Gary Levine - Chief Financial Officer Victor Dellovo - Chief Executive Officer

Joseph Nerges - Segrum Investments

Thank you. Good morning, everyone, and thank you for joining us.

With me on the call today is Victor Dellovo, CSPI's Chief Executive Officer. Before we begin, I would like to remind you that during today's call, we will take advantage of the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995 with respect to statements that may be deemed to be forward-looking under the act.

The company cautions that numerous factors could cause actual results to differ materially from forward-looking statements made by the company. Such risks include general economic conditions, market factors, competitive factors and pricing pressures and others described in the company's filings with the SEC.

Please refer to the section on forward-looking statements included in the company's filings with the Securities and Exchange Commission. During today's call, Victor will provide you with an update on our business segments and on our strategic progress.

And then I will discuss our third quarter financials. Then we'll open it up to your questions.

Victor?

Thanks, Gary. We had a solid third quarter as we executed on our gross strategy across the high performance products and technology solutions segments.

Our cross selling efforts are gaining traction, our Managed Service pipeline is growing and we are advancing the development of our HPP product to capitalize on our rapidly growing security space. In terms of our financial performance, third quarter sales were up 13% primarily due to the shipments of our U.S.

business in a technology solution division. Backlog is strong and we expect another good quarter in Q4.

On the bottom line, we had [Technical Difficulty] due to the greater mix of high margin products in Q3 last year. EPS was $0.17 per diluted share versus $0.32 a year ago.

With that, I’ll get right into the segment review starting with the high performance product division. HPP revenues were down 41% in the third quarter driven by a tough comparison versus the prior year in the multi computer, Myricom product sales.

We received E-2D royalty revenues for 2.5 plane compared with royalties for 3.5 plane plus an additional revenue from large products that met in the comparable quarter last year. Looking ahead, our expectation is to receive royalties from two claims in Q4.

There was an Myricom ARC Series 10 gig network adapter for packet capture in media and entertainment market continue to soften in Q3 -- trend has stabilized to steady the gradual decline. To offset this sector, we remain committed to our product development strategy focusing efforts on the next generation security products which have the potential to expand the commercial market reach of the division.

During the quarter, we launched an enhancement to the Myricom nVoy solutions that enabled the automatic detection of data breach to critical databases or file stores. The newly announced Myricom nVoy AIR application when paired with the nVoy packet recorder automates not only the ability to verify a data breach but also triggers the start of the breach investigation.

Having this data at the earlier stages of the breach means that the investigation response activities can typically be wrapped up within hours of the total duration instead of the weeks that it normally takes. [Technical Difficulty] Cisco technical alliance ecosystem offering an integration with Cisco FirePOWER and Myricom nVoy AIR.

As we incorporate additional software and applications into our security portfolio, the engineering team will continue to access our ability to deliver these new sophisticated security products. We are also realigning our cost structure as we’ve developed new products.

In short, we are making good progress all in line with our gross strategy to become a data security organization. In addition to ramping up our Myricom security product offerings, we are making excellent progress with our strategy to cross sell between a high performance product division and our technology solution division.

Turning now to our technology solution business, quarterly revenues are up 28% year-over-year driven by a strong performance in the U.S. In Germany, revenues were up [Technical Difficulty].

We shipped several large orders at the end of the quarter for which we will be recording the associated revenue in Q4. Our outlook for the next quarter is positive giving a strong backlog we are seeing both products and service revenue increase and we expect this trend to continue moving forward.

In the U.K. we had a solid third quarter in which we reported a slightly down revenues year-over-year.

I am happy to announce that the U.K. received its [Technical Difficulty] quarter.

All three of our geographic locations now record MSP deals. It is important to note that good portion of the revenue in the U.K.

this quarter is primarily from where they originate in the U.S. demonstrating that the success of our strategy to cross sell between geographies is working.

Looking forward, we expect another good quarter on the top line in the U.K. as customer sales continue to ramp up.

At the same time, we remain focused on cost savings, improved efficiencies to drive better profitability out of the business. In the U.S.

sales were up year-over-year driven by a strong product sales in several new contract wins including a deal with a large multinational financial service front. During the quarter, we reallocated our network operations center in Deerfield forwarded to a large facility and we continued to make investments in addition to additional engineering staff to support the [Technical Difficulty] teams were making investments in sales capacity to focus on Managed Services.

Our Managed Service pipeline remains robust. We are closing Managed Service skills at a greater frequency and our reoccurring revenue stream is increasing.

We are also hiring engineers in the U.S. to support this growth.

We continued to have success in a vertical market such as hospitals, school systems and wireless security. Wireless security is the area that has been very consistent and is especially strong for us.

We recently hired an additional two wireless engineers to support the growth in this area; in fact we are in a process of negotiating large contracts for our wireless deployments with several large enterprise accounts. As an example, we recently won a large contract with a major cruise line for the installation of wireless security in two of their cruise ships with the potential for future business.

With that overview of our two divisions, I’ll turn it to [Technical Difficulty] for the financial review.

Thank you, Victor. For the quarter, revenues increased 13.5% to $30.5 million from $26.9 million a year ago.

Our total cost of sales for Q3 was $23.7 million, up 20.4% from the prior year due in large part to the increased revenue. Gross profit for the quarter decreased to $6.,8 million or 22.3% of sales compared to $7.2 million or 26.8% of sales a year ago in the product mix.

Third quarter engineering and development expenses decreased to $578,000 from $779,000 a year ago due to lower consulting and outside service costs. As a percentage of sales, Q3 engineering and development expenses were 1.9% compared to 2.9% last year.

This was below our expected range of between 2.4% and 3% of sales with the increase in staff for the security products. Q3, SG&A expenses were $5.2 million or 16.9% of sales compared to $4.6 million or 17% of sales in the previous year.

Based on our planned investments, we expect SG&A expenses in the range of 17.8% to 18.1% for the fourth quarter of fiscal 2017. The effective tax rate for the quarter was 32.7% compared to 29.3% in the prior year.

We expect our overall tax rate going forward to be approximately 39%. Net income was $695,000 or $0.17 per diluted share compared with net income of $1.3 million or $0.32 per diluted share a year ago due to a greater mix of higher margin product sales in Q3, 2016.

Cash and short-term investments increased to $16 million from $13.1 million at 2016s fiscal year-end due in part to the changes in working capital. Lastly, our Board of Directors voted to pay a quarterly dividend of $0.11 per share to shareholders of record on August 21st, 2017 payable on September 05, 2017.

We aim to improve our bottom-line performance by focusing on our growth programs, increasing the level of high-margin products and align our cost-containment initiatives across the organization. I'll now turn the call back to Victor.

Thanks, Gary. Looking ahead in our High Performance Products division, we anticipate royalty revenues from two E-2D [Technical Difficulty].

We are working to develop and enhance our products in the security market place and continue to take actions in the engineering product development, marketing and sales to position HPP as a security solution provider. In our technology solution division, we remain focused on executing against our MSP strategy, which we expect to be an excellent driver of growth in recurring revenue for the long term.

Our pipeline is strong, we have hired several engineers and sales people to support this growth. In addition, we expect to see continued progress on our cross selling strategy between technology solution location as well as between technology solution in high performance products.

In total, we are expecting a solid performance in Q4 on both top and bottom line giving our backlog in both divisions in our cost controlling efforts. Long term we are making good progress against our strategic initiatives and we are positioning CSP [Technical Difficulty] growth opportunities.

And now we’ll take your questions.

Good morning, gentlemen, how are you today?

Good morning, Joe.

By the way, Victor some of your breaking up on your phone line, it’s positive to your – I don’t think I can hear everything you said, I know what it is connection or what but not everything was clear, so I don’t know whether you come up with cell phone or what, but just wanted to let you know. Are you aware of that?

Were you aware of that?

No, not at all, I’m on the conference room phone, so I’m not sure exactly what happened.

There were some breaks, not dramatic but there were a few breaks, that you know word would be dropped. Let me ask….

We’ll have to check into it.

Yes, we’re talking about the high performance products and then of course just recently you announced about the cyber – the security products division. Are they separate divisions that are measurably [ph] separate divisions or are we talking about cyber security part of HPP?

I mean…

No, it’s all part of HPP.

Okay, but the recent press sort of indicated there is a separate, you are enhancing it or you are making a separate unit with R&D, with the software engineering group that you want to add in low. [Technical Difficulty] I’m just trying to understand that last press release on the cyber security enhanced cyber security products division.

Yeah, no it’s all those [Indiscernible] just kind of as I said in the last couple of calls, we – other engineers that were developing some legacy products and we rehired a bunch of new ones who is concentrating on the new security products we are bringing to market. And all that falls on the HPP you know.

Yeah, so you didn’t change the name HPP. You are still happy with the HPP division.

No everything is just the same.

Okay. So let me understand in your press release today, versus what the press release you made just recently on the AIR application which is – automated investigated response capabilities.

In that press release you’ve indicated that nVoy AIR application is compatible with all firewalls, IDS/IPS and SIEMs via their APIs. That was part of the press release.

Then today is our first integration is the nVoy application with Cisco FirePOWER firewall. Is there something different integration and – first of all, you kind of indicated that it works with everything anyway in the first press release.

And then today you’re saying there was the first integration?

That’s the one that we work with first was Cisco. They hold a big part of the market share and they’ve been great partner.

They are top vendor on the TS side. So we went to market with Cisco to help win our first development between their FirePOWER and our product line.

Well, is that mean that we have to work with others to get it integrated with their firewalls other then Cisco firewall?

We work it with everyone’s API, its correct.

Okay. But we are saying in the initial press release that we work -- it works, but now we need to work with them for to support [ph] integrated.

Is that what you’re saying?

It’s been in the works. We just kind of promoting, because that was the first to market that we work with.

I understand. Okay.

On your channel program that you announced several months ago, you’re going to expand has -- have we made progress there in adding some channel partners. What’s the status there?

Yes. We’re making progress working with the channels and other resellers also in the marketplace that focus on security.

It’s a slow process because you have to bring on new product. We have to educate them.

But we are making progress.

Okay. So, we had – of course, we had existing channel partners, not all of which were security-related previously…?

Correct.

And now we’re adding hopefully channel partners that have security bias in their work process. We’re adding – now we have added some since we talked about it.

Is that what you’re saying?

That’s correct.

Okay. How about the demo?

We have demo units in the field now with these both the recorder and brokers?

Yes, sir.

And have we sold any yet?

We’re still talking to customers.

Okay. In your -- what are we planning on doing in Lowell as far as software.

You sort of indicated it’s going to be – you’re looking for additional software people with cybersecurity unit. Is there a number that we’re look at?

How many people do we have now on that -- involved with that in software in Lowell?

We have – I can tell you we have one open rack, we filled a rack. It was like eight or nine total.

Okay. So we have eight or nine?

Yes. We just have one open last.

One open, so we had still – we’ve done pretty well on selling the requirements up there?

Yes.

In your – going back to your blog, you came out with the -- by the way, is there application, is that a software addition or is that part of the license that they sign when they buy the product? Is that another word, is that just an upgrade to the software?

Hello.

It’s an add-on.

It’s an add-on. So its an additional buy, let’s put it that way?

Yes.

Are we going to license the software or is that -- they purchase the software upfront alone and then we had additional costs along line? It’s not a perpetual license, is it?

Every box that we sell they will need a license to go along with it, if they want the full spectrum of capabilities.

Okay. But we add-on capabilities potential down the road and I think you sort of indicated that in your conversation now about some software additions?

We’re constantly developing, right. We want to market but there’s other features that we’ll be adding over time.

And they all going to be tied either to recorder or the brokers.

There’ll be some features for the recorder. There’ll be some features for the broker.

Okay. Very good.

Another question I have is on the -- you announced them on the blog several weeks ago. I don’t know, I would like to pronounce this way; the deobfuscation algorithm that was developed in Germany for malware?

Do you recall that.

Yes.

Are we selling that as software add-on to different systems? Is that [Indiscernible] that respect?

It’s separate. It has nothing to do with that.

The AIR is only the software that goes along with the onboard right now.

No. I understand that.

I’m talking about this malware detection algorithm that was developed in Germany. Is that something that can be sold as a software?

Yes. I thought you [Indiscernible] with nVoy.

No, no. I’m talking about…

No, yes. Yes, no, absolutely.

Okay. So that’s software sellable to anybody involved with security applications any place?

That’s correct.

Not necessary we connect to the nVoy?

Correct.

Okay. Okay.

One more and that is the radar services that we announced several weeks ago, tying with the U.K., they seem to be and looking from my standpoint, anything to be a competitor in managed services as oppose – and I’m trying to understand the connection of adding radar services in the U.K. and why we went that way?

I don’t understand your question.

Well, the radar services announcement that was about a month or month and a half ago that U.K. is now going to be – you’re in joint partnership with radar services and our U.K.

group of salespeople? And I’m just saying that, but radar services throughout Europe I seem there - they’re seem to be selling a managed services application themselves and we are selling our managed services within our organization.

Are they not a competitor of ours in one respect?

The managed service that we saw is nothing to do with that. It just – it just – we’re monitoring network on the MSP side of it.

Networks, whether you’re managing and looking at desktops or service or firewalls that kind of work than MSP that we…

And what is radar services add to this picture? What are they doing differently?

I’m not sure what exactly they’re telling there on the MSP side of it. Our competitors on the radar services, I’m sure what they’re offering is.

Okay. All I know is they’re…

They has nothing to do with what we’re offering, I do know that.

Okay, okay. Very good.

All right. Thank you very much.

It seems like we’re making progress. The key thing here is to obviously from perspective is that seem we can get these nVoy products in the mix because, that seems where the great potential is from my standpoint.

Am I correct in that assumption?

Yes.

Yes. Thank you very much, and congratulation on a good quarter.

Thanks, Joe.

Good morning. I got a couple of questions for you guys.

Maybe we can start off with the accounting. This was the first quarter that was timely in a couple of quarters.

And I know you guys have indicated that was due to additional testing overseas. Has that change?

Are we still doing the additional testing and just now got a better handle on it or maybe you can give me some color to that?

Yes. We have continued -- I mean, we’ve change some of the internal control system as well as some of the staff.

So, we’ve got better staff organization now and we’ve got added internal controls that were still doing, Brett to manage this. So, it has improved and that's one of the reasons that we’re filing on time.

And so you been able to get a little of this behind us, so, we towards trying to remediate the material weakness now.

Well, that’s great. Because I’ll tell you, it was really stressful on my side.

I’m sure it was even more so on your side. Good thing.

Thanks.

There was indication there were sales that had occurred. I’m assuming the expenses have been recognized.

Does that explained increase in current liabilities and correct me if I’m wrong?

No. The expenses were been deferred because we’d have to match it up with the revenue.

So they were either included in differed costs or in the inventory depending on what those items, some of it could have been product that were in shipment as well as some of them you didn't have acceptance from the items, so that cost would have been differed.

Got it. So, I mean, inventories I believe dropped.

So, and there was a huge increase in current liabilities. Is that just payables?

Yes.

Got it. And is that related to that order?

That’s part of that’s related to those orders as well as some in the U.S.

I mean, is there some reason that was such a large dollar amount?

No. Customer bought, it was a large purchase by one of our customers.

And that is the one that we’re talking about that’s going to be booked in the fourth quarter?

Yes.

Got it. So the Myricom stuff, it's kind of tough to follow along.

Are you guys thinking about breaking that out as a segment in the earnings releases or is it just not to the size or be more data to break that out at all?

It’s not to the size.

Got it.

Just part of the whole thing, because as we’re migrating now, as Victor talked about with the security. So, we’re getting a different mix of product as things get larger and need to be broken out we’ll do that within the Q in the case.

Got it. And has that the mix between the legacy products and the new versions, has that changed over the past couple of quarters?

Are we pretty much burned out on the legacy sales or that stuff still selling?

It’s still selling.

Nice.

I mean, they’ve declined, but we’re still getting orders and we’ve existing customers and that’s going to go on for a while.

Good. Well, it’s about all I have right now.

I’ll just hop back in the queue and move on to the next one. Thank you very much.

Okay. Thanks, Brett.

Thank you all for joining us this morning. We look forward to speaking you, with you once again on our next call.

Thank you.