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Sparton Corporation (NYSE:SPA)

F3Q10 (Qtr End 03/31/10) Earnings Call Transcript

May 18, 2010 10:00 am ET

Executives

Mike Osborne – SVP, Business Development

Cary Wood – President and CEO

Greg Slome – CFO

Analysts

Andrew Shapiro – Lawndale Capital Management

John Roff – Argon Capital

Jonathan Haines [ph]

Question-and-Answer Session

Operator

(Operator instructions) Our first question comes from the line of Andrew Shapiro, President of Lawndale Capital Management. Please go ahead.

Andrew Shapiro – Lawndale Capital Management

Hi, good morning. I'm calling in from offsite. Can you hear me okay first?

Cary Wood

Yes, we can Andrew.

Andrew Shapiro – Lawndale Capital Management

Okay, great. I'll ask a few questions and get back in the queue because I know there maybe others here. Greg, can you discuss or point out what items of note, good or bad that non-recurring in the recent quarters financial results?

Greg Slome

Yes, Andrew. I'll take that. Really only three items of note. One of them is the gain on the sale of the investment in the Cybernet stock which amounted to income of $200,000 in the quarter. We then had the federal income tax carry tax benefit that was recognized in the quarter of $234,000 and those two items being partially offset an additional $237,000 of restructuring expense, the net impact of those three resulting in about a $200.000 positive impact of earnings in the quarter.

Andrew Shapiro – Lawndale Capital Management

Okay, thank you. And the other large vacant parcels, since in May you took care of the Coors Road. The other parcels – first up, they're generating about how much cost either quarter or a year in aggregate, you'd have to do individually, the status of the monetization of each of these other parcels.

Greg Slome

Just as a reminder to all callers, there's three separate parcels that are Jackson, London and Albuquerque. The book value as it stands today on the combined three is roughly $6.5 million, $900,000 of that attributable to both Jackson and London. We're in the midst of disengaging with the current listing companies on each of those three, at least two of the three. We're exploring two new options on both Jackson and London and in all cases, as you would expect by the end of this year will reassess the book value of each of the three by reengaging in appraisals. I think as we look ahead – I think our generally our budgeted expense across the totality of the three remaining units is about $500,000 in total and we expect that there is an opportunity for us to address that expense over the course of the next several quarters with some creative options.

Andrew Shapiro – Lawndale Capital Management

Okay. So the last quarter, you thought that by the end of the fiscal year that would end in the end of June, you might have had some developments on, or two of these remaining three is the disengagement of the broker imply that those due to a lot of bad orders still maybe feel your quarters.

Greg Slome

No I think that we continue to be optimistic that two of the three properties, we can achieve some kind of an engagement with a potential with a potential suitor. But this engagement with the broker doesn’t imply that those deals started to unravel. Frankly it was more matter of not needing to go through traditional commercial real estate channels to make it happen. So we continue to work on two of those three. The third, Albuquerque is one where we have entertained offers but they have been offers that have been muddied with significant contingencies including state funding and that made it difficult to get those things moved at the current asking price. We haven’t adjusted our asking price. We haven’t done anything with the current valuations on the property but we will be revisiting that so as to perhaps accelerate the attraction of that particular property given the expense and the carrying cost and potential CapEx types of liabilities that each of the three properties could present over the course of the next year. So we're moving diligently on each of those three, two of them again back to your fundamental question. I'm fairly optimistic we can get resolved in some way, shape or form between now and the end of our first quarter.

Andrew Shapiro – Lawndale Capital Management

Great. I do have questions on your segments as well as some of the other overall issues. I'll back out into the queue but please come back to us.

Cary Wood

Yes, thank you.

Operator

Thank you. Our next question comes from John Roff, Portfolio Manager at Argon Capital. Please go ahead.

John Roff – Argon Capital

Hi guys, a few questions for you. Is it possible for you to give sort of an overall blended utilization rate across your facilities currently?

Greg Slome

Yes, I think with the downturn in what we call our EMS segment having gone previously from five significantly under utilized facilities to two, one in Vietnam and in Brooksville, I think generally its safe to suggest that our Brooksville facility will be about 50% utilized. Our Vietnam facility, while we project a significant uptick in volume going in to 2010 we're seeing significant uptick in 2009 compared to '08, its still significantly underutilized and we would suggest that its around 25% or thereabout. But we do believe, as we have been projecting all along and certainly as we look into 2010 that both Vietnam and our Brooksville will provide for opportunities and certainly be cash flow positive going into 2010.

But on a combined basis, I think generally you're looking at two facilities within what we call our EMS being less than 50% utilized and a blended average of probably around 40%. As we look at our medical segment, it’s a little bit different of a story. It is generally a facility that has hovered in the high $60's million low $70 million revenue range. We're introduced certain engineering revenue this year but to introduce new productions opportunities are going to start to hamstring our capabilities there from a capacity perspective.

I think it's fair to suggest that that facility is in excess of 80% utilized. But I also think it's fair to frame some of our previous comments around regionalizing our capacity in a way that would avail ourselves to West Coast customers and we continue to seek out those types of opportunities to address what we believe to be more near term capacity constraints in our medical segment. But again I would suggest that’s a 75% - 80% utilization.

Our third segment is our defense and our security systems. We've spent a great deal of time and effort in the preceding quarters to better utilize more space and to streamline the production where I believe we gain more core space and available capacity than what we had, at least we thought previously. I would suggest that as it stands today and the way that we schedule production that it’s a facility that hovers around 60% utilization.

John Roff – Argon Capital

Okay, okay great. Is it fair to assume, given your sort of soft guidance for I guess reasonably thought revenues for your fourth fiscal quarter over the quarter just reported that we sort of reached a revenue base and that the bulk of the disengagements, certainly in the EMS business are behind you at this point?

Greg Slome

No I think you've characterized it exactly correct. We believe we've reached a low water point. While I don’t want to give specific guidance, we are starting to see some level of uptick in backlog which would suggest that it is hard orders that have been received that is taking our backlog numbers up, compared to previous quarters.

Our third quarter was exactly as we expected it could be, particularly soft in January, as was the case in the preceding two years. And so the results were what we had expected, having fully realized the full disengagement from three separate customers that stayed with us in the first and second quarter beyond that which we expected, both in duration as well as volume.

So I think we believe and we're starting to see objective evidence that we've reached a low point. The softening in medical was somewhat unexpected and we don altogether expect debt to recover going into the fourth quarter but I also believe that’s been partially if not almost entirely offset by DSF revenue. So I think more of the volume downturn in our third and continuing into our fourth quarter is more about our EMS business that we expected to reach this low water point and as we go ahead and take a look into fiscal 2010 budget, I think it also further suggests that we'll start to see that come right back around going into our second, third and even in the fourth quarter.

John Roff – Argon Capital

Okay, okay. Just two last questions for you. You've mentioned on a couple of different occasions that the company is looking at some inorganic growth opportunities or plans as well which I would assume means potentially some M&A activity. Could you maybe put a little more color just from a qualitative standpoint around what you might be looking for there, given that in the existing facilities at least on an EMS side, utilization is relatively low? Could you maybe just add a little more color there?

Greg Slome

Yes, sure. Each of the three business segments, I think it would be fair to suggest that in rank order or priority, our medical with some level of higher capacity utilization has us looking to solve that opportunity more near term than not. I also had mentioned in previous calls that our geographic location, while ideal for east and mid west, it certainly is challenging for a west coast customer base and it gives us an opportunity to address a geographical expansion and that’s certainly a more near term priority, specifically within medical EMS.

On the other end other spectrum is obviously one that we continue to look at our utilization and bring about more organic opportunities without having to address our capacity in any newer or hard assets and from a standpoint of DSF, as you well know, its certainly overachieved from a standpoint of its profitability and I think that our floor space and capacity would avail ourselves to looking for a product line extension and could do that through some level of M&A. But I think the bigger opportunities lie within the medical space and that’s certainly where we prioritize any type of M&A activities we’ve engaged ourselves in.

John Roff – Argon Capital

Okay, great. Just one last question. You had mentioned on the last quarterly call that sort of you didn’t want to formalize it but you said that potentially there was an upward bias to your long term gross margin targets as you sort of relooked at the cost side of the business and what you guys have been able to achieve there.

In your mind is that still the case, did anything change this quarter just to change your mind in that regard or do you still feel pretty optimistic about the costs and what those gross margins might look like going forward.

Greg Slome

No, I maintain the same position that we have had in our previous call. We certainly were not pleased with what we saw in the way of one customer softening in our third quarter because of their own internal engineering issues. We overextended ourselves to perhaps bring resolution to that problem certainly to our benefit but that didn’t materialize in our third quarter and quite I am not that optimistic that it's going to materialize in the fourth quarter.

Now, that certainly has a mixed implication and as you can see in our gross margin third quarter compared to the proceeding two quarters particularly in our medical segment it has it's affect and then that has – therefore it's consolidated effect but not so dramatic as to majorly swing our outlook. We continue to maintain a 15% gross margin outlook for the course of our fiscal year. We’ve achieved that up to 16 between now or since the beginning of the year up till now.

So, that outlook continues to maintain pretty firm. As we look ahead going into next year you’re certainly going to have the implications of improved volume, you’re certainly going to have further implications of enhancements in operating performance and cost. So, my outlook continues to be as like I mentioned in the past that we don’t see deterioration in our gross margins.

John Roff – Argon Capital

Okay, great. Thanks a bunch and nice job this quarter.

Cary Wood

Thank you. We appreciate it.

Operator

Thank you very much. (Operator Instructions). Our next question comes from the line of Jonathan Haines [ph], private investor. Please go ahead, sir.

Jonathan Haines

Good morning gentlemen, just from the structure of the real estate sale that you have completed, it sounds as if the perspective owner will be taking over responsibility for future property taxes and maintenance expenses, this is kind of like triple net lease type arrangement, can you confirm that?

Greg Slome

Yes that is true.

Jonathan Haines

Okay and what kind of reduction in your ongoing expenses related to that property deal expect from that sale and then maybe you could giver us some idea of the magnitude of the ongoing expenses on an annual basis for the other properties that you have to say.

Greg Slome

Overall in regards to the ongoing cost related to the Coors Road property, that really since 1999 we have operated with car dealership under a lease agreement with them and the sale of the property is to the car dealership.

So, really there is we really don’t expect to see much of a change in the ongoing carrying cost related to that property on a go forward basis and I think in regards to other properties as Cary had mentioned before the three remaining properties that we held for sale we in the third quarter I believe we have incurred a little bit of over $500,000 in total carrying cost for all three facilities combined. We expect that to come down as we move forward into our fiscal 2011 but until we actually disclose those properties we will still have an ongoing carrying cost associated with them.

Jonathan Haines

So a few cents a year per share basically?

Cary Wood

Be less than a –

Greg Slome

I would say a little bit less than that. Probably the current run-rate we are at right now and we would expect those cost to start decreasing as we move into fiscal ‘11.

Jonathan Haines

Okay and then just to follow up on the previous questions. How are you prioritizing use of capital for M&A versus share repurchase or something along those lines?

Cary Wood

Well it's a complex question, I appreciate it's – at this point everything we have done in the proceeding quarters has been about stabilizing the company’s operating performance first getting to operating cash flow and it meant reinvesting in the infrastructure whether it be buying down leases or investing in productivity related equipment or closures whatever it was that’s where we have prioritized near term cash consumption and as we prioritize looking ahead, the liquidation of excess properties for instance that we’re doing nothing other than consuming profits through maintenance and upkeep expense. We have at least materialized on one of those sales, we are optimistic on two more of the remaining three if in no other way to reduce the cost and maintenance expense associated with them.

I am not greatly optimistic that they will bring a lot of in the way of cash frankly and then once that we have depleted what we believe to be the more near term cash generating opportunities. We will start to evaluate where we believe the best use of funds might be. We have been reluctant particularly in the proceeding quarters to act on any buyback provisions…

Jonathan Haines

I think that’s very understandable given your experience for the last couple of years.

Cary Wood

And I think that’s exactly where our heads been, it's to be far more prudent but as I say that I think we are nicely positioned with hardly any debt going into our fourth quarter. Having reached what we believe to be a crescendo moment of cash given what we believe we can do with our assets. We have reduced down inventory to what we believe to be kind of an ongoing manageable level with some additional opportunities with no where near as incremental as what we saw it to be in and it materialize to be in 2009.

So, I think we are in a spot now with no debt, certain level of cash that will look for opportunistic M&A and so, in priority I think where we can find a good opportunity to build on in our medical space, in a geography that fits into our strategy, in a way that is opportunistic and is frankly affordable is in line with the way we will prioritize the use of our cash. I hope that answered the questions, was probably lengthy but.

Jonathan Haines

Probably as best as you can give the current – thanks.

Cary Wood

Very good. Thank you.

Operator

Thank you very much. Our next question is a follow up question from Andrew Shapiro, President of Lawndale Capital Management. Please go ahead.

Andrew Shapiro – Lawndale Capital Management

Okay, I am trying to I just want to confirm following up on I guess it was Mr. Ross questions, is that do you maintain your long term growth margin goals for the various segments and if you could comment about how you are progressing towards these goals if it is now at a point where it's just revenue growth that gets you there or what the opportunities in DSFs, you said your goal is 15% to 18% margin, medical 13% to 15% and EMS turned to 12%. These goals are still intact and how do you get there? Is it purely revenue or you have initiatives go in progress that should get all or…

Cary Wood

The guidance on each of the three businesses from a gross margin standpoint remains intact. We are in the final stages of buttoning up what we will be proposing as our fiscal year 2011 operating plan and those types of projections are materializing.

Not fully realized obviously but they certainly are evolving at a rate that we would expect. DSFs, as you are well aware has outperformed our guidance and I think we are reaching a point where we feel fairly comfortable that the quality systems and the lean deployment steps that we have introduced have been fairly institutionalized. So, where as we were projecting in the upper teens even some low 20s we are starting to see that be far more sustained on a quarter-over-quarter basis. Now as I say that I think it's far to suggest that volume has played its role and that foreign sales mix has played its role.

Both of which are controllable to a point but certainly feel like there are some additional cash opportunities and I think it will come in the form of revenue and I think it will particularly come in the form of new product development and vertical offerings out of that business that have been significantly under-materialized in the past.

So, again on DSFs the guidance remains intact, I think we have outperformed to that guidance up to now certainly, I think it's safe to say that we are going to probably get to a sustained level of high teens low 20s out of that segment looking ahead.

On the other end of the spectrum our EMS guidance has been to get to a roughly a 10% plus gross margin performance. I still maintain that outlook; we have certainly been pretty hard on that business and the expectations for performance. It's a very difficult segment, if for no other reason it's – the working capital demands are intensive. The engagements with very large customers are demanding and the pricing is rather difficult.

Now as I say that we continue to recognize where there are internal operating methods that we can improve upon. There are certain supply chain initiatives that we can act upon and there are customers that we can extend with, and there are new customers and engagements that we haven’t even begun to ramp-up.

Particularly on current customers, I think it's safe to say that business almost in totality was placed in to a penalty box of short being that its own customers recognize either failed performance on delivery and fill rates and quality and in doing so, that combines with financials to be essentially placed it on no bids and did hopeless.

Postings have now in the previous quarter been removed, and the opportunities for growth will only help the performance as fixed cost could absorb. I'm optimistic of the 10% plus performance out of our EMS segment. I do expect and it's going to take the remainder of the majority of our fiscal 2011 to get there.

I think we’re going to see a certain uptick particularly in the third quarter of fiscal 2011, but we’ve certain internal thresholds that will lead us up to a certain point by which we revisit that business as a whole if performance isn’t achieved, but I think for now we’re optimistic. We remain very engaged in that business and we’ve a fairly optimistic outlook given what we’ve been seeing internally and what types of things we see coming up in the next several quarters.

Medical, it certainly met challenges here in the last quarter. It has had a single disengagement at least we believe temporarily given some engineering delays, and going in the fourth quarter, I frankly don't expect that to turn right that around. And looking at budget and outlooks, I think it's fair to suggest that the gross margin performance is going to continue to be in that 14%, 16% range.

It is a fairly fixed cost, labor cost intensive business and we’re going to have to be diligent about how we attack our bill of ladings that are provided to us in quotes for us to materialize additional opportunities. I think that business and its gross margin enhancement is going to come more in the way of volume than the other twos opportunities that suggest to be.

A long answer to question, I think the simple answer is that we maintain our guidance on gross margins over the course of fiscal ‘011. They are still intact. Yes.

Andrew Shapiro – Lawndale Capital Management

So let’s focus on that medical segment in a few ways. First of, your script said that you have taken operational right sizing to offset reduce sales volume that will be realizing future quarters, can you elaborate on what that means? I'm assuming with respect to medical and this particular issue?

Cary Wood

And what’s safe to see is that it took the better part of the third quarter to really definitively to come to conclude that a certain customer, and their projected volume wasn't going to materialize. We saw delays in January. We saw delays going in the February. We were optimistic or hopeful rather that we were going to be able to recover that revenue by providing solution.

The solution became far more difficult and further outside the control of Sparton because it wasn't a Sparton part. It was a tangential part but it affected the unit. And to that in mind by the same time we got to February well into our third quarter. We started to take immediate action to contract cost, variable cost labor in particular. And while you won’t see that obviously in the third quarter, if the sale does materialize and as I’ve said I don't expect it will go into our fourth quarter. I think it will start to see the right sizing effects more into the fourth quarter than you would have seen. Have we acted on day one of third quarter which obviously would make sense given what we’re attempting to do?

Andrew Shapiro – Lawndale Capital Management

Like in what is the status of that medical product fixed you mentioned you’ve – Sparton extended to a sister customer to eventually advantage Sparton, what do you mean by that?

Cary Wood

I mean obviously the revenue is to our benefit. We would have liked to extended our engineering capabilities in a way that had Sparton front center as a solutions provider. It did extend ourselves [ph]. Unfortunately, it was an issue that fell well outside of Sparton’s wheel house because it’s not our pat and certainly with that in mind, we would like to solve it to take advantage of the revenue in the quarter that didn't materialize and so we responded with the contraction of cost in our third quarter, but obviously late. And our hope is that going into the fourth quarter, we’ll see that materialize, but again I don't expect that to be the case. We’re planning for it. It’s not – we've fluxed our causes cost reflect that and I think that's kind of a sum of it.

Andrew Shapiro – Lawndale Capital Management

Okay, last question on medical and I will back out into the question queue. I have questions on the other segments. So at medical last quarter, you said you were working on eight medical development projects to be in production between in 6 months to 24 months. Is this still the case and now its 3 to 21 months, or the near term remains six months or longer on those projects and can you gave greater insights on any of these projects at the turn?

Cary Wood

Yes. Well, let me explain that from the totality of the Company, I think that it's good to understand particularly from an investor perspective that almost all business development and the related funnel revenue had come to almost a complete halt. If it wasn't because we self-imposed changes from the standpoint of pricing or go to market strategies or the Ds and Cs on contracts.

Customers and even suppliers are started to scale back their interest in engaging the Sparton as you would expect given its liquidity issues, given its performance issues, it put us at a distinct disadvantage when it came to ramp-up, and so our business development funnel was almost zero. Now we sense a better of the last year ramping that backup, but differently than an operational turnaround where you can control almost every bit of your decision-making. It’s a bit more difficult to get customers comfortable with operating performance. Things like delivery and fill rate, and I'll take one customer engagement particularly in that segment where our delivery was on quarter-over-quarter basis 50, no higher than 60% and fill rate even worse.

Now we've achieved most recently in their own supply chain kind of measurements, 95 plus percent on time and much improved fill rate and very low reject rate. That's going to bring about new interest in customer engagement, but that's going to have us the late effect. That's going to have us the late effect in the way that its – the find that it takes to get working capital in the pipeline and to go ahead and provide the resourcing and a rampant backup, but we're generally optimistic and we're seeing some of that layered in. so, in everyone of our business units, I think it's fair to say that same issue was the case in medical, and frankly no different than in our DSF business unit.

We continue to work on engineering-related projects that we would hope. We would materialize in the way of production contracts. Again I think it's safe to say that we were working on three months ago. It's not a whole lot of difference than we what to continue to work on today. I think that it's fair to say that the find table were made at six months, several months ago that's now contracted and the runway its start to shorten for which we expected to ramp-up. But I also say that some of the internal discussions that we've had about our revenue planning going in the next year.

Here were certain key discussions that don't rest with Sparton and that is at what point does it fully ramp-up? What is the production start date and those are the things that we have to manage within our budget cycle. I'm still optimistic that the engagements are credible. I'm still optimistic that we've ingratiated ourselves with a lot of the engineering help that we provided and that will ensure us the production engagement. We had to some point, draw some conclusions over when we think that's going to ramp-up and we've done that. So, I think its still safe to say that our outlook, our revenue planning, our budget guidance for fiscal '011 as it applies to medical to each of the other two businesses as well is a compilation of variety of things, and so yes. Simply put, we continue to work on this six to eight different distinct projects in medical.

I would say that we probably work on the same number in magnitude in our EMS and we're working on a great many prototyping opportunities in our EMS, so we've really dialed up to business development effort. We significantly dialed up the funnel. We're starting to see a little bit of uptick in our backlog numbers, but again time will materialize these opportunities and so a bit of long answer to your question. Hopefully, you got to it Andrew.

Andrew Shapiro – Lawndale Capital Management

Well, you got to it. I have many questions in DFS but want to let anyone else back into the queue, but please come back to us and hopefully we'll cut this off in eight minutes [ph]?

Greg Slome

Andrew, why don't you go ahead and ask the balance of your questions for another couple of minutes here if you don't mind?

Andrew Shapiro – Lawndale Capital Management

All right, if you don't have anyone else in the queue right now. On DSF is kind of a – first of are there any other RFPs outstanding with the navy for which the contract award has yet to be awarded and announced by Sparton or ERAPSCO? Those you've already submitted it, they do this annually. We've have seen the SSQ-62s and the SSQ-125 development contract and we had the 101s, but what else do you have in RFP offer if you're waiting to hear from the navy?

Cary Wood

I'm looking for a quick executive summary here. First, I think was the caller group. I think it's important to know that the announcements that are made by Sparton are reviewed by the U.S. Navy and the DOD and they are subject to their final approval. So, unfortunately it almost always presents a delay in Sparton's ability to announce the public. We were may have been some place else almost an exact same way. We'd like to announce it, but contractually are prohibited from doing so. Now with that said, there's been a series of announcements on awards.

Greg Slome

These are the four.

Cary Wood

The ADAR, the Q-36, Q-53, and Q-62 all of which have been recently awarded and I believe in all cases announced. So I think almost every bit of that which is queued up has been announced and we had a variety of press releases going back to March 31st, all the way up to the more recent one on May 6th. So, I believe everything that is queued up to be announced has been.

Greg Slome

And do we do have some developmental projects that will be here back from the Navy on some of them through RASCO [ph] some of them on their own. But we don't have any timing on those.

Andrew Shapiro – Lawndale Capital Management

Okay, now you had a very nice increase in your backlog with this for years round of contracts from last quarter, and what time in the contracting process does an order officially enter your backlog that you report to us in the 10-Q?

Cary Wood

Generally what does it get –?

Andrew Shapiro – Lawndale Capital Management

Generally, when does it get added to your official backlog in the old contracted guidelines?

Cary Wood

On DSS side, it would basically get loaded into our backlog once the Matrix is awarded and the announcement is made and really on electronics and medical, it's really based on once we have the purchase order in from the customer.

Andrew Shapiro – Lawndale Capital Management

Thanks. Now presently on among main deployment mechanisms for Sonar Buoys, your Sonar Buoys are deployed from Navy P-3 Orions, which are to be replaced with the new navy, the new Boeing P-8 Poseidon, which has got greater range and capacity. Can you in short describe the incremental quantity of Sonar Bouys potentially deployed P-8 verses the P-3, is it 1.5x, is it 2x or something?

Cary Wood

Well, frankly the answer to the question is classified. I can generally tell you that there is an expectation that missions will be extended. That missions will obviously have its impact on the capacity of the Sonar Bouys, but in terms of the number of missions and the impact on year-over-year demand on Sonar Bouys is still yet to be cleared up. We provided some level of guidance that has been revised on production demand in the ensuing years, but to what extent the Poseidon project is going to increase those, that's a source of classified discussions.

Andrew Shapiro – Lawndale Capital Management

Okay. Last quarter you highlighted, your business development guy was all over Asia and Europe with the hope of timing the conference you called it over the next 90 days as you said, so that after these 90 days where do you stand on the climbing of the pump for the business development backlog or pipeline?

Cary Wood

Well, I would say that just in the last 60 days we have seen an uptick in our internal backlog and while we don’t necessarily convey that in these call on a month over month basis, I can tell you that going into our forth quarters backlog number I think we should see an increase compared to the end of third quarter.

That said I think what we have or we do expect is a significant uptick in business resource that Asia going into our fiscal 2011 budget and I think that, that outlook is fairly incremental in size.

I think we will see frankly some level of shrinkage, negligible within our Brooksville EMS site and the reason I suggest that is that there are certain programs that are going to reach an end of life and there are certain other programs that are going to have a delayed ramp up and the net effect of that is going to be flat to down but I think on a combined basis looking ahead, EMS is going to enjoy some level of uptick out of Vietnam.

The backlog in both medical and VSS remained strong and as you commented we have dialed up our business development effort across each of the combined business units at the point where we are starting to see some stretching of backlog. Just as I say that our fourth quarter as we expect in a conveyed, we don’t anticipate to be much different that our third going into our first and second, I think our outlook is fairly careful and prudent and we expect most of what would materialize to come about either late in the second, going into the third of fiscal ‘11.

So, back to one of the previous callers comments. Is it not true that the company has reached kind of a low point in its curvature? I think that absolutely true? With the third and fourth quarter being very similar in the revenue size.

Andrew Shapiro – Lawndale Capital Management

Back to the DSF, digital compass I believe is inside DFS on your digital compass. First off is there any IP associated with this product and in general it's just either the unit price or how many of these units were sold on this contracts which obviously would allow for calculating the unit price to get a hand on how big a unit and product this is. If its something that your going be selling a lot of them in volume in relative to a $800,000 order. Give us some insight if you can.

Cary Wood

Sure. First it is intellectual property both developed and owned by Sparton. It’s certainly an opportunity for us to extent our products in the channels we have conveyed, we endeavored to do. Path levels of sales on this product have been fairly negligible compared to the size and magnitude of this order and as we look in the fiscal ‘11 we got certain optimistic outlooks on this product and its extension into the space.

Now in terms of the specifics of pricing, we won’t be covering that here. And in terms of the specific quantities that were ordered in this most recent engagement, we are prohibited from doing that as well. So, generally the outlook is that this is a far more superior digital compass than the competitors. It provides specific features that those close to the product will understand particularly in the Department of the Defense and in that segment. As we look ahead we think that there are some incremental developmental opportunities on this device and its application will go beyond the DoD to civilian applications. We have started to entertain some of that discussion, but it is an intellectual property both developed, enhanced and owned by Sparton today.

Andrew Shapiro – Lawndale Capital Management

Well can you at least give a handle on the growth potential of the mine. Is this an initial purchase or the entire demand at this time from this branch?

Cary Wood

There is no estimate or outlook on what this current customer could additionally acquire from us. There has been no subsequent forecast if you will. Now we have internally placed a forecast on what this product could bring to us and it's fairly incremental. We believe this is the front end of growing demand for a product that has been under-marketed frankly and with that mind I think that to the extent we can talk about this customer which we just contractually can, the quantity we can't – in terms of where its end use it goes, we can't. I can say that the edict by the DOD has been generally to dial up unmanned vehicles, whether they be land, air or sea and this is essentially a digital compass that would be put to work in unmanned land vehicles.

Andrew Shapiro – Lawndale Capital Management

And can you at lest say what branch to the military was this? Navy, army, air force, et cetera?

Cary Wood

I cannot, unfortunately.

Andrew Shapiro – Lawndale Capital Management

Okay. And do you have other RFPs already in the pipeline for the digital compass?

Cary Wood

Yes we always are entertaining a variety of RFPs. So yes, I wouldn’t necessarily say that they rival the same level of quantities as we most recently were able to secure. But I think that they're not terribly dissimilar. They're just increased number of RFPs. So, yes.

Andrew Shapiro – Lawndale Capital Management

If anyone else is in queue because I'll be glad to back out. I do have more questions.

Cary Wood

One more question Andrew. That’s the conclusion. The queue is clear. So why don’t you ask your final question?

Andrew Shapiro – Lawndale Capital Management

Okay. So, well, I only have one final question and I would like to know what other cities or events you have in your calendar for the coming quarter or so to revisit or bring out the Sparton?

Mike Osborne

Andrew, its Mike, we are working with our IR from actually this week. We're going to put together the next three months plan and we'll some information out to the press on where we're going to be headed but we are going to be headed somewhere soon again and make our rounds.

Greg Slome

Two specific places on the calendar, the mid west IDEAS conference will be held here in Chicago on August 27th I believe and then we will be at the southwest IDEAS conference in the early November time frame and if memory serves me correct, I want to say it’s the 10th and 11th of November and then between now and then, we'll certainly do as we have done before, east coast and then west coast swing. So we just don’t have that schedule to find as of yet.

Andrew Shapiro – Lawndale Capital Management

Okay, can I slip another one in here since you don’t have anyone for you.

Greg Slome

Yes, you sure can. Thank you Andrew.

Andrew Shapiro – Lawndale Capital Management

To your NOL carry back claims you have made, what is the remaining NOL less the shield, all these future profits if you're now at a sustained level to generate?

Greg Slome

Andrew, our estimate as of the end of the third quarter is roughly $18million carry forward that we have and those would expire between 2027 and 2030.

Andrew Shapiro – Lawndale Capital Management

Great, thanks guys.

Cary Wood

Alright thanks Andrew. I'd like to thank all the participants in today's call. Today's call including the question and answer period has been recorded and will be posted to our website under Investor Relations later today. Thank you.

Operator

Thank you. Ladies and gentlemen, that does conclude the conference call for today. We thank you all for your participation and we ask that you please disconnect your lines. Thank you and have a good day.

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Source: Sparton Corporation F3Q10 (Qtr End 03/31/10) Earnings Call Transcript
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