Kalle Ahl - Investor Relations Kyle Loudermilk - Chief Executive Officer Chris Sorrells - Chief Operating Officer Emmett Pepe - Chief Financial Officer

Tate Sullivan - Maxim Group Mike Smith - Private Investor

Greetings and welcome to the GSE Systems Inc. Third Quarter 2018 Financial Results Conference Call. [Operator Instructions] As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Kalle Ahl of The Equity Group. Thank you. You may begin.

Thank you, Matt and good afternoon everyone. Thank you for joining us today. Before we begin, I would like to remind everyone that statements made during the course of this call maybe considered forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 as amended and Section 21E of the Securities Act of 1934. These statements reflect current expectations concerning future events and results. Words such as expect, intend, believe, may, will, should, could, anticipate and similar expressions are words that are used to identify forward-looking statements, but their absence does not mean a statement is not forward-looking. These statements are not guarantees of future performance and are subject to risks and uncertainties and other important factors that could cause actual performance or achievements to be materially different from those projected. For a full discussion of these risks, uncertainties and factors, you are encouraged to read GSE’s documents on file with the Securities and Exchange Commission, including those set forth in periodic reports filed under the Forward-Looking Statements and Risk Factors section. GSE does not intend to update or revise any forward-looking statements whether as a result of new information, future events or otherwise. On this call, management may refer to EBITDA, adjusted EBITDA and adjusted net income which are not measures of financial performance under Generally Accepted Accounting Principles, or GAAP. Management believes that these non-GAAP figures, in addition to other GAAP measures, provide meaningful supplemental information regarding the company’s operational performance. Management uses these non-GAAP measures to evaluate the performance of GSE’s business and to make certain operating decisions such as budgeting, planning, employee compensation and resource allocation. This information facilitates management’s internal comparisons to GSE’s historical operating results as well as the operating results of its competitors. Since management finds these measures useful, GSE believes that investors may benefit by evaluating both non-GAAP and GAAP results. Investors should recognize that these non-GAAP figures might not be comparable to similarly titled measures of other companies. These measures should be considered in addition to and not as a substitute for or superior to any measure of performance prepared in accordance with GAAP. A reconciliation of non-GAAP measures to their most directly comparable GAAP measures in accordance with SEC Regulation G can be found in the company’s earnings release. I would now like to turn the call over to Mr. Kyle Loudermilk, Chief Executive Officer of GSE Systems. Kyle, please go ahead.

Thanks, Kalle and good afternoon. I would like to welcome everyone to GSE Systems’ third quarter 2018 financial results conference call. Also on today’s call are Chris Sorrells, our Chief Operating Officer and Emmett Pepe, our Chief Financial Officer. Earlier today, we issued a press release covering GSE’s third quarter 2018 financial results. Hopefully, you have had a chance to review this news release, but if you have not a copy can be found on our website at www.gses.com under the News section. I am pleased to report that GSE’s revenue grew 42% year-over-year to $21.8 million and our adjusted EBITDA increased 68% year-over-year to $1.5 million driven by contributions from Absolute Consulting, which we acquired in September 2017 and True North Consulting, which we purchased in May 2018. This is by far our best third quarter since I joined GSE and is a testament to our team and our growth strategy. New orders were strong and totaled $27.9 million which was approximately 3x greater than our orders in the prior year quarter. This quarter’s new orders were the highest since the first quarter of 2016. Performance Improvement Solution orders rose sharply to more than $17 million compared to less than $3 million in the third quarter of 2017. Among Performance Improvement Solution’s orders, we were awarded a $6.6 million contract from Slovenske Elektrarne in Slovakia to update the Mochovce Unit 3 & 4 simulator, which we implemented over a 16-month schedule. Our successful relationship with Slovenske Elektrarne goes back to 1990s when we delivered the Mochovce Unit 1 & 2 simulator. Also in Q3, we were awarded a significant contract totaling approximately $1.5 million to upgrade the Korea Hydro & Nuclear Power Company’s core Unit 2 simulator over a 17-month schedule. This is the seventh full scope simulator in Korea to upgrade to GSE’s latest technology for critical simulation and training needs. In the United States, we continue to benefit from a contract for the continuation of support services to two government engineering laboratories dedicated to the support of the U.S. Navy. GSE is serving as a subcontractor to a large global engineering construction and project management firm. The services include providing simulation engineers and test specialists. The initial year is worth $3.6 million from February 2018 to February 2019 with 4 additional optional years that would bring the total contract value to approximately $19 million. I would like to provide an update on the once-in-a-generation order we received in 2016 from a major nuclear plant operator to design, engineer and deliver three full scope simulator systems. A project to this magnitude has not been undertaken in the United States in the last two decades and I am proud to say that our team has done phenomenal work successfully executing all areas. This landmark project will contribute modestly to our 2019 financial results as we wind down and enter its final phases. This contributed over $10 million in annual revenue in the past 2 years, but at a much lower gross margin than our overall Performance Solutions segment. It is another important accomplishment for GSE and showcases our ability to provide comprehensive work pass solutions that meet and exceed our client’s complex needs. Our quarter end backlog remains strong at $74 million compared to $71.4 million at the end of 2017. Total backlog consisted of $50.8 million for Performance Improvement Solutions backlog and $23.2 million of Nuclear Industry Training and Consulting backlog. These are solid numbers given the burn down of backlog related to significant full scope simulator project for the Southern nuclear utility operator, which also accounted for roughly $28 million in backlog for Performance Solution when signed over 2 years ago. The solid backlog reflects the potential of our portfolio solutions we are trading as we scale by executing our vision 2020 strategy rolling up a fractured ecosystem serving the nuclear power industry. In conclusion, we are focused on growing revenue and EBITDA by executing operationally in our backlog, driving sales and effectuating our corporate development strategy with discipline. I am very proud of our team’s execution in the first 9 months of the year and believe we are on the right path to deliver long-term sustainable growth and value creation to our stakeholders. I will turn over the call to Chris Sorrells, our COO. Chris, please go ahead.

Thanks, Kyle. As Kyle noted, we are pleased with our third quarter and year-to-date performance. We like our prospects heading to 2019 and are excited about our acquisitions to-date as they continued to perform well. The first 9 months of 2018 represents one of the best periods in the company’s history and our goal is to take this momentum and build off it in 2019 both organically and inorganically. GSE’s strong financial performance demonstrates the significant potential of our strategy to scale the company and create value through rolling up a fractured vendor ecosystem in the nuclear power industry. Regarding our acquisitions, Hyperspring continues to perform at or above expectations. True North’s business is performing in line with expectations. Even though we encountered some revenue and profit delays this quarter due to True North’s transition on cash based accounting to GAAP percent complete accounting on fixed price projects, this is very typical in the first year of an acquisition previously using the cash-based system with a heavy mix of fixed price contracts. Finally, Absolute’s adjusted EBITDA was up over 70% from the pre-acquisition period and is performing close to our internal plans and we made some recent changes to benefit Absolute in 2019. As I noted on our last call, we are working exceptionally well on cross-selling opportunities with True North. For example in the third quarter, we bid on an innovative software project that would not have been possible if we were independent of one another. Despite intense competition, we were short-listed to the final presentation round of the RRP process and are now awaiting the final decision. This is a great example of how we intend to leverage and build out our platform driving expanded market share and mindshare with the customer. Increasingly, we are getting a seat at the table with client executives, who are defining and driving our customer strategies. As we continue to create a tightly woven group of complementary acquisition candidates, providing highly technical solutions with high barriers-to-entry, we expect to elevate GSE’s profile further with our customers. In addition, we are working on projects that may require us to utilize a combination of employees from the various subsidiaries to perform work that solves critical challenges for industry. As our platform grows, we expect this opportunity to allow us to further distinguish ourselves from the competition. Moving on to M&A, our pipeline remains robust and we remain very disciplined in the approach. Through strategic acquisitions, we have a opportunity to build meaningfully on our base in a way that is accretive to earnings and shareholder value. Given the current pipeline we remain confident that we can maintain an appropriate cadence of acquisitions to achieve our Vision 2020 goal of over $200 million in revenue and between $20 million to $30 million of adjusted EBITDA on an annual run rate basis by the end of 2020. The M&A database has grown to over 400, including more than 100 potential targets that provide core engineering services in our newly focused area of transmission and distribution. The goal remains to close two value creating strategic deals per year. Currently, we’re engaged in some meaningful discussions, mostly in the nuclear technical engineering and staffing/training segment. We would expect the combination of cash, seller notes, earn-outs and possible equity in the 2019 deals. Finally, as mentioned on our prior call, we have launched a more proactive investor outreach program. Examples of our recent activities include a non-deal roadshow at New York, and a full-day meeting at the Sidoti Conference in September, and the commencement of new dialogs with several sell-side analysts. We were pleased to see that Maxim Group initiated coverage on GSE a few weeks ago and hope to add to our list of covering analysts of 2019 and beyond. This is the first time we’ve had non-sponsored research coverage since 2012, so a major accomplishment for the team. Tomorrow, I will be presenting at the Southwest IDEAS Conference in Dallas, and on November 27, Kyle will be in Minneapolis for another non-deal roadshow. We feel we had a great story and are excited to share it with the investment community. In the coming months we hope to get a chance to meet and speak with many of you. With that, I’d like to turn it over to Emmett, who will review the third quarter financial results.

Thank you, Chris. I’ll begin with a review of new business. Our Performance Improvement Solutions segment bookings totaled $17.2 million in Q3 of ‘18 compared to $2.9 million in Q3 of ‘17. The increase in Performance Improvement Solutions orders and the result of the significant contracts awarded for nuclear and process work that Kyle detailed previously. Nuclear industry training and consulting orders totaled $10.7 million in Q3 ‘18 compared to $6.3 million in Q3, 2017. Our nuclear industry training and consulting segment continues to receive additional funding to support a few significant customers. Additionally, given the aging of the nuclear workforce, we are spending a lot of time and effort to proactively onboard and develop the young talent at GSE, which is not only positioning our company for long-term success, but also helping us address our clients’ short-term staffing needs. Now on to a review of our financial results for the first – for the third quarter. Total revenue in Q3, 2018 increased 42% to $21.8 million from $15.4 million in Q3 of ‘17. Nuclear industry training and consulting revenue rose 79% to $12 million in Q3, 2018 from $6.7 million in Q3, ‘17. This growth is a direct result of our Q3, 2017 acquisition of Absolute Consulting, which contributed $6.2 million of revenues in Q3, 2018. The Performance Improvement Solutions revenue in Q3, 2018 increased 13% to $9.8 million from $8.7 million in Q3, 2017. The growth in the Performance Improvement Solutions segments is primarily a result of our acquisition of True North earlier in 2018, which contributed $2.4 million of revenues in Q3 2018. In addition, as Chris mentioned earlier, True North Consulting experienced some revenue and profit delays due to transition from a cash based accounting to GAAP accounting. Based on Q3 orders of $3.5 million, we still anticipate True North to meet our revenue expectations for a full calendar year. Gross profit in Q3 2018 increased 28% to $5.4 million or 25% of revenue from $4.2 million or 27% of revenue in Q3 2017. The Performance Improvement segment’s gross profit increased 25% to $3.6 million in Q3 ‘18 from $2.9 million in Q3 ‘17. During Q3 2018, we were able to recognize significant cost savings on a few major percentage of completion projects which allowed us to capture additional margin on work completed in prior quarters. The most significant savings relates to a project started in Q1 2016 where we reduced our budget as we near completion of the project. The budget reduction resulted in the one-off recognition of revenue, which went straight to the bottom line. The Nuclear Industry Training and Consulting segment’s Q3 2018 gross profit increased 35% to $1.8 million from $1.3 million in Q3 of ‘17. The gross profit year-over-year increase is primarily attributable to a full quarter of Absolute Consulting, which contributed $800,000 of gross profit in Q3 2018 compared to $100,000 in Q3 of 2017. SG&A expenses in Q3 2018 totaled $4.4 million or 20% of revenue compared to $4.4 million or 28.4% of revenue in Q3 2017. Despite our revenue increasing by 42% year-over-year, we were able to maintain the same level of SG&A expenses. This begins to demonstrate the effects of operating leverage as we scale the business. And if you exclude certain one-time expenses incurred in the quarter, it’s even more dramatic. Net loss in Q3 2018 was approximately $500,000 or $0.03 per basic and diluted share compared to a loss of $600,000 or $0.03 per basic and diluted share in Q3 2017. Non-GAAP adjusted EBITDA as defined in our earnings release increased to approximately $1.5 million in Q3 2018 compared to approximately $900,000 in Q3 of 2017. Our cash position at September 30, 2018 totaled $9.8 million. Delays in one of our larger projects caused a temporary decline in cash as of September 30. As we collect on our contract receivables over the next quarter, we expect our cash position to return to normal operating levels, excluding any new uses of cash such as acquisitions. As Chris detailed previously, we are diligently working to execute on our acquisition strategy. Currently, we have approximately $50 million in capital available under our delayed-draw term loan and another $203 million of cash that could be available for deployment on a transaction. I will now turn the conversation back to Kyle.

Thanks, Emmett. Operator, please open the floor for questions.

Great. Thank you. [Operator Instructions] Our first question is from Tate Sullivan from Maxim Group. Please go ahead.

Hi, thank you. Hello, everyone. Can we – just first question on True North, I think an you refresh how much backlogs when you bought True North, the True North have and so it appears a meaningful step up in that backlog? And does that backlog that you disclosed $5.6 million exclude the cobid software project you mentioned in your opening, Chris?

Hi, Tate. This is Emmett. The backlog is relatively flat. We brought it in at about $5 million or so and so the $5.6 million is we maintain that backlog. Yes, the backlog does not contain that proposed project. It has not been awarded yet.

It has not been awarded. Okay. And then Chris, you gave an update on the Absolute deal from a year ago and it sounds like would it be fair to say, I mean, EBITDA has been above your expectations, revenue a little below or can you go back over that, please?

Sure. When – if you recall, when we put out press release and then Page 15 in our investor deck, we bought a company that at the time had a trailing 12 months, and this is all in 8-K, had about $40 million of revenue trending down a little – had some contracts that frankly needed to be rebid and rethought and then had in its standalone form about $1 million of EBITDA. We looked at that and thought through process improvements and optimization, we would get that over time to approximately $2 million, and this is what we identified in the slides, again, Page 15 of the investor presentation. In that we said that did include these identified synergies, didn’t necessarily specify whether those would be captured in 90 days, 180 days or 365 days, but we had to. We delivered and this is what I said, we delivered a 70% improvement, so on a trailing 12 months since acquisition, Absolute distributed approximately $1.7 million of adjusted EBITDA versus approximately $1 million as a standalone, hence the 70% increase. So we look at it and say, little bit below where we would like it to be, but we’ve made some recent adjustments and optimistic that it still comes in close to the numbers that we had outlined and expected. So we’re happy with the performance to-date.

Okay. Thank you for that update. And then, in the quarter I just saw that your Q came out too. Can you update on the accrual for taxes versus net operating losses and how long you – how much NOLs you currently have to, I didn’t see that?

NOLs are hovering around the $20 million and that’s – yes, we fully expect to utilize them. I don’t think the first tranche expires till the end of 2020. So we fully expect –

But what will you accrue for – what will you accrue for in the quarter just I see about $300,000 of tax expenses this quarter in 3Q?

Yes. I’m not sure I follow your question, Tate.

Okay. Well, maybe you –

Yes. So – I’m sorry. As identified in the 10-Q, we have $300,000 as our tax provisions for the quarter, that’s what you’re asking about.

Right. Okay. And then on the simulator order, I – it sounds like you had some profits dropped to the bottom. But I think you’re – are you well past peak revenue and margins on that order or do you have potential to recognize to reduce the budget at final delivery, which sounds like it’s still early ‘19?

There’s still opportunity as we close out, right. Of the 3 simulators we still have a lot of work to be done between now and early ‘19. So I would not say that we’re at the very end, but we’re getting close to that.

Okay, great. Okay. Thank you very much. I’ll go back, and thank you.

Thanks, Tate.

[Operator Instructions] Our next question here is from Mike Smith, a Private Investor. Please go ahead.

Guys, my question is lot of companies including yourself are reporting adjusted EBITDA or non-GAAP EPS, but you guys are showing a minus for GAAP EPS. Are you making any predictions on when you think it will become positive on a GAAP basis?

Chris, do you want to take that?

Yes. I mean, we don’t provide guidance, so let’s start there. When you look at the adjusted net income for us, it’s a really fairly clean number. The bulk of that adjustment, the number one piece is amortization of intangible assets related to acquisitions. Each time we do an acquisition, we have to go through the valuation allowance and we take the assets and allocate value outside of receivables, cash receivables minus payables, very simplistic. We then – we have a valuation third-party expert tell us what it is an intangible piece and then the plug is goodwill. And in the two deals we have about $12 million in goodwill that has been allocated and that is over 3 deals. And then we have on a run-rate monthly or quarterly basis about 600 of amortization related to the intangibles. Number two is stock-based comp and the stock-based comp has intended down as the amortization from that expense has been going away, but it still trails or still runs at about $500,000 a quarter, that’s down from last year about 627. So, both our non-cash and a total of the add-back 90%, there is a tiny bit for restructuring, which was $70,000 in this period and we have a little change in derivative instruments through the hedges on foreign currency, which is typically very de minimis and it was 59k. And then the tax, we end up with tax paid quarterly at 314,000 of crude tax that took that loss even more, but when you really look through that how much of that was true cash given our wells not totally accrued through tax number or cash tax number.

Did you say that your stock-based compensation number is going to be going down or is going down?

It has. Let’s not projecting into the future, but that is why it has been as it’s rolled off. When the management team came in, there was some grants to induce that came as you may know is largely and entirely new team over the past 3 years. So there is one-time grants were early in the system and many have not many, but at least probably a majority have amortized often, continue to amortize with each passing quarter. Now, new grants for new employees could factor into that and that’s where it’s difficult to predict what the future holds for that, but at least year-over-year, quarter-over-quarter, it has gone beyond from 627 to 507. When you have acquisitions too, with acquisition comes in, stock maybe given to raise employees as retention and enticement constant moving target.

So, when you think you will get over the hurdle of goodwill amortization and show a profit after the $2.5 million of intangible expense?

A very difficult thing to gauge, each deal is different. Well it depends on the pace of the transaction. So I mean it’s a fairly onerous calculation or it can be and frankly you get into a decision of would you rather – you wanted this goodwill taking on the balance sheet or do you want to amortize it through and keep a complaint on and see the goodwill growth at such scaling and then people like yourself pointed out the non-cash impact of the financial statement. So we run it through a third-party.

Well, the goodwill amortization expense is kind of a hurdle rate to justify your acquisitions, that’s why they are charging your P&L. Let’s put it another way, I mean, your free cash flow, what do you think that’s going to be in the coming years. So, that’s really the true number of what the cash, how much cash profit, the business is rolling off?

Well, if you look into cash flow statement year-to-date and take out working capital which was generally timing, we have 9 months this year and 9 months last year, we generated a little over $2.5 million of cash. We don’t have generally CapEx we have de minis, we did have some CapEx in the P&L issue and that was for a leasehold improvement, but last year as an example at 64,000 in CapEx, the 510 issuing CapEx, a good chunk of that was leasehold improvement piece and then that has really been part of de minimis amount of software. So when we look at the 9 months number issue, you see number that shows 2.5 to 7 of cash simulated before working capital and then make your assumption on what CapEx is. So it’s pretty good cash generated and then we track that number of sort of looking at modified cash and we take cash, LTM cash flow from operations less CapEx before the working capital and then we compare that to LTM adjusted EBITDA, see what sort of the cash conversion cycle is, it hovers in the 50% to 70% range depending on a given quarter.

Good questions. Operator, could we move on to the next question?

Sure. Our next question here is from Tate Sullivan from Maxim Group. Please go ahead.

Thanks. A couple of follow-up on it. On the accounts receivable collection cycle for the simulators, is it – are you receiving cash for those orders as you execute or does the bulk of that cash come in when all three are delivered?

This is Emmett. I will take it. We get cash roughly speaking on execution, but it’s really tied to different milestones and signoff on those milestones. So there could be if there is a factory acceptance testing that has to get signed off on and there is a delay and obviously that delays invoicing and collection over cash, but we do build regularly throughout the project on the various milestones and then subsequently get paid. So, there could be a delay. If there is any delay in the project, then ultimately that dominos into some delay in the cash collection cycle.

Okay. And then – sorry go ahead maybe that was…

The billing and related collections.

Okay. And then on with True North adjustments after the acquisition to do a percent of completion method, did you do the same exercise after – did you have to do the same approach after the Absolute deal as well and I imagine that so as you said just one-time in the quarter?

Well, it’s – there is a couple of moving parts from first of all, Absolute is really a time of material based business, so they are not really as impacted as someone like True North or our core GSE performance that has percentage of completion contracts fixed price where you have to go through the estimated budget and your cost incurred against that budget as you go through it. So, it is just a different type of business is where so Absolute did not fall into that.

Okay. And Chris, your deal pipeline what was it – did I hear 400 number when you discussed that, is that the total opportunities evaluated or did I mishear that?

We have a landscape math of all the verticals. We are currently naming all potential companies. That’s sort of a totally universe number that’s not – so we have had conversations with each is for sale, each as a fit, it’s just this is the ecosystem and we build on that – almost on a weekly, monthly and quarterly basis.

Okay, thank you for all the detail. Have a good night.

Thank you. This concludes the question-and-answer session. I would like to turn the floor back to management for any closing comments.

This is Kyle. I would like to thank everybody for joining us. In closing, I would like to say how pleased we are with our progress and reiterate our focus on a continued improvement and execution of our strategy. Thank you again for your time and interest in GSE. Have a great day.