Innovative Solutions and Support Inc (ISSC) 2006 Q4 法說會逐字稿

Good morning. My name is Sarah, and I will be your conference operator today. At this time, I would like to welcome everyone to the fourth quarter and fiscal year end conference call for Innovative Solutions & Support. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a Question and Answer Session. [OPERATOR INSTRUCTIONS]

I would now like the turn the conference over to Geoffrey Hedrick, Chairman and Chief Executive Officer of Innovative Solutions & Support. Please go ahead.

Good morning. This is Geoff Hedrick from Innovative Solutions & Support. This morning we are going to discuss the fourth quarter and fiscal year results ended September 30, 2006. We are going to discuss the current business activity climate, and ultimately our business outlook strategy and plans.

I am going to turn over the review of the results to Jim Reilly, our CFO, and following that, Roman Ptakowski, our President, will address the current business activity climate, et cetera. Thanks, Jim.

Thanks, Geoff, and thank you all for being on the call today.

First I would like to read our Safe Harbor message into the call. Certain matters discussed in this conference call, including operating and financial results for future periods, are forward-looking statements that are subject to risks and uncertainties that could cause actual results to differ materially, either better or worse from those discussed, including other risks and uncertainties reflected in the Company's 10-K on file with the SEC.

I will address the results now. Q4 revenue was $4.6 million. Last year our Q4 revenue was 8.2 million. This represented a quarter-over-quarter decline of about $3.6 million. Revenue for the entire fiscal year was $16.7 million, and was a sharp contrast to fiscal year 2005's record revenue of $63.3 million.

The year-over-year decline, however, was mostly expected because fiscal 2006 was looked at as a year in transition, as we shifted our primary focus from selling Air Data equipment, to initiating a combination of business and marketing programs aimed at the Flat Panel Display System market, and its many and diverse opportunities.

Also of note, is the fact that the decline in Air Data revenue was partially offset with year-over-year increases in Flat Panel Display sales that grew from 4.1 million in 2005, to 6.4 million in 2006, about a 56% increase. New orders in the year just completed total $31.7 million, 18.9 million of that total was for our Flat Panel Display Systems, and about 12.8 for Air Data equipment.

These combined orders produced a backlog at year end of about $28 million, versus a $13 million backlog a year ago. You will note, however, that the backlog is down sequentially from the third quarter's $34 million. This quarterly dip was the result of us cancelling a $3 million order, and having extended negotiations on new orders that have yet to materialize, but we anticipate in the near future.

The Flat Panel Display System backlog, however, was a record $18.3 million at the end of the year, and grew by 12.5 million, or 216%, from the 2005 year end backlog of about $5.8 million. Air Data backlog was 9.6 million at the end of the year, up 2.5 million, or 35% from last year's 7.1 million.

Our gross profit margin in 2006 was 48% and when you consider the lower sales in the year, the number looks more than just a little positive. Last year in fiscal 2005 our gross margin reached a record level of 67%. A 19 percentage point difference between 48 and 67 is essentially due to greater absorption of fixed manufacturing costs over higher levels of sales.

Shifting to operating expenses, it is important to note that a significant portion of these expenses are discretionary. In the case of Research & Development, we continually analyze the impact of spending versus not spending on a project, and when we do commit to spending, we view the R&D cost as an investment in the Company's future.

In fiscal 2006, the Company continued a strong spending pattern for both current and new product development, as well as for certification efforts. R&D spending was $1.6 million in the fourth quarter alone, and $6.7 million in the year. Despite a falloff in sales this year, the Company made the decision to slightly increase spending in this area, about 11% over last year, in order to be better positioned for the opportunities in front of us.

Keep in mind that last year's R&D spending totalled $6.1 million, and was 9.6% of sales in the year. This year's R&D spending was 6.7 million, or 40% of sales in the year.

SG&A spending totaled $3.2 million in the fourth quarter, and 9.9 million in the year. Spending here was up in comparison to last year by about $1.1 million in the quarter, and about $1 million in the year. This year fiscal 2006 saw for the first time the recognition of stock option expenses, the so-called 123-R requirement of about $655,000. Also, higher one-time professional fees associated with an Intellectual Property issue was in the numbers. Net interest income was 781,000 in the quarter, and 3.1 million in the year. These amounts are favorable to last year, essentially because of rising interest rates.

We experienced the loss in the quarter of $949,000, or $0.06 per fully diluted share, and for the fiscal year we experienced a loss of about 2.9 million, or $0.17 per share. We continue to have an extremely solid balance sheet. Cash at $63 million at the end of September, or about $3.75 a share.

It is important to note the Company purchased approximately 1.3 million shares of common stock in the second and third quarters of the year, at a cost of about $18.1 million, for an average price of about $14.21 a share. Had we not purchased the stock, our cash balance would be about $81 million. Assets at just over $87 million, cash represents about 72% of that, shareholder equity at $78 million, or $4.65 a share, and of course, that's been diluted by the $18.1 million in Treasury Stock.

At this point I am going to turn the call back over to Geoff.

Thanks, Jim. You know, it is nice that we have the kind of balance sheet we have, that allows the kind of investment that we did this last year in the Flat Panel program, and we are really starting to see the remarkable results of that. Just in comment, in fiscal year 2005 the RVSM backlog at the end of 2005 was $7.131 million. At the end of 2006 the RVSM backlog was $9.997 million, an increase, a significant increase in the RVSM backlog. The Flat Panel backlog at the end of 2005 was 5.8 million. At the end of 2006 it was 18.3 million, for a total backlog of 27.9 million, versus 12.9 million. It clearly shows that the investments we are making are paying off.

I would like to turn it over to Roman for the details and overview of the operations over the past year. Go ahead, Roman.

Thank you, Geoff. Over the past year as mentioned, we continued to invest a significant amount of time and revenues developing and marketing Flat Panel Display Systems, and positioning the product as more than just another option for the replacement of obsolete displays.

Each quarter we have seen increasingly encouraging signs of acceptance and recognition by the market, of the many advantages of a Flat Panel Display System. While it does take time for a new market to evolve and mature, there is no question demand is on the rise, with the recognition of the IS&S Flat Panel Display System, that is not simply a retrofit replacement for cockpit avionics, but a growth platform for the aircraft.

We have told you that we have adopted a relatively straightforward marketing strategy in our drive to expand demand for Flat Panel retrofits, by increasing the size of the market. We said we would expand the market by getting our products certified for an increasing variety of aircraft, continuing to drive down the price that is putting our cockpit information portal technology within the reach of more operators, and developing partnerships and other alliances that provide access to more markets.

We have delivered on each of these objectives. Our products are already certified on an increasing variety of aircraft. Recently we announced the receipt of STC's for the 10" cockpit/IP Flat Panel Display system in the Pilatus PC-12, joining the previously issued STC for the 15" display architecture. This offers operators a rare choice in the size of displays for the cockpit upgrades.

We added these new certifications to our existing portfolio, including the Boeing 767 aircraft, and the KC-10, C-130, and KC-767A military aircraft. In addition, we have successfully completed FAA ground testing, and accomplished FAA flight testing in less han two hours of the Flat Panel Display System, without experiencing any problems on a Boeing 757. The requirement is now in the FAA posting process, prior to us receiving the formal award of the STC for this platform.

We continue to lead the market in price and performance. We have raised the stakes by adding new features and functionality, that make our product line an even more compelling value. During the quarter we introduced our Class 3 electronic flight bag, offering full color, high quality E-charts, consisting of Jeppesen navigation charts and applications, such as take-off, en route, approach, landing, missed approach, and go-around data information.

Our Class 3 E-charts also display own ship positions to pilots, through a digital representation of the aircraft's exact realtime position on the runway, or in the air. These E-charts are displayed in the forward view of the pilot on the aircraft's multi-function display, and include a zooming feature, making the Class 3 E-charts larger and easier to read.

We are also offering a general aviation operators a compelling value proposition, with a combined RVSM Flat Panel upgrade. This allows an operator a much better return on their investment, as they get the added immediate tangible benefits of an RVSM upgrade, at a cost that is not much more than a basic Flat Panel Display installation.

And finally, along with AVX Air, we announced that the installation downtime for a B-767 cockpit/IP Flat Panel upgrade was reduced to 48 hours, consistent with our commitment to team with authorized distributors, installers to minimize aircraft downtime. We retrofitted an airplane for tag aviation replacing 22 instruments, removing 252 pounds, and completing it all in 48 hours. We are marketing this turnkey solution to the owners of more than 1,700 Boeing 757 and 767 aircraft worldwide.

As with our price and performance leadership, we are raising the bar for the speed of cockpit upgrades and installations, by dramatically cutting aircraft down time, we are providing operators with another compelling reason to invest in Flat Panel Displays. Now by achieving an installation in 48 hours, we are well on our way to our next milestone, to ultimately offer an overnight training and retrofit package, to install our state-of-the-art glass cockpit system.

Evidencing our success in developing the Flat Panel business, our business this year is from a diversified customer base, and an ever increasing array of platforms. For example, in the fiscal year in the $18 million of Flat Panel Displays that we talked about, we received over $9 million for commercial air transport applications from Jet Partners and Kalitta Air. Over $6.8 million from general aviation customers, such as Western Aircraft, EPPS Aviation, and Columbia Avionics, and over $2 million from Boeing and Marshall Aerospace for military aircraft platforms. Large fleet operators are sitting up and taking notice, now that we certified equipment in the air in regular revenue service.

We believe that successful implementations of these platforms are stimulating rapid market growth, as operators expand retrofit programs, to bring their entire fleets of similar aircraft in-line with new standards. Our nose in the tent through the foreign military aircraft has opened the door to some exciting opportunities with the U.S. military, which operates the largest fleets.

To quickly summarize, we accomplished significant progress in both broad-based Flat Panel market acceptance and revenue growth during 2006. We continue to cultivate the market for the Company's cockpit/IP, cockpit information portal product line, and are confident of continued growth. I will now turn the call back to Geoff.

Thanks, Roman. I would like to summarize a couple of things I think are really important to note. I mentioned a brief analysis of the backlog that we see not only growth in the traditional business, but a very rapid growth across the board, and I can tell you that we have almost $100 million worth of bids out on the street right now, which we are guardedly optimistic about a reasonably large percentage of success on those. They focus primarily for business in the next twelve months.

So we think that we are going to have a very strong second half this year, and set the standard for the kind of growth and total volume over the next ten-year growth, and I have talked about in the past. I want to comment on the installation that we just finished, and the certification of the 757. The downtime which we keep talking about pressing down, understand that the taking an aircraft down costs upwards of around $75,000 a day. 75,000 a day, if we can save a day, that's the effect of reducing our install costs by 75,000.

Our competitors by and large take two to three weeks to install, so it is rather independent of the cost of the equipment, the cost of the downtime of the aircraft is significant, unless you do it over a very extended period and for C checks, and that could take five years, or certainly three years for a fleet.

We are delighted to have established a strong partnership with AVX Air, AVX Air did the design and initial installation of the 767 STC, and has obviously installed it on a substantial portion, almost completed its fleet. They finished and completed the 757 engineering, which was an adaption of the 767, but required the same kind of judicious review. They did that so well that it was a flawless company flight, and a flawless FAA flight.

The FAA is showing remarkable cooperation, and successfully completing the flight test on Sunday in 1 hour and 45 minutes. We sit and wait for the paperwork to move through the system, and expect the signed off STC within a couple of weeks.

This opens up a very large opportunity as you may be aware, FedEx has announced that they will be creating a fleet of 757's to take the lift load that they anticipate, and will need going forward. Comments in the New York Times, a full page story in the Business section, where we talked about Boeing's backlog is now going into the 2013, and in quotes I think we are happy to say we can accept your order.

We have maintained that our business model of retrofit, addresses both ends of the marketplace. The decline in demand hold or termination of outstanding orders for new aircraft have to be supplemented by the update and maintenance of the existing fleet. When the recovery hits, the recovery always has a higher demand for lift than is available, and requires the upgrade in maintenance of the existing aircraft.

As an example, a 757 of less than two years ago specifically, could have been purchased because we looked at it, for under $7 million. Today it is substantially over $20 million. That shows you the kinds of demands that are being put on these aircraft, and the commitment for long-term service of these aircraft, which necessitate not only the reduction in maintenance costs, but availability, that is dispatchal liability of the aircraft.

The combination of these two provide compelling justification for the cockpit update. We are happy to say on the business aviation, that our teaming with and working orders from Columbia Aviation, for Citations and potentially even Lear's, open up a further market for our general aviation package, which we have developed and expect to be universally adaptable, over a broad range of aircraft with a common part number. This equipment is identical in the display area, to the equipment provided in the air transport, and provides all general aviation with part 25 quality, the highest quality hardware and software.

Finally, we are pleased with the progress in our efforts on our electronic flight bag. We announced that we have an effort underway for a Class 3, which means Hard installed in the aircraft, and provide ship's position in the field of view, that is an electronic flight bag that actually puts the ship's position on the maps in the field of view.

Our unique and patented operating system for our Flat Panels, allow us to put the traditional jet charts on the primary flight displays, and simultaneously with all other principle flight data, and assure the integrity of the flight data will not be impacted by the charts and ship's position. That program and in conjunction with Boeing, Jeppesen is going extremely well.

In summary, we believe that the future has materialized as we expected. I would have loved to have seen it earlier, but in some respects I think we are far better positioned, to support what we believe is going to be a very significant demand over the next ten years.

With that, I would like to turn it over to questions.

[OPERATOR INSTRUCTIONS] Your first question comes from the line of Paul Kaump with Northland Securities.

Good morning, guys. Hello.

Can you hear us?

Good morning.

Hello. How are you? I am sorry. We are pushing mute buttons here.

Got you.

So much for the facade about us being techies.

You have got the Flat Panels right, you just need to work on the phones now?

They are good, though. I will tell you. Go ahead.

Have you received any orders for the Boeing 757, and anything in backlog?

Absolutely, yes, and not only have we received orders, we have delivered hardware, and it is being, and the STC that we got is a hard order and being delivered, so the equipment was installed, and by the way, the first installation was less than three days flawlessly. And with STC as I mentioned, and the less than two-four FAA flight which is unheard of, and is has delivered to the customer.

Okay.

We have 757 in backlog.

Can you give us an idea what that number might look like in millions in backlog?

No, I can't. You know, I don't, we never break the backlog down.

Yes.

For the obvious reasons.

The $3 million order cancelation that you guys noted at the start of the call, can you give us any additional color on that? Was that for Flat Panel Display or Air Data business?

That was for Flat Panel Display. What we had, we accepted an order earlier in the year from a company that we don't need to mention the Company for Lear jets, and the Company essentially couldn't come up with the number of Lear jet to support the work effort, and they wanted to piece meal it out, and we decided that we did not want to put the engineering effort into maintaining it, so we backed it out ourselves. Well, specifically the program they wanted to continue it on, but their principle customer that they were going to install this equipment in, got rid of their airplanes, so that their immediate customer was not available.

Rather than carrying it which we could have done, with the uncertainty of where the ultimate customer would be, we took the more conservative approach and took it off. We actually think it will be put back on in the near future, because we have actually made those discussions, but right now this is a more conservative approach, and it keeps the books very clean that way.

Okay. Yes. Jim, do you have the cash flow number for Q4?

The cash flow for Q4?

Yes.

As you can see, for the year we were down about $20 million, 18 million of that of course was for the purchase of our stock.

Right.

In Q4 we were probably down about a negative $2 million, Paul.

Okay. Real quick, can you just provide an update on the STCs for the Boeing 747 and 737, kind of where those stand, and when we might see, I guess it is all a function of when you receive them but when we might see some of the backlogs from those products flow through the P&L? Is that a first half of '07 event, do you think?

Probably closer to second half, simply because we expect the STCs, we have expected the STC for on the 747 for quite a while, and it is a paperwork thing, and depending on where you sit in the Q, you can either get phenomenally fast response as we did out of Chicago region for the 757, that was terrific. They were incredibly supportive.

It is the same region working the 747, and they have an enormous amount of work. If you get in the wrong place in the Q, it is delayed and we have less direct control on that. We are going through a company that has done the actual engineering, but we expect within the next month or two, and if we did we wouldn't be able to get, we wouldn't be able to book the order, and plan it in until the second half anyway.

On the 737 we have a hard flight test date somewhere I think in the beginning of April for the 737 system, so we are really, the 737 was drawn back in engineering, because we were able to come up with a common system architecture, that allowed us to come up with effectively a programmable interface system, that would be applicable to a broad range of aircraft, and especially when you deal with a 737, and have ones with APHIS and non-APHIS airplanes, in various configurations and how they've been modified, and you have to adapt to a number of different kinds of installations.

If you do it in a conventional way, you end end up with putting a huge amount of engineering into every one of those changes. This will virtually eliminate that adaption engineering, and give us much better response and much lower costs and delivery, so it was a redesign delay as it were.

As we finished it and recognized that we were going to have to do three configurations of 737s, immediately we modified one of the interface modules, and came up with the latest configuration, and that will be STC. Right now the first or second week of April is the program as we see it now. I will keep you up to date on that.

Okay. Is sounds like any sort of installation work might be pushed out until certainly Q4 of '07, if not fiscal '08?

We would hope, we would like to see at the end of Q3 of '07, to be honest with you, and recognize that as soon as you finish an STC, you have final the design configuration done.

Right.

So in theory and very often in practice, you can go directly into an installation the next day theoretically.

Okay.

So I am fairly optimistic that it will be sooner than later. The demand is enormous now.

The demand is growing very, very quickly, that the package carriers, freighters, that kind of thing, are desperate for lift. Obviously the 380 delay has impacted a bunch of people, who are scrambling desperately to replace 1.5 million pounds of lift. It is a big issue.

A lot of that will be done in using 737 conversions and 5767's, and the people that had 5767's have pretty well determined they are going to keep their airplanes and operate them, because the 57 is an incredibly fuel efficient airplane, and you clean it up a little bit, it is a terrific airplane with an enormous range of almost 5,000 nautical miles.

Last question here. Any update on the cockpit display of traffic information initiatives from the FAA, that was supposed to come down the pike?

You mean the ADS-B, are you talking about --?

Taking the controllers out of the loop.

Yes, that's ADS-B.

Okay.

Just so you know, the present plans, and I can't give you the exact dates, but substantially it is 2010, the en route radar control, the so-called center control will be gone, and we will rely on ADS-B, which requires by the way, a display system that can handle the configurations, and hopefully things like CPDLC, which is essentially an automatic transmission, data transmission between the ground and the aircraft, of instructions for what the aircraft should do. Right today, as you know they verbally give instructions.

Right.

What they have been doing for 50 years. The technology is available. It sounds like that will all happen by 2010. 2010 date seems to be holding, and the FAA is under tremendous pressures to keep expenses down, so that they are looking into the industry and saying look we need help.

We have to come up with an NG, a new generation air traffic management system. Industry we need your help, and as Gamma among other people are working aggressively trying to address that, and of course, that's a group of all the major manufacturers in the industry.

Right. I was under the impression they were going to come up with a timetable sometime here in Q4 of this year. Did that get pushed back?

They are coming up with one. But I don't know what that timetable is.

Okay.

And I understand, the last I heard it was still on track, but I am sorry so tell you I don't know, I haven't been updated for at least four weeks.

They have 23 days, and the holidays are fast approaching. Good luck to them certainly.

But remember it is the government.

Exactly.

December has 56 days in it.

Therein lies my point. It is the government.

But the wonderful fact is the government, it is amazing I am defending them, but it really is a monumental task, but it will be, it is going to be truly a revolution, and put tremendous demands on the cockpits, and it is about time.

The technology is well available. It is not experimental in any sense of the word. It is simply a question of getting, define the direction, and I think the industry will adapt to it, and I know we are delighted to be a part of that.

All right. Thanks a lot, guys, appreciate it.

You are very welcome.

Your next question comes from the line of David Campbell with Thompson, Davis & Company.

Hi, Geoff and Jim and Roman. You know, there is certainly a lot of momentum in your variety in your new orders, but I wonder first of all, the backlog that you indicate in the press release and talk about, I assume that's the September 30 backlog, and indicates that you have got about $2 million of orders in the last quarter. First of all, what were those orders in? What aircraft, and secondly, what kind of business and orders have you had since September?

Well, it is actually 5 as you know, because debooked 3 and added 5, and netted 2. We explained the debooking is 3 for whatever reason, and since then, which is now about almost two months. We expect to have a strong booking quarter is all I can say.

We have as I opened up earlier, I said that we had upwards to $100 million in bids out on the street, and we would expect some significant orders this quarter, which we will announce obviously at the end of the quarter or during the quarter, and that most of that or a good portion of that business is all for FY '07.

It would be unusual for people to give you orders in December, or at least the second half of December.

You got more experience in the industry than I do, David.

No, I have none, but --

Okay. All I can tell you is they give you an order when they need the parts typically. You are right, December isn't normally a pay slip, but I probably wouldn't say what I just did, if I didn't have some reasonable confidence that it would happen.

And what aircraft did you get the orders in in the third, in the last quarter, of the September quarter?

Roman?

We got orders really across the spectrum, the 767, 75s, in the commercial. We got orders in for PC-12s in the GA world, and then we received orders in the military on C-130 aircraft.

We see increasing interest by the way in C-130. That part of the business is very good.

Is that coming from Marshall's?

No. It is actually coming from other places. I mean Marshall's, we are obviously doing work with Marshall's, but we're getting it from other areas of FMS, through the government, some through Lockheed, that kind of thing. It is very promising.

And, Jim, other than the FAS-123 impact in the SG&A in the fourth quarter, was there anything unusual? Is that $3.2 million expense in the fourth fiscal quarter something we can expect to continue quarterly?

It will probably be less.

Pardon me?

It will be less, David.

It will be less. It will go down.

Okay. What was the reason that it went up so much? Just additional work on all of these orders? Is that it?

Yes. There is a bunch, a variety of impacts there.

Okay.

But miscellaneous is probably a little broad.

Okay. Yes. When you say your backlog in RVSM equipment, it is Air Data displays that are, that include RVSM capabilities?

Right, right. Broadly RVSM is, you know, because we have gone back and forth between Air Data and RVSM, so pick one or the other.

It is significantly, not an insignificant portion of the Flat Panel work that's coming in now, as I told you, we are now increasingly, some of these systems are being supplied with Air Data modules, which will be a significant part of our business, so the Air Data business in some respects is hidden in the package of the Flat Panel.

And are you willing to say anything about December's quarter's earnings or revenues?

No.

Okay.

Other than should be no surprise.

Okay. Thanks. I will let someone else have it.

Thank you.

Your next question comes from the line of Michael Ciarmoli with Boenning & Scattergood.

Hey guys, how are you? Just to piggyback on the last question as far as looking out towards December, do we have any guidance for the full fiscal year '07? Revenue guidance?

Revenue guidance 41 million, which is out there in a couple of cases, and a range of that which will be updated as we go along, and earnings about the same. I think three of our, including you, have us at 41 and 41. Is that correct?

I am around 43.

41 or 43. Obviously it will firm up. The timing is critical. In another couple of months we will get a better sense of the timing of the orders we're getting in, and whether they all fit in in the third and fourth.

It is the old story in the stuff sits in the third and fourth quarter, two or three weeks it can make a huge amount of difference in performance, but we'll get a much better, we are comfortable and very confident with those numbers. We see the backlog growing very strongly, so we are good.

Okay.

The back half of the year as you already indicated.

The back half of the year then, so the first half of December, March quarters might be somewhere where we have seen the most recent quarter?

Right. I had expected a nice ramp. I hope for a ramp. Because we don't get ramps sadly in the last couple of years, we haven't gotten much of a ramp. We sort of go along and then boom, get a huge step change that we have to respond to, and I was hoping against hope that we would get a nice ramp.

It looks like everything is going to hit about the same time, and make the last half strong, but recognize that that last half has got to be a reflection of what the FY '08 year is going to look like, so you can project the strong second half in the four quarters, or two halves of 2008, and it will show that we will have a nice strong growth in 2008 as well.

Okay. What about in the current quarter? Can we get a breakdown of revenue, how much was Flat Panel, how much was Air Data?

Yes. We can tell you essentially the Flat Panel revenue was about 1.5 million, and the Air Data business was about 3.5, round numbers.

Okay. And, Geoff, you alluded to I guess $100 million worth of bids. Can you give any more detail around that?

No. I can't comment on that. You can imagine it is pretty sensitive.

Okay. Okay.

It is all three segments.

It is all three segments. It is military, transport, and GA. Depending on what happens in the next few weeks, somewhere between 50 and 100. We think if we get all the bids out, it will be roughly 100 outstanding, and we expect responses in like 45 days, so that would be, we would start seeing the results of some of those bids out there.

Okay.

Happily those bids aren't, you know, 4-year programs necessarily. There is some long ones, but they are mostly strongly weighted towards the end of '07 and into '08.

We have not factored those into our plans for the year yet, because we don't know where they are going to sit. It could have a very strengthening effect, but of course we are limited to how quickly we can respond as well, you can imagine.

Right, right.

But I guess I am encouraged by the diversity of bids out there.

Okay.

That's the nice thing.

Okay. Now, is it still -- I know you alluded to in the past that Pilatus had some problems with their [Apex] system. Is this all retrofit work, is it more OEM work, or can you divulge any of that information?

Well, yes, I don't want to break it down. I would say that it is still substantially retrofit. Understand that Pilatus and Apex, if it goes, it goes, and that's fine, and that will happen in a year or two, but it leaves 500 aircraft which cannot be readily retrofitted with an Apex system, that will be a profoundly different-looking cockpit, and not one that is adaptable to the new requirements, including ADS-B that is coming out by 2010.

Okay.

The cockpit, just to let you know, the cockpit for the PC-12 is either electromechanical or CRTs. CRTs that are no longer made I might add.

Okay.

And I don't mean the systems, but the CRTs themselves, and clearly that is not a sustainable product, so we see that opportunity as being still very strong, and our systems are working extremely well.

If there is any slight hiccup, I would tell you that we have announced the EFB, the electronic chart system. We are anxiously awaiting for the Jeppesen release of the certified database that we can put in our system, and provide it to the PC-12 operators as well. This is distinctly different than many of the so-called electronic flight bags, which operate under Windows or whatever.

They cannot be used to show present aircraft position, and the reason that is important and essential in things like repositioning your aircraft on the ground, and precluding these take-offs on the wrong runway kind of thing, is that we provide the airplane, and what your aircraft position on the ground going through all the taxiways and crossing all the runways, and all of that is clear, an expanded view as you actually move around the airport.

Sure.

It is quite different and really essential, and actually at a price point which is extremely competitive, as long as you buy the Flat Panels.

Got you. More for a question I guess, Roman, relating to the SG&A. Does that include any new hires on any salesmen, or can you give me an update on how many, what the salesforce looks like right now?

We have doubled the salesforce, and we continue looking for more individuals, and we are seeing positive success, haven't increased those numbers. As Geoff mentioned, we have seen a large increase in the number of proposals we have made. We have other opportunities that we want to pursue, so we continue to expand that salesforce. You are going to see the results from that.

Okay. I understand that Steve Long is no longer with the Company. Can you comment on that?

Steve Long had a difficult personal situation with his family, and we wish him the best with that. Initially we had a leave of absence, and he is, if you will, officially on leave of absence.

Okay. Does that impact any of your plans there? Was he really spearheading any big effort?

He certainly was an asset, but--

he wasn't here long enough--

but he wasn't here long enough to have that kind of an impact, but we look forward to it, but we will--.

He is a very talented guy, and he was a good friend as well, but, you know, we don't want to comment on the personal situation.

Okay. Perfect. I guess --

He happily seems to be getting it under control.

Last question for Jim and then I will jump off. How much stock comp was in the quarter?

Stock costs 123?

Yes.

About $150,000, Michael.

Okay. And then the gross margin? I know you had a nice sequential uptick there. Where do you think that kind of falls? Do you think the 55% of this run rate is sustainable? Do you think it can creep higher?

We have talked about this, Michael. You can look at the numbers as our revenue starts to pick up, the margins are going to go up very nicely with it, because as Geoff has talked about many times our direct labor is relatively fixed at a very low percentage point of sales of 2.2%. Material is a low number, and we can expect the margins to range up to the 60% level in the not too distant future.

Okay. Great. Thank you very much.

I would like to, I would just like to add a comment. As we went back over last year, we had rolled the engineering back to the 15% range, which is very high as a percent of sales. And not had the, not a big surprise but clearly a significant change from last year of the $650,000 costs for the stock on plan, that would have brought us into a profitable position even with the massively diminished revenues, which gives me confidence that we are controlling the internal disciplines inside the organization, such that when we, as the revenues increase, and engineering, we can sustain engineering as a smaller percentage of a larger revenue base, that our profits will grow very quickly, and we have the expense line well under control.

If I can get the next question.

Operator?

Your last question comes from the line of Mary Anne Sudol with Caris & Company.

Good morning, gentlemen.

Good morning, Mary Anne.

I noticed that the R&D spend has been gradually drifting off for the past couple of quarters, and could you share with us how you think that number might look for '07, and probably in to '08 if you could?

It actually I think is going up. Year-over-year Mary Anne, it's gone up about 11%. If you are looking at the last couple quarters in reference to the beginning of the year, it has fallen off marginally.

Yes.

But we are looking at these things on a program by program basis, and some of the costs would drift from quarter to quarter, but during the year we spent about $6.7 million on the R&D side of the house, and that was in comparison to about $6 million in the prior year. It has gone up significantly, and we manage it on a program by program basis. You also see over the year obviously when you talk about R&D, obviously we are talking about product development as opposed to abstract research.

Yes.

We would especially in a year with limited sales, we are proven about how we spend our money. Discretionary reviews and enabling technology is scrutinized far more carefully, at a time when you are not making money, and also you'll find peaks in quarter to quarter that we will bring in additional temporary staff to do software testing, rather than send it offshore, we tend to do all of our testing internally, because we get better control of it, and we manage that by bringing in contract personnel, people that we have dealt with over the years, but it gives us an ability to make that flexible to demand, and it is a tremendous asset, and still be able to keep it in-house.

It gives you more control, too.

It gives us a hell of a lot more control, but it also, I mean typically if you had a fixed staff here, whether you have requirements for them or not, you still have to pay them. In this case we are able to bring in flexible staff, and in fact, I think in one of our quarters we actually ran three shifts of V&V to accelerate through the program, which gives us a wonderful capability of increasing that resource by a factor of 3:1 or 4:1, almost within weeks.

Nice place to be.

Well, it has worked. Our guys have done a great job. These are good people, people that we use again and again. It is nice. Some of the guys just don't want a full-time job. They like this kind of flexibility where they can take a month off and then go back, kind of like actors, you know.

Any other questions?

Thank you.

Thank you very much. Appreciate your interest. Thanks for your interest today. I hope we have answered your questions. I am obviously enthusiastic about the future. I am delighted if you were to call in and talk to Jim or Roman. We are a little busy today, but Jim is always goofing off, so he is always available, and we would be glad to amplify as appropriate on our responses. Thank you again for your interest. Thanks for your support as well. Bye bye.

We are out of time for the call. If we did not get to your question, we ask you to call the corporate offices this morning. Thank you. You may now disconnect.