeline or not at this point, or you haven't really given it the thought?

Great question, great point. I can't really draw a different conclusion than that. We haven't really seen an impact. Theoretically, I think you could suppose that, if there was a dramatic impact from the economy perspective, that you would expect that it would tend to have more of an impact on the revolutionary stuff than the evolutionary, but we really don't know.

Okay. Then the last one -- in terms of visibility with the backlog, about how many quarters out are you guys feeling comfortable with right now? I know, in one of the last quarters, I think you gave your first glimpse at '08 on your Q3 call just because you were seeing a lot of strength into some of the future quarters. Are you still seeing that strength now?

Well, most of the backlog that we see, real backlog, has to do with the current quarter, so it has always been that way. There is some beyond that, but most of it has to do with the current quarter. Where we get our perspective on future quarters and, in a sense, for future quarters is that sales pipeline, which has been pretty robust. So that's what we look at.

Clint Morrison, Feltl & Company.

Most of my points have been addressed but Joe, the licensing bubble that (inaudible) you this quarter -- can you quantify that at all, give us a sense as to sort of how much this licensing can affect you?

It will be about 0.3% on the gross margin.

That's what it was in this quarter?

Yes.

And is that sort of -- and you said it's kind of been -- bubbles up and down. Is at about as much, or would it ever be higher than that?

It's hard to say at this point, but I would say that, at this point, that's where it would be.

In the short-term, my expectation would be that we might see small bubbles that popped up not consistently as we develop this strategy. Longer term, what I would hope to do is build more of a licensing stream. But that's highly speculative at this point. So I don't think we should model creating too much of that expectation. I think that the long-term model that is probably the best model for you guys to think about is the one that I've talked about in how we get to the 25% EBITDA over time -- we would be expecting some small level of gross margin degradation by getting much more leverage on the E-to-R line because of higher top-line growth rates over time. Any benefit that we get from licensing revenues would be incremental to that.

On the cellular business, you kind of reference the weakness there. Are we categorizing that as sort of a push-out business that we've got some visibility that is going to come? Or are we maybe thinking that this business suffering a little bit from the weak economy? Or how do you visualize what's going on there?

I look at it as 99% of the customers, that customer base, small/medium-size, some reasonably large deals growing at 63% year over year. Then just we had the benefit of just a huge couple customer opportunities last year,. Certainly, we're happy to see that revenue ramp as aggressively as it did. We haven't seen those large, $500,000-plus deals plopping in the last quarter, in the current time frame, although we do have several large deals in our pipeline.

So those things are not always easy to predict the timing of, and we will expect to see, as a result, some lumpiness going forward. But the good news is that we have the pipeline, we have a strong pipeline out there. My expectation would be, especially in the second half of '08 with the cellular product line and the extension of that with our Drop-in Networking gateways that integrate the [mesh] networking capability, to give us a boost in the second half.

Your foreign business sounds like it's about 40% of the business. Is the dollar helping you there? Do you think that's making an impact? Are you seeing any -- is there any sort of translation gains in your current quarter?

It's not very much. It's not significant, Clint. Yes, definitely that translation helps us because we do sell products, both in Euros and dollars, in Europe.

Okay, but just, in general, is your business being helped by the weak dollar? Is that a significant benefit on your foreign business?

In Europe, it does.

Just last (technical difficulty) mechanical, you referenced the incentive payment on an acquisition of $1.1 million. None of that went through the income statement, correct?

Because that's primarily driven as part of the original purchase price.

So nothing impacted the income statement?

Right.

Okay, I just wanted to make sure. Thank you.

[Ross Trielo], RBC Dain Rauscher.

Most of mine were answered too, but I've got a couple more. Can you comment on the business activity in your bookings since Q2 began, since January 1, basically?

Yes. The comment that I made was that we came into the quarter with a stronger backlog position and --

Well, yes, I caught that. But you came into the quarter with a stronger backlog, but how about since January 1?

We don't typically comment on that type of thing. We talk about the backlog position. We don't spent a lot of time commenting on that kind of thing. We feel positive about progress so far in the quarter but I'm not going to get into any details on that.

Okay, that's good enough. How about now -- you know, this is pretty similar but, typically, as you talked about, the North American channel is slow in Q1. Have you seen it improve yet?

We don't have enough data to draw any conclusions on that at this point. We went through an ERP transition at the beginning of this quarter, Ross, so we did have a slow turnover in our ERP system. We are done. It was a good project, back online. But one of the challenges that we have is we don't have all of the data that we would typically have in terms of the channel input at this point.

I guess a final one for me is -- and maybe I missed this but in the Drop-in Networking new product line-up, what type of revenues are you actually seeing there?

Well, we really don't comment at that level. We try not to comment on a product line by product line level. What I have said is that the collection of our wireless products, which is really extended by what we then kind of classify our new gateway products is Drop-in Networking products. But as you look at all of this, it's kind of going after that same Drop-in Networking arena. Our wireless products have gone from about roughly 2% of our revenue back in the '06, early '06 time frame to where our wireless products are over 20% of our revenue today.

Then we introduced the wireless Drop-in Networking concept in these ConnectPort X gateways back in the April-May timeframe of this year, and new products associated with Drop-in Networking, both gateway products and end point products since then. We expect to get the benefit of those new product introductions primarily starting to ramp, because of fairly long sales cycles, in the second half of '08.

There are no further questions at this time, gentlemen. Please continue.

Great. Thank you, everybody, for attending the call. I look forward to talking to you again in three months.

Thank you.

Ladies and gentlemen, that does conclude the conference call for today. We thank you for your participation and ask that you please disconnect your line.