Leonardo DRS Inc (DRS) 2008 Q3 法說會逐字稿

Good day, everyone, and welcome to the DRS Technologies conference call. At this time, all participants are in a listen-only mode. Later we will conduct a question-and-answer session and instructions will follow at that time. (OPERATOR INSTRUCTIONS). As a reminder, ladies and gentlemen, this conference call is being recorded.

At this time for opening remarks and introductions, I will turn the call over to Ms. Patricia Williamson, Vice President of Investor Relations with DRS. Please proceed.

Thank you, J.D. Good morning, and thank you for joining us on today's conference call to review DRS Technologies' financial results for the fiscal 2008 third quarter and nine-month period ended December 31st, which were reported earlier this morning.

Hosting today's call are Mark Newman, Chairman, President and Chief Executive Officer of DRS Technologies and Rich Schneider, the Company's Executive Vice President and Chief Financial Officer. Before we begin, I would like to remind everyone that we're providing a simultaneous webcast of this call to the public. An archive of this web cast will be available later today on our web site.

Today's remarks may include some forward-looking statements and certain non-GAAP financials. For more information on the Company's definition of these non-GAAP financials and their usefulness in interpreting DRS's financial results, please refer to today's release and our filings with the Securities and Exchange Commission available on our web site. In accordance with Safe Harbor provisions, please note the risks and uncertainties related to forward-looking statements. The Company does not undertake any obligation to update any forward-looking statements, whether as a result of new information, future events or otherwise.

I would now like to turn the call over to Mark Newman. Mark?

Thanks, Pat. Good morning, everyone, and thank you for joining us on the call today to discuss our fiscal 2008 third quarter and nine-month results. As we reported in our news release earlier this morning, we achieved record results for the three-month period, demonstrating strong performance in all major metrics, including revenues, operating income, net earnings and earnings per share. The Company also generated a robust level of free cash flow, which we continued to apply to reducing our debt.

New orders for products and services were $858 million for the quarter, bringing total bookings for the first nine months of the year to a record $2.9 billion, representing a 1.2 to 1 book-to-bill ratio. Funded backlog at December 31 was a new high at $3.6 billion and places us in a solid position going forward. The Company's results year-to-date have provided us with the confidence to raise our guidance once again for fiscal 2008, which I will discuss later.

Earlier this morning, we were also pleased to announce a $0.03 per share quarterly cash dividend to stockholders of record as of March 14th, payable on March 31.

Now, taking a closer look at the third quarter, revenues were approximately $837 million, 23% over the same quarter a year earlier. This increase was entirely attributable to organic growth. Operating income was 20% higher at $92 million than last year's third quarter and reflected an operating margin of 11%. Our interest expense was 9% lower than the year-ago period, due to our focused efforts to prepay our outstanding debt. Net earnings were a 21% improvement over last year's third quarter at $43 million, bringing fiscal '08 third quarter diluted earnings per share to $1.03 or 20% above last year. Free cash flow for the third quarter of fiscal 2008 was $42 million. During the period, we reduced debt by $50 million and have prepaid $125 million in borrowings year to date.

Taking a brief look at the first nine months of fiscal 2008, sales were 17% higher at $2.4 billion than the same period last year. Nine-month operating income of $215 million was slightly above the nine-month period a year ago, despite the $37 million pretax charge taken in the first quarter on the Thermal Weapons Sights program. Net earnings for the nine months were $87 million and diluted EPS was $2.11, compared with $2.01 for the same period last year. Fiscal '08 nine-month free cash flow was $70 million, significantly higher than the $24 million reported last year.

As indicated in this morning's news release, we raised our guidance for fiscal 2008. We now expect revenues to range between $3.175 billion and $3.225 billion. We also increased our diluted EPS estimate, and we're now anticipating between $3.24 and $3.31 per share. Other details regarding our updated guidance are included in today's news release.

Before turning the call over to questions, I would like to take a few moments to mention a few operational highlights in the quarter.

During the third quarter, our C4I Segment began delivery of the next-generation computer for the FBCB2 program. This news server provides multi-core processing, increased memory and better expansion capability. The C4I Segment also delivered over 2,800 Driver Vision Enhancer A-Kits in the third quarter. The A-Kits include the pan-and-tilt mechanism and controls, brackets, electrical cables and assemblies used to mount the DVE B-Kits, which are the infrared display panels also produced by DRS. These are the first systems deployed with an electronic pan-and-tilt capability.

On the Joint Tactical Terminals program, C4I completed a critical milestone to demonstrate an intelligence network system complying with U.S. Army requirements, enabling us to commence low-rate initial production deliveries. JTT will provide more fighters with near real-time tactical intelligence and targeting information.

In the third quarter, our RSTA Segment completed the system requirements review for the Future Combat System's Small Unmanned Ground Vehicle, Short-Range Electro-Optical Unmanned Aerial Vehicle and Class 1 UAV programs. Each program has now progressed to the preliminary design phase. For the nine months, RSTA received over $100 million in contract awards for the Mast Mounted Sights on Kiowa Warrior helicopters, $50 million in awards for ground infrared detector systems and over $320 million for ground vehicle infrared sighting systems, including contracts under the Horizontal Technology Integration, Improved Bradley Acquisition System and Long-Range Advanced Scout Surveillance System programs.

Recently, we were proud to learn that Dr. Michael Kinch, a DRS employee, was chosen to receive the 2008 Military Sensing Symposia Levinstein Award. This prestigious award recognizes outstanding lifetime contributions and advancements in the field of infrared technology. Kirby Taylor, another DRS employee, was elected as a Fellow to the Military Sensing Symposia. This is part of the Military Sensing Information Analysis Center operated by the Georgia Institute of Technology under contract to the DoD. Mr. Taylor was elected as a result of his pioneering work spanning several decades in developing forward-looking infrared technology. We're extremely proud of these two outstanding individuals.

At our Sustainment Systems Segment, a number of programs progressed through some very key development milestones during the third quarter. The Modular Fuel Farm System, for example, completed a low-velocity air drop, the Transportable Decontamination System entered the low-rate initial production phase and the Expeditionary Warfare Packaging System was deployed to Iraq for a field demonstration.

Our Technical Services Segment won a $150 million five-year IDIQ Omnibus III contract from the U.S. Army. This is the third Omnibus contract awarded to DRS by the Program Executive Office for Combat Support and Combat Service Support. Technical Services was also awarded a $250 million multiyear contract with initial funding of $50 million from the Space and Naval Warfare Systems Center for communications to support the morale of our troops. Through this contract, DRS is providing satellite-based Internet broadband and voice access networks at more than 750 Internet cafes, so that deployed personnel can stay in contract with their families and friends overseas. Named the Morale, Welfare and Recreation Network, it will provide phone service, e-mail, Internet access and video chat capabilities.

As you are aware, earlier this week, the President submitted to Congress his fiscal 2009 defense budget of $585.4 billion. About $515 billion was designated for fiscal '09 baseline operations and $70 billion was allocated as a supplemental increment for combat support operations and the Global War on Terror. The '09 baseline budget proposal is about 7.5% above the prior year, and along with the current supplemental, was generally in line with our expectations.

While Congress will review the request in the coming months, we anticipate that the final outcome will remain essentially strong through fiscal 2009, supporting the reset, modernization and transformation initiatives of interest to us.

With that, I would now like to open the call for questions.

(OPERATOR INSTRUCTIONS) Gary Liebowitz, Wachovia Securities.

Good morning, Mark, and I guess Rich is there, too. Could you give an update on the Thermal Weapons Sights II program, how performance is going with respect to cost and schedule, and when you might be able to start booking a positive margin on the program?

In terms of a general overview, the program is going pretty well. As you know, we are back into production, and we have been ramping that up. So, we are delivering now in the thousands of units. So, that's very good news. The way we structured the program was basically to have it break even for the life of the existing contracts. Then, as the new contracts come in, we will start to see margin again on that program.

And you don't want to say when that might be?

Gary, right now, we don't expect a positive contribution on that program until fiscal '10.

Thanks, Rich. If I look broadly at the performance in the former Engineered Support businesses, I went back and when you acquired those businesses, you talked about an 11 to 12% type operating margin, including purchase accounting, and it looks like we're sort of in the 9 to 10% range. Is it a function of mix? Is it maybe order -- is it mix, or is it synergies? Or, what has been the biggest factor there?

The margins there are exactly what we thought they would be. We talked about the contribution to DRS. Remember, that they are now absorbing portions of our corporate allocation that previously were being allocated to what we'll call legacy DRS. So, those portions of the legacy DRS are more profitable, as well. It's very difficult to actually calculate the actual contribution.

George Shapiro, Citigroup.

A couple of questions. Mark, one for you. On the Thermal Weapons Sights [program], Raytheon was recently given a contract too. Is that as a result of the problems you had, and how do you see the competition between you and them at this point?

Remember, there are three companies now involved in TWS -- ourselves, BAE and Raytheon. In the initial contracts, it was just BAE and ourselves. I think because of the problems we were having when it came time to go into what they call the bridge contract, which is the next contract, they wanted to keep us in the running while we were working through the problems, but Raytheon is also a knowledgeable supplier. So, I think what they did, because this is turning into such a huge program, and we're talking about billions of dollars that are going to ultimately be spent here, probably 150,000 sights, I think they saw it in their best interest to broaden the field into three suppliers, which originally we thought was going to happen anyway. So, I think partially what is happening is, remember, we have all of the DVE sights we are making, plus the TWS sights. And when you start to divide it up, there's plenty of market for three competitors.

Another question, maybe this is probably better for Rich. Of the 23% organic growth, Rich, if we looked at it in terms of how much the Army grew, I would assume the Army grew even faster than the average of 23%?

Before Rich goes into that, let me just say something. Keep in mind that when we did the Engineered Support acquisition, we picked up a lot of Army business. So, it's not that all of a sudden, Army business is starting to flow in. We have all of the computers that we are doing on FBCB2, which is not related of course to Engineered Support, but then we have all the Support and Sustainment business, which is heavily Army-based. That is why we're looking at such a huge percentage [of Army-related business]. I will let Rich respond to the 23%.

I don't have a lot to add. I don't actually calculate organic growth by branch of the armed service; my gut would agree with you, but I can't really quantify it.

Rich, there's a big jump this quarter in SS revenues. Is this a new run rate? This has kind of been a lumpy business. Is there something unique that happened in this quarter were it spiked up so much?

No, it is a lumpy business. It's lumpy on the bookings, and it's lumpy on the revenues. Their business is ramping up, but we're not going to see that kind of organic growth every quarter.

And then another one, Rich. If you take your new revenue guidance, and even if you go towards the high end of that revenue guidance, it implies that fourth quarter revenues are going to be $870 million or somewhere around there, roughly up about 9% from last year's fourth quarter versus the year-over-year growth of 23% that we saw this quarter. And historically, that last quarter usually shows a bigger than $50 million jump sequentially. So, are you just being conservative in the guidance in the fourth quarter, or is there something out there that you see that is going to cause that deceleration in growth?

No. I mean 23% organic growth is phenomenal, and there's no way that we would do that every quarter. So, last year's fourth quarter was a very strong fourth quarter, and we expect a very strong fourth quarter this year.

Is there any reason why the growth would drop as far down to being only about 9% year-over-year? I could agree with you, 23% we're not going to get, but anything that hits you as to why it drops as low as 9%, though?

We're meeting all our customer delivery requirements and maybe it will be 11%. I don't know where it's going to come out. We're very satisfied with 9% organic growth.

One last one. The margin was lower than expected in the SS area. Was there a charge in there, or just reflective of a much higher volume of business where maybe the mix was a little more unfavorable?

We are having some issues with MES, the shelter business that we talked about in the second quarter and in the first quarter, and we did take a charge again in the third quarter. We think we have that business under control at this point, but we did take another charge that affected the margin, of about $3.5 million.

David Gremmels, Thomas Weisel Partners.

My question is on the MRAP program, and it looks like the new vehicle production is going to be mostly complete by later this year. What is your level of confidence that the customer is going to continue to buy FBCB2 and DVE at the same rates when MRAP is complete, or is it inevitable that there will be some difficult comparisons next year?

I personally think that we have not even scratched the surface on the FBCB2. I think you are going to see DVE on lots and lots of vehicles. So, the MRAP was an anomaly when it came in. As you know, we don't build MRAPs, we build systems that go on vehicles, and they happen to have chosen some of those systems for MRAP. I think they're going to be putting those systems in a lot of other places. So, I think we're looking at a very, very large market for this kind of stuff. We got into the uncooled business back in the early part of this decade, and we got into it because we saw that that was where the market was going. What is happening, because we can get the prices down on these sensors, they are finding use for these kinds of things all over the military, and it's going to go way beyond, I believe, the Army and even the Marine Corps. So, I think MRAP was a big shot in the arm. It's going to work its way through the system, but we don't label our systems MRAP. We just label them DVEs and FBCB2s. I happen to be sitting right now in Melbourne, Florida, and had an opportunity to tour the factory floor on the FBCB2, DVE and TWS in the last couple of days, and I can tell you there is no slowdown that we are seeing.

Okay. And along the same lines of uncooled infrared, Mark, what is your sense of the Army's plan for Driver Vision Enhancer? There is an RFI out for a family of DVEs. Will these all coexist? Will you compete for all of them, and do you have any sense for timing or size of these opportunities?

I think that the market size is going to be very large. I don't want to speculate how large, but it's going to be very large. I believe we're going to play a major role in every DVE-like system that is procured. And there isn't any question that every one that is competed we're going to go after. We're building more DVEs certainly than anybody because we're the only ones building them right now, and I think that puts us in a very good position in terms of our competitive strategy for winning future programs.

Great. One last one on SBInet. Obviously, you were on the Boeing team that won that contract a year, year-and-a-half ago, and you seem to have a key role there. But one of the things we hear about is this toolbox approach that Boeing talks about where they have multiple suppliers of key components and no one is guaranteed anything. So given that, do you still have the same expectations of maybe 10% program content, or is that that now overly optimistic?

No, I think that we have an excellent relationship with Boeing, and I think we have an excellent relationship with the end-user, and I think that we're going to see a good program there. It's all going to be a function of how much Boeing ultimately sees on this, but if the program goes as planned, I think we are going to have a nice piece of it. I think we are a valued member of the Boeing team.

There are no changes in your expectations there?

None.

Great, thanks very much.

Myles Walton, Oppenheimer.

Good quarter. I guess I would be following up to Dave's line of questioning on maybe MRAP versus JLTV. Obviously, there's a desire to significantly lower the price point of the vehicle by a quarter or a third towards the JLTV unit price, maybe $300 K or so. But the government-furnished equipment, including a big chunk of which you supply to MRAP I would assume would also be envisioned on JLTV. So, I guess, Mark, can you flush out, is the customer pushing that great reduction in overall vehicle price down to the electronics providers such as yourself? And will it be a case of driving unit prices down or essentially leaving electronics off the next system, the JLTV?

They are going to need the electronics on the JLTV. There's no point in having the vehicle without the things that you want to put on it. In fact, part of the reason they're going to JLTV from the HMMWV is because they are putting more things on these vehicles, so they need a heavier vehicle basically to carry everything because the HMMWV has run out of capacity. I think that what you are going to see is the JLTV will go through a development phase, then it will go into an LRIP phase, and then ultimately will enter production. In the meantime, MRAP was being procured to meet a specific threat that we are seeing in the theater. It's doing a good job from what I understand, thus far, and it's a totally separate vehicle. It's saving lives in Iraq right now. But JLTV has always been where the Army has been and the Marine Corps, for that matter, have been looking to go. So, I think there's going to be a good JLTV program, and I think DRS is going to play role in that program.

So, as maybe you envision the electronics portion of that program, it conceivably could be roughly the same content?

I think we might even see more content. It's really a function of what ends up happening with JLTV. Nobody knows yet, so we just have to watch that as it goes into the bid stage. Nobody has bid on it yet. The other thing, as far as the pricing coming down, the good news about military equipment when it gets into production is that -- and it's good news for the taxpayer -- is that we can get prices down because we have bigger volumes. And, as we get the prices down, what we are finding is they want to use this equipment in more and more places. So, that is a good thing for us.

Fair enough. And then, maybe on -- this is the last one, kind of nit-picking I guess, on book-to-bill out of Sustainment Systems on a trailing 12 months or even the year-to-date level, it looks like book-to-bill is running just at one times or maybe just a touch below one times. Is there something in the fourth quarter that -- or bigger, lumpier bookings that are to come in that business, or is there something that is preventing some growth there in the overall backlog in bookings?

We have always looked at our bookings on a one-to-one basis. That is what we've always tried to achieve. Sometimes because you get some large items that come in, it grows faster than that. And certainly if it grows faster than that, you can build a backlog and you have more to produce. But I think the fourth quarter will be decent. What we have been able to do is book throughout the whole year. Actually, we've been doing a great job of bookings. And I'd think you're going to see Q4 bookings are going to be good, too.

Let me also point out, while the book-to-bill is one-to-one, the organic growth is 23%. So, there is nothing wrong with a one-to-one book-to-bill when your organic growth is 23%.

I definitely appreciate that. I was more wondering in terms of the backlog at Sustainment in particular?

For Sustainment [Systems), we're expecting some good bookings there in the fourth quarter, but I will take a one-to-one [book-to-bill] any day if we can grow 23% organically every year.

Rob Spingarn, Credit Suisse.

Hey, this is Pete Skibitski, actually. Nice quarter, guys. Mark, I wanted to ask you, now that we are about three-quarters of the way through fiscal '08, I just wondered if you could give us an early read on how fiscal '09 is shaping up for you guys?

We don't forecast '09 at this point because we will do that at the end of the year, we will give a look see into '09. But certainly, we're going through our planning, and it's certainly looking like it's going to be good year for us.

Just a follow-up on the Mobile Shelter line there. If I think about it, it seems like that's probably one of your least technologically advanced product lines, I would think so. I was just wondering if you could give us a little more color on what the problem is there and how confident you are that you have it under wraps at this point?

I had the same reaction when I heard of the problem. I'm saying, gee, they're building shelters; that should be a piece of cake. But really the problem that they have had is there were two distinct businesses that happen to have been almost across the street from one another, and what we did after we had acquired Engineered Support was on one business, things were very clean and running pretty well. In the other business, it was a whole different factory. And because we saw the kind of work that was coming down, we went to integrate those two businesses. And even though they were in the same corporate park, they had different cultures. And so now you're trying to integrate two businesses with two different cultures. You want to introduce new processes. And that would have gone pretty smoothly if it weren't for the problem that the volume of work started streaming into the place. So, with all of this additional work, we had to go out and hire a lot of temporary workers to help out, and it became a snowball that just started running downhill, and they ran into some problems. So, we have put a dedicated team on this thing. We are getting our arms around it. I think we have gotten our arms around it at this point. The most important thing for us is that customers are sticking with us. We have a good bookings stream that is coming in there, and it's going to be a good business.

One follow-up (inaudible). Can you update us at all on progress in terms of increasing your international sales there?

I am about to schlep halfway around the world. I'm on my way to ultimately end up in India. There is a big ground and naval show there, and I'm taking a team with me, and we really want to open up the world. We've started to increase our business in Israel. We have some business we're working on in Germany. Certainly, our U.K. business is beginning to expand, along with some of the infrared work we are doing and in other parts of the Middle East. So, I think we will start to see that business pick up, as time moves on.

Our understanding is that we might hear an announcement in the coming months out of the Middle East. Som you think maybe pretty soon, we might hear something along those lines from you guys as well?

It would be nice, but I never speculate, as you know, on new contract awards. But obviously, there's a lot of activity going on.

Fair enough, thanks a lot guys.

Steve Levenson, Stifel Nicolaus.

Going back to the Driver Vision Enhancers for a minute, can you tell us in dollars how many dollars worth you've shipped and what you think the opportunity is on the new contract -- total, not necessarily what you get, but try to size the contract?

You might have that actual number (multiple speakers).

It's in our top ten programs, but I can't tell you what we have shipped cumulatively to date. I don't have that number in my head.

It's 10s and 10s of millions.

And for the new contract, do you think it will be similar to the TWS II and the [bridge] contract where it was about 2.5 times larger?

I think, yes, I think that's a very good call. (multiple speakers) It will be a pretty big program. We're doing very, very well on that program.

Okay, thank you. And then on the Mast Mounted Sight, I know you just recently got the order for additional work, and I guess with the Armed Reconnaissance Helicopter being delayed and potentially canceled, what is the outlook for Mast Mounted Sight? Can you put a timeframe on that, and again, try to size what might be out there for you?

There's no question that that's a helicopter that's being utilized, and they have to keep supporting. So, we're in the process now of negotiating the next five-year support agreement for the Army, which I think will be on the order of the last five years. So, I think that's becoming a very healthy program as some of these other things are slipping out. The fact is that helicopter is doing an excellent job.

Steve Binder, Bear Stearns.

Good quarter. Rich, can you maybe just touch on how much of the growth came out of the DVE kits and FBCB2 in the quarter for C4I, what percentage of the growth?

Hold on, Steve, let me just take a look. The FBCB2 revenues were -- year to date are probably up about 50% year-over-year.

And the kits? That's all incremental, but I'm saying -- okay, [I meant] for the quarter, just year-over-year.

For the quarter? About the same.

Okay. Can you maybe just touch on the saleable inventory that I think back -- for TWS, what is still left?

We started out at the end of the first quarter when we talked about the TWS program, and we said there was $30 million of inventory. That number is $21.5 million at this point.

When do you think there will be a finish?

I don't really know. There is a significant amount of orders out there that we expect to procure over the next six to 18 months that should deplete that inventory.

Just back on the margin on TWS, you touched on fiscal year '10 when you said you will start booking margin again. I think a couple of quarters ago, you said that your zero margin backlog runs out in May of '09. But any new bookings you get, are you going to be recording margin on that in '09?

Absolutely.

So, there will be some margin on the program in '09, right?

Remember, the bookings probably won't start shipping until fiscal '10. We will run out in May of '09.

May '09 is fiscal 10.

I know that. I'm saying, (inaudible) getting some bookings in fiscal year '09?

Our goal is to ship under the existing contract as fast as possible, and then there's margin in backlog, but that backlog won't ship until we finish this first contract.

All the new stuff we are getting probably won't ship for at least another year.

Mark, can you maybe just touch on, it looks like, I'm just guessing, the Army portion of your backlog was down a little bit because it seems like you got some agency backlog, agency orders and some Air Force and Navy stuff this quarter. Can you talk about strategically how important it is to diversify to the other services going forward either from new campaigns or from acquisitions?

Well, we don't look at this as something that we have to strive to do. We have always looked to diversify, and we just happened to do a lot of work for the Army, but they all also buy a lot of things. So, we are on a campaign to work the Air Force a little more, and I think we're starting to see some growth there. Certainly, our Navy stuff once they figure out what kind of shipbuilding program we're looking at going forward, I think we'll continue to grow. And then there's going to be a big back-fit program that's going to go into DDG-51 modernization, and I think we're going to play a role there. So, I'm satisfied that we have a number of initiatives going on with the Navy that can provide additional growth. Our intelligence business is doing pretty well. So overall, I think we are pretty well balanced. It just so happens that some of the things that we've purchased, some of the companies we've purchased over the last few years, as I've said before, happen to be involved heavily in Army work. So, that is how we have picked up a lot more Army business. But Army is still looking pretty strong, certainly for a number of years to come. I'm very pleased to be servicing the Army, trust me.

Rich, any reason why you -- had a strong quarter for cash and traditionally your fourth quarter by far and away is the strongest quarter. Any reason why you did not up tick the guidance?

No negative reason, Steve. It's just I'm conservative on the free cash flow generation, as you and I discuss every single conference call.

Good quarter. Thanks.

(OPERATOR INSTRUCTIONS). Michael French, Morgan Joseph.

You mentioned that bookings for the fourth quarter looked like they were going to be good. What particular programs are you expecting a decision on during the quarter?

I think probably if you had to look at one part of the business, I think it will be in the Sustainment Systems area. But the thing is that you never know exactly what month the bookings are going to come in. I know so far the quarter is looking pretty good from the early parts of what I have seen booked. But if we can achieve even a one-to-one [book-to-bill ratio] for the quarter, I think we're doing pretty well when you think of all the stuff that we have booked thus far this year. So, no matter how you're going to slice up this year, it will be a great bookings year for us.

I'm just wondering what particular programs you might be looking for. A couple of quarters ago, CEDS was the big thing we were expecting, and obviously, you have so many programs, there aren't many that are big ones.

That is the thing. And what it is, is there is nothing from a competitive standpoint that is hanging out there that is going to make a big dent. What it is, is really more of the same, of stuff we are already producing, and it's just a question of when they award the contract. They're going through their procedures right now. So, there's a number of things in the pipeline that we are just waiting to actually get a contract inked for. So, it's not like we're sitting out there worrying about 15 different competitions.

I don't mean to infer that, I'm just wondering what those things are in the pipeline that you're waiting for.

We don't lay that out, because then somebody looks at one particular program, they say did you get it, and that one didn't come in until April, and then it looks like you didn't give him the right answer. So, we try not to forecast individual programs (multiple speakers) looking ahead; it's just we don't do that.

Okay, fair enough. Moving on to Navy stuff, which you were mentioning, it seems that your Maritime Domain Awareness offerings are a hit with the Navy out here, a trade show in San Diego. The question I have is, are these the kind of capabilities that you could package and market to other entities, whether local or state governments for Homeland Security or perhaps international customers?

The answer is yes. Whether we can work those customers, state and local is very different than dealing with the federal government. International is a different story, and there are some capabilities that we are working on the international arena. So, there is no question, and I think we have some good capability in that MDA area.

Yes, like I said, it definitely seemed like it was a hit with the Navy folks here in San Diego. Good luck with the program and talk to you next time.

Yilma Abebe, J.P. Morgan.

In the past, you have said debt paydown has been a priority for you, and your leverage has come down. With leverage based on my calculations and under four times now, when do you start looking at perhaps other use of cash, share repurchases or anything of that nature, away from debt paydown?

Right now, we still have about $145 million of prepayable debt, and our top priority right now is to continue to pay down debt. We have made no secret of the fact that acquisitions are part of our growth strategy, and we continue to explore that area. I would assume that in the next 12 months, some of our free cash flow will go in that direction.

Thank you. That's it for me.

David Strauss, UBS.

Looking at your backlog, how do you feel about the margin profile of the backlog moving forward, I guess mix of business and exposure to different services relative to what we have seen? And then also on margins, just maybe talk about the fourth quarter margin profile. Obviously, your guidance implies pretty significant sequential margin improvement.

You have two questions there. Let me take the backlog question first. On a consolidated basis, we're still in that 10% to 12% range that we talk about. Clearly, we have said that there is TWS backlog there at zero margin. I talked a little bit earlier about MES that has some backlog there that we have to run through. So, I would say the backlog right now is around 11%, maybe a little south of 11%. It's not north of 11%. As far as the fourth quarter goes, it is going to be a strong margin quarter; the fourth quarter always is. Last two years, if you go back and you look historically, the margin has been just under 12% in both of those quarters. The implied margin in the guidance that we gave here is that it's going to be a little bit north of 12%, and I'm not uncomfortable with that implied margin.

And on MES, how are you booking that, Rich? Is that zero, and if so, how long does that run for?

The new business has margin; it's the business that's in backlog that has zero margin. And that will run out next year, but it will take awhile, at least the first two quarters.

Okay, great. Thanks a lot for the color.

We have no further questions at this time. I would turn it back to management for closing remarks.

Well, thank you. I think the strong operating results to date have positioned the Company well, so we would expect to remain on track with our objectives through the fourth quarter, and we expect fiscal 2008 to be another record year for DRS. I want to thank you for joining us on today's call, and I look forward to speaking with you again on our year-end earnings call. Good day.

Thank you for your participation in today's conference. This concludes the presentation and you may now disconnect. Have a great day.