Irvine Sensors Q4 2007 Earnings Call Transcript

Irvine Sensors Corporation, Inc. (IRSN)

Q4 2007 Earnings Call

January 17, 2008 4:15 pm ET

Executives

John C. Carson – President & Chief Executive Officer

John J. Stuart, Jr. – Senior Vice President, Chief Financial Officer, Treasure & Secretary

Analysts

John [Ogrodnik]

Roger Benson

William Smith

Mike Gustafson

Presentation

Operator

Hello and welcome to the Irvine Sensors Corporation fiscal year 2007 webcast. As a reminder all lines will be on listen only mode and we will conduct a Q&A session at the end of the call. (Operator Instructions) At this time I’d like to turn the call over to John Stuart, Chief Financial Officer. You may begin.

John J. Stuart, Jr.

Hi. I’m John Stuart CFO for Irvine Sensors and this is our webcast conference call in which we will discuss our fiscal 2007 results including the re-statement highlighted in our10K and press release. We will follow our usual format in which John Carson our CEO will present an overview on the status of the company and I will follow with commentary on the financials. After our prepared remarks we will open the call to a question and answer session. As usual we’ll start with a reminder of the Safe Harbor language that you saw when registering at our website to listen to this call which states that during the course of this conference call we may make forward-looking statements regarding future events or the future performance of the company including Optex. Any such forward-looking statements will be based on the information that we currently have available. This information will likely change over time. By discussing our current perception of our market, the future performance of the company and our products with you today we are not undertaking an obligation to provide updates in the future. Actual results may differ substantially from what we discussed today and no one should assume that at a later date our comments from today would still be valid. We refer you to the documents the company files from time-to-time with the Securities and Exchange Commission in particular our 10K for the 52-week period ending December 30, 2007 that we filed two days ago, which because of the re-statement supersedes prior financial disclosures in their entirety. The 10K and other disclosure documents contain and identify important risk factors that could cause actual results to differ materially from those contained in any forward-looking statements that we might make in this webcast. Having dealt with that preamble let’s now hear from John.

John C. Carson

Shortly after our last webcast in August we began to get inklings of an unanticipated major shortfall in the near term forecasted deliveries from Optex a factor of two in fact. This produced some major revenue and cash impact and generated substantial pressure from customers for an increased pace of delivery. In September we increased our management presence at Optex and on October 1^st we replaced the entire Optex senior management team with a group from the parent lead by our electronics and electro-optical products Vice President Pete Kenefick. Pete had been running a key program at Optex splitting his time already between Dallas and Costa Mesa for the past six months and was very well prepared for this assignment. The first step was to repair the broken manufacturing processes and to bring up the missing infrastructure element.

By December things were running smoothly but the cash shortages resulting from the earlier deliver short-fall was now adversely impacting the entire supply chain. Our customers while appreciative of our commitment remained concerned about getting their deliveries leading to an ongoing cooperative effort between us and them to overcome all the bottlenecks. On January 7^th Pete was successful in hiring his full time on site replacement as General Manager, Danny Schoening. Danny comes from a very successful manufacturing and operations management career culminating in Vice President of operations for a division of nearby Finisar Corporation. He arrives just in time to oversee what we expect will be a rapidly rising execution of Optex’s burgeoning back log.

The cash and management drain on the parent by Optex has adversely affected our operations and revenue in Costa Mesa during the August December time period as well. The government R&D business is usually weaker in our first quarter owing to there fiscal year transition and this year that condition was exacerbated by the situation at Optex. In spite of all of this we’ve persevered and continue to see successes on the R&D front. We completed the second phase of our [inaudible] sponsored 3-D electronics technology program with the creation of the new building block for systems in the [inaudible]. We achieved another major milestone on our cognitive systems project by successfully mimicking in [inaudible] the detailed function of a primate’s brain. We won some and lost some thermal imaging competitions but we continue to deliver cameras at an increasing rate and some major procurements are on the horizon.

We successfully met the next stage development milestone of our eagle processing boards that are now actively proposing for potential program applications of this exciting product. The cash problem that developed in the first quarter was stressing but it was partially offset through exercises of options by officers and directors, many of which were underwater. Most important as we announced in December our senior lenders agreed to differ all of our debt service for two years. The vote of confidence that was heard and understood by our customer community and which frees up much needed cash to fund our growing back log execution. We continue to pursue with some success alliances with major aerospace and defense contractors. These relationships result from the attractiveness of our technology coupled with its new found maturity. We would love to tell you more about this and we will as these alliances become public. It has been an extremely difficult year but we have emerged much stronger than we were. Throughout all of this our exceptional staff in both locations have remained intact, well and dedicated a fact that is a source of continuous gratification and amazement. With that Ill turn it back over to John.

John J. Stuart, Jr.

I’m only going to briefly touch on the fiscal 2007 income statement since those results were already summarized in our 12D25 that we filed back on December 31 and the bottom line impact continued to predictable reflect the imputed non-cash effects of our December 2006 refinancing that we’ve been discussing for the last several quarters. I will spend more time than usual on the balance sheet because that is where the principal effect of the re-statement disclosed in our just filed 10K shows up. However, if there are areas of the income statement for which you would like further elaboration please raise questions in the Q&A session.

Moving on to that income statement summary; revenues for fiscal 2007 were about $35.8 million up about $5 million from fiscal 2006. This was less than we had anticipated even as recently as our last webcast largely because we were not able to produce the meaningful improvement in optic sales in the fourth quarter that we had expected, as John has already noted. I won’t dwell on that any further. On the Costa Mesa side the fourth quarter revenue was the best of the year about $5.4 million which was also up slightly from about $5.3 million in the fourth quarter of last fiscal year. Costa Mesa revenues in all four quarters of fiscal 2007 exceeded those of the comparable quarters of fiscal 2006 resulting in an aggregate improvement of about $2.3 million in total revenue. This result was largely the result of the sustained improvement in product sales in Costa Mesa that we forecast in the last webcast. Costa Mesa products sales in fiscal 2007 were about $3.2 million over double the approximate $1.5 million of such sales in fiscal 2006.

The contract research and development revenue component of Costa Mesa sales was only modestly improved in fiscal 2007 from fiscal 2006. Both years incidentally exhibited a pattern of lower contract research and development revenue in the first half of the year and higher in the second half. As John remarked, this annual pattern is a fairly frequent one and is related to the government procurement cycle in which new research and development contracts are add-ons that are funded out of new fiscal year budgets, often don’t make there way all the way to us until mid-year or later. Based on our latest information in fiscal 2008 may also follow this pattern. The fiscal 2007 total revenue improvement while welcome continued to be well short of the level that we indicated was necessary for positive operating results. As we commented in our last two webcasts the precise revenue level required to achieve such an outcome is very dependant on the mix of revenue sources, gross margins and indirect expenses in any given period. We noted in our last quarterly webcast that our third quarter gross margins were particularly adversely impacted by start-up costs associated with some of the newer and more complex Optex products. We recognize some additional costs of this nature in the fourth quarter that increased the overall bottom line impact of such adjustments to about $2 million in fiscal 2007. We believe that these particular adjustments are largely non-recurring and we are glad to have them behind us.

We were also glad to see our fourth quarter general administrative expense finally start to decline from the inflated levels of the middle of the year that we also believe had a non-recurring component derived from our December 2006 refinancing. Speaking of that December 2006 refinancing, the non-cash imputed cost of that transaction accounted for a little over $9 million of our $22 million net loss in fiscal 2007. Additional non-cash costs accounted for another approximate $5.2 million of the fiscal 2007 total net loss. After accounting for these factors though and the various timing effects, fiscal 2007 still produced an approximate $4.4 million used for cash and operations. However, it’s useful to note that $3.5 million of this occurred in the first half of the year.

With that let’s now turn to the balance sheets and the effect of the restatement which was triggered by an accounting treatment which we adopted in 1996 related to a company differed compensation plan then being established to cover a limited number of key employees upon their retirement. The plan was crafted by a retirement plan specialist lawyer with the explicit goal of having sufficient risk of future benefits as to avoid the necessity of having to record liabilities for possible future payments on the company’s balance sheet and the creation of any tax consequences to retirees beyond payments actually received in any current period. That initial retirement under the plan occurred in 1997 and another one in 1998 with payments to retirees being recorded by the company as credit expense. No subsequent retirements of eligible participants have occurred since then. As a result the initial accounting treatment of this plan was not reexamined until recently when the final implementing regulations for tax code section 409A which mandates certain changes to deferred compensation plans were released just this past August. It was the proposed amendment and restatement of our plan to comply with 409A that caused us to do a thorough reexamination of accounting literature for such plans.

That reexamination led to the conclusion that the originally accounting treatment way back in 1996 was in error. The lawyer who crafted the plan was apparently more successful in addressing the tax treatment than his accounting. After sifting through a labyrinth of accounting literature that is related to such plans in some way, we finally concluded that a future liability should have been accrued starting back in 1996. That conclusion is probably at least partly derived with the benefit of hindsight since the regulatory landscape regarding retirement and pension plans has changed drastically since 1996 and it’s just not possible to state with any certainty how subjective interpretations of accounting literature have changed over that period, nonetheless it became clear for current interpretations that a future liability for the differed compensation plans should have been recorded. The amount of that liability is determined by mortality tables related to the specific eligible participants, their maximum benefits payable under the plan and a discount rate for calculating the present value of projected possible future payment stream. Application of those principals for all fiscal years from 1996 on resulted in a balance sheet adjustment that increased our accumulated deficit by approximately $4.1 million at the end of fiscal year 2006 and decreased stockholders equity by the corresponding amount. Most of this effect had accumulated by fiscal 2003 and in fact, the associated income statement adjustments to fiscal 2005 and fiscal 2006 actually produced reductions in accumulated deficits, that is they reflected small improvements to net loss in those prior two fiscal years. However, the accumulative balance sheet effect was in the look back period of the fiscal 2000 10K was sufficiently large to require a restatement of our consolidated balance sheet as of October 1, 2006 and our consolidated statements of operations, stockholders’ equity and cash flows for each of the fiscal years ended October 1, 2006 and October 2, 2005, as well as interim financial statements for the first three quarters of fiscal 2006 and fiscal 2007. As you plow through all of that in the 10K though, keep in mind that the only really material effect can be seen in the balance sheet.

Continuing on the subject of the balance sheet the other significant event that impacted the September 30, 2007 presentation was the restructuring of our debt with our senior lenders in November 2007 which pushed out the maturities of all those obligations including interest until December 2009. Even though it was a subsequent event and as such is discussed and entailed in the subsequent event note in the 10K, it occurred before filing of the 10K and therefore favorable effected the September 30 classification of all that debt to long term status. This was a very important step in strengthening our balance sheet so we can concentrate our working capital on our current operating needs rather than debt service. Finally, I should probably at least comment on the going concern qualification expressed by our auditors in 2002 of the 10K. It is certainly true that our working capital is quite limited for trying to manage a business of our size. However, it’s interesting to note that even within the selective financial data period of our current 10K, which is a look back of five years we had fiscal years where we finished with negative working capital but without a going concern qualification. This is probably another reflection of the substantially changed accounting landscape over the past few years in which telecompany’s must currently operate. This is not to say that we don’t treat this qualification seriously because we do and we will address our operations and finances with the goal of getting the auditor qualification removed as quickly as possible. Status of the auditor qualification will be presented in our quarterly reports during the fiscal year so you will be able to assess our progress toward that goal. This is probably the best point to break for the Q&A so operator we are now ready to take calls.

Question-and-Answer Session

Operator

(Operator Instructions) Our first question is from John [Ogrodnik]. Please go ahead.

John [Ogrodnik]

In the January quarter how is the working capital? I mean, are you guys comfortable with the management in place and should we expect the January, February, March quarter to be much improved over at Optex? And, are you still sticking to what you, the press release you made about six weeks ago about doing basically somewhere around $50 million in revenue for fiscal 2008?

John C. Carson

But yes, to all those things we expect the situation in Optex to improve dramatically during in January through March time period as we get our deliveries back on schedule at that place and that has a very pronounced positive impact across the company, most remarkable with our customer interactions and customer relations but also with our working capital. We expect a big improvement there.

John [Ogrodnik]

What about the $50 million in revenue?

John C. Carson

I thought I said yes to that. Yes. That is still a good guidance.

Operator

(Operator Instructions) Our next question from Roger Benson. Go ahead please.

Roger Benson

Hi at an investor meeting that I attended in New York some months ago you referred to several potential large government contracts most likely with these unmanned flying vehicles and so on that are used for intelligent purposes in Iraq and Afghanistan and so on. How are we doing in that area?

John J. Stuart, Jr.

We have several initiatives going in that area we’ll announce them as they come to fruition. We did probably about that time, form a relationship ship with an unmanned aircraft provider ARA that is really exciting. We tried to have one at the stockholders meeting if you guys’ come out there. It’s a small aircraft that you can shoot out of a tube being considered now for use on the Bradley fighting vehicle and the other armored vehicles so that the guys don’t have to step outdoors to launch there little airplane to go look down the road to see if anybody’s there. That airplane because of our working relationship is being modified to carry our cameras and right now we’ve already done that part, and our infra-red night vision cameras but it’s such a nice little platform that we’re going to probably modify it for almost every kind sensor that we can squeeze in there. So, it’s an exciting new opportunity of having control of our own platform, it’s a big step. But, that does not preclude us from working with the big people in this field particularly the ones like AAI, recently acquired by Textron but they are the providers of the shadow of which there’s about 500 in theatre right now. We are trying to get onboard that platform as well. We’ve still got work to do there but that’s typical of the kinds of platforms that we expect our gear to get on to eventually.

Roger Benson

Okay going back even farther, a year or two ago one time we felt we would be into an intelligence dog tag that the military would use. It sounded like a great thing but then for some reason it mysteriously got out of the budget. How are we doing in that area?

John J. Stuart, Jr.

It keeps trying to come back but it never has. The customer there has repeatedly referred us to people in the medical community because our customer gets asked by people in that community, “Where did that technology go? Is it still available?” And all that and it is. So we are starting to get some feelers for commercial application of that but the army version which was I think, supposed to go to Iraq originally two years ago, that budget element just keeps getting cut every time and there doesn’t seem to be a strong support for it in the under side.

Roger Benson

Lastly Access Technology announced an infra-red contract of size just recently and it sounded to me like something we might have gotten. Where are we? We’re we a losing competitor with them? Or, are we in different programs or what?

John J. Stuart, Jr.

Well Access acquired a company, about the same time we acquired Optex, we looked at this company a company called [Dieop] which makes large optical systems for long range imaging both thermal imaging and other kinds of infra-red imaging. These are cool systems, very end that is not an arena that we ever have or will likely ever play in.

Roger Benson

Okay. And, we thought we were going to go into the law enforcement business as well and not just the military. Anything new there?

John J. Stuart, Jr.

Not that we can talk about yet. We are currently pursuing those communities but some of that’s coming through very sensitive and classified applications that we’re not allowed to talk about. But perhaps in a year or so, that will start surfacing.

Roger Benson

Okay well lastly what’s your most exciting program for this current year?

John J. Stuart, Jr.

That’s a good question. It’s pretty exciting stuff. I think the Eagle stuff that we’re working on for our high speed processing is going to be important technology that gets - basically comes to fruition in the market place during the year. I think we’ll see some exciting things happening there. Just to remind you, our claim to fame there is we’re the only people with the highest speed access on the internet to the individual packets to examine contents on the fly with out slowing the data down. This has obvious security, information security ramifications that is becoming important last year and this year.

Roger Benson

Yes I do remember hearing you speak about that so the thing that is exciting for this year is that it might actually lead to some business for us?

John J. Stuart, Jr.

That’s correct it is in a transition from being a laboratory and small user demonstration kind of thing to a real product. It’s a family of products actually

Roger Benson

And the market side of that might be approximately how much?

John J. Stuart, Jr.

The addressable market is on the order of $1 billion a year. It matches up well with things like Cisco and Juniper routers. If it winds up being either components of those routers or boxes that sits next to a router. And, the cost of a box is in the $100,000 or $200,000 range.

Operator

There seem to be no more questions at this time. Actually we do have two more questions that just popped up. Sorry about that. The first question is from William Smith. Go ahead.

William Smith

Hi guys I am a stockholder and have been for going on 5 years now. So, I’ve been following this technology with bated breath since learning about your company. I’m a little disappointed to see where our stock price is at at the moment but I’ve got a number of things I would like to talk about. It seems like the last conference call you were talking about something exciting in the next 30 to 60 days; nothing seemed to transpire expect maybe the announcement of the partnering with ARA. Was that what you were talking about? Or, was there something else that you’re expecting to happen here?

John J. Stuart, Jr.

Well, there were two things that ring a bell. We have a partnership, an alliance with a major aerospace and defense company that will be announced, and I thought it might be announced during that time. The second thing is there was a procurement for thermal imaging cameras that was imminent and that happened and we lost it actually. It was approximately for us about a $15 million procurement that we were a sub-contractor on and it was won by In-flight Technology in the New Hampshire. But, I believe I was referring to both of those things.

William Smith

Any good understanding of why we lost that contract to In-flight?

John J. Stuart, Jr.

Yes. We were a sub-contractor as I say and our teams was a bit more expensive and a bit longer deliveries and those two factors taken together were enough o overcome the fact that we did acknowledge the fact that we had a superior product but In-flight met the threshold and they had a lower price and a shorter schedule and that’s what beet us. We won’t lose many on those kinds of grounds. That has to do with how good your marketing intelligence is going into these procurements.

William Smith

Okay, you know my concern there was that our technology was almost too much for them. That is nothing to be concerned about then.

John J. Stuart, Jr.

We were in the running because even though our price was higher. We were in the running because it was superior but our approach generally is to match the new price and delivery and excel them in performance. That’s a winning recipe and we did not follow that recipe. Our team did not follow that recipe.

William Smith

Okay my next question. Chip stacking, where are we? What’s going on with that? I understand that after we had the qualifying news we haven’t really heard much about it.

John J. Stuart, Jr.

Over the last several years we have qualified two versions of Chip Stacking that are very very exciting. The first one which is [inaudible] probably can’t remember is the T-soft to BGA process that we qualified and then announced and ever since then people have been trying the math. We just as were speaking, this has not been announced expect on this telephone call, we just made our first deliveries to a major customer of that part. It’s absolutely you need to {inedible} speed and density. We can get more chips in [inaudible] and it’s very very price competitive. We think that it’s just indicative of that whole marketplace that took a whole year until the time we got it qualified and the time we got it into the market. The first users of that are Aerospace and Defense companies but it’s intended to be a commercial part. The second one which we qualified not to long ago is a part where for the first time we’ve had the people that provide the silicon adjust there process to accommodate our manufacturing processes in such a way that it comes out a lot cheaper. We just completed that call and so you just have {inaduble} consider the fact that it takes quite a few months after you’ve done that that you can start announcing product sales. We generally will not be announcing who we are selling these things to. We will be announcing how many we sold in material quantities and the impact on the bottom line. But generally speaking people don’t like us to tell people what they’re buying.

William Smith

The first version, how much have we sold?

John J. Stuart, Jr.

We have just sold a few 100 and they are being installed into that company’s prototype equipment just prior to them going into production.

William Smith

Whatever happened with the Lead free?

John J. Stuart, Jr.

It’s just slowly taking over. Unless someone says differently we provide, our commercial parts are all now lead free and a requirement to be in the marketplace. It’s an odd artifact of the lead free process that makes them ill suited for military use, particular space users. A lot of our stuff goes into space where it becomes data recorders for satellites to record imaging and the likes. The thing that people do to make semi-conductors lead free is they replace the led fodder with tin. And in a vacuum tin grows little whiskers that short out the parts. So if it goes into a vacuum it almost can’t be lead free and it’s causing a lot of problems in that side. So where we’ve come down, to answer your question, we have a lead free product line and a non-lead free military product line. There both about the same price.

William Smith

Okay and are we seeing the regulations and so forth, to push the lead free product out the the marketplace?

John J. Stuart, Jr.

It’s pretty much required now in the commercial arena.

William Smith

Great and what do we expect from that?

John J. Stuart, Jr.

It kind of boils down to you had to have it or you couldn’t get it [inaudible] people in the [inaudible] are just dropping out as a result of that change. We have some optimism that we’ll pick up some of there business.

William Smith

Great. Is one of those StackTech?

John J. Stuart, Jr.

You know I don’t know if they have a lead free process. It’s not good of me not to know that but I don’t. I am sure that they are listening.

William Smith

Okay last question. The acoustical sensor that was talked about anything going on?

John J. Stuart, Jr.

Yes. We are getting close to delivering the first of those. Again the customer is kind of sensitive about what we talk about it but it’s a product and we have, if it’s successful it will be tested and go into some kind of production this year.

William Smith

Okay. Get into the Eagle 1 and the Eagle 10. I heard on the backline that we were expecting the eagle 10 out in December.

John J. Stuart, Jr.

That’s a good assumption just let me leave it at that. We’re taking orders on Eagle 10.

William Smith

Great now is this commercial or government.

John J. Stuart, Jr.

Both

William Smith

We never talked about the software company. Is that still something we can’t talk about that’s involved with the Eagle 10?

John J. Stuart, Jr.

Correct.

William Smith

The thermal contract that we’re winning verse losing. Any thing we can put our head on there why we’re losing these? I think there was more than one, was there not?

John J. Stuart, Jr.

There were two that we bid this year that we lost. There were others that we bid that we don’t have resolution on yet. I think that looking back those were our first ones and I just told you about, on the second one that we lost we were not the prime. The first one that we lost we were the prime and I just don’t think we were quite ready yet. We learned a lot from that procurement. We actually on that procurement had lower costs, better performance and better delivery expect in one key area where we failed to test the unit in a set of conditions that they did and it surprised us because we never checked it in that environment and they did. It was an easy thing to fix subsequently but you know you don’t get two tries in a situation like that. So I think we just needed to go through a couple of those to get the bugs out of our process.

William Smith

Does the financials debt lowered any of that, these big losses that were showing though I know most of its paper? Does this come into play with these customers?

John J. Stuart, Jr.

So far it hasn’t. We have to be careful about that. When you’re small like Irvine Sensors is and you’re going after people like Raytheon, [inaudible] and the likes of them. They can use anything that looks like financial stability against you. We haven’t seen that but we have to always watch out for it.

William Smith

What about retrofitting the goggles? What took place with that?

John J. Stuart, Jr.

We’re moving forward with that. We have a lot of very strong customer interest. When you bring something out particularly for the military that’s not exactly like what they’re used to it takes them a little while to react. I mean to react with funding. I will say it generated a lot of excitement. I have very very high hopes for it. When whoever asked me a minute ago what’s the most exciting thing this year that would be the competing one.

William Smith

What could be the potential with that?

John J. Stuart, Jr.

I’d rather not go into that too much because whatever I say is could cause problems with our customers. I would rather not [inaudible] thinking.

William Smith

The streaming video that you talked about?

John J. Stuart, Jr.

This is a data compression technique that is coming out of our cognitive system activity where instead of trying to do traditional data compression [inaudible] mathematically based. This is recognition based so that you’re able to characterize rather than reduce the amount of data y you actually change data into information. We’ve determined that this was doable about 6 months ago and now we’re in the process of getting it to some kind of seeable state. We are probably 6 months from that.

William Smith

Is this application just streaming video or does it have other applications?

John J. Stuart, Jr.

UI think it’s broadly applicable to data compression.

William Smith

Okay is it something like the Tel-co carriers.

John J. Stuart, Jr.

If you’re familiar with what people are using for videos, Mpeg, Mpeg stream all of the [inaudible] the things that are on your IPod are a form of that. That let’s you still have flexibility music while you are suing it. That might be an area that’s not readily applicable to this but the J-peg that let’s you transmit still pictures, is probably applicable to those kind of things. Things where being able to name the object and describe them takes drastically less bits per seconds then just mathematically reducing the bits per second is where this applies. I know I’m not being very good at explaining it but its broadly applicable beyond streaming video but not to everything.

William Smith

Okay. Lador, where are we with the Lador?

John J. Stuart, Jr.

The space version is proceeding at a fairly steady level. We are selling a small number of those at very high prices because they are complex and difficult but on a steady basis. The tactical versions are a working process. We are tying to get the funding assembled to get those into the field. A lot of interest. We have matured the design of that thing. It’s going to be a huge market once we get there. And it’s just as I said a working process to get it out there but it’s because we have the space version that it opens up the possibility of the tactical version.

William Smith

Great. Market street partners, whatever happened to them? What did they do? How much did it cost? Was it fruitful?

John J. Stuart, Jr.

Hard to tell. We used them for a while. They put us in touch with several institutions, took us around for a bunch of meetings. We don’t have a large institutional set of holdings if you look at the public reporting. So I just honestly don’t know whether some of those people are watching us to see if there is a proficient moment to step in. We have other representation now.

William Smith

Any analysts coming on board? Anything we can expect from road shows?

John J. Stuart, Jr.

Well we’re obviously going to try and get as much of this information out to a broader audience as soon as we can. There were a bunch of things that had to happen to be able to tell an intelligible story. One of which was that debt restructuring which was hugely important because there was a $2 million payment due in January. There was monthly amortization on the series 1 notes starting in January and without getting that out of the way it would have been extremely difficult to get any institution or sophisticated buyers to look at the story at all. So we had to get that out of the way and then this craziness of the re-statement popped up which obviously also had to be dealt with. Hopefully we now have all those things behind us in a nice clean disclosure out there for everybody to pay attention to so maybe we can get out again.

William Smith

Didn’t you get a new IR firm recently?

John J. Stuart, Jr.

Yes, about 6 months ago

William Smith

Now are they ready to get to work then? Or have they been working?

John J. Stuart, Jr.

They made some quite market stream, they made some reductions, gave us some meetings but they kind of went relatively dormant when we got into the debt restructuring and 10K restatement process because there wasn’t a whole lot that could be done.

William Smith

Right. Okay. When you knew that the quarter was going to not be what we thought on the last conference call in August, don’t you typically kind of restate that?

John J. Stuart, Jr.

Well that’s partly why we had that Safe Harbor comment up front. We’ve never actually given guidance in the rational sense of you know revenues are going to be x, the per share number is going to be y. We generally try to catch it in broad enough terms that there’s not a hard requirement to go back and modify it. Now looking back in hindsight maybe we should have gone back and said hey things are struggling at Optex more than we thought but we were in the middle of fighting the struggle and our priorities were there and our apologies if we didn’t clarify it fast enough.

William Smith

Right about that time is when the stock started falling and it’s just like you know, I don’t know how people know but they know, whatever. Which brings me to the next question; we have to get back up over a buck? What’s your thoughts on that whole thing?

John J. Stuart, Jr.

I thinks’ there’s certainly no disagreement with that suggestion. We clearly have to start delivering not just news but actual results to sustainably achieve that goal. One of the things we’ve found out somewhat to our dismay in the technical’s matters when we first tripped over that is that NASDAQ thing, is the way the bid and the [inaudible] reported have a built in problem because it you would think that whatever the transaction is that occurs is automatically reported as bid. It’s not. So we have to get everybody to the point where everybody’s perceptual level kind of lifts at the same time including the market makers. Because if the market makers continue to put in low bids despite what the transactions are that doesn’t get us up over that threshold. So this is not an easy thing to do and we know it isn’t and we just have to start executing.

William Smith

With the sticking to the $50 million in revenue, how much do we think is going to be from back log or government or R&D or product mix? Do we have any feel for that?

John J. Stuart, Jr.

We have a feel. We haven’t publically articulated that feel yet. Clearly the biggest leverage is at Optex because there back log alone is nearly at that level and clearly there customers would love to have us fill that back log as fast as we possibly could. There are limits to how fast we can do it from where we are today but we’re trying to push that envelope as rapidly as possible.

William Smith

What do you feel the back log time frame is; 18 months or a year?

John J. Stuart, Jr.

I don’t think we’re prepared to talk about that yet. In terms of physical capacity there’s a lot of capacity there and they could go to a second shift without a whole lot of pain and suffering. The real issue is getting the supply chain back up in volume which is essentially a working capital thing and it feeds on itself.

John C. Carson

But to answer your question I think our back log is just a little over a year, if were running at a $50 million level we are just a little over a year worth of back log.

Operator

Yes. The next question is from Mike Gustafson. Go ahead.

Mike Gustafson

You know we start these sessions always and it’s the same reoccurring group that stands out there as investors and I think each and everyone of those investors are kind of looking at you guys and saying okay, so how does this current fiscal year going to be a little different than 2007 and perhaps we’ve made some maybe the main point is here. So in that regard and maybe acting more like on a summary basis then anything else come here a little bit late from another meeting to get in touch with this call. From a revenue situation we’re talking about revenue increase situation for 2008, we’re talking in the neighborhood of $50 million. Is that kind of the forecast your talking about or are you declining to really commit to that?

John J. Stuart, Jr.

No. We said that earlier

Mike Gustafson

Could there be some additional types of wild card items that could in fact improve that position.

John J. Stuart, Jr.

Well yes, maybe before you got on Mike we were talking about a couple of launches we had that were each $15 million. They were not in that projection.

Mike Gustafson

So we will take that as conservative. From John Stuart then from an operation expense scenario what do you see in terms on the Costa Mesa or Richardson operation which I think is very well attended by your new CEO down there? Say the Costa Mesa, where can we start looking to reduce some of the operating expenses.

John J. Stuart, Jr.

Well we keep hoping to get the G&A cranked back to levels of a couple of years ago but it’s probably not going to happen. I think we’re probably not going to see the same kind of distortive non=recurring things that came around those financings and the refinancing but it’s just the regulatory environment is just not getting easier and this we are presently marching against the schedule where by the end of this fiscal year we will have to self certify against the [inaudible] requirements and the following year there auditors will have to certify. There’s some talk in the commission about pushing that second milestone out another year but for the time being we can’t wait I mean we have to keep going against the schedule that we know about. So, even though I’m hopeful that we’re not going to see the sort of wild excursions that we have seen in the past. I think the sea level has just risen and that’s part of why we’ve said publically that we have to grow this company. The infrastructure costs managing a public company or just sort of a fixed costs these days and even at $50 million that’s not enough. It’s a good step forward but we can’t stop there and John has probably said on a couple of occasions in the next four or five years we have to be up in the $300 million range if we a) want to meet the goals of our stockholders values but b) having a big enough base to spread those costs around.

John C. Carson

There is a glass half full version of what John just said. We don’t have to have substantial cost to add substantial revenue and that a good side of it. We can take on the much bigger projects and bid much bigger jobs than we ever could just because we got to this base if the revenue isn’t there and we have to cut costs it will e hard. But where we stand we can take on a lot more business and I think we will.

Mike Gustafson

Some of that stuff presumably that you would be looking at would be the higher margin stuff that starts to become a little bit more attractive is that correct?

John C. Carson

That’s correct.

Mike Gustafson

And obviously some of those expenses could be expenses that you don’t actually encounter but maybe that you’re a sub to a prime. Would that be accurate?

John C. Carson

Sometimes. In general we are just moving towards higher margin products in both places. Costa Mesa tends to be higher margin no matter what. But it’s just getting the volume up on the Costa Mesa side. On the Optex side we inherited a chunk of that business that was fairly low margin and we’re moving away from that. Back log more than doubled over the two years that we’ve had them. Most of the growth has been in the higher margin side. So its just going to I think continually improve.

Mike Gustafson

So if you’re really talking about growing out the company and increasing the revenue and you’re hoping that that in fact will counteract some of theses additional costs of running a company. This is John Stuart’s claim then you also have to consider that you know, that economy scale starts to take place and in fact you just don’t inherit another expense situation that you’re not fully appraised of. So when I’m thinking about this I’m thinking more and more of the revenue might be derived something similar to {inaudible 3.53} we talked bout that in the past where more and more of the product is development is taking place kind of outside of the expense column at Irvine Sensors. Is that a movement toward satisfying some of this required revenue or top line is to move more towards supplying some of the technology to people who actually fabricate it into products and go along for license agreements or some type of royalties for use of technology?

John C. Carson

Yes and no. Yes we defiantly have and want to expand, have done that and want to expand that side of revenue generation. We don’t have a test or a model though. They actually buy IP and mix it with IP they’ve already got and form products. They are very good at developing IP’s that other people buy and imbed in there products. But that’s not an area that we have strong skill sets. We are more likely like we did with RDM and we did with others to develop something that they want. [Inaudible] rather than that being our business model that we’re pursuing. Having said that some of these alliances that we are working on with big airspace and defense companies are exactly that but with a little different twist. We are for example on our camera technology we will come develop with them core electronics that they’ll use in there products and we’ll use in our and we will share some of the same manufacturing resources. There’s lots of ways of sort of combine capabilities and interest with big companies and little companies that you will be seeing us service with. We’ve actually done that for a long time and it’s just getting better now as our technology is maturing.

Mike Gustafson

My question is John was talking about and you’ve said the same thing, you know it was two or three years ago we were talking about a $300 or $400 million company top line. Can you grow a company on that model that you sort of just described to those types of levels without going out and looking for another acquisition?

John C. Carson

Probably, do we know? No I don’t know. But right now you could see us getting to at least the $100 to $200 million range organically. Just because the kind of opportunities that we have staring us in the the face.

Mike Gustafson

So you are saying $100 to $200 just based on your current business structure as opposed to going out and actually looking around to acquire another business to provide that lift.

John C. Carson

Right. We would obviously get there faster with an acquisition if the right one came along.

Mike Gustafson

Well right now you have a lot of needs that you have to take care of. Cash needs to be able to satisfy these delivery schedules so I would say the first thing is to try to beat that up as much as you possibly can. Doesn’t it make sense to get your own house in order before going out and requiring something else?

John C. Carson

We are not disagreeing there but we are talking about a three to four year horizon and there are lots of twists in the trail that could happen over that long of horizon.

Mike Gustafson

Let’s stay with what this current talk is all about. The theme for this current fiscal year and how it’s going to be different then 2007 and trying to create something that the investor base can really feel comfortable about and excited about. So, getting away from the expenses how about some of these paring agreements and arrangements that we’ve heard so much about. I know that you’re trying to get a situation where we can allow some of the release with these guys that you’ve been talking about. who they are we don’t really know but is that a possibility in this time frame where we can start seeing some real credibility building with big aerospace guys or other OEM’s . Is that a possibility?

John C. Carson

Yes you will see it incrementally. You will notice that we’re visiting with some of these guys. We won’t necessarily explain why or how but you will just see more of it. And eventually there will be an announcement about the nature of our relationship but probably not quickly. There not anxious to divulge there interior strategy which this is kind of critical to.

Mike Gustafson

Alright. With the back log by the end of this particular year you suppose that a good portion of that will be satisfied, the current back log. But at the same time do we have additional orders building up behind this back long?

John C. Carson

Yes. We are adding back log just as fast as we are burning it.

Mike Gustafson

Okay then the real critical issue here is how we actually fund. That is a question of funding right?

John C. Carson

The more working capital we have the faster we can turn stuff up to a point. It’s not infinite. As the cash situation improves our ability to turn back log will improve and the cash will improve. It’s really an upward spiral once you get onto that.

Mike Gustafson

With John Stuart? John are we at a point where all of the outside investors can delight in the fact that we have kind of maybe turned a corner. It could be a little better situation but do you honestly think the worst of financial times are kind of behind us and with whatever is going to be going on in the future in terms of funding this burgeoning back log will really kind of take us into a whole new environment by the end of this 2008 fiscal period.

John J. Stuart, Jr.

That was a pretty expansive question Mike. The best answer looking into a crystal ball here because everybody out there is looking for a little bit of light at the end of this very long tunnel that we’ve all been part of it. The only overt measurement you have of that is that a bunch of have recently stepped up and exercised this option under water. So as the old saying goes, there are a thousand reasons while people sell stock and only basically one reason they buy, because they expect it to go higher.

Mike Gustafson

That was a good response. Is there more around the corner then you - how much has been exercised so far?

John J. Stuart, Jr.

About $800,000

Mike Gustafson

That shows a lot of commitment. I read about that one and I thought that was a good plan. Improve Optex operating performance this particular year should really show some type of turn around there. Is that true?

John C. Carson

Yes.

Mike Gustafson

And the individual man that is in charge of that coming from Honeywell and all of his operation management experience and some of the work that you did prior to the loony disappearing is such that you really figure you’ve got a good hand hold on that whole operation.

John C. Carson

Yes it’s very good now and it was very poor before it is just a night and day difference.

It’s in the process of being ISO certified all of those little things that you have to do for companies that are privately held and owned by family members don’t ever do are pretty much behind us.

Mike Gustafson

The US economy the way it is sort of when you are taking a look at the military securities spending, if I am having to call one more time and look in a crystal ball either or John, what do you think the effect is going to have on our research and development contract and product sales.

John C. Carson

This is looking forward like to the end of the war and things of that nature.

Mike Gustafson

I think so and sort of changing of the political guard. I know that there’s a lot of variables to consider.

John C. Carson

If no cataclysmic event like 911 or something of that nature occurs or if the war winds down and I believe it would if no cataclysmic occurs with or without a change of administration. There are multiple procurements that were part of both here and at Optex that will not wind down quickly. It will take them two or three years and then the platue some will be through and some won’t but our shares is such that I don’t see much downward change for at least five years due to those kinds of global issues. Now in the past when the like at the end of the Vietnam War and at the end to a lesser extent the end of the Persian Gulf War, 1) there was particularly just after that we turn down the Berlin war. There was what was called a peace [inaudible] and production contracts in the military really went down but the R&D side really wound up and during that whole period of the 90’s the high tech side of the commercial industry, industrial base really went gang busters. But that’s why we really want this company to be about half and half between commercial and military as we go forth and why we want to keep the R&D robust but not dominant because there is ebb and flow of these different pieces of the economy are such that if you have these components you can insulate yourself largely from those kinds of global issues.

Mike Gustafson

Would you say as well though that we really stand at a great position here for any sort of, just speaking about military, the new military force retooling itself with better and more sophisticated high tech tools for detecting enemies, avoiding conflicts and so forth? So much of what Irvine Sensors is all about is involving that trend. If you can maintain a position, a lead position in this then you guys presumable should be with your core technology front foremost with teaming agreements with big guys that are now coming back in to take the old antiquated obsolescence of the technology used in the past and retool and reshape the new military organization. Am I just spinning a yarn here or is that true.

John C. Carson

No that‘s basically what we’ve been doing and that’s why people like [inaudible] these types of development contracts is that we have some credibility about transition on average about the airspace and defense community.

John Stephens

And beyond that Mike there’s a couple of Uber trends that over arch all of that and that is electronics is not getting bigger. It’s always getting smaller and bandwidth is not getting less it’s always getting bigger. Everywhere you look those are our sweet spots. So independent of how war and peace may effect military markets. The fact that we have now survived long enough where the technology is maturing to start making transitions into commercial really opens up much bigger opportunities than we ever had in the past.

Mike Gustafson

But when you have to define yourselves, Irvine Sensors among the pact, you have to be considering yourselves in a very sweet position moving forward. Is that accurate?

John C. Carson

Yes it is today but I think we are seeing those kinds of features interesting to these big players in particular airspace and defense but there’s also the commercial side as well. People are looking at the fact that we’ve been the beneficiary of all this government investment in high technology. So were very technology rich right now, it makes us very attractive for alliances with big companies whether they be military or commercial.

Mike Gustafson

Are there any guys out there that our similar [inaudible] similar types of very small computing geometry.

John C. Carson

I don’t know anybody. I haven’t met anybody like us.

Mike Gustafson

So then we really are a distinct animal.

John C. Carson

Yes. I think so.

Mike Gustafson

This is the last question then. Actually I have one more. The IR program you really have to be proactive I know you have to have something to talk about. I know we’ve canceled this umpteen dozen times. You know it’s important to develop any sort of institutional holding. You have to tap on the doors and talk about what’s out there in advance of the event occurring and I know you get some real substantial traction when you can make a claim and follow through with the reality and subsequently follow through with that contact with the institution. We have had great success with that with our own companies in the past and that’s an early proactive CEO face to face meeting with institutions. Back slapping and introducing the product and the company and doing some of your own level forecasting and then confirming that in fact that’s happened. So that’s going to happen. Could we say that’s the thing that’s going to happen John, in this next three quarters that were going to be going through?

John C. Carson

Sure. Yes. It will. We defiantly have to get out there over the next few months and get our story in front of everybody. The advancement community in general.

Mike Gustafson

And you know we\hen we finally get to the AGM it would sure be interesting to have all of that equipment laid out. All of those core technology that’s founded in all of these product lines as much as you can. SO we can touch and look at them and toy with them. That’s a tremendous benefit. Okay the very last question is you know, if you’re an investor, you know John, what’s compelling about this story? Why would I want to get involved? Why would I want to buy stock right now at $0.70 or $0.80 in your company?

John C. Carson

Well just look at the risk for reward. I mean the market cap on this company now is what? 35 or 40% of its back log. And the historically we used to trade in the 1.5 to 2 times forward-looking revenue. This is a crazy market cap in my view. Largely as a result of all the financial {inadule} we’ve gone through over the last year.

Mike Gustafson

You mentioned risk. Can you outline that risk? Kind of give me some feeling what would an investor, how would an investor be veiwing the risk?

John C. Carson

If you read the 10K I don’t have it in front of me but there’s probably 10 pages of risk factors.

Mike Gustafson

I know but from your perspective where is the largest risk factors that an investor might be encountering with investing in Irvine Sensors.

John C. Carson

I don’t think. It’s probably the working capital. We are still, all of these things we are tying to do we are really doing on a pretty thin budget.

John Stephens

I think the fact that we are on a big stage and we are a small company and we play in a way that is unusual for a small company just inherently carries the appearance of risk but I would counter that with the fact that since we went public it has been 25.5 years of a lot higher risk than we’re facing today and we’ve had that resilient, we haven’t changed. We have the same gang and we’re just going to go get it done. Anyway, if you look at us without knowing us very well you’re going to see that. That we are out there doing battles with pretty big imposing creatures.

Mike Gustafson

And hooking on to some of these product lines could just be enormous. There are probably some wild cards out there that could turn this thing around in a real hurry. With that be an accurate statement?

John C. Carson

Yes.

Mike Gustafson

So there’s some wildcards that come up that change dramatically where we are going but also the fact is that we have a stable type of environment we are looking at $50 million this year, the restriction is working capital but based on a 25 year history with Irvine Sensors you’ve got a lot of support and you’ve developed a piece of technology and you’re going to be around here for business for the next 20 years or 25 years.

John C. Carson

I probably still won’t be CEO towards the end of that.

Mike Gustafson

John, John. Thanks. Hopefully we can see some improvements in some of the stuff that we’ve been talking about looking so forward to that you guys have around the corner and what we’ve gone thorugh this 2007. I’m just hoping that this is a tipping point and I get the feeling that it probably is. Best of luck and we’ll talk later.

Operator

Looks like there’s one more question from John [Ogrodnik]. Go ahead please

John [Ogrodnik]

Hey guys I know it has been a long conference call. I just want to say a couple of things. First of all John Carson I do want to congratulate you along with all the other insiders especially your self by putting a half a million dollars of your own personal money n this company and according to my calculations of an average price of $2.32. I think that’s a good comendment by you. Just two things real quick. In the [inaudible].

John C. Carson

We don’t have a firm schedule but besides that for legal reasons we can’t announce that ahead of time but we are going to get out there in the relatively near future.

John Agratti

Okay and the last thing the teaser in that last conference call, will you ever be able to talk about it in the near future, the one with the large aerospace company?

John C. Carson

I talked about that I think before you got on. There is more than one of those now and I would love to tell you more about it. The revelation and details about it will be totally at there discretion, so you know, months probably.

John [Ogrodnik]

Okay and the last, could we expect more transactions from the insider? Or do you guys not want to talk about that?

John C. Carson

We can’t.

Operator

That appears to be our last question.

John C. Carson

Okay. We did have a few questions that came in over the internet but they were really touched on by the questioners here so I believe that we’ve covered everything that was of interest. That being the case, thank you for your patience since this was one of the certainly more extended webcasts we’ve had. I’m glad the questions came and we were able to provide that level of answers. It helps us in future discussion with everybody to have this kind of information out in the public domain. So that concludes our webcast for today. If you would like to listen to it again it will remain archived on our website through the close of business Friday February 1^st. Thanks for listening. Goodbye.

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