KVH Industries Inc (KVHI) 2010 Q2 法說會逐字稿

Welcome to the KVH Industries second-quarter 2010 conference call. Today's conference is being recorded. At this time for opening remarks and introductions I'd like to turn the call over to the Chief Financial Officer, Mr. Patrick Spratt. Please go ahead, sir.

Good morning. I am Pat Spratt, Chief Financial Officer of KVH Industries and with me is Martin Kits van Heyningen, Chief Executive Officer. This call will address the second-quarter earnings release that we issued earlier today. Copies of the release are available on our website and also from our Investor Relations Department.

This call is being simulcast on the Internet and will be archived on our website for future reference. If you are listening via the Web, feel free to submit questions at IR@KVH.com and we will answer them following this call.

This conference call will contain certain forward-looking statements that involve risk and uncertainty. For example, statements regarding financial and product development goals are forward-looking. The Company's future results may differ materially from the projections described in today's discussion.

Factors that might cause these differences include, but are not limited to, those mentioned in today's call and risk factors described in our quarterly report on Form 10-Q filed with the SEC on May 4, 2010. The Company's SEC filings are directly available from us, from the SEC or from the investor information section of our website. Now I'd like to turn the call over to Martin for today's discussion of results. Martin?

Thanks, Pat, and thank you all for joining us today. Well, it was another outstanding quarter for KVH. Quarterly revenue was at a record high again and we had a solid bottom line. In terms of overall performance, we're ahead of where we expected to be when we started the year.

First of all, we recorded $29.5 million in sales, making this our second consecutive record quarter on the top line; year over year that's a 35% increase in revenue. In addition, we reported recorded net income of $5.3 million or $0.36 per share, also a record result. Pat will discuss the income tax benefit that bolstered our bottom line, but even without that tax benefit our operating profit was quite strong.

For the first six months of the year revenue was $57.5 million, that's a 43% increase over the same period last year, with net profit of $7.4 million or $0.50 per share. Our trailing 12-month revenues were $106 million, passing the $100 million mark for the first time ever.

Our strategic initiatives in fiber optic gyros and global satellite communications have consistently been the engines of our record-setting growth in recent quarters. During Q2 we even began to see some signs of growth in our consumer markets that had been stressed due to the recession. Overall, things are on track in each of our markets and we feel comfortable with our market position overall.

In our guidance and stabilization business revenue was up 38% from the second quarter of 2009. We enjoyed another record-setting quarter for fiber optic gyro sales, which, at $10.6 million, were up 49% from Q2 of last year. We received orders for more than $9 million in FOGs for remote weapon stations recently including a $7.1 million order from Kongsberg and a $2 million order from Rafael Defense Systems.

The Rafael order is significance in a couple of ways. First, it's for our recently updated military dual-axis DSP-4000; and secondly, it means that we're now the approved FOG provider for yet another leading remote weapons station manufacturer. This is particularly important as the US Army's CROWS 3 initiative continues to move ahead.

The Army issued another request for information just a few weeks ago and this time expanded the potential contract size from 19,500 remote weapon stations to more than 25,000. Based on the current three FOG per system configuration, this would equate to over a $200 million opportunity for fiber optic gyros.

Obviously we're hopeful that one of our current weapons station customers wins the CROWS 3 contract and that we'll be their sole gyro supplier. However, we're preparing for an aggressive competition to win this business. As part of that effort we're designing a new fiber optic gyro that we believe will strengthen our existing position as the performance and cost leader in the remote weapon station market.

While remote weapon stations and other military programs represent a significant portion of our FOG revenue, our FOGs are doing quite well in the commercial market as well. The key products driving this are our CNS-5000 inertial navigation system and our new CG-5100 IMU unit, inertial measurement unit.

Together these products equip KVH with a portfolio of compact, versatile and affordable three axis martial nav systems that offer significant competitive advantages based on our combination of outstanding performance and competitive pricing. Sales of these commercial IMUs are on track to be over $5 million this year, making them one of the most successful new FOG product launches in our history.

The expansion of our commercial FOG sales has the added benefit of continuing to diversify and increase our gyro revenue stream while reducing the percentage of sales derived from defense applications.

The revitalization of our tactical navigation business has taken a significant step forward. We've redesigned our flagship TACNAV system and we just received the largest TACNAV order in KVH history, a $13 million sale to an international military customer. We expect additional follow-on orders this year making this one program $15 million to $18 million in total. This follows another $2 million order received for a TACNAV 2 system during Q2. The revitalization of our TACNAV business should provide another strong leg for our military business to stand on, providing a solid base of relatively higher-margin revenue over the next few years.

Moving on to our mobile satellite business, revenue was up 33% year over year driven by the continued strength of our maritime satellite communications products. We even saw some signs of stability and recovery in the land market with small but steady increases in the sales of satellite TV products for RVs.

We also completed our planned 2010 deliveries of our aeronautical satellite TV system to live TV with approximately $1.5 million in shipments. We expect to resume shipments in early 2011 in accordance with live TV's installation schedule with their airline customers.

Now I'd like to update you on the mini-VSAT broadband business. Q2 was very strong for our TracPhone V7 and our mini-VSAT broadband service. Combined hardware and airtime sales were up more than 50% compared to the second quarter last year. In fact, we believe that mini-VSAT broadband is now the fastest growing maritime VSAT solution on the market today and we expect to ship our 1,000th TracPhone V7 during Q3.

In addition, we're starting to see some revenue contribution from aviation use of the mini-VSAT broadband service from our partner, ViaSat. The total revenue from aeronautical use is still small compared to our quarterly maritime revenue, but it's growing and it could be a valuable incremental addition in the future.

Our spread spectrum mini-VSAT service enables us to set ourselves apart from the competition by building the only seamless global multi-megabit network for ships and planes. Commercial, government and leisure customers are taking advantage of our integrated hardware, service and support solution along with value -- along with powerful value added capabilities such as crew calling and integration with existing SATCOM systems.

We see the integration of onboard IT functions and providing more value-added services like Internet cafes as a critical component of making our V7 even more successful and we're working on adding more capabilities in this area.

For us to maintain our momentum and continue to gain market share we must continue to distinguish ourselves from competitors and their older, less capable technology. With that in mind we are evaluating and developing enhancements to our network, quality of service and overall capabilities. In the coming months we plan to roll out technology upgrades that will increase our bandwidth by 250% in terms of capacity and data speeds without adding any additional satellite transponders.

We continue our quest to conquer the challenging Brazilian licensing process and launch the mini-VSAT service in that critical region. Based on our progress to date we expect to have an announcement about this service and our ability to support the offshore oil and gas industries in the region later in Q3.

We're also taking significant steps to expand our global support network. With the growing number of commercial fleet customers it's imperative that we offer premium service in key ports around the world. That's why we'll be releasing details of our new global care premium support program for the TracPhone in early August. We'll soon be able to offer on-vessel service in virtually any port in the world.

While our global broadband initiative is getting most of the attention, I'm also happy to report that we're seeing signs that the leisure marine market has stabilized a bit. Sales in the US were up solidly compared to the second quarter last year and we continue to see great interest and loyalty to our TracVision brand of maritime satellite TV systems. However, sales in Europe and the rest of the world are still lagging behind the US in terms of economic recovery.

We continue to invest in R&D and new technology and you can expect announcements about some exciting new marine satellite products in the coming months as we head into the fall boating and tradeshow season.

So, in conclusion, Q2 was an outstanding quarter for us, building on the success of Q1 and setting us into the second half of the year on a record-setting pace. We're ahead of where we expected to be when we set our goals at the start of the year and it looks like the second half should be at or above plan as well.

Our FOG and satellite communication businesses continue to make significant contributions while we enjoyed renewed growth in some of our other consumer business areas that had been stressed by the economy. We expect to sustain our current record level of FOG revenues, but we see the concentration of CROWS business going down in Q3 as other major customers and programs come online.

We're very optimistic that we're starting to enter a new growth phase for our TACNAV business which will provide a solid revenue stream for the next few years. We continue to focus on bringing innovative products to market and in the long run we see this aggressive approach as our best defense against future competition in all our markets. And now I'd like to turn the call over to Pat and he'll give you a closer look at the numbers. Pat?

Thank you, Martin. We are pleased to begin report that results were better than our expectations and we are continuing to show good progress strategically and operationally. This was achieved without the benefit of any noticeable improvement in macroeconomic conditions as has been the case for quite some time.

For the quarter gross margin was 39%; although this was down about 300 basis points sequentially it was much improved over the second quarter of last year. Gross margin was modestly lower than we had expected at the start of the quarter. We saw a benefit from a higher-than-expected revenue level, but this was more than offset by a very high cost relating to a non-recurring engineering service project that was completed during the second quarter.

As we have now seen for the past several quarters the VSAT infrastructure buildout, together with changes in the mix of overall service revenue, significantly affected the year-over-year comparison of our services gross margin. Mini-VSAT airtime services grew strongly in absolute terms both year-over-year and sequentially. Inmarsat airtime services revenue declined year over year but grew sequentially. Other services from non-recurring engineering and repairs declined both year over year and sequentially.

Along with the significant investments we have made in the mini-VSAT infrastructure, this combination of factors has driven service margins lower to this point in time. From here we expect to see an improving trend in service margins as we now have the majority of the VSAT infrastructure investments in place.

Our product gross margins have shown good strength over the last several quarters. This is very gratifying given the tough economic and competitive environment, especially in leisure markets around the world. For Q2 operating expenses were up 24% compared to last year. A key year-over-year driver of this percentage increase was reported R&D, which increased 35%.

In Q2 of last year we were still developing the aviation antenna system and capitalizing those costs and that resulted in lower than normal reported engineering spending for that period. As a percentage of revenue reported R&D spending was 8.5% for the second quarter. We expect R&D will average about 9% of revenue for the next several quarters.

Second-quarter sales and marketing expenses increased on both a year-over-year and sequential basis. As we have experienced for the past several quarters, this reflects some seasonality, but also staffing for the expansion of sales and support presence for strategic growth businesses, namely Maritime SATCOM and fiber-optic gyroscopes.

Administration expenses increased year over year by 24% but were down modestly compared to Q1. Costs for professional services related to acquiring VSAT licenses and establishing operations in multiple countries for the buildout of the network continued to be a key factor.

At the close of the quarter we concluded, after taking into consideration recent operating performance and future projections, that it is more likely than not that we will be able to realize the majority of our deferred tax assets over the next several years.

Consequently we recorded a tax benefit of $4 million related to the release of the valuation allowance that was associated with these deferred tax assets. For the quarter this was partially offset by tax expense that resulted from our Q2 pretax earnings. The result was a net tax credit of $3.3 million for the quarter. Beginning with Q1 2011 we expect that our effective tax rate will increase to approximately 40%.

Turning to the balance sheet, cash and marketable securities were $45.5 million, this was considerably better than anticipated due to multiple factors including a shorter collection cycle, lower inventory, payments received for stock purchases and option exercises and the timing of accounts payable. For Q2 cash flow from operations was positive at about $4.8 million.

Accounts receivable decreased modestly to $18.3 million; days sales outstanding was 56. Inventory also decreased sequentially by $1 million to $14.2 million. Capital expenditures were approximately $2.2 million for the quarter and $3.7 million year to date. We continue to project that we will use about $7 million for capital expenditures for the full year.

With normal operating requirements we expect our cash balance to remain near its current level for the near-term, even though we will be making additional investments for the mini-VSAT network and for internal productivity, test and manufacturing capabilities for both FOG and SATCOM operations. Our backlog for guidance and stabilization products and services at the end of June was $18.5 million.

Now I'll review our expectations going forward. At the start of 2010 we did not provide specific financial guidance for the full year, but we did indicate that we expected to see strong top-line growth and improving bottom-line results albeit in the context of the first half loading of the aviation antenna sales and the second half seasonal weakness in the leisure marine markets.

As we sit here today we see the full year developing a little better than our original expectation. We will continue to view future expectations with caution, largely because we cannot discern a clear pattern for the direction of the world economies over the near-term and the potential impact on our businesses. Nevertheless, for the third quarter we expect to continue to see very positive year-over-year revenue growth.

Revenue growth compared to Q3 2009 is projected to be in the range of 18% to 26%. We expect that sales of fiber optic gyroscopes will be about equal to the Q2 level and we expect continuing growth in TracPhone V7 system sales and new activations. Yet this projected total company revenue level reflects a sequential decline compared to Q2. This is due to the fact that there will be no shipments of our aviation TV antenna system and, consistent with historical seasonal patterns, we expect to see a sequential decline in satellite TV sales for leisure marine markets.

We expect net profit for the quarter to be in the range of $0.05 to $0.10 per share; gross margin will likely be modestly higher than the second quarter. Although we expect to see the first indications of improving service gross margin, the lower product revenue level will limit our ability to increase production efficiencies for products. This along with continuing investments in the global mini-VSAT infrastructure and a modest sequential increase in operating expenses will limit profitability for the quarter.

We expect that the fourth quarter will show a sequential increase in revenue and EPS leading into what we expect to be a trend of long-term operating profit growth driven by the top-line growth of our strategic business.

In summary, we expect our strategic growth businesses to continue to build momentum and we believe that Q3 should be the low point for operating profit and EPS as we go forward and progressively benefit from the sizable investments that we have made to establish the global mini-VSAT infrastructure. Now we'd like to take your questions. Operator, could you please open the call for questions?

(Operator Instructions). Rich Valera, Needham & Company.

Thank you, good morning, gentlemen. First, a couple questions on the FOG business. You mentioned that you expected the percentage of revenue from CROWS to decline I think in the third quarter as other customers came on. Can you say, one, what roughly came from CROWS in the third quarter?

And then looking longer-term at the trajectory of the FOG business, it would seem that this year you're going to see a very significant contribution from MATV related CROWS business as they ship roughly 7,000 MATVs over to Afghanistan. I just wanted to get your sense of what you think helps to offset that when you look into 2011 as presumably a much smaller number of MATVs shipped to Afghanistan? Thank you.

Well, I don't have the percentage in front of me for Q2, but going forward we see all of the remote weapon station business being less than 50% of the FOG business. In this last quarter the FOG business was about $10.6 million. So, we see all the CROWS type business continuing, so we don't see that declining. What we see is other parts of the business growing including the commercial business with this IMU that I mentioned, also the torpedo, the IMUs for Raytheon, there are a number of other IMU type programs out there. So, right now we see no slowdown in our FOG business.

So you feel pretty comfortable maintaining it at this $10 million plus type of run rate for a while?

Yes, I think our sense is that it will continue to grow, it shouldn't stay at this level. So, being over $10 million is actually ahead of where we thought we'd be right now. So I think it will continue to grow. I don't think it's going to grow at 50% to 100% type of growth rates anymore. But we definitely see it growing next year.

Great. And then on the TACNAV, obviously you got a nice new order there and it sounds like there could be more behind that. Can you talk about what that might do to your TACNAV run rate? I think that's been running at around $2 million per quarter. Do you see that run rate potentially increasing from that level and maybe sustainably so?

Yes, I think it will increase, but it probably won't happen until Q1 of 2011. So I think this run rate, by the time this new order kicks in it will be next year. But then I do see us operating at a new higher run rate for the next maybe as much as three or four years because we've got a lot of stuff in the pipeline already in backlog and a lot of these $2 million orders have been coming in and many of these have follow-on business as well. So, we really see the TACNAV business now as coming back and being a strong support on top of the FOG business and growing substantially.

Great. And then on the mini-VSAT businessmen, you mentioned you expected to ship your 1,000th unit I guess in the third quarter. And can you remind us the dynamics there? When you say ship do you mean recognize and activate or it's that shift and then there's a delay before you actually would recognize that revenue in that was actually activated?

Right, when we see ship it's kind of ambiguous, but what we're talking about is customer revenue shipments, not -- so not just units produced. So these are sold units that we've invoiced for, but it's not the same as the number of active subscribers. And our historical pattern has been that there's been as much as a six-month difference between the time a unit ships and the time it's activated. Although we have seen that start to come down more recently. So I think some of that was initially channel fill and now it's probably in the three- to five-month type of duration from the time a unit ships to the time it's activated.

So, if we were trying to think about your subscribers in terms of when you got to 1,000 subscribers, we should be thinking some delay relative to the third quarter, maybe more the fourth-quarter timeframe?

Yes, I think that's definitely the way you should think about it.

Thanks very much.

Hamed Khorsand, BWS Financial.

Hi, guys. I probably missed it or [I did not have] -- did you go over growth in the gross margin benefit you could see in the third quarter?

Gross margin for the third quarter?

Yes.

I indicated that we expect that for the total company it would be up modestly compared to the second quarter. I didn't say anything specific, Hamed, about product versus service. But I also did indicate we expect service gross margin to improve sequentially. Product gross margin will be a little bit more of a challenge because it's a lower production level in the quarter because we won't have the satellite TV antenna for the aviation market and also because of the seasonal dip due to the satellite TV leisure marine market.

Okay. Will there be a reduced amortization on the mini-VSAT network in the third quarter?

Reduced amortization?

Yes.

No. The cost -- the cost that we've been putting in place for the mini-VSAT network will continue. Essentially what we've been doing over the last three years is actually increasing that cost basis and increasing the amortization number, if you will. So the pace at which we're adding to that will slow from here on. We only have the Brazil region, South America, if you will, right now that will be coming online in the third quarter.

We certainly expect over time there will be other capacity increases due to demand. But the impact of each of those increases will be far less on a percentage basis with respect to the total infrastructure investment that we've seen to this point. So, you should assume that the cost basis will continue to grow, but it will grow at a slower pace than we've seen over the three years.

Okay. And what kind of interest do you -- did you experience from your install base of mini-VSAT users once Ku-band was available globally?

Well, I think we have very strong -- we had a very strong quarter for the mini-VSAT business. I mentioned on the call that it was up more than 50% year over year. So, I'd say we continue to see good growth and the rate of growth is increasing. So it's both growing and accelerating.

Next question, Operator?

I have one more if that's okay. How would you describe the mini-VSAT subscriber additions since the beginning of the year and has that outpaced what you were seeing earlier in the year?

Yes, the rate of growth in subscribers is increasing, it's increasing quarter over quarter as well as on a year-over-year basis.

And you see that going forward as well?

Yes, absolutely. We see that continuing, that's the whole premise of what we're doing here is building out this global infrastructure, getting everything in place and then gaining momentum as we add sales regions and we get repeat customers, and subscribers are growing. We believe we're the fastest-growing VSAT provider in the marine market today. So, it's all going according to plan.

Are you going to keep that moment going that you've got so far?

Yes.

Okay, thanks.

Chris Quilty, Raymond James.

Hi, gentlemen, I wanted to follow up first on the service margin -- or I guess the cost of service. It looks like on a sequential basis up almost $1.25 million which is the biggest jump I think we've seen as you build out the network. And I just wanted to try to get a sense from you of were there any unusual items there in the cost of service, or is that $4.25 million sort of the new base on a go-forward basis given where you're at in the buildout of the mini-VSAT network?

In the quarter, Chris, one thing we did have -- I mentioned that we had a service contract, a non-recurring engineer contract that was completed in the second quarter, so that's over. But the cost related to it was substantially higher than we had originally expected it would be in terms of completing the project. So that certainly weighed on the gross margin and the cost of goods, cost of service for the quarter. But in addition to that I can say that was (multiple speakers).

That was not VSAT related.

Yes, not VSAT.

Just to be clear, everything that's in that service category is not airtime service; that includes military, engineering services as well as Inmarsat airtime and miscellaneous like repairs and things like that.

Right. So a very good point that Martin just made, that that project was not related to VSAT at all, it was related to stabilization and guidance products. The airtime services component of our services revenue is now clearly the large majority. We were over $4 million, comfortably over $4 million in airtime service revenue for the quarter.

And so as a consequence a good portion of the cost of service is related to that airtime infrastructure as well. As you know, the infrastructure costs are for the mini-VSAT business; the Inmarsat revenue is more or less a pay-as-you-go because we're reselling Inmarsat airtime services.

So, I would say that with the exception of that one non-recurring engineering project that was higher than expected, you can assume that the cost of service that we saw in the second quarter is probably fairly representative as a baseline moving forward. And that we will be adding some mini-VSAT infrastructure costs in the third quarter and that will also -- the fourth quarter will be the first full quarter for that and that's for the Brazil region.

In the second quarter a major tradition that we put in place, as you might recall, was the Indian Ocean which was really two regions, both the East and the West Indian Ocean, and that went in place in mid April. So that added to our cost structure for mini-VSAT during the second quarter. But to answer your question, as I said, I would say that you can look at the cost of service more and more now as we go forward as the airtime is making up a larger and larger percentage. You can look at Q2 as a reasonable estimate of the baseline going forward.

Okay. Actually I was just hoping that the low point was in Q4 on the service margins where you hit 18.5 and they started moving up in Q1 and it was a little surprising to see it come back again. But I guess you did talk about the new regions rolling out.

Yes, the Indian Ocean was a significant impact, Chris, and the other thing is in the past we've had some other service components to that revenue and cost of goods that could cause some variability, namely repair services, as an example. So, I don't think we indicated that service margins had hit the bottom in the fourth quarter of last year. But we do believe that they're at the bottom in the second quarter that we just concluded.

Okay. And the global care service program that you mentioned, is that a large cost component for you in terms of supporting that program?

No, it should be a revenue and margin generating program. So it will be a paid service project.

And do you need to outsource a portion of that in order to support local precedents?

Yes, we'll be making an announcement on it, we're going to have some partners, we have partners lined up. And so it will be a combination of the existing customer care type service model that we have today using dealers and agents around the world and some new partners.

Okay. Circling back to the TACNAV, can you help us understand the timing of when that may -- beginning to ship margins? Are they traditional margins for that product line, manufacturing capacity? I know Tinely Park has been kind of busy. And final question of the four part here. Mix of domestic versus international, it seems like the overwhelming portion of your sales are now going international.

Right, let me start with the last question first. For the TACNAV business, even though this particular customer is a major US prime the end customer is a foreign customer. So, and it's being built outside the country. But it's a vehicle program.

So a lot of these vehicle programs tend to be going to foreign militaries at this stage whereas the US customers -- I mean US Army is very focused on vehicles like MRAP and CROWS type applications where they're dealing with a very specific problem, whereas the other countries are still gearing up for more general type military operations. That might change again in the future.

So, in terms of timing, this program has an engineering development component. We've actually been operating under a letter contract for the engineering component for the new redesigned TACNAV system. That's scheduled to be completed during Q3 early Q4. And production should start at the very end of this year and going into next year.

Okay. And margins on it?

Margins on the TACNAV business traditionally have -- if you look at our various products, they are near the best. So --

And that shouldn't change.

It should not change, no.

Okay. And you also talked about a new FOG in development. Would that (multiple speakers).

Sorry, go ahead.

No, it was just a question about, again, the cost margin revenue potential of that relative to your current pre-FOG configuration on the RWS.

Well, what we're looking at is just maybe doing a tighter integration with the weapon system manufacturer. So developing a more flexible configuration where we might do a three axis system for a customer so that it's more tightly integrated rather than three separate products. And while that is expected to probably bring the ASP down, it should be more -- it's going to be designed to be less expensive to make. So, from a margin point of view it should be similar.

Okay. And can you give us any more color on the maritime leisure TracVision market? That was kind of your traditional bread-and-butter --

Right.

-- sales were down order of magnitude 30% to 40% last year. And what are you seeing in boat registrations and boat demand and market share and when does that market show some real signs of life?

Well, I think that in terms of US we're seeing some good growth there. But as you point out, you're comparing it to last year which wasn't so good. So -- but we are seeing good double-digit growth in the marine TracVision market. We believe our market share is increasing even though we would have a very high market share, boat builders on the other hand are still very depressed. So most of this business is retrofit, used boats, that type of thing. We haven't seen any rebound in boat building. I think some of your analysts have pointed that out as well.

Okay. Great, well thank you, gentlemen, and keep up the great work.

All right, thanks, Chris.

(Operator Instructions). John Bright, Avondale Partners.

Thank you, good morning. Martin, have you done anything to change your go-to-market strategy for the mini-VSAT broadband service to try to increase awareness and penetration?

No, I think we've really been working on executing our strategy, we haven't changed it. So as we add regions we market locally in those regions and then we also use the expanded coverage to increase the attractiveness with global shipping companies. We're leveraging our success with some of the smaller tanker fleets and doing a lot of outreach marketing in terms of testimonials, that type of thing.

It's a very conservative industry, so the fact that we're gaining market share here I think is a good sign. And as those markets recover from the recession we should see stronger growth. So, I think we've done the right thing from the beginning and we're just continuing to execute better.

And that's primarily consisting of the direct relationship of marketing, so going to the known entities to try to penetrate them, is that fair?

Well, we do that but we also have -- we do in conjunction with our dealers and sales agents around the world. So we work with our distributors in each country who have ongoing relationships with the target customers. So we'll go in and assist on the sale, but we don't sell direct. We'll be part of the presentation and we'll help write the proposal, but usually we have an in-country agent that provides the on-site support and the local language and manages the relationship and the installation.

Are you seeing any competitive response to your offering?

Sure, I think as we get more and more successful we see more and more response from our competitors saying our product doesn't work and our service is contended. And so we take all that as a good sign that we're succeeding and they're failing so they're attacking us.

Pat, you mentioned, I think, in one of the questions that the airtime service, and correct me if I'm wrong, is over $4 million. If that's accurate how much of that was Inmarsat?

Well, we haven't disclosed that specific number, John. But I can tell you that it's the very large majority of that greater than $4 million number.

Is the VSAT.

Is the VSAT.

The Inmarsat has been declining --

Oh, you asked about Inmarsat.

No, I just wanted to be clear because you mentioned Inmarsat.

Okay.

I think Pat pointed out in his prepared remarks that our Inmarsat airtime has been declining and we see that as an ongoing trend as customers move towards the mini-VSAT. So -- and that's also masking the growth a little bit. So when you look at the growth in our service revenue, you have to take into account that the Inmarsat business is shrinking.

Can you talk about more specific metrics associated with the mini-VSAT business, maybe a monthly ARPU, how that's trending? I think you're talking about shipping your 1,000th project in the next or current calendar quarter, is there an exact subscriber number that you would provide?

Yes, we don't provide exact subscriber numbers. But as far as ARPU goes, it has been running around $2,000 per subscriber per month. And that number started to come down a little bit a couple of quarters ago, not materially. And then since has recovered a bit. So, that trend looks pretty flat. And what we expect to happen is that as time goes on we'll continue to add some additional value added services that we'll be charging for to bring that number even higher.

And the competitive response, I would likely assume, includes price? And do you think you're going to be able to hold this ASP on a monthly basis?

We certainly are planning on keeping it there. So, obviously it's a competitive world and we'll do what has to be done in terms of pricing so that we continue to be successful. But right now I think we're in a pretty comfortable spot with our prices and we don't see any immediate price changes.

Thank you.

Rich Valera, Needham & Company.

Thank you. I just wanted to clarify what the backlog figure you gave on the call included? I'm assuming that excludes the recent TACNAV order of $13 million, but does include the $7 million FOG order you announced during the quarter?

That's correct.

Okay. Thank you.

Raymond James, Chris Quilty.

Also a follow-up question here or clarification. On those international TACNAV orders, are those standard TACNAV or TACNAV light?

Well, the big order we just got is actually for a new project which we haven't named yet; internally we're calling it TACNAV common baseline. But it's an improved version of the TACNAV that has tighter integration with gyroscopes. So it will be a whole new product line that we're coming out with. But this I would say is closer to the TACNAV, basic TACNAV as opposed to the light or the heavy. So kind of the middle of the road variant.

Okay. And on the commercial FOG business, which I think you said should exceed $5 million this year -- I believe that's up substantially from last year, like order of magnitude increase?

Right, yes, let me clarify. What I meant to say was that this single product will be $5 million. So our commercial -- and that went from zero to over $5 million. So that makes it a very significant new product launch for us. That's not our typical (multiple speakers).

(multiple speakers) the CNS-5000?

Yes.

Okay. And end customer applications, is there a single customer or a single application that's dominating that demand?

Well, most of -- I mean, a lot of the applications are -- we're selling the product to NovAtel for use with their precision NAV stuff and they have a number of different applications. There are also some new applications that we're working on, some of which is for precision ag, for underwater navigation, marine compass type applications. And they -- but a lot of the applications they use are for precision survey work, sort of the Google map type application as well as some airborne applications. So to answer your question, no, there's no single application that's dominating this, it's just a lot of precision nav type stuff.

And do you see -- I mean, obviously you can't maintain that specific growth rate, but the commercial markets relative to the defense RWS opportunity say over the next three to five years, how would you characterize them?

Well, I think that we would -- we always like to diversify even within a product. I think as a company we're diversified by being in satellite business, nav and fiber optic gyro. But within the fiber optic gyro market we also like to be diversified, so we don't want to have one customer who represents 90% of our business. So, that's why in Q3 we're happy to see that RWS is still -- will be well under 50%. The IMU business is significant and the commercial is significant. So I think those three parts, we'd like to see them each be one-third of the FOG business.

Very good. All right, thank you.

All right, thanks.

(Operator Instructions). And it appears there are no further questions at this point. Gentlemen, I'll turn the conference back to you for any additional or closing remarks.

Great. Well thanks, everyone, for listening in. And as always, if you have any follow-up thoughts, please feel free to give us a call directly. Thank you.

That concludes today's conference. Thank you all for joining us.