Badger Meter Inc (BMI) 2009 Q4 法說會逐字稿

Good day ladies and gentlemen and welcome to the fourth quarter 2009 Badger Meter earnings conference call. My name is Deanna and I'll be your operator for today. (Operator Instructions) As a reminder this conference is being recorded for replay purposes.

I would now like to turn the conference over to your host for today, Mr. Rick Johnson, Chief Financial Officer. Please proceed.

Thank you very much Deanna. Good morning, everyone, and welcome to Badger Meter's fourth quarter conference call. I want to thank all of you for joining us. As usual I will begin by stating that we will make a number of forward-looking statements on our call today. Certain statements contained in this presentation, as well as other information provided from time to time by the Company or its employees, may contain forward-looking statements that involve risk and uncertainties that could cause actual results to differ materially from those in these forward-looking statements. Please see yesterday's earnings release for a list of words or expressions that identify such statements and the associated risk factors.

Let me reiterate some of our guidelines. For competitive reasons, we do not comment on specific individual product line profitability other than in general terms, nor do we disclose components of cost of sales, for example, copper. More importantly, we continue our practice of not providing specific guidance on future earnings. We believe guidance does not serve the long-term interest of our shareholders.

Before I talk about our fourth quarter results, let me also comment on some changes we are making to our terminology. Everything that Badger Meter does revolves around flow measurement using a wide variety of technologies such as positive displacement, impeller, oval gear and so forth. All of these technologies are used in a broad range of applications. The application in which most of our sales are made deals with water, primarily metering water usage for utilities. But water applications extend beyond that and also include waste water, irrigation, water reclamation and industrial process applications.

Some of the same products sold for water purposes, as well as our other products, are also used for specialty applications. A good example of this is the Orion radio, developed for water but now sold to natural gas utilities for attachment to their gas meters. In order to more effectively communicate to you about our business, we will begin to discuss our sales in terms of water applications and specialty applications rather than utility and industrial. It's a subtle difference since water application continues to have utility water meter and related technology sales as its biggest piece. But we will now also include sales used in other water applications such as sales of impeller meters for irrigation. Specialty applications will include such products as valves, automotive fluid meters and radios sold to the natural gas industry. One of the reasons for this change is that our sales force is now cross selling our products, so with a changes in the way we sell, we are also changing the way we report sales.

Now onto the results. Yesterday afternoon after the market closed, we released our fourth quarter 2009 results. Sales for the fourth quarter totaled $56.4 million, an $11.2 million or 16.6% decrease from the fourth quarter of 2008. With small exceptions, all of our product lines showed decreases in the most recent quarter compared to the same quarter in 2008. We continued to see the effects of the economic downturn in our business as well as the slowdown in customer purchases caused by delays associated with the stimulus program. It is our understanding that stimulus funds must be allocated by the middle of this month and that there's an intent in the program to have a substantial portion of the money spent by September of this year.

Products sold for water applications represented 88.5% of sales for the fourth quarter of 2009 compared to 88.8% in the same period in 2008. These sales decreased $9.9 million or 16.4% to $49.9 million from sales of $60.1 million in 2008. The decrease is due primarily to lower volumes of units sold. It should be noted that the fourth quarter of 2008 was an unusually strong quarter with significant increases in sales of commercial meters and sales of residential water meters from projects that were occurring in Mexico. Neither of these recurred this year.

Sales of Orion-related products decreased approximately 21% while sales of Itron related products decreased 15% over the fourth quarter of 2008. In the most recent quarter, Orion continued to outsell Itron by nearly 2.5 to 1. Commercial meter sales were down nearly 18.8%. As I indicated last year was unusually strong in the commercial meter area.

Chicago sales for the most recent quarter were $2.4 million compared to $4.2 million in the fourth quarter of last year. We are on target to complete this contract in 2010. It now appears likely that the three-year value of this contract will be less than originally anticipated simply because the original number of meters for this phase was estimated and the estimates are coming in less than expected.

Specialty products represented 11.5% of fourth quarter sales in 2009 compared with 11.2% in the fourth quarter of 2008. These sales declined nearly $1.1 million or 14.5% to $6.5 million from $7.6 million in 2008 due to volume declines caused by current economic conditions.

Gross margins for the quarter were 36.4% compared to 35.7% in the fourth quarter of 2008. Recall last year that the cost of sales number included a $994,000, one time pre-tax gain from the sale of our facility in Rio Rico, Arizona with favorably impacted margins. This year margins were higher due to the tail end of favorable commodity costs and maintaining price discipline in cost control. As you know for most of this past year, we have benefited from lower commodity costs, particularly copper, as compared to prior periods in 2008. That benefit is recently ended with copper now over $3 per pound. By maintaining pricing discipline through the past year, we were able to see the benefit of the lower cost flow through to the bottom line.

Selling, engineering and administrative expenses for the fourth quarter of 2009 were nearly $1 million less than the same period in 2008. Lower incentives, lower health care costs and continuing cost control all had an impact on this number.

Interest expense was less than the fourth quarter of 2008 simply because we continued to pay down our debt and interest rates have remained relatively low. The tax rate for the quarter was 30.2% which allowed us to get to an overall effective annual rate of 36.7%. The net result of all of this for the quarter is that we had net income from continuing operations of nearly $5.1 million as compared to $6.2 million in the fourth quarter of 2008. On a diluted per share basis, earnings from continuing operations were $0.34 compared to $0.42 last year.

Since this also completes the calendar year, let me make a few comments about the year as a whole. Despite sales being down by $29.2 million, we were still able to put record earnings on the bottom line for the year. Earnings from continuing operations were a record for the year as were net earnings in total which included the add back of previously unrecognized tax benefits from discontinued operations. For the year as a whole, earnings from continuing operations were nearly $26.8 million compared to $25.1 million in 2008, earnings for the year as a whole were $34.2 million compared to the same $25.1 million last year. Earnings per share from continuing operations were $1.79 compared to $1.69 last year and earnings per share in total were $2.28 compared to the same $1.69 last year.

We continue to generate cash from operations due to good earnings and reductions in receivables and inventory balances. We have paid down debt to the point to where our debt as a percentage of capitalization at year end was approximately 5%. We used some of the cash generated from operations to make $10.1 million of contributions to our pension plan, our capital expenditures for the year totaled $7.8 million, so as you can see, we begin 2010 in a very strong financial position. With that, I will now turn the call over to Rich, who will have some additional comments. Rich.

Thanks, Rick. And thank all of you for joining us this morning. Considering that by most measures 2009 was the worst year for our economy since the great depression, we are obviously very pleased that Badger Meter was able to generate three record quarters and a record year for earnings. This fact alone demonstrates the underlying strength of both our Company and our market. Although we are continuing to see lower sales and higher commodity costs that will affect us in the near term, we continue to believe that the long-term prospects for our business are very good. We expect that our business will continue to be driven by fundamental factors including water conservation, driving a demand for our meters, and the need for operational efficiencies, driving a demand for our AMI and AMR technologies.

We also believe that we have the right technologies to help our customers address their flow management needs. The Orion drive-by radio for water metering is widely accepted as the best drive-by system in the industry. Recently our Galaxy fix network AMI system achieved a major milestone with two major water utility contracts in Shreveport, Louisiana and Fresno, California. Each of these contracts represents about $20 million in sales over a period of roughly three years. In addition, we have previously announced a similar size contract also over a three-year period for our Orion AMR system for gas meters at Duke Energy. These three major contracts all expected to start this year represent the market's continued acceptance of Badger Meter's technologies.

While we worked hard over the past year to control our costs, we have not reduced our continuing commitment to the development of new products. During 2009 we introduced a new E series battery powered ultrasonic water meter for use in both utility and nonutility applications. We are continuing to invest in our Orion and Galaxy meter reading systems, as well as developing new flow measurement technologies that we will be introducing in 2010. Throughout this economic downturn we have also continued to maintain our focus on developing new solutions for our customers and on the creation of long-term shareholder value. We are also very proud of our strong financial position. Our strong balance sheet, low debt levels and high level of cash generated by operations all enable us to continue making these investments and to maintain our strong dividend track record.

Finally, let me reiterate Rick's comment about the future. While we do not give guidance we recognize that the economic recovery will be a slow one and that the higher copper prices will have a near term effect on us. Also Rick mentioned the Chicago contract will be completed this year. These factors may be somewhat offset as we begin shipments on our new contracts for Duke, Shreveport, and Fresno. In the long term we're still optimistic about the Company's core business and our opportunities to expand into other areas of flow measurement. Thank you, and with that, Deanna will take questions.

(Operator Instructions) We have a question from the line of Richard Eastman, Robert W. Baird. Please proceed.

Good morning. Your comments on Chicago, do you anticipate then, that there would be no follow-on business or are you suggesting that this contract ends and maybe the follow-on business is later to arrive?

Chicago has a right under our contract to continue to buy from us at agreed upon pricing for up to another seven years beyond the original contract. We have no commitment from Chicago what they are going to do, but prior to this contract Chicago bought water meters from us, we expect that they would continue to buy water meters from us as they need them and they certainly have the option of continuing this roll-out of the Orion system as they go forward under that contract. But at this point I can't sit here and say Chicago has given us any indication one way or the other.

Okay. And then the other question just maybe circles back for a minute or two to the gross margin and given our math, I guess, if you will, on the copper side and the lag there that you typically see, is there anything here that we should think that would offset that impact? I mean, do you think that you can make the gross margin can match full year in 2009 in 2010 or how are you thinking about the gross margin here going forward? Because it looks like it is maybe 200 basis points impact from copper.

This is Rick. I'll take a shot at answering first and then Rich can add his comments afterwards. We have said all along that for the most part we have about $3 copper built into our pricing and that would assume normal margins, but normal margins are in that mid 30% and so, obviously, we are a little bit higher than that now. You know, the offset going forward will obviously be increased business, if we can start increasing the volume from the past, that might help offset that tail wind. Now, the good news is that copper is below $3 a pound as of this morning so contrary to what I said in my script, it is starting to fall a little bit below $3 and we looked at something this year that suggested that copper prices will fall sometime in spring, so we are still optimistic. It is still a volatile commodity from our perspective and if it starts heading north again, the issue of price increases is always out there on the table also.

But there's no price increases in place for calendar 2010 at this point?

At this point, no.

Okay.

Rick, let me also add that, when you say are there other factors out there, we spend more purchasing radio boards than we spend on copper, and the radio boards that we buy from Europe, the Orion radio boards, my people are looking at me funny but I did the math right.

All right.

Trust me on this. We spend more on radio boards than we do on copper and the radio boards we buy from Europe, we buy in Euros. So the strengthening of the dollar does help us on the radio boards to some degree. So that's a little bit of an offset.

Okay. That's a good point and then -- (laughter) And then you also have some incremental cost savings coming out of some of the labor movement to Mexico, correct?

Probably not as much this year as it will be next year because that move really will start occurring towards the middle and end of 2010 and you'll see the full impact in 2011.

I see. Okay. That's good. Thank you.

Okay.

We have a question from the line of Steve Sanders, Stephens, Inc., please proceed.

Yeah, this is Trey for Steve. Congratulations on the Galaxy wins.

Thank you.

Looking at the timing of the roll-out for both Fresno, Shreveport and then Duke as well, kind of how should we be thinking about that? When do shipments start and any color you could provide on how that ramps as the year progresses?

This is Rich. Let me take a shot at that. The Duke shipments, we have already started shipping collectors to the Duke service territory and radios are scheduled to start shipping within the next couple months. Shreveport, we are scheduled to ship large meters this year, the commercial meters this year, and the residential meters start either at the end of this year or early next year. On Fresno, they will start a pilot during the second quarter. They intend to do a pilot read the meters for a month and then immediately follow on with the installations so we could probably expect to see volumes there in the third quarter. Now let me also say that unlike Chicago, we do not intend each quarter to report on the status of each of these three projects and how much we ship. Obviously, if the projects are not moving forward appropriately, we would discuss that. But frankly we are not going to be disclosing the dollar amounts we shipped on each of these projects. We feel that's a level of granularity that really doesn't serve anybody.

Okay, alright. Thanks for that. And then, Rich, you mentioned the stimulus overhang and the funds are starting, at least expectations are for them to start flowing through in February. Do you expect to see any benefit in the June quarter from that and then kind of carrying throughout the year or just your thoughts there?

This is Rick. I think the unknown question is whether there will be any benefit from stimulus at all, we think there is some simply because we know there are customers who have told us they are waiting to find out whether they get the funds or not. The timing is up in the air because quite frankly, unlike the electric side which is administered by the Department of Energy directly to investor owned utilities, all of the water monies administered by the Environmental Protection Agency incentive 50 different state agencies which in turn funnel it out of the municipalities, so there's no one general answer for your question because each state does things a little bit differently. Our hope is that we see some of the impact this year and since the intent of the stimulus bill was to have money spent before September and my tongue-in-cheek cynicism is that shortly before the elections, we are hoping to see some of that benefit yet this year. Beyond that, we really can't answer that. We have anecdotal stories all over the map by state.

To some extent, we are not as interested in the stimulus money that actually flows as the resolution as to whether or not certain cities will get stimulus money because we still have cities that are saying they don't want to replace any orders because they think they might get stimulus money and they are afraid if they place the order, they will not be eligible for the money. So once it's at least resolved as to who will and won't get stimulus money, we believe more orders will open up.

Okay. And then on Chicago and your commentary there, could you quantify the delta and from what you're expecting and what the contract looks like will end up being now?

Sure. I think when we originally announced this, we said the contract could be up to $39 million and at that time we said probably $24 million, $25 million of that was product and rest was installation. We are now looking, and this is our best shot today as of 10:00 AM because it can change tomorrow, but maybe it's going to be about $32 million in total by the time we are done.

Okay. And has anything, I guess, from their end changed as far as plans on further deployment? Is that something they are still looking at? Has the schedule slipped, anything you could provide there?

Well, my reaction to this is that, first of all, I don't talk to the City of Chicago. You know, they have some issues with finances and what not, and in terms of the plan of how they transition to have the city fully metered, I would say it's fair to say that they have not finalized those plans or put a deadline out there for when that's going to be done. When we are done with this phase, you'll have about a third of Chicago metered. I know they are going to continue on a voluntary basis. Rich mentioned the fact that they are able to buy on afterwards under this existing contract. They may be just continuing this on their own and doing their own installations. They haven't made that clear to us at this time.

Okay. And then just quick for Rick, can you give me what the cash flow from operations was again for the year?

About $37.4 million cash from operations and that's after the $10 million pension payment.

Okay. Great. Thanks, guys.

We have a question from the line of Michael Cox, Piper Jaffray, please proceed.

Thanks for taking my questions.

Good morning.

My first question is on the SG&A line, it's been right around $13 million now for a couple of quarters. Do you view this as a base SG&A level or I guess how quickly would this ramp should sales trends improve here over the next couple of quarters?

Again, consistent with past quarters, we don't really split out how much of the SG&A is fixed versus variable. Clearly if sales ramp up certain things like commissions and incentives and the like go up but there are other costs in there that are fixed. We have taken some of those costs out of there. We have had an unusual benefit in the past year with health care, whether that benefit continues is one of the unknowns going forward. I mean, our health care costs were really down substantially. That could be due in part to some of the early retirement programs we had. That could be simply because we are doing more cost shifting and trying to do a better job on our benefit program. That's one of the unknowns facing us in the future.

That's helpful.

This is Rich. Generally what I would say is that we do believe we can significantly increase sales here without having to ramp up SG&A at the same rate.

Right.

Increases in SG&A as sales ramp up should be lower as a percent.

Okay. And then my next question is on the gross margin, could you talk a little bit about the potential for mix of product sales to have an impact on that margin with some of the AMR products declining at a faster rate? Does that weigh on your gross margin or is that not really a relevant way to look at it?

It's a relevant way to look at it. I think even what we used to call the industrial products now some of those specialty applications, some of those decreases are significant also and those are generally even higher margin products than the AMR/AMI products. Pretty much, though, this past quarter everything was down across the board so mixed has had as profound as an impact as it would in certain other quarters at different points in the year, and when mix is an issue we have generally talked about that. It's not as big an issue in this past quarter.

That's helpful. Thank you.

You have a question from the line of John Quealy, Canaccord Adams. Please proceed.

Thanks good morning it's actually Chip Moore for John. Back to price, you haven't had an increase in awhile, presumably you should be able to pass on increased costs if necessary. At the same time, though, distributor inventories remain pretty low, obviously, you don't lock in price, but is there some opportunity to get distributors to lock in orders here particularly where there could be some increased visibility given stimulus, et cetera?

Well, let's first talk a little bit about price increases. Certainly when copper was up at $3.40, $3.50, we were having discussions about doing a price increase. Now recently copper has dropped pretty significantly and we are believing that we are not going to have to go out with a price increase right now. That doesn't mean we won't do one this year but right now we don't see the urgency of it. But copper is so volatile. In the last ten days it has dropped significantly. Ten days from now it could be up again and then we are going to be talking about price increases again. We have been able to maintain pricing, we have not cut prices in any way, but we are certainly looking at the possibility of doing price increases to deal with the higher copper costs. I don't know, Rick, did you want to --

No. And you also asked about distribution. For the most part and, we have had this conversation, we do math customization. There are numerous permutations of a basic water meter and certain distributors will keep certain stock on their shelves for their customers because they know specifically they want to be able to respond quickly and feed that pipeline and that's one of the benefits of having some inventory but to stock up on inventory or to fill the channel so to speak, not knowing precisely what's going to be sold makes it difficult for distribution. For the most part, we have some distributors where more than half of what we sell to them is drop shipped directly to their end customer because it's uniquely conformed for their purposes so we don't have as much opportunity to restock distributor shelves as others. In the other situation right now is we are waiting for the stimulus because there are certain made in America provisions if stimulus money is used and we are set to comply with those, but it's a slightly different manufacturing process than if we sell standard orders. So it's difficult to do that. We are making some attempts to make sure, we are trying to explain to distributors it's in their interest to have some stock available to respond quickly and obviously we are working with those that in our opinion don't carry enough inventory and therefore lose sales. But we are not going to stuff the channels.

And that's a good point. You know, we manage for the long term. Seeing distributors increase their levels of inventory is not of value to anybody unless it's being done to improve service to the customers. Then we want to see it. But to just increase inventories so that we can book additional sales, we are not interested in that.

Thanks. That's helpful. And then back to Duke, starting to ship collectors now. Can you maybe talk about other potential gas opportunities out there, what you're seeing?

We are continuing to pursue some other gas opportunities. There are always the smaller gas utilities that are not combination electric/gas. They are gas stand alone that are interested in this but with having gotten Duke, we are now having conversations with several other larger gas utilities and we think there are more opportunities out there. It's a long sales cycle, though, on the gas side. There's a lot of testing that's done, there's a lot of piloting, so there's really nothing that we see imminent but we are talking about this.

All right. Thanks. Congratulations.

We have a follow-up question from the line of Richard Eastman. Please procedure.

Yeah, Rick, just a question on the new segmentation here, the specialty products piece. How did that end the year as a percentage of total sales and then also what was the decline for the year?

First of all I'm going to correct you on the use of your word segmentation because we are one segment and we want to make that clear we are in flow measurement.

All right.

I understand. But that's an important distinction.

I know but you're goofing up everybody's models here. You shifted some sales from, I presume from the industrial piece or specialty products over to where? The commercial meter side of water?

Yeah, the commercial meters we put impeller meters and mag meters for the most part went into commercial.

And then gas AMR went from the utilities side over to specialty.

And none of those are big pieces, Rick. I mean, we went from 85% utility, 15% industrial ballpark to 90% water, 10% specialty. But part of this was to gear where we are going into the future because to the extent we sell more of these radios than to the natural gas business, we wanted to be able to properly talk about them in terms of these conversations.

Water usage --

Also, Rick, one of the other reasons for the changes, the way we are now selling, we may be selling mag meters and water meters to a utility that are used interchangeably between their waste water side and their water side and to us that's all water.

Yeah. Okay. It's not all potable water. Okay.

I don't know if I answered your question, did you ask me to repeat the numbers that I read initially?

Basically you said for the year that specialty products were 10% of sales for the full year?

Oh, for the year?

Full year. You said for the quarter is 11.5 or something.

Yeah. For the full year it's 89.6% and 10.4% for specialty.

Okay. And then year over year, it probably didn't change or decline much. Still going to be down 20 something percent?

The decline was, I'll read this and then they can nod their heads whether I'm reading this right. Water applications was down 7.5% and specialty applications were down almost 30%.

Okay.

And that's kind of in line with even the old in terms of dollars, Rick.

Yeah. And, Rich, when you look out to 2010 here without forecasting, but when you look out to 2010, the specialty product side of the business had a lousy year like everybody's cyclical stuff. Do you sense that we start to see even a modest rebound in those kind of end markets?

Yes.

In product --

Yes. I think as the economy comes back, those products and those markets are much more sensitive to the economy than what the water utility markets are. So as we see the economy coming back, we would expect to see a stronger rebound there.

Yeah and do you think that product line, that 10%, does it have an up year? Does it finish up?

Well now you're asking me to forecast, Rick.

No. I'm just, either side of zero. That's a fairly wide ranging forecast.

I certainly hope that we do have an increase.

Either side of zero we agree, yes, it will happen.

Yeah okay. Ask then just last, even despite those declines on the specialty product side, were you able to kind of finish the year with a gross margin there that is better than the corporate average for that product line?

Maybe just a little but part of that is how you allocate costs in the shop too.

I'm trying to get --

We are comfortable that they are viable products if that's your question.

No. The question is more about mix. I mean, can that be a positive influence on gross margin in 2010?

It's slightly higher but when you lose that much volume, you lose that much margin in terms of dollars too.

You're asking from a modeling question that if there's a stronger rebound in industrial as the economy comes back does it represent a stronger rebound in margins because the industrial carry a higher margin and I would expect that that would be true.

So when it happens, it should be beneficial and maybe helps offset copper a little bit on the water side?

I mean, Rick, just to answer your question another way, I think everybody is hopeful that we have seen the bottom and that the line is going to start coming up. I think what we are all concerned about is what is the slope of the line.

Right.

It took a while to get down there and maybe it's going to take a while to come back up versus what everybody talks about, that V shape recovery where it just rockets. We don't see the rocket happening right now.

Understood. Okay. Thank you.

We have a question from the line of Eric Stine, Northland Securities. Please proceed.

Good morning, guys.

Good morning.

Just a quick bookkeeping and this question was asked in a different way but just for modeling purposes, can you, under the previous way of doing utility versus industrial, just give us a rough percentage what the fourth quarter was?

It probably wasn't that much different. Everybody -- no? It wasn't that much different.

So should think of it --

And I don't have it in front of me. That's the problem right now. We are trying to figure out, do the math here but it wasn't that much different. I think maybe it would be a couple percentage points different on the utility to get down from water applications to utility, we would drop a couple of percentage points.

Okay. So more of your historical 8515 breakdown maybe a good way to think about it?

Yes, yes.

That's helpful. I may have missed this earlier, you broke out or talked about the commercial meters year on year. Did you give a residential meter number?

No. We generally don't. We talk about Orion and Itron and they make up the bulk of residential sales dollarwise.

Okay. Fair enough. I guess on Orion and Itron the mix there, can you just talk about the Itron sales? Were those predominantly existing Itron users just doing replacements?

Yes, predominantly. In fact, I use the terminology Itron related sales because sometimes it's simply customers that have bought the radio from Itron and they are simply buying the meters from us but we throw it into that Itron because it's an Itron account, we throw it there and in fact I think we did a separate study where we saw that the Orion and Itron radio sales both declined within a percentage point of each other during the past year.

Our sales of Orion and Itron radios, as opposed to what we report is Orion and Itron-related sales which includes meters without radios that are going to be hooked up to Itron. Does that make sense?

It does. It does. Okay. That is good color. And just the last thing, could you talk about the Shreveport and the Fresno AMI projects and why those might be different, why they chose to go AMI versus AMR, maybe specific needs that each municipality had?

Yeah, I think what we have generally said in the past and I think everybody in the industry agrees, is that if a city is looking primarily for a read to do billing, drive-by is going to be the most efficient and effective way to get that. You don't have a lot of infrastructure up on poles that you have to maintain over years. It's going to be a little bit cheaper and it really makes sense if that's all you want. But if a city wants more than that, if they want on demand reads, if they want to do leak management in their entire system, if they are looking at some day doing two way systems to control shutoff valves and other things of that sort, then a network makes a lot of sense. So some cities are choosing to incur the additional cost of putting in a network so that they can do more than just get a read for billing purposes. And I think the most recent statistics I saw from the Scott report were, and this is through about the middle of last year, that about 90% of all the radios out there in water are drive-by and about 10% are fixed network. But when you look at what was sold in the first half of last year, it's more like 85% drive-by and 15% fixed network so fixed network is gaining more acceptance in the marketplace as cities are looking to do more with their water metering system than just read and bill.

And fair to say that in certain areas of the country such as California, AMI, I mean, the need for conservation AMA might be used more than AMR?

I think there is a lot more focus on water in areas that are facing significant water issues and they may be driven more to investing in an AMI system.

Okay. I appreciate it. Thanks.

You have a question from the line of Michael Coleman, Sterne Agee. Please proceed.

Good morning.

Good morning.

On the wins, did they receive stimulus funds, did they go ahead without receiving stimulus funds? Do you know?

I'm looking around the table and we are not -- if they did, it was small. I believe Shreveport has applied for stimulus funds but decided to go ahead with the project pending the state, regardless of what happens with stimulus funds and I don't believe Fresno is using stimulus funds but I'm not sure.

And.

And Duke is not either, I don't believe.

Okay. And in terms of the sales cycle associated with these two contracts or projects, how long ago did you get involved with this in terms of evaluation and when did they make the decision to go with AMI and how soon after was the contract?

Each of these have been multiple years. I'm talking Duke, Shreveport and Fresno, all three of those contracts we have been working on for over two years. So these were long-term deals.

Okay. And do you know how many other bidders did you bid against? How many competitors did you bid against on that?

Yeah. These were all bids and there were other bidders and frankly in our industry, there are the usual players in the industry, everybody knows who they are, there's Itron and Neptune and companies like that. So in these cases most of them were involved this these bids.

And so did the municipality tell you why you won the bid?

They liked us.

Yeah?

What I'll say is this, most of these bids are not going to the lowest bidder. Very often it's a matter of the technology, their evaluation of the technology, does it fit the city's needs, how closely it fits their needs and also the company they are dealing with, the level of service and support that they are going to get.

Okay. On the pension contribution, can you put that into context of pension contributions for the last couple of years or what you expect, going forward?

This is Rick. We paid $10.1 million in calendar 2009. Right now in our 10K that we are preparing to file, we will put in there that we don't expect to make a contribution in 2010, we have not made significant contributions in the past year. Obviously the contribution we made in 2009 was a direct result of the change in values of the assets in the fall of 2008. I don't know what percentage we're funded because it really gets reevaluated as of January 1 and I don't have that information yet because the new liability number is yet to be determined but I know we are north of 80% funded, we're probably even pushing 90% and depending upon what happens, I'm having trouble keeping up on the market. Two days ago I might have been more funded than I am today after yesterday. But we are close, we are headed towards being fully funded again, we have been in the past. It's a good use of money because I spend the money and obviously it can grow kind of tax-free so it's our intent to eventually be fully funded in the plan and to watch that carefully and we have got the available resources to do that now.

I should probably know this, but do you have an ESOP plan and is it in terms of employees owning your stock meaningful?

Our ESOP plan is effectively our 401(k) plan and in that plan there is a Badger Meter stock fund. It's always deemed the riskiest fund there simply because all the eggs are in one basket and there is a substantial amount of money in that plan that employees have company stock.

Okay. Thanks.

We have a question from the line of Carter Shoop, Deutsche Bank. Please proceed.

This is Bheeshm Chaudhary for Carter.

Good morning.

Two quick questions. Could you let us know the revenue figure for Galaxy rough amount or exact amount for the quarter?

No. Again, we don't disclose individual product line information.

Okay. Got it. And then as far as this water stimulus is concerned, after $2 billion and the drinking state awarding fund and the $4 billion and the clean water state awarding funds, could you maybe give us some commentary on how much of that money do you think, percentage or rough amount, is going to flow towards water meter project or smart water meter projects?

We have looked at that and it's a hard thing to determine. The EPA has allocated that money to each state. Each state then has a different agency that is determining how that money is going to be allocated down through the state. If you go out to those websites, you can see the lists of projects, they are very long lists. In almost every state there are water metering projects in there but to try and go and add up all of those numbers, I think you're going to find that the projects on the list exceed the amount of money the state has and the state is deciding what to allocate. So it's not really very meaningful to add them up and try to come to some comparison and we haven't done that.

There's also what I call the trickle down effect. To the extent that if money was going to be allocated to a particular city to replace the mains, and they already had some money in their budget for that and now they got federal stimulus money, would they use some of that money they had allocated for mains to buy metering or upgrade the metering, that's the big unknown. I agree with Rich. This is very hard to get your hands around.

There is one other point, though that of that $2 billion you mentioned for drinking water, 20% is required to go for green projects, and what the government has done is they have predetermined that metering is a green project where cities have not been metered in the past and there are, we estimate, about 13 million homes in America that buy their water from municipal water department but do not have water meters. So that 20% can be used for metering without any application. As far as using the green money for technology for automation, that can meet the definition of green, the city has to request it and go through some process to do that. So there is an allocation within the $2 billion that runs to green projects.

Got it. That's very helpful. Thank you.

You have a question from the line of Gary Lenhoff, Ironworks Capital. Please proceed.

Rick, let me ask a question I think a couple others may have tiptoed around. Will you provide pro forma quarterly numbers historically based on the new segmentation you're talking about so we can fix our models?

First of all it's not segments.

I understand in your ND and A each quarter you provide revenues.

First of all, because we don't give a lot of detail even behind what the numbers were in the past. We simply said it was utility versus industrial and it's just our way of talking about the fact that we are focusing on water versus specialty. So we really don't get into a lot of detail in that and other than a couple percentage points, you can see the moves in the past from about 85% utility to 90% water. Your modeling is not going to get much more precise than that.

So going forward in your 10-Qs are you going to break out your revenues between the two descriptors that you're now using?

Yes, I like that word, descriptors. That's a good word.

Write it down.

Yes.

Thanks. Can you tell me, what was the tax benefit that you described in the quarter, how much was it and what tax rate should we be using going forward?

First of all, I was talking about the year as a whole. In the third quarter we reversed $7.4 million of a previously unrecognized tax benefit dealing with our French operation years ago it had been sitting there so it's actually accounted for in discontinued operations. We talked about that last quarter. So that's in the year's total and that's what I was talking about. Tax rates going forward, if I had to put a number out there right now, I would be in the 37% to 38% range for 2010. Now, that's higher than what we have right now but I simply think there are a lot of states right now that are talking about increased corporate taxes and in terms of doing the estimates, I don't think we have a choice but to at least reflect that and so the numbers this year, there's a few credits going back and forth, I think we are at 36.7 or 36.75 or something like that. But any way, we are in that neighborhood, but I would use 37, 38 for 2010 right now.

Fourth quarter, the tax rate was just over 30%, was it not?

Right. And that's because I think through third quarter we are estimating about 38% and we wound up at 36.7% for the year so you correct your estimates in the quarter in which you book the entry so we had to in fourth quarter, and fourth quarter is always our low volume quarter presumably and so we are doing the catchup in fourth quarter to get to the annual rate.

Okay. So the prior quarters were overstated in fourth quarter.

No. The prior quarters were built on our best estimate at that time and now we have put our best estimate out there for the year as a whole.

Okay. Thank you.

I don't like the word mistake.

Then we have a question from Ryan Connors, Boenning and Scattergood. Please proceed.

Hi Rich and Rick.

Good morning.

You've covered a lot of ground here and most of the stuff that I was kind of looking to ask has been addressed, but I guess a bigger picture question, the international market, there's been some pretty big contracts awarded in the last month or so and if you look at how the stocks of some of those small companies that were awarded those contracts have reacted there's certainly some value being created there. That's a market that you all traditionally kind of not been all that interested in and my understanding of your take on that is that the billing is less frequent, there's a lot of sub metering and therefore, it's just not as conducive a market to the metering and certainly to AMR as the US. Does all this recent activity, India, the UK, et cetera, does that change your view at all on the international market and whether you'd look to get involved there and if so, would you do that organically, acquisition? What's your take on the international side?

Ryan, this is Rich. It's a very good question. Let me start out that historically Badger has been a primarily North American company. The United States, Mexico and Canada all use positive displacement meters, those are the types of meters we make. We do not make velocity meters. That's the most common meter outside of North America. Part of the problem is that there are a lot of water meter companies in Europe, there are 120 water meter manufacturers in China, water meters in China sell for $3 to $5, only last a few years, but then they are repaired so it's a big repair business. In Europe each country has different standards so it's very expensive to make different meters for different countries. So historically we have not been playing in that area. Now, that doesn't mean we never want to do that. Clearly with our debt to capitalization ratio dropping and the amount of cash we are generating, one of our strategies going forward is to look at acquisitions and we have said that in the past we have looked at acquisitions, we have generally chased one or two acquisitions a year and refused to pay high EBITDA multiples that were being paid years ago. Very often we were outbid by private equity. Private equity isn't as strong a player anymore and the multiples have come down to more reasonable levels and we have a strong balance sheet that positions us well as a strategic buyer. So clearly we are going to continue to pursue acquisitions and if some of those acquisitions give us a platform to move out of North America, we are certainly going to accept that and try to capitalize on it. We think there are some opportunities out there in selected markets. We are not going to try to create some kind of global water metering company or something like that. But there are selective markets that we can play in very profitably.

Okay. Well that's a good detailed answer. Thanks Rich and then just a follow-up to that. My understanding is that the rights to the Orion technology in Europe or globally, I'm not sure which, belong to your partner in developing that technology. Are those rights even being used or is that dormant? I mean, are they marketing any meters or AMR equipment under that tradename?

They are. Our partner on Orion was Diehl Corporation. We did half of the development of the product, they did half of the development of the product. We buy the boards from them, we don't have to, we could source the boards other places but Diehl is a German company and a very good manufacturer of radio boards, high quality and we have a very good relationship with them. They do sell the product, the Orion type radio in Europe under the brand name Prius and they have been very successful with it and they have made a lot of sales. So you're right, our Orion product agreement with them is that we focus on North America primarily. If we have opportunities outside of North America, they have been very flexible on saying, yes, go ahead and pursue those opportunities if it's not something that they are after.

So you have North America, they have rest of world sort of is the way it breaks out?

Sort of but they are primarily focusing in Europe.

Okay. That's great. Thanks again.

Okay.

We have a question from the line of Brian Rafn, Morgan Dempsey Capital, please proceed.

Good morning, guys.

Good morning, Brian.

A question for you, since Rich cannot divulge the pricing on the boards, we always bust your chops on the commodity prices and spot copper. What, if you look over the last four or five years, how is it the electronic radio boards leveraged from a cost structure? What's been kind of the inflation? What's been that relationship? We always talk about Badger relative to the copper but if that's a huge component to cogs, how has that been volatile in pricing?

Obviously, as I disclosed, we spend more money on radio boards that we buy in Euros than what we spend on copper each year, but the difference is that the Euro to the dollar has not been nearly as volatile as copper and that's why there's been more of a focus on copper. Yes, the Euro to the dollar went up to $1.65 I think it got to and then certainly that impacted our purchases and increased our commodity costs for those radio boards. Now it's down below $1.40 and that is benefiting us. But you compare a swing from $1.40 to $1.65, which is, as a percentage it's a 15% swing, something like that, to copper going from $2 to $3.60, that's a huge swing. So, obviously, copper's volatility has more impact on us even though we are probably just as exposed on the Euro side.

Okay. But if you look X currency, Rich, how volatile is that technology, that radio board? Is that pretty light?

Excurrency, it's not. In fact, I would say over the years since we started selling Orion, our costs have actually gone down.

Okay.

Radio components have become cheaper, Diehl is a very efficient manufacturer, they don't manufacture just for us. They manufacture for themselves, the Prius radio, so we are gaining the benefit of that double volume and they are gaining it too in their manufacturing process. They pass a lot of those savings on to us and so they have had productivity improvements as well as component cost decreases.

And just like any vendor, we go back at them even though they are billing us in Euros, we are asking where they are sourcing their parts because of their dollar base maybe we can tend to take some of the FX component out of that. Just as we would any other vendor, we are constantly pressuring them on price.

Okay. Give me a sense, if you look at the kind of municipal level, the roll-outs and either repairing meter systems or full replacements, if you go back end of 2008 versus end of 2009, certainly, the budget deficits across the states, states have historically run surpluses and this last recession they have not. Do you get nut anecdotal sense when you're out talking to municipal water districts, end of 2008 versus end of 2009, is there any proximity or any sense that they might be a little more opt to begin initiating some purchases or are they still kind of in lockdown mode?

Well, first off, you have to separate our market and as best we can estimate, about half of the water utilities in the United States and there's about 50,000 water utilities so it's not an easy thing to estimate, but about half of them are enterprise funds of the city and have their rates and their financial situation controlled by either an independent board or by like in Wisconsin, a state organization, the public service commission controls their rates. So the city cannot simply reach into the water department and take the money no matter how bad the city's budget deficit becomes, they can't tap money out of the water department without permission from this independent board. That's true in about half the states.

Then about the other half of the states, the water department is simply a department of the city and if the city needs money and the water department is generating money, the city will take it. So this is a very significant difference in how these water utilities operate. In those ones where they are a department of the city in the most recent year as we have seen the cities going to budget crunch time, we have seen those utilities cut back on their purchases. Ones that are not departments of the city say look, we have set this money aside, our bond ratings are very strong, we are going to move ahead with our water meter purchases or our technology change-out programs so that's really what happens and as far as what we are seeing recently, I think we are seeing some cities that are still in a very difficult budget situation because of the economy holding off on what they are doing. We are seeing other cities where they are starting to see employment improve and the economy get better loosening up the money.

Brian, this is Rick. Let me tell you an anecdotal story in 2001 we were coming off the last recession and the City of Houston was experiencing financial difficulties. But they also realized their meters were running so slow that by replacing the meters they would not only generate enough money to pay for the meters but also help refill the city's coffers so it varies by city by city and we have told this story time and time again, even the best water meters like us over time run slower and may not be capturing all of the reads. So therefore, sometimes it may be a down time and they may be having a money crisis, okay, if their meters are not collecting all the revenue, they may be able to actually get some more cash in by paying for the capital expenditure.

And there are districts that are proactive enough to see that so and I think you have addressed that.

Right.

Okay. For the City of Chicago, you guys talked about the estimate of meters, as we stand here now end of 2010, what percentage of meters or how is Chicago metered? Are they 30%, 40%, 50% and, what's kind of the open opportunity there on units?

It's about a third meter. The City of Chicago, once we are done, they will be about a third metered. The City of Chicago has about 500,000 services. When we are done, we will have about 150,000 or so, 160,000 installed and so it is about a third done, maybe a little bit less and then the city has to decide how they are going to move on from there.

Okay. Now is there a geographic location of that? Is that north side versus south side or is it all over the city? Give me a sense as to --

Right. There is not a geographic location because the way the City of Chicago started metering was back in the 1980s, I believe, they passed a law that anytime a house is sold, you have to install a meter. That way it cushions some of the financial impact of installing a meter. But of course, over the last 20 years, those meters have been installed all over the city and it's very scattered. There is not one side of the city. You literally have a street where every third house has a meter.

Give me a sense, you guys, talking about the gross margin. We have talked certainly about costs in boards and copper. Is there any more or less elasticity in pricing as you guys negotiate, are you more flexible at the end of 2009 in bidding on bids and quotes than you were at the end of 2008 or 2007 and I guess I'm asking, what's your pricing discipline, when you're making bids here now a year after 2009 which has been a tough year?

Right. We have been pretty disciplined about maintaining our pricing and not dropping to try and grab more volume, because, frankly, in our industry we are anologopoly, there are only a handful of companies and in our industry, if we drop our price we know that our competitors will probably drop theirs and they know the same thing about us. So generally all of us have been fairly disciplined about maintaining our price to maintain a healthy industry. We are all watching copper prices, we all see what's happening. We all get the same data. So basically I think the industry as a whole has remained fairly disciplined.

Okay. In 2009, I may have missed it for you guys, was there anything in your large meter, big utility, water mains, was that impacted any differently up or down versus the residential, the smaller meters?

Yeah, our commercial meters took a bigger hit in 2009 compared to 2008 than our residential did. But the reason for that was in 2008 we had some unusually large projects that we were doing with the commercial meters. So it isn't so much that 2009 was worse for commercial meters for some reason. It was just that we had some projects that came to an end. Generally cities are buying a mixture of commercial and industrial meters as they move forward and the mix stays pretty consistent.

Yeah. I'm going to ask you a dubious question. Is there anything that you can see relative to the stimulus money and the $2 billion for drinkable potable water, is there any way of looking whether that might be shifted more to the residential meter roll-out versus replacing water mains or large commercial?

No.

No we don't see any difference. I mean, when a city buys meters, we will get a bid for 10,000 residential meters, 50 of the 3-inch meters and 10 of the 6-inch meters, whatever. It's the mix that the city has and they replace them as they need to.

I got it. Rick, you talked about, you buried it in one of your comments about health care costs and being substantially down, and you said we are working on cost shifts. Are you changing the mix of participation with employees or shifting the burden to more employee funding? Give me a little color on that?

Well, I think just like any other company, we are working to have employees pay, and there are standards out there in the industry where if in the end you've got employees paying maybe 20%, that's considered within the reasonable realm of plans today and we are probably a little bit lower than that historically. I think we have moved in that direction of the we did it clearly in 2009. We have moved further in that direction in calendar 2010 here. I also just think we had some unusually large cases in 2008 that did not recur this year. One of the things that we ask ourselves is during periods of economic downturn people tend not to go to the doctor as much, so is that what we are seeing in terms of our reduced health care or actually some of these costs just paying out? That's the question that will be analyzed over time. We don't have an answer for it right now of the we have a lot of working theories but we are still pleased to see it because our costs did drop.

Let me ask you on that point, Rick, as you guys like to say, you've got people that are very paternalist, you have very loyal labor forces and you've got to take guys in their 70s and literally push them out the door in retirement because they want to stay at Badger Meter.

For the record we don't push anybody out the door.

You know what I'm saying. You know, there's --

Yeah, we understand.

Yeah, there's a long sense of loyalty there. Is there anything with an older aged labor force that you guys are doing, health care, gyms or anything, you're seeing a lot of companies become real proactive in that and with annual physicals and workout facilities and that. Is Badger do anything in that area or is it more just the migration of stuff to Mexico?

No, Brian, we do pretty much what other companies do, we have our Wellness Wednesday programs. We encourage people to join health organizations. Our HR department is very active with the employees in helping to manage our health care operations.

One more just your CapEx for 2010 as you guys look out?

Probably it would not exceed $10 million. You know, probably the biggest expenditures we will have in 2010 is that in connection with this moving of some of the production down to Mexico, we are buying some machines for down there, but I can't see it being north of $10 million at this point and it will probably be less than that.

Okay. Rich, anything on Diehl Flow, you talked about multiples of EBITDA coming down and that you guys were certainly ex the private equity guys when you're looking at 11, 12, 13 times EBITDA and it's come back down. Is your deal flow more interesting in 2010? Are you seeing more deal flows? Just give me a sense of some of these niche areas.

No, Brian I would say we are continuing to look at the companies and the multiples are a little more reasonable.

Thanks, guys.

Take care, Brian.

Once again to ask a question it is star one. We have a question from the line of Glenn Wortman, Badger, please proceed.

Yeah, I guess good afternoon now guys at least good afternoon here I have two quick questions on margins. First, how do margins on AMI compare to AMR and then how do the margins on the natural gas radios fit in with the rest of your business?

Let me answer that. AMI and AMR are about the same margin, can vary by customer by customer. Sales of the radios are a little bit lower margin because there's not as much quote manufacturing involved as there is assembly because we buy the radios, we buy the batteries and the like and just let me clarify, Glenn, you're from Sidoti, right, not from Badger?

Yeah, from Sidoti. I think that's happened before too. That's all I had. Thank you very much.

Okay, Glenn.

And this concludes the question-and-answer session for today. I would like to turn the call back to Rich Meeusen for closing comments.

Well, thank you and I want to thank everybody for joining us. 2009 for most companies was a very difficult year, a lot of them didn't even make money. We were very pleased that we had three record quarters and we had a record year and we are cautiously optimistic about what 2010 looks like. So again, thank you for calling. Thanks for your support.

Ladies and gentlemen, this does conclude today's conference. Thank you for your participation.