Viasat Inc (VSAT) 2005 Q4 法說會逐字稿

Good day, ladies and gentlemen. And welcome to the ViaSat 2005 fourth quarter earnings conference call. My name is Minosha and I will be your coordinator for today. [OPERATOR INSTRUCTIONS]. I would now like to turn the presentation over to your host for today's call, Mr. Mark Dankberg, Chairman and CEO. Sir, you may proceed.

Okay, thanks. Good afternoon, everyone. And welcome to ViaSat's earnings conference call for our fiscal year 2005 fourth quarter and year ended April 1, 2005. I'm Mark Dankberg, Chairman and CEO. And I have with me Rick Baldridge, President and COO; Ron Wangerin, our Vice President and CFO; and Greg Monahan, Vice President and General Counsel. And before we start, Greg will read our Safe Harbor disclosure.

Thanks, Mark. Portions of this presentation contain projections or other forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 regarding future events for the future financial performance of the Company. We [audio difficulty] caution you that these statements are only predictions and may differ materially from actual events or results. We refer you to the documents the Company files from time to time with the Securities and Exchange Commission, specifically, the section titled "Factors That May Affect Future Performance," and the Company's Forms 10-K and 10-Q. These documents contain and identify important factors that could cause actual results to differ materially from those contained in our projections or forward-looking statements. Stockholders and others are cautioned not to place undue reliance on these forward-looking statements which speak only as of the date on which they are made. The Company undertakes no obligation to update publicly or revise any forward-looking statements. Forward-looking statements in this presentation do not include any impact related to expensing of stock options under the Financial Accounting Standard Board's Statement 123R.

Okay. Thanks, Greg. We're going to use slides in the conference call again. And they can be viewed over the web. I'll be referring to those as we go along. Topics we'll cover include our fiscal year '05 fourth quarter and year-end financial results, and a business overview perspective. After that Ron Wangerin will discuss financial results in more detail. And then finally, I'll update our outlook and financial guidance, talk about our strategic environment a little bit, and give a quick summary, and then we'll take questions. So we'll start with fourth quarter revenues. Sales for the quarter were $90.9 million which is a new record for us, and that's up 9%, compared to the fourth quarter of last year. For the fiscal year, we ended at $346 million, which is also a new record for us, and up 24% over last year. This next slide shows fourth quarter and pro forma earnings compared to last year. Pro forma earnings grew from 5 [audio difficulty] 7.6 million, which is up 52%, and from $0.18 a share to $0.27 a share, up 50%. Pro forma earnings exclude only amortization of intangibles due to acquisitions. And we'll provide exquisite bridge data from pro forma to cap net earnings a little bit later.

The next chart shows net earnings and net EPS. Net earnings grew from 3.8 million to 6.7 million, or up 76%. And net EPS grew from $0.13 to $0.24 a share up 85%. From the fiscal year as a whole, pro forma earnings are at record levels and better than last year, even without excluding the one-time Scientific-Atlanta settlement benefit which is shown in gray. Absent the settlement pro forma earnings were up from 14.1 million to 23.3 million, an increase of 65% and from $0.51 to $0.83 a share, an increase of 63%. And then finally, this next slide shows fiscal year GAAP net earnings, again, with a one-time benefit in gray. And those are also up year-over-year, even including the settlement. Excluding the settlement, GAAP net increased from 9.4 million to 19.3 million, up 105%. And from $0.34 to $0.68 an increase of 100%. So overall we're pretty happy with our earnings for the quarter and year-to-date. And we'll go into more depth on earnings including some discussions on margins and tax effects a little later. But first, I'll offer some perspective and give some context of how things are going for our business overall.

Even though there's some imperfections in margins and in our balance sheet, taken as a whole we've had a very good year. And we think we're very well-positioned going into our fiscal '06. We're very happy with the growth rate this past year. We exceeded our own targets for sales, orders, and earnings. [audio difficulty] areas had been consuming cash and for those that have followed us for a few years, we've gone through similar situations before. If program milestones are delayed then unbilled receivables grow, margins are stressed, and we can eat through cash. But we think this quarter illustrates we can anticipate things can play out better going forward. We generated $8 million in operating cash flow due to earnings, tax and those effects. The outlook for continued strong cash flow generation is favorable. We know there's a focus on margins and I'd like to point out a few things here. We had some unique expenses this quarter relating to push to complete Sarbanes-Oxley 404 Compliance and ongoing litigation with the former MIDS subcontractor. We expect the SOX cost to abate and we reached a settlement on the litigation that yield the [audio difficulty] current quarter. Effectively the settlement means an improvement to our MIDS margins which will be reflected in the current quarter. Also while our overall funded development backlog is growing it's shifting to a greater proportion of cost reimbursement contracts. This somewhat reduces our exposure to cost overruns and it provides a more structured framework for effecting changes to contract requirements.

Another important point is that we still believe we have excellent opportunities in front of us for enduring growth. In general, we're constantly trying to balance earnings now with future growth. And we're very happy that we've been able to meet our earnings objectives while building a very attractive pipeline to draw future [audio difficulty]. Growth prospects reflect the interactions between our own progress and the overall business environment in which we compete. For instance, our MIDS JTRS development contract progress has been good and it addresses a market that should be very receptive to such a focused, cost-effective software radio. There are excellent opportunities for our addressable market to expand there, both domestically and internationally. The information assurance market continues to mature and our progress enables us to address increasingly broad segments of that. And with a number of customers, especially WildBlue and Telesat planning to rollout our DOCSIS consumer broadband this fiscal year, there is a possibility for significantly faster growth in our second half.

We also see a favorable environment for potentially new or expanded satellite systems in general, and that creates ground segment opportunities for us. We believe we've positioned the Company as one of the leading candidates to build out satellite ground networks and while we weren't really a player in the mid '90s, we think we can be this time around if there's new activity in this market. And there are some positive indications there already. Clearly mobility is a big theme in digital markets as a whole and satellite could play an increasing role there. Finally, we're pursuing similar strategies in both our commercial and government segments. We're aiming at markets that are right sized for us, where we can leverage technology entry barriers, face limited competition, establish long-term close relationships with a manageable number of customers, and earn fair returns. If you look at our segment results, we've done very well in the government business. Our commercial segment is actually still pretty new. It's grown about ten-fold in the last four years. If things go pretty well, it should begin contributing to earnings again this year which would have a positive impact on our margins as a whole.

The new orders continue to be very strong for us. New orders have been a clear leading indicator of growth for the Company over the last three years and we're very happy to see that continue. We know that we had something [audio difficulty] new orders quarter this past quarter with about 120 -- 125 plus million in new orders. We do make an effort to accommodate our customers' desires in how we announce contracts. And this is a factor. Also, there was a flurry of activity at the end of the quarter and that's working its way into announcements around now. Another key point is that there's still a number of important award decisions that are still pending. These include both domestic and international MIDS, LVT production orders, MIDS JTRS program modifications, some satellite network expansions, some information assurance programs, and others. And we believe our new order pipeline is very good. This next chart on backlog and revenue trends we've used for the last few quarters to show growth in backlog in the context of our quarterly run rate. It looks pretty good right now and it's one of the reasons we continue to be optimistic about sustained growth. So now let's turn for a minute to some of the main business highlights over the past quarter.

Our government business was very strong for the quarter. We, again, set new records for sales and earnings, and margins were very good. We're seeing the benefits of investments we've made there in the last few years. Our margins in these businesses continue to be very good, and our mix of production and development programs provides a good balance of current earnings performance and future growth opportunities. MIDS unit production was at record levels. We're anticipating both domestic and international MIDS LVT contracts -- production contracts to be decided soon, that might allow us to further increase our MIDS sales. While KG-250 sales remain good, they were level compared to the third quarter, and we anticipate about that same level for another quarter or so. Remember, this is a brand new market and it's difficult to predict. As of now, we believe we have a very high percentage of the market. This summer there will be a few key events including a new software release that includes a more recent version of the HAIPIS standard. A hardware revision that addresses requirements of a broader customer base, and production release of a competitor's product. Overall, we think those events will likely grow the market as a whole and we anticipate our quarterly shipments to grow again as well. And we're bidding on several new programs and extensions and information assurance, tactical data links, weapons data links, and satellite. We think fiscal '06 will be another record year for us in new orders and new revenue, and we're looking at new applications and adjacent market opportunities to take advantage of our technology position and secure networking and communication. Finally, after quarter end, we settled a fairly longstanding dispute with one of our former subcontractors on the MIDS program. The net result of which will be recognized in our first quarter results and will improve the margins on that business.

Turning to our commercial segment, VSAT Networks has continued to see good traction for both the DVB-RCS-base products and more recently our DOCSIS-based products. Our backlog is growing and the new business pipeline seems good. Earnings in Q4 were a little disappointing primarily due to a -- in the VSAT Networks business, primarily due to a higher percentage of revenue related to our DOCSIS-based SurfBeam product, which has lower margins at this point. And absorption of higher support costs for those initial networks for this new system. Also the mix in this area is changing as we're shipping a much higher number of terminals relative to hub shipments. This is a good market development for us, since it means we can address and win larger and larger programs where we really weren't even a contender in the past. But there's some impact for revenue over the next couple quarters. The revenue for larger terminal orders will, in most cases, be recognized on a shipments basis, while hub orders often involve some development activity and are often recorded on a percentage of completion basis. So that effect is factored into the business outlook we'll discuss later. And it means also that we'll be building up some more backlog in the VSAT Networks business.

Our Antenna Systems business is performing well with good orders, improved margins reflecting cost reduction and [premanufacturing] initiatives, and also it's had excellent cash flow. In our broadband area the DOCSIS development efforts are maturing. We've developed infrastructure equipment to light up all of the Ka-band spot beams on Anik F2 for both WildBlue and Telesat. WildBlue began beta service in the fourth quarter. And we understand their planning service launch this summer. We received a terminal order for about 40,000 units from Telesat at the end of this quarter and completed an agreement with them regarding some delivery delays on the gateway we delivered earlier which had an impact on our earnings in the fourth quarter. We continue to have interest from new customers in this system and also received an order from SES Americom for a hub and terminals for Ku-band applications. Terminal production is now ramping up significantly. We should know much more about deployment rates on our next quarterly call. Our mobile broadband efforts for Connexion and our SKYLink product are getting more traction. And we received additional terminal orders from Connexion for airborne, maritime and general aviation products. And U.S. Monolithics began shipments of production Ka-band transceivers and received about $8 million in outside orders for government-related applications. So at this point I'd like to introduce Ron Wangerin, our CFO who will discuss the financial data in more detail.

Thanks Mark. We'll start with results from operations with the segment perspective first, then discuss the rest of the P&L, followed by a discussion on the balance sheet and then cash flows. In the Government segment, revenues for the fourth quarter were 47.7 million, a 20% increase over last year. Year-to-date revenues were over 175 million, which is a 37% increase over prior year. Decreases in government revenues for both the quarter and fiscal year are attributable to increases in tactical data links and information assurance product areas. In the Commercial segment revenues for the quarter were 46 million, which was flat from the fourth quarter prior year. Year-to-date though revenues were over 177 million, a 15% increase over prior year. The year-over-year increase is from higher sales of enterprise and consumer VSAT products.

For segment operating earnings the government segment posted fourth quarter operating earnings of 7.1 million which represents an increase of about 54% from prior year. The increase is primarily related to year-over-year higher sales of products like MIDS and KG-250 which carry higher margins. Year-to-date segment operating earnings are excellent at $28 million which represents an 85% increase from prior year. And the increases year-to-date are the same as for the quarter. Commercial segment operating margins continue to be lower and are impacted by the development and start-up costs of our DOCSIS consumer -- DOCSIS-based consumer Satellite Broadband System. These investments overcame the earnings from other portions of our commercial segment and resulted in negative operating margins for the quarter. In fiscal year 2004, commercial segment results included a $6.3 million benefit related to the Scientific-Atlanta legal settlement. So this SKUs the comparability year-over-year. Excluding the SA settlement impact in the commercial segment despite the increase in revenues year-over-year, segment operating earnings came in lower than prior year at $1.9 million profit. Again, due to consumer broadband start-up cost. We are evaluating our current segment disclosures and any changes will be reflected in our Form 10-K filing.

As we look at the rest of the P&L, for the fourth quarter and fiscal year were seeing very good year-over-year revenue growth. Gross margin percentage continues to be impacted by lower gross margins on consumer broadband programs due to development and start-up cost, partially offset by performance margin improvements in government and Antenna Systems programs. In comparing results to fiscal year 2004, the 2004 results include a benefit from the SA settlement of $3.2 million recorded to cost of revenues whereby increasing gross margins. Excluding the SA settlement the gross margin percentage decreased slightly year-over-year due, again, to development of start-up cost and consumer broadband programs.

Selling, general, and administrative expenses in the fourth quarter were disproportionately high relative to fiscal year 2005 as a whole. And this is factor in the resulting operating margins. Our Sarbanes-Oxley 404 Compliance cost for fiscal year 2005 were very high, as I'm sure they were for others, but we incurred about 500,000 in the fourth quarter alone. This reflects remediation efforts of the material weakness identified in Q3, as well as the Company's commitment to achieving compliance in a timely manner. During fiscal year 2005, we incurred over $1 million in legal expenses related to the dispute with the former MIDS subcontractor as Mark discussed earlier, with about half of that coming in, in the fourth quarter alone. The dispute was settled early in the first quarter of this year and will result in a net benefit in the current period. Higher selling costs due to increased revenue levels also contributed to SG&A growth. Research and Development expenses were up slightly in the fourth quarter year-over-year but down considerably on a year-to-date basis. The increase in fourth quarter was related to development of new military satellite communication products. For fiscal year-over-year comparison we needed less Company funded R&D due to the higher level of customer funded R&D. We expect R&D to increase in fiscal year 2006 over 2005, but will be dependent on the mix of programs we're working on.

Quarterly Amortization of Intangibles is lower for the fourth quarter and year-over-year due to the completed amortization of certain intangibles. The quarterly amount will remain constant next year. Other Income and Expense reflects both lower interest expense from lower debt levels year-over-year and interest income in the fourth quarter of fiscal year 2005 yielded from tax refunds due. Our income tax provision for the fourth quarter reflects the year-to-date impact from changes and estimates for both our R&D tax credits and extra territorial income benefits. R&D tax credit benefits reduced our statutory effective rate by about 27 percentage points and ETI benefits further reduced the rate by approximately 8 percentage points. The significant R&D credit benefits are an artifact of the nature of the difficult programs we work on, large fixed-price programs for developing new technologies that carry risk. All totalled, we ended the year with an effective tax rate of approximately 6%. And our net income for the quarter and year-to-date remain strong.

We include this next slide to clearly show the difference between GAAP and non-GAAP or pro forma earnings in the first share amounts. Pro forma results only exclude the effects of acquisition-related intangibles, net of tax impact. As we turn to the balance sheet, cash and short-term investments increased by approximately 5.7 million during the quarter and we will cover the change when we discuss the cash flow statement. As we look at accounts receivable, billed accounts receivable decreased quarter-over-quarter from strong collections even though we experienced continued increased shipments in both our government and commercial segment, and the achievement of program milestones. These sales outstanding for billed receivables are below 50 days which is significantly below historical levels and last quarter.

While unbilled receivables grew somewhat this quarter, it is important to understand the components. As we discussed last quarter, the three main sources of unbilled are MIDS, SurfBeam programs, and Mobile Broadband programs. Together these three represent a little over 55% of the total. On MIDS, it's primarily a function of the progress payment process and profitability of the program. For each production loss, the balance grows over a three-quarter period and then substantially drops off in the fourth quarter. We saw this with Lots 1, 2, 3, and we're seeing it again with Lot 4 and Lot 5. In our fiscal fourth quarter, Lot 4 began to decline and Lot 5 began to grow. All-in-all though we generated cash on MIDS in the fourth quarter and also expect to in our first quarter. It is important to again understand that MIDS unbilled -- are essentially artifacts of the progress payment and invoicing regulations.

SurfBeam unbilled receivables had been growing significantly during the first three quarters of the fiscal year due to the development delays which in turn delayed invoicing milestones. As expected, this situation stabilized substantially in the fourth quarter with only a modest increase unbilled. We continued to expect the balance to be worked down over the next five or six quarters. For mobile broadband programs we expected a reduction in the quarter and the results were consistent with our expectations. Our VSAT Networks business has also increased unbilled amounts because they've been winning bigger and bigger projects stretching out over longer periods of time. We're changing our program execution on these larger projects in the future to more closely align with the timing of shipments. The revenue impact is reflected in the near-term fiscal year 2006 outlook we'll present later, but will improve cash flows over time. Other amounts in unbilled receivables relate to a diversed set of programs and will convert those bills -- receivables as milestones are achieved. Overall we anticipate reductions in unbilled balances in the first quarter.

Inventory was up slightly related to government products. We expect inventory to go down slightly next quarter, but could be influenced by end of quarter timing of shipments. Goodwill and intangibles are reduced by the quarterly amortization of intangibles. Net property and equipment was flat as depreciation was equal to new capital additions. We do expect capital expenditures to increase over the next year primarily for facility expansion and to support general business growth. The increase in other assets primarily reflect the increase in long-term deferred income taxes offset by quarterly amortization of capitalized software.

As we look at liabilities and equity side of the balance sheet accounts payable decreased despite an increase in revenues reflecting a further reduction in payment days to suppliers down quarter-over-quarter. [Advances] were up slightly quarter-over-quarter, but reduced from the beginning of the year and reflect progress on a number of contracts. At the end of the quarter we continued to have no outstanding borrowings leaving our full-line of credit available, less Standby LCs. As of fiscal year-end we had almost 55 million available under our line of credit. Other current liabilities increased quarter-over-quarter due to increased warranty accruals and shipments of MIDS units, KG-250s, and VSAT Systems, and from 401k and performance bonus accruals. This continued increase in other long-term liabilities reflects higher warranty accruals from increased shipments.

As we turn to cash flows we had a very good quarter for cash flows. In the quarter we generated approximately $8 million in cash from operations. Our strong net income and noncash add backs were the primary contributors in the working capital impact netted to a small amount. Year-to-date we had strong net income resulting in 3.6 million in cash flows from operation despite the growth in overall accounts receivable which impacted working capital balances. Regarding cash from investing activities or capital expenditures continue to be slightly down compared to normal levels. Capital expenditures are increasing somewhat currently due to our continued business expansion. We received almost 3.7 million from the issuance of common stock during the course of the fiscal year, mostly exercises of stock options. For the year, however, due to the noncash add backs and the fact that we grew earnings faster than sales, we again continued to expand our business to record levels without increasing debt and only modest equity growth.

Net for the quarter, cash increased by about 5.7 million and year-to-date is down by about $4 million on capital expenditures. As we look ahead, the first quarter is expected to be cash positive. We have received $4.75 million payment from the settlement with a former MIDS subcontractor, but we also have approximately 6.3 million in payouts for 401(k) match and performance bonuses. Overall, though, we expect to generate cash in the aggregate over the next fiscal year. Maybe not every quarter individually, but we expect to be positive position overall. Between the cash we expect to generate from operations and availability under our credit facility, we believe we have adequate sources of cash to finance our growth. Next I wanted to provide an update on our internal control disclosure from last quarter.

As we've disclosed in our third quarter Form 10-Q filing ViaSat identified a material weakness in its internal controls over financial reporting related to accounting for significant and nonroutine transactions. Since we identified the material weakness we have taken significant steps to remediate the controlled deficiencies including hiring additional experience finance and accounting personnel, conducting training of personnel and revenue recognition, and established and implemented policies and procedures on accounting for significant and nonroutine transactions. I'm very happy with the progress that we've made in this area. But currently we are in the process of conducting our year-end internal control assessment and will complete the assessment prior to our Form 10-K filing. Next I liked to turn it back to Mark to talk about our business outlook.

Thanks, Ron. At this point I'd like to talk about our outlook for fiscal '06. Again, our continued strong orders and promising pipeline helped support a good growth outlook. We anticipate growth in both commercial and government segments and expect to maintain a roughly even split for the next year or so. But it is possible commercial broadband will grow much faster starting in our second half of fiscal '06, but right now it's too early to tell. We began to discuss the fiscal '06 outlook last quarter and this time I can provide a little more detail.

We're providing range estimates with midpoints that are still at $1 per share pro forma in earnings for the year, but a little bit higher in revenues reflecting the fourth quarter orders and the current pipeline. The second half of our fiscal years are generally stronger than the first half and it looks that way for fiscal '06 as well. Last time we suggested Q1 of fiscal '06 would be similar to Q3 of fiscal '05 which was $0.21 pro forma. We still expect that, but with higher margins and less of a tax effect than we had in the third quarter of fiscal '05. Q2 is estimated at this point to be a couple cents better with continuing improvements throughout the year consistent with our objectives. We think midrange is a reasonable estimate at this point. There may be more of an opportunity for upward revision based on some favorable events, but it will take a quarter or more for those to occur. However, we still have a number of important targets and to the extent that we can afford it, we may invest any potential earnings upsides towards those targets. Should such upsides present themselves at all. It's also possible that we're being conservative regarding our tax outlook for fiscal '06, too. So that covers all the points that we wanted to make.

In summary, we're happy with our results for fiscal '05. We set many records, met our earnings objectives, and still invested for a strong fiscal '06. Company-wide margins are still lower than we'd like due to those investments, but we think it's evident from our government segment that we can earn the margins we've targeted in key areas when they reach maturity. We're still not quite there in consumer broadband, but the progress is encouraging to us. And we did grow pretax earnings at a faster rate than sales company-wide, so that's a good sign of progress. We think the $8 million in operating cash flow we earned this quarter is significant. We do have some balance sheet mining in front of us and we see continued opportunities to generate significant cash. Execution on development programs carrying unbilled receivables have been a little more predictable recently and we expect improvement on that front as well. Some of the key events to watch for include MIDS LVT production awards, MIDS JTRS program opportunities, and, of course, the anticipated launch of Ka-band Consumer Broadband Service. We're very happy with our opportunities pipeline and we're optimistic of achieving sustainable growth for several years ahead. And finally, I'd really like to welcome Harvey White who joined our Board of Directors this week. We put out an announcement on that. And we're thrilled to be working with Harvey. So thanks for listening. And at this point we'll open it up for questions.

Ladies and gentlemen, [OPERATOR INSTRUCTIONS]. Your first question comes from the line of Tom Watts of SG Cowen. You may proceed.

Hi, Mark. Previously you talked about a target of 10% pretax pro forma margins. Is that something we're likely to see in each of the quarters going forward? And if not, what are the factors? Also, could you just -- in terms of income tax provisions for the coming fiscal year, what should we look for there?

Okay. On the margins we still are aiming for that. I think that we won't quite be there in the first quarter or two, but we'll be pretty close. Pretty -- kind of in the range that we -- we got into the 9% range before. And we could be pretty close to that. We are definitely aiming -- if you look kind of at that dollar per share pro forma that we're aiming at, that's pretty close to 10% for the year as a whole. So, that's kind of starting position. That is what we're aiming at. I'd like to see -- we'd like to talk more about the results and what we're going to do. But that is consistent with those outlooks that I gave. I'll let Ron answer the tax question.

Yes, Tom, regarding the taxes, we're using a 27% rate for planning purposes this year. And we're going to adjust our initial assumptions as we progress throughout the year, as we look at our level of items that were qualified for R&D tax credit. We had some predictions, but we typically try to monitor that quarterly and do a consistent update. But we're using 27%.

Okay. So if you guess at $1 per share that's where the 27% assumption?

Right.

Okay. And also, just, you said we experienced surprises this quarter and lower margins, either lower gross margins or the higher SG&A. To what extent are those resolved or are we likely to see those again in the coming quarter?

We mentioned a couple other things on the gross margins. We had some expenses relating to this settlement that led up to not being able to resolve that. Then also on the Sarbanes-Oxley, hopefully that will be done. So we won't have those. The other main source is the start-up cost and on going cost in the SurfBeam broadband area. We expect that that's going to continue for a little while. That's sort of what the difference between margins in the first half and the second half, I'd say. That's kind of the main effect.

And between those two areas, is it 50/50, would you say?

It's close. I mean you can see things -- I mean things were pretty close to that this year. They went back and forth a little bit. But it's pretty close.

Okay. And then just finally in the [Carre,] are we going to see a material weakness in financial controls clause again? You mentioned in your Press Release that the audit was still going on.

Tom, at this point we haven't concluded our assessment. We believe we're headed in the right direction. But we haven't completed our testing and our auditors haven't completed their testing. But we haven't identified anything else. And we've made a lot of progress on remediation efforts. So we're still hopeful

Okay. Thanks very much.

Thank you, Tom.

Your next question comes from the line of John Bucher of Harris Nesbitt. You may proceed.

John Bucher, Harris Nesbitt. It looks like you've exceeded your fiscal 2005 order target of 400 million and one of your slides there said you expect good order growth in FY '06. Would you expect that orders will exceed sales again in FY '06?

Yes. And probably by -- that's kind of a similar amount. We'd like to have an overall book-to-bill in the next fiscal year that's sort of comparable to what we had this year.

Okay. And you mention that you had a lot of orders come in towards the end of the quarter. The $362 million sales backlog, does that include the 200 Connexion modems and some of the other things that were just recently announced?

Some of those hit before. Some of those hit just after, John.

So it doesn't include all --?

No, it doesn't include all of them; that's correct.

Okay. And then on the KG-250, I think that you said that was flat with the fiscal third quarter, which would be around 500 even shipments; is that correct?

Yes.

And you expect that to be at about the same pace next quarter?

I think yes. In the current quarter, I mean it's a little hard to tell but that ballpark. That's about what we expect. And I mean, just to elaborate a little bit, mentioned a couple of events that ought to be happening kind of the end of this June quarter, July quarter, July time frame. I think once those shake out in the market, we kind of expect things to start growing again after that.

The KG-255, can you give us an update on that and whether that would be one of the factors that could cause the rate to increase?

KG-255 I think is pretty much in NSA certification. We're pretty hopeful that will work out fairly soon. I don't think that's going to have a material impact on the KG-250 sales at this point.

Okay. And then final question, the four sort of major growth drivers for you all seem to be the IP encryption area, Ka-band, terminals, airborne, broadband, and in the MIDS, it sounds like from your comments towards the undermark on providing the outlook that of those four items, the biggest thing that could perhaps provide second half surprise is the Ka-band equipment; is that correct?

Well, that's -- I'd say that's the most obvious. I mean, because for the last few years we've basically been working on development and system tests and getting ready for deployment. Now, once WildBlue and Telesat go into service, then if there's really demand there, then we're really in a situation where things could ramp. And I think I'm conveying some of the optimism that they've expressed to us. We're getting it second hand. So we'll have to see.

The other thing is, I wouldn't discount the opportunity for good -- kind of better-than-expected growth in the tactical data links or information assurance area. But there would be some more discrete events that would occur before that became -- before that happened. And we'd report on those.

Thank you very much.

Thank you, John.

Thank you, sir. Your next question comes from the line of Steve Mather of Sanders Morris Harris. You may proceed, sir.

Thank you. Interesting quarter, Mark. Good job.

Thank you.

I have a couple -- three actually quick questions. One is I'm interested in your perspective on JTRS Cluster 1. And really all clusters, but really cluster one, which may be in the news. And then I'll just give you all three. The second one, weapon data links, very interesting. You mentioned, of course, the tactical Tomahawk. I wonder if you can give any perspective on that, maybe Smart Bombs made by some other primes? And then third, if I see a Scientific-Atlanta ground system being ordered, is that really your system? I'm pretty sure it is, but I just want any kind of confirmation on that. Maybe they're using an old Legacy part numbers, et cetera. Anyway, thank you.

Okay. Well, Cluster 1, yes, there has been news on Cluster 1. Obviously, it's a very -- is a very ambitious difficult program. We really -- we have little involvement in it and so it's hard for us to say what will happen there. I do think that -- as I mentioned last quarter, given the delays in the program, it's certainly possible that some of the -- some users that were going to use Cluster 1 radios might consider other options. And if that were to happen, then I think we'd have a pretty good position in trying to address some of those needs. But a lot of that stuff right now is kind of -- we have only an indirect view of it and probably no better than a lot of other observers.

On the weapons data link front, that is something where there's been more activity. We are getting opportunities to participate in some programs. One of them being, for instance, Smart bombs. There the -- obviously, the production quantities are very high. The value per units a lot more aggressive than for any of the other tactical data link things that we've done so far. But that's definitely a market that we're interested in. We've been able to form some team -- or become part of some good teams going after that. And that's in the area that we are doing things. And I would say -- also -- that area is evolving a lot. I would agree it's an area where we're putting a lot of attention. I think we can grow, but it's a little too soon to tell.

On the Scientific-Atlanta ground systems thing, actually, I'm not quite sure what you're referring to there. If it's something that Scientific-Atlanta announced, I don't think it would really be substantial for us.

No. I can clear that up. Just if I happen to see like a 10-meter antenna and it happens to say or the folks say at work, it's a Scientific-Atlanta ground system, really it's a ViaSat ground system?

Scientific-Atlanta as a company is certainly not doing anything more in those kind of big antenna systems.

We still sell antennas to them but not for all their applications.

Oh, not even them. Just other customers if they're buying a 10-meter antenna. They might just --.

If they call it Scientific -Atlanta [multiple speakers] --.

There is no -- I mean they don't build those 10-meter antennas now, that's the business you took over is Atlanta and then Comsat, too? [multiple speakers].

They don't make -- right. It must be ours. [multiple speakers].

Okay. More to do there. Okay. Thanks a lot.

Thank you, Steve.

Thank you, sir. Your next question comes from the line of David Kestenbaum of IRG. Please proceed.

Okay. Thanks. Very solid quarter. Rick, can you just talk about some of the speculation during the quarter on the EPS and the new change in accounting for stock options and how much that -- what's -- how does it look for the effect on your EPS going forward? And then, can you talk about -- a little bit about some of the feedback you're getting from some of the service providers whether it's the Connexion product or whether it's SurfBeam for the consumer? And then finally you said CapEx was going up in '06. Can you just give a number for us?

Okay.

I'll take that one. This is Ron. On the stock options the effective date for the 123R, which is the statement regarding the stock options and the option expensing, that was the effective date of that was modified by the SEC. And the first effective date for us will be -- or required effective date will be the first quarter of our fiscal year '07.

As of now.

As of now. Yes. So that should not impact fiscal year '06.

Okay. And then -- oh, let's see, the next thing was on the service provider feedback?

Yes, just the feedback you've been getting from some of the service providers on Connexion and some of the SurfBeam products?

Yes. I'd say feedback on Connexions in terms of where support has been good -- and actually there was a really interesting Press Release this -- today from Boeing and Lufthansa talking about Lufthansa's experience with Connexion. And I would say that -- I think it's a good thing to look at. They expressed very high customer satisfaction level. Over 90% -- I can't remember the number exactly. 91, 93% of the customers who use this service said they were either satisfied or very satisfied.

But the other statistic that I think is really interesting and this is what we've been hoping to see which we think would drive wider adoption is that something like 85% of the people said that the availability of a broadband Connexion like service would impact their choice of airline. That -- I think if we continue to see things like that, I think you'll see just incrementally greater adoption of that type of service. So that was encouraging. I think that's probably the best published feedback that we've gotten so far.

On the SurfBeam, Ka-band on -- it's a little frustrating for us because actually the Southern California beam is the last beam that they're lighting up. So we haven't been able to use them here in San Diego. But WildBlue did have a live over-the-air demonstrations at the Satellite '05 Conference in Washington, D.C. in February. And I got to use that. It seemed pretty good to me actually, which is really a credit to their service, as well as to our equipment. And the anecdotal feedback that we've gotten from all the parties, that would be Telesat, WildBlue, and NRTC has actually been very positive. So, I think they're optimistic. Well, we'll find -- I think we'll find out a lot more when they go live. And I think that overall, the beta has gone -- seems from our perspective and, of course, we don't see everything. But the beta tests I think have gone pretty well.

Last item was on capital expenditures increasing in '06. And there's probably two-fold. One is just general business expansion for equipment to facilitate our growth. The second is we have several facility projects where we're going to incur some leasehold improvement costs. We have two buildings in Atlanta that I believe we've previously issued releases on or Press Release on describing the project. And we have a facility here in Carlsbad, a fourth building going -- being added to our main campus here, as well as some facility expansion at our Clarksburg location. So we have different facility projects that are also going to drive that as well.

One other thing I wanted to mention, just on the WildBlue and SurfBeam updates. Is that the production rates that we're putting in place now are higher than what we would have expected, let's say six months ago at this time. So I'd say that that reflects that things have gone pretty well so far. But we'll still have to see how they go once service is actually launched. Does that answer your questions?

Yes. I'm just wondering what the cap would be -- the new -- the higher CapEx number was? It was 11.2 last year. How high does that go in '06?

It will be several million dollars higher than that.

Okay. Thanks.

All right.

Your next question comes from the line of Larry Harris of Oppenheimer. You may proceed.

Yes. Thank you. And congratulations on the results.

Thanks.

Thank you.

I'm intrigued with Connexion. I have noticed that Lufthansa has started to advertise it. And certainly congratulations on the positive Press Release put out today by Boeing in terms of consumer interest. You know, obviously the airlines domestically here are I guess somewhat capital constrained. But it seems to me that it would be a winning service on a transcontinental route or any overseas routes. What's the kind of capital cost that's involved for a carrier to start providing a Connexion service? And what approximate revenue contribution would you have say per aircraft?

The capital costs per plane really I'd say are -- that's really determined by Boeing. And the business models that they make. I would say that it's probably at this point, it's probably higher than what they would like. And I think that's part of why you're seeing it used more on international routes. And I'd say we're trying to work with Boeing to help make it more affordable for domestic routes. But it's really going to be up to Boeing.

And right now, our portion of it not really -- the portion that we do now is not really a material driver in the end capital cost. I would say. So that would involve -- I think really it would involve some work on Boeing's part to address that. I think probably ask them -- I think they'll tell you that they're working on that.

Understood. Okay. Well, I think it has a lot of potential.

Yes. Actually we do, too. I think people really like the service. And we believe that there's ways to deliver it more cost effectively.

Yes. All right. Thank you.

Thank you, Larry.

Thank you, sir. Your next question comes from the line of Kunal Dasgupta of Bear Stearns. You may proceed.

Hi, I had a question on potential service from EchoStar. EchoStar has discussed a potential service in the past and they have been talking about doing something maybe in 2006. Have you seen anything from them in terms of like demand or any interest from them?

Yes. I think it's -- it has been clear that EchoStar is trying -- I would say EchoStar is trying to understand kind of what the state-of-the-art and state of technology is in consumer broadband. I have listened to some of their conference calls and I think that generally the sense from them is that they perceive that -- say the last round, which was kind of the original Directway stuff and StarBand was -- the expectations probably exceeded what the technology could deliver. And I think they're trying to be very deliberate this time. And in their recent conference call when they referred to what they perceived as several obstacles to launching service. And I think the way I would interpret that is not so much that the technology isn't there, but that they haven't yet seen the technology delivered in a scalable way. Which that could mean that there are -- they want to see evidence either in the technology itself or production ramp-ups or that they want to see more evidence in terms of how the service itself is delivered.

And given what's happened in the broadband area, I think that's a -- seems to be a pretty understandable position on their part. I think that to the extent that they see evidence that the technology is scalable and gets -- if it can get the same kind of consumer acceptance rates -- that things like Connexion get, then I think you could see them do something. I think that's -- I would bet that's what they're waiting for. I think that what I would think people should assume is that they're actively evaluating what's out there now in order to try help them anticipate those answers. And I think that's what's going on now. And probably will for another quarter or so. Does that answer your question there?

Yes. Thanks. In terms of the potential costs, what do you think the cost of consumer equipment would be for broadband service? What scale?

I think there are -- there's a couple different answers there. One is, what the wholesale manufacturing equipment cost is. And the other is what costs do the service providers pass on to their subscribers. And I think -- the part that we can address on the manufacturing costs and we've said -- kind of used as an example before for references when satellite TV came out, it had kind of a $700 cost to subscribers. And it still has about 1 million pretty fast. It was reasonably -- it was one of the fastest growing consumer products ever at the time. But once EchoStar came out with a $300 entry cost or 300 -- 200 to $300 terminal price, the market really took off. And, of course, DirectTV obviously matched that at the time. So we're thinking that that's kind of where it needs to be.

And we think that from a manufacturing perspective, we could get there in a lot less than a million units. We're just in the low -- like in the couple hundred thousand range now, but it's certainly conceivable at the rate things are going that that would mean we could get there in the not-too distant future. I think once you get there, I think there you're getting to the point where you can have a lot more mainstream adoption. Does that answer your question?

Yes. Thank you so much.

Thank you.

Your next question comes from the line of Rich Valera of Needham & Company. You may proceed.

Thank you. Ron, just a quick bookkeeping one. It seems that the two segment revenue totals you gave don't add up to your overall revenue for the quarter. You know if there's -- what the correct numbers are there for your two segment revenue numbers?

Sure. In the slide that we put up, there's a segment eliminations.

Okay.

I mean our segment eliminations. I can give that to you basically for the quarter, for the current quarter it was 2,776,000. Also --.

And then in the MIDS settlements that you mentioned, the settlement about litigation, you said you were going to get some benefit going forward. Is that a one-time benefit you'll get in the first quarter or is that an ongoing benefit to margins you'd expect to get on a longer term basis?

It will be an EAC adjustment.

Yes, it's an adjustment to that contract. There will be some initial benefit.

And then will it also imply better margins going forward?

We'll receive better margins on the later production lots. This is really related to an earlier production lot like within the development in Lots 1 through 3.

And most of it will be in Q1, Rich.

Okay. And if you can just say roughly the magnitude of that adjustment you're expecting?

Well, we haven't finalized all the accounting for it yet, but it's in the neighborhood of 2.5 million.

Okay. And I'm assuming that's baked into the guidance you gave?

Yes.

Okay. Then you've probably seen this, but EMS Technology, they have a business called SatNet which is basically DVD-RCS based terminals and gateways. They've said they wanted to do something more strategic with that, which I assume leaves open the option of partnering or someone buying it. Do you see value in that asset? Is there something you guys could do with that or are you really set with your sort of SurfBeam for consumer and then your LinkStar for the commercial market?

Yes. I'd say more likely we're probably set. We don't -- we haven't really been a fan of DVD-RCS for the consumer market, given current state of that specification. I think -- that doesn't mean that there's no value in what EMS has. I think it's difficult -- from experience I can tell you it's difficult to be in the VSAT Networks business without some sufficient critical mass. I think that's probably what their issue is. So whether or not we'd be interested I wouldn't want to speculate on that now.

Okay. And just one final question on the commercial segment, specifically the SurfBeam sort of cost overruns which you can start pressuring your operating margins for the last few quarters. What do you think the outlook is for that aspect of SurfBeam into the first quarter and I guess into '06? When would you expect some relief from the sort of pressure on the SurfBeam program that's been pressuring those margins there?

Well, I'd say, I mean basically we're -- what's going on is I'd say we're taking a pretty aggressive posture in terms of trying to make sure that the system works as well as it possibly can in responding to our customers. So, part of it is we're going to have to see what happens with their rollouts, whether or not they have issues. I mean, we're very motivated to make sure our customers are successful and so we're spending a lot of it when we talk about overruns -- a lot of it is just kind of the normal costs that are associated with introducing complex new networking products.

The other related aspect to it is that there are a series of software releases that we've planned which either adds certain capabilities as the system scales up. Those are the two main things. The current product development road map probably only goes through -- this year, this fiscal year. So, if we didn't extend that product road map then that would pretty much answer the question that probably before the end of this fiscal year we could allocate resources otherwise.

But, there might be other things that we want to do at SurfBeam. And I think we want to assess those things based on what happens between us and our customers and how their rollouts go, what we see as the opportunities. But I think that if things -- if one scenario, and I'm not saying this is "the" scenario, but one scenario is that we deal with system bugs in the next few months to the extent that they occur. We deploy the new software releases that are scheduled and then we could choose to have much lower development in support costs in that area if we wanted to.

Right. Just in terms of the overall commercial segment operating margins, I would assume that your guidance for fiscal '06 assumes those turning positive at some point in the year and probably meaningfully so I would guess in the second half.

Yes.

Does that happen even with these continued significant costs to support the SurfBeam rollout?

Yes. If you look at the scenario that I sort of laid out, which is, we support it. We do the road map. Yes, we still achieve kind of the positive results that we'd like.

Great. Thank you, guys.

Thank you, Dave.

Why don't we take one more call.

Rich, sorry. One more. I guess one more question then.

Okay. Sir, your last question comes from the line of Jim McIlree of Unterberg. You may proceed.

Yes, thank you. Good evening. Just back on the envelope it looks like in order to hit the 10% operating margins in fiscal '06 you need about a 5% commercial margin. And I'm assuming that your government margins are stable. Are both of those roundish numbers correct?

Yes, averaged over the course of the year, that's a pretty good assessment.

And what would you need -- would the consumer broadband margins be less than that 5% or less than the commercial average over the course of the year?

Yes. Over the course of the year, yes. Yes, for this year. Now -- steady state or exiting the year we like them to be better. But they won't be at that level. For this year as a whole.

Okay. And then that was my next question. So in a steady state environment, would they be over that 10% Company hurdle or --?

It should be added. That's kind of our near-term target, to be added. There's a number of factors there, but I think that's achievable.

Okay. Great. Thank you very much.

Thank you. We can do one more.

One more call.

Your last question comes from the line of Wes Cummins of B. Riley. You may proceed, Mr. Cummins.

Hey, good afternoon. Couple of quick ones here. One, Mark, could you comment on the competitive environment specifically in the VSAT space, basically with what Gilat is doing and then also with HNS changing hands?

Well, the competitive environment is definitely interesting. I think that probably the bigger factor is what happens with HNS. And it's hard to tell. I think that it's just hard -- I'd say it's just hard to tell. Obviously, they're very formidable competitor. I'd say that their financial situation is probably stressful. But we don't know yet how they will react. It's what I would say. And I would say we're just going to try to adapt.

But overall, a lot of what we're doing is -- I'd say a lot of our opportunities are sort of orthogonal, perpendicular to theirs. And so far as Gilat goes, I think that given shipment rates that we're achieving now, I think that it will show -- if we haven't already become number two in the market that we will pretty shortly. And that puts a lot more of our destiny in our own hands in terms of the competing with them.

Okay. Two other questions. One, Mark, could you just elaborate a little more maybe on what the MIDS JTRS program, the eventual potential size of that program, especially with the issues that they're having in Cluster 1? And then secondly, Ron, could you just talk a little bit about what you guys are planning to do about option expenses given that you have an extra year now to plan for and basically take any action that you might take?

On the MIDS JTRS, I would say just -- from a thumbnail -- just from a first glance you'd say well, if MIDS JTRS addresses the same platforms that MIDS does, what's called the LBTs or the low volume terminal does. That's on the order of 8,000 platforms. And I would say that that's kind of the first cut. MIDS -- that's not going to be exactly right, but that's not a bad way to think about what MIDS JTRS has currently envisioned. That's what that market would be. And I think that there's a good opportunity for that market to expand. And I think that will be -- that could be a result of platforms that might have been served by other clusters being served by MIDS JTRS. And I think that the thing to watch for there would be any changes to the scope of the development program or integration programs or other things that would sort of say, okay, here's the types of platforms that would embrace MIDS JTRS. But I'd say that's a reasonably likely prospect overall. It's one that we see as a good opportunity for us. But right now, it's a little bit too early to quantify that.

In terms of the options expensing, I think the biggest thing for us is we just want to understand what's going to happen in the market. What types of -- either incentive programs, other companies do, given that we have more time I think we're going to try to understand what other companies do. What would be customary and accepted for companies of our position to do in terms of with retaining employees and attracting employees. And being perceived to have equitable and reasonable conversation programs. I think actually having another year just gives us a little more time to assess that.

I think one other thing with that, too, is that when companies are looking at the expensing and the modeling, the software available to do really good jobs of modeling to people's expectations. I think everyone's expecting certain advancements in available software to do a better job analyzing the alternative methods to black shoal. And with the increased time get the software rolled out and that can enable companies to evaluate more of the drivers or the things that impact how they compute it.

I think one of the things you're seeing is that historically since it hasn't been expensed, people have just been using black shoals and normal methods. And with it becoming expense, people are starting to use predictive datas instead of historical datas. If you did that for ours, the cost basis would go down dramatically from where we are today. That could change it a lot. So right now to project what the impact is going to be at this time next year I think Mark's right. We'll just kind of step in-line and do what people are doing. It's going to be quite different than if you looked at it in our historical financial statements. What we'll end up with next year.

Okay. Thanks.

Thank you, Wes.

Okay. So I think that covers all the questions and all of our prepared information. Thank you all very much for listening and we'll be back next quarter. Operator?

Ladies and gentlemen, thank you for your participation in today's conference. This concludes the presentation. You may now disconnect. Everyone, have a great day.