Jayme L. Brooks - Chief Accounting Officer and Vice President of Finance Darren R.

Jamison - Chief Executive Officer, President and Director Edward I. Reich - Chief Financial Officer, Executive Vice President and Secretary

Matt Koranda - Roth Capital Partners, LLC, Research Division Eric Stine - Craig-Hallum Capital Group LLC, Research Division Colin W. Rusch - Northland Capital Markets, Research Division Ajay Kejriwal - FBR Capital Markets & Co., Research Division Thorsten Fischer

Thank you. Good afternoon, and welcome to Capstone Turbine Corporation's conference call for the second quarter of fiscal year 2014.

I am Jayme Brooks, your contact for today's conference call. Capstone filed its quarterly report on Form 10-Q with the Securities and Exchange Commission today, November 7, 2013.

If you do not have access to this document and would like one, please contact Investor Relations via telephone at (818) 407-3628 or email [email protected], or you can view all of our public filings on the SEC website at www.sec.gov or on our website at www.capstoneturbine.com. During the course of this conference call, management may make projections or other forward-looking statements regarding future events or financial performance of the company within the meaning of the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995.

These statements relate to, among other things, growth of the oil and gas and transportation markets; increased production rates; higher average selling prices; lower direct material cost; ongoing new order flow; reduced cash usage; growth in revenue, gross margin and backlog; attaining profitability; improvement in certain key performance indicators and strategic initiatives; the environmental advantage of our products; achievement of EBITDA breakeven before the end of fiscal 2014; reduced royalty rates; compliance with certain governmental regulations; new product development; and the success of our relationship with the Department of Energy. Forward-looking statements may be identified by words such as expects, objective, intend, targeted, plan and similar phrases.

These forward-looking statements are subject to numerous assumptions, risks and uncertainties described in Capstone's Form 10-K, Form 10-Q and other recent filings with the Securities and Exchange Commission that may cause Capstone's actual results to be materially different from any future results expressed or implied in such statements. Because of the risks and uncertainties, Capstone cautions you not to place undue reliance on these statements, which speak only as of today.

We undertake no obligation and specifically disclaim any obligation to release any revision to any forward-looking statements to reflect events or circumstances after the date of this conference call, or to reflect the occurrence of unanticipated events. I will now turn the call over to Darren Jamison, our President and Chief Executive Officer.

Thank you, Jayme. Good afternoon, and welcome, everyone, to Capstone's Second Quarter Fiscal 2014 Earnings Call.

With me today is Ed Reich, our Executive Vice President and Chief Financial Officer. Today, I'll start with a general overview of the second quarter and then turn the call over to Ed, who will review the specific financial results.

I'll then close with some comments about markets, trends and orders. During the remarks, we will be referring to presentation slides that can be found at the Capstone website under Investor Relations.

I'm just going to start with Slide 2. For the second quarter, total revenue increased 17% year-over-year to $35.3 million and product revenue increased 22% year-over-year to $28.7 million.

Following the collections and shipment timing issues we had in the prior quarter, for the second quarter, we focused our priorities on getting our cash conversion cycle back on track, and teeing up the second half of the fiscal year for a return to a stronger revenue growth and margin expansion. Gross margin dollars for the second quarter increased 88% year-over-year to $4.9 million, or 14% of revenue, up from $2.6 million or 9% of revenue a year ago.

However, most important is we generated strong cash flow of a positive $8 million from operating activities in the second quarter. On Slide 3, you can see the healthy margin trend line.

The second quarter marks our fourth consecutive quarter of double-digit gross margins, with positive gross margin in 12 of the past 13 consecutive quarters. Last quarter, I mentioned 5 key areas that will be critical to our continuing success.

Let's take a minute to look at those on Slide 4 and we'll go clockwise. We are continuing to refine our C200 microturbine engine production efficiencies and as the European market slowly returns, we're expecting larger megawatt opportunities that will drive even higher production rates.

Our next key area of focus is higher average selling prices. In the second quarter, average revenue per unit increased to $135,000, up from $117,000 in the first quarter, and consistent with second quarter of last year's results.

Not only are we selling a higher proportion of larger units as part of our overall revenue mix, we are also benefiting from a modest annual price increase across our production lines. In addition, we recently increased FPP prices for the first time since we began the offering in 2009.

Another key to our success is low direct material cost. The year-over-year increase in gross margin for the second quarter was primarily related to the overall higher sales volume of our microturbine products, coupled with lower direct material cost.

Further reductions in direct material cost, as well as initiatives to address warranty expense as products reached maturity, will be ongoing areas of focus as we work to achieve profitability. Next, in ongoing order flow, total backlog increased $8.7 million or 6% year-over-year to $149.8 million.

As of September 30, 2013, we had 775 units or 161 megawatts in total backlog compared to 675 units and 155 megawatts at the same date last year. The backlog was adjusted during the second quarter to remove $1.5 million in DesignLine backlog as a result of their recent bankruptcy filing.

However, it's interesting to note that it appears they have found a buyer which happens to be a former Capstone distributor in the China market. And finally, reduced cash usage.

We used $7.9 million in cash in the operating activities during the first half of fiscal 2013, compared to operating cash usage of $9.6 million for the same period last year. This improvement is a result of our lower operating expenses and our continued focus on working capital management.

Our goal is to end the year with more than $30 million of cash on the balance sheet, and we feel very comfortable that we'll be able to achieve this target. At this point, I'll pause and turn the call over to Ed for more details on the second quarter financial results.

Ed?

Thanks, Darren. Good afternoon, everyone.

Let's begin on Slide 5 with a review of the second quarter. Revenue for the second quarter of fiscal 2014 was $35.3 million, up 45% from $24.4 million for the first quarter, and up 17% from $30.1 million for the same period last year.

Product revenue was $28.7 million, up 42% quarter-over-quarter and 22% year-over-year. For the second quarter of fiscal 2014, revenue from accessories, parts and service was $6.6 million.

This compared to $4.2 million in the prior quarter and $6.5 million for the second quarter of last year. The year-over-year improvement resulted primarily from higher sales of microturbine parts, offset by a lower microturbine service work.

Gross margin for the second quarter was $4.9 million or 14% of revenue, compared to $3.3 million or 14% of revenue for the first quarter, $2.6 million or 9% of revenue for the same period last year. Year-over-year increase in gross margin was primarily related to a $1.4 million improvement resulting from an overall higher sales volume of our microturbine products and lower direct materials costs during the second quarter of fiscal 2014.

Additionally, we also had decreases in warranty, royalty, production and service center labor and overhead expenses for a combined total of $900,000 compared to the prior year. Our warranty expenses are declining as a result of the decrease in our reliability repair program for our C200 and C1000 Series systems, as these products mature.

Also, we've mentioned in the past, we expect our royalty expense to decline as our fixed rate royalty for each microturbine system covered by our royalty agreement was reduced by 50% during the quarter because we reached our repayment threshold level with Carrier Corporation succession of interest to UTC Power. Going forward, this rate reduction will continue to benefit future periods.

R&D expenses were $2 million for the second quarter of fiscal 2014, compared to $2.3 million last quarter and $2.4 million in the second quarter last year. The year-over-year decrease of $400,000 was primarily the result of lower supplies expense.

That being said, we continue to invest in R&D as we focus on new product development, product robustness and direct material cost-reduction initiatives. SG&A expenses were $6.6 million for the second quarter of fiscal 2014, down from $7.6 million last quarter and up slightly from $6.4 million in the second quarter of last year.

The year-over-year increase was primarily due to a $600,000 increase in salary expenses, which was offset by a $400,000 decline in marketing expense. A net loss of $3.9 million or a $0.01 loss per share for the second quarter of fiscal 2014, compared to a $6.8 million or $0.02 loss last quarter, and a net loss of $6.2 million or $0.02 for the second quarter of last year.

The loss from operations for the second quarter of fiscal 2014 decreased to $3.7 million, an improvement from the $6.6 million operating loss for the first quarter, as well as a $6.2 million operating loss for the same period last year. Slide 6.

You can see our first half performance comparison for fiscal 2012 through fiscal 2014. We've made good steady and sustainable progress with each of these key performance indicators.

I'll now provide some comments on the balance sheet and cash flow activity. Please move to Slide 7.

Cash and cash equivalents totaled $28.3 million at September 30, 2013, as compared to $21.6 million at the end of the last quarter, and $38.8 million in March 31, 2013. We're pleased with our ongoing efforts to manage working capital and as a result, we generated $8 million in cash from operating activities during the quarter compared to $2.6 million of cash used in operating activities in the second quarter of last year.

CapEx for the second quarter of fiscal 2014 was $300,000, down from $400,000 for the second quarter of last year. As Darren mentioned, we're well on track to achieve our goal of more than $30 million in cash by the end of fiscal year 2014.

And an additional note, subsequent to the end of the second quarter, we received an unsolicited notice of warrant exercise in October 31, which was the day our remaining warrants were set to expire. 4.7 million warrants, with a 1 26 strike price were exercised resulting in proceeds of approximately $6 million, which we received on November 1, and which will be reflected in the third quarter cash balance.

In addition, as of November 1, there are no longer any outstanding warrants in Capstone's capital structure. Receivables were $18.4 million compared to $23.7 million in the prior quarter and $15.1 million a year ago.

The DSO improved on a sequential basis to 40 days for Q2 compared to 89 days in the first quarter. Sequential improvement was due to our strong cash collections in the quarter and our continued focus on cash management.

Inventories were $23.8 million at September 30, a reduction of just over $5 million sequentially as we shipped the finished goods from the end of the first quarter. Inventory turns increased to 4.6x compared to 3.3x last quarter and 4.8x with the same period a year ago.

Finally on Slide 8, you can see a visual record of our growth in backlog since fiscal '07. As Darren mentioned, we ended the quarter with a backlog of $149.8 million of modestly for the beginning of our fiscal year.

However, based on our current pipeline of activity, we believe that our revenue growth will accelerate in the second half of the fiscal year. That concludes my comments and back to Darren.

Thanks, Ed. Please turn to Slide 9 for our second quarter global shipment mix breakdown.

As you can see, oil and gas and other natural resource applications continue to accelerate as a majority of our mix representing 67% of shipments. Energy efficiency was 19%; renewable energy, 10%; and critical power supply and mobile transportation products were similar.

As you can see, we are continuing to drive substantial penetration of the oil and gas market globally, and this market continues to perform very well for Capstone. Turning to Slide 10.

In R&D, we continue to focus on adaptive and disruptive technologies to ensure our products are compliant with new regulations while leading the industry in emissions, reliability and efficiency. We have dedicated project teams that are making product improvements across our generated product family to meet these new, more stringent European low and medium voltage requirements for a decentralized power generation.

These changes will give customers increased functionality by providing reactive power or adjustable power factor back to the grid for improved economics, which positions our products well for future regulatory changes in both Europe and North America. We also continue our strategic public private relationship with the U.S.

Department of Energy on the development of the C250 and C370 products. Our DOE project team successfully demonstrated the 370 low-pressure subsystem and validated the performance and efficiency of the C250 product.

Additionally, we recently achieved a critical milestone by obtaining authorization from the DOE to close stage 2 of this contract. Our next work on stage 3 will focus on high pressure-development of the new high-temperature turbomachinery components and integration into a proof-of-concept subsystem for further validation of the C370 performance objectives.

We are also working with the DOE's advanced manufacturing office in the Oak Ridge National Laboratory to develop a new class of corrosion and creep-resistant aluminum-based steels. This has the potential to be a lower-cost alloy for the manufacture of the recuperator and may also provide higher temperature capabilities to further improve efficiency and product life.

As a side note, we are pleased to hear that our successful DOE relationship will be highlighted in an upcoming session of Congress as a success story by the DOE Assistant Secretary, Dr. David Danielson.

We're looking forward to sharing updates of our progress on future conference calls. Let's turn our attention on Slide 11.

You can see from our more recent notable orders since the beginning of the second quarter. I spoke about the first 2 in Vietnam and Northeastern U.S.

in our last earnings call, so I'll turn my attention to the follow-on order in the Mid-Atlantic region. This new order is for 6 Capstone C1000 Power Packages for 3 separate locations and brings this customer's total fleet up to 9.2 megawatts in the West Virginia area.

This new customer is an industry-leading natural gas pipeline company. They all rely solely on Capstone's clean power to meet their production quotas at these remote plants, using our natural gas fuel turbines to power propane-stripping equipment.

Our units were chosen over the local grid because of availability and improved cost. We also received another follow-on order from a large Australian coal seam gas company.

This is our third follow-on order from this customer and brings their total fleet up to 248 C30 units, providing reliable low-emission electricity, 24/7 in one of the harshest and most remote parts of the world. Coal seam gas is formed in the basis of a major new LNG export industry that will deliver substantial economic benefits to Australia, including substantial job creation.

And finally, in Mexico, we received an order for 1 C800 and 1 C600 for one of the key distributors of the 2 large industrial customers, a large food and beverage packager and a plastics injection molding company. We are very focused on the booming industrial CHP and CCHP markets in Mexico where we're going to replace less efficient on-site equipment and an overburdened electrical grid with our efficient, reliable, green microturbines.

Overall, we will continue to see weakness and inconsistencies in the Continental Europe. However, the Russian market contributed significantly in revenue in the second quarter, with our Russian distributor BPC Engineering having a record quarter.

In the U.S., we have seen some extension of project timelines, specifically in the Eagle Ford shale region, which we think is a temporary issue. But demand in the Marcellus shale continue to be very robust and we had a very nice quarter.

In the New York City projects, several of them continue to move forward, but it's typical they often take longer than expected in that area of the world. And from a market segment perspective, we obviously continue to build our global footprint in oil and gas and other natural resources.

Additionally, as we've seen in recent quarters, the marine industry continues to be a very attractive market for us, as long as the hybrid vehicle, diesel product and the heavy-duty automotive and trucking industries, the need to comply with higher emission control standards and new clean fuel initiatives. We are quickly approaching halfway point to the third fiscal quarter, which is typically our best quarter of the year from a margin and revenue standpoint.

Customers in the industries serve, particularly in oil and gas, have remaining budgets to spend that must be used up by the end of the fourth quarter, and we have previously benefited from this pent-up demand. Based on our current outlook, we expect to return to sequential margin growth in the second half of fiscal 2014 as revenues accelerate and traction of our C1000 Series product continues to build.

And finally, we continue to target EBITDA breakeven in the fourth quarter of fiscal 2014. That concludes our prepared remarks for today.

And thanks, everybody, for their attention. Operator, we are now ready to open the calls up to questions of our analysts.

This is Matt on for Phil. And just to start off, I apologize if some of this has been answered on the -- sort of in the startup here.

We're jumping between calls. But just wanted to start out with your distribution partners.

I know you guys just mentioned the Russian partner having a record Q2, can you talk about how this plays out for the remainder of the year and what can we expect in terms of revenue growth from your Russian partners?

Yes. No, as we mentioned in the last call and again in this call, we started to see a rebound in Russia late last quarter.

And then in Q2, we saw a very nice build in his business. Remember, we had some product on the dock for him at the end of the quarter.

We had some issues with his credit line. That's all been straightened out.

He's had a record quarter, and he continues to look very strong in Q3 and beyond, which is excellent. I think in the U.S., we had a very good quarter from E-Finity, a lot of Marcellus opportunities as well as CHP.

We saw a slowdown in shale gas out of the Eagle Ford, but we're seeing a little bit of a rebound in Q3. So we're watching that closely to make sure there's no systemic issue going on in that region.

California and New York, both are progressing nicely. New York is a little slower than we want, California is about on-track.

Mexico, we've seen some nice order growth. Australia continues to do very well for us.

We have 2 distributors down there now. Both are top 20 and doing very well.

So I think, really for us, the biggest area of focus is still Continental Europe. I just returned from Zürich yesterday, continuing to meet with our distributors in that area of the world.

They're seeing the economy come back, they're seeing financing come back, but still customers are moving very slowly and moving very deliberately on projects. So we're still cautiously optimistic that we'll see a rebound in Continental Europe in Q3 and Q4.

Okay. That's helpful.

And just one more on gross margins here. Could you just talk directionally about the trend for the remainder of fiscal year '14?

Given that Q3 seems like one of your strongest quarters in terms of revenue and gross margins, just give us a sense for what kind of improvement we can look for quarter-over-quarter and, perhaps, into Q4 as well.

Yes. No, that's a great question.

We expect, directionally, to see margins to increase in Q3 and Q4 both. We're expecting margins to be around 20%, 21% in Q4, which of these revenue levels would be EBITDA breakeven.

Q3 was a little misleading. We had some negative mix.

In some cases, we had some older price projects come through. So it's a little bit misleading.

We also had some overheads that reversed from Q1, which benefited Q1, but was a detriment to Q2. But, overall, I think that we're happy with the progress we're making.

We're seeing the DMCs come down. We're seeing the ASPs moving in the right direction.

Warranty was down for the quarter, which was great, to see that trend continue. We strongly believe we're on the backside of that new product maturation bell curve, we'll call it.

Hopefully, new warranty rates will continue to go down. And the other one, for us, I think it's the DT [ph] royalty.

As Ed mentioned, we've now hit that next level in the royalty when that royalty rate drops in half, and we'll see that benefit in Q3 and Q4 as well.

Darren and Ed, great to see the cash generation this quarter.

Thank you, Eric. No, I think I said in my prepared remarks, but, for us, it was really critical that as we get around that $20 million level, that's kind of the low water level we want to see as a company to be able to support the working capital that we need.

So we're really focused on generating cash this quarter. We're very happy with the results we had.

And just to clarify, I believe this is the case, but that the $6 million you talked about, the 1 exercise, that is in addition to the goals that you've laid out?

Correct. Correct, Eric, it's just further...

Yes. No, great.

Yes, I just wanted to confirm. And just quick on margin, I mean, you just touched on it.

But at that royalty benefit, can you just remind us, I believe, I want to say it's 2% and just curious, I mean, did you get any benefit of that in Q2, and, I mean, you should see the full benefit in Q3?

Yes. Yes, it's -- we say it's worth about 2 margin points at about $35 million in revenue where we are currently.

With the royalties running around $1.25 million, then, today, with the rate reduced in half, it would be $500,000. And that's where the 2-points benefit comes from.

Okay. Got it.

And you didn't see much of that in what you're reporting today, right? I mean, that's more accretive going forward than anything else?

Right. No, in the current quarter, we had about $900,000 in royalty and about $600,000 of that was at the, or what I'll call the old rate or the 100% rate.

And the remaining $300,000 was at the 30% rate. So we got some benefit, but not full.

All right. No, that's great.

That's helpful. Maybe just quick for me.

Oil and gas, just -- I know you've got a long list of customers. Just curious.

I mean, any thoughts on what percentage of those customers -- your part of the regular-buying patterns, and then kind of how you think about your penetration. And I know it differs, but within each of those customer footprints, how early you are in that growth ramp?

Yes. No, this is Darren.

We still think we're fairly early in that growth ramp. I know the customers we've been in longer, Anadarko, Chesapeake, Pioneer, we're probably on our fourth or fifth order with those folks.

A lot of them were up to -- close to 100 microturbines. But even that, that relationship is 18 to 20 months old as we saw there's a lot of more work we can do there.

And I think, in a lot of cases, we're leveraging what we're doing here in the U.S., other parts of the world with the same customers, which is obviously very beneficial. So I would say in some cases, we may be as high as 20% of somebody's customers, but that's the exception.

In most cases, we're probably high single-digits. So lots of room to improve on the oil and gas side of the business.

Absolutely. If you look at Australia, we're still talking about another 200 to 300 systems over the next couple of years.

We've got our third follow-on order with that customer. We're up to 248 systems.

But that will -- they're just beginning to ramp up their drilling down there. And so, there's lots more opportunity where that came from.

Okay. Just last one for me.

The opportunity or the testing you're doing with pump jacks, just curious, what the, kind of the next milestone or maybe the timeline we should look for there?

Yes, no problem. I think the pump jack market is a huge opportunity for us is as you pointed out before, Eric.

It's really an ability for us to get into some unsteady loads and some difficult loads for a power generation equipment to handle. We've got our solution out there in the field today.

We don't have a lot of hours on it. So, really for us, we probably need to go at least 6 to 9 months with that new solution before we go ahead and release it as a product, maybe as long as a year depending on what the results look like.

But, for us, our goal is to be able to service many loads as possible in the oil and gas base. Obviously, we're building a very strong customer following and customer base.

So the more we can widen that net of opportunities in the same space and the same customers, obviously, our cost to acquire those orders would be very low and our penetration would be very high. So definitely it's a scenario we're focused on, along with marine, data centers and some of the new markets we're moving into.

Can you talk a little bit about the combination of technologies that you guys are pursuing now? I mean, obviously, the announcement about integrating solar and the microturbines is a great solution that should have fairly long legs as you roll out across the country and into some developing markets.

But are there other combinations that you guys are working on? And also, could you talk about the prospects internationally for those sorts of applications?

Yes. No, I think that when I talked about the ongoing work we're doing for Europe, with some of the new rules as far as grid interconnect there, that's really driven by heavy use of solar and wind in Europe and the ability to produce power factor -- electricity, the power factor there, to control that power factor, export VARs.

All of which, I think, is where the distributed generation world is going to as these grids have to deal with a lot of solar and wind on their grids. I think the good news is we're very compatible being in a inverter-based technology with solar, with wind, other power generation sources, the other larger turbines or reciprocating engines.

Virtually, with our technology, we can parallel with almost anything and provide data center quality power to our customers. So I think whether it's traditional, on-site generation parallel with the grid, or it's mixing with solar and wind, it's a great opportunity for us going forward.

I think the flexibility of our product and the ability to meet all the grid requirements worldwide is going to continue be a benefit for us. The reciprocating engines are going to have to add more hardware to meet these new European standards, which started in Germany and have now gone to Italy.

It will quickly be in Spain. I'm sure we'll see it in -- being in the other parts of Europe and then eventually, it will come to the U.S.

and other markets. So it's some engineering work for us, that we didn't have planned for the year.

But, for us, it's the more complex the requirements of interconnect are, the better off it is because it makes us that much more strategically competitive.

Okay. Great.

And then, can you talk about the evolution of the inverter offerings? And if you're going to pursue any sort of closer partnerships on the integration of -- into the grid and the management of the power?

No, we pretty much do that in-house as far as how we design it. We're working with a new vendor on actually building our power electronics out of New Hampshire.

That's part of our cost-reduction activities we have going on. But our goal going forward would be to have a power electronic system that would be somewhat agnostic towards the multiple different vendors, parts in there, specifically on the IGBT side, which is where a lot of the cost comes from.

That's kind of a Phase 2 of our cost-reduction effort on that side. But I think, in general, that's part of our cost reduction supply chain strategy.

We continue to focus on how to have multiple vendors and, particularly in the U.S. if we can, to give us the best price, the best availability and, frankly, the most robust supply chain we have because we continue to struggle with part shortages especially out of Asia, which impact our ability to manufacture every quarter or need to overtime, or expediting charges that we'd like to get away from.

So I think, in general, that's also part of our overall strategy of improving our supply chain.

So good color on gross margin. Just maybe -- I thought I heard 20%, 21% in the fourth quarter, so that's great.

I think you also said near-term mix issues, maybe just clarify how should we be thinking about the progression from here? Is the biggest improvement expected in the fourth quarter, or should we expect more like a linear improvement?

Yes. No, I think you're going to see we're a lumpy business, so it will depend on mix in Q3.

Obviously, you're going to see improvement from the royalty that's mathematical. So you should see at least a $0.5 million pick up there, which is going to add obviously to the margin.

Knock on wood, we'll continue to see the warranty rates come down. And, again, I think the warranty rates are actually down from Q1, but Q1 was only $24 million of revenue.

So we added a lot of revenue, which inherently should raise your warranty, and our warranty actually went down, which shows the fact that we're heading the right way. I think on the direct material side, we've got several new cost reductions cutting in.

In some cases, we're running parallel with the old vendor just to make sure we have a robust supply chain, so that mutes it a little bit. But, again, by Q4, you should see the full benefit of several of those cost reductions.

And then, again, the good news, we had a very large PPC, our Russian contingent in the quarter. They tend to have more old-priced projects in the backlog.

So the good news is Russia was up. The bad news is it was a big piece of our product sales for the quarter, which was a little bit of a negative mix for us.

But, again, one that we definitely would take. And then, as I mentioned, there is some overhead from the finished goods we had in Q1, which gives us a little bit of benefit in Q1 and that reverses in Q2.

So lots of moving pieces. I think the good news is we can see the underlying improvements as Q3 rolls around, that we expect to see further revenue growth and then further maturation of all the other things we've been talking about with -- again, Q4, we're not changing our guidance.

We still believe an EBITDA breakeven in Q4 if we keep working our plan.

Great. That's very helpful.

And then on revenues, obviously, this quarter is your best quarter seasonally. But then you also talked about project timelines being extended.

So how should we kind of think -- tie the 2 comments together? And maybe, also talk about the next 12 months.

Historically, your backlog has been a good indicator of revenues, next 12 months out. I mean, is that -- does that still hold, or should we be thinking differently?

No, I would say that still holds, Ajay. I mean, Q4 is typically our biggest sales quarter.

We have -- we usually have Q1 price increases, so we should get a little bit of a wind in our sales there. But Q3, from a revenue margin standpoint, has historically been our best quarter of the year.

We hope to do that again this year and then follow up with another strong Q4, with both bookings and revenue in Q4. And then we'll see.

I think growth is still challenged I think a little bit because of Europe. I could see growth slowing to 10% next year, but I think it's too early to really forecast that.

We need to see what happens in Q3 and Q4. Obviously, the U.S.

economy has been very good to us. Mexico has been very good.

South America is still coming online. So we're not sure how much revenue we'll get out of South America.

And probably, more importantly, we used to talk about megawatt orders as being huge, and then now, 3 to 5 megawatts has been big orders for us. We're starting to actually book 20- to 25-megawatt projects.

And so, as we start moving to a larger load regime and getting booked for those type of projects is not uncommon, or it wouldn't be surprising for us in the next 6 to 9 months to land one of those projects, which obviously would be a big boost in revenue for us.

That's helpful. And one more if I can squeeze in.

On SG&A, so you had good performance there, and I know Ed talked about $400,000 in marketing expense being lower in the quarter. So is that a onetime or is that more like a trend we should be baking in?

This is a really nice performance on SG&A.

It's probably a little lower than the going forward run rate will be. Saying that Q1 was higher than what we would have expected.

So somewhere right between the 2, Ajay, you should model going forward. But we are impressed that you look beyond the margin and revenue.

That's great.

I have questions regarding your backlog and the revenue split. Could you give me a little bit more color on the order intake in Q2?

And perhaps, if you guys were [ph] regarding your FPP backlog in Q2?

Yes, sure. This is Darren.

The bookings for the quarter were $22.7 million.

Or $24.2 million gross if you...

Correct. And I was just going to say, if you take -- if you put DesignLine back in, which we took out for the quarter, it was about $24.2 million in bookings for the quarter.

So a little bit lighter than Q1, better than Q3 last year, similar to Q2 last year. So I think in line, we're a little light from our 1:1 book-to-bill that we look for, obviously, especially when we take out the DesignLine.

As I said, DesignLine does appear to have a buyer. So it's very possible in Q3 that if that sale goes through, we'll put that -- those orders back in backlog.

We felt it was prudent right now until the sale is complete to go ahead and pull that back out. As far as FPP goes, we continue to grow the FPP backlog.

I don't think we've published that right now. But, safe to say, we're adding contracts every quarter much faster than any contracts are rolling off.

So we're still very happy with our FPP growth. As I mentioned in the call, we just put out a -- our first price increase in the FPP.

And I think we're mature enough in that market, and we're seeing enough traction that we can go ahead and ramp the prices up a little bit.

And regarding the European and Russian share of your backlog, can you give me just a rough idea how much of your backlog is coming from Russia and from Europe?

Yes, we don't break it out, but I would say, Russia is, by far, has more backlog than Europe. Russia and Europe together, I would say, 2/3 of that would be Russia.

We have very little backlog from France, Italy, Spain. We have some from Germany, it's probably our strongest distributor.

Very little backlog from the U.K. So maybe in our European business, which we've talked about, has dropped substantially in the last couple of years.

We're very much looking for those numbers to improve. But remember, in fiscal '12, Europe and Russia was $47 million and then in fiscal '13, it was $25 million.

So we're very much hoping to build on that $25 million this year and get back to some more historical numbers.

Okay. And just one further question regarding an update on the C250, could you perhaps give me a little bit more insight regarding the timing what do you think when the C250 might hit the market?

Yes, as I mentioned before, it's running in the labs. We've hit our efficiency and power targets.

We'll move to beta testing here shortly. And that will probably be 12 to 18 months of beta testing depending on how a testing goes.

But what's really important is that we see the warranty rates on the C200 come down because 90% of that build material is the same as the C200. So it's partially driven by the beta testing on the C250, but it's also very much driven on the maturation of the C200.

So that's really key. So I think if it's -- everything is perfect and it's 12 to 14 months, or if it's 18 to 20 months, it really just depends on how the C200 performs and how those field trials go.

Ed actually gave me a note and said that we could go ahead and say what the FPP backlog is. So we're operating real time here.

That number is about $42 million in backlog.

$42.6 million.

Yes, $42.6 million, like Ed said. And so that's up substantially.

I think the last time we reported it, that number is closer to $30 million and, again, that just gives you some data points in time. It's not something we're going to report on a quarterly basis.

But, again, we've got several things to do on that FPP to improve the margins, and our goal on the servicing parts, as you know, is to have those margins north of 50%. So we're still working that as we mature the product.

Obviously, as the C200 matures, our warranty rates will go down, but also our FPP expenses will also go down. So it's a double win as we mature that C200 product.

Well, I want to thank our analysts for taking the time. I know that several of them had several calls today.

So I appreciate them taking the time out of their busy schedule to listen to our story and continue to follow Capstone. As I continually say, we're a lumpy project-based business, and you need to really look at us year-over-year to realize the substantial improvement to our business.

I think it's dangerous to try to look at Capstone sequentially and drive any kind of conclusions. So if you look at year-over-year, second quarter revenues up 17%; Q2 gross margin year-over-year is up 88%; gross margin percentage year-over-year has gone from 9% to 14%; backlog improved 6% year-over-year despite the ongoing European condition.

That's probably the -- one of the things we really need to continue to monitor is how Europe comes back. R&D expenses were down 17% despite the work we're doing on the C250 and the 370.

Obviously, that's somewhat helped by the DOE offsets and having a great partner like them. SG&A was up a nominal 3%, which is really just your cost of living increases.

And then net loss improved 37% year-over-year. Most importantly, cash generated from operations improved from a negative $2.6 million in Q2 last year to a positive $8 million this year, so an over $10 million swing.

If you look at year-to-date performance, year-over-year, for the 6 months, margins have gone from 8% to 14% on really nominal revenue growth. So what does that say is that even on very similar revenues, we've driven much better margins and better performance and controlled our expenses.

As margins -- as revenue start to increase over the back half of the year as we predict, we're going to see even more margin improvement going forward and, obviously, heading for the critical EBITDA breakeven level. As we've said, margins should accelerate in the second half the year.

In second half '14, we should start to see the benefits of a lower royalty expense, as Ed outlined, the lower warranty rates if we continue to see the improvement that we outlined. Obviously improving DMCs and then past price increases moving through the P&L.

So, really, our largest concern for the year continues to be the strengthening of the European market and we will look out for what's going on in the Eagle Ford market here in U.S. to make sure we're not seeing some systemic issues there.

We'll continue to focus our expense management. As Ajay pointed out, we had a very nice expense quarter, both from an R&D and an SG&A perspective.

Moreover, I think the most important thing for us is really maturing our distribution channel, continuing to weed and feed that channel, and then making sure that we have enough cash on the balance sheet to grow our business. So to have Q2 generate $8 million of cash was huge strategically for us and really tees us up for the back half of the year.

So without that larger balance sheet, we couldn't have the growth we need in the second half of the year, and we couldn't reach EBITDA breakeven without some sort of dilutive events. So with that, I will close my remarks and look forward to talking to everybody in the third quarter.

Thank you.