Energy Recovery Inc (ERII) 2011 Q3 法說會逐字稿

Good day, ladies and gentlemen. Thank you for standing by. Welcome to the ERI Third Quarter 2011 Earnings Conference Call. During today's presentation all parties will be in a listen-only mode. Following the presentation the conference will be opened for questions.

(Operator instructions)

This conference is being recorded today Thursday, November 3, 2011. I would now like to turn the call over to Alex Buehler, CFO. Please go ahead.

Good afternoon and welcome. Joining me today on the call is Tom Rooney, ERI's President and Chief Executive Officer.

Before we begin, I would like to make a brief statement about forward-looking remarks. The primary purpose of today's call is to provide you with information about our third quarter 2011 financial performance. However, some of our comments and responses to questions may contain forward-looking statements about market trends, future revenue, growth expectations, new products and business strategy.

Such statements are predictions based on current expectations about future events and are subject to the Safe Harbor provisions of the US Private Securities Litigation Reform Act. Forward-looking statements are not guarantees of future performance and are subject to certain risks, uncertainties and other factors that could cause actual results to differ materially.

A detailed discussion of these factors and uncertainties is contained in the reports of the company files with the US Securities and Exchange Commission. The company assumes no obligation to update any forward-looking statements made during this call, except as required by law.

Turning now to our financial performance, we generated $4.9 million in net revenue, reflecting a decrease of $2 million or 29% as compared to the same quarter of last year. Not unlike performance in the second quarter of 2011, our Mega Projects Division contributed no revenue in the current period, as anticipated, and we are forecasting comparable results in the fourth quarter of this year.

Compounding the shortfall in revenue for mega project activity were delayed shipments regarding OEM sales. Specifically, two large OEM projects totaling approximately $1.6 million and originally forecasted to ship in September slipped to the fourth quarter due to customer initiated delays.

To be clear, we shipped fewer units of all devices in the third quarter of 2011 as compared to the prior year period, and the mix of those units favored smaller devices that command lower prices on average.

Of the total net revenue in the third quarter, PX devices and related products and services contributed 56%, while turbo chargers and pumps represented the remaining 44%. Also in the third quarter of 2011, international revenue comprised 95% of net revenue, as compared to 93% in the third quarter of 2010.

India and Saudi Arabia represented 17% and 10% of net revenue respectively for the three months ended September 30, 2011, whereas Cyprus and Spain represented the greatest contribution to net revenue in the prior period at 16% and 12% respectively.

For the three months ended September 30, 2011, one customer, Aquatech Systems Asia, accounted for 12% of net revenue.

Gross margin in the third quarter decreased from 34% in the prior year to 15% in the current period. Margins were negatively impacted by an unfavorable mix shift within the PX line and a similarly adverse shift associated with turbo chargers and pumps. Additionally, lower production volume at our two manufacturing plants caused greater under absorption of labor and overhead expenses in the current period as compared to the same period of 2010.

In the current environment of high fixed costs, our main drivers for revenue and margin include price, volume and mix, where volume and mix combined to deliver notable margin erosion in the third quarter of 2011. Conversely, the pricing trend by unit has seemed to have held relatively steady in the aggregate.

For the balance of the year, we anticipate similar pressure on gross margin due to continued under absorption of fixed costs and persistent competition in the context of limited market activity.

Importantly, however, we are nearing substantial completion of our vertical integration initiative, and we expect to be in a position to manufacture all ceramic components in-house from raw powder to finished goods by the end of this year.

Going forward, as the pace of new construction for large desalination plants is expected to improve over the next nine months, and assuming we remain successful in winning our share of these projects, we should experience the benefits of positive operating leverage.

Additionally, whereas the new vertically integrated manufacturing plant was brought online in January of this year, we have traversed the shaking-out process over the last nine months. And beginning in 2012, we should be capable of achieving much enhanced efficiency levels.

Finally, through in-source production of all ceramic components, we are far less reliant on outside vendors. Therefore, the combination of positive operating leverage, natural plant efficiencies and in-source production should demonstrate a healthy effect on margins in 2012.

G&A expense increased by $0.2 million, or 7%, to $3.6 million in the third quarter, due primarily to higher professional service fees associated with certain legal initiatives intended to strengthen our competitive position.

Sales and marketing expense increased by $0.4 million, or 23%, to $2.3 million. The increase included $0.5 million in direct and other marketing costs and $0.1 million in employee compensation, offset partially by a decrease in commissions of $0.2 million in line with reduced sales.

Research and development costs decreased by $0.5 million, or 42%, to $0.7 million in the third quarter of 2011, compared to prior year, due to reduction in direct project costs of $0.3 million and the transfer of employees from engineering to production of $0.2 million. Importantly, our three new product development executives are included in G&A expenses.

Despite the recent decrease in R&D expenses, primarily a cost of transfers from engineering to production, we expect increased spending in subsequent periods as we continue to strengthen existing products and develop new products for energy recovery applications and markets outside of desalination.

The recent launch of the PX-Q300 at major trade show event in Perth, Australia demonstrates our ongoing commitment to R&D investments. The amortization of intangible assets decreased from $0.7 million in the third quarter of 2010 to $0.3 million in the current quarter, reflecting a decrease of 49% caused by the full amortization of backlog acquired in connection with the purchase of Pump Engineering.

Initiating the consolidation of manufacturing activities in California and the plant closure in Michigan, the company recognized a restructuring charge of $0.5 million, of which $0.4 million is comprised of employee severance costs.

We expect to record additional restructuring costs of about $2.0 million in the fourth quarter of 2011, the largest component of which is an impairment of fixed assets as the building and equipment become held for sale.

Compared to the initial estimate of $4.7 million communicated in July of 2011, the company now anticipates a lower restructuring charge due to no write-down of intangible assets and a decreased loss on sales for the facility and other fixed assets.

Including restructuring charges, total operating expenses increased by $0.3 million, or 4%, and represented 150% of net revenue in the third quarter.

In light of the revenue trend and the current level of operating expense, we continue to identify and implement cost reduction activities to better align our cost structure with the available market opportunity.

In addition to restructuring activities already announced, with estimated savings of about $3 million, we have recently initiated actions to reduce operating expenses, which are expected to generate equivalent savings of about $3 million per year.

As an example, we recently decided to outsource a large component of our legal function, and this represents an initial step in the broader execution of our cost reduction plan.

All in, we expect that our cost reduction efforts should generate savings on the order of $6 million in 2012, shared between cost of revenue and operating expenses.

Working our way down the income statement, non-operating income demonstrated an unfavorable variance of $0.2 million, due to the depreciation of the Euro against the US dollar, as certain accounts and unbilled receivables are denominated in Euro and subject to fluctuations in foreign exchange rates.

Let's now turn to a discussion on the income tax provision. Anticipating application of net operating losses against taxable income in 2009, the company exhausted its potential to carry back losses within the required look-back period of three years. Without the potential to carry back these losses, the company must now carry forward losses to offset taxable income in subsequent years.

The lack of carry-back potential, effective in the third quarter of 2011, precipitated an assessment on the need for evaluation allowance against deferred tax assets. With a three-year cumulative loss position and the absence of carry-back opportunity, accounting guidance and related interpretations placed little weight on forecasted revenue and profitability.

Consequently, the company recorded a non-recurring tax adjustment of $4.5 million in the current period. Despite this adjustment, management remains confident in the long-term strategic direction of the company and its future earnings potential.

For subsequent reporting periods, we will not record a tax benefit against future losses, and we will release the valuation allowance incrementally as we generate taxable income.

Worth noting is the fact that our income statement includes many expenses that are non-cash in nature. Specifically, share-based compensation expense for the third quarter was $0.7 million, while depreciation and amortization totaled $1.2 million. Moreover, the tax adjustment resulted in a non-cash expense of $4.5 million which, combined with the items already mentioned, generates non-cash expenses of $6.4 million.

Our net loss for the quarter was $11.3 million, compared to $3.9 million for the third quarter of 2010. Likewise, we generated a loss of $0.22 per share compared to a loss of $.07 per share in the prior year.

Similarly, we recorded a loss of $16.4 million, or $0.31 per share, over the nine-month period in 2011, compared to a loss of $4.1 million, or $.08 per share, in 2010.

We ended the third quarter with approximately $45.4 million in unrestricted cash and $10.6 million in restricted cash. In keeping with the amended credit facility announced last quarter, the total restricted cash balance now includes $6.5 million in additional pledged collateral backing outstanding letters of credit.

The remainder of restricted cash is comprised of $0.5 million in pledged collateral for outstanding LCs with another financial institution, $0.1 million in collateral for an equipment promissory note, and $3.5 million in contingent consideration related to the acquisition of Pump Engineering.

Offsetting the increase in restricted cash was a release of $1.1 million made in July of 2011 after the seller of Pump Engineering satisfied general reps and warranties specified in the purchase agreement.

For future periods, we expect to use cash in funding working capital as revenue increases as well as funding restructuring activities, the completion of which should enable significant savings in subsequent years.

Irrespective of the upcoming uses of cash, we believe that we have ample liquidity to fund our strategic initiatives along with the growth of our core business.

In summary, the management team is not surprised by the financial results, as they reflect the third year of a protracted industry downturn. Moreover, these results were further exacerbated by aggressive moves taken by management to reposition the company for a strong rebound in the context of an evolving market. The third and fourth quarters should reflect what we consider to be a financial turning point.

In light of these results, we continue to execute against our strategic plan with a preeminent focus on three critical imperatives. These include driving revenue from our current product portfolio to take advantage of a rebounding market, reduction of costs to better align the organization with existing revenue opportunity, and business diversification through organic growth and strategic acquisitions.

That concludes my financial review. I would now like to turn the call over to Tom Rooney, ERI's President and Chief Executive Officer.

Thank you, Alex, and good afternoon, everyone. It goes without saying that no management team enjoys reporting negative financial results. And the third quarter is no exception for ERI. Having said that, I feel very good about where ERI is right now, both because of the tremendous progress that has been made in making the company stronger and because of the gradual rebound that we are starting to see in our core desalination market.

I don't like reporting weak financial results, but I have never been more confident about the future at ERI than I am right now. My confidence stems from several key factors. Namely, the fact that we have a clear strategy for success going forward, we have assembled a talented and very active management team, we have made the painful moves that were necessary to reposition the company, the worst of our protracted industry downturn appears to be finally behind us. And finally, our market diversification strategy is now beginning to take shape. Suffice it to say that I'm beginning to feel very good about our prospects for 2012, 2013 and beyond.

Let me expand on our strategy for success, which is composed of three key elements. The first, as Alex mentioned, is cost cutting. The second is driving revenue growth in our existing products and markets. And the third is diversifying into new, large addressable markets.

When we talk about cost cutting, we're talking about cutting overhead costs as well as reducing our cost of goods sold. Cutting overhead costs makes us lean and will allow us to perform better, regardless of the industry cycles that inevitably come and go. Reducing our COGS is a never-ending effort that enables ERI to operate in a competitive environment without having to sacrifice margins.

We've made great strides this year in reducing our overhead costs. In the second, third and fourth quarters, we cut more than $4 million from our OpEx run rate, and that will have a real impact on our financial results going into 2012.

On the cost of goods sold side, we've taken out more than $2 million in real costs, and soon we will have all of our manufacturing operations under one roof, which will enable us to further drive out costs and lower our cost of goods sold. We are doing this through greater manufacturing efficiencies, product redesign, and economies of scale.

In 2012, we will finally begin to benefit from lower costs associated with our vertically integrated PX and ceramics manufacturing plant. It has taken the better part of 2011 to work through the commissioning, break-in and shake-out period that is customary in the startup of a new process plant.

In 2011, we actually experienced higher than normal costs associated with bringing the plant online and up to speed. In 2012, we will benefit greatly from lower costs and higher productivity in our ceramics manufacturing facility.

The second of our strategies for success is that of driving revenue growth in our existing products and markets. I'm pleased to report that in the third quarter, we made significant progress in refining our value proposition in the marketplace.

In September, we launched an exciting product improvement called the PX-Q300, along with an important value proposition that further differentiates our PX product line in the marketplace.

While the PX-Q300 is most notable for its quiet operations, the real message is about the durability and reliability of our PX product line. Based upon extensive research and product evaluation conducted over the past year, ERI is now able to convincingly assert that the PX line of products are the most durable and most reliable energy recovery devices in the marketplace, in addition to being the industry leader when it comes to efficiency. This durability and reliability, in addition to efficiency, now enables ERI to differentiate itself in the realm of total life cycle costs, which we believe will become the critical battleground going forward.

Our third strategy for success entails diversifying our product offerings into new and larger addressable markets. ERI has talked about market diversification for some time now, but I'm pleased to report that we made real and substantial progress in the third quarter.

Specifically, in the third quarter, we hired three new product development executives who are now leading our efforts to develop products in order to penetrate the broader water market, the oil and gas sector, and the ceramics industry.

For competitive reasons, I'm not going into great detail on what we are doing in each of these areas, but I will tell you that our prospects for success and our enthusiasm for these new markets has risen significantly with the inclusion of these market experts.

With the inclusion of market sector experts, we now have a much better understanding and appreciation for the size and potential for our energy recovery devices in these industries.

In 2012, we fully expect to see additional costs associated with new product development with only slight revenues from these new markets. The real impact will come in late 2012 and into 2013, when we expect to see a ramp-up of revenues from these new markets.

Now I'd like to turn to a discussion of gross margins. We've seen a steep drop in our gross margins in 2011, and in Q3 in particular. In 2011, we've experienced several significant drags on our gross margins, which we see as temporary in nature.

The most important temporary drag on our margins is the serious effect of negative operating leverage. We have a large fixed cost embedded in our newly opened vertically integrated ceramic manufacturing plant.

In 2011, we are experiencing low revenues and thus are carrying high fixed overhead costs, which creates a significant drag on our margins. In years to come, and as the desalination industry rebounds, operating leverage will benefit us greatly.

The second most important drag on our margin in 2011 stemmed from one-time inefficiencies in our two manufacturing facilities. This summer, we announced the closing and relocation of our new Boston manufacturing facility. The process of closing and relocating the new Boston facility has caused a one-time, six- to eight-month drop in efficiency in that plant.

We expect to have the facility relocation substantially completed by year's end and look to see efficiencies recover in the first quarter of 2012. Likewise, our San Leandro manufacturing facility has been working all year to bring the new manufacturing processes up to full speed and to the originally intended efficiency levels.

This one-time shake-out and break-in period appears to be coming to closure, and we fully expect to see much greater efficiencies by the first quarter of 2012.

The final drag on gross margins in 2011 comes from a negative product mix shift. They bring smaller projects and lower margin products such as pumps and turbos versus PX devices. The MPD market has fallen off for most of 2011, which causes the average project to be smaller, with more of a preference for pumps and turbo chargers, which command lower gross margins. We see a reversal of this trend in 2012 with a reemergence of the MPD market.

The final element in understanding gross margins is average sales prices. Ironically, we have not seen a significant change in ASPs per device in 2011, and we don't expect to see a significant change in 2012. In summary, we've experienced much lower gross margins in 2011 as a result of factors that we see as temporary and likely unique to 2011.

Furthermore, we're bullish about gross margins in 2012, as we see a reversal of most of these factors, stable ASPs, and an opportunity to proactively drive down cost of goods sold across our entire product line.

Now turning to sales. The most exciting news to report comes from our recent sales activity. We've recently reported two significant sales wins, a project in the Emirates and a large expansion project in Perth, Australia.

For the past several quarters, we've been reporting a pickup in sales activities around the world, and these two new projects are the earliest manifestations of that increased sales activity.

We continue to see heightened desalination sales activity in most regions of the world. Our sales pipeline is tracking roughly twice as much activity year-over-year. Of equal importance is the fact that the projects that we are tracking include a substantial proportion of large scale MPD projects, which bodes well for our product mix going forward.

I'd like to conclude by saying that enduring the desalination downturn over the last several years has been very painful for the desalination industry in general, for ERI and its management team, and certainly for our shareholders.

Having said that, I could not be more enthusiastic about ERI's prospects for 2012 and beyond. I believe that we have put together a talented management team. We have a crisp strategy. We've put in place all of the components it will take to maximize our profits as the desalination industry rebounds, and we have laid the groundwork to penetrate some very exciting new markets well beyond desalination.

Over the next few quarters, we will slowly see our financial results improve, and I am very enthusiastic about our prospects for 2012 and beyond. I could not be more pleased than to see where we are headed as a company.

That concludes our prepared remarks, and now we will open up the line for your questions.

(Operator instructions). Patrick Jobin with Credit Suisse. Please go ahead.

So Tom, I was hoping you could provide maybe a little about the more color on the bidding activity. A 2x increase is pretty, I guess, a meaningful turn. Do you feel like the industry is at a point where we might see, you know, the levels we saw three years ago or two years ago, or maybe just a sense of timing would be helpful. Then I have a quick follow-up.

It's a great question and, you know, I don't think we're going to see an instantaneous rebound to 2008 levels. But without question, I think it's fair to say we know the industry is in the process of rebounding. It's bottomed out. We talked about that on previous calls. We didn't have documentable evidence such as awards and so on.

I guess I would tell you, what I'd say is this. Every indication is that the desalination market contracted by 60%, six-zero, over the last three years. So I don't think we're going to see a 250% increase from this year to next and recover that entire 60%. But I do think we're going to see and we are seeing a substantial rebound, and time will tell. We are cautiously optimistic that we may even be fortunate enough to make more MPD announcements of sales victories before this year's over.

In other words, whether we lose them or not, there are deals to be done before this year's over. It would be way too early for me to sit here and tell you what levels we see. What I can do is report that on the one hand, the sales pipeline has two times the volume and the deal flow as it did one year ago, and we have hard deals to report in terms of victories that we are seeing MPD, large scale project coming through the pipeline.

By the way, the order of magnitude is that the -- roughly $1 million on the Emirates project and roughly $4 million on the project in Perth. Those are the not exact numbers for competitive reasons. But that's substantial. That's a substantial turn if you consider the fact that we've not competed for and been awarded projects in the last -- these are really the first projects we've seen this year.

So we're very bullish about next year, but I would be -- it would be foolish for me to try to quantify for you how solidly and how far this market is going rebound in 2012, but it's very promising.

Just last question on kind of the business diversification efforts. Is there a way you could quantify maybe how many people you expect to add to the organization or just a cost increase ahead of revenue coming in next year? It seems like there's some opportunities there. I'm just trying to get a sense of timing, revenue versus costs.

So the timing is probably the easiest. I'd love to sit here and tell you we're going to have tremendous revenue out of any of those new markets in 2012. It's premature to discuss or for us to suggest that. In fact, I don't think that would be the case. I do think we're going to see an interesting ramp-up towards the end of 2012 and into 2013. So we're just starting to get a really good idea as to how our products will be accepted into those industries, and the early indications are strong.

It's always helpful to have the insider -- industry insiders walking us through these new markets, and we're really enjoying the benefits of that now.

As to the cost side, you know, we've hired three high-powered executives, one in each of those segments. So there's obviously comp issues there. But they are now starting to pull our engineering R&D efforts, as we would hope. And so there will be an expense burn coming through the R&D group as we start to and continue to prototype new devices. But I'm going to hold back in terms of trying to give you a great deal of quantification in that area.

But we see investing in these new markets as substantial opportunity for value creation. And because of that, I'm not, and our board is not and our management team is not wavering at the idea that we are going to invest, and that means expense.

As much as anything, because we now have greater clarity into the opportunities in those markets. But I'm going to stop one step short of trying to give you great quantification on how -- what that level of expense is.

Okay. Thank you.

Thanks.

Peter Mahon with Dougherty & Company. Please go ahead.

First, I just wanted to get some clarification. You talked about $6 million of savings in 2012. I was hoping you could maybe give us some kind of structure on how that will break down on the P&L, how much will be in COGS, how much will be in G&A, and just kind of give us guidance on how to model that cost savings.

Alex, do you want to take that one?

Yeah. So of the $6 million in combined cost savings, we think about $4 million of that will hit the OpEx line, and about $2 million of that will hit the cost of revenue. Likewise, of that total savings of $6 million, again $3 million of it is coming from the restructuring activity we announced back in July, and the balance is coming from a new cost reduction plan which we are now in the midst of implementing.

Okay, perfect. Thank you.

I'd say as you model that also, you probably want to recognize there's a normal run rate. And then in 2011, we had a number of one-time expenses, and now we're talking about permanent cost reductions that go beyond that. So not only would you not see those one-time expenses in 2012, but you'd add on to that the savings that Alex just mentioned.

Absolutely, thank you. Next question would be involving margins. Even just two or three quarters ago, we were running at a rate of, you know, the mid to low 40s. Do you envision being able to get back to that level, in 2012? Or are we thinking about maybe never reaching that level again and kind of how should we think about margins ramping from the 15% level we're at today throughout 2012 as these cost savings kind of work themselves through the system?

Yes, I would say there is no question in our minds that we will get back to those levels. The question is when. And so I would say that you wouldn't expect to see the margins rebound in the first and second quarter, but you would likely see them getting there in the third and fourth quarter.

Okay, great. And then finally, this has to do with kind of your opportunities that you're exploring such as oil and gas and ceramics. Where are we kind of in that process? Are there acquisition targets that you have identified that you're kind of doing your due diligence on, or are we still in the process of kind of thinking how we're going to utilize our technologies into those markets?

Well, we're doing both. We are going both organically and acquisitively. So I'll answer the question using both of those dimensions.

From an acquisition standpoint, we have already hired a boutique investment banking firm to perform a search-and-acquire process for us. And so in that realm, we are looking at candidate acquisitions now. And that if we come across a highly strategic acquisition that fits all of our needs, we could well do a deal in 2012.

On the organic side, we definitely believe that much of what we already have in terms of devices and products is appropo of these new markets with slight variations and improvements and so on in combination with other technologies. And so we're going down a dual path to get to market as fast as possible both the acquisitive and the organic.

To be frank with you, there aren't many technologies or companies that are doing energy recovery through fluid flows in any industry other than desalination. And so the likelihood of being able to hire a constituted business that's already doing that really doesn't exist. So what we are looking at is companies that would enable to us break into those sectors more rapidly and potentially have their technologies amplify what we're doing with our turbo chargers and so on.

Okay, perfect. Great. Thanks for the color.

Sure.

Thank you. Laurence Alexander with Jeffries & Company. Please go ahead.

Hi, this is Jeff on for Laurence. I was wondering about your R&D pipeline, and basically how long does it take for a product to be a prototype to reach commercialization? I know you've come out with a handful of new products in the last couple quarters. I'm curious to figure out what percent of sales are from products released in the last year or so, if that's possible.

I don't think we've come out with new products in the last year or so that have had any material impact on our revenues, and most of the R&D efforts that we have were either enhancing the value proposition of something we were already doing.

I'd mentioned the PX-Q300, which was a substantial step up in the value proposition of an existing product. I guess that product was in the pipeline or that development was in the pipeline for 6 to 12 months. And so the life cycle for an enhancement to an existing device is in months or, you know, a quarter or two. But new devices that penetrate new markets can run the realm range from months to year, year and a half.

So it really depends on the complexity of the development and the uniqueness of the market that we're trying to penetrate.

Great, thanks.

Sure.

Thank you. David Rose with Wedbush Securities. Please go ahead.

Good afternoon. I have a couple quick questions. On the new projects; in particular, the Southern Seawater desalination project, you mentioned a sales. I'm assuming that's bookings and it's not sales yet?

Right. That's a great question. Let me clarify. Those two projects have been put under contract between ourselves and our clients. I don't think we've even started manufacturing on anything. So neither of those two projects will touch revenue in 2011.

Conversely, unless something strange happens, they both will hit 100% on the revenue line in 2012. So when I say sales, I guess I should clarify that I mean a firm and formal contract has been inked.

And so on the Southern Seawater desal project, which should be up and running by December 2012, if I recall correctly, you'll be shipping that, I imagine, probably in the second quarter? Is that your goal?

Yeah, I think it is sort of in the Q2, Q3 realm. Those things can slide all over the place. There's a big, huge construction project that's under way, and weather concerns or what have you. So I wouldn't bank on the precision of that. But suffice it to say, sort of the second and third quarter would be a good assumption.

So perhaps there's a change in policy. So I just want to make sure it's communicated correctly. You will start to announce contract wins before you've shipped, where historically they've only been announced when they've shipped?

I don't think that's true. I think we historically have announced contracts when they go under formal binding contract.

Okay. Maybe I misunderstood. And then with respect to these contract wins, did you have to change the terms of the contract? I know that those were some of the challenges you had faced in the market as competitive pressures increased. By I mean terms, warranty. Did you have to extend warranty longer than normal?

No. I think that both of those projects were -- first of all, every deal has custom terms and conditions in it. We've yet to get to a custom -- or a cookie-cutter contract. So I'd have to start by saying yes, it has unique terms and conditions, but nothing along the lines of what you're describing. No strange or cumbersome warranties, guarantees or anything else.

Okay. Great. Thank you.

Sure.

(Operator instructions). JinMing Liu with Ardour Capital Investments. Please go ahead.

Tom, on your efforts on the ceramic side, can you give us some color on what kind of applications you are looking to extend your offerings of your ceramic technology into?

I'm sorry, so you're referring to new product development?

Yes, the ceramic new product development, so what --

Got it.

-- we should look at.

Or great, great. The answer to that question is that the material science of ceramics is an intriguing area, and going back in the history of time for Energy Recovery, Inc., the initial concept for our fluid dynamic device called PX was in stainless steel, and it couldn't stay that way because stainless steel didn't work. So the company had to invent or, pardon me, had to take the material science of ceramics into new frontiers and did so. And in doing so, Energy Recovery became proficient at high tech ceramics. And there's sort of a frontier there around that.

And I guess in a simple way, we can do some things with ceramics that other people cannot. And the use and application for ceramics across all industries is becoming very interesting, and so we're looking to capitalize on that.

And, therefore, we are looking at everything from medical devices to components for internal combustion engines to separation devices used with fuels and so on.

We hired a very talented Ph.D. in ceramics who's got great application knowledge so we are really exploring unique applications. What we have in our favor is a fairly large manufacturing plant with a lot of excess capacity. We have a lot of material science expertise in-house, and we've actually grown that.

And so as we look going forward, we are not constraining ourselves. We are not constraining ours to desalination. We're not constraining ourselves to energy recovery devices.

I will tell you that there's a set of applications that is near and dear to our hearts. That is things like pumps and turbo chargers, where we can actually combine the two and come up with next generation pumps, next generation turbo chargers where a lot of the internal components are ceramics.

But I guess the one-sentence answer to your question is we are not constraining ourselves, other than very high value applications for ceramics where the point of leverage is our expertise, which would generally be very finely-tuned, high structural large dimension ceramics.

Okay. My follow-up is regarding the price of your PX devices. Tom, you mentioned that the per unit or per device, the price hasn't changed much. So if I look at from the capacity point of view, we are looking at some decline, right?

Yeah. So let me clarify that concept, because you're right. I said average sales price per unit has not -- or per device has not come down. So I wasn't using tricky words there. But if you take a look at our average sales price today across everything we sell and make one omnibus average sales price, it's lower today than it was a year ago.

But the reason for that is that the product mix has shifted. So we're selling smaller PX devices into smaller projects, and we're selling more devices such as pumps and turbos. And so there's a lot of noise in the ASPs based on that.

If, though, I was to say what is the average sales price for a 220, what is the average sales price for a 260, what is the average sales price for a PX300 and say per device, what is the average sales price, it's actually steady.

So the reason that our average sales price as a company has come down is because of the product mix shift, not because of competitive forces and not because we are pricing our products lower. It's because people are choosing, because of the small nature of projects, to buy smaller devices.

Again, we see the rebound or the flipping back of that as the large projects move forward again. Hopefully, that clarifies for you.

That's very helpful. Thanks.

Sure.

Thank you. The next question is a follow-up from the line of Peter Mahon of Dougherty & Company. Please go ahead.

Thank you. I just had one follow-up. Just wanted to get back to the Perth and Emirates contracts. You said the Perth contract was worth about $4 million. How much is the Emirates again? I think you mentioned that earlier in your comments.

So my numbers are very rough. For competitive reasons, we prefer not to give the answers. But $4 million in Perth and $1 million in the Emirates. And those are pretty close, by the way.

Okay. Perfect. Thank you so much.

Thank you. There are no further questions at this time. I will turn it back over to management.

Okay, great. Well, we appreciate everybody's involvement in the call today. As I'd mentioned earlier, we are very enthusiastic about where the company is, where our core desalination market is. This is a very exciting time for the company. We have our sights on a very robust 2012 in front of us. We feel very positive about the signs of the real turnaround in the desalination market.

We have a great deal of hard work ahead of us, but I think our outlook for the future is very good. Collectively, we think that in a year or two, we will look back at the third quarter of 2012 as the low point -- or 2011, excuse me, as the low point and the turning point for ERI as a company.

So we're very, very excited about the future, and we thank everybody for being involved with the call today. Thank you.

Ladies and gentlemen, this does conclude the conference call. You may now disconnect, and thank you for your participation.