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Executives

Jody Burfening – IR, Lippert/Heilshorn & Associates

Barry Cinnamon – President and CEO

Gary Effren – CFO

Steve Daniel – EVP of Sales and Marketing

Analysts

Theodore O'Neill – Kaufman Bros.

Brian Yerger – Jesup & Lamont

Ted Kundtz – Needham

Adam Krop – Ardour Capital

Mark Rogers – Gagnon Securities

Kevin Sonich – RK Capital

Tim Kerby [ph] – Great Gable Partners

Brad Hendrickson [ph] – Nokomis Capital

Akeena Solar, Inc. (AKNS) Q2 2008 Earnings Call Transcript August 6, 2008 2:00 PM ET

Operator

Good afternoon. My name is Casey. Welcome to the Akeena Solar second quarter 2008 earnings call. At this time, all participants are in a listen-only mode. Following management's prepared remarks, we'll hold a Q&A session. (Operator instructions) As a reminder, this conference is being recorded today, August 6, 2008.

I would now like to turn the conference over to Jody Burfening. Please, go ahead ma'am.

Jody Burfening

Thank you Casey and thank you everyone for joining us today for Akeena Solar's second quarter earnings conference call. This is Jody Burfening of Lippert/Heilshorn & Associates.

With us from management are Barry Cinnamon, President and Chief Executive Officer, Gary Effren, Chief Financial Officer, and Steve Daniel – Executive Vice President of Sales & Marketing.

Before starting the call, I'll review the Safe Harbor provisions and then turn the call over to Barry. Statements made on this conference call that are not historical in nature constitute forward-looking statements within the meaning of the Safe Harbor provisions of Private Securities Litigation Reform Act of 1995. Forward-looking statements are not guarantees of future performance are subject to various risks, uncertainties and assumptions that are difficult to predict and therefore, actual results may differ from those expressed in our forward-looking statements and the statements could be material.

Forward-looking statements can be affected by many other factors including those described in the Risk Factors of the company’s filings with the Securities and Exchange Commission. These documents are available online at Akeena's Web site at www.akeena.com. All forward-looking statements included or made on today's call are made as of the date of the call, and Akeena Solar assumes no obligation to update any such forward-looking statements.

With that, I would now like to turn the call over to Barry. Good afternoon, Barry.

Barry Cinnamon

Thank you Jody, and thanks everyone for joining us today on our second quarter 2008 earnings conference call. I'm going to start today's call with a review of our second quarter performance and then talk about our outlook for the rest of the year. After that, Gary will walk you through the numbers, and Steve Daniel, our Executive Vice President of Sales and Marketing is also available to answer questions.

Second revenue came in at $7.1 million, reflecting a sequential 6.5% increase in our residential installations but a decline in commercial installations, which had spiked in Q1 as a result of commercial deals that we booked at the end of 2007. We expect that commercial revenues will continue to be volatile since installations for these projects span multiple quarters. As we said on the last call, commercial sales will gradually become a bigger portion of our business. We therefore look at our revenue growth over a six-month period.

Smoothing out the fluctuations in commercial sales, on a six-month basis, sales grew 40% over 2007. In spite of the recession, credit tightness and uncertainty about the Federal Investment Tax Credit, our residential sales continue to grow steadily. We see this growth continuing at least through the end of the year, even without passage of the ITC. This continued residential growth is propelled by an effective sales and marketing process, customer demand for our Andalay panels and third party residential financing programs that reduce the impact of the credit crunch for homeowners. However, commercial revenues will continue to be volatile, especially because there is uncertainty about projects that can be sold and installed before the end of the year.

During the quarter, we installed over 854 kilowatts of solar power, compared to 1,587 last quarter and 935 in the same quarter last year. Over the expected 30-year life of these installations, we will be eliminating almost 600 million pounds of CO2 that would have otherwise been released into the air and saved our customers over $235 million.

Our average selling price was $8.27 per watt compared to $7.72 last quarter and $8.03 per watt in the comparable quarter of 2007. The average selling price reflects a return to our traditional higher percentage of residential installations. In the second quarter, 80% of our installation revenue was residential compared to 43% in the first quarter. Over the first half of the year, 56% of our revenue was residential and 44% commercial, in line with our historical channel breakdown and closer to our future expectations.

Bookings grew significantly over the first quarter, and July was the best booking months of the year so far. Backlog climbed to $13.6 million, a figure that includes a high percentage of residential jobs and includes a reduction of previously booked commercial jobs, which are unlikely to be completed within our six-month definition due to financing issues.

For many large commercial jobs, Power Purchase Agreement or PPA financing has become the critical factor. We are working with a number of PPA companies to finance customer projects, and many of these projects have already been completed or are in our pipeline. However, we have been seeing a clear trend that installation margins for these commercial PPA deals are declining and completion risks are increasing, in many cases to the point at which we will not accept the jobs.

For this margin reason, we passed on over 4 Megawatts of deals over the past six months that did not meet the hurdle rate. The reasons for these declining commercial PPA margins are subtle but very significant. Many of these PPA deals have unfavorable warranty obligations, high maintenance and moderning requirements, non-standard payment risks and other future liabilities. So when we look at a certain PPA deal, we realize that when we account for these future costs and risks, our current margins on the projects are unacceptable. The situation is not unlike what has happened in the car leasing business.

Future cash flows were underestimated, making the present value of the project in reality lower than they initially seemed. Therefore, we continue to pass on many PPA deals that would otherwise substantially boost our revenue and focus on those commercial and residential projects that meet our margin requirements and risk profile. Based on data from the California Solar Initiative or CSI have positioned in the residential solar industry has not been substantially effected by economic conditions.

According to recent CSI data, new residential and small commercial orders were down in the industry 14.5% in Q2 compared to Q1. During this same time, our market share has been relatively steady whereas other large installers have seen a substantial drop off. Helping to offset slowing industry growth in California and New Jersey, we are seeing much faster growth in Connecticut and Colorado. I'll talk more about our office footprint in a minute.

The transition to Andalay is proceeding very well. Towards the end of 2007, we began to market Andalay and starting in January our sales force sold Andalay exclusively for residential projects. Throughout 2008, we will complete the transition to 100% Andalay installations. During the first half of the year, we began to see the benefits of this transition away from ordinary solar panels, including approximately 5% average selling prices higher than ordinary panels, much faster installation time and logistical improvements. However, we did encounter supply chain issues for some of our initial shipments. Rather than euphemistically describing this in oblique terms, I'll just tell you what happened.

Some of the black frames Andalay panels on our first customer installations faded to a bronze color. This cosmetic problem had absolutely no impact on performance but was unacceptable to us. We proactively contacted about 50 customers who were affected and replaced the panels or provided them with a pricing adjustment. As soon as we identified the solution to this problem, we were able to resume production of panels and pick up our pace of installations again. Costs to address this problem were well within the warranty reserve we have established for Andalay panels, which is a 5% reserve as opposed to 1% on ordinary panels.

Overall, this was a very minor issue. Our R&D, engineering and production staff did a terrific job on the introduction of such a major new solar product. As mentioned before, we believe that technology provides us with the most sustainable competitive advantage. This week, the US Patent and Trademark Office issued to us Patent Number 7,406,800 covering certain key elements of our Andalay technology. With Andalay, we are able to consistently sell against ordinary solar panels, even at a higher price point because we have a product that has superior aesthetics and reliability.

We're getting plenty of third-party validation for our Andalay panels. Andalay solar panels were a finalist in the International Design Excellence Awards competition sponsored by Business Week, won the Innovative Home Technology Award from TecHome Builder Magazine and were selected as a Cool Product Award winner by the 2008 Pacific Coast Builder's Conference. Up until now, our Andalay solar panels have been optimized for sloped residential rooftops, but when we look at all the large, flat, sunny commercial rooftops around the country, we clearly understand that there is another big potential market.

Our new Andalay Flat Roof System meets the need for a highly reliable flat roof system that is also lightweight and very quick to install. The Andalay Flat Roof System was introduced in June at the Pacific Coast Builder's Conference. Andalay Flat Roof gives us a competitive advantage in the under-1 Megawatt commercial rooftop market. From a commercial building owner's perspective, a rooftop solar power system should be installed in a way that it minimizes roof leaks.

Non-penetrating systems, basically some sort of attachment that does not go through the roofing material to the underlying rooftop support structure are strongly preferred because they are least likely to leak. Historically, these non-penetrating systems relied on ballasts, basically a lot of extra weight, to hold the rooftop solar panels down in the wind. But, all this weight frequently overloads the roof making it a real challenge to install solar on flat roofs in a lightweight and non-penetrating way.

The Andalay Flat Roof Systems relies on the fact that all Andalay panels are rigidly connected together with built-in racking and then reduces wind loading with perimeter air deflectors. The result is a system that does not require a myriad of potentially leaky roof penetrations and has built-in wiring and grounding. The completed system is also extremely lightweight, under three pounds per square foot in many applications. We just started to install Andalay Flat Roof on some of our commercial projects.

Our installation crews have never installed a flat roof system that goes in as quickly and reliably as Andalay Flat Roof, and over the past eight years we tried just about everything. We therefore expect to see lower cost of goods sold for this product once our production of Andalay Flat Roof ramps up over the next 12 months. San Francisco's recent solar incentive program is ideal for Andalay Flat Roof since there are so many flat rooftop buildings in the city, and recent announcements of large commercial customers and utilities are targeting flat roof installations, in many cases simply by leasing the rooftop from the building owner, bode extremely well for the demand for Andalay Flat Roof Systems.

As I mentioned, soaring energy costs continue to drive demand for solar power systems, but credit constraints have limited customers' ability to commit their own investment capital. To overcome the hurdles faced by credit-constrained homeowners, we formed a partnership with Sun Run, a residentially focused PPA. Just as one – just as when one buys a car, we believe that it's important to offer customers a range of payment methods, including cash, home equity loans, and third-party financing. Offering this range of financing alternatives has helped maintain our growth, even during this soft economy.

The economics of solar power for our customers are localized since they are dependent on incentives and electric rates. We are always evaluating the performance of our existing locations and are considering new locations where we can expand our footprint on a sustainable basis. Because of a local economic slowdown, we have almost completely eliminated the staffing we had in our Manteca and Bakersfield, California offices. Because the residential incentive program in New Jersey is not effective in generating customer demand compared to New York and Connecticut, we are relocating our Fairfield, New Jersey office to Milford, Connecticut.

This new Milford office will serve as a good base of operations in New England and will also benefit from Connecticut's relatively high solar incentives, high electric rates, favorable demographics, and new state solar leasing programs. We’ve also opened up an office in Denver, Colorado to address that state's favorable solar conditions. As we had done in previous years, we will continue to evaluate new locations and expand there in a way that makes the most sense for our business.

On the cost side, we took actions during the quarter to reduce general and administrative spending. In all, we removed more cost than anticipated on last quarter's call, in total about $972,000 of which $574,000 were cash expenses. We are on track to remove an additional $1.5 million in cash expenses in the second half of the year for a total $2 million reduction by year end. Customer interest is extremely strong. Close rates are up. Bookings at this point in the quarter our outpacing last quarter, and our pipeline of potential residential and commercial projects is excellent. Uncertainty about passage of the ITC remains, and we remain convinced that the ITC will not pass until November or Q1 2009, although we would be happy to be proven wrong in this regard.

The fact that the ITC is slated to expire at the end of December is providing (inaudible) to many of our residential and commercial customers and therefore bodes well for installations through the end of the year. We are also beginning to fill the pipeline for the first half of 2009 with commercial jobs that are contingent on a new ITC, thereby reducing a potential debt in Q1 2009 installations.

Considering the volatility in the commercial segment for jobs slated for completion by the end of the year and our decision to pass on risky, low-margin, commercial PPA projects, it means that we have reduced our guidance to 30% to 40% revenue growth for the year with the growth rate contingent on a number of commercial jobs completed before the ITC expires at the end of 2008. In terms of reaching cash breakeven, we expect to achieve that goal in the second half of 2009, assuming passage of the ITC in early 2009. And now, Gary Effren will provide an overview of the finances.

Gary Effren

Thank you, Barry. I will spend the next few minutes reviewing our financial results.

For the second quarter, revenue was $7.1 million compared to $7.5 million in the second quarter of 2007 and $12.2 million in the first quarter of 2007, reflecting lower installations of commercial solar systems. For the second quarter, the mix of revenue was 20% commercial and 80% residential, compared to 57% commercial and 43% residential in Q1. Year to date, the commercial/residential revenue mix was 44% commercial and 56% residential.

Revenue for the first half of 2008 was $19.3 million, up 39% – 39.9% compared to the first half of 2007. Gross margin for the second quarter was 14.8% compared to 23.6% in the same quarter last year, and 19.7% in the first quarter. Compared to the prior year and last quarter, gross margin declined due primarily to higher-than-anticipated costs on commercial projects that were started in the first quarter and completed in the second quarter.

Gross margin for the first half of 2008 was 17.9%, which is a better reflection of the current profitability of the approximately 60/40 residential/commercial mix of jobs in the first half of the current year.

Sales and marketing expenses were $2.1 million in the second quarter, compared to $1.3 million last year and basically flat with the first quarter. Compared to last year's second quarter, the $800,000 variance was due primarily to compensation of which $114,000 was non-cash, stock-based compensation, reflecting the increased headcount associated with our increased sales footprint.

Stock-based compensation included in the sales and marketing line was $120,000 in the second quarter compared to $161,000 in the first quarter of 2008.

G&A expense was $4 million in the second quarter, compared to $2.4 million in the second quarter last year and $5 million in the first quarter of 2008. Compared to the second quarter of 2007, the $1.7 million variance was due to $705,000 of compensation expense of which $334,000 was stock-based compensation. The balance of the increase was primarily due to costs associated with having 12 offices this year compared to 7 offices in the second quarter of 2007.

The sequential decline from Q1 of $972,000 was primarily due to headcount-related savings. Stock-based compensation included in the general and administrative line was $519,000 compared to $856,000 in the first quarter. In sum, second quarter total operating expenses included $639,000 of stock-based compensation expense compared to $1.016 million last year – I'm sorry, last quarter, last quarter that is.

Adjusting for stock-based compensation, depreciation and amortization expense, cash operating expenses were $5.351 million compared to $5.872 million in the first quarter of 2008. The net loss per share for the second quarter was $0.18 per share in the second quarter of 2008, compared to $0.10 loss in the same quarter of last year and $0.16 per share loss in the first quarter of 2008. There were 28.1 million average common and equivalent shares outstanding during the second quarter.

Accounts receivable at June 30, 2008, stood at $8.6 million down from $9.5 million at year end, reflecting lower revenue during the second quarter. We ended the second quarter with a cash balance of $17.5 million of which $4.5 million was restricted and in available credit line of $20.5 million. Also, yesterday, the company executed a modification to our loan agreement with Comerica Bank, which extends the maturity of the credit facility from July 1, 2009 to October 1, 2009. And finally, as Barry mentioned, the backlog at the end of the second quarter of 2008 was $13.6 million.

Despite strong bookings, backlog increased only $1.7 million net due to the reduction of previously booked commercial jobs, which are unlikely to be completed within our six-month definition. When the ITC is extended, financing should be available for many of the jobs that are currently on hold. As a reminder, we define backlog as all jobs under signed contract with an expected installation date within six months. So, excluded from this definition are signed contracts that are contingent on financing or commercial jobs that will take longer than six months until completion. Future backlog numbers will be impacted by sales bookings levels, improved operational efficiencies, specifically the shortening of the sale to install timeline and also by seasonality.

Thank you very much, and now I would like to turn the call back to Barry.

Barry Cinnamon

Thanks, Gary. Operator, we are ready for any questions at this point.

Question-and-Answer Session

Operator

(Operator instructions) Our first question is from Theodore O'Neill with Kaufman Brothers.

Theodore O'Neill – Kaufman Brothers

Thanks very much. Two questions, can you tell us either specifically or generally the amount of de-booking in the quarter that came out of the backlog? And second, can you give us an idea of the geographic breakdown for sales? Is it – trying to understand like how much is coming from the East Coast versus say the West Coast and Colorado.

Barry Cinnamon

Theo, let me start with the de-booking. In looking through the backlog, we pushed out beyond the six-month time horizon that we use to define backlog. We pushed out approximately $2 million worth of projects.

Theodore O'Neill – Kaufman Brothers

And on the geographic breakdown?

Steve Daniel

Yes. Hi, Theodore, this is Steve Daniel. We were seeing lot more bookings coming in now in both the East Coast and Colorado. And I would say that the ratio last year was probably in the 90% range, California, and 10% outside of California. I believe that range is more like 70% in California and 30% outside of California.

Theodore O'Neill – Kaufman Brothers

Okay, thank you very much.

Operator

Our next question comes from the line of Brian Yerger with Jesup & Lamont.

Brian Yerger – Jesup & Lamont

Good evening and thanks for taking my call. Just a couple of quick questions, you had mentioned that you had a hurdle rate that a lot of these commercial installs did not meet. Have you publicly released that hurdle rate?

Barry Cinnamon

Brian, we haven't publicly released that. Typically, we are targeting commercial installation gross profits to be in the range of 10% to 15%, and although on the surface you may see large commercial PPA deals that seem to be in that range, when you really properly account for these future liabilities and maintenance costs and other special things that are required, when we look at it, it doesn't hit our hurdle rate and we just politely pass on the deals unless they want to raise the price.

Brian Yerger – Jesup & Lamont

Okay. Along those lines, can you describe the monitoring requirements for some of these jobs? I know that this is potentially an emerging business. I'm just wondering if you had looked at this business, what do you think of the monitoring as it relates to the RPs or the RECs in the states.

Barry Cinnamon

We actually helped start one of the pre-eminent monitoring companies about five years ago called Fat Spaniel. So, there is good monitoring out there on the system level. The challenge is that some of these PPA owners are almost getting to the point where they need monitoring on every string or even on every panel. And you could just imagine the up-front costs that are required there and especially the future costs of just maintaining the monitoring system. So, we just factor that in and we look at what the profitability on the job is going to be on a present-value basis.

Brian Yerger – Jesup & Lamont

Okay. On the ASPs, you said it was $8.27 per watt?

Barry Cinnamon

Yes. The ASP was $8.27, and what that really shows is that as we are able to do more and more Andalay, certainly we are not getting down into very price-competitive business. It's holding its price point above ordinary panels.

Brian Yerger – Jesup & Lamont

Okay. Would you be able to give us the percentage of Andalay of what that represents for the quarter?

Barry Cinnamon

We do have that on a dollar breakdown. I think it's – well, Gary's going to pull that number out.

Brian Yerger – Jesup & Lamont

Okay. And while he's looking it up, just the final question, can you give us any color on what exactly is going to happen in Q1 of '09 if we assume that there's some type of passage? You had six months, let's say, of backlog built up. How much of that would you be able to execute in Q1 of '09 or are we anticipating a large dip on the top line in commercial installs for Q1 '09?

Barry Cinnamon

First of all, we are going to be much more careful in the future about communicating in advance, the volatility we see on commercial. Second, with regards to – if we run on the assumption that the ITC won't be extended until the first quarter of '09, what we will be installing in the first quarter of '09 are a continuing increase in residential jobs and also commercial jobs that don't depend on the ITC of which there's a number of those. But, what we expect to see when the ITC is resumed is, 3 to 6 months after the legislation is passed, we will begin to recognize revenue for those restarted commercial jobs.

Gary Effren

And Brian, this is Gary. The percentage of installs in Q2 that were Andalay are about 48% of total installs and approximately 60% of residential installs.

Brian Yerger – Jesup & Lamont

Okay, thanks guys.

Barry Cinnamon

Thanks, Brian.

Operator

Your next question comes from the line of Ted Kundtz with Needham.

Ted Kundtz – Needham

Yes, hello. Hello, everyone.

Barry Cinnamon

Hi, Ted.

Ted Kundtz – Needham

A couple of questions. Barry, could you go back over put a little more color around the reason for the drop in the commercial side in this quarter? It was pretty significant, and really maybe just go back over that again for me. I didn't quite catch all the reasons for it and what you think that could be next quarter and what's happened to that business?

Barry Cinnamon

I'll go back two quarters to give you a little bit of color on that, and the big reason why we saw a drop off in commercial in Q2 is we closed about $10 million worth of commercial business in Q4 of 2007, and that business got installed in Q1 and Q2. Most of the revenue for that job was recognized in Q1. So, we saw a pause as far as that commercial business that we actually recognized for revenue in Q2. That's the biggest factor. The thing that's very important for everybody to understand is, as we build the commercial channel at Akeena and we go from 20% commercial to 30% or 40% commercial, the impact of that revenue recognition volatility will continue, so it is important for us to look at sales over a six-month period rather than a quarterly period because that's how long it takes to do these commercial projects.

Ted Kundtz – Needham

We book on a percent of completion basis, right?

Barry Cinnamon

Gary can give you a little bit more insight into exactly what our revenue recognition policy is, but we have been doing it consistently ever since we have been public.

Gary Effren

And Ted, that's correct. Commercial jobs are booked on a percentage of completion basis and during the first quarter, we completed sufficient activities to recognize the amount of revenue that was recorded. And we finished the jobs in Q2 and the balance of the revenue was recorded in Q2.

Barry Cinnamon

Just to jump in. We don't believe it is prudent for us to change our revenue recognition policies, no matter how you slice it, it's going to be lumpy, and we just want to make sure that we are communicating what those policies are and the fact that almost any way you do it when you got big, six-month jobs, it's going to be spiky.

Gary Effren

So to that point, Ted, over the first half of the year, the breakdown on residential and commercial revenue is about 56% residential and 44% commercial.

Ted Kundtz – Needham

Right. And I just would have thought that as you book on a percent of completion basis that smoothes things out a bit as long as the backlog, the orders are building on the commercial side. Now, if that's very lumpy, winning business is very lumpy, that would explain it. But, it shouldn't be a revenue recognition issue, it should be more just the way you book the business?

Gary Effren

Ted, as Barry mentioned, we had a very strong commercial booking quarter in Q4. The booking quarter for commercial in Q1 was very slow. So, you are right. If –

Ted Kundtz – Needham

Right. And so, how's it now?

Barry Cinnamon

Steve?

Steve Daniel

Ted, this is Steve. We are seeing a lot of activity. We have actually booked some commercial deals during Q2 and also started Q3. Our pipeline is very strong and, as Barry mentioned earlier we are working very diligently with the PPAs and other financing mechanisms to get those deals closed. My gut feel is that the larger deals will close down. The size of the deals will probably shrink as the year goes on due to the ITC uncertainty.

Ted Kundtz – Needham

Right.

Steve Daniel

But the bottom line is, these are binary deals, and we either win them or lose them, but there's a lot in the pipeline. We actually have closed some recently.

Barry Cinnamon

So, let me –

Ted Kundtz – Needham

I guess given that, I would expect that most of the commercial business for the balance of the year would be – you have a good feel for it already, because it has to be done before then. And your guidance for the rest of the year, is that contingent on – is that based on what you see currently or what's the risk, I guess, to your guidance for the balance of the year?

Barry Cinnamon

So Ted, what's happening in the industry right now is everybody sees that there's a deadline at the end of the year. And customers know that they can say, "Hey, who wants to do my job at the best price?" And there's a little bit of frenzy within the industry to close deals. And I personally and our company approach is that we are looking at the margins very closely. So, we are not willy-nilly grabbing these deals and taking them and adding them to our revenue base, even though we have the modules and the operations to handle that installation. So, looking at what the future revenue is in that range of 30% to 40% growth, it's going to be closer to 40% if a lot of these commercial deals pop, they are closed very quickly over the next 30 to 60 days and then they're installed. And it's going to be closer to the 30% if we look at these things and we say, "You know, it's just not worth the risk to goose the revenue up," and we are going to pass on those deals.

Ted Kundtz – Needham

Got it, okay, okay. Just another couple of questions, one now you talked about – could you give us the cash burn rate currently?

Barry Cinnamon

Gary?

Gary Effren

I can do that. I'm just going to give you the – it was in Q2 $4.3 million, that's EBITDAs.

Ted Kundtz – Needham

Okay. And that's cash burn. Okay, and I guess the question would – I guess, you brought down the expenses nicely. Are you going to try to keep them at these levels and try to get the operating leverage going back here?

Barry Cinnamon

In fact, Ted, on the first quarter call, we said that we were going to remove about $2 million of cash expenses in Q2, Q3 and Q4 versus our then current plan. We are ahead of schedule on that. We were able to ramp up the savings, which we said would be about $0.5 million in Q2, and we have ramped it up nicely and we are on target to meet the goal of knocking out the $2 million expenses for the year.

Ted Kundtz – Needham

Okay. And then the last question I really have is on the gross margin outlook for you guys. The goal here is to get these margins into the mid to high 20s, and I think even 30% is what you stated originally for the long-term goal. Where do you see those going now, you were at the mid teens. What kind of improvement do you think we can see over the next several quarters? And then, what kind of level do you need to reach this cash break-even level?

Gary Effren

Right. So Ted, for the half of the year, the gross profit margin was 17.9%, and we think that that's a pretty good reflection of the gross profit margin in the near term given a revenue mix in the 60% to 70% of residential/commercial mix, 60% to 70% residential. But, Barry mentioned that with the early introduction of a new product, we are reporting 5% warranty provision, and will continue to evaluate the warranty provision as the product matures and as we gain more experience. We are also – I mentioned on a previous answer that we did about 60% Andalay for residential on the installation side in Q2. Virtually every sale this year on the residential side was Andalay, so you are going to see the percentage of Andalay installations picking up as we go along. That should give us a bit of a lift, but as we want to guard against any potential decline in the ASPs as the year goes on.

Ted Kundtz – Needham

Okay, and then the margins to reach break-even?

Gary Effren

We see continued improvement in our margins as we continue the transitions, Andalay for residential, as we continue on the path that Barry outlined on Andalay for commercial, including Flat Roof, and I think Barry mentioned that we see cash flow breakeven, assuming the ITC passes early in 2009, in the back end of 2009.

Ted Kundtz – Needham

Right. And what kind of gross margins would that imply something in the 20% range, low to mid 20s?

Gary Effren

That would be the range, yes, Ted.

Ted Kundtz – Needham

Okay. Thanks a lot.

Gary Effren

Okay.

Barry Cinnamon

Thanks, Ted.

Operator

Our next question comes from the line of Adam Krop of Ardour Capital.

Adam Krop – Ardour Capital

Hi, guys. Thanks, for taking my question. First question is, can you provide a quick update on your licensing agreement with Suntec? I know you talked about possibly $1 million coming from that this year. Can you just comment on that real quick?

Barry Cinnamon

Sure. Suntec introduced their version of Andalay at Intersolar this summer, and we are working with them to actively promote the product in Europe. We don't have any definitive figures from them as to what they expect to ship and pay us for in 2008 yet. Suffice it to say that they continue to make a pretty good sales and marketing investment in the product, and the markets in Europe, particularly on the residential side are beginning to heat up. So, I don't have an exact number for you, but the relationship is very, very strong.

Adam Krop – Ardour Capital

Okay, thanks for that. Now, I know you are locked in at 375 for the modules for 2008. Can you maybe comment on what you are looking at or early trends for module costs for 2009 at all?

Barry Cinnamon

Sure. We are actually paying less than 375 for the modules right now, and what's happening in the industry is, there is a lot of uncertainty about what pricing is going to be in 2009. We believe that pricing for delivery in the fourth quarter of this year is going to be solid. In fact, a lot of third-party module pricing went up this year. But in December, we think it's going to drop off and we definitely think it's going to come down in early 2009. So in anticipation of that decline, we have not locked in our pricing for Andalay deliveries in 2009 as of this time because we believe that by waiting a little bit, it's not going to jeopardize production, but we'll be able to get a better price for next year.

Adam Krop – Ardour Capital

Okay, fair enough. And then just one quick question on the balance sheet, the $4.5 million of restricted cash, what exactly is that for?

Gary Effren

The restricted cash is equal to the amount of the drawdown on the $25 million credit line. That's –

Adam Krop – Ardour Capital

Okay.

Gary Effren

– We classify the amount of cash that backs up that drawdown as restricted cash.

Adam Krop – Ardour Capital

Okay, I got you. Thanks, guys.

Gary Effren

Right.

Barry Cinnamon

Thanks, Adam.

Operator

Your next question comes from the line of John Robaum with Gagnon Securities.

Mark Rogers – Gagnon Securities

Hi, this is actually Mark Rogers calling for John Robaum. Thanks, for taking my question. The new Connecticut office, I was just wondering basically what goes into setting up that office? How many employees do you have there? And do you bring in an installation team or do you work with local labor as I guess you could say, train them on the Andalay system and then they install it?

Barry Cinnamon

Good question. The nice thing about that Connecticut is to a very large degree builds on the sales, marketing and installation office we already had in New Jersey. So, it's not as much of just opening up a brand new office and here we got to hire people. We've already had a good operation on the East Coast, and it's mostly just a matter of transferring the staffing, much of which is already based in New York and Connecticut up to that Milford, Connecticut office. So, that hit the ground running pretty quickly, and really what was involved is just signing the lease, painting the walls, putting up the sign, and I believe this week, there's going to be a grand opening party there. So, you guys are all welcome to attend.

Mark Rogers – Gagnon Securities

Great. So actually, how many people are in that office as of right now?

Barry Cinnamon

We have a fairly large sales team back east. I'd say it's around 7 or 8 people right now. We have a number of installation crews, and we have a Regional Manager and an Office Manager, so it's a fully staffed-out office, and we also have been taking people from the California branch to go out and train them as we grow that business.

Steve Daniel

So right now, we have two installation team plus an Installation Manager plus office staff, so it's all ready to go. And one of the other things that really happened independently is, over the last month, Connecticut put in place a state leasing program. So, when a state is funding that program, it makes it very reliable and very good for people to take advantage of. So we are seeing really good growth in Connecticut, and we expect to see that – we expect to see that continue to grow very rapidly. Now, from an organizational standpoint, the experience we had is except for the sales people who have to talk to the customers and the installers who have to put the panels on the roof, everything else is easiest to centralize back here in the Los Gatos office, and that's where we can draw on existing infrastructure and get economies of scale. So, that's working out fine.

Mark Rogers – Gagnon Securities

Great, sounds great. Thanks, guys.

Operator

Your next question comes from the line of Kevin Sonich with RK Capital.

Kevin Sonich – RK Capital

Thanks. Along those lines that you were just speaking, can you just provide an update on the number of sales people, the number of installers and the number of other employees?

Barry Cinnamon

We don't have the exact – we don't disclose the exact breakdown on all of the departments, but currently we got 203 employees within the company.

Kevin Sonich – RK Capital

Okay. Understanding that you are going to be taking some further cost out of the system, is there a fair amount of unused capacity among the sales teams and the install teams or is it really just in that other category?

Steve Daniel

Right now, we are pretty much fully optimized from a sales and marketing standpoint and we are looking, as we always do in the summer season to bring on contractors. The other very nice thing that we've experienced is we just had an absolutely terrific quarter in terms of doing residential installations, which are very labor-intensive and because of Andalay, we are finding that the same staffing can do more jobs, and that's where we are starting to see some of the savings, which we expected.

Kevin Sonich – RK Capital

Okay, great. And just one more if I could, following up on Ted's questioning earlier, you were talking about getting to breakeven, or cash breakeven, in the second half of next year, what type of scale do you think you need if the margin assumptions hold on the residential side and on the commercial side, if they come in pretty close to plan, what type of revenue do we need in the back half of next year either overall in the back half or on a quarterly basis to get to that cash break-even level?

Gary Effren

It’s probably a number that's going to be in the range of $20 million to $25 million a quarter.

Kevin Sonich – RK Capital

Okay. Okay, great. Thanks, guys.

Barry Cinnamon

Okay.

Gary Effren

Okay, thanks Kevin.

Operator

Your next question comes from the line Tim Kerby [ph] with Great Gable Partners.

Tim Kerby – Great Gable Partners

Hi, thanks for taking my call. I'm just thinking about the second half of 2008 and your guidance for top line revenues, and to achieve this 30% growth for 2008 and considering ASTs and the trend in ASTs, this would assume somewhere in the neighborhood of 1,300 to 1,400 kilowatts of installation per quarter for Q3 and Q4? And I'm just thinking that that's a meaningful increase relative to what was installed in Q2. And I was just wondering if you could talk about or elaborate a little bit on why Akeena can achieve this and if there are chunky commercial installations included that number?

Barry Cinnamon

Thanks, Tim. There are some large and medium sized commercial installations we are including in that quarter, but what we are doing is we are doing a, I believe, a very good job of making sure we have inventory coming in almost on a bi-weekly basis to meet that need and just the staffing throughout the organization from PMs, project managers to engineers, to installers to be able to take care of those installations. So, we are planning on it and ramping up to handle that very, very carefully. And as I mentioned in my answer to Kevin's call, we are going to be using, as we always have had, subcontractors where necessary to handle some of these peak demand projects.

Tim Kerby – Great Gable Partners

Okay, great. Thank you.

Operator

(Operator instructions) Your next question comes from the line of Brad Hendrickson [ph] with Nokomis.

Brad Hendrickson – Nokomis

Hi, good afternoon. Hi, Gary, I missed what you said on the restricted cash. What's the restricted cash from?

Gary Effren

It's an amount equivalent to the drawdown on the line of credit as of the end of the quarter.

Brad Hendrickson – Nokomis

And how come that has to be restricted?

Gary Effren

Under the terms of our loan agreement with Comerica, we have a requirement to have that amount of cash on deposit. It's basically a collateral requirement.

Brad Hendrickson – Nokomis

Okay. So, okay, how come you guys – okay. Maybe I'll talk to you about that off line, because I don't really understand why you do even have a line of credit where for every dollar – for every dollar you take, you need to keep the dollar restricted?

Gary Effren

Let's take it off line. It's the accounting that's required under the terms of the line of credit. I need to talk about that later.

Brad Hendrickson – Nokomis

Okay, that's fine. And then, was there a timing thing? We thought we might see account receivable come down a little more? Was there a timing thing with that, it didn't really come down as much as revenue?

Gary Effren

There's always a timing thing on snapshots with accounts payable. Suffice it to say that we are working collections on a daily basis, and sometimes you get the check and sometimes you don't. But, we take the snapshot at the end of the month as we are required to.

Brad Hendrickson – Nokomis

All right, thanks a lot.

Gary Effren

You're welcome.

Operator

There are no further questions at this time. Please proceed with your presentation or any closing remarks.

Barry Cinnamon

Great, thanks. And as our society gradually accepts the fact that the era of cheap, fossil fuel energy is over, the awareness and the benefits of solar power is spreading, and demand for solar installations shows no sign of abating Our lead flow [ph] continues to hit record levels. Our closing rates are up again, and our Andalay residential and new flat roof commercial projects are being extremely well received. Certainly, the failure of the passage of the federal ITC has delayed the achievement of our sales and profitability goals. Nevertheless, we do believe that we have in place the marketing, sales, operations, and finance infrastructure that's appropriate for the level of business that we expect over the next 12 months. With our Andalay technology and the pent-up demand for clean, renewable solar power, we believe we are uniquely positioned to take advantage of the growing rooftop solar power industry in the coming years. Thank you.

Operator

Ladies and gentlemen, that concludes your conference call for today. We thank you for your participation and ask that you please disconnect your lines.

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Source: Akeena Solar, Inc. Q2 2008 Earnings Call Transcript
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