Leonardo DRS Inc (DRS) 2004 Q4 法說會逐字稿

Good morning and welcome to the Engineered Support Systems' fourth quarter earnings release conference call. (OPERATOR INSTRUCTIONS). Today's conference is being recorded. If anyone has any objections you may disconnect at this time. Now I would like to turn the meeting over to Mr. Michael Shanahan. Sir, you may begin.

Good morning everyone. Thank you for joining us on our call today. Hopefully you all had a chance to review our earnings release for the fourth quarter and the year ended October 31, 2004 issued earlier this morning. As you can see, we finished the year very strongly, posting record quarterly revenues of more than $256 million, a 51 percent increase above the fourth quarter of last year, and earning from -- earnings from continuing operations of a record 76 cents per diluted share. That's a 46 percent improvement.

As our release stated, organic revenue and earnings growth contributed to the sharp increase in quarterly revenues and profits. In 2004 we reported nearly $884 million in annual revenues, and $2.72 in earnings per share. A truly exceptional year.

And just last week we announced a major acquisition, signing an agreement to purchase Spacelink International for approximately $150 million in cash and stock. We believe that Spacelink is a great addition to our Company. And we look forward to their adjoining the ESSI family within the next 45 days or so. We will discuss Spacelink in more detail later during this call.

As normal, joining me today on the call is Gerry Potthoff, Vice Chairman, CEO and President, and Gary Gerhardt, our Chief Financial Officer, who will now briefly recap the fourth quarter's financial results.

I'll go ahead and read our standard disclaimer before I begin. Statements made during the course of this conference call, which are not historical facts, are considered forward-looking statements within the meaning of of Section 27A of the Securities Act of 1933 as amended, and Section 21E of the Securities Exchange Act of 1934 as amended. And are intended to be covered by the Safe Harbor provisions created thereby.

As we reported earlier this morning during the fourth quarter of 2004 we posted net income from continuing operations of $21.3 million, or 76 cents per share. Strong quarterly organic revenue growth and programs such as DPGDS, which was up $13 million for the quarter, vehicle uparmoring, which was up $19 million, M1000 trailer refurbishment up almost $7 million, MSTAR perimeter security systems up over $4 million, and several others contributing to our record results. Revenues were further boosted by additional business obtained under TAMSCO's R2 contract, which posted a $23 million gain compared to the prior year. Included within this total for R2 is $3.8 million in revenues produced by our online logistics support operation, ESSIbuy, under its contract with Sierra Army Depot in support of equipment reset activities. Partially offsetting these revenue gains was a $7 million reduction in revenues on the Tunner program as production activity winds down by mid 2005.

Revenue for the Support Systems segment increased from the prior year by 39 percent to $138 million for the quarter. Additional business for M1000s and MSTARs, plus intercompany work for uparmor crude protection kits performed by ESSI for Radian, partially offset by the reduction in the Tunner work, were largely responsible.

The Support Services segment posted a 91 percent increase in segment revenues, principally bolstered by additional DPGDS R2 and uparmoring work during the fourth quarter. These sharp increases in revenues produced similar gains in operating income as well. Consolidated profit grew to more than $66 million, or up by 54 percent, with related increases in operating income and EBITDA of 44 percent and 46 percent respectively.

Net income grew 55 percent in the current quarter, benefited somewhat by a reduction in the Company's effective income tax rate to 38 percent for the year, down from a 38.5 percent effective rate for the first three quarters of the year. The reductions in our effective tax rate over the past few years reflect the impact of our ongoing tax planning strategies.

As we expected, free cash flow in the fourth quarter was very strong, providing us with the ability to not only repay all of our outstanding bank debt, but to have $33 million net cash as of year end. Free cash flow for the year totaled $57 million, admittedly a bit below our aggressive forecast of $80 million, primarily due to higher than expected working capital levels as of October 31. We're currently in the process of exercising the $75 million accordion feature on our revolving credit agreement with our banking group in conjunction with the pending acquisition of Spacelink International. This will increase our borrowing availability to $200 million with the strong likelihood of expanding the facility further at attractive interest rates to help support additional ongoing acquisition activities.

Now I would like to turn the call over to our CEO, Gerry Potthoff, who will recap some of the more major developments during the year for us.

Nice report, Gary. And good morning to you all listening. Fiscal 2004 represented a truly outstanding year for Engineered Support Systems. Certainly from a financial point of view the numbers were outstanding, approaching a $900 million mark in revenues, and almost $76 million in net income. However as significant as the numbers were, 2004 marked a milestone for us as the year we are ending entrepreneurial ESSI business model really shined. Being a fast-growing defense contractor with diverse, yet complementary capabilities, we have crafted a composition of our assembled business units with great care. Within our Systems and Services segments we possess top-notch product engineering and manufacturing talent, as well as hands-on logistics experience to support deployed forces around the world.

During 2004 we successfully leveraged these capabilities to deliver innovative, sustainment team solutions to our customers. For example, shortly after Radian add on protective armor solution for the family of medium tactical vehicles was approved for production by the U.S. Army over the last year, we were able to utilize the manufacturing know-how at ESSI's West Plains plant to quickly get the kit into production to meet customer demand.

Not only was this a new business area for our Company, but it gave us a great deal of satisfaction in being able to protect the security of our soldiers in harm's way. In another case, ESSI's extensive power electronics resources were brought to bear to develop solutions for next generation power equipment, resulting in the award of a development contract on AMMPS, a potential $500 million plus program over the next 10 years.

Under the direction of our Fermont facility, engineering personnel from SEI, Engineered Air Systems, Radian, and from our newest subsidiary, Pivotal Power, played vital roles in this important win. That was representing 5 of our 11 subsidiaries, plus very important corporate business development support. During '04 we successfully utilized several of our flexible contract vehicles, like R2, to win significant new business that benefited multiple areas of the Company. The entire team should be proud of our numerous teamwork accomplishments during the year.

A few other major accomplishments I would like to review with you achieved in fiscal 2004 include the acquisition of Pivotal Power in Canada, a $10 million designer and manufacturer of full MIL-SPEC power conversion and conditioning equipment. Pivotal was a great addition to our business in 2004, not only as it broadened our power supply product offerings, but as importantly for the wealth of power electronics technical staff they provide, many of whom were dedicated to AMMPS and other next generation power technologies this past year.

2004 marked an all-time high in contract wins with entered orders topping 938 million for the year. This is 43 percent above the prior year, and translates into a book to bill ratio of 1.06 to 1 for the year, resulting in a total contract backlog exceeding 1.4 billion. This robust order flow lead to significant organic revenue growth in many business areas. With another strong year for orders expected, we are well on our way to solid internal growth in 2005.

Our business development people, starting with Ron Davis, our Corporate President of Business Development, is second to none in our marketplace. Our ESSIbuy online logistics support business became a real part of Engineered Support this past year. Largely on the strength of its logistics support contract to Sierra Army Depot, ESSIbuy posted revenues in excess of 13 million in 2004, and produced significant operating earnings. The recent award of a similar contract to provide procurement support for ongoing equipment resets with another Army Depot will continue to add to ESSIbuy's success in future years.

ESSIbuy also handled over $30 million of spares work for our existing subsidiaries, setting a record for spares in virtually all of our manufacturing units. The restructuring into our two reporting business units, Systems and Services, initiated at the end of last year hit its stride in 2004. This reorganization has yielded substantial benefits in realizing cost cost company synergies, sharpened our focus and has indeed lead to additional organic and external growth opportunities.

The two respective Group Presidents, Dan Rodriguez and Nick Enterbecter (ph) added experienced financial personnel to their staffs who function as a liaison between the groups' with areas operating subsidiaries and corporate. This has not only aided financial management and reporting, but will allow various initiatives such as compliance under Sarbanes-Oxley to be addressed much more efficiently by our internal audit staff.

Once again in 2004 we ranked highly on Fortune Magazine's list of Small Cap high growth firms, and received accolades from numerous other national, regional and local business publications and organizations as well. A very successful fiscal 2004 is in the books.

So how does 2005 look as we see it right now? Most significantly the recently announced acquisition of satellite communications network provider, Spacelink International, will be a big part of our plans for 2005. As a profitable firm with forecasted revenues of around 95 million for calendar 2004, and long-term prospects for approximately 15 percent growth annually, Spacelink will be immediately accretive to our 2005 earnings. The targeted closing date for this $150 million purchase is February 1st, 2005. So we should see three (technical difficulty) results from Spacelink in our consolidated figures this year. We will take this down for you in more detail in a few moments.

Spacelink represents an ideal complement to our military telecommunications support business at TAMSCO. In fact, they are currently working together on several projects. Whereas TAMSCO's telecomms work principally involves work under a single large contract with the U.S. Army, Spacelink is performing under numerous contract vehicles with a variety of customers, including the U.S. Army, U.S. Air Force, and Special Operations Forces, as well as intelligence another governmental organizations. In particular, Spacelink's position as one of only three prime contractors on a ten-year, $2.2 billion ceiling contract with a Defense Information Systems Administration, RDISA, under which a significant amount of military satellite communications support services are procured, has been and will continue to remain a key part of our growth.

TAMSCO and Spacelink will leverage their collective business development, technical and operational resources to gain additional revenue opportunities through this contract vehicle and other avenues. With their assembled talents we believe they will represent a formidable tandem in the satellite telecommunications support marketplace.

Once acquired Spacelink will be managed as a stand-alone subsidiary within the ESSI family. And its President, Otto Hoernig III will report to Services Group President, Nick Enterbecter. Otto Hoerning, Jr, Spacelink Chairman and Founder, will support our Satellite Comms organization in a consulting capacity.

While we are very excited about welcoming the Spacelink team to the ESSI family, our acquisition activities are far from complete for 2005. We are in the various stages of discussion with a variety of suitable candidates and fully expect to complete additional transactions as the year moves on.

Last quarter we ran through a litany of multiyear production programs which we were pursuing that would insure growth in 2005 and beyond. I don't intend to run through the status of each of those items here with you today, but I thought that I would briefly comment on a few of the more significant opportunities that have progressed during the past four months.

During the fourth quarter we were successful in winning one of two development contracts for the AMMPS program, the next generation mobile electric power equipment on the battlefield. In October we received a contract for the refurbishment of up to almost 1,100 M1000 trailers and an estimated $150 million plus five-year contract with the U.S. Army. While we fully expected this to occur when we last spoke to you back in August, the award of this contract is significant in that it will add at least $30 million in profitable revenues annually to our West Plains manufacturing plant over the next several years.

We've also had similar refurbishment in our replacement discussions for other trailers within the Army's fleet in recent months, and are anticipating emerging opportunities there. We're also working with the Army's Tank and Automotive Command Office to address the ongoing need for uparmored support vehicles on the battlefield. A substantial amount of follow-on work to the FMTV crew protection kits already being provided should soon materialize. While the Humvee personnel carriers and the family of medium truck vehicles garnered the majority of the press, when it comes to armor there are a significant number of other legacy vehicles that our soldiers operate in harm's way as well. We're currently involved with our customer to address those in need of protective solutions.

As it becomes more and more important and apparent that our deployed forces equipment is being used at rates far beyond peace time operations, the need to repair, return or replace these items is becoming paramount. Reset or recapitalization, as it is being referred to, has emerged as a significant and sustained part of our future new business opportunities.

As previously mentioned, we are deeply involved in the M1000 trailer reset initiative. We expect to be an integral part of other developing projects in 2005 and 2006 for involving tactical generators, environmental control units, and decontamination systems. The operational cost to keep our forces deployed is becoming a larger and larger part of overall defense budget expenditures and will likewise become a bigger part of our business face over the next three years.

So as you can see, we've got a lot of irons in the fire with many of them heating up over the next few months. Gary will now discuss our forecasted 2005 financial guidance, including the impact of Spacelink.

Obviously, we've had a very successful fourth quarter and fiscal 2004, and we will continue the execution of our growth strategy over the coming year. In our release we provided our revised revenue forecast of between 975 and $985 million for 2005, basically a 10 to 11 percent increase over the exceptional growth achieved in 2004, and substantially above our previously issued guidance back in August of this year. As stated in our release today this upward revision is primarily due to the impact of the pending acquisition of Spacelink, which accounts for approximately $70 million of the increase, with organic growth opportunities comprising the remainder.

As noted in this morning's earnings release, revenues for the fourth quarter were boosted somewhat by the pull forward of work in certain contracts in order to meet urgent customer needs. In fact, nearly $10 million in revenues on the FMTV crew protection kit projects were accelerated into the fourth quarter at the request of the U.S. Army.

Unexpected revenues on several other programs also contributed to the variance from forecasted levels. Unfortunately, this will negatively impact fiscal 2005 revenues and earnings expectations, at least how we see them at this early stage of the year. Faced with the well-documented revenue reductions from the 2004 levels on the Tunner and MSTAR programs impacting the current year, we feel that achieving meaningful organic growth in 2005 is significant.

As you recalled however, several new business development opportunities came to the forefront throughout fiscal 2004 that provided us with numerous occasions to raise our revenues and earnings forecasts throughout the year. As is obviously per Gerry's previous comments, the market conditions that created such growth prospects have not been diminished.

Based in these revenue levels we expect earnings per share to advance 14 to 16 percent in 2005 to between $3.10 and $3.15 per share based upon forecasted net income of $88 million to $90 million. These earnings gains include an additional 10 cents to 12 cents per share expected from the inclusion of Spacelink's results for three quarters in 2005.

Consistent with past practices we will not be providing specific quarterly revenue or earnings guidelines for 2005. We do not manage our business in that manner on a quarter to quarter basis, and do not believe that measuring our Company's future performance against these short-term benchmarks is necessarily indicative of our overall financial performance or long-term prospects as an investment. That being said, due to the pending Spacelink acquisition and the timing of expected order flow in several contracts, we expect that more than 50 percent of our forecasted revenues and earnings will occur in the second half of the fiscal year.

Operating cash flow levels for fiscal 2005 will remain strong at around $80 million as working capital levels diminish during the year, particularly in the second and third quarters. Capital expenditure levels will be higher in 2005 at nearly $20 million, primarily due to the construction of the aircraft immigration facility under contract with the Coast Guard, combined with the ongoing investment in updated IT systems throughout the Company.

Now back to Gerry to wrap up our remarks.

Before we open up the call for your questions, I would like to take a minute to express my appreciation to my fellow teammates within the office of the Chairman, Mike Shanahan, Gary Gerhardt and Ron Davis for making the transition into my expanded role as CEO a very simple and enjoyable experience. Although much of my day-to-day business management activity hasn't changed with the new position, it is still is a comfort to know that I have the full support of the Chairman's office.

In addition, both of our Group Presidents, Dan Rodriguez, who by the way is currently recovering from recent surgery, and Nick Enterbecter have really taken on an abundance of new responsibilities, and I sincerely thank each of them for their efforts during 2004.

Most importantly, we owe our thanks to all of our management and employees throughout the organization for making our Company a success. It's these folks in the trenches that really impact the performance of Engineered Support Systems. The work they perform daily, at whenever level in the organization, makes the difference, and it is of critical, sometimes even of life or death importance to our customers, our deployed forces around the globe who defend the freedoms that we enjoy here at home.

Now we'll address any questions that our call participants may have. And thanks to you for taking time to listen in. Merry Christmas, and '05 will be an even better year. Thank you.

(OPERATOR INSTRUCTIONS). David Gremmels from Thomas Weisel Partners.

I wanted to start by asking about the opportunities in the armor area. This is really an area that really has a spotlight shining on it lately. You made some comments. I'm wondering if you can amplify on some of your earlier comments and just talk about what you're working on there, and specifically opportunities beyond the FMTV kits that we know about?

This is Gerry Potthoff. I'll take a shot at that, and others jump in. When we last talked, the last quarter, we were talking about something in the neighborhood of $30 million of entered orders in '04, and a portion of that does get completed in '05. At that time we said we expected about the same amount of entered orders activity in '05. We're going to stick with that within our base forecast, with recognition and two-year -- an answer to your question, we are working in a number of other areas.

First off most of the press, as you know, regards the personnel carriers, the Humvee. Secondly, they talk about the family of medium truck vehicles. There's a tremendous number of units out in theater and around the world. The input that we got more recently while we visited the Pentagon is that their intent, and that includes getting the necessary budgeting, is to armor all of those vehicles. And those estimates range in the thousands, from 4 to 8,000 vehicles that need armaments as quickly as they can get that.

That armaments includes armament not just for the cab and the protection of those in the cab, that armaments includes protection for what they call a gun truck. It is a vehicle that goes in the convoys, and it has soldiers in the bed trying to protect the convoy. Currently they have no real protection. So our guys have come up with designs that will provide armor protection for, if you will, the gun trucks.

We are also working on designs to cover various series of legacy vehicles beyond the family of the medium tactical vehicles. So there's a lot of activity going on there. I think the key there is that the military has committed to, as you know very recently, to provide all the necessary funding. And so our hope is that as we migrate further into '05 that we will be able to expand on our base forecast of uparmor, which is approximately $30 million.

Is that $30 million in entered orders or revenue?

Yes. Yes, David, it is in entered orders, but the expectation is that we will get quick turnaround, and also do the production and provide the revenue within the fiscal year.

Okay. So the -- so to just make sure I'm clear on this. If we looked at the vehicle armor opportunity specifically in terms of revenue in '04 and '05, about $30 million in both years in revenue?

That's within our current forecast, yes.

Okay. Got it.

The current base forecast, David. And as I said, we want to be conservative about that, but we believe we've got a lot in the way of design and manufacturing capability, so it will just take some time. I think the other points we have made, whether we're talking uparmor or any of these other things we were discussing in terms of entered orders this year, we more recently advised that that supplemental they have been talking about started about 50 billion and it went to 70 billion. Now they're talking about $80 billion of supplemental, which I believe they're going to be asking for in the January time frame. So if that is the case, you can imagine that a nice chunk of that will be used to support the uparmor requirements.

We are also by the way, I forgot, we're talking to some of the other providers of uparmor just to ensure that we totally support what you see in the papers, and that is to make sure that for our soldiers we have and we make available all potential manufacturing capacity that is in the marketplace.

Okay. And on the cash flows you mentioned that came in a bit below plan. What happened there? Did some collections slide into Q1, or what was the source of the variance?

Basically some of the -- there was a buildup in working capital in both inventory and receivables toward the end of the year. And as you see in obviously Q4 the revenue numbers are fairly high and some of that results in entered. And collections was strong into the first quarter, and we have generated cash well in excess of $50 million now in the bank after the close of the year end.

Maybe you can help me out. I am a little confused on the numbers. The press release says operating cash flow was 60 million and free cash flow was 57. So the difference implies only 3 million in CapEx. I know it was greater than that. What am I missing there?

It is net of property sales. We sold the facility down in Florida, our previously existing facilities that belonged to SEI down there during the year, during fiscal year 2004.

And how much cash was generated by those -- by the property sales?

About 6 million, something like that. I don't have the exact number here, but about 6 I think, something like that.

And any real estate sales planned for '05?

We have a facility here in St. Louis, the old Engineered Air facility, which we have several people interested in that seriously, and there is potential of selling that facility.

Is it too early to say what the proceeds from that sale might generate?

Yes, it's -- I don't know, say for round purposes a 3 to $4 million facility.

Okay, and then last question. Just wondering if you have the order split between Systems and Services for the year fourth quarter?

I'm sorry? Try that question again. What is this split so I can understand the question?

The new order bookings were 938 million for the year, and I'm just wondering how that split between Systems and Services?

I'm going to say it is 55, 45.

Yes. It is about 55 services, 45 manufacturing, our Systems side just roughly.

Carl Foreman (ph) with Bank of America Securities.

Nice quarter guys. I just have a -- just one big question, and this is on everybody's mind. You mentioned the supplemental. Now you think it might be coming in at 80 billion? I've seen (indiscernible) data it might be 80 to 90.

Right. I hadn't heard that.

Yes. You spoke about the up armoring opportunity a bit. Maybe you could just flesh out a little bit more for us where you think your opportunities from the supplemental might be? And then also to what extent you'll get revenue growth in -- and of course some of those revenues will be related to the fiscal year '05?

Again we will start, Carl, with the commentary we're having with David, whereas our base forecast says approximately 30 million in it. If you look at just opportunity in the balance of what we could participate in in the family of medium tactical vehicles, there may be another 20 to $30 million worth of opportunity.

As I said, we're also -- we have designed armor protection for different applications within that family of vehicles. Again there are, what they refer to as legacy vehicles. There is a 915 series of legacy vehicles. These are in many cases huge trucks. And there are things that historically they haven't really thought about in terms of armor. We're talking potentially something in the neighborhood of $20 million of opportunity there. So I hope that covers it, but there just is -- as that subject continues to develop, it's a very live subject. And we just believe that we've got the design solutions, and we obviously have a lot of manufacturing capacity.

So if you want to believe that supplemental is really going to put sufficient funding in place, I suspect that the range for our entered orders is somewhere between 30 and $70 million in total for the fiscal year. Having said that in terms of revenue, again, we are geared up to provide quick turnaround. I think, and maybe this sounds like bragging, but I believe it is true. I think we're the only ones that have really been completely to schedule on our uparmor solutions. And we've had outstanding success. We've had hits in the theater on our armor protection kits, and our soldiers have survived very well. So we felt right -- we're just delighted of the success that we've had in that particular area.

Gerry, may I mention that -- Gary and Gerry and I were at the Pentagon two weeks ago, two or three weeks ago. And there has much said about our military being inadequately supplied with uparmored vehicles over there. I can tell you that it is not because the Pentagon isn't trying very, very hard and using every resource within their reach to get those uparmored vehicles to the troops so that -- business is one thing, but defending the country is another. They are working very, very hard to see that that is done.

What about -- is there any opportunities beyond this uparmoring opportunity for you guys?

Beyond the uparmoring? You have to expand, Carl.

You mean other equipment?

Right. And is this 20 or 37 (ph) million you talked about (indiscernible). Is there an opportunity beyond that in other services that you guys might be providing?

Yes, are you ready for long answer, Carl?

Yes.

Last quarter, I don't recall whether you phoned in, but we talked about filling the holes that had to do with some of the reduction in manufacturing of the Tunner program. We started with talking about MSTAR. And here we're just going to cover generally your question, and hopefully it will cover other questions that folks may have on entered orders.

We said that we expected to book $35 million in MSTAR for this fiscal year. We have booked to date -- our first month we booked the first 5. We still think there's at least 30 to $35 million of new opportunity in MSTAR. We just talked about uparmor and that will support -- we expect it to add another depot to support in fiscal '05. We've done that. And that is the army's Tobyhanna Depot. For openers that's a 10 putter (ph). We believe that can grow two to three times that amount.

Last time we talked about M1000 reset. We reported an initial $11 million contract. We expect to book 30 to $40 million during fiscal '05. Last time we talked about Homeland Security and perimeter security. We have -- we got some exciting things going on there in terms of developing Homeland Security and asset protection systems.

I think it's important to note that we don't want to be captive to large programs. We have talked often about being a capabilities based Company. There are many major new opportunities that we are working, fuel distribution systems, automatic test equipment, communications programs, reconnaissance and surveillance systems, security systems, depot support, refrigeration programs. And of course many of the opportunities coming out of the up tempo that we talked about being reset in the area of generators and environmental control and decon equipment and trailer programs.

So, Carl, there's a long answer, but you said earlier are there other opportunities, yes, there are many. The fact remains our military has been up tempo. And the kinds of things that we provide, the kind of things that they are going to focus on the next gosh three to five years, maybe ten years, we don't know. As Mike mentioned, we were in the Pentagon and talking to some of their top officers. And the one comment was, you pick when you think the war will end in Iraq and there will be a heavy tempo to include much of what you guys are involved in for the next three to five, ten years. So a long answer to your question.

No, that's helpful. And then maybe just one final thing. I know if you mentioned this before or if you can give it. But in '05 what sort of revenue split between segments and margins are you kind of looking at?

Try it one more time.

The Spacelink will obviously increase revenue on the Systems side rather (ph) than Services side, and as such we're looking at the Services side will have revenue a little over 15 percent in that -- in 2005. And I think the operating margin out there is about the same overall. It is about 15 percent. And going forward it is going to be kind of similar to what you saw in 2004. And again that depends a little bit upon some specific business and other things that happen during the year. But in general it is carrying the same line as '04.

Stephen Levenson with Advest.

On the Spacelink acquisition, you obviously have a great deal of certainty. And I certainly appreciate that. But is there anything that could upset your plans?

Anything could upset the plans.

Let me start, and if Gerry has got anything to add, obviously we have a definitive signed purchase agreement committing both parties to close the deal. And the deal is not closed yet. We have to go through Harts Scott Rodino, which we don't feel is any kind of a problem or a challenge in any way. And therefore based upon that, we would close 1 February. So until it is closed, it is not in the "bank". But relative to the deal itself we don't have any anticipatory problems in all in respect to getting the deal done.

It sounds great. In relation to the Tunner, is there an opportunity at some point to get reset or recap work on that? And it will require opening or closing facilities, or is it something you can handle in existing properties?

I hope it files (ph). Yes, we actually have in our forecast for openers $68 million a he year of entered orders and revenue associated with the ongoing support of that vehicle. And as the years progress, that will continue to grow. Now the unknown, which certainly should be interpreted as a positive, is what this current tempo of activity will result in in regards to the depot support and refurbishment of that product.

It is like virtually everything else we have produced, it was not designed to see the kind of experience that it is experiencing. So we have had some inquiry about what our capability is, and what we would need to do in a demanding situation regarding either the refurbishment of, or more Tunners. But we have nothing in our forecast for that now. We have a lot of capacity. We have access to all kinds of resources that have been dedicated and continue -- could be continued to be dedicated to the Tunner program.

Taylor Hoyle (ph) from Sidoti & Company.

My first question I guess pertains to the acquisition. Just kind of curious, looking at it more in a broad type of scope. What kind of opportunity are you just seeing in general in the satellite communications support business? And if you could just kind of talk about your acquisition strategy going forward, that would be great.

Sure. I'll take the first part of it, and Gerry and Mike can take the (technical difficulty) part of it. Just talk a little bit about the Spacelink business and how we think of it. First, I think that what is really key, and by the way starts with their personnel, which was we're very excited about. They are going to fit our culture very, very well. Just outstanding people. Having said that, it is highly complimentary. I think that is the first thing to think of in terms of Spacelink to TAMSCO. It represents all kinds of efficiencies that can result from the collaboration between TAMSCO and Spacelink. We think it was kind of an extension, if you will, of TAMSCO.

Their business models are a little bit different, and they are different because they have a different set of customers. And probably the best case in point would be TAMSCO's major customers is the Army. And the Army wants to buy the equipment, and TAMSCO provides the support in theater. And that is why we've got probably 100 plus people in Iraq and Afghanistan and Kuwait in support of that product.

In the case of Spacelink, with recognition that one of their major customers is Special Operations Forces, and just thinking of their mobile mission and the way the act, they want leased systems that again that TAMSCO people support. So the business model is in each case a little different, but when you think of it, and when you combine that with the list of new contract vehicles and the list of differing customers, it get really, really represents a real marketplace for us.

And having said that, again, we're not the major Earthlink type of satellite providers. We're not in compete in with the major telecommunications providers, primarily those if you will that will provide communications services for fixed installations. And that includes even for the military. In the case of TAMSCO and Spacelink their common mission is to provide bandwidth on demand by satellite to our military customers as they are deployed worldwide. It is noteworthy that they both market themselves as total solution providers of flyaway systems that support our overall strategy of serving a mobile military. So very synergistic. We really think with recognition that it is a large niche market, but it represents real opportunities for growth.

Okays so this is -- this is more of a company specific thing. It is not something that you're really saying within the satellite communications market. Would that be fair?

I going to try that one more time. I think the answer is yes.

It is company specific.

But again it complements very strongly what we have been doing with TAMSCO though.

That's fair.

As we go back just very quickly on our acquisition strategy, it's got to get over that initial strategic fit, which this did initially, before you even really look and see -- I mean you look at the same time to see how good a company it is and everything else. It doesn't make sense for it strategically relative to what we're doing or we where we are going then we stop looking. And this fit extremely well.

Okay. I guess moving on to something else, you kind of touched on it a little bit earlier, but the MSTAR program. I'm just kind of wondering what kind of traction have you gotten on that broad within the four militaries and other branches of our U.S. military? If you can speak about that.

It has -- when you think of some of the initial applications, such as that developed for domestic purposes, such as (indiscernible) security for many of our military installations in the U.S., we just scratched the surface. And so there's a lot of interest in that. We believe that we will continue to grow opportunity through our partnership with a companies like Northrop.

And then when you think of it, it's international, such as providing perimeter security for the Baghdad Airport. That gives you a little appreciation for the wide diverse capability that it has. So we're looking at a five-year potential for the MSTAR product and somewhere between 100 and $150 million. And that is split roughly two-thirds, one-third domestic and international.

Just one final thing. If you have it handy, could you tell me what funded contract backlog was at the end of the third quarter?

At the end of the third quarter?

Yes.

I don't know that we have that handy. We can get that to you though.

We don't have it right here to be honest with you.

Okay, I will call back after the call is over.

Selman Akyol from Stifel Nicolaus.

Nice job on the quarter. Just a couple of quick questions. First of all, can you sort of describe what future acquisitions are going to be looking like? Do you expect to be more on the Services side, more on the Systems side?

As we have always said as far as our growth plan long-term, we like the mix that we have had historically. And that has been revenue wise about 60 percent on the Systems side, 40 percent on the Services side. Now that doesn't lock into an exact number, and 50-50 is fairly close to that. But we're not heading toward a direction because of a whole bunch of reasons, including how well these companies complement one, and the opportunities of working together. Therefore we certainly will be looking and buying both Systems and Services companies going forward that, again, complement what we do, our strategy and complement the other business and so forth.

You know when we buy some of these companies there's a long list of things that we go through. And you have heard me say this a zillion times, but we do a lot of skating before we get to any kind to proposal or anything like that and so forth. And we buy great companies and that will continue. And whether it is on the Systems are the Services will not necessarily be a factor immediately if it is a great company and it meets that strategy and our continued growth going forward.

I think something that is important to us is that we believe that with the same kind of focus that we've had in the past, that we can incrementally improve the profit margins for our Services business, so that they are excellent complement to our overall business.

Got you. And then just going back to the supplemental funding coming up in January, clearly you have outlined uparmor as being one possibility coming out of there. Are there other opportunities you're seeing? Is it mainly in the reset business, or are there acceleration for generator sets? Could there be more done for environmental control units? Or are there other opportunities that you're seeing that you can kind of identify for us?

I think -- yes, I think there probably were some. I think you covered some of the very key ones, because when you think of what you just said, you're talking about a large portion of our total business when you think of portable power generation, you think of environmental control, you think of refrigeration, and decontamination. When you think of that supplemental, the last -- if you recall, the last major supplemental, if I have this and my recall services me, much of that had to go to improve support of our soldiers, anywhere from benefits to all kinds of other things. I think this supplemental really is highly equipment and service based for those folks in theater.

So when we go from A to Z regarding our product and service offerings, we just believe that this covers the whole waterfront for us. And again, I think what is interesting is that whereas we might have talked about major programs in the past, major new development programs in the past, such as fuel distribution, trailer (indiscernible) air-conditioning. Some of the new things that they really need, we're working on n those programs as we discussed here this morning. We're working R&D, technology development in the area of portable power generation to include fuel cells. We're working environmental control in our air-conditioning, and heating and cooling for the military. We're working water on the battlefield. We're working next generation software for automatic test and diagnostics. And as I said earlier, we're working Homeland Security technologies such as perimeter and asset protection. So the supplemental that we're talking about has to be used for just many of those things that we're discussing here this morning.

Let me try this a little bit more differently or direct. If you were to take a look of all those opportunities from A to Z would you say that it could be a couple hundred million dollar opportunity, a hundred million dollar opportunity?

Sure. Pick a number. It just has to do with the timing associated with it.

Eric Hugel from Stevens.

A quick question for you guys. In regards to the systems margins, they were not as strong as we had anticipated. And on a go forward basis I guess my question was what do you anticipate this to look like?

Well, --.

You might try it one more time to make sure that we've got that.

Who is on the call please?

It's actually Barbara Stockwell calling for Eric Hugel.

Eric got lost here.

Let me answer that. This is Gerhardt, Barbara. A couple of things. Number one, remember in the fourth quarter in the numbers, and it is allocated between those two sectors -- segments is the termination costs associated with the prior CEO. So that had some impact upon the margins being lower on a go forward and run rate basis than you would expect, okay. There is -- and that is kind of -- it is obviously distributed approximately by revenues, but there's a significant amount of dollars in there.

Other than that the quarters vary significant -- can vary significantly under the services end of the business based upon how much DPGDS business is out there, how much armor business is out there, how much communications business is out there. All of those are very profitable, strong double-digit performers at the operating level versus the old time services end of the business, which could be cost-plus our time and material, which could be anywhere between 5 and 10 percent as far as a fee basis. So again, it is going to vary from quarter to quarter. Please remember there are some other costs in that fourth quarter that on a run basis will not be on there.

Kurt Catholic (ph) from A.G. Edwards.

I wanted to ask you a question about whether or not your guidance includes for expensing of options in '05?

No. Now, it doesn't. I'm sorry. I'm just clarifying here that everybody can hear it. Does guidance in '05 include for any expensing of options and so forth.

Yes, it goes live for us right now in the fourth quarter of '04. It is an item that we going forward will have to look at and respect to any additional grants of options, obviously like a lot of firms will have to look at it as far as impact.

Okay. That's some of what we're hearing from a lot of other companies. Tax rate going forward?

Right now the rate we have adjusted that to 38, and that would be our guidance what we see going forward. We will continue to work the tax situation. There are opportunities for it to go down sometime in the future. Maybe -- probably not going to go up, but we will continue to -- we look at that obviously quarterly. And your auditors look at it very closely. Nowadays you have to do a lot of substantiation to make your auditors happy relative to what that tax rate is.

Sure.

And we have had a lot of success in respect to doing that, but please remember the other thing is that as a defense contractor we don't have a lot of unusual things going on out there that other companies may have that can impact tax dramatically.

You may have touched on this, I didn't hear it. But in your release you talked about a contingency on Spacelink. I guess subject to performance. I assume that is sales performance?

There's an earnout.

Can you guys add any color on that? What is the additional extra prices kind of what I'm curious about, if things go well?

I don't have that in front of me. It is not much. But any company that you look at that has substantial growth going forward, it is better to put it in terms of an earnout. And Spacelink certainly has some potential for some tremendous growth going forward. It's no more than 20 percent of the purchase price.

You guys mentioned that their full year sales for 2004 were expected to be about 95 million?

Yes.

A feel upon the EBITDA for '04?

Midteens, conservative number, midteens. It is a very profitable company, with some opportunity for some growth in that area too.

Okay. You guys have been planning on making some pretty significant pension contributions over the year which you were doing. What did you close the year at on cash flow for pension, or to pension?

Golly, it seems like -- I think we've got that number here in front of us.

Okay. I know that's an area you guys have been kind of working to shore up the funded status of your pension.

Yes, we obviously would be one of the better positioned people, not only in the defense industry but in the world relative to that, since we don't have -- it's not that significant a portion of our business. It relates mainly to one subsidiary and one subsidiary only --.

SEI.

SEI, yes. And we have had some pretty -- some real good market performance in the last couple of years. We've done extremely well relative to that since the market has turned around. We've -- everybody would be happy to get the results we've had in the last couple of years relative to the fund's performance in pension in the last two years.

It's something you've got to watch, but it's not that big an item. It has never come up the top where we -- it has worried us that much relative to impacting earnings or anything else going forward. But yes, like a lot of people, we put a lot of money in it. A lot of other eyes got much bigger problems than that than we do.

So you guys are leveraged to rising discount rates pretty effectively too. I guess one last thing. Historically guys haven't seen any issues with raw material pricing increases or inflation causing you guys any trouble. I'm assuming that is still the case?

You know steel of course is the big item. And steel has impacted, or has been involved in two major programs over the last couple of years. One is the Tunner. The Tunner has what is called a look back provision in it. We're going to call it -- it is not cost-plus related, but basically there is some sharing. We continue to under run, which makes for great profitability. And if steel prices go, we just don't give quite as many dollars back to the government in a simplistic state.

The uparmor certainly has that thing. Those are sole sourced negotiated contracts, letter (ph) contracts, so basically you depentitize (ph) ties what you're going to pay your vendors before you depentitize with the government, so you get real dollars there. So as such that -- a lot of our products have a lot of aluminum in it, which hasn't been an impact a lot. We do pretty good job of watching that. So a long answer to a short question, that no, we really have not been impacted by raw material costs over the last few years.

Robert Winslow with Harris Partners.

Just if we could briefly read us at the MSTAR. I wanted to confirm last quarter talked about 35 million MSTAR for '05. It sounds like you have reiterated that here this morning?

That's correct.

And also I believe last quarter talked about that business being distributed evenly throughout the year. I guess that would still be intact?

Yes.

Is it fair to say visibility on that side of the business is unchanged, or has it firmed up? That 35 million is more firm now than it was before?

I think we feel firmer about it, because there are so many different potentials. In the aggregate I think we feel pretty good about it.

And then I understand the U.S. Army has been trialing the MSTAR. Any idea how timing of that sort of test -- testing would be shaking out? Is that something that could be wrapping up shortly?

The input on out is that they would expect testing well into the second quarter, because they've got any number of potential applications.

Right. And then lastly for me, do you break out what the total MSTAR revenues were for 2004?

Revenues. I think we have booked -- as I said earlier, I think we booked a little over 50 million. I don't know what that generated in terms of the revenue.

We think we don't have that number in front of us exactly, but it is somewhere around 70 million. We had the one order that was 62 million roughly, which most I think all of the revenue for that would be in '04, and then we had some other orders.

And we had some carry over quarter 3 I guess in '04.

Yes, so roughly 70 million worth of revenue in '04 MSTAR.

Aman Vanalli (ph) from John Hancock Advisers.

Congratulations on a really good quarter. You have answered a lot of heavy questions. What I have is just one housekeeping type of question. Do you breakdown your cost of sales or gross margin by segment, by the two segments that you report, Products and Services?

Do we breakdown gross margins?

Yes, or cost of sales.

It is in the Q. It is not in your statement's operating line, but the gross margins would be in the P&L. It is in the Q filing, which this year -- well, the Q or the K. The K is due roughly 15th of January this year.

Chris Donaghey from SunTrust.

Great quarter. A couple of questions on the Spacelink acquisition. I think the press release indicated that Spacelink had generated $95 million for calendar 2003. So my question is first of all was there some slowing in 2004, or what the difference is between the '04 and '03 numbers?

The '03 and the '04 members are approximately the same. Their projections showed some significant growth going on and so forth. They have little bit of quarter to quarter variance like we have historically and so forth. They have grown -- they have grown significantly since 2000, but we are very confident they are going to continue that growth pattern that they have had previously. Not quite as robust as it historically has been since 2000, but it will be strong going forward. But yes, revenues are kind of the same in 2003, 2004.

And, Gary, I think you said at one point in the conference call that they had a 15 percent operating margin. Was that correct?

Yes, EBITDA is in midteens, yes.

So I guess a 15 percent operating margin, that is considerably higher than your legacy services' revenue. So I'm surprised it is not a little bit more accretive than the initial cut. Are you expecting there to be an intangible asset -- amortizable asset that is going to be created and you are just not sure exactly what the size of it yet?

The last one is very important, and I always emphasize -- I'm sure people probably get tired of my saying it, but the old good news was that goodwill went away, and now we have amortization of intangibles. And so you get that finally definitized what that is, you have got to be kind of cautious, because SEC has come out not too long ago and basically told companies you will have amortizable intangibles on acquisitions. If you throw it in goodwill, we're going to come get you. And we've done that in all our acquisitions, since the guidance changed there, but basically that is the answer to it that we are not sure how much is going to flow through that P&L, so we have got to be cautious. But they are very profitable. It is a different business model then TAMSCO. Although TAMSCO's communication business is profitable, very profitable also. But this is an extremely profitable company.

Great. And one last question. Just obviously with the amount of armor work that is going on in DPGDS acceleration we have seen, the interest segment continues to climb. How should we think about that going into 2005?

Relative to --? When you say --?

From a modeling standpoint.

It is going to continue to increase probably. That has been part of our success story in respect to the DPGDS, the uparmor, several other significant products that we have utilized capacity ability, and all other words you want to use, between the divisions. And obviously that comes out in eliminations, but --.

I'm not sure I know -- we probably need to get that on a separate conference call, kind of do a little bit of head thinking. It is not going to have a negative impact, but you are certainly going to see, as we plan and hopefully see more and more intercompany work, because that has been very, very successful and very, very profitable to us.

That's fine. I am definitely not looking at it from a negative standpoint, just more how you model the systems.

Yes, I understand. With some of your models out there, computer models and so forth that -- it is not something that plugs in really easy. It doesn't make sense because some companies don't have it on a standard model. But it will be a significant amount of dollars going forward and will continue to grow.

At this time, sir, we have no further questions.

Okay. Well, thank you everyone for participating in the call. Thanks to Gerry Potthoff, Gary Gerhardt, Steve Wortman, (indiscernible), Ron Davis. Happy holidays to you all, and we will talk to you next time.