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Edited Transcript of FEIM earnings conference call or presentation 16-Sep-19 8:30pm GMT

Q1 2020 Frequency Electronics Inc Earnings Call

Sep 20, 2019 (Thomson StreetEvents) -- Edited Transcript of Frequency Electronics Inc earnings conference call or presentation Monday, September 16, 2019 at 8:30:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Martin B. Bloch

Frequency Electronics, Inc. - Executive Chairman & Chief Scientist

* Stanton David Sloane

Frequency Electronics, Inc. - President, CEO & Director

* Steven L. Bernstein

Frequency Electronics, Inc. - CFO, Secretary & Treasurer

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Conference Call Participants

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* Brett Reiss

Janney Montgomery Scott LLC - SVP of Private Client Group & Financial Advisor

* David L. Starkey

Morgan Stanley & Co. LLC - Senior VP, Financial Advisor & Senior Portfolio Management Director

* Sam Rebotsky;SER Asset Management

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Presentation

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Operator [1]

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Greetings, and welcome to the Frequency Electronics Fourth (sic) [First] Quarter Fiscal Year 2020 Earnings Release Conference Call. (Operator Instructions) As a reminder, this conference is being recorded.

Any statements made by the company during this conference call regarding the future constitute forward-looking statements pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. Such statements inherently involve uncertainties that could cause actual results to differ materially from the forward-looking statements. Factors that would cause or contribute to such differences are included in the company's press releases and are further detailed in the company's periodic reports filed with the Securities and Exchange Commission. By making these forward-looking statements, the company undertakes no obligation to update these statements for revisions or changes after the date of this conference call.

It's now my pleasure to introduce your host, Martin Bloch, Executive Chairman of the Board of Frequency Electronics. Sir, the floor is yours.

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Martin B. Bloch, Frequency Electronics, Inc. - Executive Chairman & Chief Scientist [2]

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Thank you. As usual, I will turn the first part of this presentation to Steve Bernstein, who'll give you the detailed update and then Stan Sloane will give you the update from his view and I'll summarize some other thoughts for everybody and then open the discussion to everyone of you. So Steve, go ahead.

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Steven L. Bernstein, Frequency Electronics, Inc. - CFO, Secretary & Treasurer [3]

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Thank you, Martin, and good afternoon.

For the 3 months ended July 31, 2019, consolidated revenue was $12.6 million, up 14% from $11 million for the prior fiscal year. The components of revenue are as follows: revenue from commercial and U.S. government satellite programs was $3.9 million compared to $5.5 million for the same period of the prior fiscal year and accounted for approximately 31% of consolidated revenue compared to approximately 50% in fiscal 2019; revenues on satellite payload contracts are recognized primarily under the percentage of completion method and are recorded only in the FEI-New York segment; revenues from nonspace U.S. government and DOD customers, which are recorded in both the FEI-New York and FEI-Zyfer segments rose to $6.7 million compared to $4.8 million in the prior fiscal year.

Other commercial and industrial revenues was $1.9 million compared to $700,000 in the prior fiscal year. Intersegment revenues are eliminated in consolidation.

For the 3-month period ended July 31, 2019, the gross margin and gross margin rate both decreased over the same period in fiscal 2019. The decrease is primarily due to higher engineering cost on several certain current programs, which relate to products that are pushing state-of-the-art technology.

For the 3 months ended July 31, 2019 and 2018, selling and administrative costs were approximately 20% and 23%, respectively, of consolidated revenue. There were no accounts or type of expense that represented a significant portion of the change in expense.

R&D expense for the 3 months ended July 31, 2019, and 2018 increased to $2.3 million from $1.6 million, an increase of $700,000 and were approximately 18% and 15% of consolidated revenue.

The company expects to maintain a high level of internally-funded activity relating to R&D through the balance of the current year and beyond to address new large opportunities in secure communication, command-and-control applications, next-generation satellite cable products and additional DOD and commercial applications.

For the 3 months ended July 31, 2019, the company recorded an operating loss of $780,000 compared to an operating profit of $85,000 in the prior year. The operating loss reflects improvements in revenue, offset by both lower gross margin and increased research and development costs compared to the same period of fiscal 2019.

Other income consisted primarily of investment income derived from the company's holdings of marketable securities.

For the 3-month period ending July 31, 2019, investment income included $125,000 of dividend from Morion. Other income included the sale of a fixed asset for a gain of $50,000. This yields a pretax loss of approximately $570,000 compared to a pretax income of approximately $38,000 for the prior year.

For the 3 months ended July 31, 2019, the company recorded a tax provision of $20,000 compared to $7,000 for the same period of fiscal 2019. Consolidated net loss for the 3 months ended July 31, 2019, was $591,000 or $0.07 per share compared to income of $31,000 or a fraction of a cent per diluted share compared to previous year.

For the period just ended, the company generated positive cash flow from operations of $153,000. Our fully-funded backlog at the end of July 2019 was $35 million.

The company's balance sheet continues to reflect the strong working capital position of approximately $45 million as of July 31, 2019, and a current ratio of over 8.5:1.

The company believes that its liquidity is adequate to meet its operating and investing needs for the next 12 months and foreseeable future.

I return the call back to Martin, and we look forward to your questions later.

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Martin B. Bloch, Frequency Electronics, Inc. - Executive Chairman & Chief Scientist [4]

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I will turn over at this moment to Stan Sloane for his remarks. Stan, please.

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Stanton David Sloane, Frequency Electronics, Inc. - President, CEO & Director [5]

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Thanks, Martin. As I stated in our press release, I'm very encouraged by the amount of new business activity we are seeing. I believe on our last call, we mentioned that we had over $450 million of bids outstanding. As of today, that number is around $490 million. We're seeing some delays in awarded new space programs, but our win rates are solid and overall new business picture is very promising.

Revenue was also up from Q1 of last fiscal year. We had several development programs, which we feel will have substantial production tails and in which we have made a decision to invest. I feel the short-term effect on gross margin are well worth the investment, particularly, since we have already received initial development contracts for several of these that could potentially result in $200-plus million of revenue.

Overall, I believe we are making progress on improving operations with an eye to long-term growth of the business, both top and bottom line. We also continue to generate positive cash flow. Martin?

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Martin B. Bloch, Frequency Electronics, Inc. - Executive Chairman & Chief Scientist [6]

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Okay. I think to see clearly the future, we should examine a little bit the past and what happened. Over the past 3 years, all our customers have suffered to be a decrease in satellite business, which was our main area. And to give you examples, an average of 33 geosynchronous satellites for both on average year over the past 3 years, the average was less than 10%. So when our customers lost a lot of business, that affected a big portion of our backlog.

Second thing that happened is new technology was introduced, and this is instead of getting 15 years to 20 years commercial satellite, the cheaper launch cost, they are now happy to use automotive parts and expect 5 year of life in orbit. All of this had an effect on our satellite business. However, during that time, we weren't sitting on our intuition waiting for a miracle. We invested a lot in research and development and products, which, as Stan has mentioned, has both our backlog for -- proposal backlog, the first time in numbers, which we have never expected to do and was -- as Stan has mentioned, is the sum of these programs although they are at a slow start, our customers have given us initial R&D fund in order to protect schedule.

I want to relate another effect that happened, which -- that promises a great opportunity to Frequency Electronics.

In July, the second most significant navigational system to GPS called Galileo, which is the European GPS failed because of ground station problems and was out there for 8 days.

If God forbid that would have happened to GPS, we wouldn't have police, ambulances, Homeland Security, all of the critical factors that DOD and, in many cases, effect maybe of a commercial operation as well.

What this has created is the necessity for having local time available so in case it happens, you can operate for a certain amount of time before it can be repaired and you're back on the air. This offers Frequency enormous amount of opportunity for, especially, the DOD market where our technology of low-g and good hold of our clocks is unique, and we're probably 1 of maybe 3 companies in the world that has the technology to meet that demand.

I'm very encouraged that the reality is going to set in that we need to have local time and give us a great opportunity for the investment that we've made.

So I am -- with Stan, I'm very encouraged with the business that we're getting. And with what we see forward, we can see a very profitable future.

I'd like at this time to turn over to questions and answers. Please be kind enough to address the questions to Steve, Stan or Martin. So we know how to answer you properly. Go ahead.

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Questions and Answers

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Operator [1]

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(Operator Instructions) We'll take our first question from Brett Reiss with Janney Montgomery Scott.

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Brett Reiss, Janney Montgomery Scott LLC - SVP of Private Client Group & Financial Advisor [2]

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In the press release, you talked about bookings. Could you just explain that versus when you say bids, which have gone from $450 million to $490 million?

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Martin B. Bloch, Frequency Electronics, Inc. - Executive Chairman & Chief Scientist [3]

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At this time, okay, either me or Stan, both of us have the same answer. What happens, this is open proposals to our customers on our type of equipment, and in many cases, that we are sole-sourced and the only ones that can supply it.

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Brett Reiss, Janney Montgomery Scott LLC - SVP of Private Client Group & Financial Advisor [4]

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Okay.

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Martin B. Bloch, Frequency Electronics, Inc. - Executive Chairman & Chief Scientist [5]

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So the way we get future business is the customer has a requirement, they come to us and we write them technical proposals and come up with a price to do it.

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Brett Reiss, Janney Montgomery Scott LLC - SVP of Private Client Group & Financial Advisor [6]

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Okay. Can you give us some sense that the $490 million in bids outstanding? Does it range rollover the map? Is it to 1 or 2 customers where we're looking for an elephant order of 50 million to 100 million? Or is it 30 potential customers with smaller orders, $1 million to $5 million? How many entities or customers are you -- how many fish hooks do you have in the pond?

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Martin B. Bloch, Frequency Electronics, Inc. - Executive Chairman & Chief Scientist [7]

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Okay. That's a good question. I would say that probably the majority come from about a half a dozen customers. Wouldn't you say, Stan?

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Stanton David Sloane, Frequency Electronics, Inc. - President, CEO & Director [8]

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It's a whole range from very small orders for small oscillators to big satellite programs. In terms of the total numbers, it's probably the 30-ish number of fish hooks, if that was the question.

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Brett Reiss, Janney Montgomery Scott LLC - SVP of Private Client Group & Financial Advisor [9]

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Okay. So on the last call, in response to kind of a similar question, you answered that you've provided the technology to about a dozen programs. And in many cases, we've delivered the engineering models to the customers. So 3 months have elapsed since you've done that. Have you heard back from any of these customers negatively? I assume if we heard positively, we would have had a press release on firm orders. But have some of these customers come back and said nowhere they're still thinking about it?

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Martin B. Bloch, Frequency Electronics, Inc. - Executive Chairman & Chief Scientist [10]

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Well, I can tell you that there's only one customer that said no. And the majority of them said yes. And as a matter of fact, they're under a plan to new business. What did we book about $10 million in the past month?

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Stanton David Sloane, Frequency Electronics, Inc. - President, CEO & Director [11]

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$10.6 million.

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Martin B. Bloch, Frequency Electronics, Inc. - Executive Chairman & Chief Scientist [12]

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$10.6 million, as Stan corrected.

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Stanton David Sloane, Frequency Electronics, Inc. - President, CEO & Director [13]

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I'm sorry, that's not the last month, that's the quarter.

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Martin B. Bloch, Frequency Electronics, Inc. - Executive Chairman & Chief Scientist [14]

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Yes, but the majority came at the very end.

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Stanton David Sloane, Frequency Electronics, Inc. - President, CEO & Director [15]

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Yes. We've also announced additional orders subsequent to the quarter end, which is we spoke.

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Martin B. Bloch, Frequency Electronics, Inc. - Executive Chairman & Chief Scientist [16]

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To answer you, the majority of our customers think that we are quite unique and are able to provide the accuracy, the reliability and what's most important the ability to provide a clock that can operate in the both space and terrestrial environment.

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Brett Reiss, Janney Montgomery Scott LLC - SVP of Private Client Group & Financial Advisor [17]

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Okay. The point of all these questions, I know the company does not give guidance. And fair enough because how do you know when you're going to get these orders. But you do tease us a little bit or give us information of how many fish hooks are in the pond. And a broad estimate of -- the decision-makers are taking 12 to 18 months to make the decision. We're just trying to get a sense of playing the probabilities of when order flow is going to start to come in the next 1, 2 or 3 quarters, I mean, that's the gravamen of these questions.

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Stanton David Sloane, Frequency Electronics, Inc. - President, CEO & Director [18]

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Brett, we -- like I said, we announced a couple of weeks ago, a fairly substantial order was after the quarter end. So it's not in the first quarter, but to your question about when the orders flow and that's a good start.

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Brett Reiss, Janney Montgomery Scott LLC - SVP of Private Client Group & Financial Advisor [19]

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Okay. You reaffirm to the August 29 wide area augmentation system order?

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Stanton David Sloane, Frequency Electronics, Inc. - President, CEO & Director [20]

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No, no, to the VCXO contract for $8.7 million, I believe, was the amount in the press release.

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Martin B. Bloch, Frequency Electronics, Inc. - Executive Chairman & Chief Scientist [21]

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Yes, something around -- between $8 million and $9 million for their unique product that we are extremely suited for. And there are a couple of more orders that we expect in the very near future. So we see it coming in. And like I said, the majority of this proposal that we have outstanding, we have a unique capability to supply the technology that's needed.

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Brett Reiss, Janney Montgomery Scott LLC - SVP of Private Client Group & Financial Advisor [22]

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Yes. I don't doubt it, and I'm a friend to the company. Now the $8.7 million...

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Martin B. Bloch, Frequency Electronics, Inc. - Executive Chairman & Chief Scientist [23]

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Me too.

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Brett Reiss, Janney Montgomery Scott LLC - SVP of Private Client Group & Financial Advisor [24]

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Yes. Over what period of time will that be executed on?

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Martin B. Bloch, Frequency Electronics, Inc. - Executive Chairman & Chief Scientist [25]

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Well, as fast as we can do it. I think we have about 1.5 years, but we're trying to do it faster because the faster we do it, the more we're going to get on the next phase. So we're really focusing on how to get it done as quickly as possible.

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Operator [26]

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We'll take our next question from Sam Rebotsky with SER Asset Management.

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Sam Rebotsky;SER Asset Management, [27]

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The press release that went on, on August 29, is there -- this I assume is shipped in the August quarter. Is there a number in the next quarter, which will be October? Is there a dollar number relative to how much that was? Or is that significant or insignificant?

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Stanton David Sloane, Frequency Electronics, Inc. - President, CEO & Director [28]

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I'm not sure I understand the question.

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Martin B. Bloch, Frequency Electronics, Inc. - Executive Chairman & Chief Scientist [29]

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Yes. Could you -- Sam, could you repeat the question because...

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Sam Rebotsky;SER Asset Management, [30]

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Yes, yes. It says, Frequency Electronics has now said it has delivered its fourth in a series of wide-area augmented systems to Northrop Grumman. So if we ship something to Northrop Grumman, there is a dollar amount relative to this. And is this part of a major contract, what kind of dollar? And I assume is this that was announced August 29, so it's going to be a sale in the October quarter?

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Stanton David Sloane, Frequency Electronics, Inc. - President, CEO & Director [31]

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No. We don't disclose the details on that. The point of press release was just to let you and everyone know that we are delivering very critical hardware that happens to be an FAA program that provides navigation for commercial aircraft. So that was the purpose of the press release.

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Sam Rebotsky;SER Asset Management, [32]

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Okay.

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Martin B. Bloch, Frequency Electronics, Inc. - Executive Chairman & Chief Scientist [33]

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Sam, just to let you know there are 2 reasons why we don't do it. First of all, most of the costs of this programs are classified and the ones that are not classified, we don’t want to tell possible competition that what our pricing is.

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Sam Rebotsky;SER Asset Management, [34]

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So in the backlog, how many more of this thing that we shipped to Grumman? Do we have a number or more of these things we're shipping?

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Martin B. Bloch, Frequency Electronics, Inc. - Executive Chairman & Chief Scientist [35]

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Yes.

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Stanton David Sloane, Frequency Electronics, Inc. - President, CEO & Director [36]

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Yes.

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Sam Rebotsky;SER Asset Management, [37]

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Okay. Okay. And we're not going to quantify the number more, I guess?

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Martin B. Bloch, Frequency Electronics, Inc. - Executive Chairman & Chief Scientist [38]

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That's correct. I gave you the 2 reasons why it's not wise. One, we cannot because of the sensitive nature. And the second is, we don't want to have them quantify because I'm sure some of the possible competitors are listening.

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Sam Rebotsky;SER Asset Management, [39]

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Okay. The $490 million, that were bids, are presumably based on the R&D that we're spending. There will be more bids. Is there -- do we see 600, 700, I mean, the question of a number in the bids, and then we spoke of 12 to 18 months' time frame before they make decisions. If we're so fortunate to get even 50% of this, this would be astronomical. It's like it's ended up in the satellite. I mean Frequency will explode. Can we handle that? What's the story there?

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Stanton David Sloane, Frequency Electronics, Inc. - President, CEO & Director [40]

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We're not going to explode. We're going to handle it. Obviously, when we bid jobs, we do the planning associated with production and engineering loads. So we know that we can execute them. We would not bid on something that we could not execute.

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Martin B. Bloch, Frequency Electronics, Inc. - Executive Chairman & Chief Scientist [41]

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That we cannot deliver. On the same, we do have significant other opportunities. And like I said, Stan has mentioned, the big area that will now be addressed is that people will recognize the importance of having their own time so they can survive in case there is a GPS interruption and that will open significant, in my opinion, other opportunities to FEI.

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Sam Rebotsky;SER Asset Management, [42]

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Okay. We had about 200 employees at the end of the last quarter. Are we -- I know we're trying to hire more people. Do we have more than 200 now? Or where are we on the hiring process?

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Martin B. Bloch, Frequency Electronics, Inc. - Executive Chairman & Chief Scientist [43]

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Well, we are kind of taking a look on population what we have and what we need, and the specialties that we need to add on.

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Sam Rebotsky;SER Asset Management, [44]

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So do you think we need to subcontract some of this if we get big orders?

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Martin B. Bloch, Frequency Electronics, Inc. - Executive Chairman & Chief Scientist [45]

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We're looking at that possibility very good because it's -- that's much more cost-effective than adding people to the routine job. So assembly, anything that we can get on outside that will be our first choice.

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Sam Rebotsky;SER Asset Management, [46]

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Are we looking at any companies to acquire or merge that would give us...?

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Martin B. Bloch, Frequency Electronics, Inc. - Executive Chairman & Chief Scientist [47]

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All the time, all the time.

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Sam Rebotsky;SER Asset Management, [48]

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Yes, yes, yes. Well, I guess, you guys are trying. I'm very happy that you're bidding on the number of dollars on the contracts. It's really wonderful. And hopefully soon that somebody's contracts will come to fruition and become backlog in sales. So profits will reward the stock. Are we ready to make presentations or when are we going to start doing that?

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Martin B. Bloch, Frequency Electronics, Inc. - Executive Chairman & Chief Scientist [49]

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We're ready, and we will do them.

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Operator [50]

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We will take our next question from [Richard Johns], private investor.

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Unidentified Participant, [51]

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I am wondering, in dollar terms, what percentage of your business has generally been fixed price versus cost-plus?

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Stanton David Sloane, Frequency Electronics, Inc. - President, CEO & Director [52]

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A little higher, 70 -- probably 70-30, 30% cost plus that vary -- that will vary a little bit period to period, but that's roughly where it looks like.

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Unidentified Participant, [53]

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You expect it to be roughly that mix in the future?

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Martin B. Bloch, Frequency Electronics, Inc. - Executive Chairman & Chief Scientist [54]

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That's an ideal mix for us. We don't want too many cost-plus jobs, with just the high-risk development jobs is those value to cost-plus, but the others, we are much more efficient on a fixed price basis.

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Unidentified Participant, [55]

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Okay. Okay. And what roughly has been your win rate over time? And what do you expect for that in the future?

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Stanton David Sloane, Frequency Electronics, Inc. - President, CEO & Director [56]

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When rates recently running about 70%, it'll vary over time, but then anything in the 50% range is pretty good for this kind of business.

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Unidentified Participant, [57]

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Okay.

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Martin B. Bloch, Frequency Electronics, Inc. - Executive Chairman & Chief Scientist [58]

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50 plus is if you look over a long period of time. And...

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Sam Rebotsky;SER Asset Management, [59]

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And many of that we did not win ended up to be not programs. Some programs look very half and all of the sudden, the government decides that, that isn't what they want to do. So we have a good rate in our technology because we don't bid from DC to life. We bid on areas where we have great expertise.

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Unidentified Participant, [60]

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Okay. Okay. I have a couple of questions for Steve. I wondered once you start really going and get profitable, what sort of combined federal and state income tax rate would you expect?

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Steven L. Bernstein, Frequency Electronics, Inc. - CFO, Secretary & Treasurer [61]

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Well, we think it'll go proportionately back up to where we've always been in 20%, 30% range once it'll -- again once we start to show profits.

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Unidentified Participant, [62]

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Yes. When Trump lowered the corporate rate and the number in my head is somewhere around 21%...

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Steven L. Bernstein, Frequency Electronics, Inc. - CFO, Secretary & Treasurer [63]

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21% is the corporate rate, but then you have other things that play into effect. So it's hard to say given the exact number what it'll be.

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Unidentified Participant, [64]

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Yes. so if you add in the state income tax and the other things you're referring to, it might get up to 30% or higher?

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Steven L. Bernstein, Frequency Electronics, Inc. - CFO, Secretary & Treasurer [65]

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About 30%.

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Unidentified Participant, [66]

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Okay. Okay. There is a new line in your assets in the July 30 numbers -- 31 numbers. It's called Right-of-Use assets. Can you tell me what those are?

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Steven L. Bernstein, Frequency Electronics, Inc. - CFO, Secretary & Treasurer [67]

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Sure. There is a new pronouncement for leases. So you look on the balance sheet for the assets and the liabilities. So for all leases, we're required to calculate the asset side and the liability. It was for more they believe it's for clarity. So we have a Right-of-Use asset, and we also have a liability that corresponds to it, both short -- current and long term. What it really is, is the leases that we're -- we have.

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Martin B. Bloch, Frequency Electronics, Inc. - Executive Chairman & Chief Scientist [68]

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Those are liability on the right side of the balance sheet. Should an investor think that as comparable to long-term debt?

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Steven L. Bernstein, Frequency Electronics, Inc. - CFO, Secretary & Treasurer [69]

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No, because it was -- yes, you could say, yes -- no, it's not long-term debt. It's the same. Before this pronouncement, we have to pay rent per month, right? So now what they're doing is, they're telling you have an asset to use the building, and you have a liability to pay the rent, no different than it was.

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Operator [70]

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We'll take our next question from [Michael Eisner], private investor.

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Unidentified Participant, [71]

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I have a question. Did you say we were sole-source on the $490 million?

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Martin B. Bloch, Frequency Electronics, Inc. - Executive Chairman & Chief Scientist [72]

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Are we sole-source on all of it? The answer is no. Are we sole-source on a good portion of it? Yes.

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Unidentified Participant, [73]

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All right. And then you said something about to bring $200 million in revenue. Was that on top of the $490 million?

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Martin B. Bloch, Frequency Electronics, Inc. - Executive Chairman & Chief Scientist [74]

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I don't know. I don't understand that question. Can you say it again, Michael?

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Unidentified Participant, [75]

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Stan said something about $200 million. And I couldn't hear, I'm good.

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Stanton David Sloane, Frequency Electronics, Inc. - President, CEO & Director [76]

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Of the $490 million of outstanding bids, some of those have contracts where we have already won the development part. And we're doing the first part. It may be production options later, which add up to the $490 million. But about $200 million of that, we have the initial contracts and they have production options and other things associated with them, that would add up to that $200 million.

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Martin B. Bloch, Frequency Electronics, Inc. - Executive Chairman & Chief Scientist [77]

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Which is a good thing, Mike, because we've gotten those early turn on in order to protect schedule. So if our customers have issues in getting their contract finalized with the government, they took the initiative of giving us the initial development so schedules get not too badly impacted.

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Unidentified Participant, [78]

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All right. And Martin, you're doing all the scientific part now.

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Martin B. Bloch, Frequency Electronics, Inc. - Executive Chairman & Chief Scientist [79]

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That's my job.

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Unidentified Participant, [80]

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All right. I think that's perfect for you.

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Martin B. Bloch, Frequency Electronics, Inc. - Executive Chairman & Chief Scientist [81]

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Well, thank you. I didn't know what's perfect for me much.

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Unidentified Participant, [82]

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On that $8.7 million contract you just received, how big can that get? Is that, I mean, long term?

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Stanton David Sloane, Frequency Electronics, Inc. - President, CEO & Director [83]

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That's potentially $25 million to $30 million.

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Unidentified Participant, [84]

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Over a couple of years?

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Stanton David Sloane, Frequency Electronics, Inc. - President, CEO & Director [85]

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Over several years.

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Unidentified Participant, [86]

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The same thing, several years, couple of years. And how is the GPS IIIF coming along?

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Martin B. Bloch, Frequency Electronics, Inc. - Executive Chairman & Chief Scientist [87]

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Very good.

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Stanton David Sloane, Frequency Electronics, Inc. - President, CEO & Director [88]

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IIIF is progressing.

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Unidentified Participant, [89]

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That's coming -- are you allowed to announce that if you get that?

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Stanton David Sloane, Frequency Electronics, Inc. - President, CEO & Director [90]

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If we get orders for that, certainly, we will make that announcement. Well, I don’t know will they let to us refer to GPS when we get the order.

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Martin B. Bloch, Frequency Electronics, Inc. - Executive Chairman & Chief Scientist [91]

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We'll have to get clearance from our customers, but we will try to announce it.

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Unidentified Participant, [92]

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And the $37 million Air Force contract, do you have any color on that? How is that going?

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Martin B. Bloch, Frequency Electronics, Inc. - Executive Chairman & Chief Scientist [93]

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It's standing still. The Air Force is deciding which way to go. As a matter of fact, we had a meeting in Washington just a few days ago, and that was one of the discussions on this, which way the Air Force is going to go. At this moment, it's standing still.

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Unidentified Participant, [94]

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When you say, which way it's going to go, do you mean that's going to lean forward or if they're going to do it? What do you mean?

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Martin B. Bloch, Frequency Electronics, Inc. - Executive Chairman & Chief Scientist [95]

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Well, that's it. Are they going to fund the rest? I -- that's on the -- we still have their order. The question is, are they going to fund it or are they going to decide that this equipment is too advanced? Those are all questions above my pay grade, but it's being evaluated in by some serious people in the Department of Defense.

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Unidentified Participant, [96]

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I'm actually trying to figure out what they're going to do, I guess?

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Martin B. Bloch, Frequency Electronics, Inc. - Executive Chairman & Chief Scientist [97]

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We'll let you know as soon as they let us know.

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Unidentified Participant, [98]

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And what -- on the low g-sensitivity technology, you're the only -- you said, there's only 3 companies in the world.

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Martin B. Bloch, Frequency Electronics, Inc. - Executive Chairman & Chief Scientist [99]

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Well, we're not only under g, I'm talking about the ability to provide precision time in production quantities and there are very, very few worldwide companies that have that ability.

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Unidentified Participant, [100]

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All right. Are you the only U.S. one?

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Martin B. Bloch, Frequency Electronics, Inc. - Executive Chairman & Chief Scientist [101]

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No. There is -- we're the best, but there is another 1.5 that are still operating in the United States, but we consider ourselves considerably advanced in the performance, especially, when it comes to providing timing on to a dynamic environment. We're best in the world.

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Unidentified Participant, [102]

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What about the price because in the last conference call, you said that they are still price-sensitive?

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Martin B. Bloch, Frequency Electronics, Inc. - Executive Chairman & Chief Scientist [103]

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When they need performance, price goes sideways. For this class that are required for moving platforms like remote pilotless vehicles, airplanes, helicopters, ships, performance is #1 and price is #2.

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Unidentified Participant, [104]

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And final question, the new backlog since the end of this quarter, you said 2 number. I know you got the $8.7 million contract. Was there something else in that because you said, I think, $10.6 million. Was there another backlog or maybe, Stan, can you...

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Martin B. Bloch, Frequency Electronics, Inc. - Executive Chairman & Chief Scientist [105]

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Stan?

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Stanton David Sloane, Frequency Electronics, Inc. - President, CEO & Director [106]

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I didn't hear the question. The $10.6 million is as of the end of the first quarter.

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Unidentified Participant, [107]

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$10.6 million as of the end of that, that includes $8.7 million.

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Stanton David Sloane, Frequency Electronics, Inc. - President, CEO & Director [108]

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No.

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Steven L. Bernstein, Frequency Electronics, Inc. - CFO, Secretary & Treasurer [109]

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Yes.

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Unidentified Participant, [110]

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One yes, one no?

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Stanton David Sloane, Frequency Electronics, Inc. - President, CEO & Director [111]

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Well, Steve is going to...

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Steven L. Bernstein, Frequency Electronics, Inc. - CFO, Secretary & Treasurer [112]

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No, no, he was asking that $10.7 million includes the $8.7 million contract plus others.

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Unidentified Participant, [113]

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Yes. The $10.6 million includes everything. Look, I think you said $10.6 million or $10.7 million includes everything.

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Stanton David Sloane, Frequency Electronics, Inc. - President, CEO & Director [114]

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You're talking backlog?

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Unidentified Participant, [115]

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Yes.

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Stanton David Sloane, Frequency Electronics, Inc. - President, CEO & Director [116]

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So that's the current backlog.

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Unidentified Participant, [117]

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Since the end of the quarter.

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Stanton David Sloane, Frequency Electronics, Inc. - President, CEO & Director [118]

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That would include the bookings that happened in the second quarter.

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Unidentified Participant, [119]

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Yes, backlog. All right. So we've the $35 million plus the $10.6 million where we did so far this year -- this quarter and the last couple of months is you have to take out.

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Steven L. Bernstein, Frequency Electronics, Inc. - CFO, Secretary & Treasurer [120]

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Yes. So the numbers we reported, the $35 million doesn't include anything for Q2. It's only that Q1 number for July.

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Unidentified Participant, [121]

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Yes. All right.

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Steven L. Bernstein, Frequency Electronics, Inc. - CFO, Secretary & Treasurer [122]

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We'll give you an update for Q2 next time.

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Unidentified Participant, [123]

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I think you talked about 3 out in the last 6 weeks.

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Steven L. Bernstein, Frequency Electronics, Inc. - CFO, Secretary & Treasurer [124]

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Thanks, Dan. He's the press release expert in the company.

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Unidentified Participant, [125]

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Stan, are you going to be planning on putting out any more?

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Stanton David Sloane, Frequency Electronics, Inc. - President, CEO & Director [126]

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We'll put everyone that is worth.

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Operator [127]

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(Operator Instructions) We will go next to David Starkey with Morgan Stanley.

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David L. Starkey, Morgan Stanley & Co. LLC - Senior VP, Financial Advisor & Senior Portfolio Management Director [128]

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This is for anybody that can answer. I think the question I have was on the engineering cost in the quarter that you'd kind of alluded to some technical issues with some of these things. Can you give a little more detail on that? Is this permanent extra cost? Or these work in a way through something like that?

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Martin B. Bloch, Frequency Electronics, Inc. - Executive Chairman & Chief Scientist [129]

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This is working through major performance issues. We are pushing the envelope all the way. And sometime -- and all of this are our future products. So we have to solve the problems as they come up. And we've solved so far in the history of Frequency Electronics, we delivered on every project we have ever undertaken. So we're pushing the envelope, they give us more capability and make us more competitive, especially, in the dynamic environment.

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David L. Starkey, Morgan Stanley & Co. LLC - Senior VP, Financial Advisor & Senior Portfolio Management Director [130]

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So these costs could continue a few more quarters? Or is it something that you think you work through sooner?

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Martin B. Bloch, Frequency Electronics, Inc. - Executive Chairman & Chief Scientist [131]

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I think that our -- I think there'll be -- this shouldn't dramatically change, right? Stan?

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Stanton David Sloane, Frequency Electronics, Inc. - President, CEO & Director [132]

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It'll improve over time, but I think we will...

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Martin B. Bloch, Frequency Electronics, Inc. - Executive Chairman & Chief Scientist [133]

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I don’t know of the next quarter.

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Stanton David Sloane, Frequency Electronics, Inc. - President, CEO & Director [134]

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We're not quite through the development on a couple of these key programs.

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David L. Starkey, Morgan Stanley & Co. LLC - Senior VP, Financial Advisor & Senior Portfolio Management Director [135]

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Yes. As your sales pick up, though obviously that gross profit margin will rise again overall.

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Stanton David Sloane, Frequency Electronics, Inc. - President, CEO & Director [136]

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Yes.

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David L. Starkey, Morgan Stanley & Co. LLC - Senior VP, Financial Advisor & Senior Portfolio Management Director [137]

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Okay. And you had about $23 million in inventory in the latest numbers here. It looks stable from last time. But is that all 100% usable inventory that we don't have a write-off coming or anything?

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Steven L. Bernstein, Frequency Electronics, Inc. - CFO, Secretary & Treasurer [138]

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No, that includes the reserve, that's a net number. So we -- yes, that's the net number. We've looked at it, and we believe it's good.

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David L. Starkey, Morgan Stanley & Co. LLC - Senior VP, Financial Advisor & Senior Portfolio Management Director [139]

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Okay. Great. And one other small window. I noticed about 25,000 more shares in the share count. Was that an award or something that occurred in the quarter?

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Stanton David Sloane, Frequency Electronics, Inc. - President, CEO & Director [140]

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The option that I have provided.

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Steven L. Bernstein, Frequency Electronics, Inc. - CFO, Secretary & Treasurer [141]

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Its option, it's treasury, little things that added up to, I guess.

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Operator [142]

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We'll take our next question from [Michael Cooper], a private investor.

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Unidentified Participant, [143]

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So my first question is around the gross margin, and there was a note in the news release that some of the R&D expenses compressed the gross margin. Can you tell me how that works because I'm not normally thinking about R&D expenses being in the cost of goods sold line?

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Stanton David Sloane, Frequency Electronics, Inc. - President, CEO & Director [144]

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No. There is no research and development in the COGS. Research and development increase quarter-over-quarter or quarter over the previous year. The margin is in fact...

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Unidentified Participant, [145]

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I think there was a comment in there that the gross margins were compressed because of new technical development.

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Steven L. Bernstein, Frequency Electronics, Inc. - CFO, Secretary & Treasurer [146]

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Yes, correct. Like Martin said, and we said in the press release that we're pushing state-of-the-art technology. So that -- there is work we're doing extra engineering that's in the COGS line is also R&D increased almost $700,000 as well, but that's not in COGS.

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Unidentified Participant, [147]

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Yes, I saw that.

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Martin B. Bloch, Frequency Electronics, Inc. - Executive Chairman & Chief Scientist [148]

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I think I can give you some color on the demand involved. During the Second World War, we were happy to bomb a town. As goes on, the need was to attack a house. Nowadays, we want the accuracy to put it into a window. And that requires enormous amount of precision on our clocks and also to make them immune from environmental effects and that's the development to improve their accuracy and improve their accuracy on the dynamic environment. That's the major investment that we're making.

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Unidentified Participant, [149]

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Okay. My confusion is around where it's it sitting as opposed to increasing your R&D line by $700,000, I would have thought you would have increased your R&D line by whatever that number is, the compressed, the gross margins?

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Stanton David Sloane, Frequency Electronics, Inc. - President, CEO & Director [150]

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Let's make a distinction between the R&D costs and developmental costs, which are contract related. We have contracts that have nonrecurring engineering costs for development as part of the contract, that's totally separate from what's called internal R&D, which Steve explained the accounting on that. Those are 2 different things. Sometimes, we spend money on the total development for products that are perhaps generic. Those we get charged to internal R&D. When we're doing work on a specific contract, that's typically charged to the contract.

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Unidentified Participant, [151]

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Okay. Okay. And my second question is around your news release on the VPXTR6000 and that new product line. And I was looking into that a little bit, and I was reading some stuff on what the U.S. military is looking for and part of that, I think your new product line answers their requirements for open source systems. And I think your system there is open source. Can you tell me if I'm right there? And is open source a new emerging trend in bidding for government contracts? And is that open source, is that on the software side?

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Stanton David Sloane, Frequency Electronics, Inc. - President, CEO & Director [152]

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Yes. Typically, I think, open source is software. The government is pushing that. The VPX, of course, is a standard VPX-VXR standard format -- physical format. So the units are compatible with anybody who has sort of that standard form factors in electronics.

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Operator [153]

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Okay. Mr. Bloch, there appears to be no further questions at this time. I'll turn the call back over to you for any closing comments.

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Martin B. Bloch, Frequency Electronics, Inc. - Executive Chairman & Chief Scientist [154]

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Okay. I want to, as usual, express the thanks to our stockholders and to all the employees of Frequency Electronics that are wearing hard to produce new products and future profitability. Thank you all. Have a good day.

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Operator [155]

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Thank you. Ladies and gentlemen, this does conclude today's teleconference. We thank you for your participation. You may disconnect your lines at this time, and have a great day.