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Globecomm Systems Inc. (NASDAQ:GCOM)

F4Q2010 Earnings Call Transcript

September 14, 2010 10:00 am ET

Executives

Matthew Byron – SVP, Corporate Office

David Hershberg – CEO and Chairman

Keith Hall – President and COO

Andrew Melfi – SVP and CFO

Analysts

Jim McIlree – Merriman

Rich Valera – Needham & Company

Mark Jordan – Noble Financial

Dick Ryan – Dougherty

David Cohen – Athena Capital Management

Operator

Welcome to today’s Globecomm Systems fourth quarter and fiscal year-end 2010 earnings conference call. Today’s call is being recorded. For opening remarks and introductions, I would like to turn the call over to Matthew Byron, Corporate Vice President. Please go ahead, Mr. Byron.

Matthew Byron

Thank you. Welcome to the Globecomm Systems fiscal 2010 fourth quarter earnings conference call. Joining me today from the company is our Chairman and CEO, David Hershberg; President and COO, Keith Hall; and our CFO, Andrew Melfi.

Last night, after the closing bell Globecomm issued its fiscal 2010 fourth quarter and full year earnings press release, which included the company's fiscal 2011 full year financial projections. In the event you have not received or seen a copy of the release, it is posted on the Globecomm Systems' website at www.globecommsystems.com or you can contact me at 631-457-1301 and I will send a copy to you.

Comments made during this call may contain projections or other forward-looking statements regarding future events or the future financial performance of Globecomm Systems. These statements are only projections and reflect the current beliefs and expectations of the company. Actual events or results may differ materially. With that said, it is routine for internal projections and expectations to change as quarters progress.

All forward-looking statements are based on the information available to the company on the date hereof and the company assumes no obligation to update such statements. Please refer to the documents the company files from time to time with the SEC, specifically the company’s Annual Report on Form 10-K, quarterly reports on Form 10-Q, and its current reports on Form 8-K, and the Safe Harbor language contained in the company’s press releases.

These documents contain and identify important factors that could cause the company’s actual results to differ materially from those contained in these projections or forward-looking statements, which the company urges all investors to consider. Globecomm undertakes no obligation to publicly release the revisions for such forward-looking statements that may be made to reflect events or circumstances after the date hereof or to reflect the occurrence of unanticipated events.

Please note that this call is being recorded on Tuesday, September 14, 2010, contains time-sensitive information, and will be available as a webcast replay for at least nine months on the Investor Relations section of the Globecomm Systems website and as a phone replay at 1-888-203-1112 for domestic callers, or 719-457-0820 for international callers with an access code of 8435331.

At this point, I would like to turn the call over to our Chairman and CEO, Dave Hershberg. Dave?

David Hershberg

Okay. Thank you, Matt, and good morning everyone and welcome to our fiscal 2010 earnings conference call. We are very happy to report a very good year for Globecomm.

Last night, Globecomm its fiscal 2010 and fourth quarter financial earnings press release, which included record fiscal 2011 financial guidance. Andy Melfi will provide greater visibility into the 2010 and 2011 numbers in a few minutes. But because these numbers are so good, I thought I would bore you with some of them.

Record fiscal year 2010 consolidated revenues of $227.8 million as compared to $170 million last year. That's a 34% increase for the year and a 43% for Q4, with record guidance between $290 million and $305 million for fiscal 2011 or roughly a 30% increase. Record fiscal year 2010 service revenues of $135.8 million as compared to $81.3 million last year, or a 53% increase and for Q4, a 60.4% increase.

Fiscal year 2010 infrastructure solutions revenues of $92 million as compared to $88.8 million last year, or about a 4% increase for the year and about 24% for Q4. Fiscal year 2010 GAAP diluted net income per common share of $0.38 as compared to GAAP diluted net income per common share of $0.16 last year, or a 137% increase. Record fiscal year 2010 adjusted EBITDA of $20.9 million as compared to $12.2 million last year, or a 71% increase. Fiscal 2010 record revenues of $228 million with record guidance between $290 million, $305 million for fiscal 2011.

We hit the high end of our earnings per share of $0.34 – $0.38 with our R&D tax credit. In fiscal 2010, we improved guidance between $0.50 and $0.55 or roughly a 55% increase. We finished fiscal 2009 [ph] with roughly $48 million in cash and expect a very strong cash flow growth in fiscal 2011 as some of our major infrastructure receivables get collected on, coupled with anticipated record adjusted EBITDA.

I am extremely pleased with the company's execution and we are very excited about a record year in fiscal 2011, which is being driven by anticipated record service revenue of approximately $175 million. We were able to hit the record numbers despite a poor economic backdrop and in fact, increased the employee base by over 20%; we are now greater than 400.

We made major investments in R&D across our pre-engineered, wireless, maritime, and enterprise product lines. We are starting to see some light at the end of the tunnel for our infrastructure business operating in a very tough environment with some recently announced contracts in media, tactical terminal add-ons with NATO and our JIPM contract. Also some new Ka-Band gateway terminals and we are having a good reception for our new lightweight TomCat terminal.

We have a very good proposal backlog and expect to improve performance in the coming year if we are successful with these programs. Those of you that have been following the company for a number of years know that we have emphasized the need to grow our service business. I think you could agree that we have done a very good job in that area over the past five years with the service revenue now 60% of our business and growth from $19 million in fiscal 2005 to over $135 million this year.

Included in our 2011 guidance is major anticipated continued investment across the entire product portfolio as we position the company for the future. We continue to look at various acquisitions as we look to expand into different vertical marketplaces or further expand into our five existing markets. We believe that the company has ample capital resources to acquire and execute against our business model without the need for additional resources at this time.

The acquisitions that we have made so far perform very well and the cultures are assimilating nicely, which is a very – which is very critical for our success in our acquisition plans. I would like to thank our employees to – for a great year and to congratulate Keith Hall on a job well done in his first year as President of the company.

At this point, I would like to hand the call over to Keith to provide some more operational details. Keith?

Keith Hall

Thanks, Dave. Good morning, everyone. As the results suggest, the entire Globecomm team did a tremendous job in executing our plan this past year. The strong service foundation continues to set the stage for top and bottom line stability during the current economic downturn. This was highlighted by record service revenue in Q4 and for the fiscal 2010 year.

Organic growth within the services segment was especially strong this year at greater than 25%. Our recent history has shown organic growth in the segment in the 10% to 20% range. Organic growth has continued to be fueled by existing customer expansion. Our acquired service based subsidiaries also continue to show positive results. Teams have integrated well and we are excited about the operational synergies they will afford us in the future. We remain bullish about our growth in this segment and in addition to the overall guidance that Dave mentioned earlier, we are setting service revenue guidance for the year to $175 million.

Within our infrastructure segment, we were pleased with the improvement in bookings in the back of half of the fiscal year and by the team's execution on several major programs. With that said, Q1 and Q2 fiscal 2011 results will be influenced by four infrastructure bookings seen early in FY '10. We fully expect these results to improve as the fiscal year progresses. This optimism is fueled by a steady increase in our opportunity funnel.

We feel this will result in increased broadcast and wireless infrastructure projects in the coming quarters, including in the area of Ka-Band solutions. Multiple companies have announced intentions to launch Ka-Band capable satellites and we feel that we are well positioned to capitalize on our investment in this area.

Overall, the infrastructure margins were approximately 17% in fiscal 2010, consistent with our 2009 fiscal results. To improve this moving forward, we remain proactive in developing new offerings in the area of pre-engineered systems and are focused on several new initiatives to increase opportunities in this higher margin type business. Pre-engineered systems represented approximately 13% of the infrastructure revenue in Q4 and approximately 14% for the year.

I would like to now provide some insight into our market vertical based activity. To support all of our market based activity, Globecomm continues to enhance its global network and hosted environment. Globecomm now has three fully owned teleport based data center facilities located in New York, Maryland, and The Netherlands. These facilities are now connected terrestrially to support a wide range of global applications that require seamless connectivity.

Within the maritime market, we continue to enhance our broadband service offerings to address the increased rate of broadband adoption, which now accounts for approximately 25% of all maritime service activations. Our focus remains on increasing the value-added services we provide to these ships.

Efforts in Q4 were highlighted by a successful maritime demo showing dynamic beam switching and Ku to L-Band switching capabilities. We have also started a rollout upgrade to directly connect all of our teleports and (inaudible) earth stations. The maritime market represented approximately 9% of our consolidated fiscal 2010 results and we believe that the changing market conditions will present us with great opportunities for growth, while media and broadcast market vertical represented approximately 11% of our consolidated fiscal 2010 results. We continue to watch the adoption rate of HD services globally and the need for new facilities to address this trend.

We believe we are well positioned to capitalize on this market from an infrastructure perspective. We are also looking forward to growth in the broadcast market vertical through service expansion. We believe that video-on-demand applications will continue to dominate the space and that our hosted environment is well suited to support content owners. Building upon our media and broadcasting experience, we continue to enhance our Tempo, S.A.S. offering for the enterprise market and expect to respond to several RFPs in this area in FY '11.

In the wireless market, we signed a contract in Q4 to add a new customer to our Ericsson based IP hosted cellular platform. Our mobile operators are now successfully generating over 3 million minutes per month, a 50% increase in volume over the past six months. We expect to add at least two new mobile operators before the end of the fiscal year. We believe our value proposition remains strong and that we have tremendous growth potential on this market on both the infrastructure and services segment, which currently represent approximately 14% of our consolidated revenue in fiscal year 2010.

In the government market, efforts to support our deployed government and military personnel with global access and infrastructure solutions have continued to increase. Globecomm based business represented 62% of revenue in FY '10. 53% of our services based revenue was government related and 68% of our infrastructure revenue was government related.

Our presence and capabilities continue to expand within Afghanistan. We are well positioned to support the expansion of U.S. presence in the region and are gaining traction with our recently established Afghan ISP, which supports a wide range of commercial and government data services. We are also positioned to support network expansion for the Afghan ministry of the interior and ministry of defense organizations. Our corporate Afghanistan and related revenue represented approximately 11% of fiscal 2010 revenue.

In FY '11, Globecomm will focus on several new government-based initiatives within our pre-engineered system product line. We will be adding Ku and Ka-Band capabilities to our TomCat Man Pack product, as well as increasing deployment of our network management software product AxxSys Orion to support global operations of several new government networks.

Globecomm will be competing as a prime contractor on several long-term multi-billion dollar contracts for the procurement of commercial satellite communications services and commercial off-the-shelf satellite based communication systems as we – as well as leveraging our recent (inaudible) win for new professional service opportunities.

To conclude, I would like to echo Dave's comments and thank all the employees of Globecomm for another tremendous year as we look forward to 2011.

Andy Melfi, our CFO, will now take you through our financial results.

Andrew Melfi

Thank you, Keith. Good morning, everyone. I would like to go through our financial highlights. Revenues for the company's fiscal 2010 fourth quarter increased 43% to $70.3 million as compared to $49.2 million in the same period last year.

Revenues from services increased 60% to a record $39.6 million as compared to $24.7 million in the same period last year. The increase in service revenues was primarily driven by organic growth in the government marketplace, coupled with the company's acquisitions of Telaurus and C2C/Evocomm, which combined contributed additional revenue of $7.8 million.

Revenues from infrastructure solutions increased by 25% to $30.7 million as compared to $24.5 million in the same period last year. The increase in infrastructure solution revenues was driven by an increase in revenues in the systems design and integration offering.

Net income for the company's fiscal 2010 fourth quarter increased to $4 million or $0.19 diluted net income per share as compared to net income of $1 million or $0.05 diluted net income per common share in the same period last year. The increase in net income was driven by a significant increase in services revenue. Excluding $0.07 gain relating to non-recurring tax adjustments, fiscal year 2010 fourth quarter diluted net income per common share increased 140% to $0.12 as compared to $0.05 of adjusted diluted net income in the same period last year.

Adjusted EBITDA for the fourth quarter of 2010 increased to $7 million, a company record, as compared to adjusted EBITDA of $3.2 million in the fourth quarter of 2009.

Looking at the full year results, revenues for the company's fiscal year ended June 30th, 2010 increased 34% to a record $227.8 million as compared to $170.2 million in the last year. Service revenues increased by 67% to $135.8 million as compared to $81.3 million last year. The increase in service revenues was primarily driven by the company's acquisitions of Mach 6, Telaurus, C2C, and Evocomm, which contributed additional revenue of $33.5 million coupled with organic growth in the government marketplace.

Revenues from infrastructures increased 3.6% to $92 million as compared to $88.8 million last year. The increase in infrastructure solution revenues was driven by an increase in systems design and integration offering partially offset by a decrease in pre-engineered product services – revenues.

Net income for the company's fiscal year ended June 30th, 2010 increased to $7.9 million or $0.38 diluted net income per common share compared to net income of $3.3 million or $0.16 per diluted share in the same period last year. Excluding a net $0.04 gain relating to a non-recurring tax benefit of $0.07, partially offset by a related previously announced acquisition charge of $0.03, fiscal 2010 net income per share would have been $0.34 as compared to $0.16 last year.

Adjusted EBITDA for the company's fiscal year ended June 30th, 2010 increased to $20.9 million, a company record, as compared to $12.2 million last year.

Looking forward for fiscal 2011, the company expects consolidated revenues to be between $290 million and $305 million; service segment revenues to be approximately $175 million; GAAP diluted net income per common share to be between $0.50 and $0.55; and adjusted EBITDA to be between $28 million and $29 million.

As you can see, we continue to maintain a strong balance sheet with strong cash position. We do see some buildup in the inventory, but that is based on a long-term project that we have that we will probably ship in Q3 of this year to start relieving some of that inventory.

And I would like to turn the call back to Dave.

David Hershberg

Okay. Thank you, Andy. And at this time, we would like to entertain any questions you might have.

Question-and-Answer Session

Operator

(Operator Instructions). And we will go first to Jim McIlree from Merriman.

Jim McIlree – Merriman

Yes, thank you. Good morning.

David Hershberg

Good morning, Jim.

Jim McIlree – Merriman

Can you talk a little bit about the expected margins that you are looking for in the infrastructure business in fiscal '11? And if I can just kind of frame that, I think that the last time that the infrastructure business was profitable on the operating line was fiscal '08 when you did about $133 million. And in fiscal '11, you are looking for about $115 million plus. So is it – is there any reason to think that the profitability should be higher, lower, or same as it was in fiscal '08?

David Hershberg

Fiscal '08, we had a very good year of providing products which were in the 25% to 30% margin range as opposed to integration contracts, which are considerably somewhat lower than that. It depends a lot on our product line that we are rolling out, how much of this kind of products we could sell that have those kinds of margins in it.

That being said, we also have some relatively low-margin business that is going to – that we are going to have this year, one with – one project with NATO. The jury is still somewhat out on that, we are waiting to hear it – about some change of scope that we are going to get on that that would improve that. Also, we have some pass-through projects that we are going to – under WWSS that does not have a lot of high margin and business in it.

So it's a combination of how well we do with this product business and getting some of these lower-margin business get the sales out and some of these bookings that we are expecting coming in. But I don't see a major improvement in the percentage of margin. I think I see some improvement obviously in the dollars, because we are going to – we expect to do more. But I don't see a big improvement in the percentage of gross margin this year. I do expect towards the end of the year it's going to look somewhat better.

Jim McIlree – Merriman

Okay. And – I'm sorry.

Andrew Melfi

As Dave says, we have a major program running through the house and it will take down the infrastructure margins towards the second, third, fourth quarter.

Jim McIlree – Merriman

Okay. And does the JIPM contract have a big impact on margins in fiscal '11?

David Hershberg

It could on dollar-wise, not on a percentage though, because it's not a high percentage. As you aware, JIPM is basically – it's a pass-through. We do have some value-added where we do make some money on that project. We are waiting for what we think might be some significant orders. It really depends on a lot of things coming together. But it could be a – could have a large – a pretty good size impact if we can get the kind of bookings that – in the original contract.

As you know, we are somewhat late on that contract and we are waiting to hear what – about some of these add-ons that we are expecting to get. I don't think we are planning on a large amount of revenue right now at this point. But there is some considerable upside potential there.

Jim McIlree – Merriman

Okay, great. And Andy, what kind of tax rate are you expecting in fiscal '11?

Andrew Melfi

We are going to use a blended tax rate of approximately 34% depending on the – our international entities. They are at a lower tax rate, so we are using 34%, which is hopefully conservative.

Jim McIlree – Merriman

Okay. Great. Thank you. I will re-queue. Thanks.

David Hershberg

Okay. Thanks, Jim.

Operator

(Operator Instructions). We will now go to Rich Valera from Needham & Company.

Rich Valera – Needham & Company

Thanks. Good morning, gentlemen.

David Hershberg

Good morning.

Rich Valera – Needham & Company

Keith, I wanted to revisit some comments you made in your prepared remarks with respect to the infrastructure business where I think you said you expected the first half of fiscal '11 to be weaker and the second half stronger. Can you give anymore color on that and perhaps – quantify perhaps the first half-second half split in terms of percentage?

Keith Hall

I think in general from a revenue perspective, the first half of the year will be weaker than the back half of the year. As Andy mentioned, the margins maybe affected during the course of the year by certain jobs that are flowing through the house. But my comments are more related to the overall revenue flowing through the company, which – the margins are relatively the same. So margin dollars would be increased, because overall revenue was increased. But I think you will see a significant difference in Q3 and Q4 in revenue as opposed to Q1 and Q2.

Rich Valera – Needham & Company

Mainly driven by the infrastructure side of the business?

Keith Hall

Yes, mainly driven by the infrastructure side of the business. Correct.

Rich Valera – Needham & Company

Could you give us any sense of what is baked into your guidance and sort of what you need to win to do your guidance for this year? It seems like your backlog level relative to the revenue guidance is a little lower than some – your historical level, partly because I think you have a higher services mix these days. But I just wanted to get a sense of sort of what you need to win and sort of what's baked in at this point to that guidance.

Keith Hall

I think in general, over the last year to two years, we have taken a much conservative – a much more conservative look at the infrastructure side of the house due to its inherent lumpiness. We have been able to do that because we have had strong service revenue and from a guidance perspective, since that's around say 60% of our revenue today, we feel much more comfortable with projecting the overall guidance. So I would say in general, we have been very conservative on the infrastructure side.

David Hershberg

Great. And just another thing is that there we do have a number of IDIQ contracts that we are hopeful going to get some traction and start getting some orders against them. We have not seen a lot of those orders and it has an awful lot to do with how the government starts spending their money. So we have tried to take sort of a conservative view, but we do have some – quite a bit of potential in the pipeline in these IDIQ contracts, but we are waiting to see some more orders against the contracts we have.

Rich Valera – Needham & Company

Great. And I –

Keith Hall

We also have a substantial amount of month-to-month service revenue which we book – we record and book at the same time and we did announce the – a major program with the government that was funded $9 million and we expect that funding to potentially up to $34 million. So we expect additional funding even though we put $9 million backlog. So there are a lot of good things going on on the service side.

Rich Valera – Needham & Company

Okay. And just looking back at the infrastructure side, clearly a pretty big rebound expected in the coming fiscal year and actually you had a good one in the fourth quarter. Could you just give some color where is that coming from? I think you had seen at one point when that business turned down that there were significant delays in a lot of the government orders and those seem to be in some cases pushed out indefinitely and I guess from the commercial side, things sort of turned down as well. Can you give us a sense of what you are seeing as that comes back? Is it being driven more by one side or the other, government or commercial or – any color there would be helpful.

David Hershberg

We are looking at one significant commercial contract in the Ka-Band area in the $25 million to $30 million range that we are hopeful on. And there is also a government contract that's in the 30 – $40 million range that we are hopeful on. But again, we have tempered somewhat the amount we put in our backlog against these contracts, because the timing is not known very well. We are also looking to get some add-ons on some of the existing contracts we have that are – have been held up mainly because of budget issues at both the – both NATO and the U.S. government.

So we've – the timing is the issue here. We think we have some very good potential on some of these contracts, but we don't understand the timing right now.

Rich Valera – Needham & Company

Okay. So there is a couple of – are those presumably IDIQs, the big commercial and government contracts that you are kind of waiting for timing of orders?

David Hershberg

One is and one is not.

Rich Valera – Needham & Company

Okay.

David Hershberg

The commercial is not.

Rich Valera – Needham & Company

Got you.

David Hershberg

Typically, commercial contracts, we don't have any really IDIQ contracts –

Rich Valera – Needham & Company

Sure, sure.

David Hershberg

Commercial – but most of them are – like we have a big one with the U.N. we are waiting to hear some stuff on. We got a big one – of course you know, WWSS. We have got a number of bids out on that we are waiting to hear on. There seems to be somewhat of a backlog in the contracting – in the contracting flow, but we are hoping to hear about one or two of those contracts also.

Rich Valera – Needham & Company

Great.

David Hershberg

So there is a lot of stuff out there. It's just that the timing has not been very good. One of the reasons – one of the issues as you probably know is that the WWSS has been administered out of Fort Monmouth and they are closing Fort Monmouth and there is some delay in reestablishing these offices in Aberdeen and in Maryland, and in Virginia. So that has really held up quite a bit I think a number of orders that we were hopeful on at least one or two of.

Rich Valera – Needham & Company

Helpful color. Thank you. And just final question on the services business. You said in your K, I guess you got a little over $6 million from the C2C/Evo acquisition there. Can you give us a sense of what you are expecting in fiscal '11 from that acquisition?

David Hershberg

I think you can extrapolate that trend and you will get a good feel for the overall revenue for the year.

Rich Valera – Needham & Company

Okay, that's helpful. Thanks very much, gentlemen.

Operator

We will now go to Mark Jordan with Noble Financial.

Mark Jordan – Noble Financial

Good morning, everyone. I – you had redone your bank lines here, I guess in the fourth quarter, and there was an interest charge. Was that just a one-time event related to the rolling over of the bank lines, and should we not expect to see any meaningful interest expense moving forward?

Andrew Melfi

There will be – that's a five-year term loan. So you will see an interest expense every quarter. That number shown is at a very low LIBOR plus 2% and it's offset by the interest income. So you will continue to see something around the level you see in Q4.

Mark Jordan – Noble Financial

Okay. Pickup in R&D in the fourth quarter, was that again tied to a one-time event or is that indicative of a higher investment rate?

Andrew Melfi

That was indicative to a catch-up on some R&D credits the company was entitled to.

Mark Jordan – Noble Financial

No, excuse me. Just the R&D expense for the quarter was $1.069 million. You were running mid $700,000 a quarter.

Andrew Melfi

That – we have some – as Dave and Keith alluded to, we are making some investments in different areas. I would say that that type of run rate will be typical for the next four quarters.

David Hershberg

We have invested quite a bit in this lightweight Man Pack terminal to expand it to Ka-Band and expand – and most of the investment on this terminal has been happening recently. We have also invested in the maritime area to have a robust maritime product that switches between Ka-Band, Ku-Band, and L-Band, and actually even WiMAX when you get into a harbor. So it's something we feel we need to do to be in the maritime business and provide this broadband service that we have been talking about. But both of those were significant R&D expenditures this last quarter.

Mark Jordan – Noble Financial

Okay. Final question, I think you mentioned that you had some accounts receivable dollars tied up in some longer infrastructure builds that should be completed and collected in fiscal '11.

Andrew Melfi

Yes.

Mark Jordan – Noble Financial

How much cash do you see being freed up from the rollover of those initiatives?

Andrew Melfi

Well, actually – actually, it was in inventory balance. If you look at the inventory at the end of June of last year compared to the end of June fiscal '10, it's almost double. Approximately $18 million is related to that one program and we are going through first article now. And as we start to complete that hopefully by Q2, we can start to turn some of that into accounts – into sales, which we would turn into accounts receivable.

So we do not expect collections until at least Q3, Q4. But that is a major program, which unfortunately we are trying to negotiate some better milestones on for payment terms but as of now, have not. It's a $27 million program that we have gotten very little down payment on. We do not get paid till we ship. We have had some delays in the program. It seems to be moving along better now. So we are hopeful to get this stuff – some of this stuff out of inventory into accounts receivable and eventually cash. But most – all this inventory, as you probably know, is work in process. There is very little basic pure inventory in that number.

Mark Jordan – Noble Financial

Okay. Thank you very much.

Operator

We will go to Dick Ryan with Dougherty.

Dick Ryan – Dougherty

Good morning, guys. To circle back on the last conference call, you talked about – at that time, you had two contracts that you kind of highlighted, a major terminal contract. Would that be one that's help up with the WWSS, Dave, the one you are referring to?

David Hershberg

There is one that fits that category. Actually, there's two that fit that category.

Dick Ryan – Dougherty

Okay. And then there was also one in the maritime side that you said you would bid on. Can you give a status of that one?

David Hershberg

Yes. The status of that one is that we are not going to win that one.

Dick Ryan – Dougherty

Okay.

David Hershberg

That was a $60 million to $100 million something contract. It looks like the incumbent is going to win that contract.

Dick Ryan – Dougherty

Okay.

David Hershberg

Part of the – by the way, part of this R&D we did was to satisfy that requirement for that contract. So we did the R&D because we need it anyway, but part of it was to make sure we had the product that we needed, because part of it winning that project was to provide a successful demo. And we were prepared to do that, we did finish the R&D on it, it does work fine. We are hoping to get the customer here that we had done that for to take a look at it. And we are still waiting to hear about that.

Dick Ryan – Dougherty

Okay. So Keith, on the hosted switch side, you said minutes went from 2 million to 3 million. Was that mostly with the add of a new operator in Q4 or was that organic as well?

Keith Hall

That was organic. Actually, the new contract that we signed with the new customer is not online yet. So the increase in minutes was due to existing customers and increased revenue that they are running.

Dick Ryan – Dougherty

Okay. And so with – you indicated a couple potential new operators yet this fiscal year. What can the minutes with the operators you have in house, what can see from a minute growth rate and maybe talk about churn as well which you are seeing there without additional operators coming in.

Keith Hall

Yes, we haven’t seen – as far as churn across the entire services sector, we remain extremely strong. In the hosted area, we haven’t lost any customers that we have had. So we have zero churn to date.

Regarding increasing minutes, a little bit difficult to tell on the existing operators. All we can look at is historically and it – and over the last year, it's been very strong as these customers expand with the capabilities that are provided by the switch. We do expect, as I mentioned in the opening script, two more customers on top of the one that we signed in Q4. So we are hoping to be able to double the minute volume in fiscal '11.

Dick Ryan – Dougherty

Would the profile of the two new adds be similar to the customers you have in house at this point?

Keith Hall

Some of them – there is one customer looking at that's a little bit larger and then another. It depends which ones we win obviously. They vary in size, we have a couple of large clients and a couple of small clients. We are hopeful we can add at least one more large client.

Dick Ryan – Dougherty

Okay. One last question on the service side. Renewals, anything coming up or have you had any loss on services?

Keith Hall

The chart has been, again, extremely strong, and that has fueled a lot of our organic growth. Yearly, we have renewals because of the way the government does their procurement cycle, which is year to year. But the majority of our programs are extremely sticky, which has led to the low churn.

David Hershberg

I think – also, there has been an increase in the renewal – on the value of the renewals we have been getting. In other words, year-on-year, they have been increasing.

Dick Ryan – Dougherty

Okay. Thanks, guys.

Operator

We will now go to David Cohen with Athena Capital Management.

David Cohen – Athena Capital Management

Good morning, guys. My question is with regard to the acquisition pipeline and the acquisition environment. Obviously, you don't need to go into too much detail here, but I am interested in hearing how likely you think it is that any incremental acquisitions will be on the service side first of all. Second of all, whether you think it's more likely that you will add to existing verticals or head into a new vertical. And then the last question is just with regard to seller psychology and other buyers out there. Are you seeing any changes in valuation multiples at which deals are being done? Thanks.

Matthew Byron

This is Matt. I believe you got three questions there. The first question, our focus will continue to be on the service side. Question number two, both, we are looking at existing verticals and we are looking at new verticals. New verticals, primarily transportation and logistics and potentially expanding the (inaudible) base.

In terms of multiples, I would say in general, compared to say two, three years ago, the multiples are creeping up as the seller psychology is that service revenue that's sticky is increasingly valuable, and we have seen a couple of deals from major primes going off at higher multiples which, as you know, tends to – they increase the general market. I think I answered your three questions.

David Cohen – Athena Capital Management

You did. Thank you.

Matthew Byron

Okay.

Operator

We will now go to Jim McIlree with Merriman.

Jim McIlree – Merriman

Thanks again. When you talked about first half in the infrastructure being less than the second half, can you ballpark that? It's 55 – a 45-55 split or 40-60 split?

Keith Hall

It's – can we give that data? I guess – I have. Yes, it's probably – it's probably closer to 35-65.

Andrew Melfi

Yes, it leans towards the third and the fourth quarter. And there is one major program we keep talking about that affects it. Now, we may be able to improve that, but right now, a lot of that is in the third and fourth quarter.

Jim McIlree – Merriman

Okay. And this line item on the income statement, the interest earn-out, does that continue for the next four quarters or was that the question that Mark was asking?

Andrew Melfi

That – that's a little different. That's a two-year earn-out. We have an agreement with C2C and Evosat, so that will continue for two years.

Jim McIlree – Merriman

And is that – is that something that will be based on – I'm assuming that's based on your expectation of the – of C2C and Evosat's results.

Andrew Melfi

Yes, yes.

Jim McIlree – Merriman

So unless that changes dramatically, then it's kind of like that number for a while.

Andrew Melfi

Right. Unless they improve tremendously, yes.

David Hershberg

Yes, we would like to see it be higher.

Jim McIlree – Merriman

Yes, of course. Right.

David Hershberg

We want to pay them more money.

Jim McIlree – Merriman

OpEx going forward, let's see – so you ended the June quarter at around $12 million. It seems like in order to make the guidance that $12 million has to go up in fiscal '11. Am I – is my math right?

Andrew Melfi

Yes.

Keith Hall

Well, you have the OpEx full year for C2C and Evosat. So in general, that's going to drive the number up.

Jim McIlree – Merriman

Okay. But then there are these other initiatives that you talked about, marketing, R&D?

Keith Hall

Yes, probably about a 15% increase in R&D year-over-year due to some of the new initiatives.

Jim McIlree – Merriman

Right. Okay. And lastly, I think back in May you had talked about service revenues for the fiscal year at $140 million and you came in a little shy of that. Was there something that didn't hit this year or is there some – what's the delta between the $136 million and the $140 million?

Keith Hall

The delta had to do with a one-time equipment sale that was under one of the service subsidiaries that did not come in Q4. But we do expect it to come in in 2011. It had nothing to do with the recurring revenue trend.

Jim McIlree – Merriman

Okay. Yes, great. And I know that you have warned about that in the past. So – that's great. Thank you.

Operator

We will now go to Rich Valera with Needham & Company.

Rich Valera – Needham & Company

Thanks. Andy, with respect to your guidance, could you give us a sense of the – this is specifically for EBITDA for fiscal '11. Could you give us a sense of the D&A and stock comp you expect in there? Should we just base those off of sort of fourth quarter run rates or might they creep up a little bit?

Andrew Melfi

The stock should creep up just a little bit. Depreciation probably will be similar and the amortization will probably be up just a little bit.

Rich Valera – Needham & Company

Okay. So a little bit higher than the fourth quarter levels it sounds like?

Andrew Melfi

Right.

Rich Valera – Needham & Company

For both of them?

Andrew Melfi

Right.

Rich Valera – Needham & Company

Okay. That's it for me. Thank you.

Operator

And we have no further questions in queue.

David Hershberg

Okay. Well, thank you very much for attending the conference call and the questions. If anything else comes up or you need to ask anything, contact Keith, myself or Matt or Andy and we would be happy to talk to you. Thank you very much and we will see you next quarter.

Operator

This concludes today's conference call. Thank you for your participation.

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