Ladies and gentlemen, thank you for standing by. Good afternoon and welcome to the Red Cat Holdings Fiscal First Quarter 2024 Financial Results and Corporate Update Conference Call. At this time, all participants are in listen-only mode. [Operator Instructions] After today's presentation, there will be an opportunity to ask questions. [Operator Instructions] Participants of this call are advised that the audio of this conference is being broadcast live over the Internet and is also being recorded for playback purposes. A webcast replay of the call will be available approximately one hour after the end of the call through December 18, 2023. I would now like to turn the call over to Joey Delahoussaye, Vice President of CoreIR, the company's Investor Relations firm. Please go ahead, sir.

Thank you, Sarah. Good afternoon, everyone, and thank you for joining us for the Red Cat Holdings Fiscal First Quarter 2024 Financial Results and Business Update Conference Call. Joining us today from Red Cat Holdings are Jeff Thompson, Chief Executive Officer; and Joseph Hernon, Chief Financial Officer. During this call, management will be making forward-looking statements, including statements that address Red Cat's expectations for future performance or operational results. Forward-looking statements involve risks and other factors that may cause actual results to differ materially from those statements. For more information about these risks, please refer to the risk factors described in Red Cat's most recently filed periodic reports on Form 10-K and Form 10-Q and in Red Cat's press release that accompanies this call, particularly the cautionary statements in it. The content of this call contains time-sensitive information that is accurate only as of today, September 19, 2023. Except as required by law, Red Cat disclaims any obligation to publicly update or revise any information to reflect events or circumstances that occur after this call. It is now my pleasure to turn the call over to Jeff Thompson, Chief Executive Officer. Jeff?

Thanks, Joey. Thank you. Welcome, everyone to our fiscal year 2024 first quarter earnings conference call. I'll start by summarizing our recent performance and achievements, and then I will provide information related to our outlook for fiscal year 2024. After which, Joseph will review our financial results, and then we will take your questions. I am pleased to report that the Teal 2 drone is getting a warm welcome as the most unique and capable nighttime drone in the Group 1 class. We announced the Teal 2 at the Army Aviation Association of America Conference on April 26, a few days before our fiscal year-end. The Teal Drones revenue for fiscal Q1 was $1.75 million. We cannot make a year-over-year comparison because the Teal 2 did not exist. But if you were a start-up and launched a brand-new product and did almost $2 million in revenue in your first quarter, it would be considered a home run, specifically, if there was follow-through, but more on that in our guidance update. And Joey and Joseph, can you make sure that your lines are muted. We're hearing some background noise. So we've met with a lot of investors recently and a lot of them are new to the story. So I'm going to kind of back up and discuss some of the regulatory tailwinds that helped create the United States growing markets current status. So December 2020, DJI, the largest drone manufacturer on the planet, was put on the US government's entity list. In December 2021, DJI was also put on the economic blacklist. Fast forward to July 2023, the American Securities Drone ACT, ASDA, passed the Senate unanimously and we expect it to be law in the next few months. August 2023, Red Cat's Teal 2 receives Remote ID certification from…

Thank you, Jeff, and to everyone for joining the call today. I will now provide a review of our operating results for the fiscal first quarter, which ended on July 31st, 2023. My comments are going to focus on a number of financial-based milestones and events, which leave us strongly positioned for the balance of fiscal '24 and beyond. As many of you know, we have a pending agreement to sell our consumer segment to unusual machines, which I will also refer to as UM. The sales price includes an immediate cash payment of $3 million plus $17 million in shares of UM. We also expect to receive a favorable working capital adjustment of approximately $4 million, which will be payable in additional stock. The sale of the consumer segment is contingent upon universal machines completing an initial public offering on a major stock exchange. UM has recently advised us that they have significantly completed the registration process with the SEC and that they expect to complete an IPO during our fiscal second quarter. Therefore, under the accounting rules since the transaction is likely to close within the next 12 months, the accounting rules require us to report the consumer segment as discontinued operations. The financial accounting and reporting for continued operations is much different than what we have historically reported. Basically, the operating results of our consumer segment, which consists of Fat Shark and Rotor Riot have been condensed into one separate line in each of our financial statements. There is literally no combining of amounts related to our continuing operations, which is our Enterprise segment consisting of Teal and Skypersonic with our discontinued operations, which is our consumer segment consisting of Rotor Riot and Fat Shark. Since we expect to receive approximately $21 million in shares of UM,…

[Operator Instructions] Our first question comes from Ashok Kumar with ThinkEquity. Please go ahead.

Thank you. Two questions. The first question, two parts. In terms of your Q3 fiscal guidance of 5 million and your current cost structure and improving margins, will that get you close to cash flow positive. And the second part of that question is, given your current cash position and the near-term burn, is there a need to raise capital. The second question is on the competitive front on the SRR program. You're competing with Skydio and Vantage and then you're in a bake-off for the Border Patrol Program with the same competitors. So could you please give us an update on the opportunity and the Border Patrol Program. Thank you.

Sure. So let me start with your last question and go backwards here. So, yes, we -- all of us got orders earlier this year. We got an order for about a million drones from the Border Patrol. Skydio did also and Vantage Robotics also got a much smaller order. So, yes, we are in a bake-off to gain their business. We have nothing new to report, but it is interesting, and that's exactly who we're going up against for the large SRR short range reconnaissance program of record. So as soon as we hear, this is the time of the year could be any day if we hopefully, we do hear something, you'll be the first to know. Secondly, I'll go into your question about do we need to raise capital. And we've gotten that question a lot while we were at all these conferences we were at last week. And it's a legitimate question. But let me just start with the C-level and the executives and the employees, we are not hired guns. The company, the employees, we own almost 40% of the shares outstanding. So we've written checks, we're not hired guns. We don't own 0.0% and just want to do a bunch of raises and dilute everybody. Because if we dilute the shareholders, we're half the shareholders almost. So we do not want to do that. So let me go through some of the details on this. As Joseph just mentioned, we'll be turning millions of dollars of inventory into sales over the next couple of quarters. In our first three quarters, we've got about $10 million in shipped revenue we'll be posting, which is more than all of last year, and we're not even done with sales yet. So those numbers could actually be higher.…

Great. Thank you very much and all the best.

Great. Thank you.

[Operator Instructions] Our next question comes from Jim McIlree with Dawson James. Please go ahead.

Yeah, thanks, and good evening. So in your commentary about -- in the commentary about the inventory levels, it suggests that gross margin on this 15 million of revenue of about 22%. I'm assuming that, that's because you've got a high burden of the factory. When you get to either a reasonable capacity utilization or fully utilized? What kind of gross margins would it be reasonable to expect?

Yes. I'll touch on the high level and Joseph might want to address. This is something I review with. And the right person for this is Dr. Evans because he's been building factories for the last 10 years. So I'm going to start from the fully utilized factory. If we were pumping out thousands of drones, we literally can get up into the 70% gross margins. At the beginning, you're absolutely correct. Having the full burden of a factory, you open it Day 1, which we have recently, and if you're producing 25 or 50 or 120 drones, your margins look horrible because you got to put this full burden of the factory on top of that. But with our material margins, we're typically right now already in the 40% to 50% range, but we're here doing GAAP. So those -- your numbers are 22% to we could get up to 70% once fully utilized saying to get large contracts with the replicator initiative or SRR can produce those type of margins.

Yes. I don't have a lot to add on top of that. I think that one of the points that I was trying to make is that we're in a unique position from a cash flow perspective in fiscal '24 because we've already bought and we've already paid for much of the material cost to produce these 1,200 drones. That won't be a typical situation. But because of COVID and the scarcity of electronic components and there was a lot of price gouging going on. Allan had the foresight to go out and frankly spend quite a bit of the money we raised in 2021 to put us in a position where we wouldn't be unable to fill orders because we couldn't get the components we needed. So we're in a unique position right now. And as part of your initial question, yes, we're just dealing with a capacity utilization challenge, which is very common for emerging companies that built the type of facility that we built, which is another -- that's built, that's behind us. That's firing on all cylinders, and that's a huge step for an emerging growth company like us to have behind us. It's kind of one of the reasons why we feel so good about our outlook for the rest of fiscal '24 and beyond.

That's great. If I can just ask another one here. So on the SRR and the replicator programs or contracts, are these fixed priced contracts. So you will have the ability to improve margins as you improve your manufacturing or is it more of a time and materials contract.

No, no. Yes, I'm sure you're bringing that up because the time and cost are over plus is a horrible business. Now these are fixed. They'll be fixed to our GSA pricing. We're not even allowed to adjust that typically unless there's a large volume. But, yes, our margins will improve dramatically. All of the orders that we've announced before have been GSA pricing. So this will the SRR program will be based on fixed pricing, the replicator program, which is something that also we didn't really go into, but when they were announcing the -- making sure that these small companies that are building these small drones don't go into the value of death, which is the funding value of debt when you're dealing with large government this replicated program, we expect to get paid up front, which alleviates also dilution for us like again as being a large amount of shareholders. So we -- the pricing will be fixed pricing.

That's great. And my last one is the 5 million in OpEx this quarter, is that a good number going forward?

Yes, I would say so.

Yes, I would say so as well. Unfortunately, I don't see a lot of cost savings associated with the best in consumer. Obviously, there's a really substantial fixed costs and being a public company. I do think the good news is that higher revenues should not result in dramatic increases in these expenses. You can see operations expense actually decreased in the fiscal first quarter. So I think we're going to be able to leverage both gross margin and our OpEx meaning that as revenues increase, I don't see dramatic step in step increases in OpEx.

Great. Thank you very much. That's it for me.

[Operator Instructions] Showing no further questions, this concludes our question-and-answer session of the call. I will now return the call to Jeff Thompson for closing remarks.

Sorry, folks, I was on mute. Well, thanks, everybody, for joining us. I want to thank the team at Teal. I want to thank our BizDev team. You guys are awesome. And we'll be seeing a lot of you out. We're in a lot of conferences and I'll even plug James' and his company, but we'll be at the Dawson James conference on the 12th and we'll be at the LD Micro in early October. So please come see us.

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.