L3Harris Technologies Inc (LHX) 2004 Q2 法說會逐字稿

Good afternoon and welcome to Harris Corporation's Second Quarter Fiscal 2004 Earnings Release Conference Call. This call is being recorded. Beginning today's meeting is Pamela Padgett, Vice President of Investor Relations. Please go ahead, ma'am.

Thank you. Hello everyone. Good afternoon, I welcome you to the Harris Corporation's second quarter fiscal 2004 conference call. I'm Pamela Padgett, Vice President of Investor Relations, and on the call with me today are Mr. Howard Lance, Chairman and CEO, Mr. Bryan Roub, Senior Vice President and Chief Financial Officer, and Mr. Bob Henry, Senior Vice President and President of the Government Communications Systems division. Before we get started though, I would like to say a few words about forward-looking statements. In the course of this teleconference, Howard or other management may make forward-looking statements. Forward-looking statements involve assumptions, risks, and uncertainties that could cause actual results to differ materially from those statements. For more information and a discussion of such assumptions, risks, and uncertainties, please see the press release and filings made by the company with the SEC. An audio replay of this call is also going to be available on the Investor Relations section of our website, which is www.harris.com. And with that Howard I'll turn the call over to you.

Thanks, Pam. And welcome to everyone to our second quarter earnings call. Today I want to cover several topics. First, the company results for the second quarter, our segment results for the three commercial divisions and we will discuss the progress we have made in growing revenue, reducing cost and improving profitability. Then we will move on to the outstanding results and continuing positive momentum in our two government segments and then we will close with all of this reflected in our outlook for the remainder of fiscal year 2004. As usual, we will time for Q&A at the end. Let me turn first to total company results for the second quarter, total revenue for the company was $609m and increased 16% compared to the prior year second quarter. Net income was $33.1m compared to the prior year quarter of $16.3m, an increase of about 100%. Let me make two quick comments about the net income result. First, the prior year quarter included an $8.3m pretax charge; this was related to the consolidation and relocation of our R&D facilities at the Microwave Communications division. Second, we achieved this quarter’s results while overcoming a $6m loss in the quarter in non-operating income. In the second quarter of fiscal 2003, we had $3.1m benefit for non-operating income. Bryan will discuss the non-operating income line in some detail in a few minutes. Earnings per share improved to 50 cents in the second quarter, a significant improvement from 25 cents in the prior year second quarter on a GAAP basis. Momentum was also evident in the sequential comparisons to our first quarter of fiscal 2004. Sales increased by 9%. Net income increased by 27%, and earnings per share increased by 28%. Clearly, a number of important initiatives that have been put into place during 2003 and previously are paying off in our results. I want to congratulate the entire Harris team for their outstanding efforts.

Let’s move on to the results in each division starting with Microwave. In our Microwave business, we were encouraged by the improvement in revenue and our success in reducing operating expenses in the quarter. Revenue came in at $80m in the second quarter, an increase of 5% compared to the prior year. Once again, we had excellent performance in North America. Wireless service providers continue to add capacity. The changing out leased lines in favor of Microwave and generally extending their footprint. The Private Network business is also in the midst of an upgrade cycle. We are continuing to maintain our market share leadership in North America and we expect this market to continue to experience healthy subscriber growth and increased voice and data usage. That bodes well for future Microwave investments. Sequentially total division revenue was up 21% from the first quarter led by a rebound in international revenue, coming off there traditionally weak first quarter. In quarter two, revenue for the division was split 53%, 47% between North America and international revenue. Areas of relative strength and future opportunity continue to be Africa, the Middle East, Eastern Europe, and Southeast Asia.

Over the past several quarters, we’ve been very successful in developing a leading Microwave position in the emerging African market. In the quarter, we booked a $12m from MTN Nigeria Communications for our megastar high capacity radios. Then earlier this month, we booked an additional $12m order with MTN Nigeria. Their part of the MTN Group, Africa's leading mobile telephony company.

Turning now to profitability. The division reported a disappointing operating loss of $1.6m in the quarter driven by lower gross margins. While we are certainly not satisfied with the Microwave business results, some improvement in performance can be seen when you compare year against year. In the first half of 2004, the Microwave segment has lost $3.8m, while in the first half of fiscal 2003 the loss on a GAAP basis was $15.5m or a $7.2m loss on a non-GAAP basis when you exclude the $8.3m charge. Operating expenses in the division have been reduced as a result of our cost reduction actions, and this positions us quite well to improve profitability as revenue is sustained at Q2 levels and as gross margins improve in the second half.

Gross margins in this business are going to move around somewhat from quarter-to-quarter. There were three primary drivers that negatively impacted our gross margins in this quarter. First, we had a higher mix of international products including our MicroStar radio, which does carry a below average standard gross margin. Second, we saw a continuing competitive pricing environment, which was especially intense in Southeast Asia and Latin America on bids for low capacity radios. And then finally was the impact of the weaker U.S. dollar. Most of our international products are manufactured in and use components sourced from Canada. In the last 12 months, U.S. dollar has lost approximately 15% of its value versus the Canadian dollar, thereby increasing our cost in U.S. dollar terms. We expect our margin situation to improve in the second half of the fiscal year due to the positive impact of product cost reductions that are beginning to read through and higher international revenue from our high capacity MegaStar product line such as the MTN orders I discussed earlier. MegaStar is produced at our San Antonio, Texas facility with mostly U.S. dollar-based content and higher margins.

We continue to be very excited about our new TRuepoint family of microwave radios and the role that they will play going forward in driving both revenue increases and gross margin improvements. We booked our first TRuepoint orders in the quarter from Lannet Communications in Greece and from Radiocomunicatii SA in Romania. Our new TRuepoint radio is scalable with a capacity-independent RF unit. It will be offered in capacities from 2xE1 to STM1 for our international customers and 4xDS1 to OC3 in the U.S. TRuepoint is flexible with a frequency independent signal processing unit and it’ll be offered in frequencies from 6-38 gigahertz. It’s compact in size and offers improved ease of installation and service, and its enhanced software capabilities allow for user selectable modulation - plug-and-play functionality for start up, reconfigurations and upgrades and built in self diagnostics. We are meeting our cost targets and factory yield rates on the first limited productions quantities of TRuepoint. And we are on schedule with our product release dates. The 6, 7 and 8 gigahertz frequencies will be released from engineering by the end of March.

Our network support division had another good quarter. Revenue was $19m in the second quarter, an increase of $7m or 55% over the prior year and a sequential increase of $4m or 24%. Net income was $1.6m compared to a loss of $2.5m in the year ago quarter. Revenue growth is coming from our continued success with the new EXP field technician test product. EXP continues to be rolled out at one major telecom service provider and has successfully completed field trials with the second customer. We recently won a multimillion dollar contract in Kuwait for NetBoss Networks Management Software. NetBoss EM; our recently released Elements Manager version, offers more cost effective remote monitoring capability for a wide range of devices and utilizes Java Object Oriented Technology that is fully internet compatible. The broadcast communications division revenues were $66m in the second quarter. This was a sequential increase of $8m or 14? over quarter one. The year-to-year revenue compare for this business was a tough one as the prior year at $94m had the benefit of higher revenue from the large transmission project to Romania and much higher levels of digital TV equipment revenue, both of which we did not expect to repeat in fiscal 2004.

Profitability also continues to improve with net income at $2.6m and 3.9% return on sales, both the highest in the last four quarters. There were several areas have improvement in the quarter, which drove these sequential improved results including -- first, higher revenue in our studio products and systems business. This is very encouraging to us, because this business unit had been significantly impacted by weaker broadcaster capital spending. And the higher revenues also allowed for improvement in gross margins.

On the digital side, there was also some good news. We received digital TV power upgrade orders in the quarter from Tribune Broadcasting, Hearst-Argyle Broadcasting and Quincy Newspapers -- covering a total of 25 stations. Digital radio is also moving forward. While the conversion to digital radio is still in its infancy, we did receive some transmitter orders in the quarter. Also is encouraging that several manufacturers introduced new digital radio receivers at the recent Consumer Electronics Show. I am personally very excited about our future digital radio prospects. As consumers begin to experience the huge improvement in broadcast sound quality, especially on the AM band and the satellite radio popularity continues to grow, I believe that mainstream radio broadcasters will want to get their digital broadcast signals on the air, and Harris will be there to assist them.

Looking forward as the economy and broadcast advertising revenue continues to improve we expect capital spending to also gradually improve. This will stimulate revenue growth across all areas in the division. In addition to the improving economy the momentum for completing the full power conversion to digital TV is also building. Three recent events have occurred that are worth mentioning. The mandate requiring television sets to include digital TV tuners by certain dates has been upheld. Second, the standards for plug-and-play cable compatibility and digital cable readiness have been agreed to and the adoption of a broadcast flag for anti-piracy has been implemented. They are also encouraging signs in terms of lower digital television set unit pricing and the increasing number of units sold. And with most prime time television now broadcast in high definition, consumer demand should continue to help drive the market.

Finally, we continue to expect the FCC to establish final deadlines by this spring or summer at the latest that would require stations in the top 100 markets to comply with full power digital TV broadcast requirements as early as July 2005 and then in the remaining markets by July 2006. Let me sum up my view on our three commercial segments before I move on to the government segment. First, let me say that we are certainly not satisfied with the absolute level of performance of these Harris businesses, but I believe we are making steady operating improvements. The total of the three commercial segments operating income was positive for the first half of 2004 at $3.3m. Now this compares to the first of fiscal 2003, where we reported a $12.8m loss on a GAAP basis or a $4.5m loss on a non-GAAP basis. If we exclude the $8.3m charge at Microwave. And we achieved this improvement in operating income on $15m in lower revenue in the three commercial divisions’ year-over-year. You should expect continued improvement in our results as we move forward. With a stronger economy, new products like TRuepoint and new program wins like the Iraqi media network helping to drive higher revenue and with a continued focus on gross margin improvement and expense control.

Let me now talk a bit about RF Communications. In the quarter, RF revenue increased by 40% over the prior year to a $106m and operating income increased 54% over the prior year to $29.5m. This is truly outstanding performance. RF also delivered improved results on a sequential basis, with an 18% increase revenue and an 18% increase in operating income. This clearly points to continuing momentum in this business. We think the story at RF is pretty easy to tell. This is a business that stayed ahead of the technology and new product development curve when it's competitors did not. It's a business that also unlike it's competitors functions on a commercial basis with ready-to-ship product and inventory. This allows us to respond to short-lead times from our customers. So, as the market demand has increased, RF was ideally positioned to be the market leader in high performance tact for radio’s. Harris Radio’s have simply become the radio of choice.

Now, we clearly recognized that we are in a robust government procurement environment, but we believe there are number of drivers that will continue to generate strong demand in this business. There is still commitment by the U.S. Department of Defense to have communications superiority on the battlefield in order to reduce loss of life and collateral damage. Now, although was no secret that the tactical radio equipment used by U.S. forces previously was outdated, most equipment operated on in fact a 20-year technology and lacked interoperability but the events of 9/11, Afghanistan, and Iraq have ended U.S. complacency with this 1980’s technology. Continuing U.S. operations in Afghanistan and Iraq are driving increased demand for Harris Radio’s. It's now expected that more than 120,000 U.S. troops will be rotated out of Iraq in the first half of this year to be replaced by over a 100,000 new troops. So far it appears that battalions rotating out are keeping the radio’s requiring additional ones for the new forces. In addition, to the HF band radio’s for which Harris is best known we have seen increasing adoption of our multi-band radio as well. The Falcon 117F multi-band radio is extremely versatile and is used extensive lay by U.S. Special Forces. This radio with its high data transfer rates, level one security encryption, and built-in networking capability has leapfrogged all of its competitors. Now, in addition, we have seen increasing Harris radio demand from our international allies' defense forces. This is due to coalition forces increasing their deployments in Iraq and Afghanistan, new efforts to combat global terrorism around the world in countries such as Philippines, Algeria and Saudi Arabia, and participation in standardization programs in the partnership for peace countries in Eastern Europe and Eurasia. Funding continues to be available to support all of this demand, both from the Department of Defense' supplemental budget and from the foreign military sales program.

From a longer-term perspective, we also have secured significant positions on two long terms standardization programs. These will insure continued growth in this business. First, remember we are only 2 years into the 6-year Bowman Tactical Radio Program. Harris will be providing 10,000 radios as part of our $220m contract. Recent field trials of this system have been very successful and very well received by the U.K. Ministry of Defense. We are also only getting started with the joint tactical radio system program in the U.S. known as JTRS. We believe this will be a 10-15 year program with potential revenue of up to $2b for Harris, when including all of the program clusters. As you know, the Company has already won contracts as a member of the Boeing team on JTRS Cluster 1 with an expected value of $500m. Cluster 1 includes vehicular and helicopter mounted radios, and we've been designated as the supplier of encryption devices for JTRS, a contract valued at a $100m. We've submitted what we believe is a strong bid as a member of ITT team for JTRS Cluster 5; this includes handheld and man-packed radios as well as body-worn communications devices and sensors. And we are currently working on our proposal for Cluster AMF which includes airborne and fixed site radio systems. In summary we believe that the RF Communications division is very well positioned in the short term as well as in the longer term for profitable growth.

Our largest segment is the Government Communication Systems division. Revenue in the quarter increased 25% from the prior year to $342m and operating income increased 48% to $36.3m. Once again in this quarter growth was all organic and it was spread across all major customer areas including the Department of Defense, national intelligence agencies and civil agencies such as the FAA, Treasury Department, Census Bureau and the National Geospatial Intelligence Agency. Government systems is a large and diverse business with over 200 active programs, and no single program is expected to be more than 5% of the total segment revenue for the fiscal year. We had a higher than normal return on sales in this quarter at 10.6%. Now this was as a result of excellent program execution and cost control, the receipt of several large program award fees based on our superior program performance, and a favorable contract resolution.

There are a couple of areas that we believe are key indicators of continued growth in this business as we go forward. First, the government is funding a well over due upgrade to our military infrastructure with a clear emphasis on communication systems. Also our classified programs business has grown significantly, and we believe this is an area that will continue to receive top priority on funding to further enhance security at home and abroad. Our win rate over the past 2 years has been exceptional and has increased our total funded plus unfunded backlog to a record $3.7b. The new long-term program wins are driving current revenue growth, and in some cases these programs are ramping up more quickly than had originally been anticipated. Furthermore, many of the programs are only in their initial stages; it should provide a growing base of revenue well beyond 2004. These major programs, we have talked about before, include telecom and air-to-ground communications for the FAA, communication subsystems for the Joint Strike Fighter aircraft, MAF/TIGER, the Census Bureau database modernization program, to be online of site SatCom terminals business for the air force, a war-fighter information network tactical for the U.S. Army, space-based radar program, and the global geospatial intelligence system for the National Geospatial Intelligence Agency.

A recent program addition to this list is the advanced, extremely high-frequency multi-band SatCom terminals program for the Navy. This program could have a potential of $1.4b over its program life. Another new and important program is part of the ground missile defense initiative; a successful test was completed yesterday and involved launching a ground based mid-course defense interceptor from a sight in the Marshall Islands against a simulated [hostile] target. This marked the first use of the In-flight interceptor communication system data terminal which has been developed by [inaudible] and Harris. The data terminal successfully communicated updated targeting information to the interceptor after launch. Now, this is a key element in achieving the required defense capability of this program.

Clearly as with the RF business, we are enjoying a very robust market. However, as we’ve mentioned before, Harris is growing it’s revenue faster than government spending. We believe the success is doing a large part to the segments that we are addressing including communication systems and infrastructure, intelligence gathering, information processing, and the outsourcing of operations and support services. These are the Harris markets sweet spots. The other element of our success has been our ability to consistently execute programs at a very high level exceeding our customer’s expectations. This delivers the maximum program award fees as well as opens up opportunities for follow-on business and new contracts.

We’ve been able to increase headcount quickly to support these new contracts. Headcount in this segment was approximately 5,400 at the end of our fiscal 2002. Eighteen months later, it’s currently about 6,500 a 20% increase. We are continuing to add new employees to this business at a rate of nearly 50 per month. Let me conclude my division comments by highlighting a key new program win the Iraqi Media Network program or IMN for short. This IMN win highlights the unique value proposition that Harris offers as a communications technology Company with our expertise in both commercial markets and government markets. As you know, we have been working hard to leverage this strengths and IMN is one example of our ability to do this.

The IMN program is a $96m one-year contract to rebuild and modernize the television, radio, and newspaper operations in Iraq. There are two 6 months contracts extensions available that could increase the total program value to $165m. Our government communications and broadcast communications businesses will work together to create a fully integrated median network to provide reliable, timely, and relevant mass media capability to the people of the Iraq. A government communication systems division will provide program management and systems integration. Our broadcast communications division, we provide the broadcast infrastructure, systems and software. And two local partners in the region will provide their training and expertise in broadcast and newspaper operations and media content and production.

We will put in place a new management structure for IMN, complete with the Network President and Board of Directors to provide oversight to IMN. The Iraqis will fill all of these positions. They will manage the network and run it's daily operations. We believe the IMN program was significantly raised the visibility of Harris's total communications capability in the region and that this lead to other commercial business opportunities. Harris's broadcast communications division content is expect to represent about 25% of the IMN total contract revenue. The precise amount, however, will depend upon the condition of any previous broadcast infrastructure that can be reused and this will not be known until all of our site surveys are completed. The IMN program may make some contribution to the broadcast division financial returns in our fourth quarter and fiscal 2004 but this program will certainly be a positive contributor in the first half of fiscal 2005. Our government communications systems division will see IMN program revenue beginning in this our third quarter. And before concluding and discussing the outlook for the remainder of fiscal 2004 let me turn the call over to Bryan Roub who will discuss the financial position of the company.

Thank you Howard, I am going to cover three things cash flow performance and liquidity, the income tax provision for the quarter and for the year, and also give a more color on the non-operating income line. But first on cash flow; cash flow from operations for the second quarter was $46m. That’s better than $38m we had in the second quarter last year. From the first half of this fiscal year, the cash flow from operations was a 127m, which is twice the 64m generated in the first half of last year. All of our business segments made contributions with the improved result as all generated positive cash flow in the first half. As it has been the case for some time as you know the asset management performance is absolutely superb and our government communications and RF communication segments. It matches their income performance as a minimum. In our commercial operations where improvement is an increasingly high priority solid progress has been made. Couple of metrics, company wide metrics that we talk about the inventory turns remained at the 7.8 level in the second quarter as they were in the first. We had some improvements in day sales outstanding were improved from 69 days in the first quarter to 63 days. Another metric, we tracked which showed improvement is that dollars invested in net operating working capital. In the first half of this year, the total came down from $335m at the beginning of the fiscal year to $290m at the half waypoint. The reduction represents a 13% decrease during a period of sales growth of about 20%, was a great performance. Capital spending comments to capital expenditures in the quarter were about $15m compared to about $20m last year, but for the half they are roughly the same at about $29m level. First half of this year versus first half of last year. The capital expenditures for the full year will be higher than the $73m spend in fiscal 2003 because of continuing high level of spending in the two government businesses to provide facilities and equipment merely test equipment, for the significant contract wins over the past year.

Our latest estimate in fiscal 2004 capital spending in the range of $75-80m, or about $60m of depreciation. These estimates are slightly lower than the estimates at the end of the first. Finally, I would like to update our cash flow guidance for fiscal 2004. And I expect cash flow from operations to be about $200m. That’s up from the $135-160m estimated at the end of the first quarter. The [inaudible] estimate assumes that both the third and the fourth quarters of the year will produce similar cash flow from operations performance as was experienced in the second quarter. In other words around $40m, $45m, $50m each quarter. As a result of the continued strong profit and asset management performance, cash equivalents at the end of the -- cash and cash equivalents at the end of the quarter totaled over $94m and exceeded the total debt of 410m. We did pay down some short-term debt in Canada in the quarter which lowered our debt. Our liquidity remains excellent. There are no debt maturities for several years and we have an undrawn $300m credit facility available to us. Share repurchase, we did buyback 500,000 Harris shares during the quarter, which leaves us with the remaining authorization from our Board to purchase an additional 1m shares. Our intention as most of you know is to buy enough shares to keep the average shares outstanding at current level.

Now I would like to talk about income taxes. The provision for income taxes as a percent of pretax income decreased to 23.4% in the second quarter and 28% from the first half of the year from 34% last year in each of the first two quarters. In the second quarter, we settled a foreign tax that resulted in an unexpected income tax benefit of $3.3m. Without that settlement to tax rate for the first half of the fiscal year would have been 32%. That 32% is the rate we expect from remaining two quarters of fiscal 2004. That lower tax rate from last year is 34 reflects the fact we are enjoying a greater benefit this year from the utilization of state, local, and foreign income tax [loss] carry forwards than in the past. Finally, I want to give some colors to our non-operating income line by and for the quarter and for the full year. You may recall, we are expected to be around net zero in this category for the full fiscal year. During the second quarter, three events happened that resulted in the net loss of $6m. In one of the events, the $5m write-down of our interest in Teltronics is covered in the press release. There were also in the quarter two patent infringement case decisions; one was an adverse $7.5m decision and the other was the $6.4m decision in our favor. The net of those to $1.1m was recorded as a loss in this line item in the quarter. In the third and fourth quarters of this year we now expect non-operating to be about $1m loss, plus or minus. As we will probably be spending somewhat more on legal fees in pursuit of intellectual property income for the future. Now, back to Howard to update for the year -- outlook for the year.

Thanks Bryan. As we announced last week, Harris has increased its earnings guidance for fiscal 2004. We did this as a result of the stronger results for the first half of the year and our expectation that grows in our two government businesses will continue in the third and fourth quarters. We also believe that our expense reduction actions have positioned our commercial businesses for operating income improvements, as our markets continue to recover. Fiscal year 2004 is now expected to produce earnings in the range of $1.85-1.95 per diluted share compared to our previous guidance of $1.50-1.65 per share. I feel very confident in our ability to achieve this higher level of earnings. First, we have continuing positive momentum in our government segments. And we expect to see the continuing benefits from cost reductions in the second half in our commercial segments. And we ended the second quarter with a higher backlog in all five segments compared to where we started this fiscal year. I'd now like to ask the operator to open the line and we will take your questions.

Sir, today's question and answer session will proceed electronically. If anyone out there does have a question please signal us by pressing "*" "1" on your touchtone phone. If you are using a speakerphone, please be sure to release the mute function before pressing "*" "1". Once again that is "*" "1" if you have a question and I'll pause for a moment to give everyone a chance to signal. And our first question comes from Arindam Basu with Morgan Stanley.

Hi folks how are you.

Hi Arindam.

Congratulations on the quarter. I wanted to ask about the order backlog and visibility you just talked about, particularly for the RF comp side? But also on the Iraq contract, the press release doesn’t mention how long the period on that $96m is going to be recognized over?

It's a 12 months contract and the starting date was approximately the middle of January. And in terms of order backlog, RF had orders greater than revenue in the first two quarters of the fiscal year, Arindam, and we are expecting to be in another good orders quarter in our third quarter at RF. And it's again -- that's part of what is giving us confidence that now the second half of our year will be stronger than we had originally thought back as we started the fiscal year in our July call.

Okay. And then one kind of housekeeping item, do you have a sense of the time your payments from the intellectual property litigation that you have won that, you know, we talked about last quarter, but you didn’t have a sense of the timing of the payments. Any better sense this time around?

Well, as Bryan indicated two of the smaller suits have now been settled. One of those we won; one of those we didn’t win. They are essentially the same amount, so from a cash standpoint we'll kind of trade money there with different people.

And that should happen in the quarter.

And that should happen in this third quarter in terms of money changing hands. We still have a very large judgment against Ericsson, which they have appealed, and at this point, we don’t expect any closure on that appeal in this fiscal year. It's proven, you know, difficult to call precisely when those things are going to happen, but we think its going to be an FY'05 event not an FY '04 event in our current thinking.

Yeah, okay. And then the last question I have is on the microwave gross margin, you talked about a pricing issue that’s particularly intense in Southeast Asia and Latin America. What is the dynamic -- are people really competing on price, is it easier terms, are they throwing in services, or all of the above and, you know, what regions are the competitors coming from?

I think, it's more a function of the mix of the orders and revenue that we had from those regions in the quarter, Arindam, and that’s why I said, we are going to have some movement from time to time in margin. We had a lot of lower capacity radios from our MicroStar line going into those two particular regions in the quarter, and from a price cost standpoint they are at the low end of the lines. So prices are most competitive. They have the lowest kinds of feature functionality and then to exacerbate all of that, we have had the Canadian dollar moving against us and the MicroStar products are manufactured in our Montreal facility. So, I feel like we had, let's say, all of the negatives kind of lined up against us in the quarter; having said that, I don’t want to minimize the dissatisfaction that we all have with the profitability of microwave in the quarter. We think we are making progress; we think we are doing the right things. Guy Campbell is now fully in place so running that business and you should look for improvement in microwave as we go forward in the second half of this year and certainly into next year.

So, we are continuing to work hard on that and make sure that things we're doing are going to overcome some of these factors. TRuepoint I’ve talked about before not only gets us into some new markets; I talked about the 6 gigahertz release, which is one of the first -- for international we haven't had a 6 gigahertz product nor we had a product that can go up to the capacity of the STM1 for the international markets. So we are going to get into new bids and new applications and new customers as a result of that. On top of that, we believe that we are going to be much more competitive with our cost point in TRuepoint and therefore at our price point as well without sacrificing our margin.

I was wondering if you could state that the -- that characteristic of that market might be that they are going to be taking, you know, some lower capacity, lower cost products for a while versus something that you can really control on the cost side. Because if that’s the market characteristic then there is a different act that you take?

Yes. I think your point is, is a good one. I don’t honestly know, if I am not that close to the market random whether this is you know, long term trend that we are expecting but clearly we need to be competitive across the range from low capacity to high capacity and as a result of seeing some of this pressure, I guarantee you that we have lot of our smart product line management engineering people talking about different alternatives that we can put in place that would allow us to be more competitive and in that same vein we are not interested in going after volume, just to have revenue. We are going to go after profitable business. So hopefully all that makes some sense.

Thank you.

Thank you.

Thank you next we move Mark Jordan with AG Edwards.

Good afternoon gentlemen. Just a moment about the Government Communications Group obviously with a 22 plus percent organic growth rate that is continuing to be well above your sort of corporate you know, long term goals sort of 8-10 organic. Do you believe that as you move into fiscal '05 that organic potential in that business sort of higher, lower or equal to that sort of longer-term organic corporate goal?

As we move into '05, the gross rate will be lower double-digit. But lower.

Okay. Secondly could you quantify the amount that Q2 was inflated due to the award fees and then you know, others issues, that you mentioned. You know, what would be more normalized number for that quarter versus a [inaudible] actual?

For the previous two quarters Mark at 9.5% in each the fourth fiscal quarter '03 and the first quarter '04 would be say more typical.

Okay and finally just looking out at, you know, the availability of a broader product offering of true point can you quantify the cost improvement that you have as you get that mix shift towards the new generation of product, how much of a fundamental difference there is in the gross margin potential?

Well at this point all I am going to say on that is that we expect the gross margins to improve and we also expect to get topline revenue improvement both of those from true point are going to be -- contribute some incremental revenue and profit to the business. Certainly some of true point will replace existing radios that we offer other portions of the true point product line like 6 gigahertz, like STM1 capacities will be truly incremental but we’re not going to talk specifically at this point about how much margin enhancement but I continue what I will do is say that my views on where these businesses need to get from a return on sales stand point hasn’t changed from my discussions back in March shortly after joining the company and that is that 10% return on sales is a must in these businesses and we’re continuing to drive toward that kind of a milestone not just in microwave but in the other two commercial divisions as well, in microwave I think true point will be an important part of accomplishing that.

Thank you.

Thank you, next we move to James Mcilree with Unterberg Towbin.

Thank you, Howard just to spend a little bit more time on the Microwave you are doing what was that 320m in annualized revenues and its you know still not even break I am trying to figure out what you need to get this thing to be 10% you need a better mix, do you need more revenues and let me put it in a different way. If you were stuck at $80m and all of the things that you have done to date in terms of cost reduction and assuming a normal mix however, you want to define that, I mean what kind of profitability could you get on the $80m?

Well Jim first of all I think we got to be careful to take one quarter and multiply times four. The mix in this quarter was clearly lower from a gross margin standpoint than we have experienced on a regular basis in this business. We expect gross margins to improve as we go forward. In terms of a broader question, can we make 10% operating income on revenue of $320m; I think the answer to that is unlikely. Our expenses are down; we’ve taken a lot of cost out. We have more than we are working on, but we would need and expect some amount of slightly higher revenue, I think to generate returns at the 10% level. And whether we will achieve those in one quarter or five quarters I cant be that specific to know, but I believe we are doing the right things step by step and improving the product line, driving our product cost down, offering customers more value so that prices don’t continue to go rotate at the same rate, while continuing to take a look at the expense cost reductions, but we have taken the expenses down considerably from the run rate we were at 12-18 months ago. There is may be a little more that can be done there, but we’re not going to totally solve this problem through the expense side, its going to be at the gross margin side and to some extent at the revenue side. I am encourage that business internationally is starting to pickup, although I must caution that it is somewhat in just a few regions. We see strong opportunities in Africa as we have talked about and are having great success there, but we don’t view the international market as universally rebounding at this point, but there are opportunities out there and I believe that our new leadership in the division and in international sales are both leading us in a very positive direction.

Will you need to make more investments in infrastructure in the international markets in order to achieve your revenue goals?

Wells, it's possible but I don’t think significantly we are clearly in this business going to be investing in offshore manufacturing where it make sense but those aren’t big investments. In some markets, as I have talked before we might actually be reducing our direct investment in the selling channel and working harder at channel partners and value add resellers in regions. So I don’t overall we are looking at a big CAPEX or a big expense line increase internationally to accomplish what we are working on.

Okay, thank you.

Thanks.

Thank you, sir next we move to Larry Harris with Oppenheimer.

Yes, thank you and congratulations on the performance this quarter in terms of income and in cash flow generation.

Thanks.

With respect to the $96m broadcast contract, it's a great win but you know the situation in Iraq is I guess you know changes from day-to-day and I guess one of the officials in Iraq, you know, commented that you might he preferred another winner or something. You know, do you have certain indemnification with the U.S. Government, you know, how might the whole situation play out?

Well, let me try to address that Larry from a couple of different angles. First of all, was specifically to the reported comments of the Iraq Communications Minister by Reuters, that context -- the context to that was that he had not been previously notified of the contract award. Our Harris team members have spoken with him at length subsequent to that coming out and subsequent to the award being announced and I would say based on the feedback I have received that he is thrilled with the investment that the U.S. Government is making in the media there. So I think it’s just a case of not doing the courtesy of him hearing about it in advance and I think that’s kind of the end of it. Certainly, it is going to be a challenging project from a standpoint of the security concerns in the region and, you know, we are taking that very seriously. We will have just a limited number of Harris employees on the ground over there. Many of whom have previous military experience and all of whom have volunteered for this assignment. From a liability standpoint to the corporation, all of that really is covered. This is a standard government contract that indemnifies us against those kinds of damages either from employees or other parties. It is a contract that like virtually all of ours, maybe by about 100% of our government contracts. That do have what’s called a cancel for convenience provision if for whatever reason the government decides to stop pursuing this, you know, they can't cancel the contract and then they will reimburse us for all of our costs, so we don’t have any liability but you know, we are going to have stay tuned on this and that’s certainly why we haven’t put into our outlook you know, let’s say a 100% of everything that could happen with that project and lot of it, especially, the amount of broadcast division revenue that you'll see us report and the profit that goes along with that will depend upon how much equipment we actually need. We’ve put together a proposal on a limited amount of information that was provided and now we have our team in country and our partners doing the site surveys and in a couple of months I think we'll know a lot more about the specific ramp up, but I’ve met personally with the CPA and the expectations that they have in terms of putting in place really our first class media capability in Iraq to do local production, local programming, all of it run by Iraq management and ultimately you know, we are very pleased to be involved because this is going to be a legacy that Harris can leave to the Iraq people. So from a liability standpoint, I hope that answers your questions. I think all of those angles are well covered.

Right and you mentioned the not only the Quincy Newspapers order for a full power upgrade but also from Tribune Broadcasting and Hearst-Argyle, have you received indications from you know, other major chains that they too would be interested in full power upgrades in the next 6 months or so?

Well I can say is that we are actively out promoting those upgrades. There is, you know, we think about 35-40% of total digital TV transmitter, you know, on air dollars yet to be spent by customers in upgrading to full power or some who really aren’t on the air yet and have gotten waivers going to full power. We have had a well over 60% market share in the first -- approximately $350m that -- excuse me -- yeah, $350m that’s -- that we have gotten in revenue from this so far. And there is more out there. So we are working hard on that remaining, you know, 30-35-40%; over $300m in my view is out there for us to aggressively pursue. We won't get all of it, but we think we will get our fair share. And it continues to be difficult for me to be precise with you about the timing, Larry, because even in the scenario that I described that we think the FCC will rule on, we are still a little ways from that July 2006 date, where you could wait, some of them could wait that long. Now having said that, to put a little balance to this, you know, there is still a lot of money that will be spent on redundancy and repacks and repeaters. And as you start to think about literally going to full power broadcast and at some point turning off your analog station, you're going to start thinking about redundancy and so on. And so we think there will not only be this the -- the remaining high power -- let's say full power upgrades, as I call them, but also we'll start to get some spending in redundancy and so on.

And that's just in the transmitter side. Probably we're most encouraged by at least the one-quarter improvement in our studio products and systems business and some of the digital products that came along with that. I think that's a positive. So again cautiously optimistic advertising is improving. Most -- all our customers think 2004 is going to be a good year between the Olympics and the elections, and hopefully that will cause them to loosen their purse strings a bit on the capital spending side, and we’ll be able to get some of these projects moving along that our customers certainly want to do and are trying to find money for.

Great. All right. Thank you.

Thank you.

Thank you.

Thank you, sir. I'd like to take this time to remind everyone that is "*" "1" if you have a question and is "*" "1". Next we move to Chris Quilty with Raymond James.

Thanks. Just a quick follow up on that broadcast, you mentioned that you picked up a number of upgrades in the quarter. Is there a chance for any of those the low-end ranger systems that you had sold in previous quarters with the help that you would get follow on upgrades?

I don’t know.

These were all upgrades from Harris transmitters. Chris, I don’t know if any of those or how many of those had ranger transmitters and kind of moved those out. I don’t think in these particular 25 there were any. I think these were upgrades to our other model transmitters, which were expandable in terms of power, based upon you know buying it and then expanding it later. I don’t think any of those were ranger customers, but I’d have to check to be sure on those 25 particular installations.

Okay. Fair enough. And on the Iraqi contract and this kind of relates over to microwave business. Has a contract been let to your knowledge that would involve the cellular or telecom infrastructure and how well do you think you are positioned in bidding on that potential contract?

There have been a couple of commercial contracts that have been awarded. These are not U.S. funded; these are commercial licenses and they have been two awarded than I am aware of -- one to a Kuwait Company, one to a Company in Egypt for at least some of the Iraq territory. And we did not receive any microwave orders as part of that particular commercial bid.

So they are going to continue to do that through private enterprise in selling the spectrum?

That’s my current understanding. I am not aware of any U.S. government funded proposals right now that would utilize a large percentage of microwave content in a cellular network.

And a final question on the RF comps business you mentioned at the troop rotation you are likely to pick up some incremental orders from troops that are heading back into Iraq. I presume that that is built into your expectations that you have given us, you know, on go-forward basis for the Company's performance?

Well I would say Chris we've built in what we know about.

Okay.

In the last two quarters, we have exceeded our expectations by getting additional orders and many of those we could take advantage of turning them into revenue because of our strong supply chain and inventory position, and we were able to outperform. I can't say that will happen in the next two quarters. But we certainly are reflecting in our forecast, a higher RF revenue and profit than we were 3 months ago. And that was part of what has helped to provide this uplift to the full year earnings per share increase.

Okay and certainly for the RF comp segment and the three commercial segments those backlogs turn at a much faster rate than does the government business so, that gives you a little bit better near-term visibility?

Yeah, it does very quite a bit by business. The RF backlog is turning pretty quickly because of the urgent need for the radios and BCD, MCD, and broadcast and microwave really depends on the project but right now we’re turning all of our orders in a typically within a 3-6 month time. We don’t have too many orders in those businesses right now that are coming in for 2 or 3 year projects.

Great, thanks a bunch and good luck.

Yeah, thanks Chris.

Thank you. Ms. Padgett, we are actually a few minutes past the hour mark we have a few more questions in the queue.

Just at least take a couple more, please.

Okay, our next question comes from Chris Donaghey with SunTrust Robinson.

Hi, good evening great quarter.

Yeah, hi Chris.

I was wondering if you could provide a little bit more information on the Cluster 5 and the Cluster AMF on the [JPRS], do you have a feel for when the decisions on those two are going to made?

Well I think in the case of Cluster 5 we know when we have been advised that the decision will be made. These things do tend to move around and I believe that’s out in the June timeframe as our latest communication on Cluster 5. And Cluster AMF I think we are still waiting actually for the formal request for proposal. So that program you might recall was originally in two separate pieces there was an airborne piece and a fixed site piece, they were called Clusters 3 and 4 at that time. When they made the decision to put them together in one procurement program its taking them now a little time to kind of reset all the specifications and to harmonize those if you will in order to get the benefits of both. We think that, that proposal will be out relatively soon, but it will certainly be into FY '05 we think before that AMF project would be awarded. I would comment though that this is an excellent project in Cluster 5 also, where we have been able to really leverage the two government businesses that we have together. Both RF and Government Systems have been involved and working together on both of those and I see a tremendous opportunity to leverage those businesses. Even to the point where earlier this month we put the RF Comp division reporting to Bob Henry in addition he retains his responsibilities as President of GCST and this will allow Bob to have the ability to look across the RF and Government Communication businesses so that we have one person involved who really now knows what's going on in our entire government business. We are not merging the divisions or anything like that, but [Chuck Missouri] who is the President of RF now reports to Bob and we recently got the senior management of both those divisions together and started brain storming how we could even have more success in driving those two businesses to leverage the strength, unique strength of each business. The message behind all of this is that we are not going to get complacent just because we’ve had four, six, eight quarters of really good growth in these businesses. Bob and I are working very hard on looking out beyond into the future on further improvements that we want to make that will allow us to be even more competitive in these businesses.

Okay, from an acquisition standpoint, where are you most likely to expand? I mean do you build on this strength of the government focused businesses or do you look for other ways to expand the commercial business with -- what are your thoughts there?

Well, I believe that in order to get the full benefit from the diversification of Harris being both in the commercial technology space as well in as in the government markets and technology space is we need to be a little bit more balanced then we are today. So all things being equal we might be more inclined to do acquisitions in commercial communications segments to help provide some balance as well as to take full advantage of higher margin opportunities, which usually exist in commercial companies. Having said that we continue to look at opportunities in the government space so if the right company comes along with the right strategic fit we won’t ignore it even if it's in the government space.

Well, I certainly don’t think anyone would complain if you had a [inaudible] communication look alike with the margins of 26%, I think that would be viewed favorably?

We would tend to rehearse that, thank you.

Last question your current guidance shows 35-45% growth versus 2003, can you just comment on what your thoughts are in terms of how much momentum you can carry over and how much of that momentum you can carry over into 2005.

I am a little surprised Chris that it took this long to get that question. I just wanted to -- the way I wanted to answer is I wanted to remind everyone that I talked in terms of 12-15% trend line for earnings growth for Harris back in March at our investor conference. And while we are exceeding that trend line this year, that doesn’t mean that trend line going forward is going to be 20% or 25% or 30%. We are committed to growing this business in revenue and in earnings and creating shareholder value every year. But clearly we are going to be coming off of -- I don’t know I am losing my superlatives, but an outstanding year with growth after the mid point of our guidance at $1.90 compared to a $1.06 non-GAAP result last year, that kind of year-over-year improvement is certainly not expected to be repeated. But at the same time, we are not going sit still for no growth and no improvement in 2005. We will give you an opportunity at our next investor conference, which is coming up in March to hear a little more detail about some of our strategic programs and hopefully you will be able to go away from that meeting with a good feeling on what kind of year-over-year improvement we might expect in 2005.

Okay. Great. Thanks.

One more.

We will take one more question please.

Thank you. Our last question comes from Ed Wheeler with Buckingham Research.

Good evening.

Hi Ed.

Hey Ed.

Since this is the last question, I won’t repeat the use of cash request. It’s happy for all, I know. Just if you could on the broadcast segment, could you just give us a ballpark idea of the product mix, how much, what percentage is revenues are now digital rollout related TV rollout, how -- what sort of the size of the studio product and systems piece now is radio and perhaps just sort of the bread butter television products. Just -- could I what's been moving around over the last year or so and just wondering if you could tell us where that mix is now?

Approximately 60-65% of the business is transmission products and about 20-25% of it is what we call studio products and systems, which include products that include system integration and services and then approximately 10% to 12%, 13% is our Automation Software business. Now within the Transmission business have to add up a couple of numbers here so bear with me a second in terms of how we would split that between digital television, analog television, and radio. [Hamps] frantically doing the math over here Ed.

It's late, I'm sorry.

That's alright. [It's] around so much I thought it might be useful to --

Yes sure now 30-35% all of our digital products that includes the piece that we viewing in Europe also.

So that mean 35 out of the total company so that means the remaining 30% of the transmission piece would be a combination of analog transmission and radio.

Yes and I guess the 350 that you have done to-date over a course of several years now --?

That goes to '98.

Yeah that goes back all the way too -- from the beginning of '98 so that’s over the course of six-year timeframe.

And the margins on broadcast, you had -- as you mentioned modest increase in Microwave radio growth plus an improved mix could get you the 10%, would you say the thing about Broadcast, there is modest increase in revenues or would you need a major increase in revenues to get to 10%?

No. I think, I think modest; we have been north of 10% in the Broadcast business before, on higher revenue than we are at, but not, you know, not 50% higher revenue. So I believe that the nature of that business, with slightly fewer competitors and a little more North American centric focus offers on an apples-to-apples basis, a higher margin opportunity for the broadcast business in the long run.

Terrific. Great quarter, thanks.

Thank you.

Thank you, Ed.

Well, I thank everyone all for joining us today. Couple of things before we close, we will be filing our 10-Q tomorrow morning, so please look for that. And also please join us for our March 11 and 12 Analyst meeting that we are going to hold here in Melbourne, Florida, and I hope that you can join us for that. And thank you again, let me know what else you need.