Good day, and welcome to the Energy Focus Second Quarter 2016 Earnings Call. Today’s conference is being recorded. At this time, I would like to turn the conference over to Ms. Marcia Miller. Please go ahead.

Thank you, operator. Good morning, everyone and thank you for joining us for Energy Focus second quarter 2016 earnings conference call. Today, James Tu, our President and CEO, and I will report on our results for the quarter. Michael Port our Corporate Controller who will take up as Interim CFO is also with us today. The news release and our quarterly report filed on Form 10-Q have been posted to our website under the Investors Section. As a reminder, today’s discussion will include forward-looking statements, including predictions, expectations, estimates or other information that might be considered forward-looking. These forward-looking statements are subject to numerous risks and uncertainties. We encourage you to review our most recent filings with the SEC including our 10-Q and 10-K for a complete discussion of these factors and other risks that may affect our future results or the market price of our stock. We are not obligating ourselves to publicly release any revisions to these forward-looking statements in light of new information or further events. Now, I’d like to turn the call over to James.

Thanks Marcia and good morning, everyone. As you have seen from our press release, the second quarter of 2016 has marked with both challenging financial results and continuing progress in stabilizing our military business while growing our commercial business. Our sales came in below our guidance due to a combination of factors that we believe are transitional in nature. First, our military sales at $3.8 million were roughly equal to our first quarter military sales relevant than the higher levels we originally expected. During the quarter, we undertook a necessary and strategic move to renegotiate our contract with our exclusive distributor. So they are now required to maintain certain level of inventory. By doing so, with the continuing recovery of purchases from the navy ships, we can gradually reduce their inventory to a level that is expected to provide more stable quarterly military sales for the remainder of the year. Second, during the process of augmenting our logistics operations, we've discovered an operating error that resulted in some product being manufactured in a manner that did not follow our internally determined process for this product. As we said in the press release the error surrounds mainly a tender for our internal manufacturing process requested by some customers and do not relate to any safety or performance issue. We voluntarily took the action to income-affected customers about the issue, which resulted in taking back products and issuing credits to these customers for approximately $814,000. We have evaluated and are implementing improvements to our sales, supply chain and manufacturing processes. We are also enhancing our communications with our customers regarding their purchase requirements and are implementing internal processes to ensure that our inventory fulfillment is in line with those needs. Third, a few of our commercial projects was approximately $1 million mainly…

Thank you, James. Net sales for the second quarter were $7.1 million down 56% compared to the second quarter of 2016. The current year's quarter included a reduction in revenue of $814,000 to assess the return of commercial products and related discount and product sold during the fourth quarter of 2015 and the first quarter of 2016. We determine that certain shipments during those timeframes did not comply with our process to assemble finished products in accordance with the applicable standards for those orders. The operational errors did not relate to safety or quality of the product, but to conform with the manufacturing standards represented with respect to the product. We also recorded an adjustment to inventory and cost of sales for $221,000 for the return product and to write down the value of products remaining in inventory at June 30, 2016, to the applicable standard cost. In total, the adjustment resulted in an increase to our net loss by $593,000 or $0.05 per share for the quarter. We have evaluated and are implementing and prudent to our sales, supply chain and manufacturing processes, will also enhance in communication with our customers regarding their purchasing requirement and have implemented internal processes to ensure that our inventory performance is in line with those needs. We have estimated an amount of the potential credits for the remaining effective customers and determine that the impact is not likely to be material. Net sales of our military maritime products decreased $10.3 million or 73% compared to the prior year's second quarter. As we said in our press release, we've strategically amended our contract with our military product distributor, so we can obtain and maintain on more stable quarterly sales run rate of our military imperative products for the rest of the year and Energy…

Yes indeed. [Operator Instructions] And we’ll take our first question from Colin Rusch from Oppenheimer. Please go ahead

Thanks so much guys. As you look at the guidance for the third quarter and the new contract with your distributor, how much of that guidance is actually sell in to get inventory levels up to the range that you need them to be in, offer them to have them minimum.

Well, there was a level of inventory that they need to maintain over the course of the contract and we have eliminated that and instead we're selling them a fixed number in the next two quarters and so to help them remove the inventory as much as possible. So that is really the strategy as opposed to requiring them to maintain that inventory.

Okay. That's actually helpful in terms of clarity…

Yes.

Go ahead.

No, I was going to say that the whole strategy is to start stabilizing the whole military sales. So it wouldn't be a volatile factor of quarterly results. As we have said in the reporting that we're still the only approved provider for the U.S. navy shift to retrofit that for the plan. So the total market is still the same. It has never changed over the past few quarters, our sales fluctuate. So the strategy is to resolve that inventory requirement. So we wouldn't be in the fast -- same type of situation. These are same situations going forward.

Perfect. Okay, and then with this manufacturing glitch or excursion, can you talk little bit about how you found it and how quickly it took to resolve?

So I can talk a little bit about it and Marcia can elaborate but, we were implementing a barcode system of the past few months and we found that there was some inventory mismatch, which is how we found that some product was not being used and some product were used more and that’s where we discovered the situation. So, obviously our protection capacity has grown multiple times over the past two years and this is way we are implementing the bar-coding system and this is where we found the problem. So, as we said, we voluntarily reach out to the customers and they are all now happy about us reaching out to them proactively and each have been gradually resoled.

So just that I understand that this is not an actual defect with the product or the manufacturing process, it was really about an inventory management system.

You can say that, if the manufacturing process glitch, it's not about as we said, has nothing to do with safety or performance of the product.

Okay. Perfect, I think that’s it. I'll take the rest of it offline. Thanks so much.

Thanks Colin.

And our next question comes from Amit Dayal from Rodman and Renshaw.

Thank you good morning James, Marcia.

Good morning, Amit.

Hi, just a follow-up on this return product situation, I may have missed it. I apologize if I did. This looks like a one-time event is that correct?

Yes, it’s very much a one-time event. As I've said in the script that couple things actually came together in the quarter and we were really -- as we have said and I've said in the past that we are really elaborating the whole not just leadership, the whole company’s execution capability over the past few months and we found some problems and we tried to adjust them as quickly as possible. Really if you look at the fundamental side of our business, the growth momentum, the addressable market side, none of that has changed, everything actually has gotten better, but there are issues that as we grow, we did make some mistakes and the fact that we had to rectify these errors as they came along.

Understood. Thank you. And just trying to dig into the second quarter results relative to guidance, is it that we had the contracts in place to meet the guidance, but we may have that issues in deployment or fulfillment and how should we look at what has transpired?

Yes, I think with the previous requirement we were -- which is high level, a pretty high level inventory requirement for the distributor to be exclusive with us. We have to -- we were expecting more sales because just to feel the inventory minimum level, but we don’t think that is clinical way to develop a stable and steady military business going forward. So took the step to renegotiate with the distributor. So in another words Amit, it’s a pretty simple math, we're currently selling them a fixed number of military interactive product and we're hoping that we should supply more and more higher than that number. So their inventory will be coming down. So we are not subject to -- I'll just speak exclusive relationship with the distributor and held them move the inventory factor.

Right, so just to follow up on that, I guess the way to look at it is you are previously dealing exclusively with this distributor for military sales and now you potentially could work with other distributors who have relationships into the military?

Well that’s a possibility, but the key thing is that we have to help them remove the -- reduce the inventory level so both sides feel better.

Right, understood and your comments around some of the commercial opportunities and contracts you have won especially with this large national wholesaler I guess, what’s the time transfer deployment? Is it order to deploy limited number of stores initially or is it a full time track for the 600 stores.

Yeah, as we mentioned, as I talked about, we already got the initial orders obviously. These institutions are large institutions. So, we do expect them to take a few quarters or even the longer to deploy our product in all their stores or facilities, but I don’t expect this to be three, five year type of projects, but it will be over a certain number of quarters.

Wow, that’s great. I think that's all I have James. I will follow up with you after this. Thank you.

Thank you, Amit.

Our next question comes from Mark Miller from Benchmark.

Just wondering with the expansion of your sales team and the SG&A reporting this quarter, are we still or have we moved beyond a breakeven revenue level of $14 million to $15 million.

We are probably a little bit higher than that now. Obviously we are expecting commercial sales to grow and at some point if it is not growing as fast as we like, then we’d like to see them -- we have to look at our expenses and slowdown a little bit on the expansion of the sales force. By this point we are moving forward in anticipation of continuing incremental commercial sales growth.

I would add that those $15 million breakeven had a higher component of military sales than the current than our current though is based on the change that we made with our distributor contract and as we said, when we changed the mix, the margin changes as well. So that’s the piece of it also.

Great. Thank you.

Thanks Mark.

Our next question comes from Nate Mitchell from FBR.

Hi, thanks for taking my question this is Nate in for Carter. Just was wondering if you could give us an update on the rollout with cause, how is it going and any additional details you can provide there?

Yeah, we haven’t got our next phase. We have retrofit the first about 20 stores. We have not got our first the next phase of the orders, but we believe that on a long term basis, they are still going to be using our product. We don’t have the latest update on the next shipment.

Great. Thank you and then just one more, the new warehouse customer if you could compare or contrast it with cause, is it a similar type of rollout.

It is very different in terms of the facilities, the course are for the stores, part of the stores. For this healthcare service company, it’s for their distribution facilities. We're working on the first four facilities, but they love our products and we expect the rollout to continue and probably accelerate in the next quarter or two.

Great. Thank you.

Thanks Nate.

And our next question comes from Craig Irwin from ROTH Capital Partners.

Hi, good morning and thank you for taking my question James.

Good morning.

So, James, you’ve got a nice cash cushion I guess sitting on more than $25 million in cash, can you say whether or not you would consider strategic options may be acquisitions of adjacent product lines or companies that could be synergistic with what your sales force is doing. And can you may be describe how you prioritize the use of your cash over the next couple of quarter, whether or not getting back to breakeven is your number one priority or if may be you are still prioritizing revenue growth over cash preservation.

Good questions. So the first one is the potential M&A target. We actually look at potential M&A target pretty much all the time. We just haven't pulled on anything yet. I think that the point is that we'll be running in such an infancy stage of adoption for the enterprise market and we just see a lot of demand out there and we're leading the side by our sales force as I've said that in the past, these customers again we only reach out to the market accounts. These are inevitably large companies that will take time to make decision, but also rollout the product, but I think incrementally quarter-over-quarter we are going to start seeing these accounts start to held up and contribute to growth. So that’s our top priority, but if they are impactful technologies we could incorporate into our sales force process and we're definitely looking at that, but that’s just not out top priorities. But to your question we are, we have been looking at technologies. I cannot say that we will, we will not buy a company, a technology to incorporate in the near term because we look at them all the time. We just haven’t found really exciting ones yet. The second question is about the cash use. At this point, I would say that we are still looking at growing the company, growing our brand. We have got pretty exciting and successful progress in these verticals that we focus on and we mentioned about that healthcare of K-12 higher add retail. And so we’re continuing to deploy our sales force and expand our brand building effort in these verticals. Again as I mentioned earlier, if our sales growth is not there or not strong enough, we might need to look at our expansion pace and slow down a little bit if that’s the case. But at this point, we’re expecting incremental growth on commercial sales. This is the time to really own the market in a way because the markets are open up and that’s what the investors expect us to do, to grow the company.

Excellent. Thank you for that. So my question, my second question relates to the military C&I is a great market, it's a huge market, but you've shown the ability to make good money of sales of tubular LED products to military. There is another competitor out there making a lot of noise about intention to participate in this market. Do you still expect to retain all of the tubular LED sales to the Navy or would you now may be consider it a positive outcome to see Energy Focus retain a large share of the sales of tubular LED products to Navy and revenue to be at a higher run rate then what we’ve seen over the last couple quarters? Would you see that as a positive outcome?

Let me try to get to your question and you let me know if I answer your question. As we mentioned in the press release, our penetration rates with the U.S. Navy fleet is now at 35% and the sailors and the mangers at the ships, they love our product. To get through the approval process, testing and approval process, to get the product into the Navy ship is a very lengthy one and that is showing when we have 35% market share penetration rate. I just couldn’t see. Again I’m not going to predict that there is now competitor, we can never be sure of that. But I think the economics of having for the new competitor to come in and compete with Energy Focus is just not appealing. We just again I think as we indicated, there are some noises I think about having about new competition coming into our space. We just haven’t seen it. We just have not seen it. And we continue to as we mentioned to expand our aggressive efforts, our business development professionals are on shipyard all the time. So, again I just don’t see competition coming in and for the Navy to actually adopt a different product at the stage of the penetration. Now recovery sales run rate, as I've said, we strategically made the decision to start take our military sales that addressable market is still the same, it's still there. In fact if you look back two years ago versus now when we have dramatically higher penetration rate of the market, our positioning is even better than two years ago. Now the key here is you get $10 million out of the quarter or $5 million a quarter, you will get $10 million a quarter for three years or $5 million a quarter for six years. I think from protection, efficiency standpoint and stability of quarterly financials we would like to stay at a lower number, but it will be a much more sustainable level.

Thanks again for taking my questions.

Thanks Craig.

[Operator Instructions] And we’ll take our next question from [Ken Kiora] a Private Investor.

Good morning or good afternoon, excuse me. I’d like to focus in on the commercial side, I see that we've got a lot of contact that have been made and trying to understand what is the size of the contract and as things like under that contract there were subset of orders. What is the average size of the contract? What is the average dollar size of each order and what’s the average amount of orders to fill the contract over what period of time?

Hi, Ken we actually don’t -- typically don’t get contracts with the amount of contract last year when we started working with the Cleveland Clinic, that was a contract they have specified that they like buy 250,000 tubular LEDs from us in that contract, but typically most of the enterprises we work with, they started by installing our products in a few facilities after a lengthy evaluation obviously. But once you pass that testing and validation process, we get the first orders to retrofit some stores or some facilities. So there is no, there is usually not a contract but continuing orders to hopefully retrofit all their facilities.

I see and one quick last question is what do you feel is your capacity now see it from in a year from now and what is your ideal capacity without sacrificing delivery time or margin?

Well, we have multiple product lines. Some of the product lines are manufactured or assembled here in Ohio. Some of them are made in Asia. So, we have pretty handful capacities from the whole supply chain at this point. I don’t see capacity constrains as a factor for our growth at this point because over the past year and year and half, we have really build up a very strong supply chain with very strong component and past manufactures in Asia and even in the United Sates. So I don’t see capacity constraint as an issue for us at this point.

What do you think that capacity level is?

At least three fold, quadruple where we are and with…

Thank you.

Thank you.

And it appears there are no further questions at this time. I’d like to turn the conference back over to Mr. James Tu for any closing remarks.

Thank you very much for your time again and interest and we look forward to talking to you in a quarter’s time. Thank you. Have a good day.

And that will conclude today’s conference. We thank you for your participation. You may now disconnect.