ESCO Technologies Inc (ESE) 2007 Q2 法說會逐字稿

Good day, everyone, and welcome to the ESCO second quarter conference call. Today's call is being recorded.

With us today are Vic Richey, Chairman and CEO, and Gary Muenster, Senior Vice President and CFO. And now to present the forward-looking statements and for introductions I would to turn the call over to Ms. Pat Moore, Director - Investor Relations. Please go ahead, Ma'am.

Good afternoon, everyone. Statements made during this call regarding fiscal 2007 and subsequent years' results, planned expenditures, future activities and the timing of revenues in connection with the Company's PG&E contract, the Company's TNG software, the success of our product development activities, and other statements which are not strictly historical are forward-looking statements within the meanings of the Safe Harbor provisions of the Federal securities laws.

These statements are based on current expectations and assumptions and actual results may differ materially from those projected in the forward-looking statements due to risks and uncertainties that exist at the Company's operations and business environment including but not limited to the risk factors referenced in the Company's press release issued today which is an exhibit to the Company's Form 8-K also filed today. We undertake no duty to update or revise any forward-looking statements, whether as a result of new information, future events, or otherwise.

In addition, during this call, the Company may discuss some non-GAAP financial measures in describing the Company's operating results. A reconciliation of these measures to their most comparable GAAP measures can be found in the above-mentioned 8-K and accompanying press release on the Company's website at ESCOTechnologies.com, under the links "Investor Relations", "Financial Reports" and "SEC filings".

Now I'll turn the call over to Vic.

Thanks Pat. I'm going to first turn it over to Gary so he can talk about the second quarter results and outlook for the remainder of the year.

Thanks Vic.

As noted in the release, we reported $0.36 a share during the second quarter compared to $0.28 a share in the second quarter of last year. The 2007 second quarter net income was favorably impacted by approximately $0.08 as a result of an additional research tax credit recognized in the quarter.

As I mentioned on the last earnings call, we were expecting a strong second quarter recovery compared to the challenges that we faced in the first quarter and I believe we accomplished that. Our actual results for the second quarter came in even better than we anticipated as all three operating segments generated higher profit contributions than our February forecast.

The Filtration segment, in particular, had a very strong quarter and we expect solid results for the balance of the year within this segment. Compared to the first quarter Communications showed the most improvement as sales increased over $19 million and EBIT increased nearly $9 million. Second quarter Test segment sales increased nearly $6 million with EBIT increasing nearly $2 million over the first quarter.

Our balance sheet remains exceptionally strong as we ended the quarter with $28 million in cash and no debt outstanding. Year-to-date we've used nearly $9 million of cash which was consistent with our original plan and was driven by investments in capital equipment, TNG software upgrades, and the inventory build to support the increase in expected sales for the second half of the fiscal year.

Entered orders continue to be a bright spot in the second quarter where we booked $136 million in new business, bringing our total backlog to nearly $308 million at March 31. This reflects an increase of over $54 million or 21% from the start of the fiscal year. Of particular interest was the receipt of $18 million of AMI orders received from PG&E at DCSI and Hexagram through March 31; and an additional $27 million of orders received since the quarter ended, bringing the year-to-date total PG&E orders to over $45 million.

Moving on to our '07 guidance. Although there are a few moving parts operationally throughout the balance of the year we continue to expect 2007 EPS to be in the range of $1.50 to $1.65 per share. Our current expectations of EPS, revenues, and EBIT margins for the fiscal year in total are spelled out in detail within the release.

As a continuing reminder, the electric portion of the PG&E contract is subject to revenue recognition deferrals, contingent upon the delivery of TNG version 3.0, currently expected in September. Regarding PG&E deliverables, we continue to bill and collect cash on a regular basis related to this contract.

Additionally, fiscal '07 results include approximately $9 million of amortization related to purchase accounting in TNG software and $2.8 million of stock option expenses.

In closing we now expect fiscal '07 cash generation to be approximately $60 million, from which we plan to spend an approximately $20 million, continuing our investment in the additional upgraded versions of TNG and nearly $15 million on capital projects.

I will be happy to address any specific financial questions during the Q&A and now I'll turn it back over to Vic.

Thanks, Gary.

I personally want to let everybody know that I am going to have more extensive formal comments today than normal. There appears to be some misunderstanding about our TWACS [NG] software and certainly regarding the bandwidth capacity of our TWACS system. So I will be addressing these issues in detail today.

But before I get into that let me make a few general comments about the quarter. As Gary noted, the second quarter earnings for all three of our segments were better than we had anticipated entering the quarter. We also had another strong quarter of orders bringing our backlog to a level from which I am confident we can deliver the improved second half performance we are projecting.

Looking at the operations by segment in Filtration, I'm especially enthused by what our team has accomplished at PTI. Improved margins at PTI reflect not only the strength of the aerospace market but also the combination of a wide range of actions taken by the PTI management team. The current full year outlook for Filtration anticipates continued strength in commercial aerospace, some improvement in the defense business, and some ongoing softness in the domestic auto market.

In Test, despite customer-driven project delays which impacted our first-half results, we remain on track for high single digit year-over-year revenue growth and continued margin expansion. We are working on several initiatives to extend our momentum in the Test business. In particular we are opening additional sales and technical support offices in Asia to further capitalize on developing opportunities across that continent. In order to improve our cost position we broke ground in April on expansion of our Cedar Park, Texas facility which will allow us to consolidate facilities in Austin. Consolidation operations -- consolidated operations will reduce the overall footprints and facility costs as well as allow for more efficient management of the business.

In Communications our outlook for this fiscal year is down slightly primarily as a result of delays and the timing of awards for certain water AMI projects.

One of these, a $13 million program in Kansas City, was awarded in the second quarter. I'm confident that Hexagram has the best fixed network solutions for water and that the benefits of fixed networks are becoming increasingly apparent to utilities.

On the Electric side, the level of interest across the IOU space continues to increase. As I have said in the past I think we are extraordinarily well positioned to capitalize on increased activity, given what we have demonstrated across our installed base. Nonetheless much of our future success is also dependent upon our new software development program, which we refer to as TWACS NG which stands for TWACS Network Gateway which we formally refer to as TNG.

So I'm going to take a few minutes to clarify the status and benefits of TWACS NG.

We have made significant advances with TWACS NG not only to add functionality but in conjunction with some previously upgraded hardware to significantly enhance our usage of the bandwidth available to us. As most of you know we have been providing the capability to read meters on an hourly basis for a number of years. We have two-way systems deployed at WPS, PREPA, TXU, PPL and approximately 200 co-ops. These systems all have the ability to bring back hourly data with a very high rate of reliability.

I can tell you the path from 100,000 to 500,000 to 1 million to greater than 1 million meters is not an easy one. The challenges of doing a technology demonstration or a pilot or even a deployment of 100,000 end points versus deploying a large system and collecting hourly data reliably are much different. Until someone has traveled this path they can't be sure of what issues or limitations they may find. We made the decision several years ago that given the functionality and scalability requirements we saw developing in the marketplace, we needed to further upgrade our system capability, and as a result started the development of TWACS NG.

I would say, given the direction found in the Energy Policy Act of 2005, our investment decision has been validated as this legislation stressed the need for smart meters and demand response. Obviously these requirements dictate a system that can collect interval data from all customers reliably.

The TWACS NG development has been broken into essentially four paces. 1.5,1.6, 2.0 and 3.0. The TWACS NG software along with capabilities of our substation equipment and transponder can be matched to the needs and the size of any give utility. PG&E bought Version 3.0, which is scheduled to be delivered in September. Other utilities may not require all the features present in the release 3.0 to meet their needs. So let me tell you a low bit about each of these releases.

Version 1.5, which was completed in mid 2006, essentially replicates the majority of the core functionality of our legacy [TNS] software and added some significant enhancements. This was the most significant part of the development process, given a rich function set found in TNS and a large number of meter forms that we interface with.

Some of the enhancements found in 1.5 include an open architecture, which allows for interface with a variety of meter data management software packages; it's a Web based application with roll based security which provides utility the ability to get away from downloading software on dedicated systems. The TNS system was only supportable on a Windows platform. TWACS NG is deployable on UNIX and Linix as well. The system is much more automated, requiring significantly less user interaction.

We are also able to track performance statistics at the meter level. So as you can see, we have not only replicated the capabilities of TNS, but have also have made it much more open and automated and have added functionality.

With the release of 1.6 which is also complete, we incorporated a real-time interfaces with utility applications. Here I'm talking about things like move ins, move out readings, checking for outages and verifying restorations, and voltage readings for systems monitoring. An important point here is that all of these are based on CIM -- Common Information Model -- which is the industry standard for the utility industry, allowing widespread use with minimum changes.

With 1.6, we introduced significant enhancements to our bandwidth utilization. As it relates to meter reading we did two things. First, we went from four simultaneous communications on each wire to six. Second, we went to parallel phase, meaning we communicate on all three phases concurrently. With these two enhancements alone we can collect at least four times the data or collect the data at least four times as fast as with the base system.

There are two significant -- two other significant enhancements included in this release. First, we improve the process to check for outages utilizing a one bit [ping] versus a three bit ping, providing a 300% efficiency improvement. This allows us to continually ping around the system proactively looking for outages. Secondly, we developed a faster way to search for new meters on feeders which are in the installation process. This method is five times faster than the old process. Both of these improvements provide additional bandwidth for use for meter reading and other to-be-determined uses.

So given the capability found in release 1.6 greater 90% of PG&E substations will utilize 70% or less of their available bandwidth. As you'll hear in a minute, it gets better with future releases.

In Version 2.0, you'll also find enhanced functionality and faster communication. We are incorporating the ability to provide high-resolution reads, 15 and 30 minutes versus hourly, an ability to remotely changed its granularity on a meter-by-meter basis (technical difficulty) support activities such as rate studies.

Also on a meter-by-meter basis we can measure not only the amount of electricity received by a home but the power delivered by a home back to the grid. This is kindly referred to as net metering. So for instance this would be important for solar homes and fuel cells.

Release 2.0 also supports automated collection of historical data for newly installed transponders. Often meters are installed and not available to be read for several days. Historically, that energy usage would be lost to utility. Because our transponders have the ability to store a minimum of seven days of hourly reads and TWACS NG has the capability to capture this data, utility now has the ability to bill and collect for this usage.

That storage capability to meter also enhances our ability to provide exceptionally high read rates which are increasingly important with time of use and demand response.

On the fast Communications front we have incorporated the ability to communicate on all feeders simultaneously. We have the ability to do this on up to eight feeders increasing our speed by up to eight times.

We have also improved our retry processing by 400%. Initial read success is typically around 98%. For those few meters that are missed, we do a re-read to ensure 100% success rate. Given enhancements found at 1.6 coupled with 2.0 we have increased our meter reading speeds 12 times for typical installation. And we have increased the speed of checking for outages by 36 times.

So the bottom line here is faster communications equals more available bandwidth. Now back to our PG&E example all but a handful of substations will only be using between 20% and 70% of their available bandwidth. We have a solution for those [denser] substations as well as a number further enhancement on our road map which will free up additional bandwidth as needed.

Release 3.0 provides the capability to handle at least 6.5 million end points and supports direct load control and a variety of in-home applications. Additionally the outage processing, outage processes are further automated and the ability to remotely download firm ware is supported.

A lot of information but, hopefully, this has been helpful in your understanding of our systems true capabilities. I think it's again important to remember that given the advanced functionality required by the Energy Bill and what is desired by most utilities, the most important functionality for an AMI system is a reliability commute -- the communications channel to 100% of the meters. If a power line is running to a customer's home, DCS has proven ability to bring that information back reliably. And given the enhancements we have made to our AMI system we have sufficient bandwidth for now and for the future.

Just a few final comments before I open it up for questions. Things continue to progress well at PG&E. We remain on scheduled for delivery of TWACS NG 2.0 in July and 3.0 in September. We continue to deploy substations, data collection units and modules in the field. We are working closely with PG&E to ensure that we fully support their requirements. They closely monitor our progress and I think the best indicator of how they think we are performing is that we have received an additional $27 million of orders from PG&E in April and May, which brings the year-to-date total to $45 million.

I was just at their Demonstration and Education Center in VACCO [ville] with my board last week and continue to be impressed with PG&E's commitment to this project and their focus on enhancing their customers' experience.

So with that, I would be glad to answer any questions you may have.

(OPERATOR INSTRUCTIONS).

Steve Sanders. Stephens Inc.

The project that additional detail on the software. A couple of questions on PG&E. I think the original, well, the order last quarter $15.5 million was about 60% DCSI, the rest Hexagram. How does the $27 million look in terms of a split?

It's about $17 million for Hexagram and roughly $10 million for DCSI.

And it looks like the DCSI portion of it moved down a little bit and I guess maybe the Hexagram moved up, in terms of your guidance. Can you talk about that?

I think they just trying to get their mix right on how they are going to deploy the systems. I wouldn't read a lot into that other than as they go forward with this deployment there's going to be some tweaks back and forth.

So is it fair to say at this point your overall guidance around PG&E for the year is relatively flat with where it was last quarter?

Yes. I would say it's pretty close. Pretty close.

Can you drill down a little bit more on the water project delays that you referenced? Kansas City, specifically, and I guess maybe there was another one?

Yes, the Kansas City job just took a lot longer to get the contract than what we had anticipated. And we were selected quite some time ago and as is often the case, the contract negotiation -- and it wasn't like we were sat at the table for an extended period of time. It's really just that it took a long time to get the right people in place on their end to actually negotiate a contract.

So it just took longer to get the contract completed than what we anticipated going into the year.

The other one is not a contract we will talk about yet because we haven't been awarded that. But it is a contract that we are pretty confident about, but we had thought that we would've been awarded that within a point in the year where we would have more significant sales on it than what we currently anticipate.

Can you give us some additional detail around the June versus the September quarter? I know we are not going to get anything significant from DCSI until September but how do we think about June relative to March?

I think you are going to see, ignoring the tax gain that we had in the second quarter, I think you'll see at least another 10 to 12% increase in EPS in Q3 versus Q2. Kind of in the ballpark of $0.33 to $0.36 a share. So if you take the $0.08 out of the Q2 for the tax side I think you'll see another nice step up in Q3 versus Q2.

John Quealy with Canaccord Adams.

Good stuff, good quarter. So a couple of questions. Coming back to the Communications side, Vic, can you walk us through a little bit -- again thanks for that detail on the versions of TNG -- but can you walk us through until now with the lot of Hexagram installs or DCSI installs? Can you walk us through exactly what you folks have done in the limited area in Bakersfield? And what you've learned thus far?

And then I've got some follow-ons on the sort of software side you touched on.

I can take some of that.

Hey, John, what we do we obviously track the shipments and I think the installs are just generally around the same time as we ship. I don't think they sit on a lot of inventory but just to kind put some numbers around it in the -- on the Hexagram side in the first quarter we shipped about 21,000 MTUs which is the meter transponders and about 45,000 units in Q2. At DCSI in the first quarter we shipped about 26,000 modules and in Q2 about 80,000 modules.

So the timing from shipment to installation is a little bit of a lag but from our side the shipments are the key. What they do with it on the other end is kind of their pacing item with Wellington and the others they are using to install it.

I would say they are still running at a fairly low level of installation right now. But I think the important thing is what they have in the field is working very well. They have been leading with the substations and DCUs so a lot of that is, you want to get that the substations out there so that as they put the meters out there they then have something to read them with.

The same thing on the Hexagram side. You put the DCUs in and you populate the meters around that. So they have been leading a little bit with the substations and the DCUs and following them with the modules.

As far as system performance I think we've been very pleased with what we have seen to date. Again there's not a huge number of meters out there, but as you know we are doing a lot of testing back here in St. Louis and in other places to make sure that of the reliability and we haven't seen any issues to date.

And getting into the versions and I think if I heard you correctly 2.0 has an exceptions or shipping issue in July and 3.0 is the September one that we are all watching. Can you talk comment on is the technical writing and software engineering done? And it's a matter of testing from the client? Or can you walk us through what exactly -- as much as you can -- needs to be done in the next four to five months here to get full revenue recognition, EBIT recognition for this?

I would say that the majority of what needs to be done for 2.0 has been done. And it's in a testing process and, again, what's very important is that we do extensive testing here; and then we have a field simulator that we are using to work that with and we've actually been taking it to another location where [there] -- have a larger set of servers that we can really exercise the system on.

So that is where we are at with 2.0. 3.0, you know we are in the process of finishing that code. So there's some time left to be done on that before we are into the full testing mode.

And Vic, how much input or content does Nexus have in this or is it mostly the third party folks doing it?

It's the third party and DCSI. Nexus has no -- has really no role in there.

My last question more of a macro question in terms of the opportunities that you're seeing -- and we are all hearing a lot of good information for the AMI world coming in the next couple of years -- what's your take on it? Are people going back to do more pilots to drag their feet to be extra careful given the size and functionality risks in some of these projects that are coming up? Or I would just like to hear your take on how you are seeing the market evolve?

I think there's some of both. Some folks appear to be moving forward or in a decision making process. Some other folks as I think everybody knows that the G&E has gone back out and reopened our [RP] process which we are happy about actually. And so there's a mixed bag. And I think they're always will be. Some people are very comfortable in going to PPL and looking at what they're doing or going to PG&E and looking at their demonstration site and what they're doing.

Other folks are going to want to demonstrate on their own -- on their own systems. So I think we will continue to have a mixed bag with that. Overall the market still feels very solid and I think you'll hear that from our competitors. You will hear from the other industry folks so I think we would see it the same way everybody else is seeing it today.

Richard Eastman with Robert W. Baird.

Vic, can I just clarify, in the press release you talk about the second quarter shipments to Kansas City. But at the same time, are you suggesting that you had modeled them to be higher yet?

No. I think, Rick, the way it lays out is we were notified of the award and really there was other parties involved. We are a subcontractor to a prime contractor and so, really, a lot of the complications of the contracting aspect of that is because the prime contractor was holding a lot of people to a higher standard.

So when we were notified of the award and we signed the contract we had anticipated a much more prompt delivery cycle around that. And what happened was as the contract got pushed off in the formal signature the just moved some of the shipments. We didn't get three full months of deliveries in the second quarter. And so by some of that at the front end moving back, it obviously pushes the back end of it a little bit out of the year but it's a firm contract. It just started maybe two months later than we had anticipated.

But we are putting out a fair amount of product in the field right now.

Then the other project that you mentioned, Vic, on the Water side, I'm not sure what you are implying there. You wanted but haven't announced it? Or you were expecting to win it?

We have been notified but we haven't actually, we don't actually have a contract as of yet. And we had anticipated that we would have that -- have a contract and delivering already.

And is that imminent or -- I mean is that -- put it this way are shipments on that contract supporting the back half guidance?

We have taken all those out of this year.

All right. Can I just ask one additional question? On Hex, could you just maybe reconcile what -- is it the volume that is pulling the margin assumption down for the year?

Yes, that is a big part of it. You know obviously as the volumes ramp up, we get more throughput through Selectron. So you get the double impact of the volume discounts if you will that we get from the some subcontract manufacturer starting a little later in the year.

And then if you pull, I think we were previously in there at 60 or 61 and we pulled about $4 million of revenue out and at that stage of volume you are in the upper 40s to close to 50% incremental margin. Because then, you'll be fully up and running and fully engaged at the Selectron pricing model. And so as that revenue moves out it pulls a decent amount of profit out.

But I just want to reinforce it is a timing issue that just moves into the first quarter of '08. So we just took a look at it that way and I think we have a fair assessment of where we think we will come in.

So you're just kind of near a break point on the margin side?

Yes.

With volume? That's all for now. Thank you.

Pat Forkin with Tejas Securities.

This is [T.J. Schultz] for Pat. I just got one quick question. The earnings press release mentioned additional sales to Duke Energy. Are those sales in line with your internal expectations and what is the current status of that Duke project? Is there an opportunity for you to move outside of Duke's Kentucky service area such as Indiana, North Carolina?

Yes what we delivered a bit of product to those guys and they are currently installing that. I think the plan is to kind of test and validate that through this year. So I don't anticipate -- I don't anticipate doing anything significant yet this fiscal year. I mean as far as additional deliveries. But certainly our hope is that they will continue to test that and have a further deployment longer term.

Stuart Bush with RBC Capital Markets.

So if we assume the September target is met for PG&E can you give us some color on how that project will roll through impacting 2008? Will there be any deferred revenue issue going forward? Or will that be done once the software is accepted?

No, once the software is expected then we got to unit delivery. So once we make that milestone (inaudible) catch-up and then we go straight unit delivery so there will be any further deferred revenue as a result. And, again, I think it is important to remember that deferred revenue is only in the DCSI portion. We are seeing the revenue in the Hexagram portion today.

So what sort of volume should we expect in 2008 from that deal?

You know, I think we should wait till probably the next call because that's still in a bit of state of flux with PG&E and I don't know exactly how back is going to roll out. So until we get something firm firm from them for '08, I don't want to speak for them, but we should have that in focus here in the fairly near-term.

But it should be significantly higher than what we're seeing this year.

If we were to look forward to future AMI project wins, maybe it would be helpful to clarify just what compared to the advantages your technology and software once assuming 3.0 is done, what you guys have compared to other players out there also pitching AMI solutions?

Well, I think the biggest thing is that I mentioned in my leading commentaries you know we have a proven system. We've proven it at very high volumes, very high reliability. We today have the only system out there that is reading in excess of one million meters on an hourly basis at PPL. So we are bringing back 1.4 million hourly reads or we are bringing back hourly reads on 1.4 million meters. And that information is being processed at that utility utilizing our Nexis software.

So we have the proven technology out there today. As I said we are able to get a very high level of first-time reads because if you have the power line running to the home you are able to bring that information back. We have some very advanced outage restoration capabilities. We are able to interface with a large number of meters. I just think if you look at the variety of functionality that we bring to the party, it's right there with everyone else's.

I think the biggest difference is to date we have the ability to prove -- we've proven ability to read a large number of meters and to bring that back reliably. In addition, like a lot of the other competitors we are working behind the home or behind the meter to roll in the home on some of the more advanced functionality that people are looking for. I think some of the things we have already developed like our in-home display, our prepaid metering, some of those things where you can actually go and see that working today -- and we have deployed those systems -- does give us some real credibility with the customers as we go forward.

I mean so touching off of that, have you actually seen anybody in the United States interested in actually doing prepaid metering?

Absolutely. We sold a number of those systems and really if you talk to any of the major customers out there today there's real interest because you know it does a number of things. No. 1 it gives some consumers that want have some control over how much energy they use and, rather than coming up roaring up to the end of the month and saying, "boy, owe a whole lot of money," it gives them that flexibility.

So it really is it is something consumers want. If you think about it kind of along the same lines as a prepaid phone card. That's the way you've got to think about this.

Obviously from a utility standpoint, it gives them the opportunity to ensure that they are going to collect for energy that is used. So it's something outside the U.S. is probably a lot more prevalent, but we are seeing a lot more interest here in the U.S. as well. I think there's very few customers we go talk to that don't have some level of interest in it.

Last question is on Filtration. You mentioned that you anticipate the aerospace strength to continue. Does that mean we should expect to see the margin levels at about this level going forward?

Yes. I think you have to look at the pieces of it because obviously PTI is a piece of the business and I think you are going to see the second half of the year, continuing to show an upward trend. Because the book to bill ratio there continues to show very, very strong outlook. In VACCO, in the historical results in the third quarter, we always deliver a large valve and manifold configuration relative to the Virginia class submarines and that is $3 million or $4 million; and that pulls a lot of overhead through.

So you are going to see a strong second half at VACCO. Filtertek is the one that we are expecting improvement in the second half of the year but they are fighting a bit of a challenge with the automotive contents. So when you add the three of those up, two-thirds of those are on a strong track forward. So I think the net net, the second half will be better than the first half as a result of that.

James Gentile with [Newland] Capital Management.

I can't resist. I was wondering if you can kind of give us -- [Converge] just came public with their little -- and one of their products is a load control module. This has increased interest in the demand response space in a really big way.

I was wondering if you could kind of highlight your load control offering? There is a substantial deployment historically with Florida. And kind of where we are with regard to that segment of AMI moving forward and kind of a second part of the load control pieces. How important is the TNG 3.0 for subsequent load control sales?

Yes. A couple of things. Certainly the -- let me answer the second part first. For us to support some of the advanced load control that we want to do, we need 3.0. That is clearly in the road map. It is something that we had committed to do for PG&E so we are going to do that. So I don't anticipate that really being an issue.

As far as what Converge does versus what we do, it's very different. What they are able to do they go on a very [surgical] basis and they are able to control a limited number of end points. With our system -- and it works. I mean obviously they have done that at least two other companies that do that. Some do it better than others and some are even making money.

But if you look at what we do, you have to have really kind of a full deployment of substations. So if you look at FTL, they have a full complement of substations that are out there. They are able to go in and conduct load control, really, at all the end points that are connected within one of those substations.

Converge takes a much more narrow approach which, really, it does work. They go in, they control, they get kind of focused more on hospitals and shopping centers and things like that where they can cycle through some of the air-conditioning units, for instance, and cycle those off for a short period of time. Cycle them back on and are able to save some amount of electricity by doing that.

With a larger deployment, you are going to think longer-term. PG&E is going to have the capability. They want to go out and do a much larger load control system to have this infrastructure in place to do that. just like they do at PPL, just like they do at WPS.

So it's really a bit of and apples and oranges comparison. I think Converge's technology works very well on a surgical more narrow application. Ours is a more broadly deployed application.

Then, Gary, you mentioned small consolidation activity in the Test segment in Texas. Is there pointed the any meaningful savings from on the Cost side and if so when will they be realized?

Yes. There will be some cost savings on that. That will be in '08. I think it is going to be a huge amount. As much as anything we want to get a couple of facilities together. There will be some savings to that but as much as anything, it's getting everybody in the same building under one management team and driving some efficiencies that way.

James, there's a net headcount reduction as well as a meaningful square foot reduction in overhead. So it's meaningful to the Test business. It's not something that is going to change our EPS $0.10 a share. But it's very meaningful on the overall margin enhancement of the Test business which has been one of our goals.

So, your Test segment has always been kind of under the ROI fee curve a little bit. So it is good to say that action.

(OPERATOR INSTRUCTIONS). [Eric Oreste] with Cambridge Trust.

You guys mentioned that aerospace was a driver of the Filtration results. I was wondering if there is any impact therefrom the next generation Boeing or Airbus plans? Are you designed into the 787 or the 838 at all?

We have some content there. We don't have a huge amount of content there today but we do have some.

How does it compare to the content you have in the sort of legacy airline business?

I would say it is probably less than half of what we have in a legacy aircraft.

And from a margin standpoint?

I think the margins are actually better but the content is less. What is happening on some of those newer aircraft is they are consolidating systems within the aircraft where, on a 737, you might have 20 to 25 different hydraulic manifolds operating independently of one another. On these new "next generation" planes they've narrowed that down to three or four system integrations that basically control all the hydraulics from more of a central operating unit and so that's why the content is a little less on a number of units. But it is a lot more high margin stuff that we are putting on those aircraft.

And just for the short-term, obviously, the 787 is not going to be put into production any time in the next 12 to 18 months. So the real opportunities that we are seeing in the next 12 to 18 months are really the aircrafts that are flying or just being utilized a little more efficiently. And I'm sure as we have all flown you have sat on a lot more crowded airplanes lately and we benefit tremendously from that.

Thanks. Then, I want to make sure I have this right. The guidance includes the $0.08 tax benefit, that $1.50 to $1.65. Is that right?

Yes. It's GAAP all in.

Jason Simon with JMP Securities.

Nice quarter. I was just hoping you can help me feel in some blanks here. Historically, you provide information on what type of revenue you are seen from the IOU space and SecurVision. Nexis and Hexagram I was hoping you could help [us] out with those numbers?

That didn't come across very clear, Jason. Could you say that again please?

I was hoping you could help us out with what you received in revenues from the IOU and SecurVision businesses; and also Nexis and Hexagram for the quarter?

Well on the -- in the press release I think the IOU business for -- you can back into it by taking the co-ops out of it. But the IOUs in the second quarter at DCSI were about $10 million and about $4 million and $4 million of the $11 million in Hexagram.

In Nexis, I would say relative to their $3.5 million it's about $2 million goes to the IOU. If you can add that up for me.

Yes, well, I got that and I guess if you could maybe comment or expand on what is happening at FPL currently?

At FPL?

Yes.

Well, I mean as I think you know we have left our 35,000 units down there which they are currently utilizing to -- they are continuing to read those. Other than that, we haven't had other than what we've done on the load control side any additional activity there.

I think I missed this as well. What you are expecting for amortization costs just over the next year for TNG?

This year it's roughly $7 million and next year it goes up to roughly $9 million to $9.5 million.

$9 million to $9.5 million. Well my last question, I think, on the Filtration side. I think there has been some speculation in the past on maybe a potential disposition. I was just wondering if there was any kind of update on what your thoughts are?

No I don't see there's any update. I mean obviously that is a question I get a lot. And bottom line is it's something with -- not just with that but we continue to look at all our strategic alternatives and that's part of my job.

And so we are going to continue to do that. But what we are really focused on today I would say is the growth of our Communications business that we continually evaluate the right mix of business within ESCO.

I guess just on the booking of the revenues in the September quarter with respect to, I guess, the update for TNG 3.0. I'd assumed that or I guess not assumed but I thought the number was something like $25 million in the September quarter, and about $10 million in EBIT and I'm wondering if that is different from what you guys are suggesting today? Which I think is $20 million and $8 million, or am I just reading this wrong?

No. We have modified it downward a little bit as Vic said earlier when we look at the balance of the year as PG&E continues to rationalize the mix of how they're going to deploy these things. Obviously as some of the DCSI things, the deployments go a little bit slower and Hexagram is a little bit quicker, it moves the mix between the two products. And so there's about $5 million less in play which actually benefits us because it is less at risk if you want to see the positive of that. And it basically just slides to the first quarter.

So there's about a $4.5 or so million (multiple speakers) mix change I would say is the simplest way to think of

Richard Eastman with Robert Baird.

Gary, could you just flag on the balance sheet where the deferred asset is? How much it is?

The deferred asset for TNG?

Yes. Is that current? Are you carrying that in current? Other -- ?

It is part of the $76 million down in Other Assets.

So you kind of carry it in long term? Okay.

And then, just, I guess one bigger picture question in terms of when you talk about Q3 and Q4, just putting some quick thought to your Q3 EPS maybe range or your thought. What bigger piece of business slips out into the fourth quarter? Is VACCO's shipments, are they real heavily fourth quarter-weighted?

No. I would say they are more heavily third quarter-weighted just because of that Virginia class valve and manifold configuration that we always deliver in the third quarter.

Because, I mean you are talking about doing obviously -- well --.

I think, I think, Rick, I think the big difference is -- I mean not only is DCSI have this catch-up but Hexagram I think has a very strong fourth quarter as well. So I think that everybody is going to be stronger in the fourth quarter. I think we knew it was going the back end loaded. It's got a little more back end loaded but no more so than we thought at the end of last quarter. But the fourth quarter is a big quarter particularly in the Communications segment.

So your thought is nothing is really slipped other than perhaps $0.07 or $0.08 from these two water projects, which sound like they will get pushed out just a little bit? And then perhaps we lose a little bit of sales and profit to the PG&E mix? Is that fair to say?

Yes although I don't think there was a much sales and profit slip at PG&E. Really, one was -- kind of replaced the other. The Hexagram piece kind of replaced the DCSI. So what you are saying is the Hexagram (multiple speakers) -- .

What I am basically trying to do is just offset in your GAAP guidance today, you've got the R&D tax credit whereas we didn't have that before. So there's probably $0.07 or $0.08 that maybe slipped out of the operating guidance.

And that is really related to these two water jobs.

Yes and that would be the math. Thank you.

That concludes today's questions. Now I would like to turn the call back over to Mr. Vic Richey.

Well, that's all I had. I apologize for the lengthy introduction in there but I think it is important that everybody has that clear understanding of what we're doing here. And with that I will say goodbye and appreciate everybody's information or interest.

And that concludes today's conference. Thank you all for attending.