PCTEL Inc (PCTI) 2004 Q3 法說會逐字稿

Welcome to today's PCTEL, Inc. third quarter 2004 earnings conference call. Today's call is being recorded. At this time I would like to turn the call over to the Chairman and Chief Executive Officer, Mr. Marty Singer. Please go ahead, sir.

Thank you. Good afternoon, everyone. I'm Marty Singer, Chairman and Chief Executive Officer of PCTEL. On behalf of PCTEL we thank you for joining us on our earnings call for the third quarter. In this call we will address the financial results of the quarter and the outlook for PCTEL in the fourth quarter of 2004.

Joining me today is John Schoen, Chief Operating Officer and Chief Financial Officer. John will take you through our financial performance for the third quarter, as well as limited financial guidance for the fourth quarter of 2004. After he is done, I will comment on some of those results and turn our attention to the significant events that transpired during the third quarter, and discuss our plans going forward. John?

Hello everyone. Before I begin my financial review of the Company, I will read the Safe Harbor Statement.

Today's call will contain forward-looking statements within the meaning of the federal securities laws. Comments concerning our future financial performance and expectations regarding the future growth of our wireless and licensing businesses, including expansion through investment and acquisition, are forward-looking statements within the meaning of the Safe Harbor. Actual results may differ materially from those projected as a result of risks and uncertainties, including the ability to successfully grow our wireless products business, implement new technologies and obtain protection for the related IP, and the risks associated with potential acquisitions. Our litigation expenses are dependent on a number of factors, not all of which are within our control. Additional discussions of these and other factors affecting the Company's business and prospects is contained in our periodic SEC filings. These statements are made only as of today, and we disclaim any obligation to update information to reflect subsequent events. This concludes the Safe Harbor Statement; now I will continue with the financial review.

Before I go through my discussion of third-quarter results and fourth-quarter guidance, I would like to speak to the recent acquisition of several antenna product lines from Andrew Corporation. The purchase price was 10 million in cash. Results of operations will be included in the Company's fourth-quarter results. The Company acquired several product lines, not a stand-alone business. We intend to pull operations out of Andrew's facilities and fully integrate them into our MAXRAD infrastructure. That transition will take three to six months. During that time, we expect the duplicative costs of the transition to be approximately equal to the additional earnings generated. The fourth-quarter guidance I will be giving later in the call contemplates this. We do expect that during 2005 as a whole, the acquisition will contribute between 10 and $15 million in revenue and have a positive contribution to EBITDA, before amortization of intangibles. Now I will begin my discussion and analysis of third-quarter results.

Third-quarter total revenue was 10.7 million compared to 4 million in the third quarter of 2003. These numbers include wireless product revenue of 9.3 million, up from 3.2 million last year, and licensing revenue of 1.4 million, compared to 0.8 million a year ago. Now I would like to speak to our wireless products segment.

Mobility Solutions group revenue was 1.1 million, up 267 percent from last year and down 39 percent sequentially from the second quarter. The increase year-over-year is due to the accumulation of carrier contract wins for Roaming Client over the last year. The decrease sequentially is due to lower revenue from SoftAP and Roaming Client customization fees. As a reminder, the lifecycle model for Roaming Client carrier contract revenue starts with customization fees before and during initial service deployment, with the replacement of that initial revenue level with license and maintenance revenue over time.

RF Solutions group revenue was 2.6 million in the quarter, down 4 percent from last year and up 4 percent sequentially. The Company did not see traditional levels of sequential-quarter capital spending growth from its carrier customers. We believe that absence of carrier growth was attributed to the pending merger of Cingular and AT&T wireless and the related purchase of overlapping West Coast assets by T-Mobile.

Our MAXRAD antenna product segment was acquired in the beginning of 2004, and this is the third quarter of operations under PCTEL. Revenue was 5.7 million, down 2 percent sequentially from the second quarter this year. The Company saw a sequential-quarter slowing of orders from large OEM manufacturers in the Wi-Fi market. This appears to be a temporary situation, as booking rates remain from these same customers have already increased in the fourth quarter to date.

License segment revenue was 1.4 million, up 75 percent from last year and flat sequentially from the second quarter this year. This segment continued to be affected this year by completion of older licensing agreements. Now I would like to speak to revenue guidance for the fourth quarter.

Our guidance for the fourth-quarter revenue is raised to between 13.5 and $14 million. The new guidance reflects the addition of the product lines recently acquired from Andrew Corporation. Wireless revenue is expected to be between 12.5 and 13 million, and licensing revenue is expected to be around 1.1 million.

Gross margin for the third quarter was 59 percent, compared to 81 percent for the third quarter last year and 63 percent for the second quarter of this year. The decrease from last year in percentage is primarily due to the addition of antennas to the wireless product mix in 2004. The primary driver of the sequential-quarter decrease in percentage is the drop in Mobility Solutions group revenue. That segment operates in the 95 percent gross margin range. Gross margin for the fourth quarter is expected to be between 51 and 53 percent due to the addition of acquired antenna product lines in the product mix and the related manufacturing transition costs previously mentioned. Now I would like to address our cost structure.

Total operating cost was 8.8 million in the third quarter, up 2.7 million from the third quarter last year and up 0.4 million from the second quarter this year. The increases from last year are primarily related to our acquisition of MAXRAD, our investment in patent litigation, our increased investment in MSG and RFF distribution, and our compliance costs for Sarbanes Oxley. I will focus my specific comments on the sequential quarter change.

R&D spending decreased 0.2 million sequentially, as we were able to reduce contractor costs associated with software customization. Sales and marketing costs increased 0.1 million due to increased investment. General and administrative costs increased 0.5 million related to an increase in litigation costs and Sarbanes Oxley compliance.

Guidance for the fourth quarter of 2004 for OpEx is 9.9 to 10.1 million. This includes 9.1 to 9.3 million of R&D, sales and marketing and G&A, 1.3 million of amortization, and offsetting Conexant royalty of 0.5 million. The increase from the third quarter is driven by the Antenna acquisition.

Interest income generated from investments was 0.3 million in the third quarter, compared to 0.3 million a year ago and in the second quarter this year. Third-quarter interest income -- I'm them sorry; I apologize. Fourth quarter interest income is also expected to be 0.3 million. Net loss for the quarter was 2.6 million, or 13 cents a share, compared to a net loss of 2.3 million, or 12 cents a share in the third quarter of last year.

The 0.4 million decrease in loss before income tax from the Company's investment in wireless was offset by a 0.6 million change in income taxes year-over-year. The Company made a year-to-date adjustment in 2004 income tax rate during the third quarter. The change in tax was driven by the Company's current projected loss for the year, as well as the source of certain revenues. We expect fourth-quarter income tax to be close to zero. Now let's turn to the balance sheet.

Cash and short-term investments ended the quarter at 102.3 million, down 1.3 million from the second quarter. The Company repurchased approximately 156,000 shares for 1.45 million in the quarter. As of September 30th, the Company has repurchased 1.86 million out of the 2.5 million shares authorized by the Board of Directors under our continuing share buyback program. The Company continues to have no debt.

That concludes the financial review; I would like to turn the call over to Marty for his summary comments.

Thank you, John. Before reviewing the status and the plans for our different business activities, let me first address the third-quarter shortfall in revenue and our revised guidance for the year.

We take this very seriously. We invested aggressively in three areas over the past two years -- one a carrier-grade multimode roaming client; two, our new claRiFy product; and 3, our expansion into international markets. We believe in all of these investments and the focus on the worldwide proliferation of wireless broadband.

Having said that, it is clear that some of our investments have preceded revenue attainment. A good example of this is our investment in regional sales managers in Japan, Caribbean Latin America, Europe and the Middle East and Western Europe. We have invested approximately 1.3 million in establishing a stronger international sales presence for PCTEL. We expected that investment to achieve certain results in 2004 that will not be met for a variety of reasons; nonetheless, we clearly did the right thing.

Having said that, the focus on expanding revenue must be matched with a vigilance regarding our cost structures. For those of you familiar with our management team, you know that we have a history of aggressively managing costs to achieve profit targets. Among other actions, we are taking on the exploding costs of being a public company, which have risen by more than $600,000 this year. We think that we can do better. Next week, after our Board of Directors meeting, these changes and others will be reflected in the 2005 guidance that we provide at the AeA conference. One of our AeA sessions will be webcast and our presentation will be available on our website the day of the session. And at that time, we will be able to talk more about our cost actions.

It is helpful to remember that we have come a long way in our transition from a modem company t a wireless operation with three strong growth engines. We remain confident in each of our core operations and we are excited about what we accomplished last quarter and our prospects for the future. At this time I'd like to review a few of the highlights from the third quarter and the first few weeks of the current quarter.

The Mobility Solutions group continues to build an extremely valuable customer base. During the last quarter, we negotiated and then signed in early October a long-term agreement with NTT Communications to provide them with our Roaming Client. NTT COM will distribute our Roaming Client as part of their Wi-Fi hotspot initiative and their mobility service suite for enterprise customers.

NTT COM is the tenth major public or private carrier to standardize on our Roaming Client software. Our customer list now includes T-Mobile, Cingular, AT&T wireless, SBC, BellSouth, NTT DoCoMo, NTT COM, MTN and GoRemote. We have an additional private carrier who we cannot disclose. We will continue to attack additional carrier opportunities worldwide and promote the advantages of our Multimode Client.

More important to the future success of this business is our recent release of critical features for both Wi-Fi and cellular access. As we recently announced, we have developed and released an EV-DO capability for our Roaming Client. EV-DO modem cards can now use our Roaming Client software for cellular access to the Internet. We believe that our private carrier customers will be helpful in distributing this capability into the carrier markets that we do not currently serve.

We also announced along with T-Mobile the availability of our 802.1X capability. 802.1X offers vastly enhanced security to Wi-Fi users and is essential to widespread adoption by mobile enterprise users. T-Mobile now offers 802.1X networks at their hotspot locations, and in order to use those secure networks, subscribers must download and use the T-Mobile connection manager that is based on our technology. We have learned over the past year that we must address and sell to the enterprise customer base in order to get adequate traction for the Roaming Client. 802.1X is essential to achieving that goal.

We also recently announced our relationship with Atheros for delivering the SoftAP. The SoftAP in conjunction with the Atheros 802.11 chipset will be sold to a major PC OEM. This has been a challenging area for us, and while we are encouraged by this recent development, we recognize that average sales prices for this application have already fallen and that it will be difficult to maintain consistent presence with motherboard vendors because of the intense competition around 802.11 sockets. Let me now turn to our RF Solutions product group.

During the last quarter, we formally established our government products group. This group applies our core technology, the software defined radio, to the solution of certain communications, warfare, or communications security issues. These products are sold to the military and to agencies that often require security clearance. Until we establish appropriate credentials, we must conduct our distribution through intermediaries.

The distribution challenge has made this business difficult to forecast. Despite this challenge, we now have two products which are fully productized and available for distribution into our customer base. These exciting products assist our government with SIGINT -- signal intelligent missions; they set a standard for size, weight and cost. We are confident in the long-term prospects in this area.

RF has also stepped up its sales of claRiFy during the third quarter. We have now sold over 30 claRiFy systems worldwide. claRiFy, as you may recall, permits operators to identify sources of interference in a cellular network, which in turn permits operators to optimize their networks without investing additional CapEx. Our investments in international distribution are bearing fruit -- not as quickly as we would like -- as we have sold claRiFy systems to Telefonica in Mexico, Siemens in Brazil, AIS in Thailand, and we are active in technology trials in Eastern and Western Europe.

During the third quarter and just in the past week we also introduced new additions to our SeeGull product line. These new products include support for 3G technologies, including EV-DO. In addition to the EV-DO scanner, we also offer a Triband GSM UMTS scanner and a UMTS indoor test transmitter. We now have products that will assist operators in maintaining and optimizing 2G, 2.5G and 3G networks.

Let me talk a little bit about what's going in MAXRAD. Our MAXRAD product group continues to grow. We are, of course, extremely excited about the acquisition of the marquee antenna product lines from Andrew Corporation. While we are not offering general guidance for 2005, we can advise our investors that we fully expect to achieve $40 million in antenna sales in 2005.

With our investment in a larger facility in Illinois, we can now scale the MAXRAD product group to achieve over $75 million without further facility investments. Our long-term plan is to continue to leverage the strong capabilities in the MAXRAD management team and to expand through acquisition and organic development.

During the third quarter, our penetration of targeted OEM customers continued to move forward. We had a significant win at Symbol Technologies with our Wi-Fi products, and Cisco approved another new portable Antenna at 5.8 GHz. We also secured business with another Wi-Fi infrastructure supplier. Finally, a major carrier selected us to retrofit all their service vehicles with our mobile LMPV products.

I personally visited our antenna manufacturing facility in Tianjin, China, and came away very impressed with our ability to expand our relationship with Motorola, who is our key customer for MAXRAD products in Asia. We are active in product development as well. In addition to the new products for Symbol and Cisco, we launched five new multiband products in the 2.4 and 5.8 GHz range, and a new line of WiMAX sector antennas at both 2.4 and 5.8.

Let me turn to other areas. Many of the analysts who follow us, as well as our investors, contact me frequently to inquire about the status of our litigation with 3Com, U.S. Robotics, Agere and Lucent. As we cannot update you individually, I have prepared a few comments to give you a better idea of where we stand.

As you may be aware, in patent litigation the judge not the jury decides what the claims of the patent or patents will mean. The judge typically holds a hearing where the judge hears arguments and evidence from the parties supporting their respective interpretation of what the claims mean. This hearing is called a Markman Hearing. Since our last call, the parties have exchanged proposed interpretations of the claim terms for construction, conducted claims interpretation discovery, and are preparing legal briefs to file, all in preparation for the Markman hearing.

The Markman hearing on PCTEL's patents is scheduled for January 2005, with a tutorial scheduled for December 2004. Sometime after that, the judge will issue his ruling on the meaning of the claims in PCTEL's patents. The Markman tutorial and hearing on 3Com patents is scheduled for February and March 2005, respectively. We do not expect the judge to set trial dates until after at least the January Markman hearing.

Let me add two additional notes. We do not know at this time whether there will be a single trial or multiple trials for groups, patents or defendants; and two, since the filing of their respective lawsuits, both 3Com and PCTEL no longer sell modems. I'm sure that you, our stockholders, others will have additional questions regarding the litigation, but I would now like to turn to our strategic development activities.

As should be clear from our acquisition of the antenna product lines from Andrew, the Company remains interested in growth through acquisition. As we stated earlier in the year, we are focused on opportunities that will permit us to elaborate upon the potential of each of our three existing product groups rather than on totally new business areas.

To that end, we have been looking at companies compatible with our efforts in network performance management, and at others that would permit us to leverage our footprint with public and private carriers. We will update our stockholders as we make additional progress. I do want to point out, however, that we are aware of our large cash position, and that we intend to use our strong balance sheet to execute our acquisition strategy. We will also continue to buy back stock as currently authorized by the Board.

In summary, we remain extremely confident in our company's future. Our businesses continue to grow and we have a plan to generate positive earnings next year. We believe that our subscription model for the Roaming Client business will benefit us in the quarters ahead. Our model differs from some of our competitors in that we have worked hard over the past two years to establish a broad base of support for our product and a platform for securing ongoing licensing revenues from use of the Client. While that strategy requires more patience, we believe that it is the right strategy to secure long-term relationships with our customers.

We are also confident that the focus on our government opportunities will prove to be worthwhile. Our products in our RFS, RF Solutions, and the MAXRAD product group leverage the growth and the use of the unlicensed band, and we will benefit from the transition from current cellular technologies to the next generations that are now being deployed. Finally, we are confident that our patent licensing strategy, despite the length of time and cost involved in litigation, will benefit our stockholders.

With that, we are ready to take your questions. We have set aside 45 minutes for the Q&A session.

(OPERATOR INSTRUCTIONS). Doug Whitman.

A couple of things. First, if you guys could talk a little bit about yourself versus Smith Micro. They have been out recently saying some kind of strong things about their presence in the business versus your presence, kind of who each of you have as customers and who is still up for grabs if anyone?

Sure. It's probably not entirely correct for me to comment on a competitor's business in an earnings call, but let me just state the facts as I know them. I believe that Smith Micro has been successful with Verizon Wireless, particularly around the use of their software with EV-DO. You know, we don't know exactly what the market is in the U.S. for EV-DO, but the numbers I hear are around 2 or 300,000, maybe over an 18-month period. I'm not sure.

The second thing is that I'm not sure exactly what the business model is there. I know that our business model requires a lot of patience. We have 10 customers. I think I enumerated them. T-Mobile, Cingular, AT&T wireless, BellSouth, SBC, NTT DoCoMo, NTT COM, GoRemote, and another that I can't disclose. And our model has really a small amount of customization and NRE upfront, and most of our contracts are based on success as the carrier has success in deploying our software. We're very confident that that is going to happen, but we don't, for example, shift into a store and then bill or invoice on that shipment. We get paid based on the deployment of the Roaming Client.

And as you know, although we are absolutely delighted with our partners' marketing efforts -- for example, T-Mobile and their very aggressive deployment of Wi-Fi, their deployment of 802.1X has really shown some leadership in this business. We're very happy with our relationship with AT&T Wireless and Cingular. We think they're going to do a lot on both the cellular and the Wi-Fi side.

All of those deployments have occurred a little bit later in the year than we had hoped, and as they pick up momentum, we will pick up momentum. And it's just the nature of our model. But we really have made an investment in building a broad base. We expect that we're going to win some other contracts. You mentioned (indiscernible) for grabs. I don't know that I want to specifically mention those, as I don't want to tell my competitors on an earnings call exactly where I'm being active. But that's -- that actually is a pretty fair question, given all the activity that's been occurring around the industry with one of our competitors. You had a second question you said, Doug?

Yes, the government. Can you touch a little bit more about the -- you had a shortfall in the government, and the government is kind of tough to forecast historically for a lot of companies, when revenues come in. And there's been some other companies that have had some lightness in government. Kind of what you guys see as the outlook as we look forward with government, and the choppiness of it?

I think our choppiness is twofold. One, by nature the business can be choppy, and that is the same for all vendors. And then, I give our group down in Germantown, Maryland, our RF Solutions, a lot of credit for the missionary work that they have done here. But at this time, until they have full credentials, they have to distribute through the auspices of others. And as such, the forecast is even less visible to them.

And there's actually a third issue which is our government work in the past -- and I mean until very recently -- has been responding to requirements that we receive through others. At this point, Paul Kline was leading that effort for us down in RF Solutions, has productized two applications that weren't fully productized before. These products are products that are involved in jamming and mapping. And I think with the products and robust spec sheets that we can distribute through various intermediaries, that we will see an increase in that business. We're actually quite optimistic about it. But going forward, we're going to be very cautious in what we include in our forecast that will be an upside to our forecast. But we are not going to set ourselves up or our stockholders or analysts up for the type of disappointment that we had in the third quarter.

Susan Kalla, FBR.

I wondered, Marty, if you could fill us in on the growth potential for Cingular and AWE once they -- now that they have come together. Does it look like they're going to spend maybe what, six months or nine months doing some of the plans, and then maybe start spending at the end of 2005? Or do you expect them to start spending a little bit earlier?

Susan, I couldn't speak to their general CapEx programs. I can tell you that we're in a really good position in that in this particular case, both carriers standardized on our products. And I think we'll have some immediate work in converting all the product to a new brand. And I think in this area, because there has been standardization on the same software, that we are likely to see benefits earlier in the year rather than later. This is an area where we have had some problems not in the Roaming Client arena but in our RF Solutions. In that case, there was a delay in spending which we believe is going to be lifted. For example, claRiFy -- the product in RF Solutions that detects sources of interference and then permits frequency planning and also informed decisions about the type of infrastructure that ought to be invested in and deployed -- was of less interest for example to a company like Cingular while it was waiting for this merger to be approved. I think with the merger being approved, the normal types of frequency planning and CapEx spending is going to resume no later than the second quarter of next year. Is that helpful?

Anton Wahlman, Needham & Company.

First, John, I've just got a clarifying question for you. You mentioned your expenses. You talked about 9.9 million to 10.1 in OpEx. And then you said something about the core OpEx, and I didn't hear what that number was. What was the core part of the 9.9 to 10.1?

The core part -- let me just go back to my notes here. What I had was that guidance for the fourth quarter was kind 9.9 to 10.1, of which the core piece is 9.1 to 9.3. That's R&D, sales and marketing, and G&A combined. Then 1.3 of amortization, because there will be a kick-up in intangibles for the new business. I ran 1.1 for that number so that would be up 200 K.

Simple enough. The other one I wanted to that I didn't hear was you said just their revenue number for the quarter for the antenna MAXRAD business was -- what was the number for that?

I did not quote a number for the quarter specifically for the MAXRAD business, but basically if you take the previous guidance numbers we gave, and the difference is pretty close to the amount that we've added for the new --

I meant for the third quarter that you just reported.

The third quarter was $5.7 million.

Marty, could you -- you talked a little bit about in the relation to the Smith Micro question on the competitive landscape for them, for the software products, but could you talk also about the competitive climate both for the antenna piece and for the RF Solutions business? It's kind of -- those are fairly more specialized businesses and a lot of customization as well, and if you could go into that a little bit, lay out the landscape a little bit more there.

Sure. It certainly matters what area we're talking about. But in the U.S. in the unlicensed band we face competition from Cushcraft, we face competition from some small competitors such as antenneX. We face some competition from, I believe it's Centurion that was recently acquired (technical difficulty). And then we do face -- we do have some competition in China and Taiwan, which is in fact one of the reasons that we've put manufacturing in Tianjin.

With respect to our scanning receiving business, our competition at the high-end would be from players as such as Agilent, Rohde and Schwarz, divisions of Adcom (ph). And then from Asia-Pac we had Ritsu (ph). We have some cases where certain customers are both customers and competitors, people who package our scanning tools into their finished systems; companies like Comarco fit into that category.

We supply our specialized scanners and receivers, or scanning receivers, into companies like TEMS and Nemo. And with respect to claRiFy, I believe we are a little bit ahead of the curve there. I think that one of the bright spots in RF Solutions is that we have this state-of-the-art system for understanding sources of interference where we are somewhat unchallenged. That is the good side. The more challenging aspect of it is that we find ourselves on an educational mission in some cases. I don't know if that helps you understand the landscape a little bit better.

I will make one other comment. The core platform for these scanning receivers, software defined radios, are also used in government applications where I've stated that we compete. And there are many small competitors in that area.

Okay. I wanted to just see if over the last quarter or so there had been any changes in this landscape, and if anyone had been added or subtracted from the sort of roster of competitors.

No, I don't think so.

Final question then on your authorized share buyback. Any thinking on either increasing that level of authorization, presumably to create the opportunity to act on it at some random time in the future?

Certainly we are going to discuss a variety of actions with our Board of Directors that includes some cost actions and also address issues with the buyback program. Those issues relate to the current cap and also some of the limitations that we encounter in executing our current program because of the quiet periods that we find ourselves in due to our very active M&A program. So for example, it's a little bit of a frustration when we have an approved stock buyback program and we can't execute it because we have activities that taint the process. And so we have a board meeting coming up this week which we are going to address these cost issues, the share buyback program, vehicles to facilitate buybacks and so on. But it would be inappropriate for me to comment on any potential outcome there since our board is a very independent board, and they're going to play an active role in reviewing these decisions.

You've got still about $100 million I guess before the -- before you pay for this acquisition, and you're relatively ballpark sort of cash flow neutral. Would it be fair to say that you are actively evaluating more opportunities to buy relatively speaking smaller businesses for cash at these levels, or would that be incorrect?

I would certainly -- just as a philosophical statement without getting specific on what we are contemplating, I would be extremely reluctant to use our stock as an acquisition vehicle, as a currency, when we are simultaneously making the argument that perhaps it's a good investment to buy back. And also, I believe, I think correctly that our stockholders expect us to use the stock -- to use the cash to build our business. So I think basically what you said is correct.

Matt Robison, Ferris Baker Watts.

Marty, I was wondering if you could maybe give us some thoughts on the market development side for your software business. We have seen -- we're starting to see more activity in EV-DO and UMTS, and we've seen some announcements, particularly SBC talking about doing work to combine the unlicensed spectrum with the spectrum they have for cellular. Are we going to have to wait six months to a year for these carriers to really understand what it means to provide a valuable data service, and then see them show a more deliberate marketing effort? Or do you think that they've -- are you seeing some deliberate efforts in the marketplace now? And how should we characterize the market development? I guess I would like to -- the follow-on is given that backdrop, do you think you can sustain the current revenue levels in wireless? And for John, do you expect to be using cash anytime soon?

Let me answer all the questions other than the cash question. I believe that we will absolutely sustain current software revenue levels. We believe that we have momentum, that we have traction. And with respect to the carriers, I believe that they are extremely serious about deploying services that respond not only to broad consumer needs, but specifically we're seeing them actively involved in the enterprise space, and putting together packages that are meaningful for the mobile worker.

I think that one of the trends that PCTEL is really able to ride is the growth in the mobile worker and the mobile worker's demand for pervasive wireless. It may be the case, Matt, that we actually see some opportunity for the SoftAP associated with various carriers who want an easy way to illuminate a small office, home office, or some other structure, with Wi-Fi, based on delivery of wire or wireless broadcast. So I am not sure about the timing, but I do believe that we are seeing a lot of deliberate activity.

I think probably the most deliberate thing -- I'm using thing an awful lot here. The most deliberate action that you can point to on the part of a carrier is T-Mobile's focus on deploying 802.1X at their hotspots. In our discussions with our customers, the carriers, and also in our discussions with enterprise customers, they inform us that the CIOs, or the information managers at large enterprises are reluctant to allow their mobile workers to use Wi-Fi because of security concerns. It's not just a security concern now, it's actually a Sarbanes Oxley concern; you know, how good are your processes and protecting your information. And so you see a large carrier like, T-Mobile take 802.1X and actually invest in the infrastructure at each hotspot. So they create an acceptable network for enterprise customers.

So I guess in summary, I believe that you are seeing deliberate and calculating actions by the carriers to offer meaningful pervasive wireless broadband services. I am not sure how long it's going to take to have all of them fully in the boat, but I'm really encouraged. John, do you want to talk about the cash?

Yes. As you may have gathered from our change in our cash position that before the buyback we were effectively cash neutral in the third quarter. Where I would say, when you add the 10 million out for the purchase price plus the cost of the transaction and the new building that we are investing in in the fourth quarter, the cash will move based on those three things from 102 level into the 85 to 87 range. This building is incrementally about $5 million. But cash from operations should be relatively neutral once again.

Over the term of the transition we may have to utilize between 1 and 2 million of cash to build duplicative inventory. But by the second quarter of next year that should come right back to us, as well as another couple million dollars should come to us from the sale of the old MAXRAD building. But from an operating perspective, I do expect us to maintain our neutral cash from operations position.

That would include the integration costs?

Yes. I believe that other than the inventory rise that I'll get that money back. I believe that the -- its cash neutral, and then eventually with positive EBITDA it will eventually be positive. But that is what's going to transition needs to complete itself.

Wes Cummins, B. Riley & Co.

Go back onto the software side. Can you just clarify if you have not only the 802.11 contracts with most of those carriers, but also the cellular, whether it be EDGE or WCDMA or EV-DO?

Yes, we have both. In some cases we have only one or the other. In other cases we have both.

Okay. And then also for the revenue, John, in Mobility Solutions this quarter, how much of that was SoftAP?

Very small number. We typically don't break that out. But as we pointed out, Wes, that was one of the reasons for the disappointment (multiple speakers) in rounding.

Marty, last thing I have is on the litigation side, is there any possibility that these get settled in 2005?

Yes, I would say there is a possibility. I can't share with you the status of our settlement discussions, but we do meet from time to time with the parties to see if there is some common ground. And we're always hopeful that as serious dates become a little closer, such as the Markman hearing, that there will be greater motivation for settlement on the part of the defendants in this case.

And, John, it's still costing you 3.5 to 4 million a year?

That is correct.

Mark Chausen (ph), Knott (ph) Partners.

Quick question going back to software and the wireless broadband front. Is it fair to assume that you guys have a larger slice of this market than someone like a Smith Micro, UMTS will lag behind EV-DO? Because you look at the market cap at Smith Micro is about 100 million. Your enterprise value is 50 million. What am I missing?

What we're missing -- let's be very blunt -- is we don't have positive earnings. And I think that we have to demonstrate that until we are a little bit more exciting on core financial measures. I have no complaints about the success of others. I think that our stockholders will be rewarded as our broad base of support for this product, and I think what will be a fairly large market share for us translates into revenue from greater use.

I think the difference is that in one model you have revenue upfront as there's near-term shipments into stores associated with actual devices. And in the other cases you have widespread deployment and distribution of our product with revenues to follow.

A good example is this. I don't know how many EV-DO client cards were sold in the U.S. in the last quarter or in the quarter before, but I would hazard a guess that actual sales were less than 100,000. And there is a fair amount of revenue associated with that if all that revenue is collected at one time, even if the number was as low as 10 to 20,000.

In our model, we had T-Mobile distribute 1 million copies of our Software, and it's going to take awhile before we see the revenue associated with that. But I think distribution of software in millions has the potential to pay off more than distribution of software in countable thousands. You know, I may be wrong about the business model. And again, you guys are sort of backing me into a quarter of commenting on the business model of our competitors. I don't want to assert that I really understand it. I can tell you about our model though, and what our customers are doing, and they are distributing lots of copies of our software right now. Is that helpful to you?

Mr. Chausen has actually disconnected.

He must have really not liked the answer.

Sid Parakh, Robins Group.

Just a few quick questions. Actually I missed the first significant amount of time and I got on late. Have you given any -- can you talk a little bit about the gross margins actually? Why were they lower? I don't know if you already talked about it.

If you look at the gross margins by the segments, they pretty much track what the last Q (ph) that we had in our segment reporting. Your gross margins for the Roaming Client business or the MSG business, it runs in the upper 90s. If you look at the RFF business it's in the mid-60s, and that also was consistent this quarter. Your licensing runs between 95 and 100 percent with an occasional blip down if we happened to dispose of any patents in the quarter, because we do occasionally prune the patent portfolio. And MAXRAD continues in the low 40s just like it has historically, and you'll actually see that in the Q.

Okay. Because I just came to a different number. Also now, somebody just mentioned SBC on the call earlier, and I actually have an article here that says (indiscernible) -- I mean, the company is seeing a lot of activity on their new unlimited hotspot services. They said they're shipping about -- I mean, they're getting about 3000 new DSL customers who are signing up for DSL unlimited hotspot services. My question is is SBC using our Roaming Client, and if so, have you seen a fall-through of this activity?

Yes they are using it, and no we don't have the revenue recognized yet.

Okay. But you have already shipped it, and in that case --

They are distributing it, Sid, to their DSL customers. And we get paid on the take rate.

Can you sort of give us an idea of what you are expecting from that?

No. We wouldn't go into that level of detail, Sid.

Sid, we're not going to discuss revenue by customer.

We would get in a lot of trouble doing that.

That's fine. Also, can you quickly comment on the recent acquisition, how it fits in with PCTEL? And what kind of acquisitions will PCTEL be looking at going forward? I mean to say that will it be more software-related acquisitions, or would it be more of the antenna and hardware stuff? And would you sort of focus on accretive acquisitions rather than product development, I mean, some company where you would actually have to develop the product?

We did address that a little bit in the prepared comments, but I'm happy to elaborate on those comments for you, Sid. Our history has been to focus on accretive acquisitions. Certainly was the case with MAXRAD. It was also the case with DTI, which is now RF Solutions. And if you set aside the duplicative costs that we are going to encounter for at least one full quarter, that is certainly the case with product lines that we acquired from Andrew Corporation.

So our business model has been consistent in that regard, of looking for accretive acquisitions. We typically impose an EBITDA multiple discipline in our M&A activities which ensures this. As far as will we be looking for additional acquisitions, the answer is without qualification, yes. With respect to the areas, we have identified a few areas that we would like to explore.

One, we think that there is continued opportunity for us to grow MAXRAD, although I will say we're somewhat reluctant to build up so much antenna momentum here that people start to view us as an antenna company only. Our next acquisition is likely not to be in that area. We are focusing on ways to take advantage of the footprint that we have with our software products.

For example, while we're somewhat disappointed in the current revenue flow from the sale or the licensing of our Roaming Client, we are really quite pleased with the broad traction that we have. And as you know, our Roaming Client is not just an application but a system, where we have a central configuration server. It permits us to do over-the-air administration, some repairs, downloading, management of millions of connected devices. We would like to layer on more services to that central configuration server and expand what we can offer through others to the enterprise world. And we are very active in that area right now. We have been for some time.

With respect to our software defined radio, we're looking at two different paths. We think that there's much more that we can do with that software defined radio platform. You know, it's very powerful. You have this DSP-based radio system, has an RF front end where we can mimic any type of wireless standard. And it doesn't have to be confined to just test equipment. This can be applied to RFID as we have already done, to government applications, to different types of test tools. So we're looking at acquisitions in that area, as well as licensing opportunities where we can license the core technology to others to address larger markets than test.

The other area related to software defined radio and our current RF Solutions is in the area of cellular engineering. Right now we deliver claRiFy, which is this great system for identifying sources of interference, but we don't offer a tool to some of our customers that not only tells them the problem but gives them the solution. So we are looking at opportunities where we can either acquire a technology or a company with ongoing revenue that expands our business vertically with respect to cellular engineering.

So again, staying within the broad fabric of simplifying mobility, focusing on software that helps expand horizontally our business with the Roaming Client, vertically with our RF Solutions, and perhaps horizontally with the licensing of our software defined radio platform. Thanks for the question.

Jeff Shriner, MS Capital Management.

Marty or John on this one, was just wondering -- the recent antenna assets that were acquired from Andrew, are those in the below-1 GHz spectrum, the lower-margin antenna type business assets, or are the above the 1 GHz spectrum?

They are above, and they're not commodity-type. We are expanding our presence in land mobile radio, we're entering GPS, and we also have -- there is one that is below 1, which is On-Glass. But by and large, these are very reasonable gross margin products.

Okay. Just continuing on, there's been a little bit of discussion today, Marty, in regard to the SoftAP business. I'm just wondering what's your overall thoughts on the SoftAP business going forward. It seemed like the earnings guidance in the middle of the quarter -- it seemed like the Company kind of felt the SoftAP business might be going away or slowly winding down overtime, and now it seems like new opportunities may have presented themselves. I was just wondering kind of what the overall thoughts were on the SoftAP business?

It's really a mixed bag, Jeff, to be totally candid. It's a great product. We are now compatible with three solid chipset vendors. We do have a couple of new opportunities that are exciting. On the other hand, the average sales price for the SoftAP has declined. And you know, the threat we had there -- we were so excited about getting onto a couple of motherboard platforms in Taiwan. And what happens in that market is that there are so many 802.11 vendors that after winning a socket placement in a particular cycle of release, the vendor with whom we work can be replaced by a very low-cost commodity vendor. And then we find ourselves circling back, getting information on their mini-port driver, and it causes a huge disruption.

So there's no question that there is a hiccup to that model of selling the SoftAP. On the other hand, as you say, we do see some other opportunities. We have to be a little bit cautious because of the decline in the sales price, but we're still looking for other ways to distribute that product.

Okay. Just one last question here and then I'll follow-up with John maybe later on tonight. Just was wondering -- you made a comment early on, Marty, right before the questions about you didn't want to say what was left or who might be left out there in terms of carrier deals. And just trying to tie this one in here, was wondering if you could just talk about a number of maybe new deals that you've got in the pipeline on the carrier side using the Roaming software. And just also wanted to follow-up with -- let me find it here; I apologize -- just in terms of the -- you mentioned a private undisclosed carrier. Is that really a carrier or would it be considered an aggregator, like the GoRemote?

Well, it would be a private carrier, not a public carrier. It don't think that they would view themselves as an aggregator. They provide a variety of services to enterprises. But they are very solid financially, and we have actually done pretty decent business with them this year. And I did say both public and private carriers.

As far as the U.S., we think that there are three carriers in play. Some we'll address through the distribution through others, others are a Greenfield opportunity, and then there's one other private carrier that we're going after right now. And then, of course, we're looking at additional investment in our distribution channel in Europe where we believe that we have several opportunities.

Edward Ching, Rodman & Renshaw.

It's actually (indiscernible) standing in for Ed. Thanks for taking my question. My question is about the antenna business. Can you just talk about the pricing environment in that segment, both about MAXRAD and the asset you acquired from Andrew Corporation? Are you seeing it -- is it stable, is it -- can you raise the prices? What are you seeing?

MAXRAD and the product lines that we acquired are extremely stable. As I said, we are in the 40 percent gross margin arena. We will continue to be there. And the product lines that we acquired complement our current activities quite well.

Doug Whitman, Whitman Capital.

John, if you could maybe follow-up a little bit. And I know you went through some of these numbers, but you went through them fairly fast, and if you could, help me clarify a little bit. If we looked at the operating business as an actual, and exclude items that were non -- that don't take out cash, etc., what was -- for example, what was the legal expenses in the last quarter closed? I mean, you had basically flat cash flow. So I have to assume the operating business was running around breakeven or a little bit better if we take out noncash charges?

I can speak specifically to your question. The legal expenses that were related directly to our patent litigation ran about $900,000 in the quarter. That's up a couple 100,000 from the previous quarter. But you are correct in that the straight cash flow from operations was pretty close to breakeven before the stock buyback. Actually it was slightly better than that.

So the noncash charges that -- if you could detail those a little more.

Doug, so basically you add back all the amortization, and then you would add back there's roughly $500,000 a quarter, it's a little -- within 50,000 is depreciation that's buried up into the operating expenses. That's 1.5 million. My entire change in income taxes is noncash, so the 600,000 in income tax is noncash. So you can see when you add those back that -- and before you get changes in the balance sheet you've got a positive cash flow, or neutral cash flow coming from the P&L itself.

So actually the comparison to Smith Micro that I made is a little more relevant actually?

Right.

The second question which would be is -- Marty mentioned he took the subject very seriously. Maybe you could define what he doesn't take seriously?

The threat of Northwestern beating Michigan in the next two weeks.

I thought we needed a little levity on this call.

Gene Weber, Weber Capital Management.

A little bit on the acquisition, mainly in the integration. I think you said it would take three to six months where there would be some duplicative costs. Just from an accounting standpoint, is there going to be -- John, would you envision a restructuring charge that's going to offset some operating income, or is it going to be accounted for differently?

What we expect in the transition is literally what's happening is for three to six months, Andrew will be manufacturing the products in their factories in Mexico, in Orland Park, Illinois. So I'll be actually paying a higher cost per unit over that time than I would normally pay, that as I bring my factories online that -- paying for them to make it. And then, the duplicative costs of bringing a factory online was the duplicative transition costs I was talking about. But I do not expect any R&D write-offs or any restructuring charges to happen as part of this. The issue is, as you will see in the next two quarters, my gross margin is a little lower and my operating costs are higher than they will be once I exit this transition services agreement. So it will be pretty run-rate and smooth, and then the run rates will get better.

And then, could you also let me know who your competitors are in the business that you're acquiring from Andrew?

I think it's your -- traditionally the existing competitors we have in the antenna space. You've got -- Cushcraft is up there in the above-1 GHz, Centurion on the lower end. It's hard to tell. The thing that intrigued us most about this is not only do I get a couple of new blue -- more than a couple of new blue-chip customers that it wasn't in before, but I also get two technologies that I wasn't in before. The ability to get into On-Glass, and at the same time the ability to get into GPS and mobile SATCOM (ph) (indiscernible).

Gene, let me make a couple of comments here. In visiting customers with Steve Deppe, who is the manager of our MAXRAD product group, one class of those customers are the very large wireless distributors that handle not only our products, but products from many other wireless manufacturers. And in asking the CEOs or the other executives from those distributors what we could do to better serve them, it wasn't only the traditional answers of higher quality products at lower cost; we got a consistent message. Get bigger. Consolidation is something that large distributors and some of our large customers appreciate, in terms of simplifying their procurement process. And we saw an opportunity here to build our relationship with some of our key existing customers for the MAXRAD product group.

Let me mention one other thing. You know, from time to time I will get a question from either an analyst or a stockholder -- how do you put this whole story together? You've got these scanning receivers, the antennas, your software; it's very interesting. I go to a carrier now that has an interest in Wi-Fi hotspots and mobility over to a cellular, and we have discussions where they say wow, you guys can meet all of our needs. You have the test tools to analyze how well our network is performing and where we have holes in it. You have antenna products that help us simplify the extension of these wireless networks in-building and elsewhere, and then you have software for our customers that allows them to freely move from one type of a network to another. So with these products I think we're continuing along that strategic direction, and we're really excited about it.

One final question on the antenna business. What is the rough split between direct and distribution in that business?

About 65 to 70 percent of all of our business goes through large distributors in the antenna business. That was what you're talking about, right?

Right. Just the antenna business.

And then the rest of it goes to OEMs like Cisco, Symbol, Motorola, and others.

One last question.

Our final question comes from Matt Robison, Ferris Baker Watts.

On the legal expenses, it took a nice uptick, or rather a negative uptick I should say. As we get into this courtroom stage, potentially are we facing a multiple in terms of the scale, the legal?

I think next year per quarter you should anticipate 900,000 to $1 million per quarter until we give you different direction based on potential settlements. But this was a very heavy quarter as we prepared for what is essentially a trial, the Markman hearing. We also had expenses related to filings that the defendants made, and we've had some legal bills associated with discussions with some of these parties outside of the litigation.

Thanks a lot, and thanks all of you for your questions.

If there are no closing remarks from our speakers today I'll remind everyone that a replay of today's conference will be made available beginning at 7 PM Central Standard Time, running through November 15, 2004 at midnight. You may access the replay by dialing 719-457-0820, or 888-203-1112, and entering pass code 835575. This does conclude today's conference.