Comtech Telecommunications Corp /De/ Q3 FY2023 Earnings Call

Welcome to Comtech's Fiscal Q3 2023 Earnings Conference Call. As a reminder, this conference is being recorded today, Thursday, June 8, 2023. I would now like to turn the conference over to Mr. Robert Samuels of Comtech. Please go ahead, sir.

Good afternoon, everyone, and thanks for taking the time to dial in today. I'm Rob Samuels, Comtech's Head of Investor Relations. Welcome to the Comtech Telecommunications Corp's conference call for the third quarter of fiscal year 2023. Today, I'm here with Comtech's Chairman, President and Chief Executive Officer, Ken Peterman. We're also joined by Mike Bondi, our CFO. Before we get started today, I'll say that both myself and Ken are always available to answer questions our investors may have. So, please get in touch if you want to organize a meeting to talk about the company, our results, or our strategy. We also have a detailed discussion of the quarter in our shareholder letter available on our website. And we have also been working to communicate directly about our business and our market between quarters in our blog, Comtech Signals. Finally, let me remind you of the company's Safe-Harbor language. Certain information presented in this call will include, but not be limited to, information relating to the future performance and financial condition of the company, the company's plans, objectives, and business outlook, and the plans, objectives, and business outlook of the company's management. The company's assumptions regarding such performance, business outlook and plans are forward-looking in nature and involve significant risks and uncertainties. Actual results could differ materially from such forward-looking information. Any forward-looking statements are qualified in their entirety by cautionary statements contained in the company's Securities and Exchange Commission filings. Now, I'm pleased to introduce the President and Chief Executive Officer of Comtech, Ken Peterman. Ken?

Thanks, Rob. Hello, everyone, and thanks for joining us. In less than two weeks from today, my senior leadership team will spend the day with me speaking in depth about our company and its future at our first ever Investor Day. We are holding this exciting event in our state-of-the-art facility in Chandler, Arizona and we invite you to confirm attendance as soon as possible if you haven't already. Since I took the role of CEO and President of Comtech just 10 months ago, our business has embarked on a transformational journey that has been both exciting and challenging, filled with notable achievements and valuable discoveries. We set forth on a comprehensive strategy to reshape the enterprise, enhance operational efficiency and usher in a new era of hybridized connectivity with Comtech's expertise and technology leading the way. Now, as we approach the end of year one of our journey, I'm proud to report that we are right where we want to be, if not slightly ahead of schedule. The first thing I will call out, which Mike will speak to shortly, is that we have delivered three sequential quarters of revenue and adjusted EBITDA improvement. In fact, this marks our 6th consecutive quarter of topline revenue growth, which is to say, I am very pleased with the direction and credibility that we are establishing around our financial performance. As pleased as I am with Comtech's overall financial performance and the upward trajectory in our results, I want to highlight that since I became CEO and President, we have met or exceeded the guidance we have offered to our investors. That is important to me personally, because I believe this demonstrates that Comtech is intent on meeting several key commitments we made to our investors since day one of my tenure. Now let's take a few moments to examine what our collective team has accomplished within just these first 10 months. First, let's discuss our growth initiatives. We established EVOKE as our technology incubator here at Comtech, securing valuable technology partnerships and beginning a series of collaborative customer workshops to accelerate our ability to support our current and prospective customers with more complete solutions. We strengthened incumbent positions across our portfolio, spanning a variety of attractive growing end markets. And we positioned ourselves to exploit emerging wireless and satellite technology and communications inflection points by leveraging our established market positions as launch platforms for growth. Next, let's discuss our profit improvement initiatives. We assimilated our historically disparate siloed businesses into two streamlined segments, operating on common tools and processes. We launched strategic goal deployment processes throughout the enterprise to measure our progress against meaningful KPIs to establish a foundation from which to significantly improve our operational performance. We implemented profit improvement initiatives that will meaningfully reduce operational costs and improve our margins, financial performance and enhance shareholder value. And finally, we identified opportunities to strengthen our balance sheet and our financial flexibility. Now, as for our human capital, in our ESG DEIB initiatives, we launched our first ever company-wide people strategy, recognizing that people are one of our most important assets. By solidifying strategic partnerships with leading technology universities, we established our first-ever company-wide university internship program to develop a more robust talent pipeline. And to accelerate our progress toward one Comtech, we continued to attract experienced thought leaders with proven track records and directly relevant industry experience. I must say that I'm particularly excited about the additions of Mr. Don Walther and Ms. Nicole Robinson to our team, and I'll speak to that more a little later. Notably, our people strategy extends beyond the organic development of our talent pipeline and even the addition of proven leaders to our team. Our strategy also includes regular assessments of the capabilities, experiences, and skill sets of our Board members to ensure continued alignment with our short and long-term goals and objectives. To that end, it is my pleasure to announce our two newest Board members, effective June 15, 2023. The Honorable Ellen M. Lord. Ms. Lord formally served as the U.S. Under Secretary Defense for Acquisition and Sustainment through January of 2021. In this capacity, Ms. Lord was responsible for the Secretary of Defense for all matters pertaining to acquisition, logistics and materiel readiness. The acquisition workforce itself and even the defense industrial base. Prior to this appointment, Ms. Lord served as the President and Chief Executive Officer of Textron Systems Corporation, a subsidiary of Textron Incorporated, where she led a multi-billion dollar business with a broad range of products and services supporting defense, homeland security, aerospace, infrastructure protection, and customers around the world. Importantly, the same global growth markets that Comtech looks to serve. Lieutenant General Bruce T. Crawford, retired. Lieutenant General Crawford became the U.S. Army's Chief Information Officer, the CIO G6 in August of 2017 and served in this role through his retirement in July 2020. A recipient of the Distinguished Service Medal with one Oak Leaf Cluster among other awards and decorations, Lieutenant General Crawford was the principal advisor to the Secretary of the U.S. Army, setting strategic direction and objectives for one of the largest employers in the world and supervising all U.S. Army command, control, communications and computers or C4, and information technology functions, making Lieutenant General Crawford an ideal candidate for Comtech's Board as we seek to serve and support the convergence of multiple network modalities and technology inflections at home and abroad. Now, let me speak to our financial results. A clear indicator that our commitment to One Comtech is working will be consistent improvements in our financial performance. For the past several quarters, we have streamlined our business operations and reduced our operating costs. This has enabled us to meet or exceed our financial targets for net sales and adjusted EBITDA, while managing complex economic risks. As you can see from the results reported today, we delivered improved performance while remaining focused during this transformational period where we are driving significant change across our business. Specifically, Comtech grew net sales for the 6th consecutive quarter. Cash flow provided by operating activities for the quarter was $16.6 million. We improved adjusted EBITDA to $12.5 million or 9.2% margin. We announced three new EVOKE technology partnerships with Aarna Networks, Descartes Labs, and WishKnish in addition to Sirqul, our first publicly announced EVOKE technology partner. And looking ahead, we expect our fourth quarter fiscal 2023 results to improve with consolidated net sales anticipated to grow sequentially between 2% and 4%, and for consolidated adjusted EBITDA margins to be in the range of 9.5% to 10.5% of consolidated net sales. We expect to realize ongoing benefits from our investments to restructure and optimize operations. In particular, our benchmarking efforts conducted to date as a part of this transformation are providing key insights into opportunities to improve efficiencies and accelerate decision making. At the start of this journey, I stated that we needed to act swiftly and with purpose, and it's clear that we are meeting this goal. We believe that our lean initiatives implemented during the third and fourth quarters of our fiscal 2023 will yield a more favorable cost structure for our business as we approach the start of our fiscal 2024. These actions target multiple aspects of our business and involve all levels of management as we move aggressively to improve our business processes by leveraging the expertise and proven track record of our refreshed leadership team. We are sensitive, of course, to the impact these changes have on certain members of our team, but we remain committed to building a stronger Comtech. As planned, during this past quarter, we completed our migration to our state-of-the art technology and manufacturing facility in Chandler, Arizona. This facility is at the center of our One Comtech transformation and houses some of our most innovative research and development initiatives, including our EVOKE innovation foundry and our new customer experience center. We look forward to hosting our Investor Day at our Chandler facility on Wednesday, June 21, to offer a first-hand experience of how our vision is becoming a reality. You'll be able to meet the team during our transformation and have opportunities to experience some of the innovation and cutting-edge technology at the heart of our strategy to drive One Comtech. During our upcoming Investor Day, you will hear us discuss how we are not simply fluent in the future; we are creating it today, bringing to life the future of Comtech and the market itself. Importantly, while it is vital to look as far down the road as possible and even see around corners, we must not lose sight of the present. For us, that means solving our customers' toughest problems today and strategically partnering with them to leverage our culture of innovation and accelerating technology trajectories to overcome their current and future challenges like never before. Over time, our markets have evolved and are growing. Satellite and terrestrial network infrastructures will blend and hybridize toward ubiquity on a global scale. It's clear to us that we can create value, not just by transporting data across these blended networks, but by leveraging data to reveal insights that create customer value in new and differentiated ways. We believe Comtech is well-positioned to exploit the opportunities created by these convergences due to our technology leadership and incumbent positions in the underlying capabilities that provide these data-enabled insights. Further, we expect Comtech's longstanding technology leadership and increasingly innovative culture to identify new ways to accelerate growth and profitability. The foundation that we're building today is already delivering improved performance as we launch our lean initiatives. Continuing to streamline our cost structure, further optimize performance, and instill a culture of discipline and commitment, we are creating a sustainable framework that we believe will create shareholder value for years to come. We're generally excited about Comtech's future and we are committed to delivering results every single day for our customers, our partners, employees, and shareholders. In summary, indicators of our progress are clearly visible all around us. And I believe that our transformation to One Comtech is working and that our future is bright. Mike?

Thanks, Ken. For Q3 fiscal 2023, we recorded $136.3 million of consolidated net sales, of which $82.2 million or approximately 60%, were reported in our Satellite and Space Communication segment and $54.1 million were reported in our Terrestrial and Wireless Network segment. Our third quarter net sales represented a 1.9% sequential increase over last quarter and, as Ken mentioned, our sixth consecutive quarterly increase. Compared to Q3 fiscal 2022, our Q3 fiscal 2023 net sales increased $14.2 million or 11.6%, primarily reflecting significantly higher net sales in our Satellite and Space Communication segment. Our consolidated gross profit percentage for Q3 fiscal 2023 was 31.7% and primarily reflects an increase in net sales and overall product mix changes, including significantly higher net sales of our troposcatter and SATCOM solutions to U.S. government customers within our Satellite and Space Communications segment, which as a reminder, historically achieved a lower gross profit percentage than the recurring type software-based sales included in our Terrestrial and Wireless Network segment. Also contributing to the change in margin was that Q3 fiscal 2022 benefited from lower warranty expense in light of the reduced level of sales activity during that prior year period. As explained in more detail and reconciled in our Form 10-Q filed earlier today, we utilize a non-GAAP measure that we referred to as adjusted EBITDA. Q3 fiscal 2023 adjusted EBITDA was $12.5 million or 9.2% of consolidated net sales, as compared to $11.2 million or 9.2% of consolidated net sales in Q3 fiscal 2022. The increase in dollars primarily reflects the benefit of our One Comtech lean initiatives implemented through April 30, 2023, offset in part by a lower gross profit percentage. Bookings this past quarter totaled $102.8 million, representing a quarterly book-to-bill ratio of 0.75 times. Our current revenue visibility approximates $1.1 billion and is equal to the sum of our $668.4 million of funded backlog plus the total unfunded value of certain multi-year contracts that we have received and from which we expect future orders. Overall, our consolidated Q3 fiscal 2023 net sales and adjusted EBITDA were in line with our guidance provided last quarter. Now, I will turn it back over to Ken for some closing remarks.

Well, thanks, Mike. As excited as we are about how our culture of innovation, technology leadership, and the power of collaboration, enabled by our transformation to One Comtech is creating a bright future, we are more deeply focused ever before toward meeting our daily commitments to our customers, our shareholders, and ourselves. The foundation that we're building today is already delivering improved performance. As we launch our lean initiatives, continue to streamline our cost structure, further optimize performance, and instill a culture of discipline and commitment, we are creating a sustainable framework that we believe will create shareholder value for years to come. Now regarding new additions to our leadership team. As I mentioned earlier, we are attracting a lot of excitement across our markets. In this quarter, we continued to enhance our leadership team with several key appointments, designed to maximize our ability to compete and deliver across our global market segments. We appointed Don Walther as Comtech's new Chief Legal Officer and Nicole Robinson as Chief Strategy Officer. Don has significant technology and aerospace industry experience in both public and private companies in the commercial and defense sectors with his previous experiences at ITT and Boeing. He will focus on ensuring Comtech's competitive differentiation through contracts is preserved and protected. Nicole is well known across our industry. Prior to joining Comtech, she served as President of Ursa Space Systems, a leading satellite intelligence and data analytics provider. She will focus on creating and implementing priority space business pursuits, oversee the development and implementation of new technologies, orchestrate global growth initiatives, and lead other priorities related to geospatial imagery and data as well as space communications in both U.S. and international markets. Regarding our EVOKE partners. In the early days of my tenure as CEO, we envisioned and then established EVOKE as Comtech's innovation foundry, which is dedicated to creating and accelerating transformational changes in global technologies, and we believe that EVOKE will enhance our existing technologies and service offerings. Examples include cloud-native satellite ecosystems, 5G advanced services and as-a-service business models, as well as allowing us to pioneer entirely new ideas and opportunities with the benefit of multiple perspectives, industry backgrounds and areas of expertise. Through partnership, we are able to quickly prototype ideas and test the market readiness. This new and rapid method will allow us to expand our capabilities and could potentially allow us to capture market share at an unparalleled rate. During the most recent quarter, we were pleased to announce that we added several new partners to EVOKE's growing roster, including Aarna Networks, Descartes Labs, and WishKnish Corporation. By combining Aarna Networks' technologies with Comtech's dynamic cloud platform, the companies anticipate enabling customers to easily add and manage a variety of open architecture, cloud-based applications across private, hybrid, and public networks in both terrestrial and non-terrestrial environments. Descartes Labs will work with Comtech to infuse the power of artificial intelligence, machine learning, predictive intelligence and insight monitoring across Comtech's product offerings. As for WishKnish, we plan to collaborate with them on integrating highly secure, flexible distributed ledger or blockchain technologies across diverse commercial and government applications. Looking ahead, not only can you expect to see Comtech foster partnerships with businesses from multiple sectors, but also with leading universities around the world to ensure we remain at the forefront of emerging technologies. We intend to match the rate of change we see transforming global communications by forging collaborative partnerships across industries and academia to ultimately create value for individuals, communities, governments, and businesses in a new era of connectivity. So, in summary, as I approach my one-year anniversary leading Comtech, I'm even more excited today than I was on August 10 of last year when I took on this role as your President and Chief Executive Officer. My increasing excitement stems from a variety of factors. The assimilation of our legacy business silos into two business segments allows us to be more collaborative and agile with respect to decision making. The profit-improvement initiatives we are implementing are further improving efficiencies in our business. The rollout of company-wide processes is instilling stronger and more consistent process discipline, improving operational effectiveness, and optimizing business performance. EVOKE has fostered collaboration with new technology partners and is positioning us for accelerated growth and the ability to exploit the emerging and converging markets and technologies. Our customer workshops are revealing immediate opportunities to create more comprehensive customer value. As satellite and terrestrial network infrastructures blend and hybridize on a global scale, we believe we can create value, not just by transporting data across these blended networks, but by leveraging data to reveal insights that could create customer value in new, unique, and differentiated ways. Again, I believe that Comtech is positioned to win in a rapidly evolving market that is demanding faster innovation, better collaboration, improved agility, and more comprehensive customer value than ever before. Our communications network infrastructures are evolving and we have clear opportunities to leverage our technology leadership in connectivity and data transport to provide data-enabled customer insights. Further, this value creation can be monetized in innovative ways that we believe will significantly enhance shareholder value. Finally, the hard work we have done these past 10 months is building the foundation we need and paving the way for exciting days ahead. Now in closing, before we take your questions, I'll quickly make some final observations. We are only 10 months in and we're only getting started. We have a refreshed leadership team with experience and knowledge who are moving quickly and with purpose. Our Board has also been refreshed with some of the industry's leading professionals. Our EVOKE partners are some of the most dynamic and exciting experts in their fields and we are leaner and more agile as we relentlessly turn towards the future to solve our customers' most pressing challenges and bring unprecedented value to them, our people, and to our shareholders. With that, I look forward to meeting with you on June 21. And as always, I appreciate your engagement and continued support. Now, I will turn it back over to Rob.

Thanks, Ken. Operator, we will now open the call for questions.

Yes, sir. And our first question will come from Joe Gomes with NOBLE Capital. Your line is open.

Good evening. Congrats on the quarter. Thanks for taking my questions.

Good afternoon, Joe. Good to see you.

So wanted to start out on the terrestrial and wireless network segment. Revenues there have been pretty flat over the past five quarters. Bookings have been down for four straight quarters. Just trying to get a better idea of what is occurring in that segment? Maybe give it a little update on some of the 911 clients. You talked previously about getting some of these big states, you know Pennsylvania, South Carolina, etc., out of the deployment phase. And just trying to get a little better understanding of where that business stands today and where we can see it going here in the near future?

Hey, Joe. This is Mike. I'll take that question. So certainly a good question and one that we do plan to address more in detail during Investor Day. But broadly speaking, we are expecting growth to come in terms of some of our short-term and long-term initiatives through tracking several state awards. You did reference, some of that we have been tracking like the Ohio opportunity. There we believe that it's still moving through the House and Senate and going to the Governor for signature. So I think that's when we will have to just watch the news in the next couple of weeks. In terms of our Southwest customer, I think that one is moving around a little bit in terms of how that may come to us, but we believe that we have services and solutions that only we can provide for that opportunity set. And so we would expect at some point that to hit. But that's one to watch. We also had two state RFPs that we had submitted proposal responses for. One was back in December, the other was back in May timeframe. So there, we're just waiting for the down selection process to start. And then, I would say other initiatives that we're tracking, would be to sort of bring NG 911 type solutions to military bases. We spent some time trying to assess that market and we believe that that is a good ground for us to attack. Also looking at machine-to-machine and AI solutions, infusing that technology into 911 applications, sort of, taking it up the tier, if you will, to providing as-a-service to those clients. We also have thought about bringing some added insights to the PSAP, so they can do more, say smart dispatching with better analytics in front of them as they are trying to assess emergency situation. And we also have targeted taking our location-based services platform to international customers. We've had really good success here in the U.S. with the Tier 1 carriers rolling out their 5G platforms. And as we progress with those opportunities, we think that the international market is the next step there. So in 2024, we definitely feel that’s an area we will attack. And generally speaking, I think we have a view of as-a-service, as a theme, as we are trying to transition this segment from being beyond just a 911 upgrade provider or call routing, I think there are other things that we can do for commercial entities, and we'll talk more about that during Investor Day.

Okay, thanks. Thank you for that, Mike. And then looking at your SG&A for the quarter, obviously it was impacted by about $4 million restructuring cost. It's a little bit higher than in Q1 and Q2. If we are looking out here at Q4, should we expect a third quarter type of level or more along the first or second quarter levels in terms of any restructuring charges?

Another good question. Yes, I think in terms of our expectations for Q4, with two months to go, I think at this point, it would be reasonable to assume a level similar to what we experienced in Q3.

Okay. And one last one from me and back in queue. So, I know that you've talked about this in the past, but again if the effective interest rate is over 10% in the quarter, cash borrowing rate is almost at 9% in the quarter. Maybe you can give us a little bit better of an update of what you guys are trying to do to minimize that or bring that back down a little bit, understanding that rates have been going up overall. But you guys are paying some pretty high interest expenses here?

Yes, Joe, we are definitely focused on this, as we mentioned in our last earnings call. We are taking action and have a credit facility that will be current in October 2023. We want to make the most of this time and, while we don't have specific updates on our capital structure and alternatives yet, we are actively evaluating them. Our approach is to take a comprehensive view, aiming for long-term solutions rather than short-term fixes. We have listened to feedback from our investors and lenders, which will factor into our decision-making as we move forward. Additionally, as part of our benchmarking efforts and to enhance process discipline, we are assessing our working capital investments. This quarter, we tested our ability to achieve appropriate leverage ratios that we need to prepare for in July, and we succeeded in that. It's a significant accomplishment for the team. As we aim to grow the company through investments, we want to be disciplined in reducing our accounts receivable and inventory levels, as well as aligning our payables cycle with industry norms. We recognize that interest costs have tripled compared to a year ago, and we are certainly taking that into account. Our focus remains on addressing these issues.

Thank you again for answering the question. Much appreciated.

Thanks, Joe.

Thanks, Joe.

Our next question will come from George Notter with Jefferies. Your line is open.

Hi, guys. Thanks very much. I guess I wanted to ask about margins, obviously a softer quarter on gross margin here. And certainly, it's coming from the satellite and space business. I heard what you said regarding Tropo, but can you talk about kind of the puts and takes there? And what do you expect for the margin trajectory going forward?

In Q3, we experienced significantly higher net sales of our Tropo and Satcom solutions to the U.S. government and customers. There were three main items we delivered this quarter. First, we provided VSAT equipment to the U.S. Army, which comes from a cost-reimbursable contract. As previously noted, these contracts offer good cash flow but have low profit margins, reflecting a legacy transaction. Second, we started to perform on our U.S. Marine Corps project, which was priced before COVID. This contract, awarded back in 2019, took time to finalize, with orders arriving in the fall of 2022. Inventory is now being delivered, which had a notable impact on the quarter due to lengthy lead times and pre-COVID pricing. Additionally, we sold some COMETs intended for Ukraine, which carry higher margins. However, when considering all three items, we observed that our sales were more concentrated in the satellite and space segment, traditionally associated with lower margins compared to terrestrial wireless, which has more recurring software sales. Thus, the combination of these transactions affected the margins. Looking ahead to Q4 and fiscal year 2024, with our One Comtech initiatives, we anticipate improvements in satellite and space margins. As we deplete backlog with suboptimal pricing and replace it with newer items, we expect to see a turnaround in our margins.

Got it. That's great. And then you mentioned the COMET project to Ukraine. Was that the case where those products had been written off from an inventory perspective, and therefore, you sold them and they came through a really good margin. And now we've got a non-repeat of that business this quarter. Is that the dynamic you're describing?

No, this was not a write-off or a sale of written-off inventory. Back in 2022, around February, we were tracking a significant order with Ukraine as the end customer for the COMETs. This order was postponed due to the invasion by Russia, but we believed the opportunity was not lost, just delayed due to their transition to ground warfare. They returned to us in August and September to place the order, driven by an urgent need for the equipment, and we shipped it out quickly. Most of the shipments occurred in our Q1 and Q2, with a few additional units sent out in Q3, but not to the same extent as in Q1 and Q2.

But some extension and continuation of that initial order, George.

Got it. Okay. So it's a non-repeat of that business that hurt you by comparison relative to prior quarters, okay. Super, that’s all I had. Thanks very much.

Thanks, George.

Thank you. Our next question will come from Asiya Merchant with Citi. Your line is open.

Thank you very much. Could you provide an overview of the margins, particularly the EBITDA margins on direct deals? They seem a bit softer compared to last year. I understand they increased sequentially, but could you clarify what is causing this? Are these new contracts ramping up with lower margins? Looking ahead to fiscal '24, do you anticipate margins returning to levels from a couple of years ago, which were above 20%? Is that a reasonable expectation for fiscal '24? Additionally, your fiscal 4Q outlook suggests an increase of 2% to 4%. Aside from an extraordinary sales quarter back in 2018, that appears underwhelming compared to the usual performance, which is typically over 4%. So, with a midpoint of 3%, is this conservative? If you could elaborate on that, I would appreciate it.

Yes, we'll break it down. There are several questions in your comments. Regarding the margins in terrestrial and wireless, this is an area we are definitely concentrating on as we approach fiscal year 2024. I believe I represent the team's sentiment; we are all eager for the award of several large opportunities that will help restore economies of scale in that segment. While we await those awards, we are conducting our benchmarking and, as part of our effort to unify the companies under One Comtech, we have pinpointed opportunities to enhance our margins moving forward. I have mentioned some of those initiatives aimed at increasing revenues and shifting towards a more software-based approach to improve margins. However, due to the long-term nature of the backlog in terrestrial and wireless, it will take time to work through that. The NG911 business started with lower margins as these were initial awards aimed at establishing relationships with customers. These are excellent contracts to have and are very long-term, with renewal options. If we perform well, we anticipate better margins as we boost recurring revenues and transition into the renewal phases of those contracts, but we are not there yet. We are likely a year or two away from seeing that progress. Nonetheless, we are increasing those revenues, and they are becoming a larger percentage of the overall segment, while the core routing business remains stable. I believe margin percentages are being affected by the NG911 business. However, we will not passively accept that. We are actively working on it, exploring new revenue streams and ways to enhance margins. We implemented some cost reductions in March, and we have not yet fully realized the benefits of this in the third quarter. We expect to see improved margins as we head into 2024. I won’t provide specific guidance on 2024 EBITDA margins just yet, but that’s the general direction we are aiming for—to return to historical margins.

Do you believe that is attainable in fiscal ‘24? I'm trying to understand if you plan to increase your EBITDA margin compared to fiscal ‘23. But are we...

I do. While I won't speak further on this, Ken might want to add something. From my perspective, we have initiated multiple initiatives related to contract and pricing, optimizing our supply chain by addressing redundancies in our management layers. We've made important decisions and explored new initiatives to grow revenue through Evoque and collaboration with our Evoque partners' technologies to generate new revenue streams. Therefore, I believe that with all of these activities combined, we have a clear path to significantly improving our margins.

If you think about the timeline, typically in a situation like this, we go through about 10 to 12 months of discovery to understand how each of our silo businesses operates, including their processes for risk management, program management, supply chain, and inventory management. It touches every part of the organization, so it takes time for us to benchmark and fully grasp everything. We are then putting together action plans to streamline operations and apply best practices throughout the enterprise. We are just entering the phase where we will start to see the impact on return on investment from these lean action plans and cost reduction initiatives that we are implementing across the organization. We expect to see this begin in the fourth quarter and continue through fiscal year 2024, with a growing impact as we implement these actions and observe their results. This, I believe, accurately characterizes fiscal year 2024.

Okay. Regarding cash for the year, you had a decent quarter in terms of cash generation. I'm assuming next quarter will also show positive cash flow for you. Is that correct?

Asiya, in terms of how I'm looking at Q4, I mean, we still have two months to go. We have some large receivables and payables that we're managing. So it definitely will come down to the timing of things. But at this point, I would say that any cash coming in, in Q4 would likely go to pay down AP and also debt, just making sure we stay within our covenants. So I would expect it to be more closer to breakeven if maybe slightly positive, not expecting a repeat of Q3 typically.

Okay. Alright, thank you.

Thank you. Our next question comes from Chris Sakai with Singular Research. Your line is open.

Yes, hi good afternoon. Can you talk about the decline in net bookings for the quarter? Was this just lumpiness in orders? And then also, where should we expect this? What would be a normalized rate for bookings in the future?

Chris, regarding the bookings profile, we began the year quite strongly. We did experience some significant orders, including the COMETs we previously discussed, along with renewals from our Tier 1 carriers. Additionally, in the second quarter, we received a substantial order from a new customer. These types of orders are not something we expect to see every quarter. When we exclude these one-time items, I believe our Q3 bookings performance was quite solid. Looking ahead to Q4, I anticipate a potentially stronger bookings profile compared to Q3, though this will depend on timing. As we know, forecasting the timing of bookings can be challenging and often unpredictable. However, I expect to see an increase in Q4.

Yes, I believe Q4 has typically been a strong quarter for us. We anticipate the U.S. government will be looking to spend, and we are well-positioned to take advantage of that. Other than that, I think the fluctuations are just part of the usual variability. I do not see a downward trend.

Okay. Sounds good. What would be a reasonable normalized rate for gross profit? I noticed it was around 32%. Should we anticipate it to be in the 34% to 35% range?

Yes. On gross profit, Chris, I'll talk in terms of consolidated. Our view is, right now, we are going through a transformation. We are making changes to our business, and so while we do see improvements, we are also reinvesting and making some tough decisions to make us stronger as we go into 2024. So while we have an eye for margin improvement, I think Q4 might look similar to Q3. And as we move into next year, I would expect to see margin improvement, but I won’t give a specific percentage right now. I think we’ll give more wholesome guidance one quarter out when we get closer to the end of Q4.

The organization is undergoing significant transformation with numerous changes being implemented. We are introducing new tools and processes and training our team to utilize them. These improvements are expected to enhance our business operations, making them more streamlined and efficient. Additionally, we are addressing our backlog, which includes some pre-COVID pricing issues that we need to resolve. I'm pleased with our consistent performance and our ability to meet our commitments and forecasts. The upward trend we are seeing in both sales and profitability is encouraging, showing that we can navigate this challenging period of transformation while maintaining positive momentum. I am optimistic about what the upcoming quarters will bring as we begin to see the benefits from our lean and cost reduction initiatives. I want to emphasize that we are on track with the schedule we established 10 months ago.

Okay. Great. Now you've mentioned that you're burning through some lower margin backlog. Can you shed any light as to how much of that backlog of the current backlog is lower margin?

Yes, Chris, I'll take that one. I would say this is more prone to be within our terrestrial and wireless segment. There, we had booked a very large amount of contracts in the last couple of years, and those are multi-year contracts. So sitting here today, you have a couple of hundred million dollars of backlog. And we think that that's going to burn off over like a 24-month period of time. And so therefore, we're going to be facing this headwind in the background for a little bit as we reset that backlog. But it's more in the terrestrial and wireless segment.

And that's one of the reasons. And of course, the cost reduction, the lean initiatives are working to offset or even more than offset any of that challenge.

Okay. Okay, great. Thanks for the answers.

Thank you. Our next question will come from Greg Burns with Sidoti. Your line is open.

So with these contracts on the terrestrial wireless side, do you have a history of pricing power? Are you able to increase prices typically on renewals? Or are these kind of first time around, so not really sure how it's going to go? Can you give us any insight into your thoughts on your ability to improve the margin?

Sure, I'll take that. These are contracts in the terrestrial wireless segment that were competitive in nature, and they were definitely first of their kind. So this is the first go around. We felt that these were important contracts for us. We wanted to be in this space and we competed and we won the work. And so these are three to five year contracts that in terms of the base award, we had to put in some CapEx upfront. We have to depreciate that as we get closer to the renewal side of it, and we amortize off the CapEx and move into recurring revenues, we do expect to see the margin improvement. It is going to take some time. So I think we're, like I said, about maybe a year or two away from burning that off and we'll be approaching some of these renewals. But we're not there yet.

I would add that I refer to these as launch platforms, these incumbent contracts where we've successfully won the state or the geography. There’s a $14.8 billion funding bill for Next-Gen 911 that passed the house unanimously. While this money might not reach the states quickly, it indicates a recognized need to evolve from human-to-human 911 calls to machine-to-machine interactions. In a 5G connected world, devices like Fitbits, cameras, and doorbell cameras can initiate a 911 call when they detect a problem that requires a machine response rather than a human one. This shift will drive the adoption of machine learning, AI solutions, data processing, and cybersecurity technologies. As a result, the number of transactions and 911-like calls will increase. This market is poised to undergo a technological transformation in the coming years, and the successful land grab we made initially is expected to lead to improved profitability and growth as we reach that technology inflection point.

Thank you for the information. I wanted to inquire about the restructuring charges you mentioned. You also referenced costs related to strategic emerging technology. Could you clarify what those entail and whether we can expect them to recur?

Sure. The strategic emerging technology costs are related to a LEO customer of ours that we are taking our technology and upgrading it and enhancing it to meet the specs of their end-use applications. So this was something that we felt was important to show our real customer that we're ready to partner with them. And as we prepare for, hopefully, production orders to start being placed as their launch schedules are starting to approach that point in time where they need to start putting out some long lead orders. So these are investments that we will continue to make. I would expect these to occur in Q4 and also as we navigate through fiscal '24. But as we get closer to production, I would say that would be the time where they would start to ramp down.

Okay, so is this work being done at the request of the customer, or is it something you're doing in hopes of receiving orders from them? Are these orders expected to come in a reasonable time frame?

Yes. We are working on this initiative using our own resources. We have agreements with the end customer to conduct specific development work in anticipation of receiving production orders in the future. While we have established contracts with the customer, we have chosen to collaborate closely since this is a new market and a competitive environment. We believe that demonstrating our support for the customer’s efforts is essential. Therefore, we decided to take on some work at our own risk this fiscal year, which we anticipate will yield positive results once the constellation is deployed. This is an investment we expect to continue making. As we approach production, we expect this work to begin winding down.

Right. Okay. And then lastly, in terms of Evoque, could you give a time frame on when we might see some, I guess, you called them last quarter minimally viable products coming out of Evoque and maybe a time frame to that and maybe a time frame to when maybe we might start to see some revenue coming from these partnerships.

Certainly. Our Evoque partners have been very engaged with us. If you attend our upcoming Investor Day, you will see their involvement and the collaborative efforts we are undertaking together. Our technology, combined with theirs, is generating greater customer value. We also have contracts and subcontracts established with some of these Evoque partners. While the competition is fierce as these growth initiatives develop, we do have agreements in place and are gaining traction. These developments are emerging from workshops with our primary customers, where they recognized the value Comtech can contribute through our technology roadmaps, as well as the added value from these partnerships. We are committed to demonstrating this for our customers, focusing on how we create value in terms meaningful to them, such as increased subscribers, enhanced revenue and profits, improved speed, and reduced operating costs. While we cannot discuss specifics right now, we are indeed experiencing positive momentum.

Perfect. Thank you.

Thank you. At this time, there are no further questions in the queue, so I would like to turn the call back over to Robert Samuels for any additional or closing remarks.

Thanks, operator. Thanks, Ken, Mike, and everyone for dialing in today. As Ken said, there are additional details about our strategy and performance available in our investor letter and SEC filings, and we'll provide ongoing insights and signals. And as a reminder, we intend to be as responsible as we can with investors going forward. So if anyone with questions, please reach out to me directly and let's connect. We look forward to seeing you on the 21st in Arizona. This concludes our third quarter call. We thank you for your continued support.

Thank you, ladies and gentlemen. This concludes today's program, and we appreciate your participation. You may disconnect at any time.