L3Harris Technologies Inc (LHX) 2003 Q1 法說會逐字稿

Good afternoon and welcome to the Harris Corporation's first quarter fiscal 2003 conference conference call. Beginning today's meeting is Pamela Padgett, Vice President of investors relations. Pamela, please go ahead.

Good afternoon everyone. And welcome to Harris Corporation first quarter for fiscal 2003 conference call. I'm Pamela Padgett. Before we get started, I would like to say a few words about forward-looking statements. In the course of this teleconference, Phil or other management may make forward-looking statements which could cause actual results to differ materially from those statements. For more information and a discussion of such assumptions lists and uncertainties, please see the press release and filings made by the company with the SEC.

With that, Phil, I turn the call over to you.

Thank you. Welcome to all of you. We will divide this into four parts. First, we will talk about the first quarter. And the results for total company. Then we will take a look at each of our segments and we will comment on those. After that, we will comment on the outlook for the company and guidance in terms of earnings per share, and then finally, for us, always, the most important part of the conference we will turn it over to you for your questions and Bryan, Pam and I will try to answer them.

First, looking at the total company for the first quarter, actually, the bottom line, the numbers look very good. Net income is up 17% for the quarter from last year, earnings per share was up 15%, cash flow from operations is positive again and it is up 26 million from last year's first quarter. And even in the fairly difficult economic times, both sales and orders for the total company are up from last year's quarter. Both of them between 1 and 2%. But, results are quite varied among the payments and we will spend most of our time talking about those in a few minutes. In a nutshell, government and defense markets are very good. And commercial markets remain weak. Capital spending, of course, is the big bugaboo and it continues to decline for commercial communications infrastructure, particularly in the international arena. Obviously for us cost reduction and productivity improvements are ongoing requirements. It seems we live with those every day today for Harris and everybody else. And we will be doing even more in the commercial segments to improve operating results there. And I'll have a few comments on that. Again, at the very gross company level our margins were virtually identical to last year's first quarter, return on sales was 4.4% versus las year's 3.9%.

We had some very good expense controls in place. I will remind you that last year's quarter had some restructuring costs and also had a gain from the sale of a joint venture interest, or part of it. And those two numbers, essentially offset each other. R&D, a very important thing for Harris, the internally funded R&D was up from Lars year's quarter by $2 million and exact lit in the right spot, in the RF communications radio division. As you will see later and have probably seen from the press release, we are getting a good payoff from the R&D in that division. Probably better, the research and development paid for by the government, primarily in our government communication systems division was up very significantly. In fact, it was 22 1/2 million more than last year's first quarter. And that is absolutely great for us because those technology research and development contracts lead to the winds the type of which we have described up and lead to a wonderful long term outlook for the company.

Before getting to the segment details, let me turn the microphone over to Bryan Roub who will report on good news in the balance sheet and area of cash flow.

Cash flow performance, as Phil mentioned earlier, in the first quarter was very solid. I'm pleased with the results in all of our business, but I'm specially pleased as you would expect with the performance in our government and RF communications segments. They both had wildly successful cash flow quarters. Overall as a company we generated cash flow from operations in what is a typically a difficult cash flow quarter for us. It is generally our lowest quarter. So I'm very pleased.

We did also in the quarter complete private placement of divertible I did ventures, which most of you are aware. In the quarter, we also repaid 30 million of long term debt, had which came due. With that net change in debt of an increase of $1 to million, our -- 120 million, our debt to total capital ratio remains comfortable at 27%. We are very comfortable with that. In addition to that, we have cash balances at the end of quarter of 363 million. So we are rock solid balance sheet. I'm very happy with the progress we made on all of our working capital ratios.

The individual elements of working capital. Each of those improve nicely over the prior year's first quarter and are in line with the fourth quarter of last year and there was continuous improvement through the year. We are continuing to work very hard at all of our business units for continuous improvement in that vital area. Capital expenditures in the quarter totalled $10 million, which is a low figure. That is where we were last year in the same quarter. It is quite a bit below what our initial projection was for the quarter, actually almost half. As we too are tightly managing capital spending. I think it is appropriate at this point in the year to lower my previous estimates slightly for capital expenditures for the year, r. The previous estimate was 75, 08, we will take that down to 70, 75, pretty comfortable with that being the top. Also depreciation related to capital should probably be lowered in a similar way down to 55 to 60. With the progress we made in the quarter, the continuing improvement, I am fully confident that we will generate in excess of $100 million of cash flow from operations.

Phil,back back to you.

Thank you.

Now what I'm going to talk about is the segment results. What I'll talk about first is the two telecom segments, then broadcast then finish up with the rf communications and government communication systems division system. We will also add a few comments about the activities in the nonoperating income line, which many of you are quite interested in. First, our business with the weakest market and our weakest performing segment as a result of that, microwave. Sales from microwave dropped into the 50s and was at $56 million. We had hoped that the previous quarters mid-60s level would be the low point for Harris. But we were wrong in that case. But we were wrong because of a supplier problem which I'm going to tell you about. And we are comfortable that we will be back into the mid-60s or better in the second quarter and beyond.

International markets have continued to decline. Due to the lack of financing for infra fla buildout. In fact, on a percentage basis, 41% of our sales in this quarter were from international and many of you may recall that our historical levels leading up to the year 2001 were about two-thirds of our sales were international. Fortunately, domestically things are holding up quite well. The operating loss for the segment was 7.3 million, and that was several million worse than our internal plan and caused, of course, by the sales miss. We did have a supplier problem that I mentioned earlier -- -- earlier that heard us in the hurter. And Sierracom ceased operations earlier on us. We had fortunately foreseen that and had developed a second source for the products they were providing us to. The second source was via systems corporation. And we were using and are using their French facility, which is already a supplier to Harris for the microwave MDL product line that we had purchased a couple of years ago from Lou sent. And if you didn't think things could get worse, what happened us to, we had a work stoppage in Via Systems in their French facility stopping all shipments to Harris. Fortunately, this has now been resolved and we are getting parts in and will resume our microstar shipments to customers in November. This should give us a nice little quick boost to our second quarter sales. The ongoing issue for microwave sales, however, remains the weak international market, and thus , -- far, that market is showing no signs of improvement.

The U.S. market is holding up well. Slightly above last year's sales for Harris, and we have some very encouraging capacity additions, which are planned by the cellular providers in the U.S. over the next few quarters which will ensure that our volume stays at its current level or perhaps better. We have decided to take our costs down further in the business to lower the break even point to the mid-60ss on quarterly sales. You may recall a year ago at this time we had decided to lower our break even point to the mid-70s and we did that. Unfortunately, the sales are below that now because of weakness beyond everybody's expectations in international. So we are going to go down further.

We made a specific decision which is very significant for Harris and we think will have a very good payoff. That is we have decided to reduce our engineering workforce and consolidate the U.S. engineering workforce from its current three locations down to a single location. The timing is perfect since we have completed virtually every milestone in our point to point multidevelopment project and we can now safely exit the facilities that we have in Seattle, Washington. That consolidation and other division actions will result in a restructuring charge of about $7 to $8 million in the quarter and we expect to have that fully paid back in less an year. The new location for that engineering group will be in the research triangle park in Raleigh, Durham, North Carolina. Fortunately for us, when we get to hiring again, a that is a hotbed of telecom talent and right now it is a very good place to be renting space at very low square footage costs. So we are delighted with that I choice. I probably should point out that actually our largest engineering location will remain in Canada in Montreal. The engineering for our Microstar line and BWA activities is and will remain centered up in the Montreal area. So this move will not affect them in any way. Obviously we remain heavily committed to the microwave radio business. We are the world's largest independent supplier. And our confidence is strong that microwave is going to continue to be the best solution for connecting cellular based stations. As you know, internationally it is the only solution. And in most locations in the U.S., it is by far the best economic solutions as many cellular providers know and many of them are planning to do something about, namely convert from wired solutions to microwave. Fortunately for us too, our strong R&D program when ch is by far the strongest in the industry is remaining on track and helping prepare us for the recovery when it comes. Second segment I'll talk about is network support which is also affected by telecom weakness. Sales were flat with a year ago quarter. We lost 2.7 million. That is better than last year's $4.3 million loss, but is still disappointing to us. We hoped to be a lot closer to break even than that. The thing that has disappointed us most in that area is the actions of the bell system operating companies. They are the primary buyer of our tools and test equipment product line which is used by repair technicians for ordinary maintenance of wired and wireless telephone networks. They are still buying tools and tests that is way below the normal buying rates. In fact, they are at about the 60% level. We know this will pick up because repairmen do have to have tools. But so far, as all of you know, the bell companies are really squeezing down their capital spending and are continuing to do so for all kinds of procurement, tools included. We have made the decision therefore to reduce costs further in this business. We thought we were there because we felt for sure they would be buying more tools by now. And we are not going to wait for them anymore. We now have evidence of what the sales bottom is in this segment. We are there and so we are going to take our costs down to where at worse case will be break even in this business. So we will have a head count reduction in this business as well as in microwave. Turning now broadcast. This one is -- was our most biggest disappointment in the quarter. This first time in years we have experienced a disappointing quarter for broadcast. Sales and operating income were below last year's quarter. International sales of analog radio and TV equipment were weaker than expected, particularly in Europe. However we are confident that will pick back up starting this quarter. The real disappointment for us was in the U.S. De Janeiro tal TV market. And it was a strange kind of disappointment and one that we will overcome. And let me describe it for you.

Our unit sales were very close to expectations. And Harris held to its high market share of about 65%. The difference in the quarter was the dollars were down significantly below expectations and that is a reason and it is short term. In order to hold down capital investment, the broadcasters in the smaller markets are buying the lowest power configuration possible in transmission equipment. Just enough to satisfy the current F.C.C. -- FCC regulations but not nearly enough to cover the geographical area that their channel is supposed to cover. For Harris, what this means to us is that there is less revenue now in these lower cost configurations, but as the transmitters are upgraded, which they have to be, we will receive the revenue later. The important thing for us, and this is critical to our strategy is that we win the initial order at every station large or small, and we are doing so to the tune of 65% market share or better. The behavior on the part of broadcasters probably is going to continue for the next few quarters until the FCC mandates a date for upgrade to full power for all the broadcasting stations. The FCC has already done that for all the stations in the large met area and sometime in the next year they will do it for all stations and this revenue will be returning to Harris. On a similar note, the broadcasters behavior is continuing to postpone investments for software automation tools and for studio and system facilities that they will need to handle local digital programming. Both of these will ultimately be required and cyst the leading supplier in these two areas as well.

One good sign for the future, advertising revenue for the broadcasters has definitely turned up. In fact, all the broadcasters are predicting a very strong December quarter. So far, however, they haven't turned that into increasing their capital spending since they are so close to the end of the year, we don't expect that they will. And I expect that in 2003, they may even wait for a quarter or so to make sure that the real revenue levels from advertising are sustainable and then they will begin to release some of that funding to capital sending -- spending. We still expect to have a good year in broadcast. But rather than growth at 10% or better level, which we had been forecasting, we are likely to see sales and operating income at about last year's level and we feel very comfortable there, even with the hold down of capital expenses and need for an FCC mandate to update the power levels.

Another good note occurred in the quarter. The digital radio era has begun. We have been talking about that for a couple of years now. And in the quarter, we received our first orders for digital transmitters. Over the next year or so, there will be much testing and experimentation with digital radio now called high definition radio. And following that an expected conversion of most of U.S. 12,000 plus radio stations to digital transmission capability, another area in which Harris is the world leader. Looking now at RF communications where we provide HF, VHF, UHF secure radios.

We had another fantastic quarter. Sales are up 20% and all of that sales growth is organic, no acquisitions. The operating income was up a very robust 76% over last year's quarter. Both of these are new records, of course, for a first quarter for Harris RF. The margins are exceptional. And the reason for that is the falcon 2 product line continues to be the radio of choice for the war on terrorism. It is used by both U.S. and our allies for secure, wireless voice data and limited video connections.

The operating income in this quarter was 23% of sales. And the return on capital employed was well in excess of 100% for the quarter. Productivity improvements aided of course by the volume increases are driving margin performance that sun heard of in the industry. I'll also point out that the large $200 million Bowman contract which we have with the united kingdom is right on schedule. There are no technical issues and production on track to deliver in 2003 as defined by the contract. The new radio system is off to a good start in RF. Contracts have been negotiated and work is now underway and there are no negative issues to report of any type.

This is the one point in my remarks that I want to say something good about international because there is nowhere else that I can say good words about that. International sales for this division were 65% in the quarter and that is virtually exactly on track with what they normally are in RF communication. This business is always about two-thirds international and one-third domestic. We still are, it is still strong, it is still international and it is still domestic. Bowman, the JTRS program and war on terrorism added to the traditional international and domestic opportunities that we pursue, should continue to fuel this very healthy, fast-growing business. Turning now government communication systems division. Here we had another great quarter as well. Sales at 252 million were up 17%. And all of that growth is organic as well. There were no acquisitions in the past year. Operating income at 23.7 million was up 27% from the year ago quarter. Operating income margin at 9.4% continues to creep upward and better. The return on capital employed in this business is considerably in excess of 30%. New orders were up more than 19% and they were higher than sales. The backlog continues to build. Contract work is now underway for the impressive string of program wins that we announced during the spring and summer months. Those included the new win at the census bureau, satellite support contract for U.S. Air Force out at Colorado springs and the massive FPI communications contract with the FAA. And work from a wide variety of ongoing programs such as the f-22 comanche, joint strike fighter, Sierracom antennas and significant amounts of work for the intelligence as.

One of the interesting and great strengths of this business at Harris is that not a single one of these programs, not a single contract will account for as much as 10% of annual sales for us this year. In fact, hardly anyone gets above the 5% level. So we have great diversity, great backlog in a wide and predictable sales growth as a result of that. In fact, the sales growth is now likely to be 13% or higher for the year. We had been hoping to get a size 10%. We are now upping our outlook in that regard and operating income growth should be as good as that. The defense budget is definitely growing, and homeland security is expected to generate additional new opportunities as they get around to finally formulating programs in that area. The total backlog, funded and unfunded is extremely large with the FTI win. We have significantly passed the $5 billion level and approaching $6 billion in total backlog, funded and unfunded over a multiyear period. It is a significant understatement to say the outlook is very good for this business.

A few comments now on nonoperating income. Nonoperating income the numbers is 16.2 million this year. It was 17.9 million last year. Profit or losses from a whole variety of activities are included in this line. For example, spinouts of Harris technology, where we wind up with a my -- minority ownership in some entity such as live TV, a location and messaging system for the trucking industry, a fingerprint identification company, image links, an image processing company, processing imagery from satellites and aerial photography, also included are royalties and legal expenses associated with our intellectual property program. That is gaining income from our patents and protecting us against Frist anybody else's use of the patents. Also, in this account are shares held in public companies, such as air net, advance fiber communications, n wave and finally any investment in the private companies which we make for technology reasons.

Bryan is going to comment briefly on the activities that occurred in this line in the first quarter.

The great news of course in the first quarter was the sale of one of our venture investments as Phil mentioned, live TV. Live TV was a new star company which used technology developed in our government business. Which goes back three or four years. We had been negotiating a liquidation of this investment as success grew. Remember what we are trying to do is -- our technology. We anticipated liquidation would be in the form of royalty stream over multiple years, but in the end an outright sale was desired by the ultimate buyer. That resulted in an 18.8 million gain in the quarter.

As Phil just reminded you, there are a number of ways in which we seek to -- and that is the income side of the nonoperating income. He mentioned royal city stocks sales and outright sales of ventures. The expense side to clarify includes investments in marketing technology projects and other items such as valuation adjustments of the technology investments themselves, if they are needed. In the current quarter, in addition to the live TV gain of 18.8 million, we had income from the sale of investment securities of 5 million. Had net royalty expense of about a million and investments in marketing and technology projects and valuation adjustments, which totalled $7 million, that accounts for $16 million in the income statement. Although the magnitude of live TV gains changes the quarterly assumptions for nonoperating income, we continue to expect a total of 24 to 25 million for year. That figure may rise if a potential royalty agreement is finalized in the later part of the year. And we are hopeful that it will be. But that would be an upside.

Phil?

Okay, let me now talk about the outlook for year and obviously my outlook appears to be a heck of a lot better than everybody else's judging by what has happened to the stock price over the last two or three hours. But let me comment on how we arrived at the outlook and how we feel about it. First of all, our previous guidance of 150 to 160 earnings per share for fiscal 2003 does need to be revised due to the weak market conditions primarily in the microwave market for us. But in telecom in general. The problem there is primarily international as we pointed out further. We had hoped in the microwave business and also in our network support business to be closer to break even volumes during the September and December quarters of this year and then realized modest profits in the early going in calendar 2003, which are our Q3 and q4. the markets have not cooperated as evidenced by losses in microwave and network support in the first quarter. There are likely to be operating losses though smaller in the second quarter as well. So what we are going to do is incur a restructuring charge of about $8 million in the second quarter to lower the break even level further in both of those business segments. As I mentioned earlier, the pay back period for us will be one year and we hope considerably less than that. And we hope to eliminate these operating losses for the second half of our fiscal year.

In broadcast, we took another hard look at that given the behavior of the broadcasters and their capital spending constraints. And we are now forecasting a flat year as I explained earlier there. The two government segments are off to a great start and we fully expect them to be strong in the future quarters as well and it is highly likely that they will exceed our earlier expectations for both sales and earnings. But taken all together, we have decided to lower our guidance for the fiscal year to 140 earnings per share down from the 150 to 160. The entire quantification of that comes from the change in expectations of the microwave business. Our expectations had been about a break-even level in the first half in the first quarter and modest profitability in the March and June quarters. We expected that profitability to be somewhere, 10 million or better. The realization now that we are likely to have losses in the first half of the year of $10 million or better and break even at best in the last half of our fiscal year gives us a 20 to 30 million dollar swing, which is 20 to 30 cents difference in earnings per share outlook for the year. So our government is going to have a difficult time overcoming all of that swing and we felt it was prudent to change our outlook as a result of the microwave situation. Obviously we like everybody else keeps hoping that the market improvements and commercial telecom area will come back, but rather than hope for that any further as far as our results are concerned, we are going to take the steps to move our break even points down in both microwave and network support.

On that note, let me turn it over to you and we will try to answer any questions that I'm sure you have.

Thank you, today's question-and-answer session will be conducted electronically. If you would like to ask a question today, please press star 1 on your touch tone telephone. Once again, that is star 1 to ask a question. We will pause for a moment. Our first question is from Rich Valera from Needham & Company.

Hi, Rich.

Hi, Pam. On the cash flow, Bryan just to be clear, that is about 75 million for remaining three quarters?

Yes, as minimum.

Okay, great. And for the nonoperating income for the balance of the year, you mentioned 24 to 25 million. Since you have had 16 or so, I guess that is 8 or 9 million for balance of the three quarters, I was wondering how much you counting on gains on stock sale for that amount?

Around 10. About 10 million dollars.

Okay. And Phil, just to be clear on the network support, from your comments it sounds like you are assuming that 13 million is the bottom there. Is that where you setting the break even level?

Yes.

And you didn't really talking about sequential trends. Do you expect that to be up sequentially even slightly?

We had expected it to be, Rich, but I'm taking that out of -- from an action standpoint. We are going to try to make sure that we have our break even at this level. And if we do get an upturn, the answer is yes, I still do believe that. But if we do, it will contribute positively to earnings, but we just can't stomach anymore. If not improving by the Bell companies and continuing to incur these losses.

You were clear on the question essential guidance on the microwave. How about the other segments, if you could give a little bit of color on that.

I don't have quarterly numbers that I want to talk about right now. What I said in the government area is that looking at last year's levels, based upon the very positive results from the first quarter, we are now fairly confident that for the year, and it may vary from quarter to quarter, but for the year, we expect sales increases of 13% or higher and obviously we always expect our operating income increases to be higher than our sales increase. In other words, we hope to get benefits from the volume. In RF communications, you know, we are clearly looking for continuing goodness there and our sales and earnings growth ought to be in the 12 to 15% range there for the year as well. And again it may be uneven as far as quarters are concerned and we will hone in on the quarters later. Broadcast we said about level with last year and that is assuming that there is no behavior change on the part of you know capital layouts by the broadcaster. While we are going to continue to do in broadcast as I said is keep our market share and by the way, even on the low price products, they buy from us, we still have very good margins on those low price products. We do not sacrifice margins because it is a lower configuration. But about flat there. As I said in microwave. We are look at a 10 plus loss for the year now as opposed to a 10 pus million dollar gain that we had in our earlier internal planning model and will have a few million dollars of loss in network support. We have already experienced about 2.7. We may have a little bit again in the second quarter and that should be the end of that.

Great.

All of that together should come out with Bryan's comments on net operating income, which we feel good about, should come out in a 130, to 140 rake.

That is very helpful, thank you.

Moving on. We will go next to Arindum Bassou.

Hi.

Not withstanding the extraordinary circumstances with the microwave and the work stoppage and the supply issue, I'm trying to get a sense of the network support in microwave. Is there a significant fixed cost component that is difficult to absorb? The reason I ask is network support operating margins were basically -- unchanged quarter over quarter and microwave lost 7 million though last quarter Harris commented on cost reduction programs that were underway. So, you know, excluding the -- those circumstances on the supply side within microwave, could you talk about fixed versus operating costs and then how the microwave feature would have looked without the supply issue, could you have achieved break even?

A few general comments and I hope they are specific enough and Pam, you mate mite want to comment on these as well. First, microwave. There is a high fixed cost element. That is one of the things we are after the hardest in the engineering area, obviously as we all know in the near term, all costs are fixed and in the long term all costs are variable. But we have engineering locations significantly sized engineering locations in Seattle, Washington that came about as a result of our acquisition. We have a significant element of engineering in redwood shores, our corporate headquarters, we had a relatively small engineering organization in Los Angeles that came about as a result of acquisition as well. We are take all three of those and putting them in one location in Raleigh Durham and we are also shrinking the absolute size of the engineering workforce. We know we are going to get some improvement and efficiencies by getting them together in one location. And we believe we will get significant efficiencies by getting them all on an East Coast time zone so we can work together more effectively. That will an real take down. Particularly with eliminating the facilities up in Seattle, Washington. We are also taking down head count at the margins, you know, in all locations in the business. We still will have multiple locations, however. We have got our headquarters facility. Though we shrunk it down dramatically with the moves, we will still exist in Redwood Shores. And we have a location in Montreal, Canada. That will remain. And we still have some small locations in Europe as a result of our acquisition of Lucent's microwave business in Paris. But we are taking a real whack at the fixed costs and lowering the number of engineering heads. That is going to get us down, that plus the other moves that the periphery from our break even point now, which is somewhere in the low 70s down to about the mid-60s. And we think that is the right level. We have obviously spent more than a few minutes trying to make sure that we have some feeling for what the bottom level of sales is likely to be in the business. We have a very predictable and very comfortable level, at least still to this point in the U.S. microwave business. And we think with the ongoing in looks that we have in the international arena and some upcoming projects, that we are confident in, that we will be at the mid-60s level or higher. We think this is going to do it. And clearly, you never say never or never say always. If we have to do more later, we will. But I believe we have a good handle on it at this point. In terms of network support, it is always a mix. Network support is the mix of tools and tests versus our net loss software products can affect the gross margins fairly significantly. But I can tell you that the operating companies have been telling us for several quarters in a row now that they will need more tools and they haven't bought it yet and so we -- as I said earlier, we are tired of waiting for them. We will get our costs down. Our cost reduction there is primarily in production and production support people in our Amarillo facilities out in Los Angeles. Hopefully we will be hiding those people back quickly. But we are tired of waiting.

Okay. And then two other questions quickly on the broadcast business, the ranger versus legacy products in terms of new order flow. Sounds like you doing a lot of selling of ranger units and that even though larger capex commitment is lacking you with r getting them to make capex decisions based on the Ranger line so if you could talk a little bit of the mix of units or mix of sales in the Ranger versus Legacy products. And final for Bryan, the number of shares for Intersill.

In the first quarter, 31 of our units for transmitters, 31 of 61 were Rangers. That was quite surprising to us in terms of its volume. That led to an average sales price for transmitters down in the 210, 220 million levels for the quarter. A year ago it was $480,000 per transmitter average. In the fourth quarter when the products already existed, it was in excess of $400,000 per transmitter. So if you look on a year to year basis with roughly round numbers 60 transmitters, that winds up in a sales reduction for those digital transmitters of 15 or 16 million in a margin reduction of 6 to 7 million dollars. Fortunately, as I keep pointing out, we will get all of that back as they upgrade, which they have to do, you know, the money comes back to Harris because we are the ones in there with the transmitter and of course a lot of things in addition to transmitters comes with it as well when you supplier of the digital equipment to the broadcaster. So whee what we have got here is a timing issue, but I think strategy of the division is right on and given the behavior of the broadcasters, which is perfectly understandable, as long as the FCC lets them get away with it, perfectly understandable. I'm absolutely delighted with our range of products that we have been able to keep our customers and not let some low cost provider with an inferior product penetrate our market share space. So we will get it later.

Has there been price compression on the Ranger because of potential competitive threats?

No, there has not. We have held prices on all product lines very strongly.

An the shares, it is 1 million.

Thanks for the detailed answers, folks. Into you're welcome.

Moving on. We go next to Jim with Interberg.

If I heard you right you said that broadcast and fiscal 03 in revenues and operating income would be flatish, did I hear that correctly?

Correct.

That is our current forecast for the year.

In order to do that, then, you need at least according to my spreadsheet about 12% margins in the final three quarters of year in broadcast which seems high. How are you going to get there?

Several ways. One we do not expect the procurement of transmitters to be quite as low on average in terms of prices was in the first quarter. One reason for that, we have people running out of waivers who clearly are going to have to buy larger transmitters. So that is one effect. We think it will get larger. We know also that some of these will be upgrading before the end of the year. Secondly internationally, international was weak as I indicated earlier in analog sales for TV and radio. And we have some very good contracts that we are enclose v close to bringing in that will help in that regard as well. So we will get an improvement there. And finally one of the things that is definitely occurring is that PBS has some significant additional pro curements coming about this year. You will recall that PBS stations must be on the air by next may to meet the FCC standard and the PBS stations unlike the commercial stations are electing to go with more robust transmitters from the beginning. They are very proud of their digital programming and want to make sure that they are meeting their intended audience. They also have a little better funding sources that they have developed. PBS will be stronger.

Where is that funding come from? I hope it is not more pledge drives with Peter, Paul and Mary.

I'm absolutely assure you that some of it will be from pledge drives. National PBS as well as other government sources as well as the fund drives. By the way, in the fourth quarter, again to remind everyone, the Farrakhan, they were about 65 PBS stations up for grans. We won 59 of those, if my memory serves me correctly and the average price was pretty high as far as transmitters are concerned.

Okay. And the change in the outlook for the government division is has come from the things that you won FTI, JTRS --

Yes --

Excuse me, -- Yes.

And also because the budget is increasing you know, they have more money to fund addition to ongoing programs and the most obvious area for that to us and the least obvious to you is in classified areas.

I see. Okay. Well that makes sense. And finally, I'm a little bit surprise Thad you not being more optimistic on the RF come. I think you said 12, 15% growth?

12, 15% for the year.

And you did well over 20% in this quarter and operating margins, I think are surfacing what everybody is estimating. So why are you restrained -- why are you restrained on the outlook given what the performance that they have done recently.

Why are we more cautious on that outlook?

Yes, that is a better way to put it.

The reason is the division and including me along with the division management, you just never quite sure that this burst of buying to support the war on terrorism, you know, how long that can go on. We just don't know. Right now, Citro bust. We are really winning from that. How long is that going to go on? We just don't know. We know what is going to happen with the Bowman program. We know what will happen with the JTRS program. We know what the ongoing background level of radio sales is, but clearly we are enjoying a burst of activity because of the war on terrorism. That so far is still going on. And we still have exciting opportunities that we are chasing. But I don't know how long to forecast that to go on. So that is our cautiousness.

So can I read that to mean that there is potential upside from the current thinking of 12 to 15% growth?

I would hope so. I would hope so. But that is, you know, putting it into our forecast, I think it would be hope so rather than a credible forecast.

Okay. Great. Thank you.

Moving on, we will take our next question from Stephen Murphy of CIBC World Markets.

Good afternoon. Starting with microwave, stocks like you had about 33 million in U.S. revenue and 23 million internationally. Can you walk us through how you get back to $65 million run rate in terms of international versus U.S. in next quarter or beyond?

Well, I'm not sure that I can walk through every, you know, every piece of that Steve, but let me say that $5 million of hit we took for shipments from Microstar that we couldn't get out was all international. And mostly China and, Pam, one other location -- China and other locations in Asia. So that whole about it and the division would probably tell you it is a little more than $5 million. I'm just you know -- it is the kind of -- it is a bit of excuse making I'm not going past $5 million. So that will come back. We will be shipping those and so the international level looking at that as a baseline would be going up a little bit because of that. We also believe that you know, we are going to continue to do okay in places like Mexico and China and other places. Although, none of us are real optimistic of any growth in those areas. But there is an ongoing level of business activity. And finally, probably for us the best one is the Middle East and Africa as well as some improvement in eastern Europe. We do have a couple of fairly significant things that we are -- that we believe are going to come in in the Middle East and Africa.

So is the expectation that the U.S. will kind of stay around the 35 million level and international will grow back up towards 30, then?

I think that is -- yes --

That is the assumption. That is the assumption we have. And I can tell you on the U.S. side, we are feeling better about that the and not worse. So based upon discussions with the providers. We have for a long time said that you ought to be connecting bay stations with microwave rather than leased lines and as you know, most of the connections in the U.S. today are on leased lines and they are continuing to move away from that because the economics are real. And it is beginning to be a fairly fast payback in many areas of one year or less for converting from a lease line to a microwave.

Okay, great. Will you need to develop a second source of systems for tranceivers given the delay you had?

Obviously that is the division's responsibility. I'm sure they are look at it views Via Systems as everybody else in the communications equipment industry dealing with components and subsist testimonies is not the healthiest thing in the world. Via Systems, to give you their status, as we understand it right now, they themselves ran into trouble but went in with a pre-packaged chapter Lev 11 and are expected to come out of that in pretty good shape. That is all I know at this point.

On the broadcast side, even with the shift in a lot of the smaller systems, can you give color on why the margin was so much lower than 9 to 12% we saw all last year, which is less overhead coverage with the smaller revenue number or was there something else there?

Pam, you want to comment on that?

The gross margin was exactly the same. We just had less sales volume as a result.

It is expenses primarily.

Gotcha.

Over the same overhead.

Okay. Perfect. And just you know in terms of that market segment, purchasing the smaller systems, can you refresh me on how much of your overall mark Rhett the smaller market stations.

Let's see, Pam, do you have that? There are more stations out there I expect than in the large market.

I can tell you 967 broadcasters have ordered thus far with 192 of those being PBS and 775 being commercial. So that is where it stands in terms of the status. In terms of like low to medium to high, I don't know that.

Let me state one thing that there may be some misconception on out there. The smaller market station is in many cases a larger sale to us than a large metropolitan station. The amount of equipment required for transmission is a direct -- is directly co-related to the area geographic area that it must cover. You must have more power and more equipment to cover a big geographic area than you do to cover a small geographic area. So, our actual sales to a small market station, small market station that will not be a small station, it may wind up being a larger station than one in New York. So we love those small markets stations. In fact, we were going three an analysis with one of our good customers and without getting into a whole lot of details, they are operating right now with a total digital investment at this point being about $250,000 for a transmitter and his budget and plan expenditure for the digital investment is $5 million for a small station in Alabama. So, it is that kind of phenomenon is out there in front of us, which is why our division is so intent on making sure that no matter how they start or with what equipment they start with that it is Harris. And I think that is a very good strategy.

Okay, thank you very much.

You're welcome.

Thank you.

We are approaching the top of the hour. Would you like to continue with Q&A?

We will take a few more and then wrap it up.

Thank you. We will hear next from Kevin Didi.

Thank you for taking my question, Pam. Good job on the quarter given the conditions, guys. Would you mind, Phil running down what you see happening in government locking forward in terms of phonetical contract wins. Understand next -- might come up for an award any update on that?

Nexcom is the biggest one in the near term. We also hope to have you know some good news on new contracts on the joint strike fighter program. We are still pursuing additional scope on that, hopefully we will have something good to say there. Also, Boeing was the winner of the future combat system for the United States army. And they are now in the process of talking with people like Harris as they flesh out their system design and start awarding scope in the future combat system through subcontractors. We hope to have something good to say about that as well. We have some communication ground terminal replacements coming up. There is a program called and forgotten what it stands for that is more than $100 million contract to replace some outdated Sierracom terminals. A couple of large things in the classified area of $200 million or more programs that are -- we are now pursue and we are very -- feeling very bullish if b those. The GPS3 program, that is to update all of the GPS if satellites up there. We expect to be a participant in that and the level of our participation is expected to be $100 million or more. And all of those that I just mentioned will have some kind of action probably over the next nine months to 12 months with Harris, either participate organize not. So we are feeling very good about that. And of course the ongoing work we love,, that is we don't have in our fixed plans right now, though the government intends to go with production versions or production versions of the F22 and production of the could man committee helicopter program -- comanche helicopter program so all those are there for us. We have the business opportunity list is still robust and probably if I had to pick the fuss one that we can't define yet is the homeland security that we are all work on and we are working extensively as are other companies to try to help get programs defined for that area and since communications will an huge piece of the program, we certainly expect to find some roles for Harris there.

On the broadcast side can you give me a rough idea on the number of commercial who have gone with some form of digital equipment versus those that haven't and same for the PBS guys?

Pam, you had some analysis of that.

There is 967 guys that have ordered at least some level of equipment.

Out of a total of probably 1500, round number.

192 of those are PBS and 775 commercial. There is probably about 552 stations that are on the air in some manner currently.

Okay.

A lot left to go and remember, none of these stations -- well, I would hate to say none. Virtually none of these stations are at their full level of basic fundamental even transmission equipment, even those that are at full power such as the ones in the major cities. Do not have the redundant equipment that they will be adding before they go digital only in fiscal year-06.

These guys are only broadcasting a few hours a day.

Finally, on microwave, rough idea on capacities that seem to be your bestsellers in North America versus Europe? If you can go to that kind of detail.

The hottest plod we have got looking forward is the constellation 155, which is a new product for Harris. Mainly North America.

And that is for North America. And in the international it would have have to be the microstar, 13, 15, 18 gigahertz products. There hasn't been a change in the type of radios they are buying, except the constellation 155 is really gaining traction.

Great. Thanks very much.

Thank you. And I think with that we will take one more call and then wrap it up. As you guys know, we are always available for follow-up questions later. Operator?

We will move next to Colin McArdle.

Good afternoon. Thank you. My first question is on government. Could you provide some detail on how operating margin growth outstripped sales growth, what exact is going on in government business that is heightening profitability and is cost or cost plus contract ratio a factor?

Well, the ratio is always a factor. But let me kind of go back to the beginning of your question. Margins are improving and I don't want -- I don't mean to be trite at all, the performance is improving in the business. -- our overhead rates coming down. We are underrunning overhead rates which helps the fixed price contracts because we get to keep the savings on that. On the side of the cost plus contracts, we are still as we did last year experiencing very high award fee performance up in the 90s for the total business, and where as one normally excellence is anything, 85% or better, and we have been well up in the 90s now for the last year. And that is still going on improving our margin. We are getting some benefit from the volume. But I would say it is just better program performance in general. The team is just humming over there and of course it always helps when the business is good. People feel better. The mix may be you know a factor to some extent, but I think in terms of mix of contract type, we are still staying 60 to 65% and the other fixed price. But I don't think there is any major effect from that. So I don't think there is anyone thing, Colin. It is performance in the business and they have been creeping up steadily as we predicted for last two years and they are still doing it.

Okay. In terms of your advised guidance, you have now factored in a lower microwave business and broadcast. Though you said it is weak, being flat year over year, now gets you to this new $30, $40 range. In the new guidance have you factored the higher government growth moving from 10% to 13% and isn't that another potential source of upside?

We clearly, you know, factored in. You always look at upsides and downsides. And you never count all of your upsides or downsides because you know some of them are going to happen and some will do offsetting. Basically, what our thinking was when I said how do we come up with 130 to 140, why isn't it 1 something to 1 something else, is we said that the change in our network support, which will be worse than what we had in our plans before and the lack of growth in broadcast, the combination of those two, we feel confident will easily be offset by improved performance in our government businesses, at least that much. We always said that the deterioration in microwave is 20 to -- it could be 20 to 30 cents. And obviously we are hoping that government may pick up some of that. So, that's the way we arrived at it.

One more question on government and then a quick question on broadcast.

Okay.

You talked about homeland security. And we are aware of a lot of the more traditional defense spending related contracts that you either involved in or bidding on. Would you elaborate on what you see out there in terms of homeland security.

I can't. I'd love to, but where they are right now is they are in the process of trying to formulate the programs that they are going to have in homeland defense. Then they will set up a procurement process for going after the programs. What they are doing is evaluating -- I don't know how many white papers have been turned in but thousands of white papers have been turned in, and they are trying to evaluate the goodness there and then formulate programs which they can go out the industry and compete. I can tell you the things that are most interesting to us are programs which are obviously communications, but we are very interested in programs which have to do with fingerprint identification that handle -- that give the very quick ability to verify who someone is and regardless of whether they are coming into the country or whether they are just coming into a facility, the ingress and egress from those facilities and the databases associated that because our centec product we believe is a world beater in that regard and we know that there is a great need in homeland security for being able to identify people and fingerprint is an excellent way to identify people or certainly at a minimum to identify who they are or who they aren't.

Okay. And just on broadcast, you know, based on digital TV experience it seems like one of the easiest ways on to stall a communications trend is to make it an FCC mandate.

Well, actually, let's give the FCC a lot of credit.

Well, given the fact that radio, digital radio is going to be dictated much more by markets, how do you factor in growth in that space relative to digital TV and what are you starting to build into your forecast?

We are building very little into our forecast for digital radio in the near term. As you know, we getting the orders for the first digital radios, in fact, radio one will kind of be the forerunner. Radio one is putting digital radio in their facilities in Los Angeles, Dallas, Atlanta, Boston and in Detroit. That is going to be a marvelous test, where the FCC is on this, the FCC has endorsed the IBOC standard or IBOC technology. What they have not yet done is approved the standard. That will be done after evaluating the actual broadcasting operations of people like radio one and other radio stations and over the next year, assuming nothing funny happens, the F.C.C. is prepared to step up and approve the IBOC as the standard. They have already endorsed the technology. Those steps will have to be done before we see any large scale adoption. But once it starts, then competitive is going to be the issue, and as far as speed and how fast that will go, I think a lot of it is going to be dependent upon the success and the degree of success of the satellite providers, the XM radio and the serious radio. If they seriously start grabbing market share because of radios in automobiles, then over the air broadcasters are going to very quickly move to a digital capability themselves. So, I don't know what the speed is yet. I think it is too early to tell, however the reality of it is no longer in question.

Okay. And then the satellite television broadcast experience and penetration into the U.S. households, it could be a very fast take.

It could be very fast. But, I still think you know remains to be seen yet. We are still in the early stages. All I can tell you is that Harris will be the leader there.

Congratulations.

All right.

Thanks.

And thank you everyone for joining us. And please give me a call if I can do anything else for you. Thank you.

That concludes today's conference. I would like to thank everyone for joining us today.