Viasat Inc (VSAT) 2014 Q3 法說會逐字稿

Welcome to ViaSat's FY14 third quarter earnings conference call. Your host for today's call is Mark Dankberg, Chairman and CEO. You may proceed, Mr. Dankberg.

Okay, thanks. Good afternoon, everybody, and welcome to our earnings conference call for our third quarter of FY14. So I am Mark Dankberg, Chairman and CEO, and I have got with me Rick Baldridge, our President and Chief Operating Officer; Bruce Dirks, our Chief Financial Officer; Shawn Duffy, our Chief Accounting Officer; and Kevin Lippert, our General Counsel. Before we start, Kevin will provide our Safe Harbor disclosure.

Thanks, Mark. As you know, this discussion will contain forward-looking statements. This is simply a reminder that factors could cause actual results to differ materially. Additional information concerning these factors is contained 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. Back to you, Mark.

Thanks, Kevin. So we will be referring to slides that are available over the web, and I will start with some highlights and a topical business overview. And then as usual, Shawn will discuss the financial results in more detail, and then I will provide more depth on each of our business segments. Finally, I will summarize our outlook, and then we will take questions.

So overall, our third quarter of FY14 was another strong period for us. We had double-digit gains in both revenues and adjusted EBITDA, which were up 16% and 17%, respectively year over year. On a year-to-date basis, our results were even better, with revenue and adjusted EBITDA gains of 24% and 34%, respectively.

Awards for the quarter were $327 million, which is up 23% year over year. As we compete in bigger and bigger markets, we expect to continue to see a significant amount of lumpiness in our awards.

Consumer broadband continues to be our fastest growing business, and we continue to benefit from the effects of cumulative subscriber growth. We added about 29,000 net new subs in the December quarter. We will go into more detail on this later, but some of the factors influencing subscriber additions, included our efforts at improving churn, and improving SAC economics, and the dynamics associated with our direct-to-home satellite TV partners.

Probably the most important event for us in the quarter was JetBlue's launch in mid December of its Fly-Fi, in-flight Wi-Fi service, which is built on our Exede In The Air in-flight Wi-Fi. It has received fantastic reviews, and there was a correspondingly instant step change in the number of passengers that engaged with in-flight Wi-Fi.

It is still going to take a little while to sort out, but we think that having a Wi-Fi system with high passenger usage, compared to the single-digit percentages of the competing offerings in the market, is going to be a game-changer. We think it is simply not possible for any of the other existing in-flight Wi-Fi players to reduce -- reproduce that type of market-facing effect, without having the kind of satellites and network infrastructure that we have.

It is also a great example of how the ViaSat-2 satellite, through its even better bandwidth economics and very large coverage area, will extend our technology advantage even further. It is exactly the kind of effect we aim to achieve, when we invest in new technology and intellectual property.

One of the points you will see in our call, is that we have achieved really strong adjusted EBITDA growth, despite having over $30 million so far year-to-date increases in our discretionary R&T and IP legal costs that are aimed at defending and extending our advantages. We think obtaining the same kind of early market feedback in the in-flight Wi-Fi space that we have in other markets, is a good sign that we are on the right track to sustain our growth. I will go into more detail on each of these segments later.

And with that, I will turn it over to Shawn for an overview of the financials.

Thanks, Mark. Our FY14 third quarter performance remains strong. Our quarterly revenue growth to $333 million was achieved by continued gains in our Satellite Services segment, combined with growth in our commercial segment, as we hit the heavier system integration and installation stages of our large infrastructure programs.

Our fiscal third quarter adjusted EBITDA of $57 million also pushed to a new record level, demonstrating our overall growth and sequential improvement in operating margins. For the nine month period, we pushed over the $1 billion mark in revenue, which is a 24% increase from the prior period.

The drivers were pretty consistent to those in our third quarter, with our Satellite Services again posting strong revenue gains, followed by Commercial Networks and Government Systems. Our FY14 year-to-date adjusted EBITDA also grew sharply to $164 million, representing a 34% year over year increase. So our revenues and adjusted EBITDA continue to reflect the escalating strength of our Exede service offerings and strong government contributions, despite nearly doubling our R&D investments as we advance high capacity Ka-band technologies.

Moving to our P&L as a whole, from a top-down perspective, our third quarter revenues were relatively in line with our expectations. Year over year service revenues were up 14% with our growing Exede subscriber base, offset somewhat by reduced government segment service revenues, as we complete a performance under a Satellite Service bandwidth contract for Blue Force Tracking.

Our product revenues also continued to grow, up 18% from the same period last year. As we look forward, the opportunities across our business continue to be well-aligned with the areas we are in, including within our core Government Systems product and mobility service platforms.

Mobile broadband and high capacity satellite solutions continue to be a combination worth noting. Now that we are officially in commercial service on JetBlue, which Mark will talk about more a bit later, future quarters will start to include these additional revenues in the Satellite Services segment, creating further diversification of our Ka-band service revenue. As we turn to the rest of the P&L, our cost of revenues as a percent of revenues was down slightly from the prior period, represents overall gross margin improvement.

Regarding SG&A, an element worth noting is our increased legal activities centered on defending intellectual property underlying our Ka-band technologies. Although our investments in this area have more than doubled, year over year our overall SG&A as a percent of revenues was down slightly, showing the strength of our core financial performance.

Our R&D spending also increased, consistent with the trends we have previously discussed. So taking all of these changes into account, our income from operations was still up slightly from last year's results during the same period.

Looking at net interest expense, Q3 expense was down $1.5 million year over year, as our interest capitalization grows along side our ViaSat-2 construction spend. We should continue to see quarter over quarter decreases in interest expenses as capitalization effects compound with investments in ViaSat-2, even as our credit facility borrowings increase.

Turning to taxes, our third quarter results reflect an income tax benefit of $1.7 million, compared to a benefit of $15.3 million recorded last year. This tax benefit decrease is a direct result of our continued reduction in pretax losses, and on a year over year basis reflects the nonrecurring tax effect of the debt extinguishment charge recorded in Q3 last year.

As we look out, note that the federal R&D tax credit legislation has once again expired. So although our FY14 effective rate includes three quarters of federal R&D credits, future years will not necessarily reflect these benefits if the current legislation remains unchanged. So overall, our FY14 Q3 generated pro forma net income, that was about flat to the same period last year.

Our year-to-date cash flow from operations was $135 million, an increase of $86 million compared to this time last year. Higher adjusted EBITDA and tight working capital management were the key contributors to this dramatic increase. Our capital expenditures also continued to grow, doubling the first nine months versus the last period last year.

Clearly, the largest portion of this growth is related to ViaSat-2, with payments totaling about $94 million year-to-date. Another important notable is the continued reduction in capitalized SAC, which is comprised of CPE and installation costs. Although the cash timing for our CPE equipment can move quarter to quarter, overall we are seeing a trend of decreasing cash unit costs, as our equipment base reaches a higher level of sustainability.

We ended the quarter with $41 million of cash, and only $85 million drawn on the credit facility. And speaking of the credit facility, last November in concert with our existing lender syndicate, we replaced our $325 million credit facility with a new $500 million credit facility.

In addition, to the additional liquidity we achieved other important benefits, including lower interest margins, an improved covenant package, and a restart to the five year term. All of this will provide for greater flexibility, as we grow our international footprint.

Before Mark gets into some of the business area highlights, I wanted to give a quick segment financial overview. As we noted, overall revenues were up 16%, while Satellite Services and Commercial Networks saw strong revenue growth.

While our Government Systems revenues were slightly down this quarter, due to the completion of bandwidth service contract for Blue Force Tracking, year-to-date government segment revenues were up though, as were government segment year-on-year orders for Q3. So overall, we are happy with where we ended up, and our long-term growth prospects for the government segment.

Adjusted EBITDA was up 17% year over year, with very strong growth in Satellite Services. Commercial Networks adjusted EBITDA was flat, primarily due to R&D investments, and Government Systems adjusted EBITDA was slightly lower, due to a combination of the completed BFT contract and higher R&D investments.

So with that, now I will turn it back over to Mark.

Okay. Thanks, Shawn. So I will start with our Satellite Services segment. And as Shawn mentioned, we have seen nice growth and robust margin improvement in our Satellite Services segment.

Year over year revenues were up 37%, and adjusted EBITDA was up almost 110%. Adjusted EBITDA would have been even higher, if not for the significant investments in intellectual property protection, and legal expenses we have been incurring as we get closer to our trial date.

During our third quarter, we worked to balance subscriber growth, with subscriber acquisition process improvements, so 79,000 gross adds were down a little from the second quarter. About half of the decrease is just an artifact of our accounting calendar, which has more days in our second fiscal quarter than in the third.

A significant amount of the rest was due to filtering efforts to pinpoint and correct the sales process issues associated with the elevated churn. There is also some quarter-to-quarter fluctuations, associated with how our satellite TV distribution partners manage orders among their broadband suppliers.

Migrations continue their downward trend, with just over 6,000 migrations for the period. Last quarter, we talked about the recent increase in churn, associated with certain subscriber acquisition channels. Our analysis led to specific process improvements which we began implementing last quarter.

And as a result, in the third quarter we saw the adverse churn trend reverse itself, and churn decreased slightly from the second quarter. The impact of these efforts, along with some additional improvements in the current quarter, should continue to grow over future periods.

Cumulatively, now after not quite two years, we are closing in on 0.5 million of our subscribers on the ViaSat-1 satellite, which is pretty well past the halfway point envisioned for total fixed consumer subscribers, when we take into account our progress in the commercial and government band markets, and the bandwidth provisioning that we expect from a broadband. So that is actually a good thing, since the mobile broadband market, in general is an even more valuable use of our network resources. So just for instance, we could approximate that mobile broadband commitments in total to date, could represent roughly the equivalent of about 50,000 new net adds over about the next year or so.

So we want to put that in the context of our fundamental strategic objective, which all along has been to grow the market for satellite broadband into the underserved markets, which we believe is much bigger than just the unserved. We aim to establish a market position that builds on a positive customer experience of our service, relative to both terrestrial and satellite competition, and to have our service keep pace with user expectations and competing technologies. So we want to use our remaining capacity to continue learning about both the market, and honing our operational skills, in advance of the arrival of ViaSat-2.

We feel we are making good progress on that front. We continue to refine our marketing and distribution through rifle shot instead of shotgun tactics, and that is yielding lower incremental retail acquisition costs. Our voice-over-IP service creates bundling opportunities that help us grow ARPU, through greater value delivery to customers.

Our CPE improvements and cost reductions are also contributing to overall subscriber acquisition cost improvements. Operational and technology improvements are reducing costs and combined with significant investments in data analytics, are giving us better insights into how to market our service more broadly, and expand the satellite broadband market.

The last graphic on this chart highlights one of the cool things we have been able to measure about our streaming video performance. There has been a lot of recent discussion about both the technical and business factors that can undermine the video streaming experience, even on cable and fiber high speed broadband networks.

Sandvine published a really good comprehensive report on this topic last fall. So while our bandwidth usage caps currently do limit the amount of video streaming relative to the market as a whole, we have data showing that the streaming speeds that we deliver are among the best of any broadband ISP.

That is an example of a really good market factoid that we believe can help us grow our addressable market. We believe the bandwidth benefits of ViaSat-2, combined with other technical improvements we are making to our ground network, will allow our customers many more hours of streaming video entertainment, with performance among the best of any ISP. Video streaming performance is a key quality measure for any broadband network.

So next, we will talk about our in flight Wi-Fi. We launched our Exede In The Air service on December 12, with our launch partner JetBlue, who named their version Fly-Fi. The inaugural flight had over 60 journalists and industry stakeholders who stressed the service about as much as one could imagine.

Our objective is to disrupt the in flight connectivity industry in the true Clayton Christensen sense of the word, by introducing a new highly impactful measure of performance, which is market adoption by passengers. Fly-Fi got off to a great start, with journalists and bloggers doing live streaming interviews, running multiple simultaneous sessions of streaming video, while still measuring download speeds of over 20 megabits a second. Several reviewers said just what we intended, that it is the best, fastest internet in the sky, blowing away everything else.

JetBlue currently has 12 Fly-Fi equipped aircraft, and it has planned an installation rate of around 15 a month, that would equip their fleet within a little bit over a year. Service quality remains high, and JetBlue's free Simply Surf package which offers capability and speeds that we believe are better than any existing paid service, means that passenger adoption has jumped substantially compared to any other in-flight connectivity service.

That is true, even while only a small fraction of JetBlue's aircraft are currently enabled, meaning promotion is relatively low, and most passengers don't even know if their flight will have the service. We believe that driving high levels of passenger engagement, as much as 10 times that of competing systems on long haul flights is going to be the real key to growth in the global in-flight connectivity market.

We want to contrast that with a more conventional view of airborne Wi-Fi. Other service providers mostly measure market share just by the number of aircraft that they have, not the number of actual users.

Bandwidth for most other systems is so constrained, or so costly that high retail pricing is needed to limit the number of users per flight, otherwise connection speeds could be pretty much unusable. Exede In The Air is unique in that it leverages a consumer network that is designed to deliver over12 megabits a second download speed to a million users on the ground.

For us to serve thousands or even tens of thousands of simultaneous airborne users, represents only a small fraction of our total available bandwidth. We don't think any of the existing ground or satellite-based networks, even those using planned Ka- or Ku-bands spot beam satellites that won't even be in service for a few more years, can replicate a comparable user experience, at comparable scale, at comparable unit cost.

And with ViaSat-2, we will be able to expand our coverage to parts of Latin America, the Caribbean, and the air routes across the Atlantic to Europe, all with even better economics. We think almost all the impactful internet services have grown by starting with high rates of adoption and user engagement, and have scaled even further through convenient access on mobile devices. There are little or no examples of services that are scaled by limiting usage through high pricing.

High levels of user engagement enable powerful entertainment, sponsorship and promotional opportunities that are simply not in play with single-digit percents of passenger engagement Exede In The Air is unique in that it can draw in passengers, not by wild gardens of flight tracking, weather and shopping but by enabling each passenger's own unique connections for e-mail, messaging, web and mobile apps. It is a totally different approach to in-flight connectivity, but we believe it is a powerful one.

Fundamentally, it will be successful only to the extent that it yields economic benefits to the host airlines that embrace and adopt it. We are excited by our partnership with JetBlue.

We can't yet be sure if their free experiment will yield all the data it takes to validate those economic benefits. But yesterday, JetBlue won an award from the Air Transport World as the 2014 Airline Technology Leader of the year because of Fly-Fi, even though it is only in a fraction of their fleet.

We believe we are off to a good start, and we and JetBlue are already working with a number of exciting potential partners that see a world of possibilities that didn't exist before Fly-Fi was launched. One way or the other, we think the Exede In The Air concept will lead to a totally unique value proposition, and an opportunity for disproportionately high growth in the in-flight connectivity market.

Our Commercial Networks segment recorded revenues of $92 million for the quarter. That is up 34% from the prior period. Essentially all of the revenue increase was from products, with strong sales of consumer broadband terminals, Ka-band infrastructure products, and in-flight mobile broadband systems and ground antennae systems.

The NBN Company, a satellite network in Australia, probably the most ambitious satellite broadband project being deployed today, is entering the network infrastructure deployment phase. We are excited to see the first network gateway sites installed, as shown in this picture.

We are also now in full production for our in-flight connectivity systems for JetBlue and United Airlines. The real world performance for JetBlue is already starting to create more opportunities for us, with both domestic and international airlines.

Although gross margins were down slightly year over year, operating profit was primarily impacted by higher R&D expenses of over $5 million, as well as higher SG&A costs. We have previously discussed that these R&D expenses are focused on developing next-generation network technologies, and extending our overall technology leadership role in high capacity satellite systems and networks through ViaSat-2 and then beyond.

Awards for the period were $65 million, an increase of 41% year over year and in line with average awards over the prior four quarters. Increasingly, we expect that awards in this segment will be kind of lumpy, as we compete for more fully integrated space system contracts.

We believe our success in introducing leading-edge technology into the market, such as those enabled by ViaSat-1 and those that can be enabled by ViaSat-2, are increasing our exposure to these types of large integrated space system opportunities. We also think that a strong internet intellectual property position is a key factor in capturing the value created by our integrated space and ground technology innovations.

Our government business has shown striking and inconsistent although a little bit lumpy growth, in revenue and earnings for the last couple years. Aggregate growth has been led by mobile broadband, but reflects a constantly evolving mix, driven by macro factors and product life cycles and defense budget funding gates.

This quarter Government System's revenue was down slightly, sequentially and year over year. We saw good growth in product revenue from our Information Assurance and tactical data links products, which mostly but not quite totally offset a decrease due to completion of the bandwidth services contract associated with initial deployments of our Blue Force Tracking products that Shawn mentioned before.

Overall, gross margins were down slightly due to mix. Adjusted EBITDA declined $4 million year over year from a combination of a much higher R&D investment, increased SG&A, and the lower gross margins. Sequentially adjusted EBITDA was up by $4 million, about 14%.

Government awards for the quarter were pretty strong at $163 million. That is a 10% increase year over year. Overall, we think the big picture view in our government business is still really positive, and that we will continue to grow revenues on a year over year basis.

There are a few important macro factors that contribute to a growing sense of confidence that we can sustain that growth. One fundamental one is that Defense Department's pivot to the Pacific elevates the importance of many forms of resilient, high bandwidth communication networks.

For instance, we have won a number of contracts to update and expand the capabilities of Link 16 equipment, in both the low volume terminal and the mid JTRS variance. Link 16 continues to increase in importance, as an element of tactical situational awareness and communications, and we see expanding market opportunities for that.

We have also been winning more orders and new business in Information Assurance, that deliver more efficient utilization of key network resources. And as with our commercial business, we are seeing fundamentally new and different opportunities to provide more fully integrated space and ground systems, especially those that leverage capabilities we demonstrated in commercial markets.

We have maintained a very, very high share of new deployments of mobile aero broadband for the government, and are making good progress in migrating our early Ku-band customers to Ka-band where that is available, and we have done a good job of making Ka-band available in more and more important geographic regions. An increasing number of our government customers appreciate the significance of the network capabilities we are deploying with JetBlue and United for example, and the significance of the coverage footprint of ViaSat-2. We have also been more successful recently in demonstrating the unique resilience capabilities of our space systems designs, and in more directly comparing them to organic government-owned assets.

So overall, the new opportunities appear to more than offset reductions in some products and services associated with the wind-downs in the Middle East. For instance, Blue Force Tracking product deployments are likely to slow considerably from recent peaks.

But the upshot is that we are sufficiently encouraged by our progress in the aggregate to increase our discretionary R&D investments in our government business significantly. That includes both unique government products, and in investing in our commercial products to make them more accessible and useful to government customers. As with our commercial business, this includes more exposure to large integrated space system contracts.

So it is still hard for us to forecast success or timing of specific opportunities. But the number of opportunities that we are seeing, as well as our unique position in applying leading-edge commercial technology to our existing government business base are key factors in our view of the growth opportunities.

So we thought that the exciting prospects that are created by our launch in the commercial in-flight communications market, combined with our strong revenue and EBITDA growth for FY14, even in the presence of over $30 million year-to-date growth in discretionary investments, makes for a good reason to consider our go-forward growth outlook from a long-term strategic perspective. So this chart shows our track record for the last 10 years, in terms of revenue and EBITDA growth. Keep in mind, that year-to-date in FY14, we have already equaled all of FY13's adjusted EBITDA, and that $1 billion in year-to-date revenues, we are also poised for continued solid growth in revenue too.

Along the way, over the last 10 years, we have pioneered several important new markets, and we repositioned the Company to succeed in markets that are new to us. Growth, while steady over the long run has been lumpy, depending on the timing and uptake rates of those new offerings, including defense mobile broadband or ViaSat-1 consumer Internet. We have made some acquisitions along the way, especially to gain key technologies or to jump start market access, but most of the growth has been essentially organic and post or -- and/or post acquisition.

So as we get ready to start our FY15, we think we are well-positioned to sustain our record of profitable growth. We have grown revenue every year, and the only one-time downturn in adjusted EBITDA was the result of undertaking fixed costs associated with our ViaSat-1 network expansion.

It is hard to forecast the sequence of events and timing for specific opportunities, and some of them may take a little time to develop. In the near-term, we believe growth will be led by consumer broadband services, deployment of backlog in our commercial network products and services, and continued growth in pretty much all of our defense businesses except for Blue Force Tracking.

We see good growth opportunities in mobile broadband, especially aero. That would largely be catalyzed by a change in commercial business models, enabled by much higher user engagement and penetration.

Government mobile broadband has good upside potential, driven by adoption by a growing number of conventional defense aircraft, compared to just the early adopter special users that we started with. Longer-term, we are working on making important strides in integrated space ground network systems for both commercial and government markets, with some interesting new targets that might become evident later this calendar year.

In summary, based on our last 10 years, we feel like we know what growth opportunities look and feel like, and we think the results we achieved with ViaSat-1, and the coming impacts of ViaSat-2 are creating more growth opportunities than we have ever had before, pretty much across the board, in government, commercial and Satellite Services. And that should make for some pretty exciting times.

So that concludes our prepared remarks, and now I will open it up for questions.

Operator, are you there?

I am sorry about that. I thought I was talking to you while I was on mute. My apologies.

Okay.

(Operator Instructions)

Our first question comes from Yair Reiner with Oppenheimer. Your line is open. If you are on mute, please unmute your phone.

Hello. Thanks. This is William Lee for Yair. Just on the Wi-Fi, can you talk about the prospects of using leased bandwidth for in-flight Wi-Fi outside the US? And could you perhaps give us some sense of timing of when, we could see potential new awards outside of the US?

Okay. So the main places that we are looking to expand outside the US, are places where there is Ka-band or will be Ka-band, and where those satellites are already using our network infrastructure. So it is pretty straightforward upgrade of that network infrastructure to support in-flight Wi-Fi, and that would be either for airlines that we have that roam into other markets, or for airlines that originate in those markets.

Obviously, the most obvious example of that would be with Eutelsat, using their Ka-Sat in Europe. And I am not sure that we have announced it yet, but we do already have one airline that will be using our network infrastructure, and airborne terminals for that.

We think, in terms of expansion, I would say that once the JetBlue service went into service, the rate of new opportunities has increased pretty dramatically. But it is hard to tell what the timing will be for those new awards.

Great. Great. And then, in terms of the 50,000 equivalent net adds that you mentioned over the next year or so, is that based on JetBlue and Continental? Or are there other unannounced or undisclosed wins or prospects that are baked into that 50,000 number?

No, that would be based pretty much on JetBlue and United.

Great. That's all I had. Thank you.

Thanks.

Thank you. Our next question is from Amy Yong with Macquarie. Your line is open.

Thank you. I was just wondering if you could elaborate a little bit about the competitive landscape between you and Hughes? And I think in your earlier comments, you talked about your suppliers, and I am guessing, DirecTV and Dish. So if you could just provide a bit of color, more color around where the net adds came from, and whether or not Dish is a much more welcome partner than DirecTV or vice versa, given their relationship with EchoStar? Thanks.

Let's see. So I don't think there has been big shifts in the split among the different sources of subscribers, among both retail and the -- between retail and wholesale. And we are really happy to have both Dish and DirecTV -- and we don't -- haven't seen any, I would describe sudden movements in either of them over the last few quarters, and don't really expect any over the next few quarters.

Great. And then my second question is, can you give us a better sense for what normalized margins should look like in your satellite in the consumer broadband business?

Yes, I think what we have talked about a little bit before is that incremental margins from an EBITDA perspective, that you can see as we grow additional subs. So I think we have talked about in the past, the incremental EBITDA margins, about 70%. And that is -- as we continue to sell the subscribers, I think we will continue to see those benefits. However, it does get impacted by the timing, and a quarter of gross adds that we have in additional subscriber acquisition costs that we get in that upfront quarter.

Yes. But basically, you would see somewhere -- I think in the past we have talked on the range of 68% to 70% of incremental revenue flowing to EBITDA. But you also have to take into account quarterly variance in advertising and promotion costs. But generally over a long period of time, I think that has been the case.

Great. Thank you so much.

Thanks.

Our next question is from Matt Robison with Wunderlich Securities. Your line is open.

Thanks for taking my question. I was wondering if you could tell us what the Satellite Service revenue component was for nonresidential?

It is pretty de minimis now, because we just went into service. I mean, there are a couple of other minor things. But I think you will see that start to increase as aero, as the airplanes get brought into service.

And just to keep things in perspective, one of the sort of metrics that we have talked about in the past, is we thought it would be pretty good if we were at about 10% non-consumer by the time ViaSat-2 launched. And we think we are well on the way to achieving that, based on what has happened so far.

Okay. Let me ask you a question, a little bit different direction. What was the ARPU for Exede?

We didn't break out ARPU specifically this quarter, but it is in line with what things have been in the past. We see overall -- we see a general increasing trend in ARPU, and it is -- if you look out over the last few periods, that you could see that it was -- it is still growing but it was starting to moderate. And I would say, you could sort of extrapolate from there.

Okay. So it sounds like there was a -- maybe a small single-digit million dollars worth of revenue for Satellite Services that didn't come from residential, is that a good way to look at it?

Yes, I think not to put around a specific number, but for folks to keep in mind, we also have and historically have reported in the Satellite Service number, the additional Satellite Services for mobility that we get on our Yonder network as well, that comes from the maritime business that we have. So --

And business caps.

Exactly.

Yes, that was my point, because in the past it's been $5 million to $7 million a quarter, and I was just trying to figure out -- (Multiple Speakers).

Yes. That is not going down. We think we will start to augment that stuff. Oh, yes, okay.

And can you give us a little bit more on the economics for the in-flight? That is always -- it has been a challenge to try to figure out how to model that, and now that you are in service, I thought maybe you could give us some better sense for it?

Look, so we want to be able to be a little bit careful. I think it is an evolving -- it is an evolving process, and one of them -- one of the factors in here is understanding what the various sources of revenue will be, and how they will be -- how value will be allocated in the ways that we work with our airline partners. And we are exploring different deals with different approaches with different airlines. Right now, for instance, if you look at the in-flight Wi-Fi market, pretty much all the revenue, very large fraction of the revenue for connectivity, setting aside in-flight entertainment or video, connectivity is really driven by passenger payments, and not a lot of passengers participate.

So one of the things we are looking to find out is, as with JetBlue is, is their value to the airline if they pay a small amount of money on a per passenger basis to get usage way, way up, can they benefit from that? So that is one example.

And then sort of what we alluded to is, that if you have got a whole bunch of passengers on airplanes that are using the service, that gets the interest of a bunch of other internet partners who may bring revenue in different forms than what has been available in a material way in the past. So those are -- that is one way to look at it.

The other way to look at it is, when we think about how this impinges on our consumer business, that we have limited amounts of bandwidth, and bandwidth is sort of the resource -- that is the scarce resource that governs how many people we can have. So when we think about it, what we want to do is make sure that whatever bandwidth we deploy to the aero business is in some way carrying its weight, at least carrying its weight. And we think that it is a little more -- it is a lot more difficult place to bring connectivity, so we think it is more valuable there.

So that is kind of the why we mentioned it in this context of equivalent subscribers. And one way to look at it, and this is really rough because it depends on the arrangements that we have -- and you might think of like getting an a airplane, being like on the order of 100 subscribers, retail subscribers or blended subscribers. Think of it like 100 blended subscribers, and 100 is like order of magnitude, it's not 10, it's not 1,000. It is in that ballpark. And what we think is overall, I think there is opportunities to evolve that. But that is sort of where we are.

Thanks a lot.

Sure.

Thank you. Our next question is from Rich Valera with Needham & Company. Your line is open.

Thank you, good afternoon. I am trying to understand why the Satellite Service revenue line went down sequentially. That is the first time in certainly a long time, it sounds like ARPU was flattish or so. You clearly added net subscribers, and it didn't sound like the kind of other component, the Yonder component was materially different. So I am just trying to understand why that would go down, if you in fact were adding net subscribers?

Hello, Rich, this is Shawn. So the primary driver to keep in mind there is, that our second quarter had the additional week within that fiscal period versus our Q3 quarter. So if you look at it from a quarter-over-quarter run rate, that is the biggest driver that pulled the revenues to where they are.

Well, I guess, still on a -- if you kept ARPU flat, and you added 30,000 net subs and averaged that over a quarter, you would still expect it to be up as opposed to flat, or whatever if you adjust for the one quarter. Is that still a reasonable assumption? I mean, we should still model this kind of increasing I would think, every quarter aside from that sort of one anomaly there?

Absolutely. I think that the quarter-to-quarter revenue performance is just skewed overall from Q2 to Q3 because of the extra week. But I think if you're looking out, the trends in the growth have been pretty in line to where we have been, but at an increasing rate as the sub base grows.

Okay. That's helpful. I just want to try to follow up on some of, Mark, your prepared remarks about the -- I guess, it was sort of referring to the gross installs which indirectly, or directly really affect your net adds, and you did make some reference to some shifts in your partners, I presume again DirecTV and Dish.

So just wanted to -- wonder how should we be thinking about the kind of gross install number, relative to this most recently completed quarter, or the quarter before that where you were up closer to 100,000. Any sense of how we should be thinking about that number?

And then, obviously we have to make some assumptions about sort of churn. But just trying to understand if there was any sort of unusual dynamics in this quarter, if you expect things to maybe swing back your way in a subsequent quarter, as they adjust their allocations as it were between you and Hughes?

Yes. Yes, I would say we pretty much touched on all the factors, but they combine in different ways in different quarters. I would say, there weren't -- we had I think -- we had a couple quarters where for one reason or another Dish gave us greater portion, and I think they migrated more towards Hughes. I think the DirecTV thing goes back and forth a little bit.

It really depends on sort of what the exact process mechanisms are on each of their sides for -- applicating among their two suppliers. The other thing is how we are doing on our own. And then also, there is some processes that we overlay on all of our retail channels that have to do with this issue, some of the issues around churn.

And I think we have gotten a lot more granular, in being able to dissect the sources of churn. And so, we are introducing some process changes in them. And there is, I would say a little bit of an element of retrenchment, to basically be able to really analytically discern what the effects were of the process changes that we made, and go back and validate them. And we think that stuff is working.

So I think those would be -- those are the factors. I don't think there is anything dramatic. I think you will see -- I don't think you should -- well, I would say, the only other thing I would say is this point that we are pretty much a little more than halfway through filling up with our expected subscriber base on ViaSat-1. And so, I think one of the things you will see going forward, which will be a factor for both us and Hughes, is that you will have extra dimension that as beams become more full, there will be strategic decisions about whether to keep filling them, overfill them which we don't really tend to do, or that in itself will begin to have some impact on the way the orders are fulfilled by the satellite TV companies. So that will be another layer of sort of moving parts, in figuring out whether it will be quarter to quarter.

I am guessing you are not going to want to give too much granularity on this, but you added about 30,000 subs which was certainly lighter than I think most were expecting and lighter than most are modeling. And I am just wondering if you are willing to give any sort of thoughts on, maybe directionally where you see kind of a, quote, normal level of sub adds?

I think most people thought it was sort of 40,000 or so or more. Now we are at 30,000. Do we think this is kind of the new normal level, or do we think there might be some sort of bounce-back over some period of time, maybe as you sort out this churn issue that you are working on?

I wouldn't call it a new normal. I would say it is just sort of what it was, based on the combination of factors that we talked about for the quarter. I think there -- as we get more -- as we basically understand these process improvements, we will probably be a little more aggressive in adding subscribers.

Then the other thing is that one of the things that we do, and I mentioned this rifle shot stuff -- and I don't -- I think one of the things it is worthwhile for people to do, is try to look in more detail at not just what the numbers are, but what the unit economics are around them, and we are pretty focused on that.

We have talked about that over and over in the two years that we have been doing the ViaSat-1 business. And so, one of the ways that we test to see how effective the things are that we are doing is, we have to start doing some things, stop doing other things and compare them. And so you are seeing some of that as well because we have introduced some new promotional approaches which we are actually pretty happy with. And so, you will see those things take -- come into effect as well.

So I wouldn't call this a new normal. I think the March quarter is typically slower than the December quarter, so you have got that factor as well. But overall, no, I think that you are going to see fluctuations depending on all these factors.

Okay. That's helpful. Just one more if I could. At our conference, I think Bruce talked about that you were working maybe on some type of caching technology to help deal with the bandwidth caps that you have to sort of enforce on your subscribers. Anything you can shed light on there, with respect to any type of caching or what you might be doing to try to help facilitate more bandwidth usage by your customers?

No, I don't think we are going to go into more technical detail. I think the gist of it is that, one thing we have understood is that live -- real-time streaming performance does two things. One is, it is a big part of what subscribers like. So to the extent that you are good at it, that tilts things your way, on the other hand it also consumes a lot of bandwidth, which leads to a lot of congestion and slower responses.

So what I have described, is we have a number of technologies that are both ground and space-based that we think is going to let us make big improvements over the next couple years or so, in the amount of live streaming that we can do. And the point of that other discussion about the Sandvine report and Netflix and YouTube measurements is that what we think is, when we implement those we will get a good combination of good quality experience, high average streaming speeds, and a lot more volume. And technically, we are not going to talk more about how we are going to go about that.

Okay. I would just add, Mark, that to describe it as caching would be the wrong description.

There is a lot of technologies being employed, so I think that is probably the wrong description, Rich.

Okay.

A little bit of an oversimplification.

Appreciate that color, gentlemen. Thank you.

Thanks.

Thank you. And our next question is from Mike Crawford with B. Riley & Company. Your line is open.

Thank you. You have given some good color on the JetBlue experience. Can you talk at all about what progress you are making with United Continental?

Yes, currently the United Continental is outfitting aircraft. I think they have been working on some of their own IT issues, or sort of integration issues that are gating when they're going to put the Ka-band equipment into service.

Right now, the United Airlines as we have talked about before has a mix of our Ka-band service and a Ku-band service. I think either one of their early concepts was to deploy the service in a way that the passengers really wouldn't be able to tell the difference between the two of them. So that -- so clearly, that would create a different experience than what JetBlue is getting with the same service. United, especially since they have seen the JetBlue service in action, is sort of more interested in understanding how they might evolve to something more like the JetBlue one. But we won't know the answer to that for probably for a few months.

And would it cost that carrier similar amount of time and investment to put in Exede system versus a Panasonic system?

No, the -- oh, you mean Exede versus Panasonic? No, I think that -- no, I think that the aircraft retrofit is pretty comparable. Actually, one of the things about -- it is a little bit complicated. Because one of the things that we are doing with United in the Continental fleet is we are installing the first batch of Ka-band on the aircraft that already had live TVs, DirecTV system. So the install is very, very similar to that which we are doing with JetBlue.

I think one of the exciting things is we are also expanding with United beyond those fleet of aircraft as well, which would be new installs. I bet you that is still going to be really comparable to what it would be with a Ka-band system.

Okay. Thank you. Switching gears to, well, a little bit. You talked about development on integrating space ground systems for government and commercial markets. You also demonstrated running some encrypted traffic over ViaSat-1. What progress can we hope to see with the government in terms of them taking more bandwidth from ViaSat as well -- well, that is part one of the question. I will give you part two in a second.

Okay. So one thing that is actually pretty good is, you have seen some press releases from Boeing over the last few months, that we have been working with Boeing on next-generation jam-resistant technologies that sort of would successors to things like their WGS satellites or their advanced EHF satellites. And we have done tests over both our ViaSat-1 satellite, and they have done tests over the government's own wide-band global satellite system. I think that it's helping to raise the awareness of what the capabilities of these commercial systems are.

Now, how that translates into sort of government policy or any action is still to be determined. It could end up being incremental, or it could end up being I would say much more substantial than that. And the good thing is, that a much broader range of options is in play than was even a few months ago. But it is really hard to tell how things are going to play out at this point.

So part two of the question is, we know that these WGS and AEHF constellations were over-budget, very small amounts of bandwidth, and they also have high terminal costs, and also there's been some difficulty I believe in finding funding for all the terminals. When do you think ViaSat could be able to step in to provide, one common terminal that would work, not only on your satellites, but on these systems as well?

Okay. So that is a good question. Look, we are already doing that, I would say. Not so much on a the advanced EHF, but on other government-owned satellites we are doing that. And I think what that does is, is it increases the government's options for getting services.

One of the notions that we have put forth in the government, and has been well-received within the government is to think about their mobile terminals, like you would think of your mobile hand-held device that, what that terminal -- what that user really wants is he wants to be able to roam onto the best network that is available wherever he is. And sometimes that is our satellite. Sometimes it is our partners' satellites. Sometimes it is the government's own satellites, sometimes it is might be more conventional commercial satellites.

What we have been showing them are terminals and networking capabilities that can do just that, and that has gotten a lot of interest. So that sort of fits the paradigm that you described, in terms of using both ours and their assets.

Okay. Thank you. And then final question, relates to the your efforts to jointly market ViaSat-2 architecture type systems to others. Do you think that big gating factor there is the fate of your first trial with Space Systems/Loral which is starting on March 25?

No, I think that there is really two different -- I would say there is two different issues. One is we feel strongly about the intellectual property that we developed on ViaSat-1, and that is what the Loral trial is really about. We have also got new designs, new architectures for ViaSat-2, and we think that potential customers or partners are evaluating that, just as on the merits of it as an alternative to any other satellite technology that is out there. And so, we think those two things are not as directly connected as you suggested.

Okay. Thank you very much.

Thanks, Mike.

Thank you. Our next question is from Tim Quillin from Stephens. Your line is open.

Hello. Good afternoon.

Hello, Tim.

Hello, Mark. So on -- in the Blue Force Tracking program, how big of a headwind is that as it rolls off? And maybe you can talk about the outlook there, if there is any opportunity, follow-on opportunities? But I understand you expect long-term growth in government, but does the near-term ramp-down of Blue Force Tracking make it a little difficult to grow over the next few quarters?

Yes. So look, with you Blue Force Tracking, and what has happened is we have deployed I would say, tens of thousands of units. They have purchased over 100,000 units, and based on sort of the draw-down in Afghanistan -- and pretty fair -- well, fair amount of uncertainty about the -- where they are going to deploy troops, and you have got the sequestration effects, and the sort of the overall defense budget replanning that is associated with the pivot to the Pacific, and sort of the nature of what threats are -- that I would say it has sort of just slowed down the rate of absorption of the you Blue Force Tracking terminals that are in the system now.

So that is the dominant effect. On the other hand, one of the things in our favor is that the Blue Force Tracking network was really, really affective. And so, we are sort of working with them to figure out what are the installation options that are available to get the units that they have already got deployed, and then that would free up the pipeline for producing more. That is kind of what the main issue is right now.

Okay.

The other big down thing in the quarter that should just be one-time was, we had won a $40 million, $10 million a quarter bandwidth in a pretty low margin on that contract, and that ended last quarter. So that is $10 million down quarter-over-quarter, is really just that bandwidth deal. (Multiple Speakers). We have an (inaudible) opportunity to win that back.

Yes, that bandwidth contract that we got was really sort of a -- it was a one-time opportunity that was really associated with the initial deployment of the network. Then they evolved to a more standardized method of bandwidth procurement that we didn't -- we basically weren't a participant in the acquisition process for that. But since then, we are, so I think on a go-forward basis, we will have an opportunity to compete for that.

Just in general, do you expect or do you believe you can grow government in FY15?

Yes, we do. And even with what is going on in Blue Force Tracking, but it is really going to be in the area that we talked about. And that is Link 16, Information Assurance, more tactical satellite stuff, and especially this mobile broadband stuff. That is an area that has got lots of upside.

Yes. Yes. And then on the aviation opportunity, given some entrenched supplier relationships in the US market, and what at least theoretically could be high switching costs, maybe even fighting some companies that offer more of a bundled entertainment option, are your opportunities more greenfield overseas? Or do you think you can displace incumbents, even those that might be offering broadband as part of a broader solution domestically?

Kind of what we feel like, that we are working and it is new stuff -- is what we think is in the -- I would say up to now, there has been a perception that you need to have in-flight Wi-Fi on an airplane. Every airline wants to check the box, yes, we have in-flight Wi-Fi, but that only a small fraction of people are going to use it. And usage data pretty much for all the systems tend to hover on the average around 6% or 7%. And so, pretty much people have settled into that business model which is, I have got to have it but the usage is not going to be high. And our view is that no, everybody wants to use it. There is just been friction, barriers to adoption.

So going into service with JetBlue is pretty much validating the notion that lots of passengers want to use it. So now the next step is, among all those other passengers that use it, does it have any impact on their airline preference over the long haul? And what we suspect is, yes, that if you have a lot more people using it, it only takes a small number of those passengers to wiggle significant elements of value.

So really, our focus is to find airlines that want to try that, and JetBlue is one of them. But there are others as well, that like that same notion. I think that if that happens, and it turns out, yes, people -- lots of people are going to use it, and that they find it an important element of an overall experience. Then I think, yes, we will have a shot to go back into those airlines that already have something else, if that something else can't work with 50%, 60%, 70% passenger penetration.

Yes, fair enough. And then, just a couple detailed questions. Do you have the percent or the number of subscribers that are on ViaSat-1 at this point, or at the end of the quarter? And then just to confirm, I think the churn rate looked like it was about 2.8%, is that right?

So out of the 620,000, we said we are sort of approaching 0.5 million on ViaSat-1, and that is kind of it. I would say in the 450,000 to 500,000 range, certainly by now. That is kind of right. In terms of churn, I am not -- I wouldn't -- we are not going to give a specific number, but it went down a notch, and we think it is going to come down more as a result of the process improvements we are making.

Okay. Thank you very much.

One of the issues, Tim, is we are giving a lot more detail than others are giving in this space, and as we introduce new products, those details are going to be actually less valuable.

Right. Okay. Thank you.

We are trying to sort that out.

Thanks.

Thanks, Tim.

I think we'll take one more question. All right. Then our last question is going to be from Chris Quilty with Raymond James. Your line is open.

Thanks. Rich, did all the long form questions. So I will try to run through a bunch of quickies if I can. Just to clarify on the Blue Force Tracking services portion of the contract, is that done as of the most recent quarter or is there still a tail on that?

Not, that we had a specific one year contract which completed.

And it was like $10 million a quarter, flat?

Yes.

Through the four quarters?

Yes.

Perfect. And I guess, for Shawn, it sounds like the JetBlue subs are going to show up in Satellite Services, and they will turn up as a subscriber, just like a terrestrial subscriber but hopefully with a higher ARPU? Is that how we should be thinking about the accounting?

No, it will show up in Satellite Services segment, but we are not going to break out the -- what each of the sources are within the Satellite Services segment. It will just be blended.

Oh, I know you don't break it out, here is our retail, wholesale, and but l -- will it -- will somebody on a JetBlue aircraft count as a sub?

No, no, we will not include them in the subscriber count.

Okay. So it's just going to count as incremental revenue coming in, which would have the effect of raising the overall ARPU?

Right. And that is one of the things -- I think there is this -- there is a lot of focus on how many subscribers did we add each quarter, how does it compare to others? One of the things is, well, part of it is we have been focused also on being able to add Satellite Services revenue in other ways. And all we are trying to do is give you a sense of, on one hand, if you look at the things that we sort of have sort of accomplished already, think of it like signing up 50,000 new subscribers. That is sort of the analogy. Think of it as hey, we have got commitments for 50,000 new subscribers, who aren't going to be just for one year, they are going to be on for seven to ten years steady, and they are going to be added over the course of about the next year. That was sort of the analogy we were trying to draw.

Got you. And this wasn't on my list of questions, but since you brought it up in the other revenue category. Have you had any success with the live events, satellite news gathering vans, in those sort of professional markets?

Yes, we have. That market is -- I think it is a little bit like -- I am going to give you our thought process - a little bit like the aero market. We go into the aero market, and everybody says, okay, we are interested in your in-flight Wi-Fi, but our business model is that 6% or 7% of the people are going to use it. We have got to get revenue out of that, give us a business model like that. And we are going, wait a minute, this is a different. This is a different way to do it, and it kind of took JetBlue to say, hey, we like this different model, and we are going to go try it. We think that is going to be really disruptive, impactful.

Some of our experience in these other -- in the other market has been a little bit along the same lines which is, some of the existing customers sort of you view it as just the same thing as satellite news gathering, and they actually operate it in the same way, with teleports and dedicated connections. Another way to look at it is, wow, this is pretty disruptive, and it lets you do things through the internet with live video that you couldn't do before.

And what I would say is, we are getting some traction on that, with some pretty big providers of both broadcast video and online streaming events as well. But we don't have anything -- we are working on it. We just don't have everything as concrete as we do in the aero market yet, so we are not talking about it as much.

Got you. And speaking of aero, you talked about Eutelsat and the KaSat satellite, but if I remember correctly you also had a contract working with YaSat? So would that be a natural extension also?

Yes, we did have a contract with YaSat on ground infrastructure, and we had agreement with them to help support roaming of our aero platforms in their coverage area. And that is one of the companies that we are working with as well.

Got you.

We have platforms that are using YaSat.

And Shawn, where is the litigation expense being expensed to, which of the segments?

The Satellite Service segment.

Okay. All of it in Satellite Services?

Yes, the -- related to specifically the Loral litigation, yes.

And why are we not seeing more of the R&D ViaSat-2 related being capitalized? I mean, it seems like had that is still going up, and I would think based upon your build cycle, you would be able to just capitalize all that?

I think, probably the easiest way to say it is a complex analysis, when you are looking at the efforts that you are doing. We do have certain of our development that does get capitalized within cap software, and there are other elements that don't qualify for capitalization.

Got you. And on the Exede, has the advertising and promotional expenses stayed relatively steady over the last several quarters? Or with the pruning of the sales agency relationships, have you been able to scale that back?

No, it fluctuates and a lot of the reason it fluctuates is because we are measuring effectiveness of it under different circumstances. And so, when we -- there is certain both times and markets where we find it to be really effective. And that is why we have been able to make these improvements in our cost per gross add.

And one of the things that we are finding is, we are finding certain formulas that we will probably scale up. But we are -- I would say we are going to do it methodically, mostly trying to learn these things so that we can scale up, especially when we get a lot more capacity, and can come up with service that are more separated from other alternatives.

Okay. And final question here, over halfway full on ViaSat-1. Do you -- given the configuration of the beams and the limited amount of steerable beam capacity, is it possible in the next 2 years to -- 2.5 years as we wait for ViaSat-2 to come online, that we are going to have to potentially -- I guess, this would be a highs class problem to have -- but to shut down marketing and certain geographical regions? Or is there enough flexibility to the satellite that you don't envision those problems that happened with the WildBlue satellite years and years ago?

Yes, the -- so one of the fundamental issues that is -- sort of attribute of the ViaSat-1 class of satellites is that the geographic distribution of capacity is not completely, but it is largely fixed. And you can't really make adjustments to that, that would reflect differences in geographic demand on the ground. So basically what that means is, that any satellite operator is going to be faced with choices of either degrading the service, or having what you describe as this high class problem of having to limit subscriber additions. Our view is that we would rather limit the subscriber additions and preserve the integrity of the service.

So that is I would say, it is beginning to happen. We are -- we are doing it I would say in a more -- much more graceful way, economically and in terms of our distribution channels than WildBlue was able to do before.

The flip side though is that problem that you describe, which is matching satellite capacity to geographic demand is a really, really valuable problem. It is one of the things that we have been able to make a lot of progress on in ViaSat-2. So especially going forward, we will have a lot more tools to deal with that issue.

So it shouldn't be an issue you wouldn't think with ViaSat-2 both because of the flexibility of the platform, as well as you have now got a decade of experience on where the demand is, correct?

Well, there's -- again, it's sort of a multi-layered problem because, what you are going to find is in some markets there is just more demand than can be met by any single satellite, even with a lot of flexibility because there is only so much spectrum you can put in a given geographic region. So you have got to deal with multiple layers of events.

What you would like to do though, is come up with total system solution that lets you fill sort of uniformly, and doesn't leave any leftover capacity at any points in time. And ViaSat-2 isn't -- it's not the end all and be all for that, but it's a lot more capable than the ViaSat-1 class. I think that is going to improve our economics substantially, and the cool thing is we have got more technology behind it that's even better. So that is -- those are the kinds of problems that we are investing in R&D.

Great. Thank you very much.

Thanks, Chris. Okay. So I think that completes our Q&A session, and all of our content for this quarter. Thanks a lot everybody for dialing in, and we will talk again next quarter.

Ladies and gentlemen, thank you for participating in today's conference. This does conclude the program, and you may all disconnect. Everyone, have a great evening.