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GSE Systems, Inc. (NYSEMKT:GVP)

Singular Research's Annual "Best of the Uncovereds" Conference Presentation

September 4, 2008 8:30 am ET


Joe Lambert – Director of Marketing, Singular Research

Jeremy Hellman – Analyst, Singular Research

John Moran – CEO


Robert [ph]

Joe Lambert

Our next company to present is GSE Systems. And to present GSE Systems, I'd like to introduce one of our top analysts. We're fortunate to have Jeremy Hellman with us today. Jeremy Hellman has been with Singular Research for about a year now and he came from Thompson Davis and his focus was on small cap and worked with a small cap firm in Richmond, Virginia. Jeremy Hellman, our analyst, is a CFA charter holder and general analyst. Over 15 years experience of securities and three of the companies that we have on our schedule today, he is the analyst and they will be presenting. With that I'd like to welcome Jeremy Hellman.

Jeremy Hellman

Thanks, Joe. Just a quick note, I just want to reiterate that Seeking Alpha – everyone has had a chance to check out, it's going to be offering transcripts of all presentations today, so if you really have been copying just a couple of notes, make sure to check that out.

And I'm going to be happy to introduce John Moran, the CEO of GSE Systems, stock symbol GVP, which I think is really timely play right now. Given the uncertainty in the market, you really got to be precise in your stock picking and as you'll see in John's presentation, there's a lot of things that are going to be working very well for the company not just in the near term, but over an extended period of time in terms of the macro drivers. And I think that that's grounds for a lot of excitement and I think the company is coming up on a very good inflection point. So, without giving the story away, I'll introduce John Moran.

John Moran

Okay, thank you, Jeremy. I am going to gear the presentation this morning to people who are not familiar with the company and our stories. We've got a lot of information to share. We have plenty of copies of the presentation at the back because I'll go through some of the slides pretty rapidly. And we have our first technical issue. Joe? How come this worked about 30 seconds ago? I can't get it to forward.

Joe Lambert

I was having that difficulty a little bit right here. Tammy with WebEx, are you on the line right now?


Yes, I am.

Joe Lambert

Okay, we're again having – I guess it's just slow on loading here, is that what the problem is?


It could be.

Joe Lambert

Okay, we're back on to the next slide.

John Moran

Okay, let's start with high level investment metrics. We are traded on the AMEX Exchange. We have currently about 15.9 million shares outstanding, on a fully diluted basis about 17.2 million. Management owns about 5% of that. Daily average is – at the close of the quarter was about 41,000. We're up to about 50,000 now. We operate under a $5 million revolver with the Banc of America, and at this point, we've got zero borrowing against that credit facility and are in a positive cash position.

I think the first key point that I want to leave you with here is the key markets that we serve. As you can see, the company is very energy centric and we are one of the very few public companies that are positioned to benefit significantly from the nuclear power plant resurgence which we believe is about ready to occur.

We try to be very responsive to the investment community so I try to make myself available to the maximum extent that I can and there's another tremendous resource which is our investor relations consultant, Feagans, when you can't get me, get Neal. He knows as much about the company as I do and I think sometimes he presents the key points a little bit better than I do.

Okay, here we have some financial metrics for the last six quarters and our message to the investment community has been and will continue to be that our revenues and operating incomes are currently choppy and they're going to be choppy until such point as we scale our revenues. The reason for that is very simple. It's basically the size of the jobs that we execute versus the size of the company right now.

For us a key indicator and the one that we like to focus on is contract backlog. And as you can see in the second quarter of '08, we ended with a $29.1 million backlog, up from $17 million. Our definition of backlog is very stringent. It is basically signed contracts. Now, as you may have read in our earnings release, we are actually operating under several letters of intent where they have authorized us to begin work on major projects. Those projects total about $15 million and – or will total about $15 million in contract backlog when they're fully executed.

And you may have noticed on August 15, a major press release on a nuclear plant in the United States, which had an additional $7 million to backlog. So if you look at kind of the implied backlog, we're operating at about $51 million level right now which of course is substantially higher than any level that we've seen in the recent history of the company.

To give you an idea how the business is scaling, we just took a look at some of the new build orders that the company has received. And as you can see, in terms of the nuclear industry, and I'll go into this in much more detail, but in the nuclear industry at this time last year, we were working on zero new build nuclear simulators. Today, September '08, we are now working on six full-scale nuclear simulators.

Now if someone were to tell me a year ago that we'll have six full-scale nuclear simulators under contract in September '08, I would they are really aggressive. Our view is that the nuclear industry is just starting to resurge particularly in the United States and that we're looking at the growth from that particular sector into 2009 and 2010 and beyond.

In terms of our fossil power plant orders, you can see us scaling our orders pretty successfully, doubling in each year from 2005 to 2007. For the first eight months of 2008, it looks like we'll exceed that $12 million in order by a pretty substantial amount, not sure if we'll double it again, and you can see the same kind of activity in the oil and gas sector.

Okay, let's talk a little bit about what the company does. We are a world leader of in something called real-time high fidelity simulation. And for people who are not familiar with the field of simulation, I like to use the analogy of a flight simulator which most people are familiar with. So, in the flight simulator, you basically recreate the cockpit of the aircraft that you're simulating and then you build very detailed computer models which basically drive all of the instrumentation, controls, the visuals and the movement in the flight simulator. And the idea is that the pilot really doesn't know or can't discern as to whether he's actually flying the simulator or he's actually flying the real plane.

Well, we do exactly the same thing except we do it for energy centric facilities. So what that means is we build simulators for nuclear power plants, conventional thermal power plants, chemical facilities, petrochemical facilities and so on. Our niche is in the term called high fidelity and high fidelity basically refers to the degree to which the models can replicate what's happening in the plant in real time and so we are the leaders in the high fidelity end of simulation. And we'll talk a little bit more about high fidelity and low fidelity as we move on.

Company has actually been public since 1994, but we've had very little visibility in the investment community because we've always been majority owned by another public company. That all changed in September of '05 when GP Strategies spun off its 57% ownership in a stock dividend transaction. From that point forward, we have been completely independent. We have got 165 employees, growing pretty rapidly from our perspective, and we're headquartered just outside of Baltimore, Maryland and we have offices in Georgia, Stockholm, Sweden, and Beijing, China.

What I'll do is spend a few more minutes on the company overview and then we will do kind of a deep dive into each of the three sectors of the company, and really to understand GSE's understay [ph] in those three sectors and those are nuclear power simulation, non-nuclear power simulation and then education training centers and services.

To talk a little bit about the leadership, I'd characterize our senior management team as experienced and our Board of Directors as quite supportive. Talking a little bit about myself and my mini resume there, I spent the first 25 years of my career in nuclear power, but also of significance, I had the opportunity to run one of the largest for profit training companies in the world, a company called General Physics and that has some relevance to our growth strategy and where we're driving the company as we talk a little bit more about those training centers and services.

[Jerry Jen] is kind of typical of one of our senior executives, 30 years of experience in high fidelity simulation. He was on the team that actually built the first nuclear power plant simulator as well as the first conventional fossil power plant simulator. Board of Directors is made up of basically people who either currently run or formerly ran major corporations, university systems, and government organizations.

The objectives for purchasing simulators have changed and that's part of the growth story for the company. In the old days, and I would characterize the old days as maybe two years ago, customers bought simulators basically to provide training, qualification and certification of their operators and operating staff. That's still the case and in some industries like the nuclear power industry, you are required to have a full scope high fidelity simulator to certify your operating staff before they can enter the actual control room.

But what's occurred over the last couple of years is that the models that we develop or we've been able to extend them to such a high fidelity meaning that they replicate the actual plants in real time to such a high degree that our customers are starting to use the simulators very early in the design process. So, the customers got a brand new nuclear plant or a brand new fossil plant or a gasification process that has never been built before, what they'll do is they'll ask us to basically build a simulator model and then we will drive the actual control system, and the idea is to see if in fact the plant is designed correctly and then more importantly or maybe just as importantly to see if those thousands and thousands of control systems that actually control these massive plants actually work. And so, we can't do that kind of an exercise with a low fidelity simulator and so we've kind of created, if you will, a new market almost in that particular area.

Okay, these are four photos of typical nuclear power plant simulators and as you can see, our scope of supply there is virtually everything that you see in the picture, and most importantly all of the computer models that drive those instrumentation and controls that you see. And again our basically measured performance is the plant operators can't tell the difference between operating a simulator and operating in the real plant environment.

The sell price for a typical nuclear power plant simulator is between $6 million and $8 million today. It takes us about three years to build one of these things. The other thing that I'd like you to note is on each of these controls is kind of the preponderance of gauges and pistol grip controls, strip chart recorders and so on. And so, we basically refer to this kind of a control room as an analog control room and for kind of the nontechnical people, you can translate that to really old technology. But this is what if you walked in to one of the 441 nuclear power plants in existence today, you would see a control room that looks something very, very similar to this.

Here are some photos of non-nuclear simulators and you can see the difference very, very readily. In the upper left hand corner, that is an Arizona public power plant that is a 600-megawatt super critical coal-fired unit, brand new. That entire unit is controlled from those four computer consoles and monitored by the three alarm panels that basically are coming there from the overhead.

We refer to these control rooms as digital control rooms and for the obvious reason that they're controlled by computers. Sell price for typical conventional power plants is somewhere between $.75 million and it could go up as high as $4 million depending upon the scope of what gets simulated, so there's a little bit of variability there. We can deliver these anywhere from eight months to a year and a half.

Now, there's some significance here and I'm going to go back, I hope. So, the significance in terms of the difference between analog and digital relative to our business is that if you own a conventional power plant that's greater than 20 years old and has some size, let's say, 230-megawatts or above, the control room looks pretty much like these old nuclear control rooms.

If you're going to make a decision to extend the life of that power plant and of course with a great need for power, many utilities in the area are dealing with those decisions virtually everyday, then you're going to have to modify, you have to change that control room from this one to one that looks like a digital control room, and the driver for that is better than a regular sort of driver, the driver for that is obsolescence.

The instrumentation and control hands [ph] will not support that old analog technology in anything other than the nuclear industry and that's a whole field rip out of a control room. And from an operator's perspective and I've operated half the stations, have a great deal of experience in nuclear stations, this is like going from a typewriter to a suped up 2008 computer. So, the transition is profound and that provides us an opportunity to provide a (inaudible).

Okay, research firm ARC says we are the largest provider of training simulators in the world, having delivered some 341 since the company's inception. And as you can see, there's a pretty good spread between the conventional power plants, petrochemical and oil and gas, but the one area that I'd like you to focus on is nuclear power. And they are – those 159 represent about 60% of the total installed capacity in the world today.

If you eliminate France from that equation because the French kind of do their own thing in nuclear, it's a relatively closed market to an American company, that rally goes up to about 75%. So people ask me, gee, there's a nuclear resurgence that's just about ready to happen, how can you be so sure that GSE is going to participate in that. And then my response is, well, outside of France, we own 75% of the current market. I don't know if we'll maintain that market share, but for sure we're going to be a significant player.

Okay, key market drivers, we've kind of alluded to this, but we have the greatest market driver in the world and that is the massive gap between the power or the energy that can be produced today and the energy that virtually every expert in the world is predicting that we're going to need in the future. The gap is enormous and frankly a little bit frightening and I don’t know if some of you have seen the New York Times article recently, that they're predicting brownouts in New York City as early as 2011, if we can't get some significant new capacity. That's going to happen all over the world. So it's a little bit frightening, but it does drive our business because that's driving the need for new nuclear plants, fossil plants and expansion of some of the oil and gas facilities.

We talked about the transition from analog to digital control rooms. That's a phenomenon that's specific to the fossil conventional power plant and that's also global, not only in the United States. And obviously, we have the well documented issue around aging work force, skilled worker shortages. I read one article very recently that says 40% of the operating staff in both nuclear and conventional power plants in this country are eligible to retire within the next five years. So that means we're going to have to create a new work force. We're going to scale [ph] that new work force and that's basically to run and operate and maintain our existing capacity. Then you start to take a look at what we need to build in this country and around the world, and the challenge becomes that much more difficult. And we believe that simulation is a very important part – plays a very important part in basically meeting those needs.

One of our company's core competencies is to develop what we call technology partnerships around the world and this is very important for a company of our size because we do have a significant global footprint and we're operating out of an office in Baltimore with basically 165 employees. We use these technology partnerships to drive business. So this is a very, very important part of our business development program because all of these companies in the different regions that you see there basically sell work force, but they also provide technical resources. So, that's provides mainly the opportunity to do some resource leveling.

So, as we scale the business significantly, I don't have to hire 3 million people which then on the downturn, if there is a downturn, I've got to let go, kind of (inaudible) and I believe very much in that. But, they provide resources that could help us. So, when people say, gee, the Russians are going to build 40 new nuclear power plants over the next 20 years, how are you guys going to support that load because you built every simulator in the Russia, Ukraine and so on.

Part of the answer is, well, we're affiliated with one of the largest names – one of the largest engineering institutes in the country, and with some significant projects with some of the half [ph]. Representative customers can go on for a number of cases. I think that the key point here is that the big companies basically shows kind of the global footprint of GSE and kind of the breadth across the energy sector.

Okay, that's kind of overview, so we'll do a little bit of a deep dive into each of the three business sectors for the company. And the first is, let's start to talk about nuclear simulation. When I first started with the company, 3.5 and 4 years ago, and gave presentations like this to the audiences like you all, I would spend some time trying to convince people that we were actually undergoing – we were on the verge of undergoing a nuclear resurgence or what they are calling in the industry a renaissance.

And there is very, very little debate about that anymore, we are there. So, the first four to five bullets are really supporting fact, I should say, that nuclear is going to play an important role. The last two are important. GSE is built to modify 86 of the 100 full scope simulators in the United States. So, we basically have a very commanding position here in the US. And the second fact is that there are now 35 notifications to the Nuclear Regulatory Commission for accelerating construction and operating licenses.

This is the first step that a utility takes when they are interested in building new capacity. And it's a step they don't take lightly, it's literally tens of millions of dollars go into that kind of a decision. And so, there's a pretty high degree of confidence that the utilities will move forward with these programs. Some of them have already contracted and listed the different nuclear suppliers and that's been pretty well publicized.

Already we are seeing a resurgence already occurring. So, we're looking at China where we are estimating $50 billion capital spending program and I'll say to you, we have 52 new reactors that are expected by 2025, that number has already been adjusted upward by the government. So, we're looking at 80 new reactors by 2025, and they are building them. So, they are pushing there, they are weighing concrete, they are buying all the components, et cetera.

New construction is also planned in Russia, Korea, Japan, Bulgaria, Czech Republic, China, South Africa, United Kingdom, and in those – in some of those areas, they are well in advance of the United States.

This is a busy slide that describes our relationship with Westinghouse which is very important to our nuclear work. Westinghouse, just to give you a little bit of the profile on them, are very big dogs in the nuclear industry. 50% of the world's current capacity operates on Westinghouse pressurized water reactor technology. So, they are a big player. They came to us in the first quarter of 2005 and said we've got a brand new design and we've never built it before, it's basically our third generation go to market design, something called the AP1000.

Now, for the very reasons that I referred to when I talk about UV simulation and the design process, they basically face the new (inaudible) design staff who has never built this before, can you build us a simulator, and we want to use the simulator for three things. We want to basically check out the design, make sure that we designed it properly and make sure the control systems work properly. We want it build the first digital control room in the history of nuclear power and we want to show our customers what that looks like, and we want to show our regulators what that looks like because we're entering basically a brand new world.

When we worked on the agreement to cooperate in the development of that simulator and part of that agreement is that we will build the first fixed AP1000 that Westinghouse sells commercially. And of course in September of '07, we were authorized to proceed on the first of the six, it's for a plant in China as a stand-alone site, and in April of '08, they authorized us to proceed on the second full scope simulator for the AP1000 design, and that was at the high end cycle, also in China.

Now, my contention is that if we build the first fixed AP1000 simulator, then we're going to build them all. In the United States, kind of interesting, of those 35 applications for construction and operating licenses, you have to declare your technology when you make those applications, 16 of those 35 have already declared for the AP1000 technology.

So, AP1000 is going to be pretty big in this new nuclear resurgence. My view is that we've got a pretty commanding position in terms of the need to build simulators for them. Now having said that, this is – I wanted to spell kind of misconception that we can't work with any other reactor vendor in the world, and in fact we do and we are. And so, we have a number of bullets here which indicates that particular area.

So, in the first half of '08, we received letters of intent to built two new full scope simulators in Japan and we received a contract to build a full scope simulator in the United States not related to Westinghouse.

Fourth quarter of '07, we won the award to build the Chinese CPR 1000+ reactor, so that's basically our own kind of homegrown design. In September of '07, we announced that we're working with a Russian Research Institute for nuclear power operation and basically the development of their third generation reactor design, something called a VVER1000. And three, we basically use our technology for their entire fleet of (inaudible) full scope simulators here in the United States.

We work with the US Navy on what they call their sub-surface naval program, which you can translate I guess loosely into submarines, and that’s a long term program as well. We also build the first simulator ever built for a Pebble Bed Modular Reactor, and this is a new design is coming out of South Africa, which we believe will be pretty significant in the South African market.

So, here's our addressable market, if you will, looking at a 20 year old window and we’re expecting something on the order 237 plants to be built over a 20 year window. This number, every time I update this slide, the number continues to increase. Now, of significance, we are driving to take a look at those financial revenues that we are generating, virtually none or very, very well, I think about 500,000 over the course of the trailing 12 months are actually coming from the nuclear new builds.

So, you got to put that schedule with the fact that we’ve now got six of these to build and so we’re going to start to scale in that area. So, when you look at the nuclear industry and you look at the build out program of 237 plus plants, we have not begun on that. And so, this is a very, very – it is an event that we anticipate happening into the future. And as I said, I would be shocked if someone were to tell me that the country was building in six in September of ’08. I would have expected that kind of traction in the ’09 and the ’10 and beyond.

Okay. So, let’s talk about the non-nuclear simulation sector. Again, in this area, the energy gas is driving construction of coal fired plants, primarily coal fired plants, it can be coal, sometimes gas, sometimes gasification, and sometimes combined cycle units, but all thermal non-nuclear power generation all over the world. DOE estimates that by 2030, here in the US, we’re going to need 566 new plants of at least 500 megawatts or above, that provides an opportunity for the company.

We have already talked about the kind of the worldwide movement to upgrade older plants to modern digital control systems. That is basically about 50% of our conventional power plant business right now. People ask me to kind of quantify that market. It is very difficult to quantify because there’s not a lot of information outside of the United States on the conventional power area. But, as we took a stab at it and we said, there are roughly 686 plants here in the United States greater than 230 megawatts over 20 years old. That means that they’re going to continue to operate those units, and in some cases, they’ll make a decision to shut those units down, and in other cases, they will make a decision to continue operation. They are going to need new control rooms; that provides us an opportunity.

Mission control systems are becoming very, very complex. It's almost as an old (inaudible) plant operator, it's almost like taking a chemical plant and attaching it to your power plant, and it's complex processes, complex chemical processes which have the opportunity to damage plant equipment and create downtime. And so, we’re getting asked quite a bit when these new emission control requirements get levied which turns out things like it just about how they ratchet that or just about tunnel, we get asked to basically simulate the operation of those ignition control systems. One important strategic relationship, (inaudible) our selling model is based upon channel selling, which means developing relationships with large companies that have global footprints and we have such relationships with Emerson Process Management. So Emerson is the largest digital control system control vendor in the power space. So, they’re larger than Hitachi, Mitsubishi, Siemens, ABB, Honeywell and the rest the group of companies that supply those.

We have developed a strategic relationship with them where each time they sell a digital control system anywhere in the world, they attempt to sell a GSE simulator along with it, and that’s providing a significant amount of growth for us. And that's – those kind of the three drivers and the one strategic relationship that really is driving that order increase. Note that I had mentioned a little bit earlier, it has doubled each year from 2005. In the petroleum refining and chemical industries, we are seen the same thing. I don’t know if you've read about it but we’re going to build our first refinery – it will be built somewhere out in the Midwest – I think it's North Dakota. That's the first refinery built in the United States in 35 years. And so, we’re seeing an expansion of existing facilities; globally we’re seeing new facilities in particular in the Middle East and in the Asia-Pacific area and that’s driving some of our work. We are currently working on two major initiatives.

The first is with SINOPEC. SINOPEC in China is one of the largest companies in the world. I think portion [ph] has been on a revenue basis of (inaudible) in the world. We have got a relationship with them where we are going hand in hand and build simulators for their existing capacity as well as their new customers and of course we are doing work in other parts of the world as well.

Okay. Give you a little bit of a preview on the education training centers. When I came to the company which was about 3.5 or 4 years ago, we were very much a company that built the best simulators in the world. We delivered those simulators to the customers and then we said kind of call us if you need us. When I came to the company, I think I recognized again because of the relevance of my training background, the opportunity to extend our services, extend our simulation capability beyond providing the simulators to providing everything that a customer would need to run the simulator or run the training center associated with the simulator.

So that means, building the simulator, building the training programs that go along with the simulator, in some cases building the plant operating procedures that go along with those simulators, and even in some cases we are prepared to provide instructors to basically run the simulators on an outside – and simulator training centers on an outsource basis. We have kind of taken that concept (inaudible) to go to reality and has become a very important component of our business, and so I just got to highlight three or four of our education and training center initiatives.

And the first one is in the United Arab Emirates. The customer is the Emirates Simulation Academy and we just completed this job in the first quarter. This was a $17 million job which we executed over a 20-month period of time and the initiative here was government banks. What they were interested in doing is replacing the current staff – operating and maintenance staff at their energy infrastructure facilities, replacing them – replacing the expatriates that operate those plants to Emiratees. So if you go into a plant – to make it simple, if you got to a plant in the United Arab Emirates, you are going to see an American, a Pakistani, an Indian, people who are operating those plans that the one thing that you will never see is an Emiratee, and the government basically said that we have got to change that for a lot of good reasons and they did. And so our initiative is key to that. We built five simulators, 400 megawatts combined cycled unit, I think 1000 megawatts gas turbine unites, a high capacity oil refinery, wellhead operations which are basically what happens on the platform, and in then the first desalination simulator ever built at least to my knowledge in the world. But the important thing is we delivered those in January, but before anything, we also built 450 training courses that support the operation of those plants. So, we basically transformed the company one that lacks what we call training content to one that has significant training content. That content can be reused, so we have reused that over and over again all over the world.

The second example is the University Of Strathclyde Simulation Center is a perfect example. So, we've got a 400 megawatt combined cycle gas turbine there. We've got all of the training programs that are basic, intermediate and advanced level and now we are staring to utilize those. So, six months after we basically delivered the simulator, utilization is up to 42%. It is basically cranking out what I call material revenues at good profit levels and we are doing training for companies like Rolls Royce and (inaudible) and Scottish Power and Scottish Southern and the one we profiled in the April 2008 press release was actually a nuclear power plant operation. And you might ask me, which John would you – would a nuclear plant operator want to receive training on a 400 megawatt combined cycle gas turbine unit which of course has nothing to do with nuclear power. And the answer is really very simple. It is a digital control room and so part of what the customer wanted was to expose their future operators and their current operators to a digital control room, even though it was not nuclear.

So standby for more information there as we progress in that area. We are also developing a Master's Degree Program at the University of Strathclyde around the simulator. And then we announced a relatively significant contract with the largest German training center, the largest actually training center in Europe, possibly in the world with the development [ph]. These are just snapshots of one of the simulators in the (inaudible) and that's our 400 megawatts combined cycle at the University of Glasgow.

As most of you know, we don't provide guidance at this point, but what we do provide is a rolling 12 months snapshot at the different revenue streams that we have and the gross margins that are associated with those revenue streams and we have a little bit of a grow there as well. So, as you can see, at this point, the installed base services, that's basically servicing those 341 simulators that we have got out there in the world and that represents about 50% of the company's revenue. The plant specific simulators, these are new builds, so if you look at that roughly $10 million figure, the $9.9 million, and it comes to the realization that less than $0.5 million of that $10 million figure comes from the nuclear new build program. And you couple that with the fact that we've know got six to build, that number is going to increase as we move forward in the future.

The other thing that I would like to mention is on the follow on training services. That was zero a quarter ago or very close to zero; it's $157,000 right now, so not quite material, but the other that you should look for is some pretty significant increases in those training services and that would be driven by the Strathclyde-like initiatives, the Emirates Simulation Academy and other imitative that we have ongoing and you will notice that the margins on that work are also pretty significant.

Okay, let's just give the historical backlog – historical figures on revenues and backlog, as you can see, we have kind of progressed from 2005 to 2007 with a little bit more balance in our three business areas. That $29.1 million backlog is characterized and you can see that nuclear power is starting to become a much more significant piece of our business and that's kind of should be anticipated, and if we were to include the $22 millions of letters of intents and contracts that we have closed in the nuclear area, since the close of the quarter, then that percentage goes up even higher. So all indications that we are – I guess, as Jeremy put it pretty well, we are at an inflection point and we are at an inflection point a lot sooner than we had anticipated and it is being driven by the nuclear industry.

So, let’s summarize a little bit here. Company is well positioned for the nuclear renaissance, strategically aligned with one of the largest players in the nuclear power market. We have very strong relationships with other major players in nuclear such as the Chinese, as well as the Russian and others, and as I’ve mentioned frequently we are currently building six fullscope nuclear simulators and I would characterize that as the tip of a very, very considerable iceberg.

In non-nuclear, our opportunities continue to expand but we are working on others strategic relationships, obviously the ones that we've got with Emerson and SINOPEC we’re very pleased with, but we’re excited about others. Our education training centers have progressed from concept to reality. (inaudible) investment required to scale, so we haven’t spent much time on SG&A. We are currently running at about $2 million a quarter. We anticipate that we can hold at $2 million per quarter pretty much until we double the size of the company. So the company has got some substantial operating leverage.

Strong debt-free balanced sheet and the new banking deal with the Bank of America, and so I kind of conclude with just a statement on outlook. What you should see for the remainder of 2008 is a continuation of the kinds of announcements that you’ve seen in the first part of the year and that should translate into some meaningful financial trends in 2009 and beyond.

I’ll be happy to take some questions.

Question-and-Answer Session

Joe Lambert

Hi. This is Joe Lambert with Singular Research. And for the webcast audience, at this point in time, I am going to unmute the lines and you will be able to ask your questions as well. We will start with the audience here and we will pass out the materials of the presentation that we just saw that are right back on the table there. Robert?


Yes, Joe. For those of us that don’t have 20/20 or better than eye sight – will we be able to get a copy of that from the web site or have it emailed to us so we can review it later?

Joe Lambert

The question is – and John when you’re asked questions, you got to repeat because they need to hear it on the webcast. The question is that right now, it's not signed up to print off of the screen here. So they can email us if they would like a copy of the presentation or certainly GSE Systems. Now, the other thing is we do have –

John Moran

I can post the full copy of the presentation on our web site, so anyone that would need just can’t get the hard copy here in the room, go to the web site. The only slides that are not included are the ones on margins because we’d rather keep that in kind of a closed community. Our competitors monitor the web site pretty closely.

Joe Lambert

All right yes.

Unidentified Participant

Can’t you email that to me, so I can review it later through – the whole thing in its entirety?

Joe Lambert

Yes. So the response was that, can’t you email this to us later. Did the microphone just go down? Okay.

Yes, it’s probably is the battery on it. So if you could tell somebody that our microphone has gone off. Yes, we have been caught with a few technical difficulties here today. So, we will just try to speak up loudly. Webcast doesn’t make any difference; they can still hear us with this microphone right here. Yes, first question over here and I’ll now turn it back over to John.

I am going get somebody to take care of it.

Unidentified Participant

(inaudible – microphone inaccessible)

John Moran

Linear. I mean clearly there’s a ramp up and we’re experiencing that right now with the six that we’re building and it's obviously a ramp down at the end. But for all intents and purposes, the revenue recognition since it’s on a cost to complete model, it’s recognized pretty much linearly over a three to four-year time period.

Unidentified Participant

(inaudible – microphone inaccessible)

John Moran

So, typically there is couple different methods of payment depending upon our customer. So for example, the Navy pays us on a cost plus fixed fee basis, but most of all work is lump sum and the cash flow is on the basis of meeting certain milestones. So what we try to do is keep each of the projects cash flow positive and most of the time, we succeed in doing that. So, when a customer signs up with – provides a contract to GSE, we typically have a down payment if you will to get us going and then we have various negotiated milestones. Milestones like the preliminary design document is complete. Another milestone might be certain models would have been accepted. A milestone might be certain of pieces of the simulator have been shipped. And of course, the final milestone is a simulator is ready to train.

Unidentified Participant

(inaudible – microphone inaccessible)

John Moran

Okay. The question is do we have maintenance contracts with our customers and the answer is yes. In certain cases, where our customers were interested in that, we do have maintenance contracts with them. We obviously attempt to get those maintenance contracts because it provides a nice recurring revenue stream and in some cases we were successful; in other cases they’ll call us when they need us.

Unidentified Participant

(inaudible – microphone inaccessible) Where do you come in to – where in that time frame do they get a vision about the simulator? Is it always one simulator per plant or –? Here in China, there are three plants within a few hundred miles of each other, they are depending [ph] one simulator and everybody shares it?

John Moran

Okay. So the question is at what point does the simulator contract get lets in the rise [ph] if you will of the construction of a nuclear power plant. That is the first part, so I will answer that and then the arithmetic on that is six years. And the bottom line is what we do is we look at the plant's projected commercial operation date and then it’s going to take two years to basically train the operating staff or the maintenance staff. So your simulator has got to be ready for training two years before commercial operation. It takes us about 3 to 4 years to basically build the simulator and so our lead time is roughly six years. If you look at the jobs that we were working right now that’s holding so far. So, if [Hanmum] and [Hay Yang] are going to go into operation projected 2013, we’re on the contract basically to build the simulators right now. So about six years and that’s why as we were projecting kind of the nuclear wave, we were saying those are probably a 2009 and 2010 event based upon the commercial operating date, but its coming out – it’s a little bit faster.

Now the second question was?

Unidentified Participant

If you have similar technologies in plants that are (inaudible – microphone inaccessible).

John Moran

Okay, so the question second part of the question is – if you’ve got and I’ll paraphrase a little bit, but if you got identical plants on a single site, do you need to have a fullscope nuclear simulator for each plant? And the answer to that is no. You can – the calculus in terms of throughput and the need for the simulator will allow you to build one simulator for two nuclear power plants. So you have to temper that 247 plant’s build out because there maybe some cases where we’ll provide one simulator for two plants. That’s the case at Hay Yang [ph] and at Hanmum [ph]. So we are actually building four plants there; we are going to provide two simulators.

But now let me provide a little bit color around that and sum up what we’ve been saying. My contention is that within five years of commercial operations, there’ll be a simulator basically a simulator for every nuclear plant even though they are identical. And I go to some of the discussions, based that on some of the discussions that I’ve had with the US Builders Group, that's the group of utilities that are going to build these AP 1000s and some of the discussion revolves around the fact that the contract only provides for one simulator and in some cases they’ve got two plants on the same site. So the ingredients [ph] are all ready, requesting the second simulator. (inaudible) the award of the US plants that we just announced on August 15, that was basically a plant in the United States with one simulator for two plants. Two close identical plants and they basically came to the conclusion that they needed a second simulator because it simply couldn’t get enough time for the operators, the new operators, the requalification program. By the way, people are starting to have a very, very high appreciation for utility of the simulators.

So, a lot of trips for example, a lot of the unavailability in the world comes from operators making errors or maintenance people making errors in the plants that basically trips the plant. Once you trip one of these nuclear plants and you've got a problem – not a safety problem, you got a revenue problem because it is going to take a while to get those guys back up – it's different than a fossil plant where you can trip that today and tomorrow it can be back in business. So the utilization of the simulator is going up as the customer in the United States was a classic example of one of who basically said, "you know what, it's a $6 million to $8 million investment against a $6 billion asset. That $6 billion asset creates basically $1 million a day in revenue from the sale of electricity."

If we can adjust it, I was going to give a speech in China. I leave there for Saturday and the speech is basically going to be use the simulation and how you improve your capacity factor. And the capacity factor of course is the megawatts that you can generate based upon the name plate data. What you should be generating versus the megawatts you actually generated. In the US, we are operating currently at about 95% capacity factor. The rest of the world is operating and depends upon what you read, it is operating between 62% on the low end and 80% on the high end. If you can – I did the calculation, if you can increase your capacity factor by 5%, you can add $4.2 billion of revenue over the lifetime of that plant.

And so my message to the universe is, it’s a very, very small investment with a very, very large return. You can produce your operator errors, increase your capacity factor and you should be doing that. So I think more and more of them will do that. Sorry, that's a windy answer to a simple question.

Joe Lambert

We have time for one more short question and answer, but what we can do is carry this on into the breakout session which is next door and John will be there to answer further questions.

At this point in time, our next presentation is going to be DXP Enterprises. It starts at 10:30 am which is approximately seven minutes from now.

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Source: GSE Systems, Inc. Singular Research's Annual "Best of the Uncovereds" Conference Presentation
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