Viasat Inc (VSAT) 2010 Q2 法說會逐字稿

Welcome to ViaSat's FY 2010 second-quarter earnings conference call. Your host for today's call is Mark Dankberg, Chairman and CEO. You may proceed, Mr. Dankberg.

Thanks, good morning, everybody, and welcome to ViaSat earnings conference call for our second quarter of fiscal year 2010. I am Mark Dankberg, Chairman and CEO. I have with me today Rick Baldridge, our President and Chief Operating Officer; Ron Wangerin, our Vice President and Chief Financial Officer; and Keven Lippert, our General Counsel.

Before we start, Keven will provide our Safe Harbor disclosure.

Thanks, Mark. Before we get started, I would like to remind you that the discussion today will include forward-looking statements. We'd like to caution you that actual results may differ materially from those projected in these statements.

The risk factors that could cause actual results to differ are discussed in our SEC filings, including our most recent reports on Form 10-K and Form 10-Q. Copies are available from the SEC or from our website.

With that said, let me turn it back over to Mark.

Okay, thanks, Keven.

So, as usual, we will be referring to slides that are available over the web. We will start with top-level highlights and our fiscal year '10 second-quarter financial summary, and a business overview discussion. After that, Ron will discuss our financial results in more detail. Finally, I will update our outlook for the fiscal year and summarize things, and we will take questions.

So overall, our financial results for the second quarter were generally consistent with our plans. Revenues were a little bit light at $160.7 million, reflecting timing on orders, but year-to-date those orders were a little more highly skewed towards our second quarter.

But operating income is up significantly over last year. Income from operations was up 29% over the previous year, despite incurring $2.5 million in transaction expenses in the second quarter related to the WildBlue acquisition.

Both GAAP and non-GAAP diluted earnings per share were generally consistent with our plans but are relatively flat year-over-year due to the lower tax rate that we had in the second quarter of last fiscal year.

Last year, the R&D tax credit was extended in our second quarter, and the cumulative catch-up effect was a substantially lower tax rate in that quarter.

New orders this quarter were very strong.

On a year-to-date basis, our financial results have also been generally consistent with our plans. Revenues grew 2% over last year, and income from operations is up 26% over the previous year. Revenue in the first half, as I mentioned, was somewhat affected by the way first-half orders were skewed towards the second quarter.

GAAP and non-GAAP earnings, while showing good growth, are still somewhat impacted by a higher year-to-date tax rate compared to last year.

Given the strong second-quarter orders, we did significantly add to backlog for the first half as a whole, despite the slow start in the first quarter. Our current outlook for new orders over the course of the year is pretty good, and we believe we can continue to add to backlog.

So, a review of our second-quarter highlights has to start with the very strong new contract awards of $225 million. While some amount of that is catch-up of awards that slipped out of the first quarter, the year-to-date total is still good, especially given the macro economic environment.

Going into a little more depth, we think the strategic impact of awards is also very significant. We believe that applying mobile satellite broadband to defense, intelligence, surveillance and reconnaissance, or what's called ISR, is an important growth area. That was a significant contributor to our second-quarter orders. Defense orders also included a significant amount of information assurance content.

On the commercial side, we think our Ka-band broadband contract with Yahsat in the United Arab Emirates is a very key win.

Operational performance in the second quarter was another highlight. Our recent business mix has a higher proportion of products compared to funded development programs. We have been planning for growing operational margins, and we think it's important to note the results that we've obtained there. It's also important because a number of the programs that we've won and some that are still pending lay the foundation for sustained growth in these product sales in the future, such as with our Ka-band and mobile broadband infrastructure wins, which are excellent examples of that effect.

Of course, another highlight for the quarter was executing the definitive agreement to acquire WildBlue Communications. We are not going to revisit all of the points we made in the conference call we held last month to announce that, but we think the benefits in terms of providing distribution, fulfillment and operating synergies for the ViaSat-1 high capacity satellite are compelling. With the launch of the ViaSat-1 satellite now only about 15 months away, we think the payoff for our patience and persistence is drawing near.

We also executed some important financing steps during the quarter and shortly thereafter. We increased the capacity on our revolving credit facility, first from $85 million to $170 million, and then again to $210 million. We also completed an offering of $275 million of senior unsecured, seven-year notes at a fixed interest rate of 8.75%. We felt that market conditions were favorable and that it was in our best interest over the long term to take advantage of that, so we upsized the bond offering relative to our initial plans. So the combination of these events provides an effective means to financing the WildBlue acquisition.

So, next, I will go into a little more depth on some of the highlights of our business areas. Starting with defense, our Satellite Networks has been the recent growth leader in our defense business, and there are three main themes here. One is Comm on the move, mobile broadband for airborne Intel surveillance and reconnaissance, or ISR, over commercial Ku-band. Another is broadband Internet protocol network communications for fixed and transportable applications, which has been driven by growth in defense organic wideband global satellite, X and Ka-band satellites, as well as least commercial Ku-band bandwidth. The third area is mobile communications using organic DoD UHF satellites as well as leased L-band satellites.

We think we've got a good competitive position in each of these three areas and each of these market segments has enduring growth potential.

We have seen exceptional growth in the airborne ISR networks in support of US forces in the Middle East, which builds on our mature and high-performance ArcLight mobile broadband system, which is already operating on hundreds of commercial platforms around the world. We've received very positive feedback on our performance to date and continue to see growing opportunities as a result.

Sales of our EBEM and government LinkWay modem products and the anticipated sales of the joint IP modem product, which is still under development, have been correlated with the launch of the Defense wideband global satellites as well as with growing use of commercial FSS satellites.

There are several more Wideband Global Satellites planned for launch in the next few years. We also see interest in DoD to use commercial Ka-band. Those will make substantially more bandwidth available in key defense operating areas.

Finally, we've continued to see good activity in the UHF mobile satellite communications area. The launch of the first of the new mobile UHF objective systems, or MUO, satellites is planned for 2011. That will likely stimulate additional demand for new or upgraded UHF satellite terminals.

The information assurance area is of course an ongoing priority for our government in an increasingly hostile cyberspace environment. The high assurance Internet protocol encryption standard, or HAIPE, and maintaining conformance to a steady stream of version updates to HAIPE has been as important a factor as we have anticipated. In fact, we are beginning to see other defense contractors who only have had products meeting the first version or version 1 of HAIPE sign contracts with us so that they can offer products that are more current, which is up to Version 3.

We continue to see opportunities to further grow the information assurance spaces where we have strong competitive positions beyond the basic ones of tactical HAIPE-compliant products in (inaudible).

The main focal point in our tactical data links area continues to be completing qualification testing of the MIDS JTRS version; obtaining additional contractual funding to support the transition into production for MIDS JTRS; the start of low-rate production for the MIDS J; and then the integration of additional waveforms, especially those for advanced airborne data links which have been long anticipated.

We've also started to get funding for initial phases of long-planned enhancements to the existing LVT or MIDS' low volume terminal product base.

There's also been progress in other important efforts to evolve our Link 16 capabilities onto other airborne platforms, including our weapons programs with weapons data links, or WDL, and small tactical terminals, or what we call STTs, which would be used outside our core market of fighter aircraft and would support platforms that are smaller and often have been affected by delays in the other joint tactical radio system programs.

Switching to our Commercial Network side, the most important aspects there for us are in mobile satellite broadband and the Ka-band broadband market. In that respect, our recent contract award with Yahsat in the Middle East was a very strategic win for us. For one, it extends our winning streak in capturing infrastructure awards for the highest-capacity broadband satellite (technical difficulty).

We believe that the broadband market is about bandwidth and that those satellites in each region with the most cost-effective bandwidth will capture the greatest market share and will lead the development of adjacent broadband markets, including mobility and defense applications.

We also believe that each of our satellite operator partners, including Eutelsat in Europe, Yahsat in the Middle East, (inaudible) Telesat in Canada and ourselves in the US and others to follow, will realize benefits from being part of a rapidly growing global Ka-band/broadband footprint that supports interoperability of a common networking standard, especially from mobile and transportable terminals.

We've also been supporting a nascent Ka-band broadband operator in Japan called BBsat, which recently qualified for government broadband subsidies there and obtained additional seed funding from EchoStar.

Our Antenna Systems unit is benefiting from increased broadband activity as well in both Ka-band and airborne tracking Antenna Systems for government and commercial customers. Growth in Antenna Systems revenue as well as better margins is an important factor in improvements in commercial segment profits, despite the ongoing capacity constraints in consumer broadband.

One area that has not really developed is the commercial aviation broadband satellite market. Our view is that the time window where Ku-band fixed satellite services, or FSS systems, can offer a compelling commercial aviation service set at an attractive price, is rapidly closing.

Initial deployments of air-to-ground technology have shown that users on these commercial airplanes now consume in the range of around 20 MB an hour of bandwidth, so it's going to be really difficult if not impossible to meet those kinds of expectations with Ku-band FSS bandwidth.

The air-to-ground network capacity is also going to be very challenged to meet those types of service levels, given the number of aircraft planned. We think that highlights the potential for Ka-band broadband satellite. Eventually, we see similar dynamics for ground, mobile and maritime broadband as well.

Then the AcceleNet [WAS] mobile business continues to grow, but slowly. We have contained costs and we've reduced operating losses there. That has been another important factor to improve Commercial Networks' earnings margins.

We are also making very good progress in adapting this AcceleNet technology to significantly enhance consumer broadband service. We believe this will be an important contributor to our second generation, or SurfBeam 2, product.

Okay, so the next slide will focus on the ViaSat-1 project and related Ka-band topics. Construction on the ViaSat-1 satellite itself continues on schedule. We are still planning for a launch in the first quarter of calendar 2011. The associated ground segment, including networking equipment and gateway infrastructure, is also progressing on schedule. The first of the next-generation Ka-band satellite launches is Eutelsat's KA-SAT, which is planned for launch in the fourth quarter of calendar year 2010, just about a year from now. We are on schedule to support that.

We've continued to work on preparation for closing the WildBlue acquisition that we announced about a month ago. The main steps so far have been an early clearance on Hart-Scott-Rodino, or HSR, from the government, and executing the new debt financing that we were anticipating when they executed the acquisition agreement. Of course, we will continue to work on integration up through the close of the transaction. The antitrust clearance allows us to step up those efforts. It also increases the probability that the transaction will close sooner than previously anticipated.

We continue to see strong interest internationally in new Ka-band broadband projects. Existing opportunities seem to be progressing, and new opportunities are surfacing. We expect the market for ground equipment for these networks to be quite competitive, but also describe interest in our solutions as very high. We think we are building momentum there. Of course, we don't expect to win every competition, but we are focused on systems that will have the greatest impact. The opportunities to develop adjacent Ka-band markets, such as enterprise services, mobile broadband, defense applications and converged services on these satellites, remains good.

International Ka-band operators are going through a process similar to what we've done in the US. First, you want to establish the project on the basis of the direct [OUM] broadband market. Then we are seeing interest in other applications that can accelerate bandwidth sales on the satellite and also deliver a higher yield on a permanent basis. Each of the adjacent markets we described can do just that. Those adjacent markets each benefit from something of a global network effect as well. That is the more global coverage that exists under a common networking standard, the easier it is to attract customers for those applications. So, we are working with our international partners to more effectively capitalize on that. So far, as we've expected, the reaction among prospective international customers to our WildBlue acquisition has been very positive.

Not much has changed in the US regarding broadband stimulus. We are still seeing that the process, as it currently exists, tends to favor smaller and more local projects. I would say there has been a growing awareness at the national level of the situation that I just described, but nothing has yet changed.

It's interesting to note that other developed countries, including Australia, Canada and Japan, have each already begun implementing some form of satellite broadband subsidy at either their state or national levels. We think this is due to two kind of main factors. One is a growing awareness of the cost and difficulty of providing universal broadband service by any other means. Two, I would say some increasing awareness that satellite services can actually be dramatically improved by very high throughput satellites such as our ViaSat-1. We believe the same awareness will happen here in the US.

While the problems of universal terrestrial deployment are real, we are way more focused on demonstrating the second effect of satellite broadband with the right infrastructure can actually be a preferred solution for many people.

At this point, I would like to introduce Ron Wangerin, our CFO, who will discuss the financial data in more detail.

Thanks, Mark.

Overall, our operating results were good. Revenues in the second quarter were $160.7 million, a little lower than our plans because of some book-and-ship orders that moved out of the quarter, and a 1% increase over the second quarter of last year. We will address the specific revenue changes later in our segment results. The cost of revenue percentage improvement year-over-year reflects a greater mix of higher-margin product sales.

Selling, general and administrative expenses in the second quarter are up $3.5 million or 14% year-over-year. About $2.5 million of this increase is due to transaction expenses incurred in connection with the WildBlue acquisition. We expect to incur additional transaction expenses, but the nature, amount and timing will depend on the regulatory clearance process.

Research and development expenses were essentially flat from last year. We continue to invest in next-generation tactical data links, information assurance, antenna and broadband technologies, all market growth areas for us.

Quarterly amortization of intangibles was lower for the second quarter year-over-year, due to the completed amortization of certain intangibles.

Income from operations for the second quarter of fiscal year includes non-cash stock-based compensation expenses of $2.5 million, versus $2.9 million for the second quarter of fiscal year 2009.

Other income decreased due to lower interest income earned from lowered invested cash balances and significantly lower interest rates on those balances year-over-year. Our income tax provision for the second quarter reflects a quarterly rate of about 24%, versus 5% in the second quarter of last year, and 15% for all of fiscal year 2009.

If you recall, the federal research credit expired in January of 2008 and was reinstated in the second quarter of fiscal year 2009, so the second quarter of fiscal year 2009 included a cumulative catch-up adjustment of three quarters of federal R&D tax credits, thereby lowering the rate.

Now, in fiscal year 2010, the research credit is set to expire December 31, 2009, so we only include three-quarters of the estimated federal R&D tax credit in our estimated effective tax rate for fiscal year 2009, which we estimate now at about 25%. We will address the difference between GAAP and non-GAAP EPS in a few slides.

Looking at our year-to-date results, year-to-date, our revenues for the first six months were $319.1 million, a 2% increase over the same period last year. We will address the specific revenue changes later in our segment results.

The cost of revenue percentage improvement year-over-year reflects a greater mix of higher-margin product sales, primarily in our Government segment. SG&A expenses in the first six months are up $6.8 million, or 14% year-over-year. About $2.5 million of the increase is related to the acquisition costs incurred in connection with the WildBlue acquisition and about $3 million of the increase is due to higher proposal costs associated with the new order pipeline, principally in our Government segment. The high new business activity we are experiencing, while positive, does create pressure on expenses. It's a delicate trade-off for us and we may continue to spend at this level in future quarters.

Research and development expenses are down 17% in the first half of the year, year-over-year, principally due to the shift of some of our development efforts going from internal development projects to customer-funded development. However, we will continue to invest in next-generation technologies, provided we see growth opportunities for us.

The amortization of intangibles is lower for the first six months year-over-year due to the completed amortization of certain intangibles.

Income from operations for the first half of fiscal year 2010 includes non-cash stock-based compensation expenses of $5.1 million, versus $5 million for the first half of fiscal year 2009.

Overall, we are pleased with our operating performance in this tough economic environment, seeing income from operations increase 26% on sales increases of 2%. Other income decreased due to lower interest income earned from lowered invested cash balances and significantly lower interest rates on those balances year-over-year.

Our income tax provision for the first six months reflects a tax rate of about 25%, versus 20% in the first half of last year and 15% for fiscal year 2009. The higher rate reflects the timing of the federal R&D tax credit legislation for fiscal year 2009 included five quarters of benefit, while fiscal year 2010 reflects only three quarters of benefit. We will address the difference between GAAP and non-GAAP in a few slides.

In the Government Systems segment, revenues for the second quarter were $102.8 million, a 6% increase over the same period last year. The increase for the quarter is primarily related to increased sales of next-generation military satellite communication and video data link systems, partially offset by lower sales of tactical data link and information assurance products revenues.

In the Commercial Network segment, revenues for the second quarter were $54.4 million, an 8% decrease over the same period last year. The year-over-year quarterly decrease reflects lower consumer broadband and Mobile Satellite System sales, offset partially by higher Antenna Systems and Enterprise VSAT product sales.

For Satellite Services for the second quarter and year-to-date, sales were higher versus the same period last year, primarily due to mobile broadband services sales from our global expansion initiatives.

Year-to-date, Government Systems segment revenues were $195.4 million, a 5% increase over the same period last year. The increase for the six months is primarily related to the increased sales of next-generation military satellite communication and simulation systems, partially offset by lower information assurance and tactical data link product revenues.

In the Commercial Network segment, revenues for the first half of the fiscal year were $117.7 million, a 4% decrease over the same period last year. They year-over-year decrease is related to lower consumer broadband system sales, partially offset by higher SurfBeam 2 development revenues and Enterprise VSAT product sales.

Regarding operating earnings, in the second quarter, the Government Systems segment achieved operating earnings of $14.3 million, which is about 7% higher from the prior year. Year-to-date, the Government segment achieved operating earnings of $26.4 million, about 4% higher than the same period last year. For both the second quarter and year-to-date, we experienced higher operating earnings from increased revenues and associated margins, which were partially offset by higher proposal and support costs.

Commercial Network segment operating profit improved in the second quarter and year-to-date year-over-year. Although we had lower revenue year-over-year, profitability was higher on those sales, reflecting improved margin performance in our Antenna Systems area from a program closeout, a better mix of higher-margin products, and lower G&A costs.

For Satellite Services for the second quarter and the first six months, while revenues were better, the operating loss was significantly higher, but this segment absorbed $2.5 million of transaction expenses associated with the announced WildBlue acquisition, as well as some ViaSat-1 related support costs year-over-year.

As we look at GAAP and non-GAAP EPS attributable to ViaSat common shareholders, non-GAAP results exclude the effect -- the amortization of acquisition-related intangible, acquisition-related transaction expenses, and the effects of non-cash share-based compensation expenses, all net of tax.

This quarter, we added transaction expenses to the pro forma computation. This is a change as a result of the Accounting Standard 141-R which became effective for us this year and now requires the expensing of acquisition-related transaction expenses. Previously, these costs were capitalized and included in the acquisition price that is subject to purchase accounting.

Turning to the balance sheet, overall, we made some progress on the balance sheet this quarter and expect to make a lot more in our fiscal third quarter.

Cash and short-term investments increased by about $20.4 million from the beginning of the year. We will talk about the movement of cash later when we review cash flows.

Billed Accounts Receivable was up about $33 million from the beginning of the year, largely due to program milestone activity in both our Government and Commercial segments. Unbilled Accounts Receivable were up about $9 million from the beginning of the year, due to the timing of certain contract milestones, primarily with our Government Systems and Consumer Mobile Broadband systems contracts. We expect this amount to come down over the next two quarters and add to cash from operations. Inventory is up about $1.8 million from the beginning of the year, due to the transition of certain product lines to units of output basis of accounting.

prepaid and other current assets were higher, mostly due to an income tax receivable, partially offset by lower supplier deposits. Goodwill and intangibles decreased due to regular amortization of our intangibles.

We are about 21 months into the construction of a ViaSat-1 satellite. To date, we've capitalized about $155 million through the second quarter of fiscal year 2010. Most of these costs relate to progress payments for the satellite and the launch vehicle.

Net property and equipment, excluding the satellite, is basically flat as capital additions approximate depreciation. Other long-term assets are up about $5 million since the beginning of the fiscal year, primarily due to capitalized debt issuance costs from our increased revolving line of credit, capitalized software costs associated with our SurfBeam 2 product, and licenses and patents.

Accounts Payable are down significantly due to the payment of some significant payables for our satellite and launch vehicle. Days payable, in turn, are down from historical levels.

Advances were up about $12 million since the beginning of the year, reflecting the timing of cash receipts on contract milestones, primarily in our Government Systems and Antenna Systems areas. The decrease in other liability -- in other current liabilities primarily relates to the settlement of discretionary compensation accruals in the first quarter offset by new discretionary compensation accruals, higher accruals for professional service support costs associated with the WildBlue position, and interest accruals from our revolving line of credit. Other long-term liabilities are basically flat since the beginning of the year.

As Mark mentioned, in the first quarter, we doubled our line of credit from $85 million to $170 million. We also drew down $80 million at the end of the second quarter, which was still outstanding at the end of the second quarter.

Subsequent to the end of the second quarter, we had two significant capital transactions. We successfully raised $275 million in senior unsecured notes and increased our revolving line of credit from 170 million to $210 million. These two debt instruments provide us additional financial flexibility to support the WildBlue acquisitions and day-to-day liquidity needs. Also, as a result of the $275 million bond, we expect to incur approximately $2 million, or $0.04 to $0.05 per share, in interest expense in our fiscal third quarter. At the end of the quarter, including the effect of standby letters of credit, we currently have about $83 million available under our line of credit to support our business activities.

As we look at cash flows, for the quarter and year-to-date, our cash flows from operations are lower than our expectations. We've had good net income and non-cash add-backs, but we are experiencing a working capital bulge in receivables that has resulted in lower-than-expected cash from operations. Fortunately, this bulge is working its way through the customer payment cycles and we are seeing tangible progress already this quarter. We expect to be back to more normal levels by the end of the fiscal year.

Cash flows related to investing activities for the quarter reflects the capital expenditures for our satellite project, lab and production test equipment, and capital expenditures for licenses and patents also related to our satellite project.

Cash provided by financing activities is primarily proceeds from the drawing down our line of credit, offset by debt issuance costs, and the net proceeds from issuance of common stock, principally the exercise of stock options.

Next, I will turn it back to Mark who will provide an update on our outlook.

Okay. Thanks, Ron. At this point, I will give a quick update on our outlook for the rest of the fiscal year and then I will summarize things.

So our outlook for the balance of fiscal year '10 remains intact from our last call, excluding the variability around the closing of the WildBlue transaction and the interest expense resulting from the recent bond offering.

The most significant factors influencing the balance of the FY '10 earnings are expected to be the timing of the pending acquisition of WildBlue, along with that transaction financing and, as usual, the timing of new contract awards for the balance of the fiscal year.

Last month, as we noted, we completed a $275 million seven-year bond offering. The market conditions were favorable and we increased the size of the offering, achieving some longer-term benefits at the expense of undertaking somewhat higher-than-planned near-term interest expense. So Ron had just described that and the effect on our earnings relative to plan until the acquisition closes.

On the other hand, as we announced last week, we received early notification of antitrust clearance from the government. So that increases the probability that the transaction would close sooner than at the end of our fiscal year. We anticipate that, once the transaction closes, the effects on current year fiscal earnings attributed to the bond interest would be balanced by the benefits of the acquisition. We continue to anticipate the acquisition will be accretive upon close.

So far, year-to-date operational performance has been good. Second-quarter orders were very good, actually a little better than our expectations, although the Yahsat Ka-band contract backlog will convert to revenue over a little longer time horizon than the average for the rest of our backlog. We still have a good pipeline of anticipated orders.

So, given a stable outlook for our ongoing business, then trying to refine our earnings and revenue outlook for the balance of this fiscal year, is really mostly influenced by trying to forecast a close date for the transaction. We are reluctant to do that.

Our annual strategic planning process built an updated outlook for our fiscal year '11 during the current quarter, so we're doing that right now. We plan to provide an integrated outlook for our fiscal year '11, which would include the effects of the WildBlue transaction, at our next conference call.

Finally, then, in summary, orders for the second quarter were very good. We've built backlog for the year-to-date and have strategic success in key market areas, including defense, Intel, surveillance reconnaissance, information assurance, and Ka-band broadband.

Operating performance has also been very good, in line with our expectations given the higher proportion of product sales in our business mix. We think the WildBlue acquisition was a very important strategic move, and it's an excellent solution to the distribution and fulfillment resources needed to monetize our ViaSat-1 satellite project.

Early antitrust clearance increases the probability that the transaction will close sooner than we originally anticipated. We believe the financing steps we've taken are an effective long-term way to finance the acquisition and the balance of the ViaSat-1 project.

Overall, we believe we're making good progress on growing our business and earnings over the long term around the core business areas that we have long been targeting.

So that concludes our prepared remarks. At this point, we would be happy to take questions.

Thank you. (Operator Instructions). Mike Crawford, B. Riley & Co.

Could you talk a little bit more about the economics of the consumer broadband satellite space? So ViaSat-1 is going to have a cost per bit that's like, I don't know, four times cheaper than, say, Yahsat going up in the UAE, and even that is expected to be a viable offering. Can you just go through some of this math for us?

Okay. Yes, I think, when you think of the ongoing services, we feel bandwidth is an important factor, that bandwidth basically you want to look at it in two ways. One is one thing you could do is just say "Well, I'm going to lower our bandwidth costs for existing levels of service, and that would improve margins."

The thing that we felt is really important is to improve service quality at the same cost. So basically with ViaSat-1, the way to look at it is we're getting about 12X, 13X, 15X gain in throughput compared to current generation of satellites. We will use maybe about a third to a quarter of that towards the improving service quality effect, so that basically goes to our customers and improve their service at the same price. The rest, at the start, goes into increased margin. So it basically gives us a lot more power and flexibility to improve the margins. That's really our plan for doing that.

I think Eutelsat's plans -- sort of similar. Yahsat -- basically in the Middle East, there is I would say fewer alternatives and so they will probably apportion it a little bit differently.

Does that answer that?

Yes, yes, okay, thank you. Then just on WildBlue, so you got early antitrust clearance, so you think this could close maybe, if you had to guess, early March quarter?

Yes, I mean it's a little hard to speculate. We still have to get FCC approval; that process is underway. But that is really probably the main effect for us, so depending on the timing of that.

Originally, we would have thought that the HSR antitrust would take longer than FCC, so now that has happened first, I would say that would bring our expectations in. But I think it's not a good idea for us to speculate on a specific time.

Okay, thank you.

Jim McIlree, Collins Stewart.

Thank you. You talked about a mix shift in your Government business that would be beneficial to margins. Can you quantify what kind of uplift you would expect to your Government margins as that plays out?

Actually what we're really referring to is we've kind of been talking about this for, I would say, over a year, a year or two. As we've seen this shift -- it's basically "shift" meaning we did a bunch of development programs, and those are things like EBEM and we've seen -- we finished KG 250. We have seen some of our development programs winding down, shifting some of those resources on Ka-band. So this shift that we've been describing has been ongoing, and that's what has driven our margins.

I think one of the things we've talked about for the last couple of years is growing earnings faster than revenues. That's really the effect that we've talked about. I would say that effect has pretty much worked its way in, and I don't think we are going to see substantial changes to that, to those margins, going ahead.

Do you want to add anything to that, Rick?

NO, I think that what's really going to pace it is the size of additional development programs we get. So our goal is to continue to win development programs, so we should balance that out. But our production programs are growing for sure.

Did that answer your question there, Jim?

Yes, that's perfect. Thank you.

Then secondly, on the Commercial margins, a very nice uplift in the quarter you just finished. Is that sustainable, or are you looking to move those towards the double-digit range?

This is Ron. I think it's really going to depend on the mix. Are they sustainable? I think, in certain areas, we have seen tangible margin improvement. In certain of our product areas, we are trying to lower some of the investments. Mark discussed the reduced losses in the AcceleNet area, so we do see them migrating higher. To a specific level, it really will depend on some of the development that we are doing relative to the ViaSat-1 or the next-generation SurfBeam 2 activities that we are doing.

I would say the way we look at it is, if you go out let's say two years, satellites are launched. What we expect is that our Commercial business revenues would be dominated at that point by basically the Ka-band broadband products and the Antenna Systems and related products. The margins there have been good. They have been comparable to our margins for the Company as a whole.

So I would say, over the next couple of years, absent starting some new investment area that we -- if that were to happen, we would talk about that, but absent that, when we talk about what you would expect over the next two years, that Commercial margins would begin to migrate more towards reflecting the business as a whole.

Okay. I think you mentioned something about an Antenna Systems closeout. Did that have a significant impact on the margins for the quarter?

It had a little impact. The closeout really was more to do with how we did the finalized kind of earnings analysis on the program, but there was some benefit to the current period. I would say it was less than $0.5 million to that.

But for those things, I mean we finish programs all the time; we clean them up; they either go down or they go up. So it's just kind of part of our ongoing business.

Right, right. Since you mentioned it, I asked. Ron, I am a little bit confused how you are getting to the interest expense on the note. $275 million at 8 7/8 --

Correct.

-- is more like $6 million a quarter.

Right, but there is going to be a capitalized interest component because of our satellite construction. So, we will be capitalizing a component of that during the quarter. We talked about that I think last quarter. Now that we were going to be borrowing, we -- for instance we had $80 million outstanding last quarter on our revolver. All of that was the interest of about $1.2 was capitalized into the satellite.

So yes, you get an interest. You can do the math on what the interest expense would be, but there is going to be a component that is capitalized against the satellite.

Pretty much a good estimate, Jim, would be to take the amounts that were kept, the (inaudible) amounts that were capitalized on the satellite, subtract that from the borrowed amount, and the balance of that borrowed amount at the interest rate is period expense. Does that make sense?

Yes, perfect. I'm sorry to hog this but just one more. What's in the transaction expense for WildBlue? Is that all outside auditors, bankers, etc.?

And legal! (laughter) (multiple speakers) outside multiple speakers)

That was a barb in our legal department! (laughter)

And so to the extent that you need to use those guys again, then that's what's going to drive those costs in the December and March quarters?

Correct.

Okay.

Well, hang on just a second, because on top of that is our investment banking fees, and there are some other related costs associated with the deal that are part of the contractual obligations that we've signed up to. So there is other expenses like that that will flow through as well.

The major one remaining would be the investment-banking fees.

Okay, very good. Thank you.

Michael French, Morgan Joseph.

Good morning, gentlemen. The first question I have is on the regulatory process at the FCC. Have they put this out for comment?

This is Keven. They have published it but, you know, the regulatory process for the FCC is simply to transfer the gateways, so it's not necessarily published in a separate notification.

Okay. This is the last bit of the regulatory piece. Is that right?

Yes.

Okay. Another quick question on -- as far as tracking, is this still a decision that -- the second channel -- is this still a decision that is expected in the near term?

I think that they're, you know, they are still going through their RFP process, so that is, I would say, a little bit hard to predict. I mean I would say they are wrestling with the issues that we've talked about in the past, which is there's a combination of equipment and services components, how to break those out, how to reflect them in the valuation criteria. But the procurement is proceeding. There has been draft RFPs. I don't think there's been a final RFP. Is that right, Rich?

Yes.

Yes. Does that answer it?

I had a chance to meet with one of your customers, the (inaudible) folks at the MILCOM show, and they were very excited to be showing the joint IP modem.

One thing -- I don't really want to overstate it, but they were a little bit concerned about your ability to focus sort of on a commercial market with WildBlue, and then maintain the very high level of customer service that they have come to expect. I was just wondering if you could address how you plan to do that.

Well, I would say those are the kinds of questions we get whenever we go into new markets. We are constantly going into new markets, so I think it is certainly a fair concern on the part of our customers.

The main thing I would say is we have a completely separate organization that's dealing with WildBlue and the consumer broadband market, so we have no resources coming out of our Government Satellite segment that are being diverted to WildBlue.

It's more of the flip side, which is that WildBlue and Ka-band satellites bring resources to our government people that we think will help us and will increase our ability to serve our defense customers.

Very good, thank you. Good luck.

Rich Valera, Needham & Company.

Thank you. Good morning. Just following up on the interest questions, could you give us, Ron, the program to-date capitalized expenses for WildBlue?

Program to-date (multiple speakers) --

I'm sorry, for ViaSat-1?

Okay, I'm sorry. I think we had about $158 million of satellite that was capitalized at the end of the quarter.

Okay, then so when we are thinking about interest, we look at the $275 million plus the $80 million on your credit line? Where do we subtract the $158 million from? From the $275 million or from the $80 million?

So if you look at, for Q2, just walk through the mechanics, at the beginning of the quarter, we had about $125 million of cumulative capital. We had borrowed $80 million. So the amount of interest expense related to that $80 million was capitalized to the satellite. It was about $1.2 million during the quarter.

As we start Q3 -- I just checked the number. We had about $155 million of cumulative capital on the satellite, and so we will use that as a baseline going forward. So for the first, roughly, month of the quarter, we had some of the loan outstanding on the revolver, and then we had the bond come through. So kind of the bond amount though that comes on is about $275 million, so only a portion of the interest related to now the bond is going to be capitalizable relative to the asset. As we add to the asset each month, then the net asset value will increase. As that asset value increases, we are allowed to capitalize additional interest.

I see, so it's actually an increasing asset, if you will?

Yes. Another point is, when we did receive the bond, we did repay back the line of credit, so that got reduced back to 0. People are going through and running them out.

So it wasn't like we kept the $80 million outstanding plus we got the infusion from the bond.

So one way, kind of my simple way to look at this, Rich, is project out what our debt is going to be because we had to take some more debt on when we acquired WildBlue, right?

Yes.

You had the revolver before. Now, you have the bond and then some more debt (inaudible) and look at that over time, and then you look -- we have a CapEx plan on the satellite which we've kind of communicated. You can kind of estimate what that is on a quarterly basis. Ron has given you the annual numbers. That, you subtract that -- kind of the simple math is you would subtract that from the bond amount and the balance is what you would expense.

Right.

Until the satellite goes into service.

Until it goes in service and then it all flips into expense.

Right, okay. That's clear. Moving onto just the bookings picture, obviously very strong bookings this quarter. I think previously you had talked about, for the full year, potentially seeing a similar book-to-bill to what you did last year. Is there anything you've seen that has changed that view over the last quarter or so?

No, I think that's still the range -- you know, that's still sort of the range that we are looking at. We've got, I would say if you look at the government market, there has been -- the issue that we've been having is programs that slip. Now, some of that -- I mean that's all baked in. We think that what we are seeing now are things that we -- part of what's happening is there are things we thought would happen in our first quarter or second quarter and those are still to happen or are happening in our Q3 and Q4. But it's really sort of the uncertainty around defense budgeting. I think that is becoming less of a factor.

On the other hand, getting the Yahsat contract, that was a good thing for (inaudible) total rewards. And we've got a couple of other commercial things that are going to happen.

So it's sort of the normal is we've got a baseline plan and it's possible things could be worse but it's also possible things could be better. So what we've put out is kind of our nominal middle. I think that's similar to what we described last quarter, is this could be like last year.

A long answer but hopefully that clears it up a little.

Yes, that's helpful. Thanks very much.

Myles Walton, Oppenheimer.

A few things -- first, on cash dynamics, Ron, you had mentioned the bulge working its way through the snake on the cash side. Do you still anticipate operating cash flow this year being higher than last year?

I would say comparable to last year.

Comparable?

Yes.

Okay. When you put everything together and you map it out with respect to the net debt at the end of the year and also the incremental cash you will get from the WildBlue transaction into next year, what is the additional debt take-down you anticipate to complete ViaSat-1 at this point?

Well, so a couple of things. A little bit depends on the timing of close, because there's a lot of factors about how we integrate and how we operate WildBlue, post-closing, so a little bit of that is dependent on the timing of the close.

If you were to just assume a notional case and an all-up scenario, between ViaSat and WildBlue, we generate sufficient cash flow. But I think the additional amount that we would be borrowing might be in the kind of post-closing, would be in the $30 million to $50 million range through the in-service date.

Okay, that makes sense.

Just to clarify that, there's going to be a sequence of events. It will be, you know, we have the bond now and then at close there will be an additional borrowing. That amount can fluctuate depending upon the amount of cash at closing, the amount of cash we are generating between now and then, so again, it is going to be in a pretty narrow range. We expect to have, for instance, at closing, $100 million to $130 million of additional liquidity available to us at close.

So, we think we would have plenty of liquidity post-close to complete the project and continue to operate the business in a prudent manner.

Okay, fair enough. Then the other question was on the Ka-Sat launch in 4Q '10. Mark, when do you anticipate the consumer hardware sales associated with that to start to pick up?

What we are expecting is there will probably be an initial terminal order in the low tens of thousands, and that would probably be I would say first half of next year, maybe a little earlier, but probably kind of like the first half of next year, sometime in advance of the satellite launch.

So when would you say the consumer broadband sales would trough?

Trough?

Trough?

Right now.

Right now?

I don't see them going down from where they are.

Well, once you close the transaction, do you then take another step down, though, because of the eliminations?

Well basically what will happen is we will eliminate the retail portion of the WildBlue sales, but that's going -- what we're going to see -- well (inaudible)

There will be a temporary -- there will be a temporary gap, but it is not that big.

All right, fair enough.

Then the only other one I had for you was on the mobile broadband's airborne. Boeing has had some talk about the 787 WiFi, the platform being at a point where they would look at that as an additional capability again after a couple of years. Have the RFPs for that been issued? How are you going to go to market in that context? Will it be a full source standard equipment item? Can you just lay out some of the pieces there?

No, I think that you are going to see people attacking this mobile broadband aviation market from multiple directions. The airplane manufacturers have expressed interest because they'd like to be able to equip their airplanes with it. We have seen that from both Boeing and Airbus.

On the other hand, the airlines themselves have very different views of what they are trying to accomplish with it. That will reflect on the technologies they use. I would say (inaudible) choices that would be Ku-band, Ka-band, air-to-ground.

So honestly, I think it is going to be a little bit hard. While the airframe guys would like to do something and certainly there is impacts on cockpits or maintenance. From a cabin and an entertainment perspective, I think what the airlines do will probably be more influential, especially given that they have a mix in their fleet, mix of aircraft in their fleet.

So not to diminish the effect that you're describing, because we certainly are very interested in working with Boeing and Airbus, but I think there's going to be multiple dynamics in play.

Okay, fair enough. Thank you.

Steve Ferranti, Stephens.

Good morning, guys. A quick follow-up I guess to the previous line of questioning. You sort of touched upon the subscriber terminal piece of this, but if we just look at the pipeline of programs you've got in terms of infrastructure out there, between Eutelsat, Yahsat, RASCOM, it sounds like they may be potentially some others as well. But can you help us think about how these play out over the span of the next couple of years for example? You know, fairly substantial sizable opportunities there. I'm just trying to sort of think about how these might impact fiscal '11, fiscal '12 type of revenue run rates.

Okay. Yes, I think, you know, historically -- well the historical experience we have is with primarily WildBlue in the US and Telesat and Barrett in Canada. Both of those guys tended to sell out in their areas that had -- the high demand areas and those are really the ones that had existing broadband, good existing broadband subscriber base and a high population. Those tended to sell out pretty quickly, within two or three years.

So if you look at that, what we think is -- you go to Europe -- and this is really Eutelsat's domain, but sort of what they are seeing right now is similar in anticipation. They are seeing things similar to what we've seen in the US, which is high demand in sort of the Western European markets. They think that the demand there will be like what WildBlue is seeing in its high-demand markets. there may be a little I would say more uncertainty in the Eastern European markets where broadband penetration to start with isn't as high. So you could sort of divide Europe into those two segments.

You think there's a pretty good chance, within two or three years, if things go like they did in the other markets, that they'd [chill] out and they are projecting total capacity in the 1 million-ish range for their satellite, you know, 800,000, 1 million if it were all (inaudible) uniform demand. So you can think about maybe half and half roughly there.

In the US, we think that we have really built out in the areas that have high demand, so now the ceiling is high. We're talking about 1.5 million terminals. But over a three or four-year period, that would be pretty good.

In Canada, everything is not totally lined up yet but we expect that to also get lined up. We are pretty much all high-demand opportunities there. That's 100,000 to 200,000 terminals in that market.

Yahsat is a newer market, a little harder to predict, but they are also thinking that they'd sell out over a three or four-year period beginning in two years from now. That sort of covers the main markets now.

Yes, that's helpful. I guess, just to put a finer point on it, just based on the proprietary waveforms here, you guys are essentially sole-sourced as a supplier in these cases, correct?

Yes. I mean what we've done, I mean our interests are really aligned with our customers, which is what we really want to do is help them stimulate demand, but all of the terminal demand for these markets goes on our infrastructure.

Got you. Okay, great. Then can you give us some sort of sense of -- you talked about some ancillary applications for satellite-based broadband, including enterprise and mobile applications. Could you give us maybe some more insight in terms of your thinking there and strategy on some of these ancillary opportunities, when these might start to develop for you guys?

Well, where we stand right now is the infrastructure that we have built out where we have contracts in all of these markets is basically the consumer broadband infrastructure. There's an expectation that enterprise would pretty much build on the same infrastructure.

Government Services would be sort of split between fixed-site, which could build out on the existing infrastructure, and mobile. The mobile stuff is really interesting because we think that's a pretty compelling value proposition. That requires different infrastructure than what's already been contracted for, with that really being driven by this ArcLight spread spectrum infrastructure that we have been selling in the Ku-band business.

The trade-off as a satellite service provider is the upfront infrastructure costs are higher when you go to Ka-band because you pretty much have to build out all of the gateways to go into service because of the way the satellites are architected,. The payoff is this enormous advantage in airtime costs and speed that you can deliver.

So we're seeing, that's the area that we are seeing a lot of opportunity. What I'd say is the big thing is, in the near term for us, would be to develop a market through the mobile broadband infrastructure. That would represent infrastructure opportunities that are on the order of what we have seen so far. I think that will be driven by these opportunities in government and aviation especially, possibly other mobile applications as well.

Very interesting. That's it for me, guys.

I think that's it, Mark.

We will take one more question if you don't mind.

Okay, the last one.

Matt Robison, Wedbush.

Thanks for taking my questions. This is Leo Choi for Matt. Just a couple of quick ones -- in terms of ViaSat-1 budget spending, can you -- any updates in terms of amount to launch, how much to launch -- from launch to service with and without (inaudible). Can you kind of give us an update on that?

There hasn't been any change to it. As Ron mentioned, I think we are at about $155 million to date. There is about $325 million for the satellite launch and insurance in our budget for the satellite, so that would leave about $170 million to go.

Some of that occurs post-launch and some of that (multiple speakers) and there is a ground segment. We've described the ground segment in really two tranches. There is an initial tranche, which is essential for operating the satellite. It's like three gateways, but the total gateway expansion plan is on the order of about $100 million. That $100 million, probably two-thirds of it is pre-launch, and about one-third post-launch.

All these numbers I'm describing are all -- none of this has changed for quite a long time.

Basically, what we're looking at is about $400 million of total capital through our in-service state with post-launch but through in-service, and that includes gateway, satellite, launch, insurance, all those types of things.

Okay. That's great. Another quick one in terms of balance sheet items -- you provided a breakdown between billing and unbilled AR. What are your expectations for those items in the December quarter, how they would trend out?

Looking at unbilled trending down, as well as billed trending down quite a bit, you know, I talked about this receivable bulge that we have already seen good progress on this quarter. So we see both of them coming down.

Our forecast, if you look at pre-year end, we see them both being up from prior year end but significantly down from where they are today.

Okay, good. Now, one last one for me -- what should we expect to drive bookings in the December quarter? I guess a breakdown between government factors and commercial factors would be nice.

I would say they are more heavily dominated on the government side. There are some things that were somewhat delayed to the new government fiscal year, but there are some good commercial opportunities. Again, these -- our awards tend to be lumpy; the timing tends to be somewhat unpredictable. And sometimes we have these artificial dates that we report on, quarter end, and if it happens a day later, then it goes into the other quarter. So we always focus on the timing and pace relative to when the execution needs to take place for the customer schedule.

I think a comment I would make is it looks pretty normal. There's production orders in our information assurance department. There's another development program in there we weren't expecting. We are expecting the follow-on -- follow-up order on MIDS J possibly this quarter. It could slip at the next quarter. But those things are drivers in this quarter.

On the military side, additional mobile stuff for our government and mobility stuff will fall into this quarter. In fact, some of it already has. And then on the Commercial side, there is both ongoing production orders as well as new business that we are expecting there. So it is really fairly homogeneous quarter-to-quarter, both this quarter and Q4.

Okay, great. That's it for me, guys. Thank you.

Okay, thanks. I guess that concludes our question-and-answer session and our prepared remarks, so thanks very much, everybody, for participating in the call. We look forward to talking to you next quarter.

Thank you. Ladies and gentlemen, thank you for your participation in today's conference. This does conclude the conference. You may now disconnect. Good day.