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Operator: Good day, and welcome to the Innovative Solutions and Support First Quarter 2025 Results Conference Call and Webcast. All participants will be in listen-only mode. [Operator Instructions] After today’s presentation, 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 Paul Bartolai. Please go ahead.

Paul Bartolai: Thank you, Michael. Good afternoon everyone, and welcome to Innovative Solutions and Support’s first quarter 2025 results conference call. Leading the call today are our CEO, Shahram Askarpour; and CFO, Jeff DiGiovanni. Earlier today, we issued a press release detailing our first quarter 2025 operational and financial results. This release is publicly available in the Investor Relations section of our corporate website at www.innovative-ss.com. I would like to remind you that management’s commentary and responses to questions on today’s conference call may include forward-looking statements, which by their nature are uncertain and outside of the company’s control. Although these forward-looking statements are based on management’s current expectations and beliefs, actual results could differ materially.

For a discussion of some of the factors that could cause actual results to differ, please refer to the Risk Factors section of the latest reports filed with the SEC. Additionally, please note that you can find reconciliations of all historical non-GAAP financial measures mentioned on this call in the press release issued earlier today. Today’s call will begin with prepared remarks from Shahram, who will provide a review of our recent business performance and strategic outlook, followed by a financial update from Jeff. At the conclusion of these prepared remarks, we will open the line for your questions. With that, I’ll turn the call over to Shahram.

Shahram Askarpour: Thank you, Paul, and good afternoon, to everyone joining us on the call today. Let’s begin with a high level overview of our first quarter financial performance. During the first quarter, we delivered more than 70% year-over-year growth in revenue driven by momentum from new military programs, and contributions from our legacy platforms. Our organic growth which was in the mid to upper single-digit range, was mainly driven by continued momentum across our military end markets, a trend we expect to continue. We are also seeing improved trends in our commercial business and expect growing momentum, as we move through the fiscal year, as our fiscal Q1 is typically a busy period for air transport. Our gross profit increased approximately 20% as our strong revenue growth was partially offset, by the significant investments we are making to support our growth initiatives, which I will discuss in more details here shortly.

Our backlog was approximately $81 million as of December 31, 2024, compared to $14.6 million in the prior year. On our call last quarter we introduced ISSCnext our long-term value creation strategy. As a quick refresher, our strategy centers on a combination of targeting commercial growth within high value markets, improving operating leverage and a disciplined returns driven approach to capital allocation. During the first quarter, we continued to execute against our initiatives, and I would like to take a moment to highlight just a few of the key achievements that reflect our commercial growth priorities. We continue to make significant investments in our growth initiatives, which is impacting our margins in the near term, but will place us in a strong strategic position, to take advantage of some of exciting opportunities in our markets, and drive profitable growth in the coming quarters.

Some of these investments included the following first, as activity in our military markets continue to accelerate, we’ve made significant investments in both infrastructure and systems capabilities, to support the high performance requirements of our defense customers. To that end, we have integrated a modern ERP system, a more robust IT infrastructure and strengthened our security and accounting services, to make us compliant with Defense Federal Acquisition Regulation Supplement or DFARS requirements. These are critical investments as we continue to win and bid for larger DoD programs. Second, we are also continuing the expansion of our Exton, Pennsylvania facility. When completed in mid-2025, we will have doubled our footprint and increased our production capabilities, by more than threefold.

I watch the progress from my office window every day, and I’m happy to report that the groundwork is complete, the steel structure is up and the completion of the internal and external walls, will commence shortly. As a side note, we’ve been funding this development out of our P&L. Importantly, we are adding this capacity with a capital investment of only $6 million, providing for the opportunity of a very strong return. We also think it’s worth reminding everyone that IS&S manufactures 100% of its products in our Exton facility. We think this is important, and puts us in an enviable position as the new administration makes its significant push for reshoring of manufacturing, and an America first mentality. Third, during the first quarter, we made significant investments in support of our most recent acquisition from Honeywell.

Much of the spending during the first quarter, was made ahead of the expected growth from these platforms, and we also made investments that resulted in some duplicative costs. As we train our staff to transition the manufacturing of the products from Honeywell into our Exton facility, the integration is on track and we are excited by the opportunities, from this most recent acquisition. And finally, we also continue to strengthen our workforce across the organization, to support our strategic growth initiatives. Our headcount is up over 25% from last year, which will help us as we scale the business. In terms of new product development, we remain highly focused on the opportunity within cockpit automation, leading to autonomous flight. Our next generation of our Utility management system, or UMS II remains on track to have our first test flight by mid-2025 for the Pilatus, PC-24.

We also believe the next generation of our AI enabled utility management system, is the ideal certifiable platform for flight automation. With our initial focus being military customers and applications. We believe the military market is the most immediate and logical market, to deploy our autonomous flight capabilities. The unfortunate recent events, bring to the surface the need for more automation in the flight deck to enhance safety. We are encouraged by the growth opportunities across our commercial air transportation, business, aviation and military markets, and we are confident we are making the necessary investments, to strategically position IS&S to win in the market. In conclusion, we are off to a solid start for our fiscal 2025, and are excited by the opportunities that lie ahead.

We have made investments necessary to support our new programs. We have made important progress regarding the integration of our most recent acquisition, and we are making the necessary investments to support our organic growth initiatives. That said, we still intend to remain a strategic acquirer. While we have most recently been focused on complementary product lines, from large avionics suppliers that expand our capabilities in advanced avionics. We are also evaluating opportunities to acquire smaller avionics manufacturers, where we anticipate synergies will be realized by incorporating their outsourced production in our facility. Looking ahead, we intend to build on the momentum evident within our business, and remain on track to deliver both revenue and EBITDA growth of over 30%, when compared to fiscal year 2024.

With that, I’ll turn the call over to Jeff for his prepared remarks.

Jeff DiGiovanni: Thank you, Shahram and good afternoon to all those joining us. Today, I will provide a high level overview of our first quarter performance, including a discussion of our working capital, balance sheet and liquidity profile at quarter end. We generated net revenues of $16 million in the first quarter, up just over 70%, when compared to the first quarter last year. The increase was driven primarily by contribution from the recently acquired Honeywell military product line, as well as 7% organic growth due to in part, including the continued momentum of our new military programs. Product sales were $10 million during the first quarter, more than double last year’s levels, driven primarily by the recent acquired military product line, offset by reduced shipments to the business aviation customers.

Service revenue was $6 million, owing largely to the customer service sales, from the product lines acquired from Honeywell and increased NRE revenue, partially offset by lower legacy customer service revenue. Gross profit was $6.6 million during the first quarter, up from $5.5 million in the same period last year, driven by strong revenue growth partially offset by higher depreciation expense, resulting from the Honeywell acquisition, duplicate costs in support of the migration of the recent Honeywell acquisitions, and continued investments in growth initiatives as Shahram discussed. Our first quarter gross margin was 41.4%, down from 59.3% in the same period last year. As I discussed last quarter, there are several factors that have been impacting our gross margin capture in recent quarters, which continued during the first quarter and will remain a factor in the near term.

These factors include incremental depreciation from recent product line acquisitions and the shift in our sales mix, as military sales will be a higher percentage of sales more specifically, during the first quarter, the impact of the acquired Honeywell military product line volume, below our margin was approximately 500 basis points, increased third-party expenses from Honeywell with respect to their transition services, was approximately another 200 basis points and higher depreciation from recent acquisitions was roughly a 500 basis point headwind to gross margins. As it relates to the product mix, generally, military sales carry a lower average gross margin versus commercial contracts. However, there is minimal operating expenses associated with these contracts, so the incremental EBITDA margins are strong, and given the significant potential we see for absolute EBITDA dollar growth in military, we believe this is good for us, and work that we will continue to pursue as it advances our focus on improved operating leverage.

In addition to these factors during the first quarter, we incurred costs to support the ramp up of recently acquired product lines from Honeywell, as well as inefficiencies due to hiring and training additional personnel. Many of these costs were duplicative in nature and will not be a factor, as we fully transition the product line into IS&S. Given these factors, we continue to expect our consolidated gross margins will likely trend closer to mid-50% on a normalized basis, which is below historical levels. As we complete the integration and begin to enjoy the scale benefits of these investments, we will be able to drive increased adjusted EBITDA margin realization, and net profitability over time. Operating expenses during the first quarter 2025, was $5.3 million and increase from $3.9 million in the comparable period last year.

This increase was driven by approximately $400,000 from increase in product development efforts in support of our long-term growth initiatives. Incremental expenses from Honeywell acquisitions including $700,000 of amortization expense, and $300,000 in employee costs primarily due to increase in headcount, and another $300,000 of acquisition and certain one-time expenses. We’ve increased our headcount by over 25%, to support our future growth initiatives across the organization. Operating expenses represented 33% of revenue, during the first quarter down from 42% in the first quarter of last year, owing to improved operating leverage. First quarter net income was $700,000 or $0.04 a share, compared to net income of $1.1 million, or $0.06 per diluted share a year ago.

EBITDA was $2.7 million during the first quarter, up from $2.1 million last year, or 28% increase largely due to our revenue growth, and operating expense leverage. Excluding acquisition related costs, and other one-time expenses, first quarter adjusted EBITDA was $3.1 million up from $2.5 million last year. Moving on to backlog, new orders in the first quarter of fiscal ’25 were $7.5 million and backlog as of December 31, was $80 million, as compared to $14.6 million this time last year. The backlog includes only purchase orders in hand, and excludes orders from companies OEM customers under long-term programs including Pilatus PC-24, Textron King Air, Boeing T-7, Red Hawk, the Boeing KC-46A, and the F-16 with Lockheed Martin. We expect these programs to remain in production for several years, and anticipate they will continue to generate future sales.

Further, due to their nature, the product lines from Honeywell do not typically enter backlog. Now turning to cash flow, during the first quarter ’25, cash flow from operations was $1.8 million, compared to $4.2 million in the year ago comparable period. This decrease is primarily, due to inventory buildup in support of anticipated production, and the timing of payables and capitalized costs. With the ERP implementation along with the impact of gross initiatives discussed above. Capital expenditure was $300,000 during the first quarter ’25, versus $200,000 in the same period last year. As a result of these factors, free cash flow during the first quarter was $1.6 million versus free cash flow of $4 million last year. Total net debt as of December 31, was $25.9 million, our net leverage ratio at the end of the quarter was 1.8. Our total cash and availability on our credit line, was $9 million at the end of the first quarter, which provides us financial flexibility to support our ongoing operations and facility expansion.

That completes our prepared remarks. Operator, we’re now ready for question-and-answer portion of the call.

Operator: [Operator Instructions] The first question comes from Gowshi Sri with Singular Research. Please go ahead.

Gowshi Sri: Hi. Congratulations guys. Can you hear me?

Shahram Askarpour: Yes.

Gowshi Sri: Thank you for taking my call. Congratulations. In terms of this military revenue being now being a significant portion of the growth story, what strategies or investments are you making to be remain relevant to gain market share? I know you mentioned you had a gentleman you hired a couple of years ago. What are the investments required, or spend necessary to step continue to take market share in the same market?

Shahram Askarpour: So far for most part, we’ve been a second tier supplier to the deal. That means that we’ve always worked through an integrator. Even on some of the OEMs we work through an integrated. We really haven’t had any large size programs directly with the DoD. And in order to have those kind of contracts, and be primed for it, which part of that also applies to the product lines that we bought from Honeywell for the F-16 platform? We got to be what they call, we got to be compliant with – to a lot of these DFARS, the defense acquisition requirements. And so being a F-16 compliant in terms of account what they call a certified government accounting, is one of those requirements. Being able to have an IT organization that meets the requirements of the DoD is another one.

Having your system in such a way that you can obtain security clearance. You have a means of protecting government documentation. So all of that is required for you to become a Tier 1 supplier to the Department of Defense. And we have implemented all of those. It’s all going to be completed within the next few weeks. That requires you to bring in consultants, requires you to buy new tools, new. We put in new ERP system, which has been in works for over a year, but we’re putting it in place. Our ERP system, which was an MRP called MINCS was came into market in the 1980s, and we were at the point now where there were only two companies out there that were using this, with no support. So we’ve put in a modern ERP system in place, which would significantly help us run the business more efficiently, because we can readily see information that management needs to see in terms of variances, cost and labor variances.

Another important information that now, it takes a lot of people to manually generate all of these things. All of that will automatically be available by the system. So it does a significant amount of time and cost saving for us, the implementation of that. So – we’re applying for security clearance, we’re putting all that in place and gets us to a point. We’re looking at some of serious military programs now. Even in order to be able to bid on those programs, they have to be compliant with a lot of default regulation. If you – putting program, which is less than $2 million, I think, which is the Tina limits, then which is typically in the past we’ve done. If you don’t have to have any of this stuff in place, as soon as you go above that, a whole bunch of regulations get applied to you.

But that’s where we want to go. We want to grow the business. So we got to get serious about it.

Gowshi Sri: Okay. Awesome. In terms of. I know you guys had a foreign military engagement end of last year. How does the margin profiles of the foreign military engagements compare to the domestic market? I would assume you’re able to extract better margin profiles or pricing from the foreign military programs.?

Shahram Askarpour: Yes, I think if your foreign military sale doesn’t go through the U.S. DoD, then you treat it as a commercial deal. If it’s a procurement through the – because our government buys, I guess, gives funding to some of the allied nations, to procure material. But essentially that’s going through the U.S. DoD budget. So it still applies to you, but in areas that kind of in the past, where we sold systems to the United Arab Emirates Air Force or Pakistan Air Force, that was not coming through U.S. funding. It’s treated like a commercial deal. And some of the benefits of Navy contracts, also is that once your system is on a U.S. Air Force aircraft, it puts you in a strong position to put that system in other air forces aircrafts. And, if it’s not something that’s funded by the DoD, you get a premium price for it.

Gowshi Sri: Okay. Got you. And so with this 40% military mix of business, as the company’s big selections continues to shift, particularly in favor of the military. I know you guys had a 60% usually gross margin target, so what would you anticipate the new margin profile to look like, kind of and will that be something you’ll be targeting towards the end of the year?

Shahram Askarpour: I think, let me put it this way. When we look to buy a program by say a product line, we really take a look at what EBITDA it gives us, and that’s how we buy it. That’s how we value a product. So at the end of the day, gross margins on military programs are significantly lower than commercial business. But here’s what you don’t have. You typically don’t have any engineering expense, because they separately pay for engineering work you have to do. As with commercial programs, we have a high engineering burden on the products to deal with obsolescence, as well as your development efforts. In the military, they pay for your obsolescence engineering, they pay for your development. AI gets paid. So you don’t have the engineering overhead.

In terms of SG&A, the sales side of the SG&A is very, very bare minimum military programs. You don’t need to go to, you don’t need to keep on reselling the same thing to the military once you’ve been selected and you’re in there. We got programs with U.S. Air Force now that we had 35 years ago and they’re still continuing. They just send you, they just send you their equipment. They give you orders, when they need the product. So it has a much, much lower burden on your SG&A, and almost zero burden on your engineering. So in a way, the fact that gross margin is not as good, because by the nature of defense contract, you have to justify all your costs, it kind of dilutes your gross margin. We think it’s probably going to be at best around 50, 50% gross margin.

What we want to do, is change your focus from gross margin to actual EBITDA, and profit margin of the business. We believe that even though the military platforms have lower gross margin in terms of EBITDA as a percentage of revenue, they meet the same margins as the commercial, which what really matters.

Gowshi Sri: Got you. Got you. And that’s my final question before I jump back in line. In terms of leveraging the balance sheet, how will you balance the need for the significant infrastructure spend investments required in terms of expansion of production capacity and with the pursuit of strategic acquisitions?

Shahram Askarpour: Yes. So right now the building and even the strategic initiatives, are really getting funded through operations in our credit facility that we have today. As I mentioned, right now the availability, with our cash on hand and our availability on our line is about $9 million, which provides enough. As we look at acquisitions, that profile can change. We want to stay, around the three times leverage ratio on a go forward basis. We’re being very diligent with any acquisition and kind of being very mindful of the leverage ratios. We want to, I mean our…

Jeff DiGiovanni: Yes – significantly impacted this quarter, because of the investments that we made. But if you were to adjust for them, it would have been significantly higher than last year.

Gowshi Sri: Awesome. Thank you guys.

Shahram Askarpour: Thanks.

Operator: The next question comes from Doug Ruth with Lenox Financial Services. Please go ahead.

Doug Ruth: Hi Shahram, Jeff, thank you for hosting the conference call. I was curious, could you share with us your strategy, with where the acquisition opportunities are coming from? Are you working with an investment banker? How exactly are you finding the opportunities?

Jeff DiGiovanni: So we have a Business Development Vice President that had significant experience in merger and acquisitions. He ran mergers and acquisitions for Rockwell Collins for many years and he retired. He’s working for us. Retired from Rockwell Collins. He’s working for us. We also talk to a lot of the bankers. I do and he does as well as we have. We have our marketing guys that are in the field and talking to the customer. I think most of the industry by now knows our strategy for acquisitions, and we get informed of these product lines, when they come out, when they come out for sale or licensing. As well as small avionics companies we get the portfolio from. There’s a series of bankers that we talk to as well, that deal with our pipe size.

I mean, most of the stuff that comes out in our industry is, orders of magnitude larger than we could afford. But when the ones that are within our pipe size come about, we get to know them, and we evaluate probably one or two a quarter of small companies that come up. But I mean, we’re only going to do it if it makes sense. I mean, one of my thoughts is that, if our government starts putting tariffs on imports from other countries, a lot of the smaller aviation manufacturers, avionics manufacturers that I know, they outsource their production. They don’t have production capabilities. We are kind of very unique in that area that we cut manufacturing capabilities in-house for everything. And that’s kind of always been the strength of isn’t when it comes to whether there is tariffs, whether there is supply chain issues.

Our cost of material is small relative to our sale prices, because of all the value added things that we do in-house. So even if material goes up, it doesn’t significantly impact our profitability. So that combination and that formula allows us to, if they stop putting tariffs, and a lot of these guys get in their boats made in Southeast Asia, their prices are going to go up. And we may be able to pick them up for a good price, and then bring their production in-house and benefit from it. Just an idea that we believe may payoff, if you pick the right company.

Doug Ruth: Yes. Now this one to two per quarter, has that number, has that generally been fairly stable? Is it seem like it’s increasing? Is it decreasing or what do you see there?

Shahram Askarpour: That’s been pretty stable.

Doug Ruth: Okay.

Shahram Askarpour: That’s been pretty stable…

Doug Ruth: But I mean for majority of them, you look at it, and you see there’s nothing that I’m interested in buying that. Once you dig in a little bit into, and we just looked at one a couple of weeks ago, and kind of they – really that they got one product that is of interest. The rest of the business is losing money, and I don’t think if we get it, we’re going to be losing money on it as well. If you can buy that product line from them, that’s good. But some of them are like this.

Jeff DiGiovanni: Yes, we’re being very disciplined with the approach, and it has to fit in our bailiwick. To really want to make sure it’s, something that makes sense for ISNs.

Doug Ruth: Okay. Well, I appreciate you answering my questions. I want to wish you all the best, and we’re looking for just this growth to continue. So thank you for taking my question.

Shahram Askarpour: Thank you.

Operator: The next question comes from Andrew Rem with Odinson Partners. Please go ahead.

Andrew Rem: Hi gentlemen. Can you just remind us on the fourth quarter call you guys talked about this pull forward effect that you were expecting to come in the second quarter. Just any revised thoughts that you have now that we’re in it?

Jeff DiGiovanni: Right. So – I think you’re saying, Andrew, is when we talked a little bit, there might be a little bit of an uptick in Q2 around the military product line that we may see. So yes, there is a potential there might be an uptick in the revenue side from the Honeywell military product line. A lot of that is still being operated at Honeywell under the transition services agreement. So we do have visibility there. But – we’re in constant contact with them on a weekly basis. Some of those deliveries may begin delayed a little bit, and they’re having some potential issues. That’s why we want to get a transition to IS&S in a timely fashion. But there potentially could be an uptick in the revenue on that product line in Q2.

Andrew Rem: So is it still in the plan that manufacturing will transition over in the second quarter or maybe some of that pushes into the third quarter?

Shahram Askarpour: So it’s going to be in the third quarter. Second quarter is the quarter we’re in now. And so the transition is going to happen in the third quarter. I’m hoping that it will happen in the third quarter, let me put it that way, because right now I think they’re talking about May and Honeywell has to build sufficient amount of backlog, and deliver it to Lockheed, before they can shut down the line and go through the transition. And I think there was some heatsink part or whatever that they had issue. We’ve actually told them that we can manufacture it for them here in-house, to try to expedite it, but we still haven’t seen the drawing for it. But it’s going to be somewhere around, I would think either May or June time frame. Hopefully it won’t get into July, but definitely not this quarter.

Andrew Rem: Okay. And then Jeff, is there any financial benefits that we can expect over time from the ERP implementation?

Jeff DiGiovanni: Yes. So I think – you have an ERP system, what does that give you? It gives you better data so management can make, on time, reaction to information. So I think, we’ll see efficiencies throughout the organization, how we manage the business. So my expectation is people will then be able to look at the data, to make better decisions than trying to, I don’t want to say create the data, but trying to extract data to make it in a usable form. So now they’ll have time to analyze it. We can look at labor changes, even products with suppliers too. So I’m envisioning we’ll have some better information for all the users of the financials.

Shahram Askarpour: I think in general today, everybody that wants anything, they go in there, they pull the data, export it to Excel spreadsheet, and they try to manipulate it on Excel and then generate.

Jeff DiGiovanni: Right, time consuming.

Shahram Askarpour: Generate charts and it takes time to do that with the new ERP system. All of these are all available in your – on your screen.

Andrew Rem: Correct. All right. And then, it sounds like there’s a lot. There’s a lot going on. I mean, you’ve got the acquisition and then I guess in conjunction with that, you talked about some of the things that you’re the IT system, the ERP getting in compliance with the military standards. And then obviously you’ve got the construction project, which is up and running. Will you be at kind of a normalized by the time you exit fiscal ’25. With all of this stuff going on?

Shahram Askarpour: I like to think that by Q4, we should be in good shape with all of this.

Jeff DiGiovanni: I would echo that. I think we should be able to be normalized, depending on any other acquisitions for what we have in front of us.

Shahram Askarpour: Yes, I think by end of Q3, we should be. Yes.

Jeff DiGiovanni: The building will be done. ERP will be there. And listen, I mean, as you put in….

Shahram Askarpour: Barring a big delay from Honeywell to do transition, we should be good. Because right now we’re paying in a way, we’re paying double duty here. We’re paying cost of goods sold to Honeywell. We also have a team here that are getting trained to do the job. So that affects our gross margins and profitability. As soon as the transition happens over here, then we don’t have to pay the Honeywell technicians, we’re just paying ours.

Andrew Rem: And then, Jeff, if I understood your comments right, maybe this quarter is kind of the low point for gross margin and then they can kind of improve. But I’m also kind of wondering if we should really just maybe just thinking about this business. Don’t worry. Too hyper focused on gross margin, and just maybe focus on EBITDA margin?

Jeff DiGiovanni: Correct. I think you really want to focus on those EBITDA margins, because again, if we have that big tick in Q2 on the military, it’s volume in the product mix that’s going to, impact those gross margins. But even as I mentioned, this quarter, depreciation expense was $500,000 higher than it was, this time last year. Q1 last year. So that impacted, those margins about 500 basis points. So you have things like that with these acquisitions. So, yes, I would say EBITDA is the better metric to look at, from that perspective and then focusing on margins. Because again, it’s going to be around product mix.

Andrew Rem: So if we kind of look out at a more normalized. What is your current expectation for what that can look like?

Jeff DiGiovanni: EBITDA margin, so we’re actually, our projection – EBITDA year-over-year by 30%. And we feel confident about that number today.

Shahram Askarpour: Even with Q1…

Jeff DiGiovanni: Yes, I mean, Q1 was 28%. So we’re right there. So we still feel confident with the 30%.

Andrew Rem: Okay. All right. Well, nice quarter. Thanks a lot, guys.

Shahram Askarpour: Thank you.

Jeff DiGiovanni: Thank you, Andy. I appreciate it.

Operator: This concludes our question and answer session. I would like to turn the conference back over to Shahram Askarpour for any closing remarks.

Shahram Askarpour: Thank you, operator, and thank you all for your time and interest in IS&S. Have a good day.

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