iRobot Corp (IRBT) 2008 Q2 法說會逐字稿

Good day, everyone, and welcome to the iRobot second-quarter 2008 financial results conference call. This call is being recorded. At this time, for opening remarks and introductions, I would like to turn the call over to Elise Caffrey of iRobot Investor Relations. Please go ahead.

Thank you and good morning. Before I introduced the iRobot management team, I would like to note that statements made on today's call that are not based on historical information are forward-looking statements made pursuant to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. This conference call may contain expressed or implied forward-looking statements relating to the Company's financial results and operations, demand for the Company's products and services, and business conditions. These statements are neither promises nor guarantees, but are subject to a variety of risks and uncertainties, many of which are beyond our control, which could cause actual results to differ materially from those contemplated in the forward-looking statements. In particular, the risks and uncertainties include those contained in our public filings with the Securities and Exchange Commission. Investors are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date hereof.

Please note that a live audio broadcast of this conference call is available on the Investor Relations page of iRobot's website at www.irobot.com. An archived version of the broadcast will be available on the same webpage shortly. In addition, a replay of this conference call will be available through Thursday, August 7, and can be accessed by dialing 719-457-0820, access code 4007782.

On today's call, iRobot's CEO, Colin Angle, will provide a review of the Company's operations and achievements during the second quarter of 2008. Helen Greiner, Chairman of the Board, will discuss the impact on iRobot of recent developments in the Army's Future Combat Systems program and our Seaglider licensing arrangement. And John Leahy, Chief Financial Officer, will review our financial results for the second quarter. Then we will open the call for questions.

At this point, I will turn the call over to Colin Angle.

Good morning and thank you for joining us. First, I would like to formally welcome John Leahy to the iRobot team. As I mentioned on our last call, John is a seasoned public company executive with more than 25 years of experience at PepsiCo and Keane Inc. I'm excited to have him on board, and you will be hearing from him in a few minutes.

Last evening, we reported our 16th consecutive quarter of year-over-year revenue growth, despite increasing economic headwinds. We continued to execute against our plan, delivering first-half revenue of $124.5 million and pretax loss of $15.2 million, results that are substantially better than the guidance we provided for the period. I remain cautiously optimistic that we will deliver revenue of $295 million to $305 million and pretax income of $5 million to $7 million for the full year, as we discussed last quarter.

The second-quarter and first-half results demonstrate the resiliency of our business in an unstable economic market. However, continuing uncertainty about the second half compels us to remain cautious.

Our Home Robot division had a very strong second quarter, driven by Roomba 500's continued penetration of both domestic and international markets. We expect sales of these robots in both the US and abroad to drive second-half growth as well. Strong demand for our PackBot robots from the U.S. military is fueling our Government and Industrial division's growth. Orders received and anticipated for the PackBot with FasTac Kit provide us with excellent revenue visibility in G&I for the remainder of 2008.

The Company delivered excellent results in a difficult environment. During the second half, we will continue to drive topline growth while managing operations and costs to ensure that we deliver on earnings commitments. Now, let's look at the results in more detail.

iRobot's 43% revenue growth was driven by more than doubling the revenue in our Home Robot division. We see continuing strong demand from our retail partners both domestically and abroad. International revenue was up more than five times the level of Q2 2007 and comprised approximately 40% of total Home Robot revenue in the quarter.

Sell-through statistics, the truest and most important measure of demand for our Home products, are not as readily available for our international retail customers, but we are regularly monitoring our distributor's stock and gathering data from key customers. Based on the level of reorders across the board and discussions with our partners, we believe that sell-through is strong there. There has been positive response from promotional activities being launched in several European countries, and our partners are investing in in-store demonstration efforts, PR, display and promotional activities on a regular basis.

We started to look at expansion into Central and Eastern Europe and are currently evaluating several options for collaboration. But the impact for 2008 is expected to be minimal as we focus on Tier 1 markets. In Spain, Italy, France, Germany, Belgium and the UK, we have increased our retailer base and expect this to continue. We also launched direct sales sites in the UK and Germany during the quarter.

On the domestic front, Roomba sell-through was up in the second quarter, more than 40% over a year ago, largely resulting from Mother's Day and Father's Day in the second quarter. Our retailers are very pleased with customer demand for our product, given the overall weakness in the economy, and store inventories are at appropriate levels going into the second half.

Kin Yat, our Roomba 500 manufacturing partner, is entering the second season of production with a full year of experience, and we do not expect issues producing or fulfilling second-half customer orders. We are beginning to receive holiday orders from our retail customers, and initial indications are that orders will track consistently with our expectations.

Direct sales grew 5% in the second quarter year over year and comprised 19% of total HRD revenue. In the first half, direct sales grew 24% over last year. In 2007, direct revenue was exceptionally strong in the second quarter due to the infomercial-supported launched of the Scooba 380. Excluding this favorable impact, comparable year-over-year Web sales were up 40%. Our direct business is important and one in which we expect continued growth, especially as we introduce new and derivative products through this channel and continue to add direct capability to the international market.

The majority of Home Robot revenue is derived from the sales of our Roomba 500 series, but our other Home Robots are also selling well. Based on excellent response to the introduction of our Verro pool-cleaning robots last year, we expanded the line and added a cleaning robot for above-ground pools. We continue to see demand for these, as well as Looj, which was a very popular Father's Day gift.

Now, let's turn to Government and Industrial Robots. We delivered 170 iRobot PackBots in the second quarter and a total 326 in the first half, up 31% over first half of 2007. 100 of the units shipped during the quarter for PackBots with FasTac Kits. As we discussed in the last call, we expect to receive several large orders for FasTacs, which would initially drive an increase in backlog and then generate revenue in the second half of the year as we delivered against the orders.

The first orders of these were received in May and we began fulfillment in late Q2. We receive the second quarter for robots last week and have been informed that additional orders are forthcoming prior to year end. To date, we have received total orders of $44.5 million for more than 500 FasTac robots, plus spare parts under the $286 million IDIQ contract.

We have excellent revenue visibility into the remainder of the year and have already captured more than 75% of the Government and Industrial division's annual revenue that is contemplated by our full-year guidance. This captured revenue is in the form of shipped products, services rendered, executed contracts to be performed, and product backlog expected to ship this year.

Product backlog was $22 million at the end of Q2. This level increased from $13 million at the end of Q1, as we anticipated and discussed on our last call. Not reflected in these Q2 backlog data is the $17.5 million order for the 227 new FasTac robots just received.

Other exciting news includes the acceleration of the Future Combat Systems program. One of the questions we get most often is what will happen to your G&I business as the war in Iraq winds down? There is no doubt that the wars in Afghanistan and Iraq accelerated the acceptance of robots in the military, but there is a fundamental modernization going on in the Army, which will continue independently and after the conclusion of the current war efforts.

The acceleration of the Future Combat Systems program and the creation of other programs like xBot to deliver leading-edge technology to the infantry is proof of ongoing transformation in the military's thinking. Unmanned ground vehicles are here to stay, given the reality of today's asymmetric warfare versus the force-on-force combat of the past. Our robots provide unique value wherever our ground troops operate, as validated by the Army's acceleration decision.

Our customers will buy our products whether for fighting or for training. As the Iraq war winds down, more dollars will flow into development programs such as [SVS] that will modernize our forces, and there is bipartisan support for tools that keep soldiers out of harm's way. Helen will provide additional details on these development programs and our sole licensing agreement with the University of Washington to commercialize the Seaglider in a moment.

As we look to the second half of the year, we expect to deliver top- and bottom-line results within the estimates we discussed on our last call, despite the challenging macroenvironment. In Home Robots, for the full year, we expect a modest increase in units sold year over year, higher ASPs and lower return rates, all driven primarily by further market penetration of our Roomba 500 robot.

For the first half, unit sales were up approximately 80%, ASPs increased 15%, and to date, Roomba 500 returns have been lower than Roomba 400 return rates at the same point in the product lifecycle. The division is ahead of plan year to date. However, orders we projected for Q3 were received in Q2, so our full-year revenue expectations are unchanged.

In our G&I business, for the full year, we expect a significant increase in units shipped year over year, lower ASPs resulting from higher-volume orders, and a larger installed base from which we will generate more product lifecycle revenue, or PLR. For the first half, units shipped were 31% higher, ASPs were 23% lower, and PLR was 11% higher. This division is on track to deliver as expected.

In summary, we are successfully executing against our plan. The topline is tracking ahead of our expectations, and I am optimistic that we will deliver revenue within our estimated range, despite the negative sentiment in the customer -- consumer sector. Last quarter, we discussed several factors that were putting pressure on gross margins. We have made good progress on the initiatives to reduce product costs through engineering and the use of alternate materials in the Roomba 500, but we are finding it difficult to fully realize all of the expected cost savings due to rising costs of raw material, labor and freight.

Additionally, while we have seen improvement in return rates on our Roomba 500 series across the board, there is one customer for which we had modeled better return rates than we're experiencing. And as a result, we made an adjustment to the rate in the second quarter, which negatively impacted gross profit margin. John will discuss these factors further.

That said, we're focused on managing our operating expenses in a disciplined fashion to deliver the bottom line consistent with our guidance. The second-quarter and first-half results demonstrate our ability to grow during a difficult market. We are proving that our operations are scalable and that we can leverage our expenses. While there is uncertainty about second-half conditions, I am committed to delivering top- and bottom-line performance consistent with previous guidance.

I will now turn the call over to Helen.

Thank you. There's been much discussion about the Army's recent announcement regarding acceleration of the Future Combat Systems program, and I wanted to clarify some of the points as they relate to iRobot. It is important to note that our conversations with the lead system integrator and Army planners are ongoing, and based on that, I will not be able to answer all of your questions today.

As background, in January of this year, we announced that the US Army has accelerated its testing schedules for evaluating the Small Unmanned Ground Vehicle, SUGV, with COTS equipment. The updated plan calls for iRobot to deliver accelerated SUGV robots in the second quarter of 2008. The robots were delivered, and we have been undergoing testing at Ft. Bliss.

Following testing this summer, we expected a production decision to be made by the government in the fall of this year. The Army's announcement on June 26 confirmed our SUGV's formal inclusion in Spinout 1. This action constitutes the production decision on SUGV. The timing of production for all the elements of Spinout 1 has been pushed out by three quarters from the Army's prior plan. The current plan calls for the SUGV Block 1 to go into production Q4 2009 and continue into 2010 and beyond.

Until now, we have been engaged with the system design and development phase of the FCS SUGV program. To date, $48 million has been spent under the $64 million FCS contract. With this decision, a COTS version of SUGV called SUGV Block 1 has been pulled forward to the earliest production and deployment for FCS.

We will now begin to work in parallel with the FCS Spinout 1 organization responsible for production of all Spinout 1 systems to define costs, schedule and milestones required to facilitate and achieve the Army's objective. This organization is already engaged with the earlier defined elements of Spinout 1. Now there will be additional scope in the Spinout 1 effort beginning in October 2008 to get SUGV Block 1 ready for production.

We will also continue working on the original FCS system design and development program. When complete, the product will be an SUGV with networked C4ISR, or command, control, communications, computers, intelligence, surveillance and reconnaissance capabilities, compatible with the entire FCS system of systems. This means that in addition to revenues from production facilitization phase, we will also receive contract revenues as we further develop SUGV's capabilities. This development program will be completed in 2013.

Demand for SUGV outside the FCS program, but within the US Armed Services, is strong. The international demand for these robots is also strong. And we will be ready to deliver these robots to meet demand in early 2009.

In another exciting development, we announced that iRobot has signed a sole licensing agreement with the Tech Transfer Office at the University of Washington to commercialize autonomous underwater vehicle Seaglider technology previously supported by the Office of Naval Research and the National Science Foundation. University of Washington developed and proved the Seaglider long-endurance autonomous underwater robot over several years and had started to receive regular orders from the US Navy and oceanographers exceeding their charter and capacity.

After a competitive review, they concluded that iRobot has the right skills to transition the Seaglider to production and support sales to these customers and the broader underwater military and commercial markets. We are in the process of the technology transfer of the Seaglider and pursuing market opportunities. We believe that underwater unmanned systems and unmanned surface systems represent a significant opportunity, not only for stand-alone unmanned systems, but for common control and for a software architecture that is able to accommodate autonomy across the full spectrum.

Unmanned aerial vehicles led the way in unmanned systems, and the market penetration there is well over $1 billion a year. Unmanned ground vehicles are enjoying a faster adoption than these UAVs, in part because the missions are so dangerous. Underwater systems will certainly follow.

We have a strong track record of transferring new technology from research initiatives into products that support military missions, and licensing the Seaglider from the University of Washington will help iRobot conquer the new underwater frontier. Right now, there are about 70 Seagliders in the field. Most are used by oceanographers for research, but a few are being used by the US Navy, and we see them as a potential customer going forward.

As you can see, not only are we executing against our plans, but we have a number of exciting opportunities that will fuel our continued growth. I will now turn the call over to John for a review of our financial results.

Thanks, Helen, and good morning, everyone. As Colin said, I joined the Company in early June and look forward to getting out to meet many of you in the coming months.

Our financial performance for the second quarter exceeded expectations at both the top and bottom line, despite weakness in the economy. Revenue grew 43% over the second quarter of last year to $67.2 million, driven by Home Robot division revenue, which more than doubled year over year. For the first half, total revenue increased to $124.5 million against first-half guidance of $109 million to $112 million.

The pretax loss in the second quarter was $8.8 million compared with $4.8 million a year ago. For the first half, we reported a pretax loss of $15.2 million compared with $10.2 million a year ago and first-half guidance of a loss of $17 million to $19 million.

Net loss per share was $0.18 for the second quarter and $0.35 for the first half compared with guidance of $0.42 to $0.45 net loss per share. Higher revenue and savings and operating expenses drove this significant favorability. A change in our tax rate, which I will discuss later, also favorably impacted EPS.

Looking first at Home Robots, we shipped 237,000 robots and generated revenue of $42 million in the second quarter compared with 99,000 robots and revenue of $17 million last year. We expected revenue for the division to be higher than last year due to the Roomba 500 product transition that we effected in the second quarter of 2007. However, our revenue was fueled by greater than expected growth in the international market, which totaled $18 million or 44% of revenue in Q2 compared with $3.5 million or 20% last year.

In the G&I division, as we expected, total revenue declined 14% due to lower product revenue. Contract revenue increased 15% due to increased work on the FCS program. G&I product revenue was $19 million in the second quarter compared to $24 million a year ago. We shipped 170 robots during the quarter, 100 of which were PackBots with FasTac Kits. Last year's Q2 was favorably impacted by delivery of 88 PackBots with ICx Fido Kits, which carry substantially higher ASPs.

We received a FasTac order during the quarter for $16 million and recently received another order for $17.5 million. These two orders and at least one additional order which we expect in the third quarter will drive second-half G&I product revenue.

For the total Company, gross profit margin for the second quarter was 24.5% of sales, down from 32.4% last year. Home Robot gross margin declined 5.5 percentage points, while G&I gross margin declined 10.5 percentage points.

The most significant factor impacting Home Robot margins was revenue mix. A higher percentage of international revenue and lower percentage of direct revenue accounted for 4.5 percentage points. Net returns for select Home Robot customers accounted for an additional 2.5 percentage point decline. These were favorably offset somewhat by improved warranty and overhead costs.

Increased overhead as a percentage of revenue impacted G&I margins by about 11 percentage points. Increased revenues -- increased investments to drive scalability accounted for 5 of those points, facility costs for 3 points and lower Q2 revenue for 3 points.

In the second quarter, we continued to closely manage operating expenses, which were $26 million or 38% of revenue compared with $21 million or 44% of revenue a year ago. The 6 percentage point improvement reflects our increasing scalability and focus on expense management. Included in the Company's results for the quarter were approximately $800,000 in costs associated with the relocation of our headquarters, which was allocated to both cost of revenue and operating expenses.

The Company's effective tax rate has increased from 37.3% in the first quarter to 43.9%. A cumulative rate change was booked at 48.8% in the second quarter. The higher rate reflects the impact of the lower pretax profit estimate for the year we provided last quarter, higher FAS 123R expenses, and an increase in the estimate of state taxes for new state jurisdictions in 2008. This increase will negatively impact after-tax results and EPS calculations in the second half of the year as we will be booking to the 43.9% rate.

At the end of the second quarter, we had cash and investments totaling $30 million compared with $38 million at the end of March. Included in the Q2 balance was $14.8 million of auction rate securities, or ARS, compared with $15.4 million in the first quarter, reflecting further discounts booked to other comprehensive income on the balance sheet.

At the end of the quarter, we had eight ARS investments. On July 7, the issuer of one of the investments refinanced and redeemed the note at par. That investment of $1.2 million was classified as short term at the end of the quarter.

Days sales outstanding were 36 days, down from 39 at the end of the first quarter. You should expect the DSO trend for the remainder of the year to increase somewhat as our retailers begin stocking for the holiday season. Inventory was $43 million, down from $46 million at the end of the first quarter. And inventory turns were approximately 4 times. We expect inventory levels to be flat or slightly up in Q3 and then decrease in Q4.

Finally, during the quarter, we recorded a $4.7 million long-term liability associated with the Company's office move. This reflects the portion of leasehold improvements paid by the landlord that extends beyond one year.

To summarize, the second quarter was stronger than expected in a tough environment, indicating the attractiveness of our business model. For the balance of the year, we will continue to aggressively manage operations and costs to ensure that we deliver our commitments.

Now I would like to turn the call back to Colin.

Thank you, John. In conclusion, we successfully executed against our plan, despite economic headwinds in the US, exceeding expectations at both the top and bottom lines. And while there is a great deal of uncertainty about the economy for the rest of the year, we are committed to deliver a second half that results in full-year revenue of $295 million to $305 million and pretax income of $5 million to $7 million, consistent with our previous guidance.

We'll now open the call for questions.

(Operator Instructions). Paul Coster, JPMorgan.

Helen, if I can start with you, I got a little bit lost in the details on FCS, and I will probably take it offline. But am I correct in thinking here that the formal FCS program is shifting out a little bit, but that your COTS program allows you to sell in parallel to other potential customers in the military? Is that the right interpretation here?

Yes. Just to keep it clear, that version we call SUGV [Early].

Got it. And then any news on Warrior?

As we said last time, we expect to sell just a small amount by the end of the year. It is on track in its development.

There are some near-term positive developments that we didn't want to talk about on this call, but we expect to do so very soon. It is our policy to sort of wait until things are really [saucered and flowed]. So you will have to hang on a bit for more news on Warrior, but it is on track.

Got it. The international sales, what percentage of it was sell-in versus sell-through? In what is the revenue recognition policy there for new distribution channels?

We recognize our international revenue on a sell-in basis. We wanted to say something about sell-through, despite the fact it is difficult to collect internationally. So that is why I spoke to the fact that we're really reaching out to our retailers and monitoring inventory levels so that we can ensure that we are not -- we are seeing something far more than just channel fill for new retailers.

Okay, got it. Nickel prices, what has happened there, and how have you locked in or not to the costs there?

Paul, nickel prices on the market have actually declined throughout the year. But as you might recall, the Company locked into fixed prices for batteries at the beginning of the year. So the day-to-day or month-to-month movement of nickel has been really not a factor for the Company this year.

Got it. Last thing, John, I'm still a bit troubled in my own mind about the gross margins for the businesses. It feels like it should be a higher gross margin business in aggregate. And I'm not just talking about this quarter; I'm talking about long term. Do you have a view as to what the long-term business model will look like here and whether it can be improved dramatically from the current level?

Well, I will be careful with what I will say here, being only about six weeks in. But I would say that we are clearly all focused on growing gross margin over time. It is obviously important. Over the last several quarters, it seems like there has been something each quarter that comes along, such as nickel last year, that hurts gross margins.

So it is something we certainly focused on in terms of growing the various elements of gross margin, both price and cost. This quarter was interesting because it was -- margins were more heavily impacted by revenue mix shift, both in the Home division and G&I. But leave it to say that it is obviously important for us to grow margins in our model over time, and we are focused on that.

Alex Hamilton, Jesup & Lamont.

There was a big shift, obviously, in the business mix between Home Robot and Government and Industrial. Do you think that is going to change expectations going out, or should we still expected something like a 60/40 mix, Home Robot to G&I?

The shift that we saw in the second quarter was something that we saw coming and actually tried to message last quarter. It is just the lumpiness inherent in our Government and Industrial business model means it is out of our hands when the bulk of the orders come in, so that as expected, we saw some significant FasTac orders come in that built up our backlog from where they were at the end of the first quarter, and we'll be shipping against that increased backlog in the back half.

So this is not a trend. This is just the way 2008 is playing out, so that our expectation for overall mix remains unchanged. I think 60/40 is a bit skewed. We will see something closer to 55/45 on the year. But again, the back-half uncertainty in the economy keeps us from making some strong statements about what is going to happen back there. But we are in very good shape going into the back half.

Okay. And then just secondly, kind of in your closing -- or at the end of what you had just said, you are talking about the uncertainty in the consumer. It still seems to me, maybe if you can expand on that, you had a terrific quarter. It looks like your G&I is going gangbusters. Can you talk about, especially with the background of the growing or the robustness of those international sales, talk specifically, if there are specifics, as to where the concern is on the consumer side, or the temper or the caution?

Okay. Well, the concern is really just the macroeconomic environment. The consumer confidence is at a low since 1980. There's a lot of anxiety out there in the marketplace. But clearly, from our Home sales side, we aren't seeing it. We had a great second quarter that is showing strong momentum moving into the back half.

So it would be -- we are just trying to be respectful and mindful of what we are hearing in the marketplace, trying to anticipate the fact that our retailers in the back half may be less aggressive than they have been in past years, placing early orders. And again, we want to manage expectations. But we had a great first half and we are carrying that momentum into the back half.

I think that is an important point, the fact that I think the Roomba is probably considered somewhat of a luxury item, and given the macroeconomic concerns, you guys have been doing well.

We are sharing you the data that we have thus far. It is the macroeconomic anxiety which cause us the consciousness.

Jim Ricchiuti, Needham & Co.

John, you gave quite a bit of information on gross margin, and I may have missed this, but I wonder if you -- I thought you alluded earlier in the call to just some higher costs associated with labor, materials. Can you give us some sense as to how much that impacted your margins in the quarter? You may have given it; I may have missed it.

So let me just recap. In terms of the impact, the pressures on margins, it came on several fronts. So as I said in the script, revenue mix had the largest impact on the Company, about 4.5 percentage points. And that was driven by the shift in Home, with a lower direct mix and higher international, and then from G&I, just with the nuances of this quarter, G&I product making up a lower percentage of mix than normal, and versus last year, certainly.

The other significant impact on gross margin, which I alluded to, was returns. And in particular with one of our key clients, which has a very liberal return policy, returns have been higher than the Company had modeled earlier in the year. So we had to make an adjustment in Q2 for that. So those are the large items.

On the flip side, as you know, we have had an initiative to take costs out of the Roomba product in particular. And we have made good progress across the first half of the year in doing that. However, there are now some headwinds which we were referring to which have pushed back some of those cost savings, largely driven out of the production facilities in China, where we are experiencing or the manufacturer is experiencing some pressure on labor, some raw materials, but probably most significantly freight now in terms of the shipment cost to send stuff across the ocean.

So those items have served to somewhat mitigate the cost initiatives that had been underway in the first half of the year.

And those issues, I would assume, are going to be something you're going to have to deal with on an ongoing basis, particularly in the second half of the year, with the mix shift towards, particularly in Q4, toward the Home Robot business?

Yes, that is right. And particularly freight is what we're keeping our eye on. With the cost of fuel, freight charges have been going up. We have built into our forecast for the balance of year some assumptions around higher freight costs based upon what we are seeing. But that is an area that we are watching very carefully.

I just want to make the point that the Roomba 500 series is still quite a new product, and our [cost side] initiatives are ongoing, so that the inflationary pressure on raw materials and the increasing cost of transport is being -- that's the negative driver, and continuing efforts to continue to reduce product costs and work aggressively on Home Robot margin of our products across the board is working in our favor. So it is going to be a -- it's a bit of a footrace in 2008, but something that we see going forward, a race that we can significantly win.

Now, you alluded to an order, I think, some order or orders in the Home Robot business that you had projected to see in Q3. You saw those, I think, in Q2. I wonder if -- I think in the last call you may have given us some sense as to how you thought the Home Robot business would grow in the second half of the year. Somewhere in my notes, I think I have up 25% to 30%. I wonder if that is something you might be able to update for us?

That is a full-year figure that we gave. And so some of the upside that we saw and booked in Q2 is due to this shift of orders from Q3 into Q2. Important that we are reiterating our commitment to our original full-year guidance. Obviously, the growth that we have seen, extraordinary growth that we have seen in the Home Robot division in the first half allows for us to be more conservative in predictions of growth in the back half for the reasons that we have already given.

What drove that -- I'm curious what might have driven the orders being pulled in. Was that more of an international issue?

No, those were domestic orders that were pulled in. And I would be speculating as to whether or not the business reasons behind our retailers for accelerating their orders. All I can do is tell you that it happened. It's certainly not -- it seems not to be bad news. Acceleration tends to be good in a consumer business.

Last question from me, I wonder, if we look at your backlog, which grew nicely in the quarter, and then with the additional order that you announced yesterday, I'm wondering if you can give us a sense as to how much of that backlog in G&I you expect to recognize revenue in '09?

Again, we have given our -- we are reiterating our full-year guidance. And I think that of that backlog that we currently have in the books, that weaves into that figure we shared with you earlier, that we have 75% of our year sort of booked or already shipped. So the backlog is an '08 backlog and should be viewed as such.

Brian Gesuale, Raymond James.

Nice job on the quarter. I'm wondering if you could maybe give us an update on what you are doing with Linens 'n Things in terms of the charge-off that you took last quarter and how negotiations may be going to getting paid?

A couple things with Linens 'n Things. First of all, we did take the charge in Q1, and there has been no change in terms of that charge. And we will just have to see what happens in the courts in terms of what kind of pennies on the dollar could possibly come back on that. But we are not banking on that in our forecast.

Secondly, we have resumed shipping to Linens 'n Things, but under very closely watched terms and tight payment terms and with a limit to the dollar size of the shipment. And so we are limiting our exposure quite a bit and ensuring that no new shipments go out until the payment is received on the previous shipment. It is unfortunate, because there is a volume opportunity there, because they would take far more product than we are delivering if we allow it. But we are taking a very conservative approach in terms of our exposure.

Okay, great. That is helpful. Colin, you mentioned that you thought -- I can't remember the exact word you used, but inventory levels were good or reasonable or something to that effect in your prepared remarks. Can you give us a little bit more color to that, maybe compare it to a prior period at some point, and any more detail you can give us there?

I guess what I can say is that the brisk sell-through that we reported would lead you to -- would give good color to whether or not our retailers are overinventoried, as would the fact that we are seeing some retailers accelerate some of their orders, so that when sell-through is slow, you want to worry about is inventory being stacked up in the warehouses, and we may see a challenge on a go-forward basis. And clearly, that is not the case. The orders continue to come in. Sell-through is brisk. And our inventory, we anticipate a normal cycle of Q3 ordering.

Okay, terrific. I guess a final question. Looking at the sales and marketing spend in the first half of the year, seemed to be pretty brisk. I imagine some of that or a large degree of the growth there was to support the international expansion. I guess is that true, and then was any of that one-time in nature, or should we see a continued second-half pickup from that first-half run rate on sales and marketing?

We did a little bit more aggressive spending on advertising in the first half of the year relative to 2007, sort of bringing it back to [2000] on the direct front. And we do pay shipping and some commissions on sourcing of inquiries, so that as direct continues to grow, we will see some additional increases in the absolute dollars spent on the sales and marketing line.

Josephine Millward, Stanford Group.

I just wanted to confirm, your backlog for G&I, the $22 million, does that include the $17 million xBot order?

No, it does not. That is incremental to the $22 million.

Okay, great. And in terms of the SUGV Early, when you get the production decision from the Army in the fall, do you expect to being -- if it is a positive, do you expect to begin production sometime in early 2009? And how do you think this would impact demand for your FasTac robots?

The Army's announcement on June 26, great news. We're in this Spinout 1. That is the earliest possible deliveries of spinouts under the FCS program. They will start the fourth quarter of 2009 as being a three-quarter delay in the FCS spinout portion of the program.

The (multiple speakers), as Helen said, is available and ready to be shipped earlier in 2009, and I wouldn't speculate on whether SUGV Early shipments would be cannibalistic under -- against the FasTac program. FasTac has a substantial IDIQ in place. And we are seeing continued demand for that product, as we had hoped for. So it would really be speculation. And likely, the SUGV early sales would be outside of the FasTac contract with perhaps different customers.

Okay, just so I'm clear, so you could start shipping SUGV Early in the beginning of 2009, but the earliest production for the Future Combat Systems SUGV would be in Q4 of 2009, is that right?

That's right. So although the FCS deployments are really later than we anticipated, the demand for SUGV outside this FCS program, but within the US Services, is strong, and we can start delivering on those in 2009.

Great. Since your margins in the first half are lower than I guess you anticipated, can you help us think about how margins will improve in the second half, because I think they need to do a lot better than what happened during the first half of the year?

I do expect we'll see margin improvement in the second half, which is the typical seasonal trend for the Company. And given the fact that there were some nuances, as I described earlier, that affected gross margin in Q2, we do expect that margins -- we will see a margin lift in the second half. I'm sorry?

Is that from increasing volume, or--?

Yes. But the drivers of -- the G&I side of business is definitely volume related, and then also on the HRD side. You could look at our prior third and fourth quarters from previous years and you will see our gross margin substantially improved in the back half, and we should expect to see a similar impact this year.

Thank you, operator. And that's going to conclude our second-quarter earnings call. We greatly appreciate your continued support and look forward to talking with you again following our third quarter.

That will concluded today's conference. We thank you for your participation. At this time, the [phone lines] may now disconnect.