KVH Industries Inc (KVHI) 2010 Q4 法說會逐字稿

Good day, everyone, and welcome to the KVH Industries' fourth-quarter and year-end 2010 conference call. Today's call is being recorded.

At this time for opening remarks and introductions I would like to turn the conference over to Mr. Patrick Spratt, Chief Financial Officer. Please go ahead, sir.

Good morning. I am Pat Spratt, Chief Financial Officer of KVH Industries, and with me is Martin Kits van Heyningen, our Chief Executive Officer.

This call will address the fourth-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 to 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 November 5, 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 will turn the call over to Martin for today's discussion of results. Martin?

Thanks, Pat, and thank you all for joining us today. 2010 was a milestone year for KVH, as we grew our top line by 26% and passed $100 million in annual revenues for the first time. In addition, we increased our annual operating profit by more than $6 million compared to 2009. Our VSAT business accelerated with significant new growth in subscribers, units shipped, and new long-term fleet contracts. Revenues for fiber optic gyros were just over $40 million for the year, and most of that growth came from new programs and new customers.

Our success in these strategic markets led to quarterly and annual growth despite a difficult global economy. For the quarter, revenue was $27 million, a 3% increase over Q4 last year, with earnings of $0.02 per share. For the full year, revenue was $112.2 million, a 26% increase over 2009, and earnings for the year were $0.56 per share or $8.3 million.

These results and the progress we have made over the last 12 months have put us on a solid path to executing our strategic plans and achieving our goal of growing our annual revenues to more than $300 million within the next five years.

First, our guidance stabilization business, led by our fiber optic gyros, continued to grow year-over-year. We generated more than $10 million in sales for our FOG products in Q4, despite the fact that sales for use in CROWS RWS systems were only about $1.5 million for the quarter.

Throughout 2010 we made a concerted effort to diversify our FOG customer base to reduce our reliance on one or two large defense customers and to expand our non-military business as well. Our fourth-quarter results are evidence that this effort is succeeding.

We saw the benefit of an increasingly diverse revenue stream in a number of new applications, some of which we expect will provide expanding revenue opportunity in the future. Driving our Q4 FOG growth in the commercial market was the success of our Inertial Navigation Systems, products like our CNS-5000 occupy a unique position in the market due to their single unit design and great cost-to-performance ratio.

As a result, KVH systems are being widely fielded in precision mapping and aerial surveying systems, two applications that are driving the demand for new three-dimensional maps for commercial and consumer applications like Google Earth and Street View. Industry estimates show that the market for Inertial Measurement Units is expected to grow to $2.5 billion by 2016, which is probably why our higher value inertial systems are already the fastest growing part of our FOG business. As additional applications for geo-referencing the Earth's data to live applications becomes more commonplace, we expect to see this market develop even further.

While commercial applications are increasingly important, remote weapons remain a vital element of our FOG business. However we are still waiting for the US Army to publish its long-awaited CROWS III request for proposals. Hopefully we will be seeing that RFP sometime in early 2011, early this year; and we have established relationships with many of the manufacturers who are expected to pursue the CROWS III contract. We look forward to working with them to win this business, which could be worth more than $200 million in fiber optic gyro sales.

In the interim, the Army has awarded a contract extension to Kongsberg just a few days ago, which could mean that there will be additional requirements under the old contract during 2011.

Our success to date in the FOG market stems from our investment in product development, which has resulted in breakthroughs in performance, cost, and size. We continue to invest with an eye toward maintaining our technical advantage beyond 2011.

We're now working on a new miniaturized gyro that has performance as good or better than any stand-alone product we have ever built. It's ideal for integrating in stabilized cameras, drones, and other systems that need very high bandwidth, super-low-noise sensors. It will also make it possible to develop ultra-compact, next-generation inertial measurement systems that will open up a whole new market for KVH in applications like to new smaller drones.

Moving on to our satellite business, during the fourth quarter satcom revenue was $14.4 million, a 3% increase over last year. However, during last year's Q4 we shipped $3.5 million in LiveTV aviation antennas that didn't recur this quarter at all. Excluding that, mobile communications revenue in marine and land markets was actually up 37% on a year-over-year basis. In fact, in Q4 our mini-VSAT revenues increased approximately 70% over Q4 last year.

We also saw small but continued growth in our marine satellite TV products that helped offset the decline in sales of our Inmarsat products. For the full year, mobile satcom revenue was up 26%, largely driven by the growth of our VSAT business.

In fact, our VSAT business is now larger than our core maritime TV business on a run-rate basis. We are now seeing the combination of our TracPhone V7 hardware and mini-VSAT Broadband service gaining popularity in leisure, commercial, and government marine markets.

A key part of our success and what makes our system unique is our global broadband network. We made tremendous progress in expanding and enhancing the network throughout 2010. In the last few months alone we added or expanded capacity in North America, Europe, Africa, Asia, the Indian Ocean, Australia, New Zealand, and Brazil. This robust network has proven itself more than capable of providing the quality of service and reliability that mariners demand.

In 2010, we delivered more than 60 terabytes of data and handled more than 1.5 million voice calls to and from vessels around the globe with our mini-VSAT Broadband network. The ability to meet that demand reliably and affordably will be crucial to our effort to play a major role in what is expected to be a $2 billion a year maritime satcom airtime and hardware industry by 2017.

We set ourselves apart by offering a turnkey, end-to-end hardware, service, and support solution that no other VSAT provider is able to match. Working with our partner ViaSat and using their spread spectrum technology we offer smaller antennas, faster data rates, and more affordable service.

When new customers choose our TracPhone V7 solution they tell us that our lower hardware and airtime costs, easier installation, seamless coverage, and faster data speeds were critical in their selection. However, we are committed to building on our competitive strength by also expanding the capabilities of our solution with value-added services.

Commercial fleet operators need network management tools to support crew e-mail, data and Web compression, real-time reporting, remote IT access, enhanced security, antivirus, and least-cost routing. The ability to provide these functions as integral components in our mini-VSAT offering was a key consideration in our decision to acquire Virtek Communication and their CommBox technology.

CommBox equips fleets with greater control over their communications; increases the overall efficiency of our network; and is now a part of every proposal to commercial clients that we send. We are already starting to see the benefits of this new integrated product offering.

We have just been selected by a European company to equip their 120-vessel fleet with both the V7 and the CommBox. We're also in the late stages of an extensive selection process and trial for a 200-vessel opportunity with a large US company.

Clearly the integration of value-added services or and the fastest, lowest-cost broadband service is going to be a winning combination. We now have an extensive portfolio of reference accounts; and if you are interested you can check them out on our website in the Case Studies section. It really shows how different customer segments are using our technology to save money and run their business more efficiently.

The mobile broadband and satellite TV marketplace is evolving rapidly, and we are working on a number of exciting new products, one of which will be announced in a few days at the Miami Boat Show. We intend to maintain our leadership position by continuing to innovate both in product lines and the services we offer.

With our established global networks, proven hardware, and new value-added capabilities, I believe we are well positioned to capture the mobile broadband market and achieve our goal of a run rate of more than $100 million a year in annual service airtime revenues within the next three to five years. So in conclusion, we set aggressive objectives for 2011 and the following four years. I am confident that these goals are achievable.

We have disruptive services and technologies that are popular in the marketplace. Our VSAT business continue to accelerate. We expect that the total mini-VSAT Broadband revenues will roughly double this year as we continue to gain market share and continue to build a solid recurring revenue base.

Although we are disappointed with the FOG revenue outlook for Q1, the reality is that we still have some defense businesses that are quite unpredictable. However, we continue to see resurgence in our TACNAV business, and we hope to book significant new orders in the next few months. If we are successful with this, it could offset some of the short-term softness in our FOG remote weapon station business.

Our full-year guidance of a 75% increase in operating profit does not assume any revenue from the U.S. Army CROWS III initiative; so if that were to happen it would present upside to our guidance. In the meantime we're putting the necessary facility resources in place to execute our strategy over the long run.

Now I would like to turn the call back over to Pat for a closer look at the numbers. Pat?

Thank you, Martin. Although we had a couple surprises that affected the fourth-quarter results and that can affect the immediate near-term performance, overall there is a great deal of positive momentum that will become more evident as we move through 2011.

For the quarter, gross margin was about 37%. This was down quite a bit sequentially and it was well below our expectations.

In the quarter, we saw a relatively low level of new airtime activations and a higher number of temporary suspensions than expected. The pace for new VSAT system sales continued to be very healthy; so it appears we simply had a bigger than normal gap between the new sales and airtime activation rates.

We expect the Q4 gap in new innovations will be only a temporary factor. In fact, we had more new activations in the month of January than in all of Q4.

In hindsight, it also looks like the extensive oil spill activities in the Gulf of Mexico generated a greater benefit in Q3 than we previously thought. As those activities came to an end in Q4 the variable demand for airtime in that region declined quite a bit. Although extraordinary external events like the oil spill can cause some short-term unevenness in our revenue pattern, the upward momentum for long-term services growth is clearly established.

Also contributing to the low service gross margin was the startup of satellite coverage for Brazil in advance of generating meaningful airtime services revenue in the region, and very low levels of other services like contract engineering and nonwarranty repairs.

Many VSAT airtime services declined modestly compared to Q3, but was up more than 60% year-over-year. Inmarsat airtime services declined sequentially, but did show some growth year-over-year.

For the full year, Company gross margin was approximately 40%, 360 basis points better than 2009. Operating expenses increased 16% in Q4 compared to last year.

Sales, marketing, and administration expenses were the main drivers of this increase. There were a number of key industry trade shows; we continued to make critical investments in sales resources for our global VSAT business; and we incurred legal and licensing expenses associated with the continued global expansion of the VSAT network.

On a sequential and year-over-year basis the addition of Virtek accounted for some of the increase in each operating area. For the full year, operating expenses excluding the cost to acquire Virtek grew 17% compared to 2009, much less than the growth in revenue.

We recorded a $312,000 tax benefit for the quarter. This was primarily due to capturing R&D tax credits after the federal government passed legislation in December that extended this credit for 2010.

On the balance sheet, cash and marketable securities were $37.3 million, equal to the Q3 level. For Q4, cash flow from operations was neutral; and it was a positive $9.5 million for the full year.

Accounts receivable increased to $18.8 million. Days sales outstanding was 63, which was skewed high because we shipped about 50% of the quarterly revenue in December, in line with customer requests. Inventory decreased sequentially to $14.8 million.

Capital expenditures were $822,000 for the quarter and were $11 million for the full year. Our backlog for guidance and stabilization products and services at the end of December was about $20 million.

Looking to our expectations going forward, we expect the 2011 financial performance will look quite different in Q1 compared to the rest of the year. Early in the year we need to deal with the fact that FOG volumes for the CROWS II remote weapons program will be quite low. Although the non-CROWS fiber optic gyro applications are expanding nicely, and should show solid year-over-year growth during the first half, this will not be enough to offset the CROWS fall-off.

In addition, we do not expect any shipments in the first half for our aviation TV system to LiveTV as they currently have adequate on-hand supply for near-term installations. In the early part of the year we will also see VSAT infrastructure costs grow above the Q4 level due to a full quarter of network coverage for Brazil and the addition of another full transponder over the continental US to satisfy growing demand.

On the plus side in the first half of the year, there is a foreign military order worth more than $3.5 million for our TACNAV military navigation system that we expect to receive soon and ship in Q2. We also anticipate continuing strong growth in the VSAT business for both system sales and airtime services.

We believe that after the first quarter we will have a very favorable profile. We expect the FOG business to show sequential growth in the second half of the year, though not yet equaling the sales levels that we reported during 2010. This projection assumes that shipments for the CROWS II program will remain at relatively low levels throughout the year.

We expect that sales of our core satellite TV systems will grow at modest rates in line with what we saw in 2010. Finally, we expect that our VSAT business will continue to grow strongly as customers take advantage of our global coverage and the new products and service offerings that will come. We believe that the VSAT product and airtime revenue could grow up to 100% for the full year compared to 2010.

Recently we provided insight to our long-term financial model with a 2015 target date. In that time frame we expect total Company revenue driven by our strategic businesses to be in excess of $300 million annually, with VSAT representing at least 50% of that total. As the strategic businesses grow, especially the airtime services portion, we should achieve significant increasing returns to scale from our network and operating infrastructures, leading to operating margin of 15% and EBITDA margin of greater than 20%. In 2011 we should make very good progress toward these objectives.

In Q1 we have challenges on both the top and bottom lines. Q1 revenue is expected to be about 5% to 10% below Q1 2010. LiveTV and FOG combined account for about $6 million of the year-over-year decline.

As a result, we expect to report a loss of $0.05 to $0.10 per share. However, from that point forward we expect to generate very positive revenue and margin growth. For the full year we expect revenue grew to be in the range of 15% to 20%, and we expect operating margin to be about 10% or better for the second half. The tax rate for the year is expected to be about 38%.

On a related note, we have just entered into an agreement to purchase land on which we will construct an integrated manufacturing and warehouse facility here in Rhode Island, directly across the street from our headquarters building. This will provide for greater efficiency in these operations, as it will also support anticipated growth requirements.

Now we will take your questions. Operator?

(Operator Instructions) Chris Quilty, Raymond James.

Good morning, gentlemen. So a question for you. A couple of nice announcements on fleet rollouts of the mini-VSAT service. The 120 vessels, was that closed here in the January/February time frame?

Yes, that is something that we will be announcing the details of shortly. So we have just been confirmed that we were selected and we are not yet under contract. But it was a very large competitive procurement process, so you should see announcement on that here shortly.

Okay. What sort of rate of rollout do you expect? And was this a customer who had been testing the product for some period of time?

No; this is actually a new customer. He'd had not been testing the product, which is kind of unusual. Instead what he did is a very large competitive procurement.

Basically everybody in the industry bid on it. They also did a lot of reference checks rather than do extend trial. But there will be trial period as part of this contract, as part of the rollout.

But it is different in the sense that it is not a trial and then a procurement. It is a procurement contract with a short test period.

And a rollout? So would this potentially roll over these vessels through the course of the year or it something that takes six months?

Yes, it's -- I don't really know the answer to that because it depends mostly on logistics and how quickly the vessels come into port and they can do the upgrade. So as part of our contract we are coordinating the global installation in various ports around the world through our -- we're not physically doing the installs ourselves, but it is our responsibility to get the installs done. And obviously we have an incentive to get it done as quickly as possible.

Okay. The large US fleet, 200 vessels, what is the background of that one?

That one has yet to be awarded. It was again a competitive procurement, and there are currently two finalists. We are in the last stages of a extensive trial period.

Okay. Because you had indicated last year that there were a lot of customers out there trialing the product and you thought that created a pretty good pipeline. This is, I am guessing, one of the companies that was in the pipeline?

Yes, yes, absolutely. So these programs tend to take always longer than we want. What is interesting is we had, at sort of the midpoint of last year, internally identified three targets that were -- where we had to win in at least one of these three big programs. It was the Coast Guard, this one in Europe, and the one in the US here.

Right now it looks -- we have won two out of the three and we feel good about the third. So really it was just -- the only reason I mention this is to give some sense of how the business is progressing and why we have pretty good confidence that we are going to see continued growth there.

Okay. How does the pipeline look on a g-forward basis? Are there other fleets, fleet orders of this size?

Yes, there is no shortage of opportunities here. It is a very big market with a target-rich environment.

Great. Also, the service decline in the quarter, clearly you indicated part of that was from the Gulf of Mexico. However, is there also a component of this that is leisure-oriented customers that -- I know you have seasonal plans that we should expect and model them to shut down every November and turn back on in April or May.

Yes. That was clearly a forecasting error on our part. I think the fact that the plans are called seasonal should have been a clue to us that there might be a seasonality component in those plans. So we have got that projected in going forward.

The good news is that those are not the activations and they reactivate automatically by contract. So we are seeing those come back online now. So the typical customer is allowed to suspend for three months, but he has to extend his contract by three months. So a 12-month contract becomes a 15-month contract.

Okay, so it is a three-month window. So in essence I haven't backed into the numbers here, but are you still running a basic $2,000 a month, $1,900 a month ballpark for your average customer? And presumably in these periods when you hit the seasonality your monthly ARPU is going to drop down to $1,500 or something of that nature.

Yes, I think the $1,500 might be a little bit low; but you are right, it does drop. I think you should think about maybe like in the 10% range as an average.

Okay.

Because we do charge something during the suspended period as well. Nominal amount, but --

Okay. You are giving a long-term operating margin here of 15% with the service business. Again I can probably disaggregate and try to figure out margin profile of the service business versus the balance of the business. But what do you see as the long-term operating margin profile of the service business? Assuming you have got global footprint in place and you start leveraging the overall network, I might have assumed you might get a higher margin than that on the service business.

Pat?

Yes, Chris, this is Pat. I would say that your assumption is correct in terms of the way the model is structured. I can't get into the specific numbers, but I would say that it's a fair assumption that the operating margins for the airtime services business should be greater than that 15% target. And likewise for the product element of the business, probably a bit below that 15% number.

Okay, and actually this is going back a step, Martin. Can you give us an idea of what you think your customer mix is between commercial, government, military, and consumer leisure?

I think the leisure component, which obviously started at 100% for us, I think it is down to probably 25%, 30%.

Okay. It appears that the fastest-growing part now is the commercial business that shouldn't have a seasonal aspect to it.

Yes, it still has a little bit of seasonality, Chris. Because for example in Alaska, the fishing -- there are different customers that have different seasons where they are allowed to fish. So you do have some seasonality in the fishing part of the commercial. But you are right, for the workboat and for the shipping there is no seasonality.

Okay, I will end my monopolization with one more question which is the non-CROWS FOG business. Can you give us a sense again how well distributed that is amongst customers or applications, and what you expect in terms of the growth profile for that business in 2011?

Sure. Probably the most interesting thing in 2010 was that even though the remote weapon station, the Kongsberg business was large, it was only up marginally from 2009. So really all of the growth in 2010 came from other customers and other applications, which is actually very healthy for the business.

So, we have a number of different application, none of which are, say, as much as a quarter of what the CROWS business was maybe. So it's a number of smaller customers, smaller applications.

But they're still early stages in some of these markets. So that is why even though we had $10 million in FOG in Q4, we are not expecting to do that in Q1. It's still going to be a little bit lumpy during this startup phase. But it's very encouraging.

Great. I will circle back in the queue. Thank you.

Rich Valera, Needham & Company.

Thanks, good morning. I just wanted to follow up on the FOG questions. Martin, can you give us a sense of what you are expecting for FOG in all of 2011? It seems like you are presumably expecting CROWS to be down pretty significantly, while I would think your non-CROWS up.

But if you could help us get the profile of that FOG business, I assume down significantly sequentially and 1Q; and then what might drive a rebound in that in the back half?

Right. Yes, I think in round numbers we are looking at a maybe $10 million decline in that business for the full year.

Sorry, what was that?

On the order of $10 million decline year-over-year.

Okay.

So that is making up for half of the decline in the CROWS business. Now, when we put our plan together that was more than a few days ago, and a few days ago the CROWS II program got extended. So what that means for us we don't know yet.

As I mentioned before the CROWS III is not in there at all. So right now, given what we know, we are assuming very low levels of CROWS business for us. If that changes, that could impact that.

But that just shows strong growth in our commercial business with customers like NovAtel for precision mapping with our IMUs; that business is expected to continue to grow.

Can you be a little more precise on CROWS II expectations? I think that did probably close to $20 million last year. Are we looking at that to maybe be cut in half? How much visibility do you think you have to that from your -- from Kongsberg's recent order?

Well, yes, I would say that in our forecast we have something on the order of a quarter of that in the plan. So a very low level; think of on the order of $1 million a quarter kind of level that is in our outlook.

So we have tried to be very conservative in that simply because it is one of those contracts that is binary. It either happens or it doesn't. Right now it looks like it may happen at a level that is higher than what we have in our plan.

Okay, that's helpful. Do you plan to have discussions with Kongsberg about any forecast that might come out of that recent order? Do we have any visibility on that at all at this point?

Yes, we certainly will. They were our largest customer last year, so they have our undivided attention. We will be speaking with them; there is an Army show next week after the Miami Show in Florida.

Great. Then wanted to follow up on the foreign $3.5 million TACNAV order that you referenced. It sounds like that's a pretty high probability you could land that in the next few months.

Just wanted to clarify when you thought that would ship. Did you think that would ship entirely within the second quarter, or that would just start in the second quarter and ripple through into the second half?

We think it would ship in Q2.

Okay. Just from a quarterly sequential trajectory, if I'm thinking about modeling, that is a pretty big step up in Q2 with presumably no follow-through on that specific program in Q3 or 4. Should we still be thinking about sequentially up overall revenues as we move into that back half?

Yes, I think so overall. But see, what is happening here is that we see these other businesses start, like in the FOG with the IMU growing; so that by Q3 and Q4 we expect to be back to this run rate of $9 million or $10 million for FOG business. And that is without any material CROWS business.

Then the TACNAV business, this is on top of the $14 million order we got in last year. So we are starting to build backlog there as well.

This is actually part of a larger program, so we do see this as a recurring business as opposed to a one shot, one quarter, although the timing of the balance of that is always tricky.

So top line, sort of headline is -- TACNAV business is coming back; FOG we have a little bit of a pause here; but we expect by the second half of this year to be in good shape in FOG and in TACNAV as well.

If I can add something that might help with that, Rich, as you mentioned the $3.5 million potential order would be a pretty big step up for the second quarter. So I think you should be thinking in the back half of the year the TACNAV business won't be at that level. On the other hand it should be up on a year-over-year basis because of these other orders that Martin mentioned.

That is helpful color. Thank you, Pat. Then, Martin, just on the mini-VSAT business, the potential doubling of revenue in that business. Is there any way you can either qualitatively or quantitatively give us some color on your visibility towards that?

What needs to happen in your pipeline? How much of that do you have in some form of -- not necessarily backlog but maybe like firm forecasts? Just to get any sense of the visibility towards that kind of growth, that would be helpful. Thanks.

Right. So we do enter the year with backlog, which is the run-rate airtime business, so that helps on the airtime side. For us to double the business we have to win and close and deliver on these programs that I just mentioned -- the big fleet sales. Because even if you are selected, as Chris asked, what is the rollout schedule? We still have to get them installed in order for that to be revenue producing this year.

So that has got to happen. We need to continue to close business on a regular basis. And we have also got new services with the CommBox and new products. So we are overall confident based on what happened in Q4 that we are on a good trajectory. But to double the business is an aggressive forecast, but we think we can do it.

Well, maybe to ask it a different way, would you maybe give a bracket? It sounds like doubling would be a high-end goal, I don't know if I'd call it a stretch goal; but that's the high-end.

If things were less than ideal and some things slipped into next year, do we think we are up like 75%? I am just wondering if we can have a high-end/low-end type of scenario here instead of just the high-end number.

Yes, I think that you could certainly bracket it like that in terms of what you are thinking. I think that exiting Q4 the number was about a 70% growth, and then a little bit more than that in terms of unit sales, a little bit less than that in terms of airtime revenue.

So I think that gives you a sense of where the business is now and then where it would have to grow to get to the 100% target.

Right, okay. That's helpful. Thank you.

Jim McIlree, Merriman.

Great, thank you. Good morning. Is there any LiveTV expectations in the guidance? I know in the first half you are expecting zero; but is there something that you are expecting in the second half?

Yes, there is. I can give a general sense. It's a fairly modest level of business in the second half of the year. Probably in total less than $3 million, and about evenly split between the third and the fourth quarter as of right now. That could change based on their delivery requirements and new sales and so forth.

That is based on -- there is not an order for that? That is just based on --?

No, there is an order that we have in place for that.

We have a PO in hand for that.

Okay, great. Then the service business in Q4, I just want to make sure I understand the decline from Q3. There was some element of Inmarsat down Q-to-Q. Was that -- that's correct, yes?

Sequentially, yes. Inmarsat was down fairly substantially as a matter of fact, percentagewise on a sequential basis. Also we had a fairly substantial sequential decline in other services, namely nonrecurring engineering services and repair services.

Overall, it was a quarter where we saw declines almost across the board. But in the VSAT business as we mentioned, the foundation is clearly there for long-term upward momentum.

Okay, so the $1 million or so decline was distributed amongst those three buckets, let's call it?

Yes, absolutely.

Inmarsat, NRE, and VSAT.

Yes, and the VSAT was the more modest of the collection there.

Right, great. Thank you; okay. So I think in times past you have talked about the overall profitability of the mini-VSAT business and the incremental margins going forward. Given what has happened with Brazil and the doubling, and given what has happened with your exposure now to Brazil and the startup costs as well as the doubling of the bandwidth in North America, can you refresh the status of where you are from a profitability standpoint on mini-VSAT? What incremental margins are reasonable to expect going forward?

Well, all along the product portion of that business has been profitable from the get-go. The airtime services piece of the business has been -- I think we have indicated a number of times -- operating probably at around breakeven or a little better as we continue to rollout the global network across the globe. We have also been indicating for the last few quarters that we are just about there in building that network out. And although the costs are not nearly 100% fixed, a large portion of them are fixed.

We are now -- this quarter, the first quarter, with the completion of the Brazil coverage, we will have a full quarter of cost there. Also we did add transponder capacity over continental United States in anticipation of continuing growing demand in that region. We expect that as we entered the second quarter of this year we should start to see a more substantial margin expansion for each new account that we add.

I emphasize that because I don't want folks to assume that automatically the reported margins for the business are going to jump. They will grow gradually as we add more and more new accounts as we move forward beginning in Q2.

Okay. I don't want to portray this as a problem, but at least from a margin standpoint if you had really, really rapid growth in subscribers that caused you to buy more transponder space, then that would retard the margin expansion that you are looking for. (multiple speakers)

No, no. That is the exact opposite.

That is the exact opposite. That is a really good question. Some of the expansion in capacity, this is all planned expansion in capacity. So we're at a point now as we go through this year that if we have rapid growth in subscribers, we will have rapid growth in profitability.

So the infrastructure that we have in place now is now of a scale that we can support a lot of growth. So it's a really good question, but it's an important point that most of the cost now is fixed, as Pat said. So if we are successful then we will be successful on the bottom line as well.

Is it possible for you to share with us a global capacity utilization then on your system, so we can get a sense how much room there is to grow?

I think that to put a number on it, we could comfortably double or triple the number of subscribers before we have to add incremental capacity. Again, when I say incremental you think about it -- we have a dozen transponders or so now. So if you add capacity you might be adding one partial transponder, for example, in a region which is now you're adding less than 10% to your cost. So you don't have to add capacity everywhere because the growth is not uniform.

So some areas you have coverage just because you need global coverage. Other areas you have extra capacity because you need more capacity in that particular area. So that's just the way the business operates.

Okay, very good. One more if I might. I want to make sure I understand the FOG business. You had a great Q4; Q1 comes down because of the CROWS as well as some of the systems shipped in Q4 to the non-CROWS business is either seasonal or a testing? Or why would there be that decline in the non-CROWS FOG business Q4 to Q1?

There is no reason for it. In other words, there is no story behind that. It is simply still a somewhat lumpy business.

We had a surprisingly strong demand from some customers in Q4 from -- because the fact of the matter is that the systems we sell to them get designed into systems that they sell. So it follows a pattern for their sales to their customers; and it really has nothing to do with us in this case. So we expect that business to recur, but just not in Q1.

Okay, great. So that builds up as you said earlier (multiple speakers) course of the year, particularly in the second half.

Exactly. So by the end of the year we expect the run rate to be back to a more sustainable $10 million. I think this was kind of a premature $10 million run rate with the very low level of Kongsberg.

Right, okay. Great. Thank you.

John Bright, Avondale Partners.

Thank you, good morning. Could you characterize the subscribers at the end of Q4? Maybe net adds.

Then the follow up to that is going to be, assuming the doubling of the business, I assume we can think that subscribers you are anticipating to double as well?

And then I will add one last one. When you talked before, Martin, about the range of subscribers -- I think that is what you were talking about, as opposed to putting a solid number on it. Were you saying that that is the high end or were you saying that that is probably the midpoint?

John, can you -- I'm not sure what you mean by the range.

Well, I think we were talking up the range earlier in the doubling of the services business.

Oh, yes, right. So we weren't talking specifically about doubling the service business. When we talk about the VSAT business it includes both hardware and airtime. So the hardware is still fairly expensive in terms of absolute dollars; our V7 retails for about $33,000. So there is still a significant hardware component when you sell these systems.

So in the short term the hardware sale dominates your revenue and profit, and then over the long term the airtime does. So you have to grow subscribers, but we don't have to double subscribers in order to double the revenue from the business.

Well, let's start within my first question was -- where do we stand or how would you characterize where we stand on subscribers today and then where do you think we might stand at the end of '11?

Yes, we don't report subscribers per se, John. I think the last time when we passed 1,000 units shipped we announced that; so we will be reporting milestones. But we really don't, for competitive reasons, want to discuss subscribers.

I might be able to help with a couple data points though, John. As Martin said, at the end of the third quarter we disclosed that we had reached the 1,000 milestone; and that second 500 was over about a five-quarter period, which would say on average about 100 units sold per quarter.

I can tell you that we are above that right now, and we expect to continue to grow above that rate. The gap that we had been seeing between activations -- the length of time I mean between the point of sale and the point of activation had been initially around four to six months in the early stages of the business when we first introduced. Then it began to shrink.

And then in the fourth quarter we saw it expand again, and that is what I referenced earlier about in the fourth quarter we saw what was for us a bit of a surprise in terms of a relatively low level of new activations and a relatively high level of suspensions, beyond what we had projected.

So I would say that that gap from date of sale to date of activation grew again in the fourth quarter but we expect it will begin to shrink again as we go forward. So at least those data points might be able to give you a little bit of help in terms of how to think about a business. But as Martin said we don't disclose the precise numbers of how many units we sold and how many new accounts we activated.

Are you going to put any number out there, milestone number that you hope to achieve by the end of the year in subscribers?

No, we don't have a specific number to tell you today, but I think Pat has given you a pretty good assessment, that you should think of between 100 and 200 per quarter as a kind of run rate where we are today.

Okay. Then Pat, you mentioned the new activations lagged or the period of time did in this quarter. I didn't hear the reasoning behind that.

Well, it's seasonality. As Martin said, forecasting error on our part; we did not anticipate as much of a seasonality impact as we saw. I think some of that relates to the breadth of the business now that we are involved in and the size of the business compared to prior years. So consequently we didn't know quite how to project that exactly.

I don't think it is anything more than true seasonality. People taking their systems out of service on a temporary basis during the winter months, the center period of the winter, when they are not as active, whether they be leisure customers or fishing fleets or things of that nature.

The other thing is I mentioned that in terms of usage, the just data consumption, the fourth quarter was not as significant as a third quarter in the region covering the Gulf of Mexico. With hindsight it appears that we had a little bit more benefit in the third quarter then we had thought at the time to due to the oil spill activities. Those wound down substantially in the fourth quarter.

Then I would say a third factor, or third and fourth factor, general weather conditions. Weather conditions around the world were not particularly good, especially in northern Europe in the latter part of the year. That probably was a factor in terms of activations and scheduling vessels for installation and those kinds of things.

Then occasionally you get some big users, especially leisure users, who surprisingly can change their usage behavior in month to month, quarter to quarter. So we saw a little bit of that in the third to fourth quarter as well, again, which I would say is a bit of a seasonality factor not relating to the specific number of activations but in terms of the actual usage of data.

Martin, for the three targets this year, did you have to price aggressively in any manner for those three? Number one.

Well, yes, I think any time you have a very large competitive procurement you want to make sure that your price is competitive. But I will say that the nature of the pricing and the way the contracts are constructed, with a variable use component as well as a fixed use component, we are very pleased with the model.

I think that going forward this is probably a topic for maybe the next conference call, but the usage of broadband in general is migrating towards pay by the use as opposed to flat rate. And that is true for cell phones and iPads, and it's true for home use, and it's going to be true for the satellite business as well. So I think we are starting to see a migration in that direction.

We have announced some metered plans which have low entry points, but you pay by the megabyte. For customers that want to keep their bill down, they can do that by keeping their usage down.

That helps us on the cost per megabyte and helps them. But it also means that there is upside for us in terms of selling crew-calling services and scratch card and crew-calling cards, Internet cafe, that type of thing.

So you feel good about the $1,900, $2,000 monthly with upside from these initial variable efforts, right?

Yes, I think that the ARPUs over time may go down. But only if the number of subscribers goes up dramatically. So it is kind of a complicated model that we look at.

So I think the fixed rate airtime customers will still average around $2,000 a month. But some of the larger vessels, the part that the vessel owner pays for, will be less than that; but that will be offset by selling services directly to the crew through Internet cafe type sales.

Okay. You mentioned the pipeline and it was asked about before, but I want to try it again. Maybe more specific targets for 2011 as far as a fleet might be concerned?

Well, I think we have got a very strong pipeline. As I mentioned we have customers in Asia, some of the big Japanese fleets are on our target list. We are expanding our sales team in both Japan and Singapore. So we see Asia as a key to our success this year in reaching some of those fleets through our partner.

We are working with SP-JSAT in Japan as well as with Furuno and JRC in Japan. So I think Asia is a key to that, and there is just a number of targets out there that we are going after.

Do you see any unusual competitive response to your success?

Nothing unusual. Nothing that we haven't anticipated. I think we are in an interesting position in that for a relatively small company we feel that we are driving a lot of the changes in this industry. We see people following us rather than leading us.

So I think that we are going to continue to innovate both in terms of service offerings and pricing plans and new products that should help us in 2011.

Thank you.

Hamed Khorsand, BWS Financial.

Hi, guys. Could you address SG&A and what you expect in 2011?

In terms of a general sense I can provide that in 2011. As a percentage of revenue, if you think of it that way, for the year it is probably going to be comparable for the full year to what it was in 2010.

One of the reasons for that is the addition of the Virtek operation is adding some operating expenses. But as Martin just mentioned we are also adding some -- especially selling resources for the VSAT business around the globe, especially in Asia. In addition some of military contracts that we have come along with some commission payments that are due which are not -- we don't typically see with US-based contracts; but these are foreign military sales, so they do have some commission payments that come along those.

So generally we are not expecting to see a reduction as a percentage of revenue in 2011. But I would say going forward beyond that you should continue to expect that SG&A will decline as a percent of revenue going forward.

Okay, you actually led me into my next question. Could you give an update on Asia?

In what respect?

A general update. I mean this is actually the first time you brought up Asia in this call; wanted to see how things are going there.

Well, they are going -- overall it is a little bit slow in Asia. The decision cycles seem to be longer than in Europe and the US. We have also seen an interesting dynamic over the last -- we have only really been in this business for three years. But the markets where we have been the longest, like the US, very strong results in 2010. Europe, same thing. Asia, not so much.

But looking historically, the longer we have been in a market the better we have done there. So we are expecting good things in Asia. We have had our office in Singapore for about a year now, and our relationship in Japan is two years old now. So we expect this to be a year of strong results in Asia.

Okay. I may have missed it earlier, but did you mention how many number of units of V7 were sold in Q4?

No.

No, we don't disclose that on a quarterly basis. We did indicate that if you presume that the average -- when we last disclosed the number, which was at the end of our third quarter, we said that we had sold -- we were then at about 1,000 units sold; and 500 of those were sold over the prior five quarters. So you can assume over that time period an average of 100 a quarter.

We are above that level now. That is the extent of what we said. And Martin indicated that we are now in the range of 100 to 200 per quarter.

Okay. Could you address the stock sales of December?

Stock sales of what type?

The stock sales you guys sold. Your personal stock sales in December (multiple speakers).

Well, I will never comment on anybody else's stock sales. But for me personally I simply sold some stock to cover the cost of options that I exercise.

Okay. So you are still hoping and seeing a good future for the Company?

I am a significant holder of the Company's stock and intend to be for the long-term.

Okay. Thank you.

There are no further questions at this time.

Okay, operator. At this point we will finish the call. As always if anybody has any follow-up questions, feel free to contact Pat or myself directly. Thanks again.

That does conclude today's conference. Thank you all for your participation.