Geoff Hedrick - Chairman, CEO Shahram Askarpour - President Rell Winand - CFO

Good morning and welcome to the Innovative Solutions and Support Third Quarter Fiscal 2015 Earnings Conference Call. All participants will be in listen-only mode. [Operator Instructions] After today's presentation by management there will be an opportunity to ask questions. [Operator Instructions] Please note, this event is being recorded. I would now like to turn the conference over to Mr. Geoffrey Hedrick, Chairman and CEO. Mr. Hedrick, you may begin.

Good morning. This is Geoff Hedrick, Chairman and CEO of Innovative Solutions and Support. I would like to welcome you this morning to our conference call to discuss third quarter 2015 results, current business conditions and our outlook for the remainder of the fiscal 2015. Joining me today are Shahram Askarpour, our President and Rell Winand, our CFO. Before I begin, I would like let Rell to read our Safe Harbor message.

Thank you, Geoff and good morning everyone. I would remind our listeners that certain matters discussed in the conference call today including operational and financial results for future periods are forward-looking statements that are subject to risks and uncertainties that could cause actual results to differ materially either better or worse than those discussed, including other risks and uncertainties reflected in our company's 10-K which is on file with the SEC. Now I'll turn the call back to Geoff.

Thank you, Rell. Revenues for the third quarter were $4.9 million with gross margins of 39.2%, up on a sequential basis from 30% in the second quarter. Both revenues and margins reflect an increasing proportion of higher margin and production revenue. From a cash perspective, we have generated positive operating cash of approximately $150,000 in the quarter and so far this year cash flow from operations has improved by $2.5 million from last year. We have more cash today than we did at the same time a year ago, as Rell will detail in a minute. Losses for the quarter were primarily a result of a valuation allowance that is non-operational and which contributed further all – the quarterly viability we've anticipated this year. For the quarter we committed an increased investment into internal research and development, relative to the last year’s sales, even though sales have been half of those a year ago. Despite the increased investment we have reduced total operating expenses. After a purely and dedicated to developing customer specified products, we are returning to the roots of our new product innovation. Already we have created our – a latest product the IGNS or Integrated Global Navigation System. It’s difficult to find a more remarkable solution to the growing challenge of upper grade – updating over FMS, that’s Flight Management Systems aircraft to meet the new FAA NexGen requirements. Since the only on the road [ph] solution is a completely new FMS, the price performance we believe cannot match the I&S. Longer term we believe that the key to sustainable growth is a more sustainable backlog. Our focus is on our traditional strength, leveraging the latest advancements and technology from other industries and rebuild our backlog. Over the past several months even as our efforts were getting started, we have successfully generated a strong book and bill our orders. Now with an ever broadening range of applications for which we are certified and qualified, we are focused in taking our success to the next level by aggressively marketing into military, commercial air transport, and business jet markets, which include international markets with a new seasoned professional’s sailor’s team. While it maybe a bit premature to mention anything specific, I am optimistic we will be able to announce several successful efforts in the very near future. In just a few short months, we've bee successful or completing reorient hedging the company into a more opportunistic organization working on a magnitude of growth opportunities. We have worked through challenges related to balancing the organization, to wind down key development programs, while gearing up for rapid fire demands of book and bill and long-term manufacturing process. We are reallocating resources to add to our sales and marketing effort. IS&S is in the discovery/phase of our suit with Delta, taking their compliance to the terms of our contract. Effective July 31, Rob Mionis, a member of our Board of Directors resigned to focus his energy on his position as President and CEO of Celestica. On behalf of the Board of Directors, the company and myself personally, I'd like to extend our deep appreciation for Rob's very valuable contribution over last 5 years and we wish him well in his new position. Now let me turn it over to Rell for a description of our financial performance.

Thank you, Geoff. And thank you all for joining us this morning. For the three months ended June 30, 2015, the company reported sales of $4.9 million, down from $10.6 million in the same quarter a year ago. Performance for this period is consistent with the variability and quarterly performance we anticipated this year. In the third quarter, product sales were $4.1 million; or 84% of total third quarter revenues. With development contracts nearly completion, we expect an increase in the proportion of revenues generated on product sales – on production sales. By contracts, second quarter product revenues comprises – due in part to this increasing proportion of production revenues, gross margin for the third quarter were 39.2% up nicely on a sequential basis from 30% in the second quarter. In addition, our development contracts were yielding a better a margin than what we realized in the past. Although the increase in the proportion of product revenue is expected to have a positive impact on margins, product mix and revenue levels may continue to cause some quarterly margin variability. Total operating expenses in the quarter were $2.2, which is flat with the second quarter and down about 300,000 from a year ago. Of total operating expenses, approximately $1.4 million was SG&A, which is down sequentially from $1.6 in the second quarter, as well as significantly less than the $1.9 million incurred in a year ago quarter. The continued reduction of SG&A reflects certain actions taken earlier in a year to better align our cost structures at current business conditions. At the same time, SG&A includes additional legal expenses arising from a Delta litigation which will impact our ongoing general and administrative expenses. Recently we have been investing some of savings from lower SG&A spending in efficiently internally funded research and development. As a result, R&D expense for the quarter rose to 800,000 even though revenues were less than half of that at the prior period. We remain committed to investing in new product, research and developments. For the third quarter we reported an operating loss of 275,000. As note in our press release in the third quarter we recorded 3.3 million non-cash valuation allowance to our deferred tax assets. Deferred tax asset balance now reflects the company's estimate of the amount that can be realized in fiscal '15 and fiscal 2016. This valuation allowance reflects a conservative approach to the realization of future benefits of deferred tax assets in future periods. As virtually all of our loss in the quarter was non-cash, we have more cash on the balance sheet today than we did at the beginning of the year and we are full debt free. For the third quarter, we generated approximately $150,000 in cash from operations, a significant turnaround compared to over 800,000 of cash used in operation during the third quarter of last fiscal year. So far this fiscal year, we have generated over $900,000 cash from operations, whereas over same period last year we consumed over $1.6 million of cash. Year-over-year that’s an approximately $2.5 million improvement. We believe the company has sufficient cash from operations for the foreseeable future. I'd like to now turn the call over to Shahram. Shahram?

Thank you, Rell. Good morning, everyone. I would like to provide an update on our progress during the third quarter, as well as our current plans and strategy. During the third quarter, we continue to make progress with our plans to improve efficiencies, control operating expenses, invest in new product development and continued the process to rebuild backlog. We reassigned key resources to pursue other opportunities, as a result of Delta program development. We strengthened our engineering department, by addition of a leader that comes to us with extensive background of winning very large program. I've also been strategic – we have also taken strategic steps to increase our operational efficiencies by further improving processes. We believe the adjustments needed to resize our operations for current market demand are now completed. In addition, talented engineers previously working on completed programs have been transitioned on to new, internally funded research and development projects that we expect to offer more profitable returns shortly. Some are also supporting our sales and marketing teams with their technical expertise. As Rell detailed, we have increased efficiency on a year-over-year basis, and operating costs have been reduced, while research and development investments has been increased. In the third quarter we received FAA Supplemental Type Certificate for installation of our Integrated Standby Unit on the Boeing 757 and delivered it to our large customers. More products certified on more platforms, we are getting increased bid opportunities that we anticipate will lead to more booking ship orders in which we quickly ship more profitably of the shelf [ph] product. In just a few short months, since we implemented these adjustments, our internally funded R&D has introduced its first new product the IGNS or Integrated Global Navigation System that delivered d required navigational performance, RNP worldwide. The IGNS is a solution to the problem of operators who want to update to the latest NextGen technologies and be able to keep their existing flight management system without any significant downtime or expense. Our solution provides the operators with a GPS data required for the ADS-B Out mandate of 2020, enables airlines to keep their existing flight management systems and multimode receivers and gain the benefits of NextGen technology at an affordable price. The OEM solutions are of upgrading the flight management systems and multimode receivers to overcome limited memory, efficient navigation capabilities and lack of GPS technology to RNP and ADS-B compliance is extremely costly and unacceptable to many operators. By building RNP capability into our display that are easily retrofitted and installed – installation of our high performance Beta 3 GPS sensors we provide the most desired low cost solution that are aggressive ADS-B, RNP and LPV capabilities. For those operators who prefer not to operate at their primary state, we offer this solution in a smaller, easy to install Standby Unit, coupled with our Beta 3 GPS sensors. This solution enables the operators to perform RNP and LPV approaches that are beyond the capability of their existing management systems. This solution also enables them for ADS-B out compliance. The new IGNS is initially being certified with the Boeing 757 but we anticipate that it will be subsequently qualified for a wide range of platform. Quickly looking at our various programs. We have now completed three of our installations of NextGen, CNS ATM compliance Flight Deck on the C-130 and L-100 aircraft. The system is designed to work for both aircraft types and includes our cockpit displays, warning system, flight management system and integrated Standby Unit. We see opportunity in the military market with this offering and are aggressively marketing the product. The Pilatus PC-24 engineering development program have now successfully completed the first flight and is progressing with a series of flight test required for certification of a new aircraft. We understand that the aircraft program is on target and anticipate our production deliveries to commence in late 2016. Our Boeing KC-46 program is also proceeding at anticipated. As Geoff mentioned, growing our backlog is a major initiative at Innovative Solutions and Support right now. We have been strengthening our sales and marketing department to help widen the geographical reach of our products. Earlier that are showing early progress on Europe, and Far East, where a conservative sales and marketing effort has led to potential new and increased opportunities. Given the long lead time in developing large contract opportunities where prioritizing are efforts to restore we apply our resources to those that offer the greatest reward in the largest markets. In particular, we are seeing interest in our flat panel display and Standby systems from European operators of Boeing 757 and 767. We are optimistic that our work developing these opportunities will be rewarded with attractive contact in the near future. I would now like to turn the call back to Geoff.

Thank you, Shahram. Just going to 2015, it’s been a year of the testament. We have always managed the business for both short term and long-term. Consequently we find ourselves in favorable fortunate financial position with more cash on hand than a year ago. We believe that with a growing portfolio the industries best price for performance technologies and implementations with the worlds leading aircraft owners and operators we are – we have a strong foundation on which to build on. Now we have adjusted our current business kit. Now that we have adjusted to our business conditions we believe that the organizations is operating more efficiently and we are taking the actions and making the investments that will enable us to capitalize on the expanding market and growth opportunities we see across the various sectors. We thank you for your continued interest and support. Operator, we're ready to take questions.

[Operator Instructions] First question comes from Scott Louis from Louis Capital. Please go ahead.

Morning.

Yes. Good morning. Scott Louis from Louis Capital. I just a had a question on the Boeing 737 flight management system. Have you gotten any additional feedback from NMSA [ph] and how are marketing efforts going on that platform?

We have two aircraft flying with the equipment right now, the two aircraft we committed to retrofit and I guess there is still we're being getting a third aircraft. But right now the two aircraft that they hold, we've modified it, and they are both in normal operations. We continue to build some enhancements to it and we'll probably do that for the next six months responding in part to some their request for some additional features. But it’s going very well.

Okay. Thank you.

Thank you.

[Operator Instructions] As there are no more questions. This concludes our conference for today. Thank you for attending today's presentation. You may now disconnect.