Ladies and gentlemen, thank you for standing by. Welcome to Comtech Telecommunications Corp. First Quarter Fiscal 2013 Earnings Conference Call. [Operator Instructions] As a reminder, this conference is being recorded Friday, December 7, 2012. I would now like to turn the conference over to Ms. Maria Salerno of Comtech Telecommunications. Please go ahead, ma'am.

Thank you, and good morning. Welcome to the Comtech Telecommunications Corp. conference call for the first quarter of fiscal year 2013. With us on the call this morning are Fred Kornberg, President and Chief Executive Officer of Comtech; and Michael Porcelain, Senior Vice President and Chief Financial Officer. Before we proceed, I need to remind you of the company's Safe Harbor language. Certain information presented in this call will include, but not be limited to, information relating to the future performance and financial condition of the company; the company's plans, objectives and business outlook; the plans, objectives and business outlook of the company's management; and the company's assumptions regarding such performance, business outlook and plans are forward looking in nature and involve certain significant risks and uncertainties. Actual results could differ materially from such forward-looking information. Any forward-looking statements are qualified in their entirety by cautionary statements contained in the company's Securities and Exchange Commission filings. I am pleased now to introduce the President and Chief Executive Officer of Comtech, Fred Kornberg. Fred?

Thanks, Maria. Good morning, everyone, and thank you for joining us on this call. Despite difficult market conditions, we reported solid first quarter results of $91 million in revenues and a GAAP diluted EPS of $0.36. Our first quarter results included pretax net charge of $800,000 related to a restructuring plan to wind down our microsatellite product line and also includes a pretax benefit of $2.4 million related to a change in fair value of the earn-out liability associated with the acquisition of Stampede Technologies, Inc. Our adjusted EBITDA for the quarter was $18.5 million. Although our long-term growth plans have not changed, we believe that the impending sequestration deadline and the looming fiscal cliff have resulted in increased uncertainty throughout our customer base. As such, we now believe revenues in fiscal 2013 will be in the range of $350 million to $365 million and GAAP diluted EPS will be in the range of $1.26 to $1.34. Our adjusted EBITDA is expected to be in the range of $65 million to $68 million. In light of our expectations of continuing solid operating cash flows, our Board of Directors approved the dividend for our second quarter of fiscal 2013 of $0.275 per common share. This dividend is expected to be paid on December 27, 2012, to stockholders of record on December 17, 2012. To date, we have paid out approximately $52.3 million of dividends over the past 9 consecutive quarters and continue to believe our dividend program is an excellent way to return capital to our stockholders. In addition, our Board of Directors authorized a new $50 million stock repurchase program, which will be effective upon the completion of our current $250 million stock repurchase program. And as of today, we have $61.3 million available to repurchase our common stock. At this point, let me turn it over to Mike Porcelain to provide a brief overview of our first quarter financial results. Mike?

Thanks, Fred, and good morning, everyone. I'll walk you through the Q1 results, and as I normally do, I will provide some additional commentary on our expected financial results for fiscal 2013. During Q1, we generated revenues of $91 million, of which 43.4% were for U.S. government end users, 43.1% were for international end users, with the remainder being for domestic commercial end customers. Let me provide some color on sales by segment. Net sales on our telecom transmission segment were $53.3 million in Q1 of fiscal 2013 as compared to the $56.8 million we achieved in Q1 of last year, representing a decrease of 6.2%. This decline is attributable to lower sales of our Satellite Earth Station products, which were partially offset by slightly higher sales in our over-the-horizon microwave system product line. During Q1 of fiscal 2013, our Satellite Earth Station product line was negatively impacted by reduced spending by the U.S. government, primarily as a result of budget pressures and the impending sequestration deadline, as well as continuing overall challenging global business conditions. These adverse conditions have continued into our second quarter of fiscal 2013, and we do not expect to see meaningful improvement until the second half of fiscal 2013. Ultimately, we do expect business conditions to improve. As such, we expect Satellite Earth Station sales to increase slightly in fiscal 2013 as compared to the full year of fiscal 2012. Sales of our over-the-horizon microwave systems increased slightly during Q1 of fiscal 2013 compared to last year and reflect the benefit of shipments related to orders for our Modular Transportable Troposcatter Systems or MTTS, as well as our performance on our 3-year $55 million contract to design and furnish a telecommunications system for use in the North African government's communications network. Although future orders are…

Thanks, Mike. I'd like to provide a brief update on each of our core product lines, and then we'll go into a question-and-answer period. I'll start with the telecommunications transmission segment, which is the backbone of our current business. Although total revenues in this segment decreased by approximately 6% from the first quarter of last year, the decrease is primarily the result of the weak macro level economic environment worldwide, as well as the virtual paralysis in U.S. government spending. Generally speaking, we can say that we do not believe we're losing market share, and we clearly remain the undisputed leader in both the Satellite Earth Station equipment and over-the-horizon microwave system markets. Satellite Earth Station product bookings in the first quarter of fiscal 2013 was softer than we had expected. Having said that, we do see some catalysts that should make bookings in the second half of fiscal 2013 stronger than the first half. On the international front, we believe softer bookings are primarily the result of delays in programs and projects. Our products are still the key enablers in making satellite networks more efficient in addressing severe bandwidth shortages. When new cellular networks are being rolled out, satellite for backfall is the preferred solution to moving voice, video and data back to central switching stations, and we remain the supplier of choice in providing maximum efficiencies to our broad customer base. On the U.S. government side of the Satellite Earth Station product line, the ongoing paralysis in Washington continues to make the receipt of orders a challenge. We were hoping for some additional clarity once the presidential election was over, but worry about the election has now been replaced by panic about the fiscal cliff. Despite that, we continue to be bullish as far as long-term demand for…

[Operator Instructions] We'll take our first question from Chris Quilty with Raymond James.

Couple of questions. First of all, on the telecom business, can you remind us what the split between -- I'm sorry, not on telecom, but specifically on the Earth Station product line, what the mix is between commercial and government?

The business is mostly -- from an international perspective, we don't really put it out for competitive reasons. But you could assume it's more than half of the business is on the international side.

Okay. And what are you seeing in there competitively, either in the SCPC market or alternative technologies? Any changes that you've seen in the last 6 months to a year?

I don't -- Chris, I don't think we see any changes as such. I think we just see just the market stall. As I'd tried to point out, we're not losing any contracts. They're not going to other technologies. The market just seems to be stalled. And so we still have the same market share, but we just don't have the dollars.

Yes. And Chris, just to put some further comments around, the big slowdown that we saw in Q1 was really on the U.S. government side. That's where -- they're just down significantly versus Q1 of last year. Our international business, for the most part, if you remember how strong it was last year, it was up double digits in our first quarter versus 2011. It's basically flat in our Q1, but it's tough out there.

Okay. And any progress to announce on the recent relationship with Harris CapRock?

Not really. Nothing's changed. The program is going forward on a schedule basis, so everything is fine.

Okay. You also mentioned, I think, that you got your first government order for Carrier-in-Carrier technology, and I think you've had that deployed for 3 or 4 years in the commercial sector. Can you comment on why it's taken this long for the government to adopt the technology?

Yes. This is really nothing new, we had the same problems, I guess, on the international side. As you know, the telecommunications industry and specifically also the government is really slow to change to a new technology. And so it was just a normal, let's say, length of time that you market it and you convince the government or the international side that the product has certain advantages over, let's say, a competitor's product. Specifically, what I mentioned today was just this past couple of weeks, we did finally receive certification of our -- of 2 of our modems using the Carrier-in-Carrier technology. That is really the key effort. The government does require certification of its products to be used in major programs. And although we had some sales to, let me say, to government 3-letter agencies, this will allow us sales into major U.S. Army and U.S. Marine Corps programs.

Yes. And I think for your commercial customers, the adoption of that technology was driven by return on invested capital that could range in a matter of months.

Right.

Does the government think the same way? Or is this probably a traditional slow government procurement process?

Well, it's always, as you know, the government works in its fashion. I think they do appreciate the payback on this technology, and obviously, they're beginning to use it. As you know, government bandwidth for satellite communications has always been an issue for the government. So one would have expected that this technology would have been, I guess, bought a little bit earlier, but it is what it is.

Okay. And can you also comment or estimate on -- of the 250,000 deployed modems, where you are in the upgrade cycle of modems deployed with the Carrier-in-Carrier technology?

I'm -- I really don't think we want to mention the details in that area. But we are probably less than -- certainly, less than 30% of the way there.

Okay, great. Switching gears on the RF business. Can you remind us of what your status is on the WIN-T Increment 2 program?

Yes. On the WIN-T Increment 2 program, we're working with Rockwell Collins, as you know. They are the supplier for the WIN-T Increment 2. And we have our products with Rockwell qualified, and in certain of our products, we are the sole supplier.

Great. And finally, on the mobile data business. I think you had previously forecast around $27 million of revenue in that segment. You had obviously a strong Q1. Is it still fair to assume only around $6 million to $7 million of revenue remain per quarter through the balance of the year?

Chris, I'm not sure we ever gave any specific color on the mobile data com revenue. But it is fair to assume that our -- given our Q1 revenue of $12.3 million, that included $3.5 million worth of mobile satellite transceivers for which we don't have backlog. Q2, Q3, Q4 sales are going to be down from that number. If you look at what we have in backlog and as well as our expectation of the renewal of the BFT-1 optional performance period, you can kind of back into your own revenue number.

Okay. And given the lack of orders there, I know in past years, the telecom business benefited from the manufacturing synergies in the factory in Arizona. Is it fair to assume that margins in the telecom business are now sort of decoupled from the mobile data business and stand on their own?

Oh, yes, very much so.

And what -- are you still looking for sustainable margins in the low-20s in the telecom?

Yes.

Okay. And finally, on the mobile data business, I think, with the waning of the MTS and BFT business and now the microsatellite business gone, I think when you originally lost the MTS, BFT contracts, you had indicated that you thought there were commercial opportunities for that technology. Is that still part of the plan?

It's still part of the plan. As you can appreciate, these things take a long time to develop. We did just recently with a NATO program for a similar technology, as I think we released that information. And so given the economy, I think the expectation is that we will be booking some programs in the future.

Okay. And Mike, can you give us the backlog by segment?

Sure, Chris. Our telecom backlog as of Q1 was $75.8 million, RF amplifiers backlog was $43.7 million and our mobile data communications backlog was $13.8 million.

And we'll take our next question from Joe Nadol with JPMorgan.

Just digging in a little bit more in the Satellite Earth Station area and the government demand in particular. Is it fair to say -- or do you believe that the length of time it took for certification that you've now received was a factor in delaying orders or are those issues not really related?

No, they definitely are related, as I tried to indicate. Where certification is not a problem, for instance, just as an example, for the 3-letter agencies, we have started selling that Carrier-in-Carrier technology a bit earlier. But on the other hand, for major programs, certification is a major issue. So I think we're very happy that this finally came through.

Okay. And then the orders that you're looking for, not this quarter but in the second half, from the U.S. government, are those largely DoD orders? Are they civil agencies? Are they lots and lots of one-off orders or are there 2 or 3 kind of the big lot orders you're expecting? Just if you could help characterize those a little bit.

I think if we're talking about the telecom segment, I think it's throughout -- it's really throughout the DoD agencies, as well as international, obviously.

Okay. And then you had indicated last quarter that share repurchase wasn't going to be -- you didn't intend to make that a major focus, and then now, you've reupped the share authorization here. Is that a reflection of -- simply of the stock price or is there something else with regard to the M&A outlook that's driving that?

I think I certainly don't remember, but I didn't think that I mentioned that we were stopping the buyback purchase program. I think what I intended to say at least was to -- that we were taking a breather and at this time, not buying anymore. I think we always and our board always discuss future buys of our stock back. Specifically, yes, we do have an acquisition program. But as we all look out there, I mean, we're selling at 4x, 5x EBITDA. Some of the assets out there that we are looking at need to be paid for by 8x to 9x EBITDA. So our stock looks very attractive to us right now.

Okay. And then finally, Fred, just looking at the fiscal cliff and sequestration and all that. I'm sure you guys have a pretty good bead [ph] on which line items in the budget are going to cede. Hopefully, those orders you're expecting to rebound for Satellite Earth Stations in the second half. We have CR as well going on. Is there a certain resolution that you need to this whole situation in the next month or 2 that will enable the critical agencies or critical customers that you're looking at to place those Satellite Earth Station orders? Or is it -- is the money funded in there and you're not really worried about that part of it

Well, the irony of the situation is that certainly, the '13 budget is approved and has moneys in for various programs that we are on. I think it's more or less the paralysis that has set in, in various government agencies where they're really in a mode of not being sure exactly what their future holds. And this is essentially stopping their funding that they have being let go or because they don't know what the future funding is. So I think it's really the paralysis that has become a problem for us. We believe on a future basis that the programs and the telecom products that we supply should not be really affected to a large degree on any funding shortfalls. We believe that telecom is something that the government will spend money on. So I think it's more of the paralysis and when that will finally be overcome and that's by a resolution finally.

We'll take our next question from Mark Jordan with Noble Financial.

Looking at the first quarter telecom group on the operating margin. You had 23%. That clearly was influenced by the clawback, and if you back that out, it looks like you were about 18.5% off margin there. Looking out into the second quarter, is there any mix shift? I mean, to get to the sort of the earnings numbers, it looks like you're implying that you'd be down potentially somewhere in the 9% to 10% margin range in this group. Is this just a function of lower sales volumes and fixed overhead driving down that op margin? Or is there a mix shift that you see?

Sure, Mark. I certainly don't think our operating margin is going to be below 10% for Q2, so I think that's a little too extreme. But yes, you are right, 18.5% or so in Q1 adjusting for the Stampede valuation. There are some big large mix issues that did occur in our telecom segment. As you know, our over-the-horizon microwave product line, when it generates significant revenue, does bring us pretty high contribution margins. And we did shift a significant amount of MTTS sales, again, that comes in at high contribution margins on the operating income line. We're not expecting anything to come in until Q4, so that will really be a big mix change to the segment.

Okay. And then back to the comments of longer-term in the telecom group being 20%-plus normalized operating margins. Is it just sort of generically you've got to be in the low-$60 million per quarter range to obtain that level given a normal mix?

For the telecom segment?

Yes.

I mean it certainly is a reasonable number on average.

Okay. Final question, I know you'd had in the past some relatively modest amount of inventory exposure relative to the -- your older MTS hardware. Has that been worked off or what is the remaining exposure there?

It's virtually none. I don't -- I would certainly say any inventory we have at this point related to the BFT-1 and MTS programs is certainly insignificant and immaterial.

We'll take our next question from Richard Valera with Needham & Company.

A couple of questions, BFT, MTS as it relates to some of the risk language in the Q. First on the sustainment contract. Is there any reason to assume that it's other than routine to get the prices finalized for that? I mean, you sounded pretty confident about it in your prepared remarks, but you had some risk language in there that suggested that there might be some risk of that not happening.

Well, Rich, we've had that language for several quarters since we've had the order. I mean, that was just the nature of the last-minute negotiations. I mean, you might have to go back to the quarter that we first got the contract, but really the government had some difficulty figuring out exactly what contract it was and at the end of the day was all rushing around to finalize the current BFT-1 contract. But in our case, we just think it's a matter of finalizing everything associated with the post-order audit from the BFT-1 program. And they're just taking it step by step, and we're just working through. But there's not anything unusual that we know related to the current set of contracts, and we've been able to finalize stuff. It's a cost-plus type of a contract, so we kind of have a good sense of what it's going to be. But given the SEC filing, we put in the cautionary language as we should appropriately do so.

Fair enough. Then similarly, on the DCAA exit audits, you haven't mentioned it, so I assume you're probably expecting that to be pretty routine as well. But again, some language in there that suggests you could end up owing many -- money. Any reason to suspect at this point that you would end up owing money on that exit audit with -- for MTS, BFT?

Rich, I don't know if you had caught up in our 10-Q. But in November -- late November of 2012, we actually received a, what we would consider, positive notification from the DCMA that the DCAA had actually determined that our BFT-1 large contract had the commercial item pricing in there. And so that notification did occur in late November. We view that as a pretty positive development. Notwithstanding that, the DCAA has to complete their audit, finish issuance of report. We're not privy to what their findings are yet. But we do think that the first piece was a very successful resolvement for us that our mobile satellite transceivers were commercial. And that's what we always thought, and that, we thought, was a large piece of what they were looking at. We're expecting to hear from them within the next quarter as to the resolvement of the remaining part of the audit, and obviously, we just can't predict it. We just don't know what they have, and certainly, anything that we have, we'll report to you.

That's great. And on the over-the-horizon, just wondered if you could give a little color. It sounds like you have a great opportunity for another major follow-on with your North African customer. Wondering if you'd give any color on what might make that not happen. It sounds like you're reasonably comfortable that happens maybe in your fiscal fourth quarter. What are the potential obstacles? And then, any color on some of the additional deals? It sounded you had other stuff in the pipeline perhaps beyond that very large follow-on. Just any other color on that OTH pipeline, if you will, of potential orders.

Obviously, Rich, you know we're kind of reticent to predict timing on the over-the-horizon products and programs. However, what we can say about the North African situation is that our U.S. prime contractor has now signed an additional phase with this end customer and has actually provided that customer performance bonds, and usually, that's the next step. And then the final step is that the end customer provides the U.S. prime with a downpayment. Their expectation is for the downpayment to occur in a matter of the next 60 days. What could happen? Things can always get delayed for one reason or another. Specifically, the only worry that I could see out there is what's happening in the Mid East, specifically in Egypt. That could spill over to our North African customer by giving them some reason to delay providing a downpayment. But the contract is official. The bonds are in place.

We'll take our next question from Tyler Hojo with Sidoti & Company.

First, thanks for providing the additional color on the JCREW program. Was just wondering if your customer had given you any sort of visibility in regards to when volumes could potentially start on that program.

Well, as I tried to mention during my presentation, the program had run into some technical difficulties, specifically on the software side. As I also mentioned, it's not our piece of the product line that we supply. We've actually finished our development program fully and qualified. So the software technical difficulties have resulted in kind of a stalling of the program with the U.S. Navy. The customer and the Navy are in discussions of how to solve or resolve this particular problem. This has moved with our expectations, and the funding that was in the palm -- in the government budget programs was originally scheduled for '13. However, it now looks like the program's technical difficulties will probably push it out further where the actual first orders do not look like they're going to happen in '13 and probably will happen in '14. So we've kind of finished our portion of it but -- and we really don't know the extent of the technical difficulties. We just know that the program is on hold.

Okay. That's very helpful. And Fred, another question for you. Just kind of curious maybe if you could discuss some of the challenges or lack there. Basically, what I'm curious about is how do you handle basically running this defense businesses without having a security clearance in place.

I don't think I have a problem as far as security clearances are concerned. We have security clearance on all of our facilities that require it and the people that run it. We have -- we're structured on a subsidiary basis with independent units, with independent presidents running that -- those operations. So as far as clearances are concerned, we've always -- I happen to have had the clearance because of many, many years where I actually was involved in some of the operations. But for instance, our Board of Directors runs a company, and they don't typically have clearances. And so there are exclusions that are fine with the U.S. government as long as any specific sensitive information is not brought to the attention of either the Board of Directors or in this case, myself. So my security clearance has not been taken away. It's just been suspended for the time being.

Tyler, just to put some financial commentary around the number of contracts we have that require any type of security clearance for the company in aggregate is really immaterial. And that's sort of why we don't even disclose it in the sense of never have talked about it. And Comtech Telecom, the parent corporation, to Fred's point that he just made, has always been what's referred to as an excluded parent. So therefore, again, it was never really required by the government and there's not a contract that does require Fred's specific security clearance.

Mike, would you care to provide the percentage of contracts that do require a security clearance? You said it was small. But could you maybe give a little color on that?

Less than 10%.

And we'll take our next question from Tim Quillin with Stephens, Inc.

The revenue -- the quarter-to-quarter revenue decline of 15% in the second quarter, I understand that the -- how much the mobile data segment would decline. But is there -- are there different rates at which the telecom transmission business would decline versus the amplifier business? In other words, do you expect kind of the steeper decline to come in the telecom transmission business?

Yes. It's -- the way I would describe it's just a blend. I mean, we do see 15% down quarter-to-quarter, and it is in all 3 of our segments. So I would just leave it at that. And given that it's very difficult to predict a specific order, our RF segment, as you know, is only $25.3 million. So an order that is a $2 million order that could shift 1 quarter-to-quarter, could swing the actual percentage pretty high. So just assume it's in all 3 segments.

Right, okay. And then on the MTTS opportunity that you expect to come in and drive a relatively strong fourth quarter in shipments there. Can you help us size that up and how that might be a swing factor in the guidance?

We did ship, and I use the phrase, a significantly large amount in Q1. We are expecting almost double the amount by -- to ship in Q4. But I don't want to put a number on that.

Okay. Well, and maybe just qualitatively, what is the risk to the new guidance if an order like that, or maybe if you can highlight anything else that potentially could slip?

Well, certainly orders that we expected in Q4, of which that one is, could slip. And if nothing else change, yes, that would impact our guidance. But at the same time, we're trying to look at all different aspects and things could happen, pluses or minuses. Our Satellite Earth Station business could get a little bit better in terms of the U.S. government’s stuff freeing up. So when you add it all in, we try to give you the best shot that we have, but certainly, the MTTS orders that we're expecting in Q4 are a big swing to our outlook.

Okay. Are there any other big chunks like that or would that be kind of the biggest one that we should think about?

In terms of orders, that would be. But as we also mentioned, we are expecting the optional performance period on our MTS, BFT-1 sustainment contract to be exercised in March, and we feel pretty good about that.

Right, right. And then, Mike, I think you had said that in the second quarter, where the convertible note would be anti-dilutive, then we should back out those shares and also lower the interest expense. Is that right?

Yes. I mean, basically if you go to our 10-Q, you just look at the numbers that we used in the anti-dilutive numbers, that dilutive share calculation, and just remove them from the calculation.

But that would be the GAAP number or the GAAP share count for 2Q?

Yes. Effectively, assuming at the current stock price that we're at, you could kind of look at our dilutive shares being pretty close to equaling our basic shares.

Right, right. And then in the mobile data business, outside of BFT. I think BFT was something like $10 million in revenue in the quarter, and so you had $2.3 million of other revenue. What does that consist of?

We have a small business that is chunking along, called the Sense [ph] business. It's similar to the government tracking business but on a commercial basis. And it's small right now, but it is growing.

Okay, okay. And then just lastly, on the buybacks, is there a certain net cash threshold that you would think about? Or so in other words, would you think about the $200 million convertible note as debt and then try to have a cash balance that's meaningfully above that so that you can support your business and letters of credit and things like that?

No. Right now, obviously, we have more than enough cash to pay off that note should that happen and it's not converted or -- and also, the buyback, even some more shares in the future. So I think we certainly have sufficient cash to not to worry about it until the notes are due, I guess, roughly in May 14. So I think we'll make the decision appropriate at that point.

Okay. Well, maybe just the easiest way to try and ask that question is, is there a -- how low of a cash balance would you want to maintain or how big of a cash balance would you want to not to go lower than?

I think that's difficult for us to tell you at this point because we don't know what the business base will be at that point in time. But certainly, we also have a $100 million credit line. So I think it's a matter of looking at the business at that point in time.

And I would like to turn it back to the company for any closing remarks.

Okay. I guess I would like to thank everyone for joining us today, and we look forward to speaking with you again in March.

This does conclude today's teleconference. You may now disconnect. And have a great day.