Good afternoon. My name is Kuesten and I will be your conference operator today. At this time, I would like to welcome everyone to the Q4 2016 Financial Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. [Operator Instructions]. Thank you. Mr. Mike Paxton, Chief Financial Officer, you may begin your conference.

All right. Thank you. Welcome to this afternoon's conference call to review Intrusion's fourth quarter and year-end 2016 financial results. Also on the call today are, Ward Paxton, Chairman, Co-Founder, President, and CEO; and Joe Head, Senior Vice President and Co-Founder of the Company. Ward will give a business update. I will give the financial results and Joe will go over ongoing projects. We will answer any questions after our prepared remarks. We distributed the release at approximately 3:05 PM Central Time today. A replay of today's call will be available at approximately 6:30 PM Central tonight for a one-week period. The replay conference call number is (855) 859-2056. At the replay prompt, enter conference ID 72178892. A live and archived audio webcast is also available at intrusion.com. Be reminded that during this call, including the question-and-answer session, we may make forward-looking statements with respect to financial results, business strategies, industry trends, and certain other matters. Forward-looking statements are based on management's current expectation and are subject to risk and uncertainties. We may be discussing our current outlook based on our own internal projections for the current quarter and fiscal year 2017. Actual results may differ substantially from internal projections. We are not responsible to update any forward-looking statements. Many factors could cause our projections not to be achieved, including current economic and market conditions and other factors, which can be found in our most recent filings with the SEC, including our most recent Annual Report on Form 10-K filed March 2016 and previous Form 10-Qs. Now, I will turn the call over to Ward Paxton, President and CEO.

Thank you, Mike. Welcome to Intrusion's fourth quarter 2016 conference call. It's good to be with you today to discuss our fourth quarter results and progress. As you know, we have two major product lines, TraceCop and Savant and sales to federal government entities and large commercial customers. We sell our products directly to end users and through large resell partners. Our products address network security issues and are used to identify and locate bad guys who penetrate our customer's networks. Revenue for 2016 ran approximately $1.5 million per quarter. Our federal government business was adversely affected because Congress has not approved the 2017 budget yet. And we have been operating on continued restart in since last October. This makes it very difficult to get new projects funded. The private continuing resolution has been approved until April so that we expect relief then going around. However in the mean time we are selling hard and have some exciting projects that we expect to get funded and the number of projects in our pipeline is growing. We will discuss our sales activities later. But now, Mike Paxton, our Chief Financial Officer, will review our fourth quarter and 2016 annual financial results that we released little over an hour ago. Mike?

Okay. Fourth quarter and annual 2016 financial highlights. Revenue for the fourth quarter was $1.4 million compared to $1.5 million for the fourth quarter of 2015. For the year 2016, sales were $6.1 million compared to $6.8 million in 2015. As you have been following our sales levels were disappointing for us for last year. Gross profit margin was 65% in the fourth quarter compared to 63% in the fourth quarter of last year. For the year, gross margin was 64% compared to 63% in 2015. Our fourth quarter 2016 operating expenses were $1.2 million compared to $1.4 million for the comparable quarter in 2015 and $5.3 million for the year 2016 compared to $5.4 million for 2015. Net loss for the fourth quarter was $0.3 million compared to a loss of $0.5 million fourth quarter 2015 and $1.6 million loss for the year 2016 compared to $1.2 million loss in 2015. And I'll get it back to Ward.

Thanks Mike. Now Joe Head my partner, Co-Founder and Senior Vice President will discuss products, markets and sales activities. Joe?

Thanks Ward. As you all know in our size we only picked a few new large customers to make a big impact on our bottom-line. I have been focused on developing the few new TraceCop opportunities and a new Savant partner. Last year's revenue came from nine TraceCop customers and four Savant customers. A lot of my focus in the last -- in the past year has been developing these new TraceCop opportunities. Working like Ward said, working under continuing resolution is a pain as the CR allows all programs to continue but greatly limits the ability to start new programs. The new programs can squeak through as long as the customer shop only spent 80% or loss of last year's budget on the combination of all old and new programs. Currently I'm waiting on three new projects with DoD to make it way through procurement under the CR rules. One has the money already transferred, one is supposed to move it today or tomorrow, one is a few weeks before the money moves then a few weeks to put it on our contract so we can start billing. These three, of these three the first two are medium size and the last one is a large size. And each of these three new ones will be funded for a whole year initially. I do proof of concept TraceCop deliveries for perspective customers to show them the value of our work. In addition to three above have an additional seven medium sized projects I'm working with new customers where they've already seen our work and are in -- later in the decision process. They like us, they have a quote, would like to engage, and are working on budget. Of those seven, I judge four of them have already decided…

Thanks, Joe. The new business we're pursuing is clearly exciting and should contribute to revenue growth and profitability. At our current level, expenses and with a gross profit of 65% of revenue, our revenue breakeven point is approximately $1.8 million per quarter. We are all working hard to move back into the black. We thank you for joining our call today and look forward to an exciting year. Mike?

Okay. Operator, can you remind the participants how to queue up for questions?

[Operator Instructions]. Your first question comes from the line of Walter Schenker. Your line is open.

Thank you. Ward, we had a discussion often around for a long time about your willingness or lack of willingness to announce new contracts when there is on. I understand there were issues specifying who the customer is; if that doesn't prevent you from saying I just signed an $800,000 contract? As part of this release you indicated that I believe that you signed $800,000 of business in January --

Yes.

It is now the end of February. Why what is in the announcement in January just stating we signed $400,000 and $200,000 whatever it is so that it's a very reasonable request, Ward and I felt we've come to a lease term agreement that you would start announcing these just in general as they occur?

Well we tend to and make announcements as it's appropriate with respect to the business and with respect to the customers and so forth and we will do that.

[Operator Instructions]. And we have a question from Howard Brous. Your line is open.

Good afternoon gentlemen.

Hi, Howard.

In following up -- how are you all?

Good.

It is good. I would like you to define for all of us materiality; if you had a contract of $800,000 is that material to your business or is it not material to your business?

Well, I mean if we book an order that might not be -- the amount might not be revenue recognized for another 12 months. So just because the order is $800,000 don't mean it's really material.

Anyway materiality would be a project that would generate $400,000 annually.

Have you ever had a fewer?

I don't comment it as a renewal that just keeps the revenue at the current level that's different than a new project.

I get that and I can appreciate that but I want to follow-up specifically on this discussion of contracts because as I had indicated in the past, our communication with you basically is quarter-by-quarter and that's why I'm enquiring as to what a material and event would be that would require you to make an announcement. So you're talking about $400,000 of revenue per quarter, have you ever received a contract in that amount?

Yes, we have.

So you have. So then continuing the comment earlier that you have two medium contracts and one large contract in the works, could you define what medium is in terms of revenue and define what large is please? Thank you.

Sure traditionally, we have talked in the past I've accounted large as over 800,000 and medium is about 400,000 and small is 100-ish, 100K and those are annual revenue rates.

Addressing your question a little though, when we get these orders from the government that's what we are talking about here now. They are re-schedulable and even cancellable and consequently until they generate revenue, they are in the material event.

So these contracts that you might have the two medium and one large are cancellable at will by the government?

All or ever a government contract you get is cancellable at will by the government.

Okay. So let's continue on this question, so you're maturing your policy for announcement is what then?

Well we haven't had a specific policy there other than we certainly would announce any material event.

So the government contract even if it's $2 million, you're not going to announce because it's cancellable, is that a correct statement?

I think there is a lot of factors that play into this in terms of announcing the contract. And again we are as interested in making that announcement as we can as you are.

Okay. We've been operating; the government has been operating on a continuing resolution for several years. So what is the magnitude of your opportunity, can you give us a dollar amount please of the opportunity assuming that the government has a budget say by May 1 for say the next 12 months, is it $2 million, $5 million, $7 million would you give us a sense please for potential opportunity?

Whenever if the Congress decides to approve a budget, they have indicated or makes a current continuing resolution, it goes until middle of April.

But [ph] having like that.

And they have to pass another one or pass a budget for the balance of the year, the fiscal year. The government's fiscal year goes until the end of September.

I'm well aware of that.

So one would expect that if the Congress will attempt to pass a budget here between now and middle of April to be in effect until the end of September that they very well might not.

It's just for discussion purposes, just if you bear with me --

Yes.

Let's assume that the government, Congress has passed the budget, everybody has approved it effective May 1, what is your opportunity over the next 12 months now that you have a budget?

Again the budget will only go until the end of September, so it's not 12 months; it will be a period of 1st of May until the end of September. The next thing is --

I want to discuss that.

Wait a second, a second.

It would be opportunistic yes. Okay.

The next thing is until the budget is passed, we don't know how much each of the different entities here government entities are going to get and depending on what they get it in this new budget will certainly affect significantly our opportunity for business. We've heard rumors even from the new President that he is going to look favorably on some of the government staff but that's not there yet and depending on what that finally gets approved, will have an effect.

I understand but let's for discussion purposes just say that you have indicated in the past and I have read all your conference calls in the last year, so I understand -- I understand about the continuing budget but you've indicated various projects. So what's the total amount let's assume we get dumb and lockey and the budget goes through and you have all the money. What are you talking about, what's the collective dollar amount here? You've talked about a $1.06 million over the next three or four weeks that's all I assume that TraceCop and that's either for six months or for year. So my question is what are the other contracts, what could they mean assuming that the budget was approved and had excess funds again it's a $1 million, $2 million, $5 million, $7 million you have to know what you're looking at? Correct.

I can give some words on that if you want Ward.

Well I just going to say the point is here, there is so much variability in all of this until we get down the road a little bit it doesn't serve any purpose for us to throw out a number, it just doesn't serve any purpose.

Well, you have been saying first line Savant that you've been working on many, many projects over the last several years virtually none of them have come to fruition and I understand that and I can understand about not getting a budget approved you're operating on a continuing resolution. But clearly you have projects just like you described a moment ago two mediums for 400,000, one large one for 800,000 you're talking about another medium size of 7, the seven times four as $2.08 million, I think I can add or multiply and four decided to engage, I don't know whether the medium is a large, so it's not 2 million, they are all mediums?

Those were mediums.

Okay. So if I can speculate you’ve got $6 million of proposed potential clients over a period of time. I can add correctly that's what I'm trying to get to obviously some might happen, some might not happen but is it a fair comment that I could add up those numbers and come to $6 million.

I think if you add up the numbers, it comes to $6 million no argument there but because you're using this formula.

Yes, that would be fair to say, Howard.

Okay. Again I completely understand the budget issues, we're all aware of that hopefully with this new administration we get what we need and you get the contract but you've already got three, you're confident about seven. So even the three, the $1.06 million and the $2.08 million that's still a strong number that makes you profitable that's what I'm getting to, fair comment?

Okay. It's far greater than what's necessary to make us profitable.

Right. Well that's a good --

Howard, to go through the rest of numbers together so I had basically nine 400 k-ish projects and one that's about 800. And of the nine as I mentioned I think two were in the bag and four more have decided to go our way. So it's in the 4-ish rather than six would be my number right now.

Yes, that's fine.

But the key thing here is that, it's still very uncertain at this point.

Gentlemen I appreciate your concern. I do appreciate your concern. We all the shareholders had the similar concern about getting the budget, so you can get the business and I understand that and wish you all luck.

Thank you.

But I just wanted to please; I just wanted to define for myself what the opportunity could be assuming you get the budget? And I promised you --

I know you made the comment about CR for the last couple of years. What's interesting is they've all started as a CR but then without much [indiscernible] fairly they basically declared to be a budget without passing one.

Yes, I know. I realize that.

And so what they basically do is they get last year plus 10% spend as however you want and so it even though one of budget accounts as one in terms of startups and we expect that at minimum to happen again.

So I wish you all luck. I just had one last question gentlemen. I don't want to occupy too much more time.

Okay.

When we look at the numbers and clearly there's a shortfall of year-over-year $700,000 sales and marketing is down and I appreciate that in the quarter. And I can appreciate the sales and marketing down, R&D down, and general G&A down? How much lower can those items go say in a next couple of quarters or will they stabilize.

Well they're pretty well stabilized. We haven't had any planned reductions. Part of this is just the quarter-to-quarter variations, we have with respect to the assignment of personnel between cost of making the product and cost of selling the product and cost of the other related things in our business and it's not a matter of reducing it, if you look back, you will see the those expenses popping up and popping down from quarter-to-quarter based on the quarter activity.

[Operator Instructions]. We do have another question from the line of Walter Schenker. Your line is open.

Joe, could you give some more color on when we might know whether you actually finally have another Savant contract. What type application these people are thinking of using it for and why they would give you a list of customers to talk to or why you'd send money even talking to them, if they haven't signed up for a single revenue producing dollar yet?

Sure. We've given the partner quo to actually do some work for them which they haven't come back on yet and then they've -- we've had meetings with, phone meetings with one of their customers and in person with another one of their customers. So it's a sort of meeting the channel opportunity where they sell stuff and we sell stuff to their existing base. And so far it looks positive enough to where they like to crank up the number of calls that we make with them because they see some opportunity there and so do we. But the question is how that will work out in terms of conversion rates; some has been in one day every other week on or half day with those guys. And then one of our sales guys spend some more time with it.

But Joe, we've had at least three or four different potential partners since you originally introduced Savant?

Yes.

And you indicated there was opportunities with all of them and up until this is a different partner for that?

Correct.

So again hitting on the same question why it makes, what you're doing for this partner or why is this now timely for why should we -- why you're optimistic that finally you got someone who might want to play?

Yes, good point. Let me add some color to that. In the previous cases these were sort of large companies that were in the networking or computer hosting kind of business but they weren't really good at Savant security and we were sort of a small lump on a very big animal and so they didn't really have to care about our success. In this new case, it's a partner who sells hardware to do analytic processing and they don't do any kind of application software. They just build the iron basically. And so when they want to get into a new space like graph analytics they have to find a partner that they can do that and so their customers as I've talked to them are interested in security, graph analytics of logs and flow analysis the kind of stuff that we do and so we knew this company for a while ago and once you come with this to a few of our customers, so they want what you got and what we got. And we don't want to be in the software business, we want to just -- we sell them our gear and you sell them your services and then we will sort of meet in the channel and so we see that as the reason it's different is we get to be the sales guys not someone else and we're not to train somebody and it is -- it will be substantial to them because they're selling a nice piece of hardware that cost $0.5 million to $1.5 million for every time we sell a surveillance installation. So we get reasons to the two-fold is we get to be in the driver seat not filtered through some sales force to a customer that we don't get to meet with and so far that looks like it's interesting in potential. The one that we've been face-to-face with a couple of times is a big military customer and so I'm working that with the Pentagon angle to make sure they get their procurement not directive to do this. So anyway I think it's got good potential.

So historically a Savant customer might be $50,000 to $100,000 for installation for Amanda computer center or something, in this application for the person you're talking to give us an order of magnitude what that type of revenue deal you would do?

Walter.

These are million.

Walter, historically thesize of an installation and the cost of it for an annual deal is more than what you've got there, it's more like 200,000 as average.

Okay. But this would be bigger than that as you're now it's working?

Yes.

Well it's bigger because there is more places, each one of them is about the same size that we have talked about before. The real --

Yes there are three campuses at a time and so just one, Walter.

Okay.

The real key here is makes this exciting is that our model for this operation and partners are very compatible and the fact that we are -- the plan is for us to be the active connection spot for the end user customer with respect to the product and what it does. So there is several factors that make this potentially good as we mentioned though it's early and we may find out that it doesn't work at all. But we will know more about that before too long.

And if it sounds good we might get an announcement?

We can never tell, it maybe so.

Yes we got one code in the works right now, Walter. So we will know during the next quarter if the first one works, we will work on the second one and third as we are now.

We have no further questions at this time.

Okay. At this time, we will wrap up the call. Thank you for participating today. If you did not receive the copy of the financial press release, or if you have further questions, you can reach me at (972) 301-3658 or email mpaxton@intrusion.com. Thanks again.

This concludes today's conference call. You may now disconnect.