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American Science and Engineering, Inc. (ASEI)

F3Q10 (12/31/09) Earnings Call Transcript

February 9, 2010 4:30 pm ET

Executives

Anthony Fabiano – President and CEO

Ken Galaznik – SVP, CFO and Treasurer

Analysts

Steve Levenson – Stifel Nicolaus

Brian Ruttenbur – Morgan Keegan

Edward Marshall – Sidoti & Company

Josephine Millward – Benchmark Company

Sarah Catherine Phillips – Stephens

Michael Kim – Imperial Capital

Operator

Good afternoon, ladies and gentlemen, and welcome to American Science and Engineering's third quarter of fiscal year 2010 results conference call. My name is Chantille [ph] and I will be your conference facilitator today. At this time, I would like to inform you that this conference is being recorded and all participants are in listen-only mode. We will be facilitating a question-and-answer session at the end of the presentation.

Mr. Anthony Fabiano, President and Chief Executive Officer, will now begin the conference. Please go ahead.

Anthony Fabiano

Good afternoon, ladies and gentlemen and welcome to American Science & Engineering's third quarter of fiscal year 2010 results conference call. I'd like to welcome you for joining us and I'm joined by Ken Galaznik, our CFO and Treasurer. Ken will report the financial results and I will follow with comments on the results of the quarter.

I'll now turn the call over to Ken.

Ken Galaznik

Thank you, Anthony, and welcome everyone to our quarterly conference call. Today, we released the results of our third quarter of fiscal year 2010, which ended December 31st, 2009. A copy of this press release will be e-mailed or faxed to those of you on our mailing list and has been posted on our website.

Before we begin, I am obliged to share our Safe Harbor guidelines with you. Forward-looking statements made during the course of this conference call are modified in their entirety by the risk factors we have identified in our press release and in our SEC filings.

Now, I would like to discuss the results of the third quarter. Net sales and contract revenues in the December '09 quarter were $54.9 million, which represents a 16% decrease when compared to the third quarter revenues in the prior year of $65.3 million. It should be noted that the prior-year quarter remains our highest revenue quarter.

This decrease in revenue is attributable to decreases in Z Backscatter Systems, field services and contract research and development product, offset somewhat by increases in cargo and parcel product lines. It should be noted that the decrease in field services was due to a large spare parts order in the prior-year quarter and the decrease in contract research and development resulted from the CARS program being concluded prior to the current quarter.

The breakout of revenue by product line for the quarter were as follows; cargo was $14.1 million, Z Backscatter Systems was $16.5 million, parcel was $3.5 million, field service was $20.2 million, and contract research and development was $572,000. We are pleased to see the results – we are pleased to see the parcel product line return to a more representative run rate in this current quarter.

The gross profit in the December '09 quarter was $22.6 million as compared to $28.8 million in the December '08 quarter. This decrease in gross profit is a result of the lower revenues previously noted and the gross margin contribution decrease of 2.8 percentage points in the current quarter as compared to the prior-year quarter. The decrease in gross margin as a percentage of revenues is attributable to product mix, primarily between the cargo and Backscatter screening products.

Selling, generation, and administrative expenses were $9.6 million in the December '09 quarter as compared to $9.1 million in the December '08 quarter. The increase in SG&A is a result of increased incentive and stock compensation expense as the company – the company achieved certain performance-based incentive goals and expanded sales and marketing activities, offset somewhat by legal expenses as a successful patent litigation suit was concluded in the first quarter of this year.

Company funded research and development expenditures in the current year – in the current quarter were $4.2 million or 7.6% of revenue as compared to the prior-year expenditures of $4.8 million or 7.4% of revenues. While the current quarter run rate is $600,000 below the prior-year quarter, year-to-date, we are $2.3 million above last year. Interest income in the current quarter was $170,000 as compared to $477,000 in the prior-year quarter.

The decrease is attributable to reduced yields on cash investments. The company recorded an income tax provision of $3.2 million in the current quarter as compared to a $4.9 million provision in the December '08 quarter. The decrease from the December '08 quarter is due to the decrease in taxable income, attributable to the factors noted earlier, offset somewhat by an increase in the effective tax rate from 33% in the prior year to 35.5% in the current year.

A lower rate in the prior year was due to the exercise of options and the reinstatement of certain research and development tax credits in the third quarter of fiscal '09. Fully diluted earnings per share in the December '09 quarter were $0.64 as compared to $1.13 in the December '08 quarter.

A review of our year-to-date results reflects the following. Revenues increased 6% to $170.8 million in the current year from $161.1 million in the prior year. This increase is attributable to increases in cargo, Z Backscatter Systems, and field service, offset somewhat by decreases in parcel and contract research and development for the reasons previously noted.

Gross profit increased to $77.7 million in the current year from $65.8 million in the prior year. The increase is due to increased revenues and an increase of 4.6 points in margin as a percent of revenue in the current year. This improvement is due to a more favorable product mix and improved margins on service contracts.

SG&A expenses in the current year are $26.3 million or 15% of revenue as compared to $24.2 million or 15% of revenues in the prior year. This increase is primarily attributable to increased incentive and stock compensation expense, increased sales and marketing activities and salaries and benefits related to headcount increases, offset somewhat by reduced legal expenses.

Research and development expenses increased 19% to $14.9 million or 8.7% of revenues from $12.6 million or 7.8% of revenues in the prior year. Interest income decreased 78% in the current year to $473,000 from $3.1 million [ph] reported in the prior year.

The company recorded a tax provision in the current year of $13.1 million as compared to a $10.6 million provision in the prior year. This increase is attributable to the increase in taxable income due to the factors previously noted in addition to an increase in the effective tax rate from 34.5% in the prior year to 35.5% in the current year. At this time, we anticipate the effective rate for the year to be 35.5%.

Fully diluted earnings per share in the current year is $2.63 as compared to $2.26 reported in the prior year. The balance in cash, restricted cash, and short-term investments at December 31st, 2009 was $159.8 million or $18 million above the March 31st balance. This increase is primarily attributable to cash provided by operating activities of $23 million and proceeds of $5.8 million from the exercise of stock options, offset somewhat by expenditures of $2.9 million related to the stock repurchase program and dividend payments of $5.3 million.

Free cash in the current year was $21.2 million as compared to $18.1 million in the prior year. Accounts receivable has decreased to $8.3 million, resulting in DSO at December 31st of 47 days as compared to 58 days at March 31st. Inventory decreased slightly from the March 31st balance. In FY '10, we have invested $2.2 million in CapEx and depreciation and amortization expense. Depreciation and amortization expense was $3.4 million.

As to the status of the stock repurchase program, we are currently operating under the second $35 million authorization by the Board, of which $23.8 million remains available. In total, we have purchased and retired 874,000 shares for $46.2 million under this program. There were no repurchases made in the current quarter.

Bookings this quarter were $91.3 million, bringing backlog at December 31st, 2009 to a new record of $223.9 million or 46% above the December 31st, 2008 balance of $153.4 million. While not yet recorded in backlog, the company has $22.3 million of unfunded contracts, which are expected to be recorded in backlog in the next 12 months.

I'm pleased to inform you that at a recent Board meeting, the Board vote to approve an increased cash dividend of $0.30 per share as compared to $0.20 in the prior quarters, payable on March 4th, 2010 to holders of record at the close of business on February 22nd, 2010.

I will now turn the meeting to Anthony for his comments.

Anthony Fabiano

Thank you, Ken. The story for the quarter was bookings and backlog. With over $91 million in bookings, team AS&E propelled backlog to a record $223.9 million and we are proud of that.

Strong bookings across all product areas including cargo, Z Backscatter Systems, parcel systems, and service business areas continued the diversification of both backlog and future revenue across all product lines to targeted accounts.

Let's start with revenue. Although revenue in the quarter was impacted by contractual delays, we are well positioned to deliver our historically high backlog on schedule to meet our customer expectations.

As a side note, when you look at Q3 FY '09, that's last year, that was our highest revenue quarter in company history compared to this quarter. Think about it. But it was also the lowest bookings quarter or one of the lowest bookings quarters in company history. This is our example of the lumpy nature of our industry on a quarterly basis. And yet, in spite of the lumpiness, AS&E is a company that consistently has delivered increased year-end fundamentals. So it's kind of a topsy-turvy industry. Nothing has really changed, but by the end of the year each year we've gotten the job done. And we are surprised as everybody that it worked out that way.

Operating income and gross margins. As Ken described, gross margins were strong and consistent with product mix, something that we work very hard to maintain and improve upon (inaudible). By maintaining our focus on cost containment, lean initiatives, and the introduction of new products, we continue to demonstrate our ability to profitably diversify our business.

Independent research and development, IRAD. In our continued efforts to enhance and expand our product offerings, we increased our year-over-year investment in target restructuring and development by 19%. In the last 12 months, we have introduced three new cargo products, our Sentry high throughput portal, the Z Gantry System, and our new high energy MobileSearch that can be purchased with or without a Backscatter capability, consistent to the capability of the ZBV as an option; and two Gemini parcel systems, 75/55 and meter-by-meter.

Our IR&D focus continues to be on new products and product enhancements for the shorter term and new technologies that are in demand by our customers, which should prove to drive future revenue and earnings growth in the mid-term and that's more the "R" side of our R&D.

We recently carefully analyzed the effectiveness of our IRAD program, spending shareholders' money on R&D as you know. That's essentially what we are doing. This IRAD money is shareholders' money that's put to work to grow the business and we are very satisfied with the efficiency of the program. The dating indicated that nearly every system that we fielded over the past four years has experienced a quick payback and a high return on investment since its introduction. So in summary, we feel that we are effectively investing shareholder capital to grow the business. We are proud of that.

Bookings and backlog. As mentioned earlier, our strong bookings in the quarter significantly increased our backlog to a company record of $223.9 million. This is the first time we went over the benchmark $200 million backlog number. Congratulations team AS&E. I note the backlog at the end of Q3 '09, a year ago, was $153.4 million. This represents a 46% increase year-over-year versus the prior year's backlog.

Overall bookings were boosted by the continued diversification of our customer base, both domestic and international and the order contributions from an increased portfolio mix of profitable products, specifically from targeted strategic accounts in market verticals such as ports and borders where we have working hard to increase critical mass.

Bookings in all four product areas improved considerably from the same quarter in the prior year. Historically, Q2 is a very strong bookings quarter with a drop-off in Q3 as we alluded to before. We did not experience that this year in that we've had two consecutive $90 million plus bookings quarter resulting from our increased sales pipeline over the last year and customer demand for our best-in-class products.

It's all interesting – it's also interesting and was mentioned previously by some analyst that AS&E and competitors could buck the industry trend of low Q3 bookings and sure enough, we did. And we continue to receive repeat orders from satisfied customers, which for me is a definitive measure of customer loyalty. The fact that our deliveries are consistently being recorded between 95% to 100% on-time each month is just one reason for that success.

Now, we look at our pipeline – sales pipeline. The pipeline continues to remain very strong in spite of our high bookings. The pipeline reflects balanced market and product diversification, represented by both new and repeat customers throughout the world. I continue to be very encouraged by the healthy mix of products from our total portfolio feeding into all four business areas. We are generating a growing inflow of promising opportunities from a majority of our geographical sales territories, both domestic and international.

So let's review some highlights and opportunities in our product areas. Starting with cargo. This was a very strong cargo quarter with healthy increases in revenue, very substantial increases in bookings. We had significant bookings in the quarter from both domestic and international customers in a variety of market verticals and applications including military, critical infrastructure, maritime ports and customs border applications. These bookings included sales for both the OmniView Gantry and the Z Portal products.

The Z portal System was selected to protect a high profile critical infrastructure facility in the Middle East to screen trucks and vehicles. We are pleased to win this order after a very long and competitive bidding process. This was a breakthrough critical infrastructure order for AS&E. We received the $5.8 million follow-on order from a Middle East customer for cargo systems for critical infrastructure security.

Government agency ordered $2.2 million worth of cargo and parcel screening systems for military checkpoint security. And we were very pleased to receive a $39.7 million order for a range of cargo inspection products from an unnamed customer.

Also, one of our key OmniView installations was completed and accepted at the port of Venice and the Venice port authority debuted the system to local dignitaries and the press and we happened to be there. It was a very enlightening event and a very happy event. This was a huge event for us, demonstrating our ability to crack into the coveted European port market.

Z Backscatter Systems. This was also a very good bookings quarter for ZBVs, especially after a light bookings quarter in Q2. We booked 32 systems in the quarter to a mix of both domestic and international customers. We now have 454 ZBV systems sold since introduction.

Some of the bookings of note included U.S. Customs and Border Protection placed a $19.3 million follow-on order for Z Backscatter Systems. I considered this another ZBV breakthrough. Granted, U.S. customs has been using the ZBV with outstanding results for a few years. However, the volume of this order reflects the importance of this order in helping them to fulfill their critical mission.

Border patrol continues to have tremendous success in the AS&E Z Backscatter Systems with words of thousands of pounds of drug seizures posted on their website every week. Next, a Middle East customer ordered two ZBV systems configured for harsh environments for counterterrorism operations. And we recorded a ZBV sale to an unnamed European customer, a breakthrough order that we've been working on for over a year. Starting to crack into the EU market with ZBV finally and it's happening.

Also, we sold our first ZBV to a state government for law enforcement applications, that's a state – U.S. state. Last, our pipeline for ZBV sales to international customers is growing. As we lined up new potential first-time buyers and as we work with satisfied first-time buyers on their future requirements often, for multiple units.

So once again, we are finding new customers who want to buy that first unit and we are working closely with customers who bought a unit from us found out it has a lot of synergies for their applications and want to book more of them. So that's the way it's worked for us its continuing.

Let's turn to parcel systems. Parcel, we were pleased with our parcel bookings for the quarter. We received a $7.3 million re-order from a Middle East customer for a significant quantity of Gemini systems for checkpoint security. We also received notice that our three Gemini systems have been added to the TSA qualified technology list for air cargo. Inclusion on the QTL allows certified air cargo facilities to purchase systems directly from AS&E and meet the requirements of the 9/11 Commission Act to inspect 100% of air cargo carried on passenger airplanes.

With Gemini's comprehensive threat detection capability including explosives, we believe Gemini is an ideal solution to scan air cargo and we have already started to see quoting activity for this application.

Let's turn to personnel scanning. SmartCheck. Clearly, there has been a lot of activity surrounding personnel scanners or AIT systems, advanced imaging technology as they're now called, since the event on Christmas Day. As you know, we do not currently have a production contract with the TSA. However, AS&E is working hard to get our personnel screening system tested and listed on the qualified product list for TSA, the QTL. The events of the Christmas Day incident call attention to the fact that aviation remains a high priority target for terrorists and that a significant vulnerability still exists for detecting explosive materials on people at airport checkpoints.

We believe personnel screening systems using Backscatter X-Ray technology like our SmartCheck can dramatically improve security at airports when compared to millimeter-wave system. By the way, we've extensively tested and refined our privacy algorithms and concept of operations over the several months since we were in the testing program with TSA to ensure confidentiality and safety of passengers.

Service. This was a good bookings quarter for service as this is a historically light quarter. Overall, service continues to be a strong segment of our business with its high level of customer satisfaction, contribution to the bottom line. Service is one of the cornerstones of our profitable and growing business.

So in closing, although we had a great bookings quarter, it's important to remember that as we continue to grow and rely more heavily on international orders, timing and acceptance of larger orders will be more difficult to predict. It's still a lumpy business. I know people call that the "L" word may hate to hear me say it, but it's the truth.

We have booked $239 million in new orders through the first three quarters of FY '10. Our long-term sales pipeline remains very strong in spite of strong bookings over the last two quarters, which we all see as a very bullish sign. With our continued focus on strategic customers, market acceptance of our new products, coupled with the strengthening of our international channel, we are well positioned to target existing and emerging security inspection opportunities around the world.

Overall, our backlog portfolio boasts a good mix of key accounts for various products in all of our market verticals. This is something we very worked – we've worked very hard to achieve. I kind of liken this to a well-balanced investment portfolio with good diversification and solid risk-reward ratio. We are pleased with the plus-ups in the DoD and Homeland – or the proposed plus-ups in the DoD and Homeland Security budgets and are hopeful that these will be reflected in our pipeline and result in additional new orders over the next few quarters.

We are also very pleased to announce today the addition of Dr. Don Kania to our Board of Directors. Currently, Dr. Kania is President and Chief Executive Officer and a Board member of FEI, a leading diversified scientific instruments company providing electron and ion-beam microscopes and tools for nanoscale applications across many industries. Don brings a wealth of knowledge in technology and scientific research, as well as executive senior management experience for global companies. His expertise will provide us with valuable insights on our advanced research and development efforts to enhance and introduce new products as AS&E continues to grow as a best-in-class developer of X-ray detection systems. Science is a top priority at AS&E.

In closing, we are very pleased to announce the $0.30 per share dividend this quarter, which represents a $0.10 per share increase over the last quarterly dividend declared of $0.20 per share of common stock. This is a result of strong customer loyalty and the outstanding work of our people at AS&E. It is part of our commitment to deliver increased value to shareholders and it demonstrates our confidence in future earnings and cash flow. We are excited about achieving performance levels that enable us to reward our shareholders, while continuing to support and fund our existing and future programs.

I thank you and I will now turn the call back to the operator for questions.

Question-and-Answer Session

Operator

(Operator instructions) And your first question comes from the line of Steve Levenson of Stifel. Please proceed.

Steve Levenson – Stifel Nicolaus

Thanks. Good afternoon, Anthony and Ken.

Ken Galaznik

Good afternoon.

Steve Levenson – Stifel Nicolaus

You alluded to some contractual requirements. Could you give us a little bit more detail on how that works? Is it related to delivery timing?

Anthony Fabiano

Well, we've had a couple of issues, Steve. One was we've experienced some protest in the last quarter that either prevented us from booking business or caused us to book it too late to be able to ship in the quarter. That's one of them.

Steve Levenson – Stifel Nicolaus

That's protests on domestic government contracts?

Anthony Fabiano

Correct. And the others just have been some delays in closing contracts in a – with the economy as it is worldwide, things like closing our Letters of Credit and the details of contract become far more complicated, it takes a little longer. And you can always book them as fast as you like. And that puts a little more pressure on you to get it out the door.

Steve Levenson – Stifel Nicolaus

Okay, thanks. In relation to contracts and bookings, you did have a press release recently about a de-booking or de-obligation of funds. Has your backlog been adjusted for that or will that be a fourth quarter event?

Ken Galaznik

It was not included in backlog, Steve.

Steve Levenson – Stifel Nicolaus

So it’s already out?

Ken Galaznik

Correct.

Steve Levenson – Stifel Nicolaus

Okay. And last, you talked about spending for the midterm on some new technologies. What can you tell us about that?

Anthony Fabiano

Well, things like scatter attenuation tomography that has resulted in some new products that we brought to market like our Bottled Liquid Scanner that's soon to be tested by the TSA, that technology and related technologies that I can't get into for competition-sensitive reasons, but I gave you a little piece, are things that we are pretty excited about and we have very strong intellectual property rights to cover.

Steve Levenson – Stifel Nicolaus

Great. Thanks very much.

Anthony Fabiano

Welcome.

Operator

Your next question comes from the line of Brian Ruttenbur of Morgan Keegan. Please proceed.

Brian Ruttenbur – Morgan Keegan

Yes, thank you very much. First of all, on the gross margin, the – because of mix. Do you anticipate this mix to be more at this level going forward for the next couple of quarters?

Ken Galaznik

Brian, that's tough in our world. With some of the things Anthony was just referring to, with some shifting going on and this type of thing, it's really hard to talk about mix as we anticipate it going forward.

Brian Ruttenbur – Morgan Keegan

Okay. How about the number of ZBVs booked in the quarter?

Ken Galaznik

We booked 32 and we shipped 16.

Brian Ruttenbur – Morgan Keegan

All right. In your backlog, how much is in – of that $223 million is ZBVs?

Ken Galaznik

Brian, we don't break out our backlog by product line.

Brian Ruttenbur – Morgan Keegan

Okay. I wish you would. SG&A in the quarter, how much of that is really one-time in nature? You've been running around the $8 million or so, $8 million, $8.5 million and to pop up to $9.6 million. I'm trying to figure out what's a more realistic number going forward.

Ken Galaznik

Well, the going forward number is going to be fun to talk about, but if look at even our comparable quarter last year; we were at $9.1 million in Q3 of last year. So what you are seeing is, as we get through the year as we get some clarity as to how we are doing compared against our performance-based goals, you starting seeing incentive compensation accruals coming into play.

Brian Ruttenbur – Morgan Keegan

Okay. So do you anticipate SG&A to be at this level going forward or was this kind of a make-up quarter – third quarter is your makeup quarter? And then what you did last year is you had $0.5 million drop from third quarter to third quarter.

Ken Galaznik

We did last year, you are right. And again, it will depend on performance results and how we stand up against those measurements.

Anthony Fabiano

Much of our compensation, Brian, is performance related and that's across the board. So that's something that we have to deal with and kind of work with as we go through the year. And by the way, I want to just tease you a little bit. Last quarter, you guys beat me up a little bit because we didn’t book enough ZBV, so we've booked a bunch this quarter. So hopefully more of them are in our backlog than last time.

Brian Ruttenbur – Morgan Keegan

Okay. The on-funded number, you mentioned, Anthony – I don't know if it was Anthony or Ken, which one of you guys mentioned the on-funded backlog. I didn’t catch that number. Can you mention that again?

Ken Galaznik

Yes.

Brian Ruttenbur – Morgan Keegan

Ken? Perfect.

Ken Galaznik

Absolutely. It was $22.3 million.

Brian Ruttenbur – Morgan Keegan

Okay. The R&D going forward, maybe you can talk a little bit about that. Should I expect kind of third quarter numbers going forward or is this – was this a normally low number?

Ken Galaznik

I guess the only color I could add to that, Brian, is we did have some work that we did in the current quarter on processes improvement, looking at coming that was not charged to IRAD, that was looking how to better deploy recent villa of [ph] projects, products, those types of things. So – I mean, we did have a distraction – somewhat of a distraction in the current quarter related to processes improvement.

Brian Ruttenbur – Morgan Keegan

So does that mean that your quarter was abnormally low? Is that what you are saying, for R&D?

Ken Galaznik

Process improvement would have the effect of taking dollars out of R&D, yes.

Anthony Fabiano

It was less than desired.

Brian Ruttenbur – Morgan Keegan

Okay. Okay, so more than likely with that concluding – it concluded in – by December, right?

Ken Galaznik

We got a lot of it done by then, yes.

Brian Ruttenbur – Morgan Keegan

Okay. So logically, things would go back up then from these levels?

Ken Galaznik

If one were to follow that logic, I think you can deduce that, yes.

Brian Ruttenbur – Morgan Keegan

Okay. And then the tax rate going forward, 35.5%. You don't expect anything changing next fiscal year either? Is there anything funny coming up?

Ken Galaznik

At this point, we are not aware of anything next year. You are getting into a different time frame; it will be interesting to see if anything should change. But at this point, we are not aware of anything.

Brian Ruttenbur – Morgan Keegan

Great. Thank you very much.

Anthony Fabiano

You're welcome.

Operator

Your next question comes from the line of Edward Marshall of Sidoti & Company. Please proceed.

Edward Marshall – Sidoti & Company

Good evening. Thanks for taking my call. The – just to follow up on a question Brian started here, the seasonality that you saw with the SG&A in the quarter and the catch-up, is the accrual on a calendar year or a fiscal year?

Ken Galaznik

Fiscal.

Edward Marshall – Sidoti & Company

Fiscal year? Okay. And then you had mentioned the shipments or – I'm sorry, the bookings of the ZBV in the quarter. Was there a breakdown for trailer versus Z Backscatter Systems or is that included in that number or is there a separate number?

Ken Galaznik

32 [ph] units would be all vans.

Edward Marshall – Sidoti & Company

Was there any trailers booked in the quarter?

Ken Galaznik

There were not.

Edward Marshall – Sidoti & Company

Were there any trailers shipped in the quarter?

Ken Galaznik

There were four.

Edward Marshall – Sidoti & Company

Is that in that 16 number?

Ken Galaznik

No, sir.

Edward Marshall – Sidoti & Company

Okay. The next question and I don't think you are going to answer, but I have to ask it anyway. Bookings in the quarter, can you kind of break that down from equipment booking versus services bookings? As I look back to last year, there was an awful lot of Z Backscatter Systems booked in the third quarter of fiscal '09 and I would imagine after the one-year time rise, a lot of the service contracts came into play this year. Would that be a fair assumption?

Ken Galaznik

That's another thought. Again, if you look at the $91.3 million [ph], if you went back and looked at the press releases, a lot of that was flow – was released in press release and the lion's share of that is going to be equipment.

Edward Marshall – Sidoti & Company

And do you have a timeline on the whole-body imaging product approval?

Anthony Fabiano

Boy, I wish I knew. We are doing everything we can on our end. And beyond that, it's pretty much out of our control.

Edward Marshall – Sidoti & Company

Everything has been submitted and ready for testing. I think that's what you said. I mean, it's just a matter of whether or not – how long it takes them.

Anthony Fabiano

We are pretty to close to that. We haven't actually been given the green light to send equipment down to be tested yet. No.

Edward Marshall – Sidoti & Company

Okay. And so what – in a historic sense, how long does that timeline usually take from once the product is shipped?

Anthony Fabiano

I don't know. Three years ago, we went through testing and we went through a pilot program at airports. And two years later, we still didn’t have an order. But circumstances are different today and there is a higher sense of urgency and I'm really hopeful that the fact that they purchased Backscatter Systems now in addition to millimeter-wave systems that they would be anxious to get us into the program and get some more competition. Let's see.

Edward Marshall – Sidoti & Company

And then of course, you have a pretty hefty cash balance here. Mentioned – this has been mentioned a few times over the past couple of quarters. There is a stock repurchase program, you just raised the dividend. What other potential cash uses do you foresee?

Ken Galaznik

Ed, it would really be kind of the same response we've had in prior quarters.

Edward Marshall – Sidoti & Company

Okay.

Ken Galaznik

– continue to – the repurchase program is still in effect.

Anthony Fabiano

We are looking for opportunities.

Ken Galaznik

We are – definitely we have been looking. It is –

Anthony Fabiano

We're disciplined.

Ken Galaznik

It is a very challenging environment to find and properly evaluate those opportunities. We all know what valuations have been in the not-too-distant past and honestly, that didn’t decrease that much during the financial difficulties we've had in the last 12 months. But we are still diligently looking at and we pay attention and try and keep up with it. We are not going to do it just because we can. It has to make economic sense and has to be proper use of that cash or we are just not going to do it.

Edward Marshall – Sidoti & Company

Okay. Fair enough. Thank you very much.

Ken Galaznik

Thanks. Have a good day.

Anthony Fabiano

You're welcome.

Edward Marshall – Sidoti & Company

You too.

Operator

Your next question comes from the line of Josephine Millward of Benchmark Company. Please proceed.

Josephine Millward – Benchmark Company

Good afternoon, Ken. Good afternoon, Anthony.

Ken Galaznik

Good afternoon.

Anthony Fabiano

Good afternoon, Josephine and congratulations on your new position.

Josephine Millward – Benchmark Company

Thank you, Anthony. Kind of I missed the revenue breakdown. Do you mind going over that for me again?

Ken Galaznik

I'd be glad to. Let's go back at – cargo $14.1 million, Z Backscatter Systems $16.5 million, parcel $3.5 million, field service $20.2 million, and R&D was $572,000.

Josephine Millward – Benchmark Company

Perfect. Great bookings during the quarter. Can you give us a sense of how much of your funded backlog do you expect to ship in the coming year?

Ken Galaznik

Josephine, off the top of my head as we sit here today, probably looking in the 75% and that's coming up the next 12 months, 75% to 80% maybe, but in the next 12 months. That's what I would anticipate.

Josephine Millward – Benchmark Company

Okay. Even on the large – even on the large – larger programs like the $40 million contract you just announced?

Ken Galaznik

As I'm sitting here, I'm trying to kind of work that through my thinking how that would apply in the next 12 months and I think we are in the race for that. Yes.

Josephine Millward – Benchmark Company

Okay, great. That’s good to know. The contract that was de-obligated with CBP, can you give us a little more color on what happened there and whether we could see that coming back to you in the near term?

Anthony Fabiano

Yes. What my understanding, Josephine, is that they need the equipment, they have the money and they just need to sort out how they are going to award it as a result of the protest activities. So all the competitors have either held their bids, resubmitted their bids and it's up to the government to decide and we've all been waiting for some time. There is a hefty due diligence legal process that they have to go through and – but I expect that they will spend the money. And we are optimistic that we will get our fair share.

Josephine Millward – Benchmark Company

Sounds good. Can you give us an update on the army's requirement for Afghanistan? As you know, they've issued a pre-solicitation for their requirement in Afghanistan. Can you give us a sense of timing and when something might be awarded?

Anthony Fabiano

No, I really can't give you a sense of timing and when something will be awarded. Even if I gave you a good guess, I'd wrong because things just work that way. No good deed goes unpunished. That's really the bottom line. You probably know as much as I do about the requirement.

Josephine Millward – Benchmark Company

All right. That’s it for me. Thank you, Anthony.

Anthony Fabiano

You are welcome.

Operator

Your next question comes from the line of Sarah Catherine Phillips of Stephens. Please proceed.

Sarah Catherine Phillips – Stephens

Good afternoon.

Ken Galaznik

Good afternoon.

Sarah Catherine Phillips – Stephens

Great bookings this quarter. And I just have a couple of quick questions. You mentioned that part of the strength in the bookings are coming from the field services – field service revenue or field service line. Should we start to see that revenue pick up from here, because it's been a little bit lower than it had been trending last year?

Ken Galaznik

I think Anthony's comment was that compared to prior – the third quarter prior year, field service bookings were pleasant, but as far as being a significant part of the current quarter, that wasn't – that was not so.

Anthony Fabiano

Yes, Sarah Catherine, this was not a strong bookings quarter for us. For service, it was a strong revenue quarter. Q2 is typically when we see pretty hefty service bookings and we did in Q2 [ph]. But no – as Ken said earlier, our backlog or our bookings were mostly equipment.

Sarah Catherine Phillips – Stephens

Got you, got you. And then I missed what you said had been so far in the quarter.

Ken Galaznik

Current quarter?

Sarah Catherine Phillips – Stephens

Yes.

Ken Galaznik

We didn’t say.

Sarah Catherine Phillips – Stephens

Okay.

Ken Galaznik

Our Q4?

Sarah Catherine Phillips – Stephens

Yes. I thought you said you had a given level that you've – of booking so far.

Anthony Fabiano

No. We said that in Q3, we booked $91.3 million.

Ken Galaznik

Correct.

Sarah Catherine Phillips – Stephens

I must have just misheard.

Sarah Catherine Phillips – Stephens

Thank you.

Operator

Your next question comes from the line of Michael Kim of Imperial Capital. Please proceed.

Michael Kim – Imperial Capital

Hi, good afternoon, guys.

Ken Galaznik

How are you doing, Michael?

Michael Kim – Imperial Capital

So just touching on cargo, you've announced some pretty significant wins over the last couple of quarters and in all likelihood, that's been a pretty significant driver in your backlog. Can you talk about what your thoughts are on the revenue ramp as it relates to those awards, if Q4 into 2011 looks like similar sequential improvements that we've seen in the last – in Q3?

Ken Galaznik

Michael, I really couldn’t. We are pleased with the bookings for – from our side of the table from a cash flow standpoint, from an operation standpoint they roll out when they roll out. But I really couldn’t talk about which quarters I would expect that to happen in.

Michael Kim – Imperial Capital

I guess, may be another way of asking is would it be reasonable to expect a fairly significant ramp in cargo revenue recognized over the next 12 months just based on that contract activity?

Ken Galaznik

I think yes, if you look at over extended period in that fashion, I think that's not unfair.

Michael Kim – Imperial Capital

And most of that you would expect in fiscal 2011 or also visibility beyond that might be limited?

Ken Galaznik

Hard to say.

Michael Kim – Imperial Capital

Okay. And then on parcel, that's been a pretty nice turnaround in that business. Is it your sense that the – that business should remain stable around these levels or was that a particularly heavy shipping quarter?

Anthony Fabiano

Well, we got a big order. That was a good thing. And I don't know if you know this, Michael, but five years ago we were basically just about out of the parcel business, had obsolete equipment and it wasn't our highest priority in the first three years of our turnaround. But now that we've come on, we've just come out with what we consider to be the best-in-class parcel systems out there. And the world is just getting to know them.

So a couple of customers latched on to them and said, "Oh my god, this stuff is terrific, it's better than anything out there, it's the best deal on the market." And there is a lot of others that still are exploring it. So it's going to take us a while for this market to – this product line to really unfold for us. And I'm not trying to be – not try to be circular here, but the – I guess, the direct answer is it's going to take a while and we are going to hit a couple of big ones and we are getting a lot of smaller orders as well.

Michael Kim – Imperial Capital

And was most of the shipments in the quarter driven by the newer product lines or a mix of some of your existing, as well as new products?

Anthony Fabiano

Mix.

Michael Kim – Imperial Capital

Okay. Okay. And let's see here – and Ken, just going back to the gross margin question, if I maintain the Z Backscatter margins, it looks like all the other segments, cargo and parcel, field service, all had a fairly significant step-down in gross margin sequentially. Can you give a little bit more detail what was the primary decrease, was it cargo or was that across the board and if this – if these levels are sort of the right levels to be thinking about going forward?

Ken Galaznik

You are comparing the quarters?

Michael Kim – Imperial Capital

Q3 to Q2. Correct.

Ken Galaznik

You are looking – just in a rough combination; you are looking at fairly insignificant decreases across all.

Michael Kim – Imperial Capital

Okay. So on – I guess on a blended basis, maybe you could explain, because it's not – you talked about revenue mix being the major driver, but if I were to maintain gross margins on the Z Backscatter business, just mathematically, the other segments would have to come down.

Ken Galaznik

Right. When I look at – when I talk about mix, though, I commented on the swap between cargo and ZBV.

Michael Kim – Imperial Capital

Okay.

Ken Galaznik

Just to compare the two, if I look at Q2 cargo, it was $10.4 million, Q3 is $14.1 million, so a significant increase. And if I look at Q2, ZBV was $28.4 million and in Q3, it was $16.5 million. So that's going to have – that's going to impact your margins. Now, keep in mind, we are still talking 41.2% margins.

Michael Kim – Imperial Capital

Great, great. Now, maybe another way of thinking about it is low-40 is probably the target range for your overall business going forward?

Ken Galaznik

It's fun to have targets. We got to kind of deal with what comes our way. If you go back to the '09 year, you are looking at 42% gross margin with a pretty decent product mix that I would like. As far as what happens going forward, we just have to deal with the mix as it comes.

Michael Kim – Imperial Capital

Okay. And then on field service, do you have any upcoming spare part surges, just given some of the shipments that you have or expecting to deliver in – over the next 12 months?

Ken Galaznik

Over the next 12 months? I'm sure we will.

Michael Kim – Imperial Capital

Okay. And that would be consistent with prior years?

Ken Galaznik

Hard to say on that.

Michael Kim – Imperial Capital

Okay. And then just on the overall backlog, I know you can't break it down, but do you have a sense or do you have any visibility on how much of that backlog is recognized as revenue over the next 12 months?

Ken Galaznik

I estimated earlier, just as I sit here today trying to just kind of squeeze something into it, something in the 75% to 80% range.

Michael Kim – Imperial Capital

Okay. And Anthony, maybe a high-level question. Do you have any thoughts – initial thoughts on the DHS budgets and how that might – what the opportunities might look like for you?

Anthony Fabiano

Yes, good question. I actually think – I'm pleased, to be honest with you. I mean, we are hearing that the Homeland Security budget could be plus-ed up by the President, almost $1 billion and that there is provisions in there for AIT systems. And I'm hearing the same thing in terms of the DoD budget that it’s – could be up now to in the neighborhood of $750 billion including the war fighter supplemental requirement as proposed. And both of those things would be good for us. I mean, I don't know if there will be line items in there that we will actually capture, but the odds are that we will get something. And so we are happy about it, obviously.

Michael Kim – Imperial Capital

Great. Well, thank you very much.

Anthony Fabiano

Thanks.

Operator

Ladies and gentlemen, there are no further questions in the queue at this time. If you wish to access the replay for this call, you may do so by dialing 888-286-8010 for U.S. callers and 617-801-6888 for international callers with the conference identification number of 888569058. An audio replay will also be available on the AS&E website at www.as-e.com in the Investor Information section.

This concludes our conference for today. Thank you all for participating and have a nice day. All parties may now disconnect.

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