Ray Wilson - CEO Roman Ptakowski - President John Long- CFO

Alex Hamilton - Jesup & Lamont Michael Ciarmoli - Boenning and Scattergood Tyler Hojo - Sidoti & Co Steve Denault - Northland Securities David Campbell - Thompson Davis & Co Philip Friedman - Perella Weinberg Partners Abbott Keller - Kestrel. David Zorub - Hawkshaw Capital Management. Tamara Manoukian - Greenwood Investments

At this time, I would like to welcome everyone to the Innovative Solutions and Support second quarter 2008 Earnings Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks there will be a question-and-answer period. (Operator Instructions). Certain matters discussed in this conference call today, including operational and financial results for future periods, are forward-looking statements that are subject to the risks and uncertainties that could cause actual results to differ materially, either better or worse, from those discussed, including other risks and uncertainties reflected in the company's 10-K which is on file with the SEC. Thank you. It is now my pleasure to turn the floor over to your host, Mr. Ray Wilson, Chief Executive Officer. Sir, you may begin your conference.

Good morning. This is a Ray Wilson, Chief Executive Officer of Innovative Solutions and Support. And I welcome you to our conference call this morning in which we will review results of the second quarter and the first six months of fiscal 2008 ending March 31. In addition, we will discuss the current business climate and outlook. Joining me today are Roman Ptakowski, our President, and John Long, our CFO. As you read in our earnings statement issued last night, we achieved both the key revenue and margin improvements to which we had committed for our second quarter. Our results for these two metrics clearly indicate we are making significant progress in those areas we identified as critical to our success in both near and long-term. This quarter, we also began to reap the benefits of our legal strategy. The market clarity arising from the court's decision affirming our ownership of important intellectual property has led to a multimillion dollar contract for enhanced Air Data sensing for re-engining of legacy aircraft. It has also sparked growing interest in our entire line of Air Data products. In the short run, the investments in protecting our IP as well as our increased investment in research and development have been a drag on our financial results. However, over the long run, as the new Air Data contract demonstrates these strategic investments are expected to generate attractive returns for our shareholders. This morning, John will go through results in a bit more detail, and Roman will provide an update on our backlog and new business activities. Before we take questions, I will return for a few concluding remarks. I will now hand it over to John Long.

Thanks, Ray, and thank you all for being on the call with us this morning. Revenues in the second quarter were $6.8 million, up 73% from the second quarter of fiscal year '07. More importantly, revenues were up $2.1 million or 44% sequentially from the second quarter. This sequential growth is representative of the ramp in production and a corresponding increase in revenues we are driving. Approximately $5.4 million of the revenue in the current quarter was for flat-panel systems. In addition to continuing shipments under our five-year OEM agreement with Eclipse, flat-panel revenues were generated on a growing variety of commercial, military and business aircraft this quarter. Air Data products shipments in the quarter were $1.4 million. In addition to product revenue, this quarter we also recognized $611,000 of engineering, modification and development revenue. This is primarily revenue recovered from customers for costs incurred when they changed the scope of their original contract. The remainder is reimbursable engineering associated with customer-specified modifications. Gross margins were 44.5% in the quarter, up from 23.7% in the year-ago period, as well as sequentially up from 22.7% in our first quarter. Product gross margins were 40.3%, as production rates led to better fixed manufacturing of overhead absorption. Again, I would point out that margin improvement has been one of our areas of primary focus over the last quarter. Overall, margins were aided by the engineering change and scope recoveries, which had minimal corresponding current period costs. R&D expenses in the quarter were $2.8 million compared to $2.6 million in total for the first quarter. R&D was $2.3 million in the prior-year period. We have committed to a slightly higher investment in R&D over the balance of the year to accelerate improvements to our flat-panel display systems and for the development of the Cessna STC. We expect the more robust products emerging from this investment will yield a significant return by commanding better margins and gaining wider market acceptance. On the SG&A, spending totaled $4.7 million in the second quarter, an increase of $800,000 from the $3.9 million in SG&A spending in the second quarter of '07. SG&A was down from $5.9 million in the first quarter. This quarter did include onetime items totaling approximately $600,000 as well as $1.3 million in legal fees. Excluding the legal fees, our basic general administrative expense run rate is roughly $3 to $3.3 million. The operating loss for the quarter was $4.4 million. Excluding legal fees the loss for the quarter is essentially the same as the first quarter. With our infrastructure and business well in place, operating results net of legal fees have flattened out and are now expected to begin trending higher. Net interest and other income was $700,000 in the second quarter, about the same as last year, and up about $100,000 from the first quarter. Lower cash balances, as well as a lower interest rate environment will probably reduce interest income over the balance of the year. For the second quarter of 2008, net loss before tax was $3.8 million, in line with year-ago results. The pre-tax loss in the current quarter was down significantly on a sequential basis from the first quarter pre-tax loss of $6.1 million. Due to some unusual tax accounting this quarter, we believe that the operating and pre-tax income do provide a better measure of financial performance relative to other quarters. Statement of Financial Accounting Standards 109, in Accounting for Income Taxes requires the company to record a valuation allowance on the net deferred tax assets carried on its balance sheet of $4.8 million. The company's total income tax expense inclusive of this valuation allowance was $3.3 million, as compared to a $1.3 million income tax credit in the prior-year comparable quarter. In effect, in this quarter we established a valuation allowance related to the deferred tax asset that had accumulated on our balance sheet in the prior quarters as well as the current quarter so that our financial statements will no longer recognize or have that future benefit. This non-cash, I will stress, non-cash charge will not preclude us from using the financial losses to offset income taxes associated with future profits. It merely means that our financial statements at this moment do not reflect the potential benefit. As you will hear, this quarter, we carried back recent financial losses to recover approximately $5 million of previously paid income taxes, basically offsetting all income taxes paid for the limit of the carry-back provisions. For the second quarter, the company had a net loss of about $7.1 million or $0.42 per fully diluted share, of which, as mentioned previously, $1.3 million was for legal expenses and $3.3 million was partially to record the valuation allowance related to our deferred tax assets. In the second quarter of fiscal 2007, our net loss was $2.4 million or $0.14 per fully diluted share. Our financial position does remain strong. At March 31, 2008, we had approximately $44 million in cash. And as previously mentioned, this quarter, we did receive, during the quarter, approximately $5 million in cash, a refund of cash related to federal income taxes which we previously carried back to two or three years back. We still have not recognized any of the $6 million jury verdict in our financial statements. We have virtually no debt, and our shareholder equity was approximately $61 million at the end of our second quarter. In closing, our balance sheet, to my mind, provides us or positions us with a great deal of financial flexibility to effectively leverage and manage the increase in production levels that we see coming. I would now like to turn the call over to Roman.

Thank you, John. The second quarter was a good booking quarter for IS&S. New orders totaled $20 million. $4 million was for Air Data, of which the largest order was a multimillion dollar contract with Clifford Development. Significantly, the Clifford Development contract represents the first agreement arising from the demand for Air Data products with performance characteristics that can only be achieved by using the technology that the court recently affirmed was the company's exclusive property. The clarity now in the marketplace has led to a pickup in new Air Data business activity. As we have reported before, your company has structured its business development efforts in the commercial transport, military, and business and general aviation pursuits to allow us to better capitalize on the opportunities in these market segments. During the second quarter, we continued progress in each. In the commercial segment, our flat-panel display systems were installed in both American Airlines and FedEx Express simulators. On-aircraft installation has also commenced at both customers. We are now awaiting FAA issuance of an amended STC this month certifying improved navigation features of the cockpit IP, such as enhanced ground proximity warning systems and improved radar range selection. As expected, these flagship programs are creating interest in the use of the company's products by other Boeing 757 and Boeing 767 fleet operators. They realize that the IS&S flat-panel display system offers the best solution to meet their needs in the areas of presenting additional information to flight crews; complying with current and future regulatory requirements such as ADSB; improving dispatch reliability; obtaining weights and fuel savings; reducing the cost of aging equipment maintenance, repair and obsolescence. In the military segment, we provide cockpit IP solutions both domestically and internationally for the C-130, KC-10, KC-767A, and the L-011, with follow-on orders for the C-130 military air transport particularly robust. IS&S has been selected by the US Coast Guard to upgrade their engine display systems on the C-130. We fully expect this to lead to opportunities for upgrading the entire cockpit. The company signed a $1.5 million contract with Lockheed Martin to provide large-format mission displays. We believe this to be the start of participation in a portion of the market where we did not previously have a presence. We are well underway with the Cessna Aircraft company's STC effort on legacy Cessna Citation aircraft. Hardware for ground testing will be provided this quarter. Flight testing is to take place next quarter. Submission for FAA certification will take place at the conclusion of both ground and flight tests. IS&S flat-panel display systems will be distributed and installed through Cessna's 34 worldwide service centers. The company's flat-panel display system product line is the most timely and cost-effective way to upgrade legacy Citation aircraft with the state-of-the-art technology offered in our systems. Now let's briefly discussed backlog; I would like to make three points. First, as mentioned earlier, we booked $20 million of new orders, shipped $7 million this quarter, but only increased net backlog by $4 million to approximately $74 million. This is as a result of removing a contract for an IS&S flat panel display system retrofit from the backlog because the customer decided to sell his aircraft, rather than refurbish them. Second, as we have mentioned before, we only carry a rolling eight weeks of Eclipse aviation requirements in backlog. As they release their requirements, we generate revenues. Because this customer is an OEM, we take the conservative approach of matching backlog to their near-term production needs. Third, despite the struggles of the airline industry making headlines recently, there have been no material changes to any of the commercial airline agreements in our backlog. This backlog and additional book-and-bill opportunities are the base from which the Company will continue growing revenues throughout this year and next year. I would now like to turn the call back to Ray.

Thank you, John and Roman. Just a few brief, concluding remarks before we take your questions. This quarter, I believe we accomplished all of the objectives we communicated to you last quarter. In fact, on some accounts, for instance, revenue, you might say we did slightly better. Revenue in the quarter was up by nearly 50% from the prior quarter. Gross margins are beginning to evidence the leverage in our models. These results keep us squarely on track for the continuing revenue growth and fourth-quarter profitability. We are manufacturing a quality product, meeting our customers' delivery schedules, and as our margins clearly illustrate staying on budget. And whilst we are rapidly diversifying our revenue streams, the major variable in the continued growth of our shipments over the balance of this year as our customers demand. Regrettably, we were in the last few days advised informally by of one of our customers of reductions to the third and fourth quarter delivery schedules. This is rescheduling, not cancellation, but it appears to leave us short of our $40 million revenue forecast for the year, and certainly makes Q3 forecast of $12 million come in nearer $9 million. As I said, this is an informal piece of information we have been given but we do expect it to be made more formal in the next few days. Despite the revised forecast, we continue to invest in our product at a high rate and see market opportunities emerging at a growing rate. We have made remarkable progress in achieving important milestones, getting our product into the market commercially, militarily and in the business segment. There is considerable work yet to be done, but I am proud of the progress achieved by the team here at IS&S in just the past couple of quarters. Thank you. And we are now available to take your questions over the balance of the hour.

(Operator Instructions). Your first question is coming from Alex Hamilton of Jesup & Lamont. Please co ahead. Alex Hamilton - Jesup & Lamont: Can you remind me -- and I think you mentioned it; I apologize for any oversight. Can you update us on the legal expenses? I know that was supposed to end sometime in March -- or is that still ongoing?

Yes. We have had the final hearing with the judge. We are now awaiting formal issuance on the damages phase. We are in a holding pattern until he does that. We had expected we would have seen something now. It has already been five weeks since the hearing. In the meantime, there are some legal expenses that do continue in support of that, but certainly at a reduced rate from what we had before. But the next step is awaiting the judge's findings, and that is not anything that we control. Alex Hamilton - Jesup & Lamont: Hi good morning gentlemen.

Good morning Alex.

Good morning Alex. Alex Hamilton - Jesup & Lamont: Can you remind me -- I think you mention -- I apologize for any over sight. Can you update us on the legal expenses? I know that was supposed to end sometime in March or is that still ongoing>?

Roman will answer all of this Alex.

Yes. We've had the finally hearing with judge. We are now awaiting formal issuance on the damages faced. We are in a holding pattern, so he does that. We had expected that we were something now, its already been five weeks since the hearing. In the meantime there are some legal expenses as we continue our support of that, but certainly at a reduced rate from what we have before. But really the next step is awaiting the judges hearing and that's not something or excuse me, findings and that's not anything that we control. Alex Hamilton - Jesup & Lamont: Now this forecast for profitability in the fourth quarter. Does a lot of that assume no legal expenses? Is that kind of what gets you there, or can you walk me through that a little bit, what the assumptions are?

Towards the back end into the year, and actually for the third and fourth quarter, we have right now in our forecast about a $300,000 estimated legal spend. Again, to Roman's point, somewhat difficult to predict. Again, to the extent that we can get a clarity there, we will, and we will naturally revise our forecast. But that is exactly what we have right now, is $300,000 and $300,000 in the back part of the year. Again, I will just reiterate, coming off of a $3.5 million first quarter down to a $1.3 million, our desire, I believe we said last quarter, is to minimize any spend into the future here to the extent possible. Alex Hamilton - Jesup & Lamont: Okay.

But Alex, this is just add to that, it is the revenue growth that drives that profitability in Q4. It is not the reduction or increase or anything else in legal expenses. I believe that we will be happy to feature in our costs, but they in themselves I've never blamed for our loss-making situation. Alex Hamilton - Jesup & Lamont: Okay. Also to that fourth quarter profitability, you had to gross margins in the quarter. And I know you talked about that a little bit once again, sorry for any oversight. Is that a read for that gross margin you had in the quarter? Is that a good run rate going forward, or how should we look at that?

Right, my first call, the first quarter I was here. And I have done a good bit more homework now, and I'm very comfortable that this company, without question, is capable of 50% plus margins. The key breakpoint is $10 million of revenue in any particular quarter. That in my mind takes us or gives us that ability to leverage up. And clearly, in that fourth quarter in particular, and we're going to be working very hard in the third quarter, as much as Ray mentioned the number, to continue to drive through that $10 million number and get that margin north of 50. But the business clearly has a significant potential on that line, in my observation and calculation. The fixed overhead is a small component of the overall cost of sales, so it is truly a significant leverage opportunity for us there. Alex Hamilton - Jesup & Lamont: Okay. And I will just ask one last thing; I apologize for being a hog here. Your backlog, obviously, we saw some iterations in that backlog. Obviously, some of this gets pushed out. And I know that is the nature of the business. If you were to look at the backlog, how much do you think -- if you were to put a percentage to it, how much do you think is prone to cancellation, if any?

I don't think it is. We have monitored the situation on the two things we've removed quite carefully over the last few months, and decided that to be prudent, we should take them out of our backlog. But we think the rest of the backlog is very solid. However, if anything changes, we will not only take it out, but we will tell you, and tell you why. So I think the 70 odd million is a very solid backlog. And quite frankly, the number I'm focused on here is the 20 we added. Alex Hamilton - Jesup & Lamont: Yes.

Because for me to have added 20 when we have only delivered just under seven is a big step forward. Alex Hamilton - Jesup & Lamont: I will take that book-to-bill any day.

That’s great. Okay, Alex, thanks. Alex Hamilton -Jesup & Lamont: Thank you

Thank you. Your next question is coming from Michael Ciarmoli, Boenning and Scattergood. Michael Ciarmoli - Boenning and Scattergood.: That’s Boenning and Scattergood, thanks guys, for taking the question.

Good morning Michael. How are you. Michael Ciarmoli - Boenning and Scattergood.: Well. You mentioned the reduced outlook for the year of $40 million. Do you have a range of where you're going to be looking at this year now in terms of revenues?

Yes. Because we just got something from one of our major customers in the last day or two, we haven't gotten anything formal yet. But it looks like it is heading toward 35, on the upside of $35 million. But I can't be emphatic yet. We haven't done the detailed work. We haven't been through the customer's real requirements in as much detail that we need to make a proper forecast. But it is in the range of $35 million to $40 million. Michael Ciarmoli - Boenning and Scattergood.: And does your '09 outlook of $60 million change?

I don't know yet. We need to sit down with the customer and say, are they just pushing this year's delayed requirement into next year or are they spreading it further? We don't know that yet. Michael Ciarmoli - Boenning and Scattergood.: Okay, so there is a chance that that $60 million could come in lower, you just don't know yet? Okay. On the backlog, the customer cancellation, was that the Jet partners related to the 737?

By agreement, we're not going to comment on who the specific customer was, by confidentiality in the agreement. Michael Ciarmoli - Boenning and Scattergood.: And then assuming they sold their planes and you might have been working on an STC, does that push back the STC for that potential program or if you could just talk about the 737 STC?

Oh, do you want to talk about the ST 737 or what? Michael Ciarmoli - Boenning and Scattergood.: Yes, the 737 STC.

Yes.

Okay. We are still planning to do an STC in this calendar year for 737. Michael Ciarmoli - Boenning and Scattergood.: For the 737?

That's correct. Michael Ciarmoli - Boenning and Scattergood.: And that is calendar '08?

Yes. Michael Ciarmoli - Boenning and Scattergood.: And then one more question and I will jump back in the queue. I guess, John, on the expense outlook, are these the levels for R&D and SG&A that we should be using going forward for the remainder of '08 and '09?

Yes. I believe I mentioned my $3.3 million on the SG&A. And the R&D again, a similar number, and I want to be careful there, because as we have talked about before, some of that engineering or I should say, research and development does end up on the cost of sales line. And in total, when I'm speaking in total, it's that $3.3 million, 3.3 to 3.4. So ultimately, they are the run rates for Q3 and Q4 at this point. Michael Ciarmoli - Boenning and Scattergood.: So just to make sure, so 2.7 for R&D, and 3.3 or 4 for SG&A?

No, I believe -- it is going to be in total on the R&D, right around a 3.3. They are basically about the same 3.3 on the SG&A and about 3.3 in total on the research and development. Michael Ciarmoli - Boenning and Scattergood.: Oh, okay.

And Ray's comment in the script, we are continuing to move ahead with these programs and tackling the opportunities as we see them coming. So research and development in particular, we are going to continue to spend very carefully and in a very disciplined manner. But that is -- then, we'll stay at that 3.3 to $3.4 million range. Michael Ciarmoli - Boenning and Scattergood.: Okay, great. And then just last one. Did you guys buy back any stock in the quarter?

A very small amount, as will be disclosed in the K. It is about 7,000 shares at this point. And I will just reiterate for all listening, it is an opportunistic program. And we will continue to basically pay attention very closely to the market and if opportunities are there, we will be in the market as a buyer. Michael Ciarmoli - Boenning and Scattergood.: Thank guys, I will jump back in the queue.

Thanks Michael.

Thank you. Your next question is coming from Tyler Hojo of Sidoti & Co. Tyler Hojo - Sidoti & Co: Hey good morning guys.

Hi Tyler, very good morning.

I want to go back to the guidance again. Just to be clear here, you are officially withdrawing the $40 million range but you're not really providing anything in its place. Is that right?

I mean you say officially, but we are being cautious because all we've have to date is an informal note from the customer to say. We are having to revise our volume for this year. It looks like around this amount. And we did a very quick calculation. It certainly hits Q3 to the extent 12 probably becomes nine in terms of revenue. Inevitably, that's bound to hit the 40, so there's definitely three coming out of the 40. So, if you want, I will give you a range 35 to 37. Tyler Hojo - Sidoti & Co: That would make my day, 35 to 37. Okay, that's fine. So I guess the balance would just impacts the 4Q. And I guess I know there's a lot of people out there that have some doubts just in terms of the delivery schedule that Eclipse has laid out there. Does this updated guidance range assumes maybe a little bit more slippage in that schedule, or is this basically what they are telling you, and you are just going with that?

We're not really at liberty to talk about specific customer's schedules, I'm afraid. Tyler Hojo - Sidoti & Co: Let me ask it this way, does the updated guidance include maybe some, additional padding just in terms of planned deliveries, in terms of what your customers are telling you that they would like delivered?

Close to reality as I can give you? Tyler Hojo - Sidoti & Co: Yes.

It is not padded in any way. Tyler Hojo - Sidoti & Co: All right, very good. And just in terms of the facility expansion that is taking place right now, where do you guys currently stand? Are you still basically ramping up hiring and the like? Just in terms of where you stand there would be great.

Based upon the volume requirement from the customer, I talked about, is making us think hard about how quickly we move into spending the money on the facility, to be quite honest. We have delayed it for another month. But it looks as if we can manage this year without launching the expansion. We have looked at alternatives to the expansion of the facility, like moving our engineering community into an adjacent building, which is available on our development that we reside on, which, as you know, is a fairly upmarket office and a light manufacturing development. So there are other opportunities that we have been looking at, and maybe more next time. But right now, we have not launched the building, nor have we gone into any sort of agreement to use any other building although we're looking at that closely. Tyler Hojo - Sidoti & Co: Great. And just one final one, obviously, the bookings were pretty strong in the quarter, and the backlog growth, despite the order cancellation you had there. With kind of all the macro headlines we're reading just in terms of capacity cuts here in the United States and the like, maybe you could give us some sort of idea of where you are looking to take that backlog over the next two quarters?

I will comment on that. We expect to see continued backlog growth actually in all three of the segments, as I mentioned. We are getting, from the military side, there are funding requests that are going on that we fully anticipate would be favorable to us And the same with Homeland Security; when I say military, its DoD and Homeland Security. We have got programs in each that seem to be expanding, and that's something we are looking forward to. In the commercial segment, with the flagship programs going on, we see increasing activity, particularly internationally, where we are filing for EASA certification on our programs there so we can go after the international community that is watching what we are doing. And then in the general aviation segment, we're doing both Eclipse OEM support, and then the Cessna and others. We have got an enhanced offering in our Pilatus aircraft. And each of these platforms lead us to other platforms. So we see continued growth in all of these. A lot of turmoil on the market, there is concern on the commercial airlines side. But actually, it helps us kind of in a perverse way that, they have to keep what they have flying longer. Since we're in the upgrade/retrofit/life extension part of the market, it actually helps us quite a bit with the commercial airlines. Tyler Hojo - Sidoti & Co: Have you seen any increased quoting activity based on that point you just made?

Yes, we have. Tyler Hojo - Sidoti & Co: Thanks a lot, Roman.

You are welcome. Thank you.

Thanks.

Thank you. Your next question is coming from Steve Denault of Northland Securities. Steve Denault - Northland Securities: Good morning, everyone.

Hi Steve. Steve Denault - Northland Securities: I want to make certain that I got it clear of the reduction in your third-quarter outlook is related to a pushout of a retrofit project?

I part yes. Steve Denault - Northland Securities: That is correct? Okay. When you reference R&D at the $3.3 million level, I am assuming you are also referencing that the cost associated with the engineering and recovery?

Yes, exactly, Steve. I apologize if I did not make that clear. When I give that number, it is a combined total. Steve Denault - Northland Securities: Okay. The G&A 3.3 run rate excludes approximately $300,000 a quarter for legal expense?

That is inclusive at the 3.3. Steve Denault - Northland Securities: That is at the 3.3. And it sounds like you are suggesting gross margins go higher on a going-forward basis.

Yes, we are comfortable with -- again, all built upon an assumption that the volume picks up, the leverage will kick in. And clearly, we can see our way to a 50% plus margin. Steve Denault - Northland Securities: Okay thank you.

Thank you.

Thank you. Your next question is coming from David Campbell with Thompson Davis and Company. Please go ahead. David Campbell - Thompson Davis & Co: Good morning everybody.

Good morning Dave. David Campbell - Thompson Davis & Co: How are you.

Well now, I am not feeling too bad. David Campbell - Thompson Davis & Co: I certainly appreciate this integration backlogs in the new orders rather. I assume that $16 million of the $20 million is flat-panel orders?

Yes, that is what we said. David Campbell - Thompson Davis & Co: And the deliveries of flat-panels in the March quarter to AMR and FedEx were just for simulators, not for actual aircraft. Is that correct?

Not the deliveries. The installations that we said were complete were on simulators. But the deliveries and the work on installation that is not quite yet complete is on airplanes. So we have got both cases with both major airline customers. David Campbell - Thompson Davis & Co: And just to support what you said a few minutes ago regarding the commercial outlook, FedEx, if anything, would like to accelerate their 757 replacement program for the 727s given this fuel situation. So they are more determined than ever to continue their 757 delivery and purchase plan, which is despite their slowdown in business. And so I hope that that means that some other companies will do the same that are notable exceptions in the cargo business so far. And I am hoping you are going after that notable exception.

We know who the big guys are in that business. David Campbell - Thompson Davis & Co: Right. John, could you explain a little bit more about the $600,000 onetime items in the March quarter. Was there any or is it just a whole bunch of little things, or what was that?

Exactly, very much so. There was an employment-related matter; a sales tax audit; a 401(k) matter; that catch up we had to resolve, which was small; those sorts of vacation accrual item, I don't want to get into any more of the minutiae. But it was, yes, a lot of things that basically needed to be dealt within the quarter and we basically did that, and we really do not anticipate seeing that recur. David Campbell - Thompson Davis & Co: Can you give us your earnings per share for the quarter, excluding legal costs and the valuation allowance charged?

Legal, the impact is about $0.05, as I calculate it, on the 1337. The tax, I had mentioned the $4.818 million, roughly, of valuation allowances is about $0.29. So that is about a $0.34 add back. And then the nonrecurring in my mind, again, $0.03. So all told, you are going from a $0.42 loss back to about a $0.05 loss on a run rate basis. David Campbell - Thompson Davis & Co: All right, okay. Lets see what else. The backlog on March 31st was $74 million roughly. That does not include this disclosure we just found about in [April]. Is that correct? The backlog may be really, really be less than that, right?

No, the backlog is a…

A solid backlog.

A solid backlog. All the backlog we have in there, we have firm releases, firm schedules. We have engineering work going on in that backlog, and this is not -- there is not going to be a restatement of the backlog due to any kind of deferral here by a given customer. We have already taken that into account. David Campbell - Thompson Davis & Co: Good, okay. And do you think that…

David, we have got a long line of people waiting. David Campbell - Thompson Davis & Co: I know, I know, just one though. Do you think that fiscal '09 is likely to be impacted by this customer, or I guess you don't know yet.

I have not idea.

We suspect not, but we don't know. David Campbell - Thompson Davis & Co: Okay thank you.

Thank David

Thank you. Your next question is coming Philip Friedman - Perella Weinberg Partners. Please go ahead. Philip Friedman - Perella Weinberg Partners: Hi guys. How are doing.

Doing fine. Philip Friedman - Perella Weinberg Partners: Of the contract that was just pushed out that you were notified of a few days ago, how much do you have in backlog on that contract?

Not very much.

No impact on backlog.

Its very small. Philip Friedman - Perella Weinberg Partners: But its at least $3 million, because you are pushing out, right, from 12 to 9, I am sorry.

Its our point that is. Don't forget that some of our contracts we get, we bring into backlog at a very tight window. Philip Friedman - Perella Weinberg Partners: Right.

Just give you, the two examples; they are the major ones, but there are others. FedEx, we bring them in 12 weeks before shipment; and Eclipse, we bring in eight weeks before shipment. Philip Friedman - Perella Weinberg Partners: Okay. Maybe I'll ask the question another way. Of the $40 million that you expected this year and of the $60 million next year, how much relates to that customer?

A lot. Philip Friedman - Perella Weinberg Partners: I'm sorry?

A lot. Philip Friedman - Perella Weinberg Partners: Okay.

I can't give you the details, but… Philip Friedman - Perella Weinberg Partners: So therefore, why do we have confidence in the $60 million for next year if you had just been notified of this a couple of days ago?

Because, there are underlying reasons which we have had explained to us for them having to delay some of their work this year. Philip Friedman - Perella Weinberg Partners: Okay, thank you.

I'm sorry I can't talk about it, but it is confidential between us and the customer. Philip Friedman - Perella Weinberg Partners: Okay, thank you.

Thanks.

Thanks.

Thank you. Your next question is coming from Abbott Keller of Kestrel. Please go ahead. Abbott Keller - Kestrel: Thank you. My questions have already been answered.

Thank you

Thank you. Your next question is coming from David [Zorub] of Hawkshaw Capital Management. Please go ahead. David Zorub - Hawkshaw Capital Management: On last quarter's conference call, there you indicated that, at that time on your expectation of about $40 million in revenues for this year, about half of that would come from Eclipse. Is that still your expectation today?

Of the total revenues, well approximately half come from Eclipse? David Zorub - Hawkshaw Capital Management: Yes

Very close to it, yes. David Zorub - Hawkshaw Capital Management: Okay. And then following up on a prior caller's question, just looking at the $9 million that you have indicated is more realistic for the next quarter, that would bring $5 million in the first quarter in revenues; $7 million in the current quarter that you just reported say; and the $9 million would bring it close to about $21 million through nine months?

Yeah. David Zorub - Hawkshaw Capital Management: Getting to 35 to 37, as you indicated would imply about a $14 million to $17 million quarter, which is a pretty big acceleration. I would love to understand kind of where that comes from?

We have always had a big step between Q2 into Q3 and between Q3 and Q4. That was never different. I mean if we're going to 40, you can imagine had we been going to do nine next quarter -- I'm sorry, 12 next quarter, we still required around 18, I think, for Q4. David Zorub - Hawkshaw Capital Management: Yes.

So this was always in our sights. We had plans to do it. We knew exactly how the production guys were going to step it up. The inventory was flowing. So we were not at all nervous. Clearly, this is a challenge. But we are all big guys, we've been around the business for a long time, we know how to handle these challenges. So, I would say that, in some ways, it got easier because the step isn't as big in terms of the specific number. It's a step isn't it? A stake in terms of its specific number. David Zorub - Hawkshaw Capital Management: Is there another way to think about it that the issue you've experienced with the customer for the third quarter. It sounds like you don't anticipate that flowing through in the fourth quarter?

In part, it does. In part, it flows to the fourth quarter. But we are waiting to get all the detail from them. We are giving you a heads-up on something, but frankly we have not yet got all the detail on. David Zorub - Hawkshaw Capital Management: Okay. And then if you could clarify, I think I missed this or just didn't understand it in discussion of the backlog. But I think you came into the quarter with about $70 million of backlog. You added about 20 for 90; seven came out in the form of revenues, or a little bit less than that, but round numbers seven, gets you to 83. And there was -- I think you said 3 for the canceled order. So it seems like there is maybe 7 or so unaccounted for that I didn't follow.

What we said there was that we had a customer that had a fleet of aircraft that was to be upgraded with our flat-panel display systems. They sold off that fleet. That's no longer available. So we debooked the order rather than carry a backlog, because we see no ability there to generate revenues from a customer that does not have a fleet.

That's a number specifically requested… David Zorub - Hawkshaw Capital Management: That was $3 million, if I understood correctly. So I think there was a $7 million gap?

Yes. The numbers, we essentially -- we debooked $9 million in the quarter. That's the way the numbers work. David Zorub - Hawkshaw Capital Management: Okay. So it was a $9 million total relating to that customer?

$9 million related to debookings in the quarter; that's correct. David Zorub - Hawkshaw Capital Management: Great. And then on the deal then, the multi-million dollar deal with Clifford, can you give us some sense of over what time you expect that to be realized? What time frame?

It is approximately a 2.5-year agreement. David Zorub - Hawkshaw Capital Management: Great. And just the last question, maybe I misunderstood, John, during your remarks, but did you indicate that the prior year's R&D level was about $2.3 million versus this quarter's 2.7? Because I guess I had a different number, and the 2.7 looked significantly elevated relative to the past few years' trend, and I was just trying to understand that a little bit better as to what's driving that increase.

When you say past years, are you comparing to the March '07? David Zorub - Hawkshaw Capital Management: Yes, March '07, which I think was about $1.5 million.

Yes, 1.5. And then up on the NRE line, we had about a 7. So if you tally, as I said, those two together, you come back about a 2.2. And perhaps I misspoke there; I believe I said 2.2. But compared to what this quarter will be, its about a 2.8. David Zorub - Hawkshaw Capital Management: Okay, so it was combined with NRE. And what is driving that increase?

More activity. a

More activity, more programs. And these require some engineering upfront, and then they generate recurring sales. David Zorub - Hawkshaw Capital Management: And then one last quick question. Just on the flat-panel systems revenue that you recognized in the quarter, the $5.4 million, can you roughly bucket that out in terms of commercial, military, and the other segments that you typically do work in?

It is actually sales into each of the segments -- the GA, to military and commercial. So we are participating in shipping into all of the segments.

Two-thirds is going to be general aviation, about 20% military, and about 15% transport. That is a rough mix. Again, I am actually including Air Data in there; I want to be careful. It is $1.4 million, but that is an overall mix. David Zorub - Hawkshaw Capital Management: You're including Air Data -- great, thank you very much.

(Operator Instructions). [Tamara Manoukian of Greenwood Investments]. Please go ahead. Tamara Manoukian - Greenwood Investments: Most of my questions have been answered. I just want to clarify R&D, that is $3.3 million. Is that per quarter?

Yes. Tamara Manoukian - Greenwood Investments: Okay. Now in terms of this one customer delaying orders, what's your guess is the reason behind it?

I don't have to guess, but I can't share it with you, I'm afraid.

Yeah. Tamara Manoukian - Greenwood Investments: Okay, so you know the reason?

There are a number of issues. We know what they are. The customer is very open and straightforward with us. It was a surprise, but then I guess they got a surprise too. Tamara Manoukian - Greenwood Investments: Okay. So it seems like based on the reason that you know, you still feel comfortable with the $60 million for the last year?

As I said, at this moment in time, I have got nothing to indicate that there's going to be an impact there. But we have to do some more research. And as soon as anything changes, you guys will be informed. Tamara Manoukian - Greenwood Investments: Okay. Now, you mentioned about commercial and increased activity internationally, and that you are working on, I guess FAA equivalent internationally. What is the time frame for getting approval internationally?

Yes, I didn't mention that. E-A-S-A -- or we kind of say it EASA -- is the FAA, the international equivalent, the agency in Europe. They have a correspondent relationship with the FAA. We actually submit our documentation to the FAA, who then proposes it on behalf of the American-based companies into Europe. And then they go through their process. With any certification agency, we can't predict how long it takes. But certainly, we would expect something in the next quarter. Tamara Manoukian - Greenwood Investments: Okay, so it is significantly less than here. And…

Actually, Tamara, it's the other way around.

As we understand this, it appears to be significant but actually -- it is more of an administrative process. There's a cross-certification agreement between European and American [Air awareness] authorities. And what we are doing here is saying, here is the certification documentation that we have for our airplanes here in the States. Mr. Europe, do you have any problems with this? And they take two to three months probably to read the papers and say, no problem. But we don't expect any particular problem. There may be something that occurs that causes us to have to give them a little bit more information. But it is not a full certification process. It is a re-reading of the documents, if you like by the Europeans to see if there's nothing in there which would contravene their rules. Tamara Manoukian - Greenwood Investments: Okay, fair enough. Now there was a press release about extended functionality of Eclipse [fly back]. Do you get better margin or do you get better dollar margin, is there any benefit for you from that functionality?

That’s not -- I would say the benefit to us is in the marketplace that shows again how flexible and adaptable our system is to changes like that. Any comments on the arrangements with Eclipse and us in terms of financial agreements, we cannot comment on that because of confidentiality. But we do see a benefit showing how our product line is easily extended to pick up additional functionality.

And there's no downside. Tamara Manoukian - Greenwood Investments: And one last question, on the income statement, you had other income of $300,000. What is that related to?

I will try to do this very concisely. Basically, the short swing profit rules in the marketplace do cause any shareholder who moves in and out, a significant shareholder, it will effect the returns of the company any short swing profits. I will leave it at that. It was $300,000 of benefit to the Company for the quarter. Tamara Manoukian - Greenwood Investments: Okay thank you.

Thank you very much.

Thank you. You have follow up question coming from David Campbell of Thompson Davis and Co. Please go ahead. David Campbell - Thompson Davis & Co: Yes thanks. One more question. I wondered if you could do a little bit -- explain a little bit more about the multimillion dollar contract with Clifford Development. Exactly what is that? I mean, Is that a fixed base operator, or what is going on there?

Clifford Development is a fixed base operator. What they are doing is re-engining, putting new engines on Cessna Citation legacy aircraft. To get improved performance, they need Air Data that can be provided by our product. This ADIU product line, as we call it, is an Air Data interface unit. It provides Air Data parameters to the engine control system, or the FADEC control system, and allows it to operate more efficiently. And then in turn, then, that efficiency allows the operator to get additional range, better fuel consumption. It is a product that's right up our alley in terms of our technology, our approach to precision data that is required by what they're trying to accomplish. David Campbell - Thompson Davis & Co: So this is in addition to the Cessna legacy orders for flat panels.

Yes, but its only a matter of a totally different customer. We're not doing this with Cessna. We're doing it with Clifford, who is doing engine upgrades or engine replacements to Cessna aircraft. Two separate contracts, based on the same platform, but totally separate. David Campbell - Thompson Davis & Co: Okay. Thank you very much.

Thank you David

Thank you David.

We're just about getting to the end of this. I don't know if anyone has a last question?

Thank you. Your final question is coming from David [Zorub] of Hawkshaw Capital Management. Please go ahead. David Zorub - Hawkshaw Capital Management: Thank you for letting me slide in here. I wanted to clarify one of my earlier questions, and then I have one last question. When I asked about your prior comments on Eclipse being about half of the 40-ish million in revenues as indicated last quarter, and you said you still expected that to be the case. That would imply about $20 million in revenues. So to ask it slightly differently, do you still expect to Eclipse to be approximately $20 million, or is it you expect them to be about half of whatever revenues you do end up doing this year?

I think in the 10-Q…

We will release information in the 10-Q. But at this time, we're not prepared to comment further on that revenue impact. David Zorub - Hawkshaw Capital Management: Okay. And then, John, I think I followed most of the explanation around the valuation allowance. Can I ask was there -- typically, we tend to see valuation allowances occur around the end of a fiscal year. Was there something in particular that necessitated it being done kind of midyear? And as I understand it, you pointed out, you emphasized that it's going to be a non-cash impact. But to be able -- does this mean you can -- at this point, you essentially don't have what amounts to I guess an NOL. But if you were to -- but if your auditors were to deem it appropriate in the future, you still could utilize them, or they are gone forever?

I will try again to stay very simple here and slow; it is a complex subject, and we have spent a good bit of time ourselves thinking and looking at this. Really, in my mind, you divide it into two worlds. You have your financial reporting, and you have your statutory or IRS world. The NOLs are there from past, and the financial, FAS 109 does require us to, based upon our recent experience in the past two years, as well as the current year to date with the legal expense and so forth, to remove the future benefits of those net operating loss carryovers, on the premise that looking forward, there is no benefit potentially, although we believe and can see our way clear to pretax profits -- the carryforward period, by the way, is 20 years, so I mean that's a huge carryforward period. The minute that several factors, and another factor I just want to raise is Congress is considering right now as we speak, the potential to carry those losses back four years. In the event that would become reality, that would immediately allow us to recognize that asset, and as we have done before, turn it into cash. So in the settlement of this legal case that was mentioned earlier, again, another factor that could potentially cause a reversal of this valuation allowance. So I guess to your question, the losses there, it is what it is. This is simply a reserve against that asset. The asset did not go away or disappear. It is basically something at this moment in time we have to, in effect, call out as a zero-value net book value. But we do fully anticipate realizing that value, either through our carryback or future tax profits. But right now, given the FAS 109, paragraph 17 to 25, we can't carry it on our balance sheet. David Zorub - Hawkshaw Capital Management: And what was the primary motivation or test that resulted in having to do that now as opposed to at some later date?

Well, this move back in the revenue, and frankly, the past two years, the Financial Accounting Standard focuses from a weighing perspective on the most recent two years, as well as current year-to-date results. And the fact that we did pull our forecasts back as well as the past two years, basically as much as we feel very positive and we completely intend to achieve profitability and results as we set in the fourth quarter, the rule of the accounting standards basically caused us to put more weight on that history and the year-to-date results. So we're just following and being disciplined and an interplay between Deloitte and ourselves, in trying to make sure we're calling it right. David Zorub - Hawkshaw Capital Management: I appreciate the clarification.

Okay. Thank you

Thank you everybody.

Thank you. This concludes the question-and-answer portion of the call. At this time, I will turn the floor back over to your hosts for any closing remarks.

I think everything that needed to be said has been said. Thanks for your time.

Thank you. This concludes today's Innovative Solutions and Support second quarter 2008 Earnings Call. You may now disconnect.