Motorola Solutions, Inc.

Good day everyone and welcome to the Motorola Solutions Q4 2018 earnings call. All participants are in listen only mode. Later you will have the opportunity to ask questions during the question and answer session. You may register to ask a question at any time by pressing the star then one on your telephone keypad. I will be standing by should you need any assistance. It is now my pleasure to turn today's program over to Mr. Chris Cutler, Vice President of Investor Relations. Please go ahead sir.

Thank you operator and good afternoon everybody. Welcome to our 2018 fourth quarter earnings call. With me today are Greg Brown, Chairman and CEO, Gino Bonanotte, Executive Vice President and CFO, Jack Malloy, Executive Vice President Products and Sales, and Kelly Mark, Executive Vice President Services and Software. Greg and Gino will review our results along with commentary and Jack and Kelly will join for Q&A. We've posted an earnings presentation and news release at motorolasolutions.com slash investor. These materials include GAAP and non-GAAP reconciliations for your reference. During the call we reference non-GAAP financial results including those in Outlook unless otherwise noted. A number of forward looking statements will be made during this presentation and during the Q&A portion of the call. These statements are based on current expectations and assumptions that are subject to a variety of risks and uncertainties. Actual results could differ materially from these forward looking statements. Information about factors that could cause such differences can be found in today's earnings news release and the comments made during this conference call in the risk factor section of our 2017 annual report on Form 10K and in our other reports and filings with the SEC. We do not undertake any duty to update any forward looking statement. With that I'll turn it over to Greg.

Thanks Chris. Good afternoon and thanks for joining us. I'll share a few thoughts about the overall business before Gino takes us through the results and the outlook. First Q4 was another excellent quarter. We posted records for revenue, earnings per share, operating cash flow and backlog. Revenue grew 15 percent, earnings per share grew 25 percent and we generated operating cash flow of over 800 million. Second, our full year results were outstanding as well and illustrate the earnings power of our business, driven by demand across our entire portfolio and continued strong execution. For the full year we grew revenue 15 percent, earnings per share 31 percent and generated close to 1.6 billion of operating cash flow, excluding a voluntary pension contribution and grew our backlog by almost a billion dollars. And finally demand remains strong across our platforms in mission critical communications, video, services and software and we continue to invest for long term growth. So I'll now turn the call over to Gino to provide additional details on Q4 results and 2019 outlook before returning for some closing thoughts. Thank you Greg.

Q4 results include revenue of 2.3 billion dollars, up 297 million dollars or 15 percent from the year ago quarter, including 159 million dollars of revenue from acquisitions and 25 million of revenue related to the adoption of accounting standards 606. Organic revenue, which excludes acquisitions and the accounting change, was up 6 percent. Gap operating earnings were 516 million dollars, up 13 million dollars and operating margins were 22.9 percent of sales compared to 25.7 in the year ago quarter. The lower operating margin is primarily due to costs related to the closure of certain supply chain operations in Europe and higher OPEX related to acquisitions. Non-GAP operating earnings were 650 million dollars, up 15 percent or 84 million dollars and operating margins were 28.8 percent of sales compared to 28.9 percent of sales in the year ago quarter. Higher sales in gross margin were offset by higher OPEX related to acquisitions. Gap earnings per share was $2.44 compared to a loss of $3.56 in the year ago quarter. The prior year loss was driven by the effects of 2017 tax reform. Non-GAP earnings per share was $2.63, up 25 percent from $2.10 in the year ago quarter. OPEX and Q4 was $484 million, up $77 million due to acquisitions and ASC 606. Other income and expense was $51 million compared to $36 million in the year ago quarter, driven by an increase in net interest expense of $12 million. The Q4 effective tax rate was 23.5 percent compared to 32.8 percent last year, primarily due to 2017 tax reform. For the full year, revenue was $7.3 billion, up $963 million or 15 percent, including $507 million of revenue from acquisitions and $83 million of revenue related to the adoption of ASC 606. Organic revenue, which excludes acquisitions and the accounting change, was up 6 percent. 2018 GAP operating earnings were $1.3 billion, down 29 million or 2 percent, primarily driven by a charge to an existing environmental reserve, the closure of certain supply chain operations in Europe, and lease exit costs associated with acquisitions. Non-GAP operating earnings were $1.7 billion, up 16 percent, driven by higher sales and gross margin, partially offset by higher OPEX related to acquisitions. GAP earnings per share was $5.62 compared to a loss of $0.95 in 2017, driven by the effects of 2017 tax reform. Non-GAP EPS was $7.15 compared to $5.46 in 2017, an increase of 31 percent. For the full year, OPEX was $1.8 billion as expected, including $258 million from acquisitions and ASC 606. Other income and expense was $165 million compared to $163 million in the prior year. And the effective tax rate for 2018 was 21.7 percent compared to 31 percent last year, due primarily to tax reform and tax benefits related to share-based compensation. Turning to cash flow, Q4 operating cash flow was $812 million compared to $761 million in the year-ago quarter. The increase was driven primarily by higher earnings. Free cash flow in Q4 was $743 million compared to $740 million last year. Capital expenditures were $69 million, up $48 million versus last year, primarily related to the airwave extension. For the full year, operating cash flow was $1.1 billion, including the $500 million voluntary debt-funded pension contribution in Q1 of 2018. Free cash flow in 2018 was $878 million compared to $1.1 billion in the prior year. Excluding pension, operating cash flow was $1,575 million and free cash flow was $1.4 billion. The higher cash flows in 2018 was driven primarily by higher earnings. Capital allocation for 2018 was $1.2 billion of acquisitions, $337 million in cash dividends, $197 million of cap acts, and $132 million of share repurchases at an average price of $112.42. Additionally, in Q4, we repaid the remaining $100 million of the revolving credit facility associated with the Avigilon acquisition. And we continue to expect to repay the $400 million term loan associated with the Avigilon acquisition in 2019. Moving to segment results, Q4 product and systems integration sales were $1.7 billion, up $233 million, or 16%, driven by the Americas and EMEA. Revenue growth from acquisitions in ASC 606 in the quarter was $137 million. Q4 product and systems integration segment operating earnings were $483 million, or .9% of sales, down 140 basis points from last year, driven by higher op-acks related to acquisitions. Some notable Q4 wins in the segment included a $47 million P25 order from Snohomish County, Washington, a $24 million P25 order for Ingham County, Michigan, and a $16 million P25 order from Riverside County, California. For the full year, product and systems integration revenue was $5.1 billion, up $587 million, or 13%, led by the Americas and EMEA. Revenue from acquisitions in ASC 606 was $396 million. Product and systems integration operating earnings were $1.1 billion, or .7% of sales, compared to .7% of sales in the prior year, driven by op-acks from acquisitions. For 2019, we expect operating margins to be up approximately 100 basis points and growth margins to be between 48 and 49%, which is comparable with 2018. Moving to the services and software segment, Q4 services and software revenue was $584 million, up $64 million, or 12% from last year, driven by growth in every region and inclusive of $47 million of growth from acquisitions and ASC 606. Service and software operating income in the quarter was $167 million, or .6% of sales, up 340 basis points from last year, driven by organic gross margin expansion, partially offset by higher op-acks from acquisitions. Some notable Q4 highlights in services and software include a $71 million services contract with Maricopa County, Arizona, a $29 million services contract from Cobb County, Georgia, a $26 million contract to provide NextGen 911 core services for a customer in North America, and a $16 million services contract in Australia. Additionally, we signed the AirWave Network extension through the end of 2022 for $1.1 billion, with additional services from local agencies to be added during 2019. And subsequent to quarter end, we acquired VAS International Holdings, a leading global provider of data and image analytics for vehicle location. The equity used in the acquisition has been offset with share repurchases of $65 million in Q4 and $125 million in January of 2019. For the full year, services and software revenue was $2.2 billion, up $376 million, or 20%, with growth in all regions. Revenue from acquisitions in ASC 606 was $194 million. Services and software operating earnings in 2018 were $631 million, or .1% of sales, compared to .7% in the prior year, driven by organic gross margin expansion and acquisitions. Looking at 2019, we continue to expect full year operating margins to be approximately 30%, with gross margins of approximately 50%. Looking at regional results, America's Q4 revenue was $1.6 billion, up 16% on growth in both segments. For the full year, the America's revenue was $5.1 billion, up 17% with growth in both segments, driven by acquisitions and organic growth. EMEA Q4 revenue was $491 million, up 24%, and was also driven by growth in both segments. For the full year, EMEA revenue was $1.6 billion, up 18%, with growth in both segments, driven by acquisitions and organic growth. In Asia-Pac, Q4 revenue was $202 million, down 5% on a decline in product and systems integration, partially offset by growth in services and software. For the full year, AP revenue was flat at $680 million, with growth in services and software offset by a decline in products and systems integration. Moving to backlog. Ending backlog was $10.6 billion, up $988 million, or 10% compared to last year, inclusive of a $205 million backlog revaluation due to unfavorable changes in currency rates. Services and software backlog was up $1.1 billion, or 18% compared to last year, driven by an increase of $613 million in the Americas and $537 million in EMEA related to AirWave. Sequentially, services and software backlog was up $1.2 billion, also driven by growth in the Americas and the AirWave extension. Product and systems integration backlog was down $116 million, or 3% compared to last year, due primarily to two large system deployments in 2018 in the Middle East and Africa. The Americas backlog was up $14 million year over year. Sequentially, backlog was down $42 million, driven by the same Middle East and Africa deployment. Segment backlog in the Americas was up $104 million, sequentially. Turning to our Q1 outlook. We expect Q1 sales to be up approximately 11% with non-GAAP EPS between $1.11 and $1.16. This Q1 outlook assumes approximately $35 million of FX headwinds at current rates, approximately $140 million of revenue from acquisitions, an effective tax rate of approximately 25%, and approximately 174 million fully diluted shares. For the full year 2019, we expect revenue growth of 6% to 7% with non-GAAP EPS between $7.55 and $7.70. And full year operating cash flow is expected to be approximately $1.7 billion. This full year outlook assumes approximately $65 million of FX headwinds at current rates, approximately $230 million of revenue from acquisitions, an effective tax rate of approximately 25%, and a weighted average diluted share count of approximately 175 million shares for the full year. I'd now like to turn the call back over to Greg.

Thanks, Gino. Let me close with a few thoughts. First, 2018 was a record year for the company built on a strong foundation. We saw continued LMR growth led by North America and EMEA, and AirWave has been extended through the end of 2022. Additionally, our services and software segment grew revenue and operating earnings double digits, and we acquired key assets in video, software, and analytics. Second, I think we're very well positioned for another strong year in 2019 with our industry-leading portfolio of LMR solutions, a comprehensive command center software suite, and new video and analytics capabilities, all of which are supported by a growing services business. We serve customers in growth segments of large addressable markets. We have a strong team focused on consistent execution, a healthy balance sheet, and durable growing cash flows that will drive continued shareholder returns over the long term. And finally, a year ago at our financial analyst meeting, I provided a view of driving the company toward what I called 8 in 8 in 2020, meaning approximately $8 billion in revenue and $8 plus in EPS. Today, I'd like to update that and tell you we're now driving the company toward 9 in 10 in 2021, approximately $9 billion in revenue and approximately $10 of earnings per share by the end of 2021. This current view is coming from the allocation framework, and with that,

I'll turn the call over to Chris. Thank you, Greg. Before we begin taking questions, I'd like to remind everybody to please limit themselves to one question and one follow-up so we can accommodate the others. Operator, would you please remind everyone on the line how to ask a question?

Certainly. At this time, if you would like to ask a question, please press the star, then 1 on your telephone keypad. You may withdraw your question at any time by pressing the pound key. Once again, to ask a question today, it is star, then 1. We'll take our first question of the day from Mr. Tim Long with BMO Capital Markets. Please go ahead.

Thank you. Just on the question, I was hoping you could update. Obviously, there's been a lot of movement and smack position in the command center and the software space, and you had talked about a $400 million run rate there. Could you just talk a little bit about the trajectory, particularly as you're adding more pieces on there? Then just on the follow-up, Greg, more specifically for you, those more positive numbers for 2021, could you just talk a little bit about, obviously, backlogs good all over the place, so maybe just give us some color on what's driving the much higher confidence, which pieces of business are you seeing the most traction leading to those increased revenues and EPS numbers? Thanks.

Yes, Tim. Look, as I said, I think we're really pleased with 2018 pretty much across the board, both in the product and SI segment as well as services and software. I think why we feel good about going into 2019 is the record backlog position, strong entering Q1, general comparability of backlog 19 against 18, but a lot of strong demand drivers. We still see continued consistent demand. We talked about organic constant currency growth a quarter ago. We said we thought it would be 4% first half of 2018, 4% second half of 2018, and 4% for the full year. We actually came in a little bit higher than that on an organic growth constant currency growth rate for revenue. We expect comparable organic growth revenue of constant currency growth in 2019 as well. I think the regions that will lead that are the Americas and EMEA, as well as converting some of the backlog. Of course, the Avigilon asset continues to perform at or above our expectations. As Jack mentioned last quarter, huge addressable market, about 12 billion without China. We size that market growth growing at 5%. We're targeting growing the Avigilon asset 3x that. I think Jack has done a great job with his team of managing the asset, increasing sales coverage, investing in that business. When I look at LMR, when I look at the command center software suite and the progress Andrew Sinclair and Kelly are making, and then overall growth of services and software, which we continue to believe is high single digits, PSNI low single digits, but in 2019 we're going to grow revenue of the firm. We're going to expand gross margin of the firm. We're going to increase cash flow despite a higher effective cash tax rate. We're going to grow earnings per share. We're going to grow operating margins. I think the team has done a really good job, and I think we're well positioned as we sit here in February of 2019.

Jim, this is Gino. The first part of the question was VAS.

No, we were just kind of updating the overall software. The software standalone or command center, however you want to look at it, revenue rate comparable to the 400 million you were talking about.

Yeah, I think that as you unpack the segment, we expect high single digits for the segment of services and software. That comports the double digit growth of software and mid single digit growth of managed and support. On an annualized basis in 2018, the business performed that way. Actually, I would say above expectations given acquisitions. But, Tim, as you comport that 400 million software and lay on a growth rate, think double digit growth rate on that piece, which feeds a high single digit combined for the segment.

Okay, great. Thank you.

Yeah, thank you.

And we'll go next to George Nodder with Jeffries. Please go ahead.

Hi, guys. Thanks very much, and congratulations on the good results. I guess I wanted to start by asking you about the government shutdown. Obviously, it's topical these days. I'm assuming you had a minimal impact in your December quarter and then maybe a little more impact you expect in Q1. But can you just talk about what mix of business comes from U.S. Federal and then what sort of impact are you seeing or do you expect to see Q4 and then now going into Q1 and beyond?

Hey, George. So first of all, any impact in Q1 has been implied, obviously, in our guidance. And frankly, we expect minimal impact. The second thing, I think the second part of the question was related to the size of the federal business. It's approximately 600 million, but it's important to note that it comes from a multitude of different agencies. I think many companies in this space are defense and security. We do business with law enforcement, administration, FBI, as well as providing base security as well. The last thing I would note is that our managed and support service business for the federal government, actually those contracts all come in largely in our fiscal Q3, which is aligned with the federal government's close. So those things are already logged on the books. So to tie it all together, minimal impact and we'll have to see. No one can predict the future given the length, but we expect minimal to no impact to Q1 and we'll see how things play out the rest of the year.

Got it. Okay. And then just as a quick follow-up, I was just curious about the Vigilon. So obviously you're investing for growth in that business. You can see it in the margin performance. But when do you expect to start to see the revenue ramp there associated with those investments? Maybe just give us an update on where you're investing and how that's going.

Thanks. So, George, really our investment has been twofold. First of all, we fortified and expanded our enterprise sales force. So that's the first thing. The second thing, we hired a team specifically to get after our revenue synergies in state, local, and in federal government. Those teams were all hired by the end of the year. So the net of it, I think, as we think about it, the second half of the year is really when we think we'll start to see the impact of those things. Because we have a lot of new hires in the enterprise space. And then as you've heard me relate and I think you've heard Greg and Gino discuss before, the government sales cycle in and of itself typically takes 12 months. And so we started those things in the back half of last year. And I think we'll start to see some positive impacts in the second half of 2019. Great. Thanks.

And as a reminder, it is Starvin 1 for questions today. We'll go next to Vijay Bhagavath with Deutsche Bank. Please go ahead.

Vijay?

Vijay, your line is open. If you wouldn't mind checking your mute function. Yes.

Can you hear me? You can now. Okay. Sorry. The headset died. Amazing. So my question is, you know, it's great to see the confidence in the full year outlook, 6% to 7% versus expectations for around 5%. So help us understand, Greg, what are the drivers as detailed as you can be on what's driving that confidence in that 6% to 7% number? Thanks.

Well, you're right. We expect 6% to 7% for the full year. I think in part some of that top line comes, as I mentioned, from the backlog position and the record backlog position that we have exiting 18 coming into 19. Additionally, there's top line revenues that are coming from acquisitions, both Avigilon at least in Q1 in the sub period, as well as PlantCML and VAS. I think that there's a really good focus, Vijay, on both gross margin expansion to come with that top line growth as well as continued operating expense management. Well, OPEX is increasing for the firm. That's largely driven by, if not entirely driven by acquisitions. But on the base business, we continue to drive consistent efficiencies. So as I mentioned, I think demand in the state and local business regionally what's driving it, Vijay, is the Americas and EMEA. If I disaggregate it from a product view, land mobile radio demand remains pretty solid for North America, both in public safety as well as commercial customers. And command center software continues to grow at double digits. I think people, we have low penetration, single digit penetration against the $5 billion addressable market. I think more and more people want to buy the suite of product that we're developing, so demand is solid there. And again, Avigilon, as Jack mentioned. And not only is it a good segment, look, video is in high demand. Everybody knows that, both from a city or public safety standpoint as well as commercial. But it's not just video. It's video with machine learning, the appropriate analytics, the intelligence in the edge device, integrating it back into the market. And integrating it through our portfolio in the command center and what we do. So the good news is, yes, we're in video, but I think our solution is particularly strong around its design of AI at the edge device. And the way that we're incorporating that back from an integration standpoint for our customers in the command center software. So that's what I'd say.

Thank

you. Thanks, VJ.

And we'll take our next question from Walter Pichak with BTIG. Please go ahead.

Thanks. Hey, Greg, there's been a ton of noise since the last call about Chinese manufacturers, I think even today. There was another one ripped out of a Nokia network. I'm just curious, as you're kind of ramping the Avigilon business and talking to customers, what's the response to that? Is that something that's resonating with enterprise customers as well as public safety? And how do you think that plays out? Because I think there's been some press about, you know, not only the manufacturers of some of these cameras being Chinese, but even the components of other cameras that you wouldn't necessarily think are Chinese, maybe creating some concern for customers that could be an opportunity for you guys.

Yeah, no, I think you're right, Walt. I think it's, as you know, right, to back up, there's obviously a growing concern about what I call Chinese electronics content through the lens of cellular, Huawei, ZTE, through the lens of land mobile radio, High Terra, and certainly in video concerns around Hikvision and Dahua. And I mention them by name because they're mentioned by name in the National Defense Authorization Act. They're mentioned by name because our government has said that there's concerns around national security as it relates to those vendors. The government's saying that, we're not saying that, so we're following it accordingly. Clearly, that's beneficial as Malloy and team go into the U.S. federal business. The NDAA takes effect in August of this year, although since it's out there with long sales cycles, I think it's already being contemplated with purchases now, even though it hasn't gone into effect until August 13th. Your other question is right. It's not just government agencies, it's critical infrastructure. So whether it's power grid or airports or transit or oil and gas, I think there is an effect where some customers are contemplating because critical infrastructure looks an awful lot like public safety, and it gives some of our customers cause for pause. And your last point is also correct that it's not just Chinese vendors, but there are some critical Chinese components in other people's products that this ban applies to. So all of that said, I think we continue to drive to be the preferred Western alternative and leader, which we are in mission critical communications, command center software and video, and all of the characteristics that you described both governmentally and in critical infrastructure, well, I think are favorable.

And then just to my follow on question, since Chris said we do get to enterprise again, I think earlier you had mentioned that a vigilance strengthen your enterprise sales capabilities. You know, a lot of the acquisitions you've done historically have been adding more things to sell into public safety and helping those good relationships with the customers. When we look at 2019 and 2020, is there going to be an opportunity to add things that also the maybe the enterprise space or like I'm thinking like, you know, industrial IOT type applications or things that might not necessarily be the stronghold of public safety, but appeal maybe to that enterprise base given you've got this sales force there now?

Yeah, I think that's a possibility. Well, I mean, if you take our bass acquisition and license plate recognition, there's part of that solution that is public safety centric, but there's also a part of that solution that's deployed around commercial enterprise. So, yes, I think we will look at acquisitions. We'll always we're always evaluating acquisitions that make sense strategically and financially that would supplement the strength and clearly public safety. But it may make sense to your point in the enterprise as well, whether it be IOT or critical infrastructure, we'll always keep an eye on that for those assets.

And in the interim, you're just going to buy a ton of stock back. I mean, you mentioned 125 so far. That's obviously you already hit our Q1 run rate. So in the absence of acquisition, just a lot of share repurchase, right?

Well, I think that again, we've always talked about the capital allocation model, which on a normalized basis, we continue to follow. We use the majority of our capital last year to acquire companies. As we're into 2019, we will pay back the 400 million or we intend to pay back the 400 million of short-term debt associated with the Avigilon acquisition. When you do that, and over the course of the year, given more available capital, again, today, it contemplates, you know, buying maybe approximately 500 million of shares, plus or minus, which again is fungible between share repurchase and or acquisition. But you're right. We've gotten off to a solid start in Q1.

Great. Thank you.

And we'll go next to Adam Tindall with Raymond James. Please go ahead.

Okay. Thanks, Greg. I had a question before the call prepared to ask you about catalysts beyond 8 and 8, but I guess you preempted me on that. So I wanted to ask on the 9 and 10. I anticipated your question. Yes, you did. So 9 and 10. I just wanted to kind of break it apart, just starting with the 9 billion in revenue. You've seen nice revenue growth for a while. I think that applies like a high single-digit revenue growth category to 2021. We're likely going to get questions on concerns that we've been enjoying, an upgrade cycle, narrow banding, all that sort of stuff, and lapping that. Understand the secular trends in services and software, but maybe just talk about what gives you the confidence on the products and SI side to enable the sort of growth category that you're applying here.

Well, I think I'd say three things about the 9 and 10. Remember, it's not prescriptive guidance. It's directional. It's a current view, and it's contemplated within the catalyst. It's not a capital allocation framework. In other words, it could very well be a combination of organic growth and acquisitions. So it's not meant to be necessarily unpacking some detailed three-year view, but as we've looked at it from a management team and incorporated both what's in backlog and the drivers of the business across the segments for services and software, as well as product and SI, again, segment guidance, thinking low single digits be an SI, software and services, high single digits. We think those respective growth rates are generally sustainable, which informs our view of that three-year target. So that's kind of the way to think about it and contextualize it.

Okay, that's helpful. I think it also implies a strong double-digit profit-earning growth category. Maybe just touch on, as you thought about that plan, which segment do you see the most opportunity to expand margins to enable it?

Well, I mean, in 19, we're going to expand operating margins for both segments. For Kelly Mark's group on services and software, we talked about it a year ago, and here we are. And so we're guiding to it specifically about gross margins of about 50% and operating margins of about 30%. On the PSNI segment, comparable gross margins of 48% to 49%, but operating margin growth of 100 basis points on the bottom line. Over time, I think that services and software, given its profile and given its over time expansion in gross margins to be more software and multi-year services like, I think we have an opportunity to grow those margins over time, which I think would clearly be beneficial to us.

Thanks and congrats on 2018.

Yeah, thank you.

And we'll go next to Sammy Badri with Credit Suisse. Please go ahead.

Hi, thank you. My question mainly has to do with just contribution from VAS and Avigilon. Did they contribute anything to your reported backlog in the quarter or very little for 2018?

Well, Avigilon, very little, nothing for VAS. It was subsequent to quarter end. Got it.

And then for Avigilon and VAS, as you think about these two businesses being integrated into your business and then offered across, I guess you'd say, the rest of the channel in the sales force that you have currently, would you describe the integration, at least for Avigilon, as somewhat completed or still in the cycle? And then for VAS, could you give us an idea on when that would be considered fully integrated across every single salesperson, every entity,

etc.? I would say Avigilon's integration is largely completed. And VAS, again, dimensionalized of about 100 million of annual revenue, EPS neutral for 2019. It's a fairly small tuck-in, so I would expect us to have some run rate and rhythm of performance in a quarter or two. Got it. Thank you.

And we'll go next to Jim Suva with Citi. Please go ahead.

Thank you very much. I know you earlier talked about the federal government's closure. The question is, is there any ripple effect, positive or negative, to the state and local governments, whether it be election cycles or the federal government shut down and coming back, or is the contract just so long-term major or not impacted? Yeah,

so as it applies to state and local, around nine years ago, state and local government had really kind of moved away from federal grants. There's been kind of a suppressive effect on federal funding to the locals for public safety technology. So they stand alone. They budget their own dollars in a large part. And so the federal shutdown has no impact at all. State and local is fully operational. RFP activity, cutting of purchase orders, etc., is normal course of activity right

now. And then my follow-up is, any updates on the airwave terms, extensions? Is it reflected in your backlog? How should we think about that, if any changes?

I'm thrilled about the airwave extension. I tip my hat to Kelly Mark and Vincent Kennedy and his whole team in securing that extension, again, through the end of 2022. It's about a billion one that went into backlog. And we expect another 300 to 350 million of additional contracts, local entities that aggregate up that will go into backlog. That those contracts get signed between now and the end of the year so that the 1.45 billion, which was referenced by the customer, is fully contracted for entering into the extension period. It is worth noting to your point that the terms and conditions are substantially similar to the original contract term for airwave, which I think is obviously good and a lot of hard work by a lot of people. So it's good news.

And Jim, just to be clear on the 1.1 into backlog, so as we think about -over-year backlog increase in services and software, 1.1 was the extension, airwave extension, but in the backlog, the year-ending backlog, you have to offset the revenue that we realized in 2018 as well as a portion of the effects that we noted in our earlier comments impact the backlog. So when you think about the services and software segment, the majority of the backlog increase was driven by the Americas, by North America. It's about $550 million or so of backlog increase associated with airwave. Just to be clear on that. That's

a great point, Gino.

Thank you so much for the details and clarifications. That's great. We appreciate it.

And once again, it is Starvin 1 for questions today. We'll take our next question from Paul Silverstein with Cowen. Please go ahead.

Thanks, guys. First off, I was hoping, Greg and Gino, I think you all had referenced the Vigilon the quarter before last as having accelerated from the 15% growth rate at the time of the acquisition earlier last year. I was hoping you'd give us an update on where that growth rate is today. I heard you say that you're expecting 15% or triple to 5% market rate. But again, if you could update that. The bigger picture question is relative to the guidance you gave for calendar 19, where are the greatest opportunities for upside? Where are the greatest risks for the guidance provided? And one more, if I may, which is I heard your response to the last question about state and local. My specific question would be in their budgeting process, so early in the year, and I recognize that public safety is somewhat unique, but do you already have visibility in most cases into those budgets? I assume they're relatively healthy given the state of the economy, but that's the question. Do you already have that visibility? Thanks, guys.

So I would say on a Vigilon, again, credit to Jack Malloy and his team performed at or ahead of expectations for the planned period last year in 18, healthy double-digit growth. You're right, again, articulating for 19, looking to 3X the market, given the performance of an action that Jack and team have taken to prepare us to go get and satisfy demand on the commercial as well as public safety side and U.S. federal side. Longer sales cycle, Jack mentioned he sees that getting more traction in second half. So a Vigilon tracking well. On risks and upside, I would just say I think all in, I think our view is balanced. It's probably worth noting that if I were to detail regional color, we see the growth being driven largely by North America or the Americas and EMEA, but we have a muted expectation for Asia-Pac or roughly flat. So I think that incorporates our realistic view at this point of that region. But I'd say from a risk and opportunity standpoint, all in, it's a balanced view at this point in time. Paul, I think your last question was around state and local budgets. To answer your question, our team works very closely on both fronts. There's operational budgets for state and local governments, and that would really encumber maintenance and support of networks. The secondary thing, that's also device refreshes and those kind of things. So we have good visibility on a consistent basis to those budgets. The second thing is our team, particularly here in North America, Jim Mears' team, works very closely with customers on large scale projects in terms of capital allocation requests that we put through. So in terms of visibility, I think our team around the room here is generally pleased. The sixth quarter rolling that we take, we obviously take a keen interest on not only what's happening this quarter, but out sixth quarters and visibility and pipeline for state and local government continues to look good.

I appreciate it. Thank you.

And we'll go next to Keith Hosam with North Coast Research. Please go ahead.

Good afternoon, gentlemen. Greg, if you could provide a little bit of cover on the VAS acquisition, perhaps dimensionalize the strategy behind the acquisition and perhaps the growth rate and where you expect synergies and the benefit going forward with that acquisition.

Well, I think the VAS acquisition is all about the importance of content. And it has the largest database of license plates in North America. It's a critical need component for public safety. And we had been talking to these folks for a number of months and feel it's a natural tuck-in that matches the demand requirements of our customers and improves our analytics capability. I think it integrates and simplifies our customers' workflows. So I just think it makes a lot of sense. As we mentioned, it's probably an additional approximately 100 million in revenue in 2019 EPS neutral for the year, probably a penny negative in Q1 if you really want to disaggregate and get into the detail. But I like it because data is getting more and more important. And this specific data is directly a high-need one for our public safety North American customers.

Got it. And do they go to market the same way as Motorola does? Or there could be synergies in the sales force?

We look to line up – this is Kelly Keith – we look to line up their sales team working with our team closely. They also use some partners. So there are similarities to the way we go to market. And in regards to selling their solution, it will fit right into our command center software selling motions that happen with Jack's team.

Great. And then I just do a follow-up question here. You guys mentioned you want to be able to grow gross margins throughout the year. I guess if you could just fill us in on a little bit of strategy behind you to do that. Is there efficiencies you can get in the manufacturing process or is it through pricing? How do you plan on raising gross margins?

In both segments, either segment. Keith? So let's take the services and software segment first. A large part of the margin expansion in 2018 and a significant portion moving forward into 2019 is related to our underlying software business and improvements we've made in delivering, closing out prior projects. In the product and systems integration segment, gross margin improvements, there's several initiatives around gross margins from skew reductions to rationalizations in the supply chain, as well as some targeted price actions within that segment. And I think for both segments,

Andrew Sinclair on the software side and Jack's team with Kudzerski and Scott Moten, I think that we continue to get efficiencies around platforming of these businesses, both platforming infrastructure, platforming LMR devices, and platforming command center software. And those efficiencies are reflected in the gross margin expansion for services and software. And some of the operating margin expansion plan for PSNI.

Great. Thanks, guys. Appreciate it. Good luck.

Yeah, thank you.

And we'll go next to Paul Coster with JPMorgan. Please go ahead. Thank

you for taking my questions. Two quick ones. I wonder if you could give us a little bit of help on projecting out the segment level revenue for 2019. I assume obviously that BASC gets loaded into the software and services business. Perhaps you can sort of elaborate a little bit for us.

Sure, Paul. This is Gino. Really, it's consistent with what we've said about the longer-term guidance, product and systems integration at low single-digit growth and services and software at high single-digit growth. Now, that's a longer-term view, but in general, that's our view of the growth of both segments.

Got it. Thank you. And then if I may ask the airwaves question in a slightly different way. I think in the past we've thought of it as a $400-500 million of revenue per annum contract. And I wasn't quite sure with the $1.1 billion, whether we should kind of cut that back a little bit, or was there some kind of adjustments that we had to make based on what Greg was saying earlier on that gets us back into that $400-500 million zone, or perhaps I was just simply wrong?

No, the total number associated with the airwave extension is $1.45 billion. $1.1 billion is contracted for already and has fed into backlog. We expect the subsequent $300-350 million in local contracts executed over the balance over the next several months. So the airwave extension three years through the end of 2022, Paul, is at very substantially similar terms on the original deal. So that's a favorable outcome for us.

Yep. Got it. Thank you.

And we'll take our next question from Ben Ballen with Cleveland Research. Please go ahead.

Good evening, guys. Thanks for taking my question. I wanted to dive in a little bit on the command center. How would you say you're progressing on the creation of a broader product suite? Can you talk a little bit about the sales cycle of that motion to customers? What's the duration? How does it compare to what you've seen traditionally in LMR? How does it compare to a Vigilante? Thanks.

So on the command center, the progress, we're very pleased with the progress we're making. The focus of the strategy in the command center has been around three things. First off, it's around consolidating the platforms across the various product sleeves that touch every component of the workflow. The second component is around integrating the suite so that there's a clear flow of information, a common user interface, pieces of records that come in from a 911 call taker will then automatically be handed to the CAD operator and then automatically handed to the command center and subsequently into records. And the third thing is moving the platform to be cloud ready on the Azure platform so it's prepared to be sold as a service. So we're very pleased with what we're seeing as we sell the command center software. I'll let Jack talk a little bit about the sales cycle. But when we sell brand new software engagements right now, roughly you can think about 25% of those are suite sales. But that's not the thing that we are really looking at. When we engage our customers, most of our customers that we engage have a piece of software in the command center already. And the elegance of the suite is it makes the subsequent pieces of software that we sell in there all the more attractive based on the common user interface and the interface of data that helps make their workflow operate much, much smoother and hence provides them to be able to provide better outcomes to their customers. So Jack, I don't know if you want to talk a little bit about the sales cycle that we see as we engage.

Sure, Kelly. So I would just piggyback on that to say that the selling motion is typical of a government capex project, typically 12 to 24 months. The difference with command center software, and Kelly just noted it, is there's a level of tangibility because it's a constant. It's a 24 by 7 environment, whereby they're dealing with the technology. Why the suite approach makes sense from our customer standpoint, and this is big, is because when you go in and do an upgrade of these networks, it's pretty intensive in terms of the work that's done. It's disruptive in a 24 by 7 environment, so the more that you can get to a common user experience, which is exactly what Kelly and Andrew and team are doing, we think it'll make the lives of, frankly, our dispatchers and 911 call takers much more simple. But again, tying it back, similar to a large-scale radio network, 12 to 24 months is a sales cycle, and we're engaged now on 2019, 20 and beyond projects.

Thank you. And there are no further questions at this time. I'd like to return the floor back to Mr. Chris Cutzer.

Thank you, Alpery. That'll conclude it for today. Thanks, everybody. Thank you.

This will conclude today's program. Thank you for your participation. You may now disconnect, and have a wonderful day.